RESTRICTED FILE COPY Report No. P-844 This report was prepared for use within the Bank and its affiliated organizations. They do not accept responsibility for its accuracy or completeness. The report may not be published nor may it be quoted as representing their views. INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT REPORT AND RECOMMENDATION OF THE PRESIDENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN TO THE REPUBLICA ORIENTAL DEL URUGUAY FOR THE THIRD LIVESTOCK PROJECT June 11, 1970 I'TTERIU{. TION.fJ, BMiKr FOR BIECONSTRTJCTION AND DEVJELOP'ENT REPORT AND R MOiMIFDATION OF THE PRESIDEIN TO THE EXECUTIVE DIRECTORS ON A PROPOSED LOAN TO THE REPUBLIC!A ORIENTAL DEL URUGUAY FOR THE THIRD LIVESTOCK PROJECT 1. I submit the following report and recommendation on a proposed loan in various currencies equivalent to US$6.3 million to the Repulblica Oriental del Uruguay, to assist in the financing of a third livestocl; project. PART I - HISTORICAL 2. The proposed-loan would be the third for livestock development in Uruguay. In December 1959, the Bankl made a US$7 million loan to Uruguay for a livestock pilot project. One of the purposes of the loan was to demonstrate to the nation's ranchers the advantages of modern techniques of pasture improvement and management. The results of the pilot project were so encouraging that the Bank agreed to make a second livestock loan in the amount of US$12.7 million in lNarch 1965 which has been fullyr disbursed. Despite the technical success achieved under the first two loans, beef and wool production and export targets were not realized until 1968. Inflation, discriminatory export taxation, credit limitations and the high costs and inefficiency of the meat packing industry were major factors reducing the profitability of livestock pro- duction and investment incentives to ranchers. As stated below, the Government has recently taken a number of important steps which have restored investment incentives to a satisfactory level. 3. The third livestock project was appraised in NIay and October 1969, and after some delay occasioned by discussions with the Uruguayan Government regarding its general economic and livestock sector policies, negotiations took place in ,4ashington from May 18 to May 22, 1970. The Government of Uruguay was represented at these negotiations by ISessrs. Hector Luisi, Uruguayan Ambassador in Washington, Benito Kedero, Vice- President of the Honorary Livestock Commission, Jos6 R. E. Nogu6z, Deputy General Manager of the Central Bank and Carlos Ricci, General IIanager of the Bank of the Republic. 4. The proposed loan would increase the Bank's total lending to Uruguay to US$108.5 million. The following is a summary statement of Bank loans to Uruguay as of Nay 31, 1970: -2-.~~~~~~~~~~~~~~~~~ Loan (US$ Million) Number Year Borrower Purpose Amount Undisbursed 30 1950 U. T. E. Power 33.0 - 132 1955 U.' T. E. Power 5.5 - 152 1956 U. T. E. Power 25.5 245 1959 Repuzblica Oriental Agriculture 7.0 - del Uruguay 324 1962 Repiublica Oriental Roads 18.5 2.7 del Uruguay 407 1965 Repuiblica Oriental Agriculture 12.7 del Uruguay Total (less cancellations) 102.2 of which has been repaid to Bank and others 47.1 Total now outstanding 55.1 Amount sold 3.3. of' which has been repaid 3.2 0.1 Total now held by Bank 550 Total undisbursed 2.7 * As of 'L-a 31, 1970 the undisbursed amount was US$6,ooo which has since been disbursed. 5. The road project (Loan 32h) was originally expected to be completed by the end of 1966. Its very slow implementation has been due mainly to problems between contractors and consultants. The Bank is keeping a close watch on the progress of this project and is working with the Government -3- to acce'erate its pace of execution. The revised work schedule prepared by the consultants calls for the completion of this project by January 1971. 6. A US$16 million loan for a power generation and distribution roJoect is exoected to be submitted to the Eaecutive Directors before tP'e end of 1970. The Government and the Bank are-also discussing *urther projects in livestock, power and tourism. PART II - DESCR1PTION OF THE PROPOSED LOAN 7. Borrower: Repu'blica Oriental del Uruguay urpose: To assist in financing a credit program to increase beef cattle production through loans for ranch development, importation of pasture seeds, fertilizers and equipment and provision of technical services. Amount: The equivalent in-various currencies of US$6.3 million. Amortization: In 12 years including a four-year period of grace, in semi-annual installments beginning July-15, 1974 and ending January 15, 1982. Interest Rate: 7 percent per annum Commitment Charge: 3/4 of 1 percent per annum Economic Rate of Return: 21 percent per annum PART III - THE PROJECT 8. A detailed description of the project is given in the attached- Ap,praisal RepDrt entitled "Third Livestock Development Project" (PA-38a). -14- 9. The proposed project will provide technical and financial assistance for about one year to continue Uruguay's livestock development program, begun under Loans 245-UR and 407-UR. Support for such a short term program is proposed to allow time for the Government to make further progress in resolving-remaining sector policy issues, especially in the meat paclcing industry. Basic investments for ranch development plans (pasture development, fencing and water supplies) and small purchases of livestock would represent about 79 percent of the estimated cost of the new project. Incremental working capital, technical services and contin- gencies would account for the remaining 21 percent. 10. About 3,000 ranchers are expected to participate in the project,' 2,000 ranchers within the "Plan Agropecuariot' as defined by the Uruguayan legislation, under which the size of each borrower's ranch cannot exceed 2,500 hectares, and 1,000 ranchers outside of it, with no limitation as to size of individual ranches. Ranchers under the "Plan Agropecuario" will account for about 70 percent of total on-ranch investment. 11i The total cost of the project is estimated at $13.1 million equivalent and the loan wxill cover the foreign component, estimated at $6.3 million, accounting for 48 percent of the total project. The remaining cost oI the project will be financed as follows: Government 12 percent, participating banlcs 25 percent and ranchers 15 percent. 12. As in the first and second projects, the "Honorary Livestock Commission" (an agency of the M1inistry of Agriculture and Livestock) and a livestock exnert iwill continue to be responsible for the-preparation, appraisal, approval and supervision of ranch development plans. In order to enable corumercial banks to act as financial intermediaries in addition to the Bank of the Republic (ER), which had been the only channel for making sub-loans under the two-previous loans, a I vestock Fund is to be establisled in the Central Bank. This bank took-over the BR's central banking functions when it was created in March 1967. BR will continue to chann,l the sub-loans made in accordance with existing "Plan Agropecuario" ranch size stancdards (see paragraph 10), as well as for the larger size ranches, over 2,500 hectares. Both commercial banks and the BR will be the channels for funds disbursed to larger ranchers. The relations between the Central Ban1k and BR or other commercial banks Twill be subject to the terms of subsidiary loan agreements to be approved by the Bank. 13 IMachinery, fencing wire and building-materials would be bought by ranchers through normal commercial channels. Procurement of pasture seed as well as phosphate for local manufacture into fertilizer would be by international tender. 1L. The local currency equivalent of Bank disbursements on account of directly imported items, such as seeds, fertilizer and agricultural machinery, will be credited to the Livestock Fund and used to help finance sub-loans made by participating banks. The Livestock Fund will lend par- ticipating banks up to 75 percent of the face amount of sub-loans to ran- chers at an interest rate of 7.5 percent. The amortization period of the Livestock Fund's loans to participating banks will be the same as that of the sub-loans made to ranchers. 15. Credit to project ranchers will be extended only on the basis of approved ranch development plans. The terms of sub-loans to project ran- chers will not be less than seven years, including a minimum grace period of two years. The interest rate on sub-loans to project ranchers will be 11 percent. 16. The principal of all sub-loans to ranchers will be adjusted in accordance with an index based on ranch-gate prices of cattle and wool. Readjustment will be 100 percent for loans to borrowqers with ranches in excess of 500 hectares; 75 percent for borrowers wvith ranches in excess of 300 hectares and 50 percent for borrowers with ranches of smaller size. Assuming that inflation continues at the current annual rate of 15 percent, these arrangements would ensure a positive rate of interest on the larger loans with a negative rate on the smallest. Since, however, most of the funds will go to the larger ranchers the average rate earned in real terms would be about 8.5 percent. The Government would carry the exchange risk. 17. Any sums accruing temporarily to the Livestock Fund in excess of service payments to the Bank and administrative costs, will be relent to project ranchers to assist them in meeting their working capital require- ments. 18. During negotiations, assurances were received that the Govern- ment would take all steps necessary to (a) improve its meat inspection service to the point where it can meet the hygiene requirements of important foreign markets; (b) define the future role and scope of the Government- ow~med or controlled meat processing plants, including the future ownership (wholly Government owned, mixed participation or cooperative) and manage- ment of those plants; (c) review and give advise on the technical, finan- cial and economic soundness of the privately owned meat processing plants' modernization, expansion and improvement programs; and (d) reorganize the Pleat Institute and the Commission for Local Meat Supply into a single entity. To assist the Government in carrying out these assurances, provision has been made in the project for the employment of appropriatue consultant services. 19. With respect to the livestock producers' investment incentives, the Government has agreed during negotiations to pursue policies in such a manner that efficient livestock producers will be afforded a reasonable opportunity to secure a financial rate of return on new on-ranch investment of at least 15 percent under normal conditions of production. -6- 20. The ecr-omic r~.te of return for the project is estimated at 21 percent. The principal direct benefit resulting from the project will be increased beef production. The annual increase of production from the ccm- pleted project would amount to about 7,000 metric tons of beef. The gross value of this production, most of which will be exported, will total some US.T3.5 million per year at prices paid to the producer. PART IV - LEGAL INSTRUMI'ENTS AIM AUTHORITY 21. The draft Loan Agreement between the Repu6blica Oriental del Uruguay and the Bank, the Report of the Committee provided for in Article III, Section h(iii) of the Bank's Articles of Agreement and the draft Resol- ution approving the proposed loan are being distributed to the Executive Directors separately. 22. The draft Loan Agreement conforms substantially to the pattern of agreements for livestock development projects. Particular attention is called to the following features: (i) the financial structure of the credit program included in the Project (paras. (a), (b), (c), (e) and (h) of Section 5.02 of the L. an Agreement; (ii) the formulae for adjustment of amounts lent under the said credit program (Section 5.02(c) (v) of the Loan Agreement and paragraph C.2 of Schedule 5 thereto); (iii) the Borrower's undertaking in respect of ranchers' incen- tives (Section v5.06 of the Loan Agreement). PART V - THE ECONOnA 23. An economic report entitled "Current Economic Position and Pros- pects of Uruguay" (VH-198a), dated March 24, 1970, was distributed to the Executive Directors on April 24, 1970. The report singles out as the two most important intermediate goals of an effective stabilization and develop-- ment program the following: (a) an increase in the exportable surplus of livestock products; and (b) an increase in the savings capacity of the public sector. The Government has expressed its intention to act along these lines and in general has already taken appropriate steps, as indicated in the economic and appraisal reports. Specifically, gasoline taxes have been increased and other taxes raised, which should permit the Government to achieve a modest current account surplus. The rates charged by public utilities have been increased sharply, thus restoring the ability of some of these enterprises to generate a sizable volume of savings. W.Jith respect to the livestock sector, investment incentives have been restored to rela- tively satisfactory levels through the reduction of export taxes on beef and wool, a substantial increase in the domestic consumer prices for meat and the abolition of the monopoly of the state-owned or controlled meat packing plants in supplying the IMontevideo market. -7- 24. Since the economic report was wTritten, the Uruguayan Govern- ment has entered into a first credit tranche standby agreemrent with the IMF. The IHF agreement contains a number of macroeconomic targets to be achieved by the Government in 1970, including a net foreign exchange re- serve test. I intend to follow closely the Government's action in meeting these targets. 25. Events during the first quarter of 1970 point to a gradually improving economic situation. The fiscal deficit is being maintained at budgeted levels; the rise in the cost of living has been relatively mod- erate (5.7 percent) despite the sizable increases in gasoline prices and the rates charged by public utilities noted above, and the country's foreign exchange reserve position continues to improve, bolstered by a rise in the overseas market price for Uruguayan beef. PART VI - COMPLIANCE W4ITH THIE ARTICLES OF AGREEMENT 26. I am satisfied that the proposed Loan would comply with the Articles of Agreement of the Bank. PAPT VII - RECOM1'IENDATION 27. I recommend that the Executive Directors approve the proposed Loan. Robert S. McNamara President Attachments WTashington, D.C. June 11, 1970