Documentof The WorldBank FOROFFICIALUSE ONLY ReportNo 42846-MX INTERNATIONALBANK FORRECONSTRUCTIONAND DEVELOPMENT INTERNATIONALFINANCECORPORATION COUNTRY PARTNERSHIPSTRATEGY FOR THE UNITEDMEXICANSTATES FORTHE PERIODFW2008-2013 March 4,2008 Mexico and Colombia Country Management Unit LatinAmerica and the Caribbean Region This document has a restricted distribution and may be used by recipients only in the performanceof their official duties. Its contents may not otherwise be disclosedwithout World Bankauthorization. The last CPS Progress Reportwas distributed to the Executive Directors inFebruary 2007. CURRENCYEQUIVALENTS (as of March 3,2008) Currency Unit=MexicanPeso US$ = 10.70 pesos FISCALYEAR January 1to December 31 WEIGHTS AND MEASURES Metric System ABBREVIATIONSAND ACRONYMS AAA Analytic and Advisory Activities APL Adaptable ProgramLoan BEE Business Enabling Environment BANOBRAS National Bank of Infrastructure and Public Services CAS Country Assistance Strategy CFAA Country Financial Accountability Assessment CFE National Electric Company CG Corporate Governance C M U Country Management Unit CONAFE National Council for Educational Development CONEVAL National Evaluation Commission CPAR Country Procurement Assessment Report CPS Country Partnership Strategy CTMP Committee for Poverty Measurement DPL Development Policy Loan GDP Gross Domestic Product FM Financial Management FSAP Financial Sector Assessment Program FY FiscalYear IBRD InternationalBank for Reconstructionand Development IDB The Inter-AmericanDevelopment Bank IFAI Federal Access to InformationInstitute IFC InternationalFinance Corporation IMF InternationalMonetary Fund INEGI National Statistical Institute IPO Initial Public Offering L A C Latin America and Caribbean LIBOR London Interbank Offered Rate MBS Mortgage Backed Security MFI Microfinance Institution M I C MiddleIncome Country MIGA MultilateralInvestment Guarantee Agency M O U Memorandum o f Understanding NAFTA North America Free Trade Agreement NDP National Development Plan NLTA Non-Lending Technical Assistance OECD Organization for Economic Co-operation and Development PEMEX Mexican PetroleumCompany PFM Public Financial Management PISA Programfor International Student Assessment PPP Public-Private Partnership FOROFFICIAL USE ONLY PIDIREGAS Infrastructure Projects with Deferred Expenses (Facility) PROCEDES Programfor Health Quality, Equity and Development SEDESOL Social Development Secretariat SHCP Secretariat (Ministry) o f Finance and Public Credit SHF Federal Mortgage Company SME Small and Medium-sized Enterprises TA Technical Assistance WEF World Economic Forum IBRD Vice President Pamela Cox Country Director Axel van Trotsenburg Task Team Leader David Rosenblatt IFC Vice President FaridaKhambata Director Atul Mehta Country Manager Marcos Brujis Task Team Leader EduardoWallentin This Country Partnership Strategy was prepared by a team led by David Rosenblatt and Eduardo Wallentin under the overall guidance o f Axel van Trotsenburg and Marcos Brujis. Core team members included Dan Boyce, Mark Hagerstrom, Gustavo Saltiel, Jozef Draaisma, Mireya Olivas, Odracir Barquera, Juan-Luis Flores, Sandra Y. Sainz, Arsala Deane, Felipe de la 0,Gabriela Vidals, Rosa Maria Hernandez-Fernandez and Thouria Nana-Sinkam. Invaluable comments and suggestions were received from numerous participants at the concept review andregional operations committee meetings. Carolina Monsalve and Frank Earwaker prepared the CPS Completion Report. Key government counterparts in developing the partnership strategy were: Ricardo Ochoa, Claudia Grayeb and Raul Delgado. This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not be otherwise disclosed without World Bank authorization. UNITEDMEXICANSTATES COUNTRYPARTNERSHIPSTRATEGY FYOS-Fy13 Table of Contents Executive Summary ........................................................................................................................................ i A. Introduction.............................................................................................................................................. 1 B. Country Economic Outlook ..................................................................................................................... 2 C. LongRunDevelopmentChallenges ........................................................................................................ 5 D. The Government'sDevelopmentVision ............................................................................................... 12 E. Principles ofBank GroupEngagement.................................................................................................. 14 F. StreamlinedApproach to IBRDFinancial Support................................................................................ 15 G. Portfolio and Fiduciary Considerations................................................................................................. 18 H. StrategicAreas for the IFCandCoordinationacross the WorldBank Group....................................... 19 I. Consultations ......................................................................................................................................... 22 J. Results monitoring ................................................................................................................................. 23 K. Risks ...................................................................................................................................................... 24 Annexes Annex A Resultsmatrix............................................................................................................ 26 Annex B Private Sector Strategy .............................................................................................. 29 Annex C CPS Completion Report ............................................................................................ 41 Annex D Fiduciary Issues......................................................................................................... 88 Annex E Portfolio Snapshots:Tables 1-10............................................................................... 89 Annex F Selected Indicators ofBank PortfolioPerformancesand Management.................... 95 Annex G GEF/PCF ProposedProgram..................................................................................... 96 Annex H IFCProgram.............................................................................................................. 97 Annex I Summaryof IBRDNon-Lending Services FY08...................................................... 98 Annex J SocialIndicators........................................................................................................ 99 Annex K Key Economic Indicators........................................................................................ 101 Annex L Key ExposureIndicators ......................................................................................... 102 Annex M OperationsPortfolio -Active Projects .................................................................... 103 Annex N StatementofIFC's HeldandDisbursedPortfolio................................................... 104 Annex 0 Mexico at a Glance.................................................................................................. 105 Table Table 1: Mexico's MacroeconomicFramework ....................................................................... 4 Figures Figure 1: MacroeconomicIndicators.......................................................................................... 3 Figure 2: GrowthPerformanceinComparativePerspective ...................................................... 6 Figure 3: Key CompetitivenessIndicators.................................................................................. 7 Figure 4: Key Social Indicators .................................................................................................. 9 Figure 5: Key Energy andInfrastructure Indicators ................................................................. 10 Figure 6: Schematic of StreamlinedApproach to IBRD Support ............................................. 15 Figure 7: ExposureandDisbursementLevels .......................................................................... 18 Boxes Box 1 . Mexico and the International DevelopmentAgenda ................................................ 13 Box 2. LessonsLearnedfrom the CPS Completion Rep0rt .................................................. 15 Box 3. Fee-BasedServices inMexico .................................................................................. 17 Box 4. Resultsofthe Client Survey...................................................................................... 22 UNITEDMEXICANSTATES COUNTRY PARTNERSHIPSTRATEGY FYOS-FY13 EXECUTIVESUMMARY 1. Past assistance and partnership strategies of the Bank Group have sought to assist Mexico in its efforts to undertake the large economic, social and institutional changes of the last two decades. Much has been transformed in Mexico, and much remains to be done. The challenges are to increase the rate of sustainable and inclusive growth and topursue policies that will allow nearly 45 million Mexicans to escapefrom poverty. 2. The agenda of the Bankfor middle income countries is well adapted to support the development strategy of President Calderon, now in his second year of ofice. That strategy was set out in the National Development Plan 2007-2012. The Planfocuses onfive strategic pillars including competitiveness, security and the rule of law, effective democracy, equality of opportunity and environmental sustainability. Notwithstanding steady progress in thepast twenty years, Mexico still faces serious problems of poverty and it needs to improve competitiveness in order to accelerate growth. The Government recognizes that continued assistance from the international financial community can help Mexico make headway in resolving thoseproblems. 3. In recent years, there has been a notable change in the dynamic of the Bank's relationship with Mexico. Experiencefrom the implementation of the last CPS andfeedback from the government indicate the need for increasingly flexible, on-demand services, especially advisory services and technical assistance. At the same time, the key role of the Bank as a lender is also understood. 4. The Bank and the government have agreed on an approach that would enhance the Bank's effectiveness and responsiveness through a streamlined IBRD lending program, and an expanded program of analytic and advisory activities (AAA). Most lending would be consolidated into an annual Development Policy Loan (DPL) that supports the government's own national development strategy. The AAA program will be carefully tailored to country demands and would respond rapidly to emerging opportunities. Finally, the CPS intends to reinforce efforts to coordinate development assistance across the World Bank Group. To anchor the transition to this streamlined approach, a proposed $500 million DPL (with Deferred Drawdown Option) accompanies this CPS. 5. IFC will continueproviding support in thefinancial sector with special emphasis on increasing access to finance to underserved segments of the population and continue promoting the development of the housing finance market. The other priority areas for investment and advisory activities include improving the quality of health and education sectors and physical infrastructure and promoting reforms that continue strengthening the investment climate. 6. Rationale for the Streamlined Approach. The rationale for moving to a streamlined approach is based on particular characteristics of Mexico: (a) an established track record of sound macroeconomic management; (b) substantial remaining long term development challenges -sustainable and equitable growth; (e) continued demandfor World Bank Group engagement in a broad policy dialogue and specijk, focused advisory services; and (d) competitive access tofinance and superior debt management. The new streamlined approach focuses Bank resources on an enhanced program of non-lending services while minimizing both thefinancial and non-financial costs of borrowingfrom IBRD. 7. Structure of the Streamlined Approach. The streamlined approach would be anchored on a large multi-sector DPL that wouldfollow the operational guidelines for such loans: a focus on the government's own reform program (e.g., National Development Program) with a set of prior actions. Annual base lending to thefederal government would be $800 million over the next three years. At that time, a mid-term review would determine the future lending amounts. Lending amounts could be adjusted depending upon IBRD pricing competitiveness and market conditions. I n parallel, the Bank and the government would reach agreement on a complementary set of advisory services that would support the government 's development program. 8. Risks. The main risks to this development partnership emergefrom both domestic and external factors. Domestic factors are fiscal dependency on oil revenues, long-run competitiveness, social cohesion and consensus building for reforms and the potential for natural calamities - in particular, earthquakes and hurricanes. On the external front, the high degree of correlation of economic activity with key trading partners and associated declines in exports and/or remittances pose a risk. The government has taken a number of important actions in recent years to mitigate these risks and actions supported by the CPS should serve as mitigatingfactors as well. 9. Executive Directors may wish to consider thefollowing issuesfor discussion. Does theflexible streamlined approach to IBRD lending, combined with an enhancedprogram of analytic and advisory activities, adequately reflect the Bank's policy for working in middle-income countries? Are the risks well identified and mitigatingfactors sufficient for assuring the likelihood of successful implementation ? .. 11 UNITEDMEXICANSTATES COUNTRYPARTNERSHIPSTRATEGY FY08-FY13' A. INTRODUCTION 1. The last World Bank Country Partnership Strategy (CPS) for Mexico was prepared in March 2004. A CPS Progress Report was prepared in January 2007 and covers FY07-08. 2. Past assistance and partnership strategies o f the Bank Group have sought to assist Mexico in its efforts to undertake the large economic, social and institutional changes o f the last two decades. Much has been transformed in Mexico, and much remains to be done. The challenges are to increase the rate o f growth in a sustainable and inclusive way and to pursue policies that will allow nearly 45 million Mexicans to escape from poverty. 3. The government o f President Felipe Calderbn, now in its second year o f office, has developed a long term vision o f Mexico for the year 2030, as well as policies for promoting human development in the current administration, which spans the period 2006-2012. The policies have been detailed in the National Development Plan (NDP)*. The agenda o f the Bank for middle income countries (MICs) is well adapted to support the development strategyo fPresidentCalderbn. 4. In recent years, there has been a notable change in the dynamic of the Bank's relationship with Mexico. Experience from the implementation o f the last CPS and feedback from the government indicate the need for increasingly flexible, on-demand services, especially advisory services and technical assistance. At the same time, the key role o fthe Bank as a lender i s also understood. 5. The Bank and the government have agreed on an approach that would enhance the Bank's effectiveness and responsiveness through a streamlined IBRD lending program, and an expanded program o f analytic and advisory activities (M). Most lending would be consolidated into an annual Development Policy Loan (DPL) that supports the government's own national development strategy. The AAA program will be carehlly tailored to country demands and would respond rapidly to emerging opportunities. Finally, the CPS intends to reinforce efforts to coordinate development assistance across the World Bank Group. 'Mexicoi s not currently a member of MIGA; however, the government has signedanagreementto join MIGA that is pendingCongressionalratification. The NDP is available at the following website: pnd.presidencia.gob.mx. 1 B. CURRENT ECONOMIC OUTLOOK EconomicDevelopments 6. The average annual rate o feconomic growth over the 2004-07 periodhas been 3.8 percent. A vigorous global economic expansion contributed to the enhanced growth performance: the nominal dollar value o f total exports increased at an annual rate of 13.4 percent duringthis period. Annual inflation was 3.8 percent at the end o f 2007. 7. Higher-than-expected oil and tax revenue allowed the public sector to increase current and capital expenditures and, at the same time, post very small fiscal surpluses in 2006 and 2007. A balanced budget requirement i s part o f a federal budget and fiscal responsibility law adopted in 2006. In terms o f a broader "public sector borrowing requirements" that includes off-budget spending, the Mexican public sector also has managedto restrainits debt financing requirements to about 1to 2 percent of GDP. 8. Current macroeconomic policies are consistent and sustainable. Macroeconomic policy has focused on fiscal balance, active public debt management to lengthen the maturity and reduce exposure to exchange rate risk, monetary policy based on inflation targeting and a flexible exchange rate. Stability has been secured with only one significant slowdown (2001-2002), since the crisis o f the mid 1990s and a steady decline ininflation. The markets have reacted to these prudentpolicies: sovereign spreads have declined and credit rating agencies have upgraded Mexico's sovereign debt rating (see Figure 1). 9. Medium-Term Macroeconomic Prospects. Economic growth is decelerating this year. A sharper-than-expected slowing of economic activity in the U.S. is likely to hit Mexico harder thanother countries andis animportant riskto the Mexican economy. With the increased economic integration following NAFTA, Mexican industrial production has become highly correlated with industrial production inthe United state^.^ The government has reduced its growth forecast to 2.8 percent in 2008. Depending on the severity o f the deceleration of the US economy, growth could be even lower. On the other hand, several factors could muffle the impact o f a slowdown in the United States, relative to historical experience: (a) the continued consolidation o f public finances and the reduction in external indebtedness; (b) the recovery o f bank lending to the private sector; and (c) an increasing diversification of export destinations (although the United States remains the main destination at about 82 percent). Apart from these short term considerations, growth has been modest relative to the country's potential-a phenomenonthat the Bank has called the "economic development p~zzle."~ 3The Bank has calculated a simple correlation coefficient of about 0.95 inrecent years, compared to about 0.69 inthe early 1990s. IMFstaff has estimated a "rule o fthumb" elasticity o f U S industrial production shocks on Mexican quarterly GDP: a one percent shock inUS industrial production creates a 0.9 percent shock on Mexican GDP. See IMFMexico: Selected Issues, December 2007. Swiston and Bayoumi estimate an even larger relationship ("Spillovers Across NAFTA," IMFWorking Paper WP/08/3). See the World Bank's "policy notes" publication, Mexico 2006-2012: Creating the Foundationsfor Equitable Growth. 2 Figure 1: Macroeconomic Indicators Annual GDP Growth (%) Fiscal Performance (% of GDP) .............. ..... .. . __ _____ I 1 1 0 -1 -2 -3 4 -5 -6 1 1 lurce' INEGIand Bureauof EconomicAnalysis wce: IMF Article IV ConsultationsStaff Reports, Various years. Public debt and External Debt Share of the Consumer Price Inflation (%) Public Debt (%) 60 , ,45 I 60 50 40 50 40 35 GrMs NblK Oebl(% of GW 40 ( L W 30 30 -6tlernal Share 30 of Cab1(K) 20 25 20 i o 20 10 0 15 0 1998 1999 ZWO 2W1 ZW2 2003 2004 2005 2wB 2W7 1995 I997 1999 2001 2003 2005 2007 (861) iurce: IMFArticle IV ConsultationsStaffReports,Various years iurce: Bancode Mexico `0 Year Spread over LIBOR: Mexico's Market Credit Ratings ( S U ) Borrowing Cost vs. IBRDBorrowing Cost (basis points) (Jan 2004-Jan 2008) !40 7 A- BE+ I88 80- IB+ 60 BE 40 30- Jaw00 J a M i J a m Jaw03 J a m J a m JawOB Jaw07 Jam 2004 2005 2006 2007 2008 wee: World Bank Group's TreasuryDepartment m c e : Standardand Poor's. Notethat BBB- i s "investment grade." 3 Table 1: Mexico's Macroeconomicframework 2004 2005 2006 2007 2008 2009 2010 (est.) (proj.) (proj.) (proj.) National Accounts GDP Growth 4.2 2.8 4.8 3.3 2.8 3.6 3.7 Gross Domestic Investment 22.0 21.8 21.9 22.0 22.0 22.0 22.0 External Indicators (all % o f GDP) Current Account Balance -1.0 -0.6 -0.2 -0.8 -1.0 -1.5 -1.9 Imports (Merchandise) 28.8 28.9 30.5 31.7 31.1 31.4 31.8 Exports (Merchandise) 27.5 27.9 29.8 30.5 29.8 29.6 29.7 o/w Petroleum and Derivatives 3.5 4.2 4.7 4.8 4.1 3.5 3.O Total External Debt (Gross) 24.3 22.6 20.1 21.0 20.2 19.6 19.1 Inflation Annual Change inCPI (eop) 5.2 3.3 4.1 3.8 4.0 3.5 3.O Fiscal (Federal NFPS, YOof GDP) Traditional Balance -0.2 -0.1 0.1 0.0 0.0 0.0 0.0 Augmented Balance* -1.9 -1.5 -0.7 -1.6 -1.9 -2.1 -2.2 Net Public Sector Debt 40.9 38.9 36.8 35.8 35.3 35.0 35.0 Domestic currency (% o f total debt) 62.7 67.6 71.9 74.3 75.8 77.0 78.0 *Includes payments for deferred accounting o f public investment schemes (PIDIREGAS), expenses o f bank resolution fund (IPAB), oil stabilization fimd; and development banks. All these items are not included inthe "traditional balance." The Fiscal Responsibility Law sets a target o f zero for the traditional balance. Sources: INEGI, Banco de Mtxico, SHCP and Bank staffprojections. 10. Debt Management. Mexico successfilly reduced its public debt-to-GDP ratio and implemented a debt management strategy that favors domestic currency financing o f public debt over the past few years. The government now regularly issues fixed-rate peso bonds up to 30 years o f maturity and the average maturity o f domestic debt increased to 5.5 years by the end o f 2007. The government's debt management strategy for 2008' establishes two main lines o f action: (i) continue to finance the federal government's to deficit primarily by longer term, domestic currency debt, and (ii) to strengthen the cost and maturity profile o f external debt and reduce external market debt by $500 million. Despite a significant reduction in external debt over the past few years, the strategy recognizes the importance o f maintaining a presence on international capital markets and assuring an efficient dollar yield-curve as a reference for public and private sector emissions. External finance provided by multilateral development banks i s explicitly excluded from the external debt reduction target. Inaddition to adequate financial terms and conditions, the strategy expresses the interest o fthe government to maintain an active relationship with multilateral development banks to take advantage o f the technical assistance and international experience inthe management o f programs and projects that these organizations can contribute. A detailed public sector and external debt sustainability assessment i s included in the IMF Article IV consultation discussed and published last December.6 See SHCP Annual Financing Plan 2008 at http://www.a~artados.hacienda,gob.mxlucvlesvldocumentoslestrate~ialvaf;!008.vdf 6See IMFCountry Report 071379 at httv:l/www,imf,orglexterna~~ubs/ft/scr/2007lcr07379.~df 4 C. LONGRUNDEVELOPMENTCHALLENGES 11. As mentioned above, Mexico's long run economic performance has been puzzling. To some extent, economic and social outcomes have placed Mexico persistently entrenched between two worlds: the less developed world and the high income members o f the OECD (see Figure 2). Average income levels and social indicators consistently reveal this pattern. More accelerated long-run growth will be needed to break this pattern, but this will require improved competitiveness through lowering barriers to business investment, improved infrastructure, expanded financial sector and faster human capital accumulation. 12. The other puzzling phenomenon is that there are two worlds within Mexico. Income per capita in northern states i s closer to the income per capita o f the American South than to the income per capita o f the Mexican south. Social outcomes, access to public services and the quality o f services also reveal a similar geographic pattern. This is exacerbated by sharp differences across ethnic groups as well. 13. These two themes cut across traditional sectors, andthere is increasingconsensus inMexico, bothamong policymakers andthe generalpublic, withregards to the longrun development challenges facing the country. The World Bank Group has participated in this debatethrough extensive analytic work andpolicydialogue. The debate has centered on the following areas: e 3 Accelerating Growth; e3 Improving Competitiveness; e3 Promoting social inclusion and reducingpoverty; e 3 Developing infrastructure and assuring energy security; e 3 Strengthening institutions; and e$. Assuring environmental sustainability. 14. Below i s a brief summary o f some o f the key issues, based on recent analytic work conducted by the World Bank Group. There i s substantial overlap across these areas. 15. Accelerating growth. One key issue, as mentioned above, is that per capita economic growth over the last quarter century has not kept pace with OECD countries, nor has it keptpace with top performing emerging market economies, as demonstrated in Figure 2. Accelerating growth will require improvements in the investment climate, infrastructure, human capital and the innovation system. Inbrief, it requires progress ina variety o fcomplementary areas discussed below.7 'These complementary reform areas are discussed in more depth in Mexico 2006-2012: Creating the Foundations for Equitable Growth. 5 Figure 2: Growth performancein comparative perspective Mexico's Per CapitaEconomic Growth in GDPper capita in PPP terms ComparativePerspective Ratio to the United States 1985-2006,1985=100 0.70~------~ 1980 02006 0.60 0.50 0.40 0.30 0.20 0.10 O N b a m O N b w m O N b w m m m m m m m m m m o o o o 0.00 m$gcnzgzg$zoooo Mxlco r N N N N #ik Korea, Wp. Spain Source: World Development Indicators 2007; Staff Analysis Source: World Development Indicators;2007; Staff analysis. Mexico: State level GDPper Capita GDPper capita (PPP dollars, 2004) (PPP dollars *, 2004)- - - 30,000 7 25,000 20,000 15,000 10,000 5,000 GDPPI Canlta(2004) 0 Ic6K O dollars Oaxaca Nuevo Leon 6,DGO. "U 000 dollars Mexicoaty Mississippi (EEUU.) *Conversion fromlocal currency toPPP dollars at a single nationwide rate Source: INEGI, 2005 ICP Source: INEGI, US Bureau o f Economic Analysis, 2005 ICP 16. Improving competitiveness.* Mexico's productivity growth has been lackluster both by historical and comparative standards. Even since the recovery of economic * For more detailed analysis, see the World Bank reports, Competitiveness in Mexico: Realizing its Potential, and for more succinct summaries o f particular dimensions of competitiveness see Chapters 3, 5, 7, 8 and 11 in the Mexico Policy Notes, Mexico 2006-2012: Creating the Foundations for Equitable Growth. The Doing Business in Mexico report provides comparative doing business indicators across the 31 states and the federal district. Results from an enterprise survey o f the investment climate are presented inMexico: An Agendafor Growth and Employment. The Bank worked extensively inthe analysis of the financial system during the FSAP Update (2005), as well as ongoing NLTA that i s being prepared for the Secretariat o f Finance. 6 stability, total factor productivity grew at around 1 percent per year, less than half the growth rate o f the decades prior to the debt crisis o f the 1980s and substantially slower than the top global performers o f the past decade. The figures below provide a couple o f dimensions o fthe problem from an internationalperspective. Figure3: Key Competitiveness Indicators Doing Business, Global Ranking Logistics Cost (% of GDP) 30 i 120 - 100 n 80 0 BO 40 B 20 0 Source: Doing Business2008 Source: Guaschand Kogan, 2006 17. Invery general terms, key factors arise inthe debate and inboth Bank and local analyses o f competitiveness: (i)high cost o f infrastructure services; (ii) logistics costs, (iii)competition from informal firms; (iv) low investment in productive innovation; and (v) access to financial services. The first issue is closely related to the inefficiency o f certain state dominated sectors (e.g., electricity and water), and the institutional design o f private sector regulation that results in limited competition for service provision (e.g., telecommunications). 18. Secondly, the existing international comparisons o f logistics performance (e.g., the ability o f countries to deliver goods intime and at low costs from origin to destination throughout the world) show that Mexico has substantial room for improvement (see Figure 3 above). Thirdly, the investment climate survey o f Mexico indicates that firms complain o f the effect o f unfair competition, and sectors with a greater presence o f informal firms often lag other sectors in terms o f productivity. A fourth issue i s that higher rates o f innovationrequire both improved links between the research and business communities, regulatory improvements on intellectual property rights and improved quality and coverage o f education. The latter will also be discussed below; however, it i s noteworthy that 75 percent o f the labor force has only a basic level o f education or less. Finally, the financial system i s beginning to expand access to credit, following the long- lasting, debilitating effects o fthe financial crisis o f the mid-1990s. 19. Promoting Social Inclusion and Reducing P ~ v e r t y .As mentioned above, there ~ are "two worlds" within Mexico: income per capita in the north is closer to the poorest For more detailed analysis, see the programmatic series of three poverty reports: Poverty in Mexico: An Assessment of Conditions, Trends and Government Strategy; Mexico: Income Generation and Social 7 states o f the U S than to the poorest states o f southern Mexico; urban elites attend private top domestic schools and universities, or they study overseas; and urban elites enjoy quality health care that meets highinternationalstandards. 20. In terms of poverty" trends, Mexico has made steady progress in poverty reduction since the economic crisis o f the mid 1990s,when poverty peaked at 70 percent. Poverty has subsequently fallen, but national and rural poverty rates did not recover to pre-crisis levels until 2002. (See Figure 4.) Overall poverty rates remain high, with almost 45 million Mexicans living in poverty and with persistent and substantial differences across regions and ethnic groups. Furthermore, the poor may be more vulnerable to hture labor market shocks, as they have the worst labor market insertion rates and their human capital endowments are growing slowly. The evidence indicates that poor individuals have low humancapital endowments, and they are more likely to be employed inthe informal sector. The high degree o f informality, the barriers to access to formal jobs, and the characteristics o f poor individuals all indicate that the poor's labor market insertionmay be worse now than 15 years ago. 21. The distribution o f income in Mexico is skewed - much more so than its OECD peers. The equality o f opportunities i s also skewed due to persistent problems in social services. Most notably, in the education system, there i s the need to improve quality throughout the system, expand coverage o f secondary education and create more equitable access to higher education. Opportunities for social and economic progress can be stifled by health problems andthe limitedcoverage and poor quality o f health services for the needy. The elderly are also over-represented in the lower end o f the income distribution due to gaps in the social protection system for the elderly. Formal coverage o f the work force in social security and health is only around 40 percent. These general themes require institution building and policy reforms over time, and the government i s actively working on solutions. In addition, there is the nexus of issues related to competitiveness in terms o f enterprise growth andjob creation to provide opportunities for poverty reduction. Finally, there are issues o f deepeningthe understanding o fpoverty through improved measurement, includingmulti-dimensional approaches. Protection for the Poor; and Mexico: Decentralized Service Delivery for the Poor. In education, see Mexico: Making Education More Effective by Compensatingfor Disadvantages, Introducing School-based Management, and Enhancing Accountability. A summary o f the Bank's work on education inMexico i s presented inthe Mexican journal: "El Banco Mundial y la educacih en MCxico," Revista de Educacibn y Cultura, February 2008. Also see Chapters 4 and 7 o f the "policy notes" publication mentioned above. The Bank is currently working o n a fee-based advisory service for the measurement o f poverty and evaluation o f social programs and a variety o f NLTA in education, including participation in advisory councils and state level work. 10 Poverty estimates are calculated based on the recommended methodology of Mexico's National Committee for Poverty Measurement (CTMP). This methodology uses net per capita household current income as the measure o f well-being and a recommended basket o f food (Basic Foods Basket, CFA) for the poverty line. This bundle is calculated separately for urban and rural areas. 8 Figure 4: Key Social Indicators Headcount Poverty Rates PA) Gini Coefficients in Selected Countries 70 60 50 40 30 20 10 20 0 10 I 0 1992 1994 1996 1998 2wO 2W2 20W 2005 2wB Source: INEGI2007 Source: World Development Indicators2007 Educational Attainment Infant Mortality (per 1,000) (96 of adultpopulation) 60 50 40 30 20 10 0 y s V f Source: OECD2007 Source: World DevelopmentIndicators 2007. 22. Developing infrastructure and assuring energy security. '* The hydrocarbons sector i s at a crossroads in terms o f Mexico's long run economic development. Mexico has ranked as the sixth largest producer of oil in recent years; however, it i s the only major producer to have experienced sharp declines in the proven reserves o f oil (Figure 5) which have now reached less than 10 years of current production levels. The economy and the export base have diversified away from the oil sector; however, the sector still represents about 15 percent of merchandise exports. In addition, the Mexican public sector remains heavily dependent on oil revenue which in 2006 made up 38 percent of total public sector revenue, whereas non-oil tax revenue remains at a modest 10 percent "A more detailed overview of the oil and gas sector and infrastructure issues is provided respectively in chapters 10 and 11o f the policy notes publication mentioned above. The Bank has produced more detailed studies, including: (i) Mexico: Znfiastructure Public Expenditure Review; (ii) Mexico: An Evaluation of the Economic Value of Water; and (iii) Mexico: Water Public Expenditure Review. The Bank is also providing advisory services to the government on road concessions and advisory services to the BANOBRAS development bank for innovative approaches to infrastructure finance. An advisory service to the Federal District assisted inimproving the framework for infrastructure concessions. 9 o f GDP. The economy and the export base have diversified away from the oil sector; however, the sector still represents about 15 percent o f merchandise exports. Inaddition, the Mexican public sector remains heavily dependent on oil revenue which in2006 made up 38 percent o f total public sector revenue, whereas non-oil tax revenue remains at a modest 10percent o f GDP. 23. The service quality o f Mexico's main electricity provider, the Comisibn Federal de Electricidad (National Electric Company, CFE), has improved but still lags behind international standards and client expectations, as measured by service interruptions and the number o f customer complaints. The service quality and operating efficiency o f the other electricity provider, Luz y Fuerza del Centro (LFC), are even worse.12 In addition to reforms in the traditional forms o f electricity generation and distribution, there i s tremendous scope for progress inrenewable energy, including hydro power, wind power andbio-fuels. Figure5: KeyEnergy andInfrastructureIndicators Proven OilReserves Percent of Roads that are Paved (%) maMilliavlofBarns (LHS) -Years of Productlcm(RHS) 40,0007-f 30 90 I 4 35.000 80 25 70 30.000 PI P 60 25.000 20 50 20,000 15 2 40 30 15.000 10 = 20 10,000 5.000 5 0 0 Peru Argentina MEXICO United Korea, 1989 2003 2001 2002 2003 2004 2005 2008 I States Rep. Source: Secretariat of Energy, as cited in Policy Notes 2007 Source: World Development Indicators 2007. 24. Despite great variability among regions and income levels, Mexico's level o f coverage o f infrastructure services relative to the rest o f Latin America i s appropriate to its income level. However, the quality and reliability o f infrastructure services are generally below what could be expected o f an upper-middle-income country. Inaddition to hurting the standard o f living o f Mexican citizens, the poor quality o f infrastructure impedescompetitiveness. 25. Water and sanitation services are subject to the volatility o f urban politics and finance and thus vary greatly in quality and coverage across regions o f Mexico, among urban areas, and along the rural, peri-urbanand urban axis. Inthe transport sector, road quality remains the primary challenge with a relatively effective and efficient port and rail network. Under pressure from growing traffic volumes, Mexico's aging road network, particularly where run by states and municipalities, is in poor condition and l2See Mexico Infrastructure Public Expenditure Review, the World Bank, 2005. 10 badly in need o f rehabilitation and improved maintenance. Likewise, while there has been important progress in access to finance for the construction o f low cost housing, more remains to be done--especially inattending to the quality o fhousing stock and basic service provision for the lower income segments o fthe population. 26. Strengthening institution^.'^ A cross-cutting theme is institutional reform, and this i s the case whether one considers public sector governance or private sector regulation. In addition, it applies to both line ministries (secretariats) and government- wide processes. Finally, there i s an important dimension with respect to subnational governments, where there is the need to replicate federal level improvements or disseminate local innovation. 27. The public sector agenda ranges from transparency, to systems overhaul, civil service reform, results-based budgeting and systems for monitoring and evaluating government activities. 28. In recent years, there were substantial improvements in the transparency of government action with the passageo f landmark access to information legislation andthe creation o f an effective institute (IFAI) to implement the law. A web-based instrument for government procurement decisions, called COMPRANET, also increased transparency o f government purchases; however, the scope of purchases covered by the system could be extended to a greater share o f total purchases. The government has increasedresources and activities for monitoring and evaluating government expenditures and there are new proposals for moving towards results based budgeting. There is the need to extend the use o f COMPRANET to subnational governments. Inaddition, at the subnational level, there i s the need for fundamental accounting standards and harmonization o f these standards. 29. Assuring Environmental S~stainability.'~ Environmental degradation i s a limiting factor to economic growth, competitiveness and social welfare. The economic cost o f environmental degradation i s estimated at about 9 percent o f GDP; however, this represents a decline o f 2 percentage points since the late 1990s. Nearly 90 percent o f this cost is due to air pollution, so a key issue is energy use. Key environmental sustainability issues include air and water pollution, greenhouse gas emissions, deforestation and loss o f biodiversity. Mexico has critical and urgent water related problems including the overexploitation and contamination o f surface water and groundwater resources in the l3 See chapter 1 o f the policy notes publication for an overview o f institutional issues related to the policy making process. The report Institutions and Governance in Mexico provides a muchmore detailed analysis o f these issues. The Bank has also prepared a CPAR and a CPAR Update to review procurement arrangements. The Bank is currently working with the government o n the process required for moving towards results based budgeting, with a multilateral conference planned for the coming months. The Bank i s also conducting AAA for harmonization o fbudgetary and accounting standards across states. l4 See chapter 6 o f the policy notes for a more thorough overview o f environmental issues. In addition, chapter 9 provides a more detailed focus on water issues, given that it is identified as the prime environmental sustainability problem facing Mexico. A number o f other studies have been financed by Bank environmental loans and bilateral grants that are part o f the Bank's engagement with Mexico in this sector. 11 regions where most o f the people reside and where the great majority o f the GDP i s generated. The unsustainable use o f water in these water scarce areas i s a constraint to economic growth and competitiveness. It also disproportionately affects access and quality o f services to the poor and degrades the environment. Irrigation is the largest user o f water resources, accounting for 77 percent o f withdrawals. Mexico has made important strides in water rights administration, water resources monitoring and assessment, water resources planning and basin level institution building that provide a good foundation for moving towards sustainable water resources management. Global public goods inthe environmental realm represent another important area, and inthe case o f climate change, Mexico has been a leader among developing countries in addressing both mitigation and adaptation issues. D. THE GOVERNMENT'S DEVELOPMENTVISION 30. The Calder6n administration prepared its National Development Plan, and the first annual progress report was presented in September 2007. In addition, the plan evolves over time with additional details developed and pre-set objectives. The government recently presented a national infrastructureplanthat lays out a more detailed work program to address Mexico's infrastructure needs. Below i s a very brief description o f the National Development Plan (NDP). 31. Sustainable Human Development i s the overarching theme o f the National Development Plan. The Plan describes this as: "The purpose o f development consists o f creating an atmosphere in which all can increase their capacity and opportunities can expand for current and future generations." 32. The government's national development planis based on five pillars: *:* Rule of law andpublic safety. This pillar i s based on the fundamental premise that people need guarantees o f personal safety and protection o f their property for sustained human development. Objectives and strategies in this pillar are organized in areas such as compliance with the law, effective and equal access to justice for all, the fight against corruption, drug-trafficking and organized crime, and the prevention o f crime and violence. Public opinion polls have consistently shown that Mexican society places a highpriority on these issues. *:* Economic competitiveness and generation of jobs. An enhanced level o f sustained economic growth, at an annual rate o f 5 percent by 2012, and the generation, by 2012, o f at least 800,000 formal sector jobs annually are the main quantitative targets identified in this pillar o f the plan (pages 82 and 102 o f the NDP). In order to achieve these targets, objectives and strategies in a large number o f areas and sectors, including public finance, financial sector, infrastructure, rural development, small and medium enterprise and competition policy, are aligned to strengthen the levels o f investment in physical capital, 12 increase the level o f human capital and skills, and raise the level o f productivity growth. *:* Equality of Opportunities. The reduction o f inequalities and the provision o f equal opportunities that allow solving the causes o f poverty are the focus o f the administration's social policy. The guiding principles o f this policy are: targeting o f resources on programs that have demonstrated their effectiveness, extensive use o f monitoring and evaluation systems, and the development and use of a unique register o f government sponsored social program beneficiaries. Government programs and policies in areas such as poverty reduction, health, education, indigenous people, gender equality and vulnerable groups are included inthispillar. *:* Environmental sustainability. The main initiative in this pillar is to turn the concept o f environmental sustainability into a transversal element o f public policies and assure that all public and private investments are compatible with environmental protection. Objectives and strategies are structured inareas such as water, forests, climate change, biodiversity, solid waste and cross-cutting environmental sustainability policy instruments. As part o f the development plan, Mexico published a comprehensive National Strategy on Climate Change which includes greenhouse gas emissions reduction estimates as well as measures to adapt to the impact o f climate change. As a larger, natural resource rich emerging market economy, Mexico sees itself well placed to take a prominent role in the internationalagreements and cooperation on global environment issues. *:* Effective democracy and responsibleforeign affairs. The last chapter o f the national development plan focuses on democracy as an effective system o f government that promotes development and well-being o f the population and a foreign affairs policy that leverages development opportunities and well-being o f Mexicans living in the country and abroad. Consolidation and strengthening o f democracy, modernization o fthe political system including enhancing more direct citizen involvement, transparency and accountability, as well as the promotion o f international trade and investment, the protection o f Mexican migrant workers abroad and the contribution o f Mexico in the discussion and construction o f solutions to global issues are some o fthe prominent themes inthis pillar. 33. Each chapter or pillar o f the NDP has a list o f numerous objectives and more detailed strategies for achieving those objectives. The plan represents an ambitious development program that requires substantial and complementary efforts across the spectrum o f government ministries and agencies along with the collaboration o f state and local authorities. 13 Box 1: Mexico and the InternationalDevelopment Agenda Over the years, Mexico has made important contributions to the international development agenda. Mexico was the host country for the Monterrey Conference on Financing for Development, and Mexico's Secretary o f Finance is currently Chairman o f the Development Committee o f the BrettonWoods' institutions. There are numerous cases where Mexico has had a leadership role in the design o f development solutions with international impacts. Examples include: the Progresa-Oportunidades conditional cash transfer program, Mexico's innovative use o f "Cat Bonds" for mitigating risks from natural disasters, and Mexico's leadership inglobal climate change issues. E. PRINCIPLES OFBANKGROUPENGAGEMENT 34. Mexico has made great strides in economic and social development over the last two decades. However, the benefits o f this progress have not been shared equally. As such, sharp income differences continue to divide the country. The policy notes publication called this the "two worlds" within Mexico. These differences reveal the substantial development challenges that the country still faces. In addition, global challenges add to the development agenda, rangingfrom international competitiveness to climate change. To create a partnership to meet these challenges, the Bank needs to draw on all its roles: lending, advisory services and convening power. 35. Based on client feedback and the Mexican authorities' desire to maintain a strong relationship with the Bank, the CPS identifies the following principles o f engagement. The Bank's support will bebasedon: 0 Flexibility.Inkeepingwith the MIC strategy, the Bank and the Government have discussed a CPS whose composition and instruments of support would reflect Mexico's developmental and financial needs. Experience from the implementation o f the last CPS and feedback from the government indicate the need for increasingly flexible lending and non-lending services to adapt to emerging opportunities duringthe coming years. Fast Response. The partnership strategy is predicated on strengthening the Bank's ability to respond rapidly to the changing demands o f the Government. Recently, the Bank's AAA activities have shifted to more quick response policy notes and other forms o f on-demand services, including fee-based services. 0 Selectivity. The choice of instruments for Bank Group support will be driven primarilyby client demand. The instruments will be aligned with the diagnosis of long term development challenges discussed above. It should be noted that the Bank would not be engaged inareas o fthe government's NDP that are not under the mandate o fthe Bank Group as an internationalorganization. 0 Competitive IBRD Pricing. Figure 1 displayed that the Mexican government's borrowing costs has declined over time. Current market conditions and the IBRD pricing reform approved in September 2007 place the cost o f borrowing from the 14 Bank significantly below the government's external borrowing cost (i.e., about 100basis points). Coordinated World Bank Group Support. IBRD and IFC programs need to continue developing synergies for offering development solutions to Mexico, as has recently been the case in the housing and infrastructure sectors. Packages o f Bank Group support might mix IBRD TA with IFC financing, or joint efforts at the state level with a mix o fboth IBRDand IFC instruments. Box 2: Lessons Learned from the CPS Completion Report. The CPS CompletionReport (Annex C) highlights the following seven key lessons learned: -Flexibility. Implementation o f the last CPS has shown an increasing need for flexibility so as to respond more effectively to changing circumstances and new government requests. This flexibility combined with fast responsivenessis a key factor for the Bank's effectiveness inMexico. -Timing. The Bank should align the time-frame o f the country strategy with the electoral cycle to better ensure policy continuity during program implementation. That would have the additional advantage o f aligning the time-frame of the CPS with the national development plan. -Competitive Pricing. The Bank should communicate clearly inMexico that it has been and continues to be a price-competitive source o f foreign exchange finance. The Bank should also make f i l l use o f recently introduced, streamlined and lower-cost lending instrumentsindesigning its lending program.' -Results monitoring. InMICs such as Mexico, the Bank should acknowledge that CPS outcomes primarily reflect the efforts o f the Government and the country. -Role of AAA. Where applicable, the symbiotic role o f AAA and lending should continue to be used in Mexico as a framework for developing a more complete program o fBank support. -Fiduciary Aspects. The Bank should continue on streamlining its contracting and procurement requirements and should incorporate country systems to the extent possible. -International coordination. The Bank should work closely with other international agencies in its momam o f assistanceto Mexico. F. STREAMLINEDAPPROACHTO IBRDFINANCIAL SUPPORT 36. To implement these principles andto respond to client demand, the Bank needs to enhance its delivery o f knowledge services. To facilitate this process, the Bank proposes streamlining IBRD financial support by anchoring most lending in a large annual DPL that supports the government's overall development strategy, accompanied by an enhanced package o f non-lending services. The Bank also proposes to continue environmental investment loans (given their link to parallel grant financing), and financing at the state level. Figure6 provides a schematic o fthe streamlined program. 15 Figure6: Schematic of StreamlinedApproachto IBRD Su port Memoranda o f Understanding Government's National Large Annual DPL Assistance (MOUs) on TA Development Plan +to Cover Most IBRD b Program: Financing -Sector Ministries Y- -Finance Investment Loans on Federa1 Demand (special focus on Government -Federal leveraging grant resources) Financing Agencies -States 37. Rationale for the Streamlined Approach. The rationale for moving to a streamlined approach i s based on particular characteristics o f Mexico: (a) an established track record o f sound macroeconomic management; (b) substantial remaining long term development challenges - sustainable and equitable growth; (c) continued demand for World Bank Group engagement ina broad policy dialogue and specific, focused advisory services; (d) competitive access to finance and superior debt management; and (e) the "non-additionality" o f Bank project `financing to sectoral ministry budgets. The new streamlined approach focuses Bank resources on an enhanced program of non-lending services while minimizing both thefinancial and non-financial costs of borrowing from IBRD. 38. In terms o f the Bank's financial services to Mexico, there is a challenge to provide this financing at competitive interest rates, currently at about LIBOR flat, as well as a competitive maturity. Reducing the Bank's own administrative costs for loan preparation and supervision would increase the resources available to provide an expanded set o f advisory services. These objectives could be achieved by: (i) Streamlining the bulk of lending into an annual Development Policv Loan (DPL)that supports the government's ownnational development priorities; and (ii) Leveraging want resources which are concentrated inthe environmental sector inthe case o fMexico, hrther reducing the overall cost o f borrowing. 39. Structure of the Streamlined Approach. The large annual DPL would be multi- sector and would follow the operational guidelines for such loans: a focus on the government's own reform program (e.g., National Development Program) with a set o f prior actions. In parallel, the Bank and the government would reach agreement on a complementary set o f advisory services that would support the government's development program. 16 40. A second track of lendingcouldbe developed, based on government demand. For example, there is interest in environmental investment loans that would attract co- financing of grant resources, and there is potential for lending at the subnational level. Strategic selectivity will be applied, in consultation with the government, in order to maintainthe intent o f streamliningthe overall lendingprogram. 41. Enhanced advisory and analytic activities (AAA). With the release o f additional bank budget for AAA, there will be a focus on assuringthat AAA is closely aligned with the policies and actions that are critical to the government's own development strategy. On a sector basis, one instrument that will be explored i s annual memoranda o f understanding(MOUs) that lay out the annual work program o f AAA. In general, the idea i s that the MOUs would draw on all the various TA roles that the Bank has to offer: (i) strategic studies, (ii) demandfast response policy advice, (iii) on permanent long-term advisory role, (iv) convening power, (v) monitoring and evaluation o f polices and programs, and (vi) implementation support. In addition, it expected that fee-based services will continue to have an important role (see Box 3). Box 3: Fee-Based Services in Mexico Mexico has been a leading consumer o f many o f the new products and services that the Bank has developed. One o f these i s fee-based knowledge services, a product that has beenincreasingly employed in Mexico since 2003. Seven products are being delivered inFY08 under fee-based contracts. Contracts have covered such diverse themes as core public adrmnistrationreforms Ministry o f Finance, housing, transport, poverty monitoring, investment climate reforms (inMexico City, providedjointly with the IFC) and state- level planning (inthe state of Guerrero). The steady increase inthe provision o f fee-based services has been client-driven and is indicative o f the client's appreciation for the breadth and depth o f international experience that the Bank is able to bringto the table. Looking ahead, the Bank will work with the government towards developing a countrywide framework agreement to reduce the transactions costs associated with individual contracts. Inaddition, the Bank Group will work with the government to use the fee-based services product more strategically, packaging these services, where possible, with the expanded advisory services proposed under this CPS. 42. Transition arrangements, In the interest o f continuity, the existing plans for calendar year 2008 lending and AAA would continue. A proposed DPL (with a Deferred Drawdown Option) o f $500 million to support the government's climate change strategy accompanies this CPS. This proposed loan anchors the transition to the new streamlined approach. 43. Lending Volumes. For the period April 2008 to end 2010, a base IBRD lending program o f $2.4 billion i s planned. The annual lendingprogram o f $800 million may be adjusteddepending upon IBRDpricing competitiveness and evolving market conditions. The lending amounts for the remainder o f the CPS period will the determined at the time o f the CPS Progress Report, scheduled for FY11. Additional lending to states and/or municipalities could materialize, depending upon subnational client demands, market conditions for subnational debt and institutional arrangements for multilateral lending to subnational governments. 17 $4. Exposure management. Instead, overall exposure will be monitored consistent with Bank's credit risk management. Following a prepayment in late 2006, IBRD :xposure was reduced substantially and now stands at about $4.5 billion. This level o f :xposure i s about one-third the peak level reached inthe mid-1990s and less thanhalf the :eve1 o f exposure during the 2000-05 period. These levels o f exposure and gross lisbursements represent a very small share o f national output. The figures below show :hat projected exposure levels over 2008-2010. The projectednew levels o f exposure and lisbursementsrepresent a very small share o fnational GDP. Figure7: ExposureandDisbursementLevels I W D e b t Outstanding IBRCiGross Disbursement (as %of GDP) (as %of GDP) 4 OO%, 0 60%- 3.00% 0 50% 0 40% 2.00% 0 30% 0 20% 1.00% 0 x)% 0 00% 0 00% .. 890-895 896-2000 200K?007 2008-20D 890.1995 896-2000 200%2007 2008-2010 Source: Bank staff estimates. 1 $5, Mexico and the Bank's New Financial Instruments. Mexico has been a leader .nworking with the Bank on new financial instruments. It was the first country to take idvantage o f the Bank's local currency financing. The government o f Mexico's "CAT bond" issuance has served as the inspiration for a multi-country CAT bond arrangement that the Bank is organizing with the participation of Mexico. A proposed DPL-DDO to the support the government's climate change strategy i s presented to the Board jointly with this CPS, making Mexico one o f the first countries to take advantage of the new terms for DDOs. The government is in frequent consultations with the Bank's Treasury department on the development o f innovative modalities for IBRDbankingproducts. G. PORTFOLIOAND FIDUCIARY CONSIDERATIONS 46. As o f January 31, 2008, Mexico's IBRD portfolio consisted o f 14 investment projects under implementation for a net commitment o f $1.54 billion, o f which $667 million remained undisbursed. The latter represents a significant decrease during the previous CPS period, resulting from the fact of having only minimal new investment lending $65 million) between April 2006 and March 2008. In addition, 5 GEF grants ($128 million) were under implementation. The disbursement ratio on investment projects was 36 percent and realism ratio was 67 for the first half o f FY08. There were four projects at risk (including one GEF), o f which three were problem projects whose net commitments were equal to 19percent o fthe total net commitment amount. Steps are 18 being taken to bring all the projects out o f problem status by the end o f FY08, with cancellation being considered in one case. Further details on the current Bank and IFC portfolios inMexico can be found inAnnexes E, F, G, H, I, MandN. 47. Looking ahead, the annual portfolio review process (CPPR) will be adjusted in two ways: (i) have a greater results focus; and (ii) incorporate AAA products. The to to enhanced results focus was specifically requested by the Secretariat o f Finance (SHCP) during the 2007 CPPR. The incorporation of AAA would be consistent with the new business model which will result inAAA products outnumbering lending products. This annual review o fAAA, prepared and implementedwithin a CPPR framework, would also add an element o f quality control that may be especially needed for relatively unstructured tasks such as fee-based or just-in-time services. The C M U will work closely with the client and the regional Operations Services unit to design an appropriate mechanism for such a results-based review. 48. Fiduciary and Safeguards Systems. The Bank will continue to work with the government to improve fiduciary and safeguards systems within Bank-financed projects and in the public sector generally. Mexico has well-hnctioning PFM systems, but still lags behind OECD-type practices, particularly at the subnational level. The Bank's engagement has progressively shifted from project-specific support to helping to improve country-level systems and the government's demand for the latter has increased, thus opening opportunities for demanddrivedfast response policy advice and implementation support. The Bank can also use its convening power to organize highly-targeted workshops to share international experiences in these areas. Analogous opportunities exist with respect to social and environmental safeguards. The Bank has had a long engagement with Mexico in these areas, directly supported by analytical work and including on-going assistance to CFE and CONAGUA to help them strengthen their institutional capacity with respect to strategic environmental and social assessments. While Mexico's systems in these areas are sophisticated, there i s still room for improvement. Accordingly, the Bank intends to continue its dialogue with the government to explore possible government demand for AAA in these areas. Further information on fiduciary issues can be found inAnnex D. 49. IFC's InvestmentPortfolio. Mexico is currently IFC's ninthlargest exposure in terms o f commitments for IFC's account only, representing about 3 percent o f IFC's portfolio worldwide. The outstanding portfolio stood at $719 million (including $606 million for IFC's account and $113 million for syndications). Financial markets, manufacturing and infrastructure accounted for 63, 14 and 13 percent o f the outstanding portfolio, respectively. 19 H. STRATEGICAREASFORTHE IFCAND COORDINATIONACROSS THE WORLD BANK GROUP 50. Mexico has recently signed an agreement to join MIGA and i s currently in the process o f becoming a full member o f the Agency. When this process i s completed, Mexico will be able to take full advantage o f all the instruments and services that the World Bank Group offers to its members, and to expand its strategy o f engagement with the Group. 51. IFC's priority areas inthe Bank Group's Private Sector Strategy inthe 2004 CPS, andreaffirmed inthe FY07 CAS Progress Report, included (i) broadening anddeepening o f the financial sector - with a focus on reaching out to lower income segments o f the society ;(ii) promoting investments in areas newly opened to private sector participation (infrastructure, social services, municipalities, and energy); (iii) enhancing international competitiveness o f the private sector (improving the Business Enabling Environment - BEE); (iv) promoting sustainable environmental and social development and good corporate governance (CG).. 52. Broadeninganddeepeningthe financialsector. IFC has focused on supporting locally-sponsored banks and other institutions to extend the reach o f financial services to lower income levels o f the population while promoting the sustainability o f capital markets. Particular focus areas have included mortgage financing, tier I1banks, private equity funds, the savings and credit sector (which seeks to expand banking access to more poor people), SMEs and microfinance. In terms o f the housing finance market, from 2004 to present, IFC has directly addressedthe fundingneeds o f specialized lending institutions such as the housing Sofoles, and fostered the expansion of alternative sources o f funding and the development o f the secondary mortgage market inthe country inlight o f the transition o f SHF from direct lender to guarantor. In the future, cooperation between the IFC and IBRD will be targeted to: increasing access to funding for non- traditional players in the financial sector, spreading affordable housing and housing finance products to lower income/remotely located segments o f the population, and to fostering sustainable environmental practices in the construction o f the housing stock, such as thejoint IFC/SHF GreenMortgages Project. 53. Infrastructure.Supporting the government's national infrastructure planwill be a priority for the Bank Group's strategy. Collaboration between the IFC and lBRD will be the basis for becoming a knowledge institution for middle income countries like Mexico. By combining the transaction experience and the knowledge o f the private sector that the IFC has, with the sector knowledge o f the BRD,innovative solutions and structures could be delivered to Mexico, helping not only to increase the coverage o f public services by bringing private participation, but also by increasing the quality and efficiency o f the sectors served. A co-advisory collaboration between IFC'and NAFIN will bring to Mexico all the benefits o f the IFC-IBRD collaboration and the transaction 20 process expertise to be absorbed by a Mexican institution. Under this approach there i s an opportunity for co-advisingthe State o f Yucatan for a healthproject 54. Quality of the Health Sector. IFC's support to the health sector results in an increased supply o f high quality and affordable health care services to the general public On the investment side, IFC is supporting private health suppliers in their expansion programs and the creation o f new capacity for specialized services with limited supply from the public sector. Interms o f advisory services, the IFC recently signed an advisory mandate with the State o f Mexico to implementa PPP transaction for two new secondary public hospitals that would serve 100,000 patients annually. IFC is also in discussions with two other states. 55. Strengthening the Investment Climate The IBRD and IFC will explore possibilities for collaboration in advisory work to improve the business environment, in particular at the state and local level. These efforts go hand-in-hand with efforts to improve the efficiency and effectiveness o fpublic sector institutions at the state and local level. In addition, the multi-sector capacity o f the IBRD can be leveraged with business process simplification expertise in the IFC to offer state and local governments a rather complete package o f advisory services. 56. Good Corporate Governance IFC has created a Senior Advisory Board, conformed by nine Mexican business leaders, to foster the adoption o f best corporate governance practices by medium-sized family-owned companies and to promote corporate governance within society. IFC has been promoting the agenda together with the Centro de Excelencia en Gobierno Corporativo and the Mexican Stock Exchange. IFC held the first Corporate Governance roundtable o f L A C countries in Mexico in March, 2007. 57. Past and OngoingIBRD-IFC Collaborationin Advisory Services. IBRDand IFC have worked closely in a number of areas to support private sector development and public-private partnerships for government service delivery. While many of these efforts involve federal government agencies, a significant share o f this work has been at the subnational level. Examples o fthese collaborative efforts include the following: *:* Business Enabling Environment (BEE). The IFC and IBRDworkedjointly on (fee based) advisory services in the Federal District for simplifjmg government administrative processes and ease the administrative burden on local businesses. This line o fwork has expanded to more IFC contracts. *:* Advisorv Services in Infrastructure. Recent collaborative activities include: study on road concessions, advice to the State o f Mexico on health sector PPP, advice to BANOBRAS on strategic directions, advice on sector policy reform for the toll highways, design of the Metrobus project in the Federal District, and advice on the legal framework for PPPs in the Federal District. IFC and IBRD are currentlyworking together to analyze the existing road concession program and provide recommendations on ways to improve it to help attract more private sector participation. 21 *:* Advisorv Services inAccess to Finance. IBRD staff has collaborated on IFC initiatives to develop the mortgage market to broader segments o f the population andinSME finance initiatives as well. 58. The streamlined approach to IBRD lendingwould present opportunities to adjust and broaden IBRD/IFC collaboration inMexico. First, the Memoranda o f Understanding (MOUs) for analytic and advisory activities (M) couldpotentially incorporate services from both the IBRD and IFC sector specialists. It is also likely that reforms and investments to improve private sector development will be incorporated within the large DPLs infbture years. 59. Duringthe transition to this approach, IBRDhas a number of ongoing loans and activities that can have positive impacts on the private sector environment inwhich IFC's clients operate. For example, the tax administration project i s helping to lower the costs o f compliance with tax obligations. In infiastructure, IBRD is providing advisory services on toll roads and logistics collaboration with the IFC. In the financial sector, there is ongoing advisory work on competition inthe banking system, micro-finance and micro-insurance and reform o f development banks. Housing finance has been supported by DPL loans - the most recent disbursed late in2007, and there is an ongoing TA loan that continues in this support. Substantial collaboration between the IBRD and IFC has been a key factor inthis work. 60. The IFC has a broad array o f ongoing activities and new projects in the pipeline which range from the financial sector to health, agriculture and tourism. Advisory services will also remain a focus o f fbture work, including substantial BEEwork. 61. Future support to Mexico's private sector will exploit synergies across the World Bank Group. Many o f the ideas for future collaboration build upon ongoing activities. Annex B provides a more in-depth discussion o f how IBRD and IFC are currently working to support Mexico's private sector, andpossible areas o f future collaboration. I.CONSULTATIONSANDCLIENTSURVEY 62. Consultations on the role and the fbture engagement o fthe World Bank inMexico were conducted in November. Consultations involved political, economic and opinion leaders, representatives o f the three biggest political parties (PRI, PRD, PAN), business leaders at the federal and local levels, legislative representatives, members o f the academia, state and municipal governments, and non-governmental organizations. l5 A client survey complemented these consultations (see Box 4).The consultations all confirmed the need for the Bank to stay engaged but also to build a more dynamic relationship through the provision o f flexible, on-demand services, active dialogue/outreach to the sub-national levels, andbetter communications. 15Meetings took place inGuadalajara, Monterrey, Ciudad Juarez and the Federal District (Mexico City). 22 Box 4: Resultsof the Client Survey The Bank's client survey was conducted betweenOctober-November,2007, with a response rate o f45 percent (about 275 participants). Participants stated that the three main development priorities for the country are: promoting economic growth, reducing poverty and increasing equity o f opportunities. In addition, a large majority o f participants identifiededucation as the most important contribution to growth. Perceptions of the Bank are generally positive. The survey findings suggest that while the Bank is perceived positively (in terms of its expertise, its relationships, inclusion, collaboration, and its effectiveness), 57 percent o f all respondents felt that the Bank should be more involved in Mexico's development strategies. Recommended areas of engagement. Respondents would like the Bank to focus on (i) reduction, poverty (ii)growth, (iii) education, and (iv) sub-national governments, especially the southern states. In terms o f engagement, they would like the Bank to be more flexible and to deliver solutions ina more timely fashion. Related to Mexico as a MIC, respondents would welcome the Bank to develop more innovative knowledge products (and to a smaller degree, financial products); to allow for greater leaming opportunities between MICs and OECD countries, and expand local currency financing. The Bank should emphasize knowledge transfer and solution of complex chqllenges. Although respondents did not rule out that inthe medium term the Bank will still play a significant role as a provider o f financial solutions to Mexico, they see it more as a provider o f technical assistance, analytical and advisory services as well as o f solutions/options in complex development challenges. I I J. RESULTSMONITORING 63. The Mexico CPS contains a strong orientation toward achieving realistic outcomes and a results-oriented monitoring and evaluation system. However, developing a results framework that specifies expected linkages between the Bank's interventions and long term development goals for a flexible program o f support such as that described inthe Mexico CPS is a challenge. This is partly because o f the relatively small scale o f the Bank's financial support relative to GDP. The CPS envisions IBRD lending that often leverages Bank expertise in areas which the Government has identified as a major priority and to which it i s committing substantial resources (e.g. innovation, tertiary education). It i s also because of the nature o f the Bank's evolving role as a knowledge partner. An important share o f the Bank's support under the CPS will be AAA and advisory services, the evaluation o f which presents inherent difficulties. This is especially true in Mexico, where the Government is requesting support on a "real-time" basis, and often for input to the policy process, in which the authorities are drawing on multiple sources o f advice, and not, in every case, to the formulation or implementation o f the policies themselves. This fluidity indemand, and the fact that the program will be fully defined only in its later years following ongoing dialogue, makes an ex ante identification o f inputs andresults difficult. 64. In this context, the CPS seeks to meet the core objective o f a results-based Country Strategy by presenting a results framework that establishes relationships between interventions and outcomes; contains measurable indicators; and describes arrangements for collection, analysis, and use o f data to monitor results, while pragmatically reflecting 23 the nature o f the Bank's business in Mexico. The results framework will evolve over time during CPS implementation, and it will be updated at the time o f the CPS Progress Report. Annex A details the Results Matrix. J. RISKS Domestic 65. Social Cohesion. Persistent inequality can undermine organized political decision-making processes, resultingin difficulties in reaching consensus on key policy reforms. The government i s working to mitigate this risk through intensive dialogue with the mainpolitical parties and keyrepresentatives inCongress. 66. Competitiveness. Sluggish growth performance and limited employment opportunities may occur if reforms are not enacted to enhance competitiveness. An example o f the degree o f risk i s the fact that total factor productivity has been relatively flat over the last quarter century. The ambitious national infrastructure planandpotential regulatory actions inthe coming years could help mitigate this risk. 67. Naturalcalamities. Mexico is susceptible to seismic risks and substantial losses due to hurricanes and other storms. The latter may intensify due to climate change and instead o f as the impacts may be surprisingly near-term. Another risk associated with natural resources i s water depletion in arid zones - the major centers o f economic production. The government i s working on programs to contain catastrophic risks. External 68. Global Economic Environment and the US Economy. Despite the important measures implemented in recent years to protect the economy from external shocks, Mexico remains sensitive to regional and global developments. Government debt exposure in foreign currency has been reduced and flexible exchange rate with inflation targeting inplace. The high degree o f correlation with the US economy implies that if a "hard landing" were to occur inthe UnitedStates, Mexico's economy would be strongly impacted. Mexico continues to seek free trade agreements with other countries, and exports to non-US destinations have been dynamic inrecent years. The government has lowered the government's exposure to foreign currency risks and the central bank has implemented a flexible exchange rate policy, both o f which help mitigate risks arising from the global economic environment. 24 CPSImplementation 69. Finally, there are risks associated with the new approach to Bank Group assistance that this CPS represents. One risk i s that Mexico may simply curtail its borrowing from the Bank (as it has done in the past) and hence jeopardize the Bank's overall program o f technical assistance and continued relevance. A second risk i s that the overall progress inthe government's National Development Plan i s less than satisfactory to support a large annual DPL. Ifthe first risk is realized, it i s likely that the non-lending program would have to be reduced and an even higher degree of selectivity introduced into non-lending services - or fee-based services couldbe scaled up. Ifthe second risk i s realized, there are several options: the loan amounts o fthe annual DPL could be reduced, the program redefined and narrowed to an area where the policy dialogue and reform progress i s more promising, or the DPL program could be substituted or complemented bymore sectorally focused investment lending. 25 Annex A ResultsMatrix - OverallCPS PROGRAM CONTRIBUTIONS (common to all objectives) Lower the cost of public indebtednessthrough: Financial services: -Low cost and flexible -New financial instruments Contributeto thepolicy debateand help build consensusvia: Knowledge Services: -Permanent advisory role -Ondemandpolicy notes -International experience -Enhanced dissemination -Convening Power -Conferences and workshops for buildingconsensus Support the implementation of Governmentprograms through: Direct Implementation Support -Support through ongoing investment projects -Other non-lending Support PromotePrivate SectorDevelopment -1FC investments -1FC advisory services -1BRDadvisory services and analysis CountryDevelopmentOb'ectives Baseline/Statusand Goals 4 Examplesof WBG Activities Continued AAA' on growth SustainableGrowth issues. Insufficient growth to meet the economic and social challenges o f the country. Average growth 2003-07: 3.75%. RegionalDevelopment (e.g., Goal: Increase growth rate to 5% towards the end of the current administration., via: Guerrero NLTA) -Improved business climate -Regulatory reform IFCBEEwork at the state/local -Investment ininfrastructure level. -Investment inhuman capital -Improved national innovation System. AAA on investment climate, and Improving Competitiveness BEE(IFC) onregulatory reform, Weakening o f international competitivenessposition. The country's ranking inthe labor markets, and PPPs. WEF list has fallen fromthe low-30s at the end-1990s to 52 in2007. Goal: Throughpolicy action, gov't intends to improve Mexico's position inthe WEF IFC investment and advisory rankingto the 30 most competitive economies by 2012. activities. -Regulatory action to lower cost o f infrastructure services. AAA on financial sector. -Federal and state reforms to improve the business enabling environment (BEE). -Improved quality o f education. ITDevelopment Project APL onInnovation 'All goalsare for 2012, as started inthe National DevelopmentPlanfor 2007-2012. See details 2007-2012National Infrastructure Program. httv://www.infraestructura.~ob.mx/vd~ationalInfrastruc~rePro~a~OO7-20 'The 12.vdf AAA also includes fee-based services. 26 Annex A -(continued) ResultsMatrix Country Development Objectives Baseline/Status and Goals Examples of WBG Activities Promoting Social Inclusion and Reducing Poverty AAA with SEDESOL on improving employment and Foodpoverty3: 14.4 million in2006 productivity o fthe poor; impact Goal: Reductionto 10.1millionpeople. and monitoring o f social programs with SEDESOL and Malnutritionprevailing inpopulation inextreme poverty: 27 YOin2006 CONEVAL. Goal: Reduction to 23% by 2012. Ongoing PROCEDES loan Infant mortality inthe 100 poorest municipalities: 32.5 per 1000 live births, supporting implementation o f Goal: Reduction by 40%. health insurance for the poor (Seguro Popular); AAA with Maternal mortality inthe 100poorest municipalities: 187.7 per 100,000 live births. IMSSIISSSTEISSA on Goal: Reduction inhalf. integration o f the supply side o f health services. Avg. PISA score for reading and mathematics: 392 (2003) and 407 (2006) Goal: Increase PISA score to 435. Ongoing APL for Quality Schools; ongoing operation for Years o f schooling (population age 24-64): 8.4 in2006 CONAFE program targeting poor Goal: Increase average schooling to 9.7 years. nuallindigenous schools; AAA support for reforms insecondary Actions: and adult education; Ongoing -Improve social protection system, including access to health services. APL to improve accessbythe -Programs to improve quality o f education. poor to higher education. -Enhancement o f conditional cash transfer programs. -Better coordination across social programs. Developing Infrastructure and Assuring Energy Security4 AAA ininfrastructure, especially Mexico ranked 64" inthe WEF Infrastructure Competitiveness Index. water, roads, andports. IFC Goal: One o fthe leaders incoverage and quality o f infrastructure inLatinAmerica. investmentopportunities inPPPs. Improvement inranking by ca. 20 positions. Actions: Increase o fpub. Infrastructure investments to 4% o f GDP.' Ongoing Water Sector Modernization TAL and Public InfrastructureInvestment: 3.2% (avg, 2001-06), with oil and gas at 1.4% and Additional Financing other sectors at 1.8% o f GDP. Ongoing HUTAL IFC Support to Low levels o f private sector participationininfrastructure. BANSEFI IFC investments in Goal: Expansiono f PPPs inInfrastructure investments. housing finance Inadequate provision o f water supply services (coverage, quality, efficiency) Goal: Increase water service coverage to 95% (with a continuous service) Insufficient supply o fhousing solutions (currently, 750,000 housing solutions per year) Goal: Increaseto 1,000,000 housing solutions per year (2007-2012) Foodpoverty is definedby the government as a personwhose income is insufficient to be able to consume the basic foodbasket. See details 2007-2012 National Infastructure Program. httD://www.~nfraestructura.pob.~~dEINationalInfrastructurePromam2007-20 12.df Plannedinvestmentsamount to US226billioninthe 2007-2012periodwhich the authorities expect couldraise annualGDP growthby 0.6 percentandcreate additionaljob of 720,000. 27 Annex A -(continued)ResultsMatrix CountryDevelopmentObjectives BaselineBtatusand Goals ExamplesofWBGActivities Dissemination o f Institutional StrengtheningInstitutions and Governance Review (IGR) Mexico ranked 70" out o f 163 inTransparency International perceptions index NLTA on Reformo fTreasury regarding level o f corruption (3.3 out o f Office in SHCP; Dialogue on Modernization o f SHCP; 59% o f Mexicans are not satisfied inhow their democracy is functioning.' Technical Assistance inPublic Sector Audit and Procurement Goal:Improve functioning andperceptionso fpublic sector, through: -Implementation o f M&Esystem Results BasedManagement And -Movement towards results basedbudgeting BudgetingTA Loan (under -Improved impact evaluation o f government actions preparation) -Implementation o f Management and info systems -Expanded use of COMPRANET procurement system NLTA on Impact Evaluation -Judicial reform Working with states through AAA (Accounting and Budgetary harmonization) Fee-for-services inGuerrero Judicial ModernizationProject Tax Administration Project (20d phase) IFCwork on Corporate Governance IDFGrant withIFAI IDFGrant withCongress IDFGrant for Accounting Assuring EnvironmentalSustainability Harmonization, State o f Aguascalientes Mexico emits 643 milliont COlequivalent (or about 1S%)o f total greenhouse gases (GHG), which makes it the twelfth largest GHGemitter inthe world and second Bank currently supports 25 largest inLatin America initiatives, financed by IBRD Goal:Progress achievedinthe reduction of C02e emissions inthe Energy, loans, GEF grants, carbon Infrastructure and Industrial Sectors' finance grants and AAA on Increase energy generationfrom renewable sources from 23% (2006) to 26% (2012) Climate Change issues Reforestation o f 3 millionha. by 2012 Ongoing (Integrated Energy) Average deforestation(2000-2005) was 314,000 hdyr. Services Project Goal:Number o fhectares o fareas under sustainable forest management increasedby 33 percent New Climate Change D P L New ENV D P L Degradation o f the Natural Resource Base Goal:IncreaseNaturalProtectedAreas around 3 millionha. Ongoing Decentralized IntegratedWater Resources Management Programs implemented in 13 water basins Infrastructure Project Guanajuato Unsustainable management o f water resources New EnvironmentalRecovery o f Goal:Increase coverage o fmunicipal wastewater treatment from 36% (2006) to 60% Apatlaco (Morelos) River Basin (2012) Project 'Transparency International data for 2006 were usedinthe NDP. 2007 data do not show any major change. 'DataNationalCC of Latinobarametroin 2006 were usedinthe NDP. The 2007 survey shows similar data. The Strategy establishes to goal ofreducingemissions inthese sectors around 127million t COzequivalent by 2014 as comparedto the businessas usual situation. 28 Annex B: Private Sector Strategy A. Background 1. Private sector development i s at the core o f the development challenges facing Mexico. The National Development Plan's objective to promote sustainable human development requires the creation o f quality jobs. For job creation and worker productivity, an enabling environment for businesses to operate and invest i s essential. Private investment inMexico would needto behigher inorder to sustain faster growth. While the economy has recovered fiom the debilitating effects o f the series o f economic crises total factor productivity still lags the rates o f growth achieved inearlier periods o f Mexican development andthe top productivity performersinternationally. PrivateInvestment as a Share of GDP (%) Decomposition of Growth GrowthAccountingfor Mexico, 1950-2006 .- 70% I n {-I I 18 6 0% 17 50% i 16 15 3.0% 14 2.0% 13 1.O% 12 0 0% 11 10 1998 1999 2000 2001 2002 2003 2004 2005 20062007(e: jource World Development Indicators, IMF estimates for 2007 Source: Mexico-An Agenda for Growth and Employment. 2. The private sector agenda can be separatedinto four pillars: business climate; human capital; infrastructure; and financial sector. B. The WorldBankGroup's SupportDuringthe Last CPS 3. The CPS Completion Report (Annex C) provides an overview o f World Bank Group activities inrecent years. The text below i s an editedexcerpt fiom the review o f the activities underthe pillar o fgrowth andcompetitiveness. Analytic Underpinnings: Programmatic Competitivenessand TradeAAA 4. The Bank's programmatic Competitiveness and Trade AAA had its origins in an earlier collaboration with the Government on issues o f competitiveness. The Bank worked with the Office o f the President to assist the Government in defining a national 29 Competitiveness Agenda 2004-06. The success o f this assistanceledto the elaboration of the Programmatic Competitiveness and Trade AAA for FY05-FY08, which sought to broaden the dialogue on competitiveness to stakeholders beyondthe executive andthe private sector. 5. The four year programmatic Competitiveness and Trade AAA was initially structured inthree phases. The first phasehas supported the design and implementation o fthe Mexican Competitiveness Agenda. The aim was not to produce an analytical piece on competitiveness, but to fill some key knowledge gaps that were necessary for the Competitiveness Agenda and to provide non-lending technical assistanceto move the agenda forward. The second phase brings key policy messages into the public sphere. Policy Notes have also served that objective. 6. A report was published for both the first and second phases o f the programmatic AAA. The two-volume first phase report, Mexico 's Challenge of Knowledge-based Competitiveness: Challenges and Opportunities, argued that Mexico had to act now to take advantage of the opportunities arising from the knowledge revolution. The second phase report, Mexico 's Competitiveness: Reaching Its Potential, informed policy makers, the private sector, and the public at large about competitiveness priorities andshortcomings. The focus was on measures to enhance Mexico's efficiency, generate jobs, and move the country to a more innovation-driven stage o f development. Focused analytic pieces included: (i) an assessment o f the quality o f infrastructure and key weaknesses o f the Mexican innovation system; (ii)an assessmento f the draft labor law reform and its likely impact on indicators for Doing Business; (iii) a study o f logistics costs and bottlenecks and (iv) an analysis of the impact of tariff reforms on trade. The Bank has held discussions and briefings with major policymakers and stakeholders and has contributed to the competitiveness strategy of two state development plans. It has also made a series o f presentations to the new Senate Committee on Competitiveness. 7. The programmatic Competitiveness and Trade AAA had a number o f positive impacts. The collaboration with the Government has been largely successful. The more focused analytical pieces were well-regarded by public officials, particularly for bringing an international perspective to the challenges faced by Mexico. More broadly, an important contribution o f the Bank was perceived to be its role in facilitating a consensus on the need for reforms. The success o f this work ledto the approval o f the first Competitiveness DPL in FY05. That loan supported measures to enhance transparency and improve the regulatory framework to enhance competitiveness. Business Climate 8. There has been an improvement in business registration. Rapid Business Opening Systems have facilitated new entry in 74 municipalities, although this has not yet led to a reduction inthe average number o f days to register a business nationwide. FIAS carried out "Doing Business" analysis in twelve cities inMexico in2005, and in 31 cities and states in 2007. IFC has undertaken pilot programs to simplify business registration and licensing at the municipal level. In addition, the Bank, with the participation o f IFC, is offering fee-for- service advice in the area o f investment climate reform for the Federal District. That effort will continue to focus on the procedures for opening a business. The state o f Guerrero is 30 currently working with IFC in improving the investment climate through a partial fee for service. The creation o f the Senate Competitiveness Committee, to which the Bank made a series o f presentations, has helped promote reforms to increase Mexico's competitiveness. Complementing the regulatory agenda, WBI has fostered a dialogue with over 500 business representatives through the Corporate Social Responsibility and Sustainability Competitiveness Course. Human Capital 9. The Government has made progress on its agenda for innovation and education to make the workforce more competitive. Buildingon the 2002 new legal framework, Mexico has established 25 science and technology councils at the state level. The number o f researchers in the national research system (Sistema Nacional de Investigadores, SNI) has increased from 7,466 in 2000 to 12,096 in 2005, growing at an annual average rate of 10 percent. Public funding to SNI increased by 13.5 percent in 2005, representing a quarter o f CONACYTsbudget. The Bankhas been supporting these efforts through the Innovationfor Competitiveness APL I (FY 06) which aims to consolidate ongoing sector reforms in science and technology by strengthening programs for business innovation and human capital development. That includes: (i) promoting business innovation; (ii) financing scholarships; and (iii)supporting policies to strengthen the framework for science, technology and innovation and foster international linkages. Other Bank loans supporting education will boost long-run competitiveness by training a more skilled workforce. IFC has been supporting this pillar with nine operations for a total o f $125 million inthe education, health and micro-credit sectors. In education, IFC's financing i s supporting the expansion o f Mexico's second largest private sector university with a particular focus on attending middle and lower-middle class segments o fthe population. Itis also supporting a new sofol focused on student loans. The three health sector operations are supporting hospital services in Guadalajara and Tampico awhile the three micro-credit operations are supporting institutions whose main clients are low-income women. Infrastructure 10. Significant advances have beenmade inthe provision o f roads, electricity, and water, though gaps persist in poor, rural and indigenous communities. The Bank has been supporting efforts to expand the coverage and quality o f roads through the Decentralized Infrastructure Development Loan (FY04, US$108 million), a state level loan which provides financing to the State o f Guanajuato to strengthen its infrastructure strategy and planning. Progress has been satisfactory. The Bank also furnished technical assistance related to highway finance reform and i s providing advice on a fee-for-service basis for the institutional reform o f toll roads. Additional support to the infrastructure sector was provided through the Infrastructure Public Expenditure Review (FY05), which analyzed the effectiveness and efficiency o f public infrastructure spending in water supply and sanitation, transport and electricity. 11. Duringthe CPS period, IFC supported Government efforts to encourage investments ininfrastructure with the participationofthe private sector. IFC provided financingtotaling US$126.6 million (including US$50 million in equity and US$11 million for syndications) 31 for innovative infrastructure projects. Support was furnished to one o f the first PPP road projects in Mexico and to a company interested in investing in future PPP projects, to a newly established affordable airline carrier, andto a recycling company. Box 2. IFC supportfor Public-PrivatePartnerships(PPP) In 2002 IFC funded and assisted "Partnerships", the UK technical assistance initiative to the Mexican authorities for the development o f a Public-Private Partnership program. The PPP program benefits from both public and private sector expertise and i s critical for the public services needs of Mexico, such as infrastructure, healthcare and education. IFC has provided advisory and technical assistance to the government incoordination with IBRDwhile, onthe other hand, engaging with private sector companies interested ina PPP contract for specific projects. InFY07, IFC furnished a US$12 million equivalent partial guarantee in support o f the first project concessioned to the private sector under the program. That project consisted o f the expansion, upgrading, operation and maintenance o f a 74.3 km road between the cities o f Irapuato and L a Piedad de Cabadas in the State o f Guanajuato. The participation o f IFC helped to allay risks in project implementation and reassured the market that the project was bankable. The project is likely to have a demonstrationeffect for future concession contracts. Financial Sector 12. Mexico has made great strides towards consolidating the financial sector and has introducedreforms to increase competition. Since the first debt crisis o f 1982 and the effects o f the financial crisis o f 1994-95, Mexico has gone through a long process o f financial sector restructuringand consolidation. Growth o f the financial sector is accelerating with increased competition. Inthe banking sector, there i s still a need for changes to the Credit Institutions Law. In the non-banking sector there is a need to deregulate Sofoles and adjust the laws relating to trust, insurance and pension funds. Inthe bond market, new debt instruments are making it easier to obtain financing by issuing domestic debt, while the Securities Law passed in December 2006 i s expected to improve the functioning of the stock market. The main Bank instrument for support to the financial sector was the Finance and Growth DPL (FY06). That operation supported a series o f financial sector reforms, including the securities Law and strengthened oversight by corporate boards. This DPL replaced the Access to Financial Services project originally planned for FY07 in the CPS. The 2006 update to the Financial Sector Assessment Program (FSAP) provided analytical support to other reforms, including the Banking Resolution Law. In FY08, the SHCP has asked the Bankto undertakea study o f competition inthe bankingsector. The principal findings ofthe study, which covered such topics as the performance o fdevelopment banks, accessto finance by SMEs, and micro-insurance, were subsequently incorporated into policy notes prepared for the incoming Calderon administration. 13. The Bank Group has also supported access to financial services by sectors underserved by commercial banks. The US$505.1 million Rural Finance SAL (FY03) supported the liquidation o f Banrural and the creation of Financiera Rural, a decentralized financial institution in charge o f promoting the development o f rural financial markets and lending to small and medium rural producers. The project also supported the Government's broader goal o f reducing the fiscal drain o f loss-making banks, while enhancing access to financial services for sectors not served by commercial banks. According to an IEG evaluation, as a result o f the project, the Government has made major inroads in reforming the rural finance market and inrestructuringthe financial sector. IEGratedthe project highly 32 satisfactory. The second phase of the Savings and Rural Finance Project (BANSEFI) has helped the Government strengthen more than 400 local savings and credit institutions and place them on a sound financial footing, thereby affording many low-income families with access to financial services that they would otherwise not enjoy. 14. IFC has complemented Bank assistance in the financial sector with support in a total amount o f US$578.8 million over the period FY05-08 for mortgages (including securitization), microfinance, banks, trade, and private equity funds. Making use o f advisory services when appropriate, IFC focused on promoting access to financial services for underserved retail entities while, in the case o f the corporate sector, helping increase the access o f MSMEs to debt and equity finance. Inaddition, IFC helped develop the market for education finance by investing in a sole-purpose dedicated financial institution (Sofol) that specializes inthe education sector. 15. The housing finance market has expanded rapidly in recent years. The Federal Mortgage Agency, SHF, has fostered the development o f Sofoles, special purpose, non- deposit private credit institutions, and has established the legal and regulatory framework for a flourishing secondary mortgage market. The Bank supported the strengthening and expansion o f the private mortgage market through the FOVIRestructuring project (US$505.1 million, approved FY99), which extended support to the BankingFinance Fund for Housing (FOVI) and to its successor institution the SHF. The ICR for this operation listed many accomplishments including assisting a program o f mortgage lending from 2000 to 2005 that financed some 290,000 mortgages for a total value o f US$7 billion equivalent. Since 2004, the SHF has supported asset-backed securities with guarantees for timely payment. 16. IFC has provided funding and technical assistanceto housing sector Sofoles and other mortgage providers, and it has continued to facilitate the development o f a secondary mortgage market development. IFC support has included remittance-backed mortgages, warehousing lines, partial credit guarantees and technical and advisory assistance. Since the SHF is scheduled to stop direct finding for Sofoles in the coming years, IFC's efforts have been geared towards enabling Sofoles to seek funding from the market on their own account and continue providing affordable mortgages to Mexican homeowners. C. Key areas of opportunityfor WBG SupportMovingForward 17. Following a transition period, the streamlined approach to IBRD lending would suggest that the focus o f IBRD work would be to establish Memoranda o f Understanding (MOU) with key government agencies involved inthe private sector enabling environment. These MOUs would provide basis for continued analytic and advisory activities (AAA). It i s also likely that reforms and investments to improve private sector development will be considered under the single DPL in future years. IFC would continue its financial support for selected high impact firms and continue with analytic work like the municipal scorecard and advisory services related to the business enabling environment (BEE). It is expected that there will be increasing collaborationbetween IBRDand IFC on advisory services. 18. During the transition to this approach, IBRD has a number of ongoing loans and activities. In terms o f the business climate, the IBRD is in the latter stages o f preparing a 33 loan that would support start-up firms inbusiness process outsourcing and other information technology focused activities. A tax administrationproject i s also helpingto lower the costs o f compliance with tax obligations. Poverty analysis - in a fee-based service - i s also moving towards understandingincome generation for the poor and the functioning of labor markers. Finally, there i s currently a DPL series for competitiveness, where one loan was already prepared and disbursed. Inhumancapital development, there i s ongoing lending for education quality nationally along with substantial analytic and advisory support to the Secretariat o f Education. To improve the links between human capital development and business innovation, the IBRD i s financing programs in the national science and technology council (CONACYT). In infrastructure, IBRD i s providing advisory services on toll roads and logistics - in collaboration with the IFC-and an innovative state level infrastructure development project in the state o f Guanajuato i s under implementation. A TA loan is also supporting reforms and institutional development inthe water sector. Inthe financial sector, there is ongoing advisory work on competition in the banking system, micro-finance and micro-insurance and reform o f development banks. There i s also a DPL series to support financial sector reforms - with one loan prepared and disbursed (as mentioned above). Housingfinance has beensupported by DPL loans - the most recent disbursedlate in2007, and there i s an ongoing TA loan that continues in this support. Substantial collaboration betweenthe IBRD and IFC has been a key factor inthis work. 19. The IFC has a broad array o f ongoing activities and new projects in the pipeline which range from the financial sector to health, agriculture and tourism. Advisory services will also remain a focus of future work, including substantial work inthe "business enabling environment" (BEE). 20. A focus of future work for private sector development is to explore synergies across the World Bank Group, and many o f the ideas for future collaboration build upon ongoing activities. Some o f the possibilities are discussed inthe next section. D. Possible innovations in collaboration across the WBG 21. IFC and IBRD have identified five areas in Mexico in which existing or potential collaboration between IFC and IBRD could result in a major sector impact. The five areas are: *:* Housing *:* Health *:* Infrastructure *:* Business Enabling Environment *:* Innovative Approaches to Climate Change Mitigation 22. Inaddition, collaboration is expected to continue onfinancial sector issues as they cut across all these areas o f activity. 23. Housing. IBRD and IFC have undertakencomplementary efforts, working with the public and private sectors, respectively, in the development o f a sustainable primary and secondary housingmarket inMexico. IBRD fostered and supported the creation of Sociedud Hipotecariu Federal (SHF) by providing direct funding to it and its predecessor FOVI. 34 Since then it has worked closely with SHF, the National Hosing Commission (CONAVI) and SEDESOL through a series of three programmatic operations accompanied by technical assistance to help catalyze a number o f key policy reforms in the sector. Reforms include modification o f on-budget housing subsidies by making them better targeted and more progressive, modernization o f property registries, development o fnew housingmicro finance products for lower-income segments and the definition o f new instrumentsto develop urban landmarkets for low-income housing. From 2004 to present, IFC has directly addressedthe funding needs o f specialized lending institutions such as the housing Sof01es;~and fostered the expansion o f alternative sources o f funding and the development o f the secondary mortgage market in the country in light o f the transition o f SHF from direct lender to guarantor. 24. Inthe future, cooperation between the IFC andIBRDwill be targeted to: increasing access to fhnding for non-traditional players in the financial sector, spreading affordable housing and housing finance products to lower income/remotely located segments o f the population, and to fostering sustainable environmental practices in the construction o f the housing stock. The future initiatives are coordinated between IFC's Global Financial Markets Department, the IBRD and SHF. 25. The IFC Housing Finance Strategy inMexico i s committed to the developmento f the housing finance market, especially for the middle and lower income segments o f the population. The strategy contemplates three phases: 26. Phase I. phase focused on 1) providing funds to specialized financial institutions This such as the housing Sofoles to support primary market origination and 2) diversifying these Sofoles' funding sources and reliance on government loans; while supporting the development ofa standardized mortgage marketsector. 27. Key projects in this phase are mortgage warehouse lines to housing Sofoles: Su Casita, Hipotecaria Nacional, Credit0 y Casa, MetroJinanciera, and Hipotecaria Ve'rtice; and construction lines to Su Casita and Hipotecaria Ve'rtice. 28. Phase 11. This phase focuses on the development o f a sustainable secondary mortgage market in Mexico by 1) supporting the issuance o f well structured mortgage backed securities, 2) fostering the development of other secondary mortgage market entities, and 3) fundingdifferent mortgage originators including banks. 29. Key projects: in this phase are warehouse line and enhancement facility for GMAC Financiera, MBS CEF project, which allows IFC to enhance the MBS issuances by smaller market players including banks. 30. Phase 111. IFC envisages a later stage where there i s more private sector participation in both the primary and secondary Mexican mortgage markets and the IFC intervention idwould be very selective, focused on supporting nichelunderserved segmentshectors and 9Sofoles are non-bank specialized financial institutions. Housing Sofoles provide loans to housing developers and mortgage loans to individuals. 35 increasing and enhancing linkages o f the housing finance players with the capital markets via structured finance products. 31. Key projects under development and execution are the following: 1. The advisory services program with SHF which aims to enhance operational capacities and corporate governance o f five Sofoles. The enhanced capacity i s expected to improve the competitiveness o f these smaller players, increase their access to other sources o f hnding aside from SHF, and ultimately, to increase the stock o f affordable housing products. In addition, IFC will and i s now starting to finance some the Sofoles participating inthe program, i.e. HipotecariaVertice. .. 11. The Joint IFC/SHF Project to build mortgage origination capacity within selected Sociedades Cooperativas de Ahorro (SCAPS), which work inrural areas or with low and informal economy population segments. The overall objective o f this project i s to increase access to the lowest income segments, which in general have the SCAPS as their only link to the financial system. This Project proposes to create a knowledge sharing center to further disseminate good practices among the SCAPS and in the medium-term to permit co-financing between SHF and IFC and fostering a secondary market for the SCAPS generatedmortgage loans. iii.TheJointIFC/SHFGreenMortgagesProjectwhichaims tobuildaMexicanGreen Mortgage "standard criteria" that include energy efficiency (EE) and renewable energy (RE) componentshorms, with measurable benefits; and to set up a Green Mortgage Facility (medium and long-term funding and guarantees) to be provided to various financial institutions. iv. IBRDHousing and Urban T A between IBRD, SHF, CONAVI and SEDESOL which aims to (i) improve the equity and progressivity o f the subsidy system, (ii) aprepare strategic environmental assessment o f the housing sector, (iii) increase the available instruments to develop urban land for low-income housing, and (iv) reform the institutional framework of the housing and urbansectors. 32. Health Sector. There is an important potential for collaborationbetweenthe IFC and IBRD in the health sector, as IFC has expanded its participation inthe health sector o f the country through investments and advisory services. 33. On the investment side IFC i s supporting private health suppliers in their expansion programs to enhance the overall competitiveness o f the private sector and the creation o f new capacity for specialized services with limitedsupply from the public sector. 34. Private providers o f health services are increasing their collaboration with public hospitals through service contracts with the systems for public insurance cover. 35. There is a significant area o f collaboration between IFC and IBRD to promote a deeper involvement o f the private sector in the supply o f specialized services to the public systems. The harmonization o f policies o f the different existing public systems in Mexico 36 recommended by the IBRD advisory and analytic activity will pave the way for the long term vision o f separating the purchasing andprovision fbnction. IFC andIBRD can work together inthe creation ofincentives for theprivateplayers to grow their participation intheprovision o f specialized services to Governmentpatients. 36. Currently, by supporting the growth o f private health providers who are already interested in this line of business, IFC i s aligning its strategy to the IBRD health sector strategy. An example o f this i s the financing o f the Centro Midico Puerta de Hierro, a hospital in Guadalajara who has initiated the construction o f its second hospital in the Tlajomulco District, located in southern Guadalajara, Mexico. This institution i s already working with public entities (IMSS) in the provision o f different specialized services to Government patients. The recently financed project will create new capacity for specialized services not available in public hospitals, like the first integrated cancer center to serve the cities o f Guadalajara, Colima and surrounding states. Centro Mkdico Puerta de Hierro's case i s an example o f how private and public systems can complement each other's infrastructure infavor ofthe population. IFC/IBRDcollaborationcanpromotethis trend. 37. Inaddition, IFC's supportto the privatehealthsector results inanincreased supply of highquality and affordable health care services to the general public, which relieves some of the burden on the busy public sector facilities in a complementary fashion. By absorbing more o f the middle-class demand, private investment allows the Government to allocate more effort and resources to the lower socio-economic class, which results in the improvement o f living conditions o fthe population as a whole. 38. Interms o f advisory services, the IFC recently signed an advisory mandate with the State o f Mexico to implement a PPP transaction for two new secondary hospitals. The State o f Mexico is facing considerable pressures regarding its facilities capacity and quality o f health care for its population. As transaction advisor, IFC would structure a PPP solution and implement it through a competitive tender process. The project will provide higher quality health care for a low income population, attending approximately 100,000 patients per year. The collaboration between IBRD, Investment and Advisory will result into a very valuable offer to the State o fMexico from the World Bank Group. 39. Inorder to manage a potential conflict o f interest, the following guidelines are being used for collaborationbetweeninvestment and advisory services: *:* Coordination and synergies duringthe prospectingprocess; *:* Best practices sharing duringthe definition o f structure; *:* Chinese wall duringthe risk allocation andbiddingprocesses. 40. Infrastructure. Collaboration betweenthe IFC and IBRDinthe infrastructure sector will be the basis for becoming a Knowledge Institution for middle income countries like Mexico. By combining the transaction experience and the knowledge o f the private sector that the IFC has with the sector knowledge of the IBRD, new solutions and structures could be delivered to Mexico helping not only to increase the coverage o f public services by bringingprivate participation, but also a newbenefit by increasing the quality and efficiency o f the sectors served. 37 41. Target sectors for this collaborationwill be: *:* Transportation *:* Health and Education *:* Water and Sanitation 42. Inthe Transportation sector, the IFC and IBRD are currently working together to analyze the existing road concession program and provide recommendations on ways to improve it to help attract more Private Sector Participation by identifying international best practices and proposing new alternatives to increase the number o f projects delivered to the market. 43. Inthehealthandeducation sectors, the emphasiswillbeat aStatelevel; currentlythe IFC i s conducting an advisory for the State of Mexico for a new hospital. This will bring a new scheme where the focus will be on increasing the quality and efficiencies o f the sector. Other similar opportunities are beingdiscussed with Yucatan and Chihuahua. 44. For the water and sanitation sector, a more sector approach will be used where the IFC and IBRDwill work together to bringnew ideas for enhancing sector efficiencies. 45. Along these lines, both groups are currently exploring the identification o f municipalities where the Subnational Development Support Facility could be deployed to support infrastructure development without sovereign guarantees. There are legal limitations, however, to direct lending. 46. Local Partnerships. During the execution o f mandates for infrastructure projects, project and sector knowledge i s developed, inorder to assure that this knowledge will be also for the benefit of Mexico, a partnership strategy i s currently under development, A co- advisory collaboration between IFC and NAFINwill bring to Mexico all the benefits o f the IFC-IBRD collaboration and the transaction process expertise to be absorbed by a Mexican institution. Under this approach there i s an opportunity for co-advising the State o f Yucatan for a healthproject. 47. Business EnablingEnvironment. The IBRD and IFC will explore possibilities for collaboration in advisory work to improve the business environment, inparticular at the state and local level. These efforts go hand-in-hand with efforts to improve the efficiency and . effectiveness o f public sector institutions at the state and local level. In addition, the multi- sector capacity o f the IBRD can be leveraged with business process simplification expertise in the IFC to offer state and local governments a rather complete package of advisory services. See Appendix 1 for more details on how to expand this work, building upon ongoing initiatives. 48. Innovative Approaches to Climate Change Mitigation. A Conference will be organized between the IFC and IBRD to present and discuss international innovative experiences in the field of mitigation o f Climate Change. The Conference would focus on policies and programs undertaken by the public sector as well as projects developed by the private sector. As a result of the event, we expect to identifyspecific pilot projects that could be scaledup inthe fbture expanding the activities o fthe Group inthe area of climate change. 38 = 0 ob I 12 0 I m m E 02 QI t0 ob EJ d 0 Annex C: CPS CompletionReport FINAL DRAFT February22,2008 MEXICO: CPS CompletionReport Date o f CPS: March 18,2004 ReportNo. 28141-ME Dateo fCPS Progress Report: January 8,2007 ReportNo. 37934-MX Period coveredbythe CPS Completion Report: FY05-FY08 Summary This document evaluates the achievement of CPS objectives in Mexico together with the respective contributionsof the Government andthe Bank. The 2004 CPS was preparedwithin the framework of the Bank's still-evolving agenda for Middle Income Countries. It clearly acknowledged that the Bank provides only a small part of the overall financial requirementsof Mexico. Hence, the Bank contributionwas not to be assessedin terms ofresourcetransfer but rather interms of the internationalexpertisethat the Bank could mobilizewithin the context of projects andprogrammatic analyticwork. Inthat context, the Bank has beena facilitator of communicationthat can effectivelyfoster the transfer ofknowledgeand experience. The 2004 CountryPartnershipStrategy for Mexico was the first document o f that title to bepresentedto the Boardof the Bank. It was the product of outreach and consultation with the Government and other diverse stakeholdersincludingcivil society and it was predicateduponaneed for the Bankto be flexible andquick in respondingto changingcountryrequirements. Consistentwith that approach, CPS outcomes in terms of lendingand AAA differedsignificantly fromthe specific tasks identified inthe CPS documentbecausethe Bank adapted to changing country circumstances. The principal strategic objectives of the CPS were successfully achieved. The CPS was driven by the government's program and, during the CPS period, the government was broadlysuccessful in implementingitsNationalDevelopmentPlan. Contributingto that outcome, the Bank delivered a substantial program of knowledge and advisory services drawing upon its world-wide experience and access to internationalexpertise. The success of that programis evidenced by the quality, relevanceand sustainabilityof the AAA deliveredasjudgedby the client andother stakeholders. The Bank also contributed successfully to country outcomes with a diverse lending portfolio that was progressively adaptedto the changingsituationinMexico andthat performedwell interms ofproject outcomes. Interms of lendingvolumes, the delivery of the programwas uneven. Lendinginthe first two years of the program (FY05-06) was broadly consistent with the recent past. In September 2006, however, the government prepaida large part of its outstanding IBRDloanportfolio and that was followed by an abrupt drop innew lendingwith only one singleprojectapprovedinFY07. The prepayment of Bank loans and the drop in lending do not imply a rupture in the Bank's relationship with Mexico but rather a change in the dynamic of that relationship. There is still an active portfolio of Bank-supportedprojects being implementedas well as an active programof AAA all of which generate a broad range of Bank-client relationships at both the operational and policy levels. There is, therefore, fertile ground for restoringastrongprogramo f Bank support consistentwith countryrequirements. The Bank and Mexico are now well placed to move forward with a broad policy dialogue backed by selective lending operations strategically targeted at areas where the Bank can contributemost effectively. A more flexible approach to the next CPS is warrantedrecognizingthe need to respondto evolving client demands. 42 MEXICO CPS COMPLETION REPORT TABLE OF CONTENTS I. INTRODUCTION ..................................................................................................................................... 44 I1. MEXICO'S NATIONAL DEVELOPMENT GOALSAND CPS OBJECTIVES ................................................... 45 I11. CPS OUTCOMES .................................................................................................................................... 45 The MacroeconomicContext ..................................................................................................................... 45 The CPS vision ............................................................................................................................................. 46 Pillar I: ReducePoverty and Inequality....................................................................................................... 47 Overview .................................................. ,................................................................................................... 47 Banksupport for povertyreductionthroughprogrammaticAAA ........................................................ 48 Basic education 49 Healthcare ................................................................................................................................................... ............................................................................................................................................ 50 Pillar 11: Increasing Competitiveness ................................ ............................................... 52 Overview ............................................................................ ............................................... 52 Banksupportwith programmaticAAA 53 The BusinessClimate .................................................................................................................................. .................................................................................................... 54 Educationfor greater Innovation 55 Infrastructure .............................................................................................................................................. .............................................................................................................. 55 FinancialIntermediation ............................................................................................................................ 56 Pillar IIIStrengthening Institutions Overview PublicFinanceManagement ......................................................................................................................................................................57 ....... ................................................. ............. 57 58 Pillar IV: Environmental Sustainability 61 Overview 61 Water ............................................................................................................................................................ ...................................................................................................................................................... 62 The InstitutionalFrameworkfor EnvironmentalSustainability ............................................................ 63 RenewableEnergy ........................................................................................................................................................ ....................................................................................................................................... 64 Forestry 65 IV . OVERALLBANKPERFORMANCE ........................................................................................................... 65 A. TheLending Program B. Portfolio Quality ........ C. Programmatic Advisoy and Analytical Activities (AAA) D. Fee-basedServices................................................................................................................................... 70 E. Safeguards and Fiduciay F. Financial Instruments ...... G. Collaboration with Other Donors ....... V . LESSONS LEARNED ................................................................................................................................ 72 ANNEXI ......................................................................................................................................................... 74 ANNEXI1....................................................................................................................................................... 75 ANNEX111:PLANNEDLENDING PROGRAMAND ACTUAL DELIVERIES........................................................... 79 ANNEXIV:PLANNEDGEFRCFANDACTUALDELIVERIES ........................................................................... 81 ANNEXv:PLANNINGNON-LENDING SERVICESAND ACTUALDELIVERIES ................................................... 82 ANNEXVI: ACTIVITIESUNDERTAKENDURINGTHECPSPERIOD.................................................................. 84 43 MEXICO COUNTRY PARTNERSHIPSTRATEGYFYO5-OS COMPLETIONREPORT I.INTRODUCTION 1. The FYOS-OS Country PartnershipStrategy for Mexico was designed within the still-evolving policy framework of the Bank Group vis-&vis Middle Income Countries. It was the first paper ofthat title to bepresented to the Boardo fthe Bank for discussion. In presenting a "Country Partnership Strategy", rather than the customary "Country Assistance Strategy", the Region was clearly signaling a shift o f emphasis and focus which subsequently received a more general endorsement in a paper prepared for the Development Committee". The Bank management and Board have not made a formal differentiation between a Country Assistance Strategy and a Country Partnership Strategy, but a distinction i s emerging with continued usage in middle income countries (MIC). As a partnership strategy, the CPS i s the product o f outreach and consultation with the Government and other diverse stakeholders including civil society. The principles o f Bank engagement with Mexico's development program were based upon flexibility and an agile response to the changing needs o f the country as it moved forward with program implementation. In keeping with a greater emphasis on flexibility consistent with the Bank's M I C agenda, other recent CPSs, such at that for Chile, have left undefined the specific lending operations and AAA to be undertaken during the program period except for those already agreed with the client for the first year or so.'' The 2004 CPS for Mexico didnot go that far. It followed the more traditional practice o f specifying a complete program o f lending and AAA for the entire FY05-08period. As a result, there was a significant discrepancy between the detailed program specified in the CPS and actual outcomes as the Bank strove to accommodate the changing needs o f the client inthe course o fprogram implementation. 2. This completion report does not fault the Bank for the discrepancy between the detailed CPS program and actual outcomes. Rather, it assesses the CPS within the framework of the Bank's still evolving M I C agenda. In that context, the CPS is evaluated against three criteria. Since the CPS was driven by the Government's program, the first criterion is based on how effectively the Government has achieved its developmentvision as determined by a select set o f country development goals. Second, the knowledge and advisory services o fthe Bank-a key element o fthe CPS - arejudged with respect to their quality, relevance and sustainability in contributing to the policy process rather than by linking them to specific country outcomes per se. Third, since the lending operations o f the Bank Group are very small in relation to Mexico's overall capital requirements, their effectiveness is not to be judged in terms o f resource transfer but rather interms o f their success inmeetingspecific project indicators and by overall portfolio performance. By those three criteria, implementation o f the 2004 Mexico CPS was satisfactory. lo `Strengthening the World Bank's engagementwith IBRD partner countries ":DC2006-0014dated September 7, 2006. "Country Partnership Strategy for the Republic of Chilefor theperiod 2007-2010": Report No. 3869- CL datedApril 24,2007. 44 3. Nevertheless, implementation o f the lending program proceeded in an unanticipated step-wise fashion. Inthe first two years, FY05-06, the volume o f lending was broadly consistent with the recent past and with the CPS. In September 2006, however, the government made use o f buoyant foreign exchange reserves to prepay a large part of its outstanding IBRD loan portfolio. The prepayment coincided with an abrupt fall innew lending. InFY07, only one loan was approved inan amount o f US$29 million. 4. The reasons behindthe prepayment and the step-downinlending are examinedin Section N below. They do not imply a rupture or diminution inthe Bank's relationship with Mexico but rather a change in the dynamic o f that relationship. The ongoing portfolio o f projects under execution and a major program o f AAA provide a propitious context for continuingwith a strong program o fBank support inthe future. 11.MEXICO'S NATIONAL DEVELOPMENT GOALSAND CPS OBJECTIVES 5. The Federal Government laid out its development strategy in the National DevelopmentPlan (NDP) for 2001-2006. The Planwas produced at a time o f political change in Mexico and it focused prominently on issues o f democracy and governance. The Plan defined three broad strategic goals: social and human development, quality economic growth, and order and security (see Annex I). It affirmed the hndamental importance o f poverty reduction as a primary goal of economic development and emphasized the importance o f increasing competitiveness and strengthening institutions. These underlyinggoals were supported by the CPS. 6. The monitoring matrix of the CPS was aligned with country development objectives taken from the NDP. The CPS gave emphasis to environmental concerns. However, since the CPS was not results-based, the matrix did not differentiate between CPS outcomes and country-wide outcomes. 111.CPS OUTCOMES The MacroeconomicContext 7. Mexico continued on a path o f steady economic growth averaging 3.5 percent a year throughout the CPS period and growth has been accompanied by a significant decline inpoverty. Exports have continued to grow involume terms andeven more so in value terms, buoyed by the rising price o f petroleum. Macroeconomic management has been good with inflation, as measured by the annual rise in consumer prices, holding steady at 3-4 percent inrecent years. Unemployment inthe formal sector o f the economy has likewise remained at a low 3-4 percent. An overall favorable economic performance has prompted international credit agencies to upgrade their credit ratings for Mexico. Standard & Poor's was the latest to do so in October 2007 when it raised Mexico's long- term foreign debt rating by one notch to BBB+ and increased the local currency rating from A to A+. However, sustained long-term growth will require a continuation o f structural and policy reforms, ranging from fiscal and social reforms to competitiveness reforms. 45 Table 1:Mexico Macroeconomic Indicators 2003-2007 (percent) 2003 2004 2005 2006 2007 (est.) RealGDP Growth 1.4 4.2 2.8 4.8 3.3* Gross Domestic InvestmentlGDP 20.6 22.1 21.8 22.0 21.8 Current AccountlGDP -1.3 -1.0 -0.6 -0.2 -0.8 Non-Oil CurrentAccount/GDP -2.9 -2.7 -2.6 -2.5 -2.4 Public ExternalDebt ServiceExports 14.3 11.8 10.2 13.9 7.1 Gross Public Sector DebtlGDP 50.0 46.0 44.0 43.5 42.5 CPI average annual change 4.0 5.2 3.3 4.1 3.8* Source: IMF: 2007 Article IV consultation- StaffReport. *Recently releasedgovernmentestimates. The CPS Vision 8. The CPS was designed to: (a) focus on issues where the Bank could bring technical expertise from a world-wide perspective in the context o f a relatively small number o f lending operations; (b) use programmatic analytical work in areas where the Bank could provide high value-added expertise; and (c) retain flexibility to respond to new opportunities that may arise during implementation o f the CPS. The partnership strategy recognized that "Bank lending provides a very small share o f public revenues and the government has ready access to alternative private financing". Inaddition, there were country-specific institutional constraints because line ministries are subject to an overall budget constraint so that Bank loans are not additional. As a result, the Bankhas concentrated on learningand knowledge sharing activities that contribute to the debate on key policy reforms. This strategy aligned World Bank and IFC support for the Government's priorities within the context o f four pillars: (i) reducing poverty and inequality; (ii)increasing Mexico's competitiveness; (iii)strengthening the country's institutions; and (iv) promoting environmental sustainability. Lending scenarios in the range o f US$0.8 to US$1.7 billion per year were proposed, with US$1.2 billion a year being identified as the most likelybase case outcome. 9. The CPS predated the Bank's results framework and did not identify core outcomes. Instead, it provided medium-termindicative country targets as benchmarks. It i s difficult to separate out clearly the contribution o f the Bank to overall country outcomes because the Bank program is only a small part o f the development effort. Indicators that attribute results to the Bank program are difficult to design and monitor. In middle income countries such as Mexico, it must be acknowledged that CPS outcomes primarily reflect the efforts o f the Government and the country. A successful Bank program o f lending and AAA i s supportive o f development outcomes to the extent that it effectively contributes to the policy agenda debate. A principal objective o f the CPS was to enhance the value-added o f the Bank through targeted analytical work with a view to assisting project and policy design. As a result, it proposed a bundling o f analytical instruments inkey areas o f opportunity supported by selected loan operations. 10. This section examines the outcomes for each CPS pillar. The medium-term indicative country targets established as benchmarks to monitor the Bank's performance 46 are projected for end-FY08. In addition to the country targets, the Bank aligned, where applicable, the medium-term country targets to the long-term Millennium Development Goals (MDGs) for 2015. Pillar I: Reduce Poverty and Inequality Overview 11. Mexico made steady progress in reducing poverty and income inequality during the CPS period. Considerable gains were made in reducing the number o f people below the official Mexican food-based poverty line. By that measure the number o f poor fell from 24.1 percent in 2000 to 13.8 percent in 2006. Urban populations are generally better off, with urbanpoverty falling from 11percent in 2000 to 7.5 percent in 2006. Rural poverty is considerably more prevalent and i s apt to fluctuate widely from year to year in line with agricultural output. Inrecent years, however, rural poverty has fallen markedly from 42.4 percent in2000 to 24.5 percent in2006. 12. As a result, Mexico remains on track for achieving the MDG goal to halve the number of people in extreme poverty by 2015. Poor households inrural areas have benefited from a stable macroeconomic environment, income diversification into non- agricultural activities, and increased spending in social programs including conditional cash transfer programs such as Oportunidades and Procampo. The introduction o f the Ley de Desarollo Social (Law o f Social Development) and the National Evaluation Council's social development strategy provide additional support for such programs. Income inequality, as measured by the Gini coefficient, fell between 2000 and 2002 although has risen slightly since then.12 Table 2. PerformanceIndicatorsfor Pillar I l2According to INEGI, the Gini coefficient was 0.528 in 2000 and fell to 0.501 in 2002 before rising to 0.502 in2004 and 0.508 in2005. 47 Bank Support for Poverty Reduction through Programmatic AAA 13. At the Government's request,the Bank supportedthe underlyingpolicybase for poverty reduction and assisted with the design, monitoring and evaluation of social protectionandpoverty-relatedprograms. The core instrument for Bank support has been the Poverty Programmatic AAA, which was developed incollaboration with the Social Cabinet, The work was organized inthree phases: (i)an overall poverty analysis (FY04); (ii) studies on urban and rural poverty and social protection systems (FY05); and (iii)analysis ofdecentralized hndingandthe delivery ofsocial services (FY06). In addition, the Bank approved an IDF grant to assist the Secretariat o f Social Development (SEDESOL) develop an integrated system o f monitoring and evaluation for social programs. A proposed CONTIGO SAL (US$300 million) in support o f the Federal Government's social policies was dropped, because the Government felt that the complex task o f coordinating implementation across ministries would present too high a risk. Subsequently, a loan in support o f continuing the Bank's programmatic analytic work and implementation o f its recommendations within SEDESOL was not made because authorities did not believe that external financing was needed. When a new government took office, Policy Notes were employed to convey the findings o f the work done to the incoming administration. 14. Three reports were produced: Poverty in Mexico: An Assessment of Conditions, Trends and Government Strategy (N04), Income Generation and Social Protection for the Poor (FYOS) and Decentralized Delivery for the Poor ( N 0 6 ) . The first report was discussed at the highest levels o f government, culminating in a presentation to the President o f Mexico and members o f the Cabinet in June 2004. The success o f the first phase established the Bank as an authoritative reference on poverty in Mexico. The Government approved the publication and dissemination o f the study, an unprecedented step inMexico for such a high-profile issue. The report generated nation- wide media coverage. A QAG assessment rated the first phase as highly satisfactory. President Fox referred to the recommendations o f the second poverty report in his 2006 budget submission. The reports have also contributed to the design and reform o f key social protectionprograms and to the debate on publicpensionreform. 15. The Bank was also able to draw upon programmatic poverty work in respondingpromptlyto other governmentrequests. Analytic notes and apresentation were prepared for the Presidency with a comprehensive review o f the social protection system, drawing upon ongoing work and the Bank's broader international experience. A policy dialogue on these issues i s continuing with the Calder6n administration. In addition, the Bank approved an IDF grant to assist the Secretariat o f Social Development (SEDESOL)in developing an integrated system o f monitoring and evaluation for social programs. 16. Complementary to Bank efforts, IFC expanded its support to help increase credit to micro- and small-enterprises through financial intermediaries. A US$15 millionpartial credit guarantee was made in support o f Mexico's first-ever bond issued by a microfinance institution. The bond issue provided a total o f $43.0 million to three financial institutions insupport o ftheir micro-credit operations. Inaddition, IFC invested US$45 million in a regional bank that focuses on SMEs and agribusiness. These 48 investments are aimed at generating jobs and thereby raising the income o f the underprivilegedpopulationto help alleviate poverty and inequality. 17. Poverty reduction would have been more rapid were it not for lagging real wages over the last decade. Creatingwell payingjobs has been a key government priority. With this inmind, the Bank initiated inFY07 a study entitled An Agendafor Growth and Employment which sought to identify the relationship between economic growth in Mexico, job creation and wage growth in order to develop policy options for the future. The study draws on international experience and on Mexico's own experience by region and sector. Basic Education 18. There was steady progress towards country targets in terms of educationand well being. The net primary enrollment o f children in rural areas increased from 91 percent in 2002 to 95.8 percent in 2005, suggesting that the 96 percent target may be surpassedby the end o f the CPS period. On the other hand, preliminary estimates show that less progress i s being achieved in secondary education. Secondary terminal efficiency stood at 78.8 percent in 2004-05, making it unlikely that the target o f 88 percent will be met unless there i s a concerted effort. 19. The key element of Bank support for education under the CPS was the programmatic AAA, including policy notes, seminars, and conferences. Programmatic AAA on education focused on the quality of educational outcomes. The objectives were to: (i) build a consensus on ways to improve the quality o f help education in Mexico; (ii) help to identify programs that were to be scaled-up; and (iii) help build a consensus for the public dissemination o f information on such issues as education outcomes, the benefits o f school autonomy, and strategies for empowering parents. To that end, discussions were held with a high-level government team. 20. A first phase report,Determinants of Learning Policy Note, was publishedin FY05. It analyzed the determinants o f learning in Mexico using data from the OECD's Programme for International Student Assessment (PISA), and complemented the analysis with national assessments, as well as new work on the returns to quality and bilingual education. The Bank's focus on quality o f education brought to the fore the issue o f testing and, in 2006, the government began an annual national assessment (Prueba ENLACE) o f students. To increase accountability, the results o ftesting have beenposted online. The annual national assessment i s an important achievement, marking the first time that the quality o f education in Mexico is being assessed in a comprehensive manner. 21. The Government is now putting quality at the top of the agenda, with the creation of an independent evaluation institute and by measuring educational attainmentthrough nationaland internationalassessments. Bank analytical work has also focused on the quality o f education for disfavored groups, and in particular indigenous groups and they are now monitored separately by the government. A mechanism has been put in place for continued dialogue on education issues through a steering committee and meetings at the state level. 49 22. A second phase of the educationAAA ledto a report,Mexico: Improving the Effectiveness of Education through Compensatingfor disadvantages, School-Based Management and Enhanced Accountability (FY06). An evaluation o f key education programs included: (i)bilingual education programs in indigenous schools; (ii) compensatory education and its interface with the conditional cash transfer program Oportunidades; and (iii) school-based management program, PEC. In collaboration the with other institutions, the Bank organized a conference on mobilizing public-private partnerships ineducation, drawing upon the experience o fbothdeveloping and developed countries. The Bank was also actively involved in meetings with government and the private sector, and made a presentation at a forum on accountability in education organized by the Instituto de Foment0 e Investigacibn Educativa, a private business group. The Bank continues to be actively engaged in the sector and additional AAA on Secondary Education is planned for FY08. 23. Analytic findings formed the basis o f Bank assistance for hard-to-reach populations through an APL inBasic Education, which now covers 25 percent o f schools, targeting those in poor rural areas. The work was also used as an input to prepare and appraise a School-Based Management APL (FY06) that supports Mexico's Quality Schools Program (PEC). The project supports Mexico's Quality in Schools Program which now reaches 10 percent o f schools and which seeks to improve quality by enhancing school autonomy, accountability and assessment. Support for access inhigher education includes Bank assistance for a scholarship program for poor students and specific initiatives to encourage indigenous students at secondary and higher levels to stay in school. The Tertiary Education Student Assistance loan (FY06) supports the sustainable and equitable expansion o f tertiary education through student loan and grant programs, compensatory incentives for disadvantaged students, and the development o f a national tertiary education policy. Progress under this operation has been slower than expected due to complex institutional and administration arrangements for the use o f loan proceeds. 24. A strategic focus o f the IFC has been to support investment inhumancapital. To that end, IFC committed a total o f US$45.9 million equivalent in two education sector projects, including (i)US$30.4 million for an affordable technical university that targets lower and middle income students and (ii) US$15.5 million, including US$0.9 million in equity, for a specialized non-bank financial institution that focuses on financing the higher education sector. The latter investment supports the development and expansion o f the private sector student loan market, thereby enabling less wealthy students to finance their post-secondary education with long-term loans. Health Care 25. Steady progress has been made towards health sector targets includingHIV among the young and malaria-related morbidity. The under-five mortality rate decreasedfrom 20.5 per 1,000 births in2003 to 15.7 per 1,000 births in2007, close to the target of 15 per 1,000 births. The maternal mortality rate decreased only slightly to 60 per 100,000 births in2006, from 63.9 per 100,000 in2002 andremains well short o f the target o f 45 per 100,000 births by 2008. Inthat respect, however, Mexico i s no different from other MICs, all o f which have found it difficult to make progress with this indicator. 50 26. Bank assistance inthe healthsector focused on providingcontinuingsupport for the 2003 reforms of the National Health Law which established a universal health insurance program, the Sistema de Proteccibn Social en Salud (SPSS). The Bank has supported increased access to healthcare by the poor through a three-phased APL. TheBasic Health CareProject 111(PROCEDES), approved inJune 2001,supports implementation o f the SPSS, specifically with respect to: (i)improving access o f the poor to the subsidized regime o f the Seguro Popular; (ii)restructuringand developing the State Health System; and (iii) strengthening the Secretariat o f Health as steward o f the SPSS, Early implementation problems resulted from unanticipated changes in the National Health Law which necessitated amendments to the loan agreement. During FY07, however, the project regained its footing and appears on track for successful implementation. Another health sector loan planned in the CPS, the Health System SWAP, has beenpostponedto FY10. 27. Onthe part o f IFC, investments for a total amount o fUS$19.5 million were made in two hospitals that complement the public sector healthcare. One o f the investments supported a hospital that focused especially on lower income patients while the other facilitated the opening o f an advanced medical facility. 28. There was progress in efforts to provide broader access for low-income households to housing and landownership. At the start o fthe Fox administration, the Government undertook to double the production o f formal-sector housing to 750,000 housing units a year by 2006; a goal that was achieved by 2004. A major success story has been the role o f Sofoles, specialized non-deposit taking financial institutions, supported by the Sociedad Hipotecaria Federal (SHF),which was chartered in 2001 as a federal development bank. These specialized financial institutions have made over 850,000 mortgage loans over the last ten years. 29. The Bank is supporting broader access to low-income housing and land ownership with a three phase Housing and Urban Programmatic DPL as well as TAL operations. The first US$lOO million loan, which closed in December 2004, supported: (i)the design and implementation o f a new national housing policy and accompanying institutional arrangements; (ii) the establishment o f home loans for low and moderate-income groups; and (iii) steps to harmonize housing subsidies and initial modernize urbanproperty registration systems. Inparallel, a coordinated national urban development policy was developed and implemented at the federal and local levels, with a focus on strengthening institutions and developing land for low-income housing. According to an IEG evaluation o f the first phase, the project was moderately satisfactory and its objectives were partially achieved. The second housing loan, which closed in June 2006, consolidated and deepened reforms made under the first loan. A TAL was approved in November 2004. It i s proceeding well and there has been good progress in the sector. The percentage of housing destined for lower income groups (households earning less than five times the minimumwage) increased from 49 percent in2005 to 53 percent in 2006. A third phase o f the DPL program was presented to the Board in the first half o f FY08. It focused on housing subsidy refom, the mainstreaming of housing micro-finance, andthe further modernization o fpropertyregistration. 30. Working inparallel to the Bank, IFC has helped increase access to lower income housing by providing finance for a total o f US$380.4 million to leading mortgage 51 lenders, as well as offering technical and advisory assistance on the institutional and policy framework for housing finance. IFC investments were leveraged to reach a greater numbero fhouseholds. Pillar 11: Increasing Competitiveness Performance Reference Goal for 2008 Result Comment indicator (year) Average number of 74 Below 45 74 I t is unlikely that the 2008 goal days required to (2004) (2006) with be reached without the register a new introduction of radical reforms. business Number of "popular 6.6 9.2 7.2 Progress is on track. banking" accounts (2004) (2005) (million) Expansion of NIA 6,300 4,723 I t is expected that the 2008 goal constructed and (2005) will be met. modernized highways (km) Number of 10,000 Unspecified 12,096 Progress i s satisfactory. researchers in (2003) increase (2005) national system 52 33. International competitiveness rankings improved over the CPS period. Mexico climbed significantly in the Bank's Doing Business index and, in 2008, was ranked 44'h out o f 178 countries. Mexico was ranked as the third top reformer in the world in 2006 and the top reformer in the Latin America region. Reforms that merit attention include: (i) strengthening investor protections with a new Securities Law; (ii) cutting the time to start a business; and (iii)reducing corporate income taxes from 33 percent in 2004 to 29 percent in 2006. The Global Competitiveness Index of the World Economic Forum, which provides a broadoverview o f factors that are critical for driving productivity and competitiveness, also shows progress. Mexico ranked 4gth out o f 122 countries in 2007/8 as compared with 52nd place in the previous year. The index registered relatively high scores for health care and primary education, efficient marketing and some aspects o f technology, but those positive factors were offset by institutional weaknesses. Bank Support with ProgrammaticM A 34. The Bank's programmaticCompetitivenessand Trade AAA had its origins in an earlier collaboration with the Government on issues of competitiveness. The Bank worked with the Office of the President to assist the Government in defining a national Competitiveness Agenda 2004-06. The success o f this assistance led to the elaboration o f the Programmatic Competitiveness and Trade AAA for FY05-FY08, which sought to broaden the dialogue on competitiveness to stakeholders beyond the executive andthe private sector. 35. The four year programmaticCompetitivenessand Trade AAA was initially structured in three phases. The first phase has supported the design and implementation o f the Mexican Competitiveness Agenda. The aim was not to produce an analytical piece on competitiveness, but to fill some key knowledge gaps that were necessary for the Competitiveness Agenda and to provide non-lending technical assistance to move the agenda forward. The second phase brings key policy messages into the public sphere. Policy Notes have also served that objective. 36. A report was published for both the first and second phases of the programmatic AAA. The two-volume first phase report, Mexico's Challenge of Knowledge-based Competitiveness: Challenges and Opportunities, argued that Mexico had to act now to take advantage o f the opportunities arising from the knowledge revolution. The second phase report, Mexico 's Competitiveness: Reaching Its Potential, informed policy makers, the private sector, and the public at large about competitiveness priorities and shortcomings. The focus was on measures to enhance Mexico's efficiency, generate jobs, and move the country to a more innovation-driven stage o f development. Focused analytic pieces included: (i) an assessment o f the quality o f infrastructure and key weaknesses o f the Mexican innovation system; (ii) assessment of the draft labor an law reform and its likely impact on indicators for Doing Business; (iii)a study of logistics costs and bottlenecks and (iv) an analysis of the impact o f tariff reforms on trade. The Bank has held discussions and briefings with major policymakers and stakeholders and has contributed to the competitiveness strategy of two state development plans. It has also made a series o f presentations to the new Senate Committee on Competitiveness. 53 37. The programmatic Competitiveness and Trade AAA had a number of positive impacts. The collaboration with the Government has been largely successful. The more focused analytical pieces were well-regarded by public officials, particularly for bringing an international perspective to the challenges faced by Mexico. More broadly, an important contribution o f the Bank was perceived to be its role in facilitating a consensus on the need for reforms. The success o f this work led to the approval o f the first Competitiveness DPL in FY05. That loan supported measures to enhance transparency and improve the regulatory framework to enhance competitiveness, The Business Climate 38. There has been an improvement in business registration. Rapid Business Opening Systems have facilitated new entry in 74 municipalities, although this has not yet led to a reduction in the average number o f days to register a business nationwide. FIAS carried out "Doing Business" analysis intwelve cities inMexico in2005, and in31 cities and states in 2007. IFC has undertaken pilot programs to simplify business registration and licensing at the municipal level. In addition, the Bank, with the participation o f IFC, is offering fee-for-service advice in the area o f investment climate reform for the Federal District. That effort will continue to focus on the procedures for opening a business. The state o f Guerrero i s currently working with IFC inimproving the investment climate through a partial fee for service. The creation o f the Senate Competitiveness Committee, to which the Bank made a series of presentations, has helped promote reforms to increase Mexico's competitiveness. Complementing the regulatory agenda, WBI has fostered a dialogue with over 500 business representatives through the Corporate Social Responsibility and Sustainability Competitiveness Course. Box 1. Equityand Competition Conference On November 27-28, 2006, the World Bank's Mexico Office and the David Rockefeller Center for Latin American Studies o f Harvard University organized an international conference to address the relationship between the unequal structure o f power and influence and the design o f economic institutions and policies in Mexico. The conference was organized into eight sessions: (i) overview o f the relationship between unequal influences and economic growth; (ii) mechanisms by which concentrated wealth and power inthe business sector and corporatist groups such as unions have distorted policy design and contributed to inefficient markets, which in turn has impacted negatively on economic growth; (iii) analysis o f unequal institutional structures on the oil sector; (iv) the insufficiency o f financial intermediation in Mexico; (v) analysis o f institutions and competition, focusing on the lack o f significant economic, political and social reforms despite a change inthe political regime; (vi) overview o f the social security system and its negative impact on labor productivity and growth; (vii) impact of monopolies and insufficient competition in the telecommunications sector; and (viii) implications for the future design o fpublic policies inMexico. Policymakers, market participants, politicians, and researchers attended the conference and contributed to a lively debate. The finance minister, Francisco Diaz Gil, gave a keynote speech. The proceedings were widely discussed inthe local media which emphasized the critical linkbetween equity and competitiveness, and suggested policy reforms needed to remove impediments to higher economic growth. A publication based on the proceedings of the conference i s currently under preparation with the support o f the David Rockefeller Center for Latin American Studies. Although this activity was not originally planned in the CPS, it provides a good illustration o f the way in which the Bank used the opportunity o f the political transition to bringto the public arena a subject o f vital importance. 54 Education for Greater Innovation 39. The Governmenthas madeprogressininnovationandeducationto makethe workforce more competitive. Building on the 2002 legal framework, Mexico has established 25 science and technology councils at the state level. The number of researchers inthe national research system(Sistema Nacional de Investigadores, SNZ) has grown at an average rate o f 10percent, increasing from 7,466 in2000 to 12,096 in2005. Public funding to SNI increased by 13.5 percent in 2005, representing a quarter of CONACYT`s budget. The Bank has been supporting these efforts through the Innovation for Competitiveness APL I (FY06) which aims to consolidate ongoing sector reforms in science and technology by strengthening programs for business innovation and human capital development. That includes: (i)promoting business innovation; (ii)financing scholarships; and (iii)supporting policies to strengthen the framework for science, technology and innovation and foster international linkages. Inaddition, Bank education loans will boost long-run competitiveness by training a more skilledworkforce. Infrastructure 40. Significant advances have been made in the provision of roads, electricity, and water, though gaps persist in poor, rural and indigenous communities. The Bankhasbeen supporting efforts to expand the coverage and quality o froads throughthe Decentralized Infrastructure Development Loan (FY04, US$108 million), a state level loan which provides financing to the State o f Guanajuato to strengthen its infrastructure strategy and planning. Progress has been satisfactory. The Bank also furnishedtechnical assistance related to highway finance reform and i s providing advice on a fee-for-service basis for the institutional reform o f toll roads. Additional support to the infrastructure sector was provided through the Infrastructure Public Expenditure Review (FY05), which analyzed the effectiveness and efficiency o f public infrastructure spending in water supply andsanitation, transport andelectricity. 41. During the CPS period, IFC supported Government efforts to encourage investments in infrastructure with the participation o f the private sector. IFC provided financing US$126.6 million (including US$50 million in equity and US$11 million for syndications) for innovative infrastructure projects. Support was furnished to one o f the first PPP road projects in Mexico and to a company interested in investing in future PPP projects, to a newly established affordable airline carrier, and to a recycling company. Box 2. IFC supportfor Public-Private Partnerships (PPP) In 2002 IFC funded and assisted "Partnerships", the UK technical assistance initiative to the Mexican authorities for the development of a Public-Private Partnershipprogram. The PPP programbenefits from both public and private sector expertise and is critical for the public services needs of Mexico, such as infrastructure, healthcare and education. IFC has provided advisory and technical assistance to the government in coordination with IBRD while, on the other hand, engaging with private sector companies interested in a PPP contract for specific projects. In FY07, IFC M s h e d a US$12 million equivalent partial guarantee in support o f the first project concessioned to the private sector under the program. That project consisted o f the expansion, upgrading, operation and maintenance o f a 74.3 km road between the cities o f Irapuato and La Piedad de Cabadas inthe State o f Guanajuato. The participation o f IFC helped to allay risks inproject implementation and reassuredthe market that the project was bankable. The project i s likely to have a demonstration effect for hture concession contracts. 55 Financial Intermediation 42. Mexico has made great strides towards consolidating the financial sector and has introduced reforms to increase competition. Since the first debt crisis o f 1982 and the effects o f the financial crisis o f 1994-95, Mexico has gone through a long process o f financial sector restructuring and consolidation. Growth o f the financial sector i s accelerating with increased competition. Inthe banking sector, there i s still a need for changes to the Credit Institutions Law. In the non-banking sector there i s a need to deregulate Sofoles and adjust the laws relating to trust, insurance and pension funds. In the bond market, new debt instruments are makingit easier to obtain financing by issuing domestic debt, while the Securities Law passedinDecember 2006 is expected to improve the functioning o f the stock market. The main Bank instrument for support to the financial sector was the Finance and Growth DPL (FY06). That operation supported a series o f financial sector reforms, including the Securities Law and strengthened oversight by corporate boards. This DPL replaced the Access to Financial Services project originally planned for FY07 inthe CPS. The 2006 update to the Financial Sector Assessment Program (FSAP) provided analytical support to other reforms, including the Banking Resolution Law. InFY08, the SHCP has asked the Bank to undertake a study o f competition in the banking sector. The principal findings o f the study, which covered such topics as the performance o f development banks, access to finance by SMEs, and micro-insurance, were presented to the Government inDecember 2007 and January2008. 43. The Bank Group has also supported access to financial services by sectors underserved by commercial banks. The US$505.1 million Rural Finance SAL (FY03) supported the liquidation of Banrural and the creation o f Financiera Rural, a decentralized financial institution in charge o f promoting the development o f rural financial markets and lending to small and medium rural producers. The'project also supported the Government's broader goal o f reducing the fiscal drain o f loss-making banks, while enhancing access to financial services for sectors not served by commercial banks. According to an IEG evaluation, as a result o f the project, the Government has made major inroads in reforming the rural finance market and in restructuring the financial sector. IEG rated the project highly satisfactory. The second phase of the Savings and Rural Finance Project (BANSEFI) has helped the Government strengthen more than 400 local savings and credit institutions and place them on a sound financial footing, thereby affording many low-income families with access to financial services that they would otherwise not enjoy. 44. IFC has complemented Bank assistance in the financial sector with support in a total amount o f US$578.8 million over the period FY05-08 for mortgages (including securitization), microfinance, banks, trade, and private equity funds. Making use o f advisory services when appropriate, IFC focused on promoting access to financial services for underserved retail entities while, in the case o f the corporate sector, helping increase the access o f MSMEs to debt and equity finance. In addition, IFC helped develop the market for education finance by investing in a mortgage institution (Sofol) that specializes inthe education sector. 45. The housing finance market has expanded rapidly in recent years. The Federal Mortgage Agency, SHF, has fostered the development o f Sofoles, special purpose, non-deposit private credit institutions, and has established the legal and 56 regulatory framework for a flourishing secondary mortgage market. The Bank supported the strengthening and expansion o f the private mortgage market through the FOVI Restructuring project (US$505.1 million, approved FY99), which extended support to the BankingFinance Fundfor Housing(FOVr) andto its successor institution the SHF. The ICR for this operation listed many accomplishments including assisting a program o f mortgage lending from 2000 to 2005 that financed some 290,000 mortgages for a total value o f US$7 billion equivalent. Since 2004, the SHF has supported asset-backed securities with guarantees for timely payment. 46. IFC has provided fhding and technical assistance to housing sector Sofoles and other mortgage providers, and it has continued to facilitate the development o f a secondary mortgage market development. IFC support has included remittance-backed mortgages, warehousing lines, partial credit guarantees and technical and advisory assistance. Since the SHF i s scheduled to stop direct funding for Sofoles in the coming years, IFC's efforts have been geared towards enabling Sofoles to seek fhding from the market on their own account and continue providing affordable mortgages to Mexican homeowners. Pillar 111Strengthening Institutions Overview 47. Duringthe CPS periodthere was a further developmentand consolidationof democratic institutions. The presidential elections o f 2006 resulted in a very narrow electoral victory that initially provoked strong protest and resistance from the defeated candidate. The strengthening o f democratic institutions is a declared objective of President Calderon. Specific measures to strengthen the democratic framework have followed. InJune 2007, for example, Congress approved a constitutional amendment making access to information a constitutionally protected civil right. 48. The strengthening o f democratic institutions did not immediately lead to a corresponding improvement in governance indicators. Mexico's ranking on the WBI Governance Indicators-Voice and Accountability, Government Effectiveness, Control o f Corruption-have not changed in statistically significant terms. Mexico's ranking in the Voice and Accountability indicator decreased to the 52"d percentile in 2006, from the 55th percentile in2002, makingit unlikely that it will attain the CPS 70thpercentile target by 2008. The same applies to other governance indicators for which benchmarks were specified inthe CPS. Inretrospect it would appear that the percentile rankingwithin the framework o f WBI indicators does not constitute an appropriate target for individual countries because the outcome also depends upon the performance of all other countries across the board. 57 Performance indicator Reference Goal for 2008 Result (year) Trend WBI Governance 66 70 61 N o statistically Indicator (2002) (2006) significant change "Government effectiveness" (percentile) WBI Governance 47 65 47 No statistically Indicator "Control of (2002) (2006) significant change Corruption" (percentile) Proportion of federal 40 75 51 Significant progressbut bidding carried out by (2003) (2006) less than target COMPRANET (percent) Public Finance Management 49. Strong institutions must be based on the sound management of public finances and the Bank has assisted in that endeavor with programmatic AAA, structured in three phases. The Bank assisted the Secretariat o f Finance and Public Credit (SHCP) through fee-based analytical services aimed at the modernization and reform o f public finances. The Bank also supported the federal public finances reform agenda through the Convencidn Nacional Hacendaria (CNH) and the Review of Federal Government Procurement, Financial Management and Disbursement Systems (FY06). This report evaluated the feasibility o f using country systems within World Bank financed operations. Progress on the recommendations o f the report has been mixed to date. However, there has been progress in Bank-IDB collaboration, especially with regardto project procurement and financial management. 50. States now have an enhanced role within Mexico's decentralized fiscal framework, they were the focus of important programmatic AAA. In FY05, the Bank completed the State-Level Technical Assistance to Establish Performance Indicatorsfor Procurement, Public Expenditure and Financial Management report. This assessed the performance o f sub-national fiduciary systems, with the aim o f providing state governments with a tool for assessing their performance. In FY06 the Bank produced another report, Improving Fiscal Transparency and Administrative Performance at the State Level, which was designed as a policy note for the new federal administration. Although the recommended state indicators have yet to be systematically adopted, the work done by the Bank has given an impulse to reexamine state-level accounting and to harmonize reporting. In 2006, the Institute for the Technical development o fPublic Finances (INDETEC), a public entity o f the National System o f Fiscal Coordination, published a report on general criteria for the harmonization o f budget and accounting, which drew upon the Bank's analytical work. One o f the outcomes o f this work has been an IDF grant to the State o f Aguascalientes, Strengthening Fiscal Transparency through Harmonized Accounting Systems (FY07), which aims to buildcapacity for harmonized accounting systems. It is also supportive o f federal-state partnerships. 58 51. An InstitutionalGovernanceReview (IGR) was completedin FY07. The IGR responded to a perception that the pace o f economic reforms has slowed inrecent years and it considers how Mexico's democratic governance may be strengthened over time. It was also designed to facilitate the country dialogue during the political transition and to contribute to the ongoing debate on political governance. The report has only recently beenpublished andit is too early to assess its impact. A Public Expenditure Review PER (FY05) concentrated on overall fiscal sustainability, rigidities in expenditure, the distribution o f benefits o f public spending between households by income level, the regional distribution of spending, and the institutions for budgeting and expenditure management. Other outputs include: (i) State Pension Suwey; (ii) Country Financial Accountability Assessment (CFAA); and (iii)Country Procurement Assessment Report (CPAR). The State Pension Suwey examined the sustainability o f state-level sponsored civil-service pension schemes, as these schemes are becoming a major fiscal burden on state public finances. A CPAR update was carried out duringFY07 and was delivered in FY08. At the request o f the new government, it focuses on issues o fprocurement. CFAA resources were re-allocated to the Accounting and Budgetary Harmonization Study (FY08-09), given the prominence o f this issue within Mexico's public finances. 52. The Bank actively supported the Convencidn Nacional Hacendaria (CNH), a six-month symposiumwhich aimed to bring about a nationalconsensus on reforms to the fiscal system at all three levels of government. InAugust 2004 a final meeting o f the Conventionendorsed a number o f reform proposals, which included the devolution o f sales tax to states and municipalities, reform o f the tax regime o f the national oil company, PEMEX, and the reform o f the public pension system. The Bank was invited to provide policy papers and strategy notes for the CNH and Bank staff commented on the emerging agenda, focusing on key issues o f transfer design, tax assignment and transparency inreporting. The Bank also helpedorganize a seminar o f federalism experts which was broadcast live to Congress and to 30 campuses o f Monterrey Technical University and, together with USAID, reviewed proposals that were made during the CNH. After the closure of the CNH, the Bank provided follow-up support, including non-lending technical assistance concerning the design o f indicators for state-level financial management and procurement. During FY08-09 the Bank plans to provide additional support for the harmonization accounting and budgeting at the federal, state and municipal levels, a goal that was embraced both by the CNH and in the 2007-12 National Development Plano fthe Calder6n administration. 53. The WBI has also made an active contribution to Bank Group support for strengthening institutions. Key capacity-building objectives pursued by WBI include strengthening the institutional capacity o f sub-national governments; improving transparency, voice and accountability; and fostering greater public-private cooperation in meeting development objectives. The WBI program has enjoyed a broad level o f outreach, to a large extent reflecting the strong partnershipthat has been established with the Monterrey Institute o f Technology (ITESM) and its Virtual University. 59 I Box 3. Reform of the Federal Civil Service Pension System I On March 28 2007, the Senate enacted legislation to reform the federal civil service pension system. The law provides for a 10-year lengthening o f the minimumretirement age, higher worker contributions and individual retirement accounts. As a result, the cost o f pensions to the federal pension agency (Znstituto de Seguridud y Sewicios Sociules, ZSSSTE) will be reduced over the medium-term. The reform will lead to a rationalization o f benefits by merging 21 different types o f benefit into four: old-age; disability; work risks; and healthcare. Those four categories o f benefit are similar to those that apply inthe private-sector system (ZMSS).The law also allows for portability o f pensions so that workers who change employment between the private and public sector remaining covered. There is to be a transition period in which older workers will remain under the currently defined benefit system, new employees will enter into the new defined contribution system and those currently on the payroll will be able to choose to remain in the current system o f defined benefits or migrate to the new system. The new pension finds will be administered by a public institution called Pensionisste for a minimumo f three years, after which employees will be able to switch to a private fund. The 2002 CAS envisaged an ZSSSTE programmatic structural adjustment loan, as well as technical assistance for the ZSSSTE. Although neither o f those loans was finalized, the preparatory technical work on pensions was later used by the Government. The contribution o f the Bank was to underscore the need for pension reform, and to undertake needed technical work. 54. The Bank has also made loans in support of the government's efforts to enhance fiscal management. The CPS envisaged a SAL in support o f Strengthening Public Finances but this was dropped when the government prepaid a number o f Bank loans and reduced its estimated need for additional quick-disbursing Bank finance. Instead, a loan i s envisaged for FY09 in support o f improved tax administration that would follow up on the ongoing Tax Administration Institutional Development project that was approved in FY02. Implementation o f that project i s proceeding well. By mid- 2007, the taxpayer base had been increased from 7.5 million to almost 9 million and the cost o ftax collectionhadbeenreduced from 1.43 cents per peso collectedto 1.17 cents. 55. The Bank has also supported efforts to strengthen fiscal managementat the local level. A modernization o f the property registry was supported through a Housing Urban Structural Adjustment Loan (HUSAL) and a Technical Adjustment Loan (HUTAL), which emphasized the need to articulate a national strategy and establish a new model for property registries. The strategy and the model have been defined and implementation has begun. In addition, a contract to provide fee-for-service advice for the modernization o fthe Federal District Registrywas signed inFY07. 56. While therewas goodprogress on the publicfinancialmanagementprogram, some planned justice related activities have been postponed or dropped. Nevertheless, a State Judicial Modernization loan was approved in FY05 for US$30 million. It supports the credit program o f BANOBRAS for state judicial modernization which aims at improving the institutional performance o f state judiciaries. However, disbursements have been delayed because BANOBRAS has been slow in concluding sub- loan agreements with the states. As a result, the proposed Access to Justice 11project planned for FY07 has been dropped and analytic work on Streamlining Commercial Justice has beendelayed. 60 57. IDF funded projects have been under implementation to support transparency and combat corruption. Inthat context the Federal Institute for Access to Public Information (IFAI), established in 2002, has a key role. The Strengthening of IF'AI project aimed to strengthen institutional capacities and to extend the federal experience to decentralized levels o f the public sector. The Creation of Laboratory of Documentation and Analysis of Corruption project funded: (i) creation o f a laboratory the o f documentation and analysis o f corruptioninUNAM,the nationalpublic university; (ii) the design and implementation of an index to measure `best practices' in public sector procurement; and (iii) the construction of a national system o f corruption research. Although the latter grant was controversial because it ranked the performance o f line ministries during a sensitive pre-electoral period, it represents an innovative example o f Bank involvement with academia and an attempt to implement the anti-corruption agenda. An IDF to the state o f Aguascalientes, approved in early 2007, will provide support for statewide efforts to harmonize accounting practices, which is hoped to provide an example for other states. Box 4. BankSupport for the GovernmentTransition I As Mexico entered the 2006 presidential election, the Bank stayed engaged throughout the three phases of the transition: pre-campaign, campaign, and actual transition. Three issues-poverty, jobs, and security- were identified as policy priorities for Mexico. To this end, the Bank consulted with political leaders and technical teams inpreparing a series o f Policy Notes and inpresenting analytical work. The Policy Notes, which were planned as part o f the CPS, were presented at a seminar with the incoming and outgoing Ministers and served to brief the new Government. WBI organized a National Forum on Democratic Governance inMexico in September 2006. The Bank also engaged in a strategic media presence and held discussions with the legislative branch, the first time the Bank did so inMexico. Pillar IV: Environmental Sustainability Overview 58. There has been significant progress on the Environmental Sustainability pillar, especially on the policy,legal and institutionalfront. The Bank's support aimed to: (i)integrate principles o f sustainable development into country policies and programs; (ii) address issues o f air pollution, solid waste management, clean energy technologies, and greenhouse gas emissions; (iii) water scarcity problem and high rates o f address deforestation; and (iv) promote sustainable natural resource management. Instruments to pursue this pillar o f support included programmatic analytical work, investment and development policy loans, and a series o f GEF and PCF grants. 61 Performance Reference Goal for 2008 Result (year) Trend indicator Increase renewable Not 1,700 964 The absence of a specified energy capacity specified (2005) baseline makes it difficult to (Mw) assess progress Projects for carbon 1 10 9 Ontrack to meet target financing under (2001) (2005) Clean Development Mechanism Number of 102 Less than 100 104 Given the problematic state overdrawn aquifers (2003) (2004) of aquifers in Mexico, the target is not likely to be met 59. Not all of the benchmark indicators for assessing progress in this pillar are likely to be met by the end of the CPS period. The indicators are to: (i)increase renewable energy capacity to 1,700 MW; (ii)to have at least ten projects for carbon financing under implementation as part of the Kyoto Protocol's Clean Development Mechanism (CDM); and (iii) reduce the number o f overdrawn aquifers to less than 100. Renewable energy capacity increased to 964 MW in 2005, and it would require a near doubling o f this capacity to reach the CPS target. On the other hand, there are nine projects for carbon financing under CDM, two o f which have been developed by the World Bank. Meanwhile, the number o f overdrawn aquifers increased over 2003-04. Water 60. The Bank made use of programmatic AAA as the instrument of choice for addressing challenges to the water sector in Mexico. The report, Economic Assessment of Policy Interventions in the Water Sector, delivered in FY06, provided a comprehensive framework to assess and prioritize policy interventions across urbanwater supply, irrigation, electricity andwater pricing, among others. The Infrastructure Public Expenditure Review, delivered in FY05, reviewed the allocation o f resources to infrastructure, including water and sanitation. The Water Public Expenditure Review, delivered in FY06, provides analysis and recommendations to better understand the options for implementing the new water sector law. The analytical work has improved understanding o f the implications o f policy interventions and enhanced public awareness o f the seriousness of water issues. Mexico faces a number o f challenges, includingthe need to address the overexploitation o f water resources, as more than 50 percent o f the groundwater utilized inthe country comes from overexploited aquifers, a situation which i s not sustainable inthe long-run. There i s need to review policies and subsidies interms o f their long-term impact and to reorient them to support sustainable water resource management. In addition there is a need to focus on water access for those without service or with limitedaccess. 61. The CPS planned a series of loans to accompany the programmatic AAA, not all of which have materialized. The Modernization of Water and Sanitation TAL (US$25 million), approved in FY06, assists in developing the tools and instruments for local authorities to improve water supply and sanitation services. Loan disbursements 62 initially suffered from a lack o f counterpart funding, but plans are now under way to use the remaininghnds o f the loan during2008. The Environmental Services project (US$45 million plus US$15 million GEF), approved in FY06, aims to enhance the provision of environmental services o f national and global significance and to secure their long-term sustainability. Existing programs would be strengthened and expanded and local payments for environmental services would be introduced inselected pilot areas. 62. Ongoing operations in the water sector are proceeding satisfactorily. The Decentralized Infrastructure Reform and Development Project (US$108 million), approved in FY04, supports operational improvements and investment in the municipalities of the State o f Guanajuato. To date, average efficiency o f water and sanitation services has increased, and 43 percent o f municipal water operators have extended their service by 10 percent or more. The Integrated Irrigation Modernization (US$303 million) project, approved in FY04, assists the Government to adopt a new model to improve the competitiveness o f irrigated agriculture and the efficient use of irrigation water through the establishment o f public-private partnerships, improved coordination within the public sector, and the adoption o f a demand-driven approach to investment. 63. There has been progress in terms of reaching the CPS quantitative targets for the water sector. The number of participatory water basin councils in operation increased from 1 in 2001 to 16 in 2004. The number o f groundwater committees operating increased to 41 in2004, exceeding the goal o f 40 by the end o f the CPS period. Access to water and sanitation has also increased. Some 88 percent o f the population now has access to safe water and 85 percent to sewer services in2005, reaching or surpassing the medium-tern country targets o f 88 percent and 78 percent respectively. However, overdrawn aquifers continue to be a problem. The Institutional Frameworkfor EnvironmentalSustainability 64. The main instrument used by the Bank for supporting principles of sustainable developmentin Mexico was a Programmatic EnvironmentalDPL. The government has made good progress in mainstreaming sustainability principles and the Bank has supported this agenda since 2002 through a Programmatic Environmental DPL. The first phase has now been completed and a second loan (US$200.5 million) was approved in FY06. An Environmental Mainstreaming Agenda for Sustainable Development (Agenda de Transversalidad) has now been adopted in energy, water, forestry and tourism with a view to improving the efficiency and effectiveness o f local environmentalmanagement. 65. The second phase of the EnvironmentalDPL supported the development of legal and regulatory frameworks, consolidating and deepening the impact of reforms. Progress to date on the legal and regulatory framework includes amendments to the Water Law (approved in 2004), the enactment o f a General Law for Sustainable Forestry Development and the passage o f the Ley General para la Prevencibn y Gestibn Integral de 10s Residuos. A package o f legal reforms and regulations to promote renewable energy are expected to be developed in FY08, under the third phase o f the DPL. Other expected actions in FY08 include: increasing from 14 to 35 the number of tourist destinations that have local action plans; developing and publishing new 63 guidelines for public participation in environmental management; adopting a unified energy-environment strategy, and adopting a national strategy for the mitigation o f climate change. Box 5. Reducing air pollution in Mexico City The Mexico City Insurgentes Bus Rapid Transit System (Metrobus) Project is a particularly important instrument for environmental improvement. This project is the f i s t transport initiative to be supported through carbon finance worldwide. The public transport system along the Insurgentes corridor carries 220,000 passengers per day and has reduced greenhouse gas emissions during its f i s t year by some 30,000 tons o f C 0 2 equivalent. The Bank has purchased these emission reductions through an ERPA (Emission Reduction Purchase Agreement). The project has also helped achieve a considerable reduction in local pollutants: a 23% reduction in particulate matter and a 50% reduction in CO. The traveling public has made significant changes in its mode of transport (approx 15% of them now use Metrobus rather than their vehicles). Traffic congestion has been reduced along the corridor, with dedicated lanes and restrictions on vehicles. As a result of these successes, the government is currently considering an agreement for the purchase o f additional emission reductions consequent upon expanding the rapid transit bus system to an additional 10corridors inMexico City. 66. A numberof GEF andPCFgrantshavebeen made in supportof measuresto reduce air pollution, improve solid waste management, promote clean energy technologies, and reduce greenhouse gas emissions. New projects undertaken during the CPS period relate to Methane Gas Capture, Large Scale Renewable Energy, and Climate Friendly Measures in Transport. The Methane Gas Capture project has supported the design, construction, and operation of the first ever methane gas power plant in Latin America to incorporate local and global environmental concerns. Using landfill gas that would have otherwise been released into the atmosphere, the project is powering city lights at night and the public transport system during the day inMonterrey. To date, approx 0.9 million tons of C02 equivalent have been eliminated as a result of the project. Building upon this success, the Bank has agreed to purchase emission reductions o f the expanded Monterrey landfill site. The project i s being replicated in the State o f Aguascalientes and could be extended to a number o f other cities. The Climate Friendly Measures in Transport (FY03) has helped design policies and measures to shift transport in Mexico City toward more climate-friendly, efficient and less polluting, modalities. In FY06, a Carbon Finance grant financed analytical support for the design and implementation o f Bus Rapid Transit systems in Mexico City. Overall, there have been more GEF and carbon finance programs than originally planned in the CPS. In addition, IFC made a US$ 15 million equity investment in a pioneering carbon trade project in Mexico, along with other countries in Latin America, for the sale o f reduced greenhouse gas emissions resulting from the treatment of animal manure infarms. Renewable Energy 67. The GEF and PCF have also funded renewable energy projects which have contributedto a reductioninpollution.In2005 constructionwas begun onLa Venta11, the first large-scale wind power plant inMexico (83 MW) located inthe state o f Oaxaca. 64 This plant began operations in October 2006 and is being supported by carbon credits through the Bank's carbon finance program. A previous project, L a Venta I, was constructed on a pilot basis but La Venta 11is the first independent power purchase project for wind inMexico. The recently approved Wind Umbrella (FY07) aims to reduce greenhouse gas emissions from power generation and promote investment inwind energy by supporting the first large-scale investment inwind energy. InFY06, the Large-Scale Renewable Energy Development project was approved. Its goal is to promote large-scale grid-connected wind energy in Mexico's southern states (Oaxaca), which have world- class wind resources. An incentive will be given to producers o f RE power through the Green Fund, a financial mechanism that will provide resources for renewable energy projects that reduce risks in energy supply, foster energy price stability, and benefit the regional and global environment. These issues were also addressed in policy notes submitted to the incoming Calderon administration. Forestry 68. The Bank supported Mexico's efforts to address deforestation through the ongoing Community Forestry 11loan. The first Community Forestry project, which closed in FY04 supported the Government's natural resource management strategy and increased the scope o f forestry-based income. An international seminar on community forestry sponsored by the project, contributed significantly to shaping policy with respect to national forests (particularly the National Forestry Law passed by Congress in December 2002). It also helped to develop the National Forest Information System which provides information on such issues as forest inventories, data on plantations, information on forest fire prevention, pest control, and legislation. The Community Forestry 11project (FY04) has assisted indigenous communities and ejidos (community managed lands) to strengthen community ties and better manage their forest resources in order to diversify forest-based production, create and strengthen community enterprises and increase incomes. Project progress has generally been good, although slower than expected in some components. A third phase, planned for FY09, would extend the programto more states. IV. OVERALL BANK PERFORMANCE A. The Lending Program 69. The CPS was predicatedon the premise that Bank lendingto middle income countries must be flexible and responsive to changing country circumstances. Hence, a discrepancy o f detailed content between the initial CPS program and actual outcomes i s not, in itself, a cause for concern. However, the lending program followed an unforeseen stepwise path over the period FY05-08. The first two years o f lending in FY05-06 were broadly consistent with the recent past and with the CPS. In FY07, however, there was an abrupt drop in lendingwith only one loan being approved for an amount of US$29 million. The outlook for FY08 is for a somewhat more active lending program but the total is unlikely to be much more than one quarter o f the US$1,200 millionenvisaged inthe base case scenario o fthe CPS. 65 70. There are several reasons for the abrupt FY07 drop in lending. The elections o f 2006 were a source o f exceptional uncertainty inMexico andmany administrative and project decisions were "put on hold". The Government made use o f buoyant foreign exchange reserves to prepay loans from the Bank andthe IDB. Prepayments to the Bank in an amount of US$5.1 billion reduced the country's outstanding IBRD debt by 56 percent from the outstanding balance o fUS$9.1 billion as o f September 2006. According to the analysis o f IMF staff, the prepayment operation left unchanged "the net external debt and the net domestic debt of the consolidated public sector, while generating interest savings (essentially because the interest cost of the prepaid external debt exceeded the interest earnings on NIR)".l3International rating agencies have praised the government for replacing foreign currency with local debt and have upgraded its sovereign credit rating. While the prepayment was not specifically tied to any change of planwith respect to new borrowing from the Bank, it clearly affected the overall dynamic o f the relationship. Furthermore, the Bank itself was going through an unsettlingperiod at the time with the resignation of the president and a change of country director andthat may also have impactedthe program. 71. The prepayment o f IBRD loans and the FY07 drop in lending does not presage a ruptureinthe Bank's relationship with Mexicobut rather a change inthe dynamic o fthat relationship. There i s still an active portfolio o f Bank-supported projects being implemented as well as an active program of AAA all of which engender a broad range o f Bank-client relationships at both the operational and policy levels. There is, therefore, fertile ground for restoring a program o f significant size consistent with country requirements. 72. Furthermore, the Bank has been and remains price-competitive as a source of external finance for Mexico. Diagram 1 below shows that the yield on Mexican government bonds issued in 2005 and 2006 was significantly higher than the charges on Bank loans. Hence Bank presented a cheaper alternative source of finance for the government. l3IMF:StafSReportfor the 2006Article IV Consultation, dated August 9, 2006, page 20. 66 Diagram 1: Mexico: Primary Market Bond Issues (10/11 year maturity) 2017 Bonds in USD Issued in March 2006 2015 Bonds in Euros Issued in June 2005 4 60%~- - - - _--_______I Yield at Launch CorrparatrveWB Loan Yield at Launch CorrparativeWB Loan Amount Issue Maturity Maturity Coupon Yield a?Launch ComparativeWB Loan (mm) Currency Date Date (years) ("/a) (%) (XI 3500 USD IO-Mar-06 15-,an-17 11 5 63% 5 7 5 1 5 55% 750 EUR 16-Jhn-05 16-JJn-15 10 4 25% 4 36% 3 86% 1793 LSD 14-Oct-03 15.,an-14 10 5 aa% 6 0646 5 02% 750 EdR 10-Jun-03 10-Jun-13 10 5 380,~ 5 50% 4 67% 2000 USD 16-Jan-03 16-Jan-13 10 6 3av0 6 57% 4 76% Source B!oomberg I/ComparativeWBLoan=fixedrateequivalentofprevailingFSLloanchargesatthatdate. 73. Diagram 2 below shows the yield o f government 10 year bonds on the secondary market during the four year period 2004-08. The spread over USD LIBOR has exceeded the cost o f Bank loans by a significant margin except for a very brief period in2007. As of January 4,2008 the secondary market spread on government 10 year bonds was 79-88 basis points greater thanthe corresponding cost o f Bank loans. Diagram 2: Mexico: Secondary Market Spreads over USD LIBOR of 10-year bonds and IBRDfast-disbursing (DPL) loan (All-in Pricing) (Jan 2004 -Jan 4th, 2008) 9 bps 0 bps Sources: Bloomberg and IBRD 67 74. For its part, IFC sharpened its focus on high impact areas, responding to the upgrading o f Mexico's sovereign credit ratings and the return o f liquidity inthe Mexican market. IFC commitments were US$266.0 million per year on average in FY05-07, following the historic high o f US$447 million reached in FY04 when demand for IFC's assistance was elevated due to the scarcity o f long-term financing caused by a capital retreat from Latin America in the preceding years. Similarly, funding from international banks through the B loan program decreased significantly during this period to US$17.5 million. 75. Total lending in FYOS-OS reached US$2.7 billion through the first half of FYOS. It i s difficult to compare planned and actual outcomes for lending by pillars because many operations serve multiple objectives. Subject to that reservation, however, it would appear that actual lendingoperations for the poverty and competitiveness pillars were close to plannedlevels, but lending for the environment pillar was significantly less than originally envisaged. Two loans programmed for FY07, Water Policy Development DPL & TAL, and Water Rights were dropped and a third, Environmental Management, has beenpostponed to FY10. 76. There were significant differences between planned GEF and PCF grants and actual deliveries during the CPS period. O f ten planned activities for FY05-08, three have been dropped but, at the same time, several projects that were not planned in the CPS have been approved in FY06 and are planned for FY07 and FY08. This discrepancy i s consistent with operational needs in cutting-edge areas where the requirementso f the client country are constantly reassessedon the basis of experience in the field. More importantly, outcomes o f the activities supported by GEF and PCF grants have been generally very positive. B. Portfolio Quality 77. The quality of the portfoliowas satisfactorythroughoutthe CPS period.The disbursement ratio averaged 28 percent during the first three years covered by the CPS. This was higher than the regional average for FY05 and FY06, and rose considerably in FY06, to 35 percent, in part because o f four development policy loans disbursed that year. The statistics for problem projects, projects at risk and commitments at risk are in general better than the regional average. 78. Since March 2004 the average lag between loan approval and loan effectivenesswas 8.8 monthswhich is somewhat higherthan the Regionalaverage of 8.2 months. Following the Country Portfolio Performance Reviews (CPPR) conducted in FY05 and FY06, actions have been taken to speed up project implementation and effectiveness. 79. The portfolio had four problemprojects of which three pre-dated the 2004 CAS. There were also significant cancellations during the CPS period, with US$596m cancelled in FY05, the second highest amount in the Bank in that year. Of particular significance were cancellations relating to a municipal development project and an e- business project. 68 Total Satisfactory Likely Institutional Evaluated Outcome (%) Sustainability (%) Impact (%) USSm No US$m No USSm No USSm No Mexico 2,957 21 98.0 88.8 95.2 83.4 99.2 94.3 LAC 13,681 196 91.3 85.1 65.8 56.1 91.2 84.9 Bankwide 52,757 852 87.1 80.5 63.8 55.6 89.1 81.6 C. Programmatic Advisory and Analytical Activities (AAA) 82. The CPS gave prominenceto AAA in keepingwith the Bank's MIC strategy. The Government's reform agenda provided the key point of departure for AAA. The programmatic structure resulted in a coherent approach to analytic work and 69 facilitated the process o f debate and consensus with respect to the reform agenda. The Government has recognized the high-quality o f Bank analysis. The catalytic role o f the Bank and the increasingly participatory nature o f AAA have led to greater ownership of the recommendations by key stakeholders. The broad framework o f the analytical agenda has also led to correspondingly broad exchanges between the Bank, government officials, Mexican academia and other institutions. Significant efforts were made during the CPS period to improve dissemination, with several reports widely disseminated and debated. Analytic work provided opportunities for stocktaking and raising awareness o f key issues, as well as pointing the way to approaches that could be adopted by the Government. The number o f AAA translated into Spanish increased and, in many instances when reports were not translated, the executive summaries were. This is a marked improvement compared with past World Bank analytical work for Mexico which previously sufferedfrom weak dissemination and limitedtranslation o f report^.'^ Fiscal AAA Total Costs Average AAA Cost Average AAA Cost year Delivered (US% 000) (US$ 000) For LC region (US%000) 2003 6 1,432 239 113 2004 8 1,542 193 129 2005 8 1,724 215 163 2006 6 1,416 236 208 2007 8 1,308 164 189 0.Fee-based Services 83. The CPS foresaw a continueduse of fee-based services. Inthe CPS period, paidadvisoryservices were undertaken insupport o f (i) institutional reform of toll roads (FY06-07); (ii)analysis o f the mortgage market at the request o f the Sociedad Hipotecaria Federal (FY06); (iii) the Government o f the Federal District inits efforts to improve competitiveness (FY06); and (iv) modernization o f the accounting information system for SHCP (FY06). There are likely to be additional advisory services before the end o f the CPS period. The steady increase in the provision o f fee-based services has been client-driven and is indicative o f the client's high regard for the breadth and depth o f international experience that the Bank i s able to bringto the table. E. Safeguards and Fiduciary 84. The CPS expressed the desire of the Bank and the government to move towards greater reliance on country processes in procurement, financial management and safeguards. Country systems are already being used inmost areas of project financial management and partially employed in procurement, and the Bank is continuing to work with the government and the Inter-American Development Bank l4This was the conclusion of the QAGCountry AAA Assessment, covering the period FY01-03, and continued to be true for the following years. l5Includes non-lending technical assistance and supplemental tasks. 70 (IDB) to improve the procurement system and harmonize financial management requirements around existing country processes. Inprocurement, Bank-financed projects have partially employed the Government's systems. F. Financial Instruments 85. Collaboration with the Government duringthe previous CAS and the current CPS period has focused on the use o f the Bank's menu o f lending andnon-lending products to manage the Government's financial risks within the context o f Mexico's sovereign debt management strategy. In this regard, the Bank and the Government have finalized the negotiation o f a Master Derivative Agreement (MDA), to be signed early in 2008, which will enhance Mexico's capacity to manage the financial risks in its debt portfolio by having access to a range o f Bankhedgingproducts. These products can be usednot only for Bank obligations, but also to manage the financial risks o f other sovereign liabilities. In addition, a high priority was given to the use o f World Bank financial products in order to transform the Bank obligation o f Mexican States and local governments into Mexican Pesos, and providing access to Bank funding and technical assistance through on-lending programs via Mexico's national development banks. 86. Mexico was the first country, both regionally as well as globally, to take advantage of the World Bank's local currency financing facility. So far the loan agreements for the following projects have employed this feature: the Decentralized Infrastructure Reform and Development and State Judicial Modernization (both approved in FY04), and a US$9 million component o f the Tertiary Education Student Assistance (approved in FY06 but dropped in FY07). In all three cases, the ultimate beneficiary o f the World Bank's financing is not the Federal Government, but Mexican stateswhich can access long term peso financing at competitive terms through this arrangement. By end- 2007, four disbursements in pesos had been made equivalent to US$88 million for the Decentralized Reform and Development Project, allowing the Government o fthe State o f Guanajuato to obtain local currency fbnding with a final maturity o f 18 years and a 3- year grace period. Pricing was referenced to 182-day Certzjkados del Tesoro (Le., 6- monthMexican Treasury rate) with a fixed spread based on market conditions when the loan disbursements took place. 87. Inthe course of the CPS period and with buoyant foreign exchange reserves the government became increasingly cost conscious with respect to borrowing from abroad. Financial cost issues were one factor contributing to the reduction in Bank lending at a time when Mexico enjoyed buoyant foreign exchange reserves. In September 2007 the Bank simplified its loan structure and cut lending rates with the intent o f making the Bank "better, faster and cheaper". As a result, the average cost saving is about 17 basis points for DPLs and 32 basis points for investment loans, with the previous complex system o f charges and waivers having been eliminated. The new financial arrangements should make the Bank's financial products more attractive to Mexican governments, both federal and local. The Bank will also extend maturities available to borrowers for up to 30 years, fbrther improving the competitiveness o fBank loans. 71 G. Collaboration with Other Donors 88. There are numerous examples o f successhl collaboration between the World Bank and the Inter-American Development Bank (IDB), which is the most active development partner o f the Bank and the Government. There has been collaboration in the education sector, social protection, training, procurement, project financial management, public administration and housing. During the CPS period, this has included joint work to standardize bidding documents, as well as collaborating on the evaluation o f the Federal Government's procurement policies and practices. Inaddition, there has also beenjoint support for financial sector reforms with complementary policy based loans, together with coordination in financial management aimed at harmonizing auditor selection processes and audit terms o f references by jointly working with the Secretariat o fPublic Administration (SFP) which supervises project auditing. V. LESSONSLEARNED 89. Reference has already been made to the need, clearly acknowledged in the CPS for the Bank to be "flexible to respond to windows o f opportunity which may arise during the CPS period". Experience confirms that lesson and indicates that there are multiple facets to the principle o f flexibility that should be applied. Recently, the Bank has adopted guidelines for increased flexibility for well-performing middleincome countries. 0 Lesson: The experience o f implementing the 2004 CPS suggests that a flexible CPS i s an appropriate way to structure the Bank's program in Mexico. It has already led to positive outcomes. Innovative thinking i s an important facet o f flexibility. 90. Now that Mexico has effectively made the transition to a multi-party democracy, Government policies and programs are more likely to be affected by the electoral cycle than was previously the case. The 2007 presidential elections and the transition period that followed clearly affected the interest o f the Government in new borrowing and the implied policy commitments. The Bank should align the time-frame o f the country strategy with the electoral cycle to better ensure policy continuity during program implementation. That would have the additional advantage o f aligning the time-frame o f the CPS with the national development plan. 91. With an increasingly strong external financial position, the Government has become more cost-conscious inborrowing from abroad. 0 The Bank should communicate clearly to the Government and to civil society in Mexico that it has been and continues to be a price-competitive source of foreign exchange finance. The Bank should also make hlluse o f recently introduced, streamlined and lower-cost lending instruments indesigning its lending program. 92. It has proven very difficult to separate out clearly the contribution o f the Bank to overall country outcomes. Indicators that attribute results to the Bankprogram o f support are difficult to design andmonitor. 72 0 Lesson: In middle income countries such as Mexico, the Bank should acknowledge that CPS outcomes primarily reflect the efforts o f the Government andthe country. 93. AAA has played an important and growing role in the country relationship with Mexico. Inmany cases, free-standing AAA can contribute directly to the Government's development effort. In other cases, an effective way to take the country development program forward is to structure Bank-supported projects that can serve as a framework for implementing the findings o f AAA. The project structure and the disciplined procedures associated with that structure can be helphl to the Government even though it may have no need to borrow for purposes o fresource transfer. 0 Lesson: Where applicable, the symbiotic role o f AAA and lending should continue to be used in Mexico as a framework for developing a more complete program o f Bank support. 94. Projects supported by Bank lending sometimes encountered problems o f contracting and procurement. The view o f the Mexican authorities i s that their own procurement procedures are well developed and effective. 0 Lesson: The Bank should focus on streamlining its contracting and procurement requirements and should incorporate country systems to the extent possible. 95. Inmany cases Bank assistance has effectively mobilized international expertise on key development issues o f interest to Mexico. 0 Lesson: The Bank should work closely with other international agencies in its program o f assistanceto Mexico. 73 Annex I Mexico NationalDevelopment Plan 2001-2006 development opportunities; promote education for the development o fpersonal capacities as well as o f individual and collective initiatives; strength social capital and social cohesion; and promote development inharmony with nature and the environment. Quality economic growth Manage the economy ina responsible manner; increase and expand country competitiveness. Order and respect Defend the independence, sovereignty and integrity o f the country; design a national security strategy inthe context o f democracy and constitutional order; contribute to ensure that public policy occurs within a framework o f democratic governance; build a responsible, balanced and productive relationship betweenthe states and the federal government; reduce the levels o f corruption and provide transparency inthe management and performance o f the federal public administration; guarantee public security; and guarantee an expeditious and efficient judicial system. Mexico Country Partnership Strategy, FYO5-08 CPS Pillars Strategy Reduce poverty and Support to design, monitor, and evaluate social protection and poverty related inequality programs under CONTIGO framework; increase access to and quality o f education; include the poor insocial services both on the supply and the demand sides; increase efforts to provide broader access to low-income housing and land ownership; increase equity o f public spending at Federal and State level; facilitate inclusion o f indigenous groups, as well as women. Increasing Disseminate international best practice and policy analysis to expand competitiveness macroeconomic and sectoral policy awareness; enhance market efficiency and increase competitiveness; develop financial markets, improve access to financial services, and expand property ownership opportunities; promote good corporate governance and social responsibility; integrate PYMES and rural sector into the global economy; expand coverage, improve quality, and reduce cost o fbasic services and infrastructure, as well as address regional development and market disparities; support to improve work force skills, innovation and product quality. Strengthen institutions Increase dissemination o f WBG's analytical work and knowledge sharing with all branches o f government and civil society organizations; support to improve macroeconomic forecasting, budgeting, fiscal reporting, and tax administration; support the professionalization o f the civil service; strengthen the capacity o f subnational governments; provide access to justice for the poor and improve commercial courts performance. Promote environmental Integrateprinciples o f sustainable development into country policies and sustainability programs; address air pollution, solid waste management, promote clean energy technologies, and reduce green house gas emissions; address water scarcity problem and highrates o f deforestation, as well as promote sustainable natural resource management. 74 . 0 w w. - 6 - m & 0 26 ?as .- .r2.c gY i .EM 0. . . . . . . . a 0 D a a Q- W W W W 0 W W 0 W W W W . . . . W . a . . c . . W W W. w. Annex 111: Planned Lending Program and Actual Deliveries FY Planned US$M Current status US$M Tertiary Education Financing I1 200 Movedto FY06 CONACYT I1 200 Actual (Innovation for Competitiveness) 250 Lifelong Learning & Training SWAP 200 Moved to FY09. Water Resources Mgmt 100 Dropped Highway Finance S A L 300 Dropped 2005 Environmental S A L I1 200 Movedto FY 06 Additional projects State Judicial Modernization(FY04) 30 Basic Development Education I11(FY04) 300 Housing Technical Assistance (FY04) 8 TOTAL FY 2005 1,200 TOTAL FY 2005 588 Education Quality SWAP 300 Actual (School-based Mgt APL) 240 Access to Land for Young Farmers 100 Actual 100 Property RightsProgram 100 Dropped CONTIGO SAL 300 Dropped Housing & UrbanProg SAL I1 100 Actual 201 Strengthen Public Finances S A L 300 Dropped 2006 Additional projects Tertiary Education Student Ass. (APL I) 180 Environmental services 45 Modernizationo f Water & Sanitation TAL 25 (advanced from FY08) Environmental D P L I1 201 Competitiveness DPLI 301 Finance and GrowthDPL I 501 TOTAL FY 2006 1,200 TOTAL FY 2006 1,794 Health System SWAP 300 N o w planned for FY09 Access to Financial Services 300 Dropped Water Policy Develop. SAL+TAL 350 Dropped Access to Justice I1 50 Dropped 2007 Water Rights 100 Dropped Environmental Management 100 N o w planned for FY 10 Additionalprojects Savings and Credit Sector Strengthening 29 TOTAL FY2007 1,200 TOTAL FY2007 29 79 Annex I11(continued) FY Planned US$M Current status US$M Decentralization Infr.Develop. I1 250 Nowplanned for FY 09 Housing and Urban Program SAL 111 200 Actual 201 E-Business I1 100 Dropped Water & Sanitation Modernization 300 Moved to FY 06 Irrigation & Drainage .Modem. I1 300 Nowplanned for FY09 Community Forestry 111 50 Nowplanned for FY 09 2008 Additional plannedprojects Actual: BANSEFI Additional Financing 21 Actual: IntegratedEnergy Services 15 (Rural Electrification) Climate Change D P L 500 ITDevelopment 80 TOTAL FY 2008 1,200 TOTAL FY 2008 Approx. 800 80 Annex IV: Planned GEFlPCF and Actual Deliveries FY Planned US$M US$M US$M US$M GEF PCF Current status GEF PCF Large-scaleRenewable 25.0 Movedto FY 06. 25.3 2005 Energy Development LandfillMethane 20.0 Actual (Waste Mgt & CarbonOffset) 0.9 TOTAL FY 2005 $25.0 $20.0 TOTAL FY 2005 25.3 0.9 RuralElectrification 5.0 Movedto FY 08 EnvironmentalServices 10.0 Actual. 15.4 Wind Umbrella 10.0 Movedto FY07 Additional projects Enabling Activity onPersistent 0.5 Organic Pollutants IntegratedEnergy Services for Small 15.0 Localities of Rural Mexico Large-scaleRenewableEnergy 25.3 (fromFY05) Mexico Transport Corridors (fiom(FY07) TOTAL FY 2006 $15.0 $10.0 TOTAL FY 2006 Mexico Transport 10.0 Movedto FY 06 Corridors PEMEXRefinery 8.2 Movedto FY 09 Cogeneration Sustainable LandMgt Dropped. Additional projects HybridSolar Thermal Project 49.0 SacredOrchids of Chiapas 1.o I I Wind Umbrella (from iY06) $12.3 ~ TOTAL FY 2007 I $10.0 I $18.2 TOTAL FY2007 $50.0 Bagasse Cogeneration 5.0 Dropped. 5.0 Gulfof California 20.0 Dropped. Additionalprojects Actual: IntegratedEnergy 15.0 MesoamericanCoral Reef System 1.o ChihuahuaLandfillCarbonFund 3.5 BundledGas RecoveryProject 6.0 Biomass Co-generation 4.6 $5.0 TOTAL FY 2008 $16.0 $19.1 81 Annex V: Planning Non-Lending Services and Actual Deliveries FY Planned Cur;rentstatus Poverty Programmatic I1 Delivered FY 05 (Income generation & Social Protection for the Poor) Quality o f Education Programmatic I DeliveredFY 05 Landreform Dropped. Competitiveness & Trade Programmatic I DeliveredFY 06 Public Finances and Management Programmatic I DeliveredFY 06 (FM & PR Country Systems) 2005 Sectoral Public Expenditure Review I DeliveredFY 05 (Infrastructure PER) Broadening Access to Justice DeliveredFY05 Water Programmatic I DeliveredFY 05 (Eco Ass o f Policy Inter. Water) Environmental & Social Standards Review Dropped. AdditionalAAA Rural Povertv Analvsis (FY04) Poverty Programmatic I11 DeliveredFY 06 (Decentralized Delivery) Quality of Education Programmatic I1 DeliveredFY 06 Competitiveness & Trade Programmatic I1 DeliveredFY 06 Public Finance Mgt Programmatic I1 2006 Sectoral Public Expenditure Review I1 Moved to FY 07 DeliveredFY 06 (Water PER) Streamlining CommercialJustice Dropped. Water Programmatic I1 DeliveredFY 06 (Eco Ass o f Policy IntWater 11) Economic Instruments for Environmental Mgt Dropped. Disaster Management (Risk + insurance) Dropped. 82 Annex V (continued) Planned f Poverty Programmatic IV Dropped. Quality o f Education Programmatic I11 Dropped. IMSS Study Dropped. Rural Decentralization Dropped. Competitiveness & Trade Programmatic 111 Dropped. Second Generation PensionReform Dropped. Public Finance Mgt Programmatic I11 CPARupdate Delivered FY08 State Pension Survey Delivered FY07 Policy Notes DeliveredFY07 (Political Transition) Country Partnership Strategy Planned for FY 08. Water Programmatic I11 Dropped Additional AAA IGRDeliveredFY07 Political Transition TA Delivered FY07 2007 Business Process TA Delivered FY07 Equity/Competition Conference (Delivered FY07) -08 2006 FSAP Update (Delivered FY07) Agricultural Trade (FY08) An Agenda for Growthand Employment (Delivered FY07) Financial SectorEompetition (FY08) Electricity Subsidies (FY08) Secondary Education(FY 08) Agriculture PER (FY08) Fee-based Services BANOBRAS Strategy (FY08) Guerrero State (FY08) CONEVAL(FY08) SEDESOL (FY08) SociedadHypotecaria Federal (FY08) SHCP (FY08) SCT (FY08) 83 Annex VI: Activities Undertaken during the CPS Period Pillar I-Reduce Poverty and Inequality Country Development Activities UndertakenduringCPS Period Objective 1.1 Strengthen social capital Support to design, monitor, and Proiects/activities alreadv under way at start of CPS: and social cohesion evaluate social protectionand IDF-Sedesol InstitutionalCapacity Building(FY03) poverty relatedprograms under Poverty in MexicoIAAA (FY04) Contigo framework Proiects/activities undertaken durine CPS: Poverty in Mexico I1AAA (FY05) Rural Poverty Analysis AAA (FY05) 1.2 Improve levelsof Support to increaseaccess to and Proiects/activities alreadv under way at start of CPS: education and well-being quality of education Higher Education Financing (FY98) Training Mechanism AAA (FY04) Proiects/activities undertaken during CPS: Education Quality IAAA (FY05) Basic Education Dev 111(FY05) School Based Management APL (FY06) Tertiary Education Assistance (FY06) Quality of Education I 1AAA (FY06) Support to includethe poor in Proiects/activities alreadv under way at start of CPS: social services both on the supply Basic HealthcareProject 111APL (FYO1) and demand sides Proiects/activities alreadv undertakendurine CPS: Poverty in Mexico I11(FY06) Job Growth andJob Quality in MexicoAAA (FYOI) Support efforts to provide Proiects/activities alreadv under wav fat start of CPS: broader accessto low-income Govt Housing FundRestructuring (FOVI, FY99) housingand land ownership Affordable Housing& Urban DPL I(FY04) Proiects/activities undertaken durinp CPS: Housing and Urban T A (FY05) Access to Land for Young Farmers(FY05) Affordable Housing& Urban DPL I 1(FY06) Affordable Housing& UrbanDPL 111(FYOS) 1.3 Increase equity and Support to increase equity of Proiects/activities undertaken during CPS: equality of opportunities public spending at Federal and Poverty in Mexico 111AAA (FY06) State levels Support efforts to facilitate Proiectslactivities alreadv under wav at start of CPS: inclusion of indigenous groups, as IDF-Strengtheningof Indigenist Institute(FY02) well as women Gender Equity Project Generosidad LIL(FY02) IDF-Dev Frameworkto Improve Municipal Governance (INDESOL, FY03) 84 Annex VI: Activities Undertakenduringthe CPS Period PillarI1-IncreasingCompetitiveness Country Development WBG PartnershipStrategy ActivitiesUndertakenduringCPS Period Objective 2.1 Managethe economy in a Disseminateinternationalbest Proiects/activitiesalreadv underwav at start of CPS: - responsiblemanner practiceandpolicy analysisto PublicExpenditureReview AAA (FY04) expand macroeconomicand sectoralpolicyawareness Proiects/activitiesundertakendurine CPS: Infrastructure Pub Exp Rev AAA (FY05) 2.2 Increaseand expand Supportto increaseaccessto and Proiectslactivitiesalreadv underwav at start of CPS: country competitiveness qualityof education InvestmentClimate Assessment HighwayMaintenanceLoans(FYO1) Proiects/activitiesundertakendurine CPS: Competitiveness&Trade I1AAA (FY06) CompetitivenessDPL (FY06) Equity and Competitionconference(FY07) Support efforts to develop Proiects/activitiesalreadv underwav at start of CPS: financialmarkets, improveaccess SoutheastRegionalDevelopmentLIL (FYOl) to financialservices,andexpand Savings& Credit SectorStrengthening(FY02) propertyownership Rural Finance DevelopmentSAL (FY03) opportunities Savings& RuralFinance(BANSEFI,FY04) Saving& Credit SectorStrengthAF (FY07) Savings& Rural FinanceAF (FY08) Proiects/activitiesalreadv undertakendurineCPS: Finance & Growth DPL (FY06) Support to promote good Proiects/activitiesundertakendurine CPS: corporate governanceand social WBI courseson CorporateSocial Responsibility& responsibility SustainableCompetitiveness,Government-business dialogueson CSR 2.3 Promotebalanced Support effortsto expand Proiects/activitiesundertakendurine CPS: regional developmentthat coverage, improvequality,and DecentralizedInfrastructure Dev @IRD, FY04) includesall segmentsof the reducecost of basic servicesand HighwayMaintenanceLoans(FYOl) population infrastructure,as well as to address regionaldevelopment and market disparities 2.4 Promoteeducationfor Support to improvework force Proiects/activitiesundertakendurine CPS: the developmentof personal skills, innovationand product Innovation& Competitiveness(FY05) capacitiesas well as quality individualand collective initiatives 85 Annex VI: Activities Undertaken during the CPS Period Pillar I11-Strengthen Institutions WBG PartnershipStrategy ActivitiesUndertakenduringCPSPeriod 3.1 Establisha new Increasedisseminationof WBG's Proiects/activitiesalreadv under way at start of CPS: framework of democratic analyticalwork and knowledge IDF-Dev Frameworkto Improve Municipal governance sharingwith all branchesof Governance (INDESOL, FY03) governmentand civil society organizations Proiects/activitiesundertakendurine CPS: IDF-StrengtheningofIFAI (FY05) Institutions& GovernanceRevAAA (FY07) Supportto ConvencidnNacionalHacenderia (FY05) 3.2 Increase citizen Support to improve Proiectslactivitiesalreadv underway at start of CPS: confidencein its institutions, macroeconomicforecasting, Tax Administration Inst Dev(FYOZ) reducethe levelof budgeting, fiscal reporting, and IDF Creation ofAnticorruptionLaboratory - corruption,and give tax administration transparency to public sector @YO31 managementand Proiects/activitiesundertakendurine CPS: performance IDF-Sedesol InstitutionalCapacityBuilding(FY03) WBI training programson Openand Participatory Government Support the professionalization Proiects/activitiesundertakendurine CPS: of the civil services On goingTA & policy dialogue provided by WBG staff PoliticalTransition TA 3.3 Promotea new Support to strengthenthe Proiects/activitiesalreadv underway at start of CPS: federalismwith the transfer capacity of subnational MunicipalDevelopmentin Rural Areas (FYOZ) of functions and governments responsibilitiesto state and Proiects/activitiesundertakendurine CPS: municipalgovernments State-levelTA, Proc, PE & FM(FY06) IDF StrengtheningFiscalTransparencythrough - Harmonized AccountingSystems (FY07) WBI trainingprogramon municipalmgmt, finance & administration;workshopsonlessonsof internationalexperiencewith fiscal decentralization State PensionSurvey(FY07) BanobrasTA (FYOS) 3.4 Guaranteean expeditious Support to provideaccessto Proiects/activitiesalreadvunderwav at start of CPS: and efficientjudicial system justice for the poor and improve StateJudicial Modernization (FY04) commercialcourtsperformance 86 Annex VI: Activities Undertaken during the CPS Period PillarIV-EnvironmentalSustainability Activities UndertakenduringCPS Period Objective 4.1 Promotedevelopmentin Support to integrateprinciplesof Proiects/activitiesundertakendurine CPS: harmonywith natureand the sustainabledevelopmentinto EnvironmentalDPL (FY06) environment country policiesand programs EnvironmentalServices (FY06) Supportto addressair pollution, Proiects/activitiesalreadv under way at start of CPS: solid waste management, GEF-.MP/MX Ozone Protection III(FY98) promotecleanenergy GEF-RenewableEnergy for Agriculture (FYOO) technologies,and greenhousegas GEF- .MethaneGas Capture & Useat Landfill emissions (FY01) GEF-Climate Friendly Measuresin Transport (FY03) Proiects/activities undertakendurine CPS: IntegratedEnergyServices (FY08) GEF-Integrated Energy Servicesfor Small Coin (FYOS) GEF-Largescale RenewableEnergy (FY06) GEF-Methane Gas CaptureTF (FY06) GEF-Environmental Services (FY06) GEF-Enabling Activityon PersistentOrg Poll (FYW GEF-Hybrid Solar Thermal Power Plant (FY07) PCF-Waste Management & Carbon Offset (FYOS) PCF-Mexico City InsurgentesBus (Transport Corridors, FY06) PCF-Wind Umbrella - La Venta I1(FY07) GEF IntegratedEnergy Services (FY08) Support to addresswater scarcity Proiects/activitiesalreadv underwav at start of CPS: problemand highratesof GEF-MesoamericanBiologicalCorridor (FYOO) deforestation,as well as to GEF-Indigenous& CommunityBiodiversity Cons. promote sustainablenatural resourcemanagement (Fyo1) GEF-MesoamericanBarrier ReefSystem(FYO1) Irrigation and DrainageModernization (FY03) CommunityForestryI1(PROCYMAF 11, FY03) Rural Water RightsAAA (FY04) Proiects/activitiesundertakendurine CPS: EconomicAss of PolicyInterv Water IAAA (FY05) EconomicAss of PolicyInterv Water I1AAA (FY06) Water PER AAA (FY06) Water Supply andSanitationTAL (FY06) WBI capacitybuildingsupport to national associationof municipalwater utilities(ANEAS) 87 Annex D FiduciaryAspects - 1. Use of Country Systems.Under the GOM i s non-additionalityprinciple, Bank financing i s used to reimburse program expenditures already budgeted and executed by the sectoral entities. Therefore, in Mexico the public financial management (PFM) systems are largely used in Bank investment operations, with minor areas of opportunity in the streamlining o f reports for disbursement, financial monitoring, and audit purposes. However, PFM objectives go beyond those o f specific investmentprojects. 2. Inprocurement, significant progress has beenmade towards bringingMexican systems closer to international good practices. COMPRANET was certified for use inBank projects for both ICB and NCB, and harmonized documents for procurement o f goods, civil works and consultants inBank and IDBprojects were adopted. These documents include elements o f local law and were adopted by Mexico as national documents for projects financed by Multilateral Banks. Small procurement (similar to shopping) already follows local law and Mexico's regulatory body i s one o f the best in the region. Mexico i s the first country in the region where the Bank has applied the OECDDAC indicators to the national procurement system, which will serve as the basis for making decisions on Country Systems, in the event that a policy i s approved by the Bank's board. 3. Fiduciary Development Issues. In terms o f its developmental stage, Mexico should aim at continuing improvement o f its PFM systems in order to reach convergence with OECD-type good practice and standards on budgeting, treasury, accounting, controls and audits. These are areas where, based on its international expertise, the Bank can add significant value through lendingandor non-lendingservices, while at the same time contributing to support the fiduciary underpinnings of DPL lending, operationalization o f the GAC strategy, and progress towards Paris harmonization targets. 4. Inprocurement, the Bank recently completed 2 CPAR, jointly with the IDB. The teams are advising the Government not only on typical procurement areas but also on how to ensure that the procurement system supports the GOM's economic development plan. There i s considerable room for improvement in Government's priority areas that would modernize the system and make it more adaptable to the fast changing market and procurement environments. The recommendations aim to align the system with the Government's objectives and make it more open to competition and more efficient. The proposed reforms would generate significant savings to the Government by reducing the transaction costs and, most importantly, by reducing prices o f Government purchases. Moreover, the proposed reforms would enhance the transparency, predictability andpublic trust inthe system. 5. As the CPS period matures, and the streamlined lending approach is fblly implemented, the portfolio o f Bank investment loans will shrink substantially. Fiduciary issues, however, are likely to be a part o f the ongoing policy dialogue on public administration reforms over the coming years. 88 Annex E Mexico Portfolio Snapshot - 9 Table 1: DistributionofInvestmentLoansvs. DevelopmentPolicyLoans 9 Table2: InvestmentLendingvs.DPLsbyFiscalyear > Table 3: LoanAmounts Approvedby Sector (FYOO-MIDFY08) 9 Table4: Investmentvs. DPLs: ApprovalsbySector > Table 5: Annual DisbursementsandNew Commitments 9 Table6: Analytical andAdvisory Activities (M)Theme by > Table 7:New Commitmentsfor Largest IBRDBorrowers, FY03-MidFY08 9 Table8: IBRDDebtvs. Mexico'sotherExternalDebt 9 Table9: IBRDExposureTrendfor Mexico 9 Table 10:IBRDExposurefor TenLargestBorrowers(as ofMidFY08) 89 Table 1:Distributionof InvestmentLoans vs. DevelopmentPolicyLoans (AmountsapprovedN O 0 -MidN O S ) Investment 44% DPLs 56% Table 2: InvestmentLendingvs. DPLsby Fiscalyear 2500 2000 1500 1000 500 0 2000 2001 2002 2003 2004 2005 2006 2007 2008 n(Mid) o s 90 Table 3: LoanAmounts Approved by Sector (FYOO-Mid FYOS) Health EconomicPolicy 4yo 4O!-l Urban/Transport A s ! d En\dronment 10% Education- 12% 1 ce Table 4: Investmentvs. DPLs: Approvals by Sector (US$ Millions) Economic Policy I I Healthand Education Governance 10DPLs Urban Investment /Transport FinanceandPSD Rural 1 I I Environment I 0 500 1000 1500 2000 2500 3000 91 Table 5: AnnualLoanDisbursements and New Commitments FY 2000 2001 2002 2003 2004 2005 2006 2007 Mid FY08 # Projects 24 23 22 20 18 16 18 16 15 New Commitments 1,169 1,982 660 1,172 662 588 1,793 29 201 (US$M) Disbursements 1,339 1,433 813 1,269 866 818 1,506 824 572 (US$M) - Undisbursed (US$M) 2,964 3,425 3,133 2,678 2,357 1 3 31 1,817 1,022 636 Disbursement Ratio (YO) 23% 26% 15% 26% 20% 29% 33% 35% 18% Table 6: Analyticaland Advisory Activities (AAA) by Theme Competitiveness and Trade InfrasWater Lln, 16% Governance 9Yo 92 Table 7: New Commitmentsfor LargestIBRD Borrowers, N03-Mid N O S (US$ Millions) 7000 6000 5000 1 II 4000 3000 2000 1000 0 I I I m ade I B e 26 '1 d #8 xB 51 d m d .I .I .I .I B Y C W z & Y 0 I 4 8 U 2 Table 8: IBRD Debtvs. Mexico's other ExternalDebt 40 v1 0 e 3 30 .I ep e 3 20 'Dec 04 'Dec 05 'Dec 06 INov 07 93 Table 9: IBRD Exposure Trend for Mexico 14000 4000 Calendar Year Table 10: IBRD Exposure for Ten Largest Borrowers (as of Mid FY08) I 17 11.8 12 10 -z .I?8 s $6 3 4 2 0 94 Annex F Mexico- Selected Indicators* of Bank Portfolio Performance and Management As of January 31,2008 Portfolio Assessment Number o f Projects Under Implementation a 23 23 22 19 Average Implementation Period (years) b 3.3 2.6 3.4 3.6 Percent o f ProblemProjects by Number a, c 4.3 8.7 9.1 15.8 Percent o f ProblemProjects by Amount a, c 12.3 13.7 11.6 19.0 Percent o f Projects at Riskby Number a, d 4.3 8.7 9.1 21.1 Percent o f Projects at Riskby Amount a, d 12.3 13.7 11.6 29.8 Disbursement Ratio (%) e 28.3 32.6 33.6 34.6 Portfolio Management CPPR during the year (yedno) YES YES YES PLANNED Supervision Resources (total US$) 1,762 2,302 2,348 925 Average Supervision (US$/project) f 80 92 130 51 Proj Eval by OED by Number 154 22 Proj Evalby OED by Amt (US$ millions) 28,577 3,137 % o f OEDProjects RatedUor HUbyNumber 25 10 % o f OED Projects RatedUor HUbyAmt 18 2 a. As shown inthe Annual Report on Portfolio Performance (except for current FY). b. Average age o fprojects inthe Bank's country portfolio. C. Percent o fprojects rated Uor HUon development objectives (DO) and/or implementation progress (IP). d. As defined under the Portfolio Improvement Program. e. Ratio o f disbursements during the year to the undisbursedbalance o f the Bank's portfolio at the beginning o f the year: Investmentprojects only. f. Averages arebasedonthe BusinessWarehouse SupervisionEffort Report andreflect actuals. * All indicators are for projects active inthe Portfolio, withthe exception o fDisbursement Ratio, which includes all active projects as well as projects which exited during the fiscal year. ** As o f January 31,2008. 95 Annex G Mexico - GEF/PCFProposedProgram As of January 31,2008 2008 Integrated Energy Services- Approved 15.0 2009 Bundled Landfill Gas Recovery 2.5 Biomass Residues based Co-generation Project 4.6 L o w Carbon Bus Corridor 8.0 PEMEX Co-generation 8.2 Iride and Samaria I1Methane 28 2010 Seawater Agroforestry Project 2.6 Sustainable Rural GEF 60.0 Adaptation to Climate Change 4.5 96 Annex H Mexico - IFC Program, FY 2004-2008 as of January 31,2008 2004 2005 2006 2007 2008 IFC commitments (USSm) 447.2 279.7 260.53 240.24 68.9 Sector (YO) Accommodation & Tourism Services 0 0 0 0 0 Chemicals 0 0 0 0 0 Collective Investment Vehicles 0 0 8 8 29 Education Services 0 5 0 0 0 Finance & Insurance 26 95 50 54 35 Food & Beverages 0 0 0 0 0 Health Care 0 0 14 6 22 Industrial & Consumer Products 0 0 0 0 0 Information 0 0 0 0 0 Oil, Gas andMining 5 0 0 0 0 Plastics & Rubber 0 0 0 0 0 Pulp & Paper 18 0 0 0 0 Transportation and Warehousing 18 0 15 26 0 Utilities 32 0 0 6 0 Construction and Real Estate 15 Wholesale and RetailTrade 0 0 13 0 0 Total 100 100 100 100 100 Investmentinstrument (YO) Loans 82 77 69 60 36 Equity 1 10 29 32 64 Quasi-Equity 14 9 0 2 0 Other 3 4 2 6 0 Total 100 100 100 100 100 MIGA Guarantees (US$m) 0.00 0.00 97 Annex I Mexico - Summaryof Non-LendingServices FY08 As of January 31,2008 2008 Agricultural Trade - Delivered 200 G,B KG CPAR Update-Delivered 136 G, PD, B PD, PS Electricity Subsidies 240 G,B KG SecondaryEducation 174 G,PD, B KG FinancialSector Competitiveness 169 G, B PS AgriculturePER 95 G, B KG BANOBRAS Strategy(TA) 200 G, B PS Treasury- Support to STA (TA) 165 G, B PS (a) G= Government,D=Donor,B=Bank,PD=PublicDissemination. (b) KG=KnowledgeGeneration,PD=PublicDebate,PS=Problem-Solving. 98 Annex J Mexico Social Indicators - Same regionlincome Latest single year group Latin Upper- America middle- 1980-85 1990-95 1999-05 8 Carib. income POPULATION Total population,mid-year (millions) 75.5 91.I 103.1 551.4 598.7 Growth rate (% annualaverage forperiod) 2.2 1.8 1.I 1.4 0.6 Urban population(% ofpopulation) 69.6 73.4 76.0 77.2 72.0 Total fertility rate (births per woman) 4.0 2.9 2.1 2.5 1.9 POVERTY (% ofpopulation) National headcountindex 17.6 Urban headcountindex 11.3 Rural headcountindex 27.9 INCOME GNI per capita (US$) 2,180 3,810 7,300 4,008 5,625 Consumer price index (2000=700) 1 42 127 139 126 Food price index (2000=100) INCOMElCONSUMPTlONDISTRIBUTION Gini index 46.3 51.1 46.1 Lowest quintile (% of income or consumption) 4.7 3.9 4.3 Highest quintile (% of income or consumption) 51.7 55.6 55.1 SOCIAL INDICATORS Public expenditure Health(% of GDP) 3.0 Education (% of GNl) 4.3 4.6 Net primary school enrollment rate (% of age group) Total 98 98 95 93 Male 99 98 94 Female 96 98 93 Access to an improved water source (% of population) Total 87 97 91 94 Urban 93 100 96 98 Rural 72 87 73 82 Immunization rate (% of childrenages 12-23months) Measles 64 90 96 92 91 DPT 40 92 98 91 94 Child malnutrition(% under5 years) 8 7 7 Life expectancy at birth (years) Total 69 74 75 72 69 Male 66 71 73 68 66 Female 72 76 78 75 73 Mortality Infant (per 7,000 live births) 43 30 22 27 23 Under 5 (per 1,000) 54 36 27 31 28 Adult (15-59) Male (per 1,000population) 216 187 155 219 286 Female (per 7,000 population) 135 117 86 124 150 Maternal (per 100,000live births) 83 194 91 88 95 This table was produced from the CMU LDB system. Note: 0 or 0.0 meanszero or less than half the unitshown. Net enrollmentrate: break in series between 1997 and 1998due to change from ISCED76to ISCED97. Immunization: refersto childrenages 12-23months who received vaccinationsbefore one year of age or at any time before the survey. 99 Annex K- Mexico K e y Economic Indicators (1of 2) National accounts (as % of GDP) Gross domestic producta 100 100 100 100 100 100 100 100 AgricuIture 4 4 4 4 4 4 4 4 Industry 26 26 26 27 27 27 27 27 Services 70 70 70 69 69 69 69 69 Total Consumption 81 80 80 79 79 79 79 79 Gross domestic fixed investment 19 20 19 20 20 20 20 20 Government investment 5 5 4 4 4 4 4 4 Privateinvestment 14 15 15 16 16 16 16 16 Exports(GNFS)b 28 30 30 32 30 29 29 30 Imports (GNFS) 29 32 32 33 31 31 31 32 Gross domestic savings 19 20 20 21 21 21 21 21 Gross national savings' 19 21 21 22 22 22 22 22 Memorandum items Gross Domestic Product 639.1 683.5 767.7 839.4 945.6 1,003.9 1,06.7 1,122.7 (US$ billionat current prices) GNI per capita (US$, Atlas ) 6,370 6,930 7,300 7,820 8,650 9,140 9,630 10,110 Realannual growth rates Gross Domestic Product 1.4 4.2 2.8 4.8 2.8 3.6 3.7 3.7 Gross Domestic Income 1.o 3.8 4.0 5.7 1.3 2.1 2.1 2.0 Real annual per capita growth rates Gross Domestic Product 0.3 3.1 1.8 3.6 1.8 2.6 2.7 2.7 Total consumption 0.9 2.1 3.1 4.0 1.8 2.6 2.7 2.7 Privateconsumption 1.o 2.5 3.5 3.9 1.8 2.6 2.7 2.7 Balance of Payments (US$ billions) Exports(GNFS)b 177.3 202.0 230.3 266.1 300.3 317.3 336.4 357.7 Merchandise FOB 164.8 188.0 214.2 249.9 281.7 297.3 314.9 334.5 Imports(GNFS)~ 187.7 215.4 242.6 278.0 320.3 343.3 368.1 394.8 Merchandise FOB 170.5 196.8 221.8 256.1 294.3 315.1 337.5 361.5 Resource balance -10.4 -13.4 -12.3 -11.9 -20.0 -26.0 -31.7 -37.2 Net currenttransfers 13.9 17.0 20.5 24.2 24.9 25.4 25.9 26.4 Currentaccount balance -8.9 -6.7 -4.9 -1.9 -9.1 -14.6 -19.9 -24.8 Foreign Direct Investment 15.3 22.3 19.6 19.2 20.0 20.0 20.0 20.0 Long-termloans (net) -1.3 -1.3 0.5 -9.8 3.1 6.2 5.5 3.9 Official -0.3 -1.2 -0.2 -8.6 0.5 0.1 0.5 -0.1 Private -1.o -0.2 0.8 -1.2 2.6 6.1 4.9 4.0 Other capital 3.1 -10.8 -9.0 -8.2 -11.2 -7.7 -1.6 4.3 Change in reservesd -9.8 -4.1 -7.2 1.o -2.8 -3.9 -4.0 -3.4 Memorandumitems Resourcebalance (% of GDP) -1.6 -2.0 -1.6 -1.4 -2.1 -2.6 -3.0 -3.3 Realannual growth rates Merchandise exports (FOB) -2.5 2.2 5.2 8.5 4.6 6.6 7.0 7.3 Primary 18.5 12.3 19.2 12.3 -5.8 -5.2 -4.6 -3.9 Manufactures -5.4 0.5 2.5 7.6 7.1 9.1 9.1 9.1 Merchandise imports (CIF) -1.3 9.3 7.3 10.4 0.6 4.4 4.5 4.5 100 Annex K Mexico Key Economic Indicators (2 of 2) - Estimate 2007 Public finance (as % of GDP at market prices). Current revenues 23.2 23.0 23.3 24.7 26.2 26.1 26.2 26.2 Current expenditures 21.o 19.9 20.2 21.o 21.5 21.5 21.5 21.6 Currentaccount 2.2 3.1 3.1 3.8 4.7 4.6 4.7 4.7 Capitalexpenditure 2.9 3.3 3.3 3.7 4.6 4.6 4.6 4.6 Foreignfinancing 0.9 1.2 0.4 -1.1 0.2 0.4 0.3 0.2 Monetary indicators M2/GDP 49.6 49.0 52.0 54.0 55.8 56.2 56.8 57.4 Growth of M2 (%) 13.0 10.4 15.1 13.6 8.5 8.0 8.0 8.0 Private sector credit growth / 44.8 43.9 94.1 77.9 70.3 75.7 77.1 78.5 totalcreditgrowth (%) Price indices( YR93 =loo) Merchandise export price index 126.7 141.5 153.3 164.8 171.4 169.7 168.0 166.3 Merchandise import price index 113.5 119.9 125.9 131.6 142.2 145.8 149.4 153.2 Merchandise terms of trade index 111.7 118.0 121.7 125.2 120.5 116.4 112.4 108.6 Realexchange rate (US$/LCU)' 71.8 77.3 73.9 73.0 74.6 74.6 75.0 75.3 Consumer Price Index (%change) 4.0 5.2 3.3 4.1 4.0 3.5 3.0 3.0 GDP Deflator (% change) 8.6 7.4 5.5 4.5 4.0 3.5 3.0 3.0 Notes: a. GDP at factor cost b. "GNFS" denotes "goods and nonfactor services." c. Includes net unrequited transfers excluding officialcapital grants. d. Includesuse of IMF resources. e. Consolidated central government. f. "LCU" denotes "localcurrency units." An increase in US$/LCUdenotesappreciation. 101 Annex L Mexico Key ExposureIndicators - Total debt outstandingand 170,847 171,162 167,942 160,700 163,451 164,881 167,054 170,054 disbursed (TDO) (US$m)* Net disbursements(US$m)a 4,496 479 -899 -12,566 587 1,430 2,173 3,000 Total debt service (TDS) (US$m)a 42,238 50,480 45,132 56,068 21,913 24,070 22,327 19,500 Debt and debt service indicators(%) TDOIXGS~ 87.8 76.3 65.5 54.2 49.1 47.0 45.1 43.3 TDOlGDP 26.7 25.0 21.9 19.1 17.2 16.3 15.6 15.0 TDS/XGS 21.7 22.5 17.6 18.9 6.6 6.9 6.0 5.0 0.7 0.8 0.9 0.0 0.0 0.0 0.0 0.0 IBRD exposure indicators (%) IBRD DSlpublic DS 9.0 10.9 7.8 20.6 1.9 3.7 2.0 4.1 Preferredcreditor DSlpublic DS (%)' 14.4 16.0 11.8 35.4 4.3 6.2 4.7 6.8 IBRD DS/XGS 1.o 1.1 0.7 2.2 0.1 0.3 0.1 0.3 IBRDTDO (US$rn)d 10,414 9,264 8,881 4,418 5,164 5,426 6,132 6,200 Share of IBRD portfolio (%) 9.0 8.4 8.5 4.4 5.3 5.3 5.8 5.8 Notes: a. Includes public and publiclyguaranteeddebt, private nonguaranteed,use of IMF credits and net short-term capital b. "XGS" denotes exports of goods and services,includingworkers' remittances. c. Preferredcreditors are defined as IBRD, IDA, the regionalmultilateraldevelopmentbanks, the IMF, and the Bank for InternationalSettlements. d. Includespresent value of guarantees. e. Includesequity and quasi-equitytypes of both loan and equity instruments. 102 Annex N- Mexico Statement of IFC's Held and Disbursed Portfolio Jan31.2008 US Dlls Millions 104 Annex 0 -Mexico at a Glance (1of 3) Latin Upper 1 Key Development Indicators America middle Mexico & Carib. income Age distribution, 2006 (2006) Male Female Population,mid-year(millions) 104.2 556 810 70-74 Surfacearea (thousandsq. km) 1,958 20,415 41,460 WEd Populationgrowth(%) 1.1 1.3 0.7 Urban population(% of total population) 50-54 76 78 75 40-44 GNI (Atlas method, US$ billions) 814.6 2,650 4,790 3c-34 GNI percapita (Atlas method,US$) 7,820 4,767 5,913 20-24 GNI per capita (PPP. international$) 11,410 8,798 10,817 10.14 c-4 GDP growth (%) 4.8 5.5 5.6 15 10 5 0 5 10 15 GDP percapita growth(%) 3.6 4.2 4.9 percent (most recentestimate, 2000-2006) Povertyheadcount ratioat $1 a day (PPP, %) 3 9 Povertyheadcount ratioat $2 a day (PPP. %) 12 22 Under-5 mortality rate (per 1,000) Life expectancy at birth (years) 75 72 70 Infantmortality(per 1,000 live births) 22 26 26 1 Child malnutrition(% of children under5) 50 Adult literacy, male (% of ages 15 and older) 40 93 91 94 Adult literacy, female (% of ages 15 and older) 90 89 92 30 Gross primaryenrollment,male (% of age group) 110 120 106 20 Gross primaryenrollment.female (% of age group) 108 116 104 10 Access to an improvedwater source(% of population) 97 91 93 0 Access to improvedsanitationfacilities (X of population) 79 77 81 1990 1995 2003 2oM OMexico DLatinAmerica 8 the Caribbean Net Aid Flows 1980 1990 2000 2006 a /US$ millions) Net ODA and officialaid 55 156 -56 189 IGrowth of GDP and GDP per capita (%) Top3 donors (in 2005): United States 9 23 24 129 Germany 15 9 15 25 France 15 51 -11 19 Aid (% of GNI) 0.0 0.1 0.0 0.0 Aid percapita (US$) 1 2 -1 2 Long-Term Economic Trends 1-10 Consumer prices (annual% change) 26.3 26.7 9.5 3.8 GDP implicitdeflator(annual% change) 33.4 28.1 12.1 4.5 1 -4-GDP - GDP Der caDita Exchange rate (annualaverage,local per US$) 0.0 2.8 9.5 10.9 Terms of trade index (2000 = 100) 194 106 100 115 1980-90 1990-2000 2000-06 (average annual growth %) Population,mid-year (millions) 67.6 83.2 98.0 104.2 2.1 1.6 1.o GDP (US$ millions) 194,357 262,710 581,426 839,182 1.1 3.1 2.3 (% of GDP) Agriculture 9.0 7.8 4.2 3.9 0.8 1.5 1.9 Industry 33.6 28.4 28.0 26.7 1.1 3.8 1.3 Manufacturing 22.3 20.8 20.3 18.0 1.5 4.3 0.8 Services 57.4 63.7 67.8 69.4 1.4 2.9 2.8 Householdfinal consumptionexpenditure 65.1 69.6 67.0 67.6 1.4 3.9 3.0 Generalgov't final consumptionexpenditure 10.0 8.4 11.1 11.7 2.4 1.8 0.5 Grosscapitalformation 27.2 23.1 23.9 22.0 -3.3 4.7 0.5 Exportsof goods and services 10.7 18.6 30.9 31.9 7.0 14.6 5.3 Importsof goods and services 13.0 19.7 32.9 33.2 1.0 12.3 5.4 Gross savings 22.0 20.3 20.5 21.8 Note: Figures in italicsare for years other than those specified. 2006 data are preliminary. .. indicatesdata are not available. a. Aid data are for 2005. DevelopmentEconomics,DevelopmentDataGroup (DECDG) 105 Annex 0 -Mexico at a Glance (2 of3) Balance of Payments and Trade 2000 2006 1GovernanceIndicators,2000 and2006 (US$ millions) Total merchandiseexports (fob) 166,455 249,926 Total merchandiseimports (cif) 174,458 256,058 Voice and accountability Net trade in goods and services -10,661 -11,868 Political stability Current account balance -18,684 -1,944 as a % of GDP -3.2 -0.2 Regulatory quality Workers' remittances and Rule of law compensationof employees(receipts) 7,525 21,772 Control of corruption Reserves,includinggold 35,577 73,065 0 25 50 75 1M) Central Government Finance 2006 Country's percentile rank (0.100) 02000 higher valuesimply tetterratings (% of GDP) ISource: Kaufmann-Kraay-Mastrul,World Current revenue(includinggrants) 21.6 24.7 Bank Tax revenue 10.6 9.7 Current expenditure 20.1 21.0 Technology and Infrastructure 2000 2005 Overall surpluddeficit -1.1 0.1 Paved mads (% of total) 32.6 49.5 Highest marginaltax rata (%) Fixedline and mobile phone individual 40 29 subscribers(per 1,000 people) 270 650 Corporate 35 29 High technologyexports (% of manufacturedexports) 22.4 19.6 External Debt and Resource Flows Environment (US$ millions) Total debt outstandingand disbursed 150,901 160,700 Agricultural land(% of land area) 56 56 Total debt service 58,509 56,068 Forestarea (% of land area) 34.3 33.7 Debt relief (HiPC, MDRi) - - Nationallyprotectedareas (% of land area) .. 5.2 Total debt (% of GDP) 26.0 19.1 Freshwaterresourcesper capita (cu. meters) .. 3,967 Total debt service (% of exports) 30.4 16.9 Freshwaterwithdrawal (% of internal resources) 19.1 Foreigndirect investment(net inflows) 17,942 19,881 C02 emissions per capita (mt) 4.0 4.1 Portfolioequity (net inflows) 447 3,353 GDP per unit of energyuse (2000 PPP $ per kg of oil equivalent) 6.0 5.6 :ompositionof totalexternaldebt, 2006 Energyuse per capita (kg of oil equivalent) 1,535 1,622 short-term,7,346 Tal,2,062 06 (US$ millions) IBRD ii Total debt outstandingand disbursed I1,444 4,418 Disbursements 1,748 1,429 Principalrepayments 1,330 6,100 Interestpayments 890 461 Private, 142,874 S$ millions IDA Total debt outstandingand disbursed 0 0 Disbursements 0 0 Private Sector Development 2000 2006 Total debt service 0 0 Time requiredto start a business (days) - 27 IFC (fiscalyear) Cost to start a business(% of GNi per capita) 14.2 Total disbursedand outstanding portfolio 1,234 1,146 Time requiredto register property (days) -- 74 of which iFC own account 723 711 Disbursementsfor IFC own account 179 92 Rankedas a majorconstraintto business Portfoliosales, prepaymentsand (% of managersSurveyed who agreed) repaymentsfor IFCown account 66 188 Anticompetitiveor informalpractices .. 19.0 Conuption .. 17.8 MlGA GrossexDosure - - Stock marketcapitalization(% of GDP) 21.5 41.5 Newguarantees - Bank capital to asset ratio (YO) 9.6 12.0 Note: Figuresin italicsare for years other than those specified. 2006 data are preliminary 2111/08 .. indicatesdata are not available. -indicates Observationis not applicable. DaveiopmentEconomics,DevelopmentData Group (DECDG). 106 Annex 0 -Mexico at a Glance (3 of 3) Millennium Development Goals Mexico With selected targets to achieve between 1990and 2015 (estimate closest to dateshown, +/- 2years) 7 Goal 1:halvethe rates for S I a day povertyand malnutrition I990 1995 2000 2005 Poverty headcount ratioat $1 a day (PPP,% of population) 5.2 7.8 5.9 3.0 Poverty headcount ratioat nationalpovertyline(% of population) 24.2 17.6 Share of incomeor consumptionto the poorest qunitile(%) 3.9 4.3 3.9 4.3 Prevalence of malnutrition(% of children under 5) 16.6 76.9 7.5 Goal 2: ensure that children are ableto complete primary schooling Primary schoolenrollment(net,%) 98 98 98 Primarycompletionrate (% of relevantage group) 86 95 97 100 Secondary school enrollment(gross,%) 52 72 80 Youth literacyrate (% of people ages 15-24) 95 96 97 98 Goal 3: eilmlnate gender dlsparlty In education and empowerwomen Ratioof girls to boys in primaryand secondary education (%) 98 100 I01 Womenemployed inthe nonagriculturalsector (Oh of nonagriculturalemployment) 35 36 37 37 Proportionof seats held bywomen in nationalparliament (%) 12 14 18 24 Goal 4: reduce under-5mortality by two-thirds Under-5mortalityrate (per 1,000) 46 36 30 27 Infantmortalityrate (per 1,000live births) 37 30 25 22 Measlesimmunization(proportionof one-year olds immunized, %) 75 90 96 96 Goal 5: reduce maternal mortality bythree-fourths Maternal mortalityratio(modeled estimate,per 100,000live births) 83 Birthsattendedby skilled healthstaff (% of total) 86 83 Goal 6: halt and begin to reversethe spread of HIWAIDSandother major diseases Prevalence of HiV (% of populationages 1549) 0.3 Contraceptiveprevalence(% of women ages 15-49) 65 70 73 Incidence of tuberculosis(per 100,000people) 64 45 32 23 Tuberculosis cases detected under DOTS (%) 75 77 110 Goal 7: halvethe proportlon of peoplewithout sustainable accessto basic needs Access to an improvedwater source (% of population) 82 87 93 97 Access to improvedsanitationfacilities (% of population) 58 67 75 79 Forest area (% of total land area) 36.2 34.3 33.7 Nationallyprotectedareas (% of total land area) 5.2 C02 emissions(metrictons per capita) 4.5 4.0 4.0 4.7 GDP per unitof energyuse(constant2000 PPP$ perkg of oil equivalent) 5.2 5.2 6.0 5.8 Goal 8: developa global partnershipfor development Fixed lineand mobile phonesubscribers(per 1,000people) 65 104 270 650 Internetusers (per 1,000people) 0 1 52 181 Personalcomputers(per1,000 people) 8 26 58 136 Youth unemployment (% of total laborforce ages 15-24) 5.4 9.8 4.4 6.6 Education Indicators (%) Measles Immunization (%of I-year olds) llCT indicators (per 1,000 people) n 5w 4w 3w W25 2ow 2002 2005 E 2w 1w 0 +Primary net enrollmentmtio +Ratio of girls to boysin primary8 0Mexico 0 LatinAmenca 8 theCanbbean Note:Figures in italics are for years otherthan those specified... indicatesdata are not available. 2/11/08 Development Economics.DevelopmentData Group (DECDG) 107