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INTERNATIONAL DEVELOPMENT ASSOCIATION

REPORT AND RECOMMENDATION

OF THE

PRESIDENT

TO THE

EXECUTIVE DIRECTORS

ON A

PROPOSED CREDIT

TO THE

KINGDOM OF NEPAL

FOR THE

KATHMANDU TOURISM PROJECT

February 16, 1972

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INTERNATIONAL DEVELOPMENT ASSOCIATION

REPORT AND RECOMMENDATION OF THE PRESIDENTTO THE EXECUTIVE DIRECTOS ON A PROPOSED CREDIT

TO THE KINGDOM OF NEPAL FOR THEKATHMANDU TOURISM PROJECT

1. I submit the following report and recommendation on a proposeddevelopment credit to Nepal for the equivalent of US$ 4.2 million onstandard IDA terms to help finance a project for the expansion of hotelaccommodation in Kathmandu.

PART I - INTRODUCTION

2. The Association has made two credits to Nepal totallingUS$ 4.2 million. The first credit, for US$ 1.7 million, was signedin November, 1969, for a telecommunications project; the second, for

US$ 2.5 million, was signed in December, 1970, and provided financingfor highway maintenance, bridge reconstruction and the installation of

porter-trail bridges. Both projects are expected to be completed beforethe closing dates. A summary statement of the two credits as of

January 31, 1972, is attached as Annex I.

3. In addition to the tourism project now proposed, two more projectsare in an advanced stage of preparation. The first is a combined surface

and groundwater irrigation project, in the vicinity of Birganj which would

benefit at least 20,000 farmers by irrigating 28,700 ha., permittingincreased production of rice and wheat and the improvement of sugar cane

cultivation. The second is a plywood or veneer factory project at Hetaura,77 miles south of Kathmandu, which would also include modernization ofan existing sawmill. A project for forestry settlement in Western Terai

and one for telecommunications are also being prepared. The telecommunicationsproject would be a continuation of the program financed by the 1969 credit.

4. No Bank loans or IFC investments have been made in Nepal.

PART II - THE ECONOMY

5. The most recent economic report entitled "Current EconomicPosition and Prospects of Nepal" (SA-7a) dated June 26, 1969, wasdistributed on July 8, 1969. A memorandum summarizing recent economicdevelopments including country data is attached as Annex II.

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6. The economic report referred to above underlined the need foradministrative and technical skills, and better roads. Given the rapidexpansion in infrastructure, particularly roads in the last two years,and the gratifying improvement in administration, the emphasis shouldnow shift towards making greater use of that infrastructure.

7. Tourism represents Nepal's most promising avenue for increasingits earnings of convertible foreign exchange. Nepal is a culturally uniqueand scenically most beautiful country. The Kathmandu valley, with itsmany pagodas and temples, colorful festivals, curios, bazaars, and hillpeople provides a fascinating centre for the tourist. To this must beadded an almost ideal climate for 9 months of the year, and above allthe Himalayas, which form a beautiful background.

8. In view of these attractions, it is hardly surprising that thenumber of foreign arrivals has grown at some 37 percent a year since1965, reaching 46,000 in 1970. The recent upheavals in the sub-continentmean a temporary hiatus in growth and arrivals have been much the samein 1971 as in 1970. However, more visitors are expected this year.Transportation and accommodation during much of the period of rapid growthhave not been adequate to meet the demand. The completion of an AsianDevelopment Bank project to modernize the equipment and extend the runwayof the Kathmandu airport, along with other improvements financed by theCanadian Government, will make it easier for tourists to get to Nepal butseverely test the already overstrained facilities for accommodating, feedingand entertaining the tourists on arrival.

9. Direct foreign exchange earnings from tourism are difficultto estimate, as many tourist transactions are made through the freemarket. The official estimate of gross direct foreign exchange earningswas US$ 1.3 million equivalent in 1969/70, but actual earnings may wellhave been almost double this, and probably accounted for over 10% ofconvertible foreign exchange earnings. Direct full-time employment intourism throughout the country probably does not exceed 1,500 but substantialnumbers of porters are employed seasonally and tourists also constitutean important market for handicraft products.

10. The difficulties and constraints which the growth of tourism hasfaced in the past are now gradually being overcome. In addition to theimprovement of the Kathmandu airport referred to above, and the present

project to expand hotel accommodation, there are a number of otherforeign-aided activities. Royal Nepal Airlines Corporation has a technicalassistance agreement with Air France. UNDP and ILO plan to help set upa hotel training school in Kathmandu and the Goverment has also receivedassistance in developing tourism from the German and Swiss governments.UNESCO is working on the identification, protection and restoration ofantiquities.

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PART III - THE PROJECT

11. An Appraisal Report entitled "Appraisal of the Kathmandu TourismProject, Nepal" (PT-h) is being distributed separately. A Credit andProject Summary is attached as Annex III. The project was appraised inJuly 1971, and negotiations for the proposed credit were completed inJanuary 1972. The Borrower was represented by Messrs. R.P. Sharma,Acting Joint Secretary, Ministry of Finance, and B.P. Rimal, FirstSecretary, Royal Embassy of Nepal in Washington; Mr. R.N. Rimalrepresented the Nepal Industrial Development Corporation (NIDC);Mr. Om Rana represented Hotel de l'Annapurna Pvt. Ltd. (Annapurna);and Mr. Boris Lissanevitch, Yak and Yeti Hotel Pvt. Ltd. (Yak and Yeti).

12. Kathmandu is the main center for foreign tourists and the onlyplace where hotels are up to international standards. Of the 558 hotelrooms which meet the Department of Tourism's standards, 500 are inKathmandu. The proposed project would add 271 rooms, which it is estimatedwould provide accommodation for some 34,000 additional tourists per year.The project is made up of two sub-projects, the extension and refurbishingof the existing Hotel de l'Annapurna; and the construction of a newhotel, to be called the Yak and Yeti Hotel. The project is expected tobe completed by the end of 1974. The credit would cover 64 percent ofthe total financing.

13. The proposed credit would be made to the Government of Nepal andonlent to the sponsors through the NIDC. Each sub-loan would bearinterest at 71 percent per annum plus 2 percent commitment charge andwould be for a term of 24 years including 4 years of grace. The sub-borrowerswould bear the exchange risk. NIDC would act on behalf of the Government,in return for a service charge, in channelling the proceeds of the creditto the sponsors and in providing administrative and technical supervisionof the sub-projects. NIDC has agreed, subject to confirmation by theGovernment, that the service charge in Nepalese rupees should be theequivalent of US$ 20,000 annually for the first four years, and US$ 4,000equivalent annually thereafter until the sub-loans are repaid. Thecompletion of the arrangements between the Government and NIDC is acondition of effectiveness of the Credit Agreement.

14. NIDC is a wholly Government-owned institution established in 1959to finance industry and tourism. Most of its funds are provided by theGovernment and the balance by loans from USAID, the Goverment of India,Kreditanstalt fur Wiederaufbau, and the Export-Import Bank of Japan.NIDC is a reasonably well-run institution with qualified staff andconsiderable experience in hotel projects in Nepal. However, arrears haveaccummulated on some of its loans. NIDC is currently taking steps toimprove its debt collection record. NIDC's role in this project would be

limited to channelling Government lending to the sub-borrowers andsupervising the administration of the sub-loans and NIDC itself wouldnot be at risk.

15. On behalf of the Government, NIDC will enter into agreementswith Annapurna and Yak and Yeti for the financing of the respectivesub-projects, such agreements to be satisfactory to the Association andto incorporate provisions substantially similar to those set forth inSchedule 5 to the draft Development Credit Agreement. NIDC will holdmortgages on behalf of the Government on the fixed assets of the sub-borrowersto secure their respective loans. The interest rate charged on the sub-loans would be the same as that charged by NIDC to other borrowers(currently 7½ percent). The completion of the Annapurna Agreement andthe Yak and Yeti Agreement is a condition of effectiveness of the respectiveparts of the credit.

16. Hotel de l'Annapurna: The total cost of the sub-project isUS$ 4.08 million equivalent and would be financed by:

(a) IDA (Part A of the proposed credit): US$ 2.88 millionequivalent, representing estimated foreign exchange costs;

(b) Sponsors: US$ 1.20 million equivalent, as equity,representing local costs.

In addition, NIDC would lend on behalf of the GovernmentUS$ 0.4 million equivalent in local currency, representing estimatedinterest and other charges during construction.

17. The existing hotel is located in central Kathmandu, within walkingdistance of many tourist attractions. The project would create aroundthis nucleus new accommodation of first-class international standard,while keeping the present hotel open. 159 new rooms would be builtand 82 of the present rooms would be refurbished to provide a total of2k1 double rooms. Eight of the existing rooms would be eliminated tomake space for enlarged public areas. Central air-conditioning and acentral hot water system would be installed. A coffee shop, a maindining room and a speciality restaurant would be provided, a lounge andbar space expanded. A swimming pool with a patio bar would be built, andthe tennis courts relocated and improved. The hotel would have its ownlaundry and dry cleaning plant. Exterior design and interior decorationwould be to a high standard, and care would be paid to landscaping.

18. The present Hotel de 1'Annapurna was opened in 1965 as a privatepartnership which in March 1971, was converted into a company with limitedliability. The Company has an authorized dapital of NRs. 20 million(approximately US$ 2.0 million equivalent) of which NRs. 6.4 million is

paid up. This includes the conversion into equity of a NRs. 5.1 millionloan by the shareholders, that was completed last autumn, and evidenceof which is a condition of effectiveness of Annapurna's part of the credit.The Company owns the existing Hotel de l'Annapurna and is financiallysound. Its three shareholders are members of the Royal family.

19. Few Nepalese have had experience in operating hotels of the sizeand class proposed. The success of the proposed project will dependon competent management and adequate staffing of the new hotels. Theexisting Hotel de l'Annapurna had an interim management agreement withHilton International Company (Hilton). Hilton had to withdraw in view ofthe small size of the operation, but the basic management agreementproviding for Hilton management of the new hotel on completion, togetherwith technical assistance, training and marketing services remains in force.With assistance from Hilton, training schemes for the staff have beenarranged and are to be expanded, including some training in Hilton hotelsabroad.

20. The Yak and Yeti Hotel: The total cost of the sub-project isUS$ 1.92 million equivalent and would be financed by:

(a) IDA (Part B of the proposed credit): US$ 1.32 millionequivalent, representing the estimated foreign exchangecosts;

(b) Sponsors: US$ 0.60 million equivalent, as equity,representing local costs.

In addition, NIDC would lend on behalf of the GovernmentUS$ 0.18 million equivalent in local currency, representing estimatedinterest and other charges during construction.

21. The site for this hotel is in the grounds of an old palace, whichhouses the present successful Yak and Yeti Restaurant. The palace groundsinclude a small lake, and the site lends itself to attractive landscaping.The project provides for a new access road directly from one of Kathmandu'smain thoroughfares. The proposed hotel would include 24 single rooms,84 double rooms each with a balcony and 6 suites. Provision would be madefor a coffee shop, a bar and access to the existing restaurant. It wouldhave a swimming pool, tennis courts, a sauna and a roof garden. Thepreliminary drawings by a Nepalese architect suggest that the exterior ofthe hotel would be simple and attractive. Maximum use would be madethroughout of local wood carvings and other handicrafts, and the highstandard of interior design evident in the Yak and Yeti Restaurant would bemaintained.

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22. Yak and Yeti would acquire an access road for the new hotelacross land owned by NIDC. During negotiations representatives ofNIDC and of Yak and Yeti confirmed that they had reached preliminaryagreement on the acquisition and that the agreement was beingconsidered by the NIDC Board. Acquisition of the access road is a conditionof effectiveness of Yak and Yeti's part of the credit.

23. Yak and Yeti's shareholders are a British businessman,Mr. Lissanevitch, with long association with the hotel trade in Nepal,and an Indian businessman, Mr. Radesham Saraf, with substantial tradingand industrial interests in India and Nepal, and members of his family.The Company has an authorized capital of NRs. 5 million of which NRs. 1.0million is paid up. The Company owns the existing Yak and Yeti Restaurantand is financially sound.

24. Yak and Yeti intends to employ qualified expatriate personnel inthe key positions in the management of the new hotel. Mr. Lissanevitchmanaged a hotel in Kathmandu successfully for 12 years, after many yearshotel experience in India and Europe. His three sons are to be trainedin leading hotels in Europe.

25. Procurement, carried out by sub-borrowers under NIDC's supervision,would be on the basis Of international competitive bidding. Bidders forcivil works would be prequalified. In evaluating bids, a preference of15 percent, or the existing rate of duty (whichever is lower), would beallowed for domestic manufacturers of equipment and furniture. Whetherdomestic or foreign contractorsshould win the bids, the foreign exchangecomponent in total project costs would vary little as both domestic andforeign contractors need to import most materials, equipment and specializedlabor.

26. Disbursements from the credit 'account would be made on thefollowing basis:

(i) 70 percent of expenditures for civil works contracts, beingthe estimated foreign exchange costs;

(ii) 100 percent of expenditures for equipment and furniture; and

(iii) 100 percent of foreign exchange expenditures for professionalservices, technical assistance and pre-opening expenses.Provision is made in the draft Credit Agreement for thereimbursement for expenses paid for professional services inpreparing the sub-projects between January 1, 1972, and thedate of signing the Credit Agreement. These expenses areexpected to amount to $45,OO0.

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27. The term of the sub-loans, 24 years including four years of

grace, is justified on project grounds and takes into account the life

of the assets financed. If dividends exceeding 20 percent of the parvalue of the share capital are paid in any financial year, repaymentof the sub-loan will be accelerated by the amount of the excess.

28. The estimated financial returns on total investment range fromabout 9 percent to about 11 percent for Annapurnaand from about 7 percent

to about 9 percent for Yak and Yeti, depending on the assumptions made

with regard to occupancy rates and opening date. The best estimate of

the economic rate of return is about 20 percent for each sub-project.Additional direct employment created by the project is estimated at 500jobs, and net direct foreign exchange earnings are expected to be ofthe order of US$ 2.8 million per annum at full operation thus more than

doubling Nepal's net earning from tourism. Non-quantifiable indirect

benefits would include increased employment from tourist expendituresand increased revenues from taxation.

PART IV - LEGAL INSTRUMENTS AND AUTHORITY

29. The draft Development Credit Agreement between Nepal and theAssociation, the Recommendation of the Committee provided for in Article V,Section 1 (d) of the Articles of Agreement, and the text of a resolutionapproving the proposed credit are being distributed to the Executive

Directors separately. Schedule 4 to the draft Development Credit Agreement

sets out the provisions to be included in the arrangements between the

Nepalese Government and NIDC. Schedule 5 contains provisions for the loanagreements between NIDC and Annapurna and Yak and Yeti for the relending

of the Credit proceeds. Article VII if the draft Development Credit

Agreement permits the Credit to become effective separately with respect

to each hotel, in case the conditions of effectiveness relating to one

of the hotels are fulfilled before those relating to the other.

30. I am satisfied that the proposed development credit would comply

with the Articles of Agreement of the Association.

PART V - RECOMMENDATION

31. I recommend that the Executive Directors approve the proposedcredit.

Attachments Robert S. McNamaraPresident

February 16, 1972

ANNEX I

NEPAL

Statement of IDA credits at January 31, 1972.

Credit No. Year Borrower Purpose Amount (US $ Million)IDA Undisbursed

166 NEP 1969 Kingdom of Nepal Telecommu-nications 1.7 1.4

223 NEP 1970 Kingdom of Nepal Highways 2.5 2.5

Totals 4.2 3.9

Kc� � or � z,4 �JГ

ANNEX IIPage 1

REVIEW OF THE ECONOMC SITUATION OF NEPAL

1. The conventional indicators of economic progress are of littleutility in a country like Nepal. In the first place there are fewreliable etatistics on output.and fewer still which are available ona sufficiently current basis to permit assessment of short-termprogress. Secondly, even if they were available they would not givean indication of qualitative changes, which in a country like Nepal,which is at the very first stages of the development process, are ofcritical importance. The first road connecting Kathmandu., thecapital, to the outside world was only completed in 1956, and some90 percent of the population is still engaged in agriculture. Theseare the facts against which the progress made since the date of thelast Bank Economic Report on Nepal (June., 1969) must still be viewed.

2. Nepal is a land-locked country forming a rectangle betweenIndia and China. The northern border is formed by the Himalayas., thecentral area consists of hills and valleys and the southern area., theTerai, is a natural continuation of the Indo-Gangetic plain, with avirtually open border between Nepal and India. These geographic andtopographical factors have been the primary determinants both of thepast economic structure and the one which is developing. Some 90percent of Nepal's trade is with India. India is also the major foreigndonor, contributing some 50 percent of total aid. Even the balance ofNepal's trade which is not directly with India must go through Calcuttaport. Given the open border on the one hand and Nepal's strategicimportance as a buffer state between India and China on the other,, itis apparent that there are a great many potential sources of tensioninherent in the relationship between Nepal and India.

3. In view of this, perhaps the most satisfying and importantachievement for Nepal in the past year has been the successful renegotia-tion of the Treaty of Trade and Transit with India. This Treaty,originally concluded in 1960 for ten years, was a device for givingspecial facilities to Nepalese manufacturers ixk the Indian market andalso ensuring Nepal's transit rights. In the middle years of the decade,however, Nepal., seeking to diversify its exports to countries otherthan India, introduced an import entitlement scheme which permittedexporters to use a certain percentage of their receipts both for freeimports from third countries and for a specified list of developmentgoods. At the time this seemed a reasonable step for Nepal to takegiven the budgetary burden which direct export subsidies would haveconstituted.

4. Unfortunately,, the import entitlement scheme did not serve onlyto stimulate Nepalese exports to third countries. It also provided a means

ANNEX IIPage 2

of exploiting certain general provisions in the Treaty of Trade andTransit to secure high profits through importing goods which were subjectto import bans in India - such as stainless steel and synthetic textiles -and after minimal processing exporting these to India as Nepalesemanufactures. The open border also made it difficult to prevent thesmuggling of imported consumer goods into India and even of Indianexport products, such as Jute, into Nepal for re-export as Nepalese exports.Since the import entitlements were only a percentage (varying as to commodity)of total export receipts, Nepal has been able to build up its exchangereserves during the past three years to around $100 million in hardcurrencies, or over a year's imports from all sources including India,and something like 10 years' imports from countries other than India.

5. From Nepal's point of view, however, the trade has also had anumber of drawbacks. It was largely organized by Indian merchants and thelarge profits were therefore not re-invested. The transit situationalready difficult through the inadequacies of Calcutta port became stillmore difficult as customs officials applied rigorous checks, understandably,to both legitimate and other items. Perhaps most significantly, nothingwas done in the late sixties about the urgent task of diversifying andpromoting industries with high value-added in Nepal. The consequence hasbeen that even the simplest consumer goods continue to be imported fromIndia rather than being made locally. In addition, Nepal has not developedproduction in a number of areas where it apparently has a comparativeadvantage such as wood products, animal and vegetable oils and fats, andhydro-power.

6. In 1968 the Government of India began taking unilateral action tolimit the export of stainless steel and synthetic textiles. The Nepalesegoverment closed a loophole in their regulations which had permitted theduty-free import of 'gift parcels' containing goods which were subsequentlysmuggled into India. Protracted negotiation to find a solution acceptableto both parties continued through 1970, but afteroneextension the Treatywas permitted to lapse at the end of the year. The consequence of this wasthe application to Nepal of the same trade restrictions as applied toIndia's trade with third countries with the exception of a limited listof necessary items. India unilaterally limited Nepalese jute exports toan estimate of local production and relations between the two countriesentered a difficult phase.

7. The conclusion of a new Treaty of Trade and Transit in June ofthis year is an important step in creating a sound basis for economicrelations between the two countries which will permit Nepal's legitimateindustries to develop along sound lines. The basis of the Treaty is avalue-added formula which gives preference to items manufactured in Nepalwhich have high local value-added. The provisions of the Treaty are broad,however, and, while the spirit is fairly clear, India has at least

ANNEK IIPage 3

potentially the right to limit the export to India of a very wide rangeof Nepalese manufactures which might compete with Indian industryincluding some in which Nepalese production would have comparativeadvantages. Fortunately there is every indication that the spirit ofthe Treaty recognizes that Nepal's infant industrial sector will needaccess to the Indian market if it is ever to develop significantly.On the transit front too, India has made a number of concessions whichshould make this less of a bottleneck than it has proved at times inthe past.

8. All this would be of somewhat academic interest were it not thatthere is reason to think that Nepal is better placed than ever before tomake a real effort at increasing both agricultural and industrial outputand significantly increasing the very low level of per capita income ofits population. In a strikingly short period the length of motorableroads in Nepal has been increased and continues to be increased. Journeysthat took weeks by porter now take hours by truck. The East/West trunknetwork linking all parts of the Terai and obviating the former necessityof going via India from one part of Nepal to another, is almost half(the Eastern part) complete, thanks to Indian, Russian, U.S. and U.K.assistance. The Indian road to Kathmandu now goes through to the Tibetanborder. This was extended by Mainland China which is also completing aroad along the hills, westward to Pokhara. The thrust is now towardsNorth/South roads which will link the hilly areas to the Terai plain.Two are being completed and others are being studied.

9. Aside from the impact these new roads will have on the administrationof the country, they also represent the basic infrastructure for development,around which agricultural production can be increased through easier supplyof inputs and a market for output. Industrial production can now be gearedto a much larger market than just the Kathmandu valley. Economic exchangeof complementary products between the hills and the Teral will also bepossible, in particular the transfer of grain from the Terai to meet thefood deficit in the hills. Nor are the roads the only available infrastructure.With Indian and Chinese assistance, power generating capacity has beenexpanded considerably in excess of present demand. The telecommunicationssystem has been expanded with Indian and World Bank assistance. A numberof major irrigation canals, adjuncts of Indian works along the southernborder have been built.

10. This rapid expansion in infrastructure, provides the motivation fora shift in emphasis towards productive sectors in the new Plan. This is,of course, always more easily written than achieved. The proposals toraise agricultural production, set up new industries and exploit Nepal'srich potential in forestry and as a tourist venue, remain to besatisfactorily implemented. In this connection it is noteworthy that the

ANNEX IIPage 4

three projects the Bank is presently at the most advanced stage ofconsidering all come into this category of making use of the infrastructurealready developed. In the past, efforts have been much too scattered.Horticultural research, for example, has been carried out in areas remotefrom any road and the results of its application could not be marketed.There is a realization of the need to concentrate efforts in areas wherethe transport system has been developed and as a corollary to developthe transport system in areas with the greatest economic potential.

11. Nepal is going, for a very long time, to be essentially dependenton agricultural production for the major expansion in its GDP. At presentNepal is a surplus foodgrain producer exporting around 300,000 tons offoodgrains a year to India. Production is estimated to have increasedby about 2 percent per annum in the past few years or roughly the same rateas population growth. The exportable surplus has remained much the same.In the short run there is little doubt that very high returns should beavailable from increased foodgrain production. Yields are low and theirrigation capacity that has been created lies almost totally unutilized.The major task will be to make proper use of this capacity, throughmanagement, supply of inputs and extension services. In the last twoyears there has at least developed an awareness of the critical natureof these problems, though with insufficient supporting finance andfacilities, and too little delegated authority. The links betweenresearch and extension remain weak. In the longer run, Nepal will needto diversify its agriculture to provide the cash crops for its industrialsector and to mitigate the expected decline in terms of trade forfoodgrain exports to India. The first tentative steps in this directionare being taken at present.

12. The industrial sector in Nepal is tiny - some 2 percent of GDP.There are a number of Chinese and Russian aided factories in the publicsector, few of them adequately managed. The lack of trained managementpersonnel and skilled labor is a serious constraint on the progress ofthe sector, but there are a number of other difficulties as well. In thepast the size of the market and competition from Indian producers havebeen sizeable problems, but these will be alleviated by the new roads andthe successful conclusion of the Treaty. There are plans for a fairlyrapid expansion of the industrial sector in the short run. There areobvious possibilities, in import substitution, particularly, e.g. foodprocessing, textiles, etc. A great deal will depend on the appropriate-ness of government policy which has been as much of a hindrance as ahelp to industrial growth in the past.

13. In the long run, forestry and tourism offer Nepal- 's most promisinghopes for earning convertible foreign exchange. Little use has been madeof forest resources, but the stage is now set with the initiationof land-use planning and proposed plywood and pulp andpaper factories. Nepal's forests are being depleted due to the

ANNEX IIPage 5

pressue on land in the hill areas. Migrants from the hills are movingdown into the Terai, and particularly into regions from which malariahas only recently been eradicated or control begun. These squattersburn down forest areas indiscriminately and cultivate the land. Thismovement cannot be stopped in the short run, but it can be controlled.The government is taking steps to identify the most promising stands oftimber and restrict settlement to other areas. Resettlement schemes arebeing organized for this group but cannot at present keep pace with theinflux. In the longer run, economic opportunities other than subsistencefarming will have to be developed in the hill areas to meet their needs.

14. The potential which exists for increased production and theavailability of infrastructure will not in themselves be sufficientunless there is evidence of the organizational and administrative capacitywhich can make this a reality. In the past, public investment in Nepalhas not been constrained by lack of resources, either external or internal.The limits of trained manpower and organizational efficiency have been reachedwell before those of various donors. This is no longer true. It appearsthat in the next few years Nepal will face severe internal resourceconstraints. In addition there is some anticipation that the volume offoreign assistance (about $25 million per annum), may level off rather thanexpand, relative to the Plan forecasts. The proportion of tax revenueto GDP in Nepal is very low indeed. This is understandable given the veryhigh proportion of subsistence agriculture in total income and the sheerinaccessibility of much of the country for tax purposes. The governmentis heavily dependent on trade for its revenues and the recent tradedifficulties led to a revenue shortfall in the region of 25 percent ascompared to the budget estimates. While this is only temporary, somebasic restructuring of the tax system will probably be necessary if thekind of resources which will be needed to match foreign aid and compensatefor its failure to increase, are to be generated.

15. Perhaps the most striking and promising development in the Nepaleseeconomy, indeed in the society as a whole, has been the increase inadministrative capacity at all levels during the past few years. Thishas taken some time to show itself, and it would be idle to pretend thatthere is not still a long way to go, but overall the achievements go farbeyond what one would have predicted only a short while ago. At thatstage the administration seemed to depend on a limited number of very ableSecretaries who received little support. The planning process was weak,and implementation weaker still. There was no co-ordination, and departmentsoften seemed far more interested in stopping others from doing anythingthan doing anything themselves. This is changing. Planning cells havebeen set up in most of the operating ministries which have provided abroader focus to the work of the departments. A large number of youngerpeople with local or foreign training have come into the ministries anddepartments with new ideas and a receptivity to change. A surprisingly

ANNEX IIPage 6

effective administrative training centre has been set up in a very shorttime. The need for co-ordination has been realized and if it stillremains largely informal there is evidence that a sense of prioritiesis beginning to pervade the government. The projects are beingconcentrated around the roads, and major emphasis is on utilizing thecapacity which has been created.

16. One of the most important areas of change is the education sector.Nepal has only about 10 percent of its population literate. It isdifficult to see development in the long run without a major improvementin education. On the other hand, it is already beginning to show signsof all the problems of an education system which is geared to producinguniversity degrees for white-collar workers -- usually in government. Afirm stand is being taken with the introduction of a new education planwhich aims at a considerable expansion of education but along vocationallines with major emphasis on agriculture. In addition, the plan will

also aim at remedying the serious deficiencies in middle-level manage-ment. The three elements in this, firstly the education system,secondly the manpower needs of the country, and thirdly the wholestructure of expectations and incentives, particularly in the publicservice, remain, however, to be tied together. It is hoped that thiswill be done and the plan effectively implemented.

17. All this should serve to illustrate that Nepal's economy hasreached a critical stage at which the capacity to do things, bothphysical and administrative, has begun to measure up to the economicpotential. That developments will now take place is far from being aforegone conclusion. A number of difficult steps will need to be takenand the quality and confidence which the administration has built upin the past few years will need to be maintained and improved.Nevertheless, given this, there is room for guarded optimism about theeconomic outlook.

ANNEX IIPage 7

NEPAL

COUNTRY DATA

Total Cultivated asArea: (in square km.) % of Total

14o,790 12.0

Population: (1969/70 mid-year estimate) Total Density perSquare km.

11.0 million (approx.) 80

Rate of Growth, current estimate: 2 percent (approx.)

Political Status: Kingdam, member of U.N.

Gross Domestic Product at Current Market Prices:

(1968/69 estimate US$750 - 850 million

Rate of Growth: 2 percent (approx.)

Gross Domestic Product per Capita:

(1968/69) US$70 - 75

Gross Domestic Product by Branch:

Agriculture (including forestry) about 75% (average of 1965/66 - 1968/69)

Money and Credit: (NRs. Million)Fiscal Year 1970/71 % ChangeEnded Mid-July July 1970 - July 1971

Total Money Supply 864 + 12.6

ANNEX IIPage 8

Government Budgetary Positions: (NRs. Million)

1965/66 1970/71 % Change

Total Revenues 217 452 +108.3Total Expenditure 428 819 + 91.4Deficit -211 -377 + 73.9

Foreign Grant Aid by Donor Countries: (NRs. Million)

1965/66 1969/70 % Chane

178.5 251.2 + 40.7Of which:

India 93.0 139.5 + 50.0U.S.A. 57.9 43.7 - 24.5China (People's Republic) 16.2 48.5 + 199.4U.S.S.R. 5.0 4.5 - 10.0Others 6.5 15.0 + 137.6

External Public Debt: (US$ Million) As of January 1971

Total external public debt repayable inforeign currency (including undisbursed) 15.00

Total annual debt service (repayable inforeign currency) - 1971 0.23

Of which:Amortization 0.18Interest 0.05

Debt service as % of export earnings(in convertible currency) - 1968/69 2.1

Balance of Payments: (US$ Million)(Transactions in convertible , Changeforeign currency) 1965/66 1969/70 1965/66 - 1969/70

Exports 4.2 10.8 + 157.1Other receipts 8.8. 17.0 + 93.2Imports 2.4 12.9 + 437.5Other payments 3.1 5.8 + 61.3

Current account surplus +7.5 + 9.1 + 21.3

ANNEX IIPage 9

Commodity concentration of exports to third 1962/63 - 1968/69countries (Raw jute and jute goods as % Annual Averageof total exports) 63.2%

Gold and foreign exchange reserves (mid March 1971) US$93.8 MillionOf which: Indian Rupees $20.3 Million

Currency Equivalents:

1 Nepalese Rupee = US$0.099

1 US Dollar = NRs. 10.125

January 24, 1972

ANNEX IIIPage 1

PROJECT AND CREDIT SUIMARY

Borrower: The Kingdom of Nepal.

Beneficiaries: The Hotel de 1'Annapurna Pvt. Ltd. and theYak and Yeti Hotel Pvt. Ltd.

Amount: Various currencies equivalent to US$64.2 million.

Purpose: To cover the foreign exchange costs of(a) extending, modernizing, and refurbishingthe 90 room Hotel de l'Annapurna into a hotelhaving 241 rooms, and (b) building a new hotelof 120 rooms, to be called the Yak & Yeti Hotel.

Amortization: In 50 years, including a 10 year grace period,through semi-annual installments of ½ of 1%from August 1, 1982 through February 1, 1992,and of 139 from August 1, 1992 through February1, 2022.

Service charge: 3/4 of 1% per annum.

Relending terms: The Nepal Industrial Development Corporation,acting on behalf of the Borrower, will make theproceeds of the credit available to thesponsors at 7 per annum for 24 years including4 years grace period; a commitment charge of¼ of 1% being levied on the undisbursed balance.A provision for the acceleration of repaymentsof the sub-loans requires that dividends inexcess of 20% of the par value of the shares inany year be matched by an equal and simultaneouspayment towards prepayment of the loan.

SUB-PROJECT SUMMARIES

(a) Hotel de l'Annapurna

Economic Rate of Return: 19.9%

Cost of project: US$ millionLocal Foreign Total

1. Construction:Siteworks 0.02 0.06 0.08Building 0.70 1.62 2.32Professionalservices 0.07 0.09 0.16

2. Equipment 0.16 0.49 0.65

3. Projectmanagement 0.03 - 0.03

ANNEX IIIPage 2

US$ millionLocal Foreign Total

4. Technical assistance 0.04 0.04

5. Pre-opening expenses 0.01 0.01

Total beforecontingencies 0.98 2.31 3.29

6. ContingenciesPrice 0.12 0.31 0.43Physical 0.10 0.26 0.36

Total 1.20 2.88 4.08

Interest duringconstruction 0.40 - 0.40

Financing: US$ milion

IDA credit 2.88

NIDC 0.40

Sponsor's equity 1.20

Financial rate of return: 10.6%

Procurement arrangements: International competitive bidding for construc-tion, furniture, and equipment.

Construction period: October 1972 to September 1974.

Estimated disbursements: (US$ million)

FYI 1972 FY 1973 FY 1974 FY 1975

0.05 1.08 1.40 0.35

Consultants, technical Consultant architect and engineers for designassistance and supervision: and supervision of construction; technical

assistance during construction under terms of amanagement agreement with Hilton International.Supervision on behalf of the Borrower by tech-nical staff of the Nepal Industrial DevelopmentCorporation.

ANNEX IITPage73

(b) Yak and Yeti Hotel

Economic rate of return: 20.8%

Cost of project: US$ millionLocal Foreign Total

1. Construction:Siteworks 0.02 0.06 0.08Building 0.34 0.74 1.08Professionalservices 0.03 0.04 0.07

2. Equipment 0.05 0.20 0.25

3. Land for access oad 0.03 - 0.03

4. Project management 0.01 - 0.01

5. Pre-opening expenses 0.03 0.03

0.48 1.07 1.55

6. ContingenciesPrice 0.07 0.14 0.21Physical 0.05 0.11 0.16

Total 0.60 1.32 1.92

Interest duringconstruction 0.18 - 0.18

Financing: US$ million

IDA credit 1.32

NIDC 0.18

Sponsor's equity 0.60

Financial rate of return: 9.6%

Procurement arrangements: International competitive bidding for construction,furniture, and equipment.

ANNEX IIIPag e 4

Construction period: October 1972 to April 1974

Estimated disbursements: (US$ million)

FY 1972 FY 1973 FY 1974 FY 1975

0.06 0.66 0.48 0.12

Consultants and Supervision: Consultant architect and engineers for designand construction. Supervision on behalf of theBorrower by technical staff of the NepalIndustrial Development Corporation.

MAP 1

NEPALPOTENTIAL FOR TOURISM

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