Document of

The World Bank

FOR OFFICIAL USE ONLY

Report No. 4649a-YU

APPRAISAL OF

FERTILIZER SECTOR LOAN

YUGOSLAVIA

March 29, 1984

Regional Projects DepartmentEurope, Middle East and North AfricaAgriculture III/Industry Department (INDII)

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

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CURRENCY EQUIVALENTS*

US$1 = Dinars (Din) 124.0Din 1 = US$ 0.008

WEIGHTS AND MEASURES

1 meter (m) = 1.09 yards1 square meter (m 2 ) = 10.76 square feet1 kilometer (km) = 0.62 miles1 square kilometer (km2) = 0.384 square miles1 hectare (ha) = 2.47 acres1 liter (1) = 0.264 US gallons1 hectoliter (hl = 100 liter1 cubic meter (m ) - 1.31 cubic yards1 kilogram (kg) = 2.20 pounds1 metric ton (m ton)= 1,000 kg = 0.98 long tons

ABBREVIATIONS

BOAL - Basic Organization of Associated LaborBTU - British Thermal UnitCAN - Calcium Ammonium NitrateCOAL - Composite Organization of Associated LaborDAP - Diammonium PhosphateFCE - Federal Chamber of EconomyFOD - Foreign Operation Department (of the Vojvodjanska Banka)GMP - Gross Material ProductHIP - Hemijska Industrija, PancevoICB - International Competitive BiddingIUP - Industrija Hemijskih Proizvoda, PrahavoINA - INA Petrochemija, KutinaKcal - KilocaloriesMAP - Monoammonium PhosphateN - Nitrogen Content in FertilizersNCI - Non-Contracting Individua:L (Farmers)NH3 - AmmoniaNPK - Nitrogen-Phosphate-PotashP205 - Phosphorous Pentoxide Content in FertilizerSAP - Socialist Autonomous ProviinceSDK - Social Accounting ServiceSFRY - Socialist Federal Republic of YugoslaviaSL - Sector LoanSMA - Self Management ActSR - Socialist RepublicSSP - Single SuperphosphateTSP - Triple Superphosphatetpy - ton per yearVB - Vojvodjanska Banka, Udruzena BankaWO - Work Organization

FISCAL YEAR

January 1 - December 31

* The Yugoslav Dinar has been floating since July 13, 1973. The currencyequivalents given above are those effective in January, 1984.

FOR OFFICIAL USE ONLYAPPRAISAL OF

FERTILIZER SECTOR LOAN

YUGOSLAVIA

Table of Contents

Page No.

I. INTRODUCTION ............................................. 1

II. AGRICULTURAL SECTOR . ..................................... 3

A. Role and Performance .......... ....................... 3B. Structural Issues . ................................... 6

III. FERTILIZER SUB-SECTOR .................................... 8

A. Plan Performance . .................................... 8B. Consumption ........................................... 10C. Marketing/Distribution ........ ....................... 12

IV. FERTILIZER INDUSTRY ...................................... 14

A. Industrial Sector . .................................... 14B. Fertilizer Producers .......... ........................ 14C. Fertilizer Production and Capacity ..... .............. 16D. Capacity Utilization ......... ........................ 17E. Raw Materials ......................................... 17F. Structure of the Industry ....... ..................... 18G. Production Economics ........................., 18H. Prices ........................ 20I. Foreign Exchange Requirements/Allocation ............. 2CJ. Financial Situation of the Industry .... .............. 22

V. THE SECTOR LOAN (SL) ......... ............................ 22

A. Need for the SL ........................,,,.,._ . 22B. Objective/Concept: ....................... 23C. Statement of Policy.. . ................... 24D. SL Description ....................... 24E. Implementation Time Frame ............................ 25F. SL Cost ............ 25G. Financing ............ 25H. Production/Import Schedule ............................ 26I. Procurement ..................................... 26J. Disbursement .................................... 26

VI. SL IMPLEMENTATION ........................................ 27

A. Borrower ........................................... 27B. On-Lending Procedures ........... ..................... 28C. On-Lending Terms and Conditions ...................... 29

This document has a restricted distribution and may be used by recipients only in the performance oftheir official duties. Its contents may riot otherwise be disclosed without World Bank authorization.

Table of Contents (Con'd) - ii -

Page No.

D. Technical and Energy Studies ......................... 29E. Organization .30F. Monitoring/Reporting ................................. 31G. Second Tranche . ....................................... 31H. Accounts and Audits ........... ....................... 32

I. Completion Report . ..................................... 32

VII. ECONOMIC JUSTIFICATION AND BENEFITS ...... ................ 32

A. Incremental Fertilizer Production ............ 32B. Marketing Arrangements ....................... 33C. Distribution Analysis ......... ....................... 34

D. Import Substitution .......... ....................... 35E. NCI Farmers Income ............ ....................... 36F. Risks .............................................. 36

VIII. RECOMMENDATIONS ...................... 37

ANNEXES

Annex 1: Distribution of the Arable Land by Sectors, 1982 .... 40

Annex 2: Fertilizer Consumption Plan for Yugoslavia -1983/1985 ........................................... 41

Annex 3: Actual Fertilizer Application Rates and Grain Yieldin 1982 by Republics/Provinces and by Sectors ....... 44

Annex 4: List and Geographical Coverage of Trading Agenciesto be involved in Fertilizer Distribution under theLoan . 45

Annex 5: Fertilizer Industry (Production, Capacities,Domestic Prices 1982 and 1983, Economics) ........... 46

Annex 6: Cost Estimates ...................................... 55

Annex 7: Disbursement Schedule ....................... 56

Annex 8: Vojvodjanska Banka Consolidated Balance Sheet1980-1982 ........................................... 57

Annex 9: Draft Terms of Reference for Technical and Audit

Studies ........... .................................. 60

Annex 10: Draft Terms of Reference for Monitoring -Agrohemija and FCE .................................. 66

Annex 11: Proposed Allocation of Incremental Fertilizer by

Republics/Provinces and by Sectors ..... ............. 87

MAPIBRD No. 17368

APPRAISAL OF

FERTILIZER SECTOR LOAN

YUGOSLAVIA

I. INTRODUCTION

1.01 Since 1979 Yugoslavia, like many other middle-income countries, hasexperienced serious economic turmoil 1/. Severe domestic inflation continuedto threaten the economy, rising from 22% in 1979 to 40% in 1982 and reaching anew high of about 55% in 1983. Industrial and agricultural production havedeclined. Industrial output, which recorded a growth rate of 8.2% in 1979,fell to 4.1% in 1980 and 1981 and was estimated at only 0.4% in 1982.Agricultural performance is reviewed in paragraphs 2.03-2.06. Merchandiseexports recorded a drop of 5.6% in 1982. Gross Domestic Product (GDP) grew ata rate of 2.2% in 1980, compared to 4.2% in 1979. It is estimated that GDPgrew by only 0.8% in 1982. The international debt, in convertible currency,reached $19.0 billion. Principal repayments on medium and long-term debt, duein 1982, were estimated at $1.9 billion. In addition, short-term debts alsoequaled this amount by the end of 1982. The deteriorating economic situationcaused the Government to introduce a series of stabilization measures; 2/investment and imports have been sharply curtailed through restrictivemonetary and fiscal policies. Fixed investment, which grew at an average rateof 9.5% between 1975 and 1979, declined by 6.0% per year in 1979-82.Merchandise imports were cut by about 10% in 1980 and a further 12.3% in1981. The volume of merchandise imports fell by a further 10.6% in 1982. Anyshortfall in the export targets is compensated by a reduction in imports;trade movements are now being monitored on a monthly basis and any divergencesfrom the targets have to be made good in the following month.

1.02 Yugoslavia's stabilization efforts have been complicated by adversedevelopments in the international capital markets. An increase ininternational interest rates since 1979 has caused interest repayments to risefrom $0.8 billion in 1979 to $2.0 billion in 1982. The overall economicsituation has eroded the confidence of the international financial communityand thus the country's access to international commercial bank credit has beensignificantly reduced. Durin,g 1982, medium and long-term credits to

1/ For details, see "Yugoslalvia: Adjustment Policies and DevelopmentPerspectives." - IBRD, Report No. 3954-YU and "Structural Adjustment Loan"IBRD, Report No. P-3606-YU.

2/ A high-level body of Yugoslav policy-makers and academics, known as the"Commission on Economic Stabilization", was formed in the second half of1981 to prepare a comprethensive blueprint for reform in a wide variety ofsubject areas. The Commission issued a series of working papers over thecourse of 1982 and the final report is issued. The term "stabilization"is used rather broadly in Yugoslavia to denote an overall policy ofbalanced development, rather than just the achievement of internal andexternal macro-economic balance.

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Yugoslavia declined to about $2.0 billion, cormpared with $4.2 billion in1980. Short-term capital outflows placed further pressure on the balance ofpayments. The Government, in the second half of 1982, experienced mountingexternal liquidity difficulties. By the beginning of 1983, total foreignexchange reserves were $1.7 billion, or one month's imports from theconvertible areas. External resources remained approximately unchanged in the

first half of 1983. Imports have, consequently, been further tightened. Toease the foreign exchange problems, the Goverament requested the assistance ofthe Bank and other donors. In response, the Bank, in June 1983, approved aStructural Adjustment Loan (SAL) of $275 million to assist the country in itsforeign exchange problems and in its attempt to overcome structuraldeficiencies in economic management.

1.03 The lack of availability of foreign exchange and tightening ofimports seriously affected the Yugoslav fertilizer industry, which reliesheavily on imported raw materials. Of the total production value offertilizer, imports represent about 40%; of this 60% are from the convertiblecurrency areas. In 1982, due to foreign exchange constraints, the plannedtarget of 2.8 million tons of fertilizer production was not achieved; onlyabout 2.6 million tons were actually produced. Similarly in 1983, aproduction of 3.1 million tons of fertilizer was planned; this was

subsequently revised downward to 2.8 million tons; in fact, in the end, onlyabout 2.6 million tons were produced, or the same as in 1982. The lack ofadequate fertilizer has adversely affected agricultural production, inparticular grain, resulting in a decline of agricultural exports as well asnecessitating grain imports, thereby further exacerbating the balance ofpayments problems. Inadequate domestic availability of fertilizer, coupledwith the imbalanced distribution of fertilizer in the domestic market, hascontributed significantly to the poor performance of the agricultural sector(para 2.03). At the same time, the fertilizer industry, in particular ammoniaplants, due to outdated technology (high energy consumption) is not fullycompetitive and appears to need modernization/rehabilitation. However, beforesuch a plan of action could be developed, detailed energy audits and technicalstudies would be required to determine technicalL and economic viability and toplace the industry on a sound footing.

1.04 In view of this, the Government requested the Bank to providefinancial assistance to the fertilizer sub-sector. The Bank, recognizing thecritical importance of fertilizer for the revival of agriculture and, in turn,the economy as a whole, sent a Review Mission in October 1982, followed by apre-appraisal mission in January 1983. A comprehensive Project Briefexamining the sub-sector's structural issues was prepared and recommended afuture course of action. This appraisal report is based on the findings of anappraisal mission consisting of Messrs. S. Bbatia (Mission Leader), R. Heath,H. Aomatsu and F. Anderson (Consultant) which visited Yugoslavia from May8-27, 1983. Mr. J. Ingram (Programs) and Ms. N. Lichtenstein (Legal) alsoparticipated. However due to policy considerations, a longer deliberationperiod than usual was required in the country, resulting in follow-up missionsand a delay in loan negotiation.

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1.05 The proposed Sector Loan (SL), to be made under the Special ActionProgram for Yugoslavia, would provide the foreign exchange for imports of rawmaterials and spare parts to iincrease the domestic availability of fertilizerfor 1984 (Fall) and 1985 (Spring and Fall). 1/ The SL would address policyand institutional issues of domestic distribution, and assist the Governmentin the long-term modernization and rehabilitation of the domestic fertilizer

industry, through the financing of technical studies. This would thus form anintegral part of the Government's on-going Fertilizer Development Plan(1981-1985). The SL would be the first of its type in Yugoslavia dealing witha critical sub-sector nationwide and attempting to overcome the structuralproblems of the sector, both from the long and short-term points of view. TheSL, by increasing domestic fertilizer availability, would assist theGovernment in its major objective of raising grain production and therebyassist the balance of payments situation and on-going stabilization efforts.

II. AGRICULTURAL SECTOR

A. Role and Performance

2.01 The Agricultural Sector, in spite of its declining share of

Yugoslavia's social product ia the post-War period, remains critical inoverall economic development. It contributes about 12% of social product andemploys about 30% of the country's active population, primarily in rural areaswhere few alternative gainful employment opportunities exist. This section of

the rural population, with a per capita income of under $850 per annum, is inthe relative poverty target group. Agriculture contributes income for onethird of the total population. In addition, agricultural exports constitutean important source of foreign exchange for the country (contributing about12% of total exports). In 1983, it was planned that agricultural exportswould contribute about $1.0 billion; this target was not achieved due to thegeneral decline in international prices for agricultural products. Moreover,about 2/3 of Yugoslavia's agricultural exports took place under barter deals.However, the country has a large agricultural reserve base and favorableclimatic conditions, providing essential ingredients for a rapid growth of thesector, with a significant potential to contribute in overall economicdevelopment.

2.02 Agricultural production is undertaken by three groups - the SocialSector, 2/ the Cooperatives 21 and the Non-Contracting Individual (NCI)farmers. The Social Sector consists of Agrokombinats which own their land andoperate on a large scale (an average of 800-1,200 ha) with modern,capital-intensive facilities and well-trained staff. However, the SocialSector, in general, is neither noted for its dynamic commercial organizationnor its efficiency. Agrokombinats, in addition to cultivating their own land,provide credit, inputs and other assistance to those individual farmers whoenter into contracts with them for the sale of their products. TheCooperatives, known as "zadrugas", are basically associations of individual

1/ The fertilizer provided under the Loan would be mainly used for theproduction of wheat and mlaize. The fertilizer for these two crops isapplied in Spring and Fall. The Spring application generally takes place

mid-February to mid-March and the Fall application end-October tomid-December.

2/ Including individual farm,ers who enter into contracts with theseorganizations for the sale of their products.

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farmers and are managed by elected officials. Members, in fact, have verylittle say in the management of the Cooperatives (para 2.08). While retainingthe rights to their land, members receive credit, agricultural inputs andtechnical assistance. In return, farmers must sign an agreement to sell theirproduce to the Cooperatives which market it to the Social Sector and to otherGovernment enterprises (flour mills, etc.). Variations exist in the types ofassociation contracts. Some farmers have long-term contracts, while othersmay have short-term contracts covering the production and marketing of onlyone or more crops. The major feature of all these contracts (withAgrokombinats or Cooperatives) is that repayment of credit, inputs, etc.should be made in agricultural produce, in order to control the marketablesurplus (para 3.12). NCI farmers are those who are in no way associated witheither the Social or Cooperative Sectors in the production or marketing oftheir produce. The distribution of total arable land between these threegroups and their contribution in agricultural production are discussed inparas 2.08 to 2.12.

2.03 A review of the agricultural sector performance in Five-Year Planperiods, commencing in 1961, indicates that the agricultural sector failed toachieve its planned target growth rates, although these were realistic.

Table 1

Annual Rates of Growth of Agriculture(in %)

Period Planned Realized % Realized

1961-65 7.5 1.4 191966-70 4.6 3.0 651971-75 3.5 2.8 801976-80 4.0 2.0 501981-85 4.5 2.0 /a 44

/a Related to 1981-82 period.Source: "Long-Term Programme of Agroindustrial Production". Belgrade,

1983

Agricultural production grew slower than the demand for food products,resulting in increased imports, particularly of wheat, oil crops, proteinnutrients, etc. The major reason for this is the Government's over-relianceon a Social Sector suffering from poor management and often inappropriateinvestment choices, while ignoring the potential of the Individual Sector.This attitude influenced the Government's policy for both investment and inputsupply, favoring the Social Sector. The causes of the Plan's failures havebeen examined in detail by a group of Yugoslav experts, which was commissionedto analyze the long-term program for agricultural sector development, as apart of the Economic Stabilization Program. Their report (hereafter referredto as "the Yugoslav Agricultural Stabilization Report") states that"appropriate economic and social preconditions were not created" and that theagrarian policy was not responsive. 1/

1/ Long-Term Programme of Agro-industrial Production, Report of theCommission of Federal Social Advisors for Economic Stabilization Problems,Belgrade, 1983, p. 3, para 2.1.

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1976-80

2.04 In the last Plan period, 1976-80, agriculture grew by 2% per annum,against a planned growth of 4%. Crop production was virtually stagnant; agrowth rate of only 0.4% was recorded, compared to a projected 5%. Moreimportant, the performance disparity between the Social and Individual sectorswas clearly evident, particularly taking into consideration the fact that theindividual farmers own a substantial share of the total arable land (para2.08).

Table 2

Agricultural Performance 1971-80(average annual growth rates in %)

Total By Type of Production By SectorAgriculture Crop Livestock Other Social Individual

1976-80Plan 4.0 4.8 4.0 3.6 8.0 3.0Actual 1.9 0.4 3.1 2.0 4.6 0.6

1971-75Actual 2.7 2.3 5.4 -2.2 5.6 1.8

Source: Federal Institute of Planning, Belgrade.

Agricultural exports declined and their share in total export earnings droppedfrom 13% in 1976 to 10.6% in 1980. At the same time, agricultural importsincreased from 0.6 million tons in 1977 to about 1.4 million tons in 1980,with wheat and animal feed accounting for 90% of imports. This furtheraccentuated the balance of payment problems.

1981-85

2.05 The 1981-85 Plan for the agricultural sector pursues fundamentallythe same objectives as the preceding Plan. Specifically, emphasis is placedon increasing primary production to meet domestic demand, thus reducingimports, particularly of wheat, and expanding agricultural exports to ease thecritical balance of payments situation. Intensive cultivation of currentlyunused and abandoned lands through land reclamation work and Social Sectorpurchase is emphasized. Agricultural output is planned to grow at an annualrate of 4.5% (Social and Individual sectors at 6% and 4% respectively).Agricultural exports are projected to grow at an annual rate of 10% andimports to fall to 5%. To achieve these objectives, the Plan provides forinvestment equal to 9.6% of total production investment in the Social Sector.Overall, the Plan, assessed against past performance, and with minimal changein the policy framework, represents a relatively optimistic view ofagricultural production possibilities. 1/

1/ The planning procedure for 1981-83 period has been amended and the revisedapproach including targets; will be reflected in the Gray Cover version.

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2.06 The 1981 agricultural performance was dismal - production increasedby only 1% over 1980, inclement weather being cited as the major cause. Ahealthy recovery was recorded in 1982 - total agricultural productionincreased by about 6% over 1981; however a shortfall in basic food items,particularly wheat, continued. Exports did not show any improvement. In1983, preliminary estimates indicate that grain production fell short of theplanned targets; the country has already announced 1.4 million tons ofagricultural imports, wheat being the major item. In the meantime, due toeconomic problems and the stabilization program (para 1.01), the targets forthe 1984-85 period are being revised downward. The above Plan performancereview indicates that the sector is constrained by structural deficiencieswhich preclude the realization of its potential. Without basic corrections,sector performance will continue to pose problems.

B. Structural Issues

2.07 The Bank, together with the Government of Yugoslavia, is undertakinga comprehensive review of the agricultural sector. The results are expectedto be available by the middle of 1984. The only factors which have beenexamined here are those which directly affect the fertilizer sub-sector andgrain production - the main areas of concern of the proposed Loan. With thisin mind, the major issues are examined below.

Production Organization/Policies

2.08 The Government's stated policy is to integrate all individual farmersinto the socialized production system 1/ in order to organize agriculturalproduction more efficiently. However such integration has not progressed asplanned. At the end of 1982, of total arable land, the Social Sector occupiedabout 19% 2/, the Cooperatives about 36% 2/ arLd the NCI farmers about 45%. Adetailed breakdown by Republics and Provinces is given in Annex 1. TheFederal Chamber of Economy (FCE) and the National Association of Cooperativesestimate that out of 2.6 million farm families in Yugoslavia, about 1.1 to 1.2million families (45%) are still classified as NCI farmers. The distributionof land owned by such farmers, in different Republics and Provinces, varies.For example, in the Socialist Republics (SR) of Bosnia-Herzegovina, Croatia,Montenegro and the Socialist Autonomous Province (SAP) of Kosovo, the NCIfarmers own between 50-80% of total arable land, while in Slovenia andVojvodina, this percentage is only 10% and 15%, respectively (Annex 1). Theland distribution pattern for the country as a whole has remained basically

1/ "This means the extension and economic strengthening of the Social Sector,the development of farmers' Cooperatives and associating, taking intoaccount various forms of cooperative collaboration of farmers' personalwork with the Social Sector." - Long-Term Programme of Agro-industrialProduction, Report of the Commission of Federal Social Advisors forEconomic Stabilization Problems; Belgrade, 1983, p. 6, para 3.2.

2/ The land distribution figures presented above for the Social andCooperative Sectors also include those individual farmers who have chosento associate themselves by means of production and/or marketing contracts.

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unchanged for the past decade. The Yugoslavia Agricultural StabilizationReport, examining the causes for the slow integration, concludes that theprogress in socialization of individual farmers is "stagnant", due to the lackof appropriate economic incentives to the individual farmers, as well as aninept and inert management of Cooperatives. 1/

Input Distribution

2.09 At present, the Government relies for agricultural input distribution(fertilizer, credit, etc.) on Agrokombinats, Cooperatives and to a minorextent on the Trading Agencies. This leads to a discriminatory policyfavoring the Social and Cooperative sectors particularly in times of inputshortage. Agrokombinats, in spite of giving the impression that they areoriented towards the social and economic betterment of the total farmingpopulation, act basically like a private monopoly. Their input distributionactions are primarily guided by their interests as producers. In view ofthis, other producers are simply considered as their competitors andAgrokombinats/Cooperatives have naturally very little interest in assistingthose who will not contribute to their goals. Thus, there is an inherentconceptual problem with the present distribution policy.

210 This is clearly evident in the case of fertilizer distribution andconsumption. Between 1977-1981, of the total domestic fertilizerdistribution, about 35% was consumed by the Social Sector, 60% by Cooperativesand the residual (5%) by NCI farmers (para 3.06). As of the beginning of1983, due to fertilizer shortages, there has been a practice of not makingfertilizer available to those farmers who are not associated with the Socialor Cooperative Sectors (para 3.10). This distribution/consumption pattern hasvery little relationship either with the actual land ownership as shown inpara 2.08 , or with contribution to total grain prodiction. The Social andCooperative Sectors together produce about 60% of total wheat and 40% of totalmaize production. The remainder, a substantial percentage, is contributed byNCI farmers.

2.11 Similarly, no formal credit and very little technical guidance isavailable to the NCI farmer. His association with the Social or CooperativeSectors alone renders him eligible for credit consideration. There aremodern, well-equipped and well-staffed agricultural research institutes ineach Republic/Province; however, since these are financed by Agrokombinats andCooperatives, attention is paid mainly to Social Sector needs. For example,at present in Yugoslavia, only the Social Sector's soils are analyzed on aregular and scientific basis. An overall review/modification of theproduction organization and policies, input delivery and technical assistancesystem is an appropriate focus of future projects (proposed MontenegroRegional Development Project) and of the proposed SAL II.

1/ "... the self-management r;ights provided by the Constitution andAssociated Labor Act were not used in order to support their economic andsocial interest for higher production results and farmers cooperativedevelopment. On the contrary, those rights were often and vehementlyusurped." - Long-Term Programme of Agro-industrial Production, Report ofthe Commission of Federal Social Advisors for Economic StabilizationProblems; Belgrade, 1983, p.7.

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2.12 Thus the Government's present policy, which effectively excludes NCIfarmers from formal access to credit and inputs is, in fact, hinderingrealization of the full potential of agricultural production. In no way doesit appear to contribute to the Government's critical on-going stabilizationprogram. In view of this, at least in the short run, the agricultural inputdistribution policy, particularly for fertilizer, should be re-oriented tomeet present economic needs (para 7.05). This assessment is clearlyrecognized by the Yugoslav Agricultural Stabilization Report which concludesthat:

"Even to unassociated farmers, it is necessary to create economicconditions to produce more, acquire higher incomes, produce more forthe market and to be stimulated by the economic policy to associatewith the aim to be more rational in business doing, market approachand inclusion into the mechanism of self-management system." 1/

III. FERTILIZER SUB-SECTOR

A. Plan Performance

Planning/Organizations

3.01 For each Five-Year Plan period a comprehensive, detailed FertilizerProduction/Consumption Plan is prepared; such Plans are broken down byRepublics and Provinces, by sectors (Social and Individual), by crops and bySpring and Fall applications. The 1983-85 Consumption Plan (excerpted fromthe 1981-85 Plan) is presented in Annex 2. Detailed Plan preparation isundertaken by the FCE, in close cooperation and association with theRepublican/Provincial Committee for Agriculture, the Association ofCooperatives and Agrohemija (a business community representing 11 fertilizercompanies in Yugoslavia). Plans are reviewed every year, again in detail, andare adjusted in light of needs and circumstances. The FCE, established underthe new Constitution and Associated Labor Act, has counterparts at theRepublican, Provincial and regional levels. The Republican Chambers ofEconomy have offices at Regional and Commune levels which, in association withthe fertilizer users, namely the Social Sector (Agrokombinats) andCooperatives, assess fertilizer needs and prepare a Plan for their region. Intheory, in preparing such a Plan, the requirements of all agricultural users,including NCI farmers, should be taken into account. However in reality, dueto the lack of active communication between Planners and NCI farmers, thelatter's needs are not adequately reflected.

3.02 Regional plans are forwarded to the Republican Chamber of Economy,where they are reviewed by the Republican authorities and agencies - theCommittee for Agriculture, the Secretariat for Markets and General Economics,the Association of Cooperatives and the Trading Organizations responsible forfertilizer distribution for the Republic. After the plan has been approved bythe Republican authorities, it is forwarded to the FCE in Belgrade, where the

1/ Long-Term Programme of Agro-industrial Production, Report of theCommission of Federal Social Advisors for Economic Stabilization Problems,Belgrade, 1983, p. 31.

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plans are collated. The plans are reviewed and finalized at the Federal levelby the Federal authorities and agencies - the Committee for Agriculture, theSecretariat for Markets and General Economics, the National Association ofCooperatives and Agrohemija.

Monitoring

3.03 Once a fertilizer plan has been finalized, its implementation ismonitored very closely. The Regional Chamber of Economy is primarilyresponsible for following and monitoring its implementation. A weekly reportis prepared by them, outlining the achievement of the planned targets(percentage of fertilizer received and its distribution by farm location andapplication by crops, etc.) and this is sent to the Republican Chamber ofEconomy which collates the information and prepares a monthly report for theRepublic/Province as a whole. Copies of such reports are forwarded to theRepublican and Federal authorities. Inspectors from the Committee ofAgriculture and the Secretariat for Marketing and General Economics visit theRegional offices and ensure that correct reporting is undertaken by theRegional Chamber of Economy. In short, the present arrangements for themonitoring of plan implementation are comprehensive and satisfactory.

Fertilizer Plan Performance

3.04 The current 1981-85 Fertilizer Production Plan has, in its first twoyears, failed to achieve its planned targets, mainly due to foreign exchangeconstraints in importing raw materials for fertilizer production. Forexample, in 1982 the production target was 2.8 million tons. In fact, only2.6 million tons were produced. Similarly in 1983, only about 2.6 milliontons of fertilizer were produced against a Plan target of 3.1 million tons.

3.05 According to the Plan, in 1984 and 1985, domestic fertilizerproduction is expected to be about 3.8 million tons and 4.0 million tonsrespectively. Detailed breakdowns, by types of fertilizer, are given below:

Fertilizer Production

1984 1985--- in '000 tons---

CAN 992 992Urea 535 625NPK 2,320 2,424Total Production 3,847 4,041

Source: Agrohemija, Belgrade, 1983.

However, it should be noted thiat, as mentioned earlier, due to theStabilization Program, all plans, at present, are being reviewed andadjusted. It is now planned that in 1984 and 1985, domestic fertilizerproduction will increase by 15% annually over the actual 1983 figure(2.6 million tons), i.e. 3.0 mtillion tons in 1984 and 3.45 million tons in1985. This appears realistic and is also in line with the country'sabsorptive capacity (para 5.04).

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B. Consumption

3.06 Between 1977-81, domestic consumption recorded an annual increase ofabout 3% per year. Of total fertilizer consumption, it should be noted that85% is consumed by the SR of Croatia, Serbia, Slovenia and the SAP ofVojvodina, the major grain producers in the country. More important is thatwhile overall fertilizer consumption in the Social and Cooperative Sectorsincreased, the quantities available for the NCI farmers, in the country as awhole, in fact declined from 243,000 tons in 1977 to 93,000 tons in 1981. In1982, a very insignificant quantity (about 50,000 tons) of fertilizer was madeavailable to them.

Table 3

1977 1978 1979 1980 1981----------------(in '000 tons)--------------

Fertilizer production 2,501.0 2,580.0 2,634.0 2,541.0 2,805.0Imports 9.0 39.0 110.0 167.0 228.0Total availability 2,510.0 2,619.0 2,744.0 2,708.0 3,037.0

Export 211.0 266.0 369.0 503.0 400.0Available for domesticconsumption 2,299.0 2,353.0 2,375.0 2,205.0 2,633.0

of which consumed by:Social Sector 792.0 775.0 797.0 724.0 952.0Cooperative 1,264.0 1,372.0 1,406.0 1,407.0 1,588.0

Sub-total 2,056.0 2,147.0 2,203.0 2,131.0 2,540.0NCI Farmers 243.0 206.0 172.0 74.0 93.0

Source: Federal Chamber of Economy and the National Association ofCooperatives, Belgrade, May 1983.

This has resulted from the shortage of fertilizer available in the country aswell as from the complete control of domestic fertilizer marketing anddistribution by the Social Sector (paras 3.11 to 3.14). The Social Sector hasfirst call and is under few economic constraints in fertilizer application.As a result it has passed the peak of the response curve, while NCI farmerslag far behind, resulting in significant yield differentials. A detailedbreakdown is given in Annex 3 and summarized below:

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Table 4

Average Fertilizer Rates and Yield of Field Crops in Yugoslavia - 1982(for all Provinces and Republics)

Fertilizer Application YieldSector Sector

NCI /a NCI /aCrop Social Cooperative Farmers Social Coo erative Farmers

-- kg/ha-------------- ------------ton/ha-------------

Wheat 810 550 240 5.0 4.2 2.9Maize 1,050 830 340 6.5 5.6 4.4Barley 600 450 160 3.8 3.2 2.1Soybean 415 400 - 2.2 2.1 -Sunflower 650 550 - 1.9 1.8Sugarbeet 1,070 900 - 43.2 41.8

/a NCI = Individual farmers with no contract for the grain crops with eitherAgrokombinats or Cooperatives; application rates are estimated.

Source: Federal Chamber of Economy, Belgrade, May 1983.

3.07 It is generally agreed in Yugoslavia that additional application offertilizer in the Social Sector would not result in increased production ofgrain. In fact present application rates are sufficient to produce evenhigher yields than are attained at present. For example in the Social Sectorin Croatia and Vojvodina, about 260 kg of fertilizer per ha (in activenutrients) is applied for maize, providing a yield of 6.5-6.9 tons/ha. Withthe same chernozem soil conditions that exist in these areas, a similarfertilizer application in the U.S. would provide a maize yield of 7.5tons/ha. In short, it appears that fertility is not the limiting factor incrop yields in the Social Sector.l/ Rather, restraint in the use offertilizer in the Social Sector would be more appropriate and economic.

3.08 Although the Cooperative Sector consumes about 60% of the totalfertilizer available for the domestic market, its application rates are belowthe Social Sector. This is also reflected in present yields. Additionalfertilizer would provide some small increase in yields.

3.09 The largest potential increase from additional fertilizer applicationwould be from the NCI farmers, since their present fertilizer applicationrates are significantly lower. It should be noted that hybrid maize and wheatvarieties are now available to the NCI farmers on a cash basis throughresearch institutes at the local level and, therefore, the constraint on

1/ "The cause of the declining yields in the Social Sector during recentyears has to be found in the neglect of crop rotation system." Long-TermProgramme of Agroindustrial Production, Report of the Commission ofFederal Social Advisors for Economic Stabilization Problems, Belgrade,1983, p. 10.

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yields does not appear the result of seed quality, but rather of soilfertility. Both scientists and planners in Yugoslavia, based on pastexperience, believe that if adequate fertilizer were available, the NCIfarmers could double present yields in crops presently suffering from nutrientdeficiencies. Thus, the critical role of increased fertilizer use by the NCIfarmers requires special recognition at the policy level during the presentperiod of economic stabilization since this represents a low-cost,quick-yielding means of increasing output - the major objective of theStabilization Program.

3.10 Government officials have indicated that, due to the shortage offertilizer in the country, it has been necessary to suspend the past practiceof providing residual fertilizer to NCI farmers (para 3.14); fertilizer isgenerally made available only to the Social and Cooperative Sectors and to theindividual farmers who are associated with those sectors. However, failure toprovide fertilizer to the NCI farmers will have serious implications on grainproduction (para 7.05) and, in turn, on the Stabilization Program (para 7.06).

C. Marketing/Distribution

3.11 Fertilizer distribution is completely controlled by the Social Sector- the major channels being Agrokombinats and Trading Agencies, with the formerplaying the dominant role. Fertilizer plants market their production, at aGovernment fixed price (paras 4.17 and 4.18), directly to Agrokombinats, whichusually have some financial interest in these plants. The Agrokombinats actas wholesalers for a specified geographical area. In the contracts betweenthe Agrokombinats and the fertilizer plants, quantity, types and delivery timeare specified. Agrokombinats are responsible for transportation from theseplants. Most of the fertilizer is transported in bulk form and is shippeddirectly to the Cooperatives or Agrokombinat farms, where it is either applieddirectly to the fields or bagged and sold to contractual farmers.Agrokombinats charge a 2% margin for Cooperatives and contractual farmers.Cooperatives, in turn, distribute it to their members, at a margin of 4%,through their village shops, which market agricultural inputs, implements andfertilizer. Total marketing and distribution costs, including transportation,at present constitute about 17% of the retail price, which is reasonable.

3.12 Those farmers who enter into contracts receive fertilizer from theCooperative village shops or from Agrokombinats' organizations dealing withcontractual farmers. Farmers generally receive fertilizer on credit and areobliged to repay in the form of agricultural produce. Before obtaining thefertilizer, the farmers sign a printed form which frequently states only thequantity of fertilizer or other inputs received. Often, no mention is made ofthe value of the inputs received or the detailed terms and conditions ofrepayment. Thus the farmers are not aware of the prices of the fertilizer orthe amount to be repaid to the Social/Cooperative Sectors. This type ofambiguity tends to cause confusion, can lead to unfair terms and act as a

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deterrent to farmers to enter into such contracts. 1J The existing printedforms, if more comprehensively filled out, could resolve this issue and the

additional information would prove beneficial to both the Social andCooperative Sectors as well as to the individual farmers. The FederalGovernment has indicated its willingness, within the limits of its authority,to enforce this.

3.13 There are 29 major Trading Agencies spanning the country and involved

in the distribution and marketing of agricultural inputs. These agenciesoperate more than 1,700 retail shops, most with their own storage facilities,located in communes (on average 5-6 villages constitute a single commune).Annex 4 lists the names and the geographical coverage of Trading Agencies andthe number of retail shops owned by each of them. Until 1982, these TradingAgencies acted as wholesalers and retailers in the domestic marketing offertilizer, i.e. the Trading Agencies procured a portion of fertilizer fromthe plants and channeled it in a wholesale capacity to Agrokombinats and

Cooperatives, which, in turn, distributed it to their members, after havingmet their own requirements. A certain quantity of the total handled by the

Trading Agencies was sold on a cash basis, without obligation, to individual(generally NCI) farmers by retail shops. For such cash sales, triplicate

receipts were prepared - one for the customer, one for the shop's records andone was forwarded to the Trading Agency's headquarters. Based on suchreceipts, monitoring could be readily undertaken to determine the fertilizerquantity sold to NCI farmers with no new mechanism or system required (para6.14). In addition, based on the Mission's examination, it appears that thedistribution cost of fertilizer through the Trading Agencies' retail shops issomewhat lower than the prices charged by Agrokombinats and Cooperatives totheir members, since the latter organizations must cover the distribution costto villages, whereas the Trading Agencies, located in Communes, are not facedwith such delivery costs. Farmers transport fertilizer purchased at retail

shops by their own means (generally tractors).

3.14 However, as of 1982, sales of fertilizer through retail shops ceased(para 3.10). The Trading Agencies have continued to act as wholesalers only -distributing fertilizer to the! Agrokombinats and Cooperatives. The retailshops market other agricultural inputs and small tools to farmers, excludingfertilizer. Thus a comprehensive marketing infrastructure and system doesexist in Yugoslavia to handle fertilizer marketing to all segments ofagricultural producers, includling NCI farmers. However, to meet the needs of

the latter, a policy change and an increase in domestic fertilizeravailability are reouired (para 7.02).

1/ "The relation with farmers is often manager like - to buy at low pricesand to sell by the biggest margin .... Too big margins kept in this sectora bulky clerical apparatus, absence of working habits..." - Long-TermProgramme of Agroindustrial Production - Report of the Commission ofFederal Social Advisors for Economic Stabilization Problems, Belgrade,1983, p. 15.

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IV. FERTILIZER INDUSTRY

A. Industrial Sector

4.01 The industrial sector of Yugoslavia has been the leading sector inthe country's economic growth, and has played an important role in capitalformation of the economy as well as in foreign trade. While Yugoslavia'sGross Material Product (GMP) grew at an annual rate of 5.8% between 1970 and1980, the industrial sector grew at an annual rate of 7.3% during the sameperiod. In 1980, industry accounted for 39% of GMP, about 40% of fixed assetsinvestment, over 90% of merchandise trade, and one third of the labor force.After decades of rapid growth, the industrial sector is well diversified, andproduces a wide range of capital, intermediate and consumer goods. Thecountry, utilizing sizable domestic energy and mineral resou-ces, has alsodeveloped a number of important basic processing and extractive industries.The industrial sector is to play a central role in the process of externaladjustment called for in the 1981-85 Plan. The strategy of importsubstitution of the last Plan continues to be pursued, with increased emphasison import-substitution in capital goods. The Plan, however, puts a muchstronger stress on export-orientation. There is also to be an emphasis onrationalization and greater efficiency of investment planning, implementation,and completion of on-going projects. Energy, basic metals, minerals and basicchemicals (including fertilizer), capital goods and exports have beendesignated as priority activities for industrial investment.

B. Fertilizer Producers

4.02 There are 11 fertilizer producing enterprises located in fiveRepublics and two Autonomous Provinces. Production plants/units are organizedinto a Basic Organization of Associated Labor (BOAL).l/ Several BOALstogether constitute a Work Organization (WO). In turn, they are part of aComposite Organization of Associated Labor (COAL) which also deals in othereconomic activities (oil refinery, petrochemicals and metal refining). Thelocations of fertilizer producing enterprises are shown in the Map (IBRDNo. 17368). Many of these facilities were constructed 15-20 years ago.Details of installed capacity, technology used, etc. are given in Annex 5,Tables l(a) and (b) and are summarized in the following Table on page 15.

l/ Decision-making at all levels is governed by the principle of workers'self-management, involving a unique set of institutions and instruments ofeconomic policy. The current system has evolved over the years with major

changes introduced through the Constitution of 1974.

Table 5

FERTILIZER ENTERPRISFS IN YUGOSLAVIA

Year ofEnterprise Location Establishment Production Capacity Remarks

Nitrogen ('000 tpy N) Phosphate ('000 tPY P205)Ammonia Processing P205 Processing

Tovarna Dusika Rose Slovenia 1963 - 12.5 - - NPK processing only.

INA Petrochemijal/ Kutina, 1968 176.6 154.6 37.2 58.4 Major ammonia production capacity based an nearby natural gas;Croatia INA is part of the largest COAL in Yugoslavia, responsible for

546.2 494.7 202.2 218.4 activities in fertilizers, refineries, petrochemicals, oil and(1983) (1984/85) (1984/85) (1984/85) gas emploration and trade; major capacity exapnsion is underway

for both nitrogenous and phosphatic fertilizers.

Zorka Subotical/ Subotica, 1954 - 12.0 17.0 51.0 Intermediates are supplied by others; capacity expansionVojvodina is underway.

111.0 62.0 96.0(1985) (1985) (1985)

Agrochem. Novi Sad, - 21.0 - 21.0 Established by IHP, Prahavo for NPK manufacture only.Vojvodina

HIP Pancevol/ Pancevo, 1962 254.1 188.2 - 32.0 Major ammonia production capacity based on nearby natural gas;Vojvodina major capacity expansion is underway.

508.2 326.2(1984) (1985)

Zorka Sabac Sabac, 1954 - 62.9 148.5 82.2 Zorka Sabac is part of the Zorka COAL including mining and refinerySerbia of zinc, lead, and pyrites ores which are used for sulfuric acid and

phosphatic fertilizer manufacture.

IHP Prahavol/ Prahavo, 1962 - 17.9 218.1 17.9 Major phosphatic fertilizer producer relying e sulfur sources ofSerbia nearby zinc smelters and pyrites; damaged facilities are due back into

318.1 operation in 1984.(1984)

Trepca Mitrovica Kosovo 1964 - 16.5 75.1 22.0 Minor phosphoric acid producer with associated NPK facilities.

Azotara Obilic Kosovo 1972 89.72/ 79.0 - - Due to the lack of feedstock, ammonia production facilities have neveroperated.

Azotara Lukavac Lukavac, 1962 26.4 26.0 - - Minor ammonia producer.Bosnia-Herzegovina

NI Veles Tito Veles, 1980 - 18.0 50.0 29.3 Minor phosphoric acid producer with associated NPK facilities.Macedonia

Present Total Capacity 457.1 608.6 545.9 313.8Future Total Capacity 1 ,080.8 1,185.7 855.9 518.R

1/ Future total production capacities including those under construction andscheduled completion years are indicated.

2/ Not included in the totals.

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4.03 As can be seen from the Table, HIP Pancevo and INA Petrochemija arethe two major nitrogenous fertilizer producers, accounting for 94% of thetotal ammonia production capacity of Yugoslavia. IHP Prahavo and Zorka Sabacare the major phosphatic fertilizer producers, accounting for 67% of the totalphosphoric acid production capacity of the country. When the planned newphosphoric acid and related MAP and NPK facilities of INA Petrochemija arecompleted, INA will become another major phosphatic fertilizer producer,accounting for 25% of the future total capacity of the country.

C. Fertilizer Production and Capacity

4.04 Historically, Yugoslav nitrogen production has relied substantiallyon imports of ammonia, nitrogen solutions (ammonium nitrate plus ammonia), andammonium sulphate for further processing into calcium ammonium nitrate (CAN)and NPK fertilizers to supplement local nitrogen production. Details ofnitrogenous fertilizer production, imports and exports of intermediaries andfinished products are given in Annex 5, Table 2. In brief, between 1975-82,despite yearly fluctuations, the production of nitrogen (active nutrient)recorded an increase. During the same period, Yugoslavia imported about 28%of primary nitrogen requirements, principally a[mmonia (57% of the total),nitrogen solutions (ammonia plus ammonium nitraste in water) and ammoniumsulphate. In many instances, in the same year Yugoslavia has both importedand exported finished nitrogenous fertilizer products, such as urea and CAN.However, on balance, during the period under review, the country has been anet importer of urea (25% of urea production) and a net exporter of NPK (16%of NPK production).

4.05 Of the total existing capacity of 608,000 tons of nitrogen offinished products (CAN, urea, and NPK/MAP), approximately 177,000 tons ofnitrogen production is based on imported intermediaries. The facilities underconstruction would more than double current domestic ammonia productioncapacity from 457,000 tons to 1,080,000 tons of nitrogen and finishednitrogenous fertilizer production capacity from 609,000 tons to 1,186,000 tonsby 1987. This would still leave a deficit of some 105,000 tons of primarynitrogen, to be obtained through imports in order to operate the processingfacilities at designed throughput. It is also estimated that while CAN, atpresent accounts for about 44% of nitrogenous materials 11, its share willdecline to 32% by 1987 and urea will become the major (38%) nitrogenousfinished fertilizer and NPK fertilizers will form about 30%.

4.06 Present primary phosphates production capacity is 546,000 tpyP205 2/ against a finished NPK processing capacity of 314,000 tons tpyP205. With the completion of the facilities under construction at INA andSubotica, and the reconstruction of a phosphoric acid plant at Prahavo by1985, primary phosphate production capacity would increase to

1/ At present, nitrogen in NPK accounts for about 41% with the remaining 15%accounted for by urea.

2/ Includes straight phosphate fertilizers.

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856,000 tpy P205 against a finished processing capacity of 519,000 tpyP205. The apparent imbalance between primary and finished phosphateproduction capacities is due to exports of both SSP (to the USSR) and TSP, theoperation of NPK facilities at considerably higher than nominal capacity, andthe non-fertilizer uses of phosphoric acid. Although SSP was formerlyimportant for direct application, its use, since the early 1960's, hasdeclined and has generally been replaced by NPK blends, which also provide forall potash applications. Details of phosphatic fertilizer production and netexports are given in Annex 5. Table 3.

D. Capacity Utilization

4.07 Capacity utilization for ammonia and nitrogen processing plants,compare favorably with international industry standards. Capacity utilizationat INA and Azotara Lukovac is better than the industry's average of 90%. Thecapacity utilization at Pancevo since 1971 has averaged 83%. The majorreasons for the relatively marginal performance have been process designfaults and mechanical problems with the centrifugal compressors that limittheir reliability and performance. Similar problems with the same plantdesign have been common in the industry. Capacity utilization for thephosphoric acid industry has ranged, since 1970, from a low of 30% to a highof 88% as against an expected industry norm of 90%. Capacity utilization overthe period 1970-81 has averaged approximately 75%. The major reason for thislow figure has been problems at the Trepca Mitrovica plant stemming from theselection of an unproven process and lack of financial resources to rectifyprocess design defects that became apparent during initial operation. Therecent poor start-up performance of the Tito Veles plant in Macedonia has beendue to the relative inexperience of this new company and shortages of foreignexchange for the commissioning phase of operation during 1980, 1981 and 1982.Plant operation and maintenance is generally of a high standard, particularlyin the larger companies, and, except as noted, the technology used isappropriate.

E. Raw Materials

4.08 All of Yugoslavia's ammonia plants, including those underconstruction, with the exception of Lukovac and Obilic, are based on naturalgas, the most efficient and economic raw material for nitrogenous fertilizerproduction. The original ammonia plants (HIP and INA) were based on nearbydomestic gas fields but, due to nationally increased gas consumption, whichnow exceeds domestic sources, the increased gas requirements arising from theexpansion plants of HIP and INA will be supplied by gas from the USSR.Domestic natural gas has been sold to ammonia producers at pricessubstantially lower (50-80%) than those for imported gas, which areessentially at international fuel oil price parity costs. However, under SAL,the Government has agreed to increase domestic gas prices to world marketprice levels over the next several years.

4.09 The impetus for development of the phosphatic fertilizer industry hasbeen the availability of sulphuric acid (required for SSP and phosphoric acidproduction) as a by-product from smelting of local ores (sulphide of copper,zinc and lead). Iron pyrites, a by-product of non-ferrous metals operations,is also used to produce sulphuric acid. As a result, phosphate fertilizersare produced close to smelters, located at Bor in Serbia, Trepca in Kosovo and

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Titov Velas in Macedonia. The one exception is the new INA plant in Croatia,which is based on imported sulphur. There are no commercial phosphate rock orpotash deposits in Yugoslavia; all requirements are imported.

F. Structure of the i[ndustry

4.10 Fertilizer producers are structured strongly along regional lineswith the development of capacity initiated by the needs of theRepublic/Province in which the enterprise is located. The producers withineach region have strong links with Agrokombinats or Cooperatives throughlong-term agreements under which most of the fertilizer for domesticconsumption is sold. As a result, Agrokombinats often provide long-termfinancing for capacity expansion, necessary foreign exchange, and on occasion,even payments to offset losses of the fertilizer enterprises. Due tomarketing agreements with Agrokombinats, the fertilizer producers do not havetheir own sales, marketing and distribution setup; and do not provide evenrudimentary extension services.

4.11 The regional basis for capacity development has worked quite well forregions with access to regional raw materials (Croatia, Vojvodina, and Serbiafor natural gas; Serbia and Vojvodina for sulphuric acid). However, in otherareas the desire for regional self-sufficiency has tended to distortdevelopment; i.e. construction of small uneconomically sized phosphoric acidunits in Kosovo and Macedonia, high cost coal-gasification based ammoniaproduction in Kosovo, and the recent construction of imported sulphur-basedphosphoric acid capacity by INA in Croatia. The promotion of national ratherthan regional priorities is one of the major functions of Agrohemija, theBusiness Community of Fertilizer Producers. However, while Agrohemija carriesout useful work in investigating technical problems, coordinating imports andexports, and as a channel for communication with Federal authorities inparticular on pricing, it has not succeeded in breaking down interregionalbarriers.

4.12 Under the present fertilizer investment planning system, eachfertilizer enterprise first initiates its own investment plan, which afterapproval by the workers and the Republican/Provincial authorities is presentedto Agrohemija. At Agrohemija, investment plans of the various fertilizerenterprises are reviewed by member enterprises to reach general agreement ontotal investment size and new capacity and product mix. The draft plan isthen presented to the FCE as well as to the Republican/Provincial Chamber ofEconomy. The FCE examines the plan to determine its overall suitability withYugoslavia's macro development plan, fertilizer demand/supply perspectives,financial viability of the projects, foreign exchange, energy and rawmaterials availability, and other relevant factors. The staff of the FederalCommittee for Agriculture, the Federal Secretariat for Finance, and theFederal Committee for Industry and Energy are also involved in the evaluationof the plan to provide needed information and overall coordination. Inpractice, investment plans with strong regional backing (including financing)invariably pass the various screening levels.

G. Production Economics

4.13 The economic viability of three of the four existing ammonia plants(accounting for 94% of ammonia production capacity) and the INA plant underconstruction has been reviewed. The existing plants have very high energy

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consumption and this has adversely affected their economics (Annex 5,

Table 4). As compared to the present imported ammonia cost of about $175 per

ton CIF (expected to rise to $255 per ton by 1990, in 1983 prices), the directeconomic production costs of ammonia in the three existing plants range from

$246 to $283 per ton (excluding depreciation, interest and capital charges)with a weighted average of $262 per ton. The new ammonia plant of INA will

have an economic direct production cost of about $198 per ton, indicating thateven this plant can be marginally economic only in the long term, and is

unlikely to generate any meani.ngful return on the original investment.

4.14 The reason for this is that the existing ammonia plants, constructed

between 1960-70 when energy costs were low, were designed on the basis of

minimizing initial investment cost, even though this implied relatively high

energy consumption during operation. For example, modern plants consume about7.3 million kilocalories (kcaL) per metric ton of ammonia produced, whereas

Yugoslav plants consume about 10.9-12.4 million kcal per ton of ammonia. Theimpact of high energy consumption on production costs is substantial, since

typically about 85% of the production costs are for energy (natural gas,electricity and steam). Although at present uneconomic, there is a strong

likelihood that many of the existing ammonia plants could be economicallyrehabilitated, if energy conservation investments were to be implemented.

However the extent to which these investments would be able to reduce energyconsumption and render the plants economically viable could only be determined

on the basis of energy audits and detailed engineering studies for each plant(para 6.08).

4.15 The economic viability of the downstream ammonia processing units

(urea and CAN) has been reviewed (Annex 5, Table 5), and their economic directproduction costs are well below economic benefits. Hence, the financing ofimports of ammonia and ammonia-related intermediaries for production of urea

and CAN is justified on economic grounds.

4.16 In the phosphatic fertilizer industry, the traditional source ofsulphuric acid for the production of phosphoric acid has been the domestic

smelting industry and local pyrites. These sources of sulphuric acid havegiven Yugoslavia a competitive advantage in the production of phosphate

fertilizers, compared to other countries which may need to import bothphosphate rock and sulphur. The economic viability of existing phosphoric

acid production, based on domestic pyrites, has been reviewed (Annex 5,

Table 6). The economic production costs of $285 per ton of P20 5 comparesfavorably with a cost of $318 per ton of P2 05 for imported phosphoricacid. Hence the financing of imports of phosphate rock for the existing

phosphoric acid production is economically justified. However, in the case of

the new INA phosphoric acid plant (Kutina), scheduled to commence productionin 1984, the economics are less favorable due to the high cost of imported

sulphur required in the production of phosphoric acid (Annex 5, Table 7). TheBank has explained the issues involved and recommended to the Governmnent thatinterim measures should be taken to improve the economics of the new INAplant. It was confirmed by the Government during negotiations that for

phosphate rock financing under the loan, before a purchase order is placed forthe procurement of rock and sulphur, the sub-borrower would also obtain

quotations for the supply of phosphoric acid, in order to ascertain if at thattime, the processing of raw materials is more economic than importing the

phosphoric acid. only if processing the raw materials is more economic wouldthe sub-borrower place the purchase order for the phosphate rock; other

questions, if any, would be examined and resolved under the proposed technicaland energy studies (para 6.08).

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H. Prices

4.17 Efforts are being made to bring domestic prices of finishedfertilizer in line with world market prices . Until 1982, prices were keptintentionally low to stimulate demand, with an adverse effect on the financialresults of the fertilizer plants (para 4.24). In 1980, the Federal Governmentabolished the price subsidy for the domestic market and prices were raised.In January 1983, domestic sale prices of urea, CAN and NPK were raised by 53%,bringing them to world market levels. Details are given in Annex 5, Table 8.Recent price increases, however, do not appear to have had any adverse effecton the domestic demand. The Republican/Provincial authorities do provide asmall indirect subsidy to the fertilizer producers in the form of lower waterand electricity charges and land rent, etc. This practice, in the presentcircumstances, is acceptable.

4.18 The Federal Secretariat for Markets and General Economics, in closecollaboration with Agrohemija and the fertilizer producers and users, isresponsible for price determination. Periodic reviews are made, taking intoconsideration the world market situation and the domestic production cost.The Secretariat has indicated that domestic fertilizer prices will shortly beraised by another 50% to ease the financial position of the fertilizerplants. The price determination review mechanism is satisfactory. However,in the future, it should be ensured that the country does not revert to thesystem of subsidizing fertilizer for the domestic market (para 5.04).

I. Foreign Exchange Requirements/Allocation

4.19 The shortage of foreign exchange for imports of raw materials hasbeen a major constraint to increased production. In 1982, to produce about2.6 million tons of fertilizer, the total foreign exchange requirement was

about $229 million, of which 60% was from convertible areas and 40% fromGOMECON countries (Annex 6). Essentially all phosphate rock and catalysts arefrom hard currency areas, while potash is generally imported through clearingarrangements. Although major suppliers of nitrogen intermediaries are fromEastern Europe, the greater part of the cost has to be paid in convertiblecurrencies. The total foreign exchange requirements for imports of spareparts were about $25 million, of which about 80% was from convertible currencyareas.

4.20 Until 1982, the major source of foreign exchange for the fertilizerindustry was from exports of finished fertilizer. Between 1977-79, about 11%of the total domestic production was exported to earn foreign exchangeessential for the import of raw materials. In 1980, when the foreign exchangecrisis first reached serious proportions, exports rose to about 20% of totalfertilizer production (para 3.06, Table 3). Fertilizer exports either reducedthe quantity available for the domestic market, or if exports were reduced toincrease domestic fertilizer availability, the industry failed to obtain thenecessary foreign exchange to import raw materials, resulting in reducedfertilizer production. Both alternatives adversely affected agriculturalproduction. The Federal Government has recognized the need to rationalize theallocation of foreign exchange for the fertilizer industry in order toincrease domestic production and, in turn, the availability for domesticconsumption.

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4.21 Two measures have been taken in this regard. First, under theForeign Exchange Allocation Policy for priority items 1/, the Government hasallocated for 1984, US$100 million for the import of raw materials forfertilizer producers, compared to US$70 million in 1983 (an increase of morethan 42%). The Government has indicated that increased amounts under thispolicy will be allocated for fertilizer raw material imports in 1985 andonward, if the present foreign exchange constraint continues. Second, inJanuary 1983, a Social Compact was agreed among the Federal Executive Council,FCE and the Republican/Provincial Executive Councils and Chambers of Economy,under which 20% of the foreign exchange proceeds from agricultural exports,excluding meat and fish, is automatically allocated to the "Fertilizer Import

Fund" for the purchase of raw materials by the fertilizer industry. This Fundis administered at the national level by Beogradska Banka, but in 1983, it didnot operate effectively. It was introduced only in late April, the

administrative mechanism was not fully developed or understood and, asexplained earlier, 2/3 of the total agricultural exports in 1983 were underbarter deals. All these factors adversely affected the "Import Fund" and onlyabout $30 million was made available for the import of raw materials for thefertilizer industry. Government officials have indicated, however, that in1984, the Fund is expected to operate more efficiently and will provide about$50 million to meet the fertilizer industry's imports. In addition, sinceJanuary 1983, the fertilizer industry has been permitted to retain up to 75%(instead of the previous 30%) of export earnings from finished fertilizer.

4.22 The mechanisms to ensure foreign exchange availability describedabove will continue through 1984; there is no certainty of their continuationafter that time. In view of this, it was agreed during negotiations that aSelf-Management Agreement (SMA), among VB, Agrohemija, the FertilizerProducers and the Agrokombinats (AIKs), would be executed whereby foreignexchange would be made available to VB to convert Dinar repayments bysub-borrowers into foreign exchange which would be onlent for new sub-loans.Execution of such an agreement (SMA) would be a condition of effectiveness forthe SL (para 8.04 (ii)). The major source of foreign exchange contributionwould be the AIKs, which are currently exporting agricultural productsestimated to be about $1.3 billion per annum. This agreed mechanism is a

satisfactory vehicle for ensuring the Borrower adequate amounts of foreignexchange for recycling sub-loans. All these measures provide strong evidencethat the Government is giving very high priority to increasing domesticfertilizer production. Government officials have indicated that under theproposed Loan, the Borrower would continue to have access to foreign exchangefor recycling or rollover of fertilizer sub-loans from the sources mentioned

above (para 6.07). However, the total demand for foreign exchange in theeconomy at present is such that it cannot yet be taken for granted that thefertilizer industry will receive all of its foreign exchange requirements.Assurances were obtained during negotiations that the Borrower would (a)deposit in a special account all amounts in Dinars received from theFertilizer Producers in repayments of the sub-loans; (b) convert such Dinarsinto foreign exchange providecl to the Borrower, through the mechanismsoutlined above; and (c) use the foreign exchange for the provision ofadditional sub-loans under the project until June 30, 1989 (para 8.02 (i)).Assurances were also obtained that the Guarantor would take all measuresnecessary to ensure that the Borrower is able to carry out this obligation(para 8.01 (i)).

1/ Decision on Common Yugoslav Foreign Exchange Policy for 1984, Sluzbeni

List SFRY, No. 70, Belgracle, December 30, 1983.

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J. Financial Situation of the Industry

4.23 Basic Banks are the main financial institutions providing short andlong-term funds to the fertilizer enterprises. In addition, the fertilizerenterprises, like other industries in Yugoslavia, have access to various otherfunds particularly when they incur losses. These include reserves of otherBOALs with which they are linked by a self-management agreement (SMA),"solidarity contributions" from Agrokombinats (para 4.10), and pooled reservesof the Commune and the Republic or Province. Additionally, rescheduling ofbank loans, write-off of debts, tax exemptions, contribution obligations tosocio-political communities, and deferred payment for purchase of goods arealso, upon occasion, available to the fertilizer enterprises.

4.24 In recent years, the financial condition of the fertilizer industryhas not been very favorable. In both 1981 and 1982, eight out of elevenfertilizer enterprises incurred losses 1/ amounting, on average, to 11% oftheir total revenues. In addition, their liquidity position, in general, doesnot appear very sound. Several factors lie behind this situation. First, inrecent years, domestic fertilizer prices have been kept artificially low bythe Government in order to promote fertilizer use and increase agriculturalproduction (para 4.17). Second, as stated in para 4.14, energy consumptionfor fertilizer production in Yugoslavia is relatively high, compared withcurrent international standards, resulting in high production costs. Andthird, capacity utilization of some of the fertilizer enterprises has beenrelatively low due to the design defects or start-up problems (para 4.07).While the energy efficiency improvements need to be examined more in detail inthe proposed energy conservation studies under the SL (para 6.08), otherloss-causing factors are expected to be lessened in the near future. Forexample, planned domestic price increases would increase sales revenues of theenterprises immediately. Also, improvements in the foreign exchange

allocation system and the availability of foreign exchange to the fertilizerenterprises would facilitate imports of spare/replacement parts (and rawmaterials) to improve capacity utilization, and would expedite start-up of newplants. These measures are, thus, expected to improve the overall financialposition of the fertilizer industry.

V. THE SECTOR LOAN (SL)

A. Need for the SL

5.01 The foregoing demonstrates the urgent need for the development of a

comprehensive integrated program to revitalize the fertilizer sub-sector. Tothis end there is an economically justified need to increase fertilizeravailability immediately for the domestic market (para 7.05). This would

1/ In the Yugoslavian accounting system, loss is defined as total revenuesminus production costs, minus other general overhead expenses (includingfinancial charges and tax payments), minus individual incomes (equivalentto labor costs), minus contribution to funds. Although the "funds"portion includes what is equivalent to retained earnings in the GenerallyAccepted Accounting Principles, when loss is incurred, the funds portionis generally nil.

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assist the country to achieve its primary objective of increasing grainproduction, wheat and maize, the two major crops, in which the country mustattain self-sufficiency in the shortest possible time in order to achieve theobjectives of the Stabilization Program. At the same time, the modificationof the distribution policy to ensure the optimum utilization of the fertilizeris required. In addition, there is an urgent need to restructure andmodernize the fertilizer indusitry to place it on a sound technical andeconomic footing.

B. Objective/Concept

5.02 The SL would assist the Government in increasing the domesticavailability of finished fertilizer for 1984 (Fall) and 1985 (Spring andFall). The incremental fertilizer produced as a result of the Loan would bemainly used for wheat and maize production. The SL would address policy andinstitutional issues concerning domestic distribution, by making incremental

fertilizer accessible to NCI fairmers, as well as assisting the Government inmodernizing and rehabilitating the industry in the long run, through thefinancing of technical studies to define a program for improving productioneconomics. The SL would thus expand and enhance the Government's on-going

Fertilizer Production/Consumption Program.

5.03 Taking into consideration the unfilled potential domestic demand, thetechnical capacity and the economics of domestic production, the urgency ofthe increased fertilizer application and the improvements envisaged in theforeign exchange allocation mechanism (para 4.21), as well as the domesticdistribution system (para 7.02), a realistic growth rate of 15% per year fordomestic fertilizer consumption for 1984 and 1985 has been estimated jointlyby the Government and the Bank. The incremental consumption has beencalculated against the actual domestic production of 2.6 million tons offertilizer in 1983. The SL wouald provide the foreign exchange to import rawmaterials and spare parts for the production of the incremental consumptionrequirements for 1984 and 1985 - a total of 850,000 tons. Of the totalincremental production, 680,000 tons, equivalent to 80% of the incrementalfertilizer production, would be sold through the retail shops of theparticipating Trading Agencies on a cash basis to individual (primarily NCI)farmers, the production group where the increased application of fertilizerwould yield the optimum results in the immediate future. This percentage(80%) has been derived, taking into consideration the relevant fertilizerneeds of the Social Sector, the Cooperatives and the NCI farmers, the cropresponse in these three production groups, and their individual economicreturns (para 7.05). It was agreed during negotiations that VB, Agrohemijaand Fertilizer Producers would enter a Self-Management Agreement (SMA), inaccordance with which the Fertilizer Producers would make available to theTrading Agencies for sale on a cash basis through their retail shops to

individual farmers (NCI). It was also agreed that the execution of the SMAwould be a condition of loan effectiveness (para 8.04 (i)). The quantities offertilizer which would be channelled through this system are: about 240,000tons of fertilizer in the fall of 1984 and about 440,000 tons of fertilizer in1985 (para 8.04 (i)). In addition, although the SL would be for a two-yearperiod, the Second Tranche (June 1985) would only be released after asatisfactory review of the SL implementation for 1984 (para 6.16). Theproposed concept appears an appropriate mechanism to assist the country inaddressing both short and long-term fertilizer sub-sector problems and, inturn, the on-going economic stabilization efforts.

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C. Statement of Policy

5.04 As stated earlier, in view of the stabilization measures and theoverall economic position of the country, both the fertilizer production andconsumption targets for the remaining years (1984-85) of the current Five-YearPlan are being revised. The domestic fertilizer production targets of3.0 million tons in 1984 and 3.45 million tons in 1985; and the fertilizerconsumption targets of 3.0 million tons in 1984, 3.4 million tons in 1985,3.7 million tons in 1986, 4.0 million tons in 1987, 4.3 million tons in 1988and 4.6 million tons in 1989, were agreed to with the Guarantor duringnegotiations. This agreement on the fertilizer consumption targets for1984-1989 would ensure that fertilizer is not exported until the fertilizerrequirements of the domestic market are met. In addition, assurances wereobtained from the Guarantor that the present fertilizer pricing system for thedomestic market, which does not allow for Federal subsidy, would be maintainedand the Guarantor would take all necessary steps to facilitate the achievementof both production and consumption targets (para 8.01 (ii)).

D. SL Description

5.05 The SL would be implemented over a two-year period (Fall 1984 throughFall 1985) and would finance the following:

(i) Raw Materials: The SL would finance the foreign exchange tocover the cost of the raw materials to be imported from theconvertible currency areas for the incremental production.Imported raw materials would mainly consist of phosphate rock forphosphate production, intermediat,es such as MAP, DAP, ammonia andammonia solution for NPK production. It is estimated that theraw materials, financed under the SL, would enable the country toproduce an incremental 0.85 million tons of finished fertilizer(para 7.01).

(ii) Spare Parts: The total spare parts requirements are estimated atabout $25 million; of this 80% would be from the convertiblecurrency area. The SL would finance about $21 million forcritical spare parts and essentiaL catalysts for Fall 1984through 1985. Major items would be corrosion-resistant materialsfor sulphuric and phosphatic acid plants, stainless steel pipingand catalysts for ammonia production.

(iii) Technical Study: About $1.85 million would be provided under theSL to cover the cost of technical and energy studies offertilizer plants. It is estimated that about 190 man-monthswould be required to complete the studies. Of the totalestimated man-months, about 60% would be provided by foreignconsultants and the remainder by local consultants. Such astudy, including production cost analysis, would cover allfertilizer plants, in order to assess their operating and energyefficiency. The examination should identify all potentialsources of sulphuric acid and other major inputs, both local andforeign, to determine the most economic sources of supply. Itshould also identify measures and investments that might berequired to reduce costs and quantify savings that would therebybe achieved. The economic and financial viability of thesemeasures and investments should also be adequately assessed (para6.08).

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E. Implementation Time Frame

5.06 The SL implementation would be immediate, since it would mainlyconsist of procurement of raw materials and spare parts for the domesticfertilizer industry (11 plants). There would be no major issues of design;technical specifications are well-established. The industry has had longexperience in importing such raw materials/spare parts annually. Both theindustry and the Government have been pressing for the quick finalization ofthe proposed SL in order to avoid delays in their ongoing production/distribution schedule.

F. SL Cost

5.07 In view of the critical foreign exchange constraint, the proposedSL is designed to cover the foreign exchange requirements from the convertiblearea only (Annex 6). Without such foreign exchange assistance, the plannedincreased production would not be feasible. Hence, in this context, the costrepresents the convertible foreign exchange requirements for the incrementaldomestic production. The cost of consultants is based on an estimatedrequirement of 190 man-months comprising 110 man-months provided by foreignconsultants at a total cost of $12,000 per man month and 80 man monthsprovided by local consultants at a total cost of $5,000 per man month. Costestimates are based on March 1984 prices. Price contingencies for rawmaterials have been calculated on the basis of annual projected internationalinflation rates for fertilizer raw materials of 9.8% in 1984 and the same in1985; price contingencies for spare parts and consultant services have beencalculated on the basis of projected international inflation rates of 3.3% in1984 and 8.0% in 1985. The front end fee on the Bank's loan would amount to$224,439 and would be capitalized. The details are summarized below (Annex 6):

Cost Estimates($ ?000J)

Component 1984 1985 Total

Raw Material 27,000 30,200 57,200Spare Parts 10,000 11,000 21,000Study 720 1,000 1,720

Total 37,720 42,200 79,920

Price Contingencies 3,300 6,556 9,856

Front End Fee 224 - 224

Total 41,244 48,756 90,000

G. Financing

5.08 The proposed Bank loan would provide $90.0 million to cover theforeign exchange cost of the incremental production. Vojvodjanska Banka (VB),the proposed Borrower, during its appraisal of the sub-borrowers, would ensurethat they had sufficient resources to utilize the Bank funds efficiently (para6.05). The Bank loan would be for 15 years, including three years of grace atstandard variable interest rate.

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H. Production/Import Schedule

5.09 As stated earlier, the incremental quantity of fertilizer financedunder the Loan would be used only for two crops - wheat and maize. Thefertilizer for these two crops is generally applied in Spring and Fall. TheSpring application normally takes place in mid-February to mid-March and theFall application, from end-October to mid-December. The latter application isthe more critical one.

5.10 In order to meet the above application schedule, the fertilizerplants must place orders for imported raw materials 3-4 months in advance,i.e. for Spring application by November at the latest and for Fall, by

August. Shipping arrangements are satisfactorily developed and thetransportation network for delivery of imported raw materials is adequate andwell established. Thus no infrastructural constraints appear to exist forhandling imported raw materials; however all legal and administrativearrangements must be made to ensure that the import schedule specified aboveis met.

I. Procurement

5.11 International Competitive Bidding (ICB) would be used for rawmaterials and spare parts, except for (i) those items of a value equivalent toless than $100,000 per contract, which would be procured following evaluationand comparison of bids from at least three qualified suppliers eligible underthe Bank's Guidelines, and (ii) for proprietary spare parts agreed with theBank which may be procured through direct negotiations with suppliers. Theaggregate of such contracts would not exceed the equivalent of $8.0 million.Consultants' services to be financed under the SL would be procured inaccordance with the Bank's Guidelines for the Use of Consultants. Consultantswould be employed in accordance with Bank Guidelines for the Use ofConsultants. Local consultants may form joint ventures with foreign companiesto carry out the energy audit studies (para 6.08). The proceeds of the SLwould thus be used only to finance imported raw materials, spare parts andservices to be supplied from sources eligible under the Bank's Guidelines.

5.12 Procurement of all fertilizer raw materials would be coordinated byAgrohemija in accordance with existing practices, so that the benefits of bulkpurchases would be achieved for the same materials required by more than onefertilizer company. Procurement of spare parts would be made via thepurchasing department of the relevant fertilizer companies under thesupervision of VB to ensure that Bank procurement Guidelines were adhered to(para 6.02).

J. Disbursement

5.13 Allocation and disbursement of the SL proceeds would be as follows:

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Allocation of Bank Loan Proceeds($ million)

1. Raw materials for fertilizer 61.0 100% of foreignproduction expenditures.

2. Spare parts for fertilizer 21.0 100% of foreignproduction facilities expenditures

3. Consultants 0.8 1/ 100% of expenditures

4. Unallocated 7.0

5. Front-end fee 0.2

Total 90.0

The SL is expected to be disbursed over two Bank fiscal years (FY85-FY86),starting in the first quarter of FY85. Disbursement would be against fulldocumentation. The detailed disbursement schedule is given in Annex 7; sinceitems to be financed by the Loan are all quick disbursing (para 5.06), thedisbursement profile does not conform to the typical disbursement profile.The First Tranche would cover the period June/July 1984 to May/June 1985 andwould amount to about $50.0 million. The Second Tranche, consisting of about$40.0 million, would only be released after a satisfactory review by the Bankin May, 1985 of the SL implementation and would cover the period July toDecember, 1985 (para 6.16).

VI. SL IMPLEMENTATION

A. Borrower

6.01 Vojvodjanska Banka - Udruzena Banka (VB) has been proposed by theGovernment as the Borrower under the SL, as a result of its involvement in theimplementation of the First, Second and Third Agricultural Credit Projects, 2/financed by the Bank. It is conversant with the Bank's requirements inappraising and supervising sub-borrowers, has a nucleus of trained staff toundertake these functions and has gained some degree of experience inimplementing nationwide projects of this nature.

1/ It was agreed during negotiations that the total cost of the technical andenergy audits of fertilizer plants could be as high as US$1.85 million,and in that event, loan proceeds would be re-allocated from other loancategories to finance the shortfall.

2/ First Agricultural Credit Project, Loan 1129-YU, Second AgriculturalCredit Project, Loan 1477-YU and Third Agricultural Credit Project, Loan1801-YU. Of these, the First Agricultural Credit Project has recentlybeen completed and a Project Completion Report prepared.

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6.02 VB, an apex Bank, consists of sixteen basic banks and hasheadquarters in Novi Sad in the Socialist Autonomous Province of Vojvodina.The apex Bank is divided into five Departments: Foreign Operations, ProjectOperations (IBRD), Local Operations, Other Operations and Economic Analysis.As of May 1983, staff at headquarters totaled 335. The Foreign OperationsDepartment (FOD) would be directly responsible for implementation of theproposed SL; appraisal and supervision of sub-borrowers would be undertaken bythis Department. The Project Operations Department, which has hadresponsibility for the implementation of the Bank-financed Agricultural CreditProjects, would assist FOD in procurement-related matters, since the formerhas already gained experience in procurement. FOD has been selected for Loanimplementation in view of the natu