Issyk-Kul Wastewater Management Project (RRP KGZ 50176) ECONOMIC ANALYSIS A. Country Context 1. The Kyrgyz Republic is a mountainous, landlocked country of about 6 million people in the heart of Central Asia. Despite its agriculture, hydropower, and tourism resources, the country has experienced political and social instability since it declared independence in 1991. The country’s economy is highly vulnerable to external shocks because of its reliance on the mining sector, which accounts for about 10% of gross domestic product (GDP), and on worker remittances, which have produced about 30% of GDP in the last 5 years. The Kyrgyz economy has recovered from external shocks during 2014–2015—growth was 4.5% in 2017, up from 3.8% in 2016—and is supported by continued improvements in the Russian and Kazakh economies and by expansionary macroeconomic policies. Real GDP growth is expected to reach 5% by 2020, driven mainly by remittances and trade. To maintain political stability and embark on a sustainable path to economic development, the country needs more inclusive economic growth. 2. The National Sustainable Development Strategy (NSDS) for 2013–2017 of the Kyrgyz Republic aims to achieve a successful, stable democracy, along with inclusive growth.1 The strategy recognizes persistent poverty and regional disparities as key challenges. It focuses on mining, energy, finance, transport and communications, tourism and services, and agro-industry. These sector priorities will help alleviate poverty by creating new jobs and better access to good education and training to increase employability, and by improving social assistance to pensioners and low-income groups. The government will address regional disparities by attracting investment to areas outside the traditional growth centers such as the lakeshore cities of Balykchy and Karakol in the Issyk-Kul region. B. Sector Context 3. The NSDS for 2013–2017 identified tourism as a key pillar of economic development and established the Issyk-Kul region, with its tourism potential centered on the popularity of Lake Issyk-Kul, as an essential driver of inclusive growth. Lake Issyk-Kul is the world’s second largest saline lake, a Ramsar site of globally significant biodiversity, and a The reserve was designated by the United Nations Educational, Scientific and Cultural Organization (UNESCO) in 2001- designated biosphere reserve.2 It has significant environmental and natural resource values to the Issyk-Kul region, and the government is committed to ensuring its long-term environmental sustainability. 4. However, increasing tourism has resulted in the construction of many resorts around the lake's northern shores. Tourism growth is slated to continue, but it is impacting the fragile environment and ecosystems of the lake and its vicinity. The lake is oligotrophic (nutrient-poor) and endorheic (without conventional outflows), making it is extremely sensitive to elevated nutrient and contaminant inflows, and highly vulnerable to excessive liquid and solid waste pollution that typically accompany increased commercial and other human activities, including 1 National Council for Sustainable Development of the Kyrgyz Republic. National Sustainable Development Strategy for the Kyrgyz Republic 2013–2017. 2 The Ramsar Convention is an international treaty relating to the sustainable use and conservation of wetlands. The reserve was designated by the United Nations Educational, Scientific and Cultural Organization (UNESCO) in 2001. 2 tourism. These impacts are of significant concern in relation to wastewater pollution, notably in the primary lakeshore cities of Balykchy and Karakol. 5. Although vodokanals (water supply and sanitation [WSS] companies) provide basic services in the two lakeshore cities, they face considerable service delivery difficulties, primarily because of limited institutional capacity, financial constraints and obsolete Soviet-era assets. Similar to other vodokanals in the region, they are locked in a cycle of poor WSS service provision, reduced consumer confidence and willingness-to-pay, and a reluctance to raise tariffs because of poor-quality services, which unfortunately reinforces funding limitations and poor WSS service provision. Overall, the WSS regulatory framework in the Kyrgyz Republic is relatively fragmented, regulatory compliance and oversight are largely ineffective, and WSS sector planning capabilities weak. 6. The vodokanals also endure acute funding constraints for both capital investments and operation and maintenance (O&M), exacerbated by low tariff levels, limited public funding, and a virtually absent private sector. Less than half of urban consumers are connected to centralized wastewater systems, with the balance forced to dispose of wastewater through septic tanks and pit latrines. The wastewater systems are also severely dilapidated, having deteriorated substantially since their construction during the Soviet era. In Karakol for example, the wastewater treatment plants (WWTPs) provide only basic, inadequate treatment, and in Balykchy, the WWTP is not even operational. Up to half of the pipeline networks in the cities need to be replaced.3 Institutionally, the vodokanals urgently require skills and resources needed to plan, operate and maintain viable and sustainable WSS utility services. The proposed project aims to improve and expand access to reliable, sustainable, and affordable wastewater services in Balykchy and Karakol. It is fully aligned with the long-term goal of improved living standards, health, and economy in the Issyk-Kul region of the Krygyz Republic. C. Project Rationale 7. The Kyrgyz Republic through the NSDS 2011-2017 continues to emphasize environmental sustainability and the need to protect Lake Issyk-Kul while fostering tourism growth in the Issyk-Kul region to promote inclusive growth. The proposed project addresses the need to improve and expand reliable, sustainable and affordable wastewater services in Balykchy and Karakol as tourism, business and residential activities increase in these lakeshore cities. The project will have the following outcome: improved and expanded access to reliable, sustainable, and affordable wastewater services in Balykchy and Karakol. Under output 1 of the project, the Balykchy and Karakol wastewater systems will be improved through the (i) the rehabilitation of the Balykchy and Karakol wastewater treatment plants, (ii) construction of 21.6 kilometers (km) of sewerage and 1.7 km of effluent outfall pipelines, (iii) a new pump station and pumping main in Karakol, (iv) desludging of a reservoir in Karakol, and (v) the provision of septage vacuum trucks. Under output 2, the institutional capacity of the vodokanals in each city will be strengthened and project implementation improved. Under output 3, septage management services will be improved and sanitation and hygiene awareness increased through a septage management program aimed at rationalizing and expanding vodokanal septage collection services, aligning and regulating private sector septage collection operators, and regularizing septage collection tariffs and tariff collection mechanisms. 3 Although condition surveys of the collection networks are not available, it is estimated that 25%–50% may need replacing in Balykchy, and 20%–30% in Karakol. 3 8. The project will ensure the environmental preservation of Lake Issyk-Kul amid increasing economic activities spurred by reinvigorated tourism, and address growing concern for public health in the project cities associated with increased incidence among residents and tourists of water-borne diseases resulting from environmental pollution in the wake of inadequate investments in WSS by the public and private sector. D. Cost–Benefit Analysis 9. The project cost–benefit analysis was conducted in accordance with relevant ADB guidelines,4 using cost estimates based on the preliminary engineering design prepared under the project preparatory technical assistance. The estimated costs and benefits of the project were quantified using the domestic price numeraire. For the analysis, the shadow price adjustment factors (1.08 for tradeable goods and services, and 0.85 for unskilled labor) were calculated based on the applicable Kyrgyz Republic labor and trade statistics. Annualized benefits and costs of the project were estimated over 25 years (a 5-year construction period followed by a 20-year operating period). 10. Economic costs. Capital and recurrent O&M costs, inclusive of physical contingencies but excluding all transfer payments (i.e., taxes and duties as well as price contingencies), expressed in constant mid-2018 prices, were converted into economic prices by applying the appropriate shadow price adjustment factors (Table 1). Table 1: Conversion of Financial Costs into Economic Costs (in Som million, in constant mid-2018 prices) Breakdown of Financial Cost Excluding Tax Tradeable Financial Nontradeable Goods Total Financial Cost Less Unskilled Skilled Goods and and Economic Output Cost Tax Labor Labor Services Services Cost 1. Balykchy WWTP (i) Investment cost 1,102.5 879.4 37.78 139.88 243.23 450.61 905.5 (ii) O&M (2023–2027) 25.0 20.8 1.07 3.28 5.74 10.75 21.5 (iii) O&M (2028–2044) 29.0 24.2 1.26 3.81 6.66 12.48 24.9 2. Karakol WWTP (i) Investment cost 1,624.0 1,255.9 52.03 172.20 347.60 584.32 1,195.1 (ii) O&M (2023–2027) 39.7 33.1 1.61 5.05 9.82 16.59 34.2 (iii) O&M (2028–2044) 58.2 48.5 2.36 7.41 14.40 24.33 50.1 O&M = operation and maintenance, WWTP = wastewater treatment plant. Source: Asian Development