Mexico - Country assistance strategy

Document of The World Bank FOR OFFICIAL USE ONLY Report No. 14518-ME MEMORANDUM OF THE PRESIDENT OF THE INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT TO THE EXECUTIVE DIRECTORS ON A COUNTRY ASSISTANCE STRATEGY OF THE WORLD BANK GROUP FOR THE UNITED MEXICAN STATES MAY 22, 1995 Country Operations Division Country Department II Latin America and the Caribbean Regional Office 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 EQUIVALENT Currency Unit Mexico New Peso (MexN$) US$1.00 = MexN$5.885 (May 18, 1995) DATE OF LAST COUNTRY ASSISTANCE STRATEGY May 13, 1994 FISCAL YEAR January I to December 31 ABBREVIATIONS AND ACRONYMS BIS Bank for International Settlements CETES Certificados de la Tesoreria de la Federacion (Treasury notes denominated in pesos sold at a discount during weekly auctions, with maturities of 28, 91, 182, 364, and 728 days. These are the most important money market instruments.) CID Comisi6n Intersecretarial de la Desincorporaci6n de Empresas Paraestatales (Interministerial Commission on Privatization) ESF Exchange Stabilization Fund FOBAPROA Fondo Bancario de Proteccion al Ahorro IDB Inter-American Development Bank IFC International Finance Corporation IMF International Monetary Fund NAFTA North American Free Trade Ageement PACTO Tripartite pacts between government, business and labor on basic macroeconomic policy parameters such as wage levels, exchange rate system, inflation targets, beginning in 1988 and renewed periodically until 1995. PEMEX Petr6leos Mexicanos (Mexican Petroleum Company) PRI Partido Revolucionario Institucionacional (Institutional Revolutionary Party) SECOFI Secretaria de Comercio y Fomenta Industrial (Secretariat of Commerce and Industrial Development) TESOBONOS Treasury notes with one-, three-, six- and twelve-month maturities, with returns indexed to the market exchange rate against the dollar.  FOR OFFICIAL USE ONLY TABLE OF CONTENTS Page A. Background and Recent Economic Developments ........................................ 2 Causes of the Current Crisis ...................................... ..2 Crisis and Response .. ........................................4 Assessment of the Economic Program .........................................7 Macroeconomic Prospects . ........................................8 B. External Environment ........................................ 10 C. Mexico's Development Objectives and Policies ................1........................ 1 Private Sector Development .........................................11 Social Services and Poverty Alleviation ......................................... 1 Political and Government Management Reform ........................................ 12 Infrastructure ........................................ 12 Environmental Sustainability ........................................ 12 D. The Bank Group's Country Assistance Strategy ............................ 12 Crisis Response ........................................ 13 Restructuring the Portfolio ........................................ 14 Developing a Medium-Term Strategy: New Directions ................................ 15 Level of Bank Lending ........................................ 17 Creditworthiness and Bank Exposure .............. .......................... 18 International Finance Corporation (IFC) ................... ..................... 19 International Monetary Fund (IMF) ............ ............................ 21 Inter-American Development Bank (IDB) ........................................ 21 E. Agenda for Board Consideration ........................................ 22 This document has a restricted distribution and may be used by recipients only in the perfornance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  LIST OF FIGURES, BOXES, TABLES and MAP Page Figure 1: Annual CPI Inflation Rate: 1987-1995 ..................................5 Figure 2: Real Exchange Rate Index: 1980-1995 .................................5 Figure 3 Savings and Investment: 1989-1994 .....................................5 Figure 4: Real Growth Rate of GDP and GDP Tradeables and Non-Tradeables: 1989-1994 5 Figure 5: Exchange Rate and Exchange Rate Band November 1991 -December 20, 1994 ...5 Figure 6: Internal Debt Outstanding (Cetes vs. Tesobonos) December 1993-December 1994 .........................................5 Figure 7: Mexico: Bank Portfolio Share Projections, 1994-2003 ........ 19 Box I: Mexico-Bank Dialogue on Structural Issues ..........................3 Box II: The Bank's Response to the Crisis: A Snapshot .................. 13 Box III: The Importance of a Quick Response to an International Financial Crisis .15 Annex Table Al: Mexico - Selected Indicators of Bank Portfolio Performance and Management Annex Table A2: Mexico - Bank Group Fact Sheet FY92-98 Annex Table A3: Mexico - Summary of Economic and Sector Work Annex Table A4: Mexico: Poverty Indicators Mexico: Resources and Expenditures Annex Table A5: Mexico: Key Economic Indicators Annex Table A6: Mexico: Key Exposure Indicators Annex Table A7: Status of Bank Group Operations in Mexico Annex B I: Methodological Note on Macroeconomic Projections Annex B2: Mexico: National Accounts Annex B3: Mexico: Exports and Imports Annex B4: Mexico: Balance of Payments Annex B5: Mexico: External Debt Stocks and Flows Annex B6: Mexico: Public Finance Annex C1: Mexico: Bank Portfolio Share Projections, 1994-2003 Map of Mexico Bank Projects with Special Emphasis on Poor States  INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT TO THIE EXECUTIVE DIRECTORS ON A COUNTRY ASSISTANCE STRATEGY OF TH1E WORLD BANK GROUP FOR THE UNITED MEXICAN STATES I. The serious financial crisis in Mexico has prompted the Bank Group, in coordination with the International Monetary Fund, the Inter-American Development Bank (IDB), the United States and other G-10 countries, to respond swiftly with a major program of support for the Government's economic adjustment program. 2. This program and the generally depressed economic conditions throughout the country are necessarily having a profound effect on the Bank's country assistance strategy for Mexico. In the short term (CY95), the Bank is planning to provide massive financial and technical assistance in three key areas: (i) strengthening of the commercial banking system; (ii) support for social sector programs providing essential services; and (iii) acceleration of infrastructure privatization. Operations in the first two areas are being presented to the Board concurrently with this Country Assistance Strategy (CAS): the Financial Sector Restructuring Loan (US$1 billion) and Essential Social Services Program (US$500 million). The third will be presented early in FY96: Infrastructure Privatization Technical Assistance (US$30 million). Upon successful initiation of the first operation, a follow up Financial Sector Restructuring Loan (US$500 million) would also be presented to the Board in rnid-FY96. 3. At the sarne time, a number of ongoing Bank loans need to be restructured and/or partially canceled, as a reflection of new priorities. Also, the FY96-98 lending and ESW programs are being reviewed with the Government to redesign them to better reflect current needs. Many of the medium- term development issues and objectives laid out in the 1994 CAS for Mexico remain valid, although the kinds of instruments, and the volume, timing and sequencing of assistance must be reconsidered. They also need to be supplemented by strong support in several new areas which have emerged during the recent crisis. 4. Given the very fluid situation in Mexico, this CAS focuses on the nature of the immediate crisis and priorities for Government policy and Bank support over the next year. It also spells out the principles underlying the review with the Mexicans of the medium-term assistance program. The 1996 CAS will provide a fuller statement of the resulting objectives and the likely shape of the Bank's program during the outer years of this decade.  2 A. BACKGROUND AND RECENT ECONOMIC DEVELOPMENTS' Causes of the Current Crisis 5. Following almost ten months of mounting pressure on Mexico's exchange rate, and the near- depletion of its foreign reserves, on December 20, 1994 the Government allowed the peso to depreciate beyond the limits of the band that it had previously defended. At first the ceiling of the band was simply raised by about 15 percent, but after two days of clearly unsustainable pressure against the new rate (and a further loss of almost US$5 billion in reserves), the Government was forced on December 22 to allow the rate to float freely. The markets reacted with panic and investor confidence all but disappeared. A currency crisis ensued and, as a result, the economy is contracting sharply this year. 6. The Mexican crisis was precipitated by a year-long series of domestic and external shocks. First, with 1994 a presidential election year and the economy in recession in the second half of 1993, the Government had approved an expansionary budget for 1994. Then on January 1, the Chiapas revolt erupted, followed by the assassination on March 23 of Luis Donaldo Colosio (the Presidential candidate of the ruling party, the PRI). Other disruptions included the kidnapping in March of the head of Mexico's second largest bank and the assassination of the Secretary General of the PRI in September. On the external front, increases in U.S. interest rates beginning in February 1994 were making U.S. assets relatively more attractive than before. 7. While it is not surprising that this series of shocks and the devaluation would shake investor confidence in Mexico, the magnitude of the reaction has been remarkable. The reasons can be traced both to the relative vulnerability of the economy when the shocks began to occur, and to the way macro policy was managed in 1994 in response to the shocks. Since 1987, Mexico had been pursuing an economic strategy that was plausible and consistent, but also carried certain risks. The main elements of this strategy were: (i) the use of the exchange rate as a nominal anchor, with the aim of bringing inflation down to the level of its trading partners; and (ii) an aggressive program of structural reforms (including price and trade liberalization, privatization of public enterprises, tax reform, and deregulation), designed to raise the profitability of investing in Mexico, thus strengthening competitiveness by attracting productivity-enhancing investment. A more complete description of these reforms is provided in the 1994 CAS. The risks were that exchange rate policy would cause an appreciation of the peso, and that the current account deficit would therefore grow and have to be financed increasingly by foreign capital inflows. However, the Government believed firmly that increased investment (made possible by confidence in the exchange rate anchor and anti-inflation policy) and productivity gains (made possible by the structural reforms) would improve the competitiveness of the economy sufficiently to maintain the current account deficit at a sustainable level. Over the past decade, the Mexican Government has forged a dramatic transformation of the national economy. For a review of that reform experience, readers may refer to the 1994 Mexico Country Assistance Strategy document. This discussion has not been included this year to allow for a more complete analysis of recent events.  3 8. For several years, the Mexican strategy seemed to be working well: inflation fell continuously, reaching 12 percent by 1992 (see Figure 1), and GDP growth recovered from an annual average of zero between 1982-88 to 4 percent from 1989 to mid-1991. The real exchange rate appreciated substantially, however, by about 30 percent from 1989-90 levels to end-1993 (see Figure 2), although foreign capital inflows also surged and easily covered the growing current account deficit. But these inflows mainly supported a consumption boom, rather than an increase in domestic investment (see Figure 3). In short, the growth in both public and foreign savings was offset by a decline in private domestic savings. 9. Productivity also did not improve sufficiently. Although important progress was made in some areas of structural reform, in others progress was too slow to have the desired impact on productivity and competitiveness. Notably, the incentive framework for private infrastructure development was evolving only slowly (when compared to the pace followed in such countries as Argentina and Peru); PEMEX retained monopoly privileges for all oil and gas development; and labor market reforms and modernization of the legal and judicial system were not adequately addressed. Despite a more open trade regime, some agriculture subsectors remained highly protected; and although the commercial banking system had been privatized, it too, remained highly protected and concentrated. It is true that, for the future, several of these areas will be addressed either by NAFTA (the phasing out of protection for agriculture and the financial sector) or by initiatives of the new Zedillo Administration (for private infrastructure, labor market modernization, legal and judicial reform, and government decentralization). But during the period through 1994, reforrns did lag and competitiveness of the Mexican economy as a whole improved only slowly. 10. Absent rapid productivity gains, the exchange rate appreciation through 1993 made it increasingly difficult for Mexico's tradeable goods sectors to compete, slowing both their growth (see Box -Mexic-BankDialogue Figure 4) and the growth of total GDP. This lackluster on Structural Issues perfornance did not necessarily signal a need to alter Since 1992 our macroeconomic dialogue has the basic economic strategy (para. 7), but it did make it focused largely on the problems of the peso clear that the exchange rate appreciation needed to be exchange rate system and the risk of Mexico's addressed and that some critical micro reforms should excessive dependence on short-term foreign capital not be delayed. These issues have been at the center of inflows. On structural issues. our economic analysis and project work have centered on liberalization of the Bank's dialogue with the Government for the last g m p agncu]ture markets, productivity groNvth, reform of several years (see the 1994 CEM "Fostering Private the financial sector and the pension system. Sector Development in the 1990s," Report No. 11823- developing an appropriate framework for private ME, May 16, 1994 and Box I). infrastructure, and strengthening state and municipal mranagement This work culminated in a 11. Slow productivity growth, lower private set of 18 Strateg Papers prepared in the Summer of 1994 for the incoming Adminustralion. savings, and an appreciated exchange rate together implied a large expansion of the current account deficit, I from an average of 3 percent of GDP in 1989-90 to 7 percent in 1992-94. Although such large current account deficits would not be sustainable in the long- term, prior to 1994 Mexico was able to rely on extremely high levels of private foreign capital inflows to finance them. In 1993, for example, foreign capital inflows of US$29 billion over-financed the current account deficit of US$23 billionL leading to a reserve gain of US$6 billion. Then in 1994, these inflows slowed to just US$10 billion, responding to the shocks (para. 6) and later in the year to growing concern over the sustainability of the economic strategy being followed. Although the capital  4 inflows remained positive, their volume fell far short of what was needed to finance the current account deficit of US$29 billion in 1994, so that reserves declined by US$19 billion. 12. The Government's policy response to the slowing of capital inflows during 1994 was limited and, in retrospect, inadequate. First, starting in mid-February, it allowed the exchange rate to depreciate by about 8 percent in real terms within the band (see Figure 5). However, it continued to decide against increasing the flexibility of the band system at that time, when it still would have been possible to do so with a substantial backing of reserves. Second, it induced a rise in short-term peso interest rates in March and April, to make peso assets more attractive to investors. However, rates were allowed then to ease back down through the Summer and Fall, partially offsetting the rise of March/April. Third, it shifted the composition of domestic public debt, from peso-denominated CETES to dollar-indexed Tesobonos, thus transferring the exchange rate risk from investors to the Government (see Figure 6). Fourth, it sold external reserves, which declined from their peak of over US$30 billion in mid-February, to about US$5 billion by the time the currency began to float on December 22. Whether these various decisions reflected the pressures of the Mexican political cycle remains an open question. With hindsight, of course, almost all observers now agree that the third and fourth measures -- allowing this heavy shift into Tesobonos and massive selling of reserves -- were serious policy mistakes. As with delays in the release of negative economic information to the financial markets (such as the level of reserves), these measures did not address fundamnental problems, but rather postponed their eventual resolution; at the same time, they made it more difficult to manage the crisis when that time came. Crisis and Response 13. At the time of its December 22 announcement that the peso exchange rate would float, the Govemment informally outlined its economic strategy but made no official pronouncement. The markets reacted chaotically. When the specifics of a program were announced 10 days later, this did little to settle the markets, and so the exchange rate continued to depreciate. The Executive Branch of the U.S. Government then announced on January 12 that it would seek to provide up to US$40 billion of support to the Mexican program. However, this required the approval of the U.S. Congress and when this was not forthcoming, the U.S. authorities assembled an alternative package under which: the U.S. Government would provide up to US$20 billion in support; the IMF, US$7.8 billion (300 percent of Quota) under a Stand-by, plus up to a further US$10 billion (388 percent of Quota) to the extent required to top-up a fund from non-G-10 Governments; the BIS, US$10 billion through swap lines; Canada, Can$2 billion (approximately US$1.4 billion equivalent); and commercial banks, US$3 billion (which has since been canceled by mutual agreement). 14. The financial markets continued to exhibit great volatility in February and early March, with the peso at one point depreciating to 7.5 pesos per U.S. dollar (more than double the rate of 3.4 on December 19, 1994). The Government responded on March 9 with a tighter macro program. The main elements of this program included:  5 Figure 1 Figure 2 Mexico: Annual CPI Inflation Rate Mexico: Real Exchange Rate Index (End-of-Period) (US PPIIMEX PPI) 1601 170 140 ..0 120~~~~~~~~~~~~~~~.8 ~150 20. .100 q ....0. . ... c80 .0~~~~~~~~~~~~3 ~~~~~~~~~~80 ~ ~ ~ ~ ~ ~ ~ ~ ~ ~~~~~~~1 ~~~~~~~~~40 ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~ ~~~9 0 87 88 89 90 91 9n 93 94 Eas so 3/95 80 83 86 89 92 IQ 95 Figure 3 Figure 4 Mexico: Savings and Investnent Mexico: Real Growth Rate of GDP l ~~and GDP Tradeables and Non-Tradeables -5 - 20 5=1 F15~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~- 89 90 91 97 93 94 89 90 91 92 93 94 *Total Investment DPriv Domestic Savings | Pidwt (;DPTd-bbs | Pub Domestic Savings U Foreign Savings GDPNOs-To4RbleS Figure 5 Figure 6 Mexico: Exchange Rate and Mexico: Internal Debt Outstanding Exchange Rate Band, Nov '91-Dec 20, '94 Cetes v. Tesobonos 4.- 100,000- 4.0 . 180.000 3.8 6 0,ODO 3S .. .. ... 650,1ODO - .~~~~~~~~~~~~~~~~~ ~~~~40,000 3 3. 6 .~20,13 3I I . - _ 0 1 3.0 . I I _ _I I I I I I I I I I I I I I I I ' - ' Cetes - Tesobonos - ...De. Tesobonos at Nov. 30 Exchange, Rate  6 (a) Further Fiscal Adjustment: The 1995 primary budget surplus is programmed to rise to 4.4 percent of GDP, up from 2.2 percent in the original budget. This is to be achieved by adjusting prices of public sector goods, increasing the VAT rate from 10 to 15 percent on 70 percent of goods and services, and reducing the real level of total public sector expenditure by 9.8 percent compared to 1994. (b) Exchange Rate and Monetary Policy: The Government reconfirmed its commitment to a floating exchange rate regime, with the Bank of Mexico using monetary policy to help stabilize domestic prices. To achieve an inflation target of 42 percent for 1995, the Bank of Mexico remains committed to holding net domestic asset expansion to NP 10 biUlion (a nominal increase of 23 percent) in 1995. By focusing explicitly on monetary aggregates, this program departs from past reliance on nominal price anchors (the exchange rate, goods prices, and wages). To reduce exchange rate risk and stabilize the peso, the Government is supporting the introduction of a futures foreign exchange market and is using part of the international financial support package to retire short-term public debt. (c) Banking System Support: The crisis has threatened to create solvency problems for a significant portion of Mexico's banking system. The Government has responded with measures both to prevent banking problems and to deal with those problems that arise. To prevent banking problems, supervision has been intensified and regulation improved, including increases in the minimum bank capital requirement, in required loan loss reserves, and in the ceiling for foreign ownership of domestic banks. In addition, a share of creditworthy commercial and mortgage borrowers will have their loans restructured and converted into inflation indexed instruments. To deal with problems that arise, the Government: (i) established a foreign currency line of credit to enable domestic banks to meet their international commitments; (ii) established a subordinated convertible debt program to help banks experiencing a temporary fall in their capital requirement; and (iii) gave FOBAPROA, the trust find that channels funds to banks, the right to convert into capital the subordinated debt of banks that experience a significant capital reduction and to take over the banks (with a commitment to reprivatize the banks as soon as possible). (d) Social Sectors: For several years following the onset of the economic crisis in 1982, social services shouldered a disproportionate share of the necessary public spending cuts. With negative growth, poverty worsened through about 1988. Conditions then began to improve, but about 34 percent of the Mexican population still lives in moderate or extreme poverty. The current Government is fully cognizant of the undesirable long-term impact of large cuts in social programs -- particularly for the poor -- and to the extent possible has committed to protecting the most cost-effective and well-targeted programs, taking into consideration the need for fiscal austerity. In particular, the social safety net has been strengthened during the crisis through an expansion of the negative income tax (introduced in January) to workers earning up to 4 times the minimum wage; an extension of public health insurance for unemployed workers from 2 to 6 months; the initiation of a public works program targeted to the poorest of the unemployed; and the expansion of Mexico's labor retraining program.  7 Assessment of the Economic Program 15. Mexico's economic prograrn focuses directly on the critical issues at hand; and it is clear that the Government recognizes both the urgency and the risk of the current situation. The program builds on the economy's strengths and attempts to mitigate many of the most important risks. Our main observations about this program are as follows: 16. Strengths. The program is based, correctly, on the premise that the immediate problem is largely one of short-term cash-flow, and not of insolvency, and so its first objective is to restore stability by rebuilding international confidence. Mexico does not need to finance a large fiscal deficit; in fact, the economic balance in the fiscal accounts is expected to show a deficit of just 0.4 percent of GDP in 1995. The situation bears no resemblance to 1982 when the fiscal deficit was 16 percent of GDP. Accordingly, the program aims to generate the cash-flow required to cover maturing public debt, both foreign and domestic, about 80 percent of which has a maturity of less than one year. The stock of public debt is not large; in 1994, it was 14 percent of GDP for domestic public debt and 23 percent of GDP for foreign public debt. However, with confidence an issue and the bulk of the domestic debt coming due very quickly, the Government faces severe liquidity problems. For this reason, the international rescue package provides critical liquidity support, and the knowledge that it is available has begun to restore confidence in the markets. The package will not add to total Government debt (with the non-financial public sector accounts in approximate balance), but rather will allow the conversion of public debt to a less vulnerable maturity profile. 17. Second, the program recognizes the existence of key structural barriers to economic growth, and calls for accelerated reform efforts that will have important long-term effects. In particular, the Government is now moving more aggressively on infrastructure privatization, government decentralization to state and municipal levels, reforms in the legal and judicial systems, and improving the effectiveness of social programs. These are described in Section C below. 18. Third, exports should be able to lead a recovery of economic growth.. Since the tradeable goods sectors will now enjoy a much more competitive real exchange rate, the production of exports and import substitutes will be far more attractive than in recent years, and a reversal is likely of the recent growth pattern favoring non-tradeables (shown in Figure 4). In fact, signs of such a reversal were seen in 1994, when the real exchange rate depreciated (within the band) by 8 percent. In addition, Mexico will have less of a problem than others would with foreign barriers to its exports, since over 80 percent of the country's trade is now with partners with which it has signed free trade treaties (NAFTA as well as others). 19. Risks. The clearest risk to the economic program concerns the banking sector, which is under systemic stress due to the crisis. If not managed properly, bank failures could undermine the recovery efforts. In addition, while the cost of resolving the banking sector's problems are likely to be high, the full amount is still not certain. Strengthening bank regulation and supervision, and establishing schemes to provide liquidity to banks and clear rules of intervention, are all important steps in the right direction. These problems, and how they are being addressed, are discussed more fully in the Memorandum of the President for the proposed Financial Sector Restructuring Loan. 20. The second risk concerns the social costs of the crisis, which is already causing widespread transitional unemployment. By February 1995, open unemployment had risen to its highest level since  8 1987; and the Government estimates that up to one million jobs will be lost in the formal sector in 1995, as the expansion of labor in the tradeables sectors lags job losses in the non-tradeables sectors. Hence, there is added concern for the "new poor" -- those living in urban areas who have lost formal sector jobs. High unemployment could lead to more political instability, which would in turn undermine the Government's ability to persevere with the economic prograrn. It is thus essential that measures be taken to address the needs of the unemployed and other vulnerable groups that would be most affected by a reduction in social services or increases in prices for basic consumption items. The number of Mexicans already living in poverty is still very large: about 29 million in 1992 (of which nearly 7 million live in extreme poverty), or 34 percent of the population. The income share for those at the bottom remained relatively unchanged from 1989 to 1992: for both years, the bottom five and 20 percent of households accounted for only 0.6 and 4.1 percent of total expenditure, respectively; in contrast, the top five percent accounted for 26.6 percent. 21. Third, the Government will face other pressures as well for special subsidies or other support measures to relieve the very real burden of the crisis on many sectors of the economy. These could come both from producers suffering severe cash-flow or solvency problems and from workers unwilling to accept the large cut in real wages that will be necessary. The Government will need to strike a fine balance between meeting legitimate needs and maintaining the overall fiscal course it has set to restore stability. 22. Finally, there is a risk that the structural reform measures of the econornic program may not go far or quickly enough to stem the crisis and reassure investors. The chief concerns include the slow pace of privatization for a few of the large-scale public enterprises; outmoded regulatory frameworks and supervisory institutions in sectors with important market failures; inflexibility of formal labor markets; the poor-functioning public pension system; and the limited extent of public participation in decision-making. Macroeconomic Prospects 23. The Base Case. This scenario, which we consider to be the most likely, assumes that the March 9 program is followed, with the continued support of the IMF; and that the costs of the banking crisis are modest and do not require budgetary resources beyond levels now planned. Over the longer term, it assumes that a number of structural policies are implemented, in accordance with current Government plans. Among the key ones would be the following: (a) Measures to raise domestic savings, including effective pension reform (moving more to a fully-funded, defined contribution, privately-directed, scheme); a further shift to consumption-based (rather than income-based) taxes; and further capital market development (including development of inflation-indexed, long-term savings instruments). (b) Measures to improve labor market flexibility and labor productivity, including actions to facilitate labor mobility; improved labor training programs; and a reduction in the "wedge" created by high wage taxes. (c) Provision of adequate and cost-effective infrastructure services, through an aggressive program of infrastructure privatization.  9 (d) Improved capacity of Government to deliver public services effectively and efficiently, including greater decentralization of responsibilities, resources, and accountability to the state and municipal level; and the redesign of many aspects of the legal and judicial systems to reduce the cost and uncertainty of doing business. 24. The standard annex tables to this CAS present the results from the Base Scenario. Under the assumptions made, GDP declines by a substantial 4.8 percent in 1995, as very tight fiscal and monetary policies sharply reduce internal demand. While some banks fail, the costs can be covered under current plans, and the sector's problems can be effectively contained. Sharp budget cuts do reduce government consumption and investment demand, and the high interest rates and contractionary policies of the program also lead to a sharp fall in private investment. As a consequence, private consumption also falls, by about 8 percent. 25. An export-led recovery starts during 1996, bringing growth of about 5 percent a year from 1997 onward. Export growth will be led by manufactured exports (which have grown at a faster pace than other exports in the past, and should do similarly in the future). Total exports have been projected conservatively to grow in volume terms by 15 percent in 1995 and an average of 10 percent thereafter. This projection relies on two key assumptions: (i) that tight fiscal and monetary policies wil prevent an erosion of the competitive advantage conferred on Mexico by the real depreciation of its currency, and (ii) that exporters enjoy sufficient access to credit so that they can respond to the strong foreign demand for their goods. Imports should contract sharply in 1995, but would then recover quickly from the depressed 1995 levels beginning in 1996. As a result, Mexico's current account deficit falls sharply in 1995 -- from 7.7 percent of GDP in 1994 to 0.3 percent in 1995 -- and then begins to grow, as a restoration of stability and confidence leads to a modest level of net capital inflows. A deficit of 1.9 percent of GDP is projected for 1999. 26. Mexico's total public sector debt (domestic plus external) is actually projected to fall somewhat in dollar-equivalent terms. Annex tables show that external public sector debt rises in 1995 in dollar terms to US$99.7 billion, and then starts to fall. As a percentage of GDP, this rise appears larger, reflecting the decline in the dollar-equivalent value of GDP that results from the sharp real depreciation of the exchange rate. In contrast, the stock of domestic public sector debt declines in 1995 as it is converted to longer-term extemal debt upon maturity using the U.S.-supported Exchange Stabilization Fund. A further reason for the decline in domestic debt is the accelerated repayment of principal in real terms that occurs in periods of high inflation. 27. Clearly, the outcome in terms of growth will depend on how aggressively actions in these and related areas are pursued. Although the base scenario of 5 percent GDP growth per annum will require a major effort to achieve, it is also possible to conceive of an even more ambitious program which, in the absence of unexpected external shocks, would put the Mexican economy on a still higher growth path. Such a program would consist basically of actions in the same policy areas as the base case, but at a much more rapid pace and in a more comprehensive manner. This, in turn, would permit a more aggressive reduction in poverty than is forecast in the base case. 28 Downside Scenario. While Mexico's program is sound, the risks arising from both the fragility of the banking system and vulnerability to social and political disruptions cannot be dismissed, and therefore we have also constructed and analyzed a downside scenario. For this scenario, it is assumed that the Government would try to implement its economic program, but that continuing high  10 real interest rates and worsening bank portfolios would cause severe solvency problems in some additional banks. The Government would intervene in these banks and infuse a significant amount of debt-financed public resources. We do not consider this to be very likely but, if it did occur, a deep recession would ensue in the second half of 1995. We project a fall in 1995 GDP of perhaps 10 percent, with a further decline in the first half of 1996, before a recovery begins. The fiscal deficit would swell substantially in both 1995 and 1996, due to lower revenues, higher financing costs for public debt, and higher expenditures to support the banking system. Investment, government expenditure, and hence domestic consumption would all fall more sharply than in the base case, further exacerbating the unemployment problem. Under the particular assumptions made, private consumption would fall by about 11 percent in 1995 and by a further 4 percent in 1996. At the same time, these factors would also lead to a sharper initial fall in imports, followed by a roughly balanced current account in 1996. Although the external debt picture is actually somewhat better than in the base case scenario, per capita real income figures would fall and the implications for poverty would clearly be serious. B. THE EXTERNAL ENVIRONMENT 29. The events of the past year have served to underline the importance of the global context in which an economy such as Mexico's operates. Two specific factors should be highlighted: the heavy dependence on volatile capital inflows and the associated effects of the increase in U.S. interest rates in 1994, and the entry into force of NAFTA. 30. From February 1994, a series of increases in short-term interest rates in the United States made investments there more attractive and therefore reduced the incentive for investors to place funds in Mexico. Although this was clearly one of the factors that explain the reduction in foreign capital flows to Mexico, it is impossible to isolate just one effect. Professional views vary on the relative importance of each factor. The real issue, in any case, is Mexico's policy response to this and other events which led to the slowdown in capital inflows, as well as the appropriateness of the set of policies which originally led to the dependence on these volatile flows. 31. The financial markets (both foreign and domestic) reacted extremely negatively to the announcement on December 20 that the ceiling of the exchange rate band would be raised by about 20 percent, forcing the Government to allow the exchange rate to float from December 22. With a floating exchange rate, in the short-term the negative views of the market are reflected both in the degree to which the exchange rate depreciates (about 70 percent in nominal terms, as of this writing), and in the high nominal interest rates (currently about 60 percent for short-term Government paper) demanded by the market forpeso-denominated assets. These high rates are forcing the rapid and sharp adjustment in the external accounts of Mexico, with the external current account deficit expected to fall by 7 percentage points of GDP this year. With this adjustment made, it will be important to maintain prudent monetary and fiscal policies, particularly in light of the mobility of capital in modern markets. 32. The NAFTA Agreement entered into effect on January 1, 1994. Its approval in the U.S. Congress in November 1993 led to a spurt in confidence (as measured by the strength of capital inflows), which lasted until mid-February, 1994. The entry into force of NAFTA may also have been a factor in explaining the strength of the growth of imports in 1994. Looking forward, NAFTA will be especially important to Mexico in its recovery from the crisis. The recovery will be led by exports (see paras. 18 and 25), and with this free trade agreement in place, Mexican exporters will be able to act  11 with greater assurance that potential markets will not be closed to them. More generally, Mexico now has free trade agreements with partners that account for more than 80 percent of its external trade, which will help ensure against restrictions on its exports in its major markets. C. MEXICO'S DEVELOPMENT OBJECTIVES AND POLICIES 33. During FY96, much of the Government's attention will necessarily be devoted to stabilizing the macroeconomy, as discussed in Section A. Nevertheless, President Zedillo has also made a strong public commitment to fundamental structural changes aimed at accelerating private sector led growth, alleviating poverty, and reducing Mexico's long-term vulnerability to periodic financial crises. 34. Private Sector Development. The new administration is convinced of the need to eliminate remaining constraints on productive efficiency at the firm level, emphasizing four areas: * Legal System Modernization. The Government has begun some important preliminary reforms to Mexico's archaic legal system, including preparation of new legislation to redefine bankruptcy, secured transactions, and registries. It also plans to revise Mexico's commercial code to reduce uncertainty in contractual relations. Other legal and judicial reform plans are discussed in para.36 below. * Labor Market Flexibility and Pension Reform. Costly labor market rules act as a brake on job growth. The Government has recently endorsed a policy of moving away from wage-setting agreements at the national level, in favor of decentralized negotiations at the firm level. It is now examining ways to make labor regulations more flexible, to reduce excessive mandatory non-wage payments, and to increase the role of fully-funded, privately-managed pension funds. * Business Deregulation. Excessive business regulation and industrial concentration have precipitated strong government interest in regulatory reform and an explicit competition policy. The President has announced initiatives to: find less-costly modes of environmental regulation, foster business deregulation at sub-nationals level of government, and accelerate plans to allow competition in telecommunications. The Government has also recognized the disproportionate burden of poor regulation and of barriers to entry on smaller enterprises, and will create a council to review such problems in active consultation with business. * Savings and Productivity Growth. A sharp fall in private savings in recent years has reduced both investment levels and productivity growth. Recent tax revisions will encourage investment, while financial and legal sector reforms promise to increase productivity by encouraging enterprise restructuring and improved enterprise management. The Government will also facilitate an expansion of the range of financial instruments to increase savings and improve its allocation. 35. Social Services and Poverty Alleviation. Beyond its direct crisis response (para. 14), the Government's longer-term strategy accords high priority to human capital development, with special emphasis on pre-school and basic education and technical training. With 55 percent of the programmable federal budget now allocated to social sectors, the main concern is to increase the efficiency of expenditures and improve the quality of services. The Government has also announced a range of services to combat poverty -- nutrition, basic health, literacy, low-income housing -- and to expand coverage in areas that have traditionally been least served. In particular, it will overhaul its  12 system of staple food subsidies to make them simpler, more transparent, and more effectively targeted. It has also given the Agriculture Ministry the mandate to promote rural development, which should help it adopt a more comprehensive view to poverty alleviation. 36. Political and Government Management Reform. The hallmark of the Zedilo Administration has been its strong commitment to political reform. Its goals are to increase democratic participation, respect for the rule of law, and domestic security. The most visible manifestations of this commitment have been the complete reform of the Supreme Court -- with a broader judicial reform planned -- and the appointment of an esteemed Attomey General from an opposition party, with a strong mandate to investigate political improprieties. The President has also called for fuill autonomy of electoral institutions by 1997, campaign finance reform, and fair media access. With respect to the machinery of govemment itself, the President announced his intention to increase public sector responsiveness and accountability by revising employee incentives and increasing social participation and transparency. The Administration also hopes to improve public resource allocation through improved planning, coordination and program evaluation; a comerstone of this new agenda is a "new federalism," including a substantial decentralization of authority to states and municipalities, which will begin with a redefinition of intergovernmental fiscal relations in the 1996 budget. 37. Infrastructure. While Mexico's infrastructure needs are formidable, the Govemment has long recognized its limitations in closing this gap. The infrastructure privatization initiative begun in the last administration is being accelerated under a new ministerial-level privatization committee. Lessons learned in the concessioning of toll roads have been incorporated into a new framework for concessions, which will be applied to seaports, airports, and satellite communications. Preparations are proceeding for the privatization of the national railway and of secondary petrochernicals. In addition, efforts are underway to ensure that the intended opening of electricity generation to private suppliers, as embodied in a Constitutional amendment in 1992, begins to take effect quickly. 38. Environmental Sustainability. Mexico's severe environmental problems -- including water and air pollution, depletion of aquifers, soil contamination and erosion, deforestation, loss of unique species, and degradation of marine and coastal ecosystems -- are damaging to human health and to economic productivity. These problems stem largely from decades of unchecked industrialization, inadequate pricing of resources, and rapid urbanization without basic infrastructure. The previous administration took impressive first steps to address these problems and the new Government has emphasized its continued commitment to this effort; toward this end, it reorganized the Environmental Ministry and plans to introduce new initiatives, such as integrating environmental concerns in Government operations, decentralizing environmental responsibilities, increasing emphasis on natural resource issues, and establishing meaningful involvement of local authorities and communities in problem-solving. D. THE BANK GROUP'S COUNTRY ASSISTANCE STRATEGY 39. The Bank's strategy over the next year concentrates on: (i) helping the Mexican Government to address the short-term crisis through a special lending and technical assistance program totaling about US$2 billion, with additional resources provided by the Inter-American Development Bank; (ii) a restructuring of the ongoing loan portfolio to reflect current budget constraints and new priorities; and (iii) a review with the Government of the country's medium-term development strategy and priorities, and of the most appropriate mix of Bank instruments to assist in addressing them. The rapidity and  1 3 flexibility of the Bank response is illustrated in Box II, where restructuring activities, technical assistance and two major new operations are being processed within six months, relying on close dialogue by Bank senior management with the Mexican authorities, and on the deployment of key headquarters staff for extended periods in Mexico. More generally, the Mexican financial crisis has illustrated the importance of a fast and well-coordinated international response (Boxes II and IIl) Crisis Response Box 1 - The Bank's Response to the Crisis: 40. As indicated above, in response to the A Snapshot immediate financial crisis, the Bank is planning to The Bank responded quickly to the crisis in Mexico. A provide financial and technical assistance for: (i) small mnission arrived in late December to discuss the financial sector restructuring, including failure situation and provide advice to the authorities. In early resolution in the commercial banking system; (ii) January, a larger mission led by the Director visited strengthening of social sector programs to Mexico to explore a range of possible assistance options. stehoreng thening effect of the crisis on thepoorand Shortly thereafter, in early February, Managing Director amneliorate the effect of the crisis on the poor; and Richard Frank and Vice President Javed Burki agreed with (iii) acceleration of infrastructure privatization. The Minister of Finance Guillermo Ortiz that the Bank would Bank has been able to respond swiftly because of focus its efforts on three critical areas: (i) management of preparatory work carried out on the financial sector the crisis in the banking sector. (ii) strengthening of during the past two years, a strong ongoing program programs to assist the poor and those most affected by the in the social sectors, and the Bank's worldwide crisis, and (iii) the framework for infiustncture privatization. World Bank Acting President Ernest Stem experience in privatization (particularly in the areas was in communication about the joint operations vwith of competition, industry and sector structure, and President Zedillo. By the time an Aide Memoire setting legal and regulatory issues) combined with long- out the operations in more detail was signed by Richard standing relationships with institutions and sectors Frank and Finance Minister Ortiz on March 9, Working being considered for privatization. The Bank's Teams were already set up in both the Bank and Government, and they collaborated intensively in Mexico work on these operations, in Itself evidence of our and at Bank headquarters over the next several months to confidence that the fundamentals of the Mexican prepare three new lending operations. Throughout this economy remain sound, is undoubtedly contributing process, Bank staff worked very closely with the IMF and positively to the intemational effort to calm the IDB, and naintained constant contact with other donors, markets. The operations will provide an infusion of pnvate investors and financial institutions to facilitate the flow of information on developments in Mexico. Board rapidly-disbursing resources which will contribute presentation, signing, effectiveness and initial directly to the financing of Mexico's balance of disbursement of two of the new loans are expected in June. payments while maintaining and deepening reforms. 41. Financial Sector Restructuring. The proposed loan (US$l billion followed upon successful initiation by a possible second operation of US$500 million in FY96) aims to: (i) restore the solvency and soundness of Mexican financial institutions and thereby improve confidence in the financial system, beginning with immediate measures to manage the problems of troubled financial groups, (ii) reform the prudential regulations and accounting standards and strengthen supervision to prevent future recurrence of systemic problems; (iii) improve the legal and regulatory framework to facilitate corporate workouts and debt restructuring, to enable competitive firms to benefit from the new prices and thereby mininiize the negative impact on the real economy; and (iv) consolidate or downsize Development Bank operations and limit the size of the safety net afforded to classes of financial institutions or liability holders. 42. Essential Social Services. This loan (US$500 million) will support ongoing high priority social sector programs in (a) basic education, (b) basic health, (c) employment, and (d) targeted food  14 and nutrition programs for vulnerable groups. The programs aim to preserve essential social services for the poor; provide training and employment enhancement opportunities for 800,000 unemployed and underemployed workers over two years, plus 550,000 short-term jobs annually for the unemployed poor; and provide food and nutrition supplements in priority areas to pregnant and lactating women and to children under 5 years of age. Indigenous populations will benefit in particular from the services provided under the basic education, health and nutrition components as these programs are targeted to the poorest areas of Mexico where the indigenous populations are concentrated. In each component, efficiency gains will be sought, using agreed monitoring and evaluation indicators. 43. Infrastructure Privatization Technical Assistance. The proposed project (US$30 million) would support the technical work of the new Interministerial Commission on Privatization (CID), including: (i) analysis and selection of sound structural options for sector reform; (ii) development of a sound legal and regulatory framework for privatization; (iii) the elimination of constraints to privatization in specific sectors; and (iv) actual sales, auctions and concessions. Initial work would focus on energy, transport and telecommunications. Restructuring the Portfolio 44. The Bank's current portfolio comprises 37 loans, with a total in original loan amounts (net of cancellations) of US$8.4 billion (of which US$4.3 billion is undisbursed), as shown in Annex A7 on Status of Bank Group Operations in Mexico. The portfolio has been one of the better performing in the Bank2 and currently has only four projects rated as unsatisfactory in terms of implementation status (Annex Al on Selected Indicators of Bank Portfolio Performance and Management). However, in light of the current budgetary austerity program, discussions are taking place with the Government, sector by sector, to review the portfolio. Restructuring and partial cancellations, on the order of US$650 million, are being considered and are expected to be agreed shortly. We have formed a Disbursement Task Force, comprising both headquarters and field staff and Government representatives, to expedite disbursements in priority areas through more effective use of special accounts and the capacity of the Bank's Resident Mission to help supervise small investments and provide quick response technical support. In this regard, following the peso devaluation in December, the Bank granted the Government's request to extend application of the historical exchange rates for reimbursement of local currency expenditures incurred within 180 days prior to the date of devaluation.3 2 Annual Report on Portfolio Performance, Fiscal Year 1994, March 22, 1995. Mexico was rated as one of the countries with a high likelihood of achieving development objectives, based on having less than 10 percent problem projects. 3 This period was extended in May to cover all of 1994.  15 Developing A Medium-Term Strategy: New Directions 45. Over the next several months the Bank and Box mt - The Importance of a Quick Response to an Government will work together in reviewing International financial Crisis Mexico's medium-term strategy and priorities, and In an open economy kike that of Mexico, the stability of the most appropriate mix of Bank instruments to fnancial markets and of international capital flows assist in addressing them. Based on discussions depends on public confidence that macroeconomic and carried out during a preliminary Country Strategy sectoral problems will be dealt with quickly, effe;tively, and Implementation Review (CSIR) in March, we and fairly. Otherwise, a difficult situation - such as a will be considering new directions in both tempormy liquidity cunch - could quickdy escalate into wlll be conslenng new dlretlons m both a deeper crisis. development priorities and the Bank's role in Mexico. While macroeconomic and financial imediately following Mexico's peso devaluation, sector management, poverty reduction, human private investors looked to the multilateral institutions resource development, infrastructure development, for confinnation that (i) the Government's stabilization public sector management, and the environment program was feasible and responsive to Mexico's remain key areasforchieineconomic needs, (ii) international experience with remain key areas for achieving growth and similar problems would be brought to bear in designing sustainable development in Mexico4, the volume a policy response, and (iii) the multilaterals and and sequencing of Bank activities certainly needs bilaterals would signal their confidence by together to change, as well as the mix of instruments used providing sufficient financial support to contain the and the relative balance among them. By early scopeoftheproblem. FY96 we expect to have completed in-depth In tlis context, the tmly multiateral and biateral discussions with the core agencies and sectoral efforts on behalf of Mexico have been credited with Ministries on their policies and priorities. Over the helping arrest the deterioration of the country's course of the year, as the stabilization program financial condition and beginning to revive investor takes effect and there is greater certainty about confidence. In so doing, these efforts will minirmize the budget prospects for 1996 and beyond, it will be penod, as well as the severity, of the disruption in possible to define more caref'lly the rate at which Mexico's access to private international capital markets. the Governrment can move in addressing investment priorities and, within that context, the FY96 CAS will provide a fuller statement of the likely shape of the Bank's lending program in Mexico for the outer years of this decade. 46. While the Bank's activities will remain focused on poverty reduction and human resource development, a predominant theme over the past few years, a significant volume and focus of activities will now be shifting toward the financial sector and to activities which will fuirther enhance the competitiveness of Mexico -- prudent macroeconomic management and improved public sector management at national and sub-national levels. The current financial crisis has underscored the importance of sound macroeconomic management -- the appropriate balance of fiscal and monetary policies, a sustainable exchange rate regime, prudent liability management, financial sector stability, and policies to raise savings. The MIF will be leading the dialogue on the stabilization program and exchange rate and liability management generally. The Bank will be concentrating on the composition 4 The Bank prepared a set of Strategy Papers for the new Adrninistration (Box I) which set out policy options and priorities for 18 sectors and subsectors, including competitiveness, labor market, legal system, power. transport, water supply and sanitation, housing, capital flows, post-NAFTA trade, pensions, Federal Government management, and local services. These papers are providing the basis for on-going discussions on sectoral strategies.  16 and quality of public expenditures, financial sector stability, and domestic savings and productivity. The Bank also has a particular opportunity to increase activities in public sector management and govemance, building upon President Zedillo's strong commitment to government reform (para. 36). 47. In our post-devaluation discussions, besides the crisis operations described in paras. 41-43, we have agreed on the following key elements of our future relationship with Mexico: * Economic and Sector work is absolutely critical and will be intensified and carried out in partnership with local institutions. During the next year the Bank will be completing studies on savings and capital flows, restructuring and productivity, labor market issues and training, state and local govemment, and rural poverty. The importance of these issues has been highlighted in the crisis, in particular the need to increase domestic savings and productivity which are key to macroeconomic stability and export-led growth. * There is also strong interest in increasing the number offree-standing technical assistance loans, in areas where more in-depth analytical work is needed, particularly to improve institutions and implement policy reforms. The Infrastructure Privatization Technical Assistance Loan will be an important element of the Bank's efforts over the next year in helping to formulate sector privatization strategies, which in tum will shape Bank participation in ports, power, transport and other infrastructure subsectors in the medium term. A state and local government technical assistance loan, and other operations geared to public sector modernization, will be also considered as candidates for building upon President Zedillo's broad emphasis on public sector reform. * Significant financial support from the Bank will also be important. Besides the possibility of further adjustment lending, the need for which will have to be assessed over the course of this next year, Bank financial support may also take more diversified forms. Three likely developments are worth noting: - The future program will probably incorporate a shift to more "time-slice" operations when there is agreement on sectoral policies as well as the existence of strong, mature institutions to appraise sub-projects. Over the next year investment operations, of either the traditional or sector type, will be carried out in basic health and nutrition, basic education, rural development and poverty reduction in the poorest states, and the highest priority environment areas (water and air quality, water and forestry resources). - The use of guarantees -- either for specific projects or a pool of projects through an infrastructure finance facility -- may be particularly helpful, both in supporting the various sectoral privatization strategies and in stimulating private infrastructure investment. - The Government has also indicated strong interest in single currency loans to facilitate its liability management and can be expected to request such loans if the Bank decides to expand this program. * The expansion of the Resident Mission has been endorsed by the Governnent, not only to strengthen project design and implementation but also as a vehicle to respond more quickly and proactively to the country's needs for consultation, policy advice and a close dialogue generally. The financial crisis has highlighted the need for a larger presence in-country.  17 Level of Bank Lending 48. Past Lending. The Bank vigorously supported Mexico's economic adjustment and debt reduction programs during the FY86-91 period, with loans totaling almost US$11.4 billion (reaching a peak of US$2.6 billion in FY90), more than half of which were quick disbursing sector adjustment and interest support loans. This program led to a rise in Bank exposure in Mexico, from 8.8 percent of the Bank's total portfolio in 1989, to about 12 percent currently. Since FY92, annual lending has averaged US$1.4 billion, with no adjustment loans proposed until now. By FY91 adjustment lending fell to 25 percent of total commitments; the focus of operations shifted to poverty reduction, human resource development and the environment, while maintaining a strong program in infrastructure (Annex Table A2, Mexico Bank Group Fact Sheet FY92-98). 49. Future Lending. The strategy outlined here would incorporate US$2 billion of additional commitments in CY95, bringing total lending to US$2.4 billion in FY95, thereafter dropping back to about US$1.5 billion annually, as a maximum. In view of exposure limitations, a higher level of lending is not feasible even if Mexico's performance were to exceed expectations such that the country clearly moved onto a higher growth path. If a significant further deterioration in conditions were to emerge, we would return to the Board for a full discussion of the appropriate Bank response. Therefore, given these circumstances, a detailed elaboration of alternative lending scenarios is not included. The volumes indicated would be appropriate, provided Mexico remains in the base case macroeconomic scenario outlined in Section A. 50. JustificationforAdjustmentLending. Thanks to the strong adjustment measures being undertaken by Mexico, complemented by official sources of international financial assistance, investors are beginning to regain confidence and a gradual resumption of voluntary financing is probable. Yet international experience with confidence crises indicates that it will take time for Mexico to fully regain broad access to private capital markets. In the interim, adjustment lending by the World Bank and other multilaterals can play a pivotal role, by making possible a smoother transition out of the crisis than would otherwise take place, and by helping Mexico to: (i) follow a balanced program of reform, while limiting social costs; (ii) regain access to international financial markets; (iii) sustain a level of reserves that is adequate to dissuade speculative attacks, and (iv) limit excessive reliance on costly domestic debt financing. In the absence of such lending, an even larger current account adjustment would be needed in 1995, which would require a sharper economic contraction. This kind of contraction would have excessive social costs, with unforeseeable political consequences. These risks alone would likely postpone the time when Mexico regains access to international financial markets. 51. The fragility of Mexico's banking sector is a source of concern for international investors, and policy-based multilateral lending in this area can help by giving confidence to international financial markets that Mexico is taking forceful and appropriate measures -- endorsed by the World Bank and the IDB. As the banking sector strengthens, Mexico will gradually regain access to voluntary finance to help it meet its amortization needs. Barring any unexpected shocks, balance of payments projections indicate that the economic program will be adequately funded (see Section A and Annex Tables). But Mexico's tight international reserve position until voluntary capital inflows resume -- net reserves are projected to be only about US$1.3 billion at end-1995, and still low as of end-1996 -- could make it vulnerable to further speculative attacks.  18 The proceeds of adjustment lending can make it easier for Mexico to withstand such pressures, and so dissuade speculators from mounting an attack. 52. Finally, additional internal borrowing as an alternative to the external resources being provided would clearly be both extremely difficult and costly. The crisis has eroded investor confidence and, as a result, for the time being has dramatically raised real interest rates on public sector domestic debt. Resorting to additional internal debt finance beyond the level currently planned would only expand the fiscal deficit which, in turn, would boost inflation and undermine the economic program. Creditworthiness and Bank Exposure 53. The crisis itself will have important adverse effects on creditworthiness. In the short-run, the financial markets have focused on the adequacy of the Government's cash-flow to cover short- term domestic debt (CETES and Tesobonos principally) coming due. These concerns, and the consequent reluctance now to roll-over maturing debt, are themselves making it more difficult for the Government to cover its immediate cash flow needs. The support of the IMF and the United States (through the ESF) has been important in relieving this constraint. Once this immediate cash-flow crunch is over, with the debt transformed to a more sustainable maturity structure, the focus will again be on fundamentals. In this regard, the crisis is also leading to some important changes, which will have positive longer-term effects. In particular, the exchange rate will now be more competitive, which will help not only exports but the tradeable goods sectors more generally. Second, the new Government of President Zedillo plans to pursue more aggressively structural reforms in critical areas, such as in infrastructure privatization and governance. With the consequent improved productivity, plus the new value for the real exchange rate, an export- led recovery can be achieved. 54. The longer term prospects should thus be seen as positive, notwithstanding the reality that the market perceptions of those prospects are now less favorable than what they were before. These perceptions can be expected to improve over time, however, as results materialize. In this environment, it is appropriate that the Bank (together with the Fund and the EDB) is providing significant financial and technical support to Mexico, and that this assistance is linked directly to key issues in the crisis: support for the banking system, maintenance of essential social services, and for infrastructure privatization. The Bank's financial support will, of course, lead to a rise in our exposure above what it otherwise would have been. Active measures have been taken to contain this, including a program to cancel undisbursed amounts of previous loans which may not be a priority in current circumstances (the projections assume a total of US$650 million of such loans will be canceled), as well as the postponement of some operations previously planned for FY95 and FY96. As shown in Figure 7, under the new planned program, Bank exposure to Mexico as a share of the Bank-wide portfolio will remain at a level of a little above 12 percent (an estimated 12.3 percent at each fiscal year end-point) for a further two years, before resuming its previously declining trend. Under last year's approved lending program, of up to US$1.5 billion per year in commitments, it had been anticipated that the portfolio share would have declined steadily to the guideline level of 10 percent by 1998. It is now projected that this will occur in the year 2000.  19 Figure 7 M BkPdb S _ 55. World Bank exposure as a percentage of Mexico's exports is expected to remain well below the guideline level. It IZO ....................................... .... lwas an estimated 3.5 percent in 1994, and is projected to fall to 2.4 percent by 1999 I 1.0% (see Annex B5). IBRD debt service as a .. ... .. ... . . ... .... share of total public and publicly guaranteed debt service is also expected to remain below the guideline level. The 8.0%. preferred creditor (IBRD, IDB, and IM) 7.0 share of total public and publicly PY94 PY95 PY96 PY97 F9S FY9 FY00 I FM FY guaranteed debt service, however, is l - =s.5BsP&l expected to grow to above the guideline --poNd lamb& Propm- SLOB in FY95 mdFY96 - "M A s level in 1999, but then fall equally rapidly. This ratio rises due to the bunching of IMF repayments in the years 1998 to 2000. Based on anticipated drawings under the currently approved IMF Stand-by, total payments to the IMF by Mexico will rise from US$2 billion in 1997 to US$8.2 billion in 1999, but then fall to US$6 billion in 2000, US$1.6 billion in 2001, and to just US$35 million in 2002. This very short peak, known well ahead, should be manageable by Mexico. 56. In conclusion, while significant risks continue to exist in Mexico, we do not expect that this will lead to debt servicing problems for the Bank. Mexico has maintained a perfect repayment record, since the first IBRD loan to Mexico 46 years ago, even during the most difficult years in the 1980s. While the Bank's response to the crisis with US$2 billion of new loans will temporarily keep our exposure over what it otherwise would have been, we believe the response is an appropriate one for the Bank. International Finance Corporation (EFC) 57. In recent years, IFC's operational strategy in Mexico has supported the private sector in adapting to the opening of the economy and in re-entering the international financial markets (Annex Table A2). Although greater emphasis is presently being given to second-tier companies, IFC's investments in Mexico have in the past been primarily directed at the large corporate concerns and have mainly involved capacity expansions and modernization. Mexico's capital markets, tourism, food processing, general manufacturing, and, to a lesser extent, petrochemicals have benefited most from IFC's recent operational activities. Operations in infrastructure have remained modest due to the slow progress achieved by the Government in resolving outstanding regulatory issues. 58. During the last fiscal year, lFC's Mexican activities led to the processing of eight transactions involving net aggregate approvals of US$152.7 million, including equity and/or quasi-equity participation of US$20.0 million. Based on the current status of its Mexican project pipeline, the Corporation expects to finalize 13 new investments totaling US$229.4 million this fiscal year. New equity and quasi-equity (US$39.4 million) will account for 17 percent of the latter approvals. As of year-end 1994, IFC's portfolio in Mexico involved 39 clients and stood at US$632.8 million, including US$582.3 million (92 percent) in loans investments and US$50.5 million (8 percent) in equity  20 participation. IEFC's Mexican exposure amounted then to 8.9 percent and 7.4 percent of total investments disbursed and held respectively by the Corporation world-wide. 59. Crisis Response. The Bank and IFC have been cooperating closely in response to the crisis. IFC staff have been members of the Bank teams responsible for the development of the Financial Sector Restructuring Loan as well as the Infrastructure Privatization Technical Assistance Loan. IFC has also been working closely with the Bank on the formulation of a possible fund for private infrastructure financing. 60. The special problems confronting Mexico today will give IFC a unique opportunity to increase the pace of its investments in that country. Besides giving IFC an opportunity to build on the corporate restructuring experience it acquired in Mexico in the mid-1980's, the recent events will provide the Corporation with renewed opportunities to diversify its local equity at a time when these had become largely limited to quasi-equity transactions among second-tier and unlisted companies. Based on the emerging needs of the local private sector, the anticipated portfolio growth will be primarily driven by new investments in the general manufacturing, capital markets, and infrastructure sectors. The Bank and IFC will be closely collaborating through the Financial Sector Restructuring Loan to identify banks and companies for financial assistance. IFC is similarly working with the Bank through the Infrastructure Privatization Technical Assistance operation in exploring ways to support the privatization process and to arrange financing and securitization for new investment projects. In the manufacturing sector, IFC will continue to give priority to the second-tier companies. However, the special circumstances facing Mexico will also dictate that it provides selective support to those larger industrial groups which it had helped graduate to the international financial markets in recent years and which are once again submitted to unusual investment financing constraints. * In capital markets, IFC will focus on providing liquidity to give stimulus to sectors such as SMEs, infrastructure, and housing at a critical time when the Government's response to current economic irnbalances is likely to be recessionary. Additionally, it will seek to enhance the Mexican securities markets through underwriting facilities and institution-building activities. In the infrastructure sector, J:FC will respond to the Government plans to accelerate privatization in power, satellite communications, ports, airports, railways and highways. To that effect, it will assist the local private sector in remedying some of the financing constraints which have thus far adversely affected the pace of infrastructure privatization in the country. This said, IFC's success in diversifying its activities in that sector will depend heavily on the steps the Government will take to establish shortly the regulatory framework required to attract private investors into infrastructure services. 61. As part of the above strategy, IFC expects to process 44 new projects in Mexico over the FY96-98 period. These transactions could result in aggregate new approvals of US$1.2 billion (US$29 million/transaction) of which US$951 million (80 percent would involve loan investments and US$236 mnillion (20 percent) equity participation.  21 62. The Foreign Investment Advisory Service (FIAS), a joint activity of the IFC and the IBRD, is providing advice to SECOFI on strengthening Mexican producers of parts, components and intermediate goods in the post-NAFTA context. International Monetary Fund (IMM) 63. The Bank has been working closely with the [MF in monitoring the macroeconomic situation in Mexico and advising the Government in this area. Given the IMF's direct role in financing the stabilization program, their team has led the dialogue on macroeconomic stabilization measures, exchange rate policy, and liability management issues. In fiscal policy, the IMF has concentrated on developing macro-level targets, while the Bank's sectoral background has enabled us to advise on sectoral policies. In the financial sector, the Bank has a lead role, due to our prior experience in preparing both last year's Financial Technical Assistance Loan and the proposed Financial Sector Restructuring Loan; at the same time, the 1MF and the Bank will coordinate especially closely in implementing the Financial Sector Restructuring Loan, because of the inter-dependence of financial and macroeconomic stability. The impact of macroeconomic adjustment on social programs is of concern to both institutions, and the Bank is sharing with the IMF its analysis in this area during the course of the stabilization program. Finally, macroeconomic stability will depend critically on Mexico's ability to increase domestic savings and productivity; the Bank's planned analytical work in these areas will be shared with the IMF, so that it can feed into the evolving macroeconomic framework. Inter-American Development Bank (IDB) 64. Given the current economic situation, the IDB's strategy for Mexico is divided into short- and longer- term components. The IDB's short-term objective is to support government efforts to reestablish macroeconomic stability through (i) program lending aimed at assuring the solvency of the financial sector and (ii) helping finance the basic needs of those most affected by the crisis. To these ends, the IDB will cofinance both of the World Bank's large crisis-related projects: the proposed Financial Sector Restructuring Loan and the Essential Social Services Loan. 65. The IDB's longer-term objectives are to support government efforts to: (i) achieve sustained economic growth, via infrastructure investments aimed at private sector development, agricultural productivity growth, and human resources development; (ii) promote equitable growth, through programs to reduce poverty and to improve provision of social services (education, nutrition, and health) -- relying on and reinforcing the capacity of states and municipalities and of the private sector; and (iii) achieve environmentally sustainable growth, through programs geared to protect the environment and natural resources. 66. The IDB will closely watch the performance of the Government's macroeconomic stabilization program and prospects for the future, as well as the reestablishment of the solvency of the financial sector as a requisite for economic growth. Other areas of particular interest to the IDB for continuing country dialogue are state modernization and reform, especially in the social sectors, the judicial system, and increasing participation of civil society organizations. The IDB will also support privatization efforts, especially in regard to infrastructure investments and management in which the 1DB has played an important financial role over the years. Issues on the agenda for discussion with authorities include multiyear budgeting for investment projects and related issues of timely and adequate transfer of resources to state and municipal executing agencies.  22 E. AGENDA FOR BOARD CONSIDERATION 67. Current Situation and Issues. While the crisis was precipitated by a speculative attack on the Mexican peso and large capital outflows, the economy was vulnerable due to factors that had been building for a number of years; among the most important factors were the large current account deficit financed by massive external short-term capital flows, a fall in domestic savings, and low growth. While the Government has introduced measures to stabilize the economy in the short term, it is also moving aggressively with further structural reforms that will promote increases in savings and productivity and achievement of higher growth rates in the longer term. 68. Prospects and Risks. The immediate problem is one of short-term cash flow and restoration of confidence in international financial markets. The international support package will provide the required liquidity support and the knowledge of its availability has been important in helping to restore confidence in the markets. The Government's March 9 economic program is, of course, central, through introduction of tight fiscal and monetary measures, a commitment to a floating exchange rate regime, more transparency in providing the markets with data on economic fundamentals, implementation of measures to support the banking system, and a commitment to protecting social programs. As a consequence of the economic program and support package, Mexico's current account deficit is expected to fall to under 1 percent of GDP in 1995. While a significant fall in GDP is forecast for 1995 (by about 5 percent), a recovery is expected to begin in 1996 and the economy is projected to grow by about 5 percent a year by 1997 onward. 69. The most important risks to achieving the targets set out in the program are the stability of the banking system, which is under great stress due to high interest rates generated by the crisis, and social and political stability, which could worsen because of increasing unemployment. The Government has put in place programs to deal with these risks, and the Bank Group and IDB are actively supporting these programs with both financial and technical assistance. 70. Bank Strategy. The Bank proposes in the short term to (i) provide an additional US$2 billion of lending in support of financial sector reform and a safety net for the poor, (ii) restructure the current lending portfolio in light of budgetary reductions and current priorities, and (iii) intensify technical assistance for the planning and implementation of infrastructure privatization. As a consequence of the additional lending, Bank exposure is expected to remain at about 12 percent of the Bank's portfolio for a further two years beyond what had previously been anticipated. Over the next several months the Bank and Government will work together in reviewing the country's medium-term strategy and priorities, and the most appropriate mix of Bank instruments to assist in addressing them. While the central issues underlying the Government's medium and longer term agenda and the Bank's strategy remain macroeconomic management, poverty reduction, human resource development, public sector management, infrastructure and the environment, the Bank can be expected to shift more attention to the financial sector, privatization and other aspects of public sector management which will enhance Mexico's competitiveness. Richard H. Frank President ad interim Washington, D.C. May 22, 1995  Annex Al Page 1 of 2 MEMCO - Selected Indicators of Bank Portfolio Performance and Management -~~~~~~~~~~~~~~~~~~~~F ;1- VW:S Portfolio Performance Number of projects under implementation 46 45 43 37 Average implementation period (years) a/ 4.1 4.5 4.5 4.3 Percent of problem projects (rated U or HU for past year) b/ Development objectives c/ 2.7 2.6 7.9 8.1 Overall status/Implementation Progress 11.6 4.5 7.0 10.8 g/ Canceled during FY (US$ million) 7.8 57.3 8.2 36.2 h/ Disbursement ratio (%) d/ 34.2 31.3 22.7 14.0 i/ Disbursement lag (%) e/ (25.6) 18.2 31.2 20.0 Memorandum item: completed projects rated unsatisfactory f/ 2 5 4 NA Portfolio Management Supervision resources (total staffweeks) 772.8 787.5 627.8 464.3 j/ Average supervision (staffwveeks) 16.8 17.5 14.6 12.5 Supervision resources by location (in %) Percent headquarters 100 96 96 97 Percent resident mission 0 4 4 3 Supervision resources by rating category (sAv/project) Projects rated I or 2 15.7 16.3 - - Projects rated 3 or 4 21.1 53.5 - Projects rated HS or S for Development NA NA 15.3 12.9 Objectives Projects rated U or HU for Development NA NA 20.0 8.7 Objectives Memorandum item: Date of last CSIR - March 1995 Notes: a. Average age of projects in the Bank's country portfolio. b. U or HU denotes "Unsatisfactory" or "Highly Unsatisfactory." c. Extent to which the project will meet its development objectives. d. Ratio of disbursements during the year to the undisbursed balance of the Bank's portfolio at the beginning of the year: investment projects only. e. For all projects comprising the Bank's country portfolio, the percentage difference between actual cumulative disbursements and the cumulative disbursement estimates as given in the "Original SAR/PR Forecast" or, if the loan amounts have been modified, in the "Revised Forecast. " The country portfolio disbursement lag is effectively the weighted average of disbursement lags for projects comprising the Bank's country portfolio, where the weights used are the respective project shares in the total cumulative disbursement estimates. f For projects rated in the FY only: from the OED database. g. The number of problem projects remain the same; the total number of projects under implementation will change by the end of the fiscal year so the percentage is likely to remain unchanged from FY94. h. As explained in Section D, further cancellations of some US$650 million are being reviewed with Government. i. After disbursements during the fourth quarter, this ratio will likely remain unchanged from FY94. j. Supervision resources allocated during the fourth quarter are estimated to bring the total for FY95 close to that of FY94.  Annex Al Page 2 of 2 MEXICO: Status of Projects with Unsatisfactory Implementation Progress Four projects with serious implementation problems have been resolved or are in the process of being reviewed as part of the general restructuring exercise. The Industrial Restructuring Loan's (3047) implementation issues have been resolved and the loan is closing December 31, 1995; Initial Education (3518) was delayed as a result of institutional changes brought about by the decentralization of the education system and changes in personnel and is now being reviewed for possible restructuring and partial cancellation; Agricultural Technology (3468) is now being restructured as a result of a review being conducted of the Government's overall strategy for agricultural research and extension; and Mexico Environment (3461) was delayed because of changes in management of the implementation agency, and is now being restructured to reflect the creation of the new Ministry for the Environment.  Annex A2 Page 1 of 1 MEXICo - Bank Group Fact Sheet, FY92-98 IBRD Lending Program, FY92-978 Comnmitments (US$m) 1489 1154 1530 2374 1500 1500 1500 Sector (%) Agriculture & Forestry 37 0 13 25 - - - Power, Energy & Industry 13 0 0 0 - - - Finance 0 0 0 43 - - - Infrastructure & Urban 30 59 23 0 - - - Development Human Resources 17 22 27 32 - - - Environment 3 19 37 0 - _ _ Total 100 100 100 100 100 100 100 Lending instrument (%) Specific investment loans /others 100 100 100 37 67 - - Adjustment 0 0 0 63 33 100 100 100 100 100 100 100 Disbursements (US$m) Specific investment loans/others 1519.4 1200.8 997.1 912 538 592 681 Adjustment 0 0 0 0 1450 550 0 Total 1519.4 1200.8 997.1 912 1988 1142 681 Principal Repayment (US$m) 974.3 993.0 1007.2 1124 1301 1359 1370 Interest (US$m) 862.5 918.8 907.4 949 959 1005 968 Notes: a. Ranges that reflect the most likely scenario. b. Through April 14, 1995 and projected for end of year. MEXICO - IFC FY92-98 IFC Approvals (USSm) 91 72 123 229 375 385 427 Sector (%) Agribusiness 0 0 17 0 8 0 7 Capital Markets 34 4 1 25 24 21 25 Petrochemicals 2 27 32 22 11 13 9 Infrastructure 42 17 5 11 19 34 22 Manufacturing 22 52 29 31 29 32 32 Oil/Gas 0 0 16 11 9 0 6 TOTAL 100 100 100 100 100 100 100 Investment instrument (%) Loans 70 65 87 83 78 79 83 Equity 30 35 13 17 22 21 17 TOTAL 100 100 100 100 100 100 100 Notes: a. Includes quasi-equity types of both loan and equity instruments.  Annex A3 Page 1 of 1 MEXICO - Summary of Econonmic and Sector Work a/ Agriculture & Rural Poverty X X Finance X X X Industry and Power X X Urban Development and Inlfrastructure X Education and Training X Population, Health, and Nutrition X X X Public Sector Management X X Environment and Natural Ressources X Poverty Assessment X Private Sector Assessment X Country Economic Memorandum X X X Notes: a. "X" indicates planned work.  Annex A4 Page 1 of 2 Mexico Most Same region/income group Next Latest single year recent Latin Upper- higher Unit of estimate America middle- income Indicator measure 1970-75 1980-85 1988-93 Caribbean income group Priority Poverty Indicators POVERTY Upper poverty line local curr. 32.424 Headcount index % of pop. 20 10 Lower poverty line local curT. 7,742 Headcount index % of pop. 1 0 GNP per capita USS 1.590 2.180 3,610 2.930 4.350 23.680 SHORT TERM INCOME INDICATORS Unskilled urban wages local curr .. Unskilled rural wages . Rural terms of trade .. Consumer price index 1987= 100 1 23 506 Lower income Food"4 . 23 449 Urban Rural SOCIAL INDICATORS Public expenditure on basic social services %7 of GDP Gross enrollment rauos Pnmary %schoolagepop. 109 119 113 107 105 103 Male 112 120 114 .. .. 103 Female 106 117 111 .. .. 103 Mortality Infant mortaliry per thou. Iive births 68.0 49.0 35.4 43.0 35.8 7.0 Under 5 mortality .. .. 43.0 52.2 42.6 8.5 Immunizauon Measles % age group .. 30.0 78.0 78.7 82.0 82.5 DPT .. 26.0 64.0 73.7 74.2 90.2 Chid malnutrition (under-5) .. .. 13.9 Life expectancy Total years 63 68 71 69 69 77 Female advantage 4.7 6.1 6.1 5.3 5.9 6.4 Total fertility rate births per woman 6.4 4.3 3.1 3.1 2.9 1.7 Maternal mortality rate per 100.000 live births .. 92 Supplementary Poverty Indicators Expenditures on social secunty % of total govt exp. 23.5 9.6 12.4 Social security coverage % econ. actve pop. .. Access to safe water: total % of pop. 62.0 80.0 77.5 80.0 86.7 Urban 70.0 95.0 89.0 90.1 93.9 Rural 49.0 47.0 49.0 57.6 66.7 Access to health care 50.7 91.0 Population growth rate GNP per capita growth rate Development diamond b (anXnualaverage. prrentm)(annUalaVerge.PerCent) (annualaverage.percentgLifepepecennc 42 2!I K-. * w- -- C 1 p0 , .-' < 4 x fGNP Gross per pimary 0 I , | 1,l 5 1 2 capita enrollment .10- 1 1970-75 1980-85 1988-93 1970-75 1980-85 1988-93 Access to safe water =_ Mexico Mexico - Upper-middle-tncome Upper-middlc-income a See the technical notes. p 387. b The development diamond. based on four key indicators, shows the average level of development in the counr-y compared with its income group. See the introduction.  Annex A4 Page 2 of 2 Mexico Most Same region/income group NVext Latest single year recent Latin Upper- higher Unit of estimate America middle- income Indicator measure 1970-75 1980-85 1988-93 Caribbean income group Resources and Expenditures HUnIAN RESOURCES Population (mre=1993) thousands 58.871 75.526 90.027 466.304 500.507 812.447 Age dependency rano rauo 1.0i 0.82 0.69 0.66 0.62 0.49 Urban % of pop. 62.8 69.6 74.2 71.2 71.2 77.9 Populauon growth rate annual % 3.1 2.4 2.2 2.0 1.7 0.6 Urban 4.3 3.3 2.9 1.9 1.8 0.8 Labor force (15-64) thousands 17,928 26.081 33.362 . 9.839 190.136 395.641 Agnculture % of labor force 40 37 .. Industry 27 29 .. Female 23 27 27 27 29 38 Females per 100 males Urban number 103 Rural 92 NATURAL RESOURCES Area thou. sq. km 1.958.20 1.958.20 1.958.20 20.505.92 21.848.14 32,146.15 Density pop. per sq. km 30.06 38.57 44.97 22.29 22.51 25.11 Agnrcultural land % of land area 51.52 51.97 51.99 40.00 41.26 42.80 Change in agncultural land annual % 0.15 0.01 0.01 0.39 0.08 -0.48 AgneulturaJ land under imgauon % 4.55 5.33 6.15 3.41 8.84 13.96 Forests and woodland thou. sq. km 0.55 0.49 9.87 8.04 10.56 Deforestauon (net) annual % 1.30 INCOME Household income Share of top 20% of households % of income 61 56 .. Share of bottom 40% of households 10 12 .. Share of bottom 20% of households 3 4 .. EXPENDITURE Food %ofGDP 29.0 22.0 .. .. .. 8.4 Staples 6.8 .. .. .. .. 1.6 Meat. fish, milk. cheese, eggs 12.7 .. .. .. .. 3.8 Cereal imports thou. metric tonnes 3.720 4,780 6.223 27.700 48.947 77.530 Food aid in eereals .. 6 45 1.565 544 8 Food production per capita 1987 = 100 93 102 95 101 102 95 Ferulizerconsumpuon kg/ha 10.9 17.3 16.3 16.1 67.8 150.0 ShareofagricultureinGDP %ofGDP 10.8 9.1 8.5 9.0 8.0 Housing %ofGDP 6.4 5.1 .. .. .. 11.7 Average household size persons per household 6.0 5.5 .. Urban 6.0 .. .. Fixed investment: housing % of GDP 6.3 4.4 . . .. 5.0 Fuel and power % of GDP .. .. . .. 2 0 Energy consumpLon per capita kg of oil equiv. 869 1.362 1,439 913 1.632 5.203 Households with electrcity Urban % of households . . .. Rural Transport and comrnunication % of GDP 6.0 7 7 .. .. .. 8.8 Fixed investment: transport equipment - 2.2 3 0 .. .. 2.1 Total road length thou. km 193 224 237 INVEST'MENT IN HUMAN CAPITAL Health Population per physician persons 1.426 1.186 .. .. .. 453 Population per nurse 1371 844 Population per hospital bed 760 8. 29 517 395 145 Oral rehvdyration therapy Iunder-5j c of cases . 87 61 51 Education Gro s enrollment ratio Secondarv % of school-age pop 34 53 55 47 53 92 Female 28 52 55 94 Pupil teacher ratio: primary pupils per teacher 45 34 30 26 25 Pupil-icacher ratio. secondary 18 18 17 Pupid reaching grade 4