India - Fourth Industrial Imports Project

RESTRICTED f IQpy t0PYReport No. P-518 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 The report may not be published nor may it be quoted as representing their views.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 RECOMMENDATION OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED DEVELOPMENT CREDIT TO INDIA FOR THE FOURTH INDUSTRIAL IMPORTS PROJECT December 14, 1966  INTERNATIONAL DEVELOPMENT ASSOCIATION REPORT AND RECOV2TENDATION OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED DEVTELOPMENT CREDIT TO INDIA FOR A FOURTH INDUSTRIAL IMPORTS PROJECT 1. I submit the following report and recom,mendation on a proposed credit to India in an amount in various currencies equivalent to US $65 million. PART I - HISTORICAL 2. Last summer I recommended to the members of the Indian Consortium that $900 million be provided to India during the current fiscal year (April 1, 1966 to March 31, 1967) by way of support for the import decontrol prograrm and other policy measures initiated by the Government of India earlier this year. On August 18, 1966, as part of the Association's share of this consortium assistance, you approved a credit of $150 million for the Third Industrial Imports Project. The proposed credit of $65 million would represent the balance of the Asso- ciation's contribution to the consortium effort. 3. As in the case of the three previous credits for industrial imports, the proposed credit would assist selected industries, mainly in the field of capital goods production, by providing foreign exchange to pay for a portion of the imports of components, materials, spare parts and balancing equipment which they ;require to maintain and expand production. The industrial sectors which will benefit from the proposed credit are identical to those included under the Third Industrial Imports Credit. 41. The Association has made 20 credits to India, totaling about $826 million and including 5 which are fully disbursed. The Bank has made 35 loans, in- cluding 25 which are fully disbursed. The status of Bank loans and IDA credits to India, as of November 30, 1966, is summarized below. Amounts ($ million) Bank IDA Total (less cancellations) 1,000.9 825.5 Of which has been repaid 285.2 Total now outstanding 715.7 825.5 Amount sold 105.4 Of which has been repaid 91.4 14.o _ Total now held by Bank and IDA 701,7 825.5 Of which still undisbursed 180e0 a! 302.8 a/ Including $30 million for the Fourth IISCO Loan, which is not yet effective.  - 2 - 5. The following loans and credits were approved since July 1, 1960: Amount ($ million) Loan or Credit Undisbursed on Year Number Borrower Purpose Bank IDA Nov. 30, 1966 1960 262 India Railways V 70.0 - 1960 269 ICICI Industry III 20.0 .47 1961 3 India Roads 60.0 3.59 1961 292 India Private Coal Mining 35.0 .78 1961 294 Calcutta Equipment II 21.0 6.16 Port 1961 8 India Tubewjell Irrigation 6.0 - 1961 298 India Railways VI 50.0 - 1961 13 India Shetrunji Irrigation 4.5 1.11 1961 14 India Salandi Irrigation 8.0 6.41 1961 15 India Punjab Flood Protection 10.0 - 1961 307 IISCO Coal Mining 19.5 11.83 1962 19 India Durgapur Power 1865 h.45 1962 312 ICICI Industry IV 20.0 1.80 1962 21 India Sone Irrigation 15.0 3.27 1962 23 India Purna Irrigation 13.0 2.31 1962 24 India Koyna Power II 17.5 7.14 1962 27 India Bombay Port 18.0 1136 1962 28 India Telecommunications I 42.0 2.75 1963 36 India Railways VII 6765 - 1963 37 India Kothagudem Power I 20.0 6,22 1963 3h0 ICICI Industry V 30.0 6.90 196h 52 India Industrial Imports I 90.0 - 1964 58 India Telecommunications II 33.0 4.99 1964 67 India Railways VIII 62.0 - 1965 414 ICICI Industry VI 50.0 47.67 1965 416 India Power Transmission 70.0 69.03 1965 417 India Kothagudem Power II 14.0 5.35 1965 78 India Industrial Imports II 100.0 28.97 1966 88 India Railways IX 68.o 53.15 1966 89 India Beas Equipment 23.0 22.21 1966 456 IISCo Balancing Scheme 30.0 30.00 1966 92 India Industrial Imports III 150.0 144h87  - 3 - 6. Delays in disbursements continue to be a source of concern in respect of several Bank and IDA projects in India. Because of the in- solvency of a foreign supplier, delivery of floating craft valued at about $2 million has been delayed under the Calcutta Port Project (Loan 29h-IN). The Third Indian Iron and Steel Project (Loan 307-IN) is falling increasingly behind schedule because of difficulties in shaft sinking; early in 1967 the Bank will undertake a full field review to determine a realistic completion date. So far as the Power Transmission Project (Loan 416-IN) is concerned, less than $1 million has been dis- bursed, largely as a result of the time taken by the Government in approving sub-projects and placing orders for equipment from abroad; a further review mission for this project is scheduled for January 1967. Target dates established by the Association in March 1966 for the Bombay Port Project (Credit 27-IN) have been kept, and although the Project remains about two years behind its original schedule, no further delays are expected. The Beas Equipment Project (Credit 89-IN), after a slight delay, became effective on October 31, 1966 and disbursements of almost $3.0 million have so far been made. PART II - DESCRIPTION OF THE PROPOSED CREDIT 7. Borrower: India, acting by its President. Amount: Various currencies equivalent to US $65 million. Purpose: To improve the rate of utilization of existing productive capacity and capital equipment in selected industries in India by increasing the availability of foreign exchange for the import of materials, com- ponents, spare parts and miscellaneous items of manufacturing equipment. Amortization: The term of the credit would be 50 years with a grace period of 10 years. One-half of 1 percent of the principal amount would be repayable semi-annually for 10 years beginning October 15, 1977, and 1-1/2 percent of such principal amount to be repayable semi-annually beginning October 15, 1987 and ending April 15, 2017. Service Charge: 3/4 of 1 percent arnually.  - h - III - THE PROJECT 8. An appraisal report (No. AS-115a) on the Third Industrial Imports Project, which the proposed credit would supplement, was circulated to the Executive Directors on August 11, 1966, together with my Report and Recommendation (IDA/R66-21). Since that time, a mission visited India in October of this year to discuss current economic policies and pros- pects with officials of the Government of India; in November, another mission visited the country to review with industrialists the progress of the three previous credits for industrial imports, particularly those in sectors participating for the first time under the third such credit, such as industrial and mining machinery; ball and roller bearings; fer- tilizers and pesticides and basic non-ferrous metals. 9. The purpose of this project, as in the case of the previous in- dustrial imports credits, is to provide foreign exchange for the import of materials, components, spare parts and balancing equipment needed by manufacturers in selected industries in order to enable them to maintain and expand production. With the introduction of the import decontrol measures in June 1966, which the $900 million of consortium aid is de- signed to support, foreign exchange has been made available to many manufacturers in specified industries in more ample quantities than for some time heretofore. In July and August of this year foreign exchange licenses were issued to firms in these sectors allowing the import of materials and components (except for certain banned items) required for essential production without restriction as to the country of origin of these imports. Initially, licenses were expected to provide each firm with its full requirements for at least six-months' production based upon their own estimates as set forth in applications made in May 1966. In all but a few cases, applications for licenses have been processed expeditiously and have met or exceeded the production requirements of manufacturers for the period covered. By September 30, 1966, the Govern- ment of India had issued foreign exchange licenses for Rs. 1,354 mnillion (US $180 million) to the industries covered by the Third Industrial Imports Credit (No. 92-IN). Most of these licenses will be covered by foreign exchange to be made available out of the proceeds of Credit 92-IN. 10. The key to the Government's import decontrol program is the policy of continuous licensing, under which licenses will be issued as and when required by firms to maintain production. Such a policy has many advantages over the former practice of providing exchange rations at irregular intervals. The policy of continuous licensing was adopted along with other decontrol measures last summer, -ad the Government plans to announce before the end of this year the procec-ares under which companies are to obtain the balance of their foreign exchange requirements. To pre- vent hoarding, new import licenses are being issued only after a firm has  - 5 - opened letters of credit for 90 percent of the value of their present licenses or had 70 percent of value of the goods actually shipped; these rules are being applied flexibly by the officials concerned. The liberalization measures have served to emphasize the government's efforts and intention to establish a regime of continued availability of foreign exchange and when accompanied by regularity in the issuance of licenses envisaged for the future, should eliminate much of the uncertainty asso- ciated with past controls and enable rationalization of inventories and substantially increased production from existing plants. However, because of the short interval that has elapsed since the introduction of the decontrol measures, it is still too early to offer quantitative evidence of their impact. Nevertheless, two important effects of decontrol have been observed. First, it has virtually eliminated the market for licenses and has reduced or at least not raised the import costs of companies which had previously been forced to buy licenses at a premium higher than the subsequent rate of devaluation. Secondly, decontrol has meant that some industries, such as tire manufacturing, can obtain scarce domestic raw materials at less than scarcity prices by turning to competitive imports, e.g. natural rubber and rayon. 11. In general there has been no clear trend in recent months in the general rate of industrial production or the level of demand. Relatively poor crops continue to affect demand for consumer goods, while a reduction in Government orders (especially by the Railways) has had an impact on some firms. However, in certain industries some increase in the annual rate of production has occurred. Thus production of automotive ancillaries and of most types of electrical equipment (including cables and wires) showed a marked improvement as did the output of both nitrogenous and phosphatic fertilizers. In addition, the number of agricultural tractors produced in the first six months of the current fiscal year was substan- tially greater than in the corresponding period last year. Moreover, despite uncertainties of demand and concern about such matters as the continued availability of foreign exchange, many firms in both the "old" and "inewi" IDA sectors have sizeable expansion plans underjay which is some indication of the businessmen's confidence in the future. 12. As at November 30, 1966, over $70 million of the $100 million original principal amount of the Second Industrial Imports Project (Credit No. 78-IN) had been disbursed, and it is expected that the Credit will be fully disbursed prior to the Closing Dates set forth in the Agreement, the latest of which is June 30, 1967. As I have noted in para- graph 9 of this Report, licenses in excess of the amount of the credit for the Third Industrial Imports Project were issued by September 30, 1966 and disbursements under this Credit (which amounted to $5.1 million on November 30, 1966) are expected to gather momentum early in 1967 as goods are actually received in India.  - 6 - PART IV - LEGAL INSTRUMENTS AND AUTHORITY 13. The draft Development Credit Agreement betvween India and the Asso- ciation and the Recommendation of the Committee provided for in Article V, Section l(d) of the Articles of Agreement, are being distributed to the Executive Directors separately. 14. The provisions of the draft Development Credit Agreement follow substantially the pattern of the Agreement for Credit 92-IN. Attention is drawn to Section 4.0l(b) of the draft Development Credit Agreement which contains commitments of the Borrower with respect to the issuance of licenses, the availability 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. PART V - THE ECONO1MY 15. A report on the economic position and prospects of India was circulated to the Executive Directors on June 20, 1966 (R66-80). Major developments since that time are summarized in the following paragraphs. 16. The Indian economy is still recovering from the economic dislocation of 1965 and early 1966 which had resulted from the India-Pakistan War and the accompanying delay in new aid commitments as well as from an unprecedented drought and crop failure. The Indian economic situation continues to be very difficult. This year's harvests are disappointing, although con- siderably better than last year. The increase in industrial activity has been relatively slow for most of the year for several reasons, including power shortages due to the drought, shortages of foreign exchange and in some cases sluggish demand attributable to the unfavorable agricultural situation. There is a large public financial deficit and this, in com- bination with material shortages, has boosted prices sharply - especially prices of food and industrial raw materials. Moreover, India's balance of payments situation remains as serious as ever. Net reserves have been falling sharply since early 1966 and are likely to fall further in the next few months, perhaps to near their legal minimum. Reserve losses reflect this year's sluggish exports and a rise in imports by more than the increase in available foreign aid. By the end of November 1966 reserves were down to about-660O million, or less than three.months:imports. They would have been still lower but for net IMF drawings during 1966 of $137 million. 17. Despite these continuing financial difficulties and only modest increases in production, there were important changes in economic policies in 1966 which should improve India's development p:ospects. In June the rupee was devalued to increase the cost of foreign exchange by 57 percent. This was accompanied by the removal of administrative controls over a broad range of imports of industrial production goods and by a liberalization of controls over industrial investment and output. It is still too early  - 7 - to judge the full effects of these policies, but given the necessary foreign financial support to sustain the policies for an adequate trial period they can be expected to have a marked favorable impact on Indian development. They should foster more efficient use of industrial capacity and faster, more flexible growth of Indian industry. They should also encourage a more favorable export development than in recent years, if accompanied by other measures of active export promotion. 18. There have been particularly encouraging developments in the field of agricultural policy and practice. The Government has committed itself to agricultural development as a first priority, and is following through with a program to provide larger supplies of agricultural inputs (mainly improved seed, fertilizer, pesticides and water) along with the necessary credit facilities for farmers. With the prevailing high agricultural commodity prices there is rapid and widespread adoption of the new technology on the basis of the very large improvements in yields and income it offers. 19. Family planning is gaining momentum through increased financial support and a far more vigorously and effectively conducted program than heretofore. For the near future, gains are likely to be impressive only in relation to the low level from which they are starting rather than in the context of India's vast population problem. Nevertheless, the current pace of family planning progress augurs well for a marked reduction in population growth during the next decade. 20. These and other changes in policy are reflected in India's Fourtl Plan of economic development for the five year period 1966/67-1970/71. The most important objectives of the Plan are to increase the economic growth rate to 5.5 percent a year and to lay the foundations for the achievement of a balance in current foreign transactions by the mid 1970's. The per capita income target for 1970/71 is $72 compared with about $60 now. These are modest aims, although in India's circumstances they wi'll require very substantial increases in investment, output and exports as well as the mobilization of adequate domestic and foreign resources. Significant shortfalls in any of these would require substantial revision of the Plan and trimming of its objectives. It is the Indian intention to avoid inflationary and special balance of payments difficulties by giving much more attention than in the past to such revisions on the basis of each year's annual plan. This may be difficult, however, partly because of the extensive investment commitments that are necessary in the early part of the Plan if it is to be implemented fully, but more importantly because of the inadequacy of current economic information, which makes timely revisions in the Plan an uncertain and difficult business. A Bank mission has recently returned from India and is now preparing a report which will include an examination of the Fourth Plan and an ai;sessment of India's economic prospects and aid requirements.  -8- 21. The burden of servicing external debt continues to weigh heavily on the Indian balance of payments. This year the service, including principal and interest, will exceed $350 million or more than 20 percent of expected export earnings. For the five years 1966/67-1970/71 the service on existing and new debt is likely to be around $3 billion and may tal.e as much as 25 percent of projected export earnings by 1970/71. With this debt burden it is important that India obtain additional capital from abroad on the most liberal terms possible. PART VI - COMPLIANCE WITH ARTICLES OF AGREEMENT 22. I am satisfied that the proposed development credit would comply with the Articles of Agreement of the Association. PART VII - RECOMMENDATION 23. I recommend that the Executive Directors adopt the following resolution: RESOLUTION NO. Approval of Credit to India (Fourth Industrial Imports Project) in an amount equivalent to U.S. $65,000,000. RESOLVED: THAT the Association shall grant a development credit to India in an amount in various currencies equivalent to sixty-five million United States dollars (U.S. $65,000,000), to mature on and prior to April 15, 2017, to bear a service charge, at the rate of three-fourths of one percent (3/4 of 1%) per annum, and to be upon such other terms and conditions as shall be substantially in accordance with the terms and conditions set forth in the form of Development Credit Agreement (Fourth Industrial Imports Project) between India and the Association which has been presented to this meeting. George D. Woods President Washington, D. C. December 14, 1966