Report No. PID6850 Project Name India-Tamil Nadu Urban Development... Project II Region South Asia Sector Urban Project ID INPE50637 Borrower Government of India (GOI) Government of Tamil Nadu (GOTN) Contact: Ms. S Malathi, Secretary, Department of Municipal Administration & Water Supply (MAWS) Telephone: (91 44) 561-567 Fax: (91 44) 561-461 Tamil Nadu Urban Development Fund (TNUDF) Contact: Mr. K. Rajivan, CEO, Tamil Nadu Urban Infrastructure Financial Services, Ltd. (TNUIFS) Telephone: (91 44) 823-6578 Fax: (91 44) 823-6581 Date Initial PCD Prepared February 25, 1998 Date This PID Prepared February 25, 1998 Appraisal Date October 5, 1998 Projected Board Date January 20 , 1998 1. BACKGROUND. The major challenges facing the urban sector in Tamil Nadu, are reducing the huge backlog of infrastructure investment and improving basic urban service delivery, both in terms of quality and quantity. This situation of considerable under-investment is due to regulatory constraints which impinge upon the effective mobilization of resources for urban infrastructure financing. Some examples of which are an unpredictable and discretionary intra-government transfer system with a weak financial accountability framework, inappropriate property tax assessments, and an inadequate mechanism for the collection and determination of user charges. Additionally, the weak managerial and administrative capacity of municipalities, as well as the lack of a long-term financing facility and an intermediary for municipal financing, further constrain resource mobilization. In recognition of these shortcomings, the Government of India (GOI) and Government of Tamil Nadu (GOTN) have requested the Bank's financial assistance in order to support on- going urban sector reforms in Tamil Nadu through the institutional development of municipalities and the financing of basic urban investments through the use of financial intermediary. 2. PROJECT OBJECTIVES. The project development objectives are: (i) to support the urban sector reforms which GOTN is implementing to improve urban finance, management and service delivery in line with the 74th Constitutional Amendment; (ii) to improve living standards in urban areas, by financing basic urban infrastructure investments; and (iii) to secure sustainable funding sources for the urban infrastructure investment beyond the Bank's line of credit operations. 3. PROJECT DESCRIPTION. The project would be comprised of the Institutional Development Component (TA and Training) and the Urban Investment Component (Line of Credit). Institutional Development Component: This component would finance TA and Training in the following areas: (i) capacity building of the municipalities to be implemented by a Project Management Unit (PMU); (ii) strengthening and building the capacity of the Department of Municipal Administration and Water Supply (MAWS) and the restructuring of the Tamil Nadu Institute of Urban Studies (TNIUS); (iii) technical assistance to the Tamil Nadu Urban Development Fund (TNUDF)/selected municipalities in issuing bonds; and (iv) technical assistance to municipalities for project identification and preparation. Urban Investment Component: This component would finance about US$270 million of basic urban infrastructure investments to be sponsored by eligible ULBs, statutory boards and private investors. The basic infrastructure investments include mainly water supply, sewerage and sanitation, solid waste management, roads, storm water drains, and street lighting. The Bank would propose to finance about 37% of the investment cost (US$100 million) through the TNUDF in a form of the line of credit. The participating finical institutions (FIs) would be requested to match US$100 million. The possible arrangements would include: (i) The FIs will increase unit share (equity equivalent) in the TNUDF by ploughing back their profit as unit shares; (ii) The FIs will purchase the debentures or bonds to be issued by the TNUDF; (iii) The FIs will guarantee the repayment of the debentures or bonds to be issued by the TNUDF; and (iv) The FIs will co-finance the TNUDF-financed sub-projects. This matching financing scheme (Bank US$100 million and FIs US$100 million) is to promote the private capital inflow in the urban financing and to leverage the Bank's limited resources at maximum. However, the FIs' willingness and capacity to match this amount is not certain as the municipal financing is quite new market for them. Actual finance sharing ratio between the Bank and FIs will be decided in consultation with the FIs and TNUDF. In case, FIs have difficulty in raising long-term resources required for basic urban infrastructure investment, the Bank could consider to extend the Bank loan to the FIs for this purpose. 4. COST AND FINANCING ARRANGEMENTS OF THE PROPOSED PROJECT (Estimate in US$ Million) -IBRD: 100* -IDA: 10 -Co-financiers 2 Government 4 Urban Local Bodies 70 FIs 100* Total 286 * IBRD loan amount and FIs' contribution will be determined, taking account the FIs' capacity to fill the financial gap. 5. PROJECT IMPLEMENTATION. Institutional Development Component -2- Department of Municipal Administration & Warter Supply (MAWS) will assume oversight responsibility for the urban sector reforms. The conceptualization and design of the Institutional Development component will be carried out by a project team consisting of representatives from MAWS, Tamil Nadu Institute of Urban Studies (TNIUS) and the Tamil Nadu Urban Infrastructure Financial Service , Ltd (TNUIFS). The TA and training programs for the municipalities will be implemented by the Project Management Unit (PMU) with the assistance of TNUIFS, and will be supervised by MAWS. The TA grant facility for sub- project preparation will be provided through the Grant Fund, which is managed by TNUIFS, in accordance with the Grant Fund management contract with GOTN. Urban Investment Component Project sponsors, (municipalities. statutory boards and private investors) will identify and develop sub-projects with assistance of TNUIFS. They are also responsible for the implementation of the sub-project (procurement, construction and operation & maintenance). TNUIFS will carry out project appraisal, loan processing, negotiations, and project monitoring and supervision. 6. PROJECT SUSTAINABILITY. Urban sector reforms currently underway have created or will reinforce the enabling environment to improve the financial, administrative and managerial performance of municipalities, and would make them eventually creditworthy and well functioning entities. The project would support these policy-based reforms, the capacity building of ULBs, and strengthen the financial performance and institutional capacity of TNUDF by helping TNUDF become a sustainable financial intermediary which could then raise resources from the capital market. The project would also assist TNUDF and the selected municipalities in mobilizing resources from the capital market for the purpose of securing sustainable funding for urban infrastructure investment. 7. LESSONS LEARNED FROM PREVIOUS BANK OPERATIONS. Several lessons can be drawn from previous Bank urban sector operations and would be included in the design of the proposed project: Major urban policy reforms are essential for the improvement of financial performance and the administrative/managerial capacity of the municipalities. The State Government is primarily responsible for the formulation and implementation of urban policy, as well as regulatory and institutional reforms. The comparative advantage of financial institutions and private investors lies in project identification, development and appraisal. Thus, Government and financial institutions/investors play complementary roles and the Government's sound urban policy and regulation would promote private entry into the urban sector in terms of both urban infrastructure investment and service delivery. Successful financial intermediation requires a pool of credit worthy borrowers and strong intermediaries. Improving urban management and in particular strengthening financial management standards, are important steps in enabling municipalities to access funds either indirectly through a financial intermediary or directly through municipal bonds. Fundamentally what is required are effective institutions at the city level with credible and - 3 - intelligible account and management systems, independent auditing procedures, multi-year capital and operating budgets, transparent procurement systems, adequate financial reporting mechanisms, appropriate administrative systems to control personnel expenditures, and accountable local officials backed by reasonably satisfied tax and rate payers. The Bank's new approach of channeling its urban lending through financial intermediaries would generate positive results quickly and efficiently if new projects are able to address the institutional development and capacity building of municipalities, building on the extensive experience of the urban sector from past operations . 8. POVERTY CATEGORY. The project is not a poverty targeted operation, although most of the urban poor would benefit from the provision of basic urban infrastructure services such as water, storm drainage, street improvement and sanitation. 9. ENVIRONMENTAL AND SOCIAL ASPECTS. In general, the project will directly contribute to the improvement of the environmental situation in the urban areas by providing basic infrastructure including solid waste and sanitation facilities, storm drainage and water supply facilities. However, some of sub- projects, particularly those involving solid waste management, could entail major environmental risks when it comes to site selection for landfills. Landfills should be designed with the appropriate environmental safeguards. The operation and maintenance of landfills should be guided by an environmental management plan. Other sub-projects that could involve major environmental risks are those dealing with underground sewerage. Some of sub- projects would include involuntary resettlement. Under TNUDP-I, an Environmental and Social Report (ESR) was prepared by TNUDF/TNUIFS in January 1997. ESR sets out the environmental and social policies and operating procedure to be followed by TNUDF/TNUIFS in appraising, financing and implementing sub-projects. ESR also defines the entitlement framework for project affected persons in case of the involuntary resettlement. 10. PROJECT OBJECTIVE CATEGORIES. The project objective categories are: sector reforms (50%) and infrastructure (50%). 11. PROJECT BENEFITS. The project would provide the following benefits through the provision of basic urban infrastructure: (i) sustainable economic development; (ii) promotion of industrial and commercial investment in the urban areas; and (iii) improvement of environmental and health conditions. 12. PROJECT RISKS. The proposed project would face the following major risks: (i) the urban sector reforms could be hampered by the resistance of various stakeholders, particularly in relation to the increase in property taxes and user fees; (ii) the institutional development component and the urban investment component could not be implemented smoothly unless qualified municipal staff are assigned to these tasks. These risks could be mitigated by: (i) conducting intensive public consultation: (ii) disclosing information on the municipalities' financial position, investment needs and their performance; (iii) providing better municipal services; (iv) conducting adequate consultation with municipalities and involving them in the project design and development; and (v) providing adequate technical assistance to the municipalities.. - 4- Contact Point: The InfoShop The World Bank 1818 H Street, N.W. Washington, D.C. 20433 Telephone No. (202)458 5454 Fax No. (202) 522 1500 Note: This is information on an evolving project. Certain activities and/or components may not be included in the final project. Processed by the InfoShop week ending September 18, 1998. - 5 -