Abstract
This paper assesses Lesotho’s Fourth Review Under the Poverty Reduction and Growth Facility Arrangement and Request for Waiver of Performance Criteria. Lesotho’s economic program was broadly on track through December 2002, but large fiscal slippages emerged by end-March 2003. IMF staff welcomes the government’s strong commitment to its economic program and recommends completion of the fourth review. It supports a waiver for the nonobserved quantitative performance criterion because of the actions taken by the government to reduce nonessential spending in 2002/03 and because of its commitment to implement sustainable fiscal policies in the medium term.
Introduction
My Lesotho authorities thank the staff for a very candid and balanced report and for their continuing support to the country. The authorities have remained broadly on track in implementing the program, with almost all of the performance criteria and structural benchmarks met with a few minor exceptions, for which waivers are requested. The authorities have, within the context of the program, implemented a wide range of structural reforms, which were aimed at laying the foundation for improved long-term economic and social conditions in the country. However, the progress with these endeavors has been negatively affected by the drought last year, which resulted in famine affecting almost 900,000 people. The authorities have acted pro-actively to address this dire situation, by declaring a state of famine in April 2002 in order to contain the calamity. Budgetary outlays were increased to provide famine relief to those affected, in addition to the very generous donor support.
Macroeconomic Performance under the Program
a. Growth Performance
Lesotho’s GDP grew by more than 4 percent during 2002, compared with 3½ in the previous year, notwithstanding the severe drought conditions. The increased growth performance was mainly attributed to improved export performance as the authorities effectively seized the opportunity to enhance exports to the United States within the framework of the African Growth and Opportunity Act (AGOA). Increased exports contributed to the creation of more than 10,000 new job opportunities in the manufacturing sector over the past 12 months. It is expected that agricultural output will increase, as weather conditions improve. This very positive development illustrates the potential for enhanced growth for small economies when developed countries allow them greater access to their markets.
b. Fiscal Policy
Fiscal policy was implemented under very challenging conditions with the prevailing famine in the country, compelling the authorities to take a more expansionary fiscal stance. Agricultural support to farmers increased significantly, and expenditures were increased to address the widespread famine in the country. Spending overruns became necessary, but steps have now been taken to ensure that overruns do not occur again in the future. In addition to these measures, the authorities implemented the improved expenditure management tracking system in the Lesotho Treasury Department, to strengthen vigilance on expenditures.
In contrast to the overrun in expenditures, revenue performance was better than programmed. The authorities expect revenue collections to be more efficient in the future since the Lesotho Revenue Authority (LRA) became fully operational in December 2002. Furthermore, the tax base will be broadened with the introduction on July 1, of the Value Added Tax (VAT) at a rate of 14 percent. Registration drive is currently underway. It is expected that the implementation of these measures would raise additional revenues equivalent to 1 percent of GDP.
The authorities are determined to maintain a sustainable debt situation, by reducing primary and overall deficit over the medium-term. Lesotho devotes a very small percentage of export earnings to servicing external debts, and do not intend to finance the 2003/04 fiscal deficit with new external financing.
c. Monetary and Exchange Rate Policy and Financial Market Developments
The Loti is pegged to the South African Rand. This policy continues to serve Lesotho well. Annual inflation increased to 11¼ in December 2002, reflecting inflationary trends in South Africa, but also higher domestic food prices. On average it remained below 10 percent over the last few years, and recent data indicates a steep decline in inflation from the high level in December 2002, to 7.2 percent in April 2003, mainly attributable to the sharp decline in food prices.
The Loti depreciated sharply towards the end of 2001 and the beginning of 2002, but has strengthened subsequently in tandem with the South African currency. Notwithstanding the recent appreciation however, Lesotho’s exports remained strong, since the exchange rate is still competitive.
The authorities’ continued efforts to develop and modernize the financial market, and the latest efforts aimed at improving the functioning of the financial markets, include the publication of macroeconomic forecasts, and promoting the establishment of a private credit bureau, in addition to the substantive progress made towards allowing foreign currency deposits in the domestic banking system. The authorities are confident that these measures will facilitate business operations and greater foreign investment in the economy.
Famine Conditions and Food Relief
Lesotho experienced food shortages as a result of adverse weather conditions, which severely impeded the production of crops. The severity of the situation with almost 900,000 people threatened by famine, compelled the authorities to provide free maize meal in the affected areas, introducing a food-for-work scheme to assist able-bodied unemployed, and subsidizing unsifted maize meal. The dire situation in Lesotho has been eased by the generous support from the donor community. The World Food Program assisted greatly in distributing the free food to most of the affected areas. My authorities are extremely grateful to donors for honoring their pledges, as a result of which the cost of famine relief to the Government in 2002/03 is expected to be much lower than originally estimated.
In addition to providing famine relief, the authorities also helped farmers by providing plowing facilities, seeds, and fertilizer. Resources for this effort were reallocated from unspent transfers of other Ministries, and from increased expenditures. The authorities hope to end famine relief and agricultural support programs during the second half of this year, when the situation would have eased considerably, to reduce the expenditure pressure on the budget.
HIV/AIDS
The HIV/AIDS infection rate in Lesotho is very high and the economic consequences on the economy are considerable. The authorities are addressing this pandemic at the highest levels. All Ministries allocate 2 percent of their budgets to combat HIV/AIDS. The authorities, aware that the prevalence of the disease can only be addressed more comprehensively at a regional level, have organized a conference of SADC heads of states to formulate a regional response to the pandemic.
PRSP Process
My authorities have made good progress in formulating the PRSP with full participation of all the stakeholders, including the donors and civil society as attested by the IMF/World Bank Joint Staff assessment. The authorities are committed to completing the PRSP and submitting to the IMF and the World Bank by November 2003.
Governance Issues
The authorities have during the period under review demonstrated their commitment to addressing governance issues. In recent actions to root out corruption, some government officials were sentenced by the Lesotho High Court, while significant penalties were imposed on the foreign company involved.
Economic Program for the Period April 2003-March 2004
My Lesotho authorities are firmly committed to implementing the Fund supported program for the period ahead as outlined in the authorities’ Memorandum on Economic and Financial Policies.
Policy actions include pursuing sound fiscal policies to ensure long-term debt sustainability. In this regard, efforts will be made to broaden the tax base by introducing VAT at a rate of 14 percent, and improving the efficiency of tax collection and administration through the Lesotho Revenue Authority (LRA). Steps are also being taken to strengthen the expenditure management systems, limiting wage increases to only 4 percent, and curbing nonessential expenditures during 2003/04. Social expenditures will, however, be increased by 15 percent, to address the long-term goal of reducing poverty.
As regards structural reforms, there will be enhanced efforts to strengthen the procedures and systems in the Treasury Department. These will include making government accounts more transparent, and implementing the Lesotho Public Sector Improvement and Reform Program, which was put on hold at end- 2001 because of lack of resources. These efforts will now continue with donor resources for the project.
The authorities will continue to strengthen the financial sector, with reforms in this area aimed at strengthening the credit culture in Lesotho by establishment of a credit bureau and enhancing the operation of the Commercial Court. In addition, the authorities will align the exchange control regulations with those of other countries in the Common Monetary Area. The Central Bank’s initiative to modernize the national payments system will also contribute to enhancing the efficiency of the banking system.
Conclusion
My Lesotho authorities remain fully committed to fulfill the program requirements during the next review period, and request that waivers be granted for the non-observance of minor deviations, largely related to the adverse weather conditions during 2002. They are immensely appreciative of the generous donor support in alleviating the famine threat in the country, and believe that a favorable conclusion of today’s review will enable them to face with renewed confidence, the numerous challenges of economic development, poverty reduction and efforts to achieve the MDGs.