This Background Paper and Statistical Appendix describes economic and financial developments in Botswana during 1993–94. Although real GDP in Botswana recovered somewhat to 2.5 percent in 1993/94, compared with a decline of 1.5 percent in 1992/93, this outcome represented a decline in real GDP per capita for the second consecutive year. The government sector continued to expand relatively fast as the civil service continued to grow fairly rapidly, leading to an increasing share in the nonmining GDP, which rose from 34.8 percent in 1992/93 to 36.1 percent in 1993/94.

Abstract

This Background Paper and Statistical Appendix describes economic and financial developments in Botswana during 1993–94. Although real GDP in Botswana recovered somewhat to 2.5 percent in 1993/94, compared with a decline of 1.5 percent in 1992/93, this outcome represented a decline in real GDP per capita for the second consecutive year. The government sector continued to expand relatively fast as the civil service continued to grow fairly rapidly, leading to an increasing share in the nonmining GDP, which rose from 34.8 percent in 1992/93 to 36.1 percent in 1993/94.

II. Issues Regarding the Diversification and Growth of Botswana’s Economy

1. Introduction

The economy of Botswana has reached a critical turning point. The maturing of the mining sector--responsible for Botswana’s phenomenal growth over the past two decades--and the changing regional environment pose serious challenges for the economy’s transition to a developed state and to its ability to maintain a sustainable growth path into the future. Current estimates indicate that real per capita income will stagnate over most of the remainder of the decade and beyond, even under relatively optimistic assumptions for growth in the nonmining sectors of the economy. Owing to the limited ability of the subsistence sector to absorb any of the estimated 3.5 percent annual population increase, and to reduced prospects for public sector growth, employment pressures are likely to escalate rapidly. The changing regional structure also poses challenges to other important revenue sources, and to the viability of activities in the nonmining sectors of the economy. To meet these challenges, Botswana will need to judiciously manage its considerable resources while new sources of real growth are developed largely through continued diversification and increased integration with other economies inside and outside the region. This chapter discusses the structure of Botswana’s economy, and those factors that are important to successfully meet these challenges.

2. Structure of the economy

a. Background

Since independence in 1966, Botswana has undergone a transformation from one of the poorest countries in Sub-Saharan Africa, with a per capita income equal to US$95 a year, to one of the highest, with a per capita income that is nearly equal to that of South Africa. 1/ Much of this growth is attributable to the direct and indirect impact of the rapid expansion of the diamond industry beginning in 1971. Diamond exports have contributed enormously to Botswana’s development through the impact on national revenues, foreign exchange earnings, and investment in the social and physical infrastructure. In 1993, diamonds accounted for an estimated 35 percent of real value added, 80 percent of exports, and 42 percent of Botswana’s total fiscal revenues. Moreover, between 1982/83 and 1989/90, the mineral sector’s expansion caused mineral revenues to the Government to increase by 98 percent a year on average, boosting total revenue growth to an average rate of over 30 percent a year. Prudent economic policies have resulted in the accumulation of government deposits with the banking system and external reserves amounting to more than two years of import cover.

Now, however, the diamond sector has reached maturity and, despite active policy efforts, the economy has yet to diversify to a point where the other sectors are capable of generating the level of activity required for the sustained real growth of per capita income. Some real growth from the diamond industry and other industries in the mining sector is likely in the future, but on a much smaller scale than that realized from the initial development of the sector, and the sector will no longer serve as the engine of growth to the same degree as in the past. The slower expansion of diamond revenues also implies slower growth of government revenues, and the stimulus to the private sector in the form of construction activity and infrastructure development will diminish, putting additional downward pressure on future real growth rates.

b. Diamond production

At present, Botswana is the second largest producer of diamonds after the Yakutia region in Russia in value terms, and the third largest after Australia and Zaire in volume terms. 1/ Growth in value added from the mineral sector averaged 14.6 percent a year over the period, and the recycling of the growing revenues, largely through infrastructure projects, contributed significantly to the 8.6 percent average growth in the other sectors of the economy. In 1992, the three mines produced 16.0 million carats, of which about 57 percent came from the Jwaneng mine, with the remaining 37 percent and 6 percent from the Orapa mine and Letlhakane mines, respectively. Diamond production accounted for 78 percent of exports, and 34 percent of GDP by 1992.

Since 1990/91, however, value added in the mineral sector has grown by a far more modest 3.4 average annual rate, reflecting the weakness in the world diamond market. 2/ Current projections call for the contribution of the mineral sector to value added to remain modest in the future: the anticipated expansions in diamond production with the opening of the fourth stream of the Jwaneng mine and the improvements in the Orapa mine are of a far smaller scale than the original discoveries and development. In addition, any further easing of the quota will also increase production without providing a basis for high continued growth into the medium and long term. As a result, the past high growth pattern--in which the economy was fueled by the recycling of diamond revenues into development spending--is likely to slow in the future, and is expected to generate a sharp reduction in real growth throughout the economy, even under relatively optimistic assumptions for other sectors.

c. Copper-nickel matte

Value added to the economy from the production of copper-nickel matte has been severely affected by variations in world commodity prices. The copper-nickel mine capacity is about 600,000 tons a year, with known ore deposits sufficient to last 700 years at current rates of production. The mine is operated by Bamangwato Concessions, Limited (BCL), 80 percent of which is owned by the Botswana Roan Selection Trust (BRST), and 20 percent by the Botswana Government. 3/ Between 1980 and 1987, copper prices declined by a cumulative 18 percent, while nickel prices dropped by 25 percent. Prices for both metals surged in 1988, with nickel prices increasing by 182 percent from US$4,872 per ton to US$13,778 per ton. At the same time, copper prices spiked upwards from US$1,781 per ton to US$2,599 per ton. Throughout the remainder of the decade, prices for both metals declined as markets weakened. By 1993, copper prices had declined by 26 percent, while nickel prices had dropped by 61 percent. The decline in prices eroded the financial viability of the mines and necessitated the provision of emergency funding by the current owners. In 1989, exports of copper-nickel matte rose to P 472 million (12.6 percent of export revenues), and then declined by 58 percent to P 196 million in 1993 (4.7 percent of exports), despite continued operation of the mine at full capacity. In real terms, 1993 revenues were equal to about 25 percent of revenues earned in 1989. A second mine is expected to open in 1995, with an anticipated increase in total production of copper-nickel matte of about 20 percent by the third quarter of the year. Nevertheless, projections call for a continued weakness in both copper and nickel prices, limiting both value added and the contribution to revenues.

d. Soda ash

Exploitation of the large soda ash deposits at Sua Pan began in 1991, under a joint venture operated by the Government of Botswana and the South African firm African Explosives and Chemicals Industries. 1/ Soda Ash Botswana (SAB) has a capacity production level of about 300,000 tons a year, with a by-product of 600,000 tons of salt. The firm has, however, been plagued with difficulties since it opened. Competition in South Africa--the main export market--from the American Natural Soda Ash Cartel, and as generally slack demand owing to the recession in South Africa, have held production at about one third of capacity; soda ash accounted for 1.3 percent of exports in 1993. At present, high fixed costs and overhead attributable to low capacity production result in costs that exceed the prevailing market price. Developments in South Africa could have a beneficial impact on SAB, as the Reconstruction and Development Program (RDP) program comes into effect.

e. Manufacturing

Between 1980/81 and 1989/90, manufacturing contributed a relatively stable average of 5.9 percent of real GDP, and about 10.5 percent of nonmining real GDP. Beginning in 1991/92, however, manufacturing growth slowed below that of total and nonmining real GDP, reflecting slack demand following the contraction of the diamond sector, as well as difficulties in the textile industry, and reduced cattle offtake with the restocking following the drought. In 1993/94, manufacturing is estimated to have accounted for 4.6 percent of real GDP, and 7.1 percent of nonmining value added.

Nevertheless, the structure of the sector has changed markedly over the past two decades: in the mid-1960s, the meat industry accounted for 95 percent of manufacturing value added; by the mid-1980s the sector had diversified sufficiently to reduce the share of the meat industry to its current average level of 30 percent, despite the opening of a third abattoir. Meanwhile, the textile and clothing industries have expanded, along with the tanning and beverage industries. In 1982, nontraditional exports accounted for 30 percent of nondiamond exports, while meat accounted for an additional 42 percent; with the remaining 28 percent accounted for by other minerals. By 1993, the share of nontraditional goods had increased to 41 percent of nondiamond exports, while meat exports had declined to 23 percent; the remaining 36 percent reflected exports of copper-nickel matte and soda ash.

The future prospects for the manufacturing sector are uncertain: Botswana currently benefits from a favorable quota arrangement for beef exports with the European Union (EU), which is likely to be affected by the agreement of the Uruguay Round of the GATT. Nevertheless, the prospects for increased sales of high quality beef to South Africa could be sufficient to support the current volume of exports. However, an increase in the overall volume of beef exports is unlikely, owing to the fact that the national herd is already too large to be supported by the available grazing land. The Government has undertaken a number of efforts aimed at increasing the offtake rate, but with limited success. With regard to the nonmeat portion of the manufacturing sector, prospects are equally uncertain. Slack demand, fueled by weakness in domestic and South African markets, has slowed the growth of the sector. Botswana’s membership in the Southern African Customs Union (SACU) 1/ has fostered the development of largely import-competing industries, which have faced limited growth potential owing to the small domestic market.

f. General government and social services

General government and social services grew at a combined pace of 14.2 percent over the decade, well above the average rate of real GDP growth, and accounted for 21.5 percent of real GDP by 1989/90. Between 1990/91 and 1991/92, however, activity in the sector is estimated to have dropped to an average pace of 10.2 percent a year, and slowed to 7.3 percent in 1993/94. Total expenditure (including net lending) is high by regional standards as a share of GDP (Table 1), reaching 44.3 percent in 1991/92, and 46.5 percent in the revised estimates for 1994/95, boosted largely by increases in recurrent spending. As of March 1993, the public sector accounted for approximately 40 percent of formal sector employment--roughly unchanged from the proportion in 1988--despite the stated goals of the Seventh National Development Plan (NDP 7), 1991/92-1996/97, with regard to its main focus on diversification, export promotion, and private sector development in general.

Table 1.

Comparison of Central Government Expenditure and Net Lending in Botswana and Six African Countries, 1987-93 1/

(In percent of GDP)

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Sources: International Financial Statistics; and staff estimates.

Data for fiscal years ending in the calendar year noted.

In 1985, the Government responded to a decline in revenues, prompted by softness in world diamond markets, by quickly tightening fiscal spending. The zero increase in minimum and public wage rates invoked for 1994/95 indicates that a similar approach will again be adopted. As a result, the decline in revenue growth can be anticipated to filter through to expenditures on general government and social services, completing the pass-through of the maturing of the mineral sector to lower growth throughout the economy.

g. Agriculture

The agricultural sector has provided only limited growth over the past decade. Between 1980/81 and 1989/90, value added from crop production increased at an average rate of 3.6 percent a year, about equal to the rate of population growth, with a high degree of year-to-year variability that reflected basic climatic conditions. Only about 5 percent of Botswana’s land is arable, and prospects for expansion via increased irrigation are regarded as extremely limited. The soil is largely sandy, with a limited ability to retain moisture, and the high evaporation rate, combined with sparse and highly variable rainfall, reduces the potential for cost-effective irrigation. Given the shift in 1992 from a policy of food self-sufficiency to one of food security, 1/ growth from the agricultural sector is projected to be no more than 2 percent a year, depending largely on improved methods and productivity.

h. Construction

The construction sector expanded at an average 7.2 percent rate between 1980/81 and 1989/90, somewhat lower than average real GDP growth, reflecting low activity in the first half of the decade, followed by a strong surge in the second half. As a result, the share of the sector in real GDP declined from 8.5 percent at the beginning of the 1980s, to an average of 5.5 percent during the rest of the decade. 2/ During the second half of the 1980s, the sector expanded at a 12.6 percent rate, fueled by large infrastructure projects, including the soda ash plant at Sua Pan and the related railway extension, the diamond recrush plant at Jwaneng, and the construction of a third abattoir, as well as an excess demand for housing. The completion of the large infrastructure projects, combined with a scandal at the Botswana Housing Corporation (BHC), resulted in a reduction of real growth in the sector to 4.6 percent in 1991/92, followed by a 10 percent contraction in 1992/93, and stagnation in 1993/94.

During the early part of the 1980s, activity was affected by the lack of serviced land for either housing or manufacturing activities. In 1987, the Government instituted the Accelerated Land Servicing Program (ALSP), which boosted activity in the construction sector. 1/ While the excess demand for housing appears to have been substantially reduced, there was evidence that the manufacturing sector continues to face difficulties in this regard.

i. Other sectors

The water and electricity sector expanded at an 11.3 percent real rate throughout the 1980s, reflecting in part the completion of a major pipeline. In recent periods, real growth has slowed to about 7 percent, with the main source of future growth stemming from plans to construct a dam in north eastern Botswana to increase supplies to the southeastern areas.

Trade and hotels expanded at an average rate of 12.6 percent in the second half of the decade, after stagnating in the first half. Continued prospects for the sector are limited to about 5 percent a year. Owing to concern regarding the ability of the main tourist areas, including the Okavango Delta, to support a high volume of tourism, the Government has shifted its focus to low density, high quality trade.

Finance and business services, which account for about 3.6 percent of real value added in 1993/94, expanded at an average rate of 8.7 percent during the 1980s, about in line with nonmining real GDP growth. The number of banks has increased since 1990 to include two branches of banks based elsewhere in the region, Zimbank (Zimbabwe) and Stanbic Bank (South Africa). Nevertheless, there are substantial prospects for future growth as financial and capital markets deepen. As is common elsewhere in the region, commercial banks are reluctant to lend on a medium- or long-term basis, and effectively ration credit according to perceived risk. As a result, the market remains thinly developed, and transaction costs are regarded as high. This is attributable, in part, to the generally limited relationships maintained with other banks in and outside the region.

3. Policy measures and constraints to further development

a. National development planning

The Government has long taken the position that revenues obtained from the exploitation of an exhaustible resource must be invested in ways that provide for an equivalent augmentation of the nation’s resource endowment. Since independence, the Government has implemented a sequence of six-year National Development Plans, each aimed at transforming the mineral endowment into an investment in physical and human capital, which would in turn facilitate sustainable growth in a broad-based private sector. As a result of this strategy, considerable public resources have been invested in stimulating growth in various sectors, as discussed above. Revenues that could not be effectively utilized owing to absorptive limitations have been set aside for future use, which has resulted in the accumulation of substantial reserves.

The Sixth National Development Plan (NDP 6) covered the 1985/86-1990/91 period, which registered strong growth in manufacturing, transport and communications, and the services sector (Table 2). The opening of the Jwaneng mine, coupled with a strengthening of diamond prices, provided the revenues for an increased number of projects over the NDP 6 period, contributing to the boom in the construction sector. As part of NDP 6, the Government formed the Selebi-Phikwe Regional Development Program, designed to promote the development of the region’s industrial sector. As part of this effort, the Government enacted a Special Incentive Package (SIP), which supplements subsidies available under the Financial Assistance Policy (FAP) 1/ with corporate tax concessions and withholding exemptions for investments in the Selebi-Phikwe region that export 100 percent of their output outside the SACU and SADC region. 2/

Table 2.

Botswana: Economic Growth Under NDP 6 and NDP 7 1/

(Annual average percentage change)

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Sources: Ministry of Finance and Development Planning, National Development Plan 6. 1985/86-1990/91, and National Development Plan 7. 1991/92-1996/97, Mid-Term Review of NDP 7 (draft); and staff estimates.

Real GDP growth at 1985/86 prices.

Based on estimated data from the authorities, and staff estimates.

The Seventh National Development Plan (NDP 7), covering 1991/92-1996/97, is similar to that of earlier plans in its emphasis on the reinvestment of the return from the exploitation of nonrenewable resources. NDP 7 took as its starting point the anticipated slowing of real growth from the mineral sector, and focused on a smaller number of development projects compared with those proposed under previous plans, while emphasizing the development of an enabling environment that would foster domestic and foreign investment in Botswana, and thereby generate the requisite employment and growth. 1/ Steps have been taken to ease administrative impediments; to streamline the process faced by domestic and foreign investors in obtaining the requisite permits for new enterprises; and under the revised Industrial Development Act to eliminate the ability of domestic firms to restrict the establishment of new firms. 2/ In contrast to NDP 6, current estimates call for a shortfall of realized growth during the NDP 7 period, relative to that projected at the outset. While some shortfall is anticipated in the mining sector, reflecting largely the impact of the quota on diamond sales imposed by the CSO in 1992, the main sectors registering growth below that projected are manufacturing, services, transport and communications, and Government.

In addition to the development of physical infrastructure, considerable attention has been devoted to the development of health care and other social services, and education. In 1983, expenditure on health, education, housing and other social services accounted for P 152 million, or 32 percent of total Government expenditure. By 1990, the amount had increased to P 1,057 million, or about 46 percent of total Government expenditure. Throughout the period, education alone accounted for a stable 16.5 percent share of total expenditure. Nevertheless, the heavy shortage of skilled labor was highlighted in the review of the Seventh National Development Plan (NDP 7), where it was noted that while a major change in the composition of the labor force could be affected over the next twenty-five years, the problem was unlikely to be resolved over the course of the next decade. The Government has formulated a National Policy on Education, with an increased emphasis on vocational and technical education. The Government has also continued to expand the health care system through a network of primary hospitals, clinics, and mobile health services. In addition, a National AIDS Policy has been adopted, covering issues related to the care of orphans, and the establishment of guidelines for home-based care for AIDS sufferers.

The midterm review of NDP 7 was completed under the aegis of the Ministry of Finance and Development Planning in the first half of 1994, and has been approved by Parliament. The major issue raised in the report of the review was the extreme degree of uncertainty with regard to prospects for real per capita growth under NDP 7 and beyond, compared with projections under previous plans. The report noted that under current projections, aside from the residual increases in diamond production projected for 1994/95 and 1995/96, real growth was projected to remain at sufficiently low rates to result in the stagnation of real per capita income through the remainder of NDP 7, and into future development plans. The report also noted that other sectors, particularly nonmeat manufacturing, were too small to affect the growth rate of real GDP before the end of the decade, even under optimistic assumptions. The report also emphasized the need for Botswana to adopt an increasingly outward focus to regional and world markets, as both were likely to be sources of future competition to a greater degree than had been true in the past. A number of areas for intensified efforts were highlighted, including the importance of reorienting industrial development toward the export market; the need to increase employment opportunities and worker training, with an emphasis on productivity in the labor force; the need to contain the growth of government expenditures and explore the possibilities for privatization of the public enterprises; the increased future burden of AIDS on the health care sector; and enhanced monitoring and implementation capacity for the Government.

b. Constraints to diversification

The further development of the economy faces a number of potential constraints. First, despite the comparatively high level of per capita income, the population of 1.5 million provides only a limited domestic market. As a result, if an alternative engine of real per capita growth is to be found, it will depend on Botswana’s ability to compete in external markets. Botswana’s competitive position will reflect a broad array of parameters, ranging from wage costs, productivity, and utility costs, to exchange market developments and the flexibility of the financial system in serving potential investors.

At present, the plentiful and reliable utilities are expensive by regional standards, owing to both the climate and the inability of national suppliers to take advantage of economies of scale. 1/ Recent estimates indicate that power and telecommunication costs are twice as high as those in Zimbabwe and South Africa, while water costs are roughly 10 times those in Zimbabwe, and more than twice those of South Africa. Additional issues have been raised with regard to the management of the parastatals. Nevertheless, the current pricing scheme reflects a policy of cost recovery, and the pricing structure is therefore not vulnerable to policies regarding continued subsidization.

Botswana’s competitiveness in both regional and external markets has also been affected by the path of wage rates, which has reflected, in part, the increase in diamond wealth over the past decade. In nominal terms, the average monthly wages in Botswana compare favorably with those in South Africa, but indicate a disadvantage, based on wage costs alone, with regard to both Swaziland and Zimbabwe on an economy-wide basis (Table 3). Within the manufacturing sector, the disadvantage appears less pronounced, with average monthly cash earnings that indicate a competitive position relative to all economies, with the exception of Zimbabwe, which devalued sharply in 1991.

Table 3.

Comparison of Average Monthly Cash Earnings in Botswana and Four African Countries, 1985-92

(In current U.S. dollars)

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Sources: IMF data provided by country desks; and Republic of South Africa, Central Bulletin of Statistics, (various issues).

Data for 1991-92 estimated on basis of increases in minimum wage.

Average for community, social, and personal services.

Central Government.

Botswana’s advantage appears somewhat diminished, however, when measured in terms of estimated unit labor costs, based on value added in the manufacturing sector and the number of employees. Current estimates indicate that unit labor costs in Botswana have risen steadily over the second half of the decade, surpassing those of Zimbabwe and Swaziland (Table 4). In terms of the competitive position, relative to the South African market, Botswana is estimated to be the least competitive, based on estimated value added, and manufacturing labor costs of those countries included in the sample. 1/

Table 4.

Comparison of Productivity and Unit Labor Costs in Botswana and Four African Countries, 1985-92

(Nominal U.S. dollar equivalent values)

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Sources: IMF, data provided by country desks; and Republic of South Africa, Central Bulletin of Statistics.

Ratio of average monthly nominal manufacturing wage to value added per worker in the manufacturing sector.

Based on average nominal monthly earnings of black workers.

Ratio of unit labor costs of each country to unit labor costs in South Africa.

The real effective exchange rate index offers an alternative measure for assessing the competitive constraints facing Botswana. The Fund’s real effective exchange rate index was recomputed for Botswana to separately assess Botswana’s competitive position in South Africa, relative to that in the markets of the other major trading partners (Table 5). 2/ Since 1980, the index of Botswana’s real effective exchange rate with South Africa has declined, indicating an improved competitive position in South African markets. This represents in part the impact of the large weight of the rand in determining the exchange value of the pula, coupled with a generally lower rate of domestic inflation. Movements in the real effective exchange rate index computed relative to trading partners other than South Africa, however, indicate a sharper depreciation since 1980, reflecting in part the general path of the rand relative to other major currencies.

Table 5.

Comparison of Bilateral Real Exchange Rate Movements Between South African Countries, 1980-93

(Period average, 1980=100)

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Source: INS data.

Comparisons between the indices of the real bilateral effective exchange rates for other countries in the region offer one measure of the changes since 1980 in Botswana’s competitive position in South African markets relative to that of neighboring countries (Table 6). The index of Botswana’s real effective exchange rate with South Africa has declined by 3.9 percent since 1980, well below the 41.6 percent decrease posted for Zimbabwe, and the 12.1 percent and 18.5 percent decreases posted for Zambia and Swaziland, respectively. This is attributable in part to a past policy of the Botswana authorities of appreciating the pula relative to the rand. These data indicate that Botswana faces a number of competitive issues, both with regard to utility costs, wages and productivity, and with regard to movements in the value of its currency. Nevertheless, these issues need to be evaluated in the context of Botswana’s reputation for macroeconomic and political stability, the quality of its infrastructure, and policies that will affect its future competitive position in the region.

Table 6.

Botswana: Real Exchange Rate Variations, 1980-93

(Period average. 1980=100)

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Sources: INS data.

Other countries comprise the United States, the United Kingdom, Canada, Japan, Denmark, France, Germany, Italy, Netherlands, Sweden, Switzerland, Ireland, Spain, HongKong, Korea, Pakistan, Thailand, and the Philippines.

c. Measures aimed at increasing diversification

Over the past decade, Botswana has undertaken a number of measures aimed at increasing the diversification of the economy, to develop alternative engines of growth and employment creation. 1/ Measures aimed at assisting in the diversification of the economy included the development of an infrastructure to support and attract the development of the manufacturing and services sectors of the economy. Specific measures aimed at the industrial sector have included an array of incentives: the Financial Assistance Policy (FAP), enacted in 1982; the Selebi-Phikwe Special Incentive Package (SIP); a local preference scheme; exclusive licenses; and infant industry licenses.

Between 1982 and 1991, the FAP is credited with the creation of more than 20,000 jobs in medium- and large-scale enterprises, 80 percent of which were in the manufacturing sector. Small-scale projects created an estimated additional 5,000 jobs over the same period. 2/ Nevertheless, there has been substantial evidence of a reduction in employment levels, as the expiration date for FAP assistance approaches. The estimated total contribution of the program to employment over the 1982-91 period was about 25,000 positions, while overall formal sector employment increased by 131,500, or 135 percent. Results from an evaluation of the FAP 1/ undertaken in 1988 indicate that the program may well have led to temporary over-employment, rather than sustained job creation: most of the nearly 70 percent of medium- and large-scale enterprises that remain in operation following the termination of FAP assistance do so with a reduction in labor force. In addition, the evaluation concluded that the major problem facing firms, regardless of their support by the FAP, was the inability to identify a competitive market segment, and a shortage of management skills. The 1993 study by the World Bank of Botswana’s industrial sector proposed that most of the features of the FAP be abolished, together with the system of tax holidays, and be replaced by a reduction in personal and corporate tax rates, in the interest of increased efficiency and transparency. 2/ Furthermore, a reduction of tax rates does not distort resource allocation and, if maintained, is likely to provide an incentive for sustained private sector growth and employment creation, unlike the temporary effect of FAP incentives and tax holidays.

With regard to the Selebi-Phikwe incentives, the data collected by the World Bank indicate that much of the activity established in the area predated the SIP, and was oriented toward the production of goods for the South African, Zimbabwe, and Botswana markets, not countries outside the SADC region. One large company that was in fact specializing in sales outside the SADC group ultimately reoriented production to the South African market, owing to continued financial difficulties. One difficulty with the SIP is that by focusing purely on exports outside the SADC and SACU countries, it precluded the use of the local regional market as a basis for achieving the economies of scale and rates of productivity necessary to compete in broader markets.

4. Implications of regional changes

The recent developments in the region imply both a number of challenges and a potential array of opportunities for Botswana’s future growth and development. These include (a) the end of sanctions against South Africa and the subsequent realignment of the tariff structure with the GATT; (b) the ongoing renegotiation of the SACU agreement, and changes in the orientation of SADC--including South Africa’s pending membership; (c) the potential loss of the ACP advantages and other benefits arising from with the completion of the Uruguay Round of the GATT agreement; and (d) the increased openness and market orientation of other countries in the region as part of structural adjustment programs and the regional implications of the Cross-Border Initiative (CBI). These changes may result in a major impact on the current structure of exports from Botswana and other countries in the region, and on intraregional economic linkages.

a. South Africa’s realignment with the GATT

The ending of sanctions against South Africa, and the subsequent realignment with the GATT, to be pursued over the next six years, imply fundamental pressures on the industrial structure of the region, with particular implications for the members of SACU. Under the SACU agreement, a common external tariff has been applied, which has effectively supported an economic structure with subsidies for import-competing enterprises. The BLNS countries gained a mitigating advantage through the ability to export to South Africa in a duty-free environment. Nevertheless, the BLNS countries in general, and Botswana in particular, contend that the impact on industrial development was generally deleterious, citing the location of most industries in South Africa, and the ability to block foreign investment inflows that would ultimately lead to increased competition for South African enterprises. The imposition of sanctions against South Africa intensified the tendency to develop import-competing industries, while generating additional advantages for the BLNS countries as companies moved elsewhere within SACU to avoid the impact of the sanctions. The end of the sanctions, and the realignment of South Africa with the GATT will thus place new pressures on the existing industrial structure. The reduction in the external tariff barriers, independent of any further changes to the SACU agreement, will imply an increased degree of competition for the import-competing industries, in the context of a relatively limited export industry base. While the long-run considerations should argue for a more efficient, competitive structure, the near- and medium-term implications could further increase the growing employment pressures in Botswana. 1/

The segmentation of markets generated by both the sanctions and the SACU agreement also resulted in a tendency for the partner countries, including Botswana, to assess their competitive position solely with reference to labor market conditions in their major trading partner of South Africa, despite the differences in the overall industrial sectors. As a result, the increase in competitive pressures may bear more strongly on Botswana and the other BLNS countries with regard to the alignment between productivity, skills and wage rates.

b. The renegotiation of the SACU agreement

The SACU agreement has been under renegotiation since 1977, with the partner countries claiming that compensation is insufficient and the South African representatives contending that the current arrangement is neither equitable to South Africa, nor affordable. At issue is the differential between the average revenue rate on imports of approximately 9 percent, compared with the minimum compensation rate to the partner countries of 17 percent, with South Africa retaining the residual. 1/ As South Africa implements the provisions of the Uruguay Round of the GATT, the average revenue rate will decline, exacerbating the gap between the average revenue rate and the rate at which the BLNS countries are compensated. As a result, the pressures for a renegotiation of the arrangement are likely to increase. 2/ At present, revenues from the arrangement account for 14 percent of total fiscal revenues, and increase with the measured volume of imports. While Botswana has recorded substantial surpluses on the external account over past years, and has accumulated external reserves that exceed the level of GDP for 1993, any reduction in receipts from the arrangement will exacerbate the decline in revenue growth as the mineral sector expands at a far slower rate.

The issues surrounding SACU are compounded by the changing orientations of SADC. The organization was initially conceived as an organization of “frontline” states in 1982, aimed at promoting economic independence, with particular reference to South Africa, and special areas of regional development. Under the current structure, the organization of development efforts in particular sectors is distributed across the membership. Following the 1992 reorganization, however, SADC increased its emphasis on trade relationships, and incorporated features common to other organizations in the region aimed at the development of free trade areas, and ultimately a pan-Africa common market. During the August 1994 SADC meeting, South Africa joined the organization. Because of the increased emphasis on trading relationships by the organization, the implications for the SACU renegotiations remain unclear.

c. Potential loss of the ACP advantages under the Uruguay Round

The completion of the Uruguay Round of the GATT provides for the gradual elimination of quota advantages currently accorded to the ACP countries. For Botswana, these advantages have affected both traditional and nontraditional exports. Under the existing arrangement, Botswana has benefited from a favorable quota arrangement for beef exports to the European Union, at prices higher than those prevailing in the free market. In 1993, revenues from beef exports accounted for about 5 percent of total export earnings. In addition, recent diversification and developments in the textile industry have come in part as a result of manufacturers seeking locations that had not exhausted quota access to the U.S. and European markets. The elimination of these advantages reduces the array of measures available to offset Botswana’s disadvantages. These effects may be offset over the longer term, as increased efficiency and greater regional interaction provide a broader base for private sector development.

d. Impact of regional developments and the CBI

An array of measures, aimed at liberalization exchange markets, increased international trade, and investment flows, have been undertaken within the region, both as a part of structural adjustment programs, or as a result of participation in the CBI. Botswana’s ability to diversify has been--and will continue to be--affected by measures undertaken by other countries in the region, as was evidenced by the impact of the devaluation in Zimbabwe in 1991 on Botswana’s textile exports that declined from 8 percent of total exports in 1991 to 1.9 percent in 1993. The current problems regarding the trade agreement between Zimbabwe and Botswana has further contributed to the slack demand faced by Botswana’s domestic industries. On a more fundamental level, a number of countries have undertaken policy measures aimed at creating a more competitive outward-looking focus. In particular, Zimbabwe has undertaken a substantial liberalization of its foreign exchange regime, including restrictions on capital flows. Where Botswana once maintained one of the most liberal arrangements in the region, with generally no restrictions on current account transactions, other countries in the region have undertaken measures that go beyond those of the liberalized environment in Botswana, 1/ particularly with regard to those capital account transactions important for investment flows.

The Cross Border Initiative (CBI) is a project still in the early stages which calls for a number of measures with regard to trade, exchange and payments, and investment, aimed at increasing the linkages among the participating countries in eastern and southern Africa, 1/ while simultaneously increasing interaction with countries outside the region. In the current context, the measures proposed potentially work toward increasing investment inflows to the region as a whole, through the relaxation of constraints to flows of goods and factors among participants, and the generation of a broader production and market base--thereby reducing the risk to potential investors.

To date, Botswana has not participated in the CBI, owing in part to the restrictions faced as a result of its membership in SACU. As a result, neither Botswana nor the other BLNS countries can pursue those measures that call for a particular pace of tariff simplification and rate reduction. South Africa participated on an unofficial basis in prior meetings during which the agenda for the initiative was established. Should South Africa become a full participant, this could provide a window of opportunity for the BLNS countries. Nevertheless, the other aspects of the CBI provide an opportunity that Botswana could seize to strengthen the country’s general competitive position. Moreover, the initiative represents a general overview of measures undertaken within the region, and it would be to Botswana’s benefit to maintain an awareness of these measures, and the potential impact on Botswana’s competitive position--both within the region, and with regard to third-party trade.

Measures aimed at the liberalization of exchange and payments systems are under way within the region with regard to the removal of constraints governing limitations on the repatriation of dividends; the liberalization of regulations governing the stock exchange and money market to facilitate the listing of domestic issues on other exchanges and domestic purchases of foreign issues; and the removal of limitations on interest payable on deposits held by nonresidents.

Botswana maintains a system largely free of restrictions on current account transactions. 1/ However, while substantial authority for merchandise transactions has been delegated to authorized dealers by the central bank of Botswana, all service-related transactions--while not restricted--must go through the BOB, often incurring substantial delays, hindering the ability of firms in the service sector, and limiting Botswana’s potential to serve as a base for regional operations. In general, the capital account restrictions have been maintained with a view to restricting the ability of domestic residents to hold foreign assets, as well as restricting capital inflows into Botswana. Only limited purchases of Botswana companies registered in the Botswana Share Market by foreign investors are permitted, while pension funds and life insurance companies are permitted to invest a maximum of 50 percent of their assets abroad. 2/ In addition, foreign direct investment, particularly in the services sector, has faced substantial barriers. The continuation of these restrictions could have important implications for the development of Botswana’s private sector, particularly if these restrictions become distanced from those applied within the rest of the region.

5. Conclusion

Botswana faces a number of issues with regard to the diversification required for long-term sustainable growth. The mining sector has matured to the point where it is unlikely to provide for continued growth of real per capita income, the agricultural sector is unlikely to absorb much of the growing population, and other sectors have depended heavily on the recycling of government revenues--which are likely to grow at a slower pace in the future. Moreover, a number of countries in the region, including Botswana, are implementing reductions in corporate and personal income taxes, with adverse implications for the revenue base in the short term. In addition, the implications of the conclusion of the Uruguay Round of the GATT could limit other sources of exports that have been important for Botswana, while the SACU renegotiations could reduce an additional source of Government revenue.

Botswana does have considerable resources in the form of a well-developed high-quality infrastructure, a reputation for macroeconomic stability and prudent management of resources, and a stable political environment. In assessing Botswana’s competitive position, however, it is necessary to take into account the difficulties implied by the relatively high cost of utilities and labor, issues relating to productivity and the large share of unskilled labor, as well as the impact of movements in the value of the pula relative to other currencies. In addition, exchange regulations--while liberal in many respects--are restrictive vis-à-vis others in the region with regard to those capital account transactions important for investment. These issues will have to be addressed if Botswana is to position itself to maximize its ability to attract both domestic and foreign investment to the degree required for future real growth.

Past efforts to diversify the economy have met with some success, but not of the magnitude required to develop other sectors capable of serving as engines for sustainable per capita growth into the future. As a result, it will be critical for Botswana to acquire the information necessary to assess its current competitive position, and to remain aware of developments throughout the region, which will have a substantial impact on its ability to foster the development of other sectors, particularly in the context of the current uncertainty. Of particular importance are measures relating to the reduction of trade barriers, the simplification and articulation of investment codes, and the ongoing liberalization of payments and exchange systems throughout the region. The changing regional structure holds the potential to result in a shift in the industrial structure of the region, particularly with regard to the SACU countries, toward a more export-oriented approach. As a result, it will be critical for Botswana to increase its regional linkages, with a view to determining those areas that could serve as engines of growth for the future, and to further assist the development of the private sector.

APPENDIX: Measures Comprising the Cross Border Initiative

I. Trade

All measures apply equally to trade in goods and services (financial services, insurance, passenger and freight transport, consultancy, tourism).

A. Nontariff Barriers
  1. Among participating countries, all import license and similar non-tariff barriers are to be promptly eliminated. Those countries unable to promptly comply must work out a schedule for doing so with the IMF.

  2. A participating country is to take steps to dismantle all import licenses and similar non-tariff barriers on an MFN basis. A short negative list may be maintained for health and security.

  3. All quantitative restrictions on exports are to be eliminated, with provisions for a small negative list.

B. Tariffs
  1. Among countries participating in the CBI, all tariff barriers are to be eliminated on a reciprocal basis by 1996. Should this not be feasible, participating countries must adhere to the slower schedule below:

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  2. In addition, participating members will move toward a common external tariff in line with the lowest level prevailing among participating countries.

C. Other measures
  1. Implement the Preferential Trade Area (PTA) harmonized transit charges.

  2. Implement the PTA Road Customs Transit Document.

  3. Develop a single document covering import/export transit trade.

  4. Implement a regional Bond Guarantee Scheme.

II. Payments and Exchange Systems

A. Domestic payments and settlements
  1. Liberalize the cross-border activities of financial institutions, and eliminate barriers to entry by regional and extra-regional institutions. This includes regulatory changes to permit specialized financial institutions active in the region, including off-shore facilities, to participate in providing equity capital and export credit facilities.

  2. Complete ongoing financial sector reforms, and reinforce development of the commercial banking sector and other financial institutions.

  3. Develop a program to strengthen the domestic payments system.

  4. Implement trade financing facilities with a regional focus: develop pre-shipment financing and export credit insurance.

  5. Among participating countries: a) harmonize prudential regulation and supervision of financial institutions; b) harmonize documentation for trade and investment transactions; c) harmonize regulations governing equity markets.

  6. Develop financial institutions such as leasing, merchant banking and bill discounting.

B. Exchange systems
  1. Participating countries will aim at eliminating all restrictions on current account transactions.

  2. The CBI calls for participating countries to liberalize exchange controls on cross-border direct investment. To this end, participating countries will aim at eliminating restrictions governing capital account transactions, notably those associated with direct investment and investment in regional equity markets.

C. Foreign exchange markets
  1. Participating countries will aim at establishing unified interbank spot exchange markets by 1996.

III. Investment

  1. Participating countries are to prepare a single short document containing investment codes and other regulatory instruments, including environmental regulations and municipal restrictions.

  2. Participating countries are to simplify and liberalize approval procedures. In particular, approvals are to be granted in the absence of objections 45 days following the completion of the investment application. This must be implemented at least on a reciprocal basis with other participating countries, and ultimately, globally.

  3. Participating countries are to implement the MIE Charter.

  4. Participating countries are to implement the PTA protocol on the relaxation and eventual elimination of visas.

  5. Applications for residence and employment permits are to be processed within a four-week period.

  6. Immigrations procedures are to be amended to permit freer movement of persons in border areas.

  7. Participating countries are to join MIGA, and, where necessary, bilateral agencies such as the Overseas Private Investment Council (OPIC).

  8. Dual taxation agreements are to be concluded on a bilateral basis.

  9. Stock exchanges are to be authorized to list and trade equities from other stock exchanges in the region.

IV. Institutional development

  1. National TWGs are to continue to function as advisory committees, and should be integrated into existing policy-making machinery.

  2. National chambers of commerce and industry, trade development organizations-- including regional centers for commercial arbitrations--are to be strengthened.

  3. Mechanisms are to be developed to reinforce the participation of the private sector in the decision-making process of the PTA/SADC/IOC.

1/

Estimates for 1992 indicate a per capita income of US$2,778 a year in Botswana, compared with US$2,951 in South Africa.

1/

By weight, about 55 percent of Botswana’s diamond output consists of gem and semi-gem quality stones. In value terms, however, gems and semi-gems account for about 98 percent of production.

2/

The marketing of Botswana’s non-industrial diamonds is handled through the Central Selling Organization (CS0), an international cartel controlled by De Beers that handles more than 75 percent of the world’s annual production of rough gem diamonds.

3/

Until recently, the major shareholders of BRST were the Anglo-American Corporation of South Africa and Amax-Nickel of the United States. In 1993, however, Amax sold its 29.8 percent equity share to the Botswana Government.

1/

Botswana has about 10,000 square kilometers of soda ash deposits at Sua Pan, running about 90 meters deep. Soda ash is used in the production of glass, steel, and paper.

1/

The membership of SACU comprises South África, combined with Botswana, Lesotho, Namibia, and Swaziland (the BLNS countries). The arrangement grants South Africa the right to determine the external tariffs applied by all members of the customs union, and provides for a revenue-sharing arrangement among the partner countries.

1/

The policy of food security requires that the economy be structured in such a way as to best guarantee access to adequate food supplies under all conditions. This resulted in a more market-oriented approach to price determination in the agricultural sector, and a shift in focus away from investments in the agricultural sector that were unlikely to be cost effective.

2/

This reduction reflects, in part, decreased activity associated with the development of the diamond mines.

1/

The ALSP involved measures aimed at accelerating the supply of land plots equipped with basic services in urban areas, largely for residential construction, owing to the extreme housing shortage.

1/

The FAP is discussed in Section 3c. In general, the program, established in 1982, provides a series of subsidies based on the amount of labor employed, assistance for initial capital investment, and skills training.

2/

The Southern African Development Community (SADC) comprises Angola, Botswana, Lesotho, Malawi, Mozambique, Swaziland, Tanzania, Zambia, and Zimbabwe. In 1994, South Africa joined the community.

1/

The plan called for the completion of several large infrastructure projects, including the soda ash plant, and the initiation of a smaller number of new projects than had been proposed under previous plans, including: the recrush plant at the Jwaneng mine; the development of the fourth stream at Jwaneng; the construction of the North/South pipeline to increase water supplies to southeastern Botswana; and the construction of the Trans-Kalahari road linking Namibia and Botswana.

2/

Prior to the revision, the application for a commercial license was gazetted, a process that permitted existing firms to object to the establishment of new firms that were deemed injurious to their competitive position. Under the revised Industrial Development Act, this policy is no longer pursued, and gazetting has been eliminated.

1/

The increase in costs attributable to the lack of scale economies is difficult to determine, owing in part to the Government’s policy of setting tariffs at rates consistent with full cost recovery. As a result, differentials with other countries in the region must be separated into those components attributable to the realization of economies of scale, and those attributable to a policy of subsidization, which may vary in the future.

1/

Given the limited availability of data, a number of countries were excluded from Tables 3 and 4. The data remain tentative, where available, particularly because the more recent data for value added in the manufacturing sector have been estimated, owing to the absence of official statistics. In addition, employment data for many of these countries are based on a relatively small sample. As a result, these results should only be taken as indicative.

2/

The comparison with South Africa is thus a bilateral effective real exchange rate. The index was then recomputed, with South Africa removed from the partner country weights, to obtain a measure of real exchange rate movements relative to the other partner countries included in the index.

1/

While extremely profitable, the diamond sector is capital-intensive, and has generally offered limited employment opportunities, accounting for only 3.5 percent of formal employment. The problem is exacerbated by the limited opportunities available in either the commercial or subsistence agricultural sector, and the rapid growth of Botswana’s population.

2/

Owing to the lack of data, it is not possible to provide statistics concerning the actual employment gains at small-scale enterprises that were granted FAP assistance.

1/

Evaluation of the Financial Assistance Policy: FAP and its Role in Botswana’s Business Development. Ministry of Finance and Development Planning, 1988. This study relied on a survey of both FAP- and non-FAP-assisted enterprises.

2/

Opportunities for Industrial Development in Botswana: An Economy in Transition: IBRD. 1993.

1/

The impact of the tariff reduction on the other members of SACU, including South Africa, potentially provides an opportunity for those industries in Botswana that can compete in South African markets, and a possible reduction in unemployment pressures.

1/

The 17 percent minimum compensation rate on dutiable imports and excisable production reflects the imposition of a stabilization factor around a projected average revenue rate, inclusive of a compensatory component, of about 20 percent. The compensatory component allows for a 42 percent markup on the average revenue rate, to compensate the BLNS countries for the loss of fiscal discretion, higher import costs, and any polarization effects with regard to the location of industries. Should the average revenue rate, inclusive of the compensatory component, fall below 17 percent, total compensation would be increased to meet the minimum. At present, most countries are compensated at the minimum rate.

2/

Any of the partner countries may withdraw from the arrangement, subject to a one-year notification period.

1/

Botswana continues to avail itself of the transitional arrangements under Article XIV. All remaining restrictions on current account transactions were eliminated as of December 1993. Botswana has a multiple currency practice arising from the exchange rate guarantee scheme provided to the public enterprises prior to 1990. Sub-Saharan African countries that have accepted the obligations of Article VIII, Sections 2, 3, and 4 comprise Djibouti (September 19, 1980); The Gambia (January 21, 1993); Ghana (February 21, 1994); Kenya (June 30, 1994); Mauritius (September 29, 1993); Seychelles (January 3, 1978); South Africa (September 15, 1973); Swaziland (December 11, 1989); and Uganda (April 5, 1994).

1/

With regard to trade, the CBI calls for a number of measures, including the elimination of tariffs on imports of goods and services among participating members by 1996 and a shift toward a common external tariff (Appendix). In the area of payments and exchange systems, the CBI calls for the liberalization of cross-border activities of financial institutions, and an end to restrictions on current account transactions, and on those capital transactions important for investment flows, and the establishment of unified interbank spot exchange markets by 1996. With regard to investment, the CBI calls for the creation of a single short, transparent document containing all investment codes and regulatory requirements; the de facto approval of all investment applications within 45 days of the completion of the application process; and the cross listing of assets on regional stock markets.

1/

In December 1993, Botswana increased the remittable allowances applying to both citizen and noncitizen companies, as well as those determining permissible external payments for foreign travel, education, medical treatment, and sundry payments. Bona fide requests for amounts in excess of these allowances are granted.

2/

This is far more restrictive than the 15 percent domestic asset requirement newly imposed on pension funds in Swaziland.