Mozambique - Communication Sector Reform Project

Document of The World Bank Report No: 22956-MOZ PROJECT APPRAISAL DOCUMENT ON A PROPOSED CREDIT IN THE AMOUNT OF SDR 11.6 MILLION (US$14.9 MILLION EQUIVALENT) TO THE REPUBLIC OF MOZAMBIQUE FOR A COMMUNICATION SECTOR REFORM PROJECT October 30, 2001 Africa Regional Office Policy Division Global Information and Communications Department Country Department 2  CURRENCY EQUIVALF\ I S (Exchange Rate Effecti- . :\&.clber 29, 2001) Currency Unit = Meticais (MZM) MZM 1 = US$0.000044 US$1 = MZM 22,747 FISCAL YEAR January 1 -- December 31 ABBREVIATIONS AND ACRONYMS ADM - Aeroportos de Mo,cambique - Airport Management Company CAS - Country Assistance Strategy CDM - Mozambique Post - Correios de Mo,ambique EMP - Environmental Monitoring Plan EMPSP - Economic Management and Private Sector Operation EU - European Union FMS - Financial Management System GDP - Gross Domestic Product GOM - Government of Mozambique GSM - Global System for Mobile Communications IIPC - Highly Indebted Poor Countries ICT - Information and Communication Technologies IDA - Intemational Development Association INAC - Instituto Nacional de Avia9tAo Civil- Civil Aviation Authority INCM - Instituto Nacional de Communica,ces de Mo,ambique - Telecommunication and Postal Regulatory Authority ISP - Intemet Service Provider ITU - Intemational Telecommunication Union LAM - Linhas Aereas de Mocambique - National Airline MIA - Maputo Intemational Airport MPF - Ministry of Planning and Finance MTC - Ministry of Transport and Communications NAFTA - North America Free Trade Agreement NGO - Non-Govemmental Organization OMR - Output Monitoring Report PMR - Project Management Report PPF - Project Preparation Facility PRSP - Poverty Reduction Strategy Paper RPRP - Railway and Port Rehabilitation Project SADC - Southem African Development Community TA - Technical Assistance TDM - Telecommunica,ces de Mo,ambique Public Telecommunication Company UGTPC - Unidade de Gestelo dos Projectos de Transporte e Comunica,ces Project Management Unit VAT - Value Added Tax VSAT - Very Small Aperture Terminal YD - Yamoussokro Decision Vice President: Callisto Madavo, AFRVP Country Director: Darius Mans, AFC02 Sector Manager: Pierre Guislain, CITPO Task Team Leader: Mohammad Mustafa, CITPO  MOZAMBIQUE COMMUNICATION SECTOR REFORM PROJECT CONTENTS A. Project Development Objective Page 1. Project development objective 2 2. Key performance indicators 2 B. Strategic Context 1. Sector-related Country Assistance Strategy (CAS) goal supported by the project 3 2. Main sector issues and Government strategy 4 3. Sector issues to be addressed by the project and strategic choices 11 C. Project Description Summary 1. Project components 13 2. Key policy and institutional reforms supported by the project 14 3. Benefits and target population 15 4. Institutional and implementation arrangements 16 D. Project Rationale 1. Project alternatives considered and reasons for rejection 16 2. Major related projects financed by the Bank and other development agencies 17 3. Lessons learned and reflected in the project design 18 4. Indications of borrower commitment and ownership 19 5. Value added of Bank support in this project 21 E. Summary Project Analysis 1. Economic 21 2. Financial 22 3. Technical 22 4. Institutional 23 5. Environmental 24 6. Social 26 7. Safeguard Policies 27  F. Sustainability and Risks 1. Sustainability 27 2. Critical risks 28 3. Possible controversial aspects 30 G. Main Credit Conditions 1. Effectiveness Condition 30 2. Other 30 H. Readiness for Implementation 31 l. Compliance with Bank Policies 31 Annexes Annex 1: Project Design Summary 32 Annex 2: Detailed Project Description 38 Annex 3: Estimated Project Costs 44 Annex 4: Overview of the Telecomnmunications Sector 45 Annex 5: Financial Summary 46 Annex 6: Procurement and Disbursement Arrangements 47 Annex 7: Project Processing Schedule 54 Annex 8: Documents in the Project File 55 Annex 9: Statement of Loans and Credits 56 Annex 10: Country at a Glance 58 Annex 11: Financial Management Action Plan 60 Annex 12: Letters of Sector Policy 64 Annex 13: Sector Overview 74 MAP(S) IBRD No. 29996  MOZAMBIQUE Communication Sector Reform Project Project Appraisal Document Africa Regional Office CITPO Date: October 30, 2001 Team Leader: Mohammad A. Mustafa Country Director: Darius Mans Sector Manager: Pierre A. Guislain Project ID: P073479 Sector(s): CC - Telecommunications & Informatics, TY - Other Transportation Lending Instrument: Technical Assistance Loan (TAL) Theme(s): Telecom & Infonnatics; Transport Poverty Targeted Intervention: N Program Financing Data [ I Loan [X] Credit [ Grant [ ] Guarantee [ ]Other: For Loans/Credits/Others: Amount (US$m): 14.9 Proposed Terms (IDA): Standard Credit Grace period (years): 10 Years to maturity: 40 Service charge: 0.75% Financing Plan (US$m): Source Local Foreign Total BORROWER 0.50 0.00 0.50 IDA 2.50 12.40 14.90 Total: 3.00 12.40 15.40 Borrower: REPUBLIC OF MOZAMBIQUE Responsible agency: MINISTRY OF TRANSPORT AND COMMUNICATIONS Address: P.O. Box 275 - 336, Martires de Inhaminga Av. Contact Person: Mr. Joao Jorge Tel: (+ 258) 420 233 Fax: (+258) 431 028 Email: Estimated disbursements ( Bank FY/US$m): FY 2002 2003 2004 2005 2006 Annual 2.10 3.80 4.20 3.10 1.70 Cumulative 2.10 5.90 10.10 13.20 14.90 Project implementation period: 4 years Expected effectiveness date: 03/31/2002 Expected closing date: 06/30/2006 OCS PAD Fa r: R , AZO  A. Project Development Objective 1. Project development objective: (see Annex 1) The project objective is to improve access and quality of efficient and affordable communications services by creating an enabling environment for competition and private participation in key sectors deemed critical to facilitate national and regional market integration, i.e., telecommunications, postal and air transport infrastructure and serices. 2. Key performance indicators: (see Annex 1) a. Progress towards the development objective will be monitored with the following key performance indicators: Impact/Outcome indicators Telecommunications and Post * Overall telephone density (fixed and mobile) to at least double from 0.8 (2000) to 1.6 lines per 100 inhabitants by 2006 as increased competition and new licensing regime induce accelerated network build-out. a Telephone density in rural areas to double from 0.012 lines per 100 inhabitants (2000) to at least 0.024; number of pay phones and other community access points (cybercafes, telecenters) to communications services to increase once the rural and universal access strategy developed under this project is implemented. * International tariffs, mobile tariffs, cost of leased lines and internet access costs to decrease to regional standards by 2006 as competition increases throughout the sector. Air transport D Passenger and freight traffic volume to increase in line with average regional Southern Africa Development Community (SADC) growth rates by 2006. D Airport services at Maputo International Airport (MIA) to improve through a reduction in airside fees in line with average aeronautical fees in competing regional airports and an increase in the number of connections at least equal to that of the average regional connection by 2006. * Cost of international and domestic airline tickets to be reduced in line with published economy and charter fares for competing destinations and similar distances (such as Johannesburg/Mauritius) by 2006. * Freight costs to be reduced in line with regional competing destinations by 2006. Output Indicators Telecommunications and Post * The Governmnent shall submit for the approval of the Assembly a new pro-competition telecommunications law conducive to a multi-operator environment by the second quarter of 2002. * The Government will enact key telecornmunications secondary legislation by the fourth quarter of 2002. * The telecommunications and postal regulator (INCM) is fully operational by the fourth quarter of 2003 and has established monitoring procedures acceptable to the International Devetopment Association (IDA) to ensure compliance with new legislation and guarantee a level playing field for sector operators. -2 -  * A tender to invite entry of at least two private firms to provide cellular mobile services is launched and carried out in compliance with transparency and competition rules acceptable to IDA: - Tender documents released by the fourth quarter of 2001 - Mobile license(s) awarded by the second quarter of 2002 * Privatization transaction for Telecomunicacoes de Moqambique (TDM) is launched and carried out in compliance with transparency and competition rules acceptable to the IDA: - Bids to call for TDM privatization launched by the fourth quarter of 2002 * The Government adopts a rural and universal access strategy by the second quarter of 2003 and launches first round of competitive bidding for allocation of limited subsidies to catalyze private investment in rural service provision by the second quarter of 2004. * The Government adopts a postal policy by the first quarter of 2003, postal regulation by the fourth quarter of 2003 and modemization plan for Correios de Mocambique (CDM) is prepared by the second quarter of 2004. Air transport * The Government will enact key decrees empowering the Civil Aviation Authority (INAC) to oversee technical and economic regulation, establishing air transport regulation permitting immediate entry of charters, and multidesignation of intemational scheduled air services by the second quarter of 2002. * The Government will enact a complete set of secondary legislation by the first quarter of 2003. * The INAC is fully operational by the fourth quarter of 2003 and has established monitoring procedures to ensure compliance with technical and economic regulations, and national environmental rules acceptable to IDA. - Privatization transactions are launched in the time frame below in compliance with transparency and competition rules acceptable to IDA: - Bids for MIA are launched by fourth quarter of 2001 and a concession is awarded by the third quarter of 2002. - A strategic action plan for introducing private participation in the other airports in the development corridors is developed by the second quarter of 2002 and adopted by the third quarter of 2002 by GOM. - A strategy to invite private participation in Linhas Aereas de Mozambique (LAM) is adopted by the fourth quarter of 2001 and a tender to invite private participation in the company is launched by the fourth quarter of 2002. B. Strategic Context 1. Sector-related Country Assistance Strategy (CAS) goal supported by the project: (see Annex I) Document number: IDA/R2000-76 (IFC/R2000-80) Date of latest CAS discussion: June 1, 2000 Country Assistance Strategy (CAS): One of the three main objectives of the 2000 Country Assistance Strategy (CAS) is to increase economic opportunities through acceleration of private sector led growth. The Government's recently adopted Poverty Reduction Strategy Paper (PRSP) (IDA/SecM2001-0550 discussed on September 25, 2001) confirms the importance of this objective in reducing substantially poverty and improving the living conditions of the population. The project supports the goal of improving economic opportunities by contributing to the creation of an enabling environment for increased competition and private investment flows in infrastructure identified in the PRSP as a key constraint to poverty alleviating growth. In addition, through improving communications routes, the project will foster the economic integration of the country's remote areas and isolated communities. In that context, the project supports "second-generation" macro-economic and structural adjustment reforms identified in the Country - 3 -  Economic Memorandum (CEM: Mozambique: Growth Performance and Reform Agenda (2000)) aimed at removing impediments to private sector led growth and creating an attractive framework for market entry; and, at the same time, correcting market failures by appropriate Government intervention, if necessary. In telecommunications and post, the CAS envisages IDA assistance to support the development of a new national telecommunications policy and the preparation of a new law. The project will specifically address the issues discussed in the CAS, namely the need to open the market to new cellular operators, and at the same time, seek a private sector equity partner for the state owned telecommunications company to provide for crucial capital investments and to improve access to services throughout the country. It will also support the development of a rural and universal access strategy based on "smart-subsidies" to correct for any market failure and assure increased access to communications and information services for underserved populations, especially isolated communities in remote areas. In air transport, the project will directly support the CAS objective of expanding and improving efficiency of transportation services considered the main constraint to domestic and regional integration and to tourism development, a sector targeted for its high growth potential. Specifically, the project will achieve this objective by accelerating de-monopolization of the air transport sector. Liberalization of air services through the enactment of appropriate policy and legislation, the concession to private operators of the main airport infrastructures in development corridors and private alliances in the airline business will encourage increased private sector investments, competition, and facilitate expanded access to high quality and competitive services. The project will also support the formulation and execution of a strategy to provide critical social air links and last resort access to remote enclave areas. This project has been prepared in close coordination with the Structural Adjustment Credit: Economic Management and Private Sector Operation (EMPSO) under preparation. Through supporting reforms in the air transport and telecommunications sector, the project will also provide technical assistance needed to meet liberalization and privatization conditionalities under EMPSO. 2. Main sector issues and Government strategy: Main Sector Issues a. Inadequate service provision Mozambique is a large country with an area of approximately 800,000 km2 and a population of 17.3 million. More than two thirds of the population live in absolute poverty, and most of the poor live in the country's vast and isolated rural areas, where infrastructure and communications are scarce. Only 3.2 percent of the rural population have a public telephone in their own village, while the post office is available only to 2.7 percent of rural population. Even though, air transport remains the essential vital link to various parts of the country prone to natural disasters and stretching over more than 2,000 km of coast, air transport services are characterized by very limited frequency, delays and high cost. Telecommunications: Telephone service provision in Mozambique is inadequate and uneven. Mozambique's teledensity of 0.5 main fixed lines per 100 inhabitants (2000) is not only well below to that of developed countries, but it is also low when compared to other African countries with comparable geographic and economic conditions. This illustrates the difficulty of the public incumbent in keeping up with market demand and population growth. In the end of 2000, the fixed network had a switching capacity of about 128,000 lines from which 86,000 were in service. Real demand is estimated to be well above the - 4 -  official waiting list of 21,000 lines reported by TDM. There are only about 2,000 public phones. The network is basically fully digitalized. However, Mozambique ranks low in Africa in terms of quality with 80 faults per 100 main lines (2000). The urban areas have 99 percent of the telephone lines, while only 1,340 lines are available in rural areas, which have a population of about 11 million. Large areas are without any communications service with the nearest telephone and post office hundreds of kilometers away, and 26 of country's 128 districts are without a single telephone. Mean distance to nearest telephone and post office in rural areas is about 50 kilometers. Just as in other countries, subscribers of cellular services launched in 1997, have grown exponentially to reach 62,000 in the beginning of 2001 and are expected to exceed the number of fixed subscribers by end of the year. As a result of the introduction of pre-paid services, the subscriber base grew by more than 350 percent just within the year 2000. However, the GSM network coverage is limited to Maputo, Beira, and recently Nampula, the main roads towards South Africa and Swaziland ("the corridor"), Xai-Xai and Zimbabwe. This leaves about 15.6 million inhabitants uncovered. The unsatisfied demand for mobile services is estimated to be at least 600,000 by the existing cellular operator, although the total market size in a competitive market is expected to be even larger. Despite the fact that Mozambique was the 4th country in Africa to connect to the Internet in 1994, intemet subscribers are still below 10,000 (although the number of users can be three-four times higher as several people use one account). There are only few public Internet access points - three cybercenters in Maputo, a telecenter in Manhica and another one in Namaacha. The main bottlenecks to internet development in Mozambique remain lack of long-distance transmission facilities, high prices of leased lines, low PC penetration, limited computer literacy and illiteracy, high prices faced by low income users and lack of local language content. Post: During the war many post offices were closed and although some have been recovered during the 1990s, the number of post offices have not yet reached the pre-war level. There are only 10 full-service post offices located in the provincial capitals, and 450 postal stations, which sell stamps and process mail throughout the country. The number of mail items delivered per capita per year has been stagnating around 0.4 during the period of 1997-1999, which is very low compared to international standards (7 in Morocco). The official figure on average mail delivery within a district is three days, but increases to seven days during the rainy season due to poor road network worsened by floods. In rural areas the delivery times might be much longer. Air Transport: To date, Mozambique cannot adequately rely on an air transport system which is efficient and competitive to (i) meet booming demand from the tourism sector, capture significant tourism flows estimated to reach US$52 billion by 2010 region-wide, improve domestic opportunities in tourism related services, a sector targeted for its higher growth potential; (ii) facilitate domestic and regional market integration, in particular increase regional linkages through the development corridors, and improve trade logistics of products from distant agricultural areas to commercial markets; and (iii) link remote rural areas of the country. Difficulties in current provision of air services are reflected in the leveling off of air transport activity not due to lack of demand as above-mentioned, but resulting from inadequate service. Air transport provision from Mozambique is relatively costly, limited in frequency, and uneven in coverage throughout the country. On the regional segment where competition is becoming more acute, the difficulties in providing efficient air transport services capable of competing within the region for tourism and trade flows have recently been - 5 -  reflected in the decelerating traffic levels. Given Mozambique's stellar economic performance with average 10 percent GDP growth levels, air traffic growth should be at least twice these levels. Cost of service (CASK) is approximately 30 percent higher than air services registered in competing destinations. Tariffs on similar distance are on average 20 percent higher than those of competitive regional operators. Stagnation in traffic growth rates can also be accounted partly by the fact that cost of airport services and aeronautical fees charged at MIA are substantially higher (US$72 per passenger) than competing airports: Johannesburg (US$29.95), Harare (US$49.57) or Lilongwe (US$54). In contrast to other airports, ADM relies heavily on aeronautical charges (landing, runways, aircraft parking and passengers fees) for its revenues (94 percent). The current trend for airports worldwide is to increase the landside charges (commercial revenues from boutiques, malls, office leasing, car parking etc.), which are less price sensitive and reduce dependence on aeronautical revenues, which in turn increases airport competitiveness in attracting other airlines. On the domestic routes, which are being operated under quasi monopoly, there is low frequency of flights and the cost of service (CASK) is 30 percent higher than that of competitors on similar distances. The national carrier LAM enjoys the highest load factor (71 percent) among operators in the region and registers repeated long passenger waiting list averaging 40 percent of available seats. This indicates that there is a significant unsatisfied demand and a need to review fleet adequacy. Difficulties in providing adequate service coverage throughout the country are also illustrated by airport statistics which point to low traffic volumes 780,000 passengers and 13,352 tons of freight in 2000 and reveal that service is mainly provided in certain pockets of the country. Three international airports Maputo, Beira, and Nampula handle the majority (80 percent) of traffic, whereas the rest is split among the various sixteen principal airports. MIA alone accounted for approximately 400,000 passengers in 2000. These traffic levels are much lower than the minimum volumes for efficient air transport infrastructure and operations. Although, Maputo is the biggest airport of the country, there is room to reach generally accepted economic threshold volume of 1 million passengers for an airport. Mozambican airports are primarily single-carrier airports as the majority of traffic is handled by LAM. Most national airports are affected by the limited frequency and high cost of service of the national carrier (revenue per employee relatively 25 percent lower compared to other regional carriers), resulting from operations of an expensive fleet and the lack of strategic alliance to spread fixed costs, marketing and information systems, and upgrade operations. As a result of the current characteristics of service coverage with an unbalance between passenger demand and aircraft movements, there is a risk of international and regional traffic being diverted to other destinations and the regional hub-and-spoke airport Johannesburg (where 11 million passengers can make up to 30 connections a day) instead of capitalizing on increased linkages with the development corridors and feeding the domestic market with increased traffic flows, which will ultimately result in increased frequencies, spreading fixed costs and improved affordability of services. b. Weak legal framework and regulatory capacity Legal and regulatory arrangements have not been conducive for effective development of the telecommunications, postal and air transport sectors. Liberalization and market entry has been slow and limited to few market segments such as internet, express mail or non scheduled flights on selected domestic routes. In addition, the newly established regulators, Instituto Nacional das Comunicac6es de Mocambique (INCM) for teleconmnunications and post; and the Instituto Nacional de Aviacao Civil (INAC) for air transport are inexperienced in regulating sectors in which competitive private participation is sought. In -6 -  particular, these authorities lack a degree of independence, as well as financial and human capacity to effectively oversee multi-operator sectors. Telecommunications: In November 1999, the Assembly passed Law 14/99 on telecommunications to accelerate the modernization and liberalization of the sector. The law abolishes restrictions on foreign participation and opens the way for the privatization of Telecomunicacoes de Mocambique (TDM). The law also establishes Instituto Nacional das Comunicac6es de Mocambique (INCM) as a separate agency from MTC (created earlier by Law 22/92 and Decree 23/92 as a department of MTC) and grants it financial and administrative autonomy. However, the law fails to provide sufficient clarity about INCM's independence, statute and organization in order to assure that policy and regulatory functions are truly separated. In addition, while the law opens the mobile segment to competition, it provides for a "transitional" monopoly on fixed national and international services to TDM until its privatization and for a minimum of 5-year period after that. Furthermore, its treatment of some vital issues including price regulation, interconnection, licensing; and convergence of technologies and markets is not satisfactory. Key secondary legislation, which is critical to establish a comprehensive legal and regulatory framework still needs to be prepared. The Government has already drafted, although not yet finalized, decrees relating to: (i) organization and functioning of INCM, (ii) interconnection and (iii) licensing. Other secondary legislation relating to (iv) tariffs, (v) dispute resolution, (vi) universal service, (vii) frequency spectrum management and frequency fees, (vii) numbering and (ix) competition still needs to be prepared. In preparation to competition in mobile services, INCM undertook an evaluation of spectrum use and prepared a frequency spectrum allocation plan allowing for a multi-operator market. It now needs to enforce this plan by ordering TDM, who currently uses 50 percent of the channels in the 900 and 1800 MgHZ band, to free sub-bans allocated to potential new operators. An assessment is needed to review the frequency management system and defme the equipment needed to monitor its use. INCM lacks financial, human and technical resources to effectively carry out its mission. The regulator estimates its annual budget needs to be around US$2 million per year, but currently its only source of revenue is a yearly contribution from TDM in the amount of approximately US$0.4 million. INCM's budget needs to be reviewed and sources of funding secured if the regulator is to become financially independent. INCM has inherited administrative staff from the Ministry and a few technical staff from TDM. It lacks staff with telecommunications and postal regulation expertise. Training, professional development and outside assistance is much needed. Post: In 1982, postal services were separated from telecommunications and in 1992, Decree 24/92 transformed the Post to a state owned company, "Correios de Mocambique" (CDM). However, no Law governing the postal sector has been prepared. INCM was established at the same time to regulate both postal and telecommunications sectors, but it has no department responsible for overseeing postal sector or postal expertise among its staff. A proper postal legal framework and regulatory capacity needs to be developed if the sector is to open up to competition and attract private capital into service provision. Air transport: In 1996, GOM adopted a Transport Policy aimed at reorganizing sector operations into commerically oriented autonomous entities and at introducing competition in the domestic market. The policy was later completed with a set of regulations in August 1998 (Decree 39/98 of August 26, 1998) organizing the sector as follows: Airport management was entrusted to Aeroportos de Mo,ambique (ADM) which was incorporated as a limited liability company by a Decree 3/98 of February 10, 1998. The national carrier Linhas Aereas de Mocambique (LAM) was restructured as a limited liability company and granted a 5-year monopoly in selected domestic routes as a transition to privatization by Decree 69/98 of - 7 -  December 23, 1998. This transformation was a reflection of the withdrawal of the State from commercial functions and part of the Government's overall program of restructuring and privatization of the air transport sector. Regulations pertaining to safety and aircraft/carriers licensing were only partially developed. On technical regulation, Decree 39/98 of August 26, 1998 was enacted to set up a Civil Aviation Authority, "Instituto Nacional de Aviacao Civil" (INAC). Safety procedures were updated with new procedures in line with international technical and safety standards (ICAO norms). However, actual operationalization of the civil aviation authority and technical procedures has not taken place yet. The key barriers to entry remain on the economic regulation side where series of government authorization and approvals are required for route allocation, licensing procedures, fare setting and revisions. This approval process has significantly impeded private sector entry into the sector. Despite initial efforts towards commercialization of airports, airline operations, and setting up of safety regulations, the full impact of the liberalization process has not been felt primarily because of the web of economic regulations, tedious approval process and LAM's dominant position. These barriers to entry have neither been conducive to traffic development, as illustrated by current decreasing growth rates in the traffic in the aviation sector and financial difficulty of the main carrier, nor are they in line with GOM's stated objective of rapid expansion of efficient services. To effectively promote these objectives, the Government is preparing a far reaching liberalization policy to supervise and monitor charters operations and multidesignation of carriers on international scheduled flights. The trend worldwide is towards the adoption of open sky agreements whereby one country (unilateral Open Sky as the United Arab Emirates, Singapore), two countries or a set of countries (EU, Mercosur, NAFTA) agree to lift all restrictions on the number of carriers, number of frequencies and type of aircraft. Under the Yamoussokro Decision (YD), endorsed by the heads of African states in July 2000, a region-wide Open Sky initiative calling for lifting of flight restrictions (number of carriers, frequencies) within the African continent will be implemented according to a phased implementation schedule. Implementation of the decision has been left to the sub-regional groups. In Mozambique, implementation to YD will be done under the umbrella of SADC liberalization, which conforms to YD agreement. The timeframe for implementation by SADC of YD is currently being discussed in the region. In the meantime, GOM has already initiated this process by adopting an air transport policy, which is conformed with not only the scheduled and non-scheduled inter-regional air traffic liberalization principles but also goes beyond towards adopting mutlidesignation for inter-continental air traffic. Both, the letter of air transport sector policy (Annex 12) and the Civil Aviation Policy, clearly state that the reform aims at complying with liberalization arrangements which have been agreed under SADC. Mozambique's air transport legislation needs to be amended to reflect this far reaching continent reform, and to allow the set up of an environment which will allow Mozambican air transport to take advantages of the opportunities of this expanded market. Mozarnbican legislation and regulation need to be enacted to (i) remove all obstacles to licensing charters, carriers and aircrafts; (ii) clarify responsibilities of each player in the sector and strengthen their oversight ability, and; (iii) clearly define financing mechanisms for a sustainable development of air navigation services, air services and critical airport network and social routes. c. Lack of competition, private investment and know-how Restrictive legislation and weak regulatory capacity inhibit competitive entry into most of Mozambique's communications, postal and air transport market. At the same time, the incumbent operators have failed to - 8 -  provide satisfactory service and are increasingly facing highly competitive environment abroad (e.g., TDM's highly priced international telephony service from countries with lower tariffs, Maputo International Airport from the Johannesburg hub) and substitution at home (e.g., internet telephony, private courier services or the new Maputo-Johannesburg road) due to lack of commercial management and sufficient capital. Telecommunications: The dominance of the incumbent on practically all segments of the sector constitute a significant barrier to entry for other operators. TDM, the 100 percent state owned operator, is the sole provider of local, long distance and intemational fixed telephony services in Mozambique. TDM is also the only provider of mobile services. For the last five years, it has been offering mobile services through an informal ten year management arrangement (not license) with a joint venture Telecomunicacoes M6veis de Mocambique (TMM) operated by Detecon (assets are 100 percent TDM owned), but is currently in the process of establishing a separate wholly owned company to run its mobile business. In addition, TDM has joint ventures in line installation and maintenance (Televisa is 50 percent owned by Visabeira, a Portuguese holding company), in cable TV (TVCabo is 50 percent owned by Visabeira), in data, internet, paging and VSAT services (Teledata, the largest commercial Internet service provider, is 50 percent owned Portugal Telecom International), as well as in customer premise equipment, consulting, and directory services. TDM is a profitable company (net profits in 2000 were about US$5.8 million) with revenue per line of about US$1,300, which is very high compared to the low income country average of US$300. This reflects TDM's monopoly rent and the low level of penetration. Post: According to the 1992 Postal decree the Post has a monopoly on basic postal services (collection, transport, distribution of mail, issue and sale of stamps, telegram and fax services to the public) except parcel processing. The decree has no specific reference to express mail, but several operators, DHL, FedEx or Shy, have been authorized by INCM to provide the service. The Post faces increasing difficulty in retaining its already reduced market share (20 percent) in this profitable market segment; and despite the Post's exclusive right to deliver basic service, some competitors have started providing regular mail services. At the same time, the 100 percent state owned postal operator lacks resources to finance even basic investments, let alone technological improvements or the introduction of new services. Currently, very few of the post offices provide new products such as public telephone, fax, e-mail, sale of stationary or financial services, such as money-wiring and government payment delivery (e.g., pensions). While the post office has been breaking even thanks to end of the year real estate sales, cash donations, provisioning for foreign exchange losses and extreme budget scrutiny, it finds it more and more difficult to operate and maintain its oversized network, basically subsidized by the Maputo operations. All postal offices, except the one in Maputo and Tete, are in deficit and a quarter of the post offices have not registered any revenues at all since 1995, i.e., their activity has been limited to collecting and distributing mail, with no commercial service. Air transport: LAM, a limited liability company (SARL), was created by Decree 69/98 of December 23 by the sale of 20 percent of the share capital to the current managers, technical staff and employees. The airline has been enjoying a dominant position on the domestic segment in the country, transporting 55 percent of passengers on domestic routes. It has been facing increasing competition on the regional and international routes, transporting 11 percent of passengers on regional routes and 14 percent of passengers on intemational routes. It has also been the quasi sole provider of whole range of services as it integrates various business areas, with different profiles of strategic positioning and critical factors of success: Passenger transport; Cargo transport; Light aviation; Maintenance; and Handling. The segment with the greatest growth levels between 1996 and 2000 were the regional (10.9 percent) and the domestic (8.9 percent). Investments are critically needed in air transport operations so that the provision of air services can be aligned with the intemational standards to provide competitive services within the SADC region to -9-  boost both domestic and regional traffic revenues. In comparison to other airlines, LAM has very limited market presence in the region to capture premium traffic from regional and international travellers. Without strategic alliance to a major airline group and adequate capital inflow, the airline does not benefit from economies of scale as a feeder to other international or charter airlines or the presence of a hub and spoke airport in the country to serve traffic connections from international and regional airports both in and through Mozambique. In addition, Maputo International Airport operates in a very competitive environment with the proximity of several international airports and a hub in Johannesburg located within a radius of less than 400 km from Maputo. LAM does not benefit either from economies of scope in terms of marketing, information and reservation systems, frequent flyer programs and other electronic commerce amenities, all of which are sought by today's travelers when selecting an airline. These resulting high costs of operations make it difficult to face competition and attract more traffic. As a result, LAM is currently in financial distress with a US$2 million loss for 2000 and a 20 percent decrease in its share of capital and is unable to finance critically needed investments to support development of air services in line with the growing demand. Government Strategy Telecommunication: The Ministry of Transport and Communication (MTC) is in the process of developing a new telecommunication policy, that will be guided by the following main principles: (i) promotion of competition to meet growing demand through the liberalization of the telecommunications market and awarding new mobile telephony licenses, (ii) ensuring that the govermment divests its interest in the state-owned telecommunication entity, TDM; and (iii) promoting universal access to communications services. The Cabinet adopted the policy on October 30, 2001. The Government is also committed to enact necessary laws and regulations in support of the implementation of the telecommunication policy and to ensure effective competition and strong and independent sector regulation. A letter of sector policy embodying these underlying principles has been prepared and sent to Bank management on August 15, 2001 (see Annex 12). Information and Communications Technologies: An Information and Communications Technologies (ICT) Committee has been established under the chairmanship of the Prime Minister to prepare a national ICT strategy for Mozambique. The draft strategy prepared highlights six priority areas: education, health, human resources, universal access, information infrastructure and government, in which coordinated public-private action is needed to foster ICT use and development. The draft strategy was presented at a conference in October 2001 bringing together various partners active in the area. Post: MTC intends to define a new postal sector strategy to ensure that accessibility to reliable postal services is improved, while at the same time taking the opportunity to develop new services (e-mail, marketing or financial services) and to rationalize the network to allow commercial viability of the postal entity in an open environment. Different options of private entry (e.g., through private partnerships, management contract, concessionning) into the main postal operator will also be considered to bring private capital, management skills, technology and know how into the currently inefficient entity. Air Transport: Cabinet has enacted a new air transport policy on October 30, 2001 to (i) promote immediate liberalization of the skies; (ii) promote private sector led competition and investments to upgrade air services, air navigation services and airport infrastructure to meet fast growing demand, (iii) privatize the main carrier and airports to attract traffic flows and reduce tariffs, and; (iv) provide expanded access throughout the country for social routes. The main principles of the new policy will be to evolve the sector from its current regulated structure to a liberalized environment in compliance with the regional - 10-  liberalization agreements reached under the YD umbrella and implemented under SADC agreement. The new policy is aimed at reconciling possible conflicting legislation, enacting the necessary new legislation & regulation, and promoting standardized regional licensing procedures. Facilitating a friendly environment for investments will allow the sector to expand and align Mozambican air transport to the key drivers of competitiveness in air transport worldwide. Under a deregulated environment, the government will apply economic regulation only to prevent and/or revert the abuse of any monopolistic control of the market, dumping, and/or predatory practices. This withdrawal of the State will encourage private sector participation in the provision. A letter of sector policy stating the key principles of the new policy was finalized and was sent to the Bank management on August 15, 2001 (see Annex 12). A seminar to discuss the new proposed air transport policy among stakeholders was held in Maputo 12-13th of September and was attended by 85 delegates from the public, private sector and civil society. 3. Sector issues to be addressed by the project and strategic choices: Sector issues addressed by the proiect The project will assist the Government in its telecommunications, postal and air transport sector reform efforts. It will address two key set of sector issues: Establishing a legal framework and strengthening regulatory capacity to implement a pro-competitive environment: * Establishment of a modem regulatory framework to lay the foundation for open, market-driven telecommunications, postal and air transport sectors.