Colombia - Magdalena Valley Railroad Extension Project

R E S T R I C T E D FILE Copy Report No. P 87 This document was prepared for internal use in the Bank. In making it available to others, the Bank assumes no responsibility to them for the accuracy or completeness of the information contained herein. INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT REPORT AND RECOMMENDATIONS of the PRESIDENT to the EXECUTIVE DIRECTORS on a PROPOSED LOAN to the FERROCARRILES NACIONALES DE COLOMIBA for a RAILROAD EXTENSION PROJECT in COLOMBIA June 7, 1955  INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPiENT REPORT AND RECO021ENDATIONS ilF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN TO T1E FERROCARRILES NACIONJLES DE COLOIBIA FOR A RAILROAD EXTENSION PROJECT 1. I submit herewith the following report and recommendations on a proposed loan of i15.9 million to the Ferrocarriles Nacionales de Colombia to assist in construction of an extension of the Magdalena ValleyRailroad0 PART I - HISTORICAL 2. On August 26, 1952, the Bank made a loan of $25 million to the Republic of Colombia (68Co) to assist in financing the foreign exchange cost of constructing a railroad in the Valley of the Magdalena River and of constructing and equipping central repair shops as part of a broad program being carried out by the Colombian Government for improvement of the Colombian national railroads, 3. The dual objective of the new railroad was: (a) to provide a river- rail route from the Caribbean Coast to the interior by providing railroad transportation along the part of the Magdalena River where river traffic was subject to serious interruption during dry seasons, and (b) at the same time to furnish a connecting link between the country's twvo separate eastern and western railroad systems. 4. Construction of the new line has progressed slowly due to initial engineering and administrative problems which are now being overcome. p,JITork is about 40L complete and the line is scheduled to be in operation by the end of 1957, a year behind the original schedule. '.Tork on the repair shops has been temporarily postponed pending a decision on the location of shop facilities. According to the latest estimates, the total cost of the project, generally referred to as the MVRR (Magdalena Valley Railroad) Project, amounts to the equivalent of about $4~6 million. 5. Ps of May 1, 1955, disbursements under Loan 68Co amounted to $8.8 million. Repayment of the loan, which is for 25 years with five years of grace, is scheduled to begin on August 15, 1957, and should be completed by February 15, 1978. 6. In accordance with the terms of the Loan Agreement, the Colombian Government has embarked upon an extensive administrative, financial and operational reorganization of the railroads. The Madigan-Hyland South American Corporation of New York has been acting as consulting engineers to the Government and the railroads in connection with the reorganization. Perhaps the most important measure taken thus far has been the establishment in December 1954, of the Ferrocarriles Nacionales de Colombia (National Railroads of Colombia), an autonomous non-political official enterprise to  -2- operate the national railroads. Under Loan 68Co, the Colombian Govern- ment obligated itself to establish such an organization within six months after the effective date of the Loan. However, because of changes in government and in the Ministry of Public Works, two years elapsed before the new enterprise was created. The new organization should provide the railroads with a more autonomous management than was previously possible when the railroads were under the Ministry of Public Works and permit the administration of the railroads on a financially self-supporting basis. The government assumed all the long-term debt of the predecessor organization, except the MVRR Loan, the servicing of which remains an obligation of the new organization. Prior to the creation of the new organization, the administrative and financial re- organization met with considerable difficulty and delay, but since the new enterprise was established, the new Board of Directors has accelerated the needed reforms. 7. In late 1953 the Government began consideration of a project to extend the MVRR to the Caribbean Coast instead of stopping as originally planned at Gamarra. A study by consulting engineers of the economic and engineering feasibility of the proposed extension was completed in July 1954 and the Bank was asked to help finance the project. 8. Formal negotiations opened in Washington on April 11, 1955, vwith Dr. Luis Gomez Silva and Dr. Carlos Hernandez, representing the Ferro- carriles Nacionales de Colombia, and Dr. Jorge Pena Polo, representing the Ministry of Public 'Works. 910 If the proposed loan for $15.9 million is made, the total amount of Bank loans to Colombia will be the equivalent of $90.7 million, net of cancellations. The Bank has already made the following loans to Colombia: $5.0 million 7-year 32% loan of August 19, 1949, to Caja de Credito Agrario, Industrial y Minero for Agricultural machinery; reduced at request of borrower on April 2, 1951, to $4.9 million, which had been disbursed by February 1951. $3.5 million 20-year 4% loan of November 2, 1950, to Central Hidroelectrica del Rio Anchicaya, Limitada, for power development. Fully disbursed by March 1955. $2.6 million 20-year 4% loan of December 28, 1950, to Central Hidroelectrica de Caldas, Limitada, for power development. Fully disbursed by July 1953. $16.5 million 10-year 3-7/88 lcan of April 10, 1951, for highway construction and rehabilitation. $2.4 million 20-year 45%g loan of November 13, 1951, to Central Hidroelectrica del Rio Lebrija, Limitada, for power develop- ment. Fully disbursed by July 19-54. $25.o million 25-year 4-3/4%loan of August 26, 1952, for con- struction of the Magdalena Valley Railroad and for con- struction and equipment of central repair shops.  - 3- 14.4 million 10-year 4 3/4% loan of September 10, 1953, for highway rehabilitation and maintenance. $4.5 million 20-year 4 3/4% loan of M1-arch 25, 1955, to Central Hidroelectrica del Rio Anchicaya, Limitada, for power development. ,z5.0 million 7-year 4 1/4% loan of December 29, 1954, to Caja de Credito Agrario, Industrial y Minero for agricultural machinery. Total 4178.8 million net of cancellations. PART II - DESCRIPTION OF THE PROPOSED LOAN Borrower lO. The Borrower would be the Ferrocarriles Nacionales de Colombia. Guarantor 11. The Guarantor would be the Republic of Colombia, a member of the Bank. Amount 12. The loan would be in an amount in various currencies equivalent to 01 .9 million. Purpose 13. The proceeds of the loan would be used to provide the Borrower with the foreign currency required for: a. construction of approximate'y 300 kilometers of single-track yard-gauge railroad line from Gamarra, the northern terminus of the M RR now under construction, to Fundacion, the southern terminus of an existing railroad to the Caribbean port of Santa 1Marta; b. improvement of alignment, grades, tracks and bridges on approximately 95 kilometers of the railroad between Fundacion and the Port of Santa Marta; c. installation at Cienaga on the railroad line between Fundacion and Santa Marta of a terminal to transfer goods between freight cars and trucks and construction of a railroad terminal at the Port of Santa Marta. d. purchase of locomotives, freight cars and passenger coaches for the new line betveen Gamarra and Santa Marta. e. acquisition of tractor-trailer units to be used for road haulage over the highway from Cienaga to the port of Barranquilla, and  f. installation of ferry slips and the purchase of craft for ferry service across the Magdalena River to and from the Port of Barranquilla. 14 The project is part of a larger program of railroad capital expendi- tures of 227.9 million pesos ($91.2 million) in 1955-1957* The total cost of the project will be 70.8 million pesos ($28.3 million). Included in the rest of the program will be the completion of the MVRR, the purchase of re- lated rolling stock, the construction and equipment of the railroad shops, and some track rehabilitation and renewals of existing rolling stock. The proposed loan plus the undisbursed balance of Loan 68Co (a total of $32.5 million) would cover about one-third of the total cost of the estimated capital expenditures in the program. The Government is prepared to provide the balance in the form of advances repayable by the Railroads out of net earnings (after due account has been taken of operating and maintenance costs, fixed charges, depreciation and necessary reserves, workirg capital and requirements for equipment and improvements). Interest, Commission and Commitment Charges 15. The loan would bear interest at the rate of 4-3A4% per annum, includ- ing the statutory commission of 1%. The commitment charge would be 3/A of 1% per annum and would accrue from the Effective Date of the Loan Agreement or 60 days after the Loan Agreement is signed, whichever is earlier. Amortization 16. The loan would be for a period of 25 years; it would include a period of grace until November 1, 1958. The loan would be amortized by approximately equal semi-annual principal and interest payments of 4586.oo0 beginning November 1, 1958, and ending May 1, 1980, as set out in Schedule 1 of the proposed Loan Agreement. Legal Instruments and Legal Authority 17. A draft Loan Agreement between the Ferrocarriles Nacionales de Colombia and the Bank and a draft Guarantee Agreement between the Republic of Colombia and the Bank are attached (No.1 and No.2 respectively). The following are points of special interest: a. Under the terms of the loan made to the Colombian Government for IvVRR (68co), the Government and not the Railroads has the ultimate responsibility for constructing the MVRR. and for carrying out the rehabilita- tion of track and rolling stock included in the program described in Loan Agreement 68co (Paragraph I(b) of Schedule 2). On the other hand, the pro- posed loan would be made to the Railroads, which would then have the respon- sibility for carrying out the railroad extension project. Since the rail- road extension project and program (Schedule 2 of the proposed Loan Agree- ment and Schedule 1 of the proposed Guarantee Agreement) are closely related to the DAMRR project and program described in Schedule 2 of Loan Agreement 68Co, the execution of both projects and programs must be coordinated. It is intended to do this by transferring the administrative responsibility for the MVRR project and for the rehabilitatiQn program to the Railroads. Since  - 5 - the new enterprise does not have the necessary staff and organization, the Railroads will have the Colombian Ministry of Public Works supervise the construction of the 71':V15RR and the railroad extension in behalf of the Rail- roads, but all construction and other contracts will be placed in the name of the new enterprise. To carry out these intentions, the proposed Loan Agreement provides (1) for the coordination of the administrative, procedural and financial arrangements for carrying out the old and the new projects (Paragraph II of Schedule 2 of Loan Agreement 68Co and Section 7.01(b) of the proposed Loan Agreement), and (2) for turning over to the Ferrocarriles Nacionales de Colombia responsibility for carrying out the rehabilitation of track and rolling stock included in the program described in Loan Agree- ment 68Co (Paragraph I(b) of Schedule 2 of Loan Agreement 68Co and Section 7.01(a) of the proposed Loan Agreement). b. Section 5.09 of the Loan Agreement'is designed to channel the limited administrative and financial resources of the Railroads during the period of construction primarily to the program which the Bank is helping to finance. The Railroads are to prepare annual capital expenditure budgets. During the period of construction of the projects being financed by the Bank's loans, these budgets must be approved by the Bank, and the Railroads covenant not to make capital expenditures for purposes or in amounts not included in approved budgets. Thereafter, the Railroads will consult with the Bank and agree not to undertake capital expenditures to be financed by borrowing un- less they have a plan for liquidating any proposed indebtedness in accordance with sound financial practices. c. Section 5.10 of the Loan Agreement requires that the Borrower shall order the rolling stock needed for the extension project (which would be financed from the proposed loan) and the TMVRR project (which the Colombian Government is obligated under Loan Agreement 68Co to finance from its own resources) before the end of 1955. This is to ensure that adequate rolling stock will be avilable by the time the new line is ready for operation. d. It is essential that construction by the government of certain additional public works (port expansion at Santa Marta and a highway connec- tion between Cienaga and Barranquilla) be coordinated with construction of the railroad extension project. The Guarantee Agreement therefore contains covenants for the carrying out of those puiblic works by the guarantor similar to the usual project covenants applicable to a borrower (Guarantee Agreement Schedule 1 and Section 3.01). e. As in the case of the supplemental highway loan to Colombia (84co), the proposed loan would be authorized by an extraordinary decree issued under the existing state of siege in Colombia (see Secretary's Mtemo No. 1-160 dated lNovember 15, 195h). A decree would be required to authorize the guarantee by the government and also to authorize the carrying out of the railroad extension project and of the additional public works described in the Guarantee Agreement. If at the end of the state of siege the construc- tion of the project or of the additional public works had not been completed, congressional action would be required to authorize completion of the work. As in the supplemental highway loan, the obligation of the Railroads under the Loan Agreement and of the government under the Guarantee Agreement to  -6- carry out the project and the public works program would continue to be valid ones, but the power to do so might be lacking. If necessary congressional authorization were not given at the time, the Bank would have the option to suspend withdrawals or to premature the loan (Loan Agreement Sections 6.01 and 6.02). 18. T'he report of the Committee provided for in Article III, Section 4 (iii) of the Articles of Agreement is attached (No. 3). PART III - APPRAISAiL OF THE PROPOSED LOAN 19. A detailed appraisal of the project (T.O. 85) is attached (No. 4). Justification of the Project 20. The extension will provide a through railroad connection from the Caribbean coast to the important centers of the interior and will eliminate the necessity of trans-shipping freight to and from river barges. This should result in faster and more reliable movement of freight and increased earnings for the Railroads. In addition, it should promote agricultural development in the region traversed. Method of Procurement 21. The rolling stock, rail and bridges bought abroad to carry out the project will be acquired on the basis of international bidding. Construction equipment bought abroad will be acquired under arrangements which take into account the desirability of standardization, the supply of spare parts, and the availability of service facilities. Construction contracts will be on a unit-price basis and will be open to international bidding. Contractors and consultants satisfactory to the Bank will be selected. Economic Situation 22. Colombia's natural economic resources and the progress made in developing them were outlined in Economic Report W.H. 33a, circulated in November 1954. Economic policies and prospects in Colombia are strongly influenced by the course of world coffee prices, since coffee accounts for over 80% of exports. The economic report indicated that since the end of World War II rising coffee prices had stimulated the economy and had facili- tated its development. It said also that export receipts from coffee could not be expected to continue rising steeply, and that therein lay an impor- tant change of trend for the economy. It held nevertheless that prospects for further economic advance were good, provided Colombia was determined to avoid inflation and to make the best use of its productive resources. 23. Viewed in May 1955, long-term prospects for the economy remain favor- able. In the short term Colombia faces a difficult period of adjustment due to the fall in coffee prices, from a peak New York price of over 90 cents a pound for Manizales coffee in March 1954 to just over 70 cents in August and  - 7 - around 60 cents at present. Towards the end of 1954 the fall in foreign exchange earnings as coffee prices fell, and the continuing high level of imports, caused the authorities to suspend the sale of foreign exchange to importers, and to buy $25 million from the ITF. 24. Sales of foreign exchange were resumed in January and most of the accumulated debts of importers were soon liquidated. Imports remained high, however, in spite of a doubling from 40% to 80% of the tax on less essential items. In February the government took further measures to restrain imports0 They introduced a prohibited list and raised the tax on some less essentials to 100%, at the same time imposing taxes on all other imports at rates vary- ing up to 80%. In the meantime reserves of gold and foreign'exchange have fallen by over $100 million from the $250 million of December 31, 1954. 25. Adjustment to a lower level of export earnings is now severely test- ing Colombia's basic economic policies. In response to this test the authori- ties took commendable measures on April 13 last to control expansion of bank credit. Compulsory cash holdings of commercial banks were to be raised (in two steps of 22% each) from 18% of demand deposits and 8% of time deposits to 23% and 13%; in addition, for deposits exceeding those at April 13, banks must hold a further 40% in cash. These measures had an immediate effect in restricting credit, and their influence was reinforced by income tax payments which became due in May. Credit became so tight that cash requirements have now been returned to 18% and 8% as from May 18. It is difficult to Judge, so soon after the event, whether this latest step, in easing bank credit, is premature. Judging by past performances, however, it is reasonable to believe that the Colombian authorities will be prepared to restrict credit again if demand for imports c-ntinues to outrun foreign exchange earnings. 26. In the governmentts budget there is a possibility this year of a deficit. Over the past few years Colombian public finance has not generally added to inflationary pressures, Although in 1954 the government budgeted for a deficit, to be financed by the central bank, revenues were in fact greater than the estimates and central bank credit was not drawn upon. The 1955 budget also anticipates a deficit (equivalent to about 13% of current revenue) to be financed in the same way. It cannot be expected this year that revenue will greatly exceed estimates, so a deficit is likely unless expenditure proposed in the budget is reduced. 27. On IMay 13, 1955, the Colombian authorities, in agreement with the IMF, extended the scope of the free foreign exchange market so as to unify three exchange markets - the legal free market, the "export voucher" market and the curb (or black) market. Formerly, operations in the free market were confined mainly to sales of gold, tourist receipts and expenditures and the export of Colombian-owned capital in excess of that allowed by the exchange control. Now, under the new regulations, foreign capital imports, exchange earnings for many services and receipts from minor exports may be sold in the free market. Exchange for less essential imports (those in the second, third and fourth categories) must now be purchased in the free market. Free market rates had been, 3.80 to 3.90 pesos to the U.S. dollar, compared with the official fixed rate of 2.50. Fixed exchange rates will still apply to over 903 of exports and 80% of imports;  - 8 - the wider application of the free rate is nonetheless evidence of the govern- ment's desire to face up to the challenge of economic adjustment caused by lower coffee prices. 28. In economic report W..H. 33a service on Colombia's public external debt was said to reach a peak of $632.3 million in 1955. The report stated that foreign suppliers of capital goods had probably extended credits to departments or municipalities, thus increasing the external debt, but to an unknown extent. Information recently supplied by the Colombian Government shows that service on medium-term public debt not included in any earlier debt statement will average around $9 million a year over 1955-57. This means that service on total public external debt as now known (including the loan now proposed) will average about $h2 million over the next three years and will fall sharply thereafter. This represents about 9% of exports on the assumptions expressed in economic report W.H. 33a which were: coffee prices at 50 cents a pound, a volume of coffee exports equal to the average volume of the last three export years, and other exports at their 1953 values. It should be noticed that the economic report went on to say: "The assumption about volume of coffee exports is cautious. The price assumption is at pres- ent (October 195h) reasonably realistic and prudent, but in view of the un- certainties of coffee prices it could soon become invalid." Changes in coffee prices since last October do not make it necessary at present to alter these assumptions; but clearly it is still true that the price assump- tion could soon become invalid. Nevertheless, for a country with Colombia's economic prospects service on present debt and on the loan now proposed is not excessive. 29. There has been no important political change in the Administration. of Lieutenant-General Gustavo Rojas Pinilla since his election by the Con- stituent Assembly to a four-year term in August 1954. Although unsettled conditions were recently reported in one area and the state of siege con- tinues, the general political situation is tranquil. Prospect of Fulfillment of Obligations 30. The outlook is favorable for satisfactory execution of the project and operation of the facilities once construction is completed. The con- tinuing efforts which are being made for improvements in organization and operation of the railroads evidences the willingness of the Government and the Railroads to take necessary measures. The new Board of Directors of the Railroads appears capable and the results of its first few months of activity have been encouraging. 31. One of the principal objectives of the reorganization measures is to have the railroads show an operating profit. This should be possible once the new route to the Caribbean is in service. Rates on the present lines are considered adequate to produce satisfactory revenues, but operating costs need to be reduced. It is estimated that the new line will be profit- able from the start and will increase the earning power of the national railroads. The Loan Agreement (Section 5.07b) provides that the borrower shall maintain its financial position in accordance vrith sound business and  - 9 railway practices, and (Section 5.09) requires that capital expenditures be made only after careful consideration of their effect upon the financial position of the railroads. Meanwhile, the Guarantor undertakes to provide the Borrower with any funds which may be needed in order to complete the project and to carry out the public works program (Sections 2.02 and 3.01 of the Guarantee Agreement). 32. I believe that there are good prospects that the Borrower will be able to meet its obligations and to provide the local currency needed to purchase the foreign exchange to service the loan. I am also satisfied that the economic condition of the Guarantor is such that Colombia should be able to maintain the service of this loan in addition to the service of t-s exist- ing debt. PART IV - COMLIANCE WITH THE ARTICLES OF AGREEIENT 33. I am satisfied that the proposed loan would comply with the require- ments of the Articles of Agreement of the Bank. PART V - RECOMI.ENDATIONS 34. I recormend that the Bank make to the Ferrocarriles Nacionales de Colombia, with the guarantee of the Republic of Colombia, a loan of $15.9 million or the equivalent thereof in other currencies for a term of 25 years with interest (including commission) at the rate of 4 3/4% per annum, and on such other terms as are specified in the draft Loan and Guarantee Agree- ments, and that the Executive Directors adopt a resolution to that effect in the form attached (No. 5). Eugene R. Black Washington, D. C. June 7, 1955.