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SCCD: N.G.

AFRICAN DEVELOPMENT FUND Language: English Original: English

REPUBLIC OF MOZAMBIQUE

RURAL FINANCE INTERMEDIATION SUPPORT PROJECT

APPRAISAL REPORT

AGRICULTURAL AND RURAL DEVELOPMENT DEPARTMENT ONAR NORTH, EASTCENTRAL AND SOUTH REGIONS OCTOBER 2003

TABLE OF CONTENTS

Page Programme Information Sheet , Currency and Measures, List of Tables, List of Annexes , (i-viii) List of Abbreviations, Basic Data Sheet, Logical Framework Matrix, Executive Summary 1. ORIGIN AND HISTORY OF THE PROGRAMME 1 2. THE AGRICULTURAL AND RURAL DEVELOPMENT 2 2.1 Salient Features 2 2.2 Poverty and Food Security 2 2.3 Land Tenure 3 2.4 Policies and Strategies 3 3. FINANCIAL SECTOR 4 3.1 Salient Features 5 3.2. Policies and regulatory Framework 5 3.3. Savings and Mobilisation Outreach 6 3.4 Rural Finance Sub-Sector 6 3.5. Gender and Rural Finance 10 3.6. Health and HIV/ AIDS 10 3.7. Potential Demand and Constraints of Rural Finance 11 3.8. Interventions of Major Donor 13 4. THE PROGRAMME AND ADF PROJECT 14 4.1 Programme Concept and Rationale 14 4.2 Programme Area and Beneficiaries 16 4.3 Strategic Context 16 4.4 Sector and Programme Objective 17 4.5 Programme Components and Description 17 4.6 Programme Costs 20

The ADF Project 21

4.7 Objectives of the ADF Project 21 4.8 Description of ADF Project 21 4.9 Rural Finance Market and Interest Rates 24 4.10 Environnemental Impact 25 4.11 ADF Project Costs 25 4.12 Sources of Finance and Expenditure Schedule 27 5. PROJECT IMPLEMENTATION 27 5.1 Executing Agency 27 5.2 Institutional Arrangements 28 5.3 Supervision and Implementation Schedule 29 5.4 Monitoring and Evaluation 30 5.5 Procurement Arrangements 31 5.6 Disbursement Arrangements 32 5.7 Financial Reporting and Auditing 33 5.8 Aid Co-ordination 33

TABLE OF CONTENTS (cont’d)

Page 6. PROJECT SUSTAINABILITY AND RISKS 34 6.1 Recurrent Costs 34 6.2 Sustainability 34 6.3 Risks and Mitigating Measures 35 7. PROJECT BENEFITS 35 7.1 Financial Analysis 35 7.2 Benefits Analysis 35 7.3 Social Impact Analysis 36 8 CONCLUSIONS AND RECOMMENDATIONS 37 8.1 Conclusions 37 8.2 Recommendation and Conditions for Loan Approval 37 8.3 Recommendations and Conditions for Grant Approval 38 This report was prepared by M. W. Karuri, Principal Financial Analyst, ONAR.1 (Team Leader), S. Pitamber, Gender Specialist, ONAR, J. Coompson, Senior Agricultural Economist, ONAR.1, B. Sambe, Micro-finance Expert, OCMU following their mission to Mozambique in August 2003. Enquiries should be directed to the authors or Mr A. D. Beileh, Manager, ONAR.1 (ext. 3747)

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AFRICAN DEVELOPMENT FUND TEMPORARY RELOCATION AGENCY (TRA)

ANGLE DES TROIS RUES, AVENUE DU GHANA,

RUE PIERRE DE COUBERTIN, RUE HEIDI NOURA BP. 323, 1002 TUNIS BELVEDERE

TUNISIA TEL: (216) 71 333 511 FAX: (216) 71 10 34 35

EMAIL: [email protected]

PROJECT INFORMATION SHEET The information given hereunder is intended to provide some guidance to prospective suppliers, contractors and consultants and to all persons interested in the procurement of goods and services for Project approval by the Board of Directors of the Bank Group. More detailed information and guidance should be obtained from the Executing Agency of the Borrower. 1. Country: REPUBLIC OF MOZAMBIQUE 2 Project Title: Rural Finance Intermediation Support Project

(RUFISP) 3. Location: Nation-wide 4. Borrower: Republic of Mozambique 5. Executing Agency: Ministry of Planning and Finance (MPF) C.P 272 – Maputo-Mozambique Tel: 258-1-315040 Fax: 258-1-310493/315070 Email: [email protected] 6. Project Description: The Project will Comprise of four major components: A) Capacity Building and Institutional Development; B) Support to Outreach Expansion; C) Line of Credit; and D) Programme Management.

7. Total ADF Project Cost: i) Foreign Cost : UA 11.11 million (61%) ii) Local Cost : UA 07.53million Total : UA 18.64 million 8. Sources of Finance:: i) ADF Loan : UA 11.52 million ii) ADF Grant : UA 3.84 million iii) Fin. Institutions : UA 0.63 million iv) GoM : UA 2.65 million

Total UA 18.64 million 9. Date of Approval : November 2003 11. Estimated Starting Date : June 2004 for 6 years

12. Procurement of Goods : National Shopping 13. Consultancy Services: TA and Consultancy Services for Capacity Building and

Institutional support activities and studies; Service Providers/NGO to promote the Rural Finance Associations (RFAs) will be procured in accordance with the “Bank Group’s Rules of Procedure for Use of Consultants” through competition on the basis of a shortlist.

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CURRENCY EQUIVALENTS UA 1.00 = 29, 894 Metical (MZM)

USD 1.00 = 24,100 Metical (MZM)

WEIGHTS AND MEASURES 1 kilogram (kg) = 2.204 pounds (lb) 1 000 kg = 1 metric tonne (t) 1 kilometre (km) = 0.62 miles (mi) 1 metre (m) = 1.09 yards (yd) 1 square metre (m2) = 10.76 square feet (ft2) 1 acre (ac) = 0.405 ha 1 hectare (ha) = 2.47 acres

Fiscal Year

1 January to 31 December

LIST OF TABLES Table 1 Donor Support to Rural Microfinance sub-sector

Table 4.1 Summary of Programme Cost Estimates by Components Table 4.2 Sources of Programme Financing Table 4.3 Summary of Project Cost by Components Table 4.4 Summary of ADF Project Cost by Category of Expenditure Table 4.5 Sources of ADF Project Finance Table 4.6 Sources of Finance for the ADF Grant Table 5.1 Expenditure Schedule for the Project Table 5.2 Expenditure Schedule by Sources of Finance Table 5.3 Summary of Procurement Arrangements for ADF Project

Table 7 Summary of Financial Analysis of Sample Rural Enterprises

LIST OF ANNEXES

1. Map Mozambique showing Programme/Project Area 2. Brief Analysis of Key Financial Intermediaries 3. Fundo de Apoio a Reabilitacao da Economia (FARE) 4. Selection Criteria for Support to Outreach Expansion Activities 5. Selection criteria for Financial Intermediaries 6. Organisation Chart of the Programme/Project Implementation 7. Indicative ADF Project Implementation Plan 8. ADF Grant Matrix 9. Indicative List of Goods and Services 10. Bank Group Operation in Mozambique

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ACRONYMS AND ABBREVIATIONS ADB ADF AWPB BIM BoM CLUSA COSOP DNDR FAO FARE FFA FFHA FFPI GAPI GDP IFAD INDER MADER MBCI MFI MIC MMF MoP MPF NGO NORAD PARPA PCR PMT PROAGRI PRSP RUSP RUFISP SBAFP SME SIDA/ASD SOCREMO UNOPS USAID

African Development Bank African Development Fund Annual Work Plan and Budget Banco Internacional de Mocambique International Bank of Mozambique Bank of Mozambique Cooperative League of the United States of America Country Strategic Opportunities Paper Direcçao Nacional do Desenvolvimento (Rural National Directorate for Rural Development) Food and Agriculture Organisation of the United Nations Fundo de Apoio à Reabilitação da Economia Fundo de Fomento Agrário Fundo de Fomento da Hidráulica Agrícola Fundo de Fomento de Pequena Industria Development Fund for Small-Scale Industry Sociedade de Gastao e Financiamento para a Promocao de Pequenas Projectos de Investimentos sarl Gross Domestic Product International Fund for Agricultural Development National Institute for Rural Development Ministério de Agricultura e Desenvolvimento Rural Ministry of Agriculture and Rural Development Mocambique Banco Commercial e de Investimentos Mozambique Commercial Investment Bank Micro-finance institution Ministério da Industria e Comércio Ministry of Industry and Commerce Mozambican Microfinance Facility Ministério das Pescas Ministry of Fisheries Ministério do Plan e Finanças Ministry of Planning and Finance Non-governmental organization Norwegian Development Agency Plan for Reduction of Absolute Poverty Poupanca a Credito Rotativo rotating savings and credit Programme Management Team Agricultural Sector Public Expenditure Programme Poverty Reduction Strategy Paper Rural Finance Support Project Rural Finance Intermediation Support Project Sofala Bank Artisanal Fisheries Project Small and medium enterprise Swedish International Development Cooperation Agency Sociedade de Gastao e Financiamento para a Promocao de Pequenas Projectos de Investimentos Management and Financial Group for Promotion of Small Investment Projects United Nations Office for Project Services United States Agency for International Development

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MOZAMBIQUE: RURAL FINANCE SUPPORT PROGRAMME AND ADF PROJECT LOGFRAME MATRIX

Hierarchy of Objectives Verifiable Indicators Means of Verification Assumptions/Risks

Sector Goal: Contribute to poverty reduction.

1.1 Rural Poverty incidence and severity reduced from 70% to 50% by PY2010;

1.2 Improved household incomes;

• National income statistics; • Household income surveys; • Poverty assessment surveys

PROGRAMME/PROJECT OBJECTIVE

Programme Objectives: to improve access of rural households to financial services on a sustainable basis. ADF Project Objective: to improve access of rural households to financial services on a sustainable basis.

1.1 At least 1.6 million rural households accessing rural financial services by PY8:

1.2 120 additional RFAs established by PY6; 1.3 900 additional ASCAs established by PY8;

• Project Records; • Baseline surveys; • Impact studies; • Mid-term Review

• GoM implements programme as it is; • Rural communities are responsive to assistance

to organize them into financially viable groups/associations;

• Business climate is sufficiently dynamic to support viable financial service institutions;

• Policy and regulatory framework conducive to the development of different types of rural financial intermediaries.

1. Outreach of rural financial services expanded;

1.1 120 new RFAs established by end of PY6, 1.2 RFA membership increased from 9,000 to 27,000 by

PY 6; 1.3 MFI outreach rises from current 40,000 to over

100,000 by PY 6; 1.4 4 unions of (30 RFAs) each established by PY 6; 1.5 900 ASCAs established by PY 8 1.6 ASCAR membership rises from 4000 to over 24,000

by PY 8 1.4 Credit delivery and outreach enhanced

• Supervision Missions • Project Quarterly Progress Reports; • Reports of the contracted service providers • Mid-term Review • Impact assessment reports

• Financial Intermediaries willing to participate in the Programme;

• Continued favorable macro-economic conditions for rural and microfinance development;

• Rural communities willing to participate fully in the Programme;

• Financial intermediaries support the Programme

3. Policy and Regulatory Framework for rural finance improved;

3.1 A Rural Finance Policy Support Unit in MPF established by PY 1;

3.2 Strategic framework established and operational by PY 2;

3.3 Rural Policy Framework adopted by PY. 2 3.4 Operations Manual for MFI supervision developed

and operationalised 3.5 Self-regulatory framework for MFIs established; 3.6 65 Policy Dialogue sessions held; 3.7 29 national and regional exchange visits conducted; 3.8 8 rural finance forums held; 1.7 20 awareness building workshops


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viHierarchy of Objectives Verifiable Indicators Means of Verification Assumptions/Risks

PROGRAMME/PROJECT OUTPUTS

4. Line of Credit and Matching Fund Established and Operational;

4.1 Over 400,000 smallholder farmers on out grower scheme receive credit through financial intermediaries by PY8;

4.2 Over 27,000 RFAs Members receive credit by PY6; 4.3 Over 20,000 ASCAs members receive credit by PY

8;


5. Programme/Project Management Unit Established and operating smoothly;

Establish Programme Management Unit as a precondition for loan and grant effectiveness


Hierarchy of Objectives Verifiable Indicators Means of Verification Assumptions/Risks

PROGRAMME AND ADF PROJECT ACTIVITIES

1. Capacity Building and Institutional Development; i) Establish the Rural Finance Policy

Unit in MPF; ii) Develop a strategic Framework for

Rural Finance; iii) Develop regulatory framework for

Rural Finance; iv) Conduct Policy Dialogue; v) Training staff of MPF, FARE, MFIs

& BoM; vi) Provide Technical Assistance to

MPF, FARE and BoM; vii) Establish the MFIs Association; viii) Promote RFAs formation; ix) Promote formation of ASCAs x) Recruit Service Providers; xi) Procure vehicles & office equip; xii) Provide technical training for staff; xiii) Conduct exchange and study tours; xiv) Pay Salaries & O & M costs

Programme Cost by Component: (in Millions) i) Policy, Legislative and :UA 02.93 Institutional Support ii) Innov. and Outreach Facility :UA 11.15 iii) Support for Community-based :UA 09.00 Financial Institutions, iv) Programme Management: :UA 04.36 v) Contigencies :UA 01.71 Total : UA 29.15

• Loan Agreement; • Disbursement Records\ • Supervision Missions and Reports; • Project Accounts; • Audited Accounts for the Project; • Mid-term Review

• Continued favorable macro-economic conditions for rural and microfinance development;

• Rural communities willing to participate fully in the Programme;

2. Support to Outreach Expansion: i) Develop new products and approaches

to rural finance; ii) Disseminate new approaches to rural

finance; iii) Provide matching funds for the

Outreach expansion activities;

Programme Financing (in millions): ADF Loan : UA 11.52 ADF Grant : UA 03.84 IFAD : UA 06.66 Norwegian Fund : UA 02.63 MFIs : UA 00.90 GoM : UA 03.60

viiHierarchy of Objectives Verifiable Indicators Means of Verification Assumptions/Risks

Total : UA 29.15 3. Line of Credit

i) Provide credits to RFAs, ASCAs and other rural financial Intermediaries;

ADF Project Costs (in millions): i) Capacity Building & Instit. Dev.UA : 5.72 ii) Outreach Expansion UA: 3.00 iii) Line of Credit UA: 8.10 iv) Programme Management UA : 0.73 v) Contigencies UA : 1.10 Total UA : 18.64

4. Programme Management Unit: i) Procure vehicles; ii) Procure office equipment; iii) Conduct inception workshops; iv) Conduct mid-term review; v) Conduct studies; vi) Conduct thematic surveys; vii) Recruit local and foreign technical

support; viii) Conduct training of staff; ix) evaluate line of credit proposals; x) Conduct impact assessment

reviews and studies; xi) Conduct study on Gender in rural

finance; xii) Provide TA for the PMU

ADF Project Financing (in millions): ADF Loan UA 11.52 ADF Grant UA 03.84 Fin. Institu. UA 00.63 GoM UA 02.65 Total UA 18.64

Activities in Bold are not co-financed by ADF

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EXECUTIVE SUMMARY 1. Programme and ADF Project Background:

The lack of rural financial services in Mozambique is recognised as a major constraint to the commercialisation and the development of agricultural production, small-medium scale enterprises, improved market linkages, and more broadly, to the development of the rural economy. Although, there have been some scattered and at times important initiatives in the rural finance arena, these have been sporadic, and often concentrated on individual Microfinance intermediaries, or credit activities within individual agricultural, fisheries or marketing projects. These initiatives have not been developed within a comprehensible planning and policy framework. Consequently, little or no momentum has been built, initiatives have remained limited in scope, little local capacity has been created, and the institutions involved have rarely been able to attain financial viability and sustainable operations. The Proposed Rural Finance Support Programme and within it the ADF funded Rural Finance Intermediation Support Project is an outcome of a diagnostic study commissioned by the Government in July 2001, and undertaken by IFAD. 2. Purpose of ADF Loan: The ADF loan of UA 11.52 million and Grant of UA3.84 million, equivalent to 82.4% of the total project cost, will be used to finance 100% of foreign cost exchange (UA11.00 million) and 56% of local cost of (UA 4.25 million). 3. Sector Goal and ADF Project Objectives: The Sector Goal is to contribute to poverty reduction by improving the livelihoods of rural households. The ADF Project Objective is to improve the access of rural households to sustainable rural financial services. 4. Brief Description of the ADF-Project Outputs: The ADF Project will support activities under four major components: (A) Capacity Building and Institutional Development; (B) Support to Outreach Expansion (C) Line of Credit; and (D) Project Management. 5. ADF-Project Cost: The total ADF project cost is estimated at UA 18.64 million of which (11.11 million (60%) will be in foreign currency and UA 7.53 million (40%) will be in local currency. 6. Sources of Finance: The Project will be financed by the African Development Fund, the Participating Financial Institutions and the Government of Mozambique. The ADF Grant of UA 3.84 million will finance the Capacity Building and Institutional Development component, while the Loan of UA 11.52 million will finance the Line of Credit and Matching Fund. A matrix of the measurable indicators of the activities funded by the grant is attached as annex 8. 7. ADF-Project Implementation: The Project will be implemented over a six-year period. The Ministry of Planning and Finance (MPF) will be the executing agency. The day-to-day management and coordination will be under a Programme Management Unit to be established within the Fundo de Apoio à Reabilitação da Economia (FARE). FARE was established by the Government under Decree 20/92 in 1992, within the Ministry of Finance as a vehicle for implementing Government programs for economic rehabilitation and poverty alleviation in most deprived communities. 8. Conclusions: The Programme and the ADF Project are consistent with the Bank Group overall strategy and Vision for the promotion of rural and micro finance systems. It is also within the national strategies and policy direction of the GoM of extending affordable and sustainable financial services to rural areas to support economic growth and poverty reduction.

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1. ORIGIN AND HISTORY OF THE PROGRAMME 1.1 Mozambique is ranked as one of the world’s poorest countries, 170 out of 173 countries on the Human Development Index (UNDP 2002). Some 70% of the population is estimated to live below the poverty line, in a country, rich in under-exploited resources. 80% of the 18.3 million population is found in rural areas. The country’s Plan for Reduction of Absolute Poverty (PARPA) states that the Government shall promote rural development to guarantee the needs of the majority of the population, and the social and economic progress of the country. The agricultural sector, including forestry and fishing is the major source of employment and income generation to the vast majority of the rural population. The lack of rural financial services is recognised as a major constraint to the commercialisation and the development of agricultural production, small-medium scale enterprises, improved market linkages, and more broadly, to the development of the rural economy. 1.2 In July 2002, the Government of Mozambique (GoM) requested IFAD to undertake an inventory study to review rural finance policies, activities and institutions, assess past and present donor/NGO interventions, and analyse challenges and constraints facing the rural finance sub-sector. The study was to assess the experiences of financial intermediaries and other institutions active in the sub-sector, the potential demand for financial services, and the capacity of these institutions to respond to the demand. The study and subsequent stakeholder consultations, highly recommended that in order to move forward, the Government had to take the lead, in providing a conducive policy and regulatory environment within which the rural finance system could be developed. The study also recommended that new opportunities and mechanisms to promote the development and expansion of rural finance be explored. 1.3 IFAD was requested to formulate a programme along the lines recommended by the study, and the mission to formulate a “Rural Finance Support Programme” (RUFSP) was undertaken in September 2002. An official request for the Bank to co-finance the Programme with IFAD and NORAD was received on 29th April 2003. Consequently, Bank Group missions to prepare and appraise the ADF funding within the Programme, under the title of “Rural Finance Intermediation Support Project” (RUFISP) were undertaken in May and August 2003, respectively. During the missions and the subsequent CSP-preparation and dialogue missions, the GoM has reiterated its desire and commitment in supporting the development of a sustainable and affordable rural finance system. The Rural Finance Intermediation Support Project encompasses the activities of the Programme to be funded by ADF. 1.4 The proposed Programme is an outcome of extensive stakeholders consultations conducted by the IFAD conception and formulation missions, through a series of workshops. Subsequent consultations were held by Bank Group missions during the preparation and appraisal of the ADF-Project, with the concerned ministries, departments and agencies of the GoM, the banking sector, micro-finance operators (MFIs), Non-governmental organisation (NGOs), farmers and traders associations, credit unions/associations, as well as, various donor representatives in Mozambique. The ADF Project follows the Operational Guidelines for the Rural Financial Sub-sector approved by the ADF Board of Directors, in 2002. The intervention is in line with the Bank Group Strategy for support to agricultural and rural development and the Vision Statement, which emphasises the expansion of the scope of the Bank’s development assistance in rural finance beyond the traditional lines of credit associated with directed credit, to programmes which reinforce best practice financial intermediation, and which promote poverty reduction.

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2. AGRICULTURE AND RURAL DEVELOPMENT 2.1 Salient Features 2.1.1 Mozambique has one of the best natural agricultural production potentials in Africa. The agricultural sector, including fishing and forestry, remains the mainstay of the Mozambican economy although its importance has declined in recent years mainly due to natural calamities and increased dynamism of other sectors. The sector’s contribution to GDP fell from 30.2 percent in 1998 to 23.5 percent in 2002. It is estimated that it generates about 80 percent of the country's export earnings, and provides employment to 78 percent of the economically active population. Of the country’s total land area of 78.6 million ha, about 46 percent (36 million ha) is considered suitable for cultivation. However, only about 10 percent of this arable land is currently cultivated. Smallholders comprise some 3 to 3.5 million households that cultivate on average 1.8 ha each and account for 95% of the cultivated area, while commercial farms account for the rest. Use of aagricultural input by smallholders is almost exclusively for cotton and tobacco production (under the direction of commercial companies), or vegetable and fruit production in the “Green Zones” surrounding the larger urban areas. 2.1.2 The policy environment within the agricultural sector has substantially improved since the Government embarked on its structural adjustment programme. In addition to divesting state farm holdings and distributing state farmland to smallholders and private enterprises, all agricultural commodity prices were decontrolled and marketing of agricultural commodities was liberalized by 1995. The liberalized environment in the crop farming, livestock rearing and forestry sub-sectors has significantly increased the opportunities for profitable activity in these areas. However, the smallholder farmer cooperatives need to be assisted with inputs, training, micro-credit facilities, and marketing infrastructure for them to fully exploit the opportunities created by the liberalized environment. The lack of credit has contributed to the inability of rural households to adopt improved production technologies, diversify their income base and to better cope with external shocks such as droughts, floods and illness. 2.2 Poverty and Food Security 2.2.1 Poverty in Mozambique is extensive, with about 70% of the total 18 million population, and 62% of the urban residents living in absolute poverty. While poverty is widespread throughout the country, it is more severe in rural areas, where almost 71% of people live in poverty. Poverty analysis shows that the main determinants of poverty in Mozambique, are: (i) slow growth of the economy until the beginning of the 1990s; (ii) low levels of education of working age household members, particularly women; (iii) high dependency rates in households; (iv) low productivity in the family agriculture sector; (v) lack of employment opportunities within and outside of the agricultural sector; and (vi) poor infrastructure, especially in rural areas related to agriculture. Moreover, since the vast majority of people are employed in agriculture, poverty in Mozambique is exacerbated by several factors mainly: the isolation and poor market integration of rural households, inadequate financing, the weak coverage of basic services, training, inadequate inputs and appropriate technology, as well as the continuous threat of natural disasters such as drought and floods. Due to this, a large number of the population depend on remittances from migrant workers, and other agriculture related products such as firewood and charcoal production, petty trade and occasional off-farm employment. 2.2.2 The first major poverty reduction policy called the Strategy for Poverty Reduction in Mozambique was drafted in 1995. A major weakness of the strategy was that it did not propose specific actions in terms of target groups, goals, and mechanisms for coordination and collaboration of the different social actors in the fight against poverty. In response, the country’s Council of Ministers

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approved in 1999 the Action Guidelines for the Eradication of Absolute Poverty, from which evolved the Plan for Reduction of Absolute Poverty (PARPA) as a means of operationalizing the Guidelines. PARPA, which constitutes Mozambique’s PRSP, has become a key government-planning instrument. It provides a medium and long-term planning tool for promoting a focus on poverty reduction in the allocation of public resources and is the policy framework within which the other initiatives are addressed. Basically, the PARPA reflects the objectives contemplated in the different national and sectoral strategic plans. It aims to reduce absolute poverty from 70% in 1997 to less than 50% by 2010. 2.2.3 The Government’s Food Security Strategy was approved by the Council of Ministers in December 1998. The Strategy envisages the implementation of policy measures that ensures greater stability in family resources through (i) increased output, (ii) diversification of subsistence crops, (iii) expansion and diversification of income generation opportunities through agricultural and non-agricultural activities, and (iv) better knowledge of food production and conservation technologies. The Strategy emphasize the importance of economic growth and the development of human capital as fundamental pillars in the process. It specifically mentions the need to: (i) create a marketing network able to provide the necessary productive inputs and to guarantee that agricultural surpluses are bought; (ii) create a rural financial system capable of supporting production activities and marketing by small and medium farmers and traders; (iii) promote access to capital by small and medium traders in order to stimulate marketing and competition; and (iv) promote nutrition education on healthy eating habits, as the core activities aimed at ensuring food security. 2.3 Land Tenure

Under the country’s land tenure system, ownership of all land is vested in the State. However, to protect the ownership rights of the family sub-sector, the Government passed the Land Law in 1996, asserting the customary tenure system and requiring that outsiders who wish to obtain land use rights must negotiate with the customary occupants and their communities. Land tenure patterns are broadly similar throughout the country, although customary practices in the different localities may differ. Land is accessed through inheritance, traditional village authorities, government programmes and by borrowing it. Secure land access documents are rare and costly to obtain, although the Land Law (Lei de Terra - Lei 19/97) recognizes traditional and squatter rights to land. The constitution also makes it obligatory to consult local communities when processing land titles. Land for smallholder needs is not a constraint in most areas. Many areas of the country are lightly populated, while two out of the 10 provinces (Nampula and Zambezia) contain 40% of the population. Generally, Mozambique has abundant land though land pressure is becoming an issue in some areas along the coast, in peri-urban areas and along major transport corridors. Women’s rights to land are guaranteed under the constitution and inheritance is recognized with no gender distinction, with the constitution in this regard taking precedence over customary norms. However, in practice, female rights are often unrecognised under customary law. The constitutional legal protection is insufficient, and there is need for it to be accompanied by regulatory enforcement mechanism. The Law equally calls for community participation in the conservation of natural resources, the resolution of conflicts over and the identification of the limits to the land they occupy. 2.4 Policies and Strategies 2.4.1 The Government with the assistance of the donor community is currently in the process of formulating its Rural Development Strategy (RDS). The underlying philosophy of the process is to ensure (i) wide participation of all stakeholder - public and private – that will be impacted by the RDS; and (ii) full government ownership throughout the process. It is expected that the strategy would be ready by December 2004. The strategy is expected to provide an umbrella for all sectoral development

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programmes and strategies in the rural areas. The strategy recognizes that the reliance on markets and prices to allocate most types of goods and services leads to more efficient outcomes than the use of Government’s regulations and enforcement agencies. This move towards a market-based economy has allowed the Government to focus more sharply on more essential roles in the development process such as: (i) the establishment of an enabling policy environment to promote production and efficiency; (ii) the provision, directly or through contracting, of public goods (research, extension, infrastructure, social. 2.4.2 The main tenets of the Government’s strategy for the development of the rural sector is based on private sector development and ensuring the conservation of the country’s natural resource base. The principal vehicle for the implementation of the Government’s strategy for the development of the agricultural sector, the dominant sector in the rural economy, is embodied in the National Programme for Agrarian Development (PROAGRI) initiative. This multi-donor agricultural investment programme, aims to: (i) raise the productive capacity and productivity of agriculture, forestry and animal husbandry in the family sector using labour-intensive technologies, and sustainable management of natural resources; (ii) guarantee rights of access to land and reduce the bureaucracy associated with land registration; (iii) promote the marketing of agricultural and livestock products, and facilitate the marketing of surpluses and access to markets (for factors of production as well as credit); and (iv) reduce the vulnerability of households and chronic food insecurity. PROAGRI is approaching the end of Phase 1. MADER is currently in the process of defining the programme for a second phase that is scheduled to start in 2005. The first phase concentrated primarily on reorganization, rationalization and capacity building of MADER. A second phase is under formulation to run from 2005-2010. The scope is still being discussed but it is thought likely to principally focus on agricultural production enhancing investments. 3. FINANCIAL SECTOR 3.1 Salient Features

Currently, the financial system consists of banking and non-banking intermediaries, including: 10 commercial banks, 1 investment bank, 1 microfinance bank, 3 leasing companies, 3 credit cooperatives, 2 venture capital companies, 16 microfinance institutions, 1 Bulk Purchase Management Company, 5 insurance companies, a Social Insurance Fund, 6 Government Development Funds and 30 exchange bureaus. The Bank of Mozambique (BoM), which is the Central Bank was established in May 1975, and has the responsibility of setting the supervisory and regulatory framework for delivery of financial services. Its main function is to preserve the national currency value, orientate the credit policy, discipline-banking activities, and act as a Government counsellor in financial maters. The financial system is dominated by commercial banks. While the number of commercial banks has increased in recent years, the volume of their business is still small. In June 2001, the total deposits in the banking system were approximately USD 850 million, representing 22% of GDP. The Banking sector is highly concentrated, with the market leader, Banco Internacional de Mocambique (BIM), accounting for 44% of total banking assets and 40% of total branches. Ccommercial banks operate almost solely in the larger urban centers, with most of their activities concentrated around Maputo. Rural areas are characterised by lack of financial services, which would typically be provided by commercial banks.

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3.1 Policies and Regulatory Framework 3.1.1 The financial system in Mozambique is regulated by the banking law No.15/1999 which defines the types of institutions that are allowed to conduct financial sector operations and the requirements for registration under each institutional category, as well as the supervisory role of BoM. Under the 1992 reforms of the financial sector, the BoM’s three main functions (central bank, money issuing bank and commercial bank) were separated, with BoM keeping only its central bank and money issuing functions. This created an opening for the entrance of new private, public and non-governmental operators in the financial sector, while at the same time reinforcing BoM’s mandate and ability to regulate and supervise financial sector operations. As a policy incentive to promote the establishment of financial services in rural areas, under Banking Decree 47/1998, credit institutions operating in areas out of Maputo are allowed a reduced equity capital requirement of MZM 25 billion (approximately USD 1 million) instead of the usual USD3.00 million. There is no clear evidence yet of any impact derived from this incentive. 3.1.2 The financial institutions registered under decree 47/98 and amendment 1/GGBM/1999, include the micro-finance institutions. These institutions are not allowed by law to mobilise savings/collect deposits, although they do provide credit to their clients. This does not contribute to the promotion of savings, which is a basic condition for development, and also reduces the potential viability of these institutions. While these institutions report semi-annually to the Supervision Department of BoM, their operations are not yet supervised by it. Recognizing this constraint, a group comprising MADER, the Mozambican Microfinance Facility (MMF) and some MFIs has elaborated a draft of a ‘Microbank Bill’ that was presented to BoM management in May 2002. According to this draft, the minimum capital requirement for deposit-taking MFIs would become approximately USD 0.5 million and registered MFIs would be able to operate savings accounts, collect cheques but not operate current accounts. It is also expected that under the proposed new Banking Law, which provides a framework for rationalizing the existing decrees and the strengthening the mandate of BoM to supervise the financial sector, the question of provision of rural financial services will be revisited. The BoM has recently established a Task Force under the Supervision Department to focus on micro and rural finance, which is an indication of increased interest by the bank in the development of these issues. 3.1.3 Currently, the Government does not have a focal point for the development of rural finance. In 1999, the GoM mandated the National Institute for Rural Development (INDER), a multi-sectoral rural development organisation, to act as a focal point. INDER has since been closed as an independent institution and its functions, including rural finance and microfinance market development, became a part of the National Directorate of Rural Development (DNDR) of MADER. During its two years as focal point for the development of rural finance, DNDR has focused solely on the microfinance sector. Its programmes for microfinance development, include the MicroStart and Upstream projects funded by UNDP, CIDA, the Bank Group (AMINA-Project) and others. As DNDR focus is on microfinance development, this leaves a gap in the policy development for rural finance. Since rural finance issues cut across various sectors, there is need to identify a neutral institution, which can coordinate its development across all sectors. The BoM prefers to focus on regulatory and supervisory tasks and avoids any lead role or even active participation in the promotion of the rural finance. The Ministry of Planning and Finance which has oversight over all government ministries and agencies, has been found the most ideal to direct the development of rural finance policies and strategy.

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3.3 Savings Mobilisation and Outreach 3.3.1 Savings: Savings mobilisation from the public by Mozambican financial intermediaries is poorly developed in the urban, peri-urban and particularly in the rural areas. The range of savings instruments available in commercial banks is restricted to a small segment of the population and almost totally absent in rural areas. The minimum capital required to open a savings account in a commercial bank is MZM 5 million, or USD 208, which is a very high figure in a country with a per capita GDP of USD 250 and a minimum monthly wage of US 25. Consequently, most people have no dealings with banks, neither as borrowers or savers. Only 1.8 million Mozambican had a bank account at the end of 2002 (or 10% of total population). Financial institutions registered under decree 47/98 and amendment 1/GGBM/1999, including micro-finance institutions are still not allowed by law to mobilise savings/collect deposits. The low level of savings in Mozambique (4% of GDP) acts as a brake on the development of the economy (and source of continued dependency on external development assistance). Raising the rate of domestic resource mobilisation is a one of the major economic challenges facing the country and will be addressed within the Proposed Programme. There is need to review policies which affect as experience from the northern part of Mozambique clearly indicate that even poor households are willing to hold savings deposits if given the opportunity, positive incentives and high quality services accessible to the villages. Furthermore, the demand for financial services in rural areas will grow, if, through regular savings, small consumption and production loans can be obtained. 3.3.2 Credit: Commercial banks operate almost solely in the larger urban centers, with most of their activities concentrated around Maputo. Commercial banks are not inclined to service low-income business or households. Due to the high lending interest rates charged on loans in local currency in Mozambique, a high proportion of credit in banking portfolios is in foreign currency (49% of outstanding loans). Although commercial banks in Mozambique are extremely liquid, their share of total loans to total deposits in the sector has been at a very low level, fluctuating between 50% and 52%. The active domestic borrowing by the Government has provided an easy outlet for the banks for short investments at high interest rates and practically no risk. Consequently, banks have invested less in their portfolios and the overall availability of bank credit in the country has been very limited. Further, even when the inflation has declined to single digit figures, the interest rates on bank loans have remained high. In May 2003, the average cost of mobilising funds in the commercial bank sector was estimated to be 7%-10%, while the lending rates fluctuated between 30% and 42%. 3.3.3 At the end of 2001, loans to agriculture were only 17% of the total commercial banks’ portfolio, having declined from 22% in 1999. The particular feature is that, all loans to the rural sectors were to large-scale producers, large traders and processors. Of the agricultural loans, some 80% were allocated to the large companies in the cotton, sisal and sugar industries. Thus, while lending to sectors outside commerce is in general very limited in Mozambique, loans to rural areas are few and in practice always target large corporate borrowers. 3.4 Rural Finance Sub-sector 3.3.4 Overview: Whilst progress has been made in liberalizing and transforming the Mozambican financial sector, substantial deficiencies still remain as the financial system does little to address the needs of the poor, and their financing needs remain largely unmet. The privatisation of the banking industry and increased foreign ownership, has instead, resulted in a decrease in the number of rural agencies and branches from 290 in 1997 to 201 in 2002. The geographical location of bank branches has also changed, as new ones have tended to be established in urban areas while the ones closed were mostly those in rural areas. The outreach of existing financial services in rural areas is therefore very

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limited in terms of product diversity and in reaching low-income households. The microfinance industry, while showing impressive growth in recent years, is still small and almost totally urban in its orientation. To fill the vacuum created by the absence of the commercial banks, attempts have been made to expand basic financial services to rural areas through government development funds and specialised credit institutions. While some progress has been achieved through these arrangements, the volume of operations has generally been small and the sustainability of activities has depended on continuous donor support.

Rural Finance Institutions 3.4.1 The key institutions providing financial services or with the potential to provide financial services to rural households are: Commercial Banks; MFIs; Registered Special Credit Institutions; State Owned Development Funds (Fundos); Credit Cooperatives; Non-Financial Rural Credit Service Providers; Community-based Financial Institutions. These institutions are supported at the policy level by the Bank of Mozambique; and the Ministry of Planning and Finance. A brief review of each of this category of institutions, strengths and weaknesses is given below. 3.4.2 Commercial Banks: The core issue concerning commercial banks in the design of any rural finance support programme is that they have very little linkages with the rural economy, in general, and with small and medium-scale agriculture, in particular. No rural district in Mozambique has commercial banking facilities. Of the 227 commercial bank branches, 103 are in Maputo city and nearly all the rest are in provincial capitals. 3.4.3 Microfinance Institutions: Given the preference by formal banking system to concentrate their efforts on a limited (mainly urban and corporate) clientele, MFIs have a potentially important role of serving the majority of the population, particularly in rural areas, with financial services. The microfinance sector in Mozambique consists of some 50 organizations providing credit services as their main activity of which 29 are registered with the BoM. Most of the credit institutions are NGO-based associations and the larger ones are often linked to and supported by a foreign parent organisation. The sector includes also seven (7) small institutions registered as Credit Co-operatives, four of which are functional and serve a predominantly urban clientele. Because of the size and type of their operations, also two formal sector operators, Novobanco and SOCREMO are sometimes considered as part of the microfinance sector. The microfinance activities in the country are currently very small. While the client numbers have more than doubled in the past two years, the whole sector still serves only some 40 000 clients. The total portfolio of the microfinance sector is also very low, approximately USD 4 million. The microfinance industry, while showing impressive growth in recent years, is small and almost totally urban in its orientation. Factors adversely affecting the viability of MFI operations in rural areas include: the high operational costs associated with long distances, poor infrastructure, often low population densities, high cost and lack of skilled personnel and the limited level of monetization in rural areas. Their lack of experience with agriculture and other rural based systems further complicates the problem. There is need to build the capacity and provide necessary incentives to MFIs to extend financial services to rural areas. 3.4.4 Registered Special Credit Institution: In the absence of commercial banks or mature MFIs operating in rural areas, donors have promoted special credit institutions as the option for providing credit to rural areas. These institutions operate under a no deposit taking licence and a minimum required capital of approximately USD 1 million. Most are dependent on donor funding but have plans to organise themselves as more independent financial operators. The four dominant development credit institutions are: (i) Sociedade de Gastao e Financiamento para a Promocao de Pequenas Projectos de Investimentos, SARL (GAPI), (ii) Asociation Monzabiquan para o’Desenvol Vimento Rural

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(AMODER), (iii) Fundo de Fomento a Pequana Industria (FFPI), and (iv) Sociedade de Crédito de Moçambique, SARL (SOCREMO). Two of them, GAPI and SOCREMO, are registered as credit institutions (minimum share capital USD 1 million), AMODER is an association with a basic microfinance license and FFPI is a state-owned development fund which is in the process of being registered as a formal credit institution. As these institutions are expected to play a key role in the delivery of financial services to rural households under the Programme, they have been analysed in more detail in annex: 2. 3.4.5 While the Special Credit Institutions provide a rare link to the rural population, their coverage and operations still remains small. Due to the current regulations, none of them operates a formal savings facility for their customers, which is a serious obstacle for effective financial intermediation and sustainability. Furthermore, as they have often been the only channels to reach the rural communities with credit, donors have heavily supported their operations and outreach. Although their human resources and institutional capacity to respond to the donors and client demands for fast growth have been limited, there is a positive sign that serious efforts are currently being made to streamline their operations and to prepare appropriate strategic plans for their balanced growth. 3.4.6 The State Owned Development Funds (Fundos): Populary known as Fundos, these are typically Mozambican instruments to support economic development. Fundos operating in Mozambique include: i) Fundo de Fomento Agrário (FFA), ii) Fundo de Fomento da Hidráulica Agrícola (FFHA), iii) Gabinete de Promoção de Emprego (GPE), iv) Gabinete de Promoção de Pequenas Empresas (GPPE), v) Fundo de Apoio à Reabilitação da Economia (FARE) and vi) Fundo Fomento Pesqueiro (FFP). The Fundos have been engaged in various kinds of development activities in their respective sectors, including wholesaling and retailing credit operations. In recent years, most of the Fundos have received very limited funding, coming mostly from government (mainly ministry reflows from levies and taxes collected) and some from donor sources. The technical and financial capacity of the fundos in credit management has been limited, which has adversely affected credit assessment and recovery. The most serious handicap for effective credit operations by the fundos is related to their image as government development institutions. The perception by recipients of loans managed by these institutions as Government grants, has had adverse effect on loan recovery. This is because they often offer from the same ‘window’ various types of grant-based extension and promotion services, as well as loans. The Government has initiated a study into the operations of the existing Fundos, which has recommended that they should not in future engage in retailing of credit. The most important of these is FARE, which was established in 1992 by the Ministry of Planning and Finance to channel funds raised from the privatisation of public institutions to rural based small and medium enterprises. FARE has been designated by the Government to manage the proposed Programme. More detailed analysis of FARE is given in annex 3. 3.4.7 Credit Cooperatives: These are member-based institutions with a minimum capital of USD 8,000 and the right to collect savings only from their members. The current credit cooperatives include i) Tchuma (a microcredit cooperative), ii) the Caixa Comunitária dos Micro-empresários de Ulongué iii) Cooperativa de Crédito para o Desenvolvimento Rural, iv) Cooperativa de Poupança e Crédito(CPC) all falling under the General Union of Cooperatives (UGC). UGC was formed by the agricultural co-operative of Maputo in the 80’s as a service co-operative and support structure. More details of UGC are given in annex 2 of the report. The UGC has implemented credit components within Bank funded projects in the past including the Family Income Enhancement Project. UGC is a viable intermediary for channelling rural support under the proposed Programme.

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3.4.8 Non-Financial Rural Credit Service Providers: An important feature of Mozambican rural landscape is the presence of large commercial outgrowing/agro-processing operations mainly in the cotton and cashew nut. These are run by local enterprises often affiliated with international companies and in a number of cases in joint ventures with government. They are by far the biggest providers of agricultural credit, through the agricultural inputs that they make available to the outgrowers on a credit basis. Some 400,000 smallholder families work on these schemes, representing about 12% of the rural population. Usually the outgrower companies link loans to the obligation of selling the produce to them as a guarantee. Examples include cotton ginneries and tobacco processors. There is no reliable data on the amounts of in-kind credit these companies annually give to their outgrowers. Farmers receive credits in kind ranging between MZM 1.5 –2.0 million per acre on the tobacco and cashew outgrower schemes. Assuming an average of one acre each and an average of MZM 1.75 million (UA72) each, this would amount to approximately UA 29.00 million in a single season. It is understood that most of the funds of the large foreign-controlled agricultural companies come from abroad, as credit from the local banking sector tends to be costly. As a pilot initiative, the development finance company GAPI has entered into an arrangement with Agrimo one of the larger agricultural companies, to provide seasonal loans to its outgrowers. The potential of linking the outgrower schemes with local financial intermediaries is high. Sales by large and medium traders of materials on credit to customers and smaller traders is also another type of credit transaction made by non-financial service providers in rural areas. 3.4.9 Informal Community-based Financial Institutions and other Sources of Credit: Due to the limited outreach of the formal financial intermediaries especially in rural areas, the majority of the Mozambican population has to resort to traditional informal systems for their savings and credit requirements. The most common sources of credit are friends, neighbours and relatives. The most common type of informal savings and credit arrangement in Mozambique is the xitique. These are simple rotating savings and credit groups in which all members contribute on a daily, weekly or monthly basis and one member traditionally receives the whole collected amount. These groups are easy to operate, as there is little financial management involved. As savings are collected and the ‘loans’ issued in the same meeting, transaction costs are low in amount and time. 3.4.10 These informal community based savings and credit systems, have provided the inspiration and basis for a number of NGO-supported savings and credit initiatives. The most important of these are the CARE-supported Poupanças e Crédito Rotativo (PCRs) and the Insitut de Recherche et d’application des methodes de Develloppement (IRAM) supported Caixa Comunitária de Crédito e Poupança (CCCPs) commonly known as community-based Rural Finance Associations (RFAs). Both started operations at about the same time, in 1997/8 and both have developed sound models for creation of savings systems at the community level, linked to the provision of credit. These are self-managed and self-sustaining operations with simple management procedures and suited to rural communities. They focus on low-income communities and have high involvement of women as a key target group. The approach is particularly adapted to even remotest rural communities. 3.4.11 Total RFA membership in December 2002 was 9 500 members, of which 6 000 were active members of 55 RFAs. The associations are registered as legal bodies under the Law 49/98 regulating associations. The associations have the capacity to manage the deposit and credit activity of members. RFAs have up to 500 members-with an average of 92 members in Cabo Delgado (given that most associations are young) and 250 in Maputo. The strengths of this methodology is that it relies on local management, decreasing the need for long-term external assistance. Evidence suggests that this methodology has a much lower turnover of clients than experienced in MFIs. Little to no fraud occurs in the RFAs, as association members are less likely to steal from fellow community members. RFAs are formally structured, they have elected management and fiscal committees and are registered as

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legal bodies. They have been established through NGO assistance, which provides management and auditing assistance during their establishment. It has also been found that the promotion of RFAs in densely populated regions is easier than in scarcely populated ones. Development of such associations in more dispersed areas may require smaller groups. 3.4.12 RFA members receive credit by organising themselves in small solidarity groups of five members, with all members of the group receiving loans at the same time. Loans are for trade and agriculture and start as small as MZM 500.000 (USD 20) and interest ranges from 3% to 4.5% per month. Repayment rates are high and good RFAs manage to attain financial self-sufficiency within two years. The goal is to join the individual community associations into unions (15-20 RFAs per union), which may be registered as a cooperative in the future. The strengths of this approach is that it is based totally on local management. Subsidies for technical support are gradually phased out so that the RFAs are progressively paying the full cost. Loan sizes are small and thus accessible by most smallholders and available for highly demanded activities. While not formally promoting savings, the loan guarantee that the RFAs require from its members develops the savings culture. The RFAs are currently in Maputo, Gaza and Cabo Delgado Provinces. The fact that the approach is fully tested and has already been adopted successfully in various rural environments in Mozambique would facilitate its implementation under the Programme and extension to new areas. It is expected that the RFAs will organise themselves into unions comprising of 20-30 RFAs each. The Bank of Mozambique is working on a plan to establish an Umbrella Apex body for RFAs unions, within the next two years. 3.5 Gender and Rural Finance Women in Mozambique constitute a little over 50% of the population. Over 95% of women work in mainly rural subsistence agriculture compared to 66% of men. About 70% of the women are illiterate as compared to 40% of the men. Overall, it is estimated that in Mozambique MFIs have successfully reached about 60% women clients. However, there is a clear regional difference in involvement of women in entrepreneurial activities. Women in the South are considered generally to be more active in income generation and trading activities as opposed to the women of the North who are still constrained in engaging in entrepreneurial activities. It is estimated that in the North, MFIs outreach to women clients is only 14%. Furthermore, rural women engage in informal sector activities and have very little access to formal credit, skills or business training. The National Directorate for Women’s Affairs (NDWA) under the Ministry of Women and Social Action Coordination Affairs has the overall mandate of gender mainstreaming in the country and of coordinating between the different line ministries as well as the provincial and district level gender officers. 3.6 Health and HIV/AIDS

It is currently estimated that the coverage rate of health service stands at around 50% in the country. The most important causes of morbidity and mortality continue to be the transmittable diseases such as malaria, parasites, tuberculosis, acute respiratory infections, and diarrhea etc. The HIV/AIDS pandemic, (which is a risk factor for economic growth and national survival in the long term), is rapidly expanding and constitutes an enormous challenge to a health system already overburdened. In 2001 the estimated number of adults living with HIV/AIDS in the country was about 13%, of which women account for 62%, and children account for about 7%. Moreover an estimated 420,000 children are currently living as orphans (lost mother or father or both to AIDS). In Maputo the HIV prevalence among antenatal clinic attendees increased from less than 1% in 1988 to 13.2% in 2000. Overall, the Primary Health Care strategy identifies some of the high health-risk groups as: those

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women of childbearing age, children, the population of rural areas, and those who live in absolute poverty. The supply of clean drinking water and sanitation is also a basic factor in improving the health and quality of life of the population. 3.7 Potential Demand and Constraints of Rural Finance 3.7.1 Potential Demand: Most of the demand in the rural areas tends to be latent in an underdeveloped environment, with low level of monetisation and very limited access to financial services. As most financial intermediaries have none or very limited operations in rural areas, it is not easy to estimate the demand for rural finance services in monetary terms. It is however, necessary to understand the nature of the demand and the types of services demanded, and likely to be demanded as development of rural areas progresses. It should also be noted that demand for financial services in rural areas is multi-facetted in nature, and to support rural development through economic growth, there will be a need for a wide range and mix of financial services to be provided, of which, credit is only one element of the mix. Effective demand for credit depends on the prices and conditions of supply for the different market segments. Three main types of loans can be distinguished in the case of Mozambique according to their utilisation: (i) consumption credit to finance basic needs in terms of food products and social expenses (school fees, marriages, health care, etc.) that is usually short-term, from 2-3 months to a maximum of 6-8 months; (ii) credit for working capital that is also short-term (6-8 months up to a maximum of 12 months) needed each year to finance agricultural activities (fertilisers, pesticides, and labour for land preparation, planting, weeding and harvesting) and for other economic activities including agro-processing and trading; and (iii) credit for investment, needed for capital equipment for an economic activity that is by nature reimbursed over some years, depending on the type of activity and the overall amount of investment. To mitigate the needs of rural households holistically the rural finance system will have to provide a mix of these credit requirements for the rural population. 3.7.2 The potential demand for financial services among the 3.5 million smallholder households, is enormous, particularly if the target is to move them towards higher levels of production technology, higher crop yields, and diversification to off farm income generating activities. There is a large incentive for credit funds amongst the 400,000-smallholder families, representing about 12% of the rural population, who receive credit in kind from agro-processing/exporting companies as part of contract farming agreements in Mozambique. The potential demand from fisher folks for access to investment is high, whether it be for purchasing or repairing boats or acquiring fishing gear. Artisanal fisheries in Mozambique involves some 11,000 vessels and a great diversity of fishing gear employing more than 90 000 people directly, excluding those involved in processing and trading. The involvement of private sector and communities in the development of small and medium scale forest industry, through microfinance, does constitute an opportunity for employment in both rural and urban poverty alleviation. To-date, like smallholder farmers, few fishers have access to credit and other financial services to allow them to improve the return to their effort and thus improve their incomes. As marketing opportunities increase through the development of infrastructure and market networks, the viability of investments in technology and advanced inputs improves and the bankable demand for smallholder farmers and small-scale fishing loans will increase. 3.7.3 Reports indicate that there has been a dramatic increase in the number of activities in the markets and street vendors in and around the provincial capitals, peri-urban areas and rural towns. Trade is probably the most dynamic and rapidly growing economic activity in rural Mozambique. A large number of Mozambicans rely on income generated from micro entrepreneurial activities in the informal sector for their livelihoods. Of the total workforce in urban and peri-urban areas, about 90% are employed in the informal sector, half of whom are women. With small amounts of working capital

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(between 2.5-10 million MZM, or USD 100-400, but in some cases even less, the traders circulate funds and goods as fast as possible with very short buy-sell cycles. Because of the small loan amounts required, their inability to provide collateral and the informal nature of their businesses, these operators have no access to credit, neither from commercial banks nor from other financial intermediaries serving rural areas. 3.7.4 Studies conducted by FAO have found that small-scale farmers, lacking storage and financial capacity, are forced to sell much of their produce at the beginning of the marketing season when prices are lowest. Consequently, farmers are unable to maximise profits from their crop production. A feasibility study undertaken by FAO (1999), includes a proposal requiring external financing of USD 1 million to benefit 300 associations and 50 000 people over a three-year period. GAPI or AMODER have both been experimenting with inventory credit systems. Initial results show success and there is potential of expanding this scheme once the issues of warehousing have been overcome. 3.7.5 Based on the projected growth of the MFIs, they are expected to reach 60,000 clients by end of 2006. In addition, the Programme will service a total of 17,500 members from the over 900 ASCA’s to be promoted and 24,000 members from the total of 175 RFAs. Assuming average loan size per borrower of US$150 within an average duration of a year, the total need for credit to service the 101,500 clients will be about US$15,225,000. Estimate of the resource gap has also been made by a number of Special Registered Credit Institutions visited by the mission including: (i) UGC which has projected a resource gap of US$2,700,000 over a 5 years-period to service its networks of poultry cooperatives comprising 39,000 clients; (ii) FFPI is seeking a credit line of US$2,200,000 to provide credit to micro, small and medium enterprises in Mozambique over a period of 5 years. (iii) GAPI is expecting an increase of its loan portfolio by 40% representing an amount of US$1,600,000 to add to its current loan fund of US$4,200,000. The estimated resource requirement for the three institutions over the next five years is estimated at US$6,500,000. A conservative estimate of resource gap of UA 17.51 million (USD 21.73 million) can be established over the next six year period. This however, does not include the additional borrowing requirements of the 400,000 households working with outgrower schemes explained in section 3.4.11. The demand for credit from these households is expected to grow as local financial intermediaries link with the schemes. 3.7.6 Constraints: The lack of reliable rural financial services has contributed greatly to the inability of rural households to adopt improved production technologies, diversify their income base, and better cope with external shocks brought about by drought, floods and /or illness. Some gender-specific constraints, that influence the demand for financial services, include: (i) the very low levels of female literacy in much of the country; (ii) lack of access to assets and employment opportunities; (iii) lack of time and mobility linked to women's specific responsibility for reproductive labour and family welfare; and (iv) lack of access to information and business experience. Rural communities are also constrained by their little understanding of the markets, how they operate, and how to operate effectively in a free-market environment. Besides, apart from the large urban-based large-scale farmers and traders the rest have little access to investment and other financial services. 3.7.7 The lack of basic and essential social services and infrastructure does not attract financial service providers into rural areas. The banking system considers most rural households to be high risk due to their limited asset base, and lack of collateral, which they can pledge for formal credit. Due to poor infrastructure base, businesses and the private sector in rural areas generally face limited competition, low sales volumes/poor economies of scale, high transport and power costs, and lack of access to capital, all of which has resulted in economic inefficiencies, high prices, and a general lack of dynamism in the sector. The situation in rural areas is gradually changing however as the road network is expanded and access improved through other interventions funded by the GoM and the donor

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community. The on-going Integrated Sector Investment Programme for the road sector focuses on the rehabilitation of the existing road networks that had been damaged by the war. The objective is to facilitate agricultural expansion and ease access to markets for produce as well as for inputs. Organized marketing activities have now penetrated to more distant areas and district services are being strengthened through government’s decentralization initiatives. These demonstrated constraints make a case for the need to establish targeted, innovative rural financial support system which will ensure an effective, efficient and sustainable delivery of financial services specific to the needs of the rural poor. To effectively mitigate these constraints, there will be need for concerted effort from the Government to create a conducive environment for the growth and development of rural financial service and for development partners to come up with appropriate interventions. 3.8 Interventions of Major Donors 3.8.1 In the past five years, a number of donor initiatives have supported the development of financial services in Mozambique. Table 1 below shows the size and purpose of the various donor supported interventions.

Table 1: Donor Support to Rural Microfinance sub-sector Funding Institution Amount of

Assistance Purpose

1 USAID USD25 million Emergency assistance in 1999 to support flood-affected companies in industrial, livestock, agricultural and fisheries sectors. The re-flows will be used for development of rural finance in Mozambique

2 Italian Government USD2.1 million Support rehabilitation of fisher folk affected by 1990 floods in Sofala, inhambane and Gaza Provinces

3 World Bank, NORAD EU and DFID

USD40 million Support to small and medium enterprises through TA, capacity building and line of credit

4 USAID Reflows from No. 1 above

To establish the Center for Promotion of Rural Finance

5 CIDA USD 300,000 Capacity support to MFIs through the Mozambique Micro-finance Facility (MMF). MMF will act as a launch pad for the proposed Micro finance Association.

6 ADF Amina -Project and UNDP

USD1.5 million Microstart Project: To support capacity building and resources for on-lending to MFIs.

7 ADF Amina -Project and others

USD550,000 Upstream Project: To support policy framework and dialogue for micro-finance development.

8 EU Euro2.0 million Support to AMODER & GAPI to promote rural financial intermediation

9 Irish Cooperation USD1.0 million Support to AMODER & GAPI to promote rural financial intermediation

10 German Aid -GTZ USD600,000 Support to SOCREMO 11 KfW i) EUR 3.00

million (planned) ii) EUR 3.00 million

i) EUR 500,000 for equity support to SOCREMO and EUR 2.5 million to GAPI for on-lending capital ii) KfW has supported through the Bank of Mozambique the IRAM-Project which has established the initial 55 RFAs model. In the second phase, of this project KfW is supporting the establishment of the RFA Unions and the Apex Structure.

3.8.2 The Bank Group commenced its lending operations in Mozambique in 1977. As at 30 June 2003, the Bank Group had funded a total of 63 operations (see annex 10). This included 45 projects, 11 studies, 2 emergency relief operations and 5 policy-based operations. Total cumulative commitments, net of cancellations, amounted to UA 812.71 million, comprising UA 714.46 million from ADF resources (89% of total), UA 91.36 million from ADB resources (11.2%), and UA 6.89 million from NTF resources (0.9%). The agricultural sector has been the major recipient of Bank Group funds, with 31.4% of net total commitments. To support Micro finance development the Bank Group has through

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the former AMINA Project supported two-intervention sin Mozambique. The Microstart Programme, which has been co-financed with UNDP, and the Upstream Project, co-financed with UNDP and Australia Government. Under Microstart, three MFIs are currently supported and two of these (SOCREMO and Tchuma) are considered as potential partners under the proposed Programme. The Upstream Project mainly targets policy makers to influence microfinance policy development. The Bank in 2000 has also approved an Artisal Fisheries Development Project, which aims to support artisanal fisheries development and marketing systems. 3.8.3 A major factor, which has affected the implementation of Bank Group funded projects in Mozambique, has been the weak institutional capacity within the civil service to manage and monitor project implementation and adherence to procedures. This problem is worsened by the large number of disjointed projects and lack of harmony between donor procedures, which has overstretched the human resource requirements for project implementation. Institutional Capacity building and harmonisation of operational procedures would contribute towards the improvement of the Bank Group’s portfolio in Mozambique. The Country Strategy Paper highly recommends that institutional capacity needs should be assessed at appraisal in order incorporate capacity building measures in all future interventions. The Bank should also intensify technical support to project executing agencies through increased number of missions and more frequent seminars on Bank Group procedures. 4. THE PROGRAMME AND ADF-PROJECT The following sections 4.1 to 4.6 provide an overview of the overall Rural Finance Support Programme, followed by sections 4.7 to 4.14, which gives the detailed description, and costing of the ADF funded Rural Finance Intermediation Support Project, within the Programme. 4.1 Programme Concept and Rationale 4.1.1 The almost total absence of financial services in rural areas typified by the inability of farmers, traders and rural enterprises to get access to credit and find a safe place to deposit savings in Mozambique, calls for new ideas, different approaches and innovative institutional solutions to the problem. Past donor support has been sporadic and often concentrated on individual financial institutions and/or the financing of credit activities within stand-alone agricultural, fisheries or marketing projects. These initiatives were not developed within a comprehensive planning and strategic policy framework, which limited their impact on the poor and overall economic development. Having recognised the weakness in these past initiatives, the GoM has through a stakeholders participatory process decided to provide the framework, which would create an enabling environment, which will foster the growth of the rural finance subsector, in order to facilitate the emergence of rural house holds from poverty. This includes developing a sound legal and policy framework conducive to the growth of MFIs, community based organisation and other rural finance intermediaries. In this regard, the Rural Finance Support Programme and within it the ADF funded Rural Finance Intermediation Support Project will contribute to definition and development of an appropriate rural finance strategy for Mozambique. Unlike past interventions, the proposed Programme will support the establishment of a rural intermediation mechanism that promotes both savings and credit, in addition to the development of the appropriate rural finance infrastructure. 4.1.2 The Rural Finance Support Programme is a holistic intervention that will bring the key players together and commit the necessary resources to foster the development of rural finance through: (i) a public/private sector partnership by working with different practitioners including credit associations, commercial banks, MFIs, NGOs and other players involved in the sector; (ii) making the policy/legislative framework more effective in promoting rural finance; (iii) soliciting, piloting and

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developing new and often innovative ideas and initiatives; and (iv) helping financial intermediaries improve their outreach and strengthen their operations. The design of the Programme will work with existing approaches to rural finance and support the development of new ones. To succeed, the Programme calls for a strong commitment from the Government, the private sector and the donor community, in order to provide the funding needed and the momentum required to achieve the objective of developing a strong rural finance sector. 4.1.3 The Programme will support a Policy, Legislative and Institutional component, which will provide the legal, and policy framework within which different initiatives aimed at supporting the development of rural finance will be accommodated. The framework will help to create synergies among the different interventions in the sub-sector, and in making the policies and legislations more effective in promoting rural finance. The Community-based Financial Institutions component will support the promotion of an estimated 120 RFAs and 900 ASCAs. These community-based savings and credit group model have been developed through a participatory bottom-up approach and have been found to be popular with the rural population and can be implemented with minimal external financing. The Innovation and Outreach Facility will through a private sector/public sector partnership solicit, pilot and develop new approaches and initiatives to rural finance. To support outreach, a Line of credit proceeds will be wholesaled to institutions willing to establish rural credit and micro finance linkages. Through the solidarity group dynamics of the RFAs and ASCAs, the LOC is also expected to act as a catalyst for savings mobilisation. In order to ensure the existence of a dynamic, vibrant and efficient and stable rural micro-finance environment, the programme will support the establishment of a rural finance regulatory framework and supervisory oversight of the BoM. Support for Project management will also be provided to facilitate the establishment of appropriate systems for the effective management and delivery of the Programme objectives. 4.1.4 The Programme design has used lessons leant from past stand-alone credit operations which tended to use a top-bottom approach. These were found to be costly to implement and tended to result in unsustainable institutional arrangements with very limited outreach and impact. The Programme design will promote public /private sector partnership, with the Government providing the necessary policy and regulatory framework conducive to the effective development and growth of rural finance institutions. The private sector and market forces will therefore drive development initiatives, rather than relying overly on government-led interventions to force the pace of development. Unlike past stand-alone lines of credit or credit components within stand alone projects funded by donors, the proposed Programme model aims at promoting a savings and credit culture to rural communities by providing economic and social empowerment to low-income people. To avoid costly mistakes, the Programme will test and pilot new approaches to rural finance on a limited scale and only those approaches which support effective and sustainable outreach will be expanded. 4.1.5 The in-built flexibility in the design of the Programme, will also enable it to deal with rapidly changing economic and institutional environment while the feedback mechanisms will enable the programme management to regularly take stock of progress and modify procedures, approaches, and work plans as necessary. To avoid the narrow focus of past interventions in rural areas, the Programme will support credit institutions that deal with small traders and other rural entrepreneurs who can activate the rural environment, and stimulate the cash economy in small rural centres as well as, integrate the farmers, traders and rural entrepreneurs. Hence, the Programme will address the financing needs of the entire rural space and its inhabitants. The Programme design therefore promotes best practices based on sound and prudential criteria for the development of rural financial services system that will inter alia promote: savings mobilisation; enhance outreach; institutional efficiency; and operational and financial efficiency.

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4.2 Programme Area and Beneficiaries 4.2.1 Programme Area: The proposed Programme, and within it the ADF Project, is a nationwide investment, which addresses key institutional and policy issues critical to the development of a vibrant and sustainable rural financial system. To be effective however, the Programme will initially place more focus on those parts of the country where there is a comparative advantage for implementation of the proposed rural finance initiatives. These will generally be in the more dynamic zones in the rural areas of the country with a high productive potential, good access and a greater amount of trade, business and economic activity. Typically, the areas that serve as hinterlands for the major urban centres and the areas along the three main trade corridors of Maputo, Beira and Nacala are the most likely places where Programme activities will start. The ASCA and RFA models also tend to be effective in areas where there is a higher population concentration. 4.2.2 Programme Beneficiaries: The developmental goal of the Programme is to target an estimated 3.5 million rural households in order to reduce their vulnerability and improve their capacity to cope with crisis and manage risk, by increasing their income and assets. This may be achieved through support to services that directly reach them or those that benefit them indirectly by expanding the level of their economic activities. The ultimate target groups of the Programme are the subsistence and cash crop farmers individually and in groups, traders and traders groups and associations, artisanal fisher folks, artisans etc. and the entire vast diversity of rural activities that a financial services programme such as this one will serve. The ultimate goal is to improve access of rural households to credit and savings services and the opportunity to diversify their income base to off and non--farm income generating activities. Others that will benefit from the Programme are the regulatory bodies and the rural financial intermediaries whose human, regulatory and supervisory, analytical, logistical, technological etc, capacity will be improved to enable them extend outreach and the efficiency with which they provide or support rural finance intermediation. The programme will support directly an estimated 101,500 clients including: 60,000 clients of MFIs of which 40,000 are existing and 20,000 additional new clients. An estimated 17,500 members of ASCAs and 24,000 members of RFAs will benefit from the Programme. Some of the 400,000 smallholder families on the large outgrower commercial schemes will also benefit directly or indirectly from improved rural finance services and policies. 4.3 Strategic Context 4.3.1 The strategic context of the Programme which also constitutes the strategic context of the ADF Project, is in line with the fundamental goals of the GoM as spelt out in the PARPA for guaranteeing the rural development through: (i) community participation; (ii) decentralisation; (iii) inter-sectoral coordination; (iv) systematic action and research. The strategy promotes the communities' use of all their resources: manpower; land, forestry and water; finance; and information and includes the creation of an attractive environment for investment in rural areas, the strengthening of State institutions for coordinating rural development activities, and the promotion of financial services that are adequate to local initiatives. It considers as a priority the process to defining a legal and policy framework to correct the long-term neglect of financial services to rural areas. The PARPA recognises that medium to long-term measures that sustain a rapid and holistic development and short-term measures that directly target the poor, contribute to poverty alleviation. Within the PARPA, the objectives for macro-economic and financial management activities include the definition of policies to protect and expand financial services to rural areas and to small and medium-scale enterprises.

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4.3.2 The Programme supports the PARPA as well as the Bank Group Agriculture and Rural Development Strategy, as it relates to creating a conducive environment for the development of rural finance. The Bank’s Country Strategy considers the establishment of effective and viable rural financial institutions as one of the critical building blocks of its rural sector development agenda. The strategy focused on working with informal rural financial institutions to increase their capacity to mobilise domestic savings, and to provide more effective credit services to rural households and businesses. It also seeks to create and strengthen their linkages with formal banking sector businesses. In agriculture, which is the most promising generator of income growth and provider of jobs, the Bank’s intervention would be limited to providing credit required for improving output levels of food, cash-crops, livestock rearing, fisheries support and in providing marketing opportunities. This approach also supports the Vision Statement of the Bank, which seeks to facilitate rural financial intermediation by supporting bottom-up, demand-driven, micro and rural finance schemes aimed at assisting the poor and vulnerable groups of the society 4.3.3 Currently, the Bank is also articulating a Financial Sector Strategy for Mozambique, which enjoins the Bank to focus primarily on addressing the poverty reduction deficiency within the financial system. This is to be done through the development of appropriate policies and the financial infrastructure (MFIs and Small and Medium Enterprise (SME) institutions), particularly in the rural areas. To help ensure that all levels of society have access to financial services, the strategy recommends that the Bank: i) support the strengthening of the policy to create an enabling environment for rural and micro-finance development; ii) support the expansion of viable MFIs/SMEs; iii) assist formal financial institutions to “downscale” their product offering to small businesses; and iv) promote the development of new market-based financial instruments for the poor. The proposed Programme is considered as the first step towards the operationalisation of the Bank Group Financial Sector Strategy for Mozambique. 4.4 Sector and Programme Objective The sector goal is to contribute to poverty reduction, while the Programmes’ overall objective is to improve access of rural households to financial services on a sustainable basis. 4.5 Programme Components and Description 4.5.1 The activities of the overall Programme fall within four major components. (A) Policy, Legislative and Institutional Support (B) Innovation and Outreach Facility, (C) Support for Community-based Financial Institutions, and (D) Programme Management: A. Policy, Legislative and Institutional Support 4.5.2 This component will support the creation of a conducive and supportive policy and legislative framework and an appropriate institutional environment for the development and sustainable provision of rural financial services in Mozambique through: i) The establishment of a Rural Finance Policy Unit in the Ministry of Planning and Finance (MPF) which will be the focal point for the development of rural finance. The Programme will support the capacity of the unit to develop a strategic framework for rural finance, and to actively maintain a conducive policy environment to support the growth of financial services in rural areas. The unit will initially have two experts who will be supported with short-term expertise as and when needed. The

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Programme will support a TA contract for the preparation of the Strategic Framework; some studies, workshops/ working sessions, exchange visits, and local and regional TA for the Policy Dialogue and Institutional Strengthening, logistical support, training, exchange visits, and some recurrent/operating costs. (ii) Support for the Regulatory Environment: A sound regulatory and supervisory framework contributes to a dynamic, vibrant and efficient rural and microfinance industry, strengthens confidence of depositors, and provides an environment conducive to growth of efficient and sustainable institutions. The Programme will support the BoM to promote a sound regulatory framework for rural finance that can be effectively controlled and supervised. Support will focus on the training of BoM staff and assist the Bank to develop an institutional capacity to work with the current and evolving rural finance arena. The Programme will also provide resources for equipment and materials, workshops, management exposure seminars; training needs assessment, short-course training, scholarships, exchange/exposure visits and technical assistance. (iii) Institutional Support for MFIs: Presently MFI affairs are coordinated by the CIDA-funded Mozambican Microfinance Facility (MMF) and the informal Microfinance Working Group. This framework will provide a favourable basis on which to build a formal and permanent umbrella association for MFIs, until 2005 when the CIDA funded project comes to a close. After that it will continue as a freestanding body to support the operations of the MFI sub-sector. The Programme will support this initiative with office materials and equipment; seminars, workshops and consultations; studies, evaluations and impact assessments; short-term TA; staff salaries and allowances; and operating costs. Other support to MFIs would be in form of building the skills of MFI staff in group mobilization, group dynamics, leadership and negotiation skills, community and group participation skills, skills for communications and collaboration with local government, training in identification, formulation of small and micro projects, entrepreneurial skills development and gender roles and decision making skills. Micro-enterprise Business Skills Development sessions for MFI clients (300 in all). A total of 80 short-term surveys on a cost sharing basis to enable participating financial intermediaries to identify their client base, the economically active poor, current outreach, and propose outreach strategies and appropriate products for reaching out to the poor and women headed households. A specialised TA would be assigned to the association to assist the MFIs in developing a HRD programme for its staff training and development. B. Innovation and Outreach Facility 4.5.3 One of the major causes for the lack of rural financial services in Mozambique is the high cost and risks associated with doing business in the rural areas. This component will through a combination of flexible matching funds and line of credit resources, backed by technical/managerial advice, encourage: the development of new approaches to rural financial services; assist in the creation of new product lines; assist in institutional development and/or restructuring of existing ones; and also on demand basis, support financial intermediaries to diminish the initial cost and risk of penetrating rural areas by covering a portion of the costs of offering these services in the rural environment. The amount of support to each proposal from financial service institution would be decided on a case-by-case basis and will depend on the nature of the activity to be financed. The higher the risk and the greater the costs of establishing the service, the lower the portions of contribution that will be required from the sponsoring partner organization. A sliding scale would be applied, with the minimum contribution being 15% and the maximum 50%. Studies will be conducted to identify in the area of the proposed intervention, the economically active poor, possible outreach, and propose strategies and appropriate products for reaching out to the poor and especially the venerable groups including women, the youth and disables. The various innovative interventions selected for support under this sub-component will

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have to be: (i) pro-poor strategies in rural financial intermediation, (ii) provide market and trade linkage support, and (iii) support agricultural outgrowing operations, artisanal fisheries and other income generating activities in rural areas. The programme will maintain considerable flexibility in its operations and in how it works with interested financial service providers and other potential partners. Investments under this component will include the matching funds; a line of credit and technical/managerial support and promotion in form of: travel and operating costs for PMU staff to participate in training/TA, expenses/operating costs, training material and in some cases equipment, contracts with management/technical specialists and contracts for the preparation of training material. C. Support for Community-based Financial Institution 4.5.4 Like the Innovation and Outreach Facility this component aims at improving the access of rural households to financial services on a sustainable basis. The component has the objectives of increasing the stability of household economies, raising women’s participation in economic activities, and providing for opportunities for increased profitability of household enterprises, particularly those dealing with agriculture and trade. Experience has shown that community-managed finance associations, which form the basis for this component, can help to break the cycle that so often typifies smallholder agriculture (low inputs, low yields, low monetary returns) and small-scale trade (low purchasing power, low turnover, low returns). The component will help to address these constraints by supporting the organisation of rural communities into financial associations that facilitate improved management of their economic resources. The component will be implemented through two sub-components: (i) Establishment of “Accumulative Savings and Credit Associations” (ASCAs) and (ii) Rural Finance Associations (RFAs). Both sub-components will be implemented by experienced service providers or NGOs engaged through tendered, performance-based contracts. It is anticipated that some 900 ASCAs and some 60-umbrella associations (each involving some 10-20 ASCAs) would be formed during the programme life. A total of 120 RFAs each with estimate 100-150 members and four umbrella associations are expected to be established over the Programme period. The number of members would increase as each association develops the capacity to serve more members and the interest in membership of fellow community members grows. Each RFA would be legally registered as an association and, in a similar way to the ASCAs, members themselves would manage the associations. These institutions will be linked up with financial intermediaries who will meet their credit requirements. D. Programme Management 4.5.5 The programme coordination and implementation will be the responsibility of the Fundo de Apoio à Reabilitação da Economia (FARE). In view of the perception that the public has about such government institutions (see section 3.4.9), there is need to re-orientate FARE and enforce its mandate of promoting the development of rural finance. The GoM will, therefore, with the support of the Programme, convert FARE into independent institution to promote the development of rural finance in the country, to be known as Instituto Nacional de Finanças Rurais (INAFIR) (National Rural Finance Facility -NRFF). To oversee the day-to-day operations of the Programme activities, a Programme Management Unit (PMU) headed by a Programme Coordinator will be established within FARE. Incremental professional staff will be appointed by the Government to support the coordinator. In addition, TA support funded by IFAD will be provided to the PMU including: 12 person months of an experienced Programme Management advisor to assist the PMU in establishing implementation procedures; 36 PM of a Rural and Micro-finance specialist; 24 PM of Planning M&E specialist to assist in establishing M&E systems and in preparing guidelines for the assessment studies and baseline surveys; 24 Person Months of Finance and Contract Management Specialist to put in place the financial and procurement systems; and 24 PM of a Sociologist/Gender Specialist. Various short-term

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consultancies including policy/legal advisor, marketing specialist will be provided. The TA will train local counterpart staff who will take over from them at the end of their respective contracts. The local counterpart staff will receive short-term local and foreign training related to their work in the PMU. The Project will provide one-person month of international and three person months of national consultants for the mid term review in PY3. The Programme will provide /PMU with vehicles, computers and other office equipment. The Programme will cover the cost of conducting follow-up evaluations, professional consultancy inputs during implementation, workshops, and contracts for other studies and surveys and for professional media support and operating and maintenance costs and vehicle/equipment replacement. 4.6 Programme Costs 4.6.1 The total programme costs, including physical and price contingencies is estimated at MZM 968.74 billion, equivalent to UA 29.15 million. The foreign exchange component is estimated at UA. 17.12 million (59%) of total programme costs, while local costs will amount to UA 12.03 million. The summary programme costs by component is summarized in Table 4.1 below:

Table 4.1 – Summary of Programme Cost Estimates by Component and Sub-components ( MZM billions) (UA millions) % Foreign

Components Foreign Local Total Foreign Local Total Exchange Cost Cost Cost Cost Cost Cost A. Policy, Legislative and Institutional Support

47.53 49.85 97.38 1.43 1.5 2.93 49

B. Innovation and Outreach Facility 245.94 124.63 370.57 7.4 3.75 11.15 66C. Support to Community-based Financial Institutions

182.79 116.32 299.11 5.5 3.5 9 61

D. Programme Management 53.51 91.4 144.9 1.61 2.75 4.36 37Total Baseline Cost 529.77 382.2 911.97 15.94 11.5 27.44 58Physical Contingencies 7.08 7.43 14.51 0.22 0.22 0.44 49Price Contingencies 32.06 10.2 42.26 0.96 0.31 1.27 76Total Programme Cost 569.91 399.83 968.74 17.12 12.03 29.15 59 4.6.2 Sources of Finance The Programme will be co financed with IFAD-UA 6.66 million (29.9%), NORAD-UA 2.63 million (9.2%); local financial institutions UA 0.90 million (3.2%); ADF Loan to the tune of UA 11.52 million (40.0% of the total programme cost); and ADF Grant of UA 3.84 million (14%). The Government will contribute UA 3.60 million equivalent to 9.8% of total programme cost. The ADF Loan will co-finance the matching fund, the line of credit, and support to the Project Management. The ADF Grant will fund studies, training and workshops and seminars, as well as, services to be provided by service providers and NGOs for the promotion of RFAs. IFAD together with NORAD will co-finance the matching grant fund, the line of credit, the cost of vehicles and equipment to be procured, the operational costs of the Project Management Unit and technical assistance costs, as well as contractual services of the NGOs that will be promoting the ASCAs. The GOM share represents salaries and allowances for the government staff to be seconded to the programme. This will be funded through annual budgetary allocations. Participating financial institutions’ contribution will be towards the costs of matching fund, studies and workshops and part of their recurrent cost. The proposed financing plan for the Programme is given in Table 4.2 below.

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Table 4.2 : Sources of Programme Financing (in million UA)

Sources of Finance Foreign Costs Local Costs Total Costs % of Total ADF Loan ADF Grant IFAD NORAD Financial Institutions Government

8.51 2.60 4.16 1.85

- -

3.01 1.24 2.50 0.78 0.90 3.60

11.52 3.84 6.66 2.63 0.90 3.60

40.4 14.0 29.9 9.2 3.2 9.8

Total 17.12 12.03 29.15 100 THE ADF PROJECT

4.1.6 The ADF funded Rural Finance Intermediation Support Project is part of the Rural Finance Support Programme, which is co-financed with IFAD, NORAD, the MFIs and the GOM, as, articulated in sections 4.1to 4.6 of this report. The Project will support the establishment of a rural intermediation mechanism that promotes both savings and credit, in addition to the development of the appropriate rural finance infrastructure. 4.7 Objectives of the ADF Project: is to improve the access of rural households to sustainable rural financial services. 4.8 Description of ADF Project 4.8.1 Under the ADF Project, the Programme components described in section 4.5 have been re-organised to fit in with the financing requirements of the ADF grant, for a stand alone component. The Project will therefore support activities under four major components: (A) Capacity Building and Institutional Development; (B) Support to Outreach Expansion (C) Line of Credit; and (D) Project Management, which also forms part of the overall Programme. (A) Capacity Building and Institutional Development 4.8.2 This component will support activities under the Policy, Legislative and Institutional Support and the Support for Community-based Financial Institutions components of the Programme. Support under this component aims at creating a conducive environment for the development and provision of rural financial services, and in organising rural households to improve their access to financial services. The sub-components are as follows: (i) Rural Finance Policy Support Unit: the Project will assist the MPF in establish this unit, which will be the main catalyst in terms of policy and legislative dialogue in the country. The unit will define a strategy and an approach for the Government in rural finance and provide a set of guidelines and norms for operators in the field. The Project will support the unit with a team of consultants to develop the Strategic Framework for Rural Finance, and thereafter its implementation including engaging in regular policy dialogue to identify key policy issues (and possible solutions), and to facilitating associated training and institutional strengthening. Using the strategic framework as a template, the Unit will involve the ‘users’ or current and potential clients of rural financial services in a dialogue to identify constraints, gaps and opportunities in current policies and legislation and indicate where priorities should lie in addressing them. The Project will therefore support policy user dialogue sessions with all stakeholders countrywide over the six years period; 18 awareness sessions to create rural finance awareness amongst decision makers, involving presentations and interactive sessions with members of the Council of Ministers and Parliament to senior provincial officials and politicians; 2 national pro-poor workshops to orient the framework to meeting the needs of the poor communities

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and their financing requirements, 16 national and regional exchange visits for cross-section of policy makers; and 6 annual stakeholder forums for financial intermediaries, NGOs, donors, civil society and government to discuss pressing rural finance issues, arrive at common understandings and solutions, and propose actions to be taken. ii) Support to Regulatory Environment to enable the BoM to respond effectively to the financing needs of the rural areas through the creation of a conducive regulatory environment for the growth of rural intermediaries. The Project will support one consultant to undertake training needs assessment in rural microfinance related fields for the institution; exchange/exposure visits for staff and management of BoM to share experience with other central banks and regulators, participation of 36 of its staff members to various short-term training courses and management seminars in rural micro-finance. The Project will also provide short-term technical assistance of 6-person months to review the adequacy of the current audit of non-bank financial intermediaries and to develop suitable accounting systems based on best practices. The ADF Project will also support the recruitment of an international MFI Supervision Specialist with experience in a central banking and rural and micro finance systems. The expert will assist BoM in reviewing the legal and regulatory criteria, supervisory systems and the preparation of an inspection manual for Non-Bank financial institutions. The specialist will provide on-job training to BoM staff in developing a CAMEL (C: Capital; A: Asset quality; M: Management; E: Earnings; L: Liquidity) rating for evaluating the risk profile of MFIs. iii) Institutional Support for MFIs to foster their sound development and facilitate their expansion into rural areas. The Project will support MFIs to undertake research on emerging issues relating to their development and the promotion of best practices including: a) ownership structures and corporate governance; (b) client mobilization, gender dimensions and empowerment; (c) interest rate policies and appropriate pricing of saving and loan products; (d) product development; (e) operational and financial sustainability trends; (f) audit and internal controls; (g) regulatory concerns etc Resolution of these issues would help foster a sound development of MFIs and facilitate their expansion into rural areas. Training of MFI staff will be supported to equip them with skills to link with communities. Skills in group mobilization, group dynamics, leadership and negotiation skills, community and group participation skills, skills for communications and collaboration with local government, training in identification, formulation, and rapid appraisal of small and micro projects, entrepreneurial skills development and gender roles and decision making will be provided. Key MFI staff will receive Training of Trainers courses and orientation in credit appraisal, accounting/auditing, business development and advisory services; savings mobilisation and product development to enable them train other staff. The Project will through NGOs and other service provide 300 sessions for MFI clients in Micro-enterprise Business/entrepreneur skills, marketing, basic accounting. A total of 80 short-term surveys will be conducted on a cost sharing basis by participating financial intermediaries to identify the economically active poor, current outreach, and propose outreach strategies and appropriate products for reaching out to the poor and women headed households. To support the Human Resource Development activities the Programme will support various training for MFI field staff. Training will be conducted through local and foreign specialists and specialized institutions.The Project will also provide the 30PM of a specialised rural micro-finance trainer to develop the Human Resource Development (HRD) programme for MFI use. The expert will develop a framework and guidelines for corporate strategic planning, covering organizational growth strategies, organization structure, optimal size of branch and sub-branches, in addition to the preparation of a handbook on operational policies and procedures for MFIs.

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iv) National Women’s Affairs Directorate (NWAD) will have the responsibility of training the provincial and district level gender officers on gender mainstreaming and monitoring in micro-finance programmes empowering them to support the programme at the district and provincial level. NWAD will also provide some backstopping and coordination of meetings, etc. (detailed TOR is provided in the working paper). The ADF Project will provide the NWAD with training materials and equipment, accessories and technical assistance. v) Fundo de Apoio à Reabilitação da Economia (FARE): FARE will have the responsibility of overall coordination of the Programme and the ADF-Project. The current staff strength of: the chairman, Director, 2 accountants, a secretary, a driver, a messenger and eleven field staff is weak. There is need for institutional strengthening through training and recruitment of additional qualified staff. The Project will support training for FARE professional and field staff in the same Training of Trainers courses earmarked for MFI staff. FARE staff will receive training in various filed including: credit administration and portfolio management, rapid appraisal and risk management skills, business development and advisory service to support the client base, accounting/audit and financial management courses. Exchange/exposure visits for senior management to link with the policy and regulatory framework development in the BoM and the MPF vi) Rural Financial Associations (RFA): Given the difficulties of accessing financial services in rural areas by the various groups of economically active households, the potential represented by the Informal Community-based Financial Institutions is enormous. The Project will support the promotion of the RFA model, which is one of the models that has been tested and found to be most suitable for extending financial outreach to rural Mozambique. The Project will support the establishment of 120 RFAs and their three unions (30 RFAs each), as a means of meeting the savings and credit requirements of rural folks. It is estimated that with the Project RFA membership will exceed 24,000 from the current 4,000. The project will support the recruitment of two service providers with proven experience and track record to provide the technical and managerial support services to help establish the RFAs. The project will support the RFA once they are established with credit funds to support their economic activities. The nature of RFAs is described in section 3.4.14 of the report. (B) Support to Outreach Expansion 4.8.3 This component will support activities under the Innovation and Outreach Facility of the Programme in a Public/Private sector partnership for outreach expansion in rural areas. To support this component, the Project will finance the Matching Fund scheme to the tune of UA 2.51 million. This support is expected to act as a catalyst to encourage the financial sector operators to extend their operations and outreach into the rural areas, create new product lines, restructure existing institutions or create new ones. The fund will also support participating institutions to diminish the initial risk of penetrating into rural areas by covering a portion of the costs of offering these services in the rural environment. Those institutions in need of incremental resources to support credit expansion under these new approaches will be able to access funding from the Line of Credit (C) below. Due to the demand-based nature of this component, the type and characteristics of the initiatives financed cannot be determined at this point as they will depend on the actual proposals to be submitted by the sponsoring operators. The Programme/Project has however established criteria by which these outreach approaches will qualify for support (see annex 4). This would include initiatives such as:(i) Schemes intended to transform groups and village based savings and credit activities into more permanent financial operators with links to the formal financial sector; (ii) Projects to design, pilot and mainstream new products, appropriate for rural environments, for formal, semi-formal and informal financial institutions; (iii) Establishment of new rural branches for microfinance institutions and sub-branches as service points for formal financial institutions; (iv) Interventions to support the formation

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of new rural finance institutions; (v) Projects to transform the legal/organisational status of existing institutions (ASCAs & RFAs) so that they could effectively provide savings, credit and other financial services in rural areas etc. (C) Line of Credit 4.8.4 The ADF Project will support the Line of credit to the tune of UA 8.50 million. The proceeds of the LOC will be “wholesaled” to licensed financial intermediaries/organizations acceptable to the Fund and which meet the eligibility criteria defined in annex 5. FARE will wholesale proceeds of the LOC on terms and conditions acceptable to the fund, and as contained in the on-lending agreement to be reviewed and approved by the Fund. The financial intermediaries will retail credit to their respective clients at the prevailing market rates, terms and conditions. The credit will support clients in rural areas including small-holder farmers/groups and association, fishers, traders groups/associations, agro-processors, rural businesses etc and the incremental credit requirements of the RFAs, ASCAs and innovative outreach cited in component B & C of the Programme. The financial intermediaries expected to participate in the scheme include Special Credit Institutions, the credit cooperatives and MFIs as they attain operational efficiency and sustainability and meet the basic criteria. Some of these institutions are analysed in annex 2 of the report. Based on the analysis of the types of services demanded and/or likely to be demanded as the development of rural areas progresses (see section 3.6), and the expressed needs by some of the financial intermediaries visited by the Mission, a conservative estimate of UA 17.51 million (USD 21.73 million), additional resource will be required to support lending over the six year period of the Project. FARE will open a Special Account into which reflows from the LOC will be credit to support the development of rural finance, and the needs of rural people beyond the Project life. (D) Project Management 4.8.5 The ADF-Project will be managed within the overall management framework that has been established for the Programme. The Programme Management Unit (PMU) will be established with FARE, in the Ministry of Planning and Finance to oversee the day-to-day management of the ADF Project. The unit will be headed by a Programme Coordinator who will be appointed by the Government assisted by three professional staff. The PMU will be supported with long-term Technical Assistance staff funded by IFAD (see section 4.5.5) to establish the operational systems. The ADF Project will support the PMU to undertake the inception workshops, media/PR support, stakeholder’s participatory evaluation workshops and forums, studies on emerging issues as well as research to support of key topics of concern in rural finance. The project will also support the training of the additional staff to be assigned to the PMU by the government. These counterpart staff will receive training in form of short-medium term local and foreign training to supplement the on-job training from the consulting TA’s. Most of the training will be undertaken within the duration of the TA contracts. The project will also support HIV/ AIDS mitigation activities, such as, awareness raising and information dissemination sessions for schools, communities, MFI/ RFA/ BoM/ MPF/ PIU etc. staff, training of voluntary peer counsellors and setting up of voluntary support groups at different levels. 4.9 Rural Finance Market and Interest Rates 4.9.1 Presently, most financial service operators are found in the urban/peri-urban areas where there is a high density of activity and an absence of many of the constraints, which make serving rural markets difficult. For example, more than half of the existing credit operators are found in Nampula and Maputo provinces. A number of other operators are in Gaza, Tete, Sofala, and Zambezia and there

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are currently a number of operations in the pipeline for the Nampula, Zambezia, Sofala, and Maputo Provinces. Although some of the current operators show good potential to reach significant scale, these institutions will not be able to meet the total demand for rural and microfinance services in Mozambique. Additional players will be required not only to expand total outreach, but to develop a competitive environment that will encourage operators to deliver services efficiently, provide rural finance services and offer competitive prices and products to end users. 4.9.2 Confidence in the economy is good and private investment is growing rapidly. Although inflation has declined to single digit figures, interest rates on bank loans have remained high, fluctuating between 30% and 42% in early 2003. Based on a sample of four rural credit and micro finance institutions supervised by BoM, the monthly interest rate available to borrowers in rural Mozambique ranges between 1.6 to 6.25% per month. Credit institutions surveyed use different methods to determine interest rate based on their respective cost structure and the risk of the investment involved. While SOCREMO determines interest rate based on the amount of the loan requested, GAPI bases its interest rates on the level of risk associated with the loan, as well as the duration of the loan. It is expected that as the financial sector expands, competition increases and the policy environment is streamlined, interest rates would eventually come down. GAPI wholesales credit to smaller intermediaries at rates ranging between 14% and 16% and retails credit at rates ranging between 24% and 26%. Deposit mobilisation rates range between 7% and 10% for different institutions. Prevailing market rates will be used to guide activities under the proposed intervention. 4.10 Environmental Impact The Project has been classified as category III in according to the Bank’s Environmental Guidelines. The Project will support primarily capacity building and institutional development of key institutions involved in the development of rural finance. The Project will not support any physical developments. Hence, the Project’s overall environmental impact will be neutral-to-positive on account of the rapid uptake and adoption of improved agricultural production technologies, diversified income-generating activities and improved incomes, which would result in improved well-being of rural households. 4.11 ADF Project Costs The total ADF project cost including physical and price contingencies is estimated at MZM 619.44 billion, equivalent to UA 18.64 million. The foreign exchange component of the Project is estimated at UA 11.11 million or about 60% of total project costs, while local costs amount to UA 7.53 million (40% of total cost). In assessing the price contingency, the foreign inflation rates are based on the MUV index of manufactured exports from the G-5 industrial countries and are estimated at 2.3% per annum for all years, while local inflation rate is projected at 5% per annum. The following physical contingencies have been assumed: 5% for vehicle, equipment, studies, training and workshops; 10% for operation and maintenance costs; and none for matching fund, line of credit, salaries and allowances. The summary project costs by component and by category of expenditure is given in table 4.3 and 4.4 below:

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Table 4.3- Summary of Project Cost Estimates by Components

(MZM billions) (UA millions) Foreign Local Total Foreign Local Total % Components Cost Cost Cost Cost Cost Cost Foreign

A. Capacity Building and Institut. Deve Exchange

1. Rural Finance Policy Unit 8.09 21.10 29.19 0.27 0.71 0.98 28 2. Bank of Mozambique 9.47 20.31 29.78 0.32 0.68 1.00 32 3. Institutional Support to MFIs 19.26 11.12 30.38 0.64 0.37 1.02 63 4. Institutional Support To FARE 6.11 16.04 22.15 0.20 0.54 0.74 28 5. National Women's Affairs Directorate 5.80 7.09 12.90 0.19 0.24 0.43 45 6. RFA Development (Area 1) 11.63 11.63 23.26 0.39 0.39 0.78 50 7. RFA Development (Area 2) 11.63 11.63 23.26 0.39 0.39 0.78 50 Subtotal 71.99 98.93 170.92 2.41 3.31 5.72 42 B.Support to Outreach Expansion 44.80 44.80 89.60 1.50 1.50 3.00 50 C. Line of Credit 181.50 60.50 242.00 6.07 2.02 8.10 75 D. Programme Management 10.90 10.90 21.79 0.36 0.36 0.73 50 Base Cost 309.18 215.13 524.31 10.34 7.20 17.54 59 Physical Contingencies 4.22 4.18 8.40 0.14 0.14 0.28 50 Price Contingencies 54.81 31.92 86.73 0.63 0.19 0.82 77 Total Project Cost 368.21 251.23 619.44 11.11 7.53 18.64 60

Table 4.4 – Summary of Project Cost Estimates by Category of Expenditure (MZM billions) (UA millions) Categories Foreign

Cost Local

Cost Total

Cost Foreign

Cost Local

Cost Total

Cost Foreign

Exchange Investment Costs a. Vehicle 0.72 0.24 0.96 0.02 0.01 0.03 75 b. Equipment and Material 0.45 0.15 0.60 0.02 0.01 0.02 75 c. Technical Assistance 12.40 2.39 14.79 0.41 0.08 0.49 84 d. Studies 13.80 13.80 27.59 0.46 0.46 0.92 50 e. Training and Workshop 18.30 18.30 36.59 0.61 0.61 1.22 50 f. Contractual Services 23.26 23.27 46.53 0.78 0.78 1.56 50 g. Matching Funds 44.80 44.80 89.60 1.50 1.50 3.00 50 h. On-lending Funds 181.50 60.50 242.00 6.07 2.02 8.10 75 Total Investment Costs 295.23 163.43 458.66 9.88 5.47 15.34 64 Recurrent Costs a. Salaries - 37.45 37.25 - 1.25 1.25 - b. Allowances - 0.29 0.29 - 0.01 0.01 - c. Operation and Maintenance 13.95 13.95 27.91 0.47 0.47 0.93 50 Total Recurrent Costs 13.95 51.69 65.65 0.47 1.73 2.20 21 Total Baseline Cost Physical Contingencies Price Contingencies

309.18 4.22

54.81

215.13 4.18

31.92

524.31 8.40

86.73

10.34 0.14 0.63

7.20 0.14 0.19

17.54 0.28 0.82

59 50 76

Total Programme Cost 368.21 251.23 619.44 11.11 7.53 18.64 60

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4.12 Sources of Financing and Expenditure Schedule 4.12.1 The ADF loan funding of the Project will be to the tune of UA 11.52 million (equivalent to 61.8% of the total project cost). This will be for the Line of Credit Component, the Matching Fund of the Rural Finance Outreach Component and the training and workshop activities under the Project Management Unit. The ADF Grant of UA 3.84 million (20.6%) will fund the activities of the Capacity Building and Institutional Development Component (the measurable indicators of the outputs of the component are given in annex 8 of the report). Participating financial institutions will contribute UA 0.63 million (3.4%) toward the matching grant funds, training and recurrent costs of their participation in the project. While the GOM will make a total contribution of UA 2.65 million (14.2%) of the total project cost for the salaries of government staff to be seconded to the project, office accommodation and utilities costs as well as a 5% contribution to the matching fund. The Government contribution includes a tax element of UA 0.69 million. The proposed financing plan for the ADF Project by Source of Funds are given in tables 4.5 and 4.6 below.

Table 4.5: Sources of ADF Project Finance - (UA millions) Sources of Finance Foreign Cost Local Cost Total Cost % of Total Cost ADF Loan ADF Grant Financial Institutions Government

8.51 2.60

- -

3.01 1.24 0.63 2.65

11.52 3.84 0.63 2.65

61.8 20.6 3.4

14.2 Total 11.11 7.53 18.64 100.0

Table 4.6: Sources of Finance for the ADF Grant

Sources of Finance Foreign Cost Local Cost Total Cost % of Total Cost ADF Grant Financial Institutions Government

2.60 - -

1.24 0.15 1.73

3.84 0.15 1.73

67.1 2.6

30.3 Total 2.60 3.12 5.72 100.0

Justification for Local Cost Financing

4.12.2 The ADF funds will mainly be utilized towards the investment costs of the Project. The ADF funds will finance UA 4.25 million (56%) of the local cost of the Project, which is justified on the following grounds. The Project and the overall Programme are geared towards poverty reduction. A substantial proportion of the project cost is aimed at building the capacity of the local rural finance institutions in country. These will involve the use of national consultants and the holding of local training sessions. Substantial portions of the credit and matching funds requirement will also be local currency. These necessitates that a high share of local cost is borne by the ADF. As part of the economic reform effort, GOM has strengthened its tax administration and revenue collection. However, in spite of these efforts, the Government does not have the capacity to finance the entire local cost of the Programme. Despite this constraint, the Government will be meeting a significant portion of the Programme recurrent cost. 5. PROJECT IMPLEMENTATION 5.1 Executing Agency The Ministry of Planning and Finance (MPF) will be the executing agency for the overall Programme and within it the ADF Project. In addition to its oversight functions, the Ministry will also have the direct responsibility for the implementation of activities specific to the Rural Finance Policy Support/Unit.

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5.2 Institutional Arrangements 5.2.1 Fundo de Apoio à Reabilitação da Economia (FARE): will coordinate the overall Programme implementation and that of the ADF-Project. The existing FARE Board of Directors will be expanded to also provide the Steering oversight for the overall Programme and the establishment of INAFIR. The new Board will be composed of eight people including one representative from the private sector (Financial Intermediaries), one representative from the civil society/NGOs, the Deputy Director, Supervision Department, BoM, representative from a farmers association/trade organisation, and the Permanent Secretaries from the Ministries of Commerce and Trade, Agriculture and Rural Development and Fisheries. The Deputy Minister in the Ministry of Planning and Finance or their representative will chair the Board/Steering Committee. The Board will meet once a quarter or on an ad hoc basis as and when required especially during the preliminary investment period of the Programme. The Programme Coordinator will act as secretary to the Board. The institutional responsibilities of the different government agencies and the main financial service intermediaries are intended to be fully represented by the Board of Directors/Trustees, which has full decision making power over the activities of the Programme except the Rural Finance Support Unit which is under the Ministry of Planning and the Support for the Rural Finance Regulatory environment under the BoM. As a condition of first disbursement, the members of the Board shall have been selected, a chairperson of the Board chosen and approval received from all the financing agencies. The overall responsibility of the Board will be to provide policy direction to the Programme; review the performance of the PMU; approve the annual work plans and budgets and quarterly progress reports; approve on-lending of funds, facilitate communication and the exchange of ideas; and promote the development of rural finance and the adoption of best practices. 5.2.2 The Programme Management Unit (PMU): The PMU under the guidance of a National Programme Coordinator will have the responsibility for the day-to-day management and coordination of the Programme components and activities, with the exception of the Rural Finance Policy Unit under the direct responsibility of MPF, and the support for the Rural Finance Regulatory environment under the BoM. Additional staff to be assigned by the government to FARE for the PMU in addition to the TA support to be provided with funding from the Programme (IFAD). As most of the Programme will be contracted to service providers, NGOs, consulting groups, the PMU will spend a considerable amount of its time soliciting for qualified interest in tenders, preparation and reviewing of tenders, supervision and management of the contracts. The PMU will conduct the Programme inception workshops, oversee the media/PR support for the overall Programme; conduct the stakeholders participatory evaluation forums, and conduct research on key topics of concern in rural finance. The PMU will also coordinate all the capacity and institutional development support intended for the other institutions/organisation and the MFIs. The PMU will also constitute a credit review committee, which will be chaired by the Deputy Director, Supervision Department, BoM. The committee will review all requests for support under the line of credit and the matching fund. The credit committee will submit its recommendations to the FARE steering committee/Board for consideration and approval. 5.2.3 Proceeds of the LOC will be wholesaled by FARE to financial intermediaries on the basis of an on-lending agreements, with terms and conditions acceptable to the Fund. Approval of the draft standard On-lending agreement to be used will constitute a conditions of the ADF loan. The rate at which FARE will wholesale the credit will not be less than the prevailing market deposit mobilisation rate, which at the time of appraisal was estimated at about 10%. This rate will be adjusted by the Steering Committee to bring it in-line with changing market conditions. Similarly, support from the Matching Fund will be on basis of a “Memorandum of Understanding” which will signed between the PMU on behalf of the GoM and the sponsoring/beneficiary financial intermediary. The standard format

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of the MOU will also constitute a condition of the loan agreement. Similarly, the establishment of the PMU and appointment of the National Programme Coordinator will be a condition of the ADF Loan and grant. The assignment of the three additional staff to the FARE/PMU by the GoM will be other condition of the ADF loan and within three months of the loan effectiveness. 5.2.4 For gender mainstreaming and community empowerment project will focus on increasing access to credit and business skills, promoting community empowerment and participation, mainstreaming gender issues in micro-credit delivery, and improving gender sensitive monitoring. Specifically, project will provide gender sensitization training for relevant staff of participating MFIs, RFAs, ASCAs, the MPF, BoM, and the PIU, as well as community leaders and some client groups. MFIs will adopt the methodology of gender disaggregated data collection, gender sensitive monitoring and evaluation, as well as proactively focusing on increasing female clients. The NDWA will have the responsibility of training the provincial and district level gender officers on gender mainstreaming and monitoring in micro-finance programmes as well as back-stopping and coordination of certain meetings, etc. (see PID for details). The PMU will recruit one gender officer who will be responsible to implement and coordinate the gender mainstreaming and HIV/ AIDS mitigation in the programme as well as provide technical assistance to the NDWA. 5.2.5 The Bank of Mozambique (BoM): will be responsible for establishing the Regulatory and Supervision environment for Rural Finance activities. Through its rural finance focal group, it would determine the most effective way in which to operate in relation to rural financial intermediaries and decide on the approach that it should take in regulating and supervising such institutions. It would also work jointly with MPF and the newly formed Rural Finance Policy Support Unit and participate in the development of a new policy and regulatory framework for rural finance. BoM would also appoint a representative at the Director level to the FARE Board of Directors/ Steering Committee. BoM will assign the same person or choose another person at the director level to chair the credit review committee to be established within the FARE/PMU. 5.2.6 Service Providers, NGOs, Consulting Groups, etc: Most of the Programme and ADF Project activities will be contracted to service providers, NGOs, consulting groups, etc. Under the Outreach and Community Financial Institutions component of the Project, local and/or international service providers or NGOs will be contracted to work with communities and community groups develop the RFAs. The selected institution will carry out the task of forming and backstopping RFAs, training of the elected officer, committees and members. This will include basic business development skills, literacy, and HIV/AIDS awareness and sensitisation. The selected service providers goal will be to reduce the cost of forming such groups while facilitating the rapid expansion of the scheme. The Project Management Team would work closely with the second phase of the current IRAM-Project under the BoM, which is looking into consolidating the existing RFAs into unions, and establishing and appropriate umbrella body. The Rural-Micro-finance Expert to be contracted for the PMU will prepare the terms of reference for the service providers, which will constitute part of the contract. 5.3 Supervision and Implementation Schedule for the Project The implementation of the ADF-Project will be over a period of six years starting 2004/5, while the overall Programme will be implemented over an 8-year period. During the project period, the Bank will undertake at least three supervisions within each two-year period in accordance with Bank Group requirements. A mid term review (section 5.4.2) will be undertaken in the third year and a project completion report will be prepared by both the GoM and the Bank in the final year of the project. The

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detailed project implementation schedule is given in Annex 7. A summary of the Expenditure Schedule for the ADF Project by Component and by Sources of Finance is given in table 5.1 and 5.2 respectively.

Table 5.1 – Expenditure Schedule for the Project (UA’000)

Components 2004/5 2005/6 2006/7 2007/8 2008/9 2009/10 Total A. Capacity Building and Instit. Dev.

1,344 1,260 1,013 1,034 808 725 6,184

B. Support to Outreach Support 341 689 697 683 688 36 3,134C. Line of Credit 1,052 2,072 2,108 2,144 1,127 - 8,503D. Programme Management 96 190 113 189 121 108 817Total 2,833 4,211 3,931 4,050 2,744 869 18,638

Table 5.2 - Expenditure Schedule by Sources of Finance (UA’000)

Components 2004/5 2005/6 2006/7 2007/8 2008/9 2009/10 Total ADF Loan 1,752 2,604 2,431 2,503 1,697 538 11,524ADF Grant 584 868 810 834 565 179 3,839Financial Institutions 96 142 133 137 93 29 630Government 402 598 558 574 389 123 2,645Total 2,833 4,211 3,931 4,048 2,745 869 18,638 5.4 Monitoring and Evaluation 5.4.1 The monitoring and evaluation of the ADF Project will be done within the framework to be established for the entire Programme. The Planning/M&E Officer in the PMU will have overall responsibility for the definition and management of the programme monitoring system and the ADF grant. The M&E expert will design the specification of the baseline surveys. The baseline survey will be designed to assemble only the most relevant information required to allow the PMU and other parties to assess the performance and impact of the Programme. Whenever possible, the baseline surveys will be conducted in conjunction with participatory processes that form part of the initial work of the PMU and contracted organizations in a specific area. By adopting this approach, the work and time input will be reduced and the information gathering more directly linked to the activities that will be carried out. The basis for the monitoring system will be a quarterly reporting structure set against the logframe and the Annual Work Programme organized by programme component. The TA staff in the PMU will report quarterly to the Planning/M&E Officer on: (i) programme activities undertaken in the last quarter and cumulatively over the fiscal year; (ii) all movements in the loan and ADF grant accounts during the period (statement of accounts); (iii) physical acquisitions made with the expenditures; and (iv) monitoring and evaluation results. S/he will be responsible for assembling the quarterly reports, analysing the material and preparing a condensed progress report for the Programme Coordinator who will in turn submit it to the Steering Committee/Board for clearance before being forwarded to the donors. The Planning/M&E Officer will also be responsible for organizing activity-specific impact case studies, assessing the impact of policy changes on smallholders, fishers, traders, and the rural poor in particular, ensuring that the analysis and information generated allows the PMU and other stakeholders to assess whether the Programme is adequately dealing with gender, HIV/AIDS and poverty issues. 5.4.2 Midterm Review: There will be two major reviews during the eight-year implementation period of the overall Programme. In addition, the ADF Project will conduct a mid-term review in the 3rd year. The review will make a strategic assessment of the performance and impact of the Project

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progress against the established objectives. To the extent possible, ADF mid-term review will be synchronized with the Programme Tri-term reviews planned for the beginning of the PY3. The review will identify key implementation issues and help orient the strategy for the coming phase, including modifications to Programme/Project design, scope and implementation arrangements required to ensure achievement of its objectives. Key tasks include assessing: the Implementation progress against appraisal estimates and work programme; performance of the contracted service providers and financial management; Geographical/demographic coverage of the Project activities and options for the next phase; Coordination with other donor supported activities within the Programme; technical assistance requirements. The Project will provide one-person month of international and three person months of national consultants to conduct the mid term review in year 3. 5.5 Procurement Arrangements 5.5.1 The procurement arrangements for the ADF project are summarised in Table 5.3 below. All procurement of Goods and services under the Bank Group funding will be carried out in accordance with the Bank’s ‘Rules of Procedure for Procurement of Goods and Works’ or, as appropriate, Rules of Procedures for the Use of Consultants’ using the relevant Bank Standard Bidding Documents. The list of goods and services to be procured is given in annex 9 of the report.

Table 5.3 - Summary of Procurement Arrangements for the ADF Project: ( in UA ‘000) Categories of Expenditure Shortlist Others NBF Total 1. Goods 1.1 Vehicle 34.25 [ 25.69] 34.25 [ 25.69]1.2 Equip & materials 21.41 [ 16.05 ] 21.41 [ 16.05 ]Sub-Total 55.66 [41.74] 55.66 [41.74]2. Consultancy Services: 2.1 Local/Regional TA 110.46 [ 110.46 ] 110.46 [ 110.46 ] 2.2 International TA 400.12 [ 400.12] 400.12 [ 400.12] 2.3 Studies 1,009.45 [ 1,009.45] 1,009.45 [ 1,009.45] 2.4 Contractual Services 1,714.27 [ 1,542.84] 1,714.27 [ 1,542.84] Sub-Total 3,234.30[3,062.87] 3,234.30[3,062.87] 3 Training & Workshops 668.59 [ 624.55] 668.58 [ 624.55] 1,337.17 [ 1,249.10] 4. Miscellaneous 4.1 Line of Credit 8,504.03 [ 8,504.03] 8,504.03 [ 8,504.03]4.2 Matching Fund 3,131.69 [ 2,505.35] 3,131.69 [ 2,505.35]4.3. Salaries &Allowances 1,294.06 1,294.06 4.4. Operating & Maintenance 1,081.27 1,081.27 Sub-Total 12,304.30 [11,633.93] 2,375.33 14,679.63[11,633.93]Total Project Cost 3,902.89[3,687.42] 12,359.96 [11,675.67] 2,375.33 18,638.18 [15,363.09] *Others include LIC, Direct Purchase, National Shopping or Force Account Figures in parentheses refer to ADF funding. 5.5.2 Goods: The one vehicle intended for FARE costing UA 34,249 and training equipment and materials amounting to UA 21,406 will be procured through National Shopping. This is because the goods are readily available off-the-shelf items or standard specification commodities, which can be procured locally. 5.5.3 Consultancy Services: Consultancy services, estimated at UA 3.23 million (consisting of Technical Assistance for the preparation of the Strategy under the RFP Unit, Institutional Support to MFIs, and the services of a gender specialist, all valued at UA 110,459; the services of a microfinance specialist and a BOM-MFI supervision specialist, all worth UA 400,118; studies worth UA1.00

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million; and inputs from Service Providers/NGOs, valued at UA 1.71 million) will be procured on the basis of shortlists of qualified firms in accordance with Bank Group’s Rules of Procedure for the Use of Consultants. The selection procedures will be based on the technical quality with price consideration.. For short-term assignments not exceeding two months, the PMU will recruit individual consultants directly in accordance with Section 4.3 of the Bank Rules. 5.5.4 Training: The total training and workshops budget under the Project amounts to UA1.34 million. Staff for the BoM, MFIs, FARE and the PMU, will be procured through shortlists of training institutions, in accordance with Bank Procedures. Training of MFI clients and members will be contracted out to NGOs and other service providers who will be procured on basis of shortlists. The PMU will work with the relevant beneficiary institutions in identifying the appropriate training institutions, NGOs and service providers. Exchange and exposure visits will be arranged directly by the PMU in consultations with the relevant institutions. For short-term trainings with duration of less than 2 months by individual consultants, the PMU will procure them following Section 4.3 of the Rules 5.5.5 Line of Credit and Matching Fund: Proceeds of the ADF line of credit amounting to UA 8.50 million for wholesaling to financial intermediaries and the Matching Funds of UA 3.13 million to support Outreach Expansion will be disbursed directly to FARE/PMU. FARE will wholesale the proceeds of the Line of Credit to financial intermediaries acceptable to the Fund based on the criteria developed in consultation with stakeholders in Annex 5. The participating financial intermediaries will on-lend the proceeds of the line of credit to their respective clients in accordance with the local market practices. FARE/PMU will also disburse the proceeds of the Matching Funds to financial intermediaries sponsoring Outreach approaches to rural finance as specified in the criteria in annex 4. In both the Line of Credit and the Matching Funds, a special credit committee chaired by the Deputy Director, Supervision Department of the BoM, will review and approve the requests from the participating institutions. Formal approval will be provided by the FARE Board, which also has the steering oversight for the Programme. 5.5.6 General Procurement Notice: The text of a General Procurement Notice (GPN) will be agreed on with the GoM, and issued for publication in “Un Development Business” upon approval by the ADF Board of Directors, of the loan proposal. 5.5.7 Review Procedures: The following documents are subject to review and approval by the Bank before promulgation: (i) Specific Procurement Notice; (ii) Requests for Proposals; (iii) Reports on evaluation of consultant’s proposals including recommendation for contract award; and (v) Draft Contracts if these have been amended from the drafts included in the tender invitation documents. 5.6 Disbursement Arrangements The special account method and the direct payment method will be used for disbursement of the ADF loan funds and grant. Given the reluctance expressed by the BoM to open project special accounts, FARE/PMU will open two separate Special Accounts (SA) in the name of the Project with a recognised commercial bank acceptable to the Fund. One account will be for the management of the ADF loan and the second account for the grant. Local Currency Account (LCA) will be opened each for the Line of Credit, the Matching Funds and the Grant. A separate Local Currency Account will be opened into which capital and interest re-flows from the LOC will be deposited to establish a revolving fund to support rural finance development beyond the Project life. A similar approach has been used under the Artisal Fisheries Development Project. The FARE/PMU will access the accounts, and use the proceeds of the loan and grant for all payments relating to ADF funding both local and foreign. The

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accounts will all be replenished directly by the Bank on basis of an approved work programme and sufficient justifications for the use of at least 50% of the previous deposit. The opening of the accounts will be a condition precedent to first disbursement. Signatory for all the accounts will include a designated official the BoM and the MPF. The PMU will maintain separate records at all times of all disbursements made from the ADF accounts. Applications for withdrawal of funds from the ADF Special Account will be prepared and submitted by the PMU in accordance with the ADF disbursement procedures. Disbursements will normally be made against full supporting documentation. 5.7 Financial Reporting and Auditing In a programme of this kind with the majority of activities contracted out and funding coming from a number of different sources, financial management and supervision will be the key management function. The Finance and Contract Manager in the PMU will be responsible for the management of all programme funds, comprising (i) the Line of Credit, (ii) Matching Fund (iii) the PMU and its operations, (iv) management/implementation of programme activities, (v) individually contracted training and TA, and (vi) policy/legislative initiatives. Accounting systems will be designed to allow separate control and monitoring of funds from these different activity centres, as well as, to provide for the financial reporting requirements of the different financiers/donors participating in the Programme. The PMU will compile and maintain proper financial reports and audited accounts, copies which will be made available to the Bank not more than six (6) months after the end of the financial year. The Project will fund these annual audits, which will be carried out by independent external audit firms. While all effort will be made to harmonize the management of funds, the financial management system will need to have the capacity to accommodate and respond to the diverse donor demands for information and accountability. 5.8 Aid Co-ordination 5.8.1 The Rural Finance Forum currently coordinated in the Prime Minister’s office will be reconstituted, possibly jointly with USAID-funded Centre for Promotion of Rural Finance, to comprise a broad cross-section of stakeholders concerned with rural finance. A Donor Coordination Group comprising all donors concerned with rural finance will be constituted under the auspices of the Rural Finance Policy Unit to be established in the Ministry of Planning and Finance. Donor coordination for the overall Programme will fall under the unit. An assembly would be convened at least twice a year to discuss issues concerning rural finance and how they could be tackled under this and other programmes/projects involved in the rural finance arena. In addition to this forum, sectoral working groups, involving the Government, the donor community, and NGOs represented in Maputo, have recently been established. Already, there has been active investment coordination in health, education, transport, agriculture, petroleum procurement and import support. In addition, the international development partners are very active in Mozambique, supporting gender issues in a Gender Donor Co-ordination Group chaired by the Netherlands. There is also a UN Gender Theme Group, which focuses on working with the gender focal points, and mainstreaming gender issues in the different projects and programmes. 5.8.2 The Appraisal Mission consulted extensively with donor’s representatives in the country. All donors consulted by the mission were very supportive of the Programme and see its potential of supporting other on-going initiatives in rural finance. Although the ADF intervention and the Programme as a whole have activities similar to those under the USAID Centre for Promotion of Rural Finance, the scope and need for such interventions in rural finance is large enough to accommodate several players. It is expected that the Rural Policy Unit in MPF will in future enhance synergy and

34

harmonize diverse donor approaches with a view to ensuring efficient resource use and coherent national strategies and policies. To enhance donor coordination, it is programmed that IFAD, NORAD and the Bank will field joint supervision and Mid-term review missions. 6. PROJECT SUSTAINABILITY AND RISKS 6.1 Recurrent Costs The total recurrent cost of the project over its 6-year life is estimated at UA 2.38 million with an annual average of UA0.397 million. This represents the salaries and allowances of government staff to be seconded to the project, as well as some operating expenses such as office rent and utilities costs. Theses expenses are to a large extent already catered for in the Governments annual budgetary allocation. The ADF loan and Grant will not fund any recurrent expenses, these will be covered under the GOM budget. 6.2 Sustainability 6.2.1 The sustainability of the ADF Project is also interlinked with the sustainability mechanism in-built within the overall Programme. The present socio-political environment promises peace, prospects for growth and healthy entrepreneurial development. The ADF Project components will stimulate micro enterprises and raise rural per capita income. Client sensitisation and training to inculcate a strong sense of credit-discipline will raise financial and operational sustainability of the various financial intermediaries that will participate in the Programme. Improved supervision and regulatory framework will enhance compliance to the prudential and regulatory norms in the industry leading to a strong and viable rural intermediation system. The PMU, which will be established within FARE will be supported with appropriate management, financial, technical, logistical, as well as training. It is envisaged that future donor and/or Government Rural Finance interventions will use the PMU to channel the projects and programmes, which will further add to its sustainability and strengthening. The Programme will provide a framework for coordinated and coherent donor approaches to rural and micro-finance. 6.2.2 The proposed MFI Association will through membership fees be financially sustainable. The support to outreach expansion activities will be sustainable because of the demand driven nature of the interventions. All new initiatives will first be piloted, tested, fine-tuned and then only will they be implemented according to the demand from the beneficiaries. The approaches will be mainstreamed into the operations of the sponsoring financial intermediaries once they prove successful. The RFAs are sustainable in that they are managed by the communities themselves, and are sustained through various forms of membership fees and other charges. The RFAs will be established along proven models and established good practices and will enjoy guidance from the Project in order to ensure their initial successful development and growth. The communities/members of RFAs will also receive training in different aspects of leadership, management and mobilisation skills in order to establish their own financial associations, developing their own by-laws etc. Incremental credit funds will support increased volumes of activities, leading to reduction in operating costs due to economies of scale, and thereby improve the overall profitability of the rural financial intermediaries. The availability of loanable funds combined with improved credit delivery system and management, will also result in self-sustaining institutions and rural enterprises. The establishment of a revolving fund account to capture reflows from the LOC, will ensure that support to rural finance development continues beyond Project period.

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6.3 Risks and Mitigating Measures

As there has been little momentum in the development of rural finance to-date and only limited capacity on which to build, some of the Programme/Project components such as the outreach expansion approaches. While this exposes the Project and the overall Programme to risk, there is little choice if the government is to achieve its goal of making an impact in the rural areas through the expansion of financial services. The risk of not doing anything is higher, and would continue to marginalize the bulk of the Mozambican population living in rural areas. Currently there is a limited availability of local service providers, NGOs and training institutions in Mozambique to respond to the demand of the Project for forming RFAs and training. This could limit the pace of development and increase costs due to dependence on international organizations. Recognizing this, the Project will promote partnering/mentoring of local NGOs with international ones for knowledge and experience transfer. 7. PROJECT BENEFITS 7.1 Financial Analysis The project is primarily focused on extending the outreach of rural households to financial services through improved financial services and efficient institutions. Quantifying the benefits to calculate the economic rates of return of the project has not been possible. However, an analysis to determine the financial viability of a sample of possible business activities within the rural environment for which resources from the line of credit would be used to fund has been carried out. These business activities range from crop production, fishing, petty trading to agro-processing. The analysis indicates that there are good range of viable rural enterprise that can be supported with credit facilities and which can service loan repayment obligations from internally generated funds. The detailed analysis of the farm models is given in the PID, while a summary is presented in the table below:

Table 7: Summary of Financial Analysis of Sample Rural Enterprises Enterprise

Total Capital Requirement (MZM’ million)

Loan Amount (MZM ’million)

Loan Repayment Period (months)

Av. Annual Net Profit (MZM ’million)

Av. Annual Net Cashflow ZM’ million)

Profit Rate (%)

IRR (%)

Farm model 16.5 4.1 12 14.7 14.7 89 Fish trade 80.0 64.0 8 87.1 87.1 109 Maize trade 100.0 80.0 7 77.3 87.1 77 Trammel fishing 5.0 2.5 48 5.5 4.8 74 Maize mill 132.0 66.0 48 78.0 61.3 34 Cashew micro-processing machine

210.0 105.0 48 117.8 91.3 31

7.2 Benefits Analysis 7.2.1 The major benefits would flow from the development of sustainable, vibrant, responsive and dynamic demand driven financial services for rural households. Overall, credit provision is expected to have a significant impact on household income, particularly in the diversification from agricultural production, through the build-up of their assets base. Poor rural households who are otherwise constrained would benefit by having access to savings services and the opportunity to invest in on farm, off-farm and non-farm income generating activities. The overall Programme will also contribute to increased savings and incomes for the beneficiary rural households generated through investments in a range of micro enterprises. The financial deepening in rural areas would lead to a competitive

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environment resulting in a reduction in lending rates in both the formal and informal money markets, which would benefit not only programme clients but the larger rural space. 7.2.2 Additional benefits of the Programme that would accrue to the Mozambican economy will be in terms of the improved marketing and entrepreneurial activities. Specifically, the benefits will be derived from the following activities: (i) improved access to financial services through community-based financial institutions that hold savings and extend credit for multiple purposes, including for agricultural production; (ii) for households in and around smaller towns, enhanced access to rural financial institutions (RFIs) that offer small to medium-scale loans with an increasing geographical coverage and rural suitability, including households participating in commercial marketing initiatives and small and medium-scale traders/processors; (iii) for farming households that participate in community-based trade associations, access to loan financing for marketing their cash crops in reliable and attractive business relationships; v) for farming households that participate in outgrowing schemes, the realisation of opportunities to improve and expand cash crops in their farming system and to sell them in reliable and attractive business relationships. In addition, the availability of ‘affordable credit’ is likely to stimulate economic activity and generate positive impact beyond those households directly accessing credit, particularly in the form of employment generated. 7.3 Social Impact Analysis 7.3.1 The ADF Project will contribute to the improvement of the quality and standards of living of the target population. Business and entrepreneurial skills enhancement will contribute to establishing better and sustainable entrepreneurial activities, and enable the local people to identify and address local problems with local solutions. Entrepreneurial activities and other support services will lead to job creation for skilled and semi-skilled artisans. Moreover, other income earning opportunities may also arise from the multiplier effect of increased investments in the rural areas. Such small enterprises will also provide a basis for economic diversification, which will enable rural households to be less affected by external shocks. Such activities will be particularly favourable for the youth, single women and female heads of households, and other economically disadvantaged groups. 7.3.2 The major output and benefit from the Capacity building and Institutional development component would be the establishment of an operational strategic framework for rural finance which would allow financial service practitioners and clients/potential clients of financial services to maximize the utilization of their time and resources. The establishment of the policy and strategic framework would eventually translate into direct benefits to individual traders, smallholders and other rural dwellers who will progressively be able to access credit and other financial services on more reasonable terms. The Strengthening of local capacity and financial institutions responds to the limited capacity in Mozambique. The Microfinance Association would benefit the MFIs who become members of the organization. 7.3.3 The savings and credit groups and other community based financial organizations are a powerful force for social empowerment, especially for women. The RFA programme will allow members especially women to generate savings and by so doing expand liquidity in the community and attain a higher level of economic activity. It is projected that over 24,000 households would benefit from the RFAs expansion. Benefits are expected to be substantial from the other outreach approaches, which would help to increase the outreach of the current financial intermediaries and possibly also encourage the commercial banks to open some new branches or pilot innovative ideas. There would be a direct benefit to the average rural household in terms of savings/deposit services and an indirect benefit to the same households in greater liquidity in the marketing system through easier access to credit and other financial services for traders and rural enterprise groups. Therefore, the

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beneficiaries would be a wide range of stakeholders from the rural poor to small-scale processors, and from outgrowing companies to village traders. Small and medium scale rural traders, rural enterprise groups and marketing associations would all benefit from improved financial services. Access to credit by women will increase their participation in economic activities, particularly trading activities. Increased incomes are usually translated primarily into improve household food security and family well-being. 8. CONCLUSIONS AND RECOMMENDATIONS 8.1 Conclusions The ADF funded Rural Finance Intermediation Support Project which falls within the Rural Finance Support Programme is consistent with the Bank Group strategy for the promotion of rural finance intermediation, and within the national strategies and policies of the Government of Mozambique. The Project as designed is technically feasible, financially viable and socially desirable. The widespread availability of micro and rural finance services will have a direct impact on agricultural production and diversified income generating activities for rural folks, which will in turn result in poverty reduction for rural households. The Project will contribute to the stimulation and monetisation of the rural economy through efficient rural financial intermediation services, which will promote savings and credit delivery. Rural households will be empowered through various measures to better articulate their needs and also link with financial services providers. By broadening the base of rural financial systems, the ADF Project will provide the rural households with choice in alternative sources of credit and finance. The establishment of a special account into which reflows from the Line of Credit will be deposited, will ensure the sustainability of the Project activities and continued support to the development of rural finance beyond the Project implementation period. The overall Programme and the ADF Project will also provide a unique opportunity for continued policy dialogue amongst all stakeholders, with a view to addressing emerging policy issues in rural finance. Strengthened linkages between the formal and informal financial sectors will also support the long-term sustainability of the current intervention. 8.2 Recommendations and Conditions for Loan Approval It is therefore, recommended that an ADF loan not exceeding UA 11.52 million be granted to the Government of Mozambique, for the purpose of implementing the ADF Project, as described in this report subject to the following conditions: A. Conditions Precedent to Entry into Force The obligations of the African Development Fund to make the first disbursement of the loan shall be conditional upon the entry into force of the Agreement in accordance with Section 5.01 of the General Conditions Applicable to Loan Agreements and Guarantee Agreements of the Fund and the Borrower having provided evidence acceptable to the ADF that it has fulfilled the following conditions:

B. Conditions Prior to First Disbursement

The Borrower shall have:

(i) Open a Foreign Currency “Special Account” (SA) in a commercial bank acceptable to the Fund, into which the proceeds of the loan shall be deposited; (Section.5.6);

(ii) Open two (2) Local Currency Account in a commercial bank acceptable to the Fund for the purpose of the Line of Credit and the Matching Funds; (Section 5.6);

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(iii) Opened a Local Currency accounts in the name of the Project in a commercial bank acceptable to the Fund into which re-flows (principal loan plus interest) from on-lending activities shall be deposited; (section. 4.8.4 and 5.6.);

(iv) Provided evidence of the established of a Programme Management Unit (PMU) within Fundo de Apoio à Reabilitação da Economia (FARE) and the appointment of a National Programme Coordinator (Section: 5.2.2 and 5.2.3 );

(v) Provided evidence of the appointment of the expanded Board of Director for Fundo de Apoio à Reabilitação da Economia (FARE) chaired by the Deputy Minister, Ministry of Planning and Finance including one person from the private sector (Financial Intermediaries), one representative from the civil society/NGOs, the Deputy Director, Supervision Department BoM, one representative from a farmers association/trade organisation, and the Permanent Secretaries of the Ministries of Industry and Trade, Agriculture and Rural Development (MADER), and Fisheries. The Project Coordinator will be the ex-officio member and secretary of the Board. The Board/Steering Committee will co-opt other agencies, institutions and individuals as deemed necessary (Section: 5.2.1);

(vi) Submitted to the Fund for approval, the draft standard on-lending agreement that will govern activities under the Line of Credit on Terms and Conditions acceptable to the Fund. (Section. 5.2.3);

(vii) Submitted to the Fund for approval, the draft standard “Memorandum of Understanding” that will govern activities under the Matching Fund on Terms and Conditions acceptable to the Fund; (Section: 5.2.3);

Undertaking: The Borrower shall have:

(viii) Given an undertaking to assign three incremental staff for PMU as counterpart to the long-term TAs: the Rural and Micro-finance specialist; the Technical Facilitator and Planning M&E specialist; and Finance and Contract Management Specialist. (Sect.5.2.3)

(ix) Given an undertaking to on-lend proceeds of the Line of Credit to intermediaries acceptable to the Fund (Sect.4.8.4, 5.5.5).

Other Conditions: The Borrower shall:

i) Assign the three incremental staff to the PMU within three months after the entry into

force of the Loan Agreement. (Sect. 5.2.3) 8.3 Recommendations and Conditions for Grant Approval It is therefore, recommended that a Grant not exceeding UA 3.84 million be granted to the Government of Mozambique, for the purpose of implementing the Project, as described in this report subject to the following conditions:

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A. Conditions Precedent to Entry into Force The Protocol Agreement shall enter into force upon the signature of the Agreement by the parties. B. Conditions Prior to First Disbursement The obligations of the Fund to make the first disbursement of the Grant shall be conditional upon the Borrower having provided evidence acceptable to the Fund of the fulfilment of the conditions of the entry into force of the Loan Agreement, and the fulfilment of the conditions prior to first disbursement of the Loan. The Government shall fulfil the following additional conditions:

i) Opened a Foreign Currency “Special Account” (SA) and a Local Currency account in a commercial bank acceptable to the Fund, into which the proceeds of the grant shall be deposited; (Sect.5.6);

ii) Opened a Local Currency Account in a commercial bank acceptable to the Fund for the purpose of the grant activities (Sect. 5.6).

Annex 1 MOZAMBIQUE

RURAL FINANCE SUPPORT PROGRAMME/RURAL FINANCE INTERMEDIATION SUPPORT PROJECT

MAP OF MOZAMBIQUE

ANNEX: 2 Page 1 of 4

MOZAMBIQUE RURAL FINANCE INTERMEDIATION SUPPORT PROJECT

BRIEF ANALYSIS OF THE INTERMEDIARIES TO DELIVER THE

PROCEEDS OF THE LINE OF CREDIT

In the absence of commercial banks Special Credit Institutions, NGOs and some MFIs have so far provided the only option to offer credit services in rural areas. This section provides a brief analysis of some of the financial intermediaries that are expected to participate in the retailing the proceeds of the proposed line of credit. All the participating institutions will be non-bank financial institutions registered with BOM. The other selection criteria will include 1. SPECIAL CREDIT INSTITUTIONS: i) Sociedade de Gastao e Financiamento para a Promocao de Pequenas Projectos de Investimentos, SARL

(GAPI): GAPI, established in 1990, is the leading financial service and business development company for small and medium enterprises. It was registered in 1999 as a financial company (sociedade financeira) as a joint-stock company owned by the Friedrich Ebert Foundation and the MPF. It provides loans to small and medium enterprises, together with consultancy services and business training. In addition to Maputo, GAPI has six branches in the provinces. It has recently commissioned a study on its organisational and service structure that aims, among other things, to separate the consultancy and business development wing from the financing activity. GAPI funding comes as grants and loans from various donors including KfW, the French CFD, DANIDA, Nordic Development Fund and USAID. Apart from its head office in Maputo, GAPI operates from three provincial offices: the Beira covering Sofala, Manica and Tete; Nampula office covers the northern provinces of Nampula, Niassa, and Cabo Delgado, while the Quelimane office covers the Zambezia province. GAPI currently has a staff strength of 24, and is structured into two departments: Finance and Administration, and Credit Since its formation in 1990, GAPI has shown a constant growth. Starting with only US$68,000 of total assets financed through equity, its total assets have grown to US$ 10 544 000 and its equity capital has grown to US$ 3 640 000. The total portfolio is approximately USD 12 million. GAPI’s lending has major linkages to rural areas, and some 60% of the loan capital is in agricultural, fisheries, food processing and rural trade projects. GAPI has about 14% of its outstanding loans in arrears as at 31 December 2001. 40% of these are in arrears for between 30 and 60 days, while 29% have been in arrears for between 60 and 90 days. GAPI has recently commissioned a study on its organisational and service structure that aims, to streamline its operations by separating the consultancy and business development wing from the financing activity. GAPI has developed a partnering approach in its rural finance interventions including partnership with CLUSA in Nampula where it is providing marketing loans on a pilot basis to smallholders through their associations and the fora of these associations. Partnering with cotton outgrower company in Zambezia Province by issuing wholesale loans to the scheme’s smallholders; wholesale loans to mature MFIs for on-lending to their clients; selecting as potential partner rural traders under the IFAD-financed PAMA programme. Initial results from these initiatives have been good. GAPI as an institution also has several advantages: (i) it has been licensed by the BOM to undertake credit activities; (ii) it has the experience of administration of credit available from donors; (iii) it has a computerised system for maintenance of accounts and administration of credit; (iv) its recovery performance is high at about 85 per cent; (v) management has been following prudent policy and make adequate provisions for bad and doubtful debts; (vi) it charges competitive market rates of interest; (vii) it has a light administrative structure and experienced staff; and (viii) it can provide consultation and advice to customers.


ii) AMODER AMODER is non-profit association established in 1993. Its main function is to provide rural financial services to projects in marketing of agricultural goods, rural transport and small industry. Some 75% of the loans are seasonal working capital loans to rural traders. The minimum loan amount is USD 350, but the average size is USD 3 000, well above the standard microfinance limit. The biggest loans are at the level of USD 60 000. Currently, AMODER operates in six provinces and issues about 200 loans per year. Interest rates vary between 1.5% and 4% per month. Only some 65% of loans are paid according to the repayment schedule but eventual credit losses have been small. AMODER’s total portfolio is approximately USD 2 million. It has received financial support mainly from the European Union, DANIDA, Irish Aid, the Swedish International Development Authority (SIDA) and Oxfam (Belgium). AMODER has contracted a consultancy firm to review its market and to make a strategic plan for the institution’s future operations. Of particular interest for RFSP is that AMODER has: i) a proven methodology to provide financial services to rural small and medium traders; ii) presence in six provinces and ambitious plans to expand its portfolio in rural areas; iii) is testing in Niassa Province with SIDA a method of to provide financial support to rural traders on a risk-sharing basis between AMODER and the entrepreneur; and iv) has been selected as a potential partner for the provision of pilot financial services to rural traders in cooperation with the IFAD-supported PAMA programme. AMODER as an institution has several advantages: (i) it is a profitable NGO, not subject to taxes; (ii) it maintains a low institutional profile; (iii) it can offer diversified services to customers; (iv) it has experience of working in rural areas; and (v) It has experience of working with international organisations. iii) Fundo de Fomento a Pequana Industria (FFPI) FFPI is a government-owned development fund under the supervision of the Ministry of Industry, Commerce and Tourism (MICTUR) and receives its budget from industry licenses and other government contributions. Originally capitalised with funding from SIDA, it has been operational since 1994. Its Board of Directors consists of three representatives from the public sector (MPF, MIC and BoM) as well as two representatives from the private sector. FFPI operates financial and business development services for small entrepreneurs from its four offices in Maputo, Nampula, Manica and Niassa Provinces. A new office will be soon opened in Beira. It differs from other government development funds as it has well advanced plans to be converted into a registered credit institution of the GAPI type. It has adequate financial resources to raise the required USD 1 million capital. It has MIC1 approval for this change in organisational status and FFPI expects to get a final Cabinet approval soon. This optimism may be realistic as its registration as a credit institution is the key condition for effectiveness of the USD 2 million ADF support to small-scale industrial development through FFPI. The current total portfolio of FFPI is approximately USD 1.21 million, with some 340 loans outstanding. Loans start from USD 1 000, with an average loan size at USD 5 000. While in-time recovery rate is reported to be 78%, the loans that fall behind the repayment schedule tend to remain there and at the end of 2002, the Portfolio-at-Risk ratio (30 days) was as high as 57%. The current level of the portfolio is inadequate to support FFPI’s activities, as operational costs tend to be high with a large number of genuinely rural clients. Operational sustainability could be reached with a portfolio of some USD 4 million. The ADF loan of USD 2 million would help the institution to move to this direction. The lending terms and conditions are similar to those followed by commercial banks. Loan period varies between 2 to 5 years and the borrower has to pay interest between 23 to 25%. FFPI has about 14.5% of its outstanding loans in arrears.

1 The parent ministry for FFPI.


The interesting features in FFPI for future rural finance activities include: a professional approach to the provision of financial services a compared to other public “Fundos” in Mozambique; experience gained under the IFAD-supported Nampula Artisanal Fisheries Development Project in the provision of credit to coastal traders and other businessmen serving fishing communities; experience from trader credit activities in the IFAD-supported Niassa Agricultural Development Programme; and the challenge of developing a government “fundo” into a sustainable, independent rural finance operator. FFPI is aiming to stabilise the sources of funds. In this regard, FFPI seeks to participate in credit programmes financed by donor agencies. It has expressed strong interest to participate in this project iv) Compras em Grupo de Mocambique, SARL (SOCREMO) SOCREMO is a credit institution providing financial services to over 3 800 micro-entrepreneurs in the low-income group mostly in commerce. It was established in 1998 and is owned by the Government of Mozambique, the Cooperative Union of Mozambique and Conselhos Christao de Mocambique. The government ownership originates from the initial USD 600 000 grant to SOCREMO by GTZ. In a recent move, GAPI reports that it has taken a 30% minority holding in SOCREMO. The future plans include new outreach operations as well as the transformation of SOCREMO to a bank, for which process it has applied for a one million pound sterling support grant from the London-based Financial Deepening Challenge Fund. Despite its registration as a credit institution, SOCREMO operates much like a standard mature MFI. It has two branches, one in Maputo and one in Beira. Loan amounts start at the very low USD 20 – USD 50, but can go as high as USD 5 000 in later loan cycles. The interest rates vary between 4% and 7% per month. The total portfolio is approximately USD 850 000, about the same size as FFPI’s and half of AMODER’s. The portfolio quality is very good, with the portfolio-at-risk (30 days) at 1.1%. SOCREMO has a computerised MIS, which is capable of generating various types of reports such as daily cashflows, portfolio of individual Loan Officer, overall portfolio, clients in arrears, and data on each client including business information. It manages to cover 86% of its operating costs from portfolio income, which is better than the average for small MFIs in Africa with average of 70% operational self-sufficiency. The portfolio in arrears (>30 days) is 13%, while outstanding loans in arrears (>90 days) is about 9%. SOCREMO’s registration as a formal financial institution, rather than as an NGO-based association, provides a good basis for the future development of the institution.The newly established cooperation with GAPI that may result in linkages with more rural clientele. The planned strategy of SOCREMO is to move to smaller provincial centres that could increase the likelihood of serving rural traders.

2. MICRO-FINANCE INSTITUTIONS: 2.1 The microfinance sector in Mozambique consists of some 50 organisations providing microfinance services as their main activity. Most of them are NGO-based associations, which are often linked to and supported by a foreign parent organisation. At the end of 2001, 14 of them were registered in the BoM as credit-only institutions under the Banking Decree 47/1998 and report semi-annually to BoM on their portfolio and outreach. The sector includes also seven small institutions registered as credit co-operatives, four of which are functional and serve a predominantly urban clientele. Finally, because of the size and type of their operations, also two formal sector operators NovoBanco and SOCREMO are commonly considered as parts of the microfinance sector. The solidarity group lending method is used by nearly all the MFIs. Initial loan sizes are usually USD 20-30 and can increase in subsequent cycles to USD 300- 600. For the better-organised operators, the portfolio quality tends to be relatively good, with recovery rates is in the range of 90% to 100%. Less than a quarter of the operators offer compulsory or voluntary savings services of any kind. In 2000, the total number of savings accounts in the sector, organised in partnerships with commercial banks, was estimated to be about 3,000 clients, with a low total of USD 46,000 in deposits. This has since increased, particularly with the opening of NovoBanco, which has a deposit collection license and currently operates around 12,000 deposit accounts with a total balance of USD 1.2 million. In 2000,


women constituted approximately 57% of the total clientele of Mozambican microfinance institutions. Most MFIs remain small except for the following four institutions reviewed below.

i) TCHUMA TCHUMA was established in 1995 with the purpose of providing financial services to the emerging Mozambican entrepreneurial class, who do not have access to the services of mainstream banks, with a particular emphasis on women. It is funded by the Swiss Development Corporation (SDC) and Fundaçào para o Desenvolvimento da Comunidade (FDC), a charitable foundation TCHUMA plans to expand its operations so as to become financially sustainable by the end of 2005. This will require increasing to 15,700 active loans and the value of the portfolio to US$3141600 and deposits would total US$269,475. To achieve this TCHUMA plans to create new branches in 3 provincial towns. TCHUMA business plan envisages covering any shortfall in funding through loans and therefore seeks to work with donors. ii) Caixa Comunitariria de Credit e Poupanca (CCCP) CCCP began operations in February 1997 with funds from Agence Francaise de Development (AFD) and IRAM, a French NGO that has extensive experience in microfinance, as the technical partner. It is governed by a Monitoring Committee composed of representatives of the Bank of Mozambique, the Ministry of Finance, the Ministry of Agriculture and Fishers, and Agence Francaise de Development. A Management Committee appointed by members acts as the Board of Directors for the associations. CCCP has 33 staff, including 16 Credit Officers and I expatriate. CCCP loans to associations who later onlend to individual members. The target clients are those with no access to the commercial bank services but intend to develop or to expand an economic activity. CCCP concept consists of establishing associations owned and operated by members. Clients include small traders, farmers, the production and service sector. By March 2003, the number of active clients reached 5,681 with a portfolio of USD278,000. The loan recovery rate is about 93%. CCCP has developed an MIS software, which generates information to monitor the portfolio, as well as balance sheet and profit and loss account. iii) Community Credit Fund (FCC) - World Relief (WR) World Relief is an international NGO which started operations in Mozambique in 1994. It is currently the largest and most successful micro-finance programme in Mozambique. In 2000, World Relief established a microfinance company called Community Credit Fund (FCC), which is registered as an MFI under the central bank. Altogether it has a total of 28 staff who are responsible for identifying clients, credit-screening, disbursing and collection of repayments. Their target group are mostly urban poor engaged in non-agriculture activities. The FCC has started a micro-finance programme in Nampula, which is funded by United Nations Capital Development Fund (UNCDF). To date their methodology has been limited to village banking in urban and peri-urban areas. The FCC operates through two branches in the peri-urban areas with a total clientele of about 5000 individuals. FCC operates as a standard microfinance activity based on village bank approach. Each group consists of 25 to 30 members. There is a compulsory saving of 12.5% of the total loan amount required. Loans are for short-term and carry a 3% flat monthly interest rate. Loans are also mostly made for small amounts between US $ 100 to $300. Savings are collected as a partial collateral for loans. The total portfolio is around US $600,000, with the total compulsory savings at US $100,000. The portfolio quality has a 98% on-time recovery rate. FCC has an aggressive growth strategy and seeks to expand its operations with new implementing partners. For example, in Nampula village banking loans were started recently with about 10 groups averaging 22 members. FCC is considering some operations modifications including becoming an independent financial institution with its independent structure and administration. Secondly, will be looking at diversifying its products and would be willing to consider individual loans to fishers, traders, agro-processors and distributors. To expand its lending activities Worls Relief officials have expressed the needs to expand their sources of investment funds to better meet the needs of increased outreach.

ANNEX 3 Page 1 of 2


FUNDO DE APOIO A REABILITACAO DA ECONOMIA (FARE) 1. Legal Establishment, Organizational Structure and Governance: FARE was established by the Government under Decree 20/92 in 1992, within the Ministry of Finance as a vehicle for implementing Government programs for economic rehabilitation and poverty alleviation in most deprived communities. FARE started operations at the end of 1996 and has a central office in Maputo and provincial offices at the provincial directorate of Planning and Finance in all provinces of the country. FARE has a technical staff in each provincial office working under the supervision of the provincial Director of Planning and Finance. FARE has a governing structure comprised of. an oversight body, the Board of Councilors comprising of senior staff from the ministries of Labour, Commerce and Industry, Agriculture, Finance and a representative from the Bank of Mozambique. The Board members have requisite educational background and more than 10 years working experience. The Board of Councilors convenes meetings on a weekly basis to allow the active participation of the Board members in the operations of FARE (including loan approval) and discussion of pertinent policy matters. 2. Human Resources The full-time staff of FARE comprises of the Chairman of the Board, one Director, 2 Chartered Accountant, one secretary, a driver and a messenger and 11 field staff. The staff strength and caliber in FARE is weak and needs to be strengthened with additional staff and training. There is also a need to recruit additional staff for the provincial and headquarters offices. To supplement its staffing levels, FARE uses contracted services from NGOs to carry out project identification, screening, and follow up. These agents are paid commissions for each project identified. After project identification the intermediary agents prepare and submit project proposals to FARE's provincial field staff for review and submission to the Provincial Director of Planning and Finance. The Provincial Director evaluates the loan application sand forwards them to FARE’s headquarters for further review and approval. 3. Credit Policy

3.1 FARE delivers credit facilities to small and medium scale enterprise in rural and remote areas where other financial institutions do not intervene. It was expected that the establishment of productive activities in the rural areas and particularly the establishment of the trade network in rural areas will lead to an increase of the volume of agriculture trade. FARE provides 3 types of credit:

! Credit to "productive project"; ! Credit to" commerce"; ! Credit to "programmes". 3.2. Credit to "productive project" aims to provide credit facilities to small and medium entrepreneurs on agriculture, livestock, small industry, fishing, and corn milling. The conditions for these loans are: up to 75 millions MT is 12 % per annum 3 months up to 3 years credit facilities to small shops in the rural. Credit to "commerce" aims to provide credit to small and medium entrepreneurs for the establishment of shops in rural areas. The amount of credit is up to 300 million MT, interest rate 19% p.a, grace period-6 months and repayment period: .up to 5 years. Credit to "programmes" aims to provide credit facilities to intermediary institutions, for on lending. to the FARE's target group. The conditions for these loans are: amount of credit: up to 2,000 million, interest rate: up to 19% p.a, grace period: up to 6 months, repayment period: up to 5 years.

4. Performance of FARE: Like most Government owned Fundo’s FARE has not performed well . The major problem is the poor loan recovery rate which is just about 50%. As indicated in the report, this results from the perception of the general public who treat all loans from such institutions as grants. As such, the Government following a study of these institutions has now decided that they should not be engaged in retailing credit. They will only be used as wholesale channels. This is the role that FARE will play within the framework of this Project.

ANNEX 3 Page 2 of 2

Annex: 4 Page 1 of 2

MOZAMBIQUE RURAL FINNACE INTERMEDIATION SUPPORT PROJECT

SUPPORT TO OUTREACH EXPANSION SELLECTION AND REVIEW CRITERIA

1. Introduction: While the exact nature of activities and projects that are likely to emerge out of the innovation outreach expansion approaches, it is useful to review, the kind of support that is likely to be applied for. Based on the present developmental structure of the Mozambican financial sector, the current plans of the financial institutions, and the experiences in rural finance development from elsewhere in the region, a number of activities can be identified as innovative approaches to rural finance such as: • Schemes to expand the operations of village-based savings and credit activities among low-income population; • Schemes to develop group-based savings and credit activities into more permanent financial operators with

links to the formal financial sector; • Projects to design, pilot and mainstream new products, appropriate for rural environments, for formal, semi-

formal and informal financial institutions; • Establishment of new rural branches for microfinance institutions; • Establishment of new rural sub-branches of service points for formal financial institutions; • Interventions to support the establishment of new rural finance institutions; • Projects to transform the legal/organisational status of existing financial institutions so that they could more

effectively provide savings, credit and other financial services in rural areas. 2. Eligibility Criteria: 2.1 The PMU in consultations with stakeholders, with support from the short-term finance consultants to be recruited to facilitate the Programme start-up will develop the detailed criteria for reviewing and approving/rejecting the innovative proposals. A draft version of the criteria would be discussed in an open forum with the prospective financial service intermediaries to determine that the criteria are sound and would result in the performance and outputs desired. The criteria will take into account the potential increase in rural outreach that could be achieved through the proposal, the institutional capacity and delivery mechanisms of the applicant institution, and the projected viability of the activity/product once an economic level of operations is achieved. The criteria would also need to deal with the appropriateness and potential impact of the proposed activity to the broad cross-section of the rural population in the area concerned and accessibility to the proposed services by the poor and women. The criteria will form part of the detailed operations manual for the Innovation Outreach activities. More specifically, for activities eligible for support under the Facility to develop innovative financial products and their delivery mechanisms, the set criteria would require the applicants demonstrate that: • the proposed products have a rural relevance; • the products are innovative in their conception or geographic/social application; • each product would have the potential to respond to the demand of a large number of rural clients either

directly or indirectly; • the delivery of the product has the potential to become profitable in the foreseeable future; and • the applicant has the intention and capacity to carry out the project and to integrate a successfully tested product

into its mainstream operations. Special positive considerations, which could lead to a partial waiver of one of the above criteria, could be given to: (i) products with a very strong link to smallholder agriculture and artisanal fisheries; (ii) products and schemes that are particular adapted and accessible to poorer members of society; (iii) products and schemes that target particularly rural women; and (iv) products that respond to the particular needs of HIV/AIDS affected families.


3. Evaluation Process: 3.1 For proposals to be considered for eligibility that aim to increase the outreach of the financial institutions in rural areas, at a minimum the following type of information would need to be presented: • a comprehensive business plan for the proposed expansion, including a detailed budget and cash flow

projections for the proposed investment; • realistic calculations showing that operational sustainability can be reached in the foreseeable future in the new

areas of operation; • evidence of the rural dimension of the expansion (area coverage, estimated clientele profile etc); • detailed reports on the investing institution’s operational and financial status (does not apply to new

institutions), using standard accounting, financial and performance indicators of the industry; and • information on potential commitments of additional financial and technical support to the expansion plan from

other donor organisations. 3.2 At the project start-up, criteria would also have to be defined concerning the level of the grant element in the supported projects and activities. The basic principle would be that the maximum share of the matching grant element of the total value of the investment would be higher for the small community-based operators and decrease as the maturity of the institution increases. Furthermore, innovative but often risky pilot operations – for example, targeting remote rural areas or marginal groups such as the HIV/AIDS affected households – could be supported with higher levels of grant funding. 3.3 The implementation of the Innovation operations will take place in two phases. During the first year of operations, the processes, selections criteria and contracting procedures will be developed and documented, relevant staff in PMU trained in their duties and responsibilities, and the activities of the innovation outreach promoted among the financial sectors operators. A proportionately larger amount of short-term assistance would be used during this period to assist in the start-up processes and the creation of active contacts with financial institutions operating with different segments of the rural clientele. Full-scale operations would build up towards the end of the first year when the organizations would have been fully established, implementation capacity created, and the requisite procedures and processes functioning effectively.



PROPOSED SELECTION CRITERIA FOR PARTICIPATING FINANCIAL INTERMEDIARIES Line of Credit All the participating institutions will be non-bank financial institutions registered with BOM. Fare will wholesale credit funds to other qualified financial intermediaries in the country for delivery to end-users. FARE will apply the following criteria in selecting the intermediaries to benefit under the scheme. The institution must:

(a) Be in compliance with BoM registration and licensing conditions; (b) Demonstrate Operational viability; (c) Be in compliance with external audit requirements; (d) Have business plans and projections to expand outreach-volume of business and market;

penetration to reach sustainability in the near future (3-5 years); (e) Have at least an annual loan recovery rate not less than 90%; (f) Show evidence of availability of sound governance and management structures; (g) Have professional management team; (h) Show the volume of current portfolio in value and number of beneficiaries; (i) Have a Capital adequacy ratio not less than that prescribed by the BoM if at all; (j) Be in compliance with the ceiling of loan amount; (k) Demonstrate willingness to expand activities in rural areas; (l) Charge market interest rates; (m) The credit review committee will assess for each institution the annual quantum of loan eligibility

which should not exceed the liquidity gap. If the aggregate of qualifying credit limits for institution exceeds the credit fund allocation for a programme year, the Programme Management Unit (maybe FARE) would apply transparent criteria, with the prior approval of the Programme Steering Committee (PSC), for credit rationing. The criteria would include the following parameters: (i) quality of outreach expansion including number of clients, extension of operations to access deficit areas, proportion of women clients, etc.; (ii) rating of the institution and business development plan; and (iii) quality of management.

Minimum criteria to be eligible for capacity building grant:

(i) Be in compliance with BoM registration and licensing conditions (ii) Demonstrate willingness to expand activities in rural areas (iii) Submit an Institutional Development Plan with a clear definition of the targeted market: people to

serve. (iv) Define the use of funds requested (n) Professional management,

ANNEX: 6

RURAL FINANCE SUPPORT PROGRAMME / RURAL FINANCE INTERMEDIATION SUPPORT PROJECT

Organizational Arrangements and Implementing Bodies

Ministry of Planning and Finance

PPrrooggrraammmmee MMaannaaggeemmeenntt

UUnniitt

Strategic framework Policy dialogue

Support for regulatory envir for rural finance

Association of MFIs and inst’l support

#

#

#

Rural Finance Policy Unit

BoM Rural Finance Focal Group

MFIs

#

#

#

(Programme Coordinator, Finance & Contracts Officer,

Rural MFI Specialist, Planning/M&E Economist)

$

$

Financial Intermediaries

Contracted Service Providers/NGOs

$

$

Piloting and mainstreaming projects

Establishment & operation of ASCAs & RFAs

BANK OFMOZAMBIQUE

FARE

RURAL FINANCE SUPPORT UNIT

ANNEX: 7

MOZAMBIQUE

A. RURAL FINANCE INTERMEDIATION SUPPORT PROJECT

TENTATIVE IMPLEMENTATION PLAN

The tentative targets dates for the implementation of the project are presented below: ACTIVITY TENTATIVE DATES Board Approval November 2003 Loan Signature March 2004 Appointment of Coordinator April, 2004 Loan Effectiveness By June 2004 Appointment of 3 incremental staff for FARE By June 2004 Programme Launching/Inception Workshop August 2004 Recruitment of TA for PMU Start by May 2004 Contract for PMU-TAs By August 2004 Tenders for the Service Providers/NGOs for RFAs Promotion

Start by September 2004 once TA in place

Innovation Outreach W/shop September 2004 Training Support for MFIs/BoM/MPF/etc Start by September 2004 Award Contract for RFAs By December 2004 Work on RFAs Start By January 2005 Mid-term Review June 2007 Project End June 2010



CAPACITY BUILDING AND INSTITUTIONAL DEVELOPMENT COMPONENT Total ADF Grant Amount: UA 3.84 million

Activities Expected Output Overall Impact 1. Support for the Rural Finance Policy Unit:

xv) Support MPF to establish the Rural Finance Policy Unit;

xvi) Develop a strategic framework for Rural Finance;

xvii) Identify constraints, gaps and opportunities in current policies and legislations and determined priorities measures;

xviii) Build awareness amongst policy and decision makers;

xix) Orient the policy framework to meeting the needs of the poor;

xx) Conduct staff training, exchange/exposure visits and tours;

xxi) Provide Technical Assistance

i) A rural Finance Policy Unit established and functional ii) A strategy to govern the development of rural finance

established; iii) 65 policy users dialogue sessions held country wide; iv) 20 awareness building sessions amongst decision makers

conducted nationwide; v) 2 National pro-poor workshops held; vi) 16 representatives from the amongst policy makers

participate in exchange/exposure tours; vii) 1 TA contract to prepare the strategy awarded; viii) 8 rural finance forums held; ix) at least 1.6 million households have access to financial

services;

• Rural households empowered through delivery of sustainable financial services;

• Improvement in the incomes of rural households; • Overall credit outreach in rural areas enhanced; • Volume of credit delivered and savings mobilized

increased; • Dialogue on policy and best practice issues

enhanced;

2. Support for the Regulatory Environment: i) Provide Technical Assistance ii) Conduct training of BoM staff

i) 6 PM of TA to review the adequacy of current audit framework, prepared training needs assessment;

ii) 36 BoM staff attend various national/regional and foreign short-term training in rural finance related fields;

iii) Regulatory framework for non-bank financial institutions and MFIs established;

iv) Operational manual for MFIs supervision developed;

• Improved reporting systems and internal controls of MFIs and other non-bank financial institutions

• Increased monetisation of rural areas resulting in a vibrant rural financial sub-sector created.

• Improved efficiency in the licensing and supervision of MFIs by the Central Bank ;

• Improved supervision and audit of MFIs 3. Institutional Support for MFIs :

i) Undertake market research/study on client base;

ii) Undertake Studies on emerging issues in rural and microfinance;

iii) Train staff of MFIs including; iv) Empower MFIs Client in business and

entrepreneurial skills;

i) MFI outreach rises from current 40,000 to over 100,000 by

PY 6; ii) 7 studies on various issues on micro-finance undertaken by

PY6; iii) 80 studies on cost sharing bases undertaken; iv) 300 various courses in business development and

entrepreneurial skills provided; v) 30 PM of TA to prepare HRD programme for MFIs;

• A credit discipline culture Inculcated amongst rural clients;

• Investment and income generating opportunities in rural areas increased through diversification;

• Credit delivery and outreach enhanced; • Strengthened rural financial intermediation system; • Diversified ownership structure and good

governance within the MFIs; • Operationally and financially sustainable MFIs,

v) Train Trainers of Trainers vi) Provide Technical Assistance; vii) Support establishment of the MFIs

Association;

vi) Resource center for MFIs established; vii) 4 courses for the Training of Trainers (TOT) provided; viii) 4 study and exchange tours for middle-senior managers

of MFIs undertaken;

• Finnacial products responsive to the needs of the poor developed

• A pool of well trained MFI staff created; • Scope of MFI client training expanded; • Application of best practices in micro lending

methodologies improved; • MFIs staff skills in participatory training methods and

approaches improved; • Information and data on best practices in Micro-

finance made available to all operators; • Best Practices and self regulatory mechanism adopted

industry wide; • Benchmarks for self-regulation established; • MFIs supported in training coordination, performance

monitoring and preparation of business plans and strategies

4. Support to National Women’s Affairs Directorate i) Support gender training at district and regional levels;

i) Provide training , ii) Support technical assistance, iii) equipment, computers and accessories;

• Enhanced mainstreaming of women needs in rural

finance provision and services

5. Support to FARE and Project Management

i) Procure vehicles; ii) Provide technical training for staff; iii) Conduct exchange and study tours

i) 1 vehicle for FARE Procured ii) 11 field staff trained iii) 3 incremental staff for PMU receive training;

• Efficient and effective Programme Management; • Adequate and systematic information about the

project for post evaluation review; • Improved monitoring, assessment and evaluation of

the project impact; • Timely and accurate reports generated on the project

achievements and impact; • Implementation progress in accordance with plan

achieved; • Achievement of project objectives feasible; • Programme impact assessment and monitoring

mechanism designed and implemented 6. Support to Rural Financial Associations (RFAs)

i) Promote RFAs formation; ii) Recruit Service Providers;

i) 120 new RFAs established by end of PY6, ii) RFA membership increased from 9,000 to 27,000 by PY 6; iii) 4 unions of (30 RFAs) each established by PY 6;

• Improvement in the incomes of rural households; • Overall credit outreach in rural areas enhanced; • Volume of credit delivered and savings mobilized

increased;

ANNEX: 9

MOZAMBIQUE

RURAL FINANCE INTERMEDIATION SUPPORT PROJECT

Indicative Lists of Goods and Services (UA’000)

Government of Financial Mozambique AfDB Loan ADF Grant Institutions Total Amount Amount Amount Amount Amount I. Investment Costs

A. Vehicles

8.56 - 25.69 - 34.25

B. Equipment & Material

5.35 - 16.05 - 21.41

C. Technical Assistance

- - - - -

1. Local/regional TA

0.00 - 110.46 - 110.46

2. International TA - - 400.12 - 400.12

Subtotal Technical Assistance

0.00 - 510.58 - 510.58

D. Studies

0.00 368.07 641.38 - 1,009.45

E. Training & Workshops

0.00 146.08 1,103.03 88.07 1,337.17

F. Contractual Services

171.43 - 1,542.84 - 1,714.27

G. Matching Funds

156.58 2,505.35 - 469.75 3,131.69

H. On lending Funds

0.00 8,504.03 - - 8,504.03

Total Investment Costs

341.93 11,523.53 3,839.57 557.82 16,262.85

II. Recurrent Costs

- - - - -

A. Salaries

1,258.11 - - 26.03 1,284.14

B. Allowances

- - - 9.92 9.92

C. Operating & Maintenance

1,044.82 - - 36.45 1,081.27

Total Recurrent Costs

2,302.93 - - 72.40 2,375.33

Total Project Costs

2,644.86 11,523.53 3,839.57 630.22 18,638.18

Annex 10 Page 1 of 3

Mozambique Summary of Bank Group Operations

As at 30 June 2003

SECTOR/PROJECT SOURCE APPROVAL DATE

DATE SIGNED ENTRY INTO FORCE

FINAL DISB. DATE

AMT APPROVED

AMT DISBURSED (UA MILLION)

AMOUNT CANCELLED

PERCENT DISBURSED

I ONGOING OPERATIONS A AGRICUTURE

1 Cashew Rehabilitation Project ADF 10-Feb-84 03-Sep-85 07-Jan-87 30-Jun-00 8.43 6.92 0.00 82.13 2 Mafambisse Sugar Rehab. ADB 23-Aug-88 31-Oct-88 21-Mar-89 30-Jun-00 13.06 11.57 0.00 88.61 ADF 23-Aug-88 31-May-89 08-Mar-90 30-Jun-00 21.99 19.53 0.00 88.82

3 Family Farming Livestock Rehab. ADF 28-Aug-90 28-Nov-90 19-Jul-91 30-Jun-00 13.70 11.99 0.00 87.54 4 Green Zones Develop. Project ADF 23-Mar-92 07-Oct-92 21-Jan-94 30-Apr-00 7.37 7.33 0.00 99.48 5 Massingir Dam & Smallholder

Project ADF 24-Nov-93 04-Feb-94 30-May-96 31-Dec-00 55.00 2.01 0.00 3.65

6 Forestry & Wildlife Develop. ADF 24-Nov-93 04-Feb-94 05-Jul-95 31-Dec-01 8.90 6.79 0.00 76.29 7 Small-scale Irrigation Project ADF 03-Dec-98 05-Mar-99 29-Oct-99 31-Dec-05 12.43 0.84 0.00 6.76 TAF 03-Dec-98 05-Mar-99 29-Oct-99 31-Dec-05 1.21 0.00 0.00 0.00

8 Emergency Food Relief ADF 15-Mar-00 0.36 9 Special Programme for Food

Security ADF 19-Jun-00 16-Nov-00 06-Jul-01 31-Dec-04 0.75 0.75 0.00 100.00

10 Human.Emerg. Relief Spprt for Flood victims

ER* 21-May-01 0.40

11 Artisanal Fisheries Development ADF 14-Nov-01 20-Dec-01 04-Apr-02 31-Dec-08 14.17 0.00 0.00 0.00 TAF 1.73 Total 142.08 66.98 0.00 47.15

B PUBLIC UTILITIES

12 Electricity I Project ADF 27-Aug-91 14-May-92 13-Jan-94 30-Jun-00 14.55 11.54 0.00 79.29 13 Electricity II Project ADF 12-Dec-96 15-Apr-97 30-Apr-98 31-Dec-01 16.65 13.16 0.00 79.04 14 Four Districts Centres Water &

Sanitation TAF 10-Sep-98 13-Oct-98 03-Sep-99 28-Feb-00 1.80 0.76 0.00 42.22

15 Maputo Water Supply Augmentation Proj.

ADF 16-Jun-99 23-Nov-99 29-Feb.00 31-Jul-04 17.50 0.06 0.00 0.34

16 TAF 16-Jun-99 23-Nov-99 29-Feb.00 31-Jul-04 2.16 0.00 0.00 0.00 17 Electricity Master Plan & Feasibility

Study TAF 15-Jun-00 29-Dec-00 29/12/2000 31-Dec-03 0.99 0.21 0.00 21.21

18 Integrated Water Supply & Sanitation (2 Provinces)

ADF 08-Dec-00 29-Dec-00 29-Aug-01 30-Jun-07 15.77 0.00 0.00 0.00

19 TAF 08-Dec-00 29-Dec-00 29-Aug-01 30-Jun-07 1.00 0.00 0.00 0.00 20 Rural Electrification - Electricity III ADF 03-Sep-01 06-Nov-01 28-Mar-02 31-Dec-05 11.12 0.12 0.00 1.08

Total 81.54 25.85 0.00 31.70


C TRANSPORT SECTOR

21 Beira Corridor System ADF 27-May-88 30-May-89 07-Nov-89 31-Dec-00 17.45 15.96 0.00 91.43 22 TAF 27-May-88 18-May-89 07-Nov-89 31-Dec-00 0.83 0.78 0.05 93.97 23 Transport Programme ADF 01-Dec-92 13-May-93 17-Jan-94 31-Mar-00 23.95 18.99 0.00 79.30 24 TAF 01-Dec-92 13-May-93 30-Sep-93 31-Mar-00 2.49 1.62 0.00 65.26 25 Pemba-Montepuez Road

Rehabilitation ADF 25-Jun-97 25-Sep-97 09-Jan-98 31-Dec-03 26.00 26.93 0.00 103.58

26 Vanduzi -Changara Road Rehab. ADF 15-Dec-99 31-Mar-00 Not yet 31-Dec.05 16.79 4.95 0.00 29.48 27 TAF 15-Dec-99 31-Mar-00 Not yet 31-Dec.06 0.80 0.33 0.00 41.25 28 Road Rehabilation ADF 08-Dec-00 29-Dec-00 13-Jun-01 31-Dec-05 25.01 0.00 0.00 0.00 29 Rural Road Studies TAF 17-May-00 31-May-00 13-Jun-01 31-Dec-02 1.65 0.22 0.00 13.33

Total 114.97 69.78 0.05 60.70

D SOCIAL SECTOR

30 Primary Teachers Training Centres ADF 18-Apr-89 31-May-89 25-Mar-91 31-Dec-99 9.21 8.03 0.00 87.18 31 Education II ADF 23-Mar-92 07-Oct-92 16-Sep-93 31-Dec-01 17.13 12.38 0.00 72.26 32 TAF 23-Mar-92 07-Oct-92 16-Sep-93 31-Mar-00 0.37 0.00 0.00 33 Beira Corridor Health Project ADF 18-Oct-96 16-Apr-97 23-Dec-97 31-Dec-00 7.71 2.18 0.00 28.27 34 Education III ADF 15-Jul-98 13-Oct-98 17-Nov-99 30-Jun-03 10.69 0.00 0.00 0.00 35 TAF 15-Jul-98 13-Oct-98 17-Nov-99 30-Jun-03 1.63 0.00 0.00 0.00 36 Capacity Building Poverty

Alleviation TAF 10-Dec-98 05-Mar-99 30-Dec-00 31-Dec-02 2.34 1.34 0.00 57.26

37 Health II ADF 21-Dec-00 29-Dec-00 31-May-01 30-Jun-07 9.00 0.20 0.00 2.22 38 TAF 21-Dec-00 29-Dec-00 29-Dec-00 30-Jun-04 0.60 0.08 0.00 13.33 39 Family Sector Income Enhancement ADF 31-Oct-00 14-Dec-00 27-Jul-01 31-Dec-07 12.46 0.42 0.00 3.37 40 TAF 31-Oct-00 14-Dec-00 27-Jul-01 31-Dec-07 1.00 0.18 0.00 18.00 41 Education IV ADF 13-Sep-01 06-Nov-01 16-Sep-93 30-Jun-07 10.00 0.00 0.00 0.00

Total 82.14 24.81 0.00 30.21

E INDUSTRY SECTOR On-Going Operations

42 BPD Institutional Support Project ADF 30-Oct-91 29-Jan-92 14-Oct-92 30-Jun-98 1.48 0.44 1.04 29.87 43 TAF 30-Oct-91 29-Jan-92 14-Oct-92 30-Jun-98 1.97 1.55 0.00 78.49 44 Mineral Resources Capacity Building TAF 03-Sep-01 06-Nov-01 10-Dec-82 31-Dec-07 3.29 0.00 0.00 0.00 45 Line of Credit to Small/Medium

Enterproses ADF 16-Jan-02 23-May-02 18-May-89 20-Jun-07 3.50 0.00 0.00 0.00

Total 10.24 1.99 1.04 19.43 F MULTI-SECTOR

46 Social Dimensions of Adjustment

Project ADF 30-Oct-92 12-Dec-92 01-Oct-93 31-Dec-99 4.61 2.52 0.00 54.70


47 TAF 30-Oct-92 12-Dec-92 01-Oct-93 31-Dec-99 0.46 0.03 0.00 5.86 48 Third ADF Economic Rehabilitation

Loan ADF 02-Jul-97 25-Sep-97 17-Dec-97 30-Sep-01 50.00 49.93 0.00 99.86

49 PER-GROP ADF 16-Nov-00 29-Dec-00 26-Jun-01 31-Dec-04 50.00 48.36 0.00 96.72 Total 105.07 100.84 0.00 95.97 TOTAL ALL SECTORS 536.03 290.25 1.09 54.15

II COMPLETED OPERATIONS A Agriculture 80.95 69.61 11.33 85.99 B Public Utilities 63.18 57.82 1.79 91.52 C Transport 14.74 12.07 2.67 81.89 D Social 1.71 1.12 0.33 65.50 E Industry 0.60 0.30 0.07 50.00 F Multisector 85.66 85.35 0.30 99.64

TOTAL ONGOING AND COMPLETED 782.87 516.52 17.58 65.98 ER = Emergency Relief