Haiti - Industrial Restructuring and Development Project

Document of The World Bank FOR OFFICIAL USE ONLY 6~-/Z Zc'0 71-b14 4 Report No.P-5122-HA MEMORANDUM AND RECOMMENDATION OF THE PRESIDENT OF THE INTERNATIONAL DEVELOPMENT ASSOCIATION TO THE EXECUTIVE DIRECTORS ON A PROPOSED CREDIT OF SDR 9.1 MILLION TO THE GOVERNMENT OF HAITI FOR AN INDUSTRIAL RESTRUCTURING AND DEVELOPMENT PROJECT NOVEMBER 2, 1989 This document has a restricted distribution and may be used by recipients only in the performance of their oficial duties. Its contents may not otherwise be disclosed without World Bank authorization.  CURRENCY EQUIVALENT UNITS Currency Unit = Gourde (G) G 5.00 - US$1.00 (The Gourde has, since 1919, been pegged to the U.S. dollar, at the rate of G 5 = US$1.00 UNITS AND MEASURES 1 hectare (ha) = 10,C00 square meters (m2) - 2.47 acres (a) 1 kilometer (km) = 0.62 mile (mi) 1 square kilometer (km2) = 0.39 square miles = 100 ha ABBREVIATIONS AID - U.S. Agency for International Development BCA - Banque de Crddit Agricole [Agricultural Credit Bank] BCI - Banque de Credit Immobilier [Mortgage Credit Bank] BNDAI - Banque Nationale de Developpement Agricole et Industriel [National Agricultural and Industrial Development Bank] BRH - Banque de la Republique d'Haiti (Bank of the Republic of Haiti (Central Bank)] BUH - Banque de l'Union Haitien (Haitian Union Bank] CBI - Caribbean Basin Initiative CMCID - Consultative Mixed Committee for Industrial Development EEC - European Economic Community ERR - Economic Rate of Return FDI - Fonds de Developpement Industriel (The Industrial Development Fund] FHD - Fondation Haitienne de Developpement (Haitian Development Foundation] FIs - Financial Intermediaries FIRR - Financial Internal Rate of Return GPT - General Preferential Tariff GSP - General System of Preferences IDA - International Development Association OFATMA - Public Medical Insurance Program SHODECOSA - Public Industrial Park SONAPI - Private Industrial Park SOFIHDES - Societe Financiere Haitienne de Developpement [Haitian Financial Corporation for Development] TA - Technical Assistance UNDP - United Nations Development Programme FISCAL YEAR October 1 - September 31  FOR OFFICIAL USE ONLY HAITI INDUSTRIAL RESTRUCTURING AND DEVELOPMENT PROJRCT Credit and Proiect Summarv Borrower: Government of Haiti Executint Agency: Bank of the Republic of Haiti (BRH)/ 4 Industrial Development Fund (FDI) Beneficiaries: Private Manufacturing Enterprises Amount: SDRs 9.1 million (US$11.4 million equivalent) Terms: Standard, with 40 years maturity Onlending Terms: -the Borrower would pass on to the Bank of the Republic of Haiti (BRH) for FDI's use US$10.0 million equivalent, of which US$5.0 million would be in the form of a grant and US$5.0 million at 8Z for 20 years, including 5 years of grace. FDI would pass on the funds to the financial intermediaries (FIs) at 8Z for onlending to the final beneficiaries. For loans financing small-scale enterprises (below US$100,000 equivalent), FIs would be charged 7Z, to allow a larger spread as an incentive to support small- _.cale industry. All subloans would be denominated ln Gourdes. FIs would determine the lending rate to the final beneficiary within the broad interest range authorized by the Centzal Bank. The FIs would retain an adequate spread in both cases, to cover administrative costs and credit risks and provide them with a reasonable return. The nominal foreign exchange risk would be borne by the Government. However, given that interest rates are determined within a broad range and ait the Haitian capital market is open, a foreign exchange risk premium reflected in the interest rate would be borne by the final borrower. * Financint Plan: Local Foreign Total (US$ Millions) FDI/Government 5.3 - 5.3 * Intermediaries/ 5.2 2.7 7.9 Final Beneficiaries 5 2 7 IDA 0.4 11.0 11.4 Total Proiect Cost 10.9 13.7 24.6 Rate of Return: Subprojects must have FRRs and ERRs of at least 12? in real terms. Staff Appraisal Report: Report No. 8013-HA ManD: IBRD 21143 This document has a restricted distribution avd may th, used by recipients only in the performance of their official duties. Its contents may not ot.terwise t': disclosed without World Bank authorization.  MEMORANDUM4 AND RECOMMENDATION OF THE PRESIDENT OF THE INTERNATIONAL DEVELOPMENT ASSOCIATION TO THE EXECUTIVE DIRECTORS ON A PROPOSED CREDIT TO TEE REPUBLIC OF HAITI FOR AN INDUSTRIAL RESTRUCTURING AND DEVELOPMENT PROJECT 1. The following memorandum and recommendation on a proposed Credit for SDR 9.1 million (US$11.4 million equivalent) to the Republic of Haiti Is sub- mitted for approval. The Credit would be for 40 years, including 10 years 4 4 grace, on standard IDA terms and would finance an Industrial Restructuring and Development Project. 2. BackRround. Haiti's macroeconomic policies and performance have improved substantially since early 1986, following a charnge in the country's political regime. The economic distortions and the financial drain inherent in Haiti's policies during 1980-85 resulted in significant erosions of the country's living standards and finances. To alter the situation, Haiti's economic policies from March 1986 to November 1987 focused on macroeconomic stabilization and improvement of resource allocation and growth prospects. This was accomplished through reforms of taxes, public expenditures, public enterprises, industrial and trade policies, and agricultural pricing. The reforms were extensive and swift, began to stabilize and restructure the economy, and drew significant international support. 3. The pace of economic reforms suffered, however, when, beginning in the last quarter of FY1987, a series of constitutional crises compounded the country's economic and financial difficulties. Historically, Haiti's desire to keep the Gourde stable vis-a-vis the U.S. dollar has disciplined successive Governments to pursue prudent fiscal and monetary policies. The shortfalls in budget support grants and in gross aid disbursemenls that followed the 1987 crisis proved too big for the country to deal with during FYsl988-89. Although the overall public sector deficit remained at around 6X of GDP, at the end of FYs1988 and 1989 there were fiscal gaps of over G150 million (nearly 2? of GDP), financed by monetary expansion, and the nation incurred external payments arrears of about US$20 million. The parallel foreign exchange market premium increased, from 52 in the early 1980s to 25X in 1988-89. Notwithstanding the political, economic, and financial difficulties of FYsl988-89, thus far Haiti has kept in place the basic fiscal and trade reforms th't were implemented in 1986-87. In FY1990, moreover, Haiti has undertaken to implement a financial stabilization program, to be supported with an IMF Stand-by arrangement. It is expected that provision of IMF resources would relieve budget pressures, as well as pressures on the parallel market premium. 4. As part of the Economic Recovery Program, supported by IDA Credit 1766-HA approved in March 1987, the Government of Haiti implemented major trade liberalization reforms. All specific tariffs were replaced by ad valorem tar- iffs, the tariff level was reduced to a maximum of 40?, from as high as 200?, and import licensing for all industrial products was eliminated. Trade monopo- lies, both public and private, were dismantled. Of the five public industrial firms, two which were uneconomic were closed, and the remainder are currently undergoing restructuring. 5. Haiti's industrial sector consists mainly of import-substitution industries, serving the local market and until recently highly-protected from external competition, and the export assembly sector. It experienced its most  dynamic growth in the 1970's, at a rapid growth of 102 per annum in real terms, due primarily to the establishment and expansion of the export assembly sector. However, this growth has not been sustained, and, with the exception of a brief surge of activity in 1982183, industry has stagnated since 1981. The indus- trial sector contributes 16? to GDP and accounts for 7? of the labor force. 6. Trade liberalization, illegal importation, and the prevailing poli- tical uncertainty have changed significantly the operating environment for local industry during the last two years. Domestic industry, already under expected stress from the trade liberalization reforms, had to endure added competition from an upsurge of contraband imports, which intensified when provincial ports, formerly closed, were opened up to international traffic in 1987. Industrialists who have been affected by contraband and/or trade liberalization have by now internalized the market signals and begun to formulate investment plans to adjust to the new competitive environment. The scarcity of term credit is currently the main obstacle to materializing these plans. Complex and lengthy incentive approval procedures, and inefficiency in customs administration are additional constraints affecting the industrial sector. 7. To ease the cost of adjustment, the Government assigned to the Indus- trial Development Fund (FDI) responsibility for providing technical and finan- cial assistance to private industrial enterprises that wish to take appropriate measures to restructure. The IDA Technical Assistance Credit (1786-HA), ap- proved in May 1987, included, inter alia, an industrial restructuring component aimed at advising private industrial enterprises on restructuring options. The first phase of this component, designed to assess the industrial enterprises' strengths and weaknesses and to indicate functional areas where an in-depth study would be warranted, was completed in July 1987. The restructuring pro- posals, completed under the second phase in May 1989 and partially financed by the participating enterprises, include specific restructuring actions and investments. 8. FDI was established by the Government with IDA assistance in 1981 as a second-tier institution, to finance medium- and long-term operations through eligible financial intermediaries, mainly commercial banks. It is currently the only source of term credit in Haiti. FDI was the beneficiary of the first IDA Industrial Credit to Haiti, which was successfully completed in February 1987. 9. Rationale for IDA Involvement. IDA's current lending strategy is to support the Government's economic recovery program by focusing on the social sectors, as well as maintaining and/or improving the economy's productive capa- city. The proposed operation would assist industrial enterprises to restruc- ture and adjust to a newly competitive environment. This would also strengthen the Government's ability to continue implementation of trade liberalization reforms. IDA's involvement is especially critical at this time, to ensure that the trade reform's potential benefits result in a more dynamic, competitive, and export-oriented industrial sector. In addition, through this operation, IDA would be complementing the Government's parallel parastatal restructuring efforts. 10. Proiect Obiectives. The proposed project would aim at providing tech- nical and financial assistance to private industrial enterprises that need to restructure in order to adjust to the new environment resulting from the trade reform and to those enterprises (primarily small- and medium-sized firms) that  - 3 - need financial assistance but no restructuring. Specifically, the project would seek to assist firms to improve productivity and maintain or increase employment, through financial restructuring, including divestiture of non-pro- fitable activities, changes in or expansions of products and/or activities, product quality improvements, reorganization of production processes, changes in management structures, and in marketing strategies. In addition, the pro- posed project would strengthen: (i) FDI's institutional capability to play a more active role in industrial promotion; (ii) the Central Bank's supervisory and regulatory functions; and (iii) the industrial regulatory framework. 11. Proiect Descrintion. The total project cost is estimated at US$24.6 million and would include: (i) an investment component (US$23.2 million), and (ii) a technical assistance component (US$1.4 million). The investment compo- nent would finance restructuring of private industrial enterprises and inves:- ments by small and medium enterprises. New export-oriented and efficient import-substitution investments, including the export assembly sector, also will be eligible for financing. Of the investment component (US$23.2 million equivalent), 43Z would be financed by IDA, 23Z by FDI, 10? by financial inter- mediaries, and 242 by final beneficiaries. FDI would onlend the funds to final beneficiaries at market interest rates, through financial intermediaries. FIs would retain an adequate spread to cover administrative costs and credit risk and provide them with a reasonable return. FIs would cover the credit risk for subloans rediscounted by FDI, except for those portions covered by FDI guaran- tees. The nominal foreign exchange risk would be borne by the Government. However, given that interest rates to final beneficiaries are freely determined within a broad range and that the capital market is open, interest rates are considered to reflect investors' perception of the relative return to assets denominated in foreign and domestic currencies. As a result, the foreign exchange risk premium reflected in the interest rate, would be borne by the final beneficiary. 12. The technical assistance component (US$1.4 million) comprises the following: (a) US$0.8 million to finance consultant services to assist FDI in implementing the project, explore broadening FDI's scope of operation, strengthen its project preparation and extension service facility, and finance training for FDI and selected financial intermediaries' staff in project preparation, evaluation, and supervision; (b) technical assistance for the Central Bank (US$0.1 million) to strengthen the Supervision Department's internal procedures and the control and inspection of banks; (c) technical assistance to customs administration (US$350,000) to finance staff training to effectively utilize the new trade data system designed under the Trchnical Assistance Credit (Cr. 1786-HA) and to set up an export verification system to reduce the underinvoicing by exporters; and (d) assistance to the Ministry of Finance (US$100,000) to finance studies to: review existing banking legislation and regulations, particularly in the areas of risk classification and capital requirements, and reform them to the Haitian context; review the non-banking financial sector and the informal credit market, with the objective of assessing their size and importance to the economy and the need for regulation; and review the development banking sector, with the objective of assessing the need for restructuring, consolidation, or closing of existing institutions. A breakdown of the costs and financing are shown in Schedule A, with procurement methods and disbursement amounts indicated in Schedule B. A timetable of key processing events and the status of Bank Group operations in Haiti are given in Schedules C and D, respectively. A map of the country is attached. The Staff Appraisal Report, No. 8013-HA, is also attached.  -'4- Aareements Reached 13. The appraisal mission received from the Government a policy letter assuring IDA that it would continue implementation of the trade policy liberalization reforms and maintain a stable fiscd.l and monetary stance, in consultation with the Bank and the DMP. This policy letter would form part of the processing package, including this operation and the proposed Economic and Social Fund Project (FY91). 14. During negotiations, agreement was reached on the followings (a) With the Government of Haiti on: (i) continued implementation of the trade reforms; (ii) taking the necessary actions, based on studies completed under the Technical Assistance Credit (1786-HA) and in agreement with IDA, to strengthen customs administration and streamline customs procedures; and (iii) carrying out finance studies including the country's banking legislation and regulations, development banking sector and the non-banking financial sector, exchanging views with IDA on actions to be taken to implement the recommendations of the studies. Dated covenants are included in the legal documents; (b) With the Government of Haiti and the Central Bank on: (i) terms and conditions for making available the proceeds of the IDA Credit to FDI; (ii) interest rates to final beneficiaries and spreads to FDI and financial intermediaries; (iii) retention of the foreign exchange risk by the Government; (iv) capitalizing the proportion of the cost of in-depth studies paid by FDI as part of the restructuring subloans; and (v) taking the necessary actions to improve the Central Bank's capabilities with respect to its regulatory and supervisory role over the banking sector; and (c) With the Central Bank on: (i) proper organization and FDI staff- ing, including revival of the Project Advisory Comittee; .ii) content of FDI's Statement of Policies and its Operations Manual; (iii) eligibility criteria for participating financial intermediaries; (iv) the basic content of the agreement between the Central Bank and the participating financial intermediaries; (v) maximum subloan size, subproject approval requirements, and maximum guarantee coverage; (vi) replenishment of FDI's foreign exchange resources; (vii) a free limit for IDA review to be set at US$300,000 equivalent, and all restructuring subloans to have IDA's prior review; (viii) semiannual review of the interest rate to the final beneficiaries and the intermediation margin; and (ix) FDI disbursements to be linked to compliance by the enterprises to implementing reccommendations in the respective restructuring plan. 15. The signing of participation agreements, in form and substance satis- factory to IDA, by the Central Bank/FDI and at least three participating financial intermediaries, the signing of a subsidiary agreement with the Government of Haiti and the Central Bank for the transfer of proceeds of the IDA credit to FDI, and the amendment of FDI's Statement of Policy to incor- porate the new conditions agreed under the proposed operation are conditions of effectiveness.  16. Benefits. The proposed project would facilitate the industrial sec- tor's transition from a highly protected environment, to one in which market forces prevail. By providing foreign exchange financing and technical assist- ance, it would sustain modernization efforts of export-oriented or efficient import-substitution enterprises and reduce urban unemployment. Purthermore, it would assist the Government to simplify the industrial regulatory environ- ment and provide institutional strengthening to FDI and to the Central Bank. 17. Risks. If recent political instability were to persist, project implementation could be adversely affected. Investment credit demand is high- ly sensitive to the current unstable political environment, and restructuring, as well as new investments, may be slow to materialize. Influential long- protected industrialists might put pressure on the Government to reverse the trade liberalization reforms. The above risks would be mitigated by the strong pipeline of industrial restructuring proposals and the Government's efforts to: (i) broaden the basis for an internal dialogue, through revival of a public/private consultative committee; and (ii) provide adequate financial resources to FDI to support the restructuring efforts. In addition, the Government has committed itself, in a policy letter submitted to IDA, to continue implementation of trade policy reforms. 18. Another risk is that the banking system may be reluctant to increase its financial exposure to the industrial sector--perceived more risky for the provision of term financing--which in turn might slow down disbursements. The project, however, is designed in such a way as to encourage participation by the banks, by including an adequate spread and, in the case of the restruc- turing component, by participation of the commercial banks in the drawing up of the restructuring plans for some important clients. In addition, the banks have gained experience in second-tier lending under the first operation. 19. Recommendation. I am satisfied that the proposed credit would comply with the Articles of Agreement of IDA and recommend that the Executive Directors approve the proposed Credit. Barber B. Conable President Attachments November 2, 1989 Washington, D.C.  7- SCHEDULE A MAITI INDUSTRIAL RESTRUCTURING AND DEYELOPNENT PROJECT Rstimated Costs and Financing Plan Estimated Costs: 1/ Local Forein Total -------- US$ millions -------- Proiect Ttems Investment Projects 10.5 12.7 23.2 Technical Assistance 0.4 1.0 1.4 Total Proiect Cost 10.9 13.7 24.6 1! Rounded. Fimancina Plant Local Foreian Total ------(US$ Millions)----------- FDI/Government 5.3 - 5.3 Intermediaries/ 5I2 2.7 7.9 Final Beneficiaries 5 2 7 IDA 0.4 11.0 11.4 Total Project Cost 10.9 13.7 24.6  SCREDULS B MUITI INDUSTRIAL RESTRUCTURING AND DEVELOPMENT PiOJECT Procurement Method 9nd Disbursements o1 (US$ Millions) Project Item Procurement Method Total Cost Other Fixed Assets and 23.21 23.2 Working Capital (10.0)2 (10.0 Technical Assistance 1.41 1.4 of which, (1.4) (1.4) - Microcomputers and (0.1)3 (0.1) vehicles Consultant Services (1.3)4 (1.3) Total 24.6 (11.4)1 (11.4) 11 Goods would be procured according to standard comi_rcial procedures for DFC-type projects, acceptable to IDA, which in this case would entail three local price quotations. 2/ Figures in parentheses correspond to the amounts financed by IDA. 31 Local shopping. 41 Consultants would be selected in accordance with principles and procedures satisfactory to IDA. DISBlRSEXENTS (USS Millions) Category Amount Percentage Credit U30.0 - 65? (07expenditures disbursed by FDI under each subloan) Technical Assistance 1.4 100? (of expenditures) Estimated IDA Disbursements% (based on Average Profile for IDF Bank Loans in Region) -___________------- US$ Millions -------------------- FYs: 1990 1991 1992 1993 1994 1995 Annual 0.4 1.0 3.1 2.9 2.6 1.4 Cumulative 0.4 1.4 4.5 7.4 10.0 11.4  -9- SCRUDULZ C E^ITI INDUSTRIAL REST ACSARIRG AND DEVELOERNT PROJECT timetable of Xev Prolect Processinut Events (a) Time taken to prepare: 23 months (b) Prepared bys Fonds de D4veloppement Industriel (FDI) (Industrial Development Fund) and IDA (c) First IDA Mission: February 1987 (d) Appraisal Mission Departure: April 1989 (e) Negotiations: September 1989 (f) Planned Date of Effectiveness: February 1990 (g) List of Relevant PCRs and PPARs: Industrial Credit (Cr. 1131-HA)  - 10 - SCHEDULE D STATUS OF BANK GROUP OPERATIONS IN HAITI A. Statement of Bank Loans and IDA Credlt, as of September 3a, 1989 Amouat Credit Flseal (Les Cancel lotion) No. Year Borrowr Purpos Boonk IOA Undisbursed. One loan ond 17 creitso hove been fully disbursed 2.6 109.6 1257-H 1092 Re pubiIc of HNiti Forestry 4.0 0.4 FP01-HA 1963 Republic of Haiti Urban DOvelopment 18.9 1.5 IS1SHAm 1093 RepubIlc of Haiti Urban Devolopment 6.0 1.8 1416-H 1984 ReIlc of Haitl Rural Development tI 19.1 0.7 1627-H 18 Reublic of Haiti Fourth Poer 22.1 2.6 1592-HA 1985 Repubilc of Haitl Fourth ducution and Training 1.O 5.6 1756-HA 1961 Repubic of Haiti Transport VII 2e.0 8.0 1786-HA 1987 RepubliIc of Naiti Technical Assistance 8.9 0.2 2052-HA 1989 1/ Repubilc of Haiti Water Supply 20.0 19.4 2095-HA 1989 1/ Republic of Haiti Power V 24.0 28.7 Total 2. 84J8. 72.9 of which has been repaid 2.6 8.2 Total Nov OAttanding 2/ 339.9 Amount Sold 0.4 of which has been repaid 0.4 Total UndisbursW ed_ I/ Not yet effective. 2/ Difference due to flucwtuaton in SOR/USI exchange rate. Converted at rate prevailing at Soptembr 39, 1969. B. Statemnt of IFC InveOtmnta as of September 89, 1989 ----US8 Ntillion- Investment Flical Typo of Number Year Obligor Busineos Loan Equity Total 620-HA 1882 Promoteurs et Investisseurs Integated Poultry 1.4 0.1 1.6 Assoctee, S.A. Total Gross Comitmonts 1.4 0.1 1.5 Lem Repaymnts, Cancellations, Sales 1.1 - 1.1 Total commitments now held by IFC 6.3 0.1 9.4 Total Undisbursed 0.9 0 .0 6.  'r ~~~~~~~~~~~~~~~~~~~IBRD 21143 C- 'SA' - , ~ A *~~~ - mae St cr o .8kr/~_ 9{o v1 0 I X ~~~~~~~~~~~~~~~~~~~S..b M^N,,,\ 8-X.<- FiUb1 6 H A I T I St R. | _ ~~Annlual *v1g rjflll in tni[li@n@ws C. 6 _ Main highways> Rd .o