Report and Recommendation of the President to the Board of Directors Sri Lanka Project Number: 43171 July 2009 Proposed Loan Georgia: Municipal Services Development Project - Phase 2 CURRENCY EQUIVALENTS (as of 29 June 2009) Currency Unit – lari (GEL) GEL1.00 = $0.605455 $1.00 = GEL1.651650 ABBREVIATIONS ADB – Asian Development Bank ADF – Asian Development Fund CSO – civil society organization CWRD – Central and West Asia Department EBRD – European Bank for Reconstruction and Development EIA – environmental impact assessment EMP – environmental management plan GSIF – Georgian Social Investment Fund IEE – initial environmental examination MDDP – Municipal Development and Decentralization Project MDF – Municipal Development Fund of Georgia MDG – Millennium Development Goal MSDP – Municipal Services Development Project NCB – national competitive bidding O&M – operation and maintenance PAM – project administration manual SAR – subproject appraisal report SSR – subproject summary report NOTES (i) The fiscal year (FY) of the Government and its agencies ends on 31 December. FY before a calendar year denotes the year in which the fiscal year ends, e.g., FY2009 ends on 31 December 2009. (ii) In this report, "$" refers to US dollars. Vice-President X. Zhao, Operations 1 Director General J. Miranda, Central and West Asia Department (CWRD) Director M. Westfall, Urban Services Division, CWRD Team leader A. Dauphin, Urban Development Specialist (Transport), CWRD Team members L. Blanchetti-Revelli, Social Development Specialist (Resettlement),CWRD M. Davila, Urban Development Specialist, CWRD I. Keum, Principal Urban Development Specialist, CWRD G. Kiziria, Country Coordinator, Georgia Resident Mission, CWRD L. Nazarbekova, Senior Counsel, Office of the General Counsel In preparing any country program or strategy, financing any project, or by making any designation of or reference to a particular territory or geographic area in this document, the Asian Development Bank does not intend to make any judgments as to the legal or other status of any territory or area. CONTENTS Page LOAN AND PROJECT SUMMARY i MAP I. THE PROPOSAL 1 II. RATIONALE: SECTOR PERFORMANCE, PROBLEMS, AND OPPORTUNITIES 1 A. Performance Indicators and Analysis 1 B. Analysis of Key Problems and Opportunities 2 III. THE PROPOSED PROJECT 4 A. Impact and Outcome 4 B. Outputs 5 C. Project Investment Plan 5 D. Financing Plan 6 E. Implementation Arrangements 7 IV. PROJECT BENEFITS, IMPACTS, ASSUMPTIONS, AND RISKS 11 A. Benefits and Impacts 11 B. Risks 13 V. ASSURANCES 13 VI. RECOMMENDATION 14 APPENDIXES 1. Design and Monitoring Framework 15 2. Urban Sector Problem Analysis 17 3. Municipal Development Fund of Georgia Projects Under the Municipal Services Development Project I 18 4. List of Proposed Urban Transport Subprojects 22 5. Detailed Cost Estimates and Financing Plan 23 6. Flow of Funds 24 7. Municipal Development Fund of Georgia 25 8. Eligibility Criteria for Investment Subprojects 34 9. Investment Project Preparation and Appraisal 36 10. Implementation Schedule 39 11. Procurement Plan 40 12. Economic Analysis Framework 45 13. Environmental Assessment and Review Framework 47 14. Summary Poverty Reduction and Social Strategy 53 SUPPLEMENTARY APPENDIXES (available on request) A. Financial Review of Municipal Governments B. Municipal Development Fund Problem Analysis C. Financial Management Assessment of the Municipal Development Fund of Georgia LOAN AND PROJECT SUMMARY Borrower Georgia Classification Targeting Classification: Targeted intervention—Millennium Development Goals (MDGs) Sector (subsectors): Transport, and information and communication technology (urban transport) Theme (subthemes): Environmental sustainability (urban environmental improvement), capacity development (institutional development), social development (human development) Climate change: climate change mitigation Location impact: urban and national (medium impact) Environment Category: Financial intermediation. The environmental concerns will Assessment be addressed through the environmental assessment and review framework agreed with the Municipal Development Fund of Georgia (MDF). Project Description The proposed Municipal Services Development Project - Phase 2 (MSDP 2) finances investments in municipal infrastructure and utility services. It focuses on urban transport, but could flexibly respond to other municipal infrastructure. It will provide (i) proceeds to MDF for financing to selected municipalities for repairing and rehabilitating municipal infrastructure and local utility services, and (ii) capacity development for MDF and municipalities through incremental administration and technical assistance programs. The MSDP 2 follows the Municipal Services Development Project (MSDP 1) approved in August 2008. It targets high-priority urban transport projects in Tbilisi and other municipalities, which were proposed for additional Asian Development Bank (ADB) financing under the MSDP 1. As available financing under the MSDP 1 is largely committed to other priority investments, a new facility is proposed. Rationale The double shocks of the August 2008 conflict with the Russian Federation and the global economic crisis undermined growth and stability in Georgia. Investor and consumer confidence deteriorated and liquidity in the banking system contracted, while infrastructure was left damaged. Investment and economic development declined and foreign direct investment slowed. This stressed the balance of payments, shrank public finances from revenue shortfalls, and increased expenditure needs. Economic growth has plunged from 10.0% in 2007 to 2.1% in 2008. The Georgian authorities responded with macroeconomic policies, but the GEL2.2 billion stimulus has limited municipal funding. Challenges in the urban transport sector are palpable. Tbilisi ii suffers from traffic congestion, and air and noise pollution. This is due to increased private car ownership, inadequate roads, and the deteriorating public transport systems including discontinuing tram and trolleybus services. About 80% of air pollution derives from motor transport. Road accidents have increased, with over 4,000 reported in Tbilisi in 2007, and a 62% increase in the number of people injured in 5 years. Therefore, the Government requested ADB to urgently support a program of investments in Tbilisi's municipal transport systems, including roads, traffic management, and public transport. The MSDP 2 will finance MDF, an effective agency, for improving municipal transport systems. The Project is technically feasible, institutionally sound, and economically viable. This new facility: (i) supports government and ADB priorities; (ii) responds swiftly to the Government’s request; (iii) complies with a mutually defined development framework; (iv) capitalizes on the proven MDF arrangements; and (v) reinforces ADB’s long-term partnership in urban development with Georgia. Impact and Outcome The MSDP 2 will improve the urban environment, local economy, and public health in urban areas. The projected outcome is improved municipal infrastructure and service delivery and better living conditions. The outputs are (i) increased quality of service, wider network coverage, efficient and reliable urban services particularly for urban transport and traffic management; and (ii) improved capacity of municipalities and MDF. Investment Plan The investment cost of the Project is estimated at $41.50 million including taxes and duties of $5.97 million; physical and price contingencies, and financing charges during implementation. Financing Plan Total Source ($ million) % Asian Development Bank 30.00 72.28 Municipal Development Fund 3.00 7.23 Municipal Governments 6.61 15.92 Central Government 1.89 4.57 41.50 100.00 Source: Asian Development Bank estimates subject to adjustments during project implementation. ADB will provide a $30 million-equivalent loan from the Asian Development Fund (ADF) hard-term facility. The ADF financing has a 32-year term, including a grace period of 8 years, and an interest charge of 1.6% per annum. iii Allocation and The Government will make the ADB loan available to MDF on a Relending Terms nonrefundable basis. It will then be passed on to eligible municipal governments as a combination of loans and grants or grants to the municipalities, which have limited or zero capacity to borrow. Established eligibility criteria for borrowing are based on the creditworthiness of each municipal government. Except as otherwise agreed, loans from MDF to municipal governments will be in lari and will be repayable in the same currency over a period of up to 10 years, including a grace period of up to 1.5 years to cover the construction period. MDF will charge 12% interest on these loans to include provisions for credit defaults, the cost of MDF administration and other operational expenses, and a margin of profit. Period of Utilization Until 30 June 2014 Estimated Project 31 December 2013 Completion Date Executing Agency Municipal Development Fund of Georgia (MDF) Implementation MDF will be both the implementing and the executing agency. MDF Arrangements has been effectively contracting, managing, and monitoring municipal projects funded by institutions such as the European Bank for Reconstruction and Development (EBRD), German development cooperation through KfW, the Millennium Challenge Corporation, and the World Bank. MDF is experienced and competent, with a good track record. The Prime Minister heads its supervisory board. Since 1997, about 900 municipal