Nepal - Third Highway Project

Document of The World Bank FOR OmCIA USE ONLY Report Ne. P-3867-NEP REPORT AND RECOMMENDATION OF THE PRESIDENT OF THE INTERNATIONAL DEVELOPMENT ASSOCIATION TO THE EXECUTIVE DIRECTORS ON A PROPOSED CREDIT OF SDR 44.7 MILLION TO THE KINGDOM OF NEPAL FOR A THIRD HIGHWAY PROJECT August 9, 1984 This document has a restricted distribtiom and may be ued by recipients only in the performance of their official duties. Its contents may not odtrwise be discloed witbout World Bank authorization.  CURRENCY EOUIVALENTS US$1 MRs 15.8 (Xay 1984) NR 1 US$0.063 ABBREVIATIONS ADB - sian Development Bank ADT Average Daily Traffic DOR - Department of Roads HMG - His Majesty's Government of Nepal .MJT Ministry of Works and Transport NTC National Transport Corporation ODA = Overseas Development Administration SFD Saudi Fund for Development UNITS AND) MEASURES 1 meter (m) - 3.28 feet 1 kilometer (km) = 0.62 mile FISCAL YEAR July 16 - July 15  FOR 0CIL USE ONLY NEAL THIRD HIGHWAY PROJECT Credit and Project Summary Borrower: Kingdom of Nepal Amount: SDR 44.7 million (US$47.5 million equivalent) Terms: Standard Project The project would provide a means to integrate the far DescriDtion: western part of Nepal with the rest of the country through completion of an all-weather East-West Highway; to improve traffic conditions between Kathmandu and Birganj at the Indian border through selective rehabilitation of bridges and road pavements; and to strengthen the construction and maiatenance capability of the Borrower. It would construct about 204 km of the East-West Righway including a bridge over Karnali (Chisapani) River and feeder roads, rehabilitate about 82 km of the Mugling-Naubise road, provide maintenance equipment, technical assistance and training. The major project benefits would be (a) the integration of the far western part of Nepal with the country's economy; (b) increased realization of benefits from investments in agricultural production in the western region; and Cc) reduced cost of road maintenance and operation of vehicles through road rehabilitation on the major road link with India. Risks related to construction delays would be minimized through provision for construction supervision during all stages. Estimated Cost: a/ Item US$ Millions Foreign Local Total East-West Highway 42.6 15.3 57.9 Road Rehabilitation 10.7 3.8 14.4 Institution Building and Road Maintenance 4.8 - 4.8 TOTAL BASE COST 58.0 19.1 77.1 Physical Contingencies 5.9 2.1 8.0 Price Contingencies 23.0 7.9 30.9 TOTAL PROJECT COST 86.9 29.1 116.0 a/ Includes taxes and duties of about US$13.1 million equivalent. I This document has a restricted distribution and may be used by recipients only in the performance of tbeir official duties. Its contents may not otherwiSe be disclosed without World Bank authorization.  -ii- Financing Plan: USS Millions Foreign Local Total IDA 45.3 2.2 47.5 Saudi Fund for Development 27.1 3.7 30.8 ODA (UK) 14.5 5.2 19.7 mm - 18.0 18.0 86.9 29.1 116.0 Estimated Disbursements: USS Millions IDA FY 1985 1986 1987 1988 1989 Annual 3.98 7.38 13.14 13.35 9.65 Cumulative 3.98 11.36 24.50 37.85 47.50 Rate of Return: 16 percent Staff Appraisal Report: No. 4763-NEP, dated August 9, 1984 MAO: IBRD 17132R  INTERNATIONAL DEVELOPMENT ASSOCIATION REPORT AND RECOMMENDATION OF THE PRESIDENT OF THE ASSOCIATION TO THE EXECUTIVE DIRECTORS ON A PROPOSED CREDIT TO THE KINGDOM OF NEPAL FOR A THIRD HIGHWAY PROJECT 1. I submit the following report and recommendation on a proposed development credit to the Kingdom of Nepal for SDRs 44.7 million (US$47.5 million equivalent) on standard IDA terms to help finance a Third Highway Project. The cofinanciers of the project are the Saudi Fund for Development (SFD) with a loan of USS30.8 million equivalent and the Overseas Development Administration (ODA) with a grant of US$19.7 million equivalent. PART I - THE ECONOMY 1/ 2. The most recent economic report, Nepal: Recent Develcpments and Selected Is6ues in Trade Promotion (Report No. 4663-NEP), was distributed to the Executive Directors on October 19, 1983. The principal features and recent performance of the economy are described below. Country data are shown in Annex I. 3. Nepal is one of the least developed countries in the world. Per capita income is estimated at US$157 (1982/83) and health and education gtandards are below the average for South Asia: life expectancy at birth is only about 45 years; infant mortality, about 148 per thousand; and adult literacy, only 19 percent. The population, estimated to be 15.8 million (1982/83), grew at a rate of about 2.6 percent per year during 1971 and 1981. About 95 percent of the population live in rural areas. 4. Population density with respect to arable land (356 per sq km) has reached very high levels, and cultivation has been extended on to marginal lands and forests. Forests have been further denuded to meet the growing demand for fuelwood, on which Nepal depends for over 90 percent of its energy consumption, mostly for household cooking and heating. On account of deforestation and excessive grazing on the hills and mountains, with high rainfall, there is accelerated soil erosion leading to silting of rivers, downstream flooding and loss of agricultural productivity all along. 5. Agriculture, largely rainfed, still accounts for nearly 60 percent of Nepal's GDP and 80 percent of merchandise exports, and provides the main source of livelihood to over 90 percent of the population. Crop production accounts for about 60 percent of agricultural output, livestock for 30 1/ Substantially unchanged from the Karnali Preparation Project Phase I (Report No. P-3737-NEP) of March 1, 1984.  percent, and forestry for 10 percent. Paddy is the principal food crop (planted on about half of the total cropped area), followed by maize, wheat, millet and barley. Cash crops (oilseeds, jute, sugarcane and tobacco) are grown on about 10 percent of the cropped area. About 15 percent of total rural incomes rise from non-agricultural activities, of which the cottage industry subsector is one of the more important generating employment for over one million people on a part-cime basis. 6. Apart frm= agricultural land, Nepal's only other important exploitable resources are hydropower and tourist attractions. The exploita- tion of the vast hydropower resources beyond that required to satisfy the country's own power demand, however, will depend crucially orn Nepal's ability to enter complex financial, exploitation and export agreements with neighbor- ing countries. The tourism sector, based on Nepal's mountain environment and its rich cultural heritage, has been dynamic, though it accounts for only about 1 percent of GDP. Tourism now provides about 20 percent of the country's foreign excharge earnings. About 60 percent of earnings from tourism are retained in Nepal. 7. Following centuries of self-imposed isolation, efforts to develop the economy of Nepal began in the mid-1950s against extremely heavy odds. The country had virtually no physical infrastructure, an ancient administrative system, and very limited educational and health services. The resource base is relatively narrow and its development hindered by the difficult topography and landlocked position. Against this background, Nepal's primary develop- ment objective for 20 years, between 1955 and 1975, was to build basic infrastructure and lay the groundwork for future economic growth. The country has made good progress in pursuit of that objective. It now has a basic road network linking many economic centers. Kathmandu and a few other tow-ns have basic utilities and public transport. Schools have been built for almost half of the primary school age children and there are a number of high schools and a national university. A rudimentary hospital system, including rural health posts, has been built. Some progress has also been made in establishing the institutional framework for agricultural ard industrial development, including extension and research activities, financial institu- tions and industrial enterprises. Yet in all these areas, the country has a long way to go to achieve a level of development comparable to other develop- ing countries; for example, the public and private 'nst'tutions in Nepal must continue to expand and upgrade essential physical facilities, acquire the necessary expertise in handling economic and financial affairs, build up adequate technical and managerial cadres, and establish merit-based systems of personnel management. 8. The Fifth Plan (1975/76-1979/80) marked a shift in development objectives, with increased emphasis being placed on acceleration of economic growth, employment creation, and raising the living standards of the population. These objectives have been reiterated in the Sixth Plan (1980/81-1984/85). Moreover, the stated strategy of the Sixth Plan quite appropriately (a) accords high priority to developing agriculture, small- scale industries and Nepal's abundant water resources; (b) stresses soil conservation and population control; and (c) emphasizes full utilization of existing infrastructure and alleviation of absorptive capacity constraints, including human resource development. The development strategy also calls for increased involvement of the private sector in agriculture, manufacturing, trade, tourism, construction and transport operations.  -3- Investment expenditures, supported by growing foreign assistance, have increased rapidly over the last two Plans, from USS146 million (9 percent of GDP) in 1974/75 to about US$390 million (15 percent of GDP) in 1981/82, and there have been substantial shifts in the composition of spending away from transport to agriculture, power and social services. GDP growth, however, has barely kept up with that of population. 9. Part of the explanation for this stagnation lies in factors beyond Nepal's control such as the difficult topography and the poor resource base. But factors within Nepal's control have also contributed. Severe project implementation problems have been encountered by Government and donors alike in most sectors of the economy, thereby lowering the rate of growth of capi- tal formation. In addition, the expected returns on those investments which took place often did not materialize largely because necessary complementary investments or current spending were lacking, and because of managerial deficiencies. A good example is the agriculture sector. In the past, insuf- ficient attention was paid to bringing water down to the farm level and this was compounded by inadequate support services such as extension and research, by the lack of timely supplies of improved seed, fertilizer and other inputs such as credit, by the lack of farm-to-market roads, and by very low producer margins. Future development of irrigation and agriculture would therefore need to emphasize complementary investments, improvements in agricultural input supplies and adequate producer margins. 10. The shortage of funds for current spending needs to be addressed by further efforts at domestic resource mobilization. In recent years, Nepal's efforts to mobilize resources have focussed on tightening income tax assess- ment and collection; on discretionary measures largely in the area of indirect taxes; and on reducing subsidies to public enterprises. While there has, as a result, been a steady increase in revenues, the tax structure remain inelastic. Some scope exists for increasing Nepal's tax elasticity by shifting items on the indirect tax schedules from a specific to an ad valorem basis. There also seems to be scope for increasing yields from the land tax, urban property taxes and income taxes. 11. Over the past two years, several positive steps have been taken to strengthen public sector management. These steps have included increases in the traditionally low civil service salaries, establishment of public service training facilities, simDlification of budgetary procedures accompanied by stricter enforcement of expenditure ac^ounting, and granting of more autonomy to public enterprises in matters concerning personnel and pricing policies. The implementation of these administrative reforms would have to be pursued by a high-level monitoring of important administrative issues such as appointment of competent staff, job security and decision-making authority. Also, public enterprise reform needs to be pursued by measures aimed at reducing costs and increasing efficiency. In this regard, the Government has taken initial steps, subjecting public enterprises to increased competition from the private sector through l-beralization of licensing in industry, transport and small-scale hydropower generation. At the same time, the Government has involved the private sector in the ownership and control of public enterprises through the sale of shares to private investors. 12. Because of slow economic growth, Nepal's balance of payments has been characterized by widening trade deficits, partly offset by surpluses from invisibles. The current account deficit (averaging USS100 million annually  -4- during 1979/80-1981/82) has traditionally been more than macched by inflows of official grants and concessional loans (averaging US$128 million annually during 1979/80-1981/82), leading to surpluses in the overall balance of payments in most years. Nevertheless, foreign exchange reserves have declined from being equivalent to about one year of imports in the early 1970s to six months in 1982, and four moaths in mid-1983. 13. To sustain and further develop its economy, Nepal must mobilize additional free foreign exchange through export promotion and efficient i=port substitution. Improving agricultural production, rural incomes and food distribution within the country is a major way of doing so, if only to avoid the need to import and distribute large quantities of foodgrains in the future. Agricultural development also remains the key to a gradual expansion of Nepal's traditional merchandise exports. In addition, development of energy resources is a major means to strengthening the balance of payments by reducing the need to import fuel and opening up an export potential. Recently, Nepal has legislated a wide range of fiscal and administrative incentives for industrial investors and exporters, particularly in the private sector. The implementation of these incentives, and the alleviation of the severe transport and transit constraints facing the country's trade sector, must constitute essential elements of a trade promotion strategy for Nepal. 14. Nepal is faced with highly challenging prospects and tasks in addressing its multiple long-term development problems. While it attempts to mobilize domestic resource to finance about 40-50 percent of development expenditures, external assistance, at concessional terms, will continue to be a vital factor in financing investment and effecting economic growth. In the last three years, aid commitments to Nepal have averaged about USS250 million per year, almost entirely in the form of grants and concessional credits with grant elements in excess of 70 percent. Aid disbursements have grown from about USS110 million in 1979/80 to an estimated USS175 million in 1982/83. Nearly 70 percent of total aid disbursements have come from members of the Nepal Aid Group, formed in 1976 and aow comprising eight DAC countries and four multilateral agencies. 15. At the end of fiscal year 1983, Nepal's official foreign debt out- standing will have been expected to amount to US$340 million. As virtually all loans have been concessional, debt service payments, including payments to the IMF, have remained small in relation to exports of goods and services. In 1983/84, debt service payments will amount to about USS18 million, equiv- alent to 6 percent of exports of goods and services. Over the medium term, these payments are projected to remain at less than 10 percent of Nepal's exports of goods and services. PART II - BANM GROUP OPERATIONS IN NEPAL 16. 3ank Group operations in Nepal began in 1969 with an IDA credit of USS1.7 million equivalent for a telecommunications project. Since then, 35 additional credits have been approved, bringing total IDA assistance to Nepal to USS500.3 million equivalent, net of cancellations. In view of Nepal's many develoDment needs, this assistance has been for projects in a wide variety of sectors. Six of these sectors account for about 87 percent of  -5- IDA credits by original amount: irrigation/agriculture (US$173.0 million for 14 projects); water supply and sewerage (US$46.8 million for 3 projects); power and energy (US$168.0 million for a projects); telecommunications (US$21.7 million for 3 projects); highways (US$19.5 million for 2 projects); and rural development (US$19.0 million for 2 projects). The- proposed credit would be the first in FY85. No Bank loans have been made to Nepal. IFC made its first investment in Nepal (US$3.1 million) in a hotel project in Kathmandu in 1975. In addition, IFC approved a loan of US$5.6 million equiv- alent to Nepal Orind Magnesite (Private) Limited (a private company) in March 1982. The loan has helped finance a US$24.9 million project to mine and process magnesite ore. Annex II contains a summary statement of IDA credits and IFC operations as of March 31, 1984. 17. Bank Group lending to Nepal so far has been modest compared to the country's need for external assistance. The international community has shown considerable interest in Nepal's economic development and, to date, the shortage of funds has not been a major bottleneck. The main constraint on the utilization of increased aid has been Nepal's limited absorptive capacity, affecting the pace of project preparation and implementation. The Bank Group has provided assistance to the Government in project preparation through two Technical Assistance Credits (Credit Nos. 659-NEP and 1379-NEP) and by acting as Executing Agency for a number of technical assistance projects financed by UNDP. Furthermore, the present Resident Representative ia Kathmandu has had a significant impact in improving project implementation performance. As a result, the rate of disbursements is improving: during FY82, FY83, and FY84, USS28.5, US$37.4, US$26.0 million equivalent, respectively, was disbursed compared to an annual average disbursement of about US$17 million during the previous five fiscal years. Project comple- tion reports have been prepared for six projects: First Telecommunications (Credit No. 156-NEP), First Highways (Credit No. 223-NEP), Tourism (Credit No. 291-NEP), Birganj Irrigation (Credit No. 373-NEP), Settlement Project (Credit No. 505-NEP), and Bhairawa-Lumbini (Credit No. 654). 18. The Bank Group's current lending strategy places emphasis on assist- ing the Government in its efforts to contain the high level of population growth, address major constraints in the country's development of human resources and promote agricultural development. Selected infrastructure investments, mostly in transport, telecommunications and power, will also be undertaken to alleviate serious development constraints. In population, a project is being prepared by the Government and there is donor interest to cofinance various components. For the development of human resources, IDA has recently financed a primary education project. Other IDA-supported activities under preparation include agricultural manpower, engineering education, vocational and secondary education projects. For agriculture, the basic objective is to assist Nepal maintain overall foodgrain self- sufficiency and, where possible, promote exports of agricultural products and encourage aff-orestation efforts. Projects under preparation would extend the assistance provided so far by building irrigation infrastructure mainly in the Terai to increase paddy production and help reduce the food deficits in the Hills. Both would be accomplished through irrigation and rural develop- ment projects which would emphasize increased food production and through specific Hill food projects.  -6- PART III - THE TRANSPORT SECTOR 19. Historically, transport in Nepal has been by porters and, to a lesser extent, by pack animals. Although these means of transportation are still important, a road network began to develop in the country in the 1950s, with the Government's emphasis on building infrastructure. In the Terai, it started with an east-west connection, and in the Kathmandu Valley with access to the Indian border in the south and the Chinese border in the north. To complement this developing network, numerous alrports and short-takeoff-and- landing airfields have been built in various parts of the country. 20. In the past, transport demand has been local in nature, limited to commerce between adjacent villages and rural areas in the hills. Growth of settlement in the Terai with the consequent increase of trade with India has resulted in an Increase in the transport demand in a north-south direction. While exports to India cross the border at many points, most imports from India and other places enter Nepal through Birganj/Raxaul, and shipments destined for Kathmandu are increasing. The transport demand is now growing in an east-west direction because of recent emphasis the Government has placed on integration of the country and development of the east-west highway system. 21. Transport by railroad, ropeway and waterway is insignificant in Nepal. There are three separate narrow gauge railway lines with a total length of 89 km; two of which are connected to the Indian Railways. The third is used seasonally to transport materials to maintain the Kosi Barrage. The only ropeway, between Kathmandu and Retauda, has a length of 42 km, and hand-les about 30,000 tons of goods annually. Because of mountainous terrain, high fluctuations of seasonal flows of the rivers and their draft conditions, use of waterways in Nepal is negligible. Coordination 22. All modern modes of transport are regulated and/or operated by the Ministry of Works and Transport (MWT). In the 1970s, some assistance in transport planning was provided by a transport economist financed by the UNDP. Because of the relative infancy of the transport system and the dominant position of roads, problems of intermodal competition are minimal. Proposed investment plans are reviewed by the Planning Commission and final approval for implementation rests with the Ninistry of Finance. Transport Regulation 23. Licensing restrictions on trucks and buses are few. The government- owned National Transport Corporation (NTC) sets passenger fares, which are periodically reviewed and revised upward, but does not regulate road freight rates. Regulations governing vehicle weights and dimensions presently do not exist; however, ADB is financing a brief survey of the system of road user charges and the findings will be reviewed by the Bank with a view to design- ing a follow-up study on appropriate charges (para. 32). NTC operates a popular and financially viable trolley bus service in the Kathmandu Valley. NTC also, in direct competition with the private sector, provides extensive  -7- trucking services for government cargo carried between Kathmandu and the major transport crossings from India. In the past, NTC's truck operations have been impaired by neglect and poor management. Under a UNDP-financed Road Transport Development Project, efforts are being made to bring about improvements and reduce financial losses. There has already been some progress in this area. The Association believes there is further room for improvement and has asked NTC to collect detailed operating statistics in order to help pinpoint specific problem areas. Some of these issues will be examined in a containerization study scheduled to commence in the fall of 1984. Among other objectives, this study will also define NTC's role, propose how to improve its financial/operational performance and suggest ways to strengthen the staff. The Highway Subsector 24. Although road transport dominates the sector, the total road network is still very small relative to the size of the country. The road network currently consists of a total of 5,546 km of which 2,484 are paved, 830 are gravel, and 2,232 are unimproved earth roads. The surfaced roads and a large portion of the earth roads are managed by the Department of Roads (DOR) under the Ministry of Works and Transport; the remainder of the earth roads are managed by the local panchayats. The three main national highways are: (a) the north-south road from Kathmandu to the Indian border at Birganj (Raxaul) and north to the Chinese border; (b) the north-south road connecting Bhairawa near the Indian border with Pokhara which is connected with Kathmandu to its east; and (c) the East-West Highway in the Terai which, when completed, would traverse the entire breadth of the country. A number of roads in the Terai are not connected to the basic system and vast areas of the hills and moun- tains are not served by roads at all. 25. Road traffic in Nepal has been growing at the rate of about 5 to 8 percent annually during the past years, with the rate varying on different roads. The average daily traffic (ADT) on the most heavily used road, Birganj-Hetauda (north-south), is 500 vehicles; for rural roads ADT is about 100-150 vehicles. Available vehicle registration statistics indicate the presence of about 36,000 vehicles in Nepal, of which 50 percent are trucks and buses. With no information on scrapping being available, it is probable that about two-thirds of the registered vehicles are operating. Institutional Aspects 26. DOR is responsible for the construction, maintenance and planning of all national roads. DOR has recently been decentralized in order to better enable it to administer and oversee bilateral and multilateral projects scattered throughout the country with a phased expansion plan to match the growth of the network. However, staff performance has sufferred because of low compensation and frequent reassignments. 27. There is a need for a greater number of qualified professional staff as well as trained personnel at the lower levels to plan, program and manage road development projects and maintain them properly. UNDP has a project to train mechanics which is being implemented by ILO, and IDA is financing the equipment required for this training under the Second Highway Credit. ODA, after financing construction of two sections of the East-West Highway, has agreed with DIG to establish and finance for a three-year period a road  -8- remedial works unit to undertake major repair of those sections. Consultants will implement the project and their services will be complemented by coun- terpart st3ff from DOR. This project will be a valuable venue for practical in-service training in maintenance procedures for DOR staff at operational levels. Planning and Finance 28. Planning in the highway sector (excluding panchayat roads) is the responsibilicy of DOR, the National Planning Commission, and the Xinistry of Finance. Priorities are to integrate the eastern and western parts of the country into t'ne national economy (i.e., complecion of the East-West Highway), and to provide access to the hill areas. DOR's budget is based on an annual allocation under the five-year plan. For FY83 (che latest figures available), the budget was XRs 910 million (USS58.0 million equivalent) including funds from muLtilateral and bilateral agencies; it included NRs 25 million for routine road maintenance and NRs 141.2 million for periodic and emergency maintenance. Revenues are derived mainly from custom duties on vehicles and fuel, vehicle taxes, licenses and road cess. Design and Construction 29. The Design Section of DOR is generally well-equipped to handle hill road programs and minor projects; major projects are handled by foreign consultants. Large projects, which attract foreign contracting firms, are also usually implemented through them. There has been limited development of the local contracting industry. The largest domestic construction firm, -National Construction Company of Nepal, is a parastatal organization which dominates the local market for civil works. However, despite its advantages of being one of the largest construction firms in the country and government linanced, its performance, particularly in road construction, has not been satisfactory. An assessment of Nepal's construction industry was made by the Bank in 1977/78 and updated in 1983. The principal recommendations for development of the construction industry made in the report were: appropriately packaged contracts, easier lending requirement for guarantees, easier credit facilities for contractors, and availability of equipment rental pool. DOR's ability to implement these recommendations has been constrained by limited resources. However, HMG has recently approached the German Government for assistance in strengthening the construction industry. Maintenance 30. Extremes of topography and climatic conditions make maintenance of the road network in Nepal very difficult. As a consequence of the increasing workload and DOR's past inability to cope with it effectively, some sections of the key roads in Nepal cannot be restored to good condition without exten- sive rehabilitation or reconstruction as proposed in this project. Additionally, with decentralization, DOR is also facing critical shortages of equipment and skilled manpower. Both of these problems are addressed by the oroposed project. 31. In spite of recent increases in the road maintenance budget (para. 28), the latter is still inadequate. The present condition of the network and anticipated wear and tear of the road due to movement of heavily- laden traffic from India, indicate an urgent need to increase the current  allocatioa for Maintenance. For fiscal year 1983, the Government allocated NI.s 25 million =or routine maintenance along with NRs 141.2 million for periodic and emergency maintenance. HIG agreed to set aside NRs 40 million nore in FY35 for routine maintenance. To enscure a reasonable share of main- .enance in the general budget in the future and to bring annual allocations more in line -with actual needs, -'G has agreed that by each March 31, begin- ning on 1arch 31, 1985, it- will estabLish, in consultation with the Association, a satisfactory level of annual allocation for road maiatenance (Section 4.03(a), Develoeant Credit Agreement). 32. 'With operation of more vehicles in the highway system there would be Treater need for its maintenance and opportunity should be taken now to retrieve from the operators a proportion of the cost of maintenance. To this end, a policy of annually taxing heavy vehicles according to their unladen zwe`ghts should be considered for all Nepalese operators, with suitable arrangements made to capture revenues from foreign truckers. The Asian Development Bank is currently financing a review of road user charges, col- lection methods, payments for different vehicle types in relation to axle weights, and t;he relationships between road revenues and expenditures. When the findings of the IflB-financed study are available, a tripartite review will be undertaken by HNG, ADB and IDA to determine how best to carry out a follow-up study on appropriate levels and structure of charges, as well as improved collection methods. Bank ZxDerience in the Sector 33. The proposed credit would be the third IDA operation for transport in Nepal, the previous two also being for roads. The first, Credit No. 223-NIEP (USS2.5 million), effective in February 1971, financed the replacement of five narrow, understrength road bridges, the construction of five pedestrian suspension bridges for porter traffic, a four-year road maintenance program and consulting services and technical assistance. The project was satisfac- torily completed in June 1977 but not without considerable delays due to shortages oc materials and inefficiencies in administration. 34. The second, Credit 730-NNE? (USS17.0 aillion), still in progress, is anticipated to close in December 1984. It comprises the upgrading of about 18 km of a mountainous section of the main road from India to Kathmandu, the construction of about 50 k= of feeder roads, the procurement of construction equipment for use by the feeder road contractars, consultancy services for technical and ecoaomic studies of further roads and a training program for mechanics. The civil works component is almost completed. Ull the equipment has been procured and is in use, and the consultants' studies have been made, sone of which form the basis of the presently proposed project. PART IV - THE PROJECT 35. Engineeriag of the East-West iighway component of the project was carried out by Norconsulz (Norway) in the basis of their feasibility study. Design of the 46 Km of highway to the east uas prepared by McDonald and Partners (UK) in oarallel with their design of the Babai Irrigation Project, which is under consi-deration for possible IDA financing. This arrangement was so made as it was felt at the rime of appraisal that the 3abai scheme  -10- would be implemented coasiderablY in advance of the proposed Third Highway Project and par: of the highway would be needed to provide access to the irrigation canal works as they both share a common right of way. The design of the Karnali Bridge has been prepared by Steinmani, Boynton, Groncuist and 3irdsall (USA). The preliminary engineering and economic studies of the road rehabilitation component were carried out by N.D. Lea (Canada), who is also expected to prepare the final engineering and render documents. A report entitled Nezal - Third Highwav Project: Staff Anoraisal Reoort (Nc. 4763-REP) is beiag distributed separately. Techaical discussions were held in Washington, D.C. from April 12-16, and the negotiations on April 17. 1984. MLr. K. D. AdhLikary, Secretary. Ministrv of Finance. reoresented His MaJesty's Govern-ent ac the technical discussions; and Xr. I.B. Shrestha, Special Secretary, NIinisrry of Law and justice headed the delegation for the negotiations. Project Objectives 36. The main objectives of the project are: (a) to provide a dependable means of integrating the far west of the country into the national economy, through the completion of an all-w-eather East-West Highway and feeder roads; (b) to improve traffic conditions betweea Kathmandu and Birganj near the Indiaa border by the selective rehabilitation of bridges and roads; and Cc) to strengthen the operations and administration of DOR; in particular, to improve its capability to implement and monitor both road maiatenance and the project coaponents by providing it with technical assistance, equipment and training. Project DescriDtion 37. The project consists of the following: (a) completion of Nepal's East-West Highway through the construction of' approximately 204 km of the final western section from Kohalpur to the border with india at the Mahakali River, including a major bridge over the Karnali River at Chisapani. (b) construction of about 60 km of feeder roads linking the main areas of agricultural production in the influence areas of the Karnali River northwards to the project road; (c) rehabilitation/=aintenance of about 82 km of the Lsthmandu-3irganj road, including selected bridges; (d) procurement of equipment for road saintenance and a materials laboratory, off-ice equipment and inspection vehicles; and (e) technical assistance and training. 38. The Sast-West Highway when completed, with a length of about 1,040 km, will span the -whole breadth of Nepal. About 850 km of this road nas  -11- alreadv been built with assistance from India, the Soviet Union, UK and the US. In a section of this length, a major bridge over the Rapti River was seriously damaged bv flooding during construction. EHG has confirmed that work for reconstruction of the bridge is under way. HNG agreed that the reconstruction of the bridge would be completed prior to the completion of construction of the portion of the East-West Highway under the proposed project (Section 3.03, Development Credit Agreement). Completion of the last 204 km between Kohalpur and Mahakali will open the far western pact of the country to all-weather access from Kathmandu. Presently, such access is only in the dry season through limited air transport and jeeps or through India. The road alignment skirts north of the Terai and following the Siwalik foothills crosses the Karnali River at the Chisapani gorge, where a major bridge -would be built. The alignment would cross the Xarnali Wild Life Reserve for about 15 km to the east of the Karnali River. An adequate action plan involving such controls as entry and exit posts, limitations on night- travel, monitoring of road traffic, provision of unierpasses, etc. has been agreed between DOR and the Department of Wild Life. Enactment of appropriate legislation by HEG to implement the conservancy measures under the plan would be a condition of effectiveness of the proposed credit (Section 6.01'd), Development Credit Agreement). The project also provides for construction of a network of gravel surfaced feeder roads west of the Karnali River to provide access to the highway from the more populated areas to the south. 39. Nepal's principal land link with the south runs from its border with India near Birganj northwards to the junction with the East-West Righway at Hetauda, west along that route to Narayangarh, north to Xugling and then east to Kathmandu via Naubise and Thankot. While some sections of the road are in fairly good condition, others are nor. The surface of Birganj-Hetauda road is broken and deformed; five bridges on this road are more than fifty years old and need replacement. The project will rehabilitate this section of the road and reconstruct the bridges. It will rehabilitate and improve the road seccion between Naubise and Mugling whose pavement is structurally deficient and has insufficient width. It will also rehabilitate two bridges on the Thankot-Naubise road which are structurally deficient and have inadequate access for larger vehicles. 40. The project provides for the purchase of equipment for road main- tenance and repair. A list of equipment needed for effective execution of road rehabilitation and maintenance work has been agreed with DOR. Equipment would also be provided for several materials testing laboratories (one already existing and several more to be established). For handling of routine tasks, like recording and updating of road inventory, instant iden- tification of remedial works, inventories of materials and spare parts, the project would $inance a computer for DOR. Acquisition of the computer would help DOR with its staffing shortage problems and would be very useful to its design office. 41. With an increasing workload and inadequacy of staff to cope with it, DOR is in need of expert assistance. The project, therefore, provides for 36 months of expert services for assisting DOR in the management of the road subsector. The project also provides for six months of services of an expert to assist HMG in determining how best to implement a policy of taxing heavy vehicles according to load capacity. In addition to such technical assistance, the project will also provide training to the younger profession- als of DOR in: (a) the planning, evaluation and programming of projects; (b)  -12- design and construction of projects; and (c) modern workshop practices and equipment operation, for a total of 265 months. The project would also continue the training of mechanics initiated under the Second Highway Project. The scope of the tralning would be broadened to include maintenance oa equipment and maintenance practices and techniques for supervisory personnel. Project Cost and FinancinR 42. The total cost of the project is estimated at about USSl16 million equivalent (including taxes and duties of aboutUSS13.1 million equivalent) of -which about US$86.9 million or approximately 75 percent would be in foreign exchange. The proposed MDA credit of USS47.5 million equivalent would afinance about 44 percent of the total cost exclusive of taxes and duties. The Saudi Fund for Development (SFD) has entered into an agreement with HMG to provide a loan of about USS30.8 million equivalent to finance two of the four contracts for the East-West Highway construction and construction supervision. The effectiveness of the SFD loan would be a condition of effectiveness of the proposed credit (Section 6.01(c)(d), Development Credit Agreement). -IRX would obtain by December 31, 1985, loans or grants for bridge reconstruction, road rehabilitation, and some technical assistance (Section 4.06, Development Credit Agreement). ODA has already agreed in principle to provide this support with a grant of about US$19.7 million equivalent to meet the cost of road rehabilitation. MEG will finance the remainder of the cost which would be about USS18.0 million equivalent or about 13 percent of total project cost. The project cost provides price contingencies for local costs at the rate of 9 percent in 1984, 8 percent in 1985, 7 percent in 1986, and 6 percent in 1987/88; and for foreign costs at the rate of 7.7 percent in 1984, 7.2 percent in 1985, 6.5 percent in 1986, and 6 percent in 1987/88. A 10 percent physical contingency is also included in the project costs. Project Execution 43. DOR would be responsible for project implementation. Supervision of the East-West Highway construction will be undertaken by consultants selected under the procurement policies of SFD fron a number of prequalified firms. For the overall supervx4sion of this component, ENG has constituted a board comprising the Secretary of the Ministry of Works and Transport, the Chief Engineer of DOR, the Project Manager, one representative each from the Ministry of FInance, Ministry of Law and Justice, and the Office of the Auditor-General. Supervision of the construction of the Karnali Bridge will be carried out by the consultants responsible for its design. Supervision of the ODA-financed road and bridge rehabilitation work will be carried out by the consultants selected on the teras and conditions of ODA agreement with iSG. DOR would assign key personnel to the Project Implementation Unit (PIU) by Wall 1984. PIU together with the consultants would manage and implement the entire project, as well as prepare bimonthly reports on the progress of the project for the Government, SFD and IDA. tdministrative steps to create the PIU, the assignment of the Project Manager and other key personnel to PI-U, and the appointment of the consultants for supervision of the East-West Highway construction were made conditions of effectiveness of the proposed credit (Sections 3.10 and 6.01(a)(b), Development Credit Agreement). kll foregoing conditions have already been met since negotiations, except the creation of the PIU.  -13- Procurement and Disbursement 44. The project procurement arrangements are summarized below: Procurement Method Project Elements ICB LCB Other Total Cost --USS Millions 1. Civil Works 32.24 31.18 63.42 (a) East-West Highway (24.82) (24.82) Chisapani Bridge 14.96 14.96 (11.52) (11.52) Feeder Roads 2.00 2.00 (1.54) (1.54) Supervision of 6.21 6.21 Construction (0.63) (0.63) (b) Road Rehabilitation Thangkot-Naubise Bridges 0.46 0.46 Naubise-Mugling Pavement 17.01 17.01 Birgana-Hetauda Bridges 3.00 3.00 (2.31) (2.31) Supervision 2.44 2.44 (0.18) (0.18) 2. Equipment 3.9 0.10 4.00 (3.9) (0.10) (4.00) 3. Technical Assistance 2.50 2.50 aad Training (2.50) (2.50) TOTAL 54.10 2.00 59.90 116.00 (42.55) (1.54) (3.41) (47.50) Note: Figures in parenthesis are the respective amounts financed by the Association. 45. There would be four contracts for the East-West Highway. Contracts for the two western most sections (about US$30.8 million equivalent) would be awarded under SFD procurement guidelines. The Saudi Fund would contribute about US$25.6 million towards financing of these sections. Contracts for the remaining portion of the East-West Highway (US$31.27 million equivalent), the Karnali (Chisapani) bridge (US$14.44 million equivalent), and the feeder roads (US$2.29 million equivalent) would be awarded according to IDA guidelines. Consultants for supervision of the East-West Highway coastruc- tion (US$5.22 million equivalent) to be financed by SFD would be procured under Saudi Fund guidelines. ODA would finance the cost of road rehabilita- tion (US$21.7 million equivalent) according to conditions of its agreement with HMG. Equipment for road maintenance (US$4.26 million equivalent), and goods and services for Technical Assistance and Training (fUS$2.51 million equivalent) would be procured under IDA guidelines. Ull contracts for civil works, consultant services and equipment being financed by IDA would be  -14- subject to IDA review prior to award. A preference of 7.5 percent for domes- tic contractors would be given in respect of civil works contracts. 46. Disbursements from the proceeds of the IDA credit would be made on the followi3g basis: (a) 77 percent of total expenditures for the construction of the East-West Highway, the feeder roads and the bridge over tl.. Karnali River at Chisapani, and the five bridges of the Birganj-Retauda road; (b) 100 percent of foreign expenditures for the road maintenance equipment, spare parts, and other equipment and naterials for DOR; or 100 percent of local expenditures (ex-factory cost) for locally manufactured goods; and 90 percent of local expenditures for goods procured locally (off-the-shelf); and (c) 100 percent of expenditures for consultant's services, technical assistance and training of DOR staff. The disbursement would be completed over a four and a half year period. The estimated closing date is June 30, 1990. ProJect Benefits and Risks 47. The completion of the East-West Highway would provide the only direct surface link between the far western region of Nepal and the rest of the country. The network would provide all-weather access to the fertile plains known as the Terai which has Nepal's greatest agricultural potential and to the hill people who would be able to trade in market towns which are expected to spring up along the East-West Highway. The road would benefit about one million people in the area and would assist in the growth of commodity trade between the Terai and the Hills, and movement of agricultural produce between the regions. The Government has initiated several agricultural, rural development and power projects in the far western region; their progress has been hampered due to lack of road connections. The road would provide the much needed service for transportation of goods to the area besides spreading of benefits from the investments made in the region to the neighboring areas. Major quantifiable benefits of this component of the project are increased agricultural production due to easy access to the irrigated areas, facilita- tion of development projects in the area deferred through lack of all-weather access, avoidance of the cost of airlift of goods to the area, and earnings potential from tourism. 48. The objectives of rehabilitation of roads and bridges on the Kathmandu-Birganj Highway, the principal trade route of Nepal, are to reduce vehicle operating costs and accidents, and restore a smooth running surface through rehabilitation so that routine maintenance can be performed by DOR. Major quantifiable benefits from this component are: (a) avoidance of costs for temporary bridge crossing or disruption after a collapse; (b) reduced operating costs of vehicles; and (c) reduced cost of road maintenance. 49. The Economic Rate of Return (ERR) on the East-West Highway component along with interdependent investments is 14 percent; on the road rehabilita- tion component CKathmandu-Birganj) it ranges between 14 percent and 23  -15- percent. The overall weighted average ERR of the East-West highway construc- tion and the road/bridge rehabilitation component is 16 percent. There are ao major risks ia this project. Possibilities of construction delays have been minimized by adequate provision for construction supervision. The risk analysis which takes into account the possibility of delays, as well as simultaneous variations in costs and benefits, yields an average ERR of 12 percent. PART V - LEGAL INSTRUMENT AND AUTHORITY 50. The Draft Credit Agreement between the Kingdom of Nepal and the Association and the recommendation of the Committee provided for in Article V, Section 1 (d), of the Articles of Agreement are being distributed to the Executive Directors separately. 51. Special conditions of the project are listed in Annex III. 52. 1 am satisfied that the proposed credit would comply with the Articles of Agreement of the Asso& ation. PARI VI - RECOMMENDATION 53. I recommend that the Executive Directors approve the proposed Credit. A. W. Clausen President by Ernest Stern Attachments Washington, D.C. August 9, 1984  - L6 - ANNES I Page 1 of 5 T A 3 L r 34 SEPAL - SOCIAJL SDICArnRS DATA S 51DM. M&EK4 Ga UU* t.iZGMIED AVEIasLSJ i- 505? MOCST EGEE ESTThCE) lb b CST: ; n .L NC AIML CMUSAXD Q. =1 964- L970A - ASIA 6 iCSC ASIA A PA:}tC -.=AL ;4G.d 140.1 t&o.a aGIC:L.-AL 35.3 36.a 1.2 QmP VU (0553 6a. 60.0 80.0 . 276.7 128.6 El;Mrr PM CAPTA, (CKLOGBAS OF COAL OCIVaLET) 3.0 15.0 13.0 39d.4 792.8 PiwmAnOm - vr.AL sTAx.scs POPULA7OS.flI0-YEA1 CTShOCSAS..S 9447.0 1355.0 t5029.0 L3A5 POPULATON tC: OF O-AL) 34 '.9 6.4 21.5 a2.9 POPCLAfS LIYOsAR G2 P0PrLAfloh zi rXn SOoD tau 21.2. 5O1. SAY POPL'c:04 (SL 73.3 . YLAt S-.A-OSAT POP. REACI 2155 ?PorLAt--S ENcS-:fl PE SQ. U. 67.1 80.6 L04.0 a11.7 268.7 PEU SC. ac. Scr. LAsa 267.4 308.6 355.7 363.1 1696.5 FPLPVLA7ZaOS AGE SERAUC=E CZ) 0-L- YuS 39.1 42.0 42.4 36.6 39.4 .5-6 Yas 57.4 55.u 54.6 59.2 57.2 65 A= ABOVE 3.5 3.0 3.0 4.2 3.3 POPCLCZOS CiO.d Lw' t ) OAL0-1 1.3 1.8 2.5/c ;.9 2.3 1125 4.4 6.3 5.d- 4.0 3.9 C3L00 SIX= La= (PEA 1H00S 43.6 45.5 43.6 29.3 31.3 CRIDE DEA1 BAZZ (PEA 7805) 26.5 23.7 19.8 10.9 9.6 -ns a=uuoocua:os a 2.7 3.0 3.1 2.0 2.0 FA.-.Y PL;5S ACCEPTORS. aLOat. (CflOrS) .. 37.4 :46.0d c__G_ r ,S) 0.71? 4.37; f 46.6 sEa Or .OF0 PROS. PU CAPl-.A (:969-7.-Loo) :06.3 101.0 82.0 111.; 1z5.2 PER CAPw suPP.y OF CALOZES t: OF o7rE. S) 94.0 94.0 86.0 98.1 Ii.: FEOMss (cCas PFM lALY) 51.0 5L.0 45.0 56.7 57.9 OF lar0 ASMiLAL AND 2.SE 9.0 9.0 e.0/o 13.9 14.1 CKIV CAGES :-4) aEA;g RA5E 32.6 27.1 22.5 12.2 7.6 ..E- Et?PEc. AT slifli C_EARS) 37.6 40.5 44.6 59.5 60.2 LSFSA: '0K,. LAZE (PEU -,00S) :9.5 172.5 147.7 96.6 68.l ACCESS O SAF5 ;NAZE (ZPOP) .0--L .. 2.0 att 32.9 37.1 RBAN 47. 53.0 8. 70.8 54.8 RUAL .. .. 5.0 22.2 26.4 ACCESS -0 EXCRfIA DISPOSAL (Z CF P0PL-tA:xS) .S.-AL .. 1.0 1.0Th 18.L 41.4 RRAS .. 14.0 '.4dlt 72.7 47.5 fLORAL .. .. .. '.7 33.4 POPC'Ia7IOL PER PHYS:C-AS 73800.0 51380.0/