Document of

The World Bank

FOR OFFICIAL USE ONLY

MICROGRAPHICS

Report No. 12328-AR

Report No: 12328 ARType: SAR

STAFF APPRAISAL REPORT

ARGENTIN

CAPITAL MARKET DEVELOPMENT PROJECT

FEBRUARY 4, 1994

Trade, Finance and Private Sector Development DivisionCountry Department IVLatin America and the Caribbean Regional Office

Tbh docment has a reshicted end may be used by r en only In the perfomune oftheir offiil dutes Its content may n otdlwise be dbulosed ihut WoId Iank attllfn

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CURRENCY EQUIVALENTS

Currency Unit = Peso

US$1.0 = Peso $1.0

GLOSSARY OF ABBREVIATIONS

BANADE Banco Nacional de Desarrollo National Development BankBCRA Banco Central de la Republica Argentina Central Bank of ArgentinaBICE Banco de Inversi6n y Comercio Exterior Investment and Trade BankBF Facilidad de Respaldo Financiero Backstop FacilityBHN Banco Hipotecario Nacional National Mortgage BankBNA Banco de la Naci6n Argentina Bank of the Argentine NationBPBA Banco de la Provincia de Buenos Aires Bank of the Province of Buenos AiresBON Bonos con Respaldo del Fondo Bonds under Backstop CommitmentsBONEX Bonos Externos External BondsCNAS Caja Nacionai de Ahorro y Seguros National Insurance and Savings BankCMTAL Prestamo de Asistencia T6cnica al Capital Market Technical Assistance

Desarrollo del Mercado de Capitales LoanCNV Comisi6n Nacional de Valores National Securities CommissionCPI Indice de Precios al Consumidor Consumer Price IndexFON Bonos Adquiridos por el Fondo Bonds purchased by Backstop FundFl InstitucionFinanciera Financial InstitutionGDP Producto Interno Bruto Gross Domestic ProductFSAL Prestamo Sectorial Financiero Financial Sector Adjustment LoanINDER Instituto Nacional de Reaseguro National Reinsurance InstituteLFE Ley de Entidades Financieras Law of Financial EntitiesON Obligaci6n Negociable Negotiable ObligationOTC Mercado Extrabursatil Over-the-Counter MarketPAYG Pago por Sistema de Reparto Pay-as-you-goPB Banco Participante Participating BankPE Empresa Publica Public EnterpriseSCL Prestamo en Moneda Unica Single Currency LoanTEL Pr6stamo a Termino Elegible Term Eligible Loan

JO! O"ITI 115 ONLY

ARGENTINA

CAPITAL MARKEr DEVELOPMENT PROJECT

Table of Contnts

Loan and Proect Summary ............................. -i-

I. INTRODUCTION ............................... 1

II. RECFNT ECONOMIC DEVELOPMENT AND PROSPECTS.... 2Background (2); Macroeconomic Consodation in 1991-93 (2);Medium Teim Oudook (4); xermnl Financing Requirements(5); Economic Rik (6)

m. THE CAPITAL MARKET DEVEOPMENT PROGRAM ...... 7Background(7); Ren Developmen and Poficies (11)

IV. THEPROPOSED OPERATION ...................... 27Bank Group Assistance an Satwy (27); Lessons Learned(28); Project Backgroud (30); Projec Objedives (31); ProjeaSummay (32); Loan AMOUnt (33); Project mplnaon(35); Procrement (55); Envionmental Safeguards,(56);Disbuseme (56); Monioring, Reprt, and Auditing (57);Loan Supervision and Evaluation (58); Benefi and Risks (59)

V. AGREEMENTS AND RECOM04ENDATION ............... 60Agreemes (60);Rw ndadon(62)

ANNEIES ............ .......................... 63A. Key Macroeconomic Indicato (64); B. Condidons ofEffectiveness ad Review Pauses 65); C. Capital MarketRegulatory Framework (67); D. Summary of MarketCharactrisi (74); E. Financiaad Capi MarketDevelopmfnt Data (76); F. Legal Aspects of the BackstopFacility (83); 0. Backstop Fund Projections (101); H.Supervision Plan (108)

This veport is based on the fiding of a World Bank appraisal mission tatvisited Argentina hi August 1993. The mission consisted of Messrs.Mmes.Maurio Camizosa (mion leader), Pa Meo, and Yavuz Boray (LA4TF);Gary Perlin, Diane McNaughto, and Robert Pardy (FSD); Carlos Betao(LEGLA); David Femira (LGMN/COF); Hemant Shah (LATAD), DenisSullivan, Edwin Wiliamon, German Feffrzz, Caroline Ban, aGeorge Wilson (consultan).

This dacument ha a gesut distibution ud may ud by recpue nt* o tbe aneof their oMcW dutes Its con_tnt my not olthwW iseb dies without Wodd Dank athizak

-i-

ARtGENTINA

AUUL MARKE DEVINENT PROJECT

L and snf &9MU

hKrQNm:: Argenie Republic.

ERGO= MEW The Fund, an Independent corpation to beestblished by the Government. The financialmanager of the Fund would be an internationalfinancial instion with a proven ccessfulrecord. The Banco de Iversi6n v ComercioExdrll3IC), a Goverment-owned second-tierbank, would perform adminstive and oversightfunctins.

3 S:achnim Prime-rated commercial banks, medium and smaprivate entprises in all sectors, and buyers ofrew commercial or residential buildings.

US$500 minion.

Im. US dollar, single-currency loan, repayable over 15years at the Bank's standard LIBOR-based variableitoest rate for US dollar, single-currency loans.Grace period: 7 years.

The Argentn Republic would ontend the procseedof the Bank loan to the Fund. .The Fund wouldimplement a Backstop Facility (BF) that wouldoffer prime-rated banks the option to sell to theFund medium-term US dola-denominaed bondsissued to roll over prior dollar-denominated bondsthat bans had issued to support their longer temloans for producdve purposes.

Olher FE_dnp A companion Capital Market DevelopmentTechnical Assistane Loan (CMTAL) wouldprovide lemey support (see D d sbelow) in the amount of US$8.5 mllionequivalent. 1DB has approved a credit line in theamount of US$300 milLion for productivepurposes, that will be cofinanced by the Export-Import Bank of Japan in an equivalent amouwt.

The prosed operation aims to accelerate capitalmaret development to help Argentina meetgrowing investment demand.

The operation includes the Backstop Facility (seeQp.ndhing), and an agreed policy and insdtitionaldevelop;ent program. The Bacop Faoiwould support long-term lending for productivepurposes, by enasring liquidity to bans in theevent of bond market disruptions. An agreedpolicy and institutional developmet program,iuding macroeconomic stability, freydetermined interest rates, the removal of eistinginerest rate subsidies, and strgened capitalmarket regulation, supervsion and enforcement,would also help inrease market confidence.Pmgress in the agreed policy-d institutionaldevelopment program would be reviewed duringtWo pauses in cmtes, to be imlementedafter 30 percent and 60 percent of the loan hasbeen committed or after 18 and 36 months ofeffectiveness, whichever comes first. Theaccompanying CMTAL would help finaneiprovements in capital mariet spervision andrelaon; training of commercial bans' staff inproject financing; and miplemention andoperation of the new, reformed pension system.

The main benefit of the project world bedeveloepment of the capital mariet, includingincreased availability of long term financing forprivate sector investent, longer bond maturties,developmen of rating agencies, increased liquidityof the bond maket, and inproved quality ofcommercial banks.

The main are resumption of sustandmacroeconmic instbilitb, including further sainon the baidg system; extended govermeninterventions to lower inrest rates; weak prgressi bank supervision; weak demand for theBackstop Facility; and non-development of BICE.

I CoW The total amount of bank bond issues that theBackstop Faciliy would upport over the life of-

the Bank loan depends on the matuites of ftebacdsopped bonds and the perentg of backstopconm mtts exercised by banks. The longer thematurities and the igher the percentage of totalbonds sold to the Fund, the lower the amount ofbond issues that the Fund would be abie tosupport.

* a: Not applicable. Financing of bond purchaswould nmteralize only in the event of a poss%blefiancial disruption or market developments thatundermined a PB's ability to rollover its bonds at arate below the backstop price.

of 1 Not Applicable.

t Not Applicable.

ABIGE4MNA

CAEl!TA MARNEI DEVEI4Oa PRQJEC

STAFF APPRAISAL RET

I. INTRODUCTION

1.1 The Goverment of Argentina has undeaken a major reform ofeconomic policy aimed at price stability and sustined eonmic growth.Measures to fos the state on core public fucions and raisqe the efficiencyof revenue mobilization bave been essental for improving the fiscalfindamentals. Trade liberalization and the deregulation of domestic marketshave improved economic efficiency. These refoms bave been stonglyencouraged and supported by the World Bank.

1.2 Complementg earlier public sector reforms, the Bank extended twoPublic Entrprise Reform Adjustment Loans and a Public Sector ReformLon (1991-92) along with coplemen xy tnical assistance loans (1991).The Government is now in the process of reducig the role of public bansand private banks. To support these reforms the RBankapprovQ the Financial Sector Adjustent Loan (FSAL) in February 1993.

urthrmore, the Government is enoraging the growth of private scuritiesmarkets to help muster the large amount of medium and long term financialtesources needed to finane investnent. The timing is now propitious forsecurities market development becase the economy has become more stable.

1.3 This report proposes a capital market development project that wouldhelp provide tborm finance frm private sources. The loan, in a proposedamount of US$500 million, would suport a bactop facility (BP) that wouldoffer prime-rated banks the option to seil to the BF mediun-term US dollar-denominated bonds which would be issued for the pupose of roilig overprior doilar-denominated bonds hat those banks had issed to support theirlonger term loans for productive purposes. A policy and instionaldevelopment program agreed between the Govemment and the Bank wouldhelp increase market confidence. A complemeay chnical assistance loanwould finace improvements in capital maret supervision and regulation,including enfocem; training of commercial bans to undertake projectfianing; and impleation of the new, recently approved pension system.These would help improve the policy framework for the prposed project.

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2.1 Upon taking office during the July 1989 hyperinflation, the MenemGovenment cognized that reversing Argentn's long-standing economicdecline rquired structural reforms to eliminate the chronic fiscal deficits thatwere driving inflation. The Goveniment launched reforms in federal taxpolicy and administation, and undertook expenditure reductions thatimproved the overall public sector primary budget from a deficit of 4.4percent of GDP in 1988 to a deficit of 1.6 percent of GDP by 1990. TheCentrl Bank's large quasi-fiscal deficit was elhimnated, ending thedestabilizing practice of Cental Bank money creaton to cover its owninterest losses on massive short-term debt. Sales of public enteprise assetsand cocessions during 1990/91 produced cash rceipts of about US$600million and lowered external debt by about-US$7 bilion, while reducingfuture ubsidies and creting new tax tevenm. Major privatizations andtrade liberalization signalled a new development strategy.' With esereforms, the economy became fundamlly much sounder by the end of1990, but preses on the exchange rate and a short burst of renewedinflation led to a new stabion effort as well as a new economic team.

2.2 The new stabilization progm that began in February 1991 intrducedtax and revenue measures tht raised the operational primary supls to alevel pemting debt service obligations to be met withut resort to inflation.The Converibility, Law of April 1991 legally fixed the peso/dollar exchangerat and required the Cental Bank's moety liabilities to be at leastmatched by its international reserves, thereby preventig the use of monetaryemission to fmance the public sactor. Furher trade liberaliaton and-majordomestic deregulation put downward pressure on prices and costs supportingexchange rate-based disn on. The pri on program was both'acceleraed and deepened. Aided by declining foreign ierest rates, tesepolicies attcted massive capital inflows and resulted in strog economicrecovery and a dramatic fial in domestic iee rates. Higher private capital-inflows in 1991 financed a US$4 billion rise in imports and an increase ofUS$2.8 billion in liquid reserves. Consumer price inflation came down to83.9 percent in 1991 and 17.6 percent in 1992. Intrest rates on fixed-termdeposits declined similarly to 78 percent in 1991 and 11.4 percent in 1992.

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Led by consmpdon, GDP grew by 8.9 percent In 1991 and 8.7 percent in1992.

2.3 The strucural and stabilization policies indicated above wereundertaken by the Government under a set of Bank adjustment and technicalassistce operations. In March 1992, agreeme was reached with the IMFon a three-year EFF program. The Goverment complied with allcondtionality under the Bank's Public Euterprie Reform Adjustment Loan(February 1991) and Public Sector Reform Loan (July 1991). Fis-alperformance in 1992 exceeded ErP targets, and privatizadons pushed thepimary surplus to 2.2 percent of GDP in 1992. In the first semster of1993, EFF conditions were met. Most targets-international reserves andforeign debt-were met by wide margins, but the fical perform=ce wasslightly below program,- about US$34 million, as the shortfah in tax revenues(partly :sociated with tax reductions) was not quite fully offset by cost inexpendiures on pensions and transfers, reduced hinerest outlays, and animproved peformance of public eeprises. However, revenues havepertformed more strongly receny and eenditues coninue to be contolledthrough strict cash management.

2.4 During 1993~ the Govermment furfter enhaned confidence byproviding a longer term fiamework for public finances. The external debtagreement with commercial crditors, signed on April 7,1993, ends theaccuulation of arrears, regularizes existng arrears, reduces interestobligations from a projected US$2-3 billion to US$1.4-1.6 billion in theWitial years, and sharply limits interest obligations ii intrational rates rise.The succesfl privatizadon of the state-owned oil company (YPF) enabledthe Federal Government to exnuis debt obligations to pensioners (aboutUS$2.7 billion) and to oil-producing provinces (about US$1.2 billion). Theliquidity injection from abroad (US$2 billion) was largely sterilized throgh a3 percenage point mcrease in reserve requrements in mid-August. OnAugust 16, 1993, the Federal Govement, the Federl Capits1, and (16 outof 23) provincial governments amnaed a new revenue sharing agreementthrugh June 1995-the Pacto Fucat-aimecd at s g the fiscaladjustment in provinces, and at eliminating distortionaiy provincil taxes. inretn, the national goverment agreed to ego US$0.9 billion in provincialdebt, and to assume responsibilty for the provincial social security systems.Fmally, on-Septembe 23, 1993, the Senate passed the pension securityreform law. The law establishes a mixed system of mandatory pensioninsurac: a public pay-s-you-go (PAYG) scheme offering a uniform basicpension, and a private funded scheme offeing benefits in proportion toidividual contributions and the investment performance of the respecdvepension fund. However, workers may opt for additional PAYG insuranceintad of fund memberhp. The law also obliges the state-owned Banco de

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la Naci6n to offer a pension fund with guaranteed remns m both pesos anddollars and a subsidy component through prohibition of a management fee. Itis expected tht the guarante and subsidy componet-which could adverselyaffect prvate fuds- wmi be dealt with saisfactorily through new conrectivelegisltion.

2.5 The large capital inflows have produced a real appreciadon of thepeso of about 30 percent since the beginnin of the stabilization program, butbetween a third to a half of the adverse impact on competidveness may havebeen offset by the elimination of export taxes in 1991 and other meaesdescribed below. The curt account deficit reached US$8.3 billion in1992, after a US$1.8 billion surplus in 1990 and a US$2.8 billion deficit in1991. In late October 1992, the Government inreased indirect taximbusments for exports from an average of 8 percent to 13 percent and

raised import tarifs-incling ad valorem tariffs and a flat statstcs tax-from an average of 14.8 percent to 19.8 percent while also reducing taiffiseion. RDuctions im fuel taxes futhe improved the competitiveness of

domestic producers. In April and May 1993, to stimulat nveseme theG3overmment anounced a package of measures to reduc the costs of capitalgoods (dqty free capital goods imports and tax rebates for domestic capitalgoods prdues) and lower borrowing rates for small and medium industry(paras. 3.25-3.26). During 1993, the Government reintduced for one yearlimited quanttatve restrictions for paper and footwear and taiff surchargeson wool clothing ipor. Iln mid-August 1993, stascal import duties onagritural and indstial inputs wer reduced from 10 percent to 3 percenAlso, the Govenment announced a new set of measures designed to alleviatepressure on the tadeable sectors from the appreciation of the real excnerate, incluing the elimination of the gross asset tax for agriculture andindustry and of prepayments agait VAT for the agricultural sector.

M_M Term ok

2.6 The Govemene's main macroeconomic objective is -to achieve along-tem anna growth inEceedg 5 percent, with epanding employmentand inion held to inteatonal rates. In the period June-September 1993,the analzed rate of consumer prices inflation fell to less tan 5 percent,and real GDP growth for 1993 is projected at about 6 percent. The primaryfiscal surphs before privatization is projected to increase from US$3.0billion in 1992 to about US$4.5 billion in 1993, about 1.7 percent of GDP(Amex A). This level wold suffice to service interest payment and toobviate the need for a future inflation tax, given foreseeable foreig anddomestic borrowing. ITe Government anticipates that its monetary and

ce poliies Wi contiu to be disciplitod by th ConvertibilityLaw ad a now Centr Bank Cater. A dght fisal stance, continuiImport compediton, and product and factor market derguation would drivedomestic inflth i to tnteraonal rates.

2.7 The Governme Is relying on private capital inflows and increasedprivate domestic savings to finance Invem. The autdh es view theestimated US$50460 billion in private savis of AtgeztI reside heldabroad as a reliable source of tWure capital ifw, altho peraps owingin 1993. Futhermore, the Govermt anticipates that the trade balace w1ilimproe progsvely blning in 1994, in rspoe to condnued tight fiscalpolicy and furtier actions now ulderway to mahe te economy morecompet-ve, ichxding deregultio measures, labor reform (sent toCongress), iNestm in umn capital, m! tax poliy measures. TheGovermnt has recenty asd itentiOn to reduce emloyer payrolltaxes, curreny equa to 33 percent of gos wages, in povinces that carry.out tax reform. Th authorities epe that contined p v owth inthe domestic inusl sector and lower labor costs will improve t tradebalane. They alo expect mproved tax collectio'to compensate for thefisa costs of the above measures.

2.8 Ssb y of the adjustmen prom and a spportive Inteatonalenvi n are the key variables in Argnias effort to meet its extrnl

financing requirm s During. 1993, sWt economic perfome and thedebt reduction opeaton opened Argenta's doors to the W Ifinancial marmt; however, access to 8th mabhts nd borowing tm stilremain lmited.

2.9 The adjustment of the public sctor has pr vel shifed the needsof extenal finanng from the public to the pvate sector. Therefore,finawcing of the balace of payments prnipa will be a function of desredsaving and investmt in the prvat secor. Improved ineatoal financingof priv invesmet, the remwed abt tO rol-over mauring intnatonaobligations, and growing foreig direct invstme are expected to moderatethe apected slowdown in the exceptional flow of ivi a.Io proceds fromabroad observed in, te last three years, as the progam nears itscompledon. In tu, the investment oouni creaed by thisprfivatiation program, as well as pottl repatiation of eaings of foreign-hdd private assets, will be addial factors contributg to the cangingnature of capital inflows to Ageina. The Wodd Bank and IDB will be

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Inresing their exposnre in Argentina, but not substantially so after te M-1990s. The IDE's exposure wi likely decline after the exphation of th

2.10 It is likely that with consistent macroecoomic policies, a sablelntenatial environment, and the continu financial asiae ofmullaterl organizations, Argentina's extnal financing rqu forsustainable growth could be met.

Ea_MI RlSk

2.11 A key risk for the Argentine economy is ftat if capital flows taperoft, output growth could decline as domestic intrest rates rise and redtionsbecome necesury in import volumes and prices of non-traded goods andassets. Furthermore, a worseng macroeconomc pice or poliicl ee

ud trigge a speculafive attack on the peso. With a udden cycle ofdemonetizaion, very high interest rates and deep recession, the Governmenmight be forced to choose between: (i) providing liquidt to prvnt thcolpe of the facial systm, thereby puFtt pressue on the exohangerate; and (ii) leting financial institutions collapse with some depositrsRIn losses. Slower growth would create added fiscl pressure. Asevenues fall and the interest bil rises, it would be more diffl to achiei.

the projected pardal rollover of the Government's domestic debt-rdtbondhlders.

2.12 The probabilit of these adverse events declines as the _nsof publc finnce improve. The past reforms of the public sector, which havenmustered considerable public support, anchor stabiltio and are not likelyto be reversed. Furtemo, the fill coverage of the monety base byreserves tends to deter specultve attacks on the peso.

2.13 The proposed Fund will benefit from reduced cuency ridsk as a remtof borrowing on single currency loan (SCL) terms in US dollars (para. 4.21).All of its revenues are expected to be US dollars. Thus, the Fud will beable to match the curncy of its revenues and expenses and avoid thecurreny risk it would have faced from curnrncy pool loan terms. TheIUBOR intr rate basis of SCLs also allows the Fund to reduce part of itinres rate risk, since is interest ome fom ptcipatig bank bonds wilbe LIBOR-based.

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m. CAPfAL hUTW DOMARNM PROGRA

3.1 There is an urgent need to accelerate the development of Argenin'ssecunrities markets. With the size of the public sector shatply reduced,foreign and domestic trade liberalized, and tax and subsidy distorons aboreduced, private invesment demand is expected to grow lapily. Viualyall of Argentina's national power, telecommuncatons, gas, water, steel,chemicals, and petroleum industries -- heretofore ste-owned - are now inprivate bands. So are many in s and trsport activities-por,tsairlines, railways, and highways. Many other firms are also eager to teadvantage of the strgthened macroeconomic frmework and expand theiractivities. A study by a respected Argentine research ititue estmas thatthe newly piivatized PEs alone will need over US$3 billon yeary in lowterm funds if their investment reuireme are to be met A recet surveyof 250 well-known enterprises estimates an annual growth rate of 19 percentin private busine investment over the nxt five years. In fact, privaeinvestment increased by 32 percent and 37 percet in 1991 and 1992respectively.

3.2 andal Argentne financial and capital madre wereundermined by the poor economic policies of the previous four decades.High inflation and macroeconomic instabily decreased resourcemobilization, shortened terms of financial in, and incea nominaland real interest rates. Public sector borowing, high taxes on tading -4prva securities, controlled interest rates and subsidized credit, governmenconicaton of savings accounts, government monopoly of pension insuranoeand of all reinsrnce, and restrictions on the allocation of inves_mt fundportfolios further discoumaged development of the capital market. Diectedand subsidized credit and distorted economic incives contriutd tomisallocation of finanial resurces, increased freely detemined real interestrates, and decreased portfolio quality. sIe bfa ktcy protecdonthrough Ceal Bank icJiscounts, lack of profit-making incentives, andgovernmen interference in credit decisions prevented public banks (which

the banking system) from oprtg soundly and efficinty. Therewas an inordine physical expansion of banks to capture the inflation tax forther owners. Finally, weak regulation and enforcement of capital adequacyand provisioning requirements, parcularly with regard to public bank, alsocontributed to the 4eclining health of the banking sector, leadig to disteborrowing and le .

3.3 I)omstiMbicR q ob Domestic resoure mobilizationand private sector finance sffered as a result of these policies. Finanisavings in Argentina have been held primarily in forced plac_me of

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govenme bonds, curreny, and bank depst. As of March 1992, therewere some US$6.3 bilion in Government bonds OU ht in the domesticmarkt (2.8 percent of GDP). Currency and deposits (M2) rached its lowestpoint ever, approaching 5 percen of GDP (old National Acos) in 1990down from above 40 percent in the early 1940s and from 20 percent in themid-1970s (see Annex E). This decline is lnked to higher inflaton,increased uncertint of domestic asset yields, and the desire to retainfinaial assets abroad. Nominal intrest rates on domestic currey assetsoared frequeny, reflecting the periodic syrocketing of inflatonyexpeaons. For example, freely determined rates on acceptances, whicbremaind low and fairly stable at a monthly level of aroui 2 percen or lessup to 1974, fluctuated between 2 percent and 137 percent between 1975 and1990. Real int rates on domestic currency asset also showed instbiWin the wake of sccessive speculaion for and agaist the domestic curr 'yand unexpected swigs in iaon. Ex-post monthy real rates onaccptances, hovering within -S pecen to 5 percent before 1975, fluctuatedbetween -27 percent and 7 pet between 1975 and 1990.

3.4 l)winding resource mobilization reduced the amount of bank creditfrom around 40 percent of GDP in the early 1940s to 10 percent of GDP in1989. About half of this redit went to the public sector. As a result, therole of bank in private financing has been very limited, accounting for lessthan 10 percent of businss fae. Furtermore, increased unrainty ofasset yields also led to declning martuities of domestic financial inumet,from about three months to about a week, and holdings of medium- or long-term priae bonds were viuly nil. Long-em cororate finance reliedchiefly on shares held by controHlig shareholders.

3.5 blk aqk. Historically, commeial banking has been domiatedby pIorly performing public bak. While public commeril ban numberonly 36 (7 national, 26 provincial, and 3 ipal -22 percent of the totalof 164 bak in the coutry), they provide the major share of bank credit(about 61 percent of total credit), raising a sipificant share of deposits(about 55 pert), owning 45 percet of all brancies and employing 51percent of all bank staff. The share of dqpsits at public bans increasedfrom 40 percent to 60 percent during the 1988-90 period due to high iterestrates paid to obtain resour for the public sector.

3.6 The public banks' consistent puit of objectives ,ter than profitmaximiion, includig financig of the public sector, dictdon of cedit anddisbuion of subsidies, led to low-quality loan portfolios, dependene onthe Centmal Bank, and losses or low profitability. Non-performing loanportfolios (carera of naional public banks are estmated at 33percent of the totl portfolio, even tugh lending to the public sector, whichamounts to 29 percen of the tot4, is not included in low quality portfoios.Similarly, provincial banks have 34 percent of their portfolios in low qualitloans and 23 percent in lending to the public sector. Cenal Bank

9

rediscunts to national and provincial public banks are 27 percent and 33percent of deposits, rsetvely. Poor financial maagement of public bankbecame a burden to the Cental Bank, which iwured subsal lossesbecause its Interst income was below its interest costs and portfolio losses(the quasi-fiscal deficit). Low profitbi in public bank sulted fromiterest rate subsidies, poor portfolio performance, and bigh operating costs.Public bank employees compise about 51 perce of total bank employment,and labor costs at naoal ad provincial public ban account for 68 percentand 66 percent of total costs, respectively. In cota, private banis havenon-perfoming portfolios of 5 pet for domestic bank in Buenos Aires,11 percent for domestic banks outside Buenos Aires and 4 percent for foreignbanks; little funding to the public sector beyond requred reserves; CentralBank rediscounts of only 3 percent for domesdc banks in Buenos Aires, 1percent for domestic banks outside Buenos Aires and 2 prcet for foreignbanks; and labor costs of about 53 percent of total costs.

3.7 The nationally-owned Banco de l Naci6n Arentn (BNA) is by farthe largest bank, with assets of about US$13 billion and about 13 percent ofboth domestic ledn and deposis. BNA's chief role was that of providingliquidty and credit to the public sector (including public e iss): 70prcent of total assets are direted to the public sector. Furtemore, BNAbas been required to act as tax and payroll deposioy, undertak emegenylndig and serve as mardet leader for reducmg ierest rates. BNA haddeterioated into a vast bureaucracy with an antiquated organizaion andsystems and low proctvity in many of its branches, which has led to highopeao costs. As a rIet, BNA's return on capital has been low.

3.8 Banco Hipotecario Nacional (BN), an imporant pilar of theGovernment's housing programs since fte 1940s, genally provided housingand consruction credit to middle-income households. High inlation and lowdeposit mobilization caused BHN to depend on Central Bank loans.Increasing emphasis on social concet led to portfolio yields below fundingcosts, substandrd collectou performance and high opertig costs.Insolvency set in during 1988/89.

3.9 Baco Nacionl de Desarmollo (BANADE) had been coeated in the1940s to provide Argenine idustry with long-term loans. BANADE wassubject to growing government interferene that led to poor credit policies,lax loan colection, corruption, and a fiancial position beyond re1tiea.

3.10 Caja Naciona de Ahorro y Seguro was created in 1915 as a postalsavinpg Insttuion, but has been providng both banking and i eseies. Its banking opeatons have been performig poorly on account oflarge lending to govertmt and public emerprises. In conast, it insurce

10

oprations were profitable, favored by a large market sbare (13 percent) andits ability to place inswance con directly witout brokers.

3.11 Provincial banks (30 in total) account for about 26 pern of totalassets of the banicng system. The largest provincal bank is Banco de laProvincia de Buenos Aires (BPBA), Argentina's oldest commcial bank andthe second largest wift 330 branches and 15,000 employees. Generally, thefincial performace of provincal banks has been poor, chiefly as a resultof their primay mandate to lend to provincial treasures and entpriwswthout due regard for bang principles. Pessured by the need to fundprovincial finances ad low deposit mobilzation, many provicial banksbecame highly dependent on Cental Bank rediscouns to continue theiroperatons. Ihe Central Bank, in turn, encountered difficulties in recoveringtho rediscounts. Provincial constitons or laws dictag the provinialbanks' lending focus, their choice or removal of management, and merger orclosure undermined the Cental Baks enforcement actions and collectionefforts.

3.12 Prhrt- Between 1950 and 1985, private bank employmenttripled wbile real deposits s8td. Excessive physil expaon, icludingover-branchig, was encouaged by subsidized Central Bank credit,controled intrest rates on deposits, and profits from the iflton tax.Furtemore, investors were attracted to the banking sector by the CetralBank's 100 perent deposit guarantee regime, which encouraged a high degree of ierlocking ownership with non-finanial fims and banks, as wellas excessive risk-taking.

3.13 In the 1980s, -several institutions went bankrupt. Some bankuptcieswere the result of portfolio hpairmet that originated in relative pncechanges. Several bankrupties were probably fradulent, and thus tookadvantage of deposit insurance and deaulted on Cental Bank rediscounts.During the late 1980s, hbalized inte rates, the redction of subsidizedcredits, incesed taxaon through non-remunerated reserve requirements,and a falling demand for liquid assets, reduced the centives for furtherbaking growth. The number of private band sed from 179 to 141during 1980"89, and employment at those bans declined slihly from66,000 to 64,000.

3.14 Mat& The crkical capital market issue is the limitedmobiization of long term resourc (size and instuments) from privateimveors. The capital marikt in Argentina has been dominated bygovernment bonds. The chronic public sector deficits icreased the volumeof public dollar bonds ou&tng fom US$0.3 billion in 1985 to US$10billion in 1991. Maret transactions in public bonds at the Buenos Aires

11

Stock change amouned to US$1 bilion in 1990. The mai Instrument hasbeen the BONEX, a dollar demin govnment bond that partlystmmed from the Govemn's confiscation of saving deposits in 1990. Incontrast, equity market and trading mounted to only US$3.3billion and US$0.8 billion in 1990, respectvely - small measue for acountry with a GDP of US$140 billion. The amount of private coiporatbonds issued domestically was neggble, as these were priced out of themarket by prohibitive tsaction taxes.

3.15 In addition to the legacy of macroeconomic instability, which stillfeeds fears of an unexpected revesal of a thus far sueul stabili,poor mobilizton of long term private resorces has been un ed by (a)the lack of insttutional investors with sources of contactual savings for longterm investmet; and (b) shtings of the reglatory framework of thecapital maret. The main gap in istitutional inveting has been theGoverment's monopoly of pension iuance. Following the extnction ofprevious public pension fund savings, the public pension syem opeated ona pay-as-you-go basis since 1968. Anther importat gap was a consaint onnon-equity invesments by investment funds.

3.16 Finally, the regulo fmeworlk remains undeveloped.Shortnomings include: (a) lack of enforcement capacity due to weaklegition with regad to the Stock Exches; (b) lack of capital adequacyrues for capial markt intemediaries; and (c) lack of suervisory capaciydue to weak developmet of the supervisoy body. These sbortcomingsundermine the degee of confidee that is required for the deveo n ofbond and equ markets.

Recent lloDmem md 1 'i

3.17 The present government has been ssing the long-standing legacyof poor policies. Moderate inflation steming from the ma - -

policies discussed earlier is rencing the unainty of real asset yields, andtreby reving the demise of resource mobiliztion. Strong icomegrowh is futer icsing the demand for fncial assets. Inflationdeclined frm 1,344 percent (CPI) in 1990 to about 8 percent in 1993, andre growth inreased from 0.4 prent in 1990 to 8.9 percent, 8.7 peen,and 5.0 percent in 1991-93. With greater inerest rate stability, M2increased from an average of 3 percent of GDP (new National Acus,which raised measued GDP by 48 perce in 1990) in 1990 to 11 percent in1993. D)eposits with mauriies of one month or more increased from 3percent of totaldeposits in the aftermath of the BONEX conversion (March

12

1990) to 46 percent at the end of 1992. Outstanding bank credit to theprivate sector has also increased, from 5 percent of GDP in 1989 to 12percent in 1992. Maitnance of macroeconomic stability and its policyhmdamentals would be a condidon of effectiveness and of renwecommitments under two formal rviews of the operation. he Bank would

tin the t to suspend commitments to disburse at any time ifraacroeconomic instability resumedA'

3.18 In addition, following the tax exemptions on private corporate bondsintroduced in 1989, several banks and corporations have issued corporatebonds, chiefly US dollar denominated, increasing the outsding volumefrom zero in 1989 to about US$4.1 billion by mid-1992. CNV approvals forpublicly offered bond issues amounted to US$3.8 billion and $4.6 billion in1991 and 1992, respectively. These instruments are mainly held bycorporate and baning institutions, and by intemational investors. They arenot yet actively traded in domestic markets. Fixed annual intest rates havebeen as low as 9 percent and sizes of individual issues have been as high asUS$100 million. New equity issues on the Buenos Aires Stock Exchangegrew from just US$16 million in 1989 to US$116 million in 1990, and toUS$355 million in 1991. Moreover equity market capitalization, which stoodat US$2.9 billion in 1989, reached US$25 billion by June 1992. Theprvatzation process itself is also giving rise to major market offerigs; some30 percent of equities market apialon is accounted for by the shareplcement of the northen and southen telephone companies.

3.19 In spite of these changes, financial deepening is stil much belowenational standards. With susained stability, Argetina can expect a

further increase in the ratio of M2 to GDP to around 30 percent in themedium tum. A more difficult chaUenge is to increase the demand formedium and long term bonds and perhaps for equity shares as well. It isgenalUy acknowledged that there is a latent supply of medium and long termsecurities that has not developed due to lack of demand. The cited incrasein private business investment plans indicates the latent supply of secuties.Lack of demand for long term securities is tantmount to saying that theyields required by investors are still far above the rate of return on capital.The high reqired yields have been drven by policy-induced risks anduncerainties, transaction costS, lack of investor proctdon, and constraints onthe developmen of insdtutional investors. The financial and capital market

I/Compliance with the 3-year fiscal and exnal financing program agreed with the IMP andthe Bank would satsfy this condition. Following expiration of the program (March 1995),this condtion would require the prmary operational surplus to exceed the interest obligationsof the nonfinancial public sector.

13

policies will further improve market performanoe to help meet the economy'sgrowing term fiancing needs.

3.20 IXpros the b of the lg SgBanking policies have pdmarily sougtk to s btengte the financial sounll Sof the ban system and thereby reduce the Govement's exposure tolosses stemming from bank failures. The Convertiblt Law, te CentralBank chartr, downsizing and cost reductions in public banks, and strongerreguation, supervision and enforcement of capital and provisioningrequem, and improved bank disclose, will help reduce the moralzard to the goverment smming from bank failr. Furdher protection

agaist losses from bank fiures wil result from the sale or liquidation ofsome public bank. These polcies have been Supported by Bank loans,including the Public Sector Refbtm Adjustment Lo, the Public SectrReform Technical Assistance Lon, and the PSAL.

3.21 BANADE has now been closed, and BNA acts as a facial age toliquidat its assets. BHN bas been converted into a second-tier bank. Itslending will be priced to cover fnding costs, the cost of operations md apositive return on capital. Cala Naion de MM Y Sus is bingprivatizd and the sale of the majority of shares expected in early 1994.

3.22 To maintain financial flexbility and be able to meet unexpectedfinial needs until the Govemment's stniura reform program issubstanally completed, the Govement wishes to retain full control overBNA. At the same time, the Governmen is aware of BNA's inefficienciesand is supporting its raionalizon. It has compled inial measures- mostimportan y, the number of staff has been reduced from about 18,000 to14,000 via an early retiment program, geneting operating savings ofabout US$50 million per year. On-going measures ilude improvedcontrting procedures, oinal rel and, most importny,negotiation of new incentive-based compensation sches for BNA staff. Tostrengthn f er ficial discipline, BNA has (under the PSAL condions)dind financial performance staUdards and given priority to the privatesector. Its loans to the public sector declined from 17 percent of total creditin 1991 to 7 percent of total credit in 1993.

3.23 Laceng direct jurisdiction, the Govrmen's overall stategy indealing with the provincial banks has been to tighten financial sndads andsupervisory prese tough a r izon of their relationship with theCental Bank and the S of Banks and to limit their exosure totheir rective Govenms. Further, provial banks have not receivedCenral Bank rediscounts for purposes other than short-term liqidity needs.Provincial bans are also being required by the Cental Bank to adhere

14

gradualy to the same banlking ratons as the private commercial banks.This pressr is generating t and privadzadon of several bank(Cordoba, Mendoza, San Luis, Salta, Entre Rios, Ch3ibut, and Misiones). Aforthming Provincial Reform Adjustment Loan will spport a series ofprovincial public sector reforms aimed at enhancing the strength of provincialfnances and supporting fr es g of provicial ban.

3.24 Adjusm in the private banking system contued during 1989-92.rj number of private banks dclined from 141 to 128 and employmentdopped from 64,000 to 58,000. Overall, private ban have performedbetter than public banks. Non-perfomn loans amounted to about 7 peetof the total in 1991, far less than in public banks (S0 percent). Privatecommercial bans had to absorb the shock of the Jamna 1990 conversion ofsavings deposits into public bonds, and hold large vohlmes of Trasuryobligations created in the wake of that conversion. More recendy, they havehad to adapt to lower inflation rats and lower spreads. Although the privatebanking system does not present major risks of failure, one can anticipatefurther rationalizion, including mergers and some additional closures.Furthermore, it is expected that private banks will increasingly lend withlonger terms and with a wider client base. The proposed operation wouldhelp accelera this trend, which would help increase the access to termfie by small and medim-sized bushi es.

3.25 Progress in bank regulation and supervision is also belping to icreaset health of the bankng system. Under the Finac Sector AdjustmentLon, the Ceral Bank sted a program to improve reglations andsItregihen supervision. To stregtben the focus on capital adequacy, theCetal Bank issed new minimum caital rqui s that depend stronglyon the riskine of the bank, and also iceased proisioIning ri.To improve inspection, the Ceral Bank issed stringent replations thatincrease the aoun of indendent audtors. Fmaly, the SEF isundertang an instuational development program to improve its own on-siteand off-site ispection practices. To undertake tis program, the SEF isreceiving assisace from the Federal Reserve Bank of New York and the USOfie of the Comptroller of Curey and working with other localcnsultants. Improvements in supervision are being comlemented by moreopen disclosure rles with regard to the financial condition of banks, whichwiUl make it more difficult for banks to conceal inadequ levels ofcapitlzain

3.26 itet Rte }'ofctes. With the Ceral Bank virtually convertedinto a monetary board, the Government itself is interening to restaininterst rates. The Government's key concerns are the high spreads and thelack of access to credit by small and medium entpriss at reasonable costs.

- 5 .~~~~~~~.

. \ . 0~~

15

The main ventions thus far include the following: (a) public bank arechging a maximum monthy interest rate on V- loans which seems to bewell below rates chargd by private bank; (b) an intrest rate subsidy of fourperentage points which is being auctioned off to the banks offering to chargethe lowest rates on a total of US$1.8 billion of loans for investent (4-yearloan1s of up to US$400,000 per firm), working capita (18-month loans of upto US$80,000 per firm and two- to fth year loans of up to US$100,000 perfirm), and texnology (three year loans of up to US$40,000 per fim)benefLitt* from the subsidy; (c) a sbsidy of 30 percent of the interest rateon US$100 million of BNA 7-year investment loans with an intert rate notexeeg the pme rate by more than 6 points (individul loans of up toUS$1.0 million); (d) a subsidy of 2 p=erng points on US$150 millon ofBNA export loans with an interest rate below 12 percent; (e) negotiation of aSaish goverm credit facility offering subsidized rates to fialborrowers; and (f) a program to provide ubsidizd credit through BNA tobusin s hiring staff that leave jobs in provincial goven and thugh

MN for acquitn of housing to those staff that change residence as aresut of their cbange in employment.

3.27 While the concern with the high level of interest rates is justified, therecent policy chages may be misguided. With stabilization, monthlynominal lending rates declined to 2.0 percent-3.0 percent. Tbese lendingrates awe of course much above international levels in US dollars. They arePartially ted for by high intrest rates (again by intermationalsandards) paid to depositors (about 0.7 percent-o.8 percent per month)-which may include country risk and some expecn of devaluation-andalso by excessive seads. Exesve spreads (see Annex E) have beenwidely ackowledged to result from high reseve requiements, a low depstbae, a high budn of the non-performing portfolio, high regulatory costs,and high risk prmia. None of thes problems is addressed by the policiesdescribed in para. 3.26. In fact those policies run counter to the objective ofachieving capital market development, since the availabilty of cheap officialcredit wil discourage borrowers an d banks from tapping the market. 3hGovenmznt has agreed that it will no renv the proM s described in pars.3.26 (b) to fd). whic w be fl commitd by mid-1994. Therefor, thepRams wil bave bee fu}lv committed before the proposed loan becomesoional. Moreover the Government has ageed to noate bilatrexport redit re lines ( dita y negotiated trancbe wili Spain) atmark~e rtes to the find borrowers.

3.28 Rebirth of thC alMNke. In size and importance, thesecurities markets have grown dramatically since 1991, although there havealso been dramaic rersals within the period. As an indication of the

d e of the eesk§ materelative to the economy as a whole, its

16

capiaztion is equal to about 30 percent of GNP (down from a 1992 high of50 percent). Thicspali was iniially skewed toward thetelecomunIaions sect beu of the pivatization of the telephonecompany (see Table 1). Recntly, the priva&ion of XRchslEmma= Fiscales has added ather impont setr. Because the marktis so volatile, market cHpitalizrtion inceased fourfold from May 1991 toMay 1992 and dropped by balf in the subequen eight months.

3.29 The seconnation is mirrored in the narrowness of secondaryading. Daily vohwne is ately US$8 million but 50 pemen of this

is trig in only 15 of 170 listed stock. Howver, scondaty tading isexpected to expand with the new privatizations, inluding the sale ofremiing (minort) sbares held by the public sector.

Table 1 - Equiti Market Capitalization By Major Company and Sector(perce of total)

July 1993

Companis Sectors

YPF 27 Petroleum 30Telef. de Arg. 17 Commucain 29 -Telecom. 12 Holding 9P.Compan 8 Spare Parts 6Sevel 3 Baing 6Astra 2 Food 3Cia. luter. de Autom 2 Metlic Products 3Siderca 2 Other Sectors 14Banco GaUlicia 3Banco Prances 2Otlers 22 , ,_ __,

-3.30 The primy and uay e in t bo have beeesignficant for a decade or more while te g bS marfet is verysmall (see Table 2).

3.31 Mutual Punds have not boen a popular investt vehicle due todeficiencs in the legal frmwork. Some growth is expected following thepassagate last year of a mutual fuid law. At present, dtere are 40 fundswith total ve of appoximately US$200 million (down from US$400

17

million in early 1992). They are all open-end funds (i.e., funds issuing newshares as needed); closed-end funds (i.e., funds with a fixed number ofshares) are expected to develop under the new law.

Table 2 - Public and Private Bonds Market Capitalizaton- ~~(US$m)

Public IS l - -

National, US$ denominated 26,267National, local currency denominated 3,290Provincial, local currency denominated 52Total 29,609

4,100

3.32 Impoi the Lel ad Re_ry Frame k of th CGMlMarkets The Goverment has already impl d key lega and regulatoryreforms to encourage development of the securities markeLt These cbasare swumarized in Boxes 1 and 2. Taxes on capital market trnscons(stamp and transfer taxes) am ting to between 3 percent and 4 percent ofthe vale of the asset in a rund trip ftansaction (buying and selling) havebeen eliminted and trdn fees, which had been formerly set by the stockexchae , have been liberalized. Taxation of icome from capital gains forforeign and domestic investors has been eqaized. Mutual funds legislationwas amended to allow for both open and closed funds, to clarify the powersand respobnibilities of the fund management company, to allow greaterprtfolio diversity (muual funds had to allocate at least 90 pere of theirportfolios to equity shares), and to improve mutual fimd investor ptction.Other measures include incentives for capital repriaton; regulton by CNVof: ftures and options markets, over-the-cmuer makets, pnce movementlimits on stock exchanges, establisnt and operation of securites clearingand custody companies, strmlined approval processes for public offerigs,and automatic authorizaton of additioal shar an debt securities;establishment of rating on publicly offered securities; andstonger reporting, disclosure, and auditing reirements. A summary of themarkets' charcristics to date (Annex D) iates that trading, depository,

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20

either contribute 11 percent of ening to an additonal public pemion on aPAYG basis with promised beneits in strict proportion to contributions; orsave the same amount in one of the penion fiuns (Admistrador dePondos de Jubilaciones y Peniones) upplied by the private sector and byDNA. The pension fund option pears to be more attractive for young andmiddleaged workers. The Goverment expects that about 70 percent ofwoers will initially choose tis option, with the sbare approaching 100percen over the next generation. This would initially make some US$2bilion amnually available for pension fund investments. The allocation ofthe investments in each fund will be subject to the maximum percentgesindicated in Table 3. A shortcoming of the reform is the establishment of apesion fund by BNA with highly attractive conditions for its members,inchding guaranteed returns in both pesos and dollars and a subsidycomonent through prohibition of a management fee. This would putprivately supplied funds at a serious disadvantage. Draft legislation on theBNA pension fund recently submitted to Congress may leave only thegualantee m pesos at the inest rate on BNA savings accounts. Theaccompanying CMTAL will assist in the imlemention of the reform.

3.34 The key remaing canges needed to achieve an increased demandfor long term secrities inchde the passage of legislation to bring the stockexchange's self reguatory role within tighter bounds, isance of adequatecapital requirements for brokers, and improved regulatory aang forthe treatment of finacil conglomates.

3.35 The Comsi6n Naciopal de Valores (CNV). The CNV is theregulatory authority for the securities, fies and options markets. It isreonsile for the markets, in i and instumn making up thepimayr and seondary coporate equity and debt markets, the secondarygovernment debt mart, and the fitures and options markets on theseintuments. It also reglts mutual fund m aagmen companies. It has nodirect ority over the adoption and enforcement of acc#ou and auditingstndards; however, it exercises its authority over the public offering processand the listing rules of stock exchanges to influence strongly finialreotn practice.

3.36 ftion and MMervisi of tfie SW&c E&fiage. The StockExchange is a long-established insttion with wide self-regulatory powersestablished under Lw. Under Law 17,811 the Excbane alone has the rightto regula its members - i.e., there is no other enty and exit reuiementsfor stock exchange members such as licensing as a broker/dealer imposed byte CNV and the CNV has no overriding power in relation to brokerdisciline or penldties for breaches of the law or stock exchange rules.

21

Breaches of the law and stock exchange rbes may be investgaed by theCNV but only the Board of the Exchange can impose penalte.

TaWe 3 - Maximum InvestmeM by Peson A I_ Funds

InvstmntInstrument Maximum

a. National Publi Bonds 50%b. Provincial and Municipal Public

bonds ,30%c. Corporate Bonds, Debetres,

and other Debt instrmentsauthorzed for public offern byCNV with terms t maturit oftwo years or more 40%

d. Corporate Bonds, Debentures,and other Debt instuntsaudrized for public offeing by'NV with terms to maturi.y

below two year 20%e. Convertible Bonds authrized for

publc offeing by CNV 40%f. Convertible bonds auorized for

public offering by CNV andissued by privadzed enterprises 20%

g. 8 hnme Deposits 40%h. Corponat equity bares 50%i. Eqity shares issued by privadzed

enterprises -and authorized forpublic' offern 20%

j. Mutual Fus 20%k. Seriies ibsued by forein stas

or inernationl o 20%1. Securities issued by foreign

corporations auorized to quote. mates dermine by CNV 10% .

m. Futures anxd Options 10%n. - Mortgage bonds 40%o. Direct Investment Funds 10%_________ .,______________ . __________

22

3.37 The stock exchange hould ope as a first-line regulator of itsmembers and of listed companies but both should also be subject tosupervison by CNV. CNV should have a clear residual rigt of diectsupervision of both exchange member and listed companies. The mostappropriate approa would be legal reform to brng the exchage membersunfder the supervisn of the CNV. The appraisal mission agreed with CNVthat the market transpareny law before congress would achieve asifl y improved degree of spervioy power for CNV and if passedwould be a satisfactoiy soution to this problem. In the interim, the CNV isrelying on Resolution 227, wbich has strengthened its band to investigatebreaches and ensure that the Board of the Excbhge imposes appropratepenamies. Application of Resolhion M27 is Dart of the nolic pr8a thatthe proiosed operatio would sort d would be reviewed duri t thwomid-Wem pause inc:ns

3.38 P.xdental At present, the minimum capital iremnsfor brokers are inadequate for the increased volume and volaity of themarket. Because change in this area will have a substantil differealimact on dfferent categories of brokers, the reform could be implentedListages over approximtly 18 months. At present, the only capiadrequrd of stockbroks is their inesnt in at kast one share of the sockexchange to obtain mmberhip (and some working capital). This is imposedby rles of the exchge. There is no lgal requime for stc eswho are memb of the stock exchne to be authorized by CNV, and as aconequen, to fulfill a legal capital adequacy requiremenL The value of ashare in the echange has fluctated betwee US$0.5 million and US$1.7milLion; it is now about US$1 million.

3.39 A liquid capital requeim related to risk exposure would beintrduced. A goal for the medium nter should be to establish a flexible andfinely tued reqrement based on risk weights of categories of assts,marking the value of assets to market and taking into account hedgfng

3.40 Te araisal mission obtained from the CNV ageement on theestablishent of a compeie scheme of prdenfal reguladon, geared tothe risk cha s of the Argentne securities market. This schemewould incude (a) capital adequacy rules to be itrduced in a phasedmanr; and (b) regulatons and systems to supervise closely capitd adequacyrequirements The CNV bas already completed a study in cooperation withthe Stock Exchange to analyze the finial stue of stock brokers and terisks they face.. It has also dafted rules liquid capital

. The proposed chnical aance loan (TAL) will providefurter support in these areas (see para. 3.47). A cditon of the first

23

formal rview is that fth CNV afot get liudmi)tlrles with risk-Mig$ foaedw and Wfe KfftW UN=m and meowds to 8prvise

3.41 Enial ConQmgl . In Argentina, scurides marketine diares may be owned by banks and oter fia institutions so logas they are operated as separately incorporated ies. Also, banksmay underwrite securites issues and trade in secuities and derivatives. Thenascent stage of pnxdental regation in the securities market and the relativenovelty and complexity of the reglaory task in supervising financialconglomerates means that substantial market risk are at present poorlyaccounted for in the regulation of the groups. Improvement in this situationrequires co-ordination between the baning, insurance and securitiesregulats and an me n of the supervisors' capacities.

3.42 Another issue relatd to finan conglomes is the lack of realseparation beween the various activides of the subsidiaries and heir parencompanies giving rise to conflicts of interet in relation to cLients and inelation to imsider trading and madrt m In Argentina there is a

need for an enforced code of ethics related to client dealings so that, forinstance, a bkera house associated with a bank insurace company ormutul fund does not act against its client's best intrests in order to benefitis bank or isance compay owner. Simary, there needs to be a sictseparon between the commercial and investment banking businesses on tieone hand and the stock bkrge busines on the other so that themo unity for insider trading and market mi n is minimized. Theseise, along with the prudental r on ses mentioned above, could bedeat witi by the th regulatory agencies through improved coodinatbetween suevisoy agenies. Improved supmvision of financiaconlmeratewil result from do rgltoy and n Di trgteningthat is part of the policy progrm to be carried out by the CNV (par. 3.47).

3.43 Ilmfl Cgapd Marke SperIo. CNV bas recntyreorganied to stengthen monitorn and en funcdons. Under thenew orgion, CNV wi improve its control procedurs through bettercoordination between the lgal e and ectin n fc . Aspecialized area will stengte enforcement and reQlaty development.

3.44. Neverftel, CNV plans to improve further its capacity in the arsof mauret monitng abd enfobrement of the law and reulatons. Thisimprovement will be spoed by the companion CMTAL, and will takeplace in the areas of buma resources, organization and man , andinforation technology. Greatest emphais wil be placed on improving thestaff capacity of CNV buildig on the oa ional and

24

pLaniing aledy begu. Fit, exstg staff require exnsive long-termrain in vtaly all aspet of teik new supervisory task. The basicbiities of professional staff are genetally high and their capacity for

improved I ntion is great, but their experience in the relevatfunctions is imited. Second, CNV's abiliy to recrit and reain the bestavailable staff must be improved. Overal public service staffing poLicies andsalaies pae an xeptonal constain on the CNV's abiWly to compete withprte sector salaries. Consideration should be given to allowing the CNVto chage fees for its various services and direct the fids received tobnprovin its supervisory capacity. A way should be found to overcomesalay caps for essenal prfesinal positions, perhaps thugh substntialperfonnane-based supp .

3.45 With regard to orgaization and CNV wil review itsresponsbIes , funct and systms and develop a foural plan for, say,the nox twelve months. This is parculaly ne y base the CNV hasauired new regulatory and is re-o g itself win itsestng priorities and so needs to establsh a cohesive sens of direction innew rch- i r u aoes. Withou a conscious review and reaion, it runsthe risk of reducing its efficiency or msdIecting its efforts. This review is a

of the companion CMTAAL.

3.46 With regard to infomation technology, CNV has histalled and willcomtission new hardware and softwae. CUcial sbsequen stp requiredare: (a) developmet of specific programs through

n nB NM of existing off-- sowe) to meet the CNV's operatioalneeds, eseialy in mart moing and io support; (b)extensive, log-term staff tain In the use of the new systems; (c)modiHicao and upgrang the stem in lh of xperience. Tbis toowould be supported by the proposed Bank CMTAL.

3.47 Pmmss in he Implm i of CNVs ogiao review andarouram would be incl thd n the policv nrogram to be

supotI by the pposod operaion and reviewed d the two p ingnmi_m. The orgnizaonal review and development program,supparted by the CMTAL, contemplates:

(a) Strengnng of CNV's oraion and managthro: (i) evaluation of its current capabiliies and design ofa retutr progam fo bCNV; (i) Im leme on of suchrestruturin prgm; (Iii) development and Implemention ofa training progrm for CNV's professional staff; (iv)preparation of the first twelv-month business plan for CNV;

25

and (v) insalladon of a computerized management informationsystem for the new organizational structure of CNV.

(b) Upgrading of securities market regulations through: (i)evaluation of current securities market trends and newregulatory ents and preaation of proposal for capitaladequacy nrles for secrities market intediaries inaccordance with their risk profiles; (ii) design andimplementation of supervisory systems to ensure compliancewith capital adequacy rles, inclding record-keepingspecifications for securities market intermediaries, and designand implementadon of CNV's systems for monitoring suchintermediaries' financial position; a study withrecommendations to steamline and improve coordinationamong different regulatory agencies supervising financialconglomerates, inchding specific proposals foramong CNV, BCRA, and the Supeintendency of Insce;and Civ) installation of a computer system in CNV to enable itto be permanently informed on securities market behavior.

3.48 Taxe. The taxation regime in the capital market, which applies tothe issuance, trading, irc value, intrest income, capital gins, and profitremItn, has been greaty improved in recent years. Transaction taxeshave been abolished. The profits tax was equaized between domestic andforeign investors and abolished for corporate bonds held by indiviuals. Thepolicy prgra under the proosd opraio inldest the aQeMen Mgt h

rnment will not rsablis transaction taxes on financial and capitalmarket Mm"sa=ins Complinc with this agremen would be reviewed

ing the two amuses in comitms

3.49 Miutal Funds. The activity of mutual funds has been limited for thevery same reasons that constined the securities market and by theresttion that these funds invest 90 percent of their portfolio in equityshares. Legislation has been passed to free limits on investment in cotporatebonds CMy de Fondos Cmnes de Inversion). The new law (No. 24.083)probibits the fuids to invest (i) in securites issued by the managingcorporation or by other mutual funds; (ii) more than 2 percent of its assets insecurities issued by the managing corporatios controUling entity; (iii) insecurities accouing for more than 10 percent of the issue's liabiliies; and(iv) more than 30 percent of the fud's asts in a given Govermmentsecurity. With tie emergence of the corporate bond market, investentfunds provide a needed mechanism to channel savings from individualinvestors. The stock exchange is now adopting a formula first used by IFC,namely creaing diversified Argentine Country funds, with broadly diversified

26

risk bases and listing at leading foreign stok exchanges. M ahen ofgan enlabling the develoOmfe of mutual funds is also part of X

poli rorm to be wm ith in

27

IV. =B PROP- OPERATIONI

Bank Grmou Asisb and Sn

4.1 The Bank's country assistance staeg since 1989 has emphasizedsupport for comprehensive public sector reforms, while also encouagg thecompletion of trade and finana refoms srted earlier. Progress in thesereforms has created the basis for disination and a private sector-ledinvestmen recovery. The Bank's lending progrm included adjustm andtechical assistance support for pubiL aI n and civil service reform(through the Public Sector Reform Loan-PSRL); privadzation of railways,telecommunications, oil and gas (through the Public Enteprise ReformAdjustment Loan - PERAL); provincial reforms; social security reforms, andsocial sector improvements; public baning reform (through the FSAL);defense-related public entrprise refom (PERAL II); completion of the largeYacyreta hydroelectric project; and a debt and debt servie reduction (DDSR)loan that supported the conclusion of Argentina's Brady deal in April 1993.

4.2 With adjustment nearing completion, the Bank's evolving stat isto support efforts to consoldate and deepen the Inpact of thelmaoeconomic reforms - making them more permanent by str hArgent's greatly weakened tions, assisting in redevelopingeffective social service delivery systems, and fodering the developmet ofthe priate sector, with partcular attenton to resource mobilizon and.nter*ed-on issues. Bank operations are now shirS to the proposedsupport for capital market developmnt, imwoved qwait of financialintermediion services, and essential public and social services. Reform ofprovincial finances vMWd:be -followed up by provincl investment and scialsector lenlding, i line with he pvinces' nwly-acquired sibiity forinfrastructure and social ectors. Anayt work will spo lendingrelated to povinial finance, private linfastructre investments, relation ofnatural monopolies, price-based policies, and delivery of socialservices.

4.3 IFC is becoming increasingly active in Argentina's privationprocess. Recent IPC pnvatization investments have been in sectors such -aspetrochmicals, oil and gas, a aibusiness. IFC's inv_esents inprivatizations (especially in the infiastutu sector) are expected to increasefurtier as the privatzaton program is completed. Given the opening ofArgenna's economy and regional integation, IFC is now increasing itsfocus on projects that help develop a competitive local industry. In addition,

28

IFC will seek projects that present a viable potential fbr iegration withother Latin American economies.

4.4 The specific sectos that IFC will targe e: (a) -eagtie-tdjiW. including expansion/mmodenization of agro and forestry processing

capacity, exploration/development and transpo of hydrocarbon resourcesand the transfoation of non-tadeables into tradeables, and retabilitationand expansion of physical infrstructure; (b) domec h M, includingrructn and expansion of companes that are considered competitive,and rehabilitation and expasion of physical infastu for domestic use;(c) c,jmarkets. including assistance to private companies and fmancialintermedaries in mobilizing domestic and intentioqal resources and in theirliability management, and assistance in seg the capital maketregulatory framework.

4.5 Lessons learned from prior financial intermediary loans ML) inArentina and elsewhere point to the following key ncesary equifor satictory project pe ane: (a) policy conditions uing sustednacroeconomic stability; (b) s_usid absence of major distortions inresource allocation incentives; (c) existe of profitable first and second-tierfnial isitutons; (d) financial policies eoug efficiency; and (e)stng cm mnt to developmen objectives.

4.6 . Macroeconomic insabilty is one of thekey reasons why industria FLs in Argentina filed. In the first IxhutrilCredit Line, domesdc currency appreciation-semming from thegovernment's attempt to cutb inflaton trough exchange rate managmwiout resolution of the fiscal fundamentals-led to a decline of industrialoutput, which undermined disIn the second credit line,mroeconomic instbility led the Govermnt to reverse trade liberalizabon,discouaging ivestm in tradeables. Present government efforts to achievessained stability are one key reason why a capial market operaton is being

cnsidered. In addlion, the govenment has taken actions to pct thefiscal and quasi-fiscal budgets from fincial sector disrbas.

4.7 R£Mj AIgcadon PIcbu The contibution to developmet ofthe first industial credit operation was undermined by the cited currecyappreciation. The contribtion of the second industrial credit line wasundermined by Argentina's relapse into protetonism. In general, reviews ofPIL operations have steused the need for an unditortied economic

29

enviromet to ensure that FIs indeed con te to deveom.Following the relapse into protectionism in 1981-85, the Argeningoverment begn to take importa measures to lbeaiz trade. Tbus far,these meaue include a reducdon of export taxes, reetablishment of acomprehedsive schme for direct tax reimbu simplian ofexport procedures, reducton of the average level and disperion of ad-valorem tariffs, and rduction of import restrictions. Nevertheless, theGoverment has recendy established quotas on some textile and paperproducts, albeit only for one year.

4.8 EL bkm ard s ab . A key obstacle to past FILperformance was BANADE's lack of commitment to profitability. Reviewsof past FIs unrored government itfence ito second tier bank(BANADE) lending policies as a prime cause of the inst 's failure. The1991 Financial Sector Adjustment Loan (PSAL) calls for reduoed govenmetinvolvement in financil instions. To address this issue, the Govermenthas initated liqudation and privatizaion actions. Included among theseactions is the liquidatio of BANADE (completed and the privazation ofthe Caja Nacional de Ahorro y Seguos (underway).

4.9 Song first th institutions are al a key rqurement stressed inBank reviews of past FILs. In Argenn, the capi ion of veral ba,specially tose belonging to the public sector, was undermined by largeportfolio losses. In this regard, the PSAL upports the Govenment's effortsto iquidate and privatize public bans, to e-no e efficiency in remainingpublic bas (incl g provinci baniks), and to srengtben aU banks'commitmen to solvency tough improvement in regtin, superviion andfocemen. The operaton would encourage solvecy and profitabiity by

requng tht participating bans (PBs) be prime-rated commercial ban.Furthermore, the a ccmpan i CMTAL would finance tinig to improvethe bank' capacity to assess long-tem corporate credit operations (pa.4.28).

4.10 P ldes. The major fiacial policy strsed in reviews ofFILs is the need for free interest rates and allocation of credit to encouageresource moWbztion and efficient alocaton of credit. In the past, intrstrte ceiling and directed credit undermind finacial sector perorme.There an no longer ay Centra Bank directed credit lines. The CetralBank provides only las resort loans to solvent commeil bans. Presentinter rate subdies, which are inconsistent with development of the capitalmaket, will be ended as part of the policy program agreed with theGovernment (para. 3.26-3.27). These conditions would alo avoid articiallycheaper sources of funds und mg capital market development.

30

4.11 Com_nt tIxo*icnlQhiTciIrm. The PCRs and PPARsof both prior FILs to Argentina indicated that the contributior of theseoperations to development was undermined by weak government commimentto policies and by lendig and disbusement pressue. Conditions in thisreprd have improved sbarply. Governmt ment to stabilization andresource allocation policies is based on the wiely held opinion that onlythose policies can help foster growth The Bank's qualit contol procedureshave stngtned the conditions under which fial intemiariescan besupported so as to improve the financial and capital market developmentimpact of its financial sector Operations.

4.12 The proposed operation is preceded by a long period of BankinYvlvxemt in Argentina's financial sector. Knowledge of sector issues hasbe gatered ftough com nsive economic and sector work simce themid-1980s. Recent efforts include Country Economic Memoranda with muchemphais on financial issues and a series of financial sector reports, the lattercompleted in 1986, 1987 and 1989. A review of capital makets wascompleted in 1988. The PSAL was prepared in 1992/93. Severaloperational missions, inlmuding pepion work for the proposed opeaton.have furter reviewed the capital market developmet policy issUes. Te

forts a playing an importat role in the Govenmets actons. to bipvethe maket's regulatoy and institutional framework. Furthermore, a capitalmarket study under prparaion wil develop dons to reduce

intmediation costs, epand the choice of financial iwsumentsF, furtierencourage the growth of long-term savi, expand the access af sa anmedium prises to credit and enbance the options for infiasatncturfi-.

4.13 A Banking Sector Loan approved in 1988 was usuccessful becauwse ofmNWKAJ%WX ) m disarray, which prevented the loan from beoming efective.

The reforms sported by the Public Sector Reform Loan and Publik SectorTechical Assistance Loam approved in 1991 were aimed' at improving the

hInItutional setu of the Central Bank and the uPerintendency of Banks.The receny approved FSAL follows previous efforts, with a major focus onliquidati, privazing or downsizg public and provincial bank andimproing baking r ation, sperison and enforcement. FSAMcnd aliy inludes cmpliance with a : stability program;liberalized itere rates; availability of Cetal Bank redisounts only forshort-term bank liquity pumoes; functoa of the CentalBank; stronger r aon spervision and enforcement of capital adequay

31

and provisioning l requiens; ending BANADE operations, privatizingCNAS, converting BHN into a second tier bank, and rationalizing BNA; andcollecting redscouts to provincial bank, limiig provincial bank leding totheir provincial public sectors and equalizing provincial bank reserequirements with those of private banks. These policies provide the bankig

sector policy famework of the proposed loarn.

4.14 This loan was conceived as part of a Bank effort to direcly addresscapital market development by means other than the usual FIL, which can, infact, displace natural financial sector development instead of assisng it.Originally, the concept proposed for this project was to support the purchaseof bond strips matchig the outer maturities of subloans. This concept wasnitdally rejected due to concers about essenially purcaing bonds with

Bank funds and with the likelihood that the loan would not disburse.Thereab er, a seizaon approach was considered in which the loans toPBs would be secuned and sold as the maturities declined to levels withincapital market horizons. Both approaches were later rejected in favor of theproposed Backstop Facit (BE), which not only promotes an orderly andefficiet mart for the debt secuies of Argentine commercial ban, but atthe same time permits those banks to extend longer term loans. The concept-4 not dissimilar to one speled out in a Memorndum of the President to theEacutive Directors on the Bank's Expanded Cofinancing Operationspro_rAMI. PFuthermore, the likelihood that a part of the loan may notdisburs commtted funds is viewed as a positive feature that would idicateachievement of the project's capitl market development objective.

4.15 The propsed option thus aims to accelerate capital marketdevel n in order to help Argentina meet growing invesment demand.Whie maceconomic stabiliy coinues to encourage increases in thevolume and tems to maty of bonds and loans, faster growth of long termfimce is still inhbited. Reasons include: (a) insufficient development ofcapitl market reguaioni and supion, and (b) remaining fears ofunpredictable reversals of the economic fu ns suworting stability.

Te opon addrses some key capital maket isues. The objective is toenworae not only the holding of medium- and long-term securities byinvors and bankers but also longer term lending by prtme-ratedcomercial banks. Thse objecves would be achieved by improving maret

gSo/ R89-37, March 13, 1989.

32

cnfidence and enr liquidity to edikworthy banks in the event ofmarket developmes that rise domestic iter rates or shorten thematurWes of available fimding. Futhermore, the operation would asistsmall- and medium-size businesses and cetain mortage borrowers (prs.4.434.44), whch traditionally have bad litde acces to tem lending from tebanking system and been unable to access domestc or intraional capitalmarkets directly.

4.16 The project is designed to introduce and consolidate the necessaycapital markets ifructt e which, along wifth developing Indigenous skills,can produce a s a aional market. Special emphasis is placed on thedevelopment of st-darded debt securites (with flexible pricing andmaturity p s), which help meet the growng needs of issuers adinvestors for liquid trading makets. Given the early stage of marketdevelopment, snd on of debt securides will enbae the

I 1;- idingof issuwes and aceptan by ivesto, and will assist othermarket partcipa such as reguato and credit rating agenies'. In view ofthe small size of idal isses and the likelihood of thin markets at fffst,stanrdized issues sould also ct trading in the domestic secondarymarkt. The project also spports the further develpmet of naonal croditrating agences, whose role is essential to the maret's abiliy to price andtade with confidene the crei of issues. In this case, the rating of thebanks asseses tbeir capacity to manae the financial an redit risksocated with lendin to smaller enses.

4.17 The loan would supp a Backstop Facity (BF) that woud assurepime-rated bans a source of long term funding at predetmined financialcost by offerig them the possility to refnance medum bonds issuedto fane longer-term productive loans. The BF wil stand ready topuhase securities isued to refiance specifically entified bank deben ssho ld banks be unable roflover or extend such debentu inthe The BF is designed to inject confe and provide ladership

for the development of a long term debentu markt, wiou sqtpthe natural grwth of local and related in aional madrets and witihoumasdDg the market's pricing ignals. The BF's asurance of future liq ywill assist banks to issue debentus in local or international makets &W.and to offer loans with even longer matrities with the asrance which theBF offers ta deues can be sold in tfe fuur. If the BF does purasedebentures in dmes of ma*et disrupton, it is epected to sell tose holdiUgsas markets conditions normalize. This will enable the BF to issue more

33

commitments and to design its debenture sales program in such a way as tosupport the development of a liquid secondary market for the paper.

4.18 The reforms supported by the 1993 Fiancial Sector AdjustueLoan approved in February 1993, are expected to furthr the developmet ofan improved banking policy framework for the proposed project. Recentpassage of the Pension Reform Law will stimulate an increased flow ofinvestible funds to the Argentine capital maet. An agreed policy andinstitutional development program, including macroeconomic stabiity, freelydetermced interest rates, the removal of existng inrest rate subsidies, andstrengthened capital market regulation, supervision and enforcement, wouldhelp increase market confidence. Progress in the agreed policy andinstittional development program (Annex B) would be reviewed during twopauses in commints to disburse, which would be implemend after 30percent and 60 percent of the loan has been committed or after 18 and 36months of effectiveness, whichever comes first. Approval of commitmentswould resume following a positive review of progrm Iplemention. An

esal companion of the project is the CMTAL, which would support theinstittional stg of the secidtes market regulatory agency(Comisi6n Nacional de VAIore. CNV), the implementation of the new,reformed pension system, and the development of local skdlls in the area ofterm fancing for investment projects.

Amon

4.19 The proposed size of the Bank loan is US$500 million. While loandisbuments would finane the purh of bonds by the Fund, theproceeds of bonds supported (i.e., under backstop commitents) would beused by PBs to increase eir portfolio of term eligible loam (TEEs, seeparas. 4.43-4.44). The IDB recenty approved a credit line through BICEand commercial ban for invesunent loans to businesses in the amount ofUS$300 million, with an equivalent amount of cofinacing from the Export-lmport Bank of Japan. The proposed operaton is only loosely hinked withthe IDB loan in that private sector businesses wiU be the end-users of the1DB funds and of the funds obtained from bond plcments by PBs under theBank's opeaon. The total of US$1. 1 biion is weU within the exp ddemand for fuds, the available domestic medium-term resources that PBsand final borrowers would provide, ar tthe intc capacity of PBs.Private investment is expected to increos from US$40.8 billion in 1993 toUS$46.9 billion and US$51.2 bilion in 1994 and 1995. The enalfinancing euiement (the current account of the balance of payments) isexpected to increr- from US$8.5 billion in 1993 to US$9.1 billion in 1994

34

'nd US$9.9 billion in 1995. Capital repatriation, wbich will finance much ofthis external fmig requiementL, will complement the expected medium-term savings that will be generated by pension and investment funds to helpfiace private investment demand. The pension funds alone will generateabout US$2 billion annually. The proposed faciliues would help meet thedemand for long-term finance, by encouraging medium- and long-termresource mobilization from private sources. The eighteen top commercialbanks (all of them private), with a loan portfolio of US$7.6 billion in 1992,will be able to accommodate bond issues supported by the BF, particularly asthey grow over the next seven years as a result of stabilization, growth andfinncial deepening

4.20 While loan disbursements would be well within expected aggregateinvestment (pam. 3.1), much of aggregate investment may not tanslate intoeffective demand for long-term bank finance. Nevertheless, stich demand isexpected to be quite strong. Thus far, latent demand has been contained bythe long-standing reluctace of banks to assume the risks of long-termlending. With Improved policies, these risks have declined. Pmded withbond issues, several banks bave begun to iclude medium-term loans in theirportfoiios.

4.21 The project is proposed as a Single Cumncy Loan (SCL) in dollars,as it meets the eligibility criteria for the SCL loan program: (a) the projectentity (the Fund) will eatn its revenues in doflars; (b) the project entity isdesigned to be and is intede to remain, fianially autonomous of theGovernment. The Govemment expects the Fund to manage its financialaffars without reliance on the public budget; (c) under the financilmanagement and adminisaion agrement, the Finaial Manager winlmanage the Fund's citments with a view to ensuring that its cashflowsare cient to meet its debt sevice obligations on the Bank loan; and (d)the project entity's assets and liabilities will both be exclusively in USdoll.

4.22 The undisbursed amount of the Bank loan would be subject to theBank's usual commitment fee (0.75 percent, but, at least up to the end offiscal year 1994, reued to 0.25 percent by Board decision), except forfunds already committed under backstop conacts, which would eam anadditonal 0.15 percen. This proposl is an effort to retain the Bank's long-standing policy of simnilar pricing for all loans but to charge an additionalamount for the Bank's sevice in support of the Pund's commitmens.

i/Staff projections of the net private capital account amount to US$9.7 billion, US$ 8.9billion, and US$10.1 billion in 1993, 1994, and 1995, respectively.

35

Projet Impmtal

4.23 The Minity of Economy and the Comis6 Ncional de ValOreswou>ld be responsible for mpleznentg the aeed policy and institutonaldevelopment program. The BF would be implemented through a corporadonestablished and owned by the Govenmet (the Fund). Bano de lnversi6n IComercio Eerior (BICEM , a second-tier bank owned by the Government,would assume most adminitraive funcions, including the hiring of theFund's financial manager. BICE would enter into a financial managementagreement with an internationally prestigious financial institution with respectto many of the operations of the Fund (see paras. 4.47-4.48 and AtachmentsD and E to Annex F).

4.24 olia and ona l Desdo Pronm. The Minisy ofEconomy and the Comision Nacional-de. Vaores wil ens we fa economicpolicies remain consistent with the aims of the operation. These policiesinclude sustained macroeconomic stability; policies permitting the fmntioningand encouraging the growth of the securites market and central bankpolicies encourging prdenl behavior and profitabity of financialinstitutions. The following paragaphs spell out the specifics of the program.The policy program is s izd in Annex B. The macroeconomic andsupervision policies are also part of the conditionality in the Financial SectorAdjustment Loan.

4.25 Macreconmi Poicies. Given the imporlance of moeconomcstabilization for financial sector and capital market development, theoperation would be accompanied by Bank certification of maonomicstability. A resumption of stop-and-go hyprinfladon would undemine theaims of Bank support since: resource mobilization trends would not beredrssed; the public sector's borrowing reqitement would conme to placeinordinate pressure on the financial system; centl and local govermentswould be encouraged to maintain public financil intutions to capture theirshare of the iflation tax; and capital makt development would be stifled.Therefore, support is ;*ontngemt on strong evidence of suaedmacroeconomic stabilit (para. 3.17).

4.26 Capital Market Policies. The Goverment wUl sustain capkalmarket policies including: (a) strengtened regulaion, supervision andenforcement by the CNV; (b) refrining from ing financial sector andcapital market transactions; and (c) regulations enabling the development ofmutual funds. This program was discussed at length in Chapter m (pas.3.31-3.48).

36

4.27 Bank Supervison. Under the FSAL, the ayperintia debuIi,s EWMkm SME has made progress in singbank supervision and enforcement2 . The FSAL bas performed well andtwo of the three tranches have been disbursed. Conditons of renewedcommitments following loan reviews would compris key FSAL criteria withregard to bank supervision and enforcement. Thse would includesatisfactoiy coverage of inspection of the banking system, contiedapplicaton of remedies against banks which are not in complance withminimum clapil and provisioning requiremets, enforcement of exstngegulations with regard to external auditors, and enforcement of reguladonsbatring provincial banks from BCRA loans for purposes other than meetingtheir liquidity needs. The requient of general satisfactory progress forcondtied fmnd comitnes under the poposd loan will furier tegthengovernment commitment to progress in bank supervision and enforcement,pa uarly after the third FSAL tranche disburses fully.

4.28 The l . Long-term lending remains constained bythe lack of matching funding from deposits or bonds as well as banks'coerns with the credit risks of a long term portfolio. These constnsseverely affect small and medium scale enerprises and mortage borrowershat do not have direct access to the domestic or foreign capital markets.

Improved macroeconomic policies are helping to reduce banks' perceivedrisks of long term lending. The proposed operation would help bansovercome the fuxln constrant tbrough the proposed BF. The BF wouldreduce the liquidity risks of an asset-liabilty mimawh smming from adisruion of the capital market. The proposed CMTAL would includefinancin of the establisment by the private sector of a training program andspecific course modules on long-term finanial imedition for middle andsenior level man in the banking systm.

4.29 The proposed backtop structure would evolve as follows:

2/Under PSAL condiionality, the Cental Bank should: (a) confirm full inspection of allbanks and application of penalties; (b) confirm complance with capital i (Baslerules) and apply remedial actions; (c) enact regaions to stengthen external auditing,disclosure of Fl financial smns, and provisioning; (d) achieve satisfactory disclosure offinial _stement of all bank; and (e) comply with program to improve off-site and on-sitesuevson me.tds.

#/For more detail on the structure of the BF, see Annex F, "Legal Asp"cts of the BacktopFaciLity.'

37

a) The Argentine Governmt creates the Fund to backstop bondsisued by PBs.

b) The Bank commits to lend US$500 million to the AtgentineRepublic to be onlent to the Fund as necessary for the purpose offunding the B.

c) BICE is entisted with adminion of the Fund and withcarrying out other responDsibilities reated to the operation. (See paras.4.48 and Atachment D to Annex F.)

d) BICE enters into a Financial Management Agre with afinial instiuion of high ieo repute (the "Fianci.alManager). (See Attachment E to Annx F).

e) PBs are selected by BICE based on criea (paias. 4.524.53)agreed with the Bank, including credit rating of single "A" or aboveissued by two rting agencies (acceptable to BICE and the Bank).

The wFUd issues commitments to purchas secuities isued by PBsto refinance specialy idetified bank debenur shouid PBs beunable rollover or extend such debenur in the market. The Bankdisburses to the Fund in case PBs exercise their option to sellsecurities to the Fund.

g) PBs issue bonis to find their inwestment loam.

h) PBs make loans to finance productive investme.

i) On the exercise date, the bank either rollover or extend the initialdebentures in the market or sell new secrities to the Fund.

j) The Fund would hold the bonds to matuity or it would sell themin the market when conditions waranted.

4.30 Figre 1 represents the fiancial flows and participants in thisstnture. The details of each element itoduced in this condensedrepreAentation are described below.

4.31 The Bank's Loan to Argentina An extended grace period of sevenyeas proposed to increase the impact of the opeation over the life of the15-year loan. The commimentfdisb t schedule of the Bank's loan to

Argentin wll need to meet two objectives: 1) to commit loan disbursemenslowly enough to permit the two revws to supervise implementation of

38

Figur 1

BACKSTOP FACIL1TYPARTICIPANTS AND FINANCIAL FLOWS

Lends to

On-lendsto

Mae bakp comimnson bodWm _ WitUi matrities of at least 3 years

Extend MO&= tD longtm(1nm_m 6-year) loans for

cnditions in respect of the loan's policy aspects before all funds arecmitted, and 2) to disburse quicldy enough after the grace period to avoida bunhing of mauities toward the outer yeas of the amortzaion schedule.In the firt three years the Fund would make commitent i ree discretsegmts of up to 40 peren, 40 percent, and 20 pewent of the Bank loan,respectvely, each year. The Fund would make new commItments only up tothe seventh year. Commitments in the seventh year would apply to bondswith matuities not exceeding four years. These restrctions would allow

d 1 --s only up to the 11th year The closing date would be in year12. Figure 2 presents an illustatve disbursement and amoriion profilebased on the assumptions that (a) the Fund commits 40 percent, 40 percen,and 20 percent of the Bank loan respectively during first three years; (b)the Fund makes fter c up to year seven in amounts equal to

39

the expired c (from yeas 1-3) minus drawdowm plus bondredeptionsI; (c) 50 percen of comi are drawn down by put

bans; and (d) amortization is based on level repaymn of disburedprincipal. Disbursemen made &ithe moe period would be amortzedin uniform repayments of principal during years 8 to 15. Disusementsmade after the gace perod (the closing date would be year 12) would beamortized in uniform repaymen of prnipal beginning the payment periodafter di. Figure 3 portrays the resuling loan balance.

4.32 Terms of the Baukstop Facity. Terms and conditions of the BFwould be set forth in a FaciHty Agrem between the Fumd and each

i bak. Each Facility Agreement would be stddizd andwould be in afomapproved by the Bank. Under the BF, a PB wouldrequest that a backsWp commitment be issed by the Fund. (For a smmryof the proposed contents of Facilit Agreements, see Attachment C to AnnexF). All PBs would be eligible to issue dollar mia bonds with initialmaturties of at least 3 yearsw

Figure 2CAPITAL MARKET DEVELOPMENT LOAN

SON" DlImmUn# MU AM NAtIATICN

70-

3070

Yw

* Disbursement to cover initial Fund expenses

40

Figure 3CAP I TAL MARKET DEVELOPMENT LOAN

RSuIi ULN LV=

940-

m

69

4.33 BackMopped ONs (BONs). Bonds isued in he Argee marktae called QbIiBcin esibm "ONs'. Backtpped ONs willheceforth be rerred to as "BONs". Different product options could qualifyfor backtop com mi. BONs can be bullet bonds. BONs could also bebonds that can be exended at the option of the holders. Extndable BONswould have an intal maturi date (the Initial Maurity Dat). By noticefrm a holder of an extdable EON a specfied time prior to the niialMaturiy Date, the DON holder could elect to (a) presen such BON for fullpayment on the Initial Maurity Date or (b) extend such BON for a specifiedterm (the Exenidon Term') less than or equal to the originl term at thesame int rate (expressed as a spread over IBOR). If the right ofexension is not execised, then the extndable BON is due and payable onthe Initial Maurity Date. The term to maturity of a bullet EON or the termto the Iitial Maturity Date of an extendable BON will be at least three years.

4.34 Pricing of BONs would be negoted with the underwriters eiterdirectly or through an altemative distibution nechanism (e.g., an auctionmanaged by the Fund). Distributng BONs through periodic autons would

41

increase the aggregate size of sales (tbrough grouping of similarly ratedBONs) and facilitate pnce discovery. The it ra-st on the BONs couldbe fixed, or a spread over LIBOR or the Treasury Bill rate for selectedterms. Although it is expected that the nare and terms of BONS will bespecified by the Facility Agreem. the Facility Ageement may alsoprovide that, with the agreement of the Bank, the Fund may expand the typesof BONs that may be the subject of a backstop commment.

4.35 Bonds Sold to the Fund (FONs). If the backsp comitment wereexercised with respect to a BON, the PB would, concurently with itspayment to the holder of such BON, sell to the Fund one or more new ONsat a purchase price specified at the badstop facility commitment date and aterm at most equal to expired term of the BONs they replaced. ONs sold tothe Fund pursuant to the backstop facility are hereafter referred to as"FONs").

4.36 The principal amount of the FONs to be bought by the Fund would becapped-at the lowest of (i) the amount of the bakstop c, (ii) theprincipa amount of the BONs originated during a specified penod after thebackstop commI date (the Origination Period) and mating at such imeand (iii) the princpal amount of the term adjustment loans (TEL.) originatedduring the Origination Period.

4.37 Sand on of terms and conditons (other than as to rate andterm) of the FONs will be necessary to enhane their saleability (both byadding effiiency to the process and bypromoting fibl treatmen of suchsecuies). Trefore, new isues of FONs would be preferable, althoughthe Final Manager may have limited discretion to take an existigextndable BON (e.g., it may have a ready local market that would not relyon some of the terms sought by the Euro markets). A FON will have a termequal to or less than the term of the c ng BON (which, in the caseof an exndable BON, shall mean the term to the Initial Maurity Date),provided that (i) the combined terms of the BON and the correspondig FONhall equal at least six years and (ii) no FON shall have a term of less than

tbree years.

4.38 Maturies, Pridug and Alocaion of Bakstopped Bonds. Thematurities of bonds to be backstpd as well as their pricing parameterswould vary according to PB rating. In order to stimulate the development ofa liquid market for PB debt, terms and conditions of BONs and FONs shouldalso be standardized. The Facilit Ageems will provide such standardterms and conditions as well as a matrix for the permissible tenor of BONsand FONs which may vary by ratig category of the isng PB. This maycreate homogeneity within credit ratings so that similarly rated PB debt can

42

then be promoted as "fungible', enhancing lquidity. The higher rated bankswould be elible for longer matnrities and receive pricinkg terms consistentwith their market staing. The price and value of the BF will icrease withthe steepness of the yield curve that appLes to exitng bank securiis orother sources of bank funds. The PBs will have a kaown nge of possiblefu g costs over the lfe of the bonds, which forms a secue base for theirlending operations.

4.39 The interest rate with respect to a FON wil be set to encouragefundingdirectly in the capital markets. FONs will be priced by a spreadover LBOR. This spread would be a p-established multiple (greater than1) of the actal or implHcit spread over LIBOR rate on the BON it replaced.Such multiple, wlich mIt vary dependig on the credit rating and the tenorof the BON or FON, would be calculated by the Financial Manager byreferene to the market rates at issance of the BON for intuments with thesame term as the BON and for instrumts with a term equal to the combinedterms of the BON aud the co ing ON. Market data reveal long-termrates with strong premia over short term rates, reflecting the market'spceived risk with regard to fumre ewonmic developmes. The FinancialManer would use an option pricing model as guidane to detrmine themutiple. Such calculaton would only be refereial, given that exitingyield curves are veiy spotty in the outward matdties. ne multiple forindividual BPs should also capre the inane hbat the BF would offer to ahighly-rated bank (e.g., AAA') that would be ,igible to exercise its optionif it were downgraded (to e.g., "A" or "BBB"' PBs would freely negotiatethe rates on term eligible loan supported by ae BP.

4.40 The Government would pay the applicable commiment fee on theundisbursed portions of the Bank loan (para. 4.22). PBs would pay acmmitment fee to the Fund for use of the BF. The commiment fee on thefacty would begn to accrue on the date of the backstop commitment andwould be payable tougout the period prior to the backstop drawdown date,provided that the PB wishes to maintain the Fund's upo. The Fundwould pay a fee to BICE (who would pay a manageme Ifee to the FinancialManager) and reimburse the Govemment on its commitment fee and interestrate payment to the Bank out of the Fund's icome. The Fund wouldcapitlize its profits as a further source to support the BF.

4.41 The method of determining commiment fees paid by PBs would bebased on several principles related to the Fund's objectives and finances, andto market conditions (See paragaph 1 of Attachment E to Annex F).Puant to these prciples, fees could be deterined as the minimumneeded to cover commi=tent fees to the Bank and operatng costs of theFund, plus a spread to conin demand and/or capitalize profits in the Fund.

43

For the Fund's co nt, the PB would pay an amnual fee, which wouldcover the Govemmen's commitment fee to the Bank (15 basis points overthe Bank's standard commitment fee). The Faa Manager wouldd*eam e ,most effetie prn rorMs subject to Ie rules agred

4.42 Maximum utilization of the BF by any one bank would not exceed 10percent of the facility or 25 percent of the PB's paid-in capital. PB eligibtyconditions will constrai adverse selection. To ensure that PBs use theallocated comm Di to backp or finance long maturities, support wouldcover only matuities that exceed what is available to PBs. Under curremarket conditions, the Fund would be likely to support matuties of three toseven years.

4.43 Term Elible Loans (TEE). One objective of the backstop facilityis to promote the extsion of matuities on productive loans. The maximumsize of a TEL would be US$10 milion, the minimum term of a TEL wouldbe six years and the maximum permissible sbare of loans for acqion ofnew commercial or residentlal buildings in a PB portfolio of TEIs would be20 percent. Furthemore, the Fund would maintain a negadve list ofineligible activities, conprising the following: man ed and

mnufactured tobaccu; radioacive and associatd materias; nuckarreactors, and parts thereof, and non-irradiated fuel elements (cartridges) fornuclear ractors; tobacco processing machney; and expitures for goodsintended for a miliary or para-military pmpose.

4.44 Loans in connection with real estate will be limited in two respects.First, the only loans of this nature that will be permitted are those forconstrcon of new buildns or acquisition of buidings built within thepreceding two years and not previously fiaced by borrowing. Second, aPB will be able to cou a maximum of 60 percent of the value of the assetfhiaced by such loans as pat of its TEL portfolio. This restiction isdesigned to account for the fact that a porton (etmated at around 60percent) of such loans finances the acquisition of land. It should be notedtiat loan-to- value ratios for this type of loan in Argentina cmrendy averagearound 55 percent

4.45 PBs will seek to ascetain as soon as possible whether loan madequal as TEEs in order to avoid payment of commitment fees for ineligiblecomItments. The Facility Ageements will outine the method and tmingof that detenon. (As a minimum, a cerdficae of the PB should berequired and ispecton rights on the part of the Fund with respect to loandbouments should be provided for in the Facility Agreement.)

44

4.46 Figure 4 illustrates an example of the timing in the exercise of thebacstop facility.

Figue 4

lustrave Timiu in mhe Exercise of the Backsto Faciit

DATE EVENT AMOUNTI__ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ _ ($ m i lo )

06/94 Fund Issues Commitnent to participating 20Bank (PB)

07/94 PB Issues Bonds 50

08/94 PB submits evidence of increase in Term 20Eligible Loans (TELs)

04/97 to 0S/97 PB goes to market to rollover bonds 30-

05/97 PB notfies Fund that it will exercise 20option to sell bonds to the Fund

05/97 Fund ascertains that PB complies with N.A.financial s

06/97 Fund/Govenment request World Bank 20disbursemet and Fund purchaes bondsfrom PB

06/2000 PB redeems bonds from Fund 20

4.47 The Fmd. The Fund would have an independent legal identity.The Government has entrsted BICE with the administration of the Fund.BICE would engage an international ion satisfactory to the Bank to actas Fincial Manager of the Fund according to pre-determined nlles andprinciples, including the Financl Manwer's performance crieria.Development of the management capacity of the Fund will be finace withthe assistance of a Grant from Japan's Policy and Human ResourcesDevelopment Fund, in the amount of Y20.6 minlion (approximatelyUS$190,000). Rules and principles of the Fund and the BP will be coveredby the Project Agreement and subsidiary agreements, including the Charterand By-Laws of the Fund; the on-lending Agreement between the

45

Governme and the Fund; the Faclt agreemn nd Annexes; theAdministation Agreement between the Fund and BICE; and the Fhancid

Magent Agreenme betw BICE and the Fincial Manager (seeAmex F). The key ils and pnciges of the d ad the BF weeau!reed at neuptiations. The Fudwoud be estblhe prior to dlnn oftheloan. lhe sixning or finalization f( gnre} of b arFand dgocmat would be A a condgtiof fcies.

4.48 M a ennthMe Fud.

(a) The Governmen will select the members of the Fund's Boardof Dlirect. The number of Directors will be establifd bythe By-Laws of fte Fund. Board members will beGovernmet officials.

(b) The Fund would engage BICE to undertae minisatiresponibilities with respec to the Fund under an"Adminisaon A e t betwee the Fund and BICE,pproved by the Bank

(c) The Admi ton Aeemet will provide that BICE mushir an recognized fbin l instid on wih aproven success record to act as ElPina MMal of theFund. The Financial na ad th agreeme (t'Finaneial Manageme Agreement") purn to which it acsfor the Fund will be approved by the Bank.

(d) Tbe mjZlMa wil dami f obackstp commm ; comte comm s avalable to beoffered at any time; ddetmine the inerest r on FONs to beissued pursuant to com; mak dedons b wh tosell FONs; make investm deisions with respect to funsiuot invested in FONs; act as, or appois and supervis, acstodian for funds and oher amounts due to the Fund. Suchdecisions will be gid by policy guidelines, acceptable to theBank, seeling the saft of such investmet.

(e) The Finania Mamager wil also monior the delopment ofthe PB ON capitl m t aind of the availability of TELs.The Finacl Manager may request that the Bak consideamendents to improve t BF (icluding exqing thenatue, term or ype of permissible DONs or FONs, or

46

adjusftag pricing or mauity parmtes), or additonalfacilities, which will promote the development of a liquid bondmaket and/or the availability of TELs. (For a detileddescription of the functions of the Financial Manager, seeAnnex P, Attachnent B.)

(f) The Administradon Agreement and the Financial ManagAgreement will contain consraits on RICE and the FinancialMaagee's discretion in managing the Fund. Tlese could beraised by the Government and Bank as the project evolved,particularly during the two pauses in comtets. Amongthe inital key constai are the followiDg:

* Under the administraon arragement, BICE would select PBspursuant to established criteria (para. 4.52). inchludingsatisfactory rating by at least two rating agencies.

* BICE would have no power to leverage the Fund (para. 4.49).

* The equ with respect to the BF, including theattributes of TELs, BONs and FONs, may not be varied byBICE (except as age by the Bank and the Governmeat).

3 There will be a rule for the methodology of pricng FONs(para. 4.39).

* The allocation of BP resurces to a PB will be limited to 10percent of the Bank loan or 25 percet of the PB's capital,whichever is lower (para. 4.42).

4.49 Fund Levea:g. Unless the Bank othwise agrees, the Fund'sbackstop commitments at any one time will not exceed the sum of cash andcash eqialents owned freely by the Fund and the size of the Bank loan (lessthe amount allocated to the Fund's inital expenses) available at e time.This constit wil ensure that calls on backstop commi do not exceedthe Fund's fmianial capacity. This constaint could be reconsideredfollowing the actual implemention of e fcilit and upon the establishentof a schedle idating the exercise dates of its cs.

4.50 Hypothetical Flnandsa Projections of the Fund. The liabilities ofte Fund will include any disbursed proceeds from the Bank loan. TheFund's assets would include bonds puchased and investments of excessliquidty in eligible secuites. Fund income includes inuest on PB bonds

47

and lidity invesmens and commitment fees. Fund costs include ineand commitme fees and management fees as well as other operatiexenses. Forecasts of the Fund are subject to the uncertainties with regardto ikWely drawings under the backstop facility. Annex 0 provides financialfrea of the Fund under two alternative asumptions regaig thefraction of coitments exetcised by the PBs (20 percent and 50 percent).The forecsts assume that (a) the Fund commits 40 perce, 40 percen, and20 percent of the Bank loan respectively during the first three years; (b) theFund makes further commitments only up to year seven and in amouns equalto the expired cmits mimns drawdowns plus bond redemptions; (c) theFund earns yearly spreads over LIBOR of 0.75 percent on cash inestmentsand 3 percent on BON investments; (d) the Fund earns a yearly fee of 0.75peet on backstop co ens (e) the Fund pays a spread of 0.5 percentover lBOR on the Bank loan; (D) the udisbbursed amount of the Bank loanwould be subject to the Bank's usual commitment fee (0.75 percent, but, atleast up to the end of FY94, reduced to by Board decision to 0.25 percent),except for funds already committed umder backsop contas, which wouldearn an additioal 0.15 percent.

4.51 Figures 5 to 7 depict a possible time path of assets and capital;commitments and BON holdings; and income, expenses, and profit. It isassumed that 50 percent of baop commt are exercised. The typialpatten for assets (Figure 5) is an inverted "U", with the rising segment dueto ing disbuments and the decling segment due to loanaortization. Capital generally ineases toughout, although with very lowexercise ratios there may be a decline at the end due to low earnings fromBON holdings coupled with fixed co of operaon. Commitments (Figme6) also follows an inverted "Un, with BON boldings miroring that behavior,albeit at the lower level explned by the low exercise ratio. Finally, Figure7 lustates the inverted "U"-shaped profile of income expenses and profits,and the possibility of losses at the exteme due to low ering from nascentor declng comm and BON holdings.

4.52 Iil ftkt&a Cdkda fo Part4 Ban. Banks eligible toparticipte in the facility would be prime-rated commercial banks, selected byBICE according to criteria agreed with fte Bank, including fial citeriaand a high qualit rating of its obligations by two rating agencies (banksissuing ONs are currenty required to be rated). Compliane with thefinancial criteria would be required to confirm the ratings. This confirmationis app ate given the short time that rating agencies have been in place inArgeni. Should the ban cease to qualfy under the agreed criteria (asdefined in the Project Agreement) that bank would no longer be eligible topartiipate in the program.

XF

tn ---------- p U '

-W w s Ss X *<w-----l- - L

L4 ~~. .. F.. . ..

* IDJ 2z0,

m <~~~~~~~~~~Elsa _~ y.o <se

49

Figure 7BACKSTOP FACILITY

tN,M DS0,, AM APFtR TAX POFtT

7

a_

-l~~~~~~~~~~~~~~~~~~f

E iL 10 I I I iLt~1042 4

Yew*I 2 Tfl s

OATIN0 uWT Et l IT APTER TAX

4.53 Specific eligibility reqi for PBs as well as te size andconns of the drawings under t facility will be inclded in the loanagreemet. For inital eligibiity, PBs should have a single A ratg at aminimum and comply wit the following BICE credt risk acceptance creria,as confirmed by satisfactory private extnl auditors:

(a) capital should be at least 8 perent of risk-weighted asets andcontngencies, with core capital at least 4 percent of weightedassets;

(b) the PB would have t be in cormpiae wfit capital adequacyand provisioning re of the Su cy ofFinancial Endtides;

(c) the average rate of reun on equity over the last ee yearsshould be positive and larger than the real rate on itscertfcates of deposit;

so

(d) recheduled loans should not be more than 20 percent ofportfolio, with less ta 5 pen of portfolio reschedmore than once;

(e) individua exasure levels should be less than 10 percent of thePB's capital;

(JD at least 20 pcent of deposits should be mvested in cash,Government bonds, or liquid finaial instments issued byban with triple A ratgs;

(g) managerial effectiveness and intenmal controls should besadsfactoy (as discussed in the auditor's management leter);

(h) capacity should exist to nnplement efficieny project and loanidentification, appraisal, and supervision.

4.54 Requi (b) above comprises the Cental Bank's basic prxdentialreuation (capil and provisioning req ). Althogh the otherceria are consistnt whth Cental Bank regulatons, they are not requnred byfthse regulatons. In addtion, PBs would agree to sibmit annual audits byextrnal auditors satisfactory to the Bank. The Fund would require PBs toretain all the relevant supporting doumentatiol for review by the auditorsand Bank staff. Further, the audits should include a loan portfolio reportindicatn the amount of I=remental TELs.

4.55 BICE will dermine compliance with the Lsted requirements from aPB appraisal process that includes an assssment of the reliability andaccepability of PB financial statments; an analysis of those statements;determnation of whether exterwl auditrs and external auditors' reports arereliable; and prearation of finacial projections.

4.56 BICE's bank aasal s is consistnt with Bank uidelines aslaid out in O.D. 8.30. This WMonsistenv is part of the proganm to be covered

dw roject mnews. To date 80 banks have been subjected to BICE'sevalon process, most of them during 1993. BICE first developed ananalytical system to help accomplish the task and then brought in experiencedanalysts to use it. The anlyticl system was originally developed with thespport of Price Waterhouse and then signficanty modified by BICEmanagers and staff drawing on experience in Citibank's institudonal

4.57 NaItw Adke C emClauM. The BF is not intended as creditsupport for the BONs. Therefore, the Facility Ageement with each PB

51

would provide that, notwittanding the satisfaction of all otr conditions toexercise of the backstop commitment, the Fund will not be required topurchase FONs if any of the following conditions is not satisfied at suchtime:

4.58 Fnancdal Requirements:

(a) The PB cannot have been downgraded below a tnple B creditramting from the backstop commiment date.

(b) Capital should be at least 8 percent risk of weighted assets andcontingencies, with core capital at least 4 percent of weightedassets.

(c) The PB would have to be in compliance with capital adequacyand provisioning i n of the Supeitendency ofFinancial Entities.

(d) Rescheduled loans should not be more than 20 percent ofportfolio, with less than 5 percet of portfolio rescheduledmore than once.

(e) Individual expose levels should be less than 10 percent of thePB's capital.

(f) At least 20 percent of deposits should be invested in cash,Government bonds, or liquid financial inumens issued bybans with triple A ratings.

4.59 No Default: The PB could not be in default on any covenants orpayment obligations under the BONs.

4.60 No Cress-Default: The PB could not be in payment default underany of its other liabilities exceeding a threshold amount (which may vary byrating category), with a carve-out for any liability disputed by the PB in goodfaith and for which adequate reserves have been established.

4.61 No Banptc: The PB could not be in bankuptcy or receivership.

4.62 Rgn AMcIN. Eight ratmg agencies are presetly opeatI inArgetina, with the three major agencies accounting for over 90 percent of

2/ See pargraph 4.72 for a discussion of downgrdes in credit rating.

52

the rated values. The quality of the major rating agencies appeas to be highand thr tngs reliable. Two of the ratn agencies are affiliated with majorinternational fms and one is in the process of negotiatons. One of theagencies, PCA., is affiiated with IBCA of London, which is perhaps themost highy respected bank rtng service in the world, and its president is afomer vice chaiman of the Central Bank of Arenta. Broda, another ofthe agencies, is afiated with Duff and Phelps of the United States. Duff &Phelps also is exremly well-regarded in the capital markets. In both cases,the Argentine agency uses the methodology of the affiliate.

4.63 Local rating ran are established with the assumption that theobligations of the Republic are AAA; thus local ratigs do not incorporatethe sovereign risk of Argentina. As Duff & Phelps notes: "Offerins byArgentinea compnies directly into the U.S. will be rated by Duff & Phelps(USA) in cooperation with BDEIDuff and Phelps. These ratings will notcorreWond diectly with BDFIDuff and Phelps' local currency ratings as theUS ratings will take into account Argetna's sovereign risk."

4.64 The rating medtodology of all of the agencies iterviewed is similar tothat of the US agencies. They analyze the wrien fnancial materialsupplid, both audited financal satements and supple ry schedules (suchas the material provided to the central bank). They adapt the financialaccount to their snUardized format and then they calculate a wide range ofratios for te accounts. This procedure frequenty idenfies abnonnal radosor trends which indicate areas that need partcula analysis and discussion inthe manag meeti

4.65 The methodology of the rating agencies follows the widely usedCAMEL sysm e passing the analysis on: Capital adequacy, Assetquality, Managemet qualW and ite , b gs qualit and stabilit, andLiquidity. Te rating agencies adapt this system to Argentine conditions.For exmple, gtven the consta on the Central Bank which limits theHquidity it is able to provide to the banking ystem, liquidity management,asset liquidity and balane sheet matching of the banks receive particularlyclose scrutin by the atdng agenies (as well as by BICE). They also payclose attention to bank owrsi and to the composion of the board ofdiectors as well as to the banks' major borowers.

4.66 Banking superision requires filing a large amount of financial andportfolio information, all of which is made available to the ing agenciesfor their analysis. This inchludes material on asset and liability matchingn _mp and a list of the bank's 50 largest loan recipients. All of theagencies intrviewed pay close attention to asset quality and loan provisioningpacies.

53

4.67 Me quanitative aessment is followed by meetings with aof the borrower. These meetip include discussions of issues highlid bythe ratio analysis plus discuions of business stratgy, credit poLicies andprocedures, treasmuy management, etc. which produces an overall _of manag t quality.

4.68 Notice of rating assignments is requied to be published in the offcialdaily goverment record as are annouments of changes in ratigs. Atleast one agency is trying to be more assertive in distributing press releasesregrding its raing decisions.

4.69 Since the rating process is new to Argentina, it remains to be seenwhat kind of a job the agencies will do in conection with monitoring ranpon oustanding bonds. Given the evident compeence of the raterspresumably they, like the US agencies, will plan to request anmual meetjgwith each rated bofrower and will then reaffirm or change the ratigs as thecircumstance merit. The focus on management qualit, busine strategy,etc. that the ratings process incopoates ought to lead to a reasonable levdof rating stability as it does in the US; however, this will only become clearas the ratins (and the agencies) become more seasoned.

4.70 Argen regulations require that, since November 1992, all publicly-offerd smrities be raed by at least two audt d private agies. Eadcagency must register with the CNV and is subject to esiCtintended togurntee thek ie and professional competence. The limiednumber of "split ratings" (see Annex 1, Table 1-2) would indicate rasonablybroad high levels of professional competence.

4.71 Rans have been assigned to 20 bans. Approximately another 20bans are in the process of obtning ratings. Numerous banks are in thepre-ating stage in which the rating agencies demterine the correctivemeasures needed for a bank to obtain an acceptable raing. The mostfrequent deficiencies found are: a high cost structure and te restng needfor high spreads in a market where spreads are expetd to decline; poorasset quality; and insufficient provisions.

4.72 Mh_nIum Cn at Eligibility to obtain a new commimentfrom the Fund would require a PB credit rating of "A" or above. Theappraial mission estimated that 15-20 bans could satisf eligibilitreqirements, inluding the minimm single "A" nrtig, in the ear fur.These banks issued rated bonds eeing US$500 million in 1993.Downading to triple B would be allowed for drawdowns. This flexibUit ibased on the assumption that any market disuption provoking a drawing

54

would potntally engender a downgrading of all bank raings m Argentina.Thus, if no downgrding were permitted, the BF could be irrelevant.

4.73 Am&ot of Support to a Prldnatlns Bank. The legal documentwould establsh a maximum Fund exposure with any PB of 25 percent of thePB's paid-in capital. In addition, to ensure fairness and to guard againstdominance of the facility by the large banks, no PB would be permitted toabsorb more that 10 percent of the faciity.

4.74 Operadon. BICE will not only manage the Fund but alsoundeke other operations supporting medium- and long-term lending. BICEwas established by the Government in 1992, with the chief aim ofwholesa medium and long term credit that would be used by the pnvatesector. BICE's lending will be exclusively to prime-rated participating banksto be relent chiefly for investment, import, and export financing. Agementwas confmed during notiations that BICE will operate exclusively as asecond tier institution. This covenant would be similar to IDB's under itscredit line operation through BICE. Sources of BICE's funds include foreignbanks, multilateral instutions, foreign govemments, and the capital maket.ht is expected that official lending institutions will be a transitory source offunding, to be tapped while banks develop a wider and sustned access top=rivate sources of long term lendimg. BICE may raise additional resourcesthrough sale of asset-backed securites. BICE's profits will include: (a) aspread on the loans on its own account and (b) management fees (e.g., onGovernment held export portfolio and on adinkisaon of the proposedFund). Although there is still much uncetainty on BICE's prospectivgrowth and instutional development, presenly anticipated Operations,

cluding the export portfolio, import loan from Spain, Itly and possiblyFrance, and the IDB loan provide the raw material for profitability, providedthe orgnztion remains lean and its pricing is market oriented. Theuncerainty with respect to BICE's development as a lending instituion is onereason why the proposed project design envisages the Fund establisbed as animlependent corporation where the discre of BICE is limited by the nrlesof the inion and m gement agrements. BICE has alreadydeveloped the ins"tional capacity (e.g., aministaion and bank analysiscapability) to undertake its role under the proposed aminision agreem.

4.75 The Government has ageed that rket-dermid pricing will auplyto all fute BICE eaons (i.e.. excldini the alread negotiated trancheof the S o export credit faciIity). including irestment i r. andexport funds and loans. The interest rate paid by BICE on loans from theGoverment would be set equal to its market deermied lending rate minUsan agreed fee. Interest rates charged final borrowers by PBs will be freetdetermid and without Govement susidies. A free inte regime will

55

eue that BICE's intee rates on its assets and liabilities are consistewith financial and capital maret development.

4.76 Fr m 1oDamuloLt hof Emna In the inrest of suplicity andease of execution, the project would begin operation with one facility, thebackstop facflity and one instrument, the bullet or extendable bond.However, Argentina's financial markets are rapidly evolving and needs arecanging. Under such condions, flexibility is desirable. In the fituxre, theFund's activities could be enhanced in various ways, subject to agreementwith the Bank. For example, the Fund might become a market-maker in debtobligations ( e.g., acing on its own account, as agent, or offerig publictrading or auctioning sevices). The Fund is expected to work withunderwriter, dealers and issuers to develop new debee smrucrs whichwil appeal to the market and fit within the broad guidelines of the BF.Backstop products could be extended to additional matuities and to coverother new debentue stres. The Fund could be privatized or madeobsolete by the maket's growing willingness to extend bond maturities andaccept Argene bank credit. Any additional activities would be fullyappraised by the Bank during project reviews and agreed upon by theGovemment, BICE, and the Bank. Nevertheless, any new activities would(a) always be linked to the Fund's core business of improving the market forbank debentes and/or medium-term lending; (b) never lead the Fund tobear significant fmancial risks (e.g., cashflow, default, cross-currency orinterest rate risks); and (c) always be priced at market-based rates.

4.77 The Bank would not require that proceeds of the loan be used forspecific projects. The Bank's approval of the use of the proceeds by PBsfrom the bonds puchsed by the Fund would not be required and normalprocurement guidelines would not apply to the loan, except for US$3 milionassigned to cover the Fund's initial expdir (pra. 4.81). A backstopcom nt will be condoned onthe PB exding term eligible loans(ELs, pam. 4.43) in an amount at least equivalent to the bonds to besupported by the commitmet. The Fund would maintain a negatdve list ofineligible industries (pia. 4.43). The Project Agrement would provide forappropria reporting to the Bank on the eligible portfolios of PBs and forBank monitoring tbereof. Pr me to cover the Fund's initalependitres would amount to about US$3 million. The major componatwould be for consulting services for the Fund's adminisat mamet,and legal servie, which would be subject to the Banks consltantguidelines. Other goods an4 servk*s required for the Fund's initial

56

OPPeIons (costing less thn US$50,000 per contact), would be procuredthrough local shoppw procedures acceptable to the Bank.

4.78 Te proposed loan is a new Bank lending vehcle. The Bank wll bedisbuing-if at aU-against financial instumn, not specific goods andservices. As such, it does not fa automically into any of the Bank's uwale_vIomental cagories. Sim:e te Is no link between the Bank'sobligation and the actual use of the bond resources by PBs, it is imposible tot&e the Bank's fimds or commitme to the end users of the proceeds ofthe PB's bonds. The project design provides for a condition that PB'siease their portfolio of lELs - which would be subject to ex gp checks -- by an amount equal to their access to fte BF. This portfolio would besubject to a negadve list (para 4.43)

4.79 Adding to the negatie list would either end up excludig virtuayal Argendne industry or bject us to the risk that somth not on the listwill become a major pollutat. Requiing that the TEL portfolio be subjectto envit n no -lassessment (EA) procedus would demand either that PBsdo EAs on virtually all of their portfolio or that they prove that someiMe of their portfolio that matched their access to the facilt was freeOf y advese loan. ITe first would force the Argentine bankzo vetting virty aU medium term loans in the cnry-something the

Govemet r ed as not required by any country in the world-whichcould lead to din an of the bankig system, and lead to higerslip s-exactly wbat the project is supposed to reduc. The second optionis diply an procedue with no al impact

4.80 It is thus proposed tdat the project be tread as a "C" loan. Thisqr CaUtion. A bas yet to establish sound envir tli conol

polcies, but the proposd loan does not seem a useful vehicle to deal withthis isme. Neverteess, eploration of how envi l concems can belind to such leandg vehis wfll cone. If more such loans are_arud, some link may prove useffl.

4.81 A smal part of the Bank loan (US$3 million) would be eamarked toprove resources to cover the ial Fund expendiu, including te Fund's

57

administration and management fees and other Fund operational expens(e.g., office equipment, supplies, and services). The Fund will need workingcapital while it accumulates coitments that generate its income (see paras.4.50-4.51). A special account would be set up with an initial authorizationof US$300,000, which will be replenished within the first three and a halfyears after effectveness as eligible expenditurs are incurred. TheGovernment could draw on the remaining balance of the Bank loan wheneverrequired by the Fund to honor its commitments to purchase bonds from PBs.Disbursements for this purpose would be made into a second special accountshortly before funds are reqired by the Fund to purchase FONs, uponcertification that the PB remains eligible and in the amount neded topurchase the FONs concerned. The Fund would provide the Bank withevidence of all PON purchases in order to request replenishment of thesecond special account. Disbursements to the second special account wouldbe made against evidence that a backs option would be exercised within35 days. To control the pace of disbu during the first seven years,the Fund would make co n in discre segments of upto 40 pe,40 percent, and 20 percent of the Bank loan during the first three years. Todisburse quickly enough after the seventh year, the Fund would make nwcommitment only up to the seventh year. Furtermore, com nts in theseventh year would apply to bonds with maturities not exceeding four years.These restictions would allow disbursements only up to the 11th year. Inesseme, the success of the BF wfll be measured by the extent to which theFund makes bacwp conmmitments that are not drawn down. While the BFcomponent of the lown may well disburse slowly or (hopefuly) not at all, itsimpact will be measued by the amoun of backstop c it. Thendisbursed amount would be subject to the proposd commtment fees (para.

4.22). An extended grace period of seven years is proposed to icrea theimpact of the operation over the life of the loan.

M itorinm Riand

4.82 The Fund would be responsible for maintaining its aCcounts, forpreparing and submitting wixdrawal applications, and for maintaining allrecords pertaining to the program's execution. Auditing of the project wouldinclude BICE's financial saemns, the Fund's fiacial statements, the twospecial accounts, and PBs compliance with regard to their TEL portfolios.

4.83 The legal documents would provide for a certficate at the end of theorigination period, issued by a PB, as to its TEL portfolio. The Fund and itsdesignees (including the Bank) would have the right to audit the PB todetermine the accuracy of the cerdficate. Furthermore, the Fund would

58

maintain separate accounts to record and monitor BON purchass, sales, andredemptions. The Fund would report to the Bank on the Fund'scommitments and bond purcbases and redemptions on a quarterly basis.

4.84 All records and accounts in support of bond purchases by the Fundfinanced under the proposed Loan would also be audited, in accordance withsound auditing principles by independent auditors accetable to the Bank.BICE's auditor would be entitled to spot-check these audits.

Loan Suprion and Evaluaon

4.85 Supervision would inchlde continuous off-site sureillance of the BFand policy developments, bi-anmual on-site performance reviews by the taskmanager, and the two broad on-site fomal reviews covering compliance withthe policy program. Supvision would focus iniially (probably the fstyear) on t estblis, promotion, and be-off of the BF, and thegrowth and term structure of commitments. Later, probably during thesecond and third years, supervision would focus on the growth and stutureOf commitments, the BF's refinemt of procedures, and the development ofthe policy program. From about year four onwards, the focus would shiftfom the o of c e to the performane of drawdownsunder backtop contracts. All thghout, spervision would closely monitorthe financial performace of the Fund. Resources to unrk thisspervision plan would include the task manager and support from FSD andthe Lea Department. Annex H presents the timing and resourcebreakdown.

4.86 Evaluation will first focus on the performance of the BF. The mainassessment will be a compaison of the amount of BF commit with tihema,umumrl amount that the Fund could supply. In addition, the analysis willfocus on the rformance of BON puchases in protectng PBs against marketdisruptions and interest rate spikes. Evaluation of the project will also focuson (a) growth of size and terms in the bond market; (b) growth of size andtms of commercial bank lending portfolos; (c) allocation of lending tosmall and medium sized loans; (d) development of capital marketinfastructure. inclding sta of debt secities and ratingagencies; (e) development of reglation and pervisio of the capital mafrkt.These wil indicate the extent to which the project and the policy programsuppoted by the operation meet the unamental target of developing thecapital madret to increase the ficing of small and medium-scaleenRprises.

59

Beneli wd RU9k

4.87 The main benefit of the project would be an increased availability oflong teWm financing tbrough develpmt of the capital maret to helpfince inesed private sector investnt. The main risks are resmptionof macno instabilit (discussed in pams. 2.11-2.12), incudingfbrtder strai on the bankig system; extended goverment interventions tolower intrest rates; weak progres in bank supervision; weak demand for theBackstop Facility; and weak development of ihe new secand tier bank BICE.Thse events would undermine the capcity of PBs to molize long termresources from the privat sector and undermine PB perface.

4.88 The appraisal mission conchlded that the Government is committed topolicies that preempt these risk, including a comnmtment to lmit intrestrate interventions to levels consistet with the development of the bondmarket; and actions to improve the Cental Bank's bank supervision.Furthermore, the proposed includes satsfctory

mroeconouc and interest policy petformae, satsactory interest ratepolicies; progress in bank and capitl market supervision; ad -BICEperformance as conditions of contmied it following the reviewpause. Compliance with these conditions would also reduce the risk of weakdemand for long-tetm funding and for the Backstop Fact.

60

V.AG_%Koff=EDAIO

5.1 i = fo Lon Sre d Dmingnegotations it was agreed that the Fund would be established prior to sigingof the loan and that the signing or finalizadton of all other agreemens anddocuments would be conditions of effectiveness (par. 4.47);

5.2 Ote eeme^. Other agements wer reached duingnegotiations on the following:

(a) maintenane of macroconomic stability and its policyfundamenals would be a condition of effectiveness and ofrenewed commitments following two formal reviews (pam.3.17). Tlr. Bank would retain the right to suspenddisbursements if economic instabiity resumes;

(b) the Govme will not renew the exitig interest ratesubsidy progrm, which will be fully committed by mid-1994,before the proposed loan becomes operational. Futhemore,

mnest rates chaged final borrowers by PBs would be freelydeteined. Te two mid tezm pauses will revw compliamewithese condio (pam. 3.27). The Bank would retain theright to suspend disbmns at any time if eih or both ofthese conditions were reversed;

(c) CNV would coinue strog application of resolution 227.Such appLication would be part of the policy program to bereviewed durng the pauses in (pra. 3.37);

(d) enactent of a comphensive scheme of pdenal reation,geared to the risk h of the Argenne securitesmarket. This scheme would include capital adequacy rules,including regulations to supervise these rules, to be introducedbefore the first pause in commit (para. 3.40);

(e) terms of reference for CNV oazational review m ntaudit and development action plan (pam. 3.47). CNV wouldmake satisfactory progess in the implemenion of itsorgnizonal review and development program (pam. 3.47).

61

Progress would be reviewed during the two pauses in

(1) the Govnment will not reestablish tansaction taxes (isue,,t , and purchase) on fimncial and capital market

transactions (para. 3.48);

(g) the Government will mainta the Lay de Fondos Commes de!xsrai*tn regulations enabig the developmet of investmefunds (pa. 3.49);

(h) BICE's PB appraisal process would be consistent with BankO.D. 8.30 (para. 4.56);

(i) market-determined prcing will apply to all fue BICEoperations (exclding the already negodated tanche of theSpanish faciliy, para. 4.75);

.3 thiere will be two pauses in itments to review progress ofthe Policy and lnsttionl Development Program (Anniex B).These pauses would be impeented afwer 30 percent and 60peent of the loan has been committed or after 18 and 36months of eness, whichel comes first. Approval ofcommitments would resume following a positive review ofprogram

(k) CNV planing of prna reg ion sem (pra. 3.40);

(1) subsance of draft Fund priniples and rules, inclxdig Charterand By-Laws; On-lending Agreement between Goverment andFund; Master Facilty agreement and Annexes; AdministrionAgrement between the Fund and BICE; and FinancialManageent Agreement between BICE and the FinancialManae;

(m) Genra phps goverg tbe e na by theFiancial'Manager of fees on backstop co andinterest rates oan FONs (pam. 4.41);

(n) PBs should fli conditions spelled out in pan. 4.53;

(o) covenant that BICE will opte excsively as a second-tierinstition(pam 4.74).

62

5.3 With the foregoing agments and the proposedproject would be suitable for a US$500 million single currency loan to theArgeni Republic. The loan would have a tem of 15 yea, including 7years of grace on repayment of principal, and carry the standard BankLBOR baed interet rate.

ANNEXES

- 64 -

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67

ANNEX!Q

C. Ca"it Mlake Vatry ar

1. Converfit L4. The con ity law, in force since April 1,1991, sets the maximum exchange rate at one peso (after exchanging $10,Q00australes for one peso $10,000 per dollar and limits the mimm size of themonetary base to the level of intrnational reserves, which can include gold,foreign exchange, forein exchange deposits and bonds, and domestic orforeign public bonds payable in gold or hard curnies. Non-monetay assetare valued at ther market price. The convertibility law thus itoduces astrong safeguard against inflaton. The convertibility law also probitedindexed contract; stplated that oblgtions in a foreign currecy would behonored rough repayment in that cuency; and allowed contracsiulting capitalization of interest.

2. CeaLlak uGbr. The recenty approved Central Bank Charterassigns to this institution the fundament roles of price stabilit andsuervision of fiial institions. The key provisions are:

a. the president, sidet, and diectors of the Central Bankof the RepubLc of Argentina (BCRA) are appointed by theGoveanment in agreemet with Cone.

b. Centrl Bank lending is limited to (i) secured liquidty loans(30 day redscounts and advaunes with a mini*um period of 45days between succeeding operons) to financial institutionswith a maxwmum utnding loan size equal to the Fl's networth and (ii) purchase of treasury bonds, the holdings ofwhich ca increase by more than 10 pcent per month orexceed 1/3 of inbernational reserves;

c. the Central Bank is not authorized to guantee obligations offincal instotutons, including deposits;

d. the payment of interest on deposits at the Cental Bank,includig the payment of interest on required reserve holdingsof financial instiutions, is prohibited;

e. frced ivestm by fincia instiutions in Cental Bankbonds are probid;

f. FIsupervision is gd by povWing tha thesuperinendet be a Cental Bank director appointed by the(ovenmm, with auhor on for enforcmt of

68

banking regulations (except issuance or withrawal of bakingpems which are dedded by the Board).

3. 1Ilnfndd ELNlt ILE . The LFE, the efowement ofwhich is en:td to the Central Bank, has the following key provisions

a. To operate, an FH or any of its bran must be authorized byth Central Bank;

b. Under the LFE, a Commercial Bank can undertake anyopeats except: (i) accept shares in its own equity ascolateal; (h) grant preferentl conditons to its dircors, itsmangers, or related parties. Furthetmore, a commercial bankrequires Central Bank tion to run non-bankingactivities on its own account and to assig a lien on any of isasse. Other restictions are imposed by Central Bankreguaons.-n

c. The Central Bank can revole the license of an Fl withshortfalis in solvency, liquidity, reserves, tchnica limits orratios, or capital ent, Iwhee the FH does not submitandfor comply with remedial measues;

d. Disclosure of PI opeations with regard to liabilies isprhbited-

C. Deposit guarantee, in liquidation or bankruptcy cases, isprovided by first ptiority rights of claim on the HI's requiredreserves for the first US$3,000 of checking depsits perpers, second priority rights on other deposits more than 180days old at the time of withawal of the banking license, andd prit rights, with prorating, on remaiing deposits.Other assets are to be claimd first by liabfiities with realguantees (antfa h bO I , second byliabie to labor, third by deposits (with first claim right ondepost of US3,000 per person and second clam rigs ondepositsmore than 180 days old, if not covered by the HI'sreses), am! fourth by BCRA.

4. ql R _. BCRA classfies HI's debtors andrequires minimum provisions as follows:

= - = - = = * _______~~~~~~~~~~~~~~~~~~~S.

A~~~~~

111111 Iii -

70

requiments and stiffer penalties on nonpeforming aditor; nd requlrbank to submit to the SEF long form audito' repous.

7. Reyerne R _ At present, a reserve r of 40peret applies to checking and passbook savigs deposits.

8. Secudtiuudni Act 1968 1 1. Thi is lh pDctd wgoverig the securides market. It establishes the power and i_of the CNV and the stock exchanges, and basic reqiree for the publcissue and tading of securities. It also prohibit fdlentactviies and imposes penltis.

9. 1htAct 198 ad l 3 Theprinia law goveing the issuance ad trading of corpoate bond

bnstruments. It proves a famework for protectn of the intets ofbon rs and requies ratgs by at least two independent ating agenciesbefore public issue of debt instruments.

10. MutDual Fundg Adt.m It allows both open and cloeel mutufunds, specifies the powers and mponslbiliis of the promoter ofte a ndand the fund company. It also establises Mportat pectinfor inlvetrs.

11. Bo_c Law o f 1dkin.of November oU . Togethr, tes move restiom on foregportfolio investment, remove stamp and traner taxes ontranSactn, reduce stock exchne fees and eliminate fixed brkercommissios, and equalie the tax treament of capial ga fo forp addomestic investors.

12. 1Te tax on capital gains was rpealed. Afederal b introduced in 1976 (Law 21,280) and amended by Law23,562, taxed the tansfer of all securities at 1.5 percent (cash value of saeof goveent serities in the OTC maket, wihi the excepio of tadesamg financial tuto (PIF) unless Fs ate sellg thr own post_);0.75 pece (cash value of sale of corporae securities in the OTC maet,with the exception of t among FIs unless Fa are sellig their ownpositions); 1.0 pecn (cash value of sales of govenmnt securies ,ug

71

a formal exchage); and 0.50 percent (cash vale of sales of equities twougha formal exchange). As of 10131/90, law 23,871 As of 08115/91, a law(23.962) exempted coate bonds from the tansfer tax; and, as of11/01/91, the deegaon decree (22W91) abolishd the tax altogedher. Afederal tax of 1.2 percent on dk tgp= was redcwed to 0.3in March 1992 and elimintd in July 1992. A Federa distict andprovincl aaves baee bev ied on documents suppotig leatanactions. The samp tax in the Fed Ditict d dtaxe loans,bonds, commercal paper, trades of equities, options and repurchaseagreements documented off stock exchange, and other commercialtransacons involving credit at a rate of 1 percet; and equities, opdto andrepurCe agreements documented on stock excag at a rate of 0.4percent. The stamp tax in the Federal,District was removed by te.derguatondecre (2284/91). Under the rely agred,sixteen provinces repeaed the stamp tax on fmancial anacdons adinsuce cona for the productve sectors.

13. PrT Before enactme of the dela on decree A284191)the prfit tax applied to income from equit shaes and bonds, exeptingbonds issued by the public sector, which were exempt. e tax rate was 20percet for Argentine oporations and 36 percent for branches of freigcompanies. The withholing rate on dibute dividends was 10 percent forkideied residents and 20 pet for non-idenified iivuals, ncludingnon-residents, and for non-collected dividends. Therefore, te total tax +withholding burden on company profits was 28 perce (20 per + 10percent of the remahing 80 percent) for profits uldmately earned byidentified reside and 36 percen (20 percen + 20 percent of the maining80 petren) for non-identified individuals. In April 1992, new lgidslaon wapassed that unified the corporate tax rate at 30 percet and aboHshed theaxation of dividends. Thetefore, the totl tax burden on company profitswas raised by two percentage poiuts for identified resdents and reduced bysix percentage points for nonideified inibls, includig non-eidents.

14. Tbe profits tax also applied to income (intere or realized capitalgains) on corporate bonds (MbljguioM HgN iiabl) held by businesses andfo inv , wheras dom c resident individuals were exempt. On08/06191, Law 23,962 exempted all income on corporate and public bondsfrom the profits tax. However, it was reinstd for bonds held by holdwho ae subject to in y adjustment nrles pusuant to Argentine icometax law in July 1992.

15. TauatioL L aCaMi Gh A splific litu SIM bs of 1Spercest, which applid only to indviduas, was repealed on 01/01/90.Moreover, the application of profits tax to realized capital gains (as well asothr income) on public bonds held by busine and foreign resident(domesti tesidentswere exmpt), w repeaed by the deation decree.

16. Taxedon In on savings accon s exemptIest on fixed team deposit is taed at rates ranging from 3.0 percent on

72

corrate deposit over 120 days to 7.2 percen on corporate deposits unde120 days.

17. Pamds Peformance of the prio pension schee inArgentina was dismal. It was exclusively a pay-as-you go system in whichhigh contibudon rates eourad evasion, leading to unflfilled leabenfit commitments. Th deficits emerged in the late seventies and wreresolved throgh reducing benefits below legal pametes, eamaing taesto the system, and provliding treasury transfers and central bank credit. Akey development with major capital maret mpLicatons is pension refonm.The recety approved pension reform bill will maintain universal old age,disability and survivor irae for depedent and nepenent workers, butwill rlace the public pay-as-you-go (PAYG) system by a two-pill systewith mdatoy membship in both pilus. he public sector will suplyte firt pillar, on a PAYG basis; this pilar will provide a uniform basicpension amounting to about 28 percent of average salary. Ihe second pillaleaves the worker two options: either contbute 11 percent of earings to anadditial public penson on a PAYG basis with promised beneft in srictproption to contributions; or save the same amount in one of the pensionfunds lo= de Eos de Jgnw I fednal) si0d bythe prvae sector and by BNA. The pension fumd option qapars to be moreattracie for young and middle-ged wors. The Governmt expects tatabout 70 percent of woers will inially choose ftis option, with the shareappdpaebing i00 percent over the next genraon. This would- inally malksome US$2 billion aually available for pension fund investmet. Thealloction of th invents in each fund will be subject to the maximumpmentgs india in Table 3. A shrcoming of the reform is theestablishment of a peson fur4 by DNA with hgly attractve coandio fotits members, inchung guarnteed returns in both pesos and dollas and awbsidy component thuwgh prohibition of a mana t fee. This would put

privatey supplied funds at a serious sadvantage. Drft legislation on theBNA pension fund recently sbmtd to Cogress may leave only theguartee in pews at the intrest rate on BNA sving account. Theaccompanying CMTAL would assist in the implntion of the penionrefom.

18. _ t s. Th activity of ivestment funds has been lmidby the very same reasons that constrined the securities maket and by therstriction that these funds invest 90 peent of teir portfolio in equityshares. Legislation has be passed to fee limiht on investme corporabonds (aLa de Pondos hus e rs6n,. The new law (No. 24.083)pohiebits the fumds to invest (i) in securities issed by the nqahcotraIton or by other iwnestmen fds; (ii) to invest more than 2 pecentof i assets in uities isoued by the mnagn corporation's coolligentity; (iii) to inve in securities acounting for more than 10 perce of iM

73

issuer's liabilities; and (iv) to invest more than 30 percen of the fund's assetsin a given Govermen securty. With the ae sm of the corporte bondmarket, investment funds provide a needed mecbanism to channel savingsftom individual investos. The stock exange is now adoptn a formulafirst used by IFC, namely creating dieified A nti County fmds, withbroady diversifiod risk bases ad listing at ladin forig stock exchn.

19. 8 e . Argentn's reiuace bas been in deep crisis. Thepublicly-owned monopoly rsane instiion (INDER) went bankupt,with US$12 million in liquid assets, balf a billion ars on inurancepremi and roughly US$1 to US$2 bimlon of unpaid claims. Arreas oninsuranc preia derived from the poor financial sitation of seveainsurance firms and possibly an unwiingness to pay a non-perfomAiginsmer. There are more ta 150 isure fitms; t ial and capitalstandards e said to be uneen. Like decapiized banb, cert inefkms are said to be taking heavy risks at high premia in hope of rcvithi capital positionl T industry Is regulated by an inadue is

20. INDERs liabilltica will necearily encumber public fiane. "fegovanment decided to terminate mantory insurace with INDER,exist sice 1946, ad authorize isuoe compaies to reinsre fillyoverseas a's of Januy 1, 1992 and dissolve INDER as of March 31st,199 (Decree 171/92). A liquidating commission was established to manaeilDER's liabilties until thy are 'extinguise". Th exisig tax anisuane policies (8,5 pcent of sance preia) will be eamarkd torepaymnt of INDER's abties of about 1 to 1.1 billion thou t aperiod of six years. In addition, the govenn extnded VAT (16percentat preset, to be raised to 18 percet) covege to isurance and epremia as of Mach 1, 1992.W Finally, the goverment establihtd a fundto repay INDER liabites, with the exiting 7 percent sales on0 podiciesearmarked to that find until the laities have been fully paid.

e/Inurane companies can reinsure up to 50% in overses companies. Several con_doubly reinsu the remainin 50%, given INDER's inabilify to honor claims.

1/The VAT is likely to icrease premia on insuance bough by famile, such as autoinrac, by only up to 10% because insuae compaies will now be able to use an

istg 6% tm credit on VAT. h_s may end up paying less prem becuse q ca.dedt JVA paid on purchases.

74

INSTUtON SERVICE cowv CORPw COMmI

l~~~~~~~" s

PRMARY MAN STRUMU S

OI ant bm* YuS askDIII ups to a year yes Swe cmlYwabi k uat _

o8ahup toYthees yy f oab

Dai beon .v yms.en

Op h s .bmmd,yhsbno

_unt. on_sads so ________s _______

'DCNDAR MAR -- UT,UM.

NOWoesad b,f esye Yunor Yuar ta emag

DBsh Yu ye s pv t.nuktmbt

Opim yes

N ow * aft yes .___ ___

___addlia _e _e 7_ _ __ _ __ _

SEcONDARY MARKEyeTu MtNa I T &* &*S

.- -

- .- -

Punte Ezelmags (MRRI~X) ye no mon. MOd conan

.~ ~ ycaa YuY.w.i

D&oskeryIaMNm ye y sur. Dfi ..

_ _ _ _ _ _._ _ _ _ .e y. .sr,eft

* - L I I ~~1 1'III [ 1 1 W 11 1~

. -X, - - - - -l- ||||W

0 ; 111111 1 1 I 1111L1d

. ~ ~-- -. . -

76 ,

. I~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~I

. .

2~~~- . F -1 l Ir ptDt

LiI.o)I

77

ARGENTINA

Finmcial Deepening Ratios

1970-1993

Year MI/GDP M2/GDP

1970 13.7% 20.1%

1971 12.1% 18.2%

1972 10.3% 15.9%

1973 11.0% 17.2%

1974 13.3% 21.6%

1975 9.3% 13.7%

1976 6.5% 9.3%

1977 6.1% 13.1%

1978 6.2% 173%

1979 5.7% 18.1%

1S-0S 6.5% 21.4%

1981 5.2% 19.7%

1982 5.2% 16.9%

1983 4.4% 13.4%

1984 3.7% 10.8%

1985 3.8% 11.3%

1986 5.0% 14.9%

1987 4.2% 14.5%

1988 3.2% 14.1%

1988 2.8% 8.9%

1990 3.0% 5.5%

1991 4.1% 7.3%

1992 6.4% 11.2%

1-993 7.9% 13.1%., ~oiirce: Se iftom BCRAd11

MI = Curency + Demtnd DepositM2 = MI + Savings, and Time Deposits

78

ARGENTINA

Shuture of Bank Assets and Liablities

1991-1992

I._ _ _ _ _ _ _ _ _ _ __ - .1991 1 991Assets __

Cash and Reserves 5.9% 5.3%

Crit to Public Sect 21.7% 16.5%

Credit to Prvt Secr 46.4% 52.7%

Otier Net Assets - 26.0% 25.5%

L;~bilidie8 ___ ___

Prvate Sector Demand Deposits 2.9% 3.5%

Private Sector Saving and Time Deposts 9.5% 12.2%

Prvate Sector Dolar D sts 13.2%- 16.1%

Public Sector Depst 6.9% 8.3%

Debt lo Cental Bank 37.3% 34.6%

Net Foig Liabiles 10.4% 9.0%

Capital, Reerves, and Profits 19.6% 16.2%

Source: Staff esdmates from BCRA data.

_ .} X T X US.... ... .. .. ...

_ . S : . ll0tillE!It.......... . I I S

_ ~~ ~. . ............ .. .11M 1 11 :

9DN IN3d33a IVI1ONVNIdA VNIN 139dU

-80AaGBNTDI- Aimed Depostosi sIh huma mm and Spruds

- .S * _ _ _ * _ _ _ _il:

Y_ Mmih NMi D_ot RIM Re DeposR. 4. Niud I_ Roe U LB*g Rae N=mid Sp% i Red

MD AIpa 114S ._5.0 1635 -57.0 49.0 SD

_epmst.r 190.9 481 229.8 -I.9 38.9 9.6

0_t*W 127.1 26A 168.7 49.6 41.6 232

NoDswe 79. 16.1 128 47.6 4a7 31.5

000186W 79.4 35D 107.1 55.8 27.7 208

19 am" 157A .7. IS.9 2A 27.6 9.9

_ eYJ 19L3 -90.1 237A 48.6 4.1 IS

_ b M 135.1 25.1 190.1 573 60.9 32A

Aprl 17.2 -213 51. 1.1 33.8 226

UN 188 43 562 24.6 37A 29.9

u D 20.6 46.1 46.8 14.4 26.2 20.4

_,_ July 21.8 1.8 49.1 24.7 27.4 22.9

_ gua 1,.9 1I0 42.0 33.S 25.1 23.6

- _ _SOuW 133 -O. 433 25.6 29.9 26.2

133 416 383 21A 25.1 22.

N=-o 1 133 _ 1.1 373 40.6 24.0 243

Doawd 15.7 17.1 46 4&5 310 31A

2 -y 133 4- 373 18 24.0 193

_ mi 12.1 -5.1 34.9 142 22.8 193

Mardi 10.9 '10. 325 7.0 21.6 17.4=- -! a! -

APe 12.1 3.1 323L 21.9 204 18.8

mop 10.9 $.7 313 252 20A t193

lua 9.7 .0*3 28.9 17.2 19,2 17.5

Juy 12.1 -5.1 33.7 13.2 21.6 I3

10.9 -1.6 313 t6$ 20A I8I

- 8_pma*w 10.9 -Q4 30.1 16.9 19.2 173

_ O t M10.9 ' 2.0 28.9 M186 180 16.6

_ Nisr 12.1 20.5 30.1 39.9 18.0 19.4

_ tnm*u 133 14.7 33.7 353 204 20.6

193 bJmy 109 0.8 30.1 18.3 192 17.

Pinuy 12.7 3.7 29.9 IS.6 162 14.9

MaUch 11.7 10.4 26.5 25.0 14.8 14.6

AB 11. 0.0 25.4 16 14,0 1

K1y 103 .0.8 24.2 11.5 13.6 12

Ja 9.9 8.6 24.0 22.5 14.1 14.0

Ju)'ly 10.9 9.6 243 23.0 13.6 13.4

-Ai 10. 7.4 22.0 19_ 1 12.0 I.7

- _ 'auiw SS 2.5 22.5 15.4 13.7 12_9

- 0_gober S.8 2.4 22.0 14.9 133 323

Nomes 8.2 17.7 21 t.0 0 128s 13.9

_ 1 S 8.9 16.8 32.2 13 t5.4-~. -.

81

Monthly Inflation and Lending Rates

. . A m m . ..m. ... .. ..

so . .....20

-003.5 U.S 00. 8 U.S U.6

03.42 arne 0.12 3143t 33.4

Yewnd *mth1' IV loton Pa

Real Annual Lending Rate

40~~4"

I~~~l -U Au IlllIH lnMlllll-U

30

I~ ~~~~~~~~~~~ As lITiEi l[l11m nIT I rrrnj130 .12 ... .

I~ ~~4 .. ... . . 6

I r_-20

I -40 ln

l I Ia -- .n

82

Nomlinal Spread for FIs_M42

. .o ... ;' .......111 11111111

so li i i i !B wEL1~~~~~~~~~~~4o

.12 lU270- ~ ~ ~ ~ A

Yewi am Mu"It

10-~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~

10-~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~,,~~~~~ 1 1 1

83

lo

ARGENIA CArAL MARINT D :LOPMMMN PROJEC

F. LOWARM o f tbe-d b p Fa

1. Glosawy of Ternn Used in fis Anex

Adinistmtion Agreement: The Ai n A ment betwoe the Fuidand BICE, described in Section 10 below.

Bank. The World Bank.

BF: The Backtop Facii descrbed in Section 4 below.

BICE: Banco de Inversi6n y Comercio Exterior.

BON: A US dollar dIbateddON, as described in Section 6below.

CMV: COmisiM Nacional de Valores.

Diafin Cteria: The cria for disquHato a PB fom abacktop exercise, as contemplatd in Section 4A though D below.

Faciit Agreement: A Master Facit Agreement betwen the Fund d aPB, as descibed in Section 4 below.

Finai Managemet AgreementM i e tbetwe BXCE ind tiFinacial Manager descnrbe in Section 10 below.

Fin il Manager: An ratony rognized fianial intioneaged by BICE to cary out the fctiom descrbd ina Ehereto.

FON: A US dolar ON issued by a PB p 8u to the BF apurhased by the Fund.

Fund: An ipend legal entity tat wil establish and be r konsible for

Goernment: The Argentn Republi.

ONs: ObUgciones Negocibles (bonds).

Origination Peiod: A specified period aft a backsoppuruant to the BF is made. durin which TEA must be orliutmtml

84

Pr g , i.e., ban eligible to use the BF.

S4: A Sociedad An6nima organized under Argentine Law.

Tm: A term eligible loan made by a PB, as descrbed in Section 5 below.

VAT: Valeadded tax.

2. Bic Sblrure

te World Bank (the Bank") will enter into a Loan Agreement with theArentin Republic (the "Government"). Tbe Goverment will ear into asubsdiary loan agmemet with the Fund described in Section 3 below,pursuat to which it will on-lend to the Fund the proceeds of the Bank loan.Tbe Fund will use the loan proceeds to purchase Obligacionos NegoCiables(ONs") issued by Participating Banks ('PBs") in accordmce with theacstop Facit ("BF") descried in Section 4 below.

3. egl d de and s of he Fwnd

ibe Fund will have no opertons or than as relad to the BF. The Fundwil be a Sociedad An6nima (VSA') established under Argene law. Itsshues will be owned by the Goverment. Under Argeutine law, an SA musthave at leak two sharehds (whether individuas or legal entities). TheGoverment will thus have to deignate two minees for that purpose.

4. hne Bactop Paclty

The Fun will offer a BF, the terms and conditos of which will be set forthin a Master Facility Agrement between the Fund and each PB (each, a'Fat Agreement")W. Each Facit Ageeme as executed mustcomply with a stnrd form approved by the Bank. The FaciltAgremet wil not vary in material respects between PBs.

Under the BF, a PB may request thatbackstop be issued bythe Fund with respect to ONs (such b pd ONs being herein refleedto as 'BONs")1 to be issued by the PB to finance term eligible loans(ITSUO)LY to be made by the PB within a specifed period after the- n bm (the "Oigiation Period')W. A BF mmme t fee woud

W For a dbission of subject to be covered by a Facilty Agement, see Attcment C

11 See Sect 6 below for a dismussion of BONs.

MI See Sectm 5 below for a discussion of the criteria for a M.

MI A hyodhtca rnology of "ve in th OF is attached hert as Attacme B.

85

begin to accrue on the date of the backstop commitme or at some timdurig the Originaton Period as BONs are isud.

A backstop conmitmet would provide that the PB could, before a specifieddate (e.g., 50 days) prior to the maturity of a BON, give nodte to the Fundof a possible exercise of the bactop commment with respect to such BON.At that time, the issuing PB could seek to refnance the mauring BON at acost lower than tat of the related FON (as specified in the related backstopcommitment). If such lower cost financng is not arranged, the PB could, byirrevocable notce given by a specified date prior to the maftuity of the BON(e.g., 28 days), exercise the backstop commitme with respect to such BON.If the backstop commihment were exercised with respect to a BON, the PBwould, conuntly with its repayment of the BON, sell to the Fund ONs ata purchase price specified at the BF commitnt date. (ONs sold to theFund pursuant to the BF are herin referred to as "FONs.") Except aftersuch inrevocable notice, exercise of the backstop commitment with respect tBONs would be optional on the part of the PBs.

The principl amount of the PONs to be bought by the Fund upon exercis ofthe backstop commitmet would be capped at the lowest of (a) te amount ofthe backtop commitme, (b) the principal amount of the BONs ornated-during the Orination Period and maturing at such time and (c) the prcipaamount of the TELs originated during the Originadon Period (except to the

tent such TELs were counted in the purchase by the Fund of any otherFONs). The iterest ate with respect to a PON would be a pre-establishedmultiple (aer than 1) of the interest rate on the BON it replaced. SuchmItiple, which migh vary depeqndg on the credit ratig of the issuig PBand the tenor of the BON or PON, would be calculaed by e inancialManager (as defined in Section 10 below) by refere to the mariet ates atissuance of the commiment for mts with a term equal to the term ofthe BON and for istuments with a term equal to the combined term of theBON and the corresponding FONW.

The BF is not intended as credit support for the BONs. Therefor, theFacility Ageement with each PB wil provide that, tding the.satisfaction of all other conditions to exercise of the bactop c t,the Fund will not be required to purcas EONs if any of the followigconditions is not met at such time:

A. Ekial Padwn=. Tbis comprise thre elemen":

1. The PB's senior unsecured debt obligations must have a specifiedminimum credit raig. TIh usness of this covenant would depedon the reliability of the rating agenci1 .

JI/ For a dission of the ftbctions of DICE and the Ficial Manger, seeAaac_ Dand E hto.

17/ See body of SAR, par hs 4.62 to 4.71.

86

2. The PB would have to be in complance with capial adequacy adloan loss provisioning r seq nts of the bank reguatoz.

3. AddIdonal fiancial requiremes: (i) Capital should be at leas 8percent of risk-weighted assets and conti es, with core capital atleast 4 percent of weighted assets; (i) rescheduled loans should t bemore than 20 percent of portfolio, witi less an 5 perent ofportfolio reschedud more than once; (iii) individual expose levesshould be less than 10 percent; and (iv) at la 20 percet of deposimst be ves m enpecified liquid f c inst . Theserepquiremets may be alterd over tme if necessa, wit th conseof the Bank.

B. No D. The PB could not be in dalt of amy cvenas orpayment obLigations under the BONs or a Facilit Areent.

C. No . The PB could not be in payment defult underany of its other liabilities exceeding- a threshold amount (which mayvar by ating categoy), with a ve-out for ay liabilt diped bythe PB in good fith and for which adequate res have beenestabHshed.

D. No. The PB couldnot be inmbutcy or

The Facility Agreemt will provide that bactop _ may not besigned or rasfred by a PB except (under spwecified s) in th

cse of a merger.

S. Twrm Eligib Low

One pwpose of the BF is to promote the etnsion of T.S. Qualification asa TEL would be measurd mainly by term (a TEL would have to exceed acetain tor) and sector (subject to cetain specified sectr conntrtiolimits). The Fund would maintain a negative lt" (whih would also appearin the Bank's Lon Agreement with the Govement) of ineligible inusries.Th list would ihcue actvities such as those involvig rdoactvematrials, milita_ y goods and toba.

P9s should seek to asoertn as son as posile whether loans made quafas TEL,in order to avoid paymen of fees for Idtat do not really exist (siwe thy are conditiond on an event - mai aTEL - that ner occurred). The Facili Ay shold outline themethod aod dming of that dIion (at a a cerficae of thePB shold be required and inpectin rigts on the part of the Fund and its

lN See Ane C to the SAR for a descripton of these requems.

J Seo body of SAR, pgrh 4.43,.for the detaid it.

87

designees wit respect to TEL docmet shoud be provided for in theFacility Agremet).

6. DONs

In order to stmulat the development of a liquid market for PB debt, msand conditions of BONs should be stndadized. Moreover, it may bedesirable for similarly rated PB debt to be promoted as flmgible so thatliquidity can be enhanced by the creat of a uffiieny laWe "float."Therefore, the Facilit Agreement will ea stalard tms andcondtions (other ta as to rate) wbkbi BONs must haveW. No DON willhave a term of less than three years. ITe Financial Manager wi alsoconsider steps to pomote liquidity in the PB ON markt, inclding possible

Implemntion of periodic auctions, theby iasing the aggegat size ofsales (ftough grouping of smaly rated BONs) and falitting pricediscovery.

Altwugh it is expected that ftere will be no variaton in the nature and trmsof pmissible BONs (except as speified above), the Pacility Ageemay provide tbat, upon *n n by the Finacial Manar and with'the agreement of the Bank, the Fund may expand the tes of BONs whichmay be the.subject of a backstop commitnent.

The Facility Agrments also should provide a manmer to ensure thatprospecses and other offeig or dacriptiv materials rlatg to BONs dowot contain statm suggesting that a BON holder can rely on the BF'sbeing avaiable to the PB at the maturity of the BON, and that such madequately disclose the limitations on the BF commimnt.

7. PONs

Upon exercise of the BF, the Fund must acquifteely rnsferable FONswith a term equal to or ess than that of the c sng BONs, providedthat (a) no FON wil have a tem of less thant ee years and (b) iecombined terms of a BON and th cor o FON must be at least sixyears. Sof tem and condidons (other han as to rate andtem) of the FONs would enbance their slebty (U? by adding efficiencyto the process and by pomotig fungible tratment of such seuiies) m theArgentine and Euro markts. Therefore, new issues of FONs would beprearable, although the Fund may have limited discretion to ta an existngBON (e.g., it may have a ready local market tIat wold not rely on some ofthe tms ught by the Euto makets).

21 It is understod tht ONs issud by PBs are currently being offered in the dometcArgentie market and in the Euro market. The Fay Agreeme are not inted torestrict s of DONs to one or the oher of such marts. Therefv, it- is possible that theFwit Agre wil pwvide two set of stndad tms and cotons for BONs, onefr d ic oftri and one for Euro orns.

88

Resale of FONs by the Fund could be lim!d by Arntn law, wbichpem public offerings of scurities to be made only by the issuer of suchseuries or by a registred commercial bank, sockbroker or OTC agenBecause of net capital and ohr requiemet applicable to such secuitiesmaket participan, it is not likely that the Fund would register as such.However, (a) the Fund woud be owned by the Govanmen and woud beperforming a Governmentsanctloned role, and (b) the use of an agencyarrangement (as contained in the AdminIstratIon Agreent) with BICEwold in ay even probably sads the applicable rltions. (Initildisusion with the Comisi6n Naciond de Valores ("CNV") suggest thasuch an agency aangement should avoid the need for the Fund to register.)Theialy, no additional cost should apply since the Fund would needsuch a pme 's distrition capacity in any event.

There are practal rns reg the fom and cont of FONs tobe saleable in the duro market (e.g., a tax gross-up, a disclosure document,a bustee and a place of payment in a world-wide money center). In addition,in acrdae with typical Euro market offerings, PONs will not bepreyable, other tan based o increased cost of he tax grss-up. Althoughthe may prve documenty budens ad coss, intay (by prepiforms of te reqired documen so that the exrise of the BF does notre undue lead dme ad negotation) and ongoing (the PBs wil have toupdate disclosure douments and pay truste fees), these do not appear to be

A decision to excise te BF commiment with respect to matuming BONswill be made very near to the maturity date of such BONs, but CNVappro procedus would pmt timely issuane of FONs. For eample,when a PB issues BONs, it could do so pursuant to a "pogr approved byth CNV. Upon maturiy of the BON, rollover ONs and/or FONs could bessed by the PB under that program, provided such issue date is within five

yeas of the date of approval of the program by the CNV. Before suchoiover ON or FON issue the PB would have to fle with the CNV an

updatd prsectu and iomation on0 fte tms and coios of hierolover ONs or FONs (along with certah other docum on).

Argenine law has sevea s yeccly applicable to bank debtsoiet's. Tbese inchde dislosc requ_emem, legnd rI and

prins on colateralizing the securitIes (with certain ceptions notrdevzot here). I11Fwft Agreemen shoud requir that FONs comply

wih th requie t- of the ON law (nludig any requiremen needed toobtain the benefial tax tratment described under Section 8 below) ad thregulatns of the Cntal Bank.

& Tar BeneftUdr On ON Law

Unte tbe ON law, qalyng ONs are eligble for te following snicantau benis: (a) inerest paid on the ONs, althugh deductile by the issuer,b exemipt fron Argent om tax; (b) capital ain realized on he. sae of

89

the ONs are exempt from Argetine income tax; and (c) certain opeatlonkand srvices relatd to the issue, subcripton, plaoement, amorzdi,interest and caellation of the ONs and thek guaantees (if any) are exemptfrm Argentine value-added tax ("VAT'). The bnefits under (a) and (b)above are not applicable with respect to local ON holders who are subject toinflationary adjusm ntles purut to Argentine come tax law. TheFund will likely be subject to such rules.

To qualify for beneficial tax treatent under the ON law, the ONs must be"publicly offered" and the proceeds of the issue must be used as provied inthe ON law. This require a pre-filing with the CNV of the tasactiondocumentaon. Several Eurc ofrigs by Argentine issuers have in the pastqualified, even wit specific makting in Argentina. However, in thisinstnce there are two steps to the relevant transacdon: first a sale of thesecrity to the Fund and then a possible resale by the Fund. Conmaonshotild be sought from the CNV that they would collapse the two transactionsfor this pupose and that they would not evion a timing delay which wouldinterfe with the smooth exercise of the BF. (Inial discussions with theCNV suggested that te public offein requiement shoud not be a problem,asuning that the Argentine tax autoriti agee with the CNV's analysis.)

Since the securities must contain a tax gross-up, the loss of tax benftavailable to ONs would become a cost to the PBs. They must becomecomfortabl with the analysis, and they will likely require that the secuitesconin a "burdeome buyout- provision allowing them a call if the taxtreatmn or rate chadges.

9. Tax w s Revnt so tie J. .d

The Fund will be an Argetine holder of the seciies to whom the taxgr-u would nt apply. The Fund wol hower, probably be liable forincome tax with kespect to interest income from and capital gaim reaized onthe sale of FONs. The cpot inoome ta rae is curey 30 pet.Since the income tax would be on net income, and the Fund should haveoffsetting interest exps (repaying the loan from the Gove_nm or feesand expenses of operatons), the Fund should be in a net neutal tax position(ignoring the hpact of infladti on the dffer timing of the interes incomeand the ierest expene).

There is a I percent tax on assets, which the Fund wil also be required topay. This is, however, treated as an advamce payment on account of incometax. In addition, this tax will be phased out by 1995.

The City of Buenos Aires charges a turr (gpows revenues) tax ontrancons such as those to be conducted by the Fund. Dependi onexactly how the FnWd's actives were the rate potenalyapplicabl thereto would be 3 percet or 4.9 perent. However, tie televatOrdinance contains an exemption for al tsactidons relating to ONs. heOrdina0 e specifically excludes inet income and inome obtined through

90the sale of ONs, and the e~empton is broad enough also to exchlde inecomeeared in the form of commien foes paid to the Fund.

The VAT rate is curenty 18 pereet. It is unclear wheher the Fund wouldhave to charge VAT on its acWvities. If it did, suh charm do be offsetagainst VAT charged to the Fund.

10. Managment ef the Frd

(a) The Government wil select the members of the Fund'a Board ofDirectors. The umber of Directs will be estblshed by the Cat of theFund.

(b) The Fund would engage BICE to cry out the robedescied in Attbament D here. These wi be enmbodied in anadministrion agreem to be approved by the Bank (the A t

(c) The Admion A e wil provide that BICE must hh aninentonally ircognized finanial instition to act as financial manager ofthe Fund (the Financial Manager"), withtbe fuci descied inAtachment E hereto. The Financial M and the agreemt puan towhich it acts for the Fundl4the "FincaI Manament Agreement') must beapproved by the Bank.

-' (d) The Administration Agreement and the FinancialAgreement will contain some fairly s4ndng c on BI(t's and theFinancial Manager's discretio, respectively. Amot tbes are the''fldlowing:

* IBICE would select PBs puuant to utablshed criterla.

The Fund vmay not be levereged.

The requme with respect toe BF, incuding th atibutes ofTELs, BONs and FONs, may not be varied (eept with the cosntofthe Bank). -

* SThee will be nles for-tbe methodolo appled by the Fi'iancialMnager to prFONi. ,y.

lZ/ See boIy of SARP paragraphs 4.52 and 4.53.

ZZI See body of SAR, prgmph 4.49t

/ See Atac E hereb.

91

* The allocation of BF resources amongst PBs wv1I be limited byrulesW.

* The Financial Manager's decisions about when and at what price tosell FONs will be subject to specified considerations>.

* The Financial Mamger will have to make investment decisions withrespect to funds not invested in FONs from a list of pennittedinvestments approved by the Bank.

(e) Certain of the above-mentioned requirements can be included in theCharter of the Fund. The Loan Agreement between the Bank and theGovernment and the Project Agreement between the Bank and the Fundwould then provide that the Charter could be altered (in specified respects)only with the consent of the Bank. Simiarly, any alterations to the on-lending agreement between the Govemment and the Fund, the FacilityAgreements (including Annexes thereto), the Admini ataion Areement andthe Financial Mangement Agreement will require the consent of the Bank.

11. Governing Laws

It is anticipated that (a) the on-lending agrem between the Governmentani the Fund, (b) the Facility Agreements, and (c) the AdministrationAgreement, will all be governed by Argentine law. It is lilely that theFinancial Manager would requie that the Financial Management Agreementbe governed by the law of its principal place of business or the location ofone of its prinipal business offic es.

Given the desire to have possible resales in the Euro market and to have theBONs and FONs qualify for the tax treatment under the ON law, thesecurities should follow the recent market practice for Euro-bonds ofArgentine issuers. That is, they should be a hybrid of Argentine law and thelaw of tfr US or UK. Under Argentine law, the place of payment of asecurity must be outside the country in order to give effect to a contacalchoice of non-Argentine law for such security. The related documents (e.g.,underwriting agreements and fiscal agency agreements) could be governed byUS or UK law.

24/ See body of SAR, paragraph 4.42.

25/ See Section 7 above.

92

Attachment A: DocIments Relating to theBac"kitop Facilty

Docu ent it

1. Loan Agreement between Bank and BankGovernnent

2. Project Agreement between Baik and BankFund ___

3. Charter of Fund Government

4. On-lending agreement between GovernmentGovermnent and Fund

5. Form of Master Facility Agreemet Govermenatbetween Fund and PBs -

6. Annexes to Facility Agreement: Govemment* Form of BONs* Form of FONs* Form of Fiscal Agency Agreement

7. Adminnis on Agreement between GovernentFund and BICE

8. Financial Management Agreement Govemmentbetween BICE and Financial Manager

93

Attachment B: Hypothetical BF Time Line

Date Event

Comnmitmet Date minus 30 dayb. PB requests BF commitment, identifyingproposed BONs

Commitment Date Fund issues BF commitinent with respectto BONs to be issued

Commitment Date plus Origination Period * PB issues BONs(e.g., 6 months) * PB confirms TELs made

S PB reduces over-commitnent

Mauity Date of BONs minus 50 days PB notifies Fund of possible BF takedown

Matrity Date of BONs minus 28 days PB irrevocably notifies Fund of BFtakedown or non-takedown

Maturity Date of BONs PB re-finances in capital markets or issuesFONs to Fund pursuant to BF

94

Attachment C: Facility Agreement Contents

Set forth below is a brief outline of a possible structure of the FacilityAgreement. Suggested provisions are provided for-illustrative purposes andare not intended to be exhaustive.

Section I -- Definitions: This section will define the terms to be used in theAgreement. BONs and FONs will be defined by reference to specificexhibits to the Agreement, so that the terms and conditions will bestadardized. The TEL definition will incorporate limitations on term and onsector of loans, including any sector concentrmion limits.

Section 2- Notices of Commitment: This section will provide the mechanicspursant to which commitments may be entered from time to time. It iscontemplated that the terms relevant to each commitment (e.g., the principalamount and term of BONs and FONs covered, the commitment fee and datesand payment thereof, the interest rate applicable to the FONs, and theOrigination Period) will be set forth in a "Notice of Commitment' signed bythe Fund and the PB (the terms of which sha3l be incorporated by referenceinto the Agreement). This section will further provide that neither the Fundnor the PB shall be obligated to enter into any Notice of Commitment.

Section 3- Conumitments: This section will provide that:

(a) The PB shal pay the commitment fee as and when provided in therelevant Notice of Commitment.

(b) Subject to the conditions specified in the Agreement, andcompliane by the PB with the terms thereof, upon notice from the PB to theFund (the timi and mechanics of which will be specified), the Fund willpurchase FONs from the PB at the purchase price specified in the Notice ofCommitment.

Section 4- Represenions and WarAwtues: This section will providerepresentations and warranties of the PBs. These will fall into severalcategories:

(a) Basic matters, such as corporate oranization and existence;authorzation, execution and delivery of the Agreement; validity, bindingnaure and enforceabflity of the Agreement; no conflicts with laws, Charter(Estatutos) or contracts; etc. These r tions will be given on eachcommitment date and on the date of each FON purchase.

(b) Matters relating to the FONs, such as authorization, execution anddelivery of docaments relating to FONs (e.g., Fiscal Agency Agreement);-authorization, issuance and de}ivery of the FONs; validity, bindn natureand enforceability of the FONs and the related documens; compliance withapplicable law and thie terms of the Agreement wih respect to the FONs

95

(e.g., all requirements of the ON law necessary for tax benefits and allrequirements of Central Bank regulations); no conflicts with laws, Charter,or contracts; satisfaction of conditions applicable to purchase of the FONs;accurnte disclosure in prospectuses and other materials relating to thelimitations on the BF commitment; etc. These representations will be givenas of each date of a FON purchase.

(c) Special matters, such as ratings needed at the time of commitmentand at the time of FON purchase. These representations will be given andrepeatei at appropriate times.

Section 5- Conditions Precedent: (a) This section will provide conditionsprecedent to the effectiveness of the Agreement, including any certificates oropinions required, accuracy of the representations, and execution anddelivery of related documents.

(b) This section will provide conditions precedent to the obligation topurchase of FONs pursuant to a Notice of Commitment, inchluding thepayment of all amounts due from the PB (or a netting thereof againstpayment of the purchase price of FONs); the maturity of BONs; the existenceof TELs made during the Origmation Period; the absence of anydisaiffcation contemplated in Section 4A through D of this Annex("Disqualification Criteria"); accuracy of the representations and warrantiesthen applicable; and the satisfaction of typical Euro-market conditionsrelating to the purchase of FONs (e.g., delivery of FONs, related document,cerdficates and opinions).

Section 6 -- Covnans: This section will provide a number of covenants,imcuding:

(a) The PB shall provide various reports to the Fund, including anyaudited or unaudited fcial statms, any reports filed with the CentalBank or the CNV, any reports sent to rating agencies, and any prospecusesor offering documents relating to securities sold by the PB.

(b) The PB shall notify the Fund of certain events, such as a ratingdowngrade or credit watch, an event or condition which would constitute aDisqualification Criterion, the issuance of any securities (and pricinginformation with respect thereto).

(c) The PB shall maintain certain financial requirements.

(d) The PBs shall provide the Fund and its designees inspection andaudt rights with respect to TEL and BONs.

Section 7- Amendment: Specified sections of tbe Agreement (including thedefinitions of BONs, FONs, and TELs, and conditions precedent to thepurchase of FONs) may not be amended, modified or waived except with theconsent of the Bank.

96

Section 8 - Termination: Either party may trminate the Agreement upon 30days' notice, provided that no commitments are then outstanding or theoutsnding commtments are not affected by the termination.

Section 9 -- Miscellaneous: (a) The Agreement shall be governed byArgentine Law.

(b) No rights or obligations under the Agreement are assignable ortransferable. Backstop commitments are ransferable by succession (e.g.,upon a merger of PBs), provided that the related BONs become obligationsof the surviving entity.

97

Attchment D: Functi of BICE

1. Hire Financi Manager. BICE must hire a Financial Manager onbehalf of the Fund. The Financial Manager must be an internationallyrecognized fiancial institution approved by the Bank.

2. Allocation of Commiments: (a) BICE shall provide to the FinancialManager general policies to be considered in the allocation of backstopcommitments. Such general policies shall give due account to the purposesof the BP (to promote the development of an orderly and efficient capitlmarket for PB ONs and the extnsion of TELs) and outtandingcommhtments, and shall be subject to the concentration guidelines specified inthe Administaton Agreement.

(b) BICE shll inform the Financial Manager of any request for acommitment. BIE may not issue any commitment on behalf of the Fundwithout the appval of the Financial Manager.

(c) BICE must notifv the Financial Manager with repect to eachcommitment iss;ued or cancelled, and sball periodically inform the FinancialManager with respect to commitments outstanding.

3. EstabUishment of Origination Period: BICE shall establish theOrigination Period, subject to the maimum period specified in theAdministrion Agreement

4. EigibilIty for Disbursements to Purchase FONs: (a) BONs: BICEmust, by a specified date before any date on which the Fund may be requiredto purchase FONs pursuant to a backstop commitment, ascertain the principalamount of FONs (if any) that the relevant PB expects to sell to the Fund, andnotfy the Financial Manager thereof.

(b) TELs: A specified period after expiration of the OriginationPeriod for a commitment, BICE must confirm that qualifying TELs havebeen made by the PB during such Origination Period. BICE may rely oncertificates from external inependent auditors satisfactory to BICE as to theamount of TELs issued during such Origination Period. BICE must notifythe Financial Manager thereof.

(c) PBs: (i) Upon issuance of a commitment, BICE shall confirm thatthe PB satisfies the eligibility requirements for PBs (as specified in theFacility Agreements). (ii) Periodically BICE must confirm that the PBs arenot then subject to any disqualification for a backstop exercise, ascontemplated by Section 4A through D of this Annex (the "DisqualificationCriteria"`, (iii) BICE must confirm thit, at the time of a purchase of FONsby the Fund, the conditions precedent to such purchase specified in theFacility Agrnment have been satisfied (e.g., the absence of anyDisqualification Criteria). BICE shall inform the Finanial Manager of its findings.

98

5. FON Purchase and Sale: BICE must act as closing agent for theFund with respect to its purchase and sale of FONs. This includesconfmation of receipt of FONs (which should be delivered to the Custodianidentified pursuant to the Adminisation Agreement) and review andapprov al of closing documents (opinions and cetificates). BICE mustinstiuct the Financial Mager and the Custodian of satisfaction of closingconditions.

6. Selection of PBs: BICE Will from time to time select PBs. BICE, willselect only banks which satisfy established eligibility criteria set forth in theAdministrtion Agreement. BICE shall not refuse any request by a bank toselect it as a PB if such bank satisfies such eligibility criteria. BICE shallnotify such bank, the Fund and the Bank of any such refsal, and shallexplain the basis tberefor, in writing.

21. Termination of Financial Management Agreement: BICE will notifythe Fund and the Bank of any action taken to terminate the FinancialManagement Agreement within a specified period of time after any suchaction.

99

Attachment E: Functions of Facial Manager

1. Determination of Conmitment Fees: The Financial Manager mustdtermine the fee chargeable with respect to bacp commitments. Thecommitment fee may vary dependn on the term of the BONs, the term andpricing of the FONs and the credit rating of tue PB. The comrnitment feewill be set by the Financial Manager after consideration of the followingfactors: (a) the purposes of the BF (to promote the development of an orderlyand efficient capital market for PB ONs and the extension of TELs); (b) thefinancial condition and payment obligations of the Fund; (c) the market valueof the option provided by the backstop commitment, if determinable(including the pricing of the FONs subject to the cQmmiment); and (d) PBdemand for backstop coitments.

2. Compuaion of Available Commitments: After con4idetioni of thegeneral policies provided by BICF, the Financial Manager must determinethe amount of commitmen available to be offered-gkt any time. Availablecommitments will be sivided by rating categories and by BON and FONtenors. Computation of avalable commitments at any time must give dueaccount to outstanding FNs, outstanding commitments and the amortizationof the loan from the Bank to the Govennment. The Fund may not leverage(i.e., the aggregate amoun of cowmitments avaiable at any time shall notexceed the resut of (i) the cash and cash equivalents,9f the Fund plus theamount at that tihe available.pursuant to the loan agment between theiBank and the Governent, mnus (ii) the amount Of ommitmenoutDtandi,g)

3. Pricng of FONs: The Financial Manager must detmine the interestrate for PONs to be issued pursuant to tommitmeria. Such interest ratewould be expressed as a pre-established multiple (greater than 1) of theinterest rate on the related BONs. Such multiple, which would vatydepending on thetredit rating of the issuing PB and the tenor of the BONand FON, would be calculated by reference to the market rates at issuance ofthe commitment for instuments with a term equal to the term of the BONand for insuments with a term equal to the combined terms of the BON andthe corresponding FON.

4. Cash Management: The Finamcial Manager must invest availablefunds of the Fund in permitted investments specified in the FinancialManagement Agreement. Such inyestments should consider the timing ofany cash needs of the Fund, including any commitment outstanding and theamortization schedule of the loan from the Bank to the Government.

5. Sale of FONs: The Financial Manager must determine the timing andprice of any sale of FONs by the Fund. The Financial Manager shouldconsider (in order of priority): (a) the financial condition of the Fund(including the purchase price of the FON); (b) the establishment and

100

operation of an orderly and efficient secondary market for PB ONs; and (c)the ability of die Fund to issue fther co .

6. Cutodial Function: The Financial Manager must act as, or mustappoint and supervise, a custodian for funds and all other amounts due to theFund. The purchase price of FONs and any other amount payable by theFund shall be paid directy to/from the custodial account. The FinancialManager shall confirm to BICE all amounts received, and shall reviewinvoices for all amounts payable by, the Fund.

7. Conflicts of Interest: In order to avoid even the appearance of aconflict of iterest, during the term of its service under the FinancialManagement Agreement th,e Financial Manager and its affiliates will beprohtbited from engaging in the commercial banking business in Argendna(other than as requued to act as cutdin) or in any busines with respect tothe purchase or sale of BONs or FONs (subject to etceptions specified in theFinancial Managment Agreement). Such restriction shall apply after theFinancial Manager's term of service with respect to BONs or FONs relatingto a commitment issued during such term.

8. Secondary Market: The Fimncial Manager shall consider procedureswhich would promote the creation and liquidity of a secondary market for PBONs in Argentina. These procedures may include establishment of anauction procedure for prinary offerings of PB ONs, periodic solicitation andpublication of indicative bid/ask prices f ouning PB ONs, andundertkngs from underwriters of PB ONs to use best efforts to make amarket in such PB ONs. The Fincial Manager must obtain the approval ofthe Bank prior to tbh implementation of any such procecu which wouldinvolve a payment obligation of the Fund.

9. Market Developments: The Financial Manager will keep itselfinformed about the development of the market for the PB's securities and,from time to time, exchange views on the operation of the BF withrepresentatives of the CNV, PBs, underwriters of PB securities and otherinterested groups.

10. Fundamental Changes: The Financial Manager will monitor the'development of the PB ON capital market., The Financial Manager mayrequest that the Bank consider amendments to improve the BF (including toexpand the natum, term or type of permissible BONs or FONs, or to adjustpricing or matrity parameters), or additional facilities, which will promotethe development of a liquid PB ON market and/or the availability of TELs.

101

ANNEX Cs

G. Backstop Fund Projections

The key aspdons in the forecasts of this amnex are: (a) the Fund commits40 pecent, 40 percent, and 20 perent of the Bank loan respectively duringthe frst three years; (b) the Fund makes frther commitents only up to yearseven and in amounts equal to the expired commitments nus drawdownsplus bond redemptions; (c) the Fund earms yearly spreads over LBOR of0.75 percent on cash investments and 3.00 percent on BON investments; (d)ft Fund earns a yearly fee of 0.75 percent on backstop commitmnts (e) theFund pays a spread of 0.50 over LIBOR on the Bank loan; (<) Theundisbursed amount of the Bank loan would be subject to the Bankis standardcommitment fee (nw, by Board decision, 0.25 percent), except for fundsunder backsop contracts, which wold eam an addionJ 0.15 percen. Theforecas a presentd for two ateative exercise iios (ratio ofcommtments that are exercised by the PBs) of 20 percent' ind 50 percent.

(l ~ ~ >1 -

102

BACKSTOP FUND PROJeCTIONS (USMIIIzn)

TMA 1 2 3 4 5 6 7J 8 9 1~1 II 12 13 14 is

NW CM 200 200 100) 64 128 128 1oo 0 0 0 0 0 0 0 0

34s so so 40 26 St 64 so 0 0 0 0 0 0 0 0

44. 80 so 40 26 51 64_ so 0 0 0 0 0 0 0 0

6.10. 40 40 20 13 26 0 0 0 0 0 0 0 0 0 0

SXCM ~~0 0 0 so 160 160 106 97 128 140 s0 0 0 0 0

3-6. ~~0 0 0 s0 g0 40 26 St 64 s0 0 0 0 0 0

44. 0 0 0 0 80 go 40 26 S1 64 s0 0 0 0 0

3-10. 0 0 0 0 0 40_ 40 20) 13 26 0 0 0 0 0

CU CM 200 400 S00 484 452 420 415 318 190 so5 0 0 0 0 0

3-Es s0 160 200 146 117 141 166 114 so ~ ( 0 0 0 0 0

44. 80 160 200 226 197 181 191 1ts 114 50 0 0 0 0 0

5-10. 40 so 100 113 13 98 s8 38 26 0 0 0 0 0 0

lYnxt 0 0 s0 160 160 106 97 12 140 s0 0 0 ~ 0 0 0

34. 0 0 80D 8 40 26 so6 0 0 0

48. 0 0 0A SD 80 40 26 St 64' 50 0 0 0 0 0

3-10. 0 0 0 0 40 40 20 13 26 0 0 0 0 0 0

BCK8ST 16 32 32 '21. 19 26 28 10 0 0 0 0

3-6. 0 0 0 16 16 8 5 10 13 10 0 0 0 0 0

44s. 0 0 0 16$ 16 8 3 10 13 10 0 0 0 0

5-10 0 0 0 0 0 8 8 4 3 5 0 0 0 0 0

EN RD 0 0 0 0 0. 0 16 16 24 21 26i 16 24 1S 15

346. 0 0 0 0 0 0 16 16 a 53 10 13 10 0 0

44. 0 0 0 0 0 0 0 0 16 16 8 s to 13 10

5-10. 0 0 0 0. 0 0 0 0 0 0 8 8 4 3 S

amN 0 0 0 16 48 s0 IS 88 90 97 81 Ss 31 15 0

3.4. 0 0 0 16s 32 40 29 23 28 33 23 t0 0 0 0

44. 0 0 0 0 16 32 40 45 39 36 38 33 23 10 0

3.10. 0 0 0 0 0 8 16' 20 23 28 20 12 8 5 0

INYS ~~2 1 2 3 4 5 23 28 38 40 41 39 35 22 8

1N4DB- 3 0 0 16 32 32 21' 19 26 28 10 0 0 0 0

ORSOB 3 3 3 19- 51 83 104 123 149 177 187 187' 187 187 187

LN AM 0 0 0 0 0 0 0 13 16 20 26 28 28 28 28

CU AM 0 0 0 0 0 0 0 13 29 49 74 103 131 139 187

LN BL 3 3 3 9 5 83 104 110 120 12 113 84 56 28 0

103

_ _ _- I-.-.-4 - - rI - ]. _---Bs*M Ratio 02 NW CMNo:C NeWvl

-1.0 - X Cm. .B3 C_._mu - -_

out SaDs (Fr Fin years) CUCM_ C_raV. c_n u. lolls

34s J 0.4 I I Yuis O oYear ackto Eposur

_4s 0.4 l8 Nw .ac..t ._- - - -A _ , - -CtT -" -aip - -

5410= 0.2 =N = W RON RedeN3tot==

Tranrog Shar.s OS. . __ _uogStoPS-SON HOldin_l

I ~~~~~~~0.4 OMV: L MM tw I -

2 OA_0.4 LN Utd. _Worm 111k Loa A,tdon

3 0.2 m-

kL _' I _ _ _S _ _ ~~~~~~~~CAPIT: i ,Foo=i_,l .,p- - - -- - I. V - -~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~

- - - - - - - - I. - -

CU I I CumhiwAnmduadm~~~~~~~~~~..

104

ASSET 2 1 2 19 52 85 108 117 128 1371 12 94 66 37

lINVS 2 1 2 3 4 5 23 28 38 40 41 39 35 22 8

StoNs 0 0 0 16 48 80 8s 88 90 91 81 SS 31 is 0

1.1A111.1 2 A 2 19 52 as 108e 11? 138 137 122 94 66 37 8TIES

LN DL 3 3 3 19 S1 83 104 110 120 128 113 84, 56 28 0

CAPIT -1 -2 .1 0 1 2 4 6 8 9 9 10 10 9 8

REVENUES AND COMT

lat 0.0 0.1 0.1 0.7 2.4 4.7 6.S 74 7.8 8.4 8.2 6.7 4.8 3.0 1.3

Il 0.1 0.1 0.1 0.5 1.6 3.0 4.2 4.8 5.2 5.6 5.4 4.4 3.2 1.9 0.6

lhttg 0.0 .01 0.01 0.2 0.8 1.7 2.2 2.5 2.6 2.8 2.7 2.2 1.6 1.1 016

Pec Y 0.8 2.3 3.4 3.7 3.5 3.3 3.1 2.7. 1.9 0.9 0.2 0.0 0.0 0.0 0.0

Pteo 1.4 1.7 1.9 2.0 2.0 1.9 1.9 1.81 1.6 1.3 1.1 1.0 1.0 0.9 0.8

Nt Pa .0.7 0.6 1.5 1.7 1.6 1.4 1.3 1.0 0D.3 -0.4 .0.9 .1.0 -1.0 .0.9 0.08

op. Y .07 0.5 1.4 1.9 2.4 3.0 35S 34 2.9 2.4 18s 12 06 0.2 402

blq8s 0.7 0.7 0.7 0.7 0.7 0.7 0.7 0.7 0.7 0.7 0.7 0.7 0.7 0.7 01l

Oatbi 0.1 0.1 01 1 0.1a 0.1 01 0.1 01 01 0.1 0.1 01 01 0.1

OpEip 08 as8 a I8 08$ 0 08s 0 0.8 08a 0.8 0.8 0.8 08 08 0.8

Net -14A .03 0.6 1.1 1.6 2.3 2.8 2.7 2.2 1.6 1.0 0.5 .0? -06 -1.0

YTax 0.04 0.01 0.2 0.3 0.5 0.1 8 0.8 0.7 0as 0.3 0.1 0.0 402 .0.3

YAffx -4A .0.3 I 0.4 0.8 1.1 1.4 119 1.9 *5 1.1 .07! 0.3 -01 .06 -1.0

4.00% LIar Raft hat Y. twust Riwast

0.75% U/ pedlt ntalpu

3.00% SONS Spread Ilr aeMargoi

0.750% Fee laj SRaea F . L . .. --

402% Of n'ni.& mmko tPs: __ P

0.40% Poa on U.ndisb. & UCoammitd op. Y. Net FerWn II-a0500 Phncalw Mamu itm Few Oalk. odurExpai

0050 OdherExpensis1 OPEip Tutd OperatIg ixpauw

j ~~~~Not Y: Nvtlacone efrTases

I I V~~~~ Yea. haome TM

~~~~~ -a-~~~~~~~Yfk lam aTU

,55= = - = -=-~ = _ - = =--* -= = = = 2 = SI = 5 = -= * = = e = -= -= = - -- = _ _ _ . _-=

L _ 0 0 0 o o0 o o e o o o e o 0 o o o -- R a a 0 e1 el 0 0 012

I 0 0 00 0 00 000 00 00 c0 o o o o o0 1° 122

1-0 0 0 0 00 0 0 0 0 -0 0 -°°°-0 °°°°°°°° °- w

00 0 _ c co a o__ F_so a *a o N 0 | g 87

- - -8 - -S o- ……………-R-1i- o- o- - o - - e- - l l

r- <8 a 8' O 00 O _ _ 8 0 00 00 00 0 0 - T

…- _ - -,ac 12°°°°oOO le l° 1"

L- 'a_ 88 a 000 _ -- 3 - 0 0000000,i |5 0 00 0 N 0 B~ 0 0 |

- =- = {--S=- -

I~~~~ -ITZ -

II sa a i XXll' 3

L-_ -e--_ =-e - ---- e

107-- - -- - - --- -

ASSEIl 2 1 2 43 124 207 W29 263 273 283 254 198 141 e3 25

INYS 2 1 2 3 4 7 51 63 91 99 104 96 87 53 25

l0OS 0 0 0 40 120 200 208 82 184 150 102 54 30 0- - -= -= a -== - -- a - - -=

I.ABIU 2 1 2 43 2W 259 265 273 283 254 19 141 83 25

LKlL 3 3 3 43 W 203 251 254 25? 264 234 175 117 58 0

CAP1T -1 -2 .1 0 1 4 S 12 15 18 21 23 24 25 25

REVENUES AND COS_,

ItY 0.0 0.1 0.1 1.5 5.8 11.5 15.7 17.1 17.1 173 16.5 13.6 9.8 6.3 2.9

[B 0.1 0.1 0.1 1.0 3.7 7.3 10.2 11A 11.5 11.7 112 9.2 6.6 3.9 1.3

loMi 0.0 40.1 40.1 0.5 2.0 4.1 5.5 5.7 5.6 5.6 53 4.4 3.2 23 1.6

Pe Y 0.8 2.3 3.4 3.6 3.2 2.6 2.2 1.9 1.4 0.7 0.2 0.0 0.0 0.0 0.0

Pe IS 1.4 1.7 1.9 20 1.9 1. 1.7 1.6 A 1.2 0.9 0.8 0.6 0.5 0.3

MPs . .07 0.6 15 1.6 1.3 0.8 0. 0.3 0.0 *0.5 .0.8 -0s *0.6 01 403

op.Y 0.7 05 14 2.1 3.3 4.9 6.0 61 S.6 5.1 4.5 36 2.6 1.9 1.3

M-gP 0.7 0.7 0.7 0.7 0.7 0.7 0.7 07 0.7 0.7 0J 07 0.7 0.7 0.7

O_& 01 0.1 01 0.1 0.1 0.1 0.1 01 0.1 0.1 01 01 0.1 0.1 '0.1

Opp 0 08 0.8 0.8 0.8 0.8 0.8 0.8 0.8 0.8 08 06 0.8 0.8 08

Net Y -1.4 *0.3 0.6 1A 2.6 4.2 52 5.3 4.8 4.3 3.8 2.9 1.9 1.1 0.5

Y Tx .4 .0.1 0.2 0.4 08 1.3 1.6 1.6 1A 13 1.1 0.9 0.6 0.3 02

YAfJt -IA .0.3 0.4 0.9 1.8 2.9 3.7 3.7 3.4 3.0 2.6 2.0 13 0.8 0.4

4.00% lJbor Rate Ju Y: ItuuI Reu"=

0.75% DM/S _a Jul E: nmat t Es

3.O% WOMS pea ir umtMIT& _

O-Bo wi = =m Pce Y: PM_, ==0.75% P. owmgPIN PNL : P _a

025% Pee an U_do A eaunlud Nt FE:

0.40% P, on Undb. & op. Y: No Opaat

0.200 AMvgPa:F= &W masnoum* PF_ _ _ _ _- I- -0.500 FIaa Maemm Fe OdE: )d_P1Me

0.050 Otd. Expams OpExp Todl Operatng E

.| | | | NeLY: No d I.. Bi Tes

I - - Y Tax: Jun11 TA X I - -

_ _ _ _ _ T _v_

= YAff~~~~~~~~~~~~~~~~ I.snieA*or Tuea~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~

108

ANNH

CAEU&M MAR DKCELOIZU ZPRQ

B. Suwadon

EX Perm im W29Objcie Xf/Wqs

1994-9S: H/Q Pteparaion for Task Manager 2.0Effectiveness

Field Launching and Tasc Mnager 3.0Promotion of BF Capital Mart Spec. 1.0

Lawyer 1.0

H/Q Takeoff of BF Task Manager 10.0IAWyer 5.0

Tota 22.0

1996-97: H/Q Review growth Task manager 10.0and Stucte ofCommitments

Review of key Task Manger 10.0policies

Review refme- Task Manager 8.0ment of Fund Lawyer 5.0procedur

Field Review of Policy Task Manager 4.02 Missions Program Capital Market

Supervision Spec. 4.0Capital Market 4.0Baning Spec.

Lawyer 4.0

Total 49.0

1998-2009 HIQ Performance Task Manager 55.0of Commitmns andDrawdowns and ofthe Fund's finan-cial performan

109

PY Period Place QObjectives Staff/Consul

Field Review progress Task Manager 6.02 Missions in achievement Capital Market/ 2.0

of capital market Baing Spec.developmentobjectives

Total 63.0

IBRD 20450

BOLIVIA / 60/

PARAG AY

. | t &, tAs <0W W X B R A ~~~~~~~~~~Z I l.- LI~ ~ANTIAGO! M

f~~ ~~ ~~ ~~~ INT ANT

SA~~~$A1

CHILE (. . . . c H I L~~~~~~B E s }3

RIO NEGRO

-4

. . .tRR OV . .

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