Lesotho’s growth in 2012 remained modest at 3.8%, driven mainly by a doubling of mining investment and an increase in construction activities. The medium-term outlook is positive and predicated on the booming construction sector and on reforms to eliminate structural impediments to economic diversification and competitiveness.
Access to African Growth and Opportunity Act (AGOA) trade preferences with the United States has transformed Lesotho from an economy predominantly reliant on subsistence agriculture and employment from South African mines and industries to one where the textile and garment industry has become a significant source of employment and foreign exchange.
Uncertainties surrounding the continuation of AGOA trade preferences with the United States beyond 2015 calls for intensified product and market diversification outside the United States, as well as taking advantage of its natural resource endowments in water and diamonds.
The performance of Lesotho’s economy in 2012 was modest, as drought reduced agricultural production by an estimated 70%. Gross domestic product (GDP) nonetheless grew by 3.8%, mainly driven by the expanding mining sector and the building industry. In the medium term, growth is expected to be only marginally higher. Given the important contribution of exports to the country’s growth and gross international reserves, the uncertain global economic environment as well as uncertainties surrounding the African Growth and Opportunity Act (AGOA) trade preferences beyond 2015 will remain critical challenges.
The country’s fiscal policy in 2012 was expansionary, largely reflecting expenses related to the rehabilitation of the infrastructure affected by floods and to the recent general elections. Despite the commitment to fiscal consolidation, the administration is still challenged by the high wage bill, underlining the need for reforms. In the medium term, the fiscal effort will focus on eliminating unproductive expenditures, improving the development budget execution in order to enhance aid effectiveness, broadening the tax base and enhancing domestic revenue mobilisation. The country’s monetary policy stance was also expansionary and remains guided by the need to maintain the parity of the loti with the South African rand. Inflation was contained at 5.5% in 2012, reflecting the impact of food shortages due to the drought and of higher international commodity and fuel prices. Inflationary pressures in South Africa, which supplies 70% of Lesotho’s consumer goods, also contributed. The country’s private sector is still small but offers the largest potential to generate the growth and employment the country needs. Lesotho’s business environment has improved significantly in 2012, thanks to recent reforms such as the adoption of the new Company’s Act. In the medium term, the proposed industrial licensing bill should significantly enhance the private sector’s contribution to overall growth. Poverty and extreme hunger, however, continue to present critical challenges to the country’s development, despite significant progress towards the Millennium Development Goals (MDGs) related to primary education, gender and women's empowerment.
While Lesotho is endowed with various minerals, the volatility of mineral prices in the period leading to 2000 resulted in the closure of the country’s key mines. Lesotho possesses key natural resources, including diamonds and water, but had for a long time depended on South Africa as a source of employment, and the economy remained predominantly at subsistence level. Following the adoption of AGOA in 2000, Lesotho has transformed from a subsistence economy relying on employment from South African mines and industries to sub-Saharan Africa’s leading supplier of textiles and garments to the United States. The textile and garments sub-sector has become one of Lesotho’s main sources of jobs, employing an estimated 45 000 workers, most of whom are women. Agriculture, on the other hand, has declined due to drought and other challenges including inadequate financial support for inputs. Lesotho’s textile industry, however, faces challenges. While the United States has already agreed to extend the Third-Party Fabric Provision up to 2015, the extension of AGOA’s trade preferences beyond that date remains uncertain. The government is therefore committed to diversify the industry’s products and export markets, encouraging the production of higher-value items, in particular woven and knitwear. The government is also keen to encourage mineral beneficiation, in particular of diamonds, to improve the country’s competitiveness. Other areas of diversification include the supply of water and hydropower to South Africa and the wider region.
Recent Developments & Prospects
Economic growth is estimated to have accelerated to 3.8% in 2012 from 3.7% in the previous year. Lesotho’s economic performance was affected by uncertainties related to the extension of the Third-Country Fabric Provision (TCFP) under the African Growth Opportunities Act (AGOA) and unfavourable weather conditions that affected food production, forcing the government to declare an emergency food crisis. Consequently, agricultural production in 2012 was expected to be 70% less than the previous year. Growth was mainly underpinned by the expansion of the Letseng mine after investment doubled and by construction. Investment to repair the damage created by floods in 2011 continued in 2012 and supported the construction sector. The Millennium Challenge Compact’s activities in the water and health sub-sectors and the development of new shopping malls in Maseru also contributed. The growth in real GDP reflected higher but varying output growth rates in all the sectors of the economy.
The tertiary sector controlled 60.7% of GDP in 2012 and was estimated to have grown moderately during 2011, at 2.9%, compared with a higher growth rate in the previous year. This mirrored declines in the wholesale and retail trade, in hotels and restaurants, and the real estate and business services sub-sector decelerated. In 2012, this sector is estimated to have grown modestly, largely supported by the wholesale and retail trade as well as hotels and restaurants. In the medium-term, the sector is expected to grow in tandem with increased consumption and in response to the introduction of a wider range of products and services on the market introduced by communications providers in 2011.
The secondary sector, which comprises manufacturing, electricity and water, and building and construction sub-sectors, contributed 23.9% of GDP in 2011. In 2012, the sector is estimated to have recorded robust growth thanks to stronger performance of the building and construction sub-sector as well as a modest recovery of manufacturing. Manufacturing dominates the secondary sector and is comprised of textiles, clothing, footwear, and leather. In the medium term, this sector is expected to contribute significantly to the country’s growth in light of phase II of the Lesotho Highlands Water Project (LHWP) and public investment to support infrastructure ahead of the project. The project is a joint venture between Lesotho and South Africa to supply the latter with water. The supporting infrastructure will include access roads to the project site, power transmission lines and administration centres.
The primary sector, which includes agriculture, mining and quarrying, contributed 17.3% of GDP in 2011 and is estimated to have grown marginally in 2012. The strong performance of mining outweighed the contraction in agriculture, forestry and fishing output. Growth in mining was mainly underpinned by the surge in diamond prices. However, agriculture contracted following poor performance of crops, which were largely affected by heavy rains, floods and storms. Despite the unfavourable weather that severely affected agriculture, modest growth underpinned by expansion of the mining activities at Letseng mine is expected. In addition, the government plans further mineral exploration under the geochemical mapping of Lesotho, including five base metals (platinum, niobium, tungsten, cobalt and tantalum) and rare earth metals. The government plans to update the geological surveys to identify potential exploration areas.
The 2013 economic outlook appears positive, with annual growth estimated 4.7% and the medium-term outlook up to 2015 will remain optimistic. This is predicated on the recovery of textile exports in response to the extension of AGOA’s TCFP up to 2015 and a continued boom in the construction sector. Over the medium term, growth will also benefit from the government’s efforts to diversify manufacturing production and markets. The Lesotho National Development Corporation (LNDC), the parastatal in charge of implementing industrial policy, is spearheading these efforts. The implementation of the 2011 Company’s Act, the new Land Act and the proposed industrial licensing bill already submitted to Parliament for enactment are expected to spur investment. Several investors in the manufacturing sector have already made applications for and are awaiting the completion of factory shells to commence operations.
Lesotho’s outlook remains vulnerable, however. Agriculture production is still susceptible to weather shocks such as those experienced in 2011 and 2012. Other risks include global economic uncertainty and the euro crisis, which may negatively impact Southern African Customs Union (SACU) receipts, as well as the demand for diamonds and textiles, Lesotho’s key exports. Finally, risks of social unrest and retrenchments are likely to affect Basotho miners from Lesotho working in South Africa. This would have negative implications on remittances, which are an important source of income for Basotho households. These risks underline the need to safeguard the exchange rate peg by building sufficient gross international reserves.
On the aggregate demand side, the private sector continued to play a pivotal role in the economy. Private investment contributed 0.5% to GDP growth in 2012, compared to a disinvestment of 0.1% for the public sector. Over the medium term, gross investment is expected to contribute an average of 0.7%, almost all of which will be private investment. Private investment is expected to benefit from the implementation of the 2011 Company’s Act, the proposed industrial-licensing bill and the credit-guarantee schemes. Exports contributed 3.3% to growth in 2012, and this was largely due to textiles and garments as well as diamonds. In the medium term, this contribution is expected to reduce to an average of 0.9% annually, in part reflecting the less favourable global demand for the country’s key exports. Consequently, the positive impact of exports is not expected to offset the resurgence of imports mainly associated with the construction activities. Overall consumption is estimated to have contracted in 2012 on the account of the drop in private consumption. In the medium term, however, consumption is expected to be higher, contributing over 4% to growth as private spending recovers and government consumption of goods and services is maintained.
The government adopted a more expansionary fiscal policy stance in 2012. The fiscal deficit was estimated to have widened significantly to 10.4% of GDP, driven mainly by an increase in capital expenditure to rehabilitate infrastructure affected by floods. The recent national elections also contributed to higher spending: use of goods and services remained high. In the medium term, the increases in expenditures associated with social benefits will also contribute to the deficit. Additionally, the high public wage bill, which stood at 16.9% of GDP in 2012, continues to be a challenge, but the government commitment to fiscal consolidation should bring it down to 16.5% by 2014. Lesotho’s development partners remained committed to soften the impact of external shocks, mainly the floods and drought that hit Lesotho in 2011 and 2012, as reflected in the significant increase of grants as a share of GDP in both years. SACU receipts, the dominant revenue source covering 47% of the budget improved, as did other revenue heads such as taxes on goods and services; income, profits and capital gains; and taxes on international trade. The mines remit royalties to government on a quarterly basis, which is deposited to the consolidated fund. In addition, since the government has ownership in all the mines, they also remit dividends depending on the performance of each one of them. Other revenues from natural resources include royalties from the sales of water to South Africa.
The fiscal position should significantly improve and register surpluses over the medium term. Fiscal consolidation under the IMF Extended Credit Facility (ECF) is expected to help restrain expenditures. At the same time, government reforms, such as the introduction of an Integrated Revenue Management System through the Lesotho Revenue Authority, should enhance domestic revenue mobilisation and reduce its dependence on volatile SACU revenues. These developments are expected to offset part of the expected drop in grants at some point in the medium term.
The monetary policy’s main objective is to maintain the parity between the loti and the rand, thereby anchoring inflation. Lesotho’s monetary policy is therefore closely linked to South Africa’s. Monetary policy in 2012 was more expansionary than in 2011, largely reflecting the lower interest rates adopted in South Africa to stimulate its economy. As a result, money supply broadly defined grew by 12.3% in 2012 compared to the 1.1% recorded the previous year. While net credit to the government declined in 2012, credit to the private sector rose from 12.6% of GDP in 2011 to 13.8% in 2012.
Annual headline inflation was estimated at 5.5% in 2012 compared to its level of 5% in 2011. In the medium term, inflation is expected to remain below 5%. The main pressures stemmed from the shortage of food due to drought and the impact of international commodity and fuel prices. Inflationary pressure from South Africa also contributed through imported consumer goods.
Economic Cooperation, Regional Integration & Trade
Lesotho’s current account continued to run a deficit in 2012, although a surplus is expected in the medium term. High import prices combined with increased service payments more than outweighed the improved performance of exports, factor incomes and current transfers. In the medium term, robust improvement in the external sector is largely premised on significant performance of the current transfers and factor incomes. Due to the improved outlook for SACU in 2012, receipts were about double those of last year. However, they remained below pre-crisis levels. The huge current account transfers in part reflect the foreign assistance to restore infrastructures affected by floods and emergency food aid. The decline in domestic import absorption and reduction in services payments are also expected to contribute to the improvement in the external sector in the medium term.
Exports recovered significantly in 2012, accounting for 51.7% of GDP thanks to the good performance of mines as well as textiles and garments sales to the United States. Textiles and garments constitute close to 65% of Lesotho’s exports. While minerals represent less than 1 percent of exports, their price, in particular of diamonds, has been good in the past two years, which resulted in the re-opening of closed mines and the bringing on stream of new mines. The price of diamonds is expected to remain elastic in the medium term. The good performance of exports is not likely to change significantly in the medium term. Lesotho’s gross reserves covered less than four months of imports in 2011 and 2012, however. Given the country’s susceptibility to external shocks, higher levels of reserves will be necessary to secure the currency peg in the medium term. Trade with the United States will benefit from the extension of the TCFP until 2015, thanks to substantial backing from the Whitaker Group (TWG) and other civil-society groups. To remain viable, however, Lesotho’s textile industry has to diversify both markets and products. This could prove challenging, and the transition may result in possible retrenchments. Lesotho’s textile industry, however, is not entirely dependent on the US market, and the industry is unlikely to collapse even when the AGOA trade preferences come to an end.
Lesotho continues to benefit from regional integration as a member of the Southern Africa Development Community (SADC), SACU, and the Common Monetary Area (CMA). It is part of the Economic Partnership Agreement signed between the European Union and several SADC countries (Botswana, Lesotho and Swaziland) in June 2009, which provides preferential trade access. Angola, Namibia, and South Africa, on the other hand, have so far refused to sign, due to persisting disagreements. Lesotho is also participating in the tripartite trade negotiations among SADC, the East African Community (EAC) and the Common Market for Eastern and Southern Africa (COMESA).
Neighbouring South Africa continues to be Lesotho’s dominant trading partner in Africa and in the context of regional integration. Lesotho is deepening its role and participation in the regional integration arrangement. Given Lesotho’s geographical situation and its small domestic market of two million people with low per capita income, regional integration is essential to the country’s economic development, poverty reduction efforts and progress towards achieving the Millennium Development Goals (MDGs). In this context, the Government of Lesotho is involved in various regional initiatives to promote the development of regional infrastructure. The LHWP is a joint venture between Lesotho, China and South Africa to generate electricity to supply the region. The LHWP Phase II is a joint venture between Lesotho and South Africa to supply the latter with water. In addition, in conjunction with regional partners, the country is keen to foster closer economic ties with Asian countries, including China, India and Pakistan, creating new opportunities for product and market diversification.
Public debt was estimated to have remained below 40% of GDP in 2012, a level that will most likely be maintained over the medium term. The stock of public debt, both external and domestic, had increased by 2.1 percentage points to 39% of GDP in 2011. The increase in external public debt was largely due to exchange-rate fluctuations, rather than new debt. The rand had remained weak against the US dollar, which is the vehicle currency for the country’s external debt. The bulk of the external public debt stock (91.4%) is multilateral. While loans from financial institutions declined by 5.9% in 2012, loans from bilateral creditors and multilaterals rose by 12% and 16% respectively. Yet the concessionary component of external public debt dropped by 1.5 percentage points to 92.2% in 2012, reflecting the increasing pressure over concessionary financing following the financial crisis. External debt indicators suggest that Lesotho remains at moderate risk of debt distress. Debt ratios are projected to remain manageable over the medium-term provided Southern African Customs Union (SACU) revenues recover and the fiscal position improves according to a joint World Bank-IMF debt sustainability study in 2012.
The government policy to secure grants rather than loans and to retire the most expensive debt has helped the country maintain low debt levels. Debt sustainability in the medium to long term, however, is predicated on the ability of the country to generate surpluses. Public debt is still governed by the Loans and Guarantees Act of 1967, which limits external debt to the sum of revenues for the previous three years, and domestic debt to one-third of those revenues. The government is working on a new bill to replace the outdated public debt management laws and adopt a new debt threshold ensuring sustainability. The new public debt management bill is expected to be submitted to Parliament by May 2013. Once enacted, the bill will pave the way for the development of a debt strategy guiding the management of public debt.
Economic & Political Governance
The private sector in Lesotho is still small but with the largest potential to provide the economic growth and employment the country needs. Lesotho’s ranking in the World Bank report Doing Business improved from 153th in 2012 to 136th out of 185 countries in 2013, but still lags behind regional peers such as South Africa, Swaziland and Namibia in most indicators. Starting a business has become easier thanks to the Company’s Act adopted in 2011, which came into effect in June 2012, as well as the establishment of a one-stop shop for company incorporation. In line with this new Act, a paid-in minimum capital and the notarisation of articles of association are no longer required. As a result, Lesotho’s ranking on starting a business has improved by 65 positions to 79th. Getting electricity, protecting investors, paying taxes, trading across borders and enforcing contracts have also become easier. All this has been facilitated by well-functioning commercial courts for business arbitration. Registering property, obtaining credit, dealing with construction permits and resolving insolvency remain significantly challenging, however. Continued private-sector growth will largely depend on improving areas where the country is still weak.
Facilitating domestic entrepreneurship by creating an enabling environment and supporting policy instruments is a priority for the government, acting through the LNDC. The authorities have already submitted to parliament the industrial licensing bill, which eases the licensing process. The government is also committed to expediting procedures to secure work and residence permits, which will help foreign investors. Other initiatives include the construction of infrastructure and factory shells at Tikoe Industrial Estate, which commenced in August 2012. This project is jointly financed by the government of Lesotho, the Arab Bank for Economic Development in Africa (BADEA) and the OPEC Fund for International Development (OFID). To encourage domestic economic empowerment, six smaller factory shell units of 500m² are to be allocated to local businesses. Efforts to link local businesses with larger manufacturing industries are expected to help reduce poverty, develop skills, and create jobs.
The financial sector remained sound in 2012. The ratio of non-performing assets declined from 2.9% in 2011 to 2.3% in 2012. Credit to the private sector was estimated at 13.8% of GDP, an increase of 1.5 percentage points over the previous year. Business and household credit both increased, although the latter dominated. The establishment of a partial credit guarantee scheme with commercial banks in 2012 will greatly enhance access to credit for small- and medium-sized enterprises (SMEs), which is still lower than elsewhere in the region.
The assets of Lesotho’s four retail banks are estimated at 47.3% of GDP. There are also 235 non-bank financial institutions, with an asset base equivalent to 51.7% of GDP. The sector is dominated by South African banks, which own three of the four deposit-taking institutions. This dominance leaves Lesotho vulnerable to financial contagion from South Africa and has therefore prompted the Central Bank of Lesotho (CBL) to join forces with its South African counterpart to strengthen cross-border financial supervision. The CBL’s surveillance of both bank and non-bank institutions is regulated by the Financial Institutions Act.
Public Sector Management, Institutions & Reform
Steady progress has been made in public financial management (PFM) reforms, but significant challenges remain. The government rolled out an Integrated Financial Management Information System (IFMIS) in April 2009 to improve accountability and transparency in PFM. In addition, it enacted the Public Financial Management and Accountability Act of 2011, which seeks to improve the PFM legal framework, including the procurement system. Planning and transparency in budgeting have also improved through the adoption of the Medium Term Expenditure Framework (MTEF), Budget Framework Papers and the Medium-Term Fiscal Framework.
Despite the progress, the draft 2012 Public Expenditure and Financial Accountability (PEFA) assessment reported that long-standing weaknesses identified in the previous assessment, particularly those related to budgeting, accounting, recording and auditing, have not been addressed. Human resource capacity challenges, coupled with hardware and software complications associated with the IFMIS, continue to affect timely production of government accounts. Consequently, there is a three-year backlog in the production of consolidated financial statements. The government, with assistance from the development partners, is committed to addressing these challenges. The Procurement, Legal and Regulatory Framework is being revised, and a procurement manual being produced. In addition, a Procurement Policy and Advisory Division and Procurement Units have been created in the procuring entities. Yet poor capacity in procurement units, as well as shortcomings in the procurement system and internal controls, remain critical constraints. Additionally, the absence of national Standard Bidding Documents to facilitate the implementation of the National Procurement Regulations of 2007, as well as the failure to publish independent procurement audits, contract awards and procurement plans continues to affect procurement. The country corruption index score was 45 in 2012 representing a change in rank of 13 since 2011.
Natural Resource Management & Environment
Natural resources are important as a source of government revenues. Their contribution in royalties and dividends was equivalent to 9.4% of GDP in 2012. Lesotho’s environmental management continues to be guided by various international conventions and policies that protect and enhance the natural and cultural environment. At a national level, Lesotho’s National Environmental Action Plan (NEAP) has been in place since 1989, and a National Action Plan (NAP) was launched in May 1994. To implement environmentally sustainable policies, Lesotho put in place a National Environment Secretariat (NES) in 1994, which became the Department of Environment (DoE) when a new environment bill was enacted in 2008. The department is responsible for administering Environmental Impact Assessments (EIA), as well as integrating the principles of sustainable development into the country policies and programmes. An 1967 Act on flora and fauna also provides for the protection of designated species. In addition, Lesotho adheres to the principles of the 1972 Stockholm Declaration as well as to the 1992 Rio Declaration adopted by the United Nations Conferences. It is also a party to the Convention on Fishing and Conservation of the Living Resources of the High Seas, the Convention on Climate Change, the Convention on Biological Diversity, and the Montreal Protocol for the Protection of the Ozone.
Lesotho is a constitutional monarchy. The King is the head of state, and executive powers are vested in an elected Prime Minister. Lesotho politics used to be dominated by two major parties: the Basotho National Party (BNP), which ruled the country from 1965 until 1986; and the Basutoland Congress Party (BCP), which governed the country from 1993 until a breakaway faction, the Lesotho Congress for Democracy (LCD), won the 1998 elections.
A few months before the May 2012 general elections, Pakalitha Mosisili, who had been Prime Minister since 1998, broke away from the LCD to form the Democratic Congress (DC). In spite of these developments, and notwithstanding the country’s history of military interventions and post-election violence, the elections were peaceful and declared free and fair. The new party, however, failed to secure a majority to form a government, even though it won the most seats in parliament. Five other parties (the All Basotho Convention, LCD, BNP, and two other smaller parties) formed a coalition government, the first in the country’s history. The change of government is not expected to lead to significant changes in economic policy, however. The new government has already embraced the National Strategic Development Plan (NSDP) and is consolidating programmes started by the previous government.
Thematic analysis: Structural transformation and natural resources
Lesotho is endowed with significant water and mineral resources. The mining sector’s contribution to GDP remained marginal until 2002, but subsequently increased to peak at 8.5% in 2008, sustained by the booming international price of diamonds, which led to the re-opening of some mines. Hit by the global recession, the sector rebounded in 2010 and 2011 and now accounts for about 9.5% of GDP. Although Lesotho is believed to have other significant mineral deposits, commercial interest has mainly been limited to diamonds which are exported with little or no value added. The government is encouraging the exploration of additional minerals and is keen to promote mineral beneficiation. Besides minerals, the country is banking on its water resources through the development of the LHWP, which is expected to supply water and hydroelectric power to South Africa and the wider region.
A small mountainous country surrounded by South Africa, Lesotho faces significant structural challenges. Until 2002, the majority of Basotho relied on subsistence agriculture and employment in South African mines and industries. South African mines still employ over 41 000 Basotho today. The adoption of AGOA in 2000 and the rising prices of diamonds changed the face of the country’s economy, however, and the textile and diamond industries joined agriculture as main employers and sources of livelihood. The AGOA trade preference system catalyzed the development of high-volume, low-value garment manufacturing in Lesotho. The textile industry became the largest employer, generating nearly 50% of the country’s formal sector jobs. In mid-2004, it employed over 50 000 workers, mainly female, and for the first time, manufacturing workers outnumbered government employees. Thereafter, the manufacturing sector suffered from the threat of the end of the TCFP under AGOA, as well as from the global economic crises. Following the removal of WTO protection, employment in the sector was reduced to about 45 000 in 2011, owing to stiff international competition in the garment sector. Yet the kingdom has become sub-Saharan Africa’s largest exporter of apparel to the United States, surpassing Kenya and Madagascar.
Lesotho’s garment industry, however, is largely dependent on trade preferences from the US and in Europe. These markets are likely to become even more intensely competitive in the medium to long term, when the preferences that gave Lesotho-based suppliers an advantage will disappear. The country’s textile and garment producers, which are entirely foreign owned, could relocate from Lesotho once privileged access to the US market disappears. The country therefore needs to diversify its industrial activity if it is to survive. Since Lesotho is the leading supplier of textile and garments in sub-Saharan Africa, diversification will chiefly be pursued in this sector. Lesotho’s strategy is to shift its production towards higher-value items, in particular woven and knitwear. These are relatively low volumes with very short delivery periods, which puts East and South Asian competitors at a disadvantage. In addition, the authorities are keen to revive Lesotho as a significant supplier for regional markets, particularly South Africa. Canada is also a potential market for Lesotho’s textiles, but retailers require smaller quantities than Lesotho’s factories are set up to produce. This presents opportunities for small- and medium-sized enterprises (SMEs) to link with large exporters through sub-contracting, and the larger exporters are also considering some adjustments to their production lines to meet these requirements. In addition, the possibility of producing high-quality fabrics needed for specialised garment manufacturing is also being explored.