Turkey - Industrial Training Project

Document of The World Bank FOR OMCIAL USE ONLY L.sJ. 2.3'q-1L) Re14 No. P-3660-TU REPORT AND OF THE PRESIDENT OF THE INIERTIOlU UUBAINK FOR R1ECONRClTON UID DEYEP TO TE mmCUTIVE DIRECTRS ON A PROPOSD LOAN IN AN AM EQUIVALENT TO US$36.8 MILIN TO TE REPUBLIC OF TURKEY FOR AN INDUSTRIL DTRAINING PROJECT Narch 5, 1984 I Tdsi de ba a reti d m i be Wed by |ecPimt emiiy I. hefoime Of eIr emelal dudu It ceuteut my me oterse be disd witbout WoUd Bink a_ lmtun  TURKEY CURRENCY EQUIVALENTS Currency Unit Jan. 1980 I/ Jan. 1981 Jan. 1982 Jaw. 1983 Jan. 1984 US Dollar - TL 70.00 IL 91.00 TL 139.60 TL 191.15 TL 309.20 IL 1 - US$ 0.014 US$ 0.011 US$ 0.007 US$ 0.005 US$ 0.003 1/ Since January 1980. the rate is being adjusted for the differential inflation between Turkey and its major trading partners. TL 291.5/$1 (the exchange rate at the time of negotiations) was used for Parts III and IV of this report. FISCAL YEAR Republic of Turkey March 1 to February 28 (through 1981) March 1 to December 31 (1982) January 1 to December 31 (from 1983) LIST OF ABBREVIATIONS DYB State Investment Bank MDE Ministry of Education, Youth and Sports MIT Ministry of Industry and Trade SAL Structural Adjustment Loan SEE State Economic Enterprise SEGEM Industrial Training and Development Center SIDO National Small Industry Organization SIS State Institute of Statistics SPO State Planning Organization TKI Turkish Coal Enterprise TSKB Industrial Development Bank of Turkey TTC Technician Training Center UNDP United Nations Development Program UNIDO United Nations Industrial Devclopment Organization YobK Council for Higher Education  FOR omCIL USE ONLY TURKY INDUSTRIAL TRAINING PROJECT Loan and Project Summary Borrower: Republic of Turkey Beneficiaries: Council for Higher Education (E K), Industrial Training and Development Center (SEGEM), and State Institute of Statistics (SIS) Amount: US$36.8 million (including capitalized front-end fee) Terms: Seventeen years including four years of grace, at the standard variable interest rate. - Project Description: The project is in support of the Government's industrial development objectives which are linked to improving industrial productivity as well as increasing the supply and quality of skilled manpower. The project would provide technical assistance, equipmnet, furniture and minor refurbishment for eight Technician Training Centers to assist Y5K in establishing a pilot program of post-secondary pre-service industrial technician training. Technical assistance and equipment would be included to strengthen and expand SEGEM's in-service and on-the-job industrial training programs at the professional, technician and supervisory levels, as well as assist in developing the framework for a national industrial training system. Overseas fellowship training would also be provided to SIS staff in order to improve the quality and presentation of economic and social data. This documnt hss a restmicd detbmon aod omy be usd by recipients only in the perormac of theirola duteu Its contents my not otuerw be discWsed wihout Wd Bank authoi  Proiect Benefits and Risks: The proposed project would contribute to the institutional development of two key industrial training agencies, ToK and SEGEM. Industrial productivity would be improved by establishing a new program for pre-service technician training as well as by upgrading the quality of and expanding in-service industrial training. The project would help meet the large demand for skilled technicians by producing about 1,230 graduates annually from 1992. Similarly, it would establish tne basis for a national industrial training system and expand industrial in-service training programs to reach anmially some 4,450 managerial and professional staff and about 2,000 technicians and supervisory staff by 1988. The major risk would be that project implementation may not proceed on schedule because of inadequate management and the unfamiliarity of the beneficiaries with Bank procedures. To minimize this risk, special training programs for implementing staff have been arranged and a greater than normal level of supervision is planned during the first eighteen months of project implementation. Furthermore, technical assistance packages have been designed to minimize the administrative burden on implementing agencies. The risk that an insufficient number of technician instructors would be recruited is minimized by the attractive salary scales of these positions which are equivalent to university rates. .  - iii - US$ million Estimated Proiect Costs: Local Foreinn Total Council for Higher Education (YobK) Technician Training Centers (TTCs) 2.26 17.02 19.28 Curriculum and Staff Development Program 0.50 5.39 5.89 TTC Nanagement System 0.13 0.76 0.89 Future Project Development 0.03 0.11 0.14 Incremental Recurrent Costs 0.24 - 0.24 Sub-total 3.16 23.28 26.44 Industrial Training and Development Center (SEGEH) Industrial Training System 0.13 1.49 1.62 Program Development and Expansion 0.11 0.75 0.86 Industrial Training Cousultancy Facility 0.04 0.19 u.23 Future Project Development 0.02 0.11 0.13 Incremental Recurrent Costs 1.91 - 1.91 Sub-total 2.21 2.54 4.75 State Institute of Statistics (SIS) 0.02 0.52 0.54 Total Base Cost 5.39 26.34 31.73 Physical Contingencies 0.54 2.63 3.17 Price Contingencies 1.70 7.73 9.43 Total Proiect Cost 7.63 36.70 44.33 Front-end Fee - 0.09 0.09 Total Financing Required 7.63 36.79 44.42 US$ Million Financing Plan: Local Foreign Total IBRD - 36.8 36.8 Government 7.6 - 7.6 Total 7.6 36.8 44.4  - iv - Estimated Disbursements: US$ Million IBRD Fiscal Year 1985 1986 1987 1988 1989 1990 Annual 1.4 3.5 8.6 9.1 8.6 5.6 Cumulative 1.4 4.9 13.5 22.6 31.2 36.8 Rate of Return: Not applicable. Staff Appraisal Report: No. 4755-TU, dated February 28, 1984. Map: No. 17358  INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT REPORT AND RECOMMENDATION OF THE PRESIDENT OF THE IBRD TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN TO TRE REPUBLIC OF TURKEY FOR AN INDUSTRIAL TRAINING PROJECT 1. I submit the following report and recommendation on a proposed loan to the Republic of Turkey for the equivalent of US$36.8 million (including the capitalized front-end fee), to help finance the foreign exchange cost of an Industrial Training Project. The loan would have a term of 17 years, including 4 years of grace, with interest at the standard variable rate. PART I - THE ECONOMY 2. An economic mission visited Turkey in June 1982, and its report entitled "Turkey: Country Economic Memorandum, Recent Economic Developments and Medium-Term Prospects" (No. 4287-TU) was distributed to the Executive Directors in June 1983. The report, in addition to analyzing Turkey's medium-term prospects and overall creditworthiness, presents a synthesis of earlier special economic reports on aspects of Turkey's adjustment process. The report of the mission to review the financial system, entitled: "Turkey: Special Economic Report - Policies for the Financial Sector" (No. 4459-TU), was distributed in September 1983. An economic mission visited Turkey in January 1984 to review the economic developments of 1983, the 1984 Annual Program and selected structural adjustment issues. The findings of this mission are reflected in this section. 3. Turkey is about as large as France and Germany combined, with a population of around 46 million and an estimated GNP per capita of $1540 in 1981. The density of population is low (78 per square kilometer of agricultural land), and about 45 percent live in urban centers. Population growth (2.2 percent per annum) is below the median for middle-income countries. Despite rapid economic growth in the mid-1970s as well as substantial emigration of workers (to Western Europe and more recently, to the Middle East), the employment situation has deteriorated steadily with an unemployment rate currently estimated at about 18 percent. There is, however, little or no absolute poverty, although income distribution is skewed. There are considerable regional differences in income and large rural-urban disparities. Recent data indicate a probable worsening in income distribution, especially of wage and salary earners, and a sharp real decline in average earnings. Educational enrollments have expanded greatly but the level of adult literacy remains relatively low.  -2- Background 4. During the 1970s Turkey did not make the necessary adjustments to the shocks caused by the steep rise in oil prices, stagflation in the OECD economies, and the consequent deterioration in the terms of external trade. Until 1977 Turkey maintained high rates of economic growth by raising the share of investment in GDP. This was financed initially by workers' remittances and, following the quadrupling of oil prices, increasingly by short-term borrowing. The rapid GNP growth came to an abrupt halt in 1977 as the massive external debt burden led to a sharp deterioration in creditworthiness, severe shortages of imports, and disruptions in industrial production with a rise in unemployment. By the end of 1979, domestic inflation had also become an issue of critical importance. 5. The Turkish authorities' response to the crisis of the late 1970s was a major shift in development strategy in 1980, moving towards outward orientation and giving an increased role to market forces. Policies were adopted to expand exports and increase workers' remittances which, together with liberalization of imports, encouragement of foreign investment and prudent external debt management, were aimed at alleviating the balance of payments constraint and import shortages. On the domestic front, the objectives were a reduction in the inflation rate, reform of the State Economic Enterprises (SEEs), a more efficient financial sector, improved resource mobilization and better selection of investments, especially in the public sector. 6. The adjustment program, which has been supported by the Bank through four structural adjustment loans so far, involves far-reaching changes in attitudes, institutions, and the legal and policy framework, all of which take time and are difficult to put in place. In view of the severity of the crisis in 1979, and the urgent need to bring down inflation and stabilize the balance of payments as quickly as possible, the Government accepted the need for a temporary sacrifice of growth and social objectives. Major structural changes were made in the operation of the exchange rate regime, the tax system, interest rate policy, export strategy, the SEE sector and public investment policy. 7. The implementation of the program was carried out by a military regime which assumed power in September 1980 following a period of sustained unrest. Subsequently a Consultative Assembly was set up to draft a new constitution, which was overwhelmingly endorsed in a nationwide referendum in November 1982. New election and party laws were then promulgated, and parliamentary elections completed in November 1983. A new Government assumed office in December 1983. The Structural Adiustment Process - 1980-83 8. The Turkish economy has shown an impressive response to the structural adjustment program and actual performance met or exceeded the Government's own targets through 1982. By contrast, results in 1983 proved to be mixed, due in part to adverse economic developments on the external front, slippages in the monetary program, and Government inertia in the face of upcoming elections.  9. Real GNP, after falling for two consecutive years, expanded by 4.2 percent in 1981 and 4.6 percent in 1982. Growth was mainly export-led, with less than one-quarter of the growth in 1982 due to domestic demand. Demand for consumption increased by 3 percent while fixed investment grew at a modest 4.1 percent (both in real terms) in 1982, and depletion of inventories helped to expand supply. Public investment grew at a slower rate than private investment, thus reversing the trend of previous years. However, unemployment continued to grow as employment opportunities did not increase fast enough to absorb the expansion of the labor force. GNP growth slowed down in 1983 to about 3.2 percent as against the target of 4.8 percent, due in large part to the effect of adverse weather conditions on agricultural production. Industrial value added is estimated to have registered a growth of 6.6 percent as against the program target of 5.5 percent. Total fixed investment increased by about 4.2 percent. As in the previous two years, private fixed investment grew faster than public fixed investment (5.7 percent versus 3.2 percent). 10. The Government has been remarkably successful in reducing the rate of inflation through a combination of fiscal, monetary and income policies, although the downward trend was reversed in 1983. After peaking at 107 percent in 1980, the annual average rate of increase in the wholesale price index declined to 37,percent in 1981, and around 25 percent in 1982, which was the program target. In 1983, it rose to 31.4 percent, as against the program target of 20 percent. The rise was fueled by an expansion of Central Bank credits to firms and commercial banks in difficulty during the second half of 1983. The resulting liquidity expansion, in conjunction with a lowering of nominal deposit interest rates, encouraged consumption at the expense of savings (consumption increased by 4.2 percent). II. Commercial bank interest rates which were deregulated in July 1980 have increased substantially and are now markedly positive in real terms. As a result, total bank deposits increased by 72 percent in 1980 over 1979, and in 1981 this trend accelerated, with total deposits growing by 104 percent and time deposits by 263 percent. Growth in deposits slowed somewhat in 1982 and 1983. The bankruptcy in late June 1982 of a major non-bank financial institution shook depositor confidence and was followed by a shift of funds into the larger banks. The Government averted an immediate crisis in the banking sector and undertook actions to reform and strengthen the financial sector as a whole. A new banking law was enacted in June 1983. It covered many of the recommendations made by the Bank's report on the financial sector 1/, including measures to reduce the undercapitlization of banks, place limits on the real assets and investments of banks, link the establishment of branches to the level of a bank's equity, reduce the interlocking between banks and corporations, introduce a deposit insurance scheme and increase the roLe of the Central Bank in the supervision of the banking sector. The Government also took a major step towards reducing the cost of intermediation and strengthening the inter-bank market by reducing the level of the financial transactions tax from 15 to 3 percent in December 1983. Separately, the Government has reduced the level of withholding tax applicable to interest payments on deposits and bonds from 20 percent to 10 percent. 1/ "Turkey: Special Economic Report - Policies for the Financial Sector" (No. 4459-TU), dated September 21, 1983.  12. While posLtive real interest rates have provided an incentive to save, they have also meant high borrowing costs. The current real interest rate for non-preferential credits is about 30 percent, and there is considerable disparity between the cost of preferential and non-preferential credits. The high interest rates, together with the limited availability of credit, have led to considerable liquidity problems for the private business sector, particularly for businesses supplying the domestic market. In order to reduce real interest rates, measures are also needed to lower the operating costs of banks which are well above prevailing levels in comparable countrles, in addition to a reduction in the inflation rate. 13. In the fiscal area the most notable feature is a marked retrenchment of the public sector. The budget deficit to GNP ratio, which stood at 4.6 percent in 1980, decreased to 1.2 percent in 1982, while SEE transfers as a percentage of GNP showed a steady decline from 4.8 percent in 1980 to 2.8 percent in 1982. The public sector accounts continued to show improvement in 1983. Although there was a shortfall in tax revenues, this was more than offset by savings in expenditure, so that the ratio of budgetary deficit to GNP further declined to about 0.5 percent. Transfers to SEEs as a percentage of GNP also registered a decline to 2.6 percent in 1983. However, total profLts of SEEs at TL 52 billion were somewhat lower than expected, implying a slight increase in the ratio of the SEE financing requirement to GNP. 14. On the external account, the flexible exchange rate policy under which the Turkish lira has been adjusted daily since May 1981, contributed to an unprecedented export growth in 1981 to $4.7 billion, or 63 percent higher in dollar terms than the 1980 level. The increases were concentrated in manufactured goods (a rise of nearly 120 percent). Product groups with the largest increases included textiles, clothing, cement, iron and steel, and non-electrical equipment. Exports in 1982 reached $5.75 billion, about 22 percent above 1981, despite a significant decline in export prices, particularly for agricultural products. Manufactured exports were the major source of expansion, as exporters continued to make inroads into markets in the Middle East. In 1983 exports grew by an estimated 13.6 percent in volume but their value remained unchanged compared with 1982 at $5.8 billion, because of a sharp downward movement in export prices. 15. A new and rapidly growing source of foreign exchange is income earned from construction contracts in the Middle East and North African countries (with a gross value of around $12 billion in 1983). These activities are expected to add to the normal flow of workers' remittances, which remained strong throughout 1981 but declined in 1982 and 1983, reflecting the appreciation of the US dollar vis-a-vis European currencies as well as the impact of the recession in Western Europe. 16. The shortfall in earnings from exports and workers' remittances in 1983 was partially offset by a less-than-expected increase in the value of imports, which reached $9.0 billion as compared to the programmed level of $9.7 billion. The net result was a substantial increase in the current account deficit to $1.8 billion in 1983 (3.5 percent of GNP) as against $1.0 billion in 1982 (1.9 percent of GNP).  The New Economic Program 17. The new Government announced its economic program in December 1983. The major structural measures are in line with the objectives contained in the 1980 reform program. They are designed to push the structural adjustment process firmly forward, and to reaffirm the Government's will to pursue policies designed to open up the economy and reduce distortions. Export growth and inflation control remain central to the new program. The measures include: (i) a reorganization of the Government's administrative machinery, including a reduction in the number of ministries and the simplification of procedures; (ii) a substantial import liberalization which eliminates approximately 78 percent of quantitative restrictions in trade-weighted value terms, reduces significantly the tariffs on a large number of items and imposes a levy on luxury goods imports aimed at feeding a low cost housing fund; (iii) a reaffirmation of the need to export; (iv) a substantial liberalization of the foreign exchange regime through simplification of procedures and freeing of restrictions; (v) an interest rate policy designed to provide a real rate of return thereby encouraging savings, while at the same time freeing the lending rates set by the commercial banks with the exception of the rates on certain preferential credits; (vi) a major step towards reduction in the inordinately large spread between deposit and lending rates by lowering the withholding tax on interest paymentc from 20 percent to 10 percent and the financial transactions tax from 15 percent to 3 percent; and (vii) a reaffirmation that the State Economic Enterprises will, with some exceptions, be free to set their own prices according to the requirements of the market. Medium-term Prospects 18. Preliminary projections prepared by the recent Bank Economic Mission indicate the need for a continuation of the stabilization program until 1985, followed by a growth strategy aiming at about 5.5 percent per annum GDP growth consistent with a manageable balance of payments. 1/ Two basic assumptions on the sustainability of export growth and on fiscal discipline have guided the projections. The continued growth of exports is based on the view that the conditions that made possible the 1981-82 upsurge are not temporary. 1/ The Fifth Five Year Development Plan (1984-88) was postponed by one year until the new Government took office. According to the present schedule, the new Fifth Five Year Plan, which will cover the period 1985-89, will be ready in draft form by mid-1984.  - 6 - Specifically, the projections assume continuation of a flexible exchange rate policy, export incentives and import liberalization. They also assume that the monetary and fiscal policy restraints will not be relaxed to a point that will revive inflation, thus dLirupting the basic shift in development strategy. 19. The projections of key economic variables for the period 1984-1990 are presented in Table 1. Merchandise exports are projected to continue to grow at 9 percent in real terms into the late 1980s, with manufactured exports projected to grow at 11 percent per annum. The scenario assumnes an improvement in the pace of import liberalization in order to reduce the profit bias against exports. Merchandise imports are projected to grow by 5 to 6 percent annually in real terms through 1984 and then to pick up to an average of a little over 7 percent for the 1985-90 period in line with the growth of demand. Tbial 1: Turkey - Selected Econmaic indicators, 1981-90 19t1 1982 1983 1985 1990 Aver aw Annual riii Crouth late EiaLice A ct-u a T-wiC-u-1 rst-f--tiS PToJec-to- 19111 19 S2-US 1935-90 GDP 1980 TL b 4500 4723 .180 5334 6927 4.4 4.9 4.0 5.4 Consumption 3755 3836 4050 4299 5487 1.9 3.0 4.3 5.0 Fixed Inveotmat B78 908 946 1083 1.41 4.2 3.0 5.4 5.9 Eaporte of CGods Currant I a 4703 5746 SI30 8552 13936 79.0 22.4 4.3 9.0 Imports of Goods 8933 3343 9000 12166 24932 10.2 -1.5 1.5 7.1 Trade Balance -4230 -3097 -3200 -3614 -5946 current Account salance Currant S * -2076 -1010 -1808 -1763 -2104 at io. ,Invetstent/CDP 2 24 1 22.1 22.4 22 3 22.3 SavingsIGDP 2 I.9 18.6 19.0 19.5 20.6 Export. of Goods/CGP 2 K.9 10.4 9.5 10.4 12.4 Current Account Deficit/CDP Z -3.5 -1.9 -3.5 -2.6 -1.7 Debt Service Ratio &/ 2 13.3 23.7 24.3 24.6 24.1 PublLc Fixed Inveat..ntl 2 60.9 60.6 60.3 57.5 50.0 Tutal Fixed Inveatmnt a/ Total Debt Service includLng Debt Relief, Exports of Goode snd slS plus Markerg. eitt nae Source: State Planning Organization and IBRD Projection. 20. The current account balance, under these assumptions, would show a deficit for 1984-85 in the g1.6-1.8 billion range. As higher rates of growth are achieved, the trend would be reversed for the 1985-90 period, and Turkey's current account deficit would increase again. The terminel year 1990 would show a deficit of $2.1 billion (1.7 percent of GNP), as compared to a 1985 projected deficit of $1.8 billion (2.6 percent of GNP). BEST COPY AVAILABLE  - 7 - 21. The capital account would remain manageable throughout the projection period, in line with the need to restra