Uruguay - Third Livestock Development Project

RESTRICTED lKl Report No. PA-88a This report was prepared for use within the Bank and its affiliated organizations. They do not accept responsibility for its accuracy or completeness. The report may not be published nor may it be quoted as representing their views. INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT INTERNATIONAL DEVELOPMENT ASSOCIATION THIRD LIVESTOCK DEVELOPMENT PROJECT (SUPPLEMENTARY) URUGUAY May 21, 1971 Agriculture Projects Department  GURIMY - EQUIVALENTS us$1 I Uruguay Peso-250.- Uruguay Peso 1 = US$ 0.004 Uruguay Peso 1,000,000 = US$ 4,000 WEIGHTS AND MFA.SURt Metric System 1 kilogram (kg) = 2.20 pounds 1,000 kg 1 metric ton = 0.98 long ton 1 meter (m) = 1.09 yards 1 kilometer (km) 2 = 0.62 miles 1 hectare (ha) 2 = 10,000 m2 = 2.47 acres ,,a!e ]d .pineter ,(1cm - = 100haqT 0.39 0 sc-uare, mile 1 liter(j) ~ ~~~~~~~ - 0.6 ga11Io~i ABBREVIATIONS BOR - Bank of the Republic EFSCA - Workers Packing Plant Cooperative FUND - Livestock Fund in Central Bank PLAN - Comision Honoraria del Plan Agropecuario, an agency of the Ministry of Agriculture and Livestock. FISCAL YEAR January 1 to December 31  URUGUAY THIRD LIVESTOCK DEVELOPMENT PROJECT (SUPPLEMENTARY) I'ABLE OF CONTENTS Page No. SUMMARY AND CONCLUSIONS ...................... i-ii I. INTRODUCTION ............................................ 1 II. PERFORMANCE UNDER LOAN 698-UR ............ . 1 A. Project Progress. 3 B. Organization and Management. 3 C. Impact of the Loan ........................, 5 III. THE TIIRD LIVESTOCK DEVELOPMENT PROJECT (SUPPLEMENTARY).. 7 A. The Project ....................., 7 B. Cost Estimates ., 7 C. Procurement ........................................ 11 D. Disbursements .11 E. Lending Operations .11 IV. RECOMI4ENDATIONS .12 ANNEXES 1. Development of the Livestock Industry 2. Loan Progress Data Tables: 1 - Bank of Republic Loan Disbursements under Plan Agropecuario Program 2 - Project Ranch Size Distribution 3 - Estimated Schedule of Disbursements 4 - Estimated 1971 PLAN Agropecuario Lending Program This appraisal report was prepared by Messrs. A. Schumacher ana R. kanan.  -2- ANNEXES 3. Development of a Typical Rauch under Loan 698-UR Tables: I - On-Ranch Investment Cost Projections 2 - Beef Cattle Herd Development Projections 3 - Sheep Flock Development Projections 4 - Wool Sales Projections 5 - Sales Projections 6 - Operating Costs Projections 7 - Financial Projections 8 - Financial Rate of Return Calculations WAPS 1. General Location of Main Ranch Types 2. Location of Plants Slaughtering For Export  URUGUAY THIRD LIVESTOCK DEV'ELOPMENT PROJECT (SUPPLEMENTARY) SUMARY AND CONCLUSIONS i. In June 1970, the IBRD made a loan (698-UR) of US$6.3 million to Uruguay for a Third Livestock Development Project. The loan was intended to meet the estimated foreign exchange costs of the national livestock develop- ment program for a period of approximately one calendar year (1971). However, rancher demand for credit under the program has exceeded expectations with the result that ranch development categories of Loan 698-UR are estimated to be fully committed by May 31, 1971. The borrower has, therefore, requested a supplementary loan of US$4.0 million to help carry on the program during the present year pending appraisal of a longer-term Fourth Livestock Development Project. ii. Since June 1969, the IBRD and the Government of Uruguay have pursued a dialogue on livestock sector policy improvements and on the reorganization of the Project on-lending arrangements. During this period, the Government took a series of difficult policy decisions, such as encouraging private meat packing plants to modernize, closing inefficient large old public packing plants, improving the structure and effectiveness of the meat inspection and hygiene control services, widening the banking base for channelling develop- ment credit to the livestock sector and restoring ranchers' eroded investment incentives. These measures were supported by a rise in export prices and brought forth a large demand for credit in 1971. iii. The results of this sector performance have been impressive. For example, meat exports in 1970 reached 153,000 m ton, worth a record US$88 million compared to 69,000 m ton valued at US$27.4 million exported in 1961, the year IBRD lending started to this sector. Meat processors in 1969 and 1970 invested some US$8 million in modernizing 15 plants. Since the livestock sector contributes over 80% of Uruguay's exports and 25% to GDP, maintenance of sound sector policies and provision of adequate investment incentives should contribute greatly to continued real growth in the economy. iv. The proposed IBRD loan would be used entirely for ranch develop- ment. No additional funds for technical services are required at this stage of the program. The financial rate of return on investments made by parti- cipating ranchers is estimated to be between 25% and 30%, depending on the type of ranch. These financial returns have stimulated ranchers to increase their demands for development loans, which are indexed to cover possible future inflation. v. International competitive bidding would be used for the bulk pro- curement of pasture seeds and rock phosphate. Normal commercial channels would be used for the purchase of other inputs such as fencing and water point materials. This was the procurement procedure followed under Loan 698-UR.  - ii - vi. The proposed loan would be for 12 years, including a four-year grace period. On the assumption that the IBRD interest rate wQuld probably be 7.25% instead of the 7.0O under Loan (*8-UR, the Central Bank would reduce its spread of 0.5% to 0.25% for this Loan only. This reduction in the Central Bank apread would be carefully reviewed by the for-Okcoming appraisal mission for the proposed fourth project. vii. The proposed loan of US$4.0 million would finance the Project's estimated foreign exchange component. The Project is techall ay sound and economically viable. The borrower would be the Government of Uruguay which would bear the foreign exchange risk.  URUGUAY THIRD LIVESTOCK DEVELOPMENT PROJECT (SUPPLEMENTARY) I. INTRODUCTION 1.01 The Government of Uruguay has requested additional funds to fi- nance a considerable increase in rancher loan demand during the period of the Third Livestock Development Project, Loan 698-UR 1/. This Supplementary Project would be an interim operation similar in scope to the Third, pending a fourth more comprehensive Livestock Project that should be ready for appraisal in mid-1971. 1.02 Loan 698-UR, for US$6.3 million, was designed to cover the period of calendar year 1971, during which the Government's progress in resolving a number of livestock sector policy issues would be evaluated and several major changes in Project organization and lending procedures consol- idated. It continued the national livestock development program begun under Loans 245-UR and 407-UR. This appraisal report is based on the results of a visit to Uruguay by Mr. A. Schumacher in February 1971. 1I. PERFORMANCE UNDER LOAN 698-UR 2.01 For the development of Uruguay's livestock industry, 1971 is a critical year. The Government has pursued a series of policies that has provided considerable investment incentives to both livestock producers and meat processors (Annex 1). Preliminary estimates indicate that subloans under the Plan Agropecuario 2/ (PLAN) program in 1971 will be more than double the rate of lending in recent years (Annex 2, Table 1). The meat processing industry has invested US$8 million in 1969/70 for modernization and plans to keep up the pace with the assistance of an IDB loan of US$13.7 million, signed in March 1971. This rate of investment in Uruguay's vital livestock industry must be sustained if the agriculture sector is to contribute effectively to the resumption of economic growth, and, at the same time, improve the country's balance of payments. Continuity of IBRD 1/ See Appraisal Report Number PA-38a, dated June 11, 1970. Loan 698-UR was effective on February 11, 1971, the seven months delay due to the problems of organizing a Livestock Fund in the Central Bank, obtaining an approved subsidiary loan agreement between the Central Bank and a participating bank and delay by the borrower in providing satisfactory legal opinions. 2/ The Plan Agropecuario is the technical services unit organized under Loan 245-UR to (i) assist ranchers in preparing ranch development plans and (ii) supervise the execution of such plans. It is an autonomous agency of the Ministry of Agriculture.  -2- support is thus essential. 2.02 International and bilateral aid agencies have also been active for a number of years in assisting the development of Uruguay's agriculture. The principal operations are as follows: Agency Operation Year Amount UST_ Million IBRD 1) Livestock Development -245-UR 1959 7.2 2) Livestock Development -407-UR 1965 12.7 3) Livestock Development -698-UR 1970 6.3 IDB 1) Meat Processing 1971 13.3 UNDP 1) Agricultural Research Asst. (Estanzuela) 1963 2.2 2) Veterinary Research (Rubino Institute) 1968 3.3 3) Regional Agricultural Development (Olimar River Irrigation System) 1970 1.4 AID 1) PL 480 Assistance 1967 20.0 2) Agricultural Sector Loan 1968 15.0 3) Capital Goods (machinery) 1969 15.0 4) Agricultural Sector Loan 1971 15.0 (under negotiation) Total 1-11.4 2.03 Under Loan 698-UR, 60% of investment funds for ranch development are provided by the IBRD, 20% by ranchers and 20% by local participating banks. These investments form part of the ranch development plan drawn up by each rancher with the assistance of a Project technician. In addition to providing technical and consultant services, the Project finances equipment and machinery to grow, harvest, clean, and certify quality legume and grass seed. 2.04 The type and composition of ranch investments requested by farmers in 1971 (pasture seeds, fertilizer, fencing, water points, corrals, handling yards, etc) correspond in percentage terms to estimates made in 1969. For example, over 60% of the requested on-ranch investment has been for pasture improvement. Within this pasture improvement category, however, a shift in the type of pasture being developed is noticeable. The medium and large size ranchers are now applying for loans t.o develop the more expensive (US$53 per ha) but quicker yielding conventionally sown pastures instead of investing in the slower yielding but cheaper (US$17) methods of sod seeding and oversowing. Under Loan 698-UR, a ratio of :10% conventional, 40% sod seeded or oversown and 30% top dressing was forecast. An estimate made in March 1971 indicates the 1971 ratio will be 36% conventional, 33% sod seeded or oversown and 31% top dressing. The weighted average cost of pasture under Loan 698-UR estimates was US$24 per ha. Now due to the above, this cost has increased to US$28. A proportional increase in fixed investments such as  - 3 - fencing and water points, however, has kept the overall composition of on-ranch investments as estimated under Loan 698-UR. A. Project Progress 2.05 Project progress in recent months has been better than anticipated. The demand for loans, both in total number and in average size, has exceeded the estimates. Originally, 3,000 ranchers were forecast to borrow an average of US$2,400. Current estimates indicate, however, that about 3,360 ranchers will borrow an average of US$3,450. This includes some 160 ranchers likely to obtain loans averaging US$17,000. This latter group is made up of larger ranchers (para 3.03); stimulating them to invest on such a substantial scale is a major breakthrough for the PLAN. Previously, they had little incentive to intensify production on their properties, yet this was vital to the development of Uruguay's livestock industry. 2.06 Currently all sizes of ranchers are eligible to borrow under the EBRD supported PLAN lending program. In recent years, considerable numbers of small ranchers with areas less than 100-ha have borrowed sums averaging US$380 per year (see Annex 2, Table 2 for PLAN rancher size breakdown). The average rancher borrowing under the 1971 Program has a ranch of nearly 500-ha carrying about 400 cattle and 800 sheep. He has partially developed his ranch from previous IBRD supported programs and is further intensifying his operation in 1971, reinvesting a portion of the profits made as a result of his earlier investments. His typical net cash income before development would be US$3,1001/ rising to US$5,200 in the 6th year of development. This would compare to an average annual skilled urban worker's (bearing no risks) household income of US$3,300 in 1970. B. Organization and Management Channeling of Loan Funds to Participating Lending Institutions 2.07 The Republic of Uruguay is the borrower under Loan 698-UR and the Central Bank serves as its financial agent. An important change in Third Project procedures from those followed in the two previous projects -- Loans 245-UR and 407-UR -- is the new role of the Central Bank in channelling loan funds which should make it possible for private banks to participate in the Project as well as the Government owned Bank of the Republic. Participating Lending Institutions 2.08 Bank of the Republic (BOR). Under Loan 698-UR, a separate section in the BOR was created to deal solely with project lending activities. The BOR has also streamlined its procedures to expedite loan handling since it 1/ This includes US$1,000 for owner's labor plus US$2,100 for returns to his invested capital and management.  is now subject to competition from other participating banks. An example of the new attitude was the personal canvassing by BOR branch managers of ranchers to encourage them to borrow Project loan funds. 2.09 Other Participating Banks. Three private banks have recently demonstrated interest to the Central Bank to participate in the Project. Banco Commercial is one of the largest Uruguayan private banks and has an extensive branch network in the Project areas. Banco Federal del Interior was formed from the merger of five smaller banks and is familiar with livestock lending. The third is the Bank of America, established in Uruguay in 1967. Lending Terms and Conditions to Sub-Borrowers 2.10 According to ranchers, the terms of the indexed Project sub- loans (minimum of seven years, with a grace period of two to three years and interest of 11%) is one of the major reasons for the increase in credit demand. Prior to 1969, non-indexed loan maturities had been progressively reduced to one to three years by BOR to prevent an erosion of funds during a period of inflation, which averaged nearly 30% annually between 1966 to 1969. Since 1969, development loans to PLAN sub-borrowers have been indexed to annual changes in the price of meat and wool or the cost of living index, whichever is lower. For 1969, these adjustments amounted to 8% and in 1970, 18%. The 1969 and 1970 record of interest payments by ranchers to BOR on the adjusted outstanding principal of these loans has been good. Interest payments in arrears beyond three months are only 5% of the total due, the same percentage overdue as under previous non-indexed loans. This wide acceptance of indexed loans by ranchers has been another major breakthrough in Uruguay, due mainly to adequate incentives, which, combined with appropriate loan maturities, has overcome the traditional reluctance of ranchers to borrow through indexed loans. Project Administration 2.11 The Project is coordinated by the Honorary Commission for the PLAN. Its members include representatives from the Rural Association, Rural Federation, Ministry of Agriculture, and Bank of the Republic. In 1970 a representative of the Central Bank was added. The Commission meets weekly, does its work efficiently, and is highly respected throughout the country. 2.12 The technical work of the PLAN is conducted by a Technical Director, five regional directors and 50 technicians. These technicians, most of whom live in the ranching areas, are competent and have developed excellent relations with the ranchers. In addition to the preparation of ranch development plans, the Project technical staff devotes considera- ble time to screening Project inquiries and is especially concerned with promotional and educational aspects of new pasture development and ranch management technologies. In 1971, detailed ranch budget and herd development projections will be prepared by Project technicians for about 10% of the 3,360 ranchers expected to borrow under the Project. They will be subject to intensive supervision. The Technical Director and a Livestock Economist, both contracted under the Project, will give special emphasis to establishing this supervision and budgeting program.  - 5 - C. Impact of the Loan 2.13 Since mid-1969, following a period of deterioration in the livestock sector, the IBRD and Government have pursued a dialogue directed at improving policy management and the overall investment climate in this sector. The results of these policy changes (3.06), introduced through Loan 698-UR, have exceeded expectations - both for the rancher and for the economy. Beef exports are increasing at an accelerated rate, as are also the local production and consumption of such substitutes as pork, mutton, and chicken; improvements have been effected in the structure and staffing of the meat inspection ser- vices; and private meat packinghouses have invested in plant modernization, including the upgrading of vital hygiene standards. 2.14 The IBRD's livestock lending program has had a number of important indirect benefits such as: (a) Livestock Sector Policy. For the first time, Government policymakers are treating the livestock industry, rancher, and processor, as an integrated sector, rather than focusing on isolated sub-components. The Honorary Commission of the PLAN has played an important coordinating role in this new approach. Details of these sector policy improvements are provided in Annex 1. (b) New Technology. Under the first two IBRD livestock projects, a new technology of legume/phosphate pasture improvement was successfully introduced ........ instead of the conventional, but excessively slow and expensive, ploughing up of whole fields which were then fertilized and sown to a mixture of grasses and legumes, the Commission (PLAN) experimented with and sponsored the introduction of legumes and ferti- lizer directly into the natural grasslands, first by means of a special machine, the Australian sodseeder, and later by dropping pellets of seeds and fertilizer from airplanes... by 1964 the Commission knew more or less which method should be primarily relied on in the different regions of the country" 1/. These inexpensive original swards were a demonstrated success, particularly in ensuring pasture availability in the winter. They also provided ranchers with incremental income enabling re-investment in both a larger area of improved pasture on each ranch and a shift towards the costlier but quicker yielding plowed, harrowed and drilled grass/legume pasture. This on-ranch re-investment is attributed by Albert Hirschman to the effects of 1/ Hlirschman, Albert 0. Development Projects Observed. Washington, D.C. The Brookings Institution, 1967, p. 41. This study was supported by the Carnegie Corporation and the Brookings Institution. Eleven IBRD projects were reviewed in depth.  -6- technological innovation -- in this case the various new techniques of pasture improvement and ranch management. He writes: "....it may fortunately be expected that the threat of obsolescence and the availability of improved technology which is characteristic of industries where innovation is rampant will of itself induce (author's italics) greater reinvestment even in an environment that is not normally accumulation minded." 1/ 2.15 In the Appraisal Report for Loan 698-UR, the economic rate of return on the Project was estimated at about 21%. Financial rates of return on new ranch investment were estimated at 22% for 1,000-ha ranches and 23% for 500-ha ranches. With rising prices for Uruguayan beef exports (US$460 in May 1969, and US$686 in December 1970), the financial rate of return on Project investments has gone up. Ranch-gate beef cattle prices have risen 70% since May 1969 whereas Uruguayan beef export prices rose 50% during the same time, reflecting the influences both of Government policy changes and international price trends on the ranch-gate price. For example, current financial rate of return estimates are 27% for a typical 1,000-ha ranch (Annex 3, Table 8). This rate compares very favorably to the 15% minimum financial rate of return on new productive investment established under Loan 698-UR. At full development, the investments made under the 1971 program are estimated to result in an annual incremental increase in beef production of 9,800 m tons, valued at US$6.7 million equivalent. Assuming each extra ton of beef produced from the pasture improved in 1971 is exported, and charging the taxes currently prevailing (Annex 1, page 4), the 1971 IBRD supported lending program should result in an annual incremental fiscal revenue of US$1,800,000 to the Government budget by 1975. 2.16 During the 1930's and 1940's Uruguay deveLoped the most advanced system of social security, health and welfare benefits of any country in Latin America. This system was built largely on the revenues generated from taxation of the livestock sector. While recent inflation has cut into the available benefits to an extent, the upsurge in livestock exports together with higher beef prices has provided additional revenues to Government -- a portion being used to restore eroded social security and other health and welfare benefits. 2.17 With consultant assistance financed from Loan 698-UR, Government has taken a number of organizational and training steps to improve its meat inspection and hygiene control services (Annex 1). The U.S. has already approved one meat plant and Uruguay intends to invite the U.K. (before June 1971) to inspect the various hygiene and foot-and-mouth control improvements made by Government in the past 18 months. Related to this, the Ministry of 1/ Hirschman, Albert 0. Development Projects Observed, op. cit. pp. 164- 165.  Agriculture is preparing terms of reference for a study of Uruguay's beef market potential overseas. The Ministry is also considering a second study in order to determine the most appropriate type of merger between the Comision de Abasto and the Instituto Nacional de la Carnes. This merger is a requirement of Loan 698-UR. A nine months' extension to January 31, 1972 of the merger deadline was agreed to by the IBRD to provide an adequate period for the implementation of the study. III. THE THIRD LIVESTOCK DEVELOPMENT PROJECT (SUPPLEMENTARY) A. The Project 3.01 The requested loan is necessary to ensure the continued availability of development funds to the livestock industry of Uruguay when ranch devel- opment funds in Loan 698-UR, constituting 86% of the loan, are fully committed by May 31, 1971. A proposed larger Fourth Project, which may include sub-projects for pig development as well as beef cattle, is not expected to be ready for appraisal before mid-1971. Therefore, to meet the continuing demand for development financing and to maintain the current momentum of lending, a Supplementary Project, which would be a continuation of the Third Project, is proposed. This Project would cover the foreign exchange cost of the additional credit commitments made for the 1971 planting season (February-June) and pasture seed, which must be imported in September 1971 for use in February 1972. The Loan would finance the estimated foreign exchange component, US$4.0 million, of the Project. 3.02 The Third Livestock Development Project (Supplementary) would be restricted to purposes identical with those of Loan 698-UR. Benefits are expected to be similar to those estimated for the Third Project. B. Cost Estimates 3.03 Loan 698-UR was designed to finance the long-term on-ranch in- vestment needs of about 3,000 ranchers, each of whom was to improve, on average, 67 ha of pasture area as part of his overall ranch development plan. However, data compiled by the PLAN after January 31, 1971, the dead- line for applications for the February-to-June planting season, indicated that original expectations were too modest (Annex 2, Table 4). About 3,200 ranchers with holdings below 2,500 ha and 160 ranchers with holdings above 2,500 ha are now expected to borrow under the PLAN. The 3,200 smaller ranchers are expected to improve an average of 88 ha of pasture, while each of the 160 larger ranchers is expected to develop an average of 600 ha of improved pasture. If realized, this rate of pasture development (375,000 ha annually) would be nearly double the earlier estimates for 1971 of 200,000 ha.  - 8 - 3.04 Original appraisal mission estimates for Loan 698-UR and the revised February 1971 estimates of on-ranch development credit demand are shown below. The Loan 698-UR appraisal report estimated that total Project-supported investments would be about US$13 million. Revised (Feb- ruary 1971) figures reflect a demonstrated rancher demand that, at the present rate of commitment, would increase the total investment to US$21.4 million, with an estimated foreign exchange component of US$10.3 million, about 48% of total Project costs.  - 9 - Investments for the 1971 PLAN Program (US$ '000) Supplemental Demonstrated Funds Loan 698-UR Feb. 1971 Demand Required Foreign Foreign Foreign Total Exchange Total Exchange Total Exchange Ranch Development Investment / / IBRD 5.40 5.40 9.40- 9.40 4.0Ov 4.00 Participating Banks 1.80 - 2.90 - 1.10 - Total Ranch Loans 7.20 5.40 12.30 9.40 5.10 4.00 Rancher Contribution 1.90 - 3.00 - 1.10 - Subtotal 9.10 5.40 15.30 9.40 6.20 4.00 Fertilizer Subsidy /b 1.20 - 2.60 - 1.40 - Incremental Working Capital 1.50 - 2.20 - 0.70 _ Subtotal 2.70 - 4.80 - 2.10 _ Technical Services Plan Agropecuario 0.60 0.20 0.60 0.20 - - Calprose Seed Processing 0.30 0.30 0.30 0.30 - - Technical and Consultant Services 0.34 0.34 0.34 0.34 - Training 0.06 0.06 0.06 0.06 - Subtotal 1.30 0.90 1.30 0.90 - _ TOTAL 13.10 6.30 21.40 10.30 8.30 4.00 /a Includes US$900,000 for pasture seed import requirements for the fall 1971 planting season starting late January 1972 that must be imported in September 1971 to replenish depleted stocks and to avoid any lending gap in 1972. /b The total phosphate fertilizer subsidy in 1971 will amount to US$2.6 million. The increase from 1969 estimates is due to a US$4 increase in the per ton subsidy plus an increase of 60,000 m tons in the estimated tonnage required for 1971. These phosphate subsidies have made an important contribution to stimulate rancher interest in trying a new legume/grass/phosphate technology. Ranch gate phosphate prices are currently US$40 per ton after deducting the subsidy, compared to nearly US$70 a ton in the province of Buenos Aires in Argentina without such subsidy. In New Zealand, by contrast, ranch gate prices are only US$28 ton, after deducting a freight subsidy. Consequently, there is widespread acceptance of phosphate in Uruguay and New Zealand, but Argentine ranchers have not had sufficient incentive to use it extensively. In the course of the forthcoming appraisal of a possible Fourth Project in Uruguay, the subsidy would be studied in the context of the IBRD's overall review of Government policy performance in the livestock sub-sector and appropriate recommenclations made.  - 10 - 3.05 All funds for the supplementary Project would be required to meet additional rancher loan demand resulting from: Amount % (us$ millions) (a) an increase of 360 ranchers borrowing in the present season compared with original estimates 1.7 23 (b) the documented loan applications of the 3,000 ranchers to improve an average of 112 ha per ranch, as compared to the 67 ha per ranch estimated for Loan 698-UR 4.8 65 (c) the expressed preference of ranchers to invest more heavily in the higher cost but quicker yielding methods of pasture development than anticipated under Loan 698-UR (see paras 2.04 and 2.14) 0.9 12 Subtotal 7.4 100 (d) the requirement for pasture seeds in September 1971 for early fall 1972 planting season. 0.9 Total 8.3 3.06 Major reasons for the expanded level of ranch loan demand and lending are: (a) acceptance by the ranching community of the new grass/legume pasture improvement and ranch manage- ment techniques introduced by the PLAN under IBRD Loans 245-UR and 407-UR; (b) improved investment incentives arising from continually rising ranch-gate cattle prices (Ur$ 33/kg liveweight in May 1969 to Ur$ 57/kg in February 1971), resulting from internal policy reforms as well as rising export prices for Uruguayan beef (US$460 per ton in May 1969 to US$686 in December 1970); (c) longer loan maturities (indexed) that are now a minimum of seven years and a maximum of 10 years, including two to three years of grace. In 1968 and 1969, loan maturities, not indexed, were reduced to one to three years with a grace period of one year to compensate for inflation. Also, in late 1970, a more acceptable form of indexing was agreed between the IBRD and Central Bank whereby the  - 11 - cost of living index is to be established as the ceiling on Project loan adjustment whenever the meat and wool index rise in any year exceeds the rise in the cost of living index (see para 2.10); and (d) resumption of lending by BOR to all ranchers, regardless of ranch size. BOR had previously set a ceiling of 2,500 ha on ranchers eligible to borrow under the PLAN program. C. Procurement 3,07 International competitive bidding procedures would continue as under 698-UR and would be used for the bulk procurement of pasture seeds and rock phosphate. Purchases of fencing and handling yard materials, farm machinery, water point pumps and piping and building materials would be made by individual sub-borrowers through normal commercial channels. An adequate selection of international suppliers of farm machinery and water point equipment are represented on the local aarket. D. Disbursements 3.08 Categories I and II of Loan 698-UR are expected to be fully committed by May 31, 1971. As of April 30, 1971, US$697,269 has been disbursed and an additional US$4.5 million committed. No funds under the proposed supplementary loan would be disbursed if funds for the same purpose are available under Loan 698-UR. Under the proposed loan, disbursements would be made for pasture seed (US$900,000) and rock phosphate (US$750,000) imports on the basis of CIF invoices. For ranch development loans, 39% of the face value of each subloan to ranchers would be reimbursed by the IBRD. (See Annex 2, Table 3, for quarterly disbursement estimates.) A separate account would be created in the Central Bank's Livestock Fund to handle funds under the proposed loan. E. Lending Operations 3.09 The loan would be made to Uruguay on the same terms as those for Loan 698-UR -- 12 years, including four years grace. On the assumption that the IBRD interest rate would be 7.25% instead of 7.0%, the Central Bank, as an interim measure, would reduce its spread of 0.5% to 0.25% to compensate for this increase on this Fourth Project only. In the Project scheduled for appraisal in mid-1971, this reduction in the spread to the Central Bank would be reviewed. As under Loan 698-UR, the Central Bank would act as financial agent for the borrower and would channel loan funds to participating credit institutions. Project administration and lending operations would be the same as under Loan 698-UR.  - 12 - IV. RECOMMENDATIONS 4.01 A Supplementary Third loan of US$4.0 million is recommended to fill the gap of approximately nine months between estimated full commitment of Loan 698-UR funds (May 31, 1971) and the beginning of the proposed Fourth Project. The assurances obtained in Loan 698-UR would be continued under this loan, with the exceptlon that the requirement that the deadline for submission of detailed plans for the Calprose seed cleaning and processing plant (Section 5.09 of the Loan Agreement) be deleted, as the Government has already submitted the plans, which were approved by the IBRD. May 21, 1971  ANNEX 1 Page 1 URUGUAY THIRD LIVESTOCK DEVELOPMENT PROJECT (SUPPLEMENTARY) DEVELOPMENT OF THE LIVESTOCK INDUSTRY Importance of Livestock to the Economy 1. Uruguay's livestock industry is the mainstay of the country's economy. Exports of beef and wool and their by-products account for ap- proximately 85% of Uruguay's export earnings. Although official national account statistics attribute only 9% of Uruguay's gross domestic product to the industry, it probably generates, with ancillary industries, related transport and services, between 25% and 30% of Uruguay's national income. The sector including the meat packing industry also accounts for about 10% of total recorded employment. Beef and wool are, therefore, the pillars of the economy and help to provide the country's 3 million inhabitants with a per capita income of about US$590, third highest in Latin America. 2. During the period of disbursement on the first two livestock loans, 245-UR and 407-TR, covering roughly the 1960-68 period, inflation, discriminatory fiscal policies and Government disregard for modern-day in- ternational hygiene requirements bore hard on the key livestock sector in Uruguay. These factors inhibited investment to improve herd and pasture productivity, and, in 1969, led to a ban by the United Kingdom (Uruguay's largest single client until then) and by the United States of all imports of Uruguayan beef products. Thus, despite the successful establishment of the principle of increased livestock production through modern pasture inprovement and management techniques, the overall objective of the first two loans - increased exports of beef products - was not achieved. Worse still, Uruguay lost access to two important export markets. 3. In light of these developments, an intensive dialogue between the IBRT) and Government was established on livestock industry sector policies. Stress was given to: (a) rancher investment incentives; (b) modernization of the meat processing industry; (c) improvement of the meat inspection and hygiene control service; and (d) strengthening of local capabilities in meat marketing.  ANNi4X 1 Page 2 Production Patterns, Land Use and Farm Size 4. Uruguay's 14.9 million ha of pasture land supports about o mil- lion cattle and a sheep flock of 23 million. Carrying capacity averages about one head of cattle and three sheep per 2 ha. Production per i"a of unimproved pasture averages some 40 kg of beef (liveweight), 5 kg of wool and 10 kg of mutton. This compares to about 120 to 150 kg of beef, 10 kg of wool and 25 kg of mutton on improved pastures, which, as a result of programs supported by the two previous loans, now account for 7% of Uruguay's livestock area. As Uruguay can no longer bring large areas of new land into use, increased livestock production must continue to come from inicreasing animal and per-ha yields. The possibilities are great, particularly since the larger producers (some 3,900 farmers have holdings of more than 1,000 ha, see table below) occupy about 60% of the livestock area and manage about 60% of Uruguay's cattle herd and sheep flock. Size of Ranches Ha Cattle Siheep Size (ha) Number % ('000) % ('COD) % ('000) X 1-99 58,163 73 893 6 606 7 1,274 , 100-499 13,688 17 2,637 18 1,436 18 4,587 20 500-999 3,476 5 2,250 15 1,206 15 3,873 17 1,000-2,500 2,654 3 3,875 26 2,096 26 b,110 27 2,500 and over 1,212 2 5,245 35 2,793 34 7,234 31 Total 79,193 100 14,900 100 8,137 100 23,078 100 Production, Consumption and Exports 5. From the available data, certain trends in production, consumption and exports are emerging. While production has continued to rise, exports have risen faster, with a result that consumption has declined, This trend is shown in the following tables,  A},NEX 1 Page 3 Production, Consumption and Exports of Beef (100 m tons) Percentage of Production Total Domestic Consumed Beef Consump- Year Production Consumption Exports Domestically tion kg/person 1951 299 187 112 62.5 84.0 1956 252 190 62 75.4 79.3 1961 276 207 69 75.0 80.5 1966 253 184 69 72.7 67.0 1968 339 227 112 67.0 80.0 1969 345 221 124 64.0 77.5 1970 361 208 153 58.0 72.0 Source: Central Bank of Uruguay. In value, beef exports reached a record high in 1970: Livestock Exports Livestock Exports as Per- Year Exports Wool Beef Hides & Skins Total centage of Total Exports -----(US$ millions)--------------- % 1956 216.0 131.0 22.0 16.0 169.0 78 1961 174.7 109.8 27.4 16.8 154.0 88 1964 178.9 67.5 74.3 17.5 159.3 89 1968 179.2 78.0 60.3 16.5 154.8 86 1969 200.3 73.7 62.1 23.9 159.7 80 1970 213.6 68.6 88.0 21.8 178.4 83 (preliminary) Source; Central Bank of Uruguay.  ANNEX 1 Page 4 Taxes and Subsidies 6. Since 1969, Government has initiated a number of tax clianges that have improved rancher incentives. Beef export taxes were reduced and, more importantly, the structure of the export tax system was modified. Uiider the new system, higher processed meat exports pay a reduced tax percentage. These changes, combined with risinpg beef prices for Uruguayan meat exports, enabled processors to make more money on exports than they could on local sales. As a result, the financial rate of return on new rancher investment rose from 8% in May 1969 to 38% in February 1971 (Annex 3, Table 3). The following table indicates the swings in various margins, external prices and producer gross and net prices: Beef Prices May November June December 1969l1 1969/2 1970/2 1970/3 ---------------