Report No. 12930-ER Eritrea Options and Strategies for Growth (In Two Volumes) Volume I Executive Summary and Main Report November 10, 1994 Country Operations Division Eastern Africa Department Africa Region 4 '1 -.~~, GOVERNMENT FISCAL YEAR January 1 - December 31 July 1 - June 30 (provisionally for national accounts) CURRENCY EQUIVALENTS Currency Unit: Ethiopian birr (Br) Official Rate: US$1.00 = Br 5.60 (July 1994) Auction Rate: US$1.00 = Br 6.22 (July 1994) ACRONYMS AIDB Agricultural and Industrial Development Bank BE Bank of Eritrea (Central Bank) CAA Civil Aviation Authority CBE Commercial Bank of Eritrea CEDAW Convention on the Elimination of All Forms of Discrimination Against Women CPA Central Personnel Agency EA Eritrean Airlines EEA Eritrean Electricity Authority EPLF Eritrean Peoples' Liberation Front EPS Eritrean Postal Service EPZ Export Processing Zone ERRA Eritrean Relief and Rehabilitation Agency ERW Eritrean Road Works ESL Eritrean Shipping Line HSB Housing and Saving Bank ICAO International Civil Aviation Organization ICARDA International Centre for Agricultural Research for the Dry Areas JHMC Joint High Ministerial Commission MOA Ministry of Agriculture MOC Ministry of Construction MOE Ministry of Education MFD Ministry of Finance and Development MOH Ministry of Health NIC National Insurance Corporation NUEW National Union for Eritrean Women PCE Petroleum Corporation of Eritrea PEM Protein Energy Malnutrition PMTA Ports and Maritime Shipping Authority PTA Preferential Trade Area for Eastern and Southern African States RDD Rural Development Department RRPE Recovery and Rehabilitation Program for Eritrea RTA Road Transport Authority SITC Standard International Trade Classification The data cited in this report prepared by the team. are. provisional aind. aretbas on unorganized and partial sources. As a result, jor a abe expected onee better data become available. ERITREA Page I of 4 COUNTRY DATA SHEET General Area, land sq km 125,000 Share covered by forests percent I Coastline kms 1,000 Continental Shelf sq kms 52,000 Population 3,000,000 to 3,500,000 Growth rate % per annum 2.7 to 3.0 Share of population rural percent 70 to 80 Density per sq km 24 to 28 Social Indicators Population Characteristics Crude birth rate per 1,000 47 Crude death rate per 1,000 18 Life expectancy at birth years 46 Total fertility rate 6.8 Contraceptive prevalence rate percent < 1 Health Infant mortality per 1,000 live births 135 Under-five mortality per 1,000 live births 203 Under-fives underweight percent > 41 Access to immunization percent of population 27 Maternal mortality rate per 100,000 births 710 Population per physician 28,000 Population per hospital bed 10,000 Access to Safe Water percent 8 Access to Sanitation Services percent 14 % of Urban population percent 44 % of Rural population percent < I Nutrition Daily calories per capita 1,750 Telephone Lines per 100 inhabitants 0.37 Education Female literacy percent 10 to 15 Adult literacy rate percent 20 Primary school enrollment % of relevant population 42 Junior secondary school enrollment % of relevant population 19 Secondary school enrollment % of relevant population 13 Pupils per teacher, primary schools 37 Pupils per textbook 68 Continued ERITREA Page 2 of 4 COUNTRY DATA SHEET Gross Domestic Product - 1991/92 = FY92 - Annual growth rate of GDP- (% p.a., constant 1980/81 prices) % of GDP at US$ m MY FY85-FY90 FY91 FY92 GDP at market prices 601 100.0 GDP at factor cost 544 90.6 -0.7 -7.2 6.7 Current account balance -61 -10.2 Exports GNFS 35 5.8 Imports GNFS 173 28.7 GDP at FC per capita - US$, Calendar Year 1992: $120 to $150 Output, Employment and Productivity - 1991/92 = FY92 - Value Added - % of GDP at US$ m FC Agriculture 155 28.5 Industry 159 29.2 Manufacturing 123 22.6 Services 230 42.3 Total 544 100.0 Government Finance Birr % of GDPmp 1/ 1992 1993 1992 Jan - Aug Current receipts 310.8 388.0 25.0 Current expenditures 258.5 279.1 20.8 Capital expenditures 91.6 85.8 7.4 Deficitlsurplus -39.3 23.1 -3.2 1/ The ratios to GDP use 1991/92 estimates. Continued ERITREA Page 3 of 4 COUNTRY DATA SHEET Money, Credit and Prices 1991 1992 1992 1993 Dec. June Dec. June In millions of birr Money supply, M2 494.5 771.8 1186.8 1534.2 Money supply, Ml 203.0 292.1 517.3 637.6 Quasi-money 291.5 479.7 669.5 896.6 Bank credit to public sector -162.5 -245.9 -91.5 -104.8 Bank credit to nonfinancial PEs 42.3 7.2 70.1 109.3 Bank credit to private sector 29.8 12.9 20.1 28.7 Percentage or index numbers: MoneyM2as%ofGDP 1/ 46.9 62.1 95.5 Money Ml as % of GDP 1/ 19.2 23.5 41.6 CPI for Asmara (Jan. 1992 = 100) .. 107.1 108.0 112.8 1/ The Ratios to GDP use 1991/92 GDP estimates. estimates were used for calculating 1992 ratios. Semi-annual percentage changes: CPI for Asmara .. .. 0.8 4.5 Money supply, M2 .. 56.1 53.8 29.3 Money supply, MI .. 43.9 77.1 23.3 Quasi-money .. 64.6 39.6 33.9 Bank credit to public sector .. 51.3 -62.8 14.5 Bank credit to nonfinancial PEs .. -83.0 873.6 55.9 Bank credit to private sector .. -56.7 55.8 42.8 Continued ER[TREA Page 4 of 4 COUNTRY DATA SHEET Balance of Payments - Calendar Year 1992 Birr Non-Birr Transactions Transactions Total In millions of US$ Exports GNFS 14.7 20.1 34.8 Imports GNFS 32.1 140.4 172.5 Resource gap (deficit -) -17.4 -120.3 -137.7 Net private transfers 0.0 76.4 76.4 Net official transfers 0.0 24.8 24.8 Balance on current account (xdc. net official transfers) -17.4 -43.9 -61.3 Balance on current account (incl. net official transfers) -17.4 -19.1 -36.5 Capital account 226.5 17.3 243.8 Long-term, net 48.3 25.9 74.2 Errors and ommissions 178.2 -8.6 169.6 Overall balance 209.1 -1.8 207.3 Monetary movements -209.1 1.8 -207.3 Bank of Eritrea 12.2 0.0 12.2 Commercial Bank of Eritrea -221.3 1.8 -219.5 Rate of Exchange (Official) 1990 1991 1992 1993 US$1.00 = birr 2.07 2.07 2.80 5.00 Biff 1.00 =USS 0.483 0.483 0.357 0.200 Note: The biff was devalued to Br 5 US$1.00 in October 1992. External Debt, December 31, 1993 USS m SDRs m IDA Credit: Recovery and Rehabilitation Project for Eritrea Approved on March 30, 1993 Approved amount 25.0 18.1 Disbursements, as of June 30, 1994 9.8 6.9 Undisbursed, as of June 30, 1994 16.2 11.2 CONTENTS VOLUME I: Ex unTNE SUMMARY .......... ............................. i-xviii CHAPTER 1 ITRoDUCnoN ........................................... 1 BACKGROUND .....................................1.... History ............................................. 1 Society ............................................. I Resources ....................................... 2 Evolution of the Economy .................................. 2 RECENT SOCIAL AND ECONOMC DEVELOPMENT ...... ............... 3 Current Social Situation ................................... 4 Current Economic Situation ................................. 4 Government's Recovery and Rehabilitation Program ..... ............. 7 CHALLENGES AHEAD ................................. , 7 2 STRENGTHEMNNG MACROECONOMIC MANAGEMENT ....... .................... 9 INTRODUCTION AND SUMMARY ................................. 9 FISCAL MANAGEMENT ..... . ......................... ... 10 Increased Revenue Mobilization ............................. 12 Caution in Public Expenditure ......... ..................... 14 Budgetary Process . .................................... 16 MONETARY AND FINANCIAL SECTOR MANAGEMENT .................. 18 The Financial Sector: Background and Issues ..................... 19 Strengthening the Financial Sector ........................... 21 Diversifying the Financial Sector ........ ..................... 23 EXTERNAL BALANCE ....................................... 24 REGIONAL INTEGRATION ..................................... 26 3 PROMOTING EXPoRTs ....................................... 31 INTRODUCTION AND SUMMARY ............ ........................... 31 OVERCOMING CONSTRANTS TO EXPORT DEvELopMENT ................ 32 Regulatory Environment . .................................. 33 Operating Environment . .................................. 34 FIRM LEVEL CONSTRAINTS . .................................. 36 ExpORT PROCESSING ZONES AND ENTPOT FACnLI ................ 37 SECTORS WITH EXPORT POTENTIAL ............................. 39 Manufactured Exports ................................... 40 Minerals ............................................ 42 Agricultural Products .................................... 43 Fish and Fish Products ................................... 44 Tourism ........... ................................. 44 4 FACILITATING ENTERPRISE DEVELOPMENT ......................... 45 INTRODUCTION AND SUMMARY ................................ 45 THE INDUSTRIAL SECTOR: A PROFILE ........................... 46 Background .......................................... 46 Current Structure of Eritrean Manufacturing Industry ............. ... 48 PROSPECTS AND CONDITIONS FOR ENTERPRISE IMPROVEMENT ... 49 Main Constraints . . .49 STRENGTHENING PUBLIC ENTERPRISES . . .50 FACILITATING PRIVATE SECTOR DEVELOPMENT . . .53 SUPPORTING SMALL AND MICRO ENTERPRISES . . .57 a AGRICULTURE: REALIZING ITS POTENTALu FOR GRowrH .59 INTRODUCTION AND SUMMARY . 59 NATURAL RESOURCE BASE, STRUCTURE AND PERFORMANCE ...61 THE POTENTIAL FOR GROWTH . . .64 Intensifying Agricultural Production ........................... 64 Land ........................ 69 Water Resources and Irrigation .............................. 70 SOURCES OF GROWTH IN KEY SUBSECTORS ........................ 73 Food Crops .............................. 75 Cash Crops .............................. 75 Livestock ....................... 77 Fisheries .................. 80 MANAGING AGRICULTURAL GROWTH ............................ 81 Institutional Support .............................. 81 Rural Credit .............................. 84 Provisions of Inputs and Role of Private Sector .................... 85 Agricultural Prices . . .86 Commercial Farming . . .86 FOOD SECURITY AND FOOD AID . . .87 6 LABOR MARKETs AND EQuiTABLE GROWH. 91 INTRODUCTION AND SUMMARY .91 BACKGROUND .92 Urban Labor Markets .92 Rural Labor Markets .97 - iii - IMPROVING LABOR MARKETS: THE MAIN PRIORITIES .................. 97 Strengthening Environment for Employment of Labor ................ 97 Building an Efficient Civil Service ............................ 98 Gender Issues ........................................ 100 Demobilization of Soldiers ................................. 101 Public Works Programs .................................. 103 Community-Based Labor .................................. 103 Training: Vocational Education or Enterprise-Based Training'? ... ....... 105 Foreign Demand for Eritrean Labor ........................... 106 7 INVESTING IN PEOPLE: EDUCATION .............................. 109 INTRODUCTION AND SUMMARY ................................ 109 BACKGROUND ....... ................................... 110 EDUCATION POLICY OF THE GOVERNMENT ........................ 1II PROSPECTS AND CONDITIONS IN THE EDUCATION SECTOR ............... 112 IMPROVING EDUCATION .................................... 118 Making Strategic Choices ................................. 118 Emphasizing Learning ................................... 120 Developing Low-Cost and Participatory Approaches to Education ... ..... 120 Defining the Role of Government in Education Delivery .............. 122 8 INVESTING IN PEOPLE: HEALTH AND NUTRITION ...................... 123 INTRODUCTION AND SUMMARY ................................ 123 GOVERNMENT'S HEALTH SECTOR OBJECTIVES ...................... 124 PROSPECTS AND CONDITIONS ................................. 125 Health and Nutrition Status ................................ 125 Health Facilities ....................................... 129 System Performance .................................... 132 Recurrent Budget ...................................... 132 Capital Expenditures .................................... 133 Cost Recovery ........................................ 133 IMPROVING HEALTH AND NUTRITION ............................ 133 Health ............................................. 133 Nutrition ............................................ 135 9 SOME PERSPECTIVES ON POVERTY AND COPING MECHANISMS IN ERITREA ..... 137 INTRODUCTION AND SUMMARY ................................ 137 MEASURING POVERTY IN ERITREA ..................................... 139 WHY ARE PEOPLE POOR? ................................... 139 VULNERABLE GROUPS: GENDER, AGE, HANDICAPS ........................ 144 THE WAR AND ITS AFTEREFFECTS ..................................... 146 COPING STRATEGIES ................................................ 148 OPTIONS AND STRATEGIES FOR POVERTY ALLEVIATION ..................... 151 - iv - 10 PRIORITING IFRASMRUCTURE SUPPORT ......................... 155 INTRODUCTION AND SUMMARY ................................. 155 ENERGY ............................................... 157 Background ........................................... 157 The Electricity Sector .......... . .. . .. . .. . .. . . .. . .. . .. . . . 159 Petroleum Products ........... . .. .. . .. .. . .. .. . .. .. . .. .. . 160 The Role of the Private Sector ................................ 161 Pricing of Energy Products ................................. 161 Regulation ........................................... 162 TRANSPORT ............................................. 163 Background ........................................... 163 Priorities for the Transport Sector ............................. 164 Road Maintenance Programs ................................ 165 Revenue Recovery in the Roads Sector .......................... 165 Developing Policies for Road Transport ......................... 166 Rehabilitating Ports ...................................... 167 Developing the Civil Aviation ............................... 168 TELECOMMUNICATIONS ............................. 169 Background ........................................... 169 Government Objectives for the Telecommunications Sector ............................... 170 Short-Term Needs ....................................... 171 Options for Development in the Medium Term ..................... 171 Regulatory Framework .................................... 172 WATER SUPPLY AND SANITATION ................................ 172 Background ............................................ 172 Government Objectives .................................... 174 Improving the Efficiency of Water Use ........................... 175 Institutional Framework .................................... 175 Revenue Mobilization ..................................... 175 HOUSING AND URBAN DEVELOPMENT ......... .................... 176 Background ......................................... 176 Government's Objectives for the Housing and Urban Sector . ................................ 177 Prospects for the Future ..................................... 177 Creating Property Markets .................................. 178 11 ENVRONMENT: ENSURING SUSTAiNABLE DEVELOPMENT ................. 179 INTRODUCTION AND SUMMARY ......... ....................... 179 MAJOR ENVIRONMENTAL CONCERNS ............................ 181 Land and Forest Resources ................................ 181 Water Resources ....................................... 186 The Urban Environment and Industry ........ .................. 189 Marine Resources and Coastal Zone Management ..... ............. 190 Biodiversity and Wildlife .................................. 192 v - CROSS-SECTORAL ISSUES: IMPROVING ENVIRONMENT ..... ............. 194 Population Growth and Resettlement ........ .................. 194 Institutional Capacity .................................... 195 Environmental Policy .................................... 197 Information Base ...................................... 198 BIBLIOGRAPHY ......................................... 201 TEXT TABLES Table 1.1 GDP at Constant 1980/81 Prices. 6 Table 1.2 Sectoral Composition of National Output. 8 Table 2.1 Summary of the Government Budget .11 Table 2.2 Composition of Government Revenue .12 Table 2.3 Functional & Economic Classification of Recurrent Expenditures . . .15 Table 2.4 Total Capital Expenditures by Sector .17 Table 2.5 Provisional Monetary Survey .19 Table 2.6 Balance of Payments .25 Table 3.1 Merchandise Trade .33 Table 4.1 Private Industrial Enterprises: A Sectoral Profile .47 Table 4.2 Public Industrial Enterprises: A Sectoral Profile .48 Table 4.3 The License Fee Structure .55 Table 5.1 Production and Yields of Food Crops and Oil Seeds (1992) .65 Table 5.2 Land Use Categories .70 Table 5.3 Irrigation by Type and Product (1992) .72 Table 5.4 Estimated Number of Livestock by Province (1992) .78 Table 5.5 Marine Fish Utilization and Potential .81 Table 5.6 Supply of Food Aid .88 Table 6.1 Summary Statistics (September 1993) (A) Employment .93 (B) General Picture of Wages (1993) .93 Table 6.2 Job Protection Legislation in Selected Countries .99 Table 7.1 Education Status in Developing Countries .110 Table 7.2 Length of School Year in Selected Countries .120 Table 8.1 Health Indicators in Eritrea .126 Table 8.2 Leading Cause of Disease in Eritrea .126 Table 8.3 Nutritional Status of Children Under Five .127 Table 10.1 Commercial Energy Consumption .158 Table 10.2 A Comparison of Average Electricity Tariffs in Eastern Africa .... 159 Table 10.3 Telephone Main Lines Per 100 Inhabitants ................. 170 - vi - TEXT BoxEs Box 2.1 Benefits and Constraints of Regional Integration .... .......... 28 Box 3.1 Export Processing Zones ............................. 38 Box 4.1 Lessons of Experience on Privatization .................... 51 Box 4.2 Promotion of Investment: Is An Investment Code Necessary? ... ... 54 Box 4.3 Eritrean Craft Entrepreneurs .......................... 56 Box 4.4 The Priority Needs of the Small Business Constituency .... ...... 58 Box 5.1 Eritrea's Agro-Ecological Zones ........ . . . . . . . . . . . . . . . . 62 Box 5.2 How can Eritrea Achieve Growth in Agriculture? ...... . . . . . . . 74 Box 6.1 Principles of Financially Viable Lending to Poor Entrepreneurs . . . . 102 Box 6.2 Community Participation and Lessons of Experience ..... . . . . . 104 Box 6.3 The SENCE Scheme in Chile: Guaranteeing Relevance of Workers' Training Through Private Sector Participation ..... . . 107 Box 7.1 Vocational Education-An Example from Chile .... .......... 116 Box 7.2 Primary Education for All: Learning from the BRAC Experience . . 121 Box 10.1 Options for Regulatory Framework ..................... 173 Box 11.1 Regulating Hazardous Wastes: An Innovative Approach in Thailand .192 Box 11.2 Chile's New Fishery Law ........................... 193 Box 11.3 Building An Administrative Structure .................... 197 Box 11.4 Setting Priorities in Burkina Faso ...................... 199 FIGURES Figure 1.1 Annual GDP Trends - Real Growth Rates ................... 5 Figure 6.1 Distribution of Employment ........................... 95 Figure 6.2 Labor Office Listed Vacancies for Asmara and Six Provinces ... ... 96 Figure 7.1 Gross Enrollment Ratios by Province .................... 111 Figure 7.2 Provincial Shares ......... ....................... 113 Figure 7.3 Student-Teacher Ratios by Province ..................... 114 Figure 7.4 Asmara University Budget ........................... 119 VOLUME II: STATISTiCAL ANNEX Preface This Country Economic Memorandum (CEM) was prepared, under the overall guidance of Peter Miovic, by a team led by Ejaz Ghani (Task Manager) and comprising Pauline Boerma, Luciano Borin, Subhash Dhingra, Laura Frigenti, Indermit Gill, Clive Harris, Mimi Klutstein- Meyer, Paul Popiel, Lee Roberts, Hyoungsoo Zang (World Bank); GOnther Taube (IMF); Turhan Saleh (UNICEF); Larry Forgy (USAID); Giorgio Barba Navaretti, Giorgio Sparaci, Giovanni Zanalda (Italy); and Rudolf Niemeyer (Netherlands). Substantive inputs were received from Richard Beardmore, James Coates, Akhtar Elahi, Sture Karlsson, Syed Mahmood, Robert Ngong, A. Sparkes, Ed Quisumbing, Michael Walshe (World Bank); Vaughn Corbett (Canada); Jdrgen Krombach (Germany); Sergio Palladini, F. Paolo De Crecchio, Mariano Gosi, Claudio Moriani, Emanuele Codacci Pisanelli (Italy); Wouter Bake (Netherlands); Ole Kr. Sylte (Norway); Sei Etoh, Petros Kidane (FAO); Niels Nielsson (SIDA); Tony Chan (USAID); Michael Askwith, Seyoum Haregot, Luong Nguyen, Mark Doctoroff, Jesse Hillman, Rukudzo Murapa (UNDP); Sara Wakeham, David Sims (UNCHS); Yousif Suliman, Assefa Belay (UNECA); John Gara (UNCTAD); Miriam Were, E. Colecraft (UNFPA); Dr. M. Dowling (WHO); Lalit Godamunne, Dawit (WFP); Mohamed Alin, and Sharon Louw (Consultants). The report has benefitted from comments by Mark Baird, Deepak Bhattasali, Sidi Boubacar, David Cassells, Francis X. Colago, Mohsen Fardi, Sushma Ganguly, Charles Griffin, Rolf GIisten, Patrick Low, Jack Maas, Minhchau Nguyen, Sergio Palladini, Jack Van Holst Pellekaan, Gurushri Swamy, Simon Thomas, Lars Vidaeus, and Stephen Weissman. A multi-donor team, led by Peter Miovic, co-managed by Sergio Palladini (Italy), and assisted by Michael Askwith (UNDP), and Lee Roberts as donor coordinator, visited Eritrea in October/November 1993. During the mission, discussions took place with a large number of NGOs including ACORD, Eritrean Catholic Relief Services, Eritrean Inter-Agency Commission, International Committee of Red Cross, IFRC (Red Cross), Lutheran World Federation, Lutheran World Service, Norwegian Church Aid, Norwegian Save the Children, OXFAM-UK, Save the Children Fund (UK), Swedish Save the Children, and SOS-Sahel (UK). Above all, this report would not have been possible without the guidance and assistance of many Eritrean Government officials who helped in the preparation of this report. They include Gebreselassie Yosief, Seilu Abraha, Aynom Berhane, Andom Kiflemiriam, Tesfamariamn Tekie, Twelde Woldemichael, Mehbratu Eyassu, Dawit Giorgis, and others. The document was produced by Lora Clarkson and Roboid Covington, assisted by Eleni Houghton and Afsar Nokhostin. The Peer Reviewer for the CEM was Mark Baird (DECVP), the Division Chief is Michael F. Carter (AF2CO), and the Director is Francis X. Colaco (AF2DR). ExEcuTmE SUMMARY INTRMODUCTON Background 1. The Eritrean People's Liberation Front (EPLF), which had begun to control parts of the country since the mid-1970s, achieved total control over Eritrea in May 1991. This coincided with the Ethiopian People's Revolutionary Democratic Front's victory over the military regime in Ethiopia. The EPLF formed the Provisional Government of Eritrea (PGE) to administer their own affairs within their own territory and this step was supported by the National Conference on Peace and Democracy held in Addis Ababa in July 1991. The PGE announced that a referendum would take place within two years to decide on the future status of Eritrea. The referendum was held on April 23-25, 1993, and the voters provided an overwhelming mandate for national independence. Eritrea became formally independent on May 24, 1993. Ethiopia was among the first group of nations to recognize Eritrea's independence. 2. Eritrea is strategically located in the northeastern part of Africa, with the Red Sea on its east coast, Sudan to the west and north, Ethiopia to the south, and Djibouti at the extreme southeastern tip. The overall size of the country is about 125,000 square krns (roughly the size of Greece), and the coast line is around 1,000 kms. Massawa and Asseb are the two major ports on the Red Sea. Massawa has been a center of trade between Africa and the Middle East for centuries. Eritrea is a land of varied topography, climate and rainfall. It lies in the Sahelian rainfall zone and receives its rainfall from the southwestern monsoons. In normal years rainfall varies from 400 to 650 mm annually in the highlands and from 200 to 300 mm in the lowlands. During droughts, the rainfall levels can be as low as 200 mm in the highlands and less than 100 mm in the lowlands. At present, little is known about the extent of mineral deposits in the country. Although there is potential to extract petroleum from the Red Sea, the economic viability of these reserves has yet to be firmly established. Fish is, so far, one of the richest known natural resource, and the country's coastal waters are believed to be among the most potentially productive fishing grounds in the Red Sea. 3. Historically, Eritrea has been a nation of skilled people with a wealth of experience in entrepreneurship, commerce, and international trade. At the end of the 1930s, some 730 companies producing industrial goods existed in Eritrea. In addition, some 2,200 trading companies were active. During this period, Eritrea also became a successful exporting nation. At the time of the Second World War, when imports from Europe to the East African markets were disrupted, Eritrean industries stepped in to supply these markets. 4. From the 1950s, the economy entered into a phase of long-term decline. In 1974, when the military regime in Ethiopia adopted a command economy, most private sector assets including land, housing, and industries, including those in Eritrea, were nationalized. The adverse impact of centrally planned policies was further compounded in the last two decades by the intensification of war, the recurrence of droughts and famines, and lack of foreign exchange to import essential inputs. At the time of its liberation in 1991, Eritrea inherited enterprises that were non-operational; an agricultural sector that was severely disrupted by the war; a damaged infrastructure; and health and educational facilities that were destroyed. 5. After decades of lost growth, Eritrea has become one of the poorest countries in the world. Preliminary estimates suggest GDP per capita to be in the range of US$130 to US$150. This is less than half the US$350 average per capita income for Sub-Saharan African countries. I Of an officially estimated population of about 3 to 3.5 million, as many as one million Eritreans were forced to leave the country due to the repressive policies of the military regime. More than half a million of those are living in Sudan, in refugee camps or resettled in villages or towns. Eritrea's social indicators are consistent with its low per capita income; in fact, there has been a severe erosion of the human capital base. The deterioration in human resource indicators has resulted in increased illiteracy rates, and high infant and child mortality rates. The breakdown of families associated with war, displacement, and droughts has left thousands of children as destitutes and orphans. It is estimated that there are nearly 100,000 internally displaced persons, and some 60,000 soldiers who are in the process of demobilization. 6. Eritrea has also suffered significant environmental damage, through the degradation of its land, water, and forestry resources. Whereas it was estimated that in the 1920s about 30 percent of the country was covered with forests and woodlands, it is estimated currently that only about 1 percent of the total land area is covered by forests, while riverine woodland and bush land cover another 1.6 percent of the land. The main reason for the rapid deforestation has been the war, the cutting of wood for fuel, and traditional land tenure systems that did not encourage investment in land. Large quantities of wood were required for the construction of trenches and garrisons, while napalm and defoliants also contributed to the wholesale destruction of forests in certain parts of the country. 7. Along with the damage done to the economy and society, Eritrea has inherited institutions and instruments that were geared for managing a command economy. While it was a part of Ethiopia, the provincial administration in Eritrea had little autonomy and policymaking capability. After independence, the problem was further compounded as many Ethiopian civil servants left Eritrea. Because of restrictive labor policies in the past, the country has inherited a wide array of skill shortages coexisting with unemployment. During the liberation movement, the EPLF established administrative capacity in areas under its control, and these mechanisms, in part, now form the foundation of the new Government. Local community structures in many parts of the country have remained intact. 8. Economic and social data on Eritrea are scanty. During the Ethiopian regime, little data on Eritrea were collected. This was further compounded by Eritrean data being merged with those of other Ethiopian provinces. In general, the data situation is still weak, particularly with regard to national accounts, balance of payments, price developments, monetary and fiscal The per capita GDP figure for Eritrea reported in the CEM is for calendar year 1992, assuming an exchange rate of Br 2.8= 1US$, and a population range of 3.0 to 3.5 million. Birr was devalued from 2.07 to 5 per US$ in October 1992.Per capita GDP figures for July 1991 to July 1992, based on exchange rate of Br 2.07 = IUS$, and the above population range, is US$155 to US$237 per capita. These figures should be treated with caution since the GDP figures are also preliminary. -11- situation, and social indicators. The Government has established a National Statistical Office to begin gathering the essential data. Some rudimentary data have become available over the past two years which are presented in this report. However, because of the preliminary nature of data, many observations made in this report are subject to revision, as better evidence emerges. The Recovery and Reconstruction Program 9. Following the liberation of Eritrea in May 1991, the Government launched a major program to rehabilitate the economy and society. This effort is being supported by the World Bank and other donors with contributions towards the Government's Recovery and Rehabilitation Program, aimed at providing foreign exchange to import essential inputs to jump-start the economy. The Government has made substantial progress with their rehabilitation effort. The economy grew by nearly 7 percent in 1991/92, in contrast to the severe contraction of the economy in 1990/91. It is estimated that poor rainfall limited agricultural output growth in 1992/93. Major sources of growth during 1991/92 were the increase in agricultural output by 10 percent; the expansion of industrial sector by nearly 7 percent; and the increase in trade and transport by more than 8 percent. Although substantial progress has been made in rehabilitating the economy and society, the development needs of the country are enormous. 10. Eritrea has also made progress in eliminating many restrictive policies of the past, and moving towards a market-based economy, open to external trade, and creating a stronger role for the private sector. The Government has emphasized the importance of adopting strategies to make up for decades of lost growth, achieving food security, addressing the needs of the social sectors, and rehabilitating infrastructure. In addition, Eritrea has placed a high priority on building an efficient national government and developing its own capacity to manage policies. Content of the CEM 11. This CEM examines the key elements of an overall growth strategy for Eritrea, exploring options and trade-offs that the decision-makers face. The focus of the CEM is on: (i) strengthening the macroeconomic environment, (ii) promoting exports, (iii) facilitating enterprise development, (iv) realizing the potential of agriculture, (v) improving labor markets, (vi) investing in education, (vii) investing in health, and nutrition, (viii) enhancing the role of community participation in poverty reduction, (ix) prioritizing infrastructure support, and (x) improving environment. Defriing a Vision for the Future 12. With the recovery and rehabilitation program on track, Eritrea has begun the task of defining a development strategy. This Country Economic Memorandum (CEM) is intended to support this process. The central focus of this report is on the types of policies, institutions, and resources that are required to reestablish and accelerate broad-based growth in Eritrea. The Government has inherited a heavily regulated and centrally planned system from the Ethiopian regime. Much of the economic and social base is still damaged. The transition towards building new institutions and developing new instruments for managing a peace-time market-based economy, as well as fully rehabilitating the economy and society, will take time. In addition, given the limitations on Eritrea's absorption and implementation capacity, hard choices will need to be made at an early stage. This report presents several options and strategies for growth that - 111 - could be considered appropriate to the Eritrean conditions in terms of timing, sequencing and management of the process of change. The recommendations have tried to take into account the unique features of the country, the initial conditions prevailing in the country, and possible paths that could be adopted for accelerated development. An attempt is also made to provide relevant lessons of experience from other developing countries, assess what has worked elsewhere, and what could be adapted to suit the Eritrean conditions. What Kind of Growth Strategy? 13. What kind of growth strategy would be appropriate for Eritrea? First, the major resource of the country is its people. Historically, Eritrea has been a nation of skilled people, and human resource potential is Eritrea's greatest asset. Any growth strategy, therefore, would need to emphasize investing in people. Education and health are key inputs in the growth process. Second, Eritrea has a small domestic market. Thus, reestablishing and promoting exports will be critical for accelerating growth through increased productivity as well as for earning foreign exchange to meet the objectives of food security. Third, Eritrea has inherited a weak civil service and currently has limited administrative capacity. This would argue in favor of both strengthening the civil service to play a carefully defined function and expanding the role of the private sector. At an early stage, the Government would need to define its role such that the Government: (i) focuses on those activities in which it has a comparative advantage; (ii) ensures macroeconomic stability; (iii) creates and sustains competitiveness through appropriate policies; (iv) maintains appropriate levels of expenditures in social services and physical infrastructure; and (v) most importantly, develops a proactive complementary relationship with the private sector. Eritrea's rich entrepreneurial tradition should be helpful in reviving and expanding the private sector. Fourth, decades of war and neglect have deprived Eritrea of the necessary infusion of new investments, technology and skills development. Among the principal options for the acquisition of new technology and opportunities for skill development is openness to international markets and direct private foreign investment. In addition, support programs will need to be implemented to modernize and expand micro and small-scale enterprises in Eritrea. An essential precondition for attracting private foreign investment is the existence of adequate and efficient infrastructure. Rehabilitating infrastructure and eliminating some of the inmmediate constraints, such as the shortage of electricity, will be important in reestablishing growth. It is also important to emphasize that any strategy that is adopted should be flexible and responsive to changes in the domestic economy and the international environment. Ensuring the Participation of the Poor in Growth Process 14. The growth strategy for Eritrea should ensure that the benefits of growth are distributed proportionately, or better, to the poor. There are several sides to this issue. Fortunately, Eritrea has inherited an egalitarian system, with most people owning some asset or a plot of land. A major strength of the society is its well developed family and community solidarity which have played an important role in mitigating the consequences of war, droughts and famines, and poverty in general. The traditional coping mechanisms have helped the Eritrean population face extremely hard living conditions, including the effects of the war. In addition to encouraging a greater role for community participation in rehabilitating economic and social infrastructure, what else would be needed to ensure that the poor participate in the growth process? First, experience shows that well functioning factor markets, particularly labor markets, are crucial in helping the poor to benefit from the growth process. In Eritrea, because of restrictive labor policies in the - iv - past, labor markets, both rural and urban, are characterized by reduced labor mobility, and skill shortages coexisting with high unemployment. The recent reforms by the Government have helped to provide a more enabling environment for labor. Reducing the distortions and rigidities in labor markets is the most efficient means for increasing the poor's productive assets. Second, a broad-based pattern of public expenditure in basic education, health, and nutrition would be important in ensuring that the poor both contribute to and benefit from growth. Third, Eritrea has a long tradition of public works programs. Carefully designed public works programs can both help the development of agricultural labor mobility and encourage the movement of a growing labor force from agriculture to nonfarm activities, thus helping to raise productivity in agriculture, while reducing the dependence of Eritrea's rural population on agriculture. Since traditional coping mechanisms can often be strained during famines, public works programs will be needed in the short to medium term as instruments of relief and employment. The Government has created the framework for the removal of traditional economic and social constraints on women. The new proclamations and measure will need programs to re-educate, provide incentives and widen economic opportunities for poor women. Finally, economic progress in Eritrea will be set against the background of a major effort to reintegrate tens of thousands of returning refugees from Sudan and other countries. This will require continued support for community development programs with an emphasis on provision of low cost housing and basic social services. These efforts will go hand in hand with programs to reintegrate thousands of ex-fighters into productive activities in civil society. Strengthening the Macroeconomic Enviromnent 15. The Eritrean Peoples' Liberation Front (EPLF) practiced sound financial practices during the struggle for independence. Following the liberation of the country, the Government has implemented a number of important institutional, legal and economic policy reforms. Tight fiscal policies have been adopted, while the tax regime has been liberalized and the momentum of revenue mobilization effort maintained. As a result of substantial reductions in the tariff rates on imports, from a maximum of 230 percent to 50 percent, Eritrea has become a relatively open economy. The exchange rate is determined by the foreign exchange auctions in Ethiopia. Eritrea has provisionally decided to continue to use the Ethiopian currency, the birr, as legal tender. Eritrea has also taken initiatives towards regional integration. 16. Much remains to be done to ensure the maintenance of an enabling macroeconomic environment that provides the right market signals, encourages private investment, and fosters growth. First, there is a need to continue to exercise caution in the level of public expenditure, given the expected pressures on recurrent budget from: (i) expanding social and economic services and hiring additional personnel for the civil service, (ii) the payments of salaries or other forms of remuneration and compensation to ex-fighters who did not receive salaries in the past, and (iii) the increased provision of targeted programs for the returnees, refugees, displaced families and other vulnerable groups. In addition to the restraint on recurrent expenditure, the Government will face the challenge of setting priorities within capital expenditure. This is because of anticipated pressures arising from the increasing number of development projects which are planned or in the process of being started, and which, apart from being donor-funded, also require cofinancing from the Government. Restraint in the level of both recurrent and capital expenditure would need to be matched by further efforts aimed at revenue mobilization, consistent with efficiency and equity objectives. Since the needs of the country are large, external financial assistance in the form of general balance of payments support, by generating sufficient - v - counterpart funds, could help to address the pressing social needs of the country. In this context, the Government could consider devising mechanisms for centralizing counterpart funds and controlling their spending. Maintaining a prudent fiscal policy will be critical for sustaining the credibility of the Government's policies. 17. Second, in the context of the currency union prevailing presently between Eritrea and Ethiopia, the Government could consider adopting additional measures to harmonize monetary and fiscal policies. Eritrea and Ethiopia have already signed several agreements that allow the free movement of people and goods between the two countries. The currency union reduces the margin for an independent monetary policy by Eritrea, for example to conduct an independent interest rate policy. The Eritrean authorities have already finalized two acts covering the central bank, and the financial system, to lay the basis for an adequate legal, regulatory and prudential framework to govern the sector, while forming a sound basis from which to grow, diversify and be monitored. Private banks, both domestic and foreign, are also permitted to operate in Eritrea. A major issue facing the financial sector is the high level of liquidity in the banking system. Proposals are being developed to deal with potential problems arising from imbalances between lending and deposit portfolios of the Commercial Bank. 18. Third, there is an urgent need to address the shortages of skilled staff in key positions. Other ongoing efforts will need to be fully consolidated, for example, the strengthening of tax and customs administration, and of expenditure management systems. Institutional strengthening will take time. The Economic and Financial Management Program (EFMP) will support the Government's efforts towards capacity building for the core economic agencies. The Government may consider further expanding the program to support capacity building in sector ministries. 19. Fourth, the economic and social database on Eritrea is still weak, and a system to regularly collect and publish data is urgently required. Most available data are only estimates and provisional in character. Data are particularly scarce with regard to the national accounts (GDP and its sectoral composition), price developments (household expenditure patterns and establishment of retail price indices), and the external sector (merchandise exports). A population census is also needed. Although the situation is somewhat better in the fiscal and monetary sectors, a great deal remains to be done. The EFMP will provide support to these efforts. Promoting Exports 20. Historically, Eritrea, with its strategic location and easy access to the markets of the Middle East and the rest of Africa, has been a trading nation. In the 1940's, Eritrea's export base was relatively diversified, while transit trade through the ports of Massawa and Asseb became increasingly important. In the early 1970s, Eritrea apparently earned nearly US$100 million worth of foreign exchange per annum from exports. In the 1980s and 1990s, however, exports declined dramatically. In 1992, the level of exports had fallen to under US$ 10 million. Like the rest of the economy, the export sector suffered from the war and inappropriate policies of the past. 21. Rehabilitating and promoting exports of goods and services will be critical for meeting the basic needs of the country. Export expansion has been a hallmark of all fast-growing economies. There are several reasons why an export-led growth strategy would be appropriate for Eritrea. First, Eritrea has the potential for expanding exports, as evidenced by its past - vi - performance, although reestablishing the export base will take time. Second, Eritrea has a small domestic market. Once domestic needs have been met, export expansion would become the main engine of growth. Third, since decades of war and neglect have deprived Eritrea of the necessary infusion of new technology and skills, openness to international markets could be a major channel for technological improvements. Finally, the foreign exchange needs of the country are immense, and food will need to be imported for many years to come; export earnings and private foreign investment are essential to fill this gap. In fact, it is likely that achieving food security through increased export earnings may be a more viable prospect than achieving food self-sufficiency through domestic production. 22. The highest potential for exports, both in the short and the long run, are in manufacturing, mining, and selected items in agriculture and fishery, and some services such as tourism. In many cases, products with potential for export are those that have been produced in the past for the local and Ethiopian markets. For these products some production capability has survived in the country and it can be utilized in export-oriented activities. Traditionally, Ethiopia has been a major market for Eritrean goods. It is anticipated that export development of manufactured products will most likely take place in two parallel streams: (i) in one stream, for cases where Ethiopia (and the near region) will remain the principal market for Eritrean exports, and where the main source of exported products will be the existing (possibly modernized) or new industrial enterprises. Possibilities include: salt, glass bottles, plate glass, ceramics; and (ii) in the second stream where the major role will be played by new enterprises oriented to export towards other markets; possible products include: base metals, gold, marble and granite, garments (knitted and fabricated), leather and leather goods and shoes, bottled mineral water, and sports shoes. Deposits of petroleum and gas may also exist. However, mining exploitation can be very capital and technology intensive. In order to exploit the mineral resources of the country, it will be necessary to attract private investment. Foreign investors have already expressed an interest in the mining of base metals. The same consideration applies to marble and granite mining for which requests from investors for renewal or issuing of licenses are awaited. 23. Though agricultural exports were the mainstay of export earnings in the 1960s and 1970s, the potential contribution of agricultural exports will be more modest in the short run. Fish, fish products, livestock and horticulture have some potential for export; addressing investment and infrastructure requirements of the sector will help the realization of the potential. Tourism potential is also high, but the state of development of the sector is low at this stage due to lack of infrastructure. Remittances from Eritreans abroad are currently a major source of foreign exchange earnings for the country. In 1992, for example, private remittances from Eritreans abroad amounted to US$76 million, equivalent to about 13 percent of GDP. There is considerable demand for Eritrean labor in oil-exporting Gulf countries. 24. The Government, recognizing export expansion as a main engine of growth, has already initiated several measures to promote exports through policy reforms and rehabilitation efforts. These reforms (e.g., pursuit of a competitive exchange rate policy, lower trade taxes and dismantling of market restrictions on exporters) are an important starting point. Additional measures are also being considered to promote exports in the short to medium term. They include: (i) the rationalization of export licenses; (ii) further improvements in the foreign exchange allocation system; (iii) the elimination of the remaining regulatory and legal obstacles that could constrain private--domestic and foreign--enterprises from investing in Eritrea; (iv) the provision of time-bound support (technical and marketing) to sectors with export potential (e.g., - vii - shoe making, garments, knitwear, in the manufacturing sector; and fisheries and livestock in the agricultural sector); (v) a greater focusing of the rehabilitation efforts on sectors with export potential and where relatively small investments are required (e.g., salt, leather, shoe making, knitwear, sesame); (vi) encouraging and organizing sectoral level cooperative agreements and contacts between other developing and developed countries and local firms in Eritrea; (vii) setting up of entrepots facilities/areas (bonded warehouses), and establishing efficient export processing zones as an instrument for speeding up export development; (viii) establishing and strengthening mechanisms for attracting remittances from Eritreans abroad on a long-term basis; and (ixb encouraging the private sector in the expansion of tourism. Facilitating Enterprise Development 25. Eritrea's production structure is relatively diversified in comparison to other Sub-Saharan African countries. The share of industry, including manufacturing, mining and construction, ranges between 26 to 31 percent of GDP, and is somewhat higher in comparison to the average of around 27 percent for Sub-Saharan African countries. The share of agricultural output in GDP has averaged between 21 to 26 percent; this is low by comparison to the average of more than 30 percent for Sub-Saharan African countries. Distribution services, including trade, transport, and communication, account for 13 to 16 percent of GDP in Eritrea. 26. Manufacturing enterprises in Eritrea are characterized by large and medium-scale enterprises which are under public ownership. Most private enterprises are concentrated in micro and small-scale activities. The large presence of public enterprises is not the result of any historical lack of private entrepreneurship in the country, but is rather the legacy of relatively recent policies. Many public enterprises were originally under private ownership but were nationalized in 1974. Eritrea's rich entrepreneurial tradition is one of its strengths and the challenge ahead is to create conditions which would best harness this valuable asset. Recognizing this, the Government has already expressed its conmmitment to private sector-led growth. 27. Given the limited potential of the other sectors, Eritrea's efforts to reestablish growth will depend crucially on the development of the enterprise sector and, in particular, manufacturing enterprises. At the time of liberation, most enterprises were suffering from a host of problems including a serious shortage of raw materials, spare parts, working capital and foreign exchange. Some enterprises had been non-operational for several years; most of those which had been operating, had seen their capacity utilization levels fall to very low levels. Many enterprises were saddled with obsolete equipment. The immediate task facing the Government was to increase capacity utilization in these enterprises so that supply of essential goods could be restored. Considerable progress has been achieved in this regard especially under the Government's Recovery and Rehabilitation Program. Capacity utilization in many enterprises has increased. Nevertheless, the foreign exchange and working capital needs of manufacturing enterprises are still high. 28. Eritrea could consider a five-pronged strategy for enterprise development. First, emphasis could be placed on further improving the enabling environment, building upon the steps already taken, with a focus on legal, regulatory and institutional reforms. In particular, property law, commercial law, competition policies, and environmental regulations should be addressed at an early stage. If these reforms are implemented, there may not be a need for a separate investment code. Examples from many successful countries suggest that investment codes, rather than - viii - promoting private investment, could become a barrier. Second, it will be important to offer appropriate and time-bound support programs to facilitate micro and small-scale enterprise development, e.g., enabling support services, including group facilities. Third, efforts could be made to further strengthen commercial procedures and practices in public enterprises along with increased private sector participation, as well as a phased program of privatization. The Government has already announced its intention to privatize selected enterprises. Fourth, given the tremendous needs of the country, an added emphasis on attracting foreign investment will be critical for enterprise development. Fifth, an emphasis on financial sector development, including the elimination of constraints on bank's ability to provide term-financing, will be important for enterprise development. Realizing the Potential of Agriculture 29. Food security is an objective of central importance to the Government. In the 1980s, however, because of the war conditions, the contribution of agriculture to national output and exports was modest. Nevertheless, agriculture has continued to be critical to the livelihood of the vast majority of the Eritrean people, in part because the other sectors have stagnated as well over the past decades. It is estimated that a majority of the population depend on the production of crops, livestock and fisheries for income and employment. Since Eritrea lies in the Sahelian rainfall zone, and agriculture is currently characterized by low productivity and prone to erratic rainfall, the challenges facing agriculture would appear to be enormous. In the short run, the very low levels of productivity present the best opportunity for growth. In the long run, the options for improved productivity are difficult to define at this stage, given that full information on water resources are not yet available. It is important that information on basic hydrological, groundwater and meteorological data are collected before making investment decisions on major irrigation projects. 30. In the short run, increases in agricultural production could be obtained by relieving some of the key constraints and bottlenecks impeding farmers' productivity. These could include efforts to: (i) improve farm practices including the introduction of improved pest control systems to reduce the incidence of crop loss due to pest infestation; (ii) further develop and disseminate local drought resistant, fast maturing crop varieties (such varieties are already being used in some parts of the country and perform well in harsh climatic conditions); (iii) rehabilitate the existing irrigation schemes and construct additional micro-dams in appropriate areas; (iv) establish sustainable rural financial services to enable farmers to gain access to credit; (v) improve distribution of fertilizers in selected areas; (vi) implement measures to encourage farmers to invest in land and to prevent dynamic farmers from being locked into a fairly rigid farm size, i.e., encourage land markets; (vii) improve short-term productivity in the livestock subsector through improved animal husbandry practices, disease control, and housing in peri-urban dairying, and through the strengthening of animal health services in the rural areas; and (viii) begin developing the infrastructure for the fisheries sector. 31. Attention would also need to be paid to strengthening the institutional framework necessary to enable farmers and pastoralists to have access to improved technology, inputs and services. In particular, improving the quality and effectiveness of the extension service would appear to be a high priority. While this may take time to achieve, in the short term, measures could be taken to improve the organizational structure of the service and the links with research - ix - activities, upgrade the skills of extension workers, and provide support to improve their access to conmmunities. 32. The Government has made progress on land reform: every fanner now has a life-time right to cultivate land; right-holders can officially rent or mortgage their land and enter into share-cropping arrangements; village or community ownership of land will no longer be recognized; any Government take-over of land will be compensated. Building on the recent reforms, the challenge now is to address issues related to land inheritance. Most importantly, every effort should be made to ensure that farmers have the incentive to make long-term investments in land, and that more dynamic farmers are not constrained from expanding. 33. The livestock subsector has considerable potential in terms of income generation and exports. The main constraint to increased livestock production is availability of adequate forage. Measures that will serve to improve agricultural productivity will also benefit livestock. Fisheries also have potential, particularly in the export of high quality fish and crustaceans such as lobsters and prawns. Considerable investments are required to rehabilitate the coastal infrastructure including processing and storage facilities; the private sector could play an important complementary role in addressing many of these concerns. 34. In the medium to long term, it would appear that the greatest potential for growth in rainfed agriculture would lie in expanding the amount of land under cultivation in the western lowlands. The expansion of agriculture in the western lowlands would require establishing appropriate infrastructure. In addition, and depending on the availability of water, there may be potential for developing irrigation in other areas of the lowlands, though this may only be feasible for the production of high value export crops, rather than for food crops, given both the high investment and recurrent costs that irrigated farming would involve. Large-scale investments in infrastructure would be necessary to make the lowlands more accessible and to help reduce production costs. Improving Labor Markets 35. Given the lack of adequate investment in capital and land during the past three decades, labor is the most important asset in terms of future growth. While it is important for Eritrea to invest in capital and land, labor will be pivotal in the early stages of development. As in other sectors, decades of war, and centrally planned policies in the past had a devastating impact on the functioning of labor markets. Eritrea has inherited skill shortages on a large scale in a wide variety of sectors. Skill shortages coexist with high unemployment rates. Past policies, in combination with a neglect of infrastructure, also resulted in reduced labor mobility. In rural areas, labor markets regressed as commercial farming and off-farm activities were repressed in the past. Improving labor markets will not only be important to the growth process, it will also ensure that the poor and different socio-economic groups participate in the growth process. Efficient labor markets will enable the matching of scarce existing skills to their most productive uses, provide more reliable signals for the types and amounts of investment needed in human capital such as education and training, and provide accurate signals for investment in other factors of production. 36. Progress has been made in reversing the restrictive labor policies of the past, and several measures adopted to encourage labor markets that are more appropriate to a market-based -x - economy. Hiring of workers by the private sector is now legal. The former labor code is currently being revised. Changes in labor laws will help to provide more consistency with market-based incentives, e.g., changes in probationary period and severance payments. The challenge is to build on the recent initiatives to further improve the functioning of the labor markets. Along with improving the labor markets, the Government has placed emphasis on successfully managing the demobilization of soldiers, and strengthening public works programs. The short-term program of action, that is being considered by the Government, for improving labor markets, facilitating demobilization, and improving public works programs, include: (i) revising the previous restrictive labor code with the objective of ensuring rights of labor, while developing a flexible, transparent and efficient labor market to encourage productivity and growth; (ii) examining different options to address the issue of skill shortage, ensuring the involvement of the employers and employees; (iii) encouraging the creation of cooperatives of ex-fighters by leasing them land, improving access to credit, and developing training programs for ex-fighters in basic health and education in order to absorb them as teachers or health personnel; (iv) continuing to expand the availability of special training programs for women fighters, such as word processing, basic computer skills, and tailoring; (v) further strengthening the effectiveness of the Community Rehabilitation Fund by creating a light and efficient system of local decision making, allocating financial resources to local communities, and facilitating the collaboration between non governmental institutions, private investors, and local communities; and (vi) continuing the emphasis on public works programs, while ensuring that wages in public works programs are based on rural rather than urban market wages. 37. Addressing Gender Issues. Although Eritrean women participate in most productive activities, they often face economic and social discrimination, especially in rural areas. Recent World Bank cross-country studies have shown close links between women's education, and social, and economic development. Creation of income generating opportunities for women, mainly by improving access to credit will be an important supportive measure. Some micro schemes are already being implemented in Eritrea (in Barka and Gash) by the National Union for Eritrean Women (NUEW), with satisfactory results. On the basis of this experience it seems appropriate to expand in other areas. Emphasis on female education and adult literacy programs are other high priority items. Investing in People 38. Investing in people will be central to economic performance, poverty reduction, and the lives of most Eritreans. Human capital is a key input in the growth process. Education, for example, affects productivity and growth through several channels. A better-educated person absorbs new information faster and applies unfamiliar inputs and new processes more effectively. Education also promotes entrepreneurship. It promotes risk taking, individual responsibility, long- range planning, and organizational ability. Better health and nutrition increase the capacity for learning, decrease the number of days lost due to illness, and prolong potential working lives, thus increasing the return on investment in education. And the benefits of good health flow well into the future: improving the health of Eritrean mothers will strongly influence the early physical and mental development of a generation of Eritrean children. 39. Education. It is in the field of education that Eritrea will need to make the biggest strides if it is to catch-up with the lag caused by many decades of war and neglect. Eritrea has inherited an illiteracy rate of nearly 80 percent. There is a large backlog of young and old with little or - xi - no exposure to formal or informal schooling. There is also a backlog of teachers inherited from the pre-liberation system who need training. Most students do not have access to textbooks. Many schools, particularly in rural areas, are housed in sub-standard facilities which provide an unconducive physical environment for instruction and learning due to congestion, heat, dust and rainwater seepage. There is also a need to address the sharp gender disparities, inherited from the past, in the distribution of educational resources and enrollments. Many of these issues are already being addressed. The Government recognizes the importance of increasing resources for the education sector, prioritizing expenditures so that the most needed public investments are made first, and that the private sector is encouraged to play an active role in the sector. The Government has emphasized that access to basic education is critical for sustainable poverty reduction, important for balancing the goals of national integration and regional autonomy, for laying the foundations of equitable and rapid growth, and for producing the necessary basis for appropriate expansion of secondary and higher education. The Government has also placed a high priority on improving the participation of girls in primary education. 40. Progress has been made on several fronts to develop the education sector, and additional measures are being considered to further build on the recent success. These include: (i) allocating more resources towards primary education, particularly in rural areas; and more emphasis on increasing resources for non-wages operations and maintenance; (ii) increasing the hours of instruction for school-age children to internationally comparable levels; (iii) encouraging a greater role for the private sector (NGOs, religious institutions, and for-profit groups) in the provision of secondary schooling in urban areas, where the ability to pay is less constrained; also, encouraging the private sector involvement in vocational and technical education for cost-effective provision of work related skills; (iv) continuing the policies in tertiary education of twinning, and introducing general user fees for student and staff housing and food combined with need-based bursaries and merit-based scholarships; (v) gradually reorienting the programs of the University of Asmara, once the pressing needs of the civil service have been met, from supplying civil service needs to supplying skills required in public and private sector enterprises. 41. Health and Nutrition. Eritrea's health and nutrition indicators are poor by African standards. Eritrea has a low life expectancy of about 46 years compared to 50 years for Sub- Saharan Africa and 67 years for East Asia, and an under five child mortality rate of 203 per 1,000 live births, compared to 196 for Sub-Saharan Africa and 96 for East Asia. There is in many areas a problem of child malnutrition, the immunization infrastructure is accessible to about 27 percent of the population, family planning services are inadequate, and health facilities are damaged in many areas. In 1993, caloric intake was estimated at an average 1,750 kcal/person/day, equivalent to about 93 percent of minimum requirements. In comparison, the average for Sub-Saharan Africa is 2,096 kcal/person/day. More than 40 percent of under-fives are underweight of whom a quarter are severely underweight. Stunting affects two thirds of the children of whom slightly less than a third are severely stunted. Major causes of diseases, such as malaria, diarrhea and acute respiratory infections, are preventible. Access to safe drinking water and sanitation is extremely low in most provinces of Eritrea; a majority of the population obtains water from sources which are either unprotected or vulnerable to contamination (e.g. shallow wells, rivers, springs, ponds, boreholes. With regard to sanitation, less than one percent and 44 percent of the rural and urban population, respectively, have access to latrines, yielding a national average of 10 percent. Poor health and nutrition levels in Eritrea are accompanied by high fertility rates (about 6.8) and an annual population growth rate in the range of 2.7 to 3 percent. - xii - 42. The Ministry of Health (MOH) has begun to develop the priorities for the health sector. Both facilities and staff will be significantly upgraded over the next few years. The Government is considering adopting the following measures in the short run: (i) allocating more resources towards primary and preventive health care, particularly in rural areas; putting more emphasis on community health services; clarifying mechanisms for supporting such services, particularly in the case of very poor communities; (ii) formulating and implementing a population policy; (iii) examining the efficacy of local drug production; and (iii) phasing out the state monopoly on the import of drugs. 43. In addition, consideration is also being given to the following medium to long-term measures. First, the creation of revolving drug funds. At the moment, donors supply a large quantity of drugs for the health system. Eventually, however, some method of self-financing will be necessary to provide the volume of drugs needed, even if supplemented by donor contributions. Revolving drug funds have been a successful way of generating finances for drugs in countries throughout the developing world. Second, allowing health facilities to retain fees collected. There is the possibility of significant revenue being generated by health facilities, particularly in the urban areas of the country. If these facilities were allowed to retain these funds for use at the facility level, there would be a greater incentive to collect them, and facilities would have an additional fund for maintenance or improvements. 44. Third, greater autonomy in the management of health facilities is being considered. Over the long run, greater autonomy of facility operations has improved efficiency in most countries. This could be done by creating separate boards for hospital operations, giving them the power to manage their own budget. Therefore, the hospitals could move to a smaller, better paid staff with greater emphasis on equipment maintenance and drug supply. Burundi provides an example. In many countries, local health centers and clinics are managed by a community committee which oversees cash flow, staff and other matters. Facility managers are given greater autonomy of operations, and occasionally incentive bonuses are paid. Finally, investigation should be made of the use of community endowments for health services. It would be useful to develop a more formal process of financing for community health services. The Government might investigate the use of a Community Health Fund, similar to the Community Rehabilitation Fund, for this purpose. Like the Rehabilitation Fund, this resource could finance matching grants for local health initiatives. These could include the development of local drug or health services, or other community efforts, such as water and sanitation activities, malaria control or other services. 45. Nutrition is an integral part of health and, in early ages, it is critical to enhancing children's capacity to learn. The main priorities for improving nutrition include: (i) emphasizing the reduction in protein energy malnutrition (PEM) among children of weaning age, especially 6-24 months; reducing geographically localized cases of exceptionally high malnutrition among children under five (e.g., Sahel); (ii) emphasizing actions at the household level to maximize nutritional outcomes at given levels of income and within the constraints set by illiteracy and traditional attitudes and practices. This can be pursued through health and nutrition education designed to bring about gradual changes in behavior through the acquisition of relevant knowledge in culturally appropriate ways; and (ii) identifying vulnerable groups to be targeted, by location and/or seasonality. This might entail a focus on certain provinces or parts there-of and/or on specific periods of the year. For example, one option may be food-for-work schemes during the pre-harvest period when food availability may be in short supply. - xiii - Strengthening the Role of Conmmunity in Poverty Alleviation 46. Eritrea is among one of the poorest countries in Sub-Saharan Africa. A comprehensive study of the dimensions of poverty in Eritrea is in the process of being completed. Several indicators, including a low per capita income, high unemployment in certain areas, poor social indicators, poor social services, and a burden of disadvantages carried by women in traditional societies, all point towards the plight of poor people. In the absence of a comprehensive data base on poverty, this report provides some perspectives on the way poverty is experienced, and the way communities in Eritrea cope with the challenges of poverty. It also provides some initial insights into regional differences related to poverty. The perspectives contained in the CEM benefit from early analysis of the result of a rapid assessment of about a hundred poor communities in different parts of the country. The chapter on poverty also draws on the scanty information that already exists, as well as the views of local agencies in Eritrea that have been working on poverty problems for some time. 47. Land is becoming a relatively scarce resource, especially in the highlands. However, access to land is only one factor. Control over livestock may be an even more important determinant of poverty, especially in the lowlands. In rural areas, the other important factors that contribute to poverty in Eritrea are the isolation of many communities and lack of social services. Isolation keeps incomes low through high transport costs, and lack of access to information about the market situation. Isolation has also resulted in poor access to health services and education, virtually absent in large parts of the lowlands and in the more remote areas of the highlands. In the urban areas, unemployment is the major cause of poverty. Opportunities in the public sector are limited. The informal sector currently provides the main opportunity for the urban poor, but this sector has its own problems. 48. While deprivation in Eritrea is as bad as can be found anywhere in Africa, there are a wide range of coping mechanisms and community support systems that often protect vulnerable groups from the worst consequences. The situation relating to women is of particular importance and is fairly complex. The Government has created a highly positive legal environment to advance the economic and social rights of women in the country. However, the reality is that the vast majority of Eritrea's women live in rural communities which give them a low traditional status. Traditional women usually have had little or only a modest influence in the social and political organization of their communities, are discouraged from continuing their education beyond very basic levels, and can seldom find independent employment. They are therefore largely trapped within a dependent role in their families and communities, although in reality their economic and social contribution may well be significant. Women also experience many social disadvantages in traditional community organization. The practice of female genital mutilation is widespread in some parts of the country, and despite rights granted by the legal code, divorce and equitable inheritance of property are strongly restricted in practice. Because of the pressures for change in Eritrea, the situation regarding women is very dynamic, and almost all generalizations could be challenged by examples of change. Nevertheless, the underlying reality is that change in the status of rural women in many communities will be slow and gradual. 49. Eritrean society is supportive to the elderly and handicapped. Solidarity within families and communities is generally strong, as shown by the efficient distribution of food aid to those who are most in need. Nevertheless, the position of these two groups becomes more vulnerable at times of severe shortage or should food aid fail. Orphans are another vulnerable group in - xiv - Eritrea, estimated at about 50,000. Those that remain close to their homes are generally cared for by their extended families, and the success of this is demonstrated by the fact that street- children are quite rare in Eritrea's towns. The Government is implementing some assistance programs through the Department of Social Affairs for those not under extended family care. 50. In Eritrea family and community solidarity is an important asset in mitigating the consequences of poverty. In lowland rural areas, family solidarity is traditionally organized. The elderly remain part of the same household with their children in an extended family arrangement. In the highlands, while family solidarity is important, community solidarity plays an even more important role, for example, through supportive arrangements among farmers in case of harvest failure. Traditional support systems have helped the Eritrean population to face extremely hard living conditions due to war and famine, and will be important assets in the task of reintegrating thousands of returning refugees, displaced people, and demobilized ex-fighters. 51. The foundation for poverty reduction in Eritrea will be provided by sustained economic growth brought about by opening up the economy to private investment and international trade, and the careful exploitation of the country's rich assets. However, this will need to be supplemented by a range of targeted programs in rural areas. Ending isolation and integrating the economies of the lowlands and the highlands, is an important long term goal in transforming the economic opportunities of the rural poor. Over the next few years, as emphasized before, priority will need to be given to community-based efforts to improve primary education, basic health, feeder roads, rural water supply and sanitation. For many communities, measures to strengthen the agricultural sector will provide the most immediate source of improved income and food security. While small-scale industry and services in and around rural towns will become increasingly important sources for employment, the development of microentrepreneurial activities and other forms of self or group-employment will be a priority in Eritrea's rural areas. 52. The important measures that the Government is considering for a targeted program of poverty reduction, which will complement the broader program for economic reconstruction and development, include: (i) putting in place mechanisms to monitor poverty; (ii) strengthening community structures to undertake not only the reconstruction and improvement of economic and social infrastructure, but also the provision of essential basic services that are vital for improving the quality of life and productiveness of poor rural and urban groups; (iii) introducing programs to provide micro-credit for small individual and group entrepreneurs, with special attention given to the needs of poor women, demobilized ex-fighters, and returning refugees; (iv) taking measures to encourage the integration of the economies of the lowlands and the highlands by improving communications, rural and feeder roads; (v) providing well-targeted urban and rural housing shelter; and (vi) providing carefully targeted programs to the needs of special groups, orphans, the disabled, and the aged that have no support structures. Prioritizing Infrastructure Support 53. Efficient and well functioning infrastructure is important for growth. Infrastructure also has an important role to play in alleviating poverty by providing basic social services such as rural roads, water and sanitation. Although Eritrea had a relatively well developed infrastructure in the 1940s, decades of war and neglect of existing facilities have damaged much of its infrastructure. This deficiency has had a major impact on the economy and could constitute a - xv - major constraint to growth. It is estimated, for example, that lost production due to electricity shortages is substantial; some estimates suggest it to be as high as 30 to 50 percent of lost output in the commercial and industrial sectors on an annual basis. Poor road conditions and lack of feeder roads have constrained the development of rural markets and reduced linkages between regions. There is also an extreme housing shortage, with overcrowded conditions in the existing dilapidated housing stock. In general, growth will further expose the inadequacies of the present infrastructural capacity. 54. Infrastructure reconstruction needs are huge compared to available resources and different options will need to be examined in order to prioritize infrastructure support. The initial emphasis should continue to be on rehabilitation and maintenance of the existing facilities. Some critically important investments in new works would be required to eliminate constraints on growth. The areas of infrastructure development, where private sector expertise and finance from both domestic and foreign sources could be usefully introduced, should also be considered. The prospects are promising in the telecommunications sector, with possibilities existing for joint ventures between Telecommunications Services of Eritrea (TSE) and foreign operators in the provision of value-added services. The private sector will clearly be able to play an important role in the development of housing once property rights and entitlements are fully clarified. Within the energy sector, there is already a substantial private sector presence in the retail market for petroleum products. Some private sector involvement could occur in the electricity sector in the form of investments in generating capacity; however, this may take some time to develop. Over time, operations and maintenance contracts (for both new and existing plants) could be one way of introducing specialized expertise into the industry. This could also be considered for the ports and water and sanitation sectors. Road building and maintenance would be areas where a vibrant domestic contracting industry could emerge. 55. Eritrea has made substantial progress on the pricing of infrastructure services. Cost recovery in the electricity, telecommunications and transport sectors is currently significant, with revenues equal to or exceeding costs--although provision for depreciation is often not fully allowed for. In the transport sector, the challenge is to develop a road user charge policy. Currently, diesel vehicles do not pay (via taxes on fuel and spare parts) charges that are needed to cover the cost of repairing the damage they do to the roads, or for future investment. There may also be merit in examining the advantages of road tolls. Charges for water and sanitation are largely below cost. It is important that these be increased to promote greater efficiency in the use of water. 56. A phased approach towards addressing the infrastructure needs in the short run could include: (i) in the transport sector, priority to be given to the rehabilitation of Berths 5 and 6 at Massawa and improvements to the most vital of the major roads, including the Massawa-Asmara highway. It is important that these works are undertaken before there are greater demands on transport infrastructure. It is also important that an adequate road maintenance plan is developed to ensure that the investments in infrastructure are not wasted; (ii) in the energy sector, undertake the task of identifying and then commissioning the next generating units to be added to the system. Rehabilitation of existing units and the current ongoing addition of capacity will not be adequate to ease the existing supply constraints. Also, the issue of ownership of existing data on Eritrean petroleum reserves needs to be clarified; (iii) the short-term plans for rehabilitation of the telecommunications network identified by the Government should be implemented. The possibility of offering more sophisticated telecommunications services, via joint ventures between - xvi - TSE and the private sector, should also be pursued with vigor; (iv) in the water sector, the Government faces a number of priorities. There is the need to rehabilitate and expand piped water and sanitation infrastructure in the major towns, notably Asmara and Massawa. There is also a need to urgently undertake a comprehensive water resources and usage programn which will allow strategic planning for the sector. Charges for water and sanitation services should be increased so that they reflect at least operational costs, and ultimately reflect the full costs of production; and (v) introduce an enabling environment to allow the private sector to play a larger role in the provision of housing services. An important component of this will be the clarification of the property and user rights that underpin land and housing markets, following the recent legislation on land. Improvng the Environmment 57. Sustainable utilization of the natural resource base, and the protection and conservation of the environment is central to Eritrea's future development. Ideally Eritrea needs to find solutions that can promote both economic growth and better management of the environment. 58. At present, the main environmental issues of concern relate to the degradation of its land, forest and water resources. However urban environmental degradation is also viewed as an increasing cause of concern. Pressures on the urban environment in the form of overcrowding, poor sanitation and inadequate water supply are already being felt in Eritrea's main cities and towns. Other environmental problems such as industrial pollution and the degradation of the coastal areas and marine resources are not significant at present. In order to address problems of land, forest and water degradation, large-scale public programs for soil and water conservation as well as reforestation are underway. 59. Some of the priorities for improving environment in the short run include: (i) adopting transparent and non-discretionary measures to contain any possible adverse effects of industrial growth, and introducing fiscal measures to encourage voluntary location of industries; (ii) integrating soil and water conservation and agro-forestry techniques into the mainstreamn agricultural extension service through development of appropriate methods, training of extension workers and provision of operational support; (iii) continuing with soil and water conservation and reforestation programs while examining options for better planning and greater sustainability of the works undertaken; (iv) further expanding tree planting programs; (v) clarifying the institutional arrangements for water resources management; (vi) reviewing pricing of resources and taking action to ensure that price is set to reflects scarcity value; (vii) investigating viable options for water harvesting as well as low-cost vegetative land protection measures for eventual introduction at the community level; (viii) strengthening the planning and monitoring of activities of new established agricultural concessions in the lowland areas so as to ensure that their development takes place without adverse effects on water and woodland resources in the area; (ix) continuing dialogue with international organizations and neighboring countries regarding ratification of international conventions and initiating regional collaboration on management of the Red Sea marine resources; (x) sorting out the institutional arrangements for overall environmental management and initiating the process for drawing up environmental legislation and a policy framework. This will be important for the formulation of a National Environmental Action Plan, coordinating future activities, and supporting sector environmental initiatives; and (xi) taking immediate action across the board to strengthen the information base and the institutional capacity to collect, process and analyze information on natural resources and - xvii - the overall state of the environment. Comprehensive surveys or assessments of the natural resource base need to be initiated or completed including water resources, the marine environment, woodlands and forests, and wildlife habitats and populations. 60. Effective implementation of measures relating to land tenure will be an important priority, as the previous land tenure systems were responsible for the environmental problems currently being faced in the rural areas. Appropriate environmental legislation to ensure sustainable natural resource utilization and environmental protection will need to be completed. The formulation of a National Environmental Action Plan will be a medium term task as substantial information gaps need to be filled and more in-depth investigation conducted into finding appropriate strategies and solutions for environmental issues in various sectors. Conclusion 61. Eritrea will require a blend of measures that together aim at the central goal of enhancing growth and reducing poverty. Significant efforts have to be made to rehabilitate and strengthen agricultural production in a cost-effective manner, as this sector is a major source of livelihood for Eritrea's rural population. Alongside, efforts need to be made to strengthen the capacity of rural communities to improve their own social and economic assets and broaden their income earning opportunities. Expansion of manufacturing and services will provide the main source of economic growth, supplemented by exploration of minerals, fish and other natural resources. The Government has already adopted and outward oriented growth strategy, open to private sector investment, both domestic and foreign. An enterprising and experienced expatriate Eritrean community will be a vital asset in encouraging and harnessing foreign investment. To create the conditions for domestic and foreign investment, the government will need to maintain and build on the progress made so far in stabilizing the economy and removing regulatory constraints. There is also a need for large investments in infrastructure and human resource development to create the conditions for growth and poverty reduction. Domestic resources will be insufficient to meet the demand for many years to come. Therefore, in addition to increasing savings as the economy improves, it will be vital for Eritrea to attract foreign private investment as well as to obtain donor support on a grant and concessional loan basis. To achieve this, the Government has begun to put in place an effective system of donor coordination. This system aims to achieve three goals: to provide a forum where the Government can present its policy framework and sector strategies; to increase levels of aid commitment and attract new donors; and to provide mechanisms for cooperation and harmonization among donors, so that their financing can be brought together in coherent programs rather than managed project by project. - xviii - I INTRODUCTION BACKGROUND History 1.1 The foundation of the state of Eritrea came into being during the European colonial period. Before this, a number of different kingdoms existed in the present-day Eritrea, the Axumite Kingdom (lst-9th century), the seven Beja Kingdoms (8th-13th century), and the Bellou Kingdom (13th-16th century). Over the centuries, other kingdoms and empires also established outposts or exercised control over various parts of Eritrea. In the late 19th century, Italy invaded Eritrea, and in 1890, issued a decree which turned Eritrea into a colony, which they governed up to 1941. During this period, substantial economic development, particularly in infrastructure, took place to meet the colonial needs of Italy. Eritrea also experienced widespread displacement of its indigenous population during this period, resulting in a disruption of the existing form of society. During World War lI, the British defeated the Italian forces in the Horn and established a protectorate over Eritrea. Eritrea became an important center for British and American operations in the region during the war. In 1952, following a United Nations resolution, Eritrea was federated with Ethiopia. In 1962, Ethiopia's emperor, Haile Selassie, unilaterally dissolved the Eritrean parliament and annexed the country. The struggle for independence began in earnest in the early 1960s, after years of protest. The conflict between Eritrea and Ethiopia further intensified following the military coup in Ethiopia in 1974, that replaced Haile Selassie by a regime headed by Mengistu Haile-Mariam. Eritrea's struggle for independence, that lasted for three decades, was one of the longest in Africa's history. In May 1991, the EPLF finally took full control of Eritrea. Following an internationally supervised referendum, Eritrea formally gained its independence on May 24, 1993. Society 1.2 Eritrea's population is diverse in cultural and linguistic terms. There are nine ethnic groups consisting of Tigrinya, Tigre, Bilen, Saho, Hedareb, Kunama, Nara, Rashaida, and Afar. Tigrinya speakers mostly live in central highlands and are mainly involved with agricultural activities. Tigre speakers live primarily in the north and to a lesser extent in the western lowlands; they are generally engaged in animal husbandry and mixed farming. The other ethnic groups, including pastoralists and nomads, also engage in agriculture and/or herding depending on the topographic and climatic conditions of their habitat. The Afar ethnic group, who are largely pastoralists, live in the Dankalia desert area in the south of Eritrea. They are accustomed to moving freely across Eritrea and neighboring countries, and in the past have strongly resented any settlement efforts from the Ethiopian Government. Ethiopia had imposed Amharic as the official language in Eritrea. After independence, the Government of Eritrea reversed this policy and declared Tigrinya and Arabic the working languages of the country, as they were until 1958. The long struggle for independence and the current policies of the Government have helped to foster a strong sense of integration and commitment to development. A major strength of Eritrea is its well developed family and community solidarity. It played an important role in mitigating the consequences of war, droughts and famines, and poverty in general. Resources 1.3 The country's mineral resources include gold, copper, potash, magnesium, zinc, iron ore, and marble. However little is known about the extent of these mineral deposits. Although there is potential to extract petroleum from the Red Sea, the nature of these reserves has yet to be firmly identified. Fish is, so far, one of the richest known natural resource, and the country's coastal waters are believed to be among the most potentially productive fishing grounds in the Red Sea. The continental shelf covers more than 52,000 square kms within the Eritrean Exclusive Economic Zone (EEZ). The marine fisheries of Eritrea were very active in the 1950s. In the medium to long run, Eritrea has the potential to develop tourism as well, both along its Red Sea coast and in terms of its rich archaeological heritage and linkages to the ancient Axumite Kingdom. 1.4 Eritrea is a land of varied topography, climate and rainfall. The main physiographical zones include the Red Sea coastal plain including the Dankalia desert in the southeast; the highlands in the center of the country; and the western plains stretching towards the Sudan border. Climate ranges from hot and arid adjacent to the Red Sea, to temperate sub-humid in isolated micro-catchments within the eastern highland escarpment area. The highlands, where more than 65 percent of the population lives, have a cool, temperate climate with minimal seasonal variations. Eritrea lies in the Sahelian rainfall zone. The problem of inadequate rainfall is often compounded by the high variability and unreliability of both the total rainfall and its distribution. Almost all of the existing and potentially important crop production areas of the country are drought prone and thus vulnerable to periodic and widespread crop failure. Forest and woodland resources are very limited. Water resources are generally scarce throughout much of the year though seasonal flooding can occur on a large scale in many parts of the country. Unpredictable rainfall makes surface water unreliable and there are very few perennial rivers. While groundwater resources are thought to be more abundant than surface water, their full extent is not known. The only assured sources of groundwater for agricultural purposes are to be found in the flood plains of the major rivers and other localized aquifers, mostly in the lowlands. 1.5 Eritrea has suffered significant environmental damage, as indicated by the degradation of its land, water, and forestry resources. The main reason for the rapid deforestation has been the cutting of wood for fuel and construction, and the clearing of land for agricultural purposes, the effects of both of these having been severely exacerbated by the increase in population. In addition the war had a destructive effect on the woodlands of several regions. There are currently few affordable alternatives to wood for construction and fuel purposes (other than animal dung for fuel), particularly in the rural areas, giving rural households little choice but to exploit the trees and other vegetative resources around them. The loss of tree cover has contributed to a number of serious ecological and social effects including reduction in the water holding capacity of the watersheds, an increased silt load in rivers resulting in the rapid siltation of irrigation dams and reservoirs, loss of nutrients for the soil and hence reduced fertility, and loss of gene resources. Furthermore, progressive deforestation has brought hardship to families that are deprived of fuel for cooking and heating purposes as well as building materials for their household needs. Evolution of the Economy 1.6 From a long-term perspective, economic policies pursued under the Italian, British and 2 Ethiopian rule had profound effects on the evolution of the Eritrean economy. Under the Italian colonial rule, investment focused mainly on developing basic infrastructure and agriculture with the objective of supporting the needs of Italian settlers and exporting primary commodities to Italy (e.g., coffee, cotton, sisal, tropical fruits, and vegetables). For example, controlled irrigation from the Gash River began in 1915 and cotton plantations, totalling 7,000 acres, were established in the 1920s. In the 1930s, Mussolini's regime intensified infrastructural development in Eritrea. A large network of all-weather roads and highways was created. Modern airports were built at Asmara and Gura, the port facilities at Massawa were expanded and improved, and the world's largest aerial ropeway was constructed, connecting Massawa with Asmara. Industrial development during this period was also noteworthy. A large number of manufacturing plants for light consumer goods (beverages, food) were established. The strongest boost took place in the local construction sector and related industries (cement, brick, and tile-making). At the end of the 1930s, more than 600 construction organizations and some 730 companies producing industrial goods existed in Eritrea. In addition, some 850 registered transport companies and about 2,200 trading companies were active. During this period, Italy also undertook mineral explorations, and mining for potash, magnesium, marble, and copper started. Exports to Italy diversified and rose substantially during the 1930s. In addition to cotton and coffee, other products, including cement, salt, and hides and skins from the growing livestock-which greatly benefitted from the fact that common animal diseases were effectively combatted-were increasingly shipped to Italy. However, due to high food import requirements, Eritrea continued to show an adverse trade balance. 1.7 In contrast to the Italian policies, the British, who assumed control in 1941, ruled Eritrea primarily with a view to serving the war effort. Substantial British and American military expenditures were made on ports, air bases, ammunition plants, and storage depots. Because of the war conditions, imports from Europe to the East African markets were disrupted. Eritrean industries stepped in to supply these markets. As a result, the economy expanded during this period. Following the war and resulting from the contraction in investments, the economy entered into a phase of long-term decline. The trend was reinforced in the 1950s, when Eritrea was federated with Ethiopia. After 1974, Ethiopia turned to centrally planned policies, which resulted in land, housing, and industries, including those in Eritrea, being nationalized, and private sector initiatives being discouraged. All in all, the centrally planned policies, the intensification of the military conflict, the recurrence of droughts and famines, and lack of foreign exchange to import essential inputs had a devastating effect on the economy and society of Eritrea. RECENT SOCIAL AND ECONOMIC DEVELOPMENT 1.8 Although Eritrea was well advanced relative to other Sub-Saharan African countries in the 1950s, decades of war, neglect, deprivation, lack of resources, and inappropriate policies prior to 1991, have resulted in a weakened economy, damaged and dilapidated infrastructure, and a deterioration in the human resource base. Eritrea has inherited obsolete institutions and weak instruments for managing its economic policies. While it was a part of Ethiopia, and in the context of the centrally planned economy, the provincial administration in Eritrea had little autonomy and policymaking capability. After independence, the problem was further compounded as many Ethiopian civil servants left Eritrea. During the liberation struggle, the EPLF had developed an effective administrative structure, and these have provided the basis for developing a civil service to serve a peace-time economy. Local community structures have remained intact in many parts of the country. 3 Current Social Situation 1.9 Decades of lost growth have made Eritrea one of the poorest countries in the world. Preliminary estimates suggest GDP per capita to be in the range of US$130 to US$150; this is well below the average per capita income of US$350 for Sub-Saharan African countries. Eritrea's social indicators are consistent with its low per capita income; in fact, there has been a severe erosion in the human capital base of the country. The adult illiteracy rate is estimated to be as high as 85 percent. There is a large backlog of young and old with little or no exposure to formal or informal schooling. Most students do not have access to textbooks. Many schools, particularly in rural areas, are housed in substandard facilities which provide an unconducive physical environment for instruction and learning. 1.10 Health and nutrition levels are also poor. Life expectancy at birth is estimated to be low at about 46 years compared to 50 years for Sub-Saharan Africa and the under-five child mortality rate is high at 203 per 1,000 live births, compared to 196 for Sub-Saharan Africa. Immunization is accessible to only 25 percent of the population, and many health facilities are damaged. In 1993, caloric intake was estimated at 1,750 kcal/person/day, equivalent to about 93 percent of minimum requirements. In comparison, the average for Sub-Saharan Africa is 2,096 kcal/person/day. Major causes of ill health include preventable diseases such as malaria, diarrhea and acute respiratory infections. Access to safe drinking water and sanitation is low in most provinces of Eritrea. In rural areas, approximately half of the population obtains water from shallow wells. Poor health and nutrition levels are accompanied by high fertility rates (about 6.8) and an annual population growth rate of about 3.3 percent. The poor health status largely reflects the neglect of social sectors in the past and the damage caused by the war to the health facilities. Current Economic Situation 1.11 The 1980s and early 1990s were an unusual period as the levels of national output and export fell, the infrastructure deteriorated, and the economy showed severe signs of structural retrogression. With the transition from war to peace and the introduction of more pragmatic and market-based policies, the structure of production, level of output and employment are expected to improve substantially. 1.12 The level of real GDP at factor cost in 1991/92 at Br 634 million was well below the output level achieved in 1988/89, at Br 659 million (see Statistical Annex Table II.2). Clearly, the economy has contracted during the 1980s. Figure 1.1 shows the annual trend in real GDP growth rate, for the period 1984/85 to 1991/92.' Table 1.1 reports the annual growth rates for the periods 1984/85-1989/90, 1990/91 and 1991/92. Real GDP contracted by 0.7 percent per annum during 1984/85-1989/90. This was further intensified during 1990/91 with a negative annual growth rate of 7.2 percent. The major turn-around came in 1991/92 when the economy expanded by nearly 7 percent. Major sources of growth during 1991/92 were the increase in agricultural output by 10 percent; the expansion of industrial sector by nearly 7 percent; and the increase in trade and transport by more than 8 percent. Eritrea does not yet have an official GDP series. The Government plans to carry out several agricultural and industrial surveys over the next two years. The GDP series used in this report are preliminary estimates developed by IMF and World Bank staff based on preliminary data supplied by the Eritrean authorities. They are based on the Ethiopian fiscal year (July to June). Other data series for Eritrea are based on the calendar year which is also the fiscal year for Eritrea. 4 Figure 1.1: Annual GDP Trends Real Growth Rates 8 6 4- 2- C 00_ -2- -4- -8 -8 FY85 FY86 FY87 FY88 FY89 FY90 FY91 FY92 Source: Staff estimates. Fiscal Year 1.13 However, a poor agricultural performance slowed down output growth in 1992/93. Although a more extensive area of land was plowed in 1993 and the area planted to cereals and pulses was increased by 18 percent from the 1992 level, pest infestations virtually wiped out the gains that might have been obtained. In addition poor distribution of rainfall throughout the growing season affected plantings and flowering of the major food crops. Initial estimates of agricultural output in 1993 indicate that production reached only 86,000 metric tons as compared to 260,000 in the preceding year. The total cereal import requirement for 1994 was estimated by FAO/WFP to be some 320,000 tons, of which about 255,000 tons were required as food aid. The 1993 drought and locust attacks damaged grazing areas with potential adverse repercussions on the livestock population. 1.14 Evidence shows that the Eritrean economy is relatively diversified in comparison to other Sub-Saharan African countries. Table 1.2 shows the trend in sectoral composition of national output from 1984/85 to 1991/92. The share of agricultural output in GDP has averaged between 22 to 26 percent; this is low by comparison to the average of more than 30 percent for Sub- Saharan African countries. Agricultural production levels in Eritrea are generally low, with average yields per hectare being amongst the lowest in Africa. The share of industry, including manufacturing, mining and construction, is relatively large, ranging between 26 to 31 percent of GDP, and somewhat higher in comparison to the average of around 27 percent for Sub-Saharan African countries. Distribution services, including trade, transport, and communication, account for 13 to 16 percent of GDP; this sector has shown a long-term decline in the past with its contribution falling from 16 percent of GDP during 1984/85-1986/87 to less than 13 percent in 1991/92. Other services, including financial sector and administration, account for 19 to 26 percent of GDP. 5 TABLE 1.1: GDP AT CONSTANT 1980/81 PRICES (Annual Growth Rates) FY85-FY90 FY91 FY92 Average Agricultural Sector -2.9 -5.0 10.0 Agriculture -4.6 Livestock 2.7 Crop -8.9 Forestry 3.5 Hunting and Fishing 3.4 Industry -1.3 -12.4 6.8 Mining and Quarrying 4.5 0.0 4.0 Manufacturing -1.9 -15.0 8.0 Of which: Refinery 0.6 Handicrafts and Small Industry 1.5 3.2 2.9 Building and Construction -1.6 -15.6 5.0 Electricity and Water 6.5 0.4 4.0 Services 2.1 -4.6 4.9 Distribution Services -1.4 -18.7 8.4 Trade, Wholesale and Retail -2.6 -17.4 6.3 Transport and Communication 1.1 -21.1 12.3 Other Services 4.4 2.9 3.4 Financial Services 4.0 -7.3 5.0 Public Administration and Defense 4.5 13.0 5.0 Social Services 4.0 0.3 3.2 Dwellings and Domestic Services 3.7 0.0 3.2 Other 6.2 0.0 0.0 GDP at Factor Cost -0.7 -7.2 6.7 Sources: IMF staff estimates based on data provided by the Eritrean authorities. 6 1.15 Table 1.2 also shows the trend in intrasectoral production structures. Within agriculture, crop and livestock account for 13 to 15 percent of GDP. The annual trend for crop production shows a high degree of variability, with average level of production declining from some 9 percent of GDP during 1984/85-1986/87 to around 5 percent during 1987/88-1989/90. On the other hand, the livestock sector increased its share from 6 to 7 percent of GDP during the same period. Forestry sector has shown a long-term decline. Fishery productions have been stagnant at less than 1 percent of GDP; its contribution is expected to increase over time due to the very low base of current activities and the high potential for expansion. Within industry, manufacturing has also shown some degree of variability in the level of production, contributing between 20 to 25 percent to GDP. Within manufacturing, the oil refinery located in Asseb makes a major contribution to industrial output, accounting for between 16 to 18 percent of GDP. Handicrafts and small-scale industries are relatively small, ranging between 2 to 3 percent of GDP. This sub- sector is expected to show rapid improvements with the removal of past restrictions on the private sector. Within distribution services, both trade and transport and communication experienced a long-term decline in the 1980s. The share of wholesale and retail trade fell from nearly 10 percent of GDP during 1984/85-86/87 to around 8 percent of GDP in 1991/92, while the share of transport and communication fell from 6 percent to around 4 percent during the same period. The share of social services increased during the 1980s, although the increase is modest in comparison to the needs of the country. Public administration and defense accounted for a major share within the service sector. Goverunent's Recovery and Rehabilitation Program 1.16 Eritrea faces an immense challenge to rehabilitate and transform a war-devastated economy and society. With extremely limited resources, the Government has already made substantial progress in jump-starting the economy, addressing some of the essential needs of the social sectors, and rehabilitating a part of the infrastructure. This effort is being supported by World Bank and other donors contributions to the Government's Recovery and Rehabilitation Program. The Government has also taken several measures to reverse the restrictive policies of the past and put in place institutions and instruments to mange the economy. The improved growth performance during 1991/92 was helped by the rehabilitation activities carried out by the Government. Industrial production as well as service activities have increased over the past two years, due primarily to a growing private small-scale sector, and the rehabilitation of a few large- scale industrial enterprises. CHALLENGES AHEAD 1.17 The independence of Eritrea provides the Government with an opportunity to define a vision and a strategy for making-up for decades of lost growth, and for catching-up with the more successful developing nations. As Eritrea is also starting from "scratch", it has an opportunity to learn from the experience of other successful developing countries, assess what has worked elsewhere and what could be adapted to suit the Eritrean conditions. Eritrea will presumably follow an Eritrean way in striving toward these objectives. Although the development needs of the country are very substantial, hard choices would need to be made in the short run given the limited budget and implementation capacity. What policies, institutions, and investments are required to reestablish growth? What actions can the Government take in order to prioritize and sequence the development effort? What would constitute a phased program of actions that is responsive to the short run and priority needs of the country, consistent with the vision on medium to long-term development efforts? When should the Government shift from a rehabilitation to a growth strategy? What sort of a growth strategy is appropriate to Eritrean conditions and traditions? This report attempts to answer some of these questions. 7 TABLE 1.2: SECTORAL COMPOSfITON OF NATIONAL OUTPUT (Percentage of GDP at MP) FY85-87 FY88-FY90 FY91 FY92 Average Average Agricultural Sector 24.1 21.5 24.3 25.8 Agriculture 15.2 12.8 Livestock 6.2 7.4 Crop 9.0 5.4 Forestry 8.4 8.1 Hunting and Fishing 0.5 0.6 Industry 30.9 30.9 27.0 26.4 Mining and Quarrying 0.1 0.1 0.1 0.1 Manufacturing 24.8 24.8 20.8 20.4 Of which: Refinery 16.3 18.2 Handicrafts and Small Industry 2.4 2.4 2.7 2.6 Building and Construction 2.9 2.6 2.3 2.3 Electricity and Water 0.7 1.0 1.1 1.0 Services 35.0 37.3 39.3 38.3 Distribution Services 15.9 15.2 12.9 12.7 Trade, Wholesale and Retail 9.6 9.0 7.9 8.3 Transport and Communication 6.4 6.2 5.0 4.4 Other Services 19.0 22.2 26.4 25.7 Financial Services 2.2 2.5 2.5 2.3 Public Administration and 5.9 7.6 10.1 10.4 Defense Social Services 2.7 2.9 3.3 3.1 Dwellings and Domestic Services 4.8 5.1 5.8 5.4 Other 3.4 4.0 4.7 4.5 GDP at Factor Cost 89.9 89.7 90.6 90.6 Net Indirect Taxes 10.1 10.3 9.4 9.4 GDP at Market Prices 100.0 100.0 100.0 100.0 Sources: DIP staff estimates based on data provided by the Eritrean authorities. 8 2 STRENGTHENING MACROECONOMIC MANAGEMENT INTRODUCTION AND SUMMARY 2.1 Eritrea has inherited obsolete institutions and weak instruments for managing its economic policies. While it was a part of Ethiopia, and in the context of the centrally planned economy, the provincial administration in Eritrea had little autonomy and policymaking capability. After independence, the problem was further compounded as many Ethiopian civil servants left Eritrea. The Government of Eritrea has placed a high priority on developing its own capacity to manage policies. In this context, key elements of macroeconomic management are being put in place. While the initial focus is on building upon the existing institutions, selected institutional restructuring and new policies are also being introduced that are more appropriate to a peace-time economy. A number of important institutional, legal and economic policy reforms have been initiated since independence. Historically, the Eritrean Peoples' Liberation Front (EPLF) practiced sound financial practices during the struggle for independence. Since the end of the war in May 1991, the Eritrean Government has stated its intent to adopt economic policies to move to a market economy, open to external trade, and provide a strong role for the private sector. The authorities have shown considerable pragmatism and flexibility in their approach to economic policy. 2.2 The Government has already made substantial progress in making the transition from the previous heavily regulated and centrally planned system to a market-based and decentralized system. The restructuring of some of the key institutions has been completed. The Department of Economic Development and Cooperation and the Department of Finance have been merged into the Ministry of Finance and Development. An Economic and Financial Management Program (EFMP) is underway to support the capacity-building of the key economic agencies. The restructuring of key institutions has helped to lay the basis for implementing policies. The stage is now set for making macroeconomic policies more cohesive and determined. These policies should aim at enhancing growth, maintaining a low inflation rate and achieving, over time, increased domestic savings and a viable external position. 2.3 The authorities have placed an emphasis on the need for fiscal strengthening including the budget formulation process and the timely preparation of budget. Strong expenditure pressures on the recurrent budget can be expected from expanding social and economic services, the hiring of additional personnel for the civil service, and the payment of salaries to ex-freedom fighters. Expenditure pressures on the capital budget will result from the increasing number of development projects which are planned or in the process of being started. In addition, it will be critical for the authorities to continue to play an active role in providing support programs for the returnees, refugees, displaced families and demobilized ex-freedom fighters. Nevertheless, these priorities will need to be implemented under the perspective of fiscal discipline. Maintaining a prudent fiscal policy, while ensuring that critical social and economic needs are met, will be important for establishing the credibility of the Government's policies and providing an enabling environment for growth. Actions will be needed to place the fiscal system on a sound basis, e.g., further strengthening of tax and customs administration, reforms in the revenue and expenditure management systems. 2.4 With regard to monetary policy, the authorities face the option of either continuing to use the Ethiopian currency, the birr, as the legal tender, or issuing their own currency. Issuing own currency would require relevant institutions to be effectively in place. Eritrea has provisionally decided to continue with the first option, while efforts are being made to address this issue further in the medium term. In the context of continuing the currency union, harmonization of monetary, interest and exchange rate policies would be essential. An important issue that the authorities need to address in the short run is the presently high liquidity in the economy and the potential threat it poses to price stability and the balance of payments. Policy measures need to be adopted to reduce the high level of liquidity. 2.5 On the external front, the Government has already liberalized trade policies. Consequently, Eritrea has become a relatively open economy. Policies have also helped to attract remittances from Eritreans abroad. The prevailing exchange rate is determined by foreign exchange auctions conducted in Ethiopia. Besides the strengthening of national policies, Eritrea has also placed a high priority on regional integration as an engine of growth. 2.6 The economic and social database on Eritrea is still weak, and the newly established National Statistics Office will have to implement a system to regularly collect and publish data. Most available data are only estimates and provisional in character. Data are particularly scarce with regard to the national accounts (GDP and its sectoral composition), price developments (household expenditure patterns and establishment of retail price indices), and the external sector (merchandise exports). Although the situation is somewhat better in the fiscal and monetary sectors, a great deal remains to be done. The EFMP will provide some of the resources to begin this process of establishing necessary data bases. FiSCAL MANAGEMENT 2.7 Under the former Ethiopian Governrment, fiscal policies were formulated in Addis Ababa (Ethiopia) and communicated to Asmara for implementation.2 Over the years, the fiscal system became punitive as high taxes were levied to finance the former Ethiopian Governrment's war effort, which relied on extensive surveillance and controls to ensure compliance. At the same time, the EPLF operated its own fiscal system, which relied on voluntary contributions in support of a popular war of liberation. After victory in May 1991, the EPLF was confronted with a choice of two competing systems, neither of which was satisfactory under the changed circumstances. While the former Ethiopian Government's system was regarded as too rigid and coercive, the authorities recognized that abandoning the former system too quickly could result in chaos. The solution adopted so far is to continue with the old system but to reform its deeply disliked features. 2.8 Maintaining a Tight Fiscal Policy. Table 2.1 presents the data on the government budget for 1992 and the first eight months of 1993. In general, the table shows that the Government has pursued a prudent and conservative fiscal policy. The fiscal deficit amounted to 13 percent of 2 This section draws on the findings of the report, Eritrea: Reconstructing The Fiscal System, IMF, May 1993. 10 TABLE 2.1: SUMMARY OF THE GOVERNMENT BUDGET (In Percent) 1992 1993 Annual Jan - Aug Share of Total Expenditure: Recurrent Expenditure 73.8 76.5 Capital Expenditure 26.2 23.5 Share of GDP at MP: Total Revenue 25.0 Total Expenditure 28.2 Recurrent Expenditure 20.8 Capital Expenditure 7.4 Deficit/Surplus -3.2 Source: Ministry of Finance and Development; Statistical Annex Table V. I revenue, and 3 percent of GDP in 1992 3. This deficit was financed by EPLF funds. Both revenues and expenditures increased sharply in the first eight months of 1993. At the end of August 1993, the budget showed a surplus of Br 23.1 million. Short-term borrowing from the Commercial Bank of Eritrea occurred in early 1993, but the credit has already been repaid. Available data on inflation are very weak and rudimentary. Statistical Annex Table VI.2 shows the preliminary data on the annual inflation rate using an estimated retail price index for Asmara for 1992 and for the first six months of 1993 '. Inflation averaged one percent during 1992, and continued to be low during the first six months of 1993 on an annual basis. 2.9 Sustaining a prudent fiscal policy will be important for maintaining the forward momentum of the development effort. There will be increased pressures on resources following the recent Government decision to pay salaries to ex-fighters, to cover the cost of demobilization, and to guarantee a minimum civil service salary. In addition there are pressures to meet increased expenditures for the rehabilitation of the country and refugees. In the recent past, revenues appear to have benefitted from a spirit of compliance triggered by the victory and by improved tax administration. In the immediate future, any dramatic deterioration in the budget would be discouraged by the present monetary arrangements with Ethiopia governing the issuance of birr, which limits Eritrea's freedom to use seigniorage as a flexible revenue source, and thus the amount of deficit financing of the budget. Noninflationary financing of the budget will be possible with increased domestic revenue mobilization and generation of counterpart funds through increased external assistance. In calculating ratios, GDP data are based on the Ethiopian fiscal year (July/June) throughout this chapter. Eritrea has adopted the calendar year as their fiscal year for fiscal and balance of payments statistics. Mostly comprised of essential food items; the data should be interpreted with care. 11 TABLE 2.2: COMPOSITION OF GOVERNMENT REVENUE (In Percent) 1992 1993 1992 Annual Jan-Aug Annual As share of Total Revenue: As Share of GDP at MP: Total Tax Revenue 89.6 87.5 22.4 Direct Domestic Tax 14.4 27.8 3.6 Domestic Sales Tax 34.2 23.3 8.5 Sales Tax on Services 0.9 2.8 0.2 Customs Duty 17.5 13.4 4.4 Sales Tax on Imports 20.7 18.2 5.2 Taxes on Exports 1.9 2.0 0.5 Total Non-Tax Revenue 10.4 12.5 2.6 Charges and Fees 2.0 2.3 0.5 Sales of Goods and Services 1.2 1.1 0.3 Miscellaneous 7.1 9.0 1.8 Total Revenue 100.0 100.0 25.0 Source: Ministry of Finance and Development; Statistical Annex Table V.2 Note: The ratios to GDP use July to June data for GDP and calendar year data for fiscal calculations Increased Revenue Mobilization 2.10. Eritrea faces a monumental task of rehabilitating a war-devastated economy and laying the foundations for sustained development. In this context, increased domestic revenue mobilization to meet the development needs will be an important challenge. 2.11 Table 2.2 presents data on the composition of government revenue for 1992 and for the first eight months of 1993. The table shows that Eritrea, in a relatively short period, has succeeded in raising its revenues to a level that could be considered respectable by international standards. Total revenue collected amounted to Br 311 million in 1992, or about 22 percent of GDP. Revenue collected during the first eight months of 1993 has already exceeded last year's level, amounting to Br 388 million by the end of August 1993. It should be noted that total tax revenue increased despite the substantial rate reductions in the customs tariff and sales tax on imports. The revenue-to-GDP ratio for Eritrea, at 25 percent, is higher in comparison to the figures for Ethiopia (16 percent excluding grants in FY92), Uganda (8 percent), and Ghana (11 percent). It is also high in comparison to the average for Sub-Saharan African countries, which is around 20 percent of GDP. 2.12 The different sources of government revenue are also reported in Table 2.2. Customs duties and sales tax on imports are the largest sources of revenue; together they accounted for 38 percent of total revenue in 1992 and 32 percent for the first eight months of 1993. Revenue from export taxes amounted to 2 percent of total revenue in both years. This figure is low because exports to Ethiopia, which account for nearly 90 percent of the total exports, are tax exempt. Within the direct tax category, business tax and personal income tax were the most important sources of revenue. Revenue from business tax in particular increased substantially in 12 1993. Meanwhile, revenue from the domestic sales tax amounted to 34 percent of total revenue in 1992. 2.13 Revenue from Foreign Trade. Is there room for mobilizing additional revenue from foreign trade consistent with liberal trade policies? Under Ethiopian rule, the maximum tariff rate on imports was as high as 230 percent. Soon after May 1991, the tariff rates inherited from the previous regime were substantially reduced, and the schedule based on the Standard International Trade Classification (SITC) system, which had been used in EPLF-controlled areas was officially introduced. Import policies were further liberalized in February 1993, which introduced duty-free import of essential goods and capital equipment, a 3 to 5 percent duty on raw materials, a 10 to 15 percent duty on consumer goods and imports that compete with local products, and higher duties on luxury goods (e.g., cosmetics, perfume). The maximum tariff rate was reduced to 50 percent. Relief shipments, imports for government departments, and imports for companies that qualify urder the Investment Code are exempt from duty, while the duty exemption on imports for returning Eritreans has been abolished. In general, these reforms have helped to rationalize the import regime. Until recently the sales tax on imports ranged from 0 to 24 percent. In an effort to unify the rates for domestic and imported goods, the Government, in October 1993, reduced the maximum rate of sales tax on imports to 12 percent. The export tax, which previously had ad valorem rates ranging from 2 to 28 percent for different categories of goods, has now been reduced to a uniform rate of 3 percent. 2.14 The Government is considering introducing additional measures to raise more revenue from foreign trade consistent with improved efficiency of the tax regime. First, more import duties could be collected by eliminating a large number of exemptions. Second, while ensuring that high import taxes do not reduce the competitiveness of Eritrean exports (e.g., by introducing duty drawback schemes), raising the rate of duty on raw materials and capital equipment may raise additional revenue. In addition, such a policy would help to lower the dispersion in the effective rates of protection and thereby promote efficient investment. Finally, further strengthening of the Customs Administration would also enhance the tax collection effort. The past legacy has left the present administration with out-of-date legislation, inefficient and cumbersome procedures, lack of trained personnel, and insufficient supplies and equipment. The most pressing of these problems is the inefficient import declaration processing system. Designing a simplified import processing system would be a high priority. The Customs Law that is currently being used is the Ethiopian Law of 1947. Although it has been amended over the years with the addition of various regulations (e.g., valuation regulations, 1952), in general, this law does not support the operation of a modern and efficient customs operation. The Government is considering adopting a revised Customs Law based on international standards including the Customs Cooperation Council (CCC), the International Convention on the Simplification and Harmonization of Customs Procedures (Kyoto Convention), and the GATT Valuation Code. 2.15 Revenue from Domestic Taxes. The main sources of domestic tax revenue are the income tax, the business tax, and the sales tax. The income tax is highly differentiated, with separate schedules (in terms of the tax base and tax rate) for wage earners, self-employed persons, commercial farmers, and incorporated businesses. The recent rate reductions make employment income taxation fairly progressive. Also, the reduction in the tax rate for incorporated businesses from a maximum of 50 percent to a maximum of 40 percent is a change in the right direction. The domestic sales tax and the sales tax on imports have already been unified at 12 percent. 13 2.16 A reformulation of the income tax law could be considered in the near future. Consideration should be given to an excise system of a few additional single-item taxes, collected at importation or on domestic production, that will generate substantial revenue from consumption of price-inelastic goods such as beer, liquor, tobacco and gasoline. Some aspects of existing systems and procedures of tax administration will also need to be reformed. As the number of taxpayers increases, the present system of assessing all taxpayers will need to be replaced by selective in-depth audits, and an alert collection enforcement system. A self-assessment system could be introduced progressively. Caution in Public Expenditure 2.17 Public expenditure analysis by sectors and economic categories is hampered by the inherited system of expenditure classification, characterized by numerous problems in the way expenditures were grouped, aggregated and classified in the previous budgets. Often, there is insufficient disaggregation to decipher the composition of very broad categories. A large number of programs funded by donors are not incorporated in the budget. Such a system is a legacy of the previous regime where the budget was merely the financial execution instrument of the central plan, providing insufficient information in the present context for policymakers to assess priorities, and analyze intersectoral and intrasectoral allocations. The Government is in the process of reforming the previous system of expenditure classification to make it a more useful input for decisionmaking. A preliminary attempt at developing a functional and economic classification of expenditures is discussed below. 2.18 Recurrent Expenditure. Table 2.3 presents preliminary data on functional and economic classification on recurrent expenditures. Total expenditure as a ratio of GDP was 28 percent in 1992, with recurrent expenditure at 21 percent and capital expenditure at 7 percent (see Table 2.1). Based on available GDP data, Eritrea's ratio of total expenditure to GDP is comparable with that of Ghana (21 percent), Mauritius (26 percent), but lower in comparison to Ethiopia (30 percent in FY94). The economic classification of recurrent expenditure shows that expenditure on (non-wage) operations and maintenance accounted for nearly 47 percent of recurrent expenditure with the rest going to wages and salaries. The functional classification shows that general administration accounted for more than 60 percent of recurrent expenditure (13 percent of GDP), social services for 22 percent (5 percent of GDP), and economic services for 11 percent (2 percent of GDP). Within general administration, defense accounted for almost 49 percent of recurrent expenditure (10 percent of GDP). With the demobilization effort and recent decisions on government salaries, there will be a shift from defense to civil service salaries within this category. A major share of expenditure within economic services went into agriculture and infrastructure, with trade and industry accounting for a smaller share. The sectoral composition of recurrent expenditure for economic services has shifted considerably during the past year. The share of agriculture in recurrent expenditure fell, while expenditure on infrastructure has increased. Industry and trade remained at the same level. The decrease in the agricultural sector is mainly explained by a large reduction in the (non-wage) O&M component, while the wage share remains at the 1992 level. Given the seasonal nature of the agriculture sector, it is difficult to obtain a full picture using preliminary data for the first eight months of 1993. Within social services, the share of education (including Asmara University) in recurrent expenditure was 13 percent and health accounted for 4 percent. 14 TABLE 2.3: FUNCTIONAL & ECONOMIC CLASSICATION OF REcURRENT EXPENDITURES (In Percent) 1992 1993 1992 Annual Jan-Aug Annual Functional Classification Share of Total Recurrent Expenditures: Share of GDP at MP: General Administration 62.1 63.1 12.9 Defense 48.9 44.1 10.2 Public Administration 2.9 5.2 0.6 Other 10.3 13.8 2.1 Economic Services 10.9 9.5 2.3 Agriculture 7.5 3.2 1.6 Infrastructure 2.4 5.2 0.5 Commerce and Industry 1.0 1.1 0.2 Social Services 22.2 20.7 4.6 Education 13.3 10.8 2.8 Health 4.2 3.6 0.9 Other 4.6 6.2 1.0 Other (incl. Subsidies) 4.8 6.8 1.0 Pension 2.6 3.8 0.5 Other 2.21 3.0 0.5 Total Recurrent Expenditures 100.0 100.0 20.8 Economic Classification Share of Total Recurrent Expenditure: Share of GDP at MP: Wages and Salaries 52.9 53.6 11.0 O&M 47.1 46.4 9.8 Total Recurrent Expenditures 100.0 100.0 20.8 Source: Ministry of Finance and Development; Statistical Annex Table V.4 Note: The ratios of GDP use July to June data for GDP and calendar year data for fiscal calculations. 2.19 In the past, the level of recurrent expenditure was low since a large number of civil servants, particularly ex-freedom fighters, received no salaries. With the return to peace, and payment of salaries to all civil servants including ex-freedom fighters, the pressure on the recurrent budget will increase. Hiring additional civil servants to manage the administration will add to the pressure. Maintaining a small but efficient civil service, paying salaries to all civil servants, and replacing monetary and nonmonetary allowances with a transparent and equitable salary package would help to strengthen the civil service consistent with fiscal discipline. It is important that increases in wages and salaries should not come at the expense of (non-wage) 15 operations and maintenance. This will place a heavy pressure both on revenue efforts and an efficient use of donor support for sectoral investment projects. 2.20 Eritrea also faces increased expenditure from the resettlement of refugees, displaced families, and demobilization of ex-freedom fighters. A program to demobilize and resettle ex- fighters is already being implemented (see Chapter 6). Additional short-term policies for specific target groups may need to be introduced. More long-term social security mechanisms could comprise pension funds, health insurance schemes, and measures targeted towards groups adversely and irrevocably affected by the war (e.g., the maimed, widows, and orphans). In general, however, social safety nets and social security mechanisms will need to be designed and implemented under the perspective of fiscal discipline. 2.21 Public Investment. Table 2.4 shows the sectoral composition of capital expenditure. In 1992, construction accounted for 49 percent of capital expenditure, agriculture for 31 percent, and social services for 13 percent. As mentioned earlier, these ratios need to be interpreted with caution, as the budget does not include capital projects funded by the donors. In certain sectors, donor-funded projects exceeded the investment made by the Government (see Chapter 8 on Health and Nutrition). 2.22 In general, Eritrea will face expenditure pressure on the capital budget from the increasing number of development projects which are being planned or in the process of being started, and which, apart from being donor-funded, would also require some cofinancing from the Government. Establishing a core investment program that reflects the most urgent development priorities of the country would help to ease this pressure, while helping to focus limited budgetary resources and implementation capacity on priority projects. The linkages between capital and recurrent expenditures should also be explicitly recognized. Past and future investments-even those made through concessional financing or grants-will have a continuing call on the recurrent budget. Establishing an institutional framework for assessing the recurrent cost implications of any new development expenditures is, therefore, an important priority. 2.23 An area of strategic importance to public finance concerns the state-owned enterprises, which account for 90 percent of manufacturing output and provide substantial employment. At present, for most part, the state-owned enterprises cover their variable costs of production and receive no subsidies from the Government. While this is a viable short-run strategy, the position in the future can be problematic, because the physical capital stock of the state-owned enterprises is old and badly needs to be replaced. In the meantime, maintenance and repair costs will increase, which implies that eventually such costs may overwhelm receipts. The upshot is that the recurrent cost burden on the budget will increase if the capital stock is not replaced, while replacing the capital stock will be costly if provision has not been made in the form of depreciation funds. In this context, at the very outset, a clear articulation of the role of the Government would help to define how best to use scarce public resources. Budgetary Process 2.24 The two key issues here are budget formulation and execution. In the past, budget formulation experience-including fiscal policy analysis, allocation of funds to different sectors, distribution of resources between recurrent and development operations, project appraisal, and external aid budgeting-did not exist in Eritrea, unlike some experience in the budget execution 16 TABLE 2.4: TOTAL CAPITAL EXPENDITURES BY SECTOR (In Percent) 1992 Annual Share of Total Capital Expenditures: Agriculture 31.40 Water Resources 0.80 Recovery Projects in the Provinces 0.00 Construction 49.02 Communication & Transport 5.49 Health 0.26 Social Services 13.03 Industry 0.00 Total Capital Expenditures 100.00 Source: Ministry of Finance and Development; Statistical Annex Table V.5 area-involving collection of revenues and payment of expenditures-that did exist. Nevertheless, it is noteworthy that the Ministry of Finance and Development (MFD), responsible for preparing the budget, has managed to introduce several initial measures aimed at formulating a relatively well-organized budgetary process. The MFD issues an annual budget call to all line ministries, provinces, and other relevant government units. The amount of resources assigned by the MFD to each budgeting unit are based on a provisional sector allocation. The different units submit a recurrent and capital budget form, provide detailed financial information and a breakdown of the program which the budgeting unit intends to undertake, and supply information about main physical input requirements, sources of financing and required foreign currency. The budget requests also provide details on the regional distribution of the projects. Ministries also submit general background information on the current situation of the sector in which they operate. The MFD uses these data to prepare an estimate of the financial resources available and a tentative allocation of funds. Many of these measures are in the process of being implemented. As mentioned earlier, the timely preparation of the budget is a high priority item for the Government. 2.25 For effective fiscal management, additional measures are being considered to improve the budgetary process including budget review and timely preparation of the budget. First, the structure and the coverage of the budget are being reformed to establish complete coverage in fiscal operations. Second, steps are being taken towards strengthening foreign aid management, particularly budgetary treatment of aid and related debt management. Incorporation of all grants and loans in the budget will facilitate the planning of public investment programs, the timely release of counterpart funds, observance of relevant bidding procedures, improved project implementation, elimination of local currency requirements, and the servicing of debt. Finally, a budget law is being considered to define the responsibilities of central agencies and line departments in the preparation and execution of the budget. 17 2.26 Counterpart receipts in birr derived from the sale of commodity assistance, reconstruction assistance, as well as balance of payments support are likely to play an important role in financing the budget in the short to medium run. Management and monitoring of these resource flows, in terms of ensuring the rapid sale of goods received-in-kind and the channeling of the financial resources generated into the Government's treasury account will be important in terms of the efficient management of fiscal accounts. In the context of the Recovery and Rehabilitation Programn, and in order to simplify fiscal management, the Eritrean authorities have already begun to reach agreements with most members of the donor community to allow a pooling of the counterpart funds (rather than separate joint signature accounts). MONETARY AND FINANCIAL SECTOR MANAGEMENT 2.27 Background. Eritrea presently forms a de facto currency union with Ethiopia, and provisionally uses the Ethiopian birr as its legal tender. Both countries have initiated cooperation in monetary and economic policies and have recently agreed to intensify this cooperation. While Ethiopia relies heavily on the transport facilities in Eritrea, Eritrea is no less reliant on the related services income and on exports to and imports from the large Ethiopian market. In these circumstances, both countries gain significant benefits from close cooperation and from the currency union in particular. The wider circulation of a single currency generates benefits such as lower transaction costs and reduced uncertainty within the union. These benefits should be weighed against the disadvantage of restricted policy independence, since monetary and exchange rate policies should be set at the union level under a formula to be determined by both countries. In essence, however, the situation will be different if the economies of the two countries require dissimilar policies in the future. 2.28 Eritrea inherited its financial sector from Ethiopia at liberation. It consisted of parts of branch networks of Ethiopian financial institutions. Most Ethiopian managers and staff moved back to their country, and although some skilled Eritreans have returned, there are still large gaps in the managerial and operational structure. Over the period 1987/88 to 1991/92, Eritrea's financial sector represented on average about 2.5 percent of the country's GDP (see Statistical Annex Table 11.3). In 1991/92, the sector grew after three years of decline. Although small in terms of value added and number of institutions, the sector is huge financially: in June 1992, total financial assets were equivalent to 90 percent of GDP. Half of this total was cash in the financial institutions' vaults. 2.29 Monetary and Financial Depth. Table 2.5 presents a summary of the provisional monetary survey for the period December 1991 to June 1993 based on a tentative reclassification of the Bank of Eritrea and the Commercial Bank of Eritrea's balance sheets (see Statistical Annex Table VI. 1). The birr currency in circulation does not appear on the balance sheet of the Bank of Eritrea (BE) and is a liability of the National Bank of Ethiopia.' An estimate of the currency in circulation is not currently available. The table reveals that, even after discounting for currency in circulation, liquidity in the Eritrean banking system is very high. Broad money expanded by 140 percent during 1992. Monetary growth continued during the first half of 1993, although at a decreasing pace. In 1992, cash in vault of the Commercial Bank of Eritrea (CBE) was I Data are very weak and rudimentary. 18 TABLE 2.5: PROVISIONAL MONETARY SURVEY (In Millions of Birr) 1991 1992 1993 Dec March June Sept Dec March June Assets 481.0 527.8 700.5 881.9 1,123.2 1,364.1 1,556.5 Net Foreign Assets 571.3 730.1 926.3 1,030.3 1,122.2 1,300.4 1,523.4 Domestic Assets -90.4 -202.3 -225.7 -148.4 1.0 63.7 33.1 Claims on Central Government, net -162.5 -219.3 -245.9 -182.9 -91.5 -29.6 -104.8 Claims on Local Government 0.0 0.0 0.0 0.0 2.3 0.0 0.0 Claims on Nonfinancial Public Enterprises 42.3 5.9 7.2 20.9 70.1 72.6 109.3 Claims on Private Sector 29.8 11.1 12.9 13.5 20.1 20.8 28.7 Liabilities 481.0 527.8 700.5 881.9 1123.2 1,364.1 1,556.5 Money, M-2 494.5 599.2 771.8 955.6 1186.9 1,390.7 1,534.3 Money, M-1 203.0 200.4 292.1 357.0 517.3 593.0 637.6 Quasi-Money 291.5 398.8 479.7 598.5 669.5 797.7 896.6 Other items, net -13.5 -71.4 -71.2 -73.7 -63.6 -26.6 22.2 Memorandum Items Ml/GDP at MP 19.2 16.1 23.5 28.7 41.6 Quasi-Money/GDP at MP 27.6 32.1 38.6 48.1 53.9 M2/GDP at MP 46.9 48.2 62.1 76.9 95.5 Velocity 2.1 2.1 1.6 1.3 1.0 Sources: Bank of Eritrea; Commercial Bank of Eritrea; Statistical Annex Table VI.1 Note: The 1990/91 GDP estimates were used for calculating 1991 ratios; the 1991/92 GDP estimates were used for calculating 1992 ratios. equivalent to 73 percent of GDP6, while money in terms of demand deposits represented 42 percent of GDP. Financial depth is also very high. In 1992, quasi-money represented 54 percent of GDP. These levels are the highest recorded in Sub-Saharan Africa. 2.30 This particular situation stems, in part, from a trade surplus with Ethiopia, and possibly an inflow of remittances from Eritreans residing in Ethiopia. The return of birr to the Eritrea's banking system after the hoarding that took place during the war is also a savers' response to the emerging political and macroeconomic stability. The Financial Sector: Background and Issues 2.31 Eritrea inherited an obsolete monetary and financial system from Ethiopia. The institutional structure includes a new central bank, the Bank of Eritrea (BE), the Commercial Bank of Eritrea (CBE), the Agricultural and Industrial Development Bank (AIDB), the Housing and Saving Bank 6 Owing to lack of GDP estimates for 1992/93, the 1991/92 GDP figure is used in calculating ratios for both 1992 and the first six months of 1993. 19 (HSB), and the National Insurance Corporation (NIC). The AIDB, which is now called the Development Bank of Eritrea, and the HSB are now being revitalized. At present all financial institutions are owned by the Government, but entry of foreign private and domestic banks is permitted. A Draft Proclamation (32/1993) is the temporary legal basis for governing the financial sector and its operations. New central bank and financial sector legislation is at an advanced stage of preparation. 2.32 Bank of Eritrea. At liberation, a new central bank, the Bank of Eritrea (BE) was established on the basis of a former branch of the central bank of Ethiopia. The balance sheet of the Bank of Eritrea is small in relation to both GDP and that of the Commercial Bank of Eritrea, in terms of assets, 14 percent and 9 percent, respectively. Virtually, the only assets are claims on the birr area, which are cash in vault. On the liabilities side, 44 percent is reserve money, 33 percent are central government's deposits, over 10 percent are foreign liabilities, 6 percent is equity and the remaining 6 percent are unclassified liabilities. 2.33 Commercial Bank of Eritrea. The Commercial Bank of Eritrea (CBE) dominates the banking sector, accounting for over 90 percent of the sector's assets. It operates 11 branches with total assets of Br 2 billion. Despite its small branch network, CBE's performance as a domestic depository institution is remarkable. It operates 164,000 savings accounts. This means that about one Eritrean household out of three has a savings account with CBE. In addition, during 1993 the total amount of savings and fixed deposits increased by 87 percent. Recently, with the approval of the Bank of Eritrea, non-residents were permitted to open interest-bearing accounts in US dollars or in birr with the Commercial Bank of Eritrea. While savings and time deposits increased strongly during 1992 and 1993, lending activities of CBE have lagged far behind and remain limited. The CBE is the only source of commercial, mostly short-term, credit. But total credit represents only a minor part of its assets. Claims on nonfinancial public enterprises, represent five percent of total assets, while claims on private enterprises represent another one percent. Information from private sector entrepreneurs indicates that the CBE is rather discretionary in its credit policy. However, the need for credit is quite low, reflecting the still rather slow pace of business development in the private sector and the availability of funds from other sources, such as remittances. 2.34 There is a major imbalance between maturities of CBE's assets and liabilities. On the liabilities side as of June 1993, while 31 percent of the total liabilities are demand deposits, between 40 percent and 60 percent are fixed-term deposits, principally of one to five years. On the assets side, 56 percent is cash in vault and accounted for as "Claims on the Birr Area". While liquidity predominates on the asset side, fixed-term liabilities predominate on the liability side. Likewise, there is an imbalance in yields. On at least 50 percent of its liabilities, CBE pays an average interest rate of about 6 percent at best. But it earns an interest rate, an average of 10 percent, on only 7 percent of its assets. Therefore, the interest rate margin is negative and in the first half of 1993, according to a rough estimate, CBE would have incurred a net interest payment of about Br 25 million or an annual net income outflow of Br 50 million. This is in excess of the 20 bank's stated capital and represents more than 80 percent of its equity7 Negative interest payments preempt any making of profit and constitution of reserves. This situation leads to the issue of undercapitalization and insufficient reserves. 2.35 Other Financial Institutions. Before liberation, the Agricultural and Industrial Development Bank (AIDB) specialized in long-term lending to agriculture and industry. Eritrea inherited a branch of AIDB. The Housing and Saving Bank (HSB) was established to mobilize mainly retail savings and provide loans for housing development to individuals, private organizations and state-owned enterprises. The temporary closure of AIDB and HSB had reduced Eritrea's financial sector to a central bank and a commercial bank. This narrowness limits the range of functions the sector can fulfill and the range of financial services it can offer. The National Insurance Corporation (NIC) was established shortly after liberation on the basis of a former branch of the Ethiopia Insurance Corporation, as the only national insurer in the State of Eritrea to engage in all classes of insurance business with the exception of life insurance. At the end of December 1992, NIC earned gross premium income of Br 17 million of which the share of the re-insurers was Br 5 million. It made a net profit of Br 4 million. The highest premium income was from motor vehicle insurance followed by marine and fire insurance. 2.36 There also exists an informal financial sector engaged in all kinds of rotating credit and saving mechanisms and short-term credit. The source of funds is local money lenders, families and friends, shopkeepers and suppliers. This sector finances the segment of the population which does not have access to the formal sector. It also deals in retail foreign exchange and informal remittances. 2.37 In conclusion, the financial sector (i) is saddled with a huge surplus of cash that cannot possibly be used for extending credit; (ii) lacks at present a definite legal, regulatory and prudential framework; (iii) needs to be strengthened to implement and enforce the framnework; (iv) lacks competition and is undiversified; (v) does not fully respond to the existing credit demand; and (vi) lacks acutely the human and technological resources required for its strengthening, development and diversification. Strengthening the Financial Sector 2.38 Reforms of the financial sector should be cautious and gradual in order to minimize the risk of destabilizing a narrow-based and fragile financial system, and to economize the very scarce human and physical resources that are available. Maximum use should be made of the existing financial institutions and structures, and these should be strengthened and developed in the first place. The entry of private banks including foreign banks has already been permitted. The strategy for developing the financial sector could focus inter alia on the following areas: (i) According to the unaudited balance sheet for 1992 and information from the bank management, total reserves, including loan loss provision, amount to Br 11.9 million or 0.6 percent of total liabilities. Management indicated that CBE has no non-performing loans on its balance sheet. There is, however, an amount of about Br 107 million in the account "Claims on Nonfinancial Public Enterprises" that would represent previous credit extended before liberation to public enterprises that have since been "frozen". There is also an amount of Br 52 million, classified as "Other Loans" that are in arbitration with the Ethiopian Government. Together, these amounts represent 2.6 times CBE's equity and 14.5 times its total reserves. Both on the basis of its balance sheet structure and on the basis of international standards, CBE's capital, loan loss provision and equity are very low. 21 the macro-financial environment; (ii) the banking sector; and (iii) the non-bank financial institutions. 2.39 Macro-Financial Enviromment. As noted above, Eritrea and Ethiopia have recently intensified cooperation in economic and monetary policies. Eventually, detailed mechanisms for coordinating monetary policies will have to be designed. Cooperation and monetary coordination with Ethiopia would offer the Commercial Bank of Eritrea a possible way out of the unusually high level of liquidity. A possible option could be the following. The Bank of Eritrea would take the cash over from the Commercial Bank of Eritrea and replace it with an annual bond yielding interest at a rate to be negotiated between the two institutions. The level of this rate would be more related to the equilibrium in CBE's income account than to the market clearing rate. However, the yield should be positive in real terms. The Bank of Eritrea would in turn deposit the cash with the National Bank of Ethiopia, against a bond. The rate on this bond, to be negotiated between the two central banks, should be based on both an international rate of interest and to seignorage, since all revenues from money creation currently accrue at present to Ethiopia. 2.40 The currency union prevailing presently between Eritrea and Ethiopia, reduces the margin for an independent monetary policy and precludes Eritrea from conducting an independent interest rate policy. Eritrea's interest rate structure will have to remain closely related to that of Ethiopia. It will therefore have to continue to be administered by the central bank until such time that it has at its disposal sufficiently sophisticated indirect monetary instruments to leave interest rate determination to the market. In the meantime, the Bank of Eritrea could unify the interest rate structure and not discriminate in terms of yield between government, public enterprises, private enterprises and individuals. 2.41 Legal, Regulatory and Prudential Framework. Eritrean authorities have already drafted two acts-covering the central bank and the financial system-in order to provide the financial sector with an adequate legal, regulatory and prudential framework, and to form a basis from which to grow, diversify and be monitored. As the reconstruction progresses and the economy and the financial sector grow and diversify, a strong and technically well-equipped central bank will be increasingly needed to support this growth and diversification. Therefore, the Bank of Eritrea will be developed into a full central bank and staffed adequately. It should be properly capitalized. Organizational structure and the information system should be rapidly set in place and a specific accounting system developed. Care should be taken to equip the Bank of Eritrea with the appropriate computer technology. Finally, the supervision department should be made strong and relatively autonomous. 2.42 With regard to the CBE, as mentioned above, the central bank should exchange the excess cash with the CBE against a bond yielding interest to be negotiated between the two parties. Such a move would go a long way to providing the CBE with a balanced income account, a means to increase reserves, equity and financial autonomy. Finally, the CBE should be recapitalized to a level commensurate with international capital adequacy ratios. a The CBE has a small branch network and this may be one of the obstacles to expanding credit and multiplying financial services in support of the economic rebuilding and recovery. Another obstacle to that end may The Bank of International Settlements (BIS) Committee of Bank Supervisors (of which A. Cook was chairman) established risk-weighted capital adequacy ratios for different assets which add to 8 percent of total assets. These ratios were adopted internationally by the end of 1992. For instance, cash is 0 percent risk weighted, government bonds 80 percent to S0 percent, credit to enterprises 60 percent to 20 percent etc. Capital must be then 8 percent of the assets risk-weighted total. 22 be that a good part of the demand for credit emanates from small and micro enterprises. Thus, it is important to establish rapidly a financial institution that can provide financial services to small and micro entrepreneurs, artisans and individuals. Such provision of services would be too costly for the Commercial Bank of Eritrea, in particular since, one of the key actions with regard to CBE is to return it to profitability. 2.43 Financial Cooperatives. The establishment of a network of credit and savings cooperatives, i.e., financial cooperatives, would also complement and extend the limited branch network of the CBE and other banks, use some of the CBE's liquidity and help to provide additional competition. Financial cooperatives require managers and staff fundamentally different from those required by commercial banks, so that the establishment of a network of financial cooperatives is unlikely to cause overbidding for scarce human resources and skills. As the network of credit cooperatives starts and expands, the authorities can develop in parallel the specific capacity to supervise it. This capacity should be located at the central bank. Normally a system of financial cooperatives is a multi-tiered system in which upper tiers supervise lower tiers and only the highest tier is supervised by the central bank or another government agency. The creation of a network of financial cooperatives would multiply outlets from which financial services can reach enterprises and individuals that are financially too small to be serviced economically by the commercial bank, and would diversify financial services offered. Diversifying the Financial Sector 2.44 There are three important prerequisites to introducing competition into the financial sector. First, the central bank must be sufficiently strong and experienced to: (i) formulate routinely prudential regulation and supervise adequately-on-site and off-site-banks and non-bank financial institutions; and (ii) formulate and implement direct monetary control and, later, some indirect monetary instruments. Second, the central bank must have a sufficiently developed internal accounting system and information flow to be able to continuously monitor its internal balance sheet. Third, the cash problem paralyzing CBE is already being sorted out to strengthen it and enable it to operate fully as a financially autonomous and profitable commercial bank. 2.45 Financial sector diversification in Eritrea could principally aim at promoting non-bank financial institutions (NBFIs). There are several reasons for this suggested strategy. First the Eritrean economy and its agents, as is the case elsewhere in Sub-Saharan Africa (SSA), require a significantly broader range of financial services than a commercial bank can provide. Diversifying the financial sector early will ensure that these services are provided rapidly, without waiting to realize and experience that commercial banks cannot provide them, as has been the case in many SSA countries. Second, NBFIs require less capital than banks and therefore are more accessible to local entrepreneurs. Third, their emergence will provide limited competition to the CBE inducing it to increase efficiency of its operations without destabilizing it. And fourth, NBFIs are also accessible to foreign entrepreneurs and in that way, foreign expertise and technology would be brought in early in the diversification process. 2.46 Among NBFIs to be considered in addition to financial credit cooperatives are leasing companies, hire purchase and retail credit companies, brokerage and other finance companies, housing finance companies and foreign exchange bureaus. Leasing companies are particularly suitable, because they finance heavy and light equipment and real estate without requiring 23 collateral.9 Leasing companies often jump start short- and medium-term bonds markets because they require financing that matches their assets maturities.'0 This is particularly beneficial to micro and small enterprises, since these rarely can provide collateral commensurate with their financing needs. 2.47 Hire purchase and retail credit companies cater to small individual credit that may be too costly for banks. In the case of Eritrea they would borrow from BE and CBE because they usually do not take deposits, providing an additional outlet to the liquidity of these two institutions. Brokerage and other finance companies, like companies financing small trade are the roots of money and capital markets. Housing finance companies are companies that thrive on retail savings. They could provide competition to CBE with regard to savings accounts and finance housing, which in the context of rebuilding Eritrea's economy and social infrastructure is particularly important. Finally, foreign exchange bureaus would complement CBE branches with regard to foreign exchange operations. EXTERNAL BALANCE 2.48 Exports during 1992 and 1993 were very low, while import growth has been high. Table 2.6 shows that in 1992, officially registered merchandise exports amounted to only US$1.9 million, while imports were as high as US$171.0 million. However, official export statistics only partially reflect actual trade patterns." For example, substantial exports of salt to Ethiopia (Br 30 million) are not included in official customs statistics and the balance of payments. It is also estimated that fish worth US$4 million was exported through a UN-sponsored technical cooperation project in Massawa in 1992, and this figure is not included in any official statistics. Second, unrecorded re-exports offranco valuta (own resources) imports from Eritrea to Ethiopia are reportedly substantial. Third, unrecorded exports of Eritrean products to Ethiopia-especially manufactured goods (e.g., shoes, textiles, beverages) but possibly also raw materials other than salt and food-should also be taken into account. Unofficial agricultural exports are also considerable: the irrigated vegetable production of Barka and part of the Gash-Setit production are exported to Sudan. 2.49 Ethiopia is Eritrea's most important trading partner. Over the past two years, almost 90 percent of Eritrean exports went to Ethiopia, while about one third of Eritrean imports came from Ethiopia. Italy is the second largest trading partner of Eritrea: it received about 7 percent of Eritrean exports, while about 15 percent of imports originated from Italy. 12 Salt is at present by far the largest Eritrean export, followed by beverages and tobacco. In addition, soap and detergent, candles, matches, bottles, shoes, and textiles are exported. According to official statistics, agricultural exports have been very limited so far. More than 40 percent of Eritrea's 9 In some SSA countries, such as in Malawi, leasing companies finance artisans' tools, micro-enterprise machinery, cabs and even sewing machines. 0 The first issue of private bonds in Malawi has been conducted by a private leasing company with three- and five- year maturities. There is no comprehensive balance of payments data on Eritrea. 12 For details on the direction and composition of trade see Table III.3 in the Statistical Annex. Again, available data need to be interpreted carefully. It should be noted that official customs statistics state Saudi Arabia as the most important source of imports. However, a very large share of imports from Saudi Arabia are transshipped goods for which Eritrean authorities were unable to determine their origin. The shares presented above are based on total imports less the amount attributed to Saudi Arabia. 24 TABLE 2.6: BALANCE OF PAYMENTS, 1992 (In Millions of US$) Birr Non-Birr Transactions Transactions Total Trade Balance -32.1 -137.0 -169.1 Merchandise Exports, fob 0.0 1.9 1.9 Merchandise Imports, cif 32.1 138.9 171.0 Services, net 14.7 16.7 31.4 Net Transfers 0.0 101.2 101.2 Private 0.0 76.4 76.4 Official 0.0 24.8 24.8 Current Account -17.4 -19.1 -36.5 Capital Account 226.5 17.3 243.8 Overall Balance 209.1 -1.8 207.3 Reserves Buildup (increase =-) -209.1 1.8 -207.3 Memorandum Item - Ratios to GDP at MP: CAB excl Grants -1.40 -3.53 -4.93 CAB incl Grants -0.01 -0.02 -0.03 Sources: Bank of Eritrea, Commercial Bank of Eritrea, and Petroleum Corporation of Eritrea; Statistical Annex Table Eg.I imports consists of manufactured products (including materials), followed by food (27 percent), machinery and transport equipment (15 percent), and chemicals (9 percent). 2.50 Regarding services, official figures indicate a substantial surplus on transactions (US$31.4 million in 1992). Transfer receipts include the payments of oil refinery services and transshipment costs of Ethiopia's foreign trade, totalling US$32.9 million in 1992. 13 At the same time, service payments were low (US$1.5 million). Regarding transfers, during 1992, net private remittances from Eritreans abroad amounted to US$76.4 million; these were largely used to finance imports through thefranco valuta (own resources) system. 2.51 The surpluses on the services and transfer accounts offset a substantial part of the trade balance deficit, leaving a current account deficit for 1992 of US$61.3 millon, equaling about 14 percent of GDP. This deficit was more than offset by large inflows in the capital account, totalling almost US$100 million. In 1992, private capital inflows from Ethiopia (in birr) were US$48.3 million. In addition, Eritrea received about US$51 million of official loans and grants. 14 2.52 As the monetary survey shows, inflows of birr took place in 1992 (and 1993), which is reflected in the balance of payments in the unidentified transactions account (recorded under errors and omissions in Statistical Annex Table 111.1). Unidentified transactions in 1992 totalled US$169.6 million, which can be explained by the following factors: (i) unrecordedfJanco valuta imports which were re-exported to Ethiopia and paid in birr; (ii) unrecorded exports of Eritrean goods and services (as discussed above); (iii) cash remittances in birr from Eritreans residing in 3 Unrecorded service receipts, for example from the transport sector which has expanded rapidly since 1991, are thought to be noteworthy. '4 It should be noted that these official loans and grants are not recorded in the fiscal accounts. 25 Ethiopia, reflecting an increasing confidence in the Eritrean banking sector and economic development in general. Eritrea has accumulated some foreign assets over the past years. The BE and CBE together held net foreign assets worth US$42.7 million as of end-June 1993, which is equal to 3 months of 1992 imports.'5 At the same time, Eritrea is in a very favorable situation regarding its external debt. All obligations from the period before May 1991 have been taken over by Ethiopia, leaving Eritrea with no debt legacies. Reportedly, the country's only obligation at present is the IDA credit for the RRPE (US$25 million). 2.53 Remittances amounted to US$76.4 million in 1992 (or US$6.4 million per month), but remittance flows increased during the first quarter of 1993 to US$31.2 million (or US$10.4 million per month). In part this trend may reflect the effects of the devaluation which took place on October 1, 1992. However, it is difficult to make a reliable prognosis about the future flow of remittances. On the one hand, it might be expected that the present level of remittance flows is sustainable, or might even increase, because the confidence in economic development in Eritrea is growing and more Eritreans abroad would begin transferring larger amounts of foreign exchange not only for trading but also investment purposes. Eritreans abroad may also decide to send remittances to their relatives back home on a permanent basis. On the other hand, it might be argued that many Eritreans remitted significant funds before 1991 to finance the liberation struggle, and that over time, such flows could shrink. 2.54 Exchange Rate Arrangements. Two different official exchange rates are effective in Eritrea. In August 1993, the Government started to use the marginal rate determined through the bi-weekly foreign exchange auction system in Ethiopia. In November 1993, the rate was close to Br 6 per US dollar.'6 At the same time foreign exchange from Eritreans abroad is bought and sold at Br 7.05 and Br 7.2, respectively. A parallel market also exists, where the exchange rate over the past two years has been slightly higher than the remittance rate (Br 7.2 to 7.4 = US$1). All foreign exchange settlements except cash are carried out through authorized banks and dealers, which are licensed by BE in accordance with the Monetary and Banking Proclamation No. 32/1993. Eritrea has inherited a foreign exchange allocation system that is highly regulated, where rules and regulations may be applied in a somewhat discretionary manner.'' Two foreign exchange allocation committees have been set up under the direction of BE; one is responsible for general foreign exchange allocations, the other deals with the allocation of foreign exchange for private sector importers (see Chapter 3 for further details). REGIONAL INTEGRATION 2.55 The scope for regional integration between Eritrea and neighboring countries is substantial. In the past, regional trade between Eritrea, Sudan and Ethiopia was important, while Eritrea also exported to other regional markets. The trade with its neighbors, Ethiopia and Sudan, greatly benefitted from the previously excellent infrastructure in Eritrea. As early as 1925, the Italian colonial administration and Sudan had reached an agreement about water distribution along the IS The monetary survey puts the net foreign assets in foreign currency somewhat higher, at US$51.6 million. " Before this, the Eritrean Authorities used the official exchange rate pegged at Br 2.07 = US$1 until October 1. 1992, and Br 5 = US$1 thereafter. ' The Eritrean Government has displayed a comparatively liberal attitude with respect to the import and export of domestic currency notes. 26 Gash River for controlled irrigation of large areas of cotton cultivation. Currently, there is a free trade agreement in effect between Eritrea and Ethiopia, while the two countries set different external tariff policies to other countries. Eritrea has recently joined the Preferential Trade Area for Eastern and Southern African States (PTA). 2.56 Eritrea has placed a high priority on regional integration with other East African countries, including Ethiopia. Relations between the Eritrean and the Ethiopian Governments have been close over the last two years and can be expected to remain so in the future, especially in terms of trade and transport. Two major agreements were signed in January 1992 over the use of the Asseb port and oil refinery and over transit trade and encouragement of trade between the two countries (Ports and Trade Pacts)."8 In July 1993, the Agreement on Friendship and Cooperation was signed between the two countries. In September 1993, a Joint High Ministerial Commission (JHMC) of the two Governments met in Asmara. During this meeting, it was agreed that visas will no longer be required for the citizens of the two countries, which will greatly simplify the free movement of people. A Protocol Agreement on Harmonization of Economic Policies was signed by the two parties, covering fiscal, monetary, trade and investment policies. Further agreements were signed on cooperation in industry, transport and communications, agriculture, mining and energy, construction, and tourism. 2.57 Regional integration should not be interpreted as a rationale for additional barriers to the outside world. Overall trade liberalization should continue independently of efforts to create additional trade flows within the region. The concept of regional integration should contain not only trade liberalization within the region but also cooperation in improving physical, institutional and social infrastructures; harmonization of production structures; and the creation of a favorable environment for private enterprises and for free factor movements across the border supported by a stable and credible political climate. Given that current intraregional trade share is small (except between Eritrea and Ethiopia) and that production and infrastructural facilities for expanding trade are limited, benefits from the reduction of tariff rates would be long-term rather than short-term. Therefore, the goals for regional integration should be set in the long term allowing for a thorough assessment of potential benefits, risks and constraints (see Box 2.1). The overall emphasis would be to tackle infrastructure and production bottlenecks while pursuing intraregional trade liberalization.'9 Priorities include continued cooperation with Ethiopia in roadrehabilitation and transit traffic to Ethiopia and in joint development of the port of Asseb. Water resources in Eritrea could also be assisted through regional and subregional cooperation. For example subregional cooperation could be promoted along the Tekezzie River, which forms 1s According to the agreement, Asseb is considered a free port for goods in transit to Ethiopia. Handling charges will be paid by Ethiopia in birr. The Trade Pact further stipulates that trade between both countries would be tax free. Currently, 60 percent of the Ethiopian external trade uses Asseb, while the remaining 40 percent goes through the port of Djibouti. '9 Eritrea has recently joined the Preferential Trade Area for Eastern and Southern African States (PTA) that is expected to become a Common Market for Eastern and Southern Africa (COMESA). The Economic Commission for Africa (ECA), rather than member states, initiated the emergence of the PTA. The emphasis of the PTA has been primarily on intra-PTA trade liberalization, the reduction of tariff and nontariff barriers to trade based on the standard free trade model. The issues of production, transport, and communication follow rather than lead the way, although the current weaknesses of the production structures and infrastructures are well recognized by member countries. On the contrary, the Southern African Development Coordinating Conference (SADC) treats trade as a means to validate production and not an end in itself. 27 Box 2.1: BENEFITS AND CONSTRAINTS OF REGIONAL INTEGRATION Types of Regional Integration. There are broadly four kinds of regional integration. First, a free trade area, in which member countries eliminate trade barriers among themselves but keep their own barriers against trade with non-member countries. In such an area, however, intra regional coordination for the implementation of complex rules of origin would be required to tax or prohibit trade that might otherwise avoid some members' higher barriers by entering (or leaving) the area through lower-barrier countries. Second, a customs union requires a common external trade policy in addition to abolishing trade barriers among member countries, thereby eliminating the need for customs inspection at international borders. Third, a common market allows full freedom of factor movement among member countries in addition to having a customs union. Lastly, full economic union further requires that all member countries unify their economic policies, including monetary, fiscal, trade, and social policies. Would Regional Integration Pay ff? Regional integration stimulates trade among member countries and thus makes it possible for member countries to consume more and to enjoy higher welfare. Regional integration has an impact through trade diversion as well as trade creation. Trade creation is tied to the increase in trade due to lower tariff within the region, while trade diversion may result from the shift of trading partners from the best available to member countries due to differential tariff rates. Thus, welfare comparison arising from trade creation and trade diversion should be made to gauge the net benefits of regional integration. Benefits and Constraints. Potential benefits of regional integration include the reduction of obstacles to cross-border economic activities, which will enhance efficiency through the utilization of economies of scale and opportunities for vertical and horizontal integration. To effectively exploit the benefits of a larger, integrated regional market, production of complementary and specialized goods should be encouraged among member countries. Expected increases in private investment among participating countries may be another important benefit. Cross border movement of private investment capital pursuing differential factor prices could create efficient growth. Trade between Eastern African countries and industrialized countries has been based on an exchange of primary goods for manufactured goods. Due to the lack of division of labor among East African countries, intra-regional trade of manufactured goods has been small. Regional integration should offer a good opportunity for the development of the manufacturing sector in these countries by providing a larger and more easily accessible market for their manufactured goods. This is one of the attractive benefits from regional integration. Global trade liberalization could provide similar benefits such as a larger market. However, the larger market may not be accessible for countries without international competitiveness. There are some prerequisites or successful regional integration. For higher level of production and the expansion of trade, there must be suitable transportation and telecommunication facilities and an adequate system for the settlement of transactions. For example, rehabilitation of the damaged inter-country roads could be given a priority. Most importantly, to successfully implement regional integration, cooperation and harmonization among member countries are essential as some degree of sacrifice in the freedom to the choice of national policy is necessary. Consensus and compromise among member countries on the distribution of costs and benefits of regional integration would be very important for an effective integration scheme. Member countries should show a credible and sustained commitment for regional integration arrangement to work. Government revenue issues should be addressed in line with constraints faced by Eritrea. Trade liberalization through reduced tariff rates might not cause a severe reduction in government revenue if trade creation effect is large enough. However, current heavy dependence of government revenue on taxes on international trade and transactions (38 percent of government revenue in 1992 for Eritrea) may be a major hindrance to immediate and large-scale trade liberalization. 28 a boundary between Ethiopia and Eritrea before it crosses into the Sudan. Ethiopia is planning to launch a water Master Plan study on the Tekezzie River from which Eritrea, Ethiopia and Sudan could benefit through a subregional cooperative management scheme. Eritrean agriculture has strong affinity with its immediate neighbors in agro-climatic, agro-pastoral and agro- production systems. Regional cooperation in border production zone should be possible to help increase food security in Eritrea, Ethiopia and Sudan. Another possibility for regional cooperation could be joint investment in the region from Tessenei via Omahajer in Eritrea to Humera-Chilga in Ethiopia and the parts of Eastern Sudan on the same gradation from Tessenei to Chilga. This is a rich area of significant agricultural value to all three countries. Likewise, Eritrea could cooperate with the countries of the Horn of Africa--Djibouti, Sudan and Somalia--in joint exploitation of fishery potential in the Red Sea. 29 - 3 PROMOTING EXPORTS INTRODUCHON AND SUMMARY 3.1 Historically, Eritrea, with its strategic location and easy access to the markets of the Middle East and the rest of Africa, has been a trading nation. In the 1940's, Eritrea's export base was relatively diversified, while transit trade through the ports of Massawa and Asseb became increasingly important. In the early 1970s, Eritrea earned nearly US$100 million worth of foreign exchange per annum from exports.'0 In the 1980s and 1990s, however, exports declined dramatically. In 1992, the level of exports had fallen to around US$2 to US$20 million, depending on the source of data used. Like the rest of the economy, the export sector suffered from war and the inappropriate policies of the Ethiopian regime. 3.2 Promoting exports of goods and services will be critical for the Eritrean economy. Export expansion has been a hallmark of all fast-growing economies. There are several reasons why an export-led growth strategy would be appropriate for Eritrea. First, Eritrea has the potential for expanding exports, as evidenced by its past performance, although reestablishing the export base will take time. Second, Eritrea has a small domestic market. Once domestic needs have been met, export expansion would become the main engine of growth. Third, since decades of war and neglect have deprived Eritrea the necessary infusion of new technology and skills, greater openness to international markets could be a major channel for technological improvements. Finally, the foreign exchange needs of the country are immense, and food will likely need to be imported for many years to come; private foreign investment and export earnings are essential to fill this gap. 3.3 What policies, institutions and support programs would Eritrea need to rehabilitate and expand exports? The Government has already taken several measures to promote, exports through policy reforms and rehabilitation efforts. Eritrea uses the Ethiopian birr whose exchange rate is now determined in a fortnightly auction in Addis Ababa. This is a major departure from the distortionary exchange rate policies pursued during the past two decades, and reduces the anti- export bias. High trade taxes that discouraged exports have been reduced. Several marketing restrictions on exporters have been dismantled. These reforms represent an important starting point, as they signal to private and public enterprises the intention to liberalize markets and promote exports. 3.4 However, developing a vibrant export sector will require a range of further measures that will take time. The needed transformation of existing firms both in terms of facilities (old equipment) and in terms of export capabilities (improved general level of management and export marketing) will be a gradual process. The general improvement of infrastructure (roads, telecommunications, and power supply) will require substantial investment over many years. Nevertheless, Eritrea has already begun to adopt the following measures to encourage exports: (i) strengthen the competitive position of Eritrean exports in regional markets by providing time- bound support (technical and marketing) to sectors with some export potential (shoemaking, 20 This figure should be interpreted with caution. Although data show that Eritrea exported Br 277.5 million in 1974, this figure is based on the value of export permits issued rather than actual export earnings. garments and knitwear); (ii) focus rehabilitation efforts in sectors with export potential, where improvements can be achieved with relatively small investments (e.g., salt, leather, shoemaking, knitwear and sesame); (iii) encourage the private sector to export; and (iv) expand the ongoing experiment of entrepots which permits the import of goods for re-export by setting up bonded warehouses. 3.5 At this stage, the Government is exploring options to speed the process of export development, e.g., whether to set up a private export processing zone and vigorously promote foreign investment. Encouraging greater foreign investment could be a way for overcoming export constraints by setting up new enterprises with new equipment, technology and work practices. For existing enterprises, this could provide the expertise and external support needed to resolve some of the constraints currently facing Eritrean enterprises. Export development will be difficult to achieve in the absence of collaboration with foreign investors. In this respect, it is important to strengthen contacts between local (existing and new) enterprises and foreign enterprises by eliminating any remaining regulatory obstacles that may constrain foreign enterprises from investing in the country. Consideration is being given to the establishment of efficient and competitive export processing zones (EPZ) as an instrument for speeding up export development. An EPZ is a limited geographical area where goods can be imported without restriction, free of customs and other duties and can be packed, assembled, manufactured or otherwise produced and exported either wholly or some sold on the domestic market. The risk of EPZs is that they may remain isolated areas with no linkages with the rest of the economy. It is therefore important to devise mechanisms that favor such linkages. However, given the structure and status of export potential, it is more relevant to ensure adequate value-added exports from export processing zones. Under certain conditions in situ bonded manufacturing facilities could provide an alternative solution, whereby export processing firms are not concentrated in one specific area and the "export processing zone" status is granted wherever they are located. Such an arrangement could allow exporting firms to use their existing facility and it could be a useful starting point. However, this has obvious disadvantages as an EPZ would have much better infrastructure support than an existing factory declared as an EPZ. In Eritrea this is particularly relevant. Given the dilapidated infrastructure in the country, an in situ EPZ may not be an attractive option for prospective investors who would prefer an "enclave" where it is more likely that the Government can provide quickly the needed improved infrastructure and other common facilities needed to foster successful export efforts in the short run. OVERCOMING CONSTRAINTS TO EXPORT DEVELOPMENT 3.6 As mentioned in Chapter 2, exports were severely affected by decades of war and inward- oriented policies of the Ethiopian regime. Table 3.1 shows the level of export earnings, commodity composition of exports and their destination in 1992. The export-to-GDP ratio was small at 4 percent. The main export items included raw materials (especially salt), beverages and tobacco, food and manufactured goods. Ethiopia is Eritrea's most important export market, accounting for nearly 87 percent of its exports. Italy was Eritrea's second most important export market, accounting for over 7 percent of exports. Most Eritrean exports originate from public enterprises. The contribution of the private sector is currently limited and restricted to a few items such as garments and leather products. The concentration of exports in state enterprises reflects the productive structure of the economy. In general, the current low level of exports suggests that there is a potential for expanding exports. 32 TABLE 3.1: MERCHANDISE TRADE, 1992 (In Millions of Birr) % of Raw Manuf. % of Total Food Materials Chemicals Goods Total Total (excl Saudi Arabia) IMPORTS Saudi Arabia* 23.9 1.1 15.0 140.3 180.3 49.1 Ethiopia 50.3 0.1 0.8 10.6 61.8 16.8 33.1 U.A.E. 21.4 0.2 0.9 14.2 36.7 10.0 19.6 Italy 3.4 2.7 3.4 18.2 27.7 7.5 14.8 Other 15.7 4.1 12.0 28.8 60.6 16.5 32.4 Total 114.7 8.2 32.1 212.1 367.1 100.0 100.0 * Saudi Arabia is a transhipment point; all the goods recorded here may not be of Saudi origin. EXPORTS Ethiopia 5.1 30.0 0.3 4.6 40.0 86.8 Italy 1.0 2.4 0.0 0.0 3.4 7.4 U.A.E. 0.0 0.3 0.0 0.0 0.3 0.7 U.K. 0.0 0.3 0.0 0.0 0.3 0.7 Other 0.4 1.7 0.0 0.0 2.1 4.6 Total 6.5 34.7 0.3 4.6 46.1 100.0 Memorandum Items Exports/GDP at MP 3.7 Imports/GDP at MP 29.5 Trade/GDP at MP 33.2 Source: Statistical Annex Table 111.3. Note: The ratios use 1991/92 GDP estimates. 3.7 The easiest way to evaluate constraints to export development is to consider the decisionmaking process of an individual firm which has to carry out the investments necessary to enter the export market. Typically, this decision depends on key factors such as the extent and the cost of such an investment (e.g. physical capital, human capital, acquisition of information), the availability of funds and the uncertainty that characterizes future export prospects. In turn, these factors are affected by the overall environment in which the firm operates and by the characteristics of the firm itself. The following section examines how the export environment could be further improved. Regulatory Environment 3.8 The economic reforms carried out by the Government so far have greatly improved the regulatory environment for exports. Under the Ethiopian regime all exports were channelled and 33 marketed by the parastatal, Ethiopia Import Export Corporation (Etimex). Etimex was also responsible for negotiating export prices with foreign buyers. Following independence, marketing of exports has been liberalized. Import tariffs have also been liberalized, reducing the cost of imported capital and intermediate goods needed for export production. The Customs Department grants licenses for temporary imports to be kept in bonded warehouses, until re-exported, duty free. A new investment code was introduced, giving considerable tax exemptions to export- oriented investments. The birr was devalued, increasing the competitiveness of export products. However, there are still some shortcomings in the regulatory system that need to be addressed to further strengthen export incentives. 3.9 Strengthening Export Incentives. First, removing export taxes would help to further improve the competitiveness of Eritrean exports. Exports are charged a flat rate of 3 percent. The export tax is an additional cost to Eritrean exporters compared to their competitors in the international market. Second, the issue of double taxation-when both domestic and imported inputs are used by exporters-should be addressed. The major problem for exporters is the lack of a mechanism through which the problem of double taxation can be addressed. Third, consideration should be given to introducing an export retention scheme at an appropriate stage. Exporters are currently not allowed to retain any portion of their foreign exchange earnings for export production or promotion purposes. This facility is essential for an effective export effort in Eritrea. Fourth, an automatic export registration would speed up the licensing process and reduce the administrative burden. Government is currently looking into this, and export licensing procedures are already being rationalized. 3.10 The Government should consider reducing the amount of capital required by law for import licenses to be issued. Import licenses are granted following the payment of a small charge and the fulfillment of a capital requirement (Statistical Annex Table VII.3 shows the capital requirements for different products). It can be argued that capital requirements are meant to prevent entry of small and inexperienced traders, thereby favoring specialization and learning. The learning argument has some ground in the short term, particularly for imports of capital equipment, but high capital requirements may severely distort market signals and cause additional costs to the productive sector. By creating a barrier to entry, they reduce competition and restrict the market to larger and established traders. Consequently, prices are likely to be higher and flows of information reduced. Quality upgrading is generally caused by demand factors rather than constraints in supply. Specialization and increased professionalism of the importers are more likely to emerge because demand becomes more sophisticated and the market becomes larger. Measures aimed at enlarging the potential market for imports such as duty free temporary imports in bonded warehouse, are likely to be more effective in favoring specialization. Minimum capital requirements, rather, provide incentives for illegal import flows. Government has begun taking steps towards simplifying and rationalizing import licensing procedures. Operating Enviromnent 3.11 Foreign Exchange Availability. Scarcity of foreign exchange is a major constraint to export development. Remittances from Eritreans abroad are currently the major source of foreign exchange earnings. A new system for allocating foreign exchange to private enterprises was devised under the Government's Recovery and Rehabilitation Program (RRPE). Firms are initially given a share of the amount requested, which is equal to the ratio between the overall foreign exchange available and the foreign exchange demanded by the private manufacturing 34 sector. Consistency of individual requests with effective needs is monitored by using the Department of Industry data on private enterprises. Selected public enterprises are directly funded by the RRPE. Enterprises that do not benefit from RRPE funds support can apply for foreign exchange from a pre-existing allocation mechanism, open to both manufacturers and traders, public and private. 3.12 Exporters have priority in the allocation of foreign exchange, but there is no automaticity in the allocation system, so fears of discretionary decisions by the allocation committee may lead to uncertainty for the manufacturer/exporter. As mentioned earlier, there is no export retention scheme for exporters, which would have provided another means of foreign exchange support for exporters. Imports through franco valuta, i.e. using foreign exchange supplied from own sources abroad, outside the national banking system, are legal. A two percent fee is charged by the central bank for issuing an import permit for the use of thefranco valuta as a source of financing export operations. 3.13 Support Mechanisms. In the past, exports were managed from Addis Ababa. Consequently, little institutional support is currently available to Eritrean exporters. There is no export promotion council; some rudimentary functions of a council are being carried out by the Chamber of Commerce. Even the Export Promotion Unit in the Ministry of Trade was nonexistent until recently. This cell lacks expertise and staff. In short, there is a need to strengthen appropriate support mechanisms for exporters. Exporters also need support for their pre-shipment and post-shipment credit requirements. Such an arrangement does not formally exist in Eritrea. Also, there is no arrangement to access common export market information, trade data and statistics essential for exporters to function competitively and effectively. These support mechanisms will need to be established as a priority, given that they are essential for facilitating exports. 3.14 Access to Finance. The Commercial Bank of Eritrea provides two forms of credit to exporters: overdraft facilities and merchandise loans with an interest rate which is lower than the one applied to import or domestic transactions. A normal overdraft is converted into an export overdraft facility, when a firm exports more than 50 percent of its production. The export merchandise loan applies to any export transaction. Such facilities are not commonly being used by exporters. The lack of diffusion of export overdrafts is not surprising because the facility rewards export performances ex post, rather than providing support to plans of export expansion. Given the minimal level of exports from the country, the facility appears to miss its major objective of enhancing export development. The total lack of diffusion of merchandise loans is more surprising. It cannot be due to scarce diffusion of information, because the facility was already in place during the Ethiopian regime. A more articulated system of export' credit, including an export guarantee scheme should be devised in order to provide effective financial support to exporters. Another major shortcoming is the lack of investment finance. The maximum duration for loans and overdrafts is one year which can be a constraint to the investment process. 3.15 Infrastructural Support. Shortage of electricity is a major constraint for productive activities in Eritrea (see Chapter 10 on Infrastructure). The acute shortage of power has depressed exports; for example, garment orders from the USA were turned down due to the uncertainty of power for continuous production to meet the export target delivery dates. Besides, as the current power generation in Eritrea is costly, it increases production costs and reduces the competitiveness of Eritrean exports (see Chapter 10 for a comparison of electricity prices in 35 Eritrea with its neighboring countries). Massawa port is damaged and the facilities such as warehousing destroyed. It will take some time to rebuild the capacity. Since Massawa is the only port that is located near the potential exporters, future exports will be dependent upon how fast and effectively the port creates the capacity to support the needs of exporters (see Chapter 10 for further details). FiRM LEVEL CONSTRAINTS 3.16 Large public enterprises, which currently account for a majority of the exports from Eritrea, have inherited old plants, and after nearly 20 years of planned economy and control of operations by centralized "corporations" from Addis Ababa, they are new to dealing directly with the markets on their own. These enterprises lack marketing skills and linkages with the external markets that they can exploit. The private sector consists of small artisan-like enterprises and only few of them manage to export, primarily to Ethiopia. 3.17 Marketing Skills. In general, the nature of marketing skills required for exporting depends on the characteristics of export items and the export markets. Products like semi- processed leather or salt are standard commodities with prices determined by the international market; marketing is not a major problem in this case. The marketing problem is more serious for final consumer goods like sweaters, shoes, and other leather products and even for some intermediate products like finished leather. In developed countries, rapidly changing tastes, demand for high quality and fierce competition require advanced marketing skills and a production structure able to respond quickly. Most Eritrean firms currently lack these skills. One way to acquire these skills is to encourage production agreements or joint ventures with foreign buyers or investors and develop off-shore processing facilities. In the short run, the regional markets would continue to be the major outlet for exports of consumer goods. A competitive regional market can provide an important learning arena for Eritrean firms. 3.18 Technological Capabilities. Equipment in most firms is obsolete, although well maintained and still functioning. The fact that such old machines are still working speaks well of the skills of the Eritrean technicians who maintain them. Firms employ part or full time mechanics to take care of the machines. Spare parts are usually imported and sometimes produced locally by small workshops or by the factory itself. In short, Eritrea has inherited a relatively well developed technological capability, although export expansion would require major improvements and purchases of new equipment. 3.19 Some private enterprises have bought new machines in the last two years. They renewed part of their plants, with investments ranging from 20 percent to 50 percent of their expected sales at full capacity. Almost invariably, entrepreneurs travelled to advanced countries in order to buy the new machinery. The search for new equipment was usually made easier by contacts with expatriate Eritreans or old business partners. The type of machinery purchased is usually relatively capital-intensive, so as to increase labor productivity and product quality. Given the low skills of the work force, substituting labor with capital is often practiced in order to improve product quality. Some enterprises have over-invested and increased production capacity beyond the sustainable level, given the size of the market. Others have diversified their production into new product lines instead of concentrating on their core business. The investment pattern could improve with some technical assistance, better information and a better knowledge of the market. 36 3.20 Entrepreneurship. State enterprises lost most of their Ethiopian managers after independence. Although the EPLF had operated several clandestine factories in the Sahel region, many of the new managers have little business experience. There is a significant shortage of experienced managers and product technicians. It will take time to ease the human capital shortage, although there is a good learning potential. Some of the human capital requirements can be provided by returning Eritreans (see Chapter 6 for further details). EXPORT PROCESSING ZONES AND ENTREPOT FACILITIES 3.21 Export Processing Zones. Given the export potential and the constraints discussed above, an important option is the establishment of efficient and competitive export processing zones (EPZs) which could be under public or private ownership.2' EPZs can be an effective instrument to speed up export development (see Box 3.1 on advantages and drawbacks of EPZs). By concentrating the development effort (infrastructure, technology, sector specific skills) in one sector and in one area it would be possible to make a more efficient use of scarce resources. Generally speaking, all processing activities can be advantageously set in an EPZ, but manufacturing activities with a high incidence of imported inputs in the finished products will receive higher benefits from duty-free import of inputs. 3.22 The need for an EPZ emerges from the potential for exports from the Eritrean economy, the status of the existing enterprises and the need for investment. The main potential for exports (described in more detail below) is from the manufacturing and mining sectors. Given the dilapidated status of existing enterprises, the outdated technologies and limitations in providing effective infrastructural improvements to cater to all enterprises, the short- to medium-term expansion of exports would be aided substantially by the export output from an EPZ. Suitable products, which will have a market and be competitive in the initial stages of export expansion, include bottled mineral water, fabricated and knitted garments, leather and leather products. All these will need to use quality imported inputs such as bottles, labels, packaging materials, fittings, thread and buttons, for example, to tap the high-end market for these goods. 3.23 An EPZ would also help attract foreign investors who need to be assured of a supportive infrastructure that the EPZ can promise in the short to medium term. Massawa could be a location for the EPZ. It could also be an entrepot facility as distinct from a "processing" or manufacturing activity. 3.24 Entrepot. Recognizing the potential for economic growth and foreign exchange earnings from entrepot activity, the Government has already permitted one entrepreneur to conduct such an operation for agricultural machinery, tires and school supplies. More entrepreneurs are also interested. The experiment deserves encouragement followed by a strategic decision whether to enhance this type of activity. Entrepot activity can provide economic benefit through: (i) job creation and foreign exchange earnings from the service activity provided for goods stored and serviced before and after sale; (ii) job creation, local revenues earned and foreign exchange earnings from the enhanced activity (import and export processing) through the port; and (iii) 21 Apart from EPZs, other systems in use in some countries (in parallel with EPZs for areas other than EPZs) include: (i) bonded warehouses; (ii) duty-free license system; (iii) inward processing system; and (iv) duty drawback system. These, however, focus mainly on the system of import of goods duty free and do not tackle other essential factors that EPZs provide to investors (incentives, infrastructure and technical support). 37 Box 3.1 EXPORT PROCESSING ZONES Background. In late 1950s an EPZ was established in Ireland, in 1965 in Taiwan, China, and in 1971 in the Republic of Korea. Later, EPZs were set up in the Caribbean, South America, India, Australia and other areas. More recently, the idea has spread to Sub-Saharan Africa. Partly, the interest in EPZs has been due to the failure of policies of self-sufficiency and economic growth through import substitution. Many countries now perceive industrialization as the key to export diversification with a focus on export-oriented investment. EPZs are a policy/promotion instrument used by countries when they are beginning their efforts to attract export- oriented manufacturing investment. For an EPZ to thrive, essential factors include: (i) political stability; (ii) physical security; (iii) an efficient and impartial judiciary; and (iv) the existence of an economic and policy environment favorable to doing business profitably. In addition, a well managed infrastructure is required to support the productive activities. Role and Development Policy. A well planned and developed EPZ contributes to the development of the surrounding areas: (i) through the residents of these areas; (ii) through other companies in the area producing goods on sub-contract for firms in EPZs; and, after some time of successful operation (iii) by opening up other areas for "satellite zones" to which new investors can be attracted. Further, the presence of an EPZ normally facilitates tourism development. EPZs can produce significant economic benefits through provision of large- scale employment, foreign exchange earnings, diversified export sector, backward linkages, technology transfer and private investment. Management and Ownership Options. There are a number of ways an EPZ can be developed once the Government decides to pursue the objective. These include: (i) a discrete geographical area could be designated as an EPZ and developed as an industrial park in which sites are leased to investors by an agency; (ii) management of a designated area could be given to a private sector company; (iii) the whole process of determining the most appropriate location for an EPZ could be left to the private sector with the Government acting as a catalyst; (iv) areas of the country can be designated as special areas in which any investor can establish an operation enjoying EPZ privileges subject to some set conditions (for example China). Today an increasing number of EPZs are being developed and managed by private sector entities mainly because initial capital for set-up is high and government may not wish to allocate its resources for this. Privately developed EPZs are perceived by users as generally more efficiently managed. Common Arguments Against EPZs. First, EPZs can create enclaves of prosperity without benefitting the rest of the economy. This can happen in the short run; in the longer run the benefits do permeate into the rest of the economy. Besides, this problem can be mitigated through the choice of products encouraged for EPZ investors. Second, economic activities generated by EPZs may not be sufficient to compensate for revenues foregone in terms of tariffs and corporate taxes. However, if the EPZ privileges were not available, economic activities may not be attracted to a country. Third, there is concern that EPZs should not become centers for transhipment-the process by which suppliers from quota-limited sources attempt to circumvent quotas by acquiring a new origin for their products (a problem particularly prevalent for garment exports; this problem is usually addressed by the introduction of "certificate of origin" regulations). Overview of Some Successfiul EPZs. Over 150 EPZs exist worldwide in over 50 countries, employing a large number of mainly semi-skilled persons in developing countries. The main industrial activities are labor-intensive operations such as electronics, textiles and garments, footwear and leather products, electrical and optical instruments, and other light engineering products. Most of the direct foreign investment comes from industrialized including newly-industrialized countries..The Republic of Ireland and Mauritius are reputed as countries whose economies have had major transformations as a result of adopting the EPZ concept in their overall economic planning. Mauritius in the 1960s was dependent on the volatile sugar industry for its foreign exchange earnings. Since the introduction of the EPZ operations, the economies of these two countries have had significant diversification of their export bases away from raw agricultural commodities to manufactures, and they have more or less overcome the problem of unemployment. The success of the EPZ program in these two countries can be attributed to a strong internal set-up comprising excellent communications, modern infrastructure, productive labor force, and stable political environment and readily available industrial estates and buildings. In addition, government introduced and maintained good supportive policies and strategies. 38 foreign exchange and revenues associated with the creation of a trading market which will attract foreigners (mainly from neighboring countries) to visit Eritrea for business. The potential for the creation of the market appears substantial. The entrepot can reduce the costs and time of purchase of products pre-selected to be suitable for local conditions for buyers in surrounding countries. The cost of travel to Europe or USA can be saved if similar products are available in a market in Eritrea. The time saved in delivery can be substantial if the product is available off-the-shelf in Eritrea. The reduction in effort, time and cost of finding a product suitable for local conditions in neighboring countries could be an attraction to buyers if: (i) the market specializes in choosing the right products; and (ii) there is a large enough market created to offer an adequate choice and competition. SECTORS WITH EXPORT POTENTL4L 3.25 On balance, manufacturing, mining, and selected items in agriculture and fishery have the highest export potential, both in the short and long run. In many cases, products with potential for export are the same that have been produced in the past for the local and Ethiopian markets. For these products some production capability has survived in the country and it can be utilized in export-oriented activities. Traditionally, Ethiopia has been a major market for Eritrean goods. It is anticipated that export development of manufactured products will most likely take place in two parallel streams. In one stream, for cases where Ethiopia (and the near region) will remain the principal market for Eritrean exports, and where the main source of exported products will be the existing (possibly modernized) or new industrial enterprises. Possibilities include: salt, glass bottles, plate glass, ceramics. In the second stream where the major role will be played by new enterprises oriented to export towards other markets; possible products include: base metals, gold, marble and granite, garments (knitted and fabricated), leather and leather goods and shoes, bottled mineral water, and sports shoes. Proper actions to activate the second stream need to be taken urgently. Such actions including the creation of an EPZ are aimed at favoring as much as possible the establishment of new enterprises oriented to export towards new markets. 3.26 Mining for base metals, marble and granite has a high potential for export. However, mining exploitation can be very capital and technology intensive. In order to exploit the mineral resources of the country, it may be necessary to raise capital from the private sector. Foreign investors have already expressed an interest in the mining of base metals. The same consideration applies to marble and granite mining for which requests from investors for renewal or issuing of licenses are awaited. 3.27 Though agricultural exports were the mainstay of export earnings in the 1960s and 1970s, the potential contribution of agricultural exports will be more modest in the short run (see Chapter 5 on Agriculture). The development of a devastated agriculture will take time. Fish, fish products, livestock and horticulture have some potential for export; addressing investment and infrastructure requirements of the sector will help the realization of the potential. Tourism potential is also high, but the state of development of the sector is low at this stage, and significant investment will be needed. 3.28 Sectoral level cooperative agreements and contacts between advanced countries and local firms should be encouraged and organized, particularly in sectors with export potential (e.g. the pilot production of labor-intensive consumer goods). Detailed analysis of investments required in export oriented and capital-intensive public enterprises should be prepared for minimum rehabilitation (e.g. tanneries, salt, textiles). 39 Manufactured Exports 3.29 Salt. Eritrea was exporting marine salt regularly till 1975 and intermittently since then. Eritrean salt has high quality and commands a premium price; other comparative advantages are favorable climatic conditions, site location and sea water salinity. Recently, export orders have come from Japan and Norway. Eritrea will be in a position to take advantage of the market once rehabilitation of two salt plants is completed and additional capacity is established by reopening old salt fields. The salt works at Asseb produce about 30,000 tons per year of salt and include washing and iodizing facilities. All the Asseb production is exported to Ethiopia. The salt works at Massawa produce washed (but not iodized) salt. 3.30 Glass Bottles. Eritrea has been exporting glass bottles and tumblers to Ethiopia and neighboring countries and small quantities of tumblers to Europe. Eritrea's main comparative advantages include high purity and quality of raw materials (silica and marble) leading to a visually attractive and cheaper product. The glass bottles factory in Asmara can produce about 6,000 tons per year. A proposal to expand capacity to 12,000 tons per year is under consideration as the existing capacity is not enough for the domestic and export demand. 3.31 Plate Glass. Eritrea has the potential to be a competitive supplier because: (i) it has an advantage of good quality raw materials (about 80 percent of them are locally available); (ii) Eritrea has acquired reasonable experience in some phases of glass processing through glass bottle production (raw material selection, blending, melting); (iii) there are no other similar plants in the region; and (iv) the consumer price is heavily affected by transportation costs. The main export markets would include Ethiopia, Kenya, Uganda, Rwanda, Burundi and Sudan. 3.32 Leather. For decades, Eritrea has exported semi-finished leather to Germany, Italy, Japan and the UK. Local skins (especially sheep skins) are of high value for the leather industry since they include a dense derma. In the past, raw hides and skins were also exported. The value added by industrial treatment is high even when processing is limited to the first phase (i.e. production of pickled and wet blue leather). There is scope to increase the value of exported products by extending processing to finished leather suitable for export. The existing tanneries are located in Asmara and use as raw materials cow hides, and goat, kid and sheep skins. A limited amount of snake and crocodile skin is also processed. The two largest tanneries (Red Sea Tannery and Asmara Pickling) are state owned, while private entrepreneurs run smaller factories. Most of the production is oriented to semi-finished leather for export, while a certain production of finished leather is carried out mostly for the internal market (shoe and leather goods manufacturing). There are plans to rationalize and integrate the two public tanneries while replacing existing obsolete pieces of equipment. Plans also include extension of capacity to produce high-quality finished leather for export. Private entrepreneurs have recently shown initiative in modernizing and expanding their tanneries. 3.33 Leather Goods. The public enterprise, Asmara Sweater Factory, has been recently reconverted to the production of leather jackets. Finished leather produced locally is used as raw material. This activity is based on a joint venture with a Korean company which sells all the production in Canada. The present agreement has a duration of one year and can be extended. In Asmara there is a long tradition of producing leather accessories (bags, wallets, belts) mainly by micro enterprises and for the local market. Micro enterprises are now trying to market their products in Ethiopia and in other neighboring countries. At present the Asmara Sweater Factory 40 can produce about 4,000 park skin leather jackets and 4,000 sheep nap skin leather jackets per year. The export-quality production of leather accessories is negligible but can be expanded. 3.34 Leather Shoes. Eritrea has a good reputation for leather shoes. Shoes are being exported to Ethiopia and Uganda. A negotiation to export to Scandinavia is underway. In 1992 a contract to export to USA was rejected because of power shortage. European manufacturers have shown an interest in collaborating with Eritrean firms; production tests carried out so far appear to be successful. Since this is a labor-intensive activity, Eritrea has a comparative advantage in producing leather shoes. Integration with finished leather production can be pursued with advantages to both the subsectors. There are three large state-owned factories (Dahalak, Deluxe and Eritrea shoe factories) and numerous small-scale private enterprises. The present conditions (lack of working capital and obsolete machinery) have adversely affected the production capacity of the factories. It is estimated that at present 2,000 pairs of shoes are produced daily. Given the price competitiveness and the demand, the existing factories can be viably converted into enterprises oriented to export towards more sophisticated markets by rehabilitating and expanding them. 3.35 Cotton Yarn. The first spinning plant was established in Eritrea in 1956 (Azienda Barattolo now Asmara Textile Factory) in order to substitute (using locally produced cotton) imported yarn for traditional cloth to Ethiopia. At present two state-owned factories (Asmara Textile Factory and Eritrea Textile Factory) produce yarn for the local and Ethiopian markets. Production is now mostly targeted at the Ethiopian market, but it is limited by the status of equipment since capacity utilization can reach only 30 percent of the initially installed capacity (1,000 tons per year). Cotton plantations were destroyed during the war and the factories are using imported raw cotton. The cotton plantations are now under rehabilitation. 3.36 Fabrics. Eritrea has 30 years of experience in the production of textile fabrics of different varieties. They include pure cotton, cotton/polyester, cotton/rayon and rayon fabrics. This sector is the largest employer representing one third of the total work force in the public industrial enterprises. At present the production is concentrated in two state-owned factories (Asmara Textile Factory and Mareb Textile Factory) and about 80 percent is sold to the Ethiopian market. 3.37 Knitwear. In the past, Eritrea exported cotton knitwear to Italy, France and Germany. There are two cotton knitwear production units in the public sector, Eritrea Textile Factory and Asmara Textile Factory. The two units need rehabilitation. The original capacity for the Asmara Textile was about 4 million combed cotton T-shirts per year with an average ex-factory price ranging from US$0.60 to US$0.95 per shirt; for the Eritrea Textile Factory, it was about 2 million T-shirts per year with average price from US$0.60 to US$0.75 per shirt. 3.38 Sweaters. Eritrea has a strong tradition in manufacturing sweaters from imported wool and synthetic fibers and in exporting them to Ethiopia (at present about 80 percent of the production is sold in Ethiopia). The Ethiopian market is becoming more competitive. In view of the acquired experience, the labor-intensive kind of production, and the low labor cost, there is scope for Eritrean-made sweaters to be exported to other countries in addition to Ethiopia. The public enterprise Asmara Sweater Factory can produce 100,000 pieces per year, which represents about 20 percent of the total of Eritrea's production. The balance is produced in about 100 micro enterprises. Given the characteristics of production, further increase of exports could be facilitated by the creation of an EPZ. 41 3.39 Garments. There are three public enterprises (Asmara Textile, Eritrea Textile and Asmara Sweater Factory) with garment production units. Products include shirts, jackets, trousers and skirts. There are also two medium-size private garment factories with several years of experience in suit production and in exporting to Ethiopia. A course on tailoring is included among the training courses which are being given to returning refugees and unemployed individuals. The idea is that some of them can be self-employed and others can be employed in garment factories. Export-oriented production of garments for Ethiopia can be reactivated and extended to other regional and non-regional markets in view of existing traditions and experience, low labor cost, and the increased availability of trained personnel. Existing production facilities need investment for modernization and joint venture agreements would be required for selling in the more sophisticated markets. 3.40 Ceramics. Eritrea has some comparative advantage in producing ceramics (tiles and mosaics) for export to Ethiopia and to other neighboring countries. The main advantages are due to: (i) availability of high-quality raw materials; (ii) good quarry location; (iii) long experience in production; and (iv) export experience to Ethiopia and the Gulf countries. The only production unit in the sector is a public enterprise, Asmara Ceramics Factory. The total capacity of the Asmara Ceramics Factory (after rehabilitation) will be about 70,000 square meters of ceramic tiles per year. Minerals 3.41 Base Metals. Exploration for base metals (ore containing a mix of metals: Cu, Zn, Pb, Au, Ag, etc.) started by the end of the 1960s, and mining by a Japanese company at Debarwa (28 km south of Asmara) started in 1973. Only one shipment of 2,000 tons of mineral took place before the activities stopped in 1974 due to the political situation. In addition to the Debarwa mine (with an estimated reserve of 1,600,000 tons), there are three other explored mines for base metals of different grades and with a total estimated reserve of 16,000,000 tons. Investors from Canada, Europe, the Far East and Australia have shown interest. The Department of Mines assumes that mining can commence in the coming couple of years. The four mines can produce about 1,200,000 tons per year of mixed grade metal ore. 3.42 Gold. Gold production, prior to the political crisis in the region, was of about 1,000 kg per year, mainly from a few mines in the years from 1935 to 1941. There are known abandoned mines which could be rehabilitated. New areas have been recently discovered in the south and southwest of the country, where artisan-like miners are engaged in a small "gold rush". A systematic follow-up is being carried out by the Government to locate these auriferous sites and moderately-sized mechanized mines may start in the viable ones. In addition to the sites which are artisan-likely exploited, there are three abandoned mines with an Au content ranging from 8 to 30 grams per ton and with a total estimated reserve of 17,000 kg of gold. Mining can commence by 1998 and further development can take place in the following five years. It is estimated that two mines can produce about 450 kg of gold per year by 1998 and a further production increase to about 900 kg of gold per year can be achieved by 2003. 3.43 Marble and Granite. In the period from 1966 to 1970, marble production from a single mine was 500 tons per year. There were seven marble extraction licenses in the past, out of which two have been resumed after the war. Many investors are asking for renewals or issuing of new licenses. The Department of Mines is open to favor investments in marble and granite, 42 and its policy is to strongly support investments for finished or semi-finished products for export in order to maximize the job creation and to increase the value of exports. So far, known markets include the Middle East, the Far East and Europe. There are extensive reserves of good quality marble and granite in at least five mines. 3.44 Industrial Minerals. The reserve potential of industrial minerals is quite high-for Barite about 1,400,000 tons, for Feldspar about 200,000 tons, for Kaolin about 2,500,000 tons. There are also significant deposits of talc and asbestos, very extensive deposits of rock-salt and gypsum and extensive deposits of potash. Exploitation of such reserves (in particular potash deposits) requires previous detailed exploration and a feasibility study. Given the favorable conditions for production of marine salt it is unlikely that production of rock-salt in Eritrea will have a comparative advantage. 3.45 Mineral Fuels. With the discovery of oil in the Gulf of Suez and in the coastal areas of Yemen and Sudan, interest in exploration in the Red Sea has been growing. Previous attempts at exploration along the Eritrean coast were interrupted by the war. There are plans to resume such activities. The reserves may be quite significant but it is not yet known whether they can be exploited on an economical basis. Agricultural Products 3.46 Livestock. Livestock exports have already begun (372,000 sheep and goats, 65,000 cattle and 5,000 camels were exported in 1993) as the livestock population has been increasing since 1991 when peace returned to the region. Exports of livestock can be expected to increase at about three percent per year on average. 3.47 Oil Crops. Sim-sim was exported in large quantities in the 1970s as there is no domestic consumption of this product. Production of sim-sim is expected to resume again, and it will be exported. Other oil crops, exports of which will be in relatively small quantities, are sunflower and linseed. It will take a few years before there can be a palpable export of these products because of lack of quality seeds, pests, and competition for land from food crops. 3.48 Pulses. Pulses (mainly lentils, chick peas, beans) were exported in large quantities in the 1970s and there is scope to resume exports when surpluses are produced. There is also potential for growing and exporting haricot beans. 3.49 Fruits and Vegetables. Possibilities exist for the export of bananas and papayas, and oranges provided that the product quality can be substantially improved and diseases avoided, and adequate export-surplus capacity can be created. Export of fruits will also require improved seeds, pest control, a concerted effort at export management including proper packaging and timely delivery to ports, and infrastructure at the farming and port end. The international market for vegetables is very competitive. In the past, Eritrea had focused on the Italian market by exporting tomatoes, and on the Middle Eastern market by concentrating on okra and onions. 3.50 Flowers. There has been no significant export of flowers to date. Here again, the market is very competitive, but the climate in Eritrea is conducive to year-around export of flowers. 43 3.51 Spices. There is scope for resuming export of these products (gum-arabic, senna leaves, incense etc.), but this needs further investigation. Fish and Fish Products 3.52 In the 1950s and 1960s, catches well over 25,000 tons per year (of low value fish) were reported. Current rough estimates of maximum sustainable yields are 50,000 tons or more per year of high value fish such as lobster and shrimp. Most of the catch (80 percent) used to be exported. Presently, there is considerable amount of informal trade by Eritrean fishermen who sell their catch directly across the Red Sea without bringing it on-shore in Eritrea. Whereas much of Eritrea's agricultural production base was seriously affected by the prolonged conflict, the situation of the Eritrean fisheries remained rather unique. Even though fishery activities were seriously disrupted, the marine resource stock on which they are based did not disappear or diminish; in fact they could only have improved from lack of sustained fishing pressure. Government is engaged in evaluating the resources through surveys. However, the prolonged conflict did lead to substantial loss of productive capabilities in terms of the fishing fleet, equipment, infrastructure and operators. 3.53 The constraints to fish exports relate first to fish production and then to export linkages and infrastructure support. The Government is already engaged in devising programs to encourage the private sector to enhance fish production. No major initiatives yet are in hand for export support. These need to be devised, based on focused studies, to identify more clearly the constraints of on-shore infrastructure (processing and grading facilities, cold storage, etc.), and export incentives. The feasible levels of exports will be small in the initial years owing to the gestation period required to position the fleet, to train up the fishing personnel, to install the infrastructure and to develop export markets. Tourism 3.54 Tourism development in Eritrea started in earnest after the liberation of the country. The Government is working on a plan to develop the tourism sector by attracting private investors. For this purpose it proposes to prepare a tourism development plan which would entail a definition of the attractive tourism resources, and make a strategic choice of the type of tourism best suited under Eritrean conditions. The potential for tourism in Eritrea is substantial. Given its location and historical sites, there are possibilities for developing many recreational areas (beaches, islands, sailing and scuba diving, hiking and camping, springs, and spas). 3.55 Tourism development will take time. Policies would need to be developed to address a number of constraints including: (i) lack of trained manpower; (ii) lack of facilities (hotels etc.); (iii) lack of developed resorts; and (iv) lack of developed historical sites. Given the state of development of the tourism sector, the foreign exchange earnings from tourism will be small in the initial years while the outlays will be large. However, in order to gain the substantial long- term advantage (employment) the tourism development activity should begin as early as feasible. The sector will require significant investment in roads, water supply, energy, and other ancillary services. Meanwhile, the Government should continue implementing its plan for privatization of government-owned hotels to encourage the tourism sector. 44 4 FACILITATING ENTERPRISE DEVELOPMENT INTRODUCTION AND SUMMARY 4.1 Eritrea's efforts to return to its earlier history of economic growth will depend crucially on the development of the enterprise sector and, in particular, manufacturing enterprises. While manufacturing enterprises, which currently are in a dilapidated state, are mainly under public sector management, the development of the sector will depend on increased private sector participation. Recognizing this, the Government has already expressed its commitment to private sector-led growth. The challenge now is to delineate a general strategy and specific actions required to accelerate enterprise development with increased private sector participation. 4.2 The industrial enterprise sector is currently characterized by large-and-medium scale enterprises under public ownership, and most private entrepreneurship concentrated in micro and small enterprises. The large presence of public enterprises is not the result of any historical lack of private entrepreneurship but rather the legacy of past policies. Many public enterprises were originally under private ownership but were nationalized in the 1970s. Eritrea's rich entrepreneurial tradition is indeed one of its strengths, and the challenge ahead is to create conditions which would best harness this valuable asset. 4.3 After independence the Government regarded the major priority as reinvigorating existing enterprises. These enterprises were suffering from a host of problems including a serious shortage of raw materials, spare parts, working capital and foreign exchange. Some enterprises had been non-operational for several years; most of those which had been operating, had seen their capacity utilization levels fall to very low levels. Many enterprises were saddled with obsolete equipment. The immnediate task facing the Government was to increase capacity utilization in these enterprises so that supply ox essential goods could be restored. Considerable progress has been achieved in this regard especially under the Government's Recovery and Rehabilitation Program. Capacity utilization has increased. Nevertheless, the foreign exchange and working capital needs are still substantial. 4.4 Some progress has been made in the area of policy and institutional reforms relevant to private sector development. A number of steps have been taken to move away from the highly centralized decisionmaking and control framework for public enterprises inherited from the previous regime. These include disbanding the centralized marketing and planning systems. The commitment to private sector-led growth has been backed up with a number of initial steps including the reform of the investment code. This code, issued in 1991, has modified earlier restrictions on the private sector. A positive private sector response to these measures is becoming apparent. Several applications have been received for licenses to set up new enterprises, and more than 200 licenses involving a capital investment exceeding US$6 million had been granted by the middle of 1993. 4.5 As the economy emerges from the rehabilitation phase, the Government will focus on strategies and policies for developing the enterprise sector. A detailed action plan for enterprise development will result from a comprehensive industrial sector review, which should be carried out once detailed economic and financial analyses of enterprises become available. Nevertheless, some recommendations can be made at this stage. The strategy needs to be guided by the fact that Eritrea has a small domestic market, so an emphasis on exports will be critical; resources are few, so emphasis on human skills will be important; administrative capacity is limited, so there is a need to rely on private initiative and technology imports including private foreign investment; there are little internal savings, so there is a need to have strong pro-savings policies, including, in the early stages, some degree of monopoly power. 4.6 Eritrea could consider a four-pronged strategy for enterprise development. First, emphasis could be placed on further improving the enabling environment, building upon the steps already taken, with a focus on legal, regulatory and institutional reforms. In particular, improvements in property law, commercial law, competition policies, and environmental regulations should be addressed at an early stage to provide an enabling environment. In general, if the regulatory environment is appropriate, there may not be a need for an investment code. Examples from many successful countries suggest that investment codes, rather than promoting private investment, can often become another barrier to investment. Second, it will be important to offer support programs to facilitate micro and small-scale enterprise development, although some caution should be exercised in the nature and duration of support programs. Evidence shows that some support programs over time can become redundant or become another barrier to enterprise development. Third, efforts could be made to further strengthen commercial procedures and practices in public enterprises along with increased private sector participation as well as the implementation of a phased program of privatization. The Government has already announced its intention to privatize selected enterprises. The design of the policy package, of course, will need to be sensitive to broader national goals and domestic technical capabilities. Fourth, given the tremendous needs of the country, an added emphasis on attracting foreign investment will be critical for enterprise development. THE INDUSTRIAL SECTOR: A PROFILE Background 4.7 Modem industrial enterprises in Eritrea began with the advent of Italian colonialism. By the early 1930s, there were over fifty industrial enterprises operating in Eritrea, including five flour mills, two pasta factories, three bakeries, a canned meat factory, two tanneries, a vegetable fiber plant, a button factory, a cement factory, two salt works, a soap factory, a edible oil factory, a retreading factory, and a liquor factory. Development suffered somewhat during the early years of the Second World War. After the defeat of Italy, up to 1945, British and U.S. war needs created conditions that encouraged the revitalization of Eritrean factories and the establishment of new ones. The revival was short lived, however, due to a number of factors including competition from the export industries of industrial countries and the lack of reinvestment in Eritrean industry to bolster its competitiveness. The problem was compounded when the British military administration dismantled and sold its installations in 1945. The prospects for industrial development did not improve when British rule ended. Under Ethiopian rule, industrial production declined in the early 1960s. The most significant decline occurred from the mid-1970s onwards when more than 40 of the most important industrial enterprises were nationalized. In spite of the fact that the political climate and prevailing economic conditions did not attract private investment, and although these enterprises were being mismanaged and neglected, Eritrea still retained an almost 30 percent share of Ethiopian industrial production, and continued to be one of the most industrialized areas in East Africa. 46 TABLE 4.1: PRIVATE INDuSrRIAL ENTERIsEs: A SECTORAL PROFILE (as of September 30, 1993) REGISTERED REGISTERED (Operational) (Out of Operation) NUMBER OF NUMBER CAPITAL NUMBER OF NUMBER CAPITAL ENTERPRISES EMPLOYED ('000 Birr) ENTERPRISES EMPLOYED ('000 Birr) 1. Food Subsector a. Bread and Pasta 44 321 7,238.7 35 287 3,129.1 b. Oil Mills 6 36 495.2 9 22 468.8 c. Coffee Mills 6 28 1,624.6 5 16 340.4 d. Flour Mills 222 414 6,905.2 154 379 3,157.4 e. Ice Block Making & Milk Products 3 24 439.4 1 2 12.0 f. Soft Drinks 1 45 649.2 3 113 761.1 g. Beverage 1 5 25.0 3 24 696.2 2. Textie Subsector a. Garments 14 365 5,440.5 2 160 500.0 b. Sweater Factory 69 622 6,062.6 15 61 607.9 3. Chemkaik Subsector 37 487 12,839.0 2 15 317.8 4. Leather and Shoe Subcontractor 25 386 6,628.4 3 72 1,083.2 S. Metal Product Subsector 71 370 7,987.0 35 171 2,984.6 6. Wood Product Subsector 28 114 782.5 28 50 297.1 7. Printing and Paper Products 59 603.3 Subsector 8 7 53 723.6 8. Non-Metallic Minerals Subsector 45 399 6,436.6 8 140 1,037.3 | TOTAL 580 3,675 64,157.1 310 1,565 16,1173 Source: Ministry of Trade and Industry. TABLE 4.2: PUBLIC INDuSTRnAL ENTERPRIsEs: A SECTORAL PROFILE Industrial Number of Employees State Capital Sector Enterprises (September 1993) (May 24, 1991) ('000 Birr) Food 6 1,039 10,174.70 Beverage 3 896 12,492.00 Tobacco 2 372 976.00 Textile 5 4,627 37,823.00 Leather& Shoe 5 1,616 1,729.20 Metal Product 10 1,016 5,056.01 Printing 3 354 2,398.90 Mineral 4 687 17,454.70 Chemical 4 937 5,289.40 Total 42 11,544 93,394.51 Source: Ministry of Trade and Industry. Current Structure of Eritrean Manufacturing Industry 4.8 The Eritrean industrial sector at present consists mainly of light manufacturing industries producing a variety of goods including processed food, beverages, textiles, leather goods, chemical products, construction materials, glass, ceramics, and metal products. As of September 30, 1993, there was a total of 932 industrial enterprises, of which 42 were public enterprises and the rest belonged to the private sector. Of the 890 registered private enterprises, 580 were considered operational. Tables 4.1 and 4.2 present sector-specific data on the number of enterprises, employment and capital invested in the private and public sectors respectively. 4.9 There is a distinct difference in the scope of the public and private enterprises. Public enterprises are much larger with an average employment of more than 250 employees and an average capital investment of Br 2.2 million. Private enterprises by contrast are mostly small, employing on average six people, with an average capital investment of only Br 90,000. The regional distribution of Eritrean factories is uneven. Fifty-five percent of private enterprises and all but four of the 42 public enterprises are located in Asmara. 4.10 A large proportion of industrial products are exported to Ethiopia, while imports from Ethiopia include raw materials such as cotton, sugar, oilseeds, tobacco, wood, iron bars, corrugated iron, yarn and threads, cattle, and skins. Furthermore, all machinery and tools, and most intermediate goods such as crude oil, plastics, and metals-which are essential for Eritrean industries-are imported from other countries. Linkages within Eritrean industry are limited. With the exception of a few items (cement, glass, hides, etc.), there are few factories that use the output of others as their inputs, and there are few examples of vertical integration outside of the textile industry. Linkages between industry and agriculture are also weak. 48 4.11 Because of the war conditions, most public enterprises had been non-operational in the early 1990s. From May 1991 to December 1992, 40 of 42 public enterprises were put into operation at an average capacity utilization rate of 22 percent. Capacity utilization in 1992 varied between sectors with the best performers (capacity utilization rates in parentheses) being paper and printing (81.3 percent); non-metallic (72.1 percent); and food, excluding beverages and tobacco (56.8 percent) sectors. The lowest performing sectors were tobacco and matches (10.4 percent); textiles (10.7 percent); and chemicals (10.0 percent). In all these sectors production had dropped sharply from the 1990 levels. 4.12 Provisional, non-audited figures for 1992 indicate an apparent improvement in the financial performance of the industrial public enterprises. Compared to an aggregate after-tax net loss of Br 23.6 million in 1991, these enterprises earned an aggregate after-tax net profit of Br 4.7 million in 1992.22 A better measure of financial performance would be pre-tax profits or losses. This is particularly important for comparative purposes since there has been a change in the taxation of public enterprises. Data, however, were not available on pre-tax profits and losses for 1992. There is a considerable difference in the financial performance between sectors. In 1992, six sectors (food, beverage, tobacco, chemical, metal products and printing) earned pre-tax profits while losses were incurred in the textile, leather and shoe, wood products, and non- metallic mineral product sectors. Although progress has been made in restarting the enterprises after independence, many problems remain. Some of these are symptomatic of the problems faced by Eritrean industries in general; others are specific to public enterprises. 4.13 Most firms within the private sector are small and are managed by entrepreneurs with some craft skills or technical education who have used their skills and education to form small businesses. Many of the war-time entrepreneurial activities were carried out by them. While these entrepreneurs have proven to be skilled and are able to produce marketable goods under difficult conditions,23 their enterprises remain modest and constrained. PROSPECTS AND CONDITIONS FOR ENTERPRISE IMPROVEMENT Main Constraints 4.14 Most enterprises, including those in the private sector, have suffered in the past as a result of the war conditions, inappropriate policies of the past regimes, and severe lack of investment. Currently, enterprises face a wide range of constraints including limited access to foreign exchange; a financial sector not yet able to fully support the demands of the business sector; a destroyed infrastructure with severe shortages of power supply; shortage of skills in business planning, management and organization, long-range planning, cost accounting, and record keeping; run-down and obsolete equipment; and an as yet incomplete regulatory framework. In addition, there is a possibility that several firms face a demand constraint. The chapter on exports has examined constraints facing enterprises in some detail. 4.15 The Government has begun to address many of these constraints through its Recovery and Rehabilitation Program aimed at providing essential foreign exchange and inputs to revive the 22 These figures exclude Massawa Salt Works and Asseb Salt Works. 23 Such as producing goods from scrap materials without the benefit of proper tools and infrastructural support. 49 industries. Several of the remaining constraints could be considered as symptoms of past policies and restrictions rather than barriers in themselves. It is expected that the reversal of past policies and the increased emphasis on private sector development, particularly with a view to encouraging Eritrean entrepreneurs abroad to participate in domestic business activities, will help to ease these constraints. STRENGTHENING PUBLIC ENTERPRISES 4.16 Increased and efficient production by public enterprises is an important priority in Eritrea not only in its own right but also because it will promote private sector development. There are several options that could be considered for further improving public enterprises. The choice among them should be guided by considerations of economic efficiency and the technical abilities to implement them. 4.17 Sector Review. The first task is to carry out a quick diagnostic study of the public enterprises. Once the diagnostic analysis is completed, the next step will be to design subsequent action programs. In general, the action programs could be based on the principle that most commercial activities should be in the private sector, and that divestiture could take place to achieve this objective. Except in very special situations, nonviable enterprises will probably have to be liquidated. An attempt to privatize nonviable enterprises has been a major cause of the failure of many privatization programs (see Box 4.1). A related problem has been the post- privatization failure of enterprises which were perceived to be viable although they were actually not so. This points to the importance of proper diagnostic studies. 4.18 Experience from other countries suggests that governments are often reluctant to liquidate nonviable enterprises for a variety of reasons, the foremost being the desire to maintain jobs. This often results in the retention of these enterprises in the public sector, thus perpetuating inefficiency. Once nonviable public enterprises are liquidated, some public enterprise employees, especially skilled ones, may be quickly reabsorbed in the remaining enterprises or may find employment in an expanding private sector. Others, who would take time to find employment, need not be abandoned during the transition. Several options are available to make the transition for retrenched workers both shorter and more bearable, including safety net schemes, such as severance payments, retraining, job search assistance and credit schemes. 4.19 Commercializing Public Enterprises. It will be important to ensure that public enterprises continue to operate on a fully commercial basis, building on reforms already introduced by the Government. Before independence, decisionmaking concerning public enterprises was highly centralized. Public enterprises were required to report to the government through a number of ministries and parent corporations located in Addis Ababa. There were nine subsector "corporations, " essentially holding companies, managing the enterprises. Most decisions were taken by the central government of Ethiopia, usually by the Ministry of Industry, which was responsible for deciding production plans, capital expenditure, profit margins and sale arrangements. As an example, all output produced by the enterprise was sent to the Ethiopian "central marketing corporation" with the enterprises reimbursed if the output was sold, or their losses underwritten by the government if the output was not sold. Managers had limited ability to control critical decisions at the enterprise level concerning the setting of production targets, 50 Box 4.1: LESSONS OF EXPERIENCE ON PRIVATIZATION Lessons of experience suggest that to be successful, a privatization program should be well designed and necessary preparations undertaken. While any privatization effort in Eritrea will have to be tailored to the specific conditions of the country, some general principles may be kept in mind. The most important of these, apart from a careful choice of privatization candidates, are the following: (i) the primary objective of privatization should be efficiency enhancement; raising revenue should be a secondary objective; (ii) public enterprises operating in markets which are competitive, or can easily be made so, are prime candidates for privatization. Monopolies should be privatized only after an appropriate regulatory framework is in place. Failure to do so may lead to adverse impact on the consumers, such as undue rises in prices, and reduce public support for privatization and private sector development; (iii) an appropriate institutional structure for privatization should be set up. A successful privatization program will require a small competent staff dedicated to privatization and located within a central ministry. While individual privatization transactions would normally be undertaken with the help of specialized staff, the terms of reference should be prepared at an early stage to oversee the implementation of the work; (iv) rather than restrict the market by excluding foreign investors, governments should experiment with "golden shares" and partial share offerings to win acceptance for foreign and other buyers; (v) a public information campaign should also be initiated to provide citizens with information on all aspects of the program; (vi) large new investments should be avoided in privatization candidates: the risks usually outweigh the rewards. Preparations for sale should be made by carrying out legal, managerial, and organizational changes, financial workouts, and labor shedding; (vii) the privatization transaction must be transparent; and (viii) different methods of privatization will be appropriate for different types of assets. Among the methods which could be considered are competitive tender, public offering, management/employee buyouts, and liquidation and sale of assets. For enterprises where the privatization of ownership is not considered the appropriate policy, at least in the short to medium term, a reform option is the privatization of management. This can take the form of management contracts, leases, or concessions and can result in considerable efficiency gains and also facilitate eventual privatization. The relevance of these options to the Eritrean context would need to be carefully assessed. Leases and management contracts, at least, appear to be useful options for the short to medium run in Eritrea. Experience in other countries shows that these are attractive alternatives to privatization in countries characterized by weak capital markets and private sectors and weak regulatory capacity of the government. Experience also suggests that these arrangements are best viewed as temporary until the time is ripe for privatization of ownership. It must also be pointed out that even if management of the core operations of a public enterprise is kept in the public sector, the management of certain peripheral activities may be contracted out to private companies. Several examples of this method of encouraging private participation are mentioned in the chapter on infrastructure. 51 controlling product prices, determining profit margins, sourcing inputs, hiring and firing workers, training staff, and making marketing and investment decisions. A "Coordinating Office" existed in Asmara, but had limited authority. 4.20 After the victory in May 1991, public enterprises operating under Ethiopian rule were transferred to the ownership of the Government of Eritrea. A number of steps have been taken since then to improve the control framework for public enterprises, and there has been movement away from the centralized arrangement which existed before. These include: (i) the disbanding of central marketing organizations so that enterprises are now responsible for marketing their products; (ii) disbanding of the central planning functions (which determined production targets) so that enterprises are responsible for determining the composition, level, and quality of output produced; and (iii) the placing of each public enterprise under a government department. In addition, many enterprises have been financially assisted (including freezing their debt), senior managerial appointments have been made to replace those managers who had left, and measures have been taken to deal with the problems of working capital and foreign exchange requirements of the enterprises. 4.21 These first steps have given public enterprises more autonomy in the way they select their business partners, in marketing approaches, and in the setting of prices for their products (although this is still not the case in the food and beverage industries). There are, however, some areas where additional reform would be valuable. As an example, the Department of Industry currently approves capital expenditures, thus limiting the role of enterprises in financial management. Nonetheless, public enterprises have been given a clear message by the Government that they need to operate on commercial lines. The challenge now is to build on these early initiatives. The ownership, management, and regulatory functions of the Government with regard to these enterprises should be clearly delineated and separated to ensure efficiency and macroeconomic stability. Legal incorporation of public enterprises could be a useful step towards separation of management from ownership and regulatory functions. A balance between autonomy and accountability is necessary. Performance contracts could be a useful tool to achieve this balance provided they are well designed, and provided that both parties-government and the public enterprise-are committed to them. It will also be important to continue the hard budget constraint for public enterprises that the Government has already introduced. Other steps which could be taken to improve performance are the strengthening of management information systems and accounting and auditing procedures, and reforms in the incentive structures to attract and retain skilled personnel. 4.22 Furthermore, a rationalization program for public enterprises could be formulated which could include: (i) further strengthening of policies to encourage the enterprises to operate with full managerial, administrative, financial, and operational autonomy; (ii) technical, organizational, and financial rehabilitation to allow the enterprises to operate efficiently and reach as a minimum the financial "break even" point; and (iii) a training program for managers and selected staff to improve practices and quality of operations, and in parallel, infusion of technical assistance as appropriate. 52 FACILITATING PRIVATE SECTOR DEVELOPMENT 4.23 Eritrea has a rich tradition of entrepreneurship. While this tradition has been hampered by the policies of previous regimes which led, among other things, to the emigration of many Eritrean entrepreneurs and skilled personnel, it still remains vital and forms the basis of optimism about private sector-led development of the economy. A first step to encourage private sector development would be to (i) identify constraints inhibiting private sector development; (ii) identify solutions and assess their feasibility; and (iii) develop a strategic agenda encompassing the activities of various players in private sector development. Several measures would need to be addressed at an early stage. In addition to continuing the Government's program to strengthen the business environment to encourage private investment, it will be important to define the role of the Government in the productive, service, and utility sectors, and to continue active encouragement and support, particularly for indigenous entrepreneurs. 4.24 Strengthened Investor Confidence. The independence of Eritrea has helped to reestablish investor confidence. The challenge now is to articulate a clear policy statement on the policies, services, regulations, and other factors which affect private sector investment, and to translate these principles into action programs. 4.25 Eritrea's current investment code (Investment Proclamation No. 18/1991) is a major step towards reversing past restrictive policies by allowing the participation of the private sector in most business activities. The Government is rationalizing investment approval procedures especially to attract foreign investmene4 by ensuring transparency, and establishing a clear standard application procedure to avoid the impression of discrimination among applicants. Eritrea should also be cautious in the measures it takes to protect business ownership and participation of indigenous nationals. Strict requirements about the degree of local participation could discourage foreign investment. The Government is examining the tax incentives in the code aimed at encouraging investment with a view to simplifying them. The investment code proposes a sliding scale of incentives in order to encourage investment in certain regions of Eritrea. Experiences from many other countries show that tax incentives rarely influence the decision to invest; it is the business climate that plays a greater role (see Box 4.2). 4.26 The recently established Investment Center in Eritrea has performed a useful function in disseminating information about Eritrea's legislation, policies, and regulations concerning business in general and investment in particular. However, the Center should not become a discretionary screening mechanism to manage the direction of private investment. All applications should be subject to the same basic processing rules focusing on compliance with public health, safety, and environmental protection, and other legal requirements of the country. Assessment of the financial and economic viability of the applications should not be within the Center's mandate. 4.27 Experience shows that in drawing up strategies and policies for private sector development, inputs should be solicited from the private sector. A very useful way of doing so is through establishing formal mechanisms such as deliberative councils. Such councils have been 24 The Eritrean investment code (page 20, item 11) states that investments shall "not be attached, seized, frozen, expropriated, or put under custody without due process of the law.' 53 Box 4.2: PROMOTION OF INVESrMENT: Is AN INVESMENT CODE NECESSARY? Raising productivity and investment from their present low levels is a key instrument for achieving a higher growth rate in the Eritrean economy. As in other developing countries, upgrading technology and increasing the level of investment by attracting and supporting domestic and foreign investors will be a major preoccupation of the Government. The strategy for promoting investment and the acquisition and use of technology are rarely the same from country to country, or even region to region within one country. It is possible, however, to learn from experiences elsewhere. By now, there is a large body of knowledge that suggests that investment responds best to conditions of low uncertainty, minimum necessary government controls, adequate incentives and supportive business services and infrastructure. Roughly 65 countries regulate investment through enacted codes that typically "guide" investors by granting licenses. It is estimated that there are 48 modern investment codes (that is, enacted during the last ten years) that regulate foreign investment, of which 26 are in African countries. [See Legal Framework For 7he Treatment Of Foreign Investment, World Bank Group, 1992.1 However, the need for such investment codes is increasingly questioned. The chief reason is the changes in the policy framework that are being introduced by the developing countries, which have made investment codes redundant. The justification for licensing investments through a code lies in the desire to ensure that scarce resources, chiefly foreign exchange necessary to set up a business, are not misused either in the form of over-invoicing of imports (capital flight) or through the creation of over-capacity and consequent over- supply of certain products in the country. Investment codes are meant to direct investment to areas that are considered desirable in the national interest, to reflect a better social use of foreign exchange, and to avoid over-capacity. The existence of macroeconomic distortions, typified by an overvalued exchange rate and the consequent administrative rationing of foreign exchange, is a prime motive for licensing. Because of such distortions, economic (or social) profitability diverges from financial profitability, and a licensing system is used to"guide" investment to socially desirable projects. The removal of these distorting influences, by changing policy to allow the market to determine prices and allocate resources, largely removes the need to regulate the investor by "administrative guidance", or to provide incentives such as fiscal advantages that are costly to the exchequer. The investor participates in whatever project is judged to be profitable, and because economic and financial prices are the same, private and economic profitability converge. The need for an investment code is, therefore, eliminated. Perversely, the existence of a code may signal to investors that distortions will continue to exist due to the Government's inability or unwillingness to tackle basic reforms. However, even in the absence of an investment code, two issues will remain. The first deals with attracting investors and their projects. The second with taxation and regulation regarding issues of health and safety, quality standards, environmental pollution, physical planning, workplace security, etc. On the first, an investment promotion agency (not licensing authority or board) must promote, not regulate investment. Such an agency would provide information on investment policy. The preferred solution to the second issue is to use the existing and evolving general legal framework of the country to carry out the required task. If any laws and regulations exist which affect the company (such as tax, criminal, import and environmental provisions), the company has to follow them as the law dictates. The investment promotion agency may help with compliance, but should not duplicate the functions of the proper agencies. An effective agency is a promoter and a facilitator, not a regulator. 54 TABLE 4.3: THE LICENSE FEE STRUCTURE (In Birr) Capital Investment Temporary Permanent Expansion Renewal < 50,000 100 200 100 100 2 50,000 < 200,000 150 300 150 150 2 200,000 < 500,000 200 400 200 200 2 500,000 < 1,000,000 250 500 250 250 2 1,000,000 < 5,000,000 300 600 300 300 > 5,000,000 350 700 350 350 Source: The Ministry of Trade and Industry. Note: A temporary license is valid for 1-2 years and is issued in order to give investors time to import equipment and acquire premises. A permanent license is issued subject to proof of building permit and machinery acquisition. The procedures and requirements for expansion and renewal licenses are not clear. very effective in other countries, primarily East Asia, but also elsewhere, as in Ghana. The presence of a consultative process helps governments to better understand private sector concerns and helps generate consensus about their solutions. This, in turn, helps enhance investor confidence and generates support for reforms. Also, care should be taken to ensure that approaches and programs of different agencies within the Government are coordinated, so that a consistent message is sent to investors. Alternative and more appropriate models, such as export processing zones and development of entrepot possibilities, should be considered as a vehicle for encouraging investment, particularly foreign private investment. 4.28 Licensing. The prevailing license fee structure is presented in Table 4.3. According to Department of Industry data, licenses had been issued, by early 1993, to set up more than 200 enterprises in the private sector with an expected capital investment of almost US$6 million and expected employment of more than 1,000.25 About three quarters of these were permanent licenses, i.e., those issued to enterprises fairly advanced in their setting up stage. The fact that many entrepreneurs are applying for licenses is an indication of the positive response to the steps taken so far by the Government to promote private sector development. To rationalize licensing procedures, the Government is considering introducing only two types, renewals and new licenses, and issue them for longer periods. 4.29 Fostering Access to Effective Business Advocacy Support. Business advocacy groups will be useful in fostering the consultative process between the Government and the private sector. To be effective, these groups should have an adequate understanding of the needs of business. In Eritrea, these needs will be evolving continuously with the development of business and would, therefore, need to be addressed on an ongoing basis. A number of issues are relevant in this context. First, there is a need to clarify the legal status of the Chamber of Commerce. 25 "An Overview Picture of Eritrean Industries", Department of Industry, April 20, 1993. 55 Box 4.3: ERiTREAN CRAFT ENTREPRENFuRS There are at least two overwhelmingly positive examples of the "craft entrepreneurship" tradition in Eritrea which demonstrate that given the right set of enabling environment and motivational circumstances, individual Eritreans have the potential to develop into entrepreneurs, and in so doing, to applying their "craft" skills toward entrepreneurial business-oriented endeavors. One such example can be found in the accomplishments of Eritrean entrepreneurs during the war-time effort, wherein they fabricated many goods in support of the war effort. Another example, discussed below, is that of the Medebre Village and the testimony it makes about the relatively sophisticated level of skills which have been developed by individual entrepreneurial Eritreans, who have also been successful in transforming the ordinary into the extraordinary (by making marketable goods using scrap materials without the benefit of proper tools and infrastructural supports: The Medebre Village: started over 30 years ago in Asmara. Although it is merely a fenced-in area, without roof cover, electricity, health or toilet facilities, it hosts over 350 "family" enterprises, consisting of artisans who rely strictly on waste and scrap materials to fabricate a broad range of household items, including: shoes (from old tires) and buckets, pots, pans, Njera cookers, kitchen utensils, garden supplies, coffee makers, drums, used nails, gutter drainage pipes, and many other items (from old tin and metal). They also make household furniture, cabinetry, tables and other items from discarded wood. In so doing, they have demonstrated that they can make a business out of their skills, although given the conditions in which they operate (without proper tools, instruments and working premises), the business development potential of their enterprises is quite limited, but not necessarily more so than that of the financial resources of their clients who come to the village (which serves both as a crafts workshop and a market place) to buy inexpensive goods. Since the Chamber's advocacy role in the past has primarily been in the public domain, its institutional development needs to be addressed to enable it to be an effective advocate for the private sector. Second, a legal framework which permits the establishment of a broad range of business advocacy groups will need to be instituted. Experience with business advocacy groups elsewhere indicates that competition in this area is as useful as that in other areas of business. 4.30 In addition to policy and regulatory changes, other forms of assistance could be considered for promoting private sector development. These could include: (i) encouraging the formation of Sectoral Business Associations particularly in those sectors with potential for growth and export; (ii) establishing a structure, possibly within the Chamber of Commerce, which could disseminate information to local entrepreneurs on international markets, marketing channels and technology; and (iii) assessing the feasibility of establishing initiatives able to stimulate enterprise 56 start-up; in this context, the establishment of business incubators in Asmara and other urban centers should be studied. SUPPORTING SMALL AND MICRO ENTERPRISES 4.31 Improvements in the enabling environment, while necessary, may not be sufficient for enterprise development. Direct assistance to micro and small enterprises will be required. The design of such assistance programs should be based on a careful assessment of the needs of this class of entrepreneurs. In present-day Eritrea, a significant part of enterprise development activities will have to focus on the start-up needs in addition to the needs of enterprises already set up. (see Box 4.3 on Craft Entrepreneurs in Eritrea) The following section discuss some key issues that are fully illustrated in Box 4.4. 4.32 Access to Business Services and Advice. Business services and advice are needed to propel Eritrean businesses to a higher and more competitive plateau. This is particularly important given the interruptions to business development that Eritrea has suffered in the past. A range of measures appropriate to Eritrean conditions could be developed through research, conferences, and testing of methods found useful in other countries (such as a mentoring system) in which larger firms help smaller enterprises; business advisory services, and business incubators.26 4.33 Access to Information and Business Linkages. Many Eritrean entrepreneurs are currently out of the loop in terms of their knowledge of current and competitive business practices. They thus require assistance to project themselves into the modern world of competition. In the short term, the Chamber of Commerce could provide local business with updated business information, through the establishment of a Business Information Center. 4.34 Access to Knowledge of Entrepreneurial Success Stories. Many potential entrepreneurs in Eritrea have limited idea about the range of business possibilities. Efforts should be undertaken to identify, package, and publicize relevant examples of success stories from Eritrean business persons at home and abroad. Success stories from other environments may also be publicized if they are found to be relevant. Experience shows that examples of relevant success stories from comparable environments often provide ideas and motivation to other entrepreneurs. 4.35 Access to Linkages with Overseas Eritreans. Links with overseas Eritrean entrepreneurs can be very useful in bridging the gap in knowledge about business ideas and practices among domestic entrepreneurs. However, a number of problems will have to be resolved to enable overseas Eritrean entrepreneurs to establish viable enterprises in Eritrea. These include access to land and housing. Expatriate Eritrean entrepreneurs may be as constrained in getting access to land and housing as other foreign investors. 26 A potential model is that of the Hong Kong Trade Development Council (HKTDC). This organization has been particularly effective in identifying and responding to the development-related (information, marketing, technical assistance, and government liaison and advocacy) needs of their business constituency, including micro enterprises. 57 Box 4.4: THE PRIORiTY NEEDS OF THE SMALL BUSINESS CONSTrITUENCY 1. Physical Inputs Land: short-, medium- and long-term solutions must be explored to provide sufficient industrial land and housing. Accordingly, the following options should be explored: * Industrial Parks/EPZs/other workshop premises, including the "Medebre Village" model; * Housing Estates, for investors, should also be considered. Infhastructure: * Incubators, Real Service Centers, Industrial Parks and EPZs should also be explored to provide short-, medium- and long-term solutions to these problems. 2. Privatized Assets This is a generic issue which can equally constrain all subgroups in the private sector. The only remedy is to speed the pace of privatization. 3. Business Services The missing element in Eritrea is the lack of seasoned business persons who could provide advice to business constituencies. Therefore, what is required is the importation of the requisite knowledge and experience to provide advice. Models can be gleaned from examples elsewhere in Africa and in Asia, where in countries like Hong Kong, Republic of Korea, Singapore and Taiwan, China they have elevated the provision of business services to among the highest form in the business world. 4. Market Linkages Identifying and replicating models of successful programs from various parts of the world is also the prescription for charting the most effective course for required interventions. 5. Technology A comprehensive needs assessment is required on a sector-by-sector basis to identify and assess needs and to recommend the appropriate remedies. 6. Success Stories Identify, package, and disseminate information about local, overseas Eritrean, and foreign business success stories which may form the basis for motivating entrepreneurs in Eritrea to take similar risks. 7. Advocacy There are two parts to the interventions which are probably required to address the needs in this area; they are: 1) to strengthen the capacity of the Chamber of Commerce, and 2) to ensure that there is a legislative framework for encouraging the entry of other private sector advocacy groups. 8. Credit Further study is required to identify existing constraints. 58 5 AGRICULTURE: REALIZING ITS POTENTIAL FOR GROWTH27 INTRFODUCTON AND SUMMARY 5.1 Agriculture is critical to the livelihood of the vast majority of the Eritrean people. It is estimated that 70 - 80 percent of the population depends on the production of crops, livestock and fisheries for income and employment. Preliminary data on national accounts suggest that agriculture, including livestock and fisheries, accounts for a low share of national output (26% in 1992). The contribution of agriculture to exports is also extremely low with most of the exports generated coming from the livestock sector. The current situation can be attributed to the unusual circumstances in Eritrea during the past several decades involving war conditions and a lack of access to foreign exchange. Indeed, historical references appear to indicate that agriculture under normal conditions, can account for a much larger proportion of national output than is currently the case. 5.2 The questions posed by this chapter are several. First, is there potential for the agricultural sector to grow significantly? Which are the subsectors that would show the most rapid response and rates of growth? To what extent can existing constraints be overcome so that agriculture can contribute more substantially to national income? Finally, what contribution is the agricultural sector likely to make to accelerated economic growth over the long-term? Lack of adequate data makes it difficult to answer these questions with any certainty. But in the short run it is evident that development of agriculture will be an important stepping stone to achieving development of the country as a whole. Agriculture will continue to be the key employment sector given the limited capacity of other sectors to provide employment. Coupled with remittances from abroad, it provides the safety net for the poorest Eritreans and will continue to do so for the foreseeable future. 5.3 Any assessment of Eritrea's growth prospects must take into account the "one-time" benefits of a return to peace. Experience from other countries in the region indicates that Eritrea can expect a substantial increase in economic activity for a two to three year period, brought about by the end to armed hostilities and the re-establishment of a more "normal" macro- economic framework. Increased rural mobility, diversification of family economic activities, the easing of foreign exchange constraints and the re-appearance of "incentive" consumer goods on the shelves in rural areas are all likely to contribute to a "one-off" increase in agricultural output spread over a two to three year period. 5.4 Beyond this initial recovery period, the challenges facing agriculture would appear to be enormous given low productivity levels, widespread poverty, erratic rainfalls and a chronic food deficit in the country as a whole. Yet the very low levels of productivity in Eritrea, particularly in the highlands paradoxically present the best opportunity for growth in the short to medium term. Substantial gains in agricultural production could be obtained by relieving some of the key constraints and bottlenecks impeding farmers' productivity. These could include: (i) improving n This chapter has benefitted substantially from material generated by the FAO Agricultural Sector Review and Project Identification Mission, led by Rolf Gusten, which visited Eritrea in September/October 1993. farm practices including a concerted effort to introduce improved pest control systems to reduce the incidence of crop loss due to pest infestation; (ii) the continued expansion of soil and water conservation programs but with particular attention to integrating conservation techniques into production systems; (iii) the further development and dissemination of local drought resistant, fast maturing crop varieties; (iv) the rehabilitation of the existing irrigation schemes and the construction of additional micro-dams in appropriate areas; (v) establishment of sustainable rural financial services to enable farmers to gain access to credit; and (vi) improved distribution of fertilizers in selected areas. In the livestock subsector, where the availability of adequate oxen will be crucial for the rehabilitation of agricultural production, the best possibility for short-term productivity gains would be through improved animal husbandry practices, disease control and housing in peri-urban dairying, and through the strengthening of animal health services in the rural areas. 5.5 The options for improved output and productivity in the longer term are more difficult to determine with certainty given the lack of reliable and comprehensive data on the agricultural sector and the major information gaps on the natural resource base. The greatest opportunity for growth in rainfed agriculture would appear to lie in expanding the amount of land under cultivation in the south western lowlands by providing appropriate infrastructure and incentives to enable smallholder and commercial farmers to move to these areas. In addition, and depending on the availability of water, there may be considerable potential for developing irrigation in other areas of the lowlands, though this may be feasible only for the production of high value export crops, rather than for food crops given both the high investment and recurrent costs that irrigated farming would involve. To this end it would be essential to set up the networks required for collecting basic hydrological, groundwater and meteorological data necessary for making informed investment decisions on major irrigation projects. If the quality of soils and extent of water resources availability hold up to expectations, and if reliable markets for high value crops cin be assured, high returns could be obtained from strategic support for the development of agriculture in these areas. 5.6 The livestock subsector shows considerable promise in terms of income generating and export potential. The main constraint to increased livestock production is availability of adequate forage and this in turn is linked to crop production. Thus, any measures that will serve to improve agricultural productivity will also benefit livestock. Fisheries would also appear to have very high potential particularly in the export of high quality fish and crustaceans such as lobsters and prawns. It will take time before this full potential can be realized as considerable investments are required to rehabilitate the coastal infrastructure including processing and storage facilities, roads and ports. 5.7 Attention would need to be paid to strengthening the institutional and policy framework necessary to enable farmers and pastoralists to have access to improved technology, inputs and services, and to ensure that appropriate incentives for increased production are in place. In particular, improving the quality and effectiveness of the extension service would appear to be a major priority. While this may take time to achieve, in the short term, measures could be taken to improve the organizational structure of the service and the links with research activities, upgrade the skills of extension workers, and provide support to improve their access to communities. The active promotion of greater private sector intervention in the provision of inputs and services is also of importance. Steps are being taken by the Government to phase out free and subsidized input supply through the public sector. However, continued efforts will be 60 required to improve market information and rural financial services as well as transport infrastructure so as to better facilitate the private sector's activities in this area. Implementing the recent land reform measures is another area requiring immediate attention. 5.8 Long-term food security is an objective of central importance to the Government. In Eritrea this is not an issue of food self-sufficiency but of generating sufficient export and foreign exchange capacity to ensure that sufficient food can be imported for Eritrea's needs. The achievement of food security will be a lengthy process, and in the interim, continued reliance on food aid may be avoidable. Measures will be needed to facilitate adjustment to fluctuating output of staples, including the establishment of "early warning" mechanisms, close monitoring of food markets, and the maintenance of close coordination between food importers and producers. NATURAL RESOURCE BASE, STRUCTURE AND PERFORMANCE 5.9 Climate and Natural Resource Base. Eritrea is a land of varied topography, climate and rainfall. Six main agro-ecological zones can be identified in the country, covering a broad spectrum of agricultural conditions (see Box 5.1). Climate ranges from hot and arid adjacent to the Red Sea, to temperate sub-humid in isolated micro-catchments within the eastern highland escarpment area. The highlands, where more than 65 percent of the population lives, have a cool, temperate climate with minimal seasonal variations. In normal years rainfall varies from an annual average of 400 to 650 mm in the highlands and from 200 to 300 mm in the lowlands. During droughts, the rainfall levels can fall to 200 mm in the highlands and less than 100 mm in the lowlands. The problem of inadequate rainfall is often compounded by the high variability and unreliability of both the total rainfall and its distribution. Almost all of the existing and potentially important crop production areas of the country are drought prone and thus vulnerable to periodic and widespread crop failure. 5.10 About 3.4 percent of the total land area in Eritrea is presently cultivated. Most of this is found in the highlands where population density per cultivated area is extremely high and localized scarcity of arable land occurs. Meanwhile large tracts of land, mostly in the lowland areas remain underutilized. Some of these areas are only marginally productive; approximately one third of Eritrea's land is desert or semi-arid desert and is unsuited for either farming or livestock rearing. A further 50 percent of the land serves as grazing and browsing land but, though potentially fertile, cannot sustain rainfed agriculture, given an average annual rainfall of 200 to 400 mm. Meanwhile, forest and woodland resources have become increasingly scarce. Significant data relating to the forest resources of Eritrea are almost nonexistent because of lack of up-to-date base maps and aerial photography. However, visual and anecdotal evidence suggests a dramatic loss of tree cover in the country over the last 30 years with less than one percent of the total land area now covered by forests as compared to reportedly about 30 percent in the earlier part of the century. Water resources are also generally scarce throughout much of the year though seasonal flooding can occur on a large scale in many parts of the country. Unpredictable rainfall makes surface water unreliable and there are very few perennial rivers. While substantial amounts of groundwater resources are thought to be available, their full extent is not known. The only assured sources of groundwater for agricultural purposes are to be found in the flood plains of the major rivers and other localized aquifers, mostly in the lowlands. 61 Box 5.1: ERITREA'S AGRO-ECOLOGICAL ZONES A recent study by an FAO Agricultural Sector Review team provides a detailed classification of agro-ecological zones as follows: (a) The "central highland zone" (CHZ): over 1,500 m in altitude; over 500 mm of annual rainfall and enjoying for the most part a warm to cool semi-arid climate. Potential evapotranspiration ranges from 1,300 to 1,800 mm. This zone comprises three subzones that have many common features, in particular the major crops, but are distinguishable by differences in altitude, annual precipitation, relief, soils, population pressure and degree of environmental degradation. The subzones are: highland (H) over 2,000 m, 500 to 600 mm of rain, with very high population pressures except in the limited high elevation areas of the north; southern midland (SM) 1,500-200 m with generally lower population pressures and more favorable rainfall (700 mm plus in the extreme south) and northern midland (NM) 1,500-200 m; but arid with less than 400 mm of rainfall and consequently very low population pressures. (b) The "western escarpment zone" (WEZ): from about 600 m to 1,500 m with a warm to hot semi-arid climate. Its soils and relief are determined by the physiography and geology of the central highlands, but in terms of climate, cropping, and population pressure it has much in common with the southwestern lowlands with which it joins; a transaction zone. (c) The "southwestern lowland zone" (SWIZ): 600 to 750 m, with a hot semi-arid climate. Rainfall is in excess of 400 mm. Soils are quite different from those of the highland and transition zones mostly vertisols that require different management from those of the central highlands. Topography is flat and population pressure (very) low. (d) The unique "green-belt zone" (GBZ) of the eastern escarpment of the CHZ: 750 to over 2,000 m; rainfall up to over 1,000 mm. Encompasses numerous micro-ecological zones that are determined individually by the inter-relationships of altitude, rainfall, aspect, exposure and soils at different sites. Micro-climates range from sub-humid temperate to humid tropical. Relief is precipitous and requiring comprehensive terracing. It differs from all other zones in being able to support permanent crops such as coffee without irrigation. (e) The "coastal plains zone" (CPZ): below sea level to 600 m; a hot desert-like climate with less than 200 mm of rainfall. Potential evapotranspiration in excess of 2,000 mm. Crop production impossible without irrigation; poor pasture resources; a zone with very extensive pastoralism. (f) The "northwestern lowlands zone" (NWLZ): 400 to 1,500 m, a hot arid climate with at most 300 mm of rainfall, and in the extreme NW below 200 mm. Evapotranspiration 1,500 to 2,000 mm. Sustainable crop production is not possible without irrigation, but some niche cropping is feasible. Poor to moderate pasture resources. Source: Eritrea: Agricultural Sector Review and Project Identificarion Mission, FAO, December 1993 62 5.11 Structure of Agricultural Production. The rural economy in Eritrea is dominated by small-scale mixed farming. Cultivation techniques are typically low-input and traditional with food crops such as sorghum, barley, millet and maize being the main crops produced (see Statistical Annex Tables VIII.2 and VIII.3 for data on production of main cereals by province). Livestock form an important component of local farming systems and are a significant source of supplementary income. Oxen, particularly in the highlands, are essential for plowing purposes and farmers' ability to cultivate their land is strongly dependent on their ability to access oxen. Most farming is rainfed with just 21,600 ha (5 percent) out of a total of 439,000 ha of cultivated land reported to be under irrigation. Many irrigation schemes are not fully functioning and thus the actual area under irrigation may be only half of this number. Small-scale irrigation using micro-dams and dug wells is practiced in both the highlands and the lowlands, mainly for the production of fruit and vegetables. In the eastern lowlands, seasonal or spate irrigation is traditionally practiced principally for the production of food crops such as sorghum. In the eastern and western lowlands, transhumant pastoralism and agro-pastoralism is widely practiced with livestock rearing being the primary source of income for the majority of the population in these areas. Meanwhile, small- and medium-scale commercial farming is increasingly prevalent mostly in the lowlands areas of Gash-Setit and Barka. Much of this is irrigated and the focus of production is on high value crops such as fruits, vegetables and oilseeds. Production levels in Eritrea are generally low with average yields per hectare being amongst the lowest in Africa. In a year of adequate rainfall, Eritrea manages to produce not more than 50 percent of its food subsistence requirements. It is estimated that over 50 percent of the population remains chronically dependent on food aid to meet their consumption requirements for at least part of the year. 5.12 Agricultural Performance. Agriculture has been seriously affected by the policies of the Ethiopian regime, prolonged war, drought and environmental degradation. The military conflict displaced farmers, reduced the availability of agricultural inputs, destroyed extension services in large parts of the country, and contributed to environmental degradation through the destruction of forests and of soil and water conservation systems. Recent preliminary estimates of GDP indicate that the agricultural sector has contracted by about -2.4 percent per year in real terms since 1985/86, with a high degree of volatility in performance. Annual growth rates in the sector have varied from 18.6 percent in 1985/86 to -19.2 percent in 1988/89. Since the end of the war, major rehabilitation measures have been initiated in the agricultural sector; the Government has made a substantial effort to improve the availability of essential inputs such as tools, oxen, seeds and farm equipment. In 1993, the Government initiated the Recovery and Rehabilitation Program for Eritrea (RRPE) with donor assistance to address the country's most urgent rehabilitation needs including agriculture. 5.13 Well distributed rains in 1992 and the timely availability of inputs, led to a substantial increase in agricultural output in 1992/93. This recovery, however, is fragile and incomplete as many of the underlying constraints that limit agricultural productivity have not yet been removed. Although a more extensive area of land was plowed in 1993 and the area planted to cereals and pulses was increased by 18 percent from the 1992 level, pest infestations virtually wiped out any of the gains that might have been obtained. In addition poor distribution of rainfall throughout the growing season has affected plantings and flowering of the major food crops. Initial estimates of agricultural output in 1993 indicate that production reached only 86,000 metric tons as compared to 260,000 in the preceding year. The total cereal import requirement for 1994 is estimated by FAO/WFP to be some 320,000 tons, with about 255,000 tons of this being required as food aid. The 1993 drought and locust attacks are also expected to damage grazing areas with potential adverse repercussions on the livestock population. 63 5.14 Government's Strategy. The Government is in the process of formulating a sector policy framework for agriculture. Nevertheless, a number of general policy aims have already been articulated on various fronts. These include the desire to: (i) enhance food security of the population by increasing food production as well as employment and income levels of the rural population; (ii) develop irrigation and rainfed potential in the lowlands; (iii) increase the supply of agricultural raw materials to industry; (iv) increase foreign exchange earnings through the identification and building up of export markets for high value crops and agro-industrial commodities; and (v) encourage the establishment of large-scale commercial farms. Achieving these objectives will require tackling some of the major challenges presently confronting agriculture. These include extensive land degradation and resultant loss of productive potential, low levels of technology utilization, weak institutional support particularly in terms of extension services and overall policy guidance, lack of access by farmers to agricultural inputs and credit, damaged infrastructure and finally, poorly developed domestic and export markets. THE POTENTIAL FOR GROWTH 5.15 Given the past performance of agriculture in Eritrea, is there scope for agricultural growth in the future? Can Eritrea realize a substantive increase in agricultural production and if so how? In many countries, agricultural gains have been achieved through two main courses of action: one is by intensifying agricultural production, the other by bringing more land under cultivation. What scope is there for pursuing these objectives in Eritrea and what measures may the Government need to adopt to overcome possible constraints in this regard? The following sections examine these issues in more depth. Intensifying Agricultural Production 5.15 Agricultural Productivity. With over 80 percent of the population living on the land, current per capita agricultural production is low. While there are little reliable data currently available on crop production trends and yields, some initial estimates have been made by FAO based on figures provided by the Ministry of Agriculture and crop assessment studies conducted by FAO and WFP. These are summarized in Table 5.1. Total production was 278,500 mt in 1992; this was a good year with output well above the average of recent years. Nevertheless, the level of output was not sufficient to meet the minimum subsistence needs of rural populations (assumed to be about 146 kg of cereals per person/year) in areas of the highlands such as Hamasien and Akeleguzay. The table also shows the regional disparities in average yields per hectare particularly between the highland provinces such as Akeleguzay (.54 mt) and lowlands provinces such as Barka (1.27 mt). Average yields for all crops in 1992 were 0.74 mt per hectare. This figure is high in comparison to past average yields and could be attributed to the favorable weather conditions and the effort made by the Government to provide access to inputs in a timely manner. However, comparisons with yields of other countries such as Kenya, Sudan and Uganda show that Eritrea's average yields continue to be considerably lower than regional averages. The reasons for current low agricultural yields in Eritrea, stem largely from technological constraints and quality of the soil, as discussed below. 5.16 Agricultural Technology. In Eritrea, cultivation techniques are highly traditional for almost all smallholder production, and are typically low-input based. Land preparation is carried out with ox-drawn steel tipped wooden plows where the furrow drawn by the plow tends to be 64 TABLE 5.1: PRODUCTION AND YIELDS OF FOOD CROPS AND OIL SEEDS (1992) Province Production Estimated Area Rural Production per Yields (metric ton) Cultivated (ha) Population Rural Person (ton/ha) (1,000) (kg) Akeleguzay 22,500 41,500 247-301 75-91 0.54 Hamasien 17,500 30,000 232-282 62-75 0.58 Seraye 75,000 116,000 336409 183-223 0.65 Gash-Setit 104,000 102,000 225-274 380-462 1.02 Dankalia 1,500 1,500 66-80 19-23 1.00 Sahel 6,000 30,000 143-174 34-42 0.20 Semhar 20,000 11,000 79-96 208-253 1.82 Barka 19,000 15,000 141-172 110-135 1.27 Senhit 13,000 28,000 187-228 57-70 0.46 Total 278,500 375,000 1,656-2016 138-168 0.74 Source: FAO Agricultural Sector Review and Project Identification Mission, 1993. Note: Owing to different sources, the statistics cited here may not correspond to other tables in the report. narrow and the extent of soil inversion limited. Harvesting and threshing are done by hand or with the help of animals. Crop varieties are almost all local, and sequential planting is widely practiced to protect against late rains and crop failures of earlier planted crop. Chemical fertilizers are rarely used because of the possibility of low financial returns as a result of unpredictable rains. Farm yard manure and compost are also seldom utilized. Due to the shortage of wood, animal dung tends to be used as fuel, while crop residue is required as animal fodder. In addition, weed infestation and pest attacks can be a major threat, sometimes resulting in full loss of crop. The desert locust, grasshoppers and army worm are all serious insect pests of crops in rainfed farming. Few if any smallholder farmers own sprayers or dusters, or stock pesticides. 5.17 In the lowland areas, where much of the cultivated land is managed by private concessionaires, agriculture is more intensified. On irrigated plots, farmers regularly use imported seeds, fertilizers and pesticides. Tractors and other forms of mechanization are also more frequently used. Nevertheless, while yields may be higher than in smallholder highland agriculture, they are still low by international standards. This is largely due to the high incidence of pests and low management standards. 5.18 To what extent can present low yields in Eritrea be increased? Paradoxically, the low levels of technology in Eritrea present one of the best possibilities for growth in the short term. Although at this stage it would be difficult to quantify potential increases in yields, it is thought that substantial productivity gains could be obtained through specific interventions aimed at relieving some of the key constraints. Simple improvements in farming implements could contribute to increased productivity. Tools such as scythes and hoes are presently highly rudimentary and their efficacy could be improved through simple research carried out in close consultation with the farmers to identify appropriate modifications that would make the tools more useful to them. This could also eventually be used to promote local artisanal production of these 65 products. Given the shortage of labor frequently experienced at peak harvest times, labor-saving devices for harvesting and threshing could also contribute to better productivity. Scope also exists for improving the plow traditionally used in Eritrea, although it would be important to keep in mind factors such as the strength of the animals to pull a more substantial implement. 5.19 There is also scope for increasing productivity through the use of improved early maturing varieties. Within the country there is a wide range of varieties of major food crops grown, some of which are of poor quality. However, there are also some local early maturing varieties that have great potential for improving agricultural productivity as they are well adapted to local conditions. Field tests in the lowlands have resulted in the identification of a number of such local varieties, particularly barley and millet, that have performed very well under controlled conditions. However, the Government intends to also explore other improved varieties that have already been developed in neighboring countries or at the International Centre for Agricultural Research for the Dry Areas (ICARDA) and examine the performance of such varieties under Eritrean conditions. The basic capability to evaluate varietal performance will need to be given priority. This is an essential step that will enable Eritrea to "borrow" technology from other countries in a systematic and cost-effective manner. 5.20 To address the problem of pest infestation, the Ministry of Agriculture (MOA) has already begun to adopt measures to minimize its harmful effects. A knowledgeable nucleus of personnel already exists in the MOA, both in Asmara and at the provincial and subprovincial levels. However, the MOA is constrained by the lack of availability of adequate pesticides, equipment and vehicles needed to combat pest and disease attacks. There is also a lack of familiarity with up-to-date pest and disease scouting and trapping techniques necessary for the early control of outbreaks and infestations. Measures will be required to improve the capacity of the Rural Development Department (RDD) to monitor and provide early warning on incidence of pest infestations so that immediate control measures can be taken when the area affected is still small and the infestation would be easier to contain. A community-based surveillance and early warning system (SEWS) could be established and supported by the Ministry to ensure early detection and timely control measures. Under this kind of scheme, farmers play the key role in detecting early occurrence of infestations, and in implementing the control measures required. A network of 'observers' could combine pest early warning with the collection of meteorological data, farmgate price information, and advice on crop failure conditions. Measures to introduce integrated pest management into existing farming systems would also need to be developed to reduce the reliance on potentially harmful pesticides. 5.21 The prospects of bringing about substantial increases in productivity through the application of fertilizers in Eritrea, particularly for rainfed farming, appear to be limited at this stage. The use of fertilizers is severely restricted at present because of the lack of soil moisture in most parts of the country and the unpredictability of the rains. The majority of farmers are not prepared to risk investing in fertilizers for fear of crop failure due to drought. Hence even with better availability of fertilizers on the market, farmer response in rainfed areas is likely to be poor. On the other hand, on irrigated plots there would appear to be a much greater potential to increase productivity through the application of fertilizers. When obtainable, chemical fertilizers are regularly used both by smallholders and concessionaires for the production of irrigated cash crops, demonstrating the average farmer's basic awareness of the returns to fertilizer use. 66 5.22 On balance, the scope for increases in agricultural productivity through improved technology and inputs would appear to be good in the short term, although the potential to use fertilizers on a large scale may be limited. The problem lies in farmers' access to such technology and inputs, either through private marketing channels or through the Government. Indeed, one of the main challenges now facing the Government is to strengthen the institutional framework and overall facilitating environment for the development of improved technologies, the provision of inputs and their effective dissemination to farmers. 5.23 Soil Quality. Low yields in Eritrea are also the result of progressive degradation of its soils. While the lowlands are affected to some extent by gullying of vertisols and wind erosion, the area of greatest current concern is the highland zone where the majority of the population lives. Here the loss of topsoil and soil fertility as a result of widespread soil erosion threatens to undermine any future attempts to rehabilitate the agricultural sector in these areas let alone increase productivity. Reliable data on the extent and impact of soil erosion in the country are not available but, based on a limited amount of research work in Hamasien Province2 it appears probable that on a substantial portion of rainfed agricultural lands, soil losses have averaged at least 15 mt per hectare annually, equivalent over a 50-year period, to 4.5 cm of top soil. This is estimated to result in an annual decline of crop production of 0.2 to 0.4 percent annually, and a decline in livestock production of .05 to 0.1 percent annually. 5.24 Some levels of natural erosion are inevitable in Eritrea given its topography. Geological instability and steep slopes, combined with few natural depositional opportunities, result in very high natural sedimentation rates particularly in the lower foothills near the eastern flanks of the highlands, as well as further north in the highlands themselves. There is little doubt, however, that natural erosion has been substantially accelerated by human interaction. The intensive bombing during the thirty-year war of liberation, the demand for fuelwood and building materials by the Ethiopian military garrisons and the clearing of land for timber, fuelwood and for cultivation, have all contributed to the widespread destruction of forests and loss of vegetative cover. This in turn has affected the structural stability of the soils. The loss of trees and hence of foliage, also means that less nitrogen is returned to the system. Furthermore, with the declining availability of suitable fuelwood, many rural people resort to using dung and biomass residue for household energy requirements depriving the land of much needed nutrients. This loss is not being offset by additions in chemical or organic fertilizers or by the use of legumes. Livestock have also contributed substantially in localized areas to land degradation through the trampling of soil resulting in soil compaction and reduced soil infiltration. A steady increase in the human population over the last several decades has meanwhile led to increased fragmentation of land holdings and the pressure to move into marginalized lands. Periods of fallow have been reduced while the continued use of very low levels of technology and inputs has compounded the gradual depletion of soil quality. 5.25 Land Tenure Systems. One important factor affecting land management and hence soil quality has been the nature of the land tenure system. Up to recently, there were three types of land ownership; (i) the demaniale system whereby land was owned by the state and could be 2' A Swiss-funded Ethiopian Soil Conservation Project which conducted work in Hamasien Province, calculated annual rates of soil loss of between 2 and 25 mt/ha were indicated under different land use and soil conditions. These rates were considered low because of the low rainfall in the period of research and were subsequently revised upwards. 67 leased for renewable periods of 20 to 50 years to individuals for commercial purposes; (ii) the diesa system where land was collectively owned by the village community and reallocated to heads of families every five to seven years by a system of drawing lots; and (iii) the resti system which consisted of family ownership of land. The diesa system has prevailed almost exclusively in the highland areas, where the majority of the rural population resides and is generally acknowledged to have had a detrimental effect on sustainable land management. As a result of periodic reallocations, land has become increasingly fragmented and difficult to manage as plots are often widely dispersed. Furthermore, the increasingly small size of the plots has often forced farmers to plow against the contour, exacerbating the risk of soil erosion. It has also diminished the ability of the farmer to practice effective soil and water conservation measures, as it has often made it difficult to share water channels. The land tenure system furthermore has also worked against the integration of crop and livestock production (essentially because the grazing resource is managed communally and usually inefficiently) and thus hindered the potentially beneficial effect of this on the fertility of the land. 5.26 A bold measure to address the land tenure issue was recently undertaken by the Government through the recent approval of a draft land law by the 4th session of the Eritrean National Assembly. This law provides farmers with a life-time right of usufruct over currently held land thereby doing away with the periodic redistribution of land under the diesa system. Every Eritrean citizen over the age of 18 regardless of gender, marital status or tribal origin qualifies automatically for the right to land. A positive effect of this is to put women on an equal footing with men with regard to the right of access to both farming and housing land. Meanwhile, village or family ownership of land is no longer recognized. Ownership of all land in Eritrea has now become the exclusive right of the Government which assumes responsibility for allocating land to users as appropriate. Where the Government takes land from citizens for development or other purposes, the law requires that it pays compensation. The Government intends to register individual holdings and to issue lifetime usufructuary title-deeds to right- holders. While land cannot be inherited or sold by the holder, he or she does have the right to rent out their land or enter into share-cropping arrangements. The holder also has the right to request transfer of their land to another holder and to obtain from the new holder compensation for the investments made on the land. In other words, while the holder cannot sell his or her land, he or she can effectively sell the investments made on it. Full information on the land law is not yet available hence details regarding the specific mechanisms of allocation and conditions of use by commercial farmers, industries or other private entrepreneurs, as well as the proposed process of land use planning is not known. 5.27 The life-time right of usufruct over land can be expected to substantially improve incentives in the short-term for more effective land-use management. However, it is difficult to assess at this point if the exclusion of inheritance rights could conceivably undermine this effect. The rationale for forbidding the inheritance of land lies in the desire to avoid the segmentation of land into increasingly smaller parcels as it is passed down from one generation to the next. But in many countries lack of inheritance rights has discouraged investment. In the case of Eritrea, the potential disincentive effects of lack of inheritance rights may be compensated to some extent by the right to request a transfer of land to another family member - although there may be no definite assurance that such a transfer will be approved. This is an issue which the Government will need to closely monitor to assess its impact. Attention will also need to be given to the manner in which land markets of some kind could eventually be established in order to ensure that the right incentives are in place for long term agricultural growth and sound natural resource 68 management, and also to ensure that dynamic farmers are not constrained from expanding. In addition, it will be important to ensure that while villages no longer retain ownership of land in their immediate vicinity, they continue to play a role in land-use planning and overall management of common property resources. Land 5.28 Land Usage. What is the scope for increasing agricultural production in Eritrea through extending the amount of land under cultivation? At present, the proportion of land that is being productively utilized is relatively small. Table 5.2 provides a breakdown of land use'. This shows that at present only 3.4 percent of the total land is cultivated, the remainder being barren land, woodland, scrubland, browsing and grazing land. 5.29 Preliminary estimates suggest that a far greater proportion of land than is presently cultivated is potentially suitable for productive purposes. Based on general information on soil types and climate, the Ministry of Agriculture estimates Eritrea's arable land to be about 3.2 million or 26 percent of the total area, of which little over 10 percent is currently being cultivated. A recent FAO assessment put the estimate of total arable land somewhat lower at just over 2 million ha or 17 percent of the total land area. This figure includes a tentative estimate of 600,000 ha for irrigated land based on reconnaissance type surveys with, as yet, no hard data on water resources or irrigability of the land identified. Eritrea's greatest potential for significant agricultural expansion without recourse to irrigation lies in the sparsely populated southwestern plains north of the Setit River. Good quality vertisols are found in this area, able to support the production of major food crops such as wheat, maize and barley. The problem here, however, is that the soils are difficult to manage with traditional smallholder technology as they are hard to work when dry and are very sticky when wet. Potential for horizontal expansion of agriculture is also found in the sparsely populated northwestern lowlands area and to a lesser extent in the coastal plains, where large amounts of land remain unexploited. Although soil quality is variable with some soils in the eastern plains having a tendency to high salinity, it is thought that in general the soils of the northwestern lowlands and coastal plains are fertile and could support a wide variety of food and high value cash crops such as cotton and various kinds of oilseeds. Indeed the constraining factor here is water, not soil. The hot-arid climate with a mean annual rainfall of 200 to 400 mm results in very low levels of soil moisture, making the land unable to support agricultural production on any scale except with irrigation. 5.30 The Government's plan is to encourage the expansion of agricultural production in the lowland areas through the granting of concessions to private investors. Concessions granted, or renewed, as of mid 1993 totalled 21,600 ha. Concession requests pending totalled 119,000 ha. The total area desired by concession developers totalled 140,600 hectares. Gash Setit and Barka provinces are the areas in which the highest number of requests for concessions have been made so far (1,201 and 636 respectively out of a total of 2,969 new or pending requests since 1992). The amount of land under cultivation is expected to grow rapidly during the rest of the decade. 9 Data on land use are scarce and figures available must be regarded as initial estimates. 69 TABLE 5.2: LAND USE CATEGORIES Land Use Hectares % of Total Cultivated Land: Rainfed 417,000 3.4 Irrigated Land 22,000 0.2 Disturbed Forest 53,000 0.4 Forest Plantations 10,000 0.1 Woodland and Scrubland 673,000 5.5 Browsing and Grazing Land 6,967,000 57.2 Barren Land 4,047,000 33.2 Total 12,189,000 100.0 Source: FAO Agriculture Sector Review and Project Identification Mission, 1993. Note: Owing to different sources, the statistics cited here may not correspond to those in other tables in the report 5.31 In the highlands, a "green-belt" area on the narrow ridge of the eastern escarpment covering an area of just over 67,000 ha presents the best potential for more extended cultivation. With average annual rainfall exceeding 1000 mm, soil quality in this area is rich and able to support a wide variety of crops. With comprehensive terracing it has considerable potential for increased production of many different crops including coffee, although not on any major scale. At the same time, however, this area is very rich in biodiversity, harboring some rare endemic tree and plant species as well as wildlife. Any plans for extended agriculture in this area would need to be balanced against the desirability of conserving this unique resource. The potential for more extensive agricultural production in other areas of the highlands remains limited. Population densities in these areas are already high and most of the land which is not already being cultivated is of poor quality and marginal, being located on steep slopes or on highly eroded bedrock. However, despite the increasing difficulties being faced as communities grow, relatively few small-holder families are willing to permanently resettle in the lowlands where land is available. This is largely because of the inhospitable climate, the high prevalence of diseases such as malaria, and the almost complete absence of social services and physical infrastructure. Water Resources and Irrigation 5.32 Water Availability. As already mentioned, water availability presents the single biggest constraint to horizontal expansion of cultivated land in Eritrea. Water availability also provides the best opportunity for enhancing agricultural productivity in both the lowlands and the highlands. Where farmers have had access to adequate water, either through rainfall or irrigation, agriculture has flourished. When there has been drought and soil moisture has been depleted, widespread crop failure has occurred. The relevant question here is how much water is in fact available and accessible, and where? And if available, to what extent can increased irrigation contribute to growth? At present little is known about Eritrea's overall water resources potential. However, four main drainage systems can be identified, namely: (i) the Mereb-Gash river catchment, covering an area of about 23,455 km'; (ii) the Tekeze-Setit river basin with a 70 catchment area of 69,000 km2 of which more than 90 percent lies within Ethiopia. This catchment drains into the wider Nile river basin; (iii) the Barka-Anseba river basin, covering an area of about 41,000 km2. The Barka-Anseba river flows into the arid region of Sudan; and (iv) the Red Sea drainage basin which forms a narrow strip of about 44,000 km2 of catchment along the southeastern border draining into the closed Dankalia basin. 5.33 Hydrological data are insufficient to assess the water resources potential of these basins with any accuracy. However, preliminary estimates based on rainfall/runoff relationships indicate that the potential for using surface water from these river basins appears to be limited given that none of these rivers, other than the Tekeze are perennial. Diversion structures would be required to make use of seasonal water, but high sediment loads mean that siltation would threaten to make such structures rapidly inoperable. Systematic investigation of groundwater potential has yet to be carried out for Eritrea and current estimates of water availability can therefore only be made on the basis of interpretation of aerial photography and satellite imagery as well as geological maps. Since Eritrea is largely situated on a basalt complex, there may not be much likelihood that large quantities of groundwater to support sizeable irrigated agriculture can be found, especially in the highland areas. However, fairly good potential does appear to exist for irrigation from shallow aquifers along the main river channels in the Hazumo, Masura and Agordat Plains. Other localized aquifers on the right bank of the River Setit and in the lower parts of the Mereb-Gash, Barka and Anseba basins also appear to offer potential for groundwater abstraction. 5.34 Alternative Irrigation Schemes. Assuming availability of water, the potential for increased agricultural production through irrigated farming by small-scale concessionaires in the lowland river bank areas would appear to be good. These farmers, most of whom use small diesel operated pumps and water from shallow boreholes, are already fairly active in some of the lowlands areas and further expansion of their activities would largely depend on access to improved inputs and markets for their products. Medium-scale concessionaires of which there are presently very few, could encounter a number of constraints such as localized poor water quality, soil drainage limitations and, in some areas, irregular micro-topography which would increase development costs. Because of the requirement to pump water over longer distances than smallholders, irrigation efficiencies are likely to be poor. In order to ensure that schemes are cost-effective, improved efficiency may need to be achieved through the adoption of alternative technologies to surface water irrigation such as overhead or drip irrigation. However, these technologies would not only involve high development costs, but would require a high level of expertise in planning and management. Such inputs could only be justified if high value crops were to be cultivated, the market for which is currently uncertain. 5.35 The possibility of increasing regulated diversion schemes cannot be assessed with any certainty since not enough information is available to evaluate the technical and economic merits of possible projects. Because of the limited duration of seasonal flows of surface water, pumped storage would be required if acceptable yields were to be achieved. This is likely to incur very high costs and would be economically difficult to justify on the basis of returns from single cropping, particularly as some of the areas that have potential for diversions, are also able to sustain rainfed cropping. For double cropping more investigation would be required on prices and potential markets for the crops to be produced so as to assess the feasibility of a diversion scheme. Regulated diversion is currently only being used in two state-owned commercial farms-Alighider, in Gash-Setit, and Elaberet in Senhit province. Both schemes are in need of rehabilitation. 71 TABLE 5.3: IRRIGATION BY TYPE AND PRODUCT (1992) Province Irrigated Main Products Hectares Minor Irrigation: Small Dams, Dug Wells and Borehokes Hamasien 543 Vegetables Seraye 1,145 Vegetables Akeleguzay 461 Vegetables and about 80 ha of citrus Senhit 660 Vegetables and citrus, ratio of 2:1 Gash-Setit 700 Fruit and vegetables Barka 600 Fruit and vegetables Total 4,109 Spate Irrigation Semhar 9,950 Sorghum, millet, maize Barka 140 Sahel 3,040 Akeleguzay 500 Dankalia 2,000 Total 15,630 Regulated Diversion Gash-Setit 1,860 Cotton - The Alighider estate National Total 21,599 Source: FAO Agricultural Sector Review and Project Identification Mission, 1993 5.36 Opportunities for seasonal or spate diversion exist in the eastern lowlands and on the Barka and Anseba tributaries. Spate irrigation currently accounts for the largest proportion of irrigated land-15,630 ha (see Table 5.3). Nearly all of this occurs in the arid coastal plains and relies on the periodic floods of rivers rising in the highlands which are diverted for irrigation purposes. Yields of food crops can be very high compared to other parts of the country, exceeding 3 mt /ha in a good year, with an additional 2 mt/ha from the ratoon crop. A fully controlled irrigation system of this nature, however, would incur high costs while a partially controlled system would risk frequent damage due to the force of the annual floods, and would thus require major maintenance. The other major constraint on spate diversion, is the high sediment load carried by spates. These can block permanent diversion structures and damage irrigation systems by causing rivers to change course. The traditional system of temporary diversion has the advantage of minimizing this effect but suffers from the frequent need to reconstruct diversions. Furthermore, the vegetation needed for such constructions (such as tree trunks and branches) has been over- utilized and is now scarce making such diversion more difficult to carry out. Further study will be required in the immediate future to explore the potential for this form of irrigation. 72 5.37 In the highlands, the greatest potential for expanded irrigation are considered to be community based schemes such as micro-dams. Minor irrigation schemes consisting of water supplied from small dams, dug well or boreholes are already found in the highlands and, to an increasing extent, on commercial farms in the lowlands. Typically, three crops a year are grown- mostly vegetables aimed at the urban market-and financial returns can be high. However, micro- dams face a number of problems. Development costs of dams can be fairly high, depending on size. Thus production from such dams would need to be concentrated on high value crops such as fruits and vegetables. The useful life of such dams can be undermined by the effect of reservoir sedimentation, and the planned size has to anticipate high evaporation rates. Furthermore, dams are also vulnerable to the unpredictability of the rains. To improve the effectiveness of investment in micro-dams, the Government could consider improving the efficiency of dam design, examine different ways of dealing with the high sediment loads, and assist farmers to increase yields per hectare in order to maximize irrigation efficiency. 5.38 Expanding irrigated agriculture requires a phased approach, given the almost total absence of data on water yields and groundwater resources. Short-term measures could focus on rehabilitation of existing irrigation schemes along with the development of small-scale irrigation using storage dams. The controlled development of concessions in the lowlands, particularly small-scale concessionaires is also likely to bring short-term benefits without undermining the longer term water resource potential. Concurrently, the Government could initiate actions expected to yield positive results in the medium term, mainly a comprehensive evaluation of water resources in the major river basins in order to assess the irrigation and hydropower potential of these areas, and a study on spate irrigation in the eastern lowlands. This would need to be done in close collaboration with the Water Resources Department of the Ministry of Mines, Energy and Water. A thorough review of the feasibility study carried out for the rehabilitation of the irrigation system for Alighider state farm is also recommended. In the medium term continued rehabilitation and development of rural infrastructure together with feasibility studies for major irrigation projects in Hazumo Plains, the eastern and the western lowlands might be envisaged. Implementation of major irrigation projects could then proceed in the long term after completion of all necessary studies and preparatory work. SOURCES OF GROWTH tN KEY SUBSECTORS 5.39 The above section has illustrated that the physical capacity to increase production in Eritrea is likely to exist: i) preliminary evidence suggests that the land and water resources are available and ii) the requirements for improving technology are minimal and should be achievable without major difficulties. But what is the supply response of the agricultural sector likely to be in practice? How much growth can realistically be expected given the resources available? Where would the main sources of growth be? In principle the amount of land and increase in yields that would be required to enable Eritrea to cover its food deficit in a good year are within its grasp. Box 5.2 illustrates this argument using domestic food self-sufficiency as a baseline case. Producing to substitute for food imports is possibly the easiest market for farmers to sell to, assuming that effective demand exists. But diversifying into cash crops could raise agricultural growth rates further, providing that markets are available. The following sections examine the potential contribution of different sub-sectors to Eritrea's economic growth. 73 Box 5.2: How CAN ERITREA ACHIEVE GROWTH IN AGRICULTURE? Production of food in 1992 (cereals, pulses and oil seeds) was almost 280,000 tons. Based on a population of 2.3 million, a per capita consumption of 146 kg per annum and an average growth in population of 2.9 percent per annum, grain production would need to increase at about 6 percent per annum from the 1992 figure if demand for food could be met within 10 years (assuming good harvests). Could this be achieved? If the required output (446,955 tons) were to be achieved only from expansion in area cultivated, an additional 294,000 ha would have to come into production, some 80 percent more than is currently cultivated. If average yields were to increase by 50%, an additional 66,000 ha would be required, some 20 percent of the area currently cultivated. Is there sufficient land with good agricultural potential available to support this growth? FAO estimates over 1 million ha are available for rainfed development, mainly in the Gash Setit province in the Southwest Lowlands. At present, some 22,000 ha are irrigated. The scenario developed below would require adding 40,000 ha to this area, taking it to 60,000 ha, over ten years. This appears feasible, although the time period may be tight. Private investment in such development appears to be substantial. If all the area already in concessions, or pending approval, were brought into production, and assuming also that yields in the traditional, non-concessional areas are maintained at 1992 levels, then grain yields on the concession areas would need to average 1.2 tons/ha to eliminate the national food deficit, implying an increase in average country-wide grain yields of about 25% over the 1992 average of 0.74 t/ha. Are such yield increases possible? Most current and projected concession irrigation is from shallow aquifers in and around river beds, mixed possibly with a smaller area under controlled spate irrigation. The highest grain yields in Eritrea are in the coastal province of Semhar. Some 1.8 t/ha was obtained in 1992 from the spate irrigation systems practiced there. Concession requests plus old and new concessions already granted in Semhar, Barka, Seraye, Hamasien and Akeleguzay where irrigation of some type is feasible, total 40,000 ha. If the newly developed land produces at 2.0 t/ha, easily attainable for maize, rice or sorghum (in practice a minimum yield level if profitability on investment in improvements is to be obtained) an incremental 80,000 tons of grain would come on the market, almost 50 percent of the increment needed to supply the domestic market in 2002. Achievement of such yields would require some investment in water control structures, and the use of fertilizer and pest control chemicals. On the rainfed agriculture side, yields in Gash Setit where large tracts of unused land suitable for rainfed agriculture still remain, currently average 1 ton per ha. Concession grants plus requests for land in Gash Setit total 97,000 ha. If this land is developed, and grain yields remain similar to those obtained at present (lt/ha) then the other 50 percent of the incremental domestic requirement would come from this source. The above illustrates that in theory, the supply response of agriculture could be adequate to make an annual growth rate in production of 6% feasible. (The analysis is based on estimates in the concession sector only. Thus any improvements in the traditional sector would only add to growth). In practice, though, market factors might impede the rate of growth. Concessionaires may be unwilling to invest in the production of low-value food crops given that returns may be limited. The market for cash crops, particularly exports, could be more favorable but time and resources will be needed to find appropriate market outlets, improve physical access to domestic and international markets and build up competitiveness. 74 Food Crops 5.40 Potentially there is scope in Eritrea to substantially increase the supply of food crops both through increased yields on existing agricultural land and by extending the amount of land under cultivation. While demand for food is high, the market for surplus food crops is constrained by lack of household incomes and fragmented markets resulting from poor communications and transport systems. In the short term the Government and aid agencies would need to be the main procurers of surplus grain, that is if food aid is to be continued to be used as a safety net for deficit producing areas of the country. Outside the Government, the main potential market for surplus producers could eventually be the urban areas, the population of which is expected to grow over time. Cross-border trade with neighboring countries may have some potential depending on the prevailing food situation in these countries and the price of grain. However, for those farmers able to produce a surplus, production of high value cash crops may hold greater appeal than focussing on the production of relatively low value food crops for domestic or regional markets. Cash Crops 5.41 Horticulture. There has been a long tradition of growing fruits and vegetables in Eritrea. During the period 1965 to 1976, exports of horticulture crops averaged some US$4.5 million annually, representing about 10 percent of all agricultural exports. Most exports were directed at the European markets and Saudi Arabia. Following the advent of the Mengistu regime in Ethiopia and the nationalization of commercial activities in Eritrea, exports of fruits and vegetables fell precipitously from the mid-1970s onwards, to the extent that the volume of horticultural exports has become virtually negligible. 5.42 Fruits and vegetables can be widely grown in Eritrea. However, while vegetable production is to be found in both the lowlands and the highlands, fruit production is found preponderantly in the lowlands. To some extent, the nature of the land tenure system in the highlands has discouraged the use of land for tree crops. Production is scattered over units ranging from 1 ha to 200 ha, the larger units being made up of newly established concessions that are focusing their production on fruits and vegetables. The government-owned Elaberet estate is also an important producer of fruits and vegetables. Most production systems are based on irrigation using groundwater from wells, or in some cases in the highlands, from surface water accumulated in micro-dams. Yields tend to be low as a result of poor quality seeds and difficulties in accessing inputs such as fertilizers. Crop losses due to pest infestation can also be high. 5.43 The domestic market for fruits and vegetables remains limited other than the major urban centers such as Asmara and Massawa. Low income levels and traditional food habits result in a low demand for horticultural products by rural households, while agro-processing remains limited. The main potential for expansion would thus appear to be in the reactivation of the export market. However, there are a number of factors that need to be considered in looking at the extent to which this potential can be fully realized. 5.44 First, the structure of the markets with which Eritrea has in the past had close ties, changed dramatically in the last decade or so with at least 50 percent of all fresh produce now traded through large retail supermarket groups. These groups wield considerable power and particularly in Europe, has changed considerably since the 1960s and 70s. While 20 to 30 years ago the markets in Europe were characterized by a diversity of retailers and importers, this has 75 demand rigorous standards of quality and uniformity not only in terms of size, shape, color and appearance, but also in terms of packaging which, for cost reasons, is increasingly being undertaken in the supplying country. Many retailers are also only prepared to import in very large quantities-possibly exceeding the levels at which Eritrea might initially be able to produce. To meet the requirements of the major buyers, Eritrea would need to establish the storage, quality control, packaging and marketing network necessary to enter and compete in foreign markets. At present few, if any, of these conditions exist in Eritrea. 5.45 Second, there has been a worldwide expansion in the production of fruits and vegetables to the extent that there is now an oversupply of almost every product at most times of the year. Furthermore, some countries such as the Gulf States, that have traditionally been major importers of fruits and vegetables, have begun their own cultivation of horticultural crops further restricting the scope of the market. In order to successfully compete in the export market, Eritrea would need to closely monitor its production costs and exchange rate competitiveness. While Eritrea is closer geographically to some of its potential markets (such as Saudi Arabia and Italy) than a number of its competitors, its labor costs tend to be higher (see Chapter 6 on Labor). The poor state of Eritrea's infrastructure and lack of adequate marketing outlets, particularly in the lowlands where the volume of production is greatest, also adds to production costs. 5.46 There are a number of measures which could be initiated to help Eritrea increase the competitiveness of its horticulture sub-sector. One approach would be to encourage foreign entrepreneurs, particularly from the import side, to supplement or enter into joint ventures with existing Eritrean producers, for the production of fruits and vegetables for the export market. This could be a means of securing the capital to set up some of the necessary infrastructure and marketing facilities to enable Eritrea to enter the export market. This might also be a means of helping Eritrean entrepreneurs become directly familiar with the requirements of importing countries and retailers. Large producers could also act as a magnet for small-scale producers, as used to be the case when the Elabaret State Farm was privately owned and functioned as a marketing outlet and support center to surrounding out-growers of fruits and vegetables. Another measure which could be initiated, possibly through the Chamber of Commerce, is to aggressively seek out new markets through market research and information gathering on prospective markets. 5.47 A number of medium- to long-term measures could be taken by the Government directly to facilitate the development of the sector. One is to support producers through research and extension activities, such as developing better quality varieties and disseminating improved pest control techniques to producers. The other is to initiate improvements in infrastructure, particularly in the lowlands, in order to facilitate easier access to marketing outlets. A further area is broader in scope and would require strengthening the overall regulatory framework to facilitate foreign investment in the sector, and implementing macroeconomic measures to eventually bring a realignment of labor costs in rural areas to a more realistic level, thereby increasing Eritrea's international competitiveness. 5.48 Other Crops. The amount of cash crops, other than horticultural produce currently grown in Eritrea, remains extremely limited. In 1992, oilseeds and cotton, for instance, constituted less than 7 percent of total output. At the peak period of agricultural exports in 1974, sesame seeds constituted 38 percent of total agricultural exports with dry legumes (lentils) contributing a further 18 percent. Cotton growing has been undertaken on a large scale on the Alighider State Farm in the western lowlands, but production has fallen dramatically with the deterioration of the farm's irrigation facilities in recent years. The extent to which any of these crops can make a significant 76 contribution to growth remains uncertain at this stage. Certainly, there would appear to be good potential for the expanded production of sesame seed for the export market, given its high world market price of some US$900 per ton in 1993. A growing market for sesame seeds exists in most of the developing world and particularly in Asia. Sesame also has the advantage that it can be grown under rainfed conditions, precluding the need for costly irrigation. It also requires little other cash investment on the part of the farmer in order to grow productively. 5.49 While present demand for agricultural raw materials by domestic industry remains low, some demand for cash crops may be generated in the future by domestic industry, most notably by textile mills (see below). However, the nature and extent of this demand is difficult to ascertain at present given the extensive rehabilitation that the industrial sector will need to undertake. Present demand for agricultural raw materials by industry remains low. Increased demand will depend on the extent to which domestic, regional an international markets can be found for Eritrean industrial goods (see Chapter 4 on Enterprise Development and Chapter 3 on Exports). 5.50 Meanwhile, identifying potential crops that could justify investment in large-scale irrigation in Eritrea, remains problematic. As mentioned above, cotton is already grown and is well suited to the agro-ecological conditions of the lowlands areas. There is potentially large domestic demand from the textile mills in Asmara which are currently working below capacity for lack of raw materials. A recent study on the Alighider Farm indicates that cotton could be produced at or below the import-parity price for the domestic market taking into account the cost of rehabilitating the farm's irrigation infrastructure. However, the extent to which cotton production would be feasible for new irrigation schemes, when the full cost of capital construction would have to be taken into account, is uncertain. Based on recent FAQ estimates of farm budgets, it is unlikely that cotton could be produced at export-parity prices or at much below import-parity prices, making the cost of domestic production of cotton relatively high compared to other countries. 5.51 In some areas of the lowlands, concessionaires have used irrigation to grow fodder for the raising of livestock. The returns on their investment are thus obtained through the income generated in selling off large volumes of livestock particularly sheep. However, this use of irrigation has not been evaluated and its potential for this purpose cannot be assessed at this stage. Meanwhile, identification has yet to be made of alternative high value crops, other than cotton, which could be developed to serve either the domestic or the export market and which could justify the development of large-scale irrigation schemes. Livestock 5.52 The livestock subsector represents an important potential source of growth for Eritrea. While the subsector is presently in a reasonably efficient and robust state, the scope for improved productivity of livestock and livestock by-products such as milk, eggs, and hides through improvements in animal husbandry, forage production, nutrition and breeding, and the alleviation of certain supply constraints, could be significant. Livestock resources currently account for a major portion of rural household incomes and make a significant contribution to the Eritrean economy and exports. Throughout the country livestock plays an important role in the agricultural system and it is control over livestock that often differentiates between the poor and non-poor. In addition to providing livestock products the subsector makes an important contribution to crop 77 TABLE 5.4: EsrIMATED NUMBER OF LIVESTOCK BY PROVINCE (1992) ('000 HEAD) Cattle Sheep Goat Camels Equine Total TLUlRural Provinces TLU Household Total of which oxen Hamasien 110 54 90 20 0 71 132 2.3-2.89' Seraye 119 52 60 60 0 43 121 1.3-1.6 Akeleguzay 78 42 123 245 4 67 132 1.6-1.9 Semhar 28 11 40 260 15 14 68 2.1-2.6 Senhit 135 42 100 480 34 31 197 4.5-5.5 Gash-Setit 380 51 140 530 21 13 352 7.4-8.6 Barka 343 37 180 1021 56 15 406 7.0-8.5 Sahel 28 14 82 1401 46 7 190 3.3-4.0 Dankalia 39 8 35 135 9 7 55 2.8-3.4 Total 1258 311 851 4,153 185 268 1652 3.34.0 Source: MOA and FAO Agricultural Sector Review and Project Identification Mission, 1993. Note: TLU stands for Tropical Livestock Units. farming by providing animal manure, particularly for small-scale irrigated farming, and draft animals for plowing. Equines and camels are the main means of transport in rural areas; many areas can only be reached by pack animals. The 1992 national livestock population, based on the veterinary service's estimates, consists of about 1.30, 5.00, 0.19, 2.50, 0.04 and 0.08 million cattle, sheep/goats, camels, poultry, pigs and equines respectively. 5.53 Statistical and other estimates indicate that cattle numbers fell from a maximum of about 2.5 million in 1972, to about 1 million by 1987, while the corresponding numbers for sheep/goats are estimated at about 5 million in 1972 and 3 million in 1987. Although some of the decline in numbers was due to disturbances associated with the war of independence, the decline was exacerbated by severe drought and a cycle of low rainfall during the last two decades. The present health of the livestock population remains satisfactory, however, with vaccination campaigns being carried out effectively by a small but relatively efficient veterinary service. Feed availability is the most important single constraint facing further expansion of the livestock subsector although the present supply of by-products appears adequate to meet demand at this stage. However, the potential for crop and forage is limited and consequently the potential increased supply of by-products is limited. Consequently, any improvement in crop production will automatically benefit livestock by increasing the supply of straw and other by-products. 3 Based on an estimated total population ranging from 2.3 - 3.5 million 78 5.54 In the traditional sector, indigenous cows, goats and occasionally camels, are milked and their production accounts for the vast bulk of the country's milk production. Milk is primarily consumed by the household and the surplus milk is usually sold or, more often, made into ghee and sold as the need for cash arises. Traditional farmers, living close to urban areas, sell fresh milk to town dwellers. Intensive commercial peri-urban dairying used to be practiced around Asmara, when some 6,000 exotic milk cows were kept under modern farming. However, this was disrupted by the war with the number of cows falling to nearly 1,200 (see Table 5.4). Farmers are organized into an association and sell milk to a public milk plant which in tum sells the processed milk directly to households. The plant, which has a pasteurizing capacity of 12,000 liters a day is in a precarious operational state and is currently only pasteurizing about 7,000 liters a day. The state farm of Elaberet also retains some 220 exotic dairy cattle. An elaborate though outdated cheese and butter factory is operated by the farm, where the milk produced is processed for the domestic market. While there is a good opportunity to expand peri-urban dairying, a number of problems would first need to be addressed. Expert advice is required to improve feeding and nutrition practices which are unsatisfactory and adversely affect the health and productivity of the cattle. Housing and husbandry also need substantial improvements. Meanwhile, artificial insemination performance remains poor with low rates of both insemination and conception. In addition, there are no control programs in place for mastitis and diseases such as brucellosis and tuberculosis. 5.55 Meat production is undertaken both in the home and at municipal slaughter houses and functions satisfactorily. However, as animals are traditionally regarded as both reserve food and wealth, the offtake tends to be small (about 8 to 10 percent for cattle and 20 percent for goats and sheep), this possibly accounting for the relatively high price of meat in the country. Eggs and poultry are more widely available with traditional backyard poultry production being the main source of supply. A small commercial poultry section also exists in Asmara supported by the Ministry of Agriculture which sells poultry feed and two-week old chicks to small conmmercial producers in Asmara at subsidized prices. This sector appears to be highly profitable suggesting that a phasing out of subsidized support to the supply of chicks and feed may be warranted in the near future. 5.56 In general, the livestock sector in Eritrea is functioning reasonably efficiently but there is scope for improving livestock quality and productivity. In the short term the greatest immediate benefits could be obtained from focusing on measures to enhance productivity in peri-urban dairying such as improved animal husbandry practices, disease control and housing. This could be achieved through improving the knowledge and skills of extension agents in these areas and enabling agents to transfer these skills to farmers engaged in peri-urban dairying. Training is also required of professional animal specialists as the available mix of skills is minimal. In the rural areas, further strengthening of livestock support services including range management, extension and veterinary services would appear to be the most important short-term priority, with attention given to privatizing some of the services and inputs currently being provided by the Govermnent. Traditional poultry production, small-scale commercial poultry development and production of small ruminants also presents potential for growth in the short term. Productivity gains in these areas could be achieved through the development, demonstration and dissemination of better feeding, husbandry and management practices as well as support for marketing. 79 5.57 In the medium term, improved forage production will be required to ensure adequate nutrition of livestock both in the peri-urban dairying subsector and for pastoral livestock. This could be done initially on a pilot basis to test the potential for herbaceous forage and trees in the different agro-ecological zones found in Eritrea. Improved technologies and practices could then be fed into the research and extension system. In addition, stock improvement through improved breeding methods needs to be introduced for dairy animals through for example, attaining greater efficiency levels in artificial insemination programs. Also, the scope for the wholesale export of live animals and the linkages with the leather industry need to be strengthened. There would appear to be considerable potential for exporting to the Saudi Arabia market where demand for livestock imports is high, and where its close proximity would give Eritrea a comparative advantage over other exporters in terms of transportation costs. Fisheries 5.58 Eritrca has a coast line of more than 1,000 kIn, with the continental shelf covering more than 52,000 square kms within the Eritrean Economic Exclusive Zone. There are abundant marine resources off the coast of Eritrea of which only a small proportion is currently being exploited indicating that the potential for substantial growth in this subsector could be significant. Maximum sustainable fish production is estimated at 55,000 tons per annum of demersal species and 18,000 ton per annum of pelagic fish. In addition there are rich quantities of high-value marine species such as shrimp, lobster and shark. Current estimates (see Table 5.5) indicate that the country could potentially enjoy an annual revenue of US$55 million if all available resources were to be fully utilized at the maximum sustainable level, representing an increase of over 20 times the present level of utilization. The fishery industry in Eritrea suffered during the years of liberation struggle with the number of full-time fishermen falling from about 20,000 to a few hundred. Fishing boats and fishing gear fell into disrepair and inshore processing facilities were almost completely destroyed. Although the Government sees great potential for export earnings from fish production, significant improvements in infrastructure and services will be required to make this possible. In addition, improvements in marketing and provision of support services will be necessary to ensure that fishermen can operate profitably. Of the limited catch obtained each year, over 80 percent is currently sold to Saudi Arabia or Yemen where fishermen are able to obtain better prices for their catch in currencies that also allow them better access to fuel, spare parts and consumable items that are currently less readily available in Eritrea. 5.59 The Government has recently initiated a program of rehabilitation of the fishery sector with the assistance of the UNCDF-financed Semhar Fisheries Project as well as UNDP support for fisheries development planning and management and FAO/NORAD assistance for domestic fish consumption promotion. The latter program forms part of a government campaign to encourage people to consume fish as an alternate source of protein to meat, eggs and legumes, given the abundance of the country's marine resources relative to other sources of food. The price of fish is controlled accordingly so as to make it competitive with these other items. The Government is also subsidizing producer prices by providing reduced distribution and storage rates and selling ice produced at the government-owned ice plant in Massawa at below production cost. It is too early to tell what impact this approach will have in improving the nutritional status of the population and in changing long-held eating habits. Traditionally, the majority of the Eritrean population, particularly in the highlands, do not eat fish. 80 TABLE 5.5: MARiNE FISH UTILIZATION AND POTENTIAL Species Group of Fish Present Use Maximum Potential Sustainable Yield (ton) Catch Revenue Market Revenue (ton) (Br '000) Price (Br '000) (Br/ton) 1. Small pelagic fish Negligible 0.0 50,000.0 360.0 18,000.0 2. Large pelagic fish 100.0 400.0 5,000.0 5,760.0 28,800.0 3. Demersal fish 2,150.0 8,600.0 18,000.0 8,640.0 155,520.0 4. Shrimp Negligible 0.0 500.0 36,000.0 18,000.0 5. Lobster 0.5 20.0 500.0 86,400.0 43,200.0 6. Shark 2,600.0 5,102.0 5,000.0 - 9,843.0 TOTAL 4,580.5 14,122.0 79,000.0 - 273,363.0 Source: Ministry of Marine Resources and Inland Fisheries 5.60 The Government's aim is to encourage private development of the fisheries industry and to focus in particular on local processing to maximize value added. To attract potential investors, a number of actions have already been initiated or identified. Under the UNDP/FAO Fisheries Development project, a fishery resources survey is planned. This will provide an important basis for a more exact estimate of maximum sustainable yields and is essential to ensure that these resources are not depleted through overexploitation. Large-scale rehabilitation of the coastal infrastructure including processing and storage facilities, roads and major ports, will be a high priority as will be the training of personnel to handle fish processing and other related functions. Legislation governing the according of fishing licenses will need to be finalized and an effective system of enforcement established. Most importantly, the Government will need to review its pricing policy to ensure that sufficient incentives are in place for fishermen to sell to domestic fish processing plants rather than directly to neighboring countries. MANAGING AGRICULTURAL GROWTH 5.61 In order to foster increased growth in the agricultural sector, the institutional and policy framework including the effectiveness of agricultural support services, will be an important determinant of performance. There are a number of issues which are pertinent in this context and which the Government may need to address so as to ensure that the sources of growth identified above can be effectively tapped. Institutional Support 5.62 Improvements in technology and farming practices, and incentives for increased agricultural production, can only come about in the context of a favorable facilitating environment. The role of the Government and the support it can provide to the agricultural sector become important in 81 this context. The institutional arrangements that currently govern the agricultural sector in Eritrea have their origins in the Eritrean People's Liberation Front's (EPLF) efforts during the war of liberation to provide support to farmers in the form of inputs and technical advice. This operation, which was highly effective in its time, is now being transformed into an institutional set-up with a much broader mandate and facing increasingly complex issues of coordination and interaction with other sectors of the economy. 5.63 Overall management of the agricultural sector is undertaken through the Ministry of Agriculture3" which has eight operational departments: (i) administration and finance; (ii) agricultural research and training; (iii) animal resources; (iv) commercial agriculture; (v) farm machinery; (vi) land resource and environment; (vii) planning and programming; and (viii) rural development (shortly to be renamed rural development and extension). This organizational structure is largely reproduced at the provincial level except for agricultural research and training which remains a central function. Representation at lower administrative units is not uniform and depends on availability of staff and on the importance of agriculture in the particular subprovince or district. The present structure of the MOA is currently under review. The Ministry presently suffers from a lack of adequate numbers of skilled and experienced technical and professional staff. Many staff have appropriate professional credentials but are no longer up to date on the latest developments in their area of expertise as a result of spending many years as freedom fighters. Lack of staff with experience in planning as well as a dearth of reliable data (particularly historical data) on the sector, constrains the ability of the Ministry to undertake comprehensive agricultural policy analysis. The Ministry also suffers at all levels from a lack of office and technical equipment, including data storage and processing capacity, as well as adequate means of transportation. 5.64 Extension and Research Services. Extension services, which come under the Department of Rural Development, are currently weak due to lack of resources and trained manpower, and due to the limited availability of improved technologies to extend to farmers. Staffing, which was until recently limited, has been increased with the recruitment of 1,000 high school leavers as extension workers and enumerators. However, they need to acquire sufficient practical skills and experience to make them useful to farmers. Research services come under the Agricultural Research and Training Department. This department has just six graduate staff and lacks the facilities, equipment and resources to make a substantial impact. Principal agronomic activities so far have been a small number of field experiments and observation plots dealing with cereals and vegetables, the collection and identification of different pests and field testing of various pesticides, and a limited amount of soil survey work. The most important activity has been the establishment of a gene bank where 50 accessions of different strains of indigenous crop species have been collected and stored. So far no work has been undertaken in forestry and engineering due to the lack of qualified personnel. The main research station is in the center of Asmara but lacks adequate land for field experiments. A research station for the lowlands is now being developed in Shambuco in the Gash-Setit Province but it will take time before this is fully operational. 31 Fisheries is handled by the Ministry of Marine Resources. 82 5.65 Capacity and Functions of the Ministry of Agriculture. There is clearly a need for the MOA to build up technical expertise. Less clear is how the MOA should organize itself, given limited resources and many competing demands for its services. At present, its activities range from delivering and distributing agricultural inputs to farmers, to overseeing the two state farms under its jurisdiction, to providing subsidized tractor services to both smallholder and concessionaire farmers, to constructing micro-dams and overseeing soil and conservation works, and to administering a program of agricultural credit for small landholders. Many of the Government's activities are being undertaken in the absence of a viable private sector alternative, though it is the Government's declared intention to encourage the private sector to take over many of these functions in the medium to long run. Eventually it would make sense for the Government to limit its services to relevant policy making and regulatory functions, and to the provision of public goods where the private sector response will be inadequate. Policy analysis and general direction for measures to liberalize markets and improve the business environment are functions which only the Government can fulfill. The formulation of regulations providing for sustainable and equitable natural resource exploitation, and the monitoring of environmental concerns are also appropriate Government functions. Research and extension are clearly areas where the Government should be involved, at least in the immediate future, importing and testing relevant technologies, and disseminating such technologies and farming practices to farmers. 5.66 The organizational structure of the Ministry and the overall number of staff which it employs is another area requiring close attention. Clearly, maintaining a streamlined government structure with a small, well paid and highly qualified core of staff, would be a preferable alternative to an expanding and, most likely, increasingly inefficient and hence ineffective bureaucracy. Ultimately, the optimum level of staffing and the structure of the Ministry will need to be based on a clear agricultural development strategy which defines the function of the Ministry and the people in it. The Ministry's organizational structure should also allow it to effectively perform its functions in implementing the development strategy. The extension service is one area where the Government may need to pay particular attention in terms of staffing and structure. A gradual building up of the extension service based on a careful evaluation of approaches and programs to strengthen skills and experience may yield greater benefits in the longer run than attempting quickly to meet all extension requirements. Establishing a unified extension system covering both agriculture and livestock could further enhance efficiency and streamline costs. Meanwhile, the existence of well developed organizational structures at the conmmunity level, principally the village baitos, may serve to greatly facilitate dissemination of skills and technologies and possibly allow for a less diffuse expenditure of time and energy on the part of extension agents. "Model" farmers who are identified to try out new varieties and farming practices and disseminate these to neighboring villagers, are already used quite widely, and this system could be built on further. 5.67 With regard to research, the organizational priorities would be to limit the Government's activities to functions which are most effectively carried out locally. For instance, the Government should review the advantages and costs of maintaining a national gene bank, since this is a very sophisticated and expensive undertaking and could result in the unnecessary duplication of efforts already undertaken in other countries. Many developing countries have relied on gene banks of the international agricultural research centers and of larger developed countries rather than maintaining their own banks. In addition, given the constraint on resources, it would be advisable to limit the number of research stations to just two, concentrating on applied rather than basic research. Such research should ideally be suited to local, agro-ecological conditions and be farmer-driven, linking research efforts with extension services. In this respect, the existing baito system provides a sound mechanism for coordinating and communicating 83 farmer concerns through the extension structure to research and policy agencies. Finally, the Government might wish to explore establishing twinning arrangements with an intentional agricultural research center with expertise in arid and semi-arid agriculture, e.g., ICRISAT in India, or ICARDA in Syria. This could provide on-the-job or hands-on training of the Agricultural Research and Training Department staff, short-term training, and technical and equipment support as well as consultancy services. Rural Credit 5.68 Lack of adequate access to credit can pose a major constraint to agricultural growth. At present, the main source of institutional credit is the Commercial Bank of Eritrea (CBE). Current lending of the CBE is basically short term and geared towards traders who are considered to be relatively low risk customers. Agricultural lending is minimal being less than 5 percent of total credit, and is currently being made available only to commercial farmers. About 80 percent of this is to the Aligheder State Farm. The CBE does not lend to smallholders, who are considered high risk borrowers. Indeed, the high incidence of crop failure due to drought and pests, and the lack of collateral, caused in part by the prior land tenure system, makes the average farmer a poor prospective client for any financial institution intent on retaining its commercial viability. However, without any source of credit, the average farmer is unable to access improved technology or inputs or have the resources to make other kinds of investments on their land. 5.69 Up till now, the Government has been attempting to circumvent this problem by providing credit directly to farmers through its central and provincial offices. This is recognized as not a viable option in the long run given that the Government does not have the resources to monitor repayments, and given also the risk of such credit being eventually viewed by farmers as a government hand-out and a right, thus obviating the necessity of repayment. Some initial steps have been taken to scale-down the Government's role in the allocation of credit by establishing a special window within CBE for the channelling of medium and long-term credit to rural farmers utilizing funds being made available under the RPPE. Meanwhile the Agricultural and Industrial Development Bank (AIDB) is in the process of being reestablished and studies are being completed by the Government on rural credit. The Government's objective is to establish a more enduring mechanism for channelling credit to rural communities than currently exists, one that can be financially viable in its own right without the need to rely on external funding for its lending. Some pilot projects utilizing different credit mechanisms have been initiated for this purpose. For example, the provincial government in Seraye Province with the support of the British NGO, ACORD, has established a revolving fund for income-generating activities, managed by four pilot communities. Relying on group borrowing and moral suasion as a substitute for collateral, this scheme has had some initial success in delivering credit and ensuring repayment. 5.70 The Government also intends to examine the experiences of other countries in providing rural credit. Some of these have yielded lessons which could be relevant and useful to Eritrea's own situation. The most successful schemes (such as those of the Grameen Bank in Bangladesh, the Badan Kredit Kecamatan (BKK) in Indonesia, and to some extent the Rural Savings Cooperatives in Benin) started small, have concentrated on mobilizing savings and have created viable financial systems that ensure that the spread between interest rates on deposits and loans have been sufficient to fully cover operational costs without the need for external subsidy. In addition they have all been successful in ensuring high repayment rates. Many have relied on group borrowing as a collateral substitute, as well as on local knowledge of the reliability and credit worthiness of prospective borrowers. The long-term success of these institutions derives 84 from the efficiency and stability of their operational structure, rather than their capacity to rapidly distribute credit. 5.71 In Eritrea, the baito system could provide a unique framework on which to base a community-managed credit system. This could build on traditional borrowing mechanisms, which often take the form of rotational borrowing by individuals forming part of a larger group. Technical assistance from the Government or a designated NGO could assist communities in formalizing these systems so that larger sums of money could be pooled. However, of particular importance in the Eritrean context, given the susceptibility to crop failure, will be to devise some system of communal insurance that can protect local rural institutions in the event of widespread repayment default as a result of a natural catastrophe such as drought. Provision of Inputs and Role of Private Sector 5.72 Given the poor state of the agricultural sector following decades of war and the need to boost agricultural production, the MOA continues, for the present, to play the major role in overseeing the supply and distribution of inputs. In 1992, this consisted mainly of free distribution of seed for arable crops and oxen, and subsidized sale of fertilizer, pesticides and farm tools and implements, chicks and vegetable seed. In addition, input supply on credit, administered through provincial government offices, has been made available for the purchase of draught animals and small pumps. Recognizing its own resource constraints, the Government has indicated its objective is to shift away gradually from public provision of inputs and services and towards a greater role for the private sector. Private sector provision of inputs and services to agriculture is likely to be more efficient than public intervention, and an additional means of stimulating off-farm income in the rural areas. Since the beginning of 1993, efforts have been made to begin phasing out free and subsidized input supply and to let farmers buy inputs as they require them. Nevertheless, while there are encouraging signs of private sector revival among traders and transporters, there is still limited private sector capacity to take over input supply or any other services currently undertaken by the Government. This is largely because of weak m-arkets due to limited purchasing power or access to credit on the part of farmers, fragmented m,arkets and the high costs of accessing some of the more remote areas of the country. Government measures to address these problems will need to be directed at strengthening rural financial services, facilitating market information and improving transport infrastructure. 5.73 In addition to phasing out Government involvement in input provision, the Government is also addressing the issue of privatizing state owned agricultural operations. The previous regime, which had brought about wide-spread state ownership, has left the present Government with responsibility for two large agricultural estates, Alighedir and Elaberet, as well as a number of agro-industrial and input production facilities. The Government intends to turn these enterprises over to the private sector as soon as possible. The form in which this will be done has not been specified. A joint venture with a foreign company is one option under consideration. At present the Government is engaging in substantial rehabilitation of both estate farms prior to their eventual sale. Although both estates could potentially contribute substantially to crop production and employment generation, the rehabilitation of these estates prior to sale may in the end incur substantial losses for the Government, as it is not certain that they will be able to obtain a price for this property which will be sufficient to recoup the costs of rehabilitation. A rapid transfer of the two estates to private hands would probably be in the best interests of the Goverment, even if the price obtained for the two estates could be expected to be modest given their current state of disrepair. 85 Agdicutural Prices 5.74 Officially, the Government's policy is to allow the market to determnine agricultural prices. However, there have been occasions where local surplus production of grain or vegetables have led the Government to intervene so as to stabilize prices at levels that cover production costs. The price of fish is currently also controlled. In addition, the Government also continues to subsidize a variety of inputs and services. While it may be reasonable to expect that Eritrean farmers would respond positively to improved prices that would follow full price liberalization, the supply response may not always be as strong as expected. This is because most Eritrean farmers are not surplus producers. Furthermore, most farmners' primary concern is to protect themselves from potential starvation and, as such, production choices tend to be highly conservative. In many instances, there will be a desire to stick primarily to the production of basic food crops even if cash crop prices are relatively high. While a policy of market pricing needs to be rigorously pursued, it is equally important to eliminate bottlenecks in the system to ensure that markets can operate efficiently. 5.75 The situation regarding pricing is also complicated by the fact that producer prices have generally been highly volatile, particularly for food crops, posing difficulties for farmers in surplus areas. For instance in 1993, surplus food producing areas such as Gash-Setit experienced a dramatic fall in the price of crops due in part to the difficulty in accessing markets of food deficit areas. Prices fell from more than Br 100 per quintal in 1992 to Br 35 in 1993, this being well below the cost of production. Motivated by a desire to bring stability to the grain market, the Grain Board was established by the Government in early 1993. Its function is to stabilize producer prices and to secure a national food reserve for drought situations. In 1993 it intervened to buy up surplus grain in the lowlands provinces of Gash-Setit and Barka paying Br 60 to Br 65 per quintal, estimated to be approximately 15 to 20 percent above production costs. The grain was subsequently sold at a profit to an international NGO which eventually redistributed the grain as food aid. 5.76 Lack of equipment, personnel and storage facilities currently limit the Grain Board's activities. But the eventual scope of its activities will need to be considered with care. Future intervention to stabilize prices will need to involve a sufficiently broad spread between the intervention price at the producer level and the release price at the consumer level so as to provide adequate incentives to the private sector to enter the market, and to ensure that operating costs including storage and interest (on inventory) costs can be covered. In other words, the Grain Board would need to operate without the assumption that part of its costs could be subsidized by the Goverrnent if necessary. This is particularly important to avoid undercutting private traders who would not be able to operate at the same margin as the Grain Board were the spread too narrow, and hence would be dissuaded from entering the field. It would also be important for the Grain Board to act only as a "buyer of last resort". In the long run it would be more effective for the Government to address the underlying causes of price fluctuations such as inadequate infrastructure that results in fragmented markets and impedes the development of competitive markets. Commercial Farming 5.77 In order to increase agricultural production, the Government has been encouraging commercial agriculture through the granting of concessions on land to private entrepreneurs. Nearly all of these concessions have been granted for lowlands development. Given low land 86 population densities and the small percentage of land currently under utilization, the Government views this as the most efficient and effective strategy to obtain large-scale production gains in these areas in the short run. Commercial farming was once a flourishing sector but collapsed during the 1970s with the nationalization of almost all commercial enterprises in the country. Two of the largest commercial operations, namely the Alighider cotton estate in Gash-Setit, and the Elaberet estate in Senhit, continue to operate under public ownership. The main crop produced on the Alighider farm is cotton which is supplied to the Asmara Textile Mill. Elaberet is a multi-enterprise complex producing fruits, vegetables, pork, milk and milk products both for the domestic market and currently to a lesser extent, for export. In former times Elaberet acted as an important focal point for "out-growers", small producers operating in the vicinity of the estate who were able to benefit from technical advice, inputs and financial assistance from the estate as well as a marketing outlet for their produce. The Government intends to sell both of these farms to private investors. 5.78 Most of the concessions are located or will be located in the flood plains of the lowlands and are designed to rely on irrigation from shallow aquifers by pumping from dug-wells or boreholes. The focus of production is on high value fruit and vegetables such as bananas, onions, papayas, tomatoes, bell peppers, eggplant and okra. Standards of cultivation and input use are variable and there is a need to strengthen management. As most commercial farming activities have only recently been initiated, it is still too early to assess their impact on agricultural growth. A few issues, however, deserve attention at this point. 5.79 First, the size of concessions that are being allotted may need to be monitored. Given the low fee that concessionaires pay for land, there is little incentive to ensure that the full extent of the land is properly cultivated. In some instances smaller sized holdings may be more efficient. However, given the shortage of labor and the nature of the soils in the area (which in many instances require mechanized farming) some difficulties could be encountered in achieving the economies of scale required to make these operations profitable. At any rate the Government may need to consider instituting some mechanisms, such as a higher land tax, to ensure that prospective concessionaires do not ask for more land than can be utilized. Second, it will be important to develop better marketing outlets and road infrastructure to make commercial farms more competitive and better able to respond to production incentives. Third, there may be a need to more forcefully monitor the environmental implications of widespread commercial farming in the lowlands, particularly the impact on water utilization and the clearance of the already scarce natural woodland in the area. Rules are in place to prevent concessionaires from cutting trees within a distance of 50 meters from a river bed, and an obligation exists for farmers to replant trees. But the extent to which these provisions are being observed is uncertain given the limited ability of the Ministry of Agriculture to monitor activities in the lowlands areas. In addition the rate of expansion in cultivation in the lowlands areas, which is becoming increasingly rapid with the return of refugees from Sudan, may need to be carefully monitored in order to avoid potential disruptive effects on transhumance and conflicts between farmers and pastoralists for land and water. FOOD SECURITY AND FOOD AID 5.80 The underlying impetus behind most of the Government's efforts to encourage agricultural development and growth is the need for food security. While over 30 years ago, Eritrea was self- sufficient in food, this situation has changed dramatically in recent times. It is estimated that since the mid - 1960s, Eritrea has never been able to meet more than half of its cereal requirements 87 from domestic production whilst in most years the food gap has been as much as 70 to 80 percent of needs. Even in 1992 when record harvests were obtained, the country was able to meet only 42 percent of its cereal requirements.32 The size of the food gap is uncertain given that estimates on the size and stratification of the population remain approximate. Also, the aggregate figures mask the substantial regional variations in production. Some areas such as Gash-Setit, are often food surplus areas, but poor roads and communications impede the distribution of this food to other markets. Nevertheless, even allowing for substantial variations in population figures and regional disparities, the domestic food situation in Eritrea remains precarious, and the purchasing power of the average rural household is extremely limited. 5.81 Eritrea has been receiving substantial quantities of food aid for a number of years. Table 5.6 provides total figures for yearly supply of food aid from various sources since 1986. Food aid from all sources is currently channelled through the Eritrea Relief and Rehabilitation Agency (ERRA) which coordinates distribution throughout the country. While food aid has undoubtedly played an extremely important role in staving off the worst effects of drought and famine, there is concern that the impact of food aid on crop production may be detrimental in some instances, depressing food crop prices. The evidence for this is scanty and it is uncertain how far the fall in food crop prices that occurred in 1993 in surplus producing areas such as Barka and Gash-Setit was the result of excess food aid being distributed in the market, rather than the difficulty in getting produce from the surplus areas to the deficit areas, resulting in a glut on some local markets. There have also been cases reported of food aid being sold on the market, further driving the price of cereals below a level at which farmers can cover their costs. Accounts of such distortions are however, anecdotal and so far there are no systematic data on the effect of food aid on local food production. TABLE 5.6: SUPPLY OF FOOD AI) Year Est. Domestic Food Gap Food Aid Received Production 1988 (not available) 193,050 107,138 1989 " 188,700 87,280 1990 337,500 182,561 1991 436,000 300,000 1992 275,728 190,000 88,977* 1993 90,000 360,000 est. Source: ERRA Annual Reports; WFP * As of October 22, 1993 32 Assuming the official Government estimate of a 3.5 million population. 88 5.82 The Government's long term objective is to move Eritrea away from a situation of dependency on external food aid to one of food security based on the ability to generate sufficient exports and foreign exchange earning capacity to ensure that sufficient food can be imported for Eritrea' needs. Food self-sufficiency, though theoretically possible (see Box 5.2) is not considered by the Government to be the most efficient or effective way of bridging the food gap. Diversification into cash crops for export could ensure the availability of much greater amounts of food for the country than attempting local production. Ultimately, with growing population pressures on the highlands, and the probability of increasing employment opportunities in off- farm activities, other sectors such as manufacturing and service industries may provide the main impetus for long-term food security in Eritrea. 5.83 The achievement of food security will be a lengthy process and, in the interim, continued reliance on food aid may be unavoidable. Some measures could, however, be taken to facilitate adjustment to fluctuating output of staples. One is the establishment of an early warning and food information system. The second is the establishment of a short-term national grain reserve to bridge the gap between the occurrence of a shortfall and the arrival of food aid. This is a task that has already been assigned to the newly created Grain Board. However, efforts will need to be focussed on keeping the target size for the reserve as small as possible given the high cost of storing grain. Ideally the storage volume should not exceed three or four weeks of emergency supplies. In the longer term a "financial reserve" rather than an "in-kind" reserve may be warranted enabling food to be purchased on the world market in the event of a significant short- fall in agricultural production, and imported rapidly into the main markets without many of the physical problems and high costs of grain storage. Meanwhile, attention will also need to be paid to closely monitoring the scope of the Grain Board's activities to ensure that these do not adversely distort the normal functionings of the market but are restricted to overcoming temporary supply bottlenecks. 89 6 LABOR MARKETS AND EQUITABLE GROWTH INTRODUCTION AND SUMMARY 6.1 Eritrea's most valuable resource is its people, and given the lack of adequate investment in capital and land during the past three decades, labor is the most important asset in terms of future growth. While it is important for Eritrea to invest in capital and land, labor will be pivotal in the early stages of development. Issues related to labor markets will be central to economic performance, poverty reduction, and the lives of most Eritreans. 6.2 Like the other sectors, decades of war, negligence, and centrally planned policies of the Ethiopian regime had a devastating impact on the functioning of labor markets. Eritrea has inherited weak institutions, a civil service that is being developed almost from scratch, and skill shortages on a large scale in a wide variety of sectors. Skill shortages coexist with high unemployment rates. In the urban areas, because of past restrictions on the private sector, the public sector has come to dominate formal sector employment. Past policies, in combination with a neglect of infrastructure, also resulted in reduced labor mobility, although a number of Eritreans were forced to leave the country, by the military regime, in search of work abroad. In rural areas, labor markets regressed as commercial farming and off-farm activities were repressed by the previous regime. Women have played a critical role in agriculture and informal sector activities in rural areas. Traditionally, community participation has been an important aspect of the Eritrean society. 6.3 As Eritrea prepares for the future, it needs to explore options available to enhance the environment for employment of labor. How can Eritrea develop more efficient labor markets to stimulate economic growth, alongside the improved utilization of community-based labor? What lessons can be drawn from the experience of the more successful developing countries? Efficient labor markets will enable the matching of scarce existing skills to their most productive uses, provide reliable signals for the types and amounts of investment needed in human capital (such as education and training), and provide accurate signals for investment in other factors of production. 6.4 The Government has begun to reverse the restrictive policies of the past and has already adopted several measures to encourage labor markets that are more appropriate to a market-based economy. Hiring of workers by the private sector is now legal. The former labor code is currently being revised. Changes in labor laws will help to provide more consistency with market-based incentives, e.g., changes in probationary period and severance payments. With regard to civil service, Eritrea has the rare opportunity to take a comprehensive look and determine the required institutional framework and resource base for developing an efficient, streamlined structure. The Government has already made substantial progress in laying the foundation for this development. To address the wide array of work-related skills shortages, the Government should explore several options, before proceeding with establishing vocational training institutions in the public sector. Given limited resources, the large demand from other sectors, and the rapid changes that the economy is expected to undergo in the future, it would be beneficial to encourage employers and employees to be responsible for the provision and, at least partial, funding of training. Since a significant proportion of Eritrea's labor force works 91 abroad, Eritrea faces a labor-capital tradeoff in deciding upon a foreign workers policy-attracting these workers to meet the skilled labor shortages at home, or relying on them for their remittances. These remittances help finance much-needed social projects, provide living expenses for relatives, and are an important potential source of capital and technical know-how for trade and industry. On balance, Eritrea would probably be better served by remittances rather than a large scale repatriation of ex-skilled workers. A passive repatriation policy may be the best answer at the moment. 6.5 Eritrea has a long tradition of public works programs. Carefully designed public works programs can both help the development of agricultural labor mobility and encourage the movement of a growing labor force from agriculture to nonfarm activities, thus helping to raise productivity in agriculture as well as addressing seasonal poverty in Eritrea. To further enhance the efficiency of public works programs and improve rural labor markets, consideration should be given to basing wages on rural rather than urban market wages. Issues related to gender analysis suggest that, given the substantial role played by women in Eritrea's economy and society, the Goverrunent should continue to build on the recent initiatives to increase the incomes and productivity of women. In the short run, community-based public works programs, where local communities provide unskilled manpower, raw materials, and financial resources, will continue to be an important vehicle to rehabilitate social and economic infrastructure of the country. As an integral part of the transition from war to peace, the Government has begun implementing programs aimed at demobilization and reintegration of ex-fighters into society, and the promotion of their involvement in income-generating activities. BACKGROUND Urban Labor Markets 6.6 Public and Private Sector Employment. Currently, the public sector dominates the formal labor markets in Eritrea, with civil service and public enterprises accounting for a large share of employment (see Table 6.1). Most public sector employment is located in Asmara. Ex- fighters constitute a significant but varying fraction of employment in most ministries, e.g., about one half of the Ministry of Health and one fourth of the Ministry of Education officials are ex- fighters. The ex-fighters did not receive salaries in 1993 but were paid a base stipend of US$10 per month plus a variable cash allowance based on seniority, and accommodation and food. Based on a recent Government decision, all ex-fighters in public service will receive the normal civil service salary. 6.7 Although employment in the private sector was discouraged both by regulations and turmoil during the last 30 years, it has begun to show signs of rejuvenation especially in the urban informal services sector, such as shops, hotels, restaurants and bars, and some industries. It is estimated that roughly a quarter of Eritrea's labor force resides abroad (mainly in Ethiopia, Sudan, Saudi Arabia, Italy, Britain, and the USA), largely as a result of the Mengistu regime's policy of exiling young Eritreans. 92 TABLE 6.1: SuMMARY STATISTICS (SEPTEMBER 1993) (A) Employment Male Female Total Registered Job-Seekers since Independence 25,846 16,137 41,983 Number of Placed Job-Seekers 5,114 1,226 6,340 Reported Vacancies - - 7,598 Unfilled Vacant Positions - - 1,138 Eritreans Permitted to Work Abroad 416 320 736 Eritreans Returning from Abroad - - 120,000 Demobilized EPLF Freedom Fighters - - 26,000 Graduates of Technical and High Schools 11,992 9,476 21,468 - Estimated Job-Seekers among Graduates - - 10,750 Employment in Civil Service 11,677 5,829 17,506 - In Asmara 5,077 3,549 8,626 - In the Provinces 6,600 2,280 8,880 Employment in Private & Public Establishments* 16,440 8,181 24,621 - Percentage 67 33 100 - Employment in Government-Owned Enterprises 5,678 5,253 10,931 Membership in Trade Unions ** 4,217 3,090 7,307 Trade Disputes in 1992 - - 1,044 - Percentage of Individual Nature - - 92% - Percentage of Collective Nature - - 8% - Percentage Settled through Conciliation - - 67% - Percentage Settled through Arbitration - - 12% Source: Ministry of Labor. * Only large establishments; this figure does not include small firns such as bars and restaurants, family-run businesses, and sorne private and public provincial establishments. ** 46 unions were surveyed. (B) General Picture of Wages (1993) (Base Salaries per Month, in Birr) Post by Skill Level Civil Service Production Other:Private Service Lower Upper Lower Upper Lower Upper Messenger, postman, etc. 140 290 156 480 50 358 Clerk, mechanic, etc. 339 498 296 887 225 568 Supervisor, teacher, etc. 572 735 483 1029 568 778 Section head, Sr. acctnt., etc. 735 956 637 1249 778 1128 Dept. head, Dep. gen. manager 956 1239 919 1418 943 1558 Senior experts, managers 1239 1418 1200 1418 1339 2095 Source: Ministry of Labor. For details, see Statistical Annex Table IX.I. 93 6.8 Wages. The bottom panel of Table 6.1 shows wages in private and public sectors (civil service and productive enterprises). The relative wage structure indicates that starting salaries for low skilled occupations are higher in the public sector, and those for high skilled occupations are relatively uniform across public and private employment. 6.9 Distribution of Male and Female Employment. Figure 6.1 illustrates the distribution of male and female employment between the private and public sectors, using a sample of 121 public and 1,748 private enterprises in the urban areas. In the public sector, male workers are largely concentrated in manufacturing (51 percent), transport and communication (19 percent), and public utilities (16 percent). In the private sector, male workers are concentrated in nonbusiness services (45 percent) and manufacturing (35 percent). Women are found largely in public sector manufacturing (71 percent), while private sector female workers are mainly in nonbusiness services (71 percent) and manufacturing (22 percent). In addition to the fact that women are more concentrated in a smaller range of employment than men, the data also show a relative thinness of male employment in the private sector. Male employment is more than twice the magnitude of female employment in the public sector, but only 50 perccnt greater in the private sector. The effects of the long war and the resulting shortages of working-age Eritrean men contributed to a greater concentration of women in the private sector than is often the case in other developing countries. 6.10 Figure 6.2 shows the registered job-seekers and job vacancies according to the labor offices in Asmara and six provincial capitals. It shows that while managerial, clerical and government clerical and executive jobs are only 10 percent of the job vacancies listed, more than 41 percent of male job-seekers and 47 percent of female job-seekers prefer government jobs. This finding, however, should be interpreted with caution as data used in Figure 6.2 do not accurately reflect the job-matching process. This is because data for job vacancies and job-seekers for those firms that employ less than ten workers, most of which belong to the private sector, are not collected by the Ministry of Labor, and therefore not reflected in Figure 6.2. 6.11 Urban Unemployment. While there are no formal estimates of unemployment, the problem among the Eritrean youth-especially secondary school and college graduates-is serious. Most job-seekers in urban labor offices (Asmara and provincial capitals) tend to be less than 30 years old, with the female-to-male ratio being about one for most job-seekers aged 15-19 years, about three to five for the age group 20-29 years, and about one to two for people aged 30-39 years. Most registered job-seekers are primary school and senior secondary school graduates, with the female-to-male ratio being roughly two to three. 6.12 Regulatory Policies. Employment is regulated by labor offices in Asmara and the provincial capitals, especially for semi-skilled and unskilled workers. These offices generally have a monopoly right to serve as employment brokers for enterprises with more than ten employees; government agencies are outside their control. In practice, however, implementation of this practice is difficult in Asmara where the number of enterprises is large. While minimum wage laws apply only to public sector employment, labor hiring and firing laws apply in both private and public sectors. Collective bargaining is supported by law, and the labor office arbitrates in disputes between employers and employees, with unresolved disputes going to court. 94 Ptreui of Toel Employed tn Pullc or Private Sector Percent of Tetli Employed In PWc or Private Sector rA 0: . - - ° - l 0 0 _ S? 0 * _ I~~~~~~~~~~~~~~~~~~~~~~ I: - ' ':_'_'_"_-_____ ..''-_._'..-_.' :: - - - : ---::-I: : _ _ 1 1 Eu ED Figure 6.2: Labor Office Listed Vacancies for Asmara and Six Provinces Other / ) _ ~~~~~~Clerical, Atn & Mngr 10% Industry: Laborers \ SkM / 62% 13% Male Job-Seekers by Occupation for Asmara and Six Provinces Other 3% // 0 0 0 0 w - _ Clerical, Adai & Mngr 42% Industry: Laborers 41% Industry: Sled 14% Female Job-Seekers by Occupation for Asmara and Six Provincs Otber 6% Clerica, Admaln & Mngr 47% hWuo":: L-:bor 45% Industry: Silled 2% Sources: Statistical Annex Tables VmI. I and VffI.20. 96 Rural Labor Markets 6.13 Agriculture in Eritrea is characterized by subsistence farming, relying primarily on family labor. While Eritrea has a history of commercial farming, it suffered under the Ethiopian regime. The Government is now trying to encourage private commercial farming by providing concessions for lowland agriculture. In general, the current rural labor market is thin as a result of poor infrastructure, past land tenure systems, and low or non-existent agricultural surplus or marketed production. The labor markets are segmented into two parts: the food-deficit areas including most of the highlands, and the potentially food-surplus areas consisting of largely the lowlands. Following independence, labor mobility between these two regions has increased, although it continues to be limited owing to large climatic differences and poor transport facilities. Limited mobility of labor between the highlands and the lowlands, to an extent, is also reflected in the wage differential between the two regions. In the public sector, the wage premium in the lowlands is 40 percent of the highland public sector wage. In the private sector, the premium is about 70 percent in the concessionary farming and nonfarming sectors, but only 33 percent in private noncommercial farming. Community-based labor is a major characteristic of rural labor. 6.14 In many parts of the country, but not everywhere to the same extent, women play a significant role in the rural labor markets. They participate in most agricultural activities, tending of livestock, building homes, in addition to their traditional domestic work. Women also contribute to economic activities in the informal sector: they produce and sell handicraft made from local pal leaves, baskets, floor mats, prayer mats; or they produce and sell local beer, run teashops and restaurants in front of their huts. The daily work load of women in selected rural areas is estimated to vary from 14 to 16 hours per day, including the time to fetch water and wood, cooking, cleaning, grinding, taking care of the children. In urban areas, many women are employed in the informal sector, mainly in small scale trading, selling injera and suwa, handicraft, or they run their own small restaurants and teashops. IMPROVING LABOR MARKETS: THE MAIN PRIORITIES Strengthening Policies for Employment Promotion 6.15 The Government is in the process of revising the previous restrictive labor code with the objective of developing a flexible, transparent and efficient labor market to encourage productivity and growth. The broad thrust for the reform is to, first, eliminate policies that distort wage-setting and employment. Second, with recent trade liberalization, greater openness will provide an inbuilt mechanism to ensure that growth is labor-intensive. Finally, emphasis on social investments, especially primary education and health, which helps in improving labor market efficiency will help to reduce inequality of opportunity. 6.16 Eritrea will need to monitor its labor costs and keep its labor costs flexible to be internationally competitive. A competitive labor market will also be a major ingredient for successfully attracting foreign investment. It is not simple to establish reliable indicators for monitoring the efficiency of labor markets. Perhaps the best single measure would be the wage difference between the formal and informal sectors. Informal sector wages are usually the unregulated wage rates, while formal sector wages often reflect the effect of policy interventions-especially public sector employment and minimum wage legislation-that could keep wages artificially high. It is noteworthy that while the formal/informal sector wage gap in 97 the successful East Asian countries is about 20 percent, it is close to 50 percent for Sub-Saharan Africa, Latin America and South Asia. In Eritrea, keeping this wage gap below 30 percent could be considered a useful target. This could be achieved by adopting a labor code that respects labor, encourages productivity, and allows wage determination to reflect market forces as much as possible, so that there are self-adjusting mechanisms to keep Eritrean labor internationally competitive. 6.17 Table 6.2 summarizes the key job protection laws in Eritrea, and a few other countries for comparison. The main findings of these comparisons are: (i) Eritrea has a three-month probationary period during which firing a worker has low costs; (ii) Eritrea compares quite favorably with some other countries in the matter of advance notice before dismissal, which is only 15 days for employees with less than one year of tenure, and two months for others; (iii) and Eritrean labor law does not distinguish between reasons for severance, and the severance payment depends upon tenure. Thus for example, a worker earning Br 500 per month will get Br 250 as severance payment if her/his tenure is less than one year, Br 1,500 if it is between 1 and 5 years, Br 2,500 if it is 10 years, and so on. There is scope for making the severance payments rise more smoothly with tenure. Another important part of the regulatory framework is the mechanism for dispute resolution. The main characteristic of Eritrea's labor market where most disputes have been individual in nature reflects a very amicable relationship between unions and firms (see Table 6.1). Most of the settlements were nonarbitrated. This pattern should be encouraged through appropriate legislation as private industry develops, because resolution laws favoring arbitration tend to reduce incentives to make concessions during bargaining. Building an Efficient Civil Service 6.18 Eritrea has inherited a civil service structure that evolved during colonial rule designed primarily to serve colonial interests. Following independence, the Government found in place institutions that implemented policies decided in Addis Ababa. It did not find law-and-policy making institutions capable of nation-building although the EPLF did develop a range of administrative bureaus during the liberation struggle and these have formed the foundation of the new government. To meet this challenge, the Government has begun the process of adopting measures to initiate the establishment of new institutions and to define their functions and powers. It has established Central Personnel Agency (CPA) to replace the Ethiopian branch of CPA. It is in the process of introducing laws and regulations designed to replace the inherited civil service laws and regulations. Eritrea currently has a small group of highly motivated civil servants consisting of ex-fighters and returnees.33 6.19 Establishing an efficient and fully functioning civil service will take time given the lack of skilled people and the organizational features inherited from the Ethiopian regime that are not appropriate to the current situation. Eritrea has inherited an institutional framework of public administration consisting of ministries, authorities, commissions and offices. In the past, some of the functions in these ministries, authorities, commissions, and offices overlapped. This led 33 A study by UNDP, 1993, Public Sector Management Programrfor Eritrea: A Diagnostic, provides a detailed analysis and recommendations on the subject. 98 TABLE 6.2: JOB PROTECTION LEGISLATION IN SELECTED COUNTRIES Country Restrictions on Probationary Advance Notice Severance Severance Wih: Temporary Period Before With Just No Just Economic Contracts Dismissal Cause Cause Cause Brazil 2 years, 12 months I month Fund 1.4 * Fund 1.4 * Fund nonrenewable Chile I year, 12 months 1 month No severance 1.2 * W * T W * T nonrenewable pay Mexico No restrictions - I month 3 * W 0.7 * W * T 0.7 * W* T Ethiopia No restrictions 1.5 months T > I yr: 2 months. Minimum: W Maximum: 12 * W Eritrea No restrictions 3 months T < I yr: 0.5 months T < I yr: 0.5 * W T > I yr: 2 months I < T < 5 yr: 3 * W T > 5 yr: 0.5 * W *T*** Sources: Alejandra Cox Edwards (1994) and other World Bank documents. Note: W is the monthly wage, T is the tenure in years. In Chile there is a cap on severance payments. *** This structure is inconsistent with a continuously increasing severance payment with tenure. To remedy the problem, the cutoff at the second stage should be 6 years. to problems of duplication, conflict, and in some cases over-staffing within the administration.There is, therefore, a need for a clear functional allocation and structural streamlining. A realignment would then leave the government with a reduced and manageable number of ministries, besides minimizing jurisdictional friction between ministries. 6.20 Eritrea's public administration as it is presently organized, is understaffed, both in terms of number of people and skills. As indicated above, the overall responsibility for the setting of the norms and conditions of service and the overall management of the civil service system is with the Central Personnel Administration (CPA). At present, the CPA is a relatively small office with a head and a deputy head under whom are four departments. The experience of another small country, Botswana, indicates that the civil service can be effectively managed by a small highly skilled department with clear lines of authority and clear schemes of service. A small central department may be preferable to the more traditional form of civil service commission found in many other African countries because issues affecting the public service can receive the immediate attention of the Head of Government, and costs can be kept low. 6.21 Regarding skill needs of the civil service, Eritrea does not have an institution charged with the responsibility of providing induction and in-service training to the civil service and other public sector employees. Before independence, training was provided by the Ethiopian Institute of Management. While most African countries have institutions which were created to provide public sector management training, usually Institutes of Public Administration, it may be best for Eritrea to continue its policy of using the University of Asmara to provide crash programs for officials in the various ministries, until the role of Government becomes crystallized and the skills that need to be continuously generated become clearer. As private sector needs expand, there may be a case for the creation of additional tertiary level institutions. 99 6.22 As bureaucratic traditions are not yet entrenched, Eritrea has an opportunity to develop institutions that match the vision and emphasis of government in line with the limited resources of the country. High performing developing countries have generally followed three rules for keeping their civil service efficient. First, the civil service should be small and oriented towards management. Second, recruitment and promotion must be merit-based and highly competitive. Finally, total compensation including pay, perks, and prestige, must be competitive with the private sector, and those who make it to the top must be amply rewarded. That is, civil service salaries must broadly reflect actual skill scarcities rather than arbitrary skill scales. 6.23 To examine whether the current salaries meet these criteria, private and public salary structures were analyzed (see Statistical Annex Table IX. 1). Starting salaries are represented by "low", and rewards to within the civil service are represented by the difference between "high" and "low" salaries for each level. The table shows that while starting salaries among workers with low levels of education/skills are significantly higher in the civil service relative to public and private enterprises, this gap narrows and becomes insignificant for workers with high levels of education. The terminal salaries are about the same in the public and private sectors for low- education workers, while being considerably lower in civil service employment for senior positions. This wage compression indicates excess supply of labor for low-level government jobs, and shortages of skilled personnel for high-level jobs. Gender Issues 6.24 Eighty percent of Eritrean women live in rural areas. Many of them have limited access to education and health services, and even lower employment and income generating opportunities. In the urban areas, women constitute 48 percent of the labor force, but few of them are in professional, administrative, or technical position. Their average salary ranges from 140 to 1,300 birr per month. Although women participate in most productive activities, they often face economic and social discrimination, especially in rural areas. 6.25 Traditionally women in Eritrea have had limited say in the social, political and economic policies of the community. Although the present civil code guarantees them basic rights, especially concerning land ownership, marriage and divorce, the communities continue to follow their own forms of customary laws, which are inherently patriarchal and can be discriminatory towards women. The strongest discrimination is related to women's access in practice (in contrast to their legal rights) to land and other means of production; in rural areas women are not able to fully control the products of their labor, and have limited access to agricultural inputs and rural credit. The Government is in the process of ratifying a Convention on the Elimination of All Forms of Discrimination Against Women (CEDAW), which will hopefully establish the institutional framework to enhance the legal and social status of women. 6.26 It is estimated that 90 percent of women are illiterate. The illiteracy rate is much higher in the rural than in the urban areas, due to lack of availability of school, cultural biases, and customary laws. According to the 1992-93 school year information from the Ministry of Education, the female population was the following: Elementary school 45% Junior High 47% High School 45% University 11 % Technical school 10% 100 Although it is very encouraging to see that the policy implemented by the Government and the strong efforts made by the EPLF during the struggle period were able to lift the percentage of girls attending school to the same level as that of boys, the low percentage of women attending university and technical school is still a cause for concern. 6.27 Two major factors that have been identified as the major factors affecting women's disadvantaged condition include lack of full access to economic activities and traditional customs and rules. The creation of income generating opportunities, mainly by guaranteeing access to credit for women is an indispensable and effective step to reach economic independence. Some micro schemes are already being implemented in the country (in Barka and Gash) by the National Union for Eritrean Women (NUEW), with satisfactory results. Of course their implementation needs a lot of preparatory work, information and training activities, but in both regions the interest and the demand for credit have been very high. On the basis of this experience it seems appropriate to expand to other areas. Emphasis on female education and adult literacy programs for women are the other important aspects that a policy aiming at reducing female discrimination must promote, as it has been experienced that only through a better education women are able to assess their own needs and aspiration and to fight for them against traditional rules and customs. During the period of the liberation struggle, women who joined the EPLF were guaranteed equal right to education, and the policy implemented by the actual Government strongly stresses the importance of female education. Demobilization of Soldiers 6.28 At the end of the liberation war, the EPLF army consisted of 95,000 fighters, out of which about 25 percent were women. For the Government, demobilization is an integral part of the transition from war to peace. In this context, some 26,000 fighters have been demobilized so far. The objective is to reduce the number of fighters further. 6.29 The fighters who have been demobilized so far are those who joined the Front after 1990. The rationale behind this choice was that their reintegration would be easier as they have lived outside of civilian society for a shorter time. The Government has paid a compensation of Br 1,000, 2,500 or 5,000, depending on the length of their service. Although ex-fighters are being retrained and absorbed in the public sector, especially in primary health structures or in primary education, the general policy is not to use government employment as the main tool for demobilization. The Government has developed a policy framework related to the demobilization of the next group of fighters. 6.30 A pilot program has been finalized to support income-generating activities for demobilized fighters, managed by an international NGO and the Eritrean Relief and Rehabilitation Agency ERRA). The main objective of the pilot program is to gather practical experience on credit issues. Income-generating opportunities have been assessed as the most effective tool for reintegration. There are areas where land is more easily available which could attract demobilized fighters by providing them with long-term use of land and by offering incentives to form cooperatives. Demobilized soldiers will be largely and on a voluntary basis settled in their areas of origin. Based on ERRA data, on a sample of 1,130 fighters, 77 percent came from rural areas, 13 percent from urban areas, and 6 percent from semi-urban areas. 101 Box 6.1: PRINCIPLES OF FINANCIALLY VIABLE LENDING TO POOR ENTREPRENEURS Principle 1: Offer Services that Fit the Preferences of Poor Entrepreneurs * Short loan terms, compatible with enterprise outlay and income patterns. ACCION programs and BKK typically lend for 3 month terms; the Grameen family of programs for I year. * Repeat loans. Full repayment of one loan brings access to another. Repeat lending allows credit to support financial management as a process, not an isolated event. * Relatively unrestricted uses. While most programs select customers with active enterprises (and thus cashflow for repayment), there are few limitations on the uses of loans. Thus, clients have decisionmaking flexibility to use funds for household or enterprise purposes. * Very small loans, appropriate for meeting the day-to-day financial requirements of women's businesses. Average loan sizes at BKK and Grameen are well under $100, while most ACCION programs and BRI feature average loans in the $200 to $800 range. * Customer-friendly (low client transaction costs). Locate outlets close to entrepreneurs; use extremely simple applications (often one page), and limit time between application and disbursement to a few days. Develop a public image approachable by poor people. Principle 2: Streamline Operations to Reduce Unit Costs * Develop highly streamlined operations, minimizing staff time per loan. Standardize the lending process. Application contents should be very simple and be evaluated on the basis of easily verifiable criteria. Loan approvals should be decentralized. Operational costs should be reduced as BKK does, by operating its village posts once a week from rooms in local government buildings, paying little or no overhead while reaching deep into rural areas. Staff may be selected from local communities, including people with lower levels of education (and hence salaries) than staff in formal banking institutions. Principle 3: Motivate Clients to Repay Loans Substitute for pre-loan project analysis and formal collateral by assuming that clients will be able to repay. Concentrate on providing motivation to repay. * Joint liability groups, where a handful of borrowers guarantee each others loans, are by far the most frequently used repayment motivator, employed by Grameen and in slightly different form by ACCION affiliates. This technique had proved effective in many different countries and settings worldwide. Individual character lending can be effective where the social structure is cohesive, as has been demonstrated throughout Indonesia's array of credit programs. * Incentives, such as guaranteeing access to loans, increasing loan sizes and preferential pricing all for prompt repayers, should be offered. Institutions that successfully motivate repayments also develop staff competence and a public image that signals that they are serious about loan collection. Principle 4: Charge Full-Cost Interest Rates and Fees The small loan sizes necessary to serve the poor still result in costs per loan which require interest rates that may be significantly higher than commercial bank rates (though significantly lower than informal sector rates). However, poor entrepreneurs have shown willingness and ability to pay such rates for services with attributes that fit their needs. Source: Rhyne and Holt, 1993, in World Bank, 1994, Enhancinz Women's ParticiDation in Economic Develooment 102 Public Works Programs 6.31 Given high population growth due to both high fertility and return of refugees, agriculture may not in the medium to long run be capable of fully employing a growing rural labor force. Trade, small-scale enterprises, and nonfarm self-employment would become important sources of employment over time. In the short to medium term, encouraging public works programs would be critical for providing alternative sources of employment and for targeting the seasonal nature of poverty due to unpredictable rainfall. 6.32 Eritrea has a long tradition of public works programs. Carefully designed public works programs can both help the development of agricultural labor mobility and encourage the movement of a growing labor force from agriculture to nonfarm activities, thus helping to raise productivity in agriculture. Any significant reallocation of labor away from agricultural to nonfarm employment is generally avoided by implementing public works programs during off- harvesting season. Nevertheless, some shifts can occur as wage rates in public-work schemes (implicit or actual) are generally higher than prevailing agricultural wages. The relatively high wage rates in some public works programs are sometimes set with the aim of attracting high quality l1bor. There could be a trade-off between attracting productive labor and hence helping rural labor markets develop on the one hand, and reaching the most needy households on the other. In general, the basis for wage-setting should be the going rural wage rate, and not the urban minimum wage, as seems to be the case for some projects in Eritrea. Since traditional coping mechanisms could be strained down during famines, public works programs will be needed in the short to medium term as instruments of relief and employment. Thus carefully designed public works programs will continue to be an effective way to reduce the dependence of Eritrea's rural population on agriculture. 6.33 In the longer term, regional nonagricultural sectors will have to bear the burden of absorbing a greater share of the growing rural population. The potential for gainful employment in the services sector and agro-based manufacturing (e.g., food processing) would be considerably greater if regional urban centers were developed and served as focal points in the regions' development. The main problems are housing, transport, and urban infrastructure, all of which are costly to put in place. Community-Based Labor 6.34 Communities have been involved in the rehabilitation and construction of basic social and economic infrastructure destroyed by the war, not only by providing free labor and raw materials, but also by raising the necessary funds.3 Each community has a different system for raising funds. Generally, the council proposes and decides on the need for rehabilitating or constructing a social infrastructure, such as an elementary school, a health post, or an economic infrastructure 34 Statistical Annex Table IX.23 provides data on reconstruction of the basic social and productive services for the first six months of 1993. The budget for reconstruction and development of the different provinces in the first six months of 1993 amounted to some Br 17.4 million. In the same period the contribution of local people and local NGOs came to a total figure of Br 6.3 million, out of which 61 percent was directly collected by the people, and 39 percent contributed by local NGOs. In addition, communities provided labor and animals used for transportation. 103 Box 6.2: COMMUNrTy PARTICIPATION AND LESSONS OF EXPERIENCE The link between community-based development, grass-root participation and project sustainability has been extensively studied (see, for example, World Bank's Operation Evaluation Department Report, 1985, Sustainability of Projects: First Review of Experiences). In general, there are divergent views on the role that communities can play in the development process. Major Benefits. The main strengths of community-based projects include: (i) communities generally have better information on the needs, priorities and skills of local people; (ii) they are able to adapt programs to meet local conditions, so that scarce resources can be employed more effectively; (iii) they mobilize local resources to increase, or even to substitute for scarce governmental resources; (iv) they guarantee a better maintenance of facilities and services; (v) they adjust services delivered in order to be more demand-responsive. Major Concerns. The major concerns include: (i) lack of implementation capacity (this weakness becomes particularly serious with regard to procurement and reporting; therefore, funding mechanisms must be adapted to an organization's level of management capacity); (ii) high and costly necessity of capacity building, especially in the initial phases (to gain access to funds, or to manage available funds, community organizations often need basic management skills that rarely exist when the project starts. Local capacity building is essential, but it takes time and resources and needs to be carefully thought through to allow for the cultural and social characteristics of the group concerned. It needs efforts that will often have to be sustained beyond the life of a project.); (iii) capturing of development resources by local elites (sometimes resources for development can be captured by local elites and used primarily for their own benefit, rather than the intended beneficiaries. This happens because local elites usually have advantageous ties to national elites, because they have access to, and information about resource allocation procedures, and because they can use threats and force against the disadvantaged); (iv) possible incremental costs in promoting participation by local communities, especially in designing and starting up of operations (community participation generally requires additional costs, especially in consultations for project design, extension services, and the recurrent costs of fielding community promoters); (v) communities can generally be directly involved only with small-scale projects, because the absorptive capacity at the community level, especially in rural areas, is limited (the average sub-project size is US$25,000 to US$50,000 in many community- based programs, for example the Ethiopia Social Rehabilitation Fund Project). Although some of these constraints may have adversely impacted the benefits of some projects, it should be emphasized that the involvement of communities in identifying their needs, giving them priority, designing constructive interventions, and implementing them, is one of the most effective ways of making people feel responsible for what they are developing. In addition, many of the concerns related to other countries may not be as relevant in Eritrea's situation. 104 such as a feeder road or a market. Once the decision is made, the community starts the process of raising part of the necessary funds among its members. Many systems have been utilized until now: (i) the council sets up a compulsory contribution for each member, in accordance with ability to pay; (ii) the council raises contributions on a voluntary basis; (iii) the council collects funds to send one or more representatives abroad to raise funds among the Eritrean communities; (iv) the council solicits contributions from the community's wealthy members or from relatives in Asmara or abroad. The council also decides about the contribution that the community is able to make in labor and in kind, and sets up shifts of voluntary working hours or days that are generally respected by the population. Then, a council representative liaises with provincial authorities to seek financial and technical contribution, if necessary, and to obtain from the central government budget the allocation of those funds necessary to cover recurrent costs, when these are specified as the responsibility of the Government. No infrastructure can be built (or rehabilitated) without the approval of the relevant central ministry, and it has to follow the design and the rules for procurement of goods and services established at the central level. The objective of this is to ensure that the people's contribution to the construction of infrastructure is not wasted as a result of the Government's inability to meet long-term recurrent cost obligations, particularly in the case of schools or hospitals and health centers. The aim is to make it easier for communities to manage the reconstruction activities, by providing them with standardized implementation procedures. The link between community-based development, grass-root participation and project sustainability has been extensively studied in many countries. Box 6.2 reports some general lessons of experience. Training: Vocational Education or Enterprise-Based Training? 6.35 Eritrea faces a substantial skills shortage. The authorities are considering the design of schemes to reduce the mismatch between the skills of the working-age population-especially recent school-leavers-and the skill requirements. Officials in the Ministries of Labor and Education viewed this as one of the most important problems facing the Government. Officials in parastatal enterprises cite the skills shortage as one of the three main problems facing the manufacturing sector (the other two being power and working capital). 6.36 Eritrea's skills shortages-as indicated by unfilled vacancies in labor offices in Asmara and six provincial capitals-are listed in Statistical Annex Table IX.22. The most acute shortages are for printing-related skills, cooks, engineers, chemists and pharmacists, legal officers, transport personnel, hotel managers, surveyors, and Arabic language teachers. There were few unfilled vacancies for technicians and mechanics. It is clear, however, that there is large variation in the types of skills in short supply. It may be difficult for vocational education or training institutions to provide such a wide array of skills to workers in a cost-effective manner. 6.37 In deciding on the mix of general and vocational/technical education, Eritrea should first address the level at which these skills should be imparted, and decide what curriculum mix to adopt and, equally important, to decide how these offerings should be financed (see Box 6.3 for examples from other countries). In selecting its approach to vocational training, Eritrea needs to consider some of the following issues. First, it may be difficult for government agencies to anticipate what skills will be needed by employers as the Eritrean economy develops. Second, vocational education schemes generally have significantly higher unit costs than general secondary programs of study. Third, training schemes that are employer/enterprise-based or employer/enterprise-financed are relatively effective in providing relevant skills. However, experience from other countries shows that firms are reluctant to train workers, perhaps because many such skills are transferable across firms. Since workers may find it difficult to pay for such 105 training, especially during times of high unemployment, it may be necessary for the state to subsidize the acquisition of vocational or technical skills. An optimal combination could be one where those who will benefit from the skills-workers and employers-determine programs of study, with the provider acting as an intermediary between potential employers and trainees. Foreign Demand for Eritrean Labor 6.38 Eritrea faces a labor-capital tradeoff in deciding upon a foreign workers policy-attracting these workers to meet the skilled labor shortages at home, or relying on them for their remittances. While detailed information on the magnitude and recipients of these funds is scanty, it is likely that they serve as a social safety net-financing much-needed social projects and providing living expenses for relatives-and are an important potential source of capital and technical know-how for trade and industry. And there is the problem of urban housing for these returnees. 6.39 What should Eritrea do about its expatriate labor? The tentative answer is that because Eritrea is labor abundant and capital scarce, and because it has a significant pool of unemployed educated workers it is, on balance, better served by remittances. In 1992, for example, private remittances from Eritreans abroad amounted to US$76 million. Probably, a passive repatriation policy may be the best answer at the moment. There is also considerable demand for Eritrean labor in oil-exporting Gulf countries, especially since 1992. This is an area where the role of the labor offices is to be encouraged, since there is an obvious information problem at the individual worker's level. As a temporary solution,these outflows can serve as apprenticeship schemes, with workers returning with important job skills learned on their jobs abroad. Even if the move is permanent for some workers, the strong Eritrean family structure ensures that remittances will continue. 106 Box 6.3: THE SENCE SCHEME IN CHILE: GUARANTEEING RELEVANCE OF WORKERS' TRAINING THROUGH PRIVATE SECTOR PARTICIPATION Chilean Municipal Employment Offices use an enterprise program via a tax credit system, and a scholarship program to encourage workers' training. The training in both cases is at least partially funded by the Government of Chile (GOC), executed by the private sector through Organizations for Technical Education (OTEs), and regulated by a National Service of Employment and Training (SENCE). The OTEs can be vocational schools, private foundations, municipal schools, technical institutes, universities, etc., but they must be recognized by SENCE. Under the enterprise program, firms are allowed a tax credit--which has as an upper limit (a fixed fraction of payroll) if they can demonstrate that they have spent this amount on workers' training, or have made contributions to intermediary training organizations (such as CODESSER), or have employed apprentices from SENCE's programs. In short, SENCE plays a regulatory role in training provision, and ensures compliance with tax credit laws. Under the scholarship scheme, training programs for targeted groups are auctioned to private institutions. While in the past SENCE auctioned the provision of specific courses, SENCE now auctions programs for targeted groups in specific locations. SENCE also requires that a minimum fraction of trainees find employment within a stipulated period. Failure to meet this minimum implies that the OTE will not recover all of the training cost from the Municipal Employment Office. This ensures that the OTEs do a thorough market analysis while designing the course. The enterprise program is procyclical, which is not surprising because the benefits associated with investments in training are procyclical. It is likely that the effectiveness of the scholarship program is also procyclical, since it is easier to predict skill requirements and ensure placement of trainees when employers plan to hire workers in the near future. The enterprise program is also more popular among large firms--while small- and medium-sized firms used about 30 percent of the tax credit allowance, large firms used almost 60 percent. In fact, the distribution of training beneficiaries through the enterprise programn is clearly skewed towards sectors of the Chilean economy dominated by large firms. Sector Employment Enterprise Scholarships Distribution Program Program Agriculture 17.1 2.5 20.2 Mining 2.0 16.3 Industry 17.0 24.6 32.0 Commerce 17.7 13.0 12.2 Financial Services 4.9 21.6 All Others 41.3 21.9 The condition of Eritrea's economy and its employment structure seem to be better suited for the scholarship scheme than the enterprises program, given the dominance of agriculture and small-scale manufacturing. The programs can be kept open for nontargeted groups as well for a fee. Source: Cox Edwards (1993). 107 I 7 INVESTING IN PEOPLE: EDUCATION INTRODUCTION AND SUMMARY 7.1 Education will play a critical role in Eritrea's economic and social advancement. It will promote productivity, help transform the effectiveness of organizations, and facilitate the rapid absorption of the new technologies and methods needed to transform Eritrea's productive sectors and ensure its competitiveness in the international market. Education will also promote entrepreneurship that will be vital to Eritrea's recovery not only in terms of large-scale production but also micro-entrepreneurial activities that will help improve incomes and reduce the poverty of rural populations. Education, especially for women, will also help improve health and nutrition practices and reduce the rate of population growth. The emphasis will need to be given to primary education in the first instance, but selective improvements will be needed as well in secondary and tertiary education, building on an effective primary foundation. 7.2 The country has inherited an illiteracy rate of nearly 80 percent. There is a large backlog of young and old with little or no exposure to fornal or informal schooling. There are also many teachers from the pre-liberation system who need refresher courses. Most students do not have access to textbooks. Many schools, particularly in rural areas, are housed in substandard facilities which provide an unconducive physical environment for instruction and learning due to congestion, heat, dust and rainwater seepage. There is also a need to address the sharp gender disparities in the distribution of educational resources and enrollments inherited from the past. The Govermnent has already made progress in addressing many of these issues, and has prioritized basic education as critical for sustainable poverty reduction, and as a vehicle for balancing the goals of national integration and regional autonomy, and for laying the foundations of equitable and rapid growth. The previous administration discouraged private sector participation in the provision of education. Now there is no restriction on non-government schools, and the Ministry of Education is strongly encouraging the participation of communities, and decentralization of responsibility to provincial level. 7.3 Large-scale remedies are urgently required to address the educational needs of the country. But limited resources and implementation capacity will pose difficult and strategic choices. For example, to what extent should limited resources be focused on reducing the backlog of illiteracy inherited from the past, given the heavy expenditures that will be required to lay the basis for medium term improvements in educational quality and coverage? The Government has recognized the importance of prioritizing expenditures and encouraging a wide range of participants, including beneficiaries, to maximize the investments that can be made in this important sector. 7.4 Much of what is described below in terms of the weaknesses and vulnerabilities in the education system reflect the situation left behind by years of war, policy distortion and neglect under the previous regime. The Eritrean Government has already made important strides in remedying many of these deficiencies and has given high priority to the development of the educational sector. However, it is inevitable, given the size of the task and the limited range of resources, that mnany problems and weaknesses will exist in the sector for some time. A major step forward has been taken in the development of a policy and strategic framework for education that emphasizes the importance TABLE 7.1: EDUCATION STATUS IN DEVELOPING COUNTRIES Region/Country Net Primary Enrollment East Asia 96 Latin American & Carribean 92 Middle East & North Africa 75 South Asia 74 Sub Saharan Africa 56 Eritrea 42 Source: World Bank, 1993 of basic education, the need to encourage community, parental, and private participation, the need to maximize cost recovery while ensuring that those with limited means will have access to education, and the importance of building at every level of the educational hierarchy the practical skills needed for reconstruction and nation building. BACKGROUND 7.5 Educational Status of the Population. The adult illiteracy rate in Eritrea is estimated to be about 80 percent, and is substantially higher for women. The net enrollment ratio in basic education was estimated to be about 30-35 percent in 1993. Enrollments at the primary level were 41.9 percent, at the junior secondary level 19.4 percent, and at the senior secondary level 13.1 percent. University enrollment in regular programs for the 1993-94 academic year is 2,032, about half of which are in the natural sciences (see Statistical Annex Table X.6). The enrollment has increased from less than 1,300 in 1991-92, putting a strain on capacity. The university is also considering the setting up of faculties of engineering and law, and expanding the capacity of the school of agriculture, which currently enrolls 266 students. The university has a full-time teaching staff of 144 and an administrative staff of 324. 7.6 Organization of the Educational System. Pre-university education in Eritrea is structured into a 5-2-4 system consisting of 5 years of primary, 2 years of junior secondary and 4 years of senior secondary schooling. The national definition of basic education, therefore, encompasses the first 7 years of schooling, targeting children in the 7-13 year age group, with senior secondary schooling for the 14-17 year age group. Data on enrollments and the number of schools by ownership show that while the public sector is the main provider of schooling at all levels, nongovernmental organizations are already a major player and markedly so in the case of junior secondary education (see Statistical Annex Table X.4). 7.7 Public sector educational services are provided through the MOE which has offices at the national (headquarters), provincial and sub-provincial levels. Staff at headquarters are organized in seven departments. In terms of the functions performed at the different levels, the central office has responsibility over a wide range of activities, including policy development, program planning and budgeting, monitoring, provision of textbooks and supplies, curriculum development, teacher training and administration. The primary functions of the ten provincial offices are partly administrative in 110 Figure 7.1: Gross Enrollment Ratios by Province so 70 50 : 140- 30 Qradgs1-6 DGrades 8.7 10 [I(ras81 Asmar jDaik 4Ham. Seiaj e.I Akel. Barkh G I S So" t Eill M ProMnce Soums. Stfto u Anne Tae Xi. nature (payroll, bookkeeping, logistics) but also include periodic school supervision, data collection and reporting, limited in-service training and responsibility for the location of new schools and posting of staff. There are also sub-provincial offices headed by a director who reports to the provincial head of education. EDUCATION POLICY OF THE GOVERNMENT 7.8 The recent statement of the Government's education policy35 enumerates the following major objectives. First, at the basic level (grades 1-7), to: (i) provide universal basic education to all Eritrean school-age children (7-15 years); (ii) make basic education accessible to children in their mother tongue; and (iii) extend at least three years of basic educational opportunities to those who are between 15-55 years through adult education programs. Second, at the post-basic or secondary level (grades 8-11), to: (i) reestablish and diversify post-basic training centers at the provincial level- comprehensive, vocational, technical; (ii) create skill-oriented short-and medium-term training programs for post-basic students and for secondary school dropouts; (iv) produce qualified staff 35 Ministry of Education, University of Asmara, 1993, Meeting the Educational Challenge in Eritrea. 111 through expanding the programs for training and re-training qualified teachers, supervisors and administrative staff; (v) improve and equip secondary school/training centers with adequate teaching facilities; and (vi) create mechanisms that enhance public involvement in the financing and running of post-basic schools. Finally, at the tertiary level, the main priority for the University of Asmara, which is a semi-autonomous body and the only university in the country, is during the coming period to acquire, preserve and transmit knowledge, and "to provide the various sectors of the Government the skilled manpower that is required in the process of nation building". However, the university is perceived as a dynamic institution, supporting development and economic growth, and evolving its programs and services to benefit all vital sectors in the country. PROSPECTS AND CONDITIONS IN THE EDUCATION SYSTEM 7.9 The Backlog of the Uneducated. One of the worst effects of the colonial period, especially since 1974, was to dramatically impair the performance of the educational system. At liberation, therefore, Eritrea inherited the results of educational failure under the Ethiopia regime - backlog of young and old with little or no exposure to formal or nonformal schooling. Numbers on the exact size of this backlog are not available, though the protracted period of war and estimates of illiteracy rates suggest that it is likely to be large. 7.10 Policy makers face a dilemma in dealing with this backlog. There is a huge and justified demand in the country for both formal and nonformal education. At the same time, serious resource and institutional and managerial constraints make the satisfaction of this demand very difficult. Choices will need to be made about which groups will be the main focus of attention, what type of education they will receive and how they will be reached by educational services. Many of the individual issues are taken up in the sections below. 7.11 Learning Outcomes. It is likely that learning outcomes in Eritrean schools have suffered from the unwieldy and out-dated nature of the curriculum under the previous regime and the low proportion of adequately trained teachers, limited pedagogic methods and instructional time, low availability of textbooks and other essential supplies, and poor physical infrastructure. With limited resources it may be difficult for the Government to achieve both a rapid expansion in enrollments and improving educational standards. 7.12 Enrollment Rates. While gross and net enrollment rates at the basic education level were very low at liberation, there has been a significant increase since May 1991, although the distribution of this improvement has been uneven given the lack of basic facilities in certain regions, especially in the lowlands. There is a large proportion of over-age students at the basic education level. Preliminary evidence suggests that the proportion may be in the range of 20-25 percent. 7.13 Provincial and Gender Disparities. There are large disparities in the distribution of educational resources and enrollments among the regions - the western lowlands have far fewer facilities than the rest of the country. Figure 7.2 shows that there are broadly three categories of provinces with regard to the availability of schools and teachers. First, there are provinces with a higher access to resources compared to their share of the total population, specifically Asmara, Hamasien and Senhit. Asmara accounts for 23 percent and 40 percent, respectively, of junior secondary and senior secondary schools as well as 26 percent of primary school teachers, while it makes up 13.5 percent of the total population. Second, there are provinces - Akeleguzay, Dankalia, Semhar and Seraye - which have roughly the same access to educational resources as their share of the total population. Finally, there are provinces - Barka, Gash-Setit and Sahel -which are in a particularly disadvantaged position, especially Sahel which has only 2 percent of primary schools in 112 Figure 7.2: Provincial Shares 30 25 20 5 rTsEnraw 0 A.mmm Dank. Ham. Semhar SW. Pro-Ance Somu Stitlcsd Ann Tebb Xf& the country compared to 7.4 percent of the total population. It also has no junior secondary or senior secondary schools. 7.14 Data on GERs in primary schools (see Statistical Annex Table X. 1 and Figure 7.1) reflect this distribution of resources as shown in Statistical Annex Tables X.2 and X.3.36 The highest rates are in the central highlands with the largest enrollments in Hamasien (74.4 percent) followed by Asmara (62.0 percent), Akeleguzay (57.6 percent) and Seraye (48.1 percent). A second tier of provinces, composed of Semhar and Senhit, have GERs of about 36 percent while the worst-off provinces have GERs ranging from a low 6.1 percent in Sahel to a high of 24.3 percent in Gash-Setit. These data show, for instance, that the GER in Hamasien is 12 times higher than in Sahel. 7.15 With regard to gender disparities, there does not appear to be a major nation-wide problem as far as primary education is concerned. The highest share of girls in primary school enrollment is 51 percent in Asmara (see Statistical Annex Table X.2). With the exception of Barka (31 percent) and Sahel (29 percent), the remaining provinces have similar levels of female representation in primary schools, within a range of 40-45 percent of enrollments. It is quite likely, however, that the gender gap in enrollments is higher for junior secondary and senior secondary levels. 36 The provincial GERs are Bank estimates based on data on school-age population and enrollments obtained from the MOE. They differ significantly with the MOE's own estimates of provincial GERs. 113 Figure 7.3: Student-Teacher Ratios by Province 50 40- ~30 J20 10 t 8-11 : rS 15 Ako. B^D hnhftrfe lo~ ~~rv Souos: Stas0c1 Anex Tabl Xi 7.16 Internal Efficiency. Although drop-out rates may have improved since liberation, they still present a problem. Progression rates within primary school shows that only 61.6 percent and 56.1 percent of boys and girls, respectively, proceed from grade 1 to grade 2. Even if the progression rates are adjusted to include those who repeat grade 1, using repetition rates discussed in the next paragraph, the drop-out rate between grades 1 and 2 would still be approximately 15 percent and 11 percent for boys and girls, respectively. There are also high repetition rates at 23.4 percent and 33.2 percent for males and females, respectively. 7.17 External Efficiency. Transition rates from primary to junior secondary school and from the latter to the senior secondary level are low due a combination of factors including poor accessibility, higher costs and inadequate preparation in primary schools. However, the major external efficiency challenge for the future, aside from curriculum revisions in general secondary schools, concerns vocational and technical education. The Government plans to augment the two vocational education institutions in Sahel and Asmara by 10 lower level institutions -- one for each province -- and to set up a teacher training institute to staff these 12 institutions, with the aim of improving the quality of job-skill match. This form of education and training, while vital for economic growth and increased employment and incomes, could absorb a large proportion of the sector's limited resources, and it may be important to consider a range of options that build on Eritrea's own experience during the liberation struggle, such as maximizing the use that can be made of apprenticeships, and other 114 non-formal methods. Once the economy begins to grow and the private sector develops, it may also be useful for the Government to study the experience of other countries which shows that the active involvement of employers in publicly provided vocational/technical education programs helps reduce unemployment. Box 7.1 summarizes the experience of Chile on agricultural and industrial vocational education. 7.18 Quality of Education. There are a number of factors which will need to be addressed in efforts to improve the quality of education in Eritrea. A significant number of primary school teachers, at least 1,400 persons or 28 percent of the teaching staff are made up of college drop-outs or secondary school graduates, who have received only minimal training (of 5-8 weeks duration) before being posted to schools. Efforts at up-grading their skills over three summers started in 1993, so that this group will achieve the required one year of training by mid-1995. There is also a backlog of teachers inherited from the pre-liberation system who need refresher courses. 7.19 The size of the teaching staff does not appear to be a problem (see Statistical Annex Table X.2). The national pupil-teacher ratio of primary schools at 37:1 is below the international norm of 40:1. Disaggregation by province reveals higher ratios in the more densely populated provinces, that is, Akeleguzay, Asmara and Seraye; however, the highest ratio, 46:1 in Seraye, is only 15 percent above the international norm. At the other end of the spectrum, Sahel has a ratio of 15:1 (see Figure 7.3). 7.20 The ratio of textbooks per pupil is 1:68 which means, in effect, that most students do not have any access to them. The few textbooks which are available within the educational system are held by teachers and even these may be photocopies rather than original materials. Field visits to Senhit and Barka suggest that essential supplies (exercise books, pencils, erasers) may be more widely available. At the junior and senior secondary levels, there is a shortage of basic laboratory equipment. 7.21 Another problem that may affect educational quality is insufficient instructional time. The number of hours of instruction at the primary level ranges between 15-23 hours per week, while the school year consists of 180 days which yield about 540-828 hours of schooling per year. These figures, especially at the low end, are below the level in many Sub-Saharan African countries. The large curriculum and the complexities of multi-lingual instruction add additional strain on limited instructional time (see section on curriculum). The main factors leading to inadequate instructional time are inadequate physical facilities (most schools are not conducive to the teaching and learning process; climatic factors, especially hot weather which forces early school closure during some seasons; and the shift system that hinders students from attending school for the whole day). Many schools, particularly in rural areas, are housed in substandard facilities which provide an unconducive physical environment for instruction and learning due to congestion, heat, dust and rainwater seepage. Some rural schools in Barka and Semhar are constructed of thatch and branches and require reconstruction on an annual basis because of the impact of wind and rain. 7.22 An additional consideration is that of class size. Preliminary evidence from both rural and urban primary schools suggests that the number may be high, in the range of about 50-60 students per class. This poses particular difficulties in ensuring learning among school children and requires appropriate pedagogic approaches to offset the effects of large class size. Many teachers rely on repetition and learning by rote, usually involving the whole class rather than encouraging work, whether individually or in combinations within groups. 115 Box 7.1: VOCATIONAL EDUCATION - AN EXAMPLE FROM C}ULE As Eritrea is almost starting from scratch, this provides an opportunity to review the lessons of experience from several countries on what has worked and what has failed in vocational education, and apply lessons that are appropriate to Eritrean conditions. This box provides an example from Chile. In 1982, the Corporation for Rural Development (CODESSER) - a nonprofit organization took over four schools. Currently, CODESSER manages 17 schools. The management style of CODESSER's schools is quite unique and merits special attention because it has turned out graduates who have been successful. The CODESSER model on secondary vocational education has at least six distinguishing features: * Private Sector Participation in Management: At the time CODESSER takes over a school, it designates a "school directory", consisting of seven prominent farmers or industrialists. The participation of the private sector ensures greater job-skill matches, a direct connection for graduates to the job market, and an effective medium to bring about organizational and productive innovations in school management. * Teachers Hired as Private Sector Employees: Contracts are usually terminated when CODESSER takes over a school. New hires are made under the private sector labor code. It is interesting, however, to note that between 60 and 70 percent of the personnel were employees under the old system. * Diversified Educational Programs: The programs deliver solid general knowledge in humanities and sciences combined with technical and vocation-specific skills, ensuring the relevance of the latter by relying on national surveys of enterprises. These surveys which consist of a list of tasks to be identified as required of new hires by entrepreneurs were conducted in the farming, industry, and agro-industrial sectors. * Frequent Curriculum Revision: The system is designed to accommodate frequent curriculum revisions, based on periodic surveys of job requirements. Teachers are retrained to effectively teach the new subjects. * Rigorous Selection Standards: Applicants must have grade of 5 (on a scale of 1 to 7) or higher in each course in levels 7 and 8. Potential students spend two days at the school taking written exams in four basic areas, being interviewed, going through a psychological test, and practicing a farming activity. The best applicants are selected from this pool. * Diversified Revenues and Funding: CODESSER's schools rely on the public sector subsidy to finance their spending. But these schools have diversified their sources to include private sector donations, sale of produce, and training of workers through participation in the National Service for Employment and Workers' Training (SENCE, see box in Chapter 6 on labor markets). Source: Cox Edwards (1994). 116 7.23 Curriculum: Scope and Relevance. The curriculum has been modified twice during the 1980s to reflect changed national circumstances, and further improvements are currently being reviewed. Emphasis is being given to developing the mother tongue in primary education; the integration of theory and practice to encourage a work-oriented approach to learning; and measures to address inherited disparities. The number of subjects taught at the primary and junior secondary levels ranges from 5-10 and 6-9, respectively; the number of subjects at the senior secondary level is 6-9. The subjects at primary level comprise of the local language, Arabic, English, mathematics, science, geography, history, songs, drawing and physical education. Teachers give emphasis to the first five "core" subjects which absorb about 18 hours of instruction per week or almost 80 percent of total instructional time per week. At the junior secondary level, the curriculum contains the same five "core" subjects as at the primary level with the addition of woodwork, mechanical drawing, agriculture and electrical work, although there is limited availability of tools and equipment. 7.24 Although many improvements have been made, there are still many features of the existing curriculum that is inherited from the pre-liberation period which reflects an educational philosophy which may be out-of-date. The MOE has launched a process for defining a new national curriculum with the objective of ensuring compulsory basic education, relevant learning and the acquisition of work-oriented attitudes and skills. As curriculum reformn is a long term process it will be important to streamline the existing curriculum as a bridge to the future. 7.25 Teacher Training: Quality and Output. There is one teacher training institute (TTI) in Eritrea, located in Asmara. It was established in 1980-81 and ceased operations in 1988, due to the war, and resumed operation with liberation in 1991. The war damaged or destroyed physical facilities, materials and equipment. Immediately after liberation, activities were focused on short duration courses of various types: orientation for teachers who were employed by the Ethiopian administration, up-grading courses for new recruits and crash programs for selected groups, for example, teachers for some local languages. The emphasis has now shifted to regular programs with the initiation of a one-year course for primary school teachers. The contents are as follows: the three natural sciences including methodology; social sciences; history and geography; mathematics; developmental psychology; general methodology; and languages - an ethnic language together with English and Arabic which are compulsory subjects. All the course materials are prepared at the TTI. 7.26 The institute faces a number of difficulties. Firstly none of the teaching staff at the TTI has been professionally trained in curriculum development and materials preparation. Secondly, while the instructors have the appropriate level of qualification (25 with bachelor's degrees and 1 with an MSc) and high levels of motivation, their pedagogic methods require updating. Thirdly, supportive facilities, such as the library, need improvements. 7.27 With regard to the qualifications and duration of instruction for teacher trainees, the MOE has set the following standards - primary: secondary school certificate plus one year; junior secondary: secondary school certificate plus two years; and senior secondary: Asmara University degree (at the proposed College of Education). As for the volume of intake, the entering class has 400 trainees or the maximum number which can be absorbed by the TTI. The goal is to bring down the pupil-teacher ratio and accommodate a rapid expansion in schooling. As noted above, data show that the pupil-teacher ratio in Eritrea is currently below the international norm; in some provinces such as Barka, Gash-Setit, Sahel and Semhar, the ratios are substantially lower. Some interim expansion in teacher training to improve pupil-teacher ratios and allow for the expansion of services is a priority. 117 7.28 Monitoring and Supervision. Monitoring at the national level is focused on inputs (i.e. teachers, equipment and supplies and training events), expenditure (i.e. salaries, operational expenses and capital investments), and outputs such as enrollments. Provincial education authorities maintain a regular record of inputs and outputs. Expenditures are excluded because provinces do not currently manage any budgets. Headteachers assist through the comnpletion of reporting forms. It is, therefore, possible to access at the provincial level, an up-to-date, manually maintained, database on numbers and location of schools, size and distribution of teaching and administrative staff, volume of supplies and equipment within the school system and enrollments. Information on these categories is part of quarterly reports submitted by the provincial head of education to the MOE in Asmara. 7.29 School supervision takes place both on a continuing basis through school committees and periodically through visits by supervisors from the provincial headquarters. Preliminary data suggest that resources are unevenly spread--there were 4 supervisors for 43 schools (all levels) in Senhit compared to 2 supervisors for 35 schools (all levels) in Barka. In both cases, however, the education authorities had only one vehicle to carry out all tasks at the provincial level. As a result, the annual number of visits per school is low, for example, once or twice in the case of rural schools in Barka. Increasing resources for school supervision may be an important priority. This could be supplemented by active parental and community involvement in supervision through school committees, especially in rural areas. At the moment, grassroots involvement is mainly in the form of community-initiated construction of schools. The next step is to encourage parental participation in supervision of schools and support for operational costs. IMPROVING EDUCATION Making Strategic Choices 7.30 Given limited resources together with serious constraints on management and implementation capacity, Eritrea faces difficult choices on the contents of educational policy for the next decade or more. There are several dimensions along which strategic choices could be made. First, targets for public expenditure on education will establish the framework in which priorities and trade-offs can be considered.37 Ideally, education expenditure should increase over time as a ratio of GDP, and although in the early years capital expenditure and increased spending on teacher salaries is an inevitable requirement of the reconstruction process, the aim should be to ensure adequate and increasing allocations to operations and maintenance, as these are essential to achieving higher educational standards. Expenditures should be monitored regularly, through say twice-yearly reviews. Second, decisions will need to be taken on how to allocate limited resources among a number of target groups, including new cohorts, and those who have missed education because of the disruptions of the recent past. Making adequate resources available for new cohorts will be especially important because education will prepare them for long productive lives. However, there are other factors to consider in tenrs of the backlog who have missed educational opportunities, and efforts will need to be made to balance expenditures among various groups. 7.31 Another priority will be adequate balance of expenditure allocation within the formal educational system--between tertiary and pre-tertiary, between basic - primary and junior secondary- and senior secondary. The MOE has indicated that the emphasis will be on basic education, which 37 Detailed sectoral data on public expenditure are not yet available. 118 Figure 7.4: Asmara University Budget 16 14 12 10 Z 8- 6- 4- D- 1gS2 Act m 2 *~~~~~~~~~~~~O l Budpt 0 EX Acad5 F Sourc: Asn ha U*%isk. will provide high social rates of return and will be a key input for growth. In terms of poverty reduction goals, primary education is more accessible to, and utilized by, the rural and poor population. Within each level of the educational system, particularly basic, it will be important to balance expenditures on accelerating growth in enrollments and ensuring a good quality of education and desired learning outcomes. In tertiary education, there may be good potential for cost-sharing. Asmara University's budgets for 1992 and 1993 show a large increase in overall recurrent spending, but the rise is relatively greater for food and consumables. Capital expenditures have also increased (see Figure 7.4), with more than 60 percent of spending for student dormitories. While these expenditures may be necessary, some non-teaching expenditures could possibly be shared by students .38 7.32 Finally, it will be important to balance the practical orientation, and the acquisition of specific marketable skills, with a sound general education to provide the basis for developing specific skills. Beyond a certain level, in-depth skill acquisition may be more effective within the framework of post-school apprenticeship schemes which involve employers, who are best placed to identify, develop and use appropriate skills. 38 Similar decompositions are not possible for spending on primary and secondary education because MOE figures are presented only by subsector, and donor-supplied funding is not included in MOE accounts. 119 TABLE 7.2: LENGTH OF SCHOOL YEAR IN SELECTED COUNTRIES (Hours Per Year) Country For First 3 Years Benin 1080 Burkina Faso 1290 Central African Republic 885 Cote d'Ivoire 1140 Guinea Bissau 1000 Malawi 930 Eritrea 540-828 Source: World Bank, 1993 Emphasizing Leaming 7.33 There are a number of steps which can be taken to ensure improved learning. First, the curriculum at the primary level could be reduced in size to the "core" subjects of languages (local and English), mathematics, cultural studies and science. Cultural studies could include history and civics, while science could focus on addressing issues in the living environment of children (agriculture, ecology, health, hygiene and nutrition). Second, the instructional time in primary schools needs to be increased, at least up to the international norm of about 900 hours per year (see Table 7.2). The effectiveness of instruction could be enhanced by helping teachers handle the problems of large class size through the use of teaching assistants with lower level qualifications. In addition, streamlined techniques of continuous assessment could be used, offering teachers greater time to deal with emerging problems. Headteachers who can play a pivotal role in motivating and guiding teachers have been underutilized. In recognition of this fact, the MOE has already launched a series of in-service training courses for headteachers, designed to improve school management as well as planning and supervision. Finally, the physical condition of schools, especially primary and junior secondary schools in rural areas, needs to be improved not only to create a better physical environment for instruction, but also to reduce loss of instructional time resulting from school closure due to bad weather. This might be undertaken through a program of community-initiated school construction and rehabilitation, encouraged and sustained through grants from a community education fund. Developing Low-Cost and Participatory Approaches to Education 7.34 It would be worthwhile, faced with a large backlog of the uneducated and relatively high costs in formal education, to experiment with nonformal approaches. Programs developed in other countries provide examples of what can be achieved through such a strategy. The outstanding case is probably that of the Bangladesh Rural Advancement Committee (BRAC - see Box 7.2). The performance of such programs demonstrates that the poor are willing to send children to school provided certain pre-requisites are addressed in terms of parental participation, school location and quality of education. Aspects of BRAC experience may be relevant to Eritrea because of the similar nature of the educational problem in the country, impressive organizational skills, and high levels of motivation. 120 Box 7.2: PRIMARY EDUCATION FOR ALL: LEARNING FROM THE BRAC EXPEIUENCE The Bangladesh Rural Advancement Committee has established two programs for education, Non-Formal Primary Education (NFPE) and Primary Education for Older Children (PEOC) targeted at the 8-10 years and 11-16 years age groups, respectively. The children are from the poorest families and have either never attended school or dropped out at grade 1; a high proportion of students are female. These programs have been spectacularly successful in attracting and retaining students and integrating them into the formal governmental schools at grades 4 and above. The results have greatly exceeded expectations. The daily attendance rate recorded in both programs has been above 95 percent while drop-out rates in the NFPE and PEOC have been 0.30 percent and 0.44 percent, respectively. Moreover, learning achievement in these programs seems to be higher than in government schools: among the graduates of the 1987-90 NFPE intake, 75 percent qualified for grade four and 25 percent for grade five. Results were even more impressive with the 1988-90 PEOC graduates with 67 percent qualifying for grade five or above. Finally, transition to formal schools appears to be unexpectedly high for both boys and girls: in the cohorts just mentioned, 99 percent and 87 percent of NFPE and PEOC graduates were admitted to government schools. Why have BRAC's programs been so successful? The explanation lies in several features of the NFPE and PEOC: * There is a high level of parental involvement, starting from provision of a modest structure for the schools to ensuring regular attendance, setting school hours and vacation calendars and meeting on a monthly basis to monitor performance; * The curriculum is manageable in scope and relevant, focusing on languages (Bangla and English), mathematics and social studies (which embraces a wide spectrum of subject areas ranging from health and the environment to information about community, country and the world as well as basic science); * The management, which is quite decentralized, is structured to facilitate learning and adaptation, and is assisted in this by a central research unit; * Teachers are recruited locally, closely supervised (I supervisor per 15 teachers) and regularly trained (pre-service, in-service once a month and refresher at the end of the first year of teaching); * The schools are located close to the community and kept to a manageable size (thirty students per class); * Schooling is provided free of charge. Source: Lovell, Catherine H., Breaking the Cycle of Poverty: The BRAC Strategy, (West Hartford, Connecticut: Kumarian Press, 1992). 121 Defining the Role of Govenment in Education Delivery 7.35 The public sector will continue to be the main provider of services in the educational marketplace for some time. The Government's role will be to set standards for the educational system--among other things, a national curriculum, certification requirements for teachers and national examinations at specified stages of schooling. In addition, the Government must take the lead in ensuring equitable educational opportunities across provinces, social classes and gender. There are a number of strategies that could be considered, including higher levels of investment in disadvantaged provinces, scholarship schemes, and food-for-education programs for girls. Finally, the Government is already acting to reduce disparities due to regional or income inequities. One important consideration could be to offer student loan schemes for the tertiary level, to those who cannot afford fees but who meet entry standards. 7.36 The Government has opened the education sector for private participation, and is actively encouraging increased community involvement. There are a number of ways in which such participation will help enhance educational quality over the next decade, for example, by increasing the variety of choice and encouraging competition; and through charging fees and encouraging parental supervision and quality control in primary and secondary education, especially in urban areas where the capacity to pay is relatively higher. Currently, it is the Government's policy to take over a private school if it becomes financially unsound or is likely to close for other reasons. The recurrent cost implications of this policy should be carefully evaluated. 122 8 INVESTING IN PEOPLE: HEALTH AND NUTRITION INTRODUCTION AND SUMMARY 8.1 Better health and nutrition are desirable ends in themselves. They also bring substantial economic benefits. Better health and nutrition increase the capacity for learning, raise productivity, decrease the number of days lost due to illness, and prolong potential working lives. The benefits of good health flow well into the future: a mother's good health strongly influences the early physical and mental development of her children. 8.2 Health and nutrition levels are low in Eritrea. Eritrea has inherited a low life expectancy of about 46 years compared to 50 years for Sub-Saharan Africa and 67 years for East Asia; an under-five child mortality rate of 203 per 1,000 live births, compared to 196 for Sub-Saharan Africa and 96 for East Asia. Only 10 to 15 percent of the population has access to safe drinking water, and 14 percent of the population has access to sanitation services. There is widespread malnourishment of children, an immunization infrastructure that is accessible to about 25 percent of the population, poor family planning services, and damaged health facilities. In 1993, caloric intake was estimated at 1,750 kcal/person/day, equivalent to about 93 percent of minimum requirements. In comparison, the average for Sub-Saharan Africa is 2,096 kcal/person/day. More than 40 percent of under-fives are underweight of whom a quarter are severely underweight. Stunting affects two thirds of the children of whom slightly less than a third are severely stunted. Evidence shows that iron deficiency anaemia is among the leading causes of both out- and in- patient diagnoses for children under five, though much less important than preventable diseases such as malaria, diarrhea and acute respiratory infections. Poor health and nutrition levels in Eritrea are accompanied by high fertility rates of about 6.8 percent and an annual population growth rate of about 3.3 percent. The poor health status reflects damage caused by the war to the health facilities and the lack of investment in social sectors in the past. The challenges facing the health sector are substantial. 8.3 What should be done to rehabilitate and improve the health and nutritional status of the people? What kind of health care and prevention services are most appropriate for Eritrea? How best they should be delivered and what role should public and private sector provision play? What are the key actions that are appropriate in the short-term and the long-term? 8.4 The Government has already made substantial progress in identifying the main priorities in the health sector and begun to define programs to improve the health Profile of Eritreans. First, greater emphasis is being placed on preventive and primary health care, particularly in rural areas. The MOH is planning to shift more resources towards the traditional public health services, including vector and epidemic control, water and sanitation, and health education. Second, the Government is planning to eliminate the import monopoly of the state-owned drug company, Pharmacor, once a drug legislation has been enacted and a central laboratory has been established to monitor the quality of drugs. Third, the efficacy of local drug production is being examined, before MOH commits scarce resources to rebuilding its local drug production facility. In addition to these short-run action, a package of long-term measures is also being considered. Eritrea could consider the creation of revolving drug funds. At the moment, donors supply a large quantity of drugs for the health system. Eventually, however, some method of self-financing will be necessary to provide the volume of drugs needed, even if supplemented by donor contributions. Revolving drug funds have been a successful way of generating finances for drugs in countries throughout the developing world. Most of these funds fall into two types. One group of funds provides financing for drugs at health facilities. Often the facility will set up a commercially-run pharmacy within the institution that will generate a positive cash flow from the sale of drugs. The other type of fund is usually operated by a community in order to maintain a stock of drugs for the community health worker. Because these funds usually have a more precarious existence, they are often started with a st6ck of donated drugs and are managed by a community committee. At times, these funds are able to sustain the income of the local community health worker. The MOH is also planning to encourage greater autonomy in the management of its facility. Over the long run, greater autonomy of facility operations has improved efficiency in most cases. Most countries typically begin by creating separate boards for hospital operations and giving them the power to manage their own budget. In most cases, the hospitals move to a smaller, better paid staff with greater emphasis on equipment maintenance and drug supply. Burundi is an example of this approach. In many countries, local health centers and clinics are managed by a community committee which oversees cash flow, staff and other matters. Facility managers are given greater autonomy of operations, and occasionally incentive bonuses are paid. Some facilities in Uganda are operating on this model. Finally, the use of community endowments for health services should be examined. It would be useful to develop a more formal process of financing for community health services. The Government might investigate the use of a Community Health Fund, similar to the Community Rehabilitation Fund, for this purpose. Like the Rehabilitation Fund, this resource could finance matching grants for local health initiatives. These could include the development of local drug or health services, or other community efforts, such as water and sanitation activities, malaria control or other services. Such a fund might be endowed by a group of donors. In due course, Eritrea hopes to become an exporter of health services, and a private hospital is being established in Asmara. 8.5 Within nutrition, there are several priorities. First, more emphasis could be place on reducing protein energy malnutrition (PEM) among children of weaning age, especially 6-24 months; reducing geographically localized cases of exceptionally high malnutrition among children under five (e.g., Sahel). Second, emphasis should be placed on actions at the household level to maximize nutritional outcomes at current levels of income and within the constraints set by illiteracy and traditional attitudes and practices. This can be pursued through sustained health and nutrition education designed to bring about gradual changes in behavior through the acquisition of relevant knowledge in culturally appropriate ways. Third, identify vulnerable groups to be targeted, by location and/or seasonality. This might entail a focus on certain provinces or parts there of and/or on specific periods of the year. For example, one option may be food-for-work schemes during the pre-harvest period when food availability may be particularly precarious. GOVERNMENT'S HEALTH SECrOR OBJECrlVES 8.6 The Government has stated that the immediate objectives in the health sector are the rehabilitation and expansion of the health services infrastructure. In parallel, the Government plans to increase the training of health personnel, especially ex-fighters, and to strengthen health information and disease control programs. The Government has recently published a health profile of Eritrea which sets out its priorities in the sector. MOH lists three areas that it considers 124 most urgent. First, the functional restoration of health facilities which have been damaged by war or which are in a state of decay because of inadequate maintenance. This includes the provision of basic drugs, equipment and supplies, the creation of a system for logistical support, and the repair or construction of needed physical infrastructure. Second, the provision of an adequate supply of essential drugs, supplies and equipment for effective provision of health services. This includes the construction of local drug production facilities, quality control laboratories, pharmacies and storage units as well as the formulation of associated policies for the safe and effective use of pharmaceuticals by health practitioners. Third, the expansion of available health services to populations which currently lack health care through construction of new facilities. The location of new facilities is based on detailed assessments of the coverage of existing health units, the location of villages and towns and the availability of roads and transport. 8.7 MOH has identified four additional priorities considered to be relatively less urgent. First, the surveillance of basic indicators of health and nutrition. This includes the establishment of an effective health information system as well as a system to detect outbreaks of disease or other health and nutritional emergencies. Second, the control of communicable diseases, in particular malaria, HIV/AIDS and tuberculosis. Third, the provision of health services to returnees, including special programs to meet immediate needs associated with their return as well as ongoing programs according to national policies and priorities. Finally, to strengthen management of the health services through the training of health personnel and regular supervision. PROSPECTS AND CONDITIONS Health and Nutrition Status 8.8 Table 8.1 reports several standard health indicators for Eritrea. In all cases, these statistics place the health status of Eritrea among the lowest in the world. The poor health status is the result of a number of factors, including extremely low income and a protracted civil war; the situation is compounded by the poor condition of health services in the country. Table 8.2 lists the leading causes of diseases in Eritrea. MOH estimates that three fourths of the disease episodes are a result of vaccine preventable infectious diseases. However, only 27 percent of the population currently has access to immunization services, with only 11 percent of the child population receiving full immunizations. Maternal health services are also scarce. About 2.6 percent of Eritrean women of reproductive age are currently protected by tetanus toxoid vaccine, 13 percent of pregnant women receive antenatal care, and only 5 percent of deliveries are attended by trained personnel. Family planning services are rare, with less than 1 percent of couples practicing contraception. As a result, the fertility rate is estimated at 6.8 and the population growth rate at 3.3 percent per year. 8.9 Within Eritrea, there is a strong regional variation in health status. Child mortality rates vary from 97 in Hamasien Province to 318 in Dankalia. This variation presents a major problem in Eritrea since more than 80 percent of the population reside in rural villages or are nomadic or semi-nomadic with no ready access to any kind of health services. Most rural villages do not have a trained village health worker or traditional birth attendant. 125 TABLE 8.1: HEALTH INDICATORS IN ERIREA Indicator Unit Measure Infant Mortality Rate per 1,000 135 Child Mortality Rate per 1,000 203 Maternal Mortality Rates per 100,000 - Urban 710 - Rural 799 Fertility Rate births/woman 6.8 Life Expectancy years 46 Population/Physician thousands 28 Population/Nurse thousands 8.4 Source: Ministry of Health TABLE 8.2: LEADING CAUSES OF DISEASE iN ERrTREA Rank Diagnosis Cases Percent Malaria 20,209 11.4 Other Acute Respiratory 16,517 9.3 Diarrhoeal 10,020 5.7 Pneumonia 9,376 5.3 Skin & Subcutaneous Infection 7,552 4.3 Bronchitis & bronchiolitis 7,541 4.3 Influenza 6,420 3.6 Dental and oral diseases 5,916 3.3 Gastritis and duodenitis 5,862 3.3 Eye Infections 5,266 3.0 Source: Ministry of Health, Outpatient data. 126 TABLE 8.3: NuIRITIONAL STATUS OF CHILDREN UNDER FIVE Indicators Percent of Sample * Moderately Underweight 31.0 Severely Underweight 10.2 Moderately Stunted 46.0 Severely Stunted 20.0 Incidence of Wasting 6 to 50 months 10.4 6 to 12 months 7.9 13 to 24 months 15.5 25 to 36 months 9.6 37 to 48 months 10.9 49 to 60 months 7.7 Source: UNICEF/MOH Health and Nutrition Survey, 1993. * Sample size was 910 children. 8.10 In 1993, caloric intake in Eritrea was estimated at 1,750 kcal/person/day, equivalent to about 93 percent of minimum requirements.39 In comparison, the average for Sub-Saharan Africa is 2,096 kcal/person/day. The figure for caloric intake must be treated with caution, however, given varying estimates of the national population; depending on the source, the number may be between 2.3 and 3.5 million.' A recently concluded health and nutrition survey (UNICEF/MOH, H&N Survey, 1993)4' provides preliminary data on the nutritional status of Eritrean children under five years of age, as measured by the incidence and severity of protein energy malnutrition (PEM).42 Table 8.3 reports the survey results which show high levels of malnutrition: more than 40 percent of under-fives were found to be underweight of whom a quarter were severely underweight. Stunting affected two thirds of the children of whom slightly less than a third were severely stunted. The incidence of wasting was lower at 10 percent of until 39 The estimated minimum requirements are 1,890 kcal/person/day, based on four assumptions: a population of 2.3 million; a sex and age distribution of the population similar to Ethiopia; medium levels of physical activity; and average to poor health status among the population. From the Food and Agriculture Organization (FAO), Eritrea: Agriculture Sector Review, Appendix 12: Nutrition, draft prepared by Judith Appleton, Rome, November, 1993. 40 The Eritrea Relief and Rehabilitation Agency (ERRA) uses a figure of 2.3 million to estimate food aid requirements. 41 The survey report appears as part of the draft UNICEF/GOE Situation Analysis of Children and Women in Eritrea, 1993. 42 The MOH is also planning to launch a national nutrition survey which should add to the database on nutritional status. 127 children under five.43 These figures are lower than might have been expected given local conditions. Most of the explanation may lie in the role played by food aid. 8.11 Table 8.3 also indicates significant differences by age among children under five. The incidence of wasting almost doubles between 6-12 and 13-24 months of age, but then improves until age 5, with only a limited deterioration between 37-48 months of age. The data suggest that considerable wasting may take place as early as 9-12 months of age. There was no major disparity by gender; indeed, boys were found to suffer from a slightly higher rate of wasting than girls, 10.7 percent versus 10 percent, respectively. There were no significant differences between provinces with one major exception: the incidence of wasting in Sahel (25 percent) was more than twice the national average. This is an especially worrying phenomenon because the survey was carried out in May-June when neither seasonal food shortages nor the incidence of malaria are at their worst. A significant divergence also emerges when the data are disaggregated by the two major ecological zones in Eritrea with, as expected, a higher incidence of wasting in the villages located in the lowlands (11.7 percent) than the highlands (8.9 percent). With regard to rural- urban disparities, the incidence of stunting was higher in rural compared to urban areas, at 48 percent and 41 percent of under-fives, respectively. In contrast, wasting was more prevalent in urban than rural areas, at 13.3 percent and 10. 1 percent, respectively." 8.12 Unlike protein energy malnutrition, there is presently very little information on the incidence and severity of micronutrient deficiencies. There is some evidence to suggest that vitamin A deficiency (VAD) is a significant problem. A study carried out by the WHO in Asmara during September 1989, found VAD among 3.5 percent of children under five who were brought for out-patient care over the four-week period. The significance of VAD may also be indicated by the high incidence and severity of diarrhea among under-fives. The composition of local diets, which are often lacking in leafy vegetables, increases the likelihood of VAD in the population. There are no data currently available on iodine deficiency disorders (IDD). However, preliminary evidence shows that iron deficiency anaemia is among the leading categories of both out- and in- patient diagnoses for children under five, though much less important than preventable diseases such as malaria, diarrhea and acute respiratory infections (ARI). 8.13 Food aid has been critical in supplementing domestic food production. The effects of inadequate food availability are exacerbated by the limited nutritional value of the foods which are produced and consumed by households. Traditional agricultural practices in almost all provinces are focused almost exclusively on the production of cereals (millet, sorghum, barley, wheat) and milk and milk products, thus, limiting the range of food groups to which households may have access for food preparation. The information on patterns of food production and consumption suggests low levels of nutritional awareness among the population, in general, and women/mothers, in particular. Prolonged breastfeeding seems to be associated with the late introduction of weaning foods: about a third of children (30 percent) were given supplemental food only after 18 months. The recommended practice is to provide supplemental foods after 4-6 months of exclusive breastfeeding. 3 The definitions are as follows: moderate wasting, stunting and undernutrition--between two and three standard deviations from the median weight-for-height, height-for-age and weight-for-age, respectively, of the NCHS reference population; severe wasting, stunting and undernutrition--belowthree standard deviations from the median weight-for-height, height-for-age and weight-for-age, respectively, of the NCHS reference population. 4 Note that the data reported are preliminary. In addition, ERRA has so far authorized the release of only the anthropometric information. 128 8.14 The incidence and impact of preventable diseases reflect, to a large extent, poor environmental conditions at the household level and lack of access to adequate primary health care (PHC) services. Access to safe drinking water and sanitary means of excreta disposal is extremely low in most provinces of Eritrea; 67 percent of the population obtains water from sources which are either unprotected or vulnerable to contamination. In rural areas, approximately half of the population obtains water from shallow wells, 13 percent from unprotected sources (rivers, springs and ponds), 7 percent from boreholes and a similar percentage from piped systems. With regard to sanitation, only 4 percent and 44 percent of the rural and urban population, respectively, have access to latrines, yielding a national average of 14 percent. The living environment is contaminated even further by the haphazard disposal of refuse and the absence of drainage systems. These problems are compounded by crowded living conditions. The consequences of this situation are evident in the high incidence of malaria, diarrhea and respiratory illnesses. 8.15 The effects of environmental factors are exacerbated by limited access to PHC services of adequate quality. It has been estimated that the majority of the population lives 15-20 km from a health station, 20-50 km from a health center and 50-150 km from a hospital.4 These averages conceal large disparities among provinces and do not take into account travel time which is an important consideration in a country with a weak transport and communications infrastructure. Even where accessible, services are hampered by shortages of trained manpower, insufficient drugs and supplies, substandard physical facilities and non-functioning referral systems. 8.16 Despite their prominent role in the liberation war and pivotal function as care-givers, women's contributions to family and community continue to be constrained by a disadvantaged socio-economic status. The consequences for progress on a broad spectrum of social indicators, including nutrition, are considerable; in the latter case, because the quality of child care depends, to a large extent, on the level of education of the mother and her access to income. This relationship reflects both women's role as the primary source of child care and their higher propensity to use income for child and family welfare (compared to males). Extremely low levels of educational achievement among Eritrean women together with their limited access to income- generating activities, thus, seriously undermines the effectiveness of social interventions-for example, health and nutrition education designed to promote changes in diets as well as improved care for women and their children. 8.17 The poor health and nutrition status presents a critical development problem for Eritrea which the new Government is attempting to address. To do so, the Government has embarked on an urgent program of development of the health services sector which will attempt to provide quality services equitably throughout the country. Health Facilities 8.18 Staffing. The health services delivery system in Eritrea is severely constrained in its size and operations. The nation has high ratios of population per health professional at 28,000 persons per physician and 8,400 persons per nurse. There is a steady influx of professionals returning to the country since the war ended, so that the number of physicians has almost doubled in the last two years. However, it is not anticipated that there are sufficient numbers of professional returnees to adequately staff the health sector. As a result, MOH has already established an 45 UNICEF/Government of Eritrea (GOE), Situation Analysis of Children and Women in Eritrea, draft, Asmara, November, 1993. 129 extensive program of establishing schools for nurses, health assistants and other staff. First priority in this training will be the ex-fighters already working in MOH. 8.19 A first group of 150 ex-fighters began a one-year crash program in the nursing school in Asmara in January 1993. A second group of 100 were admitted in September 1993. The school, however, was originally designed for 40 resident students (all 250 are resident). The result is severely cramped conditions in the dormitory and classroom space. The teaching staff at the school is 20 for a student/faculty ratio of 12.5. MOH has a backlog of about 500 more ex-fighters waiting for nursing training. Once this backlog is cleared, the school plans to return to a normal three-year course of study. A school for health assistants was opened in Asmara in January with 100 civilian students from the Asmara area. There is a backlog of about 400 ex-fighters who will be trained, but their training will take place in some other school. There are plans to construct dormitory facilities to allow training of resident students. The school has seven faculty members. MOH also operates a midwifery training school for 24 students in facilities furnished by Save the Children (UK). This school also wishes to train ex-fighters, but also has no dormitory facilities. There are plans to establish an Institute of Health Services as well, in which nurses and health assistants could receive specialized training in laboratory, pharmacy, anesthesiology, radiology, ophthalmology, public health, dental care and physiotherapy. 8.20 Current levels of staffing for MOH are shown in Statistical Annex Table XI.3. Current staffing patterns show almost half MOH staff located in the Asmara. However, this includes staff at referral hospitals, teaching institutions, and the pharmaceutical parastatal as well as the ministry headquarters and lab, and health centres in Asmara that provide primary health care. Significant war damage to MOH facilities outside Asmara has reduced the ability of MOH to place staff in the countryside. Over time, this ratio should shift toward greater provincial staffing. The high proportion of administrative staff, at 44 percent, is due to all non-professional staff being placed in this category, including all secretaries, clerks, drivers, cleaners and other support staff. 8.21 Physical Facilities. The physical facilities of MOH suffered significantly during the war. Approximately 60 percent was damaged or destroyed, and is mostly considered not fully functional. The current status of MOH facilities is shown in Statistical Annex Table XI.4. Statistical Annex Table XI.5 provides measures of the population per hospital bed and the population per non-hospital facility, which shows large variations in the current level of facilities per capita. This is in part due to the war and in part due to the investment policies of the previous Ethiopian regime. 8.22 Current MOH plans are to rehabilitate and construct enough facilities to establish 46 health centers and 174 health stations throughout the country. There are an additional 31 NGO health stations currently operating, for a total of 251 sub-hospital facilities. This would amount to one facility for every 12,200 persons, which is a good ratio by African standards. The number of hospital beds should rise significantly with the completion of the construction or rehabilitation of hospitals and health centres in Massawa, Tesenei and Keren. 8.23 Nongovermnent Services. There are also a number of nongovermment services operating in the country. The largest quantity of services is delivered by the Catholic church, which operates 24 of the 31 NGO health stations in the country, the remaining 7 are run primarily by various Protestant denominations. The Catholic facilities have been operating for some time, and provide both curative and preventive services. In their 1992 annual report, they indicated the following services: 657 thousand curative treatments, 65 thousand vaccinations, and 590 thousand MCH visits. These statistics did not indicate the number of persons served, or the size or their 130 catchment area. In addition, there are a number of NGOs providing medical services on a relief or humanitarian basis.' 8.24 Although nascent, there are private for-profit health services operating in the country. Most physicians voluntarily work for the MOH, and there are about 30 to 50 physicians operating after hours private practices. Almost all of these operate in Asmara, although there appears to be some private activities in the other major towns as well. It is difficult to judge the volume of these services. Local officials indicated that the average charge for a private consultation is Br 10. If these private physicians see an average of 60 patients per week on evenings and weekends, this would generate an annual income of Br 1 to 1.5 million. Such an amount would equal approximately 10 percent of MOH operating expenses. 8.25 Drug Distribution. In addition to staff and facilities, the quantity of drugs distributed by the health system is a major determinant of service delivery. Eritrea operates a system where distribution is both public and private, but where the state maintains control of importation. Central medical stores in MOH deal only with donated drugs. In 1992-93, it received about Br 8 million in donations. The other portion of the system is Pharmacor, which purchases drugs for distribution to both MOH and to private drug vendors. Pharmacor purchases drugs through competitive open tenders, but gives priority to known vendors it feels can be trusted to provide high quality drugs. They have received lower offers from companies in Italy and India, but Pharmacor does not have lab facilities for testing quality. When they obtain quality control facilities, Pharmacor will consider less well known firms offering lower prices. The firm itself seems to operate very efficiently. Their markup for overhead and other costs averages only about 22 percent. In 1993 Pharmacor purchased around Br 23 million in drugs. The wholesale cost of these imports was about Br 28 million. 8.26 Private sales of drugs are a very substantial portion of health sector spending in Eritrea. Pharmacor estimated that private sales may be as much as 30 percent of volume, with government purchases being the other 70 percent. MOH reports drug purchases through September of 1993 at only Br 3.1 million. At an annual rate, this would indicate purchases of only Br 4.1 million, which seems reasonable, given MOH's tight budget and large quantity of donated drugs. This would leave about Br 24 million in wholesale drugs going to the private sector. Pharmacor maintains a limit of a 25 percent markup for private sales, which would indicate a total retail value of privately sold drugs of about Br 35 million. In addition, NGOs are allowed to import their own drugs, as long as they adhere to the government approved essential drugs list.' 8.27 During the war, the EPLF produced about 40 percent of their drug needs through local production of 44 items in a plant in Sahel Province. Local production has currently ceased, but there are plans to reconstruct the production facility in Keren. Details of which drugs to produce have not been completely worked out. There has not been a detailed study of the economic viability of local drug production under peacetime conditions. The limited market in Eritrea would indicate that the cost of local production could exceed the prices of international tenders. 46 These include: the Red Cross, Norwegian Church Aid, Accord (UK), Christian Outreach (UK), Radda Barna (Sweden and Norway), Save the Children (UK), CRIC (Centro Regionale Intervento Cooperazione), Oxfam (UK), Lutheran World Federation, Norwegian Association for the Disabled, and AIFO (Amici di Raul Follerau). 47 The Catholic church and various NGOs indicate that they bring in a large quantity of drugs annually. 131 System Performance 8.28 Despite its current lack of trained staff and facilities, MOH provides a large quantity of both in-patient and out-patient health services. For a six-month period, available data indicate that there was significantly more than one contact with MOH per person, or more than two contacts per year. While this quantity of contacts is likely to be significantly less than the number of illness episodes, it compares favorably with health sector performance in many other East African countries, including Ethiopia. The extremely low number of attended births is a serious concern, particularly with the high level of maternal mortality in the country. Immunization coverage, at 11 percent of the total child population, is another problem. The Government recognizes the problem and is engaged in a wide scale immunization program. 8.29 In-patient services for the four hospitals in Asmara are outlined in Statistical Annex Table XI.6. No data are currently available for hospitals outside of the capital. There are several issues highlighted in this table. Average lengths of stay are long. Mekane Hiwot, the primary general hospital, has a length of stay more than 100 percent longer than most major referral hospitals. The main reason for this is that patients from outlying areas find it difficult to leave the hospital for recuperation elsewhere. Accommodations in Asmara are limited and transport back to home villages is difficult. Therefore, the hospital allows patients to stay longer than may be medically necessary. A second issue is the occupancy rates in these hospitals. Only Mekane Hiwot comes close to full utilization and the TB Sanitarium has subsequently been closed. Even the existing rates may be artificially high, given the lengths of stay in these institutions. Facilities with less than a 90 percent occupancy typically are reviewed for possible changes in operations or size. Recurrent Budget 8.30 The MOH recurrent budget and the level of actual expenditures for the first nine months of 1993 are shown in Statistical Annex Table XI.7. If the Br 15.8 million are prorated over the entire year, annual MOH projected recurrent spending for 1993 would be approximately Br 21 million. In addition to these on-budget expenditures, MOH had received about Br 8 million worth of donated drugs. This donation would bring real operating expenses for whole of 1993 to Br 29 million. 8.31 The budget is divided into staff expenses which are 64 percent of the total, and running expenses which are 36 percent. Of the two thirds allocated for staff expenses, 53 percent goes for civilian salaries and allowances, and 11 percent for stipends for the ex-fighters on the staff. 8.32 The recurrent budget does not provide a breakdown of expenditures among hospitals, other health facilities, training institutions, and non-facility based programs. However, MOH's monthly record of expenditures for the three hospitals operating in Asmara shows that these three hospitals spent a total of Br 3.45 million during the first nine months of 1993, which is 22 percent of the total MOH spending during that period. In fact, hospitals actually used a greater portion of the budget because of items not charged directly to the hospitals. A sample breakdown of a hospital monthly expense report indicates that two major missing items are ex-fighters stipends and drug expenses, both of which are budgeted to the central Ministry. With the addition of drugs and stipends, the three Asmara hospitals may take as much as 25 percent to 30 percent of MOH recurrent budget. These hospitals represent 1,541 of the total 2,822 hospital beds in the country, or 55 percent. 132 Capital Expenditures 8.33 MOH capital budget is roughly ten times the size of the recurrent budget. The MOH proposed capital budget for 1993 included: construction, Br 150 million; medical equipment, Br 70 million; non-medical equipment, Br 15 million. This is a total of Br 235 million, or US$47 million. Actual capital expenditures in 1993 were financed mostly by communities and donors in support of the Government's programs, and for the first nine months of 1993, amounted to about US$29.4 million.'4 These construction estimates include US$4.3 million for rehabilitation of hospitals in Massawa and Keren, and US$4.1 million for the construction of a new hospital in Tessenei, nine new health centers, seven health stations, and one eye center. The hospital is estimated to cost around US$1.1 million. A health station is estimated to cost around US$0.3 million.49 Cost Recovery 8.34 Although per capita income places Eritrea among the poorest nations in the world, a significant amount of revenue was collected by MOH during the first nine months of 1993. Over Br 2 million were collected in various accounts by MOH. This included more than Br I million in fees in hospitals and health centers. Over Br 800,000 came from licenses for private pharmacies, stamp duties and various forms of taxation. Almost Br 200,000 were collected from the sale of scrap and other salvage. Br 1 million represent a cost recovery ratio of about 6 percent. While this is relatively low, it compares favorably with cost recovery efforts in many African countries which have much higher per capita incomes. All the money collected by MOH was turned over to the treasury for general use. LMPROviNG HEALTH AND NUTRrION Health 8.35 Overcoming Major Constraints. As MOH has pointed out in policy documents, the deteriorated nature of the health service infrastructure provides a major constraint to the delivery of health services. That problem is currently being addressed by MOH in a crash program of building and rebuilding. Secondly, much of MOH staff has received little formal training, and there is a need to upgrade their skills. This problem is also being addressed through a crash program of rehabilitating training institutions and moving staff through accelerated programs. 8.36 However, there are two issues that would require careful consideration. These two issues relate to the nature of health services to be delivered and potential financing problems in the future. 4S Donor expenditures have included: construction, US$8.45 million; EPI (UNICEF), US$3 million; vehicles, equipment, and supplies, US$18 million; for a total of US$29.45 million. 49 A large number of donors are involved in the health sector. USAID has allocated over US$2 million and is developing a new health project. The European Economic Community (EEC) is supporting the rehabilitation of rural health stations (US$2.0 million) and malaria control (US$0.66 million), while the Canadians and Swedes are providing nominal support for the proposed three-year US$8 million UNICEF EPI and Primary Health Care Rehabilitation Program. The Italian aid agency, the Red Cross, Kap Anamur (German), and other agencies are supporting the construction. 133 8.37 Greater Emphasis on Primary and Preventive Health Care. The Government is concentrating on the reconstruction of wartime damage and deterioration in the health sector, as they are doing in most other sectors as well. This has largely focused on facility-based, curative care orientation. In addition, the MOH has emphasized various types of preventive and promotive health services, as well as some emphasis on environment health. Examples of these services already listed in MOH's policy statements include: malaria control programs, AIDS prevention and control programs, tuberculosis/leprosy control, epidemic and endemic diseases control, and hygiene and environmental sanitation. Public health activities aimed at preventing problems such as malaria, AIDS, water borne diseases and epidemics will have in general a greater overall impact on Eritrea's health than the curative treatments of these illnesses after they have been contracted. The Government recognizes that more emphasis should be placed on primary health care and support for the lower levels of the health delivery system. 8.38 Health Services in Rural Areas. In its 1993 policy paper, MOH acknowledges the important of community-based health services and states: "The issue of community health services has been reviewed recently and the Ministry's policy is that communities should elect their own village health agents which will be accountable to the community. The Ministry will be involved in the training and the initial supply of drugs and equipment, but the communities will be responsible for the long-term sustaining of this service." 8.39 Encouraging the Private Sector. The Government has recognized the importance of further encouraging private sector activities in the health sector. One option that could be considered is to reduce the involvement of MOH in curative care generally to encourage the demand for private sector health services. In addition, some regulatory reforms could be introduced to eliminate the monopoly of the Government on the imports of drugs and eliminate the requirement that all health workers must work for MOH. 8.40 Strengthening Finance. The two most important upcoming financing issues will be staff costs and the cost of maintaining a large physical plant. Staff expenses in the 1993 budget included Br 8.0 million for the first nine months, or Br 10.7 million for the year. However, stipends for the ex-fighters amounted to only Br 1.4 million (Br 1.8 million annually). About 48 percent of MOH staff are ex-fighters who will require civilian salaries. It is unknown what positions the ex-fighters currently occupy in MOH, but a large number are currently being trained at nurses and health assistants. Thus, it is likely that the future salary cost of the current ex- fighters will be at least equal to the current civilian wage bill. This would imply that in the next few years, the wage bill of MOH would rise by about Br 9 million. 8.41 That level of wage increases would use up the entire MOH budget for salaries and allowances alone. However, there will be a second major demand on the budget in a few years to maintain the drastically expanded physical infrastructure of MOH. In 1993 alone, MOH had a building program of US$8.4 million. It is also receiving a large quantity of vehicles and both medical and nonmedical equipment. With the value of the current physical plant and projected construction, the value of the health infrastructure could easily reach US$20 to US$30 million within the next few years. If this infrastructure is to continue to provide services in an efficient manner, it must be maintained. A conservative rule of thumb would be that maintenance costs should run about 5 percent of the value of the buildings, vehicles and equipment. For MOH to properly maintain plants would then require an annual maintenance budget of Br 5 to 7 million. 134 8.42 Adding these two items to the current MOH budget of Br 21 million would require an expansion to more than Br 35 million. Eventually adding in possible drug expenditures would push the budget to about Br 45 million. It seems unlikely that the Government will increase the allocation of health in the budget to this extent. In 1992, MOH received about 4.2 percent of the recurrent budget of the GOE. In 1993, this dropped to about 3.7 percent of the budget. While MOH may be able to argue for some increase in its budget, it is unlikely to get a 50 to 100 percent increase. Nutrition 8.43 There is a growing body of evidence which shows that improvements in nutritional status have important direct and indirect effects on productivity. Indirect effects can also be considerable, reflected principally in higher cognitive achievement and greater pre-school ability, thus, contributing to better outcomes from schooling, among other things. 8.44 The major nutrition intervention in Eritrea undertaken over the past year and planned for the next 18 months is supplementary feeding of under-fives. While this was an appropriate response under conditions of emergency, there are several reasons why continued reliance on this intervention over the medium term may not be advisable. First, the improvements in nutritional status gained through supplementary feeding are difficult to sustain because the child must return to communities where the underlying causes of malnutrition such as poverty, food insecurity and disease continue to exist unabated. Second, where dry ration is provided, it may substitute for rather than complement what the child already consumes at home, thus, reducing the net gain from the increased availability of food. Finally, in the absence of a reliable, geographically disaggregated database on the incidence of malnutrition or a national nutrition surveillance system, it is difficult to ensure that the feeding sites are located in the areas with greatest need. This particular problem should be partially remedied, however, through the different surveys which are expected to be carried out during 1994. 8.45 Any strategy for tackling Eritrea's nutrition problems needs to take into account the limits imposed by a small national resource base and a large number of competing demands. Thus, more attention should be paid to targeting. This could be a complex issue; on the one hand, targeting could take place by focusing interventions on those areas with the worst problems. The characteristics of these areas, such as low population densities and limited infrastructure, however, suggest that interventions could only be carried out at high unit costs. On the other hand, in areas with higher population densities and reasonable physical infrastructure, it would be possible to have greater impact at lower unit costs with the same volume of resources. These alternatives call for a careful balancing of equity and efficiency considerations in the design of nutrition interventions. 8.46 Finally, expanded and intensified community involvement should be considered. Investments of this type would generate high returns by extending the reach of promotive, preventive and limited curative services to those places where problems actually occur; reducing the burden on health services by mobilizing local level resources whether financial, human, material or organizational; potentially serving as a credible link between the formal health system and communities, thus, increasing the former's effectiveness; and, last but not least, helping to generate demand for relevant and reliable health and nutrition services thereby increasing utilization of the system's capacity. 135 I 9 SOME PERSPECTIVES ON POVERTY AND COPING MECHANISMS IN ERITREA IWNRODUCTION AND SUMMARY 9.1 While it is widely accepted that Eritrea is one of the poorest countries in Sub-Saharan Africa, there has been no comprehensive study of the dimensions of poverty which would allow for a thorough analysis of poverty patterns in the country. Instead, there are many indications that point to the prevalence of poverty, including a very low per capita income of less than $150, high unemployment in certain areas, poor social indicators (high maternal and infant mortality, child stunting and malnutrition, and low life expectancy), very poor social services (lack of sanitation and access to safe water, poor access to basic health facilities, low rates of immunization, low educational enrolment rates, and housing shortages in urban areas), and a burden of disadvantages carried by women in traditional societies. The information that does exist on these realities has been fully presented elsewhere in this paper, and there is no value in repeating them here. In the absence, therefore, of a comprehensive data base on poverty in Eritrea, this chapter aims to provide some perspectives on the way poverty is experienced, and the way communities in Eritrea cope with the challenges of poverty. It will also provide some initial insights into some regional differences related to poverty. The perspectives contained in this paper benefit from early analysis of the result of a rapid assessment of about a hundred poor communities in different parts of the country (a fuller report on the results of this study is being prepared separately). This chapter also draws on the scanty information that already exists, as well as the views of local agencies in Eritrea that have been working on poverty problems for some time. 9.2 As discussed in the previous chapters, thirty years of war have destroyed much of the basic social and economic infrastructure of the country. Land is becoming a relatively scarce resource, especially in the highlands. However, access to land is only one factor. Control over livestock may be an even more important determinant of poverty, especially in the lowlands. In rural areas, the other important factors that contribute to poverty in Eritrea are the isolation of many communities and lack of social services. Isolation keeps incomes low through high transport costs, and lack of access to information about the market situation. Isolation also results in poor access to health services and education, virtually absent in large parts of the lowlands and in the more remote areas of the highlands. In the urban areas, unemployment is the major cause of poverty. Opportunities in the public sector are limited. The informal sector currently provides the main opportunity for the urban poor, but this sector has its own problems. 9.3 While the deprivation in Eritrea is as bad as can be found anywhere in Africa, there are a wide range of coping mechanisms and community support systems that often protect vulnerable groups from the worst consequences. The situation relating to women is of particular importance and is fairly complex. The Government has created a highly positive legal environment to advance the economic and social rights of women in the country, and the community activities of many women ex-fighters and the influential National Union of Eritrean Women (NUEW) provide strong forces for change. However, the reality is that the vast majority of Eritrea's women live in rural societies which give them a low traditional status. Some traditional practices, for example those related to pregnant women and young mothers, provide important degrees of protection from hardship. Women with young children are not expected to engage in any agricultural labor, and in some regions they are not supposed to do any work at all in the first period after having given birth. However, despite the advanced legal code in the country, rural women have difficulty obtaining access to means of production. Traditional women usually have had little or only a modest influence in the social and political organization of their communities, are discouraged from continuing their education beyond very basic levels, and can seldom find independent employment. They are therefore largely trapped within a dependent role in their families and communities, although in reality their economic and social contribution may well be significant. Women also experience many social disadvantages in traditional community organization. The practice of female genital mutilation is widespread in some parts of the country, and despite rights granted by the legal code, divorce and equitable inheritance of property are strongly restricted in practice. Because of the pressures for change in Eritrea, the situation regarding women is very dynamic, and almost all generalizations could be challenged by examples of change. Nevertheless, the underlying reality is that change in the status of rural women in many communities will be slow and gradual. 9.4 Eritrean society is supportive to the elderly and handicapped. Solidarity within families and communities is generally strong, as shown by the efficient distribution of food aid to those who are most in need. Nevertheless, the position of these two groups becomes more vulnerable at times of severe shortage or should food aid fail. Orphans are another vulnerable group in Eritrea, estimated at about 50,000. Those that remain close to their homes are generally cared for by their extended families, and the success of this is demonstrated by the fact that street- children are quite rare in Eritrea's towns. The Government is implementing some assistance programs through the Department of Social Affairs for those not under extended family care. 9.5 In Eritrea family and community solidarity is an important asset in mitigating the consequences of poverty. In lowland rural areas, family solidarity is traditionally organized. The elderly remain part of the same household with their children in an extended family arrangement. In the highlands, while family solidarity is important, community solidarity plays an even more important role, for example, the supportive arrangements among farmers in case of harvest failure. Traditional support systems have helped the Eritrean population to face extremely hard living conditions due to war and famine, and will be important assets in the task of reintegrating thousands of returning refugees, displaced people, and demobilized ex-fighters. 9.6 The long term foundation for poverty reduction in Eritrea will be provided by sustained economic growth brought about by opening up the economy of Eritrea to private investment and international trade, and the careful exploitation of the country's assets. However, this will need to be supplemented by introducing poverty monitoring mechanisms, and a range of targeted programs in rural areas. Ending isolation and integrating the economies of the lowlands and the highlands, is an important long term goal in transforming the economic opportunities of the rural poor. Over the next few years, as emphasized elsewhere in this report, priority will need to be given to community-based efforts to improve primary education, basic health, feeder roads, rural water supply and sanitation. For many communities, measures to strengthen the agricultural sector will provide the most immediate source of improved income and food security. These will include improvements in farming practices, better incentives through recent changes in land- usership, water conservation, improved access to credit and inputs, and programs to halt and reverse environmental degradation. However, most traditional farmers are likely to continue to be subsistent rather than producing surplus to market, and the size of economic investment needed to expand land that can be cultivated places some real constraints on the capacity of the agricultural sector to provide employment for the country's rapidly growing population. While 138 small-scale industry and services in and around rural towns will become increasingly important sources for employment, the development of microentrepreneurial activities and other forms of self or group-employment will be a priority in Eritrea's rural areas. MEASURING POVERTY IN ERITREA 9.7 Calculating a poverty line for Eritrea will present some special challenges. Eritrea has such large cultural and economical variations in its small territory, that collecting the necessary basic needs and expenditure data may require a significant sample, and a single national poverty line may have limited practical value. In many respects, Eritrea combines a set of extremes: a fairly large modern urban sector compared to other countries in the region, together with many isolated and inaccessible communities. These differences are amplified by poor infrastructure and large price differentials between the various parts of the country. Eritrea has a sedentary farming population living in villages and small agro-towns in the central highlands, while other parts of the country have a basically pastoralist population, part of which are true nomads. Many large cultural differences add to this diversity of its population. Therefore, it will be difficult to compare subgroups without several specific poverty lines. While an absolute poverty line based on true consumption data could take account of most of these variations into account, this also presents challenges. The Eritrean Relief and Rehabilitation Agency (ERRA), as part of its effort of organizing food aid distribution, calculates the number of needy Eritreans on a year-to-year basis. In principle, this could constitute a good estimate for an absolute poverty line as the figures are made up of enumerations by local administrations at a community, district, and provincial basis of those households that need food supplementation because they lack the means to provide adequate amounts of its own food. These figures indicate the number below the poverty line in Eritrea, as about 47 percent of the population in 19935. However, such calculations are dependent on climatic variation: the 1992 harvest was relatively good in most of the country, while the previous year's harvest had been only close to one third of 1992. The 1993 harvest is only slightly above that of 1991. Any estimate of the number of poor families based on food consumption criteria alone would fluctuate too much to be useful. WHY ARE PEOPLE POOR? 9.8 Approaching the assessment of poverty according to the traditional division of Eritrea under different climatic zones may be too simple to capture the deep socio-economic differentiation among the various areas of the country. Not only are there intermediate regions, areas that climatically fall between these major types, but more importantly, the people living near the escarpments often exploit the zone differences by pursuing economic activities based on opportunities existing in more than one zone. For example, highland cereal farmers living near the edge of the zone keep their cattle in more sparsely inhabited lowland areas, where more forage can be found. In addition, local differences in altitude, morphology, and soils, result in many micro-environments, that present specialized economic opportunities and difficulties. 'o ERRA calculations estimate that out of a population of 2,649,000, approximately 1,250,000 needed food aid in 1993. Part of this food aid could be dispensed in food-for-work programs, but part was also needed by people unable to provide for themselves, such as orphans, elderly and handicapped. Source: Emergency Food Proposal 1993: ERRA 1993. 139 9.9 Agriculture is the main economic activity in the highlands, but is far from a reliable source of income. Agricultural yields in the central highlands are not only limited by rainfall conditions, but are being reduced because of the high population pressure on land. Development of the modern sector and the growth of Asmara and the other highland towns resulted in increased land scarcity already in colonial times, which together with population growth, has reduced fallows and increased erosion. Most of the land has been denuded of forest cover, in part through the destruction of trees to facilitate ox plowing of land newly brought into cultivation. The land tenure system, until recent measures, discouraged tree planting along field borders as these are often changed during periodic land redistributions. 9.10 Demographic Pressure and Scarcity of Land. Population pressure on cereal yields in the highlands is increasing rapidly, and intensification of land use has depleted organic matter in the soils. In the traditional system, soil fertility is maintained in part through manure fertilization, but, as fuel wood has become scarce, cow dung is replacing wood as the main source of fuel. Further, the problem of nutrient depletion in the soils has been compounded by the appearance of striga, a pest weed which thrives particularly in poor soils and considerably reduces cereal yields. Traditionally, a farmer noting the first signs of striga would leave the plot fallow to improve fertility. This is no longer happening, and even in areas considered fertile, such as Seraye, yields are under pressure due to these parasitic weeds. A rapid field estimate indicated that in parts of Seraye near Mendefera, some 15 to 20 percent of the fields show serious effects of striga resulting in a harvest reduction by one third of affected fields, or calculated for the surveyed area as a whole, a loss of 5 to 10 percent of the harvest. 9.11 Land Tenure. Recent changes have replaced traditional land tenure systems with farmers' life-long rights to cultivate land. Under the traditional systems, practices varied between the highlands and lowlands. The land tenure system in the central highlands was characterized by the diesa, in which land was collectively owned by the village community. Each household received a share of the village land for cultivation. Care was taken that each household received land of equal quality, sometimes in lots proportional to household size. Although there were different versions of the system, the aim was to ensure access to land for the poor and handicapped. To take account of fluctuations in family size and migration, redistribution of land took place about every five or seven years. Each community also had communal lands which were used for grazing and tree cultivation. In the lowlands, access to land has been more complicated. Although land is not scarce, the use of the best land, i.e. plots that can be irrigated or that have opportunities for rainwater harvesting or spreading systems, often requires capital resources not available to the poor. The land tenure system in large parts of the lowlands has been the demaniale, the land owned by the state, to which access was controlled by "concessions", a licensing system that required the applicant to have sufficient means to develop the holding. This effectively excluded the poor as even joint ventures by groups of poor farmers might not have been able to mobilize the necessary resources. 9.12 The new regulations will play an important role in reversing some of the negative aspects of traditional land tenure, giving farmers security of land usage through their life-times, giving women equal access to land use, providing the incentives to carry out long-term soil improvement and environmental conservation practices that will help maintain fertility and productivity, preventing parcelization and fragmentation of land which were results of the old communal systems, and avoiding village and tribal conflicts over land. The new regulations also aim to make it easier for landless Eritreans to obtain land wherever it is available, and should make 140 access to credit more practical. It will, of course, take time to implement the new regulations given both the need for public participation and education, and a host of technical tasks to set up classification and registration systems. 9.13 Control Over Livestock. Throughout the country, livestock plays an important role in the agricultural system, and it is control over livestock, that often differentiates between poor and non-poor. In the highlands, oxen are important in the traditional system of cultivation. To grow sufficient food, the cultivated area per farmer has to be relatively large, while, given the dry climate, land preparation needs to be intensive and often requires several cycles of plowing and rotation to conserve humidity. Planting is often done in lines, mostly as a single stand, unlike elsewhere in Africa where many farmers use inter-cropping. The regular spacing between rows not only improves water retention and resistance to erosion, but it facilitates weeding with animal traction. Oxen are also used for threshing during the harvest. 9.14 Good harvests depend on the availability of draft animals, but due to the pressure on land and low rainfall conditions, oxen are difficult to maintain. They need considerable quantities of fodder, and the total grazing area available for livestock does not allow every household to have its own set of oxen. Only farmers who succeed in combining sufficient labor power and capital with a careful management of their land resources are able to maintain their own oxen. Farmers with oxen may lend them to others in return for compensation-crops, money, labor, or even fodder. In other cases, a number of farmers, each with one ox, may cooperate and plow together; (the ideal situation is to plow with two oxen, although in extreme cases farmers may combine oxen with other draft animals or even human help). Those unable to work their own fields, for example the elderly, widows, and handicapped, may let others plow them in return for part of the harvest: the land-holder that supplies animal labor will retain a half of the harvest, or a third if no labor is provided. Farmers with oxen but short of land often use this system to obtain access to additional land. Rich farmers may extend both land and livestock through exchange relationships of this kind. 9.15 Lack of oxen is clearly a major factor limiting the productivity of the poor farmers. However, although there may be a shortage of draft animals in some areas, there may also be problems related to the distribution of and access to land. Plot sizes tend to be very small. Equity considerations have resulted in a high rate of subdivision, ensuring that each farmer has plots of all available soil types. This means that time is lost traveling from field to field, which in the case of outlying plots easily takes half a working day. Contracts between land-holders and tenants are mostly share-cropping contracts, and so are many contracts between the owners of oxen and those without oxen. In this way, the risks of nature, not to be disregarded under the Eritrean circumstances, are shared between the two parties. Although this is a positive side effect of the share-cropping system, it also easily exacerbates poverty. Rich farmers with other sources of income may be able to withstand a drought, but a poor farmer without oxen or sufficient labor power, will find it hard to recover after a bad harvest, having to share the reduced crop. 9.16 In lowlands agriculture oxen play a smaller role, where camels perform better as draft animals. More important, however, is the use of camels for transport, which makes camels a much more profitable investment in a region where the traditional long distance trade is a major source of income. Participation in this trade is an important distinction between the poor and the rich, and a vital supplement to unreliable agricultural production in the region. As is generally the case in the highlands, poverty in the lowlands often equates with lack of livestock. This is 141 especially the case for the pastoralist population of Barka and Sahel who are only marginally dependent on cereal cultivation. To obtain cereals, small ruminants are sold or exchanged, with sale and purchase often occurring in different markets as is characteristic of trading communities. Cattle and camels are typically the animals of the rich. In many cases herds are owned by highland farmers who have invested in livestock that grazes in the lowlands. Small ruminants are the main source of income for the poor pastoralists. If their herds are depleted beyond a minimum, natural increase is not sufficient to maintain the herds, and this may require the sale of jewelry, sometimes the few precious oxen or camels owned, seeking unskilled jobs, and in the final resort dependence on food aid. This is the major factor behind the growth of the larger villages and towns in the lowlands, particularly in Sahel province, where war and droughts have hit hardest. 9.17 Rural Isolation and the Impact of Transport and Location. One of the major dimensions of poverty is the isolation of many rural communities. Due to this isolation incomes remain low. Not only do the costs of transport reduce incomes obtained for produce, a lack of information regarding markets reduces isolated farmers' capacity to react quickly to changes in demand. Costs of many services provided by the modern economy also are much higher in isolated places. Along the main roads, the transport system is relatively good by Sub-Saharan African standards, and connections between the major centers are quite numerous and prices are consistently lower compared to the prices paid by the rural population. But as most routes concentrate on the administrative centers, transport even from nearby villages is inordinately expensive. Most passenger vehicles fill up at the starting point and give priority to passengers that travel the whole way. Often, even when the main road passes their doorstep, many rural communities have limited access to modern transport. Villages off the main road normally depend on traditional means for transport, which generally means that many farmers will try to sell their crops in the nearest main market town, sometimes at several days' walking distance. Smaller markets usually cater only to retail demand and traders that buy produce remain in the larger towns. Local beer, a small-scale enterprise that attracts many women, is a major commodity in many of the rural markets. 9.18 Trade routes still follow traditional patterns because the modern road network, connecting the lowlands to Asmara and Massawa, is not served by a network of feeder roads. As a result, the across-border trade, both with Sudan and Ethiopia (and even across the Red Sea to Yemen and Saudia Arabia) dominates large areas. In markets close to the border with Sudan, prices are often in Sudanese currency. Border trade presents opportunities for income generation, provides an outlet for commercial crops, keeps prices down, and is the major source of the unofficial food imports that have supplemented food aid during past years. 9.19 Isolation and the Lack of Social Services. Isolation not only limits economic activities but also results in poor social services in many outlying communities. Due to isolation, health services and education have been virtually absent in large parts of the lowlands and some of the more remote areas of the highlands. In the past, health services were limited to hospitals in the provincial administrative centers, a few badly stocked smaller health facilities (health centers and health stations), and the services provided by missions. Since independence, rapid efforts have been launched to remedy this situation, but the effects of the poor health infrastructure on mortality rates are still considerable. The educational system is in a similar condition, which is the main reason the population of the more remote areas cannot compete for employment. In many areas schools are being constructed for the first time. 142 9.20 Urban Poverty and Unemployment. In the urban areas, lack of employment is the major cause of poverty. Employment in the industrial sector is low, and public sector cannot absorb the majority of the urban poor. Many of the urban poor are unable to compete for employment, anyway, because of lack of schooling or other handicaps. As a result a large proportion of the urban poor look to the informal sector for a source of income. Incomes in this sector are small, and given the lack of microcredit facilities, the poor find it hard to raise the necessary capital to obtain small business licenses. 9.21 Urban Overcrowding. Urban poverty is mostly visible through overcrowding. As in many other countries segments of the urban poor in Eritrea live in slum areas in small and primitive houses, often without sanitation and other basic facilities. These conditions are one of the main contributors to urban poverty and poor health indicators. Urban slums in part cater to the housing needs of the rural poor that have left the countryside because of a lack of means of support, looking for employment in the urban centers. The urban housing shortage, and lack of means among the new arrivals have driven them into the most crowded neighborhoods. Eritrea's main cities-Asmara, Keren and Massawa-each have neighborhoods in which the poor concentrate. Most consist of rental units usually a single small room per family of five to six persons, with poor sanitation. Recent increases roughly tripled house rents, which will result in further crowding in these neighborhoods. The most congested areas also experience the worst sanitation and water supply conditions. In some neighborhoods public baths are available, and toilet facilities are supplied by the community in some neighborhoods in return for small fees. Other neighborhoods lack these facilities completely. Only a few houses have private latrines or toilets, usually those owned by the original landowners, inhabitants of former villages that have been absorbed by the growing city. Water supply and refuse disposal are organized mostly by public bodies, but some neighborhoods are inaccessible to their vehicles because of lack of roads. 9.22 In all of Eritrea's cities a shortage of housing is a problem, but in Massawa the housing situation is particularly serious. This city was almost totally destroyed during the war, and in early 1993 the city was hit by storms that destroyed many of the remaining houses. The tents that were supplied to the inhabitants are considered uncomfortable in the hot climate, and many inhabitants live in temporary housing or partly repaired buildings that give little protection, or simply out in the open. 9.23 The number of recent immigrants among the poor in Eritrea's cities is still relatively low, compared to the populations of the small towns in the lowlands. Many of these smaller towns have attracted large numbers of new settlers from the surrounding country-side. Many of these were short-term refugees in Sudan during the last stages of the war, and flocked to the towns to look for work and food aid, unable to return to their communities when they found that their original livelihood had been lost or destroyed. While poor, the living conditions of these retumees in small lowland towns generally are not as problematic as those in the main cities. Settlement largely follows traditional lines, most houses are built from traditional materials and the problems of land shortage are less serious. Nevertheless, this rapid growth has important environmental implications as wood resources in the surroundings are rapidly diminishing. Even more important are the problems of water supply and health services. The new influx has increased demand beyond the available capacity, which has direct health hazards for the whole population in these areas. This problem will further increase as still more returnees arrive from Sudan, placing a high priority on programs to assist refugee reintegration. 143 VULNERABLE GRouPs: GENDER, AGE, HANDICAPS 9.24 The Gender Dimension. The situation regarding the status of women in Eritrea is somewhat complex. Some generalizations can be made, for example, that with the exception of more privileged educated urban groups, the public role of women in Eritrea is limited. Women, especially in rural communities tend to be allowed to operate only in the domestic sphere. In some regions of the country they are so restricted that they do not participate in any activity outside the home. This contributes to a lack of control over their own lives making them dependent on men for their livelihood. Eritrea has a progressive legal framework providing women with a wide range of social and economic rights. Customary practices in rural communities, however, have been generally discriminatory towards women, limiting their access to land and means of production, and restricting their social rights compared to men. In many communities, there are specific practices that harm women, including female genital mutilation which is forbidden by law but fairly common both in the lowlands (the practice of infibulation) and in the highlands (the practice of clitoridectomy). Surveys have also shown that child marriages create hardships for many women, and there is concern about the degree of protection women have against domestic violence. 9.25 On the other hand, there are many other factors that modify without changing the overall soundness of these generalizations. In many parts of Eritrea, women with young children are regarded as a special category, and are not supposed to engage in any agricultural labor. In some regions they are not supposed to do any work at all in the first period after having given birth. This protects them from the extreme hardships experienced by young mothers in large parts of Sub-Saharan Africa, who have to combine the burden of heavy agricultural labor with caring for large families. These traditions provide a positive basis for actions to reduce infant mortality rates and improve child nutrition. The situation involving women also varies because of the recent dynamics caused by the liberation struggle. Women in some communities have been exposed to urban influences or other forms of exposure to cross-cultural contact, for example population movements resulting from the war, life in refugee camps, and contact with the EPLF forces, especially women fighters. There also seem to be some important differences in terms of regions of the country. In parts of the highlands, women have greater liberty of movement than those in traditional lowland communities. The recent survey found examples of communities where women have land-use rights, and own houses and animals. Customary law in the highlands has for a long time given women the right to divorce their husbands, and although tradition may still restrict this right, there are documented cases of highlands women obtaining divorces as well as an equal share of possessions and property.5' Another example of both differences and recent changes relates to women's education. In the lowlands, women have faced severe inequality in access to education resulting in rates of illiteracy estimated at as high as 90 percent. Officially, schools in the lowlands are integrated, but participation of girls in more remote schools has been almost non-existent. The problem is difficult to resolve in areas were schools are a recent introduction and the separation of the sexes is very strict. However, despite these well documented constraints, there are encouraging signs of change. Enrollment rates in the lowlands for girls in primary schools have shown a recent improvement, and it is estimated that girls will make up 45 percent of total enrollments for 1992-93. " Friederike Kemink: Die Tegrenne-Frauen in Erirrea, Franz Steiner Verlag, Stuttgard, 1991. 144 9.26 The involvement of women in active work also varies among communities. Among the Tigre, women are responsible for building tents (men and women share the task of moving camp), while men are responsible for house building. However, in terms of economic activities, Tigre women are largely restricted to weaving mats which men take to market. In parts of the highlands, women are often active in agriculture (although not as active as men), whereas women in other communities (for example, the Bilen) do not participate in agriculture at all. The preliminary data that exists points therefore to the possibility of a fair degree of diversity, which will need to be better understood to ensure the relevance of targeted programs designed to reduce women's poverty. 9.27 Urban women exercise considerably more freedoms than rural women. This is the case in all parts of the country, with sometimes extreme contrasts between towns and the surrounding countryside: women from the same cultural background exhibit a very different behavior at a distance of only a few miles. Nevertheless, women are in a vulnerable position in all social settings. Economically, rural women are strongly dependent on men for the basic resources, land and livestock. In this respect, only the Kunama women in Gash-Setit are an exception because of their tradition of matrilineality (the husband takes up residence with his wife, and his access to farmland depends on his wife's relatives). The weak position of rural women is one of the main reasons why divorced women migrate to the towns. This has resulted in large numbers of female-headed households in towns and larger villages, which is rare in the rural areas. These households are at a clear disadvantage. Incomes of women are generally low, the number of jobs open to them is small, and many are restricted to the informal sector. And as opportunities in the informal sector have decreased, a large number of female-headed households report dependence on food aid as their sole source of survival. Outside the urban areas, female-headed households are mostly those of widows. These households in general find themselves in a difficult position. They combine lack of adult labor power with the disadvantage of being headed by women. In the highlands such households usually have to rent their farmland to a share-cropper, as women are not allowed to plow although they may assist a man in completing the task. In many parts of the lowlands widows have to remarry, often with a brother of their deceased husband. Because of the war, the number of incomplete households is large. In cases where the deceased husband was a fighter, the widows received support. In most other cases, such households depend significantly on food aid. 9.28 Women's Legal Rights. The present civil code (strengthened further by the recent decisions related to access to land) guarantees women basic legal rights in areas such as land usership rights, marriage, and divorce. The Government is now in the process of ratifying a convention to eliminate all forms of discrimination against women (CEDAW), which will establish a framework to enhance the legal, social, and economic status of women. This convention will be a far-reaching agenda for social change, but the problems of enacting it are well understood, and the process, however vigorous, will be slow and gradual in bringing about results. Progress will depend in major part on the education of a new generation of Eritreans who will be more comfortable with blending new concepts of women's rights within the traditional values and customs that have given Eritrea its special character of self-reliance and community solidarity. 9.29 The Elderly and Handicapped. The vulnerability of the elderly in Eritrea is somewhat off-set by the fact that the elderly usually remain with their families, and the earning power of the children tends to reach its peak by the time they assume responsibility for their parents. This 145 is very different with the handicapped. Many handicapped are war victims, either wounded combatants, or civil casualties, such as farmers injured by a mine. These handicapped are not only an extra burden to their families, but were often the main providers of the household before being incapacitated. In general, Eritrean society is supportive of both categories of dependents. The Government has special programs for the handicapped, especially for ex-fighters. Solidarity within the family and the local community is strong, which is one reason why the food aid distribution is efficient and reaches those who are in need. Nevertheless, the position of the elderly and handicapped remains vulnerable to conditions of extreme privation where the community may not be able to cope. Although still impressive, community support systems have been weakened by the war, the droughts, and resulting population movements. Families have not only become more isolated, but have been cut off from their resource base, increasing dependency on external aid. This is very visible among some sections of the population, especially certain groups of urban poor and uprooted pastoralist populations in Sahel. 9.30 The Orphans. Little is known about the problem of orphans, except that due to the war, the number of orphans in Eritrea is large. The Department of Social Affairs estimates a number of about 50,000 unaccompanied children in Eritrea, but there are no systematic data available on how many of these children are absorbed in rural communities. The Department of Social Affairs is implementing some programs of assistance to this crucial target group-consisting of basic education and vocational training, health assistance and shelters-mainly in Asmara and in other major towns. In rural areas, extended families generally take care of orphans. Because of these support systems, the number of street children in Eritrea is much lower than in many other African countries. THE WAR AND ITS AFTEREFFECTS 9.31 The War and the Environment. Decades of war left their mark on the poor. Not only did the war result in a large number of casualties and displaced persons, but its effects on the economy and the environment reduced the options available to the poor to retain self-reliance. Most important has been the disruption of the traditional patterns of economic activity. The livelihood of many people was always dependent on mobility, such as transhumance of livestock, inter-regional trade and grazing of highland-owned cattle in the lowlands. One of the effects of the war was to restrict mobility, blocked by actual fighting, by land mines, and by fear from Ethiopian soldiers. The population of villages and towns had to flee from their normal habitats for fear of bombardments and reprisals by the Ethiopian army. Probably as a result of this, the effects of droughts, (always a risk in Eritrea), became far more serious, because the traditional coping mechanisms based on mobility had become blocked. The war and Ethiopian policy towards Eritrea, increased the already growing problem of population pressure on land in the Eritrean highlands, and certainly impeded development of new solutions for the economic problems arising from population growth. More directly the war affected the environment because of the indiscriminate use of wood resources for military purposes. This problem is most evident in Sahel where, for instance near Nakfa, large quantities of wood had been used for bunker construction. Land mines have been another important source of problems in certain areas. Farming in some areas became impossible, and has been resumed slowly after the areas were cleaned. Lack of upkeep of water management systems during the war resulted in a loss of production capacity. 146 9.32 The Return of the Refugees. One of the most important effects of the war has been the large number of refugees in camps in Sudan. Most refugees who have returned to date have been returning spontaneously. In general they were refugees who had left the country relatively recently, during the last years of the liberation struggle. Since the victory of the EPLF, there has been a continuous stream of such spontaneous returnees. Among them, there is a group of comparatively rich entrepreneurs, businessmen owning capital and equipment, who have started commercial activities in farming, transport or trade. However, the majority are relatively poor, even though many may still have local connections in Eritrea, such as rights to land as community members. Many of these returnees prefer to settle in the larger villages and towns, because with their meager resources, they need food aid and jobs as day laborers to maintain themselves. The refugees living in the camps are in a different position. Their return, unless guided by careful planning and preparation, will cause a major disruption of the economy as they lack a local support base. Under the present policy, returnees usually receive food and equipment to help them settle as farmers until their first harvest. In the case of the main group of refugees from the camps in Sudan, this will not be sufficient. Most of Eritrea's rural population subsists on a combination of agriculture and other traditional sources of income. Although the war has disrupted both agriculture and trade and has reduced Eritrea's capacity to produce, the system remained strong enough to supplement food aid and to prevent a major disaster during the recent years of shor.age. The refugees from the Sudanese camps are not in the position to make use of these additional resources. Even if given land, tools and food aid to survive until their first harvest, this group may encounter serious problems if that harvest or future harvests are below expectations. Their prolonged stay outside Eritrea means that they lack the support structure of trade networks and community solidarity that have helped Eritrea's population through crisis periods. 9.33 The Ex-Fighters. The issue of demobilization of ex-fighters has been dealt with in more detail in Chapter 6. Nevertheless, it is important to include them among those categories severely affected by war. Ex-fighters have already sustained many local communities through civil works and services in the aftermath of liberation; and because they are generally more skilled and often better educated, ex-fighters will make a significant contribution to economic progress in Eritrea, if the programs that have been put in place to provide them with credit and an opportunity to set up productive enterprises receive adequate financial support. Women ex-fighters, as discussed above, will play a major role in leading social change that will improve the social and economic opportunities of women. 9.34 War, Droughts and Food Aid. The quantity of food aid that Eritrea has received has been substantial in recent years. As has been noted, the distribution system has been quite efficient, which was one of the reasons why the nutritional consequences of food shortages were not as severe as they might have been. While food aid has significantly eased the burden of support for the poor, problems might arise when international food aid diminishes after good harvests. A successful harvest will put the redistributive mechanisms within Eritrean society itself to a test. Therefore the biggest danger in the present situation seems to be not a dependence on aid by the recipients, but the response that would be needed if no aid were available. While good harvests will result in more employment opportunities for some of the households that currently depend on aid, there are many households that have inadequate access to resources and inadequate linkages to supportive social structures. These will become severely vulnerable when food aid ceases even in the face of good harvests. Such households include poor urban households with few linkages to their communities, and groups of refugees in the lowlands. 147 COPING STRATEGIES 9.35 Organization and Vulnerability. The population of Eritrea has always been faced with a difficult and risky environment due to its dry climate. The economic and social organization that has evolved over time is largely centered around methods that try to deal with the risks of nature and safeguard the population against poverty. As coping strategies are of a typically entrepreneurial nature (based on local traditions), such methods help reduce the vulnerability of the population to the risks of harvest failure, drought and political insecurity. To reduce this vulnerability, most coping strategies are a mixture of some sort of diversification or spreading of risk-if one source of income fails, another might succeed-and the creation of a buffer to be used during times of shortages. Some buffers serve as simple stores that can be traded for food after a harvest failure, but other buffers are primarily meant to enable the population to reconstruct a productive capability-seeds or animals to restart a herd-after a disaster has destroyed it. 9.36 Faced with the inherently risky nature of rainfed cereal cultivation in the highlands, most coping strategies of Eritrea's rural population are based on diversification, in particular exploiting the economic opportunities of combining highland rainfed cultivation with lowland pastoralism or irrigated agriculture. Many highland farmers go beyond the usual type of mixed farming found in other countries. They are engaged not only in cultivation and animal husbandry at the same time, but they often also concurrently exploit two different ecologies. For instance, farmners in Seraye maintain herds in the adjacent lowlands, and collect hay and wood for fuel and construction there as well. In other areas, such activities are further complemented by different forms of cultivation in the lowlands. Some Akeleguzay communities are engaged in spate irrigated agriculture in the adjacent lowlands, and some Hamasien farmers cultivate in Bahri. This reduces seasonal food scarcity, too, because of the differences in the agricultural calendar between the highlands and the lowlands. 9.37 Diversification effectively reduces dependence on limited local resources, but increased population pressure and the conditions of war tended to turn these types of solutions into permanent population movements. For instance in Seraye, the medium altitude range between the highland and Gash-Setit Province has become settled by a highland population that originally moved into the area to take care of livestock and to collect fuel wood, but now has taken up cultivation on marginal lands as well. Others have settled in wood production areas to collect dry wood to sell to traders along the roads. In either case, what was started as a successful diversification may end in increased vulnerability as they are forced to cultivate less suitable lands or when wood resources diminish. In many of such newly settled areas the first signs of this problem are already visible. 9.38 Eritrean pastoralists also use other forms of risk reduction based on herd diversification. Herds consist of small ruminants, cattle and transport or draft animals. Each of these types of animals serves different purposes. Small ruminants are usually kept near the home area. They are used for the daily maintenance of the household, their milk products are consumed or sold, and the animals themselves are sold to purchase the cereals and legumes needed as staple food. Unlike small ruminants, cattle constitute the wealth of the pastoralist. Under normal circumstances they are not sold in exchange for food, but represent the savings of the population and may be exchanged for capital goods. Excess males may be sold as oxen or for meat, but sales of other 148 cattle usually take place only under circumstances of urgent need. In this respect, cattle represent a second layer of defense against natural hazards, sales of excess goats or sheep being the first. Jewelry often serves as a third line of defense: if herds are lost through disease, war or natural disaster, the sale of jewelry may serve to buy new stock. 9.39 Transport animals, such as donkeys, mules or camels, serve as a buffer against misfortune, like cattle, but also provide additional income which is less dependent on climatic conditions, or which may aid in cultivation on river banks and flood plains. Especially in Barka and Gash-Setit this type of cultivation has been an important source of income for a semi-pastoral population. Along the main seasonal rivers cultivation is commnon, while in other areas the large seasonal flood plains provide cultivation opportunities. In Sahel cultivation is limited mainly to spate irrigation towards the coast, and generally less inland. Although the real losses of livestock by the pastoralist population in recent years are still difficult to estimate (see below), it is clear that these losses have been considerable. Because of this, many former pastoralists have to rely on cultivation and employment as alternatives. In Barka and Gash-Setit this appears to be a viable solution, but in parts of Sahel, especially around Afabet and Nakfa, little opportunity for this kind of activity exists, and a policy of restocking of livestock will be needed, in particular of small ruminants. 9.40 Migrations. Cattle often move great distances and are sent to areas that provide better grazing. For instance the cattle of Barka move southward during the dry season and may stay in Gash-Setit or even across the border in Tigray. Other cattle may move into Sudan to graze along the Nile. While such movements may be part of a regular transhumance, in other instances, this kind of migration may be motivated by an effort to safeguard whatever property is left in the face of drought conditions. Pastoralists trying to prevent their herds from being annihilated fled to areas outside the war-zone, or may go in search of water at great distances. This trend has been repeated in large parts of the lowlands in recent years under the influence of the Ethiopian occupation and the repeated droughts.52 Only when conditions settle, will herds slowly start moving back, and it is difficult to obtain reliable estimates of livestock numbers in the Eritrean lowlands under the present circumstances. 9.41 A common solution to food shortages among the sedentary farmers and pastoralist alike is labor migration. The phenomenon of labor migrations has been a long-standing tradition in the region." Most of this migration is seasonal; the laborers are attracted by employment opportunities during the dry season in the Gash-Setit flood plains or the neighboring regions in Ethiopia and Sudan. Locally, people explain that the migratory movements change in direction depending on harvest failure or the success and availability of employment. Sometimes the main movement of labor is from Ethiopia to Eritrea, while at other times it is just the opposite. Even since independence, this solution is a common way to solve food shortage problems: for instance, after the failed harvest of 1993, people in the south of Seraye were contemplating or, 52 Compare Bascom, who documented the migrations of pastoralists from the Barka and Gash-Setit region during the War of Independence (J. B. Bascom: Border Pastoralism in Eastem Sudan; Geographical Review, vol. 80 no. 4, 1990, p. 416430). 53 James C. McCann describes this pattern for the Ethiopian border area with Eritrea (Frontier Agriculture, Food Supply, and Conjuncture: A Revolution in Dura on Ethiopia's Mazega 1898-1930; African Studies Center, Boston 1989). 149 in some cases, already preparing to travel to Ethiopia in search of seasonal employment. Some of these emigrants intended to leave alone, women and children staying behind. Others were preparing to move with the whole household. 9.42 Labor migration does not necessarily mean that all local resources have been exhausted. It is primarily an effort undertaken by the able. The young men decide to seek employment elsewhere. The old and disabled stay behind, trying to live off whatever remains in terms of local resources. Among these are typical hunger season staples. In several parts of the country such staples provide important resources: the fruits of the dum palm are important additions to the diet alongside the seasonal rivers of Gash-Setit and Barka. Cactus-figs on the eastern escarpments of Hamasien and Akeleguzay are a significant resource, too. In certain areas, households are not only allotted land for cereal cultivation, but also receive cactus plots, which are mainly harvested for their fruits that can be sold, and also serve as emergency food during shortages, while parts of the plants are used as fodder. 9.43 Solidarity and Remittances. Economic diversification and saving are measures by which the general population tries to prevent poverty, but other survival systems evolve around the prevention of poverty in individual cases, or used to mitigate the consequences of poverty once it strikes. Most important of these is family and community solidarity. Older people especially report support from some of their children, often as the main source of income. Such support relations are most conmmonly reported between mothers and daughters, in particular in the urban environment or in the highlands. In lowland rural areas, family solidarity is much more traditionally organized, as families stay together, the elderly remaining part of the same household with their children in an extended family arrangement. In the highlands, community solidarity plays a particularly important role. Arrangements such as share-cropping safeguard the elderly and handicapped against complete dependence on others, but this may not be enough particularly in the case of harvest failure. In such cases, community members often help out, even though such help may be relatively meager. In recent years, food aid has to a large extent played a similar role, helping the community to exercise its duty to help those that are in real need. 9.44 A large number of households receive remittances from family members abroad. In the lowlands most of this money comes from Sudan or from Saudi Arabia. A number of Eritreans had also gone to Kuwait and Iraq, but most of these have returned since the war of 1990/91. In the highlands, contact is greater with expatriated Eritreans in western countries, and remittances come from the US, Germany, Italy and the Scandinavian countries. These types of contributions normally are not regular. Nevertheless, they form an important source of income, setting these households off from their neighbors. 9.45 Pensions. Formal social welfare systems, besides food aid, do not exist in most of the country, and the Government has still to reorganize the pension system left behind by the previous regime. Pensions that are paid are low, and people receive their pensions at a relatively early age, which means that they still have large responsibilities towards children and relatives at retirement. Although many pensions are certainly above the poverty line, relative hardship may be considerable. Pension amounts which would be adequate under normal circumstances, are not necessarily adequate at present. Normally, a pensioner would have had time to prepare for the non-working status, take up a business on retirement, or leave for the rural areas where prices are lower. Due to the war conditions and the Ethiopian occupation, such preparations have often 150 9.46 Community Services. Government involvement in safety nets, other than food aid, consists of the provision of basic health services and education. In practice both are almost free or free for the poor. Clinic and hospital attendance is charged a fixed rate of Br 1 in most of the country. In some cases a registration as a needy person is required. Medicines however, are often scarce in government health services, which means that patients have to buy them from private shops. Basic education is free; buildings, teachers and books are paid from the government budget. Construction of schools is sometimes done through community funds, and the upkeep of existing facilities is done by the community. Sometimes private individuals make donations that are used to finance school buildings, and in a few exceptional cases this may even amount to donation of a whole school. The scarcity of draft animals, combined with the need to restore the food production capacity of the country, has prompted the Ministry of Agriculture to organize tractor plowing in some areas. This measure is intended to aid the poor farmers who lack oxen or camels. Plowing fees are below market price and consist of the cost of labor and diesel only. The most important recourse for the poor in recent years has been the food-for-work programs. Many households depend on this type of income. Part of the food is sold on the market, and this type of work is seen as a form of employment by those who participate. Although the policy is that food-for-work programs should not interfere with other agricultural activities, this is an important danger that should be monitored closely. OPTIONS AND STRATEGIES FOR POVERTY ALLEVIATION 9.47 It is clear that the problems of poverty are closely connected to a general lack of employment opportunities and to a poor state of the agricultural system, which is suffering, on the one hand, from a lack of resources (exhausted soils, lack of fuel wood and lack of livestock), and, on the other hand, from the difficult conditions of an insecure rainfall patterns. It is clear also that the many years of war and economic stagnation have done harm to the economy, while the problems caused by the destruction of human and economic resources are considerable. It is obvious that the basic aim of development must be to improve these conditions. For the poor, however, some improvements may be more relevant than others, while certain improvements in Eritrea's economy may actually worsen the position of the poor. 9.48 Opportunities for Poverty Reduction Provided by Growth in the Agricultural Sector. On the whole, food production in Eritrea is well below the needs of its population. Even in good years, the current cereal production may not be sufficient, while in bad or average years, production has to be supplemented by food imports, both through official channels and through the system of local border trade with neighboring countries. Efforts to improve production, therefore, concentrate on improving not only the quantity of production, but also aim to make production less dependent on rainfed cultivation. In fact, although there is room for improvement of yields in rainfed cultivation (improved soil management and better organization of plowing), it appears that the actual limiting factor in most cases is water supply. This means that a substantial proportion of development promises to be directed to areas that offer good prospects for irrigation projects: Semhar and Sahel spate irrigation, Barka and Gash-Setit riverbank and flood plain cultivation. These efforts are also expected to provide opportunities for settlement of refugees and ex-fighters, two of Eritrea's most pressing problems. In the highlands (water collection through dams), as well as on the river banks in Senhit, Barka and Gash-Setit, there is the possibility to develop intensive vegetable and fruit cultivation, a prospect which is also present in the higher areas of Semhar. Will all this be enough, and will it solve the problem of poverty? 151 9.49 Experiences show that intensive cultivation of riverbanks with special emphasis on vegetables and fruits certainly is promising, although in some areas the current marketing of the produce across the border in Sudan shows that there are still many problems to be solved before it can be assumed that a ready market will be available. In the highlands, small garden cultivation with dams during the dry season does not conflict with cereal cultivation during the rains, and might even interact positively with the rainfed crops because of aftereffects of the fertilizers. But neither of these farming methods are open to poor farmers as they require considerable capital to buy the necessary equipment and to finance inputs. At most, these techniques have an employment effect as some of the poor may take up jobs with the rich farmers and traders who start these developments. 9.50 More promising seems to be the cultivation of spate-irrigated fields in Semhar and Sahel. But also here capital needs are mentioned by the farmers, and it seems that quite a number of big farmers cultivate rented land with the help of laborers. Furthermore, the risks involved in spate irrigation are relatively big, because fields and dams are often destroyed during floods, and, because of this, modern dams may also turn out to be far more expensive than expected. Flood plain cultivation in Barka and Gash-Setit is not without problems either. In both areas previous development by Italians and later by Eritrean entrepreneurs encountered serious problems. In Barka, for example, a dam built to direct the floods towards one of the cultivated flood plains was completely destroyed; the present area had to be shifted and is much smaller than what was cultivated before. In Gash-Setit, soil and water conditions are often not optimal, resulting in lower production. In some areas, the soils are difficult to plow with draft animals, just as in the bordering Mazega region of Ethiopia, where cultivation always depended on the availability of an extremely cheap labor supply, because all planting needed to be done manually. An important issue with commercial mechanized exploitation of farmland is that it may result in large-scale destruction of the tree coverage, thereby increasing the already prevalent problems of wood supply for fuel and construction. 9.51 Crop production increases in the lowlands, while very necessary, may involve considerable capital and risk taking, both of which are not possible for the poor, who at most will be able to profit from the demand for labor that will result from the developments of this type. In the highlands, where the majority of poor farmers reside, there may be scope to target the poorest farmers through low cost interventions such as improved farming practices, the use of improved, drought resistant varieties and through more extensive pest control programs that rely more on community surveillance methods rather than only on pesticides. These interventions should not require large investments on the part of farmers, but rather a well organized agricultural extension service with the skills and operational resources to access the poor and extend to them the improved technologies, farming practices and pest control methods that could help the poor achieve initial productivity gains. In the longer term, however, the capacity of agriculture to absorb much more employment or to obtain substantial productivity gains particularly in the highlands, may not be sufficient for the purpose of making a major impact on poverty reduction, particularly amongst the most vulnerable groups of the population. Hence other sources of employment, particularly off-farm rural or semi-urban activities, will need to be explored and developed. 152 9.52 The Importance of Infrastructure to Poverty Reduction. To end isolation and to integrate the economy of the lowlands and the highlands under the aegis of the modern sector, infrastructural investments are necessary. Roads and feeder roads have to be built with a high priority. Such developments would certainly have long-term positive effects on the economy, and are also necessary to reduce the costs of the resettlement of the refugees. Unless such investments are made, the economic support of these refugees is going to stay necessary for a much longer time. Also in the short term such investments would increase employment opportunities, or form a suitable scope for food-for-work programs, as long as the local agriculture cannot meet with the cereal demands. Nevertheless, some of the short-term effects will be difficult and need special attention. Most important will be the effects on the traditional trade network, which is the domain of small entrepreneurs and provides a source of income for camel owners, camel drivers, and small and medium businessmen operating transport in the lowlands. The new networks that replace these traditional networks with the construction of a new road system will undoubtedly work to the advantage of Asmara-and Massawa-based traders, who will gain better access to the hinterland. But unless this trade expands into the neighboring countries and becomes competitive with other routes through Sudan, it will definitely weaken the position of the Barentu-, Tesenei- and Germaika-based traders who currently supply the lowlands and even Keren, and, thereby also the position of the small-scale entrepreneurs that serve as transporters in the area. 9.53 Community Development and the Informal Sector. The short-term perspectives for the poor depend to a large extent on the reconstruction of the country after the war. Full-scale activities to rebuild and construct the infrastructure needed to receive the refugees has the potential to generate the jobs which are needed in most of the urban areas. These refugees need drinking water, food, housing and jobs. The biggest danger for the poor is that the economic boost from investments for this purpose may raise the cost of living and will harm the position of those who cannot actively engage in manual labor. 9.54 For most of the rural poor, poverty reduction will depend on a strategy that follows a dual track: strengthening the community structures that currently provide the traditional coping mechanisms and solidarity on which the poor rely; and building increased opportunities for individuals and cooperating groups to increase their incomes through off-farm microenterprises. Community-based development will remain the most powerful tool in terms of providing the essential economic and social infrastructure that can help transform the quality of life for the rural poor. There is already ample evidence of the capacity of communities to build or repair primary health and education facilities, repair feeder roads, build and maintain dams, and carry out environmental rehabilitation activities. The challenge is now to move beyond these initiatives to explore the capacity of the communities to manage improved services, nutrition programs, literacy and skills training programs, family planning services, maternal and child care, all essential to poverty reduction. Building up these capacities will also be vital to the complex task of reintegrating returning refugees. 9.55 The second track is equally important: encouraging entrepreneurial activities that provide income alternatives to agricultural activities. In urban areas, microenterprise may often be carried out by individuals and their families; in rural areas, it is more likely that successful microenterprises can be started and maintained by cooperating groups. Through training and access to support services, local communities can be encouraged to stimulate such activities to meet, initially the needs of the communities themselves, and over time, to provide commodities 153 or services to trade with neighboring communities. In addition to training, which should be organized as far as possible by local groups rather than by central authorities, the most important stimulus to micro-enterprise activity will be the provision of micro-credit. For this purpose, local communities should be encouraged to broaden traditional savings schemes, and should be provided with assistance to form small credit institutions. This can be stimulated by the establishment of savings cooperatives as proposed in an earlier chapter. 154 10 PRIORITIZING INFRASTRUCTURE SUPPORT INTRODUCTION AND SUMMARY 10.1 Efficient and well-functioning infrastructure is important in fostering economic and social development by providing an enabling environment for growth and in alleviating poverty by providing basic social services such as rural roads, water and sanitation. Although Eritrea had a relatively well developed infrastructure in the 1940s, decades of war and neglect of existing facilities have damaged much of its infrastructure. This deficiency could constitute a major constraint to growth. It is estimated, for example, that lost production due to electricity shortages is substantial; some estimates suggest it to be as high as 30 to 50 percent of GDP. Poor road conditions and lack of rural roads have constrained the development of rural markets and reduced linkages between regions. Access to safe water supply and sanitation is very limited in Eritrea. There is also an extreme shortage of housing, with overcrowding in the existing dilapidated housing stock. Asmara alone will need in the order of 6,500 new dwellings per year for the next ten years to correct these conditions and to cater to the growth in demand. In general, growth will further expose the inadequacies of the present infrastructural capacity. 10.2 The reconstruction needs are huge compared to available resources and the Government will need to prioritize actions in this sector to fit in with its overall economic strategy. Should the initial phase emphasize rehabilitation and maintenance of the existing facilities? Are some critically important investments in new works required to eliminate constraints on growth? How could improved infrastructure support regions with high growth potential? What additional measures could be adopted to support an enhanced role for the private sector and for reducing poverty? As Eritrea moves out of an emergency footing, it is important that planning and resource allocation are guided by economic and financial returns. In selected areas, private sector expertise and finance could be usefully introduced to reduce the burden on public resources and organizations. Given the long-term nature of infrastructure investments, this chapter deliberately takes a long-term perspective. A full range of options are presented; however, those chosen by the Government will have to fit with its overall economic strategy. It is likely that this will be centered around export-led growth, with the private sector playing a key role, and the expansion of the supply of basic services such as shelter and water. 10.3 In the short to medium term, the following concerns could be addressed. Within the transport sector, the rehabilitation of Berths 5 and 6 at Massawa and improvements to the major road networks, including the Asmara-Massawa road and other access roads, merit examination. In many countries, investments in infrastructure rehabilitation, in particular roads, have been lost because of inadequate maintenance. Diversion of resources into the establishment of a road maintenance program will ensure that the current positive attitude towards maintenance is continued. Given the importance of water to agriculture and basic human needs, and the present shortage of water resources and poor coverage of water and sanitation infrastructure, consideration should be given to devoting substantial resources to this sector. This should include the development and implementation of a national water strategy, an appropriate institutional structure for the sector and the rehabilitation and extension of piped water and sanitation infrastructure in the major cities. The redevelopment of Massawa will require that a new network for these services be established. To help reduce the constraints on industrial production, additional electricity generating capacity should be installed; efficiency within the sector will be helped by the construction of additional transmission capacity between Massawa and Asmara. In the medium term, the optimal technology and unit size configuration must be established. Government plans for the short-term development of telecommunications-the establishment of an international exchange with links to more than one operator, the replacement of cable networks in Asmara and other urban areas and the establishment of a microwave link with Ethiopia-are broadly sound. Within the urban and housing markets, providing an enabling environment will encourage the private sector, including households, to play a larger role. Access to affordable credit and the establishment of building standards will be important components; however, the creation of a market for urban land and housing will be even more important. Urban land and housing markets do not currently exist in a substantial form. A priority task in this sector will be to establish the foundation for these by clarifying private property rights. 10.4 Eritrea faces a shortage of trained technical and administrative personnel in most public institutions. Future demands upon this personnel will be much greater than at present, suggesting requirements for strengthening institutional capability. Two specific possibilities exist within the transport and water and sanitation sectors. The Eritrean Road Works Branch (ERW) would benefit from strengthening its contract administration and planning capabilities required for the implementation of components of the emergency roads plan. In the water sector, the assessment of hydrology and water reserves will be an important element in the development of the national water strategy. Technical support for the development of the public sector institutions responsible for water and sanitation services on a local level could also be considered. 10.5 Consideration should be given to placing publicly-owned organizations such as the Eritrean Electricity Authority (EEA), the Ports and Maritime Authority (PMTA) and the Telecommunications Services of Eritrea (TSE) within a commercialized framework. The goal would be to provide management with sufficient autonomy to make operational decisions on a commercial basis. The Government would function as any other large shareholder, appointing the Board of Directors but not exercising any direct control over managerial decisions. This may require some restructuring; within the ports sector the creation of a national ports authority, responsible for policy, and two port authorities responsible for management of Massawa and Asseb respectively, would separate the operational from policy aspects. 10.6 The private sector, both domestic and foreign, can be a useful source of finance and expertise for infrastructure development. The role that it can play will differ between sectors depending upon their requirements. At present, it is hard to see it having a substantive involvement in the water and sanitation sector, given the need to create a national strategy for water resources and to organize the public institutions. The situation is more promising in the telecommunications sector, with possibilities existing for joint ventures between TSE and foreign operators in the provision of value-added services. The private sector will clearly be able to play an important role in the development of housing once property rights and entitlements are fully clarified. Within the energy sector, there is already a substantial private sector presence in the retail market for petroleum products. 10.7 The situation is promising on the pricing of infrastructure services. Cost recovery in the electricity, telecommunications and transport sectors is good, with revenues exceeding costs, and making a contribution towards interest payments for electricity. In this latter sector, it is important that, as new capacity is introduced into the system and costs fall, the prices to consumers are also reduced to reflect the market prices. A pricing formula for the Eritrean Electricity Authority (EEA) would make this explicit. It will also be important to ensure that 156 petroleum product prices reflect world price levels. In the transport sector, the challenge is for the Government to develop a road user charge policy. Currently, diesel vehicles do not pay, via taxes on fuel and spare parts, revenue that covers the cost of repairing the damage they do to the roads. Road user charges will be needed to fund the maintenance program as well as to contribute towards future investment. There may be some role for road tolls to play, for example on the Massawa to Asmara road. Charges for water and sanitation are largely below cost. It is important that these should be increased to ensure the financial independence of this sector and to promote greater efficiency in the use of water. ENERGY Background 10.8 An efficient energy sector that can meet the country's needs at minimum cost is an important prerequisite for growth. Eritrea faces two major problems in this sector. First, over 80 percent of total energy demand and over 96 percent of household energy demand, are met by fuelwood and biomass. This has contributed to a drastic loss in vegetative cover due to the cutting of trees for fuel, and the heavy use of animal dung for fuel in rural areas has contributed to a reduction in soil quality. The share of commercial sources of energy, and the efficiency of woodfuel use, will need to increase to meet future demands from the household sector if there are not to be further losses in vegetative cover and soil productivity. Second, Eritrea currently suffers from chronic electricity shortages. The impact on the commercial and industrial sectors has been estimated to be as high as 30 to 50 percent reduction in annual output. There has to be an expansion of electricity supply if these shortages are not to continue to act as a brake on economic growth. 10.9 Energy Supply and Demand. Currently, Eritrea's annual per capita consumption of energy, at approximately 0.2 tons of oil equivalent (toe) is low compared with most African countries (e.g. Kenya uses 0.37 toe per capita per year). Table 10.1 shows a comparison with a number of African countries for the consumption of commercial energy. Eritrea, at 0.03 toe per capita per annum is among the lowest in the world. 10.10 Reliable figures on the current composition of energy consumption in Eritrea do not exist; however, it is estimated that they are close to the level of the early 1980S. Then, traditional energy sources met 80 percent of demand, with petroleum products providing just under 17 percent of total consumption. Although electricity meets only 3 percent of total consumption, it supplies over 10 percent of industrial demand. Furthermore, industry relies on commercial fuels for over 65 percent of energy consumption. 10.11 The EEA's firm capacity of 28 MW had deteriorated to 22 MW by 1993 due to old equipment and a lack of spare parts. In 1989, the interconnected system (ICS) peak was estimated to be 29 MW, which is likely to be an underestimate because of the impact of supply shortages. 157 TABLE 10.1: COMMERCIAL ENERGY CONSUMPrION (per capita per annum) Country TOE Eritrea 0.03 Tanzania 0.04 Kenya 0.14 Zimbabwe 0.52 Average for Low-Income Countries 0.38 Average for Low-Income Countries excluding China and India 0.17 Source: World Bank, World Development Report, 1993 and estimates. Note: 1991 figures were used for all countries except for Eritrea. Current shortages mean that EEA does not supply electricity to much of industry at peak times, and limits other consumers to electricity for lighting purposes or switches off supplies for several hours per day. This has led some industrial consumers to install their own generating sets, which is an expensive solution for the economy. The Reconstruction and Recovery Program could lead to a 10 percent increase in energy demand per year, making it imperative that EEA increase its supply capacity, both immediately and in the medium term. Electricity tariffs in Eritrea are high in comparison with other East African countries, reflecting the old and expensive equipment in operation. Table 10.2 provides a comparison of electricity tariffs. It should be noted that tariffs in Kenya are well below LRMC, and although in Tanzania tariffs are very close to LRMC they are based primarily on a hydro system. 10.12 Eritrea currently obtains petroleum products via the refinery located in Asseb in the south of the country, operated by the Petroleum Corporation of Eritrea (PCE), a parastatal, in accord with the economic cooperation agreement with Ethiopia which takes the majority of output. The refinery was constructed in 1967. A recent overhaul raised its current annual capacity to around 700,000 tons of crude oil per year, although this was still lower than its maximum capacity of 840,000. 10.13 Government's Objectives for the Energy Sector The Government has outlined its strategy for energy sector development in its paper Energy Situation in Eritrea and General Policy Guidelines (January 8, 1993). The major goals of this are to ensure a reliable and least cost energy supply to all sectors of the economy, taking into account environmental considerations and the correct pricing of energy supplies; the development of Eritrea's indigenous energy resources at least economic cost; and the diversification of Eritrea's energy sources, in particular because a continued dependence on woodfuel cannot be sustained. Growth in the economy will produce a corresponding increase in the demand for energy, from both the household and industrial/commercial sectors, in particular for commercial (i.e. nontraditional) forms of energy. This shows that the concerns of the Government, as expressed in their goals for 158 TABLE 10.2: A COmIPARSON OF AvERAGE ELEc iTRcITY TARIFFS IN EASTERN AFRwCA Country Average Tariff Exch. Rates (US cents per kWh) Eritrea 20 Br 5 = US$1 Kenya 4 As of Sept 1, 1993 K Sh 67 = US$1 Tanzania 9 As of July 1993 T Sh 380 = US$1 Source: Data provided by national electricity authorities. the sector are well founded. If constraints on energy supplies are not to choke off economic growth, and if household energy demand is not to lead to further environmental degradation, then the ability of Eritrea to supply commercial energy sources has to be drastically increased. The Electricity Sector 10.14 EEA added a 6 MW diesel set to its system at the end of 1993. However, this will initially only have a marginal impact on the situation because once this is on-line other sets will be taken out of operation for urgent maintenance. This maintenance will not add additional power to existing capacity but will ensure that output from these stations will not fall. For some of its sets, EEA has a choice of whether to use light fuel oil or heavier fuels. In making this choice, EEA should examine the tradeoff between the higher maintenance costs of using the heavier fuels and their lower price. Until the transmission link between Asmara and Massawa is upgraded, it is likely that additional units installed in the immediate future should be sited at Asnara, even though the altitude would effectively downrate capacity and the transport of fuel from the coast is expensive. The EEA has already taken steps towards installing 3x5.7 MW WARTSILA D.G. sets at Beleza P.P. in Asmara, to be commissioned by the first half of 1995. 10.15 For the short run, EEA will need to continue to ration supplies of electricity. Economic welfare will be maximized if supplies are allocated to consumers who receive the highest benefit, i.e. those who have the highest willingness-to-pay. This does not preclude the use of social objectives for allocating scarce electricity; however, these should be tightly focused upon specific goals. 10.16 EEA must commission additional capacity if electricity supplies are to become reliable, at reasonable costs, and not be a continued bottleneck to development. The next stages of development of the electricity sector should be based upon a close examination of the merits of alternative technologies and unit sizes. Upgrading of the transmission link between Asmara and Massawa will be an important component of this, given the lower costs associated with siting 159 generation at Massawa. For security purposes, it is likely that the link should be double circuit, although the economics of two single circuits should be investigated. The Generation and Transmission Master Plan prepared for Eritrea by a Swedish consultant firm (SWECO) recommends that EEA should favor installing 80 MW diesel generator, at a site south of Massawa, 132 KV transmission lines from Massawa to Asmara and associated substations, and connect major towns of the self contained system (Keren, Mendefera and Dakemhare) to the interconnected system by 66 KV line. 10.17 The projected electricity expansion plan produced by SWECO requires around US$200 million of expenditure for the first five years alone. It is clear that Eritrea needs to expand its electricity system, and must seek the minimum cost expansion. In the medium and longer term, Eritrea may be able to develop alternatives to further generation using fuel oil. Geothermal energy may become a viable option; however, it is extremely unlikely that any generation would be provided from these sources until the next century. The Government is also keen to exploit sources of solar and wind energy. These will not contribute much towards electricity supply, but may be economical at remote sites and for water pumping. The import of electricity from Ethiopia is unlikely to be a viable option for the next decade, due to the large distances involved (over 500 1am) and the relatively small load that would be supplied. In addition, the Government has indicated that it would only take imports that could be backed up with firm capacity. It is important that appropriate assistance in technical and planning issues is made available to EEA and the Government. Petroleum Products 10.18 Petroleum product demand is expected to increase sharply in Eritrea. The main sources will be demand from the power sector, from industry and an increased use of kerosene by households. This will increase estimated petroleum demand in Eritrea from 107,500 metric tons in 1992 to an estimated 228,800 metric tons in 1994. This will exceed the Eritrean quota of the current maximum output from the refinery by around 30,000 tons. The deficit will be in kerosene, diesel and light fuel oil. The gap between current refinery output and demand will continue to widen as economic growth takes place. One option for meeting future petroleum product demand would be to increase capacity at the refinery. However, the refinery is unlikely to be competitive with those operating in the Gulf states. An alternative to expansion of the refinery in Eritrea would be the import of refined products from Saudi Arabia or other Gulf states. A third option is to build a refinery under private ownership. The Government should examine both the economic and financial returns from refinery operation and expansion as opposed to imports of petroleum products. 10.19 In 1993 the Government issued two proclamations to create an enabling environment for the exploration and development of Eritrea's promising off-shore petroleum deposits. It is important that, in entering into negotiations on exploration, Eritrea places itself in a strong position to ensure that maximum benefit for the Eritrean economy is obtained from the leasing of concessions for exploration. Technical assistance could be considered to strengthen the expertise of the relevant government institutions. 160 The Role of the Private Sector 10.20 An increased role for the private sector in electricity production and distribution has been a feature of policy in many developed and developing countries. The goals are usually to increase efficiency and access additional sources of funds for investment. The Government should consider carefully the role that the private sector can play in the energy sector in Eritrea, especially given the large level of investments required. Investments in generation capacity may be one way in which private sector capital could be introduced into the sector. It might be possible to introduce private sector expertise via the inclusion of maintenance contracts in bids for the construction of new plant. Similarly, maintenance contracts for existing plants could be awarded that would include the supply of spare parts. EEA generally has sound technical expertise; it would be envisaged that these maintenance contracts would provide foreign exchange to employ specialized technical personnel. 10.21 The Government has already incorporated EEA under standard Company Law so that it operates within a commercial framework. This would see the Government maintaining ownership, but operating in a fashion similar to a large shareholder in any other company, i.e. appointing the Board of Directors but then allowing the company management to make commercial decisions. To this effect, the Government has taken steps and will soon legalize allowing EEA to be a self managed utility. The sound financial policies of EEA would provide a good framework for involving the private sector if and when necessary. This structure would have the advantage of assisting the maintenance of EEA's present autonomous position. The Govermnent should examine the case for privatization of the refinery. The wholesale market for petroleum products could then be liberalized by allowing distributors the option of buying from the refinery or buying imported products. This may encourage the distributors to invest in the refinery or in storage capacity, depending upon whether imports or the refinery are the most attractive economic option. Pricing of Energy Products 10.22 Eritrea should continue to set prices for all energy products that are in line with marginal costs in order to encourage economic efficiency, and to ensure that the energy sector generates sufficient revenue to finance maintenance and further investment. In the electricity sector, it is likely that current tariffs are above long-run marginal costs (LRMC), which in many East African countries have been estimated to be in the region of US$0.08 to US$0. 10 (although the mix of primary energy is different from that in Eritrea), compared to average tariff levels of just under US$0.20 per kWh in Eritrea. Tariffs in Eritrea presently recover financial costs, and are thus preventing EEA from being a drain on government resources. However, the high costs of electricity (see Table 10.2 above) may make Eritrean industry less competitive. It is thus important that an electricity sector expansion plan is undertaken to introduce more efficient capacity, and reduce costs and therefore prices charged. EEA should not, however, reduce prices to below cost. EEA is in the process of reviewing the tariffs. 10.23 At present there is a regional dimension to electricity tariffs in Eritrea, with residential consumers in the hotter lowlands paying less. This policy reflects the greater need for airconditioning and fans in these regions. However, the tariff structure currently provides reduced rates in both highlands and lowlands for consumption above 500 kWh per month. The social or economic rationale for this policy is not clear, as this effectively provides a subsidy to the more 161 affluent residential consumers. In many countries, for social reasons, an increasing block structure is adopted where the tariff rate is low for a certain number of kWh, known as the lifeline rate. Domestic consumers also pay less per unit than industrial and commercial consumers at present. This is unlikely to be cost reflective because of the typical peaky demand profile of domestic consumers. Prices to industrial consumers could be reduced if increases in domestic tariffs were imposed. At the same time, use of a lifeline block would protect the least affluent households. EEA could consider having both energy and peak demand charges in its tariff structure for those consumers with suitable meters. At present, many of the industrial consumers, who are likely to have such meters, are rationed to off-peak consumption, and the utility of this pricing structure in controlling peak demand will be limited. Once the severe supply constraints are eased however, this structure will have a role to play in sending the correct cost signals to consumers. The EEA is planning to carry out a detailed study on the tariff structure, which is expected to be completed by the beginning of 1995. This study would take into account the commissioning of 3x5.7 MW diesel generation sets in the first half of 1995, and upgrading of the generation capacity of existing generation facilities which will greatly ameliorate the efficient supply of electricity. It is believed that this may lead to an eventual tariff rate reduction which will help to improve the competitiveness of Eritrean industries. 10.24 There are currently four international petroleum companies (Mobil, Agip, Shell and Total) distributing petroleum products within Eritrea. Distributors earn a fixed service commission on the distribution of products which they add on to the ex-refinery price. The Government should consider the option of deregulating the market by eliminating the fixed commissions that the distributors earn. The margins charged would then be determined by the distributors themselves. The advantage of this is that, if there is some competition between the distributors, then margins will reflect the underlying costs and will be more flexible than an administered margin. A drawback may be that the sector is not sufficiently competitive and that the distributors collude or establish regional monopolies. The extent to which there is competition will be influenced by the distribution of the market among the four companies. The Government should ensure that, regardless of the mechanism for establishing the distribution margin, for reasons of economic efficiency the ex-refinery prices are roughly in line with international border prices. If they are below this level, then there is an effective net transfer of resources to the consuming industries. If ex-refinery prices are above international levels, then this could have a damaging impact upon the competitiveness of Eritrean industry. Deregulating the wholesale market for petroleum products could help to achieve parity with world prices if importers were given the option of purchasing from the refinery or buying imported products. Regulation 10.25 The Government should give serious consideration to the need for establishing some form of regulatory framework for the energy sector. The EEA currently has tariffs that reflect their present high financial costs. It is important that a mechanism is established for ensuring that the reductions in costs that occur as capacity on the system is increased are passed on fully to consumers, while allowing EEA to recover sufficient funds to make an adequate financial return. In the short run, this could be achieved by a form of cost-plus pricing. Once the system has become more fully developed, other pricing methods which provide better incentives for cost- reducing efficiency could be developed (similar to the Retail Price Index minus X formulae used in the UK). It is important that any such formula is transparent and easily implemented. Attention could also be directed towards the establishment of technical standards, regarding time taken to 162 establish connections, repair faults in the network etc. Finally, the Government may also wish to investigate the need to monitor wholesale and retail prices for petroleum products. There is a possibility that, even if the market were liberalized, the market may not be fully competitive and prices to consumers may be above the cost of supply. TRANSPORT Background 10.26 Thirty years of war have left Eritrea's transport infrastructure in a severely dilapidated state. The road network and port facilities require extensive rehabilitation. Failure to rectify these deficiencies will impede the flow of goods of services, hamper the development of export-oriented agriculture and industry, increase transport costs and ultimately retard economic growth. An example of the direct impact of the poor road network is the increase in vehicle operating costs that are caused by rough road conditions. Improving the road network would reduce the need to import spare parts and tires. In common with the other infrastructure sectors, the challenges facing Eritrea in the transport sector relate to improving institutional capability, ensuring cost recovery, providing sufficient funds for rehabilitation and maintenance, and shifting the emphasis of planning from emergency intervention to programs based upon economic and social priorities. 10.27 Roads and Road Transport. The roads that constitute the main network in Eritrea were constructed during the period 1934 to 1938. At one time, they represented a well developed road system. A complete absence of even routine maintenance, due mainly to the prolonged war situation, has led to severe deterioration of the system. It is estimated that only 1,000 km of the road network are in reasonable condition. Eritrea has a very low road density at not much more than half of the average for Eastern and Southern Africa. 10.28 The commercial trucking fleet is currently underutilized, although there is some indication that some rural areas are not well served because drivers refuse to take their trucks over the existing poor roads and, as a result, farmers find it difficult to market crops. The privately-owned fleet is on average 15 to 20 years old, although good maintenance has kept availability relatively high. The state-owned Freight Transport Corporation (FTC) on the other hand, has poor availability (around 70 percent) for a relatively modem fleet. In contrast, there is a shortage of commercial passenger vehicles, which has led the Government to regulate the sector to prevent a concentration of services around Asmara. Currently, the sector is performing reasonably well in terms of cost recovery: the gross revenue raised from taxation imposed on the ownership and operation of vehicles exceeds road expenditure by 10 percent, albeit in comparison to a rehabilitation budget which is low compared to future needs. 10.29 Ports. As with the road infrastructure, Eritrea's ports suffered greatly due to damage incurred and a lack of maintenance during the Liberation War. The port of Massawa, which serves as the major import/export terminus, has suffered substantial damage which will make it difficult for the port to handle containerized traffic. Although there is sufficient capacity at the port, this will not be the case if there is an economic upswing; also, failure to provide for containerized traffic will mean higher transport costs for the Eritrean economy. Due to these constraints, it is important that any reconstruction work takes place before the expected upsurge in economic growth. Financially, the ports sector currently generates a surplus, although profitability is overstated because depreciation provisions are insufficient. The Ports and Maritime Authority (PMTA) is responsible for the operation of the ports, a ship repair yard and the Eritrean Shipping Line (ESL). 163 10.30 Civil Aviation. The Asmara International Airport requires substantial investment in navigational aids and communications in order to meet ICAO standards. Nonetheless, operations are currently carried out on a 24-hour basis. Assistance in the field of overflight telecommnunications has already been provided by the French government, and the German government has indicated an interest in funding the renewal of the lighting system at the airport. The Civil Aviation Authority (CAA) which operates all airports in Eritrea, currently has a cost recovery ratio of 7:1. Therefore, it could finance a considerable proportion of rehabilitation needs. The Government has developed a sector strategy paper that provides the framework for the development of civil aviation in Eritrea. Priorities for the Transport Sector 10.31 Roads Infrastructure and Transport. The Ministry of Construction (MOC) has prepared an "Emergency Rehabilitation and Repair Program" (ERRP), which consists of seven components. The priority of this program is the rehabilitation of the existing main roads in order to facilitate relief operations, with the remaining components being concerned with the rehabilitation of rural roads, bridges and culverts, the upgrading of roads and the construction of some new roads. The total cost of the program is estimated to be in the order of US$200 million. Even if spread over a period of ten years, the annual cost of the Government's road program would be in the order of US$37 million, allowing for adequate expenditure on maintenance. This represents 30 percent of the present national budget and is around nine times the expenditure level in 1992. An urgent priority for the Government is the prioritization of the ERRP to ensure that the most urgent and most beneficial projects are undertaken first. This will require the establishmnent of a planning framework and the economic and financial criteria upon which decisions will be made and the development of the technical capacity within government institutions to plan and implement a road rehabilitation program on a much larger scale than is currently being done. 10.32 It will also be important to establish early on an adequate roads maintenance program. Without this, the benefits of rehabilitation could be lost within five years. One important facet of funding rehabilitation and maintenance is the need to raise sufficient revenue from the roads sector, via the taxation of petrol and diesel fuel, taxes on vehicle ownership, and, possibly, road tolls. 10.33 Developing Planning and Implementation Capability. As Eritrea moves out of an emergency recovery situation, the Eritrean Road Works Branch (ERW) and MOC should adopt tools of economic and financial analysis to assist in the prioritization of infrastructure investments. It is important that the program takes into account the appropriate balance between rehabilitation works and maintenance. A number of activities will have to be carried out to undertake the prioritizing. A road inventory methodology should be established (which should amongst other aspects, develop a method for determining which roads are regarded as rural roads), as it will be a vital input into both rehabilitation and maintenance. ERW should also strengthen technical skills related to the analytical techniques required; there is some evidence that the unit costs currently adopted by ERW are very different from those actually found in East Africa. Although the ERRP refers to the importance of developing planning and contract administration capabilities, specific programs for doing so should be drawn up. One way in which this could be achieved would be through a closely targeted program of technical assistance which would focus on development of the road inventory and unit costs, assistance with contract 164 management and assistance in technical aspects of rehabilitation and maintenance programs. The latter is suggested because although impressive achievements in road rehabilitation have been achieved, the condition of some of the rehabilitated sections of the Asmara-Massawa road could be improved. As an input into developing planning capacity, the Government should consider the execution of a Road Masterplan Study, which would combine elements of network expansion and maintenance. 10.34 It is not clear that new roads are required or would be the most economic investment. In terms of priority, the Government should consider the need to continue the rehabilitation of the major road networks. Some section of the Asmara-Massawa road have been repaired, but other sections are still in poor condition. The road carries at present the vast majority of the import/export traffic of the Massawa-served hinterland. Given its economic importance, it could be a candidate for further investment. The benefits of upgrading selected roads should also be examined. 10.35 Rural Roads. Under the ERRP, the rehabilitation of rural roads is presented as an en bloc item, covering all 4,535 km of roads and tracks. It will be important to prioritize investments within this group. At present it is not clear where the responsibility for maintenance or construction of rural roads lies. The Government may therefore wish to consider the establishment of a rural roads program. A first phase could create the institutional arrangements for the management and development of rural roads, identifying in particular the funding structure and methods of allocating resources between different areas, and could also helpfully establish standard designs and technologies for these roads. The second phase of a rural roads program would then be the implementation of a selection of high priority rural access roads. Road Maintenance Programs 10.36 Road rehabilitation programs in many countries have often been unsuccessful because of the failure to establish a sustainable road maintenance program during the rehabilitation period. Without this, road conditions rapidly deteriorate and another rehabilitation may be required within five years. The early allocation of resources into the establishment of a maintenance program is necessary for long-term substainability, even if it reduces the amount of rehabilitation being carried out in the short term. 10.37 ERW's has reestablished routine road maintenance. This is extremely encouraging, and ERW should ensure that sufficient resources continue to be allocated to the establishment of a road maintenance program. ERW should undertake a review of the ERRP to ensure that this happens within this plan. Similarly, it is important that donors coordinate their activities so that maintenance receives the emphasis that it needs in terms of equipment and technical assistance. Involvement of the private sector in road maintenance can be developed using qualified local contractors where possible. Revenue Recovery in the Roads Sector 10.38 Estimates suggest that the roads sector is currently earning gross revenue (via taxation on fuel, spare parts and ownership) 10 percent in excess of expenditure. In view of the need for duties on petroleum to contribute to the national budget this may not be sufficient. The required annual budget for road rehabilitation and maintenance will be much higher than at present. The 165 Government will therefore have to review the question of road user charges if it is to fund rehabilitation works and a sustainable road maintenance program. In order to develop a robust road user charge method, estimates of the allocation of road rehabilitation and maintenance costs to different vehicle types will have to be developed. Preliminary estimates suggest that there is a disparity in the level of duty on petrol as opposed to diesel. An increase in the rate on diesel would reduce the distortionary impact of this subsidy, and would also provide a first step towards full cost recovery from the roads sector. However, ERW must undertake a more detailed and rigorous analysis on the allocation of road damage costs and optimal road user charges. An alternative to duty on fuel would be to impose tolls for using certain roads (for example on HGVs using the Massawa-Asmara road). There are, however, drawbacks to this system, but it could be considered for the more densely trafficked roads. Annual vehicle license fees should also be reviewed. Developing Policies for Road Transport 10.39 The Road Transport Authority (RTA) has been hampered in the development of a national transport policy by the requirements of the emergency situation. It is important that the RTA develops a planning capability. This would be greatly aided by the computerization of licensing procedures and records, which would free substantial time and resources for the development of policies and plans. The RTA might focus on economic appraisal and planning, and the establishment of a National Transport Database. Traditional means of transport (camels and donkeys) play an important role in Eritrea. 10.40 Passenger and Tariff Policy. There are concerns over the capacity of the bus fleet to meet passenger demand. Due to this, the Government currently regulates the industry by assigning buses to routes and controlling fares. These regulations are unlikely to encourage the growth of the bus sectors. Alternative methods which would achieve the same objective, could be considered. One would be a system where a condition of the license was to operate on certain routes, with prices largely being decontrolled on more commercial routes. A second would be a direct subsidy to operations on rural routes. Funding for the subsidy could either come from a levy on petroleum products consumption or from fares charged on commercial routes. In general, direct subsidies have been found to be more efficient than indirect ones. The need for regulation will diminish as more capacity becomes available. However, it is vital that the fares that operators can charge are high enough to encourage investment in additional capacity. To speed this process, the Government could consider encouraging imports of commercial passenger vehicles by reducing duties of business and raising them on cars (the composite import rate of 39 percent on cars is low in comparison with many other East African countries) 10.41 Encouraging the Private Sector. The Government should consider the future role of the FTC. The management of the FTC sees its role as being an efficient competitor to the private sector, and has as an objective the establishment of a viable commercial entity. However, in a nonemergency situation, the rationale for a publicly-owned trucking fleet is not clear given the existence of a large private sector fleet. Also, there is some evidence that availability of trucks is low given the young age of the FTC fleet, whereas good maintenance practices have ensured that availability is good in the private fleet (which is on average 15-20 years old). The private sector trucking industry in Africa has generally proved to be very efficient. Although there is currently a surplus of trucking capacity in Eritrea, it should be possible to sell the FTC fleet to the private sector because of its relatively young age. One option would be to privatize the FTC 166 as a single enterprise. This may provide some advantages but it might be in a position to abuse its market power, given its large size relative to its competitors. It is likely that the goal of economic efficiency would be better served by the selling off the fleet either individually or as smaller companies. Rehabilitating Ports 10.42 Reconstruction Needs. The primary physical deficiencies are presently at the port of Massawa where damage to the berths used for containerized ships is substantial. Although there is sufficient capacity at the port to handle present traffic volumes, this will not be the case if there is the upswing in economic activity that is expected. These problems will become more severe if there is a shift towards containerized traffic, which is expected to double in near future. The operating berths at Massawa are not able to handle the larger ships which will be carrying containers. This will also be the case for ro-ro traffic. It is important that this reconstruction work commences before a large increase in demand for port services to minimize the impact on congestion. The cargo handling equipment is also not in good condition, suffering from a lack of maintenance and exhibiting poor availability. This hampers efficient operation of the port and is likely to become a more serious constraint as traffic increases. 10.43 Therefore, the Government should consider undertaking rehabilitative work at Massawa. This would include the reconstruction of Berths 5 & 6. In addition, it could include the construction of storage sheds and the paving of storage areas. At the same time, it will be important for the relevant authorities to establish sound maintenance programs for equipment and infrastructure to ensure that the benefits of rehabilitation are not soon lost. In the longer term it will be important to ensure that Massawa can provide port facilities at reasonable cost. This will in particular be important for exports from Eritrea. Facilities at Asseb are presently in less of a crucial need for reconstruction, although the port is utilized almost to capacity and suffers from the termination of a project to create a container terminal and stacking area. 10.44 The Institutional Framework. To improve operations, the Government could consider a restructuring of the port industry which would ensure that the ports could operate on a commercial basis. Under this set up, there could be a national ports authority which would be responsible for policy issues. There would then be two separate autonomous port authorities (one each for Massawa and Asseb) which would be responsible for the operation and management of the ports on a commercial basis. These authorities could be governed by a board that would consist of business appointees. The port management would be responsible for setting tariffs (with the National Port Authority perhaps playing a regulatory role) and would be free to take management decisions on operations. This would include, for instance, the extent to which the private sector should be involved in matters such as maintenance and port operations. Given the need for reconstruction activities, it is important that the ports be able to decide the extent to which they would need assistance, in terms of subcontracting port activities to the private sector. It is also important that the port management is granted the commercial autonomy to set charges that will recover revenue sufficient to fund rehabilitation work. 10.45 Under this arrangement, the national ports authority would play an important role in terms of setting policy and regulating the ports. The latter could cover the charges that are made at the port, and could even extend to a performance contract between the ports and the authority to ensure that high operating standards are achieved and maintained. 167 10.46 The Government has been liberalizing the market for clearing and forwarding services by granting licenses for operation to private sector companies. However, ERSTAS is currently the sole shipping agent represented in the port; removing this monopoly by allowing international shipping lines to officially have agents at the port is another policy that the Government should consider. The need for a national shipping agent is likely to decline as the Eritrean economy moves away from an emergency situation. 10.47 The PMTA is currently responsible for the operation of the national shipping line. It is important that ESL operates on a stand alone commercial basis to ensure financial discipline. The role that a national shipping line could play in transport policy should also be considered. It will be important to establish the optimal fleet for ESL, and the extent to which it can provide services by leasing slots from international shipping lines. An extreme version of this would have ESL operating no vessels but providing services via these leased slots. An alternative policy would be to privatize ESL, selling it off either to an international shipping line or to Eritrean investors. 10.48 The PMTA could consider a similar arrangement for the ship repair yard at Massawa. Again, if for reasons of national security it is felt important to keep the yard in public hands, then it should be placed and operated on a stand alone financial basis as soon as is practicable. This will mean that, in the event that the shipyard makes a loss, this will not be hidden within the accounts of PMTA and will not act as a drain on their resources. Ways of improving efficiency at the yard, by contracting out some operations, should also be examined. Developing the Civil Aviation Sector 10.49 The Asmara International Airport requires upgrading of comnmunication and navigation systems in order to meet ICAO standards. The CAA, with technical assistance, has identified an appropriate package of improvements, comprised of equipment, installations and training, costing US$24.5 million. Due to its strong revenue position, the CAA could fund approximately 60 percent of the cost of these improvements from current operations (equivalent to US$2.7 million per annum), if it were granted full financial autonomy. Experience in Eastern and Southern Africa suggests that the development of light industrial and agricultural export industries is critically dependent on the existence of high quality air links to present and potential trading partners. Currently, Asmara airport lacks the cargo facilities necessary to support these types of export. 10.50 A masterplan for the development of Asmara International Airport was produced before the end of the Liberation War. However, this was undertaken on the pretext that the airport was a regional center, rather than the national gateway that it is at present. The Government may wish to consider updating the masterplan to reflect this. It will also need to address the role to be played by the airport at Asseb, which lacks any form of equipment and is currently restricted to daylight operations, and the smaller airstrips which serve local communities. The latter may be required to provide emergency relief and services for local governments. Consideration should be given to the development of these airports once their role in the civil aviation sector is defined. 10.51 The Government of Eritrea could consider a number of options regarding the organization of the civil aviation sector. It is important, in particular, that the airport at Asmara is operated on a commercial basis and that there is an institutional framework in place that allows 168 the airport management the autonomy to undertake this. One option would be to establish an autonomous airport authority which would collect all revenue at the airport. This authority would award contracts for baggage and freight handling and would decide on the appropriate role to be played by the private sector in these and other airport operations. 10.52 Currently, the national airline, Eritrean Airlines (EA, is a joint-venture) is responsible for baggage handling. The Government may wish to consider allowing private sector operators to perform these functions. If EA continues with the franchise, the establishment and monitoring of performance targets will encourage efficient operations. The CAA has let the contract for the operation of the canteen to a private sector operator and has accepted in principle the concept of private sector freight forwarding operations, which will be important in the development of air freight. Many national airlines in Africa (and elsewhere in the world) have made losses and acted as a drain on national resources. In the light of this, the viability of a national fleet of aircraft should be closely examined before any investment is undertaken. TELECOMMUNICATIONS Background 10.53 The importance of a robust and efficient telecommunications sector to growth in exports and the facilitation of internal and external trade is borne out by international experience. It is important that Eritrea develop a strategy for telecommunications growth, especially given its current need for such services. This strategy would need to encompass both the immediate reconstruction needs as well as development in the medium and long term, and could address the role that the private sector (both foreign and domestic) and the public sector would play. Many countries in both the developed and developing world have embarked upon reform and restructuring of their telecommunications sector, to enhance the role played by the private sector and to increase efficiency of service provision. Experience from countries such as the UK, Pakistan, Mexico and Chile suggests that both structural and organizational changes are prerequisites for achieving the goals of increased efficiency and private sector participation. 10.54 In common with other utility services in Eritrea, the telecommunications system is undeveloped and in need of substantial reconstruction. Access to service is limited. Table 10.3 below compares the telephone lines per head in Eritrea with a selection of countries from Sub- Saharan Africa and other regions. Residential consumers make up 60 percent of subscribers. Only 8 percent of subscribers lie outside the three main cities of Asmara, Massawa and Asseb. Reliability is very low, with approximately 60 faults per 100 lines per annum, with the majority of faults lying in the external cable network. The call completion rate is also low, at 60 percent, due to network saturation. An increase in economic activity can be expected to put even greater pressure on the network. Without improvement and expansion, the poor quality of telecommunications services will act as a brake on economic growth. 10.55 The structural organization of the telecommunications industry in Eritrea is sound and will provide a good basis for progress and reform. The Government is in the process of preparing a Telecoms Act. The Telecommunications Services of Eritrea (TSE) maintains a separate management structure, accounting and financial systems and personnel policies from the Eritrean Postal Service (EPS). This means that reform in TSE can be undertaken without greatly impacting 169 on the operations of the EPS. In addition, TSE's present financial situation is strong, with tariffs being at least adequate to cover current expenses (although it is not entirely clear the extent to which provision for depreciation is made). TSE estimated that they did not incur any losses in 1993, aided by the fact that incoming international traffic is approximately five times outgoing traffic. It is important that, in order to attract the private sector and to provide sufficient funds for network expansion, rehabilitation and maintenance, tariffs are kept high enough to generate revenue that will cover costs and provide a sufficient return. TABLE 10.3: TELEPHONE MAIN LINES PER 100 INHABITANTS Country Lines Eritrea 0.37 Ghana 0.35 Kenya 0.76 Tanzania 0.29 Cote d'Ivoire 0.59 Republic of Korea 28.32 Singapore 36.56 Thailand 2.09 Malaysia 7.34 Indonesia 0.49 China 0.79 Brazil 6.01 Mexico 5.57 Turkey 10.50 Sources: International Telecommunications Union, Yearbook of Common Carrier Statistics, and the World Bank. Note: 1989 figures were used for all countries except Eritrea. Govermnent Objectives for the Telecommunications Sector 10.56 The policy of the Eritrean Government is at present to concentrate on the improvement of certain basic infrastructure requirements. Medium- and long-term planning is to be deferred until the Government defines its national development policy for this sector. It is essential, however, that the Government addresses the issue of the medium- and long-term in order to focus and direct immediate policy for the sector. In particular the Government should exanine: the short-term infrastructure needs; the options for development in the medium term; restructuring of the industry to promote commercialization of TSE and the introduction of private sector participation; the areas in which liberalization and/or contracting out of services can take place 170 in the near future; and the need in the future for the establishment of a regulatory body which will ensure fair competition between participants in the sector. Short-Term Needs 10.57 TSE at present suffers from a lack of funds for rehabilitation and investment, a lack of spare parts for telephone exchanges, an old local cable network, and a shortage of trained technical staff. The Government's plans for short-term infrastructure improvements to tackle this seem to be sound. They consist of establishing an international exchange (to allow links with more than one operator thereby improving availability), replacing cable networks in Asmara and the other major urban areas, and establishing a microwave radio relay link between Asmara and Ethiopia to connect with the PANAFTEL microwave route. In addition, the Government should consider the possibility of offering advanced telecommunications services to a few users (such as businesses, government entities and international organizations). This could utilize modern technologies based upon radio communications, and be provided by either TSE or the private sector (see below). Whichever, it is vital that they are operated on at least a full cost recovery basis, with the government entities promptly paying all bills. Options for Development in the Medium Term 10.58 The provision of telecommunications services was at one time regarded as a natural monopoly. Modern technological developments have greatly increased the scope for competition with different companies being able to provide specialized services. The provision of the local cable network is still largely regarded as a natural monopoly, but in many countries competition in the supply of other services exists. For example, long distance telecommunications services are provided by companies different from those that maintain the local network. Even where it is felt that only one company can operate within the sector, franchising can provide an effective means of introducing private sector participation while ensuring the provision of service on reasonable terms. This can be done not only in lucrative urban markets or in developed countries: Bangladesh has recently awarded franchises to three private operators to provide rural services. The advantages are that it allows a country to tap into new technologies and sources of finance that would not be accessible otherwise. However, structural and regulatory reform of the telecommunications industry are necessary for these benefits to be reaped. There are three key policy changes required in order to achieve a situation where these benefits can be reaped. These are liberalization of service provision, commercialization of government entities operating in the sector and competition. These policy changes are to some extent linked, but can also be imposed independently of one another. 10.59 The Government could consider the policies of liberalization and commercialization of the sector in order to strengthen the existing system. The Government would need to grant autonomy to TSE to allow it to operate on a commercial basis (see paragraph 10.21). Under this, TSE would set cost reflective tariffs (however, this should not necessarily rule out the potential for some element of cross subsidy, e.g. international calls subsidizing local ones); and adopt consumer-oriented practices regarding service provision, and the setting of technical targets (e.g. line availability). An effective way of introducing such practices would be joint ventures or management contracts with best practice international operators, given the paucity of skilled manpower at present with TSE. 171 10.60 The success of the liberalization process will depend to some extent on the regulatory franework under which it is made (see below). The range of options includes: either total or partial liberalization of the supply of equipment or services; joint ventures between TSE and technical/financial partners in service provision; and contracting-out of certain activities. In particular, the Government could consider partial liberalization of the supply and maintenance of terminal equipment, and the possibility of TSE operating mobile telephone services in a joint venture with a private partner. This arrangement could also be used for data transmission networks or other value-added services. Alternatively, the Government may wish that TSE play no role in providing these services and concentrate on the provision of basic network services. The disadvantages would be a loss of revenue and of potential technical experience. Also, the Government could consider allowing the following regulated concessions: the installation of PBXs, private networks and the internal communications networks of private companies (via the interconnection of different geographical locations via circuits leased from TSE); the installation and operation of radio communications equipment and satellite communications antennae; and the installation of TV reception antennae for satellite transmissions. Activities that could be contracted out to local private companies include publishing of telephone directories, the distribution of phone bills, the collection of unpaid bills and advertizing the introduction of new services and more general information for the public. Regulatory Framework 10.61 The key to achieving the correct balance between the interests of the users and of the providers of the service is the regulatory framework (see Box 10.1 on different options for regulatory framework). If the policies of liberalization, contracting-out and commercialization are to be followed, it is important that a regulatory body is established that is separate from TSE. The regulatory body should be comprised of individuals that have extensive administrative and technical experience in the telecommunications sector and its power should be both economic and technical. The Eritrean Postal and Telecommunications Authority (EPTA) could form the basis of such a body. Once government policy on industrial structures is determined, it would undertake the following activities: regulate the relationships between TSE and private partners in the provision of services and the leasing of circuits; set quality and service targets for TSE and other operators; identify the public monopoly domain of TSE and regulate charges made for services provided within this domain; ensure, more generally, that TSE does not abuse its monopoly power, e.g. via cross-subsidization of services in competitive markets with profits from noncompetitive markets; and set standards for the installation of equipment. This list is not exhaustive. It is important to note, however, that even if Eritrea embarks on a system where a publicly-owned TSE provides all services, regulation and supervision are maintained to ensure that TSE does not abuse its monopoly position via high prices and/or inefficient service. WATER SUPPLY AND SANITATION Background 10.62 Access to safe water supply is very low in Eritrea. Piped sewerage exists only in Asmara and a small area of Keren, and 56 percent of the population use open field sanitation. Apart from deficiencies in the provision of these services, there is an overall shortage of water resources in Eritrea. Natural conditions-climate, drought, topography, hydrology and geology-have been 172 Box 10.1 OPTlONS FOR REGULATORY FRAmEWORK Worldwide, nations have been liberalizing their telecommunication structures and policies. Invariably the first step in reform is to split telecommunication operation and regulation. From the experiences in various liberalized jurisdictions, the following broad alternatives for the Regulatory Bodies can be derived. * Autonomous, semi-judicial commission; for example, the Federal Communications Commission (FCC) in the USA and the Canadian Radio- television and Telecommunication Commission (CRTC). Decision making is more transparent and there tend to be more clearly defined ways in which a Commission is accountable for its actions than in other regulatory models. The discipline of law and legal procedures tend to dominate administration. * Independent official supported by a separate office; for example, the Director General of Telecommunications in the U.K. supported by the "non-ministerial department" called the Office of Telecommunication (Oftel). A shortcoming may be that too much of the statutory decision making rests with one person, rather than being shared among a number of people as it is the case with a Commission. Arguably, this may result in inconsistent decision making and lack of fairness and balance. * Independent official supported by a unit within Government Ministry; for example, the Directeur de la Reglementation Generale supported by the Direction de la Reglementation Generale (DRG) within France's Ministere des Postes, des Telecommunications et de l'Espace. It is a compromise between the Oftel model and a Government Ministry. An independent, apolitical official (in the case of France, a judge from the high-level Superior Court who is sworn by oath to make decisions without prejudice) is given statutory responsibilities for virtually all aspects except the initial issue of a license (the power of which is retained by the Minister). The official makes recommendations to the Minister on licensing and wider policy matters. * Government Ministry; for example, the Bundesministerium fuer Post und Telekommunikation (BMPT) in Germany. Branches or departments within a Ministry administer the regulatory function on behalf of a cabinet Minister who has the statutory responsibilities and powers. Like all structures of governance, there is no ideal model for a Regulatory Body. Compromise is inevitable. Accurate studies must be performed for defining the regulatory structure suitable for a specific country. 173 aggravated by human actions of deforestation, uncontrolled and wasteful water use, water pollution, and the 30-year civil war. This has led to a major problem in coping with demand from communities and the agricultural and industrial sectors. Given the overall scarcity of water in Eritrea, and its uneven regional and seasonal distribution, water conservation and efficiency in end-use are of the utmost importance. Conservation measures in catchment areas have become standard components of programs in Eritrea. However, efficiency of water usage has not been recognized in this fashion, and wastage control and water-saving technologies have not yet been introduced. In addition, although payment for water is an accepted principle for Eritrea and there are technical and administrative procedures to charge for measured and estimated consumption, tariffs are at present extremely low. They do not cover even the present, artificially low, operating costs. The low level of tariffs does not reflect a low willingness-to-pay, as unconnected urban and village areas pay much higher prices for their water. Government Objectives 10.63 The Water Resources Department of Eritrea (WRD) has developed a strategic plan which contains both specific and more general goals. In designing its policy in the water and sanitation sector, the Government of Eritrea could consider a number of factors. First, the policy should fully address the medium- and long-term needs, and allocate water resources between basic human needs, and agricultural and industrial uses. Second, an institutional framework should be created, equipped with adequate funds and personnel to implement the chosen strategy. Financial autonomy will require that sufficient resources are mobilized from the water sector to provide funds for investment and maintenance of the infrastructure and to protect water catchment areas. There may be some role for private water tankers to supply isolated areas. In the longer term, the Government could consider the role that franchising and licensing could play in the water and sanitation sector. This has been adopted in a number of West African countries as a means of introducing greater operational efficiency into the sector. In order to undertake such a step, however, the Government would need to carefully define the ownership of the assets to be operated by the franchisee/licensee and any required investments in or augmentation to the assets, the criteria upon which the franchise/license will be awarded and the performance and operating targets that would be set for the operator. The private sector could be involved in a smaller way in the operation and maintenance of standpipes. 10.64 The WRD's strategic plan contains a number of specific priority actions in terms of developing infrastructure. Asmara, with 60 percent of the urban population and with the numbers residing within the area predicted to increase, represents the major water and sanitation sector task at present. For public health reasons, there is a great need to extend the coverage of both potable water supplies and sanitation. The reconstruction of Massawa will also require a rehabilitation of the water supply system. It will be important to develop a comprehensive water and sanitation program to avoid the creation of new health hazards. WRD also has plans to rehabilitate and expand water supply in nine other towns in conjunction with the sewerage and sanitation networks. WRD also plans to implement a rural water program in nine rural areas. It is important that these are developed after identified and prioritized needs in these rural areas have been established. 174 Improving the Efficiency of Water Use 10.65 Given the current scarcity of water resources, it is important that WRD places great emphasis on the efficiency of water usage. To an extent, increasing charges in urban areas, and where appropriate, in rural areas, will encourage more efficient usage of water where users are charged for actual units consumed. However, WRD should encourage more the introduction of water-saving technologies and wastage control, to build upon good progress already made in conservation of water resources and catchment protection. One aspect of waste disposal that requires particular attention is the control of industrial waste water and solid wastes. This has not thus far been identified as a major issue in Eritrea. It must be strictly ensured that the collection, treatment and disposal of toxic and other dangerous wastes are handled separately from the public system. The WRD should ensure that as far as possible equipment is standardized to minimize future maintenance problems. WRD has already indicated that the variety of pumping equipment in operation has made maintenance and the procurement of spare parts more difficult. Institutional Framework 10.66 Given the need for a program of water conservation and efficiency in end-use, it is important that WRD retains a strong role in coordination, regulation and monitoring within the sector, and that it serves as the primary point for policy dissemination and coordination with other ministries which have a direct interest in water resources (e.g. the Ministries of Agriculture and Health among others). However, WRD should gradually transfer its present operational activities to regional and local authorities. This will help WRD to focus on its core functions. Initial steps have been taken by WRD to promote local participation in the provision of water and sanitation services with the creation of village water committees. Decentralization of operational control needs to be formalized with the creation of specialized departments for the control of water resources. At present it is anticipated that at the local level responsibility for the technical and financial management of water and sanitation will lie with the municipal authorities. However, W&S departments exist only in the authorities of Asmara, Massawa and Asseb. It is important that these departments are financially autonomous and can levy charges sufficient to cover their costs without subsidizing other municipal activities. A similar process of decentralization is anticipated at the rural level. Increasing charges for water and sanitation (see below) will help to achieve financial autonomy for the sector as a whole. Enacting legislation establishing and regulating the powers and duties of the different entities as soon as practicable will help speed the process of institutional reform. It should be borne in mind that, given the role that regional and local governments will play in the water and sanitation sector, the structure of local government will have an important impact upon how responsibilities within the sector are delineated. 10.67 Less attention has been paid to the institutional arrangements for sanitation services. It is important that the WRD focuses on the creation of an appropriate structure to allow the development of adequate systems of waste water, sewage and solid waste disposal. Revenue Mobilization 10.68 Tariffs for the urban water system are currently around one fifth of the level of charges in rural areas and one tenth of the charges levied for water supplied from private water tankers. This suggests strongly that the urban population would be willing to pay higher charges for water 175 supplies. WRD has plans to increase charges at urban boreholes equipped with handpumps to levels similar to those in rural areas. It should consider increasing all other charges to levels that reflect operating and maintenance costs as soon as possible. Tariffs should ultimately increase to levels that reflect the costs of investment. This does not rule out the possibility of some cross- subsidies between consumers to promote the social objectives of the Government. If water supply is metered, then this could reflect low rates for residential consumers for an initial block of consumption, with higher levels after this. If charges are based upon estimates, then those consumers with smaller dwellings would be paying proportionately less per estimated unit of water consumed. Without this, it is unlikely that the water and sanitation sector will be able to raise revenues sufficient to cover even maintenance needs, let alone provide funds towards future investments. Higher tariffs will also encourage those who are charged for metered consumption to improve their efficiency of water usage. Other sources of funds may be open to WRD. Resource mobilization through contributions (either in cash or in-kind through labor) to the cost of water and sanitation facilities has been used in some of the smaller local programs. The extension of this type of scheme should warrant examination. Once operations in the sector are better established, the Government may wish to consider establishing performance and tariff targets for the water companies. The former could include targets for water conservation and the introduction of water efficient technologies, as well as for the establishment of new connections and repair of leakages. Tariff targets may be needed to ensure that water companies recover sufficient revenue to fund investment and maintenance, but do not exploit and overcharge the consumer. HOUSING AND URBAN DEVELOPMENT Background 10.69 Three decades of war and neglect have had an incalculable effect upon Eritrean towns and upon the nation's housing stock. The Government faces the multiple challenge of reconstructing and replacing what has been destroyed and damaged by war, meeting the needs of those displaced and impoverished by the conflict, correcting the accumulated deficiencies in urban services and housing, and at the same time, laying the framework for self-reliant development. 10.70 All of Eritrea's towns suffer from deficient infrastructure services (water supply, power supply, sanitation, roads, telecommunications) and social services (health, education, fire/police, public transport, nutrition and welfare). There is also an extreme housing shortage as evidenced by severe overcrowding in the existing housing stock. The reduction of overcrowding, replacement of dilapidated housing, and catering to the new demand for shelter suggest that Asmara requires 6,500 dwellings per year for the next ten years. 10.71 Despite the lack of up-to-date census data, it can be assumed that about 30 percent of the population of 3.5 million is urbanized, of whom the two thirds (400,000) live in Asmara. Eritrea's second largest town, Asseb (pop. 80,000), is located at the extreme southeast of the country and serves mainly as a sea port for landlocked Ethiopia under a bilateral agreement between the two countries. There may be as many as 600,000 Eritreans living in neighboring countries who were not accounted for in the 1984 urban census. The 30-year war gave rise to major shifting of the country's population to both urban areas and neighboring countries. Based 176 on experience in other countries, especially Ethiopia, it is likely that a significant proportion of those who migrated to the urban areas since 1960 and those refugees returning from surrounding countries will settle in Asmara and other urban areas. Therefore it is reasonable to assume that the urbanization rate in Eritrea will increase dramatically, with a consequent increase in demand for urban services. 10.72 Urban land and housing markets do not exist at present in substantial form. With the system of land tenure currently under review by a Land Commission, the status of most urban land parcels is unclear and transactions are pending. Typically, most vacant or marketable plots are held by the local authorities who can make plots available to potential investors. Owners of urban land may only sell to the municipality in which the plot is located. The supply of newly serviced land is totally absent owing to the lack of resources in the hands of local authorities and the absence of private developers from the scene. There is an acute shortage of urban housing, most of which is rental under strict rent control. The only house construction activity visible is in the "popular' self-help sector. Market exchanges of housing are few owing to the unclear status of land and the multiple claims on property as a result of the nationalization policy of the former Ethiopian government. Govermnent's Objectives for the Housing and Urban Sector 10.73 The Government has implemented a local government policy that actively promotes both effective decentralization and community representation and participation. Municipal administration is organized along traditional lines, with departments for each of the primary functions of local government. The two largest urban areas are financially independent from the central government. Revenues come from several sources, the most important of which are rental income from housing and tax revenue from industrial and commercial establishments. Development control is reported to be effectively administered in Asmara, with the consequent lack of substandard construction and squatting. Manpower constraints coupled with outdated technology hamper urban management. 10.74 The Government has espoused a policy of decentralized growth in which all regions of Eritrea can prosper. The Government is encouraging the location of new industrial development and the relocation of existing government facilities to urban areas other than Asmara. The reintegration of 500,000 Eritrean refugees into a number of new or existing rural settlements is an important task facing the Government and a pilot program is being designed, with the consequent need for a strategy for affordable rural housing. Other initiatives launched by the Government include preparation of physical plans of selected urban areas and preliminary plans for housing finance using the branch of the former Housing and Savings Bank of Ethiopia in the region. Prospects for the Future 10.75 The continued urbanization of Eritrea is a foregone conclusion and policies should be designed to harness the potential of urban residents to shape their own way of life. The policy framework for the sector is in a very formative stage. Practicality and pragmatism must be adopted to achieve results within the severe resource constraints which affect the sector. The primary thrust should be in the direction of enabling local authorities to manage their own affairs, as Asmara and Massawa seem to be doing already. Local authorities, in turn, must be seen to be 177 enabling the private sector to play its role in the provision of services and shelter in the long term. Urban reconstruction will involve a high degree of interministerial and interagency coordination, the design of which can benefit from other countries' experience in similar situations. The coordination of urban reconstruction and economic revitalization should be located at the local level, provided that local authorities have the capacity to plan and mobilize resources including the contributions of citizens. Creating Property Markets 10.76 A priority task in the urban sector is to address the need to create viable land and housing markets. A rational basis for this must be laid down by land tenure reform which clarifies rights of ownership and use, currently being planned by the Government. Secure rights to urban land will provide a vehicle for obtaining access to credit required for urban development. The clear definition of private property rights will direct the self-interested decisions of private owners to produce more desirable environmental outcomes than will open access or clouded titles. Since local government depends on rental income from housing as a major source of income, a viable substitute will need to be made available under a policy of shelter denationalization which should accompany the creation of a housing market. Failure to do so will make the urban areas more financially dependent on the center, a backward step at least for Asmara and Massawa. 10.77 A policy for urban shelter in Eritrea should place the responsibility for the provision of serviced land initially in the hands of local authorities until such a time that private developers can participate. The construction of housing on serviced land should be allocated to the private sector, including individual households. Access to affordable credit and technical assistance, coupled with appropriate building standards, are also necessary components of a viable urban housing strategy. The same principles apply to the provision of rural housing where aided self- help and low-cost construction will be required to shelter returning refugees. 10.78 The rehabilitation of urban services and their expansion to meet the growing need should be achieved on an incremental basis according to the willingness and ability of beneficiaries to pay for the services. Subsidizing the cost of urban services such as water supply, power supply, and sewerage should be avoided to increase economic efficiency and reduce environmental damage. 10.79 Principles for Rehabilitating Urban Areas. The Government should consider the development of a set of principles to govern the rehabilitation of urban areas. These could include: (i) public investments should be made in activities which are consistent with the essential role of the Government as an enabler of private sector investment; (ii) efficient markets should be encouraged balanced by the need to ensure equitable sharing of the components of reconstruction among all segments of society, including women and children; (iii) unproductive assets should not be rehabilitated or replaced; and (iv) reconstructed assets should be within Eritreans' capacity to maintain and where possible, the physical/institutional reconstruction in the urban sector should be linked to economic recovery. 178 11 ENVIRONMENT: ENSURING SUSTAINABLE DEVELOPMENTS° INRoDUCTION AND SUMMARY 11.1 The sustainable utilization of the natural resource base and the protection and conservation of the environment is central to Eritrea's future development. A number of problems such as land and water degradation, are already serious in terms of their impact on people's income and welfare, and require immediate attention if they are not to further constrain productivity of agriculture and of other sectors. At the same time there are other areas in which future growth and development could lead to environmental damage if action is not already taken to put in place appropriate regulatory measures, pricing/taxation policies and institutional mechanisms to avoid adverse impacts on the environment. Difficult choices and trade-offs may need to be made between obtaining more immediate economic gains and pursuing longer term benefits from conservation of natural resources and protection of the environment. Ideally Eritrea needs to find solutions that can promote both economic growth and better management of the environment. Fortunately, the commitment to finding such solutions exists in Eritrea as the Government places high priority on environmental issues and on ensuring that future economic growth will be sustainable. But the task ahead is formidable given many years of institutional neglect and the almost total lack of information on natural resources and other aspects of the environment. This chapter examines some of the main issues confronting the government in pursuing its environmental agenda and the options that it may need to consider to ensure sustainable development. 11.2 Priority Areas. At present, the main environmental issues of concern in Eritrea relate to the degradation of its land, forest and water resources. Urban environmental degradation is also viewed as an increasing cause of concern though it currently affects a limited proportion of the population. Other environmental problems such as industrial pollution and the degradation of the coastal areas and marine resources are not perceived as being significant at present in terms of their immediate impact on human welfare, but there is great concern that these should not emerge as problems in the future. In order to address problems of land, forest and water degradation, large scale public programs for soil and water conservation as well as reforestation are underway. While such programs need to continue, the challenge for the future will be to integrate conservation approaches into agricultural production systems and improve the incentives for farmers to adopt these technologies directly on their own land whilst at the same time strengthening community management of the natural resource base. The recent land tenure reforms are expected to help in this regard by providing farmers with greater security of tenure and hence increasing their motivation to undertake sustainable land management practices. Measures to integrate soil and water conservation concerns into agricultural extension services would greatly facilitate the dissemination of such practices to farmers and assist agricultural production. Benefits could also be obtained through the development and promotion of low cost conservation methods as well as improved water harvesting technologies for rural areas. 11.3 Accelerated reforestation is to be achieved through more widespread promotion of tree planting in household compounds, extended use of closures to assist in the regeneration of pasture 50 This chapter has benefitted substantially from material generated by the FAO Agricultural Sector Review and Project Identification Mission, led by Rolf Giisten, which visited Eritrea in September/October 1993. and woodland, encouraging the establishment of tree plantations near urban areas, and exploring ways of providing households the right to plant, maintain and harvest trees on communal land. With regard to water resources, the two areas of priority will be first, to conduct an overall water resources assessment so as to establish the amount of water available in the country, and second, to finalize and ratify water legislation and an overall water policy to ensure efficient and rational water allocation and management. Attention is also being paid to water pricing and the possibility of using fiscal incentives to promote use of water saving technologies. 11.4 Pressures on the urban environment in the form of overcrowding, poor sanitation and inadequate water supply are already being felt in Eritrea's main cities and towns. As industry and business expand, such pressures are likely to be exacerbated as competition for limited urban services grows and urban employment increases. The Government is already considering various measures to prevent new industries from converging on the larger urban centers such as Asmara. But this raises the issue of trade-offs between incentives for industrial and commercial growth and the need to contain urban sprawl. Consideration will need to be given to devising a coherent strategy for urban development integrating environmental concerns without incurring undue economic costs. Comprehensive legislation dealing with pollution control and industrial development will also eventually be required as the industrial sector grows. 11.5 A high priority is placed by the Government on ensuring that the development of the coastal areas does not occur at the expense of the existing ecosystems. To this end the Government has already initiated a number of actions including a requirement for environmental impact assessments for any development project on the coastal area, and the establishment of an inter-ministerial committee to integrate environmental considerations into development policies for the coastal areas. Further actions that are planned include an ecological inventory of marine resources, the creation of an integrated coastal resources management system for the Dahlak archipelago, and the drawing up of a legislative and policy framework for the enforcement of environmental standards and sustainable natural resource exploitation in the coastal areas. 11.6 There are a number of cross sectoral issues which urgently require attention and are important for ensuring that sectoral measures can succeed. Population pressures if continued unabated will place increasing strains on Eritrea's natural resource base undermining any sectoral efforts to achieve sustainable use of natural resources. This points to the importance of having a comprehensive population policy in order to ensure that effective environmental management can be attained. Meanwhile efforts to encourage the voluntary resettlement of people to low density areas of agricultural potential while justified economically, is raising issues about possible repercussions on transhumant pastoralists. Resettlement through the according of concessions for commercial farming is meanwhile being closely monitored to ensure sustainable use of the natural resource base. 11.7 In order to be able to effectively devise, support and monitor environmental policies, legislation and appropriate institutional mechanisms will need to be put into place that can operate independently of sectoral interests and have the authority to oversee and enforce environmental policy across the board. A sound legislative framework will also be necessary for the purpose of delineating and formalizing institutional responsibilities for the environment, for providing a basis for resolving conflicts in resource use, and for enabling environmental protection objectives to be pursued within different sectors. In order to provide overall direction to the Government's attempts to address the environmental issues affecting the country, there is also a need for a 180 comprehensive environment strategy and action plan. The Government has already initiated action to this end and will be holding a National Conference on the Environment in 1994 in order to define a preliminary plan of action. Additional measures will be required to further elaborate the action plan through in-depth studies and training. 11.8 An essential requirement to enable the Government to plan and manage environmental issues more effectively, will be to strengthen information on the natural resource base of the country. While initial assistance is being provided to this end from a number of donors, more permanent systems for data collection and monitoring of natural resource degradation will eventually need to be established to enable effective management of the natural resource base of the country. MAJOR ENVIRONMENTAL CONCERNS Land and Forest Resources 11.9 Land Degradation. In terms of the impact on income, productivity and human welfare, land degradation and the associated problem of deforestation are the two areas of greatest concem in Eritrea. At present there is a lack of precise data on the extent and rate of land degradation or the impact of land degradation on productivity and hydrology. The limited information that does exist is not uniform. For instance, data generated by the 1984 Ethiopian Highland Reclamation Study (EHRS) which provides aggregate estimates on soil depths and severity of erosion in the highland areas of both Ethiopia and Eritrea, puts the average soil loss at an estimated range of between 50 and 170 tons/ha/annum, equivalent to a soil depth loss of 8mm per annum. Subsequent work carried out under the Ethiopia Soil Conservation Research Project (SCRP) in Hamasien Province, lowered these estimates substantially, estimating average soil loss to be 15 metric tons per hectare per annum.5' From this, productive land loss was estimated to be in the range of 1 to 1.5 percent. The SCRP figures are equivalent to an annual decline of crop production of 0.2 to 0.4 percent annually and a decline in livestock production of 0.05 to 0.1 percent annually. Although these figures do not appear to be particularly dramatic, they have serious implications over time, especially given the fact that current rates of population growth are estimated at over 3 percent per annum. 11.10 Even without any substantiating data the physical evidence of land degradation is widely recognized, particularly in the highland areas. The increasing prevalence of stones in ploughed fields is one indication of sand, silt and clay particles being selectively eroded away leaving behind the larger stones. Soils are no longer able to support the crop production that they have done in the past due to loss of fertility and related to this, loss of ability to hold moisture. This manifests itself in declining agricultural yields which though not systematically documented can be inferred from farmers' own observations. In the lowlands, the soil is particularly susceptible to gulleying with serious implications if this land were to be opened up to more intensive S1 This dichotomy can possibly be explained by the different agro-ecological zones in which the two studies were conducted with varying tendency to erosion. A wide range of soil loss is possible for different landscapes within Eritrea. In addition, the less energetic rainfall regime in Eritrea as compared to Ethiopia, may also explain the wide divergence between the average soil loss figures for Ethiopia as a whole and those relating more specifically to Hamasien Province. 181 agricultural production. The reasons for the high incidence of soil degradation are several and have already been detailed in Chapter 5 on Agriculture (paragraphs 5.39 to 5.47). In short, population pressures, rapid deforestation, reduced periods of fallow, the increased fragmentation of land, overgrazing in certain areas, and the prior land tenure system have all contributed to the degradation of land over time and increased downstream sedimentation. 11.11 Soil and Water Conservation Programs. Large-scale soil and water conservation programs to address problems of land degradation were initiated as far back as the Italian colonial period and evidence of bench terracing and contour bunding dating from 40 to 50 years ago are still clearly visible in many areas of the highlands. Throughout the war of liberation, and despite its disruptive effect on efforts to maintain the structures already in place, relief agencies and other foreign donors continued to provide Eritrea with substantial assistance for soil and water conservation programs. Approximately Br 233 million (equivalent to US$116 million at the prevailing exchange rate) of food for work assistance was allocated to soil and water conservation works from 1979 to 1992, most of which were concentrated in the food deficit areas of the highlands. The majority of these programs have consisted of contour bunding with rocks and soils, bench terracing, micro-catchment development, contour ditches and check dams. 11.12 The physical achievements of these programs have been impressive and WFP and FAO reports indicate that most of the work has been undertaken in a technically competent manner. However, the results of the overall conservation program in terms of productivity and fertility gains, reduced downstream sedimentation and accelerated recharging of aquifers, are as yet uncertain. It would appear that considerable public investment is necessary to maintain the terraces developed in previous years, indicating the failure of local villages to adopt and maintain the conservation structures as their own. Maintenance programs have been initiated whereby farmers are paid in cash or in kind to repair previous years damage and where necessary, raise bund heights. But in the long run the Government may not have the organizational capacity nor the resources to assume responsibility for implementing and maintaining soil conservation programs on all of the rain fed cultivated lands indefinitely. This would point to the necessity of engaging farmers more directly in both initiating and maintaining soil conservation programs. i 1.13 Incentives for Soil Conservation. Most of the soil conservation programs that have been undertaken have been done so with the primary objective of achieving certain physical targets. They have also served as a useful vehicle for food for work programs. As such the motivation to implement such programs on the part of communities has often been based as much on the prospects of food receipts as on the benefits of conservation. Thus it is not surprising that follow- up maintenance is usually not undertaken without the request for additional food incentives, or increasingly, cash incentives. This would point to the need to look at ways of changing the incentive framework for farmers in undertaking soil and water conservation works. 11.14 First, the land tenure system appears to have been an important factor deterring farmers from undertaking long-term investments in soil and conservation measures (see chapter 5 on Agriculture). Not only has the lack of security of land tenure influenced the farmer's management of the land, but the progressive fragmentation of land as population has risen and the increasing proportion of marginal, less productive land allocated per farmer, has made it less attractive for farmers to invest in their land. Common property has often been poorly managed particularly grazing areas, leading to loss of vegetative cover, soil compaction and ultimately severe soil erosion in some areas. The recently approved land tenure reforms are seen as an important step 182 towards encouraging more sustainable farming practices given the emphasis on lifetime rights of usufruct and on avoiding further fragmentation of land. However, the manner in which these reforms allow for effective management of common property resources remains unclear, given that limited information is available on the details of the reforms. 11.15 Second, the frequency of droughts and locust attacks resulting in crop failures also undermines the farmer's motivation to invest in her/his land. Even in a good year yields are often scarcely sufficient to cover more than subsistence needs. Clearly, as long as farmers continue to obtain low yields from unproductive farmland, they will not have sufficient resources or motivation to initiate or maintain conservation schemes. Although food for work programs have served an essential purpose in providing employment to rural communities, the emphasis in the future may need to be on more closely integrating soil and water conservation practices into improved agricultural production systems in general. In other words, the most effective strategy to enhance environmental stability may be to enhance the farmer's productive prospects through technology improvements that help to both arrest progressive soil degradation and improve production and profitability. In this connection the integration of soil and water management techniques into agriculture extension service activities would be important for the purpose of disseminating messages to farmers on farming practices that will ensure more sustainable use of land. It would be important in this context to ensure that such extension systems are demand driven, responding to farmers' own perceived needs, and problem oriented. 11.16 Third, more proactive measure could be taken to make soil and conservation investments more affordable to farmers. For instance, low cost/low maintenance conservation methods requiring fewer and less costly interventions by the farmer could have more appeal than traditional construction and diversion works when the farmer is constrained in terms of time and resources. In Eritrea very little use has been made of vegetative conservation protection measures as an alternative to physical protection techniques. The use of vetiver or elephant grass hedges, vegetative control of gullies and wind breaks are all practices that could be further explored in the Eritrean context. 11.17 Fourth, substantial gains could be obtained through encouraging more effective ground cover management through planting of mixed crops that would be acceptable to farmers and provide a basis for income generation while effectively stabilizing erodible soils. For instance, work carried out under the Ethiopia Soil Conservation Research Project, showed that the vegetative soil cover provided by a mixed crop of sorghum and beans as compared to teff could reduce annual soil loss form 282 tons to 1 ton per hectare. Natural pastures could limit soil loss to 6 tons per hectare. In Eritrea where rainfall tends to be less than in Ethiopia these gains could be less dramatic, yet nevertheless could be expected to be significant. 11.18 Meanwhile, the effectiveness of the on-going food-for-work conservation programs could be enhanced through improved planning. At present, lack of human and financial resources makes it difficult for the Government to systematically plan or monitor soil and water conservation programs. Much of the support provided is made available according to ad hoc requests from district and provincial baitos often situated in widely different catchment areas. While in most cases it is unlikely that conservation programs can do substantial harm in any given area, their effectiveness could in some instances be considerably enhanced if a critical mass of conservation activity in specific areas could be attained. For instance, 10 or 20 programs in one catchment area are collectively likely to have a much larger impact on downstream sedimentation than the same 183 number of programs dispersed over several different catchment areas. Also, better information is required on soil types and hydrological characteristics of catchment areas to ensure that soil and water conservation programs can be planned and implemented in a cost-effective manner. 11.19 Deforestation. Significant data relating to the forest resources of Eritrea are almost non- existent as there is an absence of up-to-date base maps and aerial photography. However, visual and anecdotal evidence suggests a dramatic loss of tree cover in Eritrea over the last 50 to 100 years. Whereas in the 1920s it was estimated that about 30 percent of the country was covered with forests and woodlands, it is currently estimated that only about 1 percent of the total land area is now covered by forests while riverine woodland and bush land cover another 1.6 percent of the land. 11.20 The main reason for the rapid deforestation has been the clearing of land for agricultural purposes and the cutting of wood for fuel and construction, the effects of both of these having been severely exacerbated by the increase in population. In addition the war had a destructive effect on woodlands of several regions. Large quantities of wood were required for the construction of trenches and garrisons, while napalm and defoliants also contributed to the wholesale destruction of forests in certain parts of the country. The situation has been aggravated by the fact that the natural process of regeneration has not been allowed to take place because of browsing by livestock. In addition there are currently few affordable alternatives to wood for construction and fuel purposes (other than animal dung for fuel), particularly in the rural areas, giving rural households little choice but to exploit the trees and other vegetative resources around them. The loss of tree cover has contributed to a number of serious ecological and social effects including an increased silt load in rivers resulting in the rapid siltation of irrigation dams and reservoirs,52 loss of nutrients for the soil and hence reduced fertility, and loss of gene resources. Furthermore, progressive deforestation has brought hardship to families that are deprived of fuel for cooking and heating purposes as well as building materials for their household needs. 11.21 Reforestation Programs. A new Forest Policy for Eritrea is under preparation but it will take time before comprehensive legislation on forestry will be ratified. Meanwhile, recognizing the seriousness of the situation, the Government has declared a number of edicts to curtail the sale of charcoal, the cutting of live trees without a license, or the cutting of dead trees for commercial purposes. It has also initiated a limited program of "closures" of degraded acacia woodland where grazing and cutting of trees of any kind is forbidden for prolonged periods of 5 years or longer. In areas where land is owned by individual community baitos, short-term protective closures initiated and enforced by baitos are encouraged by the provincial agricultural offices. So far, hillside closure of about 100,000 ha has been achieved, 56,000 of this since the beginning of 1992. The success of these measures has been mixed largely because there are few alternatives to wood in most rural areas, and because of the multiple use of such land for grazing and browsing. However, where closures have been successfully enforced the results have been dramatic with vegetation and tree cover spontaneously reappearing within a space of four or five years. 5 It should be noted that a high proportion of the sediment in rivers and streams would probably result in any case from .normal" geological erosion. 184 11.22 The Govemrnent has also attempted to actively encourage reforestation on communal and public land, as well as tree planting by individual households. Fifty Governmnent and 23 community based tree nurseries have been established throughout the country, providing tree seedlings free of charge for community and government plantations and to individual families. In the case of the latter, this has led to a successful program of tree planting, notably eucalyptus, within household compounds providing a valuable and scarce source of building material, with waste products used for fuel. Tree planting on farmland, however, has rarely taken place as the land tenure system which until recently the majority of farmers have been operating under, has given the planter no long-term security of use. At the same time government supported tree planting schemes have also been carried out both on government and community owned land covering about 10,000 ha so far. A great majority of these schemes have been financed under food for work programs and take place on the steep slopes of communal land which tend to be used for grazing rather than farming. A major problem that has undermined many of the reforestation programs has been the lack of follow-up and maintenance of young plantations with the result that many trees planted have been damaged or have died. Communities are reluctant to devote time and resources to communal projects for which the benefits are not tangible in the short term, particularly if the grazing of livestock must also be curtailed. Meanwhile, the Government lacks the resources to ensure follow up on its own. 11.23 The recent reforms in the land tenure system can be expected to significantly improve the incentives for farmers to practice agroforestry on their own lands. Meanwhile, there are a number of measures which are being further pursued for the purpose of encouraging reforestation. First, as in the short to medium term there are likely to be few affordable alternatives to wood as sources of fuel and construction material, tree planting within household compounds is being further encouraged as it offers people the opportunity to create and access the wood resources they need for themselves. Nurseries are to be upgraded and extended and the agricultural extension service used as a vehicle for supporting rural households in undertaking local tree planting. Second,the government is further reinforcing the use of closures to stimulate the regeneration of vegetative cover and woodland. In most cases these are temporary closures, and in all cases they are agreed to and enforced voluntarily by the baitos themselves. In order to accelerate the process, the government might consider establishing incentives for such closures to be undertaken, e.g. tax exemptions or preferential consideration for social projects. Third, the Government is considering various options for better management of forest resources on communal land. One option which is already being tried in parts of Hamasien province with considerable initial success, might be to encourage baitos to divide communal land between households. Each household would then assume an indefinite right to plant, maintain and harvest their own tree crop, though the land, in principle, would still belong to the Government. Such an arrangement would need to be made on the basis of an estimate by the baito of the communities' wood requirements and the amount of land that would need to be planted to meet this requirement. 11.24 In order to meet the demand for fuelwood and construction materials from the urban areas, the expansion of peri-urban fuelwood and pole plantations is to be encouraged. Given the high demand for wood and consequently high prices, this is a potentially profitable activity which, it is anticipated, will be undertaken primarily by the private sector. The Government's role in this context is expected to be that of facilitating the entry of private entrepreneurs through the allocation of suitable land, and ensuring that the appropriate economic and legal environment is in place for private sector operations. The Government has outlined its strategy for the sector 185 in a recent paper on energy sector (see Chapter 10). Ultimately, a comprehensive energy policy would need to be devised which would, amongst other things, assess the future demands on fuelwood as population rises and economic activity expands. Alternative sources of energy to fuelwood, particularly for rural enterprises, will need to be investigated as well as energy saving technologies such as fuel efficient cooking stoves for domestic use. Water Resources 11.25 The second broad area of enviromnental concern in Eritrea is that of the availability and quality of its water resources. The nature of the issue is somewhat different in rural and urban areas. In the rural areas, lack of water in the form of rainfall or access to irrigation, is a major constraint on agricultural productivity (see Chapter 5). Furthermore, difficulty in accessing drinking water for human consumption or for watering livestock undermines productivity and health, while bacteriological contamination of water contributes to high morbidity rates among children. In the urban and coastal areas, lack of water constrains the current activities of industry and businesses and threatens to curtail future expansion, while water shortages and contaminated water supplies also adversely affect the health and productivity of the urban population in general. Two challenges currently face the government with regard to water resources. One is the need to establish a framework under which water allocations can be prioritized and regulated so as to optimize economic benefits and social welfare in the future; the second is the need to improve access to water supply of adequate quality so as to be able to meet the minimum demand for water by rural and urban households as well as by industry and business concerns. 11.26 Water Availability. Eritrea suffers from high variability of rainfall which makes surface water unreliable. Almost all the streams are seasonal and their rate of discharge fluctuates in response to rainfall inputs. During drought periods, there is a sharp drop in the quantity and duration of streamflow. Most of Eritrea's surface water drains into three major river basins, namely the Mereb-Gash and Tekeze-Setit river catchment, the Barka-Anseba river basin and the Red Sea drainage basin (see chapter 5). The estimated annual run-off is in the region of 11.2 billion m. A more dependable water supply source to date has been groundwater, but the full extent of the ground water potential is unknown. During the 1980s, and as a result of several years of recurring drought, the level of the water table declined to an unprecedented low though this recovered to some extent due to plentiful rains in 1992. 11.27 Most of the rural population and a high proportion of the urban population suffers from chronic water shortages for domestic purposes during a major part of the year (see Chapter 10). For many households, drinking water must be obtained over long distances, often requiring to be fetched by donkey or camel. In the urban areas, about 35 to 45 percent of the population is served by piped water, the remainder obtaining water from unprotected wells or from water vendors, often at very high cost. Water systems in urban areas are generally old and leaking and suffer from frequent breakdowns. The demand for water exceeds supply in major urban centers such as Asmara where the storage capacity of the local water reservoirs is unable to cope with the growing population of the city. Water losses due to leakage and improper management are high at an estimated rate of about 40 percent of supply. In the rural areas crop production is highly vulnerable to drought and in the absence of supplementary irrigation low yields result. Lack of water also affects livestock productivity. Animals such as oxen, which are weakened through lack of water are unable to work to their full potential on the land, this in turn affecting agricultural production. In times of drought, lack of access to water reserves can wipe out entire 186 herds of animals and hence incur major losses of income for a large proportion of the rural population. 11.28 Water Quality. Water quality has been affected primarily by excessive runoff and domestic waste. Excessive run-off which removes high levels of valuable top-soil, has led to problems of siltation and sedimentation while exacerbating problems of soil erosion. Furthermore, water flows can be excessively high in peak flood periods causing spate irrigation schemes to be washed away, reducing the life of storage dams and generally complicating efforts at dam construction and other water conservation measures. In some areas of the country high levels of salinity make water undrinkable and could potentially cause problems for future irrigation schemes. In urban areas, water quality is variable and often contaminated largely as a result of poor sanitation and drainage systems as well as the obsolescent state of existing water supply systems. In some localized areas, industrial pollution has resulted in contamination by toxic wastes. This has resulted in part from the non-availability and lack of enforcement of a proper regulatory and/or incentive framework for preventing and monitoring contamination of water resources. 11.29 Water Resources Management. The demand for water is likely to grow significantly as the country's economy develops. Not only does the Government place substantial hopes on irrigation as a means of bringing about increased agricultural production, but the expansion of industry, increased urbanization and the development of the coastal lowlands are all expected to lay claim on the country's water resources. This highlights the urgency of drawing up a national strategy for water resources in order to establish a framework for a comprehensive and systematic approach to water resources management in Eritrea. The Department of Water Resources (WRD) in the Ministry of Mines, Energy and Water is currently responsible for overall coordination and management of water resources although other ministries, most notably the Ministry of Agriculture, also have some involvement in water. To strengthen WRD's collaborative links with other ministries, efforts at coordination have been initiated by the establishment of a committee on water resources development which has the objective of coordinating activities between the Ministry of Agriculture and the Department of Water. This may need to be further strengthened and the functions and delineation of responsibilities between the two institutions further clarified, particularly with regard to the implementation of soil and water conservation programs. 11.30 The Government might consider following the example of many other countries, whereby the relevant government entity responsible for water resource management, confines its activities to undertaking water resources assessments, drawing up legislation and policies, setting standards and guidelines, overseeing policy compliance, and drawing up overall water resources sector strategies. Involvement in the implementation of public works programs relating to water conservation or general water resources development, as well the provision of water supply for domestic consumption, is generally left to municipal authorities or other arms of the government geared to construction works and provision of basic services. Implementation of irrigation programs tends to be the responsibility of the Ministry of Agriculture. An appropriate institutional mechanism is meanwhile being sought by the Government for the eventual management of the country's major river basins, two of which are shared with neighboring countries. This will be necessary so as to ensure that water resources in these areas can be used sustainably and efficiently. 187 11.31 The WRD has drawn up a strategic plan for water resources in which it indicates its intention to carry out hydrological mapping, an overall water resources assessment and the creation of a database on hydrology. Integration of studies of water use would help to provide substance to the above. Only after completing these tasks will it be possible to assess the costs of water exploitation, the rate at which water can be sustainably extracted (particularly for agriculture), and the implications in terms of setting priorities for water allocation between different sectors. A minimum hydrometric network will also need to be established in order to ensure continued monitoring of water resources availability. These measures are to be undertaken in conjunction with appropriate actions to upgrade skills in the area of water resources management and in more specific related technical fields, and with the securing of sufficient financial resources to maintain an ongoing information and database. 1 1.31 The ratification of comprehensive legislation on water resources allocation and utilization will also be an important step in ensuring sound water resources management. Such legislation is currently under preparation and is expected to pass through a review procedure before being approved. This legislation should eventually form the basis for a comprehensive policy framework and strategy for water resources development and utilization, enabling the Government to set priorities for water usage in accordance with the country's overall development objectives as well as facilitate the resolution of potential water conflicts. 11.32 There are specific actions that are being or could be taken to relieve current water resources problems in Eritrea. Issues relating to water supply for domestic and commercial purposes in rural and urban areas have been examined in Chapter 10. Access to water resources for irrigation purposes is dealt with under Chapter 5. Measures to contain pollution of water resources by industries are discussed under a later section of this chapter. Meanwhile, there are certain areas where investigation of improved technologies and management approaches could help Eritrea make better use of the water resources it has available. For instance, one problem that Eritrea faces is the highly skewed seasonal distribution of rainfall and hence water availability. While inadequate levels of annual rainfall account for many of the difficulties faced by Eritrea in the water sector, large amounts of rain water can fall in short spells at certain times of the year. But this resource is ephemeral partly because of high levels of evapotranspiration, but also because of the lack of adequate diversion structures or dams to capture the flood waters that occur as a result of heavy rains. A major challenge is thus to examine improved methods of water harvesting so that the excess water in one season can be used productively in another. This would be applicable not only for rural areas but also to enhance water supply for urban populations. 11.33 There could also be substantial scope for improving the efficiency of water consumption, not only through pricing structures that better reflect the true scarcity value of water and the costs of its provision but also by promoting water saving technologies and practices both for domestic consumption and for industry. The kinds of tools that could be used for this purpose might include tax incentives for businesses to adopt water saving technologies, or significantly higher tariff rates for water consumption above a certain volume. 188 The Urban Environment and Industry 11.34 Urbanization in Eritrea remains as yet limited, with the largest city Asmara, having a population of less than 400,000. Nevertheless, the potential for the deterioration in the urban environment with increasing urbanization, is a subject of concem to the Government. While many urban quarters in Eritrea are remarkable for their cleanliness and orderliness, a large proportion of the urban population lives in sub-standard housing with poor access to drinking water and hazardous sanitation systems. Housing shortages prevail with families of 5 or 6 living in a single room with very poor amenities. The return of former fighters and refugees to many urban areas has exacerbated this situation, while in some towns or cities, such as Massawa, much of the housing and basic services have been destroyed by the war. Public bodies have made efforts to provide adequate services for water supply and refuse disposal to the low-income urban areas. But some neighborhoods are inaccessible because of lack of roads. Furthermore, the basic services that do exist have been outstripped by population growth putting a severe strain on the limited resources available for this purpose. Fortunately, problems of industrial pollution have not as yet affected the urban centers to any large extent, even though polluting practices such as the disposal of toxic waste into unregulated dump sites reportedly do occur. For the moment the extent of industrialization and the resultant pollution is too small to have more than a localized effect in limited areas, though this could rapidly change if industrial and commercial activities begin to expand. The main effect of industrial activity in the urban areas at present, is to increase competition for scarce resources such as land, water and energy. 11.35 The issues of housing, water and sanitation are dealt with in more detail in Chapter 10. Of relevance to environmental concerns are the choices that the Government faces in on the one hand pursuing higher economic growth, particularly through expansion of industry, and on the other hand, containing urban growth so as to avoid the kinds of large scale environmental problems that have affected many urban centers of other countries of the region. There are two dimensions to this issue. The first is to do with the spatial distribution of industry and commercial enterprises. Given that the growth of these activities will not only increase demand on already overburdened basic services, but also attract employment and hence increased settlements, the risk of incurring urban environmental degradation as well as the depletion of resources such as water, becomes high. This concern is behind current discussions in the govemment on measures that could be taken to discourage the further growth of larger urban centers such as Asmara while encouraging industrial growth in smaller urban towns that can more easily absorb an expanded population. One proposal is to require new industries be located not less than 40 km from Asmara, a move that would be designed to prevent excessive demands being placed on Asmara's limited urban services, but which would threaten to act as a disincentive to new investments in the country. 11.36 There are less draconian measures that might be considered in dealing with this issue. One option would be to recognize the role that well planned infrastructure development can play in ensuring environmentally sound economic growth and urban development, and the potential contribution that economic growth in turn can make to generating resources for new investments in and maintenance of infrastructure and urban services. Rather than adopting blanket restrictions on all new ventures in the vicinity of Asmara, the govermment could try instead to plan for systematic urban expansion by placing priority on the creation of necessary infrastructure and services, together with appropriate maintenance systems, and contain any potential adverse environmental effects of industrial expansion by indirect means such as promulgating and 189 enforcing environmental legislation, ensuring the appropriate pricing of scarce resources such as water and electricity, strengthening urban planning and providing tax breaks or other incentives to encourage a voluntary relocation of industry to peripheral areas. 11.37 The second dimension is that of curtailing pollution in the future. Here the Government will face familiar problems of balancing concerns for environmental protection with the need to keep costs low and Eritrea competitive so that it can operate effectively both at home and in the export market. Again some form of market-based incentives or tax breaks may be appropriate in order to encourage the adoption of pollution preventing technologies as well as pre-treatment and treatment systems by private entrepreneurs. In some countries, governments have done this by providing subsidies to companies to directly finance pollution control equipment or by using environmental protection funds to finance investments (see Box 11.1). Much progress has been made in developing systems that may not necessarily incur high additional costs to the producer and it may be in the interests of the Government to be informed of the possibilities. Although industrial growth will be undertaken primarily by the private sector, the Government or a body such as the Chamber of Commerce can play an important supportive role in terms of information, advice and advocacy. Comprehensive legislation dealing with pollution control and industry will also need to be formulated as a framework and back-up for market-based interventions, and the capacity established to enforce such legislation. Marine Resources and Coastal Zone Management 11.38 The Red Sea and associated coast and islands are seen as important areas of potential development for Eritrea in terms of fisheries, industrial activity, tourism and port access. Already there are substantial fishing activities in Eritrean waters while the sea also serves as a major shipping waterway for oil tankers and other such vessels. Knowledge of the natural resources in the coastal zone is limited at present to some qualitative data, but the evidence suggests abundant stocks of fish and other forms of marine life. Indeed Eritrea possesses amongst the most pristine marine habitats in the world today, with a wide variety of rare endemic species. This richness in biodiversity derives in part from the unique physiography of the Red Sea which is characterized by shallow, enclosed and highly saline waters. However, it is also these characteristics that make the sea particularly vulnerable to contamination by pollutants from oil drilling, industrial waste and shipping effluents since poor ocean currents prevent their rapid dispersal. Already in other areas of the Red Sea there have been substantial losses in biodiversity as a result of sea traffic, oil exploitation and general industrial activity. Tourism has also disturbed the marine ecosystem in some instances. 11.39 A high priority is placed by the Government on ensuring that the development of the coastal areas does not occur at the expense of the existing ecosystem. Indeed the marine environment is viewed as one of Eritrea's major economic assets, with its value lying not only in the present richness of its biodiversity, but also in the potential flow of future income it can generate through the sustained production of high value exports such as lobsters, prawns and other sought after marine and fish products, as well as tourism revenue from people drawn to the area by the uniqueness of the marine life. In pursuing its objectives the Ministry of Marine Resources has already initiated a number of actions including a requirement that environmental impact assessments be undertaken before approval is granted for the construction of hotels, industrial complexes or any other structures along the coast line or within the Dahlak archipelago. In addition, the Ministry of Marine Resources has instigated the formation of the Eritrean Marine 190 Environment Protection Committee composed of representatives from a number of Government departments and ministries including the Department of Tourism, the Department of Industry and the Ports Authority. The main concern of the committee, which meets approximately once a month, is to ensure the integration of environmental considerations into development policies for the coastal areas. A paper is being prepared under the auspices of the committee on coastal zone management for presentation at the forthcoming National Conference on the Environment. 11.40 At present the extent of industrial activity along the coast line is small and thus the amount of pollution is correspondingly very limited. One potential area of concem is the state- owned oil refinery in Asseb where effluents are reportedly dumped untreated into the sea. Expansion of industry around cities such as Asseb and Massawa could, if unregulated, potentially magnify pollution of this kind with serious implications for marine life in these areas. Already, the prospect of large-scale gas and oil exploration off the coast of Massawa raises potential concern. Attention will also need to be paid to the rehabilitation and development of the major ports of Massawa and Asseb in order to ensure that the increase in shipping traffic with a concurrent increase in disposal of wastes from such ships do not have adverse effects on the marine environment. Another area of attention in the long run may also be sewage disposal. While the discharge of sewage into coastal water currently remains negligible, this could eventually become a problem for localized marine environments if the population were to increase as a result of a revival of industry and other commercial activities along the coastal areas. Finally, the prevalence of heavy oil tanker traffic through the Red Sea raises the potential threat of catastrophic oil spills for which national or regional disaster planning would be warranted. 11.41 Recognizing that prevention of pollution will be considerably less costly than reversing environmental degradation, the Government intends to establish a policy and legislative framework for the enforcement of environmental standards and sustainable natural resource exploitation in the coastal areas. At present there is limited legislation available with this regard, and even less capacity for enforcement. The latter highlights the necessity of examining market- based incentives for the adoption of environmentally friendly practices rather than resorting primarily to command and control measures which can be difficult to regulate over large areas such as coastal zones. For example, charging a mandatory fee for off-loading of ship wastes at a port for a mandatory fee regardless of whether a ship disposes of its waste or not, would increase the incentive for ship personnel to make use of such waste disposal facilities rather than simply dumping their wastes directly into the sea. Legislation to prevent over-exploitation of Eritrea's fish and other marine resources will meanwhile need to ensure that the regulatory systems are understood and accepted by fishermen and that marine resource management schemes can be harmonized with fishermen's catching practices (see Box 11.2 for an example of one kind of fishing law implemented in Chile). 11.42 In addition to establishing a legislative and policy framework, the Ministry of Marine Resources is also pressing ahead to strengthen its information base and put into place the basis of long-term optimum resource management. A project proposal for external assistance was recently submitted to the donor community to, amongst other activities, undertake an ecological inventory of the nearshore marine resources, develop habitat maps and a database for Eritrea's marine resources, and assist the government in the delineation of appropriate forms of protected areas for conservation. The Government is also seeking support to undertake a more comprehensive intervention in the marine sector which would include the establishment of a fishery stock assessment and management system for Eritrea's Red Sea fishery, and the creation 191 Box 11.1: REGULATING HAZARDOUS WASTES: AN INNOVATIVE APPROACH IN THAILAND To control hazardous wastes from industrial sources, the Thailand Development Research Institute has proposed the creation of an autonomous Industrial Environment Fund. In line with the "polluter-pays" principle, the fund would be financed from waste charges that would first be estimated for each industry and later verified by environmental auditing. The charge would be set at a level that covers the cost of transport, treatment, and disposal of hazardous wastes and provides a margin for running the program. The proceeds would be used to establish and operate central treatment and disposal facilities for hazardous wastes collected from factories. Factories would deposit with the fund their waste charges for the entire year. Plants that attained lower waste per unit of output, as verified by accredited private environmental auditing firms, would then be eligible for rebates. The operation of the treatment and disposal facilities would be contracted out to private waste management firms through competitive bidding. The main message of this initiative is that pollution control costs can be minimized if the incentives are right. The more efficient an industry's production process, the less waste it generates and the less it pays for waste treatment and disposal. The scheme would thus give industry an incentive to reduce wastes and would encourage the development of business opportunities in hazardous waste management. Source: World Development Report 1992, Development and the Environment of an integrated coastal resources management planning system for the Dahlak archipelago and nearby mainland coastline. Both of these projects, if implemented, would considerably strengthen the Government's capacity to ensure an ecologically sound development of its coastal areas. 11.43 There is also a strong interest on the part of the Ministry in the possibility of being signatories to all the relevant international conventions and policies with respect to the sea and coastal zones, provided that these serve the interests of Eritrea, are relevant for regional or global cooperation and have standards or conditions which Eritrea is able to comply with. There is particular interest in collaborating with other countries bordering the Red Sea to regulate the exploitation of marine resources, protect biodiversity and prevent pollution by shipping vessels or through catastrophic oil spills. An important requirement for the latter will be to develop the capacity to predict dispersal patterns (such as circulation modelling) to respond swiftly and appropriately to potential spills. Biodiversity and Wildlife 11.44 Biodiversity conservation and wildlife have been secondary considerations in Eritrea during the past decades largely as a result of preoccupations with war and survival, as well as a lack of an institutional structure in which these issues could be effectively dealt with. As a result, biodiversity of plant and animal life has suffered irreparable damage. Plant conmnunities have been greatly altered with impoverishment of indigenous species concurrent with an increase 192 Box 11.2: CIHiE'S NEW FISHERY LAW Chile has one of the five largest fishing industries in the world. In 1990 exports of fish and fish products totaled more the US$ 900 million, making the sector second only to mining as a foreign exchange earner. Managing the open-access fisheries has become more difficult as additional investment in the fishing sector has led to over-fishing. The Chilean government has responded with a new law (Ley de Pesca) designed to prevent overexploitation and the collapse of any one fishery by regulating access to the different species being fished. Since any management scheme would imply some restrictions on the fish catch, the law became the subject of public debate. The evolution of the law illustrates some of the constraints on making environmental policy. Three main regulatory systems were considered in designing the new management scheme: global quotas, individual transferable quotas (ITQs), and limits on individual boats and their gear. The final version of the law combines open access (within an overall quota), selected controls on boats, and a licensing scheme that is to be phased in gradually after the third year and is based on a percentage of the total catch. The new law is an improvement over the previous situation of completely open access without restrictions on the catch. It was not possible, however, to implement a strict ITQ system - the preferred approach from the standpoint of both sustainable management and the economic viability of the fishermen. Fishing companies in the north opposed the inclusion of ITQs in the law. They preferred open access within overall quotas, which would allow them to switch their boats from a declining fishery to another area. Many fishermen saw any catch restriction as a zero-sum game in which they stood to lose. The new fishery law is an important step that demonstrates that a compromise solution is frequently better than none. Its implementation will have to be monitored carefully. Chile is receiving assistance from the Nordic countries and the World Bank in strengthening its capacity to monitor and analyze the fishing industry. Source: World Development Report 1992: Development and the Environment in unproductive, exotic weeds. Wildlife has been devastated through loss of habitat and direct hunting pressure. However, marine biodiversity has fared better as already discussed above. The Land Resources and Environment Department of the Ministry of Agriculture currently carries broad responsibility for addressing issues of biodiversity of plant and animal life, including wildlife. However, the department is under-staffed with few resources to initiate any kind of development or monitoring activities. Of the staff available, considerable additional training is required in order to build up subject matter specialists. In addition there is complete lack of data on plant genetic resources and wildlife varieties currently existing in Eritrea. 11.45 Biodiversity conservation in Eritrea is important for the purpose of rehabilitating and retaining the functioning of natural ecological processes, essential as the basis for human life in general and agriculture in particular. It is also required for the maintenance of the genetic base of the country's crop species. Although Eritrea lacks many of the more charismatic animals that 193 would have potential tourist attraction, there could be a possibility of resurgence of certain animal populations such as elephants and deer, both of which have been recently sighted in some areas of the lowlands. The identification and establishment of forestry reserves and protected areas will be an important first step towards ensuring that whatever is left of the original natural gene pool can be maintained for future study and use. A national reconnaissance of remnant habitats and associated communities including an inventory of woodlands and forests and the identification and assessment of wildlife habitats and populations will also be a prerequisite for any future activities to promote biodiversity conservation and wildlife development. Longer-term measures to rehabilitate wildlife, however, would have to be done in close consultation with communities, as many view wildlife primarily as a threat to agricultural production and not as an economic or environmental asset. CROSS-SECTORAL ISSUES: IMPROVING ENVIRONMENT 11.46 In addition to specific sectoral issues that require attention, there are a number of cross- sectoral concerns that will need to be addressed. These play an important complementary role in ensuring that sector specific programs and policy measures can be effectively implemented. Population Growth and Resettlement 11.47 The pressure of population on Eritrea's natural resource base, particularly in the highlands, has been growing steadily since the last century. Although it may have remained relatively static in recent years as the result of civilian and military casualties, emigration and dispersal of families caused by the 30 year war with Ethiopia, the rate of increase can be expected to be high in coming years. The implications for the environment are serious as the existing resource base in most areas is already under stress. This points to the need for a comprehensive population policy as a prerequisite for any kind of action to improve environmental management. In Eritrea the issue is also one of the pattern of population distribution which tends to be concentrated in the low potential highland areas. Vast amounts of potentially fertile land remain uninhabited in the lowlands but the high costs of irrigation, inhospitable weather, diseases, pests and an array of social and cultural factors act as a disincentive to people from the highlands resettling permanently in these areas. Nevertheless there has been a pattern of mobility and seasonal migration by farmers and pastoralists alike to cope with food shortages and drought. This coping mechanism has not only served an economic purpose, but in many cases has helped to retain a balance in resource use. Unfortunately, the war disrupted labor mobility which in some instances led to the intensification of land-use in highland areas with resultant adverse affects on land fertility. Livestock transhumance was also disrupted leading to problems of grazing and an imbalance between the animal population and their natural resource base. 11.48 Since the end of the war, labor has resumed its mobility but other settlement issues are now arising. For instance, the Government aims to induce tens of thousands of returned refugees from Sudan to resettle in the lowlands in order to avoid large numbers of people converging on the main urban centers or putting additional strain on already precarious highland farming communities. It also aims to bring about a voluntary resettlement of people from the highland areas to the lowlands. Creating the conditions and incentives for this to take place will be a complex and costly task requiring careful investigation and further planning. While redistribution of the population in this manner could be one solution to the problems of land shortage and 194 increasing degradation in the highlands, it could potentially incur a different set of environmental problems. For instance, bringing the lowlands under cultivation is likely to have increasing implications for pastoralists who practice transhumance in these areas and may lead to possible conflicts of interest in resource use. While the amount of land available would appear to be plentiful, access to water may be an issue. 11.49 One of the ways in which resettlement is currently being induced is through the granting of concessions for private commercial farms, the purpose of which is also to encourage increased agricultural production particularly of high value crops. With over 100,000 ha currently under review for concessional farming and with the prospect of many more concessions being granted over the coming years, traditional corridors of transhumance can be expected to be further disrupted. The policy of granting concessions is being closely monitored to ensure that land is used in an environmentally sound fashion and not merely 'mined' for short-term gain (see Chapter 5). The establishment of some kind of environmental guidelines or policy for the development of the lowland areas may eventually be appropriate. In this context, the need for active involvement of pastoralists in decisions about agricultural development and resettlement in the lowlands will be important as it can serve to reduce conflict and allow the development of agricultural areas that are spatially compatible with the maintenance of transhumance corridors that meet pastoralists' needs. Institutional Capacity 11.50 Administrative Structure. One reason for current environmental problems has been the absence for many years of an overall institutional framework to devise, support and monitor environmental policies, legislation and programs in a coordinated and comprehensive manner. Although concern for dealing with environmental issues in the Government is now very high, there is not yet a clear institutional or policy framework under which environmental issues are being dealt with. A National Conference on the Environment is scheduled to take place during the first half of 1994 which will have the overall objective of bringing together representatives from various government ministries to formulate a preliminary action plan to deal with environmental issues. One function of the Conference will be to serve as a forum for deciding on future institutional arrangements for managing environmental issues. A number of individual ministries have a strong interest and involvement in the environment, most notably, the Ministry of Agriculture, the Ministry of Marine Resources, and the Ministry of Mines, Energy and Water. At present each Ministry is pursuing its own priorities with regard to environmental issues although initiatives have been taken at the Ministerial level to ensure cooperation on a number of overlapping concerns, e.g., the joint committee on Water Resources Development between the Ministry of Agriculture and the Department of Water of MEMW mentioned above, and the Eritrean Marine Environment Protection Committee headed up by the Ministry of Marine Resources. 11.51 It will be important for Eritrea to establish a mechanism as soon as possible that would allow for a coordinated approach to environmental issues across different sectors and ministries, ensure that sector policies and programs can be systematically reviewed for their potential environmental impact, and create a predictable, enabling framework for sustainable economic growth. This would become particularly important as Eritrea develops and increasing pressure is placed on its resource base from many competing claims. The institutional structure that will be suitable for Eritrea will depend on its unique situation - its existing administrative structure, 195 its political and cultural legacy and, above all, the availability of human and financial resources. It will be important to identify an entity that can operate independently of sectoral interests, can support and reinforce individual line ministry activities on environmental issues, and at the same time have sufficient authority to oversee and enforce environmental policy across the board (see Box 11.3). Given present limited resources and technical capacity, it may be appropriate for the Government to focus its efforts on putting in place an institutional framework that would allow it to establish a facilitating environment for individual and community action rather than undertaking direct interventions of its own. 11.52 Iegislative Framework. Overall legislation relating to the environment does not currently exist in Eritrea. However it is recognized that a sound legislative framework will be necessary for the purpose of delineating and formalizing institutional responsibilities for the environment, for providing a basis for resolving potential conflicts in resource use, and for enabling environmental protection objectives to be pursued within different sectors. Most of the legislation regarding individual sectors, and under which Eritrea has operated in the past, pertains to the colonial era or to the Ethiopian Government. As such it is under review and in most cases requires extensive revision to reflect changes in the political situation and economic policies and priorities of the Government. 11.53 Skills Development. The effectiveness of the institutional structure and legislative framework will depend in large part on the availability of adequate skills to oversee and implement environmental policies and programs. The number of qualified technical specialists in the Government remain limited and of these, very few have had exposure to specific environmental issues. Specialized training will be needed in a wide range of areas including planning and monitoring of water resources, toxic and hazardous waste management, agroforestry, ecology etc. Also important will be to expose those responsible for macroeconomic policy and overall planning and budgeting, to environmental economics so that a capacity exists to analyze the implications of various macroeconomic measures on natural resources utilization and on the environment in general. In-country capacity for carrying out Environmental Impact Assessments (EIA) will also need to be developed to ensure that both public and private sector projects are fully screened for their possible environmental effects. Also important will be to build up capacity within ministries for sectoral analysis and policy formulation that takes environmental considerations into account. 11.54 Community Participation. Participation of communities in environmental resource management will need to be an important part of the process of strengthening institutional capacity. Empowering communities to set priorities and make decisions on the management of land, water, forests and other natural resources will greatly increase the likelihood of sound and sustainable utilization of these resources since communities are often the best judge of how to resolve conflicts and in what manner environmental objectives can be achieved whilst also enhancing production. The baito system that prevails throughout most of Eritrea provides an excellent vehicle for decentralizing responsibility to the community level. The effectiveness of this approach is already evident in the current policy of engaging communities in the selection of sites for short-term closure and for enforcing such enclosures. The Government, however, needs to be in a position to respond to community preferences and to support communities so that they can have access to the information and technology necessary to make sound decision and 196 Box 11.3: BUILDING AN ADMINISTRATIVE STRUCTURE Institution building is a long-term business. It depends on local conditions, political factors, and the availability of manpower and money. Frequently it is easiest to build on existing institutions. In practice, the structure of environmental administration matters much less than the ability to get the job done. Governments need the capacity to set priorities, coordinate and resolve conflicts, and regulate and enforce. Countries will allocate these roles differently; for instance, coordination and conflict resolution might be undertaken by an independent executive agency, by an interdepartmental committee, or by a small, politically and technically astute group in the office of the president. The key is clearly statutory powers combined with the authority to resolve intragovernmental disputes and the ability to provide continuity when administrations change. Institutional arrangements that have been found to be helpful include: - a formal high-level agency that can provide advice on policy and monitor implementation. Examples are IBAMA in Brazil, the Federal Environmental Protection Agency (FEPA) in Nigeria, and the State Environmental Protection Commission in China. - enviromnental units in the principal line ministries that can provide the central unit with technical expertise and monitor those environmental policies that the ministries are responsible for implementing. Oversight, from a public health perspective, of general enviromnental quality (especially air and water) is frequently carried out by the Ministry of Health, and the management and conservation of natural resources may be spread among government units responsible for agriculture, forestry, fisheries, and parks and wildlife. - regional and local environmental units that allow local implementation and monitoring and monitoring and feed information back to the national government. Source: Adapted from the World Development Report 1992: Development and the Enviroment take appropriate actions to manage their resources effectively. This may require a reorientation of Government institutions so that they can adopt primarily a facilitating as opposed to an implementation function. Environmental Policy 11.55 In order to provide overall direction to the Government's efforts in the area of environment, there is a need for a comprehensive environment policy, strategy and action plan. The Government has already initiated action to this end by requesting individual ministries to prepare papers for the National Conference on Environment identifying specific environmental problems or issues affecting their respective sectors including information gaps on natural resources availability and utilization, shortcomings in technical know-how, requirements for more in-depth analysis of problems and other areas requiring further support. Out of the Conference, 197 a preliminary plan of action would be formulated which would identify immediate actions required to address the most serious environmental problems affecting the country, together with additional studies that would be needed to enhance the information/database on the environment. Discussions are also to be held on what steps should be taken to formulate a comprehensive and far-reaching National Environmental Policy and Action Plan. Such a plan will be necessary to provide a formal framework under which priorities can be analyzed and linkages established between different sectors. It would also enable the government to identify investment and technical assistance needs for specific sub-sectors. It will be important to engage the public as far as possible in the formulation of such a plan so as to facilitate its acceptance and eventual implementation nationwide (see Box 11.4 for an example of an approach adopted in Burkina Faso). 11.56 The drawing up and implementation of a National Environmental Policy and Action Plan will enable the government to obtain an overview of the main environmental issues in the country and integrate them with the country's overall development strategy under an overall policy framework. This will be an important step in facilitating the Government's understanding of the implications of different growth strategies on the environment. Particularly important will be to understand and monitor the impact of economic polices designed to accelerate economic growth on the utilization of the natural resource base and on the environment generally. Also important will be to understand and harmonize cross-sectoral impacts on the environment including those arising from specific policy or strategy recommendations. In this respect the availability of an overall environmental policy framework can be a useful vehicle for providing guidance and direction to sector ministries so as to enable them to incorporate environmental concerns into sector policy statements. Information Base 11.57 There is a dearth of geographical information or other data relating to the state of the environment in Eritrea and no coherent system has yet been established to collect, store and analyze information that could help in environmental and development planning. The war, coupled with lack of support and resources from the Ethiopian Government, prevented the systematic collection of data in the past. With the advent of independence, the first steps towards establishing a better information base have been taken with the creation of a National Statistics Office and with individual ministries such as the Ministry of Agriculture setting up preliminary databases. This has resulted in the assembling of a limited amount of information relating to the environment. However, all of the Government institutions suffer from a serious lack of information skills, equipment and financial resources to collect the necessary data, with the result that much of the information available is incomplete or unreliable. 11.58 The lack of reliable data makes it extremely difficult for the government to accurately assess the actual extent of environmental degradation or to quantify its effects in physical or economic terms. This in turn affects the ability of government staff to analyze relationships between environmental, economic and social factors and the implications of different policy choices on natural resources utilization. Together with a general lack of skills in economic and environmental analysis and planning, it also makes it difficult to integrate environmental considerations into macroeconomic and sectoral planning, and to establish clear priorities between different issues of environmental concern. 198 Box 11.4: SETrING PRIORYYIES IN BURKINA FASO Improved environmental management requires a commitment from both the government and the wider public. The recent experience of Burkina Faso in developing a national environment action plan illustrates how the process itself can be an essential component in creating awareness and building the political will needed for action. When Burkina Faso began to develop its plan, the process was based on a series of previous national meetings synthesized by local consultants in commissioned reports. These resulted in the identification of several key program areas: developing environmental management capability at all levels, improving living conditions in rural and urban environmnents, focusing on environmental management at the village ("micro") level, addressing key national ("macro") resource issues, and, in support of all these, managing information on the environment. With the aid of funding from a number of bilateral and multilateral organizations, including the World Bank, the entire process took about three years and cost about US$450,000. A national seminar was held to debate the draft plan and to set priorities in preparation for approval by the Cabinet. The main lesson from Burkina Faso is that by working with the government and local participants, it was possible to develop a plan that incorporates the work of those who will have to implement it. Although it might have been quicker and cheaper to produce the plan using international consultants, the plan would not have been a Burkinabe' product and would probably have joined other "external" products on a bookshelf instead of resulting in action. Source: World Development Repon 1992: Development and the Environment 11.59 In order to enable the Government to manage environmental issues more effectively, it will need to strengthen its capacity to collect, store and analyze environmental information. Various initiatives are in the pipeline to assist the Eritrean Government to this end most notably EEC support for the undertaking of an 'Environmental Master Plan' including satellite imagery and remote sensing analysis. 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INTERNATIONAL BOUNDARIES Rl y X ~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~< 0 50 150 ISO M GA -DOETERS 7fj ~~~~~~~~~~~~TohdA_ Aigot i)DNE .. 30 l ADAAI s_ 37- ~ ~~~ ~ ~ ~~ ~ ~ ~~ ~~~ ~ ~ ~~~~~~~~~ ~ ~~~~~~~~~ ~~~~~~~~~~~~~~~ ... 4.. 30. - Apl .DJIOUT W.4fl4 G.o. dAR~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~NVME H..b A (.1 30 I' REP. OF ETHIOPIA~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~KL.TR T K. 3:~~~~~~~~~~~~~~~Toe,. " NA T.0Ad Ab- T. DdiBOUKE 3's. SAUDI ARABI EMA E 199