Ghana - Second Power Distribution Project

RESTRICTED rILE COPY Report No. P-95 This report is for official use only by the Bank Group and specifically authorized organizations or persons. It may not be published, quoted or cited without Bank Group authorization. The Bank Group does not accept responsibility for the accuracy or completeness of the report. INTERNATIONAL DEVELOPMENT ASSOCIATION REPORT AND RECOMMENDATION OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED CREDIT TO THE REPUBLIC OF GHANA FOR A SECOND POWER DISTRIBUTION PROJECT June 3, 1971  IDTERUATIONAL DEVELOF1MEINT ASSOCIATION REPORT AND RECOMENDATION OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED CREDIT TO THE REPUBLIC OF GHANA FOR SECOND POWER DISTRIBUTION PROJECT 1. I submit the following report and recommendation on a proposed develolment credit to the Republic of Ghana for the equivalent of US$7.1 million on standard IDA terms. PART I - HISTORICAL 2. Ghana set the pace for tropical African countries in the drive for independence after World WIar II. At the time of independence in 1957, Ghana had US$480 million of foreign exchange reserves, no external debt and relatively high per capita income of US$200. In 1966, after a period of serious financial mismanagement, Ghana's net reserves -were less than US$5 million while its medium and long-term debt amounted to US$500 million. The effect of the policies of the early 1960's, particularly those concerning public investment and cocoa production, has been to keep the economy in virtual stagnation through the last decade. The real growth of GDP was about 2.7 percent per annum, about the same as population growth. In these circumstances, after the initial US$47 million Bank loan in 1962 for the Volta hydroelectric power project, there were no further Bank Group operations for over six years. 3. After budgetary and balance of payments crises in 1965, a change came in February 1966 when a military "caretaker" government took office and instituted sweeping reforms. With the aid of the INF the currenoy was successfully stabilized and a group was formed under IMF leadership to work out a debt reorganization. At the same time, the Bank Group helped to identify and prepare projects. A US$10 million credit in June 1963 for power distribution marked the renewal of Bank Group lending. Between June 1968 and September 1969, four loan and credit operations totalling US$12.3 million were approved in power, transportation, water supply and fisheries. In June 1970, an IDA credit of Us$8.5 million for cocoa development was made. The proposed US$7.1 million credit for a second power distribution project would be the only lending operation in the current fiscal year since a road main- tenance and rehabilitation project has been postponed because of delays in arranging bilaterally-financed feasibility studies.  4. 14With the proposed credit, in the more than three years since Bank Group activi-ty resumed in Ghana, the total of lending would amount to US$37.9 million. (A tabulation of loans and credits to Ghana is given in Annex I.) This represents a relatively modest volume of Bank Group operations. During this period, the major focus in Ghana was on the stabilization and rehabilitation of the economy involving a sharp curtailment of development expenditures and considerable unemployment. Ghana's balance of paymients requirements were met by debt rescheduling, IMF stand-by assistance and general import financing loans from bilateral sources. Howgever, institutional problems within the new civilian Government have hindered both the preparation of a medium term development program and the establishment of efficient procedures for identifying and preparing priority projects for external financing. 5. The situation has been changing over the past year. The Government had made considerable progress in improving development planning. It also has now available the results of sector studies in agriculture, transportation, telecommunications and water supply as well as the 1970 Bank economic mission's recommendations on development objectives and investment priorities. Individual projects are now being prepared on the basis of those evaluations. As a result, the pipeline is filling but it will be 1972 before the results of this preparatory work become evident. In future, Bank lending will no longer concentrate on power. Proposals are expected to be presented to the Executive Directors in FY 1972 for education, telecommunications, water supply and sugar. Over the longer term, a palm oil project is being considered and other projects are expected in cocoa and fisheries. 6. In addition to lending , the Bank has been active in arranging for multilateral aid coordination. The aid group sponsored by the IIF has been converted into a Consultative Group chaired by the UK which held meetings in July and December 1970. The Bank participated in the meetings and was active in preparing documentation for them. In addition, the Bank is assisting with the preparatory work for the next round of debt discussions expected to be held during FY 1972. Given these develop- ments, increased Bank Group assistance may be envisaged in lending, project preparation and economic policy collaboration, including aid coordination. To facilitate these activities the Bank has recently agreed to station a representative in Ghana. 7. Recent supervision missions have found the execution of pre- viously approved Bank Group projects generally satisfactory, although there have been some delays. The most recent instance has been the fisheries credit, where problems arose in determining the price of the fishing vessels. The cocoa project; has encountered no difficulties so far. Disbursements have been slower than scheduled in the second Volta project due to delays in design, tendering and award of civil contracts, in addition to increased maintenance required as a result of exceptional weather. Contract delays have also impeded implementation of the Accra- Tema water and sewerage project.  8. The first power distribution project (1968) should be completed shortly. Construction was, on average, about 9-12 months behind schedule, but all facilities are now scheduled to be in operation in June 1971. Civil works have been slow, delaying the installation of equipment. The quality of wJork is satisfactory and costs have been held within the estimate. The balance of disbursements of the credit represents mainly contractors' retention payments. PART II - THE ECONOMY 9. A report on "The Current Economic Position and Prospects of Ghana (AW-18a)" was distributed to the Executive Directors on November 23, 1970 (R70-222). A Bank economic mission was in Ghana in April 1971. Its report is now in. the course of preparation. A Basic Data Sheet is attached (Annex II). 10. Recent Economic Developments. During the 1960's Ghana's growth has been moderate, about 2.7 percent compared with a population growth rate also of about 2.7 percent. The economy has suffered from excessive orientation toward import substitution and uneconomic industrialization and from policies which tended to discourage production of cocoa, the leading export. There was a rapid increase in public investments during 1961-66, frequently with a low direct productive inpact. The result was a heavy external debt, much of it short term. In 1966-68, the Governrent was able to stabilize and retrench in part by severely reducing development expenditures. Since then, it has continued cautious budgetary and stable monetary policies. 11. The new civilian Government has been determined to accelerate development, while overcoming the combined effects of sizeable unemploy- ment, substantial debt service requirements and limited cocoa receipts. This is in contrast to the policies of 1967-69 when in order to stabilize the economy after the rapid inflation of 1963-65 (when the average annual price increase. was about 20 percent) public development expenditure was reduced in each year to less than half its 1966 level. Growth during 1966-68 was therefore severely constrained, GDP showing a one percent average annual growth. A more systematic development effort was under- taken with the introduction of a Two-Year Devel]oprment Plan covering the period mid-1968 to mid-1 970. 12. In 1969 and 1970, real GDP increased by 4-4.5 percent a year. Gross capital formation increased by 17 percent and 11 percent, having fallen continuously since 1964. However, with persistent rises in both public and private consumtpion, the volume of savings continued to fall both absolutely and as a percentage of GDP. The 1970/71 budget aimed at restricting the growth of recurrent expenditure to about 4 percent, instead of the 7-8 percent increase which has prevailed in recent years. The first half-year figures reflect the Government's attempts to achieve this objective.  13. Despite the large-scale public investment and intensive industrializattion in the sixties, industrial output constitutes only about 10 percent of total production in the economy and the structure of industrial production is such that finns accounting for half of the total output continue to import more than 90 percent of their material requirements. Any thrust to industrialize, therefore, automatically enlarges the imoort bill and puts pressure on the balance of payments. In addition, Ghana's existing mineral resources, particularly manganese, diamond, gold, etc. seem to have declined in importance. Search for and exploration of new natural resources such as bauxite, oil and fisheries must be pursued vigorously. 14. Current Economic Policy. The Government recognizes that failure to achieve a sustaired rate of growth was due to reduced investment, low savings and high consumption as well as the almost complete stagnation of agriculture and mining and the structural problems of high-cost industry. It also recognizes the effects of sluggish export growth and rapid import increases in the recent past. To resolve these basic problems, the Government has begun preparation of a medium-tern development plan. The intention is to produce a guideline statement setting out the Plan's objectives and strategy by June 1971. 15. Public investment has already been increased, particularly in areas which the Bank believes to be of high priority, and the Government is placing greater emphasis cn maintenance and rehabilitation, rural development, agricultural production and on constructive solutions to the employment problem, while exercising restraint in infrastructure investment. The Government's basic strategy is to accelerate economic growth while at the same time spreading the benefits of development by reducing the differences in living standards and economic opportunities between different regions and cities, improving education and generally increasing employment opportunities. This approach represents a marked change from previous policies. 16. Favorable cocoa prices last year helped the Government pursue its immediate objectives. Over the next tlree to five years, however, and most likely for the rest of the decade, economic growJth will be constrained by the limited prospects for exports and heavy dependence on imports. The expansion of cocoa exports is likely to be restricted by the slow growth in world demand. Other agricultural exports are also likely to grow slowly since it takes time to establish new crops. Industrial production is expected to have only minor trade effects. 17. Balance of PaVments and Creditworthiness. Ghana's balance of payments remains a major problem. It seems likely that Ghana will be short of foreign exchange during the next few years. The extent of the shortage will depend on the rate at which the economy expands and particularly, on the effectivenuess of policies regarding export promotion, import substitution and encouragement of private and public savings, and the productivity of investment in general.  - 5 - 18. The year 1970 was a good one for eocoa exports. The Government took advantage of increased export earnings to introduce measures for import liberalization. It removed about 50 percent of imports from licensing requirements and imposed import surcharges ranging from 5 to 125 percent. This policy will make import prices reflect more realistic international costs, encourage more economic subsvitution, and will help effect the structural changes in imports needed to make more economic use of scarce foreign exchange. On the export side, the Government introduced measures to simplify tax incentives and added a scheme providing a subsidy to exporteres of 25 percent of the gross value of all non-traditional exports. 19. On account of the substantial decline in cocoa export receipts expected this year and the recent spurt in imports, as well as heavy debt service payments, the reserve position ($35 million as of Niarch 31, 1971 excluding IMlF and bilateral accounts) remains weak. Ghana is also faced with the problem of restoring her short-term external financing position. The Government, therefore, has to try to manage the current balance of payments situation in such a way that it does not unduly jeopardize its medium and longer term development objectives. 20. Ghana will have to exercise great caution in increasing its external debt, even though a substantial capital inflow is essential to any sustained develoDment effort as envisaged by the Government. The country should continue to receive most of its capital inflows on concessionary terms. Any hardening of terms will tend to increase the shortage of foreign exchange and thereby retard growth and make balance of payments management more difficult. For these reasons, as waell as the weakness of Ghana's reserve position and heavy dependence on cocoa, Bank Group lending to Ghana will have to be on IDA terms. In addition, even with major efforts to increase public savings, it is unlilcely that Ghana -will be able to finance a large share of development ex:penditures for some time. Bank Group financing of some local expenditures, particularly in agriculture and education, therefore appears justified. PART III - THE PROJECT 21. In early 1970, the Government of Ghana, on behalf of the Electricity Coriporation of Ghana, a public auTonomous corporation, requested an IDA credit to cover the foreign exchange cost of ECG's distribution program. The proposal represented an additon to the 1968 project (118-GH), which assisted in the financing of ECG's expenditures for rehabilitation and expansion of power distribution until 1970. As a result of detailed review of further expansion requirements, an appraisal mission reported that the proposed project covering 1971-73 iwould be suitable for a developxnent credit of US$7.1 million. 22. Negotiations were held in Washington in September 1970. The Ghana delegation was headed by the Honorable Kofi-Sackey, Parliamentary Secretary, Ministry of Works, and included Mr. E.Q.H. Acquah, Managing  Director of ECG. A Bank supervision mission which visited Ghana in February 1971 reported that the findings of the appraisal mission were still valid. The reasons for delay in presenting the project to the Executive Directors relate to the difficulties of obtaining agreement on the means of reducing arrears on accounts due largely from state corporations and local and regional authorities, as well as on preventing their recurrence (see paragraph 32 below). 23. The Electric Power Sector. The project represents a contin- uation of the Bank Group's early association with the development of Ghana's power resources. Two organizations, the Volta River Authority (VRA) and ECG, the proposed beneficiary, are charged with responsibility for providing public supplies of power in Ghana. VRA is responsible for bulk supplies to Volta Aluminium Company's (Valco) smelter at Tema, ECG, the gold and diamond mines in the southern and south-western part of the country and Akosombo township. ECG is responsible for the distribution of power throughout Ghana and the generation of public power supply in areas that cannot be economically connected to the VIRA system. ECG currently serves four principal cities and 26 smaller centers, of which 16 have locally generated diesel power. Sales by ECG increased at an annual rate of 18 percent during the last five years and are estimated to increase 11.5 percent annually during the next ten years. VRA will continue to meet 97 percent of the power demands of ECG. 24. The creation of VRA in 1961 was justified primarily because the Electricity Division of the PNinistry of Works was not adequately equipped to undertake the important Volta hydroelectric power project. ECG, established in 1967 as the successor of the Electricity Division, needed important organizational changes to increase its efficiency and these should be completed by 1972. The need for continuing two separate organizations is still under consideration by the Government of Ghana. A merger could have appreciable advantages through combined service departments (personnel, accounting, transportation and stores), and elimination of duplication of staff at adjoining substations. During negotiations, assurances were obtained from Government that a study would be completed by June 1972 of the benefits and economies from collabora- tion in the power sector. The study now agreed on differs from that described in the appraisal report insofar as it will not consider exclusively a merger but various possibilities for collaboration. If the Government decides to implement the study's findings, it will, in consultation with the Bank Group, prepare an appropriate plan. Future Bank Group lending in this sector will be related to the findings of the study. 25. Project Components. The proposed project would cover: a) expansion of distribution in existing areas of supply; b) provision of supplies to new areas not previously served; c) improvement of existing facilities;  d) substitution of hydro-power for diesel power; and e) foreign costs of engineering management assistance and training services. The expansion program would meet increased power demands, especially for industrial use. During 1962-68, gross manufacturing output of CGhanaian factories has trebled from US$70 million to US$215 million, and substan- tial growth is likely to continue. The proposed project represents the least cost means of meeting the increased demand for power. 26. The estimated total cost of the proposed project for 1971-73 is about US$14.5 million. Of this, the local cost of US$4.4 million equivalent would be met by the Electricity Corporation of Ghana (Annex III). Of the US$10.1 million foreign exchange cost, US$7.1 raillion would be firanced by the proposed IDA credit, US$2 million by tied and untied parallel financing by the Federal Republic of Germany (Kreditanta31lt fur NTiederaufbau (KfW) and US$0.2 million by proceeds from a United Kingdom (UK) loan. IMaterials already available in Ghana would account for the remaining US$0.8 million. 27. Procurement. Since the finalisation of the appraisal report, procurement for 90 percent of the foreign exchange component of the project has already been carried out on the baels of international coirpetitive bidding in accordance with Bank Group Guidelines. The exceptions are: (a) procurement in the Federal R.epublic of Germany to be financed by KfW (NO790,000 or US$775,0oo equiivalent) because of the need for matching equipment for part of the Accra system previously constructed with German equipment financed by KfW; and (b) procurement in the UK of accounting machines to be financed out of the proceeds of a UK commodity loan to the Government (jN,200,000 or US$195,000 equivalent) for whi_h ECG would repay the Government in local currency on demand. The balance of Nil,210,000 remaining from the KfW loan of N02,000,000 would be available on an untied basis. 28. Tenders were issued shortly after the negotiations with IDA in September 19700 To enable ECG to keep within the valid:Lty period of the bid prices, the Association in March 1971 approved the aw-ard of contracts for nearly all the equipment proposed for IDA financing. If such a procedure had not been adopted, ECG would have been faced with a price increase of at least 10 percent, or US-$1.0 million. The initial downpayments of approximately US$800,000 required to retain those contracts have now been made, it is proposed that these amounts be financed unider the credit.  - 8 - 29. On the basis of contract awards, 20 percent would be procured from the Federal Rnepublic of Germany; 14 percent from the U.K.; 10 per- cent from Italy; 11 percent from Belgium: 24 percent from Yugoslavia; 9 percent from Sweden; 7 percent from Ghana; and the balance of 5 percent from Switzerland, Austria and India. For items purchased abroad, dis- bursements would be based on the c.i.f. costs of equipment and materials and on the foreign exchange cost component of erection and services as specified in the contracts. One local supplier may secure orders based on a 15 percent margin of preference in which case only the foreign ex- change component of the order would be financed from the credit. In the case of foreign engineering, management and training staff, disbursements would be based on the foreign exchange component of the services as speci- fied in the contracts. 30. Consultants. ECG will continue to retain consultants to pre- pare specifications, tender documents, review tenders, supervise instal- lation and assist with commissioning. ECG would utilize local consult- ants for design of civil structures. The project is expected to be com- pleted by the end of 1973. 31. Financial Position of ECG. ECG is in a strong financial posi- tion and if cash availability were the only consideration, would be able to meet the cost of the project from its own resources. It is Ghana's very difficult foreign exchange position (see paras 19 and 20 above) which justifies external assistance to meet the foreign costs of the project. For this reason, it has been agreed that the proceeds of the credit be relent to ECG by the Government of Ghana for a relatively short period of seven years, including a grace period of two years, at 7-1/4 percent interest. Moreover, it is expected that the CWJ loan will be relent to ECG for 7 years instead of the 10 years originally scheduled. EGG has also informed the Association that it intends to declare appro- priate annual dividends from its earnings starting in 1970 after making adequate provisions for working capital, future expansion, replenishment of assets and amortization of debts. During negotiations, it was agreed with the Government and ECG that EGG's tariffs will be adjusted as neces- sary to produce an annual return of at least 8 percent. 32. Unsettled accounts receivable, especially from government and state corporations, have been one of the main financial problems of ECG. Resolution of this problem was the key issue which delayed ratification of the draft Development Credit Agreement by some six months. The Government fully accepts the principle that amounts owed to EGG for power consumed by ministries and departments should be settled, and has directed the Bank of Ghana to pay these outstanding accounts. In addition, the M{inistry of Finance, which has been very concerned about intragovernmental indebtedness, indicated its intention on April 1, 1971, to deduct arrears of ministries and departments from funds appropriated to them. With re- gard to the regional and local authorities and state corporations - the point on which most difficulties were experienced - the Government has now agreed to ensure that satisfactory arrangements are initiated to effect the prompt payment of any such arrears which exceed 90 days. WIhile the Government will not itself accept responsibility for such arrears, it has agreed to collaborate with ECG to devise appropriate solutions for any  particularly difficult cases. Adoption of specific provisions to implement the understanding with regard to the regional and local authorities and state corporations is a condition of effectiveness. The passages of the appraisal report dealing with the arrears question are superseded by the new proposals. 33. ECG's debt equity ratios, debt service coverage and overall future financial position are satisfactory and are expected to continue to remain so. There has been no adverse change in that situation since appraisal. As agreed, audited 1970 financial statements are to be provided in July 1971. The sound financial position of ECG has been attained in spite of weaknesses in management. Although there has been some improve- ment, especially in accounting during recent years, there are a number of measures which have yet to be taken to strengthen management. These include recruitment of an adequate number of senior staff; elimination of redundant staff; inventory control; procedures for improvement of accounts receivable; and salary revision. Necessary assurances were obtained from ECG during negotiations that they wjould take adequate action on these matters within an agreed time schedule. 34. The Government has announced its intention to carry out a large rural electrification program in order to imDrove living conditions of a large part of Ghana's population. Some 53 urban centers in r.rala.:eeas have been proposed for electrification. Sixteen have been given priority and eight, requiring an investment of about Nl1.2 million, have been selected for early construction. Since these eight ce1ters would operate at a loss (estimated at N%h74,000/annum), agreement was reached during negotiations that for these and any future sub-economic developments the Government will require E1M to undertake such work only if ECG's current operations and construction elsewhere are not adversely affected and re- lieve ECG of the financial responsibility for establisring and operating such centers by appointing ECG as its agent and providing any fund3 needed. for their establishment and operation. 35. A credit and project sumnary, including a map, is at Annex III. PART IV - LEGAL INSTRUIIENTS AND AUTHORITY 36. The draft Development Credit Agreement between the Republic of Ghana and the Association, the Recommendations of the Committee pro- vided for in Article V, Section 1 (d) of the Articles of Agreement of the Association, and the text of a Resolution approving the proposed development credit are being distributed to the Executive Directors separately. Assurance of the provision of the KITU loaxi and ar-rangements for its relending, as well as the consideration regarding arrears re- ferred to in para 32, would be conditions of effectiveness of the credit.  - 10 - The draft Development Credit Agreement and Subsidiary Loan Agreement follow the pattern of agreements for similar power projects. 37. I an satisfied that the proposed development credit would com- ply with the Articles of Agreement of the Association. PART V - RECOMMEE'DATION 38. I recommend that the Executive Directors approve the proposed credit. Robert S. McNamara President Attachments June 2, 1971 Washington, D.C.  ANNEX I Summary Statement of Bank Loans and IDA Credits to Ghana as of April 30, 1971 Loan or (Amount in US$ million) Credit No. Year Borrower Purpose Bank IDA Undisbursed 310-GH 1962 VRA Power 07.0 J:,'8 -GH 1968 Republic of Power Ghana. Distribution 10.0 0. 618-GH 1969 VRP Power Expansion 6.o 5.3 S-7-GH 1969 Republic of Highwa.y Engi- Ghana. neering l.v 0.2 -160-GH 1969 Republic of Water Supply Ghana and Sewerage 3.5 3.lI '.o3-GH 1969 Republic of Fisheries 1.3 1.3 Ghana. 205-GH 1970 Republic of Cocoa reha.bi- Ghana litation _,5 8.5 Tota.l (less cancellations) 53.0 24.8 of wshich has been repa.ld to Bank and others 5.i Total nou: outstanding I17.9 Amount sold: 0.2 of which has been repaid 0.1 0.1 Total now held by Bank and IDA L7.8 2L.8 Total undisbursed 5.3 13.8 19.1  ANNEX II BASIC DATA Area: 92,100 square miles Population: 8.5 million (I1arch 1970 census) Rate of grouth: 2.6 - 3.0 percent Density: 93 per square mile Political Status: Independent: March 6, 1957 Per Capita GDP: 290 (US$) Gross Domestic Product (U.S.$mil.) 1965 1966 1967 1968 1969 19'70 Current market prices: 1576 1758 17L3 2027 2289 2524 Constant (1960) prices: 1090 1091 1111 1126 1175 1224 Rate of growth in current market prices 1965 - 1970: 9.7% Rate of grouth in prices 1965 - 1970: 2.1,' Industrial Production Index 1965 1966 1967 1968 1969 (1962 = 100) 12 ) 3 147 167 178 M,cney, Crecit & Prices (kj% mil.) End of Period 1966 1967 1968 1,969 1970 Iloney Supply: 247.7 240.7 256.4 289.4 305.4 Quasi-Money: 67.1 78.1 93.2 98.8 121.2 1966 1967 1960 1969 1970 Domestic Credit (N