Tanzania - Multisector Rehabilitation Project

Domnut Of The World Bank FOR OFFICIAL USE ONLY Report No. P-4404-TA REPORT AND RECOMMENDATION OF THE PRESIDENT OF THE INTERNATIONAL DEVELOPMENT ASSOCIATION TO THE EXECUTIVE DIRECTORS ON A PROPOSED IDA CREDIT OF SDR 41.3 MILLION AND A PROPOSED AFRICAN FACILITY CREDIT OF SDR 38.1 MILLION TO THE GOVERNMENT OF THE REPUBLIC OF TANZANIA FOR A MULTISECTOR REHABILITATION CREDIT November 3, 1986 This document has a restricted distribuLion and may be used by recipients only in the performance of their official duties- Its contents may not otherwise be disclosed without World Bank authorization.  CURRENCY EQUIVALENTS Currency Unit = Tanzania Shilling (TSh) Rate as of September 30, 1986 TSh I J US$ 0.0225 US$ I = TSh 44.5 USS I = SDR .8265 ABBREVIATIONS AND ACRONYMS BOT = Bank of Tanzania CG = Consultative Group DRC = Domestic Resource Cost ERP = Economic Recovery Program CDP = Gross Domestic Product ICOR = Incremental Capital Output Ratio KfW = Kreditanstalt fur Wiederaufbau LDC = Less Developed Country ODA = Overseas Development Administration PIP = Public Investment Program QRs = Quantitative Restrictions SAP = Structural Adjustment Program SDC = Swedish Development Corporation SJF ^ Special Joint Financing UNITED REPUBLIC OF TANZANIA FISCAL YEAR July I - June 30  FOR OMCIAL USE ONLY TANZANIA MULTISECTOR REHABILITATION CREDIT CREDIT SUMMARY Borrower: United Republic of Tanzania Amount: 1, IDA: SOR 41.3 million (US$50.0 million equivalent) African Facility: SDR 38.1 million (US$46.2 million equivalent). Terms: Standard for IDA and African Facility Credit Description: The proposed Multisector Rehabilitation Credit would support the Government's Economic Recovery Program (ERP) which comprises a comprehensive process of policy reform aimed at reversing the protracted deterioration of Tanzania's economy. The policy areas addressed include: (i) exchange rate, trade regime and foreign exchange allocation; (ii) public expenditures; (iii) parastatals; (iv) agricultural marketing and producer prices; (v) industrial restructuring; and (vi) transport sector efficiency. The foreign exchange to be provided under the Credit would be used to finance priority imports needed for the recovery of economic activity. The Credit is expected to help increase output in agriculture, particularly export crops, through the improvement of agriculture incentives, the reduction of supply bottlenecks and improvements in the efficiency of the marketing organizations and the transport sector. It would also begin a process for the restructuring of the industrial sector. Risks: Some of the proposed policy changes may invoke opposition which may delay the implementation of the program. However, risk is reduced because, firstly, the Government has shown commitment and appears to have adequate political support to implement the agreed program. Secondly, the severity of the economic situation has created awareness of the need for change. Thirdly, Bank staff will closely monitor the implementation of the agreed program. 1, In addition, Special Joint Financing of DM35.0 million (about US$17.3 million), SwF15.0 million (about US$9.2 million) and PDS5.D million (about US$7.3 million) would be provided by the Federal Republic of Germany, Switzerland and the United Kingdom, respectively. This document has a restricted distribution and may be used by recipients only in the performance of theirofficial duties. Its contents may not otherwise be disclosed without World Bank authorization.  - ii - Estimated A total of about US$130.0 million would be disbursed Disbursement: in three tranches. The first tranche of $50 million would be made available for disbursement as soon as the Credit becomes effective, the next US$50 million would become available after a review of second tranche release conditions in February/March 1987, and the final US$30 million as soon as third tranche conditions are met. Rate of Return: Inapplicable Appraisal Report: None Map: IBRD 19829  INTERNATIONAL DEVELOPMENT ASSOCIATION REPORT AND RECOMMENDATION OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS FOR A PROPOSED MULTISECTOR REHABILITATION CREDIT TO THE UNITED REPUBLIC OF TANZANIA 1. I submit the following report and recommendation on a proposed IDA Credit of SDR 41.3 (US$50.0 million equivalent) and a proposed African Facility Credit of SDR 38.1 (US$46.2 million equivalent) on standard terms to the United Republic of Tanzania for a Multisector Rehabilitation Credit. Special Joint Financing of DM 35.0 million (about US$17.3 million equivalent), SwF 15.0 million (about US$9.2 million equivalent) and PDS 5.0 million (about US$7.3 million equivalent) would be provided by the Federal Republic of Germany, Switzerland and the United Kingdom, respectively. PART I - THE ECONOMY 2. An Economic Memorandum on Tanzania (Report No. 5019-TA) was distributed to the Executive Directors in August 1984. Subsequently, economic missions have visited the country in September and December 1985, and their findings are reflected in Part I of this report, as well as in a report to the Consultative Group for Tanzania which met in Paris in June 1986. Background 3. At Independence in 1961, Tanzania (then Tanganyika) was one of the poorest countries in the world, almost solely dependent on subsistence agriculture and a few estate crops, with a very small industrial base (mainly small scale and accounting for less than 5 percent of Gross Domestic Product (GDP) and a limited number of educated and trained personnel). In the first six years after Independence the direction of economic policy was much the same as in many other less developed countries, relying largely on market forces and stressing the objectives of growth in per capita income and national self-sufficiency in skilled manpower. However, in 1967 the fundamental development objectives and strategies were reassessed. The new priorities, as enunciated in the Arusha Declaration and related policy statements, were directed towards establishing a socialist society, with greater emphasis to be given to broad-based rural development, self-reliance in development efforts, and the development of an education system geared to the needs of the people. Tn accomplish these goals, the Arusha Declaration emphasized that the State, with guidance from the Party, should play the leading role, especially in the reform and creation of appropriate institutions. This led in the late 1960s and early 1970s to the nationalization of large-scale industry, commerce and finance, the formation of Ujamaa (communal) villages, the mass campaign of villagization, and the replacement of farmers' cooperatives with state run crop marketing authorities responsible for all aspects of collection, processing and marketing of Tanzania's main  -2- export crops. In response to the declining purchasing power of Tanzania's traditional export crops the Government also embarked upon an ambitious program of industrialization based upon import substitution and the creation of heavy industries. 4. Despite the abrupt major institutlonal changes, Tanzania managed to achieve significant improvements in the social sectors during the 1960s and early 1970s. The enrollment rate in primary schools increased from 32 percent in 1965 to nearly 60 percent by 1975, life expectancy rose by almost five years and access to safe water improved in both rural and urban areas. There was also satisfactory progress on the general macro-economic indicators: real GDP grew by 4.4 percent per annum from 1966 to 1973, and the gross investment rate rose to above 20 percent. But this economic record was marred somewhat by the relatively slow growth of the productive sectors in the economy and the poor rate of return on new investment. Perhaps the biggest disappointment was agriculture, the dominant sector in the economy, which grew by only 2.3 percent per annum from 1966 to 1973. Income differentials between farmers in the poorer and richer regions widened and there was no reduction in rural-urban income differentials, despite the restrictions on official incomes imposed by the "leadership code" of the Arusha Declaration. As regards the objectivcn of self-reliance, although Tanzania made rapid progress towards "citizenization" of the economy, large gaps in manpower requirements remained. After 1970 the savings performance also faltered and Tanzania became increasingly dependent on foreign aid to finance both domestic investment and the widening balance of payments gap. 5. In the second half of the 1970s the Tanzanian economy entered a period of economic decline from which it has yet to recover. The overall downturn in the economy was caused in part by a series of external factors including successive droughts, the rapid increase in oil prices, the col- lapse of the East African Community and the war with Uganda. But the crisis also drew attention to some of the underlying weaknesses in the management of the economy. These included inadequate incentives and resources for the agricultural sector, a poorly implemented industrializa- tion strategy, excessive administrative controls over economic activity and the continued growth in the size of the public sector without due regard to the limited financial and administrative capacity available. GDP grew by 5.5 nercent per annum between 1973 and 1978 but by only 0.4 percent per annum between 1978 and 1982. Inflation accelerated, the fiscal situation deteriorated sharply after 1979 with deficits everaging about 16 percent of GDP and exports and imports both declined significantly. By 1982 import volumes were 32 percent below the level in 1978 and 24 percent below the level of the early 1970s. Recent Economic Developments 6. In an effort to address the country's economic problems, the Government launched -Economic Survival Plans- in 1980 and 1981 but it was not until 1982 with the introduction of a "Structural AdJustment Program"* (SAP) that a comprehensive approach to resolving them was initiated. This program sought to provide an overall framework of measures designed to res- tore financial and economic stability, stimulate agricultural development and improve efficiency, while endeavoring to protect the provision of basic social services and the incomes of the most vulnerable groups in the society.  7. Implementation of the SAP began slowly with measures introduced in the 1983/84 budget aimed at restructuring the deielopment budget and relaxing controls on economic activity. The process of policy reform gained some momentum with the 1984/85 budget when a number of major pricing and exchange rate changes were announced. These included devaluing the currency by 40 percent (in shilling terms) from TSh 12 to TSh 17, increasing producer pricee by an average of 50 percent in nominal terms, and raising the controlled prices of a number of consumer goods and agricultural inputs, in order to reduce or eliminate budgetary subsidies. Allocations to agriculture in both the recurrent and development budgets were substantially increased and foreign exchange retention accounts for exporters were introduced as a means of assuring at least a minimum level of external resources to exporting enterprises. In addition, a number of institutional measures were takeni aimed at reducing the scope of Government activity and improving the efficiency of services. The most effective were measures to liberalize domestic grain marketing, by changing the role of the National Milling Corporation from primary buyer of grain to a buyer of last resort. Cooperatives were reintroduced as the primary agents for procurement, storage and delivery of major export crops and the remaining responsibilities of the crop authorities were transferred to newly formed marketing boards. Several public enterprises in the agricultural and industrial sectors were dissolved, the number of ministries was reduced from 22 to 15 and the freeze on hiring for the Government was maintained. An "own funded" lmports scheme was also introduced, to facilitate imports financed by importers with funds held abroad (i.e. for which foreign exchange allocations by the Central Bank were not required or requested). 8. Unfortunately the momentum of policy reform was not sustained in the 1985/86 budget. While general emphasis was given to economic liberali- zation and public sector efficiency in the budget message, the actual mea- sures announced were disappointing. The scope of the foreign exchange retention accounts was expanded somewhat to include imports of incentive goods (i.e. consumer goods for lower income groups) in addition to recur- rent inputs required by producers, and the scope and coverage of the own funded imports scheme was expanded. However, there was no further adjust- ment in the exchange rate to remove the remaining overvaluation; instead inflrtion eroded the exchange rate changes already undertaken and the para-lel market, where foreign exchange is traded at several times its official price, continued to expand. The increase in agricultural producer prices, 20 percent in nominal terms, also fell short of the prevailing rate of inflation of over 30 percent per annum, causing export crop incentives to weaken. 9. The measures adopted under the SAP had some positive results but overall they were insufficient to stimulate any major recovery in the Tanzanian economy. Real GDP contracted in 1983 and although there was some recovery in 1984 and 1985, GDP growth was still well below population growth. After steady declines in per capita consumption levels in the early 1980s some positive growth was restored in 1984 and 1985. But this was accompanied by a sharp decline in the level of investment. 10. Food crop production, both for subsistence and off-farm consumption, generally kept pace with population growth, though shortages were experienced in the early 1980s due to drought, and a significant amount of maize, rice and wheat had to be imported. In 1984 and 1985 food  - 4 - crop production rose quite strongly as a result of the relaxatLon of price and marketing controls and better rainfall. The overall trend for export crops, however, continued to be downwards due to inadequate price incentives and inefficiencies in the marketing and transportation systems. Many farmers who traditionally grew crops for export either switched to supplying the domestic food market where returns were higher, or retreated into subsistence farming. As a result of all these factors, total agricultural output growth barely averaged 2 percent during 1982-84 before climbing to an estimated 3.5 percent in 1985. 11. The overall decline in export agriculture, the shortage of foreign exchange for imported inputs, and the growing inefficiency of many industrial enterprises in Tanzania meant that industrial output continued to decline sharply, falling by 11 percent in 1984 and a further 15 percent in 1985. Industrial output in 1985 was only one-third of its 1978 level and accounted for only 4.5 percent of GDP compared with 12 percent in 1978. Although output of beer, soft drinks, cement, fertilizers and petroleum products was higher in 1985 than in 1980, the output levels of all other major industrial categories were lower, with an average capacity utilization rate for thie sector as a whole of about 25 percent. 12. Performance in both the agriculture and industry sectors was impeded by problems in the transport sector, including the severe deterio- ration iii the rail and road network, shortages of vehicles and spare parts, inefficiencies in the management of public sector entities and tariff controls and other regulations affecting the operations of private trans- port enterprises. The condition of the country's domestic telecommunica- tions network also deteriorated, hampering transport coordination and economic activity generally. In addition, Tanzania's achievements in the social sectors began to be eroded, partly by the growth of the population but also by the inability of the Government to provide adequate resources for the operation and maintenance of education, health and other facilities. 13. As a result of efforts to contain expenditures and raise additional revenues the central government's overall deficit declined to 7.8 percent of GDP in 1984/85 from an average of 11.4 percent in 1981/82-1983/84. But the deficit rose again in 1985/86 to 8.5 percent of GDP. The financial operations of the parastatals have also shown persistent deficits in spite of price increases and efforts to instill a greater degree of efficiency in their operations. Of particular concern to the Government have been the deficits of the crop marketing parastatals, the combined result of operational inefficiencies and the effects of an overvalued exchange rate on their revenues. The deficits of the public sector were financed mostly by domestic credit which grew by about 20 percent per annum during 1980-84 and by an estimated 29 percent in 1985. This contributed to a rate of domestic inflation averaging about 30 percent per annum in recent years. 14. Tanzania's balance of payments also remained under severe strain. The most striking feature was the unrelieved decline in export earnings, which in turn affected import capacity and caused imports to fall to well below even the nominal levels of earlier years. The lowest point for imports was reached in 1983. Since then, there has been some recovery, due mainly tu a rapid growth in "own funds" imports, a sizeable fraction of  - 5 - which appears to be paid for by the proceeds of unofficial exports. In 1985 'own funds" imports accounted for about one quarter of total imports. The current account deficit declined from 10 percent of GDP in 1982 to 8 percent in 1984 but rose again in 1985. With suppliers credits and medium and long term loans both registering a sharp fall In net inflows, the Government was obliged to finance the deficits by an accumulation of external payments arrears (now estimated by the Bank at US$900 million). As a result, trade credit is now minimal, the export credit agencies of the major industrialized countries have for many years been reluctant to provide cover and there have been periodic suspensions of disbursements by aid agencies, including the Bank Group, which is the country's largest creditor. Tanzania's medium and long term external debt Is currently estimated at US$3.5 billion and the bulk of this debt is owed by the public sector. 15. The continued poor performance of the Tanzanian economy stems in large measure from the fact that the policy and institutional measures adopted under the SAP were inadequate in both scope and intensity. Although some changes were introduced in trade and exchange rate policies, nothing lasting was done to correct the currency overvaluation and the Government continued to rely on quantitative restrictions (QRs) and other administrative measures to control most trade and foreign exchange transac- tions. As a result, incentives remained biased against agriculture and exports and the pattern of industrial development continued to be very distorted. Efforts were made to restore some fiscal and monetary stability but the public sector remained very overextended, particularly in view of the scarcities of financial resources, skilled manpower and organizational capacity. Finally, agricultural production and exports continued to be hampered not only by inadequate price incentives but also by inefficiencies in the system for marketing, processing and transporting agricultural commodities. PART II - THE ECONOMIC RECOVERY PROGRAM Overview 16. Over the past year the Government has been reviewing the experi- ence of the SAP in the light of the disappointing performance of the economy. The Government has concluded that the polIcies adopted under the SAP should be continued but that the overall process of policy reform needs to be intensified. Accordingly, it has prepared, with the encouragement of the Bank, a new Economic Recovery Program (ERP) aimed at remedying the defects of earlier policies. The specific objectives of the ERP, are to: (a) increase the output of food and export crops by providing appropriate price and non-price incentives for production, improving marketing structures, and increasing budgetary and foreign exchange resources available to agriculture; (b) direct investment resources towards rehabilitating the physical infrastructure of the country in support of directly productive activities; (c) increase capacity utilization in industry through the allocation of scarce foreign exchange to priority  - 6 - sectors and firma; and (d) pursute prudent fiscal, monetary and trnde policies to restore domestic and external equilibrium, to ensure that production incentives are not eroded, and the efficiency of resource allo- cation is improved. 17. The ERP envisagets that the TIanzan1iani economy woild attain posi- tive growth rates in per ctpita incoine, a tustnainble exterial bfalance of payments position with botlh higher export and Import levels, an acceptably low rate of inflation, and restored levels of physical and social Infras- tructure by the end of a meditum-term period otT 5-7 years. To this end the Government will be giving greater jattenitrlon than In the pa1st to the estab- lishment of correct price signals In the econiomiiy fulcicding establishing an equilibrium exchange rate and achieving positive real Interest rates by mid-1988, and improving the real level of :iigriculturnl prices. Ile Government also intends to make substantial Institutional changes aimed at encouraging and factlitating the activities of cooperatives and the private sector. In cooperation with the Rank and the Fund, specIfic incentive and institutional measures have been developed for the first year of the ERP (1986/87). But It is clear that these are onily somiie initial steps and will need to he followed up by further policy and institIttona1 changes if the ERP is to succeed. The sucecess of the FRP Is also very muich dependent on domest4c policy and institutio'aal clhanyges heling romplemented by additional inflows of external resources. External Policies 18. Exchange Rate. The Government is convinced of the importance of timely adjustments of the exchange rate as a means of restoring the profitability of the export sector, and uinder the ERP has decided to follow an active exchange rate ptlicy aimed at eliminating the overvaluation of the Tanzanian shilling by mid-1988. In the two and a half months prior to the Budget, the Bank of Tanzania moved the exchange rate, In a series of weekly adjustments, from TSh i7 to) Tsh 26 to the U1S dollar. On June 19 the shilling was devalued a further 53 percenlt In local ctirrency terms to TSh 40, and for the folLowing six montiths is being depreciated at a rate not less than 1 percent per month In real terms (in practice somewhat faster). In December, the Governmenit with the IMF will review the progress of exchange rate adjustment, in light of the exchange rate equilibrium target, and, if necessary, modify the rate of adjustment. 19. Trade Liberalization. As the exchange rate adjustment proceeds, the Government intends to progressively dismantle quantitative restrictions and switch to tariffs and other indirect levers to influence both the level and pattern of foreign trade. However, an overall program for trade liberalization has yet to be developed. The Government intends by February 1987 to have completed a review of the current and proposed future structure of tariffs. On the basis of this review a time phased action program for trade liberalization will be prepared, with initial measures coinciding with the beginnin!r of the 1987/88 Tanzanian fiscal year. 20. Own Fund Imports and Export Retention Accounts. Pending the establishment of an equilibrium exchange rate, the Government will continue with a number of measures to improve the efFiciency of foreign exchange allocation. The "own funds" Imports scheme, which has recently been  expanded to cover a very wide variety of products, wtil be retained. A steadily Increasing proportion of importsc are now comiing into the country via this scheme and it constitutes n major source of supply of spare parts and other intermedtiate goods an8 well nas consumer goods for rural areas at an effectively market determilned exrchlangv rate. The export retentinn scheme will also be retained ans an ilnterim meisure. le scheme haN recently been revlsed in an effort to narrow tlhl diifferentials between retention rates, widein the range of gondii theil- may be Imported wLth the retention proceeds, nnd jiliow proceeds to he trailed between retention holders. fltit large diifferenti al: In riates stilI remain (10-15 percent for traditional exports vompared wlth 50 purce!nt and occasionally up to 100 percent for nontraditional exports) And tLhee couild serioullty distort intertsectoral reHOLirce a!1 ICocJt I oiN. Accordingl]y ,hn h'(overnment intends to further review the tscheme belor March 1)87 and make i'pprorpriate modificationls. 21. Foreign Exchange Allocation. In the Interim perriod before the establishment of an equ1ilibrium exchange ralte in mid-1988 the Government will continue to alincate some foreign exchange- through administrative mechanisms (aside from the foreign exchanige avanlable through the expc,rt retention and own ftunds imports schemes). Rutit measures are belng intro- duced to help Improve the efflelvncy of the admlnistrattve allocation system. First, the system wi 11 take aecount of all the f1orei-gn exchange likely to he av3ilahle For administrative allocation Incliuding export earn- ings, multilateral and hilateral ald and commerciatl credit. Second, estimates of foreign exchange availability and demand will be made quarter- ly as well an annually andI the mechanisms for making such forecasts will be improved. Third and most Imporrant, the allocation of foreign exchange to specific sectors and activities will take greater account of the Importance of economizing on foreign exchange and the overall economic efficiency of operations of the proposed users. In the case of indutstry this will involve, as interim measiures, some relatively simple screening tests based in part on domestic resotirre rost analysis and df3signed to: (i) weed out low-priority activities; ({l) ensure a minimtim allocation to smalI scale firms and those with low import dependenice; (iit) severely curtail allocations to negative valiie added firms; and (iv) maximize allocations to high value added activities. These Interim screening mechanisms will be particularly Important as the evidence shows that in the past it has been the least efficient Industrial enterprises that have been allocated the largest share of foreign exchange, Includinig aid resources. To ensure that foreign exchange is allocated oft-trively various institutional changes will also be made, to facilift;te c:loser cooperation between the MinTistry of Finance, Economic Affairs and Planlling and the Bank of Tanzania (see para. 66). As a first step towards a more flexible foreign exchange allocation system, the Government intends, bv July 1987, to make a portion of foreign exchange available to users in selected Import categories for non-administrative allocation. The modalities of this arrangement will be agreed with the Bank once the tariff studv is completed, and will include the amount of resourres to be allocated this way, the eligible categories, and any temporary Import surcharges or compensatory licenses that may be required pending full adjustment o.)f the exchange rate.  - 8 - Fiscal Policy and Public Expenditure Management 22. Budget Deficit. As part of the ERP the Government intends to reduce substantially the fiscal deficit, while improving the quallty of public expenditures. To thls end the Budget introduced on June 19, 1986 provides for the limitation of the overall budget deficit for 1986/87 to TSh 17 billion or an estimated 11.1 percent of GDP compared with 16.3 percent of GDP in 1985/86 on a comparable exchange and interest rate basis. The reduction in the budget deficit is being achieved mainly by adjustment to customs duties and sales taxes which, combined with the devaluation and an expected rise in the volume of Imports, should cause revenues from these sources to rise by over 200 percent. On the expenditure side, the Government has provided for a 20.3 percent increase in the total wage bill to compensate employees for the rise in the cost of living. But the increase is less than the inflation expected in 1986/87, and only partially compensates for the 70 percent rise in the cost of living since the last general wage increase two years ago. Other measures, such as requiring parents to pay a larger share of secondary and technical education expenses, should reduce the Government's share of these categories of expenditures. Except for teachers and medical personnel, employment levels in the public service have been frozen, and all subsidies to parastatals have been abolished. The Government intends to contlnue these efforts to contain expenditures and increase revenues in future years, and thereby further reduce the relative size of the budget deficit. 23. Public Expenditures. With zegard to the composition of expendi- tures, some restructuring of the Public Investment Program (PIP) has already taken place. In recent years aid resources have been shifted from project to program finance or outright balance of payments support partly as a result of project implementation difficulties and partly as a deliberate response by the Government and donors to the growing need for general import support. As the economy recovers, the requirement to divert aid resources to balance of payments support should lessen. The Government's intention is to focus these resources primarily on the rehabilitation needs of the economy rather than create new facilities or expand existing ones. With regard to recurrent expenditures the Government has endeavored in successive budgets to shift resources to the maintenance and operation of priority social and economic services. In the coming year the Government will be working closely with the Bank on a medium term strategy for public expenditures, covering both recurrent and development outlays and institutional mechanisms for planning and aid coordination. The review will be completed by July 1987. 24. Public Service. The Government is also planning to address problems of the public service, notably the overall level of staffing and its distribution between the grades and functions of Government, wage and salary levels and the pay differentials between different grades, non-wage benefits, and the scope and appropriateness of different departmental acti- vities. The pay awards announced in the 1986/87 Budget are interim measures pending stronger public finances and a fuller study of the issues. In this regard, a Salaries Commission has been reviewing issaes of pay, incentives and staffing for central and local government and for parastatals. Its report will be discussed with the Bank.  - 9 - 25. Parastatals. In addition to removing all budgetary subsidies to the parastatal sector the Government intends to further reduce the slze of the parastatal sector and to subject those enterprises remaining within the sector to a comprehensive program of efficiency-enhancing measures. To this end the Government will undertake, together with the Bank, a detailed review of the parastatal sector which will include proposals Eor rehabilitating or restructuring specific enterprises. The review will be completed by July 1987. On the basis of this review a program for improving the management and performance of the parastatals will be prepared. Money and Credit 26. In order to mitigate the effects of devaluation on inflation and to strengthen the balance of payments, the Government will control the rate of credit expansion. The credit ceilings adopted for the first year of the ERP in the context of the standby arrangement with the IMF (see paras. 43 and 58) limit overall net domestic credit expansion to 12 percent, compared with a 29 percent increase in 1985/86. This will be achieved by reducing Government borrowing from the banking system to a maximum of TSh 2.5 billion and by containing bank credit to the six crop marketing boards and the National Milling Corporation. The financial position of the marketing boards should be strengthened by devaluation and continuing efforts to improve productivity. The burden of credit restriction will therefore fall on the Government, leaving adequate room for the growth of credit to the private sector. 27. In order to promote a more efficient use of credit, and to encou- rage savings, the Government intends to adjust the structure of interest rates, which in recent years has become strongly negative in real terns. Deposit rates were increased on July 1, 1986, with the rate for one year savings deposits increasing to 15 percent (from 10 percent) and the rate for fixed deposits of more than 24 months maturity rising to 16-19 percent. Lending rates were also increased to a range of 13-21 percent from 11-15 percent. The Government intends to further adjust all interest rates, except the treasury bill rate, quarterly, beginning in the third quarter of 1986, and to have revised the average level of rates to 75 percent of the inflation rate by mid-1987. The structure of interest rates will be made positive in real terms by mid-1988. Pricing and Distribution Policies 28. The Government has progressively reduced the number of items subject to price control. At one time as many as :OO categories of goods were monitored by the National Price Commission but the coverage has now been reduced to 47. The Government intends to continue the process of decontrol and within three years to have reduced the categories of goods subject to price control to 12, considered basic necessities (the list includes cement, cooking oils, farm implements, corrugated iron sheets, fertilizer, sisal bags, milk, petroleum products, safety matches, soap, sugar and tires). As goods are decontrolled, the regulations that confine" goods to specified parastatals for their importation and wholesale distribution will also be dismantled.  - 10 - 29. As the exchange rate devaluation proceeds, the Government is making frequent price adjustments for the goods remaining under price control in light of cost increases. A new set of prices for petroleum products was announced in July, reflecting both exchange rate changes and revised duty levels. Electricity tariffs were increased by 67 percent in March 1986 and are being reviewed semi-annually with a view to maintaining the financial viability of the electricity authority. The Government also intends to regularly adjust the tariffs of other public utilities in order to restore and maintain their financial viability. Agriculture 30. Producer Prices. The restoration of growth and the increase in export earnings will depend primarily on the performance of the agricultu- ral sector and hence on the overall package of incentives for agriculture. In this regard under the ERP the Government is raising the real level of producer prices and ultimately will be linking them more closely to devel- opments in world market prices. Following the recent exchange rate depre- ciation, producer prices for the main export crops for the current buying season have been increased by between 30 percent (cotton and tobacco) and 80 percent (coffee). The Government intends for the medium term to set producer prices at a level equivalent to 60-70 percent of the f.o.b. price, or to ensure an annual increase of at least 5 percent per annum in real terms, whichever is higher. This policy was announced in the Budget Speech in June and has been approved by Parliament. During the next two years the adjustment of the exchange rate ahead of the domestic price level should leave room for real price increases for most crops. Thereafter, improvements in farmers' prices will depend on the extent to which the marketing system can be made more efficient and on developments in world commodity markets. Efforts will also be made by the Government to increase the quality of agricultural production by substantially widening the quality margins in the domestic structure of prices to better reflect prices paid in world markets for higher grades. 31. Marketing Structure. The Government believes that agricultural production and exports could also be significantly enhanced by improvements in the efficiency of agricultural marketing. With regard to the marketing of foodgrains, domestic trade from the farmgate to the consumer has been largely liberalized in the past two years and this has been a major factor in the increased production. Permits are still required for interregional trade but the Government plans to remove these by March 1987. 32. Reform of the institutional structure for the collection, processing and marketing of Tanzania's export crops is also underway, albeit not as advanced as in the case of domestic food crops. Cooperatives have been re-established and have taken over from the crop authorities responsibility for the collection of crops and, in some cases, their processing. At the same time marketing boards have been created to take over the marketing responsibilities, on a crop-by-crop basis, of the former crop authorities. In addition, many private estates (e.g., tea and sisal) are now permitted to market directly instead of through the marketing boards. Under the ERP the Government intends to make further changes in the structure of export crop marketing and as a first step is permitting cooperative unions and other large producers to participate in export  - 11 - marketing, either dirdctly or through private agents, starting in the 1987/88 crop season. An overall study on agricultural marketing will also be carried out to determine the next stages of market liberalization, and how the roles of parastatals, cooperatives and the private sector should evolve. The study will be completed by the middle of 1987, and an action program will then be prepared. The Government recognizes the importance of further improvements in marketing efficiency, but in view of the mixed experience of the past and the fact that the effectiveness of the new cooperatives is still to be tested, the Government intends to proceed cautiously. 33. Input Supply and Distribution. The Government also intends to modify the present institutional arrangements for the supply and distribu- tion of agricultural inputs. Currently most agricultural inputs can be imported only by large parastatal companies which then sell these inputs either through their own retail outlets or wholesale them to other retail organizations such as the Government-owned Regional Trading Companies or the newly introduced cooperatives. By March 1987 the Government intends to give formal permission to a range of other bodies, including cooperatives and farmers' organizations, to import and distribute all agricultural Inputs other than fertilizers and seeds. To ensure the new policy Is effectively implemented, these institutions will be allowed equal access to foreign exchange from the Bank of Tanzania. By the middle of 1987 the Government also plans to have completed a special study of fertilizer and seed marketing aimed at finding the best ways to improve their availability. Industry 34. The Government's objectives in the industrial sector are to improve capacity utilization while at the same time ensuring that resources are directed towards the more productive and efficient firms in the sector. In this regard external sector policies and fiscal and monetary policies will be of critical importance. In the short term, the new screening process for foreign exchange and commodity aid applications (see para. 21) should result in considerable improvement in the effectiveness with which foreign exchange is used by the industrial sector. In the medium term the progressive elimination of the overvaluation of the currency and removal of quantitative restrictions on international trade should gradually curb the demand for imports from the less productive firms in the sector, while at the same time subjecting their output to greater competition. The efficiency of the sector will also be improved through more appropriate flscal and monetary policies. The Government has already moved to eliminate subsidies and transfers to parastatals and to constrain the rate of credit growth. The introduction over a period of an interest rate structure that is positive in real terms will also promote a financial environment conducive to greater industrial efficiency. The combined effect of these measures will be to free resources for the more efficient firms, and enable them to expand output. Because capacity utilization for the sector generally is so low, the response of output to improved resource allocation will be quite strong. 35. As the macroeconomic environment in which state owned and private industrial enterprises operate improves, specific interventions may be needed to assist in the restructuring of particular parastatals. Reforms in the management and operation of parastatals may also be necessary to  - 12 - ensure that they are responsive to price and other macroeconomic levers. The proposed review of parastatals (see para. 25) will therefore pay particular attention to state-owned enterprises in the industrial sector and will focus on the overall policy framework for parastatals, on issues of internal management and on the restructuring and rehabilitation requirements of specific industries or groups of parastatals. The proposed review of the public expenditure program (see para. 23) will also cover the rehabilitation and restructuring requirements of the industrial sector. Transport 36. Roads. The main emphasis under the Government's Recovery Program in regard to roads is the rehabilitation of the country's network of high- ways, secondary roads, feeder roads and access roads. It is recognized that a full restoration of the new system will take many years. Within the three year time frame of the ERP the focus will be on identifying those parts of the network whose immediate rehabilitation is essential to recovery, and ensuring that they are given priority in the Public Investment Program. Closely linked with rehabilitation is improving the capacity of central and local government authorities to maintain the road network, both in regard to stretches that are still in reasonable condition and those that have recently been rehabilitated. Improving maintenance capacity is partly a matter of strengthening the organizational structure of the Department and other bodies involved in road maintenance and partly increasing the resources available to them. The Government intends, therefore, to increase the share of available resources, both domestic and foreign, allocated to road maintenance. 37. The National Transport Corporation (NTC) has prepared proposals for a "National Road Transport Policy which are currently being reviewed by the Government. A comprehensive road transport policy paper based on the NTC proposals is expected to be ready by the end of 1986 and its recom- mendations should make an important contribution to the further improvement of policies in this area. In the meantlime, the Government has taken steps to ensure that where official bodies continue to set tariffs, these tariffs are being adjusted on a regular basis so that the full costs of transport operations are adequately catered for. 38. Railways. The Government recognizes that the poor performance of railways in Tanzania is as much related to operational problems as it is shortage of resources. The Tanzania Railways Corporation (TRC) is in the process of completing a large investment program, but in many cases exter- nally borrowed funds have not been wisely spent, and line improvement schemes have been left incomplete for lack of counterpart funds. In the past there has been heavy investment in locomotives, but insufficient attention has been given to regular maintenance and keeping an adequate inventory of spare parts. Locomotive serviceability is low, mainline trac- tive power is used uneconomically for shunting, and wagon turnaround ls very slow. Furthermore, delays in approving tariff increases, gross over- staffing, the loss of traffic to the roads and a sharp rise in external debt servicing have all caused TRC's finances to deteriorate. 39. To rectify this situation, the Government and TRC have agreed on a two stage program for the rehabilitation of the Tanzanian railway system. In the first stage TRC will be able to recover some of its effec-  - 13 tive capacity through locomotive rehabilitation and provision of steel sleepers and workshop maintenance equipment. A study of railway manage- ment, operations and staffing will also be undertaken. A much more compre- hensive recovery program, extending over three or more years, will then be developed. In the meantime, TRC has begun adjusting rail tariffs, and a substantial increase has just been approved by the Government. Evaluation of the Program 40. The Government's Economic Recovery Program is more comprehensive than earlier attempts at adjustment, and represents a promising start to the process of recovery in Tanzania. It builds on past efforts to contain the budget deficit, reduce transfers to parastatals and to begin the process of changing the structure of agricultural marketing and input supply. Existing adjustment policies are thus intensified and reinforced with a set of measures on the exchange rate, producer incentives and resource allocation that should improve the functioning of the Tanzanian economy. The changes announced in the Budget in June 1986 and the policy directives outlined above are therefore significant measures for the initial year of the Recovery Program. 41. It is essential, however, that the momentum of policy reform be maintained throughout the subsequent years of ERP. The tightness of the resource situation and the binding nature of the many constraints facing the Tanzanian economy dictate not only that the policies announced so far should be implemented vigorously, but also that they should be followed up by further policy and institutional reforms. To the extent that these further measures are dependent on additional analysis and review, it is important that such reviews should be proceeded with as rapidly as possible so that the momentum of policy reform can be maintained. Amongst the most important areas are: (i) Proceeding in a .'.:!ermined way with the exchange rate adjustment and trade liberalization. This is critical to promote a better structure of incentives in the economy and to enable market forces to play a greater role in the allo- cation of foreign exchange. The allocation system now being introduced is an improvement on what preceded it, but it is an interim measure, and the sooner it can be dispensed with in favor of market allocation, the more efficiently will resources be allocated. (ii) Taking further steps to reduce the role of the public sector in the economy by reducing the number on the public payroll, by moving away from direct controls on the economy in favour of greater use of indirect levers operating through the price system, by divesting or closing down some public enterprises, and by making public enterprises conform better to commercial operating principles. The Parastatal Review and the Public Expenditure Review scheduled to be carried out jointly by the Bank and the Government ea.rlv in 1987 should be helpful in the further identificatir. of relevant policies in these areas.  - 14 - (iii) Continuing the liberalization of the marketing structure for agricultural outputs and inputs. This will need to include introdtucing a greater degree of competition in the collec- tion, processing and marketing of export crops (as a means of ensuring that farmers receive the highest possible share of export proceeds', and removing remaining restrictions on the supply and distribution of agricultural inputs. The Government is concerned to move cautiously, to enable newly formed cooperatives to get properly established. But as soon as possible, further market liberalization should occur. The studies on agricultural marketing and input supply should help to resolve some of the remaining issues of timing and degree of liberalization. (iv) Redirecting resources within the industrial sector to economically efficient firms with positive value added, and augmenting this by interventions in key parastatal enter- prises either to improve their operations or scale them down, so that the desired restructuring of the industrial sector takes place. The industrial sector presently con- sumes an excessive amount of resources in relation to its value added, and this situation needs to change if the sec- tor is to cease being a burden on the rest of the economy. As a recent industrial sector study has shown there are many efficient producers in the industrial sector who could expand output strongly if resources were directed towards them. (v) Ensuring that the public sector capital expenditure program is geared towards the rehabilitation of the key sectors, and to priority requirements within those sectors. The Public Expenditure Review should help the Government identify priority areas for recurrent and capital expenditures, and lead to the development of a medium-term framework for public expenditures. It is important that the new Five-Year Plan, which the Government has now begun to prepare, should be founded upon a sound medium-term financial framework and that carefully prepared sector rehabilitation programs should take precedence over new projects. External Finance Requirements 42. Although Tanzania has traditionally received a high level of external grants and concessional loans, aid receipts have been declining in real terms since the early 1980s. This has occurred largely for three reasons: firstly, operational difficulties with projects and programs within the country; secondJy, the growing view of aid agencies that until essential macroeconomic reforms were implemented, additional aid resources would not be effective; thirdly, budget constraints on the aid programs of the major bilateral donors. Furthermore, difficulties with debt servicing and the building up of a large volume of arrears caused commercial sources of short- and medium-term finance to dry up. 43. With the ERP and the reaching of an agreement with IMF on a Standby Program, prospects for increasing aid flows are now much better. In June 1986 the Bank chaired a Consultative Group (CG) meeting, the first  - 15 - to be held for Tanzania for nine years. Both the policies of the Government under the ERP and the agreement with the Fund were welcomed, and significant additional aid resources, totalling approximately US$100 to US$130 million, were pledged for the first year of the Recovery Program. These resources, together with the proposed Credit, the Fund's Standby and a prospective Structural Adjustment Facility credit (amounting to total IMF resources of US$75 million in 1986/87), and the relief expected from the debt rescheduling process that began with the Paris Club in September 1986, should be sufficient for the first year of the ERP to be financed, assuming exports reach their targetted levels. 44. Thereafter, the financing of the recovery process will depend partly on the speed with which the economy responds to the improved resource situation and policy environment, and partly on the extent to which further aid commitments on an exceptional basis can be secured, which in turn will be related to policy performance. The Bank intends to hold further Consultative Group meetings on a regular basis, and the expectation is that, provided the momentum of policy reform is maintained, additional resources can be obtained to support the recovery process. As export levels strengthen over the medium term, the need for exceptional aid should diminish. If the additional aid forthcoming is insufficient, the level of imports expected by the Government will have to be adjusted downwards. Unless this is accompanied by further improvements in resource use efficiency, the speed at which recovery takes place will suffer. Over the next few years further debt rescheduling on an annual basis will be necessary. Recovery Prospects 45. Assuming the ERP policies described in this Report are implemented and the required additional external finance is forthcoming, Tanzania has good prospects of reversing the deterioration in its economy and achieving a durable recovery of output. The immediate target under the ERP is the re-attainment in many sectors of earlier output levels. But because the capital stock of the economy has been eroding for at least a decade, it will take years of rehabilitation to restore such infrastructure as the country's transportation network and its schools, hospitals and health centres to their former condition. However, the returns to rehabilitation programs, provided they are well-focussed, are likely to be quite high. The application of relatively modest amounts of addltional resources at bottlenecks and other critical points in the economy should result in a strong rebound of activity. 46. Gross Domestic Product over the next five years is projected to grow at around 4 percent per annum (see Annex 1). The largest sector, agriculture, is expected to grow at an average race of 4.2 percent, with production for export rising sharply in response to gieater incentives and improved input supply, and more modest growth, broadly in line with the population increase, for domestic crops. The fastest growing sector is expected to be industry, where resource allocation in the past has been biased towards the least efficient enterprises. Gross output of the sector is not anticipated to grow much at first, but value added should rise by over 8 percent per annum as resources are allocated to the more efficient firms, and the overall productivity of the sector rises through  - 16 - restructuring. However, industry's contribution to overall growth will remain modest because of the small size of the sector. The services sector is expected to grow at 3.3 percent per annum, faster growth in transport and commerce being offset by continued pay restraint and staff reductions in the public service. 47. With regard to the composition of GDP, consumption is expected to rise at 3 percent per annum and investment at around 1 percent per annum. The efficiency of investment improves through the recovery period, with the aggregate incremental capital output ratio (ICOR) falling from an average of 10 for the period immediately preceding the ERP to an average of 3.4 for the period to 1991. The high ICOR levels in the past owe much to large investments in the industrial sector which raised capacity without a commensurate increase in output, due to input shortage, technological problems and other difficulties. These projects no longer feature 8s prominently in the PIP, and with the focus of investment shifting to rehabilitation in an improved macro-economic policy setting, returns on investment are expected to rise sharply, and thus ICORs to fall. Domnestic savings should strengthen as a result of the reduction in the btudget deficit and the recovery of exports and, over the longer term, through the restoration of a positive interest rate structure. 48. Progress towards restoring a viable balance of payments will be slow. In this regard, the large volume of external debt is a major constraint. Rescheduling will provide relief in the early years of the recovery, but the magnitude of the external debt (which more than exceeds GDP even at the present overvalued exchange rate and is over ten times current recorded export levels) will continue to overhang Tanzania's recovery for many years to come. Another factor is the low level of exports relative to imports. Recorded exports are currently one third of imports, themselves much reduced in volume from former levels. Because the divergence is so large, the rate of growth of exports needs initially to be three times the desired rate of import growth if the trade balance is not to widen. Yet, because the main export commodities require imported inputs such as fertilizers and pesticides, export growth needs to be accompanied by a combination of higher import capacity and changes in the composition of imports and the efficiency with which they are used. 49. The projection of the balance of payments (see Annex 1) assumes both higher imports and greater resource use efficiency. Import capacity is projected to grow at 4.5 percent per annum in current terms, implying a growth of imports of about 1 percent in volume terms. This modest growth of imports taken together with the projected growth of GDP implies a very low import elasticity, 0.2. This reflects the expectation that growth over the medium term will come not from a large increase in imports, but from improvements in resource use efficiency and in the composition of imports, as distortions in the incentive structure are progressively reduced. Exports are expected to grow at 17 percent in current terms and 14 percent in volume terms. Because imports start from a higher base than exports and private transfers decline (in the face of a projected slackening of own funds imports), initially the current account widens, from an estimated US$598 million in 1986 to US$660 million in 1988, but thereafter declines to US$605 million in 1991, equivalent to 16 percent of GDP (measured on the basis of a corrected exchange rate) compared with 20 percent in L987. The  - 17 - export projections relate to officially recorded exports. A substantial volume of exports, associated with the financing of own funded imports, goes unrecorded. As the exchange rate becomes more realistic, a shift of trade flows back to more normal channels should occur, and this is reflected in the projections. As indicated in the preceding section, a high level of capital inflows, mainly in grant form, will be required to finance the current account deficit, to offset amortization payments on existing debt, and to provide for the reduction in arrears and a modest build-up of reserves envisaged under the Government's standby program with the IMF. To enable imports to grow at their projected rates, additional grant aid of $50 million in 1987 and $100 million in 1988 will be required over present levels, together with further increases in lending on concessional terms. 50. As indicated in the preceding section, should the rate of policy reform slacken or the flow of external resources fall short of that anticipated in the projections, the recovery of the Tanzantan economy will be more gradual and at greater risk of stalling. The most critical aspect of the recovery process over the longer term is the restoration of exports. Unless this occurs in a timely manner, the relief to the balance of payments through the rescheduling of Tanzania's external debt will prove temporary. The pace of policy reforn is therefore crucial, both to secure the additional resources required for recovery and to improve the performance of the economy. Social Aspects of Adjustment 51. The only durable way of addressing the problems of declining living standards and increasing poverty is by reversing the deterioration in the country's economic fundamentals, which is the overall objective of the ERP. In the short term the measures introduced under the ERP and the additional external resources that will be forthcoming should in most respects be beneficial in social terms. The continued devaluation of the shilling will have an impact on the price level, but this will be mitigated by the fact that for many goods, particularly imported consumer items, the parallel exchange rate rather than the official rate prevails in the market place. Some prices, including fuel prices, will rise, thus leading to increases in transport tariffs. On the other hand, two positive factors should offset upward pressures on prices: reduced marginal costs in industry as capacity utilization increases; and increased imports availability, initially from higher aid flows and subsequently from stronger export performance. Pr!'ces for many items are already very high, and should come down as supply and distribution improve. 52. Higher producer prices for the main export crops should substan- tially raise farm incomes, and thus improve rural purchasing power. In the urban areas, following the partial liberalization two years ago of domestic marketing and good rains, food grain prices have either been steady or falling, and they have remained stable while the shilling has been devalued. Improved price incentives for export crops will encourage farmers to increase production of these crops, and in some areas this may lead to a fall in production for the domestic market. However, any transi- tion is unlikely to be abrupt, and the greater availability and imu'roved distribution of agricultural inputs and an easing of transport bottlenecks  - 18 - (which presently cause wastage and inhibit all forms of productive activity) are expected to offset any negative effects stronger export incentives may have on domestic food production. Factors largely beyond the control of policy makers affecting supply such as climate and pests will be the more critical determinants of food availability and prices during the recovery period. 53. With regard to the provision of government services, in the early years of recovery the fiscal situation will continue to be tight. Over time, however, the strengthening of revenues should increase the Government's ability to adequately equip and supply schools, clinics and other communal facilities. PART III - THE PROPOSED MULTISECTOR REHABILITATION CREDIT Background 54. Over the past year, there has been a intensive policy dialogue between the Tanzania Government, the IMF and the Bank. In June 1986, the Government presented its recovery program to the Consultative Group meeting and received strong donor support. The program has subsequently formed the basis for an IMF Standby Program as well as the proposed Multisector Rehabilitation Credit (MRC). The proposed operation was appraised in the field in July/August, 19B6. Negotiations were held in Washington October 14-20, 1986. The Tanzanian delegation was led by Mr. G. Rutihinda, Principal Secretary, Ministry of Finance. Annex III contains a timetable of key events. Credit Objectives and Description 55. The major objectives of the proposed Multisector Rehabilitation Credit are to: (i) support the process of policy reforms needed to reverse the prolonged deterioration of the Tanzania economy; (Hi) provide foreign exchange to finance essential current imports needed for the rehabilitation of the economy; and (iii) assist the Government to develop an agenda for future policy changes. 56. The proposed credit is designed to support the Government's Economic Recovery Program. The credit would support policy and institu- tional reforms in several areas where the Government has already initiated changes or where the Government and the Bank have identified the need to change existing policies. The areas addressed as detailed in t?ie previous section, include: (1) exchange rate, trade regime and foreign exchange allocation; (ii) public expenditures; (iii) parastatals; (iv) agricultural marketing and producer prices; (v) industrial sector restructuring; and (vi) transport sector efficiency. At the same time, the credit would provide part of the foreign exchange resources needed to increase capacity utilization and bring forth a supply response.  - 19 - 57. In the context of the appraisal of the proposed credit the Bank Group and the Government reached agreemenL on the above objecLives and the measures necessary to achieve them. These understandings are refLected in the Government's Letter of Development Policy presented in Annex V of Lhis report. The main features of the policy reforms supported by the crediL are summarized in the form of a matrix in Annex IV. Cooperation with the IMF 58. The staff of the Bank have maintained close contact with the Fund staff working on Tanzania. They have shared information and views on matters related to the CC, the IMF Standby arrangements (the IMF Board approved an 18 month Standby arrangement on August 25, 1986 providing for a total of SDR 64.2 million) and the MRC, and have informed each oLher of the developments in these areas. The staff of the Bank and the Fund have also worked closely on issues such as the scope and timing of the economic recovery process, Lhe levels of projected external resource requirements and imports needed to support the Government's economic recovery program. In the coming months the Fund, the Bank and the Government will be working together on the preparation of a joint medium-Lerm scenario and policy framework paper which is expected to form the basis for an IMF Structural Adjustment Facility arrangement. Co-financing Arrangements 59. A total of US$130 million would be provided to support the Government's recovery program including an IDA credit equivalent to US$50.0 million and US$80.0 million from the Special Facility for Africa, of which UIS$46.2 million would be in the form of an African Facility Credit, and about US$33.8 million would be from Special Joint Financing. 60. Special Joint Financing is expected to be provided by the Federal Republic of Germany through the Kreditanstalt fur Wiederaufbank (KfW). Germany plans to provide DM 35 million (about US$17.3 million) subjecL to its Parliamentary approval of its budget for 1987 and conclusion of a bilateral agreement with the United Republic of Tanzania, to finance a flexible list of truck spare parts and components, tyres, and raw materials for manufacturing tyres, batteries and oil. The National Transport Corporation is expected to identify overseas suppliers and select domestic dealers, who will obtain import licenses, pay local cover and retail the spare parts and components. It is expected that the Government of Tanzania and KfW will conclude a separate Grant Agreement early in 1987. The Overseas Development Administration (ODA) on behalf of the United Kingdom (UK) will provide a grant of 5 million pounds (about US$7.3 million) and the Swiss Development Corporation (SDC) on behalf of Switzerland will contribute SwF 15 million (about US$9.2 million equivalent) on standard SJF terms. Both the UK and Switzerland expect to conclude their respective Grant Agreements with the Government of Tanzania regarding the SJF by the end of December 1986. In both those latter cases the funds will be administered by IDA.  - 20 - Procurement Arrangements 61. IDA. Procurement would be limited to goods (except luxury items, explosives and armaments) from Bank member countries, Switzerland and Taiwan. Both private and public sector imports would be eligible for financing. Contracts for the procurement of goods by the private sector of less than US$2 million equivalent would follow normal commercial practice. Government contracts equivalent to less than US$2 million would follow Tanzania government procurement practlce which is acceptable to IDA. All purchases under contracts of more than US$2 million would be procured through international competitive bidding. Certain commonly traded commodities may be purchased at prices quoted on organized International markets. Altogether up to US$25 million would be available for the purchase of petroleum. Expenditures for goods covered by invoices for less than US$5,000 equivalent would not be eligible for financing. 62. African Facility Credit and Special Joint Financing. The proceeds of the African Facility Credit would cover only those eligible expenditures for goods produced in or services supplied from the eligible countries under the African Facility. Disbursement Arrangements 63. The total of US$130 million from IDA, African Facility and Special Joint Financing, would be disbursed in three tranches. The first tranche would amount to US$50 million equivalent, of which US$20 million would be available for retroactive financing from appraisal (July 23, 1986). The first tranche would consist of US$15.5 million from IDA and US$26.2 from the African Facility and US$8.3 million from Special Joint Financing. The second tranche would be available for disbursement following a review of performance in February 1987 and subject to the conditions outlined in para. 68. The third tranche would be released upon fulfilment of the conditions specified also in para. 68. 64. The Bank of Tanzania (BOT) would open two Special Accounts (Revolving Funds), one for the IDA Credit and one for the African Facility. The initial deposit would be US$10 million from IDA, and US$10 million from the African Facility, representing about 20 percent of the total amounts to be disbursed from these sources. No reimbursement would be made for imports financed from other sources. It is estimated that eligible imports in 1986/87 will total about USS700 million equivalent. The proposed credits would finance about 15 percent of this amount, thus permitting rapid disbursement. Disbursements should be completed by June 30, 1988. Implementation 65. The primary responsibility for the implementation of the ERP and the proposed measures under the credit rests with the Ministry of Finance, Economic Affairs and Planning. The merging of finance and planning func- tions in 1985 under one minister has helped to focus responsibility. Already the progress of the recovery program is being regularly reviewed and reports are being submitted to the Cabinet on the impact of policy changes and problems being encountered. Rehabilitation programs, particu-  - 21 - larly in the vital transport sector, are muclh more sharply defined than under the SAP and the progress in executing these programs is also being reviewed regularly at cabinet level. Links between the Ministry of Finance and those ministries responsible for the sector policies such as agricul- ture, industry and transport will be strengthened and maintained. 66. In the past, use of foreign aid has not been effectively coordi- nated, leaving each donor to focus on its own areas of preference which did not necessarily coincide with the planned priorities. In addition, manage- ment of foreign exchange in terms of assessment of the quantum, timing of its availability and use has been weak. The Government has decided to take steps to strengthen the External Finance Department of the Ministry of Finance, Economic Affairs and Planning by appointing an additional Deputy Principal Secretary to head the Department. He will be responsible for reviewing ERP policy actions, administering the foreign exchange allocation process, aid coordination and monitoring rehabilitation. In addition, technical assistance has been secured for the Department from bilateral sources. It is also planned to strengthen the operational links between the Ministry of Finance and the Bank of Tanzania. 67. A number of studies will be carried out under the Credit. These are of crucial importance for the further development of policies, and therefore will be proceeded with without delay. The primary responsibility will be with the Ministry responsible for the sector in question, but the coordinating responsibility will lie with the Ministry of Finance. In the case of the agricultural marketing study, the Prime Minister's office will also be involved because of the wider policy implications for cooperatives and marketing boards. The proposed study on aid coordination, planning and budgeting, to be carried out under the umbrella of the Public Expenditure Review, is expected to lead to a further strengthening of the Ministry of Finance in key departments. Monitor)ig 68. It is proposed to carry out a comprehensive review of the implementation of the program in February 1987. Release of the second tranche of the credit will depend upon the outcome of this review, as well as upon the following specific conditions: (i) completion of a review of the export retention scheme, and agreement with the Bank on a plan of action to implement the results of such review; (ii) abolition of the remaining permit requirements for the internal movement of foodgrains; (iii) Government to permit cooperative and private traders to import and retail agricultural implements, chemicals and packaging materials; (iv) adjustment of intra-regional trucking rates to cover the full costs of operations, and raise rail tariffs to a level satisfactory to the Association, with a view to achieving full cost recovery; and (v) the Tanzania Railways Corporation to complete its action plan, covering its operations for the next two years. Release of the third tranche will be conditional upon agreement with the Bank on (i) a meaningful portion of foreign exchange resources to be allocated in 19B7/88 and modalities for its non-administrative allocation; and (ii) an action plan and initial measures to rationalize the external trade regime based on the results of the planned tariff study.  - 22 - Benefits and Risks 69. The principal benefit of the MRC is expected to be the reversal of the deterioration of the Tanzanian economy, through its support of policy and institutional reforms and the provision of foreign exchange to finance essential imports needed to rehabilitate the key sectors of the econaomy. The operation is expected to be of particular benefit to farmers through its support for higher producer prices and through the provision of additional inputs necessary to stimulate a supply response. The operation would also facilitate improvements in resource allocation and utilization through the strengthening of planning and ald coordination within the Ministry of Finance, and through an improved foreign exchange allocation ysysten. 70. The main risk associated with the proposed operation is that some of the proposed policy changes in such areas as the liberalization of trade and marketing structures, parastatal management, and the public investment program could be delayed or even abandoned because of opposition either from within the party or from specific interest groups. However, the Government has shown strong commitment to the goals of the program, and to the reform process. In addition, Bank staff will be closely monitoring progress in execution of the program and will be assisting the Government in carrying out the various studies and reviews that are necessary to prepare for the next stages of policy and institutional reform. PART IV - BANK GROUP OPERATIONS IN TANZANIA 71. Tanzania joined the Bank, the Association, and the International Finance Corporation in 1962. Beginning with an IDA credit for education in 1963, 62 IDA credits and 19 Bank loans, two of these on Third Window terms, amounting to US$1,134.5 million have eo far been approved for Tanzania. In addition, Tanzania has been a beneficiary of 11 loans totalling US$244.8 million which were extended for the development of the common services and development bank operated regionally by Tanzania, Kenya, and Uganda through their association in the former East African Community. IFC investments in Tanzania have included the Kilombero Sugar Company, soap manufacturing, metal product manufacturing and the Amboni sisal rehabilitation project. Annex II contains summary statements of Bank loans, IDA credits and IFC investments to Tanzania as of September 30, 1986. 72. Bank Group lending in Tanzania has been centered on: (1) agri- culture; (ii) transport and communications; (iii) industry; and (iv) educa- tion and manpower development. Since FY81, new Bank Group lending has been focussed primarily on the rehabilitation and use of existing productive facilities and the introduction of infrastructure and services (such as power generation and education facilities) of long term use to the economy. Projects have been designed to minimize new demands on the Government's recurrent, development, and foreign exchange budgets; have been centered on already experienced or financially viable institutions; and have been logistically insulated, as far as possible, from general supply difficulties in the economy. They have included technical assist- ance and training for better maintenance and use of existing capital faci-  - 23 - lities and more effective resource allocation in the economy. Lending during FY82-FY85 along these lines included a Second Petroleum Exploration Project, a Petroleum Sector Technical Assistance Project, Third and Fourth Technical Assistance Projects (focussed on key manpower gaps in the agri- cultural sector), Dar es Salaam Sewerage and Sanitation (Rehabilitation) Project, a Coal Engineering Project, a Hydroelectric Power Project, a Port Rehabilitation Project, a Sixth Highway (Rehabilitation) Project, involving rehabilitation of high priority roads and assistance to the trucking industry, and a Power Rehabilitation Project to restore Tanzania's power system. 73. lu addition to financing specific projects, the Bank Group has provided non-project assistance on three occasions in support of Government efforts to deal with its balance of payments difficulties. The first such credit was made in 1974, the second in 1977, and the most recent, an Export Rehabilitation Program Credit for US$40 million (Credit 1133-TA) in April 1981. The credit is fully disbursed and a Project Completion Report is under preparation. Although the Credit assisted in financing much needed agricultural inputs, the overall economic environment did not substantially change, and hence the desired recovery of agricultural exports did not take place. 74. Project implementation in Tanzania has been adversely affected during the last six years by the disruptions of the Uganda War and the country's extreme foreign exchange difficulties, which have resulted in shortages of fuel and building materials, even when budgetary allocations for such purchases have been adequate. In addition, domestic policies have weakened the capacity of the agricultural sector to fulfill its traditional functions effectively. External financing agencies have been increasing the share of direct and indirect foreign exchange costs covered by Froject budgets; however, It is impossible to cushion projects completely, particu- larly in remote areas, from the ramifications of the economic crisis. Bank Group disbursements grew from US$58 million in FY78 to US$115.9 million in FY82 and then declined to US$69.8 million in FY86. A comparison with other portfolios in the Eastern Africa Region indicates that Tanzanian disburse- ments have been about average for the Region, ranging as a proportion of outstanding commitments from 25.5 percent in FY78 to 26.3 percent in FY86 (compared with 24.5 percent and 27.8 percent in the same years for the Region as a whole). 75. Supervision missions have been concerned with adapting project implementation to difficult factors facing the country or individual sectors, which were not anticipated or have proved worse than expected at appraisal. A major Country Implementation Review was held in Dar es Salaam in October 1982 during which Government officials and Bank Group staff agreed to recommend the restructuring or discontinuation of several projects experiencing persistent implementation problems. Intensive super- vision and, in the case of the Mufindi Pulp and Paper Project (Credit 1650-TA), timely assistance from co-financiers have already had some reme- dial results. Even in the agricultural sector, where constraints on imple- mentation have been most severe, there have been improvements in some projects. Further improvement is expected in the overall capacity for  - 24 - project implementation with the anticipated improvement in the state of the economy and the overriding macroeconomic environment. However, considerable work remains to be done in improving project implementation and disbursements. The next Review is planned for Spring 1987. 76. Given the state of the Tanzania economy, our strategy over the next few years will be to develop a series of quick disbursing policy-based lending operations in support of the major institutional and policy changes that Tanzania nieeds to make to rehabilitate the economy and stimulate growth. We would also support a few high priority specific projects, especially those focussed on the rehabilitation of important infrastructure. The proposed multisector rehabilitation operation is an integral part of this strategy and is expected to lead to further policy- based lending in FY88 and FY89. 77. The agenda for our economic and sector work is designed to support this overall strategy and particularly to assist the Government in the development of institutional and policy reforms. A major review of the industrial sector has just been completed and its findings and recommenda- tions will be discussed with the Government in December. Next year we plan to carry out major reviews of the public expenditure program and the paras- tatal sector, as well as assisting the Government in further analysis of external trade and agricultural marketing reforms. We also plan to initiate work on some of the longer term issues facing the Tanzanian economy in the areas of education and population and health. PART V - LEGAL INSTRUMENTS AND AUTHORITY 78. I am satisfied that the proposed IDA Credit would comply with the Articles of Agreement of the Association. I am also satisfied that the African Facility Credit would comply with provisions of Resolution No. IDA 85-1 of May 21, 1985. I recommend that the Executive Directors approve the proposed Development Credit and the proposed African Facility Credit, and that the Association act as administrator of the proposed Special Joint Financing from Switzerland and the United Kingdom. Barber Conable President Attachments Washington, D. C. October 30, 1986  Pqxoution 20.9 million (198') - 25 - ANM I lNP Per Canita 119S240 (1984) Pr4e 1 of 3 TMNZAA - DI C DIICAS a/ Amount Asumi Ibl CrPwth RAte. (2) (million LB$ at DIdicator curlt Ptnl) Actual __ _ _ 1984 1980 1981 1982 1983 1964 1985 1966 Of 1937 1988 1989 1990 1991 NAML ARNtS G&o.s daimtic product c/ 4,494 0.6 -1.3 0.9 -0.4 2.5 2.5 3.0 3.8 4.0 4.0 4.0 4.0 AgrICLtbme 2,417 2.8 2.3 2.6 1.1 2.6 3.5 4.8 4.5 4.4 4.2 4.0 3.8 Iustry 462 -10.8 -13.8 -7.2 -8.5 -11.5 -15.0 2.0 8.0 10.0 8.0 80 8.0 Services 1,615 3.3 -0.4 3.0 -0.7 4.3 3.5 1.4 2.7 3.0 3.4 3.6 3.8 Ccxuwtiin 4,678 6.8 -6.0 0.7 1.6 6.1 7.2 9.6 3.7 3.4 2.3 3.3 L4 Gross ieBnt 718 -13.6 4.3 0.8 -17.2 4.8 -9.0 -2.2 4.1 -2.9 4.0 4.0 4.0 lBports of QIFS 473 0.6 18.7 -18.5 -14.1 -9.0 -1.9 4.3 12.3 12.1 11.7 3.5 9.4 raports of OsM 922 -0.4 -7.9 -3.9 -21.8 5.9 15.2 20.0 2.6 0.9 0.8 0.1 -0.1 Croes damcetic EENings 267 -29.0 34.3 9.9 -14.8 -9.6 -18.4 -40.0 -12.7 19.1 39.7 22.4 19.9 GDP deflator (1978 - 100) 130.9 154.7 185.4 183.2 180.0 191.7 249.2 299.0 343.6 395.0 434.8 483.6 RarhRage rate (T.Sh. per 11$) 8.2 8.3 9.3 11.1 15.3 17.5 35.0 Sha of CUP at ir icet prioe Mnge Aral 1r=ase (2) (at current pices) (at c4sat ff)M) 1980 1983 1984 1985 1986 1991 1980D-5 1986-91/ Groae Domestic Prduct t / 100.0 100.0 100.0 100.0 100.0 100.0 0.9 4.0 Agriculture 41.6 43.7 43.2 43.7 44.5 45.0 2.4 4.2 Industry 14.8 6.0 5.1 4.2 4.2 5.1 -11.3 8.5 Services 33.2 44.9 45.1 45.7 45.7 43.6 2.2 3.3 consmqumion 90.5 82.2 84.0 87.4 93.8 87.6 1.8 3.0 Caross tzwe.nment 22.4 19.3 17.3 17.3 16.4 15.6 -6.3 1.0 Exports of GNFS 12.7 13.6 11.9 11.9 9.9 14.1 -5.6 10.9 laports of GNFS 25.7 15.1 15.4 16.7 20.1 17.3 -4.8 0.8 Cross dcme.tic savings 9.4 17.0 15.2 12.1 2.2 8.2 -1.5 20.0 As 2 MrF 1980J81 1982/82 1985/86 PUBLIC FDWNu1 QCrrnt revenue 18.4 18.7 18.0 Cuarrut espenditure 20.0 22.2 20.7 'xirplu (+) or defirt (-) -1.6 -3.5 -2.7 Capital expenditures 10.2 6.9 5.9 Foreign Finandzg 5.1 4.0 2.2 1975-2 1982-65 1986-91 QiP gwth rate (Z) 2.8 2.1 4.0 IIP per capita growth rate (Z) -0.5 -1.2 0.7 1(111 8.4 10.3 3.4 Mnrinal saviis rawe 0.4 -0.2 0.1 Impirt eLasticty -o.8 -0.7 0.2 M 2inlad only. OP per capita is at offiial exdwge rate. c/ At .nrt prioe; cqmpas are eqzesed at factor cost. (CWI8 (Am1 (Ecandi)1,21  Papaatim : 20.9 LIUJc (1984) - 26 - SM I GM Per Capita: IIS$ (1964) Flew 2 of 3 TWMIA - DEi L MM 8/ Jsualt Rel Growth Rate [(() at atat ries l (uMIo Us$ at Iicator OA-MM prim) Actalw PulectsI 1984 190 1981 1982 1983 1984 1985 1986b/ 1987 1988 1989 if) 1991 EXTERN1 BIRAIZ Nteadise eaot 366.7 -1.8 15.7 -12.7 -14.1 -10.7 -0.9 5.3 12.8 14.2 13.3 2.0 11.9 Major primary poducts 265.8 -6.5 33.5 -16.3 -18.7 -14.6 4.2 7.8 11.8 15.6 6.2 6.2 13.2 Others 100.9 9.9 -36.7 9.8 7.6 3.3 3.9 1.0 7.1 10.7 31.7 -6.8 8.7 lbrdudise imts 839.3 -2.3 -6.3 1.5 -21.8 1.0 12.9 2D.4 2.5 0.3 0.7 -0.7 -0.3 Fbodgrtons 72.7 286.3 -7.9 31.9 -28.0 -8.3 0.1 -36.0 1.3 -0.3 0L0 0.0 0.0 Pctrosim 227.4 27.1 -15.9 -2.8 3.5 1.0 4.9 55.2 6.6 3.9 4.3 4.5 3.8 Mchlimery 1 equdpsut 251.j -25.5 10.4 -12.5 -35.3 -0.9 10.1 14.7 1.6 -0.7 -0.5 -0.5 -2.9 Others 287.9 -7.7 -17.2 12.6 -19.5 6.9 26.6 23.6 1.6 -0.4 0.0 -1.8 -0L6 PRICZS qxort price misc 93.6 100.0 96.3 80.9 86.3 93.6 82.7 101.6 95.3 103.1 111.1 122.0 124.9 Import price IrnIe 91.2 100.0 100.9 95.7 92.4 91.2 89.7 84.0 86.9 90.4 94.0 97.6 101.4 Tamns of trade irdex 102.6 100.0 95.5 84.51 93.4 102.6 92.2 121.0 109.7 114.0 118.2 125.0 123.2 OCmeAtitn of Mrdarchl1se Trade (I) Average Ap nal Increase (Z) (at ret pr ) (at t 1975 1980 1985 1991 D/ 1976-80 1980-85 1986-91 b/ EFxpots 100.0 100.0 100.0 100.0 -1.8 -7.1 11.8 major primairy produts 66.3 55.6 61.7 71.4 -5.8 -4.2 10.1 Othens 33.7 44.4 38.3 28.6 6.7 -2.3 16.7 Tspirts 100.0 100.0 100.0 100.0 -1.8 -4.8 0.5 Foodgrains 17.7 11.7 8. 4.2 -6.2 -5.1 0.1 entroleum 8.0 Z2.9 14.0 21.9 0.8 -1.3 4.5 Mwlchderry & eqdipment 31.1 34.5 30.9 27.7 2.2 -11.0 -0.6 Others 43.2 30.9 47.0 46.3 -5.8 -0.7 -0.4 Swre of Trade with Sure of Tbide with Share of Trde mith Inhustrial Catacries (Z) Developizng CMuries (2) Capital Suzplus Oil 1xqpots (2) 1975 1980 1984 1975 1980 1984 1975 1980 1984 DrIR OF oM Exports 47.4 57.6 60.7 48.9 35.8 32.2 3.6 8.7 6.3 Imports 58.0 67.3 63.2 34.8 26.5 32.1 6.2 10.7 2.4 8/ Data' are for all Tanzania (Nhstaad and ZanzibEr). IC Esit e a C1M8(Akw(EteTe,3)j  - 27- padI of -. ~~~~~~~~~~Page 3 of 3 frtpam I,L' st ilt (19M4) NP br ohpta I ISM (198) TAUMA - !Mu (F MWU, OL CAPUL AM MT ( l at rnt ri bndiictwr Actual 1081) 1Q81 I182 11311 11A 191814 A IW I fPqnrt of hub .rd auntsm 6f4 759 17U3 487 474 R 66 AM) I) 6A1 766 852 95 of ditch: Ibrd%dwL f.o.h. 5i5 561 411 379 167 256 15*3 A1M AM hA3 hi'S 774 Smm of sola ad merAs 1,380 1,286 1,173 9D4 934 I1'm 1306 137. 1463 151b Ifin Ihh4 of ddeh: Phrdwadlm c.t.f. 1,22n l,11. Ito n5 Hla R3 904 1l01l 1149 1191 125h 13u 1351 1t tanr b Iq 22 24 14 59 215 250 201 1f) 120 101I 111 (unet amt Imnt -fle -Y8 -618 40 -42 -598 -516 4h - -652 -69252 -" Mfictal gnat racrtotpt Ingf 11 9b 9t) 1m 2K) 3rl 4m 4*S 460 471) 4DM N&1 LT law (not 227 259 291 192 124 Ili -AA 1in 7S ' 148 187 OrfiCdAl lin 167 231 189 III -11 fib hR nO in 19I Private 97 92 s9 1 11 - -"i -4 -n -21 -12 -7 Other sptj C/ 337 In? 2n2 122 II 21n3 29 Na 21n 171 14 2 a.w in s C-i- tnemel 1 32 31 n i In -5 -in -1I -40 -4 -40 Tnrsraiml w 98 07 4 44 64 39 29 34 64 99 119 179 219 1fraev m mmeh lmnrts 1.0 1.1 0.5 0.6 0.6 (1.4 0.4 0.7 1n 1.1 1.6 1.9 Lku.dLanLiwmA