Document of

The World Bank

FOR OFFICIAL USE ONLY 5

Report No. 1782a-AF

STAFF APPRAISAL REPORT

AFGHANISTAN

FPUIT AND VEGETABLE EXPORT PROJECT

February 21, 1978

Regional Projects DepartmentEurope, Middle East and North AfricaAgriculture III

|This document has a restricted distribution and may be used by recipients only in the performance of|their official duties. Its contents may not otherwise he disclosed without World Bank authorization.

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CURRENCY EQUIVALENTS

Currency Unit - Afghani (Af)US$1 = Afs 47.5 /1

WEIGHTS AND MEASURES

1 man 4 kg. 1 seer 7.66 kg

While the metric equivalents of man and seer vary among regions the above valuesare those most commonly used.

1 beswa 0.05 jerib1 jerib 0.2 ha1 ha 2.47 acres

ABBREVIATIONS AND ACRONYMS

AgBank - Agricultural Development Bank of AfghanistanAMSCO - Agricultural Machinery and Services CompanyARI - Afghan Raisin InstituteASC - Afghan Seed CompanyAVEC - Afghan Vegetable Export CompanyDAB - Da Afghanistan BankEPB - Export Promotion BankFAO - Food and Agriculture OrganizationGOA - Government of AfghanistanIDA - International Development AssociationIDBA - Industrial Development Bank of AfghanistanPACCA - Project on Agricultural Cooperatives and Credit

in AfghanistanPCU - Project Coordinating UnitSIDA - Swedish International Development AuthorityUNCTAD - United Nations Conference on Trade and DevelopmentUNDP - United Nations Development Program

FISCAL AND CALENDAR YEAR

March 21 to March 20

/1 This was the GOA supported rate at the time of field appraisal and the GOAindicated that this would be the lower limit to the long term rate which itwould support despite a possible short term decline to US$1 = Afs 44 whichhas occurred.

FOR OFFICIAL USE ONLYAPPRAISAL OF

A FRUIT AND VEGETABLE EXPORT PROJECT

AFGHANISTAN

Table of Contents

Page No.

I. SECTOR ..... ........................................ 1

A. Structure of Agriculture ...................... 1

B. Organization and Supporting Services .......... 2

C. Policies and Prospects ........................ 3

D. Performance under Previous Projects ........... 4

E. The Horticultural Subsector .... ............... 5

II. THE PROJECT ........................................ 9

III. PROJECT COST AND FINANCING ......................... 12

IV. PROJECT ORGANIZATION AND MANAGEMENT ................ 17

A. General ... ..................... ...... .......... 17

B. Export Promotion Unit ..... .................... 18

C. Export Promotion Bank ..... .................... 19

D. AgBank . .............. 25

E. Afghan Raisin Institute ....................... 27

F. Afghan Seed Company ..... ...................... 30

G. Afghan Vegetable Export Company ............. .. 32

H. Ministry of Agriculture ....................... 34

I. Auditing Requirements ..... .................... 34

V. PROJECT IMPLEMENTATION ..... ...................... 35

A. Procurement ................... 35

B. Disbursement ................ 37

C. Monitoring and Evaluation . 38

D. Environmental Impact ..... ..................... 39

VI. PROJECT BENEFITS AND JUSTIFICATION ......... ........ 39

A. Production, Markets and Prices .... ............ 39

B. Financial Analysis ............................ 41

C. Economic Evaluation ........................... 43

VII. RECOMMENDATIONS .................... ................ 47

This report consists of the findings of an appraisal mission of Messrs.

R. Hunt, R. Hing and H. Eisa (IDA) and Messrs. H. Nyberg and E. Shoreibah

(Consultants) which visited Afghanistan in June 1977 for about 3 weeks. Mr.

Y. Suzuki (Y.P. IDA) assisted in the analysis and drafting of the report.

This documcnt has a rtricted distrlbution and may be mud by recipients only in the performanceof their official dutia. Its contents may not otherwis be disclosed without World Bank authoriation.

Table of Contents (Continued)

ANNEXES

1. Financial IntermediariesExport Promotion Bank - Background, Sources of Funds, Operations Review,Additional Financing Required, Institution Building, Portfolio Analysis,Required Undertakings, Interest Rate Spread.

Chart 1 - Export Promotion Bank - Outline Proposed Organization ChartTable I - Export Promotion Bank - Profit and Loss StatementTable 2 - Export Promotion Bank - Balance SheetTable 3 - Export Promotion Bank - Projected Receipts and Applications

of FundsTable 4 - Export Promotion Bank - Disbursement and Repayment ScheduleTable 5 - AgBank - Projected Receipt and Application of Funds and

Disbursement and Repayment Schedule

2. Financial and Economic AnalysisRaisin Marketing Credit ProgramTable 1 - Afghan Raisin Institute - Projected Cash FlowTable 2 - Afghan Seed Company - Vegetable Seed Multiplication - Projected

Cash FlowTable 3 - Afghan Seed Company - Fruit Rootstock and Seedling Production -

Projected Cash FlowTable 4 - Afghan Vegetable Export Company - Projected Cash FlowTable 5 - Fresh Fruit Packing and Cooling Plant - Projected Cash FlowTable 6 - Refrigerated Truck Transportation - Projected Cash FlowTable 7 - Grape/Raisin Production - Existing 1 jerib Vineyard Trellised

in year 9 - Projected Incremental Cash FlowTable 8 - Grape/Raisin Production - New and Replacement 1 jerib Trellised

Vineyard - Projected Cash FlowTable 9 - Onion and Potato Production - Operating Costs and Revenue

Economic Analysis - General Considerations - Exchange Rate, Output andInput Prices. Economic Rate of Return.Table 10 - Economic Rate of Return Analysis SummaryTable 11 - Economic Rate of Return - Projected Cash Flow by Component and

Total

3. Technical AssistanceTable 1 - Technical Assistance and Training by Component and YearChart 1 - Phasing of Technical Assistance and Training AVEC Organization

AVEC Organization4. Chart 1 - Outline Organization of the Afghan Vegetable Export Company

5. Project Files Table of ContentsA. Implementation FileB. Background File

MAP

IBRD 13175 Afghanistan - General

I. SECTOR 1/

A. Structure of Agriculture

1.01 Agriculture is the dominant sector of the Afghan economy. It isestimated to account for 50% of GNP, about 55% of the settled labor force andabout 60% of total export earnings. This contribution to the economy has beenstable for some years indicating that growth in agricultural production remainsin line with overall annual growth in the economy at about 3%. Afghanistan'sremote landlocked mountainous location is responsible for its relative under-development and continues to act as a major constraint. Extremes of climatedue to the continental location and topographic features have created anuneven pocket type dispersion of the rural population. Reliance on winterprecipitation for crop irrigation, combined with the topographic extremes,limits expansion of cultivated area despite capital intensive irrigationdevelopments. The net result is that only an estimated 13% of the land isarable; of which, due to lack of water, only 50% is cultivated.

Cropping Pattern, Yields and Inputs

1.02 The cropping pattern is virtually unchanged over the last 15 yearswith wheat occupying 60% of cropped land. Non-food crops, of which cotton isthe most important, did show a steady expansion in output up to 1975/76 butnow show some tendency to level off. Since cotton is a substantial foreignexchange earner it is likely that the GOA will further increase the cotton/wheat price ratio in the future to offset such a decline. The substantialarea of non-irrigated and partially irrigated land and the need for self-reliance together with the lack of commercial alternatives, both born out oflack of market access, are largely responsible for this overall stationarypattern. With gradual increase in irrigated area and the development of acash economy, there are indications of change to cropping patterns whichrelative output prices would indicate as more optimal.

1.03 Yields are low by most standards, but experiments demonstrate themcapable of substantial improvement in an economically and financially viablemanner. The traditional, isolated barter system is only now giving way toa more modern structure. Hence the development of the input market is stillin its infancy and input levels are far below those of most other developingcountries. Thus growth in yields has been slow and confined mainly to wheat.

Income Distribution

1.04 In the absence of significant metropolitan areas, income distributionis largely constrained by tenancy, holding size and access to irrigation, ascropping pattern is constant. Farm incomes are low and on 1.5 to 3 ha irri-gated farms would seldom exceed Afs 5,000 (US$100) per capita; about 50% of

1/ For an in-depth review see Afghanistan Opportunities for Agriculturaland Rural Development Sector Report Vols. I and II, World Bank ReportNo. 848a-AF, November 1975.

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the rural population is estimated to be below the absolute poverty level ofUS$89 per capita. While the average holding size is about 3.5 ha of arableland, ownership is skewed in most areas. Although data is not available itis believed that sharecropping is the dominant form of cultivation and alarge proportion of the non-nomadic rural population consists of landlesslabor or sharecroppers. Recently enacted legislation sets limits on landownership and a Graduated Land Tax requires all land holders to submit taxdeclarations. No water charges are levied in traditional irrigation schemes,and an effort is being made under the Khanabad I Irrigation Project (Credit248-AF) and the proposed Khanabad II Irrigation Project to initiate the con-cept of a water charge taking into consideration equity and water use effi-ciency criteria.

B. Organization and Supporting Services

Government Departments

1.05 The Ministry of Agriculture is the main administrator of agriculturaldevelopment, but its performance in influencing agricultural development hasbeen limited by a number of inter-related factors, including insufficientfunds, unsatisfactory administrative framework and lack of trained staff. TheResearch Department within the Ministry has been of limited effectiveness andreceives low priority. Agricultural extension is the responsibility of theDepartment of Extension which has a total staff of about 2,600 (includingnearly 140 college graduates), most lacking agricultural or vocational train-ing. The extension service is inadequate to meet the wide and pressing needsof agriculture and its upgrading is a major need. In view of the severe short-age of vocationally trained people, an IDA financed education project (Credit674-AF) has been launched recently which would train middle level personnel inagriculture. The recently constituted Water and Power Ministry (WAPM) offersthe possibility of more efficient utilization of the nation's scarce waterresources, including the planning, design and implementation of irrigationprojects. The Rural Development Department within the Prime Minister's Officeis responsible for the implementation of minor irrigation projects. The FoodProcurement Department of the Ministry of Finance has responsibility for carry-ing out the Government's wheat price stabilization policy. Since 1968 theSwedish International Development Authority has been financing a project whichis executed by FAO, on agricultural credit and cooperatives. In 1973 thispilot project was changed to a nationwide cooperative program and a coopera-tive law was enacted in November 1974. The biggest weaknesses in the currentcooperative structure are the absence of trained personnel and a lack of memberunderstanding and participation.

Marketing and Credit

1.06 The traditional bazaar combines the functions of both a wholesaleand a retail market. It operates with only limited Government interference,and at present generally meets the needs of the volume and pattern of agri-cultural production. Government fixes prices for certain commodities (cotton

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and sugar beet) which are marketed directly with the processing companies, andhas indirect influence on commodity price levels through import and exportpolicy, wheat purchases, and pricing of fertilizer and other inputs. Since1973, Government's pricing policy has aimed mainly at keeping domestic foodprices stable; imports and exports are made on both a free trade and barterbasis and are handled by Government organizations and private traders mainlythrough the Ministry of Commerce. The majority of farmers rely on money-lenders for short term loans, for which they pay very high finance charges.Commercial banks provide limited short term financing for processing andmarketing, particularly for export. The Agricultural Development Bank ofAfghanistan (AgBank), which has received 3 IDA credits so far, is virtuallythe only source of insitutional credit for agriculture, but because of staffconstraints and loan security requirements, credits made by it so far coveronly about 5% of farmers.

Farm Inputs and Machinery

1.07 The use of inputs such as fertilizer and agro-chemicals is low,although the use of fertilizer has doubled since the formation of the AfghanFertilizer Company (AFC) in 1973. The multiplication of improved seed(cereals and cotton) will be carried out by the newly established AfghanSeed Company (ASC), which is being assisted by an Asian Development Bank(ADB) loan. Due to high demand for labor from neighboring oil producingcountries, a rural labor shortage is developing in certain areas. Thissituation is further aggravating the prevalent critical seasonal laborshortages during peak demand periods, such as harvesting of wheat, plantingof second crops (June-July) and cotton harvesting in the fall which coin-cides with wheat planting. Under these circumstances, the process of farmmechanization is likely to grow, and in general, would be economically andsocially justified. However on owner operated holdings, where labor supplyis not a problem, returns to labor and land are low, and the proposed proj-ect is designed to improve these returns.

C. Policies and Prospects

The 7 Year Plan

1.08 The 7 Year Plan (1976-83) I/ lists increased output income, earningsand capital formation in agriculture as well as a more even distribution ofagricultural income as its main objectives, all of which are in agreement withBank policy. The Plan indicates that 25% of total developmental expenditureor Afs 43 billion (US$900 million) would be allocated to investment in theagricultural sector during the 7 year period. Strategies to achieve increased

1/ Government of the Republic of Afghanistan. First Seven Year Economic andSocial Development Plan 1355-1361 (March 1976-March 1983), Vols. I and II.Ministry of Planning, Kabul, 1355.

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output are based on increasing and improving cultivated land, seed, fertilizer,pesticides and credit. The production aims are based on the principles ofcomparative advantage; but, aims such as the target of over 200% increase insugar production give more weight to the practice of import substitution.The fact that this will reduce wheat cultivation ig an improvement in resourceallocation. Although the final quantitative targets seem ambitious in view ofpast performance, the Plan presents a reasoned attempt at planning for agricul-tural development in a situation where data is scarce and unreliable.

1.09 The general strategy for achieving these targets is based largelyon public investment and pricing policies. Thus, for example, investment inimproved seed production and marketing by ASC, and extension training programs,are to increase grain yields by 28%; while altering relative output priceswill cause a 4% decline in grain area giving a 24% net increase in production.Increased investment will be financed principally by increased applicationand collection of graduated land taxes. Notably absent from the Plan isany significant role for private investment. Whereas public investment isexpected to grow by about 300% over the Plan period, similar growth projectedfor private investment is only 30%. Nonetheless, private and corporatetaxes are projected to increase by 360% and 280% respectively. This lack ofcapitalization on the well recognized entrepreneurial ability of the Afghanprivate businessman, together with the disincentive of the projected taxburden, would appear to be a substantial drawback to achievement of theoverall Plan targets. Administrative inabilities of government employeescoupled with the lack of a salary incentive system are likely to cause aslower and less efficient implementation of the public investment targetsthan foreseen by the Plan.

D. Performance under Previous Projects

1.10 In the agricultural sector, IDA has already financed 3 credit, 2livestock and I irrigation projects. A second irrigation project is beingprocessed. The continuum of these credit and livestock projects has shown aprogressive improvement in implementation. In each case a substantial insti-tution building program has been involved and is under implementation. Thisreasonably successful experience of developing administrative capabilitiesamong Afghan institutions validates IDA's policy in Afghanistan of concen-trating technical assistance in key institutions.

1.11 The Agricultural Credit I Project (202-AF) was successfully completedby the AgBank and yielded an overall economic rate of return of 46%. One com-ponent, the Minor Irrigation Schemes, although conceptually sound proved to bepremature in the Afghan context, relying as it did on an unrealizable amountof interministerial and inter-community cooperation and goodwill. AgBankdeveloped under the first credit project was further strengthened under theAgricultural Credit II Project (539-AF), which omitted the irrigation com-ponent, but introduced short term lending in agriculture to Afghanistan withnotable success in promoting the use of fertilizer and increasing storagecapacity of the Afghan Fertilizer Company, another basic institution.

1.12 The Livestock I and II Projects (375-AF and 649-AF) are responsiblefor the promotion of livestock production and export in Western Afghanistanincluding the development of range production systems, producer and exportmarketing systems and the construction of a modern slaughterhouse to meetinternational export standards. The establishment and development of theHerat Livestock Development Corporation, which is responsible for all com-mercial aspects of the project, was again a major step forward in the buildingof Afghan institutions. Progress, initially slow due to problems of satis-factory subloan collateral and co-financing in the first project, is nowsatisfactory in both livestock projects.

1.13 The Khanabad I Irrigation Project (248-AF) provides for moderniza-tion of an existing irrigation system in the Khanabad valley covering about30,000 ha. Delays, initially in the ratification of the project by Govern-ment, and subsequently in establishing the Project Authority, recruitment ofits staff and appointment of project consultants, caused substantial setbacksto its implementation. The amended credit agreement increased IDA's contri-bution from US$5 million to US$15 million to meet cost overruns. Construc-tion began in early 1976 and is now well advanced. Project completion isexpected by the end of 1978. This project also developed another institutionin Afghanistan, Khanabad Irrigation Project Department (KIP), which will beused by the proposed Khanabad II Project.

E. The Horticultural Subsector

1.14 Because of the nature in which the horticultural subsector isintegrated with the rest of the agricultural sector, it is not possible toseparate its contribution distinctly. However, it is estimated that fruit andvegetables account for about 6% of the total cultivated area, 10% of irrigatedland and about 10 to 15% of permanently irrigated land. Fresh and driedfruits, nuts and medicinal herbs make up 40-45% of total exports. Because ofdrought induced scarcities in 2 consecutive years, exports of fresh vegetableshave been completely embargoed for the past 5 years; this appears to havereduced production in the Western and South Western Provinces, defeating theaim of the embargo. Due to their relatively high labor intensity, both fruitsand vegetables do provide substantial employment within the sector, and anyreduction is likely to bias income distribution against small holders.

Production Constraints

1.15 Low yields and very slow growth in productivity are the principalconstraints. The area under fruit and vegetables has remained quite constantdespite the superior financial returns to these crops. A number of factorsappear responsible for this; principally the lack of market access, particu-larly for fresh produce. This has the effect of negating the potentiallyhigher returns to horticultural production and causing the actual returns toalternative crops to favor wheat in many years. Sharecropper and tenantfarmer access to irrigated land, unequal distribution of water rights anduncertain availability of irrigation water during the summer also have an

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effect but more marginally so. The continued preoccupation of the farmerswith wheat production is also a factor, due to the need of the producersto ensure adequate quantities of storable food for their families over thelengthy and harsh winter period. Government is now planning expansion andimprovement of the public food storage and distribution facilities to reducethe individual's burden in this respect.

1.16 Another significant factor adversely affecting the production ofgrapes is the virtual absence of trellised vineyards. Presently trellisingcan be found only in the Parwan region, where a few farmers have adoptedit in growing bush variety grapes. Trellising first began after the Ministryof Agriculture demonstrated its value through the SIDA supported, FAO-executedPACCA Project. These farmers are unanimously in favor of trellising andhave benefitted by obtaining 3 to 5 times the yield of non-trellised vines.The traditional (non-trellised) system of vineyard production is highly laborintensive and can only be justified if labor is shadow priced at an extremelylow rate. Such pricing may well have been valid in the past but continuedand consistent indications are that it is no longer so. Estimates indicatethat the financial rate of return to such investment, with labor pricedat actual hiring rates, range from 6% down to -7% depending on the region.By comparison the financial rate of return of trellised vineyards is esti-mated at 17%. Given the significance of the grape/raisin industry to theAfghan economy this suggests that almost any effort to encourage trellisingis worthwhile.

1.17 The low yields and slow growth in productivity are also due to thegeneral low level of fertilizer use, poor quality of other inputs used, a poorextension service and poor management ability. Some of these factors arevirtually unrecognized in Afghanistan, such as the need for pest controls andthe use of trace elements. Others, such as the quality of vegetable seed orfruit or vine rootstock, the lack of adequate extension effort and poormanagement, are individually recognized but neither the extent of the deficitnor the need for an optimum input balance is perceived by farmers or extensionworkers.

1.18 Access to institutional credit is a major reason for the low levelof inputs in horticulture. It is believed that most of the horticulturallycropped land is operated by sharecroppers and tenant farmers whose onlysources of credit are the private money-lenders, who charge 25 to 30% interestfor short term credit. Much of this credit is applied in the form of poorquality inputs, and thus the outlook for improving productivity is not good.Although AgBank is responsible for supplying credit to the agriculturalsector, the present types of collateral (principally land titles or jointliabilities through a cooperative or group) together with the lack of devel-opment of the cooperative system almost totally prevent it from extending anycredit to sharecroppers and tenant farmers.

Horticulture and the 7 Year Plan

1.19 In the 7 Year Plan, fruit production is seen as of significantimportance, particularly in earning foreign exchange, and also as a basis forfuture processing industries. The Plan targets call for an annual increase of

7

4.2% in fruit production which compares with an annual growth of 0.8% in the

previous 7 year period. The projected annual growth of 2.9% in the yield is

very high when compared with the annual rate of 0.25% actually achieved in the

pzevious 7 years. Grape production projections of yield (3.5% p.a. versus

1.3% p.a.) and output (4.7% versus 1.3% p.a.) are similarly ambitious. The

past 7 year period's high export growth rate of 9% p.a. was at the expense of

a decline in the per capita domestic consumption. The implied projected per

capita consumption increase of 1.5% p.a. appears reasonable, but if achieved

may result in a reduction in the grape/raisin export availabilities as the

high yield projections appear impossible to realize in the Afghan context.

The proposed project will assist in moving towards the Plan's goals, but is

unlikely to overcome the lack of realism. The 7 Year Plan's targets for

vegetable production, calling for increases of 3.9% p.a. in area, 2.1% p.a.in yield and 7.0% p.a. in total output, seem more reasonable than for fruit.

But, taking the past 7 year period's annual growth of 0.3% in area, 1.2%

in yield and 1.4% in total output, together with the production constraints

outlined, the targets still appear somewhat optimistic. Since export of

vegetables is not explicitly foreseen in the Plan, the implied projected per

capita consumption increase is 4.5% p.a. But, this would require a per capita

real income increase of 8% p.a., or a reduction in price which would, of

course, affect output. Any vegetable exports would require the removal of

the export embargo.

1.20 The general conclusions are that: (a) for fruit production, substan-

tial investment and effort will be necessary to maintain exports at their

present level without any curtailment in domestic consumption; (b) for fruit,

the 7 Year Plan targets are unlikely to be realized, but in order to generate

increased export volume and quality and thus earnings, additional investment

and effort in inputs and production, and improved processing should be under-

taken immediately; and (c) for vegetables, the Plan targets are achievable if

the necessary investment and effort is made, an exporting system is rapidly

developed and access to export markets is permitted.

Marketing Problems

1.21 Preliminary estimates of the absorptive capacity of Afghan fruitexport markets indicate that this is not a limiting factor to expansion.

Existing export levels fail to fulfill agreed quotas negotiated in trade

agreements. But many of the institutional arrangements established under

bilateral trade agreements are inhibitory. The major problems are the delay

in payment and the unilateral adjustment of prices by the importer (mainly by

the USSR). These cause Afghan traders to market domestically, where returns

are faster. Also the allocation of the bulk of export quotas to private

traders, as opposed to fruit cooperatives, has resulted in raisin production

remaining unsold during periods of surplus production. 1/ The wide variation

in quality due to lack of grading and the poor quality of packaging, if any

packaging at all, are also very significant limiting factors. The continued

1/ Discussed in detail in Horticultural Subsector Survey - Afghanistan,

Vols. I and II, World Bank Report No. 1324-AF, May 1977, page 61,para 8.19

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appreciation of the Afghan currency is also an influencing factor. Many ofthe trade agreements are now due for renewal and the authorities should takethis opportunity to reduce payment times and arrange for final price deter-mination before the goods leave the country. The authorities must alsoprovide access to export markets for vegetables, and give further considera-tion to the exchange rate issue.

1.22 Grading, processing and packaging of Afghan fruit for exportis sparse and inferior. The income tax system is such as to cause discoura-gement to private investment in fixed assets and is considered to be sub-stantially responsible for the low level of value added to fruit exports. Thediscouraging private investment climate has also affected the storage andtransportation system, which, although presently adequate in volume capacity,is poor in terms of reliability and quality. Since no refrigerated transportor storage now exists, the volume and quality of fresh produce exports isrestricted and the ability to manage the market is almost non-existent. Atpresent the Government is actively involved in establishing joint ventureswith international firms (Western European and USSR) to provide improved trucktransport for exporters, involving protocols to reduce the tax difficulties.However, there is need for rationalization of the entire income tax systemto provide (i) a climate which will encourage investment, particularly ingrading, processing and packaging; and (ii) a broader tax base to offset anyloss in tax revenue.

1.23 Substantial policy changes, some of which are developing, arerequired in the sector in order to generate a more optimum use and moreequitable distribution of resources 1/ and a number of programs need to beinitiated or further developed and strengthened in order to promote the neces-sary changes. Land reform legislations have opened the way for restructuringfarm size and ownership but a more active implementation program still remainsnecessary to permit redistribution. In combination with needed horticulturalextension and education programs, such improvements would lead to more optimumland use and increased crop productivity. At present, virtually no extensionexpertise is available in horticulture and there is no legal basis for uti-lizing security instruments other than land title mortgages. Legal reform inthe areas of crop and chattel mortgages are outstanding needs to facilitatethe use of short term credit. More rapid progress is required in the on-goingcadastral survey program as assignment of land titles subsequent to suchsurvey would extend credit access to a large number of farmers. Selectivedevelopment of the cooperative system to provide sharecroppers with accessto credit is also necessary for improving aggregate productivity in horti-culture.

1.24 With the exception of the collateral issue, these policies areaddressed and advocated in the 7 Year Plan and specific targets are set out.

1/ These are treated in some detail in World Bank Report No. 1324-AF, Horti-cultural Subsector, Afghanistan, Vols. I and II, May 1977 and World BankReport No. 848a-AF, Afghanistan, Opportunities for Agricultural andRural Development Sector Report, Vol I and II, November 1975.

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But definite programs, designed to achieve these objectives, have not been

spelled out. The emergence of a gradual but steady development of these

policies and programs is necessary, as soon as adequate investment is avail-

able to capitalize on the increased production capability. Such programs

would supply the necessary market access for this increased output.

II. THE PROJECT

Objectives

2.01 The main objectives of the project are to: (a) provide new, and

improve and expand existing marketing channels for the export of raisins,

vegetable seeds and fresh vegetables; (b) increase production of grapes and

vegetables, and raise labor productivity; and (c) develop operational capabili-

ties in the project related institutions.

Project Components

2.02 The project would consist of seven components: (i) Raisin Market-.

(ii) Vegetable Seed Multiplication and Fruit Rootstock Production; (iii) Veg::

table Exports; (iv) Agroindustries Credit; (v) On-farm Credit; (vi) Marketinr

credit; and (vii) Technical Assistance and Training. These components are

cribed below. Investment financing would be channeled through 2 specialized

banks, one for agroindustries and raisin marketing and one for on-farm credi)

Implementation of the noncredit components would be by specialized Government

controlled commercial institutions while the credit components would be under

taken by private investors. Monitoring and evaluation would be in the hands

of the Agroindustries Export Promotion Unit (EPU) located in the Ministry of

Commerce.

2.03 Raisin Marketing. The existing Afghan Raisin Export Promotion Ins

tute would be expanded and reorganized as the Afghan Raisin Institute (ARI)

under the project to extend marketing services to producers and improve its

existing services to processors and exporters. A quality control department

would be added in the ARI to promote improved quality at the farm level and

the processing plants through implementation of approved grading standards ar

each level. Laboratory equipment necessary for implementing these standards

would be provided under the project. Eight storage plants with a total

capacity of 22,000 tons would be constructed at suitable locations, within

the grape producing areas, which would incorporate precleaning, grading and

storage facilities. Attached to these storage plants would be 4 small vine-

yards of about 0.8 ha each, which would be taken on lease by ARI from private

farmers and would be developed and operated to demonstrate and promote quality

improvement techniques including trellising, pruning, harvesting, drying and

packing.

2.04 These stores and vineyards would be the center point of the ARI

implemented program to improve raisin quality at the farm level. The stores

would also become marketing points for raisins produced by farmers. Pricing

of raisins would be based on professional grading. Storage and marketing

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credits, and a market information service would be available to the producersas incentives to participate. A market information and promotion servicewould also be made available to traders at the export level. Technical assis-tance and training would be furnished for on-farm quality control, storage,processing and export quality control as well as marketing and accounting andin developing farm and export: level grading and certification systems.

2.05 Vegetable Seed Multiplication and Fruit Rootstock Production. Theproject would provide facilities, equipment and technology to produce (a) vege-table seeds, and (b) vine and fruit tree rootstocks. Production of vegetableseeds 1/ would be mainly undertaken for export through contractual arrangementsbetween the existing Afghan Seed Company (ASC) and an international seed com-pany, who would supply the imported foundation seed and possibly the necessarytechnical expertise. The latter would undertake to accept the multiplied seedfor international sales through its own marketing organization. Due to smalldomestic demand with perhaps the exception of onion seed, the project does notenvisage production for domestic use in the near future. Nonetheless, theproject would provide the production technology to meet future domestic demand.ASC has a legal monopoly on the production of all seed in Afghanistan, and hasrecently received a loan from the Asian Development Bank (ADB) to support wheatand cotton seed production and marketing. The activities of this project com-ponent would compliment ACS'sE crop rotations under the ADB wheat and cottonseed project. A number of reputable seed firms have expressed interest in thecomponent. Two of these have actually visited Afghanistan in connection withthe component and are now reviewing it internally. Both the Government andthe ASC have been encouraged to enter contractual arrangements with a suitablefirm as soon as possible.

2.06 The project would also finance a greenhouse, laboratory and farmequipment, and technology for production of seedlings and rootstocks, mainlyfor vines but also for some stone and pome fruits. ASC would also be respon-sible for this component and would work very closely with the Ministry ofAgriculture, and the Agricultural Faculty of Kabul University. It would liaisewith these institutions to remain abreast of varietal developments in theirresearch and trial programs, and avoid duplication of research efforts. Con-centration would be on the production of vine seedlings because of the needto meet the projected expansiona in vineyards.

2.07 Vegetable Export. Under the project, a new company, the Afghan Vege-table Export Company (AVEC), would be established in Herat to export vegetablesto neighbouring countries, principally to Iran. Initially it would exportpotatoes and onions, due to their low perishability, but later could expandits business to cover higher valued and more perishable vegetables. The com-pany would let out contracts for the production of 5,000 tons of potatoes andonions among local farmers artd would also produce crops on its own farm ofabout 500 jeribs (100 ha), which would be established in the Herat area as apart of the project. This faLrn would ensure a minimum supply to permit con-tinuous operation year round, permit rapid start up and ensure some supplies

1/ Beans, Onions, Eggplants, Tomatoes, Lettuce, Brassicas, Melons, Cucumbersand Carrots.

- 1J. -

to meet export market contracts. The project would provide (a) equipment forhandling, washing, grading and packing the vegetables for export, (b) twosuitably insulated, temperature modified stores-of 2,000 tons capacity each,where vegetables could be stored to permit flexibility in marketing, (c) asmall cold room for seed potatoes, and (d) two insulated 10 ton trucks fortransporting vegetables to the export markets. However the majority of theexport transportation would be carried out by rented trucks, of which thereis an adequate supply for dry cargo including potatoes and onions.

2.08 Construction of 2 deep wells equipped with pumps and associatedwater distribution networks is also included in the project for providingirrigation to the land to be cultivated by AVEC. Necessary farm equipmentwould also be provided by the project.

2.09 Agroindustries Credit. The project would make available throughthe Export Promotion Bank (EPB) a line of credit to assist in the develop-ment of horticulturally related agroindustries. This credit is expected tobe taken up by 3 fresh fruit grading and packing plants with cold stores,and 5 articulated type refrigerated trucks of about 20 ton capacity. Theseplants are likely to be located around Kandahar, an area of extensive fruitproduction, adjacent to the traditional export markets in India and Pakistan.Much interest 4±n this type of investment has been shown by the local tradersin Kandahar.

2.10 On-Farm Credit. Medium and long term credit would be provided tofarmers, through AgBank, to facilitate on-farm investment, primarily intrellising about 900 ha of vineyards. Investment would cover poles, wire,pruning shears and drying mats and installation charges for trellising ofabout 300 ha of existing vineyards. For new vineyards, in addition to theabove items, credit would also be provided for boundary walls, seedlings,wheel barrows, drying mats and initial fertilizer and manure requirements.

2.11 Despite promotional efforts supported by other international agen-cies, trellising is not widely practised in Afghanistan. Trellising has manyadvantages including increased yields and reduced operating costs 1/ but theinvestment costs are relatively high 2/. The past promotional efforts appearto have now developed a significant interest in trellising among farmers ex-posed to it. Consequently the time is considered ripe to develop a concen-trated effort to introduce the practice through an integrated credit andpromotion program, which includes an added incentive of assistance in meetingthe initial investment cost through a Government subsidy amounting to 30% ofcost of poles and wire. Investment is mainly restricted to new vineyards dueto the cost of levelling the 2-3 metre high earthen banks of the traditionalsystem. However, existing bush type vineyards would be trellised as well.

2.12 A line of short term credit would also be provided, through AgBank,to those local farmers, who are under contract to AVEC for production of

1/ Yield increases of 300-500% and Operating Cost Reductions of 10-15% overthe best alternative system.

2/ 2.5 times that of the best alternative system.

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potatoes and onions (para 2.07). It would include their requirements forworking capital for seed, fertilizer and pesticides.

2.13 Marketing Credit. Under the project EPB would extend a line ofshort term credit to farmers producing raisins, which would enable them tophase the marketing of their production rather than having to dump their cropon the market at harvest time by meeting their cash needs. This would bearranged through the ARI storage plants and would be restricted to raisinswhich have been cleaned and graded through ARI facilities and which are storedin the ARI stores.

2.14 Technical Assistance and Training. In order to assist in the imple-mentation of above components, the project would provide technical assistanceto the concerned institutions by furnishing experienced specialists and wouldalso arrange to train local personnel in project related disciplines. A totalof 674 manmonths of technical assistance and 159 manmonths of training fellow-ships and study tours are provided. Details are summarized in the table below;further breakdown is in Annex 3, Table 1.

TechnicalComponent Assistance Training

------ manmonths ------

Raisin Marketing 168 87Vegetable Seed and Rootstock Production 168 30Vegetable Export 170 -Export Promotion Bank 144 42Agroindustries Export Promotion Unit

(Min. Com.) 24

Total 674 159

All overseas training programs would be completed by December 31, 1980 to en-hance the rapid transfer of responsibilities from the expatriate to the Afghanstaff. This large component is considered necessary to meet the institutionbuilding needs of the seven separate and completely independent project imple-menting entities.

III. PROJECT COST AND FINANCING

Project Cost

3.01 The total Project cost is estimated at about Afs 1,311 million(US$27.6 million) of which the foreign exchange component is estimated atabout Afs 711 million (US$15.0 million) or 54% of total cost. Since no cus-toms duties are levied on IDA-financed imports, and other local taxes areinsignificant, the cost estimate, which is summarized below is net of dutiesand taxes:

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PROJECT COST

Local Foreign Total Local Foreign Total ForeignCONPONENT --------- Afs'000 ---------- -_------- US$'000 --------- Exchange

I. Afghan Raisin InstituteStorage Plants 90,791 120,352 211,143 1,911 2,534 4,445 57Laboratory Equipment - 1,187 1,187 - 25 25 100Quality Control Program 792 9,112 9.904 17 192 209 92

Subtotal 91,583 130,651 222,234 1,928 2,751 4,679

II. Afghan Seed Companya. Vegetable Seed Multiplic.

Buildings 6,294 4,945 11,239 133 104 237 44

Machinery - 31,270 31,270 - 658 658 100Vehicles and Office Equip. 503 7,879 8.382 11 166 177 94

Subtotal 6,797 44,094 50,891 144 928 1,072b. Fruit Rootstock Production

Buildings 603 1,717 2,320 13 36 49 74Machinery - 3,504 3,504 74 74 100Vehicles and Office Equip. 203 1493 1,696 4 32 36 88

Subtotal 806 6,714 7,520 T7 142 159

III. Afghan Vegetable Export CompanyLand, deen welts and pumps 12,858 2,823 15,681 271 59 330 18

Building and Stores 8,474 13,826 22,300 178 291 469 62Machinery and Storage Equip. - 21,738 21,738 - 458 458 100Vehicles and Office Equip. 136 6,660 6.796 3 140 143 98

Subtotal 21,468 45,047 66,515 52 T14

IV. Credita. Agroindustries

Fruit Packing and Cooling 12,470 76,600 89,070 262 1,613 1,875 86Transportation 5.775 27.500 33,275 122 579 701 83

Subtotal 18,245 104,100 122,345 384 2,192 2,576b. On-farm

Trellising existing Vineyards 24,975 30,525 55,500 526 643 1,168 55Trellising New and Replacement

Vineyards 145,088 74,743 219,831 3,054 1,573 4,628 34Vegetable Production 2,895 2.184 5,079 61 46 107 43

Subtotal 172,958 107,452 280,410 3,641 2,262 5,903c. Raisin Marketing 168,053 5,197 173,250 3,538 109 3,647 3

V. Technical Assistance 38.392 153L472 191,864 808 3,231 4,039 80

Total 518,302 596,727 1,115,029 10,911 12,563 23,474 56

ContingenciesPhysical (3%) 15,523 20,576 36.099 327 433 760 57Price (14%) 65,397 93.975 159.372 1,377 1,978 3,355 59

Grand Total 599,222 -711,228 1,310,500 12,615 14,974 27,590 54====_e 17===e ===== == ==_

August, 1977

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3.02 The cost estimate is based on prices prevailing at end 1977. A5% physical contingency has been included on all items except TcchnicalAssistance and credits for Raisin Marketing and Vegetable Production. Pricecontingencies have been based on an estimated annual inflation in local andforeign costs of 7.5% for equipment and 9% for civil works through 1979, and7% and 8% respectively thereafter. The exchange rate used for the calculationof project costs (US$1:AFs. 47.5) dates to March - June 1977. The exchangerate in Afghanistan is highly volatile, responsive to seasonally variable butsignificant flows of workers' remittances as well as capital flight fromneighbouring countries, and intervention by the central bank. It is there-fore, preferable to use an exchange rate which reflects more stable trends.The latest available exchange rate (December 1977) is somewhat overvaluedand does not reflect the foreign trade prospects in the coming months. Arenewed intervention by the central bank in response to the Government'sneed for foreign exchange and to provide domestic price incentives givenpoor short-term prospects in export prices is also likely.

Project Financing

3.03 The financing plan for the project is given below:

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Subborrower GOA EPB AgBank IDA Tota]---------------------- Afs '000 -----------------

I. Afghan Raisin - - 58,568 - 234,273 292,841Institute

II. Afghan Seed Companya. Veg. Seed - - - - 65,352 65,352

Multip. /1b. Fruit Rootstock - - - - 8,846 8,846

Prod. /1

III. Afghan Veg. Export Co. - 19,129/2 - - 60,408 79,537

IV. Credita. Agroindustries

(i) Fruit Packing 24,679 - - - 98,714 123,393& Cooling

(ii) Transportation 7,785 - - 31,140 38,925b. On farm

(i) Trellising 11,628 16,650/3 - 11,628 18,234 58,140ExistingVineyards

(ii) Trellising New 46,037 32,967/3 - 46,037 105,143 230,184and Replace-ment Vineyards

(iii) Vegetable - - - 1,016 4,043 5,079Production

c. Raisin Marketing - 173,250 - - - 173,953

V. Technical Assistance - 6,175 - - 228,778 234,953

Total (AFS'000) 90,129 248,188 58,568 58,681 861,126 1,310,500(US$'O00) 1,898 5,225 1,235 1,235 18,000 27,590

Share of Total (%) 7% 19% 4.5% 4.5% 65% 100%

/1 The FE Cost of this component is 89%. Also EPB will be required to financesubstantial operating zosts on a long term basis due to long gestationperiod (Afs 17.5 million over 5 years for Vegetable Seed and Afs 14.7 mil-lion over 8 years for Rootstock).

/2 Capital Subscription

/3 Subsidy (30% of cost of poles and wire including 5% physical contingencies)

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3.04 The proposed IDA credit of US$18.0 million would finance about 65%of total project cost including the full foreign exchange component of US$15.0million, and about US$3.0 million of local cost. The remaining US$9.6 millionin local costs would be financed by Government (US$5.23 million), EPB (US$1.23million), AgBank (US$1.24 million), and subborrowers (US$1.90 million). Con-tributions of the subborrowers would amount to about 20% of the credit foragroindustries and on-farm investments. Since neither ARI nor ASC have surplusliquid assets, they would be unable to finance any portion of the project com-ponents to be implemented by them. Institutions designated by Government aspublic sector capital subscribers to AVEC will provide some additional quasigovernmental equity financing.

Trellising Subsidy

3.05 The value of trellising has already been proven in Afghanistan (para1.16). In order to promote adequate interest in trellising, amongst thefarmers engaged in viticulture in general and the farmers around those areaswhere ARI's storage plants would be located in particular, Government wouldsubsidize 30% of the cost of poles and wire for trellising investments madeunder the proposed project. This is the appraisal mission's estimate of whatwould be required as an inducement in order to have a reasonable impacton speeding up innovation and implementation. It is based on discussions withproducers, Ministry of Agriculture and AgBank officials. This subsidy wouldbe equivalent to about 14% of the total trellised vineyard investment cost;cost to be borne by the farmer would be 54% higher than the best alternativetraditional system. If installation labor and initial manure treatment aresupplied by the farmer, the subsidy becomes 20% of the cash investment neededwhich would appear a very significant saving to the average Afghan farmer.Coupled with an active demonstration and promotion program by ARI, AgBankand the Ministry of Agriculture, this investment grant would create a verydesirable investment climate.

3.06 By itself, a demonstration and promotion program would be insuffi-cient and time consuming. It would take 3 years to develop demonstrationplots for trellising existing vineyards and 8 to 10 years to develop new trel-lised vineyards. Every hectare invested in a non-trellised vineyard wouldcost the Afghan farmers about US$3,000 in income foregone annually at fulldevelopment (10 years following investment) and would cost the economy US$5,000per hectare per annum. By contrast a Government subsidy for trellising thevineyard would be about US$1,000. The loss to Government in direct taxes alonewould amount to about US$500 per hectare per annum at full development. Con-sidered as an investment, the financial rate of return on the subsidy to Gov-ernment is 28% for existing and 20% for new and replacement vineyards. Theadded advantage of this type of incentive and public investment over that ofinvesting in the extension service is that subsidy cost recovery is directlyrelated to the volume of investment, whereas there is no such well definedrelationship between cost and cost recovery with investment in extension. Ifthe subsidy fails as an investment incentive, loss to Government would be farless.

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3.07 The subsidy scheme would be operated by AgBank, who would also admin-ister the on-farm credit component of the project (para 2.10). AgBank would bereimbursed by Government for the subsidy payments made to subborrowers on asemi-annual basis, and such payments by Government would constitute Government'scontributions to project cost. The subsidy scheme would neither be restrictedto any specific region nor would it be operated on the basis of allocationsamongst various grape growing regions of Afghanistan. The scheme would beoperated on first-come-first-served basis, to expedite disbursements from theproposed IDA credit. Prior to any loans by AgBank for the trellising invest-ments the Government would take the necessary steps to legally institutea program for subsidizing the capital investment cost of a :rellised vineyardin the amount of 30% of the cost of poles and wire initially. The amount ofthe subsidy may, with prior agreement with IDA, be varied from 30% if the rateof disbursement of loans for trellising is found to be unacceptably fast orslow. This program would be limited to not more than Afs 50 million in value(about US$1.05 million) and not more than 900 ha in volume and the Governmentwould enter into a subsidiary agreement with AgBank, acceptable to IDA, whichauthorizes AgBank to operate the program on the Government's behalf and whichguarantees prompt reimbursement of AgBank's disbursement to producers inconnection with the program up to the maximum amounts and/or volume indicatedabove.

3.08 Government's share of project financing is proposed to be limitedto about US$5.2 million. This would consist of (a) a contribution of aboutUS$0.40 million to AVEC's capital (b) about US$1.05 million in the form ofa trellising subsidy of 30% of the cost of trellising for existing (US$0.35million) and new (US$0.70 million) vineyards; (c) a provision of US$3.65million to the credit program for raisin marketing; and (d) US$0.13 millionto the Technical Assistance. Since EPB's authorized and subscribed capitalwill need to be substantially increased to maintain a satisfactory debtequity ratio, Government would be requested to contribute its financing ofthe raisin marketing program to the necessary capital increase for EPB andhave EPB finance this program. During negotiations, assurances were obtainedthat Government, EPB, AgBank and participating subborrowers would contributeagreed amounts to finance the project and also that the Government wouldestablish the trellising investment subsidy program, including finalizing thesubsidiary agreement, acceptable to IDA, with AgBank, not later than June 30,1978.

IV. PROJECT ORGANIZATION AND MANAGEMENT

A. General

4.01 The Government would be the borrower under the Project. Because ofthe export orientation of the project and at the request of Government, theMinistry of Commerce would be the ministry responsible for the project. Anexisting preappraisal project unit in this Ministry's Export Promotion Depart-ment would be reorganized to coordinate and monitor the project. It would be

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known as the Agroindustries Export Promotion Unit (EPU). Because of thegreater administrative and technical experience of the other project entities,and the diverse nature, complete independence and specialization of theiractivities, the EPU's role in actual implementation would be relatively minor,and would be limited principally to monitoring and evaluation.

4.02 Government would channel project funds and would operate through twofinancial intermediaries, EPB and AgBank. EPB would handle all loans to agro-industries, and would also operate the raisin marketing credit program. AgBankwould be the financial intermediary for all on-farm credits. EPB would on-lendthe necessary funds to three implementation agencies - ARI, ASC and AVEC. Theraisin marketing credit component would be coordinated through ARI, who wouldhave the primary responsibility for implementation of the raisin processing andmarketing components. ASC would be responsible for vegetable seed multiplica-tion and export, and fruit rootstock production, and AVEC, which would beestablished under the project, would have the responsibility for vegetableproduction and export. Under the project, EPB would be developed into a fullyoperational financial intermediary, capable of servicing the agricultural pro-cessing and export industry in Afghanistan.

4.03 As seen in the sector review (paras 1.10-1.13), Bank assisted proj-ects in the Afghan agricultural sector have involved substantial technicalassistance over quite long time periods. In this respect the present projectis no exception. The project involves 7 distinct entities. In terms of theiroperations all are completely independent. One of the 2 banks, EPB, the ser-vice institute, ARI, and one company, ASC, are relatively new while a secondcompany, AVEC, is completely new. Thus substantial institutional developmentis necessary. Most aspects of the project are innovatory, both technicallyand commercially, requiring specialized skills and training. Since managerialand technical skills are in short supply in Afghanistan, expatriate technicalassistance is required. The necessary technical assistance and training issupplied by the project as detailed for each entity below.

B. Export Promotion Unit

General

4.04 EPU would oversee and monitor the timely implementation of variousproject components. EPU would be allied to and assisted by the Export Pro-motion Department and under the overall direction of the Minister of Commerce.

Responsibilities

4.05 Major duties of EPU would be (a) to coordinate project activitiesbetween the two financial intesrmediaries - the EPB and the AgBank; (b) tomonitor the project's progress and to submit quarterly progress reports to IDAincluding up to date information on financial commitments and disbursements;(c) prepare a project completion report upon completion of the project; and(d) to acquaint itself fully with IDA's procurement guidelines as well as

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Government's local procurement procedures, and to review all procurementactions, on behalf of Government, prior to sending such references to IDA.EPU would assist EPB and AgBank in identifying potential subborrowers.It would also be responsible for preparing a long-term investment programfor horticultural exports, including identification and preparation of spe-cific projects. A major responsibility of EPU would be to establish andoperate a project monitoring and evaluation system for the project. ByJune 30, 1978 it would submit to IDA for its approval a program for sucha system. Assurances were obtained during negotiations that all projectentities and subborrowers would fully cooperate with and assist the EPUin the execution of its responsibilities.

Staffing, Financing and Technical Assistance

4.06 A 14 person unit, which assisted in the preappraisal and appraisalstages, already exists in the Ministry of Commerce. This unit would be suit-ably staffed for the project implementation stage. Its size would be adjustedin keeping with its new role, and it would continue to be supported by theGovernment budget. The costs for this unit are presently about Afs 1 millionper annum. To assist and guide EPU in executing its responsibilities anexperienced expatriate would be employed as a Consultant Manager to EPU byMay 31, 1978, with qualifications, experience, and terms and conditions ofappointment satisfactory to the Association. During negotiations assuranceswere obtained to this effect.

C. Export Promotion Bank

General

4.07 EPB was established in 1976 to extend financial assistance toexporters and exporting industries, and it was intended that EPB would developas a specialty bank with expertise in the area of export development. Itschartered objectives are to provide financing to: (i) promote and diversifythe export of Afghan products in foreign markets; (ii) assist producers in theadaptation of their exportable products to the requirements of foreign markets;and (iii) facilitate exporters in undertaking specific promotional activitiesabroad.

Sources of Funds

4.08 The authorized capital of EPB is Afs 100 million (US$2.1 million)made up of 100,000 shares of Afs 1,000 each. The only practical sources offunding are currently EPB's own capital, borrowings from the Da Afghanistan(Central) Bank foreign loans and internal cash generation. Foreign loans arethe only significant medium-term source of adequate resources. EPB's paid upcapital and a US$2 million short-term loan from the Central Bank were itssole sources of funds until it received a US$10 million loan for 15 years inMay 1976 from the Iranian Central Bank. This loan became effective in June1977.

4.09 The amount of borrowing from the Central Bank and from overseassources will depend on the allowable debt/equity limits. Presently no policy

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or requirement on limiting its debt obligations exists. A reasonable debt/equity ratio must be considered in terms of the Bank's proposed activities,risk taking and liquidity. Since it is unlikely to be able to raise fundsfrom current or time deposits, it might be viewed more as a developmentfinance company. A prudent debt/equity limit would depend on how the Iranianloan is utilized. A company heavily committed to providing equity financeshould limit its total equity investments to its own net worth and probablynot exceed a 5:1 debt/equity (net worth) ratio.

Organization, Management and Technical Assistance

4.10 Headed by a General Assembly of shareholders, the main policy makingbody is the Supreme Council which includes the shareholders and the Presidentof the EPB together with a number of senior Government officials. The day-to-day business is under the authority of the Executive Board, which consists ofsenior officers of the EPB headed by the President and reports to the SupremeCouncil. A Board of Auditors consisting of 3 persons appointed by the GeneralAssembly of Shareholders is empowered to investigate any facet of EPB'soperations. The outline organizational chart of the EPB (Annex 1, Chart 1) issomewhat tentative, in that EPB is still very much in the formative stage,nonetheless it constitutes a systematic organization of the elements necessaryfor purposeful operation and expansion.

4.11 To enable EPB to perform the important role assigned to it underthe project, it would be essential to establish a Financial Planning Depart-ment and an Internal Audit Department. The Credit Department would also bestrengthened and reorganized. Three experienced expatriates would be employedto guide these departments for terms of 2 to 5 years, and during this timewould train their counterparts to make over these managerial positions.Later, for the remaining 1-2 years of their terms, these expatriates wouldassume the role of advisors to the Afghan managers. The expatriate headingthe Financial Planning Department would also be the head of the expatriateteam working in EPB.

4.12 The Financial Manager would work with EPB's Director General ofFinance and would report to EPB's President. He would advise the President onfinancial matters such as the bank's liquidity position, the best utilizationof its short-term assets, compliance with foreign loan agreements, establish-ing relationships with foreign commercial banks, working with the externalauditors in carrying out their responsibilities, preparing financial reportsto the Supreme Council, and assisting in setting up the accounting and audit-ing systems. The Credit Manager would head the Credit Department and wouldwork with EPB's Director General of Credit. He would report jointly to theFinance Manager and the President. In addition to having full responsibilityfor running the Credit Department, he would organize an extensive trainingprogram for Afghan personnel including the training of his Afghan counterpart.One immediate task would be to develop in cooperation with ARI a suitable sys-tem for implementing the Raisin Marketing Credit Program. Such a programwould be developed soon after the arrival of above experts and would be sent

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to IDA for approval by December 31, 1978. During negotiations, assuranceswere obtained to this effect. The Internal Auditing Manager would work withEPB's Director General of Accounting and would report jointly to the FinanceManager and the President. He would be responsible for building EPB'sInternal Auditing Department which would audit all operations and check theimplementation of the Board of Directors' and Executive Board's decisions,examine all loan documentation and audit clients defaulting on loans. Aqualified accounting firm would also be retained to establish a computerizedaccounting system within EPB. Since such a system would be a necessity in thenear future, it should be established in EPB during its formative period, butafter the experts furnished under the project have had the time to reorganizeEPB. During negotiations, assurances were obtained that EPB would prior toEffectiveness of the Credit (a) establish a Financial Planning Department andan Internal Audit Department; (b) employ, on terms and conditions acceptableto IDA, three experienced experts to head its Credit Financial Planning andInternal Audit Departments; (c) employ suitably qualified and experiencednationals to work as counterparts to these experts; and (d) by December 31,1978, retain a qualified accounting firm to establish a computerized account-ing system in EPB.

4.13 To assist in the development of necessary skills amongst EPB'snational staff, several fellowships of six months duration would be providedunder the proposed project. These would be in the fields of financial manage-ment, credit operations, audit techniques and computerized accounting. Suit-ably qualified Afghan personnel would be selected for such training, in con-sultation with the experts in EPB and IDA, and their training would be arrangedabroad in suitable institutions in consultation with IDA. During negotiations,assurances were obtained that EPB would (a) send a training program and time-table to IDA for its approval by December 31, 1978; and (b) select the traineesin consultation with IDA and the experts employed in EPB, and arrange fortheir training abroad in accordance with the agreed program.

Portfolio Analysis

4.14 EPB's portfolio consists of short-term loans for a period of up to180 days. The money is used to provide pre-export financing for products suchas raisins, carpets, fresh fruits, dry fruits, and handicrafts. The EPB'spolicy is to extend credit for up to 75% of the invoiced valued of the goods,for which it charges an 11% fixed interest rate, The client assigns theproceeds of the goods sold to EPB, which receives the money after the foreignexchange is converted through the Central Bank. This present policy ofrestricting its operations to short-term pre-export financing is appropriatein view of the short-term nature of its own funds. The terms of its operationsappear to provide adequate protection against losses, and the experienceto-date has been satisfactory.

4.15 However, the fact that EPB has not yet suffered a loss on any of itsloans does not mean that its portfolio is risk free; this risk will rise onceEPB enters the business of financing projects on a medium and long-term basis.To cover such risks, EPB would create an accounting reserve against possiblelosses.

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Role and Responsibilities

4.16 While an older and well established financial institution would havebeen more suited to act as a financial intermediary for the export-orientedcomponents of the project, no such institution exists in Afghanistan. There-fore EPB, which has a suitable charter, would be built up under the project toassume greater responsibilities. EPB's management is very interested and will-ing to participate in the proposed project and would welcome the institutionbuilding effort which the proposed project would finance. It is expected thatas a result of the efforts to be made under the project, EPB would progressrapidly towards fulfilling its objective of developing and promoting exportindustries including those financed under the project.

4.17 Under the project EPB would have the responsibility for on-lendingto the subborrowers for the agroindustries and marketing components. It wouldthoroughly acquaint itself with the procedures followed by IDA for appraisalof proposed investments, so that it can carry out an indepth review of sub-projects proposed by its subborrowers - ARI, ASC and AVEC. In cooperationwith EPU it would closely monitor the progress of approved subloans to theseagencies. It would also be responsible for identifying and appraising invest-ments in agroindustries, including but not necessarily restricted to freshfruit packing and cooling plants and refrigerated transportation. In allcases EPB would be responsible for assessing the creditworthiness of the sub-borrowers, acquiring adequate satisfactory loan collateral and providing forthe working capital needs of all agroindustry subborrowers under the project.In cooperation with ARI, by December 31, 1978 EPB would develop a suitablesystem and timetable for implementing the Raisin Marketing Credit Programand submit these to IDA for its approval. An outline of such a program iscontained in Annex 2.

4.18 In order to suitably equip EPB for its new and expanded role underthe project, it would be necessary that Government allocates necessary capitalto EPB to ensure that its debt/equity ratio does not exceed 5:1 and that EPBhas sufficient operating funds at all times. During negotiations assuranceswere obtained that (a) Government would allocate necessary funds to EPB toensure that it has adequate resources to carry out its role under the proj-ect, (b) adequate and suitable loan collateral, acceptable to EPB and IDA bemade available by Government to all agroindustry subborrowers, (c) Governmentwould grant all agroindustry subborrowers eligibility for all benefits avail-able under the Afghan Foreign and Domestic Private Investment Law, (d) EPB'sdebt/equity ratio would not exceed 5:1, and (e) Government would contributeits agreed financing of the Raisin Marketing Credit Program to EPB as paid-inequity capital and phase its contribution to meet both the demands of thisprogram and the maintenance of a 5:1 debt/equity ratio in EPB.

On-Lending Rate

4.19 At present EPB has no policy for interest rates on long-term loans.Long-term loans to industry are made by the Industrial Development Bank of

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Afghanistan (IDBA) at a rate of 10% p.a. but the volume is negligible.Currently IDBA, with Government approval, is charging a rate of 6% p.a.for a special small scale industry scheme, 1/ but since this is a new in-novation no data on uptake is available. With a current inflation rateof about 3% p.a. (1976/77), this would imply a real rate of interest of3%. Although AgBank charges 8% p.a. on medium and long-term loans, whichare only about 3% of its outstanding loans, it is considering an increasein this rate. EPB's onlending rate for medium and long-term loans, there-fore, should not be less than 10%. The above rates thus provide real posi-tive margins. But given the innovative nature of the project and the needto convince the Government and investors of its worth, increases in interestrates are considered best delayed to future projects.

4.20 The interest rate for short-term raisin marketing loans to farmerswould also be 10% p.a., which would be competitive with the 10% p.a. ratecharged by AgBank for short-term loans, and somewhat less than the 11% p.a.rate now charged by EPB from raisin exporters. This difference is justi-fied as (a) lending to exporters is well established and the demand hasoccasionally been difficult to meet; and (b) the direct farmer marketingcredit program, which is meant to be an incentive for the farmers for im-proving quality of exports, is innovatory in Afghanistan. AgBank also extendsmarketing credits (but only at the export level) through cooperatives with a1% rebate on the 10% p.a. rate charged.

Interest Rate Spread

4.21 Consideration of an appropriate spread between EPB's cost of theproposed IDA funds and its lending rate should take into account reasonableoperating expenses, a provision for losses, local taxes, a reasonable returnto EPB and a possible special promotion funds. EPB's present operatingexpenses amount to less than 1% of its assets, but are estimated to increaseto about 3%. Provision for loan losses is hard to forecast; so far with lessthan one year's operations there have been no defaults. For projection pur-poses, a minimum provision for losses of 3% against each disbursement shouldbe used. At 3% each for operating costs and loss provisions would require a4% spread to break even. A gross 6% spread would yield an operating profitpermitting reserve provisions of 2%. On this amount, EPB would have to paya 20% profits tax (equivalent to 0.4%), plus a municipal profits tax of 10%(equivalent to 0.2% with an average on-lending rate of 10%), plus a 2% tax ongross earnings (equivalent to 0.2% with an average on lending rate of 10%).This would total an additional cost of 0.8% for tax provisions, leaving a netspread of 1.2% on the IDA credit.

4.22 To permit the necessary 6% gross spread, Government should on-lendfunds from the proposed IDA credit at 4%. This compares very favourably

1/ The upper loan limit is Afs 4 million. There are qualifying restrictionson the asset size of the enterprise.

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with the 4.5% p.a. rate at which Government on-lends the proceeds of IDA'sThird Agricultural Credit to AgBank, particularly when it is recalled thatAgBank's short-term loans comprise over 90% of its lending. As a result ofa Government guarantee to cover all short-term fertilizer loan defaults andassistance in collections, AgBank's required provision for losses is greatlyreduced. For the Third Agricultural Credit Project, the weighted averagespread amounts to about 5.5%. During negotiations assurances were obtainedthat Government would on-lend to EPB for a term of 17 years including 5 yearsgrace at 4% per annum and that EPB's on-lending rate would not be less than10% per annum. A subsidiary loan agreement between the Government and EPBand satisfactory to the Association, governing the terms and conditions ofon-lending by the Government to EPB and by EPB to its subborrowers, wouldbe entered into and ratified prior to Effectiveness of the Credit.

On-lending Policies and Procedures

4.23 In granting loans to agroindustry subborrowers, EPB would be respon-sible for evaluating their creditworthiness for such loans, and their abilityto execute the proposed sub-projects and to meet the predetermined loan repay-ment schedule. It would obtain securities or other collateral acceptable toit whose value covers 100% of each loan. The market value of real propertyshould not be less than 133% of the mortgage loan value. By agreement witheach and every subborrower EPB, in its own right and in cooperation with PCUwould obtain and review financial and physical progress reports on implementa-tion from each subborrower and take whatever additional steps are necessary toeffectively supervise the loans. In the case of all subborrowers other thanARI, ASC and AVEC the subloans would be fully appraised by EPB and for loansof over US$20,000, or the equivalent, the loan applications and appraisal andcreditworthiness reports would be submitted to IDA for review and approval.This would involve about 8 loans, or 26% of the funds on-lent through EPB. Inthe absence of an explicit government guarantee EPB would limit its subloansto any business entity to 20% of its own networth, and to 10% of its networthfor loans to any interrelated business entities and in any case its totaldebt/equity ratio to not more than 5:1.

4.24 Repayment of each subloan would be in accordance with the usefullife of each investment and the repayment capacity of the subborrower but inno case should exceed 17 years. For loans to subborrowers other than ARI, ASCand AVEC the subborrower contribution should be not less than 20% of the totalinvestment cost. For ARI, ASC and AVEC, subborrower contribution would not beless than that indicated in the Project Financing table. EPB's appraisal ofsubprojects would include financing plans for working capital to be made avail-able by EPB to all agroindustry subborrowers including ARI, ASC and AVEC asand when required. During negotiations assurances were obtained that EPBwould follow the above-mentioned lending policies and procedures. Prior toEffectiveness of the Credit separate subsidiary loan agreements satisfactoryto IDA would be entered into by EPB with ARI, ASC and AVEC governing the on-lending procedures and policies of EPB with each of these subborrowers and all

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assurances required by EPB of each of these subborrowers. EPB would enterinto a written agreement with each subborrower defining the terms of the sub-loan and requiring an annual report on the physical and financial progress ofthe investment by the subborrower.

Foreign Exchange Risk

4.25 Foreign exchange risk would be borne by Government for all projectentities except ASC and AVEC. Since ASC and AVEC would receive their revenuesin the form of foreign exchange they could be expected to repay their loanswith foreign exchange. All other entities would receive their revenue in Afsand thus are not in a position to accept the foreign exchange risk.

D. AgBank

General

4.26 With the assistance of IDA, AgBank is already functioning as a well-established credit institution. The proposed IDA credit would be the seventhto be wholly or partly channeled through AgBank (previous credits were: 3 foragricultural credit, 2 for livestock and 1 for irrigation). An extensivereassessment of AgBank was carried out by the Third Agricultural CreditAppraisal Mission and the results are included in their report. 1/ AgBankwas found to be very satisfactory as a financial intermediary and continuingin general to make excellent progress in developing all aspects of its agri-cultural development banking operations. The previous President of AgBankwas relieved of his duties on October 21, 1977. Since an effective leader ofthis institution is vital to this and all IDA projects touching agriculture inAfghanistan, during negotiations the Government was requested to fill theposition as soon as possible. A qualified individual, acceptable to IDA, hasrecently been appointed to the position.

Role and Responsibilities

4.27 AgBank's role would be to act as the financial channel for on-farminvestments in trellised vineyards and working capital in vegetable production.Its lengthy experience and success in the field of on-farm credits makes it alogical choice for this role.

4.28 Under the project, AgBank would be responsible to grant long-termloans to farmers for (a) the establishment of trellised vineyards, (b) trel-lising existing vineyards, and (c) seasonal credit for the production of

1/ Appraisal of a Third Agricultural Credit Project Afghanistan - World BankReport No. 1490-AF, May 12, 1977.

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vegetables under contract to AVEC. To discharge this responsibility ade-quately, AgBank would acquaint itself with all aspects of improved vineyardproduction including pruning, cultivating, fertilizing and trellising. Itwould also satisfy itself on the creditworthiness of each subborrower andobtain securities and other collateral acceptable to it.

4.29 AgBank through its subsidiary AMSCO, 1/ would be responsible forprocuring and distributing the necessary tools and materials (pruning shears,dusters, trellis poles and wire) for investments in trellising and raisinproduction. It would cooperate with ARI in this procurement and distributionfunction and would make use of ARI's rurally located stores to facilitatedistribution of these tools and materials. It would also participate in ARI'squality control program for raisin production through financing productioninvestments as well as distribution of drying mats and directing its fieldsupervisory staff to promote the program actively. It would cooperate withAVEC to develop a working program for extending seasonal credit to the farmersproducing vegetables under contract with AVEC. It would liaise and cooperatewith PCU in monitoring and supervising implementation of the project. Assu-rances were obtained during negotiations that AgBank would procure and dis-tribute necessary tools and materials for trellising and raisin production,and distribute drying mats in cooperation with ARI.

On-Lending Policies and Procedures

4.30 The proceeds of the proposed credit allocated to on-farm investmentwould be on-lent to AgBank by Government. AgBank would on-lend these fundsin accordance with the following terms. Besides assuring itself of the bor-owers creditworthiness and obtaining suitable collateral, it would establishloan repayment plans for the subborrowers keeping in view the estimated finan-cial live of the investments and the repayment capacity of the subborrowers.In the case of investments in new and replacement trellised vineyards, therepayment period would not exceed 12 years including a maximum 5 year graceperiod. For loans for investments in trellising of existing vineyards, therepayment period would not exceed 6 years including a 2 year maximum graceperiod. For loans for seasonal credit for vegetable production, repaymentwould become due only upon payment to the subborrowers for contracted produc-tion by AVEC. Seasonal credit loans under the project would be restricted tofarmers producing vegetables under contract with AVEC. AgBank and AVEC wouldjointly develop a scheme for restricting the seasonal credit for such contractsand channeling contract payments through AgBank to facilitate loan repayment.AgBank would submit to IDA by September 30, 1978 details of the agreed schemeto be adopted. Assurances were obtained during negotiations that AgBankwould (a) ensure execution of these policies and procedures, and (b) submit toIDA by September 30, 1978, details of the scheme agreed with AVEC for extendingseasonal credit to farmers under contract with AVEC.

1/ AMSCO - Afghan Machines and Service Company, formerly the AgBank SupplyDepartment. Described in detail in World Bank Report No. 1490-AF,Appraisal of a 3rd Agricultural Credit Project Afghanistan, Annex 4.

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On-Lending Rates, Terms and Spread

4.31 AgBank's current short-term on-lending rate of 10% is acceptablesince there is no evidence of disequilibrium at present (see para 4.20). Thus10% p.a. would be the minimum on-lending rate for the subloans to be financedby this project. The current long-term loan rate of 8% p.a. has, as a matterof policy, been deliberately set below the short-term rate to encourageinvestments in on-farm development. This policy continues to be acceptable.Since AgBank currently extends long-term financing for traditional systems ofgrape production at 8% p.a., a higher rate, if proposed for this project,would prejudice potential investors against investing in trellised vineyards.Also given the innovative nature of the project (para 4.20) particularly ofthe trellising component, adjustments in the interest rate are considered bestdelayed to future projects. Consequently the on-lending rate for medium andlong-term investment in trellised vineyards would be 8% p.a. Since IDA, Gov-ernment and AgBank have recently determined, for the Third AgriculturalCredit Project, that a 4.5% p.a. on-lending rate from Government to AgBankwas satisfactory, this rate would continue to apply. Assurances wereobtained during negotiations that Government would on-lend to AgBank for aterm of 16 years including 8 years grace at 4.5% and that AgBank would on-lend these funds at interest rates of not less than 10% for short-term and8% for long-term. A subsidiary loan agreement between the Government andAgBank, acceptable to IDA, and governing the terms and conditions of on-lending by the Government to AgBank would be entered into and ratified priorto Effectiveness.

Technical Assistance

4.32 In order to assist AgBank in developing expertise in viticultureamong its field supervisory staff, 5 training fellowships would be providedunder the project in viticulture. Each fellowship would be for about 6 monthsand would be arranged at a suitable institution where the trainees wouldreceive extensive training in on-farm practices in viticulture. Candidatesfor such training would be selected by AgBank in consultation with the expa-triate viticulturalist of ARI and IDA. During negotiations, assurances wereobtained that AgBank would (a) send to IDA for approval by December 31, 1978a training program and implementation timetable for the fellowships; and(b) select the candidates for such training in consultation with ARI's expertand IDA, and arrange the placement of selected candidates in consultationswith IDA.

E. Afghan Raisin Institute

Organization and Management

4.33 Originally named the Afghan Raisin Export Promotion Institute, ARIwas established in 1975 by the Ministry of Commerce for the purpose of in-creasing production, trade promotion and the keeping and storage of raisins.

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It is a non profit service institute, financed by a raisin export levy anddonated facilities and funds. It is not authorized to trade either on itsown behalf or that of its members, though it may sign contracts on behalf ofmembers. Its membership is comprised of raisin exporters (both firms andindividuals), raisin processing factories, agricultural cooperatives andrepresentative of the Ministries of Commerce and Agriculture. An 11 manunsalaried Board of Directors is elected for 3 years by the members, and theBoard appoints from the Directors a salaried Executive Board of a Presidentand 2 members. The Executive Board's duties are to administer ARI to imple-ment the policies and programs set by the Board of Directors. These mainlyconcern the improvement of the product at the point of processing andresolving individual and industry wide export marketing problems. At presentARI's permanent executive staff is limited to 3 intermediate level managersfor quality control, marketing and accounting.

4.34 To strengthen ARI's management and to train its national staff, aviticulturalist, a processing and transportation specialist and a marketingspecialist would be employed for a period of 4 to 5 years each on terms andconditions acceptable to IDA. They would assist ARI in its objectives, andwould be responsible for training ARI's national staff in their respectivefields. A local accountant would be retained to develop an accounting andauditing system and to train ARI's staff in this field. During negotiations,assurances were obtained that by September 30, 1978 ARI would (a) employ aviticulturalist, a raisin processing and transportation specialist and amarketing specialist for 5 years on terms and conditions acceptable to IDA;and (b) a local accountant would be retained for at least 4 months annuallyover a minimum 4 year period to develop an accounting and auditing system andto train ARI's staff in this field.

4.35 Study tours of 3 months each would be provided for the President andtwo managerial level staff in processing and quality control. Five fellowshipsof about 6 months each would be provided for marketing, laboratory trainingand production. The study tours and fellowships would be arranged by ARI andits experts and their schedule would be approved by IDA. Assurances wereobtained during negotiations that (a) the training program for Afghan personnelwould be sent to IDA for its approval by December 31, 1978; and (b) the selec-tion of candidates for training and their placement abroad would be done inconsultation with IDA.

Developmental Problems

4.36 Due to understaffing, lack of technical expertise and lack of capital,at present ARI can only touch on a very small portion of the problems affectingthe entire industry's performance. Since the immediate need is to upgrade thequality of raisin exports, ARI in conjunction with the Afghan Bureau of Normsand Standards (Ministry of Mines and Industries) is exploring the introductionof a mandatory export grading and certification scheme at the point of finalprocessing. ARI's present charter authorizes it to supervise such standards,but due to lack of facilities and training, progress is slow. Major problemsare sorting out the large quantity of foreign matter (sticks, stones, soil,

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insects, fungi and animal droppings) which gets mixed with raisins during grow-

in