Tanzania - Second Songo Songo Petroleum Exploration Project

Document of The World Bank FOR OFFICIAL USE ONLY Report No. P-3178-TA REPORT AND RECOMMENDATION OF THE PRESIDENT OF THE INTERNATIONAL DEVELOPMENT ASSOCIATION TO THE EXECUTIVE DIRECTORS ON A PROPOSED CREDIT TO THE UNITED REPUBLIC OF TANZANIA FOR THE SECOND SONGO SONGO PETROLEUM EXPLORATION PROJECT December 10, 1981 This document has a restricted distribution and may be used by recipients only iu the performance of their oficial duties. Its contents may not otherwise be disclesed without World Bank authorization.  SECOND SONGO SONGO PETROLEUM EXPLORATION PROJECT Currency Equivalents Currency Unit Tanzanian Shillings (TSH) US$ 1.00 T.Sh. 8.30 T.Sh. 1.00 US$ 0.12 (As the Tanzanian shilling is officially valued in relation to a basket of currencies of Tanzania's trading partners, the US Dollar/Tanzania shilling exchange rate is subject to change. Conversions in the report were made at US$1.00 to T. Sh. 8.30 which is close to the 1980 average exchange rate.) Weights and Measures 1 metric ton (m.ton) = 2,204 poun4s (lb) 1 meter (m) = 3.28 feet (ft.) 1 kilometer (km) = 0.62 miles 1 metric ton (m. ton) - 1,000 kilograms 1 cubic meter (m3) = 35.5 cubic feet 1 barrel (bbl) = 42 US gallons (gal.) 1 metric ton of oil (API 34) = 7.23 barrels Glossary of Abbreviations MMCFD = million cubic feet per day BCF = billion cubic feet TCF = trillion cubic feet MBPD = thousand barrels per day gal = gallon kg kilogram km2 square kilometer mw = megawatt TOE = tons of oil equivalent psi - pounds per square inch GDP = gross domestic product MWE = Ministry of Water and Energy Fiscal Year Government: July 1 to June 30 TPDC: January 1 to December 31  FOR OFFICIAL USE ONLY TANZANIA SECOND SONGO SONGO PETROLEUM EXPLORATION PROJECT CREDIT AND PROJECT SUMMARY Borrower: United Republic of Tanzania Beneficiary: Tanzania Petroleum Development Corporation (TPDC) Amount: US$20 million equivalent Terms: Repayable in fifty years including ten years of grace and carrying a service charge of 3/4 of 1% per annum. The Credit would be re-financed under any subsequent credit or loan the Bank Group may provide to finance a petroleum development project. Relending Terms: The proceeds of the Credit would be passed on to TPDC as equity. Project Description: The proposed Credit is intended to finance the second phase of a drilling program designed to assist the Borrower in the assessment of the hydrocarbon potential of the Songo Songo field. The Credit would be supplemental to the First Songo Songo Petroleum Exploration Project (Credit S-27-TA) which financed the first phase of that drilling program. Specifically, the Credit would finance: (a) drilling of three offshore wells at Songo Songo, including completion for production, if justified; and (b) strengthening TPDC's capacity to implement the project through the provision of technical assistance and training of its staff. If oil is found in sufficient quantities to warrant development, the ensuing production would be extremely beneficial to Tanzania and to its balance of payments position. Even if no oil discovered, the wells drilled are expected to confirm gas reserves which, given their potential size, may become an important development option for Tanzania. The risks involved are those typical for all exploration projects. This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  Estimated Costs US$'000 Equivalent Local Foreign Total 1. Drilling Rig (a) Operating Costs (300 days) - 9,600 9,600 (b) Demobilization - 3,200 3,200 2. Technical Services - 6,500 6,500 3. Tangibles and Consumables, - 4,100 4,100 including Well Completion Equipment 4. Engineering, Construction and Support Services 4,500 5,500 10,000 5. Management and Exploration Advisory Services - 4,000 4,000 6. Reservoir Engineering Studies - 300 300 7. Contingencies (a) Physical - 5,100 5,100 (b) Price 300 1,700 2,000 Project Cost-Net of Taxes 4,800 40,000 44,800 Financing Plan: Government 4.8 - 4.8 IDA - 20.0 20.0 OPEC Fund - 12.0 12.0 European Investment Bank - 8.0 8.0 Total 4.8 40.0 44.8 Estimated Disbursements: FY 82 FY 83 US$ million Annual 32 8.0 Cumulative 32 40.0 Rate of Return: Not applicable Staff Appraisal Report: No separate report. 1/ The project is exempted from identifiable taxes and duties.  INTERNATIONAL DEVELOPMENT ASSOCIATION REPORT AND RECOMMENDATION OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED CREDIT TO THE UNITED REPUBLIC OF TANZANIA FOR A SECOND SONGO SONGO PETROLEUM EXPLORATION PROJECT 1. I submit the following report and recommendation on a proposed credit to the United Republic of Tanzania of SDR 17.4 million (US$20.0 million) equivalent on standard terms to assist the Government in carrying out a second phase of the Songo Songo petroleum exploration program. The project would further assess the hydrocarbon potential in the area and prospects for the effective utilization of that potential. In addition, the United Republic of Tanzania is arranging financing of US$12 million equivalent from the OPEC Fund for International Development and US$8 million equivalent from the European Investment Bank (EIB). The OPEC Fund financing would be for 20 years including 5 years of grace at no interest but with a service charge of 0.75% per annum. The EIB financing would be for 15 years including 5 years of grace at 2% per annum. The Credit and the OPEC Fund and EIB loans would cover the foreign exchange requirement of the project. The Government would finance the local expenditures estimated at US$5 million equivalent. The Government contribution and the proceeds of the Credit and the OPEC Fund and EIB loans would be passed on by the Government to the Tanzania Petroleum Development Corploration (TPDC, the implementing agency) as equity. PART I - THE ECONOMY1 2. An economic mission visited Tanzania in March and June 1980. Its report (3086-TA) dated January 23, 1981, has been distributed to the Executive Directors. A summary of social and economic data is given in Annex I. Background 3. At Independence in 1961, Tanzania (then Tanganyika) was one of the poorest countries in the world. Almost solely dependent on subsistence agriculture and a few estate crops, the country had a very modest indus- trial base (less than 5% of GDP), and a very small number of educated and trained personnel. For the first six years after Independence, the Government's development objectives resembled those of many other less developed countries, stressing growth in per capita income and national self-sufficiency in skilled manpower, based on market forces and capital intensive agricultural projects. This approach had a number of drawbacks, 1This section is substantially the same as that in the President's Report on the Telecommunications Project dated June 1, 1981  -2- such as high investment costs in the agricultural sector, and led in the Government's view to unacceptable economic and social conditions, such as widening income diferentials and un-qual opportunities for advancement in the rural areas. In response to this situation, the national development strategy was reassessed in 1967. The new priorities, enunciated in the Arusha Declaration and related policy statements, were directed towards establishing a socialist society, with greater emphasis on broad-based rural development, self-reliance in development efforts, and the develop- ment of mass education. To accomplish these ends, the State, with guidance from the Party2, was expected to play the leading role, especially in the reform and creation of appropriate institutions. This led in the late 1960s to the nationalization of large-scale industry, commerce and finance; the creation of numerous parastatal bodies, the formation of ujamaa (coope- rative) villages, the decentralization of government (1972), and the mass campaign of villagization (1974-76). 4. Despite some disruption arising from these major institutional changes during the period, Tanzania managed to show improvements both in social welfare and in macroeconomic performance. Primary school enroll- ments increased by more than 50%, life expectancy rose by almost 5 years, and access to safe water increased in both the rural and urban areas. GDP grew by 4.4% per annum from 1966 to 1973, investment averaged 24% of GDP from 1970 to 1973, and domestic resource mobilization improved with recur- rent revenues rising from 15% of GDP in 1967/68 to 19% in the mid 1970s. However, the productive sectors grew slowly and the rate of return on new investments (which was centered on the industry and transport sectors) was poor. Perhaps the principal disappointment was in agriculture, the domi- nant sector in the economy, which grew by only 2.3% per annum from 1966 to 1973. This growth was also uneven among regions and precluded any narrow- ing of rural-urban income differentials. Tanzania made rapid progress towards localizing key posts in the economy, but large gaps in manpower requirements remained. Dependence on foreign aid to finance both domestic investment and the widening balance of payments gap also increased. By 1973, the issues which were to be so important for Tanzania throughout the 1970s were becoming clear: How quickly could a country with limited trained personnel develop a strong and efficient centrally administered economy?The Government's emphasis on equity was often at the expense of efficiency and incentives; how long could the country afford these costs? What could be done to improve the growth rate of the monetized, productive sectors? 5. The oil price increases and world recession of 1973-74 coincided with two years of below average rainfall in Tanzania. Agricultural produc- tion also was affected by disruptive changes in the rural areas at this time (decentralization and villagization), and there was a serious short- 2The single mainland political party at the time was TANU, but in February 1977, it merged with Zanzibar's Afro-Shirazi Party to form the Revolutionary Party, or Chama Cha Mapinduzi (CCM).  -3- fall in foodgrain production. The Government was forced into the world market, making large purchases of foodgrain for cash. Food imports rose from US$39 million in 1973 to US$149 million in 1974 and US$136 million in 1975. Export crop production also fell during this period and the barter terms of trade fell by about one-third during these two years. As a result, the current account deficit rose from US$118 million in 1973 to around US$340 million in both 1974 and 1975. Domestically, the recurrent budget fell into deficit and Government bank borrowing rose from TSh.416 million in 1973/74 to TSh.1061 million in 1975/76. 6. The Government prepared a program to deal with at least the short-term effects of the crisis and was able to receive some assistance from the IMF and a program loan from the Bank. Under this program, import levels were tightly restricted, wages were frozen, government development expenditures3 were redirected towards the productive sectors, and the Tanzanian shilling was devalued by 10% against the SDR. Producer prices for food crops were substantially increased and at the same time, the National Milling Corporation (NMC) was instructed to purchase a number of drought-resistant crops such as cassava, sorghum, and pigeon peas in addi- tion to the usual foodgrains like maize. While these steps were taken to increase food production, they also discouraged the production of export crops, weakened the financial position of NMC and required the banking system to extend large amounts of credit to NMC. Aside from the devalua- tion, little scope was given to market forces and Tanzania made no basic changes in its system of administered prices and government controls. The basic weaknesses of the economy persisted: declining export volumes, limi- ted trained manpower, disappointing growth in the monetized and productive sectors, and poor maintenance of existing capital stock and infrastructure, especially in agriculture and transport. 7. Nonetheless, the Government program, boosted greatly by the coffee boom of 1977, increased foreign assistance and reasonable weather for agriculture, was able to keep the economy in balance until 1978. The current account deficit fell to less than US$100 million in 1976 and less than US$175 million in 1977, well below the 1975 deficit of US$340 million. The Government made a net repayment of TSh. 24 million to the banking system in 1976/77. During 1978, the overly stringent import controls were relaxed at the same time as the terms of trade began to dete- riorate again. The balance of payments went into deficit and foreign reserves were drawn down. Then, in October 1978, the country was invaded by forces from Uganda. The resulting war, the oil price increases of 1979 and flooding and drought in different parts of Tanzania led to a worsening balance of payments deficit and the Government built up major arrears on its import payments for the first time since Independence. The domestic budget fell heavily into deficit as expenditures (led by defense) rose by 3Government development expenditures account for about two-thirds of public sector investment, which in turn accounts for 50-60% of total investment.  -4- 50% from 1977/78 to 1978/79 and revenues improved by only 10%. As a result, Government borrowing from the banking system increased from TSh. 600 million in 1977/78 to more than TSh. 3,000 million in 1978/79. Such borrowing was the major factor in money supply growth, which exceeded 53% in this period. 8. According to the official National Accounts statistics, GDP in constant prices has risen by 4.7% per annum since 1966, and by a slightly higher rate of 5.1% per annum over the past six years. However, this later trend assumes an 8.6% per annum increase in subsistence agriculture, which seems somewhat overstated in the light of Bank Group project experience and the known marketed surpluses of food. Assuming a more realistic growth rate of 4.0% per annum for subsistence agriculture, overall GDP growth since 1973 would also be reduced to 4.0% per annum. With population growing by around 3.3% per annum, this implies an increase in per capita GDP of only 0,7% per annum. There also has been a change in the structure of the economy over the past six years, away from the productive monetary sector and towards subsistence and service activities. Excluding public administration, commercial services and trade, the monetary sector has grown by only 2.3% per annum over the past six years, well below the popu- lation growth rate. This change in the structure of the economy has been a major factor hampering the Government's efforts to mobilize domestic resources. 9. Although Tanzania has sustained a high investment ratio, this has not been matched by a similar success in the mobilization of domestic savings or in the return on investments. Up to the mid-1970s, foreign savings had financed 20%-40% of domestic investment. However, the depend- ence on foreign savings rose sharply to more than 60% of domestic invest- ment during the crisis years of 1974-75 and again from 1978. The major shortfalls in domestic savings have occurred in the Government sector, where they have actually been negative in some years since 1975. The low return on investments is reflected in the incremental capital-output ratio for the monetary sector, which was around 4.5 at the start of the decade and rose to between 6 and 7 by the end of it. 10. Agriculture remains the most important sector in Tanzania, accounting for 90% of total employment, 50% of GDP and 80% of exports. The long-term trend growth rate of agricultural production has hardly kept pace with population growth and if anything has fallen in more recent years as the initial expansion of export crop production (through the mid-1960s) has been reversed. This poor performance cannot be adequately explained by the limitations of the natural environment. Although the importance of rural development has continuously been highlighted in Government statements, including the Arusha Declaration and successive plans, this has not always been reflected in the allocation of resources to the agricultural sector or in policy formulation and implementation. The general direction of the Government's post-Arusha agriculture strategy has also tended to emphasize the transformation of the institutional structure of rural development (through the formation of villages and increasing public involvement in the  -5- sector) over measures designed to improve agricultural production directly. Many of these institutional changes were introduced too rapidly, without careful planning or sufficient recognition that by themselves they could not compensate for inadequate incentives and shortages of skilled manpower and managers. More recently there has been a greater awareness of the role of incentives, and recent price adjustments attest to the Government's willingness to use them to influence the pattern of agricultural produc- tion. The trend towards greater public involvement in agriculture has also continued and with the resultant proliferation of parastatals and increa- singly complex structure of administration, the available manpower has been stretched even more thinly. This has resulted in weakened capacity for policy planning and implementation, especially in the areas of research and extension, and deficient distribution of fertilizers and other on-farm supplies and equipment. The deterioration of transport services also has contributed to the poor performance of agriculture. Roads, railways and water transport have deteriorated owing to a lack of spare parts, poor maintenance and inadequate planning and management. The Current Balance of Payments Crisis and Medium Term Prospects 11. The decline in agricultural production, transport bottlenecks and external shocks described above have all contributed to the severe deterio- ration in the balance of payments over the past two to three years. Export volumes are estimated to have fallen by 7% during 1980, to a level one- third below the peaks of the mid-1960s and early 1970s. Furthermore, the terms of trade have declined by 27% since the coffee boom of 1977, due to a sharp increase in import costs, especially for petroleum, at a time when the overall level of export prices has been rising very slowly. Owing to these adverse developments, the purchasing power of Tanzania's exports in 1980 was one-third lower than in 1977 and only one-half of the 1966 level. Part of this shortfall has been made good by additional external resources, including a sharp increase in commodity and program aid to more than US$200 million in 1980, as well as by drawings under the IMF standby program concluded in September 1980. But Tanzania has also had to utilize large amounts of exceptional financing, including suppliers' credits and an increase in import payment arrears. Despite this, the volume of imports has had to be severely curtailed, and in 1980, was still no higher than in the mid-1970s. 12. Given the recent negative developments on coffee prices and oil supplies, as well as the limited scope for further exceptional financing, there is little prospect for any immediate improvement in the balance of payments, and present indications are that the situation is continuing to deteriorate during 1981. This continuing balance of payments constraint is inevitably having a debilitating effect on the economy, with lower imports reducing production and maintenance of existing assets, resulting in further falls in exports and available foreign exchange. This vicious circle will be difficult to break, unless there is a substantial injection of foreign exchange and major changes in domestic policies designed to improve producer incentives, parastatal operations, import allocations, the  -6- promotion of non-traditional exports, and overall government planning and budgeting. The Government has recently introduced a number of significant measures--such as higher producer prices for coffee, sisal and tobacco and the establishment of a Special Agricultural Account at the Bank of Tanzania to ensure a substantial proportion of foreign exchange for food and export crop production. This Export Rehabilitation Program which is being suppor- ted by a recently approved credit from IDA (Cr. No. 1133-TA) could stem then reverse the decline in Tanzania's export earnings. 13. Even with a much improved export performance, Tanzania will contimue to face a very difficult balance of payments situation, expecially over the next two to three years. To sustain an increase in per capita GDP will require increasing amounts of aid in real terms and a careful review of import requirements, especially those for low-priority projects with long gestation periods and high foreign exchange costs. Otherwise the prospects would be for generally stagnant economic activity over the 1980s as a whole, with a substantial decline in per capita incomes. To avoid this, there will need to be continued emphasis on export performance and a concerned effort to improve the level of capacity utilization and effi- ciency in the economy. Furthermore, this must be done without jeopardizing vital food production. 14. Although it may be possible to finance a small portion of the current account gap through commercial borrowings, the scope of this is clearly limited; in addition to the difficulties of raising commercial credit during a period of balance of payments problems, Tanzania simply cannot afford the heavy burden of debt service payments. Therefore, the bulk of the financing requirements will have to be met by additional foreign assistance. Possible sources for this include further drawings from the IMF (which could add US$100 million per annum), deferred payment arrangements and other concessional financing from oil-supplying countries, additional new commitments from traditional bilateral and multilateral sources, and a continued movement towards non-project assistance. 15. Owing to the very concessional terms on which past aid has been given to Tanzania and the Government's previous reluctance to use higher cost commercial loans and suppliers' credits, the country's overall debt service ratio has historically been less than 10%. However, the debt service burden is expected to increase as past loans fall due for repayment and new borrowings, including some on commercial terms, are required to meet the widening balance of payments gap. Such borrowings, together with very poor export prospects, could raise the debt service ratio to 15%-20% during the 1980s. In 1980, it is estimated that the Bank held 14% of Tanzania's external debt outstanding and disbursed (for the Bank Group, it was 28%) and received 25% of Tanzania's debt service (27% for the Bank Group). This relatively high level of Bank exposure reflects in part the impact of recent debt write-offs, totalling US$277 million in 1978 and 1979. We are projecting the Bank Group's share in debt service to fall over the coming decade owing to the reduced IBRD component in the lending program and the continued need for Tanzania to borrow funds ,on less conces- sional terms from other sources.  PART II - BANK GROUP OPERATIONS IN TANZANIA4 16. Tanzania joined the Bank, IDA and IFC in 1962. Beginning with an IDA credit for education in 1963, 49 IDA credits and 19 Bank loans, two of these on Third Window terms, amounting to US$976.3 million have so far been approved for Tanzania. In addition, Tanzania has been a beneficiary of 10 loans totalling US$244.8 million which were extended for the development of the common services and development bank operated regionally by Tanzania, Kenya and Uganda through their association in the East African Community. IFC investments in Tanzania, totalling US$4.7 million, were made to the Kilombero Sugar Company in 1960 and 1964. This Company encountered finan- cial difficulties and in 1969, IFC and other investors sold their interest in the Company to the Government. A new IFC investment of US$1.7 million in soap manufacturing in Mbeya was approved by the Executive Directors on June 8, 1978 and an investment of US$1.5 million in metal product manufac- turing was approved on May, 1979. Annex II contains summary statements of Bank loans, IDA credits and IFC investments to Tanzania and the East African Community organizations and notes on the execution of ongoing projects. 17. In support of Tanzania's overall development strategy, Bank Group lending operations have assisted a wide spectrum of activities. Nearly every sector in which the Bank Group has operational capacity has received some attention. While this broad involvement in Tanzania's development efforts will be continued, future work is expected to concentrate on: (i) agriculture; (ii) transport and communications; (iii) industry; and (iv) education and manpower development. As agriculture and related activities constitute the largest single sector in the economy, it has received 30% of the Bank Group's direct lending to Tanzania. The lending program in agri- culture has featured three main types of projects. A series of regional rural development projects are focusing on production and the development of regional infrastructure needed to remove production constraints. The Kigoma Project (Credit No. 508-TA) was the first of these, and similar projects have been approved for Tabora (Credit No. 703-TA) and Mwanza/ Shinyanga (Credit No. 803-TA). Another group of projects is centered on specific crops (such as maize, tea, tobacco and pyrethrum) and are the responsibility of the Ministry of Agriculture or one of its parastatals. A third set of projects, such as the Tanzania Rural Development Bank Project (Credit No. 987-TA) is designed to improve general support services for the agricultural sector. However, in view of growing evidence of persistent underfinancing of capital maintenance and replacement in the sector, new Bank Group lending in agriculture is likely to focus increasingly on the rehabilitation and fuller use of existing production and processing capacity, rather than on expansion of such capacity. 4This section is substantially the same as that in the President's Report on the Telecommunications Project dated June 1, 1981.  18. Alongside agriculture, there has been a major focus in Bank Group work on transport and communications. Transportation difficulties are critical constraints to development in Tanzania. Indeed, the Government's inability to ensure the timely availability of inputs or the regular collection of crops has been a major bottleneck to increased production in the agriculture sector. Furthermore, during the seventies, transport investments were primarily concentrated around the Tanzania-Zambia Corridor and since 1977, no systematic investment program has been prepared for the subsectors which were overseen by EAC Corporations. The major objectives of the proposed Bank Group activities are to develop a more balanced investment program in transport and communications and to strengthen the ministries and newly established national corporations responsible for railways, ports, and telecommunications. In industry, future lending is expected to provide further support to well developed financial intermedia- ries like the Tanzanian Investment Bank (TIB) which are intending to conso- lidate their portfolio and place stress on capacity utilization and export promotion. Shortages in skilled manpower are also a worsening bottleneck to development. Bank Group involvement in education has supported and is expected to continue support for specialized training and the development of the secondary education sector to assist the Government in meeting its manpower needs. 19. Projects which have been recently approved or appraised reflect the above outlined priorities. Those approved include a Pyrethrum Project (Credit No. 1007-TA), a Foodgrain Storage and Milling Project (Credit No. 1015-TA), a Tea Processing Project (Credit No. 1037-TA), the Dar es Salaam Port Engineering Project (Credit No. S-24-TA), a Seventh Education Project (Credit No. 1056-TA), a Second Technical Assistance Project (Credit No. 1060-TA), and a Telecommunications Project (Credit No. 1173-TA). Those appraised include a second line of credit to the Tanganyika Development Finance Corporation (TDFL), a third technical assistance and a forestry project. In addition, a fourth power project for expansion of the country's generation capacity and a harbours project for a more effective utilization of Dar es Salaam port are currently being appraised. 20. In addition to financing specific projects, the Bank Group has on several ocasions provided non-project credits in support of the Govern- ment's efforts to deal with its balance of payments difficulties. The first such credit was made in 1974, the second in 1977, and the most recent an Export Rehabilitation Program Credit (No. 1153-TA), in April 1981. 21. Although the comparatively high undisbursed proportion of loans and credits, detailed in Annex II, is to some extent the result of the recent approval of many of these projects, it also reflects problems in project implementation, particularly in agriculture and rural development. The causes of these difficulties are varied. To a large extent they arise from the scarcity of suitably trained and experienced manpower, which call for stepped-up efforts in higher education and specialized training, as well as for sustained high levels of technical assistance in future project design. Other implementation problems reflect the difficulty of identify- ing and disseminating agronomic input packages appropriate to the needs of  - 9 - smallholder farmers or result from administrative overextension in the been undertaking of a far-reaching development program. These problems have been compounded by frequent and fundamental administrative changes, which --though potentially the source of long-term benefits--have disrupted orderly execution of some projects and made aspects of other project designs obsolete. The Uganda war had some early impact on project imple- mentation by diverting equipment and manpower away from development purposes; however, by contributing to the current economic crisis, the temporary logistical problems caused by the conflict have been superseded by deeper and more lasting difficulties arising from a critical shortage of essential goods and services. During the last year, the direct and indirect effects of prolonged under-financing of essential import require- ments have become painfully obvious. Most industrial facilities were working at less than thirty percent of their installed capacity and the lack of maintenance and operations funds (particularly for replacement equipment, spare parts, and fuel) was compounding the already serious effects of deferred maintenance of capital stock, especially in the agriculture sector. Until the general economic situation improves, the outlook is for continued and sometimes unforseen interruptions in project implementation and disbursements. 22. As the Bank Group's lending program has expanded, increased attention has been given to measures designed to improve specific aspects of project implementation. Courses on Bank Group procurement have been held in Dar es Salaam for relevant Government officials. A special project implementation unit has been set up in the Ministry of Agriculture and 11 Agricultural Development Services staff have been attached to Bank Group financed projects in agriculture and rural development. The Government has assigned responsibility for the monitoring of project performance to a specialized unit at the Ministry of Planning and Economic Affairs. Since February 1977 there has been a Government/Bank Group review of implemen- tation problems on a project-by-project basis. In October 1980, a major Country Implementation Review was held in Arusha at which all Bank-financed agricultural projects were examined, with a view to discussing sectoral issues in addition to project-related matters. As a result of such steps --and a necessary slowing of the growth rate of the country's overall development program during the next three years--we expect some gradual improvement in project implementation. East African Community (EAC) 23. Major developments affecting the East African Community were out- lined in a report to the Executive Directors dated December 29, 1977 (R77-312) and more recent developments were reported in a statement to the Executive Directors during their meeting of May 6, 1980. The three former Partner States have employed Dr. Victor Umbricht as an independent mediator to recommend an appropriate disposition of the assets and liabilities of the Community corporations and the General Fund Services. Dr. Umbricht has visited East Africa on numerous occasions, has employed consultants to assist in the appraisal of Community assets and liabilities, and in March 1980 made formal recommendations on the allocation of these assets and  - 10 - liabilities. Meetings at ministerial level to discuss the Mediator's pro- posals were held in Arusha in May 1980, and in Kampala in February 1981. A follow-up meeting was held in Nairobi on August 6 when it was decided to commence formal negotiations in November 1981 on the basis of the Mediator's proposals. Meanwhile, the Mediator's report and recommendations on the future structure of the East African Development Bank (EADB) have been accepted by the Partner States and the revised EADB Charter, along with the Treaty to enact the new Charter, have been ratified by the three Governments. PART III - THE ENERGY AND HYDROCARBON SECTORS Energy Consumption 24. Total annual energy consumption in Tanzania during 1979 and 1980 was about 5.0 million tons of oil equivalent (TOE), or 300 kg. per capita. Of this total, only 0.93 million TOE or 19% represented commercial energy consumption. Per capita commercial energy consumption (at 52 kg. of oil equivalent) is considerably below that of other African countries such as Kenya and Angola, mainly due to the large proportion of the population living in rural areas which relies primarily on charcoal and firewood. Imported crude oil and domestically-refined and imported oil products (totaling 832,000 tons) accounted for about 90% of total commercial energy consumption in 1980, the remainder being met by coal and hydro- electricity. Between 1970-75, demand for commercial energy grew at an average rate of 4.9% per annum. This rate of growth fell to 1.4% between 1975-80, following steep increases in oil product prices and the resulting import restrictions, higher domestic prices and conservation measures introduced by the Government. 25. The impact of crude oil and product imports on the country's balance of payments is already significant. In 1980, the petroleum bill was US$260 million or about 20% of Tanzania's merchandise imports and 52 % of exports. Furthermore, based on a projected 3.6% per annum growth in GDP, commercial energy consumption could grow to about 1.3 million TOE in 1990 in real terms (at a rate of growth of about 2% per annum between 1980- 85 and about 3.9% per annum between 1985-90). Even on the optimistic assumption that hydropower and coal resources could be substantially developed over the next decade to meet about 20% of total commercial energy demand by 1990, the petroleum import bill could exceed US$1,000 million (in 1990 prices) by that year, equal to about 30% of total projected merchandise imports. Thus, development of domestic energy resources, and hydrocarbons in particular, is an economic necessity in Tanzania in the eighties.  - 11 - Energy Resources 26. Tanzania's energy resources are sizeable in comparison to its present demand, but essentially undeveloped. In addition to the hydrocarbon resources discovered in the Songo Songo island area (paragraph 45) it has unexplored sedimentary areas suitable for oil and gas generation and accumulation. Inferred deposits of steam coal located in the southwest of Tanzania are estimated at 1,500 million tons with proved reserves of about 300 million tons. There is considerable hydrop awer potential, estimated at 1,400 M.W. Forests covering about 307,000 km are the major energy source, accounting for over 80% of total energy consumption in the form of charcoal and firewood. Non-traditional renewable energy is not yet commercially utilized but, in the longer run, there is potential for solar energy and biogas. The country also has as yet unexplored uranium potential. Investment Priorities 27. Faced with the rising cost of oil imports and its serious impact on the countrys balance of payments, the Government has initiated several activities to assess and exploit the domestic energy potential. Petroleum exploration is being undertaken with the assistance of IDA, bilateral and multilateral donors and foreign oil companies (paragraph 38). A coal engineering project is being prepared with IDA assistance that could lead to a coal exploitation project to generate power and to meet industrial and domestic requirements. The Government also has completed a CIDA financed study of the power sector which would form the basis of further power development projects, and the Association will shortly begin its consideration of a new power project, taking into account the results of this study. Uranium exploration is being carried out by Uranerzbergbau, GmBH of the Federal Republic of Germany. Finally, the Government has recently prepared a national afforestation program. 28. While these efforts are underway, one general area of concern is planning. Development of domestic energy resources will require large financial commitments at a time when the resource availability is likely to remain constrained and a careful evaluation of energy projects and ranking of their priorities is necessary. These considerations led IDA to include financing for 36 man months of consultancy services (an economic advisor and an energy specialist) under the first Songo Songo Petroleum Exploration Project (Cr. S-27-TA) (the First Songo Songo Project) to initiate work on an energy plan, including the review of energy pricing and helping to develop a domestic capability to prepare and appraise energy projects and coordinate energy studies. The Government was to appoint these consultants by December 30, 1980 but has not yet done so. This delay resulted mainly from the heavy demands on MWE's limited administrative resources made by the drilling under the First Songo Songo Project, which slowed down efforts to recruit. However, MWE staff has recently been strengthened (paragraph  - 12 - 40) and proposals have now been invited from consultants for filling these positions. Government has agreed that the economic adviser and energy specialist would be appointed by April 30, 1982. Government has further agreed that the draft energy plan would be prepared by March 31, 1983 and, promptly thereafter, submitted to the Association for its review and comment. (Section 3.02 (a) and (b) of the draft Development Credit Agreement). In addition, IDA proposes to carry out an energy assessment in mid 1982 which will form the basis for future discussions with the Government about energy sector issues, particularly pricing, development strategy and investment priorities. Energy Pricing 29. The retail petroleum product prices in Tanzania are generally higher than the international prices and reflect costs of imported crude oil and products, domestic refining and distribution costs as well as economic and social considerations and recognition of the need for conservation. A comparison of Tanzanian retail prices for oil products in 1980 (converted at the official exchange rate) with the average domestic prices from a sample of 56 countries is set out below: Retail Prices of Major Petroleum Products Product Tanzania ($/gal) Average Domestic Price Premium Gasoline $4.37 $2.29 Kerosene $1.60 $1.35 Gas Oil $1.83 $1.45 Diesel Fuel $1.10 $1.45 Fuel Oil $0.99 $1.06 Differences in these relative prices reflect, to a certain degree, differential taxation determined by both economic and social considerations. Taxes on kerosene, which is principally used for cooking, are 6% of the 1980 retail price, while taxes on gasoline are 21% and on industrial diesel oil and fuel oil 18% of the respective retail prices. 30. While the Government has rapidly increased the prices of petroleum products following the international oil price increases in 1979 (when oil product prices were revised upwards by more than 50%), it has not adequately increased power tariffs, although there have been some increases. The power tariff structure and levels are clearly issues of major concern. These matters, including the steps required to meet the financial covenants under the Kidatu Hydroelectric Second Stage Development Project (1306-T-TA), will be addressed under the proposed power project currently being appraised. The proposed energy assessment and work of the  - 13 - energy consultants is expected to provide the background information for further discussions on pricing policies. Sector Organisation 31. The primary responsibility for development of energy resources in Tanzania remains with the Ministry of Water and Energy (MWE). MWE has three parastatal organizations, the Tanzania Petroleum Development Corporation (petroleum), Tanzania Electric Supply Company (power) and the Rufiji Basin Development Authority (basin development including Stieglers Gorge, a potential hydropower development site). MWE and these organizations prepare plans for the energy sector, and these are incorporated into the country's overall development plan by the Ministry of Planning and Economic Affairs. The Ministry of Finance mobilizes financing for development projects and administers taxes on oil products. Energy prices are set by the Government's Economic Committee of the Cabinet. 32. The Tanzania Petroleum Development Corporation (TPDC) is the beneficiary of the proposed project and would be its executing agency. It is a semi-autonomous public corporation fully owned by the Government, and was established in 1969 to be in charge of oil and gas related activities. TPDC is managed by a nine-man board, chaired by the Minister of Water and Energy. At present, its main activities are trading and exploration. It buys crude oil and arranges for its refining, paying a processing fee to Tiper Oil Refinery, Dar es Salaam which is jointly owned by the Government and AGIP Company of Italy. It sells the products ex-refinery to distributors. TPDC has been active in exploration. As the agent of the Government in the petroleum subsector, it is the partner of foreign oil companies (AGIP and Shell) engaged in petroleum exploration under production sharing agreements (paragraph 36 and 38). Further, TPDC has continued the exploration of the Songo Songo area, following its relinquishment in 1974 by AGIP (paragraph 42 to 45). 33. There are currently 59 Tanzanian professionals on TPDC's staff, and they are assisted by 2 UNIDO advisers and 2 other expatriates I. The Exploration Department is staffed by 26 professionals (18 geologists, geophysicists or palaentologists and 8 engineers, electricians or mechanics), most of whom have received some training abroad. These professionals are young and lack practical experience. Under the first Songo Songo project, TPDC staff have received on-the-job training from the exploration and drilling management consultants. The proposed project includes provision only for further on-the-job training. Once drilling has 1/ The 2 UNIDO experts advise on petroleum exploration and refining matters. The other expatriates assist in financial operations.  - 14 - been completed, further overseas training of TPDC staff, if necessary, could be undertaken under the Technical Assistance Project, Cr. 1060-TA. 34. TPDC's managerial and financial structure should be viewed in the context of the historical role it has played in the petroleum sector as a trading company with a monopoly in the purchase of crude oil and distribution and sale of refined products to distributors. Trading activities began at the end of FY77. In 1980, TPDC made a net profit of US$19.7 million equivalent. TPDC's total assets as of that date were US$115 million equivalent and its net worth US$60.4 million equivalent. Given TPDC's operations in petroleum exploration, the parallel expansion of exploration activity by foreign companies and the prospect of commercial hydrocarbon production in Tanzania, the First Songo Songo project included provision for review of its managerial and financial structure. The first draft of that study, which is being carried out by the Commonwealth Secretariat, has been recently made available to TPDC and the Association and is now under review. The Government has agreed to complete this study by March 31, 1982 and promptly thereafter to implement the results of the study in consultation with the Association (Section 3.05 of draft Development Credit Agreement). Petroleum Geology 35. Tanzania's sedimentary basins with the potential for the generation and accumulation of hydrocarbons cover an area in excess of 200,000 km2. These areas comprise the eastern coastal basins, where most of past exploration has been concentrated, and the Rift Valley basins to the west in which the geology and petroleum potential is much less known. Sedimentation in the coastal basins is essentially continuous from the Karroo series (a thick largely undifferentiated section of marine and non- marine sediments spanning in age from Paleozoic Carboniferous through Mesozoic early Jurassic to the Present). The Karroo rocks were deposited mainly in a non-marine environment with the first incursion of the sea beginning in the middle Jurassic and with succeeding sediments becoming progressively more marine with time. The predominantly marine sedimentary fill is thickest under the present continental shelf, down to 12,000 meters. This sedimentary section contains a number of possible hydrocarbon source beds, shales and fine-grained carbonates. Potential reservoir rocks are also common, such as sandstones and porous carbonates, including buried reefs. Potential structural traps appear to be subtle, complex and abundant. The generation and accumulation of large quantities of hydrocarbons has been proven by the gas discovery at Songo Songo and by lesser shows in several other wells drilled. However, further exploration and delineation drilling will be necessary to fully establish the petroleum potential of the coastal basins.  - 15 - Exploration History 36. The search for hydrocarbons in Tanzania began in 1951 when a geological survey team mapped surface structures suggesting the possibility of hydrocarbon traps at depth in the coastal region. Exploration by the British Petroleum Company (BP) and Shell Oil Company (Shell) was carried out during the period between 1953 and 1964 over the mainland's coastal area and the islands of Pemba, Zanzibar and Mafia. Four exploratory wells were drilled, one on each island and one on the mainland at Mandawa, but none of these encountered significant oil or gas shows to encourage further drilling. In 1964, BP and Shell surrendered their exploration licenses. From 1969, AGIP Exploration and Production Ltd. (AGIP) was granted an exploration license covering essentially the same areas relinquished by BP and Shell. The first well drilled by AGIP was completed as a dry hole (offshore at Ras Machuisi) in 1974. During the same year, AGIP drilled Songo Songo Well No. 1 and encountered gas in the Lower Cretaceous sandstones. Three additional wells drilled by AGIP on the mainland were dry. AGIP did not consider that the gas discovery at Songo Songo justified additional appraisal drilling and, according to the terms of their production sharing agreement, they relinquished the area surrounding Songo Songo (284 km2) to TPDC, in 1976. AGIP, however, still holds a sizeable portion of the coastal basins (see attached map). Exploration Strategy 37. Faced with the increasing cost of petroleum imports, the Government decided in the late 70's to accelerate petroleum exploration by following a two-pronged approach: entrusting to TPDC the responsibility of fully investigating the Songo Songo area, and attracting foreign companies to explore in other areas. The rationale for the Government taking the full risk of the Songo Songo project was that it was unlikely that Tanzania would have been able to attract a foreign operator because of the limited size of the Songo Songo block , which is surrounded by acreage under license. With the geological data then available, Tanzania would not have been able to offer terms economically attractive to a foreign investor and at the same time retain any significant interest itself. The exploration effort of TPDC in Songo Songo is described in detail in paragraph 43 to 45. TPDC also carried out additional seismic surveys and interpretation in other areas, with the help of the Norwegian Petroleum Directorate and financing from NORAD. More recently, the Government also gave TPDC the responsibility to drill an onshore structure in the Coastal Basin area at Kimbiji with Algerian grant finance. 38. The above-mentioned seismic surveys identified several structures offshore and gave some leads onshore which are now being proposed for foreign company exploration. The Government also enacted new petroleum legislation to facilitate participation of foreign oil companies in exploration. Further, in 1980 TPDC prepared model agreements with the  - 16 - assistance of consultants financed under IDA's technical assistance project (Cr. 601-TA). On the basis of this work, the Government has recently entered into a production-sharing agreament with a group led by Shell covering a major portion (over 72,000 km ) of the onshore basins. Several foreign companies are discussing other exploration agreements. Government has agreed that the proceeds of any sale of data derived from drilling operations under the Project would be used for further exploration or other petroleum sector activities. (Section 3.06 of the draft Development Credit Agreement). 39. The Government's recent emphasis on exploration by the private sector is sound. It has indicated that the drilling of the Kimbiji well with Algerian finance is an exception to its policy which is still to attract foreign risk capital for petroleum exploration in all areas except Songo Songo for the reasons given above. However, to avoid further diversions from this policy, it is important that the Government obtain technical assistance to help define a strategy to promote its acreage to foreign companies. 40. The First Songo Scngo Project included 36 man-months of assistance by a senior explorationist and an economist to formulate a long-term petroleum exploration strategy and assist the Government in negotiating with foreign companies. Again, delays have occured in the recruitment of these consultants, due to difficulty in locating suitable candidates and the heavy demands made on MWE's limited administrative resources by the drilling under the first Songo Songo Project, which slowed down efforts to recuit. However, the economist is now in post and invitations for proposals have been sent to potential explorationist candidates. Government has agreed that (i) the services of the explorationist would be retained by April 30, 1982 (Section 3.03 (a) of the draft Development Credit Agreement); and (ii) the Government would submit a draft exploration strategy before September 30, 1982 to the Association for its review and comments (Section 3.03 (b) of the Draft Development Credit Agreement). In addition TPDC has agreed that it will not undertake any new projects which would involve assignment of qualified TPDC staff away from implementation of the proposed project (Section 3.04 of the draft Project Agreement). During negotiations, an understanding was reached with TPDC that, subject to any confidentiality restrictions, it would keep the Association informed of any exploration proposed during the project implementation period.  - 17 - The Role of the Bank Group in the Petroleum Sector 41. The Bank Group's role is to continue to support the Government's strategy, particularly its strategy to attract foreign risk capital for petroleum exploration. Thus, the Bank has been closely involved over the last two years in the discussions between Government and Shell Petroleum NV. These discussions have recently culminated in agreement for Shell to undertake an extensive onshore exploration program southwest of Dar-es- Salaam. At the request of the Government and Shell, the Bank was considering participating in the financing of the program. However, this was not eventually required and the program is now underway without Bank financing. The Association also has supported the Government's own exploration efforts where private sector interest was not forthcoming, in particular through the First Songo Songo Petroleum Exploration Project. The encouraging results of that project justify the Association's continuing support for assessing the hydrocarbon potential in the Songo Songo area, which would be provided under the proposed project. Should the results of this project justify development of the field, the Association's role would be to assist Government to ensure sound resource utilisation and development of the field by an experienced operator, and possibly to help mobilize the necessary private or public sector financial support. PART IV - THE PROJECT The First Songo Songo Petroleum Exploration Project 42. Background. The Songo Songo area was explored by AGIP between 1969 and 1974 when it was relinquished. In 1976, TPDC contracted the services of ONGC of India to drill three additional wells on Songo Songo Island (Well Nos. SS-2, SS-3 and SS-4). These wells confirmed the accumulation of gas at Songo Songo with estimated proven reserves of 100 billion cubic feet. Tests conducted subsequently by mid-1979 indicated possibilities of an oil accumulation in association with gas. In September 1979, the Government requested Bank Group assistance in further appraisal of the Songo Songo area. A review and reinterpretation of the available geological, geophysical and well data financed by the Technical Assistance Credit (Cr. 601-TA) and carried out by the consulting firms of Exploration Consultants Limited (ECL), U.K. and Sunmark Worldwide Services (Sunmark), U.S.A., concluded that an exploration and delineation drilling program consisting of four wells and estimated to cost about US$45 million was warranted. Discussions on cofinancing were then held with the European Investment Bank (EIB) and the OPEC Fund for International Development (OPEC Fund). Because of constraints on the funds available to the cofinanciers, cofinancing arrangements were not finalized, except for US$0.5 million from EIB. However, both EIB and OPEC Fund confirmed their interest in the project and in participating in the financing of any follow-up. Therefore  - 18 - on June 14,1980 IDA approved a US$30 million credit for the First Songo Songo Petroleum Exploration Project (Cr. S-27-TA) as a first phase two well project. 43. The objectives of the First Songo Songo project were to explore further for both oil and gas. In particular, the Project provided for: (i) the drilling of two wells, one offshore (Well SS-5) and one on Songo Songo Island (Well SS-6). These two wells, which represented the first phase of the four-well program, were both programmed to reach the Albian Sand formation at between 5000 to 6000 feet, and then to drill down to the Jurassic Shale formation at about 10,500 feet. The objective at the shallower depth was primarily gas; at the deeper depth, oil. (ii) technical assistance to TPDC for drilling management, well completion services and training; and, (iii) technical assistance to MWE for the preparation of an energy development plan (paragraph 28), the definition of an exploration and negotiation strategy (paragraph 40), a market study for natural gas (paragraph 47) and an institutional study of TPDC (paragraph 34). 44. The consulting services for the exploration and negotiation strategy and for the market study were financed by a US$0.5 million loan from the EIB. The local costs (US$2.5 million) were financed by Government. The IDA Credit of $30 million was allocated to: i) Drilling of Wells SS-5 and 6, including Consultants Services, ii) Completion of Wells for Production, iii) Consultants Services for Further Wells and Reservoir Studies, and iv) Technical Assistance to MWE and TPDC. The drilling of Wells SS-5 and 6, including consultant services plus technical assistance to MWE and TPDC (items i) and iv)) are estimated to have cost $32 million, compared with an appraisal estimate, including contingencies, of $25.1 million. Of the $6.9 million gap, $4.9 million came from reallocating expenditures from items ii) and iii) above. This was justified given the high cost of interrupting drilling during the middle of the operation and because items ii) and iii) could reasonably be deferred without affecting the project outcome. The balance of the cost overrun, currently estimated at $2 million, will be provided by the Government. The cost overrun in the drilling of the wells was due to an underestimate of the costs of established facilities on Songo Songo Island, and to a longer drilling period for both wells, reflecting both operational difficulties and a more extensive core and testing program for Well SS-5. The magnitude of this of this overrun is not abnormal for an exploration project given its nature where some technical difficulties cannot be predicted. Item iii) and part of item ii) are now included in the proposed project  - 19 - (paragraph 49). This is justified given that the two projects form an integral part of the overall Songo Songo petroleum exploration program and because these items are essential for completing the program effectively. 45. The project was implemented by TPDC, with Sunmark acting as drilling manager and ECL as geological consultant. Due to early availability of an onshore rig, drilling began with the onshore Well SS-6 on January 23, 1981. However, following a combination of technical problems, including a stuck drill pipe, drilling was suspended on April 9, 1981 at a depth of 6,718 feet, about 4,300 feet above the well