Document of

The World Bank

FOR OFFICIAL USE ONLY

C / /FCC- K@

Report No. P-3943-KE

REPORT AND RECOMMENDATION

OF THE

PRESIDENT OF THE

INTERNATIONAL DEVELOPMENT ASSOCIATION

TO THE

EXECUTIVE DIRECTORS

ON A

PROPOSED CREDIT OF SDR 6.2 MILLION

TO THE

REPUBLIC OF KENYA

FOR A

NAIROBI THIRD WATER SUPPLY ENGINEERING PROJECT

March 7, 1985

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

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CURRENCY EQUIVALENTS

Currency Unit - Kenya Shilling (KSh)KSh 1.00 - US$0.0681/US$1.00 - KSh 14.6US$1.00 - SDR 0.9749330 2/

WEIGHTS AND MEASURES(Kenya uses the metric system)

1 cubic meter (M3) - 220 Imperial Gallons, 264.2 US gallons,or 1000 liters (1 kiloliter - kl,

1 meter (X) - 3.28 feet (39.37 inches)1 millimeter (mm) 0.39 inches1 Kilometer (km) 0.62 miles1 square kilometer (Km2) = 0.386 square miles = 247 acres1/cd - liters per capita per dayM3/d cubic meters per day

ABBREVIATIONS AND ACRONYMS

CIR - Country Implementation ReviewCY - Calendar YearDPM - Directorate of Personnel ManagementEAC - East African CommunityFY - Fiscal YearKIA - Kenya Institute of AdministrationMOALD - Ministry of Agriculture and Livestock

DevelopmentMCSS - Ministry of Cooperatives and Social ServicesMLG - Ministry of Local GovernmentM.LS - Ministry of Lands and SettlementMWD - Ministry of Water DevelopmentMAC - National Action CommitteeNCC - Nairobi City Con issionPIU - Project Implementation UnitPPF - Project Preparation FacilitySAL - Structural Adjustment LendingWAB - Water Apportionment BoardWD - Water Department of the Ministry of

Water DevelopmentWSI - Water and Sewerage Department

FISCAL YEAR

Government: July 1 - June 30Nairobi City Commission: January 1 - December 313/

1/ Since December 1982 the Kenya Shilling has been pegged to the SDR at arate of SDR = KSh 14.06. The rate vis-a-vis the dollar has fluctuatedsince that time. A rate of USS1.00 = KSh 14.6 has been used in evaluatingthis project.2/ As of January 31, 1985.3/ As ot July 1985, NCC fiscal year will be July 1-June 30.

FOR OMCIAL USE ONLY

KENYA

NAIROBI THIRD WATER SUPPLY ENGINEERING PROJECT

Borrower: Republic of Kenya

beneficuary: Nairobi City Commission (NC')

Amount: A Credit of SDR 6.2 million (US$6.0 millionequivalent).

Terms: Standard

Relending Terms: Proceeds of the Credit would be cn-lent to theNairobi City Commission at an interest rate of9.29% per annum for a maximum 15 years, including amaximum 4 year grace period. NCC would bear theforeign exchange risk.

Project Description: The proposed project would help finance thepreparation of a third water supply project inNairobi. The main objectives of the engineeringcredit are: (a) to prepare a project which woul"meet the rapidly expanding demands of Nairobi Cityup to the mid-1990s; (b) strengthen the operationsand financial management of the Water and SewerageDepartment to improve its efficiency and capacityto undertake the third phase investment; (c)develop recommendations for the institutionaldevelopment of the Water and Sewerage Department;(d) review the finances of the non-water andsewerage activities of Nairobi City and initiatetraining to improve financial and operationalperformance; (e) assist in the preparation oflong-term program to manage water resources on aregional basis: and (f) assess Nairobi City'slonger-term sewerage and sanitation requirements.

Risks: Potential risks associated with the proposedengineering credit include: (i) failure tostrengthen WSD's management and provide thenecessary staff to concentrate on both thepreparation of a third phase water supply projectin Nairobi and, at the same time, improve theoperational and financial efficiency of WSD; and(ii) failure or delay to implement appropriatetariff increases to generate the funds needed tocover NCC's contribution to the preparation of athird operation, as well as debt service coverageand capital expenditure. A number of actions have

This document has a restricted distribution and may be used by recipients only in the performanceof their official duties. Its contents may not otherwisc bc disclosed without World Bank authorization.

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been taken by the Government and the Nairobi CityCommission which suggest that the risks will becontained: (a) the proposed project has beenendorsed at the Cabinet level; (b) aninter-ministerial coordinating committee meets asnecessary to settle policy issues; (c) the CityCommission is planning for the establishment of aWater and Sewerage Committee; (d) since late 1983unauthorized withdrawals from the Water Fund haveceased on Instruction from the Chairman of the CityCommission; (e) a major tariff increase has beenapproved; and (f) the recruitment process for a newGeneral Manager has begun.

Estimated Project Costs:

Local Foreign Total- -- (USS millions) -

Component

Feasibility study, detailedengineeri.tg and associated studies 2.2 2.6 4.8a/

Panel of Experts 0.1 0.2 0.3

Technical AssistanceTraining 0.4 0.5 0.9

Base Cost 2.7 3.3 6.0

ContingenciesPhysical 0.3 0.3 0.6Price 0.5 0.4 0.9

Total Project Cost 3.5 4.0 7.5b/

a/ Including Project Preparation Facility advance of US$1.0 million (P-295-KE), approved in July 1984.

b/ Including taxes and duties of US$0.3 million.

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Z of TotalFinancing Plan: Source Local Foreign Total Financing

--- (USS millionsT --

IDA 2.0 4.0 6.0 80Government of Kenya 1.5 - 1.5 20

Total 3.5 4.0 7.5a/ 100

a/ Including taxes and duties of US$0.3 million

Estimated Disbursements: IDA FY 1986 1987 1988

Annual US$ million 2.0 4.0 1.5Cumulative 2.0 6.0 7.5

Economic Rate of Return: Not appropriate

Appraisal Report: No separate report

Maps: IBRD 18683IBRD 18684

INTERNATIONAL DEVELOPMENT ASSOCIATION

REPO .(T AND RECOMMENDATION OF THE PRESIDENTTO THE EXECUTIVE DIRECTORS

ON A PROPOSED CREDIT TO THE REPUBLIC UF KENYAFOK A NAIROP1 THIRD WATER SUPPLY ENGINEERING PROJECT

* 1. I submit the following report and recommendation on a proposedCredit to the RepuAlic of Kenya of SDR 6.2 million (US$b.0 million equiva-lent) on standard terms to help finance a water supply engineering project.The Credit would be on-lent to the Nairobi City Commission at an interestrate of 9.29% per annum for a maximum of 15 years, including a maximum 4year grace period. NCC would bear the foreign exchange risk.

PART I - THE ECONOMY

2. A Country Economic Memorandum (Report No. 4689-KE) dated October5, 1983, has been distributed to the Executive Directors. A summary ofsocial and economic data is in Annex I.

Long-Term Growth and Structural Issues

3. Kenya became an independent nation in 1963. Kenya's first decadeas an independent nation was one of remarkable growth and structural trans-formation. Total GDP grew at an annual average rate of 6.6% during1964-73. Both agriculture and manufacturing grew rapidly, at 4.7% and 8.4%per annum respectively. The expansion of agriculture was stimulated by theconversion of considerable high-potential land from extensive use to small-holder cultivation, the introduction of high-value production activities,and the adoption of high-yielding maize varieries. Growth of manufacturingwas made possible very largely by the expansion of domestic demand due torising agricultural incomes, while investment for domestic production wasbeing encouraged by high levels of protection, a liberal attitude towardsforeign investment, and active Government promotion of and participation inmanufacturing ventures.

4. Following the first oil crisis of 1973, growth decelerated to 4%p.a., or virtual stagnation in per capita terms, reflecting not only theoil shock, but also the emergence or intensification of structural con-straints largely unrelated to the post-1973 terms of trade deterioration.These problems are briefly described below.

5. First, agricultural growth decelerated from 4.5t in the firstdecade after independence to 2.5% during the 1970s. This was due partly tothe tapering off of the specific positive factors which had sustained agri-cultural growth in the first decade after independence. But the decelera-tion was also due to Government policies, including excessive prorectionfor the industrial sector which facilitated the maintenance of an over-valued exchange rate, thereby turning the internal terms of trade againstthe agricultural sector, and inefficient, monopolistic Government involve-ment in agricultural marketing which discouraged production and placed

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undue burdens on the budget. There was also growing pressure of the ruralpopulation on the country's limited and unequally distributed supply ofmedium and high potential land (only 18X of the total lqnd area), contri-buting to over-intensive use in some areas.

6. Second, industrial growth also decelerated, according to officialstatistics, from 8.0% in the first decade after independence to 6.5Z duringthe period 1973-80. This growth was being accomplished at an increasinglyhigher cost in terms of the capital-intensity of investment, low laborabsorption, and the burden on the balance of payments of a sector whichimported a substantial volume of intermediate goods for -final touch-processing and assembly, but exported very little. These undesirablefeatures resulted from Government policies which included high levels ofprotection, Government financial participation in industrial firms, andfiscal incentives for investment. Protection, which was already high inthe late 1960s, increased in 1970s due to the -ratchet effect- of theGovernment's behavior in responding to fluctuations in the external termsof trade and foreign exchange availability. During periods of foreignexchange constraint, the Government intensified quantitative importrestrictions, but during periods of easy foreign exchange availability, theGovernment did not relax import restrictions, but increased Governmentexpenditures instead.

7. Third, energy supplies became relatively more expensive. The oilprice increases of the 1970s raised the cost of imported energysubstantially; in 1980, the cost of petroleum imports for domesticconsumption (i.e., exclusive of re-exports of petroleum products) wasequivalent to 36% of nonfuel export receipts, as compared with an averageof 13% during 1976-78. Fuelwood and charcoal, which account for more thanhalf of the energy supply in Kenya's economy, also became relatively moreexpensive, since the rate of consumption was four times the rate ofreplenishment.

8. A fourth issue, related to the above, is the overexpansion andinadequate management of the public sector, particularly the parastatalsector. The Report of the Working Par.y on Government Expendituresdeclared that the fiscal deficit was 'a fundamental structural problem"arising partly from "the proliferation of commercial activities byGovernment which has diverted scarce management talent away from thecentral functions of Government. The Government's Sessional Paper onDevelopment Prospects and Policies stated that "Structural adjustment mustembrace a more constructive and profitable role for essential parastatalsand the return of others to private sector operation".

9. Finally, the growth of Kenya's population had accelerated from3.4% p.a. during the intercensal period 1962-69 to 3.8% p.a., the thirdhighest rate in the world, during the intercensal period 1969-79. Thisacceleration reflected a decline in mortality, an increase in fertilityarising from continuation of the traditional preference for large families,and health improvements enabling fertility to move closer to its biologicallimit. Kenya is one of only four countries in the world with a totalfertility rate greater than 7.0. The rapid population growth generated bythis high and increasing fertility generated increasing pressures on theland, the labor market, and education and health services.

Economic Policies and Developments During the Fourth Plan Period 1979-83

10. The above structural issues were generally well recognized in theFourth Plan, which stated that The progress we have made in the past haspre-empted the easy forms of development in such sectors as agriculture andindustry. We must now address ourselves to more difficult problems."Under the Structural Adjustment 1 (1980) and Structural Adjustment II

* (1982) agreements with the Bank, many of the Government's general Planintentions were refined into more specific commitments on the content andtiming of structural adjustment measures. The Fourth Plan also recognizedthat, in the wake of the coffee boom" of 1976-77, the external terms oftrade would deteriorate, and that it would be necessary to contain fiscaland external deficits during the Plan period. These aspects of Govern-ment's policy were refined into more specific commitments under a series ofIMEF programs.

11. The Plan stated that future industrial growth would require"increasing emphasis on the promotion of industrial efficiency and decreas-ing emphasis on industrial protection," and accordingly proposed the phas-ing out of quantitative import restrictions, tariff rationalization, andexport promotion. Under both SAL I and SAL II the Government committeditself to timetables for carrying out industrial studies, reducing quanti-tative restrictions (QRs.', designing artd implementing a new, mo-e moderateand uniform tariff structure, and developing an export promotion program.The timetable for import liberalization was disrupted by foreign exchangeproblems, and presently only 29Z of the items are on the unrestricted list.The Government raised tariffs on four occasions and lowered them in the twomost recent budgets. The impact of these adjustments on industrial protec-tion, in the countinuing presence of QRs, has not been measured, and thenew tariff structure intended to be in place when the QRs have been sub-stantially phased out has not yet been designed. While intentions wereannounced in the June 1983 budget speech regarding export finance and manu-facturing in bond, and steps have been taken to strengthen the administra-tion of fiscal incentives for exports, the implementation of export promo-tion measures has been lagging.

12. The Plan proposed that domestic agricultural prices "be broughtmore into line with long term trends in world market prices." The Planalso stated that 'In principle, there will be direct intervention only inthose areas of agricultural and food marketing where cooperatives and the

* private sector cannot or do not perform essential functions and servicesadequately or competitively," and that restrictions on private sector mar-keting activity would be relaxed to encourage private investment in agri-cultural marketing. During 1982, both producer and consumer prices foragricultural products were raised closer to border prices. In the area ofgrain marketing, following a consultants' study, the Government reaftirmedits Development Plan intention to redefine the role of the key parastatalin this sector to that of a market stabilization and food securityfunction, rather than a legal monopolist, and to permit private traders toparticipate in grain marketing. However, the Government has not yetformulated an action program to implement this intention, and has recentlyrevised its previous decision by announcing that the only purchaser to bepermitted to enter the maize market is to be a new apex Cooperative, theKenya Grain Growers Cooperative Union.

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13. During the Plan period, the Government continued to follow, as ithad previously, appropriate energy pricing principles. There has been somereduction in dependence on imported energy through the development ofhydroelectric and geothermal sources. However, apparently due to theinstitutional fragmentation of the sector, progress on drawing up a well-defined energy investment program with an adequate justification has beenrelatively slow.

14. In 1983, the Government prepared, for the first time ever, aForward Budget and Public Investment Program document, which wasdistributed to the January 1984 meeting of the Consultative Group. Therecurrent/capital distribution contained in the Forward Budget reflectedthe recommendation of the Working Party on Government Expenditures thatrecurrent expenditures be increased more to ensure utilization of existingcapacity and the magnitude of the expenditure program was consistent withthe maintenance of fiscal health required for economic growth andstability. There remains a need to strengthen public expenditure planningin a number of respects, including project evaluation and monitoring, andbringing the parastatals into a public sector financial planning process.

15. In order to provide more effective leadership to the familyplanning program, particularly information and education to generategreater demand for family planning services, a National Council forPopulation and Development was established in the Office of the VicePresident in 1982. However, the Government has not yet adopted thedemographic targets which are necessary foundations of a credible fertilityreduction program, but work on this is underway. In the past, Governmentbudgetary allocations have not reflected the assignment of a high priorityto family planning, but the President has stated that such allocations willbe substantially increased in the future.

16. While the Government has made only limited progress on structuraladjustment, by the end of 1983 it had made important progress on reducingfiscal and external deficits to sustainable levels through stabilizationmeasures, despit_ the fact that the terms of trade deterioration wassharper than expected during the Fourth Plan period. Fiscal deficits weregradually reduced through retrenchment on Central Government expanditurefrom the excessive level of 35% of GNP in fiscal year 1980/81 to 27% of GNPin fiscal year 1983/84. Interest rates were increased, credit expansiondecelerated, and wages were held down. The exchange rate was adjusted innominal terms, but due to domeastic inflation, the real effective exchangevalue of the Shilling at the end of 1983 was only 3% less than in 1976.The current account deficit was reduced from 12Z of GDP in 1980 to 4% in1983, but during the same period the debt service ratio increased from 13%to 28%.

17. Developments in the real economv during the Fourth Plan periodwere consistent with Government policies, as actually implemented.Agricultural output stagnated during the first two years of the FourthPlan, partly because of drought, and then grew significantly during theremaining three years because of the retu:n of normal rainfall and morefavorable prices for agricultural produ':ts. The growth rate ofagricultural production from 1978 to 1983, both of which were normalweather years, was 2.5Z p.a. The growth rate of industrial output was 6%

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p.a. during the first two years of the Plan period, when Governmentexpenditures were very high, and then decelerated to 3.5% p.a. during thefinal three years, as the stabilization measures began to take effect.Export performance was disappointing, as export volume actually fell by 11%over the Plan period. This resulted from a substantial decline in thevolume of petroleum product exports from the Mombasa oil refinery and thesluggish growth of non-oil exports by only 1% p.a. Real GUP grew by 4%p.a. Because of the deterioration in the external terms of trade, realgross domestic income grew more slowly than real GDP, and real GDY percapita fell by 5% during the Plan period.

The Fifth Plan and Medium-Term Prospects

18. The Fifth Plan. In December 1983, the Government published itsFifth Development Plan (1984-88). The Plan's macroeconomic framework isrealistic and its central theme - "mobilizing domestic resources torequitable development" - is timely and appropriate. The Plan recognizesthat "Public Investment has often been less productive than privateinvestment" and declares that "Growth in the private sector is the core ofthe development process in Kenya." The new Plan clearly reflects theGovernment's determination to avoid the excessive spending which wasundermining Kenya's domestic financial stability and external financialposition during the first three years of the Fourth Plan period. However,the Government's intentions on structural adjustment issues such as importliberalization and agricultural marketing are not specifically defined.

19. The Drought and Its Implications for 1984-85. Unfortunately, theGovernment's hopes for launching the Fifth Plan with a year of recovery inper capita income have been dashed by the worst drought in fifty years.The "short rains tailed in some parts of the country during*ctober-November 1983, and the "long rains" failed entirely duringMarch-May 1984 in most of the maize-growing areas. Grain production hasbeen only b5Z of normal, and production of other crops has also beenadversely affected. Dairy production is sharply down, and the nationallivestock herd is being reduced by record levels of slaughter. GDP growthin 1984 is expected to be zero. There were excellent short rains duringUctober-November 1984, and it is being assumed for planning purposes thatthe drought is over and that raintall in 1985 will be normal and that theeconomy will recover. However, the recently departed drought continues tohave signiticant financial implications.

20. The Government's strategy for deaLing with the financialimplications of the drought has recently been formalized in an IMF Standbyprogram covering calendar 1985. The impact ot the drought on the budgethas been mitigated by the approximate doubling of external grant aid from1.3% of GNP in fiscal year 1983/84 to 2.b% ot GNP in fiscal year 1984/85.The impact of the drought on the balance ot payments has been mitigated in1984 by exceptionally high prices for coftee and tea (the external terms oftrade are estimated to have improved by 13Z in 1984), the increase in grantaid, and the Government's ability to draw down its strategic grainreserve. The current account deficit is expected to be a modest 3.4% otGDP and a slight overall surplus is expected. The major impact on thebalance of payments will be in 1985 when the terms of trade are expected todeteriorate as coffee and tea prices returni to more normal levels, and the

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bulk of the grain imports will take place. The current account deficit isexpected to widen to 5.8Z of GNP. The Government will finance this deficitfrom existing and new Official Development Assistance commitments, IMFStandby and Compensatory drawings, some draw-down of reserves, and a modestamount of commercial bank borrowing, to which Kenya has not had substantialrecourse since 1981.

21. Medium-term Prospects. For the future, Kenya will need tocontinue to pursue prudent demand management policies in order to containthe debt service burden, and then reduce it somewhat over the medium term.Under these circumstances, growth prospects will depend importantly on thevigor with which structural adjustment policies designed to increase theefficiency of investment are implemented. With less vigorousimplementation of structural adjustment policies, growth would be about 4%p.a., implying stable per capita incomes (following recent decline). Withmore vigorous policy implementation, growth could be accelerated to 5-6%p.a., yielding restoration of growth in per capita incomes.

External Capital Requirements

24. Over the years, Kenya has relied primarily on OfficialDevelopment Assistance (ODA) for its external capital requirements. Kenyahas been a relatively favored aid recipient. In 1982, among the ninesub-Saharan countries with populations of greater than 10 million, net ODAdisbursements per capita for Kenya ($27) were less than for two othercountries ($37 and $36), but were greater than for six countries whichreceived net OUA per capita in the range of $6 to $16. In view of thecountry's political stability, its comfortable financial ratios (untilrecently), and the availability of a high level of ODA to be 'blended" withprivate-source capital in yielding a quasi-concessional overall capitalinflow, Kenya has also been creditworthy for considerable borrowing fromprivate sources of finance.

23. Kenya borrowed heavily from private sources during 1979-81, afterthe terms of trade deteriorated due to the fading of the 'coffee boom," andthe oil price hikes. During 1979-81, Kenya's current account deficit (itsnet external borrowing requirement) averaged an unsustainable 10% of GNP.During 1982-83, however, as the stabilization measures took effect, Kenyasucceeded in reducing the current account deficit to levels which could befinanced almost entirely from ODA and IMF drawings. In fact, during1982-83 Kenya reduced, through net repayments, its stock of debt owed toprivate sources by one third, and reduced the share of its external debtheld by private sources from 40% to 27%. This accomplishment has placedKenya in a position in which the financial impact of the drought, althoughserious, is manageable.

24. For the future, the combination of modestly improved exportperformance and continued prudent demand management policies is expected togradually lower the current account deficit from the elevated level of 5.6%of GDP in 1985 to a long-term sustainable level of 4% of GDP by 1988. Withsuch a borrowing requirement, Kenya would not be able to rely entirely onODA, but rather would have to engage in some borrowing from privatesources. The objective would not be a substantial net inflow from privatesources, but rather would be to refinance the existing stock of private-source debt, in order to avoid a net outflow. Under these circumstances,the debt service ratio would decline from a peak of 31% in 1984-85 to 25%by the end of the decade.

PART II - BANK GROUP OPERATIONS IN KENYA

25. To date, Kenya has received 44 Bank loans, including three onThird Window terms, and 42 IDA credits including one Special Fund Credit,amounting to US$1,841.7 million, which supported 75 operations. Inaddition, Kenya was one of the beneficiaries of 10 loans totalling US$244.8million which were extended for the development of common services(railways, ports, telecomunications, and finance for industry), operatedregionally for the three partner states of the East African CommunitY(bAC). Annex II contains summary statements of Bank loans and IDA creditsto Kenya and to the EAC corporations.

26. Recent Bank Group lending has been oriented towaras assisting theGovernment in its efforts to restructure the economy, resulting in theinclusion in the program of structural adjustment assistance. For thefuture, should structural adjustment lending prove to be impractical in theshort term, sectoral operations could be substituted in support of SALobjectives. Recent economic work has also focused on the structuralproblems in specific sectors. The selection of projects for financing andthe design of such projects have been influenced by the need to complementpolicy actions under the structural adjustment program. Continuingpriority has thus been given to the agricultural and industrial sectors,but increasing emphasis also has been placed on sectors such as populationand energy. In FY84, the Kiambere Hydroelectric Power Project, the SecondHighway Sector Project and a Geothermal Exploration Project were approved.A third telecommunications project has been appraised and is planned forBoard presentation later this year. In response to the 1984 drought(paragraphs 19 and 20), the Bank is proposing to amend an ongoing projectto provide emergency financing of US$20.0 million for fertilizers,chemicals and seasonal credit for agriculture.

27. In contrast to FY82 and FY83 when disbursements improved overimmediate prior years, FY84 disbursements on projects as a percentage ofamounts outstanding at the beginning of the year fell to 13X (19Z includingdisbursements against structural adjustment operations) compared with 16%in FY83. Improvements in recent years were explained by greater use ofProcedure III, and the application of a Treasury Circular requiringoperating ministreis to make prompt reimbursement claims under penalty offreezing funds. The latter remedy has had only marginal benefits to date.Undeniably, project implementation has deteriorated in recent years, incontrast to the successful implementation performance in the past. Factorsaccounting for implementation delays have varied widely, but some of themore pervasive factors have been institutional/management constraints,procurement problems, and budgetary constraints leading to a lack of localfinancing. These factors, together with delays in preparing and submittingreimbursement claims. have led to a poor project disbursement record. Anin-depth review of the causes of this situation has been undertaken by theBank Group and the problems and possible solutions have been discussed withthe Government at Country Implementation Review (CIR) meetings. Thediscussions were frank and constructive, and the Government informed thebank Jroup ot several new initiatives to improve performance, includingthose mentioned. D)uring the ongoing CIR discussions, the Government andthe bank are continuing to review the Government's development objectives

and investment priorities in the context of implementation capacity andresource constraints. Recent improvements in budgetary and financialmanagement in one of the line ministries, which are to be introducedgradually to other ministries, are expected to reap benefits in thefuture. The project portfolio is under review to determine the scope forreducing project costs through reformulation, rephasing or cancellingprojects which cannot be adequately funded. As a result, substantialcancellations of funds have been made from the Sugar Rehabilitation Froject(Ln. 1636-KE) (US$58.0 million) and the Second Integrated AgriculturalDevelopment Project (Cr. 959-KE) (US$38.0 million), and the project scopefor the Bura Irrigation Settlement Project (Ln. 1449/Cr. 772-KE) has beenreduced to a level commensurate with available local resources.Cancellation of the Rural Water Supply Project (Ln. 1637-KE) is beingconsidered by the Government. To respond swiftly to urgently requireddrought relief assistance, consideration is being given to reallocatingUS$20.0 million under the Fourth Agricultural Finance Corporation Project(Loan 1995-KE/Cr. 1143-KE) from loan funds which would otherwise have beenunused and cancelled. Additional possibilities for project rationalizationare currently under review.

28. At the end of 1983, IBMD held 18%, and IBRD/IDA combined held30%, of Kenya's stock of external debt. During 1983, IBRD's share ofKenya's debt service payments was 14X, and IBRD/IDA's share was 15%. Overthe next few years, our expectation is that Kenya's debt owed to privatesources will grow more slowly than Kenya's debt owed to official sources,such as the Bank Group, reflecting the Government 's success at reducing,through stabilization measures, the country's borrowing requirements.Therefore, the IBRD/IDA share of the stock of external debt is expected toincrease gradually to 36%, (IBRD only, 21%) while the share of debt servicepayments will increase to 23% (IBRD only, 21Z).

International Finance Corporation (IFC)

29. IFC has committed a total of US$68.6 million for twelveoperations in Kenya. These include loans for six companies: Pan AfricanPaper Mills, Ltd.; Kenya Hotel Properties, Ltd.; Tourism Promotion Services(Kenya) Ltd.; Rift Valley Textiles, Ltd.; Bamburi Portland Cement Company,Ltd; Tetra Pak Converters, Ltd; and Leather Industries of Kenya, Ltd. Alsoincluded are a US$2 million credit line to the Kenya Commercial Bank, Ltd.,a US$5 million credit line to the Kenya Commercial Finance Company, Ltd.,and equity investments in Development Finance Company of Kenya, Ltd.

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(US$1.3 million), Diamond Trust of Kenya, Ltd. (US$0.8 million), andIndustrial Promotion Services of Kenya, Ltd. (US$U.6 million). As ofSeptember 30, 1984, LFC held for its own account US$45.2 million,comprising US$33.5 million of loans and US$11.7 million of equity. Asummary of IFC Investments in Kenya is included in Annex II.

PART III. THE WATER SUPPLY AND SEWERAGE SECTOR

A. Introduction

30. The Republic of Kenya, stretching inland from the Indian Ocean toLake Victoria, covers 583,000 km2 and straddles the equator. Along theIndian Ocean coastline lies a narrow tropical belt, behind which an aridplain extends to the north. Toward the northwest, the land rises to a highplateau, the Kenya Highlands, at about 1,500 m with a temperate climate andsubtropical vegetation. The Highlands are bisected from north to south bythe Rift Valley.

31. Kenya's population is now nearly 19 million, with one of thehighest population growth rates (about 3.8%) in the World. The ruralpopulation is estimated at 16 million, while 3 million people live in therapidly growing urban areas. The capital city, Nairobi, has a populationof about 1.1 million. About 85% of the total population and the majorityof economic enterprise are concentrated on the Highlands plateau.

Water Resources

32. Kenya experiences wide differences in climate caused mainly byvariations in altitude. Average rainfall is about 450 mm per annuim, butthe actual distribution results in vast areas receiving 250 mm or less perannum. As a result of the rainfall pattern, stream-flows are highlyseasonal and vary widely. Perennial rivers are concentrated in theHighlands area (including Nairobi) and the coastal areas. Whilst thecountry's groundwater potential appears promising, especially in theeastern part of the country, considerably more investigation is required toidentify and develop this potential source. Unfortunately, in some areas,groundwater is saline and in others, including Nairobi and the Rift Valley,groundwater contains high levels of fluorides.

Access to Water in Urban Areas

33. Whilst most of the urban population in Kenya have access to pipedwater, the urban population growth rate of over 7% strains the existingcapacity of the systems. At present, water is supplied through meteredindividual connections to about 70X of the urban population and to about 8Xthrough communal water points or kiosks. The remaining 22% of thepopulation is not serviced directly and has only limited access to potablewater. Urban water usage ranges from 70 1/cd to about 160 1/cd. Theaverage for Nairobi's population is about 130 1/cd, which is normal forthis environment.

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Access to Water in Rural Areas

34. Only 2.2 million people (about 15Z of the rural population) aresupplied with safe drinking water. The rest of the rural population has tocarry water over considerable distances from natural sources which areusually polluted, inadequate or dry for several weeks each year. Waterusage ranges from 50 l/cd for individual connections (about 47,000 serving6C0,000 people), down to about 10 1/cd where water Is carried. Although alarge number of water supply schemes have been constructed under the RuralWater Supply Programme, many with external donor assistance, the level ofoperation and maintenance has been inadequate and many are in need ofrehabilitation.

Sewerage and Sanitation

35. There are 22 public sewerage systems in Kenya, servicing about6% of the total population. Another 4% have septic tanks and 40% make useof pit latrines. The remaining 50Z have no proper sanitation facilities.In Nairobi, about 64Z of the population is served by public sewer systemsaand 20% by septic tanks. The Ministry of Local Government (MLG) and theMinistry of Water Development (MWD) have undertaken improvements in othermunicipalities and smaller towns. Operation and maintenance by localauthorities, except in Nairobi, are often to very low standards.

Sector Legislation

36. The Water Act, revised in 1968, together with its subsidiarylegislation, covers the broad field of conservation, control, apportionmentand use of water resources. The control of the right to use all waterresources is vested in the Minister of Water Development. The Minister'spowers to issue permits for the use of water and control of abstraction andpollution is exercised by the Water Apportionment Board (WAB).

37. Complementary to the Water Act is the Public Health Act whichincludes many provisions relating to water and sewerage from the healthpoint of view. The Local Government Regulations (1963) give power to localauthorities in urban areas to undertake water supply, sewerage and drainageworks, to maintain waterworks and to make appropriate by-laws.

Sector Organization

38. Reflecting the growing importance which the Government attachesto the water sector and to rural water in particular, over the past twodecades responsibility for water supplies has passed from the Ministry ofWorks to the Ministry of Natural Resources, to the Ministry of Agriculture,and finally to the MWD, which was established in 1974 to concentrate on thedevelopment of the water sector. In addition, three river basindevelopment authorities under the Ministry of Energy and RegionalDevelopment (the Tana and Athi Rivers, Lake Basin, and Kerio Valley) wereestablished as independent statutory bodies. They are responsible forintegrated, multi-disciplinary planning and implementation of developmentprojects and orderly water exploitation in their respective areas.Major irrigation developments are the responsibility of the NationalIrrigation Board under the Ministry of Agriculture and LivestockDevelopment (MOALD).

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39. Since its establishment, the MWD has concentrated on the ruralwater sector by constructing and operating several hundred schemes underthe first tour phases of its Rural Water Development Program with varyingsuccess. In addition to these rural MWD schemes, other ministries andbodies have made rural water investments. The County Councils operate withlimited success several hundred small schemes which are scheduled to betalcen over gradually by MWD as funding permits. The Kenya Railways alsooperate about a hundred schemes which supply water to adjacent villages inaddition to their own requirements. The Ministry of Lands and Settlement(MLS) plans and finances water supply for new settlemeat areas, usuallywith MWD's Water Department (WD) as the executing agency. The Ministry ofCooperatives and Social Services (MCSS) administers government grants tothe "self-help" schemes in rural areas again with WD's technicalassistance.

40. In the urban sector, the Nairobi water supply and sanitationsystem is owned and operated by the Nairobi City Commission (NCC);the Mombasa and coastal province water supply system is owned and operateddirectly by MWD, with bulk water supplied by the MWD controlled MombasaPipeline Board; and the five other major municipalities own and operatetheir own water supply systems under the direction of MLG with technicalguidance from MWD.

Development Program

41. Kenya's water sector objective is to supply safe water to itsentire population by the year 2000. In the early seventies, Governmentlaunched a Rural Water Supply Program to speed rural development, which isnow in its fourth phase. The Government also endorses the targets of theInternational Drinking Water Supply and Sanitation Decade and, in October1980, created a National Action Committee (NAC) to coordinate Decadeplanning. Annual development expenditure by MWD in the water supply andsanitation sector grew very rapidly in the seventies, to about US$25million annually by 1979. Since then, actual expenditure has dropped belowthis figure due to financial constraints, but emphasis is still given tothe rural areas, especially to those projects which have attractedsubstantial amounts of concessional donor finance. Sewerage and sanitationdevelopment expenditures amount to only 10% of the sector expenditures.

42. The rural water sector has benefited substantially from bothgrants and technical assistance provided by various international donoragencies. uver 60% of the MWD'S total Rural Water Supply Program has beenfinanced by the Nordic donor agencies (SIDA, NORAD, DANIDA and FINNIDA),The Netherlands, CIDA and KFW. In the past, this funding was concentratedon new projects to benefit the unserved rural population. Whilst thisprogram was largely successful, because of rapid expansion, MWD were unableto provide the necessary back-up service and finance to operate andmaintain these new facilities. Recognizing these constraints, the donorsare now focussing their assistance on rehabilitation, strengtheningot operations and maintenance, and technical assistance for MWD. USAID isexpected to begin implementation of a major water resources developmentprogram in the near future.

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Development Constraints and Problem Areas

43. The country's deceriorating economic situation and financialconstraints have effectively slowed and reduced the implementation of theambitious rural water supply development program. To minimize the impact,Government now gives priority to projects concessionally funded bydonor agencies. To conserve scarce resources, overall financial control ofdevelopment projects has been assumed by the the Ministry of Finance andPlanning. Consequently decision making tends to be on narrow financialbases rather than on sound technical and economic grounds. In addition,MWD has yet to develop an organizational structure which is action-oriented, while poor coordination, lack of senior management continuity,and a shortage of competent and motivated staff at the senior level allcontribute to inefficient operation. The need to improve operationalefficiency and cost recovery, especially in the rural sector has beenrecognized by the Government, together with the need for systematicmanpower development and training programs in the sector. To overcome someof the perceived shortcomings, Government has recently introduced the'district focus' concept to decentralize responsibility and authority foroperations and revenue generation to district administration. To supportthis program in the rural water sector, MWD has begun to post HQ staff tofield locations.

Cost-Recovery/Tariffs

44. Government policy on cost recovery is that, in rural areas, watercharges should cover operation and maintenance costs, and in urban centerswater charges should, in addition, contribute to capital costs. In most ofthe rural schemes, water is supplied to the consumers through kiosks at arate of KSh 2.50/m3. The tariff for unmetered connections is KSh 15.0 permonth, while for metered connections the charge is KSh 151m3 for the first9 m3 and KSh 2.65/m3 for additional consumption. The tariffs in the urbanand town council schemes average KSh 2.0/m3, although variations aresubstantial. In the Mombasa coastal region, which is operated by MWD, theflat rate charge is KSh 26.1 for the first 9 m3 and KSh 5.75/m3thereafter. The Nairobi water tariffs are described in paragraph 74.

45. Total revenues collected in the rural water schemes operated byMWD (excluding Mombasa) are only about 20% of the operating and maintenancecost of KSh 120 million. The low level of cost recovery is due both toinadequate tariff levels and to poor billing and collection practices. In1983/84, SIDA financed the preparation of a Water Use Study, whichrecommends that rural tariffs should be raised by about 30%, withcross-subsidy among the various schemes. Government has not yet decided ontariff changes, but the recently introduced 'district focus' concept isdesigned to improve operation of the schemes and water revenue collectionat district level.

B. Nairobi City

Water Supply and Sewerage

46. Nairobi has had piped water supply since the turn of the centuryand development of the water supply system has generally kept pace with theeffective demand. The population of Nairobi has grown from 4,000 in 1900

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to 835,O00 in 1979 (actual census figure), and to about 1.1 million in1984. Based on the expected growth rate of 7%, Nairobi's population couldreach 2.3 million by 1995, by which time the water demand is expected togrow from the present level of about 180,000 m3/day to about 380,000m3/day. The treatment capacity of the water works (of 206,000 m3/day) iscapable of meeting demand with distribution improvements until 1987, exceptin dry years. Industrial water use is about 5% of total demand.

47. Whilst supply presently approximates demand, the demand of theCity as a whole is not fully met due to an imbalance in the twodistribution zones. The western part of the city (upper zone) receiveswater from the first developed sources, whilst the eastern part (lowerzone) is supplied independently from the later developed Chania Riversystem. Due to the recent drought, the first developed source supply issubstantially reduced. The Chania source could provide water tocounterbalance the shortage in the western zone; however, at present thereare no adequate facilities to transfer the water. The efficientdistribution of the water throughout the city is impeded by the inadequacyof the network, and with the increased water pressure conditions followingexpansion of the water supply (specifically in the lower zone) water losseshave doubled to about 40%. Urgent measures are required for the interzonalwater transfer, and to reduce the losses through improved pressure control,installation of waste meters, leak detection measures, and systematicrehabilitation of the pipework.

48. Notwithstanding the full benefits of the Second Nairobi WaterSupply Project and achievement of a reasonable level of operationalefficiency, by 1987 the City will again experience water shortages. NCC,in consultation with the MLG and the MWD, has decided that short-term plans(to meet the demand up to 1995) and long-term plans are to be prepared forthe expansion of water supplies to Nairobi and its environs, followed by aphased implementation of these development plans. Since the furtherextraction from the present water sources in the Chania-Thika River systemswill approach the upper extraction limits to satisfy the short-term demands(1995), it is also necessary to plan for an integrated utilization of allthe regional water resources to satisfy the longer-term needs of NairobiCity and all other regional users.

49. The need for the third expansion phase of Nairobi's water supplyas part of the Nairobi City long-term water development plan was clearlyidentified during the appraisal of the Nairobi Second Water Supply Projectin 1977. At that time, following a redesign and rephasing of the project,it proved economical to defer construction of an expensive dam and storagereservoir for at least seven years. The third phase expansion project nowenvisioned will probably require the construction of that dam or a modifedversion. However, to confirm the validity of the original recommendationsfor the construction of the dam as the least cost solution, the feasibilitystudy needs to be updated prior to commencement of the detailed engineer-ing. Construction of the project would be expected to commence in 1987 andtake about four years to complete, with some additional water availableafter three years. To bridge the period between 1987 and 1990 whenperiodic water shortages may be expected, immediate measures need to betaken to optimize the existing water supply systems' efficiency. In viewof rapidly increasing population outside the City boundaries, the projec.-s

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potential to also supply water to these areas will be investigated toensure the long term equitable and orderly exploitation of the catchmentareas serving Nairobi City and its environs.

50. Due to the two-year delay in final commissioning of the previousproject, recent changes in the City's administrative structure, and seniorpersonnel changes in the policy making levels of the parent MLG, the for-ward planning for the third expansion phase is behind schedule. however,resulting from the Bank's improved sector dialogue with the recentlyestablished Commission for Nairobi City, the MLG and the Treasury, theGovernment of Kenya has recognized the urgency and endorsed the need forthe third phase expansion project. A high level interministerial committeehas been established to speed implementation. NCC with government supporthas formally appointed second phase consultants to carry out the pre-investment studies and subsequent detailed engineering. To assist theGovernment and NCC recover project momentum, the Bank approved in July 1984a PPF advance of US$1.0 million to finance the first year foreign exchangecosts of the preinvestment studies pending approval of the proposed engi-neering credit.

51. To cope with the increase of waterborne waste associated with theexpansion of water supply provided by the Second Water Supply Projectrequires the corresponding expansion of the Dandora sewerage treatmentplant. NCC is currently seeking donor aid to assist with financing theestimated cost of KSh 240.0 million. It is also necessary to identifyfuture sewerage and sanitation measures.

Organization, Management and Staffing

52. Nairobi City Council was established as a municipality withelected councillors to own and operate all the services in Nairobi includ-ing water but excluding electric power. However in 1983, the City Councilwas dismissed by Government for fiscal irresponsibility (paragraph 74) andreplaced by an appointed Commission for a period of two to three years. Nodecision has yet been taken on future elections to reinstate the Council.Legal power to own and operate the Nairobi water supply system was given tothe City by the Minister responsible for the Water Act. In 1970, as a pre-condition for the first loan, Loan 714-KE, NCC established the Water andSewerage Department (WSD) to take over responsibility from the CityEngineer's Department for Nairobi's existing water supply and seweragesystem. WSD is headed by a General Manager who reports to the Town Clerk,and who is assisted by two Deputy General Managers. The Deputy GeneralManager (Engineering) controls three sections: water supply operation andmaintenance; water supply planning, design and construction, and sewerageoperation, maintenance and development. The Deputy General Manager(Commercial), assisted by an Assistant General Manager, is responsible forthe commercial and accounting sections. A separate unit under the GeneralManager is in charge of the administration. In the early days, themanagement and performance of WSD was fully satisfactory. Following theintroduction of a localization program, there was an initial decline in thestandard of management. However, there are a number of managers and seniorstaff who, given time to develop their potential in an orderly workingenvironment, could reverse the managerial decline.

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53. Under the covenants of the Second Loan (Loan 1520-KE), NCC wasrequired to establish a Project Implementation Unit (PIU) within WSD tocoordinate project activities, including maintaining records, accounts anddealing with payments and disbursement matters. Due to lack of managementcommitment and general staff shortages, the PIU was inadequately staffedand its performance during the implementation of the Nairobi Second WaterSupply Project was below expectations and contributed to many of the

X financial and institutional problems experienced under the Project.However, the importance of the PIU's role is now fully recognized byNCC/WSD management who have undertaken to strengthen its staffing.

54. Of late, WSD has experienced serious difficulties in recruitingqualified personnel mainly because of non-competitiveness of NCC's salarystructure, and a general Government embargo on recruitment. Consequently,the number of professional staff has steadily decreased following localstaff resignations and departure of contract expatriate staff when therehas been a real need to increase both the number and calibre of the staffto cope with the increasing responsibilities. The staff recruitmentembargo was relaxed early in 1984 and the situation is slowly improving.The responsibility for recruitment, appointment, dismissal and promotion ofstaff has alternated between NCC and the MLG. However, since August 1984,responsibility for the appointment of senior staff is now vested in thePublic Service Commission (a government body responsible for all staff inthe Civi. Service).

Manpower and Training

55. NCC/WSD's current arrangements for manpower development andtraining are weak and do not extend below the salaried staff grades.Although some key managerial and senior technical staff of WSD benefittedfrom training programs provided under Loan 1520-KE, most of these staffhave since left. WSD's training program proposal for 1985-86 focusesmostly on the senior professional staff, but it is unlikely that anysystematic training program could be carried out without substantialtechnical assistance. It is imperative that a well-defined and coordinatedmanpower development and training program for all staff levels be preparedand implemented to reverse past trends.

Bank Objectives and Role in the Sector Development

56. The Bank has been involved in the water and urban sector since1970. During this period, the Bank has financed three urban projects;two in Nairobi and one in Mombasa: The Nairobi Water Supply Project (Loan714-KE) and the Nairobi Second Water Supply Project (Loan 1520-KE) wereimplemented by the Nairobi City Council (NCC), while the Mombasa andCoastal Water Supply Project (Loan 1167-KE) was implemented by MWD. Allthree projects have been physically completed successfully albeit with costoverruns of varying degrees. The main problems experienced under the twolast projects were in the institutional and financial areas resulting frompolitical interventions in day-to-day operations. The lesson to be learntfrom the projects is the need for strong autonomous organizations capableof making sound economic decisions within an established policy frameworkacceptable to Government. In addition, the Nairobi Sites and ServicesProject (Loan 1205-KE/Credit 543-KE) included funds tor a substantial

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sanitation and sewerage component to benefit the urban poor of Nairobi.The Bank has made only one loan to the rural water sector, namely the RuralWater Supply Project (Loan 1637-KE) in 1977. Due to the problems ofimplementation and operation which MWD were experiencing with the overlyambitious Rural Water Supply program, the Bank-financed Project got off toa very slow start. In 1983, the project was restructured and reduced atGovernment's request. Since then, Government's continuing financialconstraints have affected adversely MWD's financial and physical capacityto absorb any further responsibilities. Consequently, the Government isactively considering requesting cancellation of the Bank-finaniced projectand would concentrate instead on rural water projects assisted byconcessional donor finance.

57. The Bank Group supports Government's effort to achieve itstargets in water sector development by providing financial assistance forhigh priority, long-term water supply projects with continuing assistancefor institution building, emphasizing manpower development and training,and improvement in administrative and financial management. To assistGovernment focus on the development and issues of the water sector, bothrural and urban, the Bank financed the preparation of a water sector reviewunder the Rural Water Supply Project. This review is ongoing and the Bankis encouraging Government to complete it notwithstanding cancellation ofthe Rural Water Supply Project (paragraph 56). The review will provideguidance on priorities and key issues such as manpower development,institutional strengthening, and cost recovery in the face of a rapidlychanging ecological and economic environment. The Bank continues to assistthe expansion of the water supply and sewerage systems in Nairobi, thenation's capital, and center of tourism to which the Government alsoattaches high priority. The Bank-assisted Nairobi urban projects have alsohelped to improve the living conditions of the urban poor. The Bank willassist Government to plan the rationalization of urban finances through theproposed sector study on local government finances, financed under theongoing Secondary Towns Project (Loan 2319-KE/Credit 1390-KE).

PART IV - THE PKOJECT

background

58. The project was prepared by the Nairobi City Commission withinputs from the Ministry of Local Government and MIinistry of WaterDevelopment and with Bank Group assistance. It was presented to the Bankfor financing in March 1984, and appraised in October 1984. Theengineering consultants commenced work in September, 1984, financed under aProject Preparation Facility advance (paragraph 65). Negotiations wereheld in Washington, D.C. during February 26-27, 1985, with the Government'sdelegation led by Mr. J. P. Mbogua, Permanent Secretary of the Ministry ofLocal Government. A Credit and Project Summary appear at the beginning ofthis report and a supplementary project data sheet is attached as AnnexIII. No staff appraisal report was prepared for this project.

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Project Objectives

59. The proposed engineering project would help prepare a third phasewater supply investment project to meet the rapidly expanding water demandsof Nairobi City up to the mid-1990's. The project would also: (i)strengthen the operations and financial management of the Water andSewerage Department to improve its efficiency and capacity to undertake thenext major investment (the third phase); and (ii) prepare recommendationsfor the long term institutional development of an entity to manageNairobi's water supply facilities. In addition, the project would reviewthe finances of the non-water and sewerage activities of Nairobi City, andinitiate in-house training to improve financial and operationalperformance. Finally, the project would help prepare a long-term programto manage Nairobi's water resources on a regional basis.

Project Description

60. The proposed project consists of the following components:

(i) Project Preparation

(a) the preparation of the Nairobi third water supplyproject including feasibility study, detailedengineering, preparation of tender documents, andevaluation of bids for major civil works contracts;

(b) associated studies covering mapping, site investigationsand soil testing;

Cc) a Panel of Experts to advise on dam safety aspects;

gd) the strengthening of the management and operation of theWater and Sewerage Department, including training andmanpower development;

Ce) the improvement of the Nairobi City water distributionsystem;

(f) the development of a long term regional water resourcemanagement program;

(g) the assessment of the Nairobi City's sewerage andsanitation needs; and

(h) the institutional development for Nairobi's water supplyand waste disposal facilities;

(ii) Technical Assistance for Institutional Development

(a) improve the management and performance of NCC's computerinstallation to improve revenue collection in all NCCareas of operation; and,

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(b) develop and initiate in-house training for NCC (otherthan WSD).

Project Costs and Financing

61. The total cost of the project is estimated at US$7.5 million,consisting of US$4.0 million (or 53Z) in foreign costs and US$3.5 million(or 47%) in local costs, including taxes and duties of US$0.3 million.Cost estimates are based on findings during appraisal (October, 1984) andman-month scales contained in the consultancy agreement. The man-monthscales are comparable to those charged in Eastern Africa for similarassignments. Physical contingencies total US$0.6 million, or about 10% ofthe base costs of the main engineering study and associated studies andtechnical assistance. Price contingencies amount to US$0.9 million, orabout 12% of the total base cost, and were calculated assuminginternational price escalation of 4X in 1985 (6 months), 8% in 1986-87, anddomestic price escalations of 7.5% for 1985 (6 months) and 15% in 1986-87.

62. The proposed IDA credit of US$6.0 million (80% of total) wouldfinance 10OZ of the estimated foreign exchange component of US$4.0 millionand US$2.0 million, or 57% of the local costs of US$3.5 million. IDA'scontribution to local costs would permit the release of NCC funds tofinance an essential upgrading of the existing distribution system. ThePPF advance of US$1.0 million would be recovered in full from the IDACredit. NCC will finance the balance of the project local costs, amountingto US$1.5 million (20%) from WSD's self generated funds. Withholding taxeson consultants overseas remittances, amounting to approximately US$0.3million, would be financed from NCC's contribution to local costs; othertaxes and duties which are likely to be insignificant would also befinanced from local contributions. The proposed credit of US$6.0 millionwill be on-lent by the Government to NCC at an interest rate of 9.29% perannum for a maximum of 15 years including a maximum of 4 years of grace(Section 3.01(b), draft Development Credit Agreement). NCC would bear theforeign exchange risk.

Project Execution

63. The project (other than the technical assistance components)would be implemented by WSD on behalf of NCC. To improve and strengthentheir management commitment to a third water supply project, NCC proposesto re-establish the Water and Sewerage Standing Committee within the NCCorganizational structure to concentrate on the affairs of WSD. Inaddition, WSD has taken steps to strengthen the staffing of the PIU withappropriate levels of authority and responsibility. The day to day controlfor project preparation will be entrusted to the PIU under the overalldirection of the general manager of WSD. Although the post of generalmanager is vacant following the normal retirement of the last generalmanager who had been in post since 1969, the deputy general manager(technical) is acting as general manager in a satisfactory manner. Areplacement is expected to be identified within the next three months. Inview of the critical importance of the general manager to the success ofWSD, agreement was reached at negotiations that appointment of the generalmanager will be made in consultation with the Government and theAssociation (SecLion 2.04, draft Project Agreement).

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64. The two technical assistance components would be implemented asfollows: (i) computer operation and training would be under the directionof the City Treasurer, with support from the WSD's deputy general manager(commercial); and (ii) NCC manpower development and training would beunder the direction of the Town Clerk.

65. The feasibility study and subsequent detailed engineering,together with the related studies on regional development and seweragewould be undertaken by NCC's long-standing engineering consultants (HowardHumphreys-UK and Kenya). The overall work assignment would require about930 man-months and would be compl'.ee about mid-L987. Initial workcommenced in September 1984 with kinai.ce provided by the PPF advanceapproved in July 1984. Whtist the engineering consultants have the primecontractural responsibility for the other related studies on WSD'sorganization, management, operations, and finances, they propose with NCC'sand the Association's agreement to sub-contract these studies to a suitablyqualified and experienced operating entity. Proposals have been invitedfrom a short-list approved by NCC and the Association, and the award andcontract is subject to the approval of NCC and the Association (Section2.02 draft Project Agreement). Subcontract formalities are not expected tobe concluded prior to Board presentation. Separate proposals will beinvited for the technical assistance for the computer component and themanpower development component, and separate consultant entities will beappointed with terms of reference, qualifications, experience and contractterms acceptable to the Association (Section 2.02 draft ProjectAgreement). These two individual assignments are expected to require 24man-months, and 48 man-months respectively. Preference will be given tolocal organizations which can provide the necessary back-up and continuity.

Procurement

66. The consultants for the major consultancy and associated studieswere selected by the borrower and NCC. The contract, valued atapproximately US$6.0 million was negotiated on the basis of their man-monthproposal which responded to terms of reference and an agreed scope of workprovided by NCC/WSD. The Association was consulted at all stages of theprocess and the Bank Guidelines on the Use of Consultants were followed.Procurement for the two technical assistance assignments (paragraph 60(ii)(a) and (b)) will also follow Bank Guidelines.

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Disbursement

67. The IDA Credit would be disbursed as follows:

US$ milllons

1. Feasibility study, ( IOOZ of foreigndetailed engineering, ( exchange costsand associated studies 3.2 ( and 502 of

( local costs.

2. Panel of Experts 0.2 C

3. Technical Assistance 1.1 0OOZ

4. Refinancing of PPF Advance 1.0 100l

5. Unallocated O.5

Total 6.0

The Borrower/NCC propose to use Procedure III (direct payment) for alleligible consultant payments facilitated by the fact that only oneconsultant's contract will cover the major portion of the project and willset up internal procedures for prompt payment. Consequently, establishmentof a revolving fund is not justified. Disbursement is expected to becompleted by December 31, 1987.

Monitoring and Er,aluation

68. Whilst technical project reporting of the Nairobi Second WaterSupply Project (Loan 1520-KE) by the consultants was fully satisfactory,other reporting by NCC has been less than satisfactory. With actionsunderway to strengthen the PIU, NCC's reporting performance is expected toprogressively improve to acceptable standards, as evidenced by the timelysubmission of an acceptable Project Completion Report for the NairobiSecond Water Supply Project (Loan 1520-KE), prepared by NCC.

Accounts and Audits

69. WSD's accounting is reasonably up-to-date although submission ofits audited accounts have been consistently late, due in part to thearrangements which apply to auditing namely, the Auditor-General of Kenyais designated by legislation as the auditor of the accounts of NCC (ofwhich WSD is an integral part). As a result of severe overloading of theAuditor-General's limited staff, the audit of NCC and WSD has been sub-con-tracted to an indigenous firm of professional accountants who report to theAuditor-General. Thus, the Auditor-General retains overall responsibilityfor the audit and issues the final audit certificate. With this dividedresponsibility for the audit, delays are inevitable. It is therefore pro-posed to modify the audited accounts submission requirements for the pro-posed engineering credit as follows: The external auditors will completethe detailed aHdit of the annual accounts which will be submitted with

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their own interim audit report simultaneously to the Auditor-General andthe Association within six months of the financial year end of WSD. TheAuditor General would then submit his statutory audit report to theAssociation within a further four months of the submission of the externalauditor's report (Section 4.01(b), draft Project Agreement).

70. Due to a number of interrelated factors, WSD's accounts havebeen heavily qualified for each of the past three years, although to alesser degree each succeeding year. Under the Nairobi Second Water SupplyProject (Loan 1520-KE), NCC were required to establish separate accountsfor WSU on a commercial entity basis. While this goal has not been fullymet, considerable progress has been made in so far as separate accounts aremaintained and prepared on an accruals basis. However, depreciation is notprovided for but assets records are kept and assets revalued annually on anotional basis for purposes of rate of return calculations.

71. To continue the development and improvement of WSU's accountingand financial controls (as part of the main consultancy contract), allexisting financial recording and control systems will be reviewed foradequacy and effectiveness by independent consultants. Theirrecommendations for improvement, financial staff recruitment, and manpowerdevelopment will be jointly reviewed by NCC/WSD, the Association, theAuditor-General and the external auditors to agree a program to achieveadequate financial recording and control which would lead to an unqualifiedaudit report on the accounts for the year tc December 31, 1986 (Section4.05, draft Project Agreement).

72. Another priority area for early improvement is the management andoperation of NCC's leased computer installation on which the billing of WSDdepends. The computer department has been plagued in the past by a lack ofcompetent staff compoutded by a rapid staff turnover. Consequently, thedepartment is hard pressed to process an expanding volume of documentationwith inappropriate programs. This precludes the introduction of furtherapplications which are urgently required. As the disciplined use of thecomputer installation is a vital input into the generation of income forboth WSD and NCC, the project includes technical assistance to upgradecomputer management through staff training and the rationalization of theexisting computer programs.

73. WSD's provisional accounts continue to demonstrate its underlyingviability. Combined net operating income (including interest receivable,but before depreciation) for both the water and sewerage sections for FY1983 amounted to KSh 198.0 million compared to KSh 142.1 million for FY1982 (an increase of 40%). The operating ratio (excluding depreciation)for FY 1983 was 43 as opposed to 58 in FY82. However, WSD's FY 1983 debtservice cover was 3.4 compared to 4.7 in FY 1982, reflecting the growingdebt service burden as earlier loans become due for repayment, and theweakening of the Kenyan currency. During negotiations, agreement wasreached that, unless the Association otherwise agrees, NCC would not incurany debt if its net cash revenues for the fiscal year or the 12 monthsimmediately before the date of occurrence, whichever is greater, would beless than 1.5 times the maximum debt service requirements of any succeedingfiscal year (Section 4.03(a), draft Project Agreement). To enable NCC tohave sufficient financial resources to meet its operating expenses,

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including debt service charges and additional investments in capitalassets, agreement was reached at negotiations that all appropriate measureswill be taken to ensure that the net operating revenues will be sufficientto yield annual rates of return on gross revalued assets relating to watersupply and sewerage services of not less than 7.5% (paragraphs 75 and 76)(Section 4.02(a), draft Project Agreement).

74. WSD's main financial problems stem from past irresponsibility ofthe former Nairobi City Council (paragraph 52). During 1980-82, the WaterFund, which was established by Law to account exclusively for all water andsewerage revenue and expenditures, was progressively drawn down by KSh240.0 million to finance other Council non-water and sewerage operationalexpenditures. This draw down contravened the obligation under the NairobiSecond Water Supply project (Loan 1520-KE) which expressly provided forwithdrawals not to exceed KSh 8.0 million in order to facilitate financingof the Second Water Supply Project, but, at the same time, allow theCouncil some relief for its day-to-day operational needs (the Council wasprecluded from external deficit financing). The Council's own financialproblems stemmed from abolition of the Graduated Personal Tax in 1974,earlier failure to keep the property valuation rolls up to date, andinadequate rate increases to offset inflation. A poor cash collectionperformance compounded the Council's problems. The present Nairobi CityCommission (which succeeded the Council) has not made any furtherunauthorized withdrawals from the Water Fund since mid-1983, which isallowing WSD to recover financially. During negotiations, agreement wasreached that all revenues from WSD's water and sewerage operations will beplaced in a separate account and will be used solely for the operation,maintenance and development of the water supply and sewerage services ofNairobi (Section 4.04, draft Project Agreement). At this stage, there areno immediate prospects of the Commission repaying the KSh 240.0 million tothe Water Fund. The Commission is, however, crediting interest at 122 perannum to the Water Fund on the outstanding withdrawals which is charged tothe General Fund. As part of the financial studies to be financed by theproposed engineering credit, consultants will make recommendations for theinstitutional development of WSD which will be reviewed and agreed by theBorrower and the Association (Section 3.04, draft Project Agreement). Atthe same time, the consultants will also determine the potential impact onNCC's financial position and revenue base should the recommendation providefor WSD to be completely divorced from NCC's operational control.Government is also concerned with NCC's weak financial base andperformance, and has appointed a task force to make recommendations tostrengthen NCC's non-water revenue base.

Tariffs

75. During implementation of the Second Nairobi Water Supply Project,tariffs have been increased from time to time to meet inflation and othercost increases, and have moved towards achieving covenanted rate of returnobligations. The present arrangements for approval of tariff increasesinvolve both financial and political considerations. Tariff increases arefirst approved by NCC, then by the MLG (NC(,'s parent Ministry), and finallyby the Minister of Water Development who, under the Water Act, has thepower of veto. Resulting from this elaborate approval procedure, pasttariff increases have not always been implemented in a timely manner andhave at times been subjected to amendment for political considerations.This has led to reductions in required revenues with adverse impact on

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WJD's cash flow and financial stability. Since 1977, average water tariffshave increased from KSh 2.60/m3 to KSh 4.16/m3 in 1982 - an increase of602. In the same period, sewerage charges (which are based on 75Z ofactual water consumption billings) have increased from KSh 1.04/J3 to KSh1.33/m3 - an increase of 2BZ. Early in 1984, NCC and MLG approved a watertariff increase of about 35%, but this was vetoed by the Minister of WaterDevelopment, due in part to poor coordination, and concern for the lowerincome consumers. Following improvements to the consultation process, NCCrestructured the tariff increase to cushion the impact on low incomegroups. As a result, the ministries of Local Government and WaterDevelopment have now approved a tariff increase of about 40% with thegreatest impact on larger consumers, both industrial and residential. Thetariff increase will not only enable WSD to meet its 7.5% rate of returnobjective, but, more importantly, will generate sufficient cash to meet itsdebt servicing obligations, complete the financing of the Second project,and initiate the emergency capital improvements program. The new tariffwill average about KSh 5.60/m3 or US cents 38/m3 (US$1.46/per thousand USgallons). Implementation of the tariff increase would be a condition ofcredit effectiveness (Section 5.01(b) draft Development Credit).

76. NCC and Government are also aware that further tariff increaseswill be required at the beginning of each financial year over the nextthree years averaging about 15% per annum. These are required to generatesufficient internal funds to finance essential capital works and build up areasonable contribution to the start-up costs of the proposed third Nairobiwater supply investment project. The amount of the required tariffincreases will be confirmed as part of the financial studies. Anotherpurpose of the financial studies is to determine a rational tariff policyand structure which would be politically acceptable. This tariff policycould then be incorporated into the objectives of any revised institutionalstructure for WSD, thereby reducing the need for continual politicalintervention into WSD's operational and financial management.

Billing and Collection

77. WSD billing and collection performance suffers from theshortcomings of NCC's present in-house computer installation (paragraph72). Consequently, the expected benefits of the computer have not beenachieved and productivity is declining. At present, WSD accounts for aboutbOW of the computer's usage for billing some 100,000 consumers. Growth innew customers is expected to average 5,000 per year over the next threeyears. Monthly combined revenue-, for water and sewerage are presentlyaveraging KSh 22.0 million. In FY 1982, outstanding bills represented 115days of total billings; in FY 1983 the position deteriorated to 158 daysresulting from computer inefficiencies and critical staff shortages in themeter reading section, aggravated by a staff recruitment embargo. Sincethen, steps have been taken to clear the bottlenecks and the outstandingbill position is improving. The outstanding bills situation at the end of1984 was 123 days. Technical assistance under the project will furtherimFrove the WSD's colleLtion performance (paragraph 72).

Environmental Impact and Conservation

78. The proposed engineering credit project is expected to have apositive impact on the environment and on conservation in various ways,

- 24 -

namely: (i) NCC will be required to improve the maintenance and safetyinspection on a regular basis of the two existing dams; (ii) NCC will beencouraged to expand the capacity of the existing sewerage facilities tocope with the additional throughput generated by the Nairobi Second WaterSupply Project, thereby improving the quality of discharge into the AthiRiver; (iii) the project studies provide for the formulation of a longrange pollution control policy with supporting legislation; (iv) pollutionawareness and coordination amongst the region's principal water users willbe encouraged as part of the regional water use study; and (v)implementation of WSD's operational improvement program and the emergencyleak detection program will assist with the conservation of water, as willthe expected changes in the tariff structure to penalize excessiveconsumption.

Justification

79. The prime purpose of the proposed engineering credit is toprepare a third Nairobi water supply project which would continue thephdsed development of Nairobi City's water supply up to 1995, therebyensuring a continued reliable water supply. At the same time, the proposedengineering credit will strengtnen the initial steps taken to develop there-gion's potable water resources and usage in a co-ordinated manner, andidentify potential pollution problems and their solution. The engineeringcredit will also help to identify Nairobi's city's long-term sewerage andsanitation needs and focus attention on the implementation of short-termimprovements to alleviate future pollution problems. Finally, the proposedengineering credit would contribute to upgrading the operation and financesof both NCC and WSD through studies, training and technical assistance.Without the Bank's continued support, Government and NCC would find itdifficult to move to the implementation phase of a third phase water supplyproject in Nuirobi, as substantial co-financing will be required from anumber of potential donors, some of whom look to the Bank Group fornecessary technical inputs in the form of identification, preparation,appraisal, and supervision of the project.

Risks

80. The risks associated with the proposed engineering credit are:(i) failure to strengthen WSD's management and provide the necessary staffto concentrate on both the preparation of a third phase water supplyinvestment project 'Tn a timely manner, and the improvement of theoperational and financial efficiency of WSD; and (ii) failure or delay toimplement appropriate tariff action required for cash generation to coverNCC's contribution to preparation cost of the third project, in addition todebt service coverage and critical capital expenditure. In addition to therisks directly associated with the proposed credit, there are the longerterm risks in preparing a third phase investment project, namely: (i)Government and/or NCC's reluctance to accept or implement recommendationsarising from the various studies on WSD's institutional development andimprovement necessary to undertake a third project; (ii) NCC's furtherwithdrawal of funds from the Water Fund for non-water purposes; and (iii)reluctance to authorize further tariff action required to generate areasonable WSD contribution to the start-up costs of the third project overthe next three years.

- 25 -

81. Whilst the risks are significant, a number of actions have beentaken recently by both Government and NCC which suggest that the risks willbe contained, namely: (i) the proposed project has been endorsed at cabinetlevel; (ii) an interministerial co-ordinating committee meets as necessaryto resolve policy issues; (iii) NCC is proposing to establish a Water andSewerage Standing Committee with appropriate powers to concentrate onproposing WSD management; (iv) no unauthorized withdrawals have been madefrom Water Fund since late 1983 on NCC Chairman's instruction; (v) a majortariff increase has been approved; and (vi) the recruitment process for anew general manager has begun and the Association will be afforded anopportunity to comment on the appointment.

PART V. LEGAL INSTRUMENTS AND AUTHORITY

82. The draft Development Credit Agreement between the Republic ofKenya and the Association, the draft Project Agreement between theAssociation and the Nairobi City Commission and the Report of the Committeeprovided for in Article V, Section l(d) of the Articles of Agreement of theAssociation are being distributed to the Executive Directors separately.

83. Provisions in the Development Credit and Project Agreement, ofparticular importance are noted in paragraphs 62 through 74 of this reportand those of a special nature are contained in Section III of Annex III.The Special Condition of effectiveness for the proposed credit (Section5.01(b), draft Development Credit Agreement) is the implementation of anapproved 40% increase in water and sewerage tariffs.

84. I am satisfied that the proposed Credit would comply with theArticles of Agreement of the Association.

PART VI. RECOMMENDATION

85. I recommend that the Executive Directors approve the proposedcredit.

A. W. ClausenPresident

Attachments

Washington, D.C.March 7, 1985

ANNEX I

-26- A

IlUllTEA - SOCIAL INIIfCATOMS DATA UNSTIGNIARRE M GRoun (EIXamD luAE) j

HDST (MST U UTXMATE)ECEIIT iLOW INCOM AFRICA NZ 4wT o

t9k 197imL z ESTfABELb SOUIu or SANARA AFRICA S. or SAJIA

ASI (TOUS* SQ. U)TOTAL 52. 7 582.7 52. 7ACICULTURAL 53.7 59.1 b0.8

cU* (no) 80.0 120.0 390.0 249.1 1112.9

mcr COWT2OU cArIA{KZLOGs OF OIL SQUIVALENT) 114.0 161.0 167.0 62.8 529.0

POPULArION AM IfTAL STISfICSPOPULATIONM lI-TEAR (THOUSANAR) 8189.0 11253.0 l8115.0URA POPLAIION (z or TOTAL) 7.4 10.2 15.2 19.2 29.7

POPUIATION PR )CTXONSPOPULATION IN YEA 2000 (HILL) 39.5STATIORU!Y POPULATION (MILL) 153.3POPUIATION MOMENTUI 2.1

POPULATION DENSITYPCR SQ. KU. 14.1 19.3 29.8 32. 5 55.8PER SQ. U. Mal. LAN 152.5 190.4 285.6 119.2 - l11.5

POPULATION ArZ STRUCTURE (t)0-14 YRS 47.7 48.9 50.R 65.6 45.4

15-64 uRS 69.8 48.6 67.3 51.5 51.765 AND ABOVE 2.6 2.5 2.6 2.9 2.9

PO PlUTION GO9TH itATE (:)TOTAL 2.4 3.2 R.0 2.8 2.8tUUAN 5.2 6.6 7.3 6.2 5.2

CRUME BXrAH RATE (PU TUOUS) 54.7 54.7 56.8 68.6 67.0CUjDE DgATR RATE (PER TOUS) 23.6 17.8 12.3 17.7 15.ZGuOss REPROOUCTION RATE 3.9 3.9 3.8 3.2 3.2

FAMILY PLANIUIGACCERS, ANNUAL (TUOUS) .. 30.9 63.0 /.USERS (t OF tAURED WEN) .. 6.0 /d 7.0 h-*

INOEX OF FOOD MOD0. PER CAPITA(1969-71-100) 99.0 100.0 88.0 65.8 91.6

PER CAPITA SUPPLY OFCALORIS (Z OF REQUIREIIENTS) 99.0 95.0 88.0 86.6 98.2=ROTEtNS (CRAMS PER DAY) 68.0 65.0 56.0 69.9 56.7

or IHIICIC ANImAL AND PULSE 27.0 27.0 24.0 18.3 17.0

CHXLO (AGES 1-4) DEATH RATE 21.0 18.0 13.0 23.8 18.7

LIFE EXPECT. AT BIRTH (YEARS) 46.5 52.0 56.7 48.4 51.7INFANT HOT. RATE (PER TH300) 112.0 96.0 77.0 117.5 102.7

ACCESS To SASE wATER (SPOP)TOTAL .. 15.0 17.0 /b 21.8 35.6URBAN 100100.0 100.0 7T 61.5 56.1RURAL .. 2.0 *.0 7 16.2 27.3

ACCESS TO EXCRETA DISPOSAL(Z OF POPUIATION)

TOTAL .. 50.0 55.0 /b 32.0UWA .. 85.0 98.0 Th 69.2RURAL 4. 65.0 68.0 7i 26.8

POPULATWN PER PSIDCAN 10690.0 7830.0 /k 7890.0 /k 27477.8 11948.3POP. PER NULSING PERSON 2270.0 /t 1470.0 7 550.0 7.k 339b.2 2248.9POP. PER HOSPITAL BED

TOTAL 790.0 770.0 620.0 /. 109.0 986.9URBIAN 80.0 71 620.0 ZI 395.2 368.7RURAL .. .. S30.0 3096.0 6012.1

ADMISSIONS PER HOSPITAL BED .. .. 9.7

holSINCAVERAGE SIZE OF HDOUSEOLD

TOTAL .. 4.7URBAN 4.9 /I 4.7RURAL .. 6.7

AVERArE N0. OF PERSONS/RoOMITAL .. ..MURAN 2.5 1 .. .RUIAL *

ACCESS TO ELECT. (C OF VELLIKCS)TOTAL .. ..URAN .. ..RURAL .

ANNX I- 27 - Am 2

KEZIA - SOCIAL INDICATORS DATA SUISTIZENYA RErUCENCe GROUPS (lWtlHRD AVCIACI() E

11ST (MOST UCENT STtIMATE) /b1RCENT LOw IHCOg AFRICA MIDDLE INCCmE

19 6 n.'b 197 oLv. ESTimurt 501121 or SAKAI, AFRICA S. Of SAHARA

EDtClTtOADJUSTED ENROLLMENT RATIOS

PRIMARY: TOTAL 47.0 61.0 109.0 69.2 91.0KAU e64.0 72.0 114.0 78.a 90.5FEMALE 30.0 50.0 101.0 57.6 73.6

SECONDARY: TOTAL 2.0 9.0 19.0 13.1 17.4HALZ 3.0 13.0 23.0 17.6 23.7FEMALE 2.0 6.0 15.0 8.3 14.8

VOCATIONAL (2 OF SECONDARY) 12.2 1.8 2.0 7.2 5.3

PUPIL-TEACHER RATIOPRIKARY 42.0 34.0 38.0 46.1 36.6SECONIDARY 15.0 Z1.0 25.0 25.9 24.3

ADULT LITERACY RATZ (S) 19.5 li 30.0 47.1 44.3 35.6

comlIwaPASSENGER CARS/THOUSAND POP 7.9 8.5 6.8 3.8 20.7RADIO RECEXVERS/THOUSAND POP 7.0 44.4 32.4 41.9 100.6TV RECEIVERS/THOUSAND POP 0.3A / 1. 3.9 2.0 18.5NEWSPAPER (DAILY GENEZRAL

IHTEREST-) CIRCULATIONPER THOUSAND POPULATION 11.2 13.8 9.7 /i 5.4 17.2

CINEMA ANNUAL ATTENDANCE/CAPITA 0.9 .. 0.4 71.4 0.3

LA FORTOTAL LABR FORCE (THOUS) 3296.0 4314.0 6363.0

FIEALE (PERCENT) 34.6 34.4 33.3 36.5 33.8AGRICULTURE (PERCENT) 86.0 82.0 78.0 77.4 57.1INDUSTRY (PERCENT) 5.0 7.0 10.0 9.8 17.4

PARTICIPATION RATE (PERCENT)TOTAL 40.3 38.3 35.1 41.0 36.3MALE 53.3 50.9 47.2 52.1 47.6FEMALE 27.5 26.1 23.3 30.2 25.1

ECONOMIC DEPENDENCY RATIO 1.2 1.3 1.5 I.Z 1.4

101 DISTHIWTIONPERCENT OF PRIVATE INCOKERECEIVED BYHIGHEST 5: OF HOUSEHOLDS .. 20.2 /lHIGHEST 202 OF HOUSEHOLDS *. 52.6 7r **LOIEST 20Z OF HOUSCHOLDS .. 3.9 -/I *- -LOWEST 402 OF HOUSEHOLDS .. 11.7 7r ..

LOWES TARGLT GROUPS.ESTIMATED ABSOLUTE POVERTY INCOMELEVEL (USS PER CAPZTA)URBlA .. .. 150.0 /e 168.3 525.3RURAL .. .. 112.0 7. 90.8 249.0

ESTIMATED RELATIVE POVERTY IhICOhIELEVEL (USS PER CAPITA)

URBN .. .. 179.0 /a 107.7 477.4RURAL .. .. 106.0 7o 65-0 186.0

ESTIMATED POP. BELOW ABSOLUTEPOVERTY INCOME LEVEL (2)

URBN .. .. 10.0 /a 34.7RURAL .. .. 55.0 7* 65.4

NOT AVAILABLENOT APPLICABLE

N 0 T E S

/a The group averages for each Indicator are populaxion-w.ighted arithetic means. Coverage of countries among theindicators depends on :vailability of data and it not uniform.

lb Unless ocherwise noted. -Dcs for 1960' refer to any year between 1959 and 1961; -Dcta for 1970- between 1969 and1971; and data for Most Recent Eatimae between 1980 and 1982.

Ic 1979; /d 1967; rural areas only; le 1978; /f Ages 15-50; LL 1977; lb L975; /i 1962; Li 1976;/k Reg5srered. noc 11 practieLng In the catntry: /1 urban only.

JUNE, 1984

ANNE I-28 - Page 3

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- 29 -

ANNEX I

Populations 18.9 milLion (1983)UHP per Capita3 USS340 (1983)

KUIIA: ECOcICo INDICATORS

Amunt(million U03) Annual growth rte (Z2) at countant pricesat current

Indicator prices) Actual1983 1979 1930 1981 1982 2981

NATIONAL ACCOUNTSL

Croan dometic product A/ 5.723 3.9 4.8 4.2 1.8 3.7Agriculture 1.640 -0.7 -1.1 6.2 4.6 4.1Industry 1.009 6.8 5.8 4.2 -0.3 2.7Sirvic.s 2.296 1.4 5.8 5.2 4.3 4.2

Consueption 4.615 6.5 -1.5 -1.4 5.2Cross tnvestusnt 1.209 -27.1 39.0 -2.1 -2--8Fxports of CNFS 1.456 -5.0 J. -4.5 i.2lprts of GUPS 1.556 -19.4 10.5 -21.0 21.3

Cross national savings 12035 6.9 -1.4 2..1 6.0 14.5

PILCESGDP deflator (1983-100 in U5$) 75.4 82.6 90.9 100.0 200.0Lecnange rate (Xth/USS) 7.5 7-4 9.0 20.9 13.3

Share of CDP at *xrket prices (I) Average Annual Increase (2)(at current prices) (at constant prices)

1975 1981 1923 1985 1990 1970-75 1975-80 1983-85 1985-9U

Gross dometic producta/ 1uo.0 100.0 100.0 200.0 100.0 9.4 6.0 1.7 4.3Agriculture 30.2 27.5 28.7 28.2 27.8 5.9 1.2 0.9 4.0

Industry 17.9 18.8 17.6 17.9 28.1 15.4 7.9 2.5 4.5Services 40.3 38.6 40.1 40.8 41.1 7.5 5.4 2.5 4.5

Consumption 86.5 81.4 80.6 83.0 81.3 21.5 6.2 3.1 4.0Gross Investsent 18.1 30.0 21.1 21.0 21.6 -3.5 12.2 1.4 4.9Extports of GCUS 29.8 28.6 25.4 25.5 25.0 1.7 1.3 1.8 3.eImports of GCFS 34.5 40.0 27.2 29.5 27.9 -2.0 6.4 5.9 3.3

Gross national savings 10.b 16.7 16.5 26.0 17.9 -0.9 11.2 -4.4 6.7

A/ At sarket prices; components are expressed At fActor cost and will not add due to exclusion of new indirect taxesAnd subsidie.

As 2 of GDPCEUrRAL OOVERJOENT FINANCE at I2805/1 i819182 1982/83 1983/84 1984185

Revenue snd Grants 26.1 25.7 24.8 24.6 26.2Kevenue 25.3 24.4 232 MY YE*Crsnta 0.8 1.4 1.6 1.3 7.6

Expenditures 34.8 33.1 28.6 29.2 31.3Current expenditure 26.7 23.3 22.4 21.3 23.4Capital expenditure 10.1 9.8 6.2 7.8 7.9

Overall cash deficlt 9.5 6.6 3.1 4.6 5.1Foreign financing Tl t T7 1.0 2.6

Dooestic financing c.6 4.9 1.4 3.6 3.5

Average Annual Growth (2)(st conatent prices)

196i -70 1970-75 1975-80 1983-85 1985-90OTHER INDICATORS

GNP growth rate (2) 5.2 5.5 :.8 2.5 4.6CNP per capita growth rate (Z) 2.2 2.2 2.3 -1_6 1.4

Energy consuaption growth rate (:) - - 4.9 2.5 7.0

ICO' 6.1 4.2 4.E Q.6 4.9Marginal savings rate -0.5 -1.0 -0.8 -2.6 2.5Import elasticity 0.9 -n.2 1.1 1.2 0.8

A/ Fiscal years ending June 30.

February 20. 1985

- 30- ANNEX IPage 5

Population: 18.9 million (1983)CNP per Capita: US$340 (1983)

KXNYA - EXTERNAL TRADE

Amount - - - - - Annual growth rate. () - - - - - - - - - -(million USS at (At conatant 1983 prices)

Indicator current prices) Actual Projected1983 1979 1980 1981 1982 1983 1984 1985 1986 1957 1990 '

EXrERNAL TRADEMerchandiie exports 947 -2.1 3.2 -5.2 -3.3 -1.5 -1.9 1.7 3.8 3.8 3.P

Prisery 816 4.8 -7.3 6.7 13.9 -1.1 -2.0 2.0 3.7 3.7 3.8Manufactures 131 -3.1 29.6 -16.3 -16.5 -3.0 -0.8 1.0 4.0 4.0 4.0

Merchandise imports 1391 -18.3 14.7 -22.8 -12.5 -11.3 7.3 5.5 0.6 4.4 4.4Food 125 -19.2 57.6 -48.4 58.4 -10.1 8.8 25.0 -23.5 7.7 8.1Petroleum 508 0.9 16.7 -21.5 -6.7 -18.2 0.4 0.6 1.4 2.5 2.2Machinery & Equipment 315 -28.4 19.0 -22.0 -19.2 -13.4 12.1 5.1 5.1 5.4 5.2Others 443 -8.3 5.0 -7.1 -3.6 -1.3 11.5 5.5 4.6 4.8 4.8

PRICESExport price index 100.0 58.2 70.0 77.3 84.5 100.0 116.3 113.8 120.2 127.2 150.6Import price index 100.0 46.6 61.1 77.7 89.8 100.0 106.0 112.0 117.9 124.5 146.BTerms of trade index 100.0 124.8 114.6 99.5 94.1 100.0 109.8 101.5 102.0 102.2 102.6

Composition of merchandise trade (2) Average Annual Growth(at current prices) (at constant prices)

1979 1981 1983 1986 1990 1974-79 1983-85 1985-90

Exports 100.0 100.0 100.0 100.0 100.0 - -0.1 3.3Primary 84.9 87.7 86.6 86.6 86.2 2.1 -0.0 3.2Manufactures 15.1 12.3 13.4 13.4 13.8 -11.3 -0.4 4.0

Imports 100.0 100.0 100.0 100.0 100.0 - 6.4 3.8Food 5.3 4.8 9.0 9.0 10.3 -10.4 16.6 2.8Petroleum 23.7 36.9 36.5 30.2 27.7 -2.8 0.5 2.2Machinery & Equipment 35.5 27.2 22.6 25.0 26.1 1.7 8.5 5.2Others 35.5 31.2 30.4 35.8 35.9 - 8.4 4.8

Direction of Trade

Share of trade with Share of trade with Share of trade with capitalindustrial countries (Z) developing countries (%) surplus oil exporters t2)1979 1981 1983 1979 1981 1983 1979 1981 1983

Exports 54.4 42.1 47.2 34.0 45.0 39.2 1.8 2.3 3.0

Imports 67.4 57.3 50.8 10.0 8.2 15.4 20.3 33.5 32.3

February 21, 1985

- 31 -Population: 18.9 million (1983) ANNEX IGI4P per Capita: US5340 (1983) P-ge h

KENYA - BALANCE OF PAYMENTS, EXTERNAL CAPITAL AND DEST(million. US$ at current pricea)

Actual Eat. Pro ected1979 19B0 1981 1982 1983 1TM 1985 1986 1 87 1988 1990

BALANCE OF PAYMENTS

kxports of goods and services 1,666 2,084 1.746 t,599 1,500 1.606 1.684 1.853 2,049 2,269 2.7UExports of goods 1,032 1.315 1,136 1000 947 1.030 1.033 1.207 1.321 1.445 1.726Exports of servicea 634 769 610 599 553 574 651 646 728 824 1.057

Imports of good. and services 2,254 3 119 2 583 2,130 1 787 1,943 2 182 2,275 2,497 2 716 3 200Imports of goods 1.832 ,082 2,1 -8 ,722 11,5 9 1, 1,868 2,060 2,2 1 Z2,.6laports ot services 422 437 435 408 394 364 445 407 437 445 517

(of which: tnterest) (87) (141) (139) (172) (169) (182) (181) (179) (187) (196) (215)

Tranaters (net) 91 148 95 68 116 138 138 110 110 110 110

Current Accuunt Balance -497 -887 -742 -463 -171 -201 -363 -322 -339 -337 -387

Direcc investment (net) 7a 78 60 60 74 60 70 70 70 70 70

Pubilc MLT loans (net) :93 444 275 213 80 147 147 314 326 336 417Gross disbursements 469 562 1.37 WT 2Si ilt6 31- 1b S0 535 ]6E2

Repaywents 76 118 162 180 178 228 259 199 195 199 215

uFf Credit (net) 72 57 27 147 96 -12 77 -96 -91 -73 -98Purchases 131 *7i 35 1 1 1- - - - -Repurchases 39 9 8 19 46 60 61 96 91 73 98

Other capital (net) /a 236 155 132 23 86 25 30 50 50 50 50

Change in Gross Reserves 282 -153 -248 -20 165 25 -38 15 17 46 -52

MHeorandum items:GrDss reserves at year's end 652 499 251 231 396 421 383 398 415 463 558

Reserves as weeks imports 13 1O 8 13 13 II i1 10 11 11

Current account deficit as 2 of GDPIncluding official grants lb 8.2 12.5 11.0 7.4 3.0 3.4 5.6 4.8 4.4 3.9 3.5

Excluding ofticial grants /c 9.7 14.2 12.3 8.6 5.0 5.9 7.8 6.4 5.9 5.2 4.6

EXTERNAL CAPITAL AND DEBT

Gross Disbursements

Official grants /d 88 124 82 83 125 144

Concessional loans 146 178 146 190 84 174

Silateral-DAC 94 66 104 89 41 70Bilateral-OPEC - - 2 5 2 29

IDA 22 72 15 85 20 38

Other 31 41 13 9 31 37

Nonconcessional loans 323 384 291 203 174 202

Official export credits 12 16 32 15 46 27

IBRD 40 45 61 88 100 87Other multilateral 7 15 15 22 14 17

Private-source 264 297 183 79 I4 70

Public MLT loane - total 469 562 437 393 258 375

/a Includes short-term capital, commercial bank's net foreign position, errors and omissions, and valuation adjustment./b Including offtcial grants above the line' as an item contributing to the determination of the current account deficit.T7 Treating official grants as a 'below the line item which contributes to the financing of the current account deficit.

Td -Government transfer receipts- in the balance of payments.

February 21. 1985

- 32 -ANNEX IPage 7

Actual Est.1979 1980 1981 1982 1983 198-4

External Debt OutstandingPublic debt outstanding anddisbursed (excl. IMF) 1,809 2,216 2,315 2,423 2,384 2,701Official-source 1,064 T,264 1,397 1,619 1,740 2,158Private-source 746 952 919 803 644 543

Undisbursed debt 1,431 1,388 1,235 1,361 1,131 1,157

IMF credit outstanding 139 198 207 341 426 399

Public debt outstanding anddisbursed (incl. IMF) 1,948 2,414 2,522 2,764 2,810 3,100

Debt service /aTotal debt service payments 202 268 309 371 379 447Of which: interest 87 141 139 172 169 182

Payments as Z exports 12.1 12.9 17.7 23.2 25.2 27.3of goods and services

Average interest rate on loans /b 7.0 3.4 9.2 5.9 6.5 5.2(Z) Official-source 3.4 3.0 5.3 5.2 - -

Private-source 10.6 9.3 15.4 10.1 - -

Average maturity of loans 21.1 30.7 22.8 30.4 25.0 27.2(years) Official-source 33.8 31.6 31.8 33.3 - -

Private-source 8.3 14.7 8.8 14.1 -

As % of debt outstandingat end of 1983

Maturity structure of debt outstandingPrincipal due within 5 years 42.8Principal due within 10 years 75.2

Interest structure of debt outstandingInterest due within first year 5.7

/a Including IMF repurchases and charges./b Excluding new DIF loans. Pebruary 21, 1985

- 33 -ANN=X I1

page 1

ToE STATUS OF DK GROUP OPERATIONS IN KENYA

A. Statemnt of Bank Loans and IDA Credits as of September 30. 1984

- - -- US Million - - - - -Loan or Amount (Less Cancellations)Credit * Year Borrover Purpose lank I/ TV IDA Undiaburaed

Twenty (20) Loans and Twenty-five (25) Credits and two (2)Third Window Loans Fully Disbursed 413.78 299.631184 1976 Kenya Third Educatlon ID.00 0.1513D4-T 1977 Kenya Wildlife and Tourism 17.0 3.651449 1977 Kenya lurs Irrigation Settlement 34.00 16.29750 1978 Kenya Small Scale Industry 10.00 5.64

( 791 (1978 (Kenya (Second Urban 25.DO ( 8.46(1550 (1978 (Kenya (Second Urban 25.00 (25.00

797 1978 Kenya Fourth Education 23.00 11.891636 1979 Kenya Sugar Rehabilitation 14.0O 4.0 31637 1979 Kenya Rural Water Supply Z0.00 19.18858 1979 Kenya Narok Agricultural Development 13.00 9.90

1684 [979 Kenya Highvay Sector 90.D0 21.40914 1979 Kenya Smallholder Coffee Improvement 27.00 24.15959 198D Kenya Second Integrated Agric. Dsv. 12.00 7.82962 1980 Kenya 8aringo Semi-Arid Areas 6.50 5.20

1799 198D Kenya Third Power (Olkaria Geothermal)40 .00 2/ 3.701817 198D IDB Fourth Industrial Dev. 3nk 3D .00 17.341045 L98D Kenya Export Promotion Technical Asst. 4.50 4.211051 1980 Kenya Fisheries 10 .00 9.971107 1981 Kenya Fifth Education 40.00 29.111976 1981 Kenya Railway 58.00 27.00

(1143 (1981 (Kenya (Fourth 4griculture 10.00 5.59(1995 (1981 (Kenya (Fourth Agriculture 25.00 25.002065 1982 Kenya Petroleum Exploration 4.00 0.94

(2098 (1982 (Kenya (Forestry III 4f 21.50 21.50(1213 (1982 (Kenya (Forestr III 16.00 9.07

1237 1982 Kenya Cotton Proc. & Marketing 4/ 22.00 18.451238 1982 Kenya Integrated Rural Health &

Family Planning 4/ 23.00 17.702155 1982 Kenya Second Telecomnications 44.70 24.711277 1983 Kenya Agric. Technical Assistance 4/ 6.00 3.442237 1983 Kenya Olkaria Geothermal ExpansLon 12.00 - - 7.501387 1983 Kenya National Extension 4/ 15.00 11.79

(2319 (1983 Kenya (Secondary Towns 7.00 6.98(1390 (1983 Kenya (Secondary Towns 4/ 22.00 19.932359 1983 Kenya Kiasbere Hydroelectric 95.0 94.76

(2409 (1984 (Kenya (Second Hlghway Sector 50.0r (49.88(BD17 (1984 (Kenya (Second Highway Sector 40 .00 (37.761486 1984 Kenya Geothermal Exploration 3/ 24.50 24.50

Total 993.98 17.00 649.13 633.59of which has been repaid 96.21 .88 5.35

Total nov outstanding 897.77 16.12 643.78Amount sold 11.81

of which has been repaid 11.81 .00

TOTAL now held by Bank and IDA 885.96 16.12 643.78

TOTAL undisbursed 365.36 3.65 264.58 633.59

1/ Prior to exchange adjustment.2/ Includes Loan S-12 (S9.0 milLion).3/ Not yet effective.6/ IDA-6 Credit amounts expressed in dollar equivalents of SOR's.

- 34 -ANNEX IIPage 2

C. Statement of IFC Investment in Kenya as atSeptember 30, 1984

Fiscal Year Obligor Type of Business Amount In US$ MillionLoan Equity Total

1967, 1968,and 1973 Kenya Hotel Properties Hotels 5.2 0.7 5.9

1970, 1974,1977, 1979and 1981 Pan African Paper Mills Pulp and Paper 22.2 6.3 28.5

1972 Tourism PromotionServices Hotels 2.4 -I/ 2.4.

1976 Rift Valley Textiles Ltd. Textiles 6.3 2.8 9.1

1977 Kenya Commercial Bank Ltd. Capital Market 2.0 - 2.0

198D Development FinanceCompany of Kenya Ltd. Development Finance 4.0 1.3 5.3

1981 Kenya Commercial Finance Money & Capital Market 5.0 - 5.0

1982 Bamburi Portland Cement & ConstructionCement Co., Ltd. Material 4.4 - 4.4

1982 Diamond Trust of KenyaLimited Money & Capital Market - 0.8 0.8

1982 Industrial PromotionServices (Kenya) Ltd. Money & Capital Market - 0.6 0.6

1983 Tetra Pak ConvertersLimited Pulp & Paper Products Z.2 0.3 2.5

1984 Leather Industries ofKenya Limited Tanning 1.5 0.6 2.1

Total Gross Commitments 55.2 13.4 68.5less cancellations, terminations, repaymentsand sales 21.7 1.7 23.4

Total Commitments now held by IFC 33.5 11.7 45.2

Total Undisbursed 5.5 0.4 5.9

_/ $51,395

- 35 -

ANNEX III

KENYA

Third Nairobi Water Supply Engineering Project

Supplementary Data Sheet

Section 1: Timetable of Key Events

(a) Time taken by the country with BankGroup assistance to preparethe project: 6 months

(b) Agencies which prepared project: Nairobi City Commissionand Ministry of LocalGovernment

(c) First presentation to Bank: March 1984

(d) Appraisal: October 1984

(e) Appraisal follow-up: February 1985

(f) Completion of negotiations: February 1985

(g) Planned date of effectiveness: July 1985

Section II: Special Bank Group Implementation Actions

None.

Section III: Special Conditions

Implementation of an approved 40X increase ._. wecer and seweragetariffs would be a precondition of credit effectiveness.

to Al.7voaha

KENYANAIROBI

THIRD WATER SUPPLY ENGINEERING PROJECT

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