Malawi - Second Wood Energy Project

Document of The World Bank FOR OMCAL USE ONLY Rq1 t No. P-4245-MAr REPORT AND RECOMMENDATION OF THE PRESIDENT OF THE INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN IN AN AMOUNT EQUIVALENT TO US$16.7 MILLION TO THE GOVERNMErT OF MALAWI FOR A SECOND WOOD ENERGY PROJECT March 3, 1986 | This dcummt h a restrctui distrlbhuo and may be used by recipents ady ib the pefonmaue of their offidia dud. lb cVteb a y e u dwowei be disiwd wItlb Wodi Dack a.tbliral. |  CURRENCY EQUIVALENTS Currency Unit = Malawi Kwacha (MK) US$1.00 = HK 1.80 MK 1.00 = US$0.56 100 Tambala = MKI ABBREVIATIONS AND ACRONYMS ACU - Area Control Unit FRIM - Forest Research Institute of Malawi NRDP - National Rural Development Program RCP - Revenue Collection Post WEIGHTS, VOLUMES AND MEASURES I m3 Stacked Wood = 0.70 m3 Solid Wood I m3 Stacked Wood = 0.49 Ton of Wood 1 Meter (m) = 3.3 Feet I Cubic Meter (m3) 35.3 Cubic Feet I Hectare (ha) = 2.47 Acres I Kilometer (Km) = 0.62 Miles I Square Kilometer (1rm2) = 0.39 Square Miles FISCAL YEAR Government of Malawi: April 1 to March 31  FOR OFFICIAL USE ONLY MAILAWI SECOND WOOD ENERGY PROJECT LOAN AND PROJECT SUMMARY Borrower: Republic of Malawi. Executing Agency: Ministry of Forestry and Natural Resources. Amount: US$16.7 million equivalent. Terms: Repayable in 20 years, including 5 years of grace, at the standard variab'le interest rate. Project Description: The objective of the Project is to reduce the gap between sustainable fuelwood supply and demand by (i) developing policy instruments and incentives to encourage tree planting on a national basis, (ii) increasing fuelwood production through tree planting by small farmers and through establishing a limited number of Government plantations in ecologically fragile areas; and (iii) reducing fuelwood consumption by introducing more efficient charcoal kilns and household stoves. The Project would include components to support institutional development, wood production, wood conservation, and research and training. Its most significant features are: increases in fuelwood prices, expanded forestry extension and collection activities, provision of incentives for tree planting, and a redefinition of the Government's role in fuelwood production to emphasize the encouragement of private tree planting. Benefits Smallholder woodlots (17,000 ha) and plantations and established by the Government (6,000 ha) would Risks produce abut 230,000 m3 of fuelwood annually, which would reduce the current supply/demand deficit in fuelvood and protect the interdependent soil and water resources necessary for agricultural production. The introduction of more efficient charcoal production technologies and charcoal efficient stoves would result in substantial savings in annual fuelvood consumption. The principal risk of the Project lies in the implementation of a comprehensive and new policy package. If any of the policy elements fails to be implemented, then the Project may be unable to achieve its objective of increased private production of fuelwood. To lessen these risks the Project would r This document has a restrcted distibution and may be used by recipients only in the performance of their aokcis duties. Its contents may not otherwise be discosed without World Bank authorization.  provide for strengthening and improved organization of the Forestry Department, for procedures to encourage cooperation with traditional and other authorities, for training of field and central staff, and for annual reviews of Project implementation. In addition a full scale mid-term review would be undertaken after three years of Project implementation to identify any required corrections in the policy package. Estimated Cost: Local Foreign Total US$ Million Institutional Development 1. Revenue Collection System 2.1 1.1 3.2 2. Pilot Extension Scheme 0.7 0.6 1.3 3. Monitoring and Evaluation Unit 0.2 0.2 0.4 4. Planning Unit 0.4 0.5 0.9 5. Strengthening of Forestry Department 0.2 0.5 0.7 Subtotal 3.6 2.9 6.5 Wood Production 1. Government Plantations 2.0 1.1 3.1 2. Nurseries 0.7 0.7 1.4 3. incentive Payments 0.9 - 0.9 Subtotal 3.6 1.8 5.4 Wood Conservation 1. Pilot Charcoal Production 0.1 0.3 0.4 2. Fuel Efficient Stove Production 0.1 0.2 0.3 Subtotal 0.2 0.5 0.7 Support Services 1. Research 0.4 1.0 1.4 2. Training 0.4 0.5 0.9 Subtotal 0.8 1.5 2.3 Total Base Costs 8.2 6.7 14.9 Physical Contingencies 0.3 0.1 0.4 Price Contingencies 2.7 1.6 4.3 Total Costs 11.2 8.4 19.6  - iii Financing Plan IBRD 8.3 8.4 16.7 Government 2.9 - 2.9 11.2 8.4 19.6 1/ Estimated Disbursement of IBRD Loan IBRD FY 87 88 89 90 91 92 93 Annual 1.9 3.4 3.0 2.6 2.4 2.3 1.1 Cumulative 1.9 5.3 8.3 10.9 13.3 15.6 16.7 Economic Rate of Return: l0% Staff Appraisal Report: Report No. 5914-NAI Dated: February 26, 1986 Map: IBRD No. 19290 1/ Taxes are negligible since virtually all items would be exempt from import duties and sales tax.  INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT REPORT AND RECOMMENDATION OF THE PRESIDENT TO THE EXECUTIVE DIRECTOR3 ON A PROPOSED LOAN TO THE REPUBLIC OF MALAWI FOR A SECOlND WOOD ENERGY PROJECT 1. I submit the following report and recommendation on a proposed loan to the Republic of Malawi for the equivalent of USS16.7 million to help finance a Second Wood Energy Project. The loan would have a term of 20 years, including 5 years of grace, with a variable interest rate. PART I - THE ECONOMY f/ 2. A Country Economic Memorandum (Report No. 5801-MAI) dated October 4, 1985, was circulated to the Executive Directors on October 15, 1985. The following paragraphs summarize the principal findings of the report. Annex I contains the basic country data. 3. Malawi is a small (118,500 sq km), densely-populated (about 6.6 million people in 1983), landlocked country in southeastern Africa. Its main assets are moderately fertile soils, good water resources and a climate favorable to crop production. Unlike its neighbors, Malawi has no known substantial mineral resources. 4. With a GNP per capita of USS210, Malawi has been identified by the United Nations as one of the world's poorest countries. Nevertheless, from independence in 1964 until 1979, Malawi had steady economic growth, averaging 6% per annum in real terms (3% per capita). The leading sectors were agriculture and manufacturing. Investment rose from 9% of GDP at independence to 33% in 1979, financed by increased domestic savings (from nil to 14! of GDP in 1979), and official and private capital inflows. In 1980 and 1981 Malawi met with serious difficulties due to world economic conditions, and GDP contracted by 6% over those two years. Consumption fell somewhat, but savings and investment were reduced drastically. Since 1982, recovery has been underway, with growth averaging 4.6% through 1984. 5. With the exception of the 1980-81 recession, Malawi has enjoyed steady economic growth, due in large part to the pragmatic policies of the I/ Parts I and II of this report are substantially the same as those of the President's Report on the Industrial and Agricultural Credit Project (Report No. P-4156-MAI dated December 2, 1985).  -2- Government. Malawi has adopted an outward looking strategy based on agriculture, consistent with the country's resource endowment. Government investment has concentrated on provision of infrastructure, utilities and support services to encourage private initiative. The Government has also emphasized smallholder agriculture, a sound policy given that 90% of the population lives in rural areas and depends on agriculture for its livelihood. Traditionally, about half of the development budget has been directed towards agriculture and transport, the rest for administrative and social functions. 6. Malawi's economy is heavily dependent on three primary commodity exports (tobacco, tea, and sugar) and is highly vulnerable to international price fluctuations. Since 1974, there have been periodic balance of payments problems of increasing severity due primarily to (a) rapid escalation in import- prices, particularly of fuel and intermediate and capital goods; (b) cyclical swings in export prices of tobacco, sugar and tea; (c) significantly higher costs of transport for exports and imports owing to rising ocean freight charges, port congestion in Mozambique, and, more recently, severe disruptions of overland transport routes through Mozambique; and (d) an increasing debt service burden. 7. Beginning in 197R, Malawi's chronic balance of payments problems became less manageable. The current account deficit rose from a level of 8-9% of GDP in the mid-1970s to 18% in 1978 and 23% in 1979. This balance of payments crisis was due to declining terms of trade, which fell 40% between 1977-80, increased transport difficulties and drought. Import prices rose by 39% over this period, Primarily due to petroleum price hikes. Conversely, export prices declined by 16% (due mainly to falling tea and cobacco prices). In 1980 and 1981, a drought led to reduced agricultural exports and necessitated increased imports of subsistence crops (maize). Nevertheless, by 1981 Malawi enjoyed a surplus on the merchandise trade balance thanks mainly to a contraction in imports and has increased this surplus steadily since 1981. Continuing current account deficits were due to a large deficit on the service accounts. Transport costs for imports and exports were greatly increased due to continuing problems with traditional export rottes through Mozambique. Debt servicing also contributed to the deficit on the invisibles account. These current account deficits were initially financed by sharply increased private capital inflows. These were still not sufficient to finance the current account deficit and the country drew down its foreign reserves to less than one month of imports by end 1983. In 1984, the current account deficit was greatly reduced to three percent of GDP and reserves were increased by US$65 million. This was due to improvements in the terms of trade, led by record tea prices, and a sharp increase in exports, as previous stocks of tobacco and sugar were moved out or the country, resulting in a large trade surplus, nearly matching the deficit on the services account. The outlook for 1985 is for a larger defici: as export prices have declined and carryover stocks are not as large. 8. The economic difficulties of 1980-81, as well as problems with public corporations, led to an increase in the Government budget deficit reaching 16.5% of GDP in 1981, double historic levels. This was due  primarily to a rapid increase in government expenditures, attaining 35% of GDP in that same year. Much of this was made up of recurrent expenditures, especially interest payments. Revenues did not increase commensurately, given the recession, hence the large fiscal deficit. These deficits were financed by government borrowing, primarily domestic. Public sector credit represented 60% of the total in 1984 and as a percentage of GDP it increased to 13% in 1984 as compared to 9% in 1974. The fiscal position has improved since, with increased revenues and restrained spending, so that the deficit was reduced to 8.2% of GDP by FY85, an improvement, though still above target levels. Improving expenditure control is a key element to continuing Malawi's economic recovery. Inflation has been steady at approximately 10% since 1981. 9. Given Malawi's early stage of development, foreign capital inflows, especially of a public nature, have been important in development financing. In the pre-recessionary period (1969-79), foreign savings financed approximately half of domestic investment. During the recession (1980-81), public and orivate capital inflows were used to maintain consumption levels, and domestic savings fell, Since 1981, domestic savings have been increasing, while private inflows have virtually ceased. Public transfers continue, financing approximately 50% of all investment, much of this from World Bank Group loans and credits. Grants and bilateral transfers have declined from past levels, and have not kept pace with Malawi's needs. 10. Initially, the country attempted to ameliorate the economic downturn of 1979-1980 by increased external borrowing, mostly on commercial terms, in order to maintain import levels and thus production, employment and consumption. It soon became evident that with increasing inflationary pressures and fiscal and balance of payments disequilibria, more stringent adjustment efforts were needed. The Government, therefore, launched a stabilization effort designed to reduce short-term fiscal and balance of payments disequilibria and a structural adjustment program designed to improve efficiency of resource use and ensure that positive growth of per capita income can be reestablished and sustained over the medium and longer-term within the context of a manageable balance of payments current account deficit. The structural adjustment program is broad-based; aimed at encouraging diversification of production and exports, improving performance of productive sectors, rehabilitating, restructuring and otherwise strengthening key development institutions, and improving resource mobilization and allocation in the public sector. 11. The Government and the IMF agreed to a standby program for SDR 22 million in August 1982. A first phase of a multi-year stabilization effort, the program aimed at reducing both the balance of payments current account deficit and the budgetary deficit. As part of the program, the Government devalued the kwacha against the SDR by 15% in April 1982. The other performance criteria involved phased ceilings on net domestic assets of the batuking system and on net credit to the Government and a limit on government external commercial borrowing. The standby was implemented satisfactorily, and the Government and the IMF concluded a new multi-year program. A three year Extended Fund Facility was approved in September  -4- 1983 and, except for a six-month interruption in late 1984-early 1985, it has been implemented successfully so far. As part of the Extended Fund Facility, the Government devalued the kwacha against the SDR by 12% in September 1983 and switched to a basket of currencies in January 1984. Since January of 1984, the kwacha has depreciated more than 30% against the dollar, including a 15% devaluation in March 1985. 12. The Bank's first Structural Adjustment Loan in support of the Government's program was made in June 1981, for US$45 million. After initial difficulties, good progress was made in implementing the Government's adjustment program. Additional funds were allocated to the agricultural sector, certain agricultural prices were adjusted, public utility tariffs were increased and the budget for 1982-83 was trimmed, with sufficient resources provided for major development sectors. The second tranche was released in April 1982. However, during 1982 the country's efforts were set back by increased disruption of the traditional transport routes and continued depressed demand for Malawi's export products. Nevertheless, the country was able to hold its current account deficit to 11.3% of GDP in 1983, reduce the budgetary deficit for FY1983 to 9% of GDP, and meet its IMF standby borrowing ceilings. 13. The second phase of the structural adjustment program was supported by SAL II and approved by the Board in December 1983. The program builds upon the reforms of SAL I, focussing on measures to improve the mobilization and management of resources, to strengthen key institutions, and to upgrade the performance of the puJlic sector. The program has been successful in achieving most of its objectives. Among the achievements of the program have been (a) increased smallholder export production following an increa6e in price incentives; (b) increased industrial production and investment incentives resulting from a program of price decontrols; (c) increased domestic energy production; (d) a strengthening of the financial position of key public and private enterprises; and (e) a reduction in the budgetary and balance of payments deficits. Efforts to improve the control and allocation of public expenditures and to reduce the overall size of Government have been slow, but steps in the right direction have been taken. While the economy has grown well in 1983 and 1984, prospects are for continued economic difficulties and the need for continued adjustment to balance of pavments, fiscal and transport constraints. 14. An IDA Credit for USS30 million equivalent and a USS 40 million equivalent African Facility Credit for the Third Structural Adjustment Operation were approved by the Board on December 19, 1985. The program is expected to encourage productivity and efficiency, diversify the export base and promote exports, strengthen the Government's policy making capability, and improve the performance of development institutions. The Government is expected to take action, inter alia, to reduce subsidies, strengthen its policy and planning units, reduce parastatal deficits, and rationalize the role of the Agricultural Development and Marketing Corporation.  - 5 - 15. By the end of 1984, Malawi's external public debt outstanding and disbursed totalled USS741 million. In late 1982, Malawi rescheduled both its official and commercial debts. Otherwise its debt servicing, including repayments to the IMF, would have amounted to over USS130 million, equivalent to over 40% of exports of goods and services. This compares to a level of about 10% in the mid-1970s. A second year of rescheduling was agreed to in October of 1983, keeping the debt service ratio to 26.7% in 1983. The Government has indicated that it will not be asking for any further rescheduling, and the debt service ratio is expected to remain at about 40X in 1985 and 1986 before falling to less than 25% in 1990. Because of this high debt service ratio, commercial bank borrowing will have to remain sharply curtailed and the balance of payments gap should be closed by concessionary financing. Similarly, constraints on local borrowing would indicate the need for local cost financing to be provided by donors. PART II - BANK GROUP OPERATIONS IN MALAWI 16. Over the past 20 years, Malawi has received 35 IDA credits and one Special Fund credit, totalling about US$493 million and 9 Bank loans totalling US$107 million, of which 2 were on third window terms. Malawi has also received one African Facility Credit totalling US$40.0 million equivalent. The first Bank loan to Malawi was made on third window terms in June 1976 and the first standard Bank loan in April 1977. Of the Bank Group assistance, some US$165 million (27%) was for agriculture, US$108 million (18%) for education, US$114 million (19%) for roads, US$128 million (21%) for structural adjustment, US$39 million (7%) for power, USS1 million (2%) for water, and the balance of US$35 million (6%) for health, development finance, technical assistance, and urban housing. For FY86, a credit of USS11.6 million equivalent for an Agricultural Extension and Planning Support Project, a US$30.0 million equivalent IDA Credit and a US$40.0 million African Facility Credit for the Third Structural Adjustment Operation, and a US$7.6 million loan for an Industrial and Agricultural Credit Project, have so far been approved. IFC's equity participations and lending commitments in Malawi total about US$25.8 million and include investments in textiles, sugar, a Development Finance Corporation (INDEBANK), tourism, and the manufacture of alcohol from molasses. In addition, a USS0.5 million equity subscription and US$1.8 million loan investment in the Viphya Plywoods and Allied Industries United were approved in August 1984, but are not yet signed. On September 23, 1985, an IFC investment to finance the first leasing and finance company was approved. Annex II contains a Summary Statement of Bank Group Operations as of September 30, 1985. Bank Lending Strategy 17. During the next five years, Bank group assistance will focus on helping Malawi restructure its economy, especially in the areas of improved agricultural productivity and dealing with the transport problem. Focus will also be given to strengthening the effectiveness and efficiency of Government and other development institutions. Bank group assistance will also address Malawi's pressing needs in the area of human resource  - 6 - development, including the issues associated with a population growth rate of 3.2%, amnng the highest in the world. Project lending will complement the Government's structural adjustment program and will include support for Government investments in health ana population, water supply, transportation. education and agriculture. 18. The Bank Group's economic and sector work will continue to build an analytical base for discussions with the Government on key development issues. In agriculture W.e have concluded a study on diversification and the steps needed to help broaden the export base of the economy; a study of the question of land utilization and what can be done to improve the productivity of this scarce resource is underway, as are project-funded studies on livestock, smallholder irrigation and management and training in the Agriculture Ministry. The transport sector report which deals with external transport constraints has been completed. In the social sectors, we have completed a study of the dynamics of population growth, its implications for the economy and the recommended development assistance strategy for the sector. In education a project-funded study will review the training needs in the economy with special emphasis on the agriculture, health and transport sectors. A Public Sector Investment Review has recently been carried out. These studies will provide the basis for helping Malawi develop appropriate sectoral strategies and investment programs. Further studies expected to be carried out in the near future include a special study on the institutional aspects of development which will look at shortcomings in the Government's institutions and bureaucratic system which have led to some of the structural weaknesses in the economy. A study of the financial system will also be carried out. 19. A Consultative Group meeting was held in January 1986 with the objective of improving donor coordination and increasing the level of resources needed to support Malawi's adjustment process. The Country Economic Memorandum planned for FY87 will concentrate on the long term constraints to Malawi's development (population, agricultural land pressure, etc.). Disbursements 20. The levels of disbursements for Malawi, including program lending, were as follows: in 1982, US$70.1 million; in 1983, USS33.2 million; in 1984, USS58.2 million; and in 1985, USS46.4 million. Disbursements of the Bank Group loans and credits in Malawi have generally been good and compare favorably with other countries in the region and even on a Bank-wide basis. During the period FYBO-85, the disbursement rate on loans and credits to Malawi (excluding the effect of non-project lending) averaged about 26% per annum, significantly higher than the Eastern Africa Regional average of 19% and the Bank-wide average of about 21%.  -7- Project Implementation 21. Overall, implementation of Bank projects continues to be good. The Audit and Project Completion Reports underscore Malawi's sound development record and progress in extending nationwide the benefits of its investments. However, the Third National Rural Development Program (NRDP) project and the Fifth Highways Project have experienced moderate problems due to inadequate budget provision and management shortcomings. Efforts have been made to allocate sufficient budgetary resources for these projects. PART III - THE AGRICULTURE AND FORESTRY SECTOR 22. Agricultural production in Malawi is based on both smallholder and estates farming. While smallholders account for the vast majority of land and output, the estates produce the main export crops of tea, tobacco and sugar. In the smallholder sub-sector, maize production recently increased significantly, stimulated by higher producer prices. Estate production increased rapidly through the early 1980's but has recently been adversely affected by international price fluctuations, as well as higher transport costs. 23. The major problems in agriculture include limited availability of appropriate technology for smallholders, an inadequate extension service, a lack of a practical research base, and until recently, poor price incentives for farmers. The estate subsector has a shortage of experienced managers and a shortage of credit for medium and long term investments. 24. The Government has been attempting to provide a growth climate for both smallholder and estate production in order to support its overall strategy of maintaining self-sufficiency in food staples while at the same time expanding agricultural exports and improving rural incomes. Since the end of the 1970's, the Government's National Rural Development Program (NRDP) has provided a wide range of services to the smallholder sector. By 1984, 80% of the smallholder subsector was under NRDP. Most recently, with IDA assistance, the Government has been focussing on improving the national agricultural extension system, strengthening the agricultural research base, pro-iding additional financial resources to the estate sub-sector, establishing smallholder price incentives and reducing subsidies on agricultural inputs. The Forestry Subsector 25. Forest land covers an area of 4.7 million hectares. The "miombo (typical indigenous) woodlands are the most extensive forest variety and the major source- of fuelwood and fine timber for panels and furniture. By type of management, Malawi's forest area is divided into gazetted forest reserves, 21% of total forest area; forests on Customary land, 57%; natural parks and game reserves, 21X; and industrial plantations, 1%. Gazetted forest reserves are protected by the Forestry Department and wood cutting is licensed. Forests on Customary land are a major source of fuelwood and  - 8 - poles and are subject to excessive depletion. In April, 1985 the Forestry Department took over responsibility from the Ministry of Local Government for protection of these forests; however the traditional authorities still have official jurisdiction over these lands. 26. The Forestry Department is part of the MAnistry for Forestry and Natural Resources and manages public forest resources. It is currently being reorganized to include three main divisions: (a) the Forest Development Division responsible for establishing timber plantations, protecting forest resources, and providing radio and fire protection services; (b) the Forestry Extension Division, responsible for extension services and implementation of wood energy projects; and (c) the Forestry Support Services Division, responsible for research, training, surveys and planning. 27. There is a substantial gap between the demand for fuelwood and its sustainable supply, which is being met by the rapid depletion of the country's indigenous forest resources. The depletion of forest resources is caused by uncontrolled exploitation of indigenous forests on Customary land as well as the low stumpage rate charged for commercial fuelwood. Until recently, the average official stumpage rate for commercial fuelwood was M4K 1.80 per m3 of stacked wood compared with an estimated average production cost of MK 10.2 per m3. This rate was increased in March, 1986 to MK 2.70 per i3. Nonetheless there is still little incentive for individuals to produce their own wood supply and the Government, as a major producer of wood, cannot recover its investment costs (see para. 52). The low price of fuelwood encourages excessive consumption and the Government is unable to generate financial resources to implement effective measures to manage utilization of forest products. 28. After Independence the government's main forest policy was to establish and operate mechanical wood processing industries and to plan an export oriented large-scale pulp and paper mill. Large plantations were established in the Viphya mountains and elsewhere to provide raw material inputs for these industries. Since that time increased depletion of forest areas around cities and villages has led the Government to recognize the issues described above and therefore to make a fundamental change in its forest policy, which now focusses on reducing the gap between fuelwood production and demand by developing appropriate price and investment incentives for stimulating private fuelwood production. The direct Government role is to be concentrated on establishing the framework for private wood production, managing environmentally fragile areas, and protecting and controlling forests in Customary land. These policies constitute an appropriate and farsighted response to the problem of fuelwood depletion and loss of forest resources and would be supported bv the proposed Bank project which is expected to be the Government's major investment in the sub-sector over the next five years.  -9 - Bank Strategy in the Sub-sector and Experience with Past Lending 29. The first Bank group assistance to the forestry subsector in Malawi was Credit 992-MAI (US$13.8 million) under the First Wood Energy Project signed In 1980. The project provides for (a) the establishment of a national network of 88 nurseries which would produce about 9 million seedlings a year for sale to farmers; (b) the establishment of 12,900 ha. of Government fuelwood and pole plantations; and (c) the strengthening of the Wood Energy Division, including the setting up of an Energy Studies Unit in the Forestry Department. 30. As part of SAL III, the Bank has financed a Technical Assistance Project (CR. 1428-MAI signed January, 1984), which includes a provision for technical assistance to help establish an Energy Unit in the Economic Planning and Development Department as well as to improve the efficiency of tobacco curing technology and thereby reduce fuelwood consumption. In addition a Wood Industries Restructuring Project (Loan 2486-MAI, US$6.4 million, signed in 1984) is designed to further the rehabilitation of the wood processing industry and the conversion of the Forest Industries Department into a Wood Industries Corporation. 31. In general implementation of the First Wood Energy Project has been successful and project objectives have been met. In particular the Government has exceeded appraisal targets for establishment of fuelwood plantations. The project has also been successful in establishing and staffing a Wood Energy Division and an Energy Studies Unit. However, the farmer tree planting program has reached only 60% of its targets. The project is scheduled to be completed December, 1986. 32. The project's lack of success in encouraging farmer tree planting is a result of the low stumpage rate for fuelwood and the easy access to free wood on Customary lands, which reduced the incentive for farmers to grow their own wood supply even though seedlings were provided at a highly subsidized price. The experience of the project has been directly incorporated into the proposed project, which provides a comprehensive policy package of price and other incentives for private wood planting. PART IV - THE PROJECT 33. In July, 1984, the Government of Malawi requested that the Bank consider financing a second phase project as part of a long-term forestry-wood energy program. The Forestry P partment assisted by the FAO Cooperative Program as well as by Bank staff carried out preparation work in 1984 and 1985. Negotiations were held in Washington from February 10 to 14, 1986. The Malawian Delegation was led by Mr. J. R. Phiri, Deputy Secretary, Ministry of Finance. A Staff Appraisal Report (No. 5914-MAI) is being circulated separately. A loan and project simmary is given at the beginning of this report and a supplementary project data :heet is provided in Annex III.  - 10 - Objectives and Components 34. The objective of the Project is to reduce the gap between sustainable fuelwood supply and demand by (i) implementing policy instruments to encourage private tree planting on a national basis; (ii) increasing fuelwood production through tree planting by smallholder farmers and through establishing a limited number of Government plantations; and (iii) reducing fuelvood consumption by introducing more efficient charcoal kilns and stoves for urban households. The project would include components to support institutional development, wood production, wood conservation, and research and training, as described below, and would be implemented over a seven year period. Its most significant features are policy changes relating to wood pricing, forestry extension and revenue collection, the provision of incentives for tree planting, and a redefinition of the Government's role in fuelwood production. Because of the innovative nature of a number of these policies and programs, the project would provide for annual reviews of progress as well as an intensive mid-term review which would identify any needed corrections or revisions in the policy package. 35. Institutional Development. The project would support the establishment of 27 Area Control Units (ACU's) in twelve priority districts experiencing severe forest depletion. Each unit would be responsible for managing forests and forestry utilization in its area. The ACU's would charge royalties for all commercial wood activities. However, wood collected in head loads forsubsistence would continue to be free of charge. Twenty-five percent of the revenue collected on forest products from Customary land would be given to the traditional authorities and forest personnel would be given training in extension methods and in rural sociology. The project would also provide for establishment of 17 Revenue Collection Posts (RCP's), which would be set up at major transport roads into Blantyre, Lilongwe, and other selected urban centers. These posts would be complementary to the ACU's and would charge royalties on all commercial wood in trucks which have by-passed the ACU system. Evasion of these checks would be difficult, since truck transport would be the only feasible means of transporting large quantities of firewood to urban areas. A condition of loan effectiveness would be preparation by the Government of administrative regulations and procedures as well as related accounting programs for revenue collection and the provision of tree planting incentives which would be acceptable to the Bank (see also para. 39). 36. The project would provide for the establishment, on a pilot basis, of nine forest extension units which would work with the Agricultural Extension service to provide technical assistance for farmers planting fuelwood trees. The project would further provide for the setting up of a Monitoring and Evaluation Unit which would evaluate the project on an ongoing basis and therefore permit corrective measures to be taken where needed. This unit would also be responsible for progress reports, periodic reviews, and preparation of a Project Completion Report. A Planning Unit would compile basic resource data, formulate objectives, set priorities, and prepare work plans and budgets for the Project. In addition, existing  - 11 - units would be strengthened through provision of equipment, vehicles, training, and technical assistance. The qualifications, experience and terms of reference of the heads of the Forest Extension, Monitoring and Evaluation and Planning Units would be satisfactory to the Bank and they would be appointed not later than September 1, 1986. 37. Wood Production. The project would aim at encouraging private tree planting directly by providing temporary investment incentives, seedlings, and advisory services, as well as indirectly by increasing stumpage fees to cost recovery level. Specifically, with the improved Incentive scheme In place the expected demand for seedlings would justify the establishment of 60 new retail nurseries and the upgrading of 10 existing temporary nurseries. Each nursery's seedling production would start at 50,000 per year and the nurseries would be upgraded to permanent status depending on demand. The initial sale price to farmers of seedlings would be one tambala per seedling compared to production costs of five tambala and seed packages would be provided free of charge. Two additional Government plantations totaling 6,00n hectares, to be located in the vicinity of Lilongwe and in the foothills of the Mulanje plateau, would be established, in line with the Government's new policy to have a direct role it fuelvood production only in environmentally fragile areas and in areas already gazetted as forest reserves. One hundred ten ha. in demonstration woodlots would be established to demonstrate the potential growth of various species as well as planting techniques. 38. A study would be undertaken to determine the feasibility of establishing a private company to provide tree planting services to the tobacco estates. The study would, inter alia, review the needs, requirements, and alternative supply possibilities of the tobacco estates for fuelwood. 39. In order to encourage tree planting, incentives would be provided to farmers as a means of making tree planting financially attractive. The incentives would be in the form of cash payments to farmers for each tree surviving two years after planting or of some other combination of payment in cash or in kind to be determined by the Forestry Department. The incentive plan would be subject to annual review by the Bank and the Government to determine whether and how it should be modified in accordance with market and other conditions and as stumpage rates increase. The Forestry Department to date has an excellent record of honesty and dedication. However, the Government would establish regulations and procedures acceptable to the Bank to ensure efficient management of the incentive plan (see also para. 35). The Monitoring and Evaluation Unit would regularly review these as well as other payment mechanisms and propose corrections where necessary. 40. Wood Conservation. The project would support the implementation of two conservation programs -- the development of a fuel-efficient charcoal production process and the introduction of fuel-efficient household stoves. The savings in fuelwood resulting from the widescale adaptation of each of these methods would be 1OZ for charcoal production and 25-40% for stoves. The charcoal component would Include a program to  - 12 - demonstrate the use of efficient kilns and wood handling methods, followed by evaluation and proposals for commercial production. The stove component would involve the establishment of pilot production units, establishment of a small extension capability in the Forestry Department, training of artisans, and provision to local artisans of basic materials and tools necessary for commercial production. The stove technology to be introduced under the project is well established elsewhere in Eastern Africa and no major problems are foreseen in its adaptation to Malawi. A Charcoal Production Unit would be set up and a head of the unit whose qualifications, experience, and terms of reference would be acceptable to the Bank would be appointed by September 1, 1986. 41. Support Services. Provision would be made for technical assistance, incremental operating costs, and equipment to the Forestry Research Institute of Malawi (FRIM), which would carry out a wood energy research program concentrating on soil surveys, fertilizer, species, and other trials, disease control, genetic improvement, and fuelwood supply strategies. The preparation of a detailed research program, satisfactory to the Bank, would be a condition of disbursement for the research component of the project. In addition, the Malawi College of Forestry, which provides technician level training, would be rehabilitated and dormitories would be provided for women who would be admitted to the program for the first time and would be expected to account for about 15% of enrollment. Training of forestry guards, nurserymen, and patrolmen, as well as short term overseas fellowships, would be provided. A detailed training program acceptable to the Bank would be prepared by September 1, 1986. Proj ect Implementation 42. As noted above, ACU's and RCP's, Extension Units, a Monitoring and Evaluation Unit, and a Planning Unit would be set up under the project. Training would be provided by the Malawi College of Forestry, and FRIM would carry out a wood energy research program. In order to carry out its new responsibilities, the Forestry Department is being reorganized (para. 26). The head of the newly created Forestry Extension Division would also be the Project Coordinator. Ris appointment would be a condition of loan effectiveness and his qualifications, experience and terms of reference would be acceptable to the Bank. Project Costs 43. Total Project costs are estimated at MK37.7 million (US$19.6 million), of which MK15.9 million (USS8.4 million) or about 42%, represents foreign exchange costs. Details of Project costs are provided in the cost estimate table in the project summary. Project base costs are estimated at prices as of January, 1986. A physical contingency of 10% for civil works, furniture, and equipment is included. A physical contingency of 15% for the small farmer incentive payments (para. 39) is also included because of  - 13 i uncertainties about the number of trees /:o be planted by farmers as well as their survival rate. All other componei*ts have no physical contingency provision. Price contingencies are as tollows: for local costs, 11% for 1986; 102 for 1987; and 9% thereafter; ;for foreign exchange costs, 7.5% for 1986; 8% for 1987 through 1990; and 52 for 1991 and 1992. In view of the gap between domestic and foreign inflation rates, the exchange rate is assumed to adjust so as to maintain purchasing power parity. The total price contingencies amount to about 29% of Project base costs. Taxes are negligible since virtually all items would be exempt from import duties and sales taxes. 44. Project costs provide for a total of 90 person months of long-term consultancies and 41 person months of short term consultancies for an estimated total base cost of US$1.7 million. The Project would also provide about NK5.0 million (US$2.6 million equivalent) including contingencies to cover salary expenses of incremental local staff. Financing Plan 45. Details of Project financing are provided in the Project summary. The proposed Bank loan of US$16.7 million would cover 85% of total Project costs, including 100% of foreign and 74% of local costs. The Government of Malawi would cover 15% of project costs, or US$2.9 million. The Government contribution would cover incremental recurrent costs on an increasing percentage basis as follows: 15Z for the first US$1.8 million of recurrent cost expenditures; 30% of the next US$3.0 million; and 50% of the remaining US$3.6 million of expenditures. Funds generated by the implementation of the forest revenue collection system would be sufficient to meet the Government contribution. Procurement 46. Procurement under the Project would be in accordance with Bank guidelines and is summarized below: Procurement Method 1/ Total Project Element ICB LCB Other N.A. Cost Civil Works 2.0 0.5 2.5 (2.0)1/ (0.5) (2.5) Vehicles, Machinery, Equipment, Furniture, and Materials 3.6 0.7 0.1 4.4 (3.6) (0.7) (0.1) (4.4) Training, Tech. Assistance 2.8 2.8 (2.8) (2.8) Incentives 1.6 1.6 (1.6) (1.6) Operating Cost 8.3 8.3 (5.4) (5.4) Total 3.6 2.7 3.4 9.9 19.6 (3.6) (2.7) (3.4) (7.0) (16.7) 1/ Figures in parentheses are the respective amounts financed by IBRD.  4.~ ~ ~ ~ ~~~~1 - 14 - 47. Orders for vehicles, machinery, equipment, furniture, and materials for amounts of US$100,000 or more would be procured through international competitive bidding (ICB); orders for such goods below US$100,000 would be procured in accordance with local competitive bidding (LCB) procedures acceptable to the Bank; these would not exceed US$800,000 in the aggregate. Items for such goods costing less than US$30,000 would be procured under local shopping procedures, with a minimum of three quotations required; these would not exceed US$100,000 in the aggregate. Because of their small size and scattered distribution, civil works would not be suitable for ICB and would be constructed through LCB. Where civil works are such that they would not attract even local contractors, force account procedures would be used up to a maximum of US$500,000. Copies of tender documents for contracts expected to cost in excess of US$100,000 would be submitted to the Bank for approval prior to the issuance of invitations to bid and bid evaluations and recommendations for these items would be submitted to the Bank for approval before contracts are awarded. Domestic manufacturers would be allowed a preference of 15% or the existing rate of duty, whichever is lower, for vehicles, equipment, machinery tools, and spare parts. Disbursement 48. Proceeds from the proposed loan (US$16.7 million) would be disbursed as follows: 100% for civil works, vehicles, equipment, incentive payments to farmers for fuelwood trees, technical assistance, workshops, studies, and training; and 65% on average for incremental recurrent expenditures, as follows: 85% of the first US$1.8 million of expenditures; 70% of the next US$3.0 million; and 50% of the final US$3.6 million of expenditures. Disbursements against contracts for purchase orders of less than US$20,000 equivalent, expenditures for the incentive program, and incremental recurrent expenditures would be supported by Statements of Expenditures. All other disbursements would be made aginst full documentation. In order to expedite disbursement of funds under the project, a Special Account with an initial deposit of US$1.0 million would be established and maintained in the project entity's name in a commercial bank and would be replenished by the Bank in accordance with agreed procedures. Establishment of the Special Account would be a condition of disbursement for the project. Disbursements would be completed over a seven year period. The schedule of disbursements, which is found in the Project Summary, is based on the experience of the first project and on the project implementation schedule and coincides with the standard disbursement profile for Malawi. Monitoring and Evaluation 49. Detailed annual reports covering implementation of the project and annual budgets for the ensuing year would be prepared and submitted to the Bank. The Energy Unit would carry out an annual survey on fuelwood prices and production costs, which would provide the basis for determining the annual increase of stumpage rates. In view of the innovative character of the Project and the uncertainties related to untried Project elements such as the revenue collection, extension, and incentive programs, the  - 15 - semi-annual progress reports of the Monitoring and Evaluation Unit would focus on the performance of these project elements, and a full-scale mid-term review would be undertaken after three years of project implementation to identify any necessary revisions or corrections in the policy package. Auditing 50. The audited accounts, including the statements of expenditures, together with the auditors' reports, would be submitted to the Bank within nine months of the end of each financial year. Experience with the first wood energy project has shown that adequate audits have been produced and that a satisfactory system for financial management and control has been established. Production and Prices 51. Total fuelwood production under the project is estimated at approximately 230,000 m3 annually. Average annual production would represent about 6% of the current estimated annual fuelwood deficit. The increase in prices envisaged is expected to establish the conditions for additional spontaneous planting of fuelwood trees and reduction in consumption which would further reduce the fuelwood deficit. 52. Policies to make individuals bear the costs of wood consumption and enjoy the benefits of wood production would be established. The major instrument to achieve this objective would be a rise in the stumpage rate coupled with improved revenue collection and forest control systems to restrict commercial access to free wood. The ultimate objective is to establish prices which cover replacement costs and hence provide an incentive for private production of fuelwood. To this end, the Government raised the stumpage rate by 50% to MK2.70/stacked m3 in March 1986. Thereafter the price is expected to rise by an average 15% per year in real terms until the average replacement cost has been reached by 1996. The Government has provided assurances that it would implement this schedule of price increases and would make efforts to accelerate the increases so as to cover estimated replacement costs by the end of 1992. In order to compensate for the impact of the present price distortions on the profitability of establishing woodlots by individual farmers, seedlings would be sold at the rate of one tambala per seedling (compared to the estimated cost of five tambala per seedling) and incentives consisting of cash payments for each tree surviving two years after planting, or of similar payments in kind, would be provided by Forestry Extension agents to farmers. This incentive payment is necessary to encourage framers to plant fuelwood trees in spite of the low stumpage rate, but would be reduced and ultimately phased out as the price of fuelwood approaches actual replacement costs. Project Benefits 53. The economic analysis is based on the provision of the same quantity of fuel through the alternatives of (a) producing charcoal from  - 16 - the Viphya Forests, (b) continuing unrestricted exploitation of existing natural forests, or (c) using other sources of energy such as kerosene. It takes into account the increased transportation costs for alternatives (a) and (b), includes an estimate of the possible losses in agricultural productivity because of environmental destruction, and includes all project institutional development and support service costs as well as incentive payments. On this basis the overall economic rate of return is 26% compared to kerosene, 13% compared to use of Viphya charcoal, and 10% compared to depletion of the national forests. The 10% return is probably an underestimate since the project would provide additional unquantified benefits in the form of institutional development and policy changes with long-term effects. 54. The economic rate of return, compared to forest depletion, for the following project components, not including institutional costs, is as follows: government plantations (19% of project cost), 23%; and smallholder woodlots (15% of project costs), 43%. Because of their pilot nature, economic returns have not been calculated for the charcoal and stove improvement components. 55. Project benefits include the establishment of a total of 17,000 hectares, producing approximately 230,000m3 of fuelwood annually. These woodlots and plantations would help to lessen depletion of natural woodlands as well as protect soil and water resources. The project would also provide over 3.3 million man-days of employment for laborers. Finally, the introduction of more efficient charcoal production and stove tec'inologies would result in substantial wood savings. 56. The project would provide long term benefits for the poor, whose costs of energy would be lower because fuelvood production would be put on a sustainable basis and because the adoption of fuel-efficient stoves would lower household energy expenses. In the short term, increases in the stumpage rate would have little or no impact on the rural poor, who have access to free fuelwood. These increases could result in at most a real income decline of 5% for the urban poor, but the effect would be mitigated by the above mentioned long term benefits. 57. Average annual incremental budgetary allocations for the project would amount to NK4.8 million. The gross revenue accruing to the Government for wood cut on Government plantations, forest reserves and Customary lands is expected to reach over MK8 million by the sixth year of project implementation. Thus, from the budgetary point of view, the project would be self-financing. Project Risks 58. The principal risk of the project lies in the implementation of a comprehensive and new policy package, which includes increases in stumpage rates, establishment of new forestry extension and revenue collection systems, and temporary incentives for tree planting. If one of these  - 17 - elements fails to be implemented, then the project may be unable to achieve its objective of increased private production of fuelwood. The Monitoring and Evaluation Unit would therefore review the implementation of each of these components on an annual basis, and a full scale midterm review would be undertaken after three years of project implementation, to identify any corrections and revisions in the policy package which would be needed. There are also risks that collection of royalties at ACU's and RCP's as well as cash payments to farmers with surviving trees may pose a difficult administrative burden and also expose staff to pressures for misappropriation of funds. However, the Forestry Department to date has an excellent record of honesty and dedication. In addition, provision for training, staff rotation, cooperation with other authorities and regular monitoring by the above Unit would be made to help minimize these risks. PART V - RECOMMENDATION 59. I am satisfied that the proposed loan would comply with the Articles of Agreement of the Bank, and recommend that the Executive Directors approve the proposed loan. A. W. Clauisen President Attachments Washington, D.C. March 3, 1986  - 18 - l ALE SA PGE I LAL- mCL IWICAT DATA E ucmn~~~~ CUB?ENI -w mummy)i .LBMB I (MRICA NT DOLE Kb b = TjUC b LOUICOIR U RC KOMV a inaL maLb. SOM 0FP SANARA AMCk S. OIP SAARA AMEL Cin E. ,, TOTAL 118.5 Rise5 ts. ARC.I,ILTUAL 37.9 39.5 41.7 Cra cas Con) .. .. 210.0 238, 1063.3 m" u s.aens (CILOafb or OUL eqVu u) .. 33.0 46.0 62.3 531.5 70e1m -N nra STAIISTES VOSUL&flOfl.KID-Io CU01I3A5) 3529.0 S313.0 6626.0 0U3* OFOULATlON CS Of TOTAL) 4.4 6.4 11.1 20.1 32.0 PMATIoE IN Uut 20C0 (mu.) 11.4 STATIOIRT POPULATON (NELL) 38.0 POPULAno U 2.0 PtOPUAIO DEWIT PaR SQ. Ul. 29.8 38.1 55.9 33.2 *5.1 a SQ. KM. AR. IAUD 93.1 114.3 154.1 112.J 124.8 POUULATOAGE *3 ERDCTOIZ CZ) o-L4 US 43.5 46.8 47.1 46.0 45.6 15-4 us 52.0 30.8 48.9 50.6 51.5 65 A3D ADM 2.4 2.4 4.0 2.9 2.7 POU LAowm 0391 IA CZ) TOTAL 2.0 2.5 3.0 2.J 2.9 URANS 4.3 6.2 7.0 6.4 5.1 CRm nSM S CMTOs) 56.0 56.a 54.0 47.2 47.0 CUDE nAT MU cm fawsS) 29.7 28.0 23.0 17.8 15.0 GROSS EWUCTON RaTE 3.8 3.8 J.8 3.3 3.z PANEL! PUIANI ASPTOS. AERAL (TUaS) gSn (U OF HARRIS VOaS) .. .. 1.0 ft 3.3 4.4 FMAm D m nxz ES oP Mm PRa. nP R CADET (1969-71-100) 90.0 91.0 96.0 83.3 82.9 rEM cAmr uurPLT OF CAour CS OF RQUIqs lMTuS) 91.0 M.0 M.0 37.7 ".s wawmu (CCIAN a VW) 62.0 71.0 68.0 51.9 33.4 OF IIIUMIDAL A10 NIE 13.0 19.0 19.0 Ic 18.7 16.5 anlD (CaS 1-4) dA?E RAIE 32.7 50.3 38.0 23.1 16.6 OLSM LIPE SxCT. AT S111 (UM) 36.3 40.0 44.2 47.8 52.0 iNPN Dma. mu CPU Umm) 207.0 193.5 164.0 119.5 108.8 ACCESS TO SANE ATE (fle) TOrAL .. .. 41.0 id 27.1 42.4 uA .. .. 77.07 63.5 67.3 RURAL .. .. 37.01