Ghana - Second Economic Reform Support Operation Credit Project

Document of The World Bank Report No: 26744 IMPLEMENTATION COMPLETION REPORT (IDA-32280 IDA-32281 IDA-32282 IDA-32283 PPFI-Q1280 TF-23354) ON A CREDIT IN THE AMOUNT OF US$180 MILLION TO THE REPUBLIC OF GHANA FOR THE SECOND ECONOMIC REFORM SUPPORT OPERATION CREDIT December 15, 2003 Poverty Reduction Economic Management Unit Africa Region  CURRENCY EQUIVALENTS (Exchange Rate Effective March 2003) Currency Unit = Cedi (c) c2,418 (March 1999) = US$ 1.00 US$ 1.00 = c8,588 (March 2003) FISCAL YEAR January 1 - December 31 ABBREVIATIONS AND ACRONYMS BOG Bank of Ghana BPEMS Budget Public Expenditure Management System CAS Country Assistance Strategy COCOBOD Cocoa Board DCA Development Credit Agreement DIC Divestiture Implementation Committee ECG Electricity Corporation of Ghana ERP Economic Recovery Program ERSO Economic Reform Support Operation GCB Ghana Commercial Bank GDP Gross Domestic Product GPRS Ghana Poverty Reduction Strategy Paper GOG Government of Ghana GWC Ghana Water Corporation HIPC Heavily Indebted Poor Countries IDA International Development Association IMF International Monetary Fund IPRSP Interim Poverty Reduction Strategy Paper LBC Licensed Buying Company LDP Letter of Development Policy MTEF Medium-Term Expenditure Framework NIB National Investment Bank PEPTA Public Enterprise and Privatization Technical Assistance Project PFP Policy Framework Paper PR President's Report PRGF Poverty Reduction and Growth Facility PRSC Poverty Reduction Support Credit PSMRP Public Sector Management Reform Program PUFMARP Public Finance Management Reform Program PURC Public Utilities Regulatory Commission SDR Special Drawing Rights TOR Tema Oil Refinery VAT Value-Added Tax VRA Volta River Authority Vice President: Callisto E. Madavo Country Director Mats Karlsson Sector Manager Emmanuel Akpa Task Team Leader/Task Manager: Marcelo Andrade  GHANA Second Economic Reform Support Operation CONTENTS Page No. 1. Project Data 1 2. Principal Performance Ratings 1 3. Assessment of Development Objective and Design, and of Quality at Entry 2 4. Achievement of Objective and Outputs 6 5. Major Factors Affecting Implementation and Outcome 9 6. Sustainability 11 7. Bank and Borrower Performance 11 8. Lessons Learned 12 9. Partner Comments 13 10. Additional Information 13 Annex 1. Key Performance Indicators/Log Frame Matrix 14 Annex 2. Project Costs and Financing 16 Annex 3. Economic Costs and Benefits 17 Annex 4. Bank Inputs 18 Annex 5. Ratings for Achievement of Objectives/Outputs of Components 19 Annex 6. Ratings of Bank and Borrower Performance 20 Annex 7. List of Supporting Documents 21 Annex 8. Government Comments 23  Project ID: P040557 Project Name: ERSO II Team Leader: Marcelo R. Andrade TL Unit: AFTP4 ICR Type: Core ICR Report Date: December 15, 2003 1. Project Data Name: ERSO II L/C/TF Number: IDA-32280; IDA-32281; IDA-32282; IDA-32283; PPFI-Q1280; TF-23354 Country/Department: GHANA Region: Africa Regional Office Sector/subsector: General public administration sector (40%); General finance sector (20%); General agriculture, fishing and forestry sector (16%); General transportation sector (12%); General energy sector (12%) Theme: Other financial and private sector development (P); State enterprise/bank restructuring and privatization (P); Public expenditure, financial management and procurement (S); Export development and competitiveness (S); Debt management and fiscal substainability (S) KEY DATES Original Revised/Actual PCD: 02/09/1999 Effective: 07/01/1999 07/23/1999 Appraisal: 04/08/1999 MTR: Approval: 05/27/1999 Closing: 06/30/2001 06/30/2003 Borrower/Implementing Agency: GOVERNMENT/MINISTRY OF FINANCE AND ECONOMIC DEVELOPMENT Other Partners: STAFF Current At Appraisal Vice President: Callisto E. Madavo Jean-Louis Sarbib Country Director: Mats Karlsson Peter Harrold Sector Manager: Emmanuel Akpa Charles Humphreys Team Leader at ICR: Marcelo Andrade Rocio Castro ICR Primary Author: Karen Hendrixson 2. Principal Performance Ratings (HS=Highly Satisfactory, S=Satisfactory, U=Unsatisfactory, HL=Highly Likely, L=Likely, UN=Unlikely, HUN=Highly Unlikely, HU=Highly Unsatisfactory, H=High, SU=Substantial, M=Modest, N=Negligible) Outcome: U Sustainability: UN Institutional Development Impact: N Bank Performance: U Borrower Performance: U QAG (if available) ICR Quality at Entry: S Project at Risk at Any Time: No  3. Assessment of Development Objective and Design, and of Quality at Entry 3.1 Original Objective: The objective of the Second Economic Reform Support Operation (ERSO II) was to provide balance of payments support contingent upon a satisfactory macroeconomic framework and the implementation of key structural reforms in the cocoa, banking, and energy sectors. ERSO II was a three-tranche (two fixed and one floating) credit of SDR 132.7 million Credit (US$180 million equivalent). ERSO II followed the first ERSO, a one-tranche operation of SDR 37.1 million (US$50 million equivalent) approved by the Bank in June 1998, which successfully bridged the transition between a period of policy slippage and the resumption of reforms, and laid the foundation for a renewed macroeconomic stabilization and reform effort. ERSO II was designed to consolidate gains in restoring macroeconomic stability, thereby creating the basis for sustained, broad-based, private sector-led economic growth. The Credit's proceeds were to help cover Ghana's external financing requirements in the context of a vulnerable external position and low level of reserves. In addition, by providing counterpart funds for the budget, the Credit would help reduce the government's net domestic financing and domestic debt burden by limiting increases in the stock of debt, thereby facilitating a decline in real interest rates. The Credit marked the full resumption of Ghana's adjustment program. Beginning in 1983 under its Economic Recovery Program (ERP), the Government had successfully implemented a series of macroeconomic and structural reforms which reversed the country's profound economic decline since independence. This adjustment effort suffered significant setbacks between 1992 and 1997. In the run up to both the 1992 and 1996 elections, sharply higher overspending caused fiscal imbalances and higher inflation. Increased reliance on treasury bills to finance large deficits and absorb domestic liquidity led to a rapid increase in domestic debt, high real interest rates, and a sharp increase in domestic debt servicing obligations. In addition, the pace of structural reform slowed and key structural reforms were reversed in response to political pressure. In 1997, the Government began to focus again on restoring macroeconomic stability, implementing substantial expenditure cuts and signaling its intention to move ahead with unfinished structural reforms. In 1998, a 10 percent Value-Added Tax (VAT) and two energy tariff increases, totaling over 200 percent, were introduced. Implementation of these measures was particularly significant since these policies had been rescinded in 1995-1996. These measures paved the way for the resumption of Ghana's Enhanced Structural Adjustment Facility (ESAF, later named the Poverty Reduction and Growth Facility, or PRGF) arrangement with the International Monetary Fund (IMF) in 1998, following an eighteen-month interruption, and the Bank's approval of ERSO I in June 1998. ERSO II's reform program and objectives directly reflected the Government's priorities and development strategy as outlined in its Policy Framework Paper (PFP) for 1999-2001, and set forth in the Government's Letter of Development Policy (LDP). By supporting stabilization efforts and including measures to remove constraints for private sector development, ERSO II was also an integral part of the Bank's medium- to long-term approach for Ghana as outlined in the 1997 Country Assistance Strategy (CAS). 3.2 Revised Objective: Program objectives remained unchanged and the project design was not modified. 3.3 Original Components: The program supported by ERSO II included: (i) measures to promote macroeconomic stability and fiscal reform; and (ii) structural reforms to promote the private sector, which focused on reforms in the - 2 -  cocoa, financial sector, and energy sector. These components are discussed below: Macroeconomic Stability and Fiscal Reform: Under ERSO II, the Government's macroeconomic policy for 1999-2001 aimed at (i) accelerating economic growth to about 6 percent annually; (ii) bringing down inflation to single digit levels, to 9 percent in 1999 and 5 percent subsequently; and (iii) maintaining the country's external position at manageable levels by increasing the stock of gross international reserves equivalent to three months of imports. Fiscal and monetary policies were aimed at substantially reducing the Government's net domestic borrowing requirement to about 2.8 percent of GDP in 1999-2000, and to 1.3 percent of GDP in 2001, thereby resulting in a decline of the stock of domestic debt (to 20 percent of GDP) by 2001, reducing pressure on interest rates, and freeing banking system resources for private sector credit. Fiscal reforms focused on enhancing revenue mobilization, streamlining the import tariff regime and increasing efficiency of public spending. The first, entailed the replacement of the 15 percent sales and service tax by a VAT and the establishment of the Revenue Agencies Governing Board. The second, aimed at further rationalizing the import tariff regime. The third, involved the formulation of the budget on an MTEF (Medium-Term Expenditure Framework) basis and implementation of a budget and public expenditure management system (BPEMS). It also involved eliminating road arrears by the end of 2000. In 1997, the Government announced that arrears to private road contractors were equal to 0.3 percent of GDP and, in part due to high interest rates, these arrears tripled in 1998. Structural Reforms: While ERSO II provided broad-based support to the Government's ongoing reform efforts, the key elements of these efforts were the reforms in the cocoa, financial, and energy sectors which aimed at improving Ghana's attractiveness to private investment. Cocoa Reform: Following broad consultation with stakeholders, the Government revised its medium-term strategy to improve the cocoa industry's competitiveness and increase farmers' incomes. The key elements of the strategy were: (i) raising the producer price to 65 percent of the f.o.b. price in 1999/2000 and to 70 percent by 2004/5; (ii) reducing the cocoa export tax from 25.8 percent to 15 percent of the f.o.b. export price by the year 2004/5; (iii) allowing qualified licensed buying companies (LBCs) to export 30 percent of their domestic purchases, starting with the 2000/2001 crop season; (iv) deepening internal marketing price competition by giving all LBCs equal access to the warehousing and crop financing facilities of Cocoa Board (COCOBOD - the state marketing agency); and (v) abolishing price discounts on exportable cocoa to domestic processors. These measures were anticipated to result in an increase in cocoa production to 500,000 tons by 2004/5, up from approximately 400,000 tons in 1999. Financial Sector Reform: Under ERSO II, the Government of Ghana (GOG) renewed its financial sector reform efforts, which had come to a standstill by the end of 1998. A number of measures were to be undertaken to improve the soundness and efficiency of the financial system, including draft legislation to increase the Bank of Ghana's (BOG) supervisory powers and autonomy in the formulation and implementation of monetary policy. By mid-2000, the BOG would also divest all its shares in all banks. To strengthen the performance of the banking sector, the GOG pledged to withdraw the licenses, and liquidate by September 1999, those banks that did not meet the minimum capital adequacy ratio. The Government also pledged to proceed with the divestiture of the Ghana Commercial Bank (GCB), the country's largest commercial bank. Finally, the divestiture of the National Investment Bank (NIB) would also be completed. Energy Sector Reform: As set forth in the LDP, the objectives of the Government's energy sector reforms under ERSO II were to create an efficient and reliable energy sector through the establishment of competitive pricing and marketing arrangements and to encourage private investment in the provision of petroleum products and power services. To this end, the PURC was to finalize tariff-setting guidelines as the basis for future electricity pricing, and the Government was to complete regulations governing generation and sales. In addition, the Volta River Authority (VRA) was to unbundle its transmission and generation activities and the Electricity Corporation of Ghana (ECG) was to be restructured into a holding company and five distribution units. These units were to be offered for sale by - 3 -  June 2000. On petroleum, retail prices were to be liberalized and the Tema Oil Refinery (TOR) was to be offered for sale by end 1999. The Credit's components were clearly linked to the general objectives described in Section 3.1 above. Through policy conditionality, ERSO II supported reforms that would encourage private sector investment in the energy and banking sectors (through divestiture of the NIB, GCB, and ECG, and establishment of guidelines governing electricity sales). In addition, increases in the prices paid to cocoa farmers would help reduce rural poverty, in accordance with Ghana Vision 2020. Finally, maintenance of a satisfactory macroeconomic policy framework would support economic growth and encourage investment. 3.4 Revised Components: The Credit Agreement for ERSO II was amended four times. Two of these amendments were significant, including restructuring the second tranche and adding a supplemental credit, while two simply related to IDA reflows. The first amendment was made on June 28, 2000 to attach a second IDA reflow for FY 00 (Credit 3228-2 GH), in the amount of SDR 900,000. The first IDA Reflow for FY 99 in the amount of SDR 1.3 million was attached to the Credit at the time of signing and included in the DCA. At the time of signing, the first tranche or Category (1) in the amount of SDR 59.0 million was also released. A second amendment was made on September 8, 2000 to restructure the Credit's second tranche by dividing it into two, namely: (i) the reduced Second Tranche or Category (2) in the amount of SDR 37.0 million; and (ii) the newly named Ghana Commercial Bank (GCB) Floating Tranche or Category (4) in the amount of SDR 20.7 million. The floating tranche in the mount of SDR 14.7 million, or Category (3), was renamed the ECG Tranche. The third amendment (Credit 3228-3-GH) was made on September 20, 2000, creating the Supplemental Tranche or Category (5), providing a supplemental credit of SDR 37.0 million (US$50 million equivalent) to assist Ghana to meet unanticipated increased financing requirements caused by severe terms of trade shock which Ghana experienced in 1999-2000. Ghana had tackled the unfavorable developments by tightening monetary policy to limit the impact on inflation of the large devaluation and oil price hike, increasing the VAT rate and raising petroleum taxes. This supplemental credit was consistent with the Bank's newly approved (in March 2000) CAS for Ghana which allowed for the possibility of an ERSO II supplement in case of a further deterioration of the external situation. The supplemental Credit contained no conditions; in retrospect, greater consideration should have been given to linking its disbursement to additional increases in petroleum prices to prevent further financial imbalances from occurring (see Section 4 below). A fourth Amendment was made on February 23, 2001 to separate the two IDA Reflows (FY 99 and FY 00) from other disbursement categories in which they had earlier been included. Consequently, this amendment created two more disbursement categories: (i) the First IDA Reflow, or Category (6), of SDR 1.3 million; and (ii) the Second IDA Reflow, or Category (7), of SDR 900,000. The closing date of the Credit was modified twice. The original closing date of June 30, 2001 was amended to June 30, 2002 to give more time to divest the GCB to the Government that took office in January 2001. A second extension was granted in June 2002, setting a new closing date of June 2003. 3.5 Quality at Entry: This operation was not formally evaluated for quality at entry by the Quality of Assurance Group. Quality at entry is assessed as satisfactory for the reasons explained below. Consistency with Bank and Government priorities. ERSO II objectives were compatible with the 1997 CAS, which identified the need of adjustment loans (provided the fiscal effort was on track) to support - 4 -  continued implementation of the government's reform agenda. While the size of the Credit brought the level of adjustment lending closer to the high-end of what was envisioned under the CAS for FY98-00 (US$230 million compared with $150 million), this was justified at the time by the proposed reforms in the cocoa sector which were seen as a major breakthrough in the policy dialogue. In addition, the CAS provided for increased adjustment lending should the domestic debt burden be higher than anticipated, as was the case for 1998-2000. Moreover, the policy package supported by ERSO II drew directly from the reform efforts initiated under ERSO I. Conditions outlined in ERSO I were specified as "triggers" for the introduction of ERSO II. A specified number of these triggers were satisfactorily implemented by the Government prior to the Credit's negotiation. These were: re-introduction of the VAT; establishment of a Central Revenue Authority; formulation of the 1999 budget on a MTEF basis; approval of financial restructuring plan for the electricity companies; and completing a medium-term cocoa strategy. The Credit was implemented in parallel with the IMF's ESAF/PRGF arrangement which commenced in May 1999 and was also complemented by other ongoing Bank Credits. These included the Public Sector Management Reform Program (PSMRP), the Public Finance Management and Reform Program (PUFMARP I) and the Public Enterprise and Privatization Technical Assistance Project (PEPTA). ERSO II supported the medium term reform priorities identified by the Government in the Policy Framework Paper for 1999-2001 and the strategy outlined in the LDP was based on Ghana-Vision 2020 -- the country's growth strategy to turn Ghana into a middle income country