Transcript of joint meeting of the Executive Directors of the IBRD and IDA, held on Tuesday, May 19, 1987 : Argentina - Trade Policy and Export Diversification Loan Project

STRICTLY CONFIDENTIAL ahl 1 INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT INTERNATIONAL DEVELOPMENT ASSOCIATION Washington, D. C. The meeting of the Executive Directors of the Bank and IDA convened at 3:30 p.m. on Tuesday, May 19, 1987, in the Board Room, 1818 H Street, Northwest, under the Chairman- ship of Mr. Barber Conable. MILLER REPORTING CO., INC. 507 C Street , N .E. Washington, D.C. 20002 I 2021 ,46-6666  STRICTLY CONFIDENTIAL ah2 2 C O N T E N T S AGENDA ITEM: PAGE 3. Proposed Loan - Argentina (A Trade Policy and Export Diversification Loan) Mr. Carling . . . . . . . . . . . . . . . 45 Mr. Draghi. . . . . . . . . . . . . . . . 4 7 Mr. Haxthausen . . . . . . . . . . . . 60 Mr. Malan . . . . . . . . . . . . . . . . : 67 Mr. Woodward . . . . . . . . . . . . . . 68 MILLER REPORTING CO., INC. 507 C Street, N .E. Wa.shington, D.C. 20002 ' 202\ 546-6666  STRICTLY CONFIDENTIAL 3 ah3 AGENDA ITEM: 3. (Continued) : Mr. Boehmer . . . . . . . . . . . . . . . 7 0 Mr. Yamaguchi ............. 72 Mr. Arlman ................ 75 Mr. Keating ............... 80 Mr. Soe Lin . .............. 84 Mrs. Rubio. . . . . . . . . . . . . . . . 88 Mr. Jembere ............... 90 Mr. Mar ion. . . . . . . . . . . . . . . . 91 Mr. Al-Sultan ....... . ..... 92 MILLER REPORTING CO., INC. 50 7 C Street , N .E. Washington , D.C. 20002 ( 202) 546-6666  STRICTLY CONFIDENTIAL ah42 42 Next we have the aforementioned loan to Argentina, Item 3 on the Agenda. It is a Report and Recommendation on a Trade Policy and Export Diversification Loan in the amount of $500 million equivalent to the Argentine Republic. Mr. Neuhaus, Assistant Division Chief, Western Hemisphere Department of the IMF, is attending this meeting. We are pleased to welcome him. Mr. Sokol of the LAC Region will introduce the proposal. Mr. Sokol, as you know, is the Country Economist. Mr. Sokol? MR. SOKOL: Thank you. Mr. Chairman, members of the Board, as background for the proposed trade policy and export diversification loan, I would like to report to you today on the goverrunent's economic policies and recent economic developments in Argentina. The challenge facing the government continues to be bringing down inflation while maintaining economic growth. MILLER REPORTING CO ., INC. 507 C Street, N .E. Washington , D .C. 20002 ( 202) 546-6666  STRICTLY CONFIDENTIAL ah43 43 Last year the government was successful in this effort. Real economic growth reached 5.5 percent following a 4.5 percent drop in 1984 while yearly inflation was brought from triple- digit levels during the last decade down to 80 percent. In early 1987, there was a resurgence of inflationary expecta- tions. The government, however, reacted inunediately. It introduced another wage and price freeze and tightened its monetary and fiscal policies. As a result, inflation was brought down from 8.2 percent in March to 3.5 percent in April of this year. The government has concluded successful wage negotiations with the trade unions and industrialists, thus containing wage pressures on prices. Now that inflationary expectations are subsiding and relative price are reasonably in line, the government is in a position to phase out the wage and price freeze again and to move to a system of flexible price administration. The government has initiated a far-reaching trade policy reform as a centerpiece of its structural reform program which would reverse the anti-export bias of the economy. The government intends to maintain the real e xc hange rate bay devaluing the Austral by the d ifference between domestic and international inflation based on a basket MILLER REPORTING CO., INC. 507 C Street, N.E. Washington, D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah44 44 of currencies. In its efforts to increase efficiency in the economy, the government has accelerated the pace of the trade reform and eliminated non-tariff restrictions by moving additional tariff positions equivalent to some 10 percent of the value of industrial production out of the prior consulta- tion list and into the automatic list, without increasing nominal tariffs. The government has also begin to phase out pre- export financing subsidies. Manufactured exports have been picking up as a result of the new policies. Beyond trade reforms, the government is moving into structural adjustment programs in the financial sector, energy, public sector rationalization,industrial incentives, and the elimination of price controls. The Bank strategy is to support the government's medium-term progr am of structural adjustment. The proposed Trade Policy and Export Diversifica- tion Loan which is before you today is the centerpiece of this strategy. This operation forms part of a concerted interna- tional effort. You will recall being advis e d recently of the conclus i on of negotiations on Ar g entina's 1987 fi nancial package covering rescheduling of about $30 billion of MILLER REPORTING CO., INC. 507 C Street , N .E. Washington , D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah45 45 existing debt and the provision of new money loans totally $1.9 billion. The commercial banks have expressed interest that approximately $500 million of their new money be provided as cofinancing with the proposed Trade Policy Loan. It is proposed that the cofinancing take the form of a traditional parallel cofinancing. The World Bank thus will not take on any exposure to the credit risk of the commercial banks. We believe that the proposed traditional, parallel cofinancing is feasible and appropriate in this case since it does not provide any form of security by the World Bank and leaves the Bank complete discretion regarding remedial action in the event of default. I might add that we have done several such tradi- tional, parallel cofinancing operations in the past, par- ticularly in the period prior to the introduction of the B- loan instruments. Thank you. MR. CONABLE: Thank you, Mr. Sokol. Mr. Carling will open the discussion. MR. CARLING: Thank you, Mr. Chairman. In looking at this loan, it is relevant to recall the discussion in the Board last Thursday of the World MILLER REPORTING CO., INC. 507 C Street, N.E. Washington, D.C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah46 46 Development Report. In that draft, Argentina was classified as one of the strongly inward-oriented economies, and the objective of this loan is to support the government's adoption of an outward-oriented strategy. The WDR provided strong support for such a shift, and there is every reason to believe that if implemented, it would be of major benefit to the Argentine economy. Indeed, Argentina seems to have little choice but to turn in this direction if it is to achieve economic growth with external debt alleviation. And the urgency of such policy action has been heightened by Argentina's terms of trade loss. It has been one of the economies hardest hit by the distortion of world agricultural markets. For these reasons this Chair supports the loan. I have to say, though, with some hesitancy, based on Argentina's very uneven economic policy record, that this raises a question about the government's ability to sustain desirable policy changes. In this regard, the trade policy reforms cannot be viewed in isolation. Accompanying structural reforms will help determine the effectiveness of the trade policy reforms while the pursuit of macroeconomic stabiliza- tion policies will be an important determinant of the sustainability of the trade policy reforms. The government MILLER REPORTING CO., INC. 507 C Street, N.E. Washington, D.C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah47 47 will need to be committed to policy changes in all these areas, and it is appropriate that the continuation of stabilization policies will be a condition for the release of the second tranche of this loan. Even after this package of trade liberalization measures is implemented, substantial trade distortions will remain. A second-stage trade policy loan is foreshadowed. This gradual approach is a defensible strategy, but clearly, Argentina's commitment to policy reform under the current program will determine whether a second loan is possible. Finally, Mr. Chairman, the course that Argentina is embarking upon involves a 180-degree shift from the policies of the past, and we wish the Argentine authorities well as it works towards an outward economic orientation. Thank you. MR. CONABLE: Thank you, Mr. Carling. Mr. Draghi? MR. DRAGHI: We wish to express our strong support for this trade policy loan to Argentina. We fully share the objectives of the program and welcome the adoption of an outward-looking strategy to improve export competitiveness and to increase the efficiency of the Argentine industry. This Bank loan is the right complement to the MILLER REPORTING CO., INC. 507 C Street, N .E. Washington, D.C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah48 48 successes of Argentina's government in dealing with the extremely difficult economic situation, and the macroeconomic indicators speak quite clearly. Differently from other countries of the area, between '83 and '86, the debt service to export ratio has decreased from 134 percent to 76 percent. The debt service to GDP ratio has likewise decreased from 20 to about 9 percent in the same period of time. The adjustment effort has been massive, with great sacrifice of investment expenditure and an impressive reduction in the budget deficit. We believe that this loan constitutes a fundamental stage in the collaboration between the Argentine government and the Bank which can play a key role in the country's economic recovery and future development, and we are strongly in favor of further lending to support Argentina's efforts to achieve sustained and satisfactory rates of economic growth. However, we would like to make some specific observations on the project. The first is on the social impact; the second, on procurement ; the third, on the conditions for the release of the second tranche; the fourth, on the medium-term framework. The social impact analysis fails to address the issue of unemployment resulting from reduced protection. The MILLER REPORTING CO., INC. 507 C Street, N .E. Washington , D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah49 49 restructuring of Argentine industry toward more export- oriented activities will certainly create new jobs, but it will force rationalizations in the protected sector. In the short run, this is likely to entail a serious job relocation problem with budgetary and social consequences that are not discussed in the document, and we would like to have staff opinion on this subject. On procurement, the document recommends retroactive financing. It is our understanding that in the case of adjustment loans, according to the Operation Manual statement 2.01, Annex D, retroactive financing is normally not to exceed more than 20 percent of proposed Bank lending. It seems that the document does not mention any such limit. We would like assurances from the staff that no more than 20 percent of the loan will be applied toward retroactive financing. On the second tranche, Annex III states that one of the conditions for the release of the second tranche of the loan would be, "evidence satisfactory to the Bank that the government's macroeconomic policy framework including its external borrowing policy is consistent with the trade policy reform program being supported by this loan." We find this condition somewhat vague and would MILLER REPORTING CO., INC. S07 C Street, N.E. Washington, D.C. 20002 (202) S46-6666  STRICTLY CONFIDENTIAL ah50 50 have preferred a more explicit and monitorable formulation. On the medium-term framework, section 2(a) of the document shows room for improvement. First, the projections presented are based on a framework paper prepared by the Argentine government, but no indication is given to the reader about what this framework paper says or where it can be found. Second, no comparison is made between the projected macroeconomic indicators for '87-'91 and the pre-crisis performance of the Argentine economy. Indeed, Table 1, page 7, contains no data preceding 1983. Third, Paragraph 26 makes two claims--first, that the overall debt service ratio has been projected to decline from 76 percent in '86 to 62 in 1990; and second, that the major improvements will become apparent during '91-'95, when around 75 percent of interest payments could be met by the surplus in the resource balance. However, on the first claim, Table 1 shows that the debt service ratio improves only until 1988 and that by 1991, we are back to the very high 1987 level. And on the second claim, there is no way to say anything since Table 1 projec- tions end in '91. Thank you, Mr. Chairman. MILLER REPORTING CO., INC. 507 C Street, N.E. Washington, D.C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah51 51 MR . CONABLE: Thank you, Mr. Draghi. I think Mr. Scherer wishes to answer the question about retroactive lending. MR. SCHERER: Yes, Mr. Chairman. We face in Argentina a statistical problem that does not allow to produce the document that is required in order to disburse a policy-based loan quickly in time. For this very reason--and if you want me to elaborate--the information that the World Bank requires includes, among other s, the origin, for example in the United States, of the different--excuse me--the requirements that the World Bank has for documentation in order to disburse are very specific. And in Argent ina, the Central Bank collects one set of information and the commercial banks, another set of informa- tion, and it takes about three months to reconcile this infor mation. And for this very r e ason, in order to allow the government in view of the urgency to make the loan available, it was agreed to backdate the retroactive financing to March 1st. MR. CONABLE: Mr. Sokol, do you wish to comment? MR. SOKOL: Thank you, Mr. Chairman. With r egar d t o the social impl i cat ions of the program, the program has been designed in such a way as to MILLER REPORTING CO., INC. 507 C Street, N .E. Washington, D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah52 52 have positive effects in terms of social implications. First, consumption per capita is projected to increase by over one percent per year, on average. Second, the program has not been produced to produce unemployment. This is a very important part of the gradual nature of the liberalization effort; it will allow firms sufficient lead time to restructure their operations and to adjust to international competition. And the initial effects that we have been able to observe from the liberalization that has already taken place points to this direction. There have been so far no adverse employment effects. Third, the expansion of exports will increase capital utilization and productivity for workers, leading to increases in real wages coming out from productivity in- creases. And fourth, the expansion of output is likely to create new job opportunities. With respect to the macroeconomic policy framework paper that the Argentine government has prepared, the paper is available upon request, and we would willingly make it available to the Board. MR. SCHERER: One might add to this that the Minister of Economy in a recent statement said that only the MILLER REPORTING CO., INC. 507 C Street, N.E. Washington, D.C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah53 53 opening of Argentina to the international world economy would allow the population to increase consumption and improve its well-being. And one could say that during the period while Argentina's economy was highly protected, industrial employ- ment was reduced by a full one-third without major negative social consequences other than those implied by the general reduction in economic growth. MR. SOKOL: With respect to the assessment of the macroeconomic policy framework as a condition for second tranche release, in Annex IV, page 1 of the Summary of ? Implementation of Trade Policies, we indicate a satisfactory assessment of 1986 performance and 1987 plans in fiscal, exchange rate, trade, public investment and external borrowing policies. With respect to the projected debt service ratio, the debt service of exports--debt service ratio--Table 3, Annex VI, shows that from 79.5 in '85, we moved to 62.3 in 1990 and to 54.3 in 1995. MR. SCHERER: Yes. The reason why in two years, the debt service ratio would go up is that some grace periods would expire, and at that time, some payments of principal on some important loans were left to be made. MR. CONABLE: Thank you, Mr. Scherer and Mr. Sokol. MILLER REPORTING CO., INC. 507 C Street, N.E. Washington, D.C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah54 54 Mr. Draghi, do you want to follow up? MR. DRAGHI: Yes, definitely. I have the feeling that I have not received full or satisfactory answers, so I will simply list where I am not yet satisfied, and we can continue the conversation at another time. MR. CONABLE: Thank you. MR. DRAGHI: On retroactive financing, the answer said that basically, there were reasons--which I did not fully understand, in fact--that there are reasons for backdat- ing the disbursement time to March 1st. But I asked a different question. I asked whether this retroactive financing was going to exceed the 20 percent, which is the Bank's rule, or was within the 20 percent. So I would like to be reassured that it is within the Bank's rule. On the social impact, the answer said that this program allows an increasing consumption per capita by one percent. Now, how much is the projected income per capita growt h rate in the period considered? I f it is more than one percent, we have a decline in the average propensity to consume. So to say that consumption per capita increases by one p ercent does not imply necessar ily that the program has no social impact. MILLER REPORTING CO., INC. 507 C Street, N .E. Washington, D .C. 20002 ( 202) 546-6666  STRICTLY CONFIDENTIAL ahSS 55 Third, I am fully convinced that outward-looking programs have a positive effect on employment in the long run, but everywhere in the world, they have more or less serious transitional costs, and this was my question--how does the project deal with the transitional costs, unavoidable transitional costs, caused by this program in the short run. And finally, on the last point on debt, I was simply observing two data in ~he same document which did not agree with each other. In one part of the document, Para- graph 26 gives certain numbers for the overall debt service ratio. In fact, it says that it declines from 76 percent in '86 to 62 percent in 1990. But then, when we go to Table 1, it gives a different number for the debt service ratio. So that is the only thing I was saying. MR. CONABLE: Mr. Karaosmanoglu would like to take part of that. MR. KARAOSMANOGLU: On the retroactive financing, Mr. Draghi, we usually try to keep within those limits. But in this particular instance, in view of the urgency o f the situation and the difficulties in providing the necessary documentation which would cover the disbursement of amounts which would b e necessary to have the financial package arrangements to work, we will have to go beyond 20 percent. MILLER REPORTING CO., INC. 507 C Street, N .E. Washington, D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah56 56 MR. CONABLE: To how much? Mr. KARAOSMANOGLU: To the full amount of the first tranche. MR. DRAGHI: I would consider this as quite an extraordinary precedent that would deserve a much fuller discussion than being simply sort of slipped under the rug this way, no--don't you think so, Mr. Chairman? MR. CONABLE: Mr. Scherer? MR. SCHERER: As I mentioned earlier, some countries have better statistical information, and this information allows the immediate drawdown of a policy-based loan, which is the intention; whereas in Argentina, the statistical set- up does not provide to give this information in a short period of time. And for this very reason it was considered prudent and consistent with the purpose of the loan to allow accumulating import receipts since March the 1st to allow that this loan would be disbursed pretty rapidly after it has been declared effective. MR. CONABLE: Mr. Draghi? MR. DRAGHI: I definitely think this is a very important point which will deserve much fuller discussion. Thank you. MR. CONABLE: Mr. Karaosmanoglu, do you have MILLER REPORTING CO., INC. 507 C Street, N .E. Washington, D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah57 57 anything to add? MR, DRAGHI: The statistical answer is frankly--! don't think that Argentina's statistical system is worse or better than many other countries to which we give policy- based lending, in which case we are not applying retroactive financing to such an extent. Thank you, Mr. Chairman. MR. KARAOSMANOGLU: I would just like to assure Mr. Draghi that there is no intention of sweeping anything under the rug. I mean, there is a situation here where a financial package has been worked out, and there is an immediate need of the country to have the access to foreign exchange resources. A certain program has been put in place, and for the carrying out of that program with the minimum cost, the ability to disburse in a short period of time is essential. We could have done it in a longer period of time by making sure that the necessary documentation has been prepared, but then it would not be realistic in terms of the circumstances that are met. As I said, we tried not to go beyond the 20 percent limit, but this is a case where we have to make an exception. A longer and fuller discussion o f this, we can do on a general basis. MILLER REPORTING CO., INC. 507 C Street. N .E. Washington, D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah58 58 MR, CONABLE: Mr. Sokol? MR. SOKOL: Mr. Chairman, to clarify the differences in Table 1 on page 7 and Table 3 on page 53--Table 1 on page 7 relates debt service to exports of all goods and services; while Table 3 on page 53 relates debt service to exports of goods and nonfactored services. That is why there is a difference between the figures in one table with the figures in the other table. MR. CONABLE: Mr. Scherer, did you want to add anything further? MR. SCHERER: No. MR. CONABLE: Mr. Draghi? MR. DRAGHI: The problem concerning retroactive financing, I insist, is quite serious. This is a major change in our disbursement policy. And it is not a light exception; it is a $500 million loan. And this has not been explicitly stated in the document. As this discussion has shown, I had to ask a specific question about the amounts. So I would simply want to alert my colleagues on this point. And if we decide, if we realize, that structural adjustment lending requires retroactive financing to such an extent, then we should have a policy discussion on this point. We cannot go on with-- MILLER REPORTING CO., INC. 507 C Street, N.E. Washington, D.C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah59 59 MR. CONABLE: Mr. Haxthausen, on this point. MR. HAXTHAUSEN: We wish to fully support Mr. Draghi. I think it is astonishing that we find that here, we do not follow established rules. And if it should be necessary to change the rules or to make an exception here, then we should have been informed of it in a less casual way. Thank you. MR. CONABLE: Mr. Yamaguchi, on this point. MR. YAMAGUCHI: Thank you, Mr. Chairman. I share entirely wi th Mr. Draghi and Mr. Haxthausen. Thank you. MR. CONABLE: Mr. Soe Lin, on this point? MR. SOE LIN: Yes. We would also like to a dd our support to Mr. Draghi's point on this issue, particularly because of the size of the loan and because of the importance that the loan plays in the structural adjustment process f o r Argentina at this stage. MR. CONABLE: Mr. Al - Sultan? MR. AL-SULTAN: Mr. Chair man, I fully support t h e approach t aken by management in being flexible, particularly in the circumstance s of a count r y that is taki ng particular adjustme nt policies. If the fa ult is that it is not i n t he document s, I MILLER REPORTING CO., INC. 507 C Street, N .E. Washington, 0 .C. 20002 ( 202) 546-6666  STRICTLY CONFIDENTIAL ah60 60 suggest it be put in the documents. But I think that the major policy issue should be passed on. Thank you, Mr. Chairman. MR. CONABLE: Are there further comments on this point? There are other people who wish to be heard on the issue generally, so let us continue with the discussion. Mr. Haxthausen? Mr. HAXTHAUSEN: Mr. Chairman, we welcome and can support this trade policy and export diversification loan in support of Argentina's structural reform program. I have, however, a number of comments regarding this very big loan of half a billion U.S. dollars. Firstly, the economic situation in Argentina and the government's economic policies have been fairly unstable in recent years. Given the unstable environment of the reform program and the magnitude of the loan, I would certainly much have preferred smaller tranches--for instance, $200 million in the first tranche followed by three tranches of $100 million each, on the condition of a satisfactory implementation of the program. Secondly, given the mixed experiences from the past, I find it essential to stress the need to limit the use of the loan to cover only imports that are essential for MILLER REPORTING CO., INC. 507 C Street, N .E. Washington, D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah61 61 increasing productivity and economic growth. This is necessary in order to draw the line between supporting Argentina's medium- and long-term development, which is the Bank's business, and plain balance of payment support, which is not the Bank's business. On that point, I would like to know if there is a specific list of which products can qualify for financing under the program. Thirdly, I note it is the overall ambition of the Argentine government to alleviate poverty. I wonder to what extent it would have been appropriate within the context of this loan to target projects for poorer groups or the poorest groups, to protect them during this adjustment period. Fourthly, I assume that this loan will basically affect urban areas. I would like to ask if this loan to any significant extent will also affect rural areas. Finally, I note that the figures for the debt service in the report exclude short-term principal repayments. Is nonpayment of this short-term debt something which is agreed upon by the creditors, and how much is it in relation to total debt? Thank you, Mr. Chairman. MR. CONABLE: Thank you, Mr. Haxthausen. MILLER REPORTING CO., INC. 507 C Street, N .E. Washington, D .C . 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah62 62 There are some additional questions for you gentlemen. Would you please respond? MR. SOKOL: Thank you, Mr. Chairman. The loan will finance imports which have been freed. And in this category, there is the whole temporary admission regime, which are inputs and machinery required for export production. So the loan is designed in such a way that the imports come in which are necessary for growth and which are necessary for the production of exports. The project will affect the whole country. Since these are broad-based policies, it will affect both the rural and the urban parts of the country. However, it is very important to note that the trade liberalization program of the Argentine government has as a key element the maintenance of an adequate exchange rate. And this is very, very crucial to the loan. Therefore, it enables the Argentine economy to compete with foreign goods, and the exchange rate at this point, as of the end of March, was a good exchange rate; it was in real terms about the level of the real exchange rate following the introduction of the Austral Plan. MR. CONABLE: Thank you. Mr. Scherer? MILLER REPORTING CO., INC. 507 C Street, N.E. Washington, D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah63 63 MR. SCHERER: Mr. Chairman, I would like to answer the question on the loan amount, on the social effects of the program, and on the questions with respect to the figures. With respect to the amount of the loan, it should be recalled that the trade reform signifies a drastic departure in Argentine economic policies. It is the center- piece of the government's reform program, and as a reflection, it is also the centerpiece in the World Bank's lending program towards Argentina which, as you know, should reach about $2 billion over calendar year '87 and '88. The amount of the loan is large, but it is, as I said, not only a very important element, in fact, the most important one of our lending program, but it also constitutes a very powerful signal to the commercial banks during their deliberation on the new financing package that this reform being undertaken by the government will allow Argentina to grow, while at the same time strengthening the debt-servicing ability of the country in the medium term, and thus make Argentina a most attractive client in the medium term. With respect to the social effect of the program, it cannot be said at all that the opening of the economy will lead to massive unemployme nt; quite on the cont r ary. Those firms that are highly capital-intensive and ine f ficient will MILLER REPORTING CO., INC. 507 C Street, N .E. Washington, D .C. 20002 ( 202) 546-6666  STRICTLY CONFIDENTIAL ah64 64 be hit first, and the employment in these companies typically is very low, whereas the companies that are labor-intensive in fact are expected to benefit from the reform of the trade regime through increased exports. And as Minister Surial (phonetic) has said, the opening of the economy is a sine qua non for improving the well-being of the Argentine population, and it is in fact not expected that in the short-term there will be major social negative consequences. With respect to--there was a question with regard to the figure, which I now-- MR. HAXTHAUSEN: Sir, in the figures on the debt service, ther e is c r ude short-term princ i pal repayment . MR. SCHERER: If you would be so kind as to refer to Annex I, page 3. There, the short-term debt is indicated i n a s e parate item, and it i s clear that short-term debt is a f airly small share of total Argentine debt--below 10 percent. MR. HAXTHAUSEN: But my quest i on was, this non- r epayme nt, is that something that i s agreed upon with credit ors? MR. SCHERER: The short- term debt, o f course , would be r epaid, and Argentina in its agreement with t he Interna- t ional Moneta ry Fund c ommitted to repay quickly a ll a rrea rs MILLER REPORTING CO., INC. 507 C Street, N .E. Washington , D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah65 65 and, of course, the short-term debt as it falls due. MR. CONABLE: Mr. Haxthausen? MR. HAXTHAUSEN: Excuse me for reverting. I did not say that the loan was too big. I think that for a big country like Argentina and its present situation, it is very adequate. But I said it would be more prudent not to pay out half of the loan now and then half of the loan perhaps in six months' time, but it should be tranched a bit more to have some leeway. MR. CONABLE: Mr. Gay? MR. GAY: Thank you, Mr. Chairman. I think to come back to the question on the amount of the loan and the tranching, as Mr. Scherer has said, and as we said in our opening statement, this is really a key structural reform in Argentina. It is the major, if you like, part of the entire adjustment program for the country. Now, the loan is large indeed, but we wanted to express our full support to the government of Argentina, who has embarked on this very difficult adjustment program, and this is why we made this loan perhaps a little larger than usual. Now, why only two tranches? Again, Argentina is faced with very important difficulties, and needs to have MILLER REPORTING CO., INC. 507 C Street, N .E. Washington, D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah66 66 foreign exchange available in particular because the terms of trade recently in recent years, as you know, because Argentina is a major trader in wheat, and the terms of trade have been adverse to them, so they do need reinforcement in foreign exchange, and that was again a reason why this loan was made as large. For the same reason, we did not think it would be advisable to have several tranches. Normally in a loan like this, we have two tranches, and we didn't feel that we should have more than two, because we are fully confident that the government will indeed pursue the structural adjustment program as agreed, and in fact, we are confident that i t will pursue i t in the following three years. And as you know, as a second tranche condition, we are in fact working already with the government to go beyond what they have agreed in this loan. MR. CONABLE: May I ask with respect to the second tranche, will there be more documentation available? Mr. Draghi's point is an important one about the manner in which these things are presented. I think i t appears that there has been some slipping over of the normal rule on such things, and I think the Board needs some reassurance on this. Yes? MR. GAY: Well, on retroactive financing, you know, MILLER REPORTING CO., INC. 507 C Street, N .E. Washington, D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah67 67 as Mr. Scherer has explained and for the reasons that he has stated--and we discussed this at length--we had decided that in order to be able to accelerate the disbursements, which after all is the fundamental purpose of this kind of opera- tion, and given that there are these difficulties of collect- ing information in Argentina, trying to postpone, if you like, the period before which they can in fact collect information, which appears to be retroactive financing, but really is not, because in fact it is only to collect all this information that we need this very long-time period. MR. CONABLE: Well, thank you. Let's move on with other questions. I'd like to be sure the Board all has a chance to participate. Mr. Malan? MR. MALAN: Thank you, Mr. Chairman. I should like to commend the Argentinean government and in particular its outstanding economic team for what has been, given the stringent economic constraints under which they have been operating, a remarkably promising p e rformance since the emergence of the democratically-elected administra- tion of President Raoul ? I should also like to commend the World Bank staff, in p a rtic ular Me ssrs. Ernes t Stern, David Knox, Mr. Gay, MILLER REPORTING CO., INC. 507 C Street, N.E. Washington, D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah68 68 Peter Scherer, and Jose Sokol, for their clear understanding of the nature of the constraints faced by Argentina and for their ability to focus on immediate, pressing policy problems without losing a longer-term view of World Bank-Argentine partnership in the promotion of economic, sound and broadly- based economic development. Flexibility and judgment are absolutely indispensable here. What matters most is the perception of the sense of direction in which things are moving, and I do believe the recommendation before us indicated they have been moving in the right direction. The particular loan proposal before us has unequivo- cal merits and plays a central role in Argentina's comprehen- ( sive program of economic policy reform. This loan deserves the full and hearty support of this Chair. Thank you, Mr. Chairman. MR. CONABLE: Thank you, Mr. Malan. Mr. Woodward? MR. WOODWARD: Thank you, Mr. Chairman. This loan provides very welcome support for a critically important part of Argentina's efforts at structural reform. As the paper notes, the Argentine economy has great potential in both resource and skill-intensive sectors, and MILLER REPORTING CO., INC. 507 C Street, N.E. Washington, D .C. 20002  STRICTLY CONFIDENTIAL 69 ah69 the trade reform associated with this loan will make a major contribution to the effective development of these sectors for export. I would agree that the need is for a gradual approach to trade liberalization, as there is a limit to how fast the economy can adapt effectively to the substantial changes in economic incentives this will imply. Political opposition would also be a significant barrier to faster implementation. However, it is important that political pressures be resisted and the momentum of reform sustained in the long term as well as the short term. The measures to be taken under this program are only a first step on a very long path toward external viability. I would note that the authorities have been very slow to implement trade reform so far. The process should have been well-started under the last IMF program, but in the event, progress was very limited. The delays so far make it all the more important that the authorities now move ahead firmly and decisively with trade reform. I would also like to stress that the mainte nance of appropriate macroeconomic policies will be of critical MILLER REPORTING CO., INC. 507 C Street, N .E. Washington , D .C. 20002 (?O?) c;;dh.hhhh  STRICTLY CONFIDENTIAL ah70 70 importance to the success of trade liberalization, particular- ly a flexible exchange rate policy. The inclusion of satisfactory macroeconomic policies as a condition for release of the second tranche is therefore very welcome. Finally, this Chair would welcome an assurance that there will be no discrimination against individual suppliers and procurement decisions under this loan. And I would also echo Mr. Draghi's concerns about retroactive financing, particularly as we have some doubts about procurement policies under the temporary admission regime in the recent past. Thank you, Mr. Chairman. MR. CONABLE: Thank you, Mr. Woodward. Mr. Boehmer? MR. BOEHMER: Thank you, Mr. Chairman. It is with great pleasure that we recognize the strong commitment of the Argentine government to develop and implement its far-reaching macroeconomic adjustment program. We take from the government's policy statement included in Annex V of the document that important parts of the overall program have been success f ully impleme nted already. MILLER REPORTING CO., INC. 507 C Street, N.E. Washington , D.C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah71 71 We strongly support the proposed trade policy and export diversification loan as an integral part of the medium-term macroeconomic policy package because the trade policy reform program is crucial in bringing about the opening of the Argentine economy, the very much-needed improvement in the balance of payments, and the strengthening of the country's creditworthiness. The opening of the economy should result in making the economy more competitive internationally and permit more liberal forms of trade relations with the outside world and also with its neighboring countries. I think that the World Bank is on the right track in supporting the Argentine government strongly in its economic reform efforts. By providing its support in a quick, clear and consistent manner, the Bank is giving the right signals to the other institutions, particularly the commercial banks, and I welcome the intention by commercial banks to cofinance part of the loan. Moreover, the Bank support could constitute an effective followup to the discussions with the IMF. I hope that the other parties involved make their contribution as efficiently and timely as the World Bank. Let me conclude in commending management and staff MILLER REPORTING CO., INC. 507 C Street, N.E. Washington, D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah72 72 for the very excellent policy lending work that they have done in this case of Argentina. Thank you. MR. CONABLE: Thank you, Mr. Boehmer. Mr. Yamaguchi? MR. YAMAGUCHI: Thank you, Mr. Chairman. I support this proposal and appreciate Argentine authorities in struggling against the difficulties they face and welcome the introduction of parallel cofinancing, even though it was not mentioned precisely. As my colleagues have already expressed and discussed on the project itself, the lending itself, let me express my observations on Argentine government policy on economic adjustment. Annex Von page 42 eloquently mentions how the government wants to handle economic policies. I appreciate highly the spirit of meeting the tranche. However, I have some doubt on the policy. Of course, this is my personal view. First, on wage. Of crucial importance for Argentina is to restore competitive ness f or export and to curb infla- tion , there is no doubt. I th i nk es sentia lly i mportant a t this stage is to endure lower wage, because only by e nduring MILLER REPORTING CO., INC. ~07 C Streec, N .E. Washington, D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL 73 ah73 lower wage by many workers can the Argentine economy overcome inflation and restore international competitiveness of export products. The fact that many labor unions achieved agreements outside authorized wage ? , and the fact that the government thinks that--! quote--"Argentina cannot compete in terms of low wages because there has been no historical experience, and a low wage would endanger social cohesion, et cetera." With these two facts, I was very disappointed. I hope the governme nt will change the basic philosophy on wage. Without some reasonable cost, whatever it may be, wage or budget outlays, et cetera, it would be very difficult to reconstruc t the Arge ntine economy. Second, on meat. Traditionally, Argentina has been a very strong meat exporter to the world market, if I understand correc tly, and Ar gentina is still e xporting sometimes even to the USSR. As a cause of inflation, the policy letter says that t he supply of foods t u ff s did not increase in para l l el. An example was meat, where prices rose much more than the average consumer price increase as a r esult of the gap b etween suppl y and demand. I wonder about this, because one of the strongest MILLER REPORTING CO., INC. 507 C Street, N .E. Washington , D .C . 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah74 74 comparative advantages which Argentina is enjoying is categorizing, in other words, meat production. I cannot understand why such a thing happened. Probably occasional resources or relevant policy might be wrong. In my view, bare necessities, foodstuffs and meat for workers and citizens should be provided by giving enough investment at low reasonable prices, because this is a fundamental of the national economy. I feel disappointed at this in two senses--in one sense, that Argentina may not invest enough to foster and strengthen the comparative advantage; in another sense, that this high meat price causes to push up the cost of living of workers and citizens and leads to high inflation. And it did happen in 1984-85. In conclusion, Mr. Chairman, inflation is a real problem for Argentina. It disrupts sound and positive investment, and also it is giving adverse impact to stable and growing production. But in order to suppress persistent inflation in Argentina, I have some doubt on the wage policy and meat policy of the country because this might be making a main component or vicious circle of the country economy. If I am wrong, probably I may be corrected by Mr. Camarasa. MILLER REPORTING CO., INC. 507 C Street, N.E. Washington, D.C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah75 75 Thank you, Mr. Chairman. MR. CONABLE: By Mr. Camarasa or by the staff. Don't put Mr. Camarasa on the spot here, sir. Is there any comment from Mr. Sokol? ' MR. SOKOL: Mr. Chairman, two points on the wages. The Argentine worker has suffered a major deterioration in real wages over the last 15 years. In wage agreements, what the government wants to move to is to collective bargaining so that the market determines the price of labor. With respect to meat, the corresponding paragraph in the Minister's development policy letter was explaining the causes of inflation, and meat weights very heavily in the price index, for two reasons. One is Argentines consume-- that is the staple food--consume 100 kilos of beef per capita. The other is that the description of the Minister's letter, what really behind it is it coincides with the cattle cycle where production was at its lowest. Therefore, demand was high, and supply was not corresponding to the increase in demand, so prices went up. Thank you, Mr. Chairman. MR. CONABLE: Thank you very much, Mr. Sokol. Let us move on. Mr. Arlman? MR. ARLMAN: Thank you, Mr. Chairman. MILLER REPORTING CO., INC. 507 C Street, N.E. Washington, D.C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah76 76 Like Mr. Malan and Mr. Boehmer, I can support the proposal before us. Lacking their eloquence, I will say that in slightly simpler terms. There is obviously a very positive turn in Argentine policies which should be welcomed, should be reinforced and strengthened. And I appreciate that in the document, the risks involved have also been discussed and will be very closely monitored. Mr. Chairman, Paragraph 27 and 28 of the document before us provide a brief overview of a number of structural reforms already undertaken. I think that is an extremely important paragraph, and more importantly is what is in those paragraphs, which I support and welcome very much. Obviously, for obvious reasons, I also support very much the last few lines, where it is said that they have agreed on a framework to settle an investment dispute regarding ownership and operation of the Center-West gas pipeline. I hope and trust that the Argentine authorities will see to it that the speedy resolution of this and any other outstanding problems will be found quickly. I do have one or two questions, Mr. Chairman. One is on the amount. I do take what staff said on the sign that has to be provided to various interested parties. But r MILLER REPORTING CO., INC. 507 C Street, N.E . Washington, D.C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah77 77 haven't heard any justification or to put it more precisely, any criteria for the amount. I am not against the $500 million. I would not be against $600 million or $400 million. But I haven't heard anything that basically gives a criterion for why this amount, and to what is the amount related. And I would like to hear a bit more about that. In general, by the way, Mr. Chairman, I would like to underline and echo what Mr. Haxthausen said about tranch- ing. On the various points that Mr. Draghi made, I generally would support him. On the retroactive financing, I would just like to note that some of my authorities would see this as a precedent which they would welcome, and some of my authorities would see this as a precedent which should not be a precedent. That is another way of saying, Mr. Chairman, that I would welcome very much to have a policy discussion on this. And I think Mr. Draghi had a point when he said that the issue should have been presented more clearly instead of perhaps giving the impression of wishing it away between the lines. On the conditionality, Mr. Chairman, I think Mr. Carling and Mr. Draghi and others have spoken already, but I do have one detailed question. MILLER REPORTING CO., INC. 507 C Street, N.E. Washington, D.C. 20002 {202) 546-6666  STRICTLY CONFIDENTIAL 78 ah78 Mention is made, as for instance on the first page, of the formulation of an action program of trade reform for the second phase. That obviously is a different second phase than the second tranche of the disbursement. But neverthe- less, r would like to have some elaboration on how far this action program should be as part of this operation. Or, to put it in other words, how do we bind the Argentine authori- ties in their intentions that they have today and the intentions that we think they should have in, say, two or three years' time? Thank you. MR. CONABLE: Thank you, Mr. Arlman. Would you deal with that question, Mr. Sokol? MR. SOKOL: Yes. There is the development policy statement. There is mention of an Argentine program; there is mention to undertake the trade liberalization effort of eliminating most QRs over a three-year period equivalent to about 80 percent of the value of industrial production. There is also mention for those tariff positions which are moved out of the QRs to have a maximum terminal tariff of 40 percent and a minimum terminal tariff of 10 percent over a three-year p e riod. There is also mention to the phasing out of export MILLER REPORTING CO., INC. 507 C Street, N .E. Washington , D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah79 79 subsidies, but that is during this first phase. MR. CONABLE: Thank you. Mr. Scherer? Mr. SCHERER: Yes, I would just like to add to what Mr. Sokol said. The action program would not be binding the government in the sense of commitment, but it would provide for a continued dialogue between the Argentine government and the World Bank to analyze in more detail the structural effects that the opening of the economy would have on some of the sectors that will be more deeply affected, the concern with respect to unemployment, and major structural imbalances would have to be analyzed before the government, of course, would like to make a commitment on how to proceed. MR. CONABLE: Mr. Karaosmanoglu, yes, about the amount, the $500 million. MR. KARAOSMANOGLU: This question about how do we define amount in these types of loans has been raised several times at the Board. I am afraid I have to repeat the same answer which we tried to give. This is not based on a mechanistic formula whereby we can relate it directly and systematically to either balance of payments gap or a growth figure or something which can be defined precisely. It has to be on the basis of a judgment in relation to both the MILLER REPORTING CO., INC. 507 C Street, N .E. Washington , D.C. 20002 ( 202) 546-6666  STRICTLY CONFIDENTIAL ah80 80 balance of payments prospects, the size of the country, the strength of the program, and the size of the overall program of the Bank in the country. In that sense, you have to see it as the best judgment of the people who are working on Argentina, in consultation with the Argentinean authorities, to respond to the needs of the present situation. Therefore, you have to take into account the possibility of tranching, or the nonexistence of possibility of tranching, as well as all other factors, and come to a basically judgmental conclusion. There is no formula, and if you press us to develop a formula, it has to be somewhat artificial and mechanistic a formula, which would not be satisfactory to any of the parties involved. MR. CONABLE: With respect to the issue of retroac- tivity, I would like to make a statement about some historical analysis of that that has been made by staff. I would prefer to hold that, though, and not interrupt the train of inquiry about this particular loan, and I would do this at the end o f the discussion. Mr. Keating wishes to be recognized. MR. KEATING: Thank you, Mr. Chairman. We support this loan, and we commend the Argentine MILLER REPORTING CO., INC. 507 C Street, N .E. Washington , D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah81 81 authorities for their continuing efforts to open up the economy of their rich and vital country. We believe that by removing trade barriers and restoring export incentives, not only will the economy become more efficient, but that structural tendencies toward high inflation will be restrained as well. Thus we view this loan as an excellent first step in advancing the process of trade reform. However, I do have some comments and questions. In going through Paragraph 59, entitled "Phasing Out Import Restrictions", it would seem that at the end of this loan period, that tariff positions equivalent to over 41 percent of the value of production would still be protected by quantita- tive restrictions. And we would hope that this degree of protection would be reduced. In addition, while we consider tariffs superior to quantitative restrictions, we are concerned that the ultimate tariff positions may be too high. In going through Paragraph 60, entitled, "Reduction of Import Controls and Import Tariff Levels and Structure", the loan document doesn't specify what the distribution of tariffs would be for goods moved out of quantitative restrictions into the 10 percent to 40 percent band, and what criteria , therefore, will the Bank use in MILLER REPORTING CO., INC. 507 C Street, N.E. Washington, D.C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah82 82 approving the government's schedule to reduce tariffs to this particular tariff band? Also, what plans are there to reduce tariffs on products already free of quantitative restrictions? And inasmuch as trade liberalization and an appropriate exchange rate are closely interrelated, we of course see the need expressed in the report for an evaluation of the competitiveness of Argentina's exchange rate as a condition for the second tranche. A final comment is that this loan does not address Argentina's use of subsidized export financing, but we understand that a subsequent loan will tackle this issue and that a study of Argentina's export financing system will be prepared shortly as background for this loan. Thank you. MR. CONABLE: Thank you. Mr. Sokol? MR. SOKOL: Thank you, Mr. Chairman. The Argentine government would be moving tariff positions during this first phase, the first year, equivalent to 58.5 percent of the value of industrial production to the fully automatic list. The government has indicated in its policy statement that it plans to move to free tariff MILLER REPORTING CO., INC. 507 C Scrccc, N.E. Washington , D.C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah83 83 positions further to about 80 percent of the value of industrial production in three years. So it is a major liberalization effort over a three-year period. The second question with respect to QRs, moving out of QRs and tariff positions, the maximum tariff in Argentina is 38 percent of the CIF value of imports, and that is not high; that is reasonably low. The average realized tariff rate is 21 percent for imports. The government has moved already 833 tariff positions, moved them out of the QRs, and has not increased the tariffs. Therefore they are below the 38 percent tariff rate which I mentioned earlier. With respect to the exchange rate, we will review with the government the exchange rate, the position of the exchange rate before second tranche release on the basis of adequate export performance. And the government continues with a policy of maintaining the real exchange rate of June 1985, and so far, the effects have been positive. With respect to export subsidies, I would like to mention that export subsidies in preshipment financing, the total amount of subsidized credit lines last year was about $500 million. The total amount of the subsidized credit line t his year has been reduced to $2 5 0 mill i on. And t he new MILLER REPORTING CO., INC. 507 C Street, N .E. Washington, D.C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah84 84 credit lines that have been granted by the Central Bank are at market rates linked to LIBOR. MR. CONABLE: Thank you. Mr. Soe Lin? MR. SOE LIN: Thank you, Mr. Chairman. Trade policy reform is a political policy area in the government's medium-term economic adjustment program, and therefore we join our colleagues in supporting this loan to Argentina. The loan, in our view, is significant in that it spearheads a country-strategic approach in the Bank's lending program to Argentina. Relying on operationally-oriented economic and sector work, the Bank has designed the program as an integrated whole, building into it key sectoral policy- based loans. This is an approach that is fully consistent with the country focus incorporated under the new reorganization, and we would therefore like to encourage staff to develop and refine these types of loans, particularly in the major borrowing countries. We also know that these loans are being deliberately sequenced to achieve mutually-reinforcing effects. Specifi- cally the loan under discussion, while contributing t o ward MILLER REPORTING CO., INC. 507 C Street, N .E. Washington, D.C. 20002 ( 202) 546-6666  STRICTLY CONFIDENTIAL ah85 85 the transition to the outward-looking trade regime, con- centrates on export promotion and diversification. This will be followed by another loan that will concentrate on import liberalization. There are no clearcut rules whether this gradualist approach is superior or inferior to the shock treatment approach normally associated with trade reform processes. It is, however, noteworthy that in Argentina, the gradualist approach has seldom worked and has often lapsed into damaging stop-go policies. However, in taking this gradualist approach, we would therefore emphasize that a macro policy environment becomes absolutely critical. In this respect, we note that the monitoring conditions seem to be sufficiently tight and second tranche release conditions require satisfactory evidence that the government's macro policy framework be consistent with trade policy reform. Much has been said on this point by previous speakers, but we still are left with wondering why in a loan of this size and a loan that is oriented toward trade policy reform, export competitiveness is not a specific condition of the second tranche release. One final comme nt. We would like to see a more explicit treatment of the linkages between the sectoral loans MILLER REPORTING CO., INC. 507 C Street, N .E. Washington, D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL 86 ah86 to one another, to see how they are integrated. In this respect, we would particularly like to mention that the agriculture sectoral policy loan approved last year deserves much elaborate treatment in terms of how it links onto this loan. Thank you very much. MR. CONABLE: Thank you, Mr. Soe Lin. Any comment on that, gentlemen? Mr. Sokol? MR. SOKOL: Yes. With respect to export competi- tiveness, part of the review of macroeconomic policies during second tranche release is to look at export competitiveness, and that is the major thrust in the policy conditionality. With respect to the agricultural sector loan, Mr. Scherer will comment. MR. SCHERER: Yes, Mr. Chairman. The strategy of the Bank has been to assist the government efforts to promote agricultural exports and industrial exports through two separate operations. One was the agriculture sector reform loan, which the Board approved some time ago, and now for industry, essentially, the trade reform loan which is presented to you today. The second tranche of the agriculture sector loan MILLER REPORTING CO., INC. 507 C Street, N .E. Washington, D.C. 20002 ( 202) 546-6666  STRICTLY CONFIDENTIAL 87 ah87 has not yet been released, for a very simple reason--the deterioration in the agricultural terms of trade has been so significant that the government has found it not convenient to introduce the land tax as early as had been expected. This, however, does not mean that the government is less determined to substitute the presently still in effect export taxes that are still on agricultural products in effect by a land tax. And we would expect that the government will pursue with us toward the end of the year, and that by that time the World Bank would be able to release the second tranche. And the industrial sector and the incentives for industrial exports are essentially covered under this trade reform loan. And I would like to add to what Mr. Sokol has said, that it is very difficult, of course, to measure export competitiveness unless one sees the results, and these structural reforms will take some time to work their way through, but we know already that through the measures that are supported by this loan, the terms of trade for, or the effective exchange rate, if you wish, for the exporter has increased by rough estimates would be about 20 percent or more during the initiation of this program. MR. CONABLE: Thank you, Mr. Scherer. MILLER REPORTING CO., INC. 507 C Street, N .E. Washington, D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL 88 ah88 Mrs. Rubio? MRS. RUBIO: Thank you, Mr. Chairman. we must welcome and support this trade policy and diversification loan for the Republic of Argentina. The Argentine economy, like most if not all in Latin America, has been suffering from major disequilibria during recent years, especially since 1982. The new Argentine administration that took office in 1984 embarked on policy adjustment and reforms. With the introduction of the Plan Austral, the Argentine economy started a new phase of economic policy that combined land management policy and monetary reform. The macroeconomic policy already introduced during early '87, followed by the outward-oriented economic policy or export diversification plan adopted by the Argentine government, are most welcome. It became a major challenge to embark on export promotion policy and liberalization of imports at the time of financial difficulties in the internal and external front of the economy. None of the above-mentioned policy reforms could be achieved without the appropriate financial resources. In this respect, I am glad that both the expor t promotion and import liberalization policies have been supported by a MILLER REPORTING CO., INC. 507 C Street, N .E. Washington, D.C . 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah89 89 financial package and would like to emphasize the importance that the World Bank placed on supporting these major reforms. Here, Mr. Chairman, I would like to refer to the issue of retroactivity that has been mentioned by other Directors. Maybe the discussion on policy suggested by Mr. Arlman could be appropriate. The way it looks today to me is that if we apply the policy in the sense supported by Mr. Draghi, wouldn't we be penalizing the Republic of Argentina for having taken steps in the right direction early or on time? So that basically what I want to say is I support very strongly the management proposal, particularly the statement of Mr. Gay. With respect to the export incentive package, the introduction of a new tariff system and extension of the previous one, which includes the automatic duty-free access to all imported input required in the production of exports is a step in the right direction. In general, Mr. Chairman, let me say that I like the des ign of the trade policy reform v ery much, for two reasons: a) It emphasizes an outward orientation approach versus a mere liberalization one. We recognize the very important effort of liberalization undertaken by the Argentine MILLER REPORTING CO., INC. 507 C Street, N.E. Washington, D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah90 90 government, but we can also see the outward orientation bias which inspires it. And b) or the second reason, this trade policy reform also seems to be based more on a trend toward effective protection as opposed to purely nominal protection. We wish the Argentine government great success in the implementation of this project. Thank you, Mr. Chairman. MR. CONABLE: Thank you, Mrs. Rubio. Mr. Jembere? MR. JEMBERE: I will be brief, Mr. Chairman. We also would like to lend our support to the trade policy and export diversification loan to Argentina, in support of the country's efforts toward structural reform, to improve its economic growth prospects in the medium term. We welcome the Bank's active involvement in this and hope that the international financial community will provide continued assistance to Argentina during this major effort toward sustained growth. We do support, Mr. Chairman, judicious application of retroactive financing, and in saying this, we also share Mr. Draghi's concern that this particular case should have been clearly indicated as being outside of the norm. I thank you. MILLER REPORTING CO., INC. 50 7 C Street. N .E. Washington , D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah91 91 MR. CONABLE: Thank you, Mr. Jembere. Mr. Marion? MR, MARION: Thank you, Mr. Chairman. We support this loan, which should help Argentina widen the range of its exports and embark upon an outward- oriented strategy. Indeed, Argentine authorities are strongly committed in implementing their medium-term structural reform program and need to be supported by the international financial community. We particularly welcome the key role being played by the Bank vis-a-vis a country which represents one of the most crucial cases among countries facing serious external debt problems and pursuing economic recovery programs. As to the imple~entation of the adjustment program i,j :2(/ ~~ ·,.., of Argentina, satisfactory results have been reached .i-ft==:the .w;e&s of curbing of inflation and the important decrease of the public sector deficit. However, it is obvious that the success of this program will depend mainly on the ability of the authorities to pursue and to stiffen, in some cases, the policy they are c ommit t e d in. I n this respect, in order to contain inflationary MILLER REPORTING CO., INC. 507 C Street, N .E. Washington, D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah92 92 pressures which otherwise would jeopardize the credibility of the work program, a tight monetary policy, a further curtail- ment of the public sector deficit, and especially a cautious price and income policy must be continued. Close attention also needs to be paid to the exchange rate levels so that Argentina's competitiveness is not eroded by inflation, and repatriation of resident's external assets is not discouraged. More generally, the adjustment process has no room for slippage; its implementation is crucial to gain the confidence of commercial banks and the private sector. Thank you, Mr. Chairman. MR. CONABLE: Thank you, Mr. Marion. Mr. Al-Sultan? MR. AL-SULTAN: Thank you, Mr. Chairman. I just want to strongly support the project and to add to what my colleagues have said, particularly that the liberalization measures in this particular loan is expected to be implemented in a gradual manner, which I thought was ver y commendable. I would like to say that I would wish that the same approach is also used in other projects. Thank you, Mr. Chairman. MR. CONABLE: Thank you very much, Mr. Al-Sultan. MILLER REPORTING CO., INC. 507 C Street, N .E. Washington, D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah93 93 Are there further questions or comments? Mr. Haxthausen? MR. HAXTHAUSEN: I am sorry to come back. I have a very short observation. Of the World Bank's loans to Argentina from '83 or before, more than $300 million are undisbursed. I hope that something can be done. MR. CONABLE: Would you care to comment on that, Mr. Scherer? That is an important comment. MR. SCHERER: Yes. I would first like to correct an inadvertent mistake in Annex II, page 1, in which we indicate that four loans still have not become effective. All loans except the last one, a small one, power engineering, are effective. And in fact, the speed of disbursement in Argentina has accelerated substantially to the extent that over the last 12 months, a full third of the amount disbursed and undisbursed and outstanding a year ago has been disbursed. So the Argent i ne government has more than tripled the s peed of disbursement. MR. CONABLE: Isn't it true that there was a very modest loan program there i n the p e riod '83 to '8 5 ; a re mos t of the undisbursed l oans prior to that period? MR. SCHERER: We have, Mr~ Chairman, a few old loan s or date d l o a n s t h a t h a ve s u ffered from the freque n t MILLER REPORTING CO., INC. 507 C Strecr, N .E. Washington, D .C . 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah94 94 shifts of economic policies in Argentina. MR. CONABLE: Yes. MR. SCHERER: But all of those, the new ones as well as the older ones, are now disbursing very rapidly, and we would expect that these ones that are dated, like the grain storage and highways, be now fully disbursed very soon. MR. CONABLE: I suspect that once a loan gets off track, it is hard to get back on. MR. SCHERER: Very difficult, yes. MR. CONABLE: But that is an important inquiry. I am glad to know that they are disbursing quickly now. Friends, before we accept this loan, I would like to just make a statement briefly, and a very fragmented statement, about retroactivity, because that is apparently a question on which there is concern and concern on both sides. I refer to some historical analysis. Apparently, that was too strong a word. This note came from Mr. Scott of the Legal Department and says that he was relying on his memory, and that that was not necessarily an historical analysis. He said, however, that "We have had a number of rece nt examples of retroactive financing on policy-based loans. The Brazilian power sector loan in 1986 involved $250 MILLER REPORTING CO., INC. 507 C Street , N .E. Washington , D.C. 20002 {202) 546-6666  STRICTLY CONFIDENTIAL ah95 95 million expenditures up to six months retroactive. There were two SALs in Chile in 1985 and 1986, seven months retroactive, with no limits on amounts. But the Mexican trade policy loan in 1986 involved eight months' retroac- tivity, with no limits on amounts." Now, if it is the desire of the Board to have this analyzed further and to have policy reviewed and restated, I am very glad to do it. I think it would be unfortunate if we were to hold up this par.ticular adjustment loan on the basis of a violation of a policy, because it is clear that policy has not been followed strongly in the past. I will acknowledge Mr. Draghi's important point that this is something that should have been spelled out in greater detail in the papers that the staff has presented to us, and I would urge them to review additional loans that are coming of a policy nature, to be sure that the Board is fully informed. However, I would like to ask if the Board has any specific desires on this matter--or, Mr. Draghi, did you want to follow up on that? MR. DRAGHI: Yes. Thank you, Mr. Chairman. No, it is absolutely not my intention to hold up this loan f or this reason. I wi sh to think about the MILLER REPORTING CO., INC. 507 C Street , N.E. Washington, D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah96 96 possibility of having a policy discussion on this point, but I just want to add another consideration which in a sense was stimulated by your remarks. I wish to dispense with some confusion that may have been caused by, perhaps, my sharpness in my statement, and I wish to stress again that while I am asking that some details be taken care in the future operations of this kind, the thrust of my position is one of strong support for this operation--just to make things clear. MR. CONABLE: I see. Thank you for that. MR. DRAGHI: Thank you. MR. CONABLE: Well, if the Board will consider this issue and advise us at some time in the future, we could have a review of this. Mr. Yamaguchi, do you wish to say something? MR. YAMAGUCHI: Thank you, Mr. Chairman. We have seen many financial packages suggested by IMF or commercial banks, et cetera, et cetera, and on that occasion, I have heard that the Bank is just deemed to be a provider, a minor provider of the necessary package. And I think that we have discussed in the past very many times conditionality, eve n though it is not welcome d by al l Directors, o r negotiating power of the Bank. And I think MILLER REPORTING CO., INC. 507 C Street, N.E. Washington, D .C. 20002 (202) 546-6666  STRICTLY CONFIDENTIAL ah97 97 that it is vitally important, crucially important, for this Bank to maintain some policy dialogue vis-a-vis client country and policy advice, or maintain some negotiating power or, with IMF, some conditionality. So I think in that context, I would like management to provide us some policy paper on to what extent this kind of retroactive financing is possible. Thank you. MR. CONABLE: I thank you. We will take that into consideration, Mr. Yamaguchi, and report back to you. If there are no further comments, the minutes will show the Executive Directors approve the loan on the terms proposed. MILLER REPORTING CO., INC. 507 C Street, N.E. Washington , D .C. 20002 (202) 546-6666