Bhutan - Forestry Development Project

Document of The World Bank FOR OFFICIAL USE ONLY Report No. P-3754-BHI REPORT AND RECOMMENDATION OF THE PRESIDENT OF THE INTERNATIONAL DEVELOPMENT ASSOCIATION TO THE EXECUTIVE DIRECTORS ON A PROPOSED CREDIT OF SDR 5.4 MILLION TO THE ROYAL KINGDOM OF BHUTAN FOR A FORESTRY DEVELOPMENT PROJECT March 22, 1984 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 US$1 = Nu 10 Nu 1 = US$.10 FISCAL YEAR April - March WEIGHTS AND MEASURES 1 kilometer (km) 0.62 miles 1 meter (m) 1.09 yar s 1 hectare (ha) 10,000 ml (0.01 kmi2) = 2.471 acres 1 cubic meter (m) 35.315 cu ft 1 kilogram (kg) = 2.2 pounds 1 metric ton (t) 1,000 kg = 2,205 pounds ABBREVIATIONS ACC - Annual Allowable Cut DFO - District Forest Officer FAO - Food and Agriculture Organization FD - Forest Department GDP - Gross Domestic Product Nu - Ngultrum UNDP - United Nations Development Programme  FOR OFFICIkL USE ONLY BHUTAN FORESTRY DEVELOPMENT PROJECT DEVELOPMENT CREDIT AND PROJECT SUMMARY Borrower: The Royal Kingdom of Bhutan Amount: Special Drawing Rights (SDRs) 5.4 million (US$5.5 million equivalent) Terms: Standard Project Objectives The forests of Bhutan represent the largest renewable and Description: resource in the country. The proposed project would develop within the Forest Department a capacity to operate an integrated logging and reforestation program to support the long-term development of forest planta- tion and locally-based wood industries. The project would include clearfelling and extraction of merchantable trees from degraded forest in prepara- tion for establishing 2,800 ha of plantations in the Phuntsholing and Gaylegphug areas located in southern Bhutan and where increasing degradation of natural forests presents significant risks of ecological damage. The Droject would also establish nurseries to support the plantation program and construct and main- tain the necessary access roads. Technical assistance would help the Forest Department with project implemen- tation and training of staff in log extractiorL, road construction and plantation establishment. Risks: The proposed project, though a large undertaki.ng in comparison to past efforts, will be implemented by a core of competent and experienced staff of the Forestry Department. Implementation risks are low particularly as project targets in initial years are modest: to permit gradual buildup. Technical risks would also be minimal as plantation establishment would draiw on considerable existing data from nearby areas which have similar growing conditions. While there are local labor shortages, the project areas are adjacent to sources of plentiful labor supply in nearby India. This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  Estimated (US$ '000 Equivalent) % of Total Proiect Costs: Local Foreign Total Base Costs Nursery Operations 76 158 234 4.2 Plantation Establishment 367 399 766 13.8 Road Construction 101 1,024 1,125 20.2 Salvage Logging 507 1,634 2,141 38.5 Civil Works, Equipment and Staff Costs 402 497 899 16.2 Technical Assistance 30 267 297 5.3 Foreign Training - 102 102 1.8 Total Base Costs 1,483 4,081 5,564 100.0 Contingencies: Physical 24 248 272 4.9 Price 291 716 1,007 18.1 Total Project Costs 1/ 1,798 5,045 6,843 123.0 Financing Plan: (US$ Million Equivalent) Local Foreign Total UNDP - 0.40 0.40 Government 0.94 - 0.94 IDA 0.90 4.60 5.50 Total 1.84 5.00 6.84 Estimated Disbursement: (US$ Million Equivalent) IDA FY 1985 1986 1987 1988 1989 1990 Annual 1.0 1.3 0.8 0.9 1.0 0.5 Cumulative 1.0 2.3 3.1 4.0 5.0 5.5 Economic Rate of Return: 13% Staff Appraisal Report: No. 4831-BHt! dated March 15, 1984 Map: IBRD No. 17664 1/ There are no duties and taxes.  INTERNATIONAL DEVELOPMENT ASSOCIATION REPORT AND RECOMMENDATION OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED CREDIT TO THE ROYAL KINGDOM OF BHUTAN FOR A FORESTRY DEVELOPMENT PROJECT 1. I submit the following report and recommendation on a proposed Development Credit to the Royal Kingdom of Bhutan in an amount of Special Drawing Rights (SDRs) 5.4 million (US$5.5 million equivalent) on standard IDA terms to help finance a Forestry Development Project. PART I - THE ECONOMY 1/ 2. The first economic report entitled, "Bhutan: Development in a Himalayan Kingdom" (Report No. 4307-BHU, dated April 7, 1983) was distributed to the Executive Directors on April 21, 1983. Country data are shown in Annex I. Country Background 3. Bhutan is a small and landlocked Buddhist kingdom in the eastern Himalaya. It has an area of about 46,500 sq km and is bordered by the Tibet region of China and the Indian states of Sikkim, West Bengal, Assam, and Arunachal Pradesh. The border with China is a traditional one following for the most part the main ridge of the Himalaya; that with India was negotiated in a series of treaties with Britain in the nineteenth century. It mostly follows the southern foothills of the Himalayas, which rise abruptly from the Brahmaputra plains. The relatively remote location, rugged terrain, and formidable natural borders coupled with a strong sense of independlence made it easy for Bhutan to remain in isolation until about 1960. 4. The terrain of Bhutan is some of the most rugged in the world. The land rises from an altitude of less than 160 m above sea level in the south to over 7,000 m less than 100 kilometers to the north, and is characterized in between by steadily rising hills cut by deep river valleys. The climate is correspondingly extreme, ranging from the hot and humid sub-tropical conditions of the southern foothills to the perpetual ice and snow of the 1/ Parts I and II of this report are substantially the same as in the President's Report (Report No. P3649-BHU) dated September 28, 1983 for a Technical Assistance Project in Bhutan. The report was distributed to the Executive Directors under cover of the Secretary's Memorandum IDA/R83-112.  -2- hign Himalaya. Most of the population lives in the hills of the so-called "inner Himalaya," between altitudes of about 1,000 m to 3,000 m., which is generally temperate in climate and has a number of relatively broad river valleys. These, along with some sections of flatland below the southern foothills, account for most of the readily cultivable land in Bhutan. Only about 5% of the land is cultivated or inhabited, while about around half remains under natural forest cover. Mlost of the remaining land is seasonal grazing land or under perpetual snow. 5. Prior to 1907, Bhutan was a theocracy with full power, in principle, resting in the hands of the Shabdung, the head lama. However, over time the power of the Shabdung and the monastic establishment over secular matters declined, and there was constant turmoil as the governors of various regions competed for power. But in 1907 a governor of sufficient strength emerged to unify the country under a hereditary monarchy. Thus, Ugen Wangchuck became the first Druk Gyalpo, or King of Bhutan and the present king, His Majesty Jigme Singye Wangchuck, is the fourth monarch, 6. The first two monarchs concentrated on centralizing authority around the monarchy, but the third king decided that over the longer run it was desirable that Bhutan evolve into a constitutional monarchy. Thus, in 1953, the National Assembly was formed. It currently comprises 100 representatives of the people, 10 representatives of the monastic establishment, some 40 government officials appointed by the King and a speaker. The Assembly convenes twice yearly and its resolutions are binding on the monarchy, although the King has the right to formally address the National Assembly and ask them to reconsider. In practice, this has never happened - the people of Bhutan are highly dedicated to their monarchy, and issues are inevitably resolved before a vote is taken. To assist in governing, the late king also created in 1965 a nine member Royal Advisory Councils and in 1968, a Cabinet along with the first government ministries. Today, the government comprises six Ministries - Finance; Home Affairs; Foreign Affairs; Trade, Industry, and Forests; Communications and Tourism; and Development. Most development sectors operate as departments. under the Ministry of Development. For inter- nal administration, Bhutan is divided into 18 districts, with the governors of each district being appointed by the King and reporting to the Ministry of Home Affairs. Although its pcwer has declined, the monastic establishment continues to play an important role, and religion continues to be one of the strongest forces of national unity. 7 In 1949, following the departure of Britain from the sub-continent Bhutan signed a treaty with India which confirmed, as was the case with Britain in prior years, Indian non-interference in internal Bhutanese aEfairs, and Bhutanese agreement to be guided by Indian advice in the conduct of its external affairs. Bhutan's principal external ties had been with Tibet in the north, because of a common heritage based on Mahayana (lamaistic) Buddhism. and major trade ties -- foodgrains from Bhutan being exchanged for wool and salt from Tibet. However, the Tibetan uprising of 1959 and Sino-Indian border war of 1962 forced Bhutan to close its borders to the north and to align itself with India in the south. In 1959, Bhutan began accepting Indian offers of economic assistance and started building its first road link from the Indian border to Paro and Thimphu in the north. Since then, Bhutan's relations with Lndia have been close, and almost all the  -3- development effort to date has been financed with Indian grant aid. Bhutan has been gradually expanding its international ties -- in 1962 it joined the Colombo Plan; in 1969, the Universal Postal Union; and in 1971, the United Nations. In 1981, Bhutan joined the International Monetary Fund and, the World Bank Group; and in 1982, the Asian Development Bank. Besides India, Bhutan also has full diplomatic relations with Bangladesh, which it was the second country to recognize in 1971. In 1982, Bhutan also opened trade consulates in Hong Kong and Singapore. 8. Bhutan is well endowed with natural resources, and for most of them and their products, there are ready markets in neighboring countries. Bhutan also has substantial hydro-power potential estimated at up to 20,000 MW. Domestic small-scale hydro plants generate only about 4 MW of power, but a 336 MW hydro-power project at Chukha in western Bhutan is expected to be commissioned in late 1984. The project cost of about US$200 million is being financed by the Government of India while the electricity generated in excess of Bhutan's domestic needs would be sold to India. Bhutan's other great natural resource is its forests. At present, extraction is only a small fraction of the annual forest increment, while some of the forest is begin- ning to decay of overage. There is thus great potential for forest-based exports from Bhutan; however, care will have to be taken to ensure that the deforestation-related problems which plague other areas of the Himalayas do not arise in Bhutan. A major constraint to the exploitation of the forests is inadequate transport infrastructure; thus, while higher extraction for the country as a whole can easily be sustained, the more accessible forests, especially in the south, have probably been over-exploited. Bhutan also has deposits of certain minerals including limestone, dolomite, graphite, gypsum, lead, zinc, copper, and coal, but for the most part they are of relatively low quality and/or are inaccessible. Economic Background 9. Given Bhutan's long isolation, it is not surprising that the economy is at a very early stage of development, and that even some basic economic and demographic information are unavailable. However, Government is becoming increasingly aware of these gaps and has recently undertaken several major statistical efforts, including an agricultural survey, nutrition surveys, and a livestock census. The Planning Commission has also recently prepared a set of national accounts estimates. A population census is also underway which should answer the major demographic unknowns, including the population which is at present officially estimated at 1.2 million. The population growth rate is estimated at 2% per annum. 10. The economy of Bhutan is still highly subsistence-oriented and centered around agriculture. It is also overwhelmingly rural, with the two largest towns - Thimphu, the capital; and Phuntsholing, the main gateway town - each having a population of less than 20,000. Based on the recent 1980/81 Planning Commission estimates of the national accounts and the official population estimate, the per capita GDP of Bhutan amounts to about US$110, one of the lowest in the world. It would appear, however, that Bhutan's overall standard of living is higher than indicated by this figure. The overall population-land ratio is lower than in neighboring countries and nutrition surveys currently underway indicate an average calorie per capita  -4- of about 2,500 per day, scme 25% higher than for South Asia as a whole. Literacy is estimated at only 10%, infant mortality is high and life expectancy, as a result, is a low 43 years (compared to about 50 years for South Asia as a whole). II. The national accourts estimates indicate that agriculture and animal husbandry account for almost half of 'DP, and together these activities provide the livelihood for about 95% of the population. Landlessness is not a major problem, and farmland appears to be reasonably equitably distributed. According to the recent agricultural survey, net foodgrain production amounted to 1253000 MT in 1981/82, requiring about 25,000 MT of rice being imported from India to meel: needs, Historically, Bhutan had been self- sufficient in foodgrain anrd even exported to Tibet, and, therefore, it should be a high government priority to once again achieve full self-sufficiency. Maize is the predominant foodgrain accoutiting for almost half of total production, and is grown mainly in eastern Bhutan under rainfed conditions. Paddy, which accounts for about 35% of production is the main crop in western Bhutan, and is grown at altitudes as high as 2,500 m. Wheat and other foodgrains are grown at even higher altitudes, Other important crops include chillies, pulses, and mustard seeds at lower altiltudes, and potatoes at higher elevations. In recent years, cash crops such as apples, oranges, and cardamom have emerged, especially in southern and western Bhutan where marketing is easier, Although the forestry sector accounted for 15% of GDP in 1980/81, this was probably low by historical standards. In 1979, realiz- ing the importance of properly managing its valuable forest resources, the Government gave the Departmesnt of Forests the sole right to extract logs for commercial purposes, and placed restrictions on the export of logs and low- value wood products. A plant for veneer and sawnwood is under construction at Gedu with UNDP and Kuwail Fund assistance. Industry accounts for only about 5% of GDP, due to the small domestic market and the shortage of domes- tic entrepreneurial capacity. Three relatively large industries -- a 100,000 MT capacity cement factory given to Bhutan by India, a distillery complex, and a joint sector fruit processing plant account for the bulk of the value- added. Other smaller industries include sawmills and furniture, matches, candles, soap, and handicrafts. Services account for the remaining 30% of GDP, with more than half originating in the public sector. 12. Economic ties between India and Bhutan are strong. Indian financial and technical assistance is helping Bhutan implement most of its development activities, while almost all of Bhutan's trade is conducted with India. A state of free trade exists between the two countries. Imports from India consist mainly of essentials - petroleum products, rice, metal products, machinery, truck chassis, and the like. Many of these are controlled items in India, and exports to Bhutan are supplied under mutually agreed quotas. Bhutan's exports to India consist primarily of agricultural products, timber, and cement. The main export to third countries is cardamom, and the main imports, automobiles and spare parts. The Indian rupee circulates freely alongside the ngultrum in Bhutan and accounts for about 90% of the currency in circulation. Over time, Government policy is to convert entirely to the ngultrum. Apart from the recently established Royal Monetary Authority which will gradually assume central banking functions, the banking system consists of one commercial bank, the Eank of Bhutan, which is owned jointly by the State Bank of India and the Royal Government. Other financial institutions  -5- are the Royal Insurance Corporation and the Unit Trust, both have been actively involved in making commercial loans. Trade and transit to third countries through India is governed by a Trade and Commerce treaty signed in 1972 and amended in 1979. The treaty expired in 1982 and a new treaty has been negotiated and is likely to be signed shortly. Due to the good rela- tions between the two countries, trade and transit matters have not been a significant constraint to Bhutan's development. Economic Performance 13. An important objective is to improve fiscal performance so that Bhutan can at least cover recurrent expenditures from domestic resources. Revenues in 1980/81, including the gross receipts of certain governtment departments, amounted to around 10% of GDP, which is reasonably good con- sidering Bhutan's early stage of development. The recurrent expenditures associated with the development effort are beginning to rise rapidly and unless the Government is able to increase domestic resource mobilization, it will find itself forced to allocate ever increasing proportions of scarce development resources to finance recurrent expenditures. The Government is conscious of this, and one of the main reasons for undertaking the proposed new industrial projects is to provide a basis for generating future revenues. It also recently took measures to reduce recurrent expenditures and increase the efficiency of resource use. In 1981/82, an 8% reduction in the public sector work force was achieved. This move was supported by three major fiscal reforms. First, in 1981/82, the civil budget (which had mainly been financed from domestic resources and administered by the Ministry of Finance) and the development budget (financed by the annual Government of India grant and overseas aid and administered by the Planning Commission) were con- solidated into a single budget administered by the Ministry of Finance. Second, in 1982/83, government finances were reorganized to function through two accounts -- one for the release of expenditures, and a second for the deposit of revenues. Previously, departments maintained their own accounts, which tended to slow down the flow of revenues and often resulted in unspent funds sitting idle in departmental expenditure accounts. Finally, many service functions which had operated as government departments (e.g., public transport, government printing, and tourism) were, as of 1982/83, instructed to function on commercial lines. These services, as well as existing large- scale commercial units, would be subject to a 30% profits tax. 14. Bhutan has been consistently running an overall surplus on its over- seas transactions, mainly due to receipts from tourism and foreign aid. In 1981/82, the overall surplus amounted to US$2.9 million and foreign exchange reserves stood at US$7.8 million. It is, however, difficult to determine the balance of payments with India for a variety of reasons -- including the bilateral free trade; the long, common, often unmonitored border; and the fact that an unknown quantity of Indian rupees circulate freely in Bhutan. But based on rupee holdings of the Bank of Bhutan, it would appear that Bhutan has in recent years run an overall surplus with India as well. Bhutan also has no external debt problem. The only debts Bhutan has incurred so far have been a loan equivalent to 40% of the cost of the Chukha hydro-power project, but this loan will effectively be paid for with electricity, and concessional loans of US$6.9 million from IFAD and US$9.7 million from the Kuwait Fund which are just beginning to disburse. In this context, the  -6- primary role of external assistance in Bhutan is to enable an increase in the overall level of investment by supplementing the Government's own efforts to increase domestic savings, and to provide technical assistance to help Bhutan develop modern and efficient administrative procedures as well as to iden- tifying and preparing investment projects for foreign financing. PART II - BHUTAN'S DEVELOPMENT STRATEGY Growth of the Planning Process 15. In 1959, with assistance from India, Bhutan embarked on the prepara- tion of a Five-Year Economic Development Plan. Since then, Bhutan has com- pleted four Five-Year Plans (1961/62-1980/81) focusing mainly on development of basic economic and social infrastructure. Despite their formal sounding nature, development plans up to about 1971 were mainly only frameworks within whic,, various often ad-hoc development efforts were undertaken. These plans were almost entirely financed by annual grants from the Government of India, which are provided on a cash basis and which Bhutan has been free to allocate as it chooses. In 1982/83, this grant would amount to Rs 250 million (about US$26 million). The Plan expenditures (excluding expenditures by ministries not directly involved in development work) amounted to Nu 107 million in the First Plan, Nu 202 million in the Second, Nu 475 million in the Third, and Nu 1106 million in the Fourth. Expenditure on development has, therefore, shown a very rapid rate of increase, more than doubling every five years. The Fifth Plan 1981/82-1986/87 is currently underway. It envisions a more than tripling of development expenditures, including outlays on industrial projects. 16. The first four plans showed a steady growth in the sophistication of the planning process and in development priorities. In the First Plan, almost two-thirds of the plan outlay were devoted to road development with education and manpower development receiving about 9%. Priorities widened under the Second Plan with expenditure on education and manpower development increasing substantially and agriculture and animal husbandry also receiving 14% of the Plan allocation. The first two Plans placed much emphasis on roads, to integrate various regions of the country and to link the country with outside world. As a result, Bhutan now has over 2,000 km of roads, of which about half are paved, and an internal telecommunications network that integrates all major regions of the country. By the time of the Third Plan, investment priorities had begun changing to reflect more directly productive activities such as agriculture and industry, and the need to increase social services like health, education, and water supply. In the Third Plan, new allocations of 5-8% each were made for forestry, power, mining, etc. The Fourth Plan, however, reflected a major shift from the earlier pattern. While areas covered earlier remained important, the emphasis shifted to the development of major natural resources, with forestry accounting for 10% of the Plan allocation and industry and mining about 16%. This changing pattern of outlays reflects the Gojernment's confidence that, as a result of basic development and expansion in the physical and administrative infrastructural facilities over the Four Plans, it is now appropriate to gradually begin the  -7- exploitation and development of the natural resources of the country to achieve increasing self dependence. 17. The Fifth Five-Year Plan is currently underway during which develop- ment expenditure, excluding some large projects (see below), would double to Nu 2,210 million. Agriculture, forestry, irrigation, and animal husbandry are to account for 28% of Plan development outlays; roads and other transport infrastructure, 24%; education, 15%; health, 8%; and telecommunications, 5%. The above Plan outlays and their sectorwise distribution are somewhat misleading as some large projects such as the Chukha hydro project, Penden Cement project, and the Gaylegphug Area Development Project in southern Bhutan are being implemented outside the Plan for the reason that India made available funds specifically for these projects. The Government similarly proposes to invest, outside the Plan, about Nu 1,600 million in a number of sizeable resource-based industries., provided the needed additional financing can be arranged for them. 18. The Fifth Plan also represents a major change in development strategy. Under the Plan, some 50% of plan expenditures, are to be decentralized and implemented under the district administrations according to development plans drawn up by the individual districts themselves under central supervision. It was felt that this approach would result in develop- ment being more consistent with locally perceived needs, and a condition for including proiects in the Plan was that the districts provide voluntary labor required to implement them. This would greatly reduce the cost of most projects, and enable a greater overall development effort. To help implement these plans, a large number of line ministerial staff were transferred from the central to district administrations. The chances of success seem good as the selected projects are relatively simple and Bhutan has a tradition of voluntary labor for community purposes. However, a strong central financial management would be necessary to ensure that district administrations use the resources efficiently. 19. As stated earlier, the first two Plans (up to 1970/71) were mainly financial budgeting exercises rather than carefully worked out frameworks of development priorities. It was only with the establishment of the Planning Commission in 1971 and its being entrusted with the preparation of the Third Plan that planning in the proper sense could be said to have begun. However, progress was slow because of Planning Commission's small and inexperienced staff and lack of economic data and information. In 1979, a comprehensive * review of the planning process was undertaken and it was decided that the Planning Commission, working in consultation with the Ministry of Finance, would be responsible for preparation of the Plan. The Commission would also determine Government objectives, policies and priorities and coordinate and review plan implementation. The Ministry of Finance would prepare the annual budget within the framework of the Plan and would be responsible for mobi- lizing internal resources. External resource mobilization would be the responsibility of the Ministry of Foreign Affairs and the Planning Commission. The Planning Commission has three functional wings: (a) the Planning division deals with development policies, coordinates implementation of the plan and is responsible for program and project appraisal; (b) the Resources Division coordinates activities with the Finance Ministry and serves as a liaison or all matters relating to international econcmic  -8- cooperation; and (c) the monitoring and evaluation division for building up a data base and undertaking special surveys. Due to a shortage of qualified manpower, however, there is considerable staff overlap between these wings. Development Finance Constraints 20. Development financing constraints, until recently, have not been as important in Bhutan because of the high levels of assistance from India and the fact that the pressures to develop have not been as strong as in most other countries. Bhutan enjoys a standard of living that belies its very low per capita income. With the Fifth Plan, the Government has not been satis- fied to continue mere matching of expenditures to resources. Assessing of development needs and priorities has shown a large (US$134 million) financing gap. It was determined that external financing was needed to help raise the rate of investment in Bhutan by supplementing the limited scope that presently exists for increasing domestic savings. Without such assistance many of the essential and viable development projects in agriculture, forestry, industry and other segments of the economy would not be implemented. Despite substantial goodwill on the part of the aid community to assist development efforts, yet because of Bhutan's comparative isolation, small population and economic base, the concessional financing available to Bhutan to carry out its development program outside Indian assistance is likely to be relatively small. Currently, such assistance is limited to an agricultural development project financed by IFAD (US$6.9 million) and from Kuwait Fund for a wood industries project (US$9.7 million). Asian Development Bank has initiated a small multipurpose program to develop facilities for improved transportation, water supply and administrative training. IDA's involvement will supplement such assistance and, in par- ticular under the proposed forestry development project, address the develop- ment of Bhutan's largest renewable source through an integrated logging and reforestation programme to support the long-term development of forest renewal and locally-based wood industries. PART III - BANK GROUP OPERATIONS IN BHUTAN 21. Bhutan became a member of the Bank Group in September 1981. A program mission to obtain general overview of the country's needs visited Bhutan in June 1982 and was followed by an economic mission in October 1982. Thereafter, identification miissions for possible projects in forestry, rural and urban development and water supply, communications and small local resource based industries have visited Bhutan. Consultancy services were arranged to review prospects of setting up an industrial development and finance organization to assist medium and small-scale enterprises. 22. The lending program for Bhutan includes two projects in FY84 -- a Technical Assistance Project approved on December 13, 1983 and the proposed Forestry Development Project. In later years, projects tentatively planned are in education, rural and larban development, communications, power generation, and industry. Under the auspices of UNCTAD, an "Aid Group" type conference met in Geneva in May, 1983. While specific indications of  -9- development assistance from other countries were not made, the meeting provided an international forum for discussing Bhutan's needs. PART IV - THE FORESTRY SECTOR The Forest Resource 23. The forests of Bhutan represent the largest renewable resource in the country. The first comprehensive survey of forest resources was undertaken with the assistance of the Indian Government between 1974 and 1979. According to the survey the annual allowable cut (AAC) for the country is estimated to be 11 million cubic meters of broadleaved species and 3 million cubic meters of coniferous species. Out of 29,000 sq km surveyed (about 62% of the country) forests covered 74% of the area. The survey did not include the northern high Himalayan region. 24. Up to about 1,000 m elevation, broadleafed tropical forests are dominant and in unexploited stands, very dense. Between 1,500 and 3,000 m are temperate forests of pine and oak along with indigenous species of rhododendrons. Oak tends to grow on southern slopes, which receive most of the monsoon rains, while on the drier northern slopes, coniferous forests predominate. Above 3,000 m and to the treeline at about 4,000 m, the forests tend to be entirely coniferous and include valuable quantities of pine, spruce, and fir. Forests are generally restricted to the slopes as the valley bottoms are mostly cultivated. Forestry in the Economy 25. Despite the low rate of utilization relative to the annual wood increment, forestry plays an important role in the economy. Forestry directly contributed about 16 percent of GDP in 1980/81; in addition, about half of the country's industrial units are based on wood resources. Forest royalties and taxes also accounted for about 9 percent of Government receipts, but these have fallen since 1979 when restrictions on commercial logging were introduced. Exports of forest products amounted to 26 million Ngultrum (Nu) in 1981/82, about 15 percent of total national exports and of which sawn timber (Nu 16 million) represented the bulk. Sales of rosin (Nu 7 million), tea chest components and core veneer represented the balance. 26. Forest based industries presently comprise some 26 small sawmills, 3 veneer plants, a peeling unit, a factory producing battons for t(ea chests, a pencil slat factory, and various small plants producing such items as cable drums, bobbins, furniture, and matches. 27. Fuelwood is the main energy source for both heating and cooking. No records are available and estimated usage rates for similar areas in the region range from 1 to 3 cubic meters per person per year depending on elevation. Applying even the lower rate indicates that fuelwood is presently the largest use of the forest resource.  -10- 28. In the Fifth Plan (1981/82 to 1986/87), the Government has, in addi- tion to programs for systematic forest renewal, planned for a significant increase in the commercia:L harvesting and utilization of wood resources. Three new wood processing plants are planned. The first phase of the integrated plywood/sawnwood mill located at Gedu is now operational and construction of buildings needed for the second phase is well underway. Government is proceeding with the development of a particleboard plant near Phuntsholing. In addition, Government has planned the development of a calc4um carbide plant for the area. This plant would require up to the equivalent of 50,000 cubic meters of wood per annum as charcoal. IDA and the Kuwait Fund have been requested to assist in the financing of the plant. Total incremental wood demand for the above industries is estimated at about 140,000 cubic meters per annum. Forest Policy 29. The utilization of forest resources is controlled by several major pieces of legislation. In 1969, the Bhutan Forest Act was passed which consolidated numerous previous laws relating to forest rights, forest products, and royalties. It declared that forest lands on which no person had a permanent, heritable, and transferable right, to be Government Forest. Forest clearance for tsheri (shifting) cultivation was banned (although encroachment continues to occur), and the felling of trees and grazing rights on forest land were brought under the control of the Forest Department. The National Forest Policy Act of 1974 further spelled out various aspects of forest utilization, development, and conservation and mandated that 60 per- cent of the country's land area will forever remain under forest cover. 30. In 1979, the Government introduced two major changes in forest policy. First, commercial felling of timber was severely restricted, with practically all felling being undertaken by the Forest Department (FD) in order to control exploitation and to ensure good forest management practices. Second, the Government restricted the export of logs and sawn timber in an effort to encourage greater value added to exports of forest produce and to allow it to formulate plans for future development of forest industries. However, these events led to the decline in timber production due to the limited extraction capacity of FD and the present limited scope for process- ing sawn timber or logs in Bhutan. Thus up to 1979, the Government tended to view the considerable forest resources as an unending source of timber and revenue and did not fully recognize the need for the phased renewal of exploited forest. With the introduction of the Fifth Plan, this attitude underwent a change when FD lbegan to develop proposals for systematic approaches to reafforestation and wood processing. The Fcrest Department 31. The Government recognized at an early stage that Bhutan's forests represented a valuable resource. To help properly manage them, FD was estab- lished in 1967, making it one of the first government departments with con- trol over all forest activities. The Department, in the Ministry of Trade, industry and Forests, is headed by a Director and has a Deputy Director, 15 senior staff and 6 District Forest Officers. Total departmental strength is  -11- about 600 with about 25 graduate forest officers, and about 180 trained rangers and foresters. 32. Training is an important on-going program in the Department. Up to 1982/83, 13 officers had been trained at the Indian Forest College at Dehra Dun and 2 in wildlife management in Canada. Ranger training is given at the Northern and Eastern Forest Rangers Colleges, both in India, whilst foresters now receive training at the Bhutan Forest School, which has also trained some 340 forest guards. 33. Forest plantations were started on a small but widespread scale in early 1970s soon after the Department was created. The program has increased gradually over the years and by 1982/83 the Department had planted a total of about 8,500 ha located throughout the Kingdom. In addition, a social forestry program was initiated in 1979 to encourage households to plant trees, provided free by the Government, on private land. The proposed project would be the first attempt at an integrated land clearance and reforestation operation in Bhutan. PART IV - THE PROJECT Background 34. The project was prepared by the Royal Government of Bhutan with assistance from FAO. It was appraised by a Bank mission which visited Bhutan in October 1983. A Staff Appraisal Report titled "Bhutan Forestry Development Project" (Report No. 4831-BRU dated January 24, 1984) is being distributed separately. A timetable of key events relating to the project and special conditions are given in Annex III. Negotiations were held in Washington, D.C. from February 28 to March 2, 1984. The delegation from Bhutan was headed by Dasho C. Dorji, Director of Forestry, Industries and Mines. Project Objectives 35. The immediate constraints to development of the forestry sector in Bhutan are both human and physical in nature and result from rugged topography, low population, shortage of skilled and unskilled labor and the requisite infrastructure for development projects. The proposed project would be the first attempt at an integrated land clearance and reforestation operation in Bhutan; its major objectives being to develop systematic programs of forest renewal in support of the development of locally-based wood industries. The project aims to address some of the environmental problems now emerging as a result of uncontrolled exploitation of natural forests (for fuelwood, timber, and grazing) close to roads and settled areas in southern Bhutan. Simultaneously, the Government wishes to reinforce the authority of the Forest Department over preservation and exploitation of natural forests. 36. The Government gives high priority to this project (ahead of wood industries development) because of its concern over the increasing degrada- tion of forest areas in the southern foothills and the associated risks of  -i2- ecological damage to the relatively fragile Himalayan environment. In addi- tion Government wishes to ensure the long term supply of raw materials to existing and planned users in the area. Consequently, developing the institutional capacity within FD to undertake meaningful reforestation programs becomes a priority. Such development would provide capacity within FD to establish and manage forests on a sound ecological basis. 37. As a first project, a small scale pilot operation has been selected in order to develop suitable systems and procedures for land clearing, nurs- ery operations to establish species for plantations required to meet the needs for firewood, timber, and road construction etc. Training in prepara- tion of forest management and operating plans for future projects would be included. To help achieve the above, UNDP is providing assistance by way of a comprehensive program of training and technical assistance to the forestry sector. Bhutan has a shortage of skilled artisans and unskilled labor and has been importing labor for specific tasks from neigghboring countries. Such arrangement would provide for adequate manpower, at least for next 5-10 years until the strategy of training Bhutan nationals to take over skilled posi- tions is fully operative. The proposed project would thus support the government's plans to upgrade local skills, Project Area 38. Bhutan's forest survey recognized the need for reforestation in its lower (southern) foothills bordering on India. Of the forest area of 8,800 sq km about 500 sq km were classified as degraded forests (this estimate is now considered low) and two areas were selected for development under the project. The western location is within 30 km of Phuntsholing (population 10,000) and near to the existing private sawmills, the plywood factory at Gedu, and the proposed parlticleboard and calcium carbide plants. The eastern location is within 35 km of Gaylegphug (population 4.000) which has two existing sawmills, a veneer factory, a furniture factory and a distilling plant. 39. The selected plantation sites are on land presently classified as "Reserve Forest". Human encroachment over the years has resulted in farmers acquiring land rights on cleared forest lands for cultivation as well as permits for grazing cattle. However, legislation under the National Forest Act allows Government to resume ownership of such land in Reserved Forest areas. Non-agricultural land is abundant and it will be possible to leave undisturbed most presently cultivated areas. Areas for reforestation would be selected to minimize dislocation of farmers and hence within the project areas, only about 68 ha of cultivated land and about 200 ha of grazing land would be involved and in all affect not more than twenty families. Any reduction in family incomes would be made up by employment opportunities created by the project. The Government would reacquire the land rights and recompense the farmers at established rates of Nu 2,500/ha for cultivated land and Nu 185/ha for grazing land (Sections 3.05 and 3.06 of the draft Development Credit Agreement (DCA)).  I,t3- Project Description 40. The proposed project would be implemented over a five year period and would comprise: (a) clearfelling and extraction of merchantable trees from 3,800 ha of degraded forest in the Phuntsholing and Gaylegphug areas in preparation for establishing plantations; (b) establishing about 2, 800 ha of plantation on clearfelled land; (c) establishing four tree nurseries to support the plantation program; (d) construction and maintenance of access roads; (e) building within the Forest Department of a trained cadre of staff experienced in nursery operations, plantation establishment, log extraction and road construction; and (f) foreign training of staff and technical assis- tance for project implementation. 41. Nursery Operations. Two nurseries would be established in each of the two project areas, each capable of producing about 500,000 seedlings annually. Appropriate nursery sites have been selected and three of the four sites have basic facilities already in place. Each nursery would be provided with a small office/store, potting shed, water pump, storage tank, pipes and hoses, and a cement/soil mixer. Seedling production would begin in April 1984 in order that seedlings would be ready for the first planting season (May-August 1985). 42. Access Road Construction. Access road construction in project areas would begin post-monsoon in 1984 to provide access to those areas required for the first season of logging and land preparation. Over the project period about 38 km of road would be constructed in the eastern and western sectors with an additional 2 km in the Phuntsholing area to connect the project network with the proposed road to Singi Gaon (site of the proposed calcium carbide factory). The density of the proposed road network is light by normal logging standards due to steep terrain and high costs of road construction. Use of cable cranes would be necessary for log extraction to make up for low road density. Roads would be constructed to all-wfeather logging standards with gravel or crushed stone surface of about 3.5 m width over a 4.5 m earth base. 43. Salvage Logging. Preliminary surveys indicate that the project areas have, on average, about 67 cubic meters/ha of merchantable logs. About 75 percent of this, or 50 cubic meters/ha, would be recovered during the logging operation, the balance being lost due to difficulty of terrain and high cost. Logging would commence post-monsoon in July 1984 in order to clear areas for the first planting season in 1985. FD would start felling opera- tions in the more degraded areas where less intensive logging is required. Over the project period about 3,800 ha would be clearfelled; the 1,000 ha felled in Project Year 5 would be planted in the year subsequent to project closing as an ongoing FD operation. Salvage logging would utilize diesel powered cable cranes. This system of log extraction is presently being used by FD and technical assistance and training have been provided under UNDP and Swiss bilateral arrangements. Following current practice, all forest produce would be sold at the roadside with the buyers providing loading and transport. 44. Plantation Establishment. Plantation sites would be logged and cleared of residual debris; unmerchantable trees, bush and shrubs would be  -14- cut and all climbers, particularly M4ikxania, pul'ed out by the roots. The material collected would be available to local residents for fuel. 2,800 ha o>f lantations would be established durineg the project period, with abDout 25 percent devoted to long rotation (60 years on average) protection plantations Ocn s-seop slopes with gradients in excess of 60 percent. Ralf of the remain- ing grea would be planted to short rotation specei.s (8 years) and half to medium rotation plantations (25 years). In Phuntshoiing area emphasis would be on establishment of fue:Lwood plantatiois wohere good markets for charcoal ant fuelwood exist and where raw material for manufacturing particleboard will be required. In Bhutan, a four month planting season is possible begin- ning around the first of May and ending in early September. All other opera- t:onks of the project would be phased around this planting season. 45. Research. Since this is a pilot project there is opportunity to experiment, under southern Bhutanese conditions, with various plantation techaiques. Emphasis would be given to species and provenance trials, and to provide reliable information relating to species/site compatibility. Various silvi,cultural techniques would also be examined. Spacing and fertilizer trials (particularly in nurseries), experiments with chemical weedicides and experiments to test out various cover crops would be carried out. Improved seed collection and seed storage techniques wou ll be developed. Plantation tools, such as mechanical band-planting devices, would also be tested. All research would be simple and practical in nature, oriented towards developing more effective plantation methods in thne country. The detailed research program would be drawn up with technical assistance provided under the p ro1 -je ct . 465, Technical Assistance. Technical assistance would be provided under UNDP financing arrangements to assist FD with project implementation and provide training to staff assigned to the project in species selection, nursery operations, road construction, logging and plantation establishment. in addition, departmental personnel would receive training and experience in project management. In Bhutan, UNDP supports an extensive assistance program to the forestry sector which involves the provision of US$2.3 million over 5 years. The program covers technical assistance, training and foreign fellow- ships An all aspects of forestry and wood industries operations. The techni- cal assistance envisaged under this project would complement the UNDP program and is related to project specific activities. A forestry specialist will be engaged for 3 man months to assist FD with project planning, including preparation of management plans for selected areas, required staffing, ini- tial nursery operations, and. equipment specifications. Ideally, this snDec ia-st would return in subsequent years to provide assistance with road cc-no's-rusion and logging (12 man months) and the general husbandry of planta- t_iOlS 7. man months). in addition, 3 man months have been allocated for in developing the research program and 6 man months of unspecified 3pe ia i sts (Section 3.02 of the draft DCA). 47a Foreign Training. UNDP has a substantial and on-going foreign train- ing project for FD personnel. In view of this program and the small size of fD, roreign training under the project would be limited to 6 trainees for a total of 30 m/m equally divided among three specific project related subjects-plantation managemeat, nursery operaLions and road construction.  -15- Proiect Organization 48. FD in the Ministry of Trade, Industry and Forests will be responsible for project implementation. Under the general direction of the Director of Forests, day to day project implementation would be handled by a project organization headed by a Project Manager who would also be responsible for procurement, project progress and financial reporting. In each section, reporting to the Project Manager would be an assistant District Forest Officer (DFO/Logging), responsible for road construction and log exitraction activities, and an Assistant DFO (Plantations), responsible for nurseries * operations, plantation establishment and plantation maintenance. Two addi- tional Rangers and four additional Foresters would be made available to each DFO. These staff are available from within FD. An Accountant Grade II would also be added to each district forest office and be responsible for project accounts, local purchases and financial reporting. Staff at Head Office (FD) would be increased by one Grade I accountant and two clerks to handle con- solidation of project accounts, financial reporting and preparation of requests for reimbursement. Senior staff would be appointed from within FD where possible in accordance with project requirements. Skilled and semi- skilled workers required by the project would total about 45 and casual labor requirements would peak at about 500 workers in each area. Laborers would be hired from within Bhutan where possible, or from nearby India during peak periods. Project Costs 49. The total project costs, including US$4.6 million equivalent (about 74%) in foreign exchange, are estimated to be US$6.8 million, excluding duties and taxes as all materials imported for and used by government depart- ments are free of tax and duty. The principal cost components net of physi- cal and price contingencies are: nursery operations (US$0.2 million); plan- tation establishment (US$0.8 million); road construction (US$1.1 million); salvage logging (US$2.1 million); civil works, equipment and staff costs (US$0.9 million); technical assistance (US$0.3 million); and foreign training (US$0.1 million). Physical contingencies total 5% of the base cost: and have been applied at rates of 7.5% for civil works and material and 10% for utilities and equipment. Price contingencies for foreign expenditures are assumed at 7.5%, 7.0%, 6% and 6% for period 1984/85 to 1988/89. For local expenditures, annual price increases are assumed at 7% in 1984/85 and 1985/86 and 6% thereafter. In total, price contingencies represent 18% of the * estimated base cost. Financing 50e The proposed IDA credit of US$5.5 million would finance 80% of project costs including US$0.4 million of local costs. The Government would finance US$0.94 million including staff and other local costs. UNDP would finance the costs of technical assistance and foreign training (US$0.4 million). The IDA credit of US$5.5 million equivalent would be passed on to FD as annual budgetary subventions. Retroactive financing of US$0.2 million would be required for initial expenditures on nursery operations, road construction, and log extraction incurred after April 1, 1984.  -16- Procurement 51. Procurement would be carried out by FD and include the elements summarized in the following table. PROCUREMENT (US$M) Total Element LCB ICB Other Costs Civil Works - - 0.3 0.3 (0.2) (0.2) Vehicles and Equipment 0.5 1.3 - 1.8 (0.5) (1.3) (1.8) Labor - 2.5 2.5 (2.0) (2.0) Material 1.8 - 1.8 (1.5) (1.5) Technical Assistance - - 0,3 0.3 Foreign Training _ _ 0.1 0.1 Total 2.3 1.3 3.2 6.8 (2.0) (1.3) (2.2) (5.5) NOTE: Figures in parentheses are the respective amounts to be financed by IDA. Direct clearing and plantation works (US$3.2 million) including tree fellinh, land clearing, nursery expenditures, planting, thinning and protection works, would be done manually and carried out over different periods of time and in a number of locations. Further, the number of private contractors in Bhutan engaged in construction is very small and almost non-existent in reforesta- tion activities. Therefore, contracts following competitive bidding would not be generally practical. However, FD may use sub-contracts for various aspect of these operations (i.e., land clearing, clearing firebreaks, buiding construction, etc.). All the above works would otherwise be carried out by force account by FD. However, required materials such as barbed wire, tools, etc. would be procured through normal Government procurement procedures which are satisfactory to IDA. Road construction (US$0.5 million) totalling 40 km over the five year project period would be carried out by force account by FD, using small private contractors, as construction standards are simple and annual allocations are small. 52. Civil works (US$0.3 million) would involve the construction of about 61 buildings for offices and housing with simple design standards using wood framing and other local materials scattered geographically and work under- taken throughout the project period. Consequently, construction would not be suitable for ICB or local competitive bidding and, with an average cost of under US$5,000 each, would be carried out by force account by FD. It may be mentioned that while some medium to small size manufacturing setups are functioning with knowhow and skilled personnel from India yet the private sector in Bhutan is extremely small because of the country's low level of  -17- development, limited domestic market and low incomes of the population. Also, there are shortages of physical infrastructure (especially powfer), skilled manpower and a general lack of entrepreneurial capacity. During the 1970s, the Government made direct loans to private small scale and basic industrial enterprises showing promise but the results generally have been poor and many loans remain unpaid. The private construction industry is still very rudimentary and is mosty confined to small building construction. Procurement of vehicles and equipment (US$1.3 million) would follow ICB procedures in accordance with Bank/IDA procurement guidelines. Vehicles and equipment costing less than US$50,000 per contract and totalling not more o than US$500,000, would be procured following LCB procedures which are satis- factory to IDA. The balance of project cost (US$1.0 million), would be mostly staff salaries and related expenditures (US$0.6 million) as well as technical assistance and foreign training (US$0.4 million) which would be provided under UNDP financing arrangements. Disbursements 53. The disbursement schedule reflects the smallness and relative simplicity of the project. Disbursements under the proposed Credit are expected to be completed by FY1990. The sixth year of disbursements would ensure that certification criteria for plantings made in the fifth year of the project are adhered to. Disbursements under the Credit would cover: (i) 100% of foreign expenditures for directly imported vehicles and equipment (US$1.60 million); (ii) US$340 equivalent for each ha of satisfactorily established plantations, representing about 85% of direct expenditures (US$0.95 million); (iii) US$10,000 equivalent for each completed kilometer of road constructed, representing about 85% of direct expenditures (US$0.40 million); (iv) US$460 equivalent for each ha of land cleared, representing about 85% of direct expenditures (US$1.75 million); and (v) unallocated (US$0.8 million). Applications for withdrawals against the IDA credit would be fully documented except for disbursements against nursery estabLishment, road construction, land clearing and plantation establishment, which would be accompanied by a certificate signed by the Director of Forests, stating that the work had been satisfactorily completed. Accounts and Audit 54. FD will maintain separate accounts of expenditures made under the project. These would be audited annually by the Royal Audit Department for each fiscal year in accordance with sound auditing principles consistently applied. Accounts would be submitted for audit within 3 months of the end of the fiscal year and audited not later than 6 months after the end of such year, and the audited reports submitted promptly to IDA. Monitoring and Evaluation 55. Monitoring and evaluation of the project would be undertaken by the Project Manager under the direction of the Director of Forests, I]n the light of experience and data collected, suggestions for improvement of project implementation would be made. The department would also produce six-monthly progress reports, each October and April, giving a summary of activities undertaken during the preceding six months, staffing levels, and t:argets  -18- achieved and problems encounitered during project implementation. At the closing of the project, an evaluation of the project would be carried out by the Forest Department. Production, Markets and Prices 56 Tahe main products from site preparation and plantations would be logs for plywood, veneer and timber, fuelwood, smallwood, and building poles. Project output over the 30 year project period would total 105,000 cubic meters of veneer quality logs, 400,000 cubic meters of sawlogs, 786,000 cubic meters of fuelwood/smallwood, and 469,000 cubic meters of poles. 6 57. All commercial grade logs from site clearing would be sold to nearby wood industries plants and plywood quality logs would be purchased by the new mill at Gedu. Firewood wouil be sold in adjacent markets, particularly the tea estates of West Bengal anid Assam, and poles would be sold to local con- struction firms and individuals. Forest produce resulting from the project represents relatively small additional volumes entering the market. Consequently, no marketing difficulties are expected. 58. Project production represents a small proportion of total market demand, and it is not anticipated that the project would have any impact on market prices. The prices used for financial and economic evaluation of the project represent prevailing market prices in Bhutan, northern West Bengal and Assam states, with adjustments for transportation. The Indian market, which would likely absorb much of initial project output, is characterized by high prices resulting from inadequate supply relative to demand. The Export Division of the Department of Trade and Commerce would handle all project export sales. Forest revenues derive from forest royalties, profits from auction of logs and revenues received from other departments for log extraction. Government has recently reviewed royalty rates of timber and other forestry products vis-a-vis the prevailing selling rates obtained by the Export Division. As a result of this review, and with agreement of both the departments concerned, the rates were adjusted to reflect current market prices less reasonable profitis. Periodical review of royalty rates will be undertaken during supervision missions. Benefits, Justification and RLsks 59. The main benefit woulcd be the development of institutional capacity within Forest Department to undertake integrated logging and reforestation operations to support both the development of wood based industries and the replacement of over mature forests with young, healthy, productive species. This would also lead to control of encroachment of forest areas by those seeking agricultural land not just in the project area, but by demonstrative effect, in other parts of the country as well. Apart from institution building, providing employment opportunities to local residents and environ- mental benefits resulting from reduced soil erosion and flooding, other benefits would include: improved access for the rural population to govern- ment services, markets and farm inputs in addition to fodder, fuelwood and timber seedlings for social forestry; increased royalty revenues for Government and enhanced raw material supplies for wood based industries. Over the five year implementation period, 3,800 ha would be logged and  -19- cleared and 2,800 ha of plantations established and maintained, all through labor-intensive methods. In total, about 3,200 man-years of labor would be generated by the project during implementation, culminating, at full opera- tion (Project Year 5), in about 1,000 man-years annually of incremental labor. 60. The financial and economic rates of return are estimated to be 12% and 13% respectively. The Bhutan economy would realize net benefits in present worth terms of about Nu 43.5 M (US$4.4 million) on related project investments. Project returns have been measured on a five year implementa- f tion period and the resultant benefits. The project offers the opportunity of continuing the plantation program on an ongoing basis which is in fact almost certain to occur. The incremental benefits of this continuation would be high as the capital equipment and facilities would all be in place and if these benefits were included in the economic analysis, the ERR would increase to 17%. Road construction and log extraction costs are high due to the pilot nature of the project. Unit costs should improve considerably once FD gains the necessary experience and economies of scale on larger projects take effect. Project viability is relatively insensitive to changes in costs or benefits. A significant cost increase (greater than 42%) or a substantial drop in benefits (more than 35%) would have to be experienced beforie the ERR would fall below 10%. Since such large cost increases or decreases in benefits are highly improbable, overall project economic risks are considered low. Nevertheless, to optimize project objectives, particularly with regard to species selection and the establishment of environmentally safe logging practices, an evaluation of the project would be carried out by Forest Department at project closing. 61. While the proposed project would be implemented by a core of experienced staff within FD, it is large compared to FD's past undertakings. Consequently, project targets in the early years are modest and so set as to allow for gradual buildup to full operation over the five year period. This would allow FD to gain experience in planning, hiring and training of labor and in-field level operations. Furthermore, FD staff would be assisted in the early years by experienced technical specialists. FD has a relatively strong administration for a country at Bhutan's stage of development, and the risks associated with FD falling behind in project implementation are low. 62. Technical risks, while always a concern in plantation projects, would be minimal. The proposed tree species are all well known in the region, with proven growth records, and well adapted to the agro-climatic and environmen- tal conditions prevailing in project areas. A number of species have been proposed for plantations in order to minimize the risk of failure and provide a broad and practical basis for selection of species for future plantations-- a major objective of this pilot project. There is little factual data in existence as to the productivity and yields of commercial plantations in southern Bhutan. However, considerable data exists from areas elsewhere and similar to project growing conditions. Nevertheless, expected yields have been set at conservative levels and should be exceeded.  -20- 63. Labor for development efforts has been a common constraint in Bhutan, because of low population and distances of project areas from population centers. The Government has sought to alleviate this problem by allowing labor from nearby countries to enter for fixed terms of employment. To the extent there are shortages of domestic labor, such arrangements would also apply to the proposed project. Project areas are adjacent to sources of plentiful labor supply in nearby India. Nevertheless, FD would, in line with national policy, continue to recruit and train Bhutan nationals to fill all skilled and semi-skilled poisitions by the time the project is completed. PART V - LEGAL INSTRUMENTS AND AUTHORITY 64. The draft Developmertt Credit Agreement between the Royal Government of Bhutan and the Association, and the Recommendation of the Committee provided for in Article V, Section l(d) of the Articles of Agreement of the Association are being distributed to the Executive Directors separately. 65. Special Conditions are listed in Section III of Annex III. 66. I am satisfied that the proposed Credit would comply with the Articles of Agreement of the Association. PART VI - RECOMMENDATION 67. I recommend that the Executive Directors approve the proposed Development Credit. A. W. Clausen President by Attachments Ernest Stern Washington, D.C. March 22, 1984  -21- ANNEX I Page 1 COUNTRY DATA - BHUTAN AREA POPULATION a/ DENSITY 46,500 sq km 1.2 million (mid-1982) 25 per sq km (1982) POPULATION CHARACTERISTICS (1982) HEALTH (1982) Crude Birth Rate (per '000): 43 Population per Physician : 18,100 Crude Death Rate (per '000): 21 Population per Hospital Bed: 2,000 Infant Mortality (per '000 live births): 147 INCOME DISTRIBUTION DISTRIBUTION OF LAND OWNERSHIP % of National Income - Highest Quintile: ..To owned by Top 10% of Owners Lowest Quintile : .. % Owned by Smallest 10% of Owners: ACCESS TO PIPED WATERS (1982) ACCESS TO ELECTRICITY % of Population - Urban : 49 % of Dwellings - Urban: Rural : 6 Rural: NUTRITION EDUCATION (1982) Calorie Intake as % of Requirement: .. Adult Literacy Rate : 10% Per Capita Protein Intake (grams Primary School Enrollment: 21% per day): GDP PER CAPITA IN 1981: US$116 VALUE ADDED BY SECTOR (1980/81) Value Added $ million % Agriculture bt 61.6 47.6 Forestry 20.2 15.6 Industry c/ 8.0 6.2 Services d/ 39.5 30.6 129.3 100.0 GOVERNMENT FINANCE (1981/82) Nu million % of GDP at Market Price Revenue and Grants 407.0 39.9 Total Expenditure 436.8 42.8 Overall Balance (deficit -) -29.8 -2.9 a/ Official estimate. b/ Includes agriculture and animal husbandry. c/ Includes manufacturing, mining, power, and construction. d/ Includes communications, transport, tourism, financial services, social services, rental income, trade, and government. .. Not available.  -22- ANNEX I Page 2 MONEY. CREDIT. AND PRICES (End-March) 1978/79 1979/80 1980/81 1981/82 (Nu million) Money and Quasi Money 57.7 80.0 105.7 145.5 Bank Credit to Public Sector -62.0 -59.1 -53.6 -78.7 Bank Credit to Private Sector 23.7 32.9 28.3 45.9 Money and Quasi Money as % of GD? .. .. 10.4 Annual % Changes in: Consumer Price Index 12.1 13.5 9.6 10.3 Bank Credit to Public Sector +4.7 +9.3 -46.8 Bank Credit to Private Sector .. +38.8 -14.0 +62.2 Consumer Price Index (1977/78 - 100) 112.1 127.2 139.4 153.7 BALANCE OF PAYMENTS. 1981/82 a/ MERCHANDISE EXPORTS. 1981/82 a/ (US$ 0O0) US$ 000 % Export of Goods 714.0 Import of Goods -3,307.0 Cardamom 614 86.0 Services and Private Transfers (net) -917.0 Gum rosin 80 11.2 Total Current Account -3,510.0 Handicrafts 17 2.4 Official Capital Transfers (net) 6,400.0 Timber 3 0.4 Change in Reserves (decrease -) 2,890.0 Total 714 100.0 RATE OF EXCHANGE b/ (Annual Average for Fiscal Year) 1978/79 US$1.00 = Ngultrum 8.21 Sgultrum 1.00 = US$0.12 1979/80 US$1.00 = Ngultrum 8.08 Ngultrum 1.00 - US$0.12 1980/81 US$1.00 = Ngultrum 7.89 Ngultrum 1.00 = US$0.13 1981/82 US$1.00 - Ngultrum 8.93 Ngultrum 1.00 = US$0.11 a/ With countries other than India. b/ The ngultrum is freely exchangeable in Bhutan with the Indian rupee on a one-for-one basis. Not available. South Asia Programs Department October 25, 1983  -23- ANNEX II STATUS OF IDA OPERATIONS IN BHUTAN US$ Million Amount (less cancellations) Credit No. Year Borrower Purpose Bank IDA Undisbursed 1416 1983 Bhutan Technical Assistance 3.0 3.0 1/ 11 Not yet effective.  -24- ANNEX III BHUTAN FORESTRY DEVELOPMENT PROJECT Supplementary Project Data Sheet Section I: Timetable of Key Events (a) Time taken by the Country to prepare the Project: 1 year (b) Agencies Preparing the Project: The Royal Government of Bhutan and FAO (c) Date of First Presentation to the Association: January, 1983 (d) Date of Departure of Appraisal Mission: October, 1983 (e) Date of Completion of Nezotiations: March, 1984 (f) Planned Date of Effectiveness: August, 1984 Section II: Special IDA Implementation Action None Section III: Special Conditions (a) There would be the minimum displacement of farmers in selecting planting areas. The Government will reacquire farmers' land cultivation rights on project land after paying due established compensation (para 39); and (b) Foreign specialists would be employed in accordance with an agreed timetable and with qualifications and terms satisfactory to IDA (para 46).  v PHYSICA. 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