India - Drought Assistance Project

Document of The World Bank FOR OFFICIAL USE ONLY I /AfS2 Report No. P-4674-IN REPORT AND RECOMMENDATION OF THE PRESIDENT OF THE INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT AND INTERNATIONAL DEVELOPMENT ASSOCIATION TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN IN THE AMOUNT EQUIVALENT TO US$150.0 MILLION AND A PROPOSED IDA CREDIT OF SDR 156.3 MILLION TO INDIA FOR A DROUGHT ASSISTANCE PROJECT NOVEMBER 5, 1987 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.  -ii- CURRENCY EQUIVALENTS (As of October 30, 1987) US$1.00 = Rs 13.102 Rs 1.00 = US$0.76 Rs 1 million = US$76,325 The US Dollar/Rupee exchange rate is subject to change. FISCAL YEAR April 1 - March 31 ABBREVIATIONS AND ACRONYMS CCD - Cabinet Committee for Drought COI - Government of India NREP - National Rural Employment Program PDS - Public Distribution System RBI - Reserve Bank of India RLEGP - Rural Landless Employment Guarantee Program SOE - Statement of Expenditure  -i ii- FOR OFFIAL USE ONLY INDIA DROUGHT ASSISTANCE PROJECT LOAN AND CREDIT SUMMARY Borrower: India, acting by its President. Executing Agency: Ministry of Finance Amounts: IBRD Loan: US$150.0 million IDA Credit: SDR 156.3 million (US$200 million equivalent) Terms; IBRD Loan: Repayment over 20 years, including five years' grace, at the applicable rate of interest. IDA Credit: Standard (with 35 years' maturity) Description: The objectives of the proposed project are to assist India in meeting the costs and the reconstruction/rehabilitation requirements resulting from the drought, to help sustain and enhance the momentum of the economic reform process during the present drought situation, and to support the Government's longer term strategy for increasing India's resilience to droughts. The project would help prevent deterioration of India's foreign exchange reserves position at a time when imports of drought-related items, especially agricultural productst industrial raw materials (e.g., non-ferrous metals), and petroleum and petroleum products, are expected to increase substantially. The timely injection of fast-disbursing foreign exchange under the proposed project would assist the Government to manage the balance of payments consequences of the drought without tightening import restrictions or reversing the recent Liberalization of technology- or export-related imports. The project would also support initiatives to accelerate the design and implementation of key elements of the Government's longer term strategy for increasing India's resilience to droughts. The need to ameliorate the impact of the drought and to rehabilitate in its wake are the essential features of the proposed loan. The loan of US$150 million and credit of SDR 156.3 million (US$200 million equivalent) would primarily finance imports of agro-industrial inputs (including edible oils), petroleum ' This document has a strictW .t & 'bution and may be ued by rcipients only in the perfomance of their official dutie. Its cor%em wtv not otherwis be disclsed without World Bank authorization.  -iv- and petroleum products, non-ferrous metals, and other drought-related industrial intermediate goods. Benefits and Risks: The propoaed project would help reduce the adverse impact of the drougnt on India's balance of payments, thereby helping to sustain and enharce the momentum of the process of modernization and increased efficiency of the Indian economy upon which the C"otrnment has embarked. The additional budgetary resources provided under the project would also help reduce the adverse impact on funding of development projects resulting from the diversion of funds to drought relief. The project would also support initiatives to accelerate the design and implementation of longer term programs for increasing India's resilience to drought, with substantial resulting benefits in terms of poverty alleviation. The major risk is that, despite the assistance to be provided by the proposed project and by other donors, pressures on the balance of payments resulting from the drought may be so severe that the Government may be forced to halt or even reverse the economic reform progra-m. However, given GOI's stated commitment r. maintain the tempo of economic development, despite the drought, the risks are judged to be acceptable. Disbursement: The full amount of the loan (US$150 million) and credit (SDR 156.3 million) is expected to be disbursed by March 1989. D;sbursements are expected to amount to US$300 million in FY88 and US$50 million in FY89. Economic Rate of Return: Not applicable. Appraisal Report: None. Map: IBRD 'o. 19962  INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT AND INTERNATIONAL DEVELOPMENT ASSOCIATION REPORT AND RECOMMENDATION OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED WAN AND CREDIT TO INDIA FOR A DROUGHT ASSISTANCE PROJECT 1. I submit the following report and recommendation on a proposed Loan and Development Credit to India for US$150 million and SDR 156.3 million (US$200 million equivalent), respectively, for a Drought Assistance Project. Amortization of the Bank loan would be over 20 years, including five years of grace. The IDA credit would be on standard terms (with 35 years' maturity). PART I - THE ECONOMY 2. A country economic report, "India: An Industrializing Economy in Trans tion" (6633-IN, dated May 6, 1987), was distributed to the Executive Directors on May 6, 1987. Country data sheets are attached as Annex I. Background 3. India is the world's seventh largest country and, with a popula- tion of about 795 million (in mid-1987), the second most populb'1s. It is also among the poorest of nations, with an average per capita income of about US$270. Agriculture dominates the economy, accounting for over one-half of employment. Population is growing at a rate of about 2.0% per year, which has put increasing pressure on natural resources. Until relatively recently, industrial development had not progressed rapidly enough to absorb a zeapidly growing labor force and bring about sig- nificantly higher productivity and correspondingly higher per capita income levels. In consequence, the long-term annual growth of per capita income has only averaged about 1.4%, and close to 40% of India's popula- tion continues to live below the poverty line. Alleviation of poverty has been and remains at the core of India's development problem. 4. During the 1950s and 1960s, Ind. 's economy was characterized by slow growth, moderate inflation and a su.tainable external position. GDP grew at about 3.5%, agriculture at 1.8% and industry 4.8%; imports grew at 4.6% and exports at 5.8% a year. Following the drought-induced drop in agricultural production in the mid-1960s, India turned to high-yielding seed varieties. The spread of this Green Revolution has reduced India's dependence on imported foodgrains. 5. India's economic fortunes experienced wide swings in the 1970s, dominated by movements of the international terms of trade and the influence of weather on agricultural output. The steep rise in interna-  -2- tional oil prices and accelerating global inflation led to a sharp deterioration of India's terms of trade in the early 1970s, eroding its capacity to import. The Government successfully responded by intensifying export promoLion efforts and liberalizing exporters' access to imported inputs. As a result of these efforts and the expansion of export markets, especially in the Middle East, export growth rose from an average of 2.2% per year during the 1950s anC 1960s to 7.3% in the 1970s. This expansion of exports, together with continued import substitution, particularly in foodgrains, and increased remittances, made it possible for India to attain a surplus in its current account between 1976/77 and 1978/79. However, towards the end of the 1970s, India experienced a series of domestic and externel setbacks. A drought in 1979/80 -educed agricultural output by more than 15% and GDP by almost 5%. This coincided with the second sharp increase in international oil prices, which doubled the oil import bill. As a result, GDP declined, the current account swung into deficit, and the price stability that the Indian economy had enjoyed after 1975 came to an abrupt end. The Sixth Five Year Plan (1980-85) 6. The Government responded by mounting an economic adjustment program, which was embodied in the Sixth Five Year Plan (1980-85). The principal objective of the program was to raise the GDP growth rate from its historical level of 3.5% to 5.2% per annum through alleviation of infrastructure and supply constraints, increased energy independence, improved efficiency in resource use, promotion of exports and efficient import substitution. 7. On the whole, the adjustment program was successful. GDP grew by 5.4% per year during the Plan period, domestic inflation was moderate and the balance of payments was kept under control. The faster growth of the economy reflected improvements in the performance of several key sectors. The average growth of agricultural value added of 4.5% per year exceeded the Plan target of 3.8%, as the ambitious targets for foodgrain and oil- seed production were virtually attained.l/ India also succeeded in rais- ing the output of some important industrial subsectors. Domestic produc- tion of petroleum grew at 20%, natural gas output at 19.2%, coal output at 6.9%, and the production of cement and fertilizer at 10.6% and 8.1%, respectively. 1/ Actual GDP growth rate during the 1979/80-1984/85 period was 5.4% per annum. However, this figure overstates the trend in recent years because of the relatively low base year (1979/80). The 4.5% GDP growth per annum and 3.3% annual agricultural growth between 1980/81-1983/84 (two "normal" years) are more representative of the growth rates during the period.  -3- 8. Despite these significant improvements in performance, several problems persisted. Overall, the industrial sector grew much more slowly than other sectors mentioned above. Its growth averaged about 4.9% (1980o81-1984/85) per year--below the growth rates achieved in the 1960s and 1970s. Industrial growth was inhibited by rigid Government controls, slow grewth of domestic demand, power shortages, and labor unrest. Much of the industrial sector was not internationally competitive as quantita- tive restrictions and high tariffs on imporced inputs and capital goods generated high costs and prices for industrial goods. India's export performance also reflected this lack of competitiveness. Instead of the targeted 9% per year, exports grew only by 4.5% per annum. The savings performance of the economy also deteriorated slightly. The national savings rate, which had risen steeply in the 1970s, fell from 24.3% to about 23X. The shortfall in savings was most noticeable in the public sector, reflecting low profits and financial losses of public enterprises and lower than expected tax revenues. Savings thus remained below the rate required (24.5%) to finance the investment program and the growth of investment had to be limited to 6.4% a year instead of the targeted 8.9%. The Seventh Plan (1985-90) 9. The Seventh Plan attacks these problems directly by focusing on the ways to achieve greater efficiency, productivity and competitiveness in the economy. Overall, it calls for maintaining the growth momentum achieved under the Sixth Plan, targeting real GDP growth at 5.0% per year. In agriculture, the Plan gives highest priority to the completion of ongoing irrigation schemes, improving operations and management of sxist- ing schemes and raising incomes and production in rainfed areas; in industry, it emphasizes improvements in. productivity, cost reduction, and improved competitiveness. The Plan reaffirms enduring concerns about poverty and attempts to ensure that the benefits of accelerated growth are distributed equitably. It gives high priority to ensuring sufficient availability of food, which would keep food prices down and protect real incomes of the poor, as well as to expanding employment and raising productivity. The Plan also gives heavy emphasis to changes in the economic policy framework. Unlike its predecessors, the Seventh Plan calls for a greater role for the private sector and promises to provide the incentives needed to encourage private industrial investment. Measures taken during the Sixth Plan already provided entrepreneurs with greater flexibility in decision making. The Seventh Plan envisages build- ing on this by further tasing licensing requirements and introducing more flexibility into the pricing of commodities which are subject to govern- ment administration. It also calls for continued trade liberalization and emphasizes the promotion of exports. Recent Developments 10. A series of important initiatives in industry, trade and public finance have been undertaken during the last three years. Several  -4- measures, many of which represented radical depirtures from past practice, were implemented on the eve of the Severth Plan in 1984/85. These included opening up telecoumunication equipment manufacturing to the private sector, liberalizing imports for the electronics and computer industries, and allowing greater flexibility in product lines ("broadbanding") for the automotive anlI machine tool industries. Other controls on industry were loosened: the number of industrial units fall- i.ig within the ambit of the Monopolies and Restrictive Trade Practices Act was reduced by about 15%; the number of industries in which enterprises are required to obtain licenses to install new capacity or expand existing caDacity was cut substantially; the number of industrial activities benefiting from "broadbanding" was increased; and procedures for obtaining investment clearances and approval of foreign collaboration were streamlined. 11. Changes have also been made in trade and payments policy. However, these were less sweeping than those in the industrial area. In its new Import-Export policy, the Government has adopted measures to ease restrictions on imports, especially capital goods for the modernization of industry. This has included selective import duty reductions and a rationalization of tariffs on machinery inputs. The Government has also introduced new export promotion measures and incentives--which included a simplification of the administrative requirements for duet, free imports by exporters, a widening of the eligibility for advance licenses, and a reduction of export taxes and improvements in foreign exchange forward cover facilities. Perhaps the single most important set of measures was the management of prices and exchange rate policy to improve significantly th. profitability of exports. 12. In parallel with the policy changes in industry and trade, the Government introduced significant changes in fiscal policy. In order to improve tax compliance and simplify administration, the 1985/86 budget reduced income tdx rates for individuals and abolished the income tax surcharge. Wealth taxes weve also lowered which, together with lower income tax rates, reduced the maximtum marginal tax rate on income from wealth from over 110% to 702. Perhaps tile most far-reaching policy change in the 1986/87 budget was the introduction of the modified value added tax system (MODVAT), coverii.6 about 35% of India's manufactured production, which will substantially reduce ,iie cascading uI*ects of existing indirect taxes. The 1986/87 budget also cuntinued tax simplification, introducing a new, more smoothly phased exciae tax concession scheme for small scale industry and eliminating some special excise duties. The GOI also began to shift more responsibility for financing public enterprises' capital expenditures directly to the enterprises, mandating steps to improve profitability and encouraging selected enterprises to issue bonds instead of relying on capital transfers from the Government. The 1987/88 budget extended the (MODVAT) tax to all sectors except textiles, tobacco and petroleum, and continued the emphasis on increased self-financing of  -5- public enterprises. It .lso initiated monetary targeting as a means of better coordinating monetary and fiscal policies. 13. The performance of the economy in the first two years (1985/86-1986/87) of the Seventh Plan attests to the basic soundness of the Goverement's policy package. Real GDP growth is estimated to have averaged 5.0X, with industr7 growing at an average rate of 6.5%. Agricultural GDP growth averaged 1.4X per year despite poo? monsoons, with foodgrain production holding steady at about 150 million tons, just a little below the peak production level of 1983/84. There was also a marked improvement in the performance of the key infrastructure sectors. Electricity generation increased at an average annual rate of 9.6%, well above the Sixth Plan annual average of 8.3%, due both to capacity expan- sion and better utilization of 'hermal plant capacity. While annual coal production growth of 6.0% fell oelow the 6.9% Sixth Plan average, growth has been increasing steadily and is projected to top 9.0% in 1987/88. Railway freight traffic increased an average of 8.3%, twice the growth rate attained during the Sixth Plan. 14. The faster growth of the first two years of the Seventh Plan period was sustained without increased inflation. The wholesale price index rose by only 3.7% during 1985/86 (compared to nearly 8Z in 1984i85) and by 5.1% in 1986/87. Ample availability of foodgrains, sugar and edible oil, combined with a careful blend of tightened monetary policy, import liberalization, and reform of indirect taxes were the key factors limiting inflation in spite of the recent high public sector deficits. 15. Performance of the external sector, which is critically important to India's ability to finance sustained higher growth, has been mixed. Export volumes, after showing little increase in 1985/86, grew by an estimated 6.5% in 1986/87. Preliminary data from the first quarter of 1987/88 indicate that export growth is continuing at a relatively rapid rete. Imports, which had been severely repressed by the extensive restrictions applied, grew more rapidly in 1985/86, increasing in volume terms by 18.0%. Non-oil import volume increased by 22.4%. As pent up demand was satisfied and confidence began to build that the process of liberalization would be maintained, the pace of import volume growth slowed to an estimated 8.0% in 1986/87 (11.9% for non-oil imports only). Preliminary first quarter data for 1987/88 indicate that this pace is being maintained. The overall current account deficit dropped to 1.7% of CDP in 1986/87, after rising to 2.6% of GDP in 1985/86; the improvement as a result of performance on invisibles and favorable changes in India's terms of trade, coupled with the improved export performance. International reserves increased by an estimated US$600 million over the first two years of the Seventh Plan, reflecting India's capital inflows and a substantial capital gain due to exchange rate changes.  -6- Development Prospects and Policies 16. The outlook for the immediate future is colored strongly by the severe drought that is afflicting India in the 1987/88 monsoon season. While the full extent of this drought is not yet clear, GDP growth for the balance of 1987188 and 1988/89 will be affected adversely, as will the balance of payntents. Based on preliminary assessments (ref. para. 44), the growth of GDP at factor cost is expected to be, at best, no more than 2% in 1987/88, and is likely to be zero. The estimated balance of pay- ments cost through March 1988 is US$1.0 to 1.2 billion, with additional spillover costs into the next Indian fiscal year leading to a total balance of payments cost over the next 18 months of aL least US$1.5 billion. It will be difficult under these circumstances to maintain the hard gained policy momentum of recent years. Yet attaining the objectives of more rapid growth and faster progress in the alleviation of poverty in the years ahead will require that Ind^a maintain the direction and pace of policy reform on which it has recently embarked, further strengthening economic policies aimed at increasing the efficiency of resource alloca- tion and use. The Government has set out the salient features of its policy to sustain development efforts in the contex. of the current drought in a note to the Bank (ref. Annex IV). For the longer term, in order to sustain rates of GDP growth sufficiently high to produce sig- nificant reductions in the incidence of absolute poverty, India will need to: (a) increase the growth of agricultural production; (b) further accelerate induatrial production and export growth through policy changes that encourage competition and efficiency; (c) further improve basic infrastructure services and the availability of energy; and (d) sustain high overall levels of saving and investment. 17. Agriculture. Despite an impressive performance under the Sixth Plan (ref. para. 7), Indian agriculture faces many challenges in the years ahead. The seriousness of the present drought situation has highlighted the priority that must be given to further improving India's resilience to the uneven and highly variable behavior of the monsoon. Drought ameliora- tion measures must be closely integrated into overall medium- to long-term agricultural policies. As possioilities for extending cultivated acreage shrink, the level and stability of agricultural growth will depend on finding new ways of increasing the productivity of land and increasing its resilience to unfavorable climatic conditions through further development of irrigation (particularly low-cost, quick-benefitting groundwater schemes) and better management of irrigation systems, more extensive application of improved technologies (especially in rainfed farming), more efficient delivery of inputs and services, and maintsnance of appropriate pricing policies. High priority must be given to the expansion of the country's irrigated area through completion of ongoing irrigation projects, as well as selective investment in new undertakings. The efficiency of irrigated farming will have to be enhanced through the improvement of water management practices in existing irrigation systems. Greater emphasis should also be given to obtaining higher yields under  -7- rainfed farming conditions in non-irrigated areas. Even greater efforts must be made to build and strengthen institutions to ensure the efficiency of agricultural services, including input supplies, credit and farm tech- nology and its transfer. Finally, the long-term sustainahility of agriculture will be dependent on effective land and water resource conservation. This is essential in the face of increasing pressure on resources stemming from the growth in population. 18. Industry and Trade. Prospects for raising India's GCDP growth rate will, to a large extent, depend on more rapid growth of industrial produc- tion and exports. A key requirement will be greater competitive stimulus to industry than in the past. While the size of the Indian economy sug- gests that some of this competitive stimulus can come from within the domestic economy if the burden of Government regulation is ease1, greater exposure to foreign competition both at home and in export markets would induce greater efficiency, technological innovation and modernization. 19. Domestic policies will need to allow greater freedom for industrial firms to enter, exit and adjust production levels and lines in response to market price signals. The Government has taken various initiatives in this direction during the past several years. These chan- ges have begun to affect the investment climate favorably, and the manufacturing sector is beginning to respond. However, the policy changes initiated to date begin what will be a long process of adjustment. In order to induce the improvements in productivity and the technology upgrading which are required for accelerated investment, production and export growth, much more remains to be done to shift the balance of policy from the present reliance on extensive direct control and intervention to one which relies more on competitive stimuli from both within the country and abroad. More specific attention will have to be paid to export development. The measures taken to promote exports are beginning to have a significant effect on export performance. Unless export growth accelerates, the prospects for sustaining the import liberalization effort and, in turn, for sustaining higher industrial and overall GDP growth will be jeopardized. Thus, there remains a need for the Government to modify trade policies in such a way that the net impact of the incentive struc- ture is more neutral between exports and import substitution. To do this it must: (a) intensify its efforts in improving export incentives and ensuring exporters greater access to imported inputs and capital goods at world prices; (b) reduce the high protection of the domestic market by moving away from direct import controls to protection based on more moderate and uniform tariffs; and (c) maintain a realistic, competitive exchange rate. 20. Infrastructure Sectors. Investments in infrastructure currently constitute about one-third of total investment in India. The planning, implementation, and the efficacy of management of these investments has an important bearing on the overall efficiency of investment and the growth of the entire economy. Better planning and management of public invest-  -8- ments in power, coal, railways and irrigation could improve returns and lower the capital-output ratios. For example, investment requirements could be reduced and/or output increased by better water management in irrigation projects, improving load factors in thermal power generation, raising capacity utilization in the fertilizer industry and improving efficiency in railway transport. 21. Resource Mobilization. Although India's national savings rate (22.6% in 1980-85) is high for a country at its level of income, chronic large public sector deficits have become a worrisome feature of the Indian economy. Consolidated public sector deficits as a percent of GDP began to increase in the late 1970s, growing from an average of 5.3% of GDP during the Fifth Plan, to 7.7% of GDP during the Sixth Plan, and to an estimated average of over 9.0% of GDP during the first two years of the Seventh Plan. Deficits of this magnitude pose a serious threat to India's prospects for maintaining 5% plus GDP growth with price and balance of payments stability. To achieve 5% growth with stability, the Seventh Plan calls for an increase in the share of public sector investment financed from its own resources to 42% compared to 372 during the Sixth Plan period. This, in turn, will require restraint in currenc expenditures (including a reduction in rapidly growing food and fertilizer subsidies), better cost recovery in the provision of social services, continuing efforts to increase the yield of the tax system without stunting growth or increasing the burden of the poor, and appropriate pricing policies in public enterprises, supported by improvements in their operational efficiency. The Government has announced its determination to stay within the budgeted deficit during the current fiscal year. Consistent with this approach, it has increased taxes in order to finance the expenditure increases associated with the present drought rather than allow an increase in the deficit. 22. Balance of Payments. Sustaining GDP growth of 5% per annum will also require measures which assure a viable balance of payments position. Acceleration of industrial growth will lead to a substantial inc.ease in import requirements, even after allowing for efficient import substitution. Also, the present drought will place considerable short- term pressure on the balance of payments (ref. para. 47). Bank staff estimate that a 6% real export growth will be the minimum necessary to support the longer term growth in import requirements without excessive increases in external borrowing over the Seventh Plan period. Prospects for India attaining this growth rate will depend heavily on changes in policy to improve the profitability of exports. 23. Even assuming favorable export performance, India will continue to need substantial external capital flows to augment its own resources for the foreseeable future. With 6% real export growth, a 5% GDP growth target implies an increase in gross capital inflows from US$17.5 billion during the Sixth Plan period to US$27.5 billion for the Seventh. In the past, the bulk of external financing was provided in the form of official  -9- development assistance. In more recent years there has been a significant hardening in the terms of aid from multilateral sources. For example, while total lending from the Bank Group continued to increase in nominal terms, the grant element declined from 71% to 412 as new commitments of IDA declined from a peak of US$1,535 million in FY80 to US$678 million in FY87. In addition, .ndia has had to rely somewhat more heavily on commer- cial borrowing and, in the early 1980's, on drawings from the IMF. 24. As a result of the larger volume and harder terms of external capital flows during the first half of this decade, India's debt service ratio has risen to almost 25% at present. The current high level of the debt service ratio, in large measure, reflects the peaking of scheduled repurchases from the IMF. However, the debt service ratio is expected to taper off rapidly, declining to just over 20X by the early 1990s. 25. In the near term, a relatively high level of external borrowing, including an increased reliance on nonconcessional borrowing, will be necessary to cope with the balance of payments consequences of the growth strategy and the drought, and to repay outstanding debt to the IMF. Foreign exchange reserves have fallen from US$5.4 billion in January 1987 (representing 3.9 months imports) to US$5.2 billion by September (repre- senting 3.4 months imports). India's past prudent balance of payments management indicates that it would sacrifice its growth objectives rather than borrow excessively or on unfavorable terms. Thus, a greater volume of official assistance is warranted, particularly on concessional terms. Apart from the quantitative arguments for concessional aid, there remains the imperative of assisting India in addressing the problems of pervasive poverty. While India is now better placed than many other poor countries to tackle its development problems, its ability to mobilize additional resources to address poverty problems is limited. Concessional assistance must play an important role in relieving this constraint. PART II - BANK GROUP OPERATIONS IN INDIA 26. Since 1949, the Bank Group has made 104 loans and 190 development credits to India totaling US$11,081 million and US$14,499 million (both net of cancellations), respectively, for a total of US$25,580 million. Of this, US$9,898 million was undisbursed as of September 30, 1987 and US$2,103 million had been repaid, leaving a balance of U$13,579 million outstanding. Bank Group disbursements to India in the current fiscal year through September 30, 1987 totaled US$292 million, representing an increase of about 61 percent over the same period last year. In response to the unsatisfactory disbursement performance over the last few years and the undisbursed balance of almost US$10 billion, the Bank is working closely with GOI on the resolution of procurement, environmental, counter- part funding and other issues which have contributed to slow disburst;ments.  -10- 27. Since 1959, IFC has made 49 commitments in India totaling US$514 million, of which US$284 million has been repaid, sold, terminated or cancelled. Of the balance of US$230 million, US$219 million represents loans and US$11 million equity. 28. The thrust of Bank Group assistance to India has been consistent with the country's development objectives in its support of agriculture, energy and infrastructure. Of particular importance have been investments in irrigation, extension and on-farm de% opment designed to increase agric.ltural productivity, and efforts to improve the availability of basic agricultural inputs to farmers through credit, fertilizer, marketing, storage, and seed projects. Major elements of the lending program have also been directed at: (a) helping to meet the energy needs of the economy while curbing the growth of oil imports, and (b) easing the infrastructure bottlenecks which have hampered economic growth, par- ticularly through power generation and distribution, and railways and telecommunications projects. The Bank Group has also provided financing for a broad range of medium- and small-scale industrial enterprises, primarily in the private sector, through support of development finance institutions. Recognizing the importance of improving the ability to satisfy the essential needs of urban and rural populations, the Bank Group has supported nutrition and family planning programs, a rueal roads project, as well as water supply and sewerage and other urban infrastruc- ture projects. 29. This pattern of assistance remains highly relevant, and consonant with Government priorities, as reflected in the Seventh Plan. Within this overall strategy, however, Bank lending will be increasingly oriented towards poverty alleviation and environmental protection, while maintain- ing investments levels in energy and infrastructure. The proposed loan/credit reflects this orientation. Also, high priority will continue to be given to the agricultural program. While India has made significant progress in agriculture, productivity growth will have to be sustained to improve the balance between food demand and supply and to contribute to poverty alleviation and employment, as well as to help expand efforts to increase resilience to droughts in irrigated and rainfed subsectors. Thus, the Bank Group will continue to support irrigation, fertilizer production and distribution, and agricultural extension, research and credit. Increased assistance will be provided for industrial development, to support Government efforts in promoting greater efficiency and faster development of the industrial sector. In line with the emphasis the Seventh Plan gives to the expansion and more efficient use of basic infrastructure capacity and to the development of India's indigenous hydrocarbon resources, the Bank Group will continue to provide substantial support to the development of the energy, transport and telecommunications sectors to alleviate critical shortages which constrain output in both the agricultural and industrial sectors. Finally, support of urban develop- ment and other basic social services programs for the poor will also  -11- continue to be essential, since despite successes in lowering birth rates, India's population is increasing by about 16 million each year. 30. The need for a substantial net transfer of external resources in support of the development of India's economy has been a recurrent theme of Bank economiclreports and of the discussions within the India Consortium. Thanks in part to the response of the aid community, India has been able to succeasfully adjust to the rapidly changing international situation since the mid-1970s. However, India will continue to require a substantial level of foreign assistance to sustain the higher investment and growth rates achieved during the first two years of the Seventh Plan period. In order to insure adequate levels of resource transfer, bank Group assistance for projects in India should continue to include the financing of local expenditures. India imports relatively few capital goods because of the capacity and competitiveness of the domestic capital goods industry. However, the foreign exchange component tends to be small in many projects, particularly in the case of agriculture and the social sectors. 31. India's poverty and needs are such that, whenever possible, exter- nal capital requirements should be provided on concessional terms. Accordingly, the bulk of the Bank Group assistance to India in the past was provided from IDA. However, IDA lending to India is declining from a peak of US$1.5 billion in FY80, mostly due to funding constraints. The amount of IDA funds available to India is likely to remain small in rela- tion to India's needs for external support. Thus, this requirement for additional assistance will have to be met, in part, through larger Bank lending. Given its development prospects and prudent macroeconomic policies, India is judged creditworthy for Bank lending to supplement IDA assistance. A continuation of efforts already underway to achieve growth in productive capacity, trade expansion, higher levels of savings, foodgrains self-sufficiency and a reduction in the rate of population growth should result in sustained economic growth and improvement in the balance of payments. 32. Of the external assistance received by India, the proportion contributed by the Bank Group has grown significantly. In 1970/71, the Bank Group accounted for 22% of total commitments, 11% of gross disbursements, and lOZ of net disbursements as compared with 49.4%, 37.4% and 33.5%, respectively, in 1986/87. In 1986/87, about 20.7% of India's total debt service payments were to the Bank Group. On March 31, 1987, India's outstanding and disbursed external public debt was estimated to be about US$29.4 billion, of which the Bank Group's share was US$12.8 billion or 44% (IDA's US$9.9 billion and IBRD's US$2.9 billion). Bank's Involvement in Long-Term Drought Amelioration 33. The proposed project is an integral part of the Bank's overall strategy for assisting India in increasing the resilience of the economy  -12- to droughts. Almost 602 of Bank/IDA resources t'ansferred to India for the agricultural sector has gone to irrigation; all of India's major states have benefited from at least one Bank-assisted water project. Consistent with the Government's strategy outlined in Part IV (ref. paras. 55 to 62), which involves substantive changes in: (a) the emphasis given to rainfed farming; and (b) the institutional approach to, and require- ments for, assisting farmers in these areas, the Bank's proposed agricul- tural sector work and lending programs for India reflect increased priority for rainfed agriculture. Emphasis in the Bank's sector work is being placed on key aspects of rainfed farming, including a review of agricultural extension services, watershed and wastelands development. It is expected that discussion of the findings of this work with the Government would lead to the development of specific lending operations in these areas. The immediate priority would be to assist the Government in the design and implementation of the institutional changes needed to put into effect the proposed approach to disseminate rainfed farming tech- nologies outlined above ( e.g. through strengthened extension services). In addition, the Bank will continue to work with the Government in the context of ongoing operations as well as proposed new operations, to establish improved institutional arrangements for monitoring technical standards for the planning, design and construction of irrigation projects and to improve the operation and management (including maintenance) of existing schemes. 34. In response to the present drought situation, the Bank is taking a number of actions to assist India to deal with the effects of the drought while sustaining the momentum of economic reform. In conjunction with the proposed project, the Bank has reviewed its existing portfolio with the objective of speeding up the implementation of ongoing projects in drought-affected areas and, in selected cases, widening the scope of projects to make them more responsive to the critical constraints on agricultural production and village water supply arising from the drought (ref. para. 69). Drought Assistance by Other Donors 35. A number of other donors have made or are considering offers of drought assistance to GOI. The Japanese Overseas Economic Cooperation Fund (OECF) has agreed to provide India with 29.5 billion yen (US$200 million equivalent) to support the drought assistance program. Germany has offered DM 10 million (US$5.4 milli3n equivalent) of food aid, prin- cipally in the form of vegetable oil. Other donors, such as the EEC and the United States, are still in the process of considering possible offers of assistance, although the amount of such assistance is expected to total less than US$100 million. Close contact has been maintained between the Bank and these donors to ensure complementarity of the assistance being provided. In addition, the Government is exploring with donors the prospects for additional assistance to cover part of the local cost financing of critical ongoing projects.  -13- PART III - RELATIONS WITH IMF 36. India's most recent Article IV consultation was held in May, 1987. The Staff Report on this consultation (SM/87/160) was issued July 9, 1987. India has not had any standby or extended arrangements with the IMF since 1984, and last used one of the Fund's special facilities in 1980. A three-year extended arrangement for SDR 5,000 million, approved in November 1981, was cancelled by GOI, effective May 1, 1984. Purchases under the extended arrangement prior to cancellation totalled SDR 3,900 million. The amounts of principal and interest due the Fund (including Trust Fund repayments) are SDR 985 million in 1987, SDR 1,107.6 million in 1988, SDR 1,1001.2 million in 1989, and SDR 745.0 million in 1990. India does not plan to borrow from the Fund's emergency fund, as the terms are relatively hard and India is already making substantial repayments to the Fund. PART IV - THE DROUGHT SITUATION Background 37. India is experiencing the worst period of poor weather of recent years. The monsoons which normally last from June to September were generally late and deficient: 21 of the country's 35 aeteorological zones have had deficient or scanty rainfall, affecting 63% of the area of the country. A composite rainfall index (the average of rainfall deviations from normal in each rainfall subdivision weighted by the proportion of unirrigated area) shows that in terms of overall weather conditions 1987-88 has been worse than any of the four recent years of poor monsoons: 1965-66, 1979-80, 1982-83 and 1986-87 (ref. Table 1). 38. For many regions of the country this is the third or fourth suc- cessive year of poor rainfall. The areas worst affected are the western and northern regions including Haryana, Chandigarh and Delhi, Western Rajasthan and Eastern Gujarat where rainfall has been scanty, i.e. less than 40% of normal. Major deficit areas (rainfall 40-80% of normal) include some important foodgrain producing areas--the Punjab, Western Uttar Pradesh, Eastern Madhya Pradesh and Orissa and parts of the south of the country (Coastal Karnataka and Kerala). Ironically, much of West Bengal and Bihar have been experiencing torrential rains and have suffered some of the worst flooding in decades.  -14- Table 1: Rainfall and Foodgrain Production Composite Rainfall % Fall From % Falls in Output Index Z Departure Previous From Previous Year From Normal Year Kharif a/ Rabi b/ Total 1965-66 -18.6 -23.3 -18.7 -17.7 -18.4 1979-80 -20.2 -27.3 -19.0 -13.7 -17.0 1982-83 -13.2 -13.4 -12.5 +9.2 -2.9 186-87 -14.0 -10.2 -2.3 +3.9 0 1987-88 -27.7 -15.9 -15 to n.a. n.a -21 Source: Natioual Council for Applied Economic Research. a/ Kharif is the summer crop usually grown from June/July to 3ctober/November. b/ Rabi is the winter crop, usually grown from October/November to February/April. Impact of the Drought 39. The shortage of rainfall will largely affect the kharif crop, which is normally sown at the onset of the monsoon (around June/July in most areas) and is marketed between September and December. The kharif crop generally accounts for about 60% of India's foodgrain production. This includes about 90Z of the rice, 80Z of coarse grains, over half the oilseeds and a third of the pulses. The major winter (rabi) crop is wheat, which is to a very large extent grown on irrigated land. Table 2 shows kharif and rabi production of major food crops during 1985/86. Table 2: Production of Major Food Crops 1985/86 (Millions of metric tons) Kharif Rabi Total Foodgrains 85.9 64.5 150.5 Cereals 81.5 56.0 137.5 Rice (59.8) (4.4) (64.2) Wheat ( --) (46.9) (46.9) Other (21.7) (4.7) (26.4) Pulses 4.4 8.5 13.0 Oilseeds 6.2 4.9 11.2 Source: Economic Survey, 1987  -15- 40. The kharif crop loss in foodgrains as a result of the present drought is expected to be of the order of 15 to 18 million tons from last year's kharif crop of 86 million tons. The loss of rice production is probably in the range of 8 to 10 million tons; the remainder is in coarse grains and pulses. There has also been severe damage to the oilseeds crop. In particular, the groundnut crop in Gujarat, which accounts for about 15% of India's oilseed'production, was totally lost. Since India has no reserves of edible oils, imports will be required to replenish the stocks in the private and public distribution systems and to sustain the process- ing of crude edible oils into forms traditionally used by Indian households, such as ghee produced by the local vanaspati industry. There has also been severe damage to fodder, especially in Rajasthan and Gujarat, and shortages of water for livestock and human consumption are emerging in severely affected western states and in Orissa. Except for Rajasthan, Gujarat, Himachal Pradesh, Punjab and Haryana, the situation has been eased somewhat in drought-affected states by rainfall in late August and early September. This rainfall has improved the prospects for a near normal rabi crop and for fodder and drinking water, although it was too late to prevent major kharif crop losses in the drought-affected areas. In the flood-stricken areas of Eastern India there has been some washout of the rice crop, especially in Northern Bihar. 41. Essentially, however, total foodgrain production will depend on the success of the rabi crop and, in particular, production of wheat on irrigated land. About 90% of wheat production is concentrated in six states and 70% in the three largest surplus producing areas: Uttar Pradesh (35%), Punjab (23%) and Haryana (11%). While all of these states have been severely affected by drought, much of the area under wheat cultiva- tion (70X on a national average) is irrigated. Nevertheless, there is a risk of some loss in non-irrigated wheat production and even some poten- tial problems in irrigated areas. A survey of 47 important reservoirs in India found them to be at roughly 50% of live capacity as of the second week of September 1987 (almost the end of the monsoon season when they should be near their peak), compared with 75% of their capacity a year ago. However, because reservoirs are low, farmers are expected to water more judiciously and it is possible that a near normal rabi crop will eventuate. On balance, while the risk of severe loss of the rabi crop seems small, it seems unlikely that it will be significantly better than last year's. Thus, the overall crop losses during the kharif season will probably not be offset. Total foodgrain production for the year is estimated at between 135 and 140 million tons, down from 150 million tons in 1986/87. 42. Foodgrain Supply Situation. Official estimates indicate that foodgrain stocks were about 18 million tons on October 1, 1987, consisting of 6 million tons of rice and 12 million tons of wheat. Nevertheless, there may be regional imbalances in the availability of stocks to meet desired consumption levels. Although there is some substitutability in consumption of wheat and rice, there are, however, clearly demarcated rice  -16- and wheat regions of the country with strong consumer preferences. It seems, therefore, that rice stocks may be inadequate, given the loss of 8 to 10 million tons of output, and that cereal imports may be needed to maintain minimum desired consumption levels and minimum stocks as a buffer against future droughts. The Government will also need to import some pulses and coarse g%ains, for which no domestic stocks exist. 43. Social Impact. The macroeconomic implications of the drought will be serious (reff. paras. 44-47). However, they pale beside the human tragedy that will take place in India over the coming year. A large portion of the country's population faces a significant loss of employment and earnings. It is estimated that nearly 285 million people will be affected in the rural areas in different states. Of these, more than 90 million would belong to the vulnerable sections of the society, consisting of small farmers and agricultural laborers. In addition, successive droughts in Rajasthan, Gujarat, Orissa, and other states have led to severe drinking water scarcity, both in urban and rural areas. More than 90,000 villages are likely Lo face drinking water problems in these states. While Government programs are being supplemented to provide employment, food and water to the affected people, they will undoubtedly experience severe hardships. 44. Macroeconomic Implications. Based on preliminary assessments of the impact of the drought, the growth of GDP at factor cost is expected to be, at best, no more than 2% in 1987/88, and is likely to be zerc. Agricultural GDP will probably decline by 5 to 8%; growth in the services sector is expected to be in the range of 3 to 5% (compared with 6% historically); and industrial growth is also expected to be no more than 3 to 5%. Industrial growth could be further adversely affected by shortages of electricity, as industrial load is shed (especially for energy- intensive industries such as aluminum and other non-ferrous metals) in order to meet demands for irrigation. 45. The drought will also have a significant impact on the budget. The Government has increased its allocation for drought-related relief and public works programs from Rs 6.5 billion (equivalent to US$500 million) to Rs 20 billion (US$1.5 billion) in response to state requests for 2 to 3 times this amount. The additional expenditures are to be covered by cuts in other outlays in the amount of Rs 6.5 billion and a package of addi- tional taxes of Rs 5.5 billion, which was announced on September 19. Demands from the states for additional relief will, however, be very difficult to resist. The budgetary costs can be expected to mount. 46. There is likely to be some acceleration of domestic inflation as a result of shortages of foodstuffs. While foodgrain and edible oil prices have been held in check thus far by supply management, increases are possible later in the year, if only in unofficial markets. On the whole, an increase in consumer prices approaching 10% should not be ruled out.  -17- 47. On the balance of payments side, there is likely to be a net cost of at least US$1.0 to 1.2 billion through March 1988. Over the next 18 months, the total balance of payments cost is expected to exceed US$1.5 billion. For the period to March 1988, agricultural commodity imports (including foodgrains and edible oils) are expected to increase by US$0.8 billion; additional petroleum and petroleum product imports of US$150 million and non-ferrous metal imports of US$50 million are also likely to be required. In addition, exports of agricultural products are expected to fall by over US$200 million. Additional drought-related imports will also be needed in the next Indian fiscal year (April 1988 to March 1989) and the decline in agricultural exports is also expected to carry over into 1988/89. The Government's Drought Relief Progra 48. In response to the drought, the Government has set up a Cabinet Committee on Drought (CCD) chaired by the Prime Minister, together with inter-ministerial committees/working groups to monitor the drought and flood situation, take corrective steps and report to the CCD. Similar institutional arrangements have been set up in the affected states. The Government has outlined the major elements of its drought relief program in a note to the Bank (ref. Annex V). These relief efforts are directed at minimizing crop losses, especially for the rabi crop, and providing emergency relief for elements of the population severely affected by the drought. Central assistance for drought relief totalling Rs.5.5 billion (US$420 million) has been made available to the states. The need for further assistance will be reviewed in light of the behavior of the North-East monsoon (which normally affects the south of the country between November and December). 49. Measures taken to minimize crop losses are focussed on ensuring adequate supplies of major inputs for the coming rabi crop. Priorities have been established and plans drawn up for the procurement and distribu- tion of seeds as well as for the replenishing of seed stocks during the rabi season. These plans include increasing the total area coverage under irbi crops, and increasing the coverage of less water-intensive and alter- native short duration crops where water supplies and/or soil moisture are inadequate for normal cropping. Water use plans have been established, giving priority to drinking water supplies and seeking to optimize the management of water for irrigation, including, where necessary, a reduc- tion in the number of waterings to avoid the need to reduce the area irrigated. State Electricity Boards have been instructed to ensure power supply to agricultural pumpsets for at least eight to ten hours a day and to maximize output from thermal power units to compensate for reduced hydroelectric power. Also, steps have been taken to increase domestic output and imports of diesel fuel to ensure adequate supplies to farmers. The Reserve Bank of India (RBI) has issued instructions to banks to res- chedule outstanding loans and provide crop loans to farmers seriously affected by the drought.  -18- 50. The Center and State Governments have well-established machinery to meet the immediate needs of the population severely affected by drought, since India has a history of periodic droughts and one part of the country or another experiences drought in almost every year. Key elements of the drought relief programs include: (a) rural employment programs; (b) provision of drinking water; (c) public distribution system for essential commodities; (d) supplementary nutrition programs; and (e) cattle preservation. 51. The National Rural Employment Program (NREP) and the Rural Landless Employment Guarantee Program (RLEGP) are ongoing programs designed to provide employment to unemployed and underemployed persons, especially landless laborers, in rural areas in the creation of productive assets o~ direct benefit to poverty groups and for strengthening rural, economic and social infrastructure. Workers are paid partly in cash and partly in foodgrains. In response to the drought, the Government's drought relief machinery has been put into action and these programs are being expanded. For example, in Rajasthan, one of the worst drought- affected states, 1.4 million people per day were being employed under NREP during October, compared with a normal level of 400,000 to 500,000 per day. It is estimated that an average of 3.5 to 4 million persons per day will have to be employed on relief works over the next eight months and that the requirements could reach up to seven or eight millior persons per day in some months. The NREP and RLEGP together are expected to provide over 550 million man days of employment in the various drought affected states. These are not adequate for meeting the above employment requirements, however, and additional scarcity relief works are being undertaken. These works are being dovetailed with regular Plan works to the maximum extent possible. Priority in these programs is being given to drought-related projects including water or soil conservation, roads and social forestry. The Center has already released resources to the states for the immediate provision of employment amounting to 278 million man days. 52. As previously indicated, priority in water management is being given to drinking water supplies. Additional wells are being drilled or existing wells deepened and, where necessary, drinking water will be transported by truck or rail into severely affected areas. The Center has already made available Rs.550 million (US$42 million) for drinking water purposes. 53. India has an extensive public distribution system (PDS), the primary goal of which is to ensure adequate supplies of essential com- modities (including rice, wheat, edible oils and sugar). In response to the drought, supplies of commodities available for public distribution are being augmented and the system itself is being expanded, especially in inaccessible drought-affected areas. In this context, the Government has stepped up substantially its imports of edible oils to make up the losses  -19- in the domestic oilseeds crop and to ensure adequate supplies for the local protessing industry (ref. para. 40). In addition, the Center and State Governments are stepping up their supElementary nutrition programs, whicb serve the more vulnerable sections of the population (women, chi-den, and the old). The expanded programs will cover an additional 2.6 million persons. Also, public health programs geared to disinfecting drinking water supplies and disease prevention, are being expanded. Cattle preservation measures include the development and implementation of plans for increased fodder production, procurement and distribution to deficit districts and, where necessary, the establishment of cattle camps (in close cooperation with voluntary agencies) close to available water supplies. Almost four million head of cattle will be covered by these measures. 54. These programs have been established for many years and have been effective in mitigating the worst etfects of past droughts on affected populations. They are well structured and appropriately focussed to deal with the massive and complex problems associated with a drought, even one of this magnitude. There will, nevertheless, be considerable strains on the managerial and logistical capabilities of the various Center, State, and local implementing agencies, and problems in implementation will inevitably occur, especially in states with weaker administrative capability. The Bank is involved in longer term efforts to improve storage and distribution facilities which will enhance India's ability to respond quickly and effectively to future droughts or other emergencies. It is also actively supporting the Government's longer term drought amelioration programs (see following sections). The Government's Long-Term Strategy for Strengthening India's Resilience to Drought. 55. India has made major progress over the last twenty years in i creasing the resilience of the agricultural sector to unfavorable monsoons. In 1965, India had no buffer stocks of foodgrain and the irrigation potential was only 34 million hectares, In 1987, buffer stocks amount to 18 million tons (as of October 1) and the irrigation potential has been increased to 68 million hectares. Improved crop yields, increas- ing adoption of modern agricultural practices by farmers, and the strengthening of agricultural infrastructure have imparted resilience to the agricultural sector, despite a population increase of over 200 million. 56. Much remains to be done, however, to improve the utilization of available agricultural resources (especially scarce water resources) and increase India's ability to withstand the vagaries of the monsoon. Primary attention in the past has been given to the development of irriga- tion and the Government intends to continue increasing the area under irrigation. However, the investment costs associated with new irrigation projects are high and increasing as the irrigation program extends to more  -20- marginal areas. Consequently, in line with the strategy in the Seventh Five-Year Plan (1985-1990), the emphasis will be on increasing produc- tivity in already irrigated areas. A National Water Policy has been adopted in September 1987 by the National Water Resources Council, presided over by the Prime Minister, Within the framework of this policy, priority is being given to completing ongoing projects, while new starts are restricted to medium-sized projects in drought-prone, rural and back- ward areas. Special emphasis will be given to the planning of new projects and to increasing the returns on existing schemes. Particular attention will be placed on improving drainage and encouraging better water management. Present efforts to develop effective and efficient use of water in agricultural productiont (e.g. through the National Water Management Project) will be intensified, as well as efforts to assess and develop groundwater resources. Within this context, the Government intends to strengthen and improve the enforcement of technical standards for the planning, design and construction of projects, and to improve the operation and management (including maintenance) of existing schemes. An action plan for the implementation of the National Water Policy is cur- rently under preparation for consideration by the National Water Resources Council within a year. 57. A large proportion of agricultural output (more than 40% of aggregate food production) is still produced in rainfed areas (which account for more than 70S of total crop lands) and is subject to large year-to-year variations. These areas have lagged behind in terms of increases in rural output and income compared with irrigated areas3. Due to the high risks associated with high rainfall variability, farmevrs tend to follow cropping patterns and farming practices characterized by low- inputs and low outputs but lowered risks. Thus, crop yields have remained low. Pasture areas are all severely degraded, deforestation and environ- mental degradation are progressing, infrastructure such as roads and rural power, and services such as research and extension are often insufficient, and as a result, much of the rainfed arable land is producing well below its potential. 58. The Government has long recognized these problems and has developed programs to address them. In the Seventh Plan, the Government is placing particular emphasis on the development of rainfed agriculture as part of its longer term strategy for increasing India's resilience to droughts. The present drought has led Government to reaffirm the key strategic oljectives of the Plan and to intensify its efforts to accelerate their achievement. The Government has outlined its strategy for development of rainfed areas and improving resilience to drought in agriculture in a note to the Bank (refer Annex VI). A comprehensive program of measures is being developed which focuses on the effective implementation of soil and water conservation measures supported by: (a) accelerating the development and transfer of suitable technology packages at the farm level; (b) improving support services, such as extension, credit and marketing; (c) increasing the availability of key inputs  -21- (fertilizer, seeds, and farming implements); and (d) expanding research on rainfed farming techniques, including the development of varieties better suited to rainfed farming and appropriate cropping systems. The Covernment has recently prepared a National Watershed Development Program for Rainfed Agriculture, to be implemented by the states and monitored centrally. The Program's objectives are to accelerate the development of rainfed agriculture through implementation of the integrated set of measures outlined above. Priority will be given to rainfed areas with moderate annual rainfall (500 to 1125 mm), for which experimental results have been most promi4ing. 59. The Government is also placing increased emphasis on the develop- ment of wastelands, particularly public and communal lands which have been degraded. The wastelands development program incorporates a balanced approach to deal with land degradation through soil and water conservation, afforestation and fodder development. To this end it has established the National Wasteland Development Board to promote and guide wasteland development. Emphasis will be placed on improving coordination among the key agencies involved and .on promoting greater private sector involvement in the reclamation and rehabilitation of wastelands. 60. In the area of agricultural research, the Government has already begun to devote greater financial and technical resources to rainfed farming research and plans to accelerate this process. Attention will be focussed on specific local conditions and the development of systems of water management, soil moisture conservation and cropping systems appropriate to each area. Special attention will be given to developing new varieties capable of better production under rainfed conditions and to developing suitable technological packages for rainfed areas. For the longer term, the Government plans to intensify its research efforts in low rainfall areas (those receiving less than 500 mm of rainfall per annum), for which progress to date has been limited. 61. Considerable progress has already been made in reorganizing and strengthening agricultural extension services throughout the country along the lines of the Training and Visit (T&V) system. In order to expedite the diffusion of existing technologies and those that evolve through expanding research efforts, the Government is seeking to improve further the efficiency and cost effectiveness of extension services. Special attention is being placed on: (a) improving manpower planning and training; (b) improving management and streamlining monitoring and evaluation; (c) strengthening the links to the research system; and (d) broadening the scope of extension services to cover soil and moisture conservation, animal husbandry and fodder development. 62. In the area of resource conservation, the Government is seeking to improve the efficiency of public agencies charged with afforestation and reafforestation in order to increase their planting on public lands and encourage private woodlots. The management of comiunal properties is to  -22- be improved through the development of an appropriate institutional framework to: (a) develop basic and flexible land use plans for areas or watersheds; (b) reach a consensus on plans and actions with local populations; and (c) provide long-term technical and advisory support to local groups which mobilize communal action to carry out and maintain land development. Attention will be focussed on the introduction of tech- nologies and management methods to increase the sustainable level of fuel and fodder production and to design livestock management and control techniques that will permit degraded communal grazing areas to be rehabilitated. PART V - THE DROUGHT ASSISTANCE PROJECT 63. A Bank mission visited India in September 1987 to design and appraise the proposed project in consultation with the Government. A Project Summary is provided at the beginning of this Report. There is no Staff Appraisal Report. Negotiations were held in New Delhi in October, 1987. The Government was represerted by a delegation coordinated by Mr. J. L. Bajaj, Joint Secretary of the Department of Economic Affairs, Ministry of Finance. A Supplementary Project Data Sheet is attached as Annex III. Project Objectives and Rationale for Bank Involvement 64. The objectives of the proposed project are to: (a) assist India in meeting the costs and the reconstruction/rehabilitation requirements resulting from the drought; (b) help sustain and enhance the momentum of the economic reform process during the present drought situation; and (c) support the Government's longer term strategy for increasing India's resilience to droughts. As a result of the drought, imports of agricul- tural products, petroleum and petroleum products and non-ferrous metals are expected to increase by around US$1 billion and agricultural exports to decline by about US$200 million in the period to March 1988, with further spillover effects in 1988/89. This will place severe pressure on the balance of payments. As indicated (ref. para. 25), foreign exchange reserves have fallen from US$5.4 billion in January 1987 to US$5.2 billion in September 1987. While reserves are adequate to meet the expected import bill, the Government is understandably reluctant to allow a major run-down below present levels. The timely injection of fast disbursing foreign exchange under the proposed project would assist the Government to manage the balance of payments consequences of the drought while maintain- ing the momentum of the economic reform process. Without the proposed assistance from the Bank and that offered by Japan and other donors (the total of which is expected to amount to around US$750 million over the next eighteen months), balance of payments pressures would likely ead to irresistible demands on the Government to protect its reserves position by restricting imports, thereby slowing economic growth and delaying the process of industrial modarni-:ati3n and restructuring.  -23- 65. As indicated in Part II (ref. para. 33), the proposed project is an integral part of the Bank's overall strategy for assisting India in increasing the resilience of the economy to droughts. This strategy includes continued lending for irrigation, intensification of support for rainfed agriculture, wastelands development and village water supplies, and a sector work program focusing on institutional improvements in the agricultural sector, especially for rainfed farming. Project Description 66. The proposed project will assist the Government's drought relief program through the financing of urgently required imports needed to sustain productive activities affected by the drought. The major elements of the Government's drought relief program have been outlined in the Government's note to the Bank attached as Annex V. The proposed loan of US$150 million and credit of SDR 156.3 million (US$200 million equivalent) will be used to finance imports of primarily agro-industrial inputs (including oilseeds, edible oils, pesticides, veterinary medicines and animal feed), petroleum and petroleum products, non-ferrous metals, and other drought-related industrial intermediate inputs (e.g., textile fibres and industrial components and spares). The bulk of the loan/credit is expected to finance petroleum and petroleum products (diesel and kerosene) and non-ferrous metals (aluminum, tin, and zinc). In addition, imports of edible oils would replenish stocks in the public and private distribution systems--depleted because of the drought, and ensure adequate supplies for the local processing industry. 67. During discussions of the proposed project, the Government has reaffirmed its commitment to continue the process of modernization and increased efficiency of the economy upon which it has embarked and has outlined its program in the letter attached as Annex IV. This program includes deregulation of domestic industries and streamlined decision making on the revival or exit of sick industrial units. It also includes improvements in the support system for exporters, including improved access to pre-shipment financing, streamlining of administrative proce- dures relating to export processing zones, improved access to key imported items, and monetary and fiscal policies to ensure that Indian exports remain internationally competitive. In addition, the Government will continue to review its import regulations and tariffs to eliminate anomalies in the structure of nominal and effective protection. 68. The project would also support initiatives to accelerate the design and implementation of key elements of the Government's long-term strategy for increasing India's resilience to droughts, with particular emphasis on rainfed agriculture. In the context of discussions of the proposed project, the Government has indicated its intentions to accelerate implementation of the 7th Plan strategy for longer term drought amelioration and rehabilitation. These measures are reflected in a note provided by the Government setting out its strateoy for development of  -24- rainfed areas and improving resilience to drought in agriculture (attached as Annex VI). Key elements include the adoption of a National Water Policy, under which an Action Plan will be developed in the next year to intensify efforts to improve the effectiveness of existing irrigation schemes, speed up completion of schemes already underway and improve the planning and design of future projects. A precise timetable is expected to be drawn up by the end of 1987. At the same time, increased attention will be focussed on rainfed agriculture. In particular, priority will be given to accelerating the dissemination of technologies for soil and on-farm moisture conservation. In this context, the Government is taking steps to integrate the activities of extension and soil conservation agencies, at the Center and in the states. Stabilization of watersheds and upgrading of wastelands will be stepped up by acceleration of tree planting programs and the increased use of vegetative soil conservation within the framework of a National Watershed Program for Rainfed Agriculture, currently in the initial stages of implementation. Efforts to increase production of fodder and fuelwood, stabilize erosion and enhance groundwater supplies are being given greater emphasis by the National Wasteland Development Board, created in 1985. Finally, agricul- tural research is being expanded and reoriented to include more location- specific activities, especially in moisture conservation and development of new crop varieties which provide better yields on a sustained basis under rainfed farming conditions. Related Actions in the Bank's Existing Portfolio 69. As indicated in Part II (ref. para. 34), in conjunction with the proposed project, the Bank has reviewed its existing portfolio with the objective of speeding up the implementation of ongoing projects in drought-affected areas and, in selected cases, widening the scope of projects to make them more responsive to the critical constraints on agricultural production and village water supply arising from the drought. We plan to advance the release of US$100 million under the NABARD Credit Project (Ln. No. 2653-IN, approved February 25, 1986) for term loans which would enable farmers affected by the drought to respond quickly to their need for investments in drought-proofing activities. This is par- ticularly important and urgent in preparation of next year's kharif crop. The proposed modification is consistent with the project's objectives of helping increase agricultural production through participation in NABARD's ongoing loan refinancing program for investments in agriculture and strengthening the agricultural credit system. We also plan to increase temporarily the disbursement percentages on selected projects in drought- affected areas in order to maintain expenditures on essential development projects during the present drought situation. 70. We are also reviewing projects presently under preparation with the objective of further strengthening components directed to increasing drought resilience and adequately reflecting the financial and institu- tional constraints arising from the present drought situation.  -25- Loan/Credit Administration 71. Disbursement. The proposed loan/credit would be administered by the Ministry of Finance in collaboration with the Reserve Bank of India (RBI). Proceeds would be available for disbursement upon effectiveness and would be used to reimburse 100% of foreign expenditures for eligible imports for which payments are made after loan/credit signing. Disbursement for reimbursement of eligible import expenditures would be based on documentation prepared by RBI, based on Statements of Expenditures (SOEs) for contracts valued at less than US$5 million; for contracts valued above this amount full documentation would be provided. Applications for withdrawals based on SOEs would be submitted in amounts of not less than US$1 million and supporting documentation would be retained by RBI. All of the proposed project is expected to be disbursed by March 31, 1989. To facilitate disbursement under this project, a special account will be established in the RBI in US dollars, with an authorized allocation of an amount equivalent to SDR 39.2 million (US$50 million equivalent). Replenishment will be made quarterly or whenever the special account is drawn down to about 50% of its initial deposit, whichever occurs first. 72. Procurement. Both private and public sector imports would be eligible for financing. Procurement will be through ICB but with the following major exceptions; (i) subject to the prior approval of the Bank, procurement of commonly traded commodities will be undertaken through organized international commodity markets or other channels of competitive procurement acceptable to the Bank, in accordance with procedures satis- factory to the Bank; and (ii) contracts for goods estimated to cost less than $5 million each may be awarded on the basis of the normal procurement procedures of the purchasers of such goods acceptable to the Bank. 73. Accounts and Audits. RBI would maintain accounts and supporting documentation in respect of the project. Audits would be carried out by independent auditors acceptable to the Bank/Association within nine months of the closing of the GOI fiscal year (March 31) in which disbursements under the loan/credit are made. Environmental Impact 74. The drought has had serious, adverse ecological consequences in the hardest hit states, particularly in terms of soil erosion, damage to flora and fauna and shrinking water tables. In supporting the Government's long term drought rehabilitation efforts (ref. paras. 55-62), the project will have a positive impact on the environment since these efforts will be designed, in large part, to re-establish or fortify the natural resource base in order to help avoid or mitigate the adverse effects of future droughts.  -26- Benefits and Risks 75. The proposed project would help reduce the adverse impact of the drought on India's balance of payments, thereby helping to sustain the momentum of the process of modernization and increased efficiency -of the Indian economy upon which the Government has embarked. The additional budgetary resources provided under the project would also help reduce the adverse impact on funding of development projects resulting from the diversion of funds to drought relief. The project would also support initiatives to accelerate the design and implementation of longer term policies and programs for increasing India's resilience to droughts, with substantial resulting benefits in terms of poverty alleviation. The major risk is that, despite the assistance to be provided under the proposed project and by other donors, pressures on the balance of payments result- ing from the drought may be so severe that the Government may be forced to halt or even reverse the economic reform program. However, given GOI's stated commitment to maintain the tempo of economic development, despite the drought, the risks are judged to be acceptable. PART VI - RECOMMENDATION 76. I am satisfied that the proposed loan and credit would comply with the Articles of Agreement of the Bank and Association and recommend that the Executive Directors approve the proposed loan and credit. Barber B. Conable President By: W. David Hopper November 5, 1987 Washington, DC  INDIA - EiOt:C INDICATMS AN=E I 1r1+-i0 P.jtatian (mits.) 75 aelo2 1986 Per Copits CM In USS: 26 A. Sh~ares of Gross Darustic Pro.dct 6. Growth Rates (1 per annua) (f rem iawrrent price dots) (fros cwsta't price ebta) 1965 197 1960 1986. 198 1161p 1966-75 1973*80 1160.85 1165 19860 GrMs Dometic proact C.P. 100.0 100.0 100.0 100.0 100.0 100.0 4.0 4.2 S.6 4.8 5.0 met 1.nlret TOMe 6.6 6.8 10. 11.0 11.? ... . AV.nzr 41.5 45.4 33.6 15. 277 . .7 2.1 2.7 1.4 1.1 of =t1y NL20.2 16.6 223 3.6 24.1 ..3.7 5.0 5.5 6.5 6.6 (o Ad weting) 13.9 12.0 14.9 14.3 14.7 . 4.0 4.9 5.9 6.? ServIce 23.? 27.1 33.2 35.9 36.41 . 4.2 5.9 7.4 7.7 7,1 Reemaeve Wara 2.2 -0.6 -3.8 -2.6 -3.4 .1.98. 35 37 5? atgr of FS 3.9 4.5 6.9 6.71 6.3 6.7 3.2 0 . . 7 tws" of Wsl 6.1 5.1 10.8 9.3 9.7 8.6 -0.3 9.1 4.6 16.1 -0.8 Totat tIitwes 102.2 100.6 102.3 102.6 103.4 102.0 3.6 4.4 5.7 L.0 4.4 Toda Cus*ifut 86.4 81.5 61.6 19.3 IL.? . 3.5 4.2 6.1 9.0 3.9 144vte CMaJ4*.4 76.9 72.8 71.4 da.1 67.1 ..3.2 3.6 5.3 8.5 3.6 Guast Gmmenewt 9.5 8.6 t0.2 111.2 t1.6 .6.6 7.8 t0.? n.9 4.2 Gronmms fe1 Imwsutu 18.4 19.2 24.7 25.1 23.3 ..3.9 5.2 4.2 4.5 6.1 U1xsd Imsnott 17.1 15.3 19.8 21.4 22.0 ..2.9 5.5 S.3 5.6 Owuss in Stock 1.2 3.9 4.9 3.7 3.2 . . . Grms Dinete wing 16.2 18.7 20.8 2Z.6 21.9 . 7.0 3.5 4.5 *1.1 net Fes- tram .0.7 04.4 0.4 *0.5 -0.4 . . , Mso cauri raufwfs 0.3 0.3 2. 1.? 1.3 . . . Gras NstfahaL lwing 1SA 18.6 23.3 23.7 22.8 ..7.7 4.7 3.4 *