Senegal - Structural Adjustment Loan and Credit Project

Documentof olf m The World Bank FILE Copy FOR OFFICIAL USE ONLY Repoet No. P-28b9a-SE REPORT AND RECOMTIENDATION OF THE PRESIDENT OF THE INTERNATIONAL BANK FOR RECOMMENDATION AND DEVELOPMENT AND THE INTERNATIONAL DEVELOPMENT ASSOCIATION TO THE EXECUTIVE DIRECTORS ON A PROPOSED STRUCTURAL ADJUSTMENT LOAN AND DEVELOPMENT CRE TO THE REPUBLIC OF SENEGAL November 26, 1980 This document has a restricted distribution and may be used by recipients only in the pkformance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  CURRENCY EQUIVALENTS Currency Unit = CFA Franc (CFAF) US$1.00 CFAF 210 CFAF 1 million = US$4,762. ABBREVIATIONS BCEAO - Banque Centrale des Etats de l'Afrique de l'Ouest BNDS - Banque Nationale de Developpement du Senegal CDEAO - Communaute Douaniere des Etats de l'Afrique de l'Ouest CEAO - Communaute Economique de l'Afrique de l'Ouest CER - Centre d'Expansion Rurale CPSP - Caisse de Perequation et de Stabilisation des Prix OMVS - Organisation pour la Mise en Valeur du Fleuve Senegal ONCAD - Office National de Cooperation et d'Assistance au Developpement SODEFITEX - Societe pour le Developpement des Fibres Textiles SODEVA - Societe de Developpement et de Vulgarisation Agricole SOMIVAC - Societe pour la Mise en Valeur de la Casamance SONACOS - Societe Nationale pour la Commercialisation des Oleagineux du Senegal SONED - Societe Nationale d'Etudes de Developpement UMOA - Union Monetaire des Etats de l'Afrique de l'Ouest FISCAL YEAR July I - June 30  FOR OFFICIAL USE ONLY REPUBLIC OF SENEGAL STRJCTURAL ADJUSTMENT LOAN AND DEVELOPMENT CREDIT Table of Contents Page& No. Loan/Credit Summary... ,......................... ....... ............ i INTROPUCTION ...o...................... *..e....*.O.... *............. 1 PART I: DEVELOPMENT STRATEGIES AND THEIR IMPACT ON SENEGAL'S ECONOMIC POSITION . .................. . ....... . ....... 2 A. Resource Base .................................. 2 - Agriculture ........ ........................ . 2 - Other Sectors ........... i ............. 3 - Social Factors . . ...... . 4 B. The Government's Development Strategies: 1960-1978 .. 5 - Agricultural Policies . . ... ... ...... 5 - Industrial Policies ............................. 9 - Other Aspects of Management of the Public Enterprise Sector ............. . . . . . . . . . . . . . .. 11 C. Macroeconomic Developments and the 1978-1980 Crisis .. 12 - Overall Perspective ........................,... 13 - The 1978-1980 Crisis .................. ...... 14 - Fiscal Imbalances .................. .............. . o.. 15 - Monetary Aspects .....*..... .....0............... 16 - The Balance of Payments .. 17 Conclusion: The Need for Change .19 PART II: THE GOVERNMENT PROGRAM . ... .. .............. *.... 20 A. Objectives of the Program .. 20 - Fiscal. and Monetary Policies .. .................... 21 - Prices and Incentives . . ............... ... . 22 - The Investment Program ..............o.......24 - Reforms in the Parapublic Sector . . 26 B. Evaluation of the Program .. 29 C. Macroeconomic Projections -...................... 30 This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contenst may not otherwise be disclosed without World Bank authorization.  Table of Cunte.sa (Gncttd, Page No. PART III: THE STRUCTURAL D,JSTMENT LOAN/CREDIT . . ... 34 - Hjstory . . . 0 . 4... ........ 34 - CoopeZation '-rith IAF ......... .......................... 35 - STABiEX.X .............. 4 ...o. . ..o 4 Geeo, * e. . o 36 - Cooperation with France 4 ...-..........4........... 36 - Loan/Credit Obiectives ................. .........., 37 - The Loan/Credit ............ .............. ..... 38 - Procuirement and Disbursement . 5 * 38 - Monitoring 0..- r. . * n 0 4, . ......... . . 4 * 4 . * * 40 - Public Finrarnces a0- ...- .................. 40 - Investment Program .e........................ . . .. 40 - Prices and In2ertives ............... **. * *... * *-.* 42 - Institutional Reforms -.s e. . e.... o ........... 42 - Risks and Uncartainties *...4.0 . *............. 42 PART IV: BANK GROUP OPERATIONS IN SENEGAL ........ ....... 43 PART V: LEGAL INSTRUMENTS. AND AUTHORITY ............................* 45 PART VI: RECOMMENDATION ..... r ... . c 0 *. * 44 * 4 4. e.*. 46 ANNEXES Annex I Country and Economic Data Annex II Status of Bank Group Operations in Senegal Annex III Supplementary Loan/Credit Data Sheet Annex IV Prime Minister's Letter and Policy Statement Annex V Other Project Data: Appendix I - Timetable for key activities Appendix 2 - Description of Agricultural Agencies Annex VI IMF Relatiors with Senegal  - i - REPUBLIC OF SENEGAL STRUCTURAL ADJUSTMENT LOAN AND DEVELOPMENT CREDIT LOAN/CREDIT SUMMARY Borrower: Republic of Senegal. Loan Amount: US$30 million equivalent. Loan Terms: Repayment in 20 years, including 5 years of grace, at 9.25 percent interest per annum. Credit Amount: SDR 22.9 million (US$30 million equivalent). Credit Terms: Standard. Loan/Credit Description: The proposed Loan/Credit would make available about US$60 million equivalent to the Senegalese Government during the first part of its medium-term economic stabilization and rehabilitation program, as outlined in a Policy Statement attached to a Letter from the Prime Minister to the President of the Bank and the Association. Counterpart funds would be used principally in the agri- cultural sector for reorganization of the regional rural development agencies. About US$1.0 million equivalent would be used for consultant studies. Estimated Disbursements: The Loan/Credit proceeds to finance eligible imports would be disbursed in two tranches, US$40 million equivalent soon after effectiveness, and the remaining US$20 million equivalent after a performance review to be held before March 31, 1981. Procurement Arrangements: Only goods purchased from Bank Group member countries and others eligible under the Guidelines would be financed out of the proceeds of the proposed Loan/Credit. Purchases would be on the basis of normal commercial practices, except that public sector contracts of over US$5 million would be procured by international competitive bidding. Imports of petroleum, foodstuffs, armaments and luxury consumer goods would not be eligible for financing. A special account of US$10 million would be established with the Central Bank to finance eligible imports pending pro- cessing of individual disbursement requests.  INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT INTERNATIONAL DEVELOPMENT ASSOCIATION REPORT AND RECOMMENDATION OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED STRUCTURAL ADJUSTMENT LOAN AND DEVELOPMENT CREDIT TO THE REPUBLIC OF SENEGAL l. I submit the following report and recommendation on a proposed Structural Adjustment Loan for the equivalent of US$30 million, and a proposed Structural Adjustment Development Credit for the equivalent of 22.9 million SDR (US$30 million) to the Republic of Senegal. The Loan would have a term of 20 years, including 5 years of grace, with interest at 9.25 percent per annum; the Development Credit would be on standard IDA terms (the blend would have a grant element of 43 percent). The proposed operation would support an ongoing government program designed to improve overall productivity of the Senegalese economy, to reactivate the agricultural sector, to stimulate private investment in industry and promote exports, and to help the economy adjust to the consequences of the 1979-80 crop failure and the recent adverse trends in world market prices. INTRODUCTION 2. A report entitled "The Economic Trends and Prospects of Senegal" (1720-SE) was distributed to the Executive Directors on March 10, 1980. The following paragraphs reflect the conclusions of this report and of the economic work done in preparation of this proposed structural adjustment lending operation. Updated country and economic data appear in Annex I. 3. With a per capita GNP estimated at US$429 in 1979, Senegal is not among the group of very poor countries classified by the United Nations as "least developed". However, the profile of the Senegalese economy over the past 20 years has been one of stagnating per capita income, and growth of GDP has averaged only about 2.5 percent annually, slightly less than estimated population growth. 4. Some of the main causes of the poor macroeconomic performance have been Senegal's limited economic potential, and, more importantly, policies which emphasized government control of key economic activities, without, however, the support of an efficient public enterprise sector. These issues will be developed in Part I of the present report. That chapter will also describe the severe external influences--a protracted drought period, a sharp drop in export revenues, and the 1979 increase in oil prices--which further weakened Senegal's already vulnerable economy and resulted in a major public finance and balance-of-payments crisis, including an unsustainable current account deficit equivalent to about 16 percent of GDP in 1980. 5. The 1979-80 economic and financial crisis led the Government to seriously rethink its development strategy, and to prepare a comprehensive short- and medium-term program for rehabilitation of the economy, which was  - 2 - approved by the National Assembly at the end of 1979. The program (des- cribed in Part II of this report) includes a well worked-out plan of struc- tural reform aimed at reorganizing institutions in the agricultural sector, stimulating private initiative in the industrial sector, adjusting price incentives in favor of exports, and improving the overall productivity of investments. The program is planned for implementation over five years, and is expected to establish a sound basis for long-term development of Senegal's economy. 6. Part III of the report will discuss the kinds of assistance which the Bank Group, the IMF and other aid agencies are planning to help Senegal execute its current rehabilitation program. In addition to the proposed Structural Adjustment Loan and Credit, the Bank Group intends to further support the adjustment process with subsequent similar operations; these would be based on a periodic review of the effects of actions taken by Government during the initial stages of its rehabilitation program, an assessment of what has to be done during the next phase, and on agreements reached between the Government and the Bank Group on how best to achieve mutually determined objectives. PART I - DEVELOPMENT STRATEGIES AND THEIR IMPACT ON SENEGAL'S ECONOMIC POSITION A. Resource Base 7. Senegal is well known for the prestige of its leaders, but it is at the same time a poor Sahelian country with modest growth potential. Ecological conditions are generally unfavorable, industrial prospects are uncertain, and the country's population is young and growing fast, with all the concomitant implications of demand for social services from the public and private sectors. Agriculture 8. Despite the attractiveness of the capital city, Dakar, and the rapid growth of all urban centers, Senegal remains a basically rural economy. More than two-thirds of the population live in rural areas, and, in a normal year, agricultural exports account for more than half of total export earnings. The direct contribution of agriculture is only about 25 to 30 percent of GDP, but the achievements of most other sectors depend heavily on the vagaries of agricultural activity. 9. Unfortunately, several factors make the Senegalese agricultural sector vulnerable: poor soils, a dry climate, erratic rainfall, and mediocre world market prospects for groundnuts, the main agricultural export. Droughts have occurred during six of the last twelve years, and preliminary estimates for the 1980-81 season indicate that agricultural output will be low. The decline in world market prices for groundnuts (from US$523 in 1974 to US$431 in 1979, in constant 1977 prices) is due to improvements in processing tech- niques which have increased competition from other sources of fats and oils,  - 3 - including palm oil and soyabeans. Some new cash crops have been developed, including sugar in the Delta of the-Senegal River and cotton in the Eastern Region, but sugar production costs are high, and ecological conditions prevent a major expansion of cotton cultivation in other areas; thus, even at the low world market prices prevailing today, groundnuts continue to be the most profitable cash crop. Improved farm techniques and careful use of inputs offer real possibilities for increasing productivity and output in the groundnut sector, and could help offset the erosion of export prices. But the success of such programs will depend on major efforts to reduce inter- mediate costs and improve the efficiency of Senegal's agricultural development agencies. 10. Millet and sorghum, the main foodcrops, are cultivated all over the country for consumption by rural populations. However, in spite of ongoing government efforts to promote increased consumption of millet, the urban populations continue to demonstrate a clear preference for "superior" cereals, i.e., wheat and rice. Senegal currently produces significant quantities of rainfed rice (in the Casamance) and irrigated rice (in the Delta), but annual imports of rice and other cereals are high, between 300,000 and 400,000 tons. There is considerable potential for further development of irrigated rice cultivation along the Senegal River; but irrigation requires high investment costs, and ongoing programs are suffering from inefficient operations of the responsible agricultural development agencies. At the prevailing exchange rate of the CFA franc, irrigated rice produced in Senegal cannot yet compete with cheaper brands of broken rice imported from Asia. 11. The annual rate of growth of the agricultural sector since 1960 has been about 3 percent. However, this figure includes fisheries and livestock which have developed far more rapidly than the rest of the sector. In fact, growth of output per capita in the rural sector has probably been close to zero. In addition, wide fluctuations of production have persisted all along. From good to bad crop years, groundnut output has varied in a ratio of 1 to 3, and cereals in a ratio of 1 to 2. This fact alone has subjected the whole economy--and more directly farmers' living conditions--to a high level of instability and uncertainty. At times, price movements have been able to offset variations in output, but since 1974 they have in fact amplified the effects of inadequate rainfall. Other Sectors 12. Before 1960, Senegal was the administrative, commercial and indus- trial center of the West African Federation 1/, and enjoyed all the benefits conferred by that status. Independence deprived the country of this role, and during most of the sixties, Senegal had to adjust its administrative 1/ Under colonial rule, the federation comprised eight francophone countries: Benin, Guinea, Ivory Coast, tauritania, Sudan (Mali), Upper Volta, and Senegal.  - 4 - structure, transit activity, and its infant industry to better match the more limited needs of its domestic market. With a secondary sector contri- buting about 23 percent of GDP in 1979, Senegal can be characterized as a semi-industrialized country, by African standards. However, the average growth of the industrial sector since 1960 has been a rather modest 4 per- cent p.a. on average, a much slower rate than in most other coastal countries in West Africa. 13. The principal lines of industrial development have been produc- tion and processing of primary products (phosphate, cement, groundnut oil), and light manufacturing industry for import substitution. The secondary sector, including the phosphate mine, employs about 7 percent of the labor force. Highly skilled and managerial positions in most large- and medium- scale enterprises are occupied by expatriates. The future of the mining and industrial sectors is moderately promising. In mining, in addition to phos- phates (estimates show 45 years of reserves at current production rate of 1.5 million tons p.a.), Senegal has modest offshore oil reserves and large iron ore deposits of a quality that would seem appropriate for modern steel industry. However, oil and iron ore reserves have not been fully explored. Ore deposits are located far from existing transport centers; consequently, their develop- ment would involve very high investment costs in transport infrastructure, and commercial exploitation is unlikely to start during the present decade. With respect to manufacturing, there are still some possibilities for developing import-substitution industries. More importantly, the country's political stability, its well-developed urban and port infrastructure, its proximity to Europe, and its strong political and economic links with major European countries could make it attractive to foreign investors and foster the development of an export-oriented industry; but this will only be possible if Government takes appropriate measures to create the necessary incentive environment. 14. At least two other areas hold more promise. Senegal has rich territorial waters with a large and diversified fish stock; in fact, the domestic fishing and fish processing industry is one of the few truly dynamic branches of economic activity. Also, the pleasant climate almost throughout the year, the abundance of attractive beaches, and the develop- ment of efficient airport facilities have served to encourage the growth of a vibrant tourism industry which now contributes about 25 percent of non-merchandise exports. Social Factors 15. Senegal's population shares most of the characteristics of African demography: a rapid rate of growth (2.7 percent p.a.), a high dependency ratio (slightly below 1:1) reflecting a very young population structure, and a low but rapidly increasing rate of primary school attendance (over 50 percent in 1980, double the 1970 level). More importantly, the rate of demographic growth seems to be accelerating, and the rate of growth of the working age population (2.2 percent p.a.), though also increasing, is dis- tinctly below the overall population growth rate. The attendant social costs of these basic features--in terms of demand for education, health, other basic services, and for jobs--create potentially serious problems within a slow-growing economy such as Senegal's.  - 5 - 16. Other socio-demographic factors more specific to Senegal have a direct bearing on the economic environment. One is the large concen- tration of population in the Dakar area, now a highly developed city and administrative and cultural center of close to one million people, with a large university and several other institutes of higher education. Another is the impact of Senegal's long historical exposure to the Western world. The most perceptible consequences of these two factors are a strong bias towards a "European" pattern of consumption, a well-organized labor force with highly vocal unions, and a liberal political system with officially recognized and influential opposition parties. The overall impact is the continuing popular demand for higher wages, job security, and various forms of social welfare-- all of which are expected to be provided by or through the Government. Thus, labor costs are high by international standards, in a country which is often considered as a labor-abundant economy. B. The Government's Development Strategies: 1960-1978 17. Since Independence, the Government's strategy has in fact sacri- ficed economic growth and improved income distribution in favor of two other objectives: extending the process of political independence into a gradual Senegalization of the economy, and strengthening government control of the economic development process. In implementing this strategy, the Government has demonstrated its political skill and achieved its stated objectives without the radical measures that have disrupted economic activity in many other newly independent countries. Nevertheless, the process led to creation of an expansive and inefficient state bureaucracy which extended its interventions into all segments of supply and demand in a somewhat dis- organized manner. The following paragraphs describe the severe problems resulting from these interventions on the agricultural and industrial sectors, and illustrate the effects of deteriorating management in the public enter- prise sector. Agricultural Policies 18. During the 1960s, efforts at Senegalization of the economic system were mainly directed at the agricultural sector. The Government established a wide network of agricultural development agencies and a highly centralized marketing organization, and introduced a complex mechanism of guaranteed prices and input subsidies. 19. Agricultural development agencies. One of the first tasks of the Senegalese Government after Independence was to develop agricultural extension services to improve rural productivity by disseminating to farmers technical packages identified under national agronomic research programs. Originally organized by cash crops (SODEVA for groundnuts, SODEFITEX for cotton and SAED for irrigated rice), the new agricultural agencies were progressively turned into multi-crop, integrated rural development enterprises operating on a regional basis (SODEVA for the Groundnut Basin, SODEFITEX for Eastern Senegal, SAED for the Senegal River Basin, and more recently SOMIVAC for the Casamance).  - 6 - 20. The achievement:s of these rural development agencies have varied widely depending on the quality of technical packages proposed to the farmers, and on the overall efficiency of management of each agency. On the whole, the regional development agencies operated effectively in the early stages of execution of modest development programs; but further expansion and diversi- fication of their activities may have been too rapid, thereby severely over- taxing the technical skills and managerial talents of their staff. In addi- tion, constant governmental pressure for job creation led to severe over- staffing and growing inefficiencies. These organizational problems were compounded by serious financial difficulties. Initially funded by external aid, rural agencies had to rely increasingly on domestic resources for counterpart funds and to meet operating and maintenance costs of completed infrastructure works. Understandably, the deterioration of Government's financial position over recent years has had pervasively negative effects on the quality of the agencies' performance, as timely availability of adequate financial resources was rarely assured. 21. Deprived of financial means, overburdened with increasing numbers of personnel (often inadequately trained), subjected to cumbersome ex ante controls, and always pressed to start new projects and assume new responsi- bilities, most of the rural development agencies started to lose their initial dynamism. When SODEVA embarked on an ambitious program to modernize cultivation techniques throughout the Sine Saloum region, it lacked the drive it had displayed in the execution of earlier pilot operations. When SAED wanted to speed up the pace of development of new irrigation schemes, it was unable at the same tirme to adequately maintain existing perimeters. 22. Finally, some basic deficiencies in the technical packages recom- mended by agricultural research programs became apparent. Ongoing research has been overly concentrated on a single zone of the Groundnut Basin, is not up-to-date with the current findings of international research, and is focussed too narrowly on improving yields of specific crops, without proper consideration for the overall technical, economic and sociological constraints of family farming. There is clearly an urgent need for a program to diversify agricultural research in order to cover all the main ecological regions of Senegal, together with efforts to better identify the many constraints of the Senegalese farming systems (for example, time and labor limitations during the planting and harvesting seasons, integration of farming activities with the non-agricultural occupations of rural families, etc.). 23. ONCAD, and the cooperative system. Senegal, like all African countries after Independence, felt that the marketing of cash crops was too important to be left to private traders. A comprehensive State-controlled system was therefore organized to replace the merchants who were buying groundnuts from farmers and selling them to foreign-owned crushing mills. However, instead of involving rural communities and strengthening village- based farmers' associations, the marketing system relied on large regionalized operations which attempted to function as cooperatives; the operations were poorly managed, neglected the requests of production-oriented regional development agencies, and were indifferent to the expressed wishes (and complaints) of farmers. The system which eventually emerged was based on a  -7- highly centralized national agency, the Office National de Coop6ration au D6v4loppement (ONCAD), whose services were entirely responsible for the management of regional cooperatives. 24. The Government's main purpose in creating ONCAD was to market groundnuts at a fixed, guaranteed price, set at uniform levels throughout the country. However, ONCAD's functions were subsequently broadened to include the monopoly for transport of groundnuts, procurement and delivery of agricultural inputs, and later the management of seed stocks. A cumber- some procedure was developed for grouped orders of fertilizers and tools. In 1971, ONCAD was also given the monopoly for marketing of rice, and in 1975 for sorghum and millet, following the same system of uniform, guaran- teed prices, fixed every year before the planting season. 25. It took some time before Government became fully aware of the shortcomings of its policy in the area of crop marketing and input supply. One reason was the tendency to attribute most of the problems in the agri- cultural sector to the frequent occurrence of moderate or severe droughts. It is only recently--essentially since 1978--that ONCAD's widespread ineffi- ciencies have been unanimously recognized and publicized. 26. The major flaw in the agricultural marketing system was its failure to encourage farmers' participation in the management of cooperatives. In addition, with the rapid expansion of ONCAD's functions and personnel, its performance deteriorated sharply. Not only did farmers frequently not receive the quantities of fertilizers and other inputs requested, but deliveries were increasingly delayed and inputs often arrived too late to be used during the agricultural season. Cooperative accounts were not kept correctly, and farmers complained that ONCAD asked them to repay credits they had neither requested nor received. Unexplained losses of part of the groundnut crop between the time of purchase from farmers and delivery to crushing mills became more frequent. ONCAD's discredit became total when a very bad crop in 1979/80 was universally blamed by farmers more on ONCAD than on the irregular rainfall which occurred in that year. Farmers felt that the impact of the irregular rainfall was compounded by ONCAD's having delivered seeds of very poor quality, a result of inadequate storage and handling practices. 27. ONCAD's poor management had less severe consequences for food- crops. In fact, the agency never had the means to compete with traditional- foodcrop marketing systems; these latter are far more efficient than any modern system to serve the modest needs of widely scattered rural communities. In good crop years, millet surpluses offered by farmers far surpassed the limits of ONCAD's storage capacity and the funds which it had available for purchasing surplus production at the official price; in bad years, prices on the parallel market exceeded official prices, and supplies to ONCAD dwindled to insignificance. 28. Prices and subsidies. Guaranteed and uniform producer prices were supplemented with a comprehensive system of input subsidies designed to encourage farmers to use modern cultivation techniques (specifically, increased quantities of fertilizers and a variety of agricultural tools and  - 8 - equipment). A Stabilization Fund--Caisse de Perequation et de Stabilisation des Prix (CPSP)-- was established, which financed input subsidies out of expected earnings from groundnut sales 1/ and levies on rice imports. 29. Subsidizing inputs has the advantage of minimizing farmer risks associated with purchasing expensive fertilizers which have little impact on total output in years when rainfall is inadequate. However, financing subsidies out of earnings from groundnut sales tends to reduce producer prices, thus discouraging efforts to increase output and improve yields through more labor-intensive cultivation techniques, which, in the case of groundnuts, influence output more significantly than fertilizers. How- ever, while subsidies on agricultural tools and equipment were abolished in 1980, subsidies on fertilizers continue to account for about 70 percent of prices. When world market prices for groundnuts fell to the exceptionally low level of US$468 per ton in 1979/80 2/, CPSP was unable to finance sub- sidies out of groundnut surpluses. The Government was unable to compensate CPSP for such losses, and eventually it was ONCAD which, having delivered inputs at subsidized prices, had to bear the financial consequences. ONCAD's deficits were in turn financed through rediscounted "seasonal" credits. 3/ 30. A balanced judgment of overall performance of the agricultural sector in Senegal should take into account some very important achieve- ments. Better varieties of groundnuts, cotton and foodcrops have been developed. Considerable advances have been made to develop tools and agricultural equipment well adapted to the needs of the small farmer, and much success has been achieved in introducing draft animals and other improvements in cultivation techniques. The need now is for carefully planned efforts to further strengthen agricultural research, to streamline the operations of the regional development agencies, and to provide them with appropriate financial resources. However, output and yields will not increase unless major reforms are introduced in the marketing and input delivery system. The most urgent task is to carry out a general reform of the system in order 1/ ONCAD being remunerated on the basis of projected costs (baremes), CPSP was receiving--or paying--the margin between world market prices and domestic costs. 2/ US$323 in 1977 prices, as compared to US$768 in 1974 and US$523 in early 1970. 3/ CPSP-s financial problems, however, were not the only cause of ONCAD-s deficits. In theory, ONCAD-s costs were limited by an established schedule (bareme) based on a provisional budget. In fact, the provi- sional estimates were often too optimistic, so that the real costs of ONCAD's operations quickly surpassed the bareme. Moreover, on several occasions, Government cancelled farmers' seed debts to ONCAD, leaving the agency to bear the consequences of these financial losses. In 1979, outstanding credits to ONCAD reached about CFAF 60 billion, of which only about half corresponded to recoverable assets.  - 9 - to cut waste, increase efficiency, and gradually regain the confidence of farmers. It is also important at this time to start involving farmers and rural communities in the management of cooperatives, and to test new methods allowing direct sales of the groundnut crop by cooperatives to crushing mills, and direct delivery of inputs by suppliers. With respect to foodcrops, recent experience has confirmed the difficulty of organizing effective State- controlled marketing schemes; this is an area in which private trade will for a long time be the most economical method. Industrial Policies 31. The Government's policy of Senegalization and public control of key economic activities was applied quite differently in the industrial sector than it was in agriculture. During the first decade after Indepen- dence, hardly any attempt was made to challenge the role of existing indus- trial enterprises largely controlled by foreign private interests. The Government did, however, try to develop a few small Senegalese enterprises in the traditional sector with the objective of ultimately graduating them into the modern sector; it also required foreign enterprises to make a studied effort to replace expatriate staff with Senegalese personnel; as an additional step, and under pressure from labor unions, the Government imposed general wage increases designed to at least maintain the purchasing power of wage earners, and instituted personnel policies aimed at guaranteeing job security. But no attempt was made in those early years to address the issue of foreign ownership in the industrial sector. 32. The policy practiced during the 1960s did, however, have a signi- ficant effect on the growth and direction of development in the industrial sector. As a result of governmental action regarding employment and wages, production costs increased rapidly, and the industry was able to survive only by concentrating its efforts on the domestic market, and with the benefits of ad hoc quantitative and tariff protection. Indeed, established entrepreneurs did find ways to obtain sufficient protection, and moderate but fairly secure profits enabled them to work with obsolete equipment, and to tolerate overstaffing and inadequate labor discipline. But new and potentially more dynamic entrepreneurs were less interested in operating in this climate. 33. It is therefore not surprising that the growth rate experienced in the sector remained only modest, and that firms operating in Senegal showed little interest in developing export markets on which their products were becoming less and less competitive. A notable exception was the groundnut crushing mill sector, controlled by foreign interests and with most of its output sold to European markets: over time, the processing capacity of these mills increased to the point where they were able to handle the country's entire groundnut harvest. 34. In the early 1970s, the Government tried to play a more active role in promotion of the industrial sector. Efforts were made, in colla- boration with private enterprises, to encourage the development of export  - 10 - industries. However, while Senegal has been able to develop what has become a very successful hotel and tourism industry, most of the other initiatives have remained rather sporadic, with not very encouraging results. In 1975, for example, an industrial free trade zone was established in Dakar; but this was done in the absence of adequate promotion efforts, and without the necessary measures to reduce administrative and bureaucratic obstacles. More importantly, promotion of private enterprises and export industries will never yield substantial results unless prospective investors are offered a comprehensive package of incentives to compensate them for the high produc- tion costs of Senegalese industry, including labor costs. 35. Having failed to stimulate private investment, the Government turned to a policy of direct public investment in industry and other sectors. This was made possible by the sharp rise in phosphate prices (from US$12 per ton in 1972 to US$67 in 1975) which allowed for a considerable increase in export revenues and public savings, and enabled Government to borrow heavily on the Eurodollar market. 36. A substantial part of these new resources was used by Government to acquire majority ownership in several foreign-owned private enterprises, including the Taiba Phosphate Mining Company, two public utility companies, and a wide variety of smaller firms. Total new acquisitions raised to about 40 percent the proportion of value added in the modern sector that was controlled by State enterprises or mixed companies. Furthermore, the Govern- ment created a new public agency (SONACOS) with a monopoly for the export of groundnut products (oil and cakes), and new contracts with the private crushing mills were concluded that provide for the gradual transfer of their assets to Government over several years, a process that will probably be completed by 1981. 37. While the control of Taiba allowed, for a few years, a considerable increase in the revenues which Government derived from the mining sector, most of the other Government participations were far less profitable. One important reason was that the Government take-over of specific enter- prises was seldom decided on the basis of adequate preparatory work and detailed economic and financial analysis. As a result, many of these enter- prises turned out to be hardly viable, and have been unable to survive without financial support from Government in the form of subsidies, Treasury advances and loan guarantees. 38. In parallel with the take-over of existing companies, Government also undertook to create a number of new large-scale export industries. For several years, Government collaborated actively with foreign partners in preparation of a large ship-repair project in Dakar, and on an ambitious petrochemical and fertilizer complex near the port of Cayar. However, this complex has since been abandoned, and only a reduced version of the Dakar ship-repair project was started, with the help of external public and private financing. With the recent deterioration of the country's balance of payments and public finance position, government officials gradually came to recognize  - 11 - that these large industrial schemes would generate little employment, while absorbing extraordinary amounts of scarce resources and forcing Government to assume considerable risks which it could ill afford. 39. The above discussion suggests that Government's intervention in the industrial sector was initially more prudent than its efforts in agriculture, but that the industrial policy has unfortunately not produced any more favorable results. The development of private industry has been overwhelmed by a plethora of administrative constraints, including costly wage policy and price controls, and has gradually been losing its expected vitality. Exports were in effect taxed, and, on the domestic market, while some segments of the industry did benefit from justifiable protection, tax holidays and protection measures were not based on an adequate evaluation of potential benefits for the Senegalese economy. In the end, Senegalese firms operated within an ad hoc incentive system which was not conducive to efficient import substitution, and which discouraged exports. Studies on effective protection and domestic resource costs have shown that the price of goods marketed in Senegal exceeds the cost of comparable goods in world prices by 15 to 35 percent. 40. It is therefore urgent for Government to review the system of industrial incentives, and to conceive measures to correct existing distor- tions and provide appropriate signals to private entrepreneurs, so that private profitability and social benefits should not be too divergent. At the same time, the Government should limit its investments in large-scale industrial enterprises, and should avoid assuming major financial and com- mercial risks in the sector. Other Aspects of Management of the Public Enterprise Sector 41. Since Independence, the Senegalese Government has developed a sizable (although rather inefficient) public enterprise sector, a process which started in the sixties in the agricultural sector and was systemati- cally extended in the seventies to industry and other key economic areas. There are now many striking examples of public enterprises which, either at times or permanently, have been unable to perform their duties in a satis- factory and economic manner; these include not only ONCAD, CPSP, and to a lesser extent the regional rural development agencies, but also Regie des Chemins de Fer (railways), SOTRAC (urban transport), SISCOMA, (manufacturing of agricultural tools), SONAFOR (drilling company), BNDS (development bank), OHLM and SICAP (public housing agencies), and many others. The main defi- ciencies are almost everywhere the same: lack of clear definition of objectives and priorities, shortage of managerial and technical skills, cumbersome administrative and financial controls, inadequate monitoring and auditing practices, and insufficient funding of key activities. Too many routine decisions (which nevertheless need to be taken urgently) have to be submitted to ex ante approval by the responsible ministry, while ex post evaluation procedures are virtually non-existent. Despite these deficien- cies, almost all public enterprises have been pressed to expand their role and diversify their activities, without appropriate consideration being given to available manpower and financial resources. As a consequence,  - 12 - deficits (that had to be financed by government subsidies and/or loans from the banking system) accumulated, and implementation of priority projects and essential maintenance operations were often delayed for lack of counterpart funds, or because available working capital and current revenues were grossly insufficient. Finally, instead of being the most efficient branch of the public sector, public enterprises are generally weak, and seldom achieve the physical and financial objectives assigned for them. 42. Clearly, the performance of the principal Senegalese public enter- prises needs to be thoroughly reviewed. Some of them may have lost their "raison d'etre" and might be returned to the private sector. Most others would need to operate on the basis of more clearly defined objectives and more realistic targets; they should then be given a large measure of operational autonomy, together with the appropriate capital structure, working capital, and other financial resources required to perform effectively their assigned functions. 43. The preceding paragraphs have described the various sectoral policies which led to the expansion of an ubiquitous but inefficient para- public sector. These policies, together with the cross-subsidization system inherent in CPSP's interventions, price controls, and minimum wage and guaranteed employment policies have all profoundly affected the structure of prices and incomes. While this complicated system of government intervention that has developed over the years is hard to disentangle, it is possible to identify some of its main results. On the positive side, the overall rate of inflation, which was very low until the early seventies, has since been maintained--with a notable exception in 1974 and 1975--at a level that is relatively modest, compared to most other African countries. This was the result of effective price controls and selected subsidies for a number of basic goods, liberal import procedures and policies, and an increasingly high effective exchange rate of the Senegalese currency. On the other hand, the policy of "maintaining the purchasing power of wage earners" led to high levels of private consumption, and to an unmeasurable but clear bias in favor of urban incomes relative to those of the rural population. Also, as noted earlier, distortions in incentives have led to an anti-export bias for non- traditional exports, and excessive protection for large segments of the import substitution industry. Finally, the policy of subsidization, high wages and below-cost tariffs of many public enterprises 1/ have contributed to the erosion of public savings. The following paragraphs describe how these policies, without stimulating growth, eventually led to a rapid deterioration of the country's public finance and balance-of-payments position, and to its present economic and financial crisis. C. Macroeconomic Developments and the 1978-1980 Crisis 44. The influence of adverse external factors and inadequate govern- ment policies led to a situation which, in macroeconomic terms, can be summarized as follows: a long-term pattern of very slow growth, increasingly wide fluctuations around the trend, which culminated in the fiscal and balance-of-payments crisis of the last two years. 1/ Energy products are a notable exception.  - 13 - Overall Perspective 45. Abstracting from annual movements in aggregates, Senegal during the sixties was essentially a slowly growing economy (2.3 percent p.a.) with a high rate of consumption (over 91 percent of GDP), a low level of domestic investment (13 percent of GDP) 1/, and therefore a comparatively small resource gap (3.6 percent of GDP). Although the situation during the sixties could be characterized as a "low-growth equilibrium", there was a slow but discernible trend toward a decline in the rate of investment, an increase in the rate of consumption, and a widening of the resource gap. 46. During the seventies, a deliberate effort was made to step up investment to a level of 18 percent of GDP on average, which was achieved through a major increase in public investment (equivalent to 4.8 percent of GDP during the period 1960-72, and 10-11 percent in 1979/80). However, as the high ICORs indicate, overall investment in Senegal has a low productivity. In particular, the recent increase in public investment had little impact on economic activity. This is attributable to the Government's preference for infrastructure works and highly visible capital-intensive projects, to poor project preparation often based on inadequate economic analysis, and to the fact that as the rate of investment increased, it became more difficult to identify projects with high rates of return. 47. The investment policies implemented during the seventies had a pervasive negative impact on the country's economic position. Not only did the higher investment rate fail to stimulate growth, but the resource gap doubled to 6.5 percent of GDP in 1977 in the absence of a greater saving effort (consumption absorbed more than 88 percent of GDP on average). Moreover, the declining share of public savings and the rising proportion of non-concessionary external capital (see Table 1 below) led to the rapid growth of external debt and to a dangerously high debt service ratio. Table 1: GROSS DOMESTIC INVESTMENT FINANCING (in percent of GDP) 1960-72 1973-80 Public Savings 1/ 2.2 2.4 Non-concessionary funds 1.0 2/ 3.4 Memo items: Gross domestic investment 13.4 19.0 : Public investment (4.8) (10.1) : ICOR 6.0 6.0 1/ Includes amortization on public debt. 2/ No statistics available before 1970. 1/ The level of investment is particularly low if changes in stocks are excluded; net fixed investment (after depreciation) had been close to zero until the early seventies. When after 1973 economic policies became more expansionist, net fixed investment amounted to about 6 percent of GDP.  - 14 - 48. Any Sahelian country, with a large external sector and a high degree of concentration of exports, is necessarily exposed to wide varia- tions of output and export receipts. In Senegal, however, during the sixties and the earlier part of the seventies, negative developments were often compensated for by positive fluctuations in other areas. For example, severe droughts in 1972/73 were followed by a sharp rise in groundnut prices; the increase in the price of oil imports in 1973/74 was more than offset by higher phosphate export prices (in fact, Senegal's terms of trade improved by about 20 percent in 1974); and finally, when phosphate prices fell sharply in 1975, there was a record groundnut crop in 1975/76. It is only when all the exogenous factors acted in the same negative direction that Senegal experienced the worst economic and financial crisis of its post-Independence period. The 1978-1980 Crisis 49. The 1978-80 crisis has resulted from the prolonged effects of earlier trends, particularly in the areas of slow growth, low savings, and the widening resource gap; but this time, these effects have been exacerbated by other factors--the new oil price increases in 1979 and bad crop years in 1977/78 and 1979/80--which were outside Senegal's control, and which, moreover, offered no compensating favorable development. The following table illustrates the magnitude of a problem whose fiscal, monetary, and balance-of-payments aspects are further detailed in subse- quent paragraphs: Table 2: SUMMARY MACROECONOMIC INDICATORS (in percent of GDP) 1977 1/ 1978 1979 1980 GDP growth rate (constant prices) 0.7 -9.0 12.6 -5.5 Consumption 2/ 89 94 97 100 (of which public) (11) (12) (11) (11) Imports 50 51 54 50 Exports 44 34 35 32 Resource Gap 6 17 19 18 Investment 17 23 22 18 Government overall budget deficit 3/ 3.2 3.7 3.7 3.0 Money Supply (end year) 23 35 32 30 4/ 1/ The year 1977 can be considered as a "normal" year. 2/ The shares in GDP are calculated from current price data. 3/ 1977/78 figure applies to 1978, etc. 4/ Projection.  - 15 - Fiscal Imbalances 50. The development of public finances since 1976/77, summarized in Table 3, shows that the Government made a serious effort to compensate for the fall in phosphate revenues by improving tax collection and intro- ducing new taxes. To contain the growth of current expenditures, wage scales for civil servants were held level, and outlays for current supplies and maintenance were restrained. This, in turn, created a substantial salary gap between the private and the public sectors; it also affected the quality of public services (lack of drugs in hospitals), and the condition of the country's capital assets (notably roads). Table 3: PUBLIC FINANCES, 1976-1981 (in billions of CFAF) Actuals Estimates Budget 1976/77 1977/78 1978/79 1979/80 1980/81 Central Government Accounts Revenues 105 110 127 154 2/ 163 2/ Current Expenditures 1/ -86 98 -105 -121 120 Gross budgetary savings 19 12 22 33 43 Interest charges -4 -4 -7 -9 -10 Amortization of foreign debts -6 -8 -13 -21 -23 Budgetary savings after debt service 9 0 2 3 10 Capital Expenditures -26 -13 -22 -20 -22 Total deficit (-) -17 -13 -20 -17 -12 Public Savings Performance Budget savings after foreign debt service 9 0 2 3 10 Savings of parapublic sector 5/ 10 1 3 -2 2 4/ Total public investments 46 46 51 60 70 4/ Public savings after debt service as percentage of public investment 42% 1% 10% 1% 17% 1/ Excluding interest on public debt. 2/ Includes development revenues such as the levy on non-invested profits. 3/ Budget figure unlikely to be realized. 4/ Bank estimate. 5/ Public savings that transit through Treasury only.  - 16 - 51. In less troubled times, the new fiscal policies would have gone a long way toward resolving Senegal's public finance problems. As it was, higher debt service payments created severe liquidity problems for the Government; moreover, the poor savings performance of parapublic enterprises eroded their capital base and increased claims on the Treasury. Consequently, despite the new tax measures, the Treasury was unable to meet its current obligations to the private sector and to provide agreed counterpart funds for foreign-financed projects. The seriousness of the situation is il- lustrated by the increase in outstanding advances from the Central Bank to the Government from CFAF 1.9 billion at end-1975 to CFAF 13.6 billion at end-1979, together with an accumulation of unpaid bills to the rest of the economy of about CFAF 18 billion in mid-1979. Moreover, many of the para- public enterprises had to rely increasingly on bank credits. 52. Thus, while the Government's overall deficit is not particularly worrisome in relation to GDP (see Table 2), the poor financial state of the public sector as a whole has had a serious impact on the economy by making the financing of public investment increasingly problematic, weakening the finances of private firms because of heavy accumulation of receivables, and adding to the over-expansion and deteriorating quality of domestic credit. Monetary Aspects 53. During the 12 years following Independence, the money supply expanded little and the rise in consumer prices was minimal. The only discernible trend was a slow erosion of net foreign assets concomitantly with a decline in government deposits with the banking system. These condi- tions were consistent with the low-growth equilibrium noted earlier. By the end of 1973, however, money supply had risen by 22 percent, net foreign assets had become negative, and the Government had become a net domestic borrower. Also, the consumer price index rose by 11 percent, or more than three times faster than the average observed since Independence. 54. The years after 1973 can be characterized as turbulent. The increase in the money supply has been both rapid and erratic; it now repre- sents 32 percent of GDP, or more than double its pre-1973 level. Net foreign assets are highly negative (see balance of payments, para. 57); the Government itself absorbs 10 percent of total credit and has practically reached the statutory ceiling imposed by the Central Bank, but credit to the public sector as a whole (including the financing of government arrears to the private sector) represents more than 30 percent. Owing to the elimination of consumer subsidies, consumer prices rose by 50 percent in just two years (1974-75), but since then have been kept at an average annual growth rate of 8 percent. 55. This rapid expansion in the money supply was related to the manner in which the Government handled the frequent droughts and their consequences. During bad crop years, the Government tried to stimulate aggregate demand by cancelling farmers' debts and increasing public investment; it then applied a liberal credit policy to quicken the pace of recovery. With droughts recurring every other year, these policies were responsible for the lack of monetary discipline and the related negative impact on the balance-of-payments.  - 17 - 56. The expansion of credit affected imports in two ways: a large part served to directly finance imports, and another part increased domestic demand which in turn called for more imports. For example, ample credit supply allowed for continued investments despite the low savings performance, while generous personal credits boosted consumer demand. The excessive credit expansion has not only seriously affected the economy's external balance, but it has also brought about a deterioration in the quality of credit, including the growth of credits to ONCAD (CFAF 60 billion at the end of 1979), more than half of which was not covered by real assets (see footnote 3, p. 8). Finally, since little could be done about bad credits to the parapublic sector, the more restrictive policies applied by the Central Bank since the last quarter of 1979 affected mainly the private sector. The Balance of Payments 57. The interaction of unfavorable long-term trends and unexpected external shocks that have brought on the current crisis is best illustrated in Senegal's external accounts. Sluggish growth of exports and sharply rising imports are by far the dominant underlying factors. The first serious deterio- ration in the resource balance occurred in 1973 and 1974 when the drought reduced export volumes, and more importantly, when steep price increases more than doubled the value of the food import bill, absorbing 28 percent of total export receipts in 1974. In relative terms, the increase in the oil bill was also alarming, but did not yet constitute a disproportionate burden, accounting for only 11 percent of export receipts that same year. But by 1979, the import bill of petroleum had doubled, while food imports slightly exceeded their 1974 level after a moderate decline in the intervening years. At the same time, interest payments on external debt, which were insignificant before 1973, had become the single most important item in the current balance on services, with total debt service figuring as a major entry in the overall balance of payments. These various elements are summarized in the following table for three " representative" years: Table 4: KEY ITEMS IN THE BALANCE OF PAYMENTS (as percentage of exports 1/) 1972 1974 1979 Food 23 28 23 Petroleum 5 11 16 Debt Service 4 6 14 TOTAL 32 45 53 Memo: Current Account Deficit 3 12 51 It is important to note, however, that while the three components above have become major factors, they are by no means solely responsible for Senegal's current account position. On the contrary, it is remarkable that all import categories have increased so fast in recent years. 1/ Goods and non-factor services.  - 18 - 58. The terms of trade, after a sharp improvement in 1974, deterio- rated in the last few years, in fact falling back to their 1973 level. However, because the volume of imports has been rising so much faster than that of exports, the effect of world inflation on the trade deficit was disastrous. Thus, if the prices of both imports and exports had remained the same since 1971, other things being equal, the trade deficit in 1979 would have been lowered by about US$320 million, i.e., it would have been 58 percent smaller than it actually was. 59. Preliminary estimates for 1980 point to a balance of payments situation similar to, if not slightly worse, than that of 1979. The main factors at play have been a poor crop in 1979/80 combined with low groundnut prices, and more increases in oil and other import prices. Based on arbi- trary but probably reasonable assumptions, one can approximate the hypo- thetical deficits on current account as compared to the actual outcome (see Table 5). Although one could easily blame 60 percent of Senegal's current deficit in 1980 on abnormal factors, such as the vagaries of the weather and rising energy costs, one must not overlook the fundamental weaknesses that also contributed to this deficit, as is reflected in the external accounts. Table 5: THE DEFICIT OF 1980 (US$ million) Assuming "normal" crops and no Actual Assuming increase in oil estimated "normal" crops price Exports of goods & NFS 841 1,078 1,070 Imports of goods & NFS 1,318 1,368 1,270 Resource gap -477 -290 -200 Net factor services & transfers 66 32 32 Current account balance -411 -258 -168 C/A balance as % of GDP 15.6 9.8 6.4 60. For many years, Senegal's current account deficit was easily covered by large inflows of official development assistance which financed not only imports of capital equipment, but also a substantial part of local costs. As the bulk of such aid was in the form of grants and very soft loans, the impact of the deficit--and its financing--on the balance of payments was generally favorable. From 1973 to 1979, however, the expanding public invest- ment program was financed by a rapid increase in gross capital inflows, including a growing share of commercial credits. With the decline of the grant element of capital inflows (from 37 percent in 1971/73 to 25 percent in 1977/79), the debt service approached levels that clearly call for stricter debt management.  - 19 - 61. Rising capital inflows were not sufficient to prevent a sharp decline in Senegal's foreign assets after 1972. Already in 1973, net foreign assets of the Central Bank amounted to practically zero, and commercial banks' foreign liabilities began to exceed their foreign assets--a feature of in- creasing significance in the Senegalese context. By the end of 1979, total net foreign assets are estimated to have declined further to about minus US$373 million. Such high levels of negative reserves are only possible because of the franc zone arrangements, which provide for an "operations account" of the Central Bank of the West African Monetary Union (BCEAO) with the French Treasury, and guarantee the unlimited convertibility of the CFA franc. However, Senegal's position within the monetary union has now become quite uncomfortable, particularly as the external position of the BCEAO as a whole has weakened considerably, with the two most developed countries in the union--the Ivory Coast and Senegal--being responsible for this state of affairs. Table 6: SUMMARY BALANCE OF PAYMENTS (US$ million, Current Prices) 1980 1972 1978 1979 (estimated) Trade balance -90 -416 -548 -594 C/A balance -13 -269 -436 -411 Net capital 16 185 317 357 (public capital, net) (11) (135) (136) (236) Net foreign assets (end year) 23 -171 -319 -373 Debt service ratio (%) 3.7 15.1 15.8 19.5 Conclusion: The Need for Change 62. Senegal now faces its most difficult economic challenge. Real income per head has increased at best marginally since Independence. While some segments of the urban population have improved their lot, living con- ditions in the rural areas have hardly improved--if at all. The Government's budgetary position is weak, the public sector has expanded greatly, but its productive efficiency has, by and large, declined. External imbalances have reached unsustainable levels. No doubt, initial conditions and external factors have contributed to Senegal's plight, but the need for drastic changes in economic policies is inescapable--and this is now widely recog- nized in Senegal and abroad. Indeed, the task of rehabilitating the economy and moving towards a path of long-term growth is immense, and will require unprecedented mutual efforts by the Government and the international community.  - 20 - PART II - THE GOVERNMENT PROGRAM 63. Until the mid-seventies, despite lagging growth and increasing financial imbalances, there was no serious effort by the Government to change policies on a broad front. It was only after 1974/75 that the deteriorating fiscal and balance-of-payments positions prompted the introduction of a number of stabilization measures, eventually under IMF programs, with some success in public finance but little achievement in monetary matters. The current financial crisis has given the Government a new awareness in the midst of growing pressure from the BCEAO, and an intensified dialogue with the IMF and the Bank. 64. In December 1979, the Economic and Financial Recovery Program was launched, of which some important measures are already being implemented. Recently, the Prime Minister addressed a letter to the President of the Bank Group, together with a Statement of Economic Policy (see Annex IV). This statement confirms both the Government's determination to come to grips with the causes of Senegal's long-term stagnation and financial problems, and the adoption of several crucial strategies related to the improvement of public investment and of the country's institutional framework, particularly in the agricultural sector. In a clear departure from the previous reliance on ad hoc corrective measures, the Government is now committed to a comprehensive program of economic recovery. Following is a summary analysis of objectives of the Government-s program, the Bank Group's evaluation of that program, and a forecast of Senegal's medium-term economic prospects. A. Objectives of the Program 65. The broad objectives are first, to stabilize the economy particularly by reducing the gap in the balance of payments; second, to stimulate growth; and third, to reduce urban-rural income inequalities. The first two to three years of the program focus on the stabilization objective, and thereafter the economy is expected to resume a steadier growth pace. The main quantifiable objectives are: - reduction of the current account deficit from 15.6 percent of GDP in 1980 to 6-7 percent in the medium-term 1/ and of the overall budget deficit from CFAF 18.5 billion in 1979/80 to a surplus of CFAF 4 billion by 1980/81. - generation of (net) public savings through the budget equivalent to 15 percent of public investment in 1981 and to 25 percent in 1985. - an overall rate of investment of 16 percent in 1981 rising to 18 percent in 1985 (including an average of 10 percent of GDP for the public sector). 1/ 7.7 percent in 1985 on the basis of Bank projections.  - 21 - credit expansion slightly below 8 percent in 1980. containment of inflation at a rate below 10 percent on average (as in recent years). - an average growth rate of 4 percent of GDP in the -ast two years of the program and thereafter (i.e., about 1.3 percent above population growth). 66. For the realization of these objectives, the program prescribes measures in four interrelated areas: fiscal and monetary; prices and incen- tives; public investment; and the parapublic sector, primarily in agriculture. The first set of measures aims principally at economic stabilization through containing aggregate demand, and reducing the share in GDP of private and public consumption,, The other measures focus on stimulating supply, while new pricing policies and the reform of agricultural institutions are also expected to eventually lead to a shift of income towards the rural population. Fiscal and Monetary Policies 67. Since 1977, Government has taken measures almost each year to increase budget receipts. The latest such measures were introduced in March 1980 when taxes on imports, gasoline and luxury goods were raised, and levies on non-invested profits doubled. Debt management, which used to be shared between the Prime Minister and the Minister of Finance and Economic Affairs, has been put under the control of the latter, and merged with the existing public investment department responsible for new borrowing. The new unit is thus placed in a central position for ensuring efficient debt management; it is being strengthened with Bank Group-financed technical assistance. Addi- tional tax income accruing from the latest raises would be partly allocated to the Government's sinking fund 1/ to eliminate its deficit. More stringent conditions have also been placed on recourse to suppliers' credits. 68. The program seeks to improve net public savings by containing recurrent expenditures and the relative burden of debt service rather than through additional taxes. Recurrent expenditures would go down from 22.6 percent of GDP in 1980 to 20.3 percent in 1985, and the debt service burden on the budget would decline over the same period from 5.6 percent to 4.7 percent. The 1980/81 budget includes secured financing of counterpart funds, as well as increased public savings after debt service to a level of 15 percent of planned public investments; the objective is to increase the latter contribu- tion to 25 percent by 1985, while restraining total fixed investment to 16 percent of GDP in the initial years and increasing it gradually to 18 percent by 1985. 2/ 69. Another set of measures already being implemented aim at tightening the budget execution. These include: (i) elimination of tax exonerations and Treasury advances given on a personal basis to individuals or private enter- prises; (ii) creation of a verification unit to review direct tax assessments, 1/ Caisse Autonome d'Amortissement. 2/ From 13 percent to 14 percent in constant 1971 prices.  - 22 - which had become an area of special privileges; and (iii) in-depth analysis of recurrent expenditures, an exercise that has already resulted in, for example, the closure of 23 Senegalese embassies and consulates abroad. Government raised (for the first time in five years) wage scales of civil servants, but at the same time drastically increased the contribution for the pension fund--thus balancing this account of the Treasury--lowered housing allocations for civil servants, and reduced French technical assistance by 10 percent to contain the increasing cost of Senegal's contribution. 70. In the medium term, Government plans to keep the growth of recurrent expenditures below the growth in revenues. It intends to achieve this objec- tive by keeping expenditures on supplies of materials unchanged in constant prices, and by reducing the share of personnel cost in total recurrent expendi- tures. The 1980/81 budget is in line with these objectives. Furthermore, Government plans to shift some goods to higher import duty regimes if overall budgetary revenues fall short of the projections. The proposed increase in capital expenditures will only take place if appropriate finance can be found within the foreign borrowing ceilings already agreed upon with DIF (para. 102). An improved use of the concessionary funds available to Senegal, and a rigorous limitation of commercial funds to projects that can carry the corres- ponding debt service from their own cash flow, will bring the relative debt service burden to a more modest level. Finally, Government will have paid all its arrears to the private sector before July 1, 1981. 71. Having failed in their efforts at restricing credit in the past, the monetary authorities imposed at the beginning of 1980 monthly credit ceilings for primary banks, with penalty deposits to be made if these ceilings are exceeded. As agreed with the IMF, during 1980 in case of a normal crop, credits should not grow more than 8 percent above the level attained at the end of 1979. The US$100 million expansion implicit in this ceiling will be used exclusively for designated priority sectors of the economy. An important step by the monetary authorities to dampen domestic credit demand and reduce transfers abroad was the raise of the rediscount rate from 8 percent to 10.5 percent, and of the special rate for priority sectors from 5.5 percent to 8 percent. These raises are applicable to all members of the monetary union, thus allowing Senegal to increase all its debtor and creditor rates accordingly. 72. As a step towards improving mobilization of personal savings and developing financial intermediation, a new social housing bank has been established which will allocate scarce housing loans (subsidized from the revenues of a special housing tax on wages) according to the size and duration of deposits made by prospective borrowers. This institution will place high-interest savings certificates with organizations and enterprises that want to benefit from the low-cost housing programs for their personnel. Prices and Incentives 73. Consumer Prices. A true pricing policy (verite des prix) was adopted in principle in 1975, when the Government began to gradually eliminate subsidies on basic foods. The restructuring of the seriously distorted price system has necessarily taken severalyears in view of its potential impact on local production, cost-of-living, and budgetary savings. However, by July 1980, the last consumer price subsidy (on groundnut oil and millet flour) had been abolished. In general, the true pricing policy will  - 23 - seek greater flexibility to ensure that, in times of steeply increasing production costs, profit margins are not eroded and private investment is not discouraged, as is the case with the rigid system now in place. The list of goods requiring preliminary approval for price increases will be reduced to a few items, and emphasis will be placed on ex post verification of declared price increases. The program also calls for new measures relating to import and export prices, to better reflect the real economic cost of these goods (paras. 75 and 79). 74. In parallel with a more flexible pricing policy, the Government will annually raise modern sector wages and salaries by only 60 percent of the cost-of-living adjustment, plus an increase fully proportional to the rise, if any, in real per capita GDP over the same period. This new system applies to the public sector as of July 1980 (when salaries were raised by 7 percent), and will apply to the private sector as of January 1981, after a modest wage increase promised earlier by the Government comes into effect. 75. Import and Export Prices. While it is generally recognized that the CPA franc is overvalued with respect to Senegal, the common rules of the monetary union preclude an exchange rate adjustment by a single member country. The government program therefore calls for two complementary measures. The first, soon to be effective, is an increase of the basic import duty to 15 percent, following an increase from 5 percent to 10 percent in MIarch 1980. The Government will gradually eliminate some of the exemptions that apply to imported capital and intermediate goods; this will make import taxation more uniform and less discriminatory. The second measure is the introduction of an export subsidy of 10 percent on the fob value of five sectors that are expected to respond best to such incentives: processed fish, textiles including ready-made clothes and knitted goods, cotton, fertilizers, and agricultural tools. Besides raising incentives, these two measures are expected to yield additional net budget revenues of about CFAF 2.3 billion a year. 76. Agricultural Prices. The prices of four commodities--groundnuts, cotton, millet and rice--are key parameters in the economy in that they affect output, rural incomes, the cost of living, and also (especially ground- nut prices) the level of public revenue and savings. The program will seek to rationalize State intervention in these areas (partly on the basis of a study on the optimal relative prices for agricultural products commissioned by the Government and now nearing completion), and to maintain some subsidies for agricultural inputs along the following lines. The Government will continue to fix producer prices annually at levels consistent with long-term trends in world markets (groundnuts and cotton) and to protect farmers from sharp short-term price fluctuations, but will give higher priority than in the past to: first, reducing the margin between producer and world prices by eliminating waste and excessive intermediate costs; and second, ensuring a more "adequate" relationship between producer prices for various crops (especially groundnuts, cotton, millet) to avoid undesirable short-term shifts in output. 77. Regarding prices for domestically traded millet (which is only a small fraction, perhaps up to 20 percent, of the total crop) the Government will guard against sharp seasonal and inter-annual fluctuations by stocking and selling appropriate quantities of millet. However, Government will limit  - 24 - its market intervention to the operation of a security stock equivalent to CFAF 1.5 billion 1/ which, in effect, means accepting that market prices (at both producer and retail level) will vary. The Government has also begun to enlarge the area for private traders' activity in the market. Finally, the program intends to carry out an in-depth review of the millet marketing system with a view to introducing whatever reforms would seem warranted by 1983. 78. The domestic consumer price for rice will continue to be subject to cross subsidization between the (cheaper) imported rice and the (more expen- sive) domestic rice. In order to better reflect the real cost of foreign exchange, the Government intends to fully incorporate in the retail price the 15 percent import tariff (para. 75). As a logical follow-up to the true pricing policy, the program calls for a gradual decrease in fertilizer sub- sidies; subsidies on agricultural tools were discontinued in 1980. 79. Finally, an important objective of the program is to replenish the finances of the CPSP after the exceptional losses it incurred in 1979. To that effect, the level of subsidization and cross-subsidization performed by the CPSP will be periodically adjusted to its financial means (derived prin- cipally from surpluses on groundnut exports), and the Treasury will compensate the CPSP for costs resulting from government subsidies if they exceed CPSP's resources. The Investment Program 80. In designing and implementing an investment program, especially for the 6th Four-Year Plan of Economic and Social Development (1981-85), the Government seeks to stimulate economic growth within the constraints imposed by the stabilization objectives. These constraints are reflected in the overall size of the investment program and the financing pattern. Total fixed investments amount to 16 percent of GDP for 1980 and 18 percent for 1985, of which public investment will account for an average of 10 percent of GDP. The financing foreseen for 1980-82 is consistent with the upper limits agreed upon with the IMF and the Bank for domestic and foreign borrowing (in both amounts and terms), and with the public savings objective. At this time, about 27 percent of the financing remains to be found, and the Government expects that roughly half of this will be on concessionary terms. Government and parapublic enterprises will use commercial loans exclusively for directly productive projects whose cash-flows can carry the debt service of such loans. 81. The achievement of even the modest growth objective of four percent p.a. on average in the 1980s implies an ICOR of about four, which, although high by most standards, would be a definite improvement over past performance. Concentrating on the first three years (i.e., 1980 and the first two years of the 6th Plan) the Government has ensured that the share of directly productive 1/ About 30,000 tons, based on millet price in a "normal" year.  - 25 - sectors relative to infrastructural, social, and tertiary sector investments, will increase from the past 43 percent to almost 55 percent. More importantly, the Government (with technical assistance from the Association under Credit No. 1061) will make every effort to ensure that systematic and uniform economic and financial analysis of projects costing more than US$500,000 will lead to better selection of investments. For example, the Government has identified ten large projects, (equivalent to about 17 percent of the overall investment program), whose economic returns appear prima facie marginal. These projects will be subject to a thorough appraisal before any decisive steps are taken, and projects with an economic return lower than the estimated opportunity cost of capital will not be implemented. Table 7: PUBLIC INVESTMENT I/ (July 1980-July 1985) Proposed Five- Year Program Projects for Review CFAF Amount billion Percent Number CFAF billion Agriculture 512 22 1 29 Industry 685 29 3 160 Tourism 93 4 1 24 Commerce 15 - - - Transport 445 19 3 88 Telecommunications 89 4 1 49 Urban Investment 205 9 - - Education and Health 198 8 1 50 Other 117 5 - - Total 2,359 100 10 400 1/ Includes last year of 5th Plan and the four years of the 6th Plan. Also, in light of the poor overall response of the economy to higher invest- ment levels in the early seventies, the Government has established a post- evaluation unit in the Ministry of Planning from which it hopes to learn practical lessons for the design of new projects.  - 26 - Reforms in the Parapublic Sector 82. The program calls, first, for a halt in expansion of the public sector (already in effect), and a gradual withdrawal from the sector (Govern- ment is seeking to return its participations in small- and medium-size enter- prises to the private sector). Complementary efforts are underway to stream- line procedures to be followed by private investors, especially foreign. Second, the program introduces reforms in existing parapublic institutions, with priority given to those in agriculture. All public enterprises will operate on the basis of program-contracts ("contrats-plans"), which spell out the medium-term objectives to be met by each enterprise, as well as the respective financial obligations of the Government and of the enterprise. These contracts will also contain the investment program for the enterprise, including an appropriate financing plan, but will allow management enough freedom to achieve desired objectives (e.g., in the field of pricing). During fiscal year 1980/81, ten contracts are expected to be substantively established for enterprises in public transportation, water and power supply, housing, and agriculture. 83. The proposed reform of agricultural agencies goes beyond a mere administrative reform, and in fact, embodies a profound change in sector policies. The central objectives are to give the farmers greater respon- sibility in running their own affairs, and to reduce the cost of State intervention. With this new approach, Government hopes to achieve greater self-sufficiency in food, diversification of agricultural production and improvement in farmers' incomes. 1/ Since the regional rural development agencies 2/ are the only intermediaries for foreign-financed rural projects, both Government and foreign donors attach high priority to restoring their organizational and financial soundness. The recommendations of the studies that have been undertaken in this field will, once reviewed, be worked into the relevant program contracts. Each contract will contain staff reduction plans, including a first tranche to be executed during the next fiscal year, complemented with appropriate retraining and recycling programs. 84. An important new task of the regional development agencies will be to bring to fruition the system of independent farmers- cooperatives based on "village sections". In a gradual, pragmatic manner, and counting on the voluntary participation of farmers, much of the decision-making power con- cerning purchase of inputs, acquisition of credit, and primary marketing of 1/ In related efforts, the Government (with Bank Group assistance and financing) has prepared a project to reorganize and redirect the national institution in charge of agricultural research (ISRA) towards providing better coverage of the various climatic zones of Senegal, and towards programs for improving research on farming systems rather than on individual crops. 2/ Principally SAED, SODEVA, SODEFITEX, SOMIVAC.  - 27 - products will be transferred to the village sections and reorganized coopera- tives. During this process a diversified institutional set-up will prevail until the eventual emergence of a decentralized cooperative structure. Since adult literacy in villages is extremely low, various Government organizations will lend their support to ensure the long-term autonomy of village sections and to avoid the renewed risk of abuse by central bureaucracies. 85. The Government is carrying out the reorganization of the State cooperative system in a series of steps. In the last two years, Government has given wide publicity to cases of mismanagement in ONCAD, setting the scene for a major reform in 1980. Early this year, it limited ONCAD's functions to the delivery of inputs, the repayment of agricultural credit, and the marketing of groundnuts. ONCAD's monopoly in the millet trade was transferred to the private sector and the rice monopoly to the Stabilization Fund, which also operates through private traders. ONCAD was also officially discharged from its "guiding" role for the cooperatives. In August 1980, Government suddenly decided to liquidate ONCAD and gave notice of termination of employment to all ONCAD staff. ONCAD's marketing functions will be assumed by the crushing mills. The 1980/81 crop coming off the fields in December will be collected under the new system, which will eventually provide for a clear division of responsibility for the handling and transport losses that recently have grown to excessive proportions. The Government has decided to transfer the supply function and existing stocks of seeds and tools to a new company called SONAR 1/ a much simpler organization without any monopoly rights, which would carry out the gradual transition to a decentralized system involving the private sector. 1 86. In 1981, the Government will start pilot operations in the following areas: (i) direct deliveiy of inputs by the suppliers to the cooperatives; (ii) transfer of seed stocks from ONCAD to the village sections; and (iii) direct supply of credit to the village sections. The first two tests will be carried out under the Bank Group's Sine Saloum Agricultural Development project as recently amended. 2/ The transfer of seed stocks is of particular importance since the deterioration in quality of seeds treated and stored by ONCAD has been a major contributing factor to poor crop results in recent years. ONCAD used to supply farmers with their annual requirements of treated seeds on an advance basis, for which 25 percent interest in kind over a seven-month period was charged. The Government has already lowered this charge to 12.5 percent, but it is expected that transfer of ownership of seed stocks to the village sections will allow not only improved seed quality, but also further reduction in costs as new treatment and storage techniques are introduced. As a compensation for their involvement, the village sections will receive a remuneration based on 8 percent of the producer price. 1/ Societe Nationale d'Approvisionnement Rural. 2/ Credit No. 549-SE and Loan No. 1113-SE.  - 28 - 87. Regarding the uncovered debt of ONCAD to the banking system, esti- mated at about CFAF 30 billion at end-1979 and CFAF 40 billion at end-1980, the Government has asked external auditors to prepare the financial liquida- tion statements, which should be ready by July 1981. 88. After a three-year research program financed by the Association, it was established that considerable savings could be achieved by changing the formulae and techniques of fertilization. Government will make decisions in this respect after review of the research results probably some time in mid-1981. In the meantime the Government, as noted earlier, has agreed to gradually reduce the subsidy on fertilizers from its current level of 60-70 percent of cost. The level of future subsidies will be determined on the basis of a joint government/Bank Group review of the recommendations of the fertilizer study. The subsidy on agricultural tools has been removed, except for exports (para. 78). 89. The problem of financial assistance to farmers in years of drought will be resolved through profound changes in the CPSP and the agricultural credit system. In August 1980, Government rescheduled outstanding farmers' debts over a period of five years, and agreed to limit total annual debt repayment to a maximum of 25 percent of a normal year's harvest. In parallel, over the next two years, the Government will audit the cooperatives' member accounts to assess farmers' debts, and will stop repayment levies on future sales as soon as the old debt has been paid. Debt settlement will also trigger the release of cooperatives' development funds currently blocked at BNDS and the repayment to village sections of funds retained at the time when production is marketed (approx. CFAF 3 per kg of groundnuts). 90. In the new set-up, BNDS' functions will be considerably expanded. This institution has agreed to start recording agricultural loans at the level of individual farms or village sections, and to introduce downpayments and personal liability for heavy equipment to avoid overloading the borrowing capacity of the poorer village sections. Loan recovery will be reinforced by restoring the link between marketing and production, and loan recording will be improved at all levels with regular audits by BNDS at the end of each crop season. A reorganization study on BNDS is underway to prepare it for carrying out its new responsibilities. 91. Government will also commission a study to systematically review financial assistance to farmers in case of drought. Farmers by now are perceiving debt cancellation of bad crops as an acquired right. The financial burden of these debt cancellations weighs too heavily on the CPSP, and also, indirectly on the Treasury and the banking system. Government will therefore explore new approaches based on the STABEX revenues that normally become available after a bad crop. To assure that CPSP would be in a position to finance the remaining occasional stabilization payments without upsetting the financial equilibrium, Government will carry out a study of the financial requirements of CPSP, whose funds will be kept in a separate CPSP account with the Central Bank, under the final responsibility of the Treasury.  - 29 - B. Evaluation of the Program 92. The Government's program, as reflected in the Prime Minister's Policy Statement, is clearly of a different scale and nature from past actions, and holds out more promise of success in reviving the economy than the stopgap measures that used to be implemented. But because the program is so comprehensive, and in some respects quite bold, it is only prudent to expect resistance from vested interests, difficulties in coordination, and possible failures in implementation. And, as in the past, uncontrollable factors will no doubt play a role: it is unfortunate, in this respect, that the 1980 crops (especially groundnuts) are likely to again be, at best, mediocre. 93. As important as the breadth of the program, which covers almost every segment of the economy, is the mutually supportive character of its components. In the past, for example, attempts to control credit expansion have failed because the major source of excessive credit demand, ONCAD, had remained unaltered. Efforts to accelerate growth by raising the level of investment have failed because of the poor quality of the investment program, operational inefficiencies of the public agencies in charge of implementation, and inadequate attention to the implications of more investment for the government budget. Although serious efforts were made in the past to provide better incentives to farmers, the benefits of higher nominal producer prices have been largely wiped out by the direct and indirect costs of government intervention, the provision of inputs, the extension and marketing systems. And while the need to increase and diversify exports has long been recognized, the whole incentive system, especially the exchange rate and the tariff structure, has been biased towards encouraging sales on the domestic market, and has penalized nontraditional exports. 94. To a large extent these weaknesses and contradictions reflected the uncoordinated nature of policy decision-making and the lack of central guidance of the parapublic sector. While it will take time to change the deeply entrenched habits in public administration, it is of great significance that the Office of the Prime Minister has been assuming a much stronger leadership and coordinating role in designing the program of economic recovery. It is essential, of course, that it continues to do so in the implementation phase. It is equally significant that the three ministries principally concerned-- Economy and Finance, Planning, and Rural Development--as well as the top managers of the agricultural development agencies have been closely associated in preparation of the program and in initiating appropriate action (the Ministry of Finance has been playing a particularly active role). 95. In implementing the program, the Government will be faced with a set of potentially adverse factors: climatic, for obvious reasons; external, because Senegal will remain a very open economy even if, as projected, the share of imports in GDP declines from its extremely high levels of today; social and political, because of the likely opposition from certain quarters to the main goal of reducing consumption (in relative terms). The Government is well aware of these facts, and they are the reasons why the program realistically extends over a five-year period, and why its main macroeconomic objectives (with respect to growth and the resource gap) may appear modest.  - 30 - 96. The program nonetheless has some intrinsic limitations that may need correction in due course. For example, the Government lacks appropriate criteria for slowing down the growth of current expenditures. From a strictly economic viewpoint, it is disputable if less current expenditure and more capital expenditure is always desirable; or even more so, if reducing expendi- tures on goods and services is "better" than reducing personnel expenditures. The way the marketing of domestic cereals is dealt with reflects divergent viewpoints (within and outside of Government): the Government wishes to maintain a high degree of intervention (fixing prices, operating stocks, regulating private traders, etc.), while there is good reason to believe that the system is largely inoperative and potentially wasteful. Some measures that should be approached with caution are, for example, those relating to import tariffs and export subsidies. Theoretically, these measures are insufficient in coverage (therefore may create distortions), in degree (the "15 percent" and "10 percent" do not fully reflect the estimated overvaluation), and in nature (an export subsidy on value added rather than fob value would better achieve an incentive effect). Similarly, the system of price controls is still too complex; whereas more decisive changes could have been made in the composition of the investment program (linked to improved quality). A similar criticism could be voiced regarding the adequacy of the transitional system (e.g., SONAR) to replace ONCAD. However, it is too early to pass judgement on these measures, all of which assume gradual progress. 97. An outstanding issue related to the investment program concerns the dams on the Senegal River, to be constructed by the OMVS. 1/ Government has not included these investments in its program since funds available now cover only part of the program, and no agreement between OMVS member countries and foreign donors exists on a partial or phased implementation of the OMVS investment program. If OMVS does move ahead, Government will include in its debt service projections any related debt service, and an appropriate part of this project in its investment program, while reducing other investments such as highways so as not to inflate the overall program beyond the agreed ceiling. 98. The positive aspects, however, are, first, that all the actions contained in the program are unambiguously in the right direction and con- sistent with declared objectives; and, second, that in all areas where there appears to be room for improvement (as illustrated above), the Government has remained openminded. The various studies incorporated in the program are all intended to eventually provide the basis for further changes if need be. C. Macroeconomic Projections 99. While the years 1982 and 1983 will be mainly dedicated to sta- bilization and recovery, Senegalese planners hope to maintain the 4 percent 1/ Organisation pour la Mise en Valeur du Fleuve Senegal.  - 31 - rate of growth over the long term while introducing a stability measure each year from 1984 onwards. In this respect it is clearly important that by 1985 and thereafter a slightly higher level of investment be achieved, and that the shift toward directly productive investments and better project selection be continued. Moreover, the planned reorganization of agricultural institutions and improved price incentives for exports should contribute to GDP growth without requiring much additional investment. If this is so, the overall growth picture in historical perspectives will look as in the chart below: GROSS DOMESTIC PRODUCT 1960- 1985 GDP - P~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~5 - --- DP PROJECTION ---.- POPULATION / t 69 t8862 18B4 1 GM 1968 19710 1972 t8974 1978 1978 t8980 1982 1984 YEAR (l) Index of approximate population growth of 2.7 percent a year. 100. The Government expects a reduction in the level of consumption from close to 100 percent in 1980 to 86 percent of GDP by 1985. I/ After a possible initial fall in 1980 due to stabilization measures and unfavorable weather conditions, this would be feasible without further reductions in per capita 1/ All figures in this section are expressed in 1970 prices.  - 32 - consumption. It should be noted that the austerity effort to narrow the resource gap to a sustainable level of some 6 percent of GDP by 1985 will have to be carried out against an adverse trend in the terms of trade (resulting inter alia from higher petroleum prices and opposite movements in world market prices for exported groundnut products and imported cereals) equivalent to 3 percent of GDP. Expected changes in the structure of GDP are illustrated below: Table 8: RESOURCES AND USES, 1965-1985 (in percent of GDP, constant 1970 prices adjusted for terms-of-trade variations) Achieved Projected 1965-69 1970-79 1975-79 1980 1981 1985 GDP 100 100 100 100 100 100 Less: Consumption 93 89 92 96 90 86 Fixed investments 10 13 13 13 14 14 Stocks 2 4 3 1 1 1 To compensate for losses in terms of trade - 1 2 3 4 Resource Gap 5 6 9 12 8 6 P.m: Domestic Savings (7) (11) (7) (2) (7) (9) Note: All figures in this section are expressed in 1970 prices. 101. Balance-of-payments projections are shown in Annex 1, pages 5-7. The volume of exports is expected to grow at 4.9 percent a year between 1979 to 1985, as compared to 1.7 percent between 1970 and 1979. Not much improve- ment is expected in Senegal's traditional exports, but substantial improve- ments are projected to come from secondary exports such as fish (5.6 percent a year) and manufactures (7.1 percent a year) as a result of export subsidies and the planned phosphoric acid/fertilizer plant. At the same time, the share of imports in GDP would be reduced from 42 percent in 1979 to 34 percent in 1985, the level prevailing during the mid-1970s. The growth in imports of petroleum, semi-finished products and equipment goods cannot be substantially reduced without threatening growth, but possibilities exist for reducing imports of consumer goods, in particular after the 5 percent annual volume increase in food imports experienced between 1970 and 1978. 1/ In addition, 1/ Food imports in 1979 were much higher due to a previous drought.  - 33 - in the medium term, imports will decline as a result of the additional 10 percent duty on imports in effect since 1979. The other current balance-of- payments transactions are expected to show a constant surplus, with steadily growing tourist and shipyard revenues resulting from ongoing investments, as well as workers- remittances compensating for steep increases in interest payments on public debt. 102. In the 1980-82 period, about US$37 million a year in grants and US$150 million a year in soft loans will be required to maintain the forecast flow of disbursements of project-related concessionary funds. In addition, Senegal will need an average amount of commercial borrowing of about US$80 million during fiscal years 1980/81 and 1981/82, increasing to about US$270 million by 1984/85. Based on these capital flows, the foreign debt service can be kept at below 15 percent of projected exports. Non-project-related exceptional aid is tentatively projected as follows: Table 9: DISBURSEMENTS OF EXCEPTIONAL AID 1980-82 (in millions of US dollars) 1/ 1980 1981 1982 Capital Aid 204 60 n.a. World Bank 15 45 n.a. STABEX 35 65 2/ - France 104 3/ n.a. n.a. Short-term OPEC loan 50 -50 - Balance of Payments Assistance 97 55 69 IMF gross 101 64 88 Repayments 4/ 4 9 19 Total Exceptional Aid 291 115 69 1/ Some unfavorable preliminary reports on the 1980/81 crop are not yet taken into account; if confirmed, exports may be US$150 million below the projections, partly compensated by a new STABEX allocation. 2/ STABEX allocation of US$101 million less US$36 advance from France. 3/ Including US$36 million advance on the 1981 STABEX allocation. 4/ Bank estimates. If all these inflows were on Eurodollar terms, the foreign debt service ratio would reach in 1985 about 27 percent, a level that lenders would probably find unacceptable, thus precluding such borrowing in the first place. With the exceptional aid projected above, the deterioration in net foreign assets will be limited to a fall from minus US$319 million at end-1979 to minus US$441 million at end-1982, with an increasing share being financed  - 34 - by the IMF. Debt service will fall temporarily from 18 percent of export earnings in 1980 to about 11 percent in 1983; it will tend to increase again once this program of exceptional aid is completed. Creditworthiness 103. With the crisis, Senegal's creditworthiness has become an issue. If the program were to fail, the Government would have little choice but to: (i) reduce the level of investment; (ii) lower producer prices for groundnuts to raise Government's net receipts from the sector; (iii) introduce quantitative import controls, excepting food, to lower the current account deficit; or (iv) any combination of the three measures. Such action could improve the balance- of-payments position in the short run, but would certainly weaken prospects for reasonable long-term growth and creditworthiness. 104. Senegal's creditworthiness is enhanced by the arrangements of the monetary union to which it belongs, to the extent that the system ensures free convertibility 1/ of the CFA franc at a fixed exchange rate to the French franc. Correspondingly, the Government's access to Central Bank credit is strictly limited, and while short-term variations of foreign reserves are inconsequential for any one country of the union, and to a large extent for the union as a whole, it is BCEAO's responsibility to maintain the union's foreign reserves over the long run. If the union's reserves fall beyond prescribed limits and, a fortiori if they become negative as is currently the case, the Central Bank will restrict credit availability especially in member countries that are running deficits on their external accounts, Senegal being clearly a case in point. The creditworthiness of Senegal depends, therefore, in the first place on the Government-s ability to raise the local currency needed for its foreign debt service payments; particularly in times of credit restrictions, this will force the Government to impose strict budgetary discipline. However, member countries could postpone adjustment of their budgetary policies through additional foreign borrowing, building up debt service obligations that, at a later stage, could no longer be met. The government program and the agreement under the IMF Extended Facility are intended to avoid such an occurrence. In the meantime, considering the Government's program and the situation of the monetary union as a whole, the country is creditworthy for Bank Group lending but on somewhat softer terms than in the past. PART III - THE STRUCTURAL ADJUSTMENT LOAN/CREDIT History 105. During the Bank Group's Annual Meetings of 1978, the delegation of Senegal enquired about the possibilities of program lending to Senegal, and 1/ Technically, free convertibility into French francs; convertibility with non-franc currencies is in turn regulated by the foreign exchange regime of the franc area which has been quite liberal for many years now.  - 35 - invited a Bank team to help draft an economic program for the country. A Bank mission visited Senegal in November/December 1978 and made recommenda- tions relating to macro-planning investments, public savings, foreign debt management, export incentives, the financial relationships with the para- public sector, and related matters. In July 1979, the Minister of Finance visited Washington to discuss these recommendations, and agreement was reached on several key issues. Along the lines of this agreement, Government produced the economic rehabilitation plan, which was eventually approved by the National Assembly in December 1979. At that moment, it had become clear that 1980 would show a very serious balance-of-payments deficit as a result of a set of specific negative circumstances, and Government requested an IMF Extended Fund Facility. The proposed structural adjustment operation was appraised in March 1980; negotiations started in Dakar in September 1980 and were concluded in Washington in October 1980. Cooperation with IMF 1/ 106. In 1974, Senegal drew its gold tranche with the Fund. In 1975, Senegal received a total of US$30 million from the DIF oil facilities, followed in 1978 and 1979 by drawings on the Trust Fund of, respectively, US$18 million and US$32 million. After the 1977/78 drought, the Fund assisted the Government to overcome the balance-of-payments problems with US$27 million drawings on the compensatory facility, followed in late 1979 by a US$12 million standby arrangement in the first credit tranche. During implementa- tion of the programs in the framework of these drawings, the Government achieved improvements in fiscal policies; the monetary authorities were however far less successful in containing credit expansion within the agreed limits. In August 1980, the IMF Board approved an Extended Fund Facility (EFF) amounting to US$243 million (SDR 184.8 million), including US$166 million from the supplementary facility. Maximum drawings until February 15, 1981 have been set at US$71 million to be drawn in three tranches, with subsequent tranches totalling US$102 million until June 30, 1982, and US$70 million in the following fiscal year. In addition, during 1980, the remaining US$2.8 million of the first credit tranche was drawn, and towards the end of the year, US$27.6 million drawings on the compensatory facility are expected. During preparation of the Extended Fund Facility and the proposed Structural Adjustment Loan/Credit, cooperation between the IMF and the Bank was very close and involved joint discussions in the field with the Senegalese authorities. 107. Although the intervention of the Fund and that of the Bank Group now proposed is based on the same government program, the two agencies have different emphases in their respective agreements with Government, and in their monitoring program. The performance criteria agreed upon with the IMF for the phased drawings on the EFF are in the areas of domestic credit, the overall deficit on central government operations, and foreign borrowing, as summarized in the following paragraph. 1/ See details in Annex VI.  - 36 - 108. Government has agreed to improve the balance-of-payments situation by keeping monetary expansion below the rate of increase in nominal GDP. To achieve this objective, during 1980 total domestic credit of the banking system will be allowed to expand at an annual rate of 8 percent according to an agreed monthly program. The credit ceiling for 1981 is being reviewed in light of the size of the 1980/81 crop and the balance-of-payments situation. The Government has committed itself to gradually reduce the overall deficit in central government operations from CFAF 8 billion at the end of the first quarter of FY81 to a surplus of CFAF 4 billion at the end of the fourth quarter (July 1, 1981). This overall surplus will be reflected in a corres- ponding decrease in the sum of new government borrowing from the domestic banking system, payment arrears of the Treasury, accounts of correspondents, and similar arrangements. Foreign public borrowing with maturities from one to twelve years will be limited to CFAF 16 billion from July 1, 1980 to June 30, 1981, and within this ceiling borrowing with maturities from one to five years will be limited to CFAF 2 billion. 109. Beyond these three performance criteria, the program under the EFF includes new price and wage policies, an increase in import duties, and the introduction of export premiums. These measures are also part of the Policy Statement of the Government, (attached as Annex IV). STABEX 110. Senegal has been one of the main beneficiaries of the European Common Market STABEX fund under the Lome conventions. This fund aims at stabilizing the revenues from certain specific exports from the associated developing countries to the Common Market, by giving compensatory payments to the governments of countries that suffer from a drop in each of the export items covered by the convention. The repayment obligation of STABEX alloca- tions depends on the country's ability. After the bad 1977/78 crop, Senegal received US$88 million in STABEX allocations, and in 1980 it may receive an advance of US$35 million, with a further estimated US$65 million to come in 1981 depending on the Common Market's import figures of groundnut products in 1980. STABEX funds have no predetermined destination, but Government intends to use part of them to finance cancelled farmers' debts, and part for its public investment program. Cooperation with France 111. Since Independence, France has provided increasingly large amounts of financial and technical assistance to Senegal, amounting to US$44 million a year equivalent in grants and US$14 million in loans, at terms of roughly 5.5 percent interest and 12 years' maturity. Technical assistance is pre- dominantly for secondary and university education. The French Government has recently agreed to a Senegalese request for exceptional aid. The first tranche of this assistance will total about US$104 million (CFAF 21.5 billion) to be disbursed in 1980. Out of this package, an amount of US$36 million (CFAF 7.5 billion) originating from the French Treasury is given as a one- year advance on the expected STABEX allocation related to the bad 1979/80  - 37 - crop; US$19 million (CFAF 4 billion) from the Caisse Centrale de Cooperation Economique (CCCE) is intended to consolidate part of the Government's debt to the private sector; another US$49 million (CFAF 10 billion) from the CCCE is to help finance the capital budget, including some government contributions to Bank Group projects. A possible second tranche, the size of which has not yet been determined, may help finance ongoing agricultural reforms and payments arrears to the French Treasury of Senegalese counterparts for French technical assistance. The short-term Treasury loan is interest-free, and the US$19 million loan from the CCCE bears a 7.5 percent a year interest with 15 years' maturity, of which 5 years' grace; the US$49 million loan for the capital budget is on market terms (14 percent interest). The French authorities have contributed to the agricultural reform program through field work, jointly with the Bank/IDA. Loan/Credit Objectives 112. The objective of the proposed Structural Adjustment Loan/Credit would be to support the Government's efforts in carrying out its medium- term economic rehabilitation program as described in Part II of this report, and particularly the actions spelled out in the Government's Policy Statement attached to the letter from the Prime Minister to the President of the Bank Group (attached as Annex IV). Foreign exchange proceeds from the proposed Loan/Credit would help avoid the imposition of severe quantitative import controls and deflationary measures that would reduce productive investment, as well as too abrupt cuts in consumption by all social groups, including the poorer segments of the population. 113. In view of the magnitude of the task ahead, as measured by the size of the current account deficits of 1979-80, and as evidenced by the list and the nature of the institutional reforms to be undertaken, the pro- posed Loan/Credit should be regarded as only a part of the total external financial effort required. First, the proposed Loan/Credit would be com- plementary to the financing made available by the Fund, France and STABEX, representing about 11 percent of the total external financing package. Exceptional aid from other sources, though less directly related, is also part of the global effort; this is particularly the case for food aid from EEC (to be determined) and from USAID (US$35 million over five years). Second, the Bank/IDA has conceived the proposed Loan/Credit as a first operation, to be followed by others in coming years, beginning in FY83. It is expected that the balance-of-payments gap for the next two years, although very much reduced, will not be covered by project aid and normal non-project aid (essentially the financial cost of technical assistance); it could again become very large if the 1980/81 groundnut crop is as low as presently predicted, 1/ or as a result of other external factors such as further substantial oil price increases. 1/ Pre-harvest estimates are at about half the size of a "normal" crop of I million tons.  - 38 - 114. The results of the Government's recovery program that will be implemented over 1980-85 will take time to materialize in full. In particular in the agricultural sector, details of the proposed policies still have to be worked out by the Government. The intended change from a centralized state cooperative system to a more decentralized system in which farmers' initia- tive plays the dominant role, will need to be monitored carefully, and should be introduced in steps to incorporate the lessons from pilot operations such as those being carried out under the recently redesigned Sine Saloum Project. 115. The proposed Structural Adjustment Loan/Credit would set the reform process in motion according to a detailed time schedule, thus creating a momentum whose maintenance would be made possible by further Loans or Credits of this type. Specifically, this first operation would help the Government handle the current public finance and balance-of-payments crises, and would assist in structural adjustment in the four areas covered by government programs: fiscal and monetary; prices and incentives; investment programs; and institutions and policies in the agricultural sector. The need for a possible second operation would be assessed on the basis of progress made under the program, and the findings and recommendations of studies to be undertaken under this first operation. The Proposed Loan/Credit 116. The proposed IDA Development Credit for the equivalent of 22.9 million SDR (US$30 million equivalent) and the proposed Bank Loan of US$30 million would both be made to the Government. The Credit would be on standard terms; the loan would be repaid over 20 years including a grace period of 5 years. The equivalent in CFA francs of the proceeds from the Credit and the Loan (other than those serving to pay for short-term consultants directly), would be deposited in the Government's project account at the Senegalese branch of BCEAO in Dakar upon withdrawal of proceeds from the Credit and the Loan Accounts (draft Development Credit Agreement and draft Loan Agreement, Section 3.02). The Government would authorize its Central Bank to act as its representative for presenting withdrawal requests from the Credit and the Loan (draft Development Credit Agreement and draft Loan Agreement, Section 2.09). 117. The proposed Loan/Credit would finance: (i) Senegal