San Miguel: an economic development exercise J G Lowe

Glasgow Caledonian University
School of the Built and Natural Environment
Internal Paper Series
Teaching Paper Number 17§
San Miguel: an economic development exercise
Author
John Lowe BA, MA (Econ), PhD, MRICS School of the Built and Natural Environment, Glasgow Caledonian
University, City Campus, Cowcaddens Road. Glasgow G4 OBA.
Abstract
This case students represents the impacts of a six year infrastructure investment programme on a small
hypothetical Latin American republic. The investment programme includes the construction of a new
airport and a new container port and oil terminal. It is assumed that both of these projects will be
financed by Foreign Direct Investment on a Public Private Partnership basis.
In addition there is a programme of improvements to the road and rail networks to link the new
facilities to the capital city and the main population centres plus the mining and oil producing areas.
Keywords
political risk, financial risk, airport construction, private finance initiative, economic development.
Teaching papers should not be cited or used for teaching without the express permission of the author
(s)
Glasgow Caledonian University Internal Paper Sehes
School of the Built and Natural Environment – 1 – Teaching Paper No 17

San Miguel: an economic development exercise J G Lowe
1: Background 1.1: Introduction
The project in question is an economic development programme for the fictitious South American state of
San Miguel. The programme is largely based on transport and communication facilities including the
construction of a new international airport, a major seaport and interconnecting road and rail linkages
to the capital city and the provinces.
1.2: Physical background
San Miguel is situated on the western coast of Central America in the belt of the northeast trade
winds. It is largely mountainous with many of its peaks being permanently snow-capped. The state is
heavily forested but poor communications have deterred the development of this resource, thus most of
its wealth is generated from the coastal strip, A sketch map of the area in question to the scale of
1:400,000 is enclosed.
The river estuary to the north of the area is one outlet from a wide, swampy valley that has resisted
development and, consequently, has never sustained proper communications. Small boats can navigate the
river but its bed is silty and changes of course occur frequently. It is both an unhealthy area and
subject to floods. At various times there have been mineral surveys and some agricultural development
in the foothills overlooking the valley, but any promise was never fulfilled. The indigenous Indian
populations pursue a relatively undisturbed existence, largely based on hunting and fishing. Mountains
lie to the northeast of Santiago and the range rises sharply.
Recent surveys have located oil deposits to the north of Santiago and copper deposits to the west.
Prior to these discoveries it served as the market town for the area.
Good market crops came from the fertile plateau that extends westwards to a lake and beyond, and
produce came down to town from the mountains by a traditional route that has been used for centuries.
The supplies to San Sebastian justified the maintenance of a truck road to the coast road at Rioja.
There is reason to believe that similar geological structures occur to the south but no discoveries of
any consequence have been recorded and access is not so readily obtained.
1.3: Historical background
The immediate hinterland of San Sebastian is detailed on Figure 1.3.1. There are areas to the north and
to the south of that shown on the map that have a distinct character and history of their own.
Gold and silver were mined to the north of San Jose in the seventeenth century. The promontory near San
Sebastian allowed ships to anchor on its lea-side and the fairly rudimentary dock facilities have been
maintained there. Goods have to be transferred to and from ships by lighter, but there is safe
anchorage within 200 metres of the shore.
An oil jetty and pipeline serves coastal tankers. The limited resources of precious metal gave way to
copper mining in the mid-nineteenth century and European investment in mining machinery and a railway
anticipated by only a few years the recognition that the quality of the ore and the market price was
declining. Without the discovery of high quality lead and copper ore near Patipopicac, so adding to the
income from the thriving sugar cane fields in the area, it is likely that the railway would have
closed. It survives on traffic of mineral ore shipped by small coastal steamers directly loading to a
refinery in Chile, some sugar products, coffee, together with vegetables for the market in San
Sebastian from the higher cooler altitudes.
In the early twentieth century, a large US fruit corporation bought 200 square miles of alluvial plain
in two tracts: one near San Sebastian to the south of the river, and the other in the river valley one
hundred miles south of Rioja. The latter failed but the former is the nucleus of a prosperous area of
citrus fruit and banana plantations. Sugar was once the prime crop but it just survives by producing
and exporting syrup – the basis of a local rum industry.
Glasgow Caledonian University Internal Paper Series
School of the Built and Natural Environment – 2 – Teaching Paper No 17

San Miguel: an economic development exercise J G Lowe
1.4: Political and economic background
Prior to the discovery of oil some seven years ago, the average per capita income was low but not
amongst the world’s poorest. San Miguel has been governed for the past twenty years by a leftist
nationalist military junta. By means of a progressive direct tax system and a rigorous application of
minimum wage laws, the distribution of income is, by Latin American standards, fairly even. The main
industries were the plantations to the west of San Sebastian and mineral extraction around Patipopicat.
The mines are state owned with miner’s wages being subsidised in times of low world metal prices. This
policy has ensured the support of the powerful miner’s union for the government and secured political
stability.
The land on the alluvial plain to the south of the plantations is, inefficiently farmed, medium grade
agricultural land. Indians largely hold it in modest parcels, but some in the area of Santiago is in
smallholdings farmed by native non-Indians who despite lacking capital use fairly advanced methods of
agriculture.
Tenure of land is by government grant. Leases are normally held in perpetuity but the government
reserves the right to compulsory purchase at a price to be determined by independent valuation. To
exercise this right, it is necessary for the government to show either that the tenant is no longer
capable of beneficially farming the land or that national interests are at stake. No case of the latter
has yet occurred. Thus the definition of ‘national interest’ has not been tested in the Courts. Oil
discoveries have occurred in the area of non-Indian smallholdings.
Other industries have centred mainly in San Sebastian and are largely non-basic with little export
content. It consists of service industries for the plantation-based trades, fish canning, and local
crafts. At San Jose, where the railway workshops were set up, there are service industries for the
mineral extraction industry. A modest hydroelectric scheme based on an impounding dam established when
the mines to the north flourished, serves San Jose and the mines as well as San Sebastian.
The government appears fairly secure politically. They were originally brought to power by a military
coup by junior Army Officers twenty years. Since then, they have consolidated their position with the
support of the mining union and have felt sufficiently strong to call and to win a general election.
Limited opposition comes from the old right-wing elite of the country and a handful of Marxist
guerrillas entrenched in mountain strongholds in the far east of the country. They are aligned with the
Peruvian ‘shining path’ group.
2: Governmental development policy
2.1: Economic developments
The government has, to date, resisted the development of tourism by foreign capital. However they have
now decided to change policy. The arrival of new oil and mineral income makes an urban development
programme possible, indeed imperative. This would involve some major developments in communications and
hotel accommodation.
It affords the opportunity for the government to initiate a tourist industry development that may be
extended as the national wealth increases. The mountain regions have great potential as tourist areas
in the field of winter sports with the potential for year-round skiing. A North American company has
already presented a plan for winter sports in the mountain area including hotel and chalet development.
This is conditional on the construction of a new airport.
To a lesser extent the coastal region to the north of the capital has great tourist potential. It is
both scenic and highly regarded in terms of climate. The latter option would involve developments and
could be considered an option for the near future. This might involve the building of a new marina
along with hotel and bar developments.
The government would prefer to see economic development go to the North or to the Southeast rather than
add to the congestion around the capital city San Sebastian.
The new sources of wealth have disrupted the balance of the economy. Inflation is currently running at
25%. The non-oil balance of trade is deficit. Incomes are rising in the private sector and in the urban
areas faster than in the agricultural and mining areas.
Glasgow Caledonian University Internal Paper Series
School of the Built and Natural Environment -4- Teaching Paper No 17

San Miguel: an economic development exercise J G Lowe
2.2: Labour conditions
Trade unions are strong, particularly in the service sector around San Sebastian and in the mining
areas, although the agricultural sector is poorly organised.
The agricultural workers have not enjoyed the legal protection of the other workers. There is a modest
and growing local demand, but the export orders for cash crops are stagnating and even declining. The
tenant farmers have traditionally supplied local needs for basic foodstuffs: roots, grains, and fruit –
but are meeting with competition from competitively priced higher quality imports. Animal herding is
not a traditional skill, the native Indians being hunters by tradition. There are, however, mountain
valleys with potential for grazing hampered by poor communications.
The urban areas have attracted migrants in the past and this trend has accelerated recently giving rise
to the growth of shantytown developments on the outskirts of San Sebastian. Surplus housing now exists
in each of the other urban centres.
2.3: Aims of government policy
Government policy can be summarized by the following three objectives:
i) To broaden the industrial base of the economy
ii) To redistribute the population away from San Sebastian
iii) To develop tourism
It is hoped that rising world metal prices will rejuvenate the mining areas. The oil will continue to
flow for another twenty years at present rates of extraction. Tourism is an area that will need a
degree of encouragement to get going.
Because of the importance given to tourism, the development of an airport is the top priority to the
government, at this stage followed by expansion in seaport facilities. The construction of a modern
container port, also to be situated at Puerto is likely to be the next major project. The development
of rail and road links between the new facilities the capital city and the key areas of the country are
also included in the plan
3: The Development Plan 3.1: Introduction
The development plan is based on three areas:
1. Constructing a new International airport. At the moment there is only a small airstrip near to
San
Sebastian that was originally constructed by the plantation owners for their own use and can only
handle light aircraft and small to medium sized jets. A total rebuild would be required to the
runways, terminal buildings and ground dispersal systems in order to meet the government’s
criteria. This has been ruled out because the Government wishes to diversify the economy away
from San Sebastian so a site further north has been selected.
2. Constructing a new seaport including provision for oil tankers, general bulk carriage, and
container
ships. It is also intended to a build passenger terminal and a new marina as part of the same
complex.
3. Upgrading and extending the road and rail network to link the new airport and seaport to the
capital
city and also to the mining and agricultural areas. In addition some consideration has been given to
improved links to the mountains for purposes of winter sports and general tourism.
The objective is to diversify the economy to provide for the time when the oil starts to run down so as
to ensure the future prosperity of the country.
Glasgow Caledonian University Internal Paper Sehes
School of the Built and Natural Environment – 5 – Teaching Paper No 17

San Miguel: an economic development exercise J G Lowe
3.2: The International Airport
Within this context the government has decided that a new or enlarged airport will be required and a
Commission has been appointed to determine the best location. The airport must be capable of handling
five million passengers per year and the ground transit system must be such as to ensure that the
journey time to San Sebastian by the quickest mode is no more than 60 minutes. Considerable freight
traffic may be expected in order to supplement the country’s rudimentary facilities particularly in the
oil industry.
The facility is expected to comply with the standards of an international airport with a single runway
and single passenger terminal. Space on the site should be allowed for future expansion to a dual
runway and for further terminal buildings should they become necessary. The government also intends to
develop supporting industries and commerce within the airport complex. 10,000m2 of advanced industrial
units are required to service the warehousing and factory requirements of the developing industry as
well as the needs of airport services. An international hotel is to be provided on the site.
The preferred site is situated in an area of marshy land close to the fishing village of Puerto. The
available land is already owned by the government and occupies a coastal strip opposite the two
islands. The site is large enough to contain the necessary runway and ground dispersal system but
cannot contain terminal building for which additional land must be purchased. On the riverside, the
delta islands are silt beds and can be considered to be state property. Land could be reclaimed from
the sea for a future second runway. Private estates in both national and foreign ownership bound the
remainder of the site. This choice is liable to be unpopular with the environmental lobby. This is
because of the impact of draining some of the salt marshes and reclaiming land from the sea. This will
certainly affect wildlife in the marshland and on the coast.
The government does not have access to the capital required to build the airport to the standards
needed. They have, consequently, opened up the project to private foreign capital. They intend to build
the airport and associated works using a local variant of the Private Finance Initiative by bringing in
an international development consortium.
The government will be responsible for assembling the site although any compensation payable for land
not already owned by the government will be payable by the development consortium. The consortium will
be expected to design, build, maintain, and operate the airport. This work will include the runway,
apron, control tower, hangers, and terminal buildings. They will also build the industrial units on the
airport complex and make a site available for an international hotel chain to build a 500-room hotel.
The consortium will also have to link the airport to the existing road and (if appropriate) to the rail
system.
The airport complex, with the exception of the hotel, will remain the property of the government and
will be leased back to the consortium for a period of 30 years. During this period, the consortium will
be responsible for running the airport and will employ all staff including the management, the air
traffic control, and the duty crew. The duty crew will be fully trained fire-fighters but will be
engaged in ground maintenance and general duties such as refuelling planes when not occupied in fire-
fighting or fire prevention duties.
Catering and retail units on the complex will be franchised out and the revenue will come to the
consortium. The ground rent on the hotel and the rental on the industrial units will also accrue to the
consortium. The consortium levies all landing fees and passenger handling charges on scales approved by
the government.
During this thirty-year period the consortium will be responsible for maintenance of the airport
complex with the exception of the hotel. The maintenance of any transport links outside the airport
complex will be the responsibility of the government. At the end of the thirty-year period, the
ownership of the whole complex will revert back to the government although a further contract for
running the airport may be offered to the consortium.
A major international civil engineering contractor, a construction company, and an airport management
specialist head the international consortium. It also includes consulting engineers with expertise in
soil mechanics, structural analysis, mechanical and electrical engineering. There are architects
responsible for landscape, building and interior design plus planning consultants and quantity
surveyors. All the members of consortium are of North American and European origins and have limited
experience of operating in Latin America.
Glasgow Caledonian University Internal Paper Series
School of the Built and Natural Environment – 6 – Teaching Paper No 17

San Miguel: an economic development exercise

J G Lowe

3.3: The Seaport
The proposed sea terminal is to be sited near to Puerto. The area has facilities for deep water docking
facilities. It will be able to handle container ships and also bulk carriers for minerals as well as
oil tankers.
The existing port facilities in San Sebastian are somewhat limited with the larger ships having to
anchor some way offshore and have cargoes transferred in tender boats. This has had the effect of
reducing international trade because of the costs involved with the transfers.
The new facilities are expected to give a boost to the mining sector and also oil production. There may
be some benefit to the agricultural sector but it is more likely that they will make use of the new
airport rather than sea transportation
The container port will provide for a 500m quay with two mobile cranes for container handling. The
water is up to 15 meters deep. There will be 8 hectares of storage space adjacent to the port.
The oil terminal will also be site at Puerto. This will receive oil piped from the hills and
transported by rail from the end of the pipeline half way between San Sebastian and Puerto. At the
moment the oil is taken by road from the end of the pipeline to San Sebastian and hence to tankers.
It is also intended to build a passenger terminal to accommodate cruise ships and also to develop a
marina for visiting yachtsmen. There will also be developments in hotels and bars along the waterfront
area.
The funding arrangements will be the same as for the proposed airport. That is a development consortium
will be given the rights to construct and develop the port and will keep all revenues generated for a
period of 25 years when the facilities will revert to the Government. Technically the facilities will
be in Government ownership but a 25-year lease back deal will allow the consortium all property rights
in the development.
3.3: Road and Rail Links
The Government also envisages upgrading the road and rail links. Specifically the priorities are:
1. Upgrading the existing rail network to improve speeds via installation of new signalling
equipment
and some civil engineering works to straighten out some curves.
2. Extend the rail line from Rioja through to Puerto including links to the new airport and
seaport.
3. Improve the motorway links between San Sebastian and Puerto.
Borrowing over 25 years on the international market will be used to finance the above projects.
3.4: Estimated costs of Development Plan
The estimated costs and timescale for the development plan are tabulated below:

Year Airport Seaport Transport Links Total
2017 1,800,000 – 550,000 2,350,000
2018 2,100,000 1,045,000 750,000 3,895,000
2019 2,200,000 1,250,000 950,000 4,400,000
2020 1,850,000 1,750,000 800,000 4,400,000
2021 1,100,000 1,450,000 500,000 3,050,000
2022 997,500 1,000,000 – 1,997,500
Total 10,047,500 6,495,000 3,550,000 20,092,500

Glasgow Caledonian University
School of the Built and Natural Environment

-7-

Internal Paper Series Teaching Paper No 17

San Miguel: an economic development exercise J G Lowe
4: Assignment
4.1: Tasks to be completed
The tasks to be completed are listed below. The computations should use the enclosed Input-Output
Tables representing the National Accounts of San Miguel.
4.2: Task One: Impact of Construction on Economy
Identify the impact of the construction of the project in the development plan on the economy in terms
of increase in output, income, jobs created and imports. This should be computed using the Input-Output
Tables provided.
This should be carried out for each of the five years of the construction works. Make appropriate
assumptions about the spread of the spending over the five years of the development plan.
4.3: Task Two: Impact of Increased Exports of Oil and Minerals
You may assume that the improved infrastructure will cut transportation and costs and stimulate exports
of oil and minerals. The increase in oil exports to the Rest of the World (RoW) is expected to be 10%
while mineral export to the Rest of the World (RoW) should increase by around 15%.
The implications on output, income and employment should be calculated using the Input-Output Tables.
Also compute the impact of the above on balance of trade. The exports will be computed directly while
the imports can be obtained using the Input-Output Tables.
4.3: Task Three: Impact of Increased Tourism
The implications of an assumed 25% increase in Tourism from the RoW should be computed. This should
cover output, income, and jobs created. As in the case above, the implications on Balance of Trade
should be estimated. The direct effects on output can be taken as the exports while the imports should
be computed using the Input-Output Tables.
4.4: Summary
The results should be summarized over the five years of the development plan (2017-2022) and into the
first two years of operation (2023-2024).
Glasgow Caledonian University Internal Paper Series
School of the Built and Natural Environment – 8- Teaching Paper No 17

San Miguel: an economic development exercise j G Lowe
Guidance Note Construction
The expenditure on construction for the development plan for each of the six years of the development
plan is given on page 7 above. The output of construction is given in cell V10 of the sheet “Input
Output” at Escudos 5,691,340. This corresponds to the row for Construction in the input output table
and the column for Gross Domestic Fixed Capital Formation (GDFCF) or investment. All new build
construction work is in this entry. The remainder is concerned with repair and maintenance.
The approach outlined is one way of arriving at the results. There are other approaches that will be
valid answers. This is the most elegant approach that I can think of.
The increase in construction output brought about by the investment programme in 2017 {Esc 2,350,000)
should be inserted in cell B13 of the sheet “Construction”. This can either be taken as a proportionate
increase as the original example or the figure computed can be inserted directly. This will enable the
direct implications on Output, Employment, Income, GDP, and Imports to be read from cells B20, F20,
G20, P20, and V20 respectively.
These are limited to the direct effects of the construction work. If the direct plus indirect effects
are needed, the results can be read from B39, D39, F39, H39, and J39 respectively. This will
incorporate the implications on other industries such as materials supply from the additional
construction work.
This will generate additional income throughout the economy. The direct plus indirect plus induced
effects can be read from cells B58, D58, F58, H58, and J58 respectively. The table above should be
complete.
For the second year (2018) the increase in construction output from 2017 will be Esc 1,545,000
(3,895,000 less 2,350,000). This can be inserted in cell B13 of a new sheet based on ‘Construction’.
The above process should be repeated.
For the third year (2019) the increase in construction output will be Esc 505,000 (4,400,000 less
3,895,000). For year four (2020) of the programme, the construction output will be static as the
construction output has peaked. For year five (2021), the output should fall by Esc 1,350,000
(3,050,000 less 4,400,000). This should be inserted into cell B13 of a new sheet as a negative number.
For year six (2022), the output will fall by Esc 1,053,000 (1,997,000 less 3,050,000). Finally for
2023, construction output will fall back to the original base with a drop of Esc 1,997,000.
Oil and Mineral Exports
These will have to be compute d separately. In both cases it is reasonable to assume that no impacts
will be kick-in until the Airport and Seaport are completed. So the starting point will be 2023.
However the improvements in the road and rail links may have a marginal impact for 2022 but it is not
expected that this will be estimated. You will certainly not be marked down for doing so.
For Oil exports, use the cell Y7 in ‘Input Output” as the starting point. Row 7 covers the Oil sector.
Column Y gives exports to the Rest of the World. The appropriate increase should be inserted in cell
B10 of a Blank form sheet.
For mineral exports to the Rest of the World, see the cell Y6 in ‘Input Output”. Row 6 corresponds to
Mining and Column Y again related to exports to Rest of the World. The appropriate increase can be
inserted in cell B9 of the same Blank Form sheet.
The results can be read of as for the case of Construction earlier. This could use the same sheet as
for construction in 2024 with the drop in output for cell B13. This will enable the combined results to
be identified with the drop in construction being (partially?) offset by the increase in oil and
mineral exports.
Glasgow Caledonian University Internal Paper Series
School of the Built and Natural Environment -10- Teaching Paper No 17

San Miguel: an economic development exercise J G Lowe
Tourism
This is slightly different to the above cases in that the direct effects will be felt across all
sectors rather than restricted to a single row. This is given by cells S4 to S15. This is concerned
with Tourism from the Rest of
the World.
As with Oil and Mineral exports it is reasonable to assume that the changes will nt kick in until the
Airport and Seaport are open. It is possible that there might be a marginal increase in the build-up as
the road improvements take effect. You will not be expected to make an allowance for this but doing so
will certainly do no harm.
Following the example on the sheet “Tourism”, the increase in output should be computed. This could use
the same sheet as for Oil and Minerals in 2017 or it could use a new Blank Form sheet. The changes will
have to be aggregated if separate sheets are employed.
One point that the model may be criticised for is that Investment (GDFCF) is assumed to be exogenous.
The primary elements in the investment plan are given. However it is slightly implausible that a 25%
increase in Rest of World tourism could be accomplished by 2024 without investment in new hotels and
restaurants being carried in prior to this in year 2023.
This can be given as a caveat to the results or some allowance could be made for construction in 2023
to cover this.
Comments on the Results
As well as showing the figures some comments on the results including any criticisms of the model
should be included. Any modifications to the model to reflect the issues illustrated above should be
explained. Any
assumptions made should be justified.
John G Lowe September 2015
Glasgow Caledonian University Internal Paper Series
School of the Built and Natural Environment – 11 – Teaching Paper No 17
TO HAVE YOUR ASSIGNMENTS DONE AT A CHEAPER PRICE, PLACE THIS ORDER OR A SIMILAR ORDER WITH US NOW.