1. Bifm Economic Review 1st Quarter 2009
Economic Review
Dr. Keith Jefferis
Chairman of Bifm Investment Committee
Introduction
The first quarter of 2009 has turned out to be one of the most The anticipated resumption in growth is in part due to the
challenging periods faced by the Botswana economy in the beneficial impact of the large fiscal stimulus packages being
past thirty years. The impact of the global financial and implemented in the USA and elsewhere. However, the budget
economic crisis has hit the country hard, as the slowdown in deficits resulting from fiscal stimulus will have a long-term
world trade has affected Botswana’s major exports - diamonds, negative impact on growth, as the rapid accumulation of
copper-nickel and tourism. In view of sharply reduced demand public debt is in the medium term likely to lead to a crowding
for diamonds, the mines have remained closed since the out of private sector investment and higher real interest rates,
Christmas break, with a partial re-opening currently scheduled while monetised deficits could also lead to higher inflation.
for mid-April. The closure has resulted in redundancies amongst While the global recession may be technically over by the end
miners and a negative impact on suppliers, and there are of 2009, the impact will nevertheless be long-lasting, with the
concerns that the impact is still to be felt more widely in the prospect of several years of below-trend global growth.
economy. There has been a sharp reduction in diamond Furthermore, risks remain high; for instance, the Economist
exports, resulting in deficits in the balance of international Intelligence Unit (EIU) estimated that there is only a 60%
trade, the drawdown of foreign exchange reserves, and a chance of a resumption of reasonably healthy growth in the
decline in government revenues. The 2009 Budget, released next couple of years, and a significant risk of prolonged
in early February, projected a small increase in spending in the stagnation.
2009/10 financial year as the government tried to minimise
the impact of the crisis on the economy. However, the result
is a massive increase in the projected budget deficit, and
concerns about the sustainability of the fiscal position. On the
bright side, inflation has continued to decline, as expected, Fig.1: Economic Growth Forecasts
Real GDP growth, qoq, % annualised
which has enabled a further reduction in interest rates.
10
The Global Economy 5
The global economic situation has continued to deteriorate 0
through the first quarter of the year, with growth estimates
and projections for the coming months revised steadily -5
downwards. It is now clear that the world economy is in deep
recession, with the last quarter of 2008 and first quarter of -10
2009 showing the most severe contraction in economic output
for 80 years. Estimates from JP Morgan are that the world -15
economy will contract by 3.6% over the 12 months from July 2Q08 3Q08 4Q08 1Q09 2Q09 3Q09 4Q09 1Q10
2008 to June 2009. While there is an expectation that global
economic growth will turn positive in the second half of 2009, World Developed Emerging markets
USA Euro Japan
and there are already some signs that the recession is bottoming
out, it is likely that growth will be weak, and will remain Source: J P Morgan
sluggish through 2010.

2. 2 Economic Review
With several major developed countries still grappling with
the fallout from the 2008 systemic banking crisis, developing Figure 2: Diamond Exports
countries are more concerned with two subsequent (3 month moving avg.)
developments: the sharp contraction in international capital 3,000
flows and the slowdown in global growth and international
Monthly exports (P million)
2,500
trade. Private capital flows to developing countries are estimated
to have fallen by half in 2008 compared to 2007, and are 2,000
projected to decline by a further 65% in 2009. This will lead
to lower investment and problems in financing current account 1,500
deficits. As many developing countries are highly dependent 1,000
upon exports, they are vulnerable to a growth slowdown in
their major export markets, compounded by lower prices in 500
the case of many commodity exporters.
0
The Impact on Botswana 2003 2004 2005 2006 2007 2008 2009
Where does this leave Botswana? As a country that has had Source: Econsult, based on CSO
a high savings rate and consistent current account surpluses,
and is therefore a capital exporter, Botswana is less vulnerable
to reduced international capital flows than many other Figure 3: Balance of Trade (Quarterly)
developing countries. The countries most at risk are those such
5,000
as South Africa that rely on capital inflows to finance current
4,000
account deficits and to meet the gap between savings and
investment. Nevertheless, Botswana has been attracting foreign 3,000
direct investment, especially in the minerals sector, and these 2,000
P million
flows are now much reduced, due to both the credit crunch 1,000
and deteriorating prospects, at least in the short term, for 0
mining projects. -1,000
-2,000
Of more immediate concern to Botswana is the impact of the -3,000
global crisis on commodity exports. Botswana’s second largest -4,000
export, copper-nickel, was affected by lower prices during -5,000
2008, but for most of the year diamond exports held up well. 2003 2004 2005 2006 2007 2008
However, in the fourth quarter of the year diamond exports Source: Econsult, based on CSO
collapsed, falling from a monthly average of P2 078 million
in the first nine months of the year to an average of only
P695mn in last the 3 months - a reduction of 67%, while Prospects for a recovery in diamond exports
diamond exports in January 2009 were only P506mn. Although
official data are not yet available for the period since January, There is a great deal of uncertainty in the international diamond
it is likely to have been a similar story, with minimal diamond market, which has been affected by both a fall in retail demand
exports through to March. While some of the mines are for diamond jewellery, and credit constraints restricting the
expected to re-open in April, there is still great uncertainty ability of cutters, polishers and wholesalers to buy and hold
over the likely level of diamond exports for the remainder of stocks. The ability of diamond producers such as Botswana to
2009. The fall in diamond and other exports has led to a sharp sell and export rough diamonds depends on both the level of
turnaround in the trade balance, with a deficit of P4.5 billion retail demand and the resumption of credit availability. Growth
in the last quarter of 2008. in retail demand is likely to be slow given the very low level
of consumer confidence in the major industrialised economies,
and the likelihood that increased consumption of luxury goods
will only come quite late in the recovery cycle, after housing
and vehicle sales start to pick up. And while credit conditions
are easing slowly, it is likely that even with further improvement,
credit availability will not recover to the levels seen prior to
the credit crunch and financial crisis.

3. 3 Economic Review
Prospects for Botswana’s diamond earnings are also affected In response to very adverse market conditions, the Government
by adverse price developments. Prices for rough diamonds has given Debswana permission to keep all of the mines closed
had risen steadily between 2003 and mid-2008, but have since since the Christmas break. The Jwaneng and Letlhakane mines
fallen sharply, with price falls of up to 50% for auction and are scheduled to re-open in mid-April, along with part of
tender sales. Prices for rough diamonds had risen much faster Orapa, while other operations will remain closed at least until
than those of polished diamonds during the boom years, and the end of 2009 - although we suspect that the closure will
as a result have fallen much further during the crash. With actually continue for longer. The decision to close the mines
demand recovering only slowly, rough prices are not has inevitably been controversial, given the negative impact
expected to return to earlier levels in the foreseeable future. on employees and suppliers. It has been suggested that ways
should have been found for the mines to have been kept
The diamond market is much less transparent than those for open, and surplus production stockpiled. Financially, this would
most other commodities, and market forecasts are less readily perhaps be feasible. While Debswana is a large company, it
available than they are for commodities such as copper or has relatively low costs of production, and the revenues that
gold. However, we have obtained forecasts of Botswana’s are received from the few diamonds now being sold should
diamond production over the period to 2013. These show be sufficient to meet a substantial proportion of operating
production falling by around two-thirds in 2009, with a small costs. Furthermore, it is reported that Government has been
recovery in 2010. The value of production and exports should requested to contribute around P600 million as a shareholders
approach more “normal” levels in 2011, but even through to loan to De Beers, in which it has a 15% shareholding - raising
2013 is projected to remain below the peak seen in 2007. But the question of whether it would have made more sense to
perhaps the most striking point is that the steady growth in provide this money to Debswana to enable the mines to remain
diamond production that occurred between 1998 and 2007 open.
looks to have come to an end, which has major implications
for government revenues into the medium term. In particular, Ultimately, however, it appears that Debswana and the
mineral revenues are likely to grow more slowly than the Government has had little choice in the matter. Under an
economy, and therefore account for a declining share of GDP. agreement between De Beers and the European Union
competition authorities, De Beers (and we presume Debswana)
is prohibited from stockpiling diamonds, in order to prevent
price manipulation; as a result, De Beers has to sell everything
that it produces. In present market conditions, that would
Figure 4: Diamond Exports - Actual & mean selling diamonds at very low prices, which is not
Forecast something that De Beers is willing to accept. Indeed, it is
5,000 reported that the price reductions on De Beers sales through
the Diamond Trading Company (DTC) are much less than the
4,000
price reductions that have occurred on open market sales, a
strategy that reduces demand for Botswana's diamonds even
$ million
3,000
further.
2,000
The turmoil in the diamond market inevitably raises questions
1,000 regarding Botswana’s relationship with De Beers and whether
0 it needs to be changed. Both De Beers and Debswana are in
a weak financial position, and if Government is being requested
2007
2009
2012
2000
2001
2002
2003
2004
2005
2006
2008
2010
2011
2013
1999
1998
to provide financing, then it should be considering what it
requires in return; for instance, should government be thinking
Actual F’cast of increasing its stake in either company? Furthermore, the
Trend 97-08 marketing agreement for Botswana diamonds comes up for
Source: Bank of Botswana (actual); WWW Diamond Forecasts Ltd
renewal later in 2009. This agreement at present requires all
Botswana diamonds to be sold through the DTC. But it may
be time for an independent marketing channel to be opened,
for instance by selling a portion of Botswana’s diamonds by
auction. This would give Botswana an independent “window”
on the market, enable a better assessment of market conditions,
and perhaps provide an opportunity for Botswana to develop
as a centre for the trading of diamonds from other countries.

4. 4 Economic Review
Economic Growth Inflation and Monetary Policy
Data on GDP show that overall economic growth was a One of the few positive economic developments recently has
relatively sluggish 3.0% during 2008. Negative growth of - been the reduction in inflation, which has fallen from 15.1%
3.7% in the mining sector was offset by reasonably healthy in November 2008 to 11.7% in February 2009. While this is
growth of 8.3% in the non-mining private sector, with being driven mainly by the rapid decline in fuel prices, it is
particularly rapid growth in transport & communications and being supported by falling inflation for most other commodity
finance & business services. groups, including food prices, as well as lower international
inflation. It is likely that inflation will continue to fall steadily
through the first half of 2009, and will probably fall below
Figure 5: Economic Growth by Sector, 6% - the upper end of the BoB’s inflation objective range -
2009 by August, and remain around the 5%-6% level for the
Fin & bus serv remainder of the year.
Transp &
comms
Government
Soc & pers
serv Figure 6: Inflation and Forecast
Trade etc.
16%
Water & elec
Total 14%
Construction 12%
Manufacturing 10%
Agriculture 8%
Mining
6%
-5% 0% 5% 10% 15% 4%
2%
Source: CSO
0%
2003 2004 2005 2006 2007 2008 2009 2010
Our forecasts for 2009 are much gloomier, however. The Source: CSO; Econsult
decision to close all of the diamond mines for several months,
and to keep two of the mines closed until the end of 2009,
will have a major negative impact on GDP growth. We estimate
that GDP will contract by around 16% in 2009. Although The Bank of Botswana’s 2009 Monetary Policy Statement was
there should be positive growth in 2010 as the mines re-open, released in late February. The MPS made it clear that concerns
we estimate overall real growth will only average around 1- about the global recession and weak domestic demand were
2% a year over the period from 2009 to 2011, well below likely to dominate the prospects for inflation for the rest of
recent average growth rates. This illustrates that the global 2009. This in turn was likely to provide room for a loosening
crisis will have a negative impact on Botswana well into the of monetary policy, and that lower interest rates would help
medium term. to support the domestic economy. Subsequently, the Bank
Rate was cut by a further 100 basis points (bps) to 14.0%,
the lowest rate for nearly 10 years. It is likely that interest rates
will be cut further during 2009; we estimate that rates will
come down by a further 100-200 bps.

5. 5 Economic Review
Feature: The Implications of the Global Financial
and Economic Crisis for the Government Budget
One of the most serious dimensions of the global financial The deficit is not in itself a major problem; Government has
and economic crisis for Botswana will be the impact on the sufficient savings at the Bank of Botswana (P31 billion as at
government budget. The 2009 Budget, delivered on February the end of 2008) to finance this deficit. Our concerns relate
2nd, includes Botswana’s own version of a fiscal stimulus to the medium term. Here the official picture is opaque. Unlike
package, with overall spending set to increase by 5% during most countries, Botswana does not publish medium term
the 2009/10 fiscal year, following a 45% increase in budgeted economic or budget forecasts (except infrequently along with
spending in 2008/09. The Budget recognises that overall National Development Plans). Although it has been suggested
revenues will fall sharply, due to lower mineral revenues, and that publishing forecasts at a time of such economic uncertainty
as a result projects a large budget deficit, of P13.4 billion or would be unwise, as the situation is changing so fast, this
14% of GDP, following a projected deficit of 7% of GDP in argument is weak; there is always a best available forecast,
2008/09. even if subject to uncertainty and in need of frequent revision,
and if anything when the situation is so fluid a forecast becomes
There are several reasons for this outcome. Most of the budget even more important as a guide for decision-making.
spending plans were drawn up before the full impact of the Notwithstanding the absence of a medium-term forecast, the
global financial and economic crisis, and it appears that they Budget appears to assume that the fiscal situation will recover
were not significantly adjusted even when it became apparent quickly, as the only commitment beyond one year is that the
how much revenues would be affected. In addition, government fiscal deficit will average 10% of GDP over the 2009/10 and
is concerned that immediately cutting spending in response 2010/11 financial years.
to lower revenues would exacerbate the impact of the crisis,
and as well might be premature while there is so much In the absence of official forecasts we have prepared our own
uncertainty over the depth and duration of the crisis. Essentially, medium-term fiscal forecasts. The baseline scenario is based
the Government’s position is that given the great uncertainty on updated projections of mineral and SACU revenues, but
over the global economic situation, Botswana should use its takes projected expenditure and assumes that all budgeted
reserves to ride through the crisis, which it hopes will only last funds will be spent. We predict that this would lead to spending
for a short while. of over 50% of GDP and a budget deficit of 23% of GDP in
2009/10, not the 14% projected by MFDP.
We understand the reasons for the government’s position but
take issue with several aspects of it. First, we believe that the
Budget underestimates the likely magnitude of the deficit in
Figure 7: Budget Balance Projections - Baseline
2009/10, for several reasons. The prospects for diamond
Scenario
exports and mineral revenues have worsened since the Budget 15% 15000
was presented, and this is compounded by anticipated shortfalls 10% 10000
on SACU revenues, so that if all of the budgeted funds for 5% 5000
% of GDP
P million
0% 0
2009/10 are spent, the deficit is likely to be larger than the -5% -5000
projected P13.4 billion. Furthermore, in calculating spending -10% -10000
and the deficit as a percentage of GDP, the Ministry of Finance -15% -15000
-20% -20000
and Development Planning (MFDP) seems to be assuming that -25% -25000
GDP will continue to grow in 2009/10 (although formal GDP
1998/99
1999/00
2000/01
2001/02
2002/03
2003/04
2004/05
2005/06
2006/07
2007/08
2008/09
2009/10
2010/11
2011/12
2012/13
2013/14
forecasts are not published).
This is extremely unlikely; with diamond production and prices P mn % of GDP
falling, it is likely that both nominal and real GDP will fall in
2009/10, thereby raising the budget deficit relative to GDP. Our Source: MFDP; Econsult
estimate is that the deficit, if all funds were spent, would in fact
be over 20% of GDP. Although the budget suggests that
spending will be kept within 40% of GDP as per the Fiscal Rule,
in fact this figure is likely to be breached by a large margin.

6. 6 Economic Review
Figure 8: Revenue and Expenditure Projections - Figure 9: Budget Balance Projections -
Baseline Scenario Alternative Scenario
55%
15% 15000
50% 10% 10000
% of GDP
5% 5000
P million
45%
% of GDP
40% 0% 0
35%
-5% -5000
-10% -10000
30% -15% -15000
25% -20% -20000
1998/99
1999/00
2000/01
2001/02
2002/03
2003/04
2004/05
2005/06
2006/07
2007/08
2008/09
2009/10
2010/11
2011/12
2012/13
2013/14
20%
9 0 1 2 3 4 5 6 7 8 9 0 1 2 3 4
/9 /0 /0 /0 /0 /0 /0 /0 /0 /0 /0 /1 /1 /1 /1 /1
98 999 000 001 002 003 004 005 006 007 008 009 010 011 012 0 1 3
19 1 2 2 2 2 2 2 2 2 2 2 2 2 2 2
P mn % of GDP
Revenues Spending
Source: MFDP; Econsult Source: MFDP; Econsult
Beyond this, our baseline forecasts assume that spending will First, NDP 10 will have to focus on fiscal and macroeconomic
gradually be brought down to conform with the Fiscal Rule, sustainability as well as achieving Vision 2016 objectives. The
which requires spending to average 40% of GDP. However, fiscal environment is likely to remain unfavourable, at least
even while complying with the Fiscal Rule, it is unlikely that throughout the first half of the NDP 10 period and possibly
this would be a sustainable fiscal position. The deficit would beyond, and as a result, the level of real resources available
stay high, because medium term revenues are projected to be to finance government programmes and projects will be
around 30% of GDP, due to lower diamond prices and SACU declining, and the Plan’s objectives must be framed within
revenues, not the 40% assumed by the Fiscal Rule. this context.
As a result, all of government’s accumulated savings would
be exhausted within a couple of years, borrowing would be Second, with projections indicating that government revenues
necessary, public debt would rise rapidly and unsustainably, will average only around 30% of GDP even when diamond
and the foreign reserves would be severely depleted. In short, earnings recover, the existing Fiscal Rule based on revenues
this scenario would turn the government from being a net averaging 40% of GDP needs to be revised.
saver to a net borrower, result in an unsustainable fiscal
position, and demolish the reputation for fiscal prudence that As part of this revision, the whole notion of medium-term
has been built up over many years. fiscal sustainability needs to be re-thought, and consideration
should be given to defining fiscal sustainability in terms of the
An alternative scenario involves adjusting spending so as to non-mineral fiscal balance, which is comparable to the “best
bring it in line with medium term revenue forecasts at a speed practice” recommendations for oil producing and other mineral
which does not exhaust all of government’s accumulated economies. A budget sustainability analysis carried out for the
savings. This will require some major cuts in government IMF Article IV report in 2007 suggests that the sustainable
spending; various different combinations are possible, but one non-mineral budget deficit for Botswana is between 10% and
way or another spending needs to be brought down from 19% of non-mining GDP, and that the overall budget should
around 50% of GDP in 2009/10 to under 30% of GDP in a generally be in surplus. Adopting this benchmark would most
short period of time, which in turn involves cuts of around likely to lead to a downward revision of sustainable levels of
25% in real terms from the projected spending level for government spending.
2009/10 in the 2009 Budget. This in turn requires several
changes in both policy and practice for government spending. Third, the quality of the economic forecasts on which projected
MFDP has appealed for suggestions as to how to achieve a adherence to fiscal rules is based needs to be improved, and
sustainable budget position, and we make the following government should commit to producing medium term fiscal
proposals in response to this call. projections (such as rolling 3-year forecasts). The almost
complete lack of official economic forecasts in the public
domain reflects badly on Botswana, and undermines the extent
of independent scrutiny of - and confidence in - Government’s
own figures and commitments, such as the commitments to
achieve an average budget deficit of 10% of GDP over the
next two years and to adhere to the current fiscal rules, which
are unlikely to be met.

7. 7 Economic Review
Fourth, a fundamental review is needed of government • Ongoing recurrent expenditure programmes need to be
spending on both capital projects and ongoing programmes, reviewed, especially those that have been in place for a
and of how decisions on spending are reached; such a review long time, to ensure that they are justified in terms of
should focus on effectiveness of spending in achieving objectives benefits achieved relative to needs and costs;
and securing value for money. There is a need to restore the
ability to make rational choices between competing priorities • Infrastructure spending should be reviewed with the
and demands. In particular: objective of providing more resources for maintenance,
with less focus on building new infrastructure;
• Effective project appraisal techniques should be restored, • Where development projects run the risk of overloading
focusing on cost-benefit analysis and ensuring that public the construction sector and causing cost escalation (e.g.
spending is justified in terms of the economic or social building many senior secondary schools at the same time),
returns that it is likely to generate (there is much evidence expenditure should be cut back or spread over a longer
that money is being spent with little or no quantification period;
of anticipated benefits in relation to costs);
• All government ministries need to prioritise their spending,
• Public money should only be spent on projects or so that when spending has to be cut back, they can do so
programmes that can justify themselves in terms of long- in a rational manner and ensure that available resources
term economic benefits (and not short-term economic are devoted to the highest priorities;
impact such as construction activity) or social benefits that
can be achieved in a cost-effective manner, relative to the • There should be a renewed focus on cost recovery where
number of people benefitting; public services are provided above “basic needs” levels;
• Particular attention should be paid to avoiding “white • Public spending decisions should be opened up for greater
elephant” projects, such as where buildings or infrastructure public scrutiny - not just through the NDP process, but by
is provided far in excess of demand or the ability to use it making the documentary basis for spending choices and
effectively; decisions available.
• Parastatals and government agencies should be rationalised, A renewed focus on eliminating waste, improving efficiency,
especially where there are overlapping or unproductive getting rid of unproductive programmes and projects may
functions; appear to be politically unpopular. However, because such
unproductive spending has limited social or economic benefits
• Care should be taken when justifying “economic” (by definition), it should be possible to terminate such spending
programmes in terms of anticipated social benefits; if the without incurring any significant adverse economic or social
objectives are essentially related to enhancing social welfare, effects. In the long-term, the country is better served by
it is in principle better to do this through designing effective improving the efficiency and effectiveness of public spending,
social welfare programmes (this point applies particularly, in an environment of a sustainable fiscal policy. Many of the
but not only, to agricultural support programmes); reforms proposed above are long-overdue, but have been
avoided in recent years because of the ample availability of
• Given the high cost of providing infrastructure in some financial resources (the soft budget constraint). They are
rural areas, the Rural Development Policy and National necessary regardless of the crisis, but are now even more
Settlement Policy need to be reviewed and revised to make pressing.
them more sustainable and economically rational; there
needs to be a more effective recognition that it is not
feasible to provide the same level of public services and
infrastructure to all locations, and that Batswana should
not expect that services and infrastructure will be provided
to all, regardless of cost; more attention should be paid to
alternative methods of providing rural infrastructure and
services;

8. 8 Economic Review
Finally, the impact of the crisis illustrates the need to boost
economic growth through regulatory and other reforms, and
should certainly not be used as a reason to delay such reforms.
Public spending will not be as big a driver of growth in the
coming years as it has been in the past, reinforcing the need
to address other constraints to growth. Many of these have
long been identified, and include factors such as an overly-
dominant public sector, unduly restrictive business licensing
and immigration regulations, and limited availability of land.
Unfortunately, commitment to the reform agenda sometimes
seems patchy, and some recent developments have been
backward steps. In recent months, for instance, business
licensing regulations have become even more restrictive, by
extending the range of businesses that need a licence to
operate, whereas government has earlier made commitments
to relax the licensing regulations. Getting work permits approved
for skilled foreigners has become more difficult, after a period
when restrictions were relaxed, illustrating another policy
inconsistency. Additional restrictions have been announced
on the transfer of land ownership and change of use. This is
also counter-productive. Botswana already has artificially-
created land shortages caused by outdated laws, regulations
and custom. However, efficient use of land requires its transfer
from low productivity uses such as traditional agriculture to
high productivity uses such as commercial, industrial and
residential uses, preferably in a speedy and flexible manner.
By preventing or further restricting such changes, another
barrier is placed in the way of private sector-led growth and
employment creation.
The crisis provides an opportunity to improve the efficiency of
public spending and speed up regulatory reform. Indeed, the
crisis may make help to bring about decisions and introduce
changes that in more buoyant times could be postponed; as
India’s former Prime Minister, P V Narasimha Rao once said,
“decisions are easy when there are no options left”. But as
with Rao’s abolition of India’s “licence raj”, such changes are
necessary to improve Botswana's long-term economic growth
prospects.
Bifm Botswana Limited
Asset Management, Property Management, Private Equity, Corporate Advisory Services.
Dynamic Wealth Management Private Bag BR 185, Broadhurst, Botswana, Tel: +(267) 395 1564, Fax: +(267) 390 0358, www.bifm.co.bw