Mozambique - Second Economic Recovery Credit (SERC)

Report No. PIC878 Project Name Mozambique-Second Economic Recovery Credit (SERC) Region Africa Sector Economic Policy and Development Project ID MZPA1777 Project Cost US$180 million Financing Plan US$180.0 million -- IDA Others undetermined (Switzerland, U.K. & Denmark) Appraisal Date February 1994 Projected Board Date June 1994 Background 1. In 1987, the Government of Mozambique embarked on an economic rehabilitation program which sought to guide the economy through a transitional period from socialism to a market economy, and onto a steady growth path during the 1990s. Significant reform has already taken place, however, substantial additional reforms are still required. The signing of a peace accord between the Government and Renamo in 1992, should it result in the permanent cessation of hostilities, will place the Mozambique economy in a good position to achieve substantial growth throughout the remainder of the decade. Problems within the financial and enterprise sectors have been identified as key constraints to further growth in the economy. Within the financial sector, payment systems have largely broken down, banking services are limited and inefficiently provided, and financial innovation in terms of institutions and instruments has been virtually non-existent. Within the enterprise sector, production and export has declined, employment levels have been increasing, the sector is increasingly operating with obsolete equipment, and a large component of the sector remains in State hands. In addition, there is an urgent need to continue the program of macroeconomic reform commenced under the Economic Rehabilitation Credit (ERC) -- particularly with respect to strengthening the macro-monetary capabilities of the central bank (Banco de Mozambique) and pursuing further reform on the budgetary front. With the continuation of the peace process and the first multi party elections in 1994 -- supported by high (5.6 percent) real growth and declining levels of inflation -- it is important that the adjustment process be further strengthened and supported, by an ongoing program of macroeconomic and sector reform. Objectives 2. The Second Economic Recovery Credit would build upon reforms commenced in previous operations -- particularly the ERC. In particular, the SERC would seek to develop a strong macro-monetary capability within the central bank, while simultaneously seeking to develop the central bank in other key areas including banking  supervision, foreign exchange management, legal and accounting. The credit will also support on-going budgetary reforms, as well as supporting new initiatives in this area. Support will also be provided to assist in reform in the financial and enterprise sectors. The overall objectives are, therefore, to enhance monetary policy management and to support a program of reform in key sectors which can promote growth in a newly peaceful environment. Description 3. The total credit of US$180.0 million has four components. The first component involves strengthening the central bank -- but particularly within the area of indirect macro-monetary management. Developing a good statistical data base, upon which informed monetary policy decisions can be based is key to this process. In addition, it will be equally important to develop indirect tools of monetary management -- including a discount rate policy, interest rate liberalization, Treasury Bill issues, and so on. Support will also be provided to strengthen the banking supervision department of the central bank, in its ability to supervise financial institutions. Other support will be provided to exchange control, the legal department and the accounting department. The second component is financial sector reform and involves leveling the playing field between the various financial institutions such that they can all operated on the same basis. It also supports the entry of new banking institutions in direct competition with the existing State owned banks. Reform of the State owned banks, and their downsizing and preparation for privatization, is also an important component of this credit. The third component of the credit involves enterprise reform. Support is provided here for the further privatization of large state owned companies through an existing privatization agency established in the Ministry of Finance; in addition, developing a Strategy Paper for reform to the business environment is also a requirement of this component of the credit. Last, the credit supports at least a maintenance of expenditures on health and education (in real terms) as established under the ERC. It also supports the integration of the National Reconstruction Plan (PRN) within the three year rolling investment plan (PTIP), and the funding of the Salary Incentive Fund (SIF) within the 1994 and 1995 budgets, for key members of the civil service. Environmental Aspects 4. The project will have no environmental impact. The proposed environmental assessment category is C. Implementation 5. The central bank -- Banco de Mozambique has the primary responsibility for this operation. The project coordinator is a rector within the bank. Close coordination will have to also be maintained, however, with the Ministry of Finance -- particularly for the enterprise reform/privatization and budgetary elements of the program. Institutional Capacity -2-  6. The central bank is one of the best Government institutions in terms of institutional capacity. Staff are reasonably well trained and educated, and most have a long history of work with the central bank. Nonetheless, support will still be required in critical areas of policy formulation and implementation. Support is being provided by donors, both bilateral and multilateral. Close coordination has been maintained between the donors to ensure that full cooperation/coordination is maintained between institutions supporting this sector. Benefits and Risks 7. A major risk for the overall adjustment operation is a lack of sufficiently trained manpower. The companion Financial Sector Capacity Building (FS CB) will address this particular constraint. A further risk is that the political process will not proceed smoothly -- leading to a future disruption of economic activity. 8. An important justification is that, with the advent of the peace accord, Mozambique is well placed to rejuvenate economic activity and launch into a period of strong growth. Further reform of the macro- economy, as well as support for reforms in the financial and enterprise sectors is extremely important within an economy which will now be able to perform productively in a peaceful environment. Contact Point - Public Information Centre The World Bank 1818 H Street N.W. Washington D.C. 20433 Telephone No.: (202)458-5454 Fax No.: (202)522-1500 Note: This is information on an evolving project. Certain components may not necessarily be included in the final project. - 3 -