India - Rural Electrification Project

CIRCULATING COPY FILE COPY TO BE RETURNED TO REPORTS DESK DOCUMENT OF INTERNATIONAL DEVELOPMENT ASSOCIATION Not For Public Use Report No.P-.-1664-IN REPORT AND RECOMMENDATION OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON.A PROPOSED CREDIT TO THE GOVERNMENT OF INDIA FOR THE RURAL ELECTRIFICATION PROJECT June 23, 1975 This report was prepared for official use only by the Bank Group. It may not be published, quoted or cited without Bank Group authorization. The Bank Group does not accept responsibility for the accuracy or completeness of the report.  CURRENCY EQUIVALENTS (as at May 8, 1975) US$1.00 = Rs. 8.10 Rs. 1.00 = US$0.123 Rs. 1 million = US$123,446 (The Rupee is officially valued at a fixed Pound Sterling rate. As the Pound is now floating relative to the US Dollar, the US Dollar/Rupee exchange rate is subject to change. Conversions in the appraisal report were made at US$1 to Rs. 8.00, which is the short-term average exchange rate.) FISCAL YEAR April 1 - March 31  INTERNATIONAL DEVELOPMENT ASSOCIATION REPORT AND RECOMMENDATION OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED CREDIT TO THE GOVERNMENT OF INDIA FOR THE RURAL ELECTRIFICATION PROJECT 1. I submit the following report and recommendation on a proposed development credit to the Government of India (GOI) for the equivalent of US$57 million on standard IDA terms. The credit would support the activities of the Rural Eletrification Corporation (REC) in making loans to State Electricity Boards (SEBs) for the development of rural electri- fication with emphasis on energizing minor irrigation wells. The proceeds of the credit would be on-lent by the GOI to the REC on its normal terms for such lending: for the Minimum Needs Program 1/ these loans are for 30 years, including 5 years of grace, at an interest rate of 5-1/4% for the first 10 years, 5-3/4% for the second 10 years and 6-1/4% for the last 10 years; for other loans, the terms are 20 years' maturity, including 5 years' grace, and interest at 7-3/4%. PART I - THE ECONOMY 2. An economic report, "Economic Situation and Prospects of India" (691a-IN dated May 1, 1975) was distributed to the Executive Directors on May 20, 1975. Country data sheets are attached as Annex I. 3. India is exceptional among the Bank Group's member countries for its size, diversity, and the difficulty of its economic conditions. While India's economic policies and performance have their shortcomings, the sheer magnitude of the task facing the Government must be recognized. Governing a country divided into more than 20 States with a population of some 600 million and over 60 languages is an extraordinary responsibility. The country's poverty, supplemented by a net transfer of external resources averaging in recent years only about US$1 per head per annum, have imposed sharp limitations on the rate of growth. Account must be taken, also, of the uncertainties imposed by the erratic availability of water. A bad monsoon, which is inevitable from time to time, has a pervasive influence over the entire economy and wipes out the results of years of efforts. Thus, the annual growth of national income has averaged a modest 4% during the past 25 years, but only about 1% during the last four years (1971/72-1974/75), which have included two consecutive monsoon failures - i.e., an actual decline in per capita terms. 1/ The MinimumL beds Program is designed to provide the infrastructure for development in the backward areas of India.  - 2 - 4. Since independence progress has been impressive on many fronts, but disappointing on others and has all too often fallen short of India's massive needs. The growth of the socio-economic infrastructure (transport, education, health services, etc.) has been spectacular, but has often been achieved at high cost and has yi ided results of variable quality. Many industrial and agricultural investment schemes have 'been highly successful, but others have taken excessively long to be completed and have operated well below full capacity. In some regions of the country, growth and structural change have been rapid and compare favorably with developments in many other parts of the world, but in other regions there has been stagnation and possibly even decline. Despite these improvements and al- though the distribution of income in India is relatively even by comparison with most developing countries, there has been little impact upon the living standards of the vast masses of the urban and rural population. The Govern- ment has become increasingly concerned about the plight of the lower income strata, which - conservatively measured - consist of some 200 million people with incomes of less than US$60 per head per year, and has initiated in recent years a variety of programs specifically designed to alleviate poverty. 5. The structure of the economy has been slow to change. Agriculture remains the dominant sector, accounting for some 45% of national product in the early 1970s compared with around 49% twenty years previously. The share of output contributed by the industrial sector has increased only slowly and, since the late 1960s, has remained approximately constant at a level of 23%. There has, however, been a shift in the composition of industrial production, with consumer, intermediate, and capital goods now contributing about one- third each, compared with an overwhelming preponderance of consumer goods product'on 25 years ago. 6. Despite the slow pace of change and despite the undeniable magnitude of the problems confronting her, India has the potential in a number of important fields to mount a development effort which has a reasonable chance of success in the longer run. In agriculture, as discussed in the economic report of May 1975, the particular opportunities of substantial promise for improving the food situation over the next decade are: (a) Rejuvenation of the green revolution in wheat which has taken place in recent years in the Northwest and to a lesser extent in Bihar and West Bengal, but which has been losing momentum since about 1970. This is the result of deficiencies which can be corrected -- most importantly seed deterioration and lagging irrigation development. (b) Better use of the vast potentials that have been and are being created by surface irrigation through more expeditious project completion and complementary land and on-farm improve- ments to ensure better management and higher productivity of water.  - 3 - (c) Acceleration of groundwater development, especially in the Eastern regions, which are figuratively described as "floating on water," where the untapped potential is large and where consequently there are large opportunities for multiple cropping, better water management and greater crop security. (d) Promotion of increased production of monsoon rice, based on improved varieties which as yet have had only modest success but which are expected, on the basis of current research, to open the way to much greater productivity over India's vast rain-fed rice producing areas during the next few years. (e) Pursuit of the promising, although somewhat less definite, potential for greater productivity in dryland cultivation and for extensive introduction of higher yielding varieties of coarse grains. Because of the difficulties to be encountered in the effective development of these potentials, their realization is likely to follow uneven time patterns, probably coming in bursts of expanded production as in the case of the green revolution. And, along with administrative concentration and effectiveness, they will all obviously require provision of the supplies and services, especially fertilizer and power for irrigation, which are essential complements of the necessary technical and environmental changes. 7. Greater agricultural success would also make an important contribu- tion to India's perenially difficult balance of payments situation, which is frequently aggravated by the need for large food imports. From the balance of payments viewpoint, another essential ingredient for a resumption of modest growth is sustained export volume growth at considerably higher rates than have been achieved historically. In view of the composition of Indian exports, the momentum for such growth would have to be provided primarily by the rapid expansion of industrial exports which, in addition to easing the foreign exchange constraint, would act as an important stimulant to industrial growth -- notably absent since the mid-sixties. In the field of energy, too, there is considerable potential in the development of recent- ly discoVered oil resources and in the continued expansion of coal production. 8. It is hard, however, to conceive of the timely and effective exploitation of these various potentials unless administrative capabilities, which are overtaxed and diffused in an attempt to guide and control most economic activities, are focused on these areas. The requirement for industrial export stimulation would appear to be more generous and expeditious incentives, sufficiently attractive and reliable to induce domestic producers to venture into the competitive pressures of world markets. Finally realization of India's potential will undoubtedly also require a considerable  -4- infusion of external assistance, both to ease the payments constraints and to supplement the limited doiestic resources availatle for development. 9. W.hile there is thus potential for resuming the interrunted process of growth, there remains the formidable obstacle of the clirrent difficulties facing India. The short-term problem is much the same as it appeared last year, with the important exception that the efforts made to adjust to changed circumstances and the responsiveness of aid givers t:o India's needs should mitigate the hardships that Lie ahead. Last year began with deficient winter rains and a poor spring harvest, with one of the worst Government wheat procurement experiences on record, with a prospective balance of payments deficit of US$2.5 billion or twice as much as in the preceding year, with inflation running at an anntul rate of 30% and a fiscal situation seemingly out of hand, and with serious energy and material shortages and little prospect for alleviating themD through imports within the severe constraints of the balance of payments. It was hardly surprising in this sitwation that adjustment to immediate difficulties was the prime economic preoccupation. Growth had necessarily to take a second place to short-run exigencies in the emphasis of economic polLcy in this first year of the Fifth Five-Year Plan period. 10. Monetary expansion., which had been running at a rate of 15% in 1973/74, was brought under severe counterpressure through tight credit res- trictions. The burden of these restrictions was borne largely by private and Government commercial activities, without a significant reduction in the rate of increase in net bank financing of the Government Budget. To this curtailment of credit to the commercial sector, there was added the deflation- ary influence arising from the net use of reserves aLnd as a result the rate of monetary expansion in 1974/75 was reduced to about 6%, or less than half that of the previous year. This, in combination with some improvements in physical supply, relieved the upward pressure on prices, and there was even a small price reduction in the second half of the fiscal year. With con- tinuing tight monetary policiLes, prospects are for greater price stability this year than last. 11. The food problem was probably the single most threatening element on the economic scene last year. A poor harvest and low procurement in the spring was only the start of agricultural adversities. Next was failure of the mid-year monsoon in many key agricultural areas and a monsoon (kharif) crop which fell below that oE 1973 by about 5 million tons. The resu'lt was a severe shortage of domestic foodgrains for the public distribution system, with availabilities only about half of an austere level of requirements. A real food crisis was avoided, however, by imports of more than 6 million tons of foodgrains during the year ending in Marc!- 1975; this was almost twice as much as the imports of 1973/74. With tnese imports and with relative empha- sis on food distribution in the cities rather than the countryside, where supply conditions were presumed to be not quite so unmanageable, the threat- ening food situation was weathered, although not without hunger and priva- tion for a great many of the rural poor who were unable to afford much of what food was available.  - 5 - 12. The oil situation was managed, although at double the cost for a reduced import level, by curbs on consumption and by substitution. MIotor spirits were heavily taxed to reduce consumption by about 20%; factories and power plants were converted from fuel oil to coal wherever possible and supplies of fuel oil were reduced by more than 15%; coal production, after years of stagnation, was increased by about 13%, and, after a poor start, transport managed to keep up with the additional coal in spite of serious labor troubles on the railways. There was also some improvement in the operation of the deficient power system through special efforts to raise the low capacity utilization of thermal plants and by a more systematic allo- cation of available power, with special priority for requirements of agri- cultural irrigation and fertilizer production. Power shortage has remained, nevertheless, a severe constraint on the economies of many regions. Among other critical shortages, the supply situation eased in the course of the year, especially for fertilizer, steel and non-ferrous metals. The fertilizer situation was brought into better balance by a combination of substantial imports and some lag in demand attributable largely to poor weather and sharply increased prices. Steel and other metal supplies also improved during the year, with some increase in domestic production in the case of steel and also because of price resistance and uncertainty in a sluggish industrial situation. 13. Last year's balance of payments turned out to be manageable in spite of a 45% jump in the import bill. Economies in import volume helped. More important, there was also an increase of 22% in the value of exports. The main payments support, however, was an increase of about US$1 billion in external financing, made up of large drawings on the International Mone- tary Fund including the Fund's Oil Facility, larger aid from the India Consortium including the World Bank Group, oil purchases on credit, a mil- lion tons of wheat on loan from the USSR, and additional food aid from several other countries. With all this, in 1974/75 India had to draw on its gross reserves only by about US$40 million, but external debt service requirements in the medium term were increased, as were obligations to the IMF. 14. This year (1975/76) the economic situation has started more favor- ably than last year, with the expectation of a better harvest and larger procurement from the spring (rabi) crop, with easier conditions in other material supplies, and with much less inflation. However, the payments situation is if anything more critical. 15. The 1975/76 trade deficit is projected at US$2,025 million. This compares with about US$1,815 million last year, but with hardly any trade deficit at all in 1972/73, which was before India's terms of trade worsened sharply as prices of imported oil, grain, fertilizer and other essential goods went up. Adding to the 1975/76 trade deficit another US$800 million of payments on external obligations and taking account also of probable net invisible receipts, this year's overall balance of payments deficit seems likely to come to about US$2,635 million, or about US$160 million more than last year. These enormous deficits persist in any reasonable calculation of  - 6 - minimum import requirements of fuel, food, fertilizer and other essentials, for which further compression seems hardly feasible, even at the low level at which the economy is functioning. 16. Fortunately nearly half of this year's prospective deficit (about US$1,155 million) can be covered fom gross disbursements of previously committed foreign aid, including juist over a billion dollars of Consortium aid about evenly divided between bilateral and World Bank Group sources. Eastern Europe is expected to provide perhaps US$100 million, which is down considerably from last year in the absence of further food assistance from the USSR. All this leaves a balance of US$1,500 million to be financed from disbursements out of new aid commitments in the current year and to some extent by an inevitable drawdown of foreign exchange reserves which stood at US$1,365 million at March 31, 1975. 17. To highlight the crucial variables in India's longer-term payments outlook, the May 1975 economic report contains some projections of India's import capability during the 10 years following 1975/76. Broadly speaking, the conclusion which emerges is that a modest increase in India's import capability - an average of 5.2% per annum after allow:ing for inflation - could be achieved, provided: (i) new aid commitments in real terms (including IMF facilities and the aid provided by oil producers) remain approximately at 1974/75 levels; (ii) India's exports attain an averag,e volume growth of about 8% between 1976/77 and 1985/86; and (iii) the bulk of new aid continues to be provided on concessional terms. Given the above assumptions the debt service ratio (expressed as a percentage of export earnings) would rise from about 19% in 1974/75 to 23% in 1979/80 and then decline slowly. India's external public debt outstanding and disbursed on March 31, 1974 stood at US$12.4 billion, 18. A considerably improved export performance, which will require policy measures to improve incentives, is crucial to a successful development effort. To the degree that exports fall short of the 8% growth target, India's creditworthiness will be reduced, and she will face greater dif- ficulty in borrowing to meet a larger balance of payments deficit; the re- sult would be slower growth throughout the economy. PART II - BANK GROUP OPERATIONS IN INDIA 19. Since 1949, the Bank. Group has made 44 loans and 72 development credits to India totalling US$1,437 million and US$3,404 million (both net of cancellation), respectively. Of these amounts, US$691 million has been repaid, and US$1,548 million was still undisbursed as of May 31, 1975. Annex II contains a summary statement of disbursements as of May 31, 1975, and notes on the execution of ongoing projects.  20. Since 1957, IFC has made 14 commitments in India totalling US$51.8 million, of which US$8.4 million has been repaid, US$7.6 million sold and US$6.3 million cancelled. Of the balance of US$29.5 million, US$22.4 mil- lion represents loans and US$7.1 million equity. A summary statement of IFC operations as of May 31, 1975 is also included in Annex II (page 2). 21. In recent years, the emphasis of Bank Group lending has been on agriculture. The Bank Group has been particularly active in supporting minor irrigation and other on-farm investments through agricultural credit operations. Major irrigation, marketing, seed development, and dairying are other agricultural activities supported by the Bank Group. Also, the Bank Group has been active in financing the expansion of output in the fertilizer sector and, through its sizeable assistance to development finance institu- tions, in a wide range of geographically scattered medium- and small-scale industrial enterprises. IDA financing of industrial raw materials and com- ponents for selected priority sectors has been instrumental in facilitating better capacity utilization in industry. The Bank Group has also been active in supporting infrastructure development for power, telecommunications, and railways. Family planning, education, water supply development, and related urban investments have also received Bank Group support in recent years. 22. The direction of assistance under the Bank/IDA program has been consistent with India's needs and the Government's priorities. The emphasis of the program on agriculture, industry, power, and transport remains highly relevant. The priority of the agricultural sector has been further enhanced by the present world commodity situation. Thus, projects designed to foster agricultural production through the provision of essential inputs such as credit for on-farm investments, command area development of existing irriga- tion schemes, and seed production form an important aspect of the Bank Group's program for the next years. Special emphasis will be given to projects bene- fitting small farmers and landless laborers. Lending in support of infra- structure and industrial investments will focus on energy-related projects. Repeater credits for power and railways have high priority in this context, and discussions are under way with the Government in an effort to identify and prepare projects specifically designed to facilitate coal production and coal transport. Lending for fertilizer projects, which has been an im- portant feature in recent years, is expected to continue to occupy a prom- inent place in the future program; the use of coal-based technology will receive particular attention. 23. The need for a substantial net transfer of external resources in support of India's economy has been a recurrent theme of Bank economic reports and of the discussions within the India Consortium. The need for readily usable foreign exchange assistance is especially pressing at a time when output and investment have to be adjusted to a radically different price situation. Consequently, Bank Group lending for critical industrial raw materials and components continues to be an essential element within the overall program of assistance. As in the past, Bank Group assistance for projects in India should include, as appropriate, the financing of local expenditures. India imports relatively few capital goods because of the capacity of the domestic capital goods industry. The import component of  - 8 - projects tends to be especially low in such high-priority areas as agricul- ture, education, and family planning. For the Bank Group to be able to make -n appropriate contribution to the financing of projects in these sectors, it is important to cover a proportion of local expenditures. 24. Of the external assistance received by India, the proportion contri- buted by the Bank Group has grown significantly. In 1969/70 the Bank Group accounted for 34% of total conmitments, 13% of gross disbursements, and 12% of net disbursements as compared with an estimated 35%, 28% and 42%, respec- tively, in 1973/74, and the contribution of the Bank Group is expected to continue growing. Whereas on M.Sarch 31, 1974, the Bank Group's share of India's outstanding external public debt was 19%, by 1979 it is likely to account for about 25%. Because Bank Group assistance to India is predomi- nantly in the form of IDA credits, debt service to the Bank Group will rise slowly. In 1974/75 about 14% of India's total debt service payments were to the Bank Group. PART III - THE POWER SECTOR 25, India's installed power generating capacity increased at an average annual rate of 10.3% over the 20-year period from the end of 1950, while gross electricity generation grew at 11.6%. Demand, however, was consistently greater than the available supply, with the result that India's power sector has been characterized by local and intermittent shortages. This situation has been due to a number of factors, including inadequate planning, delays in the construction of new generation projects, the late- ness or inadequacy of additions to transmission and distribution facilities, and operating and maintenance problems. During the :Last three years of the Fourth Five-Year Plan, ending in March 1974, the power supply situation be- came critical, since the above problems were exacerbated by the failure of two successive monsoons, leading to the enforced shut-down of hydro plants, and by shortage of coal for the power sector, which had an adverse impact on thermal generation. 26. Thus, events fell far short of the ambitious targets for the Fourth Plan. Installed generating capacity reached 18.4 million KW by the end of 1973/74, compared to a target of 23 million KW. Since then, power supply has increased considerably, due to better utilization of existing thermal plant, the commissioning of new capacity, and additional intercon- nection of transmission facilities. Preliminary figujres for the year ended in March 1975 indicate a 9.3% increase in installed capacity and a 3.5% in- crease in electricity generation compared with the previous year. 27. The Draft Fifth Five-Year Plan aims at a generating capacity of 35.4 million KW at the end of 1978/79, almost double the capacity attained by the end of the Fourth Plan. This implies an even larger increase in electricity consumption, because it is also planned to reduce relative  - 9 - transmission and distribution losses. It would be reasonable to expect some shortfall from these ambitious targets; the size of the shortfall will depend upon the implementation capabilities of the State Electricity Boards (SEBs), the availability of financing, and the capacity of the con- struction industry to complete projects on time. Although the power supply situation will remain tight at least during the first half of the Fifth Plan period, it should improve thereafter in most parts of the country. 28. Of the total proposed Fifth Plan outlay of Rs 62 billion in the power sector, Rs 11 billion, or 18%, is allocated to rural electrification. Since 1967 rural electrification has been an important element in the Government's strategy to increase food production, by helping to maximize the use of groundwater through the electrification of pump sets. It is also a key element in integrated rural development and therefore a powerful tool for the economic and social advancement of the rural population. Achievements to date have been impressive: by March 1974, over two million pumpsets had been electrified, compared with some 500,000 a decade earlier, and over one-quarter of the 570,000 villages in India had been electrified. The Draft Fifth Plan calls for the electrification of another 1.5 million irrigation pumps and 100,000 villages. 29. Financial returns to SEBs on rural eLectrification investments are very low. This is chiefly because of (i) relatively low population density in rural areas, (ii) high cost of supply resulting from poor load factors and long distribution lines, and (iii) tariffs which do not cover the cost of supply. Even so, given its impact on increased agricultural production and on income generation in the poorest areas, rural electrifica- tion in India is clearly justified on economic and social grounds. 30. The Indian power sector is institutionally complex because electricity supply is within the concurrent juridisction of the Central Government and the State Governments, according to the Constitution and to the Electricity (Supply) Act, 1948. The Act assigned to SEBs responsibi- lity for the development of power generation, transmission and distribution within each State, leaving the Center with a vaguely defined responsibility for planning and coordination. This was workable when power consumption was very low and confined to a few urban centers, but the need for improved planning of integrated power development has become increasingly obvious in recent years. 31. It will take time to bring about effective change in the operation of the power sector, because the States are understandably reluctant to relinquish some of their authority to the Center. Nevertheless, a beginning has now been made with the necessary institutional reforms. The Act of 1948 provided for a Central Electricity Authority (CEA) which was to be responsible for developing a national power development policy and for coordinating the activities of the various agencies at the Central level influencing resource allocations and development priorities for the power sector. Although it was formally created in 1950, the CEA has been ineffective. However, it is now in the process of being reorganized. The former Central Water and Power Commission has been split; the irrigation  - 10 - function is now carried out within the Ministry of Agriculture, and the power function has been undertaken by the CEA, which reports to the Ministry of Energy. Four members have been appointed; the Chairman and two other members remain to be appointed. The Institute of Management at Ahmedabad has been appointed to help formul;zte the structure of the new organization, particularly at the subordinate btaff levels. Although the new organiza- tion is not yet complete, and is, therefore, not fuilly operational, progress to date demonstrates genuine movement toward more effective regional and national integration of the power sector. 32. Apart from these institutional reforms, greater authority is also expected to accrue to the Center under plans to give a major place in future electric power development to large projects under central juris- diction, with the power generated to be sold to the States. This should go a long way toward offsettirng State deficiencies and providing a source of generation for inter-State switching according to regional and national requirements. 33. The Bank Group has been providing assistance for power development in India sirnce 1950, and has made eight loans and six credits totalling US$437 million for the sector. Prior to 1965, this assistance was focused on the financing of generatiorn projects; subsequently the focus has been on the strengthening of high-voltage transmission facilities. The two projects now under implementation, the Second and Third Power Transmission projects (Credit 242-IN of 1971 and Credit 377-In of 1973), got off to a slow start as a result of delays in the development of satisfactory bidding documents and delays in the evaluation of bids; as a result, only some US$24.9 million had been disbursed as of May 31, 1975O However, virtually all orders have now been placed, and implementation is expected to proceed as rapidly as the timing of deliveries permits; US$4.2 million were disbursed during April 1975 alone. PART IV - THE PROJECT 34. Appraisal of the proposed project was completed in April 1973. Processing was delayed because of the severe power shortages then prevail- ng ir. India and because organizational measures required by the Association -reactivation of the CEA -- took longer then expected. An updating mission visited India in February 1975. A report entitled "Appraisal of Rural Electrification Project" (No. 688-IN, dated June 23, 1975), is being distributed separately to the Executive Directors. Negotiations were held in Washington in May, 1975. The Government of India was represented by Mr. V.N. Rajagopalan of the Ministry of Finance and Mr. R. Kapur of the Ministry of Energy; the Rural Electrification Corporation by Mr. M.M.K. Wali, Managing Director, and Mr. B.S. Kochar, Chief Engineer. Attached as Annex III is a credit and project summary.  Project Description 35. The project consists of rural electrification schemes to be under- taken by the Rural Electrification Corporation (REC) during the Fifth Five- Year Plan period, ending in March 1979. REC's program over the Fifth Five- Year Plan period (1974/75 to 1978/79) is projected at about US$800 million. Rural electrification schemes which are submitted by eligible SEBs (see para 39 below) and which meet REC's criteria (see para 38 below) will be eligible for financing under the credit. About 140 schemes covering a total of US$114 million are expected to receive assistance under the credit. More than half of the connected load would be for irrigation pumping; the balance would be for small industries and domestic and commercial connections. The REC, an autonomous company under the general supervision of the Ministry of Energy, was established in 1969 to channel funds to SEBs for rural electrification development. Of its original capital of Rs 1,500 million, 70% was provided by a grant from the United States and the balance from the Government. All these funds and more have now been used by REC for some 958 rural electrification schemes sanctioned as of March 31, 1975, and the Corporation needs additional funds to carry on its business. Implementing Agency 36. REC management is vested in a Board of Directors consisting of a part-time Chairman, who has wide banking and financial experience, full- time Managing and Technical Directors, and nine part-time Directors. The REC is a strong organization supported by competent professional and techni-al staff. It has established sound policies and procedures for project appraisal, evaluation and approval; it monitors the implementation of sanctioned schemes; it coordinates the standardization of equipment and construction practices. Rural electrification is an integral part of rural development and the appraisal of rural development schemes takes into account all relevant infrastructure considerations and the availability of inputs (e.g. groundwater, credit facilities, fertilizers and seeds). Thus REC is not merely a lending institution but is involved in the whole process of rural development. 37. REC's financial position is satisfactory. Its equity as of March 31,.1974, was almost four times its long-term debt, but this ratio will not be maintained in the future, since the Government intends to increase the proportions of its capital contribution made in the form of debt. Due to the large interest-free grant from the U.S. and the low-cost capital made available by the GOI, the overall cost of capital to the REC has been about 1% in the past and the interest earned on loans advanced by it has averaged 5.5%. Although the amount of interest REC pays on borrowed money is projected to increase rapidly, it will recover this through interest on loans advanced to SEBs, expected to average 6.6%. Projections show that from 1974 to 1979, revenue would increase six-fold and operating income (after interest and administration cost) by 24%. To ensure that REC continues to have sufficient funds to meet its debt service obligations and other expenses, the GOI and REC have agreed that REC's internally  - 12 - generated funds shall be not less than 1.2 times its debt service require- ments in any financial year and that REC's administrative and interest expenses shall not exceed 90% of the interest it receives during any finan- cial year (Section 4.02 of Development Credit Agreement and Section 4.03 of Project Agreement). 38. The Corporation has established acceptable criteria for lending to SEBs to finance rural electrification schemes. These call for revenues and expenses breaking even by the seventh to the fifteenth year of operations, depending upon the type of scheme involved, and are equivalent to internal financial rates of return ranging from about 10% to 5%. The REC has agreed to utilize the proceeds of the proposed credit only for schemes which promise to meet these financial viability criteria (Section 2.05 of Project Agree- ment). 39. Since SEBs were first established, their finances have not been satisfactory, due in part to weaknesses in the Electricity (Supply) Act, 1948, and in part to the fact that their initial capitalization was pri- marily through debt to the State Governments, leading to large arrears of interest. In 1964, a Government committee set up to examine the financial workings of SEBs made various proposals for improving their financial condition. While most SEBs have since increased their earnings, attain- ment of the established rate-of-return target is still not within reach for most of them. This is largely attributable to their low-yielding investment in rural electrification, which has not been adequately compensated by tariff increases. Credit 377-IN established that the six State Governments which are participating in that Credit (Assam, Karnataka, Kerala, Madhya Pradesh, Orissa, and Tamil Nadu) would subsidize losses incurred by the SEBs from rural electrification operations. To contribute to the broad objective of encouraging SEBs to become financially viable, the REC has agreed to utilize the proceeds of the proposed credit only for loans to those SEBs, as deter- mined by the Association, whose State Governments agree to provide them with an annual subsidy to the extent needed to enable them to meet the rate-of- return target or to fully subsidize their losses on rural electrification operations (Section 2.04 of Project Agreement). The Financing of a Rural Electrification Schemes 40. The REC makes initial advances of about 352 of the value of loans at the time they are sanctioned. For subsequent years' disbursements on these loans, the Corporation relies on capital contributions from the Government. The GOI has agreed to provide the REC each year not only with funds to enable it to make initial advances and subsequent disbursements under the project, but also with sufficient fvnc's to close any financial gap between that year's disbursements on loans existing aLt the beginning of the year and funds available from other sources (Section 4.01 of Development Credit Agreement). REC's loans normally include a provision of 3% of the project costs for physical contingencies, but no provision for price esca- lation. In view of recent inflation rates and the fact that disbursements against sanctioned projects normally extend over 5-7 years, REC has agreed to make provision for price escalation during the construction period of  - 13 - schemes sanctioned in the future, as the SEB may be unable to secure addi- tional funds elsewhere. (Section 3.03 of Project Agreement). 41. The Terms of RECts loans to SEBs for rural electrification schemes have been tailored to meet the circumstances of particular categories of schemes. However, in general, interest rates are graduated over the life of a loan starting at a minimum of 5-3/4% and rising to a maximum of 9%. Maturities range from 8-30 years with corresponding grace periods ranging from 1 year to 5 years. Project Costs and Financing 42. The total project cost of US$114 million will be met by equity pro- vided to REC by GOI (US$24 million), loans from GOI and market borrowings (US$33 million) and the proposed credit of US$57 million. The foreign ex- change cost of the project is US$29.7 million. The principal items required for the project are conductors (US$28.6 million), transformers and circuit breakers (US$11.4 million), poles (US$17.1 million) capacitors, insulators and meters (US$8.5 million) miscellaneous equipment and service connections (US$20 million) and supervision, overhead and physical contingencies (US$17.1 million). The proceeds of the credit would finance 100% of the items procured through international competitive bidding and 50% of the cost of poles which will be procured locally. Up to US$27 million of the credit may be used to meet local expenditures (see para. 43 below). 'Proeurement and Disbursement 43. Conductors, (US$28.6 million), transformers and circuit-breakers (US$11.4 million), and capacitors, insulators and meters (US$8.5 million), would be procured through international competitive bidding. Poles, valued at about US$17.1 million, are too heavy and their resulting transportation cost too high to be suitable for international bidding and would be procured locally. Each SEB would be responsible for its uwn procurement, but REC would provide assistance in bid documentation and evaluation. The items to be procured internationally would be grouped for purposes of invitations to bid in packages of contracts estimated to cost at least US$1 million; any SEB which does not engage in this volume of procurement for REC-financed schemes in a year would group its total estimated annual requirements for these items in a single bid invitation. Indian suppliers competing under international competitive bidding would be granted a preference margin of 15% or the current rate of import duty, whichever is less. It is estimated that about 80% of the conductor contracts, 70% of the transformer contracts and 70% of the other internationally bid contracts - which have an esti- mated indirect foreign exchange content of 60%, 40% and 20% of ex-factory costs, respectively - would be won by Indian bidders. In that case, the credit would involve local currency financing of about US$27 million. The credit would be disbursed against 100% of the c.i.f. or ex-factory cost of internationally bid contracts and 50% of the ex-factory costs of locally bid contracts.  - 14 - Justification 44. The project would benefit about 55,000 farmers and their dependents and about 210,000 domestic/commercial consumers in 6,250 villages. The main economic benefits would result from increased agricultural production. Irrigation pumpsets, for which electrical power is generally more economical than diesel power, would enable farmers to intensify land use and to raise output through the use of high yielding seed varieties. Other benefits would accrue from the expected establishment of small industries, especially agro-industries, and thereby the creation of new employment opportunities. There would also be social benefits such as the many uses of electricity in rural villages and households and the possible curbs on urban migration. Based on the value of incremental output from agriculture and small industry and the expected revenues from domestic and commercial consumers, the eco- nomic rate of return on investment in a typical REC-financed project is estimated at 23%. While this is the return from a typical REC scheme, there will be substantial variations depending upon the conditions prevailing in different states but it is not expected that schemes that meet REC's criteria will show an economic rate of return of less than 10%. These estimates do not take account of the unquantifiable socio-economic benefits of village electrification just mentioned. PART V - INSTRUMENTS AND AUTHORITY 45. The draft Development Credit Agreement between India and the Association, the draft Project Agreement between the Association and the Rural Electrification Corporation, the Recommendation of the Committee pro- vided for in Article V, Section 1(d) of the Articles of Agreement, and the text of a draft Resolution approving the proposed development credit are being distributed to the Executive Directors separately. 46. Features of the draft agreements of special interest are referred to in paragraphs 37, 38, 39 and 40 of this report. 47. I am satisfied that the proposed credit would comply with the Articles of Agreement of the Association.  - 15 - PART VI - RRECOMMENDATION 48. I recommend that the Executive Directors approve the proposed credit. Robert S. McNamara President Attachments June 23, 1975  COUNTRY DATA - INDIA ABEL 3Di in mi-l?3 3p0,11H83 k2q7f in md13)350 Per klouSe arable land DEMOGRAPHIC C-rude-birth rate (per thousand) 36 /b 4..d.,...de 3. I Crude death rate (per thousand) 61 b'191120I Infant mortality rate (per thou.sand live births) 1319 171-1160 d b lbS. La, Life expectancy at birth (yearn) II /h 50 0. 50 72 Gross reproducltion rate /5 2.7 /hi 2.9 3.2 3.3 1.3 Population growth rate /72.3 2.3 /J 2.0 L 3.0 Li 0). /5 Population growth rats - urban 3 /h.k 1 5 /1 /l, 0.5 /n age structure (perent) I-lb, h1 LO f 2./ i3 /s 13.3/n 15-61, 56 57/ Ifj53 52.A 62.2t /o 61 and floor ~ ~ ~~~~ ~ ~~~~ ~ ~~~ ~~~~~~3 3 / 3 /53 /a i3.6 / deo Inpodero,y ranion /50 0.6 0.7 /t ii 0.6 J rnlodrr-dco-y ratio IL, . 1.7 /c . c K 0.6F Urbso population as percent of total 18 Jk 20 /o,k li S/I 32ii P. J.,, Family planning: N. of aunptors -unution (thous.) 1ooo T. .. 75 1j09 No. of use rs (% or nacnied ,omen) ' HEAP WYMEN? Tot=allatr force (thousands) 109,0(0x /j 221,000 LLA iO,100 Jo 30w /0 25, (03. /5 P,,roentage seploynd in agriculture . 737 ___ 2? 71 /c 7 jo Perc cntage ,,nenploysd 3 n27 3. c I11COME DISTRIBUTION Pero-ct of nat_iooal isno,e reni-ed by highest 5% 27 J 20500 .. 55, Percet of ationsi1 ioen rece-ivad by high.st 20% 52 /0 63 Joo51 39/t Pe rcent ofl atiocal hioac r.. o- i-ed by lowet 20% L /r 1 /rs .6 . , Peccant of national incn ...o.. i-sd by lowost L0% IL3, / 13 /0,0 .12L