On September 9, 2013, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation with Botswana.¹

After two consecutive years of strong post-crisis growth, Botswana’s output growth slowed down from about 6 percent in 2011 to about 4 percent in 2012. The deceleration was driven by the decline in the mining sector growth owing to the subdued global demand for diamonds, which continued during the first quarter of 2013. On the expenditure side, domestic demand was strong in 2012, with private consumption and investments growth at about 9 and 13 percent, respectively, in real terms.

Consumer price inflation decelerated markedly to 5.8 at end June 2013, just below the upper end of Bank of Botswana’s (BoB) medium-term objective range of 3–6 percent. Inflation deceleration was in part due to a base effect of increased administrated prices during last year. Core inflation, which excludes administered prices, has also declined. The BOB reduced its policy rate by 100 basis points during April – June 2013 motivated by its positive medium-term inflation outlook.

Although Botswana’s banking system is profitable and well-capitalized with relatively low nonperforming loans; there are potential vulnerabilities stemming from the high concentration of banks’ loans to household and the acceleration in growth of unsecured lending. While there is no comprehensive data on the overall level of household indebtedness, due mainly to the paucity of information on household credit from the non-banking sector, the level of household leverage has increased significantly in recent years.

The budget was balanced in fiscal year (FY) FY2012/13; the first time since the 2008 crisis. The ongoing fiscal consolidation appears to have no substantial dampening impact on non-mineral sector growth. The authorities’ achieved this growth-friendly consolidation through reining in nonproductive nonwage current expenditure and the windfall of Southern African Customs Union (SACU) revenues. On the revenue side, non-mineral income tax and mineral revenues underperformed reflecting subdued economic activity.

Botswana has been in current account deficit since the 2008-09 financial crisis. The combination of subdued diamond exports and fast import growth continues to drive the trade deficit. Official transfers, mainly SACU revenues, have also contributed to the narrowing of the current account deficit from its 2009 level. As a result, the overall external position continues to be relatively strong with official reserve coverage standing at about 11 months of import cover at end-June 2013. The real effective exchange rate depreciated slightly over the last 12 months.

Staff projects that Botswana’s real GDP growth will remain at about 4 percent in 2013. Growth is expected to pick up slightly to 4.5 percent in 2015 supported by the increased electricity production and a recovery in the mining sector, and subsequently stabilize at around 4 percent. Headline inflation is likely to remain close to the upper end of the BoB’s medium-term objective range in 2013. The current account deficit is expected to narrow in the coming years supported by the public sector savings generated by the planned fiscal consolidation and the expected recovery in diamond exports along with global recovery.

The main near-term risks relate to the highly uncertain external environment, which remains fragile and poses significant downside risks to mineral export demand, and on the domestic front to delays in the full commencement of the Morupule B power plant. Another medium-term risk is the prospect that SACU revenues may decline either because of a prolonged period of low global growth or changes in the SACU revenue-sharing formula.

Executive Board Assessment

Executive Directors commended Botswana’s impressive economic performance over the past two decades, which has raised overall incomes and delivered good economic outcomes. Nonetheless, amid softening growth, persistent unemployment, and high income inequality, Directors stressed the need to improve public sector efficiency and speed up reforms to promote economic diversification.

Directors supported a gradual, growth-friendly fiscal consolidation to rebuild policy buffers. Should the need arise, automatic stabilizers on the revenue side should be allowed to operate. Directors stressed the importance of protecting planned capital spending while reducing the large public sector wage bill and unproductive current spending. They urged the authorities to broaden the tax base by streamlining the existing large and discretionary tax expenditures. They welcomed the authorities’ efforts to create a simplified tax system with high compliance and low administration costs.

Directors supported a broadly neutral monetary policy stance in the near term. They welcomed the government’s publication of the weights of the pula currency basket and its rate of crawl, which will enhance the transparency of the exchange rate regime and facilitate the development of the foreign currency market. They stressed the importance of continuing to strengthen the operational modalities of the crawling peg regime.

Directors concurred with the government’s strategy of keeping a right balance between financial inclusion and financial system stability. They encouraged the authorities to enhance their existing mechanisms for monitoring financial sector developments to temper the growth in household borrowing and unsecured lending. They welcomed efforts by the Bank of Botswana to strengthen the work of its Financial Stability Division, and urged the authorities to continue to enhance the skill base and regulatory infrastructure of the Non-Bank Financial Institutions Regulatory Authority.

Directors highlighted the need to raise economy-wide productivity, including through fostering private sector development and economic diversification. Priorities include reducing the domestic regulatory burden on firms and increasing investments in health and education. Directors welcomed the authorities’ multi-pronged approach to promoting diversification, leveraging Botswana’s areas of comparative advantage.