Document of

The World Bank

FOR OFFICIAL USE ONLY

Report No.: 18092

IMPLEMENTATION COMPLETION REPORT

REPUEILIC OF ZAMBIA

SECOND ECONOMIC AND SOCIAL ADJUSTMENT CREDIT

(Cr. 2910-ZA)

June 25, 1998

Macroeconomics IAfrica Region

This document has a restricted distribution and may be used by recipients only in theperformance of their official duties. Its contents may not otherwise be disclosed withoutWorld Bank authorization.

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CURRENCY EQUIVALENTSCurrency unit: Zambian Kwacha (K)

US$ 1 = 1750 Kwacha (Exchange rate of April 1997)

WEIGHT AND MEASURESMetric system

FISCAL YEAR OF BORROWERJanuary 1 - December 31

ABBREVIATIONS AND ACRONYMS

BOZ Bank of ZambiaCBoH Central Board of HealthCEM Country Economic MemorandumCG Consultative Group for ZambiaCIR Country Implementation ReviewESAC Economic and Social Adjustment CreditESAF Enhanced Structural Adjustment FacilityGDP Gross Domestic ProductGOZ Government of ZambiaIBRD International Bank for Reconstruction and DevelopmentIDA International Development Association:IMF International Monetary Fund.MCDSS Ministry of Community Development and Social ServicesMOE Ministry of EducationMOH Ministry of HealthMPU Ministerial Procurement UnitsNEDC National Economic and Development CommitteePER Public Expenditure ReviewPFP Policy Framework Paper,PIRC Privatization and Indu$trial Reform CreditsPTA Preferential Trade AgreementPWAS Public Welfare Assistance Scheme.VAT Value Added TaxZCCM Zambia Consolidated Copper MinesZESCO Zambia Electricity Supply QpmpanyZNTB Zambia National Tender BoardZIMCO Zambia Industrial and Mining CorporationZPA Zambia Privatization AgencyZRA Zambia Revenue Authority

Vice President: Callisto MadavoCountry Director: Phyllis PomerantzStaff Member: Hinh Dinh

FOR OFFICIAL USE ONLY

REPUBLIC OF ZAMBIA

SECOND ECONOMIC AND SOCIAL ADJUSTMENT CREDIT(Cr. 2910-ZA)

IMPLEMENTATION COMPLETION REPORT

TABLE OF CONTENTS

PrefaceEvaluation Summary ................................................... i-iii

Part I. Project Implementation Assessment

A. Background ..B. Statement/Evaluation of Objectives .1C. Achievement of Objectives .2D. Major Factors Affecting the Program .. 10E. Project Sustainability .1F. Bank Performance . 1G. Borrower Performance .. 12H. Assessment of Outcome .. 12I. Future Operations .15J. Key Lessons Learned .15

Part II. Statistical Tables

Table 1. Summary of Assessments .17Table 2. Related Bank Loans/Credits .18Table 3. Project Timetable .19Table 4. Credits Disbursements: Cumulative Estimated and Actual . 1 9Table 5. Key Indicators for Project Implementation and Operation .20Table 6. Status of Legal Covenants .21Table 7. Bank Resources: Staff Inputs .22Table 8. Bank Resources: Staff Missions .23

Annexes

I. ICR Mission's Aide-Memoire .24II. Borrower Assessment .33

This document has a restricted distribution and may be used by recipients only in theperformance of their official duties. Its contents may not otherwise be disclosed withoutWorld Bank authorization.

REPUBIIC OF ZAMBIA

SECOND ECONOMIC AN]D SOCIAL ADJUSTMENT CREDIT(Cr. 2910-ZA)

IMPLEMENTATION COMPLETION REPORT

'REFACE

This is the Implementation Completion Report (ICR) for the Zambia SecondEconomic and Social Adjustment Credil (ESAC II), for which Credit 2910-ZA in theamount of SDR 62.4 million (US$ 90 million equivalent) was approved on August 1,1996, and made effective on October 17, 1996. The First Tranche of the Credit (SDR31.2 million) was disbursed upon effectiveness. IDA approved release of the SecondTranche, SDR 31.2 million, on December 9, 1997. The Credit was closed on December31, 1997

The ICR was prepared by Hinh I)inh (Principal Economist, AFTM1) and DavidGreene (Consultant). The draft ICR was reviewed by Phyllis Pomerantz (CountryDirector) and Ataman Aksoy (Technical Manager), Africa Region. Preparation of thisICR started during IDA's completion mission of April/May 1998. The ICR is based onmaterial in the project file, including the Memorandum of the President (MOP), theDevelopment Credit Agreement (DCA), and supervision reports. The Borrowercontributed to the preparation of the ICR by supplying the views reflected in the ICRmission's aide-memoire and commenting on the draft ICR. The Task Managers forESAC II were John Todd and Sudhir Shetty.

REPUBLIC OF ZAMBIA

SECOND ECONOMIC AND SOCIAL ADJUSTMENT CREDIT(Cr. 2910-ZA)

IMPLEMENTATION COMPLETION REPORT

EVALUATION SUMMARY

i. The objective of the Second Economic and Social Adjustment Credit (ESAC II) wasto support Zambia's economic reform program and to aid in the reduction of poverty bypromoting broad-based, private sector-led growth and improving the delivery of vital socialservices. Key elements of the program supported by ESAC II were measures to: (1) ensure astable macroeconomic environment; (2) foster private sector growth by continuing theprivatization process and rationalizing effective protection; (3) strengthen factor markets, byaccelerating the implementation of land and labor market reforms; and, (4) improve thedelivery of vital social services by strengthening budget priorities for social sector ministriesand by further development and implementation of policy reforms.

ii. Considerable progress was made in implementing the ESAC II program during1996-1997. Fiscal management continuecl to improve and inflation decelerated. Theprocess of privatization of state enterprises, including the state mining company, ZCCM,continued. The Government took positive steps toward improvement of the publicprocurement system. Tariffs were reduced, its structure rationalized and exemptionslimited. Action was taken to implement the new Land Act, simplify and speed upprocedures for converting customary tenure to leasehold land, and regularize informalurban settlements in Lusaka. Amendments to the Industrial and Labor Relations Actwere enacted allowing collective bargaining at the enterprise level. Budgetary allocationsfor vital social services were protected. A national drug policy was issued. A study onthe National Commission for Food and Nutrition was completed. Finally, consultationswith NGOs to foster improved collaboration were underway.

iii. The reform program began to have a positive impact on the economy during1996-97: private investment increased, nontraditional exports surged and per capita GDProse. Survey data suggest that there was a decline in the incidence of poverty between1993 and 1996.

iv. Performance of the Government has been satisfactory, given the complexity of thereform program and its limited administrative capacity. All of the specific actions listedin the Development Credit Agreement were accomplished although some took longerthan originally expected, resulting in a delay in the release of the Second Tranche byabout 11 months. Part of this delay was caused by the several months' delay in crediteffectiveness and first tranche release due to several Board members' concerns on

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governance and economic performance. Not all the actions included in the Letter ofDevelopment Policy have been completely or perfectly implemented, but there have beensignificant accomplishments. The Government's ability to maintain macroeconomicstability has been hampered by the volatility of the international copper market, less thanoptimal climatic conditions for agriculture during 1996-97 and by the decision of bilateraldonors to suspend program lending because of their concerns about governance issues.

v. Performance of the Bank was also satisfactory. The program was complex,involving actions by eight different ministries, and required substantial Bank staff input.Nevertheless, identification, preparation and appraisal were expeditious, and supervisionwas good. Other donors were kept informed of the project goals and the progress of itsexecution.

vi. Project sustainability is an important issue. The sustainability of the reformsunder this operation and indeed, of the whole adjustment program, will depend on theGovernment's ability to carry on the remaining adjustments, and to obtain adequateexternal financing. Sustainability will also require expeditious sale of ZCCM'sremaining major assets, as well as a serious effort on the part of the Government toaddress the governance issues that have been of major concern to bilateral donors and theBank.

vii. Several important lessons were learned from this operation:

v Adjustment for low income countries, especially those facing external shockslike Zambia, is a long and arduous process. ESAC II was an importantoperation to consolidate the hard-earned adjustment gains, but itssustainability will depend on further policy actions.

* While ESAC II was not unduly complex compared to similar operations inother countries, implementation of its conditions, which involved actions byeight different ministries, taxed the Government's administrative capacity toits limit. Future operations should aim at fewer, and probably more critical,conditions, particularly in an election period.

* It may be important in adjustment operations such as ESAC II to identify atthe design stage the likely implementation bottlenecks and to provide, forinstance through a Technical Assistance loan, the resources needed to helpenhance implementation capacity of the Government.

* The nature of NGOs as a heterogeneous group and the complexity of theGovernment/NGO relationship make it difficult for adjustment lending to bean effective instrument for dealing with Government/NGO issues.

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* Although it is important to protect social expenditures during the adjustmentprocess, it has proved more difficult to do so than had been anticipated. Dueto the cash budget system under which releases of expenditures by the lineministries were made dependenit on actual revenue collections, the lineministries were not able to adhere to their expenditure plans. Future IDAoperations will have to give more attention to issues of budgetary planningand management if expenditures for social programs are to be protected.

PART I. PROJECT IMPLEMENTATION ASSESSMENT

A. Background

1. For the first quarter century after its independence in 1964, Zambia's economicpolicy was characterized by pervasive state intervention in factor and product marketsand by large-scale state ownership of productive assets. State intervention resulted inprice distortions and inefficient allocation and use of resources. The effects of theseinefficiencies were, however, not immediately evident because the country had use of theresources generated by production and export of copper. However, as the world copperprice declined, these inefficiencies became more evident, as domestic incomes and outputcame under increasing downward pressure. The Government attempted to offset thedecline in copper earnings by borrowing heavily abroad. This was insufficient to halt theeconomic decline and Zambia's economny and income levels declined rapidly during the1 980s, while, at the same time, the counitry became heavily indebted.

2. The Zambian Government that took office in 1991 launched a program ofeconomic stabilization and liberalization designed to reverse the country's economicdecline and put it on the path of sustainable growth. The objectives of the stabilizationprogram were to reduce the fiscal deficiit, bring down domestic inflation and restoreexternal balance. The privatization and liberalization program aimed at curtailing publicsector ownership of productive assets and eliminating price distortions. Because of thecountry's heavy debt burden and the problematic prospects for its major export, copper,the international donor community provided extraordinary balance of paymentsassistance to permit maintenance of acceptable levels of income and employment to easeimplementation of these reforms.

3. IDA has supported the Government's program through a series of adjustmentoperations, of which ESAC II was the sixth. IDA has also helped mobilize andcoordinate external assistance through the Consultative Group process. Thegovernment's program has been broadly successful. Prices have been decontrolled andsubsidies eliminated, inflation has been brought down significantly, market forces havebeen allowed to determine the exchange and interest rates, quantitative restrictions onimports have been eliminated; and the tariff structure has been compressed andsimplified. An ambitious privatization program is underway. The country now has one ofthe most open, market-oriented economies in sub-Saharan Africa. The key question nowis whether gains under the reform process can be sustained and translated into concretebenefits for the nation's poor.

B. Statement/Evaluation of Objectives

4. ESAC II was designed to suppcrt continuation of Zambia's macroeconomic andstructural policy reforms and to aid in the reduction of poverty by promoting broad-based,private sector-led growth and improving the delivery of vital social services. The credit

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followed up on many of the elements supported by the first Economic and SocialAdjustment Credit of 1994. The broad objectives of the ESAC II program were to: (1)ensure a stable macroeconomic environment; (2) foster private sector growth bycontinuing the privatization process and rationalizing the tariff structure; (3) strengthenfactor markets by accelerating the implementation of land and labor market reforms; and,(4) improve the delivery of vital social services by strengthening budget priorities forsocial sector ministries and by further developing and implementing reforms in health,education and social welfare programs.

C. Achievement of Objectives

5. The ESAC II program has been implemented satisfactorily. Progress onmacroeconomic stabilization and structural reforms continued during 1996 and 1997.Fiscal management has continued to improve and the budget deficit was minimal.Monetary targets have been met and inflation decelerated. The process of privatization ofstaite enterprises, including ZCCM, has continued, although it has not been completed.The public procurement system has been improved. -Significant trade reforms have beenmade: the level of tariffs has been reduced, the tariff structure has been rationalized andmost exemptions have been eliminated. Amendments to the Industrial and LaborRelations Act have been enacted to allow collective bargaining at the enterprise level,rather than industry-wide. Action has been taken to implement the new Land Act.Informal urban settlements are being regularized. Targets for budgetary outlays to protectkey social services have been established. The policy framework for delivery of thesesocial services has been improved by issuance of a national drug policy, completing astuidy on the National Commission for Food and Nutrition, and beginning consultationswith NGOs to foster improved collaboration in the delivery of social services. Thereform program began to have a positive impact on the economy during this period:private investment increased, nontraditional exports grew and per capita GDP rose.Survey data suggest that there was a beginning trend towards a decline in the incidenceof poverty.

6. The program supported by ESAC II was described in the Government's Letter ofDevelopment Policy. Critical elements of that program were designated as conditions ofrelease of the second tranche of the Credit. These included maintenance of a satisfactorymacroeconomic environment, improvement of the public procurement system,satisfactory progress toward privatizing ZCCM, limitation of customs duty exemptions,steps toward implementation of the new Lands Act, improving the efficiency ofprocessing leasehold applications, regularization of informal settlements, presentation ofamendments to the Industrial and Labor Relations Act which would permit collectivebargaining at the enterprise level, protection of certain social sector budgetaryexpenditures, and progress in strengthening social sector policies (specificallypharmaceuticals policy, the role of the National Commission on Food and Nutrition andcollaboration with NGOs). These conditions will be discussed in detail below.

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7. Sustaining Sound Macroeconomic Management. Despite some fiscal relapses,macroeconomic management was generally satisfactory during 1996-97. Fiscal andmonetary targets for 1996 consistent with reduction of inflation were developed in thecontext of an ESAF program approved by the IMF in December 1995. However, a Fundmid-term review mission in February 1996 was unable to conclude its discussions,because fiscal performance was below expectations on both revenue and expenditureaccounts. Preparation of ESAC II was delayed for this reason. Policy adjustments werethen made by Government, which resulted in a strengthening of macroeconomicperformance. A Fund mission in late April 1996 then completed the Article IVconsultations and the IMF Board gave its approval in July 1996. The program wassuccessfully concluded in February 1997. However, by May 1998, the Fund still had notyet been able to present a program for the second year of the ESAF program to its Board,largely due to uncertainties regarding needed bilateral financing for balance of paymentssupport. Subsequent to a successful May 1998 Consultative Group Meeting, newuncertainties have emerged surrounding the ZCCM privatization which have furtherdelayed presentation of the program. Although a formal Fund program has not been inplace since early 1997, the Government and the Fund have agreed on indicative fiscal andmonetary targets and the Government has met them.

8. Strengthening the Public Procuarement System. Strengthening and streamliningpublic procurement was an important pErt of the ESAC II program because of the need toobtain more and better public services for the money spent, to ensure that supplierscompete on the basis of price and quality, and reassure donors that their assistance isbeing used carefully. Under ESAC II, the Government initiated a revision of the publicprocurement system to improve its timeliness, transparency, and accountability. AProcurement Action Plan establishing a schedule for implementing specific measures toimprove the quality and speed of public procurement was developed with SIDA andWorld Bank support. The plan called for decentralizing the implementation of publicprocurement to individual ministries and local governments, training and institutionalstrengthening of Zambia National Tender Board (ZNTB) and the Ministerial ProcurementUnits (MPUs), and providing stronger and more effective oversight of major procurementdecisions.

9. Implementation of the program is progressing well. Procurement units havealready been established in six Ministries and several other agencies, standardizedbidding documents have been prepared, and procedures have been simplified. TheNational Tender Board (ZNTB) is being transformed into an oversight agency. TheZNTB will review awards on contracts aLbove K25 million (K300 million whenprocurement units are operating satisfactorily) and propose procurement policy changes.Procurement Units are being established in the Ministries and responsibility is beingshifted as quickly as staff can be recruited and trained. Thus far, procurement units havebeen established in the six ministries and three other agencies--including Ministries ofAgriculture, Health, Education, Works, ]Finance, Transport and Communications, theScience and Technology Agency, the Zambia Revenue Authority, and the Food ReserveAgency. A World Bank Country Procurement Assessment Review issued in June 1997

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foumd that implementation progressed well and that, when the reform is completed,Zambia will have a good public procurement system. Perhaps more importantly, theproject has succeeded in drawing the Government's attention to public procurementissues.

10. Progress of ZCCM Privatization. The most important component of theprivatization program over 1996-1997 was the sale of ZCCM, which was a major focusof the Economic Recovery and Investment Promotion Credit (ERIP), the adjustment loanprior to ESAC II. Like ERIP, the ESAC II program required satisfactory progress incarrying out the action plan for the privatization of ZCCM but the sale of ZCCM was notmade a condition in order to keep the playing field level for the Government and potentialbuyers. For the purpose of privatization, ZCCM assets were split into nine packages, ofwhich the NkanalNchanga, Chambishi Plant, and Chingola Refractory Ores (AGLCo)package was the largest (about 60% of total assets).

11. Progress was made in the sale of four smaller packages and two packages,including AGLCo, were awarded to the successful bidders, subject to contract.Unfortunately, the sale of AGLCo was not completed on schedule. As of the date of theICIR mission (April/May 1998) agreement had not been reached. The extendednegotiations did not help ZCCM's production and finances, which continued todeteriorate. Although the delay cannot be attributed to the Government alone, progress ofZC'CM privatization at this time cannot be considered satisfactory.

12. Limiting Customs Duty Exemptions. Significant progress has been made inrationalizing the trade regime. An integrated package of customs duty reductions and therernoval of most exemptions was approved with the 1996 Budget. This package ofchanges removed many of the anomalies that had crept into the trade policy environmentand restored the move towards a more outward-oriented growth strategy. The new tariffstructure provides duties of zero to 5 % for most capital goods and basic materials, 15 %for intermediate goods, and 25 % for final products. These tariffs provide exporters withaccess to inputs at near-world market prices, thereby improving their competitiveness.

13. Most existing tariff exemptions were eliminated in 1996: there will be no moreinvestment exemptions, and existing ones are being allowed to lapse. Ad hoc exemptionsprovided in 1995 were also allowed to lapse, and custom duty exemptions and refundshave been limited to exporters, mining companies, firms that can prove damage fromtariff anomalies, and approved providers of health, education, and humanitarian services.Under ESAC II the Government was to limit new customs duty exemptions. Very fewnew exemptions were provided in 1996-97, and the Bank was satisfied with thejustifications for granting them.

14. Implementing the New Land Act and Speeding-Up Applications forConversion Customary to Leasehold Land Tenure. The Government has recognizedthat slow processing of land transfers and of applications for conversion from customaryland to leasehold status hampered the development of the land market. With the support

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of ESAC I, the Government adopted meaLsures aimed at providing a short-term stimulusto developing land markets on state land while building up institutional capacity forlonger-term reforms. As part of these measures, Parliament passed a new Land Act in1995. Regulations have been issued for the implementation of the Lands Act. A LandDevelopment Fund has been established to enable the Ministry of Lands and localcouncils to improve infrastructure, such as feeder roads, needed to facilitate thedevelopment of land not yet under cultivation. A Lands Tribunal dealing with grievancesand disputes involving land has been established. Members of the Lands Tribunal wereappointed in 1996. The Tribunal has adopted and published its rules and procedures andhas met several times.

15. The Government's program provided for the administrative performance of theMinistry of Lands in processing leasehold. applications to be. The main causes of slowprocessing of lease applications were identified and a plan to resolve the bottlenecks wasto be implemented. A review of records aLt the Lands Department undertaken at the timeof release of the second tranche indicated that there had been an improvement in theefficiency of processing leasehold applications and an increase in the number of titledeeds issued. However, at the time of this ICR mission, the Ministry of Lands had notkept updated information on progress in improving efficiency. The Governmentrecognizes the importance of improving the efficiency of processing and grantingleasehold operations and has committed itself to making further significant improvementsby the end of 1998, in the context of the Policy Framework Paper 1998-2000.

16. Regularizing Urban Settlements. In 1996, 70 % of Lusaka residents lived ininformal urban settlements where formal litle was not available to the inhabitants. Veryfew residents in these areas have had access to vital services such as water, electricity androads. Actions to speed up regularization of informal settlements were a condition ofsecond tranche release. The Government issued a circular in December 1996,encouraging urban councils to speed up the process of regularizing informal settlements.The Lusaka council has begun the process of legalization of the informal settlements.Perimeter surveys have been carried out and field reports and socioeconomic surveyshave been completed. The Council has issued a resolution regularizing all informalsettlements. Following their certification by the Surveyor General, these will go to theMinistry of Local Government and Housing for review and issuance of the appropriatestatutory instruments. The process was to be completed by end 1997. However,technical problems have resulted in delays. Nevertheless, the process of legalization hasalready had positive results. An NGO (Care), with the assistance of the British aidprogram and with community participation, has recently launched a project to providewater and sewerage to most of the Lusaka settlements.

17. Increasing Efficiency of Labor Alarkets. Improvements have been made inlabor laws to increase the efficiency of the labor market. The recommendations of aTripartite Council (comprising Government, employer, and union representatives) onlabor legislation have been reflected in a bill passed by Parliament in late 1997. This billamended the Employment Act, repealed the article providing for the provision of housing

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or housing allowances and relaxed the definition of casual labor to accommodateintermittent and geographically shifting demand for labor by such industries asconstruction. Amendments to the Industrial and Labor Relations Act have also beenpassed by Parliament. These amendments permit enterprise level collective bargaining,as opposed to the sector-wide bargaining previously mandated. Wages and benefits cannow be negotiated between unions and individual firms.

18. Protecting Social Sector Budgets As in the first ESAC project, budgetaryoutlays for vital social services were protected. The Government retained the overallshare of the social sectors--health, community development, education, and water andsewerage--in the national budget in 1996 at the 1995 level, 34% of non-interest domesticexpenditure. It also earmarked kwacha allocations for priority items, such as drugs, therecurTent costs of running district clinics, books and study materials for schools,chemicals for the treatment of water, program for the National Food and NutritionCommission, and funds for the Public Welfare Assistance program. Release of funds bythe Ministry of Finance was monitored and it was determined that a total of 35.8% of thebudget was actually released by the Ministry of Finance to the responsible ministries in1996. Moreover, with the exception of school desks, release of funds for the keysubsectors met the targets. The Ministry of Finance continued to monitor releases for thesocial sector ministries in 1997. The total releases were 34.3%, in line with the 1996target. However, actual releases of kwacha amounts for specific subsectors in 1997 weregenerally less than the amounts budgeted.

19. Although it is important to protect social expenditures during the adjustmentprocess, it is more difficult to do so than had been anticipated. Budgeting appropriatelevels of outlays and actual release of budgeted funds by the Ministry of Finance to thesocial sector ministries does not insure that the funds will be spent as intended. It is arelatively simple matter for ministries to get permission from the Ministry of Finance toreallocate funds within their budgets. In fact, a Bank mission determined that only 60%of the funds released to the Ministry of Health for drugs, grants to mission hospitals anddistrict boards (which include district hospitals), the National Food and NutritionCommission and the Food Management Unit, were used for these purposes. This wasprobably the result of a very tight cash budget under which releases for ministryexpenditures depended on actual revenue collections. Line ministries such as MOH werenot able to forecast their cash revenues and their limited capability in fiscal planning andmanaegement made it difficult, if not impossible, to adhere to their expenditure plans.Future IDA operations will have to give more attention to issues of budgetary planningand rnanagement if expenditures for social programs are to be protected.

20. Improving Delivery of Social Services. The improved delivery of socialservices depends on clear policies and specific plans for their implementation. Threeareas of policy were of particular concern in the ESAC II program: inefficiencies inprocurement and distribution of drugs; institutional weaknesses and inadequate fundingof nutrition institutions, and the effectiveness of government collaboration with NGOs.

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21. Issuance of a National Drug Policy. A National Drug Policy paper was issuedin October, 1996. The objective of the policy is to ensure that Zambians have access togood quality, safe and efficacious drugs that are affordable and rationally used. I[taddresses the issues of drug legislation and regulation, quality assurance, financing,procurement, storage and distribution, local production of pharmaceuticals, rational druguse, training, research and development and traditional medicines. A comprehensivepublic health logistics system, the Essential Drug and Medical Supplies Store, has beenestablished. A Drug and Supply Fund has been created and all supplies will be procuredthrough competitive bidding.

22. Reviewing the National Commission on Food and Nutrition. The Governmenthas carried out a study of the functioning of the National Commission for Food andNutrition (NCFN). A Technical Committee drew up recommendations and a timetable fortheir implementation, which was subsequently approved by the Minister of Health.

23. Improving Collaboration with NGOs. Prior to ESAC II, the Government hadcollaborated with NGOs in the provision of public services, but the relationship betweenthe Government and NGOs had been difficult at times. In order to improve thisrelationship and to fully benefit from the presence of NGOs, particularly in the provisionof welfare and safety net programs, the ESAC II program called for the Government toadopt a policy document aimed at improving its collaboration with NGOs. Adoption ofsuch a policy document was understood to mean approval by the Cabinet.

24. This specific condition was met. In October 1996, the Cabinet approved a NGOpolicy paper developed after a series of consultations between the Government and NGOrepresentatives. However, while the adoption of such a policy paper is a positive step inimproving collaboration between the Government and the NGOs, the complexity of theNGO sector and the complexity of Government-NGO relationship called into questionthe use of adjustment lending to build a favorable environment for the operation of NGOsin Zambia and to enhance their capacity to contribute effectively to development.

25. The over 500 NGOs in Zambia have a wide variety of mandates and programs anddo not constitute a homogeneous group. Moreover, the Government and some of theNGOs had different expectations about what the outcome of the consultation processwould be. Some NGOs expected the outcome of this process, and therefore, of theESAC II conditionality, to be the approvzd of acceptable legislation that spelled out theGovernment's policy on NGOs. Other NGOs opposed such legislation because they feltit could be used by the Government to restrict their activities. For the Government, theoutcome was expected to be a policy paper aimed at improving its collaboration withNGOs. Such paper would eventually lead to appropriate legislation. This more limitedoutcome was also the Bank's expectation. In the event, some NGOs were not aware ofthe Cabinet decision in October 1996 and thought that the conditionality was ignored bythe Bank and by the Government. For its part, the Government was frustrated that itcould not achieve consensus among the NGOs.

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26. Because of these differences in expectations, there was some unhappiness with theprocess on both sides, and with the role of IDA. Although the consultations haveproduced a better appreciation of the role and concerns of each partner and have pushedthe process ahead, out of which a policy paper and appropriate legislation wouldeventually emerge, this experience also illustrates the difficulties of dealing with complexissues such as Government/NGO relationships through adjustment lending.

27. The Letter of Development Policy also contained a number of measures to beimplemented. These measures include privatization of parastatals, restructuring publichealth care, strengthening the housing market, rationalizing teacher deployment, andimproving the social safety net

28. Privatizing Parastatals. Substantial progress has been made by the ZambiaPrivatization Agency (ZPA) in privatizing Zambia's parastatal sector. ZPA has almostcompleted the disposal of its current working portfolio. As of the end of March 1997,220 firms/units in ZPA's working portfolio of 331 had been privatized. Of theremainder, 41 were ready for or under negotiation, 26 would probably be liquidated, 12were being litigated, and 10 were no longer being handled by ZPA, mostly state-ownedfarmsn for which there were no title deeds. This leaves only 22 units under preparation.Most of these are small tourist camps in national parks or sawmills owned by the ForestService. These should be ready for privatization in the near future.

29. There are several important parastatals, including large enterprises in thecommunications, power, hydrocarbon, transport and financial sectors that have not yetbeen privatized. The Letter of Development Policy emphasized improving theperfo;rmance of public utilities by increasing their autonomy and concluding performancecontracts. The 1998 Budget Speech of the Minister of Finance also committed theGovernment to privatization of the last tranche of large parastatals, including theseutilities. However, it was not until June 1998 that the Cabinet approved this last tranche.

30. Restructuring Public Health Care. The Zambian health care system is undergoinga fundamental restructuring designed to make health care available to all, throughprovision of a basic health care package at all levels of the health care delivery system.The WVorld Bank has cooperated closely with Government in the formulation of thisstrategy and is supporting its implementation. A National Health Strategy Paper has beenissued which calls for: (1) decentralization of services from tertiary care in large hospitalsto primary care in districts; (2) redirection of funding from centrally managed projects toactivities defined by communities and district and from higher to more cost effectivelower levels of the referral system; (3) defining an essential package of services andinterventions; (4) introduction of user fees to influence health seeking behavior toappropriate referral levels; (5) increasing community involvement and ownership byestablishing neighborhood health committees; (6) opening the sector to wider privatesector participation; and (7) donor coordination in support of the Health sector investmentprogram.

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31. The Central Board of Health (CBoH) was established in October 1997 as theagency responsible for running the health sector and spearheading the reforms proposedin the National Health Strategy Paper. Implementation is moving ahead, but there is thepossibility that transitional problems might leave some temporary gaps in services.

32. Rationalizing Teacher Deployment. The process of decentralization of theeducation system started in 1994. H[owever, the Ministry of Education has found itdifficult to control the number of trained and untrained teachers in its employ, and tocontain and budget adequately for personal emoluments. In the Letter of DevelopmentPolicy, the MOE undertook to improve collection and maintenance of teacher records,monitoring the establishment register, and is attempting to apply pupil/teacher norms inthe creation of new posts and is considering methods of rationalizing deployment ofteachers already in post. This process is underway. However, the administrative capacityof the Ministry is weak and problems have arisen and the reassignment or dismissal ofteachers is proving difficult

33. Strengthening the Housing MIarket. Zambia has'a long tradition of employer-provided housing and other mandated fringe benefits. This tends to impede labormobility and discourage the development of a private housing market. In 1996 theMinistry of Local Government and lIousing, together with the Ministry of Works andSupply, established the modalities for the disposal of the Government's housing stock.However, the ICR mission was unable to ascertain the status of these modalities. Salesare taking place, but the process does not seem to be well regulated, there have beenreports of irregularities and the sale of government housing has become an intenselypolitical issue.

34. Improving the Social Safety Net. The Ministries of Education and Health haveformulated policies to ensure that poDr families are not denied access to education andhealth services. These policies are being implemented by the Ministry of CommunityDevelopment and Social Services, through the Public Welfare Assistance Scheme(PWAS). However, because of budgetary constraints PWAS was only able to allocate K192 million (about $110,000) for health care fees and K 48 million for education costs in1997.

35. An evaluation of the PWAS was carried out in 1996, taking into accountgovernment policies, NGO experiences, community views and suggestions and thecapabilities of district and national institutions. The PWAS system is being restructured,as a result of this review. The guiding principles for the restructuring are thatcommunities themselves are best able to identify the destitute and determine the bestmeans of supporting them; communities must be able to make their choices freely withinknown budgetary ceilings, and their decisions should be transparent. PWAS assistancemust supplement and not replace that of families and communities, including NGOs andchurches. The PWAS is being converted into a three-tier system, with welfare assistancecommittees at the community level, area coordinating committees, and district welfareassistance committees. The PWAS will provide essential goods to the destitute, provide

- 10-

exemptions from health care fees, and assist in meeting cost of primary education.Responsibility for selecting PWAS recipients lies with the community. A matrix-basedclient screening form has been designed to facilitate decision making.

36. Although the new structure of PWAS is exemplary, the MCDSS and its PWASprogram are severely under funded. The decentralized structure, making use of laypeople and serving scattered communities, requires at least a minimum of professionalpersonnel for supervision and training. However, the entire 1998 budget of the MCDSSis only K 10.4 billion; of this only K 1.8 billion is available for the PWAS, K 0.3 billionfor administration and K 1.5 billion for assistance benefits. This means that the PWAS isproviding only the equivalent of about US$ 800,000 per year is to assist Zarnbia'sneediest population.

D. Major Factors Affecting the Program

37. Dependence on Copper. The volatility of the international price copper hasadded to the difficulty of balance of payments and fiscal management. The export priceof copiper dropped from an average of US$ 1.19 per lb. in 1995 to 0.85 in 1996 and to .70in mid 1998. ZCCM's poor technical and financial performance have compounded theproblem. Copper exports dropped from 341,000 Mt in 1995 to 301,000 Mt in 1997, andfrom US$ 851 million in 1995 to US$ 643 million in 1997. ZCCM's finances havedeteriorated severely. The company has been incurring substantial domestic andinternational arrears, leading some suppliers to reduce delivery of essential inputs.

38. Importance of External Assistance. Zambia's problematic export prospects andits heavy debt burden combine to make external assistance, especially program-type aid,essential. In fact, the excessive dependence of Zambia on external aid requires thecountry to maintain a high level of commitment to the reform program. However,bilateral donors suspended the provision of program assistance to Zambia in 1996-1997because of their concern about governance issues, although they continue to provideproject assistance. These concerns led to a delay in the effectiveness of this operationand resulted in less-than-optimal funding for the program during the period. Substantiveprogress related to governance concerns is essential to ensuring that the externalfinancing gap in the government's program can be filled.

39. Dependence on Rain-fed Agriculture. Maize is Zambia's major food crop, anda major component of the Zambian diet. In part due to poor weather and in part to thenew, improved incentive system that encourages the production of other crops, maizeproduction dropped from about 16 million tons in the 1995/96 season the 11 million tonsin 1996/97. Shortfalls in domestic production raise domestic prices and require import ofmaize meal. Weather conditions continued to be unfavorable in 1997/98, with adverseconsequences for domestic prices and the balance of payments.

40. Limited Implementation Capacity Although Government's capacity toimplement economic reforms has improved over the past few years, it has not been ableto catch up with the increasing complexity of the reform effort. Early stabilization and

-11 -

liberalization efforts mostly required political will, but were not administrativelydemanding. As the process continued, administrative complexity increased. ESAC II hasproved to be a severe test for the Government's implementation capacity, which nowappears to be stretched to the limit. ][t may be important in adjustment operations such asESAC II to identify at the design stage the likely implementation bottlenecks and toprovide, for instance through a Technical Assistance loan, the resources needed to helpenhance implementation capacity. To help the Government build up this capacity, thenext adjustment operation will focus on enhancing the performance of the public serviceby reforming pay and employment practices and by improving management controls.

E. Project Sustainability

41. At the time of the ICR mission in late April-early May 1998, sustainability ofZambia's hard-won gains appeared to depend on several factors. First, it depends on theGovernment's continuing commitment to stabilization and structural reform. Thiscommitment has been demonstrated over the years but, given the country's highdependence on external aid, needs to be maintained at a high level and even strengthened.Second, sustainability depends on an expeditious completion of the ZCCM privatization.ZCCM's production and finances have continued to deteriorate and its decliningcontribution to the balance of payments and the budget and its increasing domestic andinternational arrears could pose a threat to macroeconomic stability. Completion of thesale of ZCCM's assets would enhance production and efficiency of the mining sector, aswell as providing a positive signal to potential investors. Third, sustainability of thereform program depends on adequate external financing which in turn, depends on theGovernment's ability to address the concerns of bilateral donors on governance issues.

F. Bank Performance

42. Bank performance has been generally satisfactory. The program devised wascomplex and demanding. The appraisal mission was large, consisting of eight Bank staff,and required close consultation with colleagues in the health and education sectors. Theprogram required action by no less than eight government ministries and several agenciesand had eleven conditions for second tranche release. Yet, almost all the immediateobjectives of the project were accomplished, the second tranche was released, albeit withsome delay, and the project closed on schedule.

43. Project supervision was good. Supervision missions were able to provide timelyand useful advice to the Government, Discussions with the Government indicate that theBank has done a good job in preparing and supervising the project. However, because ofthe complexity of the project, and lirrmited staff resources, supervision missions had toconcentrate on progress in implementling the specific conditions for second trancherelease rather than a complete review of progress of the reform as a whole, as presented inthe Letter of Development Policy.

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G. Borrower Performance

44. Implementation of the program by Government was satisfactory. Especiallynoteworthy is the fact that Government met the macroeconomic benchmarks establishedin consultation with the Fund, even though there was no formal program. The potentiallytroublesome issue of defining relations with NGOs has been handled well by theGovernment. All of the specific actions listed in the Development Credit Agreementwere accomplished although some took longer than originally expected, resulting in adelay in the release of the Second Tranche by about 11 months. The sale of governmenthousing remains an area where performance has been less than satisfactory and thereremain questions about the improvements in efficiency of conversion of land to leaseholdtenure.

H. Assessment of Outcome

45. Evaluation of the impact of this project is difficult. First, Zambia's economicprogress reflects the cumulative impact of the reforms undertaken since 1991 and thesehave been supported by six IDA adjustment operations. Second, most the actionssupported by ESAC II largely involve legal and institutional changes, the effects of whichwill take some time to show positive results.

46. Annex H of the Memorandum of the President for ESAC II includes 14performance indicators to be used to assess the operation, both during supervision and atcompletion. Most of the indicators of macroeconomic management and economic growthwere readily available (Table 1). However, most of those relating to institutional changesand social development (e.g., speed of processing applications for land conversion toleasehold status, backlog in surveying land, school participation rates, geographicdistribution of school fee exemptions, unit costs of essential drugs and consistency ofpayroll and establishment registers of the Ministries and Education and health) were notavailable on a regular basis.

47. Macroeconomic Outcomes. Zambia has made significant progress towardeconomrric stabilization during the period of implementation of the ESAC II programduring 1996 and 1997. Budgetary management has improved and the Government ransmall cash deficits in 1996 and 1997. The combination of relative fiscal balance andcautious monetary policy led to a deceleration of inflation. As measured by the CPI (endof period), inflation declined from 48% in 1995 to 18.6% in 1997. Moderating inflationhas had a favorable impact on interest rates: the official bank rate fell from 51.5% at end-1995 to 23.5% at end-1997, and the treasury bill rate fell from 42% at the end of 1995 to13% at the end of 1997. Exchange rates remained fairly stable, with the market ratedepreciating only 9% relative to the dollar in 1997, compared to a depreciation of almost30% the previous year.

48. Growth and Poverty Alleviation. The stabilization and liberalization of theZambia economy began to have positive effects on growth in 1996. After declining by2.3% in 1995, real GDP increased by 6.4% in 1996 and, despite a decline in agricultural

- 13 -

output due to relatively poor weather, by 3.5% in 1997. Growth in 1997 was broadbased, with all sectors other than agriculture and financial services expanding. Grossdomestic investment rose from 13.9% of GDP in 1995 to 15 % in 1997. The privatesector accounted for all of the increase in investment, as public investment actuallydeclined.

49. The shift towards a pro-export policy orientation has helped make the exportsector more dynamic. The value of non-traditional products increased by 26% in 1997,reaching a record level of about US$ 300 million, accounting for 28 % of total exports in1997 and including an expanding range of agricultural, non-metal mining, agro-industrialand engineering products.

Table 1 Macroeconomic Indicators

1992 1993 1994 1995 1996 1997

Real GDP growth -1.7 6.8 -8.6 -4.3 6.4 3.5

% Shares of GDP

ConsumptionGovernment 16.2 27.9 14.8 14.6 12.6 10.8Private 82.1 78.1 76.3 77.6 78.5 77.8

Investment 11.9 15.0 13.4 13.9 14.9 15.0Gross Fixed Capital 11.4 14.6 13.0 13.6 14.5 14.7Public 6.7 4.5 4.2 5.4 5.7 5.2Private 3.8 7.0 5.6 4.5 8.8 9.5

External Debt (US$ Mn) 6,943 6,788 6,496 6,770 6,349 7,262

Fiscal Performance (% of GDP)Revenues and Grants 28.5 23.9 26.9 26.6 26.0 24.0Expenditures and Net Lending 31.0 29.4 33.7 31.2 28.5 26.2Overall Balance (accrual) -2.5 -5.6 -6.8 -4.6 -2.5 -2.3

Increase in Consumer Prices(annual average) 197.4 189 55.6 34.9 43.1 24.4

Exports (US$ Mn) 1,120 994 1,066 1,186 993 1,101o/w metals 1,020 870 910 984 754 806

Imports -1,302 -1,019 -1,003 -1,194 -1,055 -1,150Debt Service Due 683 522 542 590 453 376Copper Export Volume ('000 MT) 409 402 360 341 327 301

Source: Bank of Zambia and Ministry of Finance.

50. ESAC II may have had a positive impact on poverty. Increases in the MOH'sallocation for drugs and related targets for health expenditures in rural districts should

- 14 -

increase the availability of basic and supplementary drugs at district hospitals and clinics.Increases in the allocation to the PWAS in the MCDSS have allowed a larger number ofpeople to receive needed care in local clinics and reduce the number of children who donot go to school due to inability to pay school fees. Policy and institutional reforms inthe social sectors will help the Government to create an institutional environment wherethe poor can be helped more effectively, but it may be some time before the impact ofthosc improved services can be measured. Regularization of informal settlements isalready leading to investment in vital infrastructure. Finally, consultations with NGOs inpreparation of the policy paper seem to be improving relationships and bode well forfuture cooperation.

Table 2: Social Indicators

Nutritional status of the under five population

1991 1996

Stunted Growth 40 42Underweight 22 22Access to Safe Water 50 50

Health indicators

1989-91 1994-96

Total fertility Rate 6.5 6.1Infant Mortality Rate 107 109Child Mortality Rate 94 98

Education indicators(%)

1990-93 1995-96

Literacy Rate 83 78Gross Primary Enrollment Rate 97 93

51. According to a Government study based on a 1991 survey and the LivingConclitions Monitoring Surveys in 1993 and 1996, the incidence of poverty, which hadincreased from 69.7% of the total population in 1991 to 73.8% in 1993, declined to69.2%YO in 1996.

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I. Future Operations

52. Zambia's precarious balance of payments position, and need to complete itsreform agenda, suggest that IDA sltructural adjustment credits will be required for sometime to come. The next adjustment operation contemplates supporting rationalization andreduction of the public service. This will be a major, difficult undertaking. Thedifficulties encountered in rationalization of deployment of teachers encountered in theESAC II project highlight the weakness of administrative capacity within government.Rationalization requires, as a starting point, accurate records of who is employed andwhere. It also requires definition of the terms of reference of the various units ofGovernment, and some notion of the personnel required to carry them out. Finally, itrequires a plan and adequate financial resources for retrenching surplus employees in ahumane manner.

J. Key Lessons Learned

53. The preparation and implernentation of ESAC II provide some important lessons:

* Adjustment for low income countries, especially those facing external shocks likeZambia, is a long and arduous process. ESAC II was an important operation toconsolidate the hard-earned adj ustment gains, but its sustainability will depend onfurther policy actions.

* While ESAC II was not unduly complex compared to similar operations in othercountries, implementation of its conditions, which involved actions by eight differentministries, taxed the Government's administrative capacity to its limit. Futureoperations should aim at fewer, more critical, conditions.

T It may be important in adjustment operations such as ESAC II to identify at thedesign stage the likely implementation bottlenecks and to provide, for instancethrough a Technical Assistance loan, the resources needed to help enhanceimplementation capacity of the Government.

* The nature of NGOs as a heterogeneous group and the complexity of theGovernment/NGO relationship make it difficult for adjustment lending to be aneffective instrument for dealing with Government/NGO issues.

* Although it is important to protect social expenditures during the adjustment process,it has proved more difficult to do so than had been anticipated. Due to the cashbudget system under which releases of expenditures by the line ministries were madedependent on actual revenue collections, the line ministries were not able to adhere totheir expenditure plans. Future IDA operations will have to give more attention toissues of budgetary planning and management if expenditures for social programs areto be protected.

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PART II - STATISTICAL TABLES

Table 1: Summary of AssessmentsA. Achievement of ObjectivesB. Program SustainabilityC. Bank PerformanceD. Borrower PerformanceE. Assessment of Outcome

Table 2: Related Bank Operations

Table 3: Project Timetable

Table 4: Disbursements

Table 5: Key Indicators for Project Implementation and Operation

Table 6 Status of Legal Covenants

Table 7: Bank Resources - Actual Staff Inputs

Table 8: Bank Resources - Missions

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- 18 -

Table 2: RELATED BANK OPERATIONS

Credit Title Purpose Fiscal Year Status

Preceding lOperations

Second Economic Recovery Macroeconomic stabilization, agricultural sector 1991 ClosedCredit liberalization, private sector expansion, and

restructuring and reforming the civil service and theparastatal sector.

Social Recovery Credit To foster community development efforts in 1991 Closedalleviating negative effects on the poor of theeconomic crisis, through rehabilitation andimprovement of existing infrastructure and servicedelivery.

Privatization and Industrial To modernize business framework, establish market- 1992 ClosedReform I based exchange rate mechanism, and promote private

sector through privatization and improvement ini________ .parastatal efficiency.

Privatization and Industrial To provide balance of payments support to the 1993 ClosedReform II parastatal reform and privatization program.Economic and Social To restore macroeconomic stability, support reform s 1995 ClosedAdjustment Credit I in the areas of public sector management, develop a

market for land, end the budgetary drain of ZambiaAirways, plan a value-added tax, improve the dutydrawback system, strengthen and decentralize socialservice delivery systems, and improve budgetallocations to and within the social sectors.

Economic Recovery and To consolidate improvements in macroeconomic 1996 ClosedInvestment P'romotion management, stimulate investment, reform the social

security system, and support mining industryrestructuring, with increased private sectorparticipation.

Following Operations

Public Sector Reform and To support Zambia's economic reform program, inExport Promotion Credit particular to: i) improve the performance of the public

sector service; ii) promote private investment; iii)facilitate the privatization of ZCCM; and iv)strengthen the delivery of social services.

- 19 -

Table 3: PROJECT TIMETABLE

Steps in Project Cycle Date Planned Date Actual

Identification MvIarch 1995 October 1995

Preparation lMay 1995 December 1995

Appraisal November 1995 March 1996

Negotiations January 1996 May 1996

Letter of Development Policy January 1996 May 28, 1996

Board Presentation April 1996 August 1, 1996

Signing April 1996 August 8, 1996

Effectiveness Jluly 1996 October 17, 1996

First Tranche Release July 1996 October 18, 1996

Second Tranche Release Jlanuary 1997 December 9, 1997

Closing Date December 1997 December 31, 1997

Table 4: DISBURSEMENTS

FY97 FY98

Appraisal Estimate (US$ million) 52.2 42.1

Actual (US$ million) 52.2 42.1

Cumulative (US$ million) 52.2 94.3

Dates of Tranche Disbursement 10/18/96 12/17/97

- 20 -

Table 5: KEY INDICATORS FOR PROJECT IMPLEMENTATION ANDOPERATION

Ml jor Activities Actions Timetable Status

Macroeconomic and Fiscal Policies

Maintain macroeconomic policy Macro program consistent with fiscal and Board condition and Doneframework consistent with monetary targets agreed with IDA and IMF second tranche releaseobjectives of economic reformprogramContinue redirection of public Total allocations for Social sectors in 1995 Second tranche Donespending from low-priority areas to budget at least 33% of total non-interest releaseinfrastructure and social services. allocationsPublic Procurement Complete portions of Plan scheduled for Second tranche release Done

1996Privatization Satisfactory progress in privatization of Second tranche release Not done

ZCCMTrade Adopt tariff structure with maximum rate of Board presentation Done

25%. Many raw materials 0 tariff, capitalgoods 5%/o, intermediate 15%, final goods25%Eliminate most tariff exemptions Board presentation Done

Maintain limitation of new duty exemptions Second tranche Done

Social Sectors Formulate policy on collaboration with Second tranche ProgressNGOs SatisfactoryPrepare an education strategy Board presentation DoneFormulate national drug procurement policy Second tranche DoneMaintain social sector budget of at least 35% Second tranche Donein 1996Complete study of National Commission for Second tranche DoneFood and Nutrition; make decisions on role,management and funding

Land Policy Take necessary actions to implement Land Second tranche DoneAct. Appoint members of Land Tribunal,adopt operating procedures and hold firstsittingIncrease efficiency of processing leasehold Second tranche In progressapplicationsPromote regularization of informal Second tranche Donesettlements

Labor Policy Present draft amendments to Industrial and Second tranche DoneLabor Relations Act to cabinet

- .21 -

Table 6: STATUS OF LEGAL COVENANTS

Credit CovenantAgreement Type

Section Description of Covenant Comments

3.01(a) 10 The Borrower and the Association shall from time to time, at the Complied withrequest of either part, exchange views on the progress achieved incarrying out the Program and the actions specified in Schedule 2 tothe Agreement

3.01(b) Prior to each such exchange of views, the Borrower shall furnish to Complied withthe Association for its review and comment a report on the progressachieved in carrying oat the Program, in such detail as theAssociation shall reasonably request

3.01(c) Without limitation upon the provisions of paragraph (a) of this Complied withSection, the Borrower shall exchange views with the Association onany proposed action to be taken after the disbursement of the Creditwhich would have the effect of materially reversing the objectives ofthe Program, or any action taken under the Program including anyaction specified in Schedule 2 to this Agreement

3.022 01 The Borrower shall (a) have the deposit account referred to in As furnishing of suchSection 2.02 (b) of the Agreement audited, in accordance with audits became optionalappropriate auditing principles consistently applied, by independent and in light of the newauditors acceptable to the Association; (b) furnish to the Association disbursementas soon as available, but in any case not later than six months after procedures, no auditthe date of the Association's request for such audit, a certified copy was ultimatelyof the report of such audit by said auditors, of such scope and in such requested.detail as the Association shall have reasonably requested; and (c)furnish to the Associalion such other information concerning saiddeposit account and the audit thereof as the Association shall havereasonably requested.

- 22 -

Table 7: BANK RESOURCES - Actual Staff Inputs'

Stage of Project Cycle Staff Weeks US$'0002

Preparation to Appraisal 46.7 190.7

Appraisal 14.5 60.2

Negotiations through Board Approval 10.5 30.1

Supervision 36.8 141.0

Completion 3.0 15.0

TOTAL 101.0 437.0

'Source: MIS Report (COSR2) - Staff Time Use and Schedule, in Staff Weeks and Dollars.

2 Includes travel and labor costs.

- 23 -

Table 8: BANK RESOURCES - MISSIONS

Stage of the Project Cycle Month/ No. of Staff Skills3 Days in Rating Rating Types of ProblemsYear Staff Field IS4 D15

Through Appraisal Sep. 95 2 MEC,HRS 5

Oct. 95 6 MEC,HRS,PRS 4

Appraisal - Board Mar. 96 8 MEC,HRS,PRS 16,URB

SupervisionI Aug. 96 4 MEC,IJRB,PRS 9 S S Delay in establishing

MinisterialProcurement Units

2 Oct. 96 6 MEC,AGE,PRS 8 S S Same as above3 Jan. 97 1 MEC 9 S S Concems re

percentage ofspending on socialsectors

4 Oct. 97 6 MEC,',SE,URB 9 S S,AGE,PSE,PRS

Completion Feb. 98 2 MEC, CON 9 S S

3 Key:

AGE Agricultural EconomistHRS Human Resources SpecialistMEC Macro EconomistPRS Procurement SpecialistPSE Private Sector SpecialistSSE Social Sector EconomistURB Urban Specialist

4 Implementation Status

5 Development Impact

Annex I- 24 - Page 1 of 9

IMPLEMENTATION COMPLETION REPORT FORZAMBIA SECOND ECONOMIC AND SOCIAL ADJUSTMENT CREDIT (ESAC H)

AIDE MEMOIRE

Introduiction

1. A World Bank mission consisting of Messrs. Hinh Dinh (Principal Economist and TaskTeam Leader, AFTM1) and David G. Greene (Consultant) visited Lusaka from April 26 to May8, 1998 to prepare the Implementation Completion Report (ICR) for the Second Economic andSocial Adjustment and Social Adjustment Credit (Cr. 2910-ZM), referred to as ESAC II.Specifically, the mission reviewed with the Government and other agencies involved in projectimplementation of the credit, as well as with other stakeholders: (1) the performance of theGovernment and other agencies involved in implementation of the ESAC II reform program; (2)the periormance of the Bank in assisting implementation of the program; (3) the lessons to bedrawn from implementation of the ESAC II Reform program: (4) plans for future operation ofthe program, if applicable; and (5) the Government's contribution to the ICR. The mission'sconclusions and recommendations, presented below, will be confirmed by the Bank after themission's return to headquarters. Discussions with key agencies in the public sector, interestedmembers of the donor community and other stakeholders were held in Lusaka. The missionwishes to thank the Government for its cooperation and for the generous provision of time andeffort.

2. From the time of its independence in 1964 until the early 1990s, the country's economicpolicy was characterized by pervasive state intervention in markets and ownership of productiveassets. This resulted in inefficient allocation and use of resources, which, however, was maskedby resources provided by production and export of copper. However, as the world copper pricedeclined, these inefficiencies became more evident. Attempts were made to mitigate downwardpressure on incomes by heavy external borrowing. By the 1980s Zambia's economy and incomelevels were declining rapidly and the country was heavily indebted. The Zambian Governmentthat took office in 1991 launched a program of economic stabilization and liberalization designedto reverse the country's economic decline and put it on the path of sustainable growth. Becauseof the country's heavy debt burden and the problematic prospects for its major export, copper,the international donor community provided extraordinary balance of payments assistance topermit maintenance of acceptable levels of income and employment during the implementationof reform. Zambia has made considerable progress since 1991: domestic and external trade havebeen entirely liberalized, macroeconomic management has improved and inflation hasdecelerated, and considerable progress had been made in privatization of state enterprises

3. ESAC II was the sixth IDA adjustment credit to Zambia since 1991. Its objective was tosupport Zambia's economic reform program and to aid in the reduction of poverty by promotingbroad-based, private sector-led growth and improving the delivery of vital social services. Keyelements of the program supported by ESAC II were measures to: (1) ensure a stablemacroeconomic environment; (2) foster private sector growth by continuing the privatizationprocess and rationalizing effective protection; (3) strengthen factor markets, by accelerating theimplementation of land and labor market reforms; and, (4) improve the delivery of vital socialservices by strengthening budget priorities for social sector ministries and by furtherdevelopment and implementation of policy reforms.

Annex I- 25 - Page2 of9

Summary Assessment

4. Considerable progress was made in implementing the ESAC II program during 1996-97:fiscal management continued to improve and inflation decelerated; the process of privatization ofstate enterprises, including ZCCM, continued; the Government took positive steps towardimprovement of the public procurement system; tariffs were reduced, the structure rationalizedand exemptions limited; action was taken to implement the new Land Act, simplify and speed upprocedures for converting customary tenure to leasehold land, and regularize informal urbansettlements in Lusaka; amendments to the Industrial and Labor Relations Act to the CabinetLegislation Committee to allow collective bargaining at the enterprise level were prepared,budgetary targets for the social sectors were met; a national drug policy was issued; a study onthe National Commission for Food and Nutrition was completed; and consultations with NGOsto foster improved collaboration were underway.

5. The reform program began to have a positive impact on the economy during this period:private investment increased, nontraditional exports grew and per capita GDP rose. Survey dataindicate that there was a decline in the incidence of poverty.

6. Sustainability of these hard-won gains is, however, appeared uncertain at the time of theICR mission in late April-early May 1998. Completion of the privatization of ZCCM is essentialto improve the management of existing mines and to attract the capital needed to exploit newopportunities. For the purpose of privatization, ZCCM assets were split into nine packages, ofwhich the Nkana/Nchanga, Chambishi Plant, and Chingola Refractory Ores (AGLCo) packagewas the largest (about 60% of total assets). Progress was made in the sale of four smallerpackages and two packages, including AGLCo, were awarded to the successful bidders, subjectto contract. Unfortunately, the sale of AGLCo could not be concluded as of the date of thismission (April/May 1998) due to delays in reaching agreement on commercial terms. Over thattime, ZCCM's production and finances have continued to deteriorate. ZCCM's decliningcontribution to the balance of payments and the budget and its increasing domestic andinternational arrears, are becoming a threat to macroeconomic stability. The macroeconomicsituation showed clear signs of strain during the first quarter of 1998: international reservesdeclined rapidly, the exchange rate began to depreciate and inflation began to accelerate. It isnow difficult to envision a viable macroeconomic scenario without rapid conclusion of ZCCM'sprivatization. Moreover, privatization of parastatals seems to be losing momentum. TheFinance Minister announced in his 1998 budget speech that a tranche of large parastatals,including parastatals in the communications., power, hydrocarbon, transport and financial sectorswould be handed to ZPA for privatization. However, to date cabinet has not issued the requiredresolution.

Implementation of the Program

7. Implementation of the specific elements of the ESAC program -- reform of theGovernment procurement system, revision of the tariff structure, development of the land andhousing markets, improving functioning of the labor market, protecting budgetary provisions forthe social sectors, and improving the provision of vital services has been slower than expected.However, implementation was satisfactory and the second tranche of the credit was disbursed inDecember 1997. The ICR mission is, nevertheless, concerned about several aspects of theprogram related to its sustainability: the uncertain status of privatization of ZCCM and the delayin handing the last tranche of large parastatals over to ZPA; the apparent lack of control over thesale of government housing; the slow progress in processing leasehold applications and inissuing title deeds; the failure of the Ministry of Health to spend earmarked budget funds in

Annex I- 26 - Page 3 of 9

accordance with its expressed priorities; and the inadequate funding of the Ministry ofCommunity Development and Social Services, especially the Public Welfare Assistance Scheme.

Macroeconomic Management

8. Macroeconomic management has been generally satisfactory. Fiscal and monetarytaLrgets for 1996 consistent with reduction of inflation were developed in the context of theESAF program approved by the IMF in December 1995. However, a Fund mid term reviewmission in February 1996 was unable to conclude its discussions. Policy adjustments weremiade by Government, and, as a result, macroeconomic performance strengthened. A Fundmission in late April 1996 then completed the Article IV consultations and the IMF Boardgave its approval in July 1996. The program was successfully concluded in February 1997.However, the Fund has not yet been able to present a program for the second year of theESAF program to its Board, largely because it has been waiting for the firming up of theexternal financing. Although a formal Fund program has not been in place since early 1997,the Government and the Fund have agreed on fiscal and monetary targets and theGovernment has met them.

Strengthening the Public Procurement System

9. Strengthening and streamlining public procurement was an important part of the ESACII program because of the need to obtain more and better public services for the money spent, toensure that suppliers compete on the basis of price and quality, and reassure donors that theirassistance is being used carefully. The Government has therefore initiated a revision of publicprocurement to improve its timeliness, transparency, and accountability. This involvesdecentralizing the implementation of public procurement to individual ministries and localgovernments, training and institutional strengthening of Zambia National Tender Board (ZNTB)and the Ministerial Procurement Units (MPUs), and providing stronger and more effectiveoversight of major procurement decisions. Implementation of this program is progressing well.

10. A Procurement Action Plan establishing a schedule for implementing specific measuresto improve the quality and speed of public procurement was developed with SIDA and WorldBank support. Procurement has been decentralized to several Ministries, standardized biddingdocuments have been prepared, and procedures have been simplified. The National TenderBoard is being transformed into an oversight agency. The ZNTB will review awards oncontracts above K25 million (K300 million when procurement units are operating satisfactorily)an,d propose procurement policy changes. Procurement Units are being established in theMinistries and responsibility is being shifted as quickly as staff can be recruited and trained.Thus far, procurement units have been established in the six ministries and three other agencies.Ministries of Agriculture, Health, Education, Works, Finance, Communications Science andTechnology and the Zambia Revenue Authority, and the Food Reserve Agency. The Bank'sCountry Procurement Assessment Review of June 1997 found that implementation progressedwell and that, when the reform is completed, Zambia will have a sound public procurementsystem.

The Privatization Program

11. ZCCM. The ESAC II program did not provide a specific date for completion of ZCCMprivatization, only requiring "satisfactory progress." However, preparations for privatization andnegotiations for the sale were underway during the time ESAC II was being implemented. Forthe purpose of privatization, ZCCM assets were split into nine packages, of which theNkana/Nchanga, Chambishi Plant, and Chingola Refractory Ores (AGLCo) package was the

Annex I-27 - Page 4 of 9

largest (about 60% of total assets). Until December 1997, progress was made in the sale of foursmaller packages and two packages, including AGLCo, were awarded to the successful bidders,subject to contract. Unfortunately, the sale of AGLCo could not be concluded as of the date ofthis mission (April/May 1998) due to delays in reaching agreement on commercial terms.During the period of prolonged negotiations ZCCM's production and its financial performancehave deteriorated further. Althouglh the delay cannot be attributed to the Government alone,progress of ZCCM privatization to date cannot be considered satisfactory.

12. Parastatals. Substantial progress has been made by the Zambia Privatization Agency(ZPA) in privatizing Zambia's parastatal sector. ZPA has almost completed the disposal of itscurrent working portfolio. As of the end of March 1997, 220 firms/units in ZPA's workingportfolio of 331 had been privatized. Of tlhe remainder, 41 were ready for or under negotiation,26 would probably be liquidated, 12 were being litigated, and 10 were not being handled byZPA, mostly state-owned farms for which there are no title deeds. This leaves only 22 unitsunder preparation. Most of these are small tourist camps in national parks or sawmills owned bythe Forest Service and their privatization will not require much preparation.

Rationalizing Trade Policy

13. In spite of the improvements in the trade regime since 1991, it remained difficult forexporters of non-traditional products and some import-competing enterprises to be competitivebecause customs duties oni capital goods and intermediate goods were 20 and 30 % if sourcedoutside COMESA (Common Market for East and Southern Africa). Many import-substitutingactivities had lower nominal protection oni their outputs (because of exemptions, smuggling, andthe 60 % concession on COMESA imports) than the customs duty rates paid on inputs.

14. Significant progress has been made in rationalizing the trade regime. An integratedpackage of customs duty reductions and the removal of most exemptions was included in the1996 Budget. The new tariff structure provides duties of zero to 5 % for most capital goods andbasic materials, 15 % for intermediate goods, and 25 % for final products. These tariffs provideexporters with access to inputs at near- world market prices, thereby improving theircompetitiveness.

15. Most existing tariff exemptions were eliminated in 1996, there will be no moreinvestment exemptions, and existing ones are being allowed to lapse. Ad hoc exemptionsprovided in 1995 were allowed to lapse, and custom duty exemptions and refunds have beenlimited to exporters, mining companies, firms that can prove damage from tariff anomalies, andapproved providers of health, education, and humanitarian services. Very few new exemptionswere provided in 1996-97, and the Bank was satisfied with the justification for granting them.

Reforming Land Policy

16. The Government has recognized that slow processing of land transfers and ofapplications for conversion from customary land to leasehold status has hampered thedevelopment of a land market. In order to remedy this, Parliament passed a new Land Act in1995. Rules and regulations have been issuaed for the implementation of the Lands Act. A LandDevelopment Fund has been established to enable the Ministry of Lands and local Councils toimprove infrastructure such as feeder roads needed to facilitate the development of land not yetunder cultivation. A Lands Tribunal dealing with grievances and disputes involving land hasalso been established. Members of the Ltnds Tribunal were appointed in 1996. The Tribunalhas adopted and published its rules and procedures and has met several times.

Annex I- 28 - Page 5 of9

17. The ESAC II supervision mission reviewed performance of the Ministry of Lands inprocessing leasehold applications. It reviewed records of the Lands Department and found thatthere had been a significant improvement. This ICR mission, however, could not find anyinformation that supports that conclusion. Moreover, the National Farmers' Union, whichfrequently assists its members in the application process, stated unequivocally that there hadbeen no improvement; that registry staff of the Ministry was poorly qualified, thatcomputerizaton had not taken hold, that record keeping was haphazard and that processingsurveys remained a bottleneck. Delays in issuing titles remains a serious problem becausewithout titles, farmers are reluctant to make on-farm improvements and cannot use their land ascollateral for loans.

Clhanging Housing Policy

18. Zambia has a long tradition of employer-provided housing and other mandated fringebenefits. However, the provision of housing impedes labor mobility and discourages thedevelopment of a private housing market. Cabinet has approved a National Housing Policy thatprovides for the Government, the largest landlord in Zambia, to sell the houses it provides tocivil servants. In 1996 the Ministry of Local Government and Housing, together with theMinistry of Works and Supply, established the modalities for the disposal of the Government'shousing stock. The mission was unable to ascertain the status of these "modalities". Sales aretaking place but the process does not seem to be well regulated and there have been numerousreports of irregularities and the sale of government housing has become an intensely politicalissue.

Regularizing Urban Settlements

19. In 1996, 70 % of Lusaka residents lived in informal urban settlements without formaltitle available to the inhabitants. Very few residents in these areas have had access to vitalservices such as water, electricity and roads. The Government issued a circular in December1996, encouraging urban councils to speed up the process of regularizing informal settlements.As a result, the process of legalization of the 15 informal settlements in Lusaka has been startedby the Council. Perimeter surveys have been carried out and Field Reports and Socio-EconomicSurveys have been completed and the. Lusaka City Council has issued a resolution regularizingall 15 settlements. Following their certification by the Surveyor General, these will go to theM,inistry of Local Government and Housing for review and issuance of the appropriate statutoryinstruments. Although the process was expected to be completed by end 1997, technicalproblems have resulted in delays. Nevertheless, the process of legalization has had positiveresults. An NGO (Care), with assistance from DFID, and community participation, has recentlylatnched a project to provide water and sewerage to most of the Lusaka settlements.

Increasing Efficiency of Labor Markets

20, Improvements have been made in labor laws. The recommendations of a TripartiteCouncil (comprising Government, employer, and union representatives) on labor legislation havebeen reflected in a bill passed by Parliament in late 1997 revising to the Employment Act byrepealing the article relating to the provision of housing or housing allowances. The bill alsorelaxed the definition of casual labor in order to accommodate the short, intermittent andgeographically shifting demand for labor by such industries as construction. Amendments to theInclustrial and Labor Relations Act, have also been passed by Parliament. These enableenterprise to have separate collective bargaining, as opposed to the sector-wide bargainingmandated by previous law, so that labor benefits can reflect the capacity of each enterprise topay.

Annex I

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Protecting Social Sector Spending

21. In order to protect outlays for vital social services in a time of extreme budgetarystringency, the Government decided to retain the overall share of the social sectors--health,community development, education, and water and sewerage--in the national budget in 1996 atthe 1995 level, 34% of non-interest domestic expenditure. Moreover, it protected, and in somecases increased, the kwacha allocation to priority areas such as drugs and the recurrent costs ofrunning district clinics, books and study materials for schools, chemicals for the treatment ofwater in the Ministry of Local Government and Housing, program funds in the National Foodand Nutrition Commission, and funds for the Public Welfare Assistance program. Release offunds by the Ministry of Finance were monitored and it was determined that a total of 35.8% ofthe budget was released to these ministries in 1996. Moreover, with the exception of schooldesks, release of funds for the key subsectors met the targets. The Ministry of Finance continuedto monitor releases for the social sector ministries in 1997. The total releases were 34.3%, inline with the 1996 target. However, release of kwacha amounts for specific subsectors in 1997was generally less than the amount budgetecl

22. Release of funds by the Ministry of Finance to the social sector ministries does notguarantee that the funds will be spent as intended. A Bank mission determined that only 60% ofthe funds released to the Ministry of Health for drugs, grants to mission and district hospitals, theNational Food and Nutrition Commission and the Food Management Unit, was used for thesepurposes. Thus, the demonstrated priorities of the MOH appear to have been different fromthose discussed with the Bank or reflected in the budget. As a result, the commitment of theMOH to the decentralization plan is now being questioned by key donor agencies.

Improving Delivery of Social Services

23. The improved delivery of social services depends on clear policies and specific plans forimplementation. Three areas of policy were of particular concern in this operation:inefficiencies in procurement and distribution of drugs; weaknesses and inadequate funding ofnutrition institutions and effectiveness of collaboration with NGOs.

24. National Policy on Drugs. A National Drug Policy paper was issued in October, 1996,the objective of which to ensure that Zambians have access to good quality, safe and efficaciousdrugs which are affordable and rationally used. It addresses the issues of drug legislation andregulation, quality assurance, financing, procurement, storage and distribution, local productionof pharmaceuticals, rational drug use, training, research and development and traditionalmedicines. The policy is already in force and is operational. It establishes one comprehensivepublic health logistics system, the Essential Drugs and Medical Supplies Store. The Drug andSupply Fund has been created and all supplies will be procured through ICB.

25. National Commission on Food and Nutrition. The Government has carried out astudy of the functioning of the National Commission for Food and Nutrition (NCFN). Based onthe study, a Technical Committee composed of representatives of the Cabinet Office and theMinistries of Health and Community D)evelopment, and Social Services has drawn uprecommendations with a timetable of implementation. According to the timetable. TheCommittee of Permanent Secretaries met and reviewed the Technical Committee'srecommendations. These recommendations were approved by the Minister of Health.

26. NGO Policy. The Government has made some effective use of NGOs in the provisionof public services, but the relationship has been difficult at times. However, establishing guiding

Annex I- 30 - Page 7 of 9

principles for cooperation is difficult. There are now over 500 NGOs in Zambia and they have awide variety of mandates and programs. They do not constitute a homogeneous group and thesitatements of any one unit cannot be taken as representing the views of the whole NGOcommunity. The relationship with Government of NGOs whose mandates are broadly defined as"advocacy," has been tense, with a great deal of mutual suspicion. "Humanitarian" NGOs aresometimes viewed as competitors of Government and there has been less than optimalcooperation and coordination. In order to improve these relationships and to make better use ofNGOs, particularly in the provision of welfare and safety net programs, the ESAC programcalled for preparation of a policy document and legislation on NGOs. Government initiated whatturned out to be series of joint meeting centering on a policy statement on the role of NGOs andmodalities for cooperation between NGOs and Government. The result of this process has beena better appreciation of the role and concerns of each. A policy paper is being developed andappropriate legislation is being drafted in close cooperation and consultation with representativesof the NGO community. This work should be completed in the near future, but the process maybe as important as the product.

Restructuring Public Health Care

27. The Zambian Health care system is undergoing a fundamental restructuring designed tomake health care available to all through provision of a basic health care package at all levels ofthe health care delivery system. The World Bank has cooperated closely with Government in theformulation of this strategy and is supporting its implementation. A National Health StrategyPaper has been issued which calls for: (I) decentralization of services from tertiary care in largehospitals to primary care in districts; (2) redirection of funding from centrally managed projectsto activities defined by communities and district and from higher to more cost effective lowerlevels of the referral system: (3) defining an essential package of services and interventions; (4)introduction of user fees to influence health seeking behavior to appropriate referral levels; (5)increasing community involvement and ownership by establishing neighborhood healthcommittees; (6) opening the sector to wider private sector participation; and (7) donorcoordination in support of the Health sector investment program

28. One of the principal objectives of health reform is to shift management to the local level.One of the core concepts is partnership: Neighborhood Committees and District HealthManagement Boards have been created to mobilize and channel local energy to the health sector.The responsibility for planning, implementing, monitoring and managing health programs isbeing shifted to the districts. The program will focus on the needs of under served, high risk andvulnerable groups. Priority will be given to rural and periurban areas, with emphasis on maternaland child care, family planning, nutrition, control of communicable diseases, immunization andenvironmental sanitation. The Central Board of Health (CBoH) was established in October 1997as the agency responsible for running the health sector and spearheading the reforms proposed inthe National Health Strategy Paper. Implementation is moving ahead, but there is the possibilitythat transitional problems might leave some temporary gaps in services.

Rationalizing Teacher Deployment

29. The Ministry of Education has found it difficult to control the number of trained anduntrained teachers in its employ, and containing and budgeting adequately for personalenmoluments. As part of its ESAC II program, the Ministry is in the process of improvingcollection and maintenance of teachers records, monitoring the establishment register, and isattempting to apply pupil/teacher norms in the creation of new posts and is considering methodsof rationalizing deployment of teachers already in post. However, reassignment or dismissal ofteachers is proving difficult.

- 31 - Annex IPage 8 of 9

Improving the Social Safety Net

30. The Ministries of Education and Health have formulated policies to ensure that thesepoor families are not denied access to education and health services. These policies areimplemented by the Ministry of Community Development and Social Services through thePublic Welfare Assistance Scheme (PWAS). However, because of budgetary constraints PWASwas only able to allocate K 192 million for health care fees and K 48 million for education costsin 1997.

31. An evaluation of the PWAS was carried out in 1996, taking into account governmentpolicies, NGO experiences, community views and suggestions and the capabilities of district andnational institutions. As a result of this review, the PWAS system is being restructuredaccording to the principle that communities themselves are best able to identify the destitute anddetermine the best means of supporting them; communities must be able to make their choicesfreely within known budgetary ceilings ancl decisions should transparent. PWAS assistance mustsupplement and not replace that of families and communities, including NGOs and churches.The PWAS is being converted into a three tier system with a welfare assistance committees atthe community, level area coordinating committees and district welfare assistance committees.The PWAS will provide essential goods 1:O the destitute provide exemptions from health carefees, and assist in meeting cost of primary education. Responsibility for selecting PWASrecipients lies with the community. The community committee will know in advance what itsannual budget is and will make its decisions in accord with resource availability. A matrix-basedclient screening form has been designed to facilitate decision making. It defines categories ofapplicants (aged, disabled or chronically ill, single heads of households, orphaned or neglectedchildren, displaced persons or disaster victims), economic status (no support from relatives,unable to or should not work no productive assets) and other characteristics (unable to supportdependents, under 18 or still in school, child headed household, substandard housing, insufficientfood).

32. Although the new structure of PWAS is exemplary, the MCDSS and its PWAS programare severely under funded. The decentralized structure, making use of lay people and servingscattered communities, requires at least a minimum of professional personnel for supervision andtraining. Moreover these professionals must have transportation. The entire 1998 budget of theMCDSS is only K 10.4 billion; of this only K 1.8 billion is available for the PWAS, K 0.3 billionfor administration and K 1.5 billion for assistance benefits. This means that the PWAS isproviding only the equivalent of about ULS$ 800,000 per year is to assist Zambia's neediestpopulation. This highlights the importance of the role of families, communities and NGOs inproviding a social safety net.

Impact of the Project

33. Evaluation of the impact of this specific project is difficult. First, Zambia's economicprogress reflects the cumulative impact of the reforms undertaken since 1991 and these havebeen supported by six IDA adjustment operations. Second, most the actions supported by ESACII largely involve legal and institutional changes, the effects of which will take some time toshow positive results.

34. Macroeconomic Outcomes. Zambia has made significant progress toward economicstabilization during the period of implementation of the ESAC Program, 1996-97 Budgetarymanagement is improving and the Government ran small cash deficits in 1996 and 1997. As aThe deficits were small enough so that virtually no domestic financing was required. The

Annex I

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combination of relative fiscal balance and cautious monetary policy led to a deceleration ofinflation. As measured by the CPI (end of period), inflation declined from 48% in 1995 to18.6% in 1997. Moderating inflation has had a favorable impact on interest rates: the officialbank rate fell from 51.5% at end-1995 to 23.5% at end-1997, and the treasury bill rate fell from42% at the end of 1995 to 14.4% at the end of 1997. Exchange rates remained fairly stable, withthe market rate depreciating only 9% relative to the dollar in 1997, compared to a depreciation ofalmost 30% the previous year.

35. Growth and Poverty The stabilization and liberalization of the Zambia economy beganto have positive effects on economic performance in 1996. After declining by 2.3% in 1995, realGDP increased by 6.4% in 1996 and, despite a decline in agricultural output due to relativelypoor weather, by 3.5% in 1997. Growth in 1997 was broad based, with all sectors other thanagriculture and financial services expanding. Gross domestic investment rose from 13.9% ofGDP in 1995 to in 1997. The private sector accounted for all of the increase in investment, aspublic investment actually declined.

36. The shift towards a pro-export orientation in policy is helping to make the export sectordynamic. The value of non-traditional products increased in 1997 by 26%, reaching a recordlevel of about US$ 300 million accounting for 28 % of total exports in 1997 and included anexpanding range of agricultural, non-metal mining, agro-industrial and engineering products.

37. According to a Government study based on a 1991 survey and the Living ConditionsMonitoring Surveys in 1993 and 1996, the incidence of poverty, which had increased from69.7% of the total population in 1991 to 73.8% in 1993, declined to 69.2% in 1996.

38. Direct Impact of ESAC II Increasing budget provisions to the social sectors willimpact poverty directly. Increases in the Ministry of Health's allocation for drugs and relatedtargets for health expenditures in rural districts, even if not entirely spent for this purpose, shouldincrease the availability of basic and supplementary drugs at district hospitals and clinics.Increases in the allocation to the Public Welfare Assistance Scheme in the Ministry ofCommunity Development have allowed a larger number of people to receive needed care in localclinics and reduce the number of children who do not go to school due to inability to pay schoolfees. Policy and institutional reforms in the social sectors will help the Government to create aninstitutional environment where the poor can be helped more effectively, but it may be sometime before the impact of those improved services can be measured. Regularization of informalsettlements is already leading to investment in vital infrastructure. Finally, consultations withNGJOs in preparation of the policy paper seems to be improving relationships and bodes well forfuture cooperation.

Government Contribution to the ICR

39. As agreed with the Ministry of Finance, the Government's contribution to the ICR willbe forwarded to the Bank by June 6, 1998.

May 8, 1998Lusaka, Zambia

For the Government of Zambia For the World Bank

Professor Ben Mweene Hinh Dinh

Annex IIPage 1 of 2

24/06 'S8 17:15 FAX 260+1+251415 PIRTA MIN FINANC lzjoo

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June 23, 1998

Mr Hinh DinhESAC 11 Team LeaderMacroeconomics IAfrica RegionThe World BankWASHINGTON 0 C

Dear Mr Dinh

Re ESAC II - GOVERNMENT COIUMENT ON DRAFT IMPLEMENTATIONCOMPLETION REPORT (ICRi

I thank you for your letter of June 18, 1998 transmitting the draft ImplementationCompletion Report (ICR) for the Seacnd Economic and Social Adjustment Credit(ESAC II).

The G3overnment has reviewed the draft ICR and is generally in agreement withthe analysis contained in the draft Report. However, capacity enhancement toimplament adjustment operations ought to be brought into focus in futureadjustment operations. The difficulties experienced in the Ministry of Health onissue.; of budgetary planning and management and the stalling on sustaining theincreased administrative performance of the Ministry of Lands in procossingleasehold applications illustrate the need for providing an adequate recourcebase to deliver the expected outputs of an adjustment operation. In future it willbe essential at design stage to deteirmine likely implementation bottlenecks tovarious conditionalities and provide through either an IDF or a TeciinicalAssis'ance resources for desired capacity to ensure effective and et;icientimplementation....1/2

Annex 11

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/06 '98 17:15 FAX 260+1+251415 PIRTA MIN FINANC Q002

2]

Mr Hinh Dinh June 23,1998ESAC II Team LeaderWortcl BankWASHilNGTON D C

In the case of your paragraph 29 on privatization you seem to be conveying amessagge that implies that Government Is not moving ahead inspite itspronouincements. The contrary is true. The Government is fully committed tothe privatization program of parastatals and cabinet recently approved tranche 5.It will be necessary in view of the foregoing and to correct the wrong Impressionbeing conveyed in paragraph 29 that a recasting be done.

I Nwish to express the appreciation of the Government of Zambia for the findrfcialassistance it has received from IDA under the ESAC II project which hascontribiuted in a positive way and has moved us a step further towards achievingGovemment objectives of stabilization and re-structuring Zambia's economy.

Sinceregly

Professor Benjamin MweeneSECRETARY TO THE TREASURYMINISTRY OF FINANCE & ECONOMIC DEVELOPMENT