Morocco - Public Enterprise Rationalization Project

Document of The World Bank FOR OFFICIAL USE ONLY Report No. 11892 PERFORMANCE AUDIT REPORT MOROCCO PUBLIC ENTERPRISE RATIONALIZATION LOAN (LOAN 2820-MOR) MAY 19, 1993 Operations Evaluation Department This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization. CURRENCY EOUIVALENTS (annual averages) Currency Unit = Dirham (DID 1987 US$1.00 = 8.36 1988 US$1.00 = 8.21 1989 US$1.00 = 8.49 1990 US$1.00 = 8.24 1991 US$1.00 = 8.71 1992 US$1.00 = 8.54 ABBREVIATIONS AND ACRONYMS ASAL - Agricultural Sector Loan BRPM - Bureau de Recherches et de Participations Minibres CIPEP - Comit6 Interminist6riel Permanent des Entreprises Publiques (Committee for Public Enterprises and Participation) DEPP - Direction Etablissements Publics et de Participation (Department of Public Enterprises and Participations) ITPA - Industrial Trade Policy Adjustment Loan MIS - Management Information System OCP - Office Chdrifien des Phosphates (National Phosphate Company) OED - Operations Evaluation Department ONCF - Office National des Chemins de Fer (Railways Company) ONE - Office National d'Electricit6 (National Power Company) ONEP - Office National de 'Eau Potable (National Water Supply Company) PAR - Performance Audit Report PCR - Program Completion Report PE - Public Enterprise PERL - Public Enterprise Rationalization Loan PPF - Project Preparation Facility PR - President's Report SAL - Structural Adjustment Loan SAMIR - Soci6t6 Anonyme Marocaine de l'Industrie du Raffinage SCP - Soci6t6 Chdrifienne du P6trole SNPP - Soci6td Nationale des Produits P6troliers (Petroleum Distribution Company) FISCAL YEA January 1 - December 31 FOR OFFICIAL USE ONLY THE WORLD BANK Washington, D.C. 20433 U.SA Office of Direotor-Gneral Operations Evaluation May 19, 1993 MEMORANDUM TO THE EXECUTIVE DIRECTORS AND THE PRESIDENT SUBJECT: Performance Audit Report on Morocco - Public Enterprise Rationalization Loan (Loan 2820-MOR) Attached is a copy of the report entitled "Performance Audit Report on Morocco - Public Enterprise Rationalization Loan (Loan 2820-MOR)" prepared by the Operations Evaluation Department. The audit concurs with the conclusion of the Program Completion Report (PCR) that the Loan was successful in laying the foundation for a complex public enterprise reform process, even though there were important delays and inaction in some areas, largely because the program was too ambitious given the time span provided. Possibly the most important achievement was a change in attitude and perception among policymakers as well as enterprise managers about the role and responsibilities of public enterprises. The overall satisfactory outcome owed much to the long and thorough preparatory work by both the Government and the Bank, and demonstrated the value of the emphasis placed on developing an authoritative institutional framework designed to pursue and implement the reforms. At the time the PCR was written, the Bank and the Government were preparing further support for public enterprise reform in the form of a second loan, as originally planned. Subsequently it was jointly agreed not to proceed with a follow-on operation. A major implication of this decision, which is explored in the audit, is to raise doubts about the sustainability of the reform process. Attachment This document has a rustricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  FOR OFFICIAL USE ONLY PERFORMANCE AUDIT REPOR MOROCCO PUBLIC ENTERPRISE RATIONALIZATION LOAN (LOAN 2820-MOR) TABLE OF CONTENTS Page No. PREFACE ...............................................i BASIC DATA SHEET ........................................iii EVALUATION SUMMARY .................................... v I. BACKGROUND ....................................... 1 II. OBJECTIVES. CONTENT AND POLICY DIALOGUE .............. 4 M. IMPLEMENTATION AND OUTCOME ........................ 7 The Arrears Problem ................................... 7 Tariffs and Transfers ................................... 9 Program Contracts .................................... 10 Restructuring versus Privatization ........................... 11 Social and Environmental Impact ........................... 13 IV. SUSTAINABILITY AND LESSONS LEARNED ................... 13 PROGRAM COMPLETION REPORT PART I - PROGRAM REVIEW FROM THE BANK'S PERSPECTIVE ......... 19 I. PROGRAM BACKGROUND AND SCOPE ...................... 19 I. PROGRAM OBJECTIVES. DESIGN AND ORGANIZATION .......... 20 Ill. PRQRAM DESCRIPTION ............................... 22 IV. ACCOMPLISHMENTS OF THE GOVERNMENT'S ENTERPRISE REFORM PROGRAM UNDER PERL-1 ....................... 23 A. Rationalization of Government Relations with Public Enterprises ....... 23 B. Improvements in the Financial Autonomy of Public Enterprises ........ 24 C. Restructuring Studies .................................. 26 D. Restructuring Programs ................................ 26 V. BANK MONITORING AND SUPERVISION OF PERL .............. 28 This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization. TABLE OF CONTENTS (cont'd.) PaM No. PROGRAM COMPLETION REPORT (cont'd.) VI. PROGRAM SUSTAINABILITY .... .... 28 VII. CONCLUSIONS AND LESSONS LEARNED .................... 28 PART II: PROGRAM REVIEW FROM THE BORROWER'S PERSPECTIVE .... 30 PART III: STATISTICAL INFORMATION .......................... 33 1. Loan Amount Status ..................................... 33 2. Program Timetable ..................................... 33 3. Cumulative Loan Disbursements ............................. 33 4. Major Bank Missions .................................... 33 -1- PERFORMANCE AUDIT REPORT MOROCCO PUBLIC ENTERPRISE RATIONALIZATION LOAN (LOAN 2820-MOR) PREFACE This is a Performance Audit Report (PAR) on the Public Enterprise Rationalization Loan (PERL) for Morocco, involving Loan 2820 in the amount of US$240 million equivalent. The loan was approved on May 26, 1987. The final disbursement was made in November 1990, and 0.44 million was cancelled. The loan closed on June 30, 1990, one year behind schedule. The PAR was prepared by the Operations Evaluation Department (OED), and the Program Completion Report (PCR) was prepared jointly by the Middle East and North Africa Regional Office of the Bank (Parts I and III) and the Borrower (Part II). The PAR is based on the attached PCR, the President's Report, sector and economic reports, the loan documents, summaries of the Board discussions, study of the program files, and discussions with Bank staff. An OED mission visited Morocco in May 1992 and discussed the effectiveness of the Bank's assistance with Government officials and the business community. Their kind cooperation and invaluable assistance in the preparation of this report is gratefully acknowledged. The PCR provides a satisfactory account and assessment of the program experience, and discusses the performance of the Bank and the Government. It must be pointed out that the PCR was written at a time when a second PERL was still in preparation. The PAR elaborates on the sustainability of the public enterprise reform process, especially in light of the decision not to proceed with a follow-up operation. The draft PAR was sent to the Borrower for comments, but none were received.  -ii- PERFORMANCE AUDIT REPORT MOROCCO PUBLIC ENTERPRISE RATIONALIZATION LOAN (LOAN 2820-MOR) BASIC DATA SHEET LOAN POSITION (Amounts in US$ Million) As of Apr. 30. 1993 L.&B original Disbursed Cedancell Rpai Outstanding 2820-MOR 240.00 239.56 0.44 15.97 223.59 CUMULATIVE ESTIMATED AND ACTUAL DISBURSEMENTS EY88 FY82 EY9M E21 Appraisal Estimate (US$M) 118.70 235.50 235.50 240.00 Actual (US$M) 120.36 235.49 235.82 239.56 Actual as % of Appraisal (%) 101.4% 99.9% 100.1% 99.8% Date of Final Disbursement: November 2, 1990 PROGRAM DATES Orioinal Actual Initiating Memorandum 06/25/85 06/25/85 Letter of Development Policy 05/21/86 05/21/86 Negotiations 03/16/87 03/16/87 Board Approval 06/04/87 05/26/87 Signing 07/27/87 07/27/87 Effectiveness 12/31/87 12/24/87 Lon Closing 06/30/89 06/30/90 Actual Completion 12/31/89 11/01/90 STAFFINPUTS (staffweeks) FY86 FY87 FY88 FY89 FY9Q EY91 TO L Preappraisal 61.3 - - - - - 61.3 Appraisal 135.3 84.2 - - - - 219.5 Negotiations - 24.4 - - - - 24.4 Supervision - 2.4 41.9 31.7 7.7 5.8 89.5 Other All 12 _ -_ .i- . 4.7 Total 237.7 134.6 41.9 31.7 7.7 5.8 459.4 - iv - MISSION DATA No. of No. of Staff Date of Month/Year Wks PseKEtLt Preparation 07/85 3 5 103.2 08/85 Appraisal 02/86 3 9 189.4 02/86 Supervision I 10/87 2 4 ) 11/87 Supervision II 06/89 2 4 )84.4 08/89 Supervision III 10/89 2 4 ) 11/89 Supervision IV 12/90 1 1 ) 12/90 OTHER PROGRAM DATA Borrower/Executing Agency: Kingdom of Morocco Follow-on Operations: Operation: Agricultural Sector Adjustment Loan II Loan No. 2885-MOR Amount : $225.0 million Board Date: November 24, 1987 Operation: Structural Adjustment Loan I Loan No. 3001-MOR Amount : $200.0 million Board Date: December 1, 1988 Operation: Financial Sector Development Loan Nos. : 3365-3373 /A Amount : $235.0 million Board Date: June 25, 1991 Operation: Structural Adjustment Loan II Loan No. : 3463-MOR Amount : $275.0 million Board Date: April 30, 1992 /a One operation consisting of nine loans. -v- PERFORMANCE AUDIT REPORT MOROCCO PUBLIC ENTERPRISE RATIONALIZATION LOAN (LOAN 2820-MOR) EVALUATION SUMMARY Background indicators and a rapid accumulation of foreign exchange reserves. 1. Like so many developing countries, Morocco began experiencing a financial and 3. One of the nine adjustment operations external debt crisis in the beginning of the was a Public Enterprise Rationalization Loan 1980s. A key element in the country's early (PERL), approved by the Board on May 26, policy response to the crisis was increased trade 1987, for a total of $240 million, and evaluated protection, which, however, further hampered in this report. The inclusion of a component the efficient use of resources and discouraged dealing with public enterprise (PE) rationaliza- exports. By mid-1983 the financial situation tion in Morocco's adjustment program was had become untenable. Thus, the Government inevitable. PEs constitute a significant segment initiated a broad program combining stabiliza- of the economy and were an important element tion, debt rescheduling and structural adjustment in the crisis. Their financial performance had measures to be phased over a number of years, deteriorated markedly after the mid-1970s. The with the support of the IMF and the World ease with which funds could be obtained either Bank. The primary objectives were to: through borrowing or Government transfers had (a) stabilize the economy by reducing aggregate undermined financial discipline. PEs came to demand; (b) transform the economy into an depend increasingly on budgetary transfers efficient producer by reforming incentives in while, at the same time, Government payment agriculture and industry; and (c) increase private arrears to PEs accumulated. The worsening sector savings and improve the allocation of performance of PEs had prompted the Govern- investment through financial sector reform. ment to undertake studies of the sector during Implementation of this program, supported by the early 1980s and to take some corrective the Bretton Woods institutions, was also ex- measures. The Government's initial program, pected to facilitate necessary external debt however, was limited in scope and essentially id reschedulings. W&. In 1985, the World Bank was invited to help devise a broader policy framework and 2. World Bank support for Morocco's reform program for PE operations, which structural reforms has been intense, consisting eventually led to the 1987 PERL. of nine adjustment operations during 1984-92 for a total of US$1.8 billion. To date, the Objectives. Content and Policy Dialogue overall results of this reform program have been quite positive: real GDP growth averaged 4. The diagnosis of the PE sector's ills was 4.3% p.a. during 1984-90, exceeding expecta- exhaustive, given both the Moroccan Govern- tions; by the end of the decade the budget ment studies and a very thorough preparation deficit was being brought under control and low and appraisal by the Bank. The problems faced current account deficits in the balance of pay- by Morocco's PE sector were found to be major ments allowed a gradual improvement in debt and pervasive (para. 2.01), and it was thus - VI - recognized from the outset that not all could be increased autonomy, and therefore account- tackled at once. Consequently, the PERL was ability, were seen as incentives to more efficient conceived as the first of a series of operations. performance by those PEs bound to remain in The main emphasis of the first phase of reform the public domain, while for other PEs privat- was on policy and administrative matters in ization would be pursued. order to set the stage for better management and improved efficiency of the sector. A few (six) 7. Policies to promote financial indepen- enterprises were selected for immediate reform dence focussed on the control of Government but it was left to future stages of the rationaliza- transfers, the pursuit of appropriate pricing tion program to focus on more specific effici- policies and the reduction and eventual elimina- ency improvements and cost reductions in most tion of arrears (paras. 2.04-2.05). The essence of the PEs. Even before the loan became of the policy proposals to develop administrative effective, a second PERL was being contem- and managerial autonomy were measures to plated by all parties concerned. rationalize relations between the Government and PEs (program contracts), improve PE 5. The PERL was somewhat unique among management information systems and strengthen Bank operations in that it addressed simul- accounting and auditing principles and practices. taneously macro-problems generic to the whole In order to guide and monitor the reforms, an PE sector as well as the manifestation of these institutional framework was developed, con- problems in a few specific PEs, and included a sisting of the Interministerial Committee for technical assistance component. To cover the Public Enterprises and Participations (CIPEP) latter as well as refunding of the project prep- and a secretariat to the committee, the Depart- aration advance $6 million was set aside. The ment of Public Enterprises and Participations main component of the loan of $234 million (DEPP) (paras. 2.06-2.09). Policies to rational- consisted to two parts: $117 million was to ize the role of the State in the economy included support reform in the entire PE sector, to be the preparation of an inventory of the State disbursed against eligible general imports; portfolio of PEs, restructuring of the six PEs another $117 million was to support reforms in selected for the first round of reform, restruc- the six enterprises, to be disbursed against the turing studies covering the mining, sugar and specific enterprises' foreign exchange expendi- transport sectors which would form the basis for tures. Also, the $234 million was to be dis- future reform programs, and privatization on a bursed in two tranches. In line with the phased case-by-case basis (paras. 2.10-2.12). approach and in view of Morocco's severe budgetary problems, the six PEs selected for 8. Cooperation in designing the program restructuring during the first two years of the between Bank staff and the Government, partic- reform were those which absorbed the largest ularly the DEPP, was very close and excellent. amounts of Government transfers and were most For one thing, the Government fully understood affected by arrears, although they were not the importance of and the issues facing the PE necessarily those where the greatest inefficien- sector. On the Bank side, substantial staff cies could be found (para. 2.03). resources were spent in preparation and appraisal. The outcome was a very good pro- 6. The overriding principle of the rational- gram and substantial Government commitment. ization program was to introduce competitive pressures into the sector in order to promote Implementation and Outcome efficiency. The objectives then of the proposed reform measures were threefold: (a) to promote 9. Any operation as ambitious and complex financial independence of PEs; (b) to develop as this PERL is bound to experience some administrative and managerial autonomy; and delays, setbacks or a few instan of failure. (c) to rationalize the role of the State and divest While this happened, the achievements of this when appropriate. Financial independence and PERL far outweighed the shortcomings. - vii - Possibly the most important achievement was a mented: this may have led to some hesitation change in attitude and perception among policy- on the part of the Government. makers and enterprise managers alike about the role and responsibilities of PEs. Substantial Sustainabilit3 and Lessons Learned progress was made in the direction of making PE management more efficiency-conscious by 12. The PERL was moderately successful in improving managerial practices and increasing achieving its immediate objectives and, particu- managerial autonomy in the context of the larly, in developing an institutional framework signing of program contracts. Furthermore, the (CIPEP and DEPP) to implement the reforms. CIPEP has been a cornerstone of the reform The Bank's presence, and specifically its program because it can rule on the most difficult approach which was targeted to strengthen this issues which cut across ministries (tariffs, institutional mechanism at the PE sector level, investment plans, finance) and in the process were crucial to this success. The decision not has helped shape views on the need for reform. to go ahead with a planned follow-up PERL may have unintended implications. Without the 10. In terms of more specific achievements, influence and advice that come with Bank it is worth noting that progress was made support the pivotal role played by the CEPEP towards controlling arrears (paras. 3.04-3.08), and DEPP may not be maintained. In certain improving tariff policy and reducing the need areas where relatively few parties are involved, for Government transfers (paras. 3.09-3.10), the such as in the resolution of arrears or in the signing of meaningful program contracts with compilation of a database, there is a reasonable five of the six selected enterprises (paras. 3.11- chance that continued progress will be made, 3.13) and the completion of a proper legislative because of the apparent determination among framework to permit implementationof a privat- those parties to carry on with the reforms. In ization strategy (paras. 3.16-3.17). On the other instances, however, and in particular those other hand, in one of the six enterprises - the where interninisterial consensus must be railways sector - progress made towards re- reached to take policy decisions, such as the structuring was nil (para. 3.20), and there were signing of program contracts or increases in delays in the completion of certain sector re- tariffs, further progress may be difficult to structuring studies. sustain. Furthermore, some components of the PE reforms, such as timely PE tariff and 11. Unfortunately, even in many of the savings increases, have major implications that instances where good progress was made during go beyond PE rationalizationpes: inparticu- implementation of the loan (arrears, tariffs, lar, the country's overall public finance situation transfers, program contracts), the momentum is still fragile so that failure to raise PE savings for change appears to have stalled after the may jeopardize Morocco's overall structural PERL, suggesting that the PE reform process adjustment program (paras. 4.054.08). The had not yet taken firm root. Continued Bank Bank's current strategy is to continue its support support in the form of a second PERL, which for PE rationalization primarily through sector had been the intention when the program was investment loans and project lending. It designed originally, appeared to be essential. In remains to be seen whether the Government's December 1991, however, the Government and commitment to PE reforms, especially in critical the Bank decided not to proceed with a follow- areas such as tariffs, program contracts and up PERL, the implications of which are dis- privatization will be maintained. cussed below. Possible reasons for this decision included the country's comfortable external 13. The main lessons which emerge from this reserves position and favorable balance of evaluation are threefold. First, the Govern- payments' outlook, and the risky nature of a ment's and the Bank's long and thorough pre- follow-up operation given that increasingly more paratory work paid off in the form of a well- difficult PE reforms would have to be imple- designed program, strong commitment, and - viii - therefore fairly comprehensive implementation. Probably not as much the funds themselves as Cross-covenants in ongoing project loans also the authority that came with control over the contributed to the positive outcome of this release of foreign exchange gave legitimacy and adjustment loan (paras. 4.12-4.13). Second, the power to this new institutional se-up success of Morocco's PE reform program to (para. 4.14). Finally, the joint Government- date owes much to the emphasis placed on Bank decision to interrupt support for developing an authoritative institutional frame- Morocco's PE reform program could have work determined to pursue PE sector issues, deleterious consequences for public enterprise which in turn owes much to the fact that half of reform. the funds were targeted to help remedy the itmmediate liquidity needs of specific PEc. PERFORMANCE AUDIT RER MOROCCO PUBLIC ENTERPRISE RATIONALIZATION LOAN (LOAN 2820-MOR) I. BACKGROUND 1.01 Morocco's recent economic performance, combining good growth with successful stabilization efforts since about the mid-1980s, has been matched by few developing countries. Yet, with a per capita GNP of $950 in 1990, Morocco is still a relatively poor country situated towards the lower end of the group of lower middle-income countries. The birthrate has been falling moderately during the past three decades, but the population of 25 million is still growing at some 2.5% per annum, with less than half of it urbanized. The growth of the population of working age is even more rapid. The country is relatively well endowed with natural resources, including large areas of arable land, a long coastline, and three quarters of the world's easily accessible phosphate reserves, yet much of this wealth remains underexploited. Phosphate rock, traditionally the leading export commodity, and its derivatives (phosphoric acid and fertilizers) still made up close to 30% of merchandise export earnings in 1989-90, although this is down from more than 40% during the early 1980s largely on account of a rapid expansion of manufactures exports, which by 1989-90 constituted 35% of the total; agricultural products account for about 30% of exports. 1.02 Like so many developing countries, Morocco began experiencing a financial and external debt crisis in the early 1980s and has therefore been applying stabilization and structural adjustment policies since. After years of conservative economic management ever since Independence in 1956, with GDP increasing at about 4% per year, the sudden large jump in phosphate prices in 1974, which more than compensated for the first oil shock, prompted the Government to launch a massive public investment program which brought about a sharp acceleration in growth: GDP grew at 7.5% per year in 1973-77. The phosphate boom, however, was short-lived with prices declining rapidly during the second half of the 1970s. In spite of this decline and of the second oil shock, the higher rate of public spending was maintained - a brief attempt at stabilization around 1978 was followed by a relapse into overambitious planning -- and was made possible by increased reliance on external borrowing which was abundantly available on attractive terms. (A proposed Bank structural adjustment loan (SAL) in 1980 was abandoned primarily because the Government saw no need to accept the multitude of conditions when other external finance was still readily available.) Morocco's external debt skyrocketed from the equivalent of 20% of GDP at the end of 1975 to 100% of GDP at the end of 1983. 1.03 By mid-1983 the financial situation had become untenable. The rise in international interest rates in the early 1980s, compounded by a prolonged drought during 1980-84, contributed to the virtual depletion of foreign exchange reserves, thereby forcing the country to debt reschedulings, emergency import restrictions, and a massive curtailment of public spending. 1.04 The high level of government expenditure during 1975-83 had not yielded the expected benefits, and after the short-lived 1973-77 boom, GDP growth barely kept up with population growth. Public investment programs often emphasized capital-intensive import substitution, which had limited returns, and costly infrastructure projects ahead of the country's needs. A key element of Morocco's early policy response to the balance of payments' constraint was increased trade protection (quantitative restrictions, licensing, high tariffs) which hampered the efficient use of resources by the private sector and discouraged exports. Investment remained large, but the productivity of capital was low and employment creation limited. -2- 1.05 The 1983 crisis clearly called for a broad program combining stabilization, debt rescheduling and structural adjustment measures. The primary problem areas were diagnosed as the poor export performance resulting from the anti-export bias of exchange and trade policies, the negative public savings, and the low levels of private domestic savings. With the assistance of both the IMF and the World Bank, the Government initiated during the second half of 1983 a far-reaching adjustment program to be phased over a number of years. The primary objectives were to (a) stabilize the economy by reducing aggregate demand mainly through a reduction in the size of the budget deficit; (b) transform the economy into an efficient producer by reforming the structure of incentives through policy changes in agriculture and industry; and (c) increase private sector savings and improve the allocation of investment through financial sector reform. Implementation of this program, supported by the Bretton Woods institutions, would furthermore facilitate necessary external debt reschedulings. 1.06 World Bank support for Morocco's structural reforms has been intense, consisting of nine adjustment operations during 1984-92 for a total of US$1.8 billion: two Industrial and Trade Policy Adjustment Loans (ITPAs, 1984, 1985), two Agricultural Sector Adjustment Loans (ASALs, 1985, 1987), an Education Sector Reform Loan (1986), a Public Enterprise Rationalization Loan (PERL, 1987), two Structural Adjustment Loans (SALs, 1988, 1992) and a Financial Sector Development Program (1991). To date, the overall results of this reform program have been quite positive: real GDP growth averaged 4.3% during 1984-90, exceeding expectations; by the end of the decade the budget deficit was being brought under control and low current account deficits in the balance of payments allowed a gradual improvement in debt indicators. Foreign exchange reserves were increasing steadily and more rapidly than foreseen. A most encouraging development was a substantial rebound of gross fixed capital formation from the equivalent of 20.4% of GDP in 1988 to 22.8% and 23.8% of GDP in 1989 and 1990, respectively; in 1991 gross fixed capital formation is estimated to have fallen back somewhat to around 21.7% of GDP, possibly as a side effect of the Gulf crisis. Private investment in particular appears to have picked up, including a revival of direct foreign investment: the latter grew from a low of $55 million in 1985, at the height of the crisis, to $129 million in 1988, $227 million in 1990 and $375 million (about 1.4% of GDP or 6.5% of gross fixed capital formation) by 1991. 1.07 The operation evaluated in this report is the 1987 PERL. The inclusion of a component dealing with public enterprise rationalization in Morocco's adjustment program was inevitable. Public enterprises (PEs) constitute a significant segment of the economy and were an important element in the crisis. Morocco's PEs co-exist with private enterprises in a mixed economic system whose origins can be traced to the French protectorate period. Initially they were established to control natural resources and other key sectors of the economy. The largest of Morocco's PEs - OCP (the National Phosphate Company) - was founded in 1920. After independence in 1956, the number of PEs increased significantly with the objectives of promoting economic growth and regional development and create employment opportunities. The PE sector overall now accounts for more than 20% of total gross fixed capital formation, about 15% of GDP, and 7% of urban employment. Across sectors, PE participation differs significantly, accounting for 90% or more of GDP in mining, energy and water supply, 50-60% in transport, communications and the financial sector, 25% in manufacturing industry, but an almost insignificant share of GDP in agriculture, commerce or construction. 1.08 PE performance deteriorated markedly after the mid-1970s. The ease with which financing could be obtained either through borrowing or through Government transfers undermined PE financial discipline. Thus, many PE resources were channeled into investments of questionable quality, and operating deficits grew. When access to external sources of finance and to the budget became more difficult as Morocco's crisis intensified during the early 1980s, many PEs ran into liquidity problems. And, as the Government, in spite of the financial crisis, failed to reduce its own consumption of PEs' goods and services, payment arrears to PEs accumulated. By 1985, budgetary transfers to PEs had -3- reached DH 3 billion, equivalent to about 25% of the overall Treasury deficit, and Government payment arrears to PEs had accumulated to DH 6.1 billion, equivalent to 5% of GDP. 1.09 The gradually worsening performance of PEs had prompted the Government to undertake a major study of the sector overall by 1980 (The Jouahri Report) as well as a series of about 10 sectoral studies prepared by the Comit6 Permanent de Vigilance during the early 1980sY In response, a number of measures were taken to improve the performance, monitoring and control of PEs, including, among many others, the setting of a ceiling for Government transfers to PEs under an IMF Standby agreement in 1985. The Government's program, however, was not only limited in scope but essentially ad.hoe. In 1985, the World Bank was invited to analyze the sector and help devise a broader policy framework and reform program for PE operations. Bank sector work was initiated which led to the design of a program - and the 1987 PERL - meant to tackle both the overall external environment in which PEs operate as well as enterprise-specific constraints. 1.10 The PERL was approved by the Board on May 26, 1987, for a total of $240 million. A small component of $6 million covered refunding of the project preparation advance and technical assistance, which would be disbursed throughout the loan period as warranted. The main component of $234 million consisted of two parts: $117 million was to support reform in the entire PE sector, to be disbursed against eligible general imports; another $117 million was to support reforms in six selected enterprises (see para. 2.03), to be disbursed against the specific enterprises' foreign exchange expenditures (spare parts, chemicals, coal, crude oil and LPG). The $234 million was to be disbursed in two tranches: $120 million upon effectiveness ($70 million for general imports and $50 million for imports of the six enterprises), and $114 million after a mid-term review ($47 and $67 million). Except for the cancellation of about a half million dollars, the loan was fully disbursed. 1.11 Morocco's balance of payments and budgetary difficulties at the time of PERL approval clearly warranted financial support, if the structural reforms were to succeed. The primary rationale for the PERL, however, was not the balance of payments constraint but rather internal weaknesses in public finance and more particularly the recurrence of government arrears to the sector.? The Government's original financial objective in requesting PERL was to use the PERL counterpart funds to pay off a large part ($300 million) of these arrears to PEs. While the Bank did not formally accept this approach, the magnitude of the arrears problem remained in the background of discussions and ultimately, together with the substance of the PERL program, determined the size of the loan. While half of the funds were programmed to be disbursed against general imports, the other half was earmarked for specific PE imports with the objective of securing PE cooperation in adopting reforms specific to the enterprises. At the same time, the ultimate beneficiary of local currency proceeds was the Treasury, where the PEs were expected to buy the Bank funds on account of their foreign exchange needs. i' The Jouahri Report was completed during the easy spending days of the very early 1980s and received little follow-up. The Comitd Permanent de Vigilance, on the other hand, was created in 1983 to study the financial problems of PEs and especially the arrears which were becoming a major problem. In the process the Committee discovered a whole host of problems beyond the arrears, engaged in an extensive diagnosis of the sector's ills and, by 1985, made specific recommendations for reform in many sectors and areas. 2' In a 1988 SAL to Morocco, the basic rationale for continuing Bank adjustment leading remained the structural weaknesses in the area of public finance. See Morocco SAL I PR, No. P4867, November 8, 1988, paras. 19-21. -4- H. OBJECTIVES. CONTENT AND POLICY DIALOGUE 2.01 The diagnosis of the PE sector's ills was exhaustive, given both the Moroccan Government reports and the Bank's thorough preparation and appraisal: some 25 Bank staff participated in the appraisal mission for the PERL. (a) The sector was found to be operating in an environment largely immune from competitive pressures and market forces, since many PEs were either monopolies or protected by high tariffs or other import restrictions, thus rendering it prone to inefficiency; (b) social and political, as well as budgetary and financial considerations had created a network of price controls and price formulas unrelated to economic costs; and, as a result of both (a) and (b) government subsidies were commonplace; (c) the financial health of many PEs was endangered by the accumulation of Government payment arrears to PEs, which in turn led to an increase in arrears between enterprises; (d) there was both insufficient overall Government policy guidance and monitoring of PEs as well as excessive Government interference in day-to-day enterprise management; (e) many PEs were found to have poor internal management information systems; (f) accounting standards and auditing principles were found to be largely deficient; and (g) there was no strategy determining the role of the State in the economy, with the result that many economic activities continued to be in the domain of PEs when they could be performed by the private sector. 2.02 The problems faced by Morocco's PE sector were major and pervasive and it was thus recognized from the outset that not all could be tackled at once. Consequently, as stated in para. 44 of the President's Report: "The Public Enterprise Rationalization Loan (PERL) has been conceived as the first of a series of operations through which the policy framework and the measures.. .would be implemented. Reforms are to be introduced at Governmental level affecting all PEs, as well as through the institutional, managerial, organizational, financial and physical restructuring of selected PEs, according to the needs identified by successive Bank missions." In other words, the main emphasis of the first phase of reform was on policy and administrative matters in order to set the stage for better management and improved efficiency of the sector. A few enterprises were selected for immediate restructuring but it was left to future stages of the reform program to focus on more specific efficiency improvements and cost reductions in most of the PEs. Even before the loan became effective a second PERL was being contemplated by all parties concerned. As will become clear below, appreciation of the fact that this PERL was meant to be the first in a series of operations is crucial to an evaluation of its outcome and subsequent sustainability. 2.03 The PERL was somewhat unique among Bank operations in that it addressed simultaneously macro-problems generic to the whole PE sector as well as the manifestation of these problems in a few specific PEs, and included a technical assistance component. In line with the phased approach and in view of Morocco's severe budgetary problems, the six PEs selected for restructuring during the first two years of the reform were those which absorbed the largest amounts of Government transfers and were most affected by arrears, although they were not necessarily those where the greatest inefficiencies could be found. The six selected enterprises were the National Power Company (ONE), the National Water Supply Company (ONEP), the Railways Company (ONCF), two petroleum refineries (SAMIR and SCP) and the Petroleum Distribution Company (SNPP). Previous Bank association with some of these enterprises and knowledge of their operations were other factors in selecting them as vehicles for introducing the reform measures. The overriding principle of the rationalization program was to introduce competitive pressures into the sector in order to promote efficiency. The objectives then of the proposed reform measures were threefold: (a) to promote financial independence of PEs; (b) to develop administrative and managerial autonomy; and (c) to rationalize the role of the State and divest when appropriate. Financial independence and increased autonomy, and therefore accountability, were seen as incentives to more efficient performance by those PEs bound to remain in the public domain, -5- while for other PEs privatization would be pursued. The first PERL's measures themselves are very well detailed in the President's Report and are summarized below. 2.04 Policies to promote financial independence focussed on the control of government transfers, the pursuit of appropriate pricing policies and the reduction and eventual elimination of arrears. In future, public service PEs would have to rely more on self-financing and less on government contributions while transfers to other PEs would be eliminated entirely. Specific limits on the total of investment transfers to PEs and in particular to the water supply, electricity and railways enterprises (ONE, ONEP and ONCF) during 1987 and 1988 were conditions of second tranche release as were specific tariff increases for the three enterprises. Petroleum prices were to be aligned gradually with international prices and a stabilization fund established to administer the new system following studies financed by the loan; the study and an agreed action plan were conditions of second tranche release. 2.05 While by the end of 1985 gross arrears in the PE sector amounted to a staggering DH 26 billion, net government arrears to PEs (i.e. after cross-cancellations) stood at DH 6.1 billion, arrears owed by insolvent PEs at DH 1.0 billion and another DH 400 million in arrears accumulated during 1986 for a total of DH 7.5 billion, equivalent to 5.8% of GDP. An arrears settlement scheme was to be initiated in 1987 and implemented as follows. After cross-cancellations, write-offs and conversion of part of the government debt to equity, a net balance of DH 5 billion would remain, to be settled by the provision of Treasury Bonds to the PEs, redeemable over 5 years beginning in 1987 by DH 1 billion per year. Completion of the bilateral cancellation process and the issuance of bonds were conditions for first tranche release. In addition to the above, government consumption of public utilities was to be reduced and full budget provisions made for estimated expenditure needs in order to prevent the accumulation of new arrears in the future. 2.06 The essence of the policy proposals to develo administrative od managerial autonomy were measures to rationalize relations between the Government and PEs, improve PE management information systems (MIS) and strengthen general accounting and auditing principles and practices. The guiding principle was the pursuit of increased efficiency, more particularly in monopolistic and non-competitive PEs,' such as public utilities, by setting clear overall objectives for these enterprises, developing performance indicators by which progress can be monitored, while, at the same time, allowing for more independent management by the individual PEs regarding current organizational and operational decisions and investment implementation. 2.07 A pivotal element in this new relationship between Government and the enterprises would be the signing of program contracts, stipulating the PE's objectives, the actions to achieve these objectives, the measures required to carry out the actions and the mutual obligations between the two parties. Under the PERL program the Government would renegotiate its existing program contract with the national airline (RAM), and establish new program contracts with the six selected enterprises: the signing of program contracts with ONEP and SNPP was a condition of loan effectiveness, while the signing of contracts with ONE, ONCF, SAMIR and SCP was a condition of second tranche release. 2.08 Morocco's Interministerial Committee for Public Enterprises and Participations (CIPEP), which is chaired by the Prime Minister and comprises the key ministries concerned with PE operations, would provide overall guidance to the reform program and, to that end, be equipped with a permanent secretariat, a function assigned to the existing Department of Public Enterprises and Participations (DEPP) in the Ministry of Finance. CIPEP's tasks revolve around formulating general strategy on IF Enterprises in sectors with competitive structures would be subject to market forces through price liberalization. -6- investment, financing and tariff setting, providing guidelines for privatization or restructuring, arbitrating disputes, advising on the composition of Boards of Directors of PEs, and the like. The DEPP would be strengthened both in terms of staffing and the creation of a PE data system in order to be able to fulfill its new expanded functions. The PERL also envisaged reforms in the role and functioning of the Boards of Directors of PEs, which began with the issuance by the Prime Minister of a directive to all parent Ministers of PEs designed to ensure that Ministers' involvement in the Boards of Directors follows clear guidelines for intervention on policy matters and does not extend to day-to-day enterprise management. 2.09 The smooth functioning of this new management system would depend on the establishment or improvement of MIS in PEs to make performance monitoring possible - 12 enterprises were selected as a first step, with additional ones to be identified during the first year of project implementation - and would furthermore require reliable and uniform accounting systems and appropriate auditing practices. Accounting and auditing procedures for public and private enterprises alike would be reformed through a number of actions, including the preparation of a new National Accounting Plan (defining minimum standards), the creation of a National Institute of Certified Accountants, the introduction of independent external audits to commercial PEs, the establishment of a degree program for accountants and auditors, and training for the staff of PEs and the DEPP. Audits of the records, accounts and financial statements of each of ONE, ONEP, ONCF, SAMIR, SCP and SNPP for the fiscal year 1987 by independent external auditors were conditions of second tranche release. 2.10 Policies to rationalize the role of the State in the economy and divest when appropriate included the preparation of an inventory of the State portfolio of PEs, restructuring of the six PEs selected for the first round of reform, restructuring studies covering the mining, sugar and transport sectors which would form the basis for future reform programs, and disengagement on a case-by-case basis. 2.11 Discussions with the Bank of the results of the inventory and the definition of a detailed privatization strategy and programs was a condition for the release of the second tranche. With regard to the restructuring studies, their results and the implementation of their recommendations would be discussed with the Bank during the period of implementation of the PERL; the sugar study was completed by the time of Board presentation of the loan, while completion of the mining sector study and the first phase of the transport study were conditions for second tranche release. 2.12 The restructuring programs for the six PEs selected for the first round of reform covered their management, financing, arrears, pricing, investment planning and selection, and accounting and auditing procedures. In addition, there was in each case enterprise-specific focus to the reform. In the case of the national water supply and national power companies, an additional objective was to improve coordination between the company and the local distribution agencies (the R6gies). In the case of the railways company, an additional element in the reform program was progressive deregulation of the transport sector to foster competition between the railway and other transport modes. With regard to the three PEs in the petroleum sector, a major issue was the pricing and relative supplies of different end-products: a study was to be carried out, the completion of which (and discussion with the Bank) was a condition of second tranche release (para. 2.04). 2.13 As the summary program description in the above paragraphs suggests, the PERL was a broad-based and highly complex operation, thereby entailing substantial risks. A multitude of vested interests could be expected to resist the reform measures at various levels, and the implementation capacity of Government institutions would clearly be stressed. Only a thorough appreciation of the need for the reforms by the Moroccans and genuine government commitment could minimize these risks. -7- 2.14 Cooperation in designing the program between Bank staff and the Government, particularly the DEPP, proved to be very close and excellent. For one thing, the Government fully understood the importance of and the issues facing the PE sector on the basis of its own earlier economic work and diagnoses of the sector in the early 1980s, and reform attempts prior to the PERL. The proposed reforms and their significance received the fullest attention at the highest levels of Government as evidenced, e.g., by the fact that the Minister of Finance proposed his own version of the letter of development policy during the 1986 Bank-Fund annual meetings, including some important differences from the version prepared by the February 1985 appraisal mission, and on which compromise solutions were subsequently reached. On the Bank side, preparation was intense judging,among others, by the large number of staff involved and from a review of the files, and reflected in the high quality of the President's Report. The outcome was a very good program and substantial Government commitment to its implementation. III. IMPLEMENTATION AND OUTCOME 3.01 Any operation as ambitious and complex as the PERL is bound to experience some delays, some setbacks and even a few instances of outright failure; as illustrated further below, all of these can be found in the Moroccan PERL experience. Nevertheless, the achievements of this operation far outweigh these shortcomings so that the outcome, on balance, must be seen as satisfactory. 3.02 Possibly the most important achievement of the PERL was the change in attitude and perception among policymakers and enterprise managers alike about the role, functions and responsibilities of PEs in Morocco's socio-economic environment. Substantial progress was made in the direction of making PE management more efficiency-conscious by improving managerial practices and increasing managerial autonomy in the context of the signing of program contracts and the introduction of MIS. Furthermore, the revitalization of CIPEP (the Committee was created in 1982 but remained dormant until 1987) was a direct result of the PERL. This "Committee of Ministers", which reviews and decides on basic PE issues now meets regularly. It has been a cornerstone of the reform program because it can rule on the most difficult issues which cut across ministries and affect many parties (tariffs, investment plans, finance) and in the process has helped shape the views on the need for reform of the different ministries and the PEs. 3.03 A detailed account of specific achievements in the three areas of policy focus - financial independence of PEs, administrative and managerial autonomy, and rationalization of the role of the State - illustrates both the fundamental progress made and the obstacles encountered. In view of the complexity of the program, overall delays were not major: effectiveness was delayed by about 3 months and release of the second tranche by about six months from the originally planned dates; it must be added, however, that eventually certain tranche release conditions were waived. Almost all of the funds were disbursed within days of tranche releases (December 1987 and April 1989). The Arrears Problem 3.04 The formal first tranche release condition of the PERL - completion of cross-cancellation of arrears as of the end of 1986 and issuance of bonds required to settle Government net arrears to the PE sector - was largely met on schedule and fully so by the end of 1988. (Except for some relatively small amounts which are in dispute.) -8- 3.05 However, arrears again accumulated during 1987-90, meaning that the root cause of the problem, i.e. insufficient budgetary provisions for estimated government consumption of public utilities (essentially, water, electricity and telecommunications) remained. Table I shows details: budgetary provisions during 1987-90 roughly covered only about 60% of actual consumption with the shortfall being particularly large in the case of telecommunications. By the end of 1990 new arrears of over DH 1 billion had accumulated. Table: MOROCCO: BUDGETARY PROVISIONS AND ACTUAL CONSUMPTION OF UTILITIES BY THE CENTRAL GOVERNMENT, 1987-92 Lg (in millions of Dirbams) 1987 1988 1989 1990 1991 1992 Budget Provisions 68 82 86 85 128 162 Actual Consumption 105 115 125 142 164 182 Electricity Budget Provisions 169 193 203 204 283 309 Actual Consumption 252 277 293 312 322 345 Telecommunications Budget Provisions 213 208 218 224 379 463 Actual Consumption 348 388 422 475 551 654 IQIAL Budget Provisions 450 483 507 513 790 934 Actual Consumption 705 780 840 929 1,037 1,181 Total Coverage (%) (Budget/Actual) 64% 62% 60% 55% 76% 79% /a Actual consumption in 1992 is an estimate. Sgurc: Data provided by DEPP, Ministry of Finance. 3.06 The Government's response was twofold. First, a new three-year program was launched in 1991 to clear up the arrears accumulated during 1987-90. Second, as can be seen in Table 1, budgetary provisions for government public utility consumption were brought closer in line with actual expenditures. Nevertheless, arrears continue to accumulate and again, in the 1992 budget, a provision was made to cover (part of) the additional arrears of 1991. 3.07 The upshot of it all is that, although arrears remain a serious problem, the Moroccan Government's and in particular the DEPP's efforts to achieve their eventual elimination have been sustained, even if progress has been painfully slow. -9- 3.08 In addition to the arrears of the Central Government to PEs, there are arrears of local Governments and of private individuals, currently estimated at some DH 600 million and DH 1.2 billion, respectively. Here also, efforts are underway towards settlement. In the case of local Governments, a process has begun to certify the arrears, after which they are expected to be settled. In the case of private individuals, mostly a few large consumers, further clarification of the nature of the problem (delayed payment or genuine arrear) is necessary, but again resolution is being pursued. Tariffs and Transfers 3.09 The agreements reached under the PERL for 1987 and 1988 were fully implemented with one major exception. Total investment transfers to PEs and in particular to ONE, ONEP and ONCF were contained and tariffs for power and water were adjusted as agreed, in the context of program contracts; also, the proposed study on the pricing structure of petroleum products was completed and an action program agreed with the Bank. The exception was a promised increase in railway (ONCF) tariffs. Facing competition from road transport, ONCF decided to reduce its investment program instead and its financial situation remained satisfactory. As will become clearer below, however, the issue is part of a larger issue with this particular enterprise, which has not yet accepted the envisaged new relationship between the Central Government and PEs and in which case some of the other PERL conditionality also was not complied with. 3.10 Unfortunately, after the PERL, further tariff increases have either not been granted or were inadequate. In addition, although PERL conditionality was met and Central Government transfers to PEs, as a share of GDP, are now much below their levels of the early 1980s, they remain significant and have shown no further tendency to decline during the past few years (Table 2). All of the above suggests that the sustainability of the financial objectives of the PE reform program is far from certain. - 10 - [abie : GOVERNMENT TRANSFERS TO PUBLIC ENTERPRISES, 1980-92 LA In millions of Dirhams As % of GDP Current Capital Total Current Capital Total 1980 500 1,339 1,839 0.7 1.8 2.5 1981 587 1,931 2,518 0.7 2.5 3.2 1982 590 2,336 2,926 0.7 2.5 3.2 1983 604 2,084 2,688 0.6 2.1 2.7 1984 622 1,982 2,604 0.6 1.7 2.3 1985 747 2,299 3,046 0.6 1.8 2.4 1986 784 1,732 2,516 0.5 1.1 1.6 1987 714 1,429 2,143 0.5 0.9 1.4 1988 647 1,787 2,434 0.3 1.0 1.3 1989 851 2,059 2,910 0.4 1.1 1.5 1990 1,038 1,725 2,763 0.5 0.8 1.3 1991 1,158 2,092 3,250 0.5 0.9 1.4 1992 1,229 2,009 3,238 n.a. n.a. n.a. La 1992 is an estimate. n.a. = not available. Source: Data on transfers provided by DEPP, Ministry of Finance. Program Contracts 3.11 The signing of formal program contracts between the Government and selected enterprises was probably the most significant evidence that the reform program being pursued through the PERL, and in particular the objective of increased managerial autonomy, was taking root. Program contracts were to be signed with the six enterprises selected for the first stage of the reform program. Drafts of these contracts had been reviewed by the appraisal mission and all of them were signed as scheduled, except for the railways company (ONCF). The essence of these contracts is to specify the respective roles and responsibilities of the Government and the enterprise and to decide on a multi-year investment and operations strategy. 3.12 The generally positive experience with program contracts was a milestone in the reform program. As an example, considerably more autonomy was given to the selected enterprises in their day-to-day management. Traditionally, financial control over PEs takes place at two levels: one person, the contr6leur financier, must authorize all expenditure commitments above a certain minimum, while another person, the agent comptable, must approve and sign for all payments. In the context of the program contracts, the minimum above which authorization by the contr6leur financier is required was raised and the agent comptable now signs for all payments as a matter of routine only; if he has any reservations all he can do is inform the Ministry which now exercises only ex-post control. - 11 - 3.13 The original objective was to extend the program contract approach to other PEs under a second PERL and to further evaluate and streamline the system of financial control, and, of course, to regularly renew existing program contracts as they expire. By the time of the OED mission in May 1992 all five program contracts which were signed in the framework of the first PERL had lapsed and none had been renewed. The apparent reason was disagreements over tariffs, investment plans and the like, a stalemate aggravated by the fact that by then it had been agreed by the Government and Bank management that there would be no follow-up PERL (see below). While there had been no retrogression in the sense that the increased autonomy of PE managers has remained, there has clearly been no further progress either. 3.14 As suggested above (para. 3.02), the function of overseeing the PE reform program has been handled very well by CIPEP; its secretariat, the DEPP, was strengthened in order to help it carry out its expanded functions: among others, the professional staff increased from about 100 to 160, it underwent some restructuring and became more multi-disciplinary. Work has also begun on the creation of a PE database. 3.15 Finally, the independent external audits required by the PERL of the six enterprises selected for restructuring were carried out as agreed, again with the exception of ONCF. On the other hand, little progress was made towards improving Morocco's accounting systems and auditing practices: legislation has been prepared for Parliamentary approval but no action has been taken. Restructuring versus Privatization 3.16 The big industrialization drive which followed independence resulted in government entry into a great variety of activities often only because private sector initiative was lacking. As the latter constraint eased, the presence of PEs in some sectors came into question among others because some of them were viewed as the very obstacles to private sector development. This, together with the poor performance of the PE sector overall since the mid-1970s called for a major re-examination of the role of the State in the economy. The aim was to distinguish between those PEs which by their very nature are monopolies or generate important externalities and those which operate in a competitive (or potentially competitive) environment. The objective of the PERL program was to restructure and improve the regulatory environment for the first group, and privatize or liquidate PEs in the second group. The logical first step was to prepare an inventory of PEs. 3.17 Preparation of the inventory suffered only minor delays and sufficient progress was made in developing a privatization strategy and in drafting a privatization law for the Bank to be satisfied by early 1989 that this second tranche release condition was fulfilled. There were, however, some further bureaucratic delays and only by 1990 was a proper legislative framework established to permit implementation of the privatization strategy: the law was promulgated in April and decrees issued in October. A total of 75 firms and 37 hotels was identified, for privatization before the end of 1995. Including subsidiaries, this would amount to some 300 enterprises out of a total portfolio of about 700. The previous Ministry of Economic Affairs, whose functions were expanded and which is now the Ministry of Economic Affairs and Privatization, was given responsibility for carrying out the privatizations. Also, as a precondition to the privatization program, the Moroccanization Law of the early 1970s was overturned in 1989 thereby setting the stage for greater foreign equity participation. All rules are now set and all organisms in place to implement the program. 3.18 For the group of enterprises which are to remain in the Government's portfolio, the phased program envisaged by the PERL consisted of restructuring programs for the six key PEs which were the target of the first PERL, as well as restructuring studies, in particular in the mining and transport - 12 - sectors, in preparation for the next stage of the program. In addition, a restructuring program for the sugar sector, based on an earlier study, was to be designed with an eye on gradual deregulation of the industry, closure of uneconomic units and privatization of the mills. 3.19 The restructuring programs for the six enterprises, in essence, consisted of the implementation of the sector-wide reforms - in management, finance, arrears, pricing - in those selected enterprises. As discussed earlier, the overall record has been adequate, except in the case of railways. It is interesting to note that the progress achieved in the power and water sectors was reinforced by simultaneous Bank project involvement in those sectors, unlike the case of railways, where there has been no Bank involvement to date. 3.20 At the enterprise-specific level, the President's Report for PERL made reference, in the case of ONE and ONEP, to the very troublesome question of coordination with the local distribution agencies: one of the many problems, e.g., is that they tend to overestimate future demand which can result in overinvestment. Little or no action was taken, however, and the issue was to be addressed in the follow- up PERL. The railways (ONCF) is a very special case. ONCF is technically efficient, financially sound, well-managed and, unlike many other PEs, subject to some measure of competitive pressure. Probably partly because of these reasons, it has tended to remain more independent and been unwilling to formalize (and make transparent) its relationship with the Government along the lines of the objectives of the PERL. Serious financial difficulties are in the making, however. Thus, while Government transfers to ONCF have been reduced in line with the PERL program, this has not been accompanied by general tariff increases, compensation for social tariffs imposed by the Government or by a revised rate for phosphate transport. Nevertheless, some progress towards accepting the principles of the PE reform program has been made of late and the restructuring of ONCF was expected to be included in the follow-up PERL. Finally, with regard to the three enterprises in the petroleum sector, the pricing study was completed (para. 3.09) and its conclusions endorsed by the Government, but the Moroccan authorities opted for a more gradual implementation of the new pricing system than that proposed by the Bank,in order to allow for a more precise evaluation of its fiscal impact. 3.21 The restructuring studies for the transport, mining and sugar sectors and a proposed sugar restructuring program (which presupposes an appropriate pricing system) were all completed, though some with delay, and have been discussed extensively with the authorities. The policy recommendations of the transport sector study are to be incorporated in upcoming Bank-financed sector projects. In sugar, the main issue remains a deep-seated protectionist stance, while in the mining sector, where a draft Mining Code has been prepared as well as a restructuring program for several public mines, the main issue would be redeployment of redundant labor. The restructuring programs for both sugar and mining were to be a pivotal part of a follow-up PERL. 3.22 In sum, while the above discussion of the implementation record of the PERL suggests that the progress made towards the intended objectives was significant, it also serves to illustrate the difficulties encountered when an extremely complex and far-reaching operation challenges strongly vested interests on a wide front. Viewed in this context, the decision to release the second tranche, even though not all of the specific conditions for tranche release had been met, appears justified. A request to waive three outstanding conditions for second tranche release was presented to the Board on March 22, 1989, and approved, the rationale being that, in view of the successful implementation of the bulk and substance of the reforms, delays in fulfilling those three measures would not compromise the objectives - 13 - of the loan and that the issues would be followed-up in any event in a planned second PERL.Y The implications of the subsequent decision not to go ahead with a follow-up PERL are discussed in section IV below. Social and Environmental Impact 3.23 The PERL did not address either social or environmental issues Re. Large-scale labor displacement was not expected in this first phase of the rationalization program, though it would become a major issue in a follow-up PERL associated with planned divestiture. In addition, there were no environmental objectives, components or analysis in the operation, although here also important issues, specifically in the sugar sector, would have been featured in a second PERL. More specifically, a Japanese grant had been secured to help prepare PERL 2. The preparation was expected to include, among others, an environmental study, as an input to the rehabilitation program for the sugar industry, with focus on minimizing the emission of harmful wastes by sugar factories and ensuring their environmentally sound treatment and disposal. 3.24 In a more general sense, it is clear that Morocco's overall stabilization and adjustment program since 1983 has entailed transitional social costs. To counteract these there have been targeted programs of food subsidies and, of equal importance, there has been reasonable economic growth: as a result, the negative impact of the contractionary policies has been limited and therefore manageable. IV. SUSTAINABILITY AND LESSONS LEARNED 4.01 The continued need for substantial Government transfers to PEs, the seemingly intractable arrears problem, the outright failure to achieve reforms in the railways sector, all suggest that the public enterprise reform process in Morocco has only just begun, in spite of the otherwise convincing record of achievements under the PERL. 4.02 Foremost among these achievements was the development of an institutional framework - the CIPEP and its secretariat, the DEPP - to help successfully implement the first stage of the reform program. The DEPP's growing capacity to obtain the financial and operational information on PEs necessary for monitoring and subsequent decision-making, and the CIPEP's capacity to promote consensus on decisions involving several ministries were the cornerstones of the program and of its success to date. 4.03 This institutional framework received its impetus and influence not only from the prevailing concerns among Moroccan officials with the PE "problem", but especially from the fact that half of the PERL foreign exchange was targetted to the PE sector and from the bargaining power that came with this. At the same time, current evidence -- very little further progress on tariffs or program contracts after completion of the PERL, and continued high levels of government transfers - shows that the consolidation of this role is far from completed and needs further external (Bank) support for some time: the latter, in fact, had been the intention all along. Y More specifically, the conditionality with regard to the railways sector had not been complied with, and them were delays in the completion of certain sector restructuring studies. -14- 4.04 The Bank's and the Government's sudden decision in December 1991 not to go ahead with a follow-up PERL therefore suggests that, while implementation of the first phase of the program and of the first PERL was moderately successful, the sustainability of Morocco's PE reform program is, nevertheless, in doubt. Without the clout that comes with Bank support it is unlikely that the pivotal role played by the DEPP and CIPEP can be maintained. In certain areas where relatively few parties are involved, such as in the resolution of arrears or in the compilation of a database and development of performance indicators, there is a reasonable chance that continued progress will be made, because of the apparent determination among those parties to carry on with the reforms. In other instances, however, and in particular those where interministerial consensus must be reached to take policy decisions, such as the signing of program contracts or increases in tariffs, the momentum appears to have been lost and further progress difficult to sustain. 4.05 The interruption in Bank support for the program has major implications that go beyond PE rationalization perts and may jeopardize Morocco's overall structural adjustment program. This can best be illustrated by a review of the significance of the PE tariff issue in Morocco's overall public finance picture. A recent World Bank report- examines in detail, over the structural adjustment period, the relative importance of the three public sector entities in Morocco (the Central Government, PEs and the local Governments), the financial flows among them and their relation with the rest of the economy. The evolution of public sector savings and investment over time captures some of the past achievements as well as the challenge which lies ahead. A few summary data are presented below, comparing the pre- crisis year 1982 with 1989. Table..: PUBLIC SECTOR SAVINGS-INVESTMENT BALANCE, 1982 AND 1989 (data in % of GDP) 1982 1989 Financing Financing Savings Investment Needs Savings Investment Needs Public Sector 2.4 15.1 12.7 4.4 11.3 6.9 Central Government -1.6 8.6 10.2 0.7 4.6 3.9 Local Government 0.4 1.0 0.6 0.4 1.5 1.1 Public Enterprises Sector 3.6 5.5 1.9 3.3 5.2 1.9 memoI Oross Domestic Balance 13.8 28.3 14.5 /A 18.5 24.0 5.5 LA /A Resource balance. Sou : Data from: World Bank, The Kingdom of Morocco: Issues and Prosnects in the Public Sector, Report No. 10157-MOR, June 8, 1992. F World Bank, The Kingdom of Morocco: Issues and Pronocts in the Public Sector, Report No. 10157-MOR, June 8, 1992. -15- 4.06 The Bank's report rightly points to the still fragile state of Morocco's public finances. In line with the stabilization and adjustment policies, total investment by the public sector is down considerably (the share of private sector investment in GDP remained about the same between those two years), but the decline is primarily at the Central Government level. Also, total public sector savings are up by about two percentage points of GDP, all of it, however, again at the level of the Central Government: as a result, Central Government financing needs were reduced drastically. 4.07 Local Government savings remained about the same, while savings of the PEs were actually down. At the same time, and consistent with Morocco's decentralization policy dating from the mid- 1970s, there was a substantial shift within the public sector's investment towards Local Governments and the PEs, which together now account for 60% of the total as opposed to about 40% in 1982. In other words, while Local Governments and PEs are investing relatively more, there has not been a corresponding increase in their savings' effort over the structural adjustment period; their combined financing needs were up by half a percentage point of GDP, largely because measures to improve their savings performance have been neglected. 4.08 During these past few years, debt rescheduling has been the public sector's major source of financing, one other source being the accumulation of arrears. The Government's objective, however, is that by 1993 the dirham become a convertible currency, implying, among others, no further debt reschedulings or arrears. Given that the country has vast and urgent needs for increased investments in social and physical infrastructure, largely resulting from recent neglect as a corollary of the stabilization efforts, the challenge is twofold. The successful efforts to increase savings at the Central Government level clearly must be further intensified, but, in addition, incentives and mechanisms have to be developed to increase savings at the Local Government and PE levels. Hence, the crucial importance of improvements in tariff policy for PEs and in PE efficiency. 4.09 The preceding paragraphs suggest that, for a variety of reasons, there is a strong case for follow-up and continued Bank support in some form in order to maintain the momentum of change initiated by the PERL. Several potential explanations exist for the decision that this support should not be in the form of a second PERL. First, Morocco's balance of payments has shown dramatic improvement over the adjustment period and gross international reserves at the end of 1991 were equivalent to more than five months of CIF merchandise imports. Thus, lending for balance of payments support did not seem urgent. 4.10 Second, a follow-up operation might have been viewed as unnecessary because the reform program was progressing satisfactorily. While it is true that the reforms got off to a good start and with much determination, including an important shift in attitude and approach towards the PE sector among policymakers, little headway has been made since the completion of the first PERL, as discussed earlier, and some of the momentum appears to have been lost. 4.11 Third, the Government and the Bank might have felt that a second PERL would have to deal with increasingly complicated and controversial matters, including privatization, and would be even more complex than the first and therefore difficult to implement expeditiously. Such reasoning does not, however, take account of the unintended impact of such a decision on the process of reform since, without the influence and advice that come with Bank support, some of the most crucial items of reform may not be pursued with the necessary speed. 4.12 Because of the relative success of Morocco's adjustment policies during the past few years, combining stabilization with satisfactory economic growth, it has now been mutually agreed between the Government and the Bank that there will be no new adjustment lending, safe in exceptional - 16 - circumstances. The Bank's current strategy is to continue its support for PE rationalization primarily through sector investment loans and project lending. It remains to be seen whether the Government's commitment to PE reforms, especially in critical areas such as tariffs, program contracts or privatization, can be maintained and strengthened. 4.13 Several important lessons emerge which have implications for the Bank's future assistance strategy. The first lesson to be drawn from the PERL experience clearly is that the Government's and the Bank's long and thorough preparatory work paid off in the form of a well-designed program, strong commitment, and therefore fairly comprehensive implementation. Even so, the program was so ambitious that, almost inevitably, not all could be done in the time-span provided. 4.14 Also, as noted in the PCR, cross-covenants in project operations may well augment the chances for successful implementation of policies covered under an adjustment operation. To an extent, the Bank's strategy was designed with this in mind, as discussed in para. 2.03 above. For example, the relative ease with which agreements were reached with the power and water companies, sectors in which the Bank is involved through project lending, stands in contrast to the deadlock in the railways sector, where the Bank has had no operations to date. It must be added that the Bank has, of late, been making preparations for project involvement in Morocco's railways. 4.15 Second, the success of Morocco's public enterprise reform program to date owes much to the emphasis placed on developing an authoritative institutional framework (CIPEP and DEPP) determined to pursue PE issues, which in turn owes much to the fact that half of the funds were targeted to help remedy the immediate liquidity needs of specific PEs. Probably not as much the funds themselves as the authority that came with "control" over the release of foreign exchange gave legitimacy and power to this new institutional set up. Insufficient time has elapsed, however, to consolidate the roles of CIPEP and DEPP and transform them into fully routine and legitimate parts of the public decision-making process. Further external assistance, at least to some extent tied to PE sector expenditures, would be needed to solidify this function and ensure the continuity of the reforms, which, in turn, is critical to bring Morocco's overall adjustment program to successful completion. 4.16 Finally, the joint Government-Bank decision to interrupt support for Morocco's PE reform program, when such continued support was part and parcel of the dialogue including the decision to release the second tranche of PERL I (para. 3.22), assumes that policy reform will now proceed without Bank support or through the influence and with the assistance which may be provided through investment loans. This assumption should be tested as part of the overall Bank-country dialogue. - 17 - PROGRAM COMPLETION REPORT MOROCCO PUBLIC ENTERPRISE RATIONALIZATION LOAN (LOAN 2820-MOR) June 27, 1991 Industry and Energy Operations Country Department I Middle East and North Africa Region  - 19 - PROGRAM COMPLETION REPORT MOROCCO PUBLIC ENTERPRISE RATIONALIZATION LOAN (LOAN 2820-MOR) PART I - PROGRAM REVIEW FROM THE BANK'S PERSPECTIVE Name Public Enterprise Rationalization Loan Loan No. 2820-MOR Region Middle East & North Africa Country Morocco Sector Non-Project Lending I. PROGRAM BACKGROUND AND SCOPE 1. Since the early 1920s, public sector enterprise (PEs) have been an important element of the productive sector in Morocco. At first, they were created as a vehicle to control natural resources. After independence, their number increased significantly with the view to spearhead economic development, create employment and promote regional development. The economic achievement of PEs has been mixed. Several enterprises have performed well. Others, however, display weaknesses often encountered in other countries, such as overstaffing, low productivity and poor financial performance, undue dependence on budget support for maintenance of their operations and weak management. 2. By the mid-1980s, Morocco, facing rising international interest rates, declining productivity of its public investment program and the effects of a prolonged drought (1980-84), began a comprehensive program of economic reform. Morocco's economic performance had deteriorated sharply since the late 1970s due to low prices for phosphates, its main export commodity, and substantial increases in international oil prices. As a result, Morocco resorted increasingly to borrowing from external capital markets to maintain its high rate of public investment. Moreover, the country's external debt, which had been about US$1.8 billion in 1975, rose to US$13.9 billion in 1983, representing 120% of GDP and 355% of foreign exchange earnings. 3. The PE sector in Morocco is fairly large for a non-socialist economy. It includes some 450 major enterprises, of which 25% are regulatory, quasi-governmental institutions, 8% public service monopolies and the remaining two-thirds, industrial and commercial concerns. PEs represent about 16% of value added and about 3% of the total labor force. They generate less than 10% of value added in agriculture, construction and commerce sectors and in industry about 25%. In contrast, PEs produce more than 50% of value added in mining, water supply, energy, transportation and communication. 4. Given the importance of the PE sector in the economy, the Government of Morocco, in the early 1980s, conducted a large-scale review of the sector and made recommendations to proceed with a major restructuring, encompassing economic policy changes, institutional development and the establishment of performance criteria and monitoring procedures (contract programs). The Government's reform program began in 1984. It consisted of extensive stabilization and adjustment policies, supported - 20 - by a series of IMF stand-by arrangements and World Bank sectoral adjustment loans. Morocco used restrictive fiscal and monetary policies to contain aggregate domestic demand and introduced fiscal reforms to spur domestic resource mobilization. 5. Furthermore, the Government began structural reforms in trade, industry, finance, agriculture, education and the public enterprise sectors to augment the supply response of the economy. The Government rescheduled debt service payments to official and commercial creditors. The Government's structural adjustment program has received support from four consecutive IMF stand-by arrangements and six sectoral adjustment programs financed by the World Bank. 6. In 1985, the Government invited the Bank to analyze the PE sector and help devise a broad policy framework and reform program for public enterprise operations. Bank sector work eventually lead to the development of a medium-term program designed to address the problems related to the external environment of PEs as well as to the internal constraints confronting PE management and operations. The Bank's objective in assisting the PE sector was part of the general adjustment program of the Government, supported by the Bank through a number of complementary operations (ITPA, SAL, ASAL), which, while addressing Morocco's internal and external imbalances, aimed at raising the efficiency of production and stimulating exports through sound, sustainable reform of incentives and institutions in most sectors of the economy. II. PROGRAM OBJECTIVES. DESIGN AND ORGANIZATION 7. The main objective of PERL-1 was the rationalization of the PE sector. To achieve this, the Government and the Bank, under PERL- 1, sought to define a set of "reasonable " principles and objectives for the role of the State in the PE sector as well as specific operations of the selected PEs. Through the PE reform program, and with Bank assistance, The Government sought to bring gradually the various PE sector entities in accord with these agreed upon principles and objectives. Special emphasis was placed on six of the largest PEs (para. 13). At the same time, the program was to help divest the sector from certain practices incompatible with rationalization measures such as the accumulation of large Government arrears, inappropriate pricing policies, excessive reliance of PEs on Government budgetary support, etc. 8. The Bank's role under PERL-1 was to provide the Government with financial and technical support in the implementation of its PE reform program. PERL-1 was to help enhance the productivity of the PEs, reduce their dependence on scarce budgetary resources, and rationalize the role of the State by focussing on policy-making, provision of essential services and a new approach to control PE performance based on overall economic and financial results rather than day-to-day authorization of expenses. 9. The objective of "rationalizing" the sector was seen clearly, at the outset, as an ambitious one, which would require several years of effort, training and programming. Thus, PERL-1 was conceived (para. 44 of the President's Report (PR)) as "the first of a series of operations" to span over at least five years, the first PERL covering basic reforms and measures for the first two years or so. To make it manageable, there had to be some selectivity in the coverage of PERL-1. The emphasis of the program was initially on the basic elements of the sector's management and features which would permeate most other aspects of the sector and have an overall impact on PE performance. Accordingly, PERL-1 addressed three selected concerns: - 21 - (a) Promoting PE financial autonomy and accountability through a reduction in budgetary transfers and greater reliance on internal and commercial sources of financing. This process included eliminating existing arrears, introducing measures to prevent further accumulation of arrears in the future, adjusting output prices to reflect market values and sent correct signals to the consumers and improving the process for evaluating proposed PE investments; (b) Enhancing managerial autonomy of PEs by delineating the relationship between the Government and the enterprises, with effective monitoring, by the Govern- ment, of PE performance and introducing modern management information systems and improved accounting and auditing principles and practices; (c) Rationalizing the role of the State in the economy through the development of strategies, programs and instruments to divest the State of uneconomic enterprises and of activities which the private sector could handle more efficiently. 10. The Government's objectives in public enterprise reform were incorporated in a Letter of Development Policy. The specific design of PERL-1 was summarized in a Matrix of Rationalizing Measures (annexed to the aforementioned letter) which indicated (i) the objective measures to be taken, (ii) the time frame of implementation centered on two tranches of disbursement of the loan and (iii) a test of efficiency of the measures resulting from their implementation in selected public enterprises. 11. The Government, in its Letter of Development Policy, specified its medium-term objectives, the scope of the planned reform and desired actions during the first two years of the public enterprise rationalization program. This letter, which was an integral part of the legal documents, indicated the Government's commitment to continue pursuing macroeconomic stabilization and adjustment programs. The Bank and the IMF have worked closely to ensure the consistency of the terms of the IMF Standby Agreement with the PERL. 12. The Matrix focussed on eight general areas of interest for the rehabilitation of the sector: (a) financial measures, including a rationalization of the budget transfers to PEs along with tariff and investment objectives for selected PEs; (b) the study and the application of pricing policies in selected PEs; (c) improvements in investment planning, especially appraisal capability and related training needs; (d) the problem of Government arrears and a program for their elimination; (e) improvements in relations between the Government and the PEs; (f) better PE management information and accounting/auditing systems; (g) rationalization of the role of the state in the economy, by making an inventory of the State portfolio, examining restructuring priorities and disengaging programs of the State from productive economic activities (including the - 22 - preparation of specific studies for the rationalization of the mining and transport sectors); and (h) organization of the Direction des Etablissements Publics et de Participation (DEPP, the Directorate for Public Enterprises and Participations) and the project implementation system. 13. Six major PEs were selected as those which were likely to benefit most from the above measures. These were the following: (a) Office National d'Electricit6 (ONE,) the national power company; (b) Office National de l'Eau Potable (ONEP), the national water supply company; (c) Office National des Chemins de Fer (ONCF), the national railway; (d) Socidtd Anonyme Marocaine de l'Industrie du Raffinage (SAMIR), a national refinery company; (e) Soci6td Chdrifienne du Pdtrole (SCP), a national refinery company; and (f) Soci6t6 Nationale des Produits Pdtroliers (SNPP), the national oil distribution company. These companies, at the time of PERL-1's inception, accounted for slightly more than half of the Government's transfers to all PEs, aside from agricultural organizations, which had been receiving assistance under other Bank Group operations. (They were also major creditors or debtors in the arrears network discussed in para. 17(iii).) In addition, PERL-1 provided for studies of the mining, sugar refining and transport subsectors as potential candidates for enterprise reform. HII. PROGRAM DESCRIPTON 14. The Bank loan of US$240 million was to finance sector policy reforms, enterprise restructuring and technical assistance. A component of US$117 million was to support Government policy actions and reform measures in the entire PE sector. The Bank was to make disbursements against foreign exchange expenditures related to eligible general imports. A further US$117 million was to support Government actions in support of reform for the six selected public enterprises, as well to address some of their organizational, financial and operational problems. Disbursements of this component were to be made against foreign exchange expenditures (spare parts for ONCF, chemicals for ONEP, coal for ONE, crude oil for SAMIR and SCP and liquified petroleum gas for SCP and SNPP). There was also an allocation of US$6 million for financing consulting services (including refinancing of a US$1.25 million PPF advance approved by the Bank in September 1986) required to support the implementation of the reform measures, restructuring actions and studies as outlined in Annex VI of the PR on the Program. Under the aegis of the Ministry of Finance, DEPP was to assume chief responsibility for the Program. The disbursements for general and enterprise imports were to take place in two tranches, the first for US$120 million and the second for US$114 million. Disbursements of the technical assistance component were to take place throughout the disbursement period according to the pace of technical assistance expenditures. - 23 - 15. Bank supervision of the Program's implementation was to focus on (i) Government progress in pursuing appropriate programs of fiscal stabilization; (ii) the implementation of the PE sector rationalization program as a whole and of the particular six PEs included in the Program and (iii) procure- ment supervision. IV. ACCOMPLISHMENTS OF THE GOVERNMENT'S ENTERPRISE REFORM PROGRAM UNDER PERL-1 A. Rationalization of Government Relations with Public Enterprises 16. A major objective of PERL-1 was to rationalize the complex institutional relationships between the Government and its enterprises. The focus of this effort was to shift the oversight of the Ministry of Finance from day-to-day enterprise management to strategy formulation, thus reducing the overlap of responsibilities with the concerned technical ministries. PERL-1 was to help achieve this new relationship through the reconstitution of the Interministerial Permanent Committee for Public Enterprises (CIPEP), assisted by DEPP, which became the secretariat of the CIPEP preparing the agenda and related studies and recommendations. The Government strengthened the principles of the multi-year programming for PEs by the systematic establishment, under PERL- 1, of contract programs with six large PEs. These are formal documents, signed by the Government and the enterprise, stipulating the mutual obligations of the Government and the PE in the implementation of reform programs. At the same time, PERL-1 called for reform of the operating conditions and composition of the Boards of Directors in PEs. The results achieved in the various areas are outlined below. (i) Re-establishment of CIPEP. The Government re-established the CIPEP, as specified in para. 71 of the PR for PERL-1. It has become an effective forum for addressing PE strategy, resolving disputes among PEs, approving contract programs and supervising overall progress under PERL- 1. Periodic meetings (at least four or five times a year) of the CIPEP are becoming standard features of PE management. (ii) Contract Programs. The Government, under PERL-1, was to negotiate new contract programs with ONE, ONEP, ONCF, SAMIR, SCP and SNPP. At the time of PERL-l's appraisal, the Bank had reviewed drafts of these contract programs. The signing of the contract program with SNPP and ONEP was a condition of loan effectiveness. The signing of the remaining contract programs became a condition for releasing the second tranche of PERL-1. By the release of the second tranche in March 1989, the Government had signed contract programs with all PEs except for ONCF. There has been a delay in the signing of a contract program, codifying a revised investment and operations strategy. Overall, contract programs have been successful in delineating the respective roles of Government and enterprise management. They have provided PE management with significant decision-making authority, such as setting expenditure ceilings but allowing managers the freedom to commit expenditures, within the limits, on their own authority, subject to ex-post reviews by DEPP. Previously, agents in the Ministry of Finance had to approve all expenditures before their commitment. - 24 - (iii) Reorganization of the Direction des Etablissements Publics et de Participation (DEPP). As specified in paras. 74 and 75 of the PR of the PERL, the loan was to assist in the reorganization of the DEPP to meet the needs of a revitalized CIPEP in its ex-post monitoring activities. The focus of the assistance was on defining organizational/staffing needs, establishing a data system on PEs and providing training to strengthen the skills of financial staff. The process has begun and will continue under the proposed PERL-2 operation. Once PEs have demonstrated their capability for autonomy and their ability to operate according to plans, a priori controls would be replaced by a posteriori controls of their performance and management. The reorganization and strengthening in DEPP will continue, with assistance under the proposed PERL-2, in order to implement the new system of relationships with the PEs. (iv) Improvement of PE Management Information Systems. Under PERL-1, the Government was to improve performance monitoring of PEs through the establishment of management information systems (MIS) in a number of PEs selected according to their strategic or operational importance. (v) Prospects for Privatization of PEs. The Government, under PERL-1, made substantial progress in developing a comprehensive policy framework for privatizing PEs, where appropriate. The DEPP, with technical assistance, identified (a) PEs with less than satisfactory performance, which need restruc- turing, (b) those which need liquidation and (c) specific PEs which have activities that would be more appropriate for the private sector to handle. The study assessing the PE portfolio was helpful in guiding the Government in the preparation of a strategy for privatization and the development of an appropriate legal framework. The Moroccan Privatization Law, which the Parliament approved in November 1989, has designated some 113 firms or hotel establish- ments to be privatized over the next six years. A new ministry was created to manage the privatization program. Application decrees permitting the practical establishment of an administrative and policy framework were issued in October 1990. The system is nearly in place and a first batch of enterprises is expected to be offered to potential buyers before the end of 1991. The process needs to be phased. At the beginning, the most viable and profitable enterprises (likely to be in manufacturing and tourism) would be offered to private investors. Several PEs, however, need to be restructured prior to privatization and financing will be needed for that purpose. PERL-2, under preparation, would support the privatization program. B. Improvements in the Financial Autonomy of Public Enterprises 17. The Government took a series of actions to gradually disengage State involvement in the financial activities of PEs thus enhancing their autonomy and efficiency of operation. The specific actions concerning subsidies, budget transfers, tariffs, Government arrears and improved accounting are described in the sections below. (i) Operating Subsidies and Budget Transfers. The Government has eliminated a significant part of operating subsidies to PEs and has contained investment transfers through Government actions to rationalize the PE investment programs and implement the tariff policies necessary to ensure adequate cash generation -25- for the utilities concerned. As a result of these actions, Government transfers fell from DH 3.1 billion in 1985 to 2.4 billion in 1989, as follows: Investment transfers 2300 1429 1787 1972 Operating subsidies 747 714 410 429 (i) Tariff Increases. The Government permitted adjustments in power and water tariffs in line with the objectives in the Letter of Development Policy. Railway tariffs were raised in 1987. Facing competition from road transport, however, ONCF, decided not to raise its tariffs in 1988 and, instead, reduced its investment program. In this manner, ONCF maintained its financial viability and its level of internal cash generation in 1989 was around 45% compared with the level of 36% foreseen at negotiations. The overall question of ONCF's financial equilibrium and investment program remains, however, a complex issue which has been exacerbated by Morocco's financial constraints. ONCF recently requested Bank assistance to help rationalize and finance its investment program. Concerning the prices of petroleum products, the Government has agreed on an action plan for implementing in 1991, the findings of a study on the pricing structure. In general, the question of the sustainability of the Government's objectives to maintain the financial equilibrium of PEs through adequate measures, including tariff increases, remains a difficult and pervasive issue, with serious political and social constraints. (iii) Government Arrears to PEs. A major source of financial difficulty for many PEs at the outset of PERL-1 was the impact of the accumulation of arrears on Government payments for PE investment allocations and the Government's consumption of public utilities. Paras. 61-67 of the PR give the details on the arrears situation and the PERL program for improvements. Under PERL-1, the Government introduced a system of cross-cancelling mutually-owed obligations among the various public entities. This system reduced arrears substantially. By the time the Bank released the first tranche of PERL, in December, 1987, arrears dropped from DH 26 million (US$3.2 billion) to DH 5.5 billion (US$0.7 billion). For the remaining balance, the Government supplemented cash settlement with over DH 3.5 billion of interest-bearing, medium-term bonds issued to the PEs. While the Government continued, in 1989 and 1990, to accumulate some arrears on paying its electricity, water supply and telephone bills, as well as compensation for low railway tariffs, (mainly as a result of under-budgeting) the overall situation has improved and the Government has indicated its determination to prevent the build-up of new arrears. It is expected that, under PERL-2, the Government will agree on a plan to completely eliminate arrears. To prevent the accumulation of new arrears, the Government has introduced measures to curb its consumption of public utilities and ensure that its budget contained sufficient funds for its projected consumption. In addition, the measure of financial autonomy achieved under PERL-1 has reduced PE demand for Government funds. -26- (iv) Improving General Accounting and Auditing Principles and Practices. The Bank and the Government recognized, under PERL-1, that the proposed reforms for setting objectives and monitoring them required the availability of uniform ac- counting systems and the introduction of appropriate auditing practices. Therefore, PERL-1 contained provisions for improving accounting systems and the qualification of accountants/auditors, as specified in paras. 79 and 80 of the PR. Independent audits of all enterprises restructured under PERL indicate that, in most cases, financial conduct has been satisfactory, though there is a need for substantial revisions to the Moroccan National Accounting system to create a basis for broad modernization of accounting standards and practices. Two new laws, one on accounting practices and one on the regulation of the audit profession have been under consideration by the Government. C. Restructuring Studies 18. PERL-1 included studies for the possible restructuring of the mining and transport subsectors. The following sections summarize the status of these studies. (i) Mining Subsector. The Government, with the assistance of international consultants, completed a mining subsector study. As a result of the study, the Government and the Bank agreed on an action plan to restructure the primary holding company of the sector, the Bureau de Recherches et de Participations Minibres (BRPM). This restructuring will take place with Bank assistance under the proposed PERL-2. The Government is in the process of negotiating a new contract program with BRPM, reflecting the company's new orientation. (ii) Tan rt Subsector. The Government proposed a transport sector study under PERL which would define optimal investment strategies, deregulation options for the subsector, evaluate each option based on its impact on transport costs and tariffs, and prepare an optimum strategy for implementing deregulation policies. This study is complete and is currently under review in the Bank. D. Restructuring Programs 19. PERL-1 also provided for a restructuring program in the electric power, water, transport and petroleum subsectors. The main achievements of these programs are summarized briefly in the sections below. (i) Electric Power (ONE). The restructuring effort focussed on helping ONE meet the rising demand for electricity, through improved coordination between ONE and the Regies and development of a least-cost development program to meet future needs and increased tariffs so that ONE may cover a substantial share of its investments. As a result, the Government is no longer contributing to ONE's investment program. Furthermore, the Government and ONE have established a contract program and a Management Information System (MIS). As a condition for PERL-1, the Government increased tariffs by 5% in 1987 and 5% in 1988, in order to enable ONE to maintain its self-financing ratios in line with agreed objectives. There were no tariff increases in 1989. Despite some improvements, Government arrears to ONE have persisted mainly due to insuf- ficient budgetary allocations of public agencies to pay their electricity bills. To - 27 - improve this situation and strengthen the financial objectives the Rural Electrification Project (Loan 3262-MOR, approved October 4, 1990) has agreed on specific deadlines for payment of arrears and (b) the prompt payment of electricity bills along with sufficient budgetary allocations to ensure that public agencies will be able to fulfill their financial obligations. Furthermore, the Rural Electrification Project contains covenants to implement the recommendations of the tariff study no later than June 1992. (ii) Water (ONEP). The focus of restructuring for ONEP was similar to that for ONE, i.e. coping with rising demand for service, improving coordination with the regies, which distribute both electricity and water, and meeting a greater proportion of its investment program while maintaining its financial viability. The Government authorized the tariff increases required by PERL-1, in 1987 and 1988. However, in 1989, ONEP requested a 12% tariff increase but did not receive it. Instead, ONEP reduced its investment program by about one third. Towards the end of 1989, the Bank stopped disbursements on a Bank-financed water supply project to prompt the Government to increase tariffs. In January, 1990, the Government, in response, increased tariffs by only 8% and reduced the equity contribution which it originally had envisaged. This increase is insufficient to achieve the original targets of the 1990, 1991 and 1992 investment programs. The current 1990-1992 investment program is now only two-thirds of the original investment program, a major reduction, especially given that the original program was fairly modest, designed to maintain existing levels of service. (iii) Railway Transport (ONCF). ONCF faces a major investment program for track and rolling stock replacement needed to maintain service capability and improve technical performance. Unlike ONE and ONEP, however, ONCF needs to compete in a deregulated environment. Under PERL-1, it was expected that ONCF would set tariffs to cover its costs and generate the necessary capital for investments. In addition, the Government and ONCF were to sign a contract program which would contain explicit provisions for enabling ONCF to move closer to financial autonomy. Although the contract program was to have been signed before the release of the second tranche of the PERL, this appeared to be premature given several difficult questions which they needed to be settled first. The underlying issue related to the over-optimistic financial objectives set under PERL-1 was the target set at full-cost recovery, including trade costs. This issue proved to be a key factor in the inability to renegotiate the tariff OCP should pay ONCF, for the transport of phosphate rock which accounts for over 40% of ONCF's revenue. A further issue was the relative priority of ONCF's proposed investment program and particularly the balance between new investment and rehabilitation of the existing network. However, it is expected that the Government and ONCF will resolve these issues and sign a contract program in 1991. (iv) Petroleum Refining and Distribution (SAMIR. SCP AND SNPP). The restructuring actions in the petroleum sector, under PERL-1, were to concentrate chiefly on (a) alleviating the heavy burden of arrears on the three PEs and (b) examining the pricing structure of petroleum products with a view toward introducing greater flexibility in response to changing market conditions. The -28- Government has signed the contract programs for the three PEs in the petroleum sector and has completed the study on petroleum product pricing. Furthermore, the Government has endorsed the conclusions of the study and in 1989, the Government introduced, on a trial basis, a system of indexing ex-refinery prices for petroleum products to international prices. This system should become fully operational in 1991. V. BANK MONITORING AND SUPERVISION OF PERL 20. From the outset, the Bank and the Government of Morocco recognized that PERL-1 was an ambitious project and, given the variety and complexity of its components, delays in project implementation were inevitable. The PR for the project noted that "the capacity of existing Governmental institutions to implement a broad-ranging and complex reform, while monitoring the implementation of many enterprise restructuring programs will be strained." There was a delay in releasing the second tranche of the loan, originally scheduled for September of 1988. The Bank did not release the second tranche until March 1989 and ultimately requested a waiver of certain tranche release conditions which were not met due to delays in (a) the completion of certain studies related to sector restructuring and (b) the signature of a contract program with the railway enterprise (ONCF). In support of tranche release, the Bank pointed to overall progress in broad sector reform, establishing a new basis for efficient PB operations, and clearance of past arrears. It also pointed out that the exceptions to full compliance were minor in light of the impact of the overall reform program. In light of the complexity of the project and the conditions surrounding its implementation schedule. Overall, the Bank's supervision efforts were appropriate. VI. PROGRAM SUSTAINABILIT 21. The Bank and the Government are currently planning to continue the enterprise reform process begun with PERL-1 under a proposed PERL-2 operation. The main focus of the second loan is improving the efficiency of the PE sector with key objectives to (a) adopt clear guidelines for public and private ownership based on the nature of the enterprise, (b) promote operational efficiency, sound capitalization and a rational dividend policy, and (c) enhance PE autonomy and responsibility through a new system of controls based on ex-post review of agreed programs, evaluation of performance and strategy and appraisal of medium-term development programs. Of particular importance under PERL-2, is the need to clarify the role of the DEPP, in relation to the public enterprises under its aegis, especially in the areas of expenditure controls, restructuring and privatization. There are also certain actions which were to take place under PERL-1 that now require follow-up work under PERL-2 to ensure project sustainability. These are, inter alia, the implementation of measures to prevent the accumulation of new arrears, the signing of a contract program for ONCF, the implementation of an indexation system for petroleum product prices and the reorganization of the DEPP. VII. CONCLUSIONS AND LESSONS LEARNED 22. PERL-1 has set into motion the principles for the efficient operation of public enterprises in Morocco. Considering that PERL-1 called for a major overhaul of the basic structure of PB operations, the Government made considerable progress in a three-year period. The major achievements consisted - 29 - of, inter alia, (a) substantial reduction in Government transfers, promoting greater financial autonomy of PEs, (b) cancellation of past arrears and tariff increases to improve the financial viability of PEs, and (c) the establishment of contract programs specifying the respective roles of the Government and the PEs in implementing the reform programs. However, there are several areas where work was not completed and which will require sustained effort on the part of the Government to continue its commitment to the objectives under PERL: (a) the prevention of further arrears accumulation, (b) the need to work out a viable contract program for ONCF and (c) further reorganization of the DEPP. The Bank has learned three lessons from PERL-1, which it is considering the preparation and should consider in designing similar operations in other countries: (a) A loan of this nature requires close integration of the project's design with the country's public sector issues, the macro-economic framework and public finance. Therefore, the characteristics of the PERL program will undoubtedly differ among countries, the Moroccan PERL seems to indicate the need to prioritize, under a first loan, most of the measures necessary to establish the system on a sound basis, leaving for a second operation, or to a subsequent sector project, the specific implementation of these measures at the level of the public enterprises themselves. The "adjustment " character of a PERL operation was predominant in PERL-1, though there was also some effort to address various issues of a selected number of PEs in light of their importance to the economy. Furthermore, it was also clear that incorporating a number of important subsector studies in PERL-1 was an effective means of preparing for the second stage of the program (PERL-2), involving restructuring at the enter- prise level. (b) In the preparation of future PERL operations in Morocco or in other countries, the Bank should continue to be mindful of the scope of change involved and recognize the long period which may be required for all the elements of the restructuring operation to take hold. Sensitivities related to public enterprises are likely in any situation to be considerable, hence there are likely to delays in reform implementation. Thus in the evaluation of project performance, perhaps the foremost consideration is the Government's sustained commitment to the reform process, recognizing that there may be temporary setbacks in meeting specific targets. Therefore, it seems reasonable to phase Bank support of PERL programs over at least five years and this support probably will require at least two projects. (c) Monitoring and enforcement of the principles, objectives and specific covenants of PERL operations at the subsector level may be more effective if supplemented by "cross-covenants" in subsector loans. Given the variety of subsectors involved and the modality of releasing the loan in general tranches rather than by specific activity the inclusion of cross covenants enhances the scope for taking direct action at the subsector level which could have an impact on the perfor- mance of the subsector under a PERL operation. For example, both the Bank loans in the power and water subsectors contained cross-covenants which were very effective in ensuring compliance of these sectors with similar covenants under PERL. On the other hand, in the railway sector, the lack of a parallel sector agreement was perhaps a drawback to meeting some of the original objectives envisaged for that sector under PERL. -30- PART H - PROGRAM REVIEW FROM THE BORROWER'S PERSPECTIVE KINGDOM OF MOROCCO MINISTRY OF FINANCES DIRECTORATE OF PUBLIC ENTERPRISES AND PARTICIPATIONS Completion Report for PERL I (Translation) The completion report for the PERL I loan transmitted by the World Bank calls for a number of observations of substance and form. A. Observations of Substance 1. Page ii, para. ii: One must mention among the studies which led to the preparation of the PERL program those studies carried out by the Comit6 permanent de vigilance. 2. Page 4, para. 12 b: Add the su and ... no change in the following. 3. Page 5, para. in front of No. II: One should not mention the Office Cherifien des Phosphates (instead of the "Compagnie Nationale des Phosphates"). It was excluded from the list of enterprises that benefitted from transfers when in fact there was never any budgetary transfer to that enterprise. 4. Page 7, para. IV: The MIS study of the 12 public enterprises did not have as an objective the setting up of a data bank as this is mentioned in the report. Besides, this study has not been "disappointing" since it allowed for the diagnostic of the MIS of the concerned public enterprises and for the identification of appropriate recommendations, most of which led to actions to set up MIS or to improve existing systems. 5. Page 8-17, para. i: Since one mentions operating subsidies in budgetary transfers, it would be more appropriate to give figures for global transfers and not only for investment subsidies which, by the way, were greater than the 1.4 billion mentioned for 1988 and 1989. - 31 - In fact, global figures were as follows: 128 19.2 1M 12M2 Investment subsidies 2,300 1,489 1,787 1,972 Operating subsidies _47 214 410 _22 TOTAL 3,147 2,143 2,197 2,401 6. Page 10-19, para. i: The increase in electricity tariffs was 5% instead of 7% in 1988. 7. Section II, last table: It appears that the number of staff mobilized for the appraisal phase is greater than the figure mentioned in the report: it should be 9 instead of 5 as this is indicated in the column "staffweeks". B. Observations of Forms 1. Page ii, para. ii: One mentions "regulatory, quasi-governmental institutions": this notion is too vague and does not correspond to a known concept. 2. Page 6-16: The acronym CIPEP corresponds to the Comit6 Interminist6riel Permanent (instead of des participations) des entreprises publiques. 3. Page 7, para. V: Concerning figures of the candidates for privatization, one should mention "113 enterprises a hird&" because all the hotels referred to have not been established as companies. 4. Page 8, para. ii: In the second sentence of this paragraph, substitute "on the other hand" to "to the contrary"... 5. Page 10, para. i: In the third line, substitute "the Government" to the pronoun "it" because the preceding subject is "the Government and the Bank". - 32 - KINGDOM OF MOROCCO MINISTRY OF FINANCES DIRECTORATE OF PUBLIC ENTERPRISES AND PARTICIPATIONS "It would be superfluous to take up here the various aspects of PERL I that are described in detail and exhaustively in the first part of the report. The same is true for the technical evaluation of the project, the main features of which have been the object of numerous developments. The Borrower will therefore limit its comments to several lessons drawn from the experience under PERL I. The basic contribution of PERL I is undoubtedly the substantial change in the perception of public enterprises and the overall view needed for any public sector reform. This change in attitude was reflected in the establishment of the Permanent Interministerial Committee on Public Enterprises (Comit6 Interministdriel Permanent des Entreprises Publiques - CIPEP), a strategic body that played a key role throughout the project's design, implementation and supervision phases. Likewise, the new view of the public sector has made possible the formulation of a consistent and overall program that embraces the strategic, institutional, financial and managerial aspects of that sector. The dynamism of the CIPEP has also had an effect on the behavior of all players involved in the project, namely the technical supervisory ministries, pertinent departments of the Ministry of Finance and especially the directors of the public enterprises who actively and enthusiastically helped carry it out. Moreover, PERL I improved the means of action and modes of intervention available to the Department of Public Establishments and Holdings, which was in charge of the project. All of this bodes well for the success of the second phase of Morocco's public sector reform. As regards the role of the World Bank, its contribution was important during the design phase and formulation of project components. In addition, the quality of its technical support and the importance of the expertise brought to bear, particularly during appraisal, made it possible to develop a program of the scope of PERL I. Moreover, the vast experience and skills as "project managers" of the Bank team responsible for monitoring PERL I was an efficient means of helping attain all of the objectives of the reform program, and this despite the several minor difficulties encountered on both sides that are inherent in such an ambitious and complex project as PERL I. The difficulties attributable to the World Bank, especially at the start of implementation of PERL I, included a lack of coordination among the various Bank divisions; the most striking example is that of divergences in the objectives of PERL I and PAGI I, particularly as regards budget transfers and the contractualization of relations between the State and public enterprises. Nevertheless, those difficulties, due - beyond the innovativeness and complexity of the project - to the fact that PERL I was attached to a sectoral division, were rapidly resolved and the general PERL objectives were at all times totally consistent with those of the sectoral projects." - 33 - PART III - STATISTICAL INFORMATION Table 1: Loan Amount Status Table 2: Program Timetable (:in TJS Ofrgnl bate Actual Originali 24000Ö 1 nititnMeorandra 06.2885 06.25.85 Lettr of .....e. Dibursed: 239.56 0521.6 05.21.6 Dibre: 3.6Ngotiatione 03.tå.87 03.14.87 soardAprova 06.04.57 0.24.87 Lan Agrememnt 07.27.87 07.27.87 Cancelled: 0.44 12.31.7 1224.8T Loan CloeIing 06.30.89 O63090 Repaid: 0.00 Actul CompetIon , 1.0:0 Outstanding: 239.56 ......... Source: World Bank Table 3: Cumulative Loan Disbursements Planned Actual Actual a o --US$ Million-- of planned FY88 118.70 120.36 101.40 FY89 235.50 235.49 98.60 FY90 235.50 235.82 - FY91 240.00 239.56 83.10 Table 4: Major Bank Missions Month/ no. of No. of Report Yar Weeks Person Sta ffsek lasued Preperation 07185 3 5 103.2 08/85 Appralsat 02/186 3 9 189.4 02/86 Supervision I 10/87 2 4 ) 11/87 Supervlsion Il 06/89 2 4 )84.4 08/89 S~.pervialon I1 10/89 2 4 ) 11/89 sq~ervislon IV 12190 1 1 ) 12/90