INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT

Transcription

1 Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized RESTRICTED FILE COPY Report No. P-697 This report was prepared for use within the Bank and its affiliated organizations. They do not accept responsibility for its accuracy or completeness. The report may not be published nor may it be quoted as representing their views. INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT REPORT AND RECOMMENDATION OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN TO THE CENTRAL BANK OF THE PHILIPPINES FOR A SECOND RURAL CREDIT PROJECT WITH THE GUARANTEE OF THE REPUBLIC OF THE PHILLIPINES May 15, 1969

2 INTT3RMTIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT REPORT AND RECONMENDATION OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN TO THE CENTRAL BANK OF THE PHILIPPINES FOR A SECOND RURAL CREDIT PROJECT WITH THE GUARAkITEE OF THE REPUBLIC OF THE PHILIPPINES 1. I submit the following report and recommendation on a proposed loan in various currencies equivalent to $12.5 million to the Central Bank of the Philippines, to be guaranteed by the Republic of the Philippines. PART I - HISTORICAL 2. In November 1965, the Bank made a loan of $5 million to the Central Bank to help finance a program of medium- and long-term credits to farmers through the rural banking system. The loan financed a pilot project, which was intended to lead to further Bank lending for the program if it were successful. On the whole, the pilot project has worked out well, and the loan was fully committed by mid-1968 and fully disbursed by end of In the normal course a loan for a Second Rural Credit Project would have been recommended about the time the first loan was fully committed to enable the credit program to continue with Bank financing without interruption. However, as explaine-d in the President's Report and Recommendation dated March 22, 1967 (P-531) in connection with the loan for the Bataan Power Project, the Philippine authorities had been advised that the Bank would not be prepared to consider further lendingin the Philippines unless measures were taken to raise taxes to a satisfactory level and remedy other deficiencies. 4. By early 1968 it was evident that the Government was making a concerted effort to improve performance in the public sector by exercising closer supervision over implementing agencies, allocating resources on a more selective basis and concentrating its efforts on high priority sectors and projects. National revenueshad increased qit quite significantly owing to improved tax administration and control of smuggling. At the same time the administration was exerting great pressure on the Congress to enact legislation to further increase tax receipts. In anticipation of favorable congressional action on the tax measures the Bank agreed in May 1968 to consider projects for financing and the Government submitted a request for a second rural credit project loan. In August 1968 Congress enacted legislation whcih is expected to brinig a substantial increase in national revenues. Recent economic performance is discussed more fully in Part V - The Economy.

3 -2-5. The project was appraised in August/September 1968 and negotiations were held in Washington in April The Honorable Alfonso Calalang, Governor of the Central Bank, and >r. Gabriel Itchon represented the Central Bank; Mr. Pablo Suarez of the Philippine Embassy represented the Government as guarantor. 6. The proposed loan would be the eleventh in the Philippines and it will increase the total amount lent to $158.2 million, net of cancellations. The following is a summary statement of Bank loans to the Philippines as at April 30, 1969: Loan Amount (US$ million) No. Year Borrower Purpose Bank Undisbursed 183 PH 1957 Niational Power Corp. Power (Binga) PH 1961 Republic of the Philippines Dredging PH 1961 National Power Corp. Powqer (Angat) PH 1962 National Power Corp. Power (Maria Cristina) BPI 1963 Philippine N4ational Relending to the Bank Private Development Corporation of the Philippines (PDCP) PH 1964 National Wlaterworks & Sewerage Authority (NISA) Manila Water Supply PH 1964 R.eplblic of the Phi- Education (College lippines of Agriculture) 6.o PH 1965 Central Bank of the Philippines Agriculture 5.o PH 1966 Philippine National 491 PH 1967 Bank,eiending to PDCP Mational Power Corp. Powver (Bataan) Total (net of cancellations) of which has been repaid to Bank and others 14.9 Total now outstanding Amount sold 12.0 of which has been repaid Total now held by Bank Total undisbursed 31.3

4 -3-7. Although project implementation in the public sector has improved considerably, a number of difficulties still remain with Bankfinanced projects. Construction of the Manila WATater Supply Project (Loan No. 386-PH) has repeatedly fallen behind schedule during the last four years because of injunctions brought by domestic suppliers, poor contractor perfornance, weak management and, from time to time, a shortage of peso funds, Moreover, a difficult labor situation hindered the implementation of the extensive ref oms which NWSA and the Goverment recognize to be necessary if NMJSA operations are to becane satisfactory. However, a well-quialified Chairman was appointed last year and sane improvements in management have been put in effect. The supply works were completed in April 1969 enabling NWSA to supply an additional 50 million gallons a day to Manila and the balance of the distribution works should be completed by early Although NW,SA does not expect to have further difficulties in financing the peso costs of its construction program its financial position remains unsatisfactory. NWSA is considering raising its water rates but this may be difficult to implement because the improvement in service is not yet available to all NWSA's customers. The Bank is continuing to press NNSA to take necessary action as soon as feasible. The first three National Power Corporation (NPC) projects financed with the help of Bank loans (183-PH, 297-PH and 325-PH) have been completed and are operating--satisfactorily. Construction of the Bataan Power Project (Loan No. 491-PH) was initially held up because of delays in-- awarding the main equipment contracts but construction work is now proceeding satisfactorily. The implementation of NPC t s overall constructicn program has not progressed as well as expected chiefly because of delays in obtaining reparation materials and difficulties in raising pesos through the sale of its bonds. About $21 million of the second loan for PDCP (Loan No, 467-PH) has been committed and the remaining $4 million is expected to be committed by the end of June A further loan for PDCP ($25 million) and the Upper Pampanga Tlver Irrigation Project ($35 million) are being appraised and are expected to be ready for the Executive Directors' consideration in the next few months. A Grain Storage Project requiring foreign exchange finance of about $15 million is also being appraised and may be ready for the Executive Directors' consideration later in the year. 9. IFC's loans -and investments in the Philippines consist of an equity investment of P800,000 (equivalent to $205,000) in the Private Development Corporation of the Philippines, which has since been sold to other investors; and an equity investment of $4 million equivalent and a loan of $8 million in the Manila Electric Company, of which IFC now holds $9.3 million for its own account consisting of $5.7 million of the loan and $3.6 million of the investment.

5 PART II - DESCRUPTION OF THE PROPOSED LOAN 10. Borrower: Central Bank of the Philippines. Guarantor: Amount: Purpose: Amortization: Interest Rate: Commitment Charge: Relending Terms: Estimated Rate of Return of the Project: Republic of the Philippines. Various currencies equivalent to $12.5 million. To assist in financing medium- and longterm loans by rural banks for the purchase of farm machinery and equipment and for livestock and fishery development. In 14 years including a four-year period of grace through semi-annual instalments beginning June 1, 1973 and ending June 1, /2rD per annum. 3/4 of 1% per annum. The Central Bank would relend the proceeds of the loan to rural banks at an interest rate of 7.75;') per annum and would lend funds from other sources at an interest rate which would result in an average interest rate of 77,. Rural banks would in turn relend to farmers at 12f per annum. About 35'. PART III - THE PROJECT 11. An appraisal report entitled 'Thilippines: Second Rural Credit Project" (No. PA-4a), dated HIay 2, 1969, is attached. 12. Since 1965 wjhen the Bank made its first loan (432 PH) for rural credit in the Philippines, domestic agricultural production, principally rice and corn, which hitherto had been increasing at a negligible rate, has shown very impressive g&inss&nd the Philippines may shortly become a net exporter of rice. Better cocrdination among Government.agencies, and the provision of adequate amounts of credit for the purchase of the necessary inputs in association with improved varieties, have made a significant contribution to increased production. The Government plans to maintain the momentum in domestic agriculture by

6 -5- providing increasing amounts of credit and other forms of assistance to farmers. As-agriculture and related activities provide the livelihood for about two-thirds of the country's population, the overall benefits to the economy of increased farmers 1 income would be considerable. 13. The second rural credit project would extend for a further three years the agricultural credit program financed under the first rural credit loan. The proposed loan would be made to the Central Bank which would relend the proceeds to qualified rural banks to help finance the purchase of machinery and equipment for agricultural development. The Rural Banks Department of the Central Bank would be responsible for administering and supervising the project. The Department's staff has been increased and its qualifications broadened to handle the expanding volume of work. The number of rural banks has increased from 300 in 1965 to nearly 400 in About 200 rural banks, compared with 140 under the first project, are expected to qualify in accordance with criteria agreed with the Bank for participation in the second project. Rural banks have enjoyed a period of considerably increased activity during the period Deposits increased from P79 million to P142 million and the net worth from P121 million to P158 million, Farmers owning or cultivating 50 hectares of arable land or less, persons engaged in inland water and coastal fishing activities, and individuals rendering direct agricultural services would be the principal beneficiaries under the loan. 14. In addition to providing medium- and long-term loans for the purchase of farm machinery and the development of small private irrigation schemes and fishponds which were included in the first project, the second project would also finance the purchase of on-farm storage and processing facilities, equipment and production stock for livestock development, and small fishing boats and fishing equipment. A total of some beneficiaries are expected to participate in the project. 15. The estimated total cost of the second project is $25 million, of which 50% is estimated to be required in foreign exchange and would be financed by the Bank loan. The balance of the funds would be provided by beneficiaries, rural banks and the Central Bank. It is estimated that beneficiaries and rural banks would together contribute $5 million t-*ards total project costs. The Central Bank would lend $7.5 million (about 30% of the project cost) derived in part from principal repayments from rural banks under Loan No. 432-PH and the proposed loan which for a time are not required to meet amortization payments to the Bank and in part from a Government fund for agriculture administered by the Central Bank. 16. The Central Bank would relend the proceeds of the Bank loan at an interest rate of 7.75% per annum and would lend funds from other sources at an interest rate which would result in an average rate of 7% per annum. The relending rate of interest on the Bank's loan would give the Central Bank a spread of 1.25% which would be sufficient to cover the Central Bank's costs of supervision and the provision of technical services. The rural banks' loans to beneficiaries would carry an interest rate of 12/. The rural banks would lend to beneficiaries for periods from 3 to

7 -6-10 years including an appropriate grace period, and the rural banks would repay the Central Bank on the same terms. The Bank loan would be repaid in 14 years with amortization starting after the fourth year. Rural banks would carry the commercial risk on loans to farmers and the Central Bank the foreign exchange risk on the Bank loan. 17. The operating policies and procedures developed under the first project were generally satisfactory but have been revised to provide for greater decentralization under the second project. 18. Beneficiaries under the Bankfs loan would purchase their requirements through normal trade channels. Major international manufacturers of farm machinery and other supplies are well represented by distributors in the Philippines and service, repair and training facilities have been expanded during the first project. The proposed loan would also finance the purchase of about 50 jeep-type vehicles costing about $150,000 for the use of Central Bank technicians working in the field. These vehicles will be procured from time to time when needed by the Central Bank on the basis of local competitive bidding in accordance with agreed procedures which would permit the Bank to review and approve bid invitations and specifications and award of contracts. 19. In a credit program of this kind, involving many small farmers, a quantitative assessment of the benefits cannot be made with any certainty. Calculations suggest that there might be increases in farmerst annual production of rice, sugarcane, pork, poultry, and fish valued at $29 million, providing net foreign exchange savings or earnings of about $13 million a year. On this basis the rate of return could be put at about 35%. PAR2T IV - LEGAL INSTRWtENTS AND AUTHORITY 20. The draft Loan Agreement between the Bank and the Central Bank of the Philippines, the draft Guarantee Agreement between the Republic of the Philippines and the Bank, the Report of the Committee provided for in Article III, Section 4 (iii) of the Articles of Agreement and the text of a draft Resolution approving the proposed loan are being distributed to the Executive Directors separately. 21. The draft Loan documents contain provisions normally used for agricultural credit projects and follow the same pattern as the documents used for the first loan. The operating policies and procedures for the proposed project,and the terms and conditions of loans to be made by the Borrower to the Rural Banks and of loans to be made by the Rural Banks to the beneficiaries, are set forth in the Borrower's Rules and Regulations which have been approved by the Bank and will not be amended without the prior agreement of the Bank.

8 -7- PART V - THE ECONOIM 22. An Economic Report on "The Current Economic Situation and Prospects of the Philippines" (No. 138a dated May 24, 1968) was distributed to the Executive Directors on June 3, 1968 (R68-90). 23. Wvhen the present Administration came to powier at the beginning of 1966, it was confronted with (1) a serious fiscal problem; (2) a sluggish rate of economic growth (4 to 5% per annum) in the face of an annual increase of well over 3% in population; and (3) many shortcomings in public administration. However, thanks largely to substantial increases in invisible earnings from U.S. expenditures in the Philippines, the current accomt of the balance of payments was positive, though the foreign exchange position was weak because of t1e net outflow of short- and longterm capital. For several years, government revenues had been declining in relation to GNP, and in absolute terms they had been increasing by less than the increase in current government expenditures. Thus the margin of peso funds for public investment was declining. This, together with administrative shortcomings in the preparation and execution of projects attractive to foreign investment, resulted in a growing disparity between infrastructure and the needs of the economy. In order to contain inflationary pressures, credit to the private sector was restricted, thus retarding the adjustment of private industry to the new competitive situation that followed the removal of import controls in the early 's. 2h. Since rice imports had been a perennial burden on the balance-of payments, the new Administration took on the job of increasing food production as a first priority, together with the completion of a large number of partially finished irrigation, transportation and other projects in the public sector. At the same time, it endeavored to pursue an easier credit policy in respect of the private sector. While the rice program took some time to get underway, in 1968 rice production increased by 11%, and it seems possible that the Philippines will soon become a net rice exporter, The achievement in rice production, provided that it is sustained, will not only improve the balance of payments but will increase incomes in rural areas where poverty and related social unrest has long been a cause for concern. 25. On the fiscal side, the Governnent first turned its attention to improving tax collections and then, in 1967/68, proposed to Congress an extensive list of new tax measures calculated to produce an increase in Government revenues of about 20%. Thanks mainly to administrative improvements, the tax revenues of the National Government increased about 38% during the two years ending June 30, 1968, rising from about 8% to about 9.3% of GNP. Less than half of the tax program proposed by the Administration has been enacted, but even this is noteworthy as the first program of its kind to be passed by Congress in over a decade. However, despite these fiscal accomplishments, revenues are still insufficient. Between 1965/66 and the current fiscal year, the total expenditures of the Philippine Government increased 50%, about equally divided between current and capital outlays. In order to finance its program, the Government resorted to deficit financing on an increasing scale in 1968 and 1969.

9 As a result first of easier credit policies in the first year of the present Adninistration and more recently, fiscal deficits, the balance of payments has deteriorated. Imports increased by 35%, while exports grew by less than 3% between 1966 and 1968, and the trade deficit in 1968 climbed to a level of $302 million as compared with $241 million in 1967 and an average of $24 million during the previous three years. The short- and medium-term foreign liabillities of the Central Bank, which at the end of 1966 were about $130 million, reached a level of $285 million at the end of A further $40 million line of credit was secured by the Central Bank in $187 million of these short- and medium-term debts to United States and European banks fall due in 1969 but the Central Bank expects that most of these liabilities will be rolled over. After taking account of these liabilities net foreign exchange reserves have been, and remain, very low. 27. Recently the Government has tried to contain import demand and capital outflow by monetary restrictions, voluntary import quotas for selected industries, special deposit arrangements for imports and ceilings on letters of credit opened by commercial banks. At least initially these measures appear to have encouraged some speculation against the peso. 28. If the Philippines is to continue to achieve a satisfactory rate of growth, which amounted to about 6% in 1968, long-term capital inflows must be substituted for short-term borrowing. It is encouraging that the Goverment has approached a private consulting firm for assistance in the formulation of its debt management strategy. The project pipeline being built up for the Bank is also an encouraging development. 29. The external longer-term indebtedness of the Philippines is relati-vely low and the ratio of debt service to foreign exchange earnings, now 7-8%, should not exceed 10% in the 1970's insofar as public debt is concerned. Thus the Philippines should be able to service an increasing inflow of long-term capital for the financing of economically productive investments. PART VI - COMIPLIANCE WTH ARTICLES OF AGRMiENT 30. I am satisfied that the proposed loan would comply with the Articles of Agreement of the Bank. PART VII - RECO14NDATION 31. I recommend that the Executive Directors approve the proposed loan. Attachment Washington, D. C. May 15, 1969 Robert S. McNamara President By J. Burke Knapp