South Africa - Sixth Transportation Project

R E S T R I C T E D PILE COpy Report No.P- 197 This report was prepared for use within the Bank. In making it available to others, the Bank assumes no responsibility to them for the accuracy or completeness of the information contained herein. INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT REPORT AND RECOMMENDATIONS OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ONA PROPOSED LOAN TO THE UNION OF SOUTH AFRICA June 1, 1959  REPORT AND RECOMMENDATIONS OF THE PRESIDEDT TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAM TO THE UNION OF SOTJTH AFRICA 1. I submit the following report and recommendations on a proposed loan in various currencies equivalent to $ 11.6 million to the Union of South Africa for the expansion and improvement of its transport facilities. PART I - HISTORICAIL 2. The Bank has already made seven loans aggregating the equivalent of $ 185.2 million to the ITnion or bearing the Union's guarantee. The status of the loans on May 15, 1959 was as follows: Amount (equivalent .No. Borrower Purpose in $ million) 4o SA Union of South Africa Transport 20.0 41 SA Electricity Supply Commission Electric power 30.0 77 SA UJnion of South Africa Transport 30.0 78 SA Electricity Supply Commission Electric power 30.0 134 SA Union of South Africa Transport 25.2 178 SA Union of South Africa Transport 25.0 214 SA Union of South Africa Transport 25.0 Total 185.2 Amount sold 58.1 127.1 Amount repaid 38.8 Less repayments to third parties 32.0 6.8 Net amount held by the Bank 120.3 3. As I informed you in my preliminary report (R 58-111) on the loan made to the Union last December, I told the Union Goverrnent on the occasion of my visit to South Africa in the spring of 1958 that I would be willing to recom- mend to the Executive Directors within the next year or so loans up to a total amount of 1P 50 million, matching amounts raised by the Union in the financial markets of the world. Pursuant to this understanding the Union Government raised .t 25 million by a public bond issue in New York and concurrently w^.Tith the sale of t,hese bonds the Bank made a loan in various currencies equivalent to $ 25 million to the Union to help finance the develorment program of the South African Railways and Harbours Administration (Loan 214 SA, dated December 2, 1958).  -2- 4. As was pointed out then, the railway program which our loan is helping to finance is a very large one, and its financing always contemplated sub- stantial additional borrowing. Accordingly, the Union Govermnent asked the Bank whether, in implementing the matching arrangement, it would consider con- tinuing its support for the same project. I felt that this proposal was ac- ceptable, provided that no substantial changes had taken place in the country's economic position or in the railway program. 5. Early this year the Union Covernnent guaranteed a 5%, 15-year public issue of SIAT. frs. 50 million (, 11.6 million) floated in Switzerland by the Electricity Supply Commission (ESCOM) to which the Bank had already lent $ 60 million. Shortly after the issue had been made the Goverrnent requested the Bank to consider a further loan in an equivalent amount for the railways. The Bank has obtained supplementary data from the IJnion Goverrment regarding the economy and the Railway Administration's development program, which confirm that further Bank lending for the railways is justified. PART II - DESCRIPTION OT? THE PROPOSED LOAN 6. The proposed loan would cover part of the foreign exchange costs of the current development program of the South African Railways and Harbours Admin- istration. 7. The loan would have the following main characteristics: Borrower: Union of South Africa Amount: The equivalent in various currencies of $ 11.6 million. Interest (including commissLon : 6% including 1%o commission. Amortization: In 16 semi-annual irstallments beginning on December 1, 1961 and ending on June 1, 1969. Each payment of principal and interest taken together would be approxi- mately equal. Commitment Charge: 3/4 of 1% PART III - APPRAISAI 07' THE PROPOSED LOAN The Project 8. The project is part of the accelerated investment program instituted by the South African Railways and Harbours Administration to enable the Administra- tion to catch up by the end of 1961 with the growing demands heing placed upon it. As in the case of the Bank's loan made last December, it covers the two- year period ending on March 31, 1960 and the completion within a reasonable time  -3- thereafter of parts of the program in progress at that date. The project in- volves the expenditure of B 173 million (-1> 484 million equivalent) mainly on the expansion of line and yard capacity, the extension of electrical and diesel traction, and the purchase of additional rolling stock. The proceeds of the Bank's loan wnuld be used to pay for imports of rolling stock, permanent way materials and electrification materials. All contracts will be awarded on the basis of international competitive bidding, as is the Administration's normal practice. 9. The South African Railways and Harbours Administration and its expansion program were referred to in my report R 58-111 and appraised in the technical report entitled "Appraisal of the South African Railways and Harbours Develop- ment Program" (TO 197a) which was circulated with my Report and Recommendations dated November 2h, 1958 (R 58-121). Since these reports were distributed the Administration has revised somewhat its estimates of traffic growth over the next few years and the planned capital expenditure under the project has ac- cordingly been reduced very slightly (from about B 177 million, to about E 173 million), but this does not reflect any change in the project. Moreover, if these revised traffic estimates hold good, capital expenditure in the two years after March 1060 would be reduced by about 20. Any such reduction in the capi- tal expenditure made possible by a slightly lower rate of traffic growth would, to some extent, ease the Union Treasury's problem of finding the finance required. 10. The Act of 1909 which created the Railways and Harbours Administration requires that its properties be administered on business principles, yielding enough revenue to cover operating expenses, renewals and interest on capital provided by the Goverrment. In fact, in the postwar period the administration has contributed out of its earnings substantial sums to a Betterment Fund and has made provision, through a Rates Equalization Fund, for meeting temporary operating deficits from past surpluses. Last year, mainly because of the gen- era], slow down in business activity and of a relative decline in the share of high-rated traffic in the total, revenue account for the eleven months to Feb- ruary 1959 showed a small operating deficit of about ; 1.8 million (5 5 million equivalent) or roughly 1% of gross revenue. This deficit, together with an appropriation to net revenue account of about L 5 million (.$ 14 million equiva- lent) for the Replacement Fund and Betterment Fund, will be met from the Rates Equalization Fund. The causes of the deficit appear to be mainly connected with the business cycle and the import restrictions imposed temporarily to pro- tect the Union's balance of payments position. This year, as it has always done in the past when faced with unsatisfactory earnings, the Railways and Harbours Administration has promptly begun to take measures to increase effi- ciency and to curtail expenditure. As a result of these and of the higher tariffs, imposed in July last, it is expected that the Administration's accounts in the current year ending MvIarch 1960 will be roughly balanced. Prospects of Fulfillment of Obligations 11. My preliminary report on the previous loan to the Union (R 58-111) dated  -4- NTovember 4, 1958 included a brief summary of the Union of South Africa's eco- nomic position and prospects, and an economic report (EA 88a) was distributed to the Executive Directors on November 24, 1958 (R 58-121). Since these docu- ments were prepared there has been no major change in the Union's economic position which would require modification of the conclusions reached regarding the country's ability to service additional external debt. 12. During the last six months the Union's overall balance of payments po- sition has in fact shown a considerable improvement. Despite lower export prices and proceeds and a resultant larger gap in the country's balance of trade, its gold and foreign exchange reserves have increased from the low level of about D 250 million equivalent reached in Septembher 1958 to about $ 325 million equivalent in May 1959. This improvement was helped by a substantial inflow of foreign private capital, amounting in 1958 to about $ 154 million equivalent, which contrasts with an outflow of about $ 67 million equivalent in the previous year. Reserves, however, are still less than the cost of three months' imports. With export prices still depressed and savings also reduced, the Goverrnent feels that it should fill part of its capital needs by borrowing abroad. 13. The Union's economy grew very little in 1958. To stimulate business activity the Reserve Bank has recently reduced its discount rate to 4% and has liberalized credit restrictions somewhat. On the whole, however, the fiscal and monetary measures taken by the Goverrment have been cautious so as not to initiate a new surge in the demand for imports and weaken the country's balance of payments position. The long run prospects for economic growth in the Union remain good, although as has been pointed out previously, the growth may w,ell be somewhat slower than it was in the early 'fifties. 14. The Union's foreign debt remains moderate. Including the recent ESCOM4 issue in Switzerland and the proposed loan from the Bank, her total external public debt will amount to roughly i 400 million equivalent, of which nearly 70% would be in dollars and Swiss francs and most of the remainder in sterling. The annual service on this debt represents in the peak year (1959) about 3% of current foreign exchange receipts in 1958, over a third of which was derived from sales of gold. This debt burden is considerably less than before the war. In addition to her public external debt, the Union has to makce sizeable payments on account of foreign investments (both direct and publicly held) in South Africa. These payments in 1957 amounted to about 11% of total current foreign exchange receipts. Profits, however, vary with business conditions in the Union, and the transfer of investment income has never caused difficulty. 15. As I have said in earlier reports, the possibility of interracial strife remains one of the major risks inherent in lending in South Africa. Tensions have always existed and since the end of 1;.'orld WJar II, they have increased. This trend is due to the increased participation of Africans in the money econ- omy and the influence of political emancipation of indigenous peoples elsewhere in Africa and in Asia. It will probably continue and because of the several  races and language groups involved will become increasingly complex. As far as can be judged today, however, there is no undue risk that relations between the races will deteriorate to such an extent that the Borrower will not be able to carry out its obligations under the proposed loan. PART IV - LEGAL INSTRTMENTS AND AUTHORITY 16. A draft Loan Agreement between the Union of South Africa and the Bank, incorporating Loan Regulations No.3 dated June 15, 1956, is attached (No. 1). The draft Loan Agreement follows the Bank's normal pattern and is similar to previous loan agreements with the Union. 17. The report of the committee provided for in Article III, Section 4 (iii) of the Articles of Agreement of the Bank is attached (Ne. 2). PART V - COMPLIANTCE WRITH ARTICLES OF AGRENIENTEH 18. I am satisfied that the proposed loan complies with the requirements of the Articles of Agreement of the Bank. PART VI - RECOMIMENDATIONS 19. I recommend that the Bank at this time make a loan to the Union of South Africa in an amount in various currencies equivalent to $ 11.6 million for a term of ten years, with interest (including commission) at 6% and on such other terms as are specified in the attached draft Loan Agreement, and that the Execu- tive Directors adopt a resolution to that effect in the form attached (Nb. 3). Eugene R. Black Washington, D.C. June 1, 1959