Turkey - Bursa Water and Sanitation Project

Fx ~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~..- 4-~ -b k S in- . - ' I!p.lii w., C C  CURRENCY EQUIVALENTS Currency Unit - Turkish Lira (TL) June 1992 - TL6885 = US$1.00 August 1992 - TL7094 = US$1.00 Novenber 1992 - TL8110 = US$1.00 ABBREVIATIONS AND ACRONYMS BMM - Bursa Metropolitan Municipality BUSKI - Bursa Water Supply and Sewerage Authority DM = District Municipality DSI - State Hydraulic Works EBFs - Extra Budgetary Funds IB - Iller Bankasi (Bank of the Provinces) IBRD - International Bank for Reconstruction and Development IFC = International Finance Corporation IMF = International Monetary Fund GDP = Gross Domestic Product GEF = Global Environment Facility GNP = Gross National Product METAP - Mediterranean Environmental Technical Assistance Program MIGA = Multilateral Investment Guarantee Agency OECD = Overseas Economic Community Development PSBR - Public Sector Borrowing Requirement SALs = Structural Adjustment Loans SECALs = Sector Adjustment Loans SIS = State Institute of Statistics SOEs = State-Owned Enterprises SPO - State Planning Organization TURKEY - FISCAL YEAR January I - December 31  FOR OMCIL USE ONLY JhU3IC OF MM BURSA WATER AND SANITATION PROJECT ILan and Pro ect Summary Borrowers: Bursa Water Supply and Sewerage Authority (DUSKI) Bursa Metropolitan Municipality (BMM) Guarantor: Republic of Turkey Loan Amount: US$117.0 million equivalent to BUShI US$12.5 million equivalent to BM Total of US$129.5 million equivalent Terms: Seventeen years, including five years grace, at the standard variable interest rate. Financing Plans (US$ million equivalent) BUSRI Total IBRD Loans 117.0 12.5 129.5 Internal Cash Generation 118.4 10.S 128.9 Total 235.4 23.0 258.4 The proposed loans would finance the foreign exchange cost of the project. Internal Rate of Return: On Water Supply & Sewerage Part: 8.2% Staff A=oraisal ReDort: No. 11252-TU Mazs: IBRD Nos. 24150R, 24151R, 24152R, and 24153R 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 authoristion.  MEMORANDUM AND RECOMMENDATION OF THE PRESIDENT OF THE INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT TO THE EXECUTIVE DIRECTORS ON PROPOSED LOANS TO THE BURSA WATER SUPPLY AND SEWERAGE AUTHORITY AND THE BURSA METROPOLITAN MUNICIPALITY PART I: INTRODUCTION 1. The following memorandum and recommendation on a proposed loan to the Bursa Water Supply and Sewerage Authority (BUSKI) for US$117.0 million equivalent, and a proposed loan to the Bursa Metropolitan Municipality (9MM) for US$12.5 million equivalent, with the Guarantee of the Republic of Turkey are submitted for approval. The loans would be made on standard Bank terms to assist in the construction and implementation of sewerage, stormwatee drainage, water supply and solid waste management systems in the Greater Bursa. area, and assist in the institutional development of the agencies in charge of operating the systems. PART IIt COUNTRY POLICIES AND THE BANK GROUP'S ASSISTANCE STRATEGY A. Trends in Policies and Performance 2. Back_round. In 1980, following a serious external crisis, Turkey embarked on a stabilization and reform program which represented a major break with past policies favoring import substitution, market intervention and reliance on state enterprises. Between 1980 and 1986, economic growth averaged about 5 percent per year, inflation was reduced to 28 percent per annum, and, as a result of an outward-oriented strategy, exports as a share of GDP increased threefold, substantially improving Turkey's creditworthiness. After 1986, there was further progress in integrating Turkey into the world economy, Dut most of the previous gains In reducing inflation were lost with the reemergence of serious fiscal imbalances. External liberalization continued as import restrictions were reduced, export subsidies curtailed, and controls on capital transactions substantially diminished. The process culminated in a reform of the exchange rate system which left it Iorgely free of restrictions on external transactions. 3. These achievements have been overshadowed by persistently high deficits and inflation. After being lowered successfully from a three-digit level of 1980, inflation starting rising again from 1987 to reach 60 percent in 1990. The fundamental cause was the public sector deficit. Fueled by the poor performance of state-owned enterprises (SOEs), the public sector borrowing requirement (PSBR) reached 11.6 percent of GNP by 1990. On the external front, the performance remained strong, with the current account shifting into surplus in the late 1980s, aided by growing revenues from tourism and workers' remittances and continued export growth. Foreign direct investment also surged, and Turkey was able to diversify its sources of foreign financing while repaying the last of its IMF and rescheduled commercial debt. 4. The 1980s also witnessed substantial political changes. After three years of military government, an elected civilian Government took over in 1983. Since the political liberalization, economic policy has had to operate in an increasingly complex environment. The Motherland Party stayed in power till October 1991, with Mr. Ozal taking over as President in 1989 after a  -2- presidential election held through a parliamentary vote. In general elections held in October 1991, the Motherland Party lost and a coalition government was announced between Mr. Demirel'e True Path Party and Mr. Inonu's Social Democrat Populist Party. Prime Minister Demirel's Government announced its intention to stabilize the economy and maintain the outward-looking and market-oriented policy stance of the 1980s. The coalition has shown resilience, enduring a weakening of the Social Democrat Populist Party due to the defection of several of its leaders. Foreign policy issues, ethnic unrest at home and in neighboring countries, and the need to quell terrorism, continue to preoccupy the leadership. Public support for the Government will be tested in March 1994, when nationwide local elections will be hald. Recent Developments 5. mconomig. Economic performance in 1991 was influenced by three major eventss the Gulf war, a change in Government in mid-year, and national elections in October. These events heightened uncertainty, depressed investment and economic activity and disrupted the exchange and financial markets. After expanding by 9.2 percent in 1990, GNP grew by only 0.3 percent in 1991. As domestic political events unfolded, electoral considerations dominated the policy agenda, and the fiscal deficit widened. The PSER rose to 16.9 percent of GNP and consumer price inflation increased to reach an average of 66 percent (Table 1). The underlying causes of the fiscal deterioration, which stemmed from the pol4tical agenda, includeds generous wage increases for civil servants and public sector workers, agricultural support policies, and the poor performance of the 803E. 6. Prime Minister Demirel's Government, which took office in late 1991, thus inherited an economy with a high fiscal deficit and rising inflation. The Government's program was aimed at reducing the PSBR by accelerating tax collection coupled with a partial tax amnesty, implementing a centralized cash management scheme for the Extra Bud atary Funds (BBFs), accelerating privatization and improving the financial performance of SOEs. The implementation of the anti-inflationary strategy was, and continues to be, complicated by some real wage rigidity, a large domestic debt burden, a public investment program which had already been substantially cut since 1987, and significant tax evasion by individuals and corporations. 7. In 1992, little progress was made in dealing with key structural issues, including subsidies, in particular for agriculture; 80E divestiture and restructuring; and tax reform. Economic activity picked up and GNP growth is estimated at 5.4 percent, but this was a consumption-led growth reflecting large wage increases which took place in the second half of 1991. Private investment remained weak. The ElB were subjected to financial discipline and some fiscal adjustment took place. The P8BR is estimated to have declined from 16.9 percent of GNP in 1991 to 13.4 percent. Inflation remained high at 70 percent, as labor settlements continued to reflect past inflation rates, and inflationary expectations embodied in interest rates remained high. Without the needed fiscal adjustment, Central Bank credit to the public sector expanded rapidly, and the authorities concentrated on maintaining stability in the foreign currency markets. A reduction of the fiscal deficit is crucial to facilitate the recovery of private investment and provide an environmc.nt to improve productivity and competitiveness. Unless the problems of the major loss-making SOEs are addressed, the sector will remain a major drain on the public finances. With nationwide local elections scheduled for March 1994, there is a risk that  -3- the Government's political agenda will exacerbate the difficulties of improving the fiscal deficit. 8. Thus, in many respects, Turkey iL in a similar position at the start of 1993 ae that of a year ago. The reduction of the fiscal deficit remains the top priority. However, the conditions under which the adjustment will have to be implemented have charged. Past policy sl,ppage has increased the rigidity of inflationary expectations. The process of currency substitution, which accelerated in the last two years, has not reverse and has reduced the room for non-inflationary financing of the deficit through monetary expansion. Given the openness of Turkey's capital account, attempts to reduce the Government's interest burden by resorting to Central Bank financing and by interfering with interest rate determination, had an adverse effect on capital flows and reinforced currency substitution. As Central Bank reserves declined in early 1992, tne authorities were forced to raise interest rates to reverse the process. Table 1: KEY MACROECONOMIC INDICATORS 1982-92 (Percent except as indicated) 1982-86 1987-91 1990 1991 1992 1/ GROWTH RATES GNP per capita 3.0 2.2 6.8 -1.8 3.2 GNP e.S 4.4 9.2 0.3 5.4 Consumption 5.2 5.2 11.2 2.0 9.5 Investment 7.4 1.7 31.6 -14.6 0.7 Exports GNFS 16.2 14.0 9.1 11.4 3.5 Imports GNFS 14.4 13.3 35.4 -2.1 10.5 GOP f.c. 5.1 4.2 8.2 1.1 4.9 Agriculture 4.1 1.6 11.1 -0.8 3.5 Industry 7.4 5.6 8.1 3.2 6.6 Services 4.6 4.4 6.5 0.8 4.6 INFLATION (per;od average) Wholesale Prices 35.9 53.8 52.3 55.3 62.1 Consumer Prices 37.9 60.3 60.3 66.0 70.1 PUBLIC SECTOR BORROWING REQUIREMENT (PSBR) PSBR/GNP 2/ 6.0 10.3 11.6 16.9 13.4 EXTERNAL DEBT Stock of Debt (USS Bitl) 24.1 44.5 49.2 50.3 50.9 Debt / GNP 46.5 53.7 46.2 48.1 46.0 Debt t Export 3/ 211.5 206.4 195.1 194.7 180.1 Debt Service / Export 32.2 33.2 29.1 30.5 25.8 Interest Payment / Export 16.5 14.2 13.4 12.8 10.0 Interest Payment / GNP 3.6 3.7 3.2 3.2 2.6 Current Account / GNP -2.6 0.0 -2.5 0.3 -1.1 CENTRAL RANK RESERVES (USS biLl) 2.6 5.6 7.6 6.6 7.6 Sources: SIS, SPO, Treasury, World Debt Tables I/ Estimates 2/ Average for 1984-1986. For the 199012 period, Gulf crisis related grants are excluded. 3/ Exports of goods and services  -4- 9. Turkey's external debt in 1992 was estimated at US$50.9 billion. Creditworthiness indicators have improved since the mid-1980s. The debt service ratio has fallen from an average of 32.2 percent during 1982-86 to 25.8 percent in 1992, and the ratio of interest payments to exports has declined from about 16.5 percent to about 10 percent in 1992 (Table 1). External intereat payments now absorb about 15 percent of government revenues, a smaller share than in the mid-1980s. As explained in paragraph 12 below, there has been a reduction in the average maturity of long-term debt. Short-term debt as a pexcentage of total debt increased from about 15 percent in 1988-89 to about 20 percent in 1992. About two-thirds of the debt is at fixed interest rates. 10. Social. Turkey's social indicators have improved considerably over the last two decades. The average life expectancy of both men and women has gone up; mortality rates have declined; fertility has dropped; and literacy rates have increased appreciably. For example, infant mortality has declined from 169 per 1,000 live births in 1965 to 60 by 1990. The fertility rate has dropped from 5.7 in 1965 to 3.5 in 1990; and the literacy rate has improved from about 60 percent to abor3 81 percent. However, Table 2 below shows Turkey is behind other middle income countries for selected social indicators. This is true, for example, with respect to life expectancy, infant mortality, as well as literacy rates. In addition, there are significant disparities among regions, especially in basic health and education services, and in particular for women and girls. The population growth rate, averaging about 2.4 percent, remains high. Table 2: SELECTED SOCIAL INDICATORS ComqaratiVe Data Turkey Chile Colombia Mexico Poland Tunisia Population Grouth Rate CX) (1980-90) 2.4 1.7 2.0 2.0 0.7 2.3 Crude Birth Rate (per 1,000 inhabitants) 28 22 24 27 15 28 Crude Death Rate (per 1,000 inhabitants) 7 6 6 5 10 7 Life Expectancy at Birth (years) 67 72 69 70 71 67, Infant Mortality (per 1,000 lfve births) 60 17 37 39 16 44 Iuuminization children under one (X) OPT 74.0 99.0 87.0 66.0 98.0 93.0 tleasles 67.0 98.0 82.0 78.0 96.0 82.0 Fearles as X of Labor Force (1990) 30.0 20.7 14.4 18.6 45.6 16.2 Literacy Rate 80.7 93.4 86.7 87.3 na 65.3 Primary Pupil/Teacher Ratio (1989) 30 29 30 31 16 30 Primary Net Enrotlment (X, 1989) 84.0 89.0 69.0 100.0 97.0 95.0 GNP per capita (USS, 1990) 1630 1940 1260 2490 1690 1440 Sources: World Development Report, 1992 Social Indicators of Development, 1991-92 B. The External Environment 11. The spillover effects of domestic imbalances on the exter:%al accounts have been mitigated by a flexible exchange rate policy which helped to maintain the  -5- competitiveness of Turkish goods. In 1990-9.a. the Gulf Crisis had an important impact on the external sector, but its effects were compensated by large grant inflows. All..ough in 1990, domestic policies and the Gulf Crisis led to a marked deterioration in the externa. accounts, in 1991 sizeable Gulf Crisis- related grants (1.8 percent of GNP) and a decline in the trade deficit, mostly due to a slowdown in private demand, compensated for the decline in tourism revenues anc. workers' remittances and led to a small current account surplus. Overall, the external sector adjusted well to the shocks. The loss of traditional export markets, such as Iraq, was compensated by inroads into other markets. The same resilience was apparent in the service sector where new markete were explored, and service contractors aggressively and successfully tapped new business opportunities. 12. In 1992, in spite of the good performance of the export and tourism sectors, large import growth and lower inflows from Gulf crisis-related grants led to a current account deficit which is estimated to have reached US$1.1 billion compared to a US$0.3 billion surplus in 1991. Foreign direct investment rose from around US$100 million (net) per annum in the mid- and late-1980s to US$783 million in 1991, and a further increase is estimated for 1992. Higher direct foreign investment has contributed to reducing Turkey's external borrow- ing requirements. In 1992, Turkey was very active in the bond markets, successfully tapping the German, U.S., and Japanese markets after Standard and Poors gave Turkey a triple B rating. Treasury issued US$2.1 billion in bonds with maturities ranging from 5 to 7 years. Turkey's success over the past three years in attracting private capital from a variety of sources, despite financial instability, indicates considerable resilience and external confidence in the country's prospects. However, the falling share of bilateral and multilateral financing and the uncertainty attached to private flows has meant that Turkey's financing arrangements are seldom assured over any significant time period. This trend has also shortened the average maturity of debt. Continued macroeconomic instability could diminish the willingness of domestic investors to finance Government borrowing and have an adverse impact on workers' remit- tances and foreign creditor perceptions, necessitating a major downward adjustment of growth. 13. Turkey has gained substantial market access and has succeeded in developing strong and broad-based trading links with its European and Middle Eastern trading partners. The OECD countries are Turkey's main trading partners, representing about two-thirds of both exports and imports. Among them, Germany is the largest trading partner accounting for one-fourth of Turkey's exports and about 15 percent of its imports. Turkey is also actively exploring trade links with the new republics in Central Asia. 14. As the Gulf war experience showed, Turkey is vulnerable to a shock coming from one of its major trading partners. However, it has sizeable foreign exchange reserves and its exporters of goods and services (mainly construction), have proven adept at shifting trade to other countries. A major shock stemming from a slowdown in world trade or a decline in the terms of trade could be cushioned for a time by drawing down reserves or through increased borrowing. Turkey's ability to maintain reserve levels or external borrowing capacity which it can call upon in difficult times depende greatly on its following appropriate domestic policies. The persistence of such shocks, however, would lead to a need to compress imports and, hence, growth. In contrast, moderate interest rate shocks would increase the payments required by a relatively small amount and could readily be met from reserves.  -6- Medium-Term Prosnacts 15. The Government has announced its commitment to reducing the fiscal deficit and inflation in the medium term. The 1993 budget, if fully implemented, will be a signjificant step towards this goal. The deficit reduction will have to be anchored on tax reforms, preparatory studies for which are now underway; a revision of agricultural support policies, currently being reviewed by the authorities; and public enterprise reform. There is now a growing acceptance by the Turkish public that in the absence of public enterprise reform, it will be very difficult to permanently lower the PSBR and inflation. This may reduce the political obstacles to the reform of the sector. But the fiscal retrenchment is likely to be gradual. This is likely to reduce growth in the 1994-95 period below the average of the last decade. Yet, for the 1996-2001 period, GDP growth is projected to average 5.2 percent per annum, as a recovery of private investment is unleashed by bringing down the fiscal deficit to about 5 percent of GN: by 1997 and inflation is substantially reduced. In this scenario, creditworthiness will continue to improve. The continuation of the trade policies of the last decade should support a healthy export growth that will keep the current account deficit to less than one percent of GNP. By the year 2001, the debt-to-GDP ratio would decline to 29.3 percent while the interest-to- exports ratio would fall to 7.2 perc-nt. 16. There is also the possibility that Turkey would be decidedly slower in adopting reform measures and, therefore, current deficit levels and inflation rates would persist. Continued macroeconomic instability would diminish the willingness of domestic investors to finance gover.=ment borrowing and reduce external capital inflows. Growth would be lower than in the scenario above because of the stop-go fiscal and monetary measures needed to prevent inflation from accelerating, the adverse effect of uncertainty on private investment, and difficulties in attracting flows of foreign capital and workers' remittances. 17. Past Bank Assistance. The Bank's assistance during the 1980s supported the Government's objectives of placing greater reliance on market forces and adopting a more outward-oriented strategy. During the first half of the decade, the main vehicle for the Bank's assistance was a series of structural adjustment loans (SALs) totalling US$1.6 billion. These were followed in the second half of the decade by Bank support for the broadening and deepening of the adjustment process at the sectoral level. Sector adjustment loans (SECALs) to support reforms in the agricultural, energy, and financial sectors totalled US$1.3 billion together with four B-loans amounting to US$112 million. Since 1989, Bank lending has focussed on inv3stment, with an emphasis on the rehabilitation and expansion of Turkey's economic infrastructure (Table 3). Commitments during FY90-92 averaged about US$520 million annually. A Bank loan for an earthquake rehabilitation and reconstruction project in eastern Turkey was approved earlier this fiscal year. 18. Progress in instituting policy reforms under the SALs was uneven, particularly in public sector reform. One of the lessons learned is that the adjustment operations should have been accompanied by stronger structural and institutional changes to achieve a sustained reduction of the public sector deficit. Restructuring of the public enterprise sector in particular, the performance of which deteriorated sharply in recent years becoming a source of instability, should have been an integral part of the reform package. Experience under the SECALs was also mixed; most of the specific sectoral reform measures were put in place, but it often took longer than originally  -7- anticipated, as the implementation period coincided with the slowing down of the domestic reform process. Although quite euccessful initially, more recently, the performance of credit operations has deteriorated. The underlying caueas include a general slowdown in investment, high intezest rates, and investors' expectations that plane for subsidised cred4t schemes announced by the Government would materialize. Under the circumstances, the cancellation of the undisbureed balances of two loans was agreed between the Government and the Bank. Table 3I IBRD CONMITNENTS BY SECTOR FOR FY8I-93 (USS mi illtion) Sector FY81-83 FY84-86 FY87-89 FY9O-92 FY93 Agriculture 230.4 442.5 400.0 118.0 77.0 Power 163.0 544.0 132.0 570.0 Oil, Gas & Coal 142.2 Transport & Telecom. 71.1 320.9 197.0 300.0 Urban & Water 88.1 9.2 522.0 173.0 129.5 Industry & Finance 364.1 162.7 504.5 309.2 Health 75.0 Education 94.5 174.3 90.2 67.0 Disaster Rellef 285.0 Adjustment Operations 980.3 976.0 837.6 TOTAL 2039.2 2549.8 2842.4 1560.4 558.5 19. Credit from the Bank Group comprised the largest single source of medium- and long-term financing for Turkey during the 1980.. Through December 31, 1992, Bank and IDA lending tc Turkey amounted to US$11.4 billion, through 133 operations (the last IDA credit was approved in 1973). As a result, IBRD's share of long-term debt disbursed and outstanding increased from 7.4 percent in 1980 to 15 percent in 1991. IBMD's share of total debt service increased from 12.1 percent in 1980 to 15.9 percent in 1991. Of total IBRD commitments, about US$3.1 billion remained undisbursed as of December 31, 1992. IFC commitments through December 31, 1992 totalled about US$1.1 billion. 20. As of the end of FY92, of the 34 projects in the portfolio, 10 had an overall rating of 3, 14 had a rating of 2, and the remainder had a rating of 1. The overall portfolio rating of 2 for FY92 reflects a modest improvement as compared to the rating of 2.2 for the previous year. Gross disbursements, however, are low and, despite systematic efforts to improve performance, have worsened in recent months. Disbursements for investment lending declined from US$443 million in FY91, to US$341 million in FY92, and only US$129 million in the first half of FY93. Or. a net basis, total disbursements turned negative in FY90, reaching minus US$309 million by FY92. Both the Government and the Bank are extremely concerned about this deterioration. The underlying causes for the decline Ln gross disbursements, and solutions to them, will be a major focus of a Country Strategy and Implementation Review scheduled for mid-February 1993  -8- 21. Project implementatio. in Turkey continues to be constrained by weak project management capacity, rapid turnover of key senior officials, coiplexities in Government decision-making processes, and cumbersome and lengthy procurement procedures. Another important constraint in recent years has been Government budgetary cuts, causing performance to fall below technical implementation capacity. Inadequate understanding of the Bank's procurement guidelines has also been a source of implementation delays. our strategy for portfolio management is summarized in paragraphs 41 to 43 below. C. The-Bank Grotn's Country Assistance Stratecg Development lssues 22. Following the success of the adjustment program of the 1980s, the major economic challenges fac'ng Turkey in the decade of the 1990w include stabilization, and a focus on sectoral issues which retard productivity growth. In parallel, after a decade of relative neglect, the elimination of poverty, a more even distribution of the benefits of growth, and the environmental impact of growth need to be tackled urgently. In the ahort term, hcwever, fiscal and monetary stability are the highest priorities. on the positive side, a much more robust and outward-oriented economy, with restored international creditworthiness and a dynamic private sector, puts Turkey in a strong position to meet these challenges. 23. The Immediate Acenda. The Government needs to take strong and effective action to reduce the fisca deficit on a permanent basis. It requires the restructuring of the SOB sector through commercialization and/or privatiza -n of SoBs, and increasing rovenues through tax reforms and improved tax administration. Although the Government has confirmed its commitment to commercializ'ng and/or privatizing SOEs, the political and legal environment has not been supportive. The share of SOBs in sectoral value added is disproportionately larger in mining (60 percent), energy (40 percent), and transportation and communication (38 percent), but has been declining in manufacturing since the mid-1980s (from 18 percent to 14 percent) because of the Government's decision to restrict expansion in the sector. Overall, the 30 largest SOEs account for some 10 percent of GDP at factor cost and employ approximately 3 percent of the labor force. In recent years, productivity has declined, and the financial performance of some major utilities--electricity and railways--has deteriorated. SOBs accounted for about one-half of the fiscal deficit in 1990-91. Of the total SOB borrowing requirement for 1991, about 40 percent is attributable to the Government's agricultural support programs which are administered through SOEs. 24. An effective fiscal program calls for significant institutional changes in the SON sector, including an effective divestiture agenda and a transformation in governance. For SOEs unlikely to be privatised (e.g., the railways and some utilities), the Government needs to clarify their mandate and commercialize their operations. Although the Government is reviewing the laws regulating the operation of the SOBs, the tim being to take them out of the political ambit, they remain subject to political interference. The depoliticization of SOB operations (including puLlic utilities and SOEs which administer the Government's agricultural price support programs), is an imperative if the fiscal deficit is to be reduced on a permanent basis. A Bank review of the SOE sector requested by the Government is being fi.,alized. In addition, the Government and the Bank are jointly studying the possible design of a social  -9- safety net, including income and employment support. and a social security system. This is a prerequisite if the process of reforming the SON sector is to succeed. 25. The relatively low yield of the tax system in Turkey is contributing to the fiecal imbalance. In spite of high statutory tax rates on corporate and personal income, Turkey's tax burden In 1990 was the lowest among OECD countries. Inadequate administration, tax evasion, and a large number of exemptions and rebates are among the underlying problems. Measures to improve the efficiency of the tax system and ensure a sustainable increase in revenues includes a revision of the corporate tax to account for the effects of inflation and to r'duce exemptions and rebates; the gradual elimination of expenditure rebates in the personal income tax system; a rationalization of the system of investment incentives; and improvements in tax administration. In the short- term, tax reform measures may need to be supplemented with increases in VAT rates. 26. The Medium-Term Acenda. Accelerating Turkey's productivity growth in the 1990s will also require investment to develop its human capital base. Simultaneously, comprehensive measures are needed to alleviate poverty, particularly in the eastern parts of the country, reduce regional disparities, and prot!-ct the environment from the adverse impact of growth. Turkey still has almost half of its labor force in the agricultural sector, an unemployment rate close to 10 percent of the civilian labor force, and a rapidly growing population. The Government is faced with the complex task of upgrading the quality and availability of education and vocational training, health and basic services, as well as implementing specific poverty alleviation measures. The Government recognizes this need and has given renewed emphasis to human resource development in the Sixth Five-Year Plan (1990-94). Finally, while population growth is expected to decline gradually (from 2.4 percent currently, to 2 percent by the year 2000), increasing education enrollments, especially for women and for people in the rural areas, provide an opportunity to further reduce population growth. 27. The Government needs to address the issue of the disparities in the economic productivity and the differences in per capita incomes among the regions. The underlying causes includes differences in natural resources, in the human capital base, and in the levels of infrastructure and supporting services. To date, progress has been insufficient in redressing these problems, in particular with respect to basic education and health services. The main instruments adopted by the Government consist of disincentives for industrial location in the three main metropolitan areas (Istanbul, Ankara, Izmir) and substantial incentives for locating enterprises in the less-developed reglons. However, these instruments have not thus far succeeded in stimulating investment in the priority regions to an appreciable extent. The Government's efforts should be redirected, shifting away from large infrastructure investments and tax incentives, to smaller, economically viable, and well-focussed investments to fill critical gaps in infrastructure, and placing greater emphasis than hitherto on the equitttle development of the human capital base. 28. Rapid population growth, urbanization, industrialization, tourism, and intensification of agriculture have placed increasing strains on Turkey's atmosphere, waterways, ground water, land resources, and cultural heritage. Public awareness about the costs of environmental degradation and the resolve of the central Government and local authorities to develop positive responses which  -10- ensure sustainable growth have risen dramatically in Turkey in recent years. Accordingly, environmental concerns rank high on the public policy agenda, and there is a growing consensus that the economic and social returns from pollution abatement and environmental protection justify public investment. 29. Technological progress is also important for accelerating Turkey's productivity growth and strengthening its International competitiveness. Experience in other countries suggests that, in addition to establishing technology standards and providing advice, Government actions to correct imperfections in technology information and provide infrastructure, generate high social returns. The Government is in the process of determining its broad strategy for technology development and the supporting institutional infrastructure. A first phase is being implemented under a Bank-financed Technology Development Project. Ihe Bank's Prooram 30. The Bank's assistance strategy for Turkey is shaped by the Government's policy agenda. But our ability to provide more comprehensive support is constrained by the difficulties the Government is experiencing in implementing necessary policy measures. The political sensitivities associated with the needed reforms, particularly in the public sector, are compounding the difficulties. The Bank's program would reflect a graduated response, with the level and composition of future lending depending on Turkey's macroeconomic performance, sectoral policies and financing requirements. Lending levels could range from a low of about US$350 million a year to US$1 '-l1lion, depending on progress in implementing public sector reforms, improving portfolio management, and upgrading administrative capacity. 31. For the next two to three years, unless there are significant policy shifts, and unless the Government forcefully implements macroeconomic and sectoral policies which succeed in reducing the fiscal deficit and lowering inflation, Bank lending levels are expected to remain at the low end of the range. Based on our discussions with the Government and portfolio performance, we expect that in a low case scenario, Bank assistance will be limited mostly to urban infrastructure (primarily water supply and sanitation), human capital development, and environmental protection. Such assistance would, of course, be predicated on the Government's willingness to tackle relevant policy and institutional issues in these sectors. In this scenario, given an unsatisfactory macroeconomic situation, we would expect to continue to play a technical and advisory role with respect to structural reforms required to reduce the fiscal deficit. In addition, to help lay the basis for publlc sector reforms, we would build upon recently initiated E8W on labor restructuring issues associated with SOE reforms and the design of a social safety not. 32. Under the low case, our program would emphasize institutional and policy improvements in urbL. infrastructure, education, and health. The program would also address environmental concerns. In investment le,vaing operations, reforms would include the streamlining and strengthening of institutions, measures to increase financial and operational efficiency, and policies to ensure that improvements in urban and social infrastructure are sustained. The latter would be critical for enhancing the enabling environment for private investment. Also important is support for improved management of natural resources and increased private sector involvement in urban infrastructure investments. Given Government capaclty constraints, a central objective of our assistance strategy  -il- is to help strengthen management and implementation capacity to enable the Government to effectively utilize the financial resources it has mobilized. 33. Efforts are underway to tackle the massive backlog in the provision of priority infrastructure. The severe strains on the infrastructure resulting from rapid urbanization and industrialization have been compounded by the rapid growth in tourism. In our sectoral dialogue on water, sanitation and solid wasti management issues, the focus is on the need to upgrade the technical and managerial capabilities of sectoral agencies, to shift expenditures to maintenance of existing assets, to reduce the budgetary costs of infrastructure through increased commercialization and improved local resource mobilization, to strengthen implementing institutions, and to facilitate the entry of the private sector. In addition to assisting with the establishment of semi-autonomous water supply and sewerage agencies in Ankara, Istanbul, and Izmir under ongoing operations, and starting-up assistance for Bursa as proposed in this report, the Bank is helping to prepare projects to upgrade water supplies and sanitation in municipalities along the coast. These activities are being supported by the Environmental Program for the Mediterranean. Transport bottlenecks are also inhibiting Turkey's continuing development as a dynamic, export-oriented economy. Continued high levels of maintenance of the road network (which carries the major share of all traffic) are being supported by the Bank. Future Bank support for railway restructuring and the reform of ports administration, essential for dynamic growth, are constrained by the Government's reticence to tackle critical issues. 34. In the education sector, the Bank would continue support for the Government's efforts to upgrade the formal education system as well as non- formal vocational training. Future operations envisage support to upgrade the quality of and access to primary and secondary education, and improve regional equity. Similarly, in health, the main challenge is to expand basic services and reduce inequalities in the health status, especially between the western and eastern regions with emphasis on women and girls. Projects under preparation aim to expand to additional provinces ongoing improvements in equity, quality and access to primary health care. Concerned about the need to upgrade social services, the Government has recently requested Bank assistance to help develop effective and sustainable health insurance schemes. 35. The Bank's support for environmental assistance emphasizes improvements in the management of natural resources including soil conservation and reforestation, urban environmental management and industrial pollution control. Future Bank assistance would also support the adoption of appropriate environmental policies and regulations, improved monitoring and enforcement of environmental laws and regulations, and institutional strengthening to help ensure effective environmental planning and management. Building on a recently completed agricultural environment study, and the experience gained under the proposed Eastern Anatolia Watershed project, we expect to continue to focus on environmental issues in the eastern region, where subsistence farming predominates and natural resources are under pressure. 36. should there be a significant change in the Government's policies resulting in an sustainable reduction in the fiscal deficit, Bank lending levels would increase accordingly. In that event, the Bank's program would, in addition, include support for the restructuring and privatization of the SO0s; the provision of a social safety net accompanying SOE reform; the development of capital markets, creating increasingly fine-tuned instruments for corporate  -12- finance; and, as private investment accelerates, the development of technology infrastructure, thus promoting faster productivity growth and international competitiveness in industry. Furthermore, as explained in paragraphs 37 and 38 below, depending on the strength of the Government's sectoral policies, the Bank could provide more comprehensive assistance for the development of the agricultural and energy sectors. 37. The Government's agricultural pricing policies remain a central problem because they shift incentives away from high value crops and place a large burden on the Government deficit. Also, agricultural interest rates continue to be subsidized. Given current policies, the 8ank's ability to support the agricultural sector is constrained. While continuing to seek the reforms needed, the Bank would explore how best to strengthen support services, in particular for smallholder farmers, and increase productivity. 38. In the energy sector, the Government has been trying to improve demand management and stimulate the growing interest of private investors, with some success. Although some progress has been made in improving cost recovery for electricity, improvements in the operational and managerial efficiency and - financial accountability of TEX, the largest public power utility, are proving harder to achieve than expected. Any further Bank assistance for the sector would depend on the satisfactory implementation of a financial and operational restructuring program for TEX which has been agreed with the Bank. The Bank's objectives are to help increase the participation of private investors and lenders, both domestic and foreign, in the sector (a Bank-financed study to help update the regulatory framework is underway); to decentralize and eventually privatize power and gas distributiont and to reduce pollution. 39. IYC and_HIGA. IFC continues to maintain a strong pipeline of new investment projects. It expects to continue to support investments for the expansion and modernization of existing enterprises, as well as new joint ventures designed to bring in foreign capital and know-how. In addition, IFC will continue to explore opportunities to support companies that are fundamentally efficient, but because of inappropriate debt strategies are in need of financial restructuring to regain commercial health. IFC also intends to continue to explore opportunities for the privatization of SOEs, and for the financing of local private sector power generation and transmission facilities. In the area of capital markets, tIC will help create institutions to deepen domestic debt and equity markets and will help Turkish companies access international capital markets. Turkey joined NIGA in 1988, and has been one of the more active countries for MIGhA' guarantee program. MIGh has insured four projects in Turkey in the airline catering, banking, and tobacco industries. The airline catering project was a privatization, and one of the banking projects constituted the first time the HIGA issued insurance to an investor from a Category 2 country (Saudi Arabia). To date, NIGA has registered six projects in Turkey, including the aforementioned projects. Including commitments, MIGA's exposure in Turkey - US$84.5 million - is the second highest after Argentina. 40. IMF. Between 1980 and 1985, Turkey's economic program was supported by the IMF through a series of stand-by arrangements. Repayments to the IMF were completed in 1990. Following the liberalization of the capital account in 1989, Article VIII consultations for full convertibility were successfully concluded in March 1990. Discussions with the Government for the last Article IV consultations were held in November 1992.  -13- Portfolio Manaoament 41. Implementation problems in Turkey are reflected in both the build-up of the undisburoed portfolio of Bank loans and the weakness of the project pipeline an the thrust of the program has shifted away from fast-disbursing adjustment operations to investment lending. Improvements in implementation and management capacity are essential if the sectoral interventions included in the Bank's program are to materialize. At the general level, we are engaging the Government through regular country implementation reviews, covering both generic portfolio issues as well as project specific issues, highlighting the need to streamline time-consuming Government procedures and focussing on preparation work upstream to strengthen the project pipeline. Given the impact of procurement delays on Bank-financed activities, we are working with the Government to streamline procurement procedures. Improvements in public sector management will continue to be an integral element of our lending activities. In providing support to improve the capabilities of sectoral agencies, care is being taken to ensure that the technical assistance is tailored to the agencies' needs. We intend to further intensify supervision, building on the success in this area through the recruitment of local staff with the relevant technical skills in the Resident Mission. In addition to supporting sectoral agencies' efforts to build up a project pipeline, we will minimize project complexity to ensure that the capacities of implementing agencies are not overburdened, and reduce the proliferation of project agencies. 42. Drawing on the annual country implementation review process which is now in its third year, the Government and the Bank are taking steps to improve the health of the existing portfolio. Problem projects, with continued non- compliance with agreed policy and institutional measures and minimal prospects for improvement, have been restructured or cancelled. Extensions of closing dates are subject to more rigorous criteria than previously. Procurement problems are being dealt with more expeditiously than hitherto, in part because we have built up requisite expertise in the field. 43. In the process of strengthening portfolio management, we are placing emphasis on the following actions: o continuing to press for the standardization of bid documents together with translations (currently the cause of inordinate implementation delays) t o working together with core and line agencies to ensure the availability of adequate levels of counterpart funding on a timely basis (this problem has become more acute in recent years because of the persistence of large fiscal deficits); o continuing to tailor technical assistance to upgrade the management and administrative capabilities of implementing units and agencieol o instituting the increasing use of mid-term reviews under individual projects to benefit from experience on the ground and facilitate any course correction which might be needed; o promoting the practice of developing annual work programs and procurement plans;  -14- o for future projects, allowing longer lead times as necessary to synchronize Bank processing with Government preparation and processing. Areas of Special EmDhasis 44. Private Sector Develonment. The continued development of Turkey's private sector remains a central objective of the Bank's operational strategy. The Government needs to facilitate private investment, while at the same time, improving the efficiency and effectiveness of public investment. Accordingly, in our policy dialogue, as well as our analytical support and lending activities, we will continue to focus on the need to enhance the enabling environment for private investment. This would require the consistent pursuit of policies designed to achieve macroeconomic stability, efficient financial intermediation, and the disengagament of the Government from directly productive activities while utilizing the public expenditure program to alleviate institutional and infrastructure constraints to sustained private sector-led growth. 45. Human Canital Development and Poverty Alleviation. The Government is concerned that insufficient attention has been given to human resource development in the past qiven policy-makers' preoccupation with difficult economic issues. There is also growing recognition that sustained high growth will ultimately depend on the extent to which there is an enduring reduction in poverty. The strategy which the Bank is advocating and supporting includes: raising the demand for labor through high economic growth; increasing the productive assets of the poor by directing a larger proportion of public expenditures for human capital development, in particular, by restructuring social spending in favor of primary education and health services; and by providing an effective social services system (including income and employment support services, social security mechanisms, and a carefully targeted social safety net), especially for those most adversely affected by the reform process. 46. Women In Develonment. To provide the Government with a basis for an agenda to enhance the participation of women in Turkey's economic development process, the Bank has just completed a report on Women in Development. The main focus of the report is on increasing and raising the quality of women's participation in the labor force. Recommendations include measures to enhance women's labor skills and income-earning potential through education, technical training and credit; and to open their access to higher paying jobs. Beyond the sector work, we plan to engage the Government on the need to formulate and implement a sufficiently broad agenda for action to help women avail themselves of development oi_portunities. Meanwhile, in addition to ongoing and proposed projects to upgrade primary education and basic health services (which benefit women), a recently approved Employment and Training project includes a pilot action and research program specifically designed to promote women's productive employment. 47. Environment. The Government and the public are concerned that Turkey is facing serious and increasing environmental challenges. To lay the basis for sustainable development, the newly created Ministry of Environment is drawing up a program of institutional and policy reforms and initiating action to integrate environmental issues and associated investment needs fully into the public investment program. The Ministry's efforts are being supported by a METAP- financed environmental institutions study. In addition, the first cycle of  -15- METaP-supported activities includes coastal zone management, environmental finance, maritime and municipal pollution control, and the management of natural and cultural resources at a regional level. Support for the preparation of a national environmental strategy and action plan is envisaged in the second cycle of METAP. The Bank's financial support for the onvironment encompasses a wide range of activities including soil and land management, forest conservation and management, and measures to control pollution, particularly in the urban and industrial sectors. An innovative project for the conservation of genetic resources under GEF, and a project to phase out ozone depleting substances under the Montreal Protocol are also being launched. Turkey is also an active participant in a regional GEF program for the protection of the Black sea in line with the Bucharest Convention. Summary 48. Success in realizing the potential of Turkey's dynamic private sector, and setting the economy firmly on the path of private sector-led growth, requires the sustained implementation of stabilization and adjustment measures. The first step would be & significant reduction of the budget deficit through long- term structural measures, in particular, with respect to the divestiture and restructuring of SOEs. Second, the Government needs to broaden anJ deepen its implementation capacity in readiness for the more management intensive sectoral reforms as the program matures beyond macroeconomic reforms. Finally, the Government needs to address human resource development, poverty, regional disparities, and environmental issues, which will ultimately determine the economic and social sustainability of the program. 49. The Bank's strategy aims to promote the dialogue regarding the need for a sustained reduction of the fiscal deficit and inflation. Unless significant up front action is taken to reduce the budget deficit as part of a credible stabilization program to restore domestic macroeconomic balances, the focus of the Bank's program would be narrowed to include mostly the following sectors: urban infrastructure (primarily water supply and sanitation), human resources, and the environment. At the same time, through well-focussed economic and sector work, we plan to be in readiness for a build-up of Bank lending in the event that the Government introduces policies to create the conditions necessary for sustained growth. 50. Progress will be imeasured against the following criteria: the adoption, and successful implementation, by the Government of policies to restore a satisfactory macroeconomic framework, especially as it affects the private sector investment response and a reduction of the role of the state in directly productive investmentsl progress in reducing poverty and providing basic social services to the poor; progress in tackling environmental issues; and the success of efforts to strengthen management capacity and improve implementation performance. PART IIIs THE PROJECT 51. Background. Greater Bursa is the fifth largest Turkish city with a population of 840,000 in 1990, and has the highest rate of population growth (5*S percent per year). The city is a large industrial center with established industries based on agriculture and textiles, and new industries such as vehicle matufacture, machinery production and food processing. It is also a tourist  -16- attraction because of its rich historical past, its natural hot springs and winter sport facilities. In 1989, total bed capacity reached 9,000. 52. Water supply and sewerage services in Bursa are provided by a municipal authority (BUSKI), with moderate private sector involvement (meter reading and billing, and meter repair and installation). 90 percent of the population is served by water supply connections, and 70 percent by sewerage connections. Domestic and industrial wastewater is currently discharged without any treatment into the nearest streams, which empty into the Sea of Marmara (20 km away from Bursa), which is already under environmental pressure as a result of rapid industrialization in the area (Istanbul, Izmit, Bursa). Pollutants have degraded water quality in surface and ground water and have contributed to degrade the Sea of Marmara. This has had negative impacts on water supply, fisheries, health, and recreation. The efficiency in the provision of water and sewerage services is low. This is highlighted by the excessively high level (63 percent) of non-revenue water due to physical leaks, administrative losses (illegal connections, under-registration of meters, etc.), and free water for certain public uses. This results in the excessive and uneconomic use of water and puts pressure for premature development of new water resources. 53. Solid waste services are provided by the Municipality. Domestic solid waste is disposed in an open dump site where garbage is left uncovered; and industrial and clinical solid wastes are disposed with poor regard to the environment or to public safety. 54. Proiect Obiectives. The main objectives of the proposed project are tos (i) improve environment conditions and reduce health hazards in Greater Bursa; (ii) improve the management of municipal water supply, sewer services, and of domestic, industrial and clinical solid wastes; (iii) meet the demand for water supply, sewerage, flood protection and solid waste services, including the demand from the poor, living on the fringes of the city; (iv) postpone the need to develop new water resources by increasing the efficiency of water usage by reducing the volume of non-revenue water; and, (v) implement appropriate cost recovery policies. 55. Proiect Description. The project has two distinct parts. The water supply, sewerage and storm water part with: (i) water supply works needed to renovate, rehabilitate, and extend the existing systeml (ii) sewerage works needed to extend the collection networks, reconstruct sewer connections, and treat wastewater in two plants; (iil) storm water drainage works needed to rehabilitate the existing networks, and extend the collection system in flood areas; and (iv) technical assistance for project implementation (engineering services and Project Management) and for institutional development (reduction of unaccounted-for water, training, asset management system, management and information system, tariff study and feasibility of leasing arrangements). 56. The solid waste part consists of: (i) rehabilitation of the existing dump site, development of a new landfill site, construction of a waste transfer station; (ii) vehicles and containers to collect waste, including incineration of clinical waste; and (iii) technical assistance for project implementation (engineering services) and for institutional development (establishment of a regulatory unit, separate management of solid waste, separate collection and treatment of clinical and industrial waste, and contracting out of part of domestic waste collection).  -17- 57. The combined cost of the two parts of the project is estimated at US$258.4 million equivalent (exoluding Interest during construction); US$235.4 million for the water supply, storm drainage and sewerage part, and US$23.0 million for the solid waste part. A breakdown of costs and the financing plan are shown in Schedule A. Amounts and method of procurement and of disbursements, and the disbursement schedule are shown in Schedule B. A timetable of key processing events and the status of Bank Group operations in Turkey are given in Schedules C and D, respectively. Maps are also attached. The Staff Appraisal Report is being distributed separately. 58. Proiect Implementation. The Project will be managed by a Project Management Unit (P1U) headed by a high level expert already hired since the beginning of the implementation of the feasibility studies. The PMU Director is experienced in project Management and with Bank's procedures and guidelines. The PMU will be assisted in BUSKI by the Planning and Investment Department which is planning and managing directly BUSKI's routine investments and in the Solid Waste Department of the Bursa Metropolitan Municipality (BMM) by the New Works Division. These Departments have never implemented large investments and they would not be able to attract qualified experts because of the low level of salary offered by the institutions. The PMU was recently reinforced by a qualified engineer and a qualified financial professional. The role of these specialists will be to assist BUSKI's and B5M1s management in following up progress made in implementing the measures required for the entity's operational and financial improvement, and to recommend specific actions to achieve the targets. $9. Lessons Learned from Previous Bank Involvement. The Bank has collaborated successfully with the municipal authority of Istanbul for water supply and sewerage projects (Loans 844-TU and 2159-TU), and is presently assisting water supply and sewerage authorities in Istaalbul, Ankara, and rzmir. Bank involvement in the sector has been generally successful in meeting the physical targets for the projects, and in encouraging the Government to establish municipal water companies. The proposed project, building on the experience of previous projects, contains a major institutional development component. Other lessons learned from the previous projects are the need for technical assistance for project management, less optimistic projections of water sales and implementation schedules, full political commitment to necessary tariff increases, timely availability of detailed designs, and better audit of the authority's financial accounts. The proposed project takes into account the above lessons. 60. Rationale for Bank Involvement. Major environmental inadequacies in the largest rapidly growing cities of Turkey are lack of sewage treatment, inadequate water supply and poor air quality. Air quality will be improved since coal is being gradually replaced by gas for heating. Water and sanitation remain a top urban priority as present quality of service severely constrains urban productivity (health, industry, tourism, commerce) and entails major environmental damage. 61. The semi-autonomous status of the Water Supply and Sewerage Authorities in Istanbul, Ankara and Izmir, established with Bank support, provides a valid institutional model for Bursa. This approach maximizes the self-financing effort of the utilities, their sense of ownership and responsibility, their autonomy, their efficiency, and results in a rapid diminution, in each of these cities, of the role of Central Government agencies such as Iller Bank and the  -18- State Hydraulic Works (DSI) which remain encumbered with a wide range of financial, manageoment and institutional problems. 62. Continued Bank support to the sector is required on several accounts. Lirst, to ensure that the newly created water companies enjoy adequate support to develop their managerial, technical and financial capabilities to levels which allow them to provide adequate services at economic costs and affordable prices. The experience in Turkey shows that this is a major undertaking and that the Bank is in a position to provide effective support to priority agencies for institutional development. second, the Bank in its country assistance strategy has agreed with the Government on the need to support projects which protect the environment, promote sustainable use of natural resources, and strengthen local institutions' capacity to achieve these objectives in a financially sustainable way. Because of its emphasis on critical environmental issues, sustainability of municipal institutions and urban health and poverty issues, this project was accorded highest priority by the Government and the Bank. 63. Aareed Actions. The following principal agreements have been reachedt a. BUSKI and the BMM will maintain an experienced Project Management Unit Director and two specialists in the Project Management Unit; b. BUSKI will maintain a system of automatic quarterly tariff adjustments to compensate for inflation of the past quarter and ensure a satisfactory pace of project implementation. c. BUSi will carry out an action l.lan, with and agreed timetable, covering the 1993-2000 period, for the implementation of the project components aiming at improving the entit7's managerial, operational and financial performance. The plan consists ofs (i) annual updating BUSKVIs operational and financial projections for the 1993-2000 period; (ii) designing and implementing a training program for BUSKI's managers and staff; (iii) designing and implementing a program to increase the volume of water billed as a proportion of water produced; (iv) designing and implementing an Asset and Capital Investment Nanagement Systems (v) designing and implementing a Management Information System; (vi) designing and implementing a now water and sewerage tariff schedule; and (vii) implementing the feasibility study for a contractual arrangement, after bidding, with a private firm for partial or full operation of Bursa's water supply and sewerage systems. Not later than May 31, 1993 BUSKI will exchange views with the Bank on the progress made toward implementation of the action plan, and not later than July 1, 1993, take all necessary measures to meet the requirements for the 1993 capital expenditures. Then, not later than September 30 of each year, BUSKI will exchange views with the Bank on the progress made toward implementation of the action plan and BUSKXIs initial proposal for updating the plan. Not later than November 30 of each year, DUSKI will provide to the Bank a new proposal for an updated plan, if the initial proposal was not satisfactory and thereafter carry out the updated plan as modified in agreement with the Bank. The updated plan will in particular indicate any tariff increases in real terms -- i.e. over and above the quarterly adjustment -- needed to be implemented at the beginning of each of the next four quarters in order to achieve the revenue covenants indicated below in (Q) and (f)p  -19- d. The aMM will carry out an action plan, with timetable, covering the 1993-2000 period, for a major restructuring of the organizational arrangements for solid waste management. The plan includes: (i) the creation of a regulatory body within the Metropolitan Municipality to oversee and enforce environmental laws and regulations relating to the safe and proper disposal of solid and liquid wastes; (ii) the creation of a municipal operational corporation responsible for providing services for the management of household waste collections, clinical waste collections, industrial waste collections, and landfill site operations; and (iii) the contracting out of at least part of the collection service. Not later than September 30 of each year, the BMM will exchange views with the Bank on progress made toward its implementation. e. BUSKI will produce funds for investment internally generated during the current year, the previous year, and the f^'.lowing year equivalent to ne' less than 50 percent of BUSKI's aggregate capital expenditures incurred during the current, the previous year, and expected to be incurred during the following year. f. BUSKI and the BMN will take measures acceptable to the Bank to mitigate the project's environmental impact. g. As a condition of effectiveness of the Loans, the consultants for provision of technical assistance regarding institutional development through twinning arrangements would have to be selected by BUSKI and the Municipalities. This is progressing well and is presently estimated to be achieved by the end of May 1993. 64. Envirgonmeal As2octs. The environmental components of the project (sewerage, sewage treatment, stormwater, and solid waste) amount to 70% of the total project cost. The project's overall environmental impact will be highly positive since it will (i) postpone the need to develop new water resources; (Li) improve the water quality of streams and reduce contamination of groundwater and seawater; (iii) reduce the incidence of flooding in Bursa; and, (iv) improve solid waste collection and disposal. The project components which have specific environmental impacts are two sewage treatment plants, and the new solid waste disposal landfill. Znvironmental control measures have been taken into account in the site selection and preliminary design of the project. Measures to mitigate the project environmental impacts during detailed design and construction have been agreed. 65. The basic legislation required to control waste discharges in sewers, watercourses, and landfill sites is in place. Under the Water Pollution Regulations, national water quality objectives for inland waters have been defined with four classes of water quality, from class I for high quality water to class IV for highly polluted water. In Bursa, untreated wastewater discharges result in gros pollution of the Nilufer River and, downstream of the city, its water quality corresponds to class IV. In order to prevent public health risks and odor within the environs of the city, protect groundwater sources for water supply, allow downstream water use by industry and agriculture, and lessen the level of pollution in the Sea of Marmara, the water quality of the Nilufor River downstream of the city should be in class II. However, the class II objective is only affordable in the long term. The project is therefore designed to achieve the intermediate objectives of roducing of gross pollution in the short  -20- term although still in the class IV range, and attaining a class III standard for the medium term. The project provides an example of how the national water quality objectives can be progressively reached within the framework of the National Water Pollution Regulations. 66. The land areas requ .red for the construction of the new landfill and the two sewage treatment plants are agricultural and uninhabited. The procedures to acquire the lots owned by private owners and to compensate them are consistent with normal Turkish practice and are acceptable to the Bank. Acquisition is proceeding satisfactorily and has not given rise to difficulties in on-going operations. 67. Benfits. The project would have major benefits stemming froms (i) improved operational efficiency of BUSKI and of the solid waste management by the Municipality; (ii) promotion of local resource mobilization and cost recovery; (iii) reduction in the health hazards to the local and tourist population through better water supply, sewerage and solid waste management services; (iv) reduction of losses in property and labor productivity resulting from frequent flooding; and (v) improvement of environmental conditions through primary treatment of sewage and t 'ustrial wastewater, rehabilitation of the existing dump site, and controlled collection of clinical and industrial solid wastes. 68. Proieot Risks and Sustainabilitv. The project risks relate tos (i) institutional weakness of the borrowers for timely project implementation; and (Ui) sustaining the willingness and ability of local authorities to adopt resource mobilization and cost recovery measures necessary to generate sufficient counterpart funds. To mitigate the first risk and to contribute to the institutional sustainability of the project, its design includes an important technical assistance component which is already underway. To mitigate the second risk and to contribute to the financial sustainability of the project, a system of quarterly automatic tariff adjustments based on price indices to compensate for inflation was adopted, a project management unit was established, and a periodical review and the implementation of Action Plans specifying time bound actions necessary to further improve efficiency and financial performance of the borrowers were confirmed at negotiations and covenanted in the Loan Agreements. The borrowers demonstrated a strong commitment to implement agreed actions during project preparation and reconfirmed their continued commitment during loan negotiations. 69. Recommendation. I am satisfied that the proposed loans would comply with the Articles of Agreement of the Bank and recommend that the Executive Directors approve the proposed loans. Lewis T. Preston President Attachments Washington, D.C. February 8, 1993  -21- SibcshMl-A ESTIMATED COSTS AND FPIANCING PLAN Estimate,d Proiect Costs Zoal ,FIei g Total ----USs$ Milliln--- Water Sumlv & SewsraGe Part Water Supply Works 15.3 6.6 21.9 Storm Drainage Works 10.3 5.3 15.6 Sa-werage Works 14.2 6.3 20.5 Sewage Treatment 18.4 25.9 44.3 Water supply & sewerage Equipment 0.0 30.7 30.7 Consultant Services 7.6 10.3 17.9 PPP Advance for Water & Sewerage 0.5 0.6 1.1 Land Acquisition 11. 0.0 , 11.9 Total Base Costs (June, 1992) 78.2 85.7 163.9 contingencies 40.5 31.0 1 71.S Grand Total 118.7 116.7 235.4 MiM2_ M= Solid Waste Part Existing Site Rehabilitation 0.6 0.2 0.8 New Waste Disposal site 2.6 2.1 4.7 Waste Transfer station 0.5 2.0 2.5 Waste Collection & Transport 0.0 1.8 1.8 Clinical Waste Incinerator 0.6 1.6 2.2 Consultant Services 1.4 1.3 2.7 PPP Advance for Solid Waste 0.2 0.2 0.4 Land Acquisition 1.2 0.0 Q 1.2 Total Base Costs (June, 1992) 7.1 9.2 16.3 contingencies 3.4 3.3 _6. Grand Total 10.5 12.5 23.0 S513 m_St in=38 TOTAL PROJECT COST 129.2 129.2 258.4 mm, .. ==. ==. R Note: Local prices include about 9% of taxes and duties Vinancina Plan: Local E=gian Total ------US$ Million--- IBRD Loans - 129.5 129.5 Internal Cash Generation (BUSKI,BMM) 128.9 - 128.9 Total 128.9 129,S 2