Mozambique - Energy Technical Assistance and Rehabilitation Project

Do_mm of The World Bank FOR OFMICJAL USE ONLY Report No. 6647-MOZ STAFF APPRAISAL REPORT M4OZAMBIQUE ENERGY TECHNICAL ASSISTANCE AND REHABILITATION PROJECT May 1, 1987 Energy Division Eastern and Southern Africa Pro3ects Department This document has a restricted distribution and may be used by recipients only in the performance | of their officieJ duties. Its contents may not otherwise be disclosed without World Bank authorization.  CURRENCY EQUIVALENTS (April 1987) US$ I = 200 Meticais (MT) MT 1 = US$0.005 ABBREVIATIONS AND ACRONYMS CARBOMOC - National Coal Company DC - Direct current DOE - Department of Energy DWT - Dead weight tonnes EDM - Electricity Company of Mozambique ENH - National Hydrocarbons Company ENIEL - National Company for Electrical Installations ESCOM - Electricity Supply Commission (RSA) GDP - Gross Domestic Product HCB - Hidroelectrica de Cabora Bassa ICB - International Competitive Bidding IDA - International Development Association KfW - Kreditanstalt fUr Wiederaufbau (Germany) LCB - Local Competitive Bidding LRMC - Long-run marginal cost LPG - Liquid petroleum gas MIE - Ministry of Industry and Energy MMR - Ministry of Mineral Resources PETROMOC - National Petroleum Supply Company PPF - IDA's Project Preparation Facility ODA - Overseas Development Administration (UK) RSA - Republic of South Africa SADCC - Southern Africa Development Coordination Conference WEIGHTS AND MEASURES B/D - barrels per day GWh - gigawatt hour ha - hectare kgoe - kilograms of oil equivalent km - kilometer kV - kilovolt kW - kilowatt kWh - kilowatt hour m - meter MT - metical (plural: met'cais) MW - megawatt r.o.m. - run-of-mine t - tonnes toe - tonnes of oil equivalent t/y - tonnes/year FISCAL YEAR Government and Public Enterprises: Calendar Year  FOR OMCIL USE ONLY MOZAMBIQUE ENERGY TECHNICAL ASSISTANCE AND REHABILITATION PROJECT Credit and Pr2oect Summarg Borrower: The People's Republic of Mozambique Beneficiaries: Electricidado de Mogambique (EDM), Empresa Nacional Petroleos de Mo9ambique E.E. (PETROMOC), Empresa Nacional de Hidrocarbonetos (EHH), Ministry of Industry and Energy (MIE) Amount: IDA Credit SDR 15.6 million (US$20 million equivalent) Terms: Standard Onlending Terms: For hardware components, US$5.0 million of the Credit would be onlent to PETROMOC at 110% of the prevailing Bank loar. rate at the time of Board presentation, and US$4.5 million would be onlent to EDI at the prevailing Bank loan rate. For technical assistance components, US$3.7 million would be onlent to PETR'MOC and US$5.1 million to EDM at an annual fee of 1.75%. The onlent funds would be repaid over 20 years with 5 years grace period. EDM and PETROMOC would carry the foreign exchange risk. The balance of US$1.7 million would be for the MIE and the ENH components to cover studies and technical assistance. Project The project consists of. rehabilitation of EDM's and Description: PETROMOC's facilities to meet current demands reliably by providing vehicles and special-purpose maintenance and distribution equipment, rehabilitation work in Maputo Power Station and on power transmission and distribution networks, petroleum product handling equipment, and connection of 4,150 households to the power systems in Maputo, Beira, Nampula and Nacala; (ii) provision of operational support for three years by fourteen specialists in managing transport fleets and operating power and netroleum facilities, and (iii) technical assistance to EDM, PETROMOC, MIE and ENH to design and implement management and financial systems and for manpower training and to prepare subsector development plans for power, petroleum and household energy. The project would be coordinated by the MIE, and executed by EDM, PETROMOC and ENH. This document ha a rsticted distribution and may be used by recii;ents only in the performane of their offical duties. Its contents may not otherwise be disclosed without World Bank authoization.  - (ii) - Project The economic benefits from the project would be increased Benefits: agro-indu3trial and industrial production through quick-acting relief on constraints on improving the reliability of electricity and petroleum product supply to processing and manufacturing plants. Some of these plants produce the country's principal agro-industrial export products. The project would lay the basis for additional economic benefits for the medium and long-term by developing sound sector development programs. The project would also yield social benefits by improving energy supply to urban households, notably the connection of 4,150 houses to the electricity systems, by more efficient distribution of diesel oil to electricity generators in towns not connected to the transmission systems and by more efficient distribution of kerosene and LPG. Project Risks: The main risk would be a delay in project implementation from lack of i'anagement resources in EDM and PETROMOC. The project provides for expatriate support to these entities for management and operations. There would also be a risk of potential disruption to economic activity by armed bands, although they have not penetrated the cities of Maputo, Beira, Nampula, Nacala and Quelimane, where the project activities are concentrated. The risk of loss of the vehicles funded under the project will be ameliorated by stringent vehicle registry and situation reports supervised during project execution.  - (il) - Estimated Project Cost: Porei8n Local Total _(US$ -a=lon) Power Systes 4.75 1.74 6.49 Maintenance & Rehabilitation Transport Equipment for 1DM 1 74 0,10 1.84 Petroleum System 2.35 0.70 3.05 Maintenance & Rehabilitation Transport Equipment for PETROMOC 2,95 0.14 S.09 Technical Assistance for 3.17 0.32 3.49 Systems Operations Technical Assistance for 5.82 1.79 7.61 new anagnemet and finanieal systems and manpower training Technical Assistance to prepare 1.10 0.08 1.18 subsector development programs Project Preparation Facility 1.10 - 1.10 Base Costs 22.98 4.87 27.85 Physical Contingenciee 0.36 0.10 0.46 Price Contingencies 1.66 0.42 2.08 Total Project Costs 25.00 5.39 30.39 Interest During Implementation - 1.37 1.37 Total Financing Required 25.00 6.76 31.76 - _ _ - Note: The imported goods would be exempt from duties and taxes. Proposed Financing Plan: Foreign Local Total - (US$ illion)- IDA 20.00 - 20.00 Government of Norway 5.00 - 5.00 EDM - 3.72 3.72 PETROKOC - 2.68 2.68 Government of Mosambique - 0.36 0.36 Total 25.00 6.76 31.76 Disbursements of IDA Credit FT88 FY89 FY90 FY91 FY92 FY93 _______________________ - - ( I ilr3nW n) -- - Annual 3.1 6.9 5.9 3.1 0.8 0.2 Cumulative 3.1 10.0 15.9 19.0 19.8 20.0 Sconmic Rate of Return: 272 Krz IIRD 20093, Mrambique - Existiug Energy Supply Facilities, February, 1987.  MOZAMBIQUE STAFF APPRAISAL REPORT ENERGY TECHNICAL ASSISTANCE AND REHABILITATION PROJECT Table of Contents Psge No, I. THE ENERGY SECTOR.......,.............................. , 1 Sector Prioritieso.....,....,........ ,................... 1 Sector Organizationoooooo.oo.oo.ooo.oooooooooooooo.....oo 1 Present Situatio t uooa t i on... .......................0.000 2 Disruption to Energy Supplyp p ly.oooo..o.o.oooo..oo.o 2 Shortage of Foreign Exchangec h a n ge.o............00000 2 Backlog of Maintenance and Rehabilitation.oooo..... 2 Shortage of Trained Mapp o w e r 3 Institutional Weaknesses*** o* o000 3 Economic Policy Reform.ooor.0.. 0. 0000... 00000,0000,0000.0 3 Woodfuels and Household Energye r gy................ooo.o.o 4 Energy Resourceso......o ............,.........0..........e 5 Energy Supply and Consuuption..........................*** 6 Energy Traderad.e............,...o.........e.o...... 7 Electricity Supply and Consumption......oooo.o.....o. 7 Petroleum Products Supply and Consumptiono....0000... 7 Coal Supply and Consumptionsumption.................. 8 Energy Pricing....r i c i ng..o...........o.o.ooooo..o..o.... 8 Government Strategy in the Energy Sector ,.............00 9 Bank's Role in the Energy Sector c to..e.... or............ 10 Experience with Past Lending n d i ng................oo..o 11 II. THE POWER AND PETROLEUM SUBSECTORS,.........0..0..,0.00.O 11 A. The Power Subsector ................. ...**.............. 11 Organization of the Power Subsectorsector...........o 11 Power Supply Facilities.oeo 12 Past Power Supply and Consumption.........,...oo.oooo 13 Projected Power Supply and Demand m....a n do....... 14 Power Development Strategy.ot at.... eogy.....o , 15 Donor Assistance to the Power Subsector...........,. 16 B. The Petroleum Sub re c t o r 17 Organization of the Petroleum Supply Subsect-r.,.oo.o 17 Petroleum Supply Facilities,..oo..........,...t$ es.. 18 Petroleum Products Supply and Demand...o............o 18 Petroleum Supply Development Strategyoat......,egy... 19 This report was prepared by J. Besant-Jones from the findings of an appraisal mission which visited Mozambique in July 1986 and consisted of J. Besant-Jones (mission leader), H. Chaves (power engineer), E. Roumani (financial analyst/institutional specialist) and J. Shillingford (petroleum engineer).  - (v) - Page No. III. THE BORROWER AND THE EXECUTING AGENCIES.................... 20 The Borrower and the Executing Agenciesencl......e s***...... 20 Institutional Developmente........................ ..........o 20 Manpower Development and Trainin3.............,............. 21 Electricity Supply Manpower and Training ..... ee...,, 21 Petroleum Supply Manpower and Training............... 22 Accounts and Auditing .................. . 23 EDM's Billing and Collection ... ..,...........o............ 23 IV. THE PROJECT ...................... 24 Project Preparation ................... 0..00..00.0.00 ..00.0 24 Project Objectives ,........,*.........,.* , 0000000000.0 24 Project Description o..o....** .***.so*oo.o.o......o. 000000 24 Project Implementation .o....a ......ooo..o000o000o000000ooo 25 Project Cost Estimate oooo..........,......i..0,,0...,.0.*00 26 Financing Plan *000000000000000000000*0000000 ..*. 28 Procurement ...........ooo ..o .o*.o..o.oo.*...* *..o.oo.o. 29 Disbursements .oo..o.ooo..o. oo..o..o..o.o.......... 000 00* 0 31 Project Monitoring and Evaluation *oo.o........oo.......o.o. 31 Risks and Environment ..................................... 31 V. FINANCIAL ASPECTS AND COST RECOVERY.O.00 V E RY..0000.........0 32 EDM's Past Financial Position. 32 Power Tariffs oo.oooooo.o....oo**oo*ooo**o*o***o**ooo** 33 Petroleum Product Pricing .0.0oo0.0.o.0..o. oeoo... 00,000000 35 VI. PROJECT JUSTIFICATION 36 VII. AGREEMENTS tO BE REACHED AND RECOMMENDATIONS ..0...0000.00.0 36  List of Annexes Annex 1.1 Energy Balance: 1984 2.1 Installed Power Generating Capacity in 19$5 2.2 Production, Imports and Exports of Electricity in 1978-1985 2.3 EDM: Power System Study - Terms of Reference 2.4 Consumption of Energy and Non-Energy Petroleum Products 1979-1985 2.5 PETROMOC: Petroleum Supply Study - Terms of Reference 2.6 PETROMOC: Petroleum Distribution Study - Terms of Reference 3.1 EDM: Financial, Accounting, Planning and Budgeting Systems - Terms of Reference 3,2 EDM: Stork Control and Asset Management - Terms of Reference 3.3 EDM: Management Information System - Terms of Reference 3.4 PETROMOC: Organization, Management Training and Manpower Development - Terms of Reference 3.5 EDM: Maputo Power Station Assistance - Terms of Reference 3.6 EDM: Transmission System Assistance - Terms of Reference 3.7 EDM Distribution Study and Technical Assistance - Terms of Reference 3.8 EDM: Manpower Development and Training - Terms of Reference 3.9 PETROM.OC: Technical Training Program - Terms of Reference 4.1 Project Description 4.2 Implementation Schedule 4.3 Project Cost Estimate 4. Estimated Schedule at Disbursewents 4.5 Project Monitoring Guidelines 5.1 Petroleum Product Pricing Structure 6.1 Estimate of Economic Rate of Return 7.1 Selected Documents and Data Available in Project File Map: IBRD 20093, Mozambigue - Existing Energy Supply Facilities, February 1987.  I. THE ENERGY SECTOR Sector P.iorities 1.01 The recently completed report on the energy sector in Mozambique 1/ identified the following priorities: (i) to increase the reliability of meeting essential demands for energy, particularly petroleum fuels .o key economic consumers; (ii) to strengthen the institutional performance of the main energy supply agencies; (iii) to increase the availability of household energy to urban areas, particularly woodfuels, and also karosene and electricity; (iv) to prepare sound investment programs to meet Mozambican energy needs, including exploitation of indigenous energy resources (hydroelectricity, forests. coal and natural gas) where economically justified; and (v) to establish priorities for preparation work among large export-oriented projects based on indigenous energy resources. Government agrees with these priorities which accord with Government's main objective of improving operational efficiency In the short and medium term for the energy sector. Sector Organization 1.02 The supply of commercial energy products (petroleum products, electricity, coal and gas) is the responsibility of public sector agencies. The supply of woodfuels is carried out by private producers and traders. The Ministry of Industry and Energy (MIE) has overall responsibility for implementing energy policies in Mozambique, and it is responsible for the two main operating encerprises in the electricity and petroleum supply sub-sectors, namely Electricidade de Mocambique (EDM) and the National Petroleum Supply Company (PETROMOC). The Department of Energy (DOE) in MIE is responsible for advice and coordination on policy and overall sector development. The Ministry of Mineral Resources (MMR) is responsible for petroleum, gas and coal exploratlon, development and production through the operating enterprises, the National Hydrocarbons Company (ENH) for petroleum and gas, and the National Coal Company (CARBOMOC) for coal production. The Ministry of Agriculture is involved in woodfuel matters through the Directorate of Forestry. 1.03 Government organizations responsible for implementing national economic policies affect the energy sector. The Bank of Mozambique controls foreign exchange and domestic credit, the Ministry of Finance is responsible for budgetary .llocations, taxation and pricing policies, and the Ministry of Planning has formal responsibility for inter-sectoral priorities and resource requirements. The Ministry of Labor has an important bearing on the energy sector through its responsibility for labor legislation, as do the Council of Ministers and National Wages and Prices Commission who fix or regulate the prices of important goods and services, including those for electricity, coal and petroleum products. I/ 'Mozambique: Issues and Options in the Energy Sector", January 1987. Joint UNDP/World Bank Energy Assessment Program.  -2- Present Situation 1.04 Recent trends in the energy sector of Mozambique reflect the prevailing conditions throughout the economy, particularly disruption to economic activity by armed bands, acute scarcity of foreign exchange and trained manpower, and shortcomings in management and operational capability and in financial performance. The cont..1uous decline in economic activity since 1981, as indicated in estimates of GDP, has been both cause and effect of a 40% drop in the consumption of commercial energy (petroleum products, electricity and coal) between 1981 and 1984. 1.05 Disruption to Energy Supply. Acts of sabotage and attacks on the local populace by armed bands have severely disrupted energy production and supply, especially for electricity transmission since 1981 and for coal transportation since 1983. Consequently, the two major facilities for producing energy in Mozambique, the Cahora Bassa hydroelectric power station and the coal mines at Moatize, are virtually out of operation at present. The direct annual cost to Mozambique of this disruption is about US$20 million in terms of foregone earnings from exported energy and additional costs of imported energy. The activities of armed bands are disrupting supplies of woodfuels to urban areas with grave socio-econom!c consequences for the urban population. These activities are also preventing the exploration and development of natural gas resources and the implementation of major new developments to exploit Mozambique's considerable energy resources. 1.06 Shortage of Foreign Exchange. Shortages of foreign exchange have periodically interrupted the supply of petroleum products since 1983. PETROMOC has not been able to purchase petroleum products on the best terms with the small and unpredictable amounts of foreign exchange that are put at its disposal. As a result, procurement costs are increased. To increase the efficiency of procurement and stabilize the supply of petroleum products to key consumers, Government has created a Petroleum Fund which is operated by P3TROMOC at the Bank of Mozambique. The project includes technical assistance to PETROMOC for evaluating alternative procurement and/or financing procedures (para 2.29). In 1984 anSI 1985, the consumption of petroleum products was about 25% below the level in the period 1970-1982 due to supply constraints and reduced economic activity. 1.07 Racklog of Maintenance and Rehabilitation. Lack of foreign exchange has contributed to a decline in operational efficiency of power and petroleum facilities by causing shortages of spare parts, materials and equipment required for system operation, maintenance and rehabilitation. These constraints are particularly evident in the distribution systems for electricity and petroleum products. The power distribution systems have only been kept in operation through donor support for imported goods from Norway, Sweden and Holland. The petroleum product handling and distribution facilities need to be rehabilitated immediately. The transport fleets of EDM and PETROMOC need to be strengthened for efficient operations. In the main urban areas, there are frequant power outages and inefficient distribution of petroleum products, whilst many areas of the country do not receive any petroleum supplies or electricity from local diesel generation. One of the results is loss of agroindustrial production and interruption of other productive activities.  - 3 - 1.08 Shortage of Trained Manpower, The shortage of trained manpower that resulted from the exodus of Portuguese managers and technicians in the mid 1970s has been a major impediment to the implementation of Government's policy of improving the operating performance of the sector institutions and supporting sustained economic development. At Independence, Government was faced with a national illiteracy rate of about 98%, and it has had to allocate a substantial proportion of its scarce resources to education. However, past and expected future levels of output of trained personnel in Mozambique are still too low relative to the needs of the economy and the sector. There is also a shortage of teachers and educational materials. In addition, emigration of skilled manpower has been and still is occurring, Consequently, there is a reliance on expatriate workers for the operation of energy supply facilities, who are generally provided under bilateral arrangements. The proposed project will take over this support from completed bilateral programs, and expand the support in so.v areas of operations and management. Government has attempted to stem the outflow of skilled personnel by issuing a new labor law in December, 1985 that allows enterprises to offer wages and incentives to motivate and retain such personnel and to reduce staff le'rels. 1.09 Institutional Weaknesses. The energy sector organizations were created after the general collapse of institutions that occurred in the mid 19709 following the Portuguese exodus. They have suffered from the economic difficulties that followed Independence, and thus have had to operate with shortages of skilled manpower and deteriorating physical facilities. Scarce management resources are fully occupied in handling routine matters, often on the basis of crisis - management, and they have little opportunity to tackle fundamental issues. Consequently, the organizations have encountered major obstacles to developing and maturing since their inception. Any lasting solution to break the vicious circle of manpower and financial const'raints, weak administration and poor economic performance will require mutlually reinforcing improvements in all areas. Sustained improvement in economic performance also requires the resumption of peaceful conditions in the countryside. 1.10 Although institutional development has progressed since the energy agencies were established in the late 1970s, it is still inadequate to deal with the demands of the new policy environment (para. 1.11). The energy sector organizations share common instittitional and management problems. Broadly, these problems fall into the following categories: (a) inadequate financial data; (b) absence of operating, financial and accounting systems; (c) lack of management information systems; (d) minimal planning and budgeting; (e) absence of internal auditing; (f) little or no technical and management training to remedy the shortage of trained managers; (g) inadcquate computer facilities; and (h) little coordination with related enterprises. These problems would be explicitly addressed in the proposed project. Economic Policy Reform 1.11 Government has recognized the need for reform of economic policy with the aim, among others, of improving the performance of the productive  - 4 - sectors of the economy. Government had already started the process of economic policy reform (increase in power tariffs by 120% in January 1986, reform of labor legislation in December 1985) before i- announced its new program of economic rehabilitation on January 30, 1987. Under chis program, the domestic currency (metical) was devalued fivefold against the US dollar (from 40 to 200 MT/US$), compensatory increases were announced for controlled prices of many strategic goods and services, including electricity and petroleum products, and wages were increased generally by 50% with discretion given to managements to increasc them by up to an additional 50% as bonuses for improved productivity or for particular skills. The program also emphasizes the need to improve the management of enterprises and their financial reporting. Woodfuels and Household Energy 1.12 Shortages of energy supplies to urban households have been causing socio-economic hardship, particularly since 1984, and there is evidence that some lower-income households are not able to afford sufficient fuel to meet basic energy needs. Fuelwood is the principal fuel for urban households, and charcoal and electricity are the only other significant fuels presently used. The shortage of fuel is manifested by escalating woodfuel costs as degradation of the natural forests and savanna-land around towns becomes more acute and supplies are lost due to the activities of armed bands. Evidence of this problem is the ten-fold increase in woodfuel prices in Maputo since the early 1980's compared to a three-fold general price increase. Woodfuel prices are many times greater than the prices of other fuels (para. 1.24). Restoring peaceful conditions to the country would bring some relief to this situation, but augmenting energy supplies through the development of indigenous energy resources (woodfuels, electricity, coal and natural gas) will take many years and require large amounts of financial resources and skilled manpower, which are extremely scarce in Mozambique. For the short-term, Government considers that the only technically available option is to import kerosene and liquid petroleum gap (LPG), but there was a shortage of these products during 1985 and 1986 due to scarcity of foreign exchange. 1.13 The dominant issue for urban household energy policy is to meet basic energy needs at least cost and with acceptable environmental consequences. Strategies are required both to increase the supply of energy and to improve the efficiency of energy use. In view of the critical importance of household energy issues, Government agreed at Credit negotiations to prepare a household energy policy paper under the coordination of MIE by December 31, 1989.. The objective of the paper is to propose the means for meeting the demand for urban household energy in a comprehensive and consistent framework, specifying the roles of various supply options and of demand management. The paper would establish the basis for designing affordable investment programs for household energy supply (fuelwood, electricity, coal) and the role of imported petroleum fuels (kerosene, LPG). The paper would also propose w.asures for demand management (energy prices, incentives for conservation). Essential preparatory work would be inclided in the project, as described in paras. 1.14, 1.15 and 1.16.  -5- 1.14 The scope for improvements in the supply of household energy is effectively limited to electricity and charcoal while attacks by armed bands persist and hinder the supply of fuelwood, and while shortage of foreign exchange restricts the availability of kerosene and LPG. The Bank's energy assessment report concluded that electricity is the least-cost form of household energy in economic terms for Mozambique, even though the expansion of electricity supply to urban households can make only a limited contribution to increasing total urban energy supply. Thus, the project includes a component to cover the foreign exchange costs of providing materials, equipment and parts for connecting 4,150 households (3,300 in Maputo, 550 in Nampula and Nacala, 300 in Beira) to the electricity supply systems in areas where EDM has waiting lists for new connections and whi-h are already covered by distribution networks 2/. 1.15 The economic benefits of improving the efficiency of charcoal production would also be high in view of the overall shortage of woodfuel resources around the main cities and the constraints on transport capacity. Present charcoal production methods are inefficient due to lack of knowledge about potentially appropriate methods that have been developed in other countries. The project includes a component to test charcoal production methods and to define the appropriate methods for Mozambique, and to prepare a program for increasing charcoal production by private sector producers from both Government-owned fuelwood plantations and from natural woodlands. 1.16 There is a need to review the major options for supplying woodfuels to urban areas. The principal options are Government fuelwood plantations, community plantations, commercial (private sector) plantations and programs of incentives for smallholders to grow trees. The financial and economic costs of production vary substantially between these options. Apart from experience with Government fuelwood plantations, which has been disappointing, there is a lack of solid technical and economic data on these options in Mozambican conditions. The project includes components to rectify some of this deficiency in Southern Mozambique through an aerophotographic survey of the forestry resources, a review of the information available and required on land-use and management of natural forests for woodfuels production, and a study of the options for increasing woodfuel supply. Energy Resources 1.17 Mozambique is well endowed with a variety of primary energy resources. A noticeable feature is the concentration of these resources along the Zambezi Valley which is far (about 1,100 km) from the main consumption center around Maputo. (i) Hydroelectric power potential has been identified at over 100 sites on the numerous rivers in Mozambique, with a combined average energy output of about 75,000 GWh/year for which an indicative total for installed capacity is about 14,000 MW. 2/ This component would increase by about 6% the total number of households connected to the electricity systems, and would effectively bring electricity to about 1% more of total urban households.  -6- About 15% of this potential has been developed at Cahora Bassa (2,075 MW, 14,000 GWh/year of firm available energy). Government has been promoting an extension to the Cahora Bassa capacity by up to 1,200 MW for exr,-rt to neighboring countries, but the prospects for obtaining commitments from these countries for major power imports are not strong. (ii) Coal deposits exist extensively throughost central-western Mozambique with estimates of total geological reserves exceeding 3 billion tonnes of run-of-mine (r.o,m.) coal, of which proven reserves amount to about 850 million tonnes. The only coalfield presently being mined is located at Moatize in the Zambezi Valley with proven reserves of about 87 million tonnes and possible reserves of 3bout 1,150 million tonnes. Government is considering a major expansion in coal production capacity to an annual level of 6 million tonnes of saleable coal in two tranches of 3 million tonnes The prospects for implementation depend on the resolution of the security situation, raising large amounts of capital and improvements to present estimates of the viability of the investments. (iii) Petroleum and Gas exploration has been carried out extensively for decades in Mozambique's large sedimentary basin, but the hydrocarbon potential of Mozambique is still relatively unknown, especially in the offshore areas. An onshore commercial gas discovery at the Pande Gas Field, located 30 km inland and about 550 km north of Maputo, was made in 1961. Estimates of recoverable reserves are broad, lying in the range 0.4 to 1.3 trillion cubic feet. Goverment is examining the feasibility of an ammonia plant using Pande gas as feedstock. There are indications of other substantial gas deposits. Government has been carrying out intensive promotion activities for petroleum exploration, and has signed exploration and production contracts with Shell, AMOCO and British Petroleum in the last two years. (iv) Forestry reserves in Mozambique comprise 046 million ha of forests with high productive potential, 4 million ha with medium productive potential, 15 million ha with low productive potential and about 37 million ha of land with forestry potential. From rough estimates, the natural annual increase in volume of the standing biomass balances the total national demand for forest products. However, there are major imbalances at the regional level between demand and sustainable yield. There are critical shortfalls in woodfuel resources around the main urban areas, particularly Maputo, Beira and Nampula, which can -I.y be addressed through long-term programs for increasing the supply of woodfuels, improving energy utilization efficiency and developing supplies of other forms of household energy. Energy Supply and Consumption 1.18 In an average year of the early 1980's, the gross energy available to Mozambique from all energy forms was about 3 million tonnes of oil equivalent (toe) or roughly 250 kgoe per capita, of which about 80% was from woodfuels. Mozambique' a per capita energy consumption was at thc.  -7- lower end of the average for Eastern Africa. 3/ Petroleum products accounted for 70% to 75% of non-woodfuel energy, -prmary electricity for 15% to 20% and coal for 5% to 10%. In the early 1980s, the distribution of consumption of these forms of energy was 27% in industry, 27% in transportation, 31% in households and public institutions, and 15% in agriculture and other sectors. An energy balance for 1984 is given in Annex 1.1 1.19 Energy Trade. Energy's role in the country's foreign trade has declined. Power exports from the Cahora Bassa hydroelectric complex were reduced in 1981 and halted in 1984 due to sabotage to transmission lines at a cost to Mozambique in foregone foreign exchange earnings of about US$8.4 million annually. National coal production is at a fraction of its level in the late 1970's due to the severance of transport links from the coal mines, and the country is losing revenues from coal exports of about US$4 million annually. Imports of crude oil have been replaced by imports of refined products, and the total volume and value of imported petroleum has declined substantially since 1981. With the closure of the Matola refinery, excess refined products ceased to be exported during 1984. The annual deficit on the trade of petroleum aad products fell from an average of US$150 million in the period 1980-82 to about US$70 millior. in 1983 with a further fall in 1984. The net cost of petroleum consumption (deficit) averaged about 21% of total imports and 45% of total exports in the period 1980-83. 1.20 Electricity Supply and Consumption. The supply of power in Mozambique excluding exports from Cahora Bassa, increased from 586 GWh in 1978 to 648 GWh in 1983. It tnen declined to 545 GWh in 1985, equivalent to a per capita consumption of about 40 kWh/year. The two major chinges in the pattern of supply have been: (a) the advent of power from Cahora Bassa, and (b) the activities of armed bands which have cut power supplies and suppressed growth in consumption of power, particularly in the industrial sector, and have even resulted in a reduction in total consumption in the Beira area. In 1978-1983, consumption increased in the Maputo area at about 4%/year, whereas the consumption in the Beira area in 1985 was only about half the level before 1982. Consumption in the Maputo area also declined from 1983 to 1985 by 13% due to supply interruptions. Consumption of power in the northern region increased by about 50% between 1979 and 1985 with the advent of power from Cahora Bassa and construction of major transmission lines. EDM estimates that it serves about 70,000 households nationally, in which case only about 2.5% of the total population and 17% of the urban population have access to electricity. ..21 retroleum Products Supply and Consumption. ConsumptioA of petroleum energy products fell by about 21% from 1978 to 1985, from 384,373 t to 303,820 t. The structure of supply, however, changed markedly. Up to 1980, Mozambique refined sizeable quantities of imported crude oil (600,000-700,000 t/y), exported more than 200,000 t/y of products (mostly gasoline and heavy fuels), and imported gas oil because of a mismatch between refinery yield composition and the pattern of demand for products. 3/ For comparison, per capita energy consumption in neighboring countries were about 760 kgoe for Zimbabwe, 560 kgoe for Malawi, 470 kgoe for Tanzania, 350 kgoe for Uganda, and 270 kgoe for Ethiopia.  -8- In recent years, in contrast, crude oil imports were drastically cut (to 250,000 t in 1983, 86,000 t in 1984 and zero in 1985), while product imports rose substantially, from an average of about 100,000 t/y in 1978-1980 to about 200,000 t/y in 1982-84 and about 300,000 t in 1985. Notwithstanding this increase, there have been acute shortages of kerosene, LPG and gasoiine in 1985 and 1986. 1.22 Coal Supply and Consumption. Mozambique's sole domestic source of coal is from the Moatize underground coal mines near Tete which have been active since the 1940s. Production peaked in 1975 at 575,000 t r.o.m. and then declined to 288,000 t in 1977 (due to underground gas and coaldust explosions). Production has declined Lince 1981 due to shor:ager, of materials and replacement parts and to disruption of the rail link to Beira by acts o_ sabotage. During 1978-82, 55% of production consisted of coking coal. Exports accounted for 56% of total production, of which one-fifth was transported overland by rail and road to Malawi, and the rest went to many countries via the port of Beira. There have been no sea-going exports through Beira since 1982, and major rehabilitation work is required to enable the railway line from the mine to carry substantial traffic. Exports by road to Malawi have continued. SiLce 1983, most coal consumed in Mozambique has been imported from the Republic of South Africa (RSA) at low costs by world price standards for use in power generation (Maputo), railway traction and cement production. Energy Pricing 1.23 Government has a general policy of maintaining price stability and enterpr4se viability, and in the past the emphasis has been on price stability at the expense of enterprise viability. Financial performance of energy enterprises, resource mobilization and market signals suffered accordingly. Electricity prices were not changed between the mid 1960s and January 1986 when they were raised by an averag: of 120%. An increase of about three-fold was announced at the same time as the five-fold devaluation of the metical on January 30, 1987. Petroleum product prizes were not changed between 1979 and the increase of about six-fold that was announced on January 30, 1987. The policy of keeping the metical grossly overvalued helped to keep the official prices of petroleum products, electricity and coal at artificially low levels in metical terms. The economic costs of meeting energy demand were nos generally considered in setting energy prices, so that changes in import parity prices or the long run marginal costs (LRMC) of meeting demand were not reflected in retail energy prices. Consequently, consumers of non-woodfuel energy products were increasingly subsidized and given little price incentive for improving the efficiency of energy consumption or for substitutions between fuels to reduce costs where economically justified. 1.24 The prices of woodfuels are market determined and substantially inflated because of supply constraints. A comparison of the costs of fuels to consumers which takes account of the conversion efficiencies of energy appliances shows that woodfuels are much more costly than electricity and kerosene, even after the large price increases for the latter announced on January 30, 1987. For household cooking, charcoal is about 5 times more expensive than kerosene and electricity on a useful energy basis. Likewise, fuelwood is about 2.5 times more expenr.ve than  kerosene and electricity, respectively. These large price differentials are not justifiable in terms of economic efficiency or social equity. The prospects for eliminating the differentials depend on future increases in the prices of non-woodfuel energy, possibly in line with exchange rate movements, a-4 decreases in woodfuel ?rices that should accompany any improvement in tI.e security situation. Government Strategy in the Energy Secto' 1.25 Government maintairis that its economic strategy is guided by two complementary principles, to maintain the viability of productive assets through rehabilitation and maintenance programs, and to promote sustained economic development through exploitation of indigenous resources. Likewise, issues facing energy sector planning can be classified into those that focus on the short to medium term, and those whose nature is essentially long term. This distinction separates issues of operational efficiency, institutional development and pricing from those of exploitation of major resource potential. Development programs for the energy subsectors need to be consistent with the shortage of trained manpower and financial resources and the realities of the security situation. Under the circumstances the overriding issue is the need to prioritize the claims on resources. The Bank's energy sector report recommended that priority should be given to short to medium term developments with high economic returns. The present state of insecurity limits Government's scope for implementing major projects with long-term objectives. 1.26 Government has not prepared least-cost development programs for meeting demand for energy products. Instead, over the last few years, Government has expended substantial amounts of scarce financial and manpower resources on the preparation and promotion of large energy and energy-intenslvr projects. This work forms part of Government's strategy to place Mozambique in a position to exploit regional and international market opportunities once the security situation improves and markets can be assured at viable prices. Some of these projects involve massive investments relative to the size of the economy. The combined investment on these projects amount to about US$2,150 million in constant price terms of the early 1980s. 4/ This amount compares to about US$1,540 million for total public investment, and to about US$335 million for investment in the energy sector for the period 1980-1985, and to a national external debt of about US$2,900 million at the end of 1985. 1.27 The Bank's energy sector report concluded that the strategy of large-scale development of known energy resources specifically for export by Mozambique has not been shown to be economically justifiable at present, arising from _onstraints or lack of competitiveness in export markets and from inadequate project preparation. A major change in circumstances would be required to reverse this general conclusion, such as a substantial and sustained increast in commodity prices as well as an improvement in the country's security situation. The justification for continuing substantial 4/ The major energy developments currently being promoted or prepared by Government are Cahora Bassa Stage 2 (US$512 million), Moatize Coal (US$979 million for Phases 1 and 2 (to 6 million tonnes/year and including associated infrastructure), Pande Gas Field (US$20 milliou), an ammonia plant (US$280 million) and an aluminum plant (US$360 million).  - 10 - expenditure on resource exploration and project identification under the presently unfavorable economic, financial and security circumstances needs to be reviewed in light of the consequential diversion of vscarce resources from the immediate priorities of improving the efficieacy of existing operating assets and the financial performance of supply agencies. The case of petroleum exploration, financed largely from foreign resources, was considered an exception. 1.28 The Bank's energy sector report recommends a five-year development program for the sector with priority for rehabilitating operating facilities and technical assistance for institutional strengthening, operational support, manpower development and system planning. The estimated cost of this program is US$175 million (1985 prices), of which US$80 million is for the power and petroleum supply subsectors. The report also concluded that Government should prepare energy development programs to support economic recovery in the medium term, Technical assistance to the energy agencies is included in the proposed project to prepare plans for the sound development of the power, petroleum and household/energy woodfuel subsectors in accordance with objectives recommended in the sector report. The programs will cover both rehabilitation and expansion of energy supply systems, while limiting premature or non-economic efforts on large projects. Bank's Role in the Energy Sector 1.29 The project would support the Bank's overall country assistance strategy of supporting the key productive and infrastructural sectors, namely agriculture, industry, transport and energy, through rehabilitation of facilities and technical assistance. Bank support in the first three sectors is being provided through the First Rehabilitation Credit (1610-MOZ) and the forthcoming Second Rehabilitation Credit. The energy project would complement these two operations. 1.30 The priority for the Bank's role in the energy sector is to help maintain the momentum of policy and institutional reform (para. 1.11) by assisting energy agencies to implement the necessary reforms in the sector find mobilize resources to improve the reliability of energy supplies to key economic consumers. The project would asnist in the reform of pricing and investment policies by assisting in the production of reliable financial information and in preparing least-cost development programs in the electricity and petroleum sub-sectors and for household energy. Institutional reform is to be attained by assisting in the design and installation of efficient management and financial systems and by training programs. The reliability of energy supplies is to be improved by rehabilitating energy supply and distribution facilities coupled with the assistance for institutional strengthening and development planning. Mobilizing and directing donor support to the immediate rehabilitation and institutional strengthening priorities would be based on the Bank's energy sector report which provides the basis for Government and the donors to agree on a support program. Government agreed at Credit negotiations to (i) exchange views with the Association on the results of studies for subsectoral development financed under the project and on the implications for the energy sector investment program; and (ii) not to enter into commitments for energy investments of more than US$3 million which are  - 11 - outside the Bank's recommended five-year development prolram (para. 1.28) without prior consultation with IDA. This program was adopted as the agreed investment program at negotiations. Experience with Past Lending 1.31 The projoct would be the Bank's first operation in the energy sector and the second operation of any type in Mozambique, and the Bank's experience in the sector is limited to its work on the sector report and preparation for the project. The Bank's first operation in the country, the First Rehabilitation Credit, was appraised in May 1985, and was designed to finance priority imports for the agricultural, industrial and transportation sectors. The opera .on has progressed satisfactorily with US$24.6 million out of the total Credit of US$ 42 million disbursed by end-1986. About US$2 million of additional co-financing has been provided by the Governments of Norway and Italy since Credit effectiveness. II. THE POWER AND PETROLEUM SUBSECTORS A. The Power Subsector Organization of the Power Subsector 2.01 Electricidade de Mozambique (EDM), which reports to the MIE, was created in 1977 and given the exclusive responsibility in the country for the public supply of electricity including generation, transmission and distribution of power. Empresa Nacional de Installagoes Electricas (ENIEL) is responsible for the construction of major public works, and it reports to the Ministry of Construction and Waters. ELECTROMOC is responsible for the construction of other works in the power sector, and it reports to the Ministry of Industry and Energy. Electrical work in houses is carried out by private sector organizations that are approved by EDM. 2.02 The Cahora Bassa hydroelectric complex on the Zambezi river is owned and operated by Hidroelectrica de Cabora Bassa (HCB), 5/ a company largely owned and controlled by Portuguese interests (82%) with a minority share (18%) held by Mozambican interests. The complex started commercial operations in 1977 and was completed in 1979. It was constructed primarily to export low-cost power to RSA. The installed capacity of 2,075 MW makes Cahora Bassa the largest power generating complex in Africa. The complex is linked by a 1,400 km transmission system operated at 533 kV with direct current to RSA. During the first few years of operation, the system was subject to a large number of line faults. Since 1980 the lines have been sabotaged, putting the link out of service for long periods, notably from 1984 until the present, Major replacement work is required tc restore the lines to service. Neither Government of Mozambique nor EDM has any obligation for servicing the debt from Cahora Bassa. 5/ The spelling of Cahora Bassa with a letter 'b" in the word Cahora reflects the normal usage pre-Independence, and thus it became the legal nomenclature for HCB. After Independence, the spelling was changed with an "hw replacing the "b".  - 12 - 2.03 Under parallel arrangements to the Cahora Bassa supply contract between HCB and the South African Electriclty Supply Commission (ESCOM), HCB can supply EDM with up to 200 MW at two locations, namely at Komatipoort on the border with RSA to supply EDM's Southern system (Maputo) through the ESCOM system, and directly from Cahora Bassa to EDM's Central-Northern system. This source is the lowest cost supply for Mozambique when available. 6/ Thus, the benefits to Mozambique from the project are availability of Free power (up to 200 MW) and receipt of about US$4 million/year when the supply to RSA is firm and fully available. In the second half of 1985 EDM contracted with HCB and ESCOM to be supplied with a maximum demand of 86 MW (69 MW at Komatipoort, 17 MW directly from Cahora Bassa). EDM also has an agreement with ESCOM to take power from ESCOM's system for EDM's Southern system when the lines between Cahora Bassa and RSA are out of operation. Since HCB has been unable to supply ESCOM with power from Cahora Bassa since 1983, the contracted supply at Komatiport has been by ESCOM to EDM. 7/ Power Supply Facilities 2.04 The total installed generating capacity under EDM's control (interconnected and isolated systems) in 1985 was approximately 250 MW excluding the entitlement from Cahora Bassa and the capacity of the link for ESCOM power imports (Annex 2.1). The principal generating capacities are coal-fired steam units and gas turbines in Maputo Power Station (112 MW installed) and two hydroelectric stations in the central region to serve the Beira area (100 MW installed). The available capacity is no more than 210MW since generating units at the main stations have been derated due to advanced age and poor condition. EDM's system also contains about 3,000 km of high and medium voltage transmission lines and about 1,300 substations in three independent systems (Southern, Central and Central-Northern). The 275 kV transmission link between EDM's system in southern Mozambique and ESCOM's system can be used to transmit up to 120 MW of Cahora Bassa power to the Maputo area, but the maximum off-take is limited to 80MW by the available substation capacity at Maputo. The main power supply facilities in Mozambique are shown on Map IBRD 20093. 2.05 " e main issues facing EDM are the backlog of maintenance work on power facilities and EDM's difficulties in carrying out operations efficiently. There are extensive power outages which cause substantial economic cost through lost industrial and agroindustrial production. Some of the power shortages have been caused by acts of sabotage to power transmission facilities, but power shortages have also been caused by deterioration in supply facilities. Only urgent maintenance work on the EDM system has been carried out in recent years with assistance from Norway, Italy and Holland for supply of imported materials and skilled manpower. 6/ Under the renegotiated contracts in 1984, the cost of power from Cahora Bassa to Mozambique would be equivalent to 0.65US