China - Rural Health and Preventive Medicine Project

Document of The World Bank FOR OFFICIAL USE ONLY Report No. P-4331-CHA REPORT AND RECOMMENDATION OF THE PRESIDENT OF THE INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT AND THE INTERNATIONAL DEVELOPMENT ASSOCIATION TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN IN AN AMOUNT EQUIVALENT TO $15.0 MILLION AND A PROPOSED CREDIT OF SDR 57.2 MILLION TO THE PEOPLE'S REPUBLIC OF CHINA FOR THE RURAL HEALTH AND PREVENTIVE MEDICINE PROJECT May 27, 1986 This document has a restricted distribution and may be used by recipients only in the performance of their official duties. its contents may not otherwise be disclosed without World Bank authorization.  CURRENCY EQUIVALENTS Currency unit - Yuan (Y) Calendar 1985 April 1986 $1.00 = Y 2.96 3.20 Y 1= $0.34 0.31 FISCAL YEAR January 1 - December 31 ABBREVIATIONS AND ACRONYMS CNTIC - China National Technical Import Corporation DPT - Diphtheria-Pertussis-Tetanus Associated Vaccine EPS - Epidemic Prevention Stations IBRD - International Bank for Reconstruction and Development ICB - International Competitive Bidding IDA - International Development Association (World Bank Group) MCH - Maternal and Child Health MOPH - Ministry of Public Health NCPM - National Center for Preventive Medicine OPV - Oral Poliomyelitis Vaccine (Live) RHME - Rural Health and Medical Education (Project) UNICEF - United Nations Children's Fund WBLO - World Bank Loan Office WHO - World Health Organization  FOR OMCIAL USE ONLY CHINA RURAL HEALTH AND PREVENTIVE MEDICINE PROJECT Loan/Credit and Project Summary Borrower: People's Republic of China Amount: Bank Loan: $15.0 million equivalent IDA Credit: SDR 57.2 million ($65.0 million equivalent) Terms: Bank Loan: 20 years including 5 years grace at standard variable interest rate. IDA Credit: Standard Project Description: The proposed project will: (a) strengthen the Ministry of Public Health's (MOPH) continued efforts to improve rural health care; (b) improve efficiency, coverage and quality of the national immunization program for children; (c) ini- tiate improved drug quality control; and (d) deveLop new preventive strategies for communicable and chronic diseases, and health care financing systems in rural areas. The proposed project consists of four main components: (a) Rural Health - expansion and qualitative improvement (through construction, equipment, technical assistance, personnel recruitment and training) of preventive and curative health 1ervices in the poorer rural counties of five provinces - (Gansu, Hubei, Jilin, Sichuan and Ningxia Hui) and strengthening of the disease monitoring and control activities and imnunization delivery and management of the epidemic prevention stations in these and three additional provinces (Heilongjiang, Jiangxi and Shandong); (b) Vaccine Production -- improvement in the coverage and cost effectiveness of the national immunization program against the main childhood diseases through construction and rehabilitation of three national vaccine production centers for the production of essential vaccines meeting international quality standards; (c) Drug Quality Control - improvement in quality control of drugs used in China through construction, equipment, training, fellowships and technical assistance; and (d) Operational Research - undertaking research: (i) to strengthen the capacity of the National Center for Preventive Medicine (NCPM) for disease 1/ Unless otherwise stated, "provinces" denotes province-level administra- tive units including municipalities and autonomous regions. This document has a restricted distribution and may be used by recipients only in the performance of their official dutie. Its contents may not otherwise be discosed without World Bank authorization.  - ii - surveillance and disease prevention strategies; and (ii) to test new approaches to rural health insurance. Experience with the Rural Health and Medical Education project, and with preparation of the proposed project, indicates that MOPH has the management capacity and commitment needed for successful implementation of the rural health component and, with the assistance of experi- enced international vaccine firms, the vaccine production component. Consequently no major implementation risks are anticipated. Implementation of the operational research component, however, does carry inherent risk in that it may take time for NCPM, a newly created amalgamation of previously independent research institutes, to shift from laboratory to policy-focused research. To minimize this risk NCPM's program will be monitored closely by MOPE and the Bank Group. In the drug quality control component, there is a risk that the expected impact may be compromised by difficulties in coordinating the activities of HOPH and the State Pharmaceutical Administration. To minimize the risk that investments in quality control would not be effectively utilized because industrial capabilities could not keep pace with rapidly improving quality measurement standards, the project would finance only the first phase of MOPH's program to raise drug quality testing capacity. Estimated Costs: Local Foreign Total $ million) -- A. Strengthening of Rural Health 53.3 22.3 75.6 B. Vaccine Production 11.2 29.4 40.6 C. Drug Quality Control 7.6 4.2 11.8 D. Operational Research (a) Preventive Medicine 6.1 1.9 8.0 (b) Rural Health Insurance 0.2 0.5 0.7 Subtotal for Operational Research 6.3 2.4 8.7 Total Base Costs 78.4 58.3 136.7 Physical Contingencies 8.5 10.0 18.5 Price Contingencies 11.8 10.4 22.2 Total Project Costs /a 98.7 78.7 177.4 /a Project-financed goods are exempt from import duties and taxes.  - iii - Financing Plan: Local Foreign Total ($ million) IBRD 0.0 15.0 15.0 IDA 1.3 63.7 65.0 Goverr.ment 97.4 0.0 97.4 Total 98.7 78.7 177.4 Estimated Disbursements: Bank Group 1987 1988 1989 1990 1991 1992 Annual 8.9 15.2 21.5 18.4 12.0 4.0 Cumulative 8.9 24.1 45.6 64.0 76.0 80.0 Rate of Return: n.a. Staff Appraisal Report: No. 5876-CHA, dated Hay 27, 1986. Map: IBRD No. 19288 R  REPORT AND RECOMMENDATION OF THE PRESIDENT OF THE INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT AND OF THE INTERNATIONAL DEVELOPMENT ASSOCIATION TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN AND CREDIT TO THE PEOPLE'S REPUBLIC OF CHINA FOR A RURAL HEALTH AND PREVENTIVE MEDICINE PROJECT 1. I submit the following report and recommendation on a proposed loan and credit to the People's Republic of China to help finance a Rural Health and Preventive Medicine Project. The loan, for $15.0 million, would have a term of 20 years, including 5 years of grace, at the standard variable interest rate. The credit for SDR 57.2 million ($65.0 million equivalent) would be on standard IDA terms. PART I - THE ECONOMY 2. A country economic report entitled, "China: Long-Term Issues and Options" (No. 5206-CHA) was distributed to the Executive Directors on Nay 22, 1985. Basic data on the economy are given in Annex I. Background 3. Since 1978, China has initiated economic reforms in both rural and urban areas and in the external sector. Reforms have been greatest in rural areas. Following some experiments with the abolition of collective farming in impoverished areas, the Government implemented a comprehensive restructuring of rural institutions based on various forms of the "production responsibility system". By 1983 the farm household had become the fundamental unit of management and production in agriculture, within a framework of collective or state ownership of land and major fixed assets. Reforms have not yet proceed- ed as far in the urban economy, but there have been significant changes in enterprise management and finance. The scope for collective and individual economic activities has been enlarged and state enterprises have been allowed greater freedom in production, pricing and marketing above their mandatory plan targets. State enterprises have also been allowed to retain some profits and investment projects have increasingly been financed on a loan rather than a grant basis. 4. In international trade and investment, China has promoted opening up to the rest of the world in recent years. Between 1978 and 1984, the share of exports to GDP nearly doubled to about 10%, a ratio similar to other large economies such as the U.S. and Brazil. Foreign investment has been encour- aged, first through establishment of four Special Economic Zones and signing of joint venture contracts for off-shore oil exploration, and more recently through opening of several coastal cities to foreign investment.  -2- Growth and Stabilization 5. Reforms have helped stimulate rapid development of the whole economy. Real GDP growth averaged 5% p.a. between 1978 and 1981 and 10% p.a. between 1981 and 1984. During these six years, per capita incomes in real terms more than donbled in rural areas and increased by more than 50% in urban areas. Agriculture has continued its remarkably strong performance, with gross agricultural output value (excluding rural industry and commerce) rising at nearly 1 p.a. between 1981 and 1984 and grain output at 8% p.a. (reaching over 400 million tons in 1984). Cash crops and animal husbandry, stimulated by rising demand and attractive prices, have also grown rapidly. Gross indus- trial output value grew at over 10% p.a. over the same period, with heavy industry growing somewhat faster than light industry (12% p.a. vs. 9% p.a.). If rural industrial output is included, total industrial output value grew at close to 12% p.a. in real terms between 1981 and 1984. The energy constraint on industrial growth was eased by rising coal output (8% p.a. between 1981 and 1984), renewed increases in crude oil production (4% p.a. between 1981 and 1984) and improvements in the efficiency of energy utilization (primary commercial energy consumption grew only 60% as fast as GDP between 1981 and 1984). Manufactured exports growth at 8% p.a. between 1981 and 1984 was slower than during the 1978-81 period but it started from a much higher base and in the face of worsening world market conditions. 6. The Government continues to face difficulties in combining system reform and rapid overall growth with maintenance of economic stability. During 1979 and 1980, China experienced large budget and current account deficits combined with excessive investment and inflationary pressures. In response, a strict stabilization program was introduced in 1981 relying mainly on administrative controls on investment spending. The program slowed growth but also helped lower the budget deficit from about 5% of GDP in 1979 to less than 1% in 1981, reduce inflation to around 2% p.a., and change China's exter- nal position to one of current account surpluses averaging nearly $4 billion during 1982-84. As a result, foreign debt and debt service ratios remained at low levels ($6.4 billion and 5.5% respectively in 1983) and China's foreign currency reserves (excluding gold) rose to $17 billion (over 7 months' imports) by mid-1984. 7. This comfortable balance of payments position, achieved at the cost of drastic reductions in investment spending and some recentralization of investment decisionmaking, disappeared rapidly during the course of 1984 and early 1985. Partly as a result of decentralization of decisionmaking and the lack of effective indirect levers, there was a rapid acceleration of invest- ment and consumption during 1984 and the first half of 1985 causing the economy to overheat. Real GDP grew by 14% during 1984, while average wages in state-owned enterprises rose by 20% and domestic credit grew by 36%. The retail price index rose by only 3Z in 1984, but inflation is expected to be higher in 1985. Imports of capital goods increased from $4 billion in 1983 to over $7 billion in 1984, with most of the increase occurring in the second half of the year. There was also a rapid expansion in consumer goods imports. These trends continued during early 1985. As a result, foreign exchange reserves (excluding gold) had fallen to about $10 billion by July 1985 (equi- valent to 3.1 months of exports), and the current account deficit for the year  - 3 - is likely to be in the range of $10 billion. The Government has responded quickly by launching a strict stabilization program that includes further increases in interest rates as well as a series of administrative directives governing bank credit and project approval. As a result, aggregate credit and demand as well as new import orders have begun to slow, though total imports will continue to rise as past orders are filled. Recent Reforms 8. The Central Committee of the Chinese Communist Party issued a major document on "reform of the economic structure" in October 1984. Recent reform developments have been fully in accordance with the directions indicated in the October decision: (a) state enterprises should be made fully independent units which pursue profits and are responsible for losses; (b) the scope of mandatory planning should be reduced and replaced by indicative planning while the focus of planning should shift from annual to medium- and long-term guidance planning; (c) a more rational price system should be introduced by reducing the role of state-controlled prices and increasing the role of "floating" and free market prices; and (d) the tax system should be improved, finance and banking should be reformed and a Larger role should be given to indirect macroeconomic regulation through instruments such as tax, credit and pricing policy. 9. Rural reforms have continued to progress more rapidly than reforms elsewhere in the economy. There has been a remarkable spread of nonagri- cultural activities like processing, tr&nsport, and commerce. "Specialized households" (which concentrate on cash crops, animal husbandry, or nonagri- cultural activities) and pooling of capital by small groups of households in various types of ventures are becoming increasingly common forms of economic organization in China's rural areas. Wholesale markets for some agricultural products have emerged. To encourage investment in land improvement and devel- opment, farming contracts between collective and peasant households for the use of land (which typically had been fixed for no more than 3-5 years) can now be extended to as long as 15-20 years. In early 1985, the system of agricultural procurement was changed. Previously the Government purchased quota output of grain and other crops at relatively low prices and stood ready to purchase all above-quota output at a higher price. Under the new system, procurement up to a certain amount (below former quota procurement) is based on contracts concluded voluntarily between peasants and procurement agen- cies. Prices for these purchases are based on the relatively high average price of past years. Output above the contracted amount must be sold by peasants directly on the free market, but the Government will intervene to purchase grain if the price falls to the original low quota procurement price. Thus a considerably larger portion of basic crop production will be produced for and traded on markets with flexible prices. 10. The momentum of urban reforms has revived, with significant progress on several fronts. In enterprise management, the focus has been on broadening and delineating the decisionmaking authority of urban enterprises. Profit retention now extends to virtually all state-owned industrial enterprises and to nonindustrial sectors like transport, commerce, construction, and other services. Urban collectives and individual enterprises, as well as a variety  - 4 - of joint ventures between them and state enterprises, have grown rapidly (the number employed in urban individual enterprises rose from 150,000 in 1978 to 2.31 million in 1983). 11. In financial reforms, the most important new development has been the implementation of a profit tax system to replace profit remittances by state enterprises to the government budget. Though most enterprises have switched to this system, the benefits have been limited because of the appli- cation of a different effective tax rate for each enterprise, to offset the impact of distorted relative prices and other factors. Similar problems have resulted in the abandonment of an attempt to impose a fee or charge on the fixed capital provided to state enterprises by the Government, and they have hindered the shift from grant to loan financing of new fixed investment. Financial discipline at the enterprise level remains weak, in spite of efforts to strengthen accounting and auditing systems and more strictly enforce existing financial regulations. 12. Some progress has been made with price reform. The majority of agriculture commodity prices were decontrolled even before the recent change in pricing and procurement of grain. Prices of many minor consumer goods are also set by negotiations between producers and commercial units. "Floating prices" (up to 20% above or below official prices) are now allowed for many industrial producer goods (either for all output or for output above the mandatory plan target). Price adjustments for key energy products and raw materials (which in many cases are severely underpriced) and for subsidized basic consumer goods like grain and edible oil have proven more difficult to implement, hindered by the potential impact of price changes on urban living standards and on the finances of energy-using enterprises. Nevertheless, some price rises have occurred (e.g., for coal and petroleum), and moreover the share of free market transactions, at largely uncontrolled prices, has increased in recent years. Gradually over time, and only partly as a result of conscious policy, a two-tier system is emerging; a large but shrinking share of the total supply of most important goods is subject to mandatory plan allocation and administratively set prices, while at the margin a substantial and growing share is allocated by the market mechanism, largely at flexible prices. This pattern may permit China to "grow out of the plan" in a rela- tively smooth transition, though there are obvious threats to this strategy arising from the strong incentive for arbitrage between planned and unplanned realms. 13. The Government recognizes the need to develop new tools of indirect macroeconomic management and has taken some steps to do so. The People's Bank of China was established as a separate central bank at the beginning of 1984, with its commercial banking functions taken on by the newly created Industrial and Commercial Bank of China. In 1985, new methods of credit planning and control were introduced and lower-level and specialized banks were given sig- nificant redeposit requirements. Interest rates (including deposit rates) were also raised in 1985, with some move toward unification of rates and development of a term structure resembling that in other countries. Technical transformation loans with a maturity less than one year and loans for working capital now carry the same 7.9% interest rate while loans of longer maturity carry higher rates, up to 10.8% for 10-year loans. However, interest rates on  - 5 - budgetary capital construction loans (rormerly grants) remain low and there are a variety of directed credit schemes. On the external side greater use is now being made of the exchange rate. The old internal settlement rate was abolished at the beginning of 1985 and between January and end-October 1985 the rate against the U.S. dollar declined by over 13%. Despite these changes progress in developing new indirect levers of control has been slow. Recent difficulties in securing macroeconomic balance highlight the need to strengthen institutions and macroeconomic management tools (including monetary, fiscal, and exchange rate instruments) for a decentralized and more market-oriented economy. Long-Term Issues and Prospects 14. In September 1985 a national party conference adopted a proposal which will be the basis for drafting a new Seventh Five Year Plan covering the period 1986-90. The proposal reaffirms a political commitment to economic reform and provides guidelines for future reform and development. One of the main objectives of the plan will be to create a favorable environment for reform which, in turn, will set the stage for future development. Target growth rates (7% p.a. {or industry, 6% for agriculture, a little over 7% for GNP) are below rates of growth achieved with the Sixth Five Year Plan, invest- ment is to be restrained in the next few years, and emphasis is to be placed upon quality rather than quantity of output. It is felt that slower growth will facilitate reform. 15. The plan proposal identifies three main areas of reform. First, enterprise management and incentives are to be improved by: giving enterprises greater autonomy in production, pricing, and employment decisions; lowering and equalizing taxes; increasing competition; increasing accountability for performance; and reforming personnel procedures. In addition, some small state enterprises will be turned over to collective or individual management through contract or lease. Second, the role of the market is to be extended and market networks strengthened. The scope of mandatory planning will be further reduced and markets for capital, technology, and labor wi-ll gradually be developed. Third, the emphasis of planning will shift from detailed admin- istrative control to indirect macroeconomic control through economic policy. To this end a series of mutually reinforcing reforms in the planning, pricing, fiscal, banking, and labor and wage systems will be introduced during the plan period. 16. Implementation of the plan proposal will help foster an environment in which fundamental reforms can be gradually implemented in a coordinated way. But specific policy measures will take time to design and then to imple- ment. Many of the reforms required will be difficult, particularly since reforms in different areas are closely interrelated, and thus appropriate sequencing and coordination are essential. For example, price reform in the absence of improvements in enterprise financial discipline will have limited benefits, yet the more profit-oriented behavior that would result from tighter financial discipline would exacerbate the adverse impact of distorted prices. Similarly, reform of the labor allocation system will be incomplete without eliminating many of the "social responsibilities" of enterprises (which now provide housing, medical care, and pensions for their workers and in many  - 6 - cases education and jobs for workers' children) and replacing them with Government-supported social service programs. The plan proposal suggests moving in this direction by commercializing housing. 17. Chins's objective of quadrupling the gross output value of industry and agriculture between 1980 and 2000 (which means GDP growth of well over 6: p.a.) will require significant improvements in efficiency as well as continued high saving and investment rates. The plan proposal recognizes there must be major structural changes in the economy over the next two decades, including a reduction in the share of agriculture, a rise in the share of industry and services (which at present is unusually low), and sub- stantial urbanization. There will also be a shift within agriculture, away from grain and basic crops and into cash crops and animal husbandry. The new plan will emphasize development of the service sector, mainly through removing restrictions on collective and individual activity. Urban development will focus on small and medium sized cities and towns while restrictions on growth of large urban areas will continue. 18. Certain physical/technical constraints will hinder the attempt to achieve China's targets for the year 2000 and its longer-term goal of catching up with developed countries. Despite rapid growth and substantial improve- ments in efficiency ih recent years, agriculture may again become a constraint on overall growth, since land in China is severely limited. In energy, short- ages of fuel (primarily coal) and electricity may continue to constrain growth in transport and commercial infrastructure. Without large new investments and improved efficiency, economic growth will lag. In mobilizing resources in all these areas, China could profitably make use of foreign borrowing. Finally, the rising share of the elderly in China's population (related to the slowdown in population growth) means that more resources will have to be devoted to maintaining their consumption levels, especially in the decades after 2000. 19. Poor motivation and inefficient utilization of labor in the state sector of the economy are major problems which can be solved only by coordi- nated reforms in labor allocation, the wage system, enterprise management, and social services, among other things. Reforms in the system of education and training to develop China's "hhuman capital" potential also are crucial. Back- ward technology and inefficient use of existing technology must be addressed by a combination of reforms, appropriately directed investment, and transfer of advanced foreign technology. Irrational location of factories, suboptimal scale of many plants, and poor utilization of physical capital in general are related problems. 20. If reforms successfully transform the economic system, with a bene- ficial impact on growth and efficien:y, a new set of issues will come to the fore, as the plan proposal recognizes. Management of a reformed economy with indirect fiscal, monetary, and other instruments is a major issue (see para. 13 above). In this context, maintaining an adequate saving rate (if the Government no longer accounts for the bulk of aggregate saving) and avoiding inflation (as well as deep cyclical downturns) will be major goals. Assuring an adequate minimum standard of living for the population and an appropriate level of social services will become a major challenge as enterprise and rural communal responsibilities in these areas are reduced. The problem of poor,  backward rural areas in various parts of the country will continue to require attention. Redistributing financial resources to these areas through the fiscal system, easing restrictions on migration out of the poorest areas, and lowering nonagricultural wages to make investment in them more attractive are some options for alleviating poverty. 21. In order to mobilize the external resources needed for rapid, sus- tained growth the plan proposal calls for export growth of 40-50% over the next five years, greater efforts to attract foreign investment, and increased commercial borrowing. If exports grow at 8% p.a. between 1984 and 1990 and imports grow at 9% p.a., China would have a relatively modest current account deficit of around $4-5 billion p.a. during the remainder of this decade, equi- valent to about 1% of GNP. This implies that the present debt service ratio would increase only moderately by 1990. If China's exports grow more slowly, imports will probably have to be cut back because a higher borrowing target, though feasible in terms of debt service indicators, would probably run into suppLy constraints as China would become one of the largest developing country borrowers. This highlights the need for continued export growth in order to meet other plan objectives and service greater commercial borrowing. The plan proposaL recognizes that greater use of exchange rate and pricing policies will be needed to encourage export growth. 22. Even with continued good export performance, China will have sub- stantial external capital requirements during the remainder of the decade. Under the trade growth assumptions outlined above (exports growing at 8% p.a. and imports at 9% p.a. during 1984-90), the current account deficit would be over $5 billion in 1990 and the gross borrowing requirement would be about $6.5 billion. If export growth fell to 6% p.a. during this period and imports continued to grow at 9% p.a., the current account deficit would reach $14 bil- lion by 1990. Although the plan proposal calls for increased borrowing at commercial rates, access to concessionary capital will play an important role in sustaining China's growth. China also has a claim to concessionary lending because it is still one of the poorer countries of the world. But China's access to concessionary capital for financing development and modernization is limited; apart from Bank Group funds, a significant amount of concessionary capital is likely to come only from Japan and a few other bilateral donors and will probably average no more than $500-600 million p.a. during the rest of the 1980s. PART II - BANK GROUP OPERATIONS 23. To achieve the target growth rates envisioned in the Seventh Five- Year Plan, to increase efficiency, and to maintain equity in distribution, China will need continuing economic reforms. China will need to import more technology, increase trade, and expand investment. In the next few years, therefore, the Bank can best assist China by increasing its access to foreign technology and capital and supporting the implementation of reforms that will help to increase the efficiency of resource use and reduce poverty. 24. To address China's objective of updating technology, the Bank will play the role of an in.ermediary. In transportation, energy, industry, agri-  - 8 - culture and social sectors, the Bank will contribute to technology transfer by bringing the Bank's experience to bear on project design and implementation and by helping China to seek appropriate technical solutions through interna- tional competitive bidding, training, and foreign technical assistance. 25. Bank assistance will be closely linked with the Government's reform efforts. There are five major elements common to both rural and urban reform in China that will be the focus of the Bank's involvement. First, institu- tional change, involving both the separation of economic and administrative functions and further decentralization of decisionmaking, will extend to every sector in which the Bank is invoLved. Second, financial sector reform, primarily development of financial institutions, has become a focus of Bank assistance. Third, improving planning and project analysis will be critical to reform in sectors such as agriculture and industry, where decisions are now being made by households and independent enterprises, as well as in infra- structure where direct government involvement will be required. The Bank will therefore continue its emphasis on introducing appraisal methods and financial planning as well as analysis of intersectoral issues. Fourth, the Bank will be involved in the Government's major program of price reform and development of indirect levers such as control via money, credit and fiscal policies. And finally, the Bank will support reforms in health, education and other social services and measures, in particular, to address the problems of poor regions. Economic and Sector Work 26. The Bank's economic and sector work in China aims at expanding the understanding of the structure and direction of the Chinese economy and intro- ducing to the Government new tools of economic management. This work provides a foundation for Bauk Group lending and for the dialogue with the Government on development options and policies. Past work has included two major econo- mic reports, studies on secto-ral investment analysis and planning, and colla- borative research with Chinese institutions. The Bank has also organized seminars on macroeconomic and sector issues. 27. Over the next two years, the Bank will carry out a large program of studies to follow up on issues identified in the most recent economic report. In this program, the Bank will examine alternatives for developing the finan- cial system, foreign trade and investment. It will also analyze issues of intersectoral investment coordination and development of resource-poor regions. One such study is already under way in Gansu province to formulate programs for increasing interregional resource flows, improving the efficiency of investment and reducing poverty. Research on urban development, transport planning, and regional industrial development will also be undertaken to form the basis for project preparation. Collaborative studies with Cninese research institutions will continue. An ongoing study of management and guidance of state-owned industrial enterprises will be followed by a study of collective enterprises, which are expected to become increasingly important industrial organizations in the reformed system.  -9- Lending Operations 28. Since China's change of representation in the Bank Group in May 1980, 37 projects involving lending of $3,699.1 million to China have been approved. Of the projects, twelve have been in the agriculture sector, seven in energy, six in transport, four in industry, four in education, two in technical cooperation and one each in health and water supply. In FY85, IFC made its first investment in China of $17.02 million in automobile manufacturing. Annex II contains a summary statement of these loans, credits and IFC invest- ment as of March 31, 1986. 29. In addition to the proposed project and the already approved second rural credit, third industrial credit, second technical cooperation, provin- cial universities, third railway, port development and fisheries projects, we expect to present to the Board this year two power projects and a petroleum project. For FY87 and beyond, we expect the lending program for China to continue to gr? from current levels. Infrastructure projects in energy and transport will remain priorities. Technical renovation of enterprises, particularly in industry, will be given greater attention and support as will the regional approach to project development, now being used to assess the needs of Gansu province. 30. In the energy sector, future Bank lending will be aimed at improving efficiency of energy consumption and expanding energy production. For example, in the coal subsector, we will assist in upgrading the facilities and operations of existing mines and in transferring improved technology for mines under construction or in operation. In power, we will assist China in tech- nology transfer, staff training and institution building. Through a power tariff study, we will seek to introduce a tariff system based on marginal cost and to increase the awareness of the need for a nationwide power system devel- opment program. In the petroleum subsector, the rationale for project involvement will lie in the identification, packaging and transfer of specialized technologies as well as in the strengthening of investment plan- ning and management capabilities. 31. Future transport projects will both upgrade technology and strengthen institutions. In roads, major changes in organization and financing will be required as a resualt of administrative decentralization and introduction of the production responsibility system in rural areas. In railways, we will focus on technologies to improve domestic production of railway equipment and materials in addition to our work on line construction and electrification. We also intend to broaden our involvement in ports to include coastal shipping and inland water transport. For all transport subsectors, we will support efforts to improve financial analysis and investment planning. 32. Agriculture lending will focus on developing institutions to provide services to individual farmers and to monitor and stimulate change in the pace and pattern of agricultural development. The shift from grant to loan finance and the increased autonomy of the rural banking syst9m will be supported through rural credit projects. We will continue to assist with the training, research, extension, and other service activities of the ministries concerned with agriculture. In addition, we expect to finance programs for specialized  - 10 - agricultural development such as livestock and fisheries, and for irrigation and area development. 33. Bank lending in industry, as in agriculture, will focus on strength- ening of financial intermediaries which provide credit to state and collective enterprises. In addition, we expect that there will be large regional projects in fertilizer, cement and machine tools and other subsector projects concerned with upgrading technology and improving organization and management. 34. Bank lending in education will gradually be broadened beyond the present concentration on higher education. For example, we will finance voca- tional and technical educatioi which is now being given great emphasis in China. In view of the Covercmcrt's recent decision to universalize access to primary and lower secondary education, another major aim of education lending will be to assist with basic education, particularly in poor rural areas. In this context, support for teacher education will be given priority. 35. Project preparation in the urban sector is currently concentrated in Shanghai on efforts to improve services, especially in environmental upgrading and hou-ing, and development of municipal institutions. Future lending is expected to include support for development of medium-size and small urban areas in specific provinces. In addition, we expect to continue lending for rural water supply. Bank lending in health will provide access to new medical technologies for more efficient health care in both the lingering problems of communicable disease, primarily in poor rural areas, and the emerging problems of chronic disease. This will involve further support for medical training and planning and management of service delivery systems. Projects will also support the reform of systems for supplying and financing health services. 36. Cofinancing with multilateral and bilateral agencies has been arranged for projects in coal, power, agriculture and rural water supply and will remain a feature of our assistance program. We will explore further options for cofinancing with export credit agencies. Commercial bank cofinan- cing and the use of B-loans also appear viable, particularly as China increases the overall volume of its foreign borrowing. In technical assist- ance, we will continue to incorporate into projects components for training, overseas study, and access to foreign expertise. In addition, we will be the executing agency for a second UNDP umbrella project in China. EDI activities remain an important element of the Bank's program and in coming years will provide an extensive program of policy seminars for senior Chinese officials, and economic and financial management courses and sector-specific training for officials from core and line agencies. Implementation 37. Project implementation is generally proceeding well. Most project agencies, as well as the Ministry of Finance and the State Planning Commission, have established and staffed offices to handle Bank projects. Disbursement performance has also been satisfactory. Special accounts have been estab- lished for a majority of the approved projects and have helped to speed disbursements. In October 1985, the Bank opened a resident office in Beijing to support further expansion of the lending program, accelerate project prepa- ration, improve project implementation and further economic and sector work.  - 11 - PART III - THE HEALTH SECTOR Introduction 38. Since the early 1950s, China has made remarkable progress in improv- ing health and nutrition. Many factors have contributed to this achievement, including greater and more equitable food distribution, improved water supply and sanitation, a higher literacy rate and advances in education. The health system's strong emphasis on prevention, community mobilization and financing, and paramedical field workers (barefoot doctors) have also contributed greatly to progress. However, China's health care system is entering a period of transition. The changing epidemiological profile and emerging health problems of the 1980s and beyond will increasingly mean that curative as well as pre- ventive health care needs must be adequately and economically addressed. A detailed assessment of China's achievement and prospects in the health sector was undertaken by a Bank mission in October 1982. The mission's report is entitled The Health Sector in China, A World Bank Country Study. Health and Population Status 39. Health conditions in China have improved dramatically since the l950s and are now far better than in other low-income countries. Infant mortality has fallen from close to 200 per 1,000 live births in the early 1950s to only about 40 per thousand today. At the same time, life expectancy at b_rth rose by 70% from about 40 years in the early 1950s to 67 years in 1983. The extent and rapidity of these mortality declines are remarkable and probably unprecedented for a country of China's relatively low income level. Current mortality rates in China compare very favorably to the average infant mortality rate of more than 100 per thousand and average life expectancy of about 50 years in other low-income countries. However, these national aver- ages conceal wide variations within the country. Life expectancy appears to be higher in the more heavily populated and advanced northeastern provinces and coastal areas than in inland and border regions, and is also higher in urban than in rural areas. 40. Significant declines have been achieved also in fertility. The total fertility rate remained high at about 6.5 from the mid-1950s through the late 1960s, despite a temporary reduction associated with the 1959-62 famine. Following the introduction of strong fertility limitation policies in the early 1970s, the total fertility rate fell sharply to only 2.3 in 1979. Fertility has since turned upwards slightly, probabLy as a short-lived result of the relaxation in policy regarding age at first marriage and the conse- quently increased rate of family formation (marriage followed by first births). Overall, according to Bank estimates, the average annual population growth rate has decreased from 2.7% in the period 1965-73 to 1.5% between 1973 and 1983 and is projected to fall further to 1.2% between 1980 and 2000. 41. Many once-important communicable diseases such as smallpox, cholera, plague and Kala-azar have been virtually eradicated. Diphtheria and poliomye- litis have been almost eliminated and the incidence of other infectious and parasitic diseases has been reduced. However, continuing deficiencies in  - 12 - hygiene and human waste treatment cause the persistence of diseases such as hepatitis and dysentery. Malaria and schistosomiasis remain problems and their control is a public health priority. Tuberculosis, the main cause of death in 1949, still affects nearly one percent of the population and remains a major health hazard. Chronic bronchitis associated with smoking and severe air pollution, is reported in 3.5% of the population. In China, as in the industrialized countries, cancer, cardiovascular diseases and accidents now account for most deaths. Due to inevitable aging of the population, morbidity and mortality associated with chronic diseases are likely to become even more prevalent. For example, the number of cases of hypertension can be expected to more than double between 1980 and 2010. Health Sector Services 42. At the apex of China's rural health system are approximately 2,100 counties, each of which has a county hospital, an epidemic prevention station (EPS), a maternal and child health (MCH) clinic, and a health person- nel training center. County facilities are funded by the Government through the province and county health bureaus which are responsible for overall direction, technical support and supervision of all county service delivery. Below the county facilities are health centers at the township level. In 1981, some 55,000 or 90% of all townships had such centers, averaging about 14 beds, which are responsible for routine curative and preventive se-vices. The operation of these centers is financed by county subsidies (either full or partial subsidy of salaries) plus user charges (for drugs and services). At the vilLage level, more than 90% of the villages have a health station with one or mote barefoot doctors. Many village-level services have, in the past, been financed by cooperative health insurance, which was funded jointly by annual prepayments of individual members and appropriations from village welfare funds. However health insurance coverage has declined dramatically, from 85% of villages in 1975 to 58% in 1981 and to only a negligible propor- tion today. This has resulted from the introduction of the rural production responsibility system which removed the institutional and fiscal basis of cooperative insurance at village level. 43. Although the urban population comprises only 21% of the totals urban health services are quantitatively very important. They account for about half of total hospital beds and salaried health manpower available in the entire health sector, and recent trends show a more rapid increase in resources for urban than for rural health care in China. The size of the urban sector reflects the high effective demand for services resulting from the extensive insurance coverage provided to urban residents under the Govern- ment and labor health insurance schemes. State enterprises play a key role both in financing and directly providing urban health services. Approximately half of urban health resources are owned by enterprises. 44. At the national level, the Ministry of Public Health (MOPH) super- vises activities of the provincial health bureaus. MOPH has broad responsibi- lity for health policy, for preparation of an annual plan, for supervision of medical and paramedical education and for coordination with related ministries and agencies. MOPH is indirectly responsible for thirteen core medical universities, medical research, the vaccine production institutes and the National Center for Preventive Medicine (NCPM).  - 13 - 45. The licensing of new drugs and the supervision and control of production, marketing and utilization are part of the mandate assigned to MOPH by the new Pharmaceutical Administration Law which became effective July 1, 1985. The drug manufacturers (about 1,800 in China), under the general plan of production marketing of the State Pharmaceutical Administration, are responsible for the quality and quantity of the drugs approved by MOPH. Tests of pharmaceuticals are carried out by the 29 provincial and municipal insti- tutes for drug quality control. Biological products and vaccines are produced in seven institutes under the control of MOPH. Each institute produces vaccines, blood derivatives and biological reagents, except for the Kunming Institute which specializes in poliomyelitis. None of these vaccines meet the international standards for safety and potency established by the World Health Organization (WHO). 46. NCPM was created in 1983 to coordinate seven research institutes. NCPM has begun to pursue its principal objectives of conducting research on preventive medicine and coordinating similar research programs throughout the country, assisting provincial health institutions, training public health professionals for service in the provinces, monitoring epidemic prevention and quarantine programs, and developing the scientific basis for establishing regulations, standards and appropriate public health priorities and policies. Health Sector Policies 47. China's progress in improving the health of its people is due in part to effective health delivery and to the policies on which such delivery is based. During the last two decades China has emphasized preventive over curative services more strongly than most low-income countries. China's policies have always reached beyond the health system itself, stressing the importance of nutrition, water supply and sanitation, education and reduced fertility. China has also pioneered the concept of community-financed auxi- liary health workers, known as barefoot doctors. Consistent with China's priorities for poverty reduction through rural development and provision of basic social services, a substantial volume of financial resources has been mobilized for health. The resources available for health care come from central and local governments, insurance systems and community and private expenditures. As a result the resouces available for health care, particu- larly in poor areas, are sigrificantly higher than in comparable areas of most low-income countries. 48. The Government's current medium-term health policy objectives include the following: (a) to promote prevention by strengthening anti-epidemic activities, improving the management of immunization campaigns, and identifying preventive measures against chronic diseases; (b) to strengthen and consolidate rural health services by upgrading county-level health institutions and major township health centers and promoting barefoot doctors to -ural doctors after they have received sufficient training; and  - 14 - (c) to intensify medical research and training of health professionals, improve the technical and administrative management of health delivery, improve the quality, production and distribution of pharmaceuticals, and ensure that they are properly used. 49. Rural Health Policy. The national program, designed to strengthen rural health services, is called the One-Third County Upgrading Program. The program is to be implemented in three phases, each covering about one-third of the counties and lasting five years. The program's major focus is to streng- then the four county-level health institutions - the general hospital, the epidemic prevention center, the MCH center and the training center - together with the major township health centers. An important policy innovation is the development of selected centers as major township health centers designed to serve an intermediate referral function between ordinary centers and county hospitals. Investment in the program during 1980-1982 totaled Y 443 million, and was allocated mainly to construction and purchase of equipment. Provincial budgets financed the largest share (48%), followed by county budgets (29Z), and self-financing by beneficiary institutions (18%). In general, implementa- tion performance has been uneven. Investment per county ranged from as little as Y 0.5 million in Shanxi Province up to Y 4.4 million in Shanghai. There has been no detailed evaluation of the impact of the program to date but a preliminary MOPH assessment judged implementation to be satisfactory in about two-thirds of the participating counties. Poor performance was attributed principally to insufficient financing and ineffective management. Health Sector Finance 50. Estimates for 1981 indicate that China spent 3.3% of CDP on health services, a relatively high proportion compared with other low-income coun- tries. Total expenditures were $7.50 per capita, of which 95% was recurrent expenditure. The major sources of finance for recurrent expenditure were individual payment for drugs and services, labor insurance schemes and govern- ment subsidies. Expenditures were mainly for drugs (58%, of which the bulk were Western medicines), salaries (20Z) and hospital care (13%). Urban expen- diture in 1981 was estimated at about $16.50 per capita, more than double the national average and almost four times greater than the rural average of $4.50 per capita. The major cause of this disparity is the uneven distribution of state subsidies, especially for insurance schemes covering urban residents. 51. Important features of health financing in China are the emphasis on cost recovery, the consequent importance of health insurance and, until recently, the extensive degree of insurance coverage. Estimates for 1981 indicated that 43Z of total expenditure was mediated through health insurance schemes. About 70Z of the population benefited from some type of insurance coverage. However, since the early 1980s the virtual collapse of the rural cooperative insurance schemes associated with the dissolution of the communes and production brigades has essentially limited insurance coverage to the urban minority and enterprise employees. This important new development in the health sector presents a policy issue for MOPH, particularly because Government also wants to encourage hcspitals to become financially self-sup- porting by increasing cost recovery and reducing reliance on state subsidies. Development of affordable and efficient rural health insurance coverage is  - 15 - high on MOPH's mediumw-term policy agenda so that rural/urban inequities in access to health care do not threaten many of the past gains. Sectoral Issues 52. Consolidation of Past Cains. Although China's progress in reducing morbidity and mortality has been considerable, this achievement remains incom- plete in several important respects. First, improvements in health conditions have not been uniform. Major differences in health status and in the avail- ability of health resources continue to exist between rural and urban areas, and these are reflected in wide disparities between provinces. While effec- tive systems of health delivery have been established in urban areas, similar improvements have not been extended to many poor rural areas. These improve- ments will inevitably require mobilization of increased central and provincial finance for provision of rural health services in order to offset the limita- tions of local fiscal self-reliance introduced by fiscal decentralization. 53. Communicable Diseases. Hepatitis, dysentery and tuberculosis are not yet under control and there are still problems with the vaccine-preven- table diseases which typically account for the bulk of infant and child morta- lity in developing countries. Although the national immunization program has made considerable progress, its success is still constrained by the poor qua- lity of domestically produced vaccines, lack of refrigeration to preserve vaccine potency during transport to the field, and the infrequent scheduling of immunization sessions, which leaves unprotected children who are either too young or too old to receive immunization when it is offered. Evidence of under-reporting of disease incidence and over-reporting of immunization cover- age rates also points to a need to strengthen program management. 54. New Challenges. China's transition to a predominantly chronic disease profile has been induced in part by China's past success in disease control and is being reinforced by the shift to an older age-structure as a result of the one-child family planning policy. Prevention is a much harder task for non-communicable diseases but the development of effective yet low- cost strategies for chronic disease prevention and treatment is the major priority in the health sector. This will require reconsideration of the role of the epidemic prevention stations which have been narrowly focused on infec- tious disease control. It will be increasingly important for urban hospitals to provide specialized curative services as part of a hospital referral system serving both rural and urban populations. With the growing cost pressures that accompany a rise in demand for specialized hospital services, there will also be a need to contain costs by eliminating inefficiencies in service pro- vision throughout the health sector. This will require improved hospital management, revision of incentives that encourage excessive -Vice provision and avoidance of wasteful duplication of services such as the development of curative facilities in maternal and child health stations. Additional impor- tant issues in the sector include cost recovery and financing policies for both capital and recurrent costs; development of affordable and efficient insurance coverage particularly in the rural areas; and organizational and regulatory reforms to improve pharmaceutical quality.  - 16 - Bsank Group Role and Assistance Strategy 55. Our lending operations in China's health sector so far comprise one IDA credit (Cr. 1472-CiA) of $85 million equivalent for the Rural Health and Medical Education (RUNE) Project approved by the Executive Directors on May 3, 1984. The project's two major objectives are to develop new approaches to upgrading health service in rural areas and to improve the quality of medical education. The RHME project is now in its second full year of implementation, and performance to date has been fully satisfactory. In the rural health component, participating provinces have endorsed the methodology developed by Bank Group staff and consultants for preparing county plans, and other counties and provinces have begun to use the methodology. Programs aimed at improving the reporting system for disease monitoring and establishing stan- dard procedures in hospital care management have been extended to non-partici- pating counties. Construction under the project has been implemented ahead of schedule and the output of training programs has exceeded the target set during project appraisal. In the medical education component, the experience of project preparation and implementation in the 13 medical universities serves as a basis to design tne reform of curricula and medical education policies currently under preparation. This reform will later be introduced in provincial and other non-project medical colleges. 56. The Bank Group's strategy for the proposed project and future lend- ing in the health sector is to focus on policy and institutional changes needed to address inequities in health conditions in poor rural areas, linger- ing problems of communicable disease and the emerging problems of chronic disease. It will also assist China to gain access to new medical technologies that will lead to more efficient use of resources as well as support the Government's agenda for reform in systems for supplying and financing health services. Bank Group sector and project work in health is aimed to build the basis for a sound dialogue on key policies, meet high priority needs and have a clear demonstration effect consistent with these strategies. The proposed project contributes to this objective, particularly through rural health investments, the upgrading of vaccines, monitoring of pharmaceutical produc- tion and support for operational research into new preventive strategies and for development of alternative rural health insurance systems. PART IV - THE PROJECT 57. The project was first presented to the Bank Group in July 1984 and subsequently prepared by MOPH with the assistance of WHO consultants. A Bank Group mission appraised the project in July 1985. Negotiations were held in Washington in April 1986 with a delegation led by Mr. Luo Qing of the Ministry of Finance and included representatives of the State Planning Commission and the Ministry of Public Health. A map (IBRD No. 19288 R) of the country showing the project locationas is attached. Project Objectives and Scope 58. The objectives of the proposed project are to strengthen and expand MOPH's continued efforts to improve rural health care, to improve the  - 17 - efficiency, coverage and quality of the national imunnization program for children, to initiate improved drug quality control and to develop new strategies for communicable and chronic disease preventive and health care financing in rural areas. 59. The project consists of four main components: (a) Rural Health - expansion and qualitative improvement (through construction, equipment, tech- nical assistance, personnel recruitment and training) of preventive and cura- tive health services in the poorer rural counties of five provinces (Gansu, Hubei, Jilin, Sichuan and Ningxia Hui) and strengthening of the disease monitoring and control activities and immunization delivery and management of the epidemic prevention stations in these and three additional provinces (Heilongjiang, Jiangxi and Shandong); (b) Vaccine Production - improvement in the coverage and cost effectiveness of the national immunization program against the main childhood diseases through construction and rehabilitation of three national vaccine production centers for the production of essential -.accines meeting international quality standards; (c) Drug Quality Control - construction, equipment, training, fellowships and technical assistance through improvement of the quality control of drugs used in China; (d) Operational Research - undertaking research: (i) to strengthen the capa- city of the National Center for Preventive Medicine for disease surveillance and disease prevention strategies; and (ii) to test new approaches to rural health insurance. Project Components 60. Rural Health. The purpose of this component is to upgrade the coverage and quality of preventive and curative health services in about 50 poor rural counties in five provinces, and to strengthen and reorient disease monitoring and prevention efforts in these and three additional provinces (Heilongjiang, Jiangxi and Shandong). Each of the eight participating provinces prepared an investment program based on overall project objectives and consistent with the national One-Third County Program. The provincial investment programs and implementation plans were the basis of project design and project cost estimates. 61. To improve health care at the county level in the five provinces the project will upgrade or construct hospitals, MCH centers, epidemic prevention stations and training centers. Below county level the project will support the establishment of a network of major township health centers and in some cases will rehabilitate existink health centers. Major health centers are designed to provide basic inpatient care that serves an intermediate referral function between ordinary health centers and the county hospital. Total con- struction is estimated at 471,100 m2, of which 113,100 m2 is for facilities below county level. 62. Equipment and vehicles, including teaching aids in the training centers, will be provided to strengthen laboratories, clinical diagnosis, cold chain, X-ray facilities, operating rooms, outpatient clinics, and training facilities.  - 18 - 63. Selected counties are generally much poorer than those supported in the REME project. In Gansu, one of the poorest provinces in China, the par- ticipating counties come from the lower two-thirds of the per capita rural income distribution. Participating counties in the other provinces have been selected from the lowest one-third of the income distribution. Also considered in the selection of counties were implementation and management capability, geographic distribution, relative severity of health problems, and strength of local government commitment. 64. In all eight provinces the component will strengthen disease moni- toring and control activities and immunization delivery and management func- tions of the provincial epidemic prevention stations through expansion of the provincial stations, equipment and vehicles, staff training, fellowships and technical assistance. Cold storage facilities will be constructed at prefec- ture level wherever needed to ensure an effective cold chain for expanded, effective vaccine distribution. In Heilongjiang, Jiangxi and Shandong provinces the component focuses on improving the management of preventive health programs, with special emphasis on priority diseases. These include programs to strengthen child immunization in Heilongjiang, screening for hemorrhagic fever in Jiangxi, and screening for leprosy and tuberculosis in Shandong. Project activities in these provinces will also include improved disease surveillance of a wide range of both communicable and non-communicable diseases. 65. For the component as a whole, improved outreach, patient care and management will be supported by training in the following areas: (a) pre- service training of primary health workers at the county level, and of middle level workers at the province level; (b) upgrading of professional skills in specific disciplines and subjects, such as improved clinical practice for doctors and equipment maintenance for general service staff; and (c) special- ized training for doctors and supervisors in technical fields such as epidemi- ology, statistics and management. An extensive program has been organized by MOPH and the health bureaus in participating provinces. County training schools will be established or upgraded in all participating counties. Provincial training centers will be upgraded to in-service schools for medical cadres. Local trainers and consultants from universities, medical schools, NCPM, provincial hospitals and other high level institutions in China will organize a series of training workshops, assist in design of curricula for in- service training and provide on-the-job training in medical procedures and use of equipment. An estimated 72,000 health staff will benefit from some k:nd of retraining during project implementation. Additional personnel (doctors, nurses, laboratory technicians, administrators and trainers) will be recruited after the expansion in the scope and quality of health services. 66. Vaccine Production for Improved Immunization. China has produced essential vaccines for childhood diseases for some years in seven institutes under MOPH. However, problems of vaccine quality and potency, use of liquid, rather than freeze-dried vaccine, and weaknesses in the cold chain have made China's immunization program less effective and more expensive than it should be. The vaccine production component of the project will strengthen the national immunization programs by enabling China to produce improved-quality essential vaccines that meet quality standards for potency and safety  - 19 - established by the World Health Organization. The component will also provide for packaging of vaccines in small numbers of doses Ippropriate for frequent immunization programs in villages. Improved packaging, and freeze drying, will also allow transport with less vulnerabi'Lity to temperature variation and provide a longer shelf life. These quality improvements, combined with revi- sion of the national immunization schedule, are expected to yield a signifi- cant improvement in the coverage and cost-effectiveness of the national childhood immunization program. 67. Specifically, the component will: (a) establish a new production center for oral poliomyelitis vaccine (OPV) in Kunming, Yunnan Province, with an annual production capa- city of 100 million doses of liquid trivalent vaccine. The rest of the annual requirement (about 40 million doses) will continue to be produced in the Beijing institute; (b) establish two new production centers for essential vaccines, including DPT, tetanus toxoid, and freeze-dried measles vaccine, in Shanghai and Lanzhou (Gansu Province), each with an annual produc- tion capacity of 100 million doses of DPT, 40 million doses of tetanus toxoid, and 20 million doses of measles vaccine; and (c) rehabilitate the quality control laboratories in each of the three sites, using existing buildings. 68. During negotiations, understanding was reached on: (i) a timetable for transitional and final implementation of the revised immunization sche- dule, as recommended by the WHO preparation team and used to estimate the annual production requirements of vaccine; and (ii) a monitoring system and procedures by which MOPH will evaluate effectiveness of the new vaccines. Assurance was obtained that all domestic production of DPT and measles vaccines, tetanus toxoid and OPV will, after one year from the start of opera- tion of the vaccine production centers under the project, meet the interna- tional guidelines established by WHO on the quality of biological products, including vaccines. 69. Drug Quality Control. This component will assist MOPH to routinely monitor the quality and safety of pharmaceuticals, both domestic and imported, and to evaluate the properties and adverse effects of new drugs to be introduced on the market. 70. The program developed by HOPH will be implemented in stages, enabling the manufacturers to progressively raise the quality of the products and to adjust to higher production standards. To provide the basis for a further dialogue with Government on the issues of manufacturing, testing, evaluation and control, project will support the first phase of such a rehabilitation program and will consist of: (a) upgrading three municipal institutes for drug quality control in Beijing, Tianjin and Shanghai. Each of them will become the national referral center for a given category of pharmaceuticals.  - 20 - Each will assist MOPH to develop quality standards and training for staff working in the 26 provincial institutes for drug quality control; (b) training pharmaceutical administrators and drug quality inspectors in the Western China Medical University and Zhejiang Medical University. Enrollment of small groups of 20-30 students for successive specialized sessions will result in the training of 140 to 280 persons/year in each college; and (c) developing clinic pharmacology and laboratory facilities in the clinical pharmacology units of the Medical University of Beijing and the Medical University of Shanghai. Each unit will undertake tasks assigned by the Bureau of Drug Policy and Administration for evaluating the pharmarco-dynamics, toxicity, and clinical effects of about eight new compounds every year. 71. Operational Research. Building upon the assistance provided under the RHME project, this component will strengthen research programs of NCPM which are designed to improve disease monitoring, identify new preventive health strategies, support epidemic prev-ntion stations, and develop the analysis and exchange of information. The support would include construction, equipment, foreign technical assistance and overseas fellowships. 72. The component will also finance an experiment aimed at implementing and evaluating several new health insurance schemes to contribute to the formulation of a new national policy on rural health insurance. The experi- ment would test the feasibility of introducing new rural health insurance arrangements that would: (a) provide more extensive risk-pooling; (b) be financially independent of state subsidies yet affordable for the majority of rural inhabitants; and (c) minimize incentives for unnecessary use of curative services while retaining incentives for preventive care. The three-year experiment would be implemented in two rural counties in Sichuan Province under the overall direction and management of MOPH. Assurances were obtained that MOPH would carry out the experiment with the assistance of consultants and in accordance with terms of reference and time schedule acceptable to the Association. MOPH confirmed that appropriately qualified staff would be assigned from both central and provincial levels to direct and manage this experiment. Project Costs and Financing 73. Total project costs. The total cost of the project is estimated to be $177.4 million or Y 567.5 million equivalent, net of duties and taxes from which the project will be exempt. The foreign exchange cost would be $78.7 million (44Z of the total). Project costs are summarized in the Loan/Credit and Project Summary. Equipment lists for Rural Health, Drug Quality Control and Operational Research have been prepared and unit prices are based on January 1986 world market prices for imported equipmert. The cost of equipment and materials to be procured locally and not to be financed by the Bank Group was estimated on the basis of current domestic prices. Costs for the vaccine production component are estimated on the basis of bid prices received by MOPH in April 1986.  - 21 - 74. Physical contingencies of 10% of base costs are provided for construction, vehicles, equipment and technical assistance except for vaccine production which includes an allowance of 25Z to reflect the margin of uncer- tainty attached to the base cost estimate pending award and negotiation of contracts. Price contingencies are based on the following expected rates of increase for both domestic and international prices: 7.2% for 1986; 6.8% for 1987 and 1988; 7.0% for 1989; 7.1% for 1990; and 4.0% for 1991. Physical contingencies total 13% of base costs and price contingencies are 14% of base costs plus physical contingencies. 75. Recurrent Costs. Project investment in rural health will increase recurrent outlays in the 50 participating counties by about Y 8.2 million com- mencing in 1988, or about Y 164,000 per county. In 1984, total recurrent health expenditures in the provinces of Jilin, Sichuan, Hubei and Gansu aver- aged about Y 1.8 million per county, which is projected to increase to about Y 2.7 million per county in 1988. The incremental recurrent expenditures generated by the project represent about 9.5% of total recurrent health expen- ditures of the above four provinces in 1984, and about 6% of projected total recurrent health expenditures for the same provinces in 1988. Project invest- ments in Drug Quality Control and Operational Research components are expected to generate only minimal incremental recurrent expenditure requirements for operation and maintenance of new equipment. Financing Plan 76. The proposed Bank loan of $15 million and IDA credit of SDR 57.2 million ($65 million equivalent) will finance 45% of total project costs, including all foreign exchange costs ($78.7 million) and $1.3 million or 1.3% of local costs. The local counterpart contribution for the Rural Health component will be provided by province and county-level budgets. Local financing for other project components will be provided by the Central Government. Procurement 77. Vaccine Production Component. Under ICB procedures according to the Bank Guidelines for Procurement eligible firms were prequalified to bid for this component in July 1985. Criteria for prequalification included: (a) experience as a major international producer with production capacity comparable to that required under the proposed project; (b) commitment to continued future production so as tc ensure continuity in transfer of techno- logy; and (c) proven experience of technology transfer to other countries. Of ten bidders expressing potential interest, two were prequalified for the OPV production center and two for the DPT/Measles production centers. Technical terms of reference and detailed bidding documents were reviewed by Bank Group financed consultants and bids were received in April 1986 and are currently under evaluation. Contracts are expected to be awarded on a turn-key basis with the process suppliers responsible for project management, transfer of technology, plant design, supervision of civil engineering, supply and inspec- tion of goods, installation and testing of plant equipment, training of plant personnel, plant start-up and trial operation.  - 22 - 78. Procurement for Other Project Components. All procurement of equip- ment to be financed by the Bank Group (about 70X of total) would be procured under ICB following Bank Guidelines for Procurement except as described below. Items would be grouped into bid packages to encourage competition and bulk procurement. Local manufacturers would be eligible for a margin of preference of 15% or the prevailing customs duties, whichever is lower, in the evaluation of bids. Items and groups of items estimated to cost less than $200,000 and in aggregate not exceeding $5.0 million equivalent may be procured through: (a) contracts awarded on the basis of comparison of quotations invited from at least three suppliers eligible under the Guidelines; or (b) direct purchase for proprietary items or where justified by the need for standardization. The $5.0 million limit is reasonable in light of experience under the REME project. Prior Bank Group review of contract awards would include all contracts of $500,000 equivalent or more. Sample post reviews of smaller contracts would be carried out during regular supervision missions. Remaining equipment comprises basic laboratory equipment, pharmaceutical and laboratory materials and standard teaching supplies all of which are available locally and will be procured by provincial health bureaus for widely scattered local distribution. This equipment would be procured in accordance with local procedures and financed by the provincial governments. Selection of technical assistance consultants would be carried out in accordance with Bank Group Guidelines on the use of consultants. Local training and fellowships will be organized by MOPH. 19. Draft equipment lists have been finalized by project institutions and reviewed by MOPH and the Bank Group. An expert procurement committee has been appointed by .hOPH to review quantities and to prepare detailed specifica- ions. Understanding was reached with MOPE during appraisal that this commit- tee would be appropriately staffed to undertake this task with due regard to the following criteria: appropriateness of equipment proposed to institu- tional functions; cost-effectiveness, taking into account expected utiliza- tion and impact; and ease of operation and maintenance. For items procured through ICB, MOPE would be responsible for the preparation of bidding docu- ments, bid evaluation and recommendations for award; the International Tender- ing Company of CNTIC has been designated to be responsible for advertising and receiving bids, and for undertaking contract awards on behalf of MOPH. MOPE would be responsible for taking delivery of equipment and for its distribution to project institutions. During negotiations, understanding was reached that procurement of equipment would be appropriately synchronized with the construction of physical facilities and the training of personnel needed to operate and maintain it. 80. Civil Works. Civil works for rural health facilities, for the expansion of epidemic prevention stations and for extensions to buildings under the Drug Quality Control and NCPM components would be procured mainly through local bidding amongst local companies and would be financed by the Government. Architectural plans have been prepared by provincial, municipal and county design bureaus which would also be responsible for supervision of construction. Sites for facilities have been selected and have been made available by the respective levels of government. To make improvements in civil works design for rural health, MOPE is establishing a central unit for health facilities research and design. Its role would be to study and  - 23 - synthesize alternative designs and technologies suitable to improve the design of buildings for health care. It would investigate construction techniques and layouts to incorporate modern ideas for patient flow, supervision, management and the delivery of technical services. It would also have the capacity to produce educational materials and sample designs for provincial health and design authorities. Disbursements 81. The proposed credit of SDR 57.2 million ($65.0 million equivalent) would be disbursed as follows: (a) IOOZ of the CIF cost of imported equipment (including vehicles), 100% of the ex-factory cost of locally manufactured equipment and 75% of the cost of local expenditures for other items procured locally; (b) 10O of the cost of consultants; (c) 100% of expenditures for local training (tuition, transportation, room and board) for the Rural Health component; (d) 10OZ of foreign expenditures for overseas fellowships; and (e) 100% of foreign expenditure for the vaccine production centers. The proceeds of the proposed loan ($15 million equivalent) would be disbursed against item (e) above. 82. Reimbursement of training and contracts for goods and services, each valued at less than $200,000 equivalent, will be made on the basis of statements of expenditure, the supporting documentation for which would be retained in the World Bank Loan Office (WBLO) in MOPH for revie%. by the Bank Croup during project supervision missions. In order to reduce the administra- tive burden of disbursing against a large number of applications MOPH will open a special account in a bank acceptable to the Bank Group, with an autho- rized allocation of up to the US dollar equivalent of SDR 5 million. Applica- tions for replenishment will be submitted, with appropriate supporting documentation, at quarterly intervals or when amounts withdrawn equal half the amount of initial deposit, whichever comes sooner. All disbursements for expenditures for training and consulting services and contracts for goods and services for amounts of less than $200,000 equivalent will be made from the Special Account. Disbursements will be completed by the Closing Date of June 30, 1992, one year after the estimated date of project completion. Accounts and Audits 83. Accounts of expenditures for the rural health component will be maintained by the provincial WBLOs under the supervision of the WBLO in the MOPH. The tinance division of the WBLO will maintain accounts for all other project components. During negotiations, assurances were obtained that pro- ject accounts would be maintained according to accounting principles and prac-  - 24 - tices satisfactory to the Bank Group; that annual audits of project expendi- tures would be carried out by independent auditors acceptable to the Bank Group; and that the Government would provide the Bank Group with certified copies of such audited financial statements and the auditors' reports thereon within six months after the close of each Chinese fiscal year. Project Organization 84. Two of the project components - Vaccine Production and Drug Quality Control - fall under the administrative and technical jurisdiction of the Bureau of Drug Administration and Policy of MOPH. Within the Bureau, the Biological Products Control Division will be responsible for implementing the Vaccine Production component, and the Pharmaceutical Standard and Quality Control Division for implementing the Drug Quality Control component. The Rural Health component will be the responsibility of the Pural Health Division of the Bureau of Medical Administration. The Operational Research component will be under the technical responsibility of two units reporting directly to the Minister of Public Health, namely NCPM, and a leading group for Health Insurance Reform chaired by the first Vice Minister. The Chinese Academy of Medical Sciences, an institution which is also directly under the Minister of Public Health, will assist the Bureau of Drug Administration and Policy in developing the production of OPV in the Kunming Poliomyelitis Institute which reports to the Academy. The Bureau of Health and Epidemic Prevention will provide technical guid:race in implementation of provincial epidemic prevention stations. 85. Responsibility for project management and coordination as a whole will rest with the WBLO, which has already been established in the Foreign Affairs Bureau of MOPH to coordinate the implementation of the RHME Project. WBLO is headed by a director with a day-to-day responsibility for all aspects of project execution. He is supported by 25 full-time staff organized into three divisions responsible for project execution, procurement and finance and accounts, respectively. WBLO will coordinate the implementation of all project components, procurement of equipment, administration of technical assistance and training, project finances (including counterpart funding and loan/credit disbursements) and overall project progress reports. To this end, it will have a strong liaison function with the technical departments responsible for individual project components. Finally, WBLO will be responsible for the preparation of the project completion report. Project Management 86. The project will be directed by a steering group within MOPH, consisting of the heads of the divisions and bureaus concerned, and co-chaired by the director of the Foreign Affairs Bureau and the director of the Planning and Finance Bureau. This group will meet periodically and have responsibility for setting overall policy guidelines, approving plans and budgets for indi- vidual project components, monitoring the project's overall progress and effectiveness, and resolving any issues affecting project goals and imple- mentation. WBLO is the staff secretariat for this group.  - 25 - 87. The pattern of national organization and management arrangements have been replicated in the provincial health bureaus responsible for the Rural Health component. Specifically, leading groups chaired by the provin- cial Vice Governors will oversee project implementation, backed up by provincial WBLOs or project management units in the provincial and county health bureaus, each comprising five to ten full-time staff headed by a Bureau Deputy Director. The provincial WBLOs have appraised and approved the plans and programs developed by the county-level institutions. They will supervise all aspects of project implementation including those executed by the provincial epidemic prevention stations. Assurances were obtained that the MOPH and the provinces concerned would maintain the WBLOs through the project implementation period with appropriate functions and staffing. 88. The implementation of the Vaccine Production component will be managed by the directors of the three institutes concerned, in close collabo- ration with the Biological Products Division of MOPH which be responsible for the reassignment of technical staff. During negotiations, understanding was reached that MOPH would reassign to the three institutes supported by the project the technical staff they will need to operate the new facilities. 89. The Drug Quality Control component will be executed by the following agencies: the Municipal Health Bureaus of Beijing, Shanghai, and Tianjin for the Drug Quality Control Institutes; the Zhejiang Medical University and Western China Medical University for the training subcomponent; and the Medical University of Shanghai and the Medical University of Beijing for the clinical pharmacology subcomponent. Each implementing agency has set up a project office headed by the director of the institute/department concerned, under the leadership of the presidents of the universities and the directors of the Municipal Health Bureaus. Assurances were obtained that the Borrower will ensure through a Project Implementation Agreement that the municipalities of Beijing, Shanghai and Tianjin, and Zhejiang Province will maintain the project offices within the respective local Health Bureaus throughout the project implementation period and implement project activities under the supervision of the Drug Administration and Policy Bureau. Execution of a Project Implementation Agreement satisfactory to the Association will be a condition of effectiveness. 90. The Operational Research component will be implemented by the rele- vant institutes of NCPM. The Director of the NCPM will be responsible for overall program implementation and will report directly to the Minister of Public Health. The rural health insurance experiment will be implemented by the Health Bureau of Sichuan Province under the leadership of the steering group established in MOPH. Project Benefits and Risks 91. The project is expected to improve the health status of about 30 million beneficiaries in rural areas of 50 counties. Nationwide there will be better coverage, quality and cost-effectiveness of child immunization. National capability for epidemiological surveillance and research will be stronger. The Rural Health component will strengthen the capacity of the county health care delivery system to deliver an extensive range of curative  - 26 - and preventive services. The effect will be improved efficiency of communi- cable disease control and chronic disease management, and greater accessibi- lity to and quality of curative services both in the counties and at inter- mediate referral locations in rural areas. 92. The Vaccine Production component will substantially increase the coverage and cost effectiveness of the national imuinization by raising the proportion of eligible children covered by a full series of immunizations, reducing the cost per fully immunized child and improving the efficacy of the imunization given. It will make possible increased frequency of immunization sessions at the ultimate delivery site. Anticipated increases in unit produc- tion cost per vaccine dose are expected to be more than offset by decreases in wastage in the distribution chain, resulting both from better packaging and from longer shelf-life associated in part with the substitution of freeze- dried for liquid vaccines. Substantial improvement in vaccination effective- ness will also result from the reduction of losses in vaccine potency. 93. The Drug Quality Control component is expected to improve the capa- bility of the drug quality control institutes to test the quality of drugs available on the market. It will also improve the training of pharmaceutical administrators and quality control inspectors. The result is expected to be a more effective and extensive system of drug quality control which would help to ensure that all drugs meet acceptable safety standards. 94. The Operational Research component will support and improve the formulation of national policies on disease prevention and on rural health insurance. 95. Experience with the RHME project, and with preparation of the pro- posed project, indicates that MOPH has the management capacity and commitment needed for successful implementation of the rural health component and, with the assistance of experienced international vaccine firms, the vaccine produc- tion component. Consequently no major implementation risks are anticipated. Implementation of the operational research component, however, does carry inherent risk in that it may take time for NCPM, a newly created amalgamation of previously independent research institutes, to shift from laboratory to policy-focused research. To minimize this risk NCPM's program will be monitored closely by MOPH and the Bank Group. 96. In the Drug Quality Control component, interagency coordination could pose difficulties. The responsibility for drug quality testing lies with MOPH, whose capacity for pharmaceutical administration would be strengthened by the project. However, the responsibility for drug manufacture rests with the State Pharmaceutical Administration which controls the' pharmaceutical enterprises but is administratively independent from MOPH. Due to constraints in terms of equipment and technology of manufacturers, the State Pharmaceutical Administration might be unable to comply with the standards established by HOPH in the short term. To minimize the risk that investments in quality control would not be effectively utilized because industrial capabilities could not keep pace with rapidly improving quality measurement standards, the project will finance only the first phase of MOPH's program to raise drug quality testing capacity.  - 27 - PART V - RECOMMENDATION 97. I am satisfied that the proposed loan and credit would comply with the Articles of Agreement of the Bank and the Articles of Agreement of the Association and recommend that the Executive Directors approve the proposed loan and credit. A. W. Clausen President Attachment May 27, 1986 Washington, D.C. -I  - 28- ANNEX I Page 1 of 7 CHINA PLE S R1P. OP - SOCIAL INDICATORS DATA Vmsr CHtNmA PEOPLr REP. oF LnFNECE G OUPS IWIr AVERAGES). u m15r (HOST RECENT ZSTIMATE) C RECEUT LOU KNCO HMIDDLE 'NOMN 19i1L 1971kL ESrTiATELb ASIA & PAcIIC ASIA & PACIFIC mm (NOBSAD SQ. 1)n TOTAL 9561.0 9561.0 9561.0 ACRICILTUML 3237.6 3802.0 3865.9 Gp CA PITA (on) .. .. 300.0 278.3 1011.1 111%11 OT SWTIO M CAIPTYA CKLOORAS OF OIL EQUIVALENT) 202.0 259.0 441.9 2H5.7 566.8 POIATIIN M VTAL ErATItICS POPULATION.MID-YEAR (THOUSANDS) 651000.0 815160.0 1019102.0 URBA POPULATION (X OF TOTAL) 16.4 /e .. 21.0 22.3 35.9 POPULATION PROJECrIONS POPUILATION IN YEAS 2000 (HILL) 1242.3 STATIONARY POPULATION (HILL) 1571.0 POPULATION MMENTM 1.6 POPULATION DESSITY PER SQ. KM. 68.1 2,.3 106.2 173.8 386.9 PER Sq. KM. ACRt. LAND 199.8 210.0 260.8 353.3 1591.2 POPULATION ACE STRUCTURE (X) 0-14 YRS 36.9 37.6 32.0 ?6.3 38.2 15-64 YRS 56.2 57.2 63.1 59.6 57.7 65 AND AVOW 4.7 5.0 3.0 4.3 3.5 POPULATION CXOITN RATE (Z) TOTAL 1.1 2.2 1.7 2.0 2.3 URBIAN . .. 4.1 6.1 CRUDE BIRTH RATE (PER THOUS) 39.2 /d 35.7 18.6 27.5 30.1 CRUDE DEATH RATE (PCR TOUS) 23.5 7d 8.8 7.1 10.2 9.4 GROSS RIPRODUCTION RATE 2.8 /d 2.3 1.0 1.7 1.9 FAMILY PLANHIN; ACCCPTORS. ANNUAL (THOUS) .. USERS CZ OF HARRIED WOHEN) 71.0 49.4 56.5 FOOD LD UTIL INDEX OF FOOD PROD. PER CAPITA (19f9-71-100) . 100.0 123.0 116.6 124.4 PER CAPITA SUPPLY or CALORIZS (I OF REQUIRNNTS) 9A.6 Id 1Ci.6 119.8 106.3 115.7 PROTEINS (CRAMS PER DAY) 53.0 7d 56.2 69.7 60.1 60.3 OF WHICH ANIMAL AND PULSE 12.5 '7 13.3 15.9 1464 14.1 CRILD (AGES 1-4) DEATH RATE 13.5 8.5 2.0 7.3 7.2 ILALTd LIF EXPECT. AT BIRTH (TEARS) 41.0 1. 60.9 67.1 60.5 60.6 INFANT PORT. RArTE (PER THOUS) 165.e 77- 69.0 33.0 69.2 64.9 ACCESS TO SAFE WATER (EPOP) TOTAL 50.0 44.2 46.0 URBAN .. .. 85.0 77.2 57.6 RURAL .. .. 40.0 34.6 37.1 ACCESS TO EXCRETA DISPOSAL (I OP POPULATION) TOTAL .. .. .. 7.8 50.1 URBAN .. .. .. 2B.8 52.9 RURAL .. .. .. 5.5 44.7 POPULATION PER PHYSICIA 7940.0 If 3690.0 /f 1740.0 if 3318.0 7751.7 POP. PER NUSING PERSON 3830.0 2760.0 1710.0 6690.7 2464.8 POP. PER HOSPITAL RED TOTAL 1040.0 760.0 640.0 1039.2 1112.1 URN 210.0 160.0 299.1 651.4 RURAL 10140.0 . 1020.0 6028.2 2596.9 ADNISSIONS PER HOSPITAL BED .. .. .. 52.3 41.1 AVERArE SZE OF HUSE