Morocco - Eighth Banque Nationale Pour Le Developpement Economique (BNDE) Project

Document of f1LE COPY The World Bank FOR OFFICIAL USE ONLY Report No. P-2032-MOR REPORT AND RECOMMENDATION OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN TO THE BANQUE NATIONALE POUR LE DEVELOPPEMENT ECONOMIQIJIE' WITH THE GUARANTEE OF THE KINGDOM oFr MOR( CO May 6, 1977 This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  CURRENCY EQUIVALENTS (Dirhams per U.S. Dollars) End of Period Period Period Average (DH) 1973 4.290 4.107 1974 4.155 4.370 1975 4.184 4.053 1976 4.484 4.507 Source: IMF, International Financial Statistics - February 1977. ABBREVIATIONS BAII Banque Arabe Internationale d'Investissement BCM Banque Commerciale du Maroc BCP Banque Centrale Populaire BNDE Banque Nationale pour le Developpement Economique BRP Banque Regionale Populaire CCG Caisse Centrale de Garantie CDG Caisse de Depot et de Gestion CIH Credit Immobilier et H^telier CNCA Caisse Nationale de Credit Agricole DFC Development Finance Company LIBOR London Inter-Bank Offered Rate OCP Office Cherifien des Phosphates ODI Office pour le Developpement Industriel SSI Small-Scale Industries FISCAL YEAR January 1 - December 31  FOR OFFICIAL USE ONLY INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT REPORT AND RECOMMENDATION OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED EIGHTH LOAN TO BANQUE NATIONALE POUR LE DEVELOPPEMENT ECONOMIQUE WITH THE GUARANTEE OF THE KINGDOM OF MOROCCO 1. I submit the following report and recommendation on a proposed loan to Banque Nationale pour le Developpement Economique (BNDE) to be guaranteed by the Kingdom of Morocco, for the equivalent-of US$45 million, to help finance lending for industry. Amortization would conform substantially to the aggre- gate of amortization schedules applicable to the specific investment projects financed out of the proceeds of the loan, with a maximum period of 15 years for individual investment projects, including up -to three?ears of grace. Up to $3.0 million equivalent of the loan proceeds would be relent by BNDE to Banque Centrale Populaire to help finance lending for small-scale industrial enter- prises (SSI). PART I - THE ECONOMY 1/ 2. A report entitled "Current Economic Position and Prospects of Morocco" (1021-MOR, dated January 26, 1976) was distributed to the Executive Directors on February 13, 1976. An updating economic mission visited Morocco in June 1976 (its report is planned for distribution to the Executive Directors by June 1977), and the following is based on this mission's findings. 3. During the 1968-72 Plan, Morocco succeeded in accelerating the growth of its economy and in improving the situation of its external payments. Aided substantially by good crops following favorable weather in three years out of five, real GDP growth averaged 5.6 percent per annum during the five- year period. Reflecting the sustained rise in exports during the Plan period and a slower growth of imports in 1971 and 1972, the balance of payments showed a surplus from 1969 onward. These results represented a definite improvement over those of the preceding decade, during which the rate of real GDP growth had barely exceeded that of population growth, and the balance of payments had been a source of constant concern. These achievements were accompanied by an increase in private consumption averaging about 2 percent per capita in real terms during the five-year period. 4. From 1967 to 1970, the main growth determinants had been exports, tourism and investment, all of which rose substantially; in addition sizeable stocks were accumulated following the exceptionally good harvest in 1968. By contrast, in 1971-72, exports and tourism together with current govern- ment spending were the major factors to sustain economic growth. During 1/ This part has been slightly revised from President's Report No. 1994-MOR on the Doukkala II Irrigation Project, dated April 21, 1977. This document ha raetricted distribution and may be used by recipients only In the perfonnme of their officW dutis. Its contents may not otherwis be disclosed without Wori Dnk auth_dmion.  - 2 - these last two years of the Plan, the investment of public and semi-public enterprises declined, largely because the state-owned phosphate company (OCP) had completed its expansion program. Government investment stagnated after 1968. Private investors adopted a wait-and-see attitude in the face of political developments in 1971 and 1972 and in the expectation of new measures to encourage investment and exports. At the end of the 1968-72 Plan period, there was therefore an urgent need to revive public and private investment. Particularly in the public sector, absorptive capacity needed to be increased by appropriate changes in staffing and organization. 5. Following a long period of very slow growth in private consumption, social problems had to be tackled. Over the 1969-71 period, there had been a slow but perceptible decline in real per capita consumption for about one- third of the rural population. Wealth and income differences between cities and villages, among regions, and between rich and poor tended to widen. Un- employment remained high, in 1971 averaging 9 percent of the country's labor force, and ranging between 12 and 16 percent in large urban centers. 6. Recognizing these difficulties and problems, the Government began in 1971 to revise its development policies, paying increasing attention to social objectives. The changed orientations were reflected in the 1973-77 Plan which aimed at (1) GDP growth of 7.5 percent per annum in real terms from 1973 to 1977, mainly through a sharp increase in public and private investment and a strategy geared strongly toward increasing exports, and (2) an improve- ment in the distribution of growth benefits among the different social groups and the various regions, in order to achieve greater equity and at the same time increase domestic demand. This improvement was to be brought about through a modest program of distributing colon lands to poor farmers, more emphasis on the development of rainfed agriculture, "Moroccanization" of some industrial and commercial enterprises, a price and wage policy designed to enable the poorest segments of the population to satisfy their essential needs, an ambitious program of low-cost housing, various measures to improve the lot of the rural poor, and increased emphasis on the development of the poorest regions. 7. In 1974 and 1975, Morocco benefitted from a large increase in the average export price of phosphate, its main export product, which provided substantial additional resources compared to the Plan's expectation. The Government decided in 1975 to step up investment spending for the years 1975- 77, and the allocations for investment by the public and semi-public sectors were increased substantially in the annual Budget Laws. Part of the additional allocations were to cover investment cost increases, and a larger part to launch expanded or new investment programs. Recent Economic Performance 8. During the first three years of the 1973-77 Plan period, Morocco's overall economic performance improved substantially as compared to the past. Gross fixed investment rose sharply and reached 24 percent of GDP in 1975 and almost 30 percent in 1976. Investments in the public and semi-public sectors contributed strongly to this increase and there was also a good response on  - 3 - the part of private investors to the new incentives introduced in 1973. Indus- trial growth accelerated to an average annual rate of about 11.5 percent for the first three years of the Plan compared to 6 percent in 1968-72, in large part because of the vigorous expansion of construction in response to rising investment demand. At the same time, increased emphasis was put on achieving the social objectives of the 1973-77 Plan with the implementation of an ac- celerated low-cost housing program, expanded investments in social sectors in small cities, and a program of small-scale investments in disfavored re- gions. In the face of import price rises, especially for wheat, sugar and edible oil, the Government also raised significantly price subsidies for these essential foodstuffs and adjusted upward legal minimum wages in agriculture and industry with a view to protecting the purchasing power of low-income groups. 9. Some weaknesses appeared, however, during this period. After the five-fold increase in phosphate exports receipts between 1973 and 1974, expected further increases in financial resources did not materialize in 1975. Due to weakening external demand, phosphate exports decreased to 13.1 million tons, from 18.7'million tons in 1974, and phosphate prices began to drop sharply in the second half of 1975, restraining the country's real capacity to save-'and to import. Unfavorable weather resulted in poor crops in 1973 and in 1975 and to meet domestic demand, food imports were increased substantially. In constant prices, value added by the mining and agricultural sectors returned in 1975 to levels slightly below those of 1972. Despite the fast growth of industry (excl. mining) and services, real GDP growth averaged only about 4 per- cent per year in 1973-75. As a result largely of the disappointing performance of phosphate exports in 1975, Morocco's internal and external finances came under pressure. The Treasury's accounts showed in 1975 an overall deficit twice the 1974 level due mainly to sharply rising capital spending and insuf- ficient growth in budgetary savings. This contributed to inflationary pressure domestically; the cost of living index rose by nearly 8 percent in 1975. The current account of the balance of payments, which had shown a surplus of $105 million in 1973 and $237 million in 1974, registered a deficit of $546 million in 1975. 10. In 1976, GDP growth accelerated to 10 percent, thanks mainly to a good cereal harvest (48 percent larger than the previous years) and the conti- nued growth momentum in manufacturing, construction and services. The expan- sionary investment policies of 1973-75 have continued, and the 1976 Budget Law raised further the allocations for investments in the public and semi-public sectors. Several measures were, however, taken to curb the growth of consump- tion demand, including some restraint in current budgetary spending, the successful placement last summer of a DH 1 billion ($230 million) bond issue among the Moroccan public, and the introduction of credit restraints. Never- theless, for the full year, imports registered another sizeable increase, not matched by recovery of'export receipts, and the balance of payments cur- rent account-'reached an estimated $1.1 billion deficit (it was $0.5 billion in 1975). There was however an increase in the country's net foreign assets,  - 4 - as the current deficit was more than covered by increased net external capital inflows. Morocco drew on IMF facilities for a total amount of SDR 115 million in early 1976, and it considerably stepped up borrowings from Arab and commer- cial sources (see Annex 1, page 4). Since early 1976, when Spain relinquished its control over the Spanish Sahara, Morocco and Mauritania have extended their administration to this territory, the northern part being administered by Morocco. Detailed information is lacking to trace the impact of spending for former Spanish Sahara on government expenditures, imports and external capital inflows, but it appears that the substantial increments in government spending and imports for the Sahara were nearly offset by grant inflows from external sources. 11. For 1977, the trends in consumption demand, particularly for imported consumer goods, will have to be curbed further, and investment growth in the public and semi-public sectors may have to be significantly slowed, in order to keep developments in the internal and external financial situation under firm control. The Government has been introducing measures to restrain domes- tic demand. While 1977 would, with such measures, be a year of retrenchment by comparison with policies during the first four years of the 1973-77 Plan, tentative Bank estimates (Annex 1, page 3) indicate that overall performance of the economy would be satisfactory for the Plan period as a whole. They show that a rapid growth of investment (between 16 and 17 percent a year) would have been achieved, exceeding the original Plan targets for 1973-77. They also show relatively good gains in GDP (about 6 percent a year) and con- sumption (close to 3 percent a year per capita), despite the rather disap- pointing developments in real terms for the phosphate and agricultural sectors. Finally, national savings would have financed a larger share of 1973-77 investments than anticipated originally. A detailed review of the economy's performance during 1973-77 will be undertaken by the Bank next fiscal year, in conjunction with an assessment of Morocco's next five-year Plan (1978-82). Development Prospects 12. The Plan revisions that were introduced since 1975 have maintained or strengthened the investment programs designed to achieve the original economic and social objectives of the 1973-77 Plan. They have, in addition, greatly increased allocations for regional development, for low-cost housing, and especially for three industrial investment programs to be implemented over the next decade. These programs are a one-million ton steel mill and related infrastructure at Nador, a series of sugar mills and related irrigation devel- opment and several chemical units based partly on phosphate. Thus, the Plan revisions will have an important spill-over effect on the next 1978-82 Plan. 13. The general thrust of the Plan revisions seems justified. Indeed, the achievement of initial (especially social) Plan objectives is eminently desirable. Similarly, Morocco's economy has developed to a stage where some basic industries may find a justified place. The Country in particular possesses an obvious comparative advantage in the processing of phosphates,  - 5 - which would tend to stabilize export earnings. Similarly, it can produce at competitive cost steel and sugar which it would otherwise import, although cost competitiveness in both cases is difficult to assess because of volatility in international prices. The Plan revisions nonetheless raise several issues of importance for Morocco's long-term development strategy and prospects. 14. The present investment level is very close to the country's absorp- tive capacity. Although training efforts have been stepped up, it is likely that shortages of skilled and experienced manpower will continue to be a problem for some years to come. While for large industrial and infrastructure projects, Morocco can use foreign services extensively, this is costly and would not be a suitable solution to meeting the needs of smaller investments in large numbers. Further investments in steel and chemical industries will generate comparatively little direct employment opportunities for unskilled workers. 15. In addition, financial constraints may in future again restrain Morocco's overall development efforts. While there is scope for increasing phosphate exports, the prospects in the medium term are that the real price of phosphate will remain stable. Hence, Morocco's real capacity to save and import would be expected to increase only moderately. The pursuit of the objectives and policies to improve consumption levels of low income groups would also restrain national savings. Thus, in spite of likely efforts to in- crease budgetary savings and import substitution (particularly food), foreign exchange and national savings are likely to be constraints on investment during the next Plan period. 16. Bank staff projections which are preliminary since the Government has not yet fixed the 1978-82 Plan's objectives and strategy indicate that gross fixed investment could only grow slowly in view of limited resources available. Given the planned move into heavy industries, investment possibilities in other sectors would by necessity be limited. Assuming a real investment growth of about 3 percent per year and export growth of about 8 percent, which seems feasibile in view of market prospects and export capacity, GDP growth could probably average about 6 percent yearly during the 1978-82 period. Despite implementation of policies to restrain consumer goods imports and likely import substitution, Morocco would experience a sizeable resource gap, and need rela- tively large inflows of external capital to cover it and to service accumulated debt. External borrowing requirements on a commitment basis are tentatively projected to average $900 million per year in 1978-82, about two-thirds of which would be met by official multilateral and bilateral sources and the rest by commercial sources. Morocco has successfully increased external borrowings in 1974-76; loan commitments have risen to $550 million in 1974, $860 million in 1975 and $1.8 billion in 1976. Morocco should, therefore, be able to mobilize the amounts projected for 1978-82. 17. External debt and debt service would increase as a result of pro- jected borrowings. Debt outstanding and disbursed, which was $1.1 billion at the end of 1974 and an estimated $1.5 billion (19 percent of GDP) at the end of 1975 would rise to a projected $5.0 billion (or 24 percent of GDP) by the  - 6 - end of 1982. Similarly, debt service payments would rise from the low 8.3 percent of exports in 1975 to about 18 percent in 1982. Adding workers' remittances to exports, the debt service ratio was less than 7 percent in 1975 and would rise to 15 percent in 1982. These projected levels for debt and debt service would be high, but still within Morocco's debt carrying capacity, especially when considering the country's improved economic and social policies and its long-term export prospects, not only in phosphate rock and related products, but also in agricultural and industrial commodities for the European market. Beyond 1982, the relative burden of debt would prob- ably tend to decline gradually as Morocco benefits from anticipated supplier's market for phosphates and its resource gap consequently tends to diminish. Morocco is therefore considered creditworthy for further Bank lending. PART II - BANK GROUP OPERATIONS IN MOROCCO 18. Bank and IDA lending to Morocco has supported 32 projects, financing a total of $748.4 million (net of cancellations), of which $534.5 million has been lent since the beginning of FY73. IDA credits, totalling $50.0 million, have been made available for five projects. A Third Window loan for $25 mil- lion for the third education project was approved in March 1976. IFC invest- ments have amounted to $4.2 million. Annex II contains a summary statement of Bank loans, IDA credits and IFC investments as of March 31, 1977, and notes on the execution of ongoing IBRD/IDA projects. In some cases, delays have been caused by management or procurement difficulties, and in 1974 cost overruns increased due to accelerating inflation, which was in part caused by the up- surge of investment activity in Morocco. However, performance in project execution has considerably improved during the last two years. 19. Past Bank Group lending has been concentrated in the industrial and agricultural sectors, which together have accounted for 65 percent of total net commitments; the balance is accounted for by utilities (15 percent), tourism (9 percent), roads (6 percent) and education (5 percent). Apart from the transfer of resources to Morocco (Bank Group gross disbursements amounted to 5.5 percent of total fixed investment in 1970-74), the main objectives of lending were to foster and strengthen development institutions, provide tech- nical assistance, particularly for project preparation, and increase produc- tive capacity, particularly in order to improve the balance of payments. 20. While these objectives remain, emphasis is also being given to sup- porting the Government's effort to improve income distribution. An increasing share of Bank Group lending will be devoted to projects directly or indirectly developing the productive capacity of the lowest urban and rural income groups. 21. Past lending for agriculture has supported irrigation development, credit and, through a first operation in FY75, the improvement of the produc- tivity of rainfed farming. While continued lending for irrigation is envisaged, greater emphasis will be given to supporting the improvement of rainfed farm- ing, and lending will in general be focussed on support to small farmers. A  third agricultural project was recently approved. Projects for livestock/ rural development in the rainfed zones in northern Morocco, for developing production of fruits and vegetables on small holdings and for promoting in- tegrated rural development in selected regions of Morocco are being prepared. 22. Projects in industry and tourism have as key objectives increased foreign exchange earnings or savings and the improvement of sectoral policies. Continued lending for industry and tourism through two DFC's (Banque Nationale pour le Developpement Economique-BNDE and Credit Immobilier et Hotelier-CIH) will be proposed. In order to increase employment generation, projects sup- porting exclusively small-scale industry (SSI) are envisaged after sufficient experience in SSI lending is gained through the pilot project included as a component of the proposed loan to BNDE. Bank involvement in development of large-scale industries include a recently approved project for a construction of a cement plant in the less developed Northeast. In addition, the Government has requested Bank financing for a steel mill in the northeast Morocco. 23. An urban project is being prepared, which should contribute to devis- ing means to solving the problem of the rapid growth of slum areas. 24. Education is a critical bottleneck in Morocco's development. Two IDA credits have been made to develop secondary education and teacher train- ing and to improve technical and vocational training. A third project, with emphasis on improving facilities in rural areas, was recently approved by the Executive Directors. A fourth project with emphasis on technical and voca- tional training is under preparation. 25. Loan commitments from multilateral and bilateral official sources to Morocco rose from $92 million in 1973 to $425 million in 1974 and $538 million in 1975. In addition Morocco received grants totalling $40 million in 1973 and $42 million in 1974. The major sources of aid were France, Saudi Arabia, the UAE, the U.S., Germany and the Bank Group. 26. At the end of 1976, the Bank Group's share in Morocco's outstanding and disbursed external public debt was estimated at 13 percent. The share of the Bank Group in debt service was 20 percent in 1975 and an estimated 13 per- cent in 1976. By 1982 the Bank Group's shares in debt outstanding and in debt service are expected to be about 17 percent and 11 percent respectively, on the basis of the assumptions made for total external borrowings for the 1976-82 period (see paragraph 17). 27. IFC investments in Morocco to date amount to $4.2 million, of which $1.5 million was used for purchasing BNDE shares in 1962. IFC is now consider- ing a request by Temara Cement Company to assist in the financing of a new cement plant with a capacity of 600,000 tons p.a.  - 8 - PART III - THE INDUSTRIAL SECTOR 28. Manufacturing and processing industry account for about 13 percent of GDP in Morocco. During the first twelve years after Independence (1956) manufacturing output grew at 4.0 percent per annum and increased to 5.6 per- cent per annum during the Second Plan (1968-72). By the end of the Second Plan, the structure of the sector was heavily weighted in favor of consumer goods production, which represented 63 percent of total sectoral output, where- as industries producing intermediate and capital goods were less important (24 percent and 13 percent respectively). Exports by the manufacturing sector were based predominantly on domestic raw materials produced by agriculture and mining, and rose by 14 percent a year in 1968-72. The Third Plan (1973- 77) aimed at a growth rate for the industrial sector of about 10 percent through an acceleration of industrial exports, and also through continued im- port substitution in food processing, textile, metal working and chemical in- dustries. The Government sought to attain these objectives by providing generous stimuli for the private industry (such as the Industrial Investment Code promulgated in 1973, which includes a 2 point interest rebate on indus- trial loans obtained from BNDE, and income tax and custom duty exemptions, etc.) and by investing substantial amounts in the development of public and semi-public enterprises. The actual growth of the industrial sector as a whole in 1973-76 period is estimated at about 10 percent p.a. - in line with the Plan targets. 29. Investment in manufacturing and processing industry during the Second Plan period reached about DH 1.9 billion of which about 75 percent was accounted for by the private sector. Based on data for the first four years of the current Plan, it is estimated that the total industrial investment for the Third Plan could reach about DH 8.0 billion, 70 percent of which in the private and 30 percent in the public sector. Private investment in manufac- turing and processing industries (excluding construction and transport) increased from DH 754 million in 1973 to over DH 1,300 million in 1976. Public investment increased even more dramatically from DH 77 million in 1973 to at least DH 712 million in 1976. To stimulate capacity utilization, the Government successfully promoted exports of finished products (DH 795 million in 1975 compared to DH 426 million in 1972). A further increase of 10 percent in these exports is estimated for 1976. Efforts were also made to stimulate regional development, not only by directing public investment into regions other than Casablanca-Mohammedia where most of Morocco's industry is clustered, but also by substantially improving infrastructure which would in the medium and long term facilitate investments in less developed regions. The most notable examples of the regional diversification of industry are the building of sugar refineries, expansion of phosphate production and processing and of the cement industry, and the large-scale steel project which will be started 'n ate 1977. .1,. Recorded employment in manufacturing and processing grew from 225,000 in 1960 to 366,000 in 1971, an average growth of 3.3 percent, slightly slower than the growth of output. An important step in encouraging employment in manufacturing and processing was made through the 1973 Industrial Investment  - 9 - Code. Its incentives favor less-developed regions (for example, the tax holiday does not apply to Casablanca). Based on investments approved under the Industrial Investment Code, the average investment for job created in manufacturing in 1974-76 is estimated in the order of $20-25,000. 31. Small scale industrial enterprises (SSI) form an essential part of Morocco's economy. According to the 1969 industrial census, SSI enterprises (for definition, see para. 53) accounted for 75 percent of total industrial employment and over 40 percent of industrial value added. A Bank-sponsored survey (1975) of industrial activities which focussed on Casablanca and some other cities, indicated that the majority of SSI operate in textile and leather products, and metal working and fabrication. Other principal sectors were food processing, wood working, construction materials, electrical equip- ment, chemicals and rubber products. On the basis of the sample it is esti- mated that about half of the total enterprises surveyed employ less than 10 workers and are in fact handicraft enterprises. While handicrafts receive substantial Government support through a special investment code, training centers and export and marketing promotion, similar assistance is not avail- able to the SSI, and neither is long term credit and equity financing since banks are not yet adequately equipped to cater to them. The proposed project will in part attempt to provide or identify corrective actions. 32. The Government establishes the policy framework for the development of industry through its Ministry of Industry, acting in coordination with the Ministries of Finance and Plan, and with the Prime Minister's Office. It also participates directly in manufacturing activity. The Office Cherifien des Phosphates (OCP) is responsible for mining, processing and export of phosphates and derivatives, which has been reserved to the public sector because of its importance to the economy. The Industrial Development Office (ODI) is respon- sible for direct industrial promotion activities. ODI undertakes pre-investment studies, acquires equity shares in new industrial enterprises, and aims at con- tributing to regional development. Few of the projects promoted by ODI since its establishment in 1973 have yet come into production, and many are still under construction, including the cement project, for which a Bank loan has been recently approved. So far ODI has been fully dependent on the Treasury for its financial resources. It is expected that ODI will also play an active role in promotion of future SSI programs. PART IV - THE PROJECT 33. The Banque Nationale pour le Developpement Economique (BNDE), estab- lished in 1959, has received seven loans from the Bank totalling $141 million (net of cancellations). In 1962, IFC became a shareholder; it currently holds 7.5 percent of BNDE's equity. The most recent loan from the Bank, $30 million, was signed on December 20, 1974, and was fully committed by October 1976. Substantial resources have been mobilized from diverse sources (see para. 50) but BNDE still needs additional funds to meet growing demand for industrial  - 10 - credit. In addition, Bank financial and technical assistance is needed to carry out the SSI pilot project (see paras. 53-55). 34. A detailed description of the proposed project is given in the report entitled "Appraisal of the Banque Nationale Pour le Developpement Economique including a Small Scale Industry Component" (1505a-MOR) dated April 25, 1977, which is being distributed separately. A loan and project summary is attached in Annex III. The proposed eighth loan to BNDE was appraised in December 1976 and negotiations were held in Washington, D.C. in April 1977. BNDE was represented by Mr. Mustapha Farns, its President and General Manager, and the Guarantor by Mohamed Aissaoui of the Ministry of Finance. BNDE's Past Performance 35. Since its inception in 1959, BNDE has developed into a mature insti- tution making its investments on sound financial and economic criteria. It holds a key position in the term financing of industry in Morocco: in 1976 an estimated two thirds of all industrial term credit granted by the banking system and specialized financial institutions were provided by BNDE. 36. Management and Organization. BNDE's Board, on which several well- known international banks and institutions are represented, participates actively in the formulation of BNDE's lending policies. IFC is represented on both the Board and the Executive Committee. Mr. Mustapha Faris, former Finance Minister, was appointed President and General Manager in December 1972. Under his leadership, BNDE aggressively sought and obtained additional re- sources, and enhanced its developmental role in the Moroccan economy. 37. BNDE's professional staff is well qualified, adequately experienced and works effectively as a team. In line with the growth in its operations since the last appraisal in 1974, BNDE's staff has expanded from 48 to 60 professionals by end 1976, including four additional engineers recently re- cruited. Additional financial analysts, economists and engineers are pre- sently being hired in order to further improve BNDE's technical appraisal work and carry out more frequent supervision of projects. BNDE's performance in project evaluation has been satisfactory. BNDE will calculate the economic rate of return for all Bank financed projects (except SSI) as well as for other projects involving direct loans in excess of DH 5.0 million. 38. Resources. Since the previous Bank appraisal in mid-1974, BNDE's total outstanding resources have increased by 124 percent -- from DH 786 mil- lion to DH 1,763 million by the end of 1976. In 1975 BNDE mobilized resources amounting to DH 678.4 million (DH 34.4 million in new share capital, DH 474 million in foreign borrowings, and the remaining DH 170 million in local bor- rowings). In 1976, largely for reasons beyond its control (such as a Government domestic bond issue of DH 1000 million made necessary by increased budgetary expenditures, and a large Eurodollar borrowing by the Office Cherifien des Phosphates) BNDE managed to contract only DH 313 million in new resources (of which DH 273 in foreign exchange) which left it with a resource gap (on a commitment basis) of DH 168 million at end 1976.  - 11 - 39. The Bank has been successfully pressing BNDE to continue to diversify its resources and to rely less on Bank funds. The share of Bank funds in its total resources outstanding amounted to 61 percent by end-1972, 42 percent by mid-1974, 20 percent by end-1976 and is expected to decline further to about 13 percent by the end of 1978. At the same time, BNDE has been successful in borrowing from institutions in Arab countries; the share of such borrowings in BNDE's total resources outstanding increased from 1.4 percent by mid-1974 to 18 percent by end 1976. Diversification of its resources will remain one of the main objectives of BNDE's future resource mobilization policy. In order to meet its resource needs, BNDE has had to resort to floating rate Eurodollar borrowings, which in 1976 represented about 10 percent of its total resources outstanding. Balancing such borrowings with other types of resources is one of the key aspects of BNDE's resource mobilization strategy (see paragraph 50). 40. Interest Rate. BNDE's nominal lending rate (applicable to medium- and long-term loans) increased from 7 percent in 1971 to 10 percent at present: to this, various charges amounting to a further 1 percent of the outstanding loan amount are added by BNDE. The effective rate paid by the industrial sec- tor, however, is 9 percent because of the 2 percent rebate provided by the Government under the Industrial Investment Code. In addition, BNDE plays a major role in the distribution of medium-term industrial loans by commercial banks, which do not have the benefit of the 2 percent rebate, but are redis- countable with the Central Bank (currently at 4.5 percent) if appraised and approved by BNDE. These loans have terms up to five years and come to the borrower at an effective cost of 8 percent (regulated by the Government), to which about 1 percent is added for various charges (of which 0.75 percent is BNDE's commission). The primary risk of default is borne by the commercial bank. 41. With the future average cost of its resources (excluding Bank and local funds) conservatively estimated at 9 percent (6.5 percent in 1976), BNDE agreed to increase by September 1977 its nominal rate for loans with maturity of 7 or more years from 10 percent to 11 percent p.a. (see Supplemental Letter circulated with the legal documents). The effective rate paid for such loans by the industrial sector would thus increase to 10 percent (after allowing for the 2 percent rebate and adding 1 percent for various charges). This increase would enhance BNDE's profitability while allowing it comfortable levels of re- serves and thus help attract foreign capital. It would also result in a sig- nificantly positive interest rate paid by BNDE's borrowers. For reasons of com- petitiveness, the rate increase would not apply to direct medThtex=m4nans with maturities up to 7 years. 42. BNDE's Operations. From the start of BNDE operations in 1959 to end- 1973, BNDE approved 1,116 operations for a total of DH 1.7 billion, of which about 40 percent consisted of direct long-term loans; another 40 percent com- prised rediscountable medium-term loans extended by commercial banks, which BNDE appraised and approved. The remainder consisted of direct medium-term loans, equity participations and guarantees. Operations increased substan- tially during the 1974-76 period: a total of DH 2.75 billion was approved for 920 projects with long-term loans absorbing DH 1.6 billion (58 percent of the total), medium-term loans DH 264 million (10 percent), medium-term rediscount- able loans DH 850 million (31 percent) and equity investments DH 33 million  - 12 - (1 percent). Almost half of these resources (DR 1.3 billion) was absorbed by 37 loans, each exceeding DH 10 million. Over 60 percent of all loan amounts approved had a term of 9 or more years. New projects and extensions of exist- ing operations have absorbed approximately equal amounts of resources. (During the 1959-73 period, the number of extensions exceeded substantially the number of new projects. It can be thus assumed that during the 1974-76 period the Government's investment incentives have helped to start a substantial number of new industries.) Public enterprises absorbed about 55 percent of the total DH 2.75 billion in loans approved from 1974-76, as compared to 25 percent in the 1959-73 period. 43. Changes in BNDE's lending activity, such as increased lending for large-scale enterprises, for fishing and transport, and the need to improve the economic analysis of such projects were reviewed during the appraisal. In regard to large-scale projects, BNDE can contribute its financial, economic, and technical expertise provided that it is involved at an early stage of proj- ect preparation, which in the past was not always the case. To rectify this, BNDE agreed not to consider financing large-scale projects brought to its attention after the engineering contract has been completed or the construc- tion contract signed. 44. Economic Impact of BNDE's Operations. BNDE's loans approved from 1974 to 1976, totalling DH 2.75 billion (para. 42) are estimated to have as- sisted total investment in the order of DH 6.4 billion which could provide 50-55,000 new jobs. Of all sectors, the food and beverages industry received the largest number of loans (180 loans, amounting to DH 304 billion or 11 percent of all amounts approved by BNDE in that period). About 67 percent of total BNDE loans was absorbed by chemical, mechanical, textile and miscel- laneous manufacturing industries; 29 percent of loan amounts was absorbed by transportation and 4 percent by fishing. 45. Financial Situation. BNDE's income statements and balance sheets (detailed in Annexes 12-13 of the Appraisal Report) indicate that it has increased its total assets from DH 489 million at the end of 1973 to about DH 1,521 million by end 1976. A major increase in term borrowings brought BNDE's total debt equity ratio to 9:1 by end-1975 and to 10.5:1 by end 1976. However, its debt/equity ratio calculated on the basis agreed with the Bank, where equity includes quasi-equity (i.e. long-term Treasury loans), remained below the maximum limit of 7:1. In line with the seventh project Loan Agree- ment 1061-MOR, the term debt/equity ratio, excluding any reference to quasi- equity, will be limited to 10:1 from January 1978 onwards. 46. Operating results reflect a satisfactory profitability. Profits before tax (including allocations to reserves and provisions) as a percentage r` average net worth increased from 16.6 percent in 1973 to 23.3 percent in '315 and to 27.2 percent in 1976. Net profits have increased from 6.8 percent . 1973 to 8.9 percent in 1975 (as a share of average net worth). BNDE's shareholders received an 8 percent dividend in 1973-75. The book value of shares amounted to 157 percent of the par value at end-1976.  - 13 - 47. As of end-1975, BNDE's portfolio comprised 243 term loans, amounting to DH 909 million, of which 52 percent was guaranteed by the Government through Caisse Centrale de Garantie. These guarantees, as well as other banking con- sortium guarantees (i.e. for leasing companies) are additional to normal securities taken by BNDE, such as mortgages. As of December 31, 1975, total arrears of principal and interest in excess of three months amounted to DH 44.6 million. Total portfolio affected amounted to DH 110.5 million, i.e. 12.2 percent of total portfolio outstanding at end-1975. In the opinion of its auditors, BNDE's provisions for losses of DH 12 million are adequate and the quality of BNDE's loan portfolio is reasonably good. 48. BNDE's Performance under Loan 1061-MOR. BNDE's overall performance under the seventh loan (1061-MOR approved in 1974) has been very satisfactory. To maintain a strong equity base, BNDE doubled its share capital, while also increasing its interest rate by 1 percent to better approximate the real cost of funds. Commitments and disbursment of the loan proceeds were generally in line with the appraisal estimates. Forty-three sub-projects were financed (total capital cost DH 413.3 million) and about 2,300 jobs were created at an average cost of about $41,000 per job. The high cost per job is explained by the fact that a large number of Bank-financed subprojects comprise expansion and/or modernization of existing enterprises, in which case the job-creation effect is relatively limited. Appraisal and supervision procedures in project implementation were satisfactory. BNDE's Prospects 49. Operations. Industrial growth is expected to remain as one of the prime objectives of the next (1978-82) Development Plan. Based on a pipeline of 60 projects requiring at least DH 1.4 billion in direct term loans, BNDE expects its business to grow at about 8 percent per annum (in current terms) in the next few years. Total loan approvals are presently estimated to reach DH 3.4 billion in 1977-80 (DH 2.0 billion in 1973-76). Equity participations are estimated at DH 55 million (DH 42 million in 1973-76). 50. Resources. BNDE's resource requirements for 1977-79 are estimated at DH 2,158 million ($480 million equivalent), which would be provided from different sources: DH 450 million from the Eurodollar (floating rate) market, DH 370 million in loans and credits from Spain, DH 300 million from the domestic bond market, DH 250 million (tentatively) from the Kuwait Fund and Arab Fund for Social and Economic Development, DH 145 million in internally generated cash, DH 70 million in increased share capital (special condition of effectiveness) and DH 203 million from the proposed Bank loan. An addi- tional DH 370 million will be required, mostly in the second half of 1979. It would be premature at this time to expect BNDE to identify firm sources of lending for this amount. However, no difficulties are expected by BNDE in securing the necessary resources on time. In preparation of the above plan, the BNDE management has sought to keep a balance between fixed and floating interest loans, with the later amounting to about 21 percent of the total resources to be contracted in 1977-79, which is considered reasonable. On the basis of the projected Eurodollar holdings, BNDE could support an interest  - 14 - rate on Eurodollar borrowing of 12 percent for more than a year without seriously affecting its financial position. (While the present Euro- dollar rate is 7-1/2 percent per annum, a rate of 9 percent per annum has been used for the financial projections). BNDE will consult with the Bank on any substantial change that may be necessary in the resource mobilization plan described above. 51. Financial Situation. BNDE's projected financial position during 1977-81 would be generally satisfactory. Its assets are expected to increase from DH 1.5 billion by end 1976 to DH 2.5 billion by end 1979 and DH 3.1 bil- lion by end 1981 mainly on account of the expected increase in net equity and loan portfolio. The 10:1 term debt-equity ratio will again be a condition of the loan agreement (Section 4.06 of draft Loan Agreement). BNDE also agreed tU WafilLtall at all times a debt service coverage ratio of at least 1:1. The projected debt service coverage ratio for 1977-81 is substantially in excess of 1:1 for all years except 1977, when the short-term borrowings contracted in 1976 must be repaid. Profit before taxes and allocations to reserves and provisions are expected to grow from 19.4 percent of average BNDE equity in 1978 to 28 percent in 1981, after'experiencing a dip in 1977 and 1978 follow- ing a doubling of share capital. Net profits amounting to 6.9 percent of average equity in 1976, will decline to about 5.5 percent in 1978 (in part due to doubling the share capital) but would recover to about 10.3 percent of average equity in 1981. No problem is anticipated in BNDE's maintaining an 8 percent dividend- as projected, -th-roughout the period. Terms of the Proposed Loan 52. There would be a ceiling of $4 million on the use of the loan for any single project. BNDE's total exposure in any single enterprise financed with Bank funds should not exceed $6 million. Not more than 40 percent of the loan proceeds would be used for public sector projects (Section 3.01(b) of draft Loan Agreement). The free limit would be raised to $2 million ($900,000 under the previous Agreement). As in the past, the foreign exchange risk would be assumed by the Central Bank. BNDE is to submit its audited accounts to the Bank within six months of the close of each financial year (Section 4.01(a) of draft Loan Agreement). Small-Scale Industry (SSI) 53. $5.0 million of the proposed loan would finance an SSI pilot project (Section 2.02 (b) of draft Loan Agreement). For this purpose, SSI is defined as an enterprise employing 10-50 persons, with annual turnover not exceeding DH 7.5 million and total gross assets not above DH 5.0 million (Schedule 3 of draft Loan Agreement). The investment cost per job created in SSI should not exceed the equivalent of $5,500, which the Bank analysis indicates as a suit- able maximum cost per job in programs to benefit the urban poor in Morocco. The $5.0 million would be tentatively allocated as follows: (i) $0.3 million for BNDE's participations in equity of SSI; (ii) $1.7 million to finance esti- mated foreign exchange costs (i.e. up to 65 percent of the total investment cost) of direct BNDE loans to SSI; and (iii) $3.0 million to be relent by BNDE to Banque Centrale Populaire (BCP) to finance the import component of the  - 15 - medium-term credits that the latter bank would grant to SSI. (The relending mechanism is outlined in para. 55). BCP is the largest Moroccan bank pre- dominantly serving SSI. Since it lacks experience in term investments, as well as in Bank procedures, BNDE would act as an intermediary for this loan component, refinancing BCP subloans from the proceeds of the Bank loan. An agreement to that effect between BNDE and BCP would be a condition of disburse- ment of the SSI component of the project (Section 2.04 of draft Loan Agreement). It is estimated that up to about 40-50 SSI subloans will be financed under the pilot project and that the resources provided would be additional to those normally available to SSI. 54. The main objective of the pilot project is to gain experience that would permit larger projects to be prepared aimed at developing SSI in Morocco. The pilot project would be limited to the urban centers with the largest con- centration of SSI (Casablanca, Fes, Marakesh) and the strongest SSI subsectors (mechanical and electrical manufacturing, textile, leather, and food products); these areas would also be the subject of a sector study (to be financed by BNDE, with participation of the Bank -- Section 3.07 of draft Loan Agreement) which should primarily assess SSI needs and potential, and propose an action plan for technical assistance to SSI. BNDE, BCP and the Ministry of Commerce and Industry are expected to provide technical assistance to SSI in the appraisal and supervision of the pilot project. 55. During the pilot phase the interest rate for SSI subloans would re- main at 8 percent per annum, in line with the interest rate currently charged on medium-term loans to SSI. The Government has so far maintained, and the Bank agreed, that it would not consider an increase in interest rates to SSI before the pilot project and the SSI sector study have been completed and evaluated. In order to permit BNDE and BCP to cover their expenses and secure a modest margin, the Treasury wil provide funds to reduce to 5 percent the cost of Bank funds to BNDE for the $3.0 million BNDE/BCP portion of the SSI pilot project, which BNDE would then relend to BCP at 6 percent p.a. (Section 3.03 of draft Guarantee Agreement). This would leave BNDE with a 1 percent and BCP a 2 percent gross margin. The subsidy from the Treasury for direct BNDE loans to SSI ($1.7 million of Bank loan proceeds) would be 2 percent p.a. No subsidy is envisaged for equity participations. PART V - LEGAL INSTRUMENTS AND AUTHORITY 56. The draft Loan Agreement between the Banque Nationale pour le Developpement Economique, the draft Guarantee Agreement between the Kingdom of Morocco and the Bank, a draft Supplemental Letter, the Report of the Com- mittee provided for in Article III, Section 4 (iii) of the Articles of Agree- ment and the text of 'the resolution approving the proposed loan are being distributed to the Executive Directors separately. The draft agreements con- form to the normal pattern for development finance companies.  - 16 - 57. Features of the Agreements of special interest are described in Annex IV of this report. As a specific condition of effectiveness of the proposed Loan Agreement, BNDE should increase its share capital to at least DR 140 million and have the increase fully subscribed by the effectiveness date (Section 6.01 of draft Loan Agreement). Specific conditions of dis- bursement for part of the project to be implemented jointly by BNDE and BCP ($3.0 million for SSI) is the signing of a convention between BNDE and BCP (Section 2.04 of draft Loan Agreement). 58. I am satisfied that the proposed loan would comply with the Articles of Agreement of the Bank. PART VI - RECONMENDATION 59. I recommend that the Executive Directors approve the proposed loan. Robert S. McNamara President May 6, 1977  TABLE 3A l4" I of 4 pages MOROCCO - SOCIAL I NDICATORS DATA SHCET LAND AREA ItHOU KL21 - -