Document o f The World Bank

FOR OFFICIAL USE ONLY

Report No. 44351-PE

INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT

PROGRAM DOCUMENT

FOR A

PROPOSED

ENVIRONMENTAL DEVELOPMENT POLICY LOAN

IN THE AMOUNT OF US330 MILLION

TO THE

REPUBLIC OF PERU

January 7,2009

Sustainable Development Department Bolivia, Ecuador, Peru and Venezuela Country Management Unit Latin America and the Caribbean Region

This document has a restricted distribution and may be used by recipients only in the performance of their official duties. I t s contents may not otherwise be disclosed without World Bank authorization.

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REPUBLIC OF PERU FISCAL YEAR January 1-December 3 1

AAA BCRP BLL CAF CEA CNG CONAM COSAC DDO DIGESA DPL ECAs EIA EITI FONAM FONCOPES GDP GESTA G O M GoP IDB IDF IFC IGP IM IMARPE IMF INRENA JBIC L A C LMPs LPG M C F M MDG MEF MELs

CURRENCY EQUIVALENTS (Exchange Rate Effective: November 11, 2008)

Currency Unit = Nuevos Soles 3.09 Nuevos Soles = US$l

WEIGHTS AND MEASURES Metric System

ABBREVIATIONS AND ACRONYMS

Analytical and Advisory Activities Central Bank o f the Republic o f Peru Blood lead level Andean Development Corporation Country Environmental Analysis Clean natural gas National Environmental Council Corridors o f high capacity buses Deferred Drawdown Option General Directorate o f Environmental Health in the Ministry o f Health Development Policy Loan Environmental Quality Standards Environmental Impact Assessment Extractive Industries Transparency Initiative National Environmental Fund Social Compensation Fund Gross Domestic Product Grupos de Estudio Te'cnico Ambiental de la Calidad del Aire Government o f Mexico Government o f Peru Inter-American Development Bank Institutional Development Fund International Finance Corporation Peruvian Geophysical Institute Inspection and Maintenance Peruvian Oceanic Studies Institute International Monetary Fund National Institute o f Natural Resources Japan Bank for International Cooperation Latin America Region Maximum Permissible Levels Liquefied petroleum gas Mi l l ion cubic feet per minute Millennium Development Goals Ministry o f Economy and Finance Mining Environmental Legacies

MEM MINAG MINAM MINSA M T MTC NCE NG NGO NPA OEFA OPIC OSINERGMIN OSINFOR PA PAMA Pb PCM PERCAN PFM P M PPM PRODUCE PROFONANPE PSRL REACT SENAMHI SERNANP SIAF SINANPE SNIP so2 TOR Pddl VIVIENDA

Ministry o f Energy and Mines Ministry o f Agriculture Ministry o f Environment Ministry o f Health Metric tons Ministry o f Transport and Communications National Code for Environment and Natural Resources Natural Gas Non-Governmental Organization National Protected Area Office o f Evaluation and Environmental Enforcement Overseas Private Investment Corporation Mining Enforcement Agency Forestry Enforcement Agency Protected Area Environmental Management Program Lead Council o f Ministers Peru-Canada Cooperation Program Public Financial Management Particulate matter Parts per million Ministry o f Production

; Peruvian Fund for Protected Areas Programmatic Social Reform Loan Results and Accountability Project National Meteorology and Hydrology Service National Service o f Natural Protected Areas Sistema Integrado de Administracidn Financiera National System of Natural Protected Areas National Public Investment System Sulfur dioxide Terms o f reference Microgram per deciliter Ministry o f Housing, Construction and Sanitation

Vice President: Pamela Cox

Sector Director: Laura Tuck Sector Manager: Laura Tlaiye

Sector Leader Michel Kerf Task Team Leader: Renan Poveda

Country Director: Carlos Felipe Jaramillo

PERU ENVIRONMENTAL DEVELOPMENT POLICY LOAN

CONTENTS

LOANAND PROGRAMSUMMARY ........................................................................ i

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

I1 . COUNTRY CONTEXT ..................................................................................... 3

A . RECENT ECONOMIC DEVELOPMENTS ........................................................ 3

B . MACROECONOMIC OUTLOOK .................................................................... 4

I11 . ENVIRONMENTAL CHALLENGES AND THE GOVERNMENT'S PROGRAM ......... 7 A . ENHANCING ENVIRONMENTAL INSTITUTIONS AND GOVERNANCE .............. 8

A.1: CREATION OFA NEW MINISTRY OF ENVIRONMENT .............................................. 1~

A.2: STRENGTHENING THE INSTITUTIONAL CAPACITY FOR BIODIVERSITY CONSERVATION ... 12

A.3: ENHANCING POLLUTION MONITORING AND ENFORCEMENT CAPACITY ..................... 15

B . MAINSTREAMING PRINCIPLES OF SUSTAINABLE DEVELOPMENT IN KEY SECTORS ......................................................................................... 16

B.1 MINING .................................................................................................... 16

B.2 URBAN TRANSPORT ...................................................................................... 20

B.3 FISHERIES .................................................................................................. 23

I V . BANK SUPPORT TO THE GOVERNMENT PROGRAM ...................................... 26

A . LINK TO THE COUNTRY PARTNERSHIP STRATEGY .................................... 26

B . COLLABORATION WITH IMF AND OTHER DONORS .................................... 27

C . RELATIONSHIP TO OTHER BANK OPERATIONS .......................................... 28

D . LESSONS LEARNED ................................................................................... 28

E . ANALYTICAL UNDERPINNINGS .................................................................. 29

V . THE PROPOSED OPERATION .................................................................. 32

A . OPERATION DESCRIPTION ........................................................................ 32

B . POLICY AREAS .......................................................................................... 33

C . LOAN AMOUNT AND TRANCHING ............................................................... 34

V I . OPERATION IMPLEMENTATION .................................................................. 35

A . POVERTY AND SOCIAL IMPACTS ............................................................... 35

B . ENVIRONMENTAL ASPECTS ....................................................................... 36

C . IMPLEMENTATION MONITORING AND EVALUATION .................................. 37

D . FIDUCIARY ARRANGEMENTS ..................................................................... 39

E . DISBURSEMENTS AND AUDITS .................................................................... 41

F . R I S K S AND R I S K MITIGATION ..................................................................... 42

ANNEXES

Annex 1: Letter o f Development Policy ...................................................................................... -46 Annex 2: Development Policy Matrix ......................................................................................... 57 Annex 3: Proposed structure o f MINAM......... .................................................................................. 60

Annex 4: Complementary Projects o f the World Bank Group ........................................................ 61

Annex 5: Social Impacts associated with Mining and Fisheries Sectors ......................................... 63

Annex 6: Country at a Glance ............................................................................................................. 66

Annex 7: Map IBRD 33465.. ............................................................................................................... 69

The Peru Environmental Development Policy Loan (ENVDPL) was prepared by an IBRD team consisting o f Renan Poveda (Task Team Leader), Andrea Semaan, Anjali Acharya, Juan Carlos Belausteguigoitia, Glenn Morgan, Dinesh Aryal, Angela Armstrong (LCSEN); Alonso Zarzar (LCSSO); Rossana Polastri (LCSPE); Lidvard Gronnevet, Kieran Kelleher (ARD); Alberto Ninio (LEGEN); Fabiola Altimari, Manju Ghumman (LEGLA); Xiomara Morel (LCSFM); Patricia de la Fuente Hoyes (LOAFC); Elizabeth Huaman, Luis Barrantes (LCC6C); Eduardo Zolezzi (Consultant, LCSEG); Peter Davis, Maria Chappuis, and Jonathan Cavanagh (Consultants, LCSEN). This operation was undertaken under the general guidance o f Carlos Felipe Jaramillo (Country Director, LCC6C), Laura Tuck (Sector Director, LCSSD), Laura TIaiye (Sector Manager, LCSEN) Michel Kerf (Sector Leader, LCSSD), Franz Drees-Gross (Sector Leader, LCSSD), and Abel Mej ia (Manager, ETWAA). Peer reviewers were Kirk Hamilton (Lead Environmental Economist, ENV); John Nash (Lead Economist, LCSSD); Richard Damania (Lead Environmental Economist, SASDI); Eleodoro Mayorga (Coordinator, COCPO); and Claudia Sobrevila (Sr. Biodiversity Specialist, ENV).

REPUBLIC OF PERU

ENVIRONMENTAL DEVELOPMENT POLICY LOAN

LOAN AND PROGRAM SUMMARY

Borrower Implementing Agency

Financing Data

Operation Type

Main Policy Areas

Key Outcome Indicators

Program Development Obj er t ive( s) and Contribution to CAS

Republic of Peru Ministry of Economy and Finance (MEF), with support from the Ministry o f Environment (MINAM), the Ministry of Energy and Mines (MEM), the Ministry o f Transport and Communications (MTC), and the Ministry o f Production (PRODUCE). IBRD Terms: Fixed Spread Loan (FSL) in US Dollars payable in 21.5 years, including a 13.5 year grace period. Amount: US$330 million Programmatic (first of three). GOP has elected a Deferred Drawdown Option (DDO) as the disbursement mode for this operation. An initial disbursement o f US$20 mill ion i s expected upon effectiveness (by mid-2009). The policy areas addressed by this loan are: (1) institutional strengthening for environmental governance, including regulation and enforcement; and (2) mainstreaming of environmental sustainability principles in the mining, fisheries, and urban transport and energy sectors. Improvements to Environmental Governance would be evidenced by the following: (i) MINAM reviews Environmental Impact Assessments (ELAs) for at least 10 large infrastructurehvestment projects. with potentially significant impacts per year; (ii) SERNANP applies financial strategy to increase funding for managing protected areas (PAS) from various sources (including private sector) by at least US$ 2 million per year; and (iii) air quality data for the Lima-Calla0 Metropolitan Region i s widely published and disseminated (in real time) through an integrated monitoring network. Air quality contingency plans are developed and implemented (when pollution levels largely exceed quality standards) in the 5 most polluted cities in Peru: Lima, Arequipa, Chimbote, 110, and L a Oroya. Sustainable Management of the Mining Sector would be evidenced by the following: (i) At least ten priority mining environmental legacies (MELs) are identified following the priority setting update of the MELs inventory and resources for remediating them i s confirmed; and (ii) Environmental participatory monitoring i s undertaken in at least 60 mining sites. Strengthening Efforts to Improve Air Quality as evidenced by the following: (i) At least 80,000 vehicles converted to Natural Gas (NG) and 90 service stations are installed and operating supplying NG in Lima; (ii) At least 30 percent o f gas stations (approx. 750) in main cit ies supplying clean diesel (with less than 50ppm of sulfur content) by 2010; and (iii) Vehicle inspection and maintenance system operating in Lima and in the three largest cities. Enhancement of Sustainable Fisheries as evidenced by the following: (i) 100 percent o f anchoveta fleet under the quota system; and (ii) at least 5,000 workers benefit from economic incentives for leaving commercial fishing.

The proposed Environmental Development Policy Loan Program (ENVDPL) aims at supporting the government’s efforts to strengthen environmental governance and institutions in Peru, and mainstream environmental sustainability in the development agenda o f key sectors (mining, fisheries, and urban transport and energy). The ENVDPL promotes improvements in health particularly of the poor who are exposed to the highest risks from environmental degradation. The ENVDPL i s consistent with one of the key pillars of the 2006 Country Partnership Strategy (CPS) for Peru for FY07-FYI1 (and the 2009 CPS progress report) laying out a strategy to support the GoP to achieve i t s goals of sustained economic growth. The CPS recognizes the need to raise the profile o f environmental issues in Peru by enhancing

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Risks and Risks Mitigation

Operation ID

environmental public investments and strengthening the institutional framework. In support o f the CPS’ pillar (i) on economic growth, the ENVDPL program will contribute to making growth environmentally sustainable by supporting the environmental legal and institutional framework, biodiversity conservation, enhancing control over air and water pollution, improving the sustainability of the mining sector and the sustainable management o f fisheries resources. In addition, by supporting the policy instruments of the newly created Ministry o f Environment (MINAM), the ENVDPL would contribute to the modernization o f the state institutions (CPS pillar iii). The following risks and mitigation measures have been identified: (i) macroeconomic risks related to Peru’s vulnerability to changing international conditions. While the near-term outlook for Peru has changed in light o f the global economic downturn, it remains positive. This i s a moderate risk and Peru i s facing the global financial downturn with strong macroeconomic indicators and sound policies in place which include: (a) easing monetary policy; (b) interventions in foreign exchange market; (c) counter-cyclical fiscal’policy; and (d) incentives to sustain private investments; (ii) Possible decreased requests for loans in this programmatic series by the COP in mid-term, which could affect the future Environmental DPLs and policy dialogue. The risk o f a potential disruption in the policy dialogue would be mitigated by the Bank’s ongoing work program in the key sectors; (iii) The ruling party has a minority in Congress which could create difficulties in passing legislation. This i s a low risk for the DPL series since al l o f the Legislative Decrees relating to this program have already been passed, and the pending regulations depend on the executive branch for approval. There i s also a low risk that there could be a challenge by Congress to Legislative Decree 1084, which establishes vessel quotas for the anchoveta fleet and to the Legislative Decree 1013, which establishes the creation o f MINAM; (iv) Institutional risks including changes affecting the legitimacy and legal status o f the newly created MINAM as well as limited resources, weak capacity and an overall redefinition o f roles by MINAM. This risk i s being addressed by the proactive liaising o f the Minister o f Environment with members of Congress. The Congress recently approved MINAM’s operating budget; and MEF has more than doubled its operating budget. In addition, the proposed DPL (and an associated IDF grant) would help mitigate this risk by enhancing capacity in key areas (such as FM management and Monitoring and Evaluation) and in the definition o f roles and responsibilities; and (v) Sector speczjic risks, particularly with regard to the commitment to address Mining Environmental Legacies (MELs), and changes o f the Legislative Decree (1084) establishing vessel quotas for the anchovetafleet for the fisheries sector. In the case o f mining legacies the Ministry o f Energy and Mines (MEM) has endorsed a methodology to identify the priority sites and has allocated funds for the remediation of MELs; and in the case o f the fisheries sector, PRODUCE i s actively engaging in discussions with potentially affected fishermen to explain the social benefit measures and thereby reducing the risk of a potential backsliding on the Legislative Decree. Implementation of the Inspection and Maintenance (IM) System in the Lima Metropolitan Region. MTC published regulation No 025 in August 2008 establishing the rules, control and responsibilities for the IM program for Lima. Since the MTC has assumed the oversight o f the-IM system, implementation has been carried out in a satisfactory manner. P101471

.. 11

IBRD PROGRAM DOCUMENT FOR A PROPOSED ENVIRONMENTAL DEVELOPMENT POLICY LOAN

TO THE REPUBLIC OF PERU

I. INTRODUCTION

1. The government of Peru (GoP) has requested the proposed Environmental Development Policy Loan (ENVDPL) for US330 million, as the first o f three operations aimed at supporting the government’s efforts to improve the efficiency and effectiveness o f environmental governance and institutions in Peru; and mainstream environmental sustainability into the development agenda o f key sectors (mining, urban transport, and fisheries). GoP has elected a Deferred Drawdown Option (DDO) as a disbursement option.’ This instrument wil l allow the GoP to pro-actively manage risk in light o f the current global financial downturn or a shift in the favorable external circumstances driving Peru’s growth, beyond the country’s currently available risk management tools. The ENVDPL i s one o f the key pillars o f the 2006 Country Partnership Strategy for Peru, and o f the government’s strategy to strengthen its sustainable development policies, and will contribute to Peru’s efforts towards achieving the Millennium Development Goals (MDGs).* The proposed policy reforms and activities under the ENVDPL program are based on two core pieces o f analytical work: (i) the Environmental and Social Dimensions o f the Mining Sector in Peru (2005); and (ii) the Peru Country Environmental Analysis (CEA, 2006).

2. Over the past few decades, Peru has adopted numerous policy initiatives and taken measures to build institutional capacity to protect the environment and manage its natural resources. Environmental quality and natural resource abundance are an integral part o f the country’s sustainable growth and the well-being o f i t s population. In spite o f these noteworthy efforts, however, Peru continues to face serious challenges and threats to i t s air, water resources, land and biodiversity, compromising i t s potential for growth. The costs o f environmental degradation are estimated at more than 3.9 percent o f the country’s GDP per year, mainly due to increased morbidity and mortality and decreased productivity.

3. Recent events have renewed public attention to the consequences of environmen’tal degradation and depletion o f natural resources. The media have provided extensive coverage o f pollution from the country’s mining environmental legacies (MELs) which have become the source o f many o f the social conflicts in the country. Similarly, the high lead concentration levels in the blood o f the population at La Oroya have caused an international outcry. The mining smelter places this highland town o f 30,000 inhabitants on the l i s t o f the ten most polluted places

Peru i s an appropriate middle income country candidate for a DDO since it fu l f i l l s the main conditions stipulated by Bank policy including: (i) macroeconomic policies that have been disciplined and steady; (ii) Peru i s in excellent standing in the international markets, as evidenced by the positive outlook o f rating agencies, reflected in Fitch’s recently granting investment grade to Peru; and (iii) the proposed DDO is included within the overall CPS lending envelope and partnership strategy. * The proposed ENVDPL program would contribute to the attainment o f MD Goal 7, which seeks the attainment o f environmental sustainability, and Target 9, which promotes principles o f sustainable development in country policies and programs.

I

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on the planetq3 The devastating effect o f natural disasters associated with the occurrence of El NiAo in 1998 and the recent collapse o f the hake fisheries as well as the challenges to the anchoveta fisheries have also triggered short-term institutional responses to these issues.

4. I n response to growing public awareness about the need to address Peru’s mounting environmental challenges, the Ministry o f Environment (MINAM)4 was created earlier this year, thereby elevating its position in the hierarchy of the country’s government. Over the past decade, Peru has made progress in improving i t s institutional and legal framework for environmental management, which includes enacting laws on environmental licensing and strengthening the environmental units and functions for some sectors. Together with these advances, the key factors contributing to MINAM’s creation included: (i) a growing awareness in the public and private sectors o f increasingly severe environmental issues; (ii) indirect pressure within the framework o f negotiations o f the Free Trade Agreement (FTA); and, (iii) a growing concern from civ i l society, non-governmental organizations (NGOs) and the international donor community (including the Bank) about the need for a strong environmental authority to balance the unprecedented growth and i t s associated environmental impacts. The timing o f this loan i s therefore particularly opportune in that it supports the early and critical stages o f MINAM’s development and the continuation o f environmental policy reforms.

5 . The selection o f key sectors and priority areas to be addressed by the proposed ENVDPL has been based on Bank analytical work and a comprehensive series o f consultations led by Ministry o f Economy and Finance (MEF), with the inputs and active participation o f various government agencies’ as well as consultations with other donors6 to avoid duplication o f efforts and ensure compatibility with other programs. The core sectors and themes to be supported by this DPL were selected based on the following: (i) a level o f national priority agreed on by MEF and MINAM7; (ii) supplementary support from other loandgrants;’ and (iii) the level o f sectoral support and commitment. Consequently, the final selection o f sectors to be supported (mining, fisheries, transport and fuels related to air quality improvements) reflect a cohesive strategy which would: (i) promote principles o f sustainability and address core environmental issues in two high-growth, natural resource-based, and leading export sectors

According to the Blacksmith Institute, L a Oroya i s the only site in the Americas in the Top Ten Most Polluted

MINAM will concentrate and organize many o f the responsibilities for environmental management, which until

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Places in the World l is t (http://www.blacksmithinstitute.ora/ten.uhu).

now had been shared by more than a dozen agencies including the National Council for the Environment (CONAM), the National Institute o f Natural Resources (INRENA), the General Directorate for Environmental Health (DIGESA), and sectoral environmental agencies. Furthermore, a new environmental enforcement agency has been established under the Office o f Evaluation and Environmental Enforcement (OEFA), and the National Service of Protected Areas (SERNANP) has been created as an independent agency under MINAM.

(PRODUCE); and (vii) the Ministry o f Housing (VIVIENDA).

United Nations Development Program (UNDP), and the Peru-Canada (PERCAN) Initiative.

costs of environmental degradation were not selected by the authorities.

ENVDPL as they are already being addressed by two separate IDB DPLs and an upcoming World Bank TA loan, and forest policy i s being covered within the framework o f the FTA and through an Andean Development Corporation (CAF) loan.

4

These include (i) MINAM; (ii) CONAM); (iii) INRENA; (iv) DIGESA; (v) MEM; (vi) the Ministry o f Production

These include the Inter-American Development Bank (IDB), the Andean Development Corporation (CAF), the

Some important areas such as natural disasters and indoor air pollution, identified as prominent contributors to

Issues such as water resource management (identified as critical in the Peru CEA) are not included in the proposed

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(mining and fisheries); (ii) address poor air quality identified as one o f the leading causes o f morbidity and mortality in the country (particularly in large cities); and (iii) strengthen the overall environmental institutional and policy framework supporting MINAM’s new responsibilities in policy making; biodiversity conservation; regulating the environmental licensing process; and environmental enforcement. A recently approved Institutional Development Fund (IDF) grant would also contribute in strengthening MINAM’s environmental management capacity ‘and to monitor the implementation o f specific measures and reforms to be undertaken by the DPL program.

11. COUNTRY CONTEXT

A. RECENT ECONOMIC DEVELOPMENTS

6. Economic growth has remained high and broad based in the past six years and has been accompanied by public sector surpluses, relatively low inflation, high levels of international reserves and a manageable external current account. In addition, vulnerability indicators have improved significantly in recent years, with a declining public debt to GDP ratio and a strengthened financial sector. Growth has been led by domestic demand, with both consumption and investment expanding at high rates. In 2008, two rating agencies, Fitch and Standard and Poor’s, upgraded Peru’s sovereign debt to investment grade status. Commodity windfalls have been saved into a Fiscal Stabilization Fund, which provides room for conducting countercyclical fiscal policy if needed. Finally, sustained growth i s having an impact on poverty, as witnessed by the decline o f almost 10 percentage points in poverty rates between 2005 and 2007. Employment growth figures also support this trend.

Table 1. Key Economic Indicators 2005 2006 2007 2008e 2009p 2010p 2011p

Annual GDP growth rate 6.4 7.6 9.0 9.3 6.0 5.5 5.5

of which: Private sector 5.9 9.0 11.4 13.1 5.2 8.1 8.0 Inflation rate, CPI (end o f period) 1.5 1.1 3.9 5.5-6 2.5-3 2-2.5 2.0

Real Domestic Demand 5.7 10.3 11.8 13.2 5.9 7.1 7.6

Inflation rate, CPI (average) 1.6 2.0 I .8 5.7 4.4 3.3 2.4

NFPS BalanceiGDP Public Sector DebtiGDP

Exports (FOB); change p.a. Imports (CIF); change p.a. Trade Balance/GDP External Current AccountGDP Terms o f Trade (deterioration -)

-0.3 2.1 3. I 2.4 1.1 0.9 2.2 37.8 32.7 29.2 23.3 22.2 20.0 17.4

35.0 37.0 17.5 16.4 8.7 10.8 10.2 23.0 23.0 31.8 47.3 2.8 12.4 12.4 6.4 9.6 7.7 2.8 0.0 -0.3 1.4 1.4 2.8 1.4 -3.2 -3.0 -3.0 -2.2 5.6 27.4 3.6 -4.7 -8.3 -1.6 -4.0

Net International Reserves US$ billion 14.1 17.3 27.7 33.7 33.9 34.1 32.1 Percent o f short-term external debt 311.4 182.4 456.1 473.7 349.9 378.9 356.7 Percent of foreign currency deposits at banks 125.9 151.7 208.5 199.1 198.7 199.9 242.5

Source: Ministry o f Economy and Finance, Central Bank o f Peru and IMF. Source: Banco Central de Reserva del Perli (BCRP), MEF (Revised Marco Macroeconomico Mult i-anual2009-2011) and I M F projections

7. Inflation has surged since mid-2007, reflecting rising international food and fuel prices and domestic demand pressures. The implementation o f the inflation-targeting

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framework has been successful in reducing inflation and anchoring expectations. Recently, however, inflation has become a source o f concern for the authorities, as for many countries in the region. Since October 2007, inflation has remained above the BCRP's inflation target o f 1-3 percent, closing end-2007 at 3.9 percent. Since January 2008 inflation has continued on an upward trend, reaching 6.2 percent in September. However, food and fuel prices have been falling since August 2008; this will help to bring inflation back towards target in the medium- term.

8. External vulnerability indicators have improved in recent years. The strength o f the trade accounts has led to a hefty international reserve position (33 US $ billions, about 26 % o f GDP). The current account i s expected to deteriorate in 2008 and 2009, and financing it will depend on maintaining a reasonable amount o f FDI inflows. Ongoing large-scale investment projects are expected to continue contributing strongly to growth in coming years. Prudent fiscal policy and strategic debt management have improved significantly Peru's public debt burden indicators. As a result, Dominion Bond Rating Service, Fitch Ratings and Standard and Poor have granted investment grade status to Perug. The country's excellent economic performance has led Standard & Poor's Ratings Services in July 2008 to raise i t s foreign currency long-term credit rating for Peru to 'BBB-' from 'BB+' and raise i t s local currency long-term credit rating to 'BBB+' from 'BBB-'

9. The high growth of the last years has had a positive impact on reducing poverty and social vulnerabilities. Recent years have witnessed a significant decline in poverty with particularly encouraging results in 2007. The national poverty rate dropped by 9.3 percentage points between 2004 and 2007, from 48.6 percent to 39.3 percent in 2007. While this trend bodes well for a continuation - o f declines in poverty, recent developments with respect to inflation (particularly food inflation) call for closer monitoring o f poverty trends in 2008. The government, though, has already taken important actions to protect the poor from the impact o f food inflation.

Table 2. Poverty Rates, 2004-2007

Region 2004 2005 2006 2007 Region 2004 2005 2006 2007 Total 48.6 48.7 44.5 39.3 Total 17.1 17.4 16.1 13.7 Urban Coast 37.1 32.3 29.9 25.1 Urban Coast 5.6 4.0 3.0 2.1 Rural Coast 51.2 50.0 49.0 38.1 Rural Coast 13.8 13.4 14.4 10.5 Urban Sierra 44.8 44.4 40.2 36.3 Urban Sierra 13.6 11.6 10.3 8.5 Rural Sierra 75.8 77.3 76.5 73.3 Rural Sierra 44.0 46.6 46.5 40.8 Urban Selva 50.4 53.9 49.9 40.3 Urban Selva 18.7 22.5 18.1 11.0 Rural Selva 63.8 65.6 62.3 55.3 Rural Selva 30.4 28 24.6 23.4 I Metropolitan Lima 30.9 32.6 24.2 18.5 Metropolitan Lima 1.3 2.0 0.9 0.5 1 Source: National Institute of Statistics (INEI).

B. MACROECONOMIC OUTLOOK

10. external conditions.

Peru's economic performance remains unabated in 2008, in spite of deteriorating Growth for 2008 has been revised upwards from 8.5 percent to 9.3

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percent," led by booming domestic demand, which i s a reflection o f surging investments (particularly in mining and construction), strong credit expansion and sustained public expenditures. As a result, Peru i s currently among the fastest growing economies in Latin America and Caribbean region and enjoys one o f the lowest inflation rates. Inflationary pressures remained in 2008, but are expected to recede with the recent decline in agricultural commodity and international fuel prices. The recent update by the Ministry o f Economy and Finance (MEF) on fiscal accounts for 2008 point to a slightly larger public sector surplus, supported by higher estimates o f tax revenues. Accounting for the deterioration in terms o f trade, the current account balance forecast has shifted to a deficit o f 3.2 percent o f GDP for 2008, from the 1.3 percent o f GDP previously estimated.

11. While the near-term outlook for Peru has changed in light o f the global economic downturn, it remains positive provided sound policies continue and timely financing i s available in the event the global economic downturn intensifies beyond expectations. The medium term outlook presented in Table 1 reflects the more challenging external environment, namely lower global growth, lower commodity prices and higher risk aversion. Although positive, the outlook for coming years faces external downside risks. Economic activity for 2009- 201 1 i s expected to slow down, but growth will remain at reasonable robust rates. The ongoing credit growth moderation, falling commodity prices and the recessionary risks o f developed economies will affect growth prospects. Growth forecasts have been moderated to about 6 - 6.5 percent for the period 2009-1 1, below the potential 7 percent GDP growth estimated by the Central Bank o f Peru (BCRP). Fiscal revenues w i l l be affected by lower commodity prices and lower global demand, as one third o f tax revenues are commodity related. Fiscal balances will remain posting surpluses, but at lower levels than in previous years. The fiscal surplus forecast for 2009 has been revised downwards to 1.4 percent o f GDP (from 2.3 percent o f GDP in the budget plan). The external current account will most likely remain in deficit at about 3 percent o f GDP in the near term. Hefty international reserve accumulation provides comfortable room for financing deficits o f the order forecasted under the base scenario.

12. Strong growth, fiscal surpluses and active liability management have contributed to a steady decline in debt stock. The country's debt service profile and i t s currency and interest risk exposures have improved significantly as a result o f the GoP's ample access to various funding sources, as well as an active policy o f liability management. The public sector debt-to- GDP ratio has steadily decreased from 44 percent in 2004 to 30 percent in 2007, and i s projected to drop to 23 percent o f GDP in 2008. The public debt position i s resilient to standard interest rate and exchange rate shocks, and debt sustainability i s not a concern in the medium term, even after accounting for latest global economic' developments. Peru's medium-term fiscal stance relies on external financing. Under the assumption o f compliance with the fiscal deficit targets o f the Fiscal Transparency and Responsibility Law (FTRL) and average growth o f 5.7 percent during 2009-1 0, Peru's financing needs will be approximately US$1.5 billion, o f which US$200 mil l ion i s expected to be budget support.

lo Growth for the first half of 2008 was 10.3 percent on an annual basis. July and August postings were 8.3 percent and 8.9 percent, respectively.

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13. IMF relationship: In January 2007, Peru signed a 25-month Stand-By Arrangement in the amount equivalent to SDR 172.4 million (27 percent of quota) with the International Monetary Fund (IMF). The program has been on track and third review o f Peru's economic performance under the arrangement was completed by the IMF Board on July 24, 2008. The Peruvian authorities have treated the arrangement as precautionary and have not made any drawings, as was the case in the two previous ones. The fourth review Board discussion i s tentatively scheduled for early 2009.

14. I n addition to the strong macroeconomic indicators referenced above GoP has announced and implemented a number o f policy measures to maintain confidence and mitigate the foreseen adverse impact that the global crisis could have on economic activity. These measures include:

Easing monetary policy: The Central Reserve Bank o f Peru (BCRP) has increased liquidity facilities to avoid a potential credit squeeze, including the creation o f rep0 loans in U S dollars with CDs as collateral, and resumed issuance o f U S dollar-linked CDs. Additionally BCRP announced legislation that will allow institutions like pension funds to participate in these rep0 operations. BCRP has also redhced the marginal reserve requirements on both local and foreign currency deposits. Reserve requirements o f 9 percent on long-term foreign capital inflows (above two years) were recently eliminated. The reserve requirement on US dollar denominated accounts was reduced from 49 percent to 3 5 percent.

Intervention in the foreign exchange market: The Peruvian Sol depreciated by 3 percent since August 2008, after a lengthy period o f moderate appreciation pressures. BCRP has intervened in the foreign exchange market to smooth out fluctuations and prevent a rapid depreciation o f the currency, using nearly US$ 4.5 bi l l ion in the last two months. In the event o f further depreciation pressures, BCRP has enough room to intervene as international reserves currently stand at US$32 billion or 24 percent o f GDP (as o f October 3 1).

Counter cyclical fiscal policy: The authorities have announced that they intend to adjust the level o f public expenditures to support a growth rate target o f at least 6 percent per year for 2009-10. Under this scenario, public investments would be accelerated as needed, and more funds would be allocated to social and infrastructure expenditures, with emphasis on those programs that have a direct impact on vulnerable families. While in a base scenario, such a boost in expenditures may not require incurring a fiscal deficit, authorities are making arrangements to secure contingent lines o f credit from international financial institutions in case access to bond markets remains costly. In the short term, authorities have announced their intention to explore long-term bond issuance if windows o f opportunity arise.

Measures to sustain private investment: In addition to the above, the government i s working to ensure that private investment flows are not affected significantly by changing risk perceptions. In coordination with private commercial banks, authorities are identifying financial mechanisms that would prevent a significant reduction in lending for investments in equipment, capacity expansion and construction. Talks are underway with the International Finance Corporation (IFC) to intensify i t s active presence in Peru

0

0

6

through equity investments, long term funding, mobilization and issuance o f partial guarantees to cover risks. Other institutions that have announced their intention to collaborate in these efforts include the Inter-American Development Bank (IDB), the Overseas Private Investment Corporation (OPIC), and the Japan Bank for International Cooperation (JBIC). Public financial institutions would also continue channeling resources to productive sectors.

111. ENVIRONMENTAL CHALLENGES AND THE GOVERNMENT'S PROGRAM

15. The most significant economic costs o f environmental damage in Peru are associated with outdoor air pollution and lead exposure in urban areas, inadequate water supply, sanitation and hygiene, followed by natural disasters, indoor air pollution and agricultural soil degradation which, as illustrated in Figure 1, account for 8.2 bi l l ion soles or equivalent to 3.9 percent o f GDP in 2003 as a result o f increased morbidity and mortality and decreased economic productivity." The burden o f these costs falls heavily on the most vulnerable groups. Environmental health impacts often have more severe repercussions on the poor and on children under five than on the non-poor, because the latter tend to have more resources to cope with such threats, such as better access to health services and better health in general. Thus any interventions or reforms to strengthen environmental management are likely to have a direct influence on the lives o f Peru's most vulnerable populations.

Figure 1: Annual Cost of Environmental Damage (Billions o f Soles per year)

3 0

2.5

2.0

1.5

1 .o

0.5

0.0 Outdoor air Water supply, Natural disasters Indoor air pollution Soil degradation Deforestation Municipal w aste

pollution (PM) and sanitation and collection lead (pb) hygiene

exposure

Source: Larsen and Strukova (2006)

16. In addition to urban environmental challenges, natural resources are currently under pressure. Peru's economy i s highly dependent on i t s r ich natural resource base. The extraction and export o f i t s natural resources (guano, minerals, agricultural products, hydrocarbons, rubber, fisheries, and wood) have been central at different times in the history o f

I ' Larsen B. and Struckova, E (2006) Peru: Cost of Environmental Damage. A Socio-Economic and Environmental Health Risk Assessment. The methodology applied to this study focused on health-related economic impacts. Thus, the irreversible degradation o f soils, forest cover and biodiversity loss, has a lower estimate in the assessment done on costs o f environmental degradation.

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the country’s economic development and have influenced i t s socio-economic structure. With the exploitation o f natural resources remaining very important to Peru’s economy, threats to i t s natural resource base i s a core development challenge. Some o f Peru’s natural resources, for instance, are under threat from multiple causes such as increasing migration to the eastern Amazon region, illegal logging and mining, hydrocarbon activities, overfishing, and road and infrastructure development which threaten endangered species in the Amazon region. The Interoceanic highway, linking Brazil to the Pacific coast, i s likely to exacerbate some o f the impacts in the Amazon region. The proposed ENVDPL would help the environmental authority become more effective in i t s enforcement activities, and in seeking compliance with mitigating measures to minimize the overall impact o f this and other large infrastructure projects.

17. The GoP has embarked on an extensive reform program aimed at enhancing the country’s competitiveness and stimulating economic growth.I2 At the core o f this program, the GoP acknowledges significant potential linkages between environment, competitiveness and economic growth. These potential linkages are evident in: (i) the opportunity to employ Peru’s richly endowed natural resources as a competitive advantage to meet the demands o f more selective and lucrative markets; (ii) the need for government interventions to address the inability o f the market to mitigate and reverse the negative impacts o f environmental degradation on human health, productivity, and competitiveness; and (iii) the costs required to address environmental degradation and unsustainable use o f natural resources could crowd out other significant social investments, which could undermine long-term macroeconomic stability. Consequently, supporting environmental policy reforms to protect the environment and preserve i t s natural resources over the long-run i s a complement to sound macroeconomic policies that would permit sustained growth.

A. ENHANCING ENVIRONMENTAL INSTITUTIONS AND GOVERNANCE

18. Peru i s consolidating an organizational structure more capable o f responding to the country’s environmental challenges. Prior to the creation o f MINAM, the core responsibilities for environmental management had been shared by more than a dozen agencies, including the National Environmental Council (CONAM), the National Institute o f Natural Resources (INRENA), the General Directorate o f Environmental Health (DIGESA), and sectoral environmental agencies, which diluted overall efficiency and often resulted in a duplication o f functions. Until now, the organizational structure had faced severe limitations that hindered an efficient response to the country’s current and future environmental challenges. Those limitations stemmed mainly from: (a) the lack o f an integrated environmental planning system; (b) the lack o f sufficient technical and management capacity; (c) weak accountability and monitoring and enforcement capabilities; and (d) the lack o f financial and human resources. In 1994, the National Council for the Environment (CONAM) was established as a coordinating body with a mandate to propose, manage and evaluate national environmental policy. Nonetheless, one o f CONAM’s biggest challenges was to resolve overlapping and/or ambiguous environmental mandates between Peru’s public institutions and to promote further coordination. Institutional ambiguity associated with overlapping jurisdiction often resulted in delays in addressing key

As per its commitments to the Second Programmatic Fiscal Management and Competitiveness DPL. I 2

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issues with environmental and social costs. Lack o f coordination among agencies also sent mixed messages to sectors and hindered the adoption o f efficiency improvements. Biodiversity conservation was one o f the few areas that raised considerable funding due to external financing.

19. The lack of planning and management capacity has constituted a fundamental challenge in terms o f implementing environmental regulations and plans. Most entities working on environmental issues have had to cope with inadequate public funding and have depended mainly on resources provided by the donor community. Technical and human resource capacities have also varied from one agency to another. Some entities, including DIGESA, have been affected by the downsizing o f the public sector, while others, like CONAM, have lacked a critical mass o f human resources to analyze and formulate environmental policies in highly complex sectors. Peru’s “sectorized” approach to environmental management has also exacerbated these problems, because agencies had, until now, focused on promoting their specific sectoral interests without necessarily fulfil l ing environmental commitments, applying principles o f sustainability to specific investments, or addressing environmental problems that required a multi-sectoral approach.

20. Furthermore, the absence o f a formal mechanism for environmental priority setting has been associated with inadequate funding for the environmental sector and reductions in the national government’s total environmental expenditure. For instance, between 1999 and 2005, annual environmental expenditure averaged around 0.01 percent o f GDP. Thus, resources allocated for environmental protection represented a small fraction o f the estimated costs o f environmental degradation and are low by international standards, particularly when compared to other countries in the region (e.g., in 2006 CONAM’s operating budget was close to U S $ 3 mil l ion while El Salvador, a country significantly smaller in size and in economic terms, allocated U S $ 5.3 mil l ion to i t s Ministry o f Environment). Peru’s declining budget allocations for the environmental sector have taken place within a favorable economic context and could therefore indicate a relative loss o f importance o f the environmental agenda relative to other social concerns. Ensuring adequate funding for the environmental sector from the national budget (as well as from additional sources) i s essential to developing the necessary capacity to address Peru’s most pressing environmental concerns. MINAM’s approved budget for 2009 i s in the order o f US$11.6 million.

21. The new Ministry of Environment will need to champion reforms in the areas o f (a) accountability; (b) updating o f environmental quality standards; (c) environmental monitoring capacity; (d) environmental licensing; and (e) environmental enforcement. Accountability has been weak due to: (i) the absence o f clear responsibilities and capacities among agencies; (ii) the lack o f an effective voice for the poor, stemming from a lack o f awareness and the absence o f sound mechanisms for public participation; and (iii) a diluted government commitment to remediating environmental problems. Monitoring capacity has been constrained by: (i) a lack o f reliable and updated environmental quality standards (ECAs) and permissible emission levels (LMPs); (ii) missing time series data and baselines on the state o f the environment and natural resources; (iii) the absence o f a system o f results-focused indicators o f environmental quality; (iv) a deficient communications strategy whereby key information i s not shared with decision makers (government agencies and the public in general); and (v) a lack o f resources to ensure an adequate institutional presence in the field. Environmental licensing has been constrained by: (i)

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the uneven capacity in each sector to process environmental impact assessments (EIA) and issue timely environmental licenses; (ii) the weak role o f INRENA and C O N A M in the review process o f EIAs; (iii) EIAs have turned into a bureaucratic obstacle for projects with minimal environmental impacts, while constraining i t s use as a decision-making tool for managing and resolving complex environmental and social issues; and (iv) the weak enforcement o f EIA commitments. Enforcement has been sub-optimal mostly because the enforcement power has ultimately rested with the same ministries that are responsible for promoting sector investments and development, but also because quality standards s t i l l need to be defined in many areas. In addition, there has been a lack o f efforts to link monitoring data with contingency planning and enforcement. The proposed ENVDPL would contribute to strengthening each o f these areas.

Government’s Program

22. Peru has responded to its environmental challenges by developing environmental management instruments. One o f the key features o f the 1990 National Code o f the Environment (NCE), was the introduction o f environmental impact assessments (EIA), which previously did not exist in Peru. The EIA framework has placed the onus on the issuance o f environmental licenses in each sector (until recently, INRENA was responsible for commenting on the EIA only for those projects which could have an impact on protected areas and natural resources). Likewise the legal framework also included mechanisms (such as audits and environmental management and adaptation plans - PAMA) to monitor and penalize ongoing enterprises (particularly mining) which do not meet environmental standards. Thus, while the evolution o f environmental management in Peru has not been smooth, there has been significant progress (particularly in the last few years) in developing command and control environmental management instruments and raising awareness (both within government and with the public) on environmental issues. Progress-has also been made with the development o f the basis for a sound institutional and legal framework to address Peru’s environmental challenges.

23. The GoP i s undertaking several measures to clarify the roles and responsibilities, and strengthen the overall institutional and environmental management framework. For the short and medium term, GoP will carry out the enactment o f the regulation which defines the scope, sectors and priority areas to be monitored and enforced by the Office o f Evaluation and Environmental Enforcement (OEFA). This would reinforce the overall environmental enforcement framework and would clarify OEFA’s role vis 2r vis other sectors, and the nature and range o f areas to be monitored and enforced. Furthermore, the development and implementation o f performance indicators for OEFA’s environmental enforcement would be developed; (ii) the enactment o f regulation clarifying the internal functions o f the Ministry o f Environment and i t s operating role vis-&vis key sectors and Regional Governments, and ultimately the promotion o f technical assistance and exchanges by MINAM to regional governments; and (iii) adoption o f performance indicators and o f an action plan for the establishment o f a results-based financial management system, and a monitoring system to link MINAM’s projects and programs with i t s priorities and with specific quality targets and goals.

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A.1: CREATION OF A NEW MINISTRY OF ENVIRONMENT

24. The recently created Ministry of Environment (MINAM) represents a noteworthy commitment by GoP to environmental management. On December 2007, President Garcia announced the creation o f a Ministry o f Environment. After a four-month consultation process with various stakeholders from the private sector, academia, international organizations, government and NGOs, the Ministry o f Environment was created by an extraordinary executive decree on May 14, 2008. Furthermore, the recent budget allocation for MINAM i s more than double the annual resources that used to be allocated to C O N A M (US$1 1.6 mi l l ion vs. US$Smillion), not counting the resources o f i t s subsidiary autonomous environmental agencies (which add up to more than US$30 mil l ion for 2009). While the budget i s s t i l l low relative to other countries, i t demonstrates a significant improvement over previous years and a commitment to the functionality o f the new environmental institutional framework.

25. The new Ministry is bound to face normal start-up challenges in defining its functions vis ii vis pre-existing institutions, such as developing a priority-based environmental strategy, carrying out monitoring and evaluation o f i t s current programs, and developing a suitable financial management system, among others. In addition, there are a number o f key functions o f MINAM that have yet to be defined, including: (i) the role o f MINAM in the environmental licensing process and for large infrastructure/ investment projects (previously in charge o f sectoral environmental agencies); (ii) the role and scope o f OEFA in environmental enforcement in light o f the existence o f other enforcement agencies such as the Regulatory Agency for Mining and Energy (OSINERGMIN) and the agency in charge o f supervising and enforcing forestry concessions (OSINFOR); (iii) i ts roles and functions vis Lr vis sectoral environmental offices, as well as regional and local governments; and (iv) the core responsibilities which MINAM would absorb from DIGESA.

in the EIAs review process

26. The structure of the Ministry of Environment (which i s under development) consists o f two vice ministries. The Vice-ministry for Environmental Management would be in charge o f environmental policies and regulations, promotion o f environmental education, research and innovation and addressing key issues related to environmental quality (including setting environmental quality standards and maximum permissible emission levels). The Vice-ministry for Strategic Development of Natural Resources would be responsible for biodiversity conservation, climate change, soils and zoning, and promoting sustainability o f natural resources. In addition, MINAM would absorb three decentralized autonomous agencies: (i) National Service o f Meteorology and Hydrology (SENAMHI); (ii) the Peruvian Geophysical Institute (IGP); and (iii) the Peruvian Amazon Research Institute (IIAP). Annex 4 illustrates the proposed structure o f MINAM.

Actions supported by ENVDPL 1

27. Based on the afore-mentioned challenges, the proposed ENVDPL would seek to strengthen the legal and institutional framework for environmental management, through the creation of Peru’s Ministry of Environment and its line agencies. The creation o f MINAM would establish i t s organization and key functions and would serve to define core areas o f environmental management such as: (i) environmental licensing and the review process o f EIAs

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for large projects; (ii) environmental enforcement; (iii) development and compliance with Environmental Quality Standards (ECAs) and Maximum Permissible Emission Levels (LMPs); and (iv) i t s overarching coordinating role with key sectors and regions on environmental issues. Likewise the creation o f MINAM would define i t s role in environmental policy-setting.

Actions to be supported by subsequent operations

28. There i s a need to clarify the roles and responsibilities of key agencies in the environmental licensing process and in the evaluation and approval of EIAs for large and complex projects that could potentially impact the environment. Consequently there i s a commitment to the implementation o f the regulation for applying the Law on the National Environmental Impact Assessment System which would clarify the roles, define environmental risk categories for projects, and promote Strategic Environmental Assessments among others. The regulation would also contribute to defining the key tasks in the licensing procedures to be carried out by MINAM and key agencies. Likewise, the implementation o f a post-licensing monitoring system would be promoted in order to ascertain whether commitments made during the EIA stage have been upheld, and the promotion o f transparency, accountability and public participation in the environmental licensing system i s ensured.

A.2: STRENGTHENING THE INSTITUTIONAL CAPACITY FOR BIODIVERSITY CONSERVATION

29. Peru i s considered a “mega-diverse’’ country with nearly 10 percent o f the world’s species o f flora, 2,000 species o f fish, 1,736 species o f birds, 332 species o f amphibians (ranking third in diversity o f this group), 460 species o f mammals (third in ranking) and 365 species o f reptiles (fifth in ranking). It i s also one o f the most important countries in terms o f the number o f endemic specie^.'^ Additionally, the conservation o f natural resources and protected areas allows Peru to generate global benefits in terms o f use o f biodiversity, watershed management, and carbon sequestration, in addition to the already known benefits associated with biological and genetic resources.

30. The creation of the National System for Natura l Protected Areas (Sistema Nacional de Areas Naturales Protegidas por el Estado, SINANPE) in 1990 was an important milestone for biodiversity conservation. The SINANPE now covers over 19 mi l l ion ha or 14.80 percent o f the national territory. O f the total o f 60 protected areas at the national level, only 30 have an already approved management plan, and in 8 more such plans are being prepared, covering almost 52 percent o f all protected areas.

31. A key development in national protected area (NPA) management has been the creation o f the National Fund for Natura l Protected Areas (PROFONANPE) in 1992 as an autonomous trust fund aimed at providing stable long-term financing for the conservation o f the country’s biological diversity. Since i t s establishment, PROFONANPE has contributed financial and administrative support to the government’s management o f SINANPE, thus supporting INFENA’s efforts In 2008, the total amount or resources allocated to SINANPE has been in the order o f US$14.2 mil l ion o f which: (i) close to US$11.2 mi l l ion came from PROFONANPEI4;

l3 At least 6,288 species are endemic to Peru, of which 5,528 are flora and 760 are fauna. l 4 Since 1998 PROFONANPE’s investments in the SINANPE have been in the order of US$5 1.6 million.

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(ii) US$0.9 mil l ion came from INRENA’s ordinary resources; (iii) US$1.9 mi l l ion came from directly collected resources (Le,, park entry fees); and (iv) US$0.2 mil l ion came from various other sources.

32. A financial gap analysis fo r the SINANPE, carr ied out f o r the 2005-2014 period, concluded that the annual average financing gap (in a low case scenario) amounts to approximately US$24 million, which would make it possible to finance N P A staff salaries, other basic operational costs, and maintenance. The high case scenario o f about US$ 4 1.8 mil l ion would help cover expenses associated with staff salaries, operational costs, strategic plans, natural resource management plans, communication strategies, basic equipment, infrastructure, and maintenance. A sustainable financing strategy for the SINANPE under preparation has already identified potential sources for additional financing which include: (i) private sector engagement in N P A management and financing; (ii) further promotion o f tourism in NPAs; (iii) payment for environmental services; (iv) carbon sequestration through avoided deforestation schemes; and (iv) bio-prospection, among others.

33. In spi te o f these conservation efforts, ongoing illegal logging, agricultural expansion, extractive industries (notably mining and hydrocarbons), over-fishing, highway construction, and the introduction o f invasive species continue to degrade and threaten Peru’s critical ecosystems and globally significant biodiversity. Many critical ecosystems (coastal regions and islands, grasslands, dry-forests, montane forests, etc.) fal l outside the system o f national NPAs and currently lack protection. Different sources identify deforestation as one o f the leading drivers o f biodiversity loss (particularly in the eastern flank o f the Andes) since it deprives living species o f their habitat^.'^ Currently, the intensive promotion o f exploration for mining and hydrocarbons in the highlands and the Peruvian Amazon basin (more than 60 new exploration projects are being launched in both areas), matched with the ongoing illegal logging and mining and lack o f enforcement in the fisheries sector are strong indications o f further threats to Peru’s biodiversity and the sustainability o f i t s ecosystems.

34. While progress has been made in the demarcation o f protected areas, Peru faces the challenge o f institutional weakness for effectively managing and promot ing conservation in 15 percent o f i t s territory. Specifically, there i s a need to guarantee and promote the conservation efforts by all stakeholders (including the private sector), since current legislation does not assign clear responsibilities to different entities with mandates on biological conservation, nor does i t foster interagency coordination. Furthermore, application o f the existing body o f regulations and policies i s weak and there i s limited capacity to properly manage biodiversity at the regional and local levels. In addition, given the recent boom o f mining and hydrocarbon concessions (particularly in the Amazon basin) there i s a strong need to develop specific guidelines for the way extractive industries should be conducted in NPAs and buffer zones.

Government’s Program

35. The GoP has taken on the challenge o f addressing the inst i tut ional weaknesses in natural protected area management and biodiversity conservation by establishing an

l 5 Conservation International, WWF, J. Elgegren (2006), D. Lee (2005, World Bank 2000

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independent agency: the National Service for Protected Areas (SERNANP). SERNANP would incorporate the functions o f the INRENA’s Office for Protected Areas (Intendencia de Areas Naturales Protegidas) under the Ministry o f Agriculture. I t s creation will enhance i t s presence within the institutional framework o f the country since it wil l be an institution with a higher degree o f autonomy, better equipped, and managing a larger budget than i t s predecessor. Under the new scheme, PROFONANPE i s expected to continue funding the operational costs o f SINANPE and complementing SERNANP’s efforts with professional, technical and administrative support.

36. The government i s also undertaking numerous actions aimed at further strengthening the conservation efforts of the country’s protected areas. A key strategy includes the development o f a program for N P A managers, who would substitute the current park rangers. A N P A manager would be trained and have decision powers over hisher NPA, fund raising and fund management capacities.

37. In addition, SERNANP would be implementing in the near future the following actions: (i) enhance greater involvement o f regional governments in financing the management o f PAS in order to increase the conservation area for key ecosystems (and biodiversity hotspots) which are currently unattendedI6; (ii) establish the National Reserve System o f Islands, Islets and Guano Capes, given the current small proportion o f this critical ecosystem under protection and conservation; and (iii) support the elaboration o f technical guidelines that would direct and mainstream environmental concerns in the development o f extractive industries activities in PAS and i t s buffer zones, in order to address the sudden expansion o f mining and hydrocarbon concessions in the Amazon basin.

Actions supported by ENVDPL 1

38. The prior action under the proposed D P L will entail the approval o f the regulation establishing the key functions o f the new National Service o f Natural Protected Areas (SERNANP). This regulation would provide the overarching institutional and policy framework for biodiversity conservation and protected areas management, including the technical guidelines and financing mechanisms. The creation o f SERNANP would further articulate the principles for establishing new conservation areas at the national level, and i t s linkage with regional and local NPAs as well as the rules o f engagement for the private sector.

Actions to be supported by subsequent operations

39. Actions to be implemented by the fol low up DPLs would include: (i) the approval o f the Action Plan for NPAs (Plan Director) that would provide the overarching framework and strategy for the management o f the National System o f PAS and would guide the conservation efforts o f SERNANP and key stakeholders. Furthermore, given the importance o f increasing resources to enhance the overall management o f NPAs, the identified triggers for the ENVDPL 2 include: (i) the approval by MINAM o f the Sustainable Financial Strategy o f Natural Protected Areas (NPAs) System (currently in draft form); and (ii) the identification and approval o f

These efforts would be supported through the implementation of the proposed-GEF-National System for Protected 16

Areas Project (PRONANP), currently in preparation.

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regulatory measures to promote private sector financing and the management o f NPAs. The indicative medium-term actions for ENVDPL 3 would involve the implementation o f the Sustainable Financial Strategy o f Natural Protected Areas System which would help to increase financing to SINANPE, and the implementation o f incentives for private sector financing and the management o f NPAs. I t i s expected that as an outcome for the end o f the program that at least US$2 mil l ion per year would be raised for the SINANPE from various sources. Additional resources would in turn support increasing qualified staff in NPAs with better equipment and facilities to engage in conservation activities.

A.3: ENHANCING POLLUTION MONITORING AND ENFORCEMENT CAPACITY

40. The approval o f environmental quality standards (ECAs) and the establishment o f maximum permissible emission levels (LMPs), particularly for air and water, are critical for ensuring compliance with environmental regulations. Additionally, i t i s important that monitoring systems for air and water quality be consistent in their monitoring protocol. In Peru, there are several air quality monitoring networks, which include DIGESA, the Lima Urban Rapid Bus Transit System (COSAC), the National Service o f Meteorology and Hydrology (SENHAMI) which operate separately and monitor different parameters. The monitoring data from these existing networks would be greatly enhanced by ensuring consistency in the monitoring protocols (what i s being monitored, how i s i t being monitored, frequency o f monitoring, reporting, etc.) across the different networks. Furthermore, reforms relating to transparency and public disclosure o f monitoring data are needed to ensure that the information i s made available to the public and decision makers in real time. The availability o f accurate, consistent, and regularly reported data would consequently allow OEFA to properly undertake enforcement activities, identify mobile and stationary sources o f emissions that exceed established LMPs, and implement sanctions and strategies to improve urban air quality.

41. In addition, given the severity o f certain pollutants in Peruvian cities (Le., PMlo concentrations in Lima, SO2 and Pb concentrations in L a Oroya, etc.), there i s the need to implement pollution contingency plans that would systematically cut the emissions from key sources when parameters greatly exceed permissible levels. Thus, the overall goal o f the DPL series would be to strengthen the framework for environmental quality standards (ECAs) for water and air emission levels and environmental monitoring. Despite the important reductions in child mortality from diarrheal illnesses that Peru has achieved, diarrheal prevalence in both adults and children remains high. Poor households are most severely affected, because the combination o f relatively low income and education and lack o f access to basic services result in a very high risk of diarrheal illness.

Government’s Program

42. The GoP has begun to take concrete steps towards improving pollution monitoring and boosting enforcement capacity through the approval o f environmental standards. This has included the approval o f air quality standards for PM2.5 and maximum permissible levels (LMPs) for industrial activities (such as paper, cement and industrial boilers), as well as for mobile sources (such as motorcycles and heavy duty natural gas vehicles). Both ECAs and LMPs have also been approved for soils. Likewise, initiatives in Peru, such as the Bank’s Water and

15

Sanitation Program (WSP) are working to promote and institutionalize handwashing among low- income families through public-private partnerships. In addition, two specific DPLs led by the Inter-American Development Bank (IDB) are addressing water resource management and water supply and sanitation. What remains critical i s the establishment o f water quality standards for drinking water, related public disclosure measures, and certification o f water quality laboratories. With regard to water quality, GoP will support the periodic monitoring o f potable water quality, with the data published quarterly on the websites o f MINAMDIGESA, and the design and implementation o f an Action Plan to improve laboratory accreditation and dissemination o f water quality monitoring protocols.”

Actions supported by ENVDPL I

43. The prior action under the proposed D P L would support the approval o f the decree establishing the ECAs and LMPs for air and water emissions. Having clear environmental quality standards and emission levels i s an important step towards strengthening air and water quality monitoring and environmental enforcement systems.

Actions to be supported by subsequent operations

44. The proposed triggers for ENVDPL 2 include: (i) the approval o f a protocol to harmonize the integration o f different air quality monitoring networks in metropolitan Lima (SENAMHI, DIGESA, and COSAC); (ii) publication and dissemination o f daily air quality monitoring data (in real-time); and (iii) the development o f air quality contingency plans for Peru’s five most polluted cities. While a single trigger for this section would be desirable, the proposed actions are interrelated and there i s clear commitment by MINAM and DIGESA to ensure their fulfillment. The proposed indicative medium-term action would support the implementation o f contingency plans based on the results from the air quality monitoring networks (e.g., industrial contingency plans that would limit production; banning use o f part o f the vehicle fleet in peek hours/days; sanctioning polluters that exceed emission standards) for the five most polluted cities in Peru (Lima, L a Oroya, Chimbote, Arequipa, and 110). In addition, it i s expected that OEFA be able to audit and fine polluters exceeding emissions standards.

B. MAINSTREAMING PRINCIPLES OF SUSTAINABLE DEVELOPMENT IN KEY SECTORS

B.l MINING

45. Peru i s the world’s largest producer o f silver, third largest producer o f zinc, fourth largest producer o f lead, third largest copper producer, and the fifth largest producer o f gold. The mining industry i s an important pillar o f the economy, accounting for 61.7 percent o f all Peru’s exports and 6 percent o f Gross Domestic Product in 2007.18 However, the ongoing contamination from past mining and smelting operations (mining environmental legacies,

These actions would be supported through a number o f initiatives, including a TAL (in preparation) for Water

Sociedad Nacional de Mineria, Petroleo y Energia del Peru. Reporte Estadistico Minero-Energetic0 Segundo Resource Management.

Semestre 2007. www.snmpe.org.pe

18

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MELs), scattered over vast tracts o f the Peruvian territory, pose a serious health problem and are a major social irritant in local communities. Poor tailings containment and inadequate methods for disposing the large volumes o f hazardous materials and pollutants involved in mining operations have already led to widespread seepage, acid drainage, and water pollution, as well as other negative impacts on biodiversity and ecosystems. MELs are known to cause and/or perpetrate certain social and economic impacts including: (i) the loss or damage to productive land; (ii) the loss or degradation o f groundwater; (iii) the pollution o f surface water through acidity, sediments or salts; (iv) degraded livelihoods that are dependent on aquatic ecosystems which have been affected by leached pollution and contaminated sediments; (v) changes in river regimes; (vi) air pollution from particulate matter and/or toxic gases; (vii) safety risks o f falls into abandoned shafts and pits; (viii) erosion and landslides; (ix) costs o f treating health problems; and (x) displacement.

46. Although mineral resources have been extracted for centuries, it was only in the early 1990s that the GoP took the first steps to address the environmental and social impacts o f the mining sector. In this context, effluents and materials generated by mining activities were not adequately disposed o f and generated significant impacts on ecosystems and public health. The negative effects o f mining are st i l l a matter o f concern, as indicated by well- documented evidence. For example, a study carried out by the Ministry o f Health in several locations in Trujillo found that, because o f water pollution from mining and industrial activities, 23.5 percent o f the sampled population had cadmium blood levels that exceeded international standards (DIGESA, 2001). Likewise, the growth o f the mining sector in the 20fh century led to the creation o f smelters at 110 and at La Oroya. Over time, these smelters have contributed to severe air and water pollution. A 2005 analysis conducted in L a Oroya by St. Louis University’s School o f Public Health confirmed that lead pollution in L a Oroya (a town o f 30,000 inhabitants in central Peru where Doe Run’s smelter i s located) i s seriously affecting the health o f i t s population.” The study revealed that about 97 percent o f children from six months to six years o f age have lead concentrations in the blood (BLL) o f above 10 ug/dl (the permissible level established by the World Health Organization). Additionally, about 72 percent o f the children have BLL o f 20-44 ug/dl and 9 percent in the range o f 45-69 ug/dl (requiring urgent medical attention).

47. I n addition, most o f the conditions caused by environmental legacies represent a considerable cost to the government which, according to Law No. 28271, i s responsible for cleaning up and rehabilitating abandoned (orphan) mining sites and their legacies. The public has gradually become aware o f the risks and potential impacts o f legacies and i s increasingly demanding action. Furthermore, mining and smelting environmental legacies are now a key factor in growing community opposition to current and future mining activities, and have been recognized as a potential source o f conflict by the MEM. I t i s clear that unattended mining legacies (whether orphan sites, or those with identifiable concessions), which by law are obliged to ensure i t s proper remediation, affect the overall perception o f the mining industry.

48. Although MELs impacts have been well known, it was not until the second half of the 1990’s that the government attempted to categorize, prioritize, appraise and map them

St. Louis University. Environmental Contamination in L a Oroya, Peru, and i ts Health Effects in Community 19

Residents. St. Louis University - School of Public Health. 2005.

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under the Environmental Legacies Elimination Project (Pruyecto de Eliminacidn de Pasivos Ambientales-EPA). In 2003, the EPA project resulted in a preliminary inventory o f 610 MELs and reported that nearly 72 percent o f them involve legitimate mining rights (Le., an identifiable concessiodowner), whereas 28 percent have neither right nor identifiable owners (orphan). According to a study carried out by the National Environmental Fund (FONAM) in 2006, the inventory comprised 850 MELs, but was considered to be invalid by experts due to a questionable MEL assessment methodology.

49. Given the importance o f the mining sector in Peru, the GoP has committed resources to MEL remediation. For instance, F O N A M supports MEM’s efforts in MELs remediation with a budget o f 22 mi l l ion soles. The state company Activos Mineros was created to support GoP’s efforts in environmental remediation o f state MELs. In recent years, additional efforts have been undertaken to support MELs identification and remediation such as the PERCAN (Peru-Canada Cooperation Program), which has developed a methodology to assess priority MELs in key watersheds, thus contributing to the updating o f a MEL inventory built on environmental and health impacts. In addition, also recognized i s the need to develop a systematized database o f MELs to help identify priority MELs, hence improving the actions towards remediation.

50. The two core instruments for environmental management in the mining sector include: (i) the Environmental Impact Assessment (EIA) and, (ii) the Environmental Management and Adaptation Plans (PAMA-Programas de Adecuacidn y Maneju Ambiental). The former i s used to assess the potential impact o f a new mining project, whereas the latter has been used to ensure environmental compliance by active mining operations. The EIA i s a mandatory management planning tool for the evaluation o f the potential impact to the environment and the well-being o f communities, local cultures, society and local economic activities that would result from the different phases o f a proposed mining activity. However, the procedures for EIAs in Peru have a number o f shortcomings which dilute their overall effectiveness as an environmental management tool. Prior review o f terms o f reference for EIAs, as part o f the scoping process, for instance, i s not a requirement for the EIAs o f medium or large operations. Likewise the manuals to prepare EIAs are generic (can be used for a small aggregate mine or for a large copper operation) and are not legally binding. Therefore, the overall preparation o f an EIA can be weak and inefficient. In addition, there are a number o f shortcomings in the preparation, review and approval process that need to be addressed in order to improve the overall quality o f the EIAs process and strengthen the overall licensing framework.

5 1. Furthermore, the EIA process requires a systematic and complementary approach that includes the social dimension as part o f the environmental management system. However, the law that created the National Environmental Impact Evaluation System fails to refer explicitly to social aspects or ideas for regulation or impact prevention. Consequently, the indirect and accumulated impacts on the socio-economic situation, demographics, public health, social differentiation and structure, lifestyles and culture have been barely discussed. More recently, however, the decree-law o f “Previous Commitment” (Compromiso Previo) has established further requirements to address social issues in EIA, and has also placed higher standards for the process o f consultation with the local communities. Social dimensions have

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recently become widely recognized as a crucial element o f the impact assessment exercise in Peru.

52. The social dimension in Peru’s mining sector i s vast and complex. Current challenges include: (i) the inadequate inclusion o f social information in the EIA; (ii) the way consultation processes are being carried out; (iii) the industry’s approach to the compensation o f affected communities; (iv) the lack o f adequate communication between stakeholders; (v) the way resettlement plans are being implemented; and (vi) the social monitoring o f the sector, and above all vii) the role and presence o f Government within the sector. Following one o f the recommendations in the Analytical Advisory Activity (AAA) on the Environmental and Social Dimensions o f the Mining Sector, the GoP created the Office o f Social Affairs in MEM. The objectives and functioning o f this office have evolved since i t s creation and it i s currently increasing i t s positioning within the ministry, including not only the mining sector, but the hydrocarbon and energy sectors as well.

Government’s Program

53. T o strengthen the environmental governance o f the mining sector, the government has undertaken measures to address a number o f shortcomings in the preparation, review and approval process to improve the overall quality o f the EIAs process and strengthen the overall licensing framework. These include the approval o f a norm that would: (i) redesign the manuals for preparing EIAs for mining operations, clarifying and distinguishing specific requirements for different types and sizes o f mining enterprise; (ii) make the manual for preparing EIAs for mining operations legally binding; (iii) require a prior review for the TORS o f EIA for large scale/complex mining operations; and (iv) support the adoption o f a digital licensing system, making the environmental licensing process more transparent and efficient.

54. In addition, specific actions regarding MELs would include the approval o f the methodology developed with the support o f PERCAN to update MELs inventory and assess priority sites per watershed. The methodology would use health, environmental, economic, and aggregate impact criteria. In order to address social issues, the approval o f the management plan and action plan o f the Office o f Social Affairs i s another critical step to be taken, as they will contribute to the attainment o f sustainable local or regional development plans for affected communities.

Actions supported by ENVDPL 1

55 . The two prior actions for the mining sector would focus on: (i) approval o f Legislative Decree (No. 1042), which modifies the MEL’s Law (No. 28271) and puts the onus for remediation on private holders o f MELs even after a mining title/concession has expired. An amendment to the MELs law also prohibits new mining concessions to be granted to companies that have not remediated their MELs. Until now a significant percentage o f “orphan” MELs are not being addressed due to legal loopholes like this one, and consequently this measure demonstrates a robust commitment by GoP to minimize future MELs by private sector companies; and (ii) the approval o f the regulation defining public and community participation during the concession, exploration, exploitation, execution and closing o f the mining process. Environmental monitoring carried out by local communities i s one o f the most effective ways to

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boost ownership and reduce mistrust among the stakeholders. This measure would also contribute to strengthening accountability and in areas with a limited government presence.

Actions to be supported by subsequent operations

56. The triggers in subsequent operations would support: (i) the development and implementation o f an updated and systematized MELs inventory; (ii) the development o f a national strategy for remediation o f priority MELs (using technical, environmental economic and public health criteria)*’; and (iii) the continued promotion o f environmental participatory monitoring for at least 40 mining sites. The indicative midterm actions would support the development o f technical guidelines and indicators for adequate MELs remediation and the approval o f priority projects for MELs remediation (following the national strategy and specific guidelines for sound MEL remediation). Likewise, i t i s expected that MEM would monitor and register the level o f local participation in environmental issues linked to the mining activity cycle. The program will not support any physical investments in MEL remediation.

B.2 URBAN TRANSPORT

57. Urban air pollution is one o f the most widespread and serious problems in Peru’s cities and i s responsible for an estimated 3,900 premature deaths per year.2’ The problem o f air pollution i s most critical in the country’s industrial corridors, such as Lima-Callao, which bears almost 75 percent o f the estimated cost o f associated health impacts. Pollutant concentrations in parts o f L ima are higher than in other Latin American cities with severe air pollution, such as Mexico City and Santiago, and are also considerably higher than in cities outside the region, including Los Angeles, Tokyo and Rome, which have successfully reduced their ambient concentrations o f air pollutants, despite having larger industrial and transportation sectors (see Figure 2).

Figure 2: Yearly Concentrations o f PMlO (pg/m3) in Selected Cities

~ ~ - ~ - - _ ^ _ - _ _ ~ _______ - 1001 j

i 80

60

40

20

0

Source: Larsen and Strukova (2006)

I t i s expected that the process for the remediation of priority MELs may begin after an updated MEL inventory that identifies the most critical and priority MELs, and through a national strategy that guides GoP in the process o f sound remediation. The updated inventory would allow MEM to rank and allocate resources and efforts to the remediation o f public and orphan MELs that pose the greatest risks to health, ecosystems.

In addition to air pollution in urban areas, indoor air pollution i s a serious health issue in poor rural communities in Peru predominantly affecting women and children, who spend more time in closed areas with high concentrations o f pollutants associated with the use of solid fuels.

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2 1

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58. I n 2001, regulations for National Environmental Standards for Air Quality were issued covering sulfur dioxide (SOz), particulate matter (PMlo), carbon monoxide (CO), nitrogen dioxide (NO*) and ozone (03). To establish these standards, Technical Committees (Grupos de Estudio Tkcnico Ambiental de la Calidad del Aire - GESTAs) were created. GESTAs were responsible for formulating action plans to improve air quality in Arequipa, Chiclayo, Chimbote, Cusco, Huancayo, Iquitos, La Oroya, Lima-Callao, Pisco, Piura, Trujillo and Cerro de Pasco. Until recently each sector (transport, energy, etc.) prepared proposed Maximum Permissible Levels (LMPs) and environmental quality standards (ECA), which were then submitted for inter-sectoral review and final approval by the then environmental authority CONAM. The Ministry o f Environment i s now in charge o f reviewing, endorsing and sending the LMPs and ECAs for final approval by the executive branch. Compliance with LMPs and ECAs has been the responsibility o f each sector, but i s expected to be enforced by the OEFA once i t becomes operational.

Government’s Program

59. The Ministry o f Energy and Mines (MEM) has determined that the sulfur content o f diesel fuel in Peru should be reduced from today’s 5,000-10,000 parts per million (ppm equivalent to 0.5- 1 percent) to 50 ppm (equivalent to 0.005 percent) by the beginning o f 2010. Given the serious health implications from “dirty” diesel combustion and costs associated with the new clean diesel vehicles imported into Peru MEM passed a decree in March 2006, and thereafter Congress approved Law 28694 to regulate the sulfur content o f diesel fuel. The law currently allows for more than 5,000 ppm o f sulfur in diesel fuel, but mandates that diesel 1 (used for industrial purposes) and diesel 2 (used for auto engines)22 which in 2007 sulfur levels be reduced to 50 ppm by 2010. Both Petroperu and Repsol have begun the process o f retrofitting their refineries to produce “clean” diesel. However, i t i s unlikely that Petroperu will meet the 20 10 deadline given the lengthy procurement process involved in adjusting i t s refineries. Despite this handicap, it would be desirable if cleaner diesel (less than 50ppm) were made available in a large percentage o f gas stations in Peru’s large cities by 2010. Thus, it i s important for GoP to have a strategy in place in the eventuality that both refineries (La Pampilla and Talara) do not meet this deadline.

60. There have been recent efforts to launch an Inspection and Maintenance System (IM) in Lima-Callao for the vehicle fleet. The process has been hindered by legal disputes involving concession and operating rights between the municipality o f Lima, the municipality o f Callao, the Ministry o f Transport and the private operator that was awarded the concession. Parallel discussions on alternatives to harmonize standards between Lima’s metropolitan region and other regions are also underway. In August 2008, the Ministry o f Transport and Communications (MTC) published regulation (No 025) establishing the rules, control and responsibilities for the IM program for Lima. This regulation also establishes the working arrangements with Lidercon (the company that would implement the IM system). M T C has also specified that vehicles tested in plants outside o f L ima can circulate in the capital, thus giving validity to inspection processes elsewhere in the country. Even though a number o f details still need to be defined through regulations, M T C expects an increase in the installation o f new IM

22 Diesel 2 had amounted to an estimated 26.4% o f the total national refinery production.

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plants in the country. As proven in many cities worldwide (including Mexico City and Santiago), an IM system could contribute to substantial air quality improvements.

61. As world oil prices have increased, Peru has been gradually converting on a wide scale to low-cost natural gas, a fossil fuel abundant in the country, to reduce the current hydrocarbon deficit and the country’s dependence on costly diesel and liquefied petroleum gas imports. Within this scheme, the conversion o f gasoline vehicles to natural gas has been quite successful.23 By the end o f June 2008, more than 38,000 light duty vehicles in Peru’s capital, Lima, have converted their engines to natural gas and the Peruvian Natural Gas Vehicle Association predicts that 20,000 more will make the switch.by the end o f the year.24 In June 2008, there were around 42 natural gas service stations in Lima, and it i s expected that by the end o f the year there will be approximately 55 o f these stations. The municipality i s also preparing to introduce a fleet o f natural gas-powered buses for mass transit.2s Furthermore, the government has also fixed the price o f natural gas at 4.30 soles, or about $1.50, per gallon, and i s allocating credits to facilitate vehicle conversion.26 According to MEM, the demand for natural gas has reached levels projected for 201 1 , so there has been coordination with the suppliers to increase the current f low o f natural gas from 290 mcfm (million cubic feet per minute) to 380 mcfm by August 2009, with an estimated increase by the end o f 2009 o f 450 mcfm.

62. Complementing the inspection and maintenance system, and natural gas conversion, the government o f Peru i s also helping to improve the quality o f the vehicular fleet by scrapping older vehicles. The creation o f a Temporary Regime for the Renovation o f the Automotive Fleet aims to scrap diesel vehicles older than 10 years, as these more polluting vehicles will be gradually replaced with newer natural gas vehicles. For this, the MEM i s in the process o f evaluating the introduction o f economic incentives equivalent to the market price of diesel vehicles more than 10 years old.

Actions supported by ENVDPL 1

63. Within the framework o f the ENVDPL 1, prior actions that would contribute to improvement o f urban air quality include: (i) the promotion o f vehicle conversion from gasoline to compressed natural gas (CNG) and establishment o f stations supplying natural gas. This successful program, which has already converted over 3 8,000 vehicles to CNG, includes verification mechanisms. CNG appears more favorable for new vehicles such as taxis, light duty vehicles, large buses, and other heavy-duty vehicles; and (ii) establishing reductions o f sulfur in diesel to 50ppm by 2010. As discussed above, improving diesel quality has the potential to directly influence the improvement o f air quality and associated health impacts o f the population.

Actions to be supported by subsequent operations

64. With local refineries probably unable to meet the 2010 deadline for producing clean diesel (of 50 ppm sulfur content), a contingency plan and strategy will be developed and

23 Vehicles conversions to natural gas with more sophisticated equipment (as i s mostly promoted in Lima) can reduce emissions and meet emissions standards. 24 http://www.peruviantimes.com/breath-of-fesh-air-autos-in-peruvian-capital-making-switch-to-natural-gas/ 25 ibid 2b ibid

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supported under ENVDPL 2. In this line, additional measures to be supported under ENVDPL 3 include enacting a regulation which would establish that at least thirty percent o f gas stations in the largest urban centers supply clean diesel with low sulfur content (less than 50ppm) and possibly introducing a temporary measure to allow a maximum sulfur content o f 2000 ppm in diesel outside urban centers. Other measures promoted under the program would include the continuation o f the conversion o f vehicles to natural gas program with a view to increasing the CNG fleet to 60,000 by 2009 (ENVDPL 2) and to 80,000 by 2010 (ENVDPL 3) with at least 90 gas stations supplying natural gas to the vehicle fleet. Subsequent operations would also support the implementation o f the IM system according to a timetable based on license plate numbers in Lima (ENVDPL 2), followed by an expansion o f the IM program in the Lima metropolitan region and in three additional cities (Arequipa, Chiclayo and Trujillo) given their respective growing vehicle fleets.

B.3 F~SHERIES

65. Peru’s fishing grounds are the richest in the world and anchoveta remains the world’s largest single stock fishery. Over 300 million metric tons (MT) o f fish have been harvested from Peruvian waters during the almost 50 years o f commercial fishing. Since 1960, the average yearly catch has been 6.56 mil l ion MT. During the seven years since the last El NiAo in 1998, 1999 - 2006, the average yearly catch has been 8.65 mi l l ion MT. Anchoveta alone constituted over 75 percent o f total harvest since 1960, and currently represent approximately 10 percent o f the global annual marine catch. Peru accounts for one third o f global fishmeal production and for one quarter o f fish oi l production. The fisheries sector i s a significant contributor to the Peruvian economy, generating around 6 percent o f employment, and 1.1 percent o f GDP (2006). Even though the value has increased since 2000, the exports o f fishery products have decreased as a proportion o f total Peruvian exports, from 16.3 per cent in 2000 to 7.4 per cent in 2006. This reflects the overall boom in Peruvian exports in the last decade. (Peru CEA 2006, IFF0 and WTO Trade Policy Review).

66. The sustainability o f Peru’s fisheries i s critically threatened by the extreme resource volatility caused by the periodic occurrence o f El Niiio, which, in combination with huge overcapacity and inadequate management, leads to periodic collapses o f the fishery stock and severe environmental impacts. The periodic overexploitation o f fisheries o f various species, including anchoveta and hake, has been observed. This i s posing extraordinary challenges for the governance o f the fisheries sector. Economic inefficiencies are now strongly impacting the sector, with vessels fishing for anchoveta currently active for less than two months during the year (see Figure 3). Significant benefits to society that could accrue from the sector are now lost due to these economic inefficiencies, which result in a loss o f profitability for the operators in the sector, a consequent reduction in the tax base for the government, and the loss o f resource rents for society. The overcapacity in the anchoveta fisheries further imposes risks on other fishing grounds and causes negative environmental externalities that affect diverse sectors o f society.

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Figure 3: Effective vessel storage capacity and fishing days, 1990 - 2007

I

Storage cap. + Fishing days

Source: C. Paredes and M. Gutierrez. L a Industria Anchovetera Peruana: Costos y Beneficios. June 2008.

67. There are numerous environmental and other challenges in the fisheries sector and a range o f additional issues need to be tackled to ensure the sustainability of Peru’s fisheries. Commercial anchoveta production i s responsible for significant environmental and human health impacts related to water and air pollution. Discharge o f effluents from fishmeal processing and from fishing vessels i s the major source o f pollution. The studies that underpin the preparation o f this DPL identify the following main challenges relating to: (i) ensuring the environmental sustainability o f fish resources; (ii) improving and strengthening the governance and management o f the sector; (iii) reducing the over-capacity o f the fishing sector, particularly in anchoveta fisheries; (iv) improving the social and equity issues in the industry and mitigating the social costs o f restructuring; and (v) increasing the added value o f the sector, including through the development o f a domestic market for direct consumption o f anchoveta, which represents a potential protein source for segments o f society threatened by malnutrition.

68. T h e anchoveta fleet consists o f about 1247 vessels, hal f o f which are made o f steel and hal f are wooden vessels. The steel f leet has a storage capacity ranging between 65 and over 421 cubic meters per vessel, while the wooden fleet has only between 31.5 and 110 cubic meters per vessel. The steel fleet shows a high degree o f concentration, with 306 vessels owned by the largest seven companies (representing 70 percent o f fleet and plant capacity), 37 vessels owned by 4 medium size companies (representing 7 percent o f fleet and plant capacity), and 280 vessels owned by small companies with no integration to mill and o i l plants. The steel f leet i s more efficient, more formalized and better integrated with the mill and o i l plants. The wooden fleet (also referred to as the Viking fleet) lacks integration wi th the fishmeal and o i l plants and i s considered less efficient.

69. Social impacts in the fisheries sector. Employment in the anchoveta industry i s estimated at around 11,000 workers for the steel fleet and around 9,000 workers for the wooden

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fleet. I t i s estimated that around 16 crew members work o n average in each o f these vessels.27 The workers o f the wooden fleet do not benefit f rom the labor rights the steel fleet has. In addition, the workers o f the wooden fleet are the most vulnerable to sector restructuring.28

70. Based on recent analyses, the needed capacity reduction to achieve higher efficiency and sustainability would be o f approximately 50 percent of the fleet. Aiming I at this sustainability goal, government officials consider that the reform that started with the vessel quota system established by Legislative Decree No. 1084 will reduce the fleet by around 30 percent. With this latter estimate, the impact on the fleet workforce could be approximately 7,000 workers having to leave commercial fishing and moving to other activities within the sector, transferring to other sectors, or taking early retirement. Currently, as a consequence o f the regulation o f total allowable catch, these workers already face an extremely short fishing season o f only about 50 days per year in the central and northern coast and about 100 days in the southern coast. Further analysis o f the social implications o f the reforms in the fisheries sector can be found in Section V1.A and Annex 6 below.

Government’s Program

71. The government of Peru has begun to undertake numerous actions to address the overcapacity of the fishing fleet, as well as the related social issues in the fisheries sector. The GoP has already approved a regulation relating to a freeze in the size o f the fishing fleet; including the wooden fleet. Within the larger government program are actions that include: (i) expanding vessel quotas for other fish resources, with particular focus o n the pelagic fleet (fishing for mackerel and jack mackerel); (ii) developing a “communications” strategy for the PRODUCE to support implementation o f key sector reforms; (iii) promoting the direct human consumption o f anchoveta29; (iv) assessing the advisability o f supporting a reduction o f the fleet’s over-capacity through a “decommissioning scheme”30; (v) continuing the enforcement o f the freeze in the size o f the fishing fleet; (vi) inspecting the physical capacity o f each vessels storage capacity o f the existing anchoveta fleet and ultimately o f the whole fishing fleet; and (vii) undertaking a study to assess whether the social actions under the quotas law are effective in mitigating the social impacts o f workers being displaced.

Actions supported by ENVDPL 1

72. The proposed ENVDPL will seek to support an overall reduction of the overcapacity of anchoveta fleet and the adoption of measures to mitigate the associated social impacts o f fleet reduction. Therefore, it would support activities related to the regulation o f a rational

2008 Bernales, Antonio. “Estudio de linea base sobre la repercusion social de la reforma de la flota pesquera de

The Poverty and Social Impact Section below, as well as Annex 6, further analyze the potential impacts to the

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anchoveta en e l Peru’. Futuro Sostenible.

workers within the fisheries sector. 29 Anchoveta represents a valuable potential protein source, particularly for the segments o f the population threatened by malnutrition. Development o f a bigger domestic market for direct consumption o f anchoveta would therefore have nutritional benefits and increase the added value o f the sector. 30 The decommissioning scheme would provide the framework whereby government would purchases vessels, permits, licenses and other entitlements from participants in the fishing sector, particularly from companies (or private owners) which have grounded vessels due to inefficiencies, thereby helping to curb overcapacity.

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exploitation o f anchoveta and avoidance o f overfishing, which has clearly been one o f the key factors contributing to the periodic collapses o f stock. The proposed prior action under the current DPL includes the recent adoption o f the Legislative Decree No. 1084 regulating anchoveta fishing quotas by vessel, which includes social protection measures for displaced workers. Both actions aim at improving the environmental and social governance o f the fisheries sector. These measures are aligned with the government’s progress in sectoral reforms. Establishing vessels quotas in the anchoveta fleet would strengthen the reform process aimed at reducing overcapacity.

73. I n addition, through Legislative Decree No. 1084, the DPL will support the strengthening o f the governance and social framework of the fisheries sector in order to remediate the social impact o f fleet capacity reduction, in that it will provide mechanisms to mitigate the downsizing o f the sector. The decree prohibits firing crew members and allows only for voluntary retirements and rotation o f workers. The same law also creates a social compensation fund (FONCOPES) that would impose obligatory contributions by ship owners in an amount proportional to the individual quotas and the number o f workers per company.31 This fund will provide financing to support early retirement for workers between 50 and 55 years o f age, economic incentives for shifting to new economic activities for workers leaving fishing voluntarily, and a program for the creation o f micro enterprises, including training and technical assistance. The fund will be financed exclusively by the private sector with’no financial costs to the government. In addition, the law will impose a levy o f US$ 1.95 per metric ton o f landed anchoveta for a maximum o f ten years to support the financing o f the pension system. I t i s expected that these contributions will create a fund o f approximately US$ 100 million.

Actions to be supported by subsequent operations

74. The proposed trigger would support the adoption o f the regulation which would include the required technical definitions for i t s implementation. Likewise, i t would promote the implementation o f funding for .FONCOPES and the pension fund. Furthermore, the program would support the distribution o f quotas and enforcement o f the quota system, as well as ensuring continuity in the application o f the pension fund.

IV. BANK SUPPORT TO THE GOVERNMENT’S PROGRAM

A. LINK TO THE COUNTRY PARTNERSHIP STRATEGY

75. On December 19th, 2006, the Board reviewed a new five year Country Partnership Strategy (CPS) with Peru for FY07-FYI1 (Report PE-37913, December 19th 2006). The CPS lays out a strategy to support the GoP to achieve i t s goals o f sustained annual growth over 5 percent each year in 2007-201 1 ; and poverty reduction o f between 1.5 and 1.8 points per year. Under the CPS the Bank’s program o f activities to support the GoP in reaching these objectives i s organized around three pillars and six clusters, as follows:

3 ’ These amounts wil l be determined once the government issues the regulation for Decree-law 1048 which wil l make FONCOPES operational.

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Pillar (i) Economic Growth 1. Maintaining macro stability and reducing vulnerabilities; 2. Accelerating growth and widening its base; 3. Making growth environmentally sustainable;

Pillar (ii) Social Development 4. Meeting Basic Needs; 5. Promoting a new social contract in education, health and nutrition;

Pillar (iii) Modernization o f the State 6. Modernizing state institutions.

76. Under cluster 3, the CPS recognizes the need to raise the profile o f environmental issues in Peru, and includes a potential set o f DPLs that will enhance public environmental investments and strengthen the institutional framework. These environmental DPLs contribute directly to making growth environmentally sustainable (within pillar i) by supporting the environmental management o f biodiversity conservation, enhancing control over air and water pollution, improving the sustainability o f extractive industries (such as mining and hydrocarbons) and the sustainable management o f fisheries.

77. The CPS emphasizes that while environmental damages in Peru have an annual economic cost o f 3.9 percent o f GDP and primarily affect the poor, both public and private environmental expenditures amount to about a quarter o f a percent o f GDP, low by international standards. This lack o f financial support aggravates the weak institutional capacity for environmental management. Responding to environmental challenges will require establishing or strengthening specialized agencies with clear responsibilities and adequate resources to address priorities.

78. Under i t s Indicative Bank Lending Program, the CPS lays out two Environmental DPLs, in FY08 and FY10, respectively. However, considering that this Program i s a priority for Peru, MEF requested that the Bank increase the ENV DPL series to a 3-phase programmatic operation. The proposed set o f DPLs contributes to promoting dialogue around environmental issues and helps moving the environmental agenda higher up in the country’s priorities. The proposed program also contributes to achieving CPS by: (i) supporting the increase o f financing for protected areas, which enhances and rationalizes i t s management and area under conservation; (ii) supporting the anchoveta vessel quota system, which rationalizes the fisheries sector and addresses overcapacity; and, (iii) supporting activities that will improve fuel quality and vehicle performance contributing to improvements in air quality and i t s associated health impacts.

B. COLLABORATION WITH IMF AND OTHER DONORS

79. The Bank has coordinated with the following external assistance agencies during project preparation: the Andean Development Corporation (CAF); the Inter-American Development

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32 CPS lays out six Clusters describing estimative outcomes for making Growth Environmentally Sustainable by the end o f the CPS period for: (a) biodiversity; (b) fisheries; (c) deforestation rate; and (d) health impacts from air pollution.

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Bank (IDB); and the United Nations Development Program (UNDP). In particular the Bank has closely coordinated with the IDB in sharing documentation and through jo int missions. In this respect, the proposed operation i s designed to complement efforts led by three IDB DPL operations on water resources management; water supply and sanitation; and sustainable energy matrix (all currently under preparation). Based on World Bank -1DB discussions with the government, it was agreed that the IDB would focus on issues pertaining water quality, supply and sanitation, and on the promotion o f renewable energies. Likewise, in discussions with government, it was agreed that C A F would focus on supporting the forestry sector through their loan on Competitive and Sustainable Forestry Development. The World Bank and the IMF have been engaged in a continuous dialogue on the World Bank’s country partnership implementation, and IMF has been consulted in the progress report to the CPS. The dialogue with IMF has concentrated on the macroeconomic background, setting o f triggers, risks, and estimation o f fiscal implications o f Bank’s operations and the current financial crisis and its potential impact to Peru. In addition, the IMF has provided technical assistance in the areas o f tax policy and tax administration reform, capital market development and government systems modernization.

C. RELATIONSHIP TO OTHER BANK OPERATIONS

80. Activities under the Peru Environmental DPL supporting reforms in mining, biodiversity conservation, air quality and other sectors are fully consistent with several World Bank Group projects. These include projects in urban transport, protected areas management, and extractive industries. Details o f these operations can be found in Annex 5. Activities supported by this D P L will reinforce the sustainability o f project results by promoting an adequate framework that includes required sector policy reforms.

D. LESSONS LEARNED

8 1. The proposed ENVDPL is the f i rs t DPL related to mainstreaming the environment in key sectors in Peru, but builds upon lessons from about five previous operations o f i t s type in the Latin American and Caribbean Region. These include the (i) Brazil First Programmatic Reform Loan for Environmental Sustainability (ii) Mexico Programmatic Environmental Structural Adjustment Loan I (EnvSAL I) and the follow-up Second Programmatic Environmental D P L (ENVDPL 2); (iii) Colombia Programmatic Development Policy Loan (SusDevDPL) and the follow-up Second Programmatic D P L (SusDevDPL 11). Some o f the key lessons from these environmental DPLs have included:

82. The importance o f a building a reform program on extensive analytical work, which includes technical, institutional, and political economy analyses. In particular, identification o f priorities based on both analytical work and perceptions; and good understanding o f the institutional framework, including both informal and formal rules.

Results and findings from a detailed 2005 Country Environmental Analysis serves as an underlying basis for the suggested actions in the proposed ENVDPL program for Peru. The CEA included assessments of institutional needs and shortcomings of the national environmental system in Peru.

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83. The importance o f focusing on a select number of central actions, impacts and results in the design of the Program. Previous operations such as the EnvSAL I had a large number o f prior actions that covered a broad range o f development areas. Consequently, implementation and supervision covered a wide range o f topics, presenting challenges in terms o f sufficient human and budgetary resources and constant dialogue between the Bank and G O M throughout the period o f implementation.

The proposed operation’s design reflects this lesson, and includes a streamlined number ofprior actions (limited to a), which addresses the country’s sectoral priorit ies; and have a resulting development impact.

84. The importance o f establishing specific, measurable, and relevant outcome indicators. A relevant set o f monitorable and meaningful outcome indicators should be established at the outset o f a program, along with clearly-defined baseline and target values to monitor progress and evaluate outcomes. Some o f the indicators established for previous environment DPL programs have been overly complex and ambitious.

The operation’s design also reflects this lesson, by defining the baseline value of a core set of outcome indicators as well as target values to measure progress.

85. Several o f these lessons are also echoed in the Bank’s long history o f programmatic lending in support o f reform in the social sectors in Peru, such as Programmatic Social Reform Loan (PSRL) IV operation (2004), and the Results and Accountability (REACT) DPL (2007). For example, the most important lesson learned from the PSRL IV was the need for a strong focus on a limited number o f outcomes together with a clear set o f quantifiable program results with their associated baselines. The proposed ENVDPL operation in Peru incorporates this lesson in i t s design.

E. ANALYTICAL UNDERPINNINGS

86. The Peru Environment DPL builds on two recently completed pieces o f analytical work: (i) The Environmental and Social Dimensions o f the Mining Sector in Peru; and (ii) an extensive Country Environmental Analysis (CEA). Each o f these studies has provided critical inputs to the government’s strategy relating to key environmental issues in Peru.

87. The recent CEA “Environmental Sustainability: A Key to Poverty Reduction in Peru” identifies a number o f cost-effective policy interventions that could be adopted in the short and medium term to support the GoP’s attempts to address problems o f inadequate water supply, sanitation and hygiene; urban air pollution; natural disasters; lead exposure; indoor air pollution etc. Many o f the recommendations from the CEA were included in the government’s planned reform program for the environment sector, and find their way into the policy actions matrix (as reflected in Table 4).

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Table 4. ENV DPL Program’s Support o f Policy Options of the CEA

Institutional reform

Reduce health r i s k s associated with ambient air pollution

Reduce overcapacity in fishery sector

Establish Environmental Health Agency within the Ministry o f Health to regulate environmental quality parameters that affect health, including (i) emission o f PM2.5, lead and toxic pollutants; (ii) fuel quality to tackle air quality; and (iii) water-quality parameters such as bacteriological quality, Persistent Organic Pollutants (POPS), Volatile Organic Compounds (VOCs) and heavy metals.

Issue regulations for the Environmental Impact Assessment (EIA) Law.

Establish a planning process to align environmental expenditures with priorities.

0 Establish national ambient standards for PM2,5 and PMlo in priority urban areas and strengthen technology-specific emission standards for PM and i ts precursors (particularly sulfur and nitrogen oxides).

Implement a program to monitor air quality to keep track o f PMZ.5, PMlo, and ozone in priority urban areas.

Implement interventions to control air pollution that includes reducing sulfur content in diesel to less than 500 ppm, including increasing clean imports o f diesel with low-sulfur content

Institutionalize a system of quotas for fishing fleet.

The approval o f the law creating a new Ministry o f Environment (MINAM), as well as its key functions and structure are being supported by ENVDPL 1. The newly created MINAM would absorb the core responsibilities o f DIGESA (relating to environmental health).

The passage o f Amendment to the Law for National System o f EIA o ENVDPL 2 will support implementation of

regulation associated with National EIA Law, defining MINAM’s role in environmental evaluations and licensing.

MINAM’s financial capacity would be strengthened in order to align its operations and expenditures to priority environmental issues.

Approval o f environmental quality standards (ECAs) and maximum permissible emission levels (LMPs) for air and water. Approval o f LMPs for fishmeal processing plants. o ENVDPL 2 wil l support the approval ECAs

for PM2.5; ECAs and LMPs for soils; LMPs for the paper and cement industries and industrial boilers, as well as for motorcycles and heavy duty natural gas vehicles.

o ENVDPL 2 will support ensuring consistency in air quality monitoring protocols used by different networks; Publication and dissemination o f daily air quality monitoring data (in real-time).

Approval o f law establishing reduction o f sulfur in diesel to 50 ppm by 2010. o ENVDPL 2 will support the implementation o f

a strategy and design of a contingency plan to ensure a reduction in sulfur in diesel by 2010.

Introduce vessel quotas for the Anchoveta Fleet

88. Another recent report “Wealth and Sustainability: the Environmental and Social Dimensions of the Mining Sector in Peru” analyzes the principal environmental and social problems associated with the mining sector, examining the technical aspects o f environmental impacts and the use o f the income derived from mining. The aim o f this report was to provide the

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Government o f Peru with technical analysis and a framework for making choices that could help improve i t s capacity to address the environmental and social impacts o f mining operations. The recommendations from this study are also considered in the ENVDPL program for Peru (as reflected in Table 5).

Table 5. ENV DPL Program’s Support o f Mining Study Policy Options

Mining environmental legacies (MELs)

Environmental licensing

Social conflicts

Enhancing and updating the current inventory by identifying and prioritizing the most critical MELs (based on health and risk criteria), determining their associated remediation costs, and their legal status, and filling other information gaps. Based on this inventory and diagnosis, the GoP’s efforts should focus on ‘orphan’ sites which pose a clear health, safety, or environmental issue.

Developing a strategy for addressing and remediating the most crit ical MELs together with a monitoring program;

The Environmental Impact Assessment (EIA) process could be strengthened by following ways include (i) requiring that the guide for the elaboration of EIA’s becomes binding by law; (ii) improving and updating the contents o f this guide; (iii) preparing detailed terms o f reference (TORs) for the EIA of complex projects; (iv) sharing the responsibility of the licensing process with other governmental agencies; (v) integrating EIA with social imuact assessments etc.

The MEM should continue expanding its role as a provider of information and prepare guidelines for industry on how to address the most crit ical social issues.

Crucial that local stakeholders build capacity to participate in the mining project cycle, as well be able to negotiate and engage in constructive relations with mining oroiects

Approval o f methodology to update MELs inventory and determine priority sites per watershed o ENVDPL 2 will support the establishment and

implementation o f an updated and systematized MEL inventory

To prevent ‘orphan’ sites, the DPL supports the passage of amendment to MEL Law, placing the responsibility for remediation on private holder (even after mining titlekoncession has expired). o ENVDPL 2 will support a decree to ban the

award o f new mining concessions to companies that have not remediated their MELs

o ENVDPL 2 will support the approval o f a national strategy and technical guidelines for sound remediation of MELs.

~~ ~~ ~~

Redesign o f EIA manuals for mining operations initiated in order to clarify and distinguish requirements based on the type and size of mining enterprise. o ENVDPL 2 will support the approval o f

regulations that would: (i) make the EIA manual for mining operations legally binding; (ii) require a prior review (by MEM) o f the TORs for the EIA o f large scalekomplex mining operations; and (iii) incorporate social aspects in the EIA of mining activities.

Development and approval o f public consultation guidelines for mining operators (including communication strategies and resettlement processes). o ENVDPL 2 will support the implementation of

a plan to strengthen the Social Affairs office in MEM to better implement regulation and public consultation guidelines.

Approval o f regulation defining public and community participation requirements during the following mining processes: concession, exploration, exploitation, execution, and closing.

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89. Finally, part o f the basis for the analysis o f the ongoing reforms in the fisheries sector (namely with regard to the quota system for the anchoveta fleet) was based on two studies, “La Industria Anchovetera Peruana: Costos y Benefcios: Un Andisis de su Evolucibn Reciente y de 10s Retos para el Futuro”, and “Estudio de linea de base sobre la repercusibn social de la reforma de la flota pesguera de anchoveta en el Perzi”. The first one addresses the economic conditions o f the industry, including costs and income o f the fleet and fishmeal plants, looking to estimate the benefits (private, public, social, economic, ecological) from a reduction in capacity; and the second study, a social study, estimates the baseline employment in the anchoveta fishery sector, including an analysis o f changes in sources o f income, and other social indicators (like the education level, and state o f health) to determine the impacts o f a fleet reduction on the labor force and affected communities, and to identify strategies for alternative economic activities.

V. THE PROPOSED OPERATION

A. OPERATION DESCRIPTION

90. This proposed Environmental Development Policy Loan (ENVDPL 1) for US$330 mil l ion to the GoP will be the f i rst in a series o f three loans. The overarching objectives o f the proposed Environmental D P L program aim to support the government’s efforts to achieve the following: (i) improve the efficiency and effectiveness o f environmental governance and institutions in Peru; and (ii) mainstream sustainability principles in the development agenda o f key sectors to improve the management o f the mining sector, improvements in air quality, and enhance the fisheries sector. The ENVDPL i s one o f the key pillars o f the 2006 Country Partnership Strategy for Peru and o f the government’s strategy to strengthen i t s sustainable development policies, and will contribute to Peru’s efforts towards the achievements of the Millennium Development Goals (MDGs).~~

91. This operation, under preparation for over a year, will be presented for Board approval in February 2009 and an initial disbursement o f $20 mil l ion i s expected upon effectiveness (by mid- 2009). The two subsequent ENVDPL loans for the environment sector (ENVDPL 2 and ENVDPL 3 ) are currently planned for 2009 and 2010. All prior actions required for this D P L have been fulfilled. The timing o f this DPL program i s opportune given Peru’s economic growth, the promising outlook for key sectors in which environmental issues are receiving government attention, the recent creation o f a Ministry o f Environment, as well as the approval o f the Free Trade Agreement with the USA that includes environmental aspects.

33 The proposed ENDPL would contribute to the attainment o f MDG’s Goal 7 which seeks the attainment o f environmental sustainability, and Target 9 which promotes principles o f sustainable development in country policies and programs.

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I Box 1: Good Practice Principles on Conditionality

Principle 1: Reinforce Ownership. The ENVDPL 1 i s fully aligned with the government’s General Law of the Environment. The creation o f a new Ministry of Environment (MINAM) reinforces the government’s commitment to environmental governance and in facing and addressing the country’s environmental challenges. The operation also rests on a solid analytical foundation o f studies that have benefited from close client engagement and wide stakeholder consultation, and have had a significant impact on the development of government policies.

Principle 2: Agree up front with the government and other financial partners on a coordinated accountability framework. The proposed loan i s based on a coherent framework of previous actions and expected outcomes that i s based on the GoP’s program. The Bank team and the GoP have prepared an operational policy matrix, agreeing on the indicative triggers for the preparation o f the loan, prior actions for Board approval and expected program outcomes based on the government’s program.

Principle 3: Customize the accountability framework and modalities of Bank support to country circumstances. Bank support does not include any sensitive policy reforms; rather i s fully aligned with the sustainable development agenda laid out by the General Law of the Environment.

Principle 4: Choose only actions critical for achieving results as conditions for disbursement The Bank’s policy matrix requires 8 prior actions for the ENVDPL 1. The prior actions are focused on the development and passage of reforms supporting the government’s medium-term development program.

Principle 5: Conduct transparent progress reviews conducive to predictable and performance-based financial support. The proposed one-tranche operation i s timed to the country’s budget cycle, with the timing agreed in discussions with MEF based on a review of the operation’s prior actions. The policy matrix contains a limited number of outcome indicators, which wil l be assessed as part o f the operation’s implementation and are closely linked to the supported policy actions.

B. POLICY AREAS

92. The specific policy areas and actions that are supported by the Peru Environmental DPL series are outlined in the priority matrix found in Annex 2. These policy actions are aimed at strengthening institutional and environmental governance; mainstreaming principles o f sustainable development in key sectors including mining, fisheries, and those supporting improved air quality.

93. Policy actions for environmental governance include the following:

To strengthen the legal and institutional framework for environmental management. The operation supports the approval o f the law creating, organizing, and establishing key functions o f the Ministry o f Environment; and the implementation o f the regulation o f the law for the National System o f Environmental Impact Assessment, which will define the roles and responsibilities o f MINAM in the evaluation o f environmental impact assessments for large projects and key sectors.

0 For biodiversity conservation, this operation will support the issuance o f supreme decrees which will approve a regulation establishing functions o f the National Service o f Natural Protected Areas (SERNANP).

3 3

To strengthen the framework for environmental quality standards (ECAs) and maximum permissible emission levels (LMPs), this operation will support the issuance o f a series o f ECAs and LMPs for air and water. Likewise, it will support improved air quality monitoring in the Lima metropolitan region and the development o f air pollution contingency plans for selected cities.

94. sectors in Peru include the following:

Policy actions to support the mainstreaming o f sustainable development in key economic

This operation would support policy actions in the mining Sector, that would improve public participation, promote transparency and enhance the capacity to remediate mining environmental legacies (MELs) by: (i) placing the onus o f the remediation o f MELs on private owners even after their t i t le and/or concession has expired, and inhibiting new mining concessions to companies that have not remediated their MELs; (ii) supporting a methodology to update the MELs inventory and assess priority sites; and (iii) supporting the government’s efforts to strengthen environmental and social governance in this sector through the issuance o f a decree defining public and community participation during various stages o f the mining process.

For the urban transport policies aimed at improving air quality, this operation supports actions in two areas: (i) improving fuel quality, through the issuance o f a supreme decree to promote vehicle conversion to natural gas and establishing supply stations; and through the enactment o f a law to reduce the content o f sulfur in diesel by 2010; and (ii) improving vehicle performance through the implementation o f a vehicle inspection and maintenance system for the L ima metropolitan region.

In the fisheries sector, this operation supports the government’s program to reduce overcapacity in the anchoveta fleet and mitigate social impacts relating to displaced workers. This includes the regulation o f anchoveta fishing quotas per vessel, and the implementation o f the funding mechanism for FONCOPES and the pension fund for workers.

0

C. LOAN AMOUNT AND TRANCHING

95. The proposed US$330 million loan will be made to the Republic o f Peru. The proposed US330 million loan will be made to the Republic o f Peru. GoP has elected a Deferred Drawdown Option (DDO) as the disbursement mode for this f i rst operation in the series o f 3. The loan i s expected to have a fast disbursement o f US$20 mi l l ion upon effectiveness (by mid 2009). The remaining US$310 mi l l ion will be kept as a contingency fund which could be withdrawn on one or several tranches unless the Borrower receives prior notification from the Bank that a review o f the drawdown conditions (Le. adequate macroeconomic policy framework and/or satisfactory program implementation) i s necessary.

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VI. OPERATION IMPLEMENTATION

A. POVERTY AND SOCIAL IMPACTS

96. Peru faces high levels o f poverty and inequality. In 2004, just over half o f Peru’s population was poor and about 20 percent were extremely poor. Although regional comparisons are difficult due to the use o f different poverty lines across countries, Peru’s poverty levels are below those o f Ecuador and Colombia, but above those o f Argentina and Brazil based on a US$2/day poverty line. Inequality, measured by the Gini coefficient, stood at 0.43 -below the Latin American average o f 0.52, but s t i l l high by international standards.

97. Poverty i s significantly higher in rural compared to urban areas. In rural areas poverty stands at 72 percent and extreme poverty at 40 percent; while in urban areas, the rates are 40 percent and 8 percent, respectively. Poverty i s also higher and more extreme in the Sierra and the Selva compared to the Costa.34 Most o f the regional variation in poverty rates can be attributed to variation in household characteristics, and in access to basic services and road infrastructure, rather than to geographical differences such as altitude and temperature. Inequality i s lower in rural areas, especially in the rural Costa, and highest in Lima.

98. Poverty has been slow to respond to the country’s impressive economic growth in recent years. After improvements during the 1990s, poverty increased in the wake o f the 1998 economic crisis, while extreme poverty remained stable. Since 2001, GoP’s efforts have contributed to a gradual but strong positive impact in reducing extreme poverty. However, progress in poverty rate improvements has been slower in rural areas.

99. The poor are disproportionately impacted by the costs o f environmental damage. Distributive analysis o f environmental health impacts indicates that outdoor air pollution’s harmful effects in Lima-Callao are 75 percent higher for the poor than for the non-poor, even in a conservative base-case scenario. The health impacts on the poor resulting from inadequate water supply, sanitation and hygiene are nearly 3 t imes higher than on the non-poor. In relation to income, the impacts are more than 10 times higher for the poor. Data are not available to estimate the relative impacts o f indoor air pollution on the poor vs. the non-poor; however, most o f the impacts occur among the poor because their use o f solid fuels i s far greater than by the non-poor. The impacts on all environmental health categories -Le., urban air pollution, water, sanitation and hygiene, and indoor air pollution per 1000 people- are nearly 20 percent higher for’the poor that for the non-poor. Relative to income, the impacts on the poor are 4.5 times higher that on the non-poor.

100. The Peru ENVDPL program will have a direct effect on poverty reduction. Policy reforms in the energy and mining sectors, as well as those relating to environmental health will lead to improvements in air and water quality; contribute towards decreases in morbidity and mortality from diarrheal diseases, acute respiratory illnesses and other health risk, and reduce the economic burden from avoided health costs and improved productivity.

3 4 Peru i s commonly divided into three geographic regions: “Sierra” (mountains), “Selva” Cjungle), and “Costa” (coast).

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101. Social impacts and mitigating measures. Most o f the activities supported by the Peru ENVDPL are expected to have positive social impacts, particularly in reducing adverse impacts in people’s health. Examples include interventions in the mining sector relating to actions to be undertaken to cleanup environmental legacies, enhanced community monitoring, the clean air initiatives relating to the approval o f LMPs, and the improvement in fuel use.

102. In addition, the government’s reform program in the fisheries sector includes provisions for social protection for workers likely to be affected by the anchoveta fleet reduction. Some experts consider that an ideal reduction o f the sector would be an estimated 50 percent o f the fleet in the medium and long term, while government officials consider that the reform that started with the quota system established by Legislative Decree 1084 would reduce the fleet by around 30 percent. Considering this latter estimate, the impact on the fleet workforce could be in the order o f approximately 7,000 workers having to leave this type o f fisheries to take jobs in other activities within the sector, move to other sectors, or take early retirement. It is important to note, however, that for the most part many o f the jobs that would be lost are part-time in nature since the core fishing activity does not take place year round. Currently, due to the quota system, these workers already endure an extremely short fishing season o f only 50 days per year in the central and northern coast and 100 days in the southern coast.

103. Among the social benefits imbedded in Legislative Decree 1084 i s the ban on firing crew members and allows only for voluntary retirements and rotation o f workers. Likewise, i s the creation o f a social compensation fund (FONCOPES) that will impose obligatory contribution^^^ to ship owners. This fund will provide financing (a salary package) to support early retirement for workers between 50 and 55 years old; economic incentives for shifting to new economic activities for voluntary worker attrition; and a program for the creation o f micro enterprises, including training and technical assistance. The fund will be financed exclusively by the private sector with no financial costs to the government.

104. In addition to the contributions described above, the financing o f a pension fund will be supported by the imposition (through Legislative Decree No. 1084) o f a levy o f USD 1.95 per metric ton o f landed anchoveta for a maximum o f ten years. A more detailed description o f the overall social implications o f this operation i s in Annex 6.

B. ENVIRONMENTAL ASPECTS

105. The provisions o f OP8.60 on Development Policy Lending apply to ENVDPL. The policies and reforms supported by this operation are expected to have a positive effect on the country’s environment, by supporting improved environmental governance and management. As the main objective o f this environmental D P L i s to help the government mainstream environmental concerns in a number o f key sectors (such as mining, fisheries, energy), the design of the operations wil l help internalize environmental and social safeguards issues at the macro level. Consequently, i t i s expected that the policies supported under this

35 The amount wil l be determined in accordance to the individual quotas and the number of workers per company. These amounts wi l l be determined once the government issues the regulation (Regfamento) for the decree-law 1084 which will include the functioning of FONCOPES.

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operation are unlikely to cause significant negative effects, and will instead have positive effects on Peru’s environment, and other natural resources.

106. The government’s commitment to improved environmental governance and to the ENVDPL Program i s evidenced by the creation o f a new Environment Ministry in May 2008, and the allocation o f its operating budget (more than twice the yearly budget o f CONAM) as approved in August 2008. The government’s efforts at strengthening environmental governance through policy reforms are supported by this DPL operation. Positive impacts on the environment are expected to derive from improved environmental management at the national and local levels, in which the program places particular emphasis in assuring improved transparency and accountability with respect to governmental oversight and decision- making processes. The conservation o f biodiversity and natural protected areas in Peru will also be enhanced through various reforms and activities being undertaken by GoP to strengthen institutional capacity and financial sustainability; while the approval o f environmental quality standards and maximum permissible emission levels for air and water, supported by this operation, i s expected to strengthen environmental monitoring.

107. At the sectoral level, policy dialogue has been facilitated, and the inter-institutional agreements and commitments reached among various stakeholders to address the respective environmental concerns (e.g., urban air quality, mining contamination, etc.). In the mining sector, government reforms aimed at updating the MEL inventory and assessing priority MELs in key watersheds i s expected to improve government actions towards remediation o f environmental impacts. Furthermore, various government actions supported by this operation to overcome the shortcomings o f the EIA system, especially for large-scale and complex mining operation, i s expected to improve the overall quality o f the EIA process and strengthen the overall licensing framework. Improvements in urban air quality are another significant environmental effect o f government actions in the energy and transport sector enhanced through the support o f this operation. These include actions to encourage the availability o f cleaner fuels, shift vehicles to clean natural gas, and scrap older polluting vehicles.

108. The Peruvian government has mechanisms to ensure adequate consultations opportunities which include public audiences (commonly used in the mining and energy sectors) in order to discuss environmental and social concerns in an open and transparent manner. In addition, consultations within the framework o f the proposed policies o f this D P L have been carried out through: (i) the CPS review; (ii) the Country Environmental Analysis and (iii) the Study on the Environmental and Social Dimensions o f the Mining Sector. Consultations were carried out with all government sectors involved, as well as with NGOs, academic institutions, representatives o f municipalities and communities affected by mining operations, and the private sector. These consultations include three national workshops where the results and recommendations o f these studies were presented and widely discussed.

C. IMPLEMENTATION MONITORING AND EVALUATION

109. To provide the government o f Peru with greater certainty regarding the availability o f DPL DDO funds, the government and the Bank will maintain a close policy dialogue

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throughout the drawdown period.36 During this period, Bank staff wil l monitor the borrower’s macroeconomic policy framework and i t s continuing adherence to the overall program every six months.

110. Reporting progress in the implementation of the policy reforms would be responsibility o f each o f the sectors involved (MINAM, SERNANP, OEFA, DIGESA, MEM, MTC, and PRODUCE). MEF, in close coordination with MINAM, would be responsible for coordinating actions and monitoring progress among concerned agencies. A recently approved IDF (to be implemented by MINAM) would also contribute in ensuring that MINAM and MEF monitor the implementation o f specific measures and reforms under the DPL program.

111. Bank staff will work with the key agencies to ensure a joint supervision in the monitoring of project activities. This would allow an active f low o f policy dialogue and prepare for subsequent phases. The Bank team, jointly with GoP, would assess and supervise the implementation o f the program, focusing on whether key agencies are carrying out the agreed policy reforms and undertaking due diligence in attaining the development objectives in conformity with the legal agreement. Furthermore, Bank staff will assess institutional arrangements as well as institutional capacity and commitment in GoP for the attainment o f the agreed actions in the Policy Matrix, and confirm fulfillment o f program conditions and conformity with legal covenants. The task team supervision will concentrate on the impact outcomes o f the program and on any corrections that might need to be made to the operation as i t evolves. Bank supervision will be sensitive to the latest country developments, the involved agencies capacity and commitment, overall stakeholder support, and feasible options for realizing the program development goals.

Table 6: Proposed Monitoring Indicators Key Issues and Objectives

Environmental Governance Strengthen the legal and institutional framework for environmental management

Sustainable Management o f the Mining Sector Strengthen the knowledge base

Program Outcome Indicators

MINAM reviews EIAs for at least 10 large infrastructurehvestment projects with potentially significant impacts per year. (Baseline for 2008: INRENA reviewed 77 EIAs for projects (including medium and small) which could have an impact on natural resources).

SERNANP applies financial strategy to increase NPA finding from various sources (including private sector) by at least US$2 million per year (Baseline for 2008: resource allocation from various sources to SINANPE amount US$14.2 million per year).

Air quality data for the Lima-Calla0 Metropolitan Region i s widely published and disseminated (in real time) through a harmonized and integrated monitoring network. Air quality contingency plans are developed and implemented when pollution levels largely exceed quality standards in the 5 most polluted cities in Peru: Lima, Arequipa, Chimbote, 110, and L a Oroya (Baseline: Pollution contingency plans do not exist in Peru).

At least ten priority MELs are identified following the priority setting update o f the MELs inventory and resources for public/private MEL

The drawdown period i s the period between the loan’s effectiveness date and closing date during which funds are 36

available for withdrawal by the borrower.

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Key Issues and Objectives and capacity to remediate mining environmental liabilities (MELs).

Improving Urban Air Quality Improvements in the vehicle f leet and in fuel quality to reduce air pollution.

Promoting Sustainable Fisheries Enhance the management, enforcement, and reduce fleet over-capacity and economic inefficiency o f the fisheries sector.

Program Outcome Indicators remediation i s confirmed (Baseline: No MELs have been identified using technical criteria and resources have not been confirmed for public/private MEL remediation. ).

Environmental participatory monitoring undertaken in at least 60 sites (Baseline: 35 community-based monitoring pilots are underway).

At least 30 percent o f gas stations in main cities (approx. 750) supplying clean diesel (with less than 50ppm o f sulfur content) by 2010 (Baseline: zero).

At least 80,000 vehicles converted to natural gas and 90 service stations are installed and operating in Lima (Baseline: 35,000 vehicles converted to NG in Lima).

Vehicle inspection and maintenance system operating in Lima with at least 20 lanes (with at least 600,000 vehicles inspected), and at least three lanes in each of the 3 largest cit ies (with at least 80,000 vehicles inspected). (Baseline: 6 inspection lanes operational in Lima namely for heavy duty vehicles).

100 percent o f anchoveta fleet under the quota system. (Baseline: Zero percent regulated by quotas)

At least 5,000 workers benefit from economic incentives for leaving the sector. (Baseline: Zero).

D. FIDUCIARY ARRANGEMENTS

112. During the preparation of the recently approved Second Programmatic Fiscal Management and Competitiveness DPL by the Board of Directors, the Bank team undertook a review o f the current status of the country public financial management (PFM) reforms achieved so far. These reforms are a result o f the program implementation supported by the DPL program and the recommendations o f the 2001 CFAA, the 2004 IMF Fiscal ROSC, 2005 CPAR, ‘and other initiatives over the last several years. The Bank’s review included a desk review o f available information such as the annual external Audit Report o f the Central Bank which contained an unqualified opinion; a review o f the results o f IMF First Review Under the Stand-By Arrangement (Staff Report, July 2007); and meetings with GoP officials within MEF, and officials from the Central Bank and the Office o f the Comptroller General (CGR).

113. PFM in Peru has significantly improved since the 2001 CFAA, which found significant areas in need o f improvement such as: (i) the uneven application o f the existing tools in the system, (ii) under-funding o f the supreme audit institution (the CGR), (iii) the need for greater oversight by the Congress, and (iv) the need for a more effective external reporting. In recent years, GoP efforts to strengthen public finance administration has focused on (i) strengthening supervision o f the legislative branch’s use o f funds, (ii) increasing the independence o f the CGR and strengthening the legal and regulatory framework for the supervision o f public spending, (iii) expanding the scope and coverage o f the integrated financial

39

administration system (Sistema Integrado de Administracibn Financiera, or SIAF) at different levels o f government with a greater degree o f control and transparency, and (iv) modernizing the budget process and i t s related monitoring tools towards improving the efficiency o f public spending.

114. The most relevant PFM reforms towards improving the efficiency of public spending are well advanced and under implementation. These are: (i) a new budget classification system for the 2009 budget has been implemented in line with international standards and i t s being unified with the accounting chart o f accounts; (ii) significant progress in the implementation o f the Treasury Single Account at Central Government level has been achieved; and (iii) strategic steps towards introducing result-based budgeting as a tool to improve the efficiency o f public spending, and a new monitoring and evaluation system o f budget programs i s being institutionalized progressively. The efforts achieved so far to modernize the budget and improve the country PFM could be significantly scaled up and accelerated in the coming years by prioritizing activities within the PFM reform agenda and focusing on performance indicators and benchmarks which can be used to measure progress over time systematically.

115. Overall, the adoption o f SIAF at sub-national level and its gradual improvement have contributed to improving the transparency o f public finances in Peru. The SIAF i s a cornerstone in the country’s state reform process. Efforts must continue to consolidate the integration o f the new budget classification with the chart o f accounts, the full implementation o f the Treasury Single Account, and to ensure common standards and adequate budget and financial reporting by al l levels o f government (central and sub-national). There i s consensus that the current platform o f the SIAF needs an overhaul, after being in place for more than 10 years. Based on an independent evaluation by external consultants, the GoP has decided to revamp the system completely. However, the GoP i s very conscious o f the importance o f a smooth migration (which would take several years) to ensure that the considerable advances attained so far will not be interrupted or reversed. In parallel, nearly 1,000 local governments (more than hal f o f the total number o f local governments) have begun registering their income and expenditures operations through the simplified SIAF system for local governments.

1 16. Peru’s ongoing reforms and remaining challenges necessitate further modernization and strengthening o f the PFM. As Peru continues to develop into a stable middle income country, i t will increasingly require fiduciary systems capable o f keeping up with a modernizing economy in a variety o f sectors and at all levels o f the government. This need i s further amplified in the context o f the ongoing reforms in Peru. For instance, the current decentralization calls for strengthening o f capacity of regions and municipalities to optimize the utilization o f public funds. In i t s role in the modernization o f the state in Peru, and in the context o f the CPS, the Bank i s supporting the GoP with (i) a governance AAA study focusing on sub-national government public administration systems, and (ii) an upcoming integrated fiduciary assessment being sought as part o f a more integrated policy study at national level-an upcoming PER in FY09-which will include both diagnostic and forward-looking analysis, and recommendations. The scope o f the fiduciary assessment will include the P F M system as a whole, and it i s envisioned that the assessment will establish a current and fact-based P F M system performance baseline, and outline recommendations aimed at strengthening the public financial management

40

and public procurement systems in a prioritized and actionable manner. Both o f these AAA studies (Governance and PER) are FY09 deliverables.

117. On transparency, Peru ranks about average among Latin American countries, comparing favorably to Brazil and Mexico, but lagging far behind countries like Chile and Uruguay which set standards in Latin America. In the last few years, Congress approved a Law o f Transparency and Access to Public Information (2003) and i t s regulations; also, SIAF became available through an internet portal “Consultu Amiguble”, and a pilot system for people’s assessment o f government services was launched. With the further development o f the SIAF and continued dissemination o f budgetary information through the internet, Peru’s ranking should begin to improve. A signal o f strong commitment to improve governance and fight corruption has been the recent creation o f the National Anticorruption Office at the end o f 2007. Overall, the mechanisms to fight corruption have been strengthened in all three state branches and include: (i) the executive branch’s ad-hoc prosecutors for the Fujimori-Montesinos cases and the decentralized public anticorruption prosecutors; (ii) the legislative branch’s auditing commission; and (iii) the judiciary’s anticorruption courts and hearing rooms.

E. DISBURSEMENTS AND AUDITS

118. The GoP has selected a Deferred Drawdown Option (DDO) as the disbursement mode for this operation. The D D O feature gives an IBRD borrower the option o f deferring disbursements under a DPL for up to three years (renewable for an additional three years with the Regional Vice President’s approval), provided that the borrower’s overall program implementation and macroeconomic policy framework remain adequate.

119. Disbursement arrangements will follow the procedures for DPL set out in OP 8.60. As such, the loan i s expected to have a fast disbursement o f US$20 mi l l ion upon effectiveness (by mid 2009), and the remaining US$310 mi l l ion will be kept as a contingency fund which could be withdrawn on one or several tranches. The Bank (i) will deposit the funds into an account designated by the Borrower and acceptable to the Bank which forms part o f the country’s foreign exchange reserves at the Central Bank o f Peru; and (ii) the Borrower shall ensure that upon deposit o f the funds into said account, such amount or an equivalent amount i s credited in the borrower’s accounting system to an account that finances budgeted expenditures. The GoP will be required to provide confirmation of steps (i) and (ii) as soon as the tranche i s received. The proceeds o f the loan may not be used to finance expenditures typically excluded under the Loan Agreement.

120. The completed 2007 IMF off-site Safeguards Assessment was not available. However, as per the IMF Country Report No. 07/24 1 , the Safeguards Assessment concluded that there were no significant weaknesses in the Central Bank‘s safeguards framework, identifying few measures to address minor weaknesses related to the duration o f the appointment o f the external auditor and the terms o f the Organic Law on recording unrealized revaluation gains. Given that the Bank’s review o f the borrower’s current P F M i s satisfactory and the conclusion that fiduciary arrangements are adequate, the Bank will not require a dedicated account at the Central Bank for loan proceeds and as such no audit will be required for the deposit account.

41

F. R I S K S AND R I S K MITIGATION 121. Macroeconomic risks relate to Peru’s vulnerability to changing international conditions. Any possible reversal in Peru’s economic stability could adversely affect the continuation o f the reforms supported by this ENVDPL. A sharp drop in the international prices o f Peru’s main traditional exports, especially minerals, would affect the export sector and the economy as a whole. In addition, economic turmoil due to the sub-prime mortgage crisis in the United States -the largest market for Peruvian exports- could lead to a decreased demand for Peru’s exports, in spite o f the recent approval o f the FTA with the U.S. Furthermore, an increase in world interest rates (or a slowdown in lending to emerging economies) would also have impacts on the ability o f the GoP -and o f the economy as a whole- to access credit on reasonable terms. On the fiscal side, political pressures for higher spending with weak control on the quality could lead to deterioration o f fiscal accounts and could potentially have additional environmental impacts.

122. Mitigation of these risks i s being addressed in several ways. Non-traditional exports are growing very rapidly and are the most important source o f employment growth. Furthermore, the GoP is actively seeking to expand market access by pursuing trade agreements37 with other potential export markets in Europe, Asia, and elsewhere in Latin America. The combination o f these two trends-diversification o f products and o f markets-is reducing the risk o f major shifts in Peru’s te rms o f trade due to exogenous factors. Regarding interest rate increases, the GoP’s disciplined fiscal performance in the past several years has greatly reduced country risk and lowered interest rate spreads, meaning the cost o f rising international interest rates wil l be lower than previously. The country has undergone several upgrades by credit rating agencies38, and the increasing liquidity o f the local currency debt market for both sovereign and corporate debt- supported by a stable currency-is easing the country’s dependence on external credit, and also reducing dollarization o f financial markets. Furthermore, export markets continue to be a focus o f the GoP’s plan for sustained growth. The approval o f FTAs with the US and Canada will help diversify more the country’s export base away from commodities and provide an anchor for positive investment environment. In addition, GoP implemented (and announced the implementation of) a number o f policy measures to maintain confidence and mitigate the foreseen adverse impact that the global crisis which include: (i) easing monetary policy through the Central Reserve Bank o f Peru (BCRP) increased liquidity facilities to avoid a potential credit squeeze. BCRP announced legislation that will allow institutions like pension funds to participate in these rep0 operations. BCRP has also reduced the marginal reserve requirements on both local and foreign currency deposits; (ii) intervention in the foreign exchange market. BCRP has intervened in the foreign exchange market to smooth out fluctuations and prevent a rapid depreciation o f the currency, using nearly US$ 4.5 bi l l ion in the last two months; (iii) counter cyclical fiscal policy through adjusting the level o f public expenditures to support a growth rate target o f at least 6 percent per year for 2009-10. Under this scenario, public investments would be accelerated as needed, and more funds would be allocated to social and

37 The GoP i s working in establishing free trade agreements with Chile, the European Union, Mexico, Singapore, India, China, and Central America. 38 The country’s excellent economic performance has led Standard & Poor’s Ratings Services in July 2008 to raise its foreign currency long-term credit rating for Peru to ‘BBB-’ from ‘BB+’ and raise i t s local currency long-term credit rating to ‘BBB+’ from ‘BBB-’.

42

infrastructure expenditures, with emphasis on those programs that have a direct impact on vulnerable families; and (iv) measures to sustain private investment by working to ensure that private investment flows are not affected significantly by changing risk perceptions. In coordination with private commercial banks, authorities are identifying financial mechanisms that would prevent a significant reduction in lending for investments in equipment, capacity expansion and construction.

123. Moderate risk associated with GoP’s possible decline in lending (including DPLs). If Peru continues to have a strong growth in the near-medium term with fiscal surpluses and active liability management it could possibly contribute to a steady decline in loans (as was experienced up to early September 2008). This could in turn risk: (i) the program’s follow-up operations; and (ii) the continuation o f the policy dialogue with key sectors and agencies. These risks are being mitigated by MEF’s own commitment to the current program. In addition, the Bank team has promoted the ENVDPL program to the new administration at MEF. The risk o f a potential disruption in the policy dialogue would be mitigated by the Bank’s ongoing work program in the sectors through: (i) supervision and preparation o f GEF projects on climate change and biodiversity conservation which would ensure close collaboration with MINAM and SERNANP; (ii) implementation o f an IDF grant and Carbon Finance Assist grants with MINAM; (iii) implementation o f the Lima Urban Transport Project which would allow to have policy dialogue with the transport and energy sectors; (iv) implementation o f the extractive industries transparency initiative (EITI) which ensures an ongoing collaboration with MEM; and (v) the development o f sector work (one planned for the fisheries sector).

124. The ruling party has a minority in Congress which could create difficulties in passing legislation. This risk i s currently considered to be low for the ENVDPL series since al l o f the Legislative Decrees which would have required approval by Congress have already been passed by the Legislative branch or have been approved through the fast-track umbrella o f the Free Trade Agreement. The pending regulations depend exclusively on the approval by the executive branch, which are not likely to encounter any obstacles. In addition, MINAM has been proactive in building i t s relationship with Congress which has led to unanimous approval o f MINAM’s operating budget.

125. Institutional risks associated with the process by which the Ministry o f Environment was created. On December 19, 2007, the Peruvian Congress enacted the Law No. 29157 which delegated to the Executive branch the power to legislate on various subjects related to the implementation o f the Free Trade Agreement between Peru and the United States. Taking advantage o f the European Union-LAC summit that took place in Peru in May, 2008, and pursuant to Law No. 29157, President Garcia enacted a fast-track legislative decree creating the Ministry o f Environment without the prior review and sanction o f Congress. This measure created an initial antagonism and criticism, thereby diluting legitimacy to the creation o f this institution. In addition, to an initial lack o f resources, MINAM has faced a weak capacity. Ultimately, the executive branch approved a contingency budget and the transfer o f the resources originally destined for CONAM. Subsequently, the new Minister o f MINAM has been proactive in approaching Congress and MEF, and secured twice the annual resources which C O N A M once received. In addition, associated IDF grant would help mitigate the capacity weakness by

43

providing technical assistance and enhancing capacity in key areas such as financial management and monitoring and evaluation and in the definition o f roles and responsibilities.

Sectoral Risks

126. Risks within the mining sector associated with a lack of commitment by GoP to undertake steps leading for the eventual remediation o f priority MELs. Despite the negative image and social conflicts associated with MELs, the GoP has been slow to actually carry out concrete measures to address their remediation. Moreover, depending on the location, past legal status, and nature o f the tailings, environmental and social risks might arise if the actual remediation is not carried out appropriately. This risk i s mitigated by GoP’s gradual approach to MELs, which has included revisions to the legal framework and the enactment and modifications to the MELs law, establishing specific procedures and opening the door to prosecute private sector companies whose mining concessions have already expired. In addition, MEM has allocated resources to a fund managed by FONAM for the remediation o f specific MELs. Building a national strategy based on a systematized and updated MEL inventory would also contribute to minimizing this risk.

127. Risks related to fisheries sector associated with challenges to the recent Legislative Decree establishing vessel quotas in the anchoveta fleet. While the new Legislative Decree (No. 1084) establishing vessel quotas has been welcomed by the large and most efficient vessel companies as well as by environmentalists, the smaller boat builders have mostly rejected i t for fear o f losing competitiveness and being pushed out o f the sector. The commercial fleet workers, however, have been more inclined to agree with the compensation package that the law also provides to those who voluntarily leave the sector, or entitlements relating to early retirement. While main opposition parties have presented a proposal in Congress to rescind the legal decree that establishes the quota system, the reversal o f the Legislative Decree i s considered to be minimal. Opposition in congress to the decree has been winding down, and the new Minister of Production (which was well received by Congress) has been proactive in meeting and engaging in discussions with fisheries associations, unions, and affected fisherman to incorporate their concerns and comments in the proposed regulation to the Legislative Decree.

128. Another risk relates to the potential for workers leaving commercial anchovetafishing for fishmeal processing, thereby creating extraordinary pressures on artisanal fishermen and actual fish resources. While the GoP has frozen permits for the opening o f new fishmeal plants, new plants are being opened on the southern coast.39 This situation has provoked claims from one union o f artisanal fishermen that i s concerned with the fishery resource impacts o f these plants. To address this, the Minister has agreed to review the permit granting process and to revoke permits if mistakes were made in their issuance.

129. Low risk associated with the implementation of the Inspection and Maintenance (IM) system in the Lima Metropolitan Region. While the efforts to launch the IM system for the Lima Metropolitan Region have been hindered by legal disputes involving concession and operating rights between the municipality o f Lima, the municipality o f Callao and the winning private bidder, the Ministry o f Transport and Communications (MTC) has recently been given the

39 The government’s position i s that these permits were given before the freeze became effective.

44

responsibility for overseeing the implementation o f the IM system. Parallel discussions on alternatives to harmonize standards between Lima’s metropolitan region and other regions are also underway. In August, 2008, the M T C published regulation (N” 025) establishing the rules, control and responsibilities for the IM program for Lima. Since the M T C has assumed the oversight o f the IM system, implementation has been carried out in a satisfactory manner. The M T C has also specified that vehicles tested in plants outside o f L ima can circulate in the capital, thus giving validity to inspection processes elsewhere in the country. Even though a number o f details s t i l l need to be regulated, the M T C expects an increase in the installation o f new IM plants in the country.

45

Annex 1: Letter o f Development Policy (Spanish)

CARTA DE POU77CA SECIORML

46

LUIS Ab. VALOlVIESO MONTAN0 MlNlSlRO

&as, aurnenta s / g M d v o de Ias Importactones (58,6% en el primer smestre de este sno) y e! C M R O banmdo a1 sector pISvad0 (29,W en el primor semestm).

Para este ai70 SB prevt3 un cmtniento d d PBi de 9.0% COR una variecibn pomnfuel de demenda interne de 11,556, pw lo que en los Siguienfes rneses e/ PBl se esterla ubicando a h por encima de su nh/el patencief (quo estimmos Bfredsdar de 7%). La polftica rnacroewnbmica que el Gobierno e&& lmplementendo tiene por objetb mcd0mr est0 exprsnsi6n con el objeto de hacefla consistante con el crecjmjenta potential. De esta manera, se evitan las presiones infiaciantuias y se garantka un cnxknionto sostenid0 y no vdbtu.

h r otro I&, teniendo en cuenb tanto la disminucidn de 10s terminos de inbtwmbio y el exceso de le demanda interno sabre el pmducto, el resultado de la balanza en cuenta mrrlente oxtema $8 ha vuelto negativo este aifo, luego de tres ai)m ds supen5vft. Se estuna un dMcR en cuenta coniente de 1.6% del PBI durante el 2008. Este cambio en la cuenta CDnjente no mns!fWye un riesgo macmscondmlco debido a que se financk principalmenfe can fiujos de i n v e d n exbrna directa. Sin embargo, es un hecho que no d e b psrdorse de vista cuendo SB disenan las poiiticas mamecondmlces de cod0 pkuo y es impartante bgmr supen3vit fisceles altos en estos ~Ao9 . Es’slas supers& fjenen can4cterpwntiVo demo a1 detedom del ahom prlvado onginado por el excesb d8 wnsumo. De esta manera, frenfe a una fBdrn&I del ahnm privado, el shorn, p0bf.b d e b aumntar con el obletu de amenguer IBS ps iones sabre la cuents wmente de la brrlanzs de pagm.

8. Reformas asoeiadas al Pmgrama

I . Gobemabilidad Amblenbi

1.7. Con el objetivo de rnejomr 18 gestidn amtnental en el pais y reduck Ia disporslbn y 8 5 c ~ s c ) coordineck5n de acciones en este campo, en m a p de 2008 mediante Decreto Legislsfivo N’ 1013, se cc88 el Minkteno dol Arnbienb, junto con el Organisma de Evalueci6n y Fiscalizecldn Ambfental (OEFA) encergodo de la flsca/izacbn, la supervisiOn y fa sancibn en materia ambienfal en el pais. Actuelmente, se est4 cornpletando el promso de implemenbci6n del nuevo Mlnisterio y scf espra que le OEFA se encuentm en pleno fundonamten!o el pnixirno a h . Aslmismo, en sefiembre de este aifo se cre6 el Setvido Nmional de h a s Naturales Pmtegidas por el EstBdo (SERNANP) con el obj%tivo de meprar lo odministmcidn para su conservaci6n y el eprovechorniento del potential do estas &#as. Le creacien de estas instituciones 8s una apuesta por el futuro de enonne impartancia psra sustentar el crecimienlo econdrnico mobre la base de una msjw utilkacidn de nuestms mursae y la pmservocidn del medlo smbiente. Loa rebs son grandes consUemndo las demandas que enfrenta nuestra poblacidn, erjn con sisnifcativos nivelss de pobrezs, per0 simufthneamente can la presancia de espectos en materia de gestk3n amblental que requiemn urgonts atencibn.

,

Jr. juoln 3lG:Urna I TsUfano: 311-6&30 2

47

. 'DEQHIO OE lA5 PCRy)Nhs CON DISCAPACIDAD EN EL PEW

'AN0 DE W CUMM?% MUNDIAUS fN EL PERU*

1.2. De ofro lado, el EsWo perueno cuonfa con Ltmites MBxlmOs Permkfbk y €stendems de Calldad Ambientai mientsmente apmbadas para ahis, ague y para dlversas ecfhfidades indushfales, cuye carencl6 impedie un adecuado monltomo y fiscalizaoidn en meteria embiental que se ml?et en problemas en le calidad del ague y de contaminacf6n del a h . Se espre dumnte los siguienfes a h que est8 confroi pcnnita m e w la calided de vida de los dud8danoq junto con la impkmmtaci6n de otrss refommas que seguidemente se &Wen.

1.3. En este mismo sentldo, en eJ marm de presupuesto pw resuttados, en el pmyecfo de Ley de Presupueato 2009 sa ha inoorporedo como pngmma estmklgieo la gesNcSn ambkntel ptlontarfa, en& otms cuatm p r o g m s q can Bnfasis en la cantamhacidn del 8ire y egua, y 01 desemiIo de la biadivsmkiad. Adkbnelmente, 8e he pmvisfo que /as universidades p1Iblk8s que reciben canon, sobrecenon y regaiiss minew puedan gastar dlchos recum, entre otms esciones, para financier investigociones de clenda apIlcada mlacionedas con pmastvaCi6rr de le btudfversidad y el ecosistema de le zona geognifca de int7uencie donde se demmdh tes ac!/vidades econdm!cas extractives y le utilizack5n effcicnte de emrglas renovabbs y p r 0 ~ e . m ~ pmductivos.

Gesti6n Sasfenible en el Secfor MInerfa

La minerle juega un papel trascendental en nuestro pals, poi la riqusza que ha prodvcido y por e! qmn potenciel de m u m s naturales que pmernos. No obstante, it3 actividad minefa tambi$n tien0 efecfos ambienfeles que deben ser pmvistos y remedjados. En este sentido, se vJene trabajando en mefirat la infomack5n y las cepacidades seetotiales para atender 10s pasivas mineros, tanto aqueilos da msponsabiidad del Estado, oomo supervlsan& y fiscalizaando los pssivos de mponsab1idad del sector privado y aquellos que @&mente SB encuenitan sin propietanb. Para eN0, se ha inidado la revisi6n del inventatto de pashas rnineros B nkel naciml , priorkando ios m$s urgentes de atenci6n en base e criterios arnbientales, econdrnlcos y de selud poblka, con mires a avanz%r hm.8 una ssfide remediacidn y su psulaUna rsduccirin. Se cspem que hada 2011 se haye podido avanzer en el proceso de remediac&n de bs pasivos m$s priOriw*m de/ pals.

Asimismo, mediante el Decreto Legislath N' 1042 de junb de 2008, se han reallzado Impmantes modificecioes nomatfves en la Ley de Pasivas: Minems (W 28271) con el objetivo de feciliary asegurar la remediscidn de /os pasivos pw patie del seciw privado. Sin embargo, alin se requiem f6rtdmr estos procesos y avanzar en la agilizack5n de la aprob8~% de 10s planes de c i m . En este sentido, la remedladdn de pasfvos s& uno de la* temas centrales en el sectw minem en ias siguientes e8os.

De otm lado, con la finaNdsd de fortelecer la gabemobilidad social en fa minsda, 6n mayo y&nh de este aAo (Decreto Supremo N' 028-2OOB-EM y Resolucl&n Ministerial N' 304-2008-MEWDM, mspedivemente) se apmbd una nuem normativa pare otdenar y brindar mayor trcnspamncia 8 la particpackjn

2.

2.1.

2.2.

2.3.

Jr. Junln 313 - Utne 1 Tellfano: 37 f 4 3 0 3

48

@rn 'C€C&MO DE W PEPSNAS CON WWAODPD EN EL PERd'

2.4,

3.

3.7,

3.2.

3.3.

dudadana en la cwrcesidn, expbmci&n, y expbtacidn de la acfivkiad rninem. Esta normativa incorpore nuevos mecanismus de perticipacidn dudadana que garonthen el e/enlciO de este dmctm y contribuyen a la prevenctcln de conflictos socloembientales y a la constmcciin de ansensm. En oste sentido, SB espera en b s siguientea aAos cansoMar pmcesos de monkorno padclpetiw con la partlclpecldn plene de /as pablaciones involocmdas en 10s diversos pmyectm en minerla.

C a b Micar que n m a s slmffams se hen desanullado pam o! sector hldmrixums e fin de homogeneirar y garanthar la partidpacirSn ciudadana en 10s respectlvos pmjmtos de inversicx, que desanufle el sector privsdo. Asimismo, $8 est& realkando un trabajo cowdinado enho las d h l s a s entidades ostatales a fln de pmvenir ConflEdOs que hcuentemente tienen lugar por &Ita de una edecuado comunbcibn hacia la poblncidn y/o por et nkel de insatisfacckjn que perciben frente 8 sus necesidodes.

Calfdad d d A h

Uno de 10s aspect08 rn& lmpwtantes a la salud ambientel est8 vincul6do a la contaminecidn del aim, que as m8s gmve on /as primpales cludsdes de nuestro pals, slendo el principal contarnlnante 18s emisiones del pai-que vehicular 461 m o lo seAalan estudios del Banco Mundial y el rocisnte infome de la Defensorie del Pueblo. En ese sentido, so est6 trabajando tanto en el mejofornlento de la callded de combustibles que se ufilizen en el pais, principelmenfe del diesel, esl corn0 an le renovaudn del poque sutomotor, el cual cuenta en promedio m n m8s de 15 a#os de antlgoedad.

En cuanto a la calidod de loa combustibles, an mano dc 2006 se aprobd la Ley N' 28694 p m logrer la emdicacidn graduaf del diesel can alto contendo do ezuh, &ableclendo la meta que hacia finos de 2010 se reduzca significathromente el contenido de azufrt? en et diesel que se mmetcialki? en ai PeM (de 2,500 a 50 partes por miMn). Complementanamente, mediante el mglamenfo do esta Ley se ssfoblecism montos 40s del lmpuesio Selectivo ai Consumo (ISC} que sedn apkados a bs combustibles desde el eiio 2008 hasia el eAo 2016, feniendo en cmnta oi criterlo de proporcionalidi?d a1 grad0 de nocivictad por 10s contaminantes que Qstos contengon, de tal manera que, pare el aAo 2076, /os combustiWes mds conterninantes como ol dlesei, ester& afecfos a mayores montos de ISC en relaci6n a tos mema contaminantes wmo el gas natura (GNV) cup ISC es cero

De otm lado, con el objetiwo de pmpiciar el m s u m o de combustibles mhs limpbs y lograr un cembio gmdual en Is math energdtica del pais, dosde el 2006, can epoya de io Coporecidn Financiem de Desanullo (CUFKIE}, se he venido Incentivando la conversidn de vahlculos a combustibles m8s limpios como el gas natural, a fin do de epmvechar al rn&wimo b s bsneficios econdmicos y medkwmblentales gcinemdos por su masificacibn. Se espera que hacia fines de 2010 elredador de 80,000 vehlcubs so hayan oonvertido e GNW. Asimismo, se viene pmoviendo la iostslacibn de la meyw canwad de

49

LUIS M. VALDIVlESO MUWAAIO ' MlNISTRO

3.4.

3.5.

4. 4.7.

4.2

estaclones de sewlcios y tderes de conversl6n a GNV. Actudmente, existen 37 estaclones de sonkb, 176 talleres de conversibn y mds de 38,000 vehfculos convertidos 8 GNV.

De o b le&, ants b urgente necesMed de conter con un sistema est8ndar de revldones tekmices vehiculams, en meyo de 2008 medmnte Ley No 28231 se establece et Skiems Naclanel de lnspecclones TBcnicas Vehiculares ax, el objetho de mrt/i%xr el buen funclonemiento del mantenlmiento de Ios vehlculos con el objeto de garantizar la soguddad del fransporte y /as COndjCiOnes ambienteles saludables. Se espere que en los prrsXimos dos &os la adecuada fiscalkacidn de la aplicacl6n de estas inspecxiones pem8a que circukn vehicukzs en adecuades Oondkkma para reducir la corrtaminacitk, corn mnsecoencla del parque aufomotor.

El Gobiemo Peruano tambit% vlene sdoptando polrticeS que ptumueven la racionalizacidn del perque rnedianfe desguase o c h a t o m vehicular. En & prdximos dos abos, se t h e prevfsto incenti&r la renovacjdn del peque automotor de vehlculos diese/ a trev&s del chatamo de los v e h k u h w n m$s de die2 eaos de antigriediid, pramoVEend0 la renovadbn de/ psrque automotor 8 vahlculos ligeros nueyos que mnwman gasofha yib GNV. Se espera M e r en el wrto plazo btindar lncenthros ternhi& en el transporte urban0 a fin de acelerar su mnovoclbn.

Sustenlbilidad en el Sector Pesca t e pmducciOn de herin8 y eceite de pescado que se realiro e psriir de io$ r e c u m de sncfioveta y anchoveta blame 9s una de tas aclivMades mBs importantes del sector pesquem en t&rminos de divisas y empleo en nuestro pals. No obstante, la experiencle do 10s dlfimos aAos ha puesto en e./dencfa que los insirumentos de regufscidn apllcados a la scUvMad extracfh de esie mcumo, no han brindado el m a m necesario pam una explotffckh e&#ente, el desamttu de mejoms condlcionos para el enipleo del sector y un mejar cuidado ambkntal. La reguiacibo aplicsda hs acasionado una c8rrw-a dmmedida entre /os agontes, quienes m p i t e n por obtener en el menor tiempo posible le mtixima pmpmidn de la cuata global autodteda para Is ternparads. E& canem EOnst&ye uns setia amenaza pera el medlo smbiente, el concentmrse todo el esfuerzo pesguem en cada vez menos dlas de pesca, lo cud obilga a IC% ermedot??~ a dewlwr al mar parte de la csptura con el fm de no exceder la mota global, congesiiona y contamifla [as bahfes por largos H e m p de espera de 10s aproxim%damente 1,200 b a r n quo cuinciden en p m s dies en las plantas indusiriales pera desargar d pescado o implde on edecuada iratamiento de 10s deshechos del p m s a de fabrfcecidn de hatine de pscado.

Pam revertir esta situacidn, en junb de est8 aAo medimte &weto Legislative No 1084, se apmbamn nuevos instrumentos regulatonbs a fin de intmduclr Is limifacibn de lo copscidad extractive de ius egentes mediants cuotas lndfvidveles. El abjetfvo es gensrar CoRdkbnes que permitan fortalecsr el

Jr, Junin 919 - Uma 'I Tdbfono: 311-5930 5

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-ARO DE w CUMWE MUNDIAWEN EL PERF .

4.3.

4.4.

amhl de lo explotecidn de h x m u m hidrubbk5gicus par parts de ias auMdt?des competentes, al permitlr una pesca mAs otdenada y en mnsecuemiw una mejor getMn ombmntaf en le exphtacidn del wwrso de la anchomtw. Adicionalmenie, la lntmdrrccidn de esta nueva medida de odenamiento pesguero pemitld en 10s siguientes ofim una rnejor planifiiaclbn en 18s qaeraciones pesqueras a1 elimlnev la incertidumbm de \a c a m par a1 recufso, lo que cwstltuya un importante incentive para invertir en mejora5 on la calkiad del procesomlento de henna y eceite de pescedo y tambidn en actividades vinculadrms a1 consumo humano dimdo.

Est0 signfficeh camblo regvlatarfo M atxrmpeffado de divgrsas medidas para mitigar 106 efectos de le reduccidn de flote sabre la fuerra laboral, Ell0 incluye el dssamllo do un progreme vofunterfo de reconveaidn laboral, el desarrallo de micro y pequeties emprms, y esquemas de jubliacidn adebniadw para b s trabejadores asoclados B la flota excedcnfe, financiado porlos armadores comprendidos dentm dol esquemo de cuotas indivjduales.

Finelmente, tambibn se ha fortalecMlo lo fiscalizecidn y opJicsci6n de sanciones a fin de asqurer la explotocidn mlonal de la pes- y evitar la pesca 17egal y permifir que el derecho de propiedad de las embamciones pesqueras que Aan sido suatituidas y que no cuenten con el pennlso de p e a , $e ejen8 sin afectar la conservaclbn y el us0 sostmido de tas recursm hkimbioMgicos, principslmente anchoveta y sardine. En 10s siguientes afios se espem continuar rnejorando el maim regulatorio del sclctor &cia otres espacies a fin de incrernenfar la competitividad del &or.

condusmn

Corno se desprende de lo damnlo, el Gobiem Psnrano cantin08 reaftzando hporfantgs accfones para mnsolldar un crechniento ocondmico sostenido ammpaAado de una mayw eficioncia y equidod en fa ssignecih d9 10s recufsos pbbjbbos, as1 cwno de uno g e W ambientel rosponsabie.

El Gobierno se m p m m e t e B continuer avanzsndo en estos 8nibitoq para lo cual requmm seguir contando con el apyo del Banco Mundiel en las Bread sefiaiadas.

En virtud do la meniiestado, por me& de la presnte ef Gobierno Peruano sdicita la aprobacidn delgP&stamo PmgramAtico de PONfica Ambientel?

Afentamte

4 \

4

- Jr. Junln 318 -Lima 1 Tclbfono: 311-5830 6

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Annex 1: Letter o f Development Policy (English)

“DECADE OF HANDICAPPED PEOPLE IN PERU” “YEAR OF WORLD SUMMITS IN PERU”

Lima LUIS M. VALDIVIESO MONTAN0

MINlSTRO

OFFICUL LETTER No -2008-EF/lO

SECTOR POLICY LETTER

Mr. Robert B. Zoellick President World Bank

Reference: Programmatic Environmental Policy Loan

Dear Mr . Zoellick,

I herewith express the commitment of President Alan Garcia Perez’s Government to continue implementing an economic policy that is geared toward development based on a continuous flow ofprivate investment, as well as an aggressive program to improve the eflciency and quality of public expenditures. These policies wi l l allow the inclusion of disadvantaged sectors of the population, thus bringing the benefits of economic growth and decentralization to the population.

Under this j-amework, the initial operation of the “Programmatic Environmental Policy Loan” has been developed with the World Bank (WB), for the requested amount of US$25 million. This loan wi l l include specific actions aimed at: I) strengthening environmental governance in the country, io sustainable management in the mining sector, ii i) the improvement of air quality, and iv) sustainability in the fishery sector.

Peru’s economic context is described below, followed by the objectives and reforms made and the proposals for the requested loan.

A. Economic Context

The Peruvian economy is facing a diflcult international context. The crisis in the US. economy caused by the mortgage market has affected financial markets, requiring Government intervention through a rescue package that was recently approved by the US. Congress. Added to this is the increase in the international prices of petroleum and food which has unleashed a worldwide wave of inflation. In our country, despite this adverse situation, economic growth continues to be solid and is mainly associated with the dynamics of internal demand. During the first half of 2008, real GDP grew 10.3%, driven by the 12.5% increase in internal demand. This growth is explained by higher private spending in a context of high business

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expectations, a signiJicant increase in imports (58.6% in the first h a y of this year), and bank credit to the private sector (29.0% in the first hayof this year).

For this year, a 9.0% growth in GDP is forecasted, with an 11.5% variation in internal demand; thus, in the coming months the GDP would sti l l remain above its potential level (which we estimate at around 7%). The objective of the macroeconomic policy that the Government is implementing is to moderate this expansion in order to make it consistent with potential growth. This way, the pressures of inflation are avoided, and sustained non-volatile growth is assured.

In addition, taking into account both the decrease in trade terms and the excess internal demand on the product, the result of the balance of the current account has become negative this year, after three years of surplus. The current account is expected to show a 1.6% deficit in the GDP during 2008. This change in the current account does not constitute a macroeconomic risk because it is mainlyfinanced by flows of direct foreign investment. However, it is a fact that must not be overlooked when short-term macroeconomic policies are designed, and it is important to achieve high fiscal surpluses in these years. These surpluses are preventive in nature, due to the deterioration in private savings caused by excess consumption. Thus, in the face of reduction in private savings, public savings must increase with the objective of lessening pressures on the current account of the balance ofpayments.

B. Reforms Associated with the Program

1.

1. 1.

1.2.

1.3.

Environmental Governance

With the objective of improving environmental management in the country and reducing the scattered, limited coordination of efforts in this area, Legislative Decree No 1013 of May 2008 created the Ministry of Environment, together with the Environmental Assessment and Enforcement Agency (Organism0 de Evaluacion y Fiscalizacion Ambiental [OEFA]), in charge of the enforcement, supervision and penalization of environmental issues in the country. The process of implementing the new ministry is currently being completed, and OEFA is expected to be fully functional next year. Moreover, the National Service of State-Protected Natural Areas (Servicio Nacional de Areas Naturales Protegidas por el Estado [SERNANP]) was created in September of this year with the objective of improving administration for the conservation of these areas and the use of their potential. The creation of these institutions is a bid for the highly important future based on better use of our resources and the preservation of the environment. The challenges are great, considering the demands faced by our population: there are still signifcant levels of poverty but at the same time there are environmental management issues that require urgent attention.

On the other hand, the Peruvian Government has Maximum Permissible Limits and Environmental Quality Standards that have recently been approved for air, water and various industrial activities. The lack of these limits and standards had hindered adequate environmental monitoring and enforcement, as reflected in air quality and water pollution problems. In the coming years, this control is expected to improve the quality of l ife of citizens, together with the implementation of other reforms that are detailed below.

In this same sense, under the framework of a results-based budget, the 2009 Budget bil l has included priority environmental management as a strategic program, among four other programs, with emphasis on air and water pollution and the development of biodiversity. Among other activities, it also allows public universities that receive mining taxes, surtaxes, and royalties to spend these resources to finance applied science research related to the preservation

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of the biodiversity and ecosystem of the geographic zone of influence where extractive economic activities and the efficient use of renewable energy and productive processes are carried out.

2. Sustainable Management in the Mining Sector

2. I . Mining plays an essential role in our country due to the wealth it has produced and our great natural resources potential. However, mining activity also has environmental effects that should be foreseen and remediated. I n this regard, work is underway to improve sectoral information and skills in order to deal with mining liabilities, both those that are the State’s responsibility and supervising and overseeing those that are the private sector’s responsibility and those that are legally without owners. Thus, a nationwide review of the inventory of mining liabilities has begun, prioritizing those that require urgent attention based on environmental, economic and public health criteria, with the aim of moving toward their f i rm remediation and gradual reduction. Progress is expected to be made by 201 1 in the process of remediating the country’s top-priority liabilities.

2.2. I n addition, Legislative Decree No 1042 of June 2008 made significant regulatory mod$cations to the Mining Liabilities Law (No 28271) with the objective of facilitating and ensuring the remediation of liabilities by the private sector. However, it is still necessary to strengthen these processes and move forward to streamline the approval of closure plans. In this regard, the remediation of liabilities w i l l be one of the key issues in the mining sector over the coming years.

2.3. Furthermore, for the purpose of strengthening social governance in mining, a new regulation was approved in May and June of this year (Supreme Decree No 028-2008-EM and Ministerial Resolution No 304-2008-MEWDM respectively) to organize and provide greater transparency to citizen participation in the concession, exploration and development of mining activities. This regulation incorporates new citizen participation mechanisms that guarantee the exercise of this right and contribute to the prevention of socio-environmental conflicts and to consensus building. I n this regard, it is hoped that participatory monitoring processes, with the full participation of populations involved in various mining projects, can be consolidated in the coming years.

2.4. I t should be noted that similar regulations have been developed for the hydrocarbons sector in order to standardize and guarantee citizen participation in the respective investment projects that are being developed by the private sector. Likewise, the various state agencies are working in coordination to prevent conflicts that Ji.equently take place due to the lack of proper communication with the population and/or to the population ’s degree of perception that its needs are not being met.

3. Air Quality

3. I . One of the aspects of most importance to environmental health is associated with air pollution, which is most serious in our country’s large cities. The principal source of pollution comes >om vehicle emissions, as indicated by World Bank studies and the recent report by the Ombudsman’s Office (Defensoria del Pueblo). I n this regard, work is underway to improve the quality of fuels used in the country, especially diesel, and to renew the vehicle f leet, which is an average of over 15 years old.

3.2. I n terms of fuel quality, Law No 28694 was approved in March 2006 to achieve the gradual eradication of diesel with high surfur content. This law established the target of sign$cantly reducing the sulfur content of diesel marketed in Peru (2,500 to 50 parts per million) by the end of 201 0. As a complement, through the regulation of this law, fixed amounts of the Selective Tax

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3.3.

on Consumption (Impuesto Selectivo a1 Consumo [ISC]) were established. These amounts w i l l be applied to fuels Porn 2008 to 2016, taking into account the criterion of the proportionate harmfulness of the contaminants contained in these fuels, so that by 2016 those fuels, such as diesel, that pollute the most wi l l be subject to higher ISC amounts in relation to lesser pollutants such as natural gas (VNG) whose ISC is zero.

In addition, with the objective of facilitating the consumption of cleaner fuels and achieving a gradual change in the country’s energy matrix, the conversion of vehicles to cleaner fuels such as natural gas has been encouraged since 2006, with the support of the Financial Development Corporation (Corporacion Financiera de Desarrollo [COFIDE]), in order to maximize the economic and environmental benefits generated by its large-scale use. I t is expected that, by the end of 2010, around 80,000 vehicles w i l l have been converted to VNG. Moreover, the installation of a large number of service stations and VNG conversion shops is being promoted. Currently, there are 37 service stations and 115 conversion shops, and over 38,000 vehicles have been converted to VNG.

3.4. Furthermore, due to the urgent need for a standardized system for the technical inspections of vehicles, Law No 29237 of May 2008 established the National System for the Technical Inspection of Vehicles (Sistema Nacional de Inspecciones Tecnicas Vehiculares) with the objective of certifying the proper function of vehicle maintenance in order to guarantee transport safety and healthy environmental conditions. I n the next two years, it is hoped that the proper enforcement of these inspections w i l l allow vehicles to operate under adequate conditions to reduce pollution caused by vehicular traffic.

3.5. The Peruvian Government is also adopting policies that promote the rationalization of the fleet by turning old vehicles into scrap metal. I n the next two years, there are plans to encourage the renovation of the diesel vehicle fleet by scrapping vehicles over I O years old, thus promoting the renovation of the f leet with new, lighter vehicles that consume gasoline and/or VNG. I n the short term, it is hoped that incentives can also be provided to urban transportation in order to accelerate its renovation.

4.

4.7. Sustainability in the Fishery Sector

The production offish meal and oil, which uses anchoveta and white anchoveta resources, is one of the most important activities of the fishery sector in terms of foreign exchange and employment in our country. However, the experience of the past two years has shown that the regulatory instruments applied to the extraction of this resource have not provided the necessary Pamework for efficient operation, for the development of better employment conditions in the sector and for better care of the environment. The regulation applied has caused an uncontrolled race among agents, who compete to obtain in the shortest time possible the maximum amount of the overall quota authorized for the season. This race constitutes a serious threat to the environment by concentrating the entire fishing effort in fewer and fewer days offishing, which obliges ship owners to return a part of their catch to the sea, congests and contaminates bays due to long waits at processing plants to unload their fish, and impedes proper treatment of waste Porn the process of manufacturing f ish meal.

4.2. To reverse this situation, in June of this year Legislative Decree No I084 approved new regulatory instruments in order to introduce a limitation on agents’ extractive capacity by means of individual quotas. The objective is to create conditions that make it possible to strengthen of control of hydro-biological resource exploitation by allowing more orderly fishing and consequently better environmental management in the use of anchoveta resources. I n addition, the introduction of this new fishery planning measure wi l l allow better planning in fishery

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4.3.

4.4.

operations over the coming years by eliminating uncertainty regarding the race for this resource. This constitutes an important incentive to invest in improvements in the quality offish meal and oi l processing and also in activities associated with direct human consumption.

This signifcant regulatory change wi l l be accompanied by various measures to mitigate the effects of f leet reduction on the work force. This includes the development of a voluntary j ob conversion program and of micro- and small enterprises and early retirement schemes for workers associated with the surplus fleet, financed by ship owners who are part of the individual quota scheme.

Finally, the enforcement and levying of penalties have been strengthened in order to ensure the rational development offishing, avoid illegal fishing and allow the right of ownership offishing boats that have been replaced and lack fishing permits to be exercised without affecting the conservation and sustainable use of hydro-biological resources, especially anchoveta and sardines. I t is hoped that the sector’s regulatory framework wi l l continue to improve in the coming years, moving toward other species in order to increase the sector’s competitiveness.

Conclusion

As demonstrated in the above descriptions, the Peruvian Government continues to carry out important efforts aimed at consolidating sustainable economic growth, accompanied by greater eflciency and fairness in the allocation of public resources, as well as by responsible environmental management.

The Government is committed to continuing to move forward in these matters, for which it needs to continue receiving the World Bank’s support in the areas indicated.

In light of the above, the Peruvian Government hereby requests the approval of the “Programmatic Environmental Policy Loan. ”

Sincereb,

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Annex 4: Complementary Projects o f the World Bank Group

Lima Urban Transport Project. The main objective o f this $45 mil l ion loan i s to assist the Municipality o f Metropolitan Lima (MML) in enhancing the economic productivity and the quality o f l i fe within the Lima Metropolitan area by improving mobility and accessibility for the metropolitan population. The link to this operation i s mainly through i t s air quality monitoring activities. The ENVDPL would seek the development o f a monitoring protocol to integrate all the air quality monitoring networks in the Lima metropolitan region.

Participatory Management of Protected Areas Project. This GEF grant o f $14.8 mi l l ion seeks to: i) insure biodiversity conservation by increasing the involvement o f c iv i l society institutions and the private sector in planning and sustainable management o f at least five protected areas (PA) o f the Peruvian System o f Natural Protected Areas (SINANPE), and one P A to be created during project implementation; and ii) obtain sustainability for the financing o f recurrent cost in SINANPE. The project builds upon the experience gained during the f i rst GEF Grant to PROFONANPE, supporting the Trust Fund's establishment and development o f i t s capacity to attract financial resources for conservation. This operation would be related to the DPL in that it i s contributing to the government's efforts in developing i t s strategy for PAS and the sustainable financial strategy.

Proposed GEF-National System for Protected Areas Proiect (PRONANP). The proposed US$10 mil l ion grant will seek to integrate the efforts o f governmental agencies, multilateral and bilateral donors, civi l society, and the private sector to lay the foundations for a broader future National Program for Protected Areas under the country's new decentralized framework. The proposed GEF grant will be blended with the proposed ENVDPL. The actions and reforms proposed relation to biodiversity conservation under Environmental Governance would contribute and complement the activities in the proposed GEF project. A close collaboration i s taking place in the preparation o f both projects.

Public Transport Improvement Lima Project. This $8.15 mil l ion grant from the GEF aims at facilitating greenhouse gases reduction from ground transport in the Metropolitan Area o f Lima-Calla0 (Le. the provincial municipalities o f Lima and Callao4') through the promotion o f a long-term modal shift to more efficient and less polluting forms o f transport, such as non- motorized transport and high-capacity public transport vehicles operated on segregated busways. A better-quality urban transport system will enhance the competitiveness o f the city and will improve the quality o f l i f e o f i t s population in general and that o f low-income groups4' in particular. The efforts under this project would complement the air quality policy reforms proposed under the DPL.

Extractive Industries Transparency Initiative Project (EITI). This multi-donor $300,000 trust fund has the purpose to support the GoP in the implementation o f the EITI, adopted by the

Callao and Lima are provincial municipalities, Lima and Callao being subdivided into 46 municipal districts. The project's NMT component spans over several low-income neighborhoods while the segregated busways

40

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system supported by the GEF serves poor outlying municipalities and link them with the city centre, hence providing low-income people with better accessibility to job opportunities

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GoP through Executive Decree No. 027-2006-EM. The EITI i s aimed at, inter alia: (a) increasing the transparency o f extractive industries payments and revenues; (b) the setting up o f an EITI National Committee; and (c) the implementation o f an action plan (the Peru EITI Action Plan) to establish mechanisms that ensure total transparency in the transfer o f payments o f the extractive industries (i.e. oil, gas and mining) to the GoP, as well as its subsequent transfer to the relevant Recipient’s governmental bodies at the central, regional and local levels. The proposed changes in the environmental and social governance, which also aim at increased transparency and public participation, would complement the government’s efforts within the framework o f EITI.

0 Second Programmatic Fiscal management and Competitiveness Development Policy Loan (FMCDPL). The proposed U S $ 370 million DPL i s intended to be the second in a series o f four loans supporting the GoP’s reform program to improve the functioning o f Peru’s public sector institutions and business environment. The loan supports two broad areas o f policy reform: (i) Efficiency and Quality o f Fiscal Management; and (ii) Competitiveness. There are close linkages between the proposed ENVDPL and the Fiscal DPL given that the proposed policy reforms under the FMCDPL are likely to lead to positive environmental management outcomes, particularly related to improved monitoring and evaluation for government expenditure, including environmental expenditure. As stated earlier, this DPL has already contributed to an inclusion o f the environment sector in MEF’s list o f result-based budgeting. The SD and PREM teams -are working closely together to ensure close complementarities among both operations. The fiscal DPL has contributed in promoting a results-based budgeting for MINAM, which i s in line with strengthening the environmental governance proposed under the proposed project.

0 Peru Liquefied Natural Gas (LNG) Project. IFC’s $300 million loan for the project was signed on June 26, 2008. This natural gas export project wi l l support economic growth in some o f Peru’s poorest regions and wil l be the largest foreign direct investment in the country’s history. Totaling $3.8 billion in costs, the Peru LNG project will also be Latin America’s first liquefied natural gas export project. In addition to financing, IFC i s advising Peru LNG to help optimize its environmental approach and ensure that local communities benefit. Also, IFC i s developing programs to engage local, communities in monitoring the effects that the project wil l have on their lives. With IFC’s support, Peru LNG i s enhancing opportunities for local businesses to sel l goods and services to the project, raising people’s incomes and job prospects. The proposed reforms under the ENVDPL are likely to strengthen the capacity o f M I N A M to evaluate, monitor and environmentally enforce large infrastructure projects. Thus, projects like CAMISEA and the Interoceanic Highway would also benefit in that the GoP would be better prepared to prevent, and if necessary address and mitigate any potential environmental impacts.

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Annex 5: Social Impacts associated with Min ing and Fisheries Sectors

The Min ing Sector

Social dimensions have recently become widely recognized as a crucial element o f the impact assessment exercise in Peru’s mining sector. Following one o f the recommendations in the AAA on the “Environmental and Social Dimensions o f the Mining Sector in Peru” (2005), the GoP created the Office o f Social Affairs in MEM. The objectives and functioning of this office have evolved since its creation in 2006 and i s currently enhancing i t s position within the agenda o f the Ministry o f Energy and Mines (MEM), including not only the mining sector, but the hydrocarbon and electricity sub-sectors as well. This office i s playing a critical role in enforcing the law of “Compromiso Previo,” which establishes a framework for mining activities to be are carried out in an environmentally and socially responsible manner, and i s supporting enhancing community consultation, participatory monitoring o f the industry, and the development of sustainable economic plans for the affected communities, in partnership with industry.

One of the main actions supported by this operation i s the clean-up o f environmental legacies in the mining sector. These actions will entail positive social impacts resulting from decontaminating water sources, soils and air, with consequent beneficial impacts on public health and job creation. The DPL also supports improving the participation of the locally affected communities, including indigenous communities, in the monitoring of the mining industry. These participatory processes wil l be developed in a tripartite fashion including the affected communities, the industry, and the government. In some regions, IFC assistance i s being provided for this purpose. Also supported are the efforts to raise the quality o f environmental assessments and the provision of guidelines on communication and resettlement by government to the industry. These guidelines are to be based both on the Bank safeguard policies and the recommendations of the recent mining AAA.

Activities supported by this DPL also include those that wil l have positive social impacts for Indigenous Peoples in Peru. The country’s legal framework with regards to Indigenous Peoples’ rights to consultation and participation i s well e~tablished~~. Although these regulations are not always properly enforced, they nonetheless provide a legal platform for Indigenous Peoplei and the Peoples’ Ombudsman to defend these rights.

The Fisheries Sector

For a long time, the fisheries sector in Peru -which has been characterized by a high degree o f informality, weak monitoring capacity, and poor enforcement of labor rights -has been plagued by environmental and social problems. This situation, however, i s beginning to change because of legal steps taken by PRODUCE in the recent years.

The employment generated by the fisheries sector in Peru i s considerable. The social impact study commissioned by the Bank43 on the commercial fishing o f anchoveta reports 1247 vessels -half of

42 Peru i s signatory of two major international conventions: the 1LO 169 Convention and the recently approved United Nations Declaration o f Indigenous Peoples Rights which provide the legal framework for the way indigenous peoples are consulted and the way they participate in the benefit sharing from project investments. 43 2008 Bernales, Antonio. “Estudio de linea base sobre la repercusion social de la reforma de la flota pesquera de anchoveta en e l Peru”. Futuro Sostenible.

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which comprise the steel fleet and the other half the wooden fleet.44 With around 16 crew members working on average in each of these vessels, there are approximately 11,000 workers in the steel f leet and 9,000 workers in the wooden fleet. Differences in the characteristics in the two fleet types will likely result in varying social impacts as a result of government policy reforms in the fishery sector. The steel fleet shows a high degree o f con~entration~~ and i s the more efficient, formalized and best linked with fishmeal and fish oil plants. The wooden fleet, in contrast, lacks linkages to fishmeal and fish o i l plants, and i s less efficient with its workers not benefitting from labor rights. The wooden fleet workers are therefore more vulnerable to any measures aimed at making the sector more efficient, less polluting and more sustainable.

To garner efficiency gains and reduce overcapacity in the sector, some experts recommend a reduction of 50 percent of the fleet in the medium and long term; while government officials are considering the reform with the launch of the quota system will reduce the fleet by around 30 percent. Under the latter option, the social impact on the fleet workforce might be the loss of around 7,000 fleet workers who would have to move to other activities within the sector, go to other sectors, or take an early retirement.

Incomes earned by fleet workers have also been suffering. Incomes generated by commercial fishing vary according to the discharged volume and the market price. Crew members with higher expertise earn much more that the common worker (the latter earn less than around US$ 2,500 per year). With continuing overcapacity in the sector, and an annual global quota, the current commercial fishing season has been reduced to only 50 days per year in the central and northern coast and to 100 days for the southern coast. Thus, the occupation i s rapidly becoming an ancillary activity for fishermen, although still more profitable in comparison to the other activities in which they engage the rest o f the year. Interviews with fishermen revealed that during the off-season, they are typically involved in artisanal fishing, agriculture, handicrafts, as taxi drivers, technicians, etc.; while workers in the wooded fleet typically turn to agriculture.

The level of organization in the fisheries sector i s also fairly low. Workers’ unions are characterized by a very low participation, partly because they do not depend exclusively on income from fishing activities to sustain their families. There are currently three unions -one o f which has 1200 members out of the 11,000 working in the steel fleet. A union representing the workers in the wooded fleet was only recently created (in 2007), and i s incipient.

Restructuring conditions in the fisheries sector could have adverse social impacts in the short term. The GOP has recently issued a Legislative Decree 1084 in which the new system of individual quotas has been established. The same law also provides for mechanisms to mitigate the social impacts resulting from the downsizing of the sector. The decree prohibits firing crew members and allows only for voluntary retirements and rotation o f workers. Also created i s a social compensation fund (FONCOPES) that will impose obligatory contribution^^^ to ship owners. This fund will

The steel fleet has a storage capacity that ranges between 65 and over 42 1 cubic meters per vessel while the wood

With 306 vessels owned by the largest seven companies (representing 70 percent o f fleet and plant capacity), 37

44

fleet has only between 3 1.5 and 1 10 cubic meters per vessel.

vessels owned by 4 medium size companies (representing 7 percent o f fleet and plant capacity), and 280 vessels owned by small companies with no integration to fishmeal and oil plants.

The amount will be determined in accordance to the individual quotas and the number o f workers per company. These amounts will be determined once the government issues the regulation (Reglamento) for the decree-law 1084 which will include the functioning o f FONCOPES.

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46

64

provide financing (a salary package) to support early retirement for workers between 50 and 55 years old; economic incentives for shifting to new economic activities for voluntary worker attrition, and a program for the creation o f micro enterprises, including training and technical assistance. The fund will be financed exclusively by the private sector with no financial costs to the government.

In addition to the contributions described above, the financing of a pension fund wil l be supported by the imposition (through Legislative Decree No. 1084) of a levy of USD 1.95 per metric ton of landed anchoveta for a maximum of ten years. This levy i s expected to result in a US$ 100 million fund. The law also states that, during this period the government wil l not change the current amount o f fishing rights that was approved in 2006.

While the new legal decree has been welcomed by the large and more efficient vessel companies as well as by environmentalists, the smaller boat builders have mostly opposed it for fear of losing competitiveness. The fleet workers, however, have been more inclined to agree with the compensation package for voluntary exit from commercial fishing, or to the entitlements on early retirement. Two workers unions have issued public statements agreeing to the labor and social provisions in the law.47 However, at the same time, one o f the main opposition parties has presented a legal proposal in Congress to rescind the decree that establishes the quota system. This proposal i s being supported by the association representing small ship owners who feel most impacted by the new system. This represents a significant social risk whose outcome will depend on how other parties in Congress position themselves vis-&vis the government’s quota law.

Another risk relates to the potential for workers leaving commercial anchoveta fishing for fishmeal processing, thereby creating extraordinary pressures on artisanal fishermen and fish resources. While the GoP has frozen permits for new fishmeal plants, they are being opened on the southern coast.48 This situation has provoked claims from one union o f artisanal fishermen that i s concerned with the fishery resource impacts o f these plants. To address this, the Minister has agreed to review the permit granting process and to revoke permits if mistakes were made in their issuance.

.

The reform process of the fisheries sector i s complex but necessary to enable this vital economic agent and i t s workers to remain viable in the medium and long-term. While GoP’s resolve to reach consensus will be tested, the proposed operation supports social mitigation measures embedded in the approved legislation.

The government’s position i s that these permits were given before the freeze became effective. 48

65

Annex 6: Country at a Glance

Peru a t a glance 1 1 /6/08

Key Deve lopmen t Ind i ca to rs

(2007)

Population. mid-year (millions) Surface area (thousand sq. km) Population growth (%) Urban population (% of total population)

GNI (Atlas method, US$ billions) GNI per capita (Atlas method, US$) GNI per capita (PPP, international $)

GDP growth (%) GDP per capita growth (%)

(most recent estimate, 2000-2007)

Poverty headcount ratio at $1.25 a day (PPP, %) Poverty headcount ratio at $2.00 a day (PPP, %) Life expectancy at birth (years) infant mortality (per 1,000 live births) Child malnutrition (% of children under 5)

Adult literacy, male (% of ages 15 and older) Adult literacy, female (% of ages 15 and older) Gross primary enrollment, male (% of age group) Gross primary enrollment, female (% of age group)

Access to an improved water source ( % of population) Access to improved sanitation facilities (% of population)

Peru

28,2 1.285

1,1 71

95,O 3.400 7.240

8 3 7,6

13 31 71 21

5

94 82

116 117

84 72

Latin America B Carib.

563 20.421

1.2 78

3.118 5.540 9.320

5,7 4 3

8 18 73 22

5

91 89

120 116

91 78

Lower middle income

3.437 35.510

1 ,o 42

6.485 1.887 4.544

9,7 8,6

69 41 25

93 85

112 109

88 54

N e t A id Flows

(US% millions) Net ODA and omciai aid Top 3 donors (in 2006)

United States Spain European Commission

Aid (%of GNi) Aid per capita (US$)

Long-Term Economic Trends

Consumer prices (annual % change) GDP implicit deflator (annual % change)

Exchange rate (annual average, local per US$) Terms of trade index (2000 = 100)

Population, mid-year (millions) GDP (US$ millions)

Agriculture ' Industry

Manufacturing Services

Household final consumption expenditure General gott final consumption expenditure Gross capital formation

Exports of goods and services imports of goods and services Gross savings

1980

201

53

1

1 ,o 12

60.1 65,9

0,o

17,3 20.661

10.0 36,8 20.2 39,l

57,5 1 0 3 29.0

22.4 19,4

1990

397

79 6

22

1,6 18

7649.0 6.836,9

0.2 126

21,8 26.294

2000

398

92 19 24

0.8 15

3,7 3,7

3,5 100

2 5 7 53.290

( X of GDP) 7,2 7-8

22,9 27.3 14,9 14.4 53.7 56,2

73,7 71,4 7,9 10.6

16,5 20,2

15,8 16,O 13,8 18,2 19.3 20,2

2007 '

468

187 69 54

0,6 17

3.9 2,o

3,1 158

28,2 109.219

6,1 33.8 1 4 5 51.6

61,5 9.1

22,9

28:9 22.4 23,6

Age distribution, 2007 I Male Female

15 10 5 0 5 10 15

percent

Under-5 mortality rate (per 1,000)

90 80 70 60 50 40 30 20 10 0

1990 1995 2000 2006

OPew 0 Latin America a the Caribbean

I Growth of GDP and GDP per capita (%)

1980-90 1990-2000 2000-07 (average annual growth X ) 2 3 1,6 1.2

-0,l 4,7 5 4

Note: Figures in italics are for years other than those specified. 2007 data are preliminary. .. indicates data are not available. a. Aid data are for 2006.

Development Economics. Development Data Group (DECDG)

66

Peru

Balance of Payments and Trade

(US$ millions) Total merchandise exports (fob) Total merchandise imports (cif) Net trade in goods and services

Current account balance as a % of GDP

Workers' remittances and compensation of employees (receipts)

Reserves, including gold

Central Government Finance

(W of GDP) Current revenue (including grants)

Current expenditure

Overall surplusldeficit

Highest marginal tax rate (%)

Tax revenue

Individual Corporate

External Debt and Resource Flows

(US$ mi//ions) Total debt outstanding and disbursed Total debt service Debt relief (HiPC, MDRI)

Total debt (% of GDP) Total debt service (% of exports)

Foreign direct Investment (net inflows) PoMoiio equity (net inflows)

'

2000 2007

6,955 27,956 7,358 19,599

-1,138 7,429

-1,546 1,505 -2.9 1.4

718 2,131

8,563 21,720

14.9 17.9 12.2 15.4 15.1 12.5

-2.8 1.8

20 30 30 30

28,639 32,155 2,571 7,405 - -

53.7 29.2 27.8 22.5

810 5,343 123 130

Composition of total external debt, 2007

IBRO. 2.649 , /IDA. 0

IMF 0 Short-lerm 5 606

Other multi- Ialerd 5 202 f3 Bllaleral 3 900

PrlYBte I 5 w2

Private Sector Development

Time required to start a business (days) Cost to start a business (% of GNI per capita) Time required to register property (days)

Ranked as a major constraint to business (% of managers surveyed who agreed)

Anticompetitive or informal practices Tax administration

Stock market capitalization (% of GDP) Bank capnal to asset ratio (%)

2000 2008

- 65 - 25.7 - 33

2000 2007

.. 22.1

.. 17.9

19.8 98.8 9.1 8.6

IGovemance Indicators, 2000 and 2007

Voice and accountability

Political stability

Regulatory quality

Rule of law

Control of wrruption I 1 0 25 50 75 I W

Country's percentile rank (0-100) h g h r YLIIueb mpfy Ma mmps

0 2007 0 2000

S o u m Kaufrnann-Kraay-Maatrum World Bank

Technology and Infrastructure

Paved roads (% of total) Fixed line and mobile phone

High technology exports subscribers (per 100 people)

(% of manufactured exports)

Environment

Agricultural land (% of land area) Forest area (% of land area) Nationally protected areas (% of land area)

Freshwater resources per capita (cu. meters) Freshwater withdrawal (% of internal resources)

C02 emissions per capila (mt)

GDP per unit of energy use (2005 PPP $ per kg of oil equivalent)

Energy use per capita (kg of oil equivalent)

World Bank Group portfollo

(US$ mllllonsj

IBRD Total debt outstanding and disbursed Disbursements Principal repayments Interest payments

IDA Total debt outstanding and disbursed Disbursements Total debt service

IFC (fiscal yead Total disbursed and outstanding portfolio

Disbursements for iFC own account Portfolio sales, prepayments and

repayments for IFC own account

of which IFC own account

MlGA Gross exposure New guarantees

2000

134

12

3 6

17 541

1 2

1 1

11 4

408

2000

2,590 266 93

189

292 157 70

10

329 40

2007

14 4

65

2 0

17 53 7 16 9

59,250

1 2

12 8

506

2007

2,649 256 24 1 150

- - -

324 31 1 148

24

8 0

Note: Figures in italics are for years other than those specified. 2007 data are preliminary. .. indicates data are not available. -indicates observation is not applicable.

Development Economics, Development Data Group (DECDG).

1 1/6/08

67

Millennium Development Goals Peru

kas les immunization (Yo of 1-year olds)

With selected targets to achieve between 1990 and 2015 (esbmate closest to date shown, +/- 2 years) Peru

ICT indicaton (per 100 people)

Goal 1: halve the rates for extreme poverty and malnutrition 1990 1995 2000 2007

Poverty headcount ratio at national poverty line (% of population) 5 4 3 53,l Share of income or consumption to the poorest qunitile (%) 5,6 4.4 3,O 3.7 Prevalence of malnutrition (% of children under 5) 8,8 5,7 5 2

Poverty headcount ratio at $1.25 a day (PPP, % of population)

100

15

50

25

0 1940 1995 2000 2006

Goal 2: ensure that chlldren are able to complete prlmary schoollng Primary school enrollment (net, %) 88 96 96 Primary completion rate (% of relevant age group) 103 101 Secondary school enrollment (gross, %) 67 07 94 Youth literacy rate (% of people ages 15-24) 95 97

70 60 50 40

30 20

10

0 2000 2002 2004 2006

Goal 3: eliminate gender disparity In education and empower women Ratio of girls to boys in primary and secondary education (%) 96 97 101 Women employed in the nonagricultural sector (% of nonagricultural employment) 31 33 38 Proportion of seats held by women in national parliament (%) 6 1 1 11 29

Goal 4: reduce under-5 mortality by two-thirds Under-5 mortality rate (per 1,000) 70 63 41 25 Infant mortality rate (per 1,000 live births) 56 40 33 21 Measles immunization (proportion of oneyear olds immunized, %) 64 98 97 99

Goal 5: reduce maternal mortailty by three-fourths Maternal mortality ratio (modeled estimate, per 1 00,000 live births) 240 Births attended by skilled health staff (% of total) 80 56 59 87 Contraceptive prevalence (% of women ages 1549) 59 64 69 46

Goal 6: halt and begin to reverse the spread of HlVlAlDS and other major diseases Prevalence of HIV (% of population ages 1549) 0,4 0.5 Incidence of tuberculosis (per 100,000 people) 360 295 225 162 Tuberculosis cases detected under DOTS (%) 101 07 96

Goal 7: halve the proportlon of people without sustainable access to bask needs Access to an improved water source (% of population) 75 79 81 84 Access to improved sanitation facilities (% of population) 55 60 65 72 Forest area (% of total land area) Nationally protected areas (% of total land area) C02 emissions (metric tons per capita) GDP per unit of energy use (constant 2005 PPP $ per kg of oil equivalent)

Goal 8: develop a global partnership for development Telephone mainlines (per 100 people) 2,6 4 5 6,7 9,6 Mobile phone subscribers (per 100 people) internet users (per 100 people) Personal computers (per 100 people)

Education Indicators (%)

125

100

15

50

25

0 2000 2w2 2w4 2006

&Pnmary net enrollment ratio

+Ralio 01 girls lo boys In pnmary & n Seconda education

0,o 0 3 5.0 55.3 0,o 0,o 3 , l 27,4

1 3 4,1 10,3

0 Fixed + mobile subscnben 0 Peru 0 Latin Amenca &the Canbbean I I Olntemet use,6

I I

Note: Figures in italics are for years other than those specified. .. indicates data are not available.

Development Economics. Development Data Group (DECDG).

11/6/00

68

Andes M

tns.

NevadaNevadaHueascaránHueascarán(6768 m)(6768 m)

NevadaNevadaYerupajaYerupaja(6634 m)(6634 m)

NevadaNevadaSalcantaySalcantay(6271 m)(6271 m)

NevadaNevadaCoropunaCoropuna(6271 m)(6271 m)

NudoNudoAusandateAusandate(6384 m)(6384 m)

TUMBESTUMBES

HUANUCOHUANUCO

P A S CP A S C O

J U N I NJ U N I N M A D R EM A D R ED E D I O SD E D I O S

I C AI C A

A R E Q U IA R E Q U I P A

T A C NT A C N A

L I M AL I M AC

AJ A

MA

RC

A

P I U R AP I U R A

AM

AZ

ON

AS

ANCASHANCASH

L O R E T OL O R E T O

S A NS A NM AM A R T IR T I N

U CU C A Y AA Y A L ÍL Í

HUANCA-HUANCA-VELICAVELICA

P U N OP U N O

C U S C OC U S C O

AYA

CU

CH

O

APUR IMAC

LA LIBELA LIBERTARTADSantaSantaLuciaLucia

TalaraTalaraSullanaSullana

TarapotoTarapoto

YurimaguasYurimaguas TamáncoTamánco

ArcadiaArcadia

Puerto CurarayPuerto Curaray

CaballocochaCaballococha

Tingo MaríaTingo María

SanSanIgnacioIgnacio

SihuasSihuas

Ayar MancoAyar Manco

SayánSayánSatipoSatipo

AynaAyna

QuillabambaQuillabambaSintuyaSintuya

AtalayaAtalaya

LanlacuniLanlacuniBajoBajo

AstilleroAstillero

CaillomaCailloma

DesaguaderoDesaguadero

AlcaAlca

JuliacaJuliaca

NazcaNazca

PuquioPuquio

LaLaOroyaOroya

GoyllarisquizgaGoyllarisquizga

HuarazHuaraz

ChiclayoChiclayo

PiuraPiura

HuancavelicaHuancavelica

HuancayoHuancayo

AyacuchoAyacucho

AbancayAbancayCuscoCusco

PuertoPuertoMaldonadoMaldonado

PunoPuno

MoquegaMoquega

TacnaTacna

ArequipaArequipa

IcaIca

Cerro deCerro de Pasco Pasco

Huánuco Huánuco

MoyobambaMoyobamba

IquitosIquitos

CajamarcaCajamarca

ChachapoyasChachapoyas

PucallpaPucallpa

LIMALIMAA

nd

es

M

tn

s.

ECUADORECUADOR COLOMBIACOLOMBIA

BRAZILBRAZIL

BOLIVIABOLIVIA

CHILECHILE

To To LojaLoja

To To MachalaMachala

To BelénTo Belén

To To VisviriVisviri

To To La PazLa Paz

To To CarabucoCarabuco

To SanTo SanBuenaventuraBuenaventura

To To CruzeiroCruzeirodo Suldo Sul

7575°W 7070°W

1515°S

1010°S

Huacho

Chimbote

SantaLucia

TalaraSullana

Tarapoto

Yurimaguas Tamánco

Arcadia

Puerto Curaray

Caballococha

Tingo María

SanIgnacio

Sihuas

Ayar Manco

Sayán

Pisco

Satipo

Ayna

QuillabambaSintuya

Atalaya

LanlacuniBajo

Astillero

Cailloma

Desaguadero

Alca

Juliaca

Mollendo

NazcaCaballas

San Juan

Antiquipa

Atico

Puquio

LaOroya

Goyllarisquizga

Callao

Huaraz

Trujillo

Chiclayo

Tumbes

Piura

Huancavelica

Huancayo

Ayacucho

AbancayCusco

PuertoMaldonado

Puno

Moquega

Tacna

Arequipa

Ica

Cerro de Pasco

Huánuco

Moyobamba

Iquitos

Cajamarca

Chachapoyas

Pucallpa

LIMA

ECUADOR COLOMBIA

BRAZIL

BOLIVIA

CHILE

TUMBES

LAMBA-YEQUE

HUANUCO

P A S C O

J U N I N M A D R ED E D I O S

I C A

A R E Q U I P A

MOQUEGUA T A C N A

L I M AC A L L A O

P I U R A

ANCASH

L O R E T O

S A NM A R T I N

U C A Y A L Í

HUANCA-VELICA

P U N O

C U S C O

AYA

CU

CH

O

APUR IMAC

LA LIBERTAD

CA

JAM

AR

C

A

AM

AZ

ON

AS

Napo

Pasta

za

Putumayo

Yavari

Amazonas

Ucayali

Ucayali Apurim

ac

Marañon

Santiago

Huallaga

Urubamba

Madre de Dios

Inambari

Purús

Tigre

Corrientes

PACIFICOCEAN

LagoTiticaca

To Loja

To Machala

To Iquique

To Belén

To Visviri

To La Paz

To Carabuco

To SanBuenaventura

To Cruzeirodo Sul

Andes M

tns.

An

de

s

Mt

ns

.

NevadaHueascarán(6768 m)

NevadaYerupaja(6634 m)

NevadaSalcantay(6271 m)

NevadaCoropuna(6271 m)

NudoAusandate(6384 m)

80°W 75°W 70°W

75°W

10°S

5°S

0°

15°S

10°S

5°S

0°

PERU

IBRD 33465R

NOVEMBER 2006

PERUSELECTED CITIES AND TOWNS

REGION CAPITALS

NATIONAL CAPITAL

RIVERS

MAIN ROADS

RAILROADS

REGION BOUNDARIES

INTERNATIONAL BOUNDARIES

0 100 200

0 100 200 Miles

300 Kilometers