Mexico - Decentralization and Regional Development Project For the Disadvantaged States

Document of The World Bank FOR OFFICIAI, USE ONIY g /t' } -> / ( Li / Report No. P-5364-ME MEMORANDUM AND RECOMMENDATION OF THE PRESIDENT OF THE INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN IN AN AMOUNT EQUIVALENT TO US$350 MILLION TO NACIONAL FINANCIERA, S.N.C. WITH THE GUARANTEE OF THE UNITED MEXICAN STATES FOR A DECENTRALIZATION AND REGIONAL DEVELOPMENT PROJECT FOR THE DISADVANTAGED STATES MARCH 4, 1991 This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  CURRENCY EQUIVALENTS Currency lUnit = Mexican Peso (Mex$) US$1 = Mex$2,950 Mex$1 million = US$340 (December 1990) FISCAL YEAR January 1 - December 31 WEIGHTS AND MEASURES 1 meter (m) = 3.28 feet (ft) m kilometer (km) = 0.62 mile (mi) 1 hectare (ha) = 10,000 m2 = 2.47 acres I square kilometer (km2) = 0.38 square miles (mi2) = 100 ha I metric ton (m ton) = 2,205 pounds ABBREVIATIONS AND ACRONYMS CUD - Development Agreement between the Federal Government and the State NAFIN - Nacional Financiera, S.N.C. PIDER - Integrated Rural Development Project POA - Annual Operative Program SPP - Secretariat of Programming and Budgeting  FOR OFFICIAL U3E ONLY MEXICO DECENTRALIZATION AND REGIONAL DEVELOPMENT PROJECT FQR THE DISADVANTAGED STATES Loan and Project Summary Borrower: Nacional Financiera, S.N.C. (NAFIN) Guarantor: United Mexican States Executing Agency: Secretariat of Programming and Budget (SPP), other Federal Entities, the Project States of Chiapas, Guerrero, Hidalgo and Oaxaca, and Participating Municipalities. Beneficiaries: Target groups in rural poverty areas and groups of producers (about five million persons) in the states of Chiapas, Guerrero, Hidalgo, and Oaxaca. Public works under the project would generate about 230,000 man-years of employment in the fot'r states. Amoum: US$350 million equivalent Terms: Seventeen years, including five-year grace period, at the standard variable interest rate. Finanging Plan: Bank financing: US$ 350 million Beneficiaries: US$ 241 million Government: US$ 772 million Total: US$1,363 million Economic Rate of Return: Not applicable, but the selection criteria used for screening subprojects assures an economic rate of return for infrastructure and productive projects of at least 12 percent. For social and small infrastructure projects, social and minimum cost justifications will be provided. Staff Appraisal Report: Report No. 8786-ME Map: IBRD 2231IR This docurnent has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  INTERNATIONAL BANK FQR RECONSTRUCTION ANM DEVELOPMENT NIENIORANDUNI AND! RECOMMENDATION OF THE PRESDENt TO THE EXECUTIVE DIECTORS ON A PROPOSED LOAN TO NACIONAL FINANCIERA. S.N.C.. WITH THE GUARANTEE OF THE UNITED MEXICAN STATES, FOR A DECENTRALIZATION AND REGIQOAL DEVELOPMENT PROJECT FOR THE DISADVANTAGED STATES 1. The following memorandum and recommendation on a proposed loan to Nacional Financiera, S.N.C. (NAFIN) for US$350 million equivalent is submitted for approval. The proposed loan would be on standard IBRD terms with 17 years maturity and would contribute to the reduction of poverty in the four most disadvantaged states, through a program of decenitralization and regional development. Complementary loan components include environmental preservation and the protection of archeological sites. 2. Background. Of the 21 million people living below the poverty line in Mexico, two- thirds live in rural areas. About one-third of Mexico's poor (seven million persons) inhabit Chiapas, Guerrero, Hidalgo and Oaxaca. The poor constitute about 65 percent of the population of these states. The four states have large disadvantaged Indian populations, and a concentration of poverty among women and children. While poverty in these areas has longstanding structural roots, it has worsened during Mexico's economic crisis beginning in 1982. Between 1982 and 1988, public investment declined by about 60 percent. Cuts in rural, regional and social sectors were even deeper, reaching about 70 percent and leading to the collapse of poverty reduction programs in the four target states. The reduction of investment contributed to a decline of about 20 percent in rural real incomes between 1983 and 1988. 3. Past Government policies have hampered the economic and social development of the four states: (a) exchange rate, trade and pricing policies have had an anti-agricultural bias; (b) public expenditures on social services have favored the better-off states; (c) despite the remoteness and dispersion of many settlements, infrastructure investments have been less than the national per capita averages; (d) the excessively centralized administrative, financial, and fiscal systems have not allocated resources efficiently to the very heterogeneous and peripheral regions of the states; and (e) agricultural services (research, extension, marketing) have been underfunded and poorly developed. Current Government strategy and the proposed project are directed at redressing some of these past policies. 4. Rationale for Bank Involvement. The rationale for the Bank's involvement is based on the following: O The project fits within the Bank's country strategy. The success that the Government has had in managing its economic adjustmnent program and improving its balance of payments has shifted the focus of the Bank's assistance program from adjustment and policy lending to one which would finance investment programs for physical and social infrastructure that would support renewed growth, have benefits for the poor and would aid the Government's efforts to overcome problems of environmental degradation. The project fits within this strategy. o The policy framework is consistent with the 1990 World Development Report criteria for successfully undertaking poyvei reduction programs. Mexico has adopted an economic policy framework which includes: (a) sound macroeconomic management as the basis for  -2- restoring growth; (b) the elimination of anti-employment biases in trade policy, a market based interest rate policy and tax policy reform; (c) the elimination of urban bias in agricultural, food and nutrition policies; and (d) the better targeting of public expenditures and subsidies towards poor regions and poor people. The project incorporates the lessons learned from 15 years of Bank experience in rural regional deve1onmJlnt in Mexico. The Bank has undertaken five projects supporting rural regional development since 1975 and has made a careful assessment of these efforts. These projects have strengthened administrative structures, mechanisms and procedures at the federal, state and municipal levels that today serve as the basis for federal-state- municipal planning of rural regional development projects. The principal lessons learned are the following: (a) the importance of community participation for successtlu regional development; (b) the need to transfer real responsibility and authority to lower level jurisdictions in order to achieve community participation; (c) the imp-rtance of using existing administrative structures for project implementation and of avoiding the creation of parallel structures; (d) significant poverty alleviation impact is not feasible without significant resource allocation; (e) the importance of infrastructure investment to support private sector growth; and (f) the poverty focus of investment programs and projects must be carefully monitored. O There are sufficient control mechanisms in place to manage successfully a large multi- sectoral investment proram. Procedures and operational manuals which were strengthened under earlier Bank financed projects and during project preparation are in place and operating for selecting and implementing projects. The project will be managed through special coordinating groups at the federal level and in the four project states. Annual reviews will be undertaken with the Bank to assess progress in the investnent programs. The annual reviews will provide the opportunity to redirect institutional development efforts to those agencies which reveal institutional weaknesses and investment resources to those agencies which have shown greater implementation capacity. The Bank has the right to stop disbursements to a noncompliant state or to reassign loan resources from a low performing to a higher performing state. Appropriate procurement arrangements under the proposed project recognize the large number of small community-based projects. Monitoring and evaluation and auditing procedures have been designed with great care to take into account the large number of municipalities which will be involved in project execution. o Sustainability of the investments has been enhanced by central and state public finance decisions. The federal government has already committed significant fiscal resources to the four states and the states will improve their own revenue generation. The share of poor states in central fiscal revenues has been increased, and revenue-sharing between states and municipalities will be made more equitable. O The project provides an umbrella for monitoring and ,cariyin out projects in the target sxai. The Bank has approved and is planning other projects directed at poverty alleviation including or specifically directed to the target states. These include projects for basic health, nutrition, agriculture, water and sanitation, and basic education. The proposed project strengthens the capacity of the states to plan, finance, execute and monitor their investment programs. The Bank projects in the states will benefit from this increased capacity. The concentration of Bank projects will also facilitate the Bank's supervision and monitoring of the components of the state development programs by  -3 - appropriate sector specialists. The proposed project provides a framework for coordinating investments and sector policies. 5. Projiet Qbiectiyes. The principal objective of the project is to increase the access of poor and indigenous populations in the four poorest states of Mexico to basic infrastructure, social services, larger markets, and agricultural technologies. The specific project objectives are: (a) to assist the states in developing, executing and financing investment programs with a strong poverty alleviation focus; (b) to assist the Federal and State planning and budgeting ministries in making their project selection, environmental assessment, and monitoring and evaluation functions more efficient and the financing more flexible; and (c) to strengthen the decentralized state and municipal institutions to identify, prepare, build, operate, and maintain the investments in a more participatory manner. Environmental preservation and the protection of archeological sites are complementary project objectives. 6. Project Description. The project has three components: (a) investment; (b) environmental and archeological site protection; and (c) institutional development. 7. The investment component would finance a four-year US$1.3 billion investmnent program in the four target states. The Bank loan would allocate US$274 million to finance 50 percent of the cost of projects in the core investment program. About 46 percent of the program would be for infrastructure projects (rural roads and rural electrification), 30 percent for productive projects (agriculture, forestry and agroindustries), and 24 percent for social projects (education, water supply and sewerage systems). Projects will be selected on the basis of their targeting of the poor, technical feasibility, benefits relative to costs and beneficiary contribution and commitment to operation and maintenance. 8. The environmental preservation and archeological protection component of the project would finance 100 percent of the eligible costs (US$43 million) of a program (the Lacandona Protection Plan) which would: (a) protect the last remaining humid forest ared in Mexico; (b) strengthen the institutional capacity of federal offices, state agencies, and municipalities in order to improve project assessment techniques and environmental policy implementation; and (c) finance the restoration of selected archeological sites. 9. The institutional development component would allocate US$18 million of loan funds to finance 100 percent of eligible costs for strengthening: (a) project executing agencies (mainly in the agricultural and roads sectors); @) state and municipal planning and budgeting systems; and (c) the state and municipal entities to assume additional administrative functions that they have and will be receiving under the Government's program of decentralization. 10. US$15 million of loan funds are as yet unallocated and will be available for future allocation among the three components described above. The project provides funds for civil works and materials; furniture and equipment; training, studies, and technical assistance. The total cost of the project is estimated at US$1,363 million equivalent, with a foreign exchange component of US$425 million (31 percent). Retroactive financing of up to US$35 million for expenditures incurred after May 1, 1990 will be made available. A breakdown of costs and the financing plan are shown in Schedule A. The loan would be made to the Government financial agent, Nacional Financiera (NAFIN), and executed by the Secretariat of Programming and Budgeting (SPP), other Federal Entities, the Project States and Participating Municipalities. Loan funds would be passed on as grants and would only be available for investment costs and technical assistance, but not for recurrent costs or credit. The project would be implemented over a five-year period. A timetable of key project processing events and the status of Bank Group operations in Mexico are given in Schedules C and D, respectively. A map shows the location of the states. Staff Appraisal Report No. 8786-ME dated March 4, 1991, is also attached.  -4- It. Agreed Actio. Among the conditions of loan effectiveness, it has been agreed that: (a) the Bank and the Government agree on the first year institutional development program. (b) that project state agreements shall have been signed between the Secretariat of Programming and Budgeting (SPP) nd the participating states to assure that state policy actions on fiscal reform and revenue-sharing are b- ing implemented and that all Bank and project rules will be respected and include the right of SPP to sn.spend disbursements in case of noncompliance; and (c) that the agreed monitoring and evaluation system be established and made operational. 12. Among the conditions for disbursement, it has been agreed that for calendar years 1991, 1992 and 1993, two project appraisals for medium and large projects, covering two program categories per state, % ill be submitted to the Bank prior to disbursement for medium and large projects within each state. 13. The Government has agreed to the following principal actions: (a) that by February of each year, during the project review, evidence would be provided by the respective state and participating agencies, that recurrent expenditures associated with investments in education, roads, and agriculture are included in the sectoral or state annual budgets; (b) that it will apply the project appraisal and selection systems, as well as other guidelines of the Operational Manuals; and (c) that by January 31 of each year during Project execution, SPP will submit to the Bank for its review, the Annual Operative Programs (POA), including the state action programs in resource mobilization and revenue-sharing with municipalities, the Annual Conservation Programs for Lacandona, and institutional development programs. 14. Benefits and Risks. The proposed project would help decrease by an estimated 40 percent the gap in access to roads, schools and other basic social goods of the populations in the four poorest states, as well as improve economic opportunities to the mostly indigenous rural populations. Employment in public works generated by the project is estimated at about 230,000 man-years. Possible risks arise from the fact that some states and municipalities have relatively weak administrative structures, and that their geography and social composition are quite varied. Environmental risks are important in some areas with fragile systems. Investment decisions may be subject to political influences, and money could be misappropriated. To mitigate these risks, the project emphasizes strengthening existing safeguards and building new ones into subproject selection, monitoring, evaluation, and audit. Decentralization would be carefully paced. The regional development mechanism used in the project is the development agreement between the Federal Government and each state called the Convenio Unico de Desarrollo (CUD), which has been improved over many years and is designed to solve interagency conflicts in the design and execution of the investment programs. Institution building components and technical assistance would strengthen administrative and implementation capacities of the states and municipalities as they receive additional functions and revenues. The environmental component would strengthen environmental protection capability at the state level. 15. Recommendato. I am satisfied that the proposed loan would comply with the Articles of Agreement of the Bank and recommend that the Executive Directors approve the proposed loan. Barber B. Conable President Attachments Washington, D.C. March 4, 1991  -5- Schedule A MEXICO DECENTRALIZATION AND REGIONAL DEVELOPMENT PROJECT FOR THE DISADVANTAGED STATES Estimated Costs-and Financina Plan Local Foreign Total ---in USS millions------ Estimated Costs Productive Subprojects 245.3 81.8 327.1 Infrastructure Subprojects 316.5 173.2 489.7 Social Subprojects 171.9 86.5 258.4 Institutional Developwent 14.1 4.7 18.8 Environmental and Cu(tural Patrimony 35.8 6.5 42.3 Base Cost ?8. 352.7 1136.3 Physical Contingencies 73.4 34.1 107.5 Price Contingencies 80.9 38.0 118.9 Total Project Cost 94132 Financina Plan Government 600.4 171.3 771.7 Beneficiaries 241.0 0.0 241.0 IURD 70.0 280.0 350.0 Total 911.4 Ol IN6.  -6- Schedule B Page 1 of 2 MEXICO DECENTRALIZATION AND REGIONAL DEtELOPMENT PROJECT FOR TH13 DISADVANTAGED STATES Procurement Method and Disbursements Procurement Method Type of Project Local Direct Expenditures ICe LCB Shosoing Purchasing Other Total Cost Civil Works and 90.4 730.4 100.0 - 920.8 Materials (22.6) (138.7) (33.0) (194.3) Furniture - 299.1 20.0 - 319.1 and Equipment (74.6) (8.0) (82.9) Municipal Funds Materials for Civil Works - 80.0 - 80.0 (40.0) (40.0) Goods and Equipment - - 20.0 - 20.0 (10.0) (10.0) Training and Studies - - - - 11.7 11.7 11. 7) (11.7) Technical Assistance 1 11'1 (11.1) (11.1 Total 90.4 1029.5 120.0 100.0 22.8 1362.7 (22.6) (213.3) (41.0) (50.0) (22.8) (350.0) Note: Figures in parentheses are the estimated respective amounts to be financed by the Bank Estimated IDRD Disbursements IBRD Fiscal Year Estimated 9V' 92 93 94 95 Bank Disbursements ---------------- in USS millions---------------- Annual 70.0 100.0 100.0 45.0 27.5 7.5 Cumutative 70.0 170.0 270.0 315.0 342.5 350.0 pJ Retroactive financing of US$35.0 million to be provided for all project expenditures incurred after May 1, 1990.  7 . Schodule B Page 2 of 2 MEXICO DECENTRALIZATION AND REGIONAL DEVELOPMENT PROJECT EQR THE DISADVANTAGED STA5ES DRibursemqnt Categorie Amount of the Loan Allocated (Expressed % of Expenditures Category in Dollars Equivalent) to be Financed (1) Agricultural Promotion and Extension Part A (3P) 39.1 ) (2) Small Scale Irrigation Part B (EA) 34.0 ) (3) Agroindustry Part C (FP) 10.4 (4) Rural Roads Part D (EK) 101.7 ) 50% (5) Rural Electrification Part E (EU) 23.0) (6) Rural Schools Part F (5F) 33.4 ) (7) Water Supply and Sanitation Part G (EC/ED) 32.4 (8) Technical Assistance, Training, and Studies, Part H 18.0 100% (9) Environmental Protection 42.3 100% a. Lacandona Reserve 35.1 b. Others 7.2 (10) Cultural Site Restoration 0.7 100% (11) Unallocated 15.0 Total 350.0  -8- S - HE D