Namibia
2007 Article IV Consultation: Staff Report; Public Information Notice on the Executive Board Discussion; and Statement by the Executive Director for Namibia

Namibia’s economic position has been reinforced since the last consultation. The government strategy of broadening the economic base and reducing unemployment while preserving a solid fiscal position is commended. Namibia has ensured that interest rate differentials with South Africa do not destabilize official reserves or capital flows within the common monetary area. The banking system is profitable and well capitalized. Efforts are being made to increase employment opportunities in the non-mining economy by making the labor market more flexible and continuing liberalization of the trade regime.

Abstract

Namibia’s economic position has been reinforced since the last consultation. The government strategy of broadening the economic base and reducing unemployment while preserving a solid fiscal position is commended. Namibia has ensured that interest rate differentials with South Africa do not destabilize official reserves or capital flows within the common monetary area. The banking system is profitable and well capitalized. Efforts are being made to increase employment opportunities in the non-mining economy by making the labor market more flexible and continuing liberalization of the trade regime.

I. Economic and Financial Backdrop

1. Namibia is benefiting from a favorable external environment:

  • The terms of trade strengthened by an estimated one-third between 2005 and 2007 on high mineral export prices. Improved diamond extraction rates and rising SACU receipts driven by South African import growth also contributed to an external current account surplus estimated at 16–18 percent of GDP in 2006 and 2007 (Figure 1).

  • A fiscal surplus of 3.4 percent of GDP was recorded in 2006/071 because of high SACU receipts and tight spending policies. For 2007/08, a surplus of 2.6 percent is projected, which should reduce public debt to 23 percent of GDP (Figure 2).

  • Net international reserves have almost doubled since 2005 as part of the increased SACU receipts was saved. At end-September 2007 gross reserves of $850 million matched short-term external debt, were more than three times base money, and represented 3.0 months of imports of goods and services.

  • Inflation remains modest despite pressures from higher international food prices; it declined to 6.6 percent in October 2007 from a peak of 7.2 percent in July (Figure 3). To contain inflationary pass-through, since mid-2006 interest rates have been increased 3.5 percentage points (to 10.5 percent). Treasury bill yields have edged below South African rates reflecting a declining supply with the strengthened fiscal position.

  • The exchange rate has been stable in nominal effective terms in the 12 months through September 2007, and the real effective exchange rate in the first nine months of 2007 was in line with the average for the preceding decade (Figure 1).

  • Real GDP growth matches regional peers, and Namibia shares the same challenges with regard to unemployment and the prevalence of HIV (Figure 4).

Figure 1.
Figure 1.

Namibia: External Environment

Citation: IMF Staff Country Reports 2008, 083; 10.5089/9781451828467.002.A001

Source: IMF staff estimates.
Figure 2.
Figure 2.

Namibia: Fiscal Developments

Citation: IMF Staff Country Reports 2008, 083; 10.5089/9781451828467.002.A001

Sources: Namibian authorities; and IMF staff estimates.
Figure 3.
Figure 3.

Namibia: Recent Macroeconomic Performance

Citation: IMF Staff Country Reports 2008, 083; 10.5089/9781451828467.002.A001

Sources: Namibian authorities; and IMF staff estimates.
Figure 4.
Figure 4.

Namibia: Regional Comparison 2006

Citation: IMF Staff Country Reports 2008, 083; 10.5089/9781451828467.002.A001

Source: IMF staff estimates.

II. Medium-Term Outlook

2. The medium-term outlook is promising:

  • Real GDP growth per capita is projected to approach 4 percent, up from 3 percent a few years ago. This reflects a continued strengthening of the nonmining economy, which accounts for 85 percent of GDP. The timing and yields from exploiting the Kudu natural gas field are uncertain and could boost growth toward 2012.

  • Inflation is projected to decline to 5.5 percent by 2009; tighter monetary policies are already in place. A small positive differential between Namibian and South African inflation is projected because productivity in Namibia continues to grow faster, so inflation is at the upper end rather than the center of South Africa’s 3–6 percent target range.

  • Private sector credit should continue to exceed nominal GDP growth, financing rising investments. As private savings decline from peak levels, the external current account surplus is projected to narrow.

Medium-Term Macroeconomic Framework to 2012

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Sources: Namibian authorities; and IMF staff projections.

3. There are risks related to mineral production, diversification into nonmineral activities, and SACU receipts.

  • Mining sector volatility is such that the terms of trade may decline faster than projected over the medium term.

  • Business climate and public infrastructure improvements may fall short of what is needed to support investment and growth projections.

  • Political and social risk: As baseline growth projections would reduce unemployment and income inequality only marginally at first, they would remain as political and social concerns.

  • SACU receipts are projected at 11–12 percent of GDP over the medium term, financing about one-third of public spending. These receipts are vulnerable to revision of the revenue-sharing formula, an issue already tabled for discussion.

4. Upside risks relate primarily to the pace of structural reform. Decisive steps to make the labor market more flexible and eliminate business impediments could accelerate economic diversification and reduce unemployment more meaningfully.

5. The authorities concurred with this analysis. Preliminary Bank of Namibia projections for annual economic growth were up to 0.5 percent lower than those of staff, based on more cautious assumptions about the capacity to extend diamond extraction through new discoveries and developments in extraction technology. At the same time, with large parts of the country unsurveyed, the authorities see new mineral discoveries as a distinct possibility.

III. The Policy Discussions

A. How Should the Emerging Fiscal Space be Used?

Background

6. Increased receipts from SACU and the mining sector have created fiscal space.

  • The 25 percent of GDP debt ceiling is likely to be undershot by 2 percentage points this fiscal year. With a strong primary balance, the budget is well-placed to weather declines in SACU and mining revenues over the medium term without breaching the debt ceiling.

  • The emerging fiscal space could be used to keep public debt below the ceiling, reduce taxes, or accommodate new spending. Given relatively low public debt and credible fiscal management, the case for maintaining a margin below the debt ceiling is not persuasive. Reducing taxes is also risky, given SACU receipt vulnerabilities. Accordingly, the macroeconomic framework developed with the authorities incorporates a modest expenditure increase, primarily for infrastructure, that amounts to a cumulative 4½ percent of GDP over five years.

Fiscal Outlook to 2012/13

(Percent of GDP)

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Sources: Namibian authorities; and IMF staff projections.

7. Given uncertainties about future SACU financing, the tax administration effort must be more ambitious. The Inland Revenue Department (IRD) needs a strategic plan setting out goals and work priorities, supported by stepped-up recruitment and capacity building. Forensic tax audits are currently contracted to private accounting companies rather than IRD staff; there is no effective large-taxpayer unit; and VAT refunds are audited in a comprehensive rather than risk-based manner.

8. The quality of public spending could be improved:

  • Public spending is high by sub-Saharan African standards, and better prioritization could accelerate poverty reduction and progress toward the Millennium Development Goals (Figure 5).

  • Program-based budgeting is a first priority. Expenditure data are currently reported only by line ministry, and a modernized chart of accounts is needed to support informed discussion of spending priorities.

  • The public wage bill in relation to GDP is one of the highest in Africa. Although it was reduced from 15 percent of GDP three years ago to 13 percent in 2006/07 (Figure 2), what is needed is a strategy for civil service structure, performance, and remuneration.

  • State-owned enterprises (SOEs) continue to jeopardize the budget. An SOE Governance Act approved in August 2006 is stalled pending establishment of an oversight secretariat. Because of public opposition no significant privatizations are planned.

  • The new medium-term expenditure framework (MTEF) offers a basis for prioritizing spending but could be more effective. Spending decisions should be based on the revenue outlook beyond potentially temporary SACU, mining, and other receipts. Budget surpluses and debt reduction in periods of peak income would provide room to sustain spending when public revenues fall. Although recent fiscal surpluses seem consistent with this approach, they reflect shortfalls in capital spending and unexpectedly strong nominal income growth as much as fiscal discipline.

Figure 5.
Figure 5.

Namibia: Progress Toward Selected Millennium Development Goals, 1990–2015 1/

(In percent, unless otherwise indicated)

Citation: IMF Staff Country Reports 2008, 083; 10.5089/9781451828467.002.A001

Sources: World Bank, http://www.developmentgoals.org: and United Nations, http://unstats.un.org.1/ Progress is measured compared to a linear projection between the 1990 level and the end year goal.2/ Actual data for 1990 is assumed to be equal to 1992 level, due to lack of data.

Policy discussions

9. Ministry of Finance (MoF) officials underlined the importance of firm fiscal stewardship. They confirmed the central role of the MTEF in ensuring fiscal sustainability but also noted political challenges in programming fiscal surpluses when revenue is growing given the country’s unmet social and economic needs. They continue to see the public debt limit as a central fiscal anchor and will work to ensure that it continues to be respected.

10. Government officials recognized the need to redouble their efforts to strengthen tax administration to mobilize domestic revenue. However, they cited poor taxpayer compliance and recruitment and retention issues in IRD as factors behind the decision to adopt intensive audits of VAT returns and outsource forensic tax audits. Staff saw the intention to mobilize more domestic revenue as welcome, compared to the modest decline relative to GDP projected in the last MTEF. The government intends to seek IMF technical assistance to review the adequacy of taxation of the mining sector considering increased mining sector rents and new investments.2 The authorities are also considering staff recommendations that Namibia subscribe to the Extractive Industry Transparency Initiative (EITI).3 Staff noted that proposals to delegate some revenues and expenditures to subnational authorities should be crafted carefully to avoid undermining fiscal management.

11. The authorities confirmed the need for better prioritization of spending. They intend to use the emerging fiscal space to fund growth-promoting infrastructure (notably roads, rail, and rural electrification) and sectoral programs (tourism and fisheries). They indicated that program-based budgeting is a high priority and will continue to control the public wage bill. They also noted that they are considering the use of public-private partnerships to make public spending more effective. In welcoming these goals, staff encouraged the authorities to bring the SOE Act into effect. Noting the contributions of the Global Fund, the United States, and other donors to Namibia’s successful antiretroviral (ART) drug program, staff also suggested that a progressive increase in Namibia’s own contribution would help ensure sustainability.4 The authorities responded that while the budget covered other aspects of the pandemic, provision for antiretrovirals would be increased as needed.

B. Do Large Current Account Surpluses Signal Currency Undervaluation?

Background

12. Namibia’s very large current account surpluses reflect a combination of temporary fiscal tightening and an increase in private savings:5

  • Public savings rose more than 6 percent in 2006, accounting for three-quarters of the rise in the current account surplus compared to the three preceding years.6

  • Private savings have also risen considerably since 2003. Though not well understood this trend coincides with a decline in inflation (Figure 6). 7

  • Mining sector: The increase in private savings in 2006 may reflect increased mining incomes. Mineral exports rose by 4 percent of GDP in 2006, and although mining operations are largely foreign-owned, these increased incomes may have boosted recorded savings pending payment of taxes and remittance of dividends. Absent corporate income data, this channel is difficult to quantify.

  • Net foreign assets: Much of the additional savings have been invested abroad, and the medium-term projections for savings-investment balances are consistent with stabilization of private sector net foreign assets at a higher level.

Figure 6.
Figure 6.

Namibia: Savings, Investment, and the External Position

Citation: IMF Staff Country Reports 2008, 083; 10.5089/9781451828467.002.A001

Sources: Namibian authorities; and IMF staff estimates.

Savings, Investment, and the Current Account, 1990–2012

(Percent of GDP)

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Sources: Namibian authorities; and IMF staff projections.

13. Yet there is no conclusive evidence of significant undervaluation:

  • Tradables sector performance (aside from mining) is weak, which is at odds with a possible currency undervaluation. Manufacturing growth has declined since 2003, as has real GDP growth. There is no evidence of a sustained pick up in nonmineral exports or a slowing in import demand.

  • Survey-based competitiveness indicators have deteriorated on some measures since the 1990s; while the trend is not significant, it does not a priori suggest accelerated supply-side improvements that would lead to currency appreciation.

Indicators of Competitiveness and Currency Valuation

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Excluding manufacturing, which includes a large mineral component; first column is 1999–2002.

Staff estimates. Imports deflated by estimated partner country inflation; first column is 1991–2002.

2007 comparisons are January-October for South Africa and January-September for other trading partners.

World Bank calculations. Country rankings 0 to 100. The first column is 1996–2002.

  • Behavioral real exchange rate models suggest emerging undervaluation estimated at about 7–8 percent in 20068 (Figure 7)—but the models also predict that about half of this undervaluation would pass through to higher inflation differentials within a year. While inflation has picked up relative to trading partners, the increase has been modest, consistent with a small undervaluation.

Figure 7.
Figure 7.

Real Effective Exchange Rate Model, 1980–2006

Citation: IMF Staff Country Reports 2008, 083; 10.5089/9781451828467.002.A001

Source: IMF staff estimates.

Policy discussions

14. The authorities underlined their commitment to the common monetary area (CMA).9 They agreed that there is no clear evidence of significant currency undervaluation. Indeed (see below), their main concern was the need to make nonmineral exports more competitive.

15. Discussions on CMA issues focused on appropriate monetary policies. While Namibia’s policy interest rate decisions have matched those of South Africa since mid-2004, the authorities saw macroeconomic conditions as diverging, with more evidence in Namibia of slowing domestic demand and inflation. Accordingly, the need for continuing to align Namibia’s policies with South Africa’s was being carefully reviewed (foreshadowing the decision not to match South Africa’s 50-basis-point repo rate increase early in December). Staff noted the need to monitor closely the impact on capital outflows and official reserves.

C. What Further Financial Sector Reforms are Needed? 10

Background

16. The financial sector is strong and increasingly well regulated. However, more effective intermediation of ample domestic savings to boost domestic investment and growth would be welcome.

  • The banking system is very profitable, well-capitalized, with few nonperforming loans (Figure 8); private sector credit is relatively high by international standards, amounting to 58 percent of GDP in 2006. As the 2006 FSAP found, bank outreach to poorer households and small and medium-sized enterprises could be better. Banks are now extending their outreach through a range of innovative savings and credit products.

  • Namibia’s well-developed life insurance and pension fund sector is required to invest 35 percent of portfolios domestically; the industry typically invests much of the rest abroad, citing a lack of domestic investment opportunities. The capitalization of local companies on the domestic stock market is just 6 percent of GDP (only seven local companies are listed); public debt is low; and volume on the secondary corporate debt market is low. Pension savings are one factor behind Namibia’s capital outflows; most middle-income countries have capital inflows.

  • Tighter regulation of pension and insurance fund domestic investments is being considered. Specifically, the funds would no longer be able to meet the current 35 percent domestic investment requirement with holdings in foreign companies dual-listed on the Namibia stock exchange, and would have to dedicate some of their portfolios to investments in domestic unlisted companies.

  • Financial sector supervision is also being reinforced, as recommended in the 2006 FSAP.11 An overhaul of NAMFISA, which supervises nonbanks, was initiated in 2006 after a new CEO was appointed. Staffing and training have been increased in both NAMFISA and the Bank of Namibia, the banking regulator; risk-based supervision has been initiated; both institutions have stepped up on-site visits; NAMFISA has taken a medium-sized insurance company into curatorship; and a number of banking regulations have been issued. But collection and analysis of data from the nonbank financial sector is lagging; a full prudential picture of the sector is unlikely before mid-2008.

Figure 8.
Figure 8.

Namibia: Financial Sector Developments

Citation: IMF Staff Country Reports 2008, 083; 10.5089/9781451828467.002.A001

Source: Namibian authorities.

Savings and Investment, 1990–2006

(Percent of GDP)

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Sources: Namibian authorities; and IMF staff projections.

Policy discussions

17. The authorities emphasized the need for further outreach by the banking community and more domestic investments by pension and life insurance funds. A voluntary charter is being drafted under which banks will agree to meet social and economic benchmarks for personnel management and lending. The authorities noted that tighter domestic investment requirements were needed to encourage portfolio managers of pension and insurance companies to look beyond the “easy option” of investing in South Africa’s deeper markets. Any changes are to be implemented cautiously, monitoring closely the impact on the industry.

18. Staff urged caution in tightening domestic investment requirements. International experience suggests that pension funds earn higher returns when investment is not restricted. Moreover, a domestic development mandate leaves funds vulnerable to pressures to finance nonviable projects. Requirements to invest in unlisted securities pose a particular risk, because unlisted companies disclose less about their finances. Staff noted that the required repatriation of funds, which could amount to 10 percent of GDP or more, could exceed the economy’s ability to absorb it. There are also uncertainties about enforceability. Pension and insurance funds could probably side-step the regulations by investing in local banks, which would still be free to invest in South African bonds. This would result in no real increase in domestic financing while lowering returns through (a) a likely shift from equity to fixed-income returns favored by banks and (b) intermediation fees paid to banks.

19. The authorities discounted concerns about investment opportunities. They believe portfolio managers will find considerable unmet domestic demand for financing. The authorities concurred, however, on the merits of broadening the range of investment options through, e.g., bond issues by solid public agencies (following the precedent of NamPower) and indicated they would look into international experience with securitization of mortgages (which make up 40 percent of banks’ loan portfolios), and factoring and leasing.

D. How to Reduce Unemployment?

Backgrounds

20. Unemployment is a major problem:

  • Unemployment generally was 22 percent in 2004, not counting those not seeking work, and was 44 percent for urban 20- to 24-year olds.

  • Job creation is needed. The mining sector provides few jobs; employment in agriculture is likely to continue to decline; and fiscal considerations preclude further expansion of public sector employment. Private nonfarm, nonmining employment (currently 192,000) would need to rise by almost 60 percent to absorb the 108,000 unemployed.

Namibian Labor Force Trends, 1997–2004

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Source: Namibian Labor Force Surveys.

Narrow definition, excluding individuals not looking for work.

21. A superior business climate would compensate for difficult geographic conditions:

  • Namibia’s economic geography complicates diversification. The domestic market is limited, and the population is small and widely dispersed. Limited water resources and distances from advanced economies are a further challenge.

  • Infrastructure is fairly well-developed, with business access to rail, port, and air facilities viewed as superior to the average for lower-middle-income countries.

  • Economic governance is ranked in most surveys below Botswana and South Africa, but is above average for a lower-middle-income country. The decline in government effectiveness and control of corruption indicators over the past decade, while not statistically significant, is nevertheless indicative.12 However, an Anti-Corruption Commission became effective in 2006.

22. Skills gaps and inflexible labor markets are obstacles to job growth:

  • Education and skills: At independence, Namibia inherited a poor education system. The probability of employment is little higher for students with education up to grade 10 than for the uneducated, but an education and skills reform program has been launched with support from development partners.

International Governance Indicators, 2006

(Percentile ranking, 100=strongest)

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Source: World Bank.
  • Labor market functioning: Workforce management is complicated by lengthy and contentious challenges to worker dismissals in district labor courts. The pending Labor Law would increase annual leave eligibility to 24 days (plus 5 days’ compassionate leave), substantially above many middle-income country peers.13

23. Staff recommended continuing liberalization of the trade regime, including through broader free trade arrangements. A wider free trade area across SADC would increase market access for Namibia but is unlikely to be achieved by the 2008 target date because non-SACU members are progressing slowly. Namibia signed an interim Economic Partnership Agreement (EPA) with the European Union in mid-December. This will preserve Namibia’s access to the EU market and lower tariffs over time.

Policy discussions

24. The authorities agreed that reducing unemployment is a top priority, and will depend on building labor productivity and skills. Accordingly, a new Productivity Center is being launched in the Ministry of Labor, and the planned opening in 2009 of a National Institute of Public Administration and Management should make the civil service more effective. Meanwhile, staff urged that the work permit process be streamlined for hard-to-fill occupations. Reforms are being discussed, but the authorities underlined the need for employers to do more to recruit Namibian workers.

25. The authorities recognized the arguments for more flexible labor markets but pointed to the importance of improving working conditions since independence. The authorities envisage considerable improvements in the labor market under the pending Labor Law, which will promote conciliation and arbitration as an alternative to legal challenges to worker dismissals. They also considered that labor relations would benefit from industry-level voluntary charters for the empowerment of the previously disadvantaged. Staff noted that non-wage labor costs might rise as a result of the expanded leave provisions in the new law and recommended that employers be permitted to establish lower leave standards for new hires, with subsequent increases based on job seniority.

IV. Staff Appraisal

26. Achievements: Namibia’s economic position is strong. Economic growth is robust, and inflation has declined since peaking in mid-2007. National savings have reduced public indebtedness, built official reserves to a healthy level, and financed new private investments at home and abroad. The banking system is profitable and well-capitalized.

27. Vulnerabilities: Volatility in the mining sector and declines in SACU receipts remain risks. Political support for economic reforms is strong but would be reinforced by success in tackling unemployment and income inequality.

28. Currency valuation: Namibia’s large current account surplus partly reflects a tight fiscal position that is projected to ease over the medium term. While there is considerable uncertainty about the cause of the recent increase in private saving, there is little evidence of any significant currency undervaluation. Consistent with the authorities’ commitment to the CMA, interest rate differentials with South Africa should be limited to levels that do not destabilize capital flows or official reserves.

29. Fiscal policy: Using a good part of the recent surge in SACU transfers and mineral revenues to reduce public debt was appropriate. The emerging fiscal space and reprioritization of expenditures provide scope for modest increases for infrastructure and other programs.

30. Expenditure management: To help prioritize and monitor expenditures, adoption of a program classification for budget execution and reporting should be a priority. Because the public wage bill is high, new hires and remuneration should be strictly limited, but adequate salaries for critical staff should be ensured. To reduce risks to the budget from SOEs, the SOE Governance Act needs to be implemented.

31. Revenue policies: Tax administration should be strengthened in case SACU receipts fall. Domestic revenue reforms have been hampered by recruitment and retention issues and poor taxpayer compliance; efforts to strengthen the strategic and operational functions of the Inland Revenue Department should be redoubled.

32. Financial policies: Financial sector management is being enhanced consistent with the recommendations of the 2006 FSAP. The authorities should continue to explore the scope for fostering competition in the banking sector. Caution is needed in modifying domestic investment requirements for pension and insurance companies—especially minimum investments in unlisted securities—to avoid raising industry risk and deteriorating returns.

33. Structural reforms: Fostering employment growth in the nonmining economy to reduce unemployment is a central challenge. It will require forceful efforts to build skills and labor productivity, especially through greater labor market flexibility. The business climate also needs to be improved. Given Namibia’s daunting economic geography, it must build on its comparatively strong economic institutions and tackle bureaucratic obstacles. Further liberalization of the trade regime remains a priority.

34. It is recommended that the next Article IV consultation take place on the standard 12-month cycle.

Table 1.

Namibia: Selected Financial and Economic Indicators, 2003–12

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Sources: Namibian authorities; and IMF staff estimates and projections.

Figures are for the fiscal year, which begins April 1.

First 9 months of 2007 compared to a year earlier.

Table 2.

Namibia: Balance of Payments, 2003–12

(US$ millions)

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Sources: Namibian authorities; and IMF staff estimates and projections.

Namibia will become a net exporter of electricity in 2012, when electricity production from the Kudu gas project is expected to be fully operational.

Southern African Customs Union.

Gross foreign assets of the Bank of Namibia, converted to U.S. dollars.

Table 3.

Namibia: Central Government Operations, 2005/06–2012/13

(N$ millions)

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Sources: Namibian authorities; and IMF staff estimates and projections.

“Overall balance” reflects externally financed project spending (except for roads) that is not channeled through the state account. “Overall balance excluding extrabudgetary spending” excludes such spending and thus corresponds directly with the authorities’ concept.