Colombia - Jepirachi Carbon Off-Set Project

Document of The World Bank Report No: 24913-CO PROJECT APPRAISAL DOCUMENT ON A PROPOSED PURCHASE OF EMISSIONS REDUCTIONS BY THE PROTOTYPE CARBON FUND IN THE AMOUNT OF UP TO US$3.2 MILLION TO EMPRESAS PUBLICAS DE MEDELLIN (EEPPM) FOR THE JEPIRACHI CARBON OFF SET PROJECT October 30, 2002 Finance, Private Sector and Infrastructure Department Colombia, Mexico and Venezuela Country Management Unit Latin America and Caribbean Region  CURRENCY EQUIVALENTS (Exchange Rate Effective May 23rd, 2002) Currency Unit = Colombian Pesos (COP) I COP = US$0.000427259 US$1 = COP 2340.50 FISCAL YEAR January I st -- December 31 st ABBREVIATIONS AND ACRONYMS AIJ Activities Implemented Jointly IBRD International Bank for Reconstruction and Development CARBOCOL Carbones de Colombia (empresa minera IDB Inter.-American Development Bank de la Guajira Cerrej6n) CAS Country Assistance Strategy INCORA Instituto Nacional de Reforma Agrana CDM Clean Development Mechanism JCP Jepirachi Carbon Offset Project CERs Certified Emission Reductions Ji Joint Implementation CND National MC Marginal Costs Dispatch Commission C02 Carbon Dioxide MMA Ministry of Environment CREG Energy and Gas Regulatory MME Ministry of Mines and Energy Commission CTO Certified Tradable Offset MtCO2e Metnc tons of carbon dioxide equivalent EEPPM Empresas Publicas de Medellin MVP Monitoring and Verification Plan EIA Environmental Impact Assessment NSS National Strategic Studies EMP Environmental Management Plan OCC Office of Climate Change of the Ministry of Environment ER Emission Reductions OIT Orgamzaci6n Intemnacional de Comercio ERPA Emission Reductions Purchase ONIC Orgnizaci6n Nacional Indigena Agreement FIRR Financial Internal Rate of Return PCF Prototype Carbon Fund FY Fiscal Year PPA Power Purchase Agreement GHG Greenhouse Gas SENA Servicio Nacional de Aprendizaje GOC Government of Colombia SIN National Interconnected System GWh Gigawatt hours UNFCCC United Nations Framework Convention on Climate Change HCA Host Country Agreement UPME Energy and Mines Planning Unit Vice President: David de Ferranti Country Manager/Director: Olivier Lafourcade Sector Manager/Director: Danny Leipziger Task Team Leader/Task Manager: Walter Vergara  COLOMBIA JEPIRACHI CARBON OFF SET PROJECT CONTENTS A. Project Development Objective Page 1. Project development objective 2 2. Key performance indicators 2 B. Strategic Context 1. Sector-related Country Assistance Strategy (CAS) goal supported by the project 2 2. Main sector issues and Government strategy 10 3. Sector issues to be addressed by the project and strategic choices 13 C. Project Descnption Summary 1. Project components 14 2. Key policy and institutional reforms supported by the project 17 3. Benefits and target population 17 4. Institutional and implementation arrangements 18 D. Project Rationale 1. Project alternatives considered and reasons for rejection 23 2. Major related projects financed by the Bank and other development agencies 24 3. Lessons learned and reflected in the project design 24 4. Indications of borrower commitment and ownership 25 5. Value added of Bank support in this project 25 E. Summary Project Analysis 1. Economic 25 2. Financial 29 3. Technical 32 4. Institutional 33 5. Environmental 34 6. Social 37 7. Safeguard Policies 40 F. Sustainability and Risks 1. Sustainability 41 2. Critical risks 41  3. Possible controversial aspects 42 G. Main Conditions 1. Effectiveness Condition 43 2. Other H. Readiness for Implementation 44 I. Compliance with Bank Policies 44 In Annexes section NR = Not Required Annexes Annex 1: Project Design Summary NR Annex 2: Detailed Project Description NR Annex 3: Estimated Project Costs 47 Annex 4: Financial Analysis 48 Annex 5: Financial Summary NR Annex 6: Procurement and Disbursement Arrangements NR Annex 7: Project Processing Schedule 55 Annex 8: Documents in the Project File 56 Annex 9: Statement of Loans and Credits 57 Annex 10: Country at a Glance 59 Annex 11: Complementarity of Hydro and Wind Resources 61 Annex 12: Risk Matrix 62 Annex 13: Environmental Analysis 66 Annex 14: Indigenous Plan and Cultural Property 78 Annex 15: Information and Consultation Process 87 Annex 16: MAP Project Location 103 Annex 17: Footnotes 104  COLOMBIA Jepirachi Carbon Off Set Project Project Appraisal Document Latin America and Caribbean Region LCSEN Date: November 14, 2002 Team Leader: Walter Vergara Sector Director: DannyLeipziger Sector(s): Renewable energy (100%) Country Manager/Director: OlivierLafourcade Theme(s): Climate change (P) Project ID: P074426 Project Financing-Data. [ ] Loan [ ] Credit [] Grant [ ] Guarantee [X] Other: Prototype Carbon Fund For Loans/Credits/Others: Amount (US$m): 21.0 Financing'Plan'(US$m): --Source- Local - . Foreign Total BORROWER 10.60 10.40 21.00 PROTOTYPE CARBON FUND 0.00 0.00 0.00 Total: 10.60 10.40 21.00 Borrower/Recipient: EMPRESAS PUBLICAS DE MEDELLIN (*) EMPRESAS PUBLICAS DE MEDELLIN (EEPPM) is the generator and seller of the emission reductions. Revenues from emission reduction credits, purchased by PCF, at US$4/ton C02 e, total US$3.2 million. Up to US$0.4 million of emission reduction revenues (representing up to US$0.5/ton C02 e) will be dedicated to co-finance a social program as part of the project. This resource does not appear in the financing of the project as it makes part of the revenues. Responsible agency: EMPRESAS PUBLICA DE MEDELLIN Address: Carrera 58 No 42-125 Of. 9-131 A.A.940 Medellfn Colombia Contact Person: Luis Carlos Rubiano Sub-Gerencia de Planeaci6n Generaci6n Energia, Empresas Publicas de Medellin (EEPPM) Tel: 574 380 42 30 Fax: 574 380 67 95 Email: Irubiano@eeppm.com Other Agency(ies): Ministry of Environment, Climate Change Group Contact Person: Econ. Martha P. Castillo Director Office of Climate Change Mitigation, Ministry of Environment Tel: 571-340 6279 Fax: 571-288 7639 Email: Estimated Disbursements ( Bank FY/US$m): [ FY .| 2004 | 2005-| 2006. 2007 '2008 '2009 |2010 2011' |l2012-. 20137. 2014 |2015.| 2016. :.017'-| 2018 Annual 0.10 0.10 0.04 0.24 0.23 0.35 0.121 0.12 0.26 0.17, 018| 0.35 0.27 0 27 0.27 Cumulativ 0 10 0 20 0.24 0 48 0.71 1.06 1.18 1.3 1.5 1.7 1.911 2.2 2.53 2 80 3.07 Project implementation period: 2004-2019 Expected effectiveness date: 06/01/2003 Expected closing date: 12/31/2019 OCS PAD R RF . M-C  A. Project Development Objective 1. Project development objective: (see Annex 1) The objective of the Jepirachi Carbon Offset Project (JCP or Jepirachi Project) is to contribute to the reduction of greenhouse gas (GHG) emissions from the power sector in Colombia through the promotion of a 19.5 MW wind-based electricity generation facility. The project is expected to displace an estimated 1.168 million metric tons of carbon dioxide equivalent (mtCO2e) over a period of 21 years and will also support a social program that will contribute to improvements in the welfare of the local indigenous community. The JCP, will contribute to the development of the international carbon market in Colombia through the supply of Emission Reductions (ERs), developed under the Clean Development Mechanism (CDM) as set forth under Article 12 of the Kyoto Protocol. By linking the global issue with local development concerns the project truly reflects the spirit of the CDM. The ERs are classified as high quality because of the reliability of the project and the social benefits represented by the social program for the indigenous people. 2. Key performance indicators: (see Annex 1) * Emission Reductions (ERs) for the estimated amount of 1.168 (mtC02e) produced over a 21 year crediting period. * Total purchase of ERs by PCF by 2019 of up to 800,000 tons of C02 e. * Improvements in the welfare of the Wayuu Indian population in the area of influence of the project through improved access to potable water, education, health services and community strengthening. * Gained experience and knowledge in the development, operation and maintenance of wind energy generation facilities and a better understanding of the medium-term prospects for this energy option in the energy mix of the nation. B. Strategic Context 1. Sector-related Country Assistance Strategy (CAS) goal supported by the project: (see Annex I) Document number: 17017-CO Date of latest CAS discussion: November 18, 1999 The last full Country Assistance Strategy (CAS) was discussed by the Board on November 1997. Later, on November 1999 a progress report was considered at the Board to review the political, economic and financial developments, as well as to examine the progress achieved since the last CAS. The last CAS as well as the progress report identified two main strategic objectives for Colombia: i) poverty reduction and social development; and ii) sustainable growth. These objectives are to be achieved through intervention in six strategic areas: -2 -  l. Promoting peace and development ii. Promoting rural development iii. Developing human capital iv. Attaining public sector responsiveness and efficiency v. Improving infrastructure services vi. Ensuring sustainable development The JCP is consistent with these key priorities. First, at a wider level, the project contributes to global sustainability by reduction of GHG emissions from the power sector in Colombia. Locally, the project contributes to sustainable development by promoting diversity in the sources of energy for the power sector and increasing its reliance. The project also contributes to rural development and developing human capital through its social program. la. Global Operational strategy/Program objective addressed by the project: The JCP supports the PCF global objectives as follows: High-Quality Emission Reductions. The PCF supports funding of projects that produce high quality greenhouse gas ERs, which could be registered under the CDM as established under the Kyoto Protocol. The JCP will seek registration at the Executive Board for the CDM, and will generate ERs that are likely to be translated into Certified Emission Reductions (CERs), against the emission targets of industrialized countries under the Kyoto Protocol. Knowledge. By transacting the GHG emissions, the PCF is developing a knowledge base of business processes relating to the carbon market. JCP will constitute the first PCF project in Colombia and will help to create institutional capacity on utilizing the CDM.. Technology Transfer. The PCF facilitates climate friendly investments in World Bank borrower countries. JCP will contribute to the transfer of wind technology to the country. 2. Background of the electricity sector Background. Presently, market forces in Colombia strongly favor thermal power over renewable energy, resulting in a trend of increased carbon emissions per generated kWh. A greater number of thermal power projects are likely to be developed in the short term as they are faster to implement and more competitive in terms of capital costs than renewable energy projects. On average, these capital costs are US$450-US$700 per installed kW for natural gas or fuel oil systems, versus $1,000/kW for wind power systems. On the other hand, Colombia is extremely rich in wind resources, with a total potential estimated at about 5,000 MW. A recent study has also confirmed a high degree of complementarity between the hydro and the wind resources (see Annex 11), which if properly developed would improve the resilience and robustness of the power sector, making it less susceptible to impacts from drought or the effects of the Southern Oscillation ("El Ninio"). While there are strong indications pointing to this complementarity, it still needs to be confirmed in the long-run through actual measurements and wind-powered generation. However, there are at the moment, 3 -  no wind based power generating plants installed in Colombia. Use of Carbon finance can contribute to realize the potential of wind power in the country. Generation The total net installed capacity of the Colombian National Interconnected System (SIN) in 2001 was 13.2 GW. Most of this installed capacity is hydro-based (about 66%) making the country highly reliant on hydropower. Figure I summarizes the power mix by source and technology. The thermal generating capacity is 75% gas based, with the balance 25% corresponding to coal and fuel oil fired generation. Since 1980 the Colombian Electricity Supply System has maintained a hydroelectric share in the range 55-75%. Figure I Technology Composition of the Installed Capacity in the Colombian Electricity Sector (2001) Stemn Coal6.39% . r Turbogas 8.76% I ~~~~~~CCG 12.15% 1lydro 66140/o Steam Fuel Oil. 0.660/o Steam Gas/ Fuel 0il 0 45% Source: Unidad de Planeaci6n Minero Energetica, Plan de Expansi6n de Referencia 2001, and www.upme.gov co Hvdro Availability and its Effects in the SupplylDemand Ratio in the power sector. In the period 1990-2001, five dry years (i.e. lower than average utilization capacity) affected the supply of electricity, including the drought of 1992 due to El Niuo phenomenon. This has been a cause of concern and has led efforts to diversify the sources of power, focusing on an expansion of thermal generation capacity. Figure 2 shows the utilization capacity of hydroelectric plants in the system during this period. -4 -  Figure 2 Utilization of Hydroelectric Generation Capacity in Colombia, Period 1990- 2001 0;5 - C 0.5-Avrg1902004 c 04 035 03 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 Source: Data from Unidad de Planeaci6n Minero Energetica (UPME), Intemational Energy Data Transmission and Distribution 2 Transmission. The national transmission network consists of all the lines and sub-stations that operate at voltage levels of 220 kV or above. This is an integrated network in which all regional grids are connected. The network has an equivalent single-circuit length close to 10,000 km. All demand markets are interconnected. The network also includes international interconnection with Ecuador and Venezuela. These international interconnection are just radial connections to supply relatively isolated areas. These do not allow for an integrated dispatch and frequency control, as is usually the case in real system interconnection. Uncertainty regarding electricity prices in Ecuador and Venezuela, and other important issues have prevented expansion plans regarding regional integration in transmission. So far, there are no firm plans for expansion of international lines. Interconexi6n Electrica S.A. (ISA), a public entity, is the largest transmission company, accounting for about 68% of total network ownership. There are 11 other transmission companies three of which are privately owned. Distribution. There are also 34 distribution companies on the country. Out of these, 10 are small municipal companies, and the remaining 24 are regional companies or large municipal companies (there are two integrated utilities: Empresas Publicas de Medellin (EEPPM), which serves Medellin, the second largest city of Colombia, and Empresas de Energia de Cali (ENERCALI), which serves Cali, the third largest city). Each regional operator is responsible for expansion of its own system. -5-  Private Participation in the Colombian Electricity Sector The ownership structure is described in Table 1. In terms of electricity generation, the sector is characterized by a 44% share of public ownership and a 56% share of private ownership. Table I Market Size and Company Participation in the Colombian ESI (2001) Name Total MWs Share % Hydro Gas Coal/Oil PUBLIC COMPANIES Empresas Pubhcas de Medellin (EEPPM) 2595.95 19.71 2125.95 470 ISAGEN SA 1695 12 87 1410 285 Public Companies contnbuting with less than 3% 1537 11 68 719.73 266 552 TOTAL PUBLIC 5828.68 44.27 4255.68 1021 552 PRIVATE COMPANIES EMGESA S.A. (ENDESA) 3036 23 06 2814 222 TEBSA (includes ABB, AES Corporation assets) 1520 11.54 1520 Independent Power Producers (IPPs) 2596 19 72 2441 155 Co-generators 76.1 0.58 9 67.1 152.78 Pnvate Co's contnbuting with less than 1% 110.8 0 84 81.8 29 TOTAL PRIVATE 7338.9 55.73 4424.8 2508.1 558.78 TOTAL 13167.58 100 8680.48 3529.1 1023.8 Sources: Private Participation in Infrastructure Data Base (World Bank 2001), Colombian Energy Planning Unit (UMPE 2002), various companies annual reports. In terms of transmission, about 10% of the National Transmission Network has been transferred to the private sector At present, there are two private transmission companies: Empresa de Energia de Bogota and Distasa. ISA, a government entity is the largest transmission company in the country. Also, large public generators such as EEPPM own transmission lines. According to a recent study on market power (Hagler-Bailly, 2002) the generation activity in Colombia constitutes a moderate oligopoly (i.e. about 70% of the market is served by large agents). Evolution of Private and Public Company Investments Over the last six years, Independent Power Producers (IPPs) have added a total of 2580 MW of thermal power generation. Public utilities on the other hand have installed a total of 1310 MW since the liberalization in 1995 including a 405 MW hydroelectric plant in 2001. -6-  Table 2 Private and Public Investment in the power Sector (MW) period 1995-2001 Type IPPs Public Utilities Hydro __405 Coal 165 150 Gas 2415 755 TOTAL 2580 1310 IPPs however have reduced the rate of investments in Colombia mainly due to: a) an increase over the last two years (2000-2002) in the number of guerrilla attacks to transmission towers (these incidents however are localized and the area where the project is being developed has not been a subject of attacks), and b) a substantial increment in the price of natural gas after 1999. Regulatory uncertainty regarding the capacity charge has also reduced the interest in further investments. Public utilities on the other hand have increased their rate of capacity additions after 1997, investing more in thermal generation than in hydroelectric power plants. In fact, public utilities (i.e ISAGEN, EEPPM) have expressed their intention of increasing the thermal share of their portfolio of power generating units within the next 5 to 10 years. Legal and Regulatory Frameworks a) Legal Framework In 1990, the Colombian government introduced several new policies to spur economic development and promote private enterprise. In 1994, the Colombian government enacted laws that provide the current framework for the electricity sector. The key pieces of legislation include: Law 142 established that the provision of electricity, telecommunications, water, sewage and bottled gas distribution are essential public services that may be provided by both public and private entities. Law 143 sets out the following principles: efficiency, planning, continuity, adaptability, neutrality, solidarity and equity. These principles are to be implemented by the Energy and Gas Regulatory Commission (CREG) and other government bodies. Other laws that apply to the JCP, include: Law 56 of 1981 which establishes the relationship between the municipalities and the respective project sponsors, including provisions on payment of taxes. Law 99 of 1993 which establishes the constitutional mandate for citizen participation on environmental matters, establishing formns and procedures for citizen participation such as prior consultation for indigenous and Black communities. Other applicable and relevant laws regarding the role and rights of indigenous populations are summarized in Annex 15. -7 -  b) Regulatory Framework i) Electricity Market The electricity market in Colombia is formed by regulated and non-regulated segments. The regulated market, which is directly contracted and supplied by distribution companies, is applied to industrial, commercial and residential users with annual demands below 0.5MW. In this market, the tariff structure is established by CREG resolutions. For EEPPM in particular the regulated market represents 73% of its service revenues. In the non-regulated market consumers with power demands above or equal to 0.5 MW can freely negotiate and contract their supply in the wholesale market (i.e. spot and contracts markets) directly or through either commercial entities, distributors or generators. Laws 142 and 143 of 1994 also define the structure and rules associated to the wholesale electricity market in Colombia, which is essentially the information exchange platform for transactions between generators and commercial entities. The wholesale trading of electricity in Colombia may be carried out through supply agreements (i.e. long term contracts) or within the spot market (i.e. short term transactions). Market participants may choose between trading their electricity directly or acting in the market through a trader (i.e. brokers who can represent both suppliers and buyers). In the spot market, suppliers sell their electricity at the hourly prices issued in accordance with market conditions. The hourly-price of electricity at the "market node" (system's load center) is defined as the cost which would be incurred to supply an additional unit to the demand registered at the hour. In other words, this is the highest variable cost declared by the generators which would be in a position to increase their supply, considering both thermal and hydro generators. In the contracts market, parties freely agree on prices, contract duration, the share of transmission costs and other relevant issues. ii) Operation of the Wholesale Market Bilateral Contracts. Energy purchases made by suppliers for regulated users through bilateral contracts are governed by regulations aimed at ensuring contractual competition in this type of transactions. Energy purchases made by suppliers for non-regulated users through bilateral contracts are not regulated and prices and contractual conditions are negotiated freely. Similar conditions apply for purchases between generating agents and between supplying agents. There is no term restriction to bilateral contracts (there is no minimum or maximum required period). Marketing and generation agents decide on the level of activity (presence) they want to have in the "spot" market. There is no restriction on the maximum capacity that a generation or supply agent can commit in bilateral contracts. Transactions in the Pool. Transactions carried out directly in the Pool between generators and suppliers are governed by the following operating rules: (i) the settlement of payments to participants in the Pool is carried out according to the dispositions stipulated by the regulator (CREG); (ii) all the energy contracts that are drawn up between generators and the suppliers have to be registered, including clear procedures to determine, hour by hour, the quantities of energy required under the contract, and the respective price; and (iii) generators bid prices ($/MWh) in the energy Pool (bidding rules are described in Resolution CREG-025 of 1995). -8 -  Electricity Tariffs. The Colombian electricity market has been acquiring experience year by year since 1994 and it is aiming at a complete and transparent market competition in the coming years. The performance of the market, in terms of electricity prices is provided in the Table 3 and Figure 5: Table 3: Electricity Prices 1998-1999 (USD per Kilowatt-hour) Type of consumer 1998 1999 Households 0.068 0.077 Industry 0.085 0.081 Source: Energy Information Administration, www.eia.doe cov Figure 3 Spot and contract Market Monthly Average Price Period July 95 - July 2001 00600 00400 . .. - ' ~~~~~~~- Spo M J'ar' et6-6-i>t|r 0 0300 .' , 00200 ~~~~~~~~~~~~~~~~contracts 00200 -, 00100 -~~~00 o o too -ioli m , Dates USD/Kwh Contracts Source: Unidad de Planeaci6n Minero Energetica (UPME), www.upme gov.co, with annual exchange rates from the Economist Intelligence Unit (EIU). Capacity Payment. The capacity payment is a financial mechanism aimed at reducing the risk of volatility and seasonal fluctuations of prices in the Pool. This represents a portion of the actual value of the expected rationing cost. The generation agents who contribute to the system with firm power, under estimated critical hydrology conditions during the dry season (summer time) receive a capacity payment. This is valued at the unit cost of one kW-installed capacity of the most efficient technology in terms of capital costs. At present, the reference is an open-cycle gas turbine, whose estimated cost is US$ 5.25 per available kW-Month capacity. The capacity payment guarantees a minimum flow of revenues to those generating agents that contribute with firm power to the system. Payments and settlement is done in the Pool, increasing -9-  the Pool kWh price to buyers and transferring payment to generators according to kWh sold. Conditions Applicable to the JCP. As of today the Colombian regulatory framework does not provide any specific incentive for the installation of wind power generation and does not deal directly with this type of facilities. Since renewable energy other than hydropower plays no role in Colombia's electricity supply industry, the construction and operation of a wind park in Guajira and its integration into the wholesale market would set an important precedent. 2. Main sector issues and Government strategy: 2.1 Main Sector Issues Increased reliance on thermal-based generation capacity. After severe droughts, registered during the 1990s (i.e. 1992, 1997)', that caused power shortages with associated forced rationing, the system has encouraged the development of more thermal generation capacity, specifically with the intention of increasing the share of firm capacity and enhancing the system's reliability of supply. The increase in thermal share of the SIN has also been the indirect result of the withdrawal of the public sector in large investments and the reluctance of private generators to enter the hydro electric generation an associated environmental and social requirements. Therefore, future additions to the power mix to attend the projected growth in demand are anticipated to be thermal-based. While this responds to the need for flexibility and robustness of the system, the increase in thermal share contributes to the gradual increase of GHG emissions by the sector and the release of local criteria pollutants (such as NOx and, SOx particulates and volatile hydrocarbons, which have been linked to health of exposed populations). Lack of incentives to sustain a solid reserve margin. As shown in Figure 2, in the period 1993-1996 hydrologic conditions (i.e. wet years) allowed the base-load dispatching of hydroelectric plants with utilization as high as 50% Under these circumstances, thermal power plants were not necessarily dispatched. During dry seasons thermal power plants are then called to fulfill the demand. In highly critical events however, thermal power generators cannot supply 100% of the demand since there are no economic incentives to sustain a solid reserve margin (i.e. as in the majority of liberalized power systems around the world). High losses in the transmission and distribution system. Losses in the national transmission system represent approximately 1.8% of the total demand. Losses in the distribution systems are 18% on average and for the non-interconnected zones they approach 40%. However, in efforts to promote efficiency in distribution, the CREG does not recognize losses above 20%. This limit should decrease to 13% by 2003. Losses in the transmission system are exacerbated by the destruction of towers caused by guerrilla attacks. Lack of definition for treatment of renewable generation capacity. Wind parks are not specifically referred to in the current regulations. Any generation unit with an installed capacity of 20 MW or more is obliged to participate in the spot market (ought to offer the energy in the market) on an equal footing with thermal and hydroelectric plants. If the capacity is less than 20 MW, however, the park qualifies as a "minor plant" (CREG Resolution No. 086 of 1996). A - 10-  "minor plant" with a generating capacity of at least 10 MW has the right to participate in the pool and benefit from pool services under a preferential dispatching option (e.g. spinning reserve). In essence, small plants can access the electricity market by selling all their available output at the wholesale market price ("precio de bolsa"), which includes a "capacity payment" component (as a floor price for the bids), and are exempt from penalties on non-delivery of electricity. If it wind park chooses to bypass the pool, two options might apply: * If the output is sold to a generator, non-regulated user or a trader supplying non-regulated users, the contractual terms (e.g. price) are freely negotiable6 * If the park supplies a trader serving the regulated market, however, the output sells at hourly spot prices (except for the special case that the trader is subject to public regulations). Precise rules for wind generation capacity when it exceeds the 20 MW limit are required to ensure that investments internalize the environmental and strategic benefits of renewable capacity in the country. The project, it is anticipated will avail itself of preferential dispatching. Impacts of Climate Change on the endowment base for generation capacity. Colombia has recently, has completed its first communication to the United Nations Framework Convention to Climate Change (UNFCCC), including an assessment of the anticipated impacts of climate change and its vulnerabilities to these impacts. The communication concludes, in the context of expected changes with potential impact for the energy sector, that a significant fraction of the territory will be affected by variations in the hydrological system and rainfall pattems. In particular, there is a likelihood of an increase in the rate of decertification in high mountain ecosystems (source of many of the head waters of the largest rivers of the nation). The process will be caused by reductions in rainfall patterns, higher rates of evapo-transpiration and the consequent drying of these ecosystems. The impact over the overall hydro generation capacity has yet to be estimated but is likely to result in a reduction in the net flow of some rivers fed by headwaters located in the Andes, in particular over the Western range of the Andes. The character of the Paramo ecosystem (high mountain range, typically over 3500 meters altitude) is also likely to be affected and the communication forecasts a 75-85% in the reduction of the area of Paramo. This change is of grave significance because of the role the Paramo plays in water regulation and storage in the Andes. 2.2 Government Strategy National Development Plan The National Development Plan of Colombia (PND), developed under the previous administration, proposes two strategies for the development of the national energy infrastructure: a) attract foreign direct investment and increase private participation, and b) strengthen the institutional structure for the planning, control and design of sectorial regulatory frameworks. In particular, the PND emphasizes the importance of promoting sustainable development and internalizing key environmental and social variables into the design and implementation of sector public policies. As part of the national environmental policy, the PND promotes two priority - 11 -  programs: 1) "Clean Production" to promote the diffusion of new cleaner technologies and 2) "Green Markets" to enhance participation in markets that promote sustainable development (e.g. market based instruments, carbon market). With respect to international treaties, the PND establishes that the Colombian environmental action is aimed at consolidating alliances with other nations to promote sustainable development through cost-effective actions at the municipal, sub-national and regional levels. National Energv Plan The National Energy Plan (PEN), was drafted in 1994 and updated in 1997. For the particular case of the electricity sector, the national strategy as stated by the PEN has focused on the following actions: * Strengthen the development of rural electrification * Reconcile energy policies with national environmental priorities * Strengthen scientific research and development activities in the energy field * Apply incentives to attract private investment * Diversify sources of energy production * Consolidate and develop the 500 kV national transmission network * Reduce transmission restrictions and losses * Improve the mechanisms and actions of the wholesale electricity market * Develop flexible contracting mechanisms with regards to coal and natural gas supply * Develop "futures market" and design new financing instruments for wholesale market activities * Restructure institutional and financial structure of distribution companies National Electricity Sector Expansion Plan The Colombian Energy and Mining Planning Unit (UPME) is in charge of designing the National Electricity Sector Expansion Plan which is a reference or indicative plan based on the criteria established in both the PND and the PEN. The national strategic elements related to the electricity sector are summarized below: * Attend the electricity demand with a reliability higher than 95% in the long term * Enhance the availability of firm capacity through the addition of thermal based capacity * Improve system's efficiency through the installation of clean efficient technology * Diversify the sources of electricity generation in the system Government's Policy on Climate Change. Colombia is a party to the Framework Convention on Climate Change and has also signed and ratified the Kyoto Protocol (Law 629 enacted November 30, 2001). Colombia has been a leading participant in the discussions on the provisions and regulations of the Clean Development Mechanism (CDM) in the context of the international negotiations under the auspices of the UNFCCC and has developed a detailed negotiations agenda on items leading to the definition of the rules for the CDM. - 12-  As part of these activities, the Government has made a national assessment for the optimal use of the CDM with Bank support (which was published in 2000). This assessment was undertaken by the Ministry of Environment in collaboration with other agencies in the energy, agriculture, industrial and forestry sectors. This study evaluated the country's potential for participation in CDM and the international carbon market, identified restrictions that could limit the development of CDM projects, and developed strategic lines to overcome these restrictions and maximize benefits for the country. Under the assessment, the Government has identified a portfolio of possible projects for submission to the CDM, which includes the proposed JCP. The Government has likewise taken steps leading to the further development of institutional capacity through among other actions: a) the organization of an inter-institutional committee under the aegis of the Vice-president's office to ensure full coordination on climate change issues; and b) the set up of a climate change, office. Currently and on the basis of the studies sponsored as part of the National Strategic Studies (NSS), other inputs and the development of institutional capacity, the Government is in the process of defining the main trusts of a National Climate Change Plan' that considers the following goals: * Strengthen the capacity to adapt to the anticipated impacts from climate change; * Promote of reduction of emissions and increase in the sequestration capacity for greenhouse gases; * Minimize the adverse impacts on the nation's exports of fossil fuels; * Promote scientific capacity and the availability of information on the impacts of climate change on the nation's economy and ecosystems; * Support awareness and dissemination of information, and * Promote financial mechanisms for the adoption and funding of response actions. The plan, which is already drafted identifies and outlines the different benefits that could be gained through the CDM (Colombia as non-annex I party to the KP cannot participate in the other flexible mechanisms) and explicitly acknowledges the role that Carbon finance could play in promoting the goals of sustainable development in the country. The program proposed will be part of the goals, of the new administration, on climate change. 3. Sector issues to be addressed by the project and strategic choices: The efficient use of the endowment for alternative renewable energy sources could complement the hydro potential and constitute an alternative option to the gradual increase of GHG emissions in the electricity sector The proposed project will provide necessary experience and would also test the regulatory and institutional system for the development of renewable energy sources, other than hydro in Colombia. The wind option has not been explored in the country and this project will constitute a first for the nation. The experience with Jepirachi could open the way to the further expansion of the wind energy option. - 13-  Promotion of wind energy also addresses the issue of increased vulnerability of the hydro-capacity as a result of anticipated impacts of climate change. The assessment of other renewable energy options will contribute to the identification of options to address the anticipated impacts of climate change on rainfall patterns. Furthermore, the contribution of wind energy offers complementarity to the hydrological regime9 (periods of strong winds occur during driest months), strengthening the robustness of the power generation system. The experience with the JCP will contribute to the definition of options to address gaps in the regulatory system for renewable energy sources. The preparation of the project has already contributed to a review of the regulation and the identification of options to address these gaps. The project will illustrate the potential of the country to participate in the Kyoto Protocol in terms of independent baseline determination, third party validation, verification and certification of the ERs. The JCP is expected to result in significant demonstration effects at the national and regional levels, not only in terms of technology but also in relation to carbon market transactions and the process of validating CDM projects. The example being set by the project will be used by the new Climate Change Office for purposes of dissemination of information and guidelines on how to prepare CDM projects. C. Project Description Summary 1. Project components (see Annex 2 for a detailed description and Annex 3 for a detailed cost breakdown): The project will support the development of a wind generation facility that is expected to generate about 68 GWh/year during the next 21 years, in the process displacing at least 1.168 mtCO2e. The project includes a participatory program of institutional and community strengthening (social program). The social program is designed to benefit the indigenous population in the area of the project, effectively linking the global aspects with local development issues. a) Development of Wind Energy Facility. The wind energy facility will have a nominal power capacity of 19.5 MW to be supplied by a series of aerogenerators to be linked to the national interconnected grid. The number and characteristics of the aerogenerators will depend on a bidding process to be finalized at the end of November 2002. The facility will deliver its energy under a preferential dispatching scheme according to what it is established by CREG Resolution No.086 (dispatching options for power generation plants with installed capacities between 10 and 20 MW). A grid connection to the site with a length of 0.7 km will also be installed. The facility is expected to start operations at the end of September 2003. The PCF will purchase the emission reductions caused by the operation of the JCP. b) Social Program. The social program will include activities defined in consultation with the local Wayuiu community and will be put in place over the course of the first two years of construction and operation of the project. The program will not be restricted to the activities already outlined but will also establish the basis and provide the support for the development of - 14-  additional community development activities to be implemented during the duration of the project, on a sustainable basis, focusing in the areas of health, education, economic and institutional development (see table 4). The PCF will pay a premium on the value of the emission reductions based on the outputs of the social program. Table 4: Social Program Activity Outputs Impact Water Desalination Design and construction of a water desalinization unit The unit Substantial increase in will be located in the neighborhood of the wind facility Facility local access to potable will be powered by wind-energy water Volume Treated: 2 to 4 cubic meters per hour Water Quality: Potable Direct impact on health of local population Water Storage Construction of two water storage facilities (Juagueys) and Substantial increase in rehabilitation of two existing facilities access to water School rehabilitation Expanded school facilities. Provision of equipment and refurbishing Direct impact on access of school dorms to education Health Center Provision of equipment and facilities to the health center. Direct impact on access rehabilitation Equipment will include solar-powered refngeration. to health services Rehabilitation of Fencing and up-keeping of graveyard Religious and cultural graveyard riority Community To be defined as part of additional discussions with the Wayuiu Sustainability of social strengthening during the first two years of operation of the project and which will program. be implemented using emission reduction revenues. Additional community To be defined as part of additional discussions with the Wayuu Sustainability of social development projects during the first two years of operation of the project and which will program and be implemented using emission reduction revenues. improvement of standards of living Table 5: Implementation Schedule Actvity J F M A M J J A S O N D I F M A M j J A S a iMrld energyfC taiC_ rly :' l En..ror.m inlal pern,! , ._ | a _ _ 1_' FeaibI.rcy ;lud'e: _ .