Joint UNDPIWorld Bank

ENERGY SECTOR MANAGEMENT ASSISTANCE PROGRAMME (ESMAP)

ESMAP COUNTRY PAPER

ECUADOR

October 1991

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JOINT UNDP/WORLD BANK ENERGY SECTOR MANAGEMENT ASSISTANCE PROGRAMME (ESMAP)

ESMAP COUNTRY PAPER (ECP)

What Is an ECP?

With the cooperation of the government of each participating country, the ESMAP Strategy and Programs Division prepares an ECP, whose overall purpose is to define a multi-year work program for energy sector activities in the country. ECPs are generally divided into four principal parts: (1) main issues in the energy sector and current government policies and programs; (2) critical factors for implementing programs and ensuring the support of the international community (including the Bank and ESMAP) to overcome them; (3) rationale and justification for ESMAP's involvement; and (4) the proposed program, with a description of the basic features of each activity. These include its contribution to the overall energy strategy, operational objectives, priority, -.

budget, and interfaces within the ESMAP program and with other initiatives. Annexes provide further details on the country's energy sector and on proposed activities. ECPs are updated as necessary in light of conditions in the country and progress in the implementation of the work program.

The ECP Process

An ECP is a process as well as a product. It usually builds on ESMAP's previous experience in the country's energy sector, on sustained dialogue with the government and relevant energy institutions, and on joint missions and discussions with the World Bank, UNDP, and other involved agencies. It involves a preliminary draft by ESMAP, in conjunction with World Bank staff, based on dialogues with local institutions; a mission by an ESMAP staff member to the country, consultation with the UNDP, donors, and government officials; a review and clearance of the draft ECP by World BankJESMAP management, reflecting also the views of the UNDP resident representative; the clearance of the final draft by the government; and presentation of the ECP to the donors.

Joint UhDP/World Bank Energy Sector Management Assistance Programme

(ESMAP)

ESMAP COUNTRY PAPER

ECUADOR

ECP no. 004191

October 1991

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

ABBREVIATIONS

BCF krn MW kwh Mm3 Mbbl TBD TCF toe tPY

ADL DINAMA DNH EEC ESMAP

GTZ IFP INE INECEL

Billion cubic feet Kilometers Megawatt Kilowatt hour Million cubic meters Million Barrels (of oil) Thousand barrelstday Trillion cubic feet Tons of oil equivalent Tons per year

ACRONYMS

I

Arthur D. Little (Consulting Firm) Direction Nacional del Medio Anrfre\tte (MEM) National Hydrocarbon Directorate European Economic Community (Now EC) Joint UNDPIWorld Bank Energy Sector Management Assistance Programme German Technical Cooperation Agency French Petroleum Institute National Energy Institute Ecuadoran National Electrification Institute

MEM Ministry of Energy and Mines PetroEcuador The Ecuadoran State Oil Corporation

LAC The World Bank's Latin America and the Caribbean Regional Office LATEN World Bank LAC Region Environmental Division (Technical Dept.) TDP Trade and Development Program (USA) UNDP United Nations Development Programme

The exchange rate at the time this document was prepared was US$1 = 1175s.

ESMAP COUNTRY PAPER

ECUADOR

TABLE OF CONTENTS

Page

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . EXECUTIVE SUMMARY vii

. . . . . . . . . . . . . . . . . I . ENERGY SECTOR ISSUES AND OBJECTIVES 1

Energy and the Economy . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1 . . . . . . . . . . . . . . . . . . . . . . . . . Main Issues in the Energy Sector 3

. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Long-term Problems 5 Government Approach to Economic and Sector Development . . . . . . . . 6

. . . . . . . . . . . . . I1 . CRITICAL FACTORS IN THE ENERGY STRATEGY 7

I11 . INTERNATIONAL AND ESMAP ASSISTANCE . . . . . . . . . . . . . . . . 8

. . . . . . . . . . . . . . . . . . . . . . . . . . IV ESMAP'S PROPOSED PROGRAM 9

1 . Pricing and Interfuel Substitution. Social Impact. and Mitigation of . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . Effects 10

2 . Reorganization of INE . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11 3 . Institutional Study of INECEL . . . . . . . . . . . . . . . . . . . . . . . . 12

. . . . . . . . . . . . . . . . . . . 4 . Petroleum and Gas Strategy and Reform 12 5 . Environment and Energy Conservation . . . . . . . . . . . . . . . . . . . . 13

. . . . . . . . . . . . . . . . . ANNEX I: TASK DESCRIPTIONS AND BUDGETS 15

EXECUTIVE SUMMARY

A highly politicized approach to price policy and the lack of an independent regulatory apparatus to consider the economic and technical elements that enter into pricing decisions has resulted in erratic policies and high costs to the state budget. Given the prominence of the energy sector in Ecuador, its inefficient management has macroeconomic consequences, and thus financial support from the World Bank and other multilateral and bilateral institutions has not been forthcoming in large volumes.

Adjustment in the energy sector--especially in relation to pricing, regulatory, and organizational issues-is a key to giving Ecuador credibility with its development partners abroad. The Government's strategy in the sector is somewhat inconsistent. Ecuador's policies in oil exploration and production are well conceived, and Ecuador would like to preserve its oil-exporting status, conserve energy, and provide it at reasonable cost to all consumers. Yet its price and tax policies result in large, indiscriminate subsidies (approaching US$500 million, or 5 percent of GDP); excessive, low-priority energy consumption; and contraband trade.

The Bank's and ESMAP's relationship with Ecuador is of long standing, but it has been dominated by a lack of joint vision on the major problems of the sector and on how to resolve them. ESMAP thus has designed a two-part work program-the first part aiming to advance the dialogue on energy price and institutional policies; the second, to support the Government in implementing its decisions. Because the second part would be ineffective without appropriate sector policies, it would not be carried out before mid- 1992, in the expectation that there will then have been sufficient progress on policy reform to make implementation meaningful.

The tasks proposed have the strong support of Ecuador and of the Latin American Region of the World Bank. They are listed below in rough order of priority, and proposed budgets are noted in Table 1.

Energy Stmtegy: Pricing and Interfuel Substitution, Social Impad Assessment, and Mitigation of Efleds. Ecuador maintains low energy prices and tariffs in which subsidies on oil and electricity consumption approach $500 million per year. Subsidies on most forms of energy seem to accrue to middle- and upper- income consumers; however, convincing the Government to change its policy will require an empirical study using largely local experts to investigate the effects of the subsidies. This study was discussed during Mr. Conable's recent visit to Ecuador and would facilitate progress on broad energy sector reforms while assessing the impact of an improved pricing policy on the poor. The study will cover pricing and interfuel substitution; energy consumption by lower- income and special target groups (women, indigenous peoples); and design of programs to mitigate the impact of pricing and other changes on low-income consumers.

viii ESMAP COUIKTY PAPER

2. Reorganization of INE. Sector coordination and policy advice are responsibilities of the National Energy Institute (INE), which, for a variety of reasons, has not been able to fulfill them. Ongoing and proposed reforms relating to the sector enterprises that currently have regulatory responsibilities suggest that the role and accountability of the regulator need to be examined. This activity would examine the role of INE, both in the advisory capacity and regulatory role, recommend appropriate regulatory and institutional alternatives, and present the findings in a seminar or workshop. The study would be conducted by an on-the-scene team of highly qualified Ecuadoran and international experts coordinated by World BankIESMAP staff. This would be a modest, low-cost effort, but it would be one of the first steps required in the path toward a more dynamic, deregulated energy sector.

3. Institutional Study of INECEL. There is broad support for carrying out the proposed Institutional Study of INECEL, the state power generation and transmission utility. Funding has been secured under an ongoing World Bank project. The proposed ESMAP task would cover technical assistance to the reorganization of the electric power subsector including assistance on drafting of TORS, supervision of the study while it is being carried out, assistance in evaluating and internalizing the results and in assisting in some of the implementation. This would be a modest exercise, but it could lead to a significant benefit for sector reform.

4. Petroleum and Gas Stmtegy. The reorganization of PetroEcuador in late 1989 into a holding company and a number of subsidiaries-which are cost centers rather than full firms-represented an important first step toward greater efficiency in oil operations. PetroEcuador is seeking further reform of its operations by carrying out several studies (with IFP on a strategy for development of heavy crudes; with the TDP on petroleum development and enhanced recovery; and with ADL on crude marketing strategies) that will help it map a petroleumlgas strategy over the medium to long term. ESMAP could help in this process by reviewing these studies and by helping to carry out the further reforms needed to turn PetroEcuador's subsidiaries into true, autonomous, profitaiented companies. In addition, because downstream activities (such as wholesale trade and distribution of oil products) are, at present, run least efficiently, ESMAP could participate by bringing to bear its experience in other countries.

5 , Energy and Environment. Although energy conservation has attracted considerable attention from donors (e.g., the EEC, GTZ, and UNDP), it will have little potential in Ecuador until price policy reforms are decided and acted upon. ESMAP is aware of the large-scale environmental project now being conducted by the World Bank (LATEN) and will closely coordinate its institutional-environmental work with LATEN to avoid overlapping or

ECUADOR ix

competition. ESMAP proposes to assist INE in drawing out the common themes of environment-related tasks (e.g., audits or assessments) and systematizing these experiences with a view to issuing general principles or guidelines for future projects. In addition, ESMAP can help INECEL to set up an environmental management structure to conduct or evaluate (or both) environmental audits of ongoing activities and impact assessments of proposed investments. Another

I ESMAP environmental activity would involve funding of environmental audits for a few important activities such as the many energy-related activities located in El Salitral, near Guyasuil, the Esmeraldas Thermal Electric Power Plant (the country's largest such plant), and the Esmeraldas-Quito pipeline (which is apparently deteriorating). These tasks are scheduled for 1993, but the Ecuadoran Government has insisted that at least one task must begin in 1992. ESMAP also plans extensive activity in energy conservation and is prepared to offer training and technical assistance to DINAMA, the Directorate of the Subsecretariat for the Environment of the Ministry of Energy and Mines.

TABLE I . Proposed Budget for ESMAP Work Progmm, Ecuador (US$ '000)

A C m l Y DONOR 1992 1993 1994' TOTAL

1. Pricing and Interfuel Substitution; Social Impact; Mitigation

2. Reorganization of INE 3. Institutional Study of INECEL 4. Petroleum and Gas Strategy 5. Energy and Environment:

Introduction of Environmental Variables in Energy Planning

Environmental and Power Planning Environmental Audits (34 projects) Energy Conservation Training and TA to DINAMA

TOTALS Of which unfunded

Unfunded

Unfunded Unfunded Unfunded

Unfunded Unfunded Unfunded Unfunded Unfunded

' The amounts indicated for 1994 are for expected follow-up of the 1992-93 work program. These are not precisely identified tasks but are indicative requirements. The total funding required for tasks in the 1992-93 work program is US$1.435 million.

x ESMAP COUhTRY PAPER

ESMAP COUNTRY PAPER

ECUADOR

ECUADOR (1989) Area: 27 1,726 km2

Population: 10.3 million Agriculture's share in GDP: 15 %

GNP: US$10.7 billion Real GNP growth rate, 1980-89: 2.2%

Per capita GNP: US$1,040 Per capita GNP growth, 1980-89: -0.5 %

I. ENERGY SECTOR ISSUES AND OBJECTIVES

This paper proposes an ESMAP work program for Ecuador that supports structural reforms in the energy sector and assists the Government in implementing its strategy. The World Bank and ESMAP's long relationship with Ecuador has been dominated by a lack of complete agreement on the major problems of the energy sector and on how to resolve them. For this reason, the work program emphasizes two sequential components, the first aiming to contribute to the dialogue on improving energy price and institutional policies; the second, to assist the Government and support it in implementing its decisions once policies are established.

Energy and the Economy

A brief description of macroeconomic policies will help define the framework in which sector policies would need to operate. Between 1972 (when Ecuador began producing and exporting oil in large quantities) and 1981, the fundamental economic policies of Ecuador were set on the basis that oil would provide ever-increasing resources to meet every need. The nominal exchange rate remained fixed (at S/25/$) over that entire period and became so overvalued (imports were so much cheaper than domestic production) that exporting anything but oil became unprofitable. Among the casualties was commercial agriculture, which was all but destroyed. Oil transfers were used to

2 ESMAP COUNTRY PAPER

provide basic infrastructure and to subsidize many goods and services, ranging from antibiotics to credit (especially to favored sectors and activities). When oil revenues became scarcer in relation to ever-expanding consumption needs, Ecuador borrowed abroad on the strength of its oil exports and thereby multiplied the external public debt about tenfold over this period.

Since 1981, exchange and interest rate policies have reversed some of the consequences of the policies of the 1970s. Ecuador now needs to extend these more appropriate policies to the energy sector, a task that ESMAP proposes to support, together with the Bank's LAC Region, the IDB, OLADE, and other multilateral and bilateral agencies interested in assisting Ecuador's economic development.

In the early 1990s, the energy sector accounted for about 20 percent of the GDP of Ecuador. The economic value of Ecuador's oil output (about 110 Mbbl per annum) is approximately $1.8 billion. Electricity sales (on a generation of about 6000 GWh per annum but with sizable losses) amounted to about $150 million, roughly 50 percent of economic costs. The nearly 40 percent of oil production that is consumed domestically gives rise to a subsidy of about $500 million (or about $50 per capita per annum). With a per capita GDP of about $1,000, Ecuador is a middle-income, small-oil-exporting country with an energy intensity in production and consumption well above the Latin American average, mostly as a result of nearly 20 years of low prices for oil and electricity. There still is a substantial undeveloped hydro potential (theoretical, 73,000 MW; economically developable, 21,500 MW). In oil, proven recoverable reserves are said to be about 1.5 to 1.7 billion barrels and will thus last for 15 to 17 years at the present level of production.' Although there is associated gas in the Oriente (0.4 TCF) and some unassociated gas in the Gulf of Guayaquil, (0.16 TCF), the first is tied to oil recovery (and is in modest volumes), whereas the complicated geology of the latter area creates major uncertainties in the size of potential reserves. For these reasons, there has been little investment in natural gas production. A large share of the present output (about two-thirds is produced by Petroamazonas, the temporary affiliate of Petroecuador that operates the Shushufindi and other fields of the Corporation Estatal Petrolera Ecuatoriana (CEPEFTexaco joint venture. The entire field is to revert to the state in 1992, and the state is already taking over operations.

Ecuador's energy balance shows that the largest share of needs (about three- quarters) is covered by consumption of petroleum products. At the other end of the energy chain, about 20 percent of consumption is accounted for by wood and other biomass, with gas and hydroelectricity accounting for the rest (3 to 4 percent). Over the past decade or so, while consumption of traditional fuels has continued to increase in

1. lhere is some controversy about the level of reserves, and a more conservative estimate (embodied in the 1988 ESMAPIlNE Energy Strategy Study) was of 1.1 billion barrels, which, together with the oil strikes of thefiPh exploration campaign (200.300 million barrels), less the output of the years 1989-91, would leave reserves at about the same level at end-1991, with about 11 years' production. mere is aLso considerable uncertainty about the additional reserves that could be proved with enhanced recovery, with estimates varying between 100 Mbbl and 1,000 MbbL

ECUADOR 3

absolute terms (at about 1.6 percent p.a.), it has fallen (by about 3 percent) as a share of total consumption, displaced mostly by heavily subsidized LPG and kerosene (growing at 14 to 15 percent p.a. and tripling their share of consumption from about 2.5 to about 7.0 percent over the past decade).*

Main Issues in the Energy Sector

Politicization of energy pricing policies and the lack of an independent regulatory apparatus to consider the economic and technical elements that enter into pricing decisions have resulted in large subsidies to oil and electricity consumption and a lack of resources for the public enterprises responsible for supplying oil and electricity, which have had to rely on budget transfers to cover costs and finance investment. The importance of the energy sector in Ecuador means that its inefficient management has macroeconomic consequences, and this is one of the reasons financial support from the World Bank and other multilateral and bilateral institutions has not been forthcoming. Adjustment in the energy sector, especially pricing, regulatory, and organizational issues is thus crucial for Ecuador's credibility with its development partners abroad, and hence this work program seeks to assist Ecuador in rethinking its energy pricing policies and its regulatory apparatus (three ESMAP tasks costing $435,000). Because the implementation phase of the work program would be essentially ineffective without appropriate sector policies, it would not be initiated before mid-1992 or early 1993, in the hope that there will then have been sufficient policy reform to make the rest of the work program feasible.

The main problems confronting the sector have to do with inappropriate sector economic policies especially energy pricing and sector regulation. The final average selling price for a barrel of refined products is about $16, with the September 1991 price increases, whereas the opportunity cost is about $27, so that on each of the approximately 40 million barrels consumed annually in Ecuador, there is a subsidy of about $1 1 to $12, or almost $500 million in the aggregate. In addition, the monopolization of downstream activities by the state corporation PetroEcuador (except for retail distribution, which is private but operates on a cost-plus basis) and the resulting absence of competition has led to low efficiency. Even privately owned refineries, before their recent takeover by the state, were relatively inefficient because they operated within a cost-plus regulatory system. The Hydrocarbons Law, which sets the organization of the subsector and the basis for pricing policies, established obstacles to the entry of private capital in petroleum activities such as refining, processing, and marketing (wholesale).

The outgoing administration tried to change the pricing policy by opting for gradual monthly increases in the prices of oil products. However, because of a fairly high inflation (about 3 to 4 percent per month), this policy failed to effect a real increase in oil prices (although, until its abandonment in late 1990, the policy did prevent the

2. Kerosene is heavily subsidized, but consumption for cooking is falling because large volumes are resold to industrial users; domestic users prefer the also heavily subsidized but more pleasant LPG.

4 ESMAP COUNTRY PAPER

erosion of oil pr i~es) .~ By mid-1991, real internal oil prices in Ecuador had fallen back to their level of early 1988 (between $0.30 and $0.40 per gallon of refined products), when the present administration undertook a drastic increase (more than 100 percent in August 1988). The price increase that was recently effected (September 1991) was only about 20 percent and was accompanied by extraordinary mitigating measures (such as a freeze on mass transportation fares and the establishment of a subsidy program), which might have been justified if the increase had been substantially larger. The need for larger price increase, however, exists as domestic oil prices are only about 50 percent of opportunity costs and the overall budget deficit for 1991 (despite expenditure-cutting measures already taken) is estimated at above 1 percent of GDP and is an important cause of the high and stubborn inflation that besets the Ecuadoran economy.

The pricing policy for hydrocarbons at present proceeds directly from the Hydrocarbons Law, which was originally designed to make sure that the costs of importing oil (Ecuador was an oil importer before 1972) were being recovered. Applying the same principles to domestically produced oil is having the perverse results noted above: costs are interpreted in the narrowest accounting sense (historical costs in a high inflation situation result in a huge under estimate of real financial costs); and, at present, they exclude depletion and the costs of preventing or correcting environmental injuries resulting directly from oil operations. There is another legal problem affecting hydrocarbons operations-that the legislation does not deal adequately with natural gas finds. On the other hand, earlier difficulties in setting the remuneration of companies producing heavier oil have been resolved with the adoption of market crudes. Depending how market prices evolve in relation to the remuneration formula (which is related to costs), the profitability for Ecuador and PetroEcuador of these petroleum operations could be marginal.

Basic sector coordination does not currently take place in the sense that the state as regulator is not separate from the state as owner of the oil and electric power companies. The Ministry of Energy and Mines (MEM)--theoretically advised by the National Energy Institute (INE), which also theoretically coordinates subsectoral policies--sets sectoral policies in line with general political guidelines received from the presidency of the Republic or the cabinet as a whole (not to mention the oversight functions of Congress). The sector enterprises, especially INECEL and its affiliates, carry out the policies and regulate their subsectors. The regulatory responsibilities of these enterprises conflict with their ostensible roles as profit-seeking enterprises and tend to obscure and confuse their objectives. Although not formally regulating hydrocarbons (the National Directorate for Hydrocarbons, DNH, has that responsibility), PetroEcuador exerts considerable influence on subsector policies by its size and access to financial and human resources (which the DNH does not have). The corporatization of PetroEcuador has solved some of the internal problems faced by CEPE (especially internal managerial autonomy and to some extent is providing a more systematic, predictable access to

3. A recent study by INE shows that real oil prices in E c h r over the period 1986-1991 peaked in 1988.

ECUADOR 5

financial resources), but the process is not complete in that its affiliates are only cost centers, not true firms (i.e., profit centers). INECEL's affiliates have the form of limited liability companies (Sociedades Anonimas), but they face a "softn budget constraint in that when in difficulty, they can always elect not to pay INECEL for the power it sells them for distribution to final consumers (or incur other arrears with state-owned suppliers such as PetroEcuador).

In the last three years, the MEM has also tried unsuccessfully to get some basic policy changes (especially pricing and legislation) accepted by the higher levels of the administration: key opportunities presented themselves when changes in the legislation led to the creation of PetroEcuador. However, no other fundamental changes in the Hydrocarbons Law were effected.

Thus, the energy sector in Ecuador is in a state of crisis both because of short- term and fundamental, long-term phenomena. In the short term, the present administration is in its last year, and inflation is at about 50 percent annually (compared with about 80 percent in 1988, when the administration came to power). The ministers of finance and of energy and mines have been impeached (in mid-1991) in part because of the increases (in January 1991) of internal oil prices and electricity tariffs and in part because of political differences between the Executive and Legislative branches of government. This is symptomatic of the difficulty of implementing sound but often unpopular policies in a heavily politicized and poorly regulated environment. In the process, the gradual increases in oil prices and power tariffs were discontinued, but the oil-price increase of September 1991 (which may lead to the impeachment of the present minister) reestablished them at a rate of about 3 percent per month.

Long-tern Problems

The long-term, more fundamental problems facing the energy sector are as follows.

Supply Side. The perception that new oil discoveries will be smaller and consist of heavier crudes (possibly very difficult to exploit). The fifth exploration campaign is almost concluded and found a grand total of about 300 Mbbl of rather heavy oil (17" - 21" API, with a smaller find of lighter oil, 26" API, by ARCO), meaning a small addition to output in several years' time. Also, environmental problems-long neglected-are now starting to create obstacles to the exploration and production of oil as well as to its unrestrained combustion. Although there is some unassociated gas, the proven reserves are low (160 BCF or so).

There are apparently insoluble problems in relation to the Paute power complex, where 1075 MW of Ecuador's total of 2260 MW of power generation capacity is located. Firm capacity in the critical dry months between November and February averages about 300 MW (but only about 130 MW in the driest month), with no contribution at all to firm power by the latest addition (Phase C, 500 MW). The Amaluza reservoir serving the Paute power plants is silting up (at about 2-2.5 Mm3 per year). This silting

6 ESUAP COUhTRY PAPER

threatened the dam (the bottom discharge outlet was being buried), and immediate, deep dredging had to be initiated. The solution envisaged to these problems-the building of the Paute-Mazar dam and storage reservoir at the confluence of the two rivers to regulate them and to block their sediment discharge--is costly and presents technical difficulties. The design of the dam is being reconsidered in an effort to cut the costs of firming up some additional capacity and desilting the water inflow into the Amaluze reservoir. This means that the costs of power supply in Ecuador will be higher than they need be and that planning, operations, and finance in the power subsector will need strengthening.

Demand Side. The long-standing subsidization of domestic energy consumption has led to excessive, low-priority consumption, to a habit of energy waste, and to a situation in which the energy sector companies cannot even cover operating costs (let alone finance investments). Thanks to the reform mentioned earlier, PetroEcuador has now been able to finance about half of its investment program of about $200 million in 1990. INECEL, on the other hand, has an investment program of about $1,000 million over the 1991-95 period and has no hope of being able to finance such a program under its present circumstances. Thus, given that the costs of supplying both oil and electricity are increasing, the practice of low energy pricing is becoming even more costly and antithetical to the objectives of pursuing efficiency in supply, achieving optimal substitution in consumption, and minimizing the environmental impact of energy operations.

Government Approach to Economic and Sector Development

The eminently statist model of economic management and development favored by Ecuador in the last 20 years has run its course. This is evidenced by the inability of the Government to finance the public sector at its current size; the inability to disentangle politics from economic policy questions because the state is involved in everything (e.g., the pricing of many goods and services produced or supplied by the state, including energy, cannot be conducted in a technical, professional manner); and the inability to get an institution such as INECEL to function at a reasonable level of efficiency. The above, and in addition INECEL's inability to exert control over affiliates in which it owns more than 90 percent of the stock, are all symptoms of the need for change.

Progress in the energy sector thus depends squarely on Ecuador's willingness to alter long-held political and economic opinions about the proper role of the state in economic activities and about the best way for the state to marshal national resources in pursuit of its economic, social, and political goals, which, obviously, have to do with the welfare of the Ecuadoran people. Energy sector policymakers have generally attempted to implement sound policies for the sector. They have, however, almost always been overruled by higher political authority.

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II. CRITICAL, FACTORS IN THE ENERGY STRATEGY

Until now, Ecuador's energy sector policies have lacked clarity because the technical, economic arguments, as advanced by the sector ministry, have not been reconciled with the feasibility of policies, as perceived by the political leadership (i.e., the presidency, Congress, and political party leaders). The result was that basic policies such as prices, tariffs, taxes, and entry conditions almost always reflected political and social factors, and sectoral authorities were asked to set operational policies and tactics designed to implement and reconcile sometimes irreconcilable social, political, and technical objectives. In the case of pricing, oil prices and electricity tariffs are set with the theoretical objective of recovering some definition of accounting costs, and the MEM and sector enterprises are then asked to meet the resulting demand. This explains the phenomenal growth in LPG and kerosene consumption over the last decade, the high electricity consumption of some classes of users, and the lack of financial resources accruing to sector enterprises (with a small improvement on this score for PetroEcuador in the last year or so).

During the first 18 months of the current administration (i.e., mid-1988 to late 1990), petroleumderivative prices and electricity tariffs were raised substantially, and an attempt was made to maintain them in real terms. Most observers agree that although insufficient in amount, the gradual price increases were relatively successful. The governing coalition's loss of parliamentary majority in the midterm election made it difficult to maintain this policy, however. Such difficulties can be described as normal for the Ecuadoran political cyclethat is, they increase as an administration loses power. The conclusion to be drawn is that progress on economic policies may be expected to be most vigorous in the first two years of an administration, and also that unless the rate of inflation can be cut markedly (to, say, less than 1 percent per month), price increases enacted over the first two years cannot be maintained in real terms. These circumstances militate in favor of more fundamental changes in the setting of oil prices-that is, in favor of introducing market forces and reducing government intervention in a deregulated domestic market.

Subsectoral policy issues are generally operational ones. For example, the extension of electricity coverage is an important goal (current coverage is about 70 percent of the population, leaving about 3.3 million people without electricity), yet in the absence of massive oil transfers (which enabled doubling of the coverage between 1972 and 1987 and have essentially vanished in the last four to five years), it is not attainable under present tariff policies. Low tariffs not only mean lack of resources for investment but also excessive consumption by those already using electric power. As for oil, Ecuador wants to maintain its reserves and export capacity. However, Ecuador neglects the contribution that higher domestic prices (leading to conservation and economic intersubstitutions) could make to those objectives.

8 ESMAP COUhTUY PAPER

In addition, programs aiming directly at reducing poverty and activities designed to make the poor more productive are suffering from lack of budgetary resources. Yet a listing of Government priorities would undoubtedly find these activities more important than many other tasks; their financing through higher domestic oil prices thus could be justified readily in social and political terms (in addition to the economic and technical justifications emphasized by the World Bank and ESMAP). These choices could be clarified by sector policymakers and raised in the political debate. The upcoming presidential campaign and the preparation of the new government's "Plan de Gobierno" would present opportunities for doing so.

IZZ. INTERNA TZONAL AND ESMAP ASSISTANCE

During the past several years, the World Bank and ESMAP have advised Ecuador to set basic sector policies more directly supportive of efficiency in supply and consumption of energy. A major ESMAP strategy study (conducted from March to July 1988 with Italian support) has had some impact on sector decisions and has been important in keeping before sector policymakers the need to effect substantial reforms in institutions and price policies. The World Bank's financial support to the energy sector (since the cancellation of a power loan in 1985) has been marginal and aimed at improving sector management (except for a loan to rebuild the oil pipeline after an earthquake in 1986). Similarly, ESMAP activities after the strategy study have been limited (a small hydro study and a study, just now starting, to reduce power transmission and distribution losses), and unless there is marked progress on institutional organization and price policies, they are likely to remain limited.

Nevertheless, some important progress has been achieved on both institutions and pricing policies. The transformation of CEPE into the PetroEcuador Group, comprising a holding company structure with a parent firm and five affiliates (two in exploration and production, two in refining, and one each in marketing and transport that have recently been merged into one), has been an important step. The World Bank and ESMAP need to support PetroEcuador and the MEM so that the reform process continues to develop. That reform must continue is evident: PetroEcuador operates in a cost-plus system and has a monopoly on most activities; its objective is basically to cover domestic demand, but it has little incentive for doing this as cheaply as possible or for maximizing the return on its assets. Where private initiative has been permitted, such as in exploration and production (since the early 1980s), results have been encouraging; numerous companies have participated and spent risk capital, even though commercial discoveries have been few, small, and of marginal quality. PetroEcuador and the state have decided to enhance private sector participation in these activities by opening up highly prospective areas formerly reserved for PetroEcuador (these areas are being offered in a seventh exploration promotion campaign, which is now being initiated). The privatization of

ECUADOR 9

marginal fields is also being considered (as Argentina has done most successfully'). This stems from a recognition that PetroEcuador does not have the sums of risk capital needed to find additional reserves and is a further positive step in letting private initiative rather than the state corporation take the exploratory risks.

PetroEcuador's affiliates so far are only cost centers (i.e., they do not have revenues, which accrue to the parent firm alone), and thus they have no real incentives to cut costs. Nonetheless, PetroEcuador intends that reform process should continue until its affiliates are true firms (i.e., profit centers). This might not be possible until the hydrocarbons subsector is fully deregulated. Then, the need for state participation in all oil activities could be reexamined, with the possibility of opting for full privatization. Together with these reforms, the opening of downstream operations to private (domestic or foreign) capital needs to be studied and expanded (from retail to wholesale marketing, from LPG to kerosene, etc.). Ecuador is willing to examine how this could best be carried out. This again leads to deregulating the internal oil market; otherwise, private companies operating in a cost-plus system will remain inefficient.

Institutional development in the electric power subsector has been less rapid, even through a small World Bank project has been active since 1986 with the specific purpose of improving the institutions of the subsector. Progress has been made on a study of tariffs and on a computerization plan. Early in 199 1, a study of the institutional structure of the subsector was decided on, and both the ministry and INECEL seem keen to undertake it. On the basis that this study is an important step toward eventual reform of the subsector, ESMAP in March 1991 agreed to start work on a project designed to improve efficiency in transmission, distribution, and marketing of electricity. This could lead to a sizable investment over the next five years, during which time the sector should be well on its way to a better structure and better policies.

ZV. ESMAP'S PROPOSED PROGRAM

The progress achieved by completed and ongoing assistance efforts has been modest but not negligible. The strategy study of 1988, performed with the participation of several Ecuadoran consultants and institutions, helped initiate reform. As noted, the first two years of a new government are usually the most productive in Ecuador (including the quarter before the change in government), and ESMAP should be ready to participate with the World Bank in policy dialogues with the new government by having results from its studies ready for discussion. For this to happen, the tasks (described below) relating to continuing and strengthening price policy and institutional reforms should be initiated as soon as possiblein any case by early 1992. The remaining tasks should be initiated only if the Government substantially concurs with the analyses and results of the pricing and institutional studies and intends to effect tangible reforms along the suggested lines.

10 ESMAP COUhTRY PAPER

Obviously, the outgoing government will be interested in the conclusions of these initial studies, and the studies should be conducted so that any early results and recommendations can be proposed for immediate consideration by that government. For example, the outgoing government will need to increase energy prices and tariffs (if only for immediate fiscal reasons), even if it is unlikely to set up a new regulatory system or an automatic mechanism to deal with inflation or changes in market conditions. This means that even a substantial price increase (should it materialize after the recent small one) will probably be offset by inflation and that the new government will need to start all over in August 1992.

The specific tasks proposed in this program, discussed in greater detail below, have the support of the Ecuadoran authorities as well as of the LAC region of the World Bank4 The ESMAP activities and tasks are detailed individually and in rough order of priority in the following paragraphs.

I . Pricing and Interfuel Substitution, Social Impact, and Mitigation of Effects

This three-part effort aims at reorienting Ecuador's pricing and fuel substitution policies while protecting its most vulnerable consumers. Ecuador is one of the few remaining Latin American countries maintaining a policy of very low energy prices and tariffs. A dialogue has been ongoing for the last decade to persuade Ecuador of the economic virtues of better price and tariff policies. At present, subsidies on oil and electricity consumption in Ecuador approach $500 million per year, or about 5 percent of GDP. Vital programs to alleviate poverty and to intervene directly in favor of targeted, at-risk groups (e.g., the child nutrition program, which receives only $3 million p.a.) are starved of resources. The political authorities, however, believe that the welfare of the poorest Ecuadorans would be adversely affected by selling energy at prices covering economic costs of supply and are sensitive to the possible social unrest that could result from such a decision. Tasks under this category are of first priority and should be initiated, if possible, before the end of 1991 and substantially completed by mid-1992.

Pricing and Interfuel Substitution Strategy. This activity would cover the pricing aspects and encompass development of a framework for determining energy prices based on economic costs and the establishment of a system to automatically adjust these prices when the underlying conditions warrant it. This part of the study will also provide recommendations for the blueprint for the total deregulation of the domestic oil market. In addition, the study will deal with issues arising from Andean integration and the need to coordinate energy pricing policies in the Andean Group.

4. On the support of the Ecuadoran government, see the Aide Mimoire discussed with the Ecuadoran authorities during the main ECP misswn of June 1991.

ECUADOR 11

Survey of Consumption of Energy by Low-Income Households. It is becoming clear from the literature that subsidies on most forms of energy accrue to middle and-upper income consumers, but the best chance of having this point of view accepted by Ecuador would be to base the analysis on an empirical study in Ecuador itself to prove that the poor benefit but little from such lavish subsidies and that it might make sense to increase the price of energy to extend the coverage of health, education, and nutrition servi~es.~ The study would survey consumption of energy and of energy-intensive goods and

services by urban and rural low-income households, possibly with smaller samples for Indians and women. Such a study, including the pattern of consumption (i.e., intersubstitution of fuels, including electricity), was mentioned during Mr. Conable's recent visit to Ecuador. This study would be instrumental in permitting progress on a broad front of energy sector reforms. The World Bank, ESMAP, and the Ecuadoran authorities give it greatest priority. The Ecuadoran authorities have requested that it be initiated immediately and that results be available for presentation before August 1992, when the change of government will take place. ESMAP has contacted INE and other institutions about their willingness and ability to participate in this study and has received positive and encouraging responses. This is a major task requiring both analytical work and a field survey.

Mitigation of Effects. The Ministry of Social Welfare in Ecuador has done much work on poverty groups and has concluded, as expected, that poverty affects mostly children, the elderly, women, and Indians. Therefore, it would be desirable to analyze the effects of energy pricing reforms not only on lower-income households as a whole but on these groups specifically as well. The study should address electricity tariffs (within scenarios of possible relative price of fuels and electricity), transport costs, and oil-product tax policies. The study should also provide assistance to the Government for developing targeted subsidy programs for the lower-income groups to cushion them against the effects of higher energy prices. Although it would be desirable (but probably impossible) to discuss the results of this study with the present administration, meeting the August 1992 deadline will be difficult, and ESMAP needs to accelerate the processing of this task to meet the exigencies imposed by the Ecuadoran presidential cycle.

2. Reorganizalion of INE

Sector coordination and policy advice are responsibilities of the National Energy Institute (INE), but-for reasons that include low salaries, the priorities of the minister, and the size and power of sector enterprises-the INE has not been able to perform this role effectively. Legal and administrative reforms could be required for INE to be able to play its mandated role. In addition, ongoing and proposed reforms relating to the sector

5. TEis point is argued and illustrated in a forthcoming Bank/ESMAP/OLADE study of oil pricing in Lorin America. Ako, statistics on electriciv conrumption in Ecuador reviewed by a recent ESMA P mission reveal that the 10,000 largest domestic conrumers of electricily receive a direct price subsidy of $00 p.a, whereas the lowest 4iM,000 consumers received a subsidy of onty $1 7 p.a.

12 ESMAP COUhTRY PAPER

enterprises, which currently have regulatory responsibilities, would suggest that these responsibilities be located elsewhere (so as to separate the roles of the state as owner and regulator of enterprises). The question therefore would be whether a different, reorganized INE should not assume both advisory (on basic policies) and regulatory roles similar to those of the Energy Commissions of Colombia and Chile (while the sector enterprises become commercial firms single-mindedly seeking efficiency and profits). A quick study, in the form of recommendations by a small group of highly qualified Ecuadoran and international experts coordinated by World BankIESMAP staff, could be produced and its main results presented in a seminar where stakeholders (producers, consumers, the Government, and investors) could discuss the pros and cons of various institutional arrangements. This would be a modest, low-cost effort, but it would be one of the first steps required in the path to a more dynamic, deregulated energy sector. Tasks under this category should be initiated in early 1992.

3. Institutional Study of INECEL

Although there is some confusion about the scope and coverage of the proposed Institutional Study of INECEL (the state power generation and transmission utility), everyone seems to want the study carried out. Its funding has been secured under an ongoing Bank project. Previous missions reviewed the outline for the study and made useful critical comments. The new management of INECEL has requested guidance in this study because it wants ESMAP to describe successful experiences from other countries. ESMAP could continue to exert an influence on this study through sporadic missions (dealing with other matters, as has been done until now), but it would be preferable to set this up as an independent activity of technical assistance for the reorganization of the electric power subsector, including assistance on drafting of TORS, evaluating and internalizing the results, and assisting in some of the implementation. This would be a modest exercise requiring only a few staff weeks, but it could lead to a significant benefit in terms of sector reform.

4. Petroleum and Gus Stmtegy and Reform

The corporatization of PetroEcuador in late 1989 represented an important first step in the search for efficiency in oil operations. The PetroEcuador group now consists of a holding company (the mother firm) and a number of subsidiaries-transitory and permanent-that are cost centers rather than full firms (i.e., cost, revenue, and profit centers). PetroEcuador is conscious of the need to continue, strengthen and perfect its reorganization. Toward that end, it is carrying out a number of studies (with IFP on a strategy for development of heavy crudes, with the TDP urade and Development Program of the United States) on petroleum development and enhanced recovery and with ADL on crude marketing strategies) that will help it map a petroleumlgas strategy over the medium to long term. ESMAP could help in this process by participating, in collaboration with the World Bank's LAC Region, in reviewing and commenting on these

ECUADOR 13

studies and by studying and helping to carry out the further reforms needed to turn PetroEcuador's subsidiaries into true, autonomous, profit-oriented companies. In addition, the process of seeking greater efficiency is leading many officialslmanagers to consider the privatization of some operations such as wholesale trade and distribution of oil products or to envisage modifications (or seeking loopholes) to the Hydrocarbons Law (this is a task that the World Bank might chose to support financially in the future). ESMAP could participate in this process by bringing to bear experience in other countries and by assisting (again together with LAC) in the design of an action plan to deregulate these downstream activities. Describing other countries experiences could be done at relatively low cost with the participation of regional organizations such as OLADE and ARPEL.

Upstream activities (exploration and production) are carried out overwhelmingly by private, foreign oil companies, and the decision has been made that the biggest investment under consideration-enhanced recovery in the Shushufindi field-will be carried out by private, foreign oil firms that are to be invited to present proposals for evaluation by Ecuador. The contract for enhanced recovery will most certainly be sui generis and will require considerable negotiation between Ecuador and the firm that wins the right to invest in enhanced recovery. On this point, the Ecuadorans (with the assistance noted above) have the knowledge to effect these changes (the Bank has also been asked to help evaluate the bids received for the enhanced recovery project; LAC will presumably handle this). ESMAP would therefore keep informed but would not be actively engaged in these specific activities.

5. Envimnmerrt and Energy Consenattatton

Energy conservation has attracted considerable attention from donors (e.g., the EEC, GTZ, UNDP, USAID), but there is little potential for conservation until price policy reforms are decided and acted upon. The Ecuadorans want it included because of its environmental benefits and because of the greater attention environmental matters are now receiving in Ecuador. In this context, the World Bank (LATEN) is preparing a large-scale environmental project that will concentrate mostly on institutions and apparently considers the financing of the program of Integrated Environmental Management of the Oriente. To avoid overlapping or competition, ESMAP will coordinate closely with LATEN on all environment-related tasks proposed for ESMAP funding. The tasks described here would only be carried out if there is clear, monitorable progress on price and institutional reforms, and they are therefore scheduled to be initiated in the second half of 1992 and in 1993. ESMAP would intervene only in well-defined and well-circumscribed activities, some of which are described below:

a Introduction of Environmental Vanbbles in Energy Planning. INE has presented a proposal to introduce environmental variables and constraints in energy planning in general. Because INE has no responsibility for operations but only for policies and guidelines, ESMAP could assist it in drawing out the common themes of environment-related tasks (e.g., audits or assessments) and

14 ESMAP COUhTRY PAPER

systematizing these experiences with a view to issuing general principles or guidelines for future projects.

Environment and Power Planning. Strengthening of electric power planning at INECEL can be accomplished by introducing environmental variables or constraints. The present expansion program contains no environmental considerations whatsoever. In addition, INECEL would like assistance to set up a small environmental unit (two or three specialists) to supervise or evaluate (or both) environmental audits of ongoing activities and impact assessments of proposed investments.

Environmental Audits. ESMAP could fund environmental audits for a few important, ongoing activities as contributions to the knowledge of the environmental impact of energy operations in Ecuador. The area of El Salitral, near Guayaquil, concentrates a number of energy activities (steam power plants, oil terminals, gas plants, storage, etc.) that are having heavy environmental consequences. ESMAP could conduct a diagnostic study of this area. Also, ESMAP could include in its program an environmental audit of the Esmeraldas Thermal Electric Power Plant (the country's largest such plant) and of the Esmeraldas--Quito pipeline (which is apparently deteriorating). Note that the foregoing is an illustrative list; the definitive one would be arrived at jointly with the Ecuadoran authorities and LAC. The MEM would like to see the start of some of this work during 1992.

Energy Conservation. This activity would be defined following reforms in pricing policy and could focus on industrial energy and electric power demand- side conservation.

TmMZning and TA for the Directorate of the Subsecretariat for the Environment (DINAMA) of MEM. The Subsecretariat for the Environment is supported by a Directorate, the DINAMA, which has operational responsibilities. It requires some support in training and technical assistance (specifically for energy operations), and the MEM is strongly requesting it.

The program outlined in the previous paragraphs has the approval (and reflects the needs) of most of the policymakers and managers of the Ecuadoran energy sector and, in broad terms of the World Bank, the UNDP, and the major bilateral aid agencies. If the approach suggested is approved, ESMAP would need to assign some funds immediately to the proposed energy pricing intersubstitution and impact study and to the two small institutional tasks (INE Seminar and INECEL).

ECUADOR 15

ANNEX I: TASK DESCRIPTIONS AND PROJECIED BUDGETS

This annex gives additional details and present preliminary budgets. Both the details and the budgeting will need further definition when Activity Initiation Briefs are prepared.

First Priority 1. Pricing and Substitution, Impact, Mitigation 2. Reorganization of National Energy Institute and

Seminar on Regulatory Arrangements 3. Institutional Study of INECEL Subtotal (First Priority)

SUMMARY OF TASKS AND BUDGET (in U S $ ' O )

Second Priority 4 . PetroleumIGas Strategy & Reform 5. Energy and Environment

Introduction of Environmental Variables in Energy Planning Environment and Power Planning Environmental Audits and Assessments (3-4 projectsloperations)

Energy Conservation Training and TA to DINAMA

Subtotal (Second Priority)

TASK DESCRIPl7ON

TOTAL

"f ie amounts shown for 1994 indicate follow-up work (without order of priority) rather than precisely identijied rash. Ihe total work program for 1992-93 is $1.435 million.

1992

1. Energy Stmtegy: Pricing and Interfuel Substitution, Social Impact, and Midigahahon

The main task to be carried out in late 1991 or early 1992 is a study of interfuel substitution; impact of changes in energy pricing policies on lower-income and special groups (children, the elderly, women and Indians); and social measures to mitigate or offset any strong negative impacts on these groups. The study would have three main parts-A, B, and C-as described below.

1993 1994" TOTAL

16 ESMAP WORK PROGRAM, 1992-93

Part A: Development of a Fmmework for Energy Pricing. This activity would cover the pricing aspects and encompass development of a framework for determining energy price based on economic costs and the establishment of a system to automatically adjust these prices when the underlying conditions warrant it. The effort would simply be a restatement of well-known economic pricing principles based on the situation of Ecuador and the world oil market in late 1991 together with the adoption of an appropriate formula to be used for adjusting energy prices in a moderately inflationary environment. This part of the study will also provide guidelines recommendations for the blueprint for the total deregulation of the domestic oil market. An estimate of the impact of these policies on major economic variables (energy consumption, sector investment-especially in power-public and sector enterprise revenues, etc.) would also be calculated. Some country-specific matters would require some participation by Ecuadoran energy experts. In addition, this part of the study will deal with issues arising from Andean integration and the need to coordinate energy pricing policies in the Andean Group. This part of the task should be carried out in cooperation with OLADE who are studying the issue of petroleum pricing in relation to Andean integration.

Part B: Survey of Consumption of Energy by Low-Income Households. This aspect of the study would address the effects of pricing changes by conducting a Survey of consumption of energy and of energy-intensive goods and services by urban and rural low-income households, possibly with smaller samples for Indians and women (this will present some methodological problems as there will likely be several substantial zones of overlaps). This would help estimate the impact of substantial price increases on the real incomes (or expenditures) of these groups. This activity would be carried out mainly by Ecuadoran consultants and survey staff supervised by INE, the Polytechnical School and ESMAPIBank staff. The survey would quantify energy consumption by lower- income households in the cities and the countryside, seeking to identify also any important productive use of energy or any rent-seeking behavior (e.g. resale of household fuels to industries). It would also try to identify any special situations (especially among women and Indian communities). A small sample of high income consumers would also be surveyed to provide a better indication energy consumption in relation to income.

Part C: Design of Progmms to Oflset or Mitigate Negative Effects of Price Changes. The final aspect of the program would use the information gathered in the previous two activities to help design programs to offset the main negative impacts of higher energy prices. An attempt would be made to estimate the costs of these programs and to relate them to the benefits (mainly increased revenues but also reduced low priority consumption of energy and reduced smuggling). This part of the study would be carried out with assistance from staff of the "Social Dimension of Adjustment" Unit, the Living Standards Measurement project staff, Ecuadoran consultants and the Ministry of Social Welfare of Ecuador. International experiences would be presented to illustrate how other countries have dealt with this matter. Measures would be sought to improve welfare in the household to offset higher energy costs, if possible in relation with the main energy- using activities (cooking, heating air or water, lighting, etc.).

ECUADOR 17

Cost Estimates

PART A

ESMAP Staff and International Consultants Mission LeaderRask Manager Energy Economist Petroleum Specialist Power Tariffs Specialist JPO (Junior Economist)

Local Consultants Energy Economist Financial Analyst

Contingencies

TOTAL, PART A

PART B

Survey to be contracted out to several groups Coordinated by INE and the National Polytechnical School (say, 2,000 observations, administration, and processing)

Economist Statistician

ESMAP/BankStaff Mission Leadernask Manager Economist/Statistician Survey Specialist

Travel and Subsistence

Local transport and logistics (vehicle rentals etc.)

Contingencies

TOTAL, PART B

18 ESUQP WORK PROGRAM, 1992-93

PART C

Local Consultants Economist Sociologist Welfare System Specialist Women and Energy Specialist

BankIESMAP Mission LeaderITask Manager Social Dimensions Specialist Living Standards MeasurementIPHN Specialist

Travel and train in^ for Ecuadoran Staff (e.g., to Colombia, Venezuela, Chile)

Contingencies

TOTAL, PART C

COMMON COSTS

H.Q. Office Support: Publication of Report, Discussion with Government

TOTAL, COMMON COSTS

Summarv

Part A Part B Part C

Common Costs

GRAND TOTAL

2. R e 0 r g a n . n of the National Energy Institute (INE) and Seminar on Institutional Armngemenfs

The transformation of INE into a true advisory/regulatory agency would require the organization of a workshop to bring experience from abroad, and a somewhat longer- term presence to assist INE and the MEM in effecting the changes. The expert in energy sector regulation could write a report locally and help implement the recommendations.

ECUADOR 19

Workshop for 25-30 persons (MEM, MFCP, INECEL, PetroEcuador, INE, CONADE, ETC.)

Participants, local consultants, and Resource Persons

ESMAPIBank Participation and Travel and Subsistence and Contingencies

TOTAL

3. Institutional Study of INECEL

This task consists in BankIESMAP assistance to INECEL and the MEM in carrying out and evaluating a study on the introduction of reforms in the power subsector. The study is to be financed under an ongoing Bank project. The initial step might be the corporatization of INECEL but the eventual aim would be to deregulate the subsector and permit private participation in all phases of power generation and distribution. After the study is done, a workshop could be organized to communicate the major findings and set the stage for a decision by the Government to restructure the subsector.

Assistance to INECEL

Task Management and Coordination Twoday workshop in Quito for 30-35 participants ESMAP Mission Travel and subsistence Subtotal

TOTAL

4. Petmleum/Gas Stmtegy and Reforms

The corporatization of PetroEcuador in late 1989 represented an important first step forward in the search for efficiency in oil operations. The PetroEcuador group now consists of a holding company (the mother firm) and a number of subsidiaries-transitory and permanent-which are cost centers, rather than full firms. PetroEcuador is conscious of the need to continue, strengthen and perfect its reorganization. To that end, it is carrying out a number of studies (with IFP on a strategy for development of heavy

20 ESMAP WORK PROGRAM, 1992-93

crudes, with the TDP on energy development policies and on enhanced recovery and with ADL on crude marketing strategies) that will help it map a petroleumlgas strategy over the medium to long term. ESMAP could help in this process in collaboration with the Bank's LAC Region by participating in reviewing and commenting these studies and by helping to carry out the further reforms needed to turn PetroEcuador's subsidiaries into true, autonomous, profit-oriented companies. In addition, since downstream activities (such as wholesale trade and distribution of oil products) are, at present, run least efficiently, ESMAP could participate by bringing to bear experience in other countries.

Preliminarv Budget: Petroleum and Gas Strategv and Reforms. Total expenditures will be $100,000 for 1992 and $100,000 for 1993.

5. Environment and Energy Conservation

Although energy conservation has attracted considerable attention from donors (e.g., the EEC, GTZ, and UNDP), it has little potential until price policy reforms are decided and acted upon. Conservation has been raised in relation to Ecuador because of its close links to environmental matters and because of the greater attention that environmental matters are now receiving in Ecuador. In this context, the World Bank (LATEN) is preparing a large-scale environmental project that will concentrate mostly on institutions. To avoid overlapping or competition, ESMAP will closely coordinate with LATEN all environment-related tasks it proposes for funding. Proposed tasks are described below.

a Introduction of Environmental Variables in Energy Planning. INE has presented a proposal to introduce environmental variables and constraints in energy planning in general. ESMAP could assist INE in drawing out the common themes of environment-related tasks (e.g., audits or assessments) and systematizing these experiences with a view to issuing general principles or guidelines for future projects.

a Environmental and Power Planning. Strengthening of electric power planning at INECEL with the introduction of environmental variables or constraints. In addition, INECEL has requested assistance to set up an environmental management structure to conduct or evaluate (or both) environmental audits of ongoing activities and impact assessments of proposed investments.

a Environmental Audits. ESMAP could fund environmental audits for a few important, ongoing activities as contributions to the knowledge of the environmental impact of energy operations in Ecuador such as: a study of the area of El Salitral, new Guayaquil, which concentrates a number of energy- related activities with a significant environmental impact; an environmental audit of the Esmeraldas Thermal Electric Power Plant (the country's largest such plant) andlor of the Esmeraldas-Quito pipeline (which is apparently deteriorating and

ECUADOR 21

springing numerous leaks). The Ecuadoran Government has asked that one of these tasks be initiated in 1992.

a Energy Conservation. This activity would be defined following reforms in pricing policy and could focus on industrial energy and electric power demand- side conservation.

a Training and TA for the Directomte of the Subsecretariat for the Environment (DINAMA) of MEM. The Subsecretariat for the Environment is supported by a Directorate, the DINAMA, which has operational responsibilities. It requires some support in training and technical assistance (specifically for energy operations), and the MEM is strongly requesting it.

PROPOSED BUDGET: ENERGY AND ENVIRONMENT (US$'ooo)

- -

DONOR 1992 1993 TOTAL

Introduction of Environmental Variables in Energy Planning

Environmental and Power Planning Environmental Audits (3-4 projects) Energy Conservation Training and TA to DINAMA

TOTALS Of which unfunded

Unfunded 100 100

Unfunded 100 100 Unfunded 300 300 Unfunded 240 240 Unfunded 60 60