DOCUMENT OF INTERNATIONAL DEVELOPMENT ASSOCIATION

Not For Public Use

Report No. P-1351a-YAR

REPORT AND RECOMMENDATION

OF THE

PRESIDENT

TO THE

EXECUTIVE DIRECTORS

ON A

PROPOSED CREDIT

TO THE

YEMEN ARAB REPUBLIC

FOR A

INDUSTRIAL ESTATE PROJECT

January 17, 1974

This report was prepared for official use only by the Bank Group. It may not be published,quoted or cited without Bank Group authorization. The Bank Group does not accept

responsibility for the accuracy or completeness of the report.

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CJRRENCY EQUIVALENT

Currency Unit Yerlen Rtal-

US$ 1 YR 4.50

YR 1 - US$ 0.22

YR 1,000 - US$ 222

YR 1,000,000 US$ 222,200

Fiscal Year: July 1 to June 30

1/ o pa)r vniL"e has bc.. cuu:.lliea-ii i-o tche± I'. ToW:3ver the

Yemen Aral, Republl.r a :.ed in 19702 to a provI.Sional rate of

US$ 1 YR 5. Miost f:rce Ma,t t2:allsactiona took place at

t.hat rate duc.lrig 1972. Yollovwli.m. the devaluation of the dol-

lar , the rial appreciated to a rate of US$ 1.00 = TR L.50

in February 1973.

INTERNATIONAL D)EVELOPNENT ASSOCIATION

REPORT AND RECOfMENDATION OF TilE PRESIDENTTO THE EXECUTIVE DIRECTORS ON A

PROPOSElD CREDIT TO TlE YNEMEl ARAJB RE.PUBLICFOP AN INDUSTPIAL ESTATE Pi`OJECT

1. I submit the following report and recommendation on a proposeddevelopment credit to the Yemen Arab Republic for the equivalent of US$2.3million on standard IDA terms to help finance an industrial estate project.A portion of the credit ($0.8 million) would be relent to the IndustrialEstate Development Authority for 25 years, including 6 years of grace,with interest of 9 percent ner annum. A second portion ($0.6 million) wouldbe relent to the Yemen Bank for Reconstruction and Development at not lessthan 7 percent per annum for an average term of 7 years.

PART I - ThE ECONOMY

2. A report entitled "Economic Development in the Yemen Arab Republic"(98a-YAR), dated June 18, 1973, and based on the findings of an economic mis-sion which visited the Yemen Arab Republic in September/October 1972, wasdistributed to the Executive Directors on June 28, 1973 (R73-161). A countrydata sheet is attached as Annex I.

3. The present Yemen Arab Republic was established in 1962, replacingthe ruling Iman and his oligarchy, under whom Yemen had remained almost com-pletely isolated from the rest of the world. Lack of internal transport andcommunications facilities has contributed to the continuing isolation of manyparts of the country. Since 1962, Yemen has witnessed a long civil war (1962-1970), frontier clashes with the People's Democratic Republic of Yemen, drought,and subsequent famine in certain areas (1969 and 1970).

4. Political integration has been hindered by tribal differences. Theend of the civil war left the tribal sheikhis in a stronger and more independ-ent position than before. This fragmentation of power, combined with the ab-sence of institutions and of trained cadres at the central government level,has greatly hindered the government's ability to formulate national economicobjectives, tax adequately and otherwise direct the economy, and carry out aprogram of economic development.

5. Despite these problems, coalition governments have made considerableprogress since early 1970 in introducing basic elements of modern government.Within the past two years, Yemen has elected its first national legislature,established a central bank, organized a national planning and statisticalagency and a public works authority, and improved its revenue performance.The Government produced its first budget in 1973. Four commercial banks be-gan operation in 1971-72 (bringing the total number to five), and the Govern-ment has been successful in soliciting increased external assistance from

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Eastern, Western, and Arab sources. In November 1972, an agreement was signedat Tripoli between the governments of the two Yemens; this agreement aims ata merger between the states and improved the prospect that greater attentioncan now be given to the task of economic development.

6. Yemen is among the least developed countries in the world. Over90 percent of its estimated 5-6 million people are engaged in agriculture.Although there are still only a few hundred thousands living in cities andlarge towns, a pattern of urban migration is beginning to develop. Yemen'scities still lack most public services. Neither Yemen's capital city, Sana'a,or port city, Hodeida, has municipal water supply systems, and electric powersupply is unreliable. In other forms of infrastructure, considerable pro-

gress has been made in building a national road network and other transportfacilities over the last decade, and development of the primary highwaysshould be completed by 1974. However, Yemen remains extremely underdeveloped

in virtuallv every other form of economic and social infrastructure, and inmost forms of institutional and administrative capacity. The most basic con-

straints to development and the country's ability to absorb aid are the lackof skills (technical, entrepreneurial and managerial), the lack of institu-tions, and the meager quantity and quality of the country's resource base

and the information concerning it.

7. Land and water are both very scarce in Yemen, yet agriculture ac-counts for perhaps three-fourths of GDP. Farmers are industrious, and landand water resources are carefully husbanded, with well-planned terracing and

irrigation work. Cereals for local consumption are the principal crops, while

very modest amounts of cash crops are exported; rock salt comprises the onlysignificant non-agricultural export. These exports have long been stagnant,and there seems little prospect for much growth in the near future. Food

imports, on the other hand, increased rapidly in recent years. Improved

rainfall in the past two years has narrowed the food gap in the countryside,but the trade deficit in food products has contintied to mount.

8. Yemen's known non-agricultural resources are very limited. Unlikemost countries of the Arabian peninsula, Yemen has no known oil resources.No basic resource survey has been made, and except for rock salt, no minerals

are known to exist in commercial quantities.

9. Until a few years ago, industry was virtually non-existent. Recent-ly a number of factories have been built in the main cities, the larger onesmostly with foreign aid. There appear to be good prospects for industrial

expansion especially in agricultural processing and in light manufacturing

for construction and domestic consumption.

10. The overall economic situation has improved substantially since

about mid-1970, due to the end of the civil war, a substantial inflow ofcapital and entrepreneurs from the People's Democratic Republic of Yemen,improved rainfall, and large injections of foreign aid in support of both

current and capital expenditures. Production in the countryside rose subs-

tantially in 1971 and 1972 (mainlv due to better weather), and there has been

a boom in construction and consumption in Yemen's cities. Urban growth has

been supported bv large private remittances from Yemenis working abroad (over

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$90 million in 1972), by inflows of private capital and higher public expend-itures. The large inflows of both public and private capital and transfersin 1972 contributed to the accumulation of cash balances by the governmentand to a stabilization of the free exchange rate of the Yemeni rial. However,the rising foreign assets and expanding credit to the private sector contri-buted to continuing inflationary pressures.

11. Yemen's recent fiscal performance has been mixed. Current revenueshave more than doubled in the past two years, despite fundamental social andpolitical constraints on tax capacity. Nevertheless, the current budgetarydeficit continued to widen as current expenditures increased even more.Budgetary support (largelv from Saudi Arabia) was equivalent to almost 30 per-cent of total current expenditures in FY72, while development expenditures con-tinued to be financed almost entirely from foreign aid. Foreign project andcommoditv aid commitments in FY71 and FY72 averaged almost US$20 million an-nually. Yemen's budgetary and balance of payments' position is extremelyvulnerable, and greater control needs to be exercised on the growth of currentexpenditures. The growing prosperity of the urban sector will remain largelydependent on remittances and capital inflows from abroad until developmentefforts begin to improve productivity, establish a stronger industrial sectorand create an economic surplus in the rural sector.

Reserves and External Debt

12. Yemen's foreign exchange reserves increased by USS10 million in1970, by US$17 million in 1971, and by US$25 million in 1972. These increasesbrought the gross foreign assets of the Central Bank to over $100 million asof June 30, 1973. Of this amount, only US$46 million represented free re-serves, the balance being in blocked accounts with the Central Bank of Egypt.Free reserves were equivalent to slightly more than 5 months of imports atcurrent levels.

13. The external public debt outstanding on May 31, 1973 was estimatedat US8303 million, of which US$134 million was undisbursed. The major cred-itors were: Russia, The People's Republic of China, the Federal Republic ofGermany, and Egypt, Saudi Arabia and more recently, the Association. TheUSSR, China, and Fgypt have provided interest-free loans. German and Kuwaitiloans have been at an interest rate between 1 to 2-1/2 percent per year;other lenders have charged 4-6 percent per annum. The debt service for1972/73, prior to a rescheduling exercise described below, was estimatedat US$10 million, equivalent to 12 percent of estimated exports of goodsand services including remittances in 1972. In relation to recorded exportsof goods and services, the ratio would be about 25 percent.

14. In early 1972, the People's Republic of China agreed to postponedebt service on its loans until 1981, and a similar agreement was reachedshortly thereafter with the USSR. As a result, the Government estimatesthat actual repayment obligations for 1973 is less than $1 million. Althoughthe rescheduling has provided substantialrelief and most of Yemen's otherdebt was contracted on quite soft terms, debt servicing obligations will soonconstitute a relatively heavv burden. Information is not yet complete on theterms of the outstanding loans. However, the available data indicate a sharply

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rising trend in debt servicing obligations by about 1975/76. Yemen has

very limited debt service capacity. As a least-developed country with an

already high debt burden, but with improving economic performance and an

enhanced prioritv for development objectives, Yemen has a strong case for

obtaining assistance in as concessionary a form as possible.

PART II - BANE GROUP OPERATIONS IN YENEN

15. To date the Bank Group has had three lending operations in Yemen.

Annex II contains a summary statement of IDA credits and Bank grants and notes

on the execution of on-going projects, as of December 31, 1973. In 1971, the

Bank made a grant of US$200,000 to help finance jointly with the Kuwait Fund

for Arab Economic Development a team of planning and economic advisors. The

team, currently composed of five members, has helped create the Central Plan-

ning Organization (CPO) which is responsible for designing and carrying out

Yemen's economic development plans. The CPO is perhaps the most active and

best organized and staffed organization in the Government. It is drafting

a national development strategy and mid-term investment program, helping to

channel external aid, advising on general economic policv and identifying

and preparing investment projects. The Executive Directors approved, on

September 11, 1973, a second Bank grant of US$200,000 to make possible the

continuation and expansion of the planning team services. The Bank is also

helping to build a strong Ministry of Agriculture through the provision of

four advisors, financed by the UNDP with the B4nk as Executing Agency. The

Chief of Mission arrived in Yemen in October 1973.

16. The major focus of Bank Group activity has been to develop the es-

sential prerequisites for development: the basic institutions, skills and

physical infrastructure, and to begin lending in the dominant productive

sector--agriculture. In June 1972, IDA extended a Credit of US$7.7 million

equivalent for a Highway Project. The project has helped create a national

Hlighway Authority, provided equipment for road maintenance and feeder road

construction, and financed feasibility studies and detailed designs of import-

ant highwav links. An important secondarv road from Taiz to Turba will also

be constructed under the project. Although the project was the first IDA

Credit to Yemen, the Government has carried out its responsibilities quickly

and efficientlv.

17. In Hlay 1973, the Association made a IJS$10.9 million Credit for the

Tihama Agricultural Development Project which will help finance: the devel-

opment of surface and groundwater irrigation works at Wadi Zabid in the

Tihama (coastal) region, the introduction of a Tihama Development Authority

and institutions for agricultural credit, extension and research, training

and a major soils and groundwater survey of the Wadi Mawr region. The proj-

ect is proceeding satisfactorily. The Kuwait Fund is financing US$6.0 mil-

lion of project costs. An US$11.0 million Credit for an Education Project

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was approved in July 1973. The project is an integrated program of assis-tance with the UNDP (UNESCO, FAO, ILO), Federal Republic of Germany andUnited Arab Emirates, and will help meet the most immediate needs of theeducational system. It will concentrate on improving and expanding teachertraining and secondary school education and establish the country's firstvocational and agricultural training institutions and non-formal basic edu-cation centers.

18. Future Bank Group activity will concentrate on reinforcing theinstitutional progress made in the essential sectors of transportation, agri-culture and public utilities; and continuing to help devise an appropriatedevelopment strategy and investment program including special project iden-tification and preparation work. This strategy recognizes that Yemen isamong the poorest of the 25 least-developed countries, requiring specialassistance and justifying IDA financing of a high percentage of projectcosts, including local costs.

19. One further project is being submitted to the Executive Directorsduring FY1974 -- the Sana'a Water Supply Project. Project preparation activi-ty is advanced for future projects in highways, Hodeida water supply, andagricultural development in the southern highlands region.

20. The Bank Group has become among the most important sources of as-sistance to Yemen. Although the Bank Group's share in total external debtis still less than 10 percent, IDA projects currently represent about halfof total new aid commitments. One of the major objectives of IDA lending isto stimulate the flow of bilateral and regional organization assistance to

Yemen, and IDA's proportion of total borrowing is likely to decrease afterFY74.

PART III - THE INDUSTRIAL SECTOR

21. UIntil 1962, Yemen had no industrial sector. There were only trad-itional handicraft activities that served a very limited local market, suchas weaving of textiles on handlooms, leather work and production of tobaccopowder. Ilowever, since the late 1960's when the civil war drew to a close,industrial and commercial activity has developed rapidly. The number of newenterprises established each year has increased from 89 in 1968, to 170 in1970, 201 in 1972, and 184 in the first half of 1973 alone. All indicationsare that this upward trend is continuing and strengthening. A number ofrelatively large public sector industries have been established, with ex-ternal aid, for textiles, cement, and food processing.

22. The most significant growth has been in the private sector. Therapid expansion in the establishment of enterprises has been generated bya commercially aware group of entrepreneurs, who are seeking investment op-portunities particularlv in small-scale manufacturing industry. Yemen con-tinues to be a refuge for capital and entrepreneurial talent from Aden.

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Since the end of the civil war, some of the estimated one million Yemenis

living abroad have also returned to Yemen. This growing pool of skills is

paralleled by an increase in capital available for investment. Emigrant

remittances have more than doubled since 1970 (to about US$90 million in 1972)

and commercial bank advances have tripled. A recent survey has confirmed a

strong interest by entrepreneurs in small-scale industrial investment.

23. Desoite its recent expansion, Yemen's industrial sector is still

very small. It employs only about one-half of one percent of the labor force,

and its value added was perhaps 2 percent of CDP in 1971. There were about

250 manufacturing enterprises with more than four workers at the end of 1971,

in a limited number of fields: Mi) construction materials, fixtures, and

furniture (54 percent); (ii) food, beverages, and tobacco (37 percent); (iii)

textiles (7 percent); (iv) other (2 percent). Average employment per enter-

prise was 12 workers, if the large, Government-owned textile mill at Sana'a

(1,43S workers) is excluded. About 75 percent of all enterprises had less

than 10 workers. However, two of the more significant developments of the

past two years have been the increase in the average size of new enterprises

and the more sophisticated products produced.

24. The Government has had no clearly defined industrial s%:rategy.

It has proceeded on an ad hoc basis, establishing a few relatively large,

foreign-aid financed public enterprises and providing rather generous incen-

tives to (foreign and domestic) private investors.

25. In 1970, the Government issued an investment law that provides cer-

tain incentives to private investors of foreign and national capital. It of-

fers a measure of protection to new industries with import duties ranging up

to about 30% ad valorem, but recognizes that it lacks the administrative ma-

chinery to enforce a full protectionist policy. Nevertheless, this level of

customs duty appears to provide adequate protection to the limted number of

enterprises to which it has been granted. The Government also recognizes

the long-term disadvantages of excessive protection. For Yemen, an investment

law is not enough to induce private investment in industry. There are other

impediments, such as the lack or inefficiency of public institutions that

can provide effective technical and financial assistance, and the almost

total absence of sites that have the infrastructure required for industrial

settlement. The Government is making efforts to strengthen its institutions,

provide technical assistance to entrepreneurs and develop appropriate sites

for small scale industry. The proposed project would be the major vehicle

for this promotional effort.

26. The Ministry of Economy is responsible for industry and commerce,

and implements the Government's industrial development policy through its

Department for Industry. The Government hopes to strengthen the Ministry

through the establishment of an Industrial Promotion and Advisory Unit (IPAU).

It will be staffed with two expatriates, one economist and one engineer, whom

the Government has requested from UNDP and who are expected to be appointed

by earlv 1974. In addition, the Government plans to set up a new organiza-tion, the Industrial Estate Development Authority (IEDA) that would build andmanage the industrial estate at Sana'a and any future estate which might bebuilt, and provide technical assistance to the estate tenants (includingpotential tenants) in the establishment and running of their enterprises.

Availabilitv of Finance

27. Long-term finance for private industrial investment has not beenavailable from Yemen's banks, which have traditionally made only short-termadvances for trade and construction. Private investors have used suppliers'credits to finance their imported machinery. However, the liquidity of Yemen'sbanks is now quite high, and the proposed project will help tap this liquiditythrough the creation of a long-term credit facility available to entrepreneurson the estate. The proposed credit facility will be established within themajority Government-owned Yemen Bank for Reconstruction and Development (YBRD).In addition, Yemen's entrepreneurs possess a pool of capital which will alsobe tapped by the proposed project. A survey conducted during preparation ofthe project confirmed that individual merchants and trading companies werewilling to invest YR 100,000 to YR 500,000 ($22,000 to $110,000) in small-scale industrial ventures.

Potential for Industrv

28. Yemen has a large balance of trade deficit. In 1972, imports wereseventeen times larger than exports (TTS$118 million versus US$7 million),resulting in a balance of trade deficit of US$111 million or about 25 per-cent of Yemen's GNP. Yemen's large trade deficit indicates that there shouldbe a number of opportunities for domestic manufacturing through import sub-stitution, in such areas as foodstuffs, consumer goods and building materials.Yemen's export potential, on the other hand, should continue to be very limited,except perhaps in a few agricultural products like cotton, coffee and hidesand skins which could be exported in partly processed form.

PART IV - TIUE PROJECT

29. The proposed industrial estate project is a pilot project designedto help stimulate investment in modern small-scale industry and provide amodel and pattern for future industrial development. A credit and projectsummary is attached as Annex III together with a map showing the locationof the proposed industrial estate. A report entitled "Yemen Arab Republic -Appraisal of the Industrial Estate Project" (284a-YAR) dated January 4, 1974is being distributed to the Executive Directors separately.

30. The project is based on a report by a UNIDO small-scale industryacdvisor to Yemen, which was revised and updated in late 1972 by UNIDO. Theproject was appraised in March/April 1973. Negotiations were held in Decem-ber 1973. The Yemen delegation was headed by Dr. Abdul Karim El-Eryani,Chairman of the Central Planning Organization.

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31. The proposed project would provide:

(i) an industrial estate of about 32,500 m2 (with provisions

for later expansion to 130,000 m2) in the outskirts of

Sana'a which will provide for the leasing of standard

factory buildings and industrial sites for individual

occupancy;

(ii) technical assistance to potential and actual occupants of

the estate, for the preparation of feasibility studies,

obtaining finance, selection of equipment suppliers, erec-

tion and start up of machinery and equipment and day-to-day

operation of enterprises; and

(iii) long-term credit facilities to entrepreneurs on the indus-

trial estate for the import of machinery and equipment.

Organization and M4anagement

32. The estate will be built and administered by an Industrial Estate

Development Authority (IEDA) which will also provide the technical assistance

to entrepreneurs. IEDA will be an autonomous Government body under the gen-

eral supervision of the Ministry of Economy. A Board of Directors will super-

vise IEDA's administration and formulate its policies. The Minister of Eco-

nomy will be the Chairman of the Board and the Director General of IEDA will

be responsible for implementing Board decisions. Legislation establishing

IEDA was enacted in December 1973.

33. The Government will appoint a qualified Yemeni Director General

and industrial engineer of IEDA who would be responsible for providing tech-

nical assistance to entrepreneurs. They would receive guidance and on-the-job

training from two foreign experts. Appointment of the advisor to the Director

General is a condition of effectiveness of the Credit. In addition to on-the-

job training, the Director General and industrial engineer would receive about

six months training each outside Yemen.

The Industrial Estate

34. A site of 13 ha. (130,000 m ) in the outskirts of Sana'a alongside

the asphalted highway from Hodeida has been selected for the estate. The

Government has compensated property owners with Government land nearby and

now holds the entire site for the industrial estate free of all claims.

35. Initially only about one-quarter of the estate will be developed.

Seven standard factory buildings will be constructed, to serve about 20

enterprises by 1979. Although the estate will be made as attractive as pos-

sible through its technical and financial services, provision of infrastructure,

etc., and favorable rental policy, it is difficult to assess how many enter-

prises will wish to settle on the estate at the beginning. Some entrepreneurs

mav prefer the anonymity of the bazaar, and may not perceive the advantages of

-9-

the estate immediatelv. Developing the estate in self-contained phases notonly minimizes the Government's financial exposure, but offers the flexibil-ity to accelerate or slow the development of the balance of the estate, inlight of actual demand.

36. The estate will purchase power from the Sana'a Electricity Companyat a bulk rate and sell it with a small margin to estate tenants. By late1975, it will also be served by the public water supply system for Sana'a tobe constrlcted with the help of the Association in a water supply projectscheduled for Board consideration at the same time as the proposed project.A public sewage disposal system is not likely to be built in Sana'a for sometime, and the estate will construct its own.

37. IEDA will help entrepreneurs select and evaluate industrial projectsfor the estate. In determining the enterprises which will be eligible forthe estate, IEDA will emphasize the economic and social impact of the enter-prise, and determine the most appropriate technology to be used.

38. IEDA will have its administrative building on the site. It willalso set up a central repair shop in part of one of the standard factory

buildings for its own requirements but, against payments, its repair serviceswill also be available to the tenants of the estate and, to the extent possi-

ble, to outside enterprises.

39. IEDA will receive income from (i) rent for space inside standardfactory buildings; (ii) rent for industrial sites let to entrepreneurs whoset up their own buildings; (iii) the services of IEDA's central repair shopto estate tenants and possibly outsiders; (iv) margins earned through bulkpurchase of power and water and resale to estate tenants. The rents wouldbe sufficiently attractive to stimulate interest in the estate. Flexibilitywill be needed in setting a rental policy. Initially, the rents will befixed at a level that permits IEDA to earn a minimum acceptable return ontotal investment.

40. The financial rate of return to the IEDA is expected to be about8.3 percent if the cost of technical assistance is excluded, and 6.5 percentif the technical assistance is included. The relatively low rate of returnis due to the modest assumptions about the rate of occupancy and rental feesduring the initial years of the estate. If the estate project is consideredas a whole -- i.e., if Phases II and III are implemented -- the rate of return

would be 13 percent and 12 percent respectively.

Credit Facility

41. A credit facility of US$1.2 million will be established withinthe Yemen Bank for Reconstruction and Development (YBRD) to be financed in

equal shares by YBRD and IDA. A banking expert will be provided under theproject to work with YBRD in the establishment and operation of the creditfacility. The facility will finance up to 80 percent of the foreign exchangecost of imported equipment for enterprises on the estate which are expected

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to average about $80,000 per enterprise. Following the preparation of feasi-

bility studies for individual projects prepared by the entrepreneurs with

the assistance of IEDA, the YBRD will analyze the appropriateness of the

proposed financial plan and the ability of the investor to provide the stipu-

lated equity, as well as his general creditworthiness, and the suitability

of the securitys offered. The Government and YBRD will share the risk of

loan recovery. The YBRD has had no experience in long-term lending. It's

current lending volume is composed entirely of short-term advances for trade

and construction which have carried limited risk. The Government wishes to

introduce long-term lending in YBRD and provide variable experience, awithout

exposing YBRD unduely to the higher risks associated with such lending. Con-

sequently the Government has agreed to guarantee 75% of each loan made from

the credit facility. The 25% of the risk borne by the YBRD should ensure

proDer credit evaluation and debt collection efforts. The Government intends

to have YBRD assume an increasingly larger share of the risk in subsequent

phases of the project. The Government would carry the foreign exchange risk.

42. YBRD would on-lend to entrepreneurs at prevailing short-term commer-

cial rates, plus a margin to reflect the longer maturity of the funds from

the credit facility. The relending rate is expected to be about 10 percent

initially, but could be modified, in agreement with the Association, in light

of actual operating experience. YBRD will obtain the IDA funds ($0.6 million)

for the credit facility from the Government at an interest rate three percentage

points below its average interest rate charged to entrepreneurs, or seven

percent per annum, whichever is higher. An interest spread of 3 percent should

enable YBRD to cover its operating expenses, including the local costs of the

banking expert (para. 42), and provide against bad debts. The repayment terms

of the credits made to the individual investors will be determined in accord-

ance with the financial requirements of their respective projects. Of course,

in no case will the maturities exceed the minimum expected life of the assets

financed. Conclusion of a subsidiary loan agreement between the Government

and YBRD would be a condition of effectiveness of the proposed Credit.

43. The credit facility would only serve to supplement and not to replace

the funds that are available among Yemen's potential investors. They will be

expected to provide finance for at least 20 to 30 percent of the total project

cost from their own funds; their contribution would cover the 20 percent of

the foreign exchange cost not available from the credit facility, local cost

of imported equipment, and some working capital. Additional working capital

if necessary, could be financed throuigh additional credits from any of Yemen's

commercial banks.

Project Costs

44. The total cost of the project is US$3.3 million. The proposed IDA

credit will finance US$1.28 million of the construction cost of the estate,

covering all but the cost of land, working capital and interest during con-

struction which will be provided bv the Government. In order to launch IEDA

on a sound financial basis, 37.5 percent (IJSS480,000 equivalent) of the IDA

funds will be passed on from the Government to IEDA in the form of equity,and the remainder (US$800,000) as a loan, bearing 9 percent p.a. interestand repayable over 25 years, including six years of grace. Interest duringconstruction (5 years) will be capitalized. Conclusion of a subsidiary loanagreement between the Government and IEDA would also be a condition of effec-tiveness of the Credit.

45. The total program of technical assistance until 1979 is estimatedto cost US$490,000 which provides for about 147 man/months of expert servicesand 6 months each of training abroad for the Director General and industrialengineer. The credit would finance the foreign exchange cost ($420,000), andthe Government will cover the local currency costs (US$60,000) of the technicalassistance to IEDA, and the YBRD the local currency cost of the banking expert(S10,000). The UNDP is unable to provide finance for the technical assistancecomponent as its funds are fully committed to other high priority projectsthrough FY1976.

Consulting Services

46. There are a few construction firms in Yemen with architecturalbureaus that provide engineering services, but there is only one independ-ent Yemeni consulting firm. This firm, Yemen Industrial Consultants (YIC),has prepared a number of feasibility studies and engineering designs, andsupervised the execution of civil works. At present, YIC is carrying outa major engineering job together with a Canadian consulting firm, which hascommented favorably on the competence of YIC. Since knowledge of local con-struction methods and building materials is essential for keeping construc-tion costs low, and the cost of the contract would be modest in any case(US$65,000), it is proposed that YIC should carry out the detailed engineer-ing for the industrial estate, provided it submits an acceptable proposal.

Disbursement and Procurement

47. The proposed IDA Credit of US$2.3 million would be disbursed oversix years. The estimated schedule of disbursement is shown in Annex III. TheCredit would be disbursed on the basis of 100 percent of total expenditurefor civil works and engineering services, 100 percent of foreign expendituresfor technical assistance and training, and imported equipment for IEDA, 80%of locally procured imported equipment and the ex-factory cost of locally-produced equipment for IEDA, and 50 percent of eligible foreign expendituresunder the credit facility.

48. Contracts for the civil works, estimated to cost $50,000 or more,including land development and the standarcl factory buildings will be submit-ted to international competitive bidding, in accordance with the Guidelines.In view of the relatively small size of the contracts involved, it is unlike-ly that any foreign firms would be interested in the bidding, except perhapsfirms that are currently operating in Yemen under other development projects.Yemen, has ahout a dozen contractors who appear qualified for the work inquestion. Small contracts of less than $50,000 each (e.g. for the fencing of

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the estate) be awarded under local bidding procedure. Equipment orders by

IFDA and under the credit facility estimated to cost over S25,000 would be

made after offers from at least three suppliers have been obtained.

Economic Justification

50. The project is essentially a demonstration project and an experi-

ment. It is designed to tap a growing reservoir of entrepreneurs and a pool

of capital seeking investment opportunities. It seeks to serve as a model

and set the pattern for industrial development by providing an alternative

and contrast to the bazaar. It will offer the essential capital and techni-

cal advice to encourage the growth of import-substituting small-scale indus-

try in Yeren. In economic and social terms, it will give entrepreneurs an

opportunity to improve the quality and quantity of their output through modern

production methods. For labor, the estate offers safer and healthier working

conditions. The potential value of the estate is essentially in its demons-

tration effect rather than the incremental value of production, though the

latter is expected to be significant.

51. In a country where industrialization has barely begun, where medium-

and long-term lending has never been available before and where Government is

generally viewed with distrust, the creation of a public industrial estate

carries inevitable risks. There is the risk that the level of industrial ex-

pansion drops off for political and economic reasons. In such circumstances,

capital from the banks and entrepreneurs may dry up. Secondly, there is the

risk common to new industrial estate projects, that the incentives offered

will be insufficient to attract entrepreneurs, who may not perceive the ad-

vantages of the estate compared to their distrust of new things, desire for

anonymity and fear of higher costs associated with the industrial discipline

required on an estate.

52. Every effort has been made to minimize the project-related risks.

Although data are limited, the available evidence indicates a continuing

strong growth in the number of enterprises in Yemen, a shift to modern small-

scale industry, a high level of consumer demand stimulated by the rapid growth

of the economy during the past three years, and considerable interest in plans

for future investment. The Government will offer a measure of protection for

local industries through tariff increases for competing products although the

level of protection will be limited (para 24). In general, the risk that in-

dustrial development overall will falter is therefore not considered great

at this stage.

53. The estate itself has been designed to maximize its attractiveness

while limiting the financial commitment of the Government. Entrepreneurs

will be provided with technical assistance, credit, good physical facilities,

and other incentives. At the same time the construction of the estate has

been divided into three phases and only the first phase, representing about

one-quarter of the estate, will be built under the project. This will mini-

mize the Government's financial exposure. Subsequent phases can easily be

accelerated or deferred depending on growth of demand.

- 13 -

PART V - LEGAL INSTRMTENT AND AUTHORITY

54. The draft Credit Agreement between the Yemen Arab Republic andthe Association, the draft Project Agreement between the Association andIEDA, the Recommendation of the Committee provided for in Article V, Section1 (d) of the Articles of Agreement and the text of the Resolution approvingthe proposed credit are being distributed to the Executive Directors separate-ly.

55. I am satisfied that the proposed development credit would complywith the Articles of Agreement of the Association.

PART VI - RECOMMEIDATION

56. I recommend that the Executive Directors approve the proposeddevelopment credit.

Robert S. HcNamaraPresident

Attachments

January 17, 1974

ANNEX IPage 1 of 2 PaU-es

COUNTRY DATA - Y:jTh'.N ARAB REPUBLIC

AREA POPULATION DENSI'TY

Roughly 75,000 nq.rm 5-6 million (1971 est.) 65-8o per sq.m.no cenrsu

Rate, o:C growth: 2-35s(1960-70)

POPUIA TION C MIAP. -RTSrsTICS HEALTH

Life expectancy; est. 30-4 years Populatiorn per physician: 20,003 est.Ilfant, mortali-uy: about 50/. Population per hosipital bod: 1530-25Q0Gt

NTJT'01 TTO?N EDUCATION

'Nidespread malautrition and Literacy: Est. 10% of total popalationprotein deficiencoy School enrol2ment (1971): o,Co

GNP PER CAPITA TN 1972: $9O est.

CJTPUT1' ANTD LAPDET '1CI;TO c of GD? % of Labor Fcrce

Agr.cUul e r 70-8O 80-900ther sectors 20-30 10-20

CO\in2Nr.rlfT FTr,A;NCE (ni-llions of rials)FY6F FY70 FY71 F-R2

Revenues TIT 73 98 151ExrŽendittJre, 122 129 171 228

Currc- P Bala:ce 1/ -70 -56 -73 -83Develop:ioent ex.qenrlitures- 23 'F1 3

Ovo'ra 11 Pa' ainG --93 -137 -156 -139Doresti.c ba.ik financing 70 45 37 -32Fxt,t-rnl fCi.naariing 23 92 119 171

Y3'"T-7 A. M-) 1 DIMT (millious of rials)1969. 1970 1971 1972

lonley SuppP2y 190c 230 277 2Quazi l,;olue,>r 5 8 36 81Credit to private sector 1i9 29 70 120Niet clair'is on goverrl3isnt 118 151 110 116

1T/ aivalent to foreign project aid.

ANNE IPage 2 of 2 pages

BAL! `;CE 01? Alillfr.sn ($S rQi.ns)15'6'; 1970 1971 1972

D-uort; U 6. 8

|Tm LVs 8 139 -72 -102.5

IiI7il_.-!bIc5 arnd worker rer1tt2n?eS 12 45 47 81.3

GaSh and Commclrdo;_i y grants 5 18 6 18.8

I,DU, S5.i1 ... .. D; D ! lNf Ne lfl ..... -20 -13 h4.

I;o;1-ilo:'b+g>4-f 5C AJ UaDl X . ri ~~ ~ ~~~~30 31 2,T

o Uvcs, c( s)0 -.18 26.8

Te rVe PCsi, i (s .,ilirez)

Nz3t rcE s.rvcuz o........ , 0: l'& :n tr~.X Pank g FT1l(: '15 .......... 580 95 110

( ci wich: ,VeC I i ITI) (e I) (7) (23) 141.8

R'LTGP7 F I (l,T< 3 0 p r r i a 1)

I ree n:;rife rate (average) 22 18 19 20

! ,FCI` NDYSt B O-;, T(kIcorXdeT2/ voroX eŽ,'. 969-71

Coffee 3

Qat o.6 16Cottou o.6 16

Hiick's a-ild s%inlS o.5 14

Otber o.6 16Tot al 3.7 10 3

ET,-T?V,NATL T)-,DT, JIne 3Q'Jj)72' U3$,n.

Public b. .inc l. glLranttcd, 21l6of' i]ulch: disbu.;sod (147)

I)bt' s.rvi.e due 1572/73Debt . iervice ratio, ^zt. 19172/73 12 -2,!

RATE OF EXCHANGE 5 IBRD/IDA LENDINGFree Market Rates (as at Dec. 31, 1973) US$ min.

1972 Average March 1973 IB(as am DA

1 Rial $ 0.20 $ 0.22 Outstanding and disbvrsed - o.81 US$ YR 5.0 YR 4.5 Undisbursed - 2&.8

Outstanding inc1l. undismursed - 29.6

1 .n 1uwc~ sDT .i M ;ltCj exr1or s ar:i o;!ti ssonis.V/ on3ly akxut 5iO--6 of e..;vi;ate ot '..oial ecchandisc e..Y.rts are rt.,-zded.

,,/ Thioe . £rc-n L irferct c;iir;uQ:s p;icd in ''cpt .,"Oct 972, :,. mr. .

on thc. dcbt and dcbt se)-;i.e ourcnda as astill Ioin_- assenibled fro.n variO11S ugcce,s

i/ The clebtL service ratio :1: esti-natcd on the basis of debt s>e-vcc as % o.f P:;^jiclt.d1972 cxmrort.s (- niudni n• unrecorded) arnd nut ir.nvisibles aad remrn.ttances. It ex-

cludes a reported rescheduling exercise with the two major aid donors, the USSR

Ain:d FeQol' ls raenunlic oI Gnin; in earlv *1972.

o/ -ro iar value has oeen comxunicated to the IivTh. However, Yemen agreed in 1972 to

a provisional rate of US$1 = YH5.January 17, 1974

ANNEX IIPage 1

THE STATUS OF BANK GROUP OPERATIONS INTHE YEMEN ARAB REPUBLIC

A. Statement of IDA Credits(As at December 31, 1973)

US$ MillionCredit Amount (less cancellations)

Number Year Borrower Purpose IDA Undisbursed

315 1972 Yemen Arab Republic Highways 7.7 6.9

376 1973 Yemen Arab Republic Tihama Agri-culture 10.9 10.9

421 1973 Yemen Arab Republic Education 11.0 11.0 /1

Total 29.6 28.8

Of which has been repaid - -

Total now held by IDA 29.6

Total undisbursed 28.8

/1 Not yet effective.

B. Other Bank Group Activities

A Bank grant of US$200,000 equivalent was approved by the Executive

Directors in July 1971, to help finance, jointly with the Kuwait Fund for

Arab Economic Development, a team of planning and economic advisors. The team

of five advisors has helped establish the Central Planning Organization (CPO)

which is responsible for preparing a development program, devising general

economic policies, identifying and preparing investment projects, and coor-

dinating external aid. The CPO is perhaps the most dynamic and acti ve public

sector organization in Yemen. The Executive Directors approved on September 11,

1973 a Bank grant of US$200,000 equivalent to make possible the continuation

of the planning team.

ANNEX IIPage 2

C. Projects in Execution 1/

Credit 315 - Highway; US$7.7 million Credit of June 26, 1972;

Closing Date: June 30, 1976.

The Yemen Government moved very quickly to establish a Highway

Authority, appoint its Director and select three different sets of project

consultants (for technical assistance, feasibility studies and supervision

of construction). The project is proceeding satisfactorily. The feasibility

studies have recently been completed and roads for detailed engineering are

expected to be selected in January 1974. Bids for construction of the Taiz-

Turba road are being evaluated.

Credit 376 - Tihama Agriculture; US$10.9 million Credit of May 7, 1973;

Closing Date: June 30_, 1978.

The Development Credit was declared effective on September 4, 1973.

The Chairman and General Manager of the Tihama Development Authority have

been appointed. Consultants for preparation of designs for the Wadi Zabid

irrigation works and execution of the Wadi Maur feasibility study have been

in the field since April 1973. Field work for the topograhic mapping of

Wadi Mawr was undertaken in June-September 1973 by the United States Geo-

logical Survey. The project is proceeding satisfactorily.

Credit 421 - Education Project; US$11 million Credit of July 19, 1973;

Closing Date: December 31, 1978.

The terminal date for effectiveness is April 1, 1974. In the

meantime recruitment is in progress for the project implementation unit and

for the UNESCO Task Force to help strengthen the Ministry of Education. An

equipment specialist has visited nine project schools to prepare lists of

equipment to be provided under the project.

1/ These notes are designed to inform the Executive Directors regarding

the progress of projects in execution, and in particular to report

any problems which are being encountered, and the action being taken

to remedy them. They should be read in this sense, and with the

understanding that they do not purport to present a balanced evaluation

of strengths and weaknesses in project execution.

ANNEX IIIPage 1

YEMEN ARAB REPUBLIC INDUSTRIAL ESTATE PROJECTDEVELOPHENT CREDIT AND PROJECT SMIThARY

Borrower: Yemen Arab Republic

Amount: US$2.3 million equivalent

Terms: Standard

Project The proposed project would be a demonstration projectDescription: to help promote modern small-scale industry in Yemen.

It would provide potential investors with physical fa-cilities on an industrial estate (including factorybuildings), technical assistance, and a credit facilityto help them import machinery and equipment.Specifically, the IDA credit would help finance thefollowing:

(i) an industrial estate of about 32,500 m2 (with pro-vision for expansion to 130,000 m2) in the outskirtsof Sana'a which will provide for the leasing ofstandard factory buildings and industrial sites forindividual occupancy;

(ii) technical assistance to potential investors on theestate in the preparation of their individual proj-ects, obtaining finance, selection of equipmentsuppliers, erection and start-up of machinery andequipment and technical help in solving day-to-dayproblems during the initial critical years; and

(iii) long-term credit facilities to entrepreneurs onthe estate for the import of machinery and equip-ment.

ANNEX IIIPage 2

Estimated Cost:

US$ Ilillion

Local Foreign Total

Industrial Estate (Phase I) 1.110 .550 1.660 (49%)

Technical Assistance .070 .420 .490 (15%)

Credit Facility - 1.200 1.200 (36%)

Total 1.180 2.170 3.350 (100%)

Financial Plan:

US$ Million

Government YBRD IDA

Industrial Estate (Phase I) .380 _ 1.280

Technical Assistance .060 .010 .420

Credit Facility - .600 .600

Total .440 (13%) .610 (18%) 2.300 (69%)

Estimated Disbursements:

US$ Million

Cumulative

FY74 FY75 FY76 FY77 FY78 FY79 FY80 Total

0.04 0.4 0.8 0.4 0.5 0.3 0.1 2.3

Procurement Contracts of $50,000 or above for the civil works, in-

Arrangements: cluding land developrmient and standard factory buildings,

will be submitted to international competitive bidding.

Small contracts for civil works (e.g. fencing of the

estate will be awarded under local bidding procedures.

Contracts for the supply of en uipment valued at US$25,000

or above will be awarded after offers have been obtained

from at least three suppliers.

Consultants: Yemen Industrial Consultants (YIC) would be given the

task of preparing the detailed engineering for the

industrial estate, provided it submits an acceptable

proposal. Individual consultants would be recruited

as advisors to I17DA's Director General and industrial

engineer and as the banking specialist.

Rate of Return: Financial rate of return to the Estate Authority for

Phase I (the Project) 8.3%.

Appraisal Report: No. 284a-YARDate: January 4, 1974

IBRD 10720R

I ,~~~~~~~~~~~~~ANUARY 1974

2 % \ 4 -\ t / YEMEN ARAB REPUBLICRAWDDA INDUSTRIAL ESTATE

I5r \ | 8 / PROJECT

2325

\ L _;. __ncWlirRc1 ZoneIN\ '" n Sanga Master Plar

- ~~~~~~Sre for rioustrl Estate./tilt-ap oreas, 1971

)2250 Contour lines in meters

E ... Exst,ng oads

\\ jIRAF } ~~~~~~~~~~~~~~~~~~23nC

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2 %S '2X

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