Argentina - Second Provincial Reform Adjustment Loans - Salta, Tucuman, Rio Negro and San Juan

Report No. PIC5392 Project Name Argentina-Provincial Reform Adjustment Loansr-ora) Salta, Tucuman, Rio Negro and San Juan Region Latin America and Caribbean Sector Infrastructure Project ID ARPE51693-Salta Borrower Argentine Republic Implementing Agency The Implementation Units in the Ministry of Finance of the four beneficiary provinces. Date PID prepared June 24, 1997 Appraisal Date April 11, 1997 Proposed Date of July 29, 1997 Board Presentation Background 1. Argentina's public sector is highly decentralized. The 24 provincial governments (See 1/) are responsible for 45% of public sector expenditures, a share that is higher than in many Latin American countries. In 1995, the Argentine provinces undertook 97% of basic education, 92% of health and 84% of welfare outlays. On the revenue side, provinces collect only 18% of the public sector revenues. Their "own-source revenues" average only 37% of provincial expenditures. The gap between expenditures and revenues is filled by transfers and shared revenues, mostly block grants. The central government is constitutionally responsible for monetary and foreign policy but has little leverage on the way the provinces manage their finances, borrow, or deliver public services. Matching grants are seldom used. Earmarked funds are transferred from the nation to finance provincial welfare and housing programs. Only recently has the federal government requested counterpart funds from the provinces for these programs. 2. Fiscal Performance. Provincial fiscal performance has often been poor. During the 1980s, high inflation rates, lack of budgetary discipline, easy access to borrowing and reliance on the central government for transfers and bailouts all contributed to persistent fiscal deficits. The situation improved briefly in 1992 (due to the Convertibility Plan, associated Tanzi effect, and a major national tax effort) but has deteriorated sharply since. The national crisis of 1995 aggravated the critical situation of the provinces. Provincial revenues dropped 5% in real terms, provincial expenditures failed to adjust, and the provincial deficit reached a record high of US$3.5 billion or 1.3% of GDP, about half of the consolidated public sector deficit. Out of 24 provinces, only four had balanced fiscal accounts. Most of the others faced important liquidity shortages, increased borrowing, accumulated arrears. Some provinces resorted to printing their own money.  3. In 1996, the provincial fiscal situation improved. Revenues recovered with economic activity, expenditures were curbed in response to increased fiscal discipline. On the one hand, the central government increased its selectivity in bailing out bankrupt provinces, leading to severe social problems whenever public workers were not paid. On the other hand, the generation of Governors who won the 1995 elections promising major reform changes were now ready to move forward. In the context of increased confidence, some large provinces were successful in issuing debt abroad and refinancing their expensive domestic debt. 4. Structural Reforms: During 1992 and 1993, the Federal Government negotiated two agreements with the provinces to promote structural economic changes. The provinces agreed to improve own- source mobilization, restructure provincial taxes and eliminate distortionary taxes, privatize public enterprises, including the provincial banks and utilities, deregulate the provincial economy, and transfer the provincial pension funds to the national system. In exchange, the federal government guaranteed a shared-revenue floor to each province, sheltering them from any down swings in revenue. It also provided a Transformation Fund which helped finance those reforms and provide technical assistance and advisory services. 5. Progress was achieved in many areas (See 2/). As of May 1997, 34 out of 82 provincial public enterprises had been privatized, 18 out of the 31 provincial and municipal banks were fully privatized, and many others are currently being privatized. Many provincial utility services are now run by the private sector. Many of the distortionary provincial taxes have been removed, and eight provinces have transferred their pension funds to the national government. Provincial Reform Programs 6. In 1996, the federal government recognized the need for a second phase of provincial reforms. These reforms would help the Governors to improve efficiency in public spending, reduce the size of their central administrations, secure and maintain fiscal balance, reduce debt stock and debt service to manageable proportions, and enhance responsiveness, quality and equity in the provision of social services. Several governors had requested Bank technical and financial assistance to carry out these types of actions. During the Country Assistance Review in November 1996, the Argentine Government gave high priority to Bank assistance for the reform of selected provinces in the context of a structural adjustment operation. The Bank's report (See 3/) on the Argentine provincial finances provided the analytical framework for the operation. 7. Selection of the provinces: The national government and the Bank jointly agreed on the eligibility criteria and the focus of the program. The loans would be available to provinces that: (i) have introduced significant structural reforms in terms of size of the provincial government and privatization of major public banks and other enterprises; (ii) have accepted the transfer of the provincial pension funds to the national system; and (iii) have - 2 -  demonstrated ability and political commitment to further reforms. 8. On the basis of the above criteria and taking into account the support from the Legislature, four provinces were selected -- Salta, Tucuman, San Juan and Rio Negro. The first three are poor NW provinces with per capita incomes ranging from $3,600 to $5,000, well below Argentina's average of US$8,120. Rio Negro is more well- off, but has shown great determination in tackling an apparently intractable situation in terms of debt and overstaffing. Together, the four provinces account for 6t of Argentina's GDP and 10t of the country's population. 9. The provinces differ in resource base. Salta and Rio Negro are well endowed with minerals and hydrocarbons. Tucuman, San Juan and Rio Negro have an important agro-industrial sector oriented to the export of fresh fruits, sugar and citrus. All have attracted substantial private investment in the last three years, under the deregulation stimulus of the new administrations. The ongoing reforms will work toward more efficient and competitive economies. Under the leadership of these reform-minded Governors, the provinces have demonstrated a strong commitment to reform. The support of a favorable legislature will help the speed of the reforms. The provinces also differ in political affiliations -- Salta and San Juan's Governors are from the national governing party, while the Governors of Tucuman and Rio Negro come from the opposition. Loan Objectives 10. The objective of these loans is to help the four provinces to deepen the reforms and restructure their governments so as to ensure an efficient and responsive delivery of public services (notably social services) within fiscally sound policies. 11. Coordination with Multilateral Institutions. The Bank has worked closely with the IMF in the design and supervision of adjustment operations in Argentina, in formulating country strategy, and in economic and sector work. The IMF shares our concern regarding the need to help improve the provincial fiscal situation. Bank staff will coordinate with the IMF to ensure the compatibility of this loan with the adjustment program negotiated with the IMF. The IDB has cofinanced the Public Sector Reform Loan, Provinces I and the Provincial Bank Privatization Loan. The proposed operation would complement the IDB's provincial work since it is directly financing the provinces of Buenos Aires and Mendoza. The Bank has also had the full collaboration of the IFC, which joined some of the preparation missions. Loan Description 12. The proposed loans would support the provinces as they implement their reform programs with a series of fiscal, administrative and social measures. The central government would onlend to each province the counterpart funds equivalent to the loan amounts which are proposed: US$75 million for Salta; US$100 -3 -  million to Tucuman; US$75 million for Rio Negro and US$50 million for San Juan. Each loan would be disbursed to the Central Government, with rapid transference of the local counterpart funds to the provinces according to pre-agreed payment instructions approved by the Bank and under onlending terms agreed with the Bank. 13. Borrower and Loan Amount. The borrower of the four adjustment loans would be the Argentine Republic. The beneficiaries will be the provinces as indicated above. The amounts were determined as a function of the population of the province, needs of adjustment and depth of each program. Disbursements for each loan would be conditioned on Board approval (effectiveness ) and subsequent positive evaluations of the compliance of provinces with reform actions agreed during negotiations. While the formal tranche- release actions will be limited to key measures, the full program of each province is detailed in the draft Letters of Provincial Reform (LPR). 14. Tranche disbursement. Given the various stages of reform in each of the participating provinces, the Bank's support has been packaged in four separate loans. The loans will first disburse--as provincial compliance is confirmed--into a fund to be managed by the National Ministry of Economy, the fund borrower. The fund will, in turn, quickly disburse the agreed tranches to the complying provinces. The first tranche disbursement would be released promptly after loan effectiveness, since actions required for disbursement will have been implemented prior to Board presentation. The second tranche disbursements would be released in about 12-18 months, depending on the speed of the reform following a positive review of the second (and third, in some provinces) tranche compliance. Environmental Aspects 15. The provincial reform programs will not have adverse environmental impacts. The loan has been classified in the "B" environmental impact category due to the possible effects that the decentralization of public hospitals may have in handling hospital waste. 1/ Including the city of Buenos Aires, which is larger in population than most provinces. 2/ The Bank assisted these reforms with several loans: Provincial Development Loans I and II and the Provincial Reform Loan I have helped the federal government to begin promoting provincial reforms. The ongoing Provincial Bank Privatization Loan helped the provinces to privatize their banks and the Provincial Pension Reform Loan supporting the transfer of the Pension Funds from provincial governments to the central government. 3/ Argentina Provincial Finances Study - Issues in Fiscal Federalism, July 12, 1966, Report No. 15487-AR. - 4-  Contact Point: Public Information Center The World Bank 1818 H Street N.W. Washington, D.C. 20433 Telephone No.: (202) 458-5454 Fax No.: (202) 522-1500 Note: This is information on an evolving project. Certain components may not necessarily be included in the final project. Processed by the Public Information Center week ending July 4, 1997. - 5 -  Annex Environmental 1. The loan will assist four reforming provinces in Argentina to restructure their public sector and increase the efficiency and responsiveness of the services provided in a fiscally sound context. The reform in the social sectors--to improve the efficiency of educational and health services--includes the decentralization of selected provincial public hospitals. The loan has been classified as Category B due to the possible effects that the decentralization of public hospitals may have in handling hospital waste. 2. It was agreed that each province would provide the Bank with an evaluation of the existing facilities and institutional regulatory framework concerning the disposal, transport and treatment of pathological waste, recommendations for improvement and inclusion in the legal procedures that will precede the transformation of selected public hospitals into autonomous hospitals. For each hospital that will be prepared for decentralization, an environmental audit (acceptable to the Bank) will be undertaken before decentralization. The waste management within each of these hospitals will be evaluated so as to assess the adequacy of the waste destruction equipment, transportation and disposal practices of pathological wastes. The decentralization contracts will ensure proper management of pathological wastes, proper design and operation of pathological waste destruction units, and proper transportation and disposal of these wastes outside the hospitals. The Provincial Health Sector Loan (PRESSAL) will assist the provinces to implement the new autonomous hospitals and will ensure the proper conduction of the environmental audits as well as the proper incorporation of the recommendations in to the process of hospital autonomy. PRESSAL and the provincial Ministry of Health will prepare waste management manuals (acceptable to the Bank). 3. The provincial governments are fully committed to environmental protection and will review and revise the legal and institutional framework -- which includes the government agency in charge of environmental control -- of the management of the hospital and pathological waste. The governments are committed to implement the improvements in the legal and institutional framework which will be needed, in agreement with the normal rules and standards, accepted in the Republic of Argentina, to ensure the adequate collection, transport, treatment and final deposit of the pathological waste. -6-