Document of The World Bank

Report No: 25820

PROJECT APPRAISAL DOCUMENT

ON A

PROPOSED LOAN

IN THE AMOUNT OF US$17.1 MILLION

TO THE

REPUBLIC OF INDONESIA

FOR A

PRIVATE PROVISION OF INFRASTRUCTURE TECHNICAL ASSISTANCE LOAN

April 25,2003

Infrastructure Unit East Asia and Pacific Region

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CURRENCY EQUIVALENTS

(Exchange Rate Effective 03/10/2003)

Currency Unit = Rupiah Rp 100 = US$O.O11

US$1 = Rp 9000

Bappenas BOT BUMD BUMN CIDA cso DIT? DPR EA GO1 Greenfield GTZ ICR IPP Jabotabek JARNS Jasa Marga JBIC Keppres Keuangan Kimpraswil KKPPI Krismon M O C M S R I NGO OCMEA OED PAD P3 or PPP Perhubungan Pimpro P I U P L N P M U PPA PPIAF

FISCAL YEAR January 1 -- December 3 1

ABBREVIATIONS AND ACRONYMS

National Development Planning Board Build, Operate, Transfer Badan Usaha Milik Daerah - Enterprise owned by local government Badan Usaha Milik Negara - Enterprise owned by central government Canadian International Development Agency Community Service Organization Annual government budget allocation National parliament Executing Agency Government o f Indonesia Absence o f pre-existing infrastructure German Aid Agrency Implementation Completion Report Independent Power Producer Jakarta, Bogor, Tangerang and Bekasi Java Arterial Road Network Study State-owned tol l road company Japan Bank for International Cooperation Keputusan Presiden - presidential decision Ministry o f Finance Ministry o f Settlements and Regional Infrastructure Committee on Policy for the Acceleration o f Infrastructure Development K r i s i s Monetar - Monetary Crisis (1997-99) M n i s t r y o f Communications Ministry of Settlements and Regional Infrastructure Non-Government Organization Office o f the Coordinating Ministry for Economic Affairs Operations Evaluation Department (World Bank) Project Appraisal Document Public-Private Partnership Ministry o f Communications Project Manager Project Implementation Unit State Electricity Company Project management Unit Power Purchase Agreement Public-Private Infrastructure Advisory Facility (multi-donor)

PPITA Propenas National Five-Year Development Program SOE State-Owned Enterprise TAP41 Technical Assistance Project for the Public and Private Provision o f Infrastructure (2

projects) UNCHS United Nations Center for Human Settlements USAID United States Agency for Intemational Development Watsal Water and Sector Adjustment Loan

Private Provision o f Infrastructure Technical Assistance (Project)

Vice President: Jemal-ud-din Kassum Country ManagerDirector: Andrew D. Steer

Sector Managermirector: Keshav Varma Stephen R. Dice Task Team Leader/Task Manager:

INDONESIA PRIVATE PROVISION OF INFRASTRUCTURE TECHNICAL ASSISTANCE LOAN

CONTENTS

A. Project Development Objective Page

1. Project development objective 2. Key performance indicators

B. Strategic Context

1. Sector-related Country Assistance Strategy (CAS) goal supported b y the project 2. Main sector issues and Govemment strategy 3. Sector issues to be addressed by the project and strategic choices

2 2

2 3 9

C. Project Description Summary

1. Project components 10 2. Key policy and institutional reforms supported by the project 3. Benefits and target population 4. Institutional and implementation arrangements 5. The Indonesian Pilot for Enhanced Disclosure o f Information being pursued in the context

11 11 11 12

o f the Bank’s revised Information Disclosure Policy

D. Project Rationale

1. Project alternatives considered and reasons for rejection 2. Major related projects financed by the Bank andor other development agencies 3. Lessons learned and reflected in the project design 4. Indications o f borrower commitment and ownership 5. Value added o f Bank support in this project

E. Summary Project Analysis

1. Economic 2. Financial 3. Technical 4. Institutional 5. Environmental 6. Social 7. Safeguard Policies

13 15 20 22 22

24 24 24 24 26 26 27

F. Sustainability and Risks

1. Sustainability 2. Critical r isks 3. Possible controversial aspects

G. Main Loan Conditions

1. Effectiveness Condition 2. Other

H. Readiness for Implementation

I. Compliance with Bank Policies

Annexes

Annex 1: Project Design Summary Annex 2: Detailed Project Description Annex 3: Estimated Project Costs Annex 4: Cost Benefit Analysis Summary, or Cost-Effectiveness Analysis Summary Annex 5: Financial Summary for Revenue-Earning Project Entities, or Financial Summary Annex 6: (A) Procurement Arrangements

(B) Financial Management and Disbursement Arrangements Annex 7: Project Processing Schedule Annex 8: Documents in the Project Fi le Annex 9: Statement o f Loans and Credits Annex 10: Country at a Glance Annex 11: Summary of Project Environmental and Social Safeguards Process Annex 12: (A) Baseline Conditions

Annex 13: Subproject Screening and Selection Criteria Annex 14: (A) M S R I Private Sector Participation Framework Assessment

(B) M O C Private Sector Participation Framework Assessment (C) C M E A Country Private Participation in Infrastructure Framework Assessment

(B) Init ial Workplan Matr ix

Annex 15: Anti-Corruption Action Plan

28 28 29

29 29

31

31

32 37 43 44 45 46 54 64 65 66 68 70 79 86 90 95 97 99

101

MAP(S) none

INDONESIA Private Provision of Infrastructure Technical Assistance Loan

Project Appraisal Document East Asia and Pacific Region

EASUR

Date: April 25,2003 Sector Manager: Keshav Varma Country Managermirector: Andrew D. Steer Project ID: PO7627 1 Lending Instrument: Technical Assistance Loan (TAL)

Team Leader: Stephen R. Dice Sector(s): General industry and trade sector (100%) Theme(s): Infrastructure services for private sector development (P)

IBRD Total:

[XI Loan [ ]Credit [ ]Grant [ ]Guarantee [ ]Other: For Loans/Credits/Others: Loan Currency: United States Dollar Amount (US$m): 17.1 Borrower Rationale for Choice of Loan Terms Available on File: Yes Proposed Terms (IBRD): Variable-Spread Loan (VSL) Grace period (years): 5 Commitment fee: 0.75%

Years to maturity: 20 Front end fee (FEF) on Bank loan: 1.00% Payment for FEF: Capitalize from Loan Proceeds

12.10 5.00 17.10 14.00 5 .OO 19.00

Borrower: REPUBLIC OF INDONESIA Responsible agency: OFFICE OF COORDINATING MINISTRY FOR ECONOMIC AFFAIRS (OCMEA) Address: Gedung Utama Dep. Keuangan (#502), J1. Lapangan Banteng Timur 2-4, Jakarta 107 10 Indonesia Contact Person: Mr. Jinny Katuuk, Deputy 11 Coordinating Ministry for Economic Affairs Tel: 62-21-351-1462 Other Agency(ies): KKPPI SecretariatelPPITA-PMU Address: Menara Kebon Sirih- Lt.15- Room 1503; Jalan Kebon Sirih 17-19; Jakarta Pusat Contact Person: Dr. Bambang Susantono, Head of Project Management Unit (PMU)-PPITA Tel: 62-21-3983-6556 Fax: 62-21-3983-7053 Email: ppita-id@yahoo.com

Fax: 62-2 1-35 1- 1644 Email: jinny.ck@ centrin .net.id

Estimated Disbursements ( Bank FY/US$m):

Cumulative Project implementation period: 3 years Expected effectiveness date: 0613012003 Expected closing date: 1213 112006

A. Project Development Objective

1. Project development objective: (see Annex 1)

The project's development objective i s to assist GO1 develop and implement the policy and regulatory reforms and build the institutional and social foundations needed to enable, promote and facilitate efficient and sustainable large-scale private investment in infrastructure.

2. Key performance indicators: (see Annex 1)

The key performance indicators w i l l include:

Sound cross-sector policies for promoting and realizing public-private partnerships (P3) in infrastructure are developed and operationalized. Improved sector policies, regulations and procedures enable and facilitate efficient private investment in infrastructure. Independent / non-ministerial regulatory bodies wi th sound operating procedures and capable staff are established for key sectors. Organization structures, skill-mixes, and cultures o f sector ministries are changing to reflect the further evolution of government's role f rom provider o f infrastructure to enabler o f P3 in infrastructure. Key government and public enterprise officials have an improved understanding o f the prerequisites for successful P3 in infrastructure. Reliable and up-to-date information relating to P3 policies, regulations, best practices and project opportunities i s readily accessible and where appropriate effectively disseminated. Public awareness and acceptance o f the needs for and benefits o f well-managed P3 in infrastructure i s increasing.

Note that i t i s not considered appropriate to adopt outcome indicators relating to number and value o f private infrastructure projects transacted for the fol lowing reasons:

(a) the full impacts o f most o f the activities to be supported under the project wi l l at best not be felt until towards the end o f the implementation period-for example, new regulatory agencies need time to establish credibility-while preparing, tendering, negotiating, and reaching financial closure on private infrastructure projects typically takes several years;

(b) the successful implementation o f the project activities i s viewed as a necessary but not a sufficient condition for restoring large-scale private infrastructure investment, and substantial progress wi l l also be needed in other key areas affecting the overall investment climate.

B. Strategic Context 1. Sector-related Country Assistance Strategy (CAS) goal supported by the project: (see Annex 1) Document number: 21580-IND Date of latest CAS discussion: January 30, 2001 for Full CAS: 2002 CAS Progress Report (Document No. 24608) discussed with Board on September 3, 2002

The Indonesia Country Assistance Strategy for FY 200 1-2003 identifies three broad avenues through which the Wor ld Bank Group w i l l pursue i t s overarching goal o f reducing poverty and

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vulnerability in a more open and decentralized environment, namely:

0 Sustaining economic recovery and promoting broad-based growth; 0 Building national institutions for accountable government; and

Delivering better public services for the poor.

The proposed project w i l l support all three o f these avenues, but i s focused primarily on sustaining economic recovery and promoting broad-based growth.

The CAS recognizes infrastructure bottlenecks could become a drag on growth as economic recovery takes hold. I t notes that public spending on infrastructure maintenance and preservation has declined since the onset o f the crisis, and that Indonesia’s ability to develop new capacity in line with growing demands wi l l be constrained by long project preparation and implementation lead-times as well as by financing capacity. The CAS also recognizes that decentralization wi l l complicate the challenges, and that service standards and investments may further deteriorate and inter-regional linkages may suffer while responsibilities are being clarified. The adopted assistance strategy accordingly aims at:

providing assistance for essential investments in maintenance and rehabilitation through ongoing and proposed investment projects; improving the policy and legal framework for key sectors to facilitate competitive private sector investment, including through better cost-recovery, phasing-out o f inefficient subsidies, development o f regulatory capacity, and restructuring o f sector entities. facilitating implementation o f agreed government reforms through joint action by the donors and contributing to financing o f future infrastructure needs by mobilizing co-financing from ADB, JBIC, and others, and, where appropriate, using the Bank Group’s various instrument ’ s-including guarantees.

The project i s specifically designed to support the second element o f this support strategy,

The reforms that w i l l be needed to enable and attract efficient and sustainable private investment in infrastructure -including improved legal and regulatory frameworks, more capable institutions, cost-reflective pricing, and more transparent procedures and processes-will also contribute to improving public sector accountability and delivery o f better public services for the poor. For example, adoption of transparent competitive processes for involving the private sector in public service delivery wi l l help address one o f the more visible areas o f corruption during the build-up to the crisis, while increased competition in service delivery should help improve quality and efficiency and lead to lower prices in sectors that are currently dominated by inefficient SOEs. Likewise, the introduction o f negative concessioning-possibly supported by output-based aid-will help improve access to public services at least cost. More generally, efficient private participation should relieve the fiscal burden and hence free-up government resources for expenditure programs specifically designed to help the poor.

2. Main sector issues and Government strategy:

Background: Indonesia has long recognized the vital role o f basic infrastructure in enabling and supporting sustained and rapid economic development, and in improving public welfare and

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opportunities for the poor. This i s reflected in the high priority accorded to the expansion, rehabilitation and-somewhat more recently-sound maintenance o f transport, energy, urban and other infrastructure under six successive Five-Year Development Plans (Repelitas) and the current National Development Program (Propenas 2000-2004).

For many years infrastructure provision had remained-with few exceptions-the exclusive preserve of government and state-owned enterprises (SOEs). B y the late 1980s, however, i t was clearly evident that the public sector was no longer able to finance all needed investments in new infrastructure capacity and, moreover, that government agencies and poorly performing public corporations lacked the managerial capacity to deliver services to the standards increasingly demanded by users. Indonesia accordingly embarked upon parallel programs to promote private investment in new infrastructure projects and to reform and privatize i t s many (160+) SOEs.

The first major private infrastructure project was the Cawang-Tanjung Priok section of Jakarta’s inner ring toll road, construction o f which commenced in the mid-1980s. This originated with an unsolicited proposal from a politically-connected group that was able to drive the concession negotiation process and secure financing largely from public sector sources. A far more significant step was taken in the power sector in 1990, when Government solicited proposals for Indonesia’s f i r s t Independent Power Producer (IPP) project, a 1,200 MW coal-fueled station in East Java. The Power Purchase Agreement (PPA) for Paiton I was signed in early 1994 and financial closing was achieved in April 1995, with debt financing provided by a combination of export credit agencies and commercial lenders. Many other private infrastructure projects, most unsolicited, were by then already in the pipeline and-when the economic crisis struck in the second half o f 1997-Indonesia had committed to long-term power purchase agreements with 26 independent power producers and awarded concessions for numerous toll road, telecoms, water supply, and other projects. In l i t t le over three years from the Paiton I PPA signature, over US$20 billion in investment commitments had been secured for private infrastructure projects, dominated by electricity (US$10.2 bn), telecoms (US$8.4 bn), and transport (US$2.1 bn). In stark contrast, the SOE reform and privatization program had moved very slowly. Nine years after i t s launch, GO1 had sold only minority stakes in only a handful o f SOEs, o f which only two (Telkom and Indosat) were infrastructure providers.

In summary, Indonesia’s strategy for involving the private sector in infrastructure provision centered mainly on the development o f new “greenfield” projects rather than on transformation o f public infrastructure enterprises. Implementing projects took precedence over improving policies and regulations, with the eagerness shown by private equity investors and lenders helping to dissuade Government from pursuing much-needed structural reforms. Lit t le progress was made towards improving pricing policies and eliminating untargeted subsidies, or to introducing competitive market structures and establishing sound regulatory arrangements. The procedures by which private partners were appointed were generally opaque, with the vast majority o f projects being either unsolicited or otherwise awarded through non-transparent processes to consortia with “politically connected” local partners.

Impacts of the Economic Crisis: Private infrastructure projects-and particularly those with foreign financing--were quickly impacted as the Rupiah plunged. In September 1997, Keppres 39 o f 1997 decreed that many major investment projects, including private infrastructure schemes for which contracts had already been signed, were to be postponed or reviewed.

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Subsequently, other private projects that had been cleared to proceed failed to reach financial closing or were halted as their financing sources dried-up. Affordability concerns and mounting social pressures caused Government to abandon automatic tariff adjustment mechanisms in the power and telecoms sectors and defer other tariff increase proposals, thereby affecting the commercial viability o f private projects already in operation or close to completion. Agreements for most operating and committed private projects-including all IPPs-were “re-opened”, with the subsequent renegotiations generally proceeding slowly. Sponsors generally accepted the need to renegotiate, and several subsequently agreed to “close-out” their projects. However, a few opted for international arbitration and / or to claim under political risk insurance, and decisions to date have so far favored the project sponsors.

The rate o f growth in demand for infrastructure services i s showing signs o f picking-up as Indonesia slowly emerges from the crisis,. However, severe constraints on the State Budget have necessitated sharp cutbacks in the level of development spending, while most infrastructure SOEs are in very poor financial shape. With the flow o f new private investment for infrastructure having all but ceased, there i s l i t t le new infrastructure capacity currently under construction while in some sectors-such as roads--existing assets are deteriorating as a result of inadequate maintenance. This, coupled with the long lead-times for developing new capacity, poses the risk that infrastructure constraints w i l l impede restoration o f rapid and sustainable economic growth and limit the quality and coverage of public services for the poor.

Key Challenges: The public sector was unable to finance all needed infrastructure investments before the crisis, and i t s capacity to do so now i s much diminished. Unless Indonesia i s prepared to accept further deterioration in l iving standards, i t wi l l need to mobilize substantial new private resources while striving to optimize the utilization and financial self-sustainability of existing assets. Securing renewed private sector participation on reasonable terms w i l l be extremely difficult in the present environment, and w i l l require Government to confront several difficult and inter-related challenges. These can be grouped into four broad areas:

1. Restoring Indonesia’s overall attractiveness to investors. The level o f new investment in Indonesia, and particularly new foreign direct investment, has slumped since the onset o f the crisis. While many other countries in the region also suffered badly during 1997/98, Indonesia fe l l further and has since recovered more slowly due to a combination of factors including political uncertainty, systemic corruption, a dysfunctional judicial system, and sporadic social unrest and disorder. The magnitude o f the challenges now facing Government in seeking to attract new investment i s starkly reflected in assessments that show Indonesia as having one o f the highest country risk ratings in the region, and being among the most corrupt countries in the world.

2. Restoring Indonesia’s attractiveness to infrastructure investors. Infrastructure projects are characterized by their capital-intensity, long lead-times, long pay-back periods, and-in some instances-social sensitivity. Globally, investor appetite for infrastructure opportunities i s likely to have been impacted by the fall-out from California’s power crisis, the Enron collapse, and the bursting o f the G3 mobile telephony bubble. Even without these external factors, Indonesia faces a much tougher task in persuading investors to commit to infrastructure schemes than, say, to labor-intensive manufacturing (and even here the picture remains somewhat bleak!). Meeting the challenge wi l l require concerted action on several

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fronts.

Tarifland Subsidy Reform: Tariffs in many infrastructure sectors remain well below the levels needed for long-term commercial viability. A rapid transition to cost-covering tariffs, coupled with mechanisms for delivering well targeted subsidies to the most needy, i s needed to restore fiscal sustainability and attract new private investment. Modem Regulatory Frameworks: Heightened perceptions o f country risk mean that private investors and their lenders wi l l be much more demanding as regards the clarity, predictability, and credibility o f regulatory frameworks. New models o f arm's length regulation have been under study for some years, but decisions need to be taken, new laws enacted, and new institutions put in place. As part o f this process, the additional regulatory uncertainties arising from regional autonomy need to be resolved. Other Risk Mitigation Measures: Investors in new infrastructure projects in Indonesia wi l l likely demand some form o f public support to mitigate country and project risks. Even in ordinary circumstances, such support packages require careful design to avoid expanding public exposure beyond prudent levels or undermining incentives for efficient risk bearing. Formulating sound policy and strategy in the current circumstances wi l l be extremely challenging. Procurement Processes: In order to provide comfort to prospective investors, help rebuild the legitimacy of private infrastructure in the eyes of local stakeholders, and help ensure the best terms possible for the country, private partners wi l l need to be chosen through fully transparent, competitive processes so as to preclude later claims that projects were awarded corruptly. Disputes on Existing Private Projects: Until disputes concerning existing projects are satisfactorily resolved, Indonesia w i l l find i t difficult to persuade mainstream private investors, lenders and insurers to return. Moreover, the manner in which Indonesia handles ongoing disputes on private infrastructure projects may have more general implications for future foreign direct investment flows. Link with SOE Privatization: To realize the full potential benefits o f private participation, Government w i l l need to accelerate the restructuring and privatization o f infrastructure SOEs. In addition to generating resources for the Government, this w i l l help enable effective competition and enhance efficiency and service quality. I t can also help lock-in cost-covering retail tariffs, thus ensuring investments in new wholesale facilities--such as power plants-will have credit-worthy customers. Preparation of sound projects: Many o f the projects that were offered to the private sector in the past were poorly prepared and, in some instances, ill-chosen. In seeking to persuade private investors to return quickly, Indonesia w i l l need to be able to offer well conceived and prepared schemes that are amenable to early and rapid implementation. Building institutional capacities: Concerted efforts w i l l be needed to strengthen the capacity o f the central and regional agencies and enterprises charged with developing and implementing policy and regulatory reforms and with dealing with prospective private investors. Few central government officials and SOE staff currently have relevant training, in part because there are few, if any, quality programs offered in Indonesia. Even fewer have sound practical experience as most o f the private infrastructure deals concluded pre-crisis were concentrated in a few sectors and originated with unsolicited

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proposals. And the situation i s worse at the sub-national level.

3. Building domestic financing capacities: To reduce the impact of currency risks, Indonesia w i l l need to strengthen i t s domestic capacity to finance infrastructure projects. Success with financial sector restructuring wi l l help, but there may also be a need and opportunity to develop new infrastructure-specific financing mechanisms and instruments.

4. Building public acceptance of private infrastructure. There are continuing indications o f strong resistance to restoring private investment in infrastructure, both from within the public sector and from civ i l society. Three underlying causes can be identified:

0 Private participation requires sector departments and infrastructure SOEs to accept a paradigm shift in their roles and in the way they do business. I t also requires effective inter-agency cooperation and coordination, areas where Indonesia has traditionally not been strong. Experience with the privatization program suggests that securing the needed cultural changes w i l l be a slow and difficult process in the absence o f concerted efforts to anticipate and deal with problems. Closely linked with this, involving the private sector in traditional public sector domains through transparent processes w i l l likely threaten vested interests by squeezing opportunities for supplementing personal incomes or diverting funds for political ends. The public's perception o f private infrastructure delivery has been colored by vigorous--but often poorly-informed--debate on the failings o f the power, toll-road, water supply, and telecoms deals concluded during the Suharto era. This i s reflected in the negative stance o f many civ i l society organizations, which in turn i s open to exploitation by those with vested interests in maintaining the status quo.

Recent achievements. The Government has recognized the importance o f addressing these challenges, and has prepared the draft o f an Infrastructure "White Paper" which overviews current status and issues in each o f the major infrastructure sectors. A draft o f this paper, prepared by the Infrastructure Deputy Chairman o f BAPPENAS, was presented at the annual Consultative Group on Indonesia (CGI- donors forum) meeting in January o f 2003 as a discussion paper for further refinement based on additional sector studies and other inputs expected. I t i s hoped that a "final" version of the paper wi l l be ready for Cabinet discussion by late 2003. One additional input to this process and to guide future Bank activities in the infrastructure sectors i s a planned AAA review o f priority infrastructure issues in Indonesia during the current Bank FY 03 (report to be completed by June 2003). This work has been focused on power, transport, water supply, telecommunications and rural infrastructure sectors due to resource constraints, but w i l l provide valuable insights to the options for Bank and GO1 cooperation in "Averting The Coming Infrastructure Crisis in Indonesia", as the report i s tentatively titled. These reports wi l l serve as a well-advanced starting point for the sector assessments and strategy options work o f the advisory teams to be mobilized by the project, and facilitate the development o f the Country Framework Assessment for PPI (per PPIAF guidelines - see Annex 14) now incorporated in the draft TOR for the OCMEA advisory team. Additionally, GO1 has already made significant progress in several areas, including:

Tarqfand subsidy policy. The Government has announced i t s commitment to restoring the

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power tariff to i t s pre-crisis US$ level by 2005. A series of substantial increases has already been implemented, with the main brunt having so far fallen on large consumers, and a targeted subsidy scheme has been introduced to protect very small residential customers. Tariffs have also been increased in several other sectors, including--after much delay--fixed-line telephone services. However, the picture i s far from uniform and--for example--toll road tariffs have not increased since 1992.

0 Regulatory reform: Presidential Decree 7 o f 1998 (Keppres 7), issued in January 1998, provided an important f i rst step towards establishing a overarching framework for private participation in infrastructure projects, including on matters such as the choice o f projects to be offered for private participation, the processes for selecting private partners and dealing with unsolicited proposals, and basic principles relating to provision o f public supports. Achievements at the sector level include: o Telecommunications: A new Telecommunications Law, passed in 1999, has enabled

more effective competition by removing the “exclusivity” and other special rights previously enjoyed by the two partially privatized SOEs, PT Telkom and PT Indosat.

o Oil and Gas: A new O i l and Natural Gas Law, approved by the DPR in October 2001, provides among others for the removal o f Pertamina’s downstream monopoly and the establishment o f an independent regulatory body whose key duties w i l l include regulation of gas transportation infrastructure.

o Electric Power: The DPR has also adopted a new Electricity Law in September 2002 that would enable bulk and retail competition and permit the vertical and horizontal unbundling o f P L N in line with the policies mapped out in the Government’s August 1998 White Paper. The law also provides for the establishment o f an independent regulatory agency, and o f a mechanism for channeling targeted subsidies and supports, although not yet implemented.

o Water: The Bank-financed WATSAL sector policy reform initiative i s supporting the amendment of water resources legislation that would, inter alia, enable private participation in water resources development. In September 200 1 DKI Jakarta established Indonesia’s first urban water supply regulatory body and a number o f municipalities, including Pekan Baru, are also now exploring such arrangements.

o Transport: Government has recognized the need to revise existing modal laws for Transport (Roads, Roads Traffic and Transport, Railways, Sea and Inland Waterway Transport, and Civi l Aviation) to align with the laws relating to regional autonomy and to broaden the modalities for private participation, and preliminary discussions have started for some sectors (e.g., maritime transport).

Infrastructure SOE Restructuring and Privatization. Progress on SOE reform and privatization accelerated sharply in the period immediately following the onset o f the crisis, although i t has since slowed again. A master plan for SOE reform and privatization was launched in December 1999 and several significant transactions were concluded shortly thereafter, including sales of stakes in two international container terminal concession companies (Jakarta and Surabaya) and o f a further stake in PT Telkom. Political commitment then faltered in the face of public opposition to privatization in general and privatization o f infrastructure SOEs in particular. Another private placement o f shares in PT Telkom was concluded in late 2001, and GO1 i s now completing arrangements for PT Indosat

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to be majority private-owned as a result o f a late-2002 tender and i s acting to address the serious concerns created by i t s failure to conclude the planned further privatization of Semen Gresik in late 200 1.

Inter-Agency Coordination. In June 200 1 the Government established a Minister-level Committee on Policy for the Acceleration of Infrastructure Development (KPPI Committee). The Committee i s chaired by the Coordinating Minister for Economic Affairs, and i ts other members include the Ministers for Finance, National Planning (Bappenas), and the key infrastructure sectors. KKPPI’s duties include: (a) formulating policy and strategy for accelerating infrastructure development, including through creating a climate conducive to private investment and participation; (b) coordinating integration o f plans and programs and monitoring implementation o f adopted policies and resolving emerging problems; and (c) preparing an improved cross-sectoral regulation on public private partnerships to replace Keppres 7. The Committee i s assisted by a Secretariat and supported by a Sub-committee for Planning and Investment, both o f which are already operational. Work on the revision o f Keppres 7 i s now well advanced.

3. Sector issues to be addressed by the project and strategic choices:

The Project wi l l assist Government’s efforts to address two o f the four broad challenges highlighted in Section B.2, namely restoring Indonesia’s attractiveness to private infrastructure investors, and promoting better public understanding and acceptance o f private participation in infrastructure provision. I t w i l l focus in particular on the following areas:

Improving cross-sectoral and sectoral policies and strategies, regulatory frameworks, and related operating practices and procedures. Strengthening the organization and capacities o f regulatory bodies and other key sector agencies, and enhancing inter-agency coordination and cooperation.

0 Improving the availability, accessibility, dissemination and sharing o f information on or relevant to private infrastructure development. Building public understanding o f the need for, approaches to, and benefits o f well managed private participation in infrastructure delivery. Supporting the preparation o f an initial set o f demonstration infrastructure projects that are feasible for private investment.

Restoration o f efficient large scale private investment in infrastructure i s an imperative rather than an option if Indonesia i s to achieve rapid and sustainable economic growth, and in this sense the design o f the project does not entail making strategic decisions, rather the project seeks to enhance GOI’s capacity to make such decisions during the course of the project. Many of the technical assistance services to be undertaken under the project w i l l involve identifying and evaluating options for how best to realize such investment.

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C. Project Description Summary 1. Project components (see Annex 2 for a detailed description and Annex 3 for a detailed cost breakdown):

Overview

The project i s designed around and to support two important and inter-linked initiatives by Government to restore private investment in public infrastructure, namely:

0 the establishment o f the KPPI Committee; and the preparation and operationalizing o f improved cross-sectoral policies, practices and procedures for handling private participation in infrastructure provision.

The KPPI Committee i s already operational and well advanced with drafting an improved cross-sectoral regulation on PPI to replace Keppres 7.

The Project’s core focus i s on assisting the KPPI Committee to make timely and well-informed decisions, on operationalizing the new cross-sectoral framework through supporting sector-specific policy and regulatory reforms, on strengthening institutional capacities in areas related to PPI, and on improving the quality and availability o f information on PPI-related topics. Also see Annex 12 for the Initial Project Work Plan. This w i l l be accomplished through:

0 Cross-sectoral technical assistance and advisory services, including the development o f a country framework assessment for PPI policies;

0 Sector-specific technical assistance and advisory activities, including sectoral assessments of PPI potential and strategy;

0 Capacity building, training assistance, and public informatiodeducation activities, and; P M U support services.

The agencies that w i l l be involved in the implementation o f the project--notably the KPPI Committee and key sector ministries-have limited expertise in the PPI area, but o f necessity are already being required to take decisions on important and complex issues (including the drafting o f the new Keppres 7). Accordingly the project will, as a top priority, support the recruitment of “in-house” PPI advisors to assist these core agencies with their ongoing activities. Terms of reference (TOR) for these advisory services and for high priority studies have been developed and reviewed during project appraisal. However, the urgency o f mobilizing the “in-house” advisory support w i l l preclude the TORS for all envisaged activities being fully developed prior to project start. I t i s accordingly intended that the TORS for many activities w i l l be firmed-up during the initial stages o f project implementation with the assistance o f the “in-house” advisors.

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2. Sector-specific TA and advisory services 3. Capacity building and training 4. Incremental P M U support services @ 80%

Repayment o f PPF Advance

9.53 1.65 0.49 0.44

50.2 8.58 8.7 1 S O 2.6 0.39 2.3 0.40

Total Project Costs Front-end fee

Total Financing Required

% of Bank-

financing 35.4 50.2

8.8 2.3 2.3 0.0

99.0 1 .o

100.0

0.0 18.83 99.1 16.93 0.17 0.9 0.17

19.00 100.0 17.10

2. Key policy and institutional reforms supported by the project:

The project wi l l support the effective functioning o f the KPPI Committee, the development of PPI assessments/strategies, and the operationalization o f the planned cross-sectoral regulation on public-private partnerships for infrastructure provision (the new Keppres 7 and related regulations). These w i l l in turn provide the twin supporting pillars for the project. I t i s accordingly important that: (a) GO1 commit to maintaining the KPPI Committee and i t s Secretariat throughout the implementation period o f the project; and (b) the key policies and principles contained in the new Keppres 7 on public-private partnerships be acceptable to the Bank.

3. Benefits and target population:

The ultimate beneficiaries o f the project wi l l be users o f public infrastructure in general, and users of transport, telecommunications and urban infrastructure services in particular. Renewed private investment in infrastructure wi l l also create new employment opportunities in infrastructure construction, management and maintenance fields and contribute more generally to economic growth.

4. Institutional and implementation arrangements:

The project wi l l be implemented over a period o f three years and involve several central government agencies-principally M O C and MSRI as well as OCMEA-as primary implementing agencies. A Project Management Unit w i l l report to and work under the technical direction of the KKPPI. The P M U i s chaired by OCMEA’s Assistant Deputy for Transportation and Telecommunications Infrastructure Development, which should help ensure the project supports and i s highly responsive to top-level decision-making. Administratively, the project wi l l form part of the OCMEA budget.

The P M U i s a newly-established (February 2003) body but i t s design and financial management procedures have been based on those developed for the ongoing Corporate Restructuring Technical Assistance Project (Loan 4448-IND) and reflect the extensive experience gained through the implementation o f the two TAP41 projects (First and Second Technical Assistance

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Projects for the Public and Private Provision o f Infrastructure; Loans 3385-IND and 3913-IND). The project f low o f funds arrangements are designed to be broadly similar to those for the TAP4I-I1 project. OCMEA has already recruited qualified staff to manage the project preparation process and i t s subsequent implementation.

5. The Indonesian Pilot for Enhanced Disclosure of Information being pursued in the context of the Bank’s revised Information Disclosure Policy:

As part o f the implementation o f the Bank’s revised disclosure policy, countries were selected for piloting enhanced disclosure if the governments o f these countries were interested in participating. In Indonesia during the CAS consultations and other discussions, both the government and civi l society expressed keen interest in substantially greater access to information on Bank activities, especially during project implementation, to allow full public discussion o f project implementation findings. Under the Indonesia pilot enhanced disclosure i s proposed to enable civi l society oversight leading to greater transparency and openness. I t i s expected that initially c iv i l society w i l l require time to become familiar and reach the level o f understanding o f the information being provided, to use it constructively to reduce fiduciary r isks

In the Indonesia Pilot for enhanced information disclosure being carried out in the context o f the Bank’s revised Information Disclosure Policy, an approach to enhanced information disclosure has been agreed with BAPPENAS on behalf of the Borrower. This approach consists o f the following arrangements:

a.

b.

C.

Agreement on the approach for disclosure o f information for new projects to the effect that specific provision for enhanced disclosure w i l l be built into the project arrangements during project preparation for an agreed upon l i s t o f projects to be included in the initial phase o f the pilot. This agreed l i s t consists o f 4 projects, including the proposed Private Provision o f Infrastructure Technical Assistance Project. (The other 3 projects are the proposed Water Resources and Irrigation Sector Management Project, the proposed Health Workforce and Services Project and the proposed Third Kecamatan Development Project.) Annex 15 provides in more detail the arrangements developed by the KKPI secretariat to put in place an anti-corruption action plan.

The specific issues where enhanced disclosure has been agreed upon concern: (i) final audit reports issued under projects in the pilot w i l l be made publicly available by both the Borrower and the Bank: (ii) the mid-term report on progress under a project in the pilot wi l l be made publicly available by the Borrower; and (iii) the procurement process, where the Borrower has agreed that additional information concerning parts o f the procurement process in projects in the pilot w i l l be made publicly available. The Loan Agreement for this Private Provision o f Infrastructure Technical Assistance Project (PPITA) includes specific undertakings to effectuate these agreements. These undertakings would eliminate the need for GO1 approval to be obtained prior to the public release o f such information.

For documents other than those referred to in sub-paragraph b above (and which are currently not disclosed without Borrower consent), the Bank w i l l continue to consult GO1 prior to

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disclosure o f such documents. GO1 may consider moving to a more general practice o f automatic release o f such documents after the Government completes i t s review o f enhanced information disclosure concerning the public provisions o f services that i t i s currently undertaking. In this regard, the anti-corruption guide for task teams and the anti-corruption annex (15) based on this guide (together with the covenants on disclosure o f audits, mid-term review report and procurement documents) are expected to facilitate the adoption o f enhanced disclosure, and more open and transparent practices.

d. Agreement to utilize an IDF grant to support activities for developing GO1 policies for increased information disclosure under all government projects in Indonesia. A GO1 implementation team has been established, and a Bank counterpart team has also been formed. Start-up activities for administrative arrangements and preparation o f terms o f reference o f consultants under this grant have been launched.

The experience under this pilot wi l l be reviewed after two years and recommendations for future developments under the Bank's disclosure policy would be developed.

D. Project Rationale 1. Project alternatives considered and reasons for rejection:

Loan versus Grants. Realizing the project objectives wi l l require a comprehensive and coherent, cross-sector approach that wi l l be very difficult to accomplish using fragmented grant financing. The project w i l l not, however, finance all PPI-related TA needs in the target sectors and the project's PPI advisory teams wi l l assist government to secure supplementary grant-financed assistance and to ensure this i s integrated with other activities and i t s outputs are used effectively.

Private sectorfocus: Unlike the two TAP41 projects, the proposed project focuses narrowly on activities that wi l l support restoring private investment in infrastructure. This decision reflects: (a) the scale and complexity o f the challenges this presents in the current environment (there was strong private sector interest in Indonesia infrastructure projects when TAP41-11 was prepared); (b) lessons emerging from TAP4I-11's implementation indicating i t s broad scope detracted from i t s effectiveness in achieving the strategic private infrastructure agenda; and (c) the availability of other instruments to support improved public provision o f infrastructure (e.g., the Eastern Indonesia Region Transport Project supports more efficient planning, programming and implementation of road infrastructure works).

Sector focus: The Project w i l l focus primariZy on those infrastructure sectors where there are seen to be good prospects for attracting private investment in the medium-term, and where needed technical assistance i s not already being provided from other sources. The identified core sectors are transport (including potentially roads, railways, ports and shipping, inland waterways, and civi l aviation), telecommunications, and urban infrastructure. Although the energy sector i s o f critical importance, regulatory reform and sector restructuring are already well-advanced, and existing and planned TA support from the Bank, ADB and USAID appears sufficient to meet

- 1 3 -

PPI-related needs in the power and domestic gas sectors. While there i s also a considerable body o f recent, ongoing, and planned PPI-related TA in the urban infrastructure sector-and particularly the water supply sub-sector-and the transport sector, the coverage i s far from complete and there are substantial unmet need. During project preparation, the focus has been on the core sectors but the project design has le f t open the possibility o f financing PPI-related TAs in other sectors later, providing that a compelling case i s made by the proposing agencies.

Shaping public perceptions. The project design accords high priority to “socializing” the need for and benefits of well managed PPI. While the conduct of policy studies, drafting of improved regulations, and delivery o f training wi l l help inform opinions and attitudes, i t i s considered that these activities wi l l need to be complemented by a conscious “outreach” effort specifically targeted at building a strong constituency for change. Primary responsibility for championing the case for private infrastructure within GO1 and with the DPR with rests with the KPPI Committee, and the project wi l l play an important role in supporting i t s efforts in this area. In addition, the Project w i l l also assist the central P3 unit and network to make available better information on private infrastructure provision to NGOs, the media, and the general public.

Privatization. Project activities that involve improving sector policies, reforming legal and regulatory frameworks, and strengthening capacities of regulatory and other institutions wi l l necessarily support efforts to accelerate the privatization o f Indonesia’s infrastructure SOEs. In addition, i t i s envisaged that the project could also support the privatization program more directly through support for studies that encompass developing privatization strategies for specific sectors or sub-sectors. However, the project would not finance legal, financial or other advisors to handle specific privatization transactions.

Financing of private infrastructure investments. The activities encompassed by the project are designed generally to enhance the bankability o f infrastructure projects proposed for private financing. More particularly, i t i s envisaged the project would support the formulation o f policies concerning public support for private infrastructure projects. However, i t i s not envisaged the project’s scope would extend into the financial sector reform domain or, for example, to providing support for activities designed to strengthen domestic capital markets and develop new infrastructure-specific financing vehicles.

Dispute resolution. During project preparation the KKPPI felt that i t would not be appropriate to include in the design o f this project provision for financing legal and other specialist advisors to assist with the resolution o f individual high profile disputes, such as those that have arisen in power and telecoms sectors, but that i t probably would be important to include provision for the development o f guidelines and procedures for anticipating and dealing with the types o f disputes that may arise with smaller projects. I t i s anticipated that dispute resolution w i l l be a part of the sectoral and cross-sectoral policy and regulations development.

Project Preparation Support. Provision has been made for the preparation and tendering o f a number o f demonstration projects for private participation for two main reasons. First, the credibility of Indonesia’s private sector infrastructure program w i l l be greatly enhanced by i t s being in a position to offer and bring to early financial closure an initial set o f soundly prepared projects. Second, the process o f preparing demonstration projects also provides an important avenue for capacity building. The selection o f initial projects w i l l be demand-driven, with proposals being subject to rigorous screening against criteria which have been broadly agreed

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during appraisal o f the Project (see Annex 13), and which w i l l be further refined during the development of sectoral policy and strategy assessments with each participating ministry.

2. M a j o r related projects financed by the Bank and/or other development agencies (completed, ongoing and planned).

Several recent and ongoing projects financed by the Bank and other lenders have addressed, in some way or form, issues encompassed by the scope o f the proposed Project. These may usefully be divided into two broad groups: (a) cross-sectoral technical assistance projects with a specific focus on private participation in infrastructure, and (b) sector-specific infrastructure investment projects that include technical assistance components aimed at building the foundations for private participation. In addition, some important technical assistance has also been financed under various grant programs.

Cross-Sectoral Infrastructure TA Projects. The Bank has financed two technical assistance projects that were specifically designed to support Indonesia's efforts to promote private investment in Indonesia.

Technical Assistance Project for the Public and Private Provision of Infrastructure (TAP4I-I; Loan 3385-IND). TAP4I-I was approved in 1991 and closed in March 1997 after a total extension o f 30-months. I t s objectives were to assist GO1 in the implementation of i t s framework for infrastructure development by initiating immediate actions to: (a) assess priorities in current infrastructure plans for reducing infrastructure bottlenecks; and (b) (i) augment and enhance program evaluation capability (including, in particular, in cross-sectoral linkages and environment aspects) within BAPPENAS and (ii) project preparation capability in line agencies responsible for key infrastructure sectors, including projects financed by or jointly with the private sector. OED's Performance Audit report, issued in June 1999, rated the outcome as Satisfactory, institutional development impact as Substantial, and sustainability as Likely.

TAP4I-I contributed significantly to the assessment o f infrastructure plans and bottlenecks in the power and transport (railways, toll roads and ports) sectors, and helped to identify and establish a basis for increased private participation in service delivery in these sectors. In the power sector, i t provided technical assistance on the negotiation o f technical and tariff aspects of the Paiton I private power project, and on the formulation o f a strategy for sector restructuring, regulatory reform and private participation (in conjunction with the Cirata Hydroelectric Phase I1 Project (Loan 3602-IND)) and for more effective development of Indonesia's large geothermal energy resources. In the maritime transport sector, i t supported a study to develop a long-term strategy for port development in western Java and southern Sumatera, while in the toll road sector i t financed major feasibility studies used in soliciting private proposals. B y contrast, the project provided only limited support in the urban infrastructure sector and none in the telecommunications sector. As implied by the title, TAP4I-I's scope was not restricted to private infrastructure and a significant proportion o f the available resources were used to support preparation of infrastructure projects intended for public sector financing. Although not explicitly envisaged during project preparation, the PMU-which was located in Bappenas-quickly became the locus o f GOI' s cross-sectoral initiatives relating to private participation in infrastructure. The project's impacts were, however, ultimately limited inasmuch

- 15-

as politically connected project sponsors were basically able to drive the PPI agenda in all sectors.

Second Technical Assistance Project for the Public and Private Provision of Znfrastructure (TAP4Z-ZZ; Loan 3913-ZND). TAP4I-I1 was approved in June 1995 and closed on December 31, 2001 after a total extension o f 21 months, with the Draft ICR rating i t as Satisfactory on achievement of development objectives and implementation performance. The original project objectives were to: (a) assess strategic priorities for reducing infrastructure bottlenecks; develop an updated strategy for public-private partnerships and sustainable frameworks for private participation in provision of infrastructure; (c) redefine the role o f central and local authorities in the identification, preparation, and implementation o f infrastructure projects, and (d) enhance program evaluation capacity within Bappenas and regional planning bodies and project preparation and implementation capabilities (including development o f sound environmental and social practices) in line agencies and local organizations responsible for various infrastructure investments. These were subsequently broadened to enable the project to support Government’s efforts to contain and minimize possible disruption to economic and social infrastructure that might be caused by the transition to Year 2000. The implementation period o f the project was bisected by the onset o f the economic crisis and more specifically by the issue of Keppres 39 of September 1997, which required many major private and public infrastructure projects to be postponed or reviewed, and by the subsequent issue o f Keppres 7 in January 1998, which belatedly established an overarching framework for private participation in infrastructure.

The project was managed by the P M U established for TAP4I-I. I t s sector focus was primarily on sub-national / urban infrastructure, and particularly water supply. In addition to supporting development of specific water supply schemes for private participation, the project also assisted in paving the way for establishing regulatory bodies-notably for Jakarta-and in developing strategies for dealing with projects that had stalled as a result o f the crisis. In contrast to TAP4I-I, there were no sub-components specific to the energy sector, principally because adequate resources were available from other sources. However, TAP4I-I1 did support several important initiatives in the transport sector, including most notably the Java Arterial Road Network Study (JARNS) and preliminary studies concerning the feasibility o f establishing a road fund. The P M U continued to serve as Indonesia’s de facto Public-Private Partnership (P3) center and played an important role in the drafting o f Keppres 7 and i t s implementing regulations and guidelines. I t also served as the central repository o f information and expertise on private participation, and i t s in-house advisors provided extensive ad hoc advice and assistance to sectoral and sub-national agencies. The ICR for TAP4I-I1 rates the project outcomes as Satisfactory for both achievement o f Development Objectives (DO) and Implementation Progress (Ip).

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Sector Investment Projects.

Several Bank-financed infrastructure projects approved during the 1990s had significant TA components aimed at supporting sector reform and restructuring. These include, for example:

0 Power sector: A series of Bank-financed power projects supported technical assistance in the broad area o f power sector restructuring and regulatory reform. Notable among these are the Cirata Hydroelectric Phase I1 Project (Loan 3602-IND; closed June 1999), which--along with TAP4I-I-financed important back-to-back studies on Power Sector Regulatory Reform and Development o f Private Power that provided the analytical foundations for the Government's August 1998 White Paper on Power Sector Reform Policy. The ongoing Second Power Transmission & Distribution Project (Loan 3978-IND) i s financing technical assistance to P L N with i t s corporate and financial restructuring, an important element of the adopted reform agenda, and a planned follow-on energy sector operation-now scheduled for Board presentation in late FY03-will finance continuation o f this work. ADB and USAID are also important actors in the power sector, and both are currently financing assistance to the Directorate General o f Electricity and Energy Utilization with the implementation o f the adopted sector restructuring and reform agenda. The US AID-financed Energy Restructuring Activities Group i s playing a lead role in assisting GO1 to develop a strategy for restoring private investment in the sector. Telecommunications Sector: The Bank, through the ongoing Telecommunications Sector Modernization Project (Loan 3904-IND; Satisfactory on DO and IP) and the now-closed Telecommunications I V Project (Loan 3482-IND; ICR overall rating o f Satisfactory), was instrumental in promoting important sector reforms. These include the opening-up to private participation in the mid-1990s and the subsequent passage o f a new Telecommunications Law in 1999 that, among others, removes "exclusivities" previously enjoyed by the two telecommunications SOEs and permits effective competition. The closing date for the Sector Modernization Project was extended by one year to June 2002 to enable completion o f the physical investment components, but the balance o f MOC's allocation for technical assistance on sector reform issues was cancelled due to M O C being late in submitting proposals to M O F for using these funds. The Bank i s supporting the ongoing Informatics Infrastructure Project (Loan 4244-IND). While this project does not focus directly on telecommunications sector reform, some o f the project components are complementary in character. USAID i s currently providing very limited ad hoc advisory assistance in this sector-including on interconnection, universal service obligations and regulatory arrangements-through i t s "PEG7 project, but has no plans to provide expanded support and welcomes Bank involvement. Transport Sector: During the last decade, the Bank's investment lending for transport has focused exclusively on the land transport sub-sector, including inter-urban and rural roads, urban transport, and railways. During the early 90s, the first Jabotabek Urban Development Project financed preliminary studies on the development o f a strategy and policies for securing private participation in the development o f a rail-based mass transit system for Jakarta. GOI's subsequent plans to proceed with two mutually inconsistent mass transit schemes proposed by politically connected groups precluded planned further Bank assistance in this area. The ongoing Railway Efficiency Project (Loan 4106-IND) i s providing support for restructuring and commercializing the railway company and reforming i t s financial

0

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relationship with Government in l ine with a policy framework adopted in the mid-1990s. While not specifically aimed at enabling and promoting private participation, many elements o f the agreed reforms are prerequisites for effective private investment in the rail subsector. Progress on implementing the reform program has been patchy, however, and the Project i s currently rated Unsatisfactory on implementation performance. In the roads sector, the principal sources o f financing for technical assistance relating to private participation have been the two TAP41 projects. In addition, PPIAF i s currently financing a study requested by GO1 (MSRI) for a review of policy options for restructuring the state-owned toll road company, Jasa Marga. ADB has financed studies and technical assistance relevant to private participation in the transport sector under sub-sectoral investment loans and TA Grants. This assistance includes a recent Transport Sector Strategy Study financed under an inland waterways project and some broad-scope private participation TA in the mid-1 990s. Urban Sector: The very innovative Urban Sector Loan and accompanying Policy Action Plan, agreed in 1988 between the Bank and GOI, established the agenda for a very active urban program in Indonesia from 1988 through 1998 and the onset o f the multifaceted crises which have changed the sociopolitical agenda. The ten years of urban sector policy reform and investment saw major progress infrastructure decentralization and services provision in most Indonesian urban areas. The Bank's nearly $1 bi l l ion in lending in the sector was matched by other donors, including the ADB, USAID and others, while UNCHS, GTZ and other donors also worked cooperatively in attempting to build capacity at all levels to improve the management o f urban services delivery. However, the enormity o f the task had become increasingly clear even before the crisis and the new decentralization laws fundamentally changed local government fiscal and manpower capacities. Many local governments had begun to consider the benefits o f private sector involvement with the support o f the integrated planning and needs analysis approach advocated in the Urban Policy Action Plan and subsequent projects. In most cities these discussions were limited to revenue-producing facilities and services, such as water supply and solid waste disposal. In all cases major potential investments were not discussed with potential private investors if the cities perceived the possibility o f central government grant funds becoming available (e.g., sewerage, public transport, etc.). The implementation o f GOI's new decentralization laws should clarify the responsibilities o f local governments for providing services to their citizens, and bring into sharp focus the need to involve private investors to help close the huge gaps in almost every locality between services needs and current delivery capacities (e.g., the almost total lack o f functioning sanitation and sewerage systems in Indonesian cities cannot be overcome by public investment alone, particularly in the post-crisis financial conditions). An Urban Sector Review was recently completed by the Bank and should assist the dialogue among the Bank, Kimpraswil and urban local governments regarding the needs, priorities and strategies to address urban services deficiencies, which w i l l necessarily involve significant roles for the private sector in investment, management and maintenance o f urban service systems. Water Supply: Since the last major Bank water supply project (JUDP 11) closed in 1996, the Bank has attempted to engage GO1 in a policy dialogue to reform the regulation and management o f water supply provision, including appropriate roles for the private sector. In 1997 the Bank produced a sector policy paper which recommended GO1 rely on private investment, management and other forms o f partnership to improve water supply coverage

0

0

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and quality. However, with the onset o f the economic/political crises and the rapid changes in government during the past five years, i t has been very difficult to sustain such a dialogue. As a crisis response, the Bank has provided technical assistance (with ASEM grant support) aimed at assisting local PDAMs (water utilities) to reschedule their debts to the Central Government after reaching a tripartite agreement between the Ministry o f Finance, the concerned local government and the P D A M on tariff structures and accomplishment of key financial and operational indicators. In 2001, WBI and the ADB jointly hosted a major seminar in Jakarta to discuss water sector reforms in the context of decentralization. In the meanwhile, the government renegotiated the two concession contracts for Jakarta water supply, and constituted a regulatory body at City Government level to oversee the contracts. The outcomes have been quite disappointing, and tariff issues have become extremely political. In the past year, however, the Center for Infrastructure Investment Development in the Ministry Kimpraswil (MSRI) has facilitated the successful conclusion o f concession contracts with the local governments o f the cities o f Pekanbam, Tegal and Tanggerang for water supply (as well as solid waste management in Depok), with TA support from the Asian Development Bank. This i s significant because i t validates the availability o f private sector financing for water supply investments in Indonesia. However, in general, problems related to (a) lack o f adequate regulatory measures, (b) political interference by local government officials, and (c) the absence o f clear definitions o f roles and responsibilities o f local governments and central ministries continue to hinder credible PSP interest in the sector. The Bank anticipates that GO1 and several local governments w i l l utilize the technical assistance funds made available under this project to strengthen the policy and regulatory framework for private water supply investments, as well as to conduct selected local studies to attract private sector interest in water supply.

0

Sector issue

Ban k-financed Legal and Regulatory Frameworks for Public and Private Provision o f Infrastructure

Project

Technical Assistance Project for Public and Private Provision o f Infrastructure-Loan 3 3 8 5-IND Second Technical Assistance Project for Public and Private Provision o f Infrastructure- Loan 3913-IND

Other development agencies Feasibility of private participation

Latest Supervision (PSR) Ratings

Asian Development Bank Technical Assistance US Agency for International Development "PURSE" and "WET" Projects

(Bank-finance Implementation

Progress (IP)

S

S

projects only) Development

Objective (DO)

S

S

Highly Unsatisfactory)

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3. Lessons learned and reflected in the project design:

(First) Technical Assistance Project for the Public and Private Provision of Infrastructure. The OED Project Performance Audit Report (Report 19462, June 16, 1999) identified the following main lessons learned:

Counterpart funding should be significant to ensure increased ownership and sustainability o f this type of project. The effectiveness o f the project management unit depends on the PMU's capacity to access key decision-makers in both the national development planning agency and the executing agencies, as well as the strength o f i t s operational staff. Free-standing and open-ended technical assistance projects need to emphasize 1) rapidity o f review and approval process o f requests for financing and 2) agreement at appraisal on a series o f terms o f reference and project development packages. Technical assistance projects involving executing agentddecentralized units should focus more on these units. Intermediate results from project components to overall project objectives (from implementing studies to concluding contracts) must be made clear to them from the beginning. Specific guidelines must be provided by the P M U to such agencies to avoid having to reject requests for financing. Good supervision and continuity in the supervision team i s critical for satisfactory project implementation. The size and skill mix of the team should be adjusted depending on the complexity o f project components and the sectors they address.

Second Technical Assistance Project for the Public and Private Provision of Infrastructure. TAP41-I1 was approved in June 1995, some 21 months before TAP4I-I was completed, and some four years before the above OED Performance Audit Report was issued. I t s design nonetheless attempted to address some but not all-of the lessons flagged by the OED audit. In particular, i t sought to ensure a substantial pipeline of well prepared sub-components was ready by the time of appraisal, although in the event many o f those identified subsequently lost the support o f the sponsoring sector agencies or were financed from other sources. The Project closed in December 2001 and preparation o f the ICR was completed in June 2002.

The task of identifying meaningful lessons i s complicated by the dramatic change in Indonesia's circumstances and attractiveness to private infrastructure investors as a result o f the economic crisis. Nonetheless, a number o f important points emerged with regard to the overall strategy for restoring PPI:

Sector institutions need to better integrate private sector participation within their overall infrastructure development policy formulation, planning, and implementation activities. Private infrastructure projects are often being handled by different groups within sector institutions, and there has been a tendency for those promoting traditional public sector programs to undermine the case for private participation and hence send mixed messages to prospective investors. Moreover, officials involved with promoting private participation often show a limited grasp o f what the private sector can bring to infrastructure projects and what they wi l l require in retum (including with respect to tariffs and possible needs for government supports).

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Don ’t under-estimate resistance to change within public institutions. As noted in Section B .2, transparently managed private section participation-whether through green-field projects or privatization-may threaten vested interests. This applies in particular to private projects that would encroach on the domains o f public enterprises that are now enjoying monopoly or quasi-monopoly positions. Efforts to promote rapid and sustainable private infrastructure development should therefore include carefully designed and coordinated actions to anticipate and address such resistance. Champions are needed. As indicated previously, the TAP4I-PMU has functioned as Indonesia’s de facto promoter of private infrastructure investment and P3 center. However, i t s influence and effectiveness was constrained by the absence o f strong political champions and by i t s remoteness from key decision-makers. Champions are needed both to lend weight to efforts to overcome institutional resistance and to help shape efforts to overcome public opposition to an expanded private sector role. Demonstration projects have value. The preparation and implementation o f demonstration or pilot projects provides an important means o f refining and applying policies, and can play a catalytic role in attracting private investment. Negative lessons in particular can greatly assist the design o f future projects. While institutional and regulatory reform should ideally precede project interventions, there may be instances where such reforms can appropriately be refined in parallel with the design o f demonstration projects.

The key lessons and issues from TAP4I-11 relevant to the design o f a new technical assistance operation include:

Need for clear and well-focused objectives. The objectives o f TAP4I-I1 were very broad, as also were the criteria for deciding whether proposed studies or technical assistance would be eligible for support under it. While the Project financed much useful assistance, i t i s difficult to relate the resultant outputs meaningfully to i t s overarching development goals. The objectives o f a follow-on operation should be more narrowly focused on enabling private participation in infrastructure rather than on infrastructure development in general. Need for an efSective linkage to senior decision-makers. The TAP4I-II steering committee did not function as envisaged and the PMU-and hence the project-became increasingly isolated from high-level decision-making on key infrastructure policy and strategy issues. These problems were further exacerbated by changes in the structure o f government changes that resulted in Bappenas’ authority on infrastructure issues diminishing. A future project should be attached to and support a functioning high level coordinating agency or central agency that enjoys effective support within Government. Need for strong ownership by TA users. Follow-up on some o f the technical assistance packages funded under TAPI-11 has been very limited. While this i s partly attributable to the onset of the crisis and subsequent widespread changes in government organization and staffing, there are also indications that some agencies did not fully “own” the assistance they managed. A future project should therefore be more selective and focus on supporting agencies that are pro-active in committing staff resources to work on proposal development, and should employ competitive mechanisms for allocating scarce TA resources. Need for clear roles of participating agencies. Many individual technical assistance services suffered long delays due to lack o f clarity regarding the respective roles o f the P M U and

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individual implementing agencies. In principle, the P M U was responsible for ensuring funds were used in accordance with the terms of the Loan Agreement while implementing agencies were responsible for ensuring the quality o f outputs and their transformation into outcomes. In practice, there were numerous instances of procurement-related issues causing long implementation delays. The design o f a follow-on project accordingly needs to incorporate a clearer accountability framework. Positioning technical assistance at the right level. I t i s not realistic to expect agencies to reform themselves. Thus for example, providing technical assistance relating to the development of a new non-ministerial regulatory body through a Directorate General that wi l l lose powers if such a body i s established i s unlikely to be successful. I t w i l l be important therefore to ensure that technical assistance serves the right clients.

4. Indications of borrower commitment and ownership:

The initial request for the Bank to support the project was taken at the f i r s t meeting o f the KPPI Committee in July 2001. Earlier, in April 2001, the Coordinating Minister for Economic Affairs had written to advise that GO1 was planning to establish the KPPI Committee and would be looking to the Bank to support i t s efforts to restore private investment in infrastructure.

Following the change o f Government in August 2001, the KPPI Committee did not meet for several months and l i t t le progress was made towards setting up a project preparation team or involving the key sector ministries. The reconstituted KPPI Committee met for the f i rst time in mid-November 2001 and since then interest in the private infrastructure challenge and commitment to the project has strengthened considerably. In late December 2001, the Coordinating Minister for Economic Affairs re-affirmed GOI’s intention to proceed with the project, and the Bank completed the preparation o f a Project Concept Document which was reviewed and approved as the basis for project preparation in April 2002. In July 2002 a Project Preparation Facility (PPF) advance was formally requested by the Ministry o f Finance for this project. After protracted discussion regarding the scope and size o f the PPF advance, the Bank approved the advance in November 2002 and the counter-signature o f the Ministry o f Finance was completed on December 31, 2002. OCMEA then moved quickly to appoint staff to assist with i t s preparation and management and to secure the active participation o f M O C and MSRI. Project preparation i s being handled by GO1 personnel supported by consultants, and this i s helping to build a sound and common understanding o f the issues and a strong sense o f ownership o f the individual project components. The KPPI Committee now meets frequently and high priority i s being given to finalizing the revised Keppres 7.

5. Value added of Bank support in this project:

The Bank brings to the project an unrivalled combination o f global knowledge and expertise in the broad area o f private participation in infrastructure and in-depth understanding o f Indonesia’s key infrastructure sectors and i t s experiences to date with private participation.

The Bank’s Private Sector Advisory Services Department, through i t s Private Provision o f Public Services (PPPS) group, has r ich experience in critically important sector policy areas-including regulatory reform and regulatory agency development, public supports for private projects-and i s developing “tool kits” designed to provide practical guidance on PPI-related topics. The group

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was the driving force behind the establishment o f the multi-donor Public-Private Infrastructure Advisory Facility (PPIAF) and i s responsible, at arm’s length, for the ongoing management o f the Facility. The PPPS group has long been involved in Indonesia, including through providing guidance on the shaping of a cross-sectoral regulatory framework for private participation in infrastructure that was ultimately issued as Keppres 7. I t i s intended that this important link would be maintained during project preparation and implementation.

The Bank has been closely involved in supporting Indonesia’s efforts to establish sound overarching policies and strategies for private participation since the early 1990s, including through the two TAP41 projects described earlier. I t has also worked closely with Indonesia on regional initiatives aimed at promoting PPI and, for example, in 1996 co-hosted with Bappenas the Ministerial Level International Conference on Infrastructure Development (proceedings published as “Frontiers o f the Public-Private Interface in East Asia’s Infrastructure” (Institute for National Development Studies). The Bank has also has been actively involved in helping shape the policy and regulatory reform agenda in all key infrastructure sectors, including transport (roads, railways, ports), energy (power, domestic gas), urban (water supply, public transport, solid waste), telecommunications, and water resources through both lending and ESW support activities.

This combination o f global and local and cross-cutting and sector-specific expertise enables the Bank to provide effective support for the Project, a capacity that wi l l be further enhanced by the recent consolidation o f EAP’s Transport, Urban and Energy Sector Management Units into a single Infrastructure Department, as well as the completion o f the on-going Infrastructure AAA work by June 2003, as noted previously.

ADB and USAID have and w i l l continue to play very important roles in supporting Indonesia’s efforts to promote private participation in infrastructure. ADB, along with USAID, has now taken the lead in providing assistance on regulatory reform and private sector development in the power sector, and has provided parallel assistance for the domestic gas sector. ADB has also been active in promoting private sector participation in urban infrastructure development, and i s considering to continue this support through a proposed Private Sector Participation (PSP) Facility for Urban Infrastructure. I t has also financed relevant technical assistance in the transport sector. USAID has also been very active in the past in promoting reforms designed to facilitate private provision o f urban infrastructure (e.g., through the “PURSE’ project), and continues to provide limited and narrowly targeted support in the transport and telecoms sectors through i t s “PEG” project. CIDA has financed technical assistance to Bappenas in the broad area o f infrastructure development policy, but as yet there are no firm plans for further support in this area.

The project has been designed to complement, reinforce and integrate ongoing and planned initiatives, including through helping to ensure that each o f these activities i s positioned within a sound overall PSP strategy and that outputs and lessons emerging from them are properly analyzed and disseminated.

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E. Summary Project Analysis (Detailed assessments are in the project file, see Annex 8) 1. Economic (see Annex 4): 0 Cost benefit 0 Cost effectiveness 0 Other (specify) No economic issues are envisaged for this technical assistance project, and i t i s not possible to conduct an economic evaluation.

NPV=US$ million; ERR = % (see Annex 4)

2. Financial (see Annex 4 and Annex 5): NPV=US$ million; FRR = % (see Annex 4) No significant financial issues are anticipated and i t i s not proposed to conduct a financial analysis.

The project wi l l form part o f the OCMEA budget and the project financial management arrangements have been modeled on those developed for the ongoing Corporate Restructuring Technical Assistance Project (Loan 4448-IND) and reflect lessons learned from the implementation o f the two TAP41 projects.

Fiscal Impact:

Minimal

3. Technical: Not applicable for the proposed project

4. Institutional: The project wi l l be attached to the KKPPI Secretariat. The PMU i s chaired by OCMEA’s Assistant Deputy for Transportation and Telecommunications Infrastructure Development, and OCMEA wi l l be the primary executing agency. Key positions in the Project Management Unit have been staffed by suitably qualified personnel from the Office of the Coordinating Ministry for Economic Affairs (OCMEA). 4.1 Executing agencies:

The client / implementing agencies for technical assistance services included under the project wi l l include:

a

a

The Coordinating Ministry o f Economic Affairs and the Planning and Investment Sub-committee o f KKPPI; Ministry o f Communications (through i t s Secretariat General and, as appropriate, i t s Directorates General for Telecommunications and for Land, Sea and Air Communications, and i t s Research and Development Agency); and Ministry of Settlements and Regional Infrastructure (through i t s Agency for Investment and Construction and, as appropriate, i t s Secretariat General and Directorates General for Regional Infrastructure and Urban and Rural Development).

a

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4.2 Project management:

Technical Management. A key challenge during project implementation w i l l be the limited technical capacities o f the executing and implementing agencies on matters relating to PPI. During preparation, this has been addressed through inter-active support from the Bank preparation team and the PPF-financed project preparation consultants. GO1 personnel have been closely involved and in consequence have developed a stronger ownership o f the program. During implementation, the OCMEA Core Advisory Team and the M O C and M S R I PPI Advisors wi l l play a key role in assisting the implementing agencies to prepare TORS for the additional TA packages to be identified / firmed-up during project implementation, and to guide and oversee their implementation and support subsequent assimilation and dissemination o f outputs.

Administrative and Financial Management. The administrative and financial arrangements for the management o f the project have been modeled on those developed for the ongoing Corporate Restructuring Technical Assistance Project and draw heavily on the experience gained during the implementation o f the recently closed TAP4I-11 Project. Particular attention was given to streamlining the review and approval process for those TAs to be identified / firmed-up during project implementation as this was frequently a source o f long delays on TAP4I-II. Selection criteria for subsequent projects are broadly summarized in Annex 13 which w i l l be further refined during the sectoral and cross-sectoral PPI assessments and strategy formulation. Overall project administrative procedures and financial management arrangements have been carefully documented in operating manuals which were agreed during project appraisal.

4.3 Procurement issues:

The 2001 CPAR for Indonesia, prepared in close collaboration with ADB and a GO1 working group, concluded that Indonesia’s public procurement system i s severely prone to corruption and collusion, lacks transparency, and fails in i t s principal objectives o f procuring goods and services with due consideration to maximizing economy and efficiency and promoting competition and fair and equitable treatment o f all suppliers, contractors and consulting f i rms. The report has generated a continuing high-level dialog with GOI, and agreement has been reached on a number o f important elements o f an action