Transcript of meeting of the Executive Directors of the IBRD and IDA, held on Tuesday, July 7, 1981 : Argentina - Oil and Gas Credit, and Refinery Conversion Projects

STRICTLY CONFIDENTIAL 1 INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT INTERNATIONAL DEVELOPMENT ASSOCIATION Tuesday, July 7, 1981 Washington, D. C. The meeting of the Board of Directors was convened at 10:10 a.m. in the Board Room, 1818 H Street, N. w., Washington, D. c., Mr. A. w. Clausen, Chairman, presiding. STRICTLY CONFIDENTIAL 2 C O N T E N T S ITEM PAGE 3 Proposed Loan - Argentina (Oil and Gas Credit Project) 3 4 Proposed Loan - Argentina (Refinery Conversion Project) 3 Mr. Ray •• . . . . . . . . . . . . . . 8 Mr. Abdulai. . . . . . . . . . . . . . 14 Mr. El-Naggar. . . . . . . . ... 15 Mr. Hennesey. • . . . . . . . 22 Mr. Garcia-Parra. . . . . . . . . . . . 27, 41 Mr. Muns •• . . . . . . . . . . . . . . 32, 48 Mr. Ragazzi . . . . . . . ... 34, 37 Mrs. Parent • • . . . . . . . . . . . . 38, 41 Mr. McLeod . . . . . . . . . . . . . . 42 Mr. Khelil • • • .... . . . . . 44 Mr. Blanco. 48 STRICTLY CONFIDENTIAL 3 P R O C E E D I N G S MR. CLAUSEN: Now we turn to the start of proposed loans, items three and four, both to Argentina, one in the amount of $100 million equivalent to Banco Nacional for an oil and gas credit project, and the other in the amount of $200 million to YPF for a refinery conversion project, both with the guarantee of the Argentine Republic. The documents have been distributed and I understand Mr. Sulliv of Latin America and Caribbean Region will introduce these two proposals together and thereafter they may be discussed jointly or separately, however way you wish. STRICTLY CONFIDENTIAL 4 Mr. Sullivan. MR. SULLIVAN: Thank you. Mr. Chairman, Members of the Board: Ever since pioneers struck oil some seventy years ago, while drilling for water in the barren plains of Patagonia, development of Argentina's petroleum deposits has been a subject of intense political debate. After a period of strongly nationalistic politics, petroleum was opened up to inter- national companies in the late fifties. As a result, production increased and Argentina became self-sufficient within a few years. However, the tide soon turned against foreign investment. Contracts with private companies were rescinded by the mid-sixties and all petroleum related activities were monopolized under the state owned company, Yacimientos Petroliferos Fiscales. In the late '60s the Government opened the door once again for limited private sector participation through service contracts. However, there was not much private participation in this sector in the turbulent years that followed. Meanwhile, Yacimientos grew into a large company, operating along nationalistic and political lines, more than on economic and development ones. It became apparent eventually that Yacimientos was unable to handle its mandate STRICTLY CONFIDENTIAL 5 There was no long-term planning; decisions were taken virtua ly ad hoc without any strategy planning; production declined. When the reform-minded economic team of Minister of Economy, Martin~z de Hoz, took office in the mid'70s, Yacimientos was a mystery even for insiders. Revamping Yacimientos, rationalizing petroleum development and formulating a coherent policy that would give a meaningful role to the private sector were among the new team's highest priorities. The Government approached the Bank for assistance soon after the initial stabilization program was completed, and the two projects before you today are a result of the discussions that were initiated more than three years ago. Although the Government initially was looking for early and substantial cooperation, Bank support was built up only gradually in conformity with a careful strategy of institution-building. The Oil and Gas Engineering project, presented to you about a year ago, was the first step in establishing a working relationship with Yacimientos to help improve the information on Argentina's oil and gas reserves as a basis for a rational program of field development, both for the public and the private sector. STRICTLY CONFIDENTIAL 6 The refinery conversion project continues this process but with more specific objectives. By balancing Yacimientos' refinery capacity, it will help increase the technical efficiency of the company in this area to levels comparable to those of private international firms. Foreign exchange savings to Argentina are estimated to exceed $1 billion when the project is onstream. At the same time, the institutional changes that will be implemente1 will help improve the general operating efficiency of I I Yacimientos. I I Three key areas are being addressed: financial management, cost accounting and training. As a result, it is expected that Yacimientos will become a better managed and more effective corporation. The oil and gas credit project demonstrates the government's cofflitlitment to promote a larger role of the private domestic sector. It also demonstrates the close relationship that has evolved, in the context of industrial lending, between BANADE, the executing agency of the project and the Bank. With Bank encouragement, BANADE is building up the sophisticated expertise necessary for appraisal of oil and gas projects. Under the project, BANADE would enter STRICTLY CONFIDENTIAL 7 oil and gas lending in a major way, acting as a catalyst for mobilizing term financing from other domestic and foreign banks. By assisting private Argentine companies to expand onshore exploration and development activities, BANADE would contribute to efficient and balanced development of Argentina's petroleum resources. The two projects before you today are the first of their kind for the Bank, a reflection of the Argentine Government's willingness to work with us in new areas and of its determination to establish a meaningful balance betwetn the public and private sector. The Bank's assistance to I I I financing the projects would exceed the amount of the loans;l cofinancing arrangements are expected to generate an additio al I $400 million for the refinery conversion project and 300 million for the oil and gas credit project. In concluding, I would like to mention that the two projects form part of the Bank's overall assistance to Argentina for rational energy planning and development. The Bank is supporting a number of activities that form the I basis of a comprehensive strategy which aims at the integrattd development of coal, hydro-power, gas and oil and at the institutional strengthening of the companies involved. I In the power sector, Bank-financed studies have led to institution reorganization and the formulation of a STRICTLY CONFIDENTIAL 8 long-term least cost investment program. Under the coal engineering project, surveys and exploration drilling to certify Argentina's coal reserves will provide the basis for rational development. As part of the oil and gas engineering project, Bank-supported activities are expected to have a major impact on petroleum product pricing and to lay the basis for a gas development and utilization program. The proposed projects would pursue energy conserva- tion, pollution control, sound financial policies and ration 1 pricing at the refinery and retail level. The magnitude of the tasks ahead is substantial. It will require a prolonged effort over a number of years. We believe the Bank can assist the Government in this effort. Thank you. MR. CLAUSEN: Thank you, Mr. Sullivan. I believe Mr. Ray had a question or a comment. MR. RAY: Thank you, Mr. Chairman. Before turning to the project itself, Mr. Chairman, I would like to mention that the Governors from India, Bangladesh and Sri Lanka have specifically desired that on behalf of the governments and the peoples of these three countries I should warmly welcome you on your assumption of STRICTLY CONFIDENTIAL 9 duties as President of the World Bank Group. MR. CLAUSEN: Thank you. MR. RAY: On their behalf and on my own, let me say that we sincerely hope that under your able leadership the Bank will continue to make an ever-increasing contri- bution to the cause of development. The President of the World Bank carries an awesome responsibility, and we are confident that under your guidance the Bank will successful!~ tackle the many problems and challenges which face the developing world and ameliorate the lot of the poor. We I I look forward to working closely with you to this end, Mr. Chairman. MR. CLAUSEN: Thank you very much, Mr. Ray. MR. RAY: Thank you. Coming to the project itself, Mr. Chairman, we greatly welcome both the oil and gas credit project and also the refinery conversion project for Argentina. Both of them are designed to meet a felt need and do not suffer from any undue risks or disabilities. The refinery conversion project, in particular, is claimed to have an economic return of as high a figure as 48 percent. Having said so, however, and without in any way STRICTLY CONFIDENTIAL 10 questioning the utility of the project, which I have said we greatly welcome, I would appreciate clarification on one aspect. In both the reports, there is mention about the pricing policy of crude oil and petroleum products. It is said that by the end of 1979, prices of petroleum products were below international levels. Apparently, at the insistence of the Bank, the Government is implementing a policy of gradually increasing the prices of crude oil and petroleum products and the Government has informed the Bank that it intends to continue adjusting petroleum product prices periodically, to reflect adequately changes in internal price levels and international petroleum prices. Apparently, retail prices of petroleum products are now satisfactory and, on average, do reflect inter- national prices. i I I understand from these reports that imports account for only 13 perceftt of the total requirements of Argentina, / and in such a situation perhaps international prices need not really be given overriding importance. It has been stated that a large percentage of the final product prices are accounted for by taxes, and does not accrue to crude producers or to refiners. What is not clear from the President's Report is STRICTLY CONFIDENTIAL 11 the average cost of production or of lifting the crude in Argentina. This indigenous crude presumably represents or presumably meets 87 percent of the country's total requirements. There would be a strong case for international pricing if the cost of production in Argentina was more or less comparable to the international price of petroleum. However, the cost of production in Argentina is substantially I I less. Then the pricing of petroleum products raises several important issues and the question arises: How much of the difference should be in the form of taxes? What reasonable profit margins can be allowed to the refiners and producers? And what benefits should be passed on to the consumers? While in the ultimate analysis the responsibility for these policies must remain that of the Government of Argentina, from the Bank Board's point of view perhaps it may be desirable to have a fairly clear idea of bhe policies being followed by the Government of Argentina and to ascertain what margins are available for servicing the loan and meeting the repayment commitments of the Bank. Thank you, Mr. Chairman. MR. CLAUSEN: Thank you, Mr. Ray.  12 STRICTLY CONFIDENTIAL Mr. Sullivan. MR. SULLIVAN: On the question of the Government pricing policy, the Government's policy has evolved over a number of years in connection with the Government policy towards general stabilization of the ecx,nomy and then opening up the economy. As Mr. Ray pointed out, Government prices have increased substantially since 1979 where at that point they were below international levels to the point today where they are substantially above international levels. This pricing policy is designed to encourage conservation as well as the efficient utilization of these resources and it's a policy that we support. As far as the actual pricing policy towards crude oil which he alluded to, an indicative response would be that Angentina puts out risk contracts to the private sector ~o~ I to encourage the expansion of crude oil production. ·rhese i risk contracts are set -- the bidders for these risk contractjs, international companies are allowed to bid on an indicative -- on a price of the crude which they think would be sufficient to allow them to go in and drill and to drill at risk for the crude production, and until now the prices that have been bid have been sufficient so that all the risk  13 STRICTLY CONFIDENTIAL contracts have been awarded, that have been put up to auction have been awarded to private companies, so that the pricing policy for crude -- I think the price is around 60 percent of the current international price, which would be around $16 a barrel or so for crude. This price is seen as sufficient by the internation 1 oil companies to come in and to drill for additional -- to find for additional crude production. As far as the actual lifting cost goes and the efficiency of the sector, I would like to call on Mr. Segura to answer that question. MR. SEGURA: Yes, the actual price that it is being paid to foreign companies to extract and produce oil is around $16 per barrel. And we estimate that the productidn ! that that price covers all the expenses and provides I ! a reasonable margin to the producers. so we understand that the cost should be in the order of around $10 per barrel. MR. CLAUSEN: All right. Mr. Abdulai asked to comment. MR. ABDULA!: Thank you, Mr. Chairman. Like Mr. Ray, let me extend our warm welcome to you, but unlike him, I won't attempt to list the number of countries that have asked me to do that. I would never get STRICTLY CONFIDENTIAL 14 out of here today. (Laughter. ) MR. CLAUSEN: Thank you, nevertheless. MR. ABDULA!: Let me state that we realize that we are going through very difficult times, but my government are confident that with your past experience and dedication and your -- at least some familiarity with the problems that exist in developing countries, that you will be able to live up to the task. And they would like to assure you of their full cooperation. Coming to the projects themselves, Mr. Chairman, I would like to give our very strong support to both projects. In fact, we wondered if Mr. Stern or -- especially planned to bring these as the first two projects or whether you were doing that behind the scene, because we notice that most of the comments you made in the last several months, parts of those comments appear to be relevant to these two projects. They are the very crucial sector energy. There is some substantial cofinancing; private sector appears to be featuring very prominently, and we think also the amounts are large. So we hope we will be looking forward to several such projects. Thank you very mch. STRICTLY CONFIDENTIAL 15 MR. CLAUSEN: Thank you, Mr. Abdulai. Mr. El-Naggar. MR. EL-NAGGAR: Mr. Chairman, like the speakers before me, I would like on behalf of my constituency to extend a warm welcome and good wishes for the leadership of this very important institution. My constituency is confident that under your leadership and with your experienci the Bank will make an important contribution to the economic I I I development of the Third World. With respect to the two projects before us, I would like to express my strong support for these two excellent projects. I have, however, two observations which are not related to the project as such. As a matter of fact, they cut across the two projects, as well as the project for Romania which is coming later on, and the project for India. This observation relates to the consistency of Bank policy on two points: First, the energy pricing policies followed by the borrowing countries; second, on the valuation of assets in public utilities, which is related to pricing also of public utilities. With respect to energy pricing policies, the objective of the Bank, quite understandably, is that the STRICTLY CONFIDENTIAL 16 price of energy in the borrowing countries should move gradually in case there is a discrepancy between domestic prices and international prices, that domestic prices should move gradually towards international levels. This is a laudable objective which we support. d.ii:,- However, it isAconcerting to me -- it's a matter of concern to me and to my constituency that there is no consistent policy as far as I can see, which the Bank follows in its relations with the borrowing countries on this problem. In some cases, most obvious of which is the case of Egypt, my own country, the Bank takes a very hard position, that the country has to move from the present level to international levels, and endless negotiations take place and is made the subject of effectiveness of the law. On other cases, on the other hand, we have a tolerant attitude. The tolerant attitude ranges from accepting the word of the borrowing country that's going to do its best to move towards the international levels, to saying that the energy prices will be determined in the I light of a study to be undertaken, or, as in the case I beforehand, in the case of crude, to say that the price of l i crude, which is $16 a barrel -- this is half the world marker I STRICTLY CONFIDENTIAL 17 price is sufficient to carry the expense to cover the expenses and provide a reasonable profit margin. While this is not the objective of the Bank policy, as far as I can see in my own countries, the objective is not simply to provide for covering the expenses and for providing a profit margin, but to move towards international prices. I'm not saying that Argentina should move towards international prices. I am the first to recognize that this sometimes is a very difficult step, involves sometimes political implications. But what I am saying is that there is no consistency with respect to the Bank position on the question of energy pricing policies. And I think that we should know what is exactly the policy of the Bank, and the policy of the Bank should apply to all borrowers, whether in terms of flexibility on this issue or in terms of taking a special position to achieve a certain objective. This is with respect to the energy pricing policies. The second observation relates to the valuation of assets. Also it is related to the pricing policies. In the case of public utilities, like power, railways, like in the case of the Romanian project, the -- a reasonable rate of return is expected and is required by the Bank, whicJ STRICTLY CONFIDENTIAL 18 is also a laudable objective which I support. And one way of making sure that the rate of return is a real rate of return is the revaluation of the assets of public utilities. However, the Bank policy here again lacks con- I sistency. In some countries, there is a tremendous insistente on revaluation, endless negotiations, and in some other J countries, the issue is dealt with in a very tolerant I and very flexible way. Here again, Mr. Chairman, I am not asking for a hard line on any of these issues, because I think that everyone who knows the situation in the borrowing countries knows that a movement towards international prices or a movement towards a rate of return on revaluation of assets at a time of inflation, such a movement could raise tremendots problems to the borrowing country and could be counter- · productive. What I am asking for, Mr. Chairman, is the consistency of Bank policy, to k.now what Bank policy is and that there should be no discrimination between non- borrowing country and another. Thank you, Mr. Chairman. MR. CLAUSEN: Perhaps Mr. Stern could comment on Bank policies. They have been very consistent for the last STRICTLY CONFIDENTIAL 19 three days. (Laughter.) MR. STERN: I think first on the energy prices we have, I think, in all countries the objective which we try to persuade countries of, that the price of energy is an important determinant of demand and consequently plays an important role in every country's conservation effort. There is a distinction between what was mentioned earlier by the price of crude which is necessary to provide incentives to oil companies that are going to drill and the final price of products to consumers. And it may well be that the price of crude at 16, $18 a barrel in Argentina' does provide an adequate incentive for companies to bid on contracts, but that is a quite separate matter of whether the price of the final product to the consumer in Argentina ought to be near international market levels, because that is the price of substitution of imported product for domestic products, and clearly is important in terms of limiting the growth of demand for oil products. 1 We start with the basic proposition that the inter~ national market prices to the consumer is a reasonable benc~- I mark. Now how fast countries can get to that benchmark, an1 STRICTLY CONFIDENTIAL 20 what special circumstances there may be which make this benchmark inappropriate, I think, as you know from our previous discussions on project, it varies greatly among countries. It often is difficult to move on energy prices because -- or some parts of energy prices. They affect urban transport; they affect kerosene, which is a fuel for very poor sectors of the economy. And these decisions pose serious political problems for countries. Our basic objective is to try and make sure that countries accept the proposition that prices ought to be approximately at t.he international levels, and that they are taking steps to move in that direction. How fast they can go, what the steps are in the case of any particular project, obviously, is a matter of judgment as to whether that is satisfactory or not. I think we are quite consistent in setting the objective, and I think we try, at least, to be consistent in judging whether reasonable efforts are being made to move in that direction. I think the same thing applies to the question of valuation of assets, which is a hotly disputed issue in many countries. The objective here, obviously, is not one STRICTLY CONFIDENTIAL 21 of getting the accounts right. It is, as Dr. El-Naggar indicated, to make sure that the corporation, whichever it may be, an electric power corporation, water supply system, whatever, remains financially viable~ that if subsidies are required for -- in terms of the government's social objectives, that these are explicitly addressed and explicitly provided for either by cross-subsidization of rates within the company or by budgetary contributions, but that the financial viability of the corporation is sound and will assure its continuity, on the one side. And secondly, that the corporation makes a reasonable contribu- tion to investment funds required for future expansion. Now in both these judgments we have pretty clear criteria. We look for investment contributions as reasonabl1 at about 30 percent of funds generated. We have a rate ! of return objective in say, in the electric power field of somewhere between 8 and 9 percent, not usually reached very early in the life of any corporation, but again our judgment here is on whether or not efforts are being made to -- by the government to raise rates which again often is a politically difficult thing to do to maintain the financial viability and a contribution to investment. Again, it's a matter of judgment in each individual STRICTLY CONFIDENTIAL 22 case whether the efforts are satisfactory or not in terms of what is politically and economically feasible in a country. MR. CLAUSEN: Does that satisfy Dr. El-Naggar? MR. STERN: The answer I'm sure doesn't satisfy (Laughter.) MR. EL-NAGGAR: Exactly. MR. CLAUSEN: I note the difference. Mr. Hennesey. MR. HENNESEY: Thank you, sir. First, I'd like to say I myself am merely passing through here. So it's a bit of a humble welcome, but on behalf of my government I sincerely would like to extend our warmest welcome and our best wishes for your success I and your satisfaction as you head the Bank through the futurd and coming years. MR. CLAUSEN: Thank you, Mr. Hennesey. MR. HENNESEY: In terms of the pricing question, I listened here with interest because, as Dr. El-Naggar I knows, this is a question which we also share enormous inter~st in the pricing, et cetera, rationalization of policies. And in this particular case in Argentina, I note with some satisfaction that the Bank in fact has encouraged the STRICTLY CONFIDENTIAL 23 government to rationalize its pricing, and the extent to which they are able to continue and pursue those policies is of continuing interest to us. Both of these loans or both of these projects are good projects, and in fact one of them from our perspective is a little bit too good. I particularly talk in terms of the refinery retrofitting conversion. We have some doubts as to the justification for IBRD financing of this loan and, in particular, we are concerned that the loan might have an effect in displacing private capital flows. This is not a new subject for us. It is one that we brought before the Board a number of times. In our view, pri~ate commercial financing would be available for this project in the absence of Bank participation. The project has a relatively high financial rate of return of 24 percent and it involves few risks. Moreover, Argentina and the State Petroleum Company have high credit ratings in the international financial markets. Given the probable availability of private financing, we question whether Bank participation in this project represents an efficient use of limited Bank resource~. I We believe that this loan proposal indicates a need for the STRICTLY CONFIDENTIAL 24 Bank to re-examine some aspects of its energy lending policies in order to assure that Bank loans catalyze rather than displace private capital. I think that the loan before us here is, at least I I from our perspective, a very fine example or a very pertineni example of the types of fears that we have brought before this Board before in terms of the Bank entering financing where perhaps private capital would have done an equally well job -- an equally good job. The returns on this project by any standards are impressive and we therefore are confused as to why the Bank has felt it necessary to participate in the financing of this particular project. Thank you, sir. MR. CLAUSEN: Mr. Sullivan, do you have a comment or a response? MR. SULLIVAN: Yes, sir. Let me begin commenting on that one. First of all, let me address the refinery sector at large in Argentina because, as you know, there are I private refineries there and the question may also incorpora~e why didn't the private refineries get involved in doing this project? And the answer to that question is quite STRICTLY CONFIDENTIAL 25 simple, that the surplus fuel oil comes from YPF refineries; the private refineries that currently operate in Argentina are fairly efficient and have a very low residual amount of fuel oil, and the project just isn't economic unless you have the residual fuel oil. Therefore, Argentina -- YPF is the only possible source for adding this catalytic or this conversion capacity to their ongoing conversion -- to their ongoing refinery capacity. Then the question becomes whether or not YPF could have gone ahead and financed this project on their own. And I think if -- an exa.minatiort·of tPF 1 s·situation will indicate why that's not the case. YPF, despite its size, it is the largest company in Argentina, is a very weak company. As we pointed out in the reports, five years ago it was part of the government, and it did not operate independently. And when it was separated from the government, it was given a mandate to begin operating in an efficient mode, but this is a long-term proposition. And until it's able to operate efficiently, the government is very hesitant to allow it to go ahead and undertake any new projects. Now before YPF could undertake a project of this STRICTLY CONFIDENTIAL 26 magnitude, it had to approach the government and explain the situation. And the government was very reluctant to allow it to do so, primarily because YPF had not undertaken / any large projects in the last ten years, and the last I I project it undertook was a turnkey project that had substantial I I cost overruns. I So the government and YPF both agreed that the that YPF needed to address its institutional questions at the same time that it undertook the project, and both YPF and the government approached the Bank as part of our ongoing relationship with Argentina's energy sector with the ongoing efforts that the government had asked us to help with in terms of rationalizing the sector and providing assistance to improving the sector's efficiency. So there probably would not have been a project if the Bank had not been involved in the sense that the I I government was quite keen on bringing to bear some influential I role in trying to get YPF molded so that it could carry out this project efficiently. And, on the other hand, YPF is also very interested I in the Bank's role, because YPF needed to get hydrocarbon price increases in order to operate efficiently, and the government was reluctant to allow YPF to have these price .I STRICTLY CONFIDENTIAL 27 increases because of its inefficiency. So you had this situation where you actually needed an honest broker or a catalytic role to come in and to both help YPF shape the project and to help shape YPF, which is a very important component of this project, the institu- tional improvements that will be addressed. On the other hand, we needed someone -- YPF needed someone who could go back to the government and it could get commitments from the government to allow YPF to have the prices that it needed so that YPF could continue to I operate in an efficient -- or to continue to operate actuall~ in a financially viable way. So it was this kind of relationship that led to the Bank's involvement and, which I think makes it seem very unlikely that the project could have materialized if the Bank had not been involved. MR. CLAUSEN: Thank you, Mr. Sullivan. Mr. Garcia-Parra. MR. GARCIA-PARRA: Thank you, Mr. Chairman. I would like to join my colleagues in welcoming you to the Board on behalf of my constituency and wishing you a great success in what we envisage is a very difficult task in the years to come. STRICTLY CONFIDENTIAL 28 I would like to refer to some of the comments which have been made regarding this loan and to underline some policy matters which are of interest to us. Naturally, we support this loan. I think it's a very well-designed, it serves purposes and it's along the lines of the Bank's policy. But we would like to underline first the role of institution-building on behalf of the Bank. I think Mr. Sullivan in replyingto Mr. Hennesey's comments has stressed that point. In the case of the Argentine, people may have thought, I mean, what was the need for the Argentint and for this institution to come to the Bank and ask for a loan. At the time they came to the Bank, Argentine had a very large surplus in the balance of payments, a very strong reserve position1 it's a middle-income and the answer clearly is institution-building. And I think it's here where the Bank plays a tremendous role in middle-income countries, where the need for an honest broker, as Mr. Sullivan explained, is essential, where large political pressures bear a great burden on public institutions, and I think that this is a role that ought to be stressed. It's not a question of resources, probably it's not a question of availability of foreign exchange; it's STRICTLY CONFIDENTIAL 29 a question of institution building, and this is clearly the case of the Argentine. The second point regards private enterprise. I think the study that we have read and seen clearly presents the case for pragmatic relationship between government and private enterprise and shows how difficult it is when governments adopt a policy of following only by themselves the path towards energy production. The vagaries of the Argentine policy on oil are very clearly reflected in the study, and the importance that the private sector has played are clearly reflected in the production figures when private enterprise has entered the field. But at the same time one must be aware, as we have pointed out before, that we need a pragmatic approach to private enterprise in developing countries because there are forces which will not permit the full participatiot I of exclusively private enterprise development in the energy I field. Probably what is emerging as a result of our mis- takes in the past is a sort of relationship in which private enterprise, both foreign and local participate, and government participate. And I think this answers some of the questions that Mr. Hennesey pointed out in the case of refining in the STRICTLY CONFIDENTIAL 30 Argentine. With the history of nationalism, the history of upheavals in policy in the Argentine probably it will be very difficult for private enterprise to enter in such a large investment in the refinery sector of the Argentinean economy, and probably the government will have to under- take these by themselves. Secondly, probably if you have private enterprise enter in a project of this type, it would have been better to have a joint venture between the government and private enterprise, as a means of securing continuity in the energy field. I think purely investment on the part of large foreign, international private enterprise in developin~ countries today is a politically difficult task, and one I must be aware of the rationale behind some endeavors on the part of governments. I do not share the concern of Mr. Hennesey that the rate of return is too high and that therefore it should be left to private enterprise, because that will seem to imply that what we should do is to encourage a policy in which we only give to government supports when it is a low return and not when it is a high return. Therefore, we I I will have left governments with the bad economic results I I I and the private enterprise left alone to battle in the fiel~s I I STRICTLY CONFIDENTIAL 31 of high economic returns. Therefore, with due respect I do not share that point of view that Mr. Hennesey has pointed out. I think governments and public enterprises should be encouraged to go into very profitable projects in a way which they can balance some of the projects which they have to under- take necessarily when they act as government agents. I think finally, Mr. Chairman, that I would like to make a comment on the energy pricing policies. I think I have heard with great attention to Mr. Stern's statement. I think this has to be handled with flexibility. In some countries you come from very low levels of energy prices, historically very low, the product of past mistakes and the product of what the world economy in oil was for many years. In some other countries you have energy prices derive from the fact that a large amount of oil or energy is locally produced and is very difficult to explain to public opinion that with locally produced energy you have to charge the population at large international prices. We think that in this case, as in other cases, flexibility is a. mark.·of the rule and that we should be aware of the different cases, the reasons behind each posi- tion, and while trying to achieve the objective of having STRICTLY CONFIDENTIAL 32 reasonable internationally priced energy, we hope to bear in mind the background, the conditions in which the enter- prise is involved, and use flexibility for approaching this subject. I was very impressed by Mr. Stern's statement and, if he has no objection, I would like to have a copy of it written later on. It's useful to have these state- ments of policy. The Bank usually evolve its policies from discussions in this Board and one accumulates wisdom having comments on the part of the executive members of the staff. Thank you very much, Mr. Chairman. MR. CLAUSEN: Thank you, Mr. Garcia-Parra. Mr. Muns raised his hand. MR. MUNS: Thank you, Mr. Chairman. Like my colleagues who have spoken before me, I wish to extend you our warmest welcome on behalf of my constituency and myself. And we wish you a very successful tenure of office as President of the World Bank and we offer you our sincere and full cooperation. Now turning to the loans, Mr. Chairman, we support these two loans to Argentina. They address two important areas in Argentina's energy sector and then they are intended I STRICTLY CONFIDENTIAL 33 to have a very positive effect on enabling that country to capitalize on its own resources of energy and to substitute imports. This should also have a positive effect on Argentina's balance of payments. We welcome the oil and gas credit project because it encourages the development of Argentina's hydrocarbon resources and because it has an important component of technical assistance and have, like other speakers have said, institution-building. We understand the subloans will be made available only to companies that are now working under contracts I with YPF as a means of ensuring the best use of the funds. I I We would like to know though if funds could be made availabl~ also to companies that are not now working with YPF, that are capable of carrying out oil or gas development projects. We also welcome the focus of the refinery conversiotj project which is encouraging a more efficient use of hydro- carbon resources. This is a very interesting project because it addresses an urgent need to put the main refineriJs I I of Argentina back in line with demand and also the improve- ment of YPF's major refineries. We welcome the assistance that will be provided I to identify the potential for energy savings in the industrial I  34 sector and mainly in the energy intensive industries and the research on the scope that there is for substitution.· In sum, Mr. Chairman, these are two good projects and we are happy to support them. Thank you. MR. CLAUSEN: Thank you, Mr. Muns. Mr. Ragazzi. MR. RAGAZZI: I would like -- thank you, Mr. Chairman. I would like to associate myself with other speakers in welcoming you here today and wishing very successful work in the Bank. The World Bank is playing a very important and constructive role in the power sector in Argentina and we appreciate greatly what the staff and the Bank is doing in an integrated way. We are financing not only oil and gas but coal, hydro power projects and, we feel that the Bank is really doing a very good job in this field. These projects are excellent. The first one, as already has been observed, is important also for the priority given to private sector involvement in the field. Regarding energy policy, pricing for energy products we agree entirely with the approach of the Bank as it has bee STRICTLY CONFIDENTIAL 35 summarized very clearly by Mr. Stern and actually the governments I represent have very often stressed with me tha~ they feel that the Bank should implement this policy and stress the need for close implementation of this policy. With regard to Argentina, I think that we are satisfied that retail prices are in line with international prices. And this, I think, is the most important criterion and the stress should be clear in our view that by stressing the importance of a proper pricing, the Bank is really acting in the interest of the borrowing countries, because the main objective is to avoid distortions in the economies of the borrowing countries. So it is not something that should be perceived as being imposed for some idealogical reasons, but I think it is in the best interest of the borrowing countries to follow a proper pricing policy. On this project, I only have a very minor question. I see that on the oil and gas credit project the amortiza- tion schedule is -- will be fixed only when subloans are I ! fully committed. This is, as far as I understand, a somewhar unusual procedure. I have read in the -- which, of course, extends the average life of the loan. i I have read in the text that we expect that the STRICTLY CONFIDENTIAL 36 loan will be fully committed in December '83, which would add practically two-and-a-half years to the 15 years indicated in the text, if I am not wrong. And the question I have is whether we have any cut-off date? In other words, if the loans are not committed by December '83, is it and if commitment is delayed for a longer period, how are we going to protect ourself against the possibility that I the maturity of the loan will also keep increasing? I I Thank you. MR. CLAUSEN: Mr. Sullivan. MR. SULLIVAN: Yes, sir. I would like to call on Mr. Santiago to answer that question. MR. SANTIAGO: Mr. Chairman, first of all, regardin the amortization schedule, what we utilized in this par- ticular case was an idea of mechanism for an oil and gas credit project. And in the case of YPF loans for the Bank it is not unusual. As a matter of fact, it is quite common to have amortization schedule set this way. On the second point, I would like to point out that there is a cut-off date that has been set and that amortization schedules for individual subloans may not extend beyond 15 years from the date of signing of this loan. STRICTLY CONFIDENTIAL 37 MR. CLAUSEN: All right. MR. RAGAZZI: That doesn't answer my question really. I would like to understand if our the amortiza- tion schedule of our loan is dependent upon when the subloans will be committed if this is so, I would like to understand what happens if the subloans are committed with a delay with respect to what our expectation is? What happens in that case to the amortization schedule of our loan? MR. SANTIAGO: Well, in the first place, there is a cut-off date for commitment of our subloans. They may only be committed up to December 31, 1983. And in the second place, once these subloans are individually committed, their individual amortization schedules then form the composite amortization schedule for the Bank loan. Now those individual subloan amortization schedules may not extend beyond 15 years from the date of signing of the Bank loan with BANADE. MR. STERN: If I may just add, Mr. Ragazzi, if we were to extend the date of the subloan eligibility, commitment eligibility, we would either have to extend the maturity of our loan, which we would not be prepared to do under normal circumstances, or there would be a periodf i STRICTLY CONFIDENTIAL 38 where our repayments to us for the Bank loan would precede the repayments to the financial institution on subloans. I The amounts would be very small and, since this is an ongoin1 financial institution, we would not think that would create any problems. MR. CLAUSEN: Madame Parent. MRS. PARENT: Thank you, Mr. Chairman. I think you already received official and friendly welcome from my authorities and it's my privilege today to re-express this welcome with my personal warmest feeling. Referring to the two projects we are presented today, I would like to express our total support. The size, 500 million and 80 million, are impressive. I hope not too ambitious. But in approving this project, it's a way to take the measure of the financing needs of this sector in the developing world. And in our mind, it's -- such a thing justify future progress in the idea of creation an Energy Affiliate of the Bank. We are very pleased to see in these both projects I ! place given to activities of exploration and energy planningt support to public enterprise, and to see the important amount of cofinancing associated with the Bank money. STRICTLY CONFIDENTIAL 39 I have only one question, not related to this project, but to the future program of action of the Bank in. this country, in a country like Argentina. I want to be clear I am not following ideas express d by my American and friend colleague. I am deeply convinced of the useful role of the Bank in the energy field. But nevertheless, looking to the project approved during the last three years, I am wondering if we have decided already to concentrate our action in the energy field? I think our mission should be more balanced and we have to maintain a presence, an action in other sector with direct and immediate impact, social impact, regional impact. I visited with other members of this Board this country last year, and I remember very well some statement done by one Minister of Finance in Chaco, for example. I To summarize my question, I would appreciate to i receive some information on the future Bank lending operatio1 in this country. Thank you, Mr. Chairman. MR. CLAUSEN: Thank you, Madame Parent. Perhaps Mr. Lerdau could comment upon the future activities planned for Argentina. STRICTLY CONFIDENTIAL 40 MR. LERDAU: Yes, sir. Since the present government took office only relatively recently, we have only begun to discuss our program effort for the next few years with them. Obviously, I we have some ideas about it already and we have also gotten some preliminary indications of the government's thinking on this. The present intentions -- and I stress that they are still fairly general and not very precise -- are to have a diversified program, but one which does -- which will contain additional loans in the energy sector. We would, for instance, expect if the present operation is as we do expect, a success, we would expect the BANADE operation to be followed by subsequent ones when -- if there is a good demand for this kind of money. We also are discussing, however, projects in other sectors, including some infrastructure, sectors such as ports, possibly a highway maintenance program and also some agricultural activities in the poorer parts of Argentin~. There are some other more remote -- I'm sorry. There is I also a water supply project under discussion. There are some other more remote ideas but it would I I probably be premature to talk about those at this time. j STRICTLY CONFIDENTIAL 41 MR. CLAUSEN: so it's a broad program. Yes, Mr. Garcia-Parra. MR. GARCIA-PARRA: Mr. Chairman, on this subject, because I think it's a very interesting report on one -- for our activities. When one sees programs for a particular country or a direction in which the Bank moves and one sees in percentage value perhaps that other projects are not keeping pace with what Madame Parent has called social and regional programs, one must bear in mind that energy is necessarily a capital-intensive activity, and that when entering the field of energy, that qualification -- I mean that descripti1n of being capital-intensive necessarily alters the apparent 1 balance between the different projects. And that, therefore, one should not let oneself be misdirected by the fact that in a particular program I • I I you have a large amount of money, not necessarily of proJects I devoted to energy. Thank you. MR. CLAUSEN: Madame Parent. MRS. PARENT: If I take the floor again, it's just to re-express I am very sensitive to this point of view, especially as a fact like energy sector is a capitalistic STRICTLY CONFIDENTIAL 42 one. But as I recognize a key role to the Bank, I know also that if the Bank do not want to go, that is not the case as far as Mr. Lerdau explained to us today. But if the Bank is not there to be interested in some regional for example development, it's not sure you will find in that country itself, especially if you take into account always difficult choice of using money between -- in federal state, you are not sure to find money for the other project. And that addresses the point I want to stress. The Bank has a key role -- has a key role to play in the developmenti the Bank should be in the energy field I agree completely with you, and I thought I was clear on that point, but I know also, if the Bank is not there to be interested in regional development with social, imme- diate impact, maybe you cannot have the money to do this project. Thank you, Mr. Chairman. MR. CLAUSEN: Thank you, Madame. Mr. McLeod. MR. McLEOD: Thank you, Mr. Chairman. I would like to warmly endorse the sentiments that have been expressed this morning of welcome and good wishes STRICTLY CONFIDENTIAL 43 to you, sir. MR. CLAUSEN: Thank you. MR. McLEOD: We support the two projects and I would like to make two comments on the oil and gas credit project, which bear on the institution-building role that the Bank might play. In paragraph 57 of the President's Report there is reference there to the restriction on the salary levels that BANADE can pay, which are apparently below competitive market levels in Argentina, and it refers to a long-standing practice of allowing staff, particularly specialist technical I ! staff, to supplement their salaries with part-time work. While I appreciate the difficulties of government restriction on salary levels, I would think in the longer term and through supervision of the loan, one would hope that perhaps a greater degree of independence can be encouraged in the case of this BANADE, this institution so as to at least minimize the use of part-time staff, or keep it within levels where the efficiency of the total operation is not prejudiced in any way. Paragraph 65 refers to the Bank lending terms and states that BANADE would onlend in U.S. dollars and the rate would be 13.S percent at a minimu. I would assume from that STRICTLY CONFIDENTIAL 44 that in practice loans may well go above that when the market rates indicate that that would be appropriate. And in this context, I'm mindful of the fact that we were unable to raise a loan ourselves at close to 15 percent just recently, so that I think it's important that there should not be a situation where money borrowed from the Bank is onlent in effect at a level involving a subsidy. It is, I say, the words "at a minimum" imply that there is scope for judging a rate more effective with market levels. Thank you. MR. CLAUSEN: Thank you, Mr. McLeod. We will take note of those comments. Mr. Khelil. MR. KHELIL: Thank you, Mr. Chairman. I would like to add my voice to those who welcome you to this institution. The countries I represent are confident and convinced that under your leadership and your guidance, this institution will continue as in the I past to promote the cause of development through internationrl cooperation. Having said that, Mr. Chairman, this chair doesn't have difficulties in supporting both projects under con- sideration today. Both projects reflect the growing need STRICTLY CONFIDENTIAL 45 of developing countries to develop and strengthen the energy sector. Our wish that this -- in doing so, this wouldn't be at the expense of other sector. As you know, Mr. Chairman, we have pending in front of this Board the question how the Bank could address in the future this very, very important issue. And without additional funds, we might have the risk of financing the energy sector at the expense of other sectors, which are very badly needed in developing countries. So we wish that the Board would continue to address itself to this very important issue in the future so that we can raise additional funds to meet these growing needs in developing countries in this vital sector of energy. Mr. Chairman, the oil and gas credit project also reflects the importance of the role which can be played by the private sector in this field and this might maybe correct some ideas, some wrong ideas propagated around the role of the World Bank and stressing that the World Bank has only helped the public sector at the expense of private sector. I think this is a good illustration that the Bank here is strengthening the role of private sector in the field of energy. STRICTLY CONFIDENTIAL 46 The second project, refinery project, also reflects also -- or stress the fact that the -- sometimes the private sector cannot act by itself but it needs some guarantee and some catalytic role of the World Bank. And this I think has been said by my colleagues. This is also -- illustrate the case where the Bank can play that very efficiently that catalytic role and can promote the private sector in doing so. Having said that, Mr. Chairman, I have one point I would like to raise, a minor point. Given the diverse energy resources in Argentina, consumption depends largely on hydrocarbon, petroleum and natural gas which account 14 percent of resources meet 86 percent of domestic energy i demand. And hydro power potential represents some 50 percent of energy resources, contributes only about 6 percent to domestic consumption. I think resource -- this source of hydro power seems to be neglected and even the loan which has been approved in 1979, a loan of $210 million, is still not effected. I would like to have some elaboration on this disparity between the different mode of energy and especiallt that the one of -- the loan of 210 million which is still not effective until today. STRICTLY CONFIDENTIAL 47 Thank you, Mr. Chairman. MR. CLAUSEN: Perhaps Mr. Lerdau can respond to Mr. Khelil's question. MR. LERDAU: Yes, sir. To take the last point first, the Yacyreta loan, which the Director referred to, has been declared effective since this report was distributed. There were some problems which were quite protracted, ones which have been resolved and we expect that the project will make proper progress now. The loan is effective now. The more general point about the under-utilization of Argentina's hydro power resources, I think, is quite valid. There has been considerable under-investment in the sector in the past, largely because of financial con- straints because of very, very poor tariff policies. The Government -- the sectoral authorities now do have a master plan for development of the sector which includes quite a large number of sizable hydro projects, and once these are onstream, the balance -- the proportions that were mentioned will change quite substantially. There are not only the Yacyreta project itself, which is extremely large, but also subsequent projects are expected to come onstream in the next -- in the course of th STRICTLY CONFIDENTIAL 48 next decade, and there will be quite a lot more hydro power being utilized then. MR. CLAUSEN: Thank you, Mr. Lerdau. I believe Mr. Blanco had a comment. MR. BLANCO: Thank you, Mr. Chairman. On behalf of my Argentina authorities, I want to congratulate the staff for the excellent presentation on both projects and to thank the Bank's management's response to the energy necessities of the country. I am particularly pleased that these two projects are the first that you are presenting to us in your recent tenure as President of the Bank. For these reasons, we believe that the and others that we will see in the future, you will succeed in this new post. Thank you, Mr. Chairman. MR. CLAUSEN: Thank you, Mr. Blanco. Mr. Muns. MR. MUNS: Yes, thank you, Mr. Chairman. With your permission, I would like to raise a point I already mentioned in my statement about which I would seek clarification for the staff with your consent. This is the problem of the relationship between BANADE and the companies which are awarded the loans and STRICTLY CONFIDENTIAL 49 the equity funds that BANADE will provide. We understand from the documents that these companies have been awarded an exploration or development contract by YPF. The question is whether this is already a frozen situation or whether there are new companies that can enter into this relationship? Thank you. MR. CLAUSEN: Is this frozen or flexible? MR. SULLIVAN: It's flexible. The thing is that YPF -- the Government has given YPF the mandate to develop Argentina's hydrocarbon resources and, particularly, petrole m l resources. And, therefore, no borrower can -- no company can bid on an award unless they go through YPF can bit on a piece of action. So they have to go through the YPF's screening process and evaluation process. Once that has taken place, anybody, any private company that has gone through their process, has been selected, is eligible to go to BANADE for financing. But BANADE is using the screen of YPF's appraisal and selection process as a prerequisite before it would consider a loan. MR. CLAUSEN: Thank you. Well, all the comments have been very good and I STRICTLY CONFIDENTIAL 50 must say that I appreciate that and I thank you for that. I learned a lot in this discussion. I think that the consensus is that these loans are approved and they are so declared.