## _cr16103 ## Source details **Canonical URL:** [_cr16103](https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2016/_cr16103.pdf) ## Other formats - [Markdown version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2016/_cr16103.pdf.md) - [Structured JSON version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2016/_cr16103.pdf.json) --- ### Developments in the Diamond Industry and Recent Macroeconomic Developments - Growth and inflation - Real GDP growth slowed in 2014 and is estimated to have come to a halt in 2015. - Economic drivers: mining GDP hit by reduced global demand for diamonds and copper; non-mining GDP decelerated due to spillovers, regional drought, electricity and water shortages, and less favorable domestic credit conditions. - 12 month-rate of inflation was 2.7 percent in January 2016; BoB objective range is 3-6 percent. - Fiscal position - After three years of surpluses, fiscal balance turned into a deficit. - Fiscal deficit for FY 2015/16 is estimated to be in the order of 3 percent of GDP. - Revised budget envisages an increase in capital expenditure of Pula 2.7 billion compared with the initial budget. - External position and reserves - Current account surplus estimated to have fallen from a peak of 16 percent of GDP in 2014 to about 9 percent in 2015. - Stock of foreign exchange reserves at US$7.5 billion (65 percent of GDP). - Exchange rate and monetary policy - BoB adjusted the target rate of crawl of the Pula: downward crawl of 0.16 percent in 2014 to zero in 2015 and to 0.38 in 2016; basket weight for South Africa reduced from 55 to 50 percent in 2015. - Policy rate reduced from 7.5 in 2014 to 6 percent in 2015. - Primary Reserve Requirement on Pula-denominated deposits reduced from 10 percent to 5 percent in 2015. - Despite easing, credit growth declined; banks adopted cautious lending amid slow deposit growth and funding competition. - Financial sector soundness - Banking system: 11 banks and several non-bank financial institutions. - Average capital adequacy ratio: 21 percent. - Non-performing loans: 4.5 percent of total gross loans. - Bank exposure to households: 59 percent of total bank loans; about 65 percent of household credit is unsecured. - Profitability declined slightly and funding conditions became more challenging, especially for smaller institutions. ### Box — Diamond Industry: market structure, shocks, and prospects - Global and producer shares (average 2013-2014) - Botswana: 25.5 percent of world output - Russia: 24.1 percent - Canada: 13.7 percent - Market concentration - De Beers: 34 percent of the world market (rough diamond) - ALROSA: 25 percent - Demand composition (polished diamonds by destination) - U.S.: about 40 percent of the global market - China/Honk Kong/Macau: 15 percent - India: 8 percent - Gulf Region: 8 percent - Japan: 6 percent - Recent market developments - Between mid-2014 and September 2015, prices for polished and rough diamonds decreased by 12 and 23 percent respectively. - Major producers began cutting production beginning in the second half of 2015. - In Botswana, De Beers reduced production by about 20 percent in 2015 and announced further cuts for 2016. - Debswana put its Damtshaa mine on care and maintenance status and plans to scale down production at the Orapa 1 mine for the period 2016-2018. - Prospects and structural considerations - Bain and Company (2015) expects demand to return to a long-term growth trajectory of 3-4 percent per year. - On the supply side, output is expected to decline by 1-2 percent per year through 2030. - Other factors affecting the market: recycling of diamonds, emergence of synthetic stones, and deeper/more costly deposits. - Value chain and competitiveness - Cutting and polishing firms face limited access to financing and constrained bargaining power. - In 2015, combined market share of cutting and polishing firms in China and India rose to 85 percent while the share of African companies declined. - Since the beginning of 2015, a number of polishing and cutting firms in Botswana closed, shedding about 1,000 jobs (out of a total of about 3,700). ### Outlook, Risks, and Alternative Scenario (stronger reforms and prioritized public investment) - Baseline outlook - Projection assumes measured recovery in global diamond and copper prices and impact of higher government spending and investments in energy and water infrastructure, plus gradual reforms. - Real GDP growth could reach 5 percent by 2019 and subsequently average around 4 percent annually. - Inflation projected to remain within the BoB’s objective range. - Baseline fiscal and external outlook - 2016/17 budget entails a fiscal deficit of about 4 percent of GDP. - Current account surplus projected to narrow from 9 percent of GDP in 2015 to about 2 percent in 2016 and reverse trend thereafter with diamond recovery. - Main risks (selected) - Sluggish external demand for minerals. - Slow or insufficient structural reforms. - Potential stability risks if a major economic contraction occurs, given banks’ large exposure to households and a significant share of unsecured lending. - Alternative scenario (stronger reforms and prioritized public investment) - Drivers: accelerated reforms, a gradual and well-prioritized public investment program, and improved efficiency in the public sector. - Expected outcome: better position to achieve economic diversification, higher growth, and transition to high-income status. - Upside near-term risk: a faster than expected recovery in the global demand for minerals. - Longer-term risk: insufficient or ineffective actions to improve the efficiency of public investment and foster fiscal consolidation, economic diversification, and inclusive private sector-led growth. ### Scaling Up Public Investment — scenarios, efficiency, and outcomes (Appendix V / Chapter 7) - Framework and calibration - DIGNAR (Debt, Investment, Growth and Natural Resources) model calibrated to Botswana; accounts for investment inefficiencies and absorptive capacity; extended to include foreign direct investment effects. - Empirical estimate of public investment efficiency for Botswana: close to 60 percent. - Two scaling-up approaches - Gradual scaling-up - Spending on growth-enhancing investment projects in infrastructure increased gradually (up to 12 percent of GDP over the short- to medium-run). - Financing: portion of existing Pula Fund reserves up to a notional floor of 50 percent of the current stock, rationalized government spending, successful revenue mobilization, and a modest amount of domestic borrowing. - Outcome: allows for higher long-term growth in non-mineral output of about 0.5 percent above trend. - Aggressive, front-loaded scaling-up - Public investment increases faster and by more (reaching about 14 percent of GDP in the short run). - Outcome: only a slightly larger build-up of public capital and higher non-mineral output but lower private consumption and welfare in the medium-run compared to the gradual case; constrained by absorptive capacity and lower investment efficiency. - Impact of improved public investment efficiency (illustrative superior scenario) - Increase in public investment efficiency from 60 to 80 percent over ten years; annual net return on investment increases from 15 to 20 percent. - Outcome: gradual scaling up leads, on average, to additional long-run growth of about 1.2 percentage points of non-mineral GDP per year; private investment and consumption rise; Pula Fund savings recover and accumulate. - Staff caution - More aggressive, front-loaded scaling-up would be counterproductive due to absorptive capacity constraints and reduced investment efficiency. ### Policy and Reform Priorities — short- and medium-term - Short-term macro stance - Expansionary fiscal stance warranted in the near-term given the slowdown and sizable fiscal and external buffers; deficit financed primarily by government deposits. - Staff estimates a negative 1.4 percent output gap in non-mining GDP (as of Q3 2015), supporting expansionary policies. - Medium-term fiscal consolidation - Authorities envisage containing the growth of wages and salaries and lowering transfers to SOEs, especially electricity and water. - Gradual expenditure rationalization expected as mining sector recovers. - Authorities committed to return to a fiscal surplus within the next three years. - Domestic revenue mobilization - Staff recommended considering domestic revenue reforms to improve VAT collections, review exemptions, and reform property taxation. - If reforms are insufficient, consideration could be given to increasing the value-added tax rate. - Public investment management - Undertake a Public Investment Management Assessment (PIMA). - Develop an annual public investment plan as part of NDP11 and in the context of the medium-term fiscal framework, with prioritization based on cost-benefit analysis and recurrent cost assessment. - Financial sector measures - Annual on-site supervisory reviews of each institution deemed systemic, in addition to existing supervisory framework for higher-risk banks. - BoB to consider a stress test exercise aimed at assessing the impact of different shocks on households’ debt-servicing capacity. - NBFIRA to implement a tiered prudential framework for large non-bank lenders by September 2016. - Expedite reform of credit bureaus to reduce fragmentation and broaden creditor database to positive and negative credit data; allow enforcement of securities out of court via collateral agreement and introduce a collateral registry for immovable and movable assets. - Consider introduction of new liquidity and/or lending facilities at the central bank over time; sector consolidation may be appropriate. - Structural reforms for inclusive growth - Remove constraints to private sector development, broaden the tax base, rationalize SOEs, and reduce the wage bill as a share of GDP. - Priorities for NDP11: ensure timely execution of energy and water investments with accountability; strengthen regulators’ technical capacity and independence; move forward with solar energy plans and private sector involvement; undertake expenditure review of largest ministries; pilot economic zones cautiously; improve SOE profitability and consider private management. ### Reserve Adequacy (Appendix I) - End-2015 reserves: about US$7.5 billion, equivalent to 65 percent of GDP and about 12 months of imports. - IMF composite metric and Botswana - Reserves on the range of 100-150 percent of the composite IMF metric are considered appropriate. - For Botswana the IMF metric implies adequate reserves corresponding to 15 to 22 percent of GDP (100-150 percent of the composite metric). - Current level: 65 percent of GDP. - Using a more conservative weight of 25 percent for exports (to reflect commodity-export volatility), adequate reserves would be 20 to 30 percent of GDP. - Even under the 25 percent exports weight scenario, current reserves (65 percent of GDP) are more than twice the upper bound of the adequate range. - Composition and internal adequacy - International reserves composed of the liquidity portfolio and the Pula Fund. - Liquidity portfolio covers six months of current year non-diamond imports (about 5 to 8 months of current year non-diamond imports according to IMF metric). - About 2/3 of international reserves are accounted for by the Pula Fund; within the Pula Fund, 1/3 is owned by the Bank of Botswana (BoB) and the rest by the government. - Policy recommendations on reserves and Pula Fund - Clarify the purpose, ownership and rules for withdrawals by the government of the Pula Fund. - Clarify the ownership structure and review the asset allocation strategy: - Liquidity portfolio should be solely owned by the BoB and used for countercyclical purposes. - Part of Pula Fund reserves could be invested in longer-term instruments to generate income for future generations. - Maintain a foreign reserves buffer for stabilization purposes of at least 20 percent of GDP. - Any withdrawals from the Pula Fund should obey a well-prioritized investment plan embedded in a medium-term fiscal framework. ### Debt Sustainability and External Debt Dynamics - External debt trends and projections - Gross external debt fell from about 21 percent of GDP in 2012 to about 18 percent of GDP at end-2014. - Stock of external debt projected to fall from an estimated 19 percent of GDP in 2015 to about 10 percent of GDP in 2021. - Botswana’s PPG is low and projected to remain subdued over the medium-term; debt dynamics remain sustainable under the baseline and standard stress tests show no debt vulnerability. Classified as a low debt scrutiny country. - Public sector debt DSA (selected exact figures, nominal gross public debt in percent of GDP) - 2014: 17.7; 2015: 23.2; 2016: 25.2; 2017: 22.2; 2018: 19.7; 2019: 17.4; 2020: 15.3; 2021: 13.4; final listed 12.1. - Baseline macro assumptions (selected exact values for 2016–2021) - Real GDP growth: 2016: 3.7; 2017: 4.6; 2018: 4.7; 2019: 5.0; 2020: 4.8; 2021: 4.1. - Inflation: 2016: 6.3; 2017: 4.4; 2018: 5.1; 2019: 4.8; 2020: 5.9; 2021: 3.5. - Primary Balance (baseline series shown for 2016–2021): -3.6; -2.3; -0.9; 0.9; 1.8; 3.4. - Effective interest rate (baseline series shown for 2016–2021): 2.4; 2.7; 2.7; 3.2; 5.5; 6.5. - Stress tests and sensitivities - External debt is marginally sensitive to current account shocks; real depreciation shock increases the debt-to-GDP ratio initially but has only a marginal impact on medium-term debt dynamics. - Alternative scenario: if diamond prices recover to long-term average and mining expands, Botswana could become a net creditor in a few years. ### Social, Structural, Utilities, and Labor Market Issues - Poverty and unemployment - Poverty declined from 31 percent in the early 2000s to 19 percent in 2009/10. - Unemployment remains high at about 20 percent of the labor force. - Electricity and water crises - In 2015 the country had to import 39 percent of its electricity needs. - Authorities plan refurbishments and new capacity: refurbishment of Morupule A and Morupule B units expected to enter production beginning in the last quarter of 2016; plan to build two additional coal powered units at Morupule B with the first expected to begin production by 2018. - Authorities expect that with existing and new units at full capacity, the country’s total demand of about 600 megawatts would be more than fully covered by 2019. - Construction of a new North-South water pipeline has begun. - Authorities intend to introduce water and electricity regulators to oversee tariffs, costs, and quality of service. - Business environment, labor market, and skills - 2016 Doing Business rank: 72 out of 189 countries. - 2015/16 Global Competitiveness Report rank: 71st out of 140 countries. - Staff recommended: streamline business registration, reduce red tape on construction permits, facilitate access to credit, redesign vocational training with private sector participation, provide scholarships for vocational training, offer incentives for apprenticeship programs, and consider less onerous restrictions on work permits for skilled foreign workers (authorities view current restrictions necessary to protect local workers). - Special economic zones - Authorities plan up to 8 economic zones; basic legislation enacted; specifics pending. - Staff cautioned against generous tax incentives and urged gradual implementation and piloting. ### Data, Statistics, and Technical Assistance - Data dissemination and adequacy - Botswana subscribed to the Fund Enhanced General Data Dissemination System (e-GDDS) in January 2016. - Data enhancements needed: balance of payments accuracy (diamond sector data, errors and omissions), quarterly national accounts, timeliness of fiscal data. - National accounts: GDP rebased to 2006 in October 2012; 2013 real growth rate revised to 9.9 percent from 5.9 percent after corrections. - Household surveys: last conducted in FY 2009/10; need for more frequent surveys. - Technical assistance areas (selected) - Domestic Revenue Mobilization, Public Investment Efficiency, Medium-term Expenditure Framework, Government Finance Statistics, Non-Bank Lenders’ Supervision, Macro-Financial Forecasting, Macroprudential Supervision, Balance of Payments Statistics. - Staff recommendation on consultation cadence - The staff recommends that the Article IV consultation with Botswana be held on the standard 12-month cycle. ### Staff Appraisal — consolidated policy priorities (selected) - Near-term: use fiscal stimulus supported by buffers while protecting financial stability and preserving debt sustainability. - Medium-term: return to fiscal surplus within three years, contain wage bill, rationalize SOE transfers, broaden domestic tax base, improve VAT collection, reform property taxation, undertake expenditure review of largest ministries, implement PIMA and annual public investment plan, and pilot economic zones cautiously. - Financial sector: strengthen supervision and regulation of banks and NBFIs, implement Basel II simplified standardized approach by 2017, conduct on-site supervisory reviews of systemic institutions, execute stress tests, and improve credit bureau legislation. - Reserves and fiscal rule: consider a fiscal rule (example: non-mineral primary balance rule) that links Pula Fund rules with the budget and medium-term fiscal framework; maintain at least 20 percent of GDP in foreign reserves as a stabilization buffer. *Source: IMF staff report excerpt (content unit _cr16103).* ### 1. Developments in the Diamond Industry _______________________________________________________ 11 ### 1. Developments in the Diamond Industry ### Context - Botswana achieved sustained high growth since independence, with GDP per capita growing at an annual average rate of 5.9 percent from 1966 to 2014. - Key strengths: prudent management of diamond endowment, large stock of foreign exchange reserves (largest portion saved inside the Pula Fund), low inflation, managed exchange rate policy, and strong governance. - Sovereign ratings cited: A- (S&P) and A2 (Moody’s). - Remaining challenges: fiscal consolidation, economic diversification, making growth more inclusive, and high unemployment at nearly 20 percent. - National Development Plan: consultations to finalize a new six-year NDP11 by end-2016, targeting economic diversification and sustainable development. ### Recent Developments - Growth slowdown and inflation - Economic growth slowed in 2014 and is estimated to have come to a halt in 2015. - Mining GDP hit by reduced global demand for diamonds and copper; non-mining GDP decelerated due to spillovers, regional drought, electricity and water shortages, and less favorable domestic credit conditions. - Inflation: 12 month-rate of inflation was 2.7 percent in January 2016; BoB objective range is 3-6 percent. - Fiscal position - After three years of surpluses, fiscal balance turned into a deficit. - Fiscal deficit for FY 2015/16 is estimated to be in the order of 3 percent of GDP. - Drivers: lower mineral revenues, reduced SACU receipts, higher wages and transfers to SOEs, and higher capital expenditure (including Economic Stimulus Program). - Revised budget envisages an increase in capital expenditure of Pula 2.7 billion compared with the initial budget. - External position and reserves - Current account surplus estimated to have fallen from a peak of 16 percent of GDP in 2014 to about 9 percent in 2015. - Stock of foreign exchange reserves at US$7.5 billion (65 percent of GDP). - Exchange rate and monetary policy - BoB adjusted the target rate of crawl of the Pula: downward crawl of 0.16 percent in 2014 to zero in 2015 and to 0.38 in 2016; basket weight for South Africa reduced from 55 to 50 percent in 2015. - Policy rate reduced from 7.5 in 2014 to 6 percent in 2015. - Primary Reserve Requirement on Pula-denominated deposits reduced from 10 percent to 5 percent in 2015. - Despite easing, credit growth declined; banks adopted cautious lending amid slow deposit growth and funding competition. - Financial sector soundness - Banking system: 11 banks and several non-bank financial institutions. - Average capital adequacy ratio: 21 percent. - Non-performing loans: 4.5 percent of total gross loans. - Bank exposure to households: 59 percent of total bank loans; about 65 percent of household credit is unsecured. - Profitability declined slightly and funding conditions became more challenging, especially for smaller institutions. ### Outlook and Risks - Baseline growth outlook - Projection assumes measured recovery in global diamond and copper prices and impact of higher government spending and investments in energy and water infrastructure, plus gradual reforms. - Real GDP growth could reach 5 percent by 2019 and subsequently average around 4 percent annually. - Inflation projected to remain within the BoB’s objective range. - Fiscal and external outlook - 2016/17 budget entails a fiscal deficit of about 4 percent of GDP. - Current account surplus projected to narrow from 9 percent of GDP in 2015 to about 2 percent in 2016 and reverse trend thereafter with diamond recovery. - Main risks - Sluggish external demand for minerals. - Slow or insufficient structural reforms. - Potential stability risks if a major economic contraction occurs, given banks’ large exposure to households and a significant share of unsecured lending. ### Policy and Reform Priorities - Short-term policy stance - Expansionary fiscal stance warranted in the near-term given the slowdown and sizable fiscal and external buffers; deficit financed primarily by government deposits. - Fiscal consolidation medium-term - Authorities envisage containing the growth of wages and salaries and lowering transfers to state-owned enterprises, especially electricity and water. - Gradual expenditure rationalization expected as mining sector recovers. - Structural reforms and diversification - Priorities include removing constraints to private sector development, broadening the tax base, rationalizing SOEs, and reducing the wage bill as a share of GDP. - NDP11 to focus on economic diversification and sustainable development. - Monetary and financial measures - Continued prudent monetary policy to keep inflation in check. - Measures to ease liquidity: reduction in reserve requirement and portfolio reallocation by public pension fund to alleviate liquidity shortages. - Need to monitor bank funding structures (reliance on volatile wholesale deposits) and asset quality. *BOTSWANA — INTERNATIONAL MONETARY FUND* ### 13. An alternative scenario entailing a stronger reform effort and prioritized public ### 13. An alternative scenario entailing a stronger reform effort and prioritized public investment ### Alternative scenario: stronger reforms and prioritized public investment - Staff prepared an alternative scenario that suggests that with: - accelerated reforms, - a gradual and well-prioritized public investment program, and - improved efficiency in the public sector, the country will be in a better position to achieve economic diversification, higher growth, and a transition to high-income status. ### Risks to the outlook - Near-term downside risks: - sluggish growth in key advanced and emerging economies, which could lead to continued weakness in the demand for diamonds (and copper); - unresolved economic problems in South Africa and continued depreciation of the Rand, which could lower SACU receipts and have a negative impact on regional investors’ sentiment; - delays in plans to restore reliability and self-sufficiency in the water and electricity sectors, with adverse impacts on costs, the fiscal balance, and the business environment; - delays on other structural reforms (e.g., deregulation and removal of red tape). - Upside near-term risk: - a faster than expected recovery in the global demand for minerals could enable a faster recovery. - Longer-term risks: - insufficient or ineffective actions to improve the efficiency of public investment and foster fiscal consolidation, economic diversification, and inclusive private sector-led growth. - Latent risk noted: - a change in the SACU revenue-sharing formula could result in even lower revenue flows and more serious fiscal pressure; the baseline projections do not assume a change in the formula. ### Box: Developments in the Diamond Industry — key facts and figures - Global and producer shares: - Botswana: 25.5 percent of world output (average 2013-2014) - Russia: 24.1 percent - Canada: 13.7 percent - Market concentration: - De Beers: 34 percent of the world market (rough diamond) - ALROSA: 25 percent - Demand composition (polished diamonds by destination): - U.S.: about 40 percent of the global market - China/Honk Kong/Macau: 15 percent - India: 8 percent - Gulf Region: 8 percent - Japan: 6 percent - Recent market developments: - Between mid-2014 and September 2015, prices for polished and rough diamonds decreased by 12 and 23 percent respectively. - Major producers began cutting production beginning in the second half of 2015. - In Botswana, De Beers reduced production by about 20 percent in 2015 and announced further cuts for 2016. - Debswana put its Damtshaa mine on care and maintenance status and plans to scale down production at the Orapa 1 mine for the period 2016-2018. - Prospects and structural considerations: - Bain and Company (2015) expects demand to return to a long-term growth trajectory of 3-4 percent per year. - On the supply side, output is expected to decline by 1-2 percent per year through 2030. - Other factors affecting the market: recycling of diamonds, emergence of synthetic stones, and deeper/more costly deposits. - Value chain and competitiveness: - Cutting and polishing firms face limited access to financing and constrained bargaining power. - In 2015, combined market share of cutting and polishing firms in China and India rose to 85 percent while the share of African companies declined. - Since the beginning of 2015, a number of polishing and cutting firms in Botswana closed, shedding about 1,000 jobs (out of a total of about 3,700). ### Policy discussions — near term and medium term - Focus areas: - near-term policy mix to counter the economic downturn, contain fiscal risks, and preserve financial stability; - medium-term measures to improve the efficiency of public investment, strengthen frameworks for managing mineral revenues and the financial sector, and foster job creation and private sector-led growth. A. Policy mix, fiscal risks, and financial stability - Macroeconomic stance and output gap: - Staff estimates a negative 1.4 percent output gap in non-mining GDP (as of the third quarter of 2015), supporting expansionary policies. - Inflation has approached the lower band of the BoB’s objective range, and monetary transmission is relatively weak; authorities shifted the policy mix in favor of fiscal stimulus. - Space for further monetary easing may be constrained by rising global interest rates. - 2016/17 budget and deficit: - The 2016/17 budget envisages a larger overall deficit with a strong focus on public investment and restraint on recurrent expenditures. - The budget roughly maintains the level of spending in nominal terms compared to the previous year’s projected outturn, but proposes somewhat higher capital expenditures and lower wages and transfers to SOEs. - The fiscal deficit is projected to reach about 4 percent of GDP and be financed by government deposits and domestic . - Liquidity and monetary policy transmission: - The drawdown of government deposits from the central bank could improve liquidity conditions and enhance monetary policy transmission through the lending channel. - The BoB agreed to continue using liquidity management tools (auctions of BoB certificates and repo transactions) and lending facilities; BoB stands ready to tighten monetary policy should inflationary pressures emerge. - Public investment execution: - Concerns about investment efficiency call for caution on public investment plans and careful project selection to avoid waste. - Authorities receptive to staff proposals for complementary reforms to build implementation capacity and ensure higher investment efficiency. - Domestic revenue mobilization: - Constrained mining and SACU revenues highlight importance of domestic revenue mobilization. - Authorities committed to return to a fiscal surplus within the next three years. - Staff recommended considering domestic revenue reforms to improve VAT collections, review exemptions, and reform property taxation. - Authorities not planning major reforms in 2016/17 to avoid interfering with the stimulus program; they requested IMF technical support for a diagnostic of tax administration. - Financial sector mitigation actions discussed: - annual on-site supervisory reviews of each institution deemed systemic (regardless of CAMEL rating), in addition to existing supervisory framework for higher-risk banks; - BoB to consider a stress test exercise aimed at assessing the impact of different shocks on households’ debt-servicing capacity; - staff supported NBFIRA implementation of a tiered prudential framework for large non-bank lenders by September 2016; - expedite reform of credit bureaus to reduce fragmentation and broaden creditor database to positive and negative credit data; allow enforcement of securities out of court via collateral agreement and introduce a collateral registry for immovable and movable assets; - consider introduction of new liquidity and/or lending facilities at the central bank (e.g., open market operations with lengthened average maturity) over time; sector consolidation may be appropriate (there are 11 commercial banks operating). B. Enhancing the framework for economic and financial stability - Historical performance and resource intensity: - Mining share of GDP declined from 28 percent of real GDP in 2007 to 17 percent in 2014, but remains high. - Minerals account for 39 percent of government revenues and nearly 90 percent of goods’ exports. - Fiscal buffers and debt: - Since 2006, debt ceilings on domestic and foreign debt, equivalent to 20 percent of GDP each, have been consistently observed. - Authorities adopted guiding principles: a 40 percent of GDP government spending cap introduced in 2006 and a target for reducing spending to 30 percent of GDP by the end of 2015/16; the 40 percent limit was only breached during the 2008 financial crisis, while the 30 percent target is not expected to be observed. - Botswana exhibits no debt vulnerabilities; public and publicly guaranteed debt has been under 25 percent of GDP and declining. - Fiscal rule considerations: - Replacing the expenditure ceilings with a new fiscal rule and clearer links with the Pula Fund and the budget process could help avoid pro-cyclical spending and ensure fiscal sustainability. - One option: a rule that ensures convergence of the non-mining primary balance (measured as non-mining revenue minus non-interest spending) as a share of GDP to a given level at the end of each NDP cycle. - Any new fiscal rule should be carefully evaluated and accompanied by a framework that strengthens and clarifies the link between the budget process, Pula Fund deposit and withdrawal rules, and a public investment program. - Financial sector frameworks: - Need for a formal macro-prudential framework and Basel II implementation to protect the sector and the economy. - Authorities developing inter-agency cooperation on financial stability and agreed on importance of assigning macro-prudential mandate and legal powers to an agency. - Staff supported BoB’s efforts to implement the Basel II simplified standardized approach by 2017, including Pillar 2 requirements. C. Diversification and inclusive growth - Current situation: - Progress with economic diversification has so far been limited and high levels of unemployment persist, with most employment creation coming from an oversized public sector. - Priorities going forward: - Well-prioritized investments in education, energy, water, and other infrastructure will be critical. - Reforms to improve the business environment and the efficiency of the public sector are required to foster private sector-led growth. *Source: IMF staff report excerpt (chapter 13) contained in content unit _cr16103.* ### 27. While poverty has been rapidly reduced in recent years, unemployment remains high ### 27. While poverty has been rapidly reduced in recent years, unemployment remains high ### Poverty, unemployment, and economic structure - Poverty declined from 31 percent in the early 2000s to 19 percent in 2009/10. - Unemployment remains high at about 20 percent of the labor force. - Growth model is diamond and public sector driven with insufficient private sector job creation. - Services sector growth outside mining has been concentrated in financial services; development of other sectors has been limited. - Promotion of diamond beneficiation has been challenged by global demand volatility and competition from other countries such as India. ### Electricity and water crises and impacts on private sector growth - Botswana faced an electricity crisis owing to problems with the commissioning of a major power plant (Morupule B) and other inefficiencies in service provision. - In 2015 the country had to import 39 percent of its electricity needs. - Following the end of a long-term purchase agreement with a major provider, electricity imports were at premium tariffs and without a guaranteed supply, contributing to shortfalls, sizable fiscal transfers to the energy company, and rising tariffs. - Water shortages have resulted from a recent drought compounded by low and unreliable rainfall and high levels of evaporation. - Botswana’s dispersed population and a spatial mismatch between water resources and population centers raise the costs of delivering water. ### Constraints on private sector development and competitiveness - 2016 Doing Business report (World Bank) ranks Botswana 72 out of 189 countries; main shortcomings: health, education, labor skills, water and electricity supply, and public infrastructure. - 2015/16 Global Competitiveness Report (World Economic Forum) ranks Botswana 71st out of 140 countries; main challenges: work ethics and education in the labor force, inefficient government, and restrictive labor regulations. - Work ethic defined as reliability, discipline, responsibility, accountability, and time consciousness amongst workers. ### Authorities’ measures to resolve utilities and reforms planned - Electricity sector actions: - Three units of Morupule A and four units of Morupule B are being refurbished and expected to enter production beginning in the last quarter of 2016. - Plan to build two additional coal powered units at Morupule B with the first expected to begin production by 2018. - Authorities expect that with existing and new units at full capacity, the country’s total demand of about 600 megawatts would be more than fully covered by 2019. - Staff encouraged development of capacity based on solar energy in cooperation with the World Bank and active private sector involvement. - Water sector actions: - Construction of a new North-South water pipeline has begun. - Regulatory measures: - Authorities intend to introduce water and electricity regulators to oversee tariffs, costs, and quality of service and other aspects of companies and the Ministry involved in the two sectors. ### Public spending, public investment management, and SOE efficiency - Authorities agreed on the need to increase efficiency and the quality of public spending. - Plans to proceed with expenditure rationalization of the wage bill and transfers to SOEs in the medium-term. - Proposal to conduct an expenditure review of the seven largest spending Ministries (these ministries account for about two-thirds of total government spending). - Staff proposals for public investment management: - Undertake a Public Investment Management Assessment (PIMA) to identify investment capacity constraints across planning, allocating and implementing processes and to identify a feasible rate of scaling up public investment. - Develop an annual public investment plan as part of NDP11 and in the context of the medium-term fiscal framework, with prioritization of projects based on cost-benefit analysis and reflecting recurrent costs (operation and maintenance) in terms of financial resources and personnel. - SOE reforms: - Launch in December 2015 of the Initial Public Offering of Botswana Telecommunications Ltd—first important public offering of an SOE in Botswana. - Staff encouraged improving SOE profitability (especially in the energy and water sector), restructuring operations, and introducing private management teams as needed. ### Business environment, labor market, and skills - Authorities, in cooperation with the World Bank, developed a time-bound action plan to: - Streamline registration of new businesses. - Reduce red tape on construction permits. - Facilitate access to credit. - To reduce skills mismatches and improve labor quality: - Authorities redesign programs with private sector participation, provide scholarships for vocational training, and offer incentives for firms to strengthen apprenticeship programs. - Staff recommendation: reduce red tape and restrictions on work permits for skilled foreign workers to raise productivity, facilitate private sector expansion, and promote transfer of skills; authorities consider current restrictions necessary to protect local workers. ### Alternative scenario: scaling up public investment and reforms - Alternative scenario simulates gradual scaling-up of public investment of about 2–3 percentage points of GDP above the baseline over 5–10 years together with reforms improving the business environment and public sector/investment efficiency. - Projection under this scenario: long-run rate of real GDP could increase by about 1.2 percentage points per year on average (from 4 percent in the baseline to 5.2 percent). - Financing for scaling-up could use diamond revenues and a portion of Pula Fund reserves, a modest amount of debt, rationalized government spending, and revenue mobilization. - Analysis shows that a more aggressive, front-loaded scaling-up would be counterproductive due to absorptive capacity constraints and reduced investment efficiency. ### Special economic zones - Authorities plan to develop up to 8 economic zones centered on activities with perceived comparative advantage (mineral downstream activities, beef, leather, financial services, agricultural processing). - Basic legislation enacted; specifics such as fiscal regimes and regulations are pending. - Staff cautioned against generous tax incentives and large investments with uncertain payoffs; urged gradual implementation. - Authorities view zones as potential faster route to a deregulated business environment and a platform for extension into the domestic economy if successful. ### Data quality and macroeconomic statistics - Botswana subscribed to the Fund Enhanced General Data Dissemination System (e-GDDS) in January 2016. - Further enhancements needed in the accuracy of balance of payment data (improving diamond sector data and reducing errors and omissions), quarterly national accounts, and timeliness of fiscal data. ### Staff appraisal: outlook, risks, and policy priorities - Recent downturn driven by decline in global demand for diamonds and copper in 2014-2015; monetary and financial policies kept inflation in check and financial sector stable. - Botswana has a strong external position, large fiscal buffers, and subdued inflation to weather temporary decreases in export prices through a supportive policy mix. - Projected gradual economic recovery for the next three years based on a measured increase in diamond prices and authorities’ fiscal stimulus program. - Risks: - Recovery in global diamond demand could be slow or protracted. - Increase in public investment may not generate sufficient impetus on aggregate demand if resources are squandered or projects have uncertain returns. - Need to avoid projects with uncertain returns, resolve energy and water crises, and deregulate the business environment. - Revenue mobilization priorities: - Review tax administration, reform the system of property taxation in line with previous technical assistance, and streamline exemptions. - If reforms are insufficient, consideration could be given to increasing the value-added tax rate. - Financial sector oversight: - Bank of Botswana’s plans to strengthen the financial system are welcomed. - Recommended heightened monitoring through on-site supervisory reviews of systemic institutions, a stress test to assess households’ debt servicing capacity, and implementation of Basel II requirements. - Over time, develop a formal macro-prudential framework. - Staff’s recommended priorities for NDP 11: - Ensure envisaged investments in energy and water are timely executed with accountability among responsible bodies, including SOEs; ensure regulators have necessary technical capacity and full independence. - Move forward with solar energy plans and actively involve the private sector. - Strengthen framework for managing mineral revenues by considering a fiscal rule and clarifying links with the Pula Fund and the budget process; one option is a rule based on the non-mineral primary fiscal balance with targets for each NDP cycle. - Undertake an expenditure review of the largest ministries and a Public Investment Management Assessment to identify savings, capacity constraints, and a target rate for scaling up public investment; formulate a public investment plan in the medium-term fiscal framework with prioritized projects based on expected costs and returns. - Lower unemployment by implementing the time-bound action plan to improve the business environment (streamline business registration, reduce red tape on construction permits, expedite reforms on access to credit and information); enhance training programs and education and complement with less onerous restrictions on work permits for skilled foreign workers. - Improve efficiency and profitability of SOEs and involve the private sector in the process. - Proceed slowly on economic zones: pilot one or two zones, avoid costly tax incentives, and ensure business environment improvements in the zones (especially removing restrictions on foreign work permits). *Source: _cr16103 - 27. While poverty has been rapidly reduced in recent years, unemployment remains high* ### 42. The staff recommends that the Article IV consultation with Botswana be held on the ### _cr16103 - 42. The staff recommends that the Article IV consultation with Botswana be held on the ### Staff recommendation - The staff recommends that the Article IV consultation with Botswana be held on the standard 12-month cycle. ### Fiscal policy and public finances - Prior Article IV recommendations: consolidate fiscal policy and rebuild fiscal buffers; develop medium term expenditure framework (MTEF); rationalize state owned enterprises (SOE); contain the wage bill; broaden the tax base. - Authorities’ actions and status: - Large fiscal surpluses recorded in FY2013/14 and FY2014/15: 5.6 and 2.5 percent of GDP, respectively. - FY2014/15 budget included medium term projection of government accounts; ministries undergoing budgeting exercise to inform MTEF expenditure ceilings. - Progress with MTEF hampered by capacity constraints; continued TA support required. - Profitability improved in a number of Public Enterprises; IPO of Botswana Telecommunication Corporation launched in December 2015; some SOEs continue to register significant losses. - Wage bill remained at 12–13 percent of GDP in recent years; draft 2016/17 budget aims to contain wage bill by reducing non-salary wage components (e.g., missions, overtime). - Income taxes and taxes on goods and services as a share of non-mining GDP have remained virtually unchanged or declining. - Central government fiscal indicators (selected): - Total revenue and grants (percent of GDP): 36.2 (2012), 38.0 (2013), 39.6 (2014), 36.8 (2015), 31.3 (2016), 31.3 (2017), 30.4 (2018), 30.6 (2019), 30.3 (2020, prelim.). - Total expenditure and net lending (percent of GDP): 35.4 (2012), 32.4 (2013), 35.8 (2014), 39.7 (2015), 35.2 (2016), 34.3 (2017), 31.9 (2018), 30.3 (2019), 29.3 (2020, prelim.). - Overall balance (deficit –) (percent of GDP): 0.8 (2012), 5.6 (2013), 3.8 (2014), -3.0 (2015), -3.9 (2016), -3.0 (2017), -1.5 (2018), 0.3 (2019), 1.0 (2020, prelim.). - Non-mineral primary balance (percent of GDP): -13.0 (2012), -13.6 (2013), -16.9 (2014), -20.7 (2015), -19.1 (2016), -17.7 (2017), -15.3 (2018), -14.3 (2019), -13.3 (2020, prelim.). - Total central government debt (percent of GDP): 18.9 (2012), 17.6 (2013), 17.9 (2014), 17.8 (2015), 15.6 (2016), 11.8 (2017), 10.4 (2018), 9.1 (2019), 8.1 (2020, prelim.). ### Revenue composition and tax base - Tax revenue (percent of GDP, selected years): 29.8 (2012), 32.1 (2013), 37.6 (2014), 34.9 (2015), 32.6 (2016), 35.9 (2017), 39.4 (2018), 43.4 (2019), 47.3 (2020). - Income taxes (percent of GDP): 10.0 (2012), 13.7 (2013), 15.9 (2014), 13.8 (2015), 14.6 (2016), 16.4 (2017), 18.2 (2018), 20.5 (2019), 22.7 (2020). - Mineral royalties and dividends (percent of GDP): 8.8 (2012), 12.3 (2013), 14.0 (2014), 13.8 (2015), 12.7 (2016), 13.6 (2017), 14.4 (2018), 16.9 (2019), 18.4 (2020). ### Monetary and external sector - Real GDP growth (calendar year): 4.5 (2012), 9.9 (2013), 3.2 (2014), -0.3 (2015), 3.7 (2016, prelim.), 4.3 (2017), 4.4 (2018), 5.0 (2019), 4.3 (2020). - Diamond production (millions of carats): 20.9 (2012), 23.0 (2013), 24.7 (2014), 21.7 (2015), 20.8 (2016), 21.0 (2017), 21.0 (2018), 23.0 (2019), 24.2 (2020). - Consumer prices (average): 7.5 (2012), 5.9 (2013), 4.4 (2014), 3.0 (2015), 3.4 (2016), 3.6 (2017), 4.0 (2018), 4.2 (2019), 4.3 (2020). - Current account balance (percent of GDP): 0.3 (2012), 8.9 (2013), 15.7 (2014), 9.3 (2015), 2.2 (2016), 2.9 (2017), 4.3 (2018), 9.3 (2019), 9.8 (2020). - Gross official reserves (end of period, US$ millions): 7,617 (2012), 7,768 (2013), 8,313 (2014), 7,500 (2015), 8,130 (2016), 9,060 (2017), 10,078 (2018), 11,999 (2019), 14,162 (2020). - Months of imports of goods and services: 10.0 (2012), 10.6 (2013), 14.4 (2014), 11.4 (2015), 11.7 (2016), 12.2 (2017), 12.9 (2018), 14.7 (2019), 16.9 (2020). - Months of non-diamond imports: 14.8 (2012), 15.9 (2013), 18.8 (2014), 15.5 (2015), 16.0 (2016), 16.9 (2017), 18.8 (2018), 21.6 (2019), 24.8 (2020). ### Financial sector supervision and vulnerabilities - Prior recommendations: strengthen regulation and supervision of nonbank financial institutions; monitor commercial banks’ exposure to households and consider macroprudential measures; establish credit bureau arrangements; develop a property market index. - Authorities’ actions and status: - Authorities strengthened NBFIRA’s skill base and regulatory infrastructure with MCM TA assistance. - Macroprudential tools not introduced; credit growth declined significantly making introduction unnecessary at this stage. - Reform of legislation governing credit bureaus not completed. - BoB subscribed to a quarterly property market report and is working on a property price index for Botswana. - Financial soundness indicators (selected): - Nonperforming loans to total gross loans: 2.6 (2012), 3.6 (2013), 3.6 (2014), 3.3 (Mar-15), 4.3 (Jun-15), 4.5 (Sep-15). - Return on assets: 1.2 (2012), 3.7 (2013), 2.8 (2014), 1.3 (Mar-15), 3.4 (Jun-15), 1.9 (Sep-15). - Capital to assets: 11.9 (2012), 11.3 (2013), 11.3 (2014), 10.3 (Mar-15), 11.0 (Jun-15), 10.8 (Sep-15). - Liquid assets to total assets: 16.7 (2012), 12.4 (2013), 11.0 (2014), 16.0 (Mar-15), 16.4 (Jun-15), 19.5 (Sep-15). - Customer deposits to total (non-interbank) loans: 139.7 (2012), 122.8 (2013), 113.9 (2014), 134.6 (Mar-15), 125.3 (Jun-15), 130.6 (Sep-15). ### Growth, diversification, and structural policy priorities - Growth and diversification: - Nonmineral real GDP growth (calendar year): 6.4 (2012), 7.4 (2013), 3.7 (2014), 3.6 (2015), 4.7 (2016), 4.8 (2017), 4.9 (2018), 4.6 (2019), 4.3 (2020). - Gross savings (percent of GDP): 39.6 (2012), 41.8 (2013), 46.3 (2014), 37.1 (2015), 33.6 (2016), 33.6 (2017), 35.6 (2018), 42.6 (2019), 44.8 (2020). - Policy priorities emphasized by staff: - Broaden domestic tax base and accelerate domestic revenue mobilization (especially VAT collection). - Rationalize public expenditures and improve efficiency of government spending, including in SOEs. - Enhance implementation capacity in public investment and involve the private sector to improve efficiency of large capital projects. - Strengthen supervision and regulation of banks and NBFIs; improve capacity to monitor systemic risk; progress on credit bureau legislation. - Develop reliable property market index to monitor price developments. ### Risk Assessment Matrix (RAM) — main risks, likelihood, and possible policy responses - Global growth slowdown and weak demand in advanced and emerging economies: - Likelihood: HIGH for Advanced Economies; MEDIUM for Emerging Markets. - Expected impact: HIGH. - Consequence: Sluggish growth, erosion of reserves, lower commodity prices affecting diamonds and mining. - Policy response: Short-term countercyclical fiscal and accommodative monetary policies; medium-term reforms to broaden tax base, rationalize public expenditures, and improve SOE efficiency. - Sluggish growth in South Africa, rand depreciation, or SACU revenue revision: - Likelihood: HIGH. - Expected impact: MEDIUM. - Consequence: Lower customs receipts; limited but non-negligible fiscal and external effects. - Policy response: Accelerate domestic revenue mobilisation (VAT), rationalize government spending, lower energy transfers, strengthen PFM. - Continued disruptions in electricity and water provision: - Likelihood: MEDIUM. - Expected impact: HIGH. - Consequence: Delays in planned projects; adverse effects on private sector growth and diversification. - Policy response: Enhance implementation capacity in public investment; increase private sector involvement. - Deterioration in lenders’ asset quality due to household loan portfolio weakness: - Likelihood: LOW. - Expected impact: MEDIUM. - Consequence: Vulnerability of banks and microlenders; potential deleveraging and reduced private lending. - Policy response: Enhance supervision and regulation of banks and NBFIs; improve capacity to monitor systemic risk; improve credit bureau regulation. *Source: IMF staff report (Botswana Article IV consultation materials as provided).* ### Appendix I. International Reserve Adequacy ### Appendix I. International Reserve Adequacy ### Introduction - At end 2015, international reserves stood at about US$7.5 billion, equivalent to 65 percent of GDP and about 12 months of imports. - Authorities measure reserve coverage in months of current year imports of goods and services excluding diamond imports for re-exporting purposes (which would yield about 16 months of imports at end 2015). This measure could overstate the coverage because next year’s imports are typically higher than current year’s imports and because, even if re-exported, diamond imports need to be paid with foreign currency. - Under the baseline projections, import coverage is projected to improve over time as real diamond prices are expected to gradually return to their long-term average. ### Reserve Adequacy Framework - Simple rules of thumb (three months of imports; full cover of short-term debt plus debt service; twenty percent of broad money) focus on single vulnerabilities and may provide conflicting signals. - The IMF’s metric for market access countries is a risk-weighted measure based on observed outflows in previous episodes of exchange market pressures and captures multiple sources of risk. - Four specific sources of risk captured by the metric: - Export earnings (potential loss from a terms of trade shock). - Short-term debt at remaining maturity (short term debt plus debt service) to reflect liquidity (rollover) risk. - Portfolio investments plus medium and long-term debt to account for drains caused by non-residents’ investment. - Broad money as a proxy for resident capital flight. - Other sources of risk (derivative exposures, exchange rate misalignments) are not incorporated due to data limitations. - Weights for countries with a fixed exchange rate (as applied in staff calculations for Botswana) are: - Short-term Debt: 30% - Other Liabilities: 20% - Broad Money: 10% - Exports: 10% - For commodity-exporting countries, additional buffers are suggested if commodity exports exceed 50 percent of total exports. Botswana’s commodity exports account for about 80 percent of exports of goods and services (over 90 percent of exports of goods). - Because the IMF’s proposed methodology for commodity exporters relies on future contract prices (not available for diamonds), staff consider a weight of 25 percent for exports could be more adequate for Botswana to reflect the high volatility of diamond prices. ### Results and Key Statistics - Reserves on the range of 100-150 percent of the composite IMF metric are considered appropriate. - For Botswana, the IMF metric implies: - Adequate reserves corresponding to 15 to 22 percent of GDP (100-150 percent of the composite metric). - Current level: 65 percent of GDP. - Using a more conservative weight of 25 percent for exports, adequate reserves would be 20 to 30 percent of GDP. - Even under the 25 percent exports weight scenario, the current level of reserves (65 percent of GDP) would be more than twice the upper bound of the adequate range. - Historical perspective: - For the past twenty years the level of reserves has far exceeded the upper bound of the adequacy range. - Composition and internal adequacy: - International reserves are composed of the liquidity portfolio and the Pula Fund. - The liquidity portfolio covers six months of current year non-diamond imports and falls within the adequacy range according to the IMF’s metric (about 5 to 8 months of current year non-diamond imports of goods and services). - Excess reserves, compared to the IMF’s metric, are kept in the Pula Fund. - About 2/3 of international reserves are accounted for by the Pula Fund (the rest corresponds to the liquidity portfolio). - Within the Pula Fund, 1/3 is owned by the Bank of Botswana (BoB) and the rest by the government. ### Policy Findings and Recommendations - The authorities need to continue monitoring reserve adequacy and implementing policies that make judicious use of revenues from non-renewable resources given volatile and uncertain foreign exchange receipts. - Regarding the Pula Fund and foreign reserves: - Clarify the purpose, ownership and rules for withdrawals by the government of the Pula Fund (from the government’s investment account). - Clarify the ownership structure and review the asset allocation strategy: - The liquidity portfolio should be solely owned by the BoB and used for countercyclical purposes. - Part of the reserves in the Pula Fund could potentially be invested in longer-term instruments (given the goal to generate income for future generations) to achieve higher average returns. - Policy stance on reserve buffers: - Given the volatility of diamond receipts, the risk of lower SACU transfers, and diamond exhaustibility, the authorities need to ensure a foreign reserves buffer for stabilization purposes of at least 20 percent of GDP. - Capacity constraints limit the scope for a rapid public investment program, implying that a sizable amount of resources should be kept at the Pula Fund. - Any withdrawals from the Pula Fund should obey a well-prioritized investment plan embedded in a medium-term fiscal framework. *Source: Appendix I. International Reserve Adequacy (IMF staff report content).* ### 4. As noted in Appendix V, if the country embarks on a program of higher public investment in ### _cr16103 - 4. As noted in Appendix V, if the country embarks on a program of higher public investment in ### Medium–Term External Debt Sustainability — Key Findings - Botswana’s gross external debt fell from about 21 percent of GDP in 2012 to about 18 percent of GDP at end-2014. - Public sector external borrowing was mainly from multilateral organizations, including the International Bank for Reconstruction and Development and the African Development Bank. - The stock of external debt is projected to fall from an estimated 19 percent of GDP in 2015 to about 10 percent of GDP in 2021 (Table 2). - A process of medium-term fiscal consolidation, supported by gradual improvement in international terms of trade and stable FDI inflows, is expected to support further decline in Botswana’s external debt ratios. - An alternative scenario with key debt-creating variables at their historical levels indicates Botswana could be a net creditor vis-à-vis the rest of the world in just a few years time if diamond prices recover towards their long-term average and other mining activities expand. - Staff simulations indicate external debt-to-GDP ratio is marginally sensitive only to a current account shock; a real depreciation shock increases the debt-to-GDP ratio initially but has only a marginal impact on medium-term debt dynamics. - Botswana’s external debt is not very sensitive to a shock in interest rates and economic activity. - Conclusion: Botswana’s PPG is low and projected to remain subdued over the medium-term; debt dynamics remain sustainable under the baseline and standard stress tests show no debt vulnerability. Botswana is classified as a low debt scrutiny country. ### Public Sector Debt DSA — Baseline Projections and Indicators (selected exact figures) - As of December 15, 2015: Nominal gross public debt series (in percent of GDP): 2014: 17.7; 2015: 23.2; 2016: 25.2; 2017: 22.2; 2018: 19.7; 2019: 17.4; 2020: 15.3; 2021: 13.4; (final listed) 12.1. - Public gross financing needs (in percent of GDP): 2014: 0.5; 2015: -1.9; 2016: 5.2; 2017: 5.0; 2018: 3.8; 2019: 2.5; 2020: 0.8; 2021: 0.0; 2021: -0.5. - Real GDP growth (in percent): 2014: 5.4; 2015: 3.2; 2016: -0.3; 2017: 3.7; 2018: 4.6; 2019: 4.7; 2020: 5.0; 2021: 4.8; 2021 (final listed): 4.1. - Inflation (GDP deflator, in percent): 2014: 7.3; 2015: 11.0; 2016: -3.3; 2017: 6.3; 2018: 4.4; 2019: 5.1; 2020: 4.8; 2021: 5.9; 2021 (final listed): 3.5. - Nominal GDP growth (in percent): 2014: 13.1; 2015: 14.6; 2016: -3.6; 2017: 10.2; 2018: 9.2; 2019: 10.0; 2020: 10.0; 2021: 11.0; 2021 (final listed): 7.7. - Effective interest rate (in percent): 2014: 4.4; 2015: 2.3; 2016: 2.4; 2017: 2.4; 2018: 2.7; 2019: 2.7; 2020: 3.2; 2021: 5.5; 2021 (final listed): 6.5. - Change in gross public sector debt (cumulative, percent of GDP): 2005-2013 actual: 1.6; 2014: -0.8; 2015: 61.9; 2016: 7.0? (table shows sequence ending with cumulative -13.1). - Identified debt-creating flows (cumulative entry): -0.4; -1.0; 56.1; 0; -1.2; -0.7; -0.8; -1.0; -0.6; -0.1; cumulative -4.3. - Primary deficit (in percent of GDP): 2014: -1.1; 2015: -4.0; 2016: 2.5; 2017: 3.6; 2018: 2.3; 2019: 0.9; 2020: -0.9; 2021: -1.8; 2021 final: -3.4; cumulative 0.8. - Primary (noninterest) revenue and grants (in percent of GDP): 2014: 39.9; 2015: 39.0; 2016: 37.7; 2017: 31.9; 2018: 32.4; 2019: 31.3; 2020: 31.3; 2021: 30.9; 2021 final: 31.9; cumulative 189.6. - Primary (noninterest) expenditure (in percent of GDP): 2014: 38.8; 2015: 35.0; 2016: 40.2; 2017: 35.5; 2018: 34.7; 2019: 32.2; 2020: 30.4; 2021: 29.1; 2021 final: 28.5; cumulative 190.4. - Automatic debt dynamics contribution (in percent of GDP): -0.5; -1.1; 5.9; -1.6; -1.0; -0.9; -0.8; -0.5; 0.2; cumulative -4.6. - Interest rate/growth differential (in percent): -1.3; -2.6; 1.4; -1.8; -1.3; -1.3; -1.1; -0.8; -0.1; cumulative -6.4. - Exchange rate depreciation contribution (in percent): 0.7; 1.4; 4.5; (subsequent entries dotted). - Other identified debt-creating flows and privatization receipts (negative) (in percent): 1.2; 4.1; -2.3; -3.3; -2.0; -0.8; 0.7; 1.7; 3.2; -0.5. - Contingent liabilities: 0.0 across series. - Residual, including asset changes (in percent): 2.1; 0.2; -4.1; -1.5; -1.4; -1.2; -0.9; -1.0; -1.0; cumulative -7.0. ### Composition of Public Debt and Alternative Scenarios (high-level) - Figures present baseline, historical, and constant primary balance scenarios for: Real GDP growth; Inflation; Primary Balance; Effective interest rate. - Baseline underlying assumptions (selected exact values for 2016–2021): - Real GDP growth: 2016: 3.7; 2017: 4.6; 2018: 4.7; 2019: 5.0; 2020: 4.8; 2021: 4.1. - Inflation: 2016: 6.3; 2017: 4.4; 2018: 5.1; 2019: 4.8; 2020: 5.9; 2021: 3.5. - Primary Balance (baseline series shown): -3.6; -2.3; -0.9; 0.9; 1.8; 3.4 (2016–2021). - Effective interest rate (baseline series shown): 2.4; 2.7; 2.7; 3.2; 5.5; 6.5 (2016–2021). - Constant Primary Balance scenario uses Primary Balance = -3.6 for 2016–2021 and specified Effective interest rate path. ### External Debt Sustainability Framework — Table 2 (selected exact figures) - Baseline: External debt (in percent of GDP): 2011: 20.2; 2012: 20.6; 2013: 18.5; 2014: 18.1; 2015: 18.8; 2016: 16.7; 2017: 15.2; 2018: 13.5; 2019: 12.0; 2020: 10.7; 2021: 9.7. - Change in external debt (in percent of GDP): 2011: 1.0; 2012: 0.4; 2013: -2.1; 2014: -0.5; 2015: 0.7; 2016: -2.1; 2017: -1.6; 2018: -1.7; 2019: -1.5; 2020: -1.3; 2021: -0.9. - Identified external debt-creating flows (in percent of GDP): -14.0; -2.6; -11.2; -19.5; -8.1; -5.8; -7.0; -8.0; -12.7; -13.0; -13.2. - Current account deficit, excluding interest payments (in percent of GDP): -3.4; -0.9; -9.4; -16.0; -9.9; -2.6; -3.5; -4.3; -9.3; -9.6; -10.2. - Deficit in balance of goods and services (in percent of GDP): 3.7; 11.8; -0.1; -7.1; -0.2; 4.0; 2.5; 1.0; -4.2; -4.8; -5.5. - Exports (in percent of GDP): 2011: 50.1; 2012: 48.4; 2013: 61.9; 2014: 62.3; 2015: 54.3; 2016: 58.0; 2017: 59.0; 2018: 60.2; 2019: 64.3; 2020: 63.3; 2021: 63.2. - Imports (in percent of GDP): 53.8; 60.3; 61.9; 55.2; 54.1; 61.9; 61.5; 61.2; 60.0; 58.5; 57.8. - Net non-debt creating capital inflows (negative, in percent of GDP): -8.9; -3.2; -2.1; -2.5; -2.9; -3.0; -3.2; -3.3; -3.3; -3.3; -3.1. - Automatic debt dynamics (in percent of GDP): -1.7; 1.4; 0.3; -1.0; 4.7; -0.2; -0.3; -0.4; -0.1; 0.0; 0.1. - Contribution from nominal interest rate: 0.3; 0.6; 0.5; 0.3; 0.5; 0.5; 0.4; 0.2; 0.5; 0.5; 0.6. - Contribution from real GDP growth: -1.0; -0.9; -2.0; -0.6; 0.1; -0.7; -0.7; -0.7; -0.6; -0.5; -0.4. - Contribution from price and exchange rate changes: -0.9; 1.8; 1.9; -0.7; 4.1; (subsequent entries dotted). - Residual, including change in gross foreign assets (in percent of GDP): 15.0; 3.1; 9.1; 19.1; 8.8; 3.8; 5.5; 6.3; 11.2; 11.7; 12.2. - External debt-to-exports ratio (in percent): 40.3; 42.6; 29.9; 29.0; 34.6; 28.8; 25.7; 22.4; 18.6; 16.8; 15.3. - Gross external financing need (in billions of US dollars and percent of GDP): table lists values across years including large negative and positive entries; (exact large figures preserved in table but abbreviated here in narrative form). ### Stress Tests, Scenarios, and Sensitivities - Alternative scenario: If diamond prices recover to long-term average and mining expands, Botswana could become a net creditor in a few years (Figure 2). - Debt is marginally sensitive to current account shocks; real depreciation shock increases debt-to-GDP initially but marginally affects medium-term dynamics. - Individual shocks in Figure 2 are permanent one-half standard deviation shocks; boxes show average projections for variables in baseline and scenario; ten-year historical averages shown. - Specific shock described: One-time real depreciation of 30 percent occurs in 2010. - Combined shock and growth shock scenarios presented with baseline and historical comparisons; growth shock values noted (e.g., Baseline: 3.2, Scenario: 5.0, Historical: 4.2; Baseline: 4.6, Scenario: 2.0, Historical: 4.7; Baseline: 5.9, Scenario: 1.5, Historical: 7.7). ### Fiscal Rules for Botswana — Assessment and Options - Existing framework: guiding principles in the form of expenditure ceilings and formal debt limits on domestic and external debt. - Strengthening recommended: adopt a new fiscal rule with clear links between the budget, Pula Fund deposits and withdrawals, and a medium-term investment program. - Definition: A fiscal rule is a permanent constraint on fiscal policy through simple, credible, and reasonably flexible numerical limits on budgetary aggregates. - For resource-rich countries, fiscal rules should address: (i) appropriately assess the macro-fiscal stance; (ii) ensure long-term sustainability and intergenerational equity; and (iii) provide instruments to manage revenue volatility and uncertainty. - Pros and cons noted: - Pros: correct distorted incentives, support fiscal credibility and discipline. - Cons: may be redundant without political commitment; may be non-binding in good times and procyclical in bad times; silent on composition of adjustment; risk of creative accounting and off-budget operations. - Historical experience mixed: Chile and Norway adhered to fiscal paths; Venezuela and several EU members saw rules ignored, distorted, or dismantled. - Current fiscal framework specifics: - One binding debt limit legislated as the Stock, Bonds, and Treasury Bills Act of 2005 caps total domestic and foreign debt each to 20 percent of GDP. - Spending limits include a 40 percent of GDP government spending cap introduced in 2006 (NDP9), and a target reduction of government spending to 30 percent of GDP by the end of the financial year 2015/16 (NDP10). - The 40 percent limit was not breached except during the 2008 financial crisis when overall spending increased to about 47 and 50 percent of GDP in 2008/09 and 2009/10, respectively. - Except for the legislated debt ceilings, the other rules are objectives rather than institutionalized binding constraints; ad hoc nature and inconsistent use point to weaknesses. - Rationale for strengthening: - A simpler fiscal rule could better shield government spending from pro-cyclicality, ensure fiscal sustainability, and preserve Botswana’s wealth for future generations. - The overall fiscal balance may not be a reliable indicator of government’s adjustment effort; current guiding principles give rise to unintended procyclicality (positive correlation between current expenditure and mineral revenue over 1994/95-2014/15). - Options presented for fiscal rules in resource-rich countries (examples): - Timor-Leste’s non-mineral primary balance (NMPB) rule — limits expenditures and/or increases non-mineral revenues; can include escape clause for crises. - Norway’s Non-Mineral Deficit rule — limits non-mineral deficit to an assumed rate of return on accumulated assets (Pula Fund); disadvantage: Botswana has large development needs. - Chile’s structural primary balance rule — includes mechanisms for price smoothing and cyclical adjustments; requires long-run diamond price assessment and could be administratively burdensome. *Source: IMF staff, Botswana country report content unit.* ### 7. A non-mineral primary balance (NMPB) rule in percent of non-mineral GDP could be an ### _cr16103 - 7. A non-mineral primary balance (NMPB) rule in percent of non-mineral GDP could be an ### Objective and design of the NMPB - Objective: gradually adjust spending to the level of non-mineral revenues and eventually achieve enough non-mineral revenue to cover both current and capital expenditure (given diamond exhaustibility). - Alternative: a non-mineral primary current balance is another option but would require strong complementary safeguards to prevent accounting changes; deemed inferior due to weaknesses in Botswana’s chart of accounts that do not allow for proper classification of current versus capital expenditures. - Any chosen rule would need to be complemented with a clear link between the budget process, deposits and withdrawals from the Pula Fund, and the medium-term fiscal framework. - Illustrative rule mechanics (example provided in text): non-mineral deficit = non-mineral revenues + (4% * value of the Pula Fund). ### Rationale and expected benefits - The NMPB could: - facilitate non-mining revenue mobilization; - restrain spending; - ensure fiscal sustainability. - Evidence: non-mineral (or non-resource) revenue in Botswana is far below comparable levels in countries with similar income per capita. - Comparison cited: upper middle-income countries like South Africa and Turkey have non-resource tax revenues near 30 percent of GDP (Figure 2). - Policy implication: a bold tax reform program in the context of a successful diversification and growth strategy could help over time unleash Botswana’s large non-mining revenue potential, critical to finance future current and capital expenditures. ### Design considerations and caveats - Any fiscal rule should: - take a long-term view of revenues, especially mineral revenues, which are likely to decline in coming decades (diamond reserves could last up to 2050); - limit expenditure growth, especially on current outlays, by denominating them as a share of non-mineral GDP to avoid ramping up expenditure during mineral revenue booms; - account for the need to scale up public investment while addressing weak public investment management. - Complementary needs for scaling-up public investment: - improve planning, allocating, executing and monitoring of public investment projects; - formulate a clearly prioritized public investment program; - link that program to the medium-term fiscal framework. ### Key characteristics of a clear and credible fiscal rule (as noted in the source) - (i) simplicity; - (ii) sustainability, by focusing on ensuring medium-term fiscal health; - (iii) preventing pro-cyclicality; - (iv) flexibility, by including well-defined escape clauses and by limiting excessive ad hoc changes. --- ### Appendix V summary: Scaling Up Public Investment — model, scenarios, and outcomes - Framework: DIGNAR (Debt, Investment, Growth and Natural Resources) model calibrated to Botswana; captures investment inefficiencies and absorptive capacity constraints; extended to account for foreign direct investment effects. - Context notes: - Botswana has experienced strong growth and poverty reduction over the past two decades; challenges include high inequality and unemployment, insufficient infrastructure (particularly water supply and power generation), and lack of economic diversification. - Mining wealth, especially diamonds, is expected to last until 2050. - Empirical estimate of public investment efficiency for Botswana: close to 60 percent (cited studies). - Two alternative public investment scaling-up approaches considered (neither assumes major increases in investment efficiency): - Gradual scaling-up: - spending on growth-enhancing investment projects in infrastructure increased gradually (up to 12 percent of GDP over the short- to medium-run); - allows for higher long-term growth in non-mineral output of about 0.5 percent above trend; - financed by using a portion of existing Pula Fund reserves up to a notional floor set at 50 percent of the current stock, together with rationalized government spending, successful revenue mobilization, and a modest amount of domestic borrowing. - Aggressive, front-loaded scaling-up: - public investment increases faster and by more (reaching about 14 percent of GDP in the short run); - delivers only a slightly larger build-up of public capital and higher non-mineral output but lower private consumption and welfare in the medium-run compared to the gradual case; - constrained by absorptive capacity which lowers investment efficiency and increases the cost of public capital build-up; - implies a slightly larger build-up of public debt and higher debt service costs. - Historical context: these investment levels are within past values for Botswana and consistent with the country’s infrastructure deficit, where in selected years public investment rose to over 15 percent of GDP. ### Impact of improved public investment efficiency - Illustrative superior scenario: - increase in public investment efficiency from 60 to 80 percent over a period of ten years; - increase in the annual net return on investment from 15 to 20 percent. - Outcome under this superior scenario: - the gradual scaling up of investment in infrastructure leads, on average, to additional long-run growth of about 1.2 percentage points of non-mineral GDP per year. - improved efficiency allows for a larger build-up of productive public capital which raises the return to private investment, enhances positive spillovers from foreign investment, and results in significantly higher private investment and consumption. - over time, savings in the Pula Fund quickly recover and continue to accumulate. *Source: IMF staff analysis in Chapter 7 and Appendix V of the provided IMF document.* ### 9. In sum, Botswana could undertake a gradual scaling up of public investment over the next 5- ### 9. In sum, Botswana could undertake a gradual scaling up of public investment over the next 5-10 years financed mostly with accumulated and prospective mineral receipts and, over time, domestic revenues. ### Scaling up public investment: scenarios, requirements, and expected benefits - Scaling-up scenario (Efficiency 60%, Return to public investment 15%) - With improved efficiency and productivity (Efficiency 80%, Return to public investment 20%) - Key requirements for successful scaling up: - Strengthen capacity to manage investments within well-designed priority infrastructure projects. - Prepare a prioritized public investment program based on sound cost-benefit analysis. - Boost education and training of the labor force. - Embark on selective private-public partnerships. - Implement complementary reforms to reduce red tape and regulations to enable private sector growth. - Expected outcomes: - Conversion of mineral wealth into productive and high quality public capital. - Diversification of the economy and fostering of sustained and inclusive growth. - Domestic revenue mobilization will be important to support the budget over time, notably in light of the exhaustibility of mineral receipts. ### Recent macroeconomic developments and outlook - 2015 GDP: - Third quarter GDP estimates showed a 3.5 percent contraction. - The GDP estimate for 2015 was revised downward from 2.6 percent to 1.0 percent. - Growth projections: - GDP growth projected at 4.2 percent in 2016 and 4.3 percent in 2017. - Inflation and monetary policy: - Annual inflation rate fell from 3.8 percent at end-2014 to 3.1 percent at end-2015. - The Bank Rate was reduced by a cumulative 150 basis points to 6.0 percent in 2015. - Monetary policy will remain accommodative in the near term, with readiness to tighten if inflationary pressures arise. - Exchange rate and reserves: - Exchange rate as of February 4, 2016: US$1 = P11.28; R1 = P0.71. - Botswana maintains a crawling peg against a basket: basket weights maintained at 50 percent South African rand and 50 percent IMF’s Special Drawing Rights (SDR). - Rate of crawl changed from zero in 2015 to an upward rate of 0.38 percent per annum for 2016. - Gross official reserves increased by 7.3 percent to P84.9 billion in December 2015, equivalent to 19 months of imports cover. - Current account and external sector: - Current account surplus estimated to decrease to P11.3 billion in 2015 from P22.2 billion in 2014, mainly due to lower diamond exports. - Fiscal policy and public finances: - Authorities’ guiding principle includes an expenditure ceiling of 40 percent of GDP. - 2016/17 National Budget envisages continued government investment to address infrastructure challenges (water and electricity) and support growth. - Budget deficit projected at 4 percent of GDP for 2016/17. - Deficit financing: drawing down on government deposits and foreign and domestic debt issuance. - Fiscal measures: contain expenditure, reduce public sector wage bill, improve efficiency of State-owned Enterprises (SOEs), introduce stricter project appraisal criteria, minimize implementation delays. - Risks to the outlook: - Uncertain external environment. - Sluggish growth projected for South Africa, adversely affecting SACU revenues. - Prolonged depression of commodity prices, especially contraction of the diamond market in 2015. - Domestic shortages of water and electricity. ### Data, statistics, and technical capacity - Data adequacy: Data provision is adequate for surveillance but with shortcomings in national accounts, fiscal, monetary, and external sector statistics regarding accuracy and reliability. - National accounts: - SB rebased GDP to 2006 in October 2012 and revised national accounts in 2015 to include new mines. - 2013 real growth rate revised up to 9.9 percent from 5.9 percent due to corrections. - Need for more frequent household surveys; last conducted in FY 2009/10. - Price statistics: - Monthly CPI available; annual inflation rates noted above. - SB working to update CPI weights based on recent Household Income and Expenditure Survey. - Government finance statistics: - Compilation follows GFSM 1986 concepts but covers only budgetary central government activities. - No fiscal statistics compiled for extra budgetary institutions, consolidated central government, or consolidated general government. - Recurrent and development expenditure data published with significant lag. - Monetary and financial statistics: - Compilation consistent with the Monetary and Financial Statistics Manual. - Central bank survey typically available with a lag of about three months. - BoB seeking to expand coverage to nonbank financial intermediaries (NBFI). - Balance of payments and IIP: - Concepts follow BPM5. - Preliminary BOP data disseminated within two months; revised data after nine months. - Source data issues: International Transaction Reporting System (ITRS) has become unreliable for services and transfers; challenges in valuation of diamond exports/imports and SACU settlements; relocation of De Beers’ London operations created compilation challenges. - Data dissemination: - Botswana implemented the Enhanced General Data Dissemination System (e-GDDS) in January 2016. - Essential macroeconomic data available through the National Summary Data Page (NSDP) on the central bank website. - Technical assistance and Fund involvement (selected): - IMF technical assistance in areas including Domestic Revenue Mobilization, Public Investment Efficiency, Medium-term Expenditure Framework, Government Finance Statistics, Non-Bank Lenders’ Supervision, Macro-Financial Forecasting, Macroprudential Supervision, and Balance of Payment Statistics. - Joint World Bank and IMF work program and World Bank proposed lending and TA activities (listed in the source). ### Structural reforms and human capital - Structural challenges: - Land-locked country with a very small population and market base; need to reduce cost of doing business and shift exports toward labor intensive services. - Water and electricity shortages increase business costs and exacerbate infrastructure bottlenecks. - Government priorities (2016/17): - Major energy and water infrastructure projects to be implemented over the medium term. - Economic activities prioritized to create employment: road network improvement and maintenance, wildlife and tourism initiatives, establishment of special economic zones, continued Economic Diversification Drive (EDD) initiatives. - Education and training: - Education outcomes have been declining despite resources invested. - In 2015, authorities adopted the Education and Training Sector Strategic Plan (ETSSP). - ETSSP expected to improve vocational education and training and better align skills with labor market needs. - Continued investment in education and training emphasized. *Prepared by African Department in consultation with the Statistics Department and World Bank Staff; March 1, 2016.* --- _Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2016/_cr16103.pdf_