El Salvador - First loan administration report on the Bank's loan to El Salvador

i L- 163 ILtE COPY |This repprt is restricted to use within the Bank.| INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT FIRST LOAN ADMINISTRATION REPORT ON THE BANK'S LOAN TO EL SALVADOR May 28, 1952 Department of Operatlons Western Hemisphere  I CURRENCY WA-I"NTS I U. $. $C 1 - 2USO o. s I 1 Colon - -U.. $0.40 | 1 milhon C-oones - U-S. $4WO  EL SALVADOR FIRST LOAN ADILISTRATION REPORT ON THE ;412,545,0O0 LOMA TO THE COI.ISION EJECUTIVA HIDROELEC2RICA DEL RIO L-EMA (CEL3 TABLE OF CONTENTTS Paragraphs BASIC STATISTICS PART ONE - I. NEGOTI ATIONS 1 - 3 II. *TE LOVI 4 - 5 III. THE BORR5JER. 6- 9 IV. THE PROJECT 10 - 15 V. PROGRESS OF TlHE PROJECT 16 - 23 VI. LOCAL CTURIERC F1.AN"CING 24 - 34 VII. DIS3JRSEM,ET AND S:RVICE OF THE LOAN 35 - 4o VIII. THE EFFECTS OF THE LOAU 41 PART T7iO - Relations Between the Bank and El Salvador I. POLITICAL AND GENERAL 42 - 46 PART THREE - Important Economic Developments Since 19h9 Conclusions of First Bank Report 47 - 48 Population smaaler than believed 49 - 50 Coffee prosperity 51 - 53 Recent trends in production 54 - 56 Residential construction and public works 57 - 59 Domestic and external financial position 60 - 66 Development plans of the present Government 67 - 70  EL SALVADOR Basic Statistics Area Total 9,000 square miles Cultivable 5,000 square miles Population (1950 census) 1,855,917 Exchange Rate (since 1934) 2.50 colones - U.S. i1 External Trade 1948 1949 1950 1951 -' (iTin lion 7Mars) Exports 45.6 55.0 69.4 85.5 Imports, c.i.f. 41.5 39.5 47.2 28.9 1st six months Balance of Payments 1948 19149 1950 ~~~~~ (~~m:llfo-F000R08 Current Account 3.5 38.8 34.2 Capital Account -1.6 - 6.2 - 28.5 Surplus 1.1. 2b.0 4.9 Foreign Reserves 1950 (Dec.) 1951 (Dec.) 1952 (Eiay) -Milion dollars) Gold 23.0 25.7 29.6 Foreign Exchange 17.9 16.9 23.8 Total 4-09 5 Money Supply and Bank Loans 1950 1951 1952 (Feb.) (million colones) Mgoney Supply 128.7 145.1 167.4 Bank Loans 83.4 96.8 99.4 Prices 1948 = lOO 1950 1951 1952 (Jfn.) Retail (Food) 99 n.a. n.a. Y.Tholesale 136 14l 147  EL SA'LVADOR LOAN ADIINISTRATION REPORT $12,543,000 LOAN TO THE CONISION EJECUTIVA HIDROZLECTRICA r. RIO LrEMRP (CEL) PART ONE I. NEC-OTIATIONS 1. The project for developing the water resources of the Lempa River was first brought to the Bankfs attention in 1947, and was discussed when Mr. ThcCloy visited El Salvador in the fall of 1948. In March 19h9 the Comision Ejecutiva Hidroelectrica del Rio Lempa (CEL) requested the Bank to consider financing the foreign exchange costs of the project. Accord- ingly, a Bank mission, wihich included an engineering consultant, visited El Salvador in May 1949 to examine the project and to make a preliminary survey of the economic position of the country. 2. The project Vwas based on studies made by the Harza Engineering Company of Chicago. Selected by CEL on the recommendation of the T. V. A., they spent most of 1947 making topographic, hydrological, geological and economic studies, and submitted an exhaustive report which formed the basis of the loan application to the Bank. 3. Loan negotiations with representatives of the Government of El Salvador and of CEL began in !iJashington at the end of August 1949, and the resulting draft Loan and Guarantee Agreements were submitted to the Salvadorian Government. In view of the importance of the project to El Salvador, the Council of Government (see para. 44), wishing to have the oenefit of responsible public opinion on the terms proposed, appointed an ad hoc committee of nine members, made up of three Government officials and six prominent lawyers, engineers and businessmen, to review the draft agreements. Under the chairmanship of the Under-Secretary of Economy, the Committee made a detailed study of the economic, legal and technical back- ground of the loan, and presented a report to the Govermment. In this -ray, the Government obtained expert advice and, at the same time, the endorse- ment of the loan by a group of leading citizens. The points raised by the Committee were cleared in conversations with representatives of the Bank wno made a brief visit to T-L Salvador for the purpose in November 19h9. II. THE LOAN 4. Loan and Guarantee Agreements providing for a "2,,5h5,000 Loan to CEL were signed on December 14, 1949. The Loan, which is guaranteed by the Republic of E1 Salvador, is for a term of 25 years and carries an in- terest rate, including commission, of 4h per cent per annum. Amortization payments, calculated to retire the Loan by maturity, will begin on July 15, 1954. The Closing Date is July 12 19539  - 2 - 5. WIflhen the Agreements wvere signed, El Salvador had a provisional government only. The Bank therefore required the Guarantee A'lgreement to be ratified by an elected Constituent or Legislative Assemoly before the Loan could oecome effective. An elected Constituent Assembly approved the Loan on June 20, 1950, and the Loan wvas declared effective by the Bank on September 15, 1950. III. THE BORR0.TUM 6. CEL is an autonomous public service, non-profit institution, estab- lished by legislation in 1946 to develop the hydroelectric resources of the Lempa River and its tributaries. The Board of Directors originally consisted of five members representirng government, banking, industry and commerce; two more, including a representative of CELts bondholders (see Section VI), were subsequently added. 7. CEL s charter provides that from 1948 through 1952 the Government is to advance CEL at least Colones 300,000 annually to meet administrative and organizational expenses. These advances are to be interest-free, and to rank junior to all other obligations of CEL. They are to be repaid, not according to any fixed schedule, but only as and when CEL is able to earn more than is required to meet other financial charges, to establish adequate reserves, and to provide for necessary expansion. Furthermore, in each of the years 1951 through 1955, the GovTernment is also to grant C&1 a subsidy of g 1 million to build up a reserve fund. These advances and subsidies have been paid as due. 8. Under its charter, CEL is empowered to obtain loans and to issue bonds at home and aoroad. Special enabling legislation authorizes the Government to appropriate funds to cover the interest on and amortization of CEL's bonds whenever necessary. The operations of CEL, and its movable property and real estate are exempt from taxes. 9. CEL's budget and financial transactions are under the supervision and inspection of the Court of Accounts, and the annual budget has to oe submitted to the national Legislative Assembly for approval. IV. THE PROJECT 10. There has been a shortage of power in El Salvador for many years. Even in the capital, power has had to be rationed, and shutdowns have been frequent. 11. In 1949, the generating capacity of the Whole country amounted to only 33,500 kw, almost half of which consisted of small private plants. A supply of cheap and abundant povwer is urgently needed, not only to satisfy existing demands, but also to make possible the further development of the economy. Adequate povwer will facilitate irrigation and thus encourage the production of such crops as sugar cane, cotton, corn, beans and oilseeds. It will also enable water to be pumped at less cost to villages and towns which have hitherto been inadequately supplied even when water has been within easy reach.  - 3 - 12. Industrial development has hitherto been severely restricted by the lack of electric powver. Although El Salvador is unlikely to develop any very large or heavy industries, abundant supplies of cheap, reliable power may be expected to result in a considerable expansion in such estab- lished forms of production as coffee milling, textile production, food processing and gold mining. In addition, a number of new light industries, such as the manufacture of soap, paper, pottery, carpets ar.d matches may be exoected to develop. Since the Loan leas made, and probably as a consequence of it, one new cement plant has been established, and a second is being built. A plant to produce fertilizer from city waste has also been built. These projects are due to private initiative. 13. The development of hydroelectric power wvill permit the progressive retirement of high cost diesel and steam units, thus reducing ex!enditure on imported petroleum and reducing the consiumption of wood fuel. 14. The project consists of the construction of a dam and hydroelectric station at Chorrera del rGuayabo on the Lempa River 95 kilometers from San Salvador. The capacity to be installed will be 30,000 kw, but, as the market expands, CEL intends to increase the generating capacity at the Guayabo site to 75,000 kw. The power from the initial installation will be transmitted over a single circuit line to the capital, San Salvador, -ith a branch from an intermediate point at San Rafael Cedros to the industrial center of San Miguel. The bulk of it vill be sold wholesale to producers and distributors already established to serve the capital and the main cities of the country, the chief of wvhich is the Compania de Alumbrado de San Salvador, a subsidiary of the International Power Company of IMontreal, Canada. 15. The main items in the construction progran are; (a) An access road suitable for moving the naterials and equipment required for the project. This road, 31 kilometers long, is to be connected at Ilobasco rith the Pan-American Highway. (b) A reservoir covering a total area of about 20 square -kilometers with a total storage capacity of 183 million cubic meters. (c) A concrete dam at the main river channel, about 64 meters high and nearly 500 meters in length, wvith spillways and headworks. (d) An underground powerhouse containing tvo generating units with normal generating capacity of 30,000 kw. (e) A substation at the dam and one 115,000-volt transmission line to connect with receiving substations at San Rafael Cedros and San Salvador and one 69,000-volt transmission line from San Rafael Cedros to the receiving substation at San Miguel.  - 4 - V. PROGRESS OF IHE PROJECT 16. The Loan Agreement requires that the construction of the project be supervised by consultants satisfactory to the Bank,and CEL has retained the services of the Harza Engineering Company for this purpose. 17. As agreed between CEL and the Bank, bids for the construction of the project and for the supply of the necessary equipment and materials were invited on an international basis. Most of the large contracts have now been awarded. The major construction contract, for the building of the damr, powerhouse and associated civil works, was awarded to the J.A. Jones Construction Company of U. S. A. in August 1950, and the major supply contract, for the turbines and generators, to the Bell Company and Browmn Boveri, both of Switzerland, in November 1950. 1ltogether, contracts have been placed or purchases made in twelve different countries: U. S. A., Canada, Switzerland, France, Italys Germany, Belgium, U. K., Panama, Guatemala, Honduras and Argentina. 18. W.1ork on the project began in October 1950, whien the J.A. Jones Companjy took over the completion of the access road of which approximately 90% had already been constructed by CEL. The access road was completed early in 1951. At first, progress on the proiect was retarded by diffi- culties in obtaining equipment and materials. In addition, deliveries of materials were delayed because of a strike on the Guatemalan Railroad, over which goods imported through Puerto Barrios, Guatemala, have to be carried. 19. The major items of equipment, which have been ordered largely from European manufacturers, are expected to be delivered on schedule. The supply of cement was made difficult when conditions in the Far East inter- fered wKith delivery by Japanese firms. An alternative source of supply was located in Panama, however, and operations were not appreciably delayed. 20. kt the present time, work is going forward on the excavation of the intake canal, the access tunnel, and the discharge channel for the power- house, and at the north end of the dam. Iffork has just been started on the transmission line. Official ceremonies to mark the first pouring of the concrete for the dam were held at the site in June 1951. On January 31, 1952 about 50 of the concrete for the dam had been poured. 21. Until recently, progress on all aspects of the program was according to schedule. In February and Mfarch 1952, however, the contractor encounter- ed difficulties with the stream diversion, as a result of which excavation and concrete operations are now about two months behind schedule. It is possible, however, for the contractor to make up this lost time and complete the project in mid-1953 as planned. 22. It nowv appears that the foreign exchange cost of the project will exceed the amount of the loan, and that the local currency cost will also exceed the original estimate. The 3anlc has asked CEL to discuss with it the exact amounts in'rolved, and methods of financing them. No appreciable changes have been made in the original plans for the project.  23. Differences have arisen between CEL and the J. A. Jones Construc- tion Company over the interpretation of certain provisions of the contract between them. One of the points to be settled is the price which the Con- tractor may charge for the type of cement actually used, which was, as a result of the change of source of supply mentioned in paragraph 19 above, not that specified in the contract. The contract contains an arbitration clause which provides that such differences should be submitted to a tri- bunal of three arbitrators. In accordance with this clause, CEL and the Jones Company have each appointed an arbitrator and, at their request, the President of the Bank has appointed a third, in the person of Mr. Eduardo Suarez, the former Mexican Secretary of Finance. VI. LOCAL CURRENCY FINANCING 24. The local currency costs of construction, g13.1 million, equiva- lent to $5.24 million, and almost 30 per cent of the total cost, are being met by the sale of-colones bonds, issued by CEL with the guarantee of the Government, This arrangement was proposed by the Bank for the t.o-fold purpose of encouraging the development of a capital market and of enlist- ing private capital for development. The Loan Agreement required that the full amount of these bonds be sold before CEL could begin to withdraw from the loan account. 25. The financing of a productive undertaking by a public bond issue was unprecedented in El Salvador. Moreover, the amount required was large in relation to the wealth and population of the country. It was therefore particularly important that the terns and form of the bond issue be de- signed to obtain widespread participation 'oy individual investors as wkrell as by banks and government agencies. 26. The Bank lent the services of the late Mr. Norman F. Tucker, the Director of its Marketing Department, to advise the authorities on the preparation and marketing of the issue. Mr. Tucker spent four months ir El Salvador, from March to June 1950, making a thorough analysis of the potential market, advising on the term and form of the bonds, and working out a marketing plan. 27. In order to make the Rio Lempa bonds attractive, it was necessary that they should be able to compete successfully with the bonds of the Salvadorian Mortgage Bank, which are guaranteed by the Government and secured by mortgages on real property, without at the same time making them so attractive as to set a bad precedent for future issues. It was finally decided that the Rio Lempa bonds should be issued as 5% Guaranteed Sinking Fund bonds, representing direct unsecured obligations of GEL, and fully guaranteed by the Republic of El Salvador. The date for final amor- tization was fixed for January 15, 1975, about the same time as final pay- ment of the Bank Loan, 28. The Central Bank was chosen to act as Fiscal Agent for GEL and given authority to conduct open market operations and to invest in the bonds itself.  29. To increase their marketability, the bonds were given a number of special features. Their principal and interest are exempt from taxation. The bonds and interest coupons can be used at their nominal value to pay taxes and inheritance duties. They are eligible as collateral for customs and other tax liabilities for which the posting of a bond is required, and may be used as security for loans from the Central Bank, The bonds are eligible for investment of Government trust funds. While some of these privileges are also enjoyed by the bonds of the Mortgage Bank, eligibility for payment of inheritance duties and for the securing of customs liabilities are confined to the Rio Lempa issue. 30. At the suggestion of the International Bank, the bonds were sold for cash by CEL, except when purchased by the Government or the Banco Central, in which case GEL accepted unconditional demand notes bearing interest at the same rate as the bonds. The bonds not paid for in cash represent, in effect, a reserve fund on which CEL can draw as and when it needs cash, and upon which interest becomes payable only as the cash is needed. 31. The bonds were 4issued by CEL at the end of June 1950, in denom- inations of V100, 0500 and 0Y,000, in the form of temporary certificates, to be subsequently exchanged for fully registered bonds in like denomina- tions. As El Salvador has no Stock Exchange, the bonds were sold through the banks. 32. In order to ensure against any possibility that the issue might not be fully subscribed, the Government undertook to purchase all bonds unsold at the end of October. Such purchases were to be in addition to those made by the Government at the time of the initial offering to the pub'lic. 33. The operation was successful. The fact that the issue was help- ing to finance a project for w-hich the International Bank was making a loan inspired confidence, and the bonds were fully subscribed within one week of the date of offering. Over 02 million was taken up by private investors, 34. The changes in the distribution of the bonds between August 1950 and September 1951 are shown in the following tabulations: August 1950 September 1951 Government 4 1.,ooo,OOO 4 IL,ooo,ooo Official Institutions 1,500,000 1,500,000 Central Bank; 1,762,800 2,097,600 Commeroial Banks 3,489,l0o 2,097,LOO Private Inv%estors 2,3h8,100 2,955,0oo Corporations 4 50o,000 '13O,100,OOO ' 13,100,000 These figures show that about 20% of the total amount of the bonds changed hands in 13 months. The commercial banks disposed of 10,391,700 worth of their original holdings,while the Central Bank purchased an additional  '334,800 worth, and private investors an additional