The Kingdom of Swaziland
2007 Article IV Consultation: Staff Report; Public Information Notice on the Executive Board Discussion; and Statement by the Executive Director
Author: International Monetary Fund
Publication Date:
03 Mar 2008
eISBN:
9781451836134
Language:
English
Keywords:
ISCR; CR; Swaziland; SACU revenue; exchange rate; government; banking soundness indicator; fiscal policy; SACU windfall; GDP increase; SACU deficit; SACU receipts; Fiscal stance
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The Swazi economy has continued to register sluggish economic activity even as rising Southern African Customs Union revenue contributed to a large fiscal surplus and accumulation of international reserves. The unchecked growth of insufficiently regulated saving and credit cooperatives poses risks to the financial system. Fiscal policy should safeguard priority spending and fiscal sustainability. Executive Directors commend the government’s effort in rebuilding international reserves. Further efforts are needed to improve the quality and timeliness of data to better facilitate policy formulation and monitoring.

Abstract

The Swazi economy has continued to register sluggish economic activity even as rising Southern African Customs Union revenue contributed to a large fiscal surplus and accumulation of international reserves. The unchecked growth of insufficiently regulated saving and credit cooperatives poses risks to the financial system. Fiscal policy should safeguard priority spending and fiscal sustainability. Executive Directors commend the government’s effort in rebuilding international reserves. Further efforts are needed to improve the quality and timeliness of data to better facilitate policy formulation and monitoring.

I. Background

1. The Swazi economy remains stagnant, registering very small gains in real per capita GDP. Real GDP growth has slowed from an annual average of 3.6 percent in the 1990s to just over 2 percent in the past six years compared to an average of 5.5 percent among lower middle income countries. The slow pace of economic reforms and governance issues have worsened the investment climate, and the erosion of preferential treatment for Swaziland’s main exports, textile and sugar, combined with declining competitiveness have further contributed to the weakened output performance. Swaziland’s fiscal stance in recent years has been largely dependent on increasing revenue from the Southern African Customs Union (SACU). Concurrently, there have been limited efforts at raising domestic revenue and expenditure levels continue to rise.

uA01fig01

Real Per Capita GDP: 1995-2006

(1995=100)

Citation: IMF Staff Country Reports 2008, 085; 10.5089/9781451836134.002.A001

uA01fig02

Real Per Capita GDP Growth Rate, 1995-2006

(Average, percent)

Citation: IMF Staff Country Reports 2008, 085; 10.5089/9781451836134.002.A001

2. Years of persistently low growth has led to stubbornly high poverty and unemployment. This situation is made worse by the high prevalence of HIV/AIDS, absenteeism from the labor force, and low productivity. Swaziland continues to suffer from recurrent droughts, which further exacerbate the humanitarian situation and hamper growth (Figure 1).

Figure 1.
Figure 1.

Swaziland: Main Challenges

Citation: IMF Staff Country Reports 2008, 085; 10.5089/9781451836134.002.A001

Sources: National authorities, IMF staff estimates, Swaziland Household Income and Expenditure Survey, 2000-2001, World Bank, World Development Indicators, and UNAIDS reports, 2006 and 2007.

3. Swaziland remains a constitutional monarchy. A new constitution took effect in February 2006 and parliamentary elections are planned to take place in 2008, under the traditional tinkhundla system—a grass roots system of local governments and chiefdoms. Political parties are still not permitted, and cabinet members are appointed by the king.

II. Recent Economic Developments

4. After a small rebound to 2.8 percent in 2006, real GDP growth is estimated to have slowed to 2.3 percent because of drought and forest fires. Swaziland’s inflation rate typically closely follows that of South Africa, but is estimated to have increased to an annual average of 8.3 percent in 2007 reflecting rising food and oil prices. Since June 2006, the Central Bank of Swaziland (CBS) has increased its discount rate by 350 basis points to 11 percent in line with the South Africa Reserve Bank, and issued securities to help reduce excess liquidity.

5. Rising SACU revenue contributed to a large fiscal surplus and accumulation of international reserves. In 2006/07, SACU revenues rose by 9 percent of GDP to a record level of 27.5 percent of GDP. At the same time, spending fell short of budgeted amounts, because of the nonapplication of the voluntary early retirement scheme for public servants and lower payments to government’s pension fund; the overall fiscal surplus reached 10 percent of GDP.1 Despite stronger import growth, the external current account deficit narrowed in 2007, owing to stronger demand for Swaziland’s major export, soft drink concentrate, the extension of the African Growth and Opportunity Act (AGOA), which benefited exports of textiles,2 and large SACU transfers. International reserves recovered to an estimated 3.4 months of imports at end-2007 (Figure 2).

Figure 2.
Figure 2.

Swaziland: Recent Economic Developments

Citation: IMF Staff Country Reports 2008, 085; 10.5089/9781451836134.002.A001

Sources: National authorities and IMF staff projections.1 As of October 2007 except for the current account balance and SACU receipts which are end 2007 projections.

6. The authorities have implemented some measures since the 2006 Article IV consultation, but made limited progress on civil service reform. Budgetary control has improved, which has yielded some results in controlling the fiscal arrears. Improvement of the public procurement system has also started with assistance from Crown Agents, while the UNDP and the World Bank are assisting in strengthening public financial management, including the revision of the Public Financial Management Bill. The Revenue Authority Bill has been enacted, but the privatization program is progressing slowly. Stalled civil service reform and—despite the ‘zero-growth’ policy—rising employment and higher wage demands resulted in an escalation of the wage bill during the last four years, which is among the highest in Africa.

uA01fig03

Swaziland and Sub-Saharan Africa: Central Government Wages, 2006

(Percent of GDP)

Citation: IMF Staff Country Reports 2008, 085; 10.5089/9781451836134.002.A001

7. Broad money has expanded sharply during the past two years, reflecting the rise in net foreign assets. While credit to the government has declined, due to the surpluses arising from SACU receipts, growth in lending to the private sector slowed only moderately from 22 percent in 2006 to 19 percent in 2007. Interest rates have risen in line with developments in South Africa, but the spread between the lending and deposit rate increased to 4.2 percent.

8. Banking soundness indicators are generally positive, but the deposit-taking Savings and Credit Cooperative (SCCO) sector remains without effective supervision.3 Banks are well capitalized, liquid and profitable with low nonperforming loans (Table 4). However, one bank continues to have high nonperforming loans and face difficulties meeting compliance requirements. A few major SCCOs also face severe financial difficulties. Nevertheless, notable progress has been made in establishing a framework for regulation and supervision of insurance and pension funds.4 The new regulations require that all insurance and pension funds increase their holdings of domestic assets from 10 to 30 percent of total assets in the next three years.

Table 1.

Swaziland: Basic Economic and Financial Indicators, 2004-2012

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Sources: Swazi authorities; and IMF staff projections.

IMF Information Notice System trade-weighted; end of period.

Data for 2007 pertain to the latest available actual information-September 2007.

Includes government holdings abroad.

The fiscal year runs from April 1 to March 31.

The official GDP numbers from 1994 to 2006 were significantly revised.

Table 2.

Swaziland: Summary of Central Government Operations, 2006/07-2011/12 1

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Sources: Ministry of Finance; and Fund staff projections.

Without corrective policy measures. The fiscal year runs from April 1 to March 31.

Disbursements less amortizations.

Table 3.

Swaziland: Monetary Survey, 2002-2007 1

(Millions of emalangeni)

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Sources: Central Bank of Swaziland (CBS); and Fund staff estimates.

End-of-year data. (For 2007, as of end-October)

Counterpart of government deposits held abroad.

Excludes rand in circulation.

For October 2007, change from Dec. 2006.

Table 4.

Swaziland: Commercial Banks’ Performance Ratios, Dec. 2003 - 2007

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Source: Central Bank of Swaziland.

Excluding the Swaziland Development and Savings Bank, which is owned by the government and offers both development finance and commercial banking services since its recapitalization and relaunch by the government in 2001.

Figure 3.
Figure 3.

Swaziland: Fiscal Developments

Citation: IMF Staff Country Reports 2008, 085; 10.5089/9781451836134.002.A001

Sources: National authorities and IMF staff projections.

III. The Medium-Term and Risks To The Economic Outlook

9. On current policies, medium-term prospects are not encouraging. Growth is expected to average 2 percent in the medium term. Although supported by moderate activity in the services sector and some improvement in manufacturing, growth prospects are also seriously constrained by a weak investment climate and high cost of doing business, recurrent droughts, and the HIV/AIDS epidemic. However, inflation is expected to moderate somewhat as food prices slowly return to normal. The continuation of higher SACU revenues would contain the external current account deficit to around 2 percent of GDP through 2010.

10. The medium-term outlook is subject to several risks:

  • SACU revenues are unlikely to remain high after 2010, putting fiscal sustainability at risk. The downside risks include: (i) a call by South Africa to revisit the revenue-sharing formula, resulting in possibly lower SACU shares for member countries; (ii) the possible transformation of the Southern African Development Community (SADC) into a customs union by 2010, with possibly lower shares to existing SACU members; and (iii) a slow down in South Africa’s economic growth and the reduction in common external tariff rates due to trade liberalization. Hence, the decline in SACU revenue may be even greater than that shown in the baseline;

  • The financial sector faces vulnerabilities. Continued weaknesses in one of the banks as well as emerging vulnerabilities from the fast growth of insufficiently regulated nonbank financial institutions pose significant risks to the financial sector; and

  • The external environment may also deteriorate further. Erosion of trade preferences, particularly for sugar and textiles as well as increasing trade liberalization could all adversely impact prospects in the external sector (see Selected Issues Paper).

IV. Policy Discussions

Against the background of slow growth and significant medium-term risks, discussions focused on preserving fiscal sustainability to ensure macroeconomic stability; external stability and exchange rate policy; financial sector vulnerability; and policies to reinvigorate private sector led growth.

A. Fiscal Sustainability and Reforms

12. Staff expressed concern that increased SACU revenues have facilitated a sharp fiscal expansion that could undermine macroeconomic stability in the medium term. In 2007/08 expenditures are budgeted to rise 6 percent of GDP to a record level of 37.6 of GDP, with a parallel rise in the non-SACU fiscal deficit. Although this includes increased food assistance in the wake of widespread drought and forest fires, staff noted that the bulk of the expansion, funded by high SACU revenues, reflects a one percent of GDP increase in the wage bill and higher capital spending. While noting that some spending could not be delayed at this stage, the authorities indicated that capital expenditures may not be executed in full. The medium-term budget policy through 2010/11 remains largely expansionary. Without offsetting expenditure cuts to allow for additional spending on education, and agriculture and health, staff estimates that total expenditures would rise to a record high of over 39 percent, while the wage bill rises to over 15 percent of GDP. Even allowing for some expected improvements in domestic revenue collections, the projected decline of SACU revenues would result in a budget deterioration to a deficit of almost 7 percent of GDP by 2012/13.

13. The staff discussed the usefulness of targeting a non-SACU fiscal balance when assessing the fiscal performance. Concurring with staff’s assessment of the likely decline in SACU revenues beyond 2010/11, the authorities welcomed the supplementary fiscal analysis that helps put in context the current overall fiscal surpluses.5 The non-SACU deficit also allows more focus on domestic revenue efforts while providing an anchor for fiscal savings to help smooth-out expenditure over the long term. During 1996/97-2004/05, the non-SACU fiscal deficit averaged about 16 percent of GDP based on SACU revenues of 13 percent of GDP, but widened to 17.4 percent of GDP in 2006/07.

14. Staff’s baseline scenario assumes some revenue buoyancy from strengthening of the tax administration and expenditure levels based on recent outturns. On this basis, the non-SACU fiscal deficit will remain at around 24 percent of GDP. Reversing the consequent decline in international reserves beyond 2012/13, and returning fiscal policy to a sustainable path would then require unrealistically large spending cuts within a short time frame.

uA01fig04

SACU Revenues and Fiscal Balance Including Grants

(Percent of GDP)

Citation: IMF Staff Country Reports 2008, 085; 10.5089/9781451836134.002.A001

Sources: National authorities and IMF staff estimates and projections.

15. A proposed fiscal reform scenario targets a non-SACU deficit of 16 percent of GDP based on ‘more normal’ SACU revenue of about 13 percent of GDP.6 The required adjustment implied by this scenario could be attained by the phased implementation of a package of revenue and spending measures, while still increasing pro-poor and HIV/AIDS expenditures. This would also allow for fiscal surpluses that would be used to repay debt, leading to a decline in the debt-to-GDP ratio. The low debt level gives flexibility to the authorities, if needed, to provide additional social spending through debt financing. These measures, together with structural reforms, could gradually raise GDP growth to 3-4 percent over the medium term (see Box 1). The authorities were generally receptive to staff’s proposed adjustments, but also indicated that any expenditure cuts could be challenging given this year’s election and the recent large fiscal surplus.

Swaziland: Medium Term Fiscal Scenario Without and With Measures 1

(Percent of GDP)

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The fiscal year runs from April 1 to March 31.

Key Measures to Restore Fiscal Sustainability

In anticipation of SACU revenue decline after 2010/11 that would threaten fiscal sustainability, staff proposed the following measures.

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Source: Staff estimates

The revenue impact of these measures would be small initially but would increase to 2 percent of GDP by 2012/13. Expenditure measures could realize savings of 6 percent of GDP by 2012/13. These measures together with structural reforms aimed at facilitating private sector initiatives could generate GDP growth of 3-4 percent over the medium term.

Swaziland: Medium-Term Scenario, 2007-2012

(Percent of GDP, unless noted otherwise)

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Fiscal year runs from April 1 to March 31.

Assuming that strong policy reforms will result in fiscal and current account surpluses.

16. Strengthened public financial management is also needed to improve the quality of spending. A new computerized commitment system is helping to reduce arrears accumulation. However, not all expenditure items are linked with this system and some manual payments orders remain, making the budgetary control process cumbersome. A good start is being made in improving the procurement system. Staff welcomes the government’s intention to strengthen the medium-term expenditure framework (MTEF) and public finance management. To support the transparency effort, the government should disseminate budget and outturn information in addition to the fiscal policy statement.

B. External Stability and Exchange Rate Policy

17. Staff and the authorities agreed on the need to maintain sufficient international reserves to safeguard external stability that is underpinned by a prudent fiscal policy. The staff welcomed the authorities’ policy of rebuilding international reserves through saving some of the SACU windfalls. The authorities reconfirmed their intention to maintain reserves of at least three months of imports.

18. In light of the government’s holding of some SACU savings offshore, the staff recommended that all government foreign deposits should be transferred to the CBS, consistent with the constitution. During 2007 international reserves reached US$637 million of which US$102 million (about 16 percent of total international reserves) was held offshore by the government. The staff expressed concerns about the absence of a proper investment strategy to safeguard these assets against undue risks and urged their transfer to the CBS balance sheet. The authorities were receptive to this recommendation.

19. An updated debt sustainability analysis (DSA) shows Swaziland has very low debt levels, but these could rise significantly if the fiscal situation deteriorates (Tables 7 and 8). Since 2002, total public sector debt has declined, reflecting in part, an exchange rate appreciation between 2003 and 2006, and limited new borrowing. Based on current fiscal trends, particularly with respect to high SACU revenues, debt levels are expected to continue to trend downwards, at least to 2010, reaching 11.4 percent of GDP. However, following the expected decline in SACU revenues after 2010, the debt-to-GDP ratio will quickly rise to 20.5 percent by 2013.

Table 5.

Swaziland: Balance of Payments, 2004-2012 1

(Millions of U.S. dollars, unless otherwise specified)

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Sources: Central Bank of Swaziland; and IMF staff projections.

Without corrective policy measures.

SACU: Southern African Customs Union. SACU transfers in the current account does not reflect the true level of SACU revenue because of the particular treatment of those transfers in the accounts where the authorities make an estimate based on the level of imports and adjust in 'other investment' to reflect the total SACU revenues.

Table 6.

Swaziland: Millennium Development Goals 1

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Source: World Development Indicators database, April 2006

Figures in italics refer to periods other than those specified.