Argentina - Second Provincial Development Project

Document of The World Bank FOR OFFICIAL USE ON^ILY jAJ Report No. P-6513-AR MEMORANDUM AND RECOMMENDATION OF THE PRESIDENT OF THE INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN IN AN AMOUNT EQUIVALENT TO US$225 MILLION TO THE ARGENTINE REPUBLIC FOR THE SECOND PROVINCIAL DEVELOPMENT PROJECT APRIL 5, 1995 This document has a restricted distribution and may be used by recipients onlv in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  CURRENCY UNIT (ARGENTINE) - PESO Since April 1, 1991, the exchange rate has been, by law, Peso 1.00 = US$1.00 WEIGHTS AND MEASURES Metric System FISl-AL YEAR January 1 - December 31 ABBREVIATIONS AND ACRONYMS CAS - Country Assistance Strategy CEU - Central Executing Unit (Unidad Ejecutora Central) FAIP - Financial Action and Investment Plan GDP - Gross Domestic Product IDB - Inter-American Development Bank PDP - Provincial Development Project PEU - Provincial Executing Unit POM - Project Operations Manual  FOR OFFICIAL USE ONLY ARGENTI1A SECOND PROVINCIAL DEVELOPMENT PROJECT LOAN AND PROJECT SUMMARY Borrower: Argentine Republic. Implementing Agencies: Ministry of Interior and all eligible provinces. Beneficiaries: Provinces of Buenos Aires, Catamarca, Chaco, Chubut, C6rdoba, Conientes, Entre Rios, Formosa, Jujuy, La Pampa, La Rioja, Mendoza, Misiones, Neuquen, Rio Negro, Salta, San Juan, San Luis, Santa Cruz, Santa Fe, Santiago del Estero, Tierra del Fuego, Tucuman, and the Municipality of Buenos Aires (hereafter, the 24 provinces). Poverty: Not applicable. Amount: US$225 million equivalent (including up to US$20.0 million in retroactive financing). Terms: Repayment in 15 years, including a grace period of 5 years with level repayments of principal with interest at the Bank's standard variable rate. Commitment Fee: 0.75% on undisbursed loan balances, beginning 60 days after signing. Onlending Terms: All proceeds of uie loan would be onlent to provincial governmnents from the national government under the same terms and conditions as the Bank loan. The provinces would assume the cross-currency exchange risk and the full cost of the Central Executing Unit. Each province's revenue-sharing funds from the national govenmment would serve as a guarantee for repayment of subsidiary loans. Financing Plan: See Schedule A. Rate of Return: 20.1 % for an estimated 38% of total project cost. Staff Appraisal Report: No. 14035-AR, dated April 5, 1995 Map: IBRD No. 25587 This document has a restricted distribution and may be used by recipients only in the performance of their I official duties. Its contents may not otherwise be disclosed without World Bank authorization.  MEMORANDUM AND RECOMMENDATION OF THE PRESIDENT OF THE INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN TO THE ARGENTINE REPUBLIC FOR THE SECOND PROVINCIAL DEVELOPMENT PROJECT 1. I submit for your approval the following memorandum and recommendation on a proposed loan to the Argentine Republic for the equivalent of US$225 million to help finance development activities in the 24 provinces of Argentina. The loan would be at the Bank's standard variable interest rate, with a maturity of 15 years, including a grace period of 5 years with level repayments of principal. Proceeds of the loan will be onlent to the participating provinces under the same terms and conditions as the Bank loan. Each province's revenue- sharing funds will serve as a guarantee for repayment of subsidiary loans. 2. Background. Argentine provinces spent US$27.1 billion in 1993 (10.6% of GDP and 40% of total public expenditure), and are increasingly becoming the main providers of core public infrastructure and services. Thus, the efficiency, equity, and fiscal discipline of the provincial public sector are urgent and important issues. The First Provincial Development Project (PDP-I, Ln. 3280-AR, US$200 million, effective in FY91, with IDB cofinancing for the same amount) is playing a key role in the Government's provincial reform effort. Subprojects that contribute to institutional development were funded as the essential step to raise income and reduce public expenditure. For example, the provincial tax improvement subprojects of PDP-I provided the foundation for the Fiscal Agreement (Pacto Fiscal) of 1993, an agreement between the provinces and the national government to reform the provincial tax systems. Approximately 45% of the total subproject cost in PDP-I is for institutional development subprojects (e.g., cadastres, revenue administration, management control, and project evaluation systems) which contribute directly to the project's main objective of improving provincial fiscal performance. Bank resources for PDP-I are fully committed, and all resources are expected to be disbursed by December 31, 1996. 3. The Government has requested that a Second Provincial Development Project (PDP-ll) be prepared to maintain the momentum of the reform program initiated under PDP-I. This includes the financing of: (a) institutional development subprojects that 'are vital to the implementation reforms of the Pacto Fiscal and overall adjustment in the provinces; and (b) urgently needed infrastructure. PDP-I resources (both Bank and IDB) are not sufficient to finance the institutional development and physical infrastructure subprojects (US$226 million) which the provinces already have submitted in their Financial Action and Investment Plans (FAIPs). Given this lack of resources, many provinces have not been able to implement subprojects already initiated in other provinces to improve fiscal performance (e.g., revenue administration, cadastres, and financial administration). 4. Project Objectives. The objectives of this project would be similar to those of the first operation, namely: to provide financial support and incentives for the provinces to undertake their own public sector reform programs consistent with the national program. Specific objectives would be to: (a) implement appropriate financial management reforms to generate  - 2 - current account surpluses that together with prudent borrowing can finance investment programs; (b) strengthen the provincial capacity to plan, program, finance, execute, and monitor investment programs that are economically efficient, financially sustainable, institutionally manageable, and envirornmentally sound; and (c) provide financing for institutional development and physical investments that will promote provincial economic development. As the project would involve the same provinces as PDP-I, it would continue to enhance provincial capacity to carry out high priority development programs. 5. Project Description. The project would finance a "time-slice" of eligible provincial expenditures, including civil works, goods, and consultants. It would consist of following main components: (a) Institutional development (approximately 35% of total project cost), which would include technical assistance, training, and equipment aimed at attaining the project's objectives at both the national and provincial government levels (inter alia, improving systems for revenue administration, cadastres, integrated project evaluation, and overall financial management and control). (b) Physical investments (approximately 57% of total project cost), with an emphasis on maintenance programs, rehabilitation of existing works, and completion of unfinished works as in PDP-I, but also encompassing public infrastructure and facilities (e.g., roads, drainage, water supply and sanitation, schools, and health posts) not eligible for financing under other Bank sectoral projects. (c) Project Administration: (about 8% of total project cost) for the recurrent costs of project implementation at the provincial level. These costs would not be financed under the loan. 6. Eligibility criteria for both provinces and subprojects will ensure that the above components contribute to the project's objectives. Provincial eligibility criteria for the institutional development subprojects defined in the Project Operations Manual (POM) assure that each province has: (a) an approved Financial Action and Investment Plan (FAIP) that specifies the province's intended participation in the program and a concrete action plan to achieve or maintain a current account surplus; and (b) a signed subsidiary loan agreement. Additional provincial eligibility criteria are required for physical investments, and include: (a) a current account surplus during the last executed budget period; and (b) total existing or proposed provincial debt not resulting in a total debt service obligation greater than 15% of total provincial current revenues (excluding discretionary grants). These criteria reward financial soundness and efficiency, and, given the competition for loan proceeds, implicitly provide additional incentives for provincial adjustment. 7. In addition to provincial eligibility criteria, subproject eligibility criteria would ensure that subprojects are technically, economically, fimancially, and environmentally sound. Additional provisions are also in place to ensure proper coordination and policy consistency between the proposed program and other sector-specific projects at the provincial level.  - 3 - 8. Project Implementation. Implementation arrangements would remain essentially the same as PDP-I, except for changes to incorporate lessons of experience and to better manage risk (see para. 11). Responsibility for the execution of FAIPs will continue to be concentrated in each of the Provincial Executing Units (PEUs). The PEUs would be supported by a unit with functions at the central level, the Central Executing Unit (CEU). The main activity of the CEU would be the overall management of the project, including orientation and technical support for the provinces; it would also act as a focal point for the required interaction with the Bank (e.g., disbursement requests, audit and progress reports). The CEU would also be responsible for all aspects of subproject evaluation, approval, and procurement as well as for providing proper coordination and policy consistency between the proposed operation and other sector-specific projects proposed by the provinces. 9. Bank funds would be onlent through the Financial Agent of the Borrower to the provinces according to conditions and procedures defined in Subsidiary Loan Agreements. The corresponding terms and conditions are the same as those of the Bank loan. There would be no national government counterpart funds under the project. Each province would provide counterpart funds and service the debt for its infrastructure and institutional strengthening subprojects financed by the project. 10. The project is estimated to require seven years to implement, at a total cost of US$321 million equivalent, with Bank financing for US$225 million and a foreign exchange component of US$121.8 million (37.9% of total costs). A breakdown of the project costs and the project financing plan are shown in Schedule A. Amounts and methods of procurement, loan allocation percentages, and the disbursement schedule are shown in Schedule B. A timetable of key project processing events and the status of the Bank Group operations in Argentina are provided in Schedules C and D, respectively. A map of the Argentine Republic showing the project areas is also attached. Staff Appraisal Report No. 14035-AR, dated March 30, 1994, is being distributed separately. 11. Project Sustainability. Based on the experience of the first provincial development project, provinces are expected to be capable of fully repaying the borrowed funds. Repayment would also be guaranteed through the revenue-sharing (coparticipaci6n) funds controlled by the national government. Strict eligibility criteria would be applied regarding creditworthiness, and only those provinces that are financially sound would be eligible to participate in the program. Furthermore, subproject eligibility criteria would ensure that physical investment subprojects will not generate an unreasonable financial burden for the provinces. The resources resulting from improved resource mobilization and efficiency would, in turn, further strengthen the provincial public sector and contribute to the project's sustainability until the provinces are able to gain access to capital markets on a competitive basis. 12. Lessons Learned from Previous Bank Involvement. The principal lessons learned from PDP-I, the First Municipal Development Project (MDP-I, Ln. 2920-AR, US$120 million, FY88) and other Bank experience in lending for municipal development, include the .importance of: (a) making the review of technical proposals and procurement documents more cost-effective; (b) contracting implementation specialists to assist the PEUs in subproject implementation; (c) continuing to improve the implementation capacity of the CEU and PEUs; and (d) developing  - 4 - a reasonable stock of fully prepared subprojects to facilitate project implementation and overall execution. Overall, the subproject review process by the CEU and PEUs in PDP-1 has been quite satisfactory for those provinces participating actively in the project. The improvement of the provincial capacity to identify, evaluate, procure, and supervise completion of subprojects is an important accomplishment of PDP-I, although there is still much room for improvement, especially in those provinces that did not participate very actively in PDP-1. All of these lessons have been incorporated into the design of the implementation arrangements for PDP-II. 13. Participatory Approach. The CEU and PEUs have very actively participated in project preparation. The CEU presented a draft SAR for PDP-I1 in English during their visit to Washington in August 1994. They later returned to discuss the Bank's version of this SAR which was produced based on their first draft. The PEUs have submitted technical proposals for subprojects costing about US$85 million for financing under PDP-II and have provided much feedback on the efficacy of review procedures and ways of making them more cost-effective. 14. Rationale for Bank Involvement. As stated in the current Country Assistance Strategy (CAS) report presently under discussion and the previous CAS (presented to the Board on March 1, 1994, Report P6161-AR), the Bank has been, and will remain, a strong supporter of the ambitious Argentine reform program. Extending fiscal and economic reforms to the provinces is now a vital element of this program, since the recent upsurge in the provinces' fiscal imbalances could endanger the country's macroeconomic stability. Furthermore, due to decentralization, the provinces now play an increasingly important role in the provision of key public goods and services. The Bank strategy for provincial government reform seeks to: (i) stabilize public finances and begin reforming provincial administrations, while providing for urgently needed investments which improve fiscal balance and are linked to sectoral reforms, and (ii) improve the efficiency of delivering public goods and services through a series of proposed sector operations (e.g., education, public health, roads, water supply, and agriculture). PDP-I and PDP-II are umbrella operations covering all provinces and provide support for institutional strengthening and small investments aimed at improving their fiscal situations. In order to deepen the reform process, the Provincial Reform Loan (PRL, Ln. 3836, US$300 million, FY95) and most future sector operations will be targeted to support those provinces willing and able to implement major structural reforms. This selectivity would be fundamental for leveraging Bank resources to promote fiscal adjustment, while ensuring the success of these operations with adequate provincial counterpart fmnancing. Under this strategy, the Bank would expect to be fully engaged in assisting five to seven of the provinces, while the remaining provinces would have access to PDP-I and PDP-II resources as a means to improve their overall fiscal performance, enabling them to become eligible for future Bank support. Thus, PDP-I and PDP-II are vital elements in the Bank's overall strategy as defined in the CAS. 15. Agreed Actions. During negotiations, the following were agreed: (a) from the national governent that: (i) all proceeds of the Bank loan would be onlent to eligible provinces based on allocation criteria acceptable to the Bank under the same terms and conditions as the Bank loan, with each participating province's revenue sharing serving as a guarantee for repayment of subsidiary loans; (ii) the national government would continue to provide adequate support to the CEU, which would be responsible for overall project management as well as coordination and consistency with other sector-specific projects; and (b) from the national government that  it would cause the provincial governments to: (i) assume the loan on the same terms and conditions as the national Government; (ii) establish, adequately staff, and otherwise support the PEUs; (iii) contribute to the financial support of the CEU; (iv) submit timely annual investment program proposals for Bank review and approval; (v) approve and carry out the program in accordance w th the Project Operations Manual (POM), and not amend this Manual without the Bank's prior consent; and (vi) carry out all environmental protection measures. 16. Prior to loan effectiveness, the Bank would have accepted the POM and the national government would have: (a) entered into Subsidiary Loan Agreements with one or more provinces, representing an initial allocation of loan proceeds equivalent to at least 4% of the amount of the Bank loan; (b) the provinces referred to in (a) above would have: (i) established and adequately staffed their PEUs, and (ii) formally approved the POM. In addition, the same conditions defined in (b) above would be conditions of disbursement in all provinces, along with a condition requiring that all new subprojects be included in an annual investment program approved by the Bank. 17. Poverty Category. Although this is not a poverty-focused loan, it would contribute indirectly to poverty alleviation (see para. 18). 18. Environmental Aspects. The proposed project is classified as category B. For most subprojects, especially given that a large proportion would either bu maintenance and rehabilitation or completion of existing or unfinished works, the environmental impact is expected to be neutral or positive. However, regardless of their nature, all investments would need to comply fully and be consistent with Bank environmental policies and conditions, including the preparation of environmental impact statements when required. Explicit conditions are defined in the POM. 19. Program Objective Categories. PDP-II's main contribution will be to improve economic management in Argentina's increasingly important provincial public sector. Provinces play a key role in providing infrastructure that is vital to environmental n"'ality and social services that benefit lower income groups. Thus, increasing provincial managerial capacity would contribute indirectly to environmentally sustainable development and poverty reduction. 20. Project Benefits. Four main benefits will result from the project: (a) fiscal, by maintaining incentives for provincial fiscal reform initiated under PDP-I, and financing institutional development subprojects that are vital for overall provincial adjustment; (b) financial, by improving provincial creditworthiness and therefore future provincial access to private credit marklets; (c) institutional, by enhancing the capacity of pro-inces to plan, program, implement, and monitor resource mobilization and allocation; and (d) socio-economic, by improving infrastructure and service delivery. In summary, the project would contribute to the Government's overall macroeconomic goals of efficiency, equity, and stability by improving the efficiency of the increasingly important provincial public sector. 21. The internal rate of return for the project's investment components was estimated on the rates of return for five approved subprojects for PDP-I and on estimates for a preliminary  - 6 - sample of 18 proposed subprojects for PDP-II. The results show an economic rate of return of 20.1% for 38% of the total project cost as represented by the PDP-II sample. 22. Risks. The experience gained in risk management during the first project is expected to be quite useful in PDP-II. The risks identified in the previous project were lack of interest by the provinces in carrying out the required fiscal reforns, discontinuity in political commitment to the project, unfavorable macroecononmic conditions during its execution (including significant increases in national/provincial transfers), and implementation delays. The safeguard against these risks is a competitive system of access to loan resources based on performance. Those provinces that enter earlier and perform better (i.e., develop the institutions and generate current account surpluses) would receive more resources. This safeguard proved effective in the project under implementation. In addition, steps taken to further strengthen the CEU and PEUs to incorporate the lessons of experience of PDP-I in the design of implementation arrangements of PDP-Il should reduce the likelihood of implementation delays. Also, subprojects representing 26% of the total loan amount have been prepared. Although program risks are simil.r to those of PDP-I, the institutional and macroeconomic environment for PDP-II is more favorable than for the earlier project. 23. Recommendation. I am satisfied that the proposed loan would comply with the Articles of Agreement of the Bank, and recommend that the Executive Directors approve it. Retroactive financing for expenditures incurred after August 26, 1994 (but not earlier than 12 months before loan signing) in an amount not to exceed US$20.0 million (9% of the Loan amount) is recommended. Sven Sandstrom Acting President Washington, D.C. April 5, 1995 Attachments  - 7 - SCHEDULE A Summary of Project Costs (in US$ million equivalent) Local Foreign Total % of Total Institutional Development 76.8 36.5 113.3 35.3 Physical Investments 96.4 85.3 181.7 56.6 Project Administration '3 26.0 0.0 26.0 8.1 * Total Project Cost 199.2 121.8 321.0 100.0 a/ Recurrent costs of the PEUs that would not be finaiced by the Loan. Project Financing Plan (in US$ million equivalent) Local % Foreign % Total % Bank 103.2 52 121.8 100 225.0 70 Provinces at 96.0 48 0.0 0 96.0 30 - Total Financing 199.2 100 121.8 100 321.0 100 a/ Including recurrent costs of PEUs.  - 8 - SCHEDULE B Procurement Arrangements (in US$ million equivalent, October 1994) "' Category ICB LCB Other"' YNI' Total Civil Works 91.2 73.4 5.2 --- 169.8 (62.2) (49.9) (3.5) --- (115.6) Goods 25.8 30.6 3.2 --- 59.6 (20.8) (20.7) (2.3) --- (43.8) Consultants --- --- 60.6 --- 60.6 (60.6) --- (60.6) Training --- --- 5.0 --- 5.0 (5.0) --- (5.0) Recurrent Administrative --- --- --- 26.0 26.0 Costs --- --- --- (0.0) (0.0) Total Project Cost 117.0 104.0 74.0 26.0 321.0 Bank Total (83.0) (70.6) (71.4) (0.0) (225) a/ Numbers in parentheses arc the amounts financed by the Bank. b/ Intemational and local shopping, hiring of consultants in accordance with Bank guidelines. clc. c/ Not Bank Financed Allocation of Loan Proceeds (in US$ million equivalent) Category Amount of Percentage of Expenditures to be Loan Proceeds Financed Civil Works 115 For eligible civil works, 75% disbursements against contractors' certified receipts. Goods 44 For equipment, materials and vehicles, 75% disbursements of local expenditures and 100% of foreign expenditures. Consulting Services 61 For consulting services, 100% of local and foreign expenditures. Training Expens s 5 For training expenditures, including tuition, per diem, and travel costs of trainees, 100% of expenditures.  -9 - SCHEDULE B Bank Loan Disbursement Schedule (in US$ million equivalent) BHnk Flscal Year 1996 1997 1998 1999 2000 2001 2002 Annual 12 13 21 36 48 51 44 Cumulative 12 25 46 82 130 181 225  - 10- SCHEDULE C Timetable of Key Project Processing Events Time takern to prepare: 9 months Prepared by: The Argentine Republic with Bank assistance from Messrs. David Vetter, Miguel Mercado-Diaz, Beth Hoffman, Craig Leisher, Cecilia Zanetta, and William Mayville. First Bank mission: March 1994 Appraisal mission departure: November 1994 Negotiations: March 1995 Planned date of effectiveness: June 1995 List of relevant PCRs and PPARs: PCR dated December 1993 (Report No. 12582), Honduras Municipal Development Pilot Project PPAR dated November 1990 (Report No. 9154), Parand Market Towns Project - Brazil OED Report dated June 1994 (Report No. 13117), Twenty Years of Lending for Urban Development, 1972-1992  -II- Schedule D The Status of Bank Group Operations in Argentina Statement of Bank Loans (as of December 31, 1994) (US nillionJ Loan Fhca Number Yew lrrower Purpose AMOUNT Urn UNDUImRS c llsonsl Fuily disbursed loan (42) 5,033.3 of which SALUSECAL/Debt Reduction oans: 2675 1986 ArgenUina Agriculture Sector 350.0 2815 1987 kgentina Trade Piolcy 496.0 2996 1989 Argentlna Trade Policy ll 300.0 3291 1991 ArgernIna Public Enterprise Reform 30D.0 3394 1992 Argentina Pubic Sector Reform 325.0 3555 1993 ArgentIna DDSR Suppout 450.0 3558 1993 Argentina Financial Sector Adjustment 400.0 2841 1986 Argernina Water Supply 44.8 8.8 2854 1987 ArgenIna Power isrbutLion 276.0 123.4 2920 1988 ArgentIna Muniipal Develpment 120.0 14.8 2984 1989 Argentina Social Sector 28.0 0.1 3280 1991 Argentina Provincial Development 200.0 144.4 3281 1 991 Argentina Water Supply 100.0 96.2 3292 1991 Argentina PEREL 23.0 1.3 3297 1991 Argertina Agricultural Services 33.5 16.5 3362 1991 Argentina Public Sector Reform T.A. 23.0 7.9 3460 1992 Argentina Tax Administration II 20.0 5.9 3520 1993 Argentina Yacyreta 11 300.0 49.1 3521 1993 Argentina Flood Rehablitaon 170.0 80.1 3556 1993 Argentina Public Enterprie Reform II 300.0 0.03 3611 1993 Argentina Road Maintenance & Rehab 340.0 267.1 3643 1994 Argentina Maternal A Child Health 100.0 90.6 370911 1994 Argentina Capitl Markets 500.0 500.0 3710 1994 Argentina Capital Markets TA 855 8e5 379421 1994 Agontina Secondary Educaton 190.0 190.0 TOTrAL 7,810.0 Of which has been repaid 2.433.4 TOTAL NOW OUTSTANDING 5,376.6 AMOUNT SOLD 1Z8 Of which has been repaid 12.8 TOTAL NOW HELD BY BANK AND IJA 5.3638 TOrAL UNDISBURSED - SECAL SAL or Otbt Reduction Len I / Not yet etec*e 2/ Not yet signed  ARGENTINA STATEMENT OF IFC INVESTLMENTS as of D.o.mber31. 1004 O nl QO, Couumbin.ta Hmid Ibid by Undbbmud F.am Y_er IN IFC Purtid- by Panrtd- prwludng Commlmd Obilg_ Type of Salinema Lra