IMPLEMENTATION COMPLETION REPORT

Transcription

1 Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Document of The World Bank FOR OFFICIAL USE ONLY IMPLEMENTATION COMPLETION REPORT POLAND INDUSTRIAL EXPORT DEVELOPMENT PROJECT (Loan POL) December 21, 1999 Private and Financial Sector Development Department Europe and Central Asia Region Report No 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.

2 CURRENCY EQUIVALENTS (As of September 1, 1999) Currency Unit = PLN PLN 1.0 = US$ 0.39 PLN 3.9 = US$ 1.0 AVERAGE EXCHANGE RATES Zloty/lUS$ June ,500 11,100 13,630 17,000 22, WEIGHTS AND MEASURES Metric System ABBREVIATIONS AND ACRONYMS BG - Bank Gdanski BPH - Bank Przemyslowo-Handlowy BZ - Bank Zachodni ETP - Economic Transformation Program EU - European Union FIDL - Financial Institutions Development Loan IBRD - International Bank for Reconstruction and Development IDA - Industrial Development Agency IT - Information Technology MOF - Ministry of Finance NBP - National Bank of Poland PKO-BP - Powszechna Kasa Oszczednosci (Housing Bank) PPF - Project Preparation Facility FISCAL YEAR January 1 - December 31 Vice President: Johannes Linn ECAVP Country Director: Basil Kavalsky ECCO9 Sector Manager: Ilham Zurayk ECSPF Task Teamn Leader: George Park ECCPL

3 FOR OFFICIAL USE ONLY IMPLEMENTATION COMPLETION REPORT POLAND INDUSTRIAL EXPORT DEVELOPMENT PROJECT (Loan 3166-POL) Contents Preface Evaluation Summary... ii Part I Project Implementation Assessment... 1 A. Project Objectives.I B. Achievement of Objectives.2 C. Implementation Record and Major Factor's Affecting the Project.3 D. Project Sustainability.9 E. Bank Performance.9 F. Borrower's Performance.12 G. Assessment of Outcome.12 HI. Recommendations for Future Operations.13 I. J. Key Lessons Learned.13 Conclusion.14 Part II Statistical Tables: Table 1 Table 2. Table 3. Table 4. Table 5. Table 6. Table 7A Table 7B. Table 8A. Table 8B. Table 9. Table 10 Table 11. Table 12. Table 13. Summary of Assessment.15 Related Bank Loans.17 Project Timetable.18 Loan Disbursements: Cumulative, Estimated and Actual.19 Key Indicators for Project Implementation.19 Key Indicators for Project Operation.19 Studies Included in Project.20 Subprojects Financed.21 Project Costs.22 Project Financing.22 Economic Costs and Benefits.22 Status of Legal Covenants.23 Compliance with Operational Manual Statements.24 Bank Resources: Staff hiputs.24 Bank Resources: Missions.25 Appendix: Borrower contribution to the ICR 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.

4

5 IMPLEMENTATION COMPLETION REPORT POLAND INDUSTRIAL EXPORT DEVELOPMENT PROJECT (Loan 3166-POL) Preface This is the Implementation Completion Report (ICR) for the Industrial Export Development Project in Poland, for which a loan in the amount of US$260 million equivalent was approved on February 6, 1990, and made effective on May 8, At the request of the Borrower, the remaining uncommitted balance of the loan totaling US$20 million was canceled as of June 3, 1998, thus closing the loan about two years earlier than the revised closing date of June 30, 2000 agreed to in June This compares with the original closing date of June 30, During the life of the loan the Borrower requested cancellations totaling US$184,132,747.05, leaving a total loan of US$75,867, All unpaid principal was prepaid in July The ICR was prepared by George Park. It was reviewed by Ilham Zurayk, Sector Manager (ECSPF) and Basil Kavalsky, Country Director for Poland and the Baltic States. The Borrower provided comments that are included as an appendix to the ICR.

6 IMPLEMENTATION COMPLETION REPORT POLAND INDUSTRIAL EXPORT DEVELOPMENT PROJECT (Loan 3166-POL) Evaluation Summary i. The US$260 million loan for the Industrial Export Development Project (IEDP), together with the US$100 million loan for the Agro-industrial Export Development Project (both approved in February 1990), comprised the first two loans made to Poland after it rejoined the Bank in Both were part of a major program of assistance which the Bank quickly put in place to provide strong international backing for Poland's Economic Transformation Program (ETP), which Poland's first post-communist government launched in late As a result of this effort over US$1.0 billion in loans were made to Poland during calendar yearl990, the first full year of the ETP. ii. IEDP's main objective was developing Poland's industrial production by financing modernization and restructuring projects in public and private enterprises through a US$245 million credit line component. The initial emphasis was on financing export industry, but this was subsequently broadened to include financing for productive investment in industry generally. The project also provided US$15 million in technical assistance to strengthen the banking system and finance advisory services to study enterprise restructuring needs and design approaches for privatization and restructuring. Implementation of the technical assistance component was generally satisfactory. However, demand for the credit line turned out to be much less than expected. As a consequence only 30 percent of the credit component was disbursed for 23 subprojects. iii. Weak demand for the credit resulted largely from the uncertain macroeconomic environment during the early years of the economic transition, as marked by the slowdown in industrial production during and high inflation. Although many private companies were willing to invest, in many cases these firms had no established relationship with commercial banks, found it difficult to meet tough collateral requirements, and were reluctant to borrow in foreign exchange given the difficulties they faced in judging market prospects and uncertainty surrounding exchange rate policy. Public sector companies also faced multiple uncertainties as their markets for traditional products disappeared and they confronted increasing financial problems. In these circumstances enterprises were reluctant to take on new debt to expand and improve industrial capacity, especially during the early years of the economic transition. There were also constraints on the part of participating banks. These banks were faced with deteriorating portfolios and were undergoing considerable policy and institutional change as they adjusted to their new role in the market economy. Consequently, they were not interested in doing medium- and long-term lending and preferred to put their money in essentially risk-free, high-yield government paper. In addition, the banks remained highly liquid, including in foreign exchange, and if they did lend, preferred to lend using

7 iii their own resources. Complex subproject appraisal and processing requirements also discouraged potential sub-borrowers, especially since neither the participating banks nor the potential borrowers were familiar with the Bank's requirements. iv. The credit component as appraised, included a pipeline of seven preapproved subprojects, which were expected to use close to 60 percent of the credit-line. However, a number of these subprojects did not materialize or were substantially scaled back. This meant that an even greater burden was placed on participating banks to find new investments that could be financed. Confronted with lagging demand, the National Bank of Poland (NBP) and the Bank simplified subproject preparation and procurement procedures, took steps to actively promote the project with banks and potential subborrowers and offered training in project preparation and appraisal. However, these efforts had only a limited impact on loan utilization and, at NBP's request, about US$127 million of the loan was canceled during 1996 and v. In an effort to find alternative uses for the proceeds of the loan, NBP and the Ministry of Finance requested the Bank to expand the technical assistance component to include support for large integrated automation investments in two commercial banks, since adequate funding for this purpose was not available under the Financial Institutions Development Project. An amendment to this effect was approved by the Board in June 1997, but in the end did not result in any further disbursement. Both of the commercial banks concerned ran into procurement difficulties and experienced problems in coming up with the correct technical solution to meet their business needs. As a result neither of the two banks were able to go ahead with their investments, thus resulting in the cancellation of an additional US$57 million from the loan. In the end, only about 30 percent of the loan was disbursed for both the technical assistance and credit components and the rest canceled. vi. As a result of the limited success in disbursing the credit portion of the project, several conclusions emerge: (a) during a period of intense economic restructuring where significant economic uncertainties exist, it is very difficult to accurately assess sector financing needs and the demand for credit. In such circumstances it would be better to start with a smaller (pilot) line of credit to test and perfect the credit delivery system and establish a more solid basis for assessing real demand; (b) lending through an apex institution provides flexibility in the timing of selecting and qualifying participating banks-which is particularly important when the banks are being restructured-but the added layer does increase the cost of credit to the final borrower and may result in lower demand. Therefore, prior to making a decision on an apex institution, one should look carefully at the possibility of lending directly to creditworthy commercial banks; and (c) when working with new borrowers, including sub-borrowers, and intermediaries who have limited experience with Bank procedures and subproject appraisal techniques, one needs to simplify subproject appraisal procedures as much as possible and ensure sufficient technical support. With respect to the additional banking automation component, the problems experienced during implementation suggest that the Bank's procurement rules--which require the procurement package to identify a very specific package of goods and services--are not well suited to the purchase of integrated banking automation systems, since the rules make it difficult for a commercial bank to adjust

8 iv quickly to changes in its business objectives, which impacts on its automation needs, and to rapid changes in technology. vii. Given the low utilization of the credit line, the project only partially achieved its main objective of fostering industrial exports and more broadly industrial production. In this context it is rated as unsatisfactory. Nevertheless, even though the project fell short of achieving its principal objective, the industrial subprojects that were financed were successfully implemented and the technical assistance component provided important assistance in helping develop Poland's industrial restructuring and privatization initiatives during the initial years of the Economic fransformation Program.

9 IMPLEMENTATION COMPLETION REPORT POLAND INDUSTRIAL EXPORT DEVELOPMENT PROJECT (Loan 3166-POL) Part I: Project Implementation Assessment Introduction 1. On February 6, 1990, the Board of Executive Directors approved a loan of US$260 million to the National Bank of Poland (NBP) for the Industrial Export Development Project (IEDP). This loan, together with a loan for the Agro-industrial Export Development Project (approved the same day), were the first two loans made to Poland after it rejoined the Bank in The loans were approved shortly after Poland initiated its far-reaching Economic Transformation Program (ETP) under the first post-communist government. Both were part of a much larger program of assistance initiated in early 1990 to support implementation of the reforms, help restore economic stability and pave the way for renewed growth.' A. Project Objectives 2. The Industrial Export Development Project (IEDP) had four principal objectives: (i) improving the convertible currency trade balance of Poland by increasing the volume, quality and value-added of industrial exports to convertible currency markets; (ii) improving the banking system, in particular by providing training in modem banking practices; (iii) preparing restructuring programs and identifying restructuring needs in industry; and (iv) supporting the development of the private sector. The initial emphasis on the export industry was subsequently amended to include support for industry in general, thus providing more flexibility in the use of the proceeds of the loan. To achieve these objectives, the project included two components: (a) a US$245 million line of credit to finance investments in state-owned and private industrial enterprises; and (b) a US$15 million technical assistance component to strengthen the banking system, improve banking supervision, carry out studies for the restructuring and privatization of ailing enterprises, and support measures to stimulate private sector development. In June 1997, the Board agreed to expand the banking institutional strengthening objective to include financing of major automation investments by two banks (Bank Gdanski and Bank Zachodni), since funding available under the Financial Institutions Development Project (FIDL) was insufficient for this purpose. As a result of this amendment, the total amount allocated for technical assistance was increased to US$65.7 million, of which US$58.7 million was to be used for financing banking automation investments. 1 Bank lending to Poland in calendar year 1990 totaled US$ 1.1 billion, including IEDP (US$260.0 million), Agro-industrial Exports (US$100.0 million), Environmental Management (US$18.0 million), Transport (US$153.0 million), Energy Resources Development (US$250.0 million), and SAL I (US$300.0 million).

10 2 3. At the beginning of its economic transformation to a market economy, Poland faced the enormous challenge of both restructuring and privatizing existing state-owned enterprises, as well as promoting the rapid growth and development of new private companies. In this context, Bank support for industrial development and modernization, including associated technical assistance to support banking sector modernization and industrial restructuring, was warranted and consistent with Poland's needs and the Bank's country assistance strategy. Nevertheless, as explained in more detail below, while the project's objectives made good sense, it turned out to be much more difficult than expected to generate sufficient demand for the credit line from participating banks and potential sub-borrowers. As a consequence, the project experienced serious implementation constraints. B. Achievement of Objectives 4. Utilization of the credit line was considerably lower than both the Government and the Bank had expected. The project, therefore, only partially achieved its main objective of fostering industrial exports and, more broadly, industrial production. Indeed from project startup in 1990 through mid-1995, when the last commitment was made, only 23 subprojects were approved by five participating banks, resulting in total disbursements of US$66.8 million from the credit line. While this is still a significant amount, it represents less than 30 percent of the original allocation of US$245 million for credit. When the project was first appraised in late 1987, close to 80 percent of the credit component was expected to be used to finance nine preappraised subprojects, leaving a relatively small amount of the credit line for investments that had not yet been identified. By the time of the reappraisal (September 1989), however, three of the preappraised subprojects had dropped out (having found alternative financing), leaving about 40 percent of the credit component available for new subprojects. In the end, less than 20 percent of the original credit component was disbursed for the original pre-appraised subprojects. This meant that, in practice, full utilization of the credit line depended much more heavily than initially planned on generating sufficient demand for the credit line from both participating banks and industrial enterprises. 5. This shift in the way the credit line was to be implemented turned out to be quite important, since the uncertain and difficult economic environment during the initial stages of Poland's economic transition, including the slowdown in industrial production during 1990 to 1992, sharply reduced demand for the line of credit. These economic developments, together with high inflation and high interest rates, dampened the interest of existing and new industrial investors in expanding and improving industrial capacity. At the same time, participating banks were faced with deteriorating portfolios and were undergoing considerable policy and institutional changes as they adjusted to their new role in the market economy. Hence, they did not actively seek medium/long term lending, preferring to put their money in essentially "risk-free," high-yield governmnent paper. Moreover, the banks continued to be highly liquid, including in foreign exchange, and when they did lend, preferred to lend their own resources. In addition to these systemic factors, subproject appraisal and processing requirements discouraged potential borrowers, especially since neither the participating banks nor the potential subborrowers were familiar with the Bank's requirements.

11 3 6. Implementation of the technical assistance component did not run into the same problems. Close to US$6.9 million was disbursed for advisory services to strengthen the capabilities of the main institutions involved in privatization and industrial restructuring (especially the Ministry of Privatization--now Ministry of the Treasury, the Ministry of Industry and Trade--now part of the Ministry of Economy, and IDA--the Industrial Development Agency), including carrying out specific studies to identify restructuring needs in selected industries (such as heavy chemicals and steel). Although the results of the advisory work and studies were not always fully utilized or became outdated as restructuring efforts were delayed, the technical assistance financed under the loan supported the design of policies and approaches for industrial restructuring and privatization and helped Poland launch its industrial restructuring effort. 7. The provision of technical assistance to banks under the banking support component, as originally designed, also proceeded satisfactorily. A limited amount of support was provided to help strengthen NBP's banking supervision activities (financed from the PPF) and about US$2.1 million was used to finance the initial automation needs of one of the participating banks. However, the additional financing allocated to finance automation investments in Bank Gdanski and Bank Zachodni was never used, as both banks ran into procurement and timing problems which led eventually to the cancellation of their sub-loans and cancellation of the remaining balance of the loan by NBP. The additional objective of financing banking automation (which was added when the project was restructured in 1997) was therefore not achieved. 8. Despite the limited use of the credit line, the project did focus attention on industrial sector restructuring needs and issues at an early stage of Poland's economic transition. It also served as a vehicle for introducing the banks and industrial sector to market-based, subproject appraisal techniques. In addition, the industrial sector analytical work, which was carried out before and during project implementation, helped identify modernization and restructuring requirements for key industries and industrial subsectors. When looked at in this broader context, the project did make a satisfactory contribution to private sector development and industrial restructuring, despite the less than satisfactory outcome in terms of the number of enterprises actually supported and in terms of the arnount of loan funds disbursed. Moreover, the project paved the way for subsequent bank assistance in the industrial and banking sectors. C. Implementation Record and Major Factors Affecting the Project 9. Project preparation was initiated in March 1987 and the project was first appraised in November 1987 in anticipation of an agreement between Poland and the IMF on a macroeconomic policy framework and recovery program which would pave the way for lending from the international community. In the absence of such an agreement the project was put on hold. However, preparatory work continued in the form of an industrial sector study (completed in mid-1989) and further efforts to identify, prepare, and update industrial subprojects for eventual funding out of the proposed loan. With the significant political and economic changes that took place during 1989, prospects for lending to Poland improved sharply. As a consequence, the project was reappraised in September 1989, negotiated in December 1989 and approved by the Board in February 1990, a few months after Poland's Economic Transformation Program was launched.

12 4 Credit Component 10. The credit component included a pipeline of seven pre-approved subprojects, which were expected to utilize US$141 million '(or about 57 percent) of the US$245 million credit component, with the remaining US$104 million to be used to help finance additional subprojects to be appraised by the participating banks. When preparing the credit component, the team which carried out the reappraisal was aware of a number of implementation risks which could affect subproject preparation and utilization of the credit line. One concern was that the Government's economic transition and recovery program, by introducing major adjustments in the economic and business environment, could cause implementation delays by slowing investment decisions, thus adversely affecting project benefits. There was also a concern that the identification and appraisal of new subprojects would be delayed because of the limited experience of participating banks in carrying out subproject appraisals, especially since many of the banks had only recently been established as a result of the break up of the old central bank. However, these risks were believed to be manageable. The pre-approved investments were to be carried out by some of the largest and strongest enterprises which had good potential and had been well screened. Moreover, assuming the pre-approved projects did go ahead as planned, close to 60 percent of the loan would have already been committed. At the same time, the technical assistance program was designed to work with banks to improve their operational capacity, including developing their project appraisal capability. 11. The actual implementation experience turned out quite differently. When the project was first designed, the economy was subject to foreign exchange shortages, rationing and controls. By the time the project was approved, however, the economic situation had begun to change radically as a result of the rapid opening up and liberalization of the economy under the ETP. This sharply changed the economic environment in which enterprises had to operate, as foreign exchange shortages began to disappear and new markets and products became available. As a consequence, many of the industrial investments included in the initial pipeline of projects were ultimately dropped or required major adjustments before they could be implemented. Moreover, it quickly became apparent that new investment projects would be much more difficult to identify and prepare than initially expected, due in part to the reluctance of firms to take on new investment and debt in a very uncertain macro and industrial sector environment, but also in part to the lack of familiarity with Bank sub-loan conditionality and procurement procedures. In these circumstances, faced with lagging demand, NBP and the Bank began quite early on to look for ways to make the credit line more user-friendly and more attractive. At the same time, recognizing that the credit line might not be fully used in a timely fashion, NBP and the Bank also began exploring alternative uses for the proceeds of the loan, mainly to expand the technical assistance and banking support component. 12. To increase demand for the credit line and make it more attractive for both borrowers and the participating banks, three types of changes were introduced. First, the initial restriction limiting project financing to activities which were export-oriented was dropped. At the time the project was designed, it was thought that export competition would provide some assurance that the loan funds would be used by more efficient enterprises. But with the rapid growth in the private sector, liberalization of prices and growing competition in the economy, this restriction was no longer seen as relevant.

13 5 Thus the loan was amended to include financing for all productive investments. In addition, activities eligible for financing were expanded to include free-standing working capital and leasing of equipment. Secondly, procurement requirements were simplified. For investments by private sector companies, commercial practice was allowed for packages up to US$2.0 million. Use of international shopping was also expanded to cover contracts from US$1 million to US$5 million. Thirdly, procedural requirements were simplified. The requirement that sub-borrowers generate sufficient export earnings from the investment to cover the direct foreign exchange costs was eliminated. The use of simplified appraisal procedures, which had been limited to small investments up to US$100,000, was expanded to cover investments up to US$300, The Bank and NBP also took a variety of actions to promote the project with banks and potential investors and provide relevant training, including holding a series of seminars. In addition, substantial efforts were undertaken to strengthen the operational capacity of the banks and provide training on appraisal techniques and the Bank's procedures and requirements. Despite these efforts, credit line utilization did not improve significantly. 14. During the 1993 Annual Meetings, the slow progress in credit line utilization was one of the major issues discussed with the Polish Delegation, including the question of whether IEDP and other credit lines should be restructured or portions canceled. At that time, however, NBP still felt that new subprojects would and could be developed by participating banks and it argued for a continuation of the project using the same approach, with the exception of further changes to make the credit line more attractive (as also indicated above). In spite of these actions, further significant lending did not materialize and following a mid-1995 survey of participating banks, NBP concluded that there was no further demand for the credit line. Consequently, at NBP's request US$127.5 million of the loan was canceled during 1996 and 1997 and the remaining funds transferred to an expanded technical assistance component to finance banking automation. Technical Assistance Component 15. The technical assistance component, as initially designed, had three subcomponents. a) The first sub-component was a program of technical support to NBP to develop the organization, policies and procedures of NBP's Banking Supervision Department, coupled with training of staff from NBP and participating banks on project analysis and project supervision. Support in both of these areas was provided by Bank staff directly. Training in banking supervision was also supported by the Office of the Comptroller and the Currency of the United States and the Federal Reserve and subsequently by the IMF. The additional external support helped hold down costs. As a result, funding under a PPF for the project was sufficient and the additional US$500,000 originally allocated in the project for training technical assistance was not needed. b) The second sub-component, with an allocation of US$4.0 million (later increased to US$ 11 million) was to be used to assist the Government, especially the

14 6 Ministries of Privatization, Trade and Industry and the Industrial Development Agency, to develop strategies for economic restructuring, including policy and procedures for restructuring of the industrial sector and selected subsectors. This part of the technical assistance component was utilized to a significant degree, with disbursements totaling US$6.8 million. The remaining balance of US$4.2 million was subsequently canceled, in large part because of the availability of other funding for technical assistance for the Ministry of Privatization, including grant funding from the EU PHARE program, and support under the Privatization and Restructuring Project (Loan 3342-POL), which became effective in November c) A third sub-component, with an allocation of US$2.0 million, was to be used to finance development programs in participating banks to strengthen their organization and functions. This initial allocation was used to finance automation investments in one of the participating banks. In addition, as explained below, the banking support component was enlarged substantially to provide assistance in financing major programs of banking automation, which could not be fully financed under the Financial Institutions Development Project (Loan POL). Financing of Bank Automation 16. With the opening up of the Polish economy and the breakup of the centralized banking system in 1989/90, Poland faced the enormous task of restructuring, modernizing and eventually privatizing both its specialized foreign trade, savings and agriculture banks, as well as the nine new regional banks which were formed from the old central bank. As the first loan for the banking sector, IEDP's technical assistance component aimed at providing limited assistance to facilitate utilization of the credit line by participating banks and begin the process of banking modernization. The provision of much more substantial technical and financial support for institutional development of the banks, including financing of automation, was left to the Financial Institutions Development Loan (FIDL), approved in June That operation included US$8.0 million to finance twinning arrangements between Polish and European banks and US$42.0 million to help finance investments in automation. The intention was to finance only the most urgent basic automation needs of the regional banks as a first stage of development, leaving larger and more complex investments to a second stage which the banks would finance themselves or together with their private partners. 17. However, the regional banks opted for a faster, one-stage approach, arguing that they needed to move quickly to develop and install fully integrated automation systems if they were to remain competitive. Since the US$42.0 million in financing for automation investments included under FIDL was inadequate for this purpose, NBP proposed quite early on (1992) to reallocate a substantial portion of the credit line allocation to the banking support component to provide additional financing for automation. An initial reallocation of US$30 million was approved by the Bank in late 1992, with the understanding that additional funds would be reallocated at a later date, as soon as the commercial banks' investment needs were clarified and NBP made a formal request to the Bank.

15 7 18. The three banks proposed for financing from the IEDP loan (Bank Pomorski, Bank Zachodni of Wroclaw, and Bank Gdanski) started preparing their automation investments in 1992 and 1993 using a two-stage tender process, which is recommended for the purchase of complex information technology systems at competitive prices. The first stage requires suppliers to submit technical bids corresponding to the functional requirements of the banks. The selected bidders then fine-tune their bids and make a second offer during the second stage which includes both their technical and commercial proposals. Given the complexity of the integration systems being purchased, the fact that the functional requirements kept changing as the banks revised their business plans and goals and the fact that information technology (IT) itself was also constantly being improved and upgraded, all three banks found it difficult to reach a final decision on what to buy. As a consequence, the tender evaluation process stretched over several years and the banks delayed formalizing their sub-loan agreements with NBP. Despite these difficulties, all three remained interested in obtaining financing from the Bank, in part because of the technical support for the IT preparation process that we were able to provide, but also because the funding under the loan was VAT-free by decision of the Ministry of Finance. With VAT at 22 percent, this savings remained a major incentive for the three banks to persevere with the procurement process. 19. By the time Bank Pomorski was ready in mid-1996 to award a contract for automation, it was forced to drop its automation investment plans because of its Government-mandated consolidation with another commercial bank (PKO-SA). The remaining two banks (Zachodni and Gdanski) continued their automation procurement process in close consultation with the Bank and, in late 1996, NBP formally requested financing of up to US$56.6 million from IEDP to finance their respective automation systems. NBP also discussed the possibility of reallocating an additional US$90 million in uncommitted IEDP funds to finance automation investments in another bank, PKO- BP, the specialized savings bank. However, after a detailed review, the Bank concluded that the PKO-BP's IT investment proposal was not sufficiently well prepared to be considered for financing out of the IEDP loan, mainly because this very large automation investment was not linked to a clear restructuring and business development strategy for PKO-BP. 20. When, in June 1997, the Board approved the restructuring of the project to finance large scale automation investments, procurement for both Bank Gdanski (BG) and Bank Zachodni (BZ) was well advanced. However, BG decided that the automation systems proposed in the original tender were no longer suitable since its functional requirements had changed significantly, in part because of changes in its business objectives as a result of its partial takeover by another bank. It therefore canceled the first tender-in agreement with the Bank-and requested new bids from all participants in the original first stage tender. In the end, however, after analyzing the revised first stage bids, BG concluded that it was highly unlikely that any of the first stage bidders would be able to adequately meet its needs. Although it had the option of further refining its IT specifications, BG felt that even if it did so, it was unlikely to receive proposals that it could live with. BG therefore opted to cancel the entire procurement, arguing that it was too risky to invest more time in following the Bank's procurement process. BZ also ran into problems. It was unable to reach an internal management decision on the proposed award for close to a year and a half. This delay and the fact that changes in automation requirements were improperly introduced into the bid evaluation process made it

16 8 impossible for the Bank to approve any award. In view of this, BZ ultimately decided to cancel the tender and proceed on its own and/or in conjunction with its future private partner. In short, despite the tremendous effort which both banks had made in preparing automation investments for Bank financing, neither bank was able to complete the procurement process and both subsequently canceled their sub-loans with NBP. 21. Once the tenders and sub-loans were canceled, NBP in turn requested cancellation of the uncommitted balances in the loan. The final US$20.0 million from the loan was canceled effective June 3, 1998, shortly after BZ canceled its sub-loan agreement with NBP. Factors Generally Subject to Government Control 22. The Government's Economic Transformation Program had a major impact on utilization of the IEDP credit line. On the one hand, the reforms created conditions which encouraged the start-up of new private companies and put pressure on public companies to move to new markets and improve quality and productivity. Many, if not most, of the subprojects that were financed out of the credit line would not have materialized without these reforms. On the other hand, the reforms were initially very destabilizing for industry, thus discouraging new investment and borrowing. This situation, coupled with high interest rates, and the very limited interest of the banks in making medium term loans, sharply limited demand for the line of credit. Factors Not Generally Subject to Government Control 23. Credit line utilization was also affected by factors specific to the enterprises themselves as well as to the participating banks. With respect to private enterprises, there was no shortage of good investment projects that could have been financed from the credit line. However, companies found it difficult to meet the tough collateral requirements of the banks, in part because property rights were unclear and the legal framework was inadequate to provide sufficient security to lenders. Companies often had no established relationships with commercial banks and many were reluctant to borrow, especially in foreign exchange, given the uncertain macroeconomic environment and uncertainty over the future exchange rate of the zloty. Public sector industrial enterprises also faced multiple uncertainties as markets for their traditional products disappeared and they found themselves facing serious financial problems. Faced with these difficulties, many firms were reluctant to borrow (assuming they remained creditworthy), even though investmnents were needed to reorient production and improve productivity. 24. At the same time, participating banks also faced considerable uncertainty as the whole structure of the financial system was in flux, many were newly established offshoots of the old central bank, and the banks themselves were increasingly in financial distress as their traditional customers got into financial trouble. In these circumstances, it was difficult to find banks who were willing to actively promote the credit line. Of the seven participating banks, only five banks (BGZ--the agriculture bank, Bank Handlowy, Export Development Bank-BRE, Bank Przemyslowo-Handlowy (BPH) of Krakow, and Bank Slaski of Katowice) actually approved sub-loans, and of the 23 subloans that were approved, the bulk were approved by just two banks, namely BGZ (eleven loans) and

17 9 BPH (seven loans). The two other participating banks, Wielkopolski Bank Kredytowy (WBK of Poznan) and Bank Gdanski, did not make any subloans at all. D. Project Sustainability 25. In the case of a credit line, project sustainability can be assessed both in terms of the development of the on-lending institutions involved and in terms of the sustainability of the subprojects financed. All of the subprojects financed under the IEDP (see Table 7B for the list of projects) were successfully completed. However, a number of the companies which borrowed from IEDP ran into difficulties and were subsequently restructured. With respect to banking system reform, IEDP was intended to provide only limited technical assistance at the very beginning of the banking sector reforms, which it did. Since then, there has been significant progress in restructuring and developing Poland's banking system and the entire financial sector. Six of the seven participating banks have been privatized, and the seventh (BGZ), the agriculture development bank, is undergoing further restructuring with the goal of privatizing the bank starting in the year E. Bank Performance 26. The Bank carried out project identification, preparation and the initial appraisal in a comprehensive and satisfactory manner. The reappraisal was also technically satisfactory, but under the pressure to start lending to Poland to support the Economic Transformation Program, the reappraisal had to be carried out quickly, at the very beginning of the transformation, when it was far too early to be able to assess the impact of the market reforms and abrupt changes in the macroeconomic environment on industry demand for credit and the resource needs of the banking system. Based on what was known at the time, the Government and the Bank assumed that demand would be sufficient. However, this assumption proved incorrect. 27. Preparation and Appraisal. Since this was the first operation in the industrial sector and there was no prior experience with lending to Poland, Bank staff undertook a detailed assessment of both the industrial sector and potential subprojects, as well as looking in some depth at the banking system and potential intermediaries for the credit line. Over 50 potential subprojects were reviewed, of which nine were pre-selected for financing out of the credit. Since these nine projects were expected to utilize about 80 percent of the line of credit, neither the Bank nor the Government expected major difficulties in utilizing the loan or in identifying new investments for financing for the remaining 20 percent of the loan. By designing the loan in this way, the Bank expected to minimize the amount of new project identification and preparation work that participating banks would need to carry out, keeping in mind their very limited experience with Bank project preparation, appraisal and implementation requirements. By pre-approving subprojects which would utilize a substantial portion of the loan, the Bank also felt it had a better chance of ensuring that loan funds would go to companies which were financially sound and had reasonable chances of rapidly increasing export earnings, which at the time was the main objective of the project. 28. Following appraisal, the project was put on hold, mainly because the macroeconomic policy conditions required for Bank lending to Poland had not yet been

18 10 met. This situation changed during 1989 as Poland's new post-communist Government began to put in place a new program of adjustrnent and stabilization and moved ahead rapidly with major reforms needed to establish a market economy. The project was therefore revived and became part of the Bank's initial phase of major financial and technical support for the Economic Transformation Program. 29. Reappraisal. Reappraisal of the project was carried out during the first two weeks of September Since the Bank wanted to move quickly to demonstrate strong international support for the ETP, the reappraisal was kept as short as possible, focusing on the minimum needed to update the draft appraisal report, including a review of the pre-appraised subprojects, an assessment of financial intermediaries, and a review of the technical assistance component. The mission found that three of the original preidentified investments were being financed from other sources, as the companies had been unable to wait while loan processing was put on hold. The remaining six subprojects were confirmed and one new subproject was added, leaving a total of 7 preapproved subprojects which were expected to utilize almost 60 percent of the credit line. Given the time pressure, the Bank opted not to wait for additional subprojects to be appraised, even though this meant placing a higher burden on the banking system, which had no prior experience in preparing subprojects which would meet the Bank's procedural requirements. The size of the credit component was therefore kept the same (US$245 million) and processing of the loan was accelerated. 30. IEDP, like other credit line projects in Poland, was appraised as a standard line of credit using an apex institution for on-lending to a second tier of participating banks. Subproject appraisal requirements, participating bank requirements and other implementation arrangements were based on the Bank's long experience supporting development financing institutions around the world. These implementation arrangements were transplanted largely without change into the rapidly changing Polish environment. Although there was some concern at appraisal that credit line utilization could be slowed by the uncertain macroeconomic environment in the early part of the transition period, this risk was thought to be manageable, especially given the large amount of investments that had already been identified. Similarly, the appraisal also noted the possibility that implementation would be slowed by the ongoing reorganization of the banking sector. This was also considered to be manageable given the technical assistance to be provided under the loan and the expectation that the apex bank, with help from Bank staff, would work closely with the participating banks to provide needed support. 31. At the start of Poland's market reforms, the Bank was only just starting to understand the complexities and risks of the micro and macro environment for credit in a country undergoing such a massive and rapid transition. Moreover, the financial, business and institutional environment was constantly evolving, which made it even more difficult to assess the supply and demand for credit and the strengths and weaknesses of the institutional arrangements for delivering credit to industrial enterprises. As a consequence, it was not possible for the Bank nor the Government to have enough information to accurately forecast demand for the line of credit at the time of the reappraisal. In order to get resources into the sector quickly and provide strong international support to the overall transformation program, the Bank opted to go ahead with the project on the assumption that substantial demand in the form of pre-appraised

19 11 subprojects had already been demonstrated and that sufficient demand for the rest of the credit line would materialize. Unfortunately, this turned out not to be the case. With the benefit of hindsight, given these limitations, it might have been preferable to have started with a smaller line of credit to test and perfect the mechanism and system for credit delivery and establish a more solid basis for assessing real demand. If this approach proved successful, and there was a demonstrated demand for additional resources, we could then have provided additional funds quickly. This might also have allowed for the Bank to acquire a better understanding of industry and banking sector resource requirements in light of the changes taking place in the economy, as well as better sequencing with support for policy changes and institutional strengthening of the banking and financial sector, as provided under the Financial Institutions Development Project (FIDL) and the Enterprise and Financial Sector Adjustment Loan (EFSAL). In this context, the reappraisal was unsatisfactory. 32. Supervision. IEDP was initially managed by Washington-based staff with support from the Resident Mission. However, from late 1992 through 1995, a full time task manager was based in Warsaw with responsibility for all financial sector and credit line operations, including IEDP. After 1995, supervision continued to be carried out at the Resident Mission, but was less intensive, since it was limited to monitoring preparation of automation projects by the three Banks proposed for financing under IEDP. Overall supervision performance was satisfactory. 33. During the first few years of project implementation, the Bank made a concerted effort to make the line of credit more attractive to both the banks and to potential subborrowers. However, these efforts had only a limited impact. In fact, because the banking system remained highly liquid, including resources in foreign exchange, and did not need the resources from the line of credit, and since enterprises were reluctant to borrow in foreign exchange, there was probably little more that could have been done to improve credit line use. Since the credit line could not be fully utilized for its original purpose, the Bank agreed to reallocate funds to finance investments in banking automation. While this was a good idea in principle, in practice it turned out to be equally difficult to implement. One of the principal underlying problems was that the banking environment was constantly changing. As a result the commercial banks found themselves going through major changes in their organizational and ownership structure, which in turn resulted in numerous changes in their policies and business objectives. In this environment the banks found it difficult to reach an internal consensus on the right kind of integrated automation system for their rapidly evolving needs. The banks also found it difficult to apply the Bank's procurement rules in a situation where automation technology was constantly being adapted and updated. 34. Although the decision to expand the technical assistance component and use a substantial portion of the credit line to finance banking automation needs which could not be financed under the FIDL was reasonable and appeared to meet a real need, in fact the original intention of the FIDL was to finance only basic automation equipment and not complex integrated systems. Based on what we now know about the difficulty of applying essentially static Bank procurement procedures in a situation where the borrower needs to be able to work flexibly with the automation equipment supplier to adapt quickly to changing technology and changes in a bank's business objectives, it would have been preferable to have canceled the unutilized portion of the credit line and

20 12 to have considered separately whether additional lending for automation was feasible and needed. Once having agreed to the use of the IEDP loan to help finance automation, however, the formal reallocation should have been done much earlier and the use of the funds for automation should have been tied to a specific timetable for completing the procurement and making use of the proceeds of the loan. F. Borrower's Performance 35. The Borrower's performance was satisfactory during the identification, preparation and implementation of the project. NBP put in place a solid implementation unit which was well-managed and acquired considerable experience in applying Bank policies, including procedures related to procurement and subproject appraisal. Overall, the working relationship with Bank staff was excellent. At this early stage of Poland's transition, there was no alternative to selecting NBP as the apex institution for the line of credit. However, the selection of NBP did have one unanticipated consequence, which may have reduced the interest of participating banks in using the credit line. Since these banks had only recently been freed of direct central bank control, there was some reluctance to work with their previous managing authority as the apex institution, which meant that NBP would continue to look over their shoulders and give orders in respect to implementation of the loan. G. Assessment of Outcome 36. IEDP was originally designed before the launching of Poland's ETP in late 1989, when the Polish economy was subject to foreign exchange shortages, rationing and controls. By the time the loan was approved, the economic situation in Poland had begun to change radically. The availability of financing, including foreign exchange at a lower overall cost than the Bank's loan, improved quickly. Furthermore, interest in the credit line was dampened by the reluctance of Polish banks to do term lending, the difficulties potential borrowers faced in meeting high collateral requirements, and the lack of experience of enterprises in meeting project appraisal and procurement requirements. All of these factors directly affected the level of demand for the credit line and made the design of the project less relevant. 37. Given the low utilization of the credit line, the project provided only a limited amount of financing for industrial modernization and restructuring and did not achieve its principal goal of expanding export earnings. In this context, it is rated as unsatisfactory. The project also did not achieve the additional objective, formally added in mid- 1997, of financing large banking automation investments, since the two banks involved did not complete the procurement and this financing had to be canceled. Nevertheless, despite these unsatisfactory results in terms of financing significant investment in industry and in the banking system, the project provided substantial technical assistance to industry and to the banks, especially in respect to introducing project appraisal techniques, developing industrial restructuring strategies and beginning the process of developing modern banking services. While it is impossible to measure the impact of this transfer of knowledge, it was significant and remains an important positive outcome of the loan.

21 13 H. Recommendations for Future Operations 38. Poland's financial sector has developed significantly in the years since IEDP was approved, both in terms of the level and variety of banking services provided and in terms of the system's ability to mobilize resources. Total assets of the banking system as a proportion of GDP are still only a fraction of those in more advanced economies, but good economic growth, private pension fund development and continued strong interest of foreign investors in the sector, all point to continued dynamic growth. As a consequence, Bank lending for financial services development is no longer envisaged, except for possible Bank assistance to small and medium enterprises, including microcredit schemes as part of proposed support for rural development. Any additional assistance in the financial sector would have to be targeted to specific issues, such as capital market development or non-banking financial institutions. I. Key Lessons Learned 39. As a result of the limited success which the Bank had in implementing the IEDP and other credit line projects in Poland, several lessons emerge: a) First, during a period of very intense, in-depth economic restructuring, where significant economic distortions and uncertainties exist, it is very difficult to accurately assess sector financing needs and the demand for credit. In such circumstances, especially when Bank experience with the country, the financial sector and potential borrowers is limited, as was the case in Poland, it would be better to start with a smaller line of credit to test and perfect the mechanism and system for credit delivery and establish a more solid basis for assessing real demand. Then, if this pilot approach proves successful, and there is a demonstrated demand for additional resources, we should be prepared to provide additional funds quickly. b) Second, although lending through an apex institution provides flexibility in the timing of selecting and qualifying participating banks-which is particularly important when the banks are being restructured and undergoing substantial institutional changesthe added layer does increase the cost of resources to the participating banks and to the final borrower, and this can effect demand for the line of credit. Therefore, prior to making a decision on an apex institution, one should look carefully at the possibility of lending directly to creditworthy commercial banks. Keeping the sub-loan approval process as simple as possible is also an important factor in helping to lower the cost of credit. c) Third, when working with new borrowers and intermediaries, especially in a transition economy where practical experience with modem credit delivery and appraisal techniques is very limited, one should simplify subproject appraisal requirements as much as possible and ensure that sufficient hands-on technical support is readily available to assist enterprises and participating banks in putting together subproject proposals. d) Fourth, Bank procurement rules, which require the borrower to tender for a very specific package of equipment, software and services, are not well-suited to the purchase of banking automation systems, since the rules make it difficult for the borrower to adjust to rapidly changing banking needs and rapidly changing technology, which