Philippines - Highway Project

RESTRICTED FIE CoPY Report No. P-909 A T'his report was prepared for use within the Bank ond 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 The report may not be published nor may it be quoted as representing their views.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 REPORT AND RECOMMENDATION OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN TO THE REPUBLIC OF THE PHILIPPINES FOR A HIGHWAY PROJECT March 25, 1971   INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT REPORT AND RECOMMENDATION OF THE PRESIDENT TO THE EXBTUTIVE DIRBETORS ON A PROPOSED LOAN TO THE REPUBLIC OF THE PHILIPPINES FOR A HIGHWAY PROJECT 1. I submit the following report and recommendation on a proposed loan in an amount in various currencies equivalent to $8 million to the Republic of the Philippines. PART I - HISTORICAL 2. The proposed highway project is an outcome of the UNDP Transport Survey of the Philippines which was carried out by consultants in 1968/69 with the Bank as Executing Agency. The primary objective of the Survey was to prepare a long term investment program for the transport sector. The Survey also included the preparation of feasibility studies for priority roads which it was hoped might lead to Bank financing. Detailed engineering of the project, based on the feasibility studies prepared under the ',urvey, started in early 1970 and was completed by the end of 1970. A Bank mission appraised the project in July 1970. 3. Negotiations for the proposed loan were held in Washington from February 22 to March 1, 1971. The Government was represented by Mr. Antonio M. Locsin, Deputy Director General of the Presidential Economic Staff, Mr. Baltazar Aquino, Commissioner, Bureau of Public Highway8, and Mr. Gregorio San Agustin, Director, Legal and Policy Research Office, Presidential Economic Staff. 4. If approved, the proposed loan would be the fifteenth in the Philip- pines and would increase the total amount lent to $239 million, net of cancellations. The proposed loan would be the second in the transport sector and the first for highways. The following is a summary of Bank loans to the Philippines as of February 28, 1971:  -2- Amount ($ million) Loan No. Year Purpose Bank Undis'bursed 7 Loans fully disbursed 102.2 - 393 PH 1964 Education 6.0 0.7 467 PH 1965 DFC's 25.0 o.8 491 PH 1967 Power 12.0 2.5 607 PH 1969 Agricultural credit 12.5 11.9 630 PH 1969 DFC's 25.0 20.3 637 PH 1969 Irrigation 34.0 33.2 720 PH a/ 1971 Rice Processing 14.3 14.3 Total (net of cancellations) 231.0 Of which has been repaid to Bank and others 27.4 Total outstanding 203.6 Amount sold: 12.1 Of which has been repaid 10.6 1.5 Total now held by Bank 202.1 Total undisbursed 83.7 a/ Not yet effective. 5. In my report of January 13, 1971 on the Rice Processing Project,the Executive Directors were informed that disbursement was lagging on some projects. In the case of the Second Rural Credit Project (Loan No. 607 PH), the Government is expected, early in April, to propose changes in the project designed to stimulate demand which has been adversely affected by the change in the value of the peso after the exchange reforii of February 1970. A Bank mission is scheduled to visit Manila in the spring to discuss these proposals with the authorities. The rate of disbursement under Loan 630 PH to the Private Development Corporation of the Philippines is likely to improve following a recent increase in commitments, although the demand for industrial loans is still weak. After initial delays in the award of the equipment contract, the Fourth Power Project (Loan No. 491 PH) has been progressing fairly satisfactorily. Measures for improving the financial position of the project authority - the National Power Corporation (NPC) - are being discussed with the Government. 6. No IDA credits have been made to the Philippines. IFC has made six commitments in the Philippines totalling $32.2 million, of which IFC now holds j32.5 million (including $8 million not yet effective), net of participations, sales and cancellations. Several projects in the Philippines, including a ?.c:kel mining project and an aluminum smelter project, are currently under  - 3 - various stages of consideration by IFC. Further Bank loans for agriculture and education are under;consideration for FY 1972; and also for power on the assumption that satisfactory steps will be taken by the Government to strengthen NPC's finances. PART !I - DESCRIPTION OF THE PROPOSED LOAN 7. Borrower: Republic of the Philippines Amount: $8 million Purpose: To finance the foreign exchange costs of the construction and improvement of the Cotabato-Digos road (160 km) in Mindanao and of consultants' services, and interest and other charges during construction. Amortization: In 24 years including a four-year period of grace, through semi-annual instal- ments beginning May 15, 1975 and ending November 15, 1994. Interest Rate: 7-1/4% per annum. Commitment Charge: 3/4 of 1% per annum. Estimated Economic Return on the Project Road: 18%. PART III - THE PROJECT 8. A report entitled "Appraisal of a Highway Project - Philippines" (PTR 68a) is attached. 9. In line with the recommendations of the Transport Survey for a long term investment program in the transport sector, the Government is giving high priority to improving transport facilities, particularly highways. In its current five-year (FY 1971-75) infrastructure investment program ($1,130 million equivalent) issued in February 1971, transport investments account for 46% or $510 million, of which highways alone account for about 70% or $370 million. 10. As part of the Transport Survey, the consultants carried out feasib- ility studies of about 1,000 km of priority roads. Based on these feasibility studies, the Government, with the Bank's agreement, had detailed engineering studies made of three roads totalling about 900 km - the Cabanatuan-Tuguegarao and Lucena-Legaspi roads in Luzon and the Cotabato-Digos road in Mindanao - as  a basis for a project for Bank consideration; at the Government's request the Bank agreed to consider financing retroactively the foreign exchange cost of the detailed engineering if and when a Bank loan were made for the project. Subsequently, it was determined by the Government that equipment for the construction of the two roads in Luzon would be financed from the proceeds of a loan contracted with Japan in 1969 for the reconstruction of various sections of the Pan-Philippine Highway - a north-south route linking the islands of Luzon and Mindanao. Accordingly,the Bank agreed to consider only the construction of the road in Mindanao, and, in view of its earlier commitment, to include in the proposed project, the detailed engineering not only of this road but also of the two roads in Luzon. 11. The proposed project would consist of the following elements: (a) Construction and improvement of the Cotabato-Digos road of about 160 km in Mindanao; (b) Consultants' services for: i. construction supervision of the Cotabato-Digos road; ii. detailed engineering of this road and the Cabanatuan- Tuguegarao and Lucena-Legaspi roads in Luzon; iii. detailed engineering of about 700 km of roads to be selected from item (c) below; (c) Feasibility studies of about 1,000 km of roads; and (d) Technical assistance to the Bureau of Public Highways (BPH) for operational improvements. 12. The proposed loan includes an amount of $3.3 million representing the foreign exchange costs of road construction and $2.6 million representing the foreign exchange costs of consulting services. An allocation of $900 thousand has been made to cover contingencies in both categories. The proposed loan would also finance interest and other loan charges (estimated at $1.2 million) to cover a period of roughly 4 years when, as indicated in Part V of this report, the debt service burden of the Philippines is likely to be exceptionally heavy. 13. Contracts for road construction (expected to commence in the third quarter of 1971) will be awarded on the basis of international competi- tive bidding. With the Bank's concurrence, prequalification of contractors started in January 1971. Judging from contractors interested in the project, it is most likely that the contracts would be won by joint ventures of local and foreign contractors or by foreign contractors. Depending on the degree of local participation in the successful bids, the foreign exchange component of the total construction cost (estimated at $5.9 million) could vary between 52 per cent (about $3.1 million) if there were joint ventures with equal  local and foreign participation and 60 per cent (about $3.6 million) if the contracts were won by foreign contractors. It was agreed with Government that the most probable local/foreign contractor participation in construction would r,>sult in a foreign exchange component of 55 per cent (about $3.3 million) and I propose that the Bank finance this amount. Should the contracts be won by joint ventures with a local participation of more than 50 per cent, the Bank loan would finance a small part of local currency expenditures. Conversely, if the contracts should be won by joint ventures with a local participation of less than 50 per cent - or by foreign contractors - the loan would not finance the entire foreign exchange cost of construction and the shortfall would be met by the Government. 14. Local currency costs of the project are estimated at P35.9 million ($5.9 million equivalent). Budget appropriations have been made for this amount and, therefore, problems of peso financing are not expected to arise as they did in some of the previous Bank-financed projects. 15. The foreign exchange cost of $2.6 million for consultants' services includes $750,000 for retroactive financing to February 1970 of detailed engineer- ing of the project road in Mindanao and the two roads in Lazon (see para. 10); approximately $600,000 for supervision of construction; and a further US$1.2 million for detailed engineering of about 700 km of roads to be selected from the UTNDP-financed feabisility studies referred to below. 16. The Bank will be working closely with UNDP on this project. UNDP is prepared to finance items (c) and (d) in para. 11 above, namely, the feasibility studies of additional priority roads and technical assistance to imorove the operations of BPH, the agency responsible for project execution. The Bank has agreed to act as the Executing Agency for both these items of END assistance. It is expected that the technical assistance to BPH and the feasibility studies will start about mid-1971. 17. The operations of BPH suffer considerably from overstaffing, both at headquarters and in the field. Furthermore, there is a proliferation of technical and administrative divisions at headquarters which contribute to lack of planning and control of field operations, particularly road maintefnance. The technical assistance provided under the UNDP grant is designed to assist the BPH in carrying out the necessary reforms which do not require legislative action. Other reforms must await legislation which is expected to follow from a study on the reorganization of all departments and agencies which has just been completed by a Presidential Commission. 18. The Commission has reached the same general conclusions as the Transport Survey regarding the transport sector. Both have found that adequate transport olanning and coordination are lacking and concluded that all trarnsport matters should be brought under the Department of Public tbrks and Communications (DPWC) and that the DFWC itself should be reorganized and strengthened. The Commission's proposals are being considered by the President and are to be submitted to Congress in May 1971. The proposals concerning the transport sector have incorporated a number of comments made by the Bank staff during auid since the appraisal of last July and, if implemented, would improve the operations of government transport agencies. The Bank has some reservations  - 6 - as to whether transport planning and coordination are adequately dealt with in the proposed reorganization of DPWC. This will be the subject of further review and discussions with the Government during execution of the project. 19. The Cotabato-Digos road is the only east-west link in central Mindanao, one of the richest agricultural areas in the Philippines. On the basis of savings in vehicle operating costs the rate of return for the road construction is estimated at 18%. Construction of the road has high priority and the feasibility studies and detailed engineering of other priority roads should facilitate further investments in the highway sector. The road construction would take about three years, the feasibility studies and subsequent detailed engineering about two years and the technical assistance to BPH about two years. PART IV - LEGAL INSTRUMENTS AND. AUTHORITY 20. The draft Loan Agreement between the Republic of the Philippines and the Bank, the Report of the Committee provided for in Article III, Section h(iii) of the Articles of Agreement and the text of a resolution approving the proposed loan are being distributed to the Executive Directors separately. 21. The draft Loan Agreement contains provisions normally used for highway projects. The execution of a Plan of Operation for the highway technical assistance and feasibility studies to be financed by UNDP is made a condition of the effectiveness of the loan. PART V - THE EONOMY 22. A Bank economic mission visited Manila in February/March 1971 to update the economic report (No. EAP-16a) which was distributed to the Executive Directors last August. The mission's report, which will be distributed to the Executive Directors shortly, will serve as a basis for discussions at the inaugural meeting of the Consultative Group for the Philippines to be held in Paris on April 22 and 23. 23. The mission's findings are still under review. Its preliminary conclusions are that impressive results have been achieved by the Government in implementing the stabilization program under the standby agreement negotiated with the IMF a year ago. The exchange reform of February 1970, accompanied by fiscal and credit measures, resulted in substantial improvement in the balance of payments position. In 1970, exports rose by 22%, and the trade deficit was reduced to $26 million from $257 million in 1969. Gross foreign exchange reserves were up by 90% ($111 million) to $237 million at the end of 1970, despite a heavy debt service burden involving total service payment of some $468 million in 1970. Internally, measures were taken to improve fiscal performance and to restrain credit expansion. For the year ending June 30, 1971, tax revenue was estimated to rise by 25% compared with 13% in 1969/70, and a  - 7 - budget surplus of P460 *illion on current account was foreseen as against a current budget deficit (if P220 million in 1969/70. Gross domestic savings increased to 18.4% of GDP in 1970 from 15.7% in 1969. In 1970, the increase in money supply was reduced to 6% from 19% in 1969, and the rate of net domestic credit expansion was down to 6% from 25% in 1969. Earlier this month a standby agreement was reached with the IMF which allows for Philippine drawings of up to $45 million in foreign exchange for the next 12 months. 24. The rate of growth, already affected by severe typhoon damage to major crops last year, is currently hampered by the restrictive measures which have been necessary to restore stability and by the large demands on resources to service external debt. The real growth rate of GNP in 1970 is expected to be 4.4% compared with 6.2% in 1969. 25. The external debt service ratio will be about 28% of exports of goods and services over the next three years. This high ratio is attributable to the very large proportion of the total debt in short and medium maturities. Nearly 60% is due for repayment within the three year period 1971-1973. Notwithstanding this su]-stantial short term debt, the Philippines is credit- worthy for loans on conventional terms having regard to the favorable outlook for exports and the prospects of regular and substantial inflow of capital. 26. A larger inflow of longer-term capital on more favorable terms and with longer grace periods would be helpful. This would in effect allow the Philippines to substitute long term for short term debt, thereby spreading repayments over a longer term and reducing the debt service requirements for any particular year. This is one of the matters which will be discussed at the Consultative Group meeting in April. PART VI - COMPLIANCE WITH ARTICLES OF AGREEMENT 27. I am satisfied that the proposed loan would comply with the Articles of Agreement of the Bank. PART VII - RECOMMENDATION 28. I recommend that the Executive Directors approve the proposed loan. Robert S. McNamara President Washington, D. C. March 25, 1971   ANNEX Page 1 of 2 PHILIPPINES BASIC DATA Area 297,000 square kilometers Population Total (adjusted Aiay 1970 Census) 36.6 million Rate of Growth 3.1% Density 123 per square kilometer Gross National Product Total 1970 (current market prices) P37,549 million Real Growth rate 1970 4.4% Per capita GNP 1970 US$160 / Gross Domestic Expenditure 1968 1969 1970 2/ (current prices; in percent of GDP) Consumption 82.8 84.3 81.6 Private 73.B -7L 73.2 Public 9.0 9.5 8.4 Gross Domestic Capital Formation 21.1 19.5 20.5 Gross Domestic Saving 17.2 15.7 18.h Resource Gap 3.9 3.0 2.1 Central Government Operations (in million pesos) FY 1969 FY 1970 Revenue from domestic sources 2,82 3,111 Current expenditures 2,873 3,327 Capital expenditures 3/ 844 973 Net cash operating deficit 4/ 640 1,050 Money and Credit 1968 1969 1970 2/ (annual rate of change in percent) Money Supply 5 19 6 Time and Savings Deposits 10 19 7 Total Bank Credit Outstanding 7 25 6 Price Indices (percent increase) 1968 1969 1970 2/ Consumer price index for the Philippines 0,7 1.7 15.3 General wholesale price index for Mianila 2.9 0.7 19.5 Balance of Payments (US$ million) 1969 1970 Merchandise exports 875 1,064 Merchandise imports -1,132 -1,090 Net services -133 -142 Net transfer payments (public and private) 155 120 Current account balance -234 -48 Net Inflow of Foreign Capital (in million US$) 1968 1969 1970 2/ Grants and Reparations 4 -50 --n Net Loan Availments n.a. n.a. 247 Net Direct Investment -3 +8 - 1/ 1969: US$207, prior to the de facto devaluation of February 1970. 2/ Preliminary. 3/ Including foreign financed outlays. 2 Including public corporations.  ANNEX Page 2 of 2 Major Exports (percent) 1969 1970 Coconut products 19 22 Sugar products 18 18 Forest products 33 25 Mineral products 19 20 Others 11 15 100 100 Foreign Exchange Reserves (us$ million) Dec. 1969 June 1970 Dec. 1970 International Reserves 1/ lc6 211 237 External Public and Private Debt (US$ million) Dec. 1969 Dec. 1970 Short term 196 63 Medium term 420 417 Long term 710 1,093 Total (excluding IMF and revolving 1,326 1,573 trade credits) Debt Service on debt outstanding CY 1970 CY 1971 as of December 31, 1970 Amortization 373 362 Interest 125 Total Debt service ratio 3/ (Total debt, public and private) 36% 35% Bank Operations (Dec. 31, 1970) Bank loans outstanding US$ 119 million Undisbursed amount US$ 73 million IMF Position Quota US$ 155 million Drawings outstanding (Dec. 31, 1970) 4/ 1S$ 107.50 million Par Value - up to Feb. 21, 1970 P3.90 per US$ Floating since Feb. 21, 1970 1/ Net reserves of commercial banks plus gross reserves of Central Bank. 2/ Preliminary. 3/ Basis: exports of goods and services. 17/ Additional Standby of $45 million was approved in March l971. March 19, 1971