Tunisia - Second Electrical and Mechanical Industries Project

Document of - The World Bank FOR OFFICIAL USE ONLY Report No. 5487-TUN STAFF APPRAISAL REPORT TUNISIA SECOND ELECTRICAL AND MECHANICAL INDUSTRIES PROJECT May 1, 1985 Industrial Development and Financee Division Europe, Middle East and North Africa Region This document has a restricted distribution and may be used bv reeipients only in the performance of their official duties. .ts contents may not otherwise be disclosed without World Bank authorization.  Currency Equivalents Currency Unit TunisiarL Dinar (TD) Exchange rate as of mid-December 1984 US$1.00 T D .83 TD 1.00= US91.205 Fiscal Year January 1 - December 31 List of Abbreviations API Agence de Promotion des Investissements BCMA Banque de Coopd4ration du Maghreb Arabe BCT Banque Centrale de Tunisie BDET Banque de D6veloppement Economique de Tunisie BNDA Banque Nationale de D&veloppemeut Agric-ale BNDT Banque Nationale de DUve1oppement Touristique (formerly COFIT) BTEI Banque de Tunisie et des Emirats d'Investissement BTKD Banque Tuniso-Koweitienne de DEveloppement BTQI Banque Tuniso-Qatarie d'Investissement CETINE Ceutre Technique des Industries M6caniques et Electriques CNEI Cenatre National d'Etudes Industrielles EMI Electro-Nechanical Industries ERR Economic Rate of Return FRR Financial Rate of Return INNORPI Institut National de la Normnalisation et de la Propri'etd Indus trielle I4 E Ministry of National Economy SSI Small Scale Industries STUSID SocifitE Tuniso-S4oudienne d'Investissement et de D4veloppement UBT Unitn des Banques de Tunisie  FOR OMFChiL USE ONLY TUNISIA SECOND ELECTRICAL AND MECHANICAL INDUSTRIES PROJECT STAFF APPRAISAL REPORT Table of Contents Page No. Chapter I. INTRODUCTION ...... ................. 1 Chapter II. THE MANUFACTURING SECTOR ..... .............. 2 * Structure and Performance ...................... 2 * Plan Objectives and Strategy .... ............... 6 * Recent Developments ............................ 6 * Constraints in the Manufacturing Sector ........ 7 . Bank Role in the Manufacturing Sectr ...........t 9 Chapter III. THE ELECTRO-MECHANICAL INDUSTRIES (EMIs) ........ .. 11 * Structure, Characteristics and Performance 11 * Subsectoral Patterns ............. .. ............ 13 N Market Prospects and Development Strategy ...... 15 * Investment and Pipeline .... .................... 16 * Sectoral Constraints and Issues . ............... 18 * Bank Role in the EMI Sector .................... 20 Chapter IV. THE FINANCIAL SECTOR ...... ............... ......... 22 * Overview ..................... .................. 22 * Financing of EMIs .... .......................... 24 * Study of the Financial Sector .................. 25 Chapter V. THE PROJECT'S INSTITUTIONAL FRAMEWORK ............. 27 A. Financial Intermediaries .... .................. 27 BDET ................. ...................... 27 BTKD ....................................... 37 STUSID .......... * ............. a ......... 42 B. Technical Assistance Institutions ............. 48 CETISE ...................................... 48 INNORPI .................................... 49 This report was prepared by Mr. N. Carrere and Mesdames S. Ba-N'Daw and J. Chassard-Manibog, on the basis of the findings of an appraisal mission that visited Tunisia from November 27 to December 21, 1984. This appraisal mission was composed of the authors and Messrs. P. Hanel and P. Muller (Consultants). Thi documnt has a resticted distnbution and may be used by rcipients only in t perfornnue of thei officl dutis. Its contents may not otherse be dosed without Wodd Bank authoriation.  Table of Contents (cont.) Page No. Chapter VI. THE PROJECT . ................... ............. . 51 A. Project Justification, Objectives and CoDmponents ................................................... 51 B. Financial Assistance ............................ 52 * Financing of EMI Subprojects ............. 52 . Financial and Related Covenants .......... 56 C. Support to Technical Assistance Institutions .. 57 * CETIME ..........................o.... .... 57 . INNORPI .................................................... 57 D. Project Benefits and Risks *......... ........... 58 Chapter VII. AGREEMENTS ............ * .................... ....... 60 Agreements Reached during Negotiations ......... 60 Condition of Loan Effectiveness ................ 61 Condition of Disbursement ................ ...... 61 ANNEXES 1. Investments in Manufacturing Industries (1980-84) 2. Economic Trends under the Sixth Plan (1982-86) 3. Pipeline of EMI Subprojects 4. BDET Table 1. List of shareholders (as of December 31, 1984) Table 2. Organization Chart Table 3. Summary of Operations (1980-84) Table 4. Analysis of Approvals (1980-84) Table 5. Income Statements (audited) Table 6. Balance Sheets (audited) Table 7. Ratios Table 8. Forecast of Operations Table 9. Projected Income Statements Table 10. Projected Balance Sheets Table 11. Projected Cash-Flow Statements 5. BTKD (same series of tables as above) 6. STUSID (same series of tables as above) 7. Technical Assistance Component 8. Estimated Disbursement Schedule 9. Documents in Project File  I. INTRODUCTION 1.01 This report appraises a project designed to provide financial and institutional support to Tunisia's electrical and mechanical industries (EMIs). The project is a follow-up of a first Tunisia EMI Project 1/ (Loan 2113 TUN) approved in March 1982. The EMI-1 project followed the Bank EMI Sector Review 2/ carried out in 1979-80, which was instrumental in the Government's selection of EMIs as a priority subsector for the country's industrial development. Preparation of the proposed project took advantage of the work recently completed on the financial sector 3/ and industrial protection 4/ in Tunisia, and the ongoing work to prepare a package of reforms of the country's industrial development policy. 1.02 The proposed Bank loan of USt54.0 million would be made to the Government of Tunisia, which would pass on the loan proceeds as follows: (i) US$50.0 million to three development banks through subsidiary loans, for them to finance eligible projects in EMI priority subsectors; these three banks being: - Banque de Developpement Economique de Tunisie (BDET), USt2O.0 million; - Banque Tuniso-Koweitienne de D&veloppement (BTKD), US$15.0 million; and - Societe Tuniso-Seoudienne d'Investissement et de Developpement (STUSID), USMl5.0 million. (ii) US14.0 million as a grant to two non-financial institutions that provide support to the development of EMIs, namely: - Centre Technique des Industries MHcaniques et Electriques (CETIME), US$2.1 million; and - Institut National de la Normalisation et de la Propriete Industrielle (INNORPI), US0l.9 million. 1/ TUNISIA - Electrical and Mechanical Industries Project, SAR Report No. 3689 TUN, dated March 2, 1982 (Project File, item 1). 2/ TUNISIA - Review of the Electrical and Mechanical Industries, Report No. 2666 TUN, dated June 4, 1980 (Project File, item 2). 3/ TUNISIA - Financial Sector Review, Report No. 5263 TUN, dated December 20, 1984 (Project File, item 3). 4/ TUNISIA - Protection, Incitations et Prix dans le Secteur des Industries MNcaniques et Electriques en 1980, dated November 1983 (Project File, item 4).  -2- II. THE MANUFACTURING SECTOR Structure and Performance 2.01 Manufacturing industry in Tunisio has been a relatively fast growing sector of the economy: in the 1960's, it grew by 7.4Z per annum in real terms and, in the 1970's, at an average annual rate of 12%. In 1982, economic performance was poor, essentially as a result of a fall in output of the food processing industries (due to lower agricultural productions), technical delays in the operation of some manufacturing plants (notably, in chemicals and cement), and the general slowdown of the world economy, particularly in Europe. Growth resumed in 1983 and 1984 with rates of 8.2% and 9.4Z in real terms, bringing the 1981-1984 average growth rate to 6.8Z. 2.02 During the 1970's, growth of the manufacturing sector was one of the main sources of GDP growth, which averaged 7.4% per annum in real terms. In the last four years (1981-1984), GDP growth slowed down to a 3.4% annual average, in line with the general slowdown in the world economy. Consequently, the share of the manufacturing sector in GDP increased, from an average of 7.5% in the 1960's to 10.0% in the 1970's and 14.0Z by 1984, as shown in the following table: Table 2.1: Contribution of Manufacturing Industries to GDP, 1971-1984 /1 (TD million, aL 1980 prices) Average growth rates (X) 1971 1980 1981 1982 1984 /2 1971-81 1981-84 Total GDP 1829.9 3736.0 3736.0 3915.0 4130.0 7.4 3.4 Manuf. Value Added 151.4 468.9 482.2 522.0 571.1 12.0 6.8 Manuf. V.A./GDP (X) 8.3 12.6 12.9 13.3 13.8 - - /1 Unless otherwise stated, the source for all tables is: Ministere du Plan - Budgets economiques. /2 Estimate 2.03 Tunisia's manufacturing sector is well diversified. Until 1981, food processing remained the most important subsector, contributing 25.0% to manufacturing value added. In 1982, textiles became the largest subsector, mainly because of a fall in agricultural production due to climatic problems. The fastest growing subsectors in the 1971-1981 period have been construction materials (18.9% average growth in real terms), chemicals and miscellaneous industries (14.2%), textiles (14%), and electro-mechanical industries (EMI) (12.9Z). As a result of these developments, the structure of the manufacturing sector has substantially evolved since 1971:  -3- Table 2.2: Value added in the manlfacturing sector, 1971-1984 (TD million, at 1980 prices) Share (Z) in total Growth rates (Z) 1971 1981 1982 1983 1984 /1 1971 1981 1971-81 1981-84 Food processing 62.7 115.2 106.7 110.2 131.1 41.4 24.6 6.3 4.4 Constr. materials 10.9 70.3 71.2 81.8 90.1 19.8 15.0 18.9 8.6 EMI 18.7 63.1 69.0 74.5 80.8 12.4 13.5 12.9 8.6 Chemicals 14.1 53.1 56.2 62.9 66.8 7.2 11.3 14.2 8.0 Text. & Leather 30.0 110.8 115.2 121.9 124.8 9.3 23.6 14.0 4.0 Misc. industries 14.9 56.4 63.9 70.7 77.5 9.8 12.0 14.2 11.2 TOTAL 151.4 468.9 482.2 522.0 571.1 100.0 100.0 12.0 6.8 /1 Estimate 2.04 In 1981-84, Tunisia maintained a high investment level of about 30X of GDP. Investments in manufacturing industry, which constituted 11.7% of total investments in 1971, kept increasing and reached 22% of total investments in 1983, as shown below; Table 2.3: Investments in manufacturing industries, 1971-1984 (TD million, at 1980 prices) Growth rates CZ) 1971 1981 1982 1983 1984 /1 1971-81 1981-84 Total investments 355.0 1,157.0 1,210.0 1,160.0 1,220.0 12.5 6.3 Total investment as % of GDP 19.4 31.0 32.4 29.6 29.5 - - Investments in manufacturing 41.4 193.7 219.6 256.4 231.2 16.7 6.1 Investments in manuf. as % of tot. invest. 11.7 16.7 18.1 22.1 19.0 - - /1 Estimate 2.05 The public sector has traditionally been dominant in tne manufacturing sector. Over the 1980-1984 period, it averaged 56% of total investments, primarily in chemicals (fertilizers), construction materials (cement) and agro-industries (sugar). Public sector investments are generally capital-intensive and have high incremental capital-output ratios (see table 2.4 below, and Annex 1). Whereas 47.9% of total investments in 1980-1984 were in construction materials and chemicals (the two subsectors where the public sector is most dominant), the contribution of these subsectors to total  4 manufacturing value added was only 23.3%. In contrast, the two subsectors where the private sector is dominant (textiles, and miscellaneous industries) accounted for only 18.7% of total investments during this period, but contributed 38.2% to total manufacturing value added. Table 2.4: Investments by activity and sector, 1980-1984 (TD million, at current prices) Investments Value added Public Private Total Amount Z Amount Z Amount % Amount Z Food processing 116.8 51.2 111.3 48.8 228.2 16.9 683.0 24.1 Constr. materials 253.6 68.3 117.5 31.7 371.1 27.5 441.7 15.6 EMI 90.7 40.8 131.6 59.2 222.3 16.5 399.7 14.1 Chemicals 255.4 92.8 19.7 7.2 275.1 20.4 228.1 8.0 Textiles & leather 27.4 20.0 109.8 80.0 137.1 10.0 705.3 24.9 Miscellaneous 18.3 15.6 98.7 84.4 117.0 8.7 378.0 13.3 TOTAL 762.2 56.4 588.6 43.6 1350.8 100.0 2835.8 100.0 2.06 Employment creation has been one of the main objectives of industrial policy. Between 1975 and 1980, over 30% of total new employment (equivalent to 65,000 jobs) was created in manufacturing industries, and the share of manufacturing industries in total employment increased from 17.2 to 19.1%. However, over the 1975-1981 period, the increase in employment in manufacturing industries, 5% per year on the average, remained well below the the 10% or so annual increase in capital stock in the sector. The average cost (in 1980 prices) of creating a job in the nonagricultural productive sectors increased from about TD 6,000 in 1972-1976 to TD 10,000 in 1977-1981; to a large extent, this cost increase reflects the very large investments made in the chemical and construction industries. More recently, as the rapid growth in labor supply has been recognized to be a major constraint affecting Tunisia's future development, the Sixth Plan has set as a priority objective the allocation of resources towards more labor-intensive activities. So far, however, employment creation has fallen short of Plan targets (by about 23X in nonagricultural activities over the 1982-1984 period), primarily because relative factor prices did not change in favor of labor 1/, and new investments were less labor-intensive than planned 2/. A major change in wage and investment policies would be necessary to reach the Plan macroeconomic targets; specific reforms are proposed in the Bank's recently completed Employment Study (para. 2.14) and will be submitted to the Government for discussion in the near future. 1/ On the contrary, the accelerated rise in wages has resulted in a 15% increase in the relative cost of labor between 1981 and 1983, largely offsetting the relative decline observed during the previous years. 2/ The share of directly productive, mostly labor-intensive, investments (as opposed to infrastructure investments for example) increased only marginally, and within the relatively labor-intensive sectors, actual investments were more capital-intensive than expected.  -5- 2.07 As a result of the greater emphasis given in the early 1970's by the Government to the development of export-oriented industries (Law 72-38 enacted in 1972), manufactured exports increased by an average rate of 14.4Z in real terms from 1971 to 1981 (10.Z between 1976 and 1983), leading to a fourfold increase in their real value between 197.1 and 1983 (from TD 120.0 million to TD 526.4 million). This was substantially faster than the increase in manufacturing value added, which averaged 12X over the 1971-1981 period (8.4X between 1976 and 1983). At the same time, exports of manufactured products accounted for an increasing share of total exports; manufactured exports (excluding processed food) rose from 32% of non-petroleum exports in 1971 to 79.3% in 1983, as shown in the table below: Table 2.5: Composition of Exports, and Share of Manufactured Exports, 1971-1983 (TD million, at 1980 prices) Growth rates (X) 1971 1976 1980 1981 1982 1983 1971-81 1976-83 Total exports 240.8 487.4 970.0 1115.4 940.0 1003.0 16.6 10.9 Petroleum exports 64.5 206.3 545.6 593.8 430.4 428.8 24.9 11.0 Non-petr. exports 176.3 281.1 424.4 521.6 509.6 574.2 11.5 10.7 Extractive & raw agric. products 56.3 65.1 51.8 59.6 40.7 47.8 0.6 (4.3) Manuf. exports 120.0 216.0 372.6 462.0 468.8 526.4 14.4 13.6 (of which food proces.) (63.5) (78.1) (43.1) (73.5) (71.8) (70.8) 1.5 (1.4) Share of manuf. prod. (other than food proces.), in total non-petr. exports (%) 32.0 49.0 77.6 74.5 77.9 79.3 n.a. n.a. 2.08 In addition, the composition of Tunisia's manufactured exports changed substantially during the 1970's (see table 2.6 below). Whereas 52.9% of all manufactured exports in 1971 consisted of processed food, this share fell to 13.5% in 1983. On the other hand, the share of textiles and leather increased from less than 6% in 1971 to almost 40% in 1983. Over the same period, chemicals nearly doubled their share, to almost one third of manufactured exports in 1983. Exports of electro-mechanical industries (EMI) also grew substantially in the second half of the seventies, and now represent 9.5% of total manufactured exports.  -6- Table 2.6; Manufactured exports, composition and growth, 1971-1983 (in percentages) Growth Rates (real) 1971 1976 1981 1983 1971-81 1976-83 Food Processing 52.9 36.2 15.9 13.5 1.5 (1.4) Textiles & Leather 5.7 28.9 39.4 39.3 38.9 18.6 Chemicals 17.8 23.7 31.3 32.4 21.1 18.8 EMI 8.6 6.5 8.0 9.5 13.6 19.8 Miscellaneous 15.0 4.7 5.4 5.4 3.3 15.7 TOTAL 100.0 100.0 100.0 100.0 14.4 13.6 Plan Objectives and Strategy 2.09 The main objectives of the Sixth Five-Year Plan (1982-1986) are (i) to ease the growing unemployment problem, (ii) to reduce interregional income disparities, and (iii) to maintain the country's long-term social stability and creditworthiness, at a time of growing financial and balance of payments constraints due to the expected decline in petroleum exports. To achieve these objectives, the Plan calls for a substantial slowdown in the growth of private consumption, and a reduction of the high investment rate which, in the last few years, has been increasingly financed through borrowing abroad. 2.10 In the face of declining revenues from hydrocarbon exports, the Government has decided that industrial diversification is necessary to support further export growth. Among industries to be promoted are electrical and mechanical industries, where substantial opportunities for both import-substitution and exports have been identified and where prospects for employment creation and reinforcement of existing industrial linkages are the strongest. Chemicals, construction materials, food processing and textiles industries are also to be strengthened, and existing capacity rehabilitated. In addition, substantial investments are planned for further exploration and development of hydrocarbons (offshore gas), mining, energy substitution and improvements in energy efficiency. Also, the Government plans to take appropriate policy measures to promote private investment, particularly in small- and medium-sized manufacturing facilities away from the coastal area. Recent Developments 2.11 During the first three years (1982-1984) of the Sixth Plan, the budgetary and balance of payments position deteriorated sharply; the budget deficit increased from 2.5Z of GDP in 1981 to 6.9% in 1984, while the current account deficit rose from 7.6% to 8.8% of GDP. This was due mainly to a substantial rise in wages (20% in 1982-1983), increases in subsidies (from TD 144 million in 1981 to TD 251 million in 1984) and an increase in the trade deficit (from TD 654 million in 1981 to TD 980 million in 1984). There is cause for some concern since the contribution of the petroleum sector to the economy is declining and future petroleum price movements are unlikely to  -7- restore the favorable financial position which the country enjoyed during the last decade. In 1982 the economy stagnated, for three main reasons: a prolonged drought depressed agricultural output and agro-industry production, technical problems hampered phosphate-based and cement output, and tourism was adversely affected by the recession in Europe. In 1983, the economy showed a modest recovery due to buoyant growth in manufacturing output. This, coupled with an upturn in agricultural output in 1984, brought the average annual growth rate to 3.4% for the 1982-1984 period, still well below the Sixth Plan's projections of 5.7Z p.a. (see Annex 2). Demand continued to expand rather strongly in 1982-1984, and investment exceeded 30% of GDP compared to the Plan's target figure of 28Z. At the same time, the growth of consumption (4.6% p.a.) -- triggered mainly by the wage increases of 1982 and 1983 -- surpassed the growth of GDP (2.4% p.a.), thus reducing the domestic savings rate from nearly 24Z of GDP in 1981 to 20X in 1983. This trend was reversed in 1984, however, as consumption grew at a rate slightly lower than GDP (4.9% versus 5.5%), thus bringing the national savings rate up to 21X. The strong pressure of demand in 1982 gave rise to an unprecendented high inflation rate of 13.6%. Following the intensification of price controls, inflation decelerated to about 9X in 1983, and to an estimated 7Z in 1984. 2.12 Due mainly to the decline in net petroleum earnings and an increase in imports, the current account deficit of the balance of payments also deteriorated in 1981-1983; and even more sharply, in 1984. The current account deficit increased from 7.6% of GDP in 1981 to 9.1% in 1982. In 1983, following the tightening of import controls, it was reduced to about 7.6Z of GDP. This favorable trend, however, proved to be shortlived, as the external deficit worsened in 1984 (reaching 8.8% of GDP), due to disappointing results in tourism and textile exports and to a further increase in imports. These emerging external conscraints and Tunisia's increasing debt burden make all the more important the need to foster export growth, and that of manufactured products, in particular. Constraints in the Manufacturing Sector 2.13 A significant part of Tunisian industries have developed with import restrictions, price controls, investment licensing and direct subsidies. These measures, which were justified for infant industries, have developed over time into a system that does not encourage efficiency, productivity, nor optimal use of installed capacity. This is shown by the results of an Effective Protection Study financed by the Bank under the EHI-I Project (Loan 2113-TUN); the results pertaining to the EMIs indicate that industries with the highest level of protection have limited abilities to export, serve primarily the domestic market, and have the lowest economic and financial rates of return. The same study also shows that public enterprises have generally benefitted from the highest levels of protection, while showing the lowest rates of return:  Table 2.7: Protection, Resource Use and Profitability by Market Orientation and Ownership; EMI sector (1980) Resource Effective Domestic Rate of Return (Z) Type of Enterprise Protection /1 Cost /2 Economic Financial A. By uarket orientation i) 100Z dow. market 1.63 1.55 3.5 5.0 (ii) Partially exporting 1.45 1.46 6.8 7.0 (iii) lOOS exporting 0.99 1.14 21.4 9.2 B. By ownership (i) Public 1.51 1.37 4.7 5.2 (ii) Private 1.34 0.93 14.1 L3.9 ," defined as the ratio between value added at domestic prices and value added at border prices. /2 defined as the amount of domestic resources needed to produce one unit of value added. The Effective Protection Study is being carried out for several other sectors as weLl (textiles, construction materials, footwear, chemicals), and further results have become available in December 1984 (para. 3.24). As is illustrated in the first results, domestic-oriented industries are significantly Less efficient than export-oriented ones. A rationalization of the protection system is thus likely to be an important policy tool for further encouraging the efficiency of the sector and the growth of exports. The whole issue of the protection system is now under study (para. 2.18), and an action plan to improve this overall system is expected to be formulated in 1985-1986. 2.14 There are ither reasons that account for the low productivity of Tunisian industries. First, the small size of the domestic market has meant that for most industries with Limited (if any) export orientation, economies of scale could not be realized; whenever possible, a reorientation of some of these industries towards exports should help overcome some of the above constraints. Second, managemaent problems and tue current wage system hamper the functioning and expansion of existing enterprises. The virtual absence of sound national labor management relations have resulted in frequent individual and collective conflicts, and rising absenteeism. The current wage structure, which strongly favors unskilled labor (in excess supply) while disadvantaging workers at the supervision level (in short supply), creates little incentive for workers to increase their level of skills; furthermore, opportunities for continuous training within the enterprise are rarely provided for. Finally,  -9- little has been done so far to relate wages to producrion norms, and wage adjustments to productivity gains. While the lack of performance incentives has had a negative impact on labor morale and productivity, the prevailing system favoring seniority, has left enterprises with little flexibility to apply promotion criteria based on merit. At the same time, the virtual absence in Tunisian enterprises of national labor management procedures has also been responsible for the lack of relationship between wages and the individual and/or collective prodictive performance. The above-mentioned Employment Study (para. 2.06) has identified a number of corrective measures, aiming at: (i) improving the quality of enterprise management; (ii) restoring a more balanced wage structure according to prevailing relative scarcities; (iii) bimplifying and partially liberalizing wage negotiations and adjustment procedures; and (iv) increasing the flexibility of wage structures, so as to strengthen their role in manpower allocation. Bank Role in the Manufacturing Sector 2.15 The dialogue between the Government of Tunisia and the Bank on industrial development, is of long standing and has kept evolving over time. It always endeavored to address the major constraints on this development and has been a multifaceted and productive one. Tnrough its first loans to industry, the Bank aimed at providing general support to industrial develop- ment; later on, it aimed at promoting industrial decentralization and labor- intensive industries, and financing high priority industries (e.g., EMIs and SSIs) in support of their priority in the Government's strategy. Bank support to industrial development in Tunisia has consisted mostly of lines of credit to BDET (para. 5.17), which has now received eight Bank loans totalling US$129.2 million (net of cancellations) of which US$14.9 million remained undisbursed as of January 31, 1985. Most of these funds financed manufac- turing industries; first through unrestricted lines of credit (Loan 1504-TUN, and part of Loan 2113-TUN), then through lines with special foci: on Small- Scale Industries (SSIs, Loans 1505-TUN and 1969-TUN), EMIs (Loan 2113-TUN; paras. 3.23-3.25) and Export Industries (loan approved in April 1985). A credit line for a pilot SSI scheme (Loan 1505-TUN in 1978) prepared the ground for a US$30 million loan to SSIs (Loan 1969-TUN in 1981) that used for the first time commercial banks along with BDET as intermediaries. 2.16 Bank loans have also assisted BDET in meeting its resource requirements while helping strengthen its organization and improve its performance. Through its representative on BDET's Board, IFC has offered a substantial contribution in this regard. The Project Performance Audit Report of September 1981 on loans 648-TUN, 798-TUN and 881-TUN, covering the third (1969), fourth (1972) and fifth (1973) loans to BDET, concluded that considerable progress had been made in terms of institution building and management performance, and that these loans had contributed to changing BDET's role from that of a supplier of equity funds for public sector industries, to that of financier and advisor of private investors. BDET, however, still needed to strengthen its promotion and supervision capacity, and to improve its evaluation of physical and financial contingencies of projects. The present project, along with the Export Industries Project, would build upon the last three projecLS to continue addressing the shortcomings noted in the 1981 Project Performance Audit Report.  - 10 - 2.17 In addition to the lines of credit provided to BDET, four loans were made directly to industrial enterprises in Tunisia: the first was in July 1974 (Loan 1042-TUN) to the Gafsa Phosphate Mining Company, to introduce advance mining technology. It was followed in August 1983, by a technical assistance loan for the mining sector (Loan 2346-TUN). A loan to SOGITEX in October 1981 (Loan 2012-TUN) aimed at rehabilitating the textile industry. Finally, a foundry project (Loan 2301-TUN) was approved in June 1983 to modernize and expand a large foundry, SOFOMECA, which should help improve the integration of the EMI sector in Tunisia. In 1982 the Bank made a loan to the Government which included a component to develop and promote new industrial projects (Loan 2197-TUN). The two main agencies involved were CEPEX (to study export promotion) and CNEI (to study specific subsectors and their potential for growth). 2.18 Reference was made earlier (para. 2.13) to a study financed by the Bank to assess effective protection and its impact on industrial efficiency. The results of this study will be used by the Bank in its continuing dialogue with the Tunisian authorities, the objecti-es of which are the identification and eventual adoption of policies conducive to higher industrial efficiency. In this connection, a Bank mission was in Tunisia in January 1985, to design and submit recommendations on Ci) reducing tariffs and quantitative restrictions, (ii) improving pricing policies, and (iii) fostering higher productivity and efficiency in public enterprises. The mission has made use of the results of the Employment Study and of the Financial Sector review which was completed in December 1984 and is scheduled for discussion with the Tunisian authorities in mid-1985 (para. 4.11).  - 11 - III. THE ELECTRO-MECHANICAL INDUSTRIES (EMIs) Structure, Characteristics and Performance 3.01 The development of electro-mechanical industries (EMI) is an essential stage in a country's industrialization process, as these industries include the working and shaping of metals, involve the design, development and fabrication of a great variety of man-made products and constitute an essential link between the production of components/subassemblies and that of end-products. Compared to other industrial subsectors, EMIs in Tunisia still have a substantial untapped potential. In recent years they increasingly aimed at foreign markets (para. 3.05), but remained mostly inward-oriented. In 1984 they represented 14% of industrial value added and 2.2% of GDP, as compared to 13% and 1.8% respectively in 1980. The development of the sector has taken place primarily in import-substituting assembly industries producing consumer and durable goods and relying to a large extent on imported components. As a consequence, the value added in the sector has remained low, at about 25% on the average, as shown in the table below; Table 3.1: Structure and Growth of EMIs (Modern Sector)- 1980-1984 1980-84 Annual Average Annual Employ- Output /2 Value Added/ Growth Rate (Z) ment /1 TD million % Output (Z) /2 of Output /3 Steel mill 2,485 50.84 14.3 26 3.8 Foundries 2,375 15.81 4.5 28 -6.8 Steel structure & platework 14,000 /4 80.31 22.6 33 8.9 Shipyard 1,450 9.52 2.7 42 20.0 Mechanical equipment 4,585 24.40 6.9 25 32.2 Transport equipment 3,040 62.75 17.7 15 9.6 Hardware 2,610 16.20 4.5 31 14.4 Electrical products 6,690 95.45 26.8 27 12.3 Total 37,235 355.28 100.0 26 9.8 of which: - capital goods 45 - intermediate goods 28 - consumer & durable goods 27 /1 As of December 31, 1982; estimate. 72 In 1983. /3 Estimate. /4 Of which about 4,500 are employed in workshops of less than 6 employees.  - 12 - 3.02 The modern EMI sector is dominated by about 18 large public enterprises 1/ (steel mill, foundries, ship repair, vehicle assembly, household appliances and mechanical hardware), which account for more than half of the sector's output; overall, however, it comprises a large proportion of small or medium size industries 2/, with the majority of enterprises. engaged in steel structure/platework, metal products and other intermediate goods. In addition to the modern sector, the EMIs comprise an estimated 5,000 independent artisans, mostly involved in the production of traditional or substandard metal products for household consumption. 3.03 EMIs in Tunisia have started from a small base and grown rapidly at an average annual rate of 18Z during the 1960s and 13X during the L970s. Between 1980 (when the Government had not yet selected ENIs as a priority sector) and 1984 this rate fell to just below 10% p.a., essentially as a result of a marked slowdown in both Tunisia's and the world's economic growth; yet it compared very favorably with GDP and overall manufacturing growth which averaged 4.0% and 7.9% p.a. respectively, as shown in the table below: Table 3.2: Recent Performance of EMIs (in percent) Change over 1980 1980-1984 period 1984 Average annual growth rate of value added (in real terms) (i) EMI 9.8 (ii) All Manufacturing 7.9 Ciii) GDP 4.0 Investments gi) EMI/All Manufacturing 14.9 21 (ii) EMI/All Investments 1.6 4 EMI Imports All Imports 48 /a 39 /a EXI Local Production EMI Local Demand 25 /a 32 /b EMI Exports Manufactured Exports 8.5 /a 10 /b EMI Employment All Manuf. Employ. 12.5 19 /c /a In 1978 Tb- In 1983 7c A (E:I Employment) A (Manuf. Employ.) 1/ This situation however is likely to evolve in the future as a result of the Government's policy to disengage itself from industrial undertakings. 2/ About 65% of all EMI enterprises have less than 50 workers.  - 13 - Thus, as a result of the general slump in economic growth, EMI performance in the first three years-of the Sixth Plan (1982-1986) has fallen short of expec:ations; growth in value added was 8.8% p.a. on average, against a target rate of 13.6%. With the exception of lead foundries and lead products (which experienced a decrease in output), all EMI subsectors substantially expanded. Consistent with the priorities set in the Sixth Plan, the fastest-growing subsectors were those of capital and intermediate goods, including both mechanical (earth-moving machinery, lifting and hoisting equipment, agricultural equipment) and electrical equipment (meters, electric cables). By their rapid development EMIs have contributed to alleviate Tunisia's employment problem; since 1980, 15,900 new jobs have been created in the sector, i.e., more than 19% of all jobs created in manufacturing. 3.04 In recent years, the growing demand for EMI products has been increasingly met by local production, which accounted for about 32% of total EMI consumption in 1983, as compared to an estimated 25Z in 1978 (para. 3.06). Yet EMI imports still represent a significant share of total imports; 39Z in 1983 (TD 822 million). Capital goods make up the largest fraction of EMI imports (about 66% in 1983) and mainly comprise advanced equipment (e.g., machine tools, telephone equipment) and standard machinery (e,g., lifting/hoisting and earth-moving machinery, pumps, mining and drilling equipment, boilers and furnaces, electrical switchgear/switchboard equipment, etc.), part of which is slowly being replaced by local products (para. 3.08). Imports of intermediate goods (18% of all EMI imports) consist essentially of iron and steel primary products. Imports of consumer and durable goods (16% of EMI imports) mainly comprise household appliances, hardware, transport vehicles, and components and parts for the automobile and radio/TV local assemblies. 3.05 The development of the sector has also been accompanied by an increase in exports, which averaged 19.8% p.a. in real terms over the 1976-1983 period, compared to 13.6% for manufactured exports. As a result, EMI exports, of which 60% are electrical machinery and electronic products, accounted for about 10% of Tunisia's exports of manufactured products in 1983 compared to 6.52 in 1976 aud take up an increasing share of the sector's output -- 16% in 1983 versus 11% in 1976. Less than half of EM