Turkey - Highway Rehabilitation Project

Document of The World Bank FOR OFFICIAL USE ONLY Report No. P-3279-TU REPORT AND RECOMMENDATION OF THE PRESIDENT OF THE INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN TO THE REPUBLIC OF TURKEY FOR A HIGHWAY REHABILITATION PROJECT April 20, 1982 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.  TURKEY CURRENCY EQUIVALENTS Currency Unit Jan. 1980 /1 Jan. 1981 Dec. 31, 1981 March 1982 US-Dollar - TL 70.0 TL 91.00 TL 127.00 TL 143.7 TL 1 - US$0.014 US$0.011 US$ 0.008 US$ 0.007 iji /1 Since January 1980, the rate is 'being adjusted for the differential inflation between Turkey and its major trading partners. TL 127/$1.00 was used for Parts III and IV of this report. FISCAL YEAR Republic of Turkey March 1 to February 28 (through 1981) March 1 to December 31 (1982) January 1 to December 31 (from Jan. 1, 1983) LIST OF ABBREVIATIONS KM - Kilometer KGM - General Directorate of Highways MPW - Ministry of Public Works MTC - Ministry of Transport and Communications NTMP - National Transport Master Plan PT - Project Team SPO - State Planning Organization TCA - Transport Coordinating Agency TCDD - Turkish State Railways YSE - General Directorate of Insfrastructure (Ministry of Village Affairs)  FOR OFFICIAL USE ONLY TURKEY HIGHWAY REHABILITATION PROJECT Borrower: Republic of Turkey Beneficiaries: General Directorate of Highways (KGM) Amount: US$71.1 million (including capitalized front-end fee). Terms: Fifteen years including five years of grace, with interest at 11.6 percent per annum. Project Description: The project supports the Government's efforts to rehabilitate and strengthen its existing highway network, with emphasis on highways which play an important part in foreign exchange earnings, and to improve planning, highway safety, and vehicle load control systems. The principal components of this project would be: (i) a three-year time slice (1982-84) of the Government's highway rehabilitation and strengthening program; (ii) provision of equipment and materials for development of a planning system for highway rehabilitation and strengthening, a highway safety program and a vehicle load control program; (iii) provision of specialized highway paving and quarrying equipment; (iv) technical assistance; and (v) a fellowships program. Benefits and Risks: Many highways in Turkey were not designed to meet present traffic demands and, despite extensive maintenance programs, are deteriorating rapidly. The project would lead to savings in vehicle operating costs and road maintenance costs, especially on quick benefit yielding highway sections and on international routes which play an important part in export earnings. There are no unusual technical risks in the project. The principal risk is that a downturn in the Turkish economy could reduce funds available for financing the local cost component. However, performance under Turkey's structural adjustment program has been good over the last two years, and an annual review of budget adequacy 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.  - ii - would give the Bank an early opportunity to press for additional funding, if necessary. The Kuwait Fund for Arab Economic Development has confirmed its intended participation in the project. If any of the Kuwait Fund financing did not materialize, the Bank financed subprojects would remain economically viable. Estimated Project ----- $Million Equivalent ---- Costs: Local Foreign Total Highway Rehabilitation 111.7 105.6 217.3 Equipment 0.5 10.4 10.9 Fellowships - 0.2 0.2 Technical Assistance 0.1 0.5 0.6 Base Cost /1 112.3 116.7 229.0 Price Contingencies 11.7 23.3 35.0 Total Project Cost 124.0 /2 140.0 264.0 /2 Front-end Fee on Bank Loan - 1.1 1.1 Total Financing Required 124.0 141.1 265.1 Financing Plan: Local Foreign Total Bank 71.1 71.1 Kuwait Fund for Arab Economic Development - 70.0 70.0 Covernment 124.0 - 124.0 Total 124.0 141.1 265.1 Estimated Bank Disbursements: --------- $Million ----------- Bank FY 83 84 85 86 87 Annual 14.1 10.4 13.1 17.0 16.5 Cumulative 14.1 24.5 37.6 54.6 71.1 Rate of Return; Over 100 percent Appraisal Report: 3793-TU dated April 9, 1982. /1 Including physical contingencies. /2 Includes about $35 million equivalent of taxes and duties.  INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT REPORT AND RECOMMENDATION OF THE PRESIDENT OF THE IBRD TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN TO THE REPUBLIC OF TURKEY FOR A HIGHWAY REHABILITATION PROJECT 1. I submit the following report and recommendation on a proposed loan to the Republic of Turkey for the equivalent of US$71.1 million (including capitalized front-end fee) to help finance the Borrower's highway rehabilitation program. The loan would have a term of 15 years including 5 years grace, with interest at 11.6 percent per annum. The Kuwait Fund for Arab Economic Development is expected to cofinance the project with loans totalling US$70 million equivalent. PART I - THE ECONOMY I/ 2. The last economic report entitled "Turkey: Policies and Prospeccs for Growth" (No. 2657a-TU) and the Postscript thereto, were distributed to the Executive Directors in December 1979 and March 1980 respectively. Updating of economic prospects as well as indepth economic analysis and dialogue has since been undertaken through the continuing work on structural adjustment loans (SALs) to Turkey, and two special economic missions. The report of the special economic mission in November/December 1980 to evaluate the investment program and entitled "Turkey: Public Sector Investment Review" (No. 3472-TU) was distributed to the Executive Directors in December 1981. The report entitled "Turkey: Industrialization and Trade Strategy" (No.3641-TU) was distributed to the Executive Directors on February 18, 1982. Its analysis is also reflected in this Part. Annexes I-A and I-B contain the Basic Country Data and relevant details about recent economic developments. Characteristics and Development Constraints 3. Turkey is a country about as big as France and Germany combined, with an estimated GNP per capita of $1,450 in 1980. With a population of around 45 million, the density is low (78 per square kilometer of agricultural land), although the rate of urbanization is high (about 45 percent). Educational enrollments have expanded greatly, but the rate of adult literacy remains relatively low (60 percent). Although population growth is not high by middle-income country standards (2.2 percent per annum), the employment situation has deteriorated steadily, with an unemployment rate of about 16 percent, despite rapid economic growth, substantial emigration of workers to Western Europe in the early 1970s and the more recent flow of workers to the Middle East. There is little or no absolute poverty, but income distribution * is still relatively skewed. Data for more recent periods is incomplete, but indicates a worsening especially of the position of wage and salary earners over the last few years with a sharp real decline in the minimum wage. There are also considerable regional differences, and large rural-urban disparities. 1/ Parts I and II are substantially the same as Parts I and II of the President's Report on the Export-Oriented Industries Project (P-3199 TU) dated January 29, 1982.  - 2 - 4. Agriculture is the most important sector in the economy. It contributes 23 percent of GDP (1980), employs about 55 percent of the labor force, and provides about half of merchandise exports. Turkey is one of the very few developing countries which is self-sufficient in food. Yet, agriculture has been given a secondary role compared to industry in the development strategy. The main sector obectives have been to: (a) expand food supply for a growing popul ation5 and (b) provide exports to finance industrial development. Turkish agriculture is dualistic; a modern irrigated commercial sector using modern inputs in coastal areas, produces cash crops and most exports; traditional rainfed agriculture emphasizing grains and livestock, is practised on the Anatolian plateau where only a small part of the irrigation potential has beer. developed, despite massive investments through slowly implemented and long-gestating projects. 5. With its natural and human resources, Turkey has considerable potential for expanding agricultural production and exports. The major constraints on growth and productivity are: (a) limited development of irrigation/ drainage facilities and poor utilization of what has been developed; (b) small and fragmented farm holdings; (c) inadequately funded and poorly coordinated research and extension services; (d) insufficient availability of credit; and (e) inadequate marketing arrangements, especially for exports. Increased productivity could be realized with a somewhat larger and more efficient allocation of investments, backed by more coherent credit and price policies and support services. 6. Reflecting the heavy emphasis of the development strategy on rapid industrialization, industry has absorbed up to 30 percent of total investment. Consequently, it today accounts for 19 percent of GDP, 48 percent of exports (mainly textiles, processed foods and leather products), but only 14 percent of employment. The private sector is overwhelmingly dominant in exports, and accounts for some 60 percent of value-added and an even higher share of employment. Industrial policy has sought to achieve self-sufficiency through import substitution, use of advanced technology and greater depth of integration in productive processes, with consequent priority for capital intensive investments in basic and intermediate products. Exports have generally been given a secondary role, and accounted for only about 4 percent of sector output in 1979. The principal policy instruments used have been large public investments in inefficient State Economic Enterprises (SEEs), and generous incentives combined with high levels of protection for private investments. These policies yielded high growth rates, domestic production of some key basic and intermediate goods based on domestic resources, adoption of modern technology, a skilled labor force, as well as some dispersal of industries to less developed regions. But they also resulted in the establishment of a number of uncompetitive industries, wasteful of scarce capital and too dependent on imported inputs, with low employment and limited export possibilities. 7. The major sector constraints which the Government is now attempting to overcome, are: (a) low levels of capacity utilization; (b) limited export capability in some subsectors; (c) inefficiency of the manufacturing SEEs; (d) lack of sufficient long-term financing for industry; and (e) excessive dependence on imported inputs and low productivity. Apart from import protection, several factors have adversely affected productivity, of which a marginal research and development effort and inadequate labor training are of particular importance. Export efforts have also been hampered by the limitations of marketing facilities.  - 3 - 8. Turkey has large underdeveloped energy resources (hydropower and lignite), but little petroleum. Energy consumption has grown in line with GDP, but remains below the per capita average for middle-income developing countries. However, imported oil accounts for over 85 percent of oil consumption and about 45 percent of total energy consumption. As a result, the oil bill was $3.3 billion in 1980, equivalent to 113 percent of exports, probably the highest figure in the world. 9. Hence, the energy situation has become a major preoccupation of the Government, and the sector has been accorded the highest economic priority. Prices for most products - especially petroleum products - have since 1980 been brought into line with prices in Europe and other indices of real costs to the economy. Investments in energy now have the largest share in the public investment program. The principal sector constraints are: (a) organization and management of institutions in the sector; (b) the lack of comprehensive demand-management and conservation programs; (c) insufficient resources for exploration; and (d) poor project implementation capacity, especially in the power and coal/lignite sub-sectors. Government Policies Until 1980 10. Economic policies until the mid 1970s were responsible for the achievement of rapid economic growth, with substantial growth in industrial capacity. However, both the pattern of growth and the excessive recourse to external finance, especially in the seventies, resulted in the substantial problems which Turkey is confronting today. At the same time, income distribution remained relatively unequal; employment creation inadequate; savings performance poor; and the industrial sector mostly inefficient, despite sizeable investments, and not contributing sufficently to either exports or employment. II. In the past decade, economic management suffered further due to political instability, which thwarted effective decision-making. At the same time, economic problems were aggravated by serious economic shocks emanating from abroad: international inflation, leading to a sharp rise in Turkey's import prices (including oil) and a significant deterioration in her terms of trade; high interest rates resulting in an increased debt servicing burden; and recession in Europe leading to reduced export prospects and emigration possibilities. Inappropriate expansionary policies in response to these factors delayed Turkey's adjustment to the changed international environment, so that by 1977 the country was set on a course of rapidly growing inflation and an inexorable foreign exchange crisis. By 1977, the inflation rate had escalated to 25 percent against 15 percent in 1976, and was rising: the budget deficit as a percentage of GDP increased to over 6 percent; with a tripling of imports between 1973-77 to $5.8 billion and merchandise exports and workers' remittances equalling only $1.8 billion and $1 billion in 1977, the balance of payments deficit soared to $3.6 billion, or over 6 percent of GDP. The Government's response to the crisis emerging since 1973 was to increase external borrowing, mainly short-term. Consequently by end-1977, total external indebtedness surged to $11 billion, of which short-term debt alone was $6.2 billion. A crisis of confidence developed, the inflow of external capital nearly ceased and Turkey faced a host of severe interlocking domestic and external problems. Since January 1980, to achieve its goal of reestablishing viable growth and increased efficiency of resource allocation, through greater reliance on market forces and the introduction of an outward orientation in economic policy, the Government has adopted a series of  4- measures in the areas of exchange rates, export promotion, protection policy, interest rates, SEE prices, taxes, investment criteria and incentives, and institutional reforms. A number of additional medium-term policies continue to be initiated, and it is clear that the Government is determined to follow through with its newly adopted development strategy. Government's New Policy Priorities and Actions 12. The new regime, which took over following the military intervention on September 12, 1980, has vigorously pursued these new policies, pari passu with efforts to restore political order following a period of rampant terrorism, paralysis of the constitutional process, and widespread labor unrest. It has also emphasized, like previous military regimes in 1960-61 and 1971-73, that it will transfer power to civilian authorities once order is restored and a new viable democratic system suited to Turkish circumstances has been constitutionally established. 13. Especially since September 1980, there has been substantial action on economic policies, although the severity of the economic crisis has forced the new government to continue to focus much more on short-term than on medium-term concerns. In view of the severity of the crisis, and the urgent need to bring down inflation and stabilize the balance of payments as quickly as possible, it has accepted the need for a temporary sacrifice of growth and social objectives. However, while financial aspects of economic management, especially availability of foreign exchange and balancing the budget, have come to dominate policy concerns, fairly drastic structural changes have been made or initiated in the operation of the exchange rate regime, the tax system, interest rate policy, export strategy, the SEE sector and public investment policy. 14. On development issues, a welcome change is beginning to be apparent in the scope as well as in the sectoral emphasis to favor the development of energy, infrastructure and agriculture, at the expense of manufacturing, especially as far as the allocation of public sector resources is concerned. There is acceptance of the division of labor between the public and the private sectors, with the former now expected to concentrate on the provision of infrastructure while the latter provides the main impetus to industrial growth and exports. The administrative arrangements in the agriculture sector are being drastically recast to provide better service support to the farmers. The development strategy has also changed, to give much greater weight to exports, relative to import-substitution. Finally, and most significantly, reliance on the market mechanism is being emphasized as against more centralized planning, including in the inefficient SEE sector. Given the long period of inward orientation, detailed planning and administered prices prevalent until January 1980, the impact of these changes will take some time to manifest. They also need to be complemented by further actions, which the -Government proposes to pursue, to fully implement the new development strategy. 15. The retrenchment following the financial crisis resulted in both public and private investment declining in real terms since 1977. The overall level of investment in 1980 was around that in 1975, with private investment being barely larger than in 1974. The extreme shortage of domestic resources resulting from the Government's restrictive policies on credit and high interest rates aimed at bringing down inflation, has necessitated rationing of investible funds. The high oil import bill also forced a drastic reduction in capital goods and raw materials imports needed for public and private sector  investments. The private sector, which to some extent has also continued to adopt a wait-and-see attitude before investing, has been particularly affected by the shortfall in resources, high cost of credit, and the lack of a developed capital market. 16. Despite the Government's attempts to reduce the investment-savings gap and improve on the poor savings performance of the past years, the results in 1979-80 continued to be poor as the Government had to bear the large financial losses of the SEEs. However, as a result of major tax reforms in late 1980/early 1981 and improved expenditure discipline, there was a significant improvement in public accounts in FY81. The budget deficit is expected to be about 1 percent of GDP vis-a-vis 4 percent in FY80; the SEE financing requirements are estimated to have been reduced to 8 percent of GDP in 1980, compared to 11 percent in 1979. 17. The new Government's policies to reduce the size of public investments, stimulate the private sector to take the slack, and overall, further reduce the gap between savings and investments, will need to be vigorously pursued. In the last three to four years, the strategy has been to meet the gap by tapping external financing on a prudent basis, which practice is expected to continue. Turkey obtained increased support and debt rescheduling from OECD countries and diversified its aid relationships with OPEC countries, especially Saudi Arabia and Libya. Loan commitments, which totalled $2.5 billion during 1972-75, increased over threefold to $8 billion during 1976-79, and the gross public M&LT disbursements in 1980 reached about $1.5 billion. Effects of the 1980-81 Policy Measures 18. These new policy directions are beginning to show results. The recent results are provided in Annex I-B. Briefly, the average annual rate of inflation has been successfully brought down from 107 percent between January-December 1980 to around 35 percent for the same period in 1981. The flexible exchange rate policy under which the TL has been adjusted daily since May 1981, together with the new export oriented policies, has led to an unprecedented export growth in 1981; exports are estimated to be over $4.5 billion, or over 55 percent higher in dollar terms than the 1980 level. Increases were concentrated in manufactured goods, which experienced a rise of nearly 120 percent; product groups with the largest increases included textiles, clothing, cement, iron/steel, and non-electrical equipment, with the Middle East becomming an increasingly important market. A new and rapidly growing source of foreign exchange is income earned from construction contracts (with a gross value of nearly $7 billion in 1981) in the Middle East and North African countries. These activities are also expected to add to the normal flow of worker remittances, which remained strong throughout 1981. Although import growth continued to be strong in 1981 (around 14 percent of GDP), import volumes had declined sharply in 1978-79, and as a proportion of GDP, will remain well below the 1974-77 average. Given these developments, the current account deficit in 1981 is expected to be about $2.6 billion (4.1 percent of GNP) compared to $3.2 billion in 1980 (5.5 percent of GNP). 19. In response to the freeing of interest rates, total deposits in July 1980-June 1981 increased by 97 percent and time deposits (including certificates of deposit) by an astonishing 265 percent over the corresponding period in 1979-80. Since July 1981, private companies have been free to set their own bond rates in competition with banks, and can use flexible rates, if  they so choose. The Capital Market Law was passed in July 1981 and steps are being taken to establish a capital market. Following steps to improve SEE financial performance - by freeing most SEE prices and gradually exposing SEEs to market forces - the SEE losses are projected to be only TL 5 billion in 1981, compared to TL 72 billion in 1979. This gain was partly offset by the increases in SEE investment expenditures which in 1981 stood at TL 534 billion, compared to TL 460 billion in 1980. The major tax reform initiated in late 1980/early 1981, is now beginning to show effect. The overall deficit on public account in 1981 is estimated to be about 1.5 percent of GDP, compared to 4.5 percent in 1980. Medium Term Prospects 20. Making a reasonable assumption that the Government's new economic policies will continue and be followed-up by further necessary measures, one can tentatively project that the investment rate over the next 5 years could average 23 percent of GDP and gross domestic savings 19 percent of GDP, with the current account deficit remaining on average close to the 1980 level of about $3 billion. This could allow the economy to grow at an annual average of between 4-5 percent during 1981-85. The gross capital inflow required to meet the financing needs would reach $6 billion in 1985, as against slightly over $3 billion in 1981. The past and prospective movements of macroeconomic indicators are summarized in the Table below. awells Average _I Actual Projected Real Growth lotae /1 1975 19S0 1985 1975-80 1980-85 (Units) A. GDP 1980 TLbn 3,818 4,325 5,287 2.5 4.1 - Consumption 3,342 3,660 4,244 1.8 3.0 - Investment ' 997 994 1,216 0.0 4.1 B. Exports of Goods Current 1,402 2,910 9,086 6.4 18.8 Sbn imports of Goods 4,739 7,667 13,842 -3.7 4.8 - Oil; value 808 3,552 6,585 - - Current Account Balance Current $bn -1,892 -3,196 -3,164 Gross Capital Inflows Current $bn 2,067 4,057 6,010 C. Investment/GDP 2 23.7 23.0 23.0 Savings/GDP 15.3 15.4 19.0 D. Exports of Goods/GDP 2 3.2 5.2 10.0 Oil imports/Exports of Goods 57.6 122.1 72.5 E. Debt Service Ratio /2 a 8 11.5 33.2 /I This does not reflect the latest (January 1982) estimates of GDP growth (4.4 percent) and exports of goods ($4.5 billion) in 1981 /2 Total debt service as percent exports of goods + NUS * workers' re.ittanees.  21. The balance of payments picture in the 1980s could however be less severe if: (a) worker remittances increase by 2-3 percent in real terms, instead of remaining constant as assumed in the above table; (b) remittances from overseas construction activities annually average about $300 million during the 5-year period (instead of $15-20 million assumed earlier); and (c) average import elasticity is between 1.0-1.1 (instead of an assumed 1.1- 1.2). The current account deficit in 1985 could then be below $2 billion, necessitating gross capital inflow of $5 billion in 1985. 22. The viability of prospects in the table is briefly discussed below. Continuation of economic and fiscal policies give room to expect that the inflation rate can be progressively brought down further between 1982-85. Policies, including continuation of the present exchange rate policy, and the excellent 1981 export performance, should also make it possible for Turkey to achieve a real growth of exports of about 19 percent per annum during 1980-85. The export growth rate appears attainable, taking into account the low export base and market prospects, especially in the Middle East and North African countries, and the present underutilization of industrial capacity. However, as the economy returns to a normal growth path, non-oil imports as well as the demand for energy should pick up significantly. Although Government policy is to substitute domestic energy resources, especially lignite, for imported oil to the extent possible in all major consuming sectors, Turkey will have to continue to rely heavily on imported oil. The oil import bill is estimated to increase from $3.6 billion in 1980 to $6.6 billion in 1985; but as a percentage of exports of goods, it is likely to decline to 73 percent in 1985 from 113 percent in 1980. The pressure of oil imports on the balance of payments position will thus continue. 23. A significant determinant of future prospects, in addition to increased aid flows, will be the negotiation of substantive improvements in trade policies towards Turkey. Revised agreements between the EEC and Turkey in 1977 and 1980 have partly compensated for the erosion caused by EEC restrictions on labor movement and textile exports, and offer hope for a better future relationship. The EEC could provide a large and growing market for Turkey's engineering products, as well as textiles and clothing - if their quality and product composition is upgraded. Moreover, Turkey has recently succeeded in diversifying its trade to include larger shares for the Middle East and North African countries, from 14 percent in 1978 to 44 percent in the first ten months of 1981. While these markets are becoming increasingly important to Turkish firms, exports from Turkey represent only a small proportion of the manufactured imports of these countries. Hence, while one should cautiously interpret the recent upsurge in sales to Iran and Iraq, Turkey has excellent possibilities to increase exports of relatively simple engineering goods, cement, and various chemicals, in addition to processed food, to these markets, in view of its geographical proximity and cultural ties. Creditworthiness 24. At the end of 1978, Turkey faced an overwhelming debt burden of $7.5 billion in short-term debt and $6.8 billion in M&LT debt. Turkey was faced with service payment obligations (mostly on short-term debt) of $5.1 billion (including arrears), or nearly three times the value of merchandise exports in 1977. Prolonged discussions with over 200 creditor banks resulted in an agreement in July 1979 to reschedule a total of $3.0 billion in short-term  liabilities, including some $2.4 billion in convertible Turkish Lira deposits and $400 million banker's credits (both at 1.75 percent above the London Inter-Bank Offer Rate (LIBOR), with 7 years maturity including 3 years grace) and $300 million in third party reimbursement credits (also at 1.75 percent above LIBOR, but with an accelerated repayment schedule). Some $300 million in oil loans were also rescheduled in 1979. At the end of 1980, arrears on unguaranteed trade credits were consolidated in an amount of around $1 billion. As a result of these exercises, short-term debt outstanding at end-1980 was reduced to $2.8 billion, the balance having been converted to M&LT debt. Finally, in January 1981, leading commercial banks agreed in principle to extend the terms of the 1979 commercial debt rescheduling. A series of large-scale rescheduling operations relating to M&LT official debt also took place. In 1978, 1979 and 1980, OECD member creditors rescheduled $1.0, $1.1 and $2.5 billion respectively of debt service obligations and accumulated arrears (the last exercise including some re-rescheduling). The terms of the 1980 rescheduling were 8 to 10 years including 4 to 5 years of grace, and provided debt relief estimated at $1.1 billion in 1980 and another $0.8 billion in 1981, with smaller amounts thereafter. Without these reschedulings, the debt service ratio would have been around 29 percent instead of 12 percent at the end of 1980, on short-term debt of $2.8 billion and M&LT debt of $14.3 billion. Nevertheless, debt service obligations are likely to remain high over the coming years. The ratio is likely to rise to about 33 percent in 1985, and still be around 30 percent if the favorable assumptions spelled out in para. 21 are realized. The high ratios in the mid to late 1980's, are partly the result of repayment, which would amount to about $1.0 billion in 1985 alone of rescheduled debt carrying a very high interest rate, and partly due to the need to borrow additionally in the coming years to enable the economy to achieve a modest level of growth and revived vitality. However, despite the rapid increase, the debt burden should remain manageable, provided current policies are successfully implemented, the export drive is sustained, and Turkey continues to receive further international support from private and official donors. 25. On all aspects of economic analysis, the IMF and the Bank have coordinated closely with each other, and Turkey continues to be in good standing with the IMF. A three-year standby arrangement in an amount equivalent to SDR 1,250 million was approved by the IMF's Board and became effective on June 18, 1980. Under the arrangement, Turkey has thus far made six purchases totalling SDR 760 million, including the tranche for SDR 100 million released in January 1982. PART II - BANK GROUP OPERATIONS IN TURKEY 26. The Bank/IDA have to date lent about $3,432 million, through 67 projects. Agriculture accounts for 20 percent of funds lent, industry and DFCs (including structural adjustment) for 41 percent, power for 12 percent, and urban development, transportation, education and tourism for the rest. Annex II contains a summary statement of Bank loans, IDA credits and IFC investments as of March 31, 1982, with notes on the execution of ongoing projects.  - 9 - 27. The implementation of private sector projects has been satisfactory. Political instability, limited coordination amongst ministries, staffing problems and the serious external and domestic financial crisis since 1977 have seriously affected project implementation in the public sector. A system of joint project reviews between Turkey and the Bank was instituted in June 1975. This has resulted in distinct, but modest, improvements. The broad reform of the public sector launched in January 1980, and pursued with new measures since then, allows cautious optimism that performance can be gradually improved further, provided it is not eroded by new factors, including shortages of resources. 28. Bank lending is aimed at supporting the economic policies initiated in January 1980, especially: (a) the pursuit of an export-oriented development strategy; and (b) domestic economic policies aimed at establishing a macro-economic balance, increasing domestic savings, restraining public investment and reorienting it to reflect the new Government priorities (completion of ongoing projects, emphasis on quick-yielding new investments, and balance of payments impact). The Bank has discussed with the Government how its overall lending can best contribute to the latter's medium-term objectives, and help remove past policy and institutional constraints. A series of structural adjustment loans (SALs) is envisaged, at the Government's request, to support its program of structural adjustments that is being implemented. Agriculture, industry and energy will be the key sectors for project lending. In agriculture, projects emphasize livestock, exports, and rural development; in industry (including DFCs), the emphasis is on promotion of exports and employment, and the gradual strengthening of the SEEs. Energy projects underway are in power generation based on domestic hydro and lignite resources; future projects will emphasize the oil/gas sub-sector and coal/lignite. Projects for urban development and public utilities may supplement these efforts. The close macroeconomic and sector dialogue established with the Government in recent years is expected to be pursued on key issues. The economic and sector work undertaken over the last 15 months includes special studies of the public investment program, of industrialization and foreign trade strategy, and of the energy sector, and completion of sector memoranda on agriculture and industry. In addition, the progress made in fostering structural adjustment will be monitored in the context of each future structural adjustment loan. 29. Besides the proposed project and the Fertilizer Rehabilitation Project recently circulated to the Executive Directors, other projects expected to be ready for consideration by the Executive Directors in this fiscal year are for sewage disposal, and the third loan for structural adjustment. Other projects being processed include: agricultural credit, irrigation completion, development of gas reserves, rehabilitation of the paper and cement industries, and a supplement to the Elbistan loan. 30. The Bank Group's share of the estimated total external debt was 8 percent in 1980, and is expected to grow to about 11 percent by 1985. Its share of total debt service payments (excluding debt rescheduling) is projected to increase from about 10 percent in 1980 to about 12 percent in 1985. 31. IFC has invested in synthetic yarns, pulp and paper, glass, aluminum, iron and steel products, motor bicycle engines, piston rings and cylinder liners, and tourism. It has also invested in the Turkish Industrial Development Bank (TSKB). As of March 31, 1982, gross IFC commitments totalled about $226 million, of which $87 million were still held by IFC. New investment opportunities are being pursued.  - 10 - PART III - THE TRANSPORT SECTOR AND THE HIGHWAYS SUBSECTOR 32. Turkey has an area of about 780,000 square kilometers (km) of which about 50 percent rises over 1,600 meters. The construction of the transport system has been difficult because of the rugged topography and heavy winter frost and snow. Nevertheless the network extends through all major provincial areas, although access to some regions, especially in the east, is limited by the difficult terrain. Until recently, the extent of the system had been generally adequate in relation to the geographic distribution of the population. However, the structural condition and the capacity of the system are in many areas not adequate for existing traffic, causing high transport costs, which hinder Turkey's development efforts. These costs are likely to become even more serious given Turkey's economic strategy emphasizing increasing exports and exploitation of new indigenous energy resources, which will expand traffic and modify traditional traffic patterns. 33. The present pattern of transport use reflects the rapid growth and dominance of the road network. The share of highway freight traffic in total transport increased from about 40 percent in 1960 to about 60 percent in 1981. In the same period the share of highway passenger traffic increased from about 73 percent to about 93 percent. Total railway traffic remained fairly stable in absolute terms until 1976, although its relative share decreased. During the past five years, however, railway freight traffic, which is the most important part of railway operations, declined by about 15 percent. Preliminary estimates of railway transport for 1981 indicate the decline of freight traffic has been arrested; it now stands at 10 percent of total freight traffic. Railway passenger traffic, which has increased by 50 percent since 1976, now stands at 5 percent of total passenger traffic. Coastal sea freight transport has been increasing over the past two years and now accounts for about 30 percent of total freight traffic. 34. The state and provincial road system consists of about 60,000 km of roads of which about 32,000 km are paved. Most of this network was built in the 1950s and 1960s to relatively light construction standards and has had few improvements in strength or capacity. In addition, Turkey has about 172,000 km of village roads, of which about 6,000 km are paved. Traffic has grown rapidly in both numbers and size and weight of vehicles so that many parts of the network are now beyond structural and volume capacity limits, resulting in serious pavement deterioration and traffic congestion, leading to high vehicle operating costs and heavy road maintenance expenditures. The prevailing heavy traffic is likely to lead to a serious worsening of the situation within the next few years unless suitable rehabilitation measures are taken. 35. The railways system, which consists of about 8,200 km of mainly single standard gauge line, has been unable to meet traffic demand, resulting in transfer of substantial amounts of bulk traffic to road transport. The railways have also experienced substantial financial difficulties in recent years resulting in a considerable drain on Government revenues and inadequate resources for maintenance and development. The immediate problems of the railways are operational and managerial, with solutions requiring adoption of improved operational methods, recruiting operating personnel with experience of modern methods, and provision of needed spare parts. However, as the  - II - railways increase their share of bulk traffic, rehabilitation of their infrastructure will become of increasing importance. A study financed under the Bank railways loan (893-TU) identified opportunities for significant improvements in the efficiency of freight operations and locomotive maintenance, and the railways management has agreed to implement the study's recommendations. In addition, tariff revisions to improve revenues were introduced in October, 1981. 36. Turkey's 7,300 km of coastline are served by 10 major public ports, about 30 small municipal and other public ports, and about 35 specialized port facilities owned by various industries. Operations in the main public ports are hampered by inadequate equipment, shortage of storage capacity, poorly trained port staff and outdated management techniques. The Bank loan for the Second Port Project (Loan 1741-TU) addresses these issues through financing key areas of port rehabilitation, providing support for improving port coordination, and management and technical assistance for the preparation of a ports master plan. Currently international shipping capacity is adequate but that of coastal shipping should be kept under review since demand is increasing. 37. Ministerial responsibilities for planning, project execution, maintenance and regulation in the transport sector are: (a) Ministry of Transport and Communications (MTC) has overall responsibility for (i) railways through Turkish State Railways (TCDD); (ii) state ports through either the TCDD or the Maritime Bank, and private ports which are operated by a variety of groups; (iii) civil aviation through the Turkish Civil Aviation Authority and Turkish Airlines; and (iv) posts, television and telecommunications through Posts and Telecommunication and Turkish State Radio and Television. In all of these sub-sectors major civil and infrastructure works are undertaken by the Ministry of Public Works (MPW) either through contract or force account. In addition the MTC is responsible for fare and rate regulation of road transport while the Ministry of the Interior is responsible for the enforcement of these regulations. (b) Ministry of Public Works (MPW) is divided into three main directorates, with the General Directorate of Highways (KGM) responsible for planning, construction and maintenance of State (primary) and Provincial (secondary) roads, and two other General Directorates responsible for the infrastructure of airports and pipelines, and ports and railways respectively. (c) Ministry of Village Affairs includes a General Directorate for Infrastructure (YSE) which is responsbile for maintenance, improvement and construction of village (tertiary) roads, in addition to other rural infrastructure. The individual municipalities are responsible for most of the urban road network and municipal bus services. 38. Until recently transport planning, policy and regulation have been largely on an ad hoc basis, with only limited coordination between modes and even less with transport users. In particular, there has been a lack of adequate integration between developments in manufacturing, energy and  - 12 - agriculture and planning of investments in transport infrastructure which would be required to permit those developments to be effective. The State Planning Organization (SPO) directly responsible to the Prime Minister's Office, and the Ministry of Finance coordinate expenditures in the sectors but until recently their influence has been limited to identifying deficiencies in project planning and preparation and monitoring implementation problems. The former Transport Coordinating Agency (TCA), set up within the Ministry of Transport and Communications (MTC) to coordinate transport sector planning was not able to attract or retain adequate competent staff and had little effective authority to influence subsector agencies or ministries. The Government has noted these deficiencies in its transport planning system and in early 1981 organized a core of specialists in the SPO to prepare a draft National Transport Master Plan (NTMP), taking account of the technical plans and inputs of the various agencies involved. An Interministerial Committee was also established to review the plan and related budget proposals. The SPO is adequately and competently staffed for directing and coordinating transport planning, and collaborates well with the agencies concerned (about 100 in number). It appears, therefore, that the transport planning system in Turkey, into which the highway planning system in the proposed project will be integrated, is now developing in appropriate directions. However performance of the new system should remain under review. The draft transport master plan was completed in February 1982 but has not yet been translated. The Bank plans to review with the Government in June (and subsequently) the draft plan and the functioning of the current transport planning system. 39. For the next two or three years, Government policy will have to focus on meeting immediate needs involving continued transport of bulk commodities by road, and rehabilitation of highways and railway facilities. However, during this period the transport master plan should promote solutions consistent with the longer-term needs and resources of the economy. The present short-term priorities are reflected in the current transport investment plan, where major new investments are being postponed and efforts are being concentrated on the maintenance and rehabilitation of the existing transport system, and raising operational efficiency. The Highway Subsector 40. Road transport, which is the major carrier of passengers and freight in the country, is largely in the hands of private operators and there is free entry into the industry. The structure of road transport includes many owner-driver operators, some grouped into associations, and also some very large operators. Although official freight tariffs are set for particular routes and commodities by the MTC, it is common practice to negotiate rates with customers. The charges indicated compare reasonably well with total vehicle operating costs. However, cost recovery from heavy vehicle operators for the damage their vehicles cause to the network is inadequate, and this will be examined in the proposed project (para 56). Passenger tariffs vary according to area of operation and road condition and the quality of service, and published tariffs are generally fixed after negotiation with local authorities and the MTC. 41. Traffic on the State and Provincial road system has grown historically at a rate about 40 percent higher than the GDP, but during the economic slowdown since 1977 traffic has fallen below its long-term 9-10  - 13 - percent growth rate and is now probably growing at about 5 percent a year. However, despite the decline in traffic growth, traffic already exceeds the strength and geometric capacity of many of the roads. 42. An exception to the slowdown of traffic growth is transit traffic, especially that stimulated by the Iran/Iraq conflict. All goods originating in Turkey or arriving at Turkish ports for trans-shipment by truck have to be carried in Turkish vehicles. The net foreign exchange earnings on transit traffic in 1980 before the outbreak of the Iran/Iraq hostilities amounted to about $100 million per year, or about 2 percent of total exports of goods and services. Since then net earnings on this traffic have increased to about $300 million per year (excluding the benefits from the purchase of cheap fuel in Iran and Iraq). Even following a resolution of the present conflict, truck transit traffic is expected to continue at high levels for a considerable time (see para 72). 43. The KGM (General Directorate of Highways) is responsible for the planning, design, construction and maintenance of the highways and bridges which form the State and Provincial highway network. The organization of KGM both at its headquarters in Ankara and its seventeen Regional Divisions is appropriate for these purposes. To carry out construction KGM relies about equally on force account and contractors supervised by the KGM staff, with most major construction handled by contractors. Routine maintenance is carried out by force account. The quality of KGM staff is generally high, and availability of experienced personnel is not expected to be a constraint on project planning and implementation. 44. Planning in the highway sub-sector (excluding village roads) is carried out by the KCM, subject to review by the SPO and the Ministry of Finance for consistency with general planning objectives, resource and financial constraints and transport demand. The current highway investment program contains a large number of projects (over 400) but, due to financial constraints, work has either not started or virtually ceased on many of them. Following recommendations made by the Bank to the Government in early 1981 in the preparation of the Public Sector Investment Review (Report No. 3472-TU of December 7, 1981) and as part of the preparation of the NTMP, the KGM, together with SPO, have carried out a review of the project list to establish a reduced program in line with economic priorities. The review has resulted in the postponement of some large new projects, and the diversion of resources to urgent strengthening and rehabilitation of priority sections of the existing network. The Highway Investment Master Plan developed by the KGM as part of the NTMP and the highway rehabilitation planning program (para 54) are expected to further improve this planning approach. 45. KGM contract construction and road improvement is carried out following competitive bidding open to prequalified contractors on the MPW's register. The register is reviewed periodically and systematically. The contracting industry is well established and adequate as regards capacity and technical competence. KGM procedures and conditions for procurement and contract administration are appropriate. 46. Highway maintenance is extensive, well organized and well executed, and it has been effective in preserving many roads. However, even good maintenance cannot cope with the rapid deterioration of roads bearing traffic loads significantly beyond their design capacities, and many of the more  - 14 - heavily travelled routes are now failing drastically. Maintenance expenditures are increased by the need to make temporary repairs in cases where reconstruction to improved standards would be more economic. This problem would be reduced by the reconstruction investments to be carried out under the proposed project. The highway planning included in this project (para 55) would also examine the appropriate balance between road maintenance, strengthening and rehabilitation programs. Responsibility for highway and equipment maintenance is delegated to the seventeen divisions throughout Turkey. The equipment fleet is large and comprehensive but much of it is old and until recently, there have been some difficulties in obtaining foreign exchange for the purchase of spare parts. Dependent upon the outcome of the study on the balance between the maintenance, rehabilitation, and strengthening programs, any further studies required for equipment needs could be carried out under the supplementary studies provided for in the proposed project (para 59). 47. The maintenance, rehabilitation and new construction of the State and Provincial highways are financed by (a) allocations from the general revenues of Government; (b) earmarked revenues from toll roads, bridges and tunnels; (c) duties on fuel sales; and (d) miscellaneous sources. Road user charges are in total adequate to cover expenditures on road construction and maintenance, which overall are reasonable. However, the incidence of these charges on vehicles of different weights does not reflect adequately the damage to the road system from the use of heavy vehicles. A component is included in the axle load study under this project (para 56) to make recommendations on a revised scale of license fees for heavy vehicles to remedy this deficiency. Prior Bank Loans 48. The Bank has participated in three previous projects in the transport sector. A $12.5 million loan for the First Port Project (Loan 28-TU), approved in 1950, included extensions of several ports, one new port and equipment for handling specialized commodities. Following agreed project changes, a supplementary loan of $3.8 million was made in 1954. Although completion was delayed from 1958 to 1962, most of the physical works were completed by 1959, with procurement for a relatively small part of the project leading to most of the delay. A $75 million loan for a Second Port Project (1741-TU), approved in 1979, is aimed at the rehabilitation of the 10 main public ports through provision of equipment, infrastructure, and storage, and improvement of port institutions through provision of technical assistance for training, tariff and management studies, and port sector planning. The project is being implemented smoothly with only minor problems. Due to some delays in procurement, project completion may be about a year later than originally expected. A $46.7 million loan for a railways project (893-TU), approved in 1973, included track renewal, signalization and telecommunications, manufacture of rolling stock, modernization of workshops, training and technical assistance. Although much of the project had been completed by the planned 1976 Closing Date, long delays due to management problems and slow procurement procedures resulted in completion of the balance of the project only in mid-1981. Progress has been made in many areas, but operational problems have persisted due to limited availability of locomotives and inefficient traffic planning. Reluctance to raise tariffs resulted in a very poor financial situation, but the October 1981 increase in tariffs should lead to improvements. Recommendations resulting from a Bank-financed study  - 1 5- for the improvement of freight operations and diesel locomotive maintenance and greater availability of spares have been accepted by the Government and their implementation should result in better operational performance. There have not been any Operations Evaluation Reports prepared on transport sector investments in Turkey but a completion report on the railways project is currently under preparation. In general, the problems encountered in the First Port and the Railways Projects resulted from procurement delays reflecting deficiencies in Turkey's administrative and coordinating arrangements. Given the improved experience under the Second Port Project, the relatively simple nature of the physical work under the proposed highway rehabilitation project, and the good quality of KGM staff, the proposed project should not experience the type of difficulties and delays faced by the first two projects in the transport sector. PART IV - THE PROJECT Project History 49. The proposed project was identified in November 1980 during discussions concerning the preparation of the Public Sector Investment Review Report (see para. 44). KGM prepared the project with guidance provided by a Bank Mission in June 1981 and during KGM visits to Washington in April and August 1981. The project was appraised in November 1981. Negotiations were held in Washington in March 1981 with a Turkish delegation headed by the Chief Financial and Economic Counselor of the Turkish Embassy and including representatives of the Treasury and KGM. The Kuwait Fund for Arab Economic Development has indicated that it expects to cofinance this project. Project Objectives and Description 50. The Government's strategy in the transport sector gives priority to rehabilitation and strengthening of the existing network, and facilitating exports and the transport of bulk commodities, especially those related to energy. The objectives of the proposed project are: first, to improve, through rehabilitation and strengthening, priority and quick benefit yielding sections of the highway network, particularly those sections which play an important part in carrying exports and transit traffic; second, to promote improved planning and control systems; third, to support Government efforts to improve highway safety and to develop a suitable vehicle load control system; and fourth, to provide training for highway staff. 51. The components of the proposed project are: (i) a three-year slice of the highway rehabilitation and strengthening program, covering road sections to be started during 1982-84 (about 775 km) and completed by the end of 1986; (ii) some priority specialized equipment for highway rehabilitation works; (iii) equipment and materials for: (a) the preparation of future programs of highway rehabilitation;  - 16 - (b) a vehicle axle load monitoring and control system, and a program to evaluate pavement performance and related road user charges; and (c) a highway safety program; (iv) consultancy services for supplementary studies (likely to include follow-up on specific aspects of the NTMP such as bulk transport needs and possibly studies to improve the highway planning process and road maintenance); and (v) fellowships for training. Details of the project are provided below, in the Loan and Project Summary, in Annex III and in the Staff Appraisal Report (No. 3793-TU dated April 9, 1982) distributed separately to the Executive Directors. Highway Rehabilitation Program and Related Planning 52. Many highways in Turkey were not designed to meet present traffic demands and despite an extensive program of highway maintenance, the condition of these highways is deteriorating rapidly. Therefore, the Government proposes to step up its program of highway rehabilitation and strengthening for priority sections of the primary network, and it is a three-year slice (1982-1984) of this program that is included in the project. According to an indicative program prepared by the KGM, this three-year slice is likely to comprise about 10 individual priority highway sections totalling about 775 km. The actual length and number of sections may differ from this estimate depending upon the results of the technical and economic analysis of each section. The roads will be selected and the program designed in accordance with agreed economic and engineering criteria which were developed as part of project preparation. The detailed engineering and feasibility studies for the first year's time slice, covering three priority sections totalling 251 km, were reviewed at the time of the appraisal mission, and are consistent with the agreed engineering and economic criteria. The rehabilitation program for subsequent years will be agreed during annual reviews to be held not later than September 30 of each year, beginning in 1982 (para. 65). Feasibility studies of all highway sections in the program, whether externally financed or not, will be submitted to the Bank for approval before construction bids are invited, or before force account rehabilitation commences (Loan Agreement, Section 3.04). 53. Most of the rehabilitation and strengthening works will be carried out by contract. However, the KGM will prepare quarry stockpiles at various locations by force account, and will also carry out small rehabilitation works by force account in remote and scattered areas. To assist the KGM in these force account works, the project includes a component ($5.9 million) for the procurement of specialized quarrying and paving equipment. 54. The proposed project includes $1.0 million of equipment to assist the KGM to develop its planning process and carry out the detailed planning and engineering of the remainder of this rehabilitation program. The equipment includes pavement deflection measuring instruments, which would be used to develop a pavement evaluation system and to monitor pavement performance.  - 17 - With the assistance of this equipment, KGM staff would aLso carry out planning for a longer term rehabilitation program for three years following completion of this project. This longer term program would be prepared by September 30, 1983 in accordance with terms of reference agreed by the Bank (Loan Agreement, Section 3.09 (b)) and would be reviewed with the Bank during annual project reviews (see para. 65). 55. In this planning process, KGM will include an overall technical, economic and financial assessment of the appropriate balance between KOM's maintenance, strengthening and rehabilitation programs for the next five years. If, following this review, a further detailed study of road maintenance and rehabilitation is required, it can be agreed in the course of the annual project reviews and be carried out under the supplementary studies component of the project (para. 59). The Bank expects to have an opportunity to comment on KGM's planning system by the date of the first of such annual reviews. Vehicle Axle Load Monitoring and Control 56. Axle load legislation in Turkey was amended in 1980 to bring it more in line with European standards. The Government is currently preparing supplementary legislation and regulations for enforcing the new limits. In order to reduce damage to the road system, KOM staff will carry out a study in accordance with agreed terms of reference to develop by December 31, 1983 a program for implementing vehicle loading controls. Thereafter, in consultation with the Bank, the Government will implement its load control program (Loan Agreement, Section 3.09 (a)(i)). To assist KGM develop and subsequently implement this program, the project includes a component (0.9 million) for the procurement of equipment to monitor and control vehicle weights. Included in the vehicle loading control study is an analysis to determine the costs of the damageto the highways caused by heavy vehicles and to develop a revised system of road user charges to cover these costs. Highway Safety Program 57. The Government is concerned about road accident rates and KCM staff will complete a highway safety study by July 31, 1984 in accordance with agreed terms of reference: (i) to identify accident "black-spots"; (ii) to determine an appropriate program of highway surface marking and signing; (iii) to determine the need and requirements for emergency after-accident services; and (iv) to assess the adequacy of existing traffic procedures, legislation and driver education. To assist the KOM in preparing this study and implementing the highway safety program, this project includes a component * (3.6 million) for the procurement of highway safety materials and equipment. 58. Arising out of the highway safety study would be proposals for implementing safety measures and a program to monitor and evaluate highway safety. Thereafter, in consultation with the Bank, the Government would implement the safety program (Loan Agreement. Section 3.09 (a)(ii)). Consultancy Services for Supplementary Studies 59. Following the preparation of the NTMP and the setting up of the KGM's proposed planning system, or during the preparation of the axle load control and highway safety programs, it is expected that high priority supplementary  - 18 - studies requiring consultants services will be identified, for which $600,000 has been allocated under the project. Likely subjects for these studies could include (a) follow-up studies on the NTMP in areas such as bulk transport; (b) traffic forecasting methods; (c) data collection, storage and retrieval; (d) vehicle operating costs; (e) follow-up studies on future budget requirements for road maintenance and rehabilitation and the appropriate balance between maintenance and rehabilitation work; and (f) assessing measures to make more effective use of the KGM's redundant labor. It is expected that about 80 man-months of consultancy services will be provided. Fellowships 60. To assist KGM in improving its planning and construction techniques and in the preparation of feasibility studies, a limited number of fellowships abroad (about 60 man-months, depending upon costs) are proposed for engineers and economists in transport economics, highway planning, contract evaluation and project supervision and control. The fellowships will be provided, probably in Western Europe, by agencies such as contractors, consultants, highway departments and universities, and will be arranged by the KGM Training Department directly with the agencies concerned. The fellowship program would be reviewed each year as part of the annual review (para. 65). Cost Estimates and Financing 61. The estimated total cost of the proposed project is $264 million, including $140 million in foreign exchange and about $35 million of taxes and duties. Of this amount about $251 million is the estimated cost of contractors' services for highway rehabilitation, including about $128 million in foreign exchange. The remainder of the estimated foreign exchange costs consists of $5.9 million for equipment for highway rehabilitation; $5.5 million for equipment and materials for planning, load control, and highway safety; $0.2 million for fellowships; and $0.5 million for consultant services. The above estimates include 5 percent physical contingencies for the first year's highway rehabilitation program (for which detailed engineering has been completed), 10 percent physical contingencies for all other components, and about 21 percent price escalation. (While local costs are expected to increase at a faster rate, the floating TL automatically accommodates the difference between local and foreign inflation.) The equipment estimates include 15 percent for purchase of spare parts. The foreign exchange component of pavement rehabilitation works is 51 percent overall based upon the expectation that half the contracts will be won by local firms, while the foreign exchange component of earthworks contracts associated with these rehabilitation works is estimated at 35 percent based on the expectation that local firms will win all of these contracts. Consultants' services are estimated on the basis of $12,000 per man-month (including salary, costs, fees, international travel and subsistence) for foreign consultants and $6,000 (including salary, costs,, fees, and subsistence) for local consultants. Fellowship costs are estimated at $3,000 per man-month. 62. The Government has requested that the 1.5 percent front-end fee of $1,050,739 be financed out of the proposed Bank loan. The balance of the loan amount (about $70 million) would finance the foreign costs for contract construction of slightly under half the highway rehabilitation program, the foreign costs of half of the supplementary studies, and all the foreign costs of equipment, materials and overseas fellowships. The Kuwait Fund for Arab Economic Development has confirmed its intention to provide parallel financing  - 19 - of the remaining foreign costs (estimated at about $70 million equivalent) of contract construction for highway rehabilitation and supplementary studies. The Kuwait Fund financing is expected to be one loan made in two tranches, the first to be made in fall 1982 and the other in 1983. To avoid delays, the Bank would finance the three road sections included in the first year's slice of the rehabilitation program, with the Kuwait Fund expected to finance an increased number of road sections in subsequent years. The Government would finance the remaining project costs (including force account rehabilitation costs) estimated at $124 million equivalent. This amount of Government financing for highway rehabilitation over the project period is in accordance with the Government's planning figures and with the recommendations of the Bank's Public Sector Investment Review mission (para 44). No cross effectiveness provisions with the Kuwait Fund financing are proposed since the Bank and the Kuwait Fund are expected to finance separate subprojects and, if any of the Kuwait Fund financing did not materialize, the Bank financed components could proceed independently. The proposed loan documents provide cross default provisions with the expected Kuwait Fund loan (Loan Agreement, Section 5.01). Implementation 63. The KGM would be responsible for implementing all components of the project except for any supplementary studies in support of the NTMP which would be implemented by SPO. The KGM will also be responsible for overall loan and project administration. Project implementation would be spread over a period of five years ending December 1986, based upon a detailed implementation plan for the first year's program, drawn up as a critical path diagram. The implementation schedule has been adjusted, following a check against historic disbursement profiles, and it provides an allowance of one extra year to complete the 1982-84 rehabilitation program, to cover unforseen circumstances. Despite the efficient performance of the KGM in preparing the project, this extra year is considered reasonable in view of this being the first Bank project in this sub-sector. Engineering for this program started in 1981 and tenders have been invited for the 1982 rehabilitation program from contractors prequalified following international advertisement in September 1981 (para. 68). The first rehabilitation contracts are expected to be let in mid-1982. Engineering work is expected to continue through 1983, allowing contracts to be let on a phased basis year by year. Where earthworks and paving works are required, the earthworks would be advanced by letting contracts separately from the paving works. The KGM would supervise the rehabilitation contracts with its own staff through its field divisions, and has adequate resources for this purpose. The details of KGM's arrangements for supervision of construction were reviewed at negotiations and are adequate. 64. Equipment and materials would be procured by the KGM in two tranches. About 80 percent of the total allocated would be procured in 1982/83. Interest in supplying this equipment was solicited through international advertisement in December 1981. The remainder of the equipment would be procured in 1984, when the various studies and programs proposed under the project have been further developed. The list of equipment and materials to be procured under the first tranche was agreed at negotiations. The highway planning, axle load control, and highway safety studies would be carried out by the KGM and are scheduled to commence by July 1982 and would all be completed by July 1984. The supplementary studies to be financed by the Bank would be agreed between the Government and the Bank as the need for  - 20 - them is identified, inter alia during reviews of the NTMP, annual project reviews, or during reviews of the various studies provided for under the Loan Agreement. Financing of individual studies would be allocated by agreement about equally between the Kuwait Fund and the Bank. The Bank financed studies would be implemented, on the basis of terms of reference acceptable to the Bank, by consultants selected in accordance with Bank guidelines (Loan Agreement, Section 3.03). 65. In order to control and assist in the timely implementation of the project, annual project reviews would be held between the Government and the Bank not later than September 30 each year beginning in 1982: (a) to review the indicative plans for the highway rehabilitation program for the next three years; (b) to select and agree on specific highway sections and supplemental studies to be started during the next fiscal year for financing by the Bank; and (c) to agree on an implementation plan for the remainder of the project and a detailed work and training program for the next fiscal year, including non-transferable budget allocations for the project (Loan Agreement, Section 3.02). These meetings would also review project performance during the current year and the progress of transport planning, and will identify problems requiring further study under the studies component of the project. 66. Since coordination both within KGM and with external agencies is critical for successful project implementation, the Government has agreed to maintain within KGM a Project Control and Coordinating Team (PT) with organization and functions acceptable to the Bank (Loan Agreement, Section 3.05). A Project Coordinator has been appointed and participated in the loan negotiations. The PT was formally established in April 1982 with adequate staffing for initial operations. 67. The Government has agreed to submit appropriate reports to the Bank to monitor and control the project (Loan Agreement, Section 3.07). The Government has also agreed to submit audit reports to the Bank within nine months after the close of each financial year (Loan Agreement, Section 4.03). These audits are expected to be prepared by the Inspector General of the Ministry of Finance (Auditor General's Office) which should be satisfactory. Procurement and Disbursement 68. Civil works, to be financed under the Bank loan, for contracts exceeding $3 million equivalent each, and estimated to cost in total about $100 million, would be awarded following international competitive bidding for which prequalification would be required, and in which suitably qualified local contractors would also be invited to participate. The time schedule for civil works tenders would be set so as to allow bidders to take account in their bids of cost savings arising from the possibility of winning more than one contract. Nine Turkish firms and two foreign firms have been prequalified for the first year's slice of the highway rehabilitation program. Contracts expected to be less than $3 million each and in total not to exceed $20 million, may be procured under local competitive bidding procedures, which are adequate. These contracts are scattered or of a nature not likely to attract foreign firms. Foreign prequalified firms would be allowed to participate in local bidding. For civil works not being financed by the Bank, the KGM would be expected to carry out the work either through contracts awarded under the procurement procedures of the Kuwait Fund, or by force-account from its own budget.  - 21 - 69. Equipment and materials contracts, estimated to cost in totaL about $9 million, would be awarded following international competitive bidding in which local suppliers would be invited to participate. Local suppliers would be allowed a margin of preference of 15 percent or actual customs duty, whichever is the lower. Highly specialized equipment (such as for measuring pavement deflections), estimated to cost in total about $2 million, may be purchased by negotiated contracts with qualified suppliers. Contracts between $10,000 and $50,000 each, and not to exceed in total $300,000, may, with the prior approval of the Bank, be awarded through local competitive bidding procedures which would not preclude foreign firms from participating. 70. The Bank loan would be disbursed against: (i) 51 percent of the costs of paving contracts and 35 percent of earthworks contracts agreed for Bank financing; (ii) 100 percent of the foreign expenditures and local expenditures ex-factory and 60 percent of other local expenditures for road rehabilitation equipment and for equipment and materials for the highway safety, load control, and planning components; (iii) 100 percent of foreign expenditures for fellowships; and (iv) 85 percent of total expenditure for studies selected for Bank financing. So as not to discriminate against the local consulting industry, the Bank would disburse against costs of local consultancy firms awarded contracts in accordance with Bank approved procedures to the same extent as would occur if foreign consultants were employed. Project Benefits and Risks 71. The economic benefits of the proposed project have been analyzed based upon reductions in vehicle operating costs and road maintenance costs. However, in view of Turkey's economic problems and, in particular, its large balance of payments deficit, special attention has also been paid to the importance of highway improvements on those roads which contribute directly to foreign exchange earnings through facilitating Turkey's exports and earnings on transit traffic. The three road sections selected for the first year's tranche of this project are the Toprakkale-Komurler (74 km), Gaziantep-Birecik (61 km), and Akinci-Saklan (116 km) sections on the international trade route between the port of Mersin and Iraq. All three sections carry heavy traffic loads far beyond design capacity and are on the verge of pavement failure or have already failed. As noted earlier (para 42), net earnings on truck transit traffic in 1981 were about $300 million per year. Of this amount, an estimated 85 percent comes from the Mersin/Iskenderun-Iraq road traffic. In addition, an estimated two million tons of cement and 0.5 million tons of agricultural and livestock products were exported along this road in 1981. 72. The economic rates of return on the first year's proposed rehabilitation program, based upon vehicle operating cost savings and maintenance cost reductions, vary between about 100 percent for the Akinci/Saklan road to about 350 percent for the Gaziantep/Birecik road. These calculations are based upon the assumption of base year transit traffic at a level half way between pre-Iran/Iraq war levels and mid-1981 war-time levels and total traffic growing at 5 percent per year. This is considered reasonable since even after resolution of the Iran/Iraq conflict, (i) reconstruction needs will increase the demand for commodities beyond port capacities in these countries; (ii) considerable trading relationships have now developed via this route; and (iii) the distance of many consuming areas of Iran and Iraq from Persian Gulf port facilities and the longer sea journeys  - 22 - to these ports from Europe make the trans-Turkey route cost competitive for some portions of these countries. It is estimated that the foreign exchange costs of rehabilitation, with predicted traffic flows, would be recovered in about two years. Even if traffic should return immediately to 1980 levels with no increase thereafter and if construction costs should increase by 50 percent, the rate of return would still be acceptable at more than 20 percent. 73. Although some individual sections to be selected in future annual programs may not result in the high base-case rates of return shown above, it is expected that they will easily exceed the cut-off rate of 20 percent in view of high average traffic flows, the large proportion of heavy vehicles and the severe maintenance and congestion problems at present on large portions of the highway network caused by traffic exceeding design capacities. 74. Given the competent performance shown to date by KGM in its maintenance and construction programs and in preparation of this project, the risk of delays due to institutional deficiencies is considered minimal. There is a risk that a downturn in the Turkish economy could reduce funds available for financing the local cost component. However, performance under Turkey's structural adjustment program has been good over the last two years and progress is expected to continue. The annual reviews of budget adequacy (para 65) would give the Bank an early opportunity to use its leverage to obtain adequate funding. If an unexpected problem interfered with the Kuwait Fund's intended cofinancing, the economic viability of the sub-projects selected for Bank financing would remain high although the losses to the economy from delaying the potentially high benefits of the full rehabilitation program would be considerable. PART V - LEGAL INSTRUMENTS AND AUTHORITY 75. The draft Loan Agreement between the Republic of Turkey and the Bank and the report of the Committee provided for in Article III, Section 4(iii) of the Articles of Agreement are being distributed to the Executive Directors separately. The special features of the Loan Agreement are referred to in the text and listed in Section III of Annex III. There are no special conditions of loan effectiveness. 76. I am satisfied the proposed loan would comply with the Articles of Agreement of the Bank. PART IV - RECOMMENDATION 77. I recommend that the Executive Directors approve the proposed loan. A. W. Clausen President by Ernest Stern Attachment April 20, 1982 Washington, D.C.  ANNEX I-A Page 1 of 5 TABLE 3A TURKEW--TAL INDICATORS DATA SHEET TURKEY REFEREIENC CROUPS (WIITED AVE,RAGES LAND AREA (THOUSAND SQ. KM.) MTST RECENT ESTIMATE)-GE TOTAL 780.6 MOST REC ENT MIDDLE INCOME INDUSTRIALIZED AGRICULTURAL 554.5 1960 /b 1970 /b gSTIMATE /b EUROPE MAgKET ECONOMIES .NP PER CAPITA (US5) 300.0 550.0 1330.0 2609.1 9444.0 ENERGY CONSUMPTION PEk CAPITA (KILOGRAMS OF COAL EQUIVALENT) 254.3 504.1 806.5 2368.4 7896.6 POPULATION AND VITAL STATISTICS POFULATION, MID-YEAR (TNOUSANDS) 27509.0 35321.0 44237,0 URBAN POPULATION (PERCENT OF TOTAL) 29.7 38.4 46.5 53.2 76.4 POPULATION PROJECTIONS POPULATION IN YEAR 2DOO (MILLIONS) 69.1 STIATIONARY POPULATION (MILLiONS) 114.0 YEAR STATIONARY POPULATION IS REACHED 2075 POPULATION DENSITY PER SQ. KH. 35.2 45.2 56.7 80.6 142.7 PER SQ. KH. AGRICULTURAL LAND 51.0 64.0 77.8 133.9 523.3 POPULATION ACE STRUCTURE (PERCENT) 0-14 YRS. 41.2 41.0 39.2 30.1 22.8 15-64 YRS. 55.2 54.3 56.3 61.5 65.6 65 YRS. AND ABOVE 3.6 4.7 4.5 8.3 11.6 POPULATION .ROWTH RATE (PERCENT) TOTAL 2.8 2.5 2.5 1.5 0.8 URBAN 6.1 5.1 4.6 3.1 1.3 CRUDE BIRTH RATE (PER THOUSAND) 42.5 38.0 34.2 22.9 14.5 CRUDE DLATH RATE (PER THOUSAND) 15.5 12.5 9.7 9.1 9.5 GROSS REPRODUCTION RATE 3.1 2.6 2.3 1.6 0.9 FAMILY PLANNING ACCEPTURS, ANNUAL (THOUSANDS) .. 65.6 66.6 USERS (PERCENT OF MARRIED WOMEN) 5.3 8.2 38.0 FOOD AND NUTRITION INDEX OF FOOD PRODLCTION PER CAPITA (1969-71'100) 96.0 100.0 112.0 119.8 112.7 PER CAPITA SUPPLY OF CALORIES (PERCENT OF REQUIREMENTS) 110.0 111.0 115.0 125.7 131.4 PROTEINS (GRAMS PER DAY) 81.0 80.0 82.0 92.5 98.1 OF WHICH ANIMAL AND PULSE 24.0 26.0 24.0 39.7 62.2 CHILD (AGES 1-4) MORTALITY RATE 23.0 15.0 9.0 3.4 0.6 HEALTH LIFE EXPECTANCY AT BIRTH (YEARS) 50.8 57.1 61.6 68.9 73.8 INFANT MORTALITY RATS (PER THOUSAND) 194.0 153.O/c *. 25.2 12.9 ACCESS TO SAFE WATER (PERCENT OF POPULATION) TOTAL .. 52.0 75.0 UR8AN 51.0 70.0 RURAL 53.0 80.0 .CCESS TO EXCRETA DISPOSAL (PERCENT OF POPULATION) TOTAL .. .. URBAN .. .. 20.0. RURAL .. .. POPULATION PER PHYSICIAN 2799.6 2227.6 1770.3 973.3 621.2 POPULATION PER NURSING PERSON .. 1883.8 1461.3 896.6 217.4 POPULATION PER HOSPITAL BED TOTAL 590.0/d 490.3 505.8 262.3 119.4 URBAN 19o.o7- 313.4 312.5 191.8 120.9 RURAL 5912.2 .. . ADHISSIONS PER HOSPITAL BED . . 20.2 22.3 18.2 17.9 HOUSUNG AVERAGE SIZE OF HOUSEHOLD TOTAL 5.7 5.9 UR aAN .. .. RURAL .. .. AVERAGE NUMBER OF PERSONS PER ROOM TOTAL '- 2.2 URBAN 2.0 1.9 .. RURAL .. .. ACCESS TO ELECTRICITY (PERCENT OF DWELLINGS) TOTAL 29.0 41.1 57.0 URbAN .. 78.2 RURAL 2.0 18.0  - 24 - ANNEX I-A TABLE 3A Page 2 of 5 TURKEY - SOCIAL INDICATORS DATA SHEET TURKEY REFERENCE GROUPS (WEIGHTED AVERAGES - MOST RECENT ESTIMATE)- MOST RECENT MIDDLE INCOME INDUSTRIALIZED 1960 /b 1970 /b ESTIMATE /b EUROPE MARKET ECONOMIES EDUCATION ADJUSTED ENROLLMENT RATIOS PRIMARY: TOTAL 75.0 110.0 105.0 105.9 99.6 MALE 90.0 124.0 115.0 109.6 102.1 FEMALE 58.0 94.0 95.0 102.2 101.8 SECONDARY: TOTAL 14.0 27.0 41.0 66.3 89.3 MALE 20.0 38.0 57.0 73.2 83.3 FEMALE 8.0 15.0 26.0 59.5 85.0 VOCATIONAL ENROL. (% OF SECONDARY) 18.0 14.0 18.0 28.4 18.1 PUPIL-TEACHER RATIO PRIMARY 46.0 38.0 30.0 26.8 21.2 SECONDARY 19.0 28.0 27.0 23.6 16.4 ADULT LITERACY RATE (PERCENT) 38.0 55.5/e 60.3/h 75.4 98.9 CONSUMPTION PASSENGER CARS PER THOUSAND POPULATION 2.0 3.9 11.5 83.9 349.7 RADIO RECEIVERS PER THOUSAND POPULATION 49.1 87.7 101.3 181.6 1018.0 TV RECEIVERS PER THOUSAND POPULATION 0.0 1.8 54.0 131.1 400.1 NEWSPAPER ("DAILY GENERAL INTEREST") CIRCULATION PER THOUSAND POPULATION 51.0 .. .. 123.8 336.7 CINEMA ANNUAL ATTENDANCE PER CAPITA 1.1 6.7 .. 5.7 4.3 LABOR FORCE TOTAL LABOR FORCE (THOUSANDS) 13782.1 15817.7 19220.1 FEMALE (PERCENT) 40.2 37.2 36.3 32.9 36.6 AGRICULTURE (PERCENT) 78.0 67.7 54.3 34.0 6.1 INDUSTRY (PERCENT) 11.0 12.1 12.9 28.7 37.7 PARTICIPATION RATE (PERCENT) TOTAL 50.1 44.8 43.4 42.3 45.7 MALE 58.7 55.7 54.4 56.5 58.9 FEMALE 41.2 33.6 32.1 28.5 33.0 ECONOMIC DEPENDENCY RATIO 0.9 1.0 1.0 0.9 0.8 INCOME DISTRIBUTION PERCENT OF PRIVATE INCOME RECEIVED BY HIGHEST 5 PERCENT OF HOUSEHOLDS 33.0/f 32. 8/ HIGHEST 20 PERCENT OF HOUSEHOLDS 61.07 60.6 56.5/i LOWEST 20 PERCENT OF HOUSEHOLDS 4.27f 2.9/g 3.47- LOWEST 40 PERCENT OF HOUSEHOLDS 10.6LW 9.47 11.47. POVERTY TARGET GROUPS ESTIMATED ABSOLUTE POVERTY INCOME LEVEL (US$ PER CAPITA) URBAN .. .. 342.0 RURAL .. .. 270.0 ESTIMATED RELATIVE POVERTY INCOME LEVEL (US$ PER CAPITA) URBAN .. .. RURAL .. .. 220.0 385.1 ESTIMATED POPULATION BELOW ABSOLUTE POVERTY INCOME LEVEL (PERCENT) URBAN .. .. RURAL .. .. Not available Not applicable. NOTES /a The group averages for each indicator are population-weighted arithmetic means. Coverage of countries among the indicators depends on availability of data and is not uniform. /b Unless otherwise noted, data for 1960 refer to any year between 1959 and 1961; for 1970, between 1969 and 1971; and for Most Recent Estimate, between 1976 and 1979. /c 1967; /d 1962; /e Six years and over; /f 1963; /S 1968; /h 1975; /i 1973. May, 1981  T-03 10 01 '003* 707304'030 2003 IO m0 0010713033 33. I0.