India - Second Industrial Imports Credit

RESTRICTED FILE COPY Report No. -4 This report was prepared for use within the Bank and its affiliated organizations. They do not accept responsibility for its accuracy or completeness. The report may not be published nor may it be quoted as representing their views. INTERNATIONAL DEVELOPMENT ASSOCIATION REPORT AND RECOMMENDATIONS OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED DEVELOPMENT CREDIT FOR A SECOND INDUSTRIAL IMPORTS PROJECT INDIA August 2, 1965  INTERNATIONAL DEVELOPMENT ASSOCIATION REPORT AND RECOIMENDATION OF THE PRESIDEMT TO THE EXECUTIVE DIRECTORS ON A PROPOSED CREDIT TO INDIA FOR INDUSTRIAL IMPORTS 1. I submit the following report and recommendation on a proposed development credit to India in an amount in various currencies equivalent to $100 million. The proposed credit would assist selected sectors of capital goods manufacturing and the construction industry by providing foreign exchange to pay for a portion of the imports of components, materials, spare parts and balancing equipment required to expand pro- duction in these industries. PART I - BACKGROUND 2. In June 1964 I recommended, and you approved, a similar credit to India. It was the first instance in wihich we tested the proposal that, in appropriate cases, the Association should be prepared to make available long-term financing for the import of components and materials required to maintain or to increase industrial production. It is now clear that last year's credit (No. 52-IN) has been successful in achieving its primary objective, which was to support and expand production of selected capital goods, It is also evident that a substantial further increase in produc- tion can be obtained from exist._.ng industrial facilities if additional imports are made available, and that an urgent requirement in the Indian economy today is to provide such imports. 3. The proposed credit would increase the total amount of IDA assis- tance to India to $585 million. Another $85 million remains from IDA con- sortium pledges for the Third Five-Year Plan; this is expected to be committed to specific projects by March 31, 1966. 4. All past credits are now effective and, as of June 30, 1965, $287.9 million had been disbursed. These 16 credits can be summarized as follows: Purpose Amount ($ million) Roads project 60.o Six irrigation projects 56.5 Three power projects 56.o Bombay Port project 18.0 Tw.ro telecommunications projects 75.0 Two railwjay projects 129.5 Industrial imports 90.0 Total 485.o  - 2 - 5. The total of outstanding credits on June 30, 1965, included an undisbursed balance of $197.1 million. For the majority of credits disbursements have been proceeding regularly. There are four credits, however, which have been affected by difficulties of various kinds. (a) Delays in the implementation of the national highways program, affecting disbursements under a $60 million credit made in 1961, are summarized in a recent memorandum to the Executive Directors (IDA/R65-8), dated July 22, 1965, which also indicates steps taken to expedite completion of the project. (b) Executive Directors were informed on May 24, 1963, (R63-h7) that disbursements against local currency expenditures for the Saland-i Irrigation Project were being withheld pending a full review of design changes and their effect on cost estimates. Since then two missions visited Salandi -- first in Novermber 1963 and more recently in May this year -- for consultations with project authorities. Preparations have now progressed to the point where a full field review can be scheduled for later this year. If the forthcoming mission confirms that adequate arrangements have been made to complete the project in a satisfactory manner, disbursements will be resumed under the $8 million credit approved in 1961. (c) In the Bombay Port Project, for which a credit of $18 million was approved in 1962, progress is about two years behind schedule mainly because of slow contract prepara- tion. A letter of intent has now been issued to the main contractor, and construction is expected to get under way shortly. (d' The first Telecommunications Project, for which a credit of $42 million was approved in 1962, will require an exten- sion of about one year in the Closing Date because of the time required to make an adequate choice between competing suppliers for the new exchange system, 6. The Bank has now made 34 loans in India, totalling $978.1 million (net of cancellations), of which $761.6 million has been disbursed. Further details, as of June 30, 1965, are as follows:  -3- Amount ($ million) a/ Total loans, net of cancellations 978.1 of which has been repaid 215 , Total now outstanding 762.7 Amount sold 97.0 of which has been repaid 76.3 20.7 Net amount held by Bank 742.0 a/ Including recent loans for ICICI ($50 million) and the Second Kothagudem Power Project ($14 million), which are not yet effective, and for Power Transmission ($70 million) part of which became effective on July 27, 1965. PART II - DESCRIPTION OF THE PROPOSED CREDIT 7. The main features of the proposed credit are as follois: Borrower: India, acting by its President. Amount: Various currencies equivalent to $100 million, Purpose: To increase utilization of existing manufacturing capacity and other capital equipment in India by increasing the availability of foreign exchange for the import of materials, components, spare parts and miscellaneous items of balancing equipment. Service Charge: 3/A of 1 percent per annum. Repayment: The development credit would be for a period of 50 years. Repayment would be in semi-annual instalments commencing January 1, 1976 and ending July 1, 2015, each payment up to July 1, 1985 to be 1/2 of 1 percent of the principal amount and each subsequent payment to be 1-1/2 percent of the principal amount.  - 4 - PART III - APPRAISAL OF THE PROJECT 8. An appraisal report (TO-485a) is attached. It has been con- siderably shortened compared to last year's (TO-41ha), since the industrial sectors which would participate in the project and the economic environment in which they operate are fully described in the earlier report. The only major addition is the electrical cable and wire industry. 9. The project forms a part of a program to increase the ut.lization of existing manufacturing capacity and provides primarily for the import of materials, components and spare parts required by manufacturers of road -transport equipment (trucks, buses, engines and automotive components), electrical equipment (including cables and wires), machine tools, cutting tools and construction equipment. In addition to the foreign exchange which would be provided fron proceeds of the proposed IDA credit an equi- valent amount will be allocated to these same industries from other sources of foreign exchange available to the Government of India. Except in the case of the elec-trical cable producers, foreign exchange allocations to these sectors of industry would be at roughly the same levels as in the previous year (196h/65); however, because of the increasing tempo of deliveries against earlier import licenses and also as a result of the growing availability of materials and components from indigerncus sources, production is expected to increase during the next 12 months by at least 10 percent in all participating sectors and by as riuch as 25-35 percent in some. 10 To an even greater extent than last year the proposed credit would be used to provide imported materials and components for manufacturers. However, as in Credit 52-IN, the present proposal would include a modest provision for miscellaneous items of imported equipment required to balance and rationalize existing manufacturing lines. This portion of the credit would be used largely in conjunction with assistance available froma other members of the Indian consortium. Consortium aid is generally tied to procurement in particular countries and for this aid to be fully prcductiv.!e there is a need for rounding out with IDA-type funds, which can be used for purchases in any member country and in Switzerland. 11. The proposed credit would also provide small amounts for the import of spare parts to service construction equipment, Indian-manufactured indus- trial machinery (to the extent that essential parts still need to be imported) and the existing fleet of road transport vehicles. Furthermore, the reform instituted a year ago, which put authorized representatives of foreign con- struction equipment manufacturers in a position to maintain more adequate parts stocks in India, has worked satisfactorily and is expected to continue. 12. During the past year, in the administration of the first credit and in conjunction with the appraisal of this new proposal, Association missions have exchanged views with Indian officials regarding government policies affecting these industries and plans for their future development, and we have observed some progress toward the solution of a number of problems  - 5 - concerning these industries. Despite severe and continuing pressure on the balance of payments, import licensing procedures have been improved to pro- vide greater flexibility to manufacturers and to permit improvement in production planning and in the control of materials inventories. Steps have been taken to ensure more efficient management of heavy earthmoving and construction equipment and to rationalize the provisioning of construc- tion equipment spares; moreover, public works departments are learning how to make better use of services available from equipment manufacturers, dealers and contractors. Progress has been recorded in the modernization of electrical equipment designs so as to economize in the use of scarce materials. Such trends could usefully be accelerated. 13. There is a growing awareness in India of the need to consolidate existing manufacturing facilities before investing in further expansion. Studies are in progress to provide a more realistic assessment of present manufacturing capabilities and of imports required for optimum production in these industries. The Indian Government has continued to stress export promotion, but the full benefits have still to be reaped. Furthermore, unless the government succeeds in developing a more effective program for the economic exploitation of local minerals, a rapidly growing import bill for such materials as non-ferrous and other metals seems unavoidable. 14. The industries which would benefit directly from the proposed credit are growing fast, and many of the companies concerned are highly profitable, even after allowing for heavy taxation. By and large, the firms visited by the appraisal team follow business practices and policies that resemble those of similar firms in Europe and the United States, and some would be considered outstanding even in more industrialized countries -- well laid out, with highly efficient labor, and practicing good production control techniques. 15. The credit would be used for imports under licenses giving the recipient freedom to purchase in the way which best suits his needs. In view of the large number of items involved, many of which have to fit existing equipment in India, it would be inappropriate to insist on special procurement procedures. PART IV - LEGAL INSTRUMENTS AND AUTHORITY 16. A draft Development Credit Agreement between India and the Association is being distributed separately to the Executive Directors; it follows substantially the Agreement for Credit 52-IN and conforms to the usual pattern of development credit agreements. Attention is drawn to Section 4.01 (b) of the draft Development Credit Agreement which contains commit- ments of the Borrower with respect to the issuance of licenses, the avail- ability of foreign exchange and the allocation of local materials. These commitments are supplemented by a letter entitled "Foreign Exchange and Import Licenses" which is also being distributed separately.  - 6 - 17. The Recommendation of the Committee provided for in Article V, Section 1 (d) of the Articles of Agreement of the Association is also being distri- buted separately. PART V - ECONOMIC SITUATIOaN 18. A memorandum on the economic situation in India was distributed on May 19, 1965,in connection with the Sixth Loan to ICICI (R65-75). A mission from the Bank is at present engaged on a special study of the economy, and no further economic report will be prepared until this study is finalized. 19. No substantial changes have occurred in the economy since the May 19 memorandum was prepared. The pressures put on the balance of payments by increased foodgrain imoorts -- in addition to large shipments of wheat from the United States under PL-480 -- and a continued lag in export receipts have prevented any relaxation of India's always difficult foreign exchange situation, in spite of accelerated disbursements of external assistance. On July 23 the official foreign exchange reserves of India were $473 million compared with $51