Namibia: Selected Issues and Statistical Appendix
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International Monetary Fund
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Publication Date:
28 Apr 2006
eISBN:
9781451828429
Language:
English
Keywords:
ISCR; CR; Namibia; income; CMA country; unemployment; CMA member; CMA agreement; foreign exchange; exchange rate; CMA monetary union; Currencies; Conventional peg; International reserves; Africa; CMA government
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This Selected Issues paper analyzes unemployment and education in Namibia. Using the Afrobarometer Project survey data, the paper develops some stylized facts about the Namibian labor market, focusing on the link between education, earnings, and unemployment. The paper finds that unemployment probabilities depend on the level of education. The paper also describes the main features of poverty in Namibia and assesses the appropriateness of current as well as potential policies to alleviate poverty and reduce income inequality over time.

Abstract

This Selected Issues paper analyzes unemployment and education in Namibia. Using the Afrobarometer Project survey data, the paper develops some stylized facts about the Namibian labor market, focusing on the link between education, earnings, and unemployment. The paper finds that unemployment probabilities depend on the level of education. The paper also describes the main features of poverty in Namibia and assesses the appropriateness of current as well as potential policies to alleviate poverty and reduce income inequality over time.

IV. Prospects for a Monetary Union for Namibia40

A. Introduction

89. Namibia is a member of the Common Monetary Area (CMA). The CMA countries—Lesotho, Namibia, South Africa, and Swaziland—peg their currencies to the South African rand and allow free flows of capital within the CMA area. However, the CMA is not a full-fledged monetary union. Each CMA member retains its own central bank that sets domestic interest rates and issues local currency.

90. This paper examines whether the CMA is an optimal currency area and assesses the benefits and costs to Namibia of joining a full-fledged regional monetary union. It concludes that although the current CMA is not an optimal currency area in all respects, Namibia gains significant benefits from the CMA. These benefits include lower transactions costs on trade and financial flows, a clearer framework for monetary policy, and a link to the inflation targeting framework of South Africa. The major drawback of the CMA is the lack of flexibility in adjusting the exchange rate in response to economic shocks.

91. Namibia would likely gain additional benefits from joining a full-fledged monetary union. The major cost—the loss of the ability to adjust the exchange rate—is already a consequence of the current fixed exchange rate system, but to the extent that monetary union is irreversible, this cost would be increased. However, additional benefits from monetary union would likely include a further lowering of the risk premium on trade and investment, a greater voice in and credibility of monetary policy, elimination of the separate foreign exchange reserves, and the possibility of a common lender of last resort. These benefits would depend on proper implementation and could be enhanced by policies that provide alternative means to adjust to economic shocks, such as fiscal transfers, labor mobility, and increased wage and price flexibility.

92. The following sections provide an overview of the CMA, its benefits and costs, and examine what steps would be needed to implement a monetary union. Section B gives a short history of the CMA and provides the details of the CMA agreement and a separate monetary agreement between Namibia and South Africa. Section C analyses how the CMA differs from a monetary union. Sections D and E assess the benefits and costs of the current CMA arrangement and a full monetary union, respectively. Finally, section F examines some of the steps that would be required to implement a monetary union.

B. Key Features of the CMA

Economic Background

93. The CMA countries differ significantly in their population, economic size, and standards of living (Table IV.1). The CMA is dominated by South Africa, which accounted for more than 90 percent of its population and 95 percent of its purchasing power parity-adjusted GDP in 2003. South Africa also had the highest standard of living as measured by GDP per capita at US$10,130 (more than twice Lesotho’s).

Table IV.1

CMA Countries: Basic Indicators

Source: International Financial Statistics and World Development Indicators 2005.

History

94. Despite their differences, the CMA countries have a long history of monetary cooperation. The South African Reserve Bank (SARB) was established in 1921. At that time, the South African pound became the common currency of South Africa and the territories that are now Botswana, Lesotho, Namibia, and Swaziland. In 1961, the pound was replaced by the rand. In 1974, Lesotho, South Africa, and Swaziland signed the Rand Monetary Agreement while Botswana decided to pursue an independent monetary policy with a flexible exchange rate.41 Namibia was a de facto member as a territory under the control of South Africa. The CMA replaced the Rand Monetary Area in 1986 and Namibia joined the CMA under the terms of the Multilateral Monetary Agreement (MMA) in 1992 after becoming independent. Aside from the CMA, Namibia is a member of a number of regional groups that pursue coordination of economic policies, including the Southern Africa Customs Union (SACU) and the Southern African Development Community (SADC). These are described in Box IV.1.

Namibia’s Participation in Other Regional Groupings

Namibia is a member of the Southern African Customs Union (SACU). The SACU promotes free trade in southern Africa and includes the CMA countries plus Botswana, which decided not to join the CMA. The original SACU was established in 1910 but was revised in 2002 to give Botswana, Lesotho, Namibia, and Swaziland more say in trade policy. The SACU countries have eliminated internal barriers to trade, erected a common external tariff, and agreed to adopt common policies in agriculture, industry, competition, and unfair trade practices. The SACU members also share customs and excise revenues. Customs revenue is allocated in proportion to intra-SACU import shares while excise revenue is allocated 85 percent according to each member’s weight in SACU GDP and 15 percent according to deviations of a member’s per capita GDP from the SACU average.1

The Southern African Development Community (SADC) was established in 1992 and involves a broader membership. This includes Angola, Botswana, Lesotho, Malawi, Mauritius, Mozambique, Namibia, South Africa, Swaziland, Tanzania, Zambia, and Zimbabwe. The purpose of SADC is to promote development, foster growth, and alleviate poverty in member states through economic and political cooperation. The SADC agreement focuses on general objectives rather than specific obligations. The key policy objective is to strengthen trade and investment linkages among SADC countries. In this regard, the SADC has set a target date of 2008 for a free trade area.

The SADC has also proposed a monetary union. Members agreed on the goal of establishing a common central bank by 2016 and common currency by 2018. To this end, the SADC has set several macroeconomic convergence criteria:

  • Inflation: Single digit by 2008, 5 percent by 2012, and 3 percent by 2018;

  • Budget Deficits: Not to exceed 5 percent of GDP by 2008, 2 to 4 percent by 2012, and 1 percent between 2012 and 2018; and

  • Public and Publicly Guaranteed Debt: Less than 60 percent of GDP from 2008 to 2018.

The SADC countries show greater divergence in economic conditions and macroeconomic policies than the CMA countries. As a consequence, this paper focuses on prospects for monetary union within the CMA rather than the SADC.

1

For more information on the new SACU agreement and implications for Namibia, see Chapter II of last year’s Selected Issues Paper (IMF Country Report 05/96).

Key Features

95. Namibia’s obligations are spelled out in the MMA of 1992 as well as a Bilateral Monetary Agreement (BMA) concluded with South Africa in 1993. The MMA includes provisions governing currency issuance, capital flows, access to South African financial markets, and compensation for lost seignorage for countries that allow the rand to circulate. Specifically, the MMA contains the following key provisions:

  • National Currencies: Each CMA government may issue its own currency after consulting with South Africa.

  • Capital Mobility: Members may not restrict current or capital account transactions within the CMA. However, they may impose domestic investment requirements.

  • Access to South Africa’s Financial Markets: The governments and financial institutions of Lesotho, Namibia, and Swaziland (the LNS countries) have the right to access South Africa’s capital and money markets.

  • Obligations: Each CMA member has a central bank and responsibility for foreign exchange transactions within its territories. The MMA requires members to bring foreign exchange regulations in accord with South Africa’s.

  • Seignorage: South Africa compensates LNS governments for seignorage lost due to rand circulating in their countries. The formula is:

    S = 2/3 x (yield on 15+ year South African government bonds) x (estimated quantity of rand in circulation)

  • Bilateral Agreements: The MMA permits bilateral agreements on monetary policy and access to temporary credit facilities with South Africa that do not conflict with the CMA.

  • Consultations and Dispute Resolution: The CMA members agree to consult at least once a year. Disputes that cannot be settled between parties may be referred to arbitration.

96. The Bilateral Monetary Agreement of 1993 focuses on the mechanics of Namibia’s peg to the rand and access to South Africa’s financial markets. It includes provisions that establish 100 percent foreign exchange backing for the Namibian dollar, separate reserve management, and guarantees Namibia’s access to South Africa’s foreign exchange reserves. Specifically, the BMA prescribes the following:

  • Legal Tender: Namibia agrees to allow the South African rand to be legal tender in Namibia.

  • Exchange Rate Peg: Authorized foreign exchange dealers may convert rand to/from Namibian dollars at par.

  • Reserves: The Bank of Namibia (BoN) must maintain a reserve of rand and other foreign exchange assets equal to the quantity of Namibian dollars issued by the BoN.

  • Separate Reserve Management: The BoN and SARB separately manage their own foreign exchange reserves.

  • Access to Foreign Exchange: The SARB will make foreign exchange available to the Government of Namibia that are required for its foreign exchange transactions.

  • Foreign Exchange Controls: Namibia agrees to bring its exchange controls in conformity with South Africa’s, and South Africa agrees to consult with Namibia prior to amending those controls.

  • Compensatory Payments: As agreed in the MMA, South Africa compensates Namibia for lost seignorage. The BMA specifies that the quantity of rand in circulation be estimated as follows. Based on a survey, it was estimated that Rand 400 million was circulating in Namibia at end-1990. Starting from this base, it is assumed that Namibia’s total money supply increases at the rate of 1.2 times the percentage increase in rand in circulation of the SARB. The factor of 1.2 is designed to adjust for the deepening of Namibia’s financial markets. Rand in circulation in Namibia is estimated as the difference between this estimate of Namibia’s total money supply and Namibia dollars in circulation as reported by the BoN.

C. How the CMA Differs from a Monetary Union

97. The CMA agreement differs in a number of important respects from a full monetary union. First, each CMA country has its own central bank. Thus, there is no joint policy-making and the LNS countries are constrained by their fixed exchange rates to follow monetary policies set by South Africa. Second, as the CMA countries do not share a common currency, they have not irrevocably committed themselves to exchange rate parities. Thus, the LNS countries still have the option to adjust the value of their currencies. This may result in some remaining exchange rate risk that affects trade and capital flows. Finally, the CMA countries do not share in the seignorage of a common currency although they are compensated to some extent by South Africa.

98. The CMA has been characterized as a combination of a currency board and monetary union (Tjirongo, 1995). Tjirongo notes that like a currency board the LNS countries’ currencies are 100 percent backed by foreign exchange. However, as there is no institution that acts as an orthodox currency board, the LNS central banks have some leeway in monetary policy, and the monetary policy transmission mechanism is not as automatic.42 The CMA also fits Corden’s (1972) definition of a pseudo-exchange rate union in that there is an agreement to fix exchange rates but no explicit integration of monetary policy, no common pool of foreign exchange reserves, and no single central bank. Finally, Cobham and Robson (1994) distinguish between four types of monetary integration based on degree of integration. By their definition, the CMA would be identified as an informal exchange union, the least integrated category, because the CMA does not have single currency, single central bank, or reserve pooling.

D. Implications of the Current CMA for Namibia

99. This section describes the benefits and costs of the current CMA and Namibia’s peg to the rand. It concludes that the CMA countries do not constitute an optimal currency area according to standard economic criteria such as importance of intra-CMA trade or commonality of economic shocks (see Box IV.2). Moreover, neither fiscal transfers nor labor mobility across countries offer alternative means for Namibia’s economy to adjust to economic shocks. Nonetheless, the benefits of lower transactions costs, more integrated financial markets, and regional integration may outweigh these considerations.

The Theory of Monetary Integration

The theory of monetary integration is related to the work of Mundell (1961) and McKinnon (1963) on optimal currency areas. According to the theory of optimal currency areas, flexible exchange rates are not needed to adjust imbalances between regions/countries if there are other methods of adjustment. These include: flexible goods prices, labor mobility between countries, and/or fiscal transfers. Other factors that affect the desirability of fixed exchange rates include the benefits from lower trade and investment costs, asymmetry of shocks, the ability of the authorities to resist monetizing fiscal deficits, and the desirability of adopting the monetary policy of the anchor currency.

There is no agreed methodology for weighing the costs and benefits identified by optimal currency theory. Most analyses focus on assessing the impact of individual factors such as the extent of labor mobility or the prevalence of asymmetric shocks. However, it is inherently difficult to asses the cost of political considerations or the value of tying the hands of the authorities. Thus, different observers can place different weights on different aspects of monetary integration.

Lower Transaction Costs

100. A fixed exchange rate system can reduce transaction costs by reducing the currency risk premium compared with a flexible exchange rate system. A lower premium reduces the cost of trade and cross-border investment. The greater the trade and capital flows among CMA countries, the larger the potential benefits from lower transaction costs. Tables IV.2 and IV.3 show that the LNS countries conduct a large share of their trade with South Africa. In Namibia’s case, four-fifths of imports come from and more than a quarter of exports go to South Africa. Similarly, Namibia’s capital account has shown a large deficits (averaging close to 7 percent of GDP in the last three years). Much of these flows come from pension and insurance companies that place a substantial portion of their assets in South Africa’s financial markets. Thus, lower transactions costs could have significant benefits for Namibia’s economy.

Table IV.2

CMA Countries: Exports 2003 1/

(percent)

Source: National Authorities

Excludes Re-exports.

Table IV.3

CMA Countries: Imports 2003 1/

(percent)

Source: National Authorities

Excludes Re-exports.

Asymmetric Shocks

101. Countries that are subject to similar economic shocks have less need for exchange rate adjustments to offset those shocks. Tables IV.4, IV.5, and IV.6 and Figure IV.1 compare the CMA countries’ major exports, sectoral shares of GDP, and terms of trade. The export, production, and terms of trade statistics suggest that Namibia and the other LNS countries are exposed to different economic shocks than South Africa and have thus lost some ability to adjust due to their pegs to the rand.

Table IV.4

CMA Countries: Top Five Export Categories 2003

(percent)

Source: National Authorities
Table IV.5

CMA: Sectoral Composition of GDP

Source: World Development Indicators 2005
Table IV.6

Correlation of CMA Countries’ Terms of Trade with South Africa

Source: International Financial Statistics.
Figure IV.1
Figure IV.1

CMA: Terms of Trade, 1986-2005

Citation: IMF Staff Country Reports 2006, 153; 10.5089/9781451828429.002.A004

Source: Weta Database

  • Trade: Namibia’s major exports differ significantly from those of its CMA partners. Namibia’s two major exports, accounting for almost 60 percent, are diamonds and fish. By contrast, Lesotho’s exports are concentrated in clothing while Swaziland’s are concentrated in edible concentrates and cottonseed and lint. While South Africa’s major exports, like Namibia’s, are concentrated in minerals, the composition is quite different. South Africa’s major exports are gold, iron and steel, and platinum. In addition, South Africa’s trade is more diversified than Namibia’s, with no individual category of exports exceeding 12 percent.

  • Production: With regard to the structure of production, the CMA countries also show a great deal of diversity. Agriculture is important in the LNS countries but constitutes only 4 percent of South Africa’s GDP. Similarly, mining is important in Namibia and South Africa but not in Lesotho or Swaziland. All four countries have significant services sectors.

  • Terms of Trade: Over the last 20 years as a whole, the LNS countries’ terms of trade have generally moved with South Africa’s. At an annual frequency, correlations with South Africa measured 40 percent for Lesotho, 68 percent for Namibia, and 54 percent for Swaziland during this period. However, this masks some large movements for Namibia in the late 1980s. Also, correlations with South Africa’s terms of trade have fallen and even turned negative in the last ten years. (For example, Namibia’s correlation fell to -35 percent for the period 1996-2005).

Tying the Hands of the Authorities

102. The bilateral and CMA agreements could possibly restrict the BoN’s ability to pursue expansionary monetary policies to boost growth or create money to finance fiscal deficits. Namibia’s bilateral agreement with South Africa requires that its currency be 100 percent backed by foreign exchange. This puts an upper limit on the quantity of currency the BoN can circulate. However, foreign exchange backing for the Namibian dollar has been about twice currency in circulation so that the constraint has not been binding. As noted earlier, the BoN has been able to use its limited flexibility within the constraint of the fixed exchange rate to maintain its key interest rate below that of South Africa’s for an extended period, in an effort to boost economic growth. This differential was eliminated in mid-2004 to help safeguard international reserves. With regard to the fiscal deficit, the government has relied on debt issuance and has not sought to finance the deficit through money creation. In sum, because the authorities’ policies have been prudent and the requirement for foreign exchange backing of the currency has not been binding, the value of tying the hands of the authorities may be less than in other countries.

Fiscal Transfers

103. While in principle fiscal transfers can offset the effects of asymmetric economic shocks, in practice transfers among CMA members do not achieve this result. It is estimated that in the United States fiscal transfers eliminate as much as 40 percent of the decline in regional income caused by negative economic shocks.43 The CMA does not provide for fiscal transfers; however, the SACU does. Moreover, SACU transfers are large for the smaller members. For example, from 2000 to 2005 Namibia’s SACU receipts averaged 9¾ percent of GDP. Under a new revenue-sharing agreement implemented in 2004, SACU receipts include a development component that distributes 15 percent of excise tax revenue according to the deviation of a member’s per-capita GDP from the SACU average. This could be expected to provide some increased income in the event of a negative shock to the economy. However, other larger components of SACU receipts depend upon shares of intra-SACU imports and intra-SACU GDP. Since a negative economic shock could cause imports and GDP to fall, these other components may amplify external shocks. It is important to note that the SACU provides transfers as part of a revenue-sharing agreement and is not meant to address shortcomings in the CMA arrangement. Thus, the CMA does not have a formal fiscal transfer mechanism, and it appears unlikely that such transfers offset the impact of external shocks.

Labor Mobility

104. Labor mobility appears important for Lesotho and Swaziland but has less impact on Namibia and South Africa. Like fiscal transfers, labor mobility between countries can help compensate for lack of exchange rate flexibility. Migration from countries with surplus labor to countries with low unemployment can smooth incomes by preventing employment losses in countries where demand has fallen. Similarly, net migration into countries with excess demand can mitigate inflationary pressures. Significant numbers of workers from Lesotho and Swaziland work in South Africa. For example, about 2 percent of the Swazi workforce is employed in South African mines, and remittances from expatriates amounted to about 5 percent of GDP in 2004. For Lesotho, about 15 percent of the workforce is estimated to be employed in South Africa, and remittances have accounted for 22 percent of GDP in recent years. With regard to Namibia, labor mobility appears lower as the government limits immigration to promote Namibianization. With regard to South Africa, migration to and from the LNS countries has less impact since South Africa accounts for more than 90 percent of the CMA countries’ total population. In sum, it appears that labor mobility may be a significant adjustment mechanism for Lesotho and Swaziland but is less important for Namibia and South Africa.

Linking to South Africa’s Monetary Policy

105. By linking to the rand, the LNS countries have effectively imported South Africa’s inflation targeting framework. In Namibia, this helped reduce inflation from a high of 11¼ percent in 2002 to an estimated 2½ percent in 2005. However, the LNS countries have also been subject to the fluctuations of the South African rand. For example, in 2002 the value of the South African rand fell 18 percent versus the U.S. dollar before appreciating 39 percent in 2003. In addition, the rand suffered periods of balance of payments pressure or currency crises in 1994, 1996, 1998, and 2001. Thus, linking to the rand may introduce shocks that could be avoided by floating the exchange rate or pegging to another currency or basket of currencies. However, given that Namibia’s trade is concentrated with South Africa, the impact of rand fluctuations versus other currencies has been muted. For example, Namibia’s real effective exchange only fell 5 percent in 2002 and rose by a relatively modest 12½ percent in 2003 despite the fluctuations of the rand. Moreover, it is not clear that if Namibia floated its currency it would experience more stable exchange rates. As a small country, Namibia’s currency could be vulnerable to changes in capital flows and world demand for its exports.

Conclusions

106. While the CMA countries do not meet many of the criteria for an optimum currency area, Namibia receives substantial benefits from the peg. Namibia and its CMA partners do not meet some of the criteria for an optimum currency area because they have substantially different structures of trade and production and faced different terms of trade. For Namibia, this means that fixing its exchange rate to the rand has subjected it to the shocks that affect South Africa. The lack of a fiscal transfer mechanism and low labor mobility also mean that there are few alternative avenues for adjustment. However, given the large trade and financial flows with South Africa, Namibia gains significantly from the lower transactions costs associated with the fixed exchange rate system. The exchange rate peg also helps to clarify the operation of monetary policy and allows Namibia to gain from the inflation targeting framework of South Africa.

E. Additional Benefits and Costs of a Full Monetary Union

107. This section discusses the benefits and costs of proceeding to a full monetary union, i.e., of adopting a single currency, pooled foreign exchange reserves, and a single central bank that sets policy for the entire CMA region. It concludes that most of the costs are already a consequence of fixed exchange rates. To the extent that monetary union is irreversible, one additional cost is the loss of the option to use exchange rates to adjust to economic shocks. However, benefits include a greater voice and increased credibility in monetary policymaking through a common central bank, no need to maintain separate foreign exchange reserves, and the possibility of a centralized lender of last resort. Thus, proceeding to a full monetary union would have few additional costs but could have important additional benefits for Namibia.

Even Lower Transaction Costs

108. Since under the current setup the LNS countries could adjust the value of their currencies in the event of a crisis, the currency risk premium may not be completely eliminated. Adoption of a monetary union, including a common currency, would make exchange rate adjustment impossible unless the country exits the monetary union.

109. Since exiting a monetary union is more expensive than simply adjusting the exchange rate, joining a monetary union could further reduce risk premiums. The size of the reduction would depend upon the size of the initial premium. Figure IV.2 shows that the premium on treasury bills has been small or negative in the last five years and slightly positive on average in the last two years. The interest rate premium on government bonds has been much larger, averaging 2½ percent over the period. These figures suggest Namibia could benefit from a reduction in the interest rate premium from joining a monetary union.44

Figure IV.2
Figure IV.2

Namibia: Interest Rate Spreads versus South Africa

Citation: IMF Staff Country Reports 2006, 153; 10.5089/9781451828429.002.A004

Source: International Financial Statistics

Greater Voice in Monetary Policy

110. A monetary union would require setting up a common central bank with a joint decision-making body, and would likely give the LNS countries somewhat greater say in monetary policy. Currently, monetary policy is effectively set by the SARB and transmitted to the LNS countries via the currency pegs. The CMA members have taken some steps to increase dialogue among their central banks. For example, the CMA central bank governors have been meeting on a quarterly basis since 2002. However, these meetings have focused on exchange of information, are not formally recognized by the CMA agreement, and have not had much influence in SARB policy making.

Enhanced Credibility of Monetary Policy

111. Joining a full monetary union could enhance the credibility of monetary policy but credibility has not been a major issue for the BoN. In theory, although the CMA restricts Namibia’s ability to pursue an independent monetary policy, the BoN can attempt to adjust interest rates at the margin. To the extent that a monetary union eliminates this remaining degree of freedom, it could enhance the credibility of monetary policy. However, as noted earlier, the BoN has kept interest rates in line with those in South Africa and confidence in the peg remains high. A second reason that joining a monetary union could enhance credibility is that a common central bank might be better able to resist pressures from country governments for money creation to finance government budget deficits. In Namibia, however, the government has pursued generally prudent fiscal policies and public debt remains relatively low. These factors suggest that the additional credibility gained from monetary union may be limited.

No Need for Foreign Exchange Reserves

112. Joining a monetary union with a common pool of international reserves would eliminate the need for the BoN to manage its own foreign exchange reserves. By several measures, Namibia’s current level of international reserves is relatively low. For example, international reserves amounted to only 1¾ months of imports at end-2004 and 40 percent of short-term debt at end-2003. (However, reserves amounted to almost twice the quantity of Namibia dollars in circulation, implying that the BoN could purchase the entire stock of Namibia dollars without fully draining reserves). With a common currency, the BoN would no longer need to hold foreign exchange to back the Namibia dollar. Monetary union would thus eliminate the risk of a run on Namibia’s currency.

Lender of Last Resort

113. A single lender of last resort could provide a more comprehensive view of risks and provide a more integrated regulatory and supervisory framework. In theory, the requirement that the Namibia dollar be 100 percent backed by foreign exchange could limit the BoN’s ability to act as a lender of last resort. If international reserves are not sufficient, then the BoN would not be able to issue currency to bailout a distressed financial institution in case of need. In this case, an agreement on a common lender of last resort within the monetary union could significantly increase funds available to support Namibian financial institutions. In practice, however, since Namibia’s international reserves are almost twice currency in circulation, additional currency could be provided without breaching the bilateral agreement with South Africa. Another reason to have a common lender of last resort would be that Namibia’s four major banks are South African owned or have significant South African investment. Thus, a single regulator could take a more integrated view of the CMA countries’ financial systems.

Loss of the Option to Adjust the Exchange Rate

114. Under a fixed exchange rate regime, Namibia still has the option to adjust the value of its currency if faced with a large asymmetric economic shock. However, with a common currency, this option is no longer available.

Seignorage

115. As current calculations may overestimate the quantity of rand circulating in Namibia—the basis for South Africa’s compensation to Namibia for lost seignorage—Namibia could possibly lose from moving to a monetary union. Most currency unions have a mechanism to share seignorage. For example, the European Central Bank (ECB) allocates seignorage to member countries based on their capital shares in the Bank. In the case of the CMA, South Africa is already compensating the LNS countries for seignorage lost due to rand circulating in those countries. Thus, it appears likely that the LNS countries would receive some share in the seignorage of a common central bank. However, the net benefits or losses will depend on how the new central bank allocates this seignorage under a monetary union as compared with the current system.

Political Considerations

116. Political considerations may make it more or less desirable to move toward a monetary union. Giving up monetary sovereignty is often part of a larger political exercise aimed at economic integration. If the CMA countries believe that economic integration is desirable, they may be willing to pursue monetary union even if the CMA is not an optimal currency area based on economic criteria. On the other hand, to the extent that currency reflects national pride or acts as a national symbol, there may be political pressures not to enter a monetary union. While a full national debate on the merits of a monetary union has not yet taken place, the Namibian authorities appear to see the benefits outweighing the possible costs from such a step (Box IV.3).

Namibia’s Views on Monetary Union

The Bank of Namibia has made several statements regarding the possibility of implementing a monetary union within the SADC and/or the CMA.1 These statements have emphasized a number of points. First, the BoN does not see monetary union as an end in itself. Rather, monetary integration is viewed as part of a process to promote macroeconomic stability, growth, and economic integration in southern Africa. Monetary union within the SADC and the CMA are both seen as ways to pursue these goals. However, as integration and convergence have progressed further in the CMA countries, it may make sense to establish a CMA central bank ahead of a SADC central bank.2 Second, the BoN notes that the CMA operates as a de facto monetary union. However, monetary policy is effectively set by one country alone. The Namibian authorities do not consider this an acceptable arrangement and have argued the LNS countries should have greater say in setting monetary policy.

With regard to economic criteria, the BoN has expressed its views on the costs and benefits of monetary union. The benefits include increased regional trade, increased aggregate investment, improved price stability, and the elimination of exchange rate risk. The costs are seen as the loss of the ability to use autonomous monetary policy to dampen economic shocks and constraints on fiscal policy imposed by members to prevent free rider and moral hazard problems. However, the BoN has downplayed these last two problems. First, the BoN notes that the effectiveness of an independent monetary policy is questionable in the context of large global financial flows. In addition, even if the Namibian dollar were allowed to float, monetary policy would be constrained by the need to maintain price stability. Second, constrained fiscal policy may be a benefit rather than a cost because it encourages prudent fiscal management.

Given these considerations, the BoN has indicated that it believes the benefits of membership in the CMA outweigh its costs. The BoN has also stated that Namibia would benefit from development of the CMA toward a full monetary union. However, this is seen as requiring closer coordination of economic policies and the establishment of appropriate political structures. The BoN also argues the CMA could be used as the basis for extension of the coordination of economic policies within southern Africa.3

1

For example, see Alweendo, Tom (2004), “Prospects for a Monetary Union in SADC,” An Address by the Bank of Namibia Governor, at the Bank’s Annual Governor’s Address.

2

South African Reserve Bank Governor Mboweni has echoed this view saying that the CMA could form the basis for the creation of a monetary union and emphasizing the need for economic convergence before proceeding with the SADC monetary union. See Mail & Guardian Online, “SADC ‘Has Much to Learn’ about Monetary Union,” July 12, 2005.

3

The Namibian, “Central Bank wants Namibia’s Affiliation to the CMA to Continue,” November 22, 1999.

Conclusion

117. In summary, Namibia could gain some additional benefits from joining a full monetary union within the CMA. Most of the costs of the CMA—especially the lack of the ability to adjust the exchange rate and possible negative shocks transmitted from South Africa—are already inherent in the current fixed exchange rate system. There would be some additional cost related to the loss of the option to adjust the value of the currency and, possibly, lower seignorage. However, there would likely be greater benefits in the form of lower transactions costs for trade and investment, a greater voice in monetary policy, elimination of the need to manage separate foreign exchange reserves, and a common CMA lender of last resort.

F. Steps toward a Monetary Union

118. A number of steps would be required before the CMA countries could proceed to a monetary union. An important consideration will be the views of the other CMA members, South Africa in particular. Since the LNS countries are small relative to South Africa, South Africa has less to gain economically. Accommodating the LNS countries’ views on monetary policy could mean changes in policy that are not optimal based solely on South Africa’s self-interest.

Convergence Criteria

119. Monetary unions generally require convergence of macroeconomic and policy indicators to ensure that less prudent members do not attempt to gain at the expense of others. For example, a country with an expansionary fiscal policy may have higher inflation. The common central bank would have to impose higher interest rates on the low inflation members in order to address inflation concerns in that country. Similarly, if a country defaults on its debt and the common central bank acts as a lender of last resort, the fiscally prudent countries may be forced to bear some costs.

120. Table IV.7 shows how the CMA countries measure up on various potential convergence criteria. Convergence criteria generally fall into four categories: fiscal deficits, debt to GDP, inflation, and interest rates. For reference, the criteria in Table IV.7 can be compared with the requirements for convergence established by the SADC. All four countries had fiscal deficits at slightly above 4 percent of GDP or lower in 2004. Similarly, public debt-to-GDP ratios are close to 60 percent of GDP or lower in 2004. Interest and inflation rates have largely converged. These statistics suggest that the CMA countries could largely satisfy common convergence criteria.

Table IV.7

CMA Countries: Convergence Criteria, 2004

Source: IMF Statistics

Public Sector Debt for South Africa and Swaziland

Parities

121. All of the CMA countries’ currencies are pegged to South African rand at par. Once a monetary union is established, parities cannot be adjusted. Thus, the CMA countries will need to consider policies to promote wage and price flexibility as an alternative means to adjust to economic shocks. Thus, if Namibia and the other CMA countries agree to a monetary union, it will be important to promote flexible labor and goods markets.

Implementation and Sequencing

122. The CMA countries would need to agree on the structure of the central bank, the objective for monetary policy, convergence criteria, and common economic policies before implementing a monetary union. In addition, they need to consider how a monetary union would affect their participation in other regional groupings like SACU and SADC.

  • Setting Up a Central Bank: In proceeding to monetary union, the CMA countries would need to establish a schedule for implementing a joint central bank. These steps could include enhanced consultation on monetary policy, preparing the legal framework and establishing a joint committee on monetary policy, issuing a single currency, and beginning operations of the new central bank. The CMA countries would also need to determine the level of independence of the joint central bank. As central banks of the CMA members are already relatively independent, the joint central bank should gather sufficient political support for a high degree of independence.

  • The objective for Monetary Policy: In setting up a joint central bank, the CMA countries would also need to specify the objective for monetary policy. They could adopt the current inflation targeting framework of the SARB. In moving from monetary policy set by the SARB to a policy set by a joint central bank, inflation-targeting would have to move from a focus on South Africa to a focus on the CMA countries as a whole.

  • Convergence and a Stability Pact: CMA members would need to agree on appropriate convergence criteria and how they will be used in the process of monetary integration. For example, is monetary union contingent on all members meeting all convergence criteria? The CMA countries have so far shown considerable fiscal prudence. They will have to decide whether a stability pact would enhance credibility, help deal with the free rider problems mentioned earlier, and demonstrate commitment to monetary union.

  • Policies to Make Monetary Union Work: The CMA countries do not currently meet the traditional criteria of an optimal currency area. However, if they are committed to monetary union, they could take steps to implement policies that enhance a union’s benefits. Thus, the CMA countries may want to consider agreements that (i) integrate their economies more closely; (ii) make labor more mobile across countries within the CMA; (iii) transfer resources across countries to compensate for regional economic shocks; and (iv) coordinate policies in non-monetary areas such as industrial policy, trade, and finance. Taking these steps would help to ensure that convergence among CMA countries continues, fiscal policies remain prudent, and the new central bank would be independent of the CMA governments

  • Relationship between the CMA, the SACU, and the SADC: The CMA countries will have to decide how much emphasis to place on integration within the CMA, SACU, and SADC. Creating a CMA monetary union could provide the basis for monetary union with SADC, as stated by several CMA central banks. Similarly, the recent SACU agreement on sharing customs revenues could serve as a model for negotiating various aspects of monetary union within the CMA. As the CMA countries are much closer to convergence the SADC countries and already have practical experience with monetary integration, it makes sense to proceed with monetary union among the CMA countries first.

G. Conclusion

123. The Multilateral and Bilateral Monetary Agreements promote monetary integration in Namibia and the CMA but fall short of creating a full monetary union. As part of the CMA, Namibia fixes its dollar to the South African rand at par, allows free flows of capital to and from other CMA members, receives payments for rand circulating in Namibia, and obtains the right to access South Africa’s financial markets. However, unlike a full monetary union, Namibia has its own central bank, a separate currency, and separate foreign exchange reserves.

124. The CMA does not fulfill many of the criteria for an optimal currency area. Namibia’s terms of trade and structure of production and export are quite different from South Africa’s, suggesting that economic shocks could have different effects on the two economies. In addition, alternative methods of adjustment do not appear to be available. Labor mobility between Namibia and South Africa is low. While there are significant fiscal transfers under the SACU agreement, these are not designed to address the shortcomings in the CMA and in fact may not be stabilizing.

125. Nonetheless, Namibia gains significant benefits from the peg. Given the large volume of trade and financial flows with South Africa, the peg significantly reduces transaction costs on trade and capital flows. The peg also enhances macroeconomic stability by clarifying the framework for monetary policy, reducing the ability of the government to monetize fiscal deficits, and linking Namibia to South Africa’s inflation targeting framework.

126. Over the medium term, joining a full-fledged monetary union would likely have a number of additional benefits for Namibia. First, a monetary union could further lower transactions costs on trade and investment. Second, membership in a CMA central bank could give Namibia greater voice in the setting of monetary policy. This would depend on the composition and structure of the central bank’s policy board. Third, Namibia would no longer need to manage a separate pool of foreign exchange to back its currency. Fourth, it may be possible to create a lender of last resort with greater freedom of action and greater resources than are available under the current system. This would also make sense as Namibia’s banking system is dominated by South African banks. Finally, Namibia’s leaders may feel that greater economic integration in the region provides significant social and political benefits.

127. The major drawback of monetary union would be the loss of the exchange rate as a tool to adjust to economic shocks. However, this drawback is a consequence of the fixed exchange rates rather than monetary union per se. Under a fixed exchange rate regime, Namibia cannot operate an independent monetary policy or adjust the exchange rate to respond to shocks. The main additional drawback of monetary union appears to be the irrevocable nature of this commitment. Thus, the additional benefits of a full monetary union would need to outweigh this additional cost.

128. To make the most of a monetary union, the CMA countries would need to set up appropriate institutional arrangements. Initial considerations would include agreeing on convergence criteria, establishing the new CMA central bank, and providing transitional arrangements for monetary policy. The CMA countries would also need to consider alternative means to allow their economies to adjust to economic shocks. These alternatives might include creating a fiscal transfer scheme, enhancing the flexibility of labor markets, allowing more labor mobility among the CMA countries, and improving wage and price flexibility. The appropriate institutional arrangements should be agreed and in place before the CMA countries take steps towards monetary union. Without these arrangements, adjustment to asymmetric shocks will be more difficult.

129. In conclusion, Namibia would benefit from joining a full regional monetary union. Even though the CMA may not have all the aspects of an optimum currency area, Namibia’s peg to the South African rand appears to have significant benefits in terms of reduced transaction costs and support for regional integration. Taking the additional step of creating a full monetary union could have additional benefits in the form of enhanced credibility of the exchange rate, giving Namibia a greater voice in monetary policy, and stronger institutional arrangements.

References

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Table 1.

Namibia: GDP and Gross National Income (GNI) at Current Prices, 1999–2004 1/

(In millions of Namibia dollars, unless otherwise indicated)

Source: Central Bureau of Statistics and Fund staff estimates.

Columns may not sum due to rounding error.

Table 2.

Namibia: GDP by Industrial Origin at Current Prices, 1999–2004 1/

(In millions of Namibia dollars)

Sources: Namibian authorities; and Fund staff estimates.

Columns may not sum due to rounding error.

Table 3.

Namibia: Sector Shares of GDP at Current Prices, 1999–2004

(In percent of GDP)

Sources: Namibian authorities; and Fund staff estimates.
Table 4.

Namibia: GDP by Industrial Origin at Constant 1995 Prices, 1999–2004 1/

(In millions of Namibia dollars)

Source: Central Bureau of Statistics.

Columns may not sum due to rounding error.

Table 5.

Namibia: GDP by Industrial Origin at Constant 1995 Prices, 1999–2004

(Annual percentage change)

Source: Central Bureau of Statistics.
Table 6.

Namibia: Expenditure on GDP, 1999–2004 1/

Sources: Namibian authorities; and Fund staff estimates.

Columns may not sum due to rounding error.

Changes in inventories includes only livestock, ores and minerals. Discrepency includes other changes in inventories.

Table 7.

Namibia: Output of Selected Minerals, 1999–2004

Source: Ministry of Mines and Energy.
Table 8.

Namibia: Harvest of Main Commercial Fishing Species, 1999–2004

Source: Ministry of Fisheries and Marine Resources.
Table 9.

Namibia: National Consumer Price Index (NCPI), January 2002–November 2005

(Index, December 2001=100)

Source: Central Bureau of Statistics.
Table 10.

Namibia: Financial Operations of the Central Government, 1999/00–2004/05 1/

(In millions of Namibia dollars)

Sources: Namibian authorities; and Fund staff estimates.

Fiscal year begins April 1.

Transfers from the common revenue pool (customs and excise) of the Southern African Customs Union.

Includes externally financed project spending (except for roads) that is not channeled through the state account.

Table 11.

Namibia: Central Government Revenue and Grants, 1999/00–2004/05 1/

(In millions of Namibia dollars)

Sources: Namibian authorities; and Fund staff estimates.

Fiscal year begins April 1.

Transfers from the common revenue pool (customs and excise) of the Southern African Customs Union.

Table 12.

Namibia: Central Government Revenue and Grants, 1999/00–2004/05 1/

(In percent of GDP)

Sources: Namibian authorities; and Fund staff estimates.

Fiscal year begins April 1.

Transfers from the common revenue pool (customs and excise) of the Southern African Customs Union.

Table 13.

Namibia: Central Government Expenditure, 1999/00-2004/05 1/

(In millions of Namibia dollars)

Sources: Namibian authorities; and Fund staff estimates.

Fiscal year begins April 1.

This includes externally financed project spending (except for roads) that is not channeled through the state account.

Table 14.

Namibia: Central Government Expenditure, 1999/00-2004/05 1/

(In percent of GDP)

Sources: Namibian authorities; and Fund staff estimates.

Fiscal year begins April 1.

This includes externally financed project spending (except for roads) that is not channeled through the state account.

Table 15.

Namibia: Functional Classification of Central Government Expenditure, 1999/00–2004/05 1/

(In millions of Namibia dollars)

Sources: Namibian authorities; and Fund staff estimates.

Fiscal year begins April 1.

Actual data on functional spending for 2004/05 is not available yet.

Includes public debt transactions.

Table 16.

Namibia: Sectoral Share of Central Government Expenditure, 1999/00–2004/05 1/

Sources: Namibian authorities; and Fund staff estimates.

Fiscal year begins April 1.

Actual data on functional spending for 2004/05 is not available yet.

Includes public debt transactions.

Table 17.

Namibia: Outstanding Debt of Central Government, 1999/00–2004/05 1/

(In millions of Namibia dollars, unless otherwise indicated)

Sources: Namibian authorities; and Fund staff estimates.

Fiscal year begins April 1. Unless otherwise indicated, data correspond to debt stocks at the end of each fiscal year.

Table 18.

Namibia: Monetary Survey, 2002–2005 1/

Source: Bank of Namibia, Quarterly Bulletin.

Following Fund advice, the authorities revised the monetary statistics from June 2003 onwards, involving several reclassifications in the central and commercial bank balance sheets. As a result, growth rates for 2003 refer to the previous series and growth rates under the revised series do not begin until June 2004.

Includes liabilities: shares and equity, trade credit and advances.

Table 19.

Namibia: Summary Accounts of the Bank of Namibia, 2002–2005 1/

(In millions of Namibia dollars)

Source: Bank of Namibia.

Following Fund advice, the authorities revised the monetary statistics from June 2003 onwards, involving several reclassifications in the central and commerical bank balance sheets. As a result, growth rates for 2003 refer to the previous series and growth rates under the revised series do not begin until June 2004.

Includes securities, loans and trade credit and advances.

Table 20.

Namibia: Interest Rates, 1999–2005

(Annual averages in percent; unless otherwise indicated)

Sources: South African Reserve Bank; Bank of Namibia; and IMF, International Financial Statistics.

South African Reserve Bank’s repo rate.

Average tender rate for 91-day bills.

For South Africa, rates are upper margin of interest on time deposits of 88-91 days. For Namibia, rates are weighted averages of demand deposits, 88-day notice deposits, savings deposits, and deposits with a maturity of more than one year of two largest commercial banks.

For South Africa, prime overdraft rate of major banks. For Namibia, weighted average of different lending instruments.

Headline inflation for South Africa; Windhoek consumer price index for Namibia until 2004, NCPI from 2005 on.

Deflated by consumer price indices.

Table 21.

Namibia: Financial Soundness Indicators, 1999–2004

(In percent, unless otherwise indicated)

Sources: Bank of Namibia; and Fund staff estimates and projections.
Table 22.

Namibia: Selected Indicators of Stock Exchange Activity, 1999–2004

(Based on calendar years, with listings and share price figures stated as of December 31)

Source: Namibian Stock Exchange.
Table 23.

Namibia: Balance of Payments, 1999-2004

(In millions of U.S. dollars; unless otherwise stated)

Sources: Bank of Namibia and Fund staff estimates.

Southern African Customs Union.

Gross foreign assets of the Bank of Namibia.

Table 24.

Namibia: Merchandise Exports by Commodity Group, 1999-2004

Source: Bank of Namibia.
Table 25.

Namibia: Mineral Exports, 1999-2004

Source: Bank of Namibia.
Table 26.

Namibia: External Trade Indices, 1999–2004

(In U.S. dollar terms unless otherwise indicated)

Sources: Bank of Namibia; and Fund staff estimates.
Table 27.

Namibia: Merchandise Imports by Commodity Group, 1999-2004

Source: Bank of Namibia, and Fund staff estimates.
Table 28.

Namibia: Imports (c.i.f) by Country of Origin, 1999–2004

Source: Central Bureau of Statistics.
Table 29.

Namibia: Exports by Country Destination, 1999–2004

Source: Central Bureau of Statistics.
Table 30.

Namibia: Developments in the Exchange Rate of the Namibia Dollar, 1995–2005

(Period averages; 1995=100)

Sources: IMF, Information Notice System; and Fund staff calculations.

Namibia: Summary of the Central Government Tax System, November 2005

(All amounts in Namibia dollars)

Source: Ministry of Finance.
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Prepared by Lawrence Dwight (AFR).

41

However, Botswana has linked the pula to the rand through a currency basket. Because the rand has a weight of 60 to 70 percent in this basket, Botswana’s monetary policy and exchange rate are heavily influenced by South Africa’s.

42

For example, the BoN maintained a varying and largely negative interest rate differential vis-à-vis South Africa’s policy rate prior to mid-2004 (see Figure IV.2 below).

43

Sala-i-Martin, X., and Sachs, J. (1992), “Federal Fiscal Policy and Optimum Areas,” in M. Canzoneri, V. Grilli, and P. Masson (eds.), Establishing a Central Bank: Issues in Europe and Lessons from U.S., pp. 195-220 (Cambridge: Cambridge University Press).

44

A complicating factor is that the interest rate premium could arise from default risk, not just exchange rate risk. However, Namibia’s overall fiscal deficit and government debt are similar in magnitude to those of South Africa. In addition, Namibia has an investment grade rating for local currency debt (a rating of BBB compared to A for South Africa. This suggests the default premium is moderate.

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Cover IMF Staff Country Reports
Namibia: Selected Issues and Statistical Appendix
Author:
International Monetary Fund
Volume/Issue:
Volume 2006: Issue 153
Publisher:
International Monetary Fund
ISBN:
9781451828429
ISSN:
1934-7685
Pages:
111
DOI:
https://doi.org/10.5089/9781451828429.002