Document of The World Bank FOR OFFICIAL USE ONLY Report No. 6218 PROJECT PERFORMANCE AUDIT REPORT KOREA THIRD AGRICULTURAL CREDIT PROJECT (LOAN 1974-KO) June 6, 1986 Operations Evaluation Department This document has a restricted distribution and may be used by recipients only in the performance of their offic-al duties. Its contents may not otherwise be disclosed without World Bank authorization. FOR ORFCIAL USE ONLY THE WORLD BANK Washington, D.C. 20433 U.S.A. Offce of Director-ceneral OperAtKoM Evaluation June 6, 1986 MEMORANDUM TO THE EXECUTIVE DIRECTORS AND THE PRESIDENT SUBJECT: Project Performance Audit Report on Korea Third Agricultural Credit Project (Loan 1974-KO) Attached, for information, is a copy of a report entitled "Project Performance Audit Report on Korea Third Agricultural Credit Project (Loan 1974-10)" prepared by the Operations Evaluation Department. Attachment 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. FOR OFFICIAL USE ONLY PROJECT PERFORMANCE AUDIT REPORT KOREA THIRD AGRICULTURAL CREDIT PROJECT (LOAN 1974-KO) TABLE OF CONTENTS Page No. Preface ............................................................ 1 Basic Data Sheet ................................................... 11 Evaluation Summary ................................................. 111 PROJECT PERFORMANCE AUDIT MEMORANDUM I. SUMMARY .................................................... 1 Background ............................................. 1 The Project .............................................. 2 Project Implementation .............................. 2 Project Impact ......................................... 3 II. MAIN FINDINGS ............................................. 3 Flexibility of Project Design ............................ 3 Government Policy for the Agricultural Sector ............ 4 Different Policies and Procedures of NACF Lending Operations ................................ 5 Impact on Employment ................................... 5 Technical Assistance to Farmers .......................... 5 Annex I: Borrower Comment ....................................... 7 PROJECT COMPLETION REPORT OVERVIEW Introduction .......................... 11 Formulation ................................................. 11 Implementation .............................................. 13 Impact, Rates of Return .................................. 16 Institutional Performance and Development ..................... 16 Changes in Repeater Projects ......................... 16 The Bank's Performance ....................................... 17 Conclusions ................................................... 17 !R: IBRD No. 12351RI 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. PROJECT PERFORMANCE AUDIT REPORT KOREA THIRD AGRICULTURAL CREDIT PROJECT (LOAN 1974-K0) PREFACE This is a performance audit of the Third Agricultural Credit Project in Korea, for which Loan 1974-KO, in the amount of US$50.0 million, was approved in April 1981 and closed fully disbursed in August 1984, 16 months ahead of schedule. The audit report consists of a project performance audit memorandum (PPAM) prepared by the Operations Evaluation Department (OED) and a Project Completion Report (PCR) Overview dated April 1985. The PCR Overview was prepared by the East Asia and Pacific Regional Office on the basis of a full completion report prepared by the National Agricultural Cooperative Federation (NACF), the project executing agency. The PPAM is based on a review of the Appraisal Report (No. 3184-KO) dated March 19, 1981, the President's Report (No. P-3014-KO) dated April 6, 1981, the Loan Agreement dated May 13, 1981, and the PCR; correspondence with the Borrower and internal Bank memoranda on project issues as contained in relevant Bank files have been consulted, and Bank staff associated with the project have been interviewed. An OED mission visited Korea in November 1985. Discussions were held with officials of NACF, at the central, provincial and county levels. A field trip to visit the project area and the participating farmers was undertaken aid the information obtained during the mission was used to test the validity of the conclusions of the PCR. The audit finds that the PCR covers adequately the project's salient features, and the PPAM generally agrees with the conclusions. In addition to summarizing the project's objectives and results, the PPAM expands upon some of the project's most important features: the flexibility of the design, government price and lending policies, and the technical assistance to farmers, because of their importance to this as well as to other agricultural credit projects. The draft report was sent to the Borrower on February 28, 1986 for comment. The telex received stating NACF's satisfaction with the draft report is attached as Annex I. The valuable assistance provided by the Government of Korea and the project staff met during the preparation of this report is gratefully acknowledged. - ii - PROJECT PERFORMANCE AUDIT REPORT KOREA THIRD AGRICULTURAL CREDIT PROJECT (LoAh 1974-KO) BASIC DATA SHEE: KEY PROJECT DATA Appraisal Actual or Actual as % of Estimate Estimated Actual AEtaisal Estimate Project Costs (US$ million) 114.2 125.3 It0 Loan Amount (US$ million) 50.0 50.0 100 Date Board Approval 04/23/81 04123181 Date Effectiveness 05/13/81 05/13/81 Date Physical Components Completed 06/--/85 06/--/84 76 Proportion then completed (2) 100 100 Closing Date 12/31/85 08/23/84 Economic Rate of Return (%) 41 28 Financial Performance -- good Institutional Performance -- good Number of Direct Beneficiaries (families) 13,800 31,665 229 CUMULATIVE DISBURSEMENTS FY81 FY82 FY83 FY84 FY85 FY86 Appraisal estimate (US$ million) -- 6.0 16.0 28.5 42.5 50.0 Actual (US$ million) 8.6 24.5 45.0 50.0 Actual as % of Appraisal estimate -- 408 288 175 117 100 Date of Final Disbursement: 08/23/84 STAFF INPUTS /a FY80 FY81 FY82 FY83 FY84 FY85 Appraisal 16.8 78.8 Negotiat ions 5.3 Preparation 8.8 Supervision 1.8 5.3 7.4 6.2 2.3 MISSION DATA Month/ No. of Statfdays Specializations Performance Types of Mission Year Persons In Field Represented /b RatIM / Trend /d Problems le Appraisal 06/80 6 18 Supervision 1 03/82 2 4 e, adm 1 - no.ie Supervision 11 11/82 2 4 dd, ads 1 1 none Supervision 111 06/83 2 4 dd, adm I 1 none Supervision IV 12/84 2 4 e, adm I I none TOTAL 34 OTMEK PROJECT DATA Borrower: Republic of Korea Executing Agency: National Agricultural Cooperative Federation (NACF) Follow-on Project Name: For.rth Agrizultural Credit Project Loan No.: 2549-KO Loan Amount: US$25.0 million Date of Board Approval: 05/21/85 Currency Exchange Rates Name of Currency Won (W) Appraisal year average (1980) US$1 - W 650 Intervening years average (1982) US$I - W 725 Completion year average (1984) US$1 - W 800 Ta Source, Planning and Budgetting Department, in staft weeks. T;e economist; ads - administrative assistant; dd - deputy division chief; ads * administrative secretary. /c I - problem-free or minor problems; 2 - moderate problems; 3 = major problems. Td I - improving; 2 - stationary; 3 - deteriorating. 7-e F = t1nancial; M - managerial; T - technical; 0 - Other. .. i1 - PROJECT PERFORMANCE AUDIT REPORT KOREA THIRD AGRICULTURAL CREDIT PROJECT (LOAN 1974-KO) EVALUATION SUMMARY Introduction The project was part of the Government's efforts to increase the production of fruits and vegetables to meet the rising demand and to keep incomes of the rural population at par with urban wages through intensi- fication and diversification of agriculture. Objectives The project was to provide funds to the National Agricultural Cooperetive Federation (NACF) for extending medium- and long-term loans to farmers for the production of high-value crops, mostly off-season vegetables under greenhouse. The project also included financing for farm equipment, beef fattening, and storage and Improved marketing facilities for fruits and vegetables. Total project costs were estimated at US$114.2 million. Implementation Experience The project was implemented in three years instead of four, due to higher demand than anticipated for greenhouses and orchards (grape, peach, sweet persimmon, apple and pear), representing respectively 48% and 18% of the loan funds and 44% and 24% of the number of loans. Livestock, sprinkler irrigation and cold storage financing was less than expected. Some 31,700 subloans were made under the project, with the average subloan equivalent to US$2,500. Total project costs were US$125.3 million, 10% above appraisal estimates. Results The project has successfully contributed to increasing agricultural production, earnings and employment. The aggregated economic and financial rates of return are estimated by the PCR at 28% and 39% respectively, slightly below appraisal estimates due to lower prices of products than projected at Appraisal. The project success is attributed mostly to the following favorable factors: (a) NACF's considerable experience and efficiency as a credit institution; and (b) the high demand for, and high price of fruits and vegetables in Korea. - iv - Sustainability While the sustainability of project benefits does not pose a problem for the immediate future, the current high prices of fruits and off-season vegetables are expected to decrease on a longer term due to the expansion of greenhouses and orchards throughout the country. Findings at-i Lessons (a) The project drew lessons from the previous projects: the flexibility of the design, whereby funds were provided to NACF without specifying the amount to be allocated to each type of subproject, was well suited to the changing economic and technical conditions which prevailed during project execution (PPAM, paras. 13-14); (b) the project has undoubtedly benefited from the supportive and protective policy of the Government which resulted in high prices for agricultural products (PPAM, paras. 15-17). (c) due to the high level of technology developed under the project, NACF's capability to provide tezhnical assistance to fruit and vegetable growers has reached its limits; there is a need for more linkage between extension services and national and international research in horticulture (PPAM, paras. 16 and 20); (d) the Government's different policies and procedures, depending on the source of funding, resulted in a confusing situation at the field level and decline in NACF profitability (PPAM, para. 18); (e) the project had an important impact on employment and lifestyle of villagers (PPAM, para. 19); (f) good performance of the Monitoring and Evaluation system (PCR Overview, para. 16); and (g) in the follow-on project, the scope of lending will be expanded to off-farm activities for increasing rural incomes from non-farm sources (PCR, para. 17). - 1 - PROJECT PERFORMANCE AUDIT MEMORANDUM KOREA THIRD AGRICULfURAL CREDIT PROJECT (LOAN 1974-KO) I. SUMMARY Background 1. Over the past decade, the Korean Government's main objectives for the agricultural sector have been: food security, income equity for rural families and price stability. These three objectives have generally been achieved. Despite its declining role in the Korean eco-iomy due to the rapid growth in the manufacturing and services sectors, agriculture has met most of the country's food demand and is the major source of employment and income for the 24% of the population still living in rural areas. As the average farm size is small (about one hectare per family) and the manufacturing and services wage rates are relatively high, income equity could only be obtained through a shift in the composition of sectoral output toward high-value crops, Government's price support and a general ban on imports of agricultural products that can be produced domestically. For both producers and consumers, seasonal price fluctuations for agricultural products have been minimal due to Government's price control policy and buffer stock arrangements. 2. The project was the thirteenth out of 18 Bank loans and credits totalling US$656 million to Korea for the agricultural sector, and the third to the National Agricultural Cooperative Federation (NACF). NACF is the principal source of agricultural credit in Korea, with 140 branch offices and 1,400 member cooperatives throughout the country, and is also a major supplier of agro-chemicals, fertilizer and farm equipment. The First Agricultural Credit Project, approved in 1973, for an IDA Credit of US$10.5 million, provided funds to NACF for extending medium- and long-term loans to farmers for the development of poultry, swine, orchards and sericulture. The second project, approved in 1977 for a loan of US$20.0 million, was to continue and expand the lending activities initiated under the first project, with some shifting to alternative high-value crops, mostly off-season vegetables, favored by increasing market demand. 3. The two projects were audited, respectively in 1978 and 1981, and found to have successfully achieved their objectives, with a 38% ERR for the first project, and 23% for the second. The projects were found to have contributed to crop diversification and intensification. Both PPARs noted that the distribution of project inv;estments differed notably from appraisal projections due to changing product price and government policy as well as technological factors. -2- The Project 4. As approved in April 1981, the project was to provide funds for the production of off-season vegetables under greenhouses, beef fattening, on-farm storage, sprinkler irrigation, power sprayers and improved marketing of fruits and vegetables. The project was expected to cover the whole country. Taking the lessons of the past projects into account, the decision was made to give flexibility to the lending program and not to specify in the loan documents the amount to be allocated to each type of subproject. Farmers were expected to contribute at least 30% of the investment cost, with the remainder coming from the Bank loan (43%) and NAF (26%). NACF was to improve its monitoring and evaluation (M&E) and general information systems. The Government was to carry out an annual review of interest rates to ensure that they would remain positive and cover NACF's costs. 5. Total project costs were estimated at US$114.2 million. The bank Loan of US$50.0 million was expected to be disbursed over four years. The subproject ERRs were estimated from 24% for sprinkler irrigation to 78% for on-farm storage. The aggregate project ERR was estimated at 41%. Project Implementation 6. The project was implemented in three years instead of four, due to higher demand for greenhouses (13,860 subloans for 1,988 ha, representing 48% of loan funds) than anticipated, and a relatively high demand for orchards (grape, peach, sweet persimmon, apple and pear) which, although not planned at appraisal, amounted to 18% of the loan funds. Lending for livestock, sprinkler irrigation sprayers and cold storage was less than expected, while unplanned special crops (mushroom and ginseng) absorbed 6% of the loan amount. 7. The demand for greenhouses increased substantially during project implementation. The Government, however, restricted expansion of greenhouses for fear of overproduction and decline in prices of off-season vegetables. As a result, only 20% to 30% of the total demand for greenhouses was satisfied. 8. In total, 31,700 subloans were made under the project, compared with 7,64b for the second project and 6,000 for the first. The average subloan was equivalent to US$2,500. The total project cost was US$125.3 million, or about 10% above the appraisal estimate. Farmers contributed 36% of the project cost instead of 30% expected at appraisal. Following reviews of interest rates, and in view of the declining inflation, interest rates for subborrowers were adjusted from 16.5% to 12% during project implementation; rates remained adequate to cover NACF's spread, but were higher than those prevailing for other government sources of funds (para. 18). The quality of NACF's loan portfolio is excellent. The amount of loans outstanding in arrears is less than 1% of the total amount of loans outstanding and most of the arrears are less than one year old. -3- Project Impact 9. The project has successfully contributed to increasing agricultural production, employment and incomes. About 34% of the country's incremental greenhouse area during the 1981-1984 period was financed under the project, resulting in the production of more than 100,000 tons of off-season vegetables--about 26% of the estimated national demand. Incremental employ- ment is estimated at about 6.8 million mandays. Farmer net income per pyong (3.3 sq. mi.) derived from fruit and vegetables is on average 10 times higher than before the project. 10. The aggregated economic and financial rates of return are estimated at 28% and 39% respectively, slightly below appraisal estimates due to lower prices of products than projected at appraisal. The project success is attributed mostly to the following main favorable factors: (a) NACF's considerable experience and efficiency as a credit institu- tion, and (b) the high demand for, and high price of fruits and vegetables in Korea. 11. The project sustainability is highly dependent on the evolution of product prices during the coming years. As commented below (para. 17), prices of fruits and vegetables, although somewhat lower than estimated at appraisal, remain high in Korea compared with world prices. These prices, however, are known to be highly sensitive to over- (or under-) production and will tend to decrease over time due to the expansion of greenhouses and orchards throughout the country. II. MAIN FINDINGS 12. Some interesting findings and lessons can be derived from the project experience. The project benefited from two positive factors: the flexibility of the project design and the government policy for the agricul- tural sector, although such a policy had some adverse effects at the field level. The project has had a remarkable impact on rural employment, while the quality of technical assistance to farmers has been and remains a matter of concern. Flexibility of Project Design 13. The project successfully drew the lessons from the two previous projects. At audit of the first project, the PPAR noted that the project design contained serious errors, including investments which were undesirable or technically infeasible. The PPAR of the second project also mentions important changes in the project design during implementation, as the demand for some subloans was significantly lower than anticipated, but largely compensated by higher demand for other project components. For both projects, NACF and the Bank responded to perceived design errors by per- mitting changes in the allocation of project funds and loan agreements. 14. An important lesson from the first two projects was that when new technologies are introduced and market conditions are changing, the predic- tive capability of the e-praisal models, in terms of desirable subloan allocation, is relatively low for agricultural credit projects. Therefore, the decision was made for the third project to provide credit without specifying the amount to be allocated to each type of subproject. This flexibility proved to be well suited to the changing economic and technical conditions which prevailed during project implementation. The project was able to respond quickly, without procedural problems, to higher demand for greenhouses, unplanned demand for orchards and other crops or lower demand for livestock activities. Eight new categories of subloans were introduced in 1983, for which standard farm models and repayment periods were rapidly prepared by NACF. The flexible approach of the project was a major reason for success. Government Policy for the Agricultural Sector 15. The project reflected the Government's policy to keep rural incomes at par with urban wages, a difficult achievement with the small size of farms in Korea and the high level of manufacturing wage rates. The Government objective could only be achieved through (i) the development of high-value crops and (ii) a price policy designed to give strong production incentives to farmers. 16. Development of high-value crops was fully achieved under the project, which contributed to change the traditional cropping pattern (rice in summer and barley in winter) into a much more productive system introduc- ing off-season vegetable production under greenhouse in winter. Korean greenhouse techniques are relatively simple and inexpensive, but make the best use of the sunny conditions of the country's winter. Contrary to expectations, &:eenhouses have not been equipped with heating systems, but consist of three layers of polyethylene fiber, a simple metal structure, and a rice-straw mat cover during the night. Production of uelons and strawber- ries from December to March in the absence of a heating system is a remark- able achievement in the harsh climatic conditions of Korea (the average temperature is 3o to 5C0 during the producing season). By comparison with vegetables, production techniques for fruits are much less sophisticated and somewhat outdated (no use of modern high-yielding varieties of apples and dwarf rootstocks for high planting density, for example). 17. The Bank Agricultural Sector Survey (April 1984) notes that due to the Government's supportive and protective policy, Korean farmers enjoy prices ranging from 1.5 to 4.5 times world market levels. For the fruit and vegetable subsector, the Government's policy is to keep prices high both by restricting expansion of greenhouses and orchards and by a general ban on imports of similar products. As a result, prices of fruits and off-season - 5 - vegetables, though slowly declining, are respectively about 2-3 times and 1.5-2 times the world levels. The project outcome would, therefore, be quite different had Korea to face competition from other countries. The fact that little or no competition now exists in East Asia for off-season vegetables and fruits is a great advantage for Korea. The question remains, however, of whether and how long Korea will be able to resist the pressure from exporting countries like Europe and the US (for fruite) or Southeast Asia (for fresh vegetables). Therefore, some doubts can be expressed on the medium- and long-term sustainability of project benefits. Different Policies and Procedures of NACF Lending Operations 18. At the field level, a confusing situation results from the dif- ferent policies and procedures applied by NACF depending on the source of funding. For subprojects funded out of its own resources and by the Bank, NACF is free to select its borrowers and carry out its own appraisal. For subprojects financed out of Government funds, the selection of borrowers is done by the local government officials and NACF appraisal is less thorough. In addition, interest rates are 2% higher for Bank funds than for Government funds. This state of affairs resulted in cumbersome procedural work for NACF and, in the context of Government limitations on greenhouses, a discontent among potential NACF borrowers confronted with what they consider an unfair selection of borrowers by Government officials. Another negative impact of Government's interventions in agrtcultural credit was a decline of NACF's profitability from 1979 to 1981, and losses in 1982 and 1983, mostly due to insufficient level of commissions paid by the Government to NACF for non- banking services, and insufficient spread to cover the costs of Government funds channelled to farmers through NACF. As the Government is committed to reduce its direct funding of agricultural programs, it is expected that NACF will soon apply uniform standards in lending procedures and recover its profitability. Impact on Employment 19. Development of greenhouses had an important impact on rural employ- ment by changing the winter season from an idle period into a busy farming season. The project contributed to a complete change in the lifestyle of the rural population in some regions, mostly the South and Southe.ist of the . country where most of the greenhouse investments are concentrated. Employ- ment creation due to the project is estimated by the PCR at the equivalent of 6.8 million man-years, or 27,000 full-time jobs, which on the basis of the total project cost of US$125.3 million would represent US$4,600 per job, a remarkable achievement. It. addition, because of increased incomes of farmers, construction and improvements of houses can be noted in a number of villages, resulting in additional indirect project benefits and employment. Technical Assistance to Farmers 20. NACF put much emphasis on extension services for the participating farmers. However, as the number of greenhouse and orchard subprojects was higher than expectad, NACF was not able to provide technical assistance to -6- all sub-borrowers. In addition, techniques in the fruit and vegetable sector tend to be highly sophisticated and to evolve rapidly. From field visits, it is apparent that NACP capability to provide technical services to fruit and vegetable growers has now reached its limits. There is a need for more linkage between extension and international research and more training for extension agents in new cropping techniques recently developed in industrial- ized countries. -7 - Annex I Borrower Coment TLX TO * WORLD BANK APR, I 1986 FOR MR. YUKINORI WATANABE# DIRECTORP OPERATIONS EVALUATION DEPARTMENT. RE YOUR LETTER DATED MARCH 3p 1986 WE ARE PLEASED TO INFORM YOU THAT WE HAVE NO OTHER OPINION ON YOUR DRAFT OF PROJECT PERFORMANCE REPORT CONCERNING THE THIRD AGRICULTURAL CREDIT PROJECT (LOAN 1974-KO) AND ACKNOWLEDGE GREATLY YOUR EFFORTS AND FAVORAOLE COMMENMS ON HE PERFORMANCE OF NACF FOR THE PROJECT. WITH BEST WISHES TO YOU AND MR. C4 POLTI SU YOUNG CHOY GENERAL MANAGERv FOREIGN LOAN OFFICEP NACF. NATIONAL AGRICULTURAL COOPERATIVE FEDERATION END MSG NACOF t-- -9- PROJECT COMPLETION REPORT KOREA Third Agricultural Credit Project (Loan 1974-K0) April 1985 Projects Department East Asia and Pacific Regional Office Ar * - 11 - PROJECT COMPLETION REPORT (LOAN 1974-KO) Overview Introduction 1. The Bank's involvement with the National Agricultural Cooperative Federation (NACF) dates back to 1973 when the First Agricultural Credit Proj- ect was approved for an IDA credit of $10.5 million (Cr. 335-KO). The proj- ect provided funds to NACF for extending medium- and long-term loans to farm- ers for development of orchards, sericulture, poultry and swine. Second and third credit projects provided $20.0 million in 1977 (Ln. 1328-KO) and $50.0 million in 1981 (Ln. 1974-KO, the subject of this PCR) to continue and expand the lending activities initiated under the first project. The three Bank- financed projects have generated over 45,000 NACF subloans to farmers for agricultural investments totalling about $185.0 million. 2. NACF, besides being the principal source of institutional credit for agricultural production and investment, is also the major supplier of agrochemicals, farm equipment, and fertilizer. The organization includes 140 branch offices at the county level and 1,400 member cooperatives, serving 95% of the farm population. The scope of its activities and its wide farmer par- ticipation place NACF in a key position to help bring about the implementa- tion of the Government's agricultural policies and programs at the farm level. Throughout the 1970s, the Government's basic agricultural policy aimed toward increasing self-sufficiency in staple food crops and improving the welfare of the various segments of society, especially the rural communi- ties. High priority was placed on development programs which would expand and improve the productivity of agriculture, particularly rice and other foodgrains; diversify production in favor of high-value crops; increase the supply and quality of processed agricultural products to meet the rapidly rising consumer demand; increase exports from the agricultural sector; and raise incomes and standards of living in rural areas. By 1980, the Bank had supported these programs by financing 15 projects, totalling $540.5 illion: four irrigation, two dairy development, two area development, two rural infrastructure, two agroprocessing, a seed development, and the two above mentioned agricultural credit projects. 3. The Third Agricultural Credit Project was planned as a follow-on to the previous credit projects. Its objectives were to increase production of high-value commodities, improve the level of farm productivity, and create off-season employment. The project was prepared by NAC? and appraised by the Bank in June 1980. It became effective August 11, 1981 and was fully disbur- sed and closed on August 23, 1984, about 16 months ahead of schedule. This overview supplements the Project Completion Report prepared by NACF submitted to the Bank in March 1985. Formulation 4. The project was prepared by NACF as a continuation and expansion of the lending program financed under the two previous Bank-assisted projects. - 12 - Appraisal was advanced from the end of 1980 to mid-1980, at the Government's request, on account of the rapid implementation of the second project. At appraisal, NACF proposed to include a rice milling component which would help to finance the Government's mill consolidation program, through which exist- ing small mills would be merged into larger, modern equipped mills. The mills would be privately owned, but their activities limited to processing Government-purchased grains, and their locations would be on the basis of administrative districts, rather than proximity to production areas, consump- tic. centers or warehouse facilities. The appraisal mission estimated that the resulting capacity would be about four times the amount needed. At the Decision Meeting, it was decided that a further study was warranted, and its completion would be a condition of disbursement for this component. Later, however, before Loan Committee consideration of the project, the Government formally withdrew this component from the proposed project. 5. The appropriate interest rate to be charged by NACF was a key issue throughout loan processing. Inflation was running about 27% p.a. in Korea; the interest rate for most of NACF's government-funded agricultural term lending was 13.5%. NACF needed a spread of about 1% for its branch offices and 32 for participating cooperatives to cover the costs of loan processing. The Bank wanted to keep interest rates positive in real terms, at the same level as those for similar programs, and adequate to cover NACF's spread. The issue was resolved by requiring the interest rate to be at least 16% for subborrowers and 13% for participating cooperatives and having the Government agree to carry out an annual review of interest rates to ensure that they would be positive, compatible with other programs, and adequate to cover NACF's costs. 6. The project, as finally agreed with the Government, provided credit for the types of subprojects financed under the previous projects: green- houses, sprinkler irrigation, and onfarm storage, without specifying the amount to be allocated to each type of activity. In addition, it also included financing for new activities such as chilled storage, power spray- ers, small-scale agroprocessing, backyard beef fattening, and improved marketing of fruits and vegetables. The project was expected to extend over four years and cover the whole country. Assurances were obtained that the Technical Unit (TU) would improve its monitoring and evaluation of project activities, NACF would undertake improvements in its general information system related to its other non-Bank supported lending activities, and the Government would carry out an annual review of interest rates. 7. In retrospect, the design of the project was quite satisfactory. By specifying that NACF would have flexibility in their lending program, there was no need to modify the legal documents when new subprojects were introduced in response to changing market conditions. Had the Government not agreed to carry out the review of interest rates, it would probably have reduced the project interest rate to 10% in June 1982 (para. 10) and NACF would have incurred losses on its Bank-supported lending, as it did on its Government-funded lending. The rice mill consolidation program, though drop- ped from the eproject, is being carried out by Government with other resources and is still considered by the Bank to be economically inefficient. - 13 - Implementation 8. Effectiveness. Besides the usual execution of a subsidiary loan agreement and project agreement, an additional condition of effectiveness was specified in the Loan Agreement between Government and the Bank. This condi- tion required interest rates charged to subborrowers under the two previous projects to be adjusted to be consistent with rates charged under the current project. NACF interpreted this to mean that funds generated from the sub- borrowers' repayment of previous project subloans would be relent at the same rate as the present project and that outstanding loans would not be affec- ted. It is not clear whether the covenant was intended to apply to only new loans or to both new loans and outstanding loans. However, the Bank concur- red with NACF's interpretation, and the loan became effective as scheduled on August 11, 1981. Interest rates were held at 12% for subborrowers under the first and second projects and set at 16.5% under the third project. 9. Costs and Financing. The Bank's contribution of $50.0 million was the starting point for calculating both NACF's and the subborrowers' contri- butions. It was expected that the subborrowers would contribute at least 30% of the proposed investment cost, with the remainder coming from the Bank loan (43%), and NACF (26%). With currency realignments during the implementation period, the Bank's contribution, expressed in Won, rose about 15% from W 32.5 billion to W 37.6 billion. NACF, to match the increased Bank funds, raised their portion from W 19.4 billion to W 22.3 billion. In addition, NACY required their subborrowers to contribute, on average, 36% of the project cost instead of 30%. As a result, more funds were available for lending, and the estimated project cost increased from V 114.2 billion to W 125.3 billion. 10. The subproject mix assumed in the SAR was intended to illustrate the probable range of the aggregate financial and economic rates of return, and not to circumscribe NACF with regard to actual allocation for each of the subprojects. The estimated and actual costs and financing plans are shown below: - 14 - INVESTMENT TABLE SAR Actual * billion $ million W billion $ million Greenhouses 22.5 34.6 44.1 58.8 Springkler irrigation Vegetables 5.8 8.9 1.1 1.5 Orchards 10.4 16.1 1.2 1.6 On-farm storage 18.1 27.8 9.1 12.1 Chilled storage 10.6 16.4 - - Speed sprayers 2.9 4.4 2.3 3.1 Orchards * - 14.7 19.6 Livestock - - 9.1 12.1 Others 3.9 6.0 12.4 16.5 Total 74.2 114.2 94.0 125.3 ERR 41% 282 FRR 42% 392 FINANCING PLAN SAR Actual W billion $ million V billion $ million Bank 32.5 50.0 37.6 50.0 NACF banking fund 1 13.7 18.3 Prior special fund } 19.4 29.9 8.1 10.8 Government } 0.4 0.5. Beneficiaries 22.3 34.3 34.2 45.6 Total 74.2 114.2 94.0 125.3 11. Interest rates. Interest races, following a decline in inflation rates, were adjusted during the implementation period as followst 16.5% - start of project 16.0 - November 9, 1981 15.0 - November 30, 1981 13.0 - April 1, 1982 12.0 - June 28, 1982 - 15 - The interest rates applied to the project were in line with domestic rates until June 1982, when the Government set a uniform lending rate of 10% for all financial institutions. The first review of NACF's interest rates car- ried out in accordance with the Loan Agreement by independent auditors in the spring of 1982 indicated that 13% interest for subborrowers would leave a satisfactory spread of 3% to be shared between NACF and the participating primary cooperatives. A second review, carried out by MOF and the auditors, estimated the appropriate rate to be 12%, but Government urged that a 10% rate be adopted in order to be consistent with other lending. The Bank and Government eventually agreed on the 12% rate, the main point being to give NACF an adequate spread. It was also agreed that further reviews would be carried out at two-year intervals. The 1984 review was waived as the project was drawing to a close. 12. Disbursements. By the time the project became effective, nearly a year had passed since Bank funds had been available, and NACF had a backlog of approved subloan applications from farmers. The startup also coincided with the peak demand for greenhouse financing. Consequently, about 20% of the loan was disbursed during the first semester of implementation. From then until closing, disbursements ran 75-120% above the SAR estimates. The project was implemented in three years instead of four, as anticipated in the SAR. 13. NACF's Project Completion Report. NACF's PCR gives a thorough account of project implementation and the adjustments made during implementa- tion. The main points of the PCR concerning implementation are summarized below: (a) Some 31,700 subloans were made under the project, with the average size of subloan about W 1.9 million ($2,500). (b) 127 county offices out of 140 and 21 primary coops participated in the project. (c) Farmers with holdings of 1.0 ha or less received 44% of the loan funds. (d) Greenhouse financing, covering nearly 2,000 ha of greenhouses, took up 48% of the loan funds and 44% of the number of loans. Unit costs were lower than projected because farmers did not include ventilators, heaters or modern irrigation, and only requested financing for iron frames and vinyl. (e) There were no requests for chilled storage, expected to be carried out by cooperatives. It should be noted that the chilled storage financed by the Agriculture and Fishery Development Corporation (AFDC) under Bank Loan 18454-KO has proved, for the most part, to be an unprofitable operation. (f) Sprinkler irrigation (for orchards) financing was less than expec- ted because the investment cost was high and apple prices had been stable for the last few years. - 16 - (g) NACF had encouraged farmers to jointly purchase large speed sprayers, but farmers preferred to individually purchase small sprayers. (h) The Research Department of NACF undertook, at the TU's request, a study of on-farm storage and greenhouses to insure that investments in these subprojects would continue to be profitable for farmers. Impact, Rates of Return 14. NACF's PCR analyzes the project impact with respect to incremental production, earnings and employant. The aggregated economic and financial rates of return are now estimated to be 28% and 39%, respectively, in compar- ison to 41% and 42% at appraisal. The analysis appears to be thorough and accurate; detailed calculations are shown for each proposed investment. Institutional Performance and Development 15. The Technical Unit, formed to carry out the first Bank-assisted project, is a well-managed group of competent and dedicated NACF staff. As the unit has gained experience with Bank projects, it has shown adaptability to changing economic and market conditions. For example, after the Govern- ment placed a ban on lending for backyard beef raising in 1982, the TU formu- lated a black goat subproject, for which 1,200 loans (W 2,655 million) were made in 1983 and 1984. In all, the TU introduced eight new categories of subloans in 1983. To handle the increased volume of subloans, standard farm models with uniform costs, benefits and repayment periods were prepared for the most popular subprojects. The Loan Appralcnl Officers were still respon- sible for appraising each investment plan and determining the appropriate subloan amounts. This approach allowed NACF to handle efficiently some 31,000 subloans under the project. 16. NACF satisfactorily complied with all covenants. The TU prepared informative quarterly progress reports and submitted them within the time requested. Independent auditors satisfactorily carried out reviews of both project accounts and NACF's accounts and sent reports to the Bank annually. The Monitoring and Evaluation system developed under the project expanded on the data previously collected by the TU and provided more feedback on project results, i.e., production and benefits. Improvement of NACF's general infor- mation system is being effected through computerization of the accounting and financial management systems, which began in 1981 and is still going on. Changes in Repeater Projects 17. Processing of the Fourth Agricultural Credit project is well under way in the Bank, with Board presentation scheduled during the last quarter of FY85. In the proposed project, the scope of lending activities will be expanded to include several off-farm activities in line with the current emphasis on increasing rural incomes from non-farm sources. The proposed project also includes measures to improve NACF's profitability and resource mobilization. These measures aim at first reducing and ultimately eliminat- ing losses incurred by NACF in carrying out government services and - 17 - activities. The Government is being asked to agree to extend the current financial sector reforms to agricultural credit provided by NACF and to prepare a comprehensive long-term plan to improve NACF's financial condition. The Bank's Performance 18. NACF's PCR details the four formal supervision missions, but does not mention the informal contacts with the division's staff during their other visits to Korea. With these frequent informal meetings, the division was kept informed on changes in markets, policies and other conditions affec- ting the project. Also, NACF, being the main agricultural credit institu- tion, was the subject of intensive scrutiny during the Bank's Agricultural Sector Survey in 1983. Conclusions 19. The project satisfactorily met the objectives established in the SAR, namely to increase production of fruits and vegetables, improve farm productivity, and create off-season income. It was well designed from the viewpoint that NACF was given flexibility to adapt its lending program as needed, a safeguard was built in concerning interest rates, and the component with questionable economic viability was eliminated during loan processing. The project was implemented without major problems and completed over a year ahead of schedule. The TU has prepared a comprehensive PCR which reflects their assessment of the project's benefits and implementation process. us i'.IBED 1231 DEMOCRATIC PEOPLE'S REPUBLIC C H IN A OF KOREA 0 East Sea REP KFIORSA e' REPCF l KOREA JAPAN Nnmunjun S*a°"r ØY O G - CIne ANG WEON .000" Eost Ocean ,China Sca kho Anyong J'nue ess eon*j -37. boonon ood U N H N c G IG Y E O N 8 U G Ye//low Sea g~ J E O N IMetna~on~sounr. 04YEON Y E 09 N0 2 O NAM Idin! A G S 9unche4 Moe» N A REPUBUIC OF KOREA ---Railways +Roilways under construction 3 34. Airports Pro~cal boundorme ---nternational boMnariös 0 20 40 40 40 m0 125° 126- 127' li19r.. AUGUST 1984