Botswana: 2023 Article IV Consultation-Press Release; Staff Report; and Statement by the Executive Director for Botswana

1. Botswana has made impressive strides in economic development and has the objective of reaching high-income status by 2036. Since the early 2000s, supported by good governance and sound macroeconomic management, real per capita GDP has grown by one third, and today’s GDP per capita is close to $7,000 (current US$). To a large extent, the country has succeeded in avoiding the “resource curse,” by investing diamond revenues in a transparent and productive manner. Poverty rates are roughly half of sub-Saharan Africa’s average. More recently, the government’s COVID-19 vaccination campaign was among the most successful in Africa, with about 80 percent of the population vaccinated by May 2023.

Abstract

1. Botswana has made impressive strides in economic development and has the objective of reaching high-income status by 2036. Since the early 2000s, supported by good governance and sound macroeconomic management, real per capita GDP has grown by one third, and today’s GDP per capita is close to $7,000 (current US$). To a large extent, the country has succeeded in avoiding the “resource curse,” by investing diamond revenues in a transparent and productive manner. Poverty rates are roughly half of sub-Saharan Africa’s average. More recently, the government’s COVID-19 vaccination campaign was among the most successful in Africa, with about 80 percent of the population vaccinated by May 2023.

Context

1. Botswana has made impressive strides in economic development and has the objective of reaching high-income status by 2036. Since the early 2000s, supported by good governance and sound macroeconomic management, real per capita GDP has grown by one third, and today’s GDP per capita is close to $7,000 (current US$). To a large extent, the country has succeeded in avoiding the “resource curse,” by investing diamond revenues in a transparent and productive manner. Poverty rates are roughly half of sub-Saharan Africa’s average. More recently, the government’s COVID-19 vaccination campaign was among the most successful in Africa, with about 80 percent of the population vaccinated by May 2023.

2. In recent years, however, macroeconomic imbalances have widened. Botswana’s relatively low gross debt-to-GDP ratio masks a large, long-term deterioration in the government’s overall financial position, with its cash deposits at the central bank having declined by over 40 percent of GDP over the past 15 years. Despite strong export growth, the decline in foreign exchange reserves continued in 2022, bringing the import coverage ratio down to 5.9 months of imports in May 2023, from close to 10 months before the pandemic. Lower fiscal and external buffers make Botswana more vulnerable to external shocks, including diamond price volatility.

3. Going forward, the authorities are rethinking their growth model, which requires confronting deep structural challenges. The economy is heavily dependent on diamond mining (representing 90 percent of goods exports), but Botswana’s diamond reserves may be exhausted in two to three decades. Growth has not been sufficiently inclusive to bring down unemployment and reduce inequality; the unemployment rate stood at 25 percent in 2022, while income inequality, as measured by the Gini index, is among the highest in the world. Finally, despite efforts to diversify and expand the role of the private sector, the economy remains dominated by the public sector.

Recent Economic Developments

4. Following a strong recovery of almost 12 percent in 2021, Botswana’s economy grew by 5.8 percent in 2022, significantly above the long-run average of 4 percent. The recovery from the pandemic primarily reflected elevated mining production, but also robust manufacturing and construction (Text Figure 1). From the expenditure side, the main driver of the rebound has been the very sharp increase in the contribution of external demand through both stronger exports and lower diamond imports.1

5. After peaking at 14.6 percent in August 2022, inflation has fallen gradually to 4.6 percent in June 2023, returning to the central bank’s objective range. Annual CPI inflation increased sharply after April 2021, mainly due to higher fuel prices. Since then, falling fuel prices have resulted in a steep decline in transport inflation, which has been the main driver behind the recent disinflation. Core inflation, which excludes fuel, had increased at a slower pace in 2021-22 before receding in recent months to 4.7 percent in June 2023. Despite the overall downward trend, food inflation is still at a historically-high level (13 percent in June). Inflation excluding regulated prices, which reflects underlying price pressures, has also been stickier.2

Text Figure 1.
Text Figure 1.

Selected Macroeconomic Indicators

Citation: IMF Staff Country Reports 2023, 317; 10.5089/9798400251474.002.A001

6. The budgetary position improved from a 2.4 percent of GDP deficit in FY2021 to a balanced budget in FY2022, mainly due to a lower expenditure ratio and higher mineral revenue (Text Figure 2).3 On the expenditure front, the wage bill ratio fell by 0.9 percent of GDP,4 while grants and subventions declined by 1.7 percent of GDP. On the revenue side, the rise in mineral revenue reflected elevated diamond sales, while non-mining revenue fell by 1.9 percent of GDP—partly because of efforts to cushion households against higher inflation.5 The deficit was financed primarily through domestic debt issuance and external concessional financing, with gross debt (excluding guarantees) reaching 18 percent of GDP at end-FY2022.6

Text Figure 2.
Text Figure 2.

Change in Fiscal Balance Ratio Between FY2021 and FY2022

(Percent of GDP)

Citation: IMF Staff Country Reports 2023, 317; 10.5089/9798400251474.002.A001

Sources: IMF staff calculation.
Text Figure 3.
Text Figure 3.

Interest Rates, 2019-2023

(Percent per annum)

Citation: IMF Staff Country Reports 2023, 317; 10.5089/9798400251474.002.A001

Sources: Haver Analytics/Bank of Botswana.

7. The Bank of Botswana (BoB) has maintained the policy rate at 2.65 percent since August 2022. The Monetary Policy Rate (MoPR) was raised by a combined 151 basis points between April and August 2022. Prior to this, the policy rate had been kept low for 18 months. In general, market interest rates have moved up with the tightening policy stance, but passthrough differs between rates (Text Figure 3). In 2022, the interbank rate increased from around 1 to 2½ percent, while the prime lending rate increased by a similar margin. The deposit rate (which is affected by broader liquidity conditions and competition among banks) remained broadly unchanged.

8. The external position improved in 2022 due to strong diamond exports and capital inflows (Text Figure 4). The current account strengthened from a 1.4 percent of GDP deficit in 2021 to a 2.9 percent surplus in 2022—mainly reflecting higher volumes and prices of diamonds. The financial account also moved into surplus, supported by large portfolio inflows7 and a modest recovery in foreign direct investment. Despite the stronger balance of payments, revaluation losses8 reduced the central bank’s FX reserves to USD 4.3 billion (5.8 months of imports) at end-2022, from 6.7 months in 2021. The BoB has reduced the nominal downward crawl rate of the exchange rate to 1.5 percent for 2023, from 2.9 percent in the previous two years.

9. The 2022 external position is assessed as stronger than suggested by fundamentals and desirable policies. As discussed in Annex I, the current account gap is estimated at around 3½ percent of GDP (implying a REER gap of -13 percent) mainly because of the strong rebound in diamond exports. End-2022 reserves, which are held mostly in the Pula fund, are adequate, representing 183 percent of the ARA metric.9

Text Figure 4.
Text Figure 4.

Balance of Payment Variables

Citation: IMF Staff Country Reports 2023, 317; 10.5089/9798400251474.002.A001

Outlook and Risks

10. Growth is projected to slow to 3.8 percent in 2023, rebound in 2024 and 2025, before stabilizing at 4 percent over the medium term. The expected slowdown in 2023 reflects a decline in diamond production and prices this year, with weaker global growth likely to depress other exports (Text Figure 5).10 This will be partly offset by growth in the non-mining sector, with the fiscal expansion supporting public investment. Growth is forecast to rebound gradually in 2024 and 2025 due to higher prices and quantities of diamonds produced. The outlook is consistent with recent business confidence surveys showing that Botswana firms are more optimistic about business conditions in 2024 than in 2023.

Text Figure 5.
Text Figure 5.

International Diamond Price Index

(Jan 2015 = 100)

Citation: IMF Staff Country Reports 2023, 317; 10.5089/9798400251474.002.A001

Sources: Botswana Financial Statistics, and IMF staff calculation.

11. Annual inflation is projected to halve in 2023, to slightly below 6 percent. From May 2023 onward, monthly inflation is expected to remain within the BoB’s objective range of 3-6 percent, mainly on account of the decline in international oil prices, the smaller downward annual rate of crawl of the Pula announced in December 2022, positive real lending rates, and the prospect of regulated prices remaining unchanged.11 These factors would more than offset the inflationary pressures coming from the fiscal expansion.

12. As part of their three-year medium term budget framework, the authorities plan a widening of the fiscal deficit in FY2023, before narrowing towards a small surplus by FY2025.12 The higher deficit in FY2023 reflects mostly higher budgeted capital expenditure and lower mineral revenue (Text Figure 6, LHS). This is partially offset by a large increase in SACU transfers (by 72 percent compared to FY2022) due to a projected increase in the common revenue pool. Thereafter, in FY2024 and FY2025, the authorities project to reduce the fiscal deficit significantly by about 2/ percent of GDP and move to a small fiscal surplus by reducing the ratio of wages to GDP and transfers (including lower subventions to SOEs) (Text Figure 6, RHS). In these two years, base wages are expected to grow below inflation, while keeping headcounts unchanged.

Text Figure 6.
Text Figure 6.

Composition of the Medium-Term Fiscal Path

Citation: IMF Staff Country Reports 2023, 317; 10.5089/9798400251474.002.A001

13. The debt ratio is projected to remain low in the medium term. The Debt Sustainability Analysis (DSA), presented in Annex II, assesses the overall sovereign stress risk as low. The main risks to the debt trajectory—identified in the 2021 IMF TA report on fiscal risk management—include the country’s elevated macroeconomic volatility (due to uncertainty of mineral revenues), potential contingent liabilities related to SOEs, and weaknesses in budgeting processes. Other risks may emerge from delayed or insufficient fiscal consolidation. Finally, as noted in the recent Public Investment Management Assessment (PIMA), public financial management practices could be weakened by the recent decision to separate planning and budgeting functions (with the creation of the National Planning Commission (NPC) under the President’s Office in 2022). Close coordination between the NPC and the Ministry of Finance will be key to ensure that future investment plans are conceived within a sustainable financing envelope and consistent with the medium-term budget framework.

14. Following a rebound in 2024, the external position is projected to soften over the medium term. In 2024, the current account should benefit from elevated SACU transfers and a recovery in diamond sales. However, it is projected to resume its long-term decline in the outer years, despite the import-compression effect of fiscal adjustment (Text Figure 7). As a result, the FX reserve coverage ratio is projected to initially increase before converging towards 5½ months of imports in the medium term.

Text Figure 7.
Text Figure 7.

Diamond and Non-diamond Trade, 2000–28

(Percent of GDP)

Citation: IMF Staff Country Reports 2023, 317; 10.5089/9798400251474.002.A001

Sources: Bank of Botswana, and IMF staff calculation.

15. The outlook is uncertain, depending heavily on the path of diamond prices. The main risks are discussed in the Risk Assessment Matrix of Annex III:

  • Supply disruptions and demand fluctuations at the global level could intensify commodity price volatility. Competition from synthetic diamonds could also affect demand and prices for diamonds.

  • Possibly combined with the previous shock, an abrupt global slowdown, marked by recessions in some major economies, would have adverse spillovers to Botswana through trade and financial channels. A new bout of global financial tightening may lead to spiking risk premia, risk-off behaviors, and sudden capital outflows, which would widen external imbalances.

  • Climate shocks, especially floods, continue to dim the outlook, posing a threat to agriculture, mining, and tourism.

  • Delays in planned fiscal consolidation could further erode fiscal and external buffers, increasing Botswana’s vulnerability to external shocks, and entail a sharper future adjustment with negative effects on growth. On the upside, successful implementation of the authorities’ economic diversification plan13 could lift medium-term growth prospects.

Authorities’ Views

16. The authorities broadly agreed with staff’s outlook and risks assessment. For the mining sector, the authorities noted that economic sanctions imposed on Russia, combined with the prolonged Russia-Ukraine war, have increased supply and demand uncertainty in the diamond sector. A shift towards synthetic diamonds due to supply shortages and increased prices for natural diamonds, would adversely impact the retail market. Further, pressures on household real income due to the global slowdown and higher inflation could reduce international demand for luxury goods. Difficulties related to the traceability of diamonds may also lower demand for Botswana’s diamonds. These developments are monitored by the authorities to allow timely responses and minimize adverse effects on the economy.

Policies to Support Macroeconomic Resilience

A. Fiscal Policy: Halting the Decline in Buffers

17. Fiscal space has been severely eroded in the past 15 years. Historically, significant diamond revenues and sound macroeconomic management led to the accumulation of large fiscal buffers. But since 2007, government deposits at the central bank have been drawn down from 50 percent of GDP to 6 percent of GDP at end-FY2022 (Text Figure 8, LHS). This trend is partly explained by the long-term decline in Botswana’s revenue-to-GDP ratio, which comes from both lower SACU customs and excise transfers and lower mining revenues (Text Figure 8, RHS). By contrast, expenditure remained broadly stable as a share of GDP between FY2011 and FY2020.

Text Figure 8.
Text Figure 8.

Government’s Net Debt Increase and Its Drivers

Citation: IMF Staff Country Reports 2023, 317; 10.5089/9798400251474.002.A001

Note: All years refer to fiscal years in this box. The denominator of the ratios is the imputed fiscal year GDP.

18. The authorities’ medium-term consolidation plan is critical to put a stop to the depletion of buffers. Fiscal sustainability is a key consideration for all countries in the world, but even more for commodity exporters like Botswana, where diamond reserves are expected to be depleted in two to three decades, while mineral revenue accounts today for about 40 percent of government revenue. In their latest medium-term budget framework, the authorities aim at achieving a small surplus by FY2025—which seems an appropriate target when measured against traditional sustainability benchmarks (see Annex IV). As shown in Annex II, this is a fairly ambitious, but realistic, adjustment by international standards.

19. The authorities’ emphasis on lowering the expenditure-to-GDP ratio in the medium term is warranted. Botswana’s public wage bill is large compared to other emerging market economies—both as share of GDP and public expenditure. Furthermore, despite Botswana’s relatively large stock of public infrastructure, the 2023 PIMA report noted a large gap in infrastructure spending efficiency between Botswana and the most efficient countries with comparable income levels and public capital stock. There is scope to generate savings by improving project appraisal and selection, strengthening the pipeline of quality projects eligible for budget funding, and developing a central information system.

20. Given potential difficulties in containing expenditure growth, especially for politically-sensitive items like the wage bill, measures on the revenue side could also be considered. Botswana’s tax ratio excluding SAC U transfers is relatively low at around 13 percent of GDP—in line with SSA countries, but lower than other emerging and developing countries (median of 17 percent of GDP). Revenue gains could be achieved in the short-term by streamlining VAT exemptions and enhancing the progressivity of personal income tax through additional brackets for higher income earners, and, over the medium term, by raising the level and changing the modalities of property taxation.

Text Figure 9.
Text Figure 9.

Measures of Fiscal Impulse

(Percent of GDP, unless otherwise indicated)

Citation: IMF Staff Country Reports 2023, 317; 10.5089/9798400251474.002.A001

Note: All years refer to fiscal years. Impulse indicators are measured as the change with the previous year. Positive impulse means fiscal expansion.

21. Nonetheless, this year’s fiseal expansion may create undue demand pressures in the short term. The positive fiscal impulse in FY2023 occurs with the economy back at potential and still-elevated inflation excluding administered prices, which could hamper monetary-fiscal coordination (Text Figure 9). Output gaps based on HP and multivariate filters are close to zero, both for real GDP and non-mining GDP. In addition, a tighter fiscal stance in FY2023 would reduce future fiscal adjustment needs and enhance the credibility of the authorities’ consolidation plan.

22. An expenditure rule could be used to anchor the fiscal adjustment trajectory. The authorities are considering a fiscal rule to automatically save a percentage of mineral revenue. Such revenue split rules are common in resource-rich countries but have not always been successful at stabilizing the debt ratio since they do not constrain spending nor the deficit. Thus, even if 100 percent of the revenues are saved, a country could still borrow to finance higher spending. An expenditure rule, for instance in the form of a cap on real spending growth, may be more effective at ensuring fiscal sustainability, while allowing automatic stabilizers to operate in case of shocks. The expenditure rule could be supplemented with a target path for government net financial assets (NFA).14

Authorities’ Views

23. The authorities agreed with staff on the paramount importance of rebuilding fiscal buffers. They expressed their firm commitment to reach a fiscal surplus in the medium term. In their view, the temporary fiscal expansion in FY2023 is warranted to support the recovery and address the large development gaps in infrastructure. Regarding the fiscal rule, the authorities noted that the revenue split rule combined with a fiscal deficit ceiling would be sufficient to contain spending pressures. On the revenue side, they emphasized that critical revenue administration reforms were under way, which could yield important gains in the coming years, including the introduction of ebilling for VAT, the expansion of VAT to digital services, and the strengthening of audits.

B. Monetary and Exchange Rate Policy: Keeping Inflation within the Objective Range

24. The monetary policy stance is broadly adequate. The BoB last tightened the policy rate in August 2022, anticipating that inflation would revert to the objective range within 18 months. Thereafter, headline inflation decelerated quickly, while expectations also started to fall. Second round effects seem contained, as suggested by the softening of core inflation. The magnitude of the policy rate increase has, so far, been consistent with a modified Taylor rule, which includes the output gap and inflation expectations (Text Figure 10). Going forward, the projected decline in international oil and food prices (including from South Africa—a major exporter to Botswana) combined with positive domestic real interest rates should drive the continued disinflation, without the need for additional monetary tightening.

Text Figure 10.

25. Nonetheless, risks to the inflation outlook remain high, and the BoB should stand ready to raise rates if necessary. Caution is warranted in assessing the recent disinflation trend. At 7.1 percent in June, inflation excluding regulated prices remains above the objective range, and inflation expectations continue to be elevated. Both the aggregate and non-mining GDP output gaps estimated by staff are close to zero. Fiscal expansion this year, including higher investment, may hamper the BoB’s disinflationary effort. In addition, Botswana’s increase in the policy rate since end-2021 has been lower than in most SSA countries and other EMDEs, which could put further pressure, in the future, on capital flows and foreign exchange reserves.15

26. There is scope to strengthen monetary policy transmission. The new monetary policy rate (MoPR), introduced in April 2022, is now the fixed rate at which 7-day Bank of Botswana certificates are auctioned. This ensures that short-term rates are more closely aligned to the policy rate. But monetary policy effectiveness remains limited due to multiple frictions along the transmission chain. At the start of the chain, the interbank rate does not adequately transmit the signal of the policy rate since banks are reluctant to lend to each other (some prefer to hold excess liquidity buffers, while others are concerned about credit risk). Low financial development and low public debt reduce the ability of interest rates to affect economic activity through credit markets. The experience of under-allocated government security auctions suggests that rates at the longer end of the government yield curve are managed and do not fully reflect market conditions. Finally, banks’ wholesale deposit rates are broadly inelastic to the policy rate, with deposit rates responding primarily to liquidity conditions in the system and competition across banks. Reforms to develop both the interbank and the bond markets are discussed below in the section on financial policies.

27. Some changes could be contemplated to mitigate the risk of conflict between monetary policy and exchange rate policy. The real effective exchange rate (REER) targeting regime has served the country well in the past, but it may complicate the conduct of monetary policy when inflation is high (since the depreciation of the currency to maintain competitiveness adds to inflationary pressures) and it has not prevented a weakening of the competitiveness position. As discussed in the attached Selected Issues Paper (SIP), some changes to the current regime could mitigate these issues—for instance, by calibrating the nominal crawl rate to support the inflation objective (rather than to compensate the inflation differential with the main trading partners) or by modifying the weights used in the REER calculation to mirror trade patterns more closely.

Authorities’ Views

28. There was broad agreement between authorities and staff on the orientation of monetary policy under the baseline, although the authorities saw the risks to inflation as being more symmetric. They noted that upside risks (from higher international commodity prices, persistence of supply chain constraints, global fragmentation, and upward adjustments in administered prices) were broadly offset by the possibility of weaker economic activity, disinflationary effects of higher monetary policy rates globally, stronger-than-projected appreciation of the Pula against the rand, and lower commodity prices. Furthermore, the authorities estimated that the economy was still operating below capacity in the short term, limiting demand-driven inflationary pressures. If economic circumstances were to change, the central bank would respond appropriately. On monetary policy effectiveness, they noted that transmission to lending rates was strong and that transmission to the interbank market rate had improved following the 2022 reform of the monetary policy framework. They monitor the interest rate differential with other countries and are ready to take appropriate measures if capital outflows were to materialize, which has not happened thus far. On the REER regime assessment, the authorities agreed on the benefits of crawling pegs and welcomed staff analysis on international experience with transitional arrangements.

C. Financial Sector Policies for Market Stability, Depth, and Inclusion

29. Despite recent shocks, the financial sector has remained profitable and stable. At end-2022, the banking sector’s capital-adequacy ratio—at 19.8 percent—was above the regulatory threshold, while NPLs declined to 3.8 percent of gross loans. All banks comply with prescribed liquidity ratios. The stress testing exercises of the 2023 Financial Sector Assessment Program (FSAP) found that the financial system appeared to be resilient to a wide range of shocks. Annex V summarizes the main FSAP findings and recommendations.

30. Good progress has been made in strengthening legal and regulatory frameworks for financial stability, but the operationalization of new regulations and laws will be key. The FSAP found that key elements of the Basel III Framework were at an advanced stage of implementation. Both the recently adopted Bank of Botswana Amendment Act and the revised Banking Act should create a stronger legal basis for financial stability oversight and operations. Next steps include establishing the operational frameworks for emergency liquidity assistance, deposit insurance, and bank resolution. The Financial Stability Council’s mandate should be expanded to include crisis preparedness and management.

31. Deepening the interbank and domestic bond markets is necessary to support financial sector development, strengthen public financial management, and improve monetary policy transmission. This will require coordinated efforts by the BoB and Ministry of Finance:

  • The interbank market is fragmented and concentrated mostly among large banks. Unsecured transactions in the interbank market are more common. To expand the market, repo transactions should be encouraged by building capacity with banks, designing a robust legal framework to support contract enforceability, and establishing the supporting prudential regulation. In addition, transitioning to the Basel III liquidity framework would improve liquidity planning and monitoring, and expand the definition of liquid assets used as collateral for interbank market repo loans.

  • The government bond market is fairly under-developed and illiquid. Auctions are often undersubscribed, and several factors hamper price discovery. Development of the bond market will require actions on two fronts: (1) making the primary bond auction system more efficient by improving transparency and predictability, accepting market-based pricing, and revisiting the primary dealer agreement; and (2) enhancing secondary market liquidity by expanding the investor base, enforcing quoting and reporting obligations of primary dealers, and improving market infrastructure for trading.

32. The rise in digital financial services (DFS) has driven recent improvements in financial inclusion, although there is scope for further progress. Botswana’s financial inclusion compares favorably to many sub-Saharan African countries but lags regional leaders like South Africa and Mauritius (Text Figure 11). The 2023-2028 “Financial Inclusion Roadmap”, to be published this year, will articulate the authorities’ strategy, and set financial inclusion targets. To advance the reform process, the authorities could clarify the regulatory framework for DFS, improve interoperability (e.g., between mobile money and payment cards), foster innovation by introducing fast payment services, and allow the entry of new players. Furthermore, private sector credit to micro, small, and medium enterprises (MSMEs) remains limited. Measures to boost credit include reforming development finance institutions (DFIs) (whose subsidized credit tends to crowd out private lenders); introducing well-designed credit enhancement mechanisms; developing wholesale facilities to support financial institutions’ on-lending to MSMEs; upgrading the regulatory framework for non-bank lenders (including microfinance institutions); and implementing credit infrastructure reforms to enable effective credit risk assessments.

Text Figure 11.
Text Figure 11.

Account Ownership at a Financial Institution or with a Mobile-Money-Service Provider, 2022

(Percent of population ages 15+)

Citation: IMF Staff Country Reports 2023, 317; 10.5089/9798400251474.002.A001

Sources: World Development Indicators.

33. Botswana’s exit from the Financial Action Task Force (FATF) grey list shows significant progress in strengthening the AML/CFT framework, but additional implementation challenges remain. As noted by the 2023 FSAP, the AML/CFT regime has undergone significant recent improvements, which led to the removal of Botswana from the FATF grey list in October 2021 and the European Union’s blacklist of high-risk third countries in January 2022. The BoB is also allocating additional resources to AML/CFT, including on-site examinations and work on operationalizing riskbased supervision. Effective implementation of the new measures will require clarifying reporting requirements, increasing public awareness, building capacity, and ensuring that information on beneficial ownership of legal persons and arrangements is adequate, accurate, and up to date. Parallel work needs to be carried out in relation to non-bank financial institutions under the supervision of the NBFIRA: supervisory arrangements should be put in place for the newly regulated Virtual Asset Service Providers sector, which poses novel ML/TF risks.

Authorities’ Views

34. The authorities broadly agreed with staff’s assessment and recommendations. They underlined the stability and resilience of the domestic financial system. They highlighted the expected benefits from revisions to the BoB and Banking Acts and reiterated their commitment to implement Basel III standards. They noted that the new government borrowing strategy and auction calendar, launched in June 2023, should enhance transparency in the market and contribute to building debt management capacity. They also underscored that significant progress had been made in strengthening the AML/CFT framework and addressing the recommendations of the last Financial Action Task Force assessment.

D. Structural Reforms: Transforming Botswana’s Growth Model

35. The authorities are committed to transforming the drivers of growth. Significant changes are required to diversify the economy away from diamonds and grow the share of the private sector. Diamonds represent almost 90 percent of goods exports and a quarter of GDP, while the share of manufacturing has declined over the past decade (Text Figure 12). The public sector plays a dominant role in large parts of the economy, particularly through the SOEs, constraining private sector development; it represents 40 percent of formal employment and 50 percent of formal sector wages. Overall, economic transformation is critical to raising the growth potential, enhancing resilience to external shocks, and reducing the unemployment rate.

Text Figure 12.
Text Figure 12.

Diamond and Manufacturing Industry

Citation: IMF Staff Country Reports 2023, 317; 10.5089/9798400251474.002.A001

Note: For the GDP share of the RHS chart, diamond includes mining and diamond traders.

36. Increasing the private sector’s economic footprint will require, among other things, accelerating the SOE reform agenda and addressing infrastructure gaps.16 SOEs play a large role in Botswana’s economy, spanning transportation, energy, utilities, communication, and financial services. Performance has generally been weaker than international benchmarks. As discussed in the attached SIP, reforming SOEs could level the playing field for private companies, facilitate market access, improve resource allocation, and spur competition and innovation. As a first step, the authorities could accelerate the comprehensive analysis of the SOE sector and clarify oversight roles. In addition, recent international competitiveness surveys show that Botswana lags other upper middle-income countries in both physical and digital infrastructure, especially airport connectivity, utilities, and ICT, which imposes strong constraints on businesses. The 2023 PIMA found that there was still significant room to increase efficiency in public investment. The authorities are taking steps to address these challenges through a broad range of public financial management reforms, which should be beneficial for infrastructure governance. In addition, the 2023 budget foresees a large increase in infrastructure expenditure until end-March 2024. Overall, a greater role for the private sector would be conducive to job creation and contribute to lowering unemployment and poverty.

37. Diversifying the economy is a priority, but ongoing efforts could be more targeted. Diversification away from the diamond sector, which is capital-intensive and subject to external shocks, can make growth more robust, resilient, and inclusive. The authorities’ strategy is centered on Special Economic Zones to promote private investment and value-chain development, but industrial policy appears broad, inward-looking, and with some emphasis on low-productivity sectors. Going beyond traditional comparative advantages towards more sophisticated sectors could foster potential growth and innovation capacity. Recent research shows that active policies promoting structural change can be warranted in the presence of market failures. To prevent potential adverse effects such as wasting budgetary resources or crowding out non-subsidized firms, these interventions should be well targeted and stimulate economic activities meeting the following criteria: (1) scope for high productivity gains, related to the ease of absorbing foreign technology, exposure to competition, and product sophistication; (2) extent of forward and backward linkages, especially a high content of intermediate inputs, to generate spillovers to other sectors; (3) potential for knowledge spillovers; (4) export orientation and tradability, possibly by placing the products in global value chains; (5) labor intensity to be able to absorb the labor force and reduce unemployment; and (6) relatively low skill intensity at the beginning, although building skills should be a priority.

38. There is great potential from trade integration, both within the African region and with the rest of the world. While tariffs in Botswana are lower than comparator countries, nontariff barriers remain elevated, partly reflecting the landlocked country situation and gaps in trade and logistics infrastructure (Text Table 1). Leveraging platforms such as the African Continental Free Trade Area (AfCFTA), strengthening investment promotion agencies, upgrading infrastructure, and targeting products that complement those of other countries could help Botswana improve its trade performance. Simulations based on IMF (2023) show that real GDP per capita could increase by 5 percent after 10 years relative to baseline forecasts, provided that the AfCFTA is implemented, and Botswana achieves parity in trade infrastructure with the top quartile of upper-middle income countries.17 Overall, greater trade integration would support the development of export-oriented industries, including manufacturing, which are critical for stimulating employment.

Text Table 1.

Trade Restrictions and Constraints

article image

Trade weighted average tariffs, percent.

Trade weighted average number of Non Tariff Measures, count.

Trade infrastructure is a meta-indicator that captures quality of roads, ports, railroads, airports, and Logistics Performance Index. The variable is bounded between 0 (worst infrastructure) and 1 (best infrastructure).

Sources: IMF (2023) and staff calculations.

39. A greener economy could also support economic resilience and inclusiveness. Botswana’s high vulnerability to climate change—including from drought, floods, and water supply quality—underscores the need for a greener and more sustainable growth model. Climate change is also likely to exacerbate inequality, by harming subsistence agriculture and reducing access to water and sanitation. The government signed the Paris Agreement in 2016 and has committed to developing a long-term low carbon development strategy and reducing carbon emissions by 15 percent by 2030. The authorities have formulated main goals and strategies in their 2021 Climate Change Policy, which is supported by an action plan setting targets for different sectors of the economy. The recent IMF Climate-PIMA report welcomed the ongoing initiatives and found that public investment management showed increasing awareness of climate considerations. However, the initiatives are generally at early stages of implementation and will need to be confirmed by sectoral actions. In particular, all sectoral strategies and regulations, including investment plans and building codes, should be updated to reflect climate change-related concerns.

Authorities’ Views

40. The authorities concurred that structural transformation of the economy was critical and highlighted ongoing actions to diversify the production patterns. They noted that the new in-principle sales agreement, reached in July between the Government and De Beers, should expand Botswana’s footprint across the diamond value chain by increasing the share of diamonds cut and polished domestically. Furthermore, the creation of a “Diamonds for Development” Fund, with gradual investments by De Beers totaling Pula 10 billion ($750 million) over the next 10 years, should boost economic diversification by supporting new activities in non-mining sectors like agriculture, solar, climate change, and tourism.

Other Surveillance Issues

41. Capacity development (CD). As discussed in Annex VI, the authorities receive CD in a broad range of areas and have a good track record in implementing proposed reforms—a recent example being the reform of the monetary policy framework with the new policy rate and corridor. The relationship with the FSAP team has also been strong. Future CD should support the authorities in their efforts to build fiscal buffers, enhance public financial management, improve monetary policy transmission, and strengthen financial supervision and regulation. The authorities are generally in agreement with past Article IV recommendations, although implementation has been slow in some areas (Annex VII).

42. Data provision is broadly adequate for surveillance. The authorities have continued to improve statistics, with IMF support. Notable progress includes rebasing national accounts estimates to 2016, constructing supply-and-use tables, and compiling monetary statistics for other financial corporations. Coverage of the PPI is being expanded, although gaps remain. Staff encourages the authorities to gradually transition to the GFSM 2014 framework. In addition, priority should be given to addressing GFS data gaps, including classification of current and capital expenditures, and expanding the coverage beyond the budgetary central government to include extrabudgetary units and local governments.

Staff Appraisal

43. After a strong recovery from the Covid pandemic, Botswana, like most countries in the world, is expected to face an economic slowdown this year. Growth is projected to decelerate by 2 percentage points to 3.8 percent in 2023 due to the decline in diamond production and prices, with the weaker global environment likely to depress other exports.

44. Growth should pick up over the next two years, although risks to the outlook remain elevated. The rebound is mainly predicated on higher prices and demand for diamonds. Downside risks include volatility in commodity markets, a global economic slowdown, climate shocks, and delays in reform implementation.

45. In the longer term, the country’s growth model will need to confront deep structural challenges. The economy is heavily dependent on diamond mining, but Botswana’s diamond reserves may be exhausted in two to three decades. Growth has not been sufficiently inclusive to bring down unemployment and reduce inequality. Finally, despite efforts to diversify and expand the role of the private sector, the economy remains dominated by the public sector.

46. The authorities are facing these structural challenges with reduced fiscal and external buffers. Botswana’s relatively low gross debt-to-GDP ratio masks a large, long-term deterioration in the government’s financial position, with government cash deposits having fallen by over 40 percent of GDP over the past 15 years. The decline in foreign exchange reserves continued in 2022, bringing the import coverage ratio down to 5.9 months of imports in May 2023, from close to 10 months before the pandemic. Although the 2022 external position is stronger than implied by fundamentals and desirable policies, current account surpluses are projected to soften over the medium term.

47. The authorities’ planned fiscal consolidation is critical to preserve fiscal sustainability and FX reserves. The large depletion of government deposits in recent years combined with the longer-term prospects of exhaustion of diamond resources call for fiscal prudence. Fiscal adjustment could be supported by an expenditure rule. The authorities’ emphasis on lowering the expenditure-to-GDP ratio, including the wage bill, seems appropriate.

48. The monetary policy stance is broadly appropriate, but the central bank should stand ready to raise the policy rate if inflation risks materialize. Inflation has declined since August 2022 and is projected to remain within the central bank’s objective range from May 2023 onwards. Nonetheless, the central bank should stand ready to respond if inflation bounces back or FX reserves continue to decline. Some changes to the exchange rate regime could also be contemplated to support competitiveness and to reduce potential frictions between monetary and exchange rate policies.

49. The financial sector is broadly sound, stable, and resilient. Financial stability could be further strengthened by operationalizing the frameworks for emergency liquidity assistance, deposit insurance, and bank resolution. Deepening the interbank and bond markets would support financial sector development, while improving public financial management and monetary policy transmission.

50. Supply-side structural reforms are necessary to support the diversification of the economy and increase the relative size of the private sector. This will help boost the economy’s growth potential, enhance resilience to external shocks, and reduce the unemployment rate. Policy priorities include trade facilitation and integration, SOE reform, more efficient and climate-resilient infrastructure investment, and more targeted support for high-productivity, export-oriented sectors.

51. Staff recommends that the next Article IV consultation with Botswana be held on the standard 12-month cycle.

Figure 1.
Figure 1.

Botswana: Real Sector Developments

Citation: IMF Staff Country Reports 2023, 317; 10.5089/9798400251474.002.A001

Figure 2.
Figure 2.

Botswana: Fiscal Sector Developments

Citation: IMF Staff Country Reports 2023, 317; 10.5089/9798400251474.002.A001

Note: All years in this box refer to fiscal years. For instance, 2023 is FY2023, which runs from April 1, 2023 to March 31, 2024. In this box, GDP is also computed based on the fiscal year, to ensure consistency of the ratios.
Figure 3.
Figure 3.

Botswana: External Sector Developments

Citation: IMF Staff Country Reports 2023, 317; 10.5089/9798400251474.002.A001

Figure 4.
Figure 4.

Botswana: Financial Sector Developments

Citation: IMF Staff Country Reports 2023, 317; 10.5089/9798400251474.002.A001

Table 1.

Botswana: Selected Economic Indicators, 2019-281

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Sources: Botswana authorities and IMF staff estimates and projections.

This table is based on calendar years unless otherwise indicated.

The projection is based on current value added and projected growth rates by different types of minerals.

Based on Atlas method from the World Bank.

Fiscal variables are based on fiscal years (starting on April 1).

The non-mineral primary balance is computed as the difference between non-mineral revenue and expenditure (excluding interest receipts and interest payments), divided by non-mineral GDP.

Includes guarantees.

For 2019-2022, both effective exchange rate are from IMF INS database.

External debt data measured in fiscal years.

Based on imports of goods and services for the following year.

Table 2.

Botswana: Balance of Payments, 2019-281

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Source: Bank of Botswana; IMF staff estimates.

This table is based on calendar years.

Based on imports of goods and services for the following year.

Table 3a.

Botswana: Central Government Operations, FY2019-FY20281

(Billions of Pula, unless otherwise indicated)

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Sources: Ministry of Finance and Economic Development; and IMF staff estimates and projections.

This table is based on fiscal years. The fiscal year runs from April 1 to March 31. For instance, FY2023 runs from April 1, 2023 to March 31, 2024.

Refers to sales tax and VAT.

SACU receipts consist of external trade and excises on imported goods as well as a development component derived from excise taxes.

These transactions reflect Botswana’s SDR allocation and contribution to the IMF’s General Resource Account (GRA).

The non-mineral primary balance is computed as the difference between non-mineral revenue and expenditure (excluding interest payments and receipts, which are roughly proxied by BoB transfers and interest).

Table 3b.

Botswana: Central Government Operations, FY2019-FY20281

(Percent of GDP, unless otherwise indicated)

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Sources: Ministry of Finance and Economic Development; and IMF staff estimates and projections.

This table is based on fiscal years. The fiscal year runs from April 1 to March 31. For instance, FY2023 runs from April 1, 2023 to March 31, 2024.

Refers to sales tax and VAT.

SACU receipts consist of external trade and excises on imported goods as well as a development component derived from excise taxes.

The primary balance is computed as the difference between non-mineral revenue and expenditure (excluding interest payments and receipts, which are roughly proxied by BoB transfers and interest).

Table 3c.

Botswana: Central Government Operations, FY2019-FY20281

(Percent of non-mineral GDP, unless otherwise indicated)

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Sources: Ministiy of Finance and Economic Development; and IMF staff estimates and projections.

This table is based on fiscal years. The fiscal year runs from April 1 to March 31. For instance, FY2023 runs from April 1, 2023 to March 31, 2024.

Refers to sales tax and VAT.

SACU receipts consist of external trade and excises on imported goods as well as a development component derived from excises.

The non-mineral primary balance is computed as the difference between non-mineral revenue and expenditure (excluding interest payments and receipts, which are roughly proxied by BoB transfers and interest).

Table 4.

Botswana: Monetary Survey, 2019-281

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Sources: Bank of Botswana and IMF staff estimates and projections.

This table is based on calendar years.