Philippines - Third Livestock and Fisheries Credit Project

Document of / The World Bank FOR OFFICIAL USE ONLY it C Report No. 2828-PH PHILIPPINES DEVELOPMENT BANK OF THE PHILIPPINES THIRD LIVESTOCK AND FISHERIES CREDIT PROJECT STAFF APPRAISAL REPORT June 13, 1980 Projects Department East Asia and Pacific Regional Office This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  CURRENCY EQUIVALENTS Currency Unit - Philippine Peso (FL) PF 1 = US$0.135 FL 7.40 = US$1 WEIGHTS AND MEASURES 1 ha = 2.47 acres 1 km = 0.62 miles 1 sq kIn = 0.386 sq mi I mi = 3.28 ft 1 sq m = 10.76 sq ft 1 cu m = 35.31 cu ft 1 M cu m = 810.7 ac ft 1 mm = 0.039 in 1 kg = 2.2 lb ABBREVIATIONS ACA - Agricultural Credit Administration APD - Agricultural Projects Department APPS - Agricultural Plans and Program Staff BAAD - Branches and Agencies Department BAI - Bureau of Animal Industry BFAR - Bureau of Fisheries and Aquatic Resources CB - Central Bank COA - Commission on Audit DBP - Development Bank of the Philippines FAO/CP - Food and Agriculture Organization/Cooperative Program FIDC - Fisheries Industry Development Council GOP - Government of the Philippines ICB - International Competitive Bidding LBP - Land Bank of the Philippines LDC - Livestock Development Council MIS - MIanagement Information System MNR - Ministry of Natural Resources MOA - Ministry of Agriculture NEDA - Nlational Economic Development Authority NNC - National Nutrition Council OED - Operations Evaluation Department PCAC - Presidential Committee on Agricultural Credit PCR - Project Completion Report PDB - Private Development Bank PPAR - Project Performance Audit Report TBAC - Technical Board for Agricultural Credit GOVERNMIENT OF THE PHILIPPINES FISCAL YEAR January 1 - December 31  FOR OFFICIAL USE ONLY PHILIPPINES DEVELOPMENT BANK OF THE PHILIPPINES THIRD LIVESTOCK AND FISHERIES CREDIT PROJECT Table of Contents Page No. 1. THE SECTOR . . . . . . . . . . . . . . . . . . . . . . . 1 Introduction . a . . . a . . . . . . . . . . . . . .1 The Rural and Agricultural Sector. . .... 2 Government Objectives . . . . . . . . . . . . . . . . 2 Agricultural Credit ..... . a . . a . . . . 3 Animal Protein Subsectors . . . . a . . . . . 5 Subsector Trends a a . a . . . . a . . . . . a . . . . . 9 2. INSTITUTIONAL FRAMEWO4RK a a a a . . a . . . . . . 12 Sectoral Agencies . . a . . . . . . . . . . . . . .. oa 12 Financial Intermediaries . . ........ . . . ..a . . 13 Interagency Coordination ... . . . . . . . ..... . 13 The Development Bank of the Philippines a . .a... 14 3. PAST LENDING FOR LIVESTOCK AND FISHERIES.. 21 Review of Previous Projects . . . . . . . . . . . . . . 21 Experience with Past Projects . . . . ... . . . . . . 22 DBP's Institutional Development . . . . . . . . . . . . 22 Interagency Relationships ............... 25 Implementation Experience .. a a a a a... . a ... 25 4. THE PROJECT . . . . . . . a . . . . . . a. . . . . . . . 27 Project Objectives . . .. . . . . . . . . . . . . . * . 27 Project Framework . . . . a. . . . . . . . . . . . . . 27 Project Description a a a a a . a a a a a a a a a a . . 28 Detailed Features .a . a . . . . . .a . a . . . . . a . 28 A. Credit Components .a.a. a a a a a a a a . . a 28 Small Livestock ...... . . 29 Cattle .. . . a . a a . . . .a.a. . 29 Fisheries . . .a..a.a. . . . . . . . . .a. 29 B. Non-Credit Components . . . . . . . . . . . . . . 30 (a) Sectoral Development Program (Cattle) . . . 31 (b) Other BAI Programs . . . . . . . . . . . . 31 (c) FIDC Programs . . . . . . . . . . . . . . 32 (d) Technical Assistance - DBP . . . . . . . . 32 Implementation Schedule . .......... . a.a.. . . 33 Cost Estimates .a. a.. . a... .a. a . a a . a 34 Consultants' Costs ............ . a a . . . . .. . 36 Project Financing . . . . .a . . . . . . . . . . . . . . 37 Procurement a . . .a....... . a e . . . . .... 38 Disbursements .a. .a ........ .a a.... a.. 38 r This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  Page No. Accounting and Reporting .. .39 Internal Audit .. .39 Lending Terms ............ 40 5. PROJECT IMPLEMENTATION AND EXECUTING AGENCIES . . . . . . . . 40 Participating Agencies . . . . . . . . . . . . . . . . . . 40 Annual Lending Program ................. . 40 APD II and BAAD's Interaction . . . . . . . . . . . . . 41 Role of APPS . . . . ........ 41 Project Management and Implementation . . . . . . . . . 42 Arrears Reduction . . . . . . . . . . . . . . . . . . . 42 Technical Assistance from BAI . . . . . . . . . . . . . 42 Project lpact on DBP ................ . . 43 6. MARKETS, PRICES AND ENTERPRISE INCOMES . . . . . . . . . . 44 Market Prospects and Prices . . . . . . . . . . . . . . . 44 Pigs and Poultry .. .44 Beef and Milk . . . ........ . . 44 Fish ..................... 45 Enterprise Models and Incomes ......... . . 46 Pigs and Poultry ... . .46 Cattle: Hill Production . . . . . . . . . . . . . . . 48 Cattle: Village Level Production . . . . . . . . . . . 48 Inland Fisheries . . . . . . . . . . . . . . . . . . . 48 Marine Fisheries ... . . . . . . . . . . . . . . . . 50 Other Fisheries . . . . . . . . . . . . . . . . . . .. 51 Environmental Impact ... . . . . . . ...... . . . 51 7. BENEFITS AND JUSTIFICATION . . . . . . . . . . . . . . . . 52 Economic Impact, Productivity and Employment Estimates . 52 Economic Returns . 52 Sensitivity Analysis . 56 Risks .. . .57 8. AGREEMENTS TO BE REACHED AND RECOMMENDATIONS . . . . . . . 57 ANNEXES 1. Basic Data, Table 1 Summarized Balance Sheets, Table 2 Relationship Between Arrears and Loans Outstanding, Table 3 2. Draft Terms of Reference for DBP Trainers' Trainer (Agriculture)  - iii - 3. Detailed Cost Table, Table 1 Estimated Disbursement Schedule, Table 2 Indicative Lending Program, Table 3 Terms of Subproject Lending, Table 4 DBP's Annual Lending Program, Table 5 ANNEXES (continued) 4. Supporting Tables 5. Selected Documents and Data Available in the Project File CHARTS 1. DBP's Top management Structure 2. Organizational Structure of Agricultural Projects Department II (Livestock and Fisheries) MAPS 1. Philippine Fishing Grounds (Map No. 14744) 2. Declared Extended Economic Zone (Nap No. 14745)   PHILIPPINES DEVELOPMENT BANK OF THE PHILIPPINES THIRD LIVESTOCK AND FISHERIES CREDIT PROJECT 1. THE SECTOR Introduction 1.01 The Government of the Philippines has requested the Bank Group's assistance to the Development Bank of the Philippines (DBP) for financing a third phase project - following two previous agricultural credit projects - for promoting livestock and fisheries development. During their implementa- tion over the past eight years, there has been significant growth in DBP's institutional capabilities, and one of the principal objectives of this project is to further enhance this growth through inclusion of a number of institution-building provisions in the project. In a wider context, the project would also provide support to the two subsectors' specialized agencies within the Government responsible for the subsectors. The project's credit component would support, through DBP, the continuation of past nationwide efforts to promote commercial production of pork, poultry and eggs. In the cattle subsector, the project would promote beef and milk production on a backyard basis at the village level, while encouraging the overall increase in the national herd through support for breeding/fattening operations on extensive pastures in a number of hilly areas of the country. Fisheries development would emphasize the technical upgrading of existing inland brackish-water fishponds, and support the modernization and expansion of the marine fleet for previously underutilized marine waters, by employing less costly fishing vessels, smaller than the average of the current commercial fleet. The proposed loan of US$45 million would be made to the Government of the Philippines for 20 years, including 5 years of grace. US$41.3 million would be onlent to DBP on the same terms. 1.02 This will be the seventh Bank loan to DBP for agriculture./l In addition, a loan to support fisheries training at various levels has recently been approved by the Board, while projects to strengthen supporting services for agriculture (including livestock) and to strengthen support services for fisheries in general and to develop infrastructure for artisanal fishermen are currently under preparation. Several other Bank projects provide support for /1 See Annex 1, Table 1 for the list of projects and basic data on DBP.  -2- irrigation and crop development, while livestock and fisheries are also supported through agricultural credit loans to the Land Bank and the Rural Banking System / (para. 1.11). 1.03 This loan proposal was prepared by the Government/Development Bank of the Philippines with the assistance of FAO/CP and was appraised in August/September 1979, by Messrs. J. Gregor (leader), B. Berman, S. Dass, L. Sprague and Ms. T. Yip (Bank) and Messrs. R. Ayre-Smith, G. Irvin, K. Neils and P. Wilson (consultants). Mr. G. Ablasser (Bank) assisted with the final review of the project's economic aspects. The Rural and Agricultural Sector 1.04 Some 31 million people, or 70% of the Philippine population live in rural areas, where social services are poor, economic opportunities limited, agricultural productivity often low and underemployment high. About 60% of the population depend directly on agriculture. The rural population is growing at 2.7% per year, reflecting a natural increase of about 3.2% and an annual rate of migration to the cities of 0.5%. 1.05 Agriculture is the dominant sector of the Philippine economy, accounting for about 26% of GDP, slightly less than 50% of total employment, and 50-60% of the foreign exchange earnings. Nearly three-quarters of the land under cultivation is devoted to grains production, notably rice and corn; other principal crops are sugar, coconuts, abaca, pineapple and tobacco. 1.06 The major part of Philippines' agriculture comprises small-scale farms. The national average landholding is about 3.6 ha. Most of the nonmarginal lands, especially in the lowland areas, are under cultivation, and agricultural development and improvement of farm incomes critically depend on increased productivity of the already cultivated lands. Because of the small average farm size, animal production consists predominantly of backyard or small scale commercial /2 enterprises. It is estimated that more than 80% of the pork and 70% of the beef consumed in the Philippines come from these sources. Backyard animal production is characterized by poor husbandry and management which, given the generally inferior types of animals, result in low productivity. 1.07 Government Objectives. Government's agricultural policy emphasizes food production, agricultural diversification, reforestation and stronger linkages between agriculture and industry. Key components of the development strategy are (i) agrarian reform of rice and corn lands, (ii) /1 Loans 423-PH, 607-PH, 1010-PH, 1399-PH, 1646-PH /2 The line of demarcation between backyard and small scale enterprise is not very clear. The principal difference is the proportion of feed produced on the farm or in the backyard rather than bought.  -3- rural infrastructure development, (iii) improved credit programs and (iv) malnutrition prevention programs. Progress has already been achieved with this strategy as is evident from increased farm production and a more favorable growth rate of rural family incomes compared to incomes of urban families. Nonetheless, of the 15 million people in the lower 40% of the income scale, 12 million are found in the rural areas; 39% of the rural population are poor compared with 23% of urban. 1.08 A major contribution towards achieving the objective of increased production has been irrigation development. Improved technology for rice cultivation has considerably raised the production potential of the irrigated areas. With the achievement of self-sufficiency in food grain production, agricultural development priorities are no longer focused exclusively on major irrigation projects, especially since irrigation will become increasingly expensive as more marginal areas are included. 1.09 In contrast to the continuous progress achieved in irrigation, growth in the other food producing subsectors has not been satisfactory. Government is now preparing a "Food and Nutrition Plan," a strategy for accelerating food production and improving consumption. The Plan is expected to provide a framework for the identification and preparation of projects and programs,.generate greater internal and external resources and policy support for such projects, and increase the Philippines' capacity to implement food-related projects and programs. The work is being carried on by various task forces and individuals from the Ministries of Agriculture and Natural Resources, the National Economic Development Authority (NEDA) and the National Nutrition Council (NNC), with assistance from Bank staff. 1.10 Agricultural Credit. As a result of the development of a country- wide banking network and the implementation of government-sponsored credit programs, there has been a gradual shift over the last few years from the non- formal channels of credit to institutional sources of credit. The largest of the government-owned institutions is the Philippine National Bank. Although the bulk of its resources is channeled into the sugar industry, it plays a leading role in providing short-term production credit to the various government-sponsored agricultural programs. Other government-owned institutions include the Development Bank of the Philippines (DBP), the major supplier of medium and long-term credit to agriculture. The Land Bank of the Philippines /1 and the Agricultural Credit Administration (ACA) are basically oriented towards small farmers, and provide financial support to the beneficiaries of agrarian reform. /1 Land Bank is the executing agency for the Small Farmers Development Project, Loan No 1646-PH. The project became effective on 4/25/79 and aims at increasing productivity and incomes of small farmers through provision of credit, coordinated delivery of technical assistance and improved infrastucture. It also includes measures to strengthen Land Bank field operations.  -4- 1.11 Among the privately-owned institutions involved in agriculture are commercial banks, rural banks, private development banks (PDBs), savings and loan associations and savings and mortgage banks. The rural banks provide a wide geographical coverage, have relatively low overhead costs and maintain close links with their farmer-borrowers. However, many of these banks are financially weak. Their lending operations generally cover a broad range of government-sponsored agricultural programs and are mostly geared to short- term production financing with the exception, however, of the Central Bank/ IBRD Rural Credit Projects /1 for medium- and long-term financing of farm machinery, livestock and poultry development. The PDBs, which are generally located in the provinces, provide finance to small-scale enterprises and farmers through mobilization of long-term resources. A recent restructuring of the ongoing Fourth Rural Credit Project (Loan 1399-PH) enables PDBs to become lending intermediaries under the Project through access to the Central Bank's rediscount facility for term loans. 1.12 Agricultural credit programs in the Philippines form part of an Integrated Agricultural Credit Plan which covers the period 1977-1982 and which is overseen by the Presidential Committee on Agricultural Credit. Within the framework of the Plan, annual plans are established and evaluated. The Plan covers both production and term credit, and takes into account all credit programs implemented by public and private institutions. Formal agricultural credit rose from P 5.7 billion in 1971 to P 12.1 billion in 1978, with about 95% of loans having terms of less than one year. In 1978 about 43% of all lending was for the production, processing and marketing of sugar, 29% for food commodities in general - of which 10% was for livestock and fisheries - and the remaining 28% for other activities. The Philippine National Bank accounted for 42% of total lending, followed by commercial banks with 29% and DBP and rural banks with 20% and 5%, respectively. The remaining 5% was shared by other institutions. /1 First Rural Credit Project, Loan 423-PH of US$5.0 million provided medium- and long-term finance to farmers and fishermen through 140 rural banks. Second Rural Credit Project, Loan 607-PH of US$12.5 million was similar to the first project but, in addition, it also provided finance for storage and processing and on-farm transportation equipment. Third Rural Credit Project, Loan 1010-PH of US$22.5 million added new subloan categories, mainly for farm machinery workshops, reconditioned trucks, fishmeal plants and woodcraft plants, fishpens and small dairy farming. Fourth Rural Credit Project Loan 1399-PH of US$36.5 million continues the activities of the previous projects in that it finances farm mechanization, light transportation, cottage and agro-industries, coastal and inland fisheries and small-scale livestock development. Effective date: 6/2/77. Closing date: 12/31/80.  -5- 1.13 DBP's agricultural lending covers commercial crops, food crops, livestock, fisheries, grain processing and storage. Its agricultural portfolio on December 31, 1978 included about 5% of loans maturing in one year or less, 58% in one to five years, 33% in five to ten years, and 4% in over ten years. It provides about 20% of all institutional lending for livestock and 30% of lending for fisheries on a nationwide basis. DBP's volume of all agricultural loans approved runs at about P 500 million per year. Animal Protein Subsector 1.14 Demand. Estimates of the population growth rate for the Philippines imply a 1985 population of 57 million, or one fourth higher than the 46 million estimate for 1978. At the same time, per capita income is expected to grow in real terms by 3% p.a. As a result, the national demand for animal protein in 1985 is estimated to increase by 42% over 1978 for beef, with a corresponding increase of 40% for pork, 37% for chicken and 30% for fish. 1.15 Supply. Tables 1.1 and 1.2 show the trend in livestock population and fisheries catch since 1976. It is significant that in spite of substantial annual growth rates in the commercial sector (in part supported by previous Bank loans) the overall annual growth of total cattle and carabao population has not kept pace with overall human population increases. How- ever, commercialization has had a significant impact on the number of pigs and poultry and, therefore,on total supply. For fish, the growth in marine catch has slowed, while the impact of investments in the inland fisheries subsector is just becoming evident.  - 6 - Table 1.1: LIVESTOCK POPULATION TRENDS (millions of head) 1979 % annual Definition 1976/a 1977 1978/a 1979 % total growth /c Cattle 1.74 1.72 1.82 1.84 100 2.3 Backyard < 21 A.U. /b 1.34 1.31 1.32 1.42 77 1.9 Commercial > " 0.40 0.41 0.50 0.43 23 4.4 Carabao 2.72 2.90 2.96 2.81 100 1.8 Backyard n.a. 2.66 2.47 2.35 96 1.9/d Commercial n.a. 0.24 0.49 0.46 4 40.4/d Pigs 6.49 5.70 6.91 7.23 100 5.7 Backyard < 21 A.U. /b 5.91 4.89 5.68 5.95 82 1.7 Commercial > " 0.58 0.81 1.23 1.29 18 42.9 Chickens 45.67 45.29 58.89 50.46 100 6.1 Backyard <500 A.U. /b 37.35 32.65 41.42 37.80 75 2.8 Commercial > " 8.32 12.64 17.47 12.64 25 17.6 Layer 4.75 7.59 9.30 7.39 58 16.6 Broiler 3.57 5.05 8.17 5.25 42 19.0 Ducks 4.10 4.23 5.37 4.45 100 5.2 Backyard <100 head /b 3.55 3.30 3.53 2.91 65 (0.5) Commercial > " 0.55 0.93 1.84 1.54 35 61.3 /a Estimates based on inadequate samples. /b A.U. = animal unit: one adult equals two young animals; adult cow or carabao = 2 years; adult pig = 8 months; adult chicken equals two broilers where broiler < 2 months; ducks enumerated on head count basis regardless of age. /c % annual growth calculated by fitting trend line to data. /d Three years' observation only; hence, trend growth estimates unreliable.  Table 1.2: FISHERIES SUPPLY TRENDS ('000 mt) 1978 % annual 1976 1977 1978 /a % total growth /b Marine Municipal 773 875 966 61 8.0 Commercial 508 518 510 33 1.0 Subtotal 1,281 1,393 1,476 94 Inland 113 116 120 7 3.5 Total Domestic Catch 1,394 1,509 1,596 101 6.1 Imports 64 39 30 2 Exports (24) (38) (48) (3) Total Domestic Supply 1,434 1,510 1,578 100 6.1 /a Estimated. /b Derived from trend fitting over past five years. However, reliable data for the municipal catch is only recently becoming available, rates of growth are therefore notional, and are based on a simple extra- polation of a weak statistical base. Future rates of growth in this sector are uncertain but are not expected to be greater than about 4-5%. Aggregate growth rates for the sector as a whole are expected to be about 4.1%. 1.16 Domestic production (supply) projections for fish, pork, chicken and beef are shown in Table 1.3 and compared with demand estimates. In the case of fish production increases of about 4% a year may be expected in the fish catch from all sources, thereby keeping demand and supply in balance, but resource depletion in areas which are heavily fished (particularly, but not exclusively, by artisanal fishermen), vessel obsolescence and growing exports could all result in curtailing supply to the domestic market. While the incremental production attributable to the project would only be 1.1% of the total fish supply, DBP's lending should nevertheless be based on a careful assessment of the market for incremental production. In contrast, a shortfall is likely to occur by 1985 in the supply of meat, amounting to about 16% for pork, 19% for chicken and 24% for beef if no new investments are undertaken. The prospects of new investments depend on Government policy with regard to prices. In recent years the Government has been reluctant to allow  Table 1.3: PROJECTED DOMESTIC PRODUCTION, DFMAND AND SUPPLY CAP 1979-85, FISH, PORK, CHICKEN AND BEEF ('000 MT) Fish. fresh wetght equivalent Pork - as purchased equivalent Supply gap as % Supply gap as % Year Production Demand Supply gap of production Production Demand Supply gap of production 1978 Actual 1,596.0 1,639.3 43.3 2.7 257.1 257.1 n.s. n.s. 1979 1,661.4 1,702.4 41.0 2.5 264.0 270.1 6.1 2.3. 1980 1,729.6 1,768.0 38.4 2.2 271.2 283.7 12.5 4.6 1983 1,951.1 1,974.4 23.3 1.2 293.7 328.0 34.3 11.7 1985 2,114.4 2,125.3 10.9 .5 309.8 361.2 51.4 16.6 1 Average annual % growth (1978-85) 4.1a 3.8 n.s. 2.7 5.0 n.s. Chicken, dressed weight equivalent Beef - as purchased equivalent Supply gap as Supply gap as X Year Production Demand Supply gap of productLon Production Demand Supply gap of production 1978 Actuial 146.9 146.9 n.s n.s. 86.9 101.0 14.1 16.2 1979 149.1 153.9 4.8 3.2. 89.1 106.3 16.5 18.4 1980 151.3 161.2 9.9 6.5 92.7 111.8 19.1 20.6 1983 158.3 184.7 26.4 16.7 102.2 129.8 27.6 27.0 1985 163.0 202.3 39.3 24.1 109.1 143.3 34.2 31.3 Average annual X growth (1978-85) 1.5 4.6 n.s. 3.3 5.1 13.5 /a See footnote /b on Table 1.2.  -9- prices to be determined solely by market forces. However, its price stabilization programs have tended to be short-lived, and prices have invariably caught up with rising costs. Subsector Trends 1.17 Pigs and Poultry. Past investments were made to satisfy an under- supply and, consequently, experienced a favorable market and relatively large profit margins. Over the last twelve to eighteen months, however, the rising costs of feed (due to increasing international price of corn) and fuel, and a more competitive market place have lowered the profit margins. There is evidence that some of the smaller ventures have either closed, or have been taken over by some of the large integrators /1 who dominate the commercial sector. 1.18 The integrators have responded by moving increasingly to mixed feeds with higher proportions of local low cost ingredients as substitute for corn, while small-scale operators have added farm byproducts to their feeding regimes. The smaller- and medium-scale operators who do not have access to farm byproducts or to large quantities of local feed ingredients have had to rely on commercial sources for their feeds, and thus their cost structure has changed significantly for the worse. Joint ownership of small feed mixing plants by such operators is now being tried as a strategy to overcome this problem and, if successful, would be supported by the project (para. 4.26). The subsector will, in the future, place an increasing demand on nontraditional feed ingredients (rice bran, ipil-ipil leaves, sugarcane tops etc.); these can be supplied either on a countrywide basis (rice bran) or only in specific production areas (sugarcane tops), and the Bureau of Animal Industry will intensify its extension efforts and research in this field to ensure that adequate corn/local ingredient feed mixes are established for each region. Funds for local feed mills are available from DBP under the Bank - financed Second Grain Processing project./2 1.19 Increases in fuel costs are now having a noticeable impact on marketing costs. The previous trend in commercial production to view Manila as the major market and ship into Manila over relatively long distances is likely to be less evident in the future. A trend towards regionalization of markets seems to be developing. However, these markets are currently predominantly supplied from the backyard sector (Table 1.1), whose costs are significantly lower than those of commercial operators. Whereas regional hog prices are currently at levels that are profitable for the backyard operators, these are not satisfactory for many commercial operators. Regional commercially-marketed mixed feeds prices are higher than those in Manila, further eroding the regional operators' profit position. However, rising costs of transporting livestock to the more lucrative Manila market /1 Typically a verticaly integrated operation including production of day- old chicks, importation and mixing of feeds, contracting with outgrowers and organization of sales. /2 Loan 1269-PH.  - 10 - will gradually force the operator to seek local markets. To be able to operate profitably in these regional markets, the commercial operator will have to reduce his cost by using local feed ingredients whose availability varies from region to region. 1.20 The emergence of the large integrators is allowing for increasing specialization by the medium-scale operators. This has led to an "outgrower" function where the integrator supplies infant stock, feeds and guarantees a market price. In other cases, the medium-scale operators are buying infant stock, and a day old chick industry has become established in the major urban areas. This is allowing for some economies of scale but, as this specializa- tion has not yet begun in the regions more distant from Manila (where the total market size may yet be too small to support such operations), this opportunity for regional cost reduction could only be expected some time in the future. 1.21 Cattle. The national herd was severely depleted during and immediately after World War II and has to date not been rebuilt to an adequate level. Most investors in cattle have tended to view their herds as a capital investment, and maintained their stock on extensive pastures for prolonged fattening. The Government is now beginning to encourage the dispersal of young stock among villagers for fattening and sale for slaughter at about 18 to 24 months. This is creating a market for weaner stock that is now encouraging the traditional investors to place young stock on the market. The Government expects that this will, in turn, result in the traditional investors increasing the proportion of breeding females in their herds, and thus begin the long process of building up the base national herd. The Bureau of Animal Industry is undertaking a number of programs to encourage both the traditional investors and village level cattle operations (see para. 4.17, Noncredit Components), including the introduction of upgraded breed stock that will increase milk productivity. The intention is to encourage the acceptance of "multipurpose" cattle, rather than specialization in either beef or dairy cattle. 1.22 Marine Fisheries. The commercial operators' response to the recent large increase in investment and operating costs for vessels and decline in catch per unit of effort due to the gradual expansion of fleet capacity over the last decade indicate that the following trends will determine new investment decisions over the life of this project: (a) shift in preference to smaller vessels which are better able to achieve catch levels commensurate with their capacity; (b) shift from trawling to purse seining, primarily because of fuel savings; (c) attempts to achieve economies of scale through professional fleet management and savings in transportation costs by using carrier vessels;  - 11 - (d) continuation of the development of the more distant fishing ports and fishing grounds for domestic catch and growing importance of regional urban centers as markets for fish; and (e) growing importance in the catch of high value export species, particularly tuna, brought about by technological changes in purse seine fishing; and this has attracted both new capital and caused a shift in capital resources from the "domestic" fleet to the "tuna" fleet. In addition there appears an opportunity for banca fishermen, utilizing hook and line gear, to fish for deep swimming tuna, inaccessible to purse seine. Because deep water is found extraordinarily close to the coast of the eastern shore (see Map), this canoe fishery for tuna is virtually unique in terms of its seasonal and specialized nature and it is, therefore, limited to banca fishermen in those areas. 1.23 Investments are, therefore, expected to be in smaller vessels, predominantly to replace large older vessels and in new fishing gear and for refitting of larger vessels. New large vessel investment is expected only for specialized tuna fishing. 1.24 The Government, through the Fisheries Industries Development Council (FIDC), will provide technical advice to the commercial operators to encourage shifts in the choice of gear, vessel size and design to that which research indicates to be the most effective. The Bureau of Fisheries and Aquatic Resources' (BFAR) assistance will be concentrated on the artisanal fisheries development, encouraging fishing in traditional areas with improved gear and basically traditional boats (larger outrigger canoe type) and small trawlers (12 GT). The upgrading of some of the p<ogressive artisanal fishermen to ownership of such vessels will be -tempted. In addition, both production credit and rural infrastructure development are now being undertaken to support artisanal fisheries, and especially to strengthen their market access. The infrastructure/services program is currently being prepared for future consideration for Bank funding. 1.25 Inland Fisheries. For fishpond culture the past strategy of production of milkfish (chanos chanos) in brackish water ponds is now being broadened to include fresh water culture (using tilapia nilotica) in the inland irrigated rice fields to provide fresh fish supplies to areas that traditionally had to rely on dried and salted marine catch or imported canned mackerel. For brackish water fishponds, due to a desire to limit further exploitation of coastal mangrove swamp land, emphasis will be placed on increasing productivity in already established fishponds. In certain specially designated "depressed areas" new fishpond development may be undertaken. 1.26 Brackish water fishpond operators have experienced escalating construction and operating costs, not compensated by a corresponding rise in the farm-gate price of the fish produced. The reduced profit margin is now  - 12 - highlighting the importance of improving yields from existing facilities through improved capital facilities and effective pond management with improved technical practices thus reducing unit costs. A recent change in the regulations governing the awarding of fishpond leases will enable conversion of one and ten-year leases to a term of 25 years, thus creating a better investment climate. Conditions of these conversions have been liberalized and it can, therefore, be anticipated that DBP will over the next two or three years be involved in financing a substantial amount of incremental investments on fishponds established on leaseholds previously of short duration and currently being operated with minimal and technically inadequate capital investment. While Government is also moving in the direction of making a very limited amount of additional mangrove areas available for new leases, investments in new ponds will be limited to areas with comparative advantage in terms of manpower, marketing infrastructure and management experience of the entrepreneur. Because of the narrowing profit margin and the importance of economies of scale, it is unlikely that very many new small fishponds would be constructed unless there are specific local favorable factors. In general, the bulk of DBP fishpond loans can be expected to assist the rehabilitation or additional construction to enhance production of existing fishponds. 1.27 Government, through MNR and NEDA, is also currently examining the feasibility of constructing fishpond estates from mangrove areas, as the economic and physical infrastructure basis for new rural communities. The economic and financial viability of such estates is dependent on the locality, the scope of engineering involved and experience with managing such estates. Government is also considering entrusting such developments to local semi-autonomous development authorities, which, because of their legal status, would be entitled to borrow from DBP on their owrn account. Their creditworthiness would, however, be sUbject to DBP's approval. If such estates can be shown to be viable and the local development authority proves to be creditworthy, DBP could utilize the proceeds from the loan to finance such developments. 2. INSTITUTIONAL FRAMEWORK Sectoral Agencies 2.01 Ministry of Agriculture_(MOA): Within MOA, responsibility for livestock development is vested in the Bureau of Animal Industry (BAI), supported by the Bureau of Agricultural Economics (BAEcon) for planning data, and the Bureau of Plant Industries (BPI) for feedstock services. BAI operates its own field extension and veterinarian staff. BAI provides technical support to DBP and other agricultural credit institutions for their live- stock lending programs. This project would provide support for a limited  - 13 - number of BAI activities, considered necessary for the subsector as a whole. Another project which has recently been appraised by the Bank /1 would, inter alia, further strengthen the services that BAI provides. 2.02 Ilinistry of Natural Resources (MINGR). The fisheries resources are under the jurisdiction of MNR./2 Responsibility is vested with the Fisheries Industries Development Council (FIDC) for sectoral planning and development, and the Bureau of Fisheries and Aquatic Resources (BFAR) for sector regula- tion, extension, statistics and research. BFAR currently provides a limited amount of support to DBP for the latter's fisheries credit programs. Govern- ment is currently preparing a project /3 for Bank support to broaden and strengthen BFAR's support to the sector. This project would provide limited support to FIDC for its program of modernizing the deepsea subsector. Financial Intermediaries 2.03 Institutional agricultural credit for the livestock and fisheries subsectors is available through the commercial banks, the rural banking system, the Land Bank, DBP and the private development banks. Past Bank lending has supported the development of the agricultural credit intermed- iaries, and support for these subsectors has been one of many activities covered by these institution specific loans. Interagency Coordination 2.04 Coordination of the agricultural credit institutions with Government sectoral and other agencies is through the Presidential Committee on Agricultural Credit (PCAC), whose Chairman and Vice-Chairman are the Central Bank Governor and the Minister of Agriculture respectively. Other members include the Ministers of Natural Resources, Local Government and Community Development, Agrarian Reform, the Director General of the National Economic Development Authority (NEDA), the Chairman of DBP and heads of other Government agricultural credit institutions. PCAC is responsible for formulating policies pertaining to agricultural credit, coordination among the credit institutions and agencies concerned, and decision on priorities for credit, particularly where public funds are involved. The Committee's Technical Board on Agricultural Credit (TBAC) is concerned with quantifying demand and supply for agricultural credit, monitoring its flow and forecasting the requirements of different subsectors. It acts as secretariat to the PCAC. Future development of projects on a sectoral or subsectoral basis, as envisaged for the proposed project, will require a corresponding rationalization within the agricultural financing sector. /1 Agricultural Support Services Project. /2 MINPR also controls mining, lands, and forests. /3 National Fisheries Project.  - 14 - This will contrast with the previous practice of developing agricultural credit projects on an institution-specific basis. Thus the provision of credit to a sector would require a broader planning function for the determination of multi-institutional participation. Although DBP will continue to be a major channel for Bank-assisted projects, it is also becoming increasingly evident that there is no clear line of demarcation between the respective roles of the various institutions involved in agricultural credit, particularly for term lending. The Bank's lending for agriculture through DBP will increasingly be consolidated, as is being done in the proposed project, and it is planned to move towards a single consolidated loan to DBP for agri- culture by about 1985. It is also proposed to review the Bank's association with all credit channels in the Philippines with a view to rationalizing the arrangements. This can only be accomplished, however, within the context of a comprehensive review by the Government of the entire credit mechanism, including large segments with which the Bank is not involved. It is proposed to discuss this subject as part of a proposed financial sector review which would analyze the supply-demand relationships in agricultural finance as well as the role of the concerned institutions. The Development Bank of the Philippines (DBP) 2.05 General. DBP is well known to the Bank as the credit channel for seven agricultural and five industrial projects financed by the Bank during the seventies./I It was set up by the Republic Act 2081 in 1958 as an autonomous, fully Government-owned bank for reconstruction and development of the agricultural and industrial sectors. It has since become the largest supplier of medium- and long-term agricultural credit in the country, although its agricultural loan portfolio represents only about 20% of DBP's total loans, with industry and other loans accounting for 50% and 30% respectively. In view of its past experience and the special role assigned to it by Govern- ment, it is at this stage the logical choice as executing agency for the proposed broadly conceived agricultural credit project. 2.06 DBP is controlled by a Board of Governors consisting of nine mem- bers, appointed by the President of the Philippines. The Chairman and four full time Supervising Governors constitute DBP's top management team. There are four part-time Governors. The Chairman exercises line control through the four Supervising Governors, each of whom is in charge of several departments. (see Top Management Organizational Chart). DBP has 4,800 employees divided equally between its Mfakati (Metro Manila) head office and its 40 branches, 12 subbranches and 7 agencies. 2.07 Agricultural Lending. At the head office all matters relating to agriculture are handled by two Agricultural Projects Departments, APD I for crops and processing and APD II for livestock and fisheries. Agriculture Plans and Programs Staff Department (APPS) coordinates monitoring and evaluation for agriculture projects. At its inception in 1977 its role was envisaged as embracing both the macro- and micro-economic studies of various agricultural subsectors, with the objective of identifying and preparing investment programs, in addition to coordinating project reporting and their /1 For details see Annex 1, Table 1. Also Staff Working Paper # 2.  - 15 - ex-post evaluation. Due to staffing constraints its role has so far been limited. Regional lending is administered by DBP's branches, controlled at headquarters by the Branches and Agencies Departments (BAAD I and II). 2.08 DBP Resources. These have almost doubled over the last three years, growing from P 11.1 billion in June 1976 to P 19.9 billion by June 1979. In absolute terms, the largest increase was in the long-term borrowing category, which grew by P 4.4 billion to P 10.9 billion during the three-year period, while declining in relation to the total resources from about 59% to 55%. These funds have been drawn almost equally from domestic and foreign sources, with IBRD now accounting for about 24% of the foreign funds. In relative terms, the largest increase took place in the short-term deposit category (P 0.7 billion to P 3.2 billion) or from about 6% to 16%. The share of equity declined from about 20% of total resources to 18% in the three years. The paid-up capital increased from P 2.0 billion to P 2.9 billion and accumulated reserves grew from P 286 million to P 654 million./l Further increases in the paid-up capital are planned and P 4.0 billion under this heading is expected to be reached by 1981, as required by IBRD loan agreement 1572-PH, under which US$80 million is provided to DBP for industrial lending. Over the last year or so DBP has found it increasingly difficult to raise long-term domestic funds, parti- cularly after its "Countryside Bonds" lost their income tax exemption with their fourth issue in January 1979. (Table 2 of Annex 1 contains DBP's summarized annual accounts.) 2.09 Use of Resources. Lending for agriculture as a proportion of DBP's total loan portfolio /2 declined from 24.3% to 19.4% during the three years to June 30, 1979. This decline has been offset mainly by increased lending for industrial projects, whose proportion rose from 46.0% to 49.4%, as well as all other nonagricultural loans, which rose from 29.7% to 31.2%. In the broader context of total assets, a shift towards larger current assets and investments in equities and bonds can be observed; the two grew from P 2.1 billion and P 0.8 billion to P 4.1 billion and P 2.1 billion, respectively (Annex 1, Table 2). 2.10 The slowdown in agricultural lending can be attributed largely to DBP's involvement in "social loans" and collection efforts pertaining to them, which diverted a substantial portion of staff and other resources to this task from mid-1977 onwards. Another activity undertaken on a massive scale was an overall review of the portfolio in 1977, including evaluation of collateral values, to determine an appropriate provision for insufficiently covered loans. In numbers of accounts, agriculture outweighs by far other lending categories. Table 2.1 illustrates this point. /L This does not include 20% of net income converted annually into paid- up capital. /2 Excludes Acquired Assets and Loans Under Litigation but includes Contract MIortgage Receivable category.  - 16 - Table 2.1: NUMBER OF ACCOUNTS /a 6/30/76 6/30/79 Loans No. % No. % Agriculture 201,888 81.6 216,110 76.2 Industry 14,277 5.8 22,055 7.8 All other 31,209 12.6 45,391 16.0 Total 247,374 100.0 283,556 100.0 /a Most DBP clients have two separate accounts: one at 12% p.a. for loans secured by land and one at 14% p.a. not so secured. The exact number of borrowers cannot be ascertained under the existing system. 2.11 Agricultural Portfolio. DBP's agricultural loan portfolio shows a higher percentage of arrears than its other lending categories (Annex 1, Table 3). However, when distortions such as the "social loans" and large loans to two insolvent agricultural companies and other distorting factors (para. 2.12) are removed, the arrears' ratio is probably about 22%. For an organization of DBP's broadly based involvement in agriculture the magnitude of DBP's arrears is generally in line with the experience of other institutions in the Philippines and that of comparable institutions in most of the developing countries. By age of arrears, agriculture appears to be in a better position than the overall DBP loan portfolio. For instance, 76% of agricultural arrears were less than three years old, compared to DBP as a whole with 56% as of June 30, 1979. Corresponding percentages for the Bank-financed livestock and fisheries projects were 92% and 97%. DBP is committed to improving the arrears situation and various actions have been taken over the last two years. Various studies have been undertaken in the Philippines to determine the causes of arrears and of remedies to improve repayments of agricultural loans./I For its part, DBP has made a good start with the monitoring and evaluation study under the second livestock project. It is essential that this study be continued and broadened under the proposed project (para. 4.28). 2.12 Table 2.2 shows past dues as percentage of loans outstanding for agriculture, industry and for DBP as a whole from 1972 onward. To remove a major distortion (P 422 million as of June 30, 1979), the table also shows /1 For instance, the Central Bank/IBRD Fourth Rural Credit (Loan 1399-PH) financed such a study in 1978 (Staff Working Paper No. 2).  - 17 - percentages for "social loans" /1 made to some 100,000 farmers and fishermen between 1975 and 1978 at the behest of Government, which have proved to be largely uncollectable. The Government has since agreed to reimburse DBP for these defaults and to this end has established a Trust Fund with DBP to be funded over nine years at P 100 million for the first year (1980) and P 50 million during each of the subsequent eight years. Another distortion arose out of extremely high penalty charges introduced under the Bank-financed Second Industrial Loan (1190-PH), signed in 1976, which required DBP to charge a penalty interest of 3% per month on all overdue accounts to combat the possible diversion of borrowed funds by DBP clients into the money market, where shortage of domestic funds pushed short-term rates well beyond 25%./2 The net result was that many loans, particularly in agriculture, have built up exorbitant arrears in a very short time and often beyond the borrower's capacity to repay. Another distorting factor is P 109.1 million of arrears of two large accounts of insolvent enterprises. The picture is also obscured by mechanical conversion of large numbers of accounts with varying types of amortizations and due dates to a common base, which exaggerates the situation even though the accounts are only a few days in arrears. /1 The largest of the social loans are the "Selda Foreshore Fisheries" and the "Irrigation Pump" schemes. The former provided funds for motorizing the small municipal fishermen's bancas and the latter aimed at increasing rice production of the small farmer. /2 In early 1979 the penalty rate was lowered, with Bank's agreement, to 8% p.a., for loans up to P 3 million and 16% p.a. for loans above P 3 million. This penalty charge is over and above additional interest on the amount in arrears at the basic loan interest rate.  - 18 - Table 2.2: ARREARS AS PERCENTAGE OF LOANS OUTSTANDING As of June 30, 1972 1973 1974 1975 1976 1977 1978 1979