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Document of The World Bank FOR OFFICIAL USE ONLY Public Disclosure Authorized Report No. P71 14-RO REPORT AND RECOMMENDATION OF THE PRESIDENT OF THE INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT Public Disclosure Authorized TO THE EXECUTIVE DIRECTORS ON A PROPOSED SOCIAL PROTECTION ADJUSTMENT LOAN IN AN AMOUNT OF US$50 MILLION Public Disclosure Authorized TO ROMANIA May 9, 1997 Public Disclosure Authorized This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization. CURRENCY EQUIVALENTS (as of April 30, 1997) Currency Unit = Leu US$l = 7,095 Lei 1 Leu US$0.00014 AVERAGE EXCHANGE RATES Leu US$I 19952 1992 Januar 1997 Februarv. 1997 March, 1997 2,033 3,084 5,146 6,896 7,236 WEIGHTS AND MEASURES metric system BORROWER FISCAL YEAR Jan. I - Dec. 31 ABBREVIATIONS AND ACRONYMS IBRD - International Bank for Reconstruction and Development IDA - International Development Association PIU - Project Implementation Unit SOE - Statement of Expenditures MOF - Ministry of Finance MOLSP - Ministry of Labor and Social Protection NGO - Non-Governmental Agency MIG - Multi-lateral Investment Gaurantee FESAL - Finance and Enterprise Sector Adjustment Loan ASAL - Agricultural Sector Adjustment Loan CEE - Central and Eastern Europe Vice President: JohannesLinn. ECAVP Director: Kenneth G. Lay. EC I DR Division Chief: Ralph W. Harbison. ECIHR Responsible Staff: Mansoora Rashid (TTL). Amtraud Hartmann. Frank Lysy, Sandor Sipos, David Fretweil, Maurice X. Boissiere. Thomas O'Brien. Richard Florescu. Ana-Maria Sandi.Francois Ettori FOR OFFICIAL USE ONLY REPORT AND RECOMMENDATION OF THE PRESIDENT OF THE INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT TO THE EXECUTIVE DIRECTORS ON A PROPOSED SOCIAL PROTECTION ADJUSTMENT LOAN IN AN AMOUNT OF US$50 MILLION TO ROMANIA CONTENTS INTRODUCTION ........... 1I 1. THE ECONOMY. II. THE SOCIAL PROTECTION PROGRAM . 2 A. Poverty in Romania .2 B. The Social Protection Strategy .3 Child Allowances .5 Minimum Income Guarantee Scheme .5 Social Feeding Programs .5 Temporary Cash Benefits in Substitution of Bread Subsidy .7 Lifeline Rates for Electricity .7 Pension System .7 C. The System of Labor Market Measures .8 D. Fiscal Costs of the Program .10 Ill. THE PROPOSED SOCIAL PROTECTION ADJUSTMENT LOAN . .11 A. Loan Objectives and Rationale.11 B. Composition and Quality of the Bank's Portfolio .11 C. Loan Amount and Tranches .12 D. Disbursement and Procurement .12 E. Reporting, Accounting, and Auditing .12 F. Environmental Implications .13 G. Benefits and Risks .13 H. Coordination With Other Donors .13 IV. RECOMMENDATION .14 This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwisebe disclosedwithout World Bank authorization. ANNEX Annex 1: Letter of Development Policy Annex 2: Policy Matrix Annex 3: Timetable for Key Processing Steps Annex 4: Status of Bank Group Operations in Romania Statement of IFC Operations in Romania Annex 5: Romania at a Glance Annex. 6: Tables and Graphs MAP ROMANIA PROPOSED SOCIAL PROTECTION ADJUSTMENT LOAN LOAN AND PROGRAM SUMMARY Borrower: Romania ExecutingAgencies: Ministryof Labor and Social Protection Beneficiaries: The poor: the unemployed,children, pensionerson low pensions and other groups that are likelyto be adversely impactedby the short term impact of the Government's macrostabilizationand structuralreform program. Loan Amount: US$50 million Terms: Payable in 20 years, including5 years of grace, at the Bank's standard interestrate for LIBOR-basedsingle currency loans in US dollars. Objectives: The objective of the loan is to support the Government's effort to strengthenthe agreed social protectionprogram. This program has been developedto assist the most vulnerable groups of society who will suffer from the negative income effects of macro-economicstabilization and structuralreform measuresto be carriedout throughout 1997/1998. Loan Description: The loan will provide financialsupport for the Government's social protectionprogram. These measures will require additional resourcesfor the protectionof vulnerablegroups. The loan will be disbursed in a single tranche. Benefits: The loan will support a social protectionprogram which is a crucial element of the Government'smacro-economic and structuraladjustment measures. Implementation of these economicreform and stabilizationmeasures are essentialto reverse Romania's rapidly deterioratingmacro-economic situationand to firmly launch the countryon the path to a market economy. Risks: Despitethe strong politicalcommitment to economicreform and social protectionmeasures, there is a high risk that programwill not be effectivelyimplemented due to administrativeconstraints or budget reversals.Tight budgetaryceilings, and insufficient allocations for other expenditurecategories, might cause the Governmentto reallocateresources away from the social protectionprogram, and imperil its implementation.There is an additional risk that the implementation of the overall economic reform program may not be sustainable because of faltering social and political consensus. especiallv from those population groups that will not benefit directly from social protection measures, such as Romania's middle class. These groups do not belong to the most vulnerable classes of society, but will still have to face real declines in income throughout 1997. Environment:: The proposed loan has been placed in Category C. Poverty Category: The social protection program being supported by this loan is a poverty-focused program. The program supports improvements in the adequacv and the targeting of cash and in kind benefits to the most vulnerable groups of the population, and strengthens the institutional capacity for delivering these programs to the truly needv. Disbursements: FY97 US$ 50 million Cumulative US$ 50 million Project I.D. Number: RO-PE-50432 Report and Recommendation of the President of the International Bank for Reconstruction and Development to the Executive Directors on a Proposed Social Protection Adjustment Loan to Romania INTRODUCTION 1. I submit for your approval the following report and recommendation on a proposed Social Protection Adjustment Loan (SPAL) to Romania for US$ 50 million. The Loan will be in one tranche in US Dollars and will be payable in 20 years, including a 5 year grace period, at the Bank's standard variable interest rate for LIBOR-based single currency loans. The SPAL will provide financial support for the Government's Social Protection Program that has its major objective support to the most vulnerable groups of the population against the adverse short term impact of the Government's macro-economic stabilization and structural reform program. As such, the loan forms a integral part of the Government's overall economic reform program and is critical for launching the country decisively on the path to a market economy. i. THE ECONOMY 2. The present Government of Romania was appointed in November, 1996, and inherited a very difficult economic situation. Although fundamentally a consequence of inadequate structural reforms over the last several years, the situation was brought to a crisis point by especially expansionary monetary and fiscal policies in the year leading up to the elections. With the deficit financed by money creation or by short-term debt, the newly elected Government was faced with a high current account deficit, high inflation, and fiscal pressures. Relieving these pressures in a sustainable way will require not simply tight monetary and fiscal policies, but also adequately addressing the neglected structural measures which lie at the root of the problems. Especially necessary are an acceleration of privatization in the industrial and agricultural sectors, liquidation of non-viable enterprises, liberalization of agricultural prices, and imposition of hard budget constraints combined with sound financial sector policies. Recent political and social developments, the macroeconomic program, the financing plan and the country's credit worthiness are discussed in detail in the new Country Assistance Strategy (1997) that accompanies this report. 3. The Government is determined to implement the stringent macrostabilization policies which will be necessary, and to move forcefully on structural reform, especially in the enterprise, financial, and agricultural sectors. These measures will launch Romania decisively on the path to a market economy. To assist in the implementation of these measures, the Government has requested financial assistance from the World Bank under an Agricultural Sector Adjustment Loan and is implementing the program supported by the ongoing Finance and Enterprise Sector Adjustment Loan (FESAL), which the World Bank approved in early 1996. 4. These measures will come with high social costs in 1997. GDP is expected to decline by 1% to 2%, consumer prices are expected to rise by over 100%, and unemployment is projected to increase sharply. Average real wages will fall. As part of the stabilization program, Parliament approved in March 1997 regulations which stipulate that Regies Autonomes and loss-making state-owned commercial companies cannot increase the average wage for 1997, relative to the average wage for the last quarter of 1996, by more than 75 percent of the projected increase in -2- consumer prices. For all these reasons, there will be significant declines