Zambia - Agricultural Rehabilitation Project

Document of The World Bank FOR OFFICIL USE ONLY CA). /$-u=k Repwt No. 5050-sZA STAFF APPRAISAL REPORT ZAMBIA AGRICULTURAL REHABILITATION PROJECT December 12, 1984 This iscumeut ha a 'esld dlsibuti ad may be used by recipets only In the pefoeue of their oU.Acil dltie Its emiem may not odhewise be dlsued withot Wol Bnk athsdzo".  CURRENCY EQUIVAIENTS Currency Unit Z&mbian Kwacha (K) US$1.00 - K 2.00 US$0.50 K 1.00 (The US Dollar/Zambian Kwacha exchange rate shown above is the rate that prevailed at the beginning of November 1984.) ABBREVIATIONS BOZ = Bank of Zambia CFB = Commercial Farmers Bureau PIC - Project-Implementation Committee PIU = Project Implementation Unit GRZ = Government of the Republic of Zambia KFC = Kwacha Fund Committee MAWD) Ministry of Agriculture and Water Development MOF = Ministry of Finance Namboard = National Agricultural Marketing Board NCDP = National Commission for Development Planning PCUs ' Provincial Cooperative Unions FISCAL YEAR GRZ: January 1 to December 31  FOR OmCL USE ONLY ZAMBIA AGRICULTURAL REHABILITATION PROJECT Table of Contents Page No. Su MARY (i)-(iii) I. BACKGROUND ..**,,,,,,.., 1 A. Salient Economic Features ......................... 1 B. National Economic and Social Goals, and Performance 2 C. Current Economic and Financial Crisis (1980-83) ... 4 D. Short-Term Outlook and Medium-Term Prospects ...... 7 II. THE AGRICULTURAL SECTOR ........ . ............. 9 A. National Agricultural Goals and Achievements ...... 9 B. Major Constraints........................ .o......... . 10 C. Foreign Exchange Requirements for Agriculture ..... and Agro-industries (1985-1987) ................. 21 D. Bank Group Assistance to Zambian Agriculture ....... 22 III. THE PROJECT .. ....... .. ..g. . ... 23 A. Origin and Design * .............................. 23 B. Main Objectives ...e ......................e...... 24 C. Project Description ..c....... .................. 26 D. Estimated Costs and Financing Arrangements ..... oo 28 E. Procurement and Disbursement ..... ................ 30 F. Accounts, Audit and Reporting..................... 31 G. Relations with the IMF *.. ..... .........e.. .... 31 IV. IMPLEMENTATION AND MANAGEMENT ......................... 32 A. Overall Responsibility ............ ............... 32 B. Project Implementation Unit ........o.............. 33 C. Trading Houses ......ge.eeg..g.....eggge.....eg... 34 D. Kwacha Fund ..o .............. 35 This report was prepared by Mr. F.I.H. Mcreithi. It is mainly based on the findings of a preparation mission consisting of Messrs. F.I.H. Horeithi (Bank), R. Hoover, T. Cobald, and R.J. Lacroix (consultants) which visited Zambia in August 1983, and appraisal mission consisting of Messrs. F.I.. Moreithi and D. R. van der Sluijs (Bank) which visited Zambia in November 1983. Thb document has a nrticted disbution and may be wed by reipients only in the Peirfomunce of thei ofria dutes Its contents may not otherwisebe dbcoed without World Dank autboriatim  Table of Contents (continued) Page No. V. BENEFITS, JUSTIFICATION AND RISKS 36 A. Main Benefits ........ ............................ 36 B. Main Direct Beneficiarieso.......................... 39 C. Maize Producer Incentive and Fertilizer Subsidies 39 D. Risks .00... ........................... 40 E. Justification for IDA Assistance .................. 40 VI. AGREEMENTS REACHED AND RECOMMENDATIONS ................ 41 A. Agreements Reached ......................... 41 B. Recommendations *6@eO*Se ........................ 43 VII. CONDITIONS OF EFFECTIVENESS ,,,*********.............. 43 ANNEXES Annex 1 - Zambia's Economic Recovery Program Annex 2 - Table 1: Principal Agricultural Imports Table 2: Official Producer Prices for Major Crops Table 3: Marketed Agricultural Produce Intake by Official Channels Annex 3 - Implementation Schedule for Policy Reforms and Other Measures Annex 4 - Table 1: Financial Costs and Benefits (Hybrid Maize) Table 2: Economic Costs and Benefits (Hybrid Maize) Table 3: Sensitivity Analysis (Hybrid Maize) Annex 5 - Disbursement Schedule MAP: IBRD 11631R of 6/83 Project File Papers: Paper No. 1 : Agricultural Mechanization: Current Status and Requirements. Paper No. 2 : Namboard and Provincial Cooperative Unions. Paper No. 3 : Foreign Exchange Requirements for Agro-Processing Sub-sector. Paper No. 4 : Study on PCU's Costs (Terms of Reference, Actl3n Program, and Manpower Requirements).  (i) ZAMBTA AGRICULTURAL REHABILITATION PROJECT PROJECT SUMMARY Borrower: Republic of Zambia. Executing Agency: Bank of Zambia (BOZ) Amount: SDR 24.7 million (US$25.0 million equivalent). Terms: Standard IDA terms. Project Description: The proposed Project would encourage the Government to continue the on-going and to carry out further policy and institutional reforms on issues that have hitherto cons- trained agricultural development in Zambia; it would also help to finance critical production inputs with a view to arresting the declining trend in agricultural production. The main reforms would be: adopting a pricing policy consistent with regional comparative advantages and the principle of full cost recovery; and improving efficiency of produce marketing and input distribution system by making the system more competitive through allowing private sector participation. The Project would finance imports of farm machinery, spare parts, agro-chemicals, seeds and other miscellaneous inputs which are in short supply and constrain production. Main Benefits: The envisaged policy and institutional reforms would have widespread benefits, though difficult to quantify. In particular, they would reinforce Government efforts to diversify the economy from the extreme dependency on mining, especially through: (a) adopting a pricing policy consistent with regional comparative advantages, thereby promoting a more efficient use of resources and thus enhancing the general capacity of the agricultural sector to generate alternative sources of incomes and employment; (b) adopting a price structure that allows full-cost recovery, thereby helping to eliminate marketing subsidies and thus releasing fiscal resources to support diversification efforts;  (ii ) and (c) adjusting wheat product prices and encouraging implementation of measures to reduce uneconomic fertilizer consumption, thus reducing imports and releasing foreign exchange resources for diversification investments. In addition, the physical inputs would enable farmers to respond to the improved policy environment and increase agricultural production in general and maize output in particular. It is estimated that, during the Project's economic life of 12 years, the incremental maize production would average 190,000 tons annually with a gross value of about K 59.8 million, and a net present value of about K 34.3 million (US$17.2 million). The economic rate of return has been roughly estimated at 59%. Main Direct Beneficiaries: The proposed policy and institutional reforms would benefit a wide spectrum of farmers, including subsistence farmers on the verge of entering the market economy. The major part of of the tractor units and agro-chemicals would benefit the medium- and large-scale farmers; however, it is estimated that about 20% of these inputs would go to the market-oriented smallholders (emergent farmers). In addition, about 7,000 smallholders would benefit from ox-drawn implements financed by the Project. Main Risks: The Project's main risks are: delays or failure to carry out the envisaged policy and institu- tional reforms; inadequate availability of complementary inputs, especially fertilizers, which are not financed by the Project but without which the Project's inputs would achieve very little; and recurrence of droughts. The Government has recently demonstrated the political will to implement unpopular measures and this now makes it realistic to expect that, in view of the grim financial and economic prospects confronting Zambia, the Government would take resolute steps to implement the reforms envisaged under the proposed Project. The likelihood of serious shortages of fertilizers is expected to be significantly reduced by the on-going and planned efforts to increase local production of  (iii) fertilizers, and bilateral assistance which has been readily forthcoming in the past; at nego- tiations, the Government confirmed availability of such assistance. Little can be done about droughts in the short-run; however, for the long-run, research is proceeding to develop more drought resistant crop varieties and farming techniques. Estimated Costs: Local Foreion Total % usi million -- Farm Machinery 3.9 36.0 39.9 55.2 Spare Parts 1.2 10.2 11.4 15.8 Agro-chemicals 2.0 17.4 19.4 26.8 Miscellaneous 0.2 1.2 1.4 1.9 Consultancy - 0.2 0.2 0.3 Total 73. W5.0 7 -3 100.0 Financing Plan: Local Foreign Total Z -- u-S$ million - IDA - 25.0 25.0 34.5 Co-financing 1/ - 40.0 40.0 55.3 Trading Houses 2/ 7.3 - 7.3 10.2 Total -9.0 65.0 72.3 100.0 t/ US$4.8 million from the Swiss Govt.,and US$5.0 million from USAID, US$23.4 million from the African Development Bank, and US$ 6.8 million from CIDA (Canada). -2 Farm machinery and agro-chemical importers. Estimated Disbursement: IDA Credit would be disbursed in two tranches, in keeping with implementation of the policy and institutional reforms as scheduled in Annex 2; disbursement is estimated as follows: Bank/IDA FY '85 '86 '87 '88 US$ million - Annual 4.2 10.6 7.7 2.5 Cumulative 4.2 14.8 22.5 25.0 Rates of Return: Financial: 27%; Economic: 59Z. Map: IBRD No. 11631/R  ZAMBIA AGRICULTURAL REHABILITATION PROJECT I. BACKGROUND A. Salient Economic Features 1.01 Zambia is a land-locked country with a surface area of 763,000 sq. km, a population of about 6.3 million of which 43% is urban, and a per capita GDP of US$526. The service sector, accounting for about 48% of GDP in 1980-83 and consisting mainly of governmental services, is the single largest sector; however, the mining sector, accounting for about 15% of GDP and 95% of total export revenues is the most important productive sector, because of its overwhelming impact on the rest of the economy through its effects on the available development resources in general and foreign exchange earnings in particular. Manufacturing and agriculture are the other major productive sectors, respectively accounting for 22% And 14% of GDP and jointly contributing about 5X to export earnings. Copper is by far the most important export mineral, representing about 90% of mining export values, while cobalt ranks next and represents about 6X of export earnings,with the remainder coming from zinc and lead. 1.02 The manufacturing sector is dominated by agri-related activities (food, beverages, tobacco, textiles, wood and wood products) which account for about 65% of value added in manufacturing; the rest of the sector comprises mostly rubber, chemicals, petroleum, and plastic products which contribute about 17%; and metal products which contribute about 11%. The sector is characterized by generally high production costs relative to the border price equivalents, excess capacity, and high capital and import intensities. It is estimated that most of the manufacturing enterprises in the country are operating at less than 50% of the installed capacity primarily due to the shortage of foreign exchange. While it accounted for about 22% of GDP, the sector absorbed about 42% of the country's total imports during 1979-81. The heavy dependence on imports renders the sector fragile especially with regard to capacity utilization. Although Zambia has a wide range of natural resources, numerous obstacles limit their use as a source of industrial raw materials. The known iron ore dep(usits are of a poor quality for economic exploitation on a large scale. Forestry resources are abundantly available but the bulk of the indigenous wood is unusable for industrial purposes. On the other hand, several agricultural raw materials, which are now imported (oil seeds, natural fibres, livestock by-products, etc.) can be technically produced locally, but their production has been constrained by the various factors which have generally hampered the growth of the agricultural sector (paras 2.05 to 2.28). 1.03 The development of Zambia's agriculture has remained far below the potential. Of the estimated 60 million ha of arable land, only about 12 million or 20% is currently cultivated. Although much of the land is infertile and is suited mainly to extensive farming, there still remains large areas of idle land consisting of pockets of medium to high potential soils. The rains tend to be erratic, but the climate is generally favorable for the cultivation of a wide range of crops. Maize is by far the most important crop and accounts for over 70% of the value cf the marketed agricultural products. The other significant crops are cassava,  -2- millet, sorghum, groundnuts, sunflower, cotton, tobacco, sugar cane, rice, soyabeans, and a variety of legumes and vegetables. The country also has a sizeable number of the various types of livestock, and cattle are a major source of cash income and offer a considerable potential for animal draft power. 1.04 The sector is acutely dualistic. On the one extreme is the traditional farming system entailing about 460,000 or about 76% of the estimated 600,000 farm households, who cultivate an average of slightly less than 2 ha, using family labor and simple hand tools, and producing for subsistence purposes with only occasionally marketable surpluses. On the other extreme is a small category of medium- and large-scale commercial farmers,comprising about 4% of the farm households and producing about 40X of the value of maize and 55% of the other marketed agricultural products, using a full range of inputs, and characterized by high yields. The extreme dualism has been slightly moderated by the development of smallholder (emergent) market-oriented farmers, numbering about 125,000 or 20% of the farm households, cultivating an average of 3 ha, using mainly hand tools and labor but also oxen and hired tractors, and modest amounts of purchased seasonal inputs especially fertilizers; these farmers produce deliberately for the market, and generally obtain much higher yields than the traditional farmers. Together with the occasional surpluses from traditional farmers, the smallholder market-oriented farmers account for 60% of the value of maize and 45% of the other marketed agricultural products. B. National Economic and Social Goals, and Performance 1.05 Since Independence 20 years ago, Zambia's economic and social goals have been aimed at attaining a level of income sufficient to meet at least the basic needs of the population, with special reference to rural areas, and at achieving an enduring socio-political stability as an indispensable foundation for economic development. The country has sought to achieve these goals through various policies directed at accelerating overall economic growth, narrowing the urban-rural income gap, diversifying the economy from the extreme dependence on copper, and disengaging it from the historical dependence on southern Africa, Zamblanizing the ownership of the major economic enterprises, expanding access to education, health and other essential public services, and developing basic infrastructure. 1.06 Some notable achievements have been made especially in education, in re-routing transport outlets from the south to the north through Dar es Salaam, in developing basic infrastructure, in Zambianizing the economy mostly through parastatal ownerships, and in maintaining socio-political stability. However, the achievements have on balance fallen far short of expectations as is manifested by the fact that the economy has been on a sharply declining trend for the past nine years. In real terms during 1975-83 compared to 1970-74, total income fell by about 22%, per capita income by about 36%, capacity to import by about 61%, net fixed capital formation by about 67%, gross domestic savings by about 72%, and fiscal revenues by about 33%; in addition, overall food self-sufficiency declined by about 21%, while the balance of payments on current account deteriorated from a surplus position to a deficit of K 369 million, or 14% of GDP (Table 1.1). Furthermore, the urban-rural income gap has remained wide, with  -3- Table 1.1 - Selected Socio-Economic Indicators 1/ Percentage 1970-74 1975-83 Change - - Averages Gross Domestic Income 2/ Total K (Million) 1,318 1,027 -22.1 Per Capita (K) 290 184 -35.6 Real Average Wages (K) 1,390 1,140 -18.0 Capacity to Import (K Million) 3/ 645 254 -60.6 Net Fixed Capital Formation (K Million) 219 72 -67.1 Gross Domestic Savings (K Million) 592 166 -72.0 Current Account Balance K Million 53 -369 - % of GDP 3 -14 - Government Revenues (K Million) 487 326 -33.1 School Enrollment (%) 4/ Primary 91.0 95.0 +4.4 Secondary 13.0 17.0 +30.8 Food Self-sufficiency Index 5/ 89 71 -20.8 1/ All monetary values are at 1970 constant prices, except balance of payments figures. 2/ GDP adjusted for changes in terms of trade. 3/ Export at current prices divided by import price index. 7! 1970-74 values refer to available annual data for the period 1968-70, while 1975-83 values refer to available annual data for the period 5/ Cereal production as a proportion of total consumption requirement. average rural income at about one-third of the urban level. Efforts to diversify the economy have met with little success and the economy continues to be heavily dependent on mining and, therefore, highly sensitive and vulnerable to external factors; the modest structural changes that have taken place in this respect during the last decade have been more a result of an absolute decline in mining production than of a positive differential growth among the major productive sectors. 1.07 While Zambia has made considerable progress with regard to education, it continues to face an acute shortage of skilled manpower and, to a considerable extent, is still dependent on expatriates, particularly in the professional and technical areas. The country is also handicapped by demographic features which include a high rate of population growth at about 3.1% per annum, a high economic dependency ratio of 1.4, and a high urbanization growth rate of about 6.7% annually. These factors necessitate diversion of a large part of the available resources from immediately  -4- productive activities to education, health and other social services, and thus constitute a severe strain on an economy beset by economic and financial crisis of such a magnitude as is now facing Zambia. C. Current Economic and Financial Crisis (1980-83) 1.08. Precipitated by a 40% drop in copper prices during 1975, an economic and financial crisis of major proportions has continued to plague Zambia and to worsen steadily to the present day. In 1983 compared to the 1980-82, average real per capita income is estimated to have fallen further by about 6.6%, capacity to import by about 191, net fixed capital formation by about 52Z, while the balance of payments deficit on current account deteriorated by about 13.1Z; in addition , after slowing down towards the end of the 1970s, inflation has assumed a sharp upward trend, rising from about 12.4% during 1980-82 to about 25% during 1983, to a large extent reflecting recent devaluation and price decontrol (Table 1.2). Several factors have contributed to this situation but the most important are: a chronic decline in Zambia's external terms of trade; a secular decline in copper production and, consequently, export volume; recurrent droughts; an increasingly heavy external debt service burden; and an adverse policy and institutional environment. Table 1.2 Recent Economic Indicators 1/ 1980-82 1983 2/ Percentage Change Gross Domestic Income 2/ Total (K Million) 1,038 1,052 +1.3 Per Capita (K) 178 168 -6.6 Capacity to Import 3/ 190 154 -19.0 Current Account Balance (K Million) -633 -716 -13.1 % of GDP 19 17 - Net Fixed Capital Formation (K Million) 50 24 -52.0 Government Revenues (K Million) 243 264 +8.2 Rate of Inflation (X) 4/ 12.4 25.0 1/ All monetary values are at 1970 constant prices, except balance of payments deficit. 2/ Estimate. 31 As in Table 1.1, footnote (3). 4/ Weighted average of urban low and high income consumer prices. 1.09 Mainly as a result of depressed economic conditions in the industrialized countries, the world copper prices and demand have remained weak over the past nine years. Although some recovery has taken place and copper prices rose by about 18% during 1980-82 compared to 1970-74, the prices have continued to be well below the pre-1974 levels in real terms,  -5- averaging about 50X of the 1970-74 level during 1980-83. In addition, the prices of cobalt, the next important mineral export, dramatically plummeted from USS25 per lb in 1981 to US$6 per lb in 1982 and further to about US$5.70 per lb toward the end of 1983. The situation has been aggravated by a continuous fall in copper production and export volume, reflecting a secular declining trend arising from the facts that copper deposits are becoming increasingly less accessible and ore grades less rich. Partly as a result, copper production declined from 750,000 tons in 1976 to an average of 620,000 tons in 1980-82, and down to 580,000 tons in 1983; it is therefore estimated that, at the prevailing rate of exploitation, the economically exploitable copper reserves are likely to be exhausted in about 15-20 years. In addition, Zambia has been plagued by severe droughts during most of the past four years, necessitating large imports of maize, estimated to have cost the country about K 11 million in 1982/83. 1.10 A further factor underlying the current crisis facing the country is related to external debts. Zambia's debt service amounted to about 27% of export earnings in 1980-81 and is estimated to have risen to about 34% in 1983. Despite large accumulation of payment arrears, debt servicing outlays siphoned off over 45% of total disbursements of medium and long-term capital inflow during 1980-83. The external debt burden, declining copper prices and export volume have exerted a severe strain particularly on the balance of payments. The balance of payments has been characterized by a chronic disequilibrium since 1975, and despite major cutbacks on imports in real terms (para 1.16), the deficit on current account rose from an average of K 212 million, or 10.3% of GDP, during 1975-79 to K 561 million, or 15.9% of GDP, during 1980-83. The persistent deterioration in the balance of payments position has led to a severe shortage of foreign exchange which, in turn, has resulted in acute shortages of imported machinery, components, spare parts and industrial raw materials, thereby causing considerable under-utilization of production capacity throughout the country, and a deterioration of basic infra- structure. 1.11 The on-going crisis has also caused serious difficulties with regard to public revenues. The persistently low copper prices, coupled with steadily rising mining costs, have eroded the profitability of the mining industry as a result of which the sector has virtually disappeared as a major source of fiscal revenues. Whereas the mining industry provided an average of K 172 million or 41% of total Government revenue during 1970-74, it provided only an average of K 19 million or 3% of total Government revenue during 1975-82. Although measures to generate more revenues from non-mining sources have succeeded in raising fiscal revenues by about 60% during 1980-82 compared to 1975-79, recurrent expenditures have been rising more sharply to the effect that budgetary deficits rose by about 74% from K 301 million during 1975-79 to K 524 million, or 14.7% of GDP, during 1980-83. These deficits have been financed mostly by borrowing from the banking system, with the Government accounting for about 69% of the total domestic credit during 1980-83, thereby crowding out the availability of resources to the private sector in addition to exerting an inflationary pressure on the economy.  -6- 1.12 The economy's capacity to withstand external shocks has been impaired by unfavorable domestic policies and practices, notably inappro- priate commodity and factor pricing policies, poor allocation of public resources, an over-valued currency, a deficient tariff structure, and an over-extended and generally inefficient parastatal sector. Until recently, all commodity prices were controlled by the Government and were generally skewed in favor of and entailed heavy budgetary subsidies to the urban consuers '.vhile providing inadequate incentives to agricultural and industrial producers. Interest rates are also controlled by the Government and have been set at levels far below inflation rates, whereas wages have been rising sharply. This situation has tended not only to discourage savings but also, coupled with duty-free import of and accelerated depreciation allowance for capital goods and an over-valued currency, to encourage a capital-intensive mode of production throughout the economy. Moreover, the over-valued currency has been acting against exports while making imports artificially cheaper and, together with low tariffs on raw materials, has thus encouraged importation of raw materials at the expense of local production. 1.13 Inappropriate allocation of public resources has been a further major factor accounting for the poor performance of the Zambian economy, considering that the Government commands a substantial proportion of the available resources. The bulk of the public expenditures has continued to go mainly to social services, with the share of the directly productive sectors falling from 12% of the total expenditures during 1970-74 to about 62 during 1980-83. In addition, the brunt of the measures to restrain public expenditures has been borne mostly by capital outlays and non-wage operating costs. As a proportion of total public expenditures between 1970-74 and 1980-83, wage costs rose from 19% to 23% and consumer subsidies from 6Z(K 34 million) to 10% (K 138 million); on the other hand, capital outlays fell from 33% to 15% and non-wage operating costs from 14% to 12Z. The decline in the ratio of non-wage operating costs to wages has meant increasing under-utilization of the public manpower resources. 1.14 The parastatals, originally expected to generate incremental development resources, have been a heavy drain on the economy. Since independence in 1964, Zambia has assigned the parastatals an increasing role in the production and distribution of goods and services in all sectors of the economy. Many of them have been operating at substantial losses which have had to be covered by credit from the banking system and budgetary subsidies. The poor performance has been due to several factors, notably: adverse pricing policy; weak managerial, administrativP and supervisory capabilities; ill-defined objectives; limited authority relative to responsibility; lax accountability; and inadequate attention to economic considerations. 1.15 The Government has increasingly come to recognize the need to carry out policy and institutional changes with a view to reversing the downward trend which has characterized tle Zambian economy during the past nine years, and to diversify the economy from the dependence on the mining industry. To this end, the Government has initiated or committed itself to initiating policy and institutional reforms which include:  -7- (a) improving price and non-price producer incentives; (b) mobilizing resources partly by reducing subsidies, and improving their allocation through systematic planning to shift resources to productive investments; (c) adjusting wage and interest rate policies to reverse the past trend which has tended to encourage consumption at the expense of investments; (d) adopting a flexible exchange rate system; and (e) improving the efficiency of parastatal enterprises by strengthening their technical and management capacity, and creating an environment as would enable them to become financially self-sufficient. 1.16 Several of the above measures have already been implemented (Annex 1). In December 1982, all consumer prices were decontrolled except for candles, maize and wheat products; agricultural producer prices have been raised to levels close to or above the border price equivalents; and a number of non-price incentives, notably foreign exchange retention allowances and concessional tax rates, nave been introduced with a view to stimulating production and encouraging new non-mineral exports. Furthermore, the Government has undertaken institutional changes aimed at improving operational and financial performance of the parastatal enterprises, attaining a better match between budgetary recurrent and capital costs, improving foreign exchange allocation procedures, and strengthening agricultural planning capability. The Government has also devalued the Kwacha by about 42%, adopted a system of flexible exchange rates, increased interest rates across the boards reduced budgetary deficits from K 765 million in 1982 to an estimated K 308 million in 1983, and subsidies from K 154 million in 1982 to an estimated K 83 million in 1983. In addition, measures have been adopted to restrain increases in Government employment and in wages throughout the economy. In real terms, total imports have been reduced from K 332 million in 1975-79 to K 241 million in 1980-82 and to K 157 million in 1983. D. Short-term Outlook and Medium-term Prospects 1.17 In the short to medium term, the performance of the Zambian economy critically depends on the behavior of the world copper prices and demand; it will also depend significantly on the success and impact of the on-going policy and institutional reforms, and on Government's ability to encourage increased domestic savings while directing a greater amount of investment resources into the main productive sectors in general, and into the quick-pay-off activities in particular. The economy will cintinue to be heavily dependent on foreign exchange resources not only to finance importation of essential capital and intermediate goods but also to meet the mounting external debt payment obligations. In view of the secular decline in copper production and export volume, coupled with a limited scope for a rapid growth of non-mineral exports, the requisite foreign exchange resources during the remainder of the 1980s will need to come mostly from improvement in copper prices.  -8- 1.18 Current copper prices are below average world production costs and the Bank commodity price projections therefore envisage copper prices to rise by about 12% in real terms between 1985 and 1990. In addition, the policy and institutional reforus already in place should have a positive impact on the economy. The devaluation of the Kwacha should make the mining industry more profitable and, in combination with the foreign exchange retention allowances and concessional tax rates, may stimulate non-traditional exports. Similarly, the decontrol of consumer prices and the high increases in producer prices should encourage increased industrial and agricultural production, while the reduction in subsidies releases public funds to productive investments. Nonetheless, as recent Bank projections indicate, Zambia will continue to face severe economic diffi- culties in general, and balance of payments problems in particular during the remainder of the current decade, with GDP growing by about 2.32, per capita GDP and consumption falling by 0.3% and 1.7% respectively, while the balance of payments will experience a substantial financing gap (Table 1.3). Given the fact that imports have already been cut severely in real terms, the grim prospects necessitate a large inflow of external assistance to permit even a modest rate of growth and prevent a possible collapse of the Zambian economy. Table 1.3 Balance of Payments Projections (US$ Million) 1984 1985 1986 1987 1990 Exports, Goods & NFS 1,108 1,242 1,487 1,674 2,178 Imports, Goods & NFS 1,099 1,177 1,297 1,418 1,766 Balance of Trade 9 65 190 256 412 Net Factor Service Income & Transfers -389 -384 -383 -374 -322 Current Account Balance -379 -319 -193 -118 90 Net Capital Inflows 108 32 -152 -137 -330 Financing Gap -271 -287 -345 -255 -240 Source: Summary from Zambia; Country Economic Memorandum; Issues and Options for Economic Diversification"; April 16, 1984. 1.19 The situation described above underlines the urgency of accelerating the development of the non-mining sectors to provide alternative sources of income, export earnings, savings, and employment. Achieving this objective is made more difficult now than ever before by the fact that the mining sector itself will continue to be a substantial consumer of the available domestic and 'oreign resources at a time when  such resources are critically needed to support diversification into other sectors, and by the fact that the external debt servicing will absorb a large proportion of the foreign exchange earnings. The agricultural sector offers the most promising prospects of achieving the diversification goal in the short to medium term, particular through ensuring adequate food supply so as to obviate the need for higher imports, and through increasing the supply of locally produced industrial raw materials in order to facilitate greater utilization of the existing manufacturing capacity and consequently reducing the high import-intensity which has hitherto characterized the majority of the maw;facturing enterprises in Zambia. II. THE AGRICULTURAL SECTOR A. National Agricultural Goals and Achievements 2.01 Agricultural development efforts in Zambia have historically aimed at several goals, some of which are mutually incompatible. In addition to diversifying the economy away from mining, the main goals of the agricultural sector have been directed at attaining self-sufficiency in staple food crops, especially maize; spreading growth and development to all parts of the country thereby helping to narrow the rural-urban income gap and to redress regional disparities; and at ensuring low-cost food for the mining and industrial workers by keeping agricultural prices low. Despite various development programs and projects since Independence two decades ago, little progress has been made towards achieving these goals. The country continues to import agricultural commodities which could be produced locally,notably vegetable oils (Annex 2, Table 1). Moreover, after attaining self-sufficiency in maize in 1971 and becoming a net exporter fior the subsequent six years, Zambia has reverted to being a Table 2.1 - Average Annual Growth Rates (Percentage) 1970-74 1975-82 Marketed Volume of Main Crops Maize 26.1 -2.7 Virginia Tobacco 0.9 -16.6 Sugar Cane 22.7 0.0 Seed Cotton -2.0 43.7 Sunflower Seeds 1.0 15.8 Groundnuts (Shelled) -13.1 -11.6 2.03 The sector's contribution to diversification efforts has been minimal. Furthermore, its impact on the urban-rural income gap, and the regional disparities has been equally disappointing. Though they have been improving during the 1980s following sharp increases in agricultural producer prices, the rural-urban barter terms of trade were about 28X against rural areas in 1980-81 compared to 1970, partly reflecting a  - 10 - continuous rise in wages in all the non-agricultural sectors while farm prices were kept low through Government control. As a result, the urban- rural income gap remained wide and rural incomes are estimated at about one-third of the urban level. Little has been achieved towards redressing regional disparities as the three ecologically better endowed and histori- cally more developed provinces have continued to account for over 90% of the marketed maize and other farm products, more or less as they did prior to Independence. 2.04 Although throughout the last decade Zambia continued to carry out a wide range of programs and projects to stimulate agricultural development and growth, it is evident that the past efforts have failed to generate rates of growth sufficient to ensure satisfactory rural incomes, and adequate food and agro-raw materials for the rapidly growing population. The reasons behind the poor results are many and include external factors, notably the shortage of foreign exchange and severe droughts which have hit the country in three successive years during the recent past. However, the adverse impact of such external shocks and natural calamities has been greatly exacerbated by a number of internal constraints which have weakened the Zambian economy in general and the agricultural sector in particular. B. The Major Constraints Pricing Policies 2.05 Inappropriate pricing policies have been one of the major factors constraining the growth of Zambia's agriculture. Producer prices of the major crops, notably maize, have been subject to Government control mainly in the interest of maintaining a cheap food regime for the benefit of the industrial workers and urban population. Accordingly, producer prices were, until three years ago, kept substantially below the border-price equivalents, while retail prices were set below production and marketing costs, resulting in mounting subsidies mainly to consumers. For crops such as maize, tobacco, cotton and wheat, which the farmers cannot market out- side the parastatal channels, the official low producer prices are at once the effective prices, and have had the effect of imposing an implicit tax on producers and creating a disincentive to increased production. The policy was drastically modified towards the end of 1982, when all consumer prices were decontrolled except, as far as agriculture is concerned, for maize and wheat products; following negotiations for this Project, the Gvernment decontrolled wheat product prices effective from Nov'ember 1, 1984. Although the Government continues to set all producer prices, and to control maize producer as well as fertilizer selling prices, they hav-. been increased substantially in real terms, and, until the later half of 1984, to levels close to or above the border-price equivalents.1/ The Government has thus taken notable steps towards improving the pricing policy. However, the policy continues to entail a number of features that adversely affect agricultural development, namely: a price structure for maize and fertilizers that does not permit full cost recovery and which involves uniform producer throughout the country, while allowing inadequate regional differentials for consumer prices of maize; and a defective price setting methodology for the controlled prices. 1/ The gap between the domestic and import-parity prices of maize has widened since mid-1984 mainly as a result of devaluation of the Kwacha.  - 11 - 2.06 The resale prices charged by the marketing agencies, Namboard and Cooperatives, for maize and fertilizer were recently raised to a level which covers the procurement costs (producer prices for maize, and fertilizer landed cost) incurred by these agencies, but they still do not allow any margins for transport, handling, storage, and other relevant marketing overheads. These marketing agencies are therefore compelled to remain dependent on budgetary subsidies to cover these costs, and this has several adverse effects because: (i) it fosters inefficiencies since there is no compelling reason to control costs as the Government stands ready to cover lossses; (ii) it hinders the development of essential marketing facilities, such as storage, because the responsible agencies are unable to generate the required financial resources; (iii) it results in mounting financial charges to the marketing agencies as delays in receiving subsidies are becoming longer and longer, thus forcing these agencies to increasingly resort to costly overdraft facilities from the banking system; and (iv) it inhibits the growth of private enterprise which can survive only if allowed to recoup full costs, including a reasonable return on capital and management. It is therefore important that Namboard and the Cooperatives are enabled to be financially wholly self-dependent, not only to reduce the burden on fiscal resources, but also to minimize these other adverse effects and particularly to foster financial discipline and a stronger awareness of the cost-and-return imperatives, both of which are critically needed if these agencies are to become financially viable and, thus, valuable assets to the economy. Under the proposed Project, the Government would take appropriate measures to this end (para 3.07 (a) ). 2.07 The rationale for controlling maize and wheat product prices is that these commodities are regarded as an essential part of the Zambian diet. As a result of a dialogue initiated under this Project, the Govern- ment has agreed to decontrol wheat product prices mainly because, unlike maize which constitutes the predominant proportion of food consumption for the majority of the Zambians both in the rural and urban areas, the consumption of wheat products is overwhelmingly confined to the urban dwellers (Table 2.2). Furthermore, wheat product prices have remained unchanged during the Table 2.2 - Estimated Annual Per Capita Consumption (Percentage of Total Cereal and Cassava Intake) Maize Wheat Rural Areas 65.5 2.8 Urban Areas 71.7 25.6 Zambia 68.0 11.9 past three years as a result of which these products have become increas- ingly cheaper relative to such commodities as maize meal and cassava, thereby tending to encourage greater consumption of wheat, which is mostly imported, at the expense of locally produced commodities. There is, therefore, little economic justification in continuing the control over  - 12 - wheat product prices, especially since a price increase is unlikely to have a major impact on the cost of living since wheat products are estimated to account for less than 2% of the urban population expenditures on food. 2.08 Since 1974/75, the Government has set producer and, until mid-1984 (para 3.07), consumer prices of agricultural products at a uniform level throughout the country, partly with a view to lessening the transport constraint by wholly subsidizing transport costs. Partly as a result of the vast size of the country combined with a widely scattered population, internal transport costs are considerably high; for example, in the case of maize, transport costs during 1980 averaged about 52.7% of the producer price and 41.5% of the retail price. This restricts supply responses among the farmers off the line-of-rail, who make up the majority of the Zambian farmers, as the high transport costs have an effect equivalent to reducing producer prices and thus represent a major disincentive to such farmers. The high transport costs dictated that, from an economic efficiency point of view, most of the marketable food surpluses have to be produced close to the urban centres where the non-agricdltural workers are concentrated. Consequently, the preponderant majority of the Zambian farmers, located as they are in remote areas and producing relatively bulky crops, have very limited opportunities to benefit from the available markets in the major urban centres along the line-of rail. 2.09 The major part of the subsidies associated with this policy has been reflected chiefly in lower consumer prices. The resultant low consumer prices have tended to encourage the consumption of maize at the expense of the traditional crops, such as cassava and sorghum, most of which are marketed outside Namboard and cooperative channels and therefore receive no subsidies; the policy has therefore acted against the interest of the estimated 60% of traditional farmers for whom, due to unfavorable climate and soil conditions, the cultivation of maize is generally marginal compared to such traditional crops. Rather than spreading development to these farmers, the uniform price system has constrained increased produc- tion of the crops in which they enjoy comparative advantages. Furthermore, in addition to giving distorted price signals to producers and consumers, thereby leading to inefficient allocation of resources, the policy has contrained overall agricultural development because it ignores the inter- and intra-regional comparative advantages in a country characterized by such widely varying climatic and soil conditions as Zambia is. 2.10 The policy also has other built-in features which militate against the equity objectives it was originally intended to achieve. The size of the benefit to an individual farmer depends not only on how far he is located from the market but also on the bulkiness of his crop relative to value, and the amount he produces for the market. This means, for example, that rice and wheat farmers benefit proportionally less than maize farmers, and large-scale farmers benefit more than smallholders. With regard to fertilizers, the subsidy benefits particularly the few who already have sufficient production resources to cultivate large acreage and who find the available technological packages suited to their farming system. The available technological packages are largely unsuitable for the preponderant majority of the farmers; until this constraint is subs- tantially resolved, the majority of the farmers stand to gain little from  - 13 - from fertilizer subsidies and would probably have been better off if the subsidies had been used to provide them with better research and extension support. Apart from the fact that there is no practical way to removing the subsidies without introducing a regionally differentiated price structure, the uniform price policy needs to be changed so as to take full recognition of inter-regional comparative advantages. Under the proposed Project, the Government would begin to take appropriate measures accordingly (para 3.07 (a) ). 2.11 The methodology currently used to determine produce prices remains unsatisfactory. The prices are derived from estimated average production costs for the year immediately preceding the cropping season, based on a single model farm budget for the whole country, and including a return to fixed capital which varies widely from crop to crop and year to year for no apparently justifiable financial or economic reasons. Apart from the fact that the data used have little empirical basis, the resultant prices have no bearing on the prevailing or anticipated supply-demand imbalances, or on the likely changes in incremental production costs as the desired increase in production necessitates expanding cultivation into relatively marginal areas, and does not take into account the trading opportunities open to the country as reflected by border prices. A better price setting methodology needs to be evolved, especially for maize but also for fertilizers, to reflect border price equivalents (para 3.07 (f) ). Non-price Producer Incentives 2.12 The Government has introduced a number of non-price producer incentives, notably concessional tax rates for agricultural incomes; accelerated depreciation and customs duty exemptions for farm machinery; and foreign exchange retention allowances to those marketing over, for example, 5,000 bags of maize, and 50% of foreign exchange value to those exporting non-traditional commodities. Tax rates on farming incomes were reduced from 80% to 25% in 1981 and to 15% in 1982, and farmers are now allowed to write off 100% of capital cost of farm machinery and implements within two years. Although these incentives mostly benefit the medium and large scale farmers, the Government is well advised to retain them in order to encourage increased supply of marketed production to arrest the declining trend. Produce Marketing and Input Distribution 2.13 Produce marketing and input distribution in Zambia plays a critical role in the development of agriculture in view of the fact that only when a reliable marketing system is assured can the traditional farmers be realistically expected to deliberately aim at producing a surplus over and above their consumption needs. Maize is the most important among the marketed agricultural products in the country as it is the main staple food crop cultivated by the majority of the farmers and consumed heavily both in the urban and rural areas. Varying quantities of several other food and industrial crops are also marketed but they all rank far below maIlze in terms of volume, value and strategic importance. Fertilizerr dominate agricultural input distribution trade. Consequently, the level of efficiency in the marketing of maize and distribution of  - 14 - fertilizers is crucial to the welfare of both the Zambian farmers and consumers. The marketing of maize and distribution of fertilizers are exclusively undertaken by the National Agricultural Marketing Board (Namboard) and the cooperatives. 2.14 National Agricultural Marketing Board (Namboard). Namboard was established in 1969, as an amalgamation of two crop marketing boards whose origin goes back to the 1930s. Its main responsibility is to ensure marketing outlets for the maize surplus regions, adequate and equitable supply in the deficit regions, and availability of fertilizers in all parts of the country. Following its establishment, Namboard rapidly expanded its functions and geographical coverage by taking on the marketing of several crops (sunflowers, soyabeans, groundnuts, rice, wheat, seeds, and vegetables), and distribution of other inputs (pesticides and farm implements). The rapid expansion made Namboard an unwieldy organization and took a heavy toll on its efficiency as it became increasingly difficult to attract and retain competent staff in view of the acute shortage of trained manpower in the country. Until recently, its operations were very diverse and complex. 2.15 The most critical problems that Namboard has had to face have been beyond its control. In many respects, it has been treated like a governmental department subject to ministerial directives on matters which are normally entrusted fully to the chief executive of a corporate body. Both the buying and the selling prices for the various commodities it deals with are determined by the Government, with inadequate regard to the need to cover costs. Thus, it has been forced to buy at higher prices than it is allowed to sell, and to expand its operations -all over the country, irrespective of financial implications arising therefrom. Being heavily dependent on subsidies, its ability to meet its financial obligations to third parties, to adopt efficient staffing and other normal business policies and practices, and to procure and distribute goods in a timely manner is conditioned by the timing and the ability of the Government to make budgetary funds available. Namboard has been running at mounting deficits, rising from an annual average of K 19.2 million during 1970-74 to K 87.5 million during 1980-82 (equivalent to about 11% of the total budget deficit in 1982), with the sharpest increase occurring in 1975, following the change from regionally varying to uniform prices (Table 2.3). Table 2.3 - Annual Average Subsidies to Namboard (1970-82) 1970-74 1975-79 1980-82 K'million % K'million % K'million Z Maize Price Differential 6.7 35 7.1 15 10.0 12 Marketing Costs 6.3 33 15.3 31 30.7 35 Sub-total 13.0 68 22.4 46 40.7 47 Fertilizers Price Differential - - 15.8 33 26.4 30 Marketing Costs 3.3 17 6.8 14 17.0 19 Sub-total 3.3 17 22.6 47 43.4 49 Other Activities 2.9 15 3.4 7 3.7 4 Total Subsidies 19.2 100 48.4 100 87.8 100  - 15 - 2.16 Recently, the Government initiated several measures, especially since 1982, which have helped to significantly reverse the past rising trend of subsidies to Namboard. These measures have included: increasing Namboard's resale prices for maize to equal the prices it pays to producers; hiving-off its intra-provincial operations and handing them over to the Provincial Cooperative Unions (PCUs); and reducing Namboard's staff. The transfer of intra-provincial functions to PCUs was virtually completed by mid-1983. Henceforth, Namboard's main functions are to purchase maize from PCUs in the maize surplus provinces, or to import it, and to sell it to PCUs in the deficit province; to import fertilizers and distribute them to PCUs; and to maintain maize security reserves. Namboard has consequently become a more manageable body and has been able to reduce its staff from a total of about 6,000 in 1979 to about 2,000 in 1983. As a result, Namboard's losses and, in turn, subsidies fell from K 109.7 million in 1980 to K 84.3 million in 1982, with a further estimated reduction to K 35.8 million in 1983 (Table 2.4). The remaining subsidies are now due to the fact that the Government controlled price structure for maize and fertilizers does not allow any margins to cover transport and other marketing costs. As noted above, under the proposed Project, the Government would take appropriate measures to rectify the situation (para 3.07 (a) ). Table 2.4 - Namboard Financial Performance 1980-83 1/ 1980 1981 1982 1983 Estimates ====== - - K ' million Total Sales 122.0 157.8 175.8 251.3 Cost of Goods Sold 179.9 177.7 211.3 242.6 Trading Surplus (Deficit) (57.9) (19.9) (35.5) 8.7 Expenses Transport, Handling and Storage 26.2 24.8 24.3 23.0 Staff and Administration Costs 22.8 21.7 19.2 11.6 Financial Charges 1.7 1.8 4.0 1.0 Depreciation 1.1 1.3 1.3 0.2 Total Expenses 51.8 49.6 48.8 35.8 Total Surplus (Deficit) (109.7) (69.5) (84.3) (27.1) Marketing Expenses as Percentage of Total Sales 42.5 31.4 27.8 - 1/ The increase in subsidies by about 21% in 1982 compared to 1981 was due to maize imports at prices higher than the domestic prices.  - 16 - 2.17 Provincial Cooperative Unions (PCUs): While potentially capable of playing a significant role with regard to agricultural marketing, input distribution, as well as credit delivery and recovery, the cooperatives in Zambia have remained basically weak. Their organizational structure starts with primary societies at the village level; the societies group themselves at the provincial level to form nine Provincial Cooperative Unions (PCUs) which, in turn, constitute the apex organization, the Zambia Cooperative Federation (ZCF), at the country level. The Ministry of Cooperatives (MOC), established in 1983, is responsible for promoting cooperative development, and for ensuring compliance with cooperative laws and principles. The major functions now carried out by PCUs are: purchasing, collecting, transporting, storing and selling farm produce, and distributing farm inputs, notably fertilizers. All the PCUs have been operating at substantial losses and depend heavily on subsidies from the Government. Mainly as a result of taking over Namboard's intra-provincial functions but also because of the higher cost of imported maize, subsidies to PCUs virtually doubled within two years from K 30.6 mlllion in 1981 to K 57.8 million in 1982, and while the amount budgeted for 1983 is considerably lower than in 1982, it is still about 20% above the 1981 level (Table 2.5). Although the hiving-off of Namboard's intra-provincial functions to PCUs is a move in the right direction in principle, it has led to a very rapid expansion of PCUs operations without a corresponding improvement in their managerial and operational capabilities, thereby running the high risks that, like Namboard, many of the PCUs, especially the new ones, will find their operations ballooned to enormous proportions too complex and unwieldy to manage efficiently. Except in the Southern, Eastern and Northern provinces, PCUs are relatively new, and have little experience in handling large volumes of business as they now must do. All PCUs suffer from inability to attract and retain competent staff, weak operational and financial management and inadequate capital. Table 2.5 Subsidies Given to Cooperatives (K) Province 1981 1982 1983 Southern 15,000,000 19,000,000 11,000,000 Eastern 7,449,600 14,000,000 5,500,000 Northern 2,038,000 10,230,000 5,800,000 Western 610,000 813,370 750,000 Laupula 268,000 1,768,000 800,000 Copperbelt 258,000 830,790 500,000 North Western 490,000 864,720 730,000 Central 4,000,000 9,000,000 11,000,000 Lusaka 500,000 1,335,600 800,000 Total 30,613,600 57,842,480 36,880,000 2.18 However, it is encouraging to note that PCUs are taking measures to avoid falling into the same problems that plague Namboard. Uneconomic depots previously operated by Namboard are being closed down while others are being converted to "marketing centres open only during the peak  - 17 - seasons, and manned on part-time basis; also, the PCUs have refrained from absorbing the entire number of personnel laid off by Namboard, in most cases absorbing only about 35-40% of such personnel. Furthermore, in view of the acute shortage of qualified and experienced manpower in Zambia, steps were recently initiated to provide centralized services to the PCUs, under the auspices of the National Federation of Cooperatives, in all aspects of cooperatives' operations, and some bilateral assistance has already been secured for the purpose. Several measures are required to improve PCU's operational and financial efficiency; they include: improved management and financial control through training of cooperative officials and intensified supervision; institution of sound accounting and timely management information; and, above all, provisions of adequate trading margins, based on a thorough analysis of the cost structure facing the various PCUs, to cover all marketing costs and allow for a reasonable return on capital and management so that PCUs can become financially independent. The proposed Project would assist the Government to review the operations of PCUs for the purpose of identifying and implementing various measures to improve their operational and financial efficiency as well as making them financially self-dependent (para 3.07(a) and paras 3.11 and 3.12). 2.19 Private Sector and Competition. Unlike several other African countries, Zambia las not gone so far as to discourage or wholly exclude private traders in the marketing of agricultural commodities and distribution of farm inputs. Private traders are not allowed in the marketing of maize and distribution of fertilizers; they, however, play the major role in the marketing of cassava, millet, sorghum, rice, sunflower seeds, soyabeans, various livestock products, and fruits and vegetables. Similarly, private enterprise predominates the distribution of agro- chemicals, and farm machinery and implements. Now that the Government has to reduce subsidies, and given the need to improve efficiency in the agricultural marketing system,the opportunity has come to permit the private sector to play a greater role in the marketing of maize and distribution of fertilizers, in order to tap additional development resources from private sources and to foster competition with a view to spurring Cooperatives and Namboard to higher levels of efficiency. Under the proposed Project, the Government would take appropriate measures to this end (para 3.07 td) and para 3.11). Research and Extension Services 2.20 The bulk of the available technological packages remains largely unsuited to the needs of the smallholders in general and of subsistence farmers in particular. Insufficient attention has been given to crops grown mainly by subsistence farmers such as cassava, sorghum and millet, which account for about 40X of the total cropped area in the country; to the inter-cropping and shifting cultivation systems prevailing among these farmers; and to practical ways of increasing productivity within the constraints imposed by the labor, managerial skills, and capital resources at the disposal of these farmers. Partly as a result of the technological constraints, the preponderant proportion of Zambia's agriculture is characterized by low productivity, both per unit of labor and land; for example, the average maize yields among traditional farmers, who account  - 18 - for 85X of the total maize acreage, is estimated at 0.9 tons/ha compared to an average of 2.4 tons/ha among the emergent farmers and 5 tons/ha among the large-scale commercial farmers. For the majority of the smallholders, there is hardly any technical message which, at present, the extension staff can convey with confidence. There is therefore an urgent need to develop proven technical messages which are location-specific, and which take into account the regional comparative advantages, labor availability, management capability, financial and other production resources at the disposal of the majority of the Zambian farmers. Like research, extension services in Zambia have been geared mainly to the commercial farmers along the line-of-rail. In addition, extension efforts have been seriously hampered by inadequate funding, shortage of qualified and experienced staff, and inadequate logistic support. The Government is now in the process of preparing a long-term program to improve research and extension services, and to re-orient these services to the needs of the smallholders. 2.21 Partly due to poor technical guidance and weak extension services, Zambia uses an extraordinarily high amount of fertilizers for a country of its agricultural size. For example, during 1980/81, it estimated to have consumed about 74,000 tons of nitrogenous and phosphate fertilizers which is only slightly below Kenya's consumption estimated at 79,000 tons despite the fact that Zambia's grain production was only one-third of Kenya's production. The Government is most concerned about this situation but little has been done to identify the underlying factors and possible solutions; a study recently carried out by USAID appears to have been inadequate to lead to any significantly effective solutions. The proposed Project would require a thorough analysis of the problem and would provide for consultation with IDA regarding implementation of the findings (para 3.07(f) ). On the other hand, and because of the shortage of foreign exchange, import of the various types of agro-chemicals, such as pesti- cides, and of miscellaneous requisite items, notably produce and input packaging materials, has fallen below the mirimum levels. For example, in 1982, only K 3.2 million of agro-chemicals was imported out of the required K 5.0 million as estimated by the agro-chemical dealers 2/; locally manufactured fertilizer has frequently remained undistriluted to the farmers because of lack of packaging material, and farmers are reported to be facing a similar problem regarding packaging of farm produce. The proposed Project would accordingly help to finance agro-chemicals and such other miscellaneous inputs (Table 3.1). Agricultural Credit 2.22 Credit, in the strict sense, is not a major constraint in Zambia. The preponderant majority of the Zambian farmers, consisting of subsistence farmers, has had virtually no effective demand for credit because of the absence of attractive technological packages. However, bridging funds to finance the purchasing of produce and inputs by Namboard and PCUs is already an important problem, stemming primarily from the Government's pricing policy which has weakened Namboard's and PCUs' finan- cial conditions to an extent that has made them uncreditworthy in the eyes of the commercial banks, and consequently heavily dependent on the 2/ Foreign Exchange allocation to agro-chemicals for crop production during 1981-82 is estimated as follows (K 'million): 1981 1982 4.3 3.2  - 19 - Government to provide such funds or to guarantee loans from commercial banks. The budgetary crisis facing the Government has made it increasingly difficult to obtain the needed funds or guarantee in a timely manner. Consequently, delays in paying the farmers have become increasingly frequent and longer, often extending to six months. This has caused cash flow problems down the marketing chain, as Namboard is unable to pay PCUs and PCUs in turn unable to pay the farmers, thereby artificially increasing the demand for credit at the farm level among the emergent and commercial farmers. It has also resulted in a disincentive to producers in terms of the increased opportunity cost of the delayed receipts. 2.23 For the market-oriented farmers, the required amount of credit has been generally available from commercial banks and governmental lending institutions. A recent study of the agricultural credit situation in Zambia indicated that the credit is not a major constraint to these farmers and estimated that the existing financial institutions readily extend about K 99 million, about 47% of which consisted of medium- and long-term loans, or about 70% of the estimated financial resources needed for the on-farm development requirements during 1980-81. Reports of the Commercial Farmers Bureau also confirm that most of their members have no difficulties obtaining loans from commercial banks, provided they have viable investment proposals. Tillage Power 2.24 Given the ample land resources, an appropriate policy and institu- tional environment, suitable technological packages, and adequate support services, tillage power (in terms of labor, animal draft and machine power) is residually the most binding constraint on agricultural development in Zambia, for it alone determines the area that a farmer can cultivate and consequently the amount of surplus he can produce over and above subsis- tence requirements. The predominant reliance on the hand hoe is one of the major causes of the under-utilization of the most abundant and cheapest resource in the country: land. The tillage power constraint is exacerbated by the fact that, in the agriculturally more important parts of Zambia, rains are erratic and confined to a period of four to five months, followed by a long, hot and dry period, thus necessitating hurried land preparation to avoid late planting because delay in planting for even one week may result in as much as 50% decline in yields. 2.25 Despite the high rate of unemployment in the country, labor shortages are a major problem, though the problem takes on different forms within the three main farming systems. Among the traditional farmers, who depend entirely, and the emergent farmers, who depend substantially on family labor, labor shortages are pronounced during the planting and harvest seasons; the shortage has been steadily aggravated by the unabated exodus of the young and able males from the rural to the urban areas to the extent that, in some rural areas such as Northern Province, the economic- ally productive population has dropped to about 40%. Although most of the emergent farmers use oxen or hired tractors for land preparation, labor constraints on planting, weeding and harvesting significantly inhibit the realization of the full potential offered by the use of animal draft power. The labor constraint manifests itself more pronouncedly in  - 20 - influencing the type and range of crops these farmers choose to produce, leading the farmer to allocate more of the available production resources to the cultivation of crops such as maize which have the double advantage of being a less labor-intensive and sta.le food crop compared to crops such as tobacco and groundnuts. Among the medium and large scale commercial farmers, the labor constraint manifests itself primarily in terms of labor costs which rose sharply during the 1970s due to the introduction of statutory minimum wage and high housing standards. The result has been a strong tendency to shift away from the labor-intensive crops such as tobacco, and to resort to labor-substituting production techniques. 2.26 Efforts to lessen the labor constraint have focussed on promoting the use of animal and tractor power. Although the country has a sizeable herd of cattle from which a considerable number of oxen could potentially be drawn, the use of draft animals is limited by tsetse infestation in some parts of the country, by the fact that about two-thirds of the potential oxen remain untrained, and by the fact that a large number of farmers does not own cattle. Moreover, since the mid-1970's, it has become increasingly difficult to acquire ox-drawn implements because of the acute shortage of foreign exchange to finance either imports of the finished implements or raw materials for local manufacturing. The use of oxen is also rendered less attractive by the fact that, unlike tractors, the farmer has to await the onset of the rains to soften the ground before ploughing is possible and, therefore, the area that can be prepared within the short time available for the optimal planting is limited. 2.27 Since the early 1950s, tractor power has played a crucial role in Zambia in expanding the cultivated acreage in general and in ensuring adequate supply of marketed surpluses to feed the rapidly growing urban population in particular. Although mainly concentrated among the medium and large-scale commercial farmers, the use of tractor power has been spreading steadily among che market-oriented smallholders (emergent farmers), mainly through the process whereby medium and large-scale farmers sell used tractors to the more advanced smal-holders. Virtually all of the medium and large-scale farmers as well as many of the emergent farmers in Zambia have sufficient farming skills, and fairly suitable technological package to respond quickly to favorable changes in pricing policies and other incentives that have taken place recently. Given the ample availability of land, cultivation power alone prescribes the area these farmers can plough, plant and weed during the critically short cropping season. Adequate tractor power is, therefore, crucial to ensuring that these farmers have the capacity to at least sustain the current level of production. 2.28. On the other hand, the acute shortage of foreign exchange has led to inadequate allocation of resources to farm mechanization 3/; this has compelled farmers to increasingly defer essential repairs anT replacement of the existing tractor fleet and associated implements. In physical terms, tractor imports declined from an annual average of 840 units during 3/ Foreign exchange during 1981-82 is estimted as follows (K 'million): 1981 1982 Tractors 7.8 4.6 Implements 1.4 1.5 9.2 6.1  - 21 - 1970-74 to 490 units during 1975-80, and to 230 units during 1981-82. Import of essential spare parts has similarly been curtailed as a result of which it is estimated that about 40Z of the 2,500 operable tractor units in the country are mostly out of action and, because of frequent breakdowns, the units cannot cope with an average of more than 40 ha/year. This had led to a serious impairment of the existing production capacity (in terms of already developed land, on-farm fixed assets, and managerial skills) among the market-oriented farmers, thereby contributing to the declining output of the marketed production. The proposed Project would help to finance replacement and rehabilitation of the current stock of tractors and associated implements, as well as procurement of animal drawn implements (Table 3.1). 2.29 In an effort to lessen the tillage power constraint among the majority of the smallholders who, because of their limited financial resources and the small size of the cultivated area, are unable to individually own tractors, the Government has been offering tractor hire services since the late 1960s. However, the Government has refrained from interfering with the private sector in this respect and farmers and other individuals who own tractors are free to offer services at whatever price the market can bear. The Government tractor fleet now consists of about 350 units but most of the equipment is in poor working condition because of inadequate maintenance and lack of spare parts; only about 280 units are operational. The Government services have been running at a loss because the charges are fixed below full cost, estimated at about K 30/hr compared to the current charges at K 22.0/hr, and have therefore had to be supported by budgetary subsidies estimated at about K 200,000 during 1983, while the capital costs has been covered by both bilateral grants and budgetary subventions. The uneconomic charges have inhibited proper maintenance thereby widening the cost-recovery gap and making operational efficiency more difficult to achieve. The Government is in the process of reassessing and will henceforth periodically review the charges to ensure that they are adequate to cover all operating plus replacement costs. Under the proposed Project, the Government would take appropriate measures to this end (para 3.07 (c) }. C. Foreign Exchange Requirements for Agriculture and Agro-Industries (1985-87) 2.30 Except those relating to policy and institutional issues, the abovre constraints involve imported inputs and their solution therefore calls for foreign exchange resources. Indeed, to play its expected role effectively, the agricultural sector will require a large injection of foreign exchange resources. It is estimated that agricultural production, agro-processing and other agro-related industries in Zambia will require about US$540 million of foreign exchange during 1985-87 (Table 2.6). This figure does not include fuel, transport and factor service income and assumes an increasing supply of locally manufactured fertilizers.  - 22 - Table 2.6 - Estimated Foreign Exchange Requirements (USS Million) At 1983 Constant Prices 1985 1986 1987 Total Agricultural Production Farm Machinery and implements Replacements 16.9 12.0 12.0 40.9 Spare Parts 4.2 3.7 3.7 11.6 Miscellaneous 0.6 0.4 0.4 1.4 21.7 16.1 16.1 53.9 Fertilizers 53.0 48.8 39.9 141.7 Agro-chemicals 1/ 8.0 9.0 10.3 27.3 61.0 57.8 50.2 169.0 Agro- and Agri-related Industries Food Processing and Auxiliary Industries Raw Materials 2/ 89.9 94.3 98.9 283.1 Spare Parts and Compc-._nts 8.3 4.2 2.3 14.8 98.2 98.5 101.2 297.9 Rehabilitation of NCZ Fertilizer Plant Machinery and Spare Parts 2.0 5.5 1.5 9.0 Technical Assistance 1.0 2.5 2.5 6.0 35.O 8. 4.0 T1 Total 183.9 180.4 171.5 535.8 1/ Including veterinary drugs. 2/ Mostly agro-raw materials required to enable optimum utilization of the installed capacity. D. Bank Group Assistance to Zambian Agriculture 2.31 Bank group assistance to agriculture has involved ten projects (three for industrial forestry, two for livestock/dairy development, two for tobacco production, one for coffee production and two area-based projects for overall agricultural development. The first livestock loan was cancelled in 1973 at GRZ's request because of pricing problems and poor management. The dairy project which aims at improving milk production by smallholder producer was approved in 1982 and has been having initial implementation problems, especially inadequate funding, and has had to be scaled down and restructured into a more realistic pilot design. The first and second industrial forestry projects were relatively well executed; the third one has just become effective and no serious problems are anticipated regarding its implementation. The two commercial tobacco farming projects were completed, but were unsuccessful in meeting their respective objec- tives of training and establishing Zambian commercial tobacco farmers and hence raising tobacco production. The projects encountered major  - 23 - managerial problems and pricing policy issues. The coffee project has been hampered by cost overruns, and by shortages of foreign exchange and Government funds. The two area-based agricultural development projects became effective recently and faced some initial problems relating to inadequate Government funds and inappropriate pricing policy; these problems are gradually being resolved. Assistance to agriculture has also been provided through projects in other sectors. The Fourth Education Project, for example, had a major component to strengthen the training of extension staff and farmers; lines of credit to the Development Bank of Zambia have financed the provision of medium and long-term finance to commercial farmers. In general inadequate local counterpart funds have been one of the main problems facing all Bank/IDA-supported projects in Zambia. III. THE PROJECT A. Origin and Design Origin 3.01 The proposed Project originated fren discussions between Zambian officials and a Bank mission which visited Zambia in March 1983 in connection with agricultural sector work. It was prepared jointly by Bank staff and the Ministry of Agriculture and Water Development (HAWD). Project Design 3.02 The proposed Project would extend over a period of three years so as to allow sufficient time for implementation of the envisaged policy and institutional reforms. The Project's policy and institutional reforms as well as the thrust of its physical inputs are consistent with the recommendations of the recent agricultural sector report (Zambia: Policy Options and Strategies for Agricultural Growth; No. 4764-ZA), carried out jointly by the Government and the Bank, and which provided the analytical underpinnings to the Project's proposals. The physical input components were based on estimates made primarily by the major local suppliers of such inputs, taking into account the likely effective demand, as opposed to mere needs, among the various categories of farmers in the country. The total cost of these inputs is the same as shown in Table 2.6 for agricultural production, excluding fertilizers and veterinary drugs. Fertilizers were excluded chiefly because of: (i) easy availability of bilateral assistance; (ii) the already extraordinarily high consumption of fertilizers; and (iii) the belief that the most urgent needs are a thorough study to identify the causes behind the high fertilizer consumption and a program to rehabilitate the existing facilities for domestic production of fertilizers. Veterinary drugs were excluded because of the relatively low degree of urgency placed on livestock compared to crop production. The design sought to balance short-term measures, consisting of the physical inputs, with policy and institutional measures aimed principally at improving the performance of Zambia's agriculture over the medium to the long-term period. To avert further declines in agricultural production in the immediate future, it is necessary to not only improve the policy environment but also to ensure  - 24 - adequate availability of various key inputs to activate utilization of the existing production capacity so as to enable the farmers to respond to the improved policy framework. 3.03 Although the long-term growth of Zambia's agriculture depends on the development of the subsistence and emergent farmers, and despite the fact that a recent analysis suggests that the medium- and large-scale farmers are less efficient than the subsistence and emergent farmers with regard to the use of both the domestic and foreign resources, in the immediate future Zambia must look to the medium- and large-scale farmers for a more rapid increase of agricultural productions. The reason is that, over the short-run, the supply response among subsistence and emergent farmers will remain low; on the other hand, the medium- and large-scale farmers are well placed to increase production quickly in response to improved policy environment because they already possess the requisite capacity and farming skills, and are already engaged in a farming system for which fairly suitable technological packages are available. The relatively low level of efficiency among these farmers is largely attri- butable to the high rate of protection accorded to them mainly through the highly subsidized fertilizer prices. tience, by encouraging measures to eliminate these subsidies, the proposed Project would help to raise the level of efficiency among these farmers. However, to ensure sustainable improvement, such measures need to be reinforced by research to increase crop yields; it is expected that the research and extension project now under preparation would cater to this need as well as to the needs of subsistence and emergent farmers (para 2.20). B. Main Objectives 3.04 The Project's main objectives are to encourage and support the Government to continue the on-going, and initiate further policy reforms on issues that have hitherto adversely affected the development of Zambian agriculture in general and crop production in particular; and to reinforce Government's efforts to diversify the economy and to reverse the decline in the marketed agricultural output. The Project would also help to sharpen the focus of, and to develop a specific program of action for the policy measures spelt out broadly in the "Memorandum of Development Objectives and Policies" submitted to the Bank by the Government of Zambia in January 1983 and which, as far as the agricultural sector is concerned, affirms the Government's commitment to: (a) provide a system of incentives to producers of agricultural products, based on a sound price setting methodology, with a view to facilitating establishment of economic prices and a rational allocation of resources according to the principle of comparative advantage among the various regions; (b) adopt a policy of economic pricing for parastatal enterprises, and streamline their operations;  - 25 - (c) increase the efficiency of the marketing system, by allowing a degree of competition among the official marketing organizations, cooperatives, and private traders, eventually leading to a system in which official producer prices would become floor prices and Namboard would become the buyer and seller of last resort in support of producer prices at a level that provides adequate incentives; (d) strengthen the Agricultural Planning capacity of MAWD to enable policies to be formulated on the basis of a well defined agricultural development strategy; and (e) review the whole range of services available to the smallholder, particularly extension, research, input supply and marketing services, for the purpose of identifying existing deficiencies, and drawing up an action program to rectify such deficiencies. 3.05 The Government has already taken important steps towards implementation of some of these measures, particularly with regard to pricing policies, non-price producer incentives, and streamlining the operations of Namboard. Measures are also underway, following a review and recommendations by the Bank, to strengthen the Planning Division of MAWD. A thorough review of the research and extension services is also proceeding with a view to prepare a possible Bank-supported project to improve these services. The proposed Project would help the Government to undertake further policy and institutional reforms (para 3.07) in keeping with the broad commitments outlined above. 3.06 The Project also aims at enhancing farmers' capacity to increase aggregate production in response to the on-going and proposed policy and institutional reforms by ensuring availability of essential inputs. In addition, it would reinforce revernlent's efforts to diversify the economy by: (a) accelerating agricultural growth through a pricing policy consistent with the varying regional comparative advantages, leading to a more efficient use of resources; and (b) helping to release domestic and foreign exchange resources for use in support of diversification efforts by: reducing fiscal expenditures through allowing the cooperatives and Namboard sufficient margins to ensure full cost recovery, thereby eliminating budgetary subsidies; and reducing expenditures on imports through increasing production of maize, through encouraging implementation of measures to reduce the extraordinarily high consumption of fertilizers, and through restraining increased consumption of imported wheat products. 3.07 As Annex 1 shows, the Government has already taken several bold and far reaching measures towards stimulating economic recovery in general and agricultural growth in particular. Some of these measures are the result of the conditions attached to the IMF Stand-by arrangements, while others are the result of the continuing dialogue between the Government and  - 26 - the Bank. In addition to those shown in Annex 1, since negotiations for this Project last July, the Government has: (i) decontrolled the price of wheat products; (ii) increased charges for Government tractor hire services; (iii) initiated, with Bank support, formulation of a price setting methodology which would relate controlled prices to the border- price equivalents; and (iv) commenced a study on Provincial Cooperative Union costs with a view to providing a firm basis for determining trading margins that should be allowed to these Cooperatives so as to attain full-cost recovery. Furthermore, since last May, the Government instituted a modestly regionally differentiate price structure for maize and wheat products. The proposed Project would seek to encourage the Government to take further specific measures in accordance with the details and implementation schedule set forth in Annex 3, summarized as follows: (a) allow Namboard and Cooperatives trading margins sufficient to attain full-cost recovery with regard to maize marketing and fertilizer distribution, within a regionally differentiated price structure and related to border price equivalents (para 6.02 fb) ); (b) undertake an action-oriented study regarding ways and means to improve efficiency of Namboard and PCUs in the marketing of maize and distribution of fertilizers, (paras 6.03 (b), 6.04 (b), 6.05 (a), and 6.06 (a) ); (c) adjust and maintain the charges for the Government tractor hire services at a level sufficient to ensure full cost recovery (para 6.02 (a) ); (d) allow a broader-based participation by private traders in the marketing of maize and the distribution of fertilizer (para 6.06 (a) ); Ce) undertake a thorough assessment of the factors underlying the extraordinarily high consumption of fertilizers, and discuss the findings with IDA with a view to agreeing on recommendations to be implemented and an implementation schedule for such recommendations (paras 6.03 (e) and 6.04 (a) ); and (f) adopt a pricing setting methodology for producer and fertilizer prices, which relates such prices to the border-price equivalents {para 6.03 (a) ). 3.08 At negotiations, assurance was obtained from the Government that these measures would be carried out in accordance with the details and implementation schedule set out in Annex 3 (paras 6.02 to 6.07). C. Project Description Physical Production Inputs 3.09 The physical inputs that would be eligible for IDA financing would be as follows:  - 27 - (a) Farm Machinery and Implements: new tractors; mechanically powered and animal drawn machinery and implements for land preparation, sowing, weeding, fertilizer and agro-chemical spreading or spraying, and for crop harvesting; ox-carts; and spare parts; (b) Agro-chemicals: various crop protection chemicals and herbicides; (c) Miscellaneous: agricultural hand tools, bags for packaging fertilizer and grain; improved seeds; small-scale irrigation pumps and fittings; and farm trucks and trailers; and (d) Consultancy: about 27.5 man-months of internationally recruited specialists to carry out an agricultural marketing study. Agro-chemicals known to damage the environment would not be eligible for IDA financing. Studies 3.10 Some of the Project's policy and institutional measures, namely those aimed at improving fertilizer usage, allowing margins to cooperatives and Namboards, and promoting a broad-base participation by private traders in maize marketing and fertilizer distribution, require further and detailed analysis before implementation. Work is already well underway towards the formulation of a price setting methodology that would relate producer prices to the border-price equivalents for implementation within six months after project effectiveness (para 6,03 (a) ). With regard to improving fertilizer usage, a study carried out in 1983 through bilateral assistance (USAID) did not come up with effective solutions to the problem and a further study, again with bilateral assistance, would be carried out during the first half of 1985 (para 6.03 (c). The Government has already initiated a study of the magnitudes and structure of costs of the nine PCUs, in accordance with terms of reference acceptable to IDA (Project File Paper No. 4), for the purpose of establishing an empirical base for determining the appropriate margins 4/. This study would constitute the first phase of the study explained iF para 3.11 below, and would entail about 10.5 man-months of consultancy services; it is expected to be completed by the second week of March, 1985, and thus on time for the required action to allow trading margins to PCU and Namboard not later than May 1985 (para 6.02 (b) ). 3.11 Having identified the nature and magnitudes of PCU's cost, the above study would be followed by a more comprehensive sttvdy on how to reduce these costs and create a system that would susr-air. improved level of efficiency with special reference to the marketing of Ibaize and distri- bution of fertilizers 4/. While detailed terms of reference for this phase of the study would be drawn at the completion of the first phase, so as to take full advantage of the findings therefrom, broadly they would cover: 4/ The Bank's mission on Pricing and Parastatal Efficiency, which visited Zambia last october, is carrying out a similar exercise with regard to Namboard. The mission is also assisting in formulation of a price setting methodology that would relate producer prices to the border- price equivalents.  - 28 - (i) ways and means of improving marketing efficiency, especially through cost reduction, among the Cooperatives and Namboard, with participation by the private sector acting as an essential spur to that end; (ii) legal changes that are needed to facilitate private sector participation; (iii) a workable mechanism to guard against wide spread commodity hoarding and/or smuggling by private traders, and against the bulk of the trade falling into non-Zambia hands; (iv) ways and means to improve financial and operational management among the Cooperatives; (v) measures needed to enable Namboard to establish and manage food grain reserves, and to carry out the role of a buyer and seller of last resort within a system of guaranteed floor and ceiling prices; (vi) policy and operational guidelines for the management of food grain reserves; and (vii) required investments and financial resources for the operations of such reserves. It is estimated that this study would take about six months to complete and that it would require about 17 man-months of internationally recruited consultants, comprising specialists in agricultural marketing and input distribution (six man-months), grain and input storage (three man-months), cooperative organization and management (three man-months), financial management (two man-months), and transport (three man-months). 3.12 At negotiations, assurance was obtained from the Government that the above study would be carried out accordingly and its findings imple- mented (paras 6.03 (e) and (b); 6.04 (b); 6.05 (a); and 6.06 (a) ). D. Estimated Costs and Financing Arrangements Estimated Costs 3.13 The quantities of physical inputs to be financed by the Project are based on estimates provided by the local major supplies of agricultural machinery and agro-chemicals; the costs are based on the US dollar prices prevailing in November 1983, adjusted to reflect the exchange rate at the beginning of November 1984. The Project total cost is estimated at K 144.6 million, consisting of K 79.8 million for tractors and associated imple- ments, K 22.8 million for spare parts, K 38.8 million for agro-chemicals, K 2.8 million for miscellaneous inputs, and K 0.4 million for consultancy services (Table 3.1). The foreign exchange costs are estimated at K 130.0 million (US$65.0 million) and local costs at K 14.6 million (US$7.3 million). Specific categories have been used for the purpose of estimating  - 29 - costs; it is expected that Project implementation would permit a large measure of flexibility to switch funds among the various categories, the only condition being that the inputs to be financed by IDA are as indicated above (para 3.09). Table 3.1 Estimated Costs Local Foreign Total Local Foreign Total Z ----K million -- ---US$ million--- Farm Machinery Replacements Tractors 5.7 52.8 58.5 2.8 26.4 29.2 40.3 Tractor Implements 1.9 16.4 18.3 1.0 8.2 9.2 12.7 Ox-drawn Implements 0.2 2.8 3.0 0.1 1.4 1.5 2.2 7.8 72.0 79.8 3.9 36.0 39.9 55.2 Spare Parts Tires 0.4 3.6 4.0 0.2 1.8 2.0 2.8 General Spare Parts 2.0 16.8 18.8 1.0 8.4 9.4 13.0 2.4 20.4 22.8 1.2 10.2 11.4 15.8 Total Farm Machinery 10.2 92.4 102.6 5.i 46.2 51.3 71.0 Agro-chemicals 4.0 34.8 38.8 2.0 17.4 19.4 26.8 Miscellaneous 1, 0.4 2.4 2.8 0.2 1.2 1.4 1.9 Consultancy _ 4 0.4 - 0.2 0.2 0.3 Total 14.6 130.0 144.6 7.3 65.0 72.3 100.0 1/ See para 3.09, (c). Financing Arrangements 3.14 The Project's foreign exchange costs would be financed as follows: US$25 million, or 38% of the foreign exchange costs, from IDA; a further US$40.0 million or 62% of foreign exchange costs from co- financing sources: US$4.8 million from the Swiss Government, US$23.4 million from the African Development Bank; US$5.0 million from USAID, and US$6.8 million from CIDA (Table 3.2). The local costs, estimated at US$7.3 million, would be financed directly by the farm machinery and agro-chemical dealers (Trading Houses). The Bank of Zambia (BOZ) would sell to the Trading Houses foreign exchange made available by the Project and each Trading House would pay to BOZ the Kwacha equivalent of the full amount of the foreign exchange cost of the items for which a Trading House is allocated foreign exchange; the Trading Houses would therefore finance 100% of the Project costs, though in local currency. The Government intends to use the local funds generated by the IDA Credit, estimated at K 50 million, to create a Kwacha Fund to support agricultural development activities (para 4.09). The IDA Credit would be to the Government of Zambia and would be subject to the standard IDA terms. To facilitate and early start and, therefore, a timely completion of the proposed study (para 3.10) provision would be made for retrospective financing of up to US$80,000 of consultancy costs incurred after September 1, 1984.  - 30 - Table 3.2 - Financing Plan Percentage Total Foreign Local Foreign Total Cost Exchange - US$ million -- IDA - 25.0 25.0 34.5 38.5 Co-financing 1/ - 40.0 40.0 55.3 61.5 Trading Houses 2/ 7.4 - 7.4 10.2 - Total - 7.4 65.0 72.4 100.0 100.0 1/ US$4.8 million from the Swiss Govt., US$23.4 million from AfDB, US$5.0 million from USAID; and US$6.8 million 2 from CIDA (Canada). 2, Farm machinery and agro-chemical importers. E. Procurement and Disbursement Procurement 3.15 Procurement of the goods to be financed by the Project would be undertaken by Trading Houses already established in Zambia and dealing in farm machinery and implement, spare parts, and agro-chemicals, and would be procured through normal commercial channels. All the major international manufacturers of farm machinery and agro-chemicals are well represented in Zambia, through the Trading Houses, and are already engaged in a fairly intense competition for the available market (para 4.06). The Project's goods would be resold, by the Trading Houses, to farmers who would have full freedom to choose from which Trading House they purchase their requirements, taking into account comparative prices, technical suitability and availability of after-sale services in convenient locations. The selection and terms of appointment of consultants would be in accordance with Bank/IDA guidelines. Disbursement 3.16 Annex 5 shows the estimated disbursement schedule; it differs from the Bank-wide disbursement profile mainly because the proposed Project is essentially in the nature of a structural adjustment assistance. The proceeds of the IDA Credit would finance 100% of the foreign exchange expenditures for imported farm machinery, spare parts, agro-chemicals, and miscellaneous items; and 100% of the consultancy service costs. Disbursements would be fully documented. The Credit would be made available in two tranches as follows: (a) a first tranche of US$10 million upon Project effectiveness; and (b) a second tranche of US$15 million within 15 months following Project effectiveness, and upon IDA's satisfaction that the Government has:  - 31 - (i) adjusted and maintained the structure of maize and fertilizer prices to allow sufficient margins to cover at least two-thirds of the amount needed to attain full-cost recovery within a regionally differentiated price structure and related to border price equivalents; (ii) adjusted and maintained charges for Government tractor hire services at a level sufficient to ensure full cost recovery; (iii) adopt a pricing methodology for producer prices, which relates such prices to border price equivalents as relevant; and (iv) completed interim report of the proposed study on the marketing of maize and distribution of fertilizers (para 3.11); 3.17 To facilitate disbursement for the eligible goods and services other than the consultancy services, the Government would open and maintain a Special Account, in the Bank of Zambia, under terms and conditions satisfactory to IDA, into which IDA would, upon Project effectiveness and receipt of withdrawal application, deposit a sum of US$3 million (equivalent to about 3 months of imports of the eligible goods); thereafter IDA would periodically replenish the Special Account upon receipt and approval of borrower's application, subject to: (i) the maximums-set by the above tranching arrangement and a minimum of US$20,000 equivalent per each replenishment application ; and (ii) evidence satisfactorily showing that the expenditures paid out of the Special Account were eligible for financing by the Project. The establishment of the Special Account would be a condition of Project effectiveness (para 6.07 (a) (i) ). F. Accounts, Audit and Reporting 3.18 The Bank of Zambia (for activities other than those related to the proposed study) and the Government through MAWD (for the proposed study) would maintain separate records and accounts which would be audited by independent auditors acceptable to IDA and submitted to IDA not later than four months following the end of the financial year. The auditor's report would include specific comments as to whether the proceeds of the IDA Credit have been used in accordance with the agreed purposes and manner, and whether allocation of foreign exchange among the various Trading Houses reflects the nature and the volume of business normally carried out by the concerned. Trading Houses. BOZ and MAWD would also maintain adequate records, in a manner and detail to be agreed with IDA, to facilitate a close monitoring of the implementation of the Project, and would prepare and submit to IDA a quarterly progress report and a final Project Completion Report. G. Relations with the IMF 3.19 Annex 1 shows the relationship between the proposed Project and the stipulations of the IMF stand-by arrangements. The Project would complement the IMF's conditions by: (i) requiring the Government to allow  - 32 - Namboard and the Cooperatives sufficient margins to eliminating subsidies, thus helping to reduce budgetary expenditures and deficits; (ii) stimula- ting increased production of the major staple food crops and domestic supply of industrial raw materials, thus helping to mitigate decline in living standards likely to result from the recent devaluation of the Kwacha and the measures to restrain wage increases. In addition, it would contribute towards improving the balance of payments by helping to stave off the need to import staple food commodities, and by encouraging the Government to implement measures to reduce the extraordinarily high consumption of fertilizers. IV. IMPLEMENTATION AND MANAGEMENT A. Overall Responsibility 4.01 The Bank of Zambia (BOZ) would be responsible for implementing and managing the Project's aspects other than those relating to the proposed study, while the Government through MAWD would be similarly responsible for the proposed study. For the non-study aspects of the Project, and before Project effectiveness, the Government would establish a Project Implementation Committee (PIC) consisting of representatives of the Ministry of Finance (MOF), Agriculture and Water Development (MAWD), Commerce and Industry (MCI), National Commission for Development Planning (NCDP), small-scale and commercial farmers, and the Project Executive Officer (para 4.04). PIC's main functions would be: (a) laying down overall procedures of managing the activities financed by the proposed Project, and ensuring that such procedures are consistent with the Credit Agreement between IDA and the Government of Zambia; (b) Approving applications from various Trading Houses after reviewing them to ensure that: (i) the applications are in conformity with the objectives of the Credit Agreement; (ii) allocations of Project funds are in accordance with agri- cultural priorities as set by the Government of Zambia and in accordance with eligibility for IDA financing; (iii) allocations of Project funds to individual applicants are consistent with the type and the volume of business normally carried out by the applicant during the past six years prior to Project effectiveness; (iv) specifications of goods to be imported are sufficiently clear and reflect the prevailing scarcity in the country; and (v) prices quoted for similar items by the various Trading Houses are competitive; {c) ensuring that all qualifying applicants comply fully with the terms and conditions stipulated in the agreement between BOZ and Trading Houses (para 4.06) and that appropriate action is taken against non-complying Trading Houses;  - 33 - (d) ensuring that foreign exchange allocated to the various Trading Houses and the type of imports are immediately publicized through the local press (para 4.04(a) ). (e) ensuring coordination between its activities and those of the general foreign exchange allocation committee. 4.02 At negotiations, assurance was secured from the Government that a Project Implementation Committee (PIC) would be established in a manner and for the functions as specified above (para 6.07 (a) (ii) ). 4.03 BOZ has already worked out a set of criteria, taking into account the type and volume of business that the Trading Houses have been regularly carrying out during the past six years, for allocating foreign exchange among interested Trading Houses; has designed a proforma agreement between BOZ and Trading Houses; and has submitted the criteria and proforma agree- ment to IDA and both are acceptable to IDA (para 6.07 (b) (i) ). B. Project Implementation Unit 4.04 BOZ would also establish, before the Project becomes effective, a full-time Project Implementation Unit (PIU), which would be headed by a Project Executive Officer (PEO) with qualifications and experience accep- table to IDA, staffed adequately, and provided with adequate facilities and logistic support. The costs relating to PIU would be financed by the local funds generated by the Project. PIU would be responsible for the day-to- day operations, specifically: (a) evaluating and processing applications from Trading Houses for the allocation of foreign exchange in a manner that would enable PIC to readily arrive at sound decisions; (b) liaising with the officials of the Ministry of Commerce and Industry to ensure that import licenses are issued promptly to the eligible Trading Houses; (c) closely monitoring the activities and transactions of the. Project to ensure that Trading Houses are complying fully with stipulations of the agreement between them and BOZ (para &.05); (d) maintaining records adequate to show the uses of the proceeds of the Credit, project's costs and, where appropriate, benefits; (e) publishing in the local press, within seven working days following the decision by PIC, the foreign exchange and types of imports allocated to the various Trading Houses; and (f) preparing and submitting quarterly and other reports to IDA. 4.05 At negotiations, assurance was obtained from the Government that BOZ would establish a Project Implementation Unit (PIU) in the manner and for the functions as specified above (para 6.07 (b), (iii) ).  -34- C. Trading Houses 4.06 Importation of the goods financed by the proposed Project would be undertaken by Trading Houses consisting of frrm machinery and agro- chemicals dealers located In Zambia. There X nine large Trading Houses and four small ones dealing in farm machinery and spare parts, and five major ones dealing in agro-chemicals. Each Trading House represents several manufacturers, on an agent basis, and most of them have branches or sub-agents in the main urban centres. Under the proposed Project, each Trading House wishing to participate in Project activities would enter into a formal agreement with BOZ, stipulating, inter-alia, that: (a) all goods financed by the Project would be sold to bona-fide farmers or buyers who would use these goods to serve the needs of such farmers in Zambia; (b) applications for allocation of foreign exchange would be accompanied by proforma invoices sufficiently showing specifi- cations, quantities and unit prices (c.i.f. Lusaka) of the goods to be imported; (c) in all cases where the concerned goods are of the same technical specification and delivery dates are comparable, foreign exchange allocation would be made in preference of the Trading House quoting the lowest price as shown in proforma iuvoices; Cd) Trading Houses or their agencies would: (i)not require repairs to be done in their workshop as a condition of selling spare parts; (ii) stock sufficient spare parts up-country; (iii) publicize in local press, farmers' and cooperatives' newsletters, retail prices of aUl imported items financed by the Project and retailing for K 500 and above per standard unit, at least once a year and any time the retail prices change by a percentage to be agreed between BOZ and Trading Houses; (iv) maintain and submit to PIC on quarterly basis a summary of sales of goods financed under the Project, classified according to the type of goods; (v) as may be relevant, periodically orgAnize short courses and field demonstration days, in such places as may be agreed with MAWD, to train farmers and operators in farm machinery operation and maintenance; (vi) submit to PIC, immediately upon receipt from the suppliers, shipping and other relevant documents in respect of all goods financed by the Project; and (vii) allow on-the-spot inspection, by BOZ or its representatives, of the goods procured under the Project; (e) Trading Houses would be responsible for directly paying the local costs and would, before obtaining an import license, deposit with BOZ the Kwacha equivalent of the c.i.f. cost of goods to be imported;  - 35 - (f) Any balance of foreign exchange allocations which remins unused after a period of one month would automatically revert to a pool for re-allocation to those Trading Houses that have fully utilized their allocation; (g) each Trading House would prepare and submit to PIC: (i) before approval of the first application for foreign exchange allocation: projections of total agricultural imported inputs it expects to import during the following three years, detailed as may be required by PIC; (ii) by the end of October each year: revised estimates of such imports for the immediately succeeding calendar year, broken down into quarterly projections; (iii) by the end of February, May, August, and November of each year during the life of the Project: actual sales of goods financed by the Project during the preceding quarter; (h) foreign exchange and types of imports allocated to each Trading House would be published in the local press within seven days following the decision on the matter by PIC and any Trading House may lodge objections if it considers that the allocation to it is unfair; and (i) upon request, PIC would make available to any participating Trading House copies of documents relating to any application for which foreign exchange has been allocated under the Project. 4.07 At negotiations, assurance was obtained from the Government that BOZ would ensure that a legally binding agreement substantially reflecting all the above points would be drawn up, and that BOZ would submit a copy of the proforma agreement to IDA for comments prior to project effectiveness (para 6.07 (b), (iii) ). - D. Kwacha Fund 4.09 MAWD considers it most important that arrangements are made, without involving IDA, to create a Kwacha Fund from the local currency (amounting to about K 50 million in three years) generated by the IDA Credit. To this end, it is envisaged that BOZ would, upon Project effectiveness, open and maintain a separate Kwacha Fund Account in favor of the Ministry of Finance (MOF), which would o. reflected by a Special Account in the national budget in a manner and details sufficient to identify its use. The Fund would be used, wholly or partly depending on the need, to support agricultural projects and programs, including, if necessary, credit to farmers who may need loans to purchase farm machinery and implerents under the proposed Project. A modest amount from the Fund would be used to defray the costs incurred by PIU in connection with the management of the Project activities. MAWD and MOF would draw up a set of criteria for determining which projects and programs to support from the Kwacha Fund. Such criteria would give primary consideration to economic and financial justification and pay special attention to: addressing the  - 36 - needs of subsistence and emergent farmers; promoting non-traditional agricultural exports; enhancing the capacity of MAWD to utilize the available manpower and physical resources more effectively; and facilitating implementation of various projects or programs for which a lack of local funds prevents the use of available foreign exchange resources. 4.10 It is further envisaged that the Fund would be administered by a Kwacha Fund Committee (KFC), to be established within three months following Project effectiveness, under the chairmanship of the Permanent Secretary, MAWD, with a membership consisting of representatives of MOF, BOZ, and NCDP. KFC's main functions would be to determine which projects and programs to be financed, and how much to be allocated to each case out of the Kwacha Fund, and to ensure a timely release of funds to the beneficiary projects and programs. 4.11 To ensure additionality to the sector, KFC would in each case restrict the use of the Fund to the financing of local expenditures over and above the amounts actually covered by local funds in the financial year immediately preceding the year in which the project or program is to receive support from the Fund. To this end and before making allocations from the Fund, KFC would, through the Budget Section of MAWD, determine the actual local funds contributed accordingly, estimate local expenditures for the next three years or so, and revise such estimates annually in time for inclusion in the national budget for the immediately succeeding financial year. Authorization to release funds from the Kwacha Fund would be signified by vouchers or checks countersigned by the Permanent Secretaries of MAWD and MOF. V. Benefits, Justifications and Risks A. Main Benefits 5.01 Data is not readily available to allow a meaningful, detailed assessment of the benefits likely to result from the various policy and institutional reforms under the proposed Project. However, it is realistic to expect that these reforms would have a considerable and positive impact on agricultural development by facilitating the achievement of the objectives set out above (para 3.06), and by strengthening the Government's capacity to sustain the on-going policy changes. In conjunction with measures being promoted by the IMF, the reforms constitute a critical component of the strategies to place Zambia's economy on the road to recovery, diversification, and growth (para 3.18). 5.02 Lack of reliable data also partly makes it difficult to quantify accurately the benefits anticipated from the physical inputs to be financed by the proposed Project. While the farm machinery and implements financed by the Project would certainly help to increase output by enabling the cultivation of an acreage larger than is now the case, and would probably lead to higher yields as a result of better and timely seedbed preparation, and while the various agro-chemicals would help to increase production by  - 37 - reducing crop losses, it is very difficult to separate these benefits from those attributable to the other key inputs, such as fertilizers, farm management skills, better seeds, which would not be financed by the proposed Project but without -hich the Project's inputs would achieve little. In addition, it is problematical to define the "without case" primarily because a number of options are available to the majority of the farmers who are expected to benefit from the Project. These options include: shifting out of crop farming, wholly or partially, to less input-intensive and less mechanized farming operations and activities such as ranching or tree farming; continue farming but on a reduced crop area proportional to the available farm machinery; or going out of business altogether and selling out to those ("emergent") farmers who might be able to operate without the use of tractors. In reality, the "without case- is likely to involve a combination of all these options in proportions that are not possible to determine objectively. However, all these options have one feature in common: they would result in reduced cropped area and crop production. Several difficulties also preclude an accurate and objective determination of the benefits to be expected from the "with case", largely because it is not known accurately how the Project's proceeds would be distributed among the various types of crops, other agricultural activities, and categories of farmers; or how the Government would use the Kwacha funds generated by the Project. 5.03 Nonetheless, to gain some notion of the magnitude of the possible impact on production arising from the Project, an indicative assessment of the financial and economic costs and benefits has been carried out on the cultivation of hybrid maize. The following are the main assumptions: (a) for both without and with project cases: (i) tractors are used by the medium-, large-scale and the more advanced emergent farmers; (ii) in keeping with the estimated percentage of the cultivated area allocated to maize growing by the medium- and large-scale farmers, 75Z of the tractor time is devoted to maize production; (iii) seasonal inputs, including agro-chemicals, are applied in accordance with recommended dosages; and (iv) average maize yields remain at the current level of 4.7 tons/ha, currently attained by improved farmers. (b) for the without project case: (i) the existing fleet of 2,500 operational tractor units would be scrapped after ten ye.:^rs of use from the year Lhey were imported; and (ii) because of frequent breakdowns at the critical land preparation, planting and weeding period, each tractor unit would handle an average of 40 ha annually;  - 38 - (c) for the with project case: (1) all tractors ten years and older, estimated at 1,000 out of the 2,500, would be replaced, while the remainder would be rehabilitated; (ii) the new tractor units would handle 50 ha annually up to the seventh year and 40 ha thereafter, while the rehabilitated ones would handle 50 ha annually up to the fifth year and 40 ha thereafter; (iii) incremental tractor units would necessitate expanding cultivation into already destumped fallow land; and (iv) the total Project's cost is charged to maize cultivation. 5.04 Under these assumptions, the Project would increase maize produc- tion by an amount rising from about 30,000 tons in Year 1 to a peak of about 320,000 tons in Year 10. Over the Project's economic life of twelve years, the incremental production would average about 190,000 tons annually which, at the current prices, is equivalent to K 59.8 million gross. The present value of the net benefits discounted at 13.5% would be K 34.3 million (US$17.2 million). The financial rate of return is estimated at 27% and the economic rate of return at 59% (Annex 4, Tables 1 and 2). In reality, the return would be much higher than indicated by these figures (para 5.05). The financial rate of return is particularly sensitive to changes in costs and benefits (Table 5.1), reflecting the fact, mainly as a result of the subsequent devaluation of the Kwacha, the latest increase in producer price of maize offers a relatively modest profit margin while it has led to a substantial widening of the gap between domestic and border prices. The latter problem is expected to be rectified by the adoption of a better price setting methodology starting with the next cropping season (Para 6.03 (a) ). Farmers' respresentatives and the Government have already initiated a review of maize producer price with a view to effecting an increase during the current cropping season. Table 5.1 - Sensitivity Analysis (Total Costs and Benefits) Financial Economic Rate of Return Rate of Return (X) (Z) Base Case 27 59 Benefit Up by: 10% 37 73 20% 47 88 Costs Down by: 10% 38 74 20% 52 96 Benefits Down by: 10% 15 46 20% 1 34 Costs Up by: 10% 17 48 20% 6 38 Switching Values at 13.5% Disc. Rate Benefits -12 -34 Cost 13 52  - 39 - 5.05 The other reason why the financial rate of return are so sensitive is that the analysis includes the total capital costs relating to the tractor units, while the benefits are predicated on 75% of the tractor units" time. In addition, the analysis does not take into account increased yields likely to result from timely land preparation, planting and weeding facilitated by the new and rehabilitated tractor units, and from the improved availability of agro-chemicals. Annex 4, Table 3(2) shows the results when the costs are adjusted to exclude 25Z of the tractor units' capital costs. This adjustment leads to a significant improvement of the financial rate of return (Table 5.2). Table 5.2 - Summary of Sensitivity Analysis (Excluding 25Z of Tractor Units' Capital Costs) Financial Economic Rate of Return Rate of Return (M) (Z) Base Case 42 90 Benefits Down by: 10% 27 70 20% 10 51 Costs Up by: 10% 29 71 20% 16 57 Switching Values at 13.5% Disc. Rate Benefits -18 -39 Costs 22 65 B. Main Direct Beneficiaries 5.06 The envisaged policy and institutional reforms would benefit a wide spectrmm of the Zambian farmers, including subsistence farmers on the verge of entering the market economy. The major part of the tractor units and agro-chemicals would go to the medium- and large-scale farmers; however, assuming that farmers would buy these inputs in proportions that reflect the current ownerhsip of tractors, about 20% of these inputs would benefit the emergent farmers. In addition, about 7,000 emergent farmers would benefit from ox-drawn implements financed by the Project. C. Maize Producer Incentive and Fertilizer Subsidies 5.07 The issue arises whether the proposed elimination of subsidies on fertilizers would seriously reduce producer incentives, particularly for maize. A full answer to the question calls for a comparative analysis of returns from the various farming and non-farming investment opportunities available to the Zambian maize farmers; such an analysis is beyond the scope of this report. During the past two years, the Government has been reducing fertilizer subsidies gradually and the remaining subsidies are at present estimated at about 5% of the fertilizer total costs (procurement and distribution costs and overheads). Annex 4, Table 3(3) presents a sensitivity analysis of the financial rate of return for maize with respect  - 40 - to the cost of fertilizers. An increase of fertilizer prices by, for example, 10% would still leave an attractive rate of return of about 24%; furthermore, for the rate of return to fall below the estimated opportunity cost of capital (13.5%), fertilizer prices would have to increase by about 45%. Since the remaining fertilizer subsidies are less than 10% of full costs, the analysis suggests that the subsidies can be eliminated without resulting in a serious disincentive to maize producers. D. Risks 5.08 The Project's main risks relate to delays or failure to carry out the proposed policy reforms; lack of foreign exchange to finance inpurs, especially fertilizers, complementary to those financed by the proposed Project; and recurrence of droughts. Several of the policy reform measures, especially those concerning pricing policies and private sector participation in the marketing system, call for bold and resolute actions in the face of probably strong and widespread resistance from those who stand to be adversely affected, particularly the urban population and the doctrinaire politicians. It is, however, encouraging that the Government has already demonstrated its resolve to take unpopular measures. Partly because of the grim economic and financial prospects confronting the country in the absence of the required policy changes, the political will now exist to make it realistic to expect that the Government would make determined efforts to implement the reforms proposed under the Project. The risk that lack of foreign exchange may lead to inadequate availability of fertilizers is expected to be minimized by the on-going efforts to increase local production of fertilizers, and by the fact that fertilizers are one of the inputs for which Zambia has found relatively easy to obtain aid from bilateral sources in the past; at negotiations, the Government confirmed availability of such assistance. In the short- to medium-term, little can be done about droughts. For the long-run period, research is proceeding with a view to developing more drought resistant crop varieties and farming techniques. E. Justification of IDA Assistance 5.09 Zambia will continue to face severe' foreign exchange constraints during the remainder of the decade (Table 1.3). The country will therefore continue to be in great need of support from the international community to ensure reasonable prospects that the on-going economic . covery measures will succeed. Apart from the expected benefits from the proposed Project, IDA support is justified by the facts that: (a) the physical inputs to be financed by the Project call for a substantial multilateral as opposed to just bilateral assistance in order to facilitate unencumbered procurement from the least-cost suppliers, free of ties to any one specific country. One of the problems facing farm mechanization in Zambia is the increasingly large number of different makes of machinery and equipment, as a result of tied bilateral assistance, which renders maintenance and repairs more costly;  - 41 - (b) the objectives of the proposed Project bear significantly on the success of the on-going and future Bank/IDA supported agricultural projects in Zambia; and (c) there are reasonable prospects of IDA successfully encouraging the Government to carrying out further policy and institutional reforms as envisaged under the Project. VI. AGREEMENTS REACHED AND RECOMMENDATIONS A. Agreements Reached 6.01 The main issues that call for formal agreement between the Government and IDA have been discussed with and essentially accepted by the Government in the course of preparing and appraising the project. At negotiations, agreements were reached as shown below: 6.02 Periodically after Project effectiveness, the Government would: (a) further adjust, gradually or otherwise, hire charges for the Government tractor services, to achieve full cost recovery not later than end of August 1986, and thus maintain such charges thereafter; (b) allow PCUs and Namboard, with regard to the marketing of maize and distribution of fertilizers, and within regionally differentiated price structure, sufficient margins to cover: (i) not later than May 1985: at least one-third of the amounts needed to attain full cost recovery; (ii) not later than May 1986: at least two-thirds of the amount similarly needed, and; (iii) not later than May 1987: the total amount similarly needed. 6.03 Within six months following Project effectiveness the Government would: (a) adopt a pricing methodology for producer prices which relates such prices to the border-price equivalents as relevant; (b) initiate a study with terms of reference as broadly set out in para 3.11 above; and (c) complete a further study of the factors underlying the extraor- dinarily high consumption of fertilizers, and possible solutions; and present a specific action plan satisfactory to IDA for imple- menting the recommendation of the study (para 2.21).  - 42 - 6.04 Within twelve months following Project effectiveness the Government would: (a) initiate implementing the recommendations of the fertilizer consumption study (para 6.03 (c) above), as may be agreed following discussions with IDA; and (b) submit to IDA for review and comments an interim report of the study proposed under para 6.03 (b) above. 6.05 Within eighteen months following Project effectiveness the Government would: (a) submit to IDA for review and comments the final report of the study proposed under para 6.03 (b) above. 6.06 Within twenty-four months following Project effectiveness the Government would; (a) implement the recommendations of the study proposed under para 6.03 (b) above, with special reference to improving the effi- ciency of Namboard and PCUs, and allowing a broad-based parti- cipation by the private sector in the marketing of maize and distribution of fertilizers, with Namboard playing the role of the buyer and seller of last resort. 6.07 Prior to Project effectiveness: (a) The Government would: Ci) establish a Special Account in the Bank of Zambia (paxra 3.17); (ii) establish a Project Implementation Committee (PIC) in the manner and for the functions set out in paras 4.01; (b) The Bank of Zambia would: (i) draw up a set of criteria, taking into account the type and volume of business that a Trading House has been regularly carrying out during the past six years, for allocatiig foreign exchange to the various Trading Houses, and submit it to IDA for review and comments (para 4.03); (ii) establish a Project Implementation Unit (PIU) in the manner and for the functions set out in para 4.04, and appoint an Executive Officer for PIC with qualitifaction and experience acceptable to IDA (para 4.04); and (iii) submit to IDA for review and comments a proforma agreement, entailing the stipulations set out in para 4.06 above, between BOZ and Trading Houses, and implement the agreement.  - 43 - B. Recommendations 6.08 Subject to the above agreements, the proposed Project is suitable for financing by IDA. VII. CONDITIONS OF EFFECTIVENESS 7.01 The conditions set out in paras 6.06 would constitute conditions of Project's ei;e;tiveness.  _ 44 - tcnx 1 Page 1 ZA~I Zantda Ecoocc Recovery Program Relevant Actim to beTaken Actimtobe Taken Under IM Stand-by axber nroposed icIsuAtio Already Taken Arraneuts MA Credit Price ard Income 1. Uolesale aid Retail i) A meneral decitrol of i) Increed flezdbibtty 1) Adjusting the struc- Prices 'ixaesale and retail to lead settirng prices at tu of mbeat f]mr and prices ; made recently, ecoond.c levels with a bread prices to a level except for maiie meal, view to reducing aibsi- sffient to ena.r fi wheat flour and bead, dies. cost recoery. and candLes. The prices for the cotrolled ii) Adjusting the stnruc- xmrmdities are uniform te of maize and aize throughout the country meal prices to permit and crpping year; g sufficient to furthernmre, in the case cover Namboard's ard of maize, the resultant co ves' tort, price structue es rx t d storg aid allow stfficient magis other operating costs, to cover the marketing within a regionally costs. differentiated price structure. 2. Producer Prices i) Produzer prices for i) Adopting a better all the mjor agricul- price setting metbdology tulral camidities have for controlled producer been increed to levels prices, to reflect c,lose or above the 1, border-price equivalents. border-price equivalents. However, price setting ii) Initiating steps metbodongy rains towards a system whereby inla e, arxd data gua producer base poor. Me pricesare prices for maize and also uniform thra.ougcx other mjor crop6 would the coutry. becme floor prices, with Nanbogld becaing a buyer of last resort, withdn a regially differentiated price structue.  45- Page 2 3. Farm 1x*it P.lces i) Fertilizer ellinag i) Increase In price of i) Increasing fertilizer prices were incrermed fertilIzers to reduce selling prices to a level recetly but not suffi- subsidies. a RfiCien to cover ciently to cover promi- Nai,oad's and Coopera- rerit and distributim tives' procureet, costs. tawpoxt, hUlIM, storage ad otler operattng costs, witblI a regLonaly differenlated price structure. ii) I kg darges for Gov:erment's tractor bire servins itffi- ciently to ensure full cost reco%ry. ttial Reforms 4. Produce Marketing and i) Major danges were i) Allwig inceased Input ritica coupleted recently ampetiticn in the ~*erby Nari,ard hsded mgaetig of maize and over to Provincial distribxtim of ferti- Cooperative 1ILOiS (ECU) zers dwuh pzLtt1g all its intna-provincLaL participatiaa by tie functils in tie market- priaste sector. ing of maize and distri- biticn of fertiLzers. External Sector 5. Foreig Exchange i) A 42X devalUa waS i) DeValuatim ald Rates da during 1983, and a adoptiom of fleidble fledble exwharg rate exchange rate. policy bas been adopted. Fblil Finance 6. Ribc Fxpenditures i) Total adbdies to i) Re-zctiai cf hbdgetary i) Making Nmboad aid Nauiard we reduced subsidies. Cnperta fi Ualy frm K 109 udLlicn in self-d fedent by adopt- 198D to about X 84 ing maurer set out in mlIlnic in 1982; tIe 1ili) and 3(i) abote. estirted subsidies for 1983 axunt to K 36  - 46 - Annex 2 Table 1 ZAMBIA AGRICULTURAL REHABILITATION PROJECT Principal A:ricultural Imports (K Million) Percentage 1972-74 1975-80 Change Meat and Meat Preparations 6.8 1.5 -78.0 Dairy Products 6.0 4.8 -20.0 Fish and Fish Preparations 2.4 1.2 -50.0 Cereal and Cereal Preparations 1/ 9.6 17.3 +80.0 Fruits and Vegetables 2.3 1.2 -47.8 Sugar and Sugar Preparations 0.5 - - Beverages and Spices 2.4 2.5 +4.2 Natural Textile Fibre 0.7 0.4 -42.9 Vegetable Oils and Fats 5.0 8.9 +78.0 Animal Feed Stuff 2.1 3.2 +52.4 37.8 41.0 +5.9 1/ Mostly wheat.  47 _ Annex 2 Table 2 Official Producer Priceo For Major Crqos Md%a) Harvest Year Unit 1970 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 Ceres Nulie 90 kg 3.50 4.30 5.00 6.30 6.30 6.80 9.00 11.70 13.50 16.00 18.30 24.50 Whene 90 kg - - 16.00 16.00 16.00 20.00 2D.O0 2.00 26.00 32.00 35.75 42.50 Paddy Rice 80 kg - 12.00 12.0D 14.40 14.40 14.40 16.00 18.0D 18.60 28.oD 40.OD 40.00 Saco=xn W90 kg 4.70 5.00 6.00 6.00 6.00 6.00 6.00 6.00 9.00 9.00 16.00 18.00 millet 90 kg 29.00 29.60 B-rley 90 kg 35.75 42.50 cassava 1 kg 0.15 0.20 011 r1 Seds Soya BEan 90 kg 3.20 13.20 13.20 17.0O 17.00 21.50 25.00 32.00 36.30 42.31 45.30 52.50 Sxfloer 50 kg 2.45 8.95 9.40 10.00 10.00 12.50 13.70 16.40 17.60 20.75 21.50 21.50 OMGra (Sheljled) 80 kg 10.20 17.00 17.00 25.00 25.00 28.60 32.00 35.00 42.70 48.00 52.00 65.00 Seed Cotton I/ 1 kg 0.08 0.25 0.30 0.40 0.40 0.46 0.46 0.46 0.46 0.47 Vi'd&a Tobaeo 2/ 1 kg 0.63 0.99 0.81 L.0O 0.98 1.29 1.51 1.57 1.65 2.40 2.70 2.80 Sbgasrcne Mr 6.60 8.40 8.90 10.90 10.90 10.90 12.30 13.47 18.00 n.a. nua. n.a. Fresh MLlk 2/ 1 lltre 0.08 0.10 0.11 0.15 0.15 0.21 0.24 0.23 0.28 0.43 0.47 0.52 Beef Cattle 3/ heed 83.97 NWA N/A NIA N/A N/A N/A N/A 251.00 273.00 N/A N/A 1/ bm*a QJzry HaM-PJdwd Prie. 2/ Average Prlce. 3/ Anerage Cant. Prime for LMve Cattle.  -48 - -zhmc 2 Miie 3 Naketed Agdtetnra1 Pbodtm TAcPe by OffiCIAl (ils Qktdcr TOM) Hariwt Year 1970 1974 1975 1976 1977 1978 1979 1980 1981 1982 Careas 132,000 588,000 559,000 750,000 696,000 582,000 336,00 382,000 693,000 508,000 - - 934 3,948 5,324 5,251 6,528 9,584 11,478 n.a. PEddy Rim 93 357 1,009 2,093 1,860 2,925 1,852 2,213 2,673 n.a. 01 E irg Seeds Soya Beet - 37 367 604 1,274 1,187 1,295 3,531 3,673 z.a6 Suflcuer - 4,000 8,242 15,964 13,320 7,551 11,919 17,238 19,223 20,350 0ronxmts (&elled) 3,601 3,626 6,499 9,467 7,462 2,234 2,737 2,028 1,320 704 S1 Cottix 5,446 2,173 2,602 3,884 8,928 8,430 14,916 22,913 16,752 12,784 S-gr Cane 321,000 570,000 768,000 780,000 691,000 775,000 888,000 920,000 893,000 1,010,C00 Vlxgirda Tobacc 4,795 6,301 6,466 6,2L2 5,588 3,7014 4,591 4,127 2,319 1,869 Erle Tbacci 388 501 502 212 311 264 381 554 665 704 Roested Coffee 6 11 24 33 44 77 24 2B 40 nea. Tea Iea - - - 10 81 144 249 314 na. n.ea Fresh- MUk 45,000 49,500 50,070 50,000 48,000 48,000 50,180 53,670 55,300 n.a. Beef Cattle (HEad, 000's) Total Slaazgn*r1n 68.4 80.1 71.7 77.6 71.5 67.7 88.6 92.4 100.1 n.a. Cold Storage Board 35.9 28.0 18.2 18.7 23.9 18.9 19.7 15.9 13.8 nua. Plg S3azletW 31.9 44.3 55.5 50.2 35.8 42.4 48.4 47.9 37.7 n.a.  - 49 - Annex 3 Page 1 ZAMBIA AGRICULTURAL REHABILITATION PROJECT Implementation Schedule for Policy Reforms and Other Measures 1. Pricing Policy A. Before Board presentation: (a) increase the price of wheat product by at least 22%, or decontrol such prices; (b) increase the charges for Government tractor hire services to cover at least 50% of the amount needed to attain full cost recovery; and (c) formulate a price setting methodology for producer prices so as to relate such prices to the board-price equivalents; B. After Project Effectiteness: Ca) within six (6) months following Project effectiveness: adopt a pricing methodology for producer prices which relates such prices to the border-price equivalents as relevant; (b) further adjust, gradually or otherwise, the price of wheat products, if not yet decontrolled, and charges 'or Government tractor hire services to achieve full cost recovery not later than end of August 1986, and thus maintain them thereafter. Cc) allow PCUs and Namboard, with regard to the marketing of maize and distribution of fertilizers, and within regionally differentiated price structure, sufficient margins to cover: (i) not later than May 1985, at least one-third of the amounts needed to attain full cost recovery; (ii) not later than May 1986, at least two-thirds of the amount similarly needed, and; MiU