Somalia - Petroleum Exploration Promotion Project

Document of FILE COPY The World Bank FOR OFFICIAL USE ONLY ReportNo. P-2728-SO REPORT AND RECOMMENDATION OF THE PRESIDENT OF THE INTERNATIONAL DEVELOPMENT ASSOCIATION TO THE EXECUTIVE DIRECTORS ON A PROPOSED CREDIT TO THE SOMALI DEMOCRATIC REPU]3LIC FOR A PETROLEUM EXPLORATION PROMOTION PROJECT May 21, 1980 This document kms a restricted distribution and may be used by recipients only In the performance of their oflicW duties. Its contents may not otherwise be discilosed without World Bank suthoriation.  CURRENCY EQUIVALENTS (For CY1979 and April 30, 1980) Unit Somali Shilling (So.Sh.) So.Sh. 1.00 US$0.1589 US$1.00 = So.Sh. 6.295 GLOSSARY OF ABBREVATIONS Organizations DMH - Department of Mines and Hydrocarbons IMWR - Ministry of Mineral and Water Resources NPA - National Petroleum Agency OAPEC - Organization of Arab Oil Exporting Countries OEP - Oil Exploration Permit OPP - Oil Prospecting Permit OML - Oil Mining Lease Technical Terms BD - barrels daily GWh - gigawatt-hour KWh - kilowatt-hour MHCFD - million cubic feet per day MW - megawatts Other FYDP - Five Year Development Plan (1974.-1978) TYDP - Three Year Development Plan (1979-1981) (Also note Attachment 1 to Annex IV) FISCAL YEAR January 1 - December,31  FOR OFFICIAL USE ONLY SOMALI DEMOCRATIC REPUBLIC PETROLEUM EXPLORATION PROMOTION PROJECT CREDIT AND PROJECT SUMMACY Borrower: Somali Democratic Republic Beneficiary: Ministry of Mineral and Water Resources Amount: US$6.0 million Terms: Standard Project Description: The project would support the Government's efforts to develop a domestic supply of hydrocarbons and improve its planning of the energy sector. The Project includes: (a) technical assistance to Department of Mines and Hydrocarbons (DMH) (56 manmonths) to compile and evaluate geophysical and geological data and assist DMH in updating the Legal framework for promoting Somalia's petroleum potential and negotiating with petroleum companies. This component provides training for DMH staff, office and field equipment as well as special st:udies; (b) a geophysical survey of the Coriole-Afgoi prospects; (c) an assessment of the oil-shale deposits in Northern Somalia; (d) assistance in energy planning (23 manmonths). Risks: There is no special risk attached to the technical assistance component. The risk associated with the geophysical survey is that the quality of the data acquired may not be sufficient enough to provide conclusive evidence on the Afgoi and Coriole prospects. The supervision by DMH consultants should reduce, if not eliminate, this risk. This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  - il - Foreign Local Total % of Total ---------------(US$ 000) ------------- Estimated Costs Assistance to energy planning 225 25 250 4.5 Assistance to DMH 970 170 1,140 20.5 Training 135 15 150 2.7 Equipment and storage 200 - 200 3.6 Special studies 920 160 1,080 19.4 Geophysical survey 2,100 400 2,500 44.8 Assessment of oil shale deposits 220 30 250 4.5 Baseline costs 4,770 800 5,570 100.0 Physical contingencies 480 80 560 Price contingencies 750 320 1,070 Total Contingencies 1 ,23Q 400 12630 TOTAL 6,000 1,200 7,200 Financing Plan IDA 6,000 - 6,000 Government - 1,200 1,200 TOTAL Estimated Disbursements FY 81 FY 82 FY 83 IDA Annual 2,050 3,340 610 Cumulative 2,050 5,390 6,000 Rate of Return: N.A. Staff Appraisal Report: N.A. Eap: IBRD 14897  INTERNATIONAL DEVELOPNENT ASSOCIATION REPORT AND RECOMMENDATION OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED CREDIT TO THE SOMALI DEMOCRATIC REPUBLIC FOR A PETROLEUM EXPLORATION PROMOTION PROJECT 1. I submit the following report and recommendation on a proposed credit to the Somali Democratic Republic for the equivalent of US$6.0 million on standard IDA terms to help finance a petroletm exploration promotion project. PART I - THE ECONOMY 2. A Country Economic Memorandum (Report No. 2244-SO) was distributed to the Executive Directors in January 1979. Cotntry data sheets are attached as Annex 1. An economic mission will visit Somalia in the near future. 3. The Somali Democratic Republic gained its independence in 1960 and the present Government came into power in 1969. A new Constitution adopted in 1979 provided for a People's Assembly elected from candidates nominated by the Somali Revolutionary Socialist Party. The eleclions for People's Assembly were held in December, 1979 and the Assembly appointed General Siad Barre as President in January, 1980. At present, the country is still suffering from hostilities in the border areas in the Ogaden, and the disruption caused by the phasing-out of Soviet aid and technical ass:-stance in 1977. This, combined with large-scale migration of Somali workers to the Middle East, has led the Government to reexamine its development strategy. Although no major strategy has yet emerged, some cautious steps tending to increase the role of market forces in the economy have been taken. 4. Somalia is a large country with a 3,00-kilometer coastline; its land mass varies from a hot and arid coastal plain, to rugged mountains and plateaus, and lowlands of varying fertility and rainfall. Only 13% of the land is said to be arable, but with water the limiting constraint, only a small fraction of this potentially arable land is, in fact, cultivated. Of a total population of approximately 4.2 million, the majority (60%) are nomads and semi-nomads who depend on livestock for their livelihood, and about 20% are farmers cultivating land along the Juba and Shebelli rivers and in the higher rainfall bay and northwest regions, while the rest (20%) are engaged in non-agricultural occupations. The existence of several minerals has been confirmed but with exploration still in its early stages, commercial viability remains to be proved. Short of other known resources, Somalia's prospects  -2- depend upon agricultural and livestock development in which progress will depend upon careful management of scarce land and water resources. A Bank mission visited Somalia early this year to carry out an agricultural sector review and its report is expected in September 1980. 5. The small monetary sector of the economy provides only limited opportunities for growth. Apart from the traditional export of livestock, commercial agriculture is mainly centered on the production and export of bananas, in which foreign concession holders are still important, and the production of sugar for the domestic market. The expansion of manufacturing and other service sectors of the economy is limited by the small size of the domestic market, poor infrastructure and the shortage of capital and entrepre- neurial experience. Bank staff estimate that about 70% of the population live at subsistence levels of about US$200-250 per family of five. Social services are still very inadequate. There is little economic data on Somalia. Even basic figures such as GNP, population, number of livestock or output of major agricultural crops are only rough estimates. The Somali Government recently prepared its first very tentative estimates of national accounts, an activity for which the Bank also provided technical assistance. GNP is estimated at about So.Sh. 8,200 million in 1978. This gives Somalia a GNIP per capita of about $325 in 1978 at the official exchange rate, but if a more realistic exchange rate (So.Sh. 9.00=$1.00) is used, it gives a per capita income of about $225 in 1978. Per capita income has most probably not increased in real terms over the past six years. Although this figure is substantially higher than what was previously thought ($130 for 1978 according to the World Bank Atlas), it still keeps Somalia in the ranks of the very poor countries. Development Strategy 6. Since 1970 the Government has adhered to a program of "scientific socialism," emphasizing egalitarianism and social justice, development through the public sector, nationalization of certain foreign enterprises and the formation of cooperatives. While the Government has always stated that there is room for private initiative in Somalia and several privately financed projects have been implemented, the main emphasis has been given to develop- ment of the public sector. Public ownership and management have expanded through nationalization, creation and growth of enterprises. The parastatal sector now includes more than 50 autonomous agencies that have eliminated private enterprises in wholesale trade and banking while taking a major share in manufacturing. The Five-Year Development Plan of 1974-78 was essentially a public investment program that allowed for a few small private ventures. Although it provided a needed impetus to investment in the economy, the Plan does not seem to have played a major role in the allocative process. Despite the Government's initial intentions, industry and mining and infrastructure, have received more public investment than agriculture. At the same time, public enterprises have operated without firm Government control, owing to a large extent to weak management and the inadequacies of monitoring instruments. 7. Since the bulk of the population is engaged in herding or in sub- sistence farming, a development strategy for Somalia should be based on  - 3 - agriculture and livestock resources. The major development goals of the Somali Government include self-sufficiency in food grains, the partial sub- stitution of other food imports (oils, rice) and improvement of the lot of the traditional nomadic herdsmen through settlement programs and improvements in livestock production and marketing facilities. The current emphasis on irrigated agriculture is meant to make the countr-y less dependei.t on the erratic pattern of rainfall, and assure more stable and predictable increases in output. However, rainfed agriculture, which occupies the largest number of farm families, is also being assisted. Improvements in livestock produc- tion and marketing are being promoted together w[th projects aiming at the rehabilitation of the rangelands. 8. Somalia has made considerable progress in meeting some basic needs: a program of literacy and primary education has had noticeable results, and an effective system of food supply has been established. In other areas of the social sectors, however, the record is less impressive, particularly in water supply, sanitation, and health where services frequently seem to benefit mainly the urban population. On the other hand, economic growth has been rather slow, making it difficult for Somalia to pursue its basic needs policies vigorously. The Government 's industrial development policy focuses on the processing of domestic raw materials to substitute for imports, although there are a few rather large investments which do not conform to this policy. Finally, the Government places emphasis on developing infrastructure, espe- cially transportation and communications. Economic Performance, Problems and Sectoral Developments 9. Newly developed production figures indicate that between 1972 and 1978, gross domestic product in real terms increased by 2.5% a year which, given a similar population growth rate, led to stagnation in real per capita income. In the productive sectors, the growth was only 1% a year on the average, while in the services sectors it was 6.%, reflecting to a large extent the increase in Government employment. In the productive sectors, the annual growth was 2.5% in the livestock, minus 5% in crop production, and minus 0.5% in industry. The development of crop production is particularly disappointing. Thus, while food grain production stagnated, there was a sharp decline in banana production and moderate decline in industrial crops, particularly sugar. The causes of this are manifold: lack of effective production-oriented development program, uncertainty among private banana growers, management and agronomic problems on Government production schemes. Above all, however, the lack of incentive appears to have been a major factor. For the most important crops, the producer prices have decreased in real terms; in 1980, they are estimated to be lower than 1974: by 40% for bananas, almost 30% for maize and sorghum, and 45% for sesame seed and cotton. In the industrial sector, where agro-industries ptedominate, growth has been hampered by the generally declining trend in agricultural output as well as by the many problems besetting public enterpriEes. 10. The 1974-78 Five-Year Development Plan was revised several times but remained overambitious with respect to both financial and implementation capacities. The Three-Year Development Plan (TYDP) covering 1979-81 is a  composite of projects carried over from the FYDP and sore new projects. The Plan contemplates for total expenditures of So.Sh. 7.1 billion over the three-year period, of which So.Sh. 3.7 billion, or 52%, represents outlays on projects carried over from the 1974-78 development program. Of the total anticipated expenditure, about 64% is expected to be financed from foreign financing (compared with 67% under the FYDP). Nearly three quarters of the projected domestic financing, or slightly more than a quarter of total financing, is projected to be derived from government budgeted surpluses, with the remainder expected from domestic savings and borrowing from domestic sources. It appears that the TYDP is likely to face difficulties in imple- mentation simrilar to FYDP due to low absorptive capacity and severe resources constraint. 11. About 100,000 Somalis have migrated to work in the neighboring oil-exporting States. Total earnings of the migrants equal about ten times the total domestic value added in Somalia's modern sector. Labor migration has been a phenomenon that the Government neither organizes nor controls, and its magnitude is such that the drain of skills and the inflow of private funds may affect the smooth functioning of a Government-controlled economy. This migration is seriously depleting Somalia's already low stocks of qualified and skilled manpower, thereby reducing the absorptive capacity of the country and weakening its institutions. Migrant remittances in 1977 financed imports of about US$50 million, roughly equivalent to Somalia's exports of livestock (75% of total export value), consisting mostly of basic consumers' goods (foods, textiles, some durables). The savings of migrant Somalis financed an increasing share of total imports during 1978. To a large extent, these remittances should be mobilized for financing productive investment, although incentives and opportunities for private capital to engage in gainful invest- ment are liimited. 12. Somalia enjoyed a relatively comfortable financial position, both domestically and externally up to 1978. Foreign reserves appeared sufficient and credit expansion remained within tolerable bounds. In 1979, however, a sharp deterioration in the foreign exchange position set in. The budgetary situation had already begun to deteriorate during 1978 with doubling deficit financing between 1978 and 1979 and, as a consequence, inflation had become rampant. 13. Budgetary policies until 1977 generally remained conservative with efforts made to mobilize resources through taxation. Although the drought and the border problems have adversely affected the Government's budget during this period, inflows from sizeable external grants had considerably eased their financial impact. However, the border conflict of 1977 further acce- lerated the outcome that was already visible. In fact, the supply of Govern- ment services nationwide, the rising defense expenditure and the recurrent cost implications of recent public investment and policies, made it in- creasingly difficult to generate savings. During 1978-79, the Government's financial situation deteriorated rapidly, mainly because of sizeable expansion in expenditure resulting from several factors, including the border conflict, the cost of maintaining large number of refugees from the conflict area,  - 5 - and the wage bill associated with Government poLicy of guaranteed employment for all school leavers. At the same time, official foreign aid declined sharply. As a result, the budgetary situation worsened and the Government, which until 1978 had maintained a net creditor position with the Central Bank, resorted to borrowing heavily from the banking system, with deficit financing growing from So.Sh. 400 million in 1978 to So.Sh. 800 million in 1979. This, in turn, led to rampant inflation; 20% in 1978, 25% on the average in 1979, but by the end of 1979 the annial rate of inflation had exceeded 40%. 14. The external financial constraint until 1977 was mainly the result of sluggish exports, with relatively stable imports. The external financial imbalance until 1977 was masked by a massive inflow of foreign aid, resulting in substantial balance of payments surpluses. In 1978, although export receipts rose by 43%, mainly as a result of substantial increases in both the volume and unit value of livestock exports, the current account deficit nearly tripled because of both the large increase in total imports and the more than 75% decline in official external grants. Hence, notwithstanding a marked improvement in the capital account, the overall balance of payments in 1978 recorded a slight deficit. In 1979, however, exports are estimated to have stagnated because of a reduction in the volume of livestock exports. In- complete data indicate that the value of imports rose by at least 14% in 1979 after rising by 25% in 1978. But, compared with 1978, when about a third of the total value of imports was financed by migrant remittances and un- repatriated profits of livestock exports, non-cfficially financed imports fell in 1979 and the authorities were compelled to provide foreign exchange for the import of essential goods that were nor-officially financed in 1978. Since official foreign grants also fell, the current account worsened by $94 million, while the overall balance of payments is estimated to have recorded a deficit of about $80 million. Gross official reserves fell from $129 million (equivalent to seven months' imports) at the enLd of 1977 to $44 million (equivalent to 1.5 months' estimated imports) at the end of 1979. 15. The sluggish exports and a low level of domestic savings have made external assistance most important in the financing of development. After joining the Arab League in 1974 Somalia tiounted a major effort to attract funds from the Arab petroleum exportinEs countries. The large inflows of external capital and transfers from 1975 onwards indicate that the effort had been successful, although a substantial part of the inflow was related to two events, the drought in 1974/75 and the war in 1977/78. After 1977, the source of foreign assistance had changed from :he socialist countries (except for the People's Republic of China which maintains a large program) towards Arab bilateral and multilateral institutions anid Western Countries, several of which have had substantial assistance programs for a number of years. Official foreign aid, however, declined markedLy during 1978-79. The public external debt of Somalia outstanding and disbursed as of December 1978 was approximately US$496 million, or about 50% of GDP. Although a large share of the external debt is on fairly soft terms, the debt service ratio increased from 3.4% to about 5.5% in 1977 and is estimated at about 8% in 1978. Debt service burden is expected to become rather heavy in the near future with debt service ratio increasing to 25 to 30% by 1983.  - 6 - 16. In summary, the Government's record over the past few years has been mixed, but the country's achievements have to be seen against a background of poor resource endowments. The slow development of agriculture in a mostly nomadic society, the shortage of qualified manpower, the difficulties of organizing and managing an efficient public sector, and the limitation of financial resources can all be imputed to the country's human and natural con- straints. The Government has attempted to alleviate some of these constraints and has partially succeeded. However, growth in income and exports has been rather slow. Moreover since 1978 Somalia has had to encounter a slowdown of the economy, coupled with growing deficits both in Governrent budget and balance of payments, as well as a rising rate of inflation. The situation is likely to be further aggravated by the influx of about one million refugees from the hostilities in Ogaden, who are straining the meagre resource endow- ments of Somalia and adding to its budgetary and balance of payments diffi- culties. 17. Government has recently shown some awareness that corrective policies are needed to face the econonic and financial deterioration. In January 1980, the Government entered into its first Stabilization Program with the IMF. The program aims at restraining both public and private domestic demand, raising domestic output of food crops, expanding exports, and achieving some degree of import substitution through changes in product and factor prices. However, in addition to the stabilization program, greater emphasis should be given to economic growth; this would imply direct- ing more investment towards productive activities, particularly agriculture and small-scale industry. The mobilization of resources to this end should be sought through better management of public enterprises, and more dynamic measures to encourage the migrants to return to Somalia and to attract and mobilize the financial resources of the migrants. In the interest of economic growth, bettern opportunities and greater incentives ought to be created to stimulate production; a dialogue on various policy options for this purpose has recently commenced between the Government and the Bank. 18. For Somalia's export prospects to improve, there will be need to restructure the economy. At this stage, these are not very promising because of the concentration on two primary products -- livestock and bananas -- both of which face problems in expanding production in the long run. Livestock is subject to cyclical droughts which decrease export supplies. Banana exports have fallen because of both supply (drought, floods, poor agricultural prac- tices) and demand (increasing competition from multinationals in both Italy and the Middle East) problems. Diversification efforts have been attempted with hides, skins, and fisheries but not with much success. Therefore, in view of the country's poverty and uncertain export prospects, assistance should be provided on the softest terms possible and contain provisions for local currency financing. PART II - BANK GROUP OPERATIONS IN SOMALIA 19. Starting in 1965 IDA has made 20 credits totaling US$141 million, of which about 35% have been made for transportation development, including  - 7 - construction of three trunk roads and a new deepwater port and associated extensions at Mogadishu. IDA credits were also mnade for livestock development in FY74, for a development finance company projezt in FY77 and for education in FY71, FY75 and FY78. Lending for crop agriculture commenced in FY76 with two credits for a Drought Rehabilitation Project and a North-West Region Agricultural Development Project. Additional credits for Centr,l Rangelands and Agricultural Extension and Training and Bay Region Development projects were approved in FY79 and FY80. Agricultural and livestock credits approved for Somalia together represent 41%0 of total lending. A credit for development of water supply in Mogadishu and a technical assistance credit for project preparation were approved in FY78. No Bank loan or IFC investment has been made to Somalia. Annex II contains a summary statement of IDA credits as of April 30, 1980 and notes on the execution of ongoing projects. 20. Performance on ongoing projects has been somewhat weak due mainly to shortage of qualified personnel. As the pace of development continues to rise, absorptive capacity constraints are becoming increasingly evident, especially in the field of agriculture where prcjects are rather complex and implementation experience is limited. Therefore, in preparing and appraising new projects, particularly close attention is being paid to implementation capacity and the adoption of measures to ease tlis constraint when necessary. As one step to address this problem, the Governuent has established a Project Implementation Unit which would strengthen the capacity for project implemen- tation considerably by providing monitoring and logistical support to the projects, including assistance in procurement ard recruitment of consultants. 21. We plan to concentrate our future effcrts on the country's directly productive sectors, agriculture and livestock, atnd also on education and transportation. While agriculture and livestock offer potential for develop- ment, most rural development activities are only in the early stages. tfore- over, agricultural development in Somalia is particularly difficult because most of the people in rural areas are nomadic. To increase our knowledge of agriculture in Somalia,the Bank is currently making a comprehensive review of the sector. In addition to these sectors, we p:an to support the Government's industrial development efforts (and assist in the formulation of an industrial development policy) through our country economic work and future industrial development finance projects. We also plan to continue assistance to the water supply sector. 22. Somalia's statistical service lacks tlhe capacity to fulfill the data needs of development programs. The Bank's operations have experienced difficulties in obtaining statistical data. We are therefore helping to strengthen the Central Statistical Department i- the State Planning Commission * under the Agricultural Extension and Farm Management Training Project through provision of technical assistance and training of Somali staff. 23. To facilitate the development and implementation of the Associa- tion's growing operational program in Somalia, we established a one-man resident mission there in 1977. The mission represents the Bank Group in its contacts with the Government, thus facilitating an efficient and smooth  - 8 - day-to-day working relationship and assists in coordination of cofinancing efforts. In addition, two Pank staff members have recently been seconded to the Project Implementation Unit (para. 20). PART III - THE SECTOR Energy Resource Base, Production and Derand 24. Somalia's energy endowment is potentially significant, but idlnti- fied resources are modest. Forested lands amounting to some 100,000 km are the main domestic energy source. However, indiscriminate use of wood and lack of reforestation have resulted in serious depletion and ecological damage. Due to low rainfall and irregular water flow in the country's rivers, the hydro potential is small and probably does not exceed 50 MW. No commer- cial petroleum resource has yet been identified although two companies are carrying out exploration. The oil shale deposits near Berbera are a poten- tially valuable source of hydrocarbons. Small occurrences of coal in northern Somalia seem to be of little economic value since the seams are thin and the ash and sulphur contents high. Deposits of uranium estimated at 8,500 mT (with a U 0' content of less than 0.1%) have been discovered in the Mudug Valley. Among other energy sources, bagasse from sugarcane is used to a minor extent for steam and electricity generation in captive plants. Finally, there appears to be good potential for wind and solar energy which, however, has not been investigated to any degree. 25. Energy consumption increased by sone 4% p.a. during the 1971-79 period and reached about 800,000 tons of oil equivalent in 1979, or 200 kg of oil equivalent per capita. Domestically produced wood and charcoal met almost three quarters of total consumption. Petroleum imports, amounting to about US$43 million (or 26% of exports of goods and services) in 1979, met virtually all commercial energy needs, or about 25% of the total energy consumption. Electricity production and distribution are still at an early stage of develop- ment. The installed capacity of about 90 MW is spread over six regional independent public utilities and a number of captive generating systems. Generation in the public utilities is based entirely on petroleum fuels, mainly diesel, except for the Mlogadishu system which has been partially converted for fuel oil use. Electricity consumption has grown rapidly by about 10% p.a. over the 1971-79 period and totaled about 100 GWh in the last year (26 kWh per capita) which was just over 1% of final energy consumption. Sectoral Institutions 26. Pesponsibility for the energy sector is divided among a number of government institutions. The Ministry of Mfineral and Water Resources (1I5IR) is in charge of mineral fuels, including petroleum, as well as of hydrological resources. The Ministry of Commerce supervises the National Petroleum Agency (NPA) which imports, transports and distributes petroleum projects. The Ministry of Industry oversees the petroleum refinery and the state-owned  - 9 - industrial enterprises with their own power generation. The Ministry of Public Works is in charge of the power utilities and the Economic Commission of the Presidency of the Republic sets petroleum products and electricity prices. MMWR is promoting the establishment of an energy commission, com- prising high level representatives of all agencies concerned, as a means of coordinating decision making in the sector. Assurances were obtained for establishment of a suitable energy commission by December 31, 1982 (draft Development Credit Agreement, Section 3.09). Main Sectoral Issues 27. As a result of the prevailing dilution of responsibility, compounded by the absence of basic data and a shortage of competent personnel, the Government lacks the capability of devising a rational policy for energy prices, fully evaluating energy resources, analyzing development options and preparing comprehensive investment programs for the sector. 28. Energy Pricing. Mainly for social considerations the Government has kept energy prices at low levels despite the substantially increased costs of petroleum imports. Electricity tariffs have remained unchanged since 1970. Whereas prices of petroleum product imports rose by nearly 180% during the June 1977-July 1979 period, increases in fuel prices to consumers amounted to less than 40% over the same period. Fuel prices were not raised during the second half of 1979 despite continuous increases in ex-refinery and import prices of petroleum products. Since 1977 the share of taxes and NPA's margin in the retail price of petroleum products have decreasEd by about one third. Fuel taxes now range from 16 to 41% of the retail price and taxes are not used as a tool for managing demand growth. NPA's margir. of about 7% of the retail price is insufficient to cover operating costs eand financial charges. As a result of this pricing policy, the refinery, NPA and the power utilities sustained losses in 1979 for which they are only partly reimbursed through the general budget. There is a need for an energy pricing policy to ensure the financial viability of the sectoral enterprises while enabling the Government to manage demand and encourage conservation. The Project will help devise a sound energy pricing policy. 29. Energy Investment. During the 1974-79) period, public investment in the energy sector amounted to US$62.5 million--financed at 93% by OAPEC sources--and was devoted primarily to the expansion of the Mogadishu power system and the construction of the new refinery, Only US$1.6 million went toward studies on domestic energy resources: a survey of uranium deposits and a partial compilation of petroleum exploration data. A comprehensive investment program in energy for the period 1981)-85 has not been prepared. The list of projects contemplated reflects the recent priority put by the Government on tapping both renewable energy and mineral fuels. Projects aimed at developing domestic supplies of energy would absorb the major share of the proposed investments. They include a 5-MW hydro scheme on the lower Juba River and a medium- to long-term reforestation and charcoal program prepared with the assistance of IDA (Credit 906-SO), the World Food Program and the United Nations Industrial Development Organization, as well as a uranium  - 10 - mining project whose feasibility is being investigated by the Government jointly with the Arab Mining Company. In order to promote exploration of its petroleum potential the Government is sponsoring an offshore seismic survey financed by Norwegian export credits and has granted two concessions to private oil companies (para. 36). If the emphasis on the development of domestic resources appears prima facie justified, the financial and economic feasibility of each project needs to be analyzed in order to identify least- cost solutions to meet energy requirements, establish priorities for invest- ment and avoid any potential waste of resources. 30. Conclusion. Somalia is facing severe energy problems because of a narrow and poorly developed resource base and pricing policies which have lagged behind increases in world petroleum prices. Efforts to develop and husband renewable energy sources, especially wood and charcoal, and to manage demand by judicious pricing of petroleum products and electricity should complement the search for domestic supplies of mineral fuels. In this respect, petroleum exploration is particularly attractive because private capital has proven to be ready to enter this activity and because even a small commercial discovery would go a long way toward meeting the country's commercial energy needs. The Petroleum Sector 31. Petroleum demand is satisfied entirely through imports. Petroleum products were obtained from the USSR until 1976 and since then from Arab oil exporting countries. Since late 1978 a 250,000-ton refinery at Mogadishu owned jointly with Iraq, is processing crude from that country and now meets most domestic requirements except for motor and aviation gasolines and gas oil. Fuel oil accounts for about one half of refinery output, far in excess of domestic requirements, and therefore is largely exported. Secondary processing facilities, at present under study, would better adapt the refinery output to the pattern of domestic demand. Final consumption of petroleum products grew by nearly 16% p.a. during the 1971-79 period. While this increase and sharp fluctuations in intermediate years can be largely explained by special circumstances such as extended droughts and the Ogaden events, low fuel prices are bound to have also stimulated consumption. Gas oil represents 50% of petroleum products consumption, followed by gasoline and fuel oil (about 20% each). Kerosene, jet fuel and, to a minor extent, liquified petroleum gas, account for the remainder. Fuel oil has been used by the Ilogadishu power utility and refinery since late 1978. The transport sector is the largest user of petroleum products, consuming about 60% of the total, whereas power generation accounts for about 16% and petroleum refining an estimated 12%. Fuel consumption by industry probably amounts to not much more than 6% of total demand, which is about equal to the consumption by the residential, commercial and government sectors combined. 32. Petroleum imports have become a growing burden on Somalia's balance of payments. The petroleum import bill increased during 1973-78 from US$3.9 million (or 5.3% of goods and nonfactor service exports) to US$22.7 million (or 15% of export earnings). Due to larger requirements and sharply increased  - 11 - prices, petroleum imports in 1979 amounted to nearly US$43 million (net of fuel oil exports of about US$14 million), or nearly 26% of export earnings. Although the refinery is guaranteed a 2% margin, rising crude prices were not matched by product price increases and an orerating loss of nearly US$1 million was registered in 1979. In the years ahead, petroleum imports are likely to preempt a growing share of the country's export earnir.gs. Assuming that future petroleum demand growth could be held at 4-5% p.a. and prices were not to exceed US$30 per barrel in 1980 and not to rise above 3% p.a. in real terms in the following years, imports of crude End products net of product export would increase to US$68 million in 1980 z.nd US$130 million by 1985, should no indigenous crude production be attained by then. Institutional and Legal Frameworks for Petroleum Exploration 33. Responsibility for petroleum exploration and exploitation rests with the Department of Mining and Hydrocarbons l'DMH) of the MMWR. DMH is also responsible for mining and quarrying and has a professional staff of ten, mostly recent graduates of Mogadishu University, including only three geolo- gists and one engineer with petroleum background. With the exception of its head, DMH staff has little experience and almost no first-hand knowledge of the industry. The 1980 budget of the Ministry amounted to So.Sh. 18.6 million (about US$3 million) against So.Sh. 30.9 million (about US$5 million in 1979). Despite this decline, attributable to the Government's overall difficult budgetary situation, the 1980 budget -'ncludes So.Sh. 2 million (about US$330,000) for petroleum exploration, indicative of the Government's commitment to the development of the country's hydrocarbon resources. This amount would also comprise the counterpart funds for the proposed project. 34. The Mining Code (Law No. 77 of November 22, 1970) and its regula- tions (Decree No. 173 of April 3, 1971) govern petroleum exploration and production. Petroleum belongs to the State which grants three types of licenses: oil exploration (OEP) and oil prospecting permits (OPP) and oil mining leases (OML). There is no limit to the size of an OEP under which one can carry out only surface geological and geophysical surveys. An OEP holder can obtain OPPs with a maximum size of 400 sq mi and then carry out geological and geophysical work, as well as driLling in accordance with a program agreed to with the Ministry. Both OEPs and OPPs are for initial terms of two years and can be renewed three times for one year. Once a discovery has been made, the Ministry may grant an OML, normally covering 160 sq mi. Royalties of 15% on crude oil and 12-1/2% on gas are due. The level of income tax payable is defined in each aoncession agreement. 35. Two concession agreements were negotiated during the second half of 1979, one with Arco and the other with Texaco (see map IBRD 14897). As a result of these negotiations, the Ministry realLzes that its procedures for awarding exploration acreage and its legal framawork need revision to inter alia (a) provide for competitive bidding on smaLl blocks; (b) specify data to be delivered by the company to the Government; (c) define working commit- ments in physical terms (e.g., wells to be drilled until stated objective is reached); (d) provide for prompt acreage relinqiishment; (e) assure develop- ment of a discovery or provide for its reversioi to the Government; and (f) improve the financial benefits to the country.  - 12 - Status of Exploration 36. Nearly 90% of the roughly one million km land and marine area (to a 200-m water depth) is underlain by a sedimentary section with limited to fair petroleum potential. (The geology and status of exploration is discussed in more detail in Annex IV.) Although Somalia has been explored for oil since the 1920s, exploration began in earnest since 1948. Since then, several companies acquired and relinquished exploration acreage after having carried out gravimetric, magnetic and seismic surveys and exploratory drilling. All activity ceased from 1977 to 1979. At present two companies are active: Arco (U.S.) in the Mudug Basin and Texaco (U.S.) in the Lamu Embayment. Arco has commissioned a 1,200-km seismic survey and intends to spud its first well shortly. Texaco is planning to begin a seismic survey in the summer of 1980. 37. As a result of past exploration efforts, some 54 wells have been drilled and minor shows of oil and gas have been recorded in 15 of these wells, although none have proved to date to be of great significance. The validity of these exploratory tests is in question since only seven of the exploratory holes have been drilled with the benefit of modern digital seismic data. The most promising shows were encountered in the Daga Shebel well near Berbera where there are numerous surface seeps of heavy oil and in several wells in the coastal basins. The more important are the Afgoi-1 and the Coriole-1. Based on the limited seismic interpretations available, the Afgoi-Coriole area appears structurally complex, and together with the heavy oil area near Berbera, warrants further examination. In general it can be stated that the petroleum potential of Somalia has yet to be evaluated. Only a few of the exploratory wells drilled to date appear to be valid tests of defined structure. Even so, more than one fourth of these had some kind of oil or gas show. Government Approach for Hydrocarbon Exploration 38. The Government attaches high priority to the development of domestic hydrocarbon resources and wishes to further attract foreign companies to under- take petroleum exploration. It realizes that its past ad hoc approach to awarding exploration acreage was not proving the most beneficial for the country. Following discussions with IDA missions, it decided upon a system- atic approach to promoting its petroleum potential. It would employ consul- tants to review existing geophysical and geological data in an attempt to establish the petroleum potential of the country, propose amendments to the legal framework and suggest a strategy for awarding exploration acreage. Permits would be granted in a competitive climate to ensure better terms for Somalia. 39. The Government is also planning further investigation of known potential resources, in particular, the Bihendula oil shale deposits occurring near heavy oil shows in the Northern Regions (para. 37) and the Coriole-Afgoi prospects. These oil shale deposits were rapidly surveyed before independence. Reportedly, tests have confirmed the quality of the oil shale. This is the  - 13 - only significant known reserve of hydrocarbons aid MNNR is interested in a more detailed investigation of the deposits to assess the conditions under which they could be economically tapped to meet lomestic demand. No company has shown interest in the Coriole-Afgoi area sinze its relinquishment. The Government attributes this to the fact that the show was mainly gas and thus of little interest to a foreign company, but of possible significant benefit to the country. In addition, the structures drilled were not well defined and have not been investigated by modern geophysical methods. A new survey may prove that exploratory wells were not located in the most propitious spots and that further drilling is warranted. Even a gas find would be rewarding in view of the proximity to the city of Mogadishu, the major consumption center. Conclusions 40. The planned approach is basically sound and deserves IDA support. Its successful implementation will depend on the availability of human re- sources lacking at present. MMWR should employ highly qualified technicians to compile the available geological and geophysical information, deal with oil companies on a knowledgeable basis, supervise future geophysical work and assess the oil shale deposits of the Northern Regions. TMWR is aware that until more Somali personnel is adequately trained, it will have to rely on foreign expertise. IDA's Role 41. Somalia is at a turning point in explcring its hydrocarbon resources. IDA's role would be to assist in (a) providing T14WR with the expertise needed to broaden its knowledge of the country's potential, promoting this potential and negotiating with foreign companies; (b) invEstigating the Bihendula oil shale; and (c) laying the basis for energy planring. IDA is already support- ing the Government's efforts by providing some US$80,000 required to finance the early employment of exploration and legal consultants from the technical assistance credit (Credit 821-SO). PART IV - THE PROJECT Introduction 42. The proposed project was identified during the visit of a Bank mission to Somalia in September 1979 and appraised in January 1980. Credit negotiations were held in Washington, D.C. on April 25, 1980. The Somali delegation was headed by Mr. Abdullahi Ahmed Addou, Minister of Finance. A credit and project summary appears at the begLnning of this Report, and a supplementary project data sheet is given in Annex III. No Staff Appraisal Report has been prepared.  - 14 - Project Obiectives 43. The project would support the Government's efforts to develop a domestic supply of hydrocarbons and improve its planning of the energy sector. Its immediate objectives are to: (a) strengthen the capacity of DMH to evaluate and distribute existing data, carry out and supervise additional geological and geophysical surveys and interpret their results; (b) enable the Government to competitively offer exploration acreage to foreign companies; (c) assist DM11 in developing the capability of monitoring work by the operating companies; (d) further investigate the Coriole-Afgoi prospects; (e) assess the petroleum potential in the vicinity of Berbera, including both the Bihendula oil shale deposits and the reported nearby heavy oil shows in the Northern Regions; and (f) provide the Government with the means of undertaking comprehensive energy planning. Project Description 44. The project would support the Covernment's efforts to develop a domestic supply of hydrocarbons and improve planning of the energy sector. It would include the following components: (A) Assistance to DMH This component would provide funds for: (i) exploration consultants (48 manmonths). DII1 would retain the services of exploration consultants full time for a period of six months to assist DMH in: a. securing and evaluating available data pertaining to hydrocarbon exploration in Somalia, both on- and offshore, reworking and reinterpreting the data as necessary, preparing such maps and cross sections needed to clearly exhibit the petroleum potential and generate new ideas for petroleum exploration; b. devising a strategy for promoting the petroleum potential to oil companies;  - 15 - c. preparing a detailed geophysical program on the Coriole-Afgoi prospects; d. together with the legal consultants (para. (ii) below), improving the contractual framework for granting exploration permits to oil companies; e. administering competitive bidding (including definition of permits, preparation of data packages, advertising the bidding, evaluation and comparison of the bids); and f. together with the legal consultants, negotiating with companies. Following the first six months o: their assignment, the exploration consultants would assist DMR on a periodic basis (for two and a half years) in monitoring and inter- preting the work of operating comnpanies, supervising the geophysical work on the Coriole-Afgoi prospects and interpreting the data acquired. (ii) legal consultants (5 manmonths). DMH would engage a legal firm to assist in the updating of the legal framework and in negotiations with companies; (iii) petroleum accounting consultants (3 manmonths). DMH would employ specialists in petroleum accounting to establish a petroleum accounting system designed to control, monitor and audit expenditures of the operating companies; (iv) training. Two geologists, two geophysicists, a lawyer and an economist from the Ministry would be granted one-year fellowships to take specialized courses abroad. The project would also provide financing for DMH's staff to observe and learn geochemical analysis and seismic record processing; each consultant would be responsible for on-the-job training for designated DMH staff; (v) office and field equipment needed to support the work of the consultants and store geological and geophysical data; and (vi) special studies such as geochemical analyses, interpreta- tion of Landsat imagery, seismic reprocessing and reinter- pretation, necessary to complement the work of the exploration consultants.  - 16 - (B) Geophysical Survey of the Coriole-Afgoi Prospects The project would include a geophysical survey of the Coriole- Afgoi prospects, possibly including 700 km of detailed land seismic, aimed at confirming whether the structures are worthy of further drilling. The program of work, including the final layout of the seismic lines and the technical specifications, would be prepared by the exploration consultants. A condition for disbursing the relevant funds would be for this program to be satisfactory to MMWR and IDA (draft Development Credit Agreement, Section 2.02). (C) Assessment of the Oil Shale Deposits in the Northern Regions DMH would employ oil shale specialists to make a preliminary assessment of the oil shale deposits and the heavy oil shows in the Northern Regions. The consultants would also collect oil shale samples and carry out the necessary laboratory tests. If these tests are positive, they would estimate the reserves and prepare a detailed program for the development of the deposits. A condition for disbursing the funds related to the reserve estimate and the preparation of a development program is for the consultants to justify to the satisfaction of MMWR and IDA that such work is warranted (draft Development Credit Agreement, Section 2.02). (D) Energy Planning This component aims at assisting the Government in establishing a data base for policy decisions; analyzing priority issues in the sector, establishing the framework for continuous sectoral planning and creating a national energy planning capability. It provides: (i) 20 manmonths of consulting services for evaluation of energy demand, carrying out of a fuel pricing study, identification of development options including more efficient use of traditional energy sources, conserva- tion and increase of energy efficiency; evaluation of project proposals with a view toward strengthening the Government's ability to make appropriate invest- ment decisions; (ii) 3 manmonths of consultants' services for the study of institutional, administrative and manpower require- ments for more effective sectoral policies and planning; and (iii) two scholarships for participation in programs on energy economics, policies and administration.  - 17 - The Government would consult with IDA on the conclusions of the pricing and organizational studies as well as steps to implement their recommendations (draft Development Credit Pgreement, Section 3.08). Cost Estimates 45. The total cost of the project, net of duties and taxes which are not applicable, is estimated at US$7.2 million. The total cost of one manmonth of consulting services has been estimated on the average at US$15,000 including travel, subsistence and overhead. This amount is reasonable, taking into account the high level of specialized expertise required and salaries prevailing in the petroleum industry. The cost of seismic work has been estimated on the basis of actual surveys ini Somalia and comparable countries. The cost estimates include physical contingencies of 10% on all project components. Price contingencies of 10.5% for 1980, 9% for 1981 and 8% for 1982 have been applied to the foreign costs of all project components. Price contingencies of 20% p.a. have been used i-or local costs. Total contingencies amount to US$1.63 million, about 23% of baseline cost estimates. Estimated costs by project components are given in the project summary and outlined below: Foreign Local Total