Bank of Botswana Statutory... · Bank of Botswana Annual Report 2000 The Governor’s 25th ......

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Bank of Botswana

Annual ReportandEconomic Review2000

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Bank of Botswana Annual Report 2000

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BANK OF BOTSWANA

Ref: RD 10/1/1 March 28, 2001

Honourable B. GaolatheMinister of Finance & Development PlanningPrivate Bag 008Gaborone

Honourable Minister

In accordance with Section 57 (1) of the Bank of Botswana Act, 1996, I have thehonour to submit, herewith, the Annual Report of the Bank of Botswana for 2000,which covers:

(i) a report on the operations and other activities of the Bank during 2000;

(ii) a copy of the Bank’s annual accounts for the year ended December 31, 2000certified by the external auditors and approved by the Board on March 16,2001; and

(iii) a review of the economy in 2000, a special feature on the challenges ofeconomic diversification and a statistical section.

Yours sincerely

Linah K. MohohloGOVERNOR

17938 Khama Crescent, Gaborone; Tel: (267) 360-6000; Cables: Botbank; Telex: 2448 BD / 2405 BDWebsite: www.bankofbotswana.bw

Private Bag 154GaboroneBotswana

Governors’ OfficeTel: (267) 360-6371/67/79Fax: (267) 371231

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BOARD MEMBERS

DEPUTY GOVERNORS

T. C. MoremiBoard Member

S. S. G. TumeloBoard Member

N. H. FidzaniBoard Member

D. N. MorokaBoard Member

C. S. Botlhole-MmopiBoard Member

(December 1999 - February 2001)

G. K. CunliffeBoard Member

L. K. MohohloGovernor and Chairman of the Board

J. Majaha-Järtby(February 1996 - January 2001)

K. R. Jefferis

as at December 31, 2000

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BOARD MEMBERSas at December 31, 2000

L. K. MohohloGovernor and Chairman of the Board

S. S. G. TumeloBoard Member

G. K. CunliffeBoard Member

N. H. FidzaniBoard Member

T. C. MoremiBoard Member

D. N. MorokaBoard Member

C. S. Botlhole-MmopiBoard Member

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The Governor’s 25thAnniversary Message

A Silver Jubilee has a special significance in the life of any institution asit signifies a coming of age and maturity. The occasion also provides theopportunity to reflect on challenges and achievements. During the pastquarter of a century, the Bank has, against seemingly insurmountablechallenges, developed a strong organizational structure to buttress thefulfillment of its mission of meeting the needs of the Botswana economythrough efficient service and dedication to duty.

At the behest of the Bank, the infrastructure of the financial sector hasexpanded, its products have been diversified, the quality of serviceimproved and the volume of financial business has risen by leaps andbounds in response to the needs of a fast growing modern economy. Morefinancial institutions are expected to enter the market in the near future,particularly under the auspices of the recently launched InternationalFinancial Services Centre (IFSC). The IFSC, which reflects Botswana’scommitment to regional economic and financial integration, will attracthighly reputable international and local financial institutions.

While the financial sector continued to expand, the Bank consistentlyapplied stringent standards in its supervision of the banking system duringthe past 25 years. As a result, the country has maintained a high standardof financial sector soundness and stability in an environment of rapidadvances in information technology and the increased pace of integrationof the global financial sector. Of equal significance, is the fact that thecommercial banks, which operate under international supervisory andregulatory standards, have continued to record levels of profitability thatcompare favourably internationally.

The expected rapid growth of the economy implies future increases inthe volume and complexity of the responsibilities of the Bank. Alongsidestrong economic performance, the country’s foreign exchange reserveshave risen considerably, as a result of which the management of the foreignexchange reserves has become progressively more sophisticated andcomplex. The fast growing economy has also necessitated the developmentof an efficient domestic and international payments system as well as theeffective implementation of a market-based monetary policy.

Since 1998, public confidence in Botswana’s macroeconomicmanagement has been strengthened further by annual publicannouncements of monetary policy objectives. The policy statements areintended to forestall inflationary expectations by disseminatinginformation to the public about policy intentions. In so doing, thestatements influence market expectations and encourage the formationof appropriate economic and financial decisions. For this reason, publicstatements of monetary policy have contributed significantly to themaintenance of a stable macroeconomic environment, which is a basisfor sustained economic diversification and development.

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Besides the requirement of a sound financial sector and effectiveimplementation of monetary policy, the proper functioning of a modernmarket economy needs a reliable and stable external value of the domesticcurrency. In order to achieve this objective, the Bank has implemented,on behalf of the Government, the Pula exchange rate mechanism. Underthis mechanism, the Pula is pegged to a basket of currencies comprisingthe South African rand and the Special Drawing Rights (SDR). Themechanism has minimized fluctuations of bilateral rates, prevented theappreciation of the currency which would result from balance of paymentssurpluses if the exchange rate were freely floating and, in the process,maintained the competitiveness of the currency, which in turn promotesnon-traditional exports.

Regionally, the Bank has worked closely with other central banks inimplementing various initiatives under the aegis of the Southern AfricanDevelopment Community (SADC), including the Eastern and SouthernAfrican Banking Supervision Group. The objective of this and otherregional efforts is to promote a harmonized and sound financial sector aswell as develop an efficient payments system in the region. Internationally,the Bank has, on behalf of the Government, continued to be a very activeparticipant in the activities of the International Monetary Fund (IMF),the Bank for International Settlements (BIS), the World Bank and othermultilateral institutions.

Simultaneously, the Bank has maintained a network of very productiveand mutually beneficial relationships domestically with the Government,the private sector and other stakeholders in the economy. Since policyformulation and effective implementation depend on feedback, theserelationships are indispensable to the Bank and will continue in the yearsahead.

I wish to take this opportunity to pay tribute to all past and present leadersof Botswana and all other stakeholders, for their foresight back in theearly 1970s in laying a solid foundation for one of the most importantinstitutions of the country. The achievements made since the founding ofthe Bank 25 years ago, are a vindication of the soundness of their visionfor the country and a source of justifiable pride for all Batswana. However,a fitting tribute to the founders of the Bank is for the Board and the staffof the Bank to maintain a tight grip on the baton that has been passed onto us, so that when our turn is over, we too, will hand over the baton, inone piece, to the next generation. If we succeed in doing so, the nextgeneration will honour us because they too, will celebrate anniversariesof a well founded central bank.

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CONTENTS - PART A

Statutory Report on the Operations andFinancial Statements of the Bank

Page

1. An Overview of the Bank 17Objectives of the Bank 17The Functions of the Bank 17The Structure of the Bank 18Strategies 19

2. Report on the Bank’s Operations 22

Introduction 22Governor’s Office 22Financial Affairs and Auditing 24Banking Services 24National Payments System 24Bank Notes and Coin 24Banking Supervision 24Pyramid Schemes 25Bureaux de Change Operations 25Human Resources Administration 25Reserves Management 25Open Market Operations 25Management Systems 25Research and Publications 26

3. Annual Financial Statements 30

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CONTENTS - PART B

CHAPTER 1

Recent Economic Developments in Botswana

Page

1. Output, Employment and Prices 432. The 2001 Budget Speech 473. Money and Capital Markets 574. Exchange Rates, Trade and Balance of Payments 63

THEME CHAPTERS

Theme: The Challenge Of Economic Diversification

Chapter

2. Introduction: The Challenge of Economic Diversification 733. Economic Diversification: The Track Record 794. The Path to Diversification: Services or Manufacturing 915. Financial Sector Policies for Diversified Growth 1036. Building the Necessary Base of Skills and Technology 1197. Conclusion: The Role of Government 129

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BOXES Page

Box 1.1 Revisions to the National Accounts Estimates 43Box 1.2 Mid-Term Review of NDP 8 48Box 6.1 The Macroeconomic Impact of HIV/AIDS 126

CHARTS

Chart 1.1 Domestic Expenditure ExcludingStockbuilding, 1993/94 - 1999/00 46

Chart 1.2 Botswana and South Africa Annual Inflation 46Chart 1.3 CPI Inflation by Tradeability 47Chart 1.4 Real Growth in Government Spending

During NDP 8 54Chart 1.5 BoBCs Outstanding 57Chart 1.6 Real Money Market Interest Rates in Botswana,

S. Africa, UK and USA (Year End) 58Chart 1.7 Growth Rates of Credit 58Chart 1.8a 12-Month Nominal Growth Rates

of Monetary Aggregates 59Chart 1.8b 12-Month Nominal Growth Rates of

Monetary Aggregates 59Chart 1.9 Lending By Non-Bank Financial Institutions 60Chart 1.10 Real Effective Exchange Rate Index of Pula

and Inflation in Botswana andTrading Partners, 1999 - 2000 63

Chart 1.11 Real Pula Exchange Rates Against the Randand US Dollar 64

Chart 1.12 Real Pula Exchange Rate Againstthe Zimbabwe Dollar 64

Chart 3.1 The Mining Sector in the Botswana Economy,1980 - 2000 79

Chart 3.2 Structure of GDP by Sector, 1974/75 - 1999/00 81Chart 3.3 Measures of Concentration of Production in

Botswana, 1974/75 - 1999/00, Herfindahl Index (H)and Mineral Sector Share (M) 81

Chart 3.4 Concentration in the Manufacturing Sector,1979/80 - 1994/95 83

Chart 4.1 Productivity and Competitiveness inManufacturing, 1990 - 1999 99

Chart 5.1 Botswana-Growth in Credit to the Private Sectorand Inflation, 1990 - 2000 105

Chart 5.2 Botswana-Interest Rates and Inflation, 1990 - 2000 106Chart 5.3 Selected Assets and Liabilities of

the Financial System 107Chart 5.4 Advances by Selected Financial Institutions

(Relative Shares) 107Chart 5.5 Market Capitalisation of the Botswana

Stock Exchange 108

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Chart 5.6 Financial and Growth Indicators in Selected Countries(1985 - 1999) 110

Chart 5.7 Measures of Financial Depth 111Chart 5.8 Commercial Banks Market Share and

Concentration Ratios 111Chart 5.9 Commercial Banks-Rates of Return on Assets,

1990 - 2000 112Chart 5.10 Interest Rates and Interest Rate Spread, 1990 - 2000 112Chart 5.11 Commercial Banks-Deposit Liabilities

and Advances 114Chart 5.12 Shares of Advances by Maturity 115Chart 5.13 Sectoral Distribution of Credit 115Chart 6.1 Education Spending as a Proportion

of Total Government Expenditure and GDP,1990/91 - 1999/2000 124

TABLES

Table 1.1 Real Growth in Government Spending,1999/00 and 2000/01 45

Table 1.2 The Government Budget,1999/00 - 2001/02 (P million) 53Table 1.3 Allocation of Additional Funds to NDP 8

Development Budget Following the Mid-Term Review 55Table 1.4 Pula Exchange Rates Against Selected Currencies 65Table 1.5 Exports (f.o.b) by Commodity Breakdown 66Table 1.6 Balance of Payments, 1996 - 1999 67Table 1.7 Stocks of Foreign Investment in Botswana

by Industry, End December 1999 69Table 1.8 Stocks of Foreign Investment in Botswana

by Origin, End December 1999 70Table 4.1 Domestic Linkages - Manufacturing Compared

to Services (Percent) 96Table 5.1 Contemporaneous Correlations of Growth and

Financial indicators, 1969 - 1989(Botswana, 1980 - 2000) 109

Table 5.2 Indicators of Financial Depth-Ratioof Financial Aggregates to GDP (1985 and 1998) 110

Table 5.3 Bank Profitability in Selected Countries, 1999 112Table 5.4 Botswana-Relative Size of Financial Institutions 113

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Abbreviations Used in the Annual Report

ACP African, Caribbean and PacificATMs Automated Teller MachinesBBS Botswana Building SocietyBDC Botswana Development CorporationBEDIA Botswana Export Development Investment AuthorityBEDU Botswana Enterprise Development UnitBMC Botswana Meat CommissionBNPC Botswana National Productivity CentreBoB Bank of BotswanaBoBCs Bank of Botswana CertificatesBOTEC Botswana Technology CentreBSB Botswana Savings BankBSE Botswana Stock ExchangeBTC Botswana Telecommunications CorporationCEDA Citizen Entrepreneur Development AgencyCEMAEF Citizen Entrepreneur Mortgage Assistance Equity FundCIT Communications and Information TechnologyCIUs Collective Investment UndertakingsCPI Consumer Price IndexCRSA Control Risk Self AssessmentCSO Central Selling OrganisationDTC Diamond Trading CompanyEU European UnionFAP Financial Assistance PolicyFCAs Foreign Currency AccountsFCI Foreign Companies IndexFNBB First National Bank BotswanaGATS General Agreement on Trade in ServicesGATT General Agreement on Tariffs and TradeGDP Gross Domestic ProductHIES Household Income and Expenditure SurveyIDP Industrial Development PolicyIFC International Finance CorporationIFSC International Financial Services CentreIIP International Investment PositionIMFC International Monetary and Financial CommitteeIMF International Monetary FundIT Information TechnologyMFDP Ministry of Finance and Development PlanningMTR Mid-Term ReviewNACA National AIDS Coordinating AgencyNAMPADNational Master Plan for Agricultural DevelopmentNBFIs Non-Bank Financial InstitutionsNDB National Development BankNDP National Development PlanNPH National Policy on HousingNSCs National Savings CertificatesOECD Organisation for Economic Cooperation and Development

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Abbreviations Used in the Annual Report (cont)

OMO Open Market OperationsPDSF Public Debt Service FundPEEPA Public Enterprise Evaluation and Privatisation AgencyRepos Repurchase AgreementsRIIC Rural Industries Innovation CentreRNPE Revised National Policy on EducationSACU Southern African Customs UnionSADC Southern African Development CommunitySAM Social Accounting MatrixSDR Special Drawing RightsSLF Secured Lending FacilitySMMEs Small Medium and Micro EnterprisesSNA System of National AccountsTEC Total Estimated CostTIPA Trade and Investment Promotion AgencyUSA United States of AmericaVAT Value Added TaxWTO World Trade Organisation

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PART A

STATUTORY REPORT ON THEOPERATIONS OF THE BANK

2000

BANK OF BOTSWANA

Part A

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HEADS OF DEPARTMENTas at December 31, 2000

N. A. MabeSupport Services Department

S. M. KgosiFinance Department

O. MabusaBanking Department

M. D. PelaeloFinancial Institutions Department

H. P. BandaweResearch Department

R. H. NlebesiHuman Resources Department

O. A. MotshidisiInternational Department

J. G. CaldwellManagement Systems Department

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The primary objectives

of the Bank are to

promote monetary

stability, ensure efficient

payments system and a

sound financial system

Part A

1. AN OVERVIEW OF THE BANK

Objectives of the Bank

1.1 The primary objective of the Bank, as stated in the Mission Statement,

is to promote and maintain monetary stability. The Bank also ensures

the efficiency of the payments system and soundness of banking

institutions. In performing its functions, the Bank fosters broad national

macroeconomic objectives, including sustainable economic

diversification. The Bank’s main responsibilities, its organisational

structure and the framework for its activities are described below.

Functions of the Bank

1.2 As prescribed by the Bank of Botswana Act, 1996, the primary

responsibilities of the Bank include the conduct of monetary policy,

provision of banking services to Government, banks and selected public

sector organisations, regulation and supervision of the banks and other

financial institutions, issuance of currency, implementation of exchange

rate policy, management of foreign exchange reserves, and provision

of monetary and financial policy advice to Government.

(a) The Conduct of Monetary Policy is directed mainly at achieving

the primary responsibility of the Bank, the promotion and

maintenance of monetary stability. This objective, together with

fiscal, wage, trade and exchange rate policies, fosters

macroeconomic stability, which is a crucial precondition for

achieving sustained development, high rates of employment and

rising standards of living for Batswana.

(b) Central Banking Services are mainly provided for the

Government, commercial banks and other selected institutions.

The Bank also operates a clearing house for the banking system.

(c) Supervision of Banks and Other Financial Institutions is

conducted in accordance with the Banking Act, 1995. The

purpose of prudential regulations and supervision is to ensure

the safety, solvency and proper functioning of the monetary,

credit and financial system.

(d) Issuance of Currency (banknotes and coin) of high quality is an

essential ingredient of an efficient payments system, which in

turn, facilitates economic activity.

(e) Exchange Rate Policy is implemented with a view to promoting

export competitiveness without compromising macroeconomic

stability. The Bank, acting as Government’s agent, buys and sells

foreign exchange at rates determined in accordance with the

Primary responsibilities

of the Bank

PART A: STATUTORY REPORT ON THEOPERATIONS AND FINANCIAL STATEMENTS

OF THE BANK

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exchange rate policy. The Bank implements an appropriate

exchange rate policy in the overall context of sound

macroeconomic management.

(f) Official Foreign Exchange Reserves are managed by the Bank

on behalf of the Government. The Bank ensures their safety and

liquidity, while minimising risk without sacrificing return.

(g) Economic Analysis and Policy Advice includes the production

of research and statistical reports, the distribution of economic

and statistical materials to other institutions and the Botswana

public at large. The collection and dissemination of reliable

statistics as well as the production of policy oriented research,

ultimately assists in informed policy decisions.

The Structure of the Bank

1.3 The Bank of Botswana falls under the purview of the Minister of

Finance and Development Planning, who appoints all members of the

Board of the Bank except its Chairman, who is the Governor. The

Minister reports to Parliament on the Bank’s operations and financial

performance.

The Board

1.4 Under the Bank of Botswana Act, 1996, and the Bank’s Bye-Laws,

overall responsibility for the operations of the Bank is vested in the

Board of the Bank. The Board is responsible for ensuring that the

principal objectives of the Bank, as set out in the Act, are achieved. It

also ensures that the policies, management capabilities, administrative

systems and financial controls necessary to achieve the Bank’s

objectives, in an efficient and effective manner, are in place at all times.

Accordingly, the Board has a direct role in the strategic planning of

the Bank, and in determining the broad policy framework. In this

regard, the Board approves the annual budget, monitors the financial

and operational performance of the Bank, receives reports of the

external auditors and may call for policy reviews.

1.5 The Board comprises nine members and is chaired by the Governor.

The Permanent Secretary of the Ministry of Finance and Development

Planning is an ex-officio member and the other seven members are

drawn from the Government, the private sector and the academia.

1.6 The Board is required to meet at least once each quarter of a year,

although typically, it meets more frequently. An Audit Committee of

the Board is chaired by a non-executive Board member. Its main

responsibility is to ensure that accounting policies, internal controls and

financial practices are based on established rules and regulations. The

Board submits a report on the operations and the audited financial

statements of the Bank to the Minister of Finance and Development

Planning within three months of the end of the Bank’s financial year

(calendar year).

The Board has nine

members and is required

to meet at least once

each quarter

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Part A

The Governor

1.7 In addition to chairing the Board, the Governor is the chief executive

officer of the Bank, and is responsible for the prompt and efficient

implementation of the decisions or resolutions of the Board. The

Governor manages the Bank on a day-to-day basis, and represents the

institution at official meetings with the Government, domestic financial

and other institutions, external organisations and the media.

The Executive Committee

1.8 The Executive Committee, which is chaired by the Governor, comprises

the Deputy Governors and Heads of Department. Its responsibility is

to advise the Governor on the day-to-day management of the Bank as

well as the development of the Bank’s medium-term and long-term

plans.

Departments and Divisions

1.9 In order to carry out its broad functions, the Bank is organised into

various Departments and Divisions. At the end of 2000, the Bank’s

Departments were Banking, Finance, Financial Institutions, Human

Resources, International, Management Systems, Research and Support

Services. The three Divisions were the Board Secretariat, Security and

Internal Audit. Seven Heads of Department reported through the

Deputy Governors to the Governor, while one Department

(International) and the Internal Audit Division reported directly to the

Governor.

Strategies

1.10 In pursuing its principal objectives, the Bank has regularly reviewed

and adopted its strategies to deal with the changing conditions

prevailing in the financial sector. Maintaining monetary stability and

ensuring the soundness and efficiency of the financial system, are major

objectives of the Bank. The commitment to the attainment of these

objectives is reflected in ongoing developments in the following areas

of the Bank’s activities:

Open Market Operations, Reserve Requirements and the Bank Rate

1.11 Monetary stability is mainly reflected in low and stable inflation. Since

inflation is fundamentally influenced by monetary and credit factors,

its control is a major objective of the Bank’s monetary policy. However,

controlling inflation in a small open economy, such as Botswana, with

trading partners that sometimes have been experiencing high and

unstable levels of inflation, is a major challenge.

1.12 The Bank implements monetary policy through the use of indirect

monetary policy instruments, particularly open market operations, the

Bank Rate and primary reserve requirements. The Bank may also use

banking regulations and moral suasion to achieve monetary policy

The Bank has eight

Departments and three

Divisions

Monetary stability and a

sound and efficient

financial system

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objectives. However, the use of Bank of Botswana Certificates

(BoBCs), in both the primary and secondary markets, to manage

liquidity of the financial system and influence short-term interest rates,

plays a prominent role in maintaining monetary stability.

1.13 In addition to the Secured Lending Facility (SLF), the Bank also uses

Repurchase Agreements (Repos) and Reverse Repurchase Agreements

(Reverse Repos) to deal with short-term and overnight liquidity

shortages in the banking system.

1.14 The Bank incorporates fiscal and other policies of Government in its

design of a monetary policy framework and implementation strategy

in order to ensure macroeconomic stability. Therefore, whenever

necessary, monetary policy may need to be restrictive in order to

counteract expansionary fiscal and wage policies that may erode

monetary stability and, therefore, the nation’s prospects for sustainable

economic development. The broad framework of monetary policy is

presented to the public in the form of annual Monetary Policy

Statements.

Banking Services to Government and Commercial Banks

1.15 The Bank serves as the banker to the Government, commercial banks

and other selected institutions, as well as providing a payment, clearing

and settlement system for the financial sector. The Bank is promoting

and coordinating a programme that will enhance the efficiency and

security of the payments system. The Bank also provides a lender of

last resort facility to the financial institutions under its supervision.

Implementing the Banking Act and Regulations

1.16 Through its routine banking supervision and regulatory activities, the

Bank seeks to achieve a sound and stable financial system. The Bank

ensures that the mechanisms for sustaining the safety and soundness

of licensed financial institutions are strengthened and that those

institutions are managed in a prudent and safe manner. In this regard,

the Bank enforces prudential standards with respect to capital adequacy,

liquidity, asset quality and management of banks.

1.17 The Bank also monitors commercial bank compliance with primary

reserve requirements and ensures that clearing and settlement activities

are conducted efficiently. As the level and value of transactions flowing

through the financial system increases, and Botswana expands its

linkages with international financial markets, the Bank has to guard

against systemic risks which may arise. In general, the Bank continually

collaborates with private sector institutions, international organisations

and the Government to introduce a more efficient and safer payments

system.

1.18 In addition to its supervisory role which focuses on the safety and

soundness of licensed financial institutions, the Bank is responsible for

ensuring that the banks conduct their operations in a professional and

transparent manner in providing customer service. The Bank also takes

Supervision and

regulation of

financial institutions

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Part A

a lead in investigating breaches of the Banking Act, 1995, especially

activities such as unauthorised deposit taking and improper use of

banking names.

1.19 Under the provisions of the Banking Act, the Bank has specific

responsibilities relating to money laundering. Accordingly, the banks

are required to identify customers when opening accounts, retain

appropriate records, report suspicious activities and cooperate fully with

law enforcement agencies in an effort to combat financial crimes and,

in particular, money laundering.

1.20 The Bank has assumed the responsibility for the regulation and

supervision of the International Financial Services Centre (IFSC)

entities as well as administration of the Collective Investment

Undertakings Act, 1999.

Meeting the Need for Banknotes and Coin

1.21 The availability of a safe and convenient currency is an integral part

of an efficient payments system. For this reason, the Bank routinely

ensures that there is an adequate supply of high quality notes and coin

in circulation, withdraws from circulation and destroys soiled and

damaged currency, and replaces it with new notes and coin. The Bank

adheres to stringent standards in the design and production of both notes

and coin to ensure their acceptance as a medium of exchange and to

deter counterfeiting and other forms of debasement of the currency.

Implementing Exchange Rate Policy

1.22 The Bank acts as the Government’s agent in implementing exchange

rate policy. Under the Bank of Botswana Act, 1996, the President, on

the recommendation of the Minister of Finance and Development

Planning, and after consultation with the Bank, sets the framework for

the determination of the external value of the Pula. At present, the Pula

is pegged to a basket of currencies comprising the Special Drawing

Rights (SDR - the unit of account of the International Monetary Fund)

and the South African rand. Based on the basket, the Bank calculates

the exchange rate for each business day, and quotes the buying and

selling rates for major international currencies to authorised dealers.

The Bank monitors the Pula exchange rate developments regularly with

a view to advising the Government on maintaining competitiveness of

domestically produced goods.

Managing Foreign Exchange Reserves

1.23 As Botswana’s foreign exchange reserves have continued to grow, the

Bank has split the reserves into two portfolios to meet different

objectives. A proportion of the reserves is invested in long-term assets

(Pula Fund) with a view to maximising return; the Liquidity Portfolio

is invested in short-term money market instruments and bonds.

Administration of anti-

money laundering policy

Regulation and

supervision of IFSC

and collective

investment schemes

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Advice on Economic Policy, Provision of Statistics and Public Education

1.24 In addition to its responsibilities for formulating and implementing

monetary policy, the Bank serves as economic and financial adviser to

the Government on a wide range of issues. These include exchange rate

policy, financial sector development, taxation, industrial development

and trade.

1.25 The Bank collects and disseminates macroeconomic statistics,

especially those relating to the financial sector and international

transactions. The statistics are regularly provided to the public, along

with research reports and press releases, on broad macroeconomic

developments. The Bank has also taken the lead in formulating and

implementing a public education programme on banking and financial

matters.

2 REPORT ON THE BANK’S OPERATIONS

Introduction

2.1 The main activities of the Bank during 2000, including the celebrations

of the 25th Anniversary, are highlighted below. The activities relate

mainly to the Bank’s implementation of its annual work programme.

Governor’s Office

2.2 During her first full year in office, the Governor, Ms Linah K. Mohohlo,

was engaged in a wide variety of activities both within and outside the

Bank. Among the major activities of 2000, the Governor presented the

Bank’s 2000 Monetary Policy Statement in February and played an

active role in ensuring the development of the Bank of Botswana’s

inflation forecasting capacity. She officiated at the Bank’s Silver Jubilee

Celebrations in July 2000.

2.3 The Governor also assumed membership of the 24-member

International Monetary and Financial Committee (IMFC), on behalf of

Botswana, for a two-year period effective October 2000, representing

the Africa Group 1 Constituency1 of the International Monetary Fund.

The IMFC is an advisory body to the Board of the IMF.

2.4 Besides his supervisory responsibilities over the Departments of

Research, Banking and Human Resources, Deputy Governor Jefferis

made presentations at both the UNCTAD/UNDP Workshop on

Globalisation, Liberalisation and Sustainable Human Development and

at the annual Bankers Conference organised by the Bank of Namibia.

2.5 Deputy Governor Majaha-Järtby continued to carry out her regular

supervisory responsibilities for the Financial Institutions, Management

Systems and Support Services Departments. She participated as a

1 The Africa Group 1 Constituency comprises 21 Sub-Sahara African countries, namely: Angola, Botswana,Burundi, Eritrea, Ethiopia, The Gambia, Kenya, Lesotho, Liberia, Malawi, Mozambique, Namibia, Nigeria,Sierra Leone, South Africa, Sudan, Swaziland, Tanzania, Uganda, Zambia and Zimbabwe.

Governor’s first

full year in office

Botswana assumes

membership of

International Monetary

and Financial Committee

23

Part A

resource person in a banking supervision course in Abidjan, Cote

d’Ivoire, organised by the IMF and the Joint Africa Institute.

2.6 The Board held six meetings during the year (which included three

Audit Committee meetings). The Board Secretariat continued to provide

secretarial services to the Board and to other Bank committees as

necessary. The Division also made logistical arrangements for seminars

and other Bank functions, which included the launching of the 2000

Monetary Policy Statement, the Bank’s economic briefings, the Senior

Management Retreat and Seminars. The Secretariat published the

Bank’s periodic newsletters and coordinated the implementation of the

Bank’s community welfare activities through the Bank’s donations

policy.

2.7 A biannual three-day Senior Management Retreat was held in August

2000 and it focussed on the formulation of three-year strategic plans

for each Department. The aim of the strategic plans is to bridge the

gap between the annual Work Programmes and the Bank’s Vision 2021.

2.8 On behalf of the Government, the Bank undertook the sovereign credit

rating initiative for Botswana under the advice of JP Morgan. Two

rating agencies, Moody’s and Standard and Poor’s, were appointed for

the exercise2.

2.9 The Bank celebrated its 25th Anniversary on July 6, 2000. His

Excellency, President Festus Mogae, who was the guest of honour at

the main function, delivered a speech to mark the occasion. Other guests

included cabinet ministers, members of the diplomatic corps, heads of

parastatals, financial institutions, private sector business leaders, media

representatives as well as former Governors and Deputy Governors.

The celebrations were also attended by the Governors of SADC Central

Banks, while the International Monetary Fund, the Bank of England

and the Deutsche Bundesbank were represented by senior officials.

Other overseas guests included Professor Jeffrey Sachs, Director of the

Centre for International Development at Havard University in the USA,

and representatives of the Bank’s international counterparties.

2.10 There were three events to mark the two-day celebrations. In addition

to the main event at which His Excellency, President Mogae and the

Governor delivered their respective speeches to mark the occasion,

Professor Sachs presented a seminar paper on “The Next 25 Years in

African Economic Development” and Dr Jürgen Stark, Deputy

Governor of the Deutsche Bundesbank, delivered a dinner speech on

“Future Trends in Central Banking”. The celebrations were concluded

with a cultural show, which included a play focused on the history of

the Bank.

2.11 A commemorative booklet, Bank of Botswana, 1975-2000, was issued

to mark the occasion. The illustrated booklet reviews the main activities

of the Bank and the progress made during the past 25 years.

2 See page 62, footnote 21

The Board met six times

Bank co-ordinates

Sovereign Credit Rating

Silver Jubilee

celebrations

24


Financial Affairs and Auditing

2.12 The Internal Audit Division continued to play its role in monitoring

and evaluating the various controls in the Bank through the use of

modern auditing techniques such as proactive auditing, risk based

auditing, performance auditing and rating of reports according to their

significance. In addition, the Division coordinated the Control Risk Self

Assessment (CRSA) programme.

2.13 Apart from carrying out the 2000 routine accounting activities, the Bank

successfully implemented an automated cheque writing project.

2.14 A comprehensive review of the Bank’s insurance strategy was

undertaken during the year. The new strategy places emphasis on high

value assets and potential high-risk areas.

Banking Services

2.15 The provision of banking services to commercial banks, Government

and other selected institutions was successfully carried out during the

year.

National Payments System

2.16 A draft National Payment Systems Strategic Framework was produced

towards the end of 2000. The framework brought Botswana’s payment

modernisation programme closer to developments in other SADC

member countries.

Bank Notes and Coin

2.17 New P50 and P100 notes and a P5 coin were introduced.

Banking Supervision

2.18 During 2000, the banking system remained healthy, stable and

profitable. The Bank conducted on-site examinations for the four

commercial banks, and was satisfied that the banks were adequately

capitalised, prudently managed and had good asset quality.

2.19 In addition to the statutory report to the Minister of Finance and

Development Planning on the state of the banking industry in 1999,

the Bank also produced an Annual Banking Supervision Report (1999)

for the first time and undertook a comprehensive review of statutory

returns.

2.20 The Bank conditionally approved one off-shore banking licence for

ABC Holdings Limited, and granted an Exemption Certificate to Seed

Company International Limited to operate in the International Financial

Services Centre (IFSC). A banking licence was granted to Bank of

Baroda (Botswana) Limited, which is expected to start operations in

New Insurance Strategy

Banking system

remained sound

Annual Banking

Supervision Report

produced

Internal Audit introduces

Control Risk Self

Assesment

25

Part A

March 2001. Approval was given to ulc (Pty) Limited to extend its

banking licence from a credit institution to a merchant/investment bank.

First National Bank of Botswana Limited (FNBB) was authorised to

hold a 40 percent stake in a micro-lending company on condition that

FNBB was the approving body for such loans. In addition, the bank

was granted permission to acquire shares in Premium Credit Botswana

(Pty) Limited, an insurance financing company, subject to stipulated

conditions.

Pyramid Schemes

2.21 There was a re-emergence of pyramid schemes throughout the country

during the year. Accordingly, and in accordance with Section 3 of the

Banking Act, 1995, the Bank issued “cease and desist orders”.

Bureaux de Change Operations

2.22 There were 19 licensed bureaux de change in 2000, of which 14 were

operational by year-end.

Human Resources Administration

2.23 The Bank’s establishment during 2000 was 550, and the Human

Resources Department continued to enhance the strategic planning

process and technical input in human resources policy formulation. As

usual, an active training programme comprising short and long duration

courses was implemented during the year.

Reserves Management

2.24 A new asset allocation framework was implemented during the year,

which included minor changes to a number of portfolio mandates. The

Bank also continued to monitor, manage and control the various

financial risks in line with approved investment guidelines.

Open Market Operations

2.25 The Bank continued to implement monetary policy through the use of

open market operations. Eleven auctions of Bank of Botswana

Certificates (BoBCs) were conducted during the year, and the Bank

Rate was increased twice, by 50 basis points each time, to 14.25

percent.

Management Systems

2.26 The Bank undertook a number of projects during the year, especially

the following:

- selection of the dbs financial systems software for the National

Electronic Clearing House project;

Pyramid schemes re-

emerge

Strategic planning

enhanced

New asset allocation

framework implemented

A number of IT projects

undertaken

Eleven auctions

conducted

26


Economic briefings

conducted

- acquisition of the CA Unicenter TNG system for administering

the network; and

- implementation of the Lotus Collaborative Software system

which has modules for document and automated workflow

management.

Research and Publications

2.27 During 2000, the Bank continued its work in the areas of economic

analysis and policy advice.

2.28 The Bank launched the 2000 Monetary Policy Statement in February

and published the 1999 Annual Report, the December 1999 Research

Bulletin and the monthly issues of the Botswana Financial Statistics.

In addition, the Bank updated the SADC central bank database, the IMF

International Financial Statistics and the IMF Exchange Arrangements.

The Bank also participated in a seminar on trade in services and a

workshop on the SADC trade protocol.

2.29 Six economic briefings were conducted on the 1999 Annual Report to

a diverse inter-sectoral audience, which included His Excellency,

President Mogae and Cabinet Ministers. The theme of the Report was

“A Sectoral Review of Botswana’s Economy Over the Last Decade”.

In addition, the Bank conducted a number of seminars on a variety of

topics.

2000 Monetary Policy

Statement launched

27

Part A

PART A

ANNUAL FINANCIALSTATEMENTS

2000

BANK OF BOTSWANA

28


CONTENTS Page

Report of the Independent Auditors 29

Balance Sheet 30

Income Statement 31

Accounting Policies 32-33

Notes to the Annual Financial Statements 34-40

The Annual Financial Statements set out on pages 30 to 40were approved by the Board on March 16, 2001, andsigned on its behalf by:-

__________________ ____________________Linah K. Mohohlo Nozipho A. MabeGovernor Director, Accounting Department

29

REPORT OF THE INDEPENDENT AUDITORSTO THE MEMBERS OF THE BOARD OF BANK OF BOTSWANA

We have audited the accompanying financial statements of Bank of Botswana as set out onpages 30 to 40 for the year ended December 31, 2000. These financial statements are theresponsibility of the Bank’s Board. Our responsibility is to express an opinion on these financialstatements based on our audit.

We conducted our audit in accordance with International Standards on Auditing. Those standardsrequire that we plan and perform the audit to obtain reasonable assurance about whether thefinancial statements are free of material misstatement. An audit includes examining, on a testbasis, evidence supporting the amounts and disclosures in the financial statements. An auditalso includes assessing the accounting principles used and significant estimates made by theManagement, as well as evaluating the overall financial statements presentation. We believethat our audit provides a reasonable basis for our opinion.

In our opinion:

• the Bank has kept proper books of account with which the financial statements are inagreement; and

• the financial statements give a true and fair view of the state of the Bank’s affairs as ofDecember 31, 2000 and of the result of its operations for the year then ended in the mannerrequired by the Bank of Botswana Act, 1996.

PricewaterhouseCoopers KPMGCertified Public Accountants Certified Public Accountants

GABORONEMarch 16, 2001

Certified Public Accountants

Gaborone Office Mail AddressPlot 50364B P.O.Box 1519Fairground Park GaboroneGaborone

Telephone +267 312 400Telefax +267 375 281

PricewaterhouseCoopersPlot 50371Fairground Office ParkGaboroneP O Box 1453Gaborone, BotswanaTelephone: (267) 352011Fascimile: (267) 373901

30


BALANCE SHEETDecember 31, 2000

Notes 2000 1999ASSETS

P’000 P’000Fixed Assets 1 131 140 122 008Foreign Exchange Reserves

Liquidity Portfolio 2.1 4 681 319 3 936 492Pula Fund 2.2 28 711 638 24 453 690International Monetary Fund

Reserve Tranche 3.1 123 962 143 607Holdings of Special Drawing Rights 3.2 211 148 180 128Administered Funds 3.4 152 119 138 375

33 880 186 28 852 292Other Assets 4 22 576 16 352

TOTAL ASSETS 34 033 902 28 990 652

LIABILITIES

Notes and Coin in Circulation 5 606 489 606 817Bank of Botswana Certificates 6 3 712 398 4 230 167Deposits 7 1 072 065 1 049 653Government Investment Account 8 23 580 585 19 222 667Allocation of Special Drawing Rights (IMF) 3.3 30 461 27 711Liabilities to Government (IMF Reserve Tranche) 9 123 962 143 607Dividend to Government 10 521 722 300 000Other Liabilities 32 490 22 763

Total Liabilities 29 680 172 25 603 385

SHAREHOLDER’S FUNDS

Paid-up capital 11 25 000 25 000Currency Revaluation Reserve 12 2 423 138 1 343 958Market Revaluation Reserve 13 305 592 418 309General Reserve 1 600 000 1 600 000

Total Shareholder’s Funds 4 353 730 3 387 267

TOTAL LIABILITIES AND SHAREHOLDER’S FUNDS 34 033 902 28 990 652

31

INCOME STATEMENTYear ended December 31, 2000

Notes 2000 1999P’000 P’000

INCOME

Interest 1 257 677 1 046 786Net market gains on disposal of securities 817 510 430 049Dividends 145 600 130 419Commissions 24 481 23 547Unrealised market revaluation gains - Liquidity Portfolio - 7 820Other income 5 498 4 372Realised currency revaluation gains 3 650 -

2 254 416 1 642 993

EXPENSES

Interest 500 909 383 470Administration costs 127 562 105 468Depreciation 7 164 6 430Unrealised market revaluation losses - Liquidity Portfolio 681 -Realised currency revaluation losses - 6 716

636 316 502 084

NET INCOME FOR THE YEAR 1 618 100 1 140 909

TRANSFER FROM GOVERNMENT INVESTMENTACCOUNT 8.1 - 59 091

NET INCOME AVAILABLE FOR DISTRIBUTION 1 618 100 1 200 000

APPROPRIATIONS

DISTRIBUTION TO GOVERNMENT (1 166 722) (1 200 000)Dividend to Government from Pula Fund (860 000) (1 149 414)Share of residual net income (306 722) (50 586)

TRANSFER TO GOVERNMENT INVESTMENT ACCOUNT 8.1 (451 378) -

Part A

32


ACCOUNTING POLICIES

December 31, 2000

BASIS OF ACCOUNTING

The financial statements are prepared on the historical cost basis as modified to

include the revaluation of investments in foreign assets and liabilities and the

result of the activities of the Pula Fund. The financial statements comply with

International Accounting Standards in so far as they are appropriate for a Central

Bank.

FOREIGN EXCHANGE BALANCES AND TRANSACTIONS

Assets and Liabilities

Assets and liabilities denominated in foreign currencies are translated to Pula

using the middle rate of exchange ruling at the close of the financial year. The

resulting exchange gains and losses are taken to the Currency Revaluation Reserve.

Foreign Currency Transactions

Transactions denominated in foreign currencies are translated to Pula using the

middle rate of exchange ruling at the transaction date.

Exchange gains and losses arising on disposal of foreign denominated financial

assets are transferred to the Currency Revaluation Reserve in so far as the proceeds

of disposal are re-invested in foreign assets.

Investments

Short-term and long-term investments in foreign treasury bills, securities and

equities are stated at their market value at year-end. Unrealised market revaluation

gains and losses on Liquidity Portfolio and profits and losses on realisation of all

investments are taken to the income statement in the year in which they arise.

Any changes in the value of the Bank’s long-term investments held in foreign

currencies as a result of any change in the market values of such investments are

transferred to the Market Revaluation Reserve.

BANK OF BOTSWANA CERTIFICATES

As one of its tools for maintaining monetary stability in the economy, the Bank

of Botswana issues its own paper, Bank of Botswana Certificates (BoBCs), to

counterparties in the financial sector. The aim of issuing BoBCs is to absorb

excess liquidity in the market and thereby to influence the rate of monetary growth,

and also interest rates. BoBCs are issued at a discount to counterparties.

The Bank’s liability in respect of BoBCs is stated at market value with movements

in matured and unmatured discount recognised in the income statement.

INCOME AND EXPENSE RECOGNITION

Interest income and expense and dividend income are generally recognised in the

income statement on an accrual basis.

33

ACCOUNTING POLICIES (continued)

GENERAL RESERVE

Under Section 7(1) of the Bank of Botswana Act, 1996, the Bank of Botswana is

required to establish and maintain a General Reserve sufficient to ensure the

sustainability of future operations of the Bank. The Bank may transfer to the

General Reserve funds from other reserves, which it maintains, for the purposes

of maintaining the required level of the General Reserve.

CURRENCY REVALUATION RESERVE

Any changes in the valuation, in terms of Pula, of the Bank’s assets and liabilities

in holdings of Special Drawing Rights and foreign currencies as a result of any

change in the exchange rates of Special Drawing Rights or foreign currencies are

transferred to the Currency Revaluation Reserve.

The proportion directly attributable to the Government Investment Account is

transferred to such investment account.

MARKET REVALUATION RESERVE

Any changes in the value of the Bank’s long-term investments held in foreign

currencies as a result of any change in the market values of such investments are

transferred to the Market Revaluation Reserve.

The proportion directly attributable to the Government Investment Account is

transferred to such investment account.

FIXED ASSETS AND DEPRECIATION

Fixed assets are stated at cost less related accumulated depreciation.

No depreciation is provided on land. All other fixed assets are depreciated on a

straight line basis at the following annual rates:

Buildings 2.50%

Furniture, fixtures and equipment 20.00%

Computer hardware 33.33%

Computer software 100.00%

Motor vehicles 25.00%

RETIREMENT BENEFITS

Pension benefits are provided for employees through the Bank of Botswana Staff

Pension Fund which is governed in terms of the Pension and Provident Funds Act

(Chapter 27:03). This is a defined contribution plan under which pensions are

based on the actual performance of the fund. Contributions are at the rate of 21.5

percent of pensionable emoluments of which pensionable employees of the Bank

pay 4 percent.

Part A

34


NOTES TO THE ANNUAL FINANCIAL STATEMENTSDecember 31, 2000

1. FIXED ASSETS Freehold Leasehold Buildings Capital Other Total

Land Land Works in Assets

Progress

Cost or Valuation

P’000 P’000 P’000 P’000 P’000 P’000

Balance at the beginning of the year 607 3 486 118 306 7 406 27 550 157 355

Additions - - - 9 011 7 381 16 392

Disposals - - - - (838) (838)

Adjustment - - - - (90) (90)

Transfers - 1 597 (2 308) 711 -

Balance at the end of the year: 607 3 486 119 903 14 109 34 714 172 819

Accumulated Depreciation

Balance at the beginning of the year - - 15 499 - 19 848 35 347

Charge for the year - - 2 958 - 4 206 7 164

Disposals - - - - (845) (845)

Adjustments - - - - 13 13

Balance at the end of the year - - 18 457 - 23 222 41 679

Net book value as at December 31, 2000 607 3 486 101 446 14 109 11 492 131 140

Net book value as at December 31, 1999 607 3 486 102 807 7 406 7 702 122 008

2 FOREIGN EXCHANGE RESERVES 2000 1999

P’000 P’000

2.1 Liquidity Portfolio 4 681 319 3 936 492

The portfolio is invested in money market instruments and bonds. It is

meant to facilitate payments for regular transactions.

2.2 Pula Fund 28 711 638 24 453 690

This is a long-term fund intended to maximize return; it is invested in foreign

financial instruments with a long-term duration.

35

The financial information of the Pula Fund is given below:-

2000 1999P’000 P’000

Pula Fund Balance SheetCapital EmployedGovernment 23 080 585 18 073 628Bank of Botswana 5 631 053 6 380 062

28 711 638 24 453 690

Employment of CapitalInvestments 28 711 638 24 453 690

Investments expressed in US dollars (‘000) 5 354 720 5 279 552Investments expressed in SDR (‘000) 4 108 635 3 846 466

Pula Fund Income StatementIncomeInterest and dividends received 1 165 939 1 049 215Net realised market gains 810 412 438 329Sundry income 46 11

1 976 397 1 487 555

Administration charges (63 934) (52 559)Net Income for the year 1 912 463 1 434 996Transfer from Government Investment Account - 59 091Net Income available for distribution 1 912 463 1 494 087

AppropriationsDistribution to Government (1 311 378) (1 149 414)Dividend to Government (860 000) (1 149 414)Transfer to Government Investment Account (451 378) -Bank of Botswana’s share of net income 601 085 344 673

Part A

36


3. INTERNATIONAL MONETARY FUND (IMF)

3.1 Reserve Tranche

This asset represents the difference between Botswana’s Quotain the IMF and IMF Holdings of Pula. Botswana’s Quota is itsmembership subscription, of which at least 25 percent was paidfor in foreign currencies and the balance in Pula. The holdings ofPula by the IMF, which initially were equal to 75 percent of thequota, have changed from time to time as a result of the use ofPula by the IMF in its lendings to member countries.

2000 1999P’000 P’000

Quota (SDR63 000 000) 440 252 400 509Less IMF Holdings of Pula (316 290) (256 902)Reserve Position in IMF 123 962 143 607

3.2 Holdings of Special Drawing Rights 211 148 180 128

The balance on the account represents the value of SpecialDrawing Rights allocated and purchased less utilisation to date.

3.3 Allocation of Special Drawing Rights 30 461 27 711

This is the liability of the Bank to the IMF in respect of theallocation of SDRs to Botswana.

3.4 Administered Funds

(i) Poverty Reduction and Growth Facility (PRGF) Trust 48 662 44 267

The amount represents the equivalent of SDR6 893 680(and interest accrued thereon) lent on July 1, 1994 to thePoverty Reduction and Growth Facility (formerly EnhancedStructural Adjustment Facility Trust), a fund administeredin trust by the IMF.

(ii) Poverty Reduction and Growth Facility/Heavily IndebtedPoor Countries (PRGF/HIPC) Trust 103 457 94 108

The amount represents SDR14 607 060 (and interestaccrued thereon) lent on April 30, 1997 to the PovertyReduction and Growth Facility/Heavily Indebted PoorCountries Trust, a fund administered in trust by the IMF.

152 119 138 375

37

2000 1999P’000 P’000

4. OTHER ASSETS 22 576 16 352

Other assets consist of staff loans, sundry debtors, advances andspecial memorandum accounts.

5. NOTES AND COIN IN CIRCULATION

Notes 565 876 577 330Coins 40 613 29 487

606 489 606 817

Notes and coin in circulation held by the Bank as cash in handat the end of the financial year have been netted off against theliability for notes and coin in circulation to reflect the net liabilityto the public.

6. BANK OF BOTSWANA CERTIFICATES

Face Value 3 893 080 4 442 476Unmatured Discount (180 682) (212 309)Market Value 3 712 398 4 230 167

Bank of Botswana Certificates are issued at various short-termmaturity dates and discount rates.

7. DEPOSITS

Government 637 916 676 712Bankers 250 781 201 066Other 183 368 171 875

1 072 065 1 049 653

These represent current accounts lodged by Government,commercial banks, parastatal bodies and others which arerepayable on demand and are interest free.

Part A

38


The Government balance includes P1 035 108 in respect of theLetlole National Savings Certificate Scheme which was launchedby the Bank on behalf of the Government in 1999 as a means ofencouraging savings.

This is analysed as follows:2000 1999

P’000 P’000

Issues of National Savings Certificates 1 656 1 020Less: Redemptions 619 249

Net issues 1 037 771Less: Amounts awaiting collection from agents 2 80

Amount due to Government on behalf of the Scheme 1 035 691

8. GOVERNMENT INVESTMENT ACCOUNT

8.1 Pula Fund

Balance at the beginning of the year 18 073 629 18 233 257Transfer to Income Statement - (59 091)Transfer from/(to) Government Investment Account - Liquidity Portfolio 3 159 841 (500 000)Excess of share of Pula Fund income over distribution 451 378 -Share of unrealised currency gains (Note 12) 1 641 651 150 535Share of unrealised market (losses)/gains (Note 13) (245 914) 248 928Investment by Government in the Pula Fund at the end of the year 23 080 585 18 073 629

8.2 Liquidity Portfolio

Balance at the beginning of the year 1 149 038 91 140Transfer (to)/from Government Investment Account - Pula Fund (3 159 841) 500 000Net Transfers from Government Deposit Account 2 510 803 557 898Investment by Government in Liquidity Portfolio at the end of the year 500 000 1 149 038Total Government Investment Account 23 580 585 19 222 667

The Government Investment Account represents theGovernment’s share of the Pula Fund and the Liquidity Portfoliowhich were established on January 1, 1997.

During the year ended December 31, 1999, the distribution to theGovernment included an amount of P59 091 443 transferred tothe Government Investment Account.

39

2000 1999P’000 P’000

9. LIABILITIES TO GOVERNMENT (IMF RESERVE TRANCHE)123 962 143 607

This balance represents the Bank’s liability to the Governmentin respect of the Reserve Tranche position in the IMF (Note 3.1)

10. DIVIDEND TO GOVERNMENT

Balance at the beginning of the year 300 000 257 386Dividend to Government from Pula Fund 860 000 1 149 414Government share of residual net income 306 722 50 586Paid during the year (945 000) (1 157 386)Balance at the end of the year 521 722 300 000

The final instalment of the pre-set dividend of P215 000 000and the residual dividend of P306 722 232 unpaid at December31, 2000 was provided for in accordance with Section 6 of theBank of Botswana Act, 1996 which requires that all profits ofthe Bank be distributed to the shareholder, the Government.

11. CAPITAL

Authorised and paid-up capital 25 000 25 000

The paid-up capital is the amount subscribed by the Governmentin accordance with Section 5 of the Bank of Botswana Act,1996

12. CURRENCY REVALUATION RESERVE

Balance at the beginning of the year 1 343 958 1 254 177Pula Fund currency gains for the year 2 394 121 192 069Transfer to Government Investment Account (Note 8.1) (1 641 652) (150 535)

2 096 427 1 295 711Liquidity Portfolio currency gains for the year 326 711 48 247Balance at the end of the year 2 423 138 1 343 958

Part A

40


2000 1999P’000 P’000

13. MARKET REVALUATION RESERVE

Balance at the beginning of the year 418 309 322 454Unrealised market (losses)/gains for the year (358 631) 344 783

59 678 667 237Transfer to Government Investment Account (Note 8.1) 245 914 (248 928)Balance at the end of the year 305 592 418 309

14. CAPITAL COMMITMENTS

Approved and contracted for 2 540 7 908

Approved but not contracted for 18 928 16 92621 468 24 834

These capital commitments will be funded from internal resources.

15. RISK MANAGEMENT POLICIES IN RESPECT OF FINANCIAL INSTRUMENTS

The risk management policies of the Bank regarding financial instruments are dealt with in Part A of theAnnual Report on the Bank’s operations.

41

Chapter 1

PART B

RECENT DEVELOPMENTSIN THE

BOTSWANA ECONOMY

BANK OF BOTSWANA

Part B

42


43

Chapter 1

1. OUTPUT, EMPLOYMENT AND PRICES

National Income Accounts

1.1 Preliminary estimates of national incomeaccounts for 1999/00 indicate that real growthof gross domestic product (GDP) was 7.7percent.1 The growth rate was considerablyhigher than in the previous year, for which therevised estimate is 4.1 percent. It was,however, lower than the 10 percent that hadbeen forecast by Government at the time ofthe 2000 Budget Speech.

1.2 There were also revisions to GDP estimatesfor earlier years, which took into account newinformation and reclassification of certainactivities. Another development was thatquarterly GDP estimates have been madestarting in 1995/96. These innovations andimprovements are described in more detail inBox 1.1.

(i) Output

1.3 The principal reason for the acceleration ingrowth in 1999/00 was increased activity inthe mining sector. The sector grew by 11.9percent, contrasting with a 2.9 percent declinein the previous year. The coming on streamof the Orapa expansion project during thefirst half of 2000 explained most of the rapidgrowth of output for the sector. Due to sometechnical problems, the project did not reachfull capacity until later during the year. As aresult, growth was less than the 15 percentforecast initially and, consequently, the risein mining output during 2000/01 is likely tobe higher than originally anticipated.

CHAPTER 1

RECENT DEVELOPMENTS IN THE

BOTSWANA ECONOMY

1 The national accounts year runs from July to June. This coincides with the tax year, but is different from both the calendar year and the Government’sfinancial year (April to March).

Box 1.1: Revisions to the National Accounts EstimatesNational accounts estimates provide important data that helpassess the performance of the economy. The data are presentedas both aggregate measures, such as GDP, and disaggregatedinto important sub-components. The three major breakdownsare by sector of output, type of expenditure and source ofincome.

Most countries produce national accounts guided by theSystem of National Accounts (SNA), a set of internationalstandards compiled under the auspices of variousorganisations including the United Nations, the IMF and theWorld Bank. Meeting all the standards set by the SNA requiressignificant resources. For this reason, many countries areunable to fully comply with the requirements. However,adoption of the basic guidelines of the SNA is essential forthe reliability and comparability of data.In recent years, the Botswana national accounts statistics havebeen revised on several occasions. The objectives of therevisions have included the introduction of improved methodsof statistical estimation and improvements in the consistencyof the accounts with the most recent (1993) version of theSNA. The changes introduced at the time of the publicationof the provisional estimates for 1999/00 were the mostfar-reaching, since they involved significant elements ofreclassification. In particular, and very important forBotswana, the treatment of mining activities has been altered,with prospecting activity being redefined both as a businessservice (in line with related activities such as surveying) andas investment rather than as intermediate consumptionactivity. As a result, both total output and its sectoral allocationhave been revised.The estimates of household consumption in the expenditureaccount have been improved through the introduction ofannual surveys to estimate this item directly. Previously,household consumption was measured as a residual after theestimates of other items had been determined. The annualsurveys will be supplemented by the more comprehensiveinformation contained in the Household Income andExpenditure Surveys (HIES) that are undertaken periodically.The next HIES is currently scheduled for 2002.A further innovation is the production of quarterly GDPestimates. The estimates will enable the seasonal variationsin output and expenditure to be observed directly and shouldbe of great benefit to economic analysis. However, for theestimates to be useful, it is important, particularly for policymakers, that the quarterly data are produced on a timely basis,preferably with only a short lag after the end of each quarter.Users must also be aware that these data should be used withsome caution since, by necessity, they are based on only partialinformation and, as such, are likely to be subject to subsequentrevisions.

44


1.4 The non-mining economy expanded by 5.7percent. A major contributing factor wascontinued growth in the general governmentsector, which rose by 6.0 percent. Excludingboth mining and government, output in therest of the economy expanded by 5.6 percentcompared to 8.3 percent in 1998/99.

1.5 Within the lower average growth rate,sectoral performances varied considerably.Some sectors showed higher growth: waterand electricity (8.0 percent) and trade, hotelsand restaurants (6.1 percent) and generalgovernment (6.0 percent). Other sectors,however, generally expanded at slower rates.

1.6 Growth in manufacturing was 3.2 percent(5.7 percent in 1998/99), the lowest since theearly 1990s. Some slowdown of the sectorwas expected in view of the closure of theHyundai vehicle assembly plant in early2000. That the sector still showed overallpositive growth despite the setback, is anindication that manufacturing in Botswana ismore robust and well established than issometimes presumed to be the case.

1.7 Transport and communication showed asharply slower growth of 1.7 percent (16.2percent in 1998/99). This out turn was notsurprising since both sub-sectors experienceddifficulties. Rail transport continued to benegatively affected by the slump in transittraffic while the technical problems atBotswana Telecommunications Corporation(BTC) impacted on the communications sub-sector, offsetting the strong growth in theoperations of mobile phones.

1.8 Construction grew by only 2.4 percent (11.5percent in 1998/99). However, that this sectorshowed positive growth at all suggested thatthere was no recession in the sector in 2000,contrary to some expectations.

1.9 The slow growth of 3.7 percent, against 9.0percent in 1998/99, in the output of the bank,insurance and business services reflected thediffering performances of the institutionscomprising the sector. While banking activitycontinued to grow at a healthy pace, poorperformance elsewhere in the sector held the

overall growth rate down. In particular,business services, which account for arounda quarter of sectoral value added, did notperform well. Inter alia, this may reflect areduction in the rate at which newGovernment projects have been gettingunderway. In the circumstances, the pace ofproject implementation might be seen as aleading indicator that some slowdown inconstruction, and therefore business services,is in the offing. However, given the rapidincrease in Government developmentspending announced in the 2001 BudgetSpeech (see below), such a dip, if it occursat all, is likely to be only temporary.

1.10 During 2000, a slowdown of activity in thelocal property market was reported by realestate analysts. In particular, there wasincreased availability of good-quality officespace. While this may have impactednegatively on the operations of somebusinesses and may have been a furthercontributory cause of the reduced growth inbusiness services, for the economy as awhole, such a slowdown in real estatedevelopment was beneficial. Offices werebeing vacated not because of a decline ineconomic activity but due to maturebusinesses increasingly moving to their ownpurpose built premises, a sign of confidencein the prospects for the economy. As a result,office space was available for new businessesto Botswana for immediate occupation and atmore reasonable prices. Since availability ofaffordable office space has been seen as aconstraint on economic development inBotswana (for example, it has been cited asa potential impediment to the rapid growth ofthe International Financial Services Centre(IFSC)), this turn of events is to bewelcomed.

1.11 Agriculture continued its sequence of poorperformances, with a decline of 8.7 percent(a decrease of 7.6 percent in 1998/99). Theserious floods in early 2000, whichsignificantly disrupted both arable andlivestock farming activities, contributed to thepoor agricultural performance. Early signs arethat 2000/01 will also be a poor year, as thedrought conditions that prevailed during the

45

Chapter 1

crucial ploughing and planting period,severely limited both the area undercultivation and the expected yields. However,such setbacks are not the fundamental causeof the malaise in the sector, which has beencharacterised by low growth in output andproductivity for many years, a factor whichhas led the Government to initiate a reviewof the effectiveness of its policies to supportthe sector.

1.12 With the impact of the Orapa expansionproject still feeding through, both the miningsector and the economy as a whole willexperience further significant growth in2000/01. In its Annual Economic Report2001, the Government indicated that growthin mining in excess of ten percent shouldagain be expected.2 It is, however, not clearwhether the non-mining activities willcontinue to expand at the modest growth ratesseen in 1999/00 or there will be someimprovement.

1.13 One factor that will influence growth is therate of increase in Government spending. Themost recent budget estimates (Table 1.1; moredetails are given in Section 2 of this chapter)provide a mixed picture. Recurrent spendingby Government is budgeted to grow stronglyby some 12 percent in real terms in the2000/01 fiscal year, which will providesupport to the many businesses that dependon Government’s custom. In contrast, realgrowth in development spending may be

negative. This pattern of budgetary allocationsuggests that growth in both construction andrelated business services as well as the outputof the government sector itself, where wagesand salaries are the major component, couldslow down.

(ii) Expenditure

1.14 The latest GDP estimates include significantrevisions to the breakdown by expenditurecategory. Most significantly, the methodologyfor estimating household expenditure hasbeen revised, resulting in a much smootherpattern of growth rates. One result of the newmethodology is that the very rapid rate ofincrease in expenditure initially estimated for1998/99, which had been associated with thelarge Government pay increase in 1998, is nolonger evident.3

1.15 In 1999/00, the most significant developmentwas the impact of the recovery in theinternational diamond markets. As expected,the share of stockbuilding in GDP fell sharplyto 0.4 percent due to the selling of stockpileddiamonds compared to 7.7 percent in1998/99 when diamond stocks were built updue to weak international demand.4

Correspondingly, the balance of exportsminus imports increased from a negligible 0.4percent of GDP in 1998/99 to 12.5 percent in1999/00.

2 Annual Economic Report 2001, page 22.3 See Bank of Botswana Annual Report 1999 (p45). Originally, the expenditure growth rate was estimated at 23.4 percent. It has now been revised

to 6.1 percent.4 While this movement is in line with expectations, the data on stock building should be treated with some caution because it is now calculated as

a residual.

46


1.16 Chart 1.1 shows the composition of domesticexpenditure, excluding stockbuilding, since1993/94. The exclusion of stocks highlightsthe changing balance between consumptionby households and government, on the onehand, and gross fixed capital formation on theother. Over the period 1993/94 - 1999/00there has been a clear trend for householdconsumption to decline in importance relativeto government consumption. During the mid-1990s, there was an increase in the share ofgross fixed capital formation, reflecting theincreased pace of the government’sinvestment programme. However, the sharefell back in 1999/00 due to the slower realgrowth rates of government developmentspending.

Inflation

1.17 During 20005, upward revisions were madeto the Consumer Price Index (CPI),backdated to July 1999. Partly reflecting therevisions to the index, inflation rose in 2000.More importantly, however, the rise ininflation was a result of the supply shocksduring the year associated with theadjustments of administered prices and therise in the cost of oil imports, as well as themomentum of inflationary pressures that setin during 1999. Based on the revised index,inflation rose to an average of 8.6 percent in2000 compared to 7.8 percent in 1999 and 6.5percent in 1998. After a peak of 10.6 percentin July 2000, inflation eased to 8.7 percent bythe end of the year.

1.18 The factors that drove inflation during 2000included the rise in fuel prices, which in turn,raised production costs. There was also anincrease in rentals charged by the BotswanaHousing Corporation (BHC). Simultaneously,the growth of domestic demand was stillhigh, although the trend was downward. Fuelprices were increased four times during theyear: in January, March, July and September,as a result of which pump prices reachedrecord high levels. Furthermore, floods earlyin the year had an adverse effect on prices ofboth domestic and imported consumables,while public sector house rentals, which wereincreased by up to 25 percent in July, alsocontributed to the rise in the cost of living.

1.19 As shown in Chart 1.2, Botswana’s inflationwas generally higher than South Africa’s coreinflation6 throughout 2000.

1.20 The cost of imported tradeables acceleratedfrom an increase of 7.9 percent in 1999 to 8.8percent in 2000, reflecting mainly the rise inoil prices. For domestic tradeables, the rateof price increases showed a declining trend,slowing down from 6.7 percent in theprevious year to 6.3 percent in 2000. Apartfrom the technical factor which raisedinflation to double digits, the cost of non-tradeables, which are mostly services, rose ata reduced rate of 9.9 percent compared to12.0 percent in 1999.

CHART 1.1: DOMESTIC EXPENDITUREEXCLUDING STOCKBUILDING (PERCENT OF GDP),1993/94 – 1999/00

25%

30%

35%

40%

45%

1993/94 1994/95 1995/96 1996/97 1997/98 1998/99 1999/00

Period

Gov't Cons

H'hold Cons

GFCF

CHART 1.2: BOTSWANA AND SOUTH AFRICAANNUAL INFLATION

1

2

3

4

5

6

7

8

9

10

11

1998

Feb

Mar

Apr

May Jun

Period

Year

on

Year

Per

cent

age

Cha

nge

Jul

Aug

Sep Oct

Nov

Dec

1999 Feb

Mar

Apr

May Jun

Jul

Aug

Sep Oct

Nov

Dec

2000 Feb

Mar

Apr

May Jun

Jul

Aug

Sep Oct

Nov

Dec

Botswana South Africa South Africa Core Inflation

5 The revisions were a result of the failure to include the July 1999 BHC rental increases in the CPI at the appropriate time. The revisions tookplace in August 2000.

6 Core inflation excludes mortgage interest rates and prices of various volatile food items.

47

Chapter 1

Employment

1.21 Significant revisions were made to theestimates of formal sector employment forSeptember 1999.7 While these changesaffected all sectors, they had two principaleffects. First, the overall growth rate inemployment for the year to September 1999was revised upwards to 6.4 percent comparedto an original estimate of 5.8 percent. Second,the rate of increase in employment byGovernment was revised downwards to 2.1percent against the earlier rate of 3.2 percent,while that of the non-government sectors wasincreased to 9.6 percent from 7.7 percent. Therevisions reinforced the trend of the late1990s when the non-government sectors tookthe lead in employment growth.

1.22 The relative employment growth patterncontinued into 2000. Provisional estimates forSeptember show that overall employmentrose by a much slower rate than in 1999.Again, the main source of this growth wasoutside of Government, with non-governmentemployment growing by 3.1 percent.Employment by Government rose by only 0.6percent. The employment increases inmanufacturing (1.3 percent) and construction(3.3 percent), were in line with the GDPestimates, indicating that activity in thesesectors was fairly robust.

1.23. The mining sector reported a slight fall in

employment. The employment performancewas consistent with the rapid growth in thesector’s output, as the Orapa expansion wasachieved on the basis of high capital intensityand enhanced efficiency rather thanadditional employment. However, prospectsare that there will be additional miningemployment due to the planned expansion ofthe Phoenix copper-nickel mine nearFrancistown8 as well as the small newdiamond mine that is scheduled to be openednear Orapa, both of which are expected tobecome operational during 2002.

1.24 The real estate and business services sectoralso showed a very small fall in employment.Lack of job growth in this sector was alsoconsistent with GDP estimates which, asalready indicated, showed slow growth forthis sector.

1.25 Since 1997, the cumulative growth in formalsector employment has been 20.3 percent.Although employment in the informal andtraditional sectors are excluded, it would beexpected that the rapid growth in employmentwould reduce the rate of unemployment.Evidence of such a reduction was indicatedby the Central Statistical Office whichestimated that in 2000 the unemployment ratewas 15.8 percent compared to 19.6 percent in1997, which was, in turn, an improvement onthe rates in excess of 20 percent during thefirst half of the 1990s.

2 THE 2001 BUDGET SPEECH

Policy Issues

2.1 The 2001 Budget Speech was made in thecontext of the Mid-Term Review (MTR) ofthe NDP 8, which had been approved byParliament during 2000 (Box 1.2). The themefor the Speech was ‘accelerating economicdiversification’. In addressing the theme, theSpeech covered a wide range of issues. Itpresented various new initiatives ranging

CHART 1.3: CPI INFLATION BY TRADEABILITY

0

2

4

6

8

10

12

14

16

18

Period

Year

on

Year

Per

cent

age

Cha

nge

1998

Feb

Mar

Apr

May Jun

Jul

Aug

Sep Oct

Nov

Dec

1999

Feb

Mar

Apr

May Jun

Jul

Aug

Sep Oct

Nov

Dec

2000

Feb

Mar

Apr

May Jun

Jul

Aug

Sep Oct

Nov

Dec

Non-tradeables Domestic tradeables Imported tradeables

7 Such revisions were to be expected since the original estimates, released early in 2000, were provisional, being based only on partial responseto the employment survey undertaken by the Central Statistics Office.

8 The number of employees at Phoenix is expected to double to around 900. However, the number of net new jobs will be smaller, due to thephasing out of operations at Selkirk. Some of the workforce from this operation will be relocated to Phoenix.

48


Box 1.2: Mid-Term Review of NDP 8

The preparation of a Mid-Term Review (MTR) is a standard feature of the development planning process in

Botswana. The purpose of the MTR is to monitor progress on the implementation of the policies outlined in the

National Development Plan (NDP) and to assess whether these policies need any adjustment in the light of

recent developments that have taken place since the preparation of the plan. Such developments may include

changes in economic circumstances and/or a reordering of priorities. Therefore, MTR provides a necessary

element of flexibility in the planning process; it also undertakes important groundwork prior to the preparation

of the next NDP.

At the time of the preparation of NDP 8, the theme of which is ‘Sustainable Economic Development’, the main

issues were determined to be: economic diversification, employment creation, poverty reduction, policy reform

in the public sector, provision of infrastructure and cost recovery, human resource development, rural development,

as well as environmental conservation and land use planning. In preparing the MTR, there were widespread

consultations, both within the Government and more widely, about whether these issues were still relevant. The

MTR confirmed their importance, with particular stress on unemployment, poverty reduction, public sector

reform and conservation. In addition, other important issues have now come to the fore: HIV/AIDS, financial

discipline, citizen economic empowerment, as well as recurrent and maintenance costs.

As a result of the identification of the additional issues, significant emphasis was given to several of these

emerging issues in the 2001 Budget Speech, following the approval by Parliament of the MTR. Most obviously,

the issue of tackling HIV/AIDS received prominence with the announcement of various initiatives and associated

funding. This adjustment of priorities was clearly necessary: the estimated number of HIV positive people in

Botswana increased by two-thirds since NDP 8 was prepared.

The issue of citizen economic empowerment has become prominent in public discussion since the beginning of

NDP 8. While the economy generally continued to perform well (in the first half of the plan period, GDP growth

was about two percent per annum higher than initially anticipated), the perception that Batswana were being

sidelined in the process of development intensified. It was appropriate that this concern was reflected in the

MTR and it was anticipated that certain special measures would be introduced. At the same time, however, it

was clear that the main emphasis would continue to be on effective education and training to enable Batswana to

compete in business, rather than protection from such competition.

During the period covered by the MTR, development spending was characterised by ‘front-end loading’, which

attempted to reduce the backlog of delayed projects. This had put considerable strain on the limited resources,

especially skilled manpower, available to the Government and private sector contractors. As a result, serious

problems of cost escalation and poor work quality emerged. Costs also increased because, in many instances,

the initial estimates of projects’ outlays and scope were inadequate. Government has clearly recognised the

problem, but the practical challenges of achieving the necessary financial discipline remain very great. That

there is continued pent-up demand for further public spending, was clear when the MTR was discussed by

Parliament and was not approved until some proposals to cut back on the level of development spending had

been amended to include additional projects. For this reason, there may remain the risk that some of the problems

associated with rapid spending will continue. While including these revisions in its budget for the rest of NDP 8,

the Government was very careful to stress the importance of the related elements in the MTR, in particular, the

need to give more priority to maintaining the current stock of public infrastructure and introducing meaningful

measures of cost recovery.

49

Chapter 1

from the establishment of new entities thatwould implement specific policy objectives,to reviews of some existing policies.

2.2 In putting together the Budget for 2001/02 theGovernment was faced with the challenge ofreconciling competing objectives. On the onehand, there were strong demands forincreased spending, while on the other, therewere compelling reasons for slowing downexpenditure. The need for a rise inexpenditure emanated from two principalsources. First, the imperative of meeting thechallenges posed by national emergencies,notably, the human and economic costsarising from the HIV/AIDS epidemic and thedamage caused by the severe flooding in2000. Second, as a result of revisions to theNDP8, the Government was committed toscheduling several public infrastructureprogrammes earlier than had originally beenintended.

2.3 These demands were fuelled further by thebuoyancy of Government revenues over theprevious two years, which resulted in budgetsurpluses that were much healthier thanoriginally anticipated. However, the extent towhich the fiscal surpluses can supportarguments for a rapidly acceleratedprogramme of public spending is limited. Themain source of higher revenues has been theGovernment’s share of receipts from diamondexports, and the established policy is thatsuch revenue should be used only forinvestment. Therefore, while the capital costcomponent of additional spending may becovered easily by development outlays, therelated recurrent costs would, in most cases9,need to be met from other revenue sources,which have not, as yet, been growing at arapid rate.

2.4 At the same time, the reasons forGovernment’s restraint in spending during2000/01 remain valid. Rapid implementationof public spending programmes risksescalating costs and poor work quality; andwhen infrastructure projects are completed,the recurrent costs of their operation and

maintenance require additional budgetaryallocations. Moreover, in both the short- andlong-term, the rise in Government’s demandson national resources risks crowding out theprivate sector, thereby jeopardising theobjective of economic diversification.

2.5 In the event, demands for increased spendingprevailed and the development budget wasincreased significantly compared to 2000/01.For the remaining two years of the plan, anadditional P5.5 billion has been budgeted, anincrease of 31.0 percent over the previouslyagreed total of P17.9 billion. However, whileproposing the rise in expenditure, it was alsoannounced that such spending would beaccompanied by other measures that, ifcarried out, will have important implicationsfor future budgets.

2.6 Among the measures taken was the need toensure that the maintenance costs aremonitored and managed very carefully.Consequently, all ministries were directed toprepare, by June 2001, consolidatedrequirements for dealing with the backlog ofmaintenance costs. Thereafter, an acceleratedmaintenance programme would be preparedbased on these needs. It was further indicatedthat the funding of the maintenanceprogramme would take priority in futurebudgets, over further increases indevelopment spending.

2.7 Several references were made to the need tointroduce measures of cost recovery in health,education, sports facilities and road usage.More generally, the Speech emphasised thatthe MTR, while allowing additionalspending, had also stressed the need forintroducing cost recovery, and that this wasan integral part of the policy package that hadbeen approved by Parliament.

2.8 With regard to cost recovery, twoobservations are appropriate. First, even ifcost recovery is introduced in a way thathelps to ensure that the budget is sustainablein the long term and that public infrastructureis properly maintained, this does not deal

9 This qualification is important. Under the policy, recurrent costs associated with education and health are regarded as investment. Therefore, tothe extent that additional spending is concentrated in these areas, mineral revenues can be used to meet the entire cost.

50


with the problem that Government will beabsorbing additional resources, possibly atthe expense of the private sector. Second,while the principle of cost recovery may havebeen agreed upon, the details are still beingfinalised. Initially, it was decided to chargeschool fees for foreign children attendingstate schools in Botswana and some verylimited measures were introduced in 2000 toraise funds for road maintenance10. Otherproposals are still at the consultation stage.

2.9 In view of the seriousness of the HIV/AIDSepidemic in Botswana, the Speechaccordingly stressed the importance ofallocating appropriate resources to supportwell-thought-out programmes to mitigate theimpact of the epidemic. Priority was given toenhancing the capacity of the health facilitiesto deal with patients with HIV/AIDS-relatedconditions.11 For this reason, a programme ofhospital upgrading is to be implementedtogether with complementary measures toease the shortage of health personnel.

2.10 Moreover, the recently established NationalAIDS Coordinating Agency (NACA) isdrawing up a National HIV/AIDS Care andPrevention Plan, which is to be completed bymid-2001. An integral part of the plan iscoordination of the national effort to combatthe pandemic with assistance from externalparties including charitable foundations,academic institutions and pharmaceuticalcompanies. Several such partnerships havealready been established. With the nationalplan still under preparation, the extent ofvarious programmes is being finalised. It wasfor this reason that the Budget Speechindicated that further allocations of fundsmight be needed later in the year to meetadditional costs that may arise, including thepossible provision of anti-retroviral drugs ona more widespread basis to HIV/AIDSsufferers, the feasibility of which is still beingassessed.12

2.11 During 2000 the privatisation policy wasextensively discussed and approved byParliament. Since then, the Government hastaken steps to begin implementing the policywith the initial step of establishing a PublicEnterprise Evaluation and PrivatisationAgency (PEEPA) and a chief executiveofficer is to be appointed early in 2001. TheGovernment has also conducted programmesof consultation and public education on theprivatisation process.

2.12 While a masterplan for privatisation is to bedrawn up by PEEPA as one of its first tasks,it was announced that the BotswanaTelecommunications Corporation (BTC) waslikely to be an early candidate forprivatisation, especially in view of the factthat the corporation has performed poorly,both technically and financially at a timewhen an efficient telecommunications systemis increasingly an essential prerequisite in theglobal economy.

2.13 The already initiated privatisation of AirBotswana progressed further during 2000.With technical assistance from theInternational Finance Corporation (IFC) aslead advisor, necessary reviews andconsultations took place, and in December2000 a preliminary background memorandumwas issued inviting expressions of interestfrom potential strategic investors. The wholeprivatisation process, which will include theselection of a strategic investor and an initialpublic offering of shares in the airline, isscheduled to take place during 2001.

2.14 During the past few years, the subject ofeconomic empowerment of citizens has beendebated widely. The need for citizeneconomic empowerment is in response to awidespread perception that Batswana areplaying only a secondary role in the economicdevelopment of the country, and that

10 These measures, which included an increase in vehicle registration fees, are limited in the sense that funds raised will only cover a small portionof total maintenance costs. According to the Speech, the measures will raise an additional P30 million per annum, while in 1999 an independentreport estimated that the cost of maintaining the country’s core road network, was at that time, in the region of P250 million.

11 A study conducted jointly by the Government and the United Nations Development Programme (UNDP) on the impact of AIDS had estimatedthat in 1998 more than half of the patients in hospital wards were suffering from such conditions.

12 Such drugs are currently available to victims of rape, those involved in hospital accidents and as part of the mother-to-child-transmissionprevention programme.

51

Chapter 1

economic power is concentrated in the handsof foreign nationals and businesses. Aparticular concern is that even whenBatswana with necessary skills are available,they are often overlooked in favour offoreigners.

2.15 The Budget Speech addressed this issue byannouncing a series of initiatives to promotecitizen owned business ventures, includingthe establishment of:

• a system of reservation and preferencefor citizens in awarding consultancycontracts. The preferences will be anextension of the system already in placefor construction projects;

• a refinancing of the micro-lending fundfor Small, Medium and MicroEnterprises (SMMEs). An additionalP70 million will be committed followingthe full utilisation of the initial P150million during 2000. Funds will also beprovided to improve the assistance givento borrowers and monitoring of projectsthat are funded. In addition, it wasannounced that tougher measures wouldbe taken to recover repayment arrears;

• an autonomous Citizen EntrepreneurDevelopment Agency (CEDA). TheAgency will take over from Governmentboth the responsibility of providingassistance to SMMEs and the activity ofthe Financial Assistance Policy (FAP).The financial support provided underFAP through grants will be discontinuedand replaced by subsidised loans, withthe interest rate and the repaymentperiod depending on the size of theloan.13 These loans will be available onlyto citizen-owned businesses. However, aventure capital fund will also beestablished under CEDA, which will beavailable to joint ventures betweencitizen and foreign investors. It isanticipated that CEDA will undertakementoring and monitoring of the

enterprises that it finances in order toincrease the survival rate of theseenterprises; and

• a Citizen Entrepreneur MortgageAssistance Equity Fund (CEMAEF).The fund will take equity stakes incitizen owned properties which arethreatened by loan foreclosure, in orderto prevent ownership of the assets beingtransferred to foreigners.

2.16 The operational details of the schemes willsubsequently be developed. However, twoobservations at this stage might beappropriate. First, these measures concentrateon citizen economic empowerment in termsof business ownership. This is important, butit is only one aspect of empowerment, whichis likely to apply only to a minority of thepopulation. For most Batswana, gainingaccess to worthwhile employmentopportunities is the most important objective.An important test of these schemes will,therefore, be the extent to which theycontribute to employment growth, as well asstrengthening citizen ownership of businessactivities.

2.17 Second, pursuing the objective ofempowerment should not distract fromaddressing the fundamental difficulties thatcan accompany the sort of assistance that isto be provided. For instance, there may begood reasons to exclude foreigners fromreceiving the assistance provided throughFAP. But the other problems that FAP hadbeen facing, such as poor performance,insufficient monitoring and abuse of fundsshould also be addressed.

2.18 With regard to CEMAEF, the criteria foradministering the fund will determine theusefulness of the scheme. There may be acase for providing such assistance when thevolatility of the property market underminesthe prospects of a project that is basicallyviable. But there is a danger that propertydevelopers, if they perceive that support will

13 The SMME category will be broadened to include loans up to P150 000 at an interest rate of 5 percent (compared to the current ceiling of P20 000and an interest rate of 15 percent). The interest rate on medium scale projects, with loans of up to P2 million, will attract an interest rate of 7.5percent.

52


be easily forthcoming when they run intodifficulties, will embark on projects withouttaking proper account of the risks involved.

2.19 While promoting citizen economicempowerment, the Speech also reiterated theGovernment’s belief in attracting foreigninvestors and workers, who can provide themuch needed financial and human capital. Tothis end, a programme to rationalise andimprove the efficiency of the system underwhich work and residence permits are issuedwill be undertaken during 2001. It isrecognised that Botswana needs externalresources for development.

2.20 A number of policy reviews were announcedin the Budget Speech. These are likely toform an important input into NDP 9, thepreparation of which is scheduled to beginlater in 2001. The announcements included:

• a strategic review of the Botswana MeatCommission (BMC). The Commission,which operates under the BMC Act of1965, has been facing problems ofsecuring sufficient purchases fromfarmers to make its operations viable.Generally, it has not been able to fulfilits quota for preferential market accessto the EU, which is the principal sourceof revenue, and the capacity of theabattoirs has been significantly under-utilised. For its part, the BMC believesthat it is disadvantaged by the way it istaxed while, on the other hand, theCommission’s monopoly over beefexports is being questioned. The reviewwill cover all these aspects of BMC’soperations;

• a review of the 1973 Rural DevelopmentPolicy has already been commissionedand a report is expected by mid-2001.The review will propose updates to thepolicy in order to take into account theperceived inadequacies of the existingpolicy, the significant changes to theeconomy since 1973 and the aspirationsof Vision 2016. Among the objectives ofthe review will be to addressissues such as rural unemployment,

underemployment and povertyalleviation;

• an assessment of the effectiveness ofGovernment’s programmes to supportthe agricultural sector will beundertaken. There is great concern thatthe substantial financial allocations tothese programmes have not produced thedesired results in agriculturaldevelopment; and

• an eco-tourism strategy is to bedeveloped based on the BotswanaTourism Development Programme,which identified the potential for tourismbased on cultural, archaeological andhistorical attractions.

2.21 In addition to the policy reviews underwayor those to be commissioned, the Governmentis in the process of considering therecommendations of completed reports.Among the reports are the Science andTechnology Policy and proposals toreorganise the Ministry of Commerce andIndustry. Policy decisions regarding bothissues are expected during the year, and theBudget Speech indicated that theimplementation of the Science andTechnology Policy might require extra fundsover and above those already included in theBudget.

2.22 The next Population and Housing Census willtake place in 2001. After the completion ofthe Census, it is expected that a thirdHousehold Income and Expenditure Survey(HIES) will be undertaken. Given the majoreconomic and technological changes thathave taken place in recent years, significantchanges since the last HIES was conductedin 1993/94 are anticipated. The HIES willprovide information on key issues includingpoverty and income distribution. It will alsobe a basis for an update of the basket ofgoods used to calculate the Consumer PriceIndex (CPI).

53

Chapter 1

Public Finances

2.23 The Budget Speech presented details for thefinal outturn for the 1999/00 financial year,the revised estimates for 2000/01 and theproposed budget for 2001/02 as summarisedin Table 1.2.

The 1999/00 Final Budget

2.24 The final results for 1999/00 fiscal year showa surplus of P1 536 million. This isconsiderably higher than the P510 millionthat was forecast early in 2000 and a turnaround of nearly P2 billion compared to theoriginal budget which had shown a deficit ofP400 million. The principal cause of themove from a deficit to a surplus was anincrease in mineral revenues, which were upby P1 851 million (38.2 percent) on theoriginal budget. Moreover, the surplus wasmuch larger than in the revised estimates dueto lower spending than budgeted. Thedevelopment budget was underspent by P418million (10.8 percent), maintaining the trendof recent years, while the recurrentexpenditure was P330 million (4.5 percent)below budget. The recurrent underspending

may have resulted from under-utilisation ofadditional resources that had been madeavailable for social programmes, includingthe cost of countering HIV/AIDS.14

The Revised 2000/01 Budget

2.25 The budget for 2000/01 is projected to showa surplus of P1 082 million compared to P47million in the original budget. As was thecase with the 1999/00 budget, the mainreason for the improved outturn wasincreased mineral revenues, the estimate forwhich rose by P1 270 million. The revenuesbenefited from the depreciation of the Pulaagainst the US dollar and the recovery of theinternational diamond markets during 2000.In addition, both non-mineral income tax andsales tax revenues were higher than theoriginal budget, reflecting the continuedbuoyancy of the economy. However, revenuefrom the customs pool was lower due to thestrengthening of the Pula against the randduring the year.

2.26 In the revised estimates for 2000/01,expenditure was slightly higher than in theoriginal budget; however, the rate of increase

14 See Bank of Botswana Annual Report 1999 (p49). One of the problems faced by Government is that, due to the stigma that is still attached toHIV/AIDS sufferers, the take up rate for these programmes of support is often low.

54


was slower than in previous years. The lowergrowth reflected the expenditure controlpolicy introduced at the time of the 2000Budget Speech, which reduced the extent ofsupplementary budget approvals during theyear. Nevertheless, despite the smaller rate ofexpenditure increase, the revised final outturnmay well, once again, show substantialunderspending resulting in a higher budgetsurplus. In the first nine months of the fiscalyear, only 68 percent of the revisedbudget had been spent, mainly due tothe development outlays for which theproportion was 63 percent. While someacceleration of spending may be expected inthe second half of the year, past experiencesuggests that the budgeted funds may not befully utilised.15

The 2001/02 Budget

2.27 A deficit of P527 million is budgeted for2001/02. The deficit is expected to be acombined result of a P2 203 million (18.5percent) increase in expenditure over therevised estimates for 2000/01 and a slowergrowth rate in revenue. Of the totalexpenditure, recurrent outlays are projectedto rise by P1 134 million (13.8 percent),while the increase in development spendingis P1 082 million (29.8 percent).16 Theallocations for recurrent spending, however,did not take into account the effect of anyincrease in the salaries of public employees,which, unlike past practice, was notannounced in the Budget Speech (See below).The Speech also indicated areas whereadditional spending might need to beauthorised during the year. In addition toareas already mentioned, this may includedrought relief following shortfalls in rainfallduring the last few months of 2000 and early2001.

2.28 The very large increase in allocations fordevelopment spending is explained by thevarious demands described earlier. Chart 1.4shows the real growth rates of spending since

1997/98, the first year of NDP 8. It is clearfrom the chart that the brakes applied ondevelopment spending in 2000/01 were onlytemporary. The rapid growth of spendingprojected for 2001/02, if achieved, will be asubstantial fiscal stimulus to the economy,which may have implications in other areas,including the conduct of monetary policy.

2.29 In nominal terms, the total estimated cost(TEC) of the NDP 8 development budget hasbeen revised from P11.8 billion to P23.4billion, an increase of 98 percent. However,the development account has typically beencharacterised by underspending. In the firstthree years of the plan, only P9.0 billion wasspent. Even if the budgeted P4 709 millionis spent in 2001/02, spending in 2002/03 willneed to be P5 958 million, a growth of 26.5percent, if the TEC is to be met.

2.30 The additional outlays of P5.5 billion to theNDP 8 TEC reflect a variety of priorities.These are, to a certain extent, shown in Table1.3 which gives the major allocations amongministries. The greater priority accorded tohealth is reflected in the budget for theMinistry of Health, which has been more thandoubled in the face of HIV/AIDS. However,as is clear from the ‘comments’ column in thetable, the allocations by ministry do not fullyreflect the sectoral shares. For instance, theallocation outlays for the Ministry of Local

15 As a very simple illustrative calculation, if spending in the last quarter of 2000/01 were to continue at the same rate as for the rest of the year,there would be an expenditure shortfall of P1 083 million (9.1 percent) compared to the revised budget. If revenues were on target, then thebudget surplus would nearly double from P1 082 million to P2 135 million.

16 The balance is made up of net lending and FAP grants, which together show a small decline.

CHART 1.4: REAL GROWTH IN GOVERNMENTSPENDING DURING NDP 8

-5%

0%

5%

10%

15%

20%

25%

1997/98 1998/99 1999/00 2000/01 2001/02

Period

DevelopmentRecurrentTotal

55

Chapter 1

17 This time it includes a new headquarters for the Ministry of Commerce and Industry, which has been brought forward from NDP 9.

Government also reflect its involvement inparts of programmes that involve otherministries, including the upgrading of waterand sanitation systems, as well as projects forthe construction of primary schools and ruralroads. Similarly, the increase in funding forthe Ministry of Lands and Housing is mostlydue to the budget for Government offices, aproject which has, once again, been increasedin scope.17

2.31 As already pointed out, the Budget Speechdid not include details of any adjustments topublic service salaries. Instead, it wasannounced that a review was underway tocompare the conditions of service for publicofficials against prevailing market rates. Thereview was prompted by the concern that,despite the implementation of therecommendations of the 1998 SalariesReview Commission and the introduction of

various special schemes of service,Government continues to experience highrates of attrition among certain categories ofits employees. Therefore, the exercise wasscheduled to be undertaken urgently,presumably in order to minimise the delay inannouncing any salary adjustment.

2.32 Conducting such a review may well havecreated an impression that a pay adjustment,that more than compensates for inflation, isin the offing. However, in determining anyaward it should be borne in mind thatGovernment has difficulty retainingemployees due to demand from a buoyantprivate sector for labour skills that are in shortsupply. Given the Government’s role as theeconomy’s largest employer, any significantadjustments that are made to its workers’ paystructure will also lead to feedbacks intoprivate sector wages, which may affect

56


18 Technically, the transaction shows up in the financing of the budget deficit with a decline in Government cash balances being matched by apositive entry in the ‘other financing’ item of the accounts.

19 For instance, the VAT-like Goods and Services Tax that was introduced in Australia in 2000, has run into serious problems. In particular, theadministrative requirements for small businesses in filing frequent and complex returns have proved burdensome.

prospects for employment growth and furtherdiversification of the economy.

2.33 Also related to the conditions of service forpublic servants, plans to establish acontributory funded pension scheme forGovernment workers, reached an advancedstage. The Botswana Public Officers PensionFund was registered and a Board of Trusteesappointed. An actuarial evaluation ofGovernment’s outstanding pension liabilitieswas expected to be completed by March2001, and during the year the necessaryrevisions to the relevant legislation will bemade. During 2001/02, the Governmentbudgeted two separate financial contributionsto the fund. First, the recurrent budgetprovided for P150 million as the requirementfor the year. Second, a transfer of P500million will be made as an initial contributiontowards covering outstanding liabilities.However, the latter payment is not part of the2001/02 budget18. Nevertheless, it couldconstitute a fiscal stimulus to the economy asthe balances will no longer be held at theBank of Botswana but will instead, beinvested by the pension fund in both domesticand offshore assets.

Fiscal Legislation

2.34 The current tax bands for levying personalincome tax at rates between zero and 25percent were established in 1997. Since then,inflation has eroded their real value.Therefore, in order to compensate for the lossin purchasing power, both the threshold forincome tax payment and the brackets atwhich the higher rates of tax are introduced,are to be increased by 25 percent to P25 000and P18 750, respectively. As a result, allincomes of less than P25 000 per annum willbe tax exempt and a tax reduction of P3 125per year will be applicable to salaries ofP100 000 and above.

2.35 In addition to this inflation-relatedadjustment, a number of other changes wereannounced for the Income Tax Act aimed ata number of different objectives, including:

• Correction of anomalies: the Act will berevised to ensure that the legal basis onwhich diamond mining is subject tocompany income tax is clarified;

• Encouraging savings: currently, bothemployers and individuals are allowedtax free contributions to approvedsuperannuation schemes. The tax freeamounts are based on a maximumpercentage of employee earnings, andare also subject to a ceiling of P9 000per annum. The real value of this sumhas been eroded by inflation, and for thisreason, the ceiling will be removed;

• Curbing tax evasion: measures toprevent individuals and businessesleaving the country while not havingsettled their tax liabilities will bestrengthened; and

• Levelling the playing field: the way thataircraft leases are taxed in Botswanaputs local airline operations at adisadvantage compared to non-residentoperators. Such leases will now be madeexempt from tax. This initiative mightenhance the attractiveness of AirBotswana’s privatisation.

2.36 The necessary legislation for the introductionof Value Added Tax (VAT) was passed byParliament in 2000. The current intention isthat the tax will actually be introduced in July2002, a revised schedule that is later thaninitially planned. The extra time needed priorto the introduction of the tax will allow formore extensive consultations with, andeducation of, businesses that will be affectedby the tax, as well as allow for theadministrative machinery to be properly putin place. The preparatory arrangements areessential, as experience elsewhere has shownthat the potential advantages of VAT canquickly be eroded if the appropriatearrangements are not put in place.19

57

Chapter 1

CHART 1.5: BoBCs OUTSTANDING

Bank's (own account) Bank's (clients) NBFIs

0

400

800

1200

1600

2000

2400

2800

3200

3600

4000

4400

Period

1998

Feb

Mar

Apr

May Jun

Jul

Aug

Sep Oct

Nov

Dec

1999

Feb

Mar

Apr

May Jun

Jul

Aug

Sep Oct

Nov

Dec

2000

Feb

Mar

Apr

May Jun

Jul

Aug

Sep Oct

Nov

Dec

Pul

a M

illio

n

Private Sector

3. MONEY AND CAPITAL MARKETS

3.1 There was a significant reduction in thegrowth rates of monetary aggregates in 2000,despite an acceleration in nominal incomegrowth and the rise in net foreign assets,which grew by 17 percent in 2000 comparedto 8 percent in 1999. The increase in netforeign assets was attributed mainly to thebuoyancy of the trade account following arise in diamond exports and the depreciationof the Pula against major trading currencies,which outweighed an increase in net outflowson the services and financial accounts of thebalance of payments. However, the potentialmonetary expansion impact of the increase innet foreign assets was offset by a substantialincrease in the level of Government balancesat the Bank of Botswana, and a decline incredit expansion to the private sector. As aresult, the increase in net foreign assets wasalmost entirely offset by the decline in netdomestic credit and valuation adjustments.The reduction in supply factors wascombined with the outflows in respect ofpayments with the result that growth in broadmoney, M4, fell to zero in 2000 compared to26 percent in 1999.

Monetary Policy

3.2 In response to the rise in inflation, monetarypolicy remained tight throughout the year. Inan endeavour to curb growth in credit, andultimately inflation, the Bank raised the BankRate twice during the year, from 13.25percent to 13.75 percent in February and to14.25 percent in October 2000.Correspondingly, commercial banksresponded by adjusting their lending anddeposit rates upwards, albeit by smallermargins for deposit rates.

3.3 To supplement the effectiveness of theincrease in the Bank Rate in controlling creditexpansion, open market operations (i.e. salesand purchases of Bank of BotswanaCertificates (BoBCs)) were conducted toabsorb the excess liquidity, and to assist insteering interest rates in the desired direction.There were 11 auctions of BoBCs, at which

papers ranging in maturities from 119 to 364days were issued.

3.4 However, total outstanding BoBCs declinedas at the end of December 2000 to P3 712.4million from P4 230.2 million in December1999. The drop of 12.2 percent in BoBCsoutstanding in 2000 contrasted with a rise of30.3 percent in 1999. Commercial bankscontinued to dominate the overall holdings ofBoBCs, though their portfolio declined by25.4 percent to P1 272.8 million in December2000. BoBCs held on behalf of clientsincreased by 9.7 percent, while the portfolioof other financial institutions decreased by10.7 percent. The other private sectorholdings of BoBCs fell by 13.7 percent toP1 180.9 million in December 2000 fromP1 367.7 million in December 1999.

3.5 The open market operations weresupplemented by repurchase agreements(Repos), reverse repurchase agreements(Reverse Repos) and the secured lendingfacility (SLF). The facilities were used tosmoothen short-term liquidity fluctuations inthe banking system between auctions.

Real Interest Rates

3.6 Real interest rates on 3-month BoBCs rosefrom 3.3 percent in December 1999 to 3.7percent in December 2000. The rate washigher than the comparable real interest ratesin South Africa20 (1.3 percent), the USA (1.3percent) and the UK (2.8 percent). The realinterest rate on 88-day deposits was 1.4

20 Deflated using core inflation.

58


CHART 1.6: REAL MONEY MARKET INTEREST RATES INBOTSWANA, S.AFRICA, UK, USA (YEAR END)

1997 1998 1999 2000

Per

cent

0

1

2

3

4

5

6

7

8

9

10

Botswana USAS. Africa UK

CHART 1.7: GROWTH RATES OF CREDIT

-10

0

10

20

30

40

50

60

70

80

End of Period

1998

Feb

Mar

Apr

May Jun

Jul

Aug

Sep Oct

Nov

Dec

1999

Feb

Mar

Apr

May

Cre

dit G

row

th R

ates

(%

)

Jun

Jul

Aug

Sep Oct

Nov

Dec

2000

Feb

Mar

Apr

May Jun

Jul

Aug

Sep Oct

Nov

Dec

Households Private BusinessTotal Credit

percent at the end of 2000 compared to 0.7percent at the end of 1999.

Domestic Credit

3.7 Growth of total commercial bank creditmaintained a downward trend throughout theyear, expanding by 17.7 percent in the twelvemonths to December 2000 compared to 41.4percent in 1999. The downward trend was inresponse to both a tight monetary policy andexpectations of lower growth in the non-mining sector of the economy. Credit to thehousehold sector rose at a reduced rate of21.8 percent in December 2000 compared to44.6 percent in 1999, while lending to privatesector businesses increased by 11.6 percentagainst 40.7 percent in the previous year.

Within the total, parastatal lending declinedsubstantially by 13.2 percent, a turnaroundfrom an increase of 98.7 percent in theprevious year, reflecting a levelling off ofrecourse to the banking system, following theinitial response to Government policy of

discouraging the sector from relying onfunding from the Government Public DebtService Fund (PDSF).

Money Supply

3.8 The growth rates of all categories ofmonetary aggregates declined during 2000compared to 1999 (Charts 1.8a and 1.8b). Theslowdown in the rate of expansion was aresult of the increase in Government balancesat the Bank of Botswana (22.5 percent)during this period, which resulted from adeceleration in the growth of Governmentexpenditure as well as outflows in respect ofprivate sector external payments. Narrowmoney (M1), which comprises currencyoutside banks plus demand deposits,decreased by 1.2 percent in 2000 against arise of 16.1 percent in 1999. For M2, definedas M1 plus savings and term deposits, therewas virtually no change over the yearcompared to an increase of 25.3 percent in1999, while M3 (M2 plus BoBCs held by thenon-bank private sector) fell by 1.0 percent,down from an increase of 27.1 percent in1999. The broadest measure of money supply,M4, which consists of M3 and foreigncurrency accounts (FCAs), was stable overthe twelve month period to December 2000,against an increase of 25.8 percent in 1999.

Bank of Botswana

3.9 Total assets/liabilities of the Bank ofBotswana rose by 17.4 percent during 2000to P34 033.9 million compared to an increaseof 8.9 percent in 1999. International reserves,the dominant component (99.5 percent) ofassets, grew by 17.4 percent during 2000 toreach P33 880.2 million against a rise of 8.9percent in 1999. The increase in reserves wasattributed mainly to the recovery in diamondexports as well as the depreciation of the Pulaagainst major international currencies.

3.10 The reserves are held in two tranches, thePula Fund and the Liquidity Portfolio,together with a small portion as assets at theIMF. The Pula Fund, which is the long-terminvestment portfolio, grew by 17.4 percent inDecember 2000 from P24 453.7 million in

59

Chapter 1

CHART 1.8a: 12-MONTH NOMINAL GROWTHRATES OF MONETARY AGGREGATES

-10

0

10

20

30

40

50

End of Period

Per

cent

1998

Feb

Mar

Apr

May Jun

Jul

Aug

Sep Oct

Nov

Dec

1999

Feb

Mar

Apr

May Jun

Jul

Aug

Sep Oct

Nov

Dec

2000

Feb

Mar

Apr

May Jun

Jul

Aug

Sep Oct

Nov

Dec

M1 M2

CHART 1.8b: 12-MONTH NOMINAL GROWTHRATES OF MONETARY AGGREGATES

M3 M4End of Period

1998

Feb

Mar

Apr

May

Jun

Jul

Aug

Sep Oct

Nov

Dec

1999

Feb

Mar

Apr

May

Jun

Jul

Aug

Sep Oct

Nov

Dec

2000

Feb

Mar

Apr

May

Jun

Jul

Aug

Sep Oct

Nov

Dec

-10

0

10

20

30

40

Per

cent

1999 to P28 711.6 million, while theLiquidity Portfolio increased by 18.6 percent,from P4 074.9 million in 1999 to P4 833.4million in December 2000. The assets at theIMF rose by 3.5 percent to P335.1 million inDecember 2000 from P323.7 million in 1999.

3.11 On the liabilities side, deposits (74.0 percent

of total liabilities) increased by 22.4 percentfrom P20 752.3 million in December 1999 toP25 174.4 million in December 2000. Of thetotal deposits, Government balancesincreased by 22.5 percent to P24 740.2million in December 2000 compared to agrowth of 5.1 percent in 1999. The higher rateof accumulation of Government deposits wasattributed to improved mineral revenues anda slowdown in the rate of increase inGovernment expenditure. Bank of BotswanaCertificates (BoBCs), the second largestcomponent of liabilities, declined by 12.2percent during 2000 to P3 712.4 million fromP4 230.2 million in December 1999. Thereduction occurred mostly in BoBCs held by

both banks and their customers, which fell by11.6 percent during the period.

Commercial Banks

Assets and Liabilities

3.12 Total assets/liabilities of commercial banksrose by 4.8 percent to P8 553.8 million as atend of December 2000 from P8 161.4 millionin December 1999. Loans and advancesamounted to P4 749.0 million and were 58.0percent of total assets compared to 48.4percent in 1999. Other major assets werebalances due from foreign banks (P1 392.7million) and BoBCs (P1 241.1 million) withrespective shares of 16.3 percent and 14.5percent.

3.13 Deposit liabilities of commercial banksexpanded by 2.3 percent to P6 912.3 millionas at the end of December 2000, aconsiderable slowdown from a growth rate of24.6 percent in 1999. Of the total depositliabilities, the largest portion (54.2 percent)was held by businesses followed byhouseholds (34.7 percent). The proportions ofinterest-earning deposits and demand depositswere 78.2 percent and 21.8 percent inDecember 2000 compared to 79.2 percentand 20.8 percent in December1999.

Foreign Currency Accounts (FCAs)

3.14 The most preferred currency in the FCAholdings was the US dollar, which was 77.0percent of the total (68.7 percent in December1999). This was followed by the poundsterling and South African rand, with sharesof 11.4 percent and 8.0 percent, respectively,compared to 18.9 percent and 6.3 percent in1999. South African rand deposits tend tofluctuate considerably, reflecting theutilisation of the balances mostly fortransaction purposes. Pound sterling depositshave declined steadily over the years whileUS dollar balances have generally maintainedan upward trend.

60


CHART 1.9: LENDING BY NON-BANKFINANCIAL INSTITUTIONS

0

200

400

600

800

1,000

1,200

1992 1993 1994 1995 1996 1997 1998 1999 2000

Period

BDC BBS NDB BSB

Pul

a m

illio

n

Credit Institutions and Merchant Banks

ulc (Pty) Ltd

3.15 ulc, formerly a credit institution, was duringthe year granted permission to convert into amerchant bank. Total assets/liabilities of ulcrose to P130.2 million in November 2000from P118.1 million in December 1999.Advances were the largest component ofassets, which totalled P125.8 million.

3.16 On the liabilities side, deposits were P103.1million (79.2 percent of the total) comprisingfixed deposits.

Investec Bank (Botswana) Limited

3.17 Investec Bank, a merchant bank which startedoperations in early 1999, has grownsignificantly. Its assets/liabilities amounted toP338.0 million in December 2000, asubstantial rise from P76.9 million at the endof 1999. The largest component of its assetswas inter-company debtors, amounting toP194.5 million in December 2000.

3.18 Deposits accounted for the largest share ofliabilities (77.6 percent) and amounted toP262.4 million in December 2000, aconsiderable rise from P18.7 million inDecember 1999.

Non-Bank Financial Institutions (NBFIs)

Total Lending by Non-Bank Financial Institutions

3.19 Total lending by Non-Bank FinancialInstitutions (NBFIs) increased by 10.5percent from P1 001.4 million in 1999 toP1 106.1 million in 2000, compared to anincrease of 29.7 percent in 1999. TheBotswana Development Corporation (BDC)accounted for the largest share (43.2 percent)of NBFI lending. BDC’s share was, however,below that of the previous year (49.3percent). The fall in BDC’s contribution wasmostly attributed to large provisions for baddebts. The second largest share (28.1 percent)of NBFIs credit was accounted for by theBotswana Building Society (BBS), whichincreased its relative importance in 2000 from

25.9 percent in the previous year. Similarly,the shares of the National Development Bank(NDB) and the Botswana Savings Bank(BSB) rose to 22.9 percent and 6.8 percentin 2000 from 18.4 percent and 6.4 percent inthe previous year, respectively.

Botswana Development Corporation (BDC)

3.20 Total assets/liabilities of BDC rose by 8.4percent from December 1999 to P741.6million at the end of 2000. The largestcomponent of assets was loans and advanceswhich, however, declined by 5.5 percent toP466.3 million in December 2000 fromP493.5 million at the end of the previousyear. BDC’s portfolio was adversely affectedby provisions for bad debts, which exceededP100 million following, inter alia, theliquidation of the Hyundai motor vehicleassembly plant. Other major assets weredeposits at commercial banks (P87.3 million),other investments (P83.9 million) andholdings of BoBCs (P76.5 million).

3.21 Ordinary share capital increased by 69.8percent to P485.2 million in 2000, and wasthe largest component of liabilities. Loansand advances from Government declinedconsiderably, from P261.9 million in 1999 toP154.7 million in 2000. Both the largeincrease in share capital and substantialdecline in loans from Government wereexplained by the conversion of a P100 millionPDSF loan into equity.

61

Chapter 1

Botswana Building Society (BBS)

3.22 Total assets/liabilities of BBS rose by 12.5percent in 2000 compared to 3.8 percent in1999, and were P424.2 million at the end of2000. Among the assets, mortgages - thelargest component - increased by 20.8 percentto P301.7 million, reflecting the continuedbuoyancy of the property market. Deposits atcommercial banks rose by 17.9 percent toP80.4 million while holdings of BoBCs aswell as loans and advances declined by 34.5percent and 3.3 percent to P9.7 million andP9.2 million, respectively.

3.23 The main changes in liabilities included a riseof 4.1 percent in share capital to P179.9million as at the end of December 2000.Borrowing, which amounted to P142.7million, was the second largest component ofliabilities and increased by 20.7 percent overthe twelve months to December 2000. Of theamounts borrowed, P114.7 million (80.4percent) was owed to PDSF. The liability toPDSF was, however, reduced by 3.0 percentduring 2000 and the remaining majoroutstanding obligations were in respect of abond issued in November 2000. Prospects forbusiness expansion of BBS are expected toimprove with the Parliamentary approval ofthe revised National Housing Policy (NHP)in February 2000. According to the revisedNHP, Government is expected to facilitate theactivities of the property market instead ofbeing a financier and landlord.

National Development Bank (NDB)

3.24 As a result of its restructuring, NDBbroadened the range of projects eligible forfinancing to include manufacturing, servicesand purchase of machinery, in addition to itstraditional lending to the agricultural sector.

3.25 Total assets/liabilities expanded by 14.5percent during the year to P310.4 million atthe end of December 2000, from P271.0million at the end of 1999. Loans andadvances, which comprised 81.6 percent oftotal assets, rose by 37.2 percent during theyear to reach P253.2 million. There was avery rapid (70.7 percent) increase in loans to

the property sector from P55.2 million at theend of 1999 to P94.2 million in December2000. Other sectors also increased theirrecourse to the NDB, with the trade andagriculture sub-sectors accounting for P95.7million and P49.6 million, respectively, in2000.

3.26 Accumulated profit (P168.1 million), whichrose by 32.1 percent in 2000, was the largestcomponent of liabilities at the end of the year.Loans from the PDSF fell slightly from P25.3million in December 1999 to P24.9 millionin December 2000.

Botswana Savings Bank (BSB)

3.27 The assets/liabilities of BSB expanded by 3.4percent during 2000 to P156.9 million. Loansand advances, which grew by 17.9 percentduring the year, reached P75.7 million at theend of December 2000 and comprised thebulk of the assets. Of the total loans andadvances outstanding, lending for motorvehicle purchases (51.3 percent of the total)amounted to P38.8 million, followed byresidential property loans (45.6 percent)totalling P34.5 million

3.28 Deposits, the main source of funds for BSB,amounted to P106.5 million, a growth rate of4.9 percent during 2000, and accounted for67.4 percent of total liabilities.

Other Financial Sector Developments

3.29 The Bank of Baroda was licensed during theyear as a new commercial bank. It will beginoperations in March 2001. In addition, ulc(Pty) Ltd had the mandate of its bankinglicence expanded from that of a creditinstitution to a merchant bank.

3.30 Subsequent to the launching of theInternational Financial Services Centre(IFSC) early in 2000, applications werereceived from three companies for licences tooperate in the IFSC. The applicants wereABC Holdings Limited, a bank holdingcompany; its subsidiary, the African BankingCorporation Limited; and Seed Co.International Limited. The application by

62


21 In March 2001, Moody’s awarded Botswana a sovereign credit rating of “A2-P1”. This is by far Moody’s highest sovereign rating in Africa, andis the same as ratings awarded to Israel, Greece and Slovenia. Similarly, in early April 2001 Standard and Poor’s assigned credit ratings toBotswana for long-term currency debt (A), short-term foriegn currency debt (A-1) and long term local currency debt (A+). These ratings are alsothe highest in Africa and are the same as those awarded to Greece, Cyprus, Kuwait, Malta and Slovenia.

ABC Holdings Limited for a banking licencewas conditionally approved for offshorebanking operations through its subsidiary, theAfrican Banking Corporation Limited.Furthermore, Seed Co. International Limited,a Botswana registered company, was grantedpermission to establish centralised corporateservices activities to serve its subsidiaries inthe region.

3.31 The Income Tax Act was amended to providefor a lower tax rate of 15 percent forapproved IFSC projects. All IFSC projectsare exempt from withholding taxes on interestand dividends in Botswana while CollectiveInvestment Undertakings (CIUs) are exemptfrom corporate tax.

3.32 An insurance premium financing company,the Premium Credit Botswana (Pty) Ltd,started operations in February 2000. Inassociation with the First National BankBotswana (FNBB), the insurance premiumcompany provides commercial clients with afacility to finance short-term insurancepremiums, thereby reducing the burden oflarge annual payments to the insurer. In turn,the clients have up to ten months to repayPremium Credit Botswana.

3.33 The Government decided to seek a sovereigncredit rating for the country, as part of itsstrategy to attract foreign investment.Benefits of a credit rating include theacquisition of internationally acceptedeconomic and financial performancecredentials which are considered byinternational investors. A favourable creditrating can also help to lower the cost ofinternational borrowing and improve creditterms.

3.34 Accordingly, following an announcement ofthe decision by the Minister of Finance andDevelopment Planning in the 2000 BudgetSpeech, the Government appointed JPMorgan Chase as an adviser on the ratingexercise. Two rating agencies, Moody’s andStandard and Poor’s, visited the country in

February 2001 to hold discussions with theGovernment, political and civic leaders,parastatals, private sector and otherstakeholders in preparation for the creditrating exercise21.

3.35 The interest rate charged on lending under theSmall, Medium and Micro Enterprises(SMMEs) scheme was reduced from 18.0percent to 15.0 percent with effect from April1, 2000 with the objective of enhancingaccessibility of Government programmes toBatswana. The Government-funded SMMEsfinancing programme was introduced in June1999 and is administered by the NationalDevelopment Bank (NDB).

3.36 Funds invested in Letlole National SavingsCertificates (NSCs) continued to grow duringthe year. The certificates, launched in June1999, were introduced with the objective ofpromoting a saving habit among Batswana.The NSCs are available in denominations ofP50, P250 and P500 at an interest rate of 10percent per annum. As at December 31, 2000the total value of certificates issued wasP1 648 850, with redemptions of P369 250,compared with P1 015 450 and P619 000,respectively, in 1999.

Botswana Stock Exchange

3.37 The Botswana Stock Exchange (BSE)domestic index rose by 3.9 percent during2000, much reduced from its growth of 47.6percent in 1999. The index, which was 1399.3 in December 1999, rose to 1 453.5during the year. Market capitalisation of thedomestic companies’ index rose by 7.6percent year-on-year, to P5 244.7 million atthe end of December 2000. The gain in theindex was mainly attributed to theperformance of the shares of Barclays BankBotswana, First National Bank of Botswanaand Standard Chartered Bank Botswana,while the values of the stocks of several otherlisted companies declined significantly duringthe year. The BSE was generally affected byforeign selling as investors tended to be

63

Chapter 1

22 The bonds are the BBS-01 14.25% 2005, BDC-001 14% 2004, BTC 13.75% 2008, and INV1 FRN 2001. The commercial paper is the BTCP-01/02

23 The real effective exchange rate captures the totality of Pula movements against currencies of its major trading partners, after allowing forinflation differentials between Botswana and its trading partner countries, weighted by bilateral imports and exports. It is a measure of therelative competitiveness of domestic vis-à-vis foreign goods in international markets. An increase (decrease) in the real effective exchange ratedenotes a loss of (gain in) competitiveness.

uncertain about the performance of emergingmarkets in general and the region inparticular. An offshore bank, ABC HoldingsLtd, was listed on the exchange during 2000.

3.38 The foreign companies index (FCI) declinedby 3.0 percent to 430.7 in December 2000from 443.9 at the end of December 1999. Nonew foreign companies were listed during theyear, while one company, McCarthy, was de-listed following the disposal of most of itsinvestments in Botswana.

3.39 A P50 million 5-year bond, with a couponrate of 14.25 percent, was issued onNovember 30, 2000 by Botswana BuildingSociety (BBS). The issue was under-subscribed by 46.0 percent. The BBS bondissue follows floatations by the BotswanaDevelopment Corporation (BDC) and theBotswana Telecommunications Corporation(BTC) to raise funds from the marketfollowing Government’s decision to weanparastatals off PDSF borrowing. The newissue brought the bond listings on the BSE tofour, along with one commercial paper22. Thebonds have not been actively traded on theBSE as investors have apparently preferredto hold them to maturity.

4. EXCHANGE RATES, TRADE ANDBALANCE OF PAYMENTS

Exchange Rates

4.1 The broad policy framework for thedetermination of the Pula exchange rate wasunchanged during 2000, and the thrustremained the maintenance of a stable andcompetitive real effective exchange rate forthe Pula in order to support the exportsector23.

4.2 The policy objective of stabilising the realeffective exchange rate was partially achievedduring the year. The Pula appreciated in realeffective terms by 3.0 percent during the year,

following a 2.7 percent appreciation in 1999(Chart 1.10). As a result the real effectiveexchange rate index rose to 104.4. Althoughthe real effective exchange rate hasappreciated during the past two years, it isstill relatively close to the November 1996base value of 100.0, indicating that policy tostabilise the rate has been reasonablysuccessful over this period.

4.3 Movements in the overall real effectiveexchange rate, however, mask significantlydifferent trends in bilateral real exchangerates against various trading partners (Chart1.11). Against the South African rand, thePula appreciated in real terms by 6.2 percentduring the year, largely a reflection of thenominal appreciation of the Pula against therand as the latter weakened against the USdollar. However, the Pula depreciated in realterms against most major internationalcurrencies, as the inflation differentialbetween Botswana and industrialisedeconomies was more than offset by nominalPula depreciation. Real depreciation wasparticularly marked against the US dollar (9.2percent), although overall real depreciationagainst the SDR currencies was only 3.3percent.

4.4 The relative stability in international financialmarkets in the second half of 1999 and firstquarter of 2000 was short-lived, and there

94

96

98

100

102

104

106

99J M M J S N 00J M M J S NPeriod

Inde

x: N

ovem

ber

1996

= 1

00

0

2

4

6

8

10

12

Rat

es o

f Inf

latio

n

CHART 1.10: REAL EFFECTIVE EXCHANGE RATE OFPULA, INFLATION IN BOTSWANA AND TRADINGPARTNERS, 1999 - 2000

Real Effective Botswana InflationRSA Inflation (core) SDR Inflation

64


CHART 1.12: REAL PULA EXCHANGE RATEAGAINST THE ZIMBABWE DOLLAR

80

90

100

110

120

130

140

150

160

170

180

99 J F M A M J J A S O N D 00 J F M A M J J A S O N D

End of Period

Inde

x: N

ovem

ber

1996

= 1

00

CHART 1.11: REAL PULA EXCHANGE RATESAGAINST THE RAND AND US DOLLAR

Inde

x: N

ovem

ber

1996

= 1

00

75

80

85

90

95

100

105

110

115

99 J F M A M J J A S O N D 00 J F M A M J J A S O N D

End of PeriodRand/Pula (core) US dollar/Pula

24 The fact that year-on-year changes show consistent patterns of depreciation of, say, the US dollar/rand and US dollar/Pula exchange rates orappreciation of the rand/Pula exchange rate during 2000, which would seem to indicate unidirectional movements, does not mean that theseexchange rates did not fluctuate widely. On the contrary, these exchange rates fluctuated daily, in some cases quite sharply. For example, therand, in particular, was periodically hit by speculative activity, forcing its value against the US dollar to drop each time that happened, followedby subsequent partial recovery. It is this inability of the rand to always recover fully which explains why year-on-year changes in US dollar/rand,US dollar/Pula and rand/Pula exchange rates show unidirectional movements.

was recurring volatility during the rest of200024. The exchange rate variations were dueto a combination of factors including anappreciation of the US dollar against mostinternational currencies, rising world oilprices and unfavourable regional political andeconomic developments which adverselyaffected investor sentiment towards the rand.The weakness of the rand was compoundedby a depreciation of the euro in relation to theUS dollar. By the end of the year the SouthAfrican currency had fallen, in nominalterms, by 18.9 percent against the US dollarand 14.3 percent against the SDR comparedto 4.6 percent and 2.1 percent in the previousyear.

4.5 In view of the high weight of the SouthAfrican rand in the Pula basket, thedepreciation of the rand contributed to aweakening of the Pula, which fell by 13.6percent and 9.0 percent, in nominal terms,against the US dollar and the SDR. In theprevious year the Pula lost ground against theUS dollar and the SDR by 4.0 percent and 1.0percent, respectively. The local currency alsoweakened against all other Europeancurrencies. It depreciated by about 6.0percent each against the pound sterling andthe euro, while falling by 3.3 percent againstthe yen as the latter also heavily depreciatedagainst the US dollar.

4.6 Against the Zimbabwe dollar, the Pulaappreciated strongly by 25.4 percent in 2000,contrasting with a 2.3 percent depreciationduring 1999. The appreciation mainlyreflected the effect of three devaluations ofthe Zimbabwe dollar against the US dollar,effected between August and November2000. As a result of the devaluations, theZimbabwe dollar traded at about 55Zimbabwe dollars to one US dollar (10.27Zimbabwe dollars to the Pula) at the end ofthe year, from about 38 Zimbabwe dollars tothe US dollar (7.39 Zimbabwe dollars to thePula) prior to the devaluation. Despite the

devaluations, the Zimbabwe dollar exchangerate continued to be strictly managed, leadingto an overvaluation of the currency at officialrates.

4.7 However, the real Pula exchange rate againstthe Zimbabwe dollar depreciated by 12.2percent during the year (Chart 1.12), despitethe strong nominal Pula appreciation againstthe Zimbabwe currency and a fall inZimbabwe’s inflation. This development wasexplained by the fact that Zimbabwe’sinflation continued to be very high (55.2percent in December) relative to that ofBotswana (8.7 percent).

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Overview of the Balance of Payments

4.8 There was another large current accountsurplus of P2 882.4 million in 2000 whichwas a marginal improvement on the previousyear’s performance. The large surplus wasmainly attributable to the high level ofdiamond exports. The overall surplus isforecast to increase from P1 828.9 million in1999 to P1 940.9 million in 2000.

Trade Account

4.9 The trade account was mainly influenced bydiamond exports. In 2000, overall exportsincreased by 10.8 percent from P12 292.4million in 1999 to P13 622.6 million in 2000.

Of the total, diamond exports rose by 16.2percent from P9 812.8 million in 1999 toP11 397.7 million in 2000. The futureexpansion of diamond exports depends on theability of the Diamond Trading Company(DTC)25 to absorb all of Botswana’s output,a factor which will, in turn, be influenced byworld demand. Specifically, exports will beaffected by economic recovery in Asia(principally Japan) and, to a lesser extent, thebuoyancy of European economic expansionand the success in breaking into new markets(such as China). The United States, which iscurrently experiencing an economicslowdown, absorbs more than half of theworld’s diamond supply. In 2000, diamondexports benefited from the rise in sales of

25 Formerly, Central Selling Organisation (CSO).

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26 Estimates for imports are based on actual data for only the first three months of 2000.

diamond jewellery, especially in the UnitedStates.

4.10 Copper/nickel exports also grew in 2000.Nickel prices increased from an average ofUSD3.66 per pound in 1999 to USD3.92 perpound in 2000. Similarly, copper prices rose,although at a slower rate than was the casefor nickel. There were also increases inexports of soda ash (5.6 percent) and beef(2.9 percent). However, as a result of theclosure of Hyundai motor vehicle assemblingplant, exports of vehicles fell by 75.6 percent.Shipment of textiles was also adverselyaffected by a slump in production followingclosures of some textile factories.

4.11 Imports were provisionally estimated26 tohave risen by 8.0 percent to P9 360.2 millionfrom P8 663.7 million in 1999. There wereincreases in imports of machinery andelectrical equipment, which comprised thelargest component of imports, as well as fuel.However, imports of vehicles and transportequipment are forecast to declinesignificantly due, in part, to the closure of thelocal motor vehicle assembling plant.

Current Account

4.12 As a result of the buoyant exports ofdiamonds, the current account surplus isestimated to have increased slightly to

P2 882.4 million from P2 859.2 million in1999. Of the total, the visible trade surplusincreased by 17.5 percent from P3 629.0million in 1999 to P4 262.4 million in 2000.There were, however, deficits in thetransactions on services and income accounts.

4.13 The factor services account, which coverstransportation, travel, insurance and otherprofessional services, is projected to recorda deficit of P1 024.2 million in 2000compared to P721.0 million in 1999. Thenegative balance on services is expected tobe mainly due to an increase in the cost ofimport freight.

4.14 The deficit on the income account, whichincludes compensation of employees andinvestment income, is expected to widen by16.7 percent from P1.2 billion in 1999 to P1.4billion in 2000. Among the factors affectingthe performance is a 5.4 percent decline inforeign exchange investment income due tolower rates of return in the bond market, andsignificant increases in dividend payments.

4.15 There was a decline in the surplus on currenttransfers from P1.2 billion in 1999 to anestimated P1.1 billion in 2000. The outturnlargely reflects intra-Southern AfricanCustoms Union (SACU) transactions.

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Chapter 1

Capital and Financial Accounts

4.16 The combined deficit on the capital andfinancial accounts is expected to increase by1.5 percent in 2000 as a result of the rise inthe deficit on the financial account from P1.1billion in 1999 to P1.2 billion. This will morethan offset the impact of the surplus oncapital account, which is projected to morethan double to P194 million in 2000compared to the previous year.

4.17 Capital account transactions include directinvestment, capital transfers by migrantworkers and technical assistance inflows frominternational organisations to theGovernment. The direct investmentcomponent of the financial account is forecastto record a reduced surplus of P131.2 millioncompared to P162.7 million in 1999.

Reserves

4.18 As a reflection of the buoyancy of diamondexports and the slowdown in imports, foreign

exchange reserves were P33 882 million atthe end of December 2000, an increase ofP5 028 million (16.9 percent) over December1999. The reserves were equivalent to 34months of imports of goods and services,compared to 29 months at the end of 1999.In US dollar terms, the reserves increased by1.4 percent from US$6 229 million at the endof 1999 to US$6 319 million in December2000. Generally, the good performance inreserves in 2000 was a result of the buoyancyin diamond exports.

International Investment Position (IIP)

4.19 The IIP records the stock of foreign financialassets and liabilities. The balances at the endof a period reflect both transactions andvaluation changes as well as otheradjustments during the review period.

4.20 Detailed data on the IIP are available for1999, while only aggregates are presented for2000. During 1999, the stock of Botswana’sforeign assets rose by P3.5 billion, a 9.4

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percent increase over 1998, a continuation ofthe rising trend observed since 1994. Of theP3.5 billion increase in assets, P2.4 billionwas accounted for by foreign exchangereserves. There were also substantialincreases in other investments abroad (P1.6billion). The increase in foreign exchangereserves was, to some extent, offset by adecrease in other investment assets, whichdeclined by 10.5 percent from P1.9 billion in1998 to P1.7 billion in 1999 led by a fall indeposits and trade credits.

4.21 Foreign liabilities increased by P1.6 billion in1999 following a rise of P1.8 billion in 1998.The bulk of the increase was accounted forby loans, which were mostly contracted bygovernment. There was also an increase indirect investment from P5.8 billion in 1998to P6.4 billion in 1999.

Industry and Country Classification of ForeignInvestment

4.22 Tables 1.7 and 1.8 show Botswana’s stock offoreign liabilities at the end of 1999 classifiedby industry and country of origin.27

4.23 As shown in Table 1.7, most (75 percent) ofthe foreign direct investment at the end of1999 was in the mining industry. However,the stock was 5 percent lower than in 1998but similar to that of 1997. The foreign directinvestment liabilities continued to bedominated by BCL’s indebtedness for loansand accrued interest. Wholesale and retailtrade accounted for 9.1 percent of directinvestment liabilities at the end of 1999, upby 2.7 percentage points on 1998 while theshare of manufacturing declined from 5.4percent in 1998 to 3.7 percent in 1999.Foreign investment liabilities of the financialsector increased their relative importancefrom 3.6 percent to 7.1 percent.

4.24 South Africa was the principal source ofaccumulated direct investment stocks at theend of 1999, accounting for 50.1 percent,which was 5 percentage points below that of1998. The other important source of direct

investment was the European Union, whichaccounted for 47.9 percent at the end of 1999.

4.25 Currently, the breakdown of investment bycountry of origin and industry classificationdoes not distinguish between portfolio andother investment. Therefore, all the remainingstocks of foreign liabilities not classified asdirect investment, have been shown in Table1.7 as “Other Investment”. Half of theseliabilities in 1999, a proportion which wassimilar to those for 1997 and 1998, were inrespect of general government debt, which isclassified under public administrationindustry in Table 1.7, owed to internationalorganisations.

4.26 The mining industry accounted for 24.1percent of liabilities classified as “OtherInvestment”. As was the case with directinvestment, the bulk of the mining industry“Other Investment” liabilities are BCL’sindebtedness. Manufacturing accounted for5.8 percent of “Other Investment” liabilities,down from 12 percent in 1998, while theshare of electricity, gas and water was 4.7percent at the end of 1999, a reduction fromthe proportion in 1998. The decline in theshare followed a substantial increase during1998 associated with the funding for theNorth-South Water Carrier Project.

27 There are descrepancies in the two tables between the totals for foreign directt investment and “Other Investment” due to information gaps

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Equity Non Equity Total Equity Non equity Total

North and Central America 4 627 33 414 38 041 … 188 535 188 535

United States of America 4 428 32 472 37 170 … 188 535 188 535

Europe 3 429 993 86 892 3 516 885 … 1 158 463 1 158 463

United Kingdom 1 189 842 37 237 1 227 079 … 76 288 76 288

Germany … … … … 859 354 859 354

Luxembourg 2 174 653 3 653 2 178 306 … 83 914 83 914

Other Europe 45 011 43 424 88 435 … 82 883 82 883

Asia Pacific 1 281 ... 1 281 … 280 185 280 185

Africa 344 412 3 364 657 3 709 068 1 566 404 370 405 936

South Africa 321 033 3 359 886 3 680 919 1 210 386 394 387 604

Middle East 77 290 5 350 82 640 … 71 442 71 442

Other … 116 116 90 600 2 292 675 2 383 275

Total 3 857 603 3 490 429 7 348 032 92 166 4 395 670 4 487 836

Source: Bank of Botswana

… Indicates that data were not available.

TABLE 1.8: STOCKS OF FOREIGN INVESTMENT IN BOTSWANA BY ORIGIN, END DECEMBER, 1999 (P’000)

Foreign Direct Investment Other Investment

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PART B

THEME CHAPTERS

THEME: THE CHALLENGE OFECONOMIC DIVERSIFICATION

BANK OF BOTSWANA

Part B

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Chapter

CHAPTER 2

INTRODUCTION:THE CHALLENGE OF ECONOMIC DIVERSIFICATION

1. Introduction

1.1 The choice of the theme for this year’sAnnual Report, “The Challenge of EconomicDiversification”, reflects the central role thatthe pursuit of diversification has been playingin Botswana’s economic policy frameworkfor the last decade or more. Diversificationhas been central to decisions made withregard to macroeconomic management,fiscal, monetary and exchange rate policies,as well as more focused sectoral policies,such as those relating to industrialdevelopment, and the thrust of institutionaldevelopment. Again, reflecting itsimportance, the theme of Botswana’s currentNational Development Plan, NDP 8, is“Sustainable Economic Diversification”.

1.2 Given that diversification has been pivotal topolicy choices for several years, it isopportune to consider how successful theimplementation and design of this policyfocus has been. Chapter 3 of this Report,therefore, reviews “Economic Diversification- The Track Record”. However, the coveragegoes beyond a simple review of progressmade with diversification by reflecting onother related issues. One of these issues isthat the economic environment within whichdiversification is being pursued, hasundergone many changes over the pastdecade in Botswana, regionally andinternationally. A major factor is that theprocess of the globalisation of the worldeconomy has major implications for anycountry’s development strategy. The Report,therefore, explores the relationship betweendiversification and Botswana’s place in theglobal economy.

1.3 A further issue covered in the Report is an

assessment of some of the policies that havebeen adopted in support of diversification.This arises for a number of reasons. First, assome policies have been in place for manyyears, there is merit in reviewing their impact,in conjunction with the progress made so farin achieving diversification objectives.Second, changes in the national andinternational economic environment can havea potentially major impact on appropriatepolicy choices. The external changes maystem from global economic trends,technological advances, institutional as wellas legal developments related to regional andinternational trade agreements.

1.4 Traditionally, the focus of Botswana’sdiversification policy has been on thedevelopment of the manufacturing sector.Chapter 4, “The Path to Diversification:Services or Manufacturing” reviews whetherthis approach is still appropriate, and enquireswhether, in the light of experience andrelevant developments elsewhere, a broaderapproach should be taken that is not so sector-specific but encompasses various types ofservices as well.

1.5 Any assessment of diversification covers awide range of economic policy issues.However, the Bank of Botswana, as a centralbank, has a particular interest in financialsector development and monetary policyissues. These are discussed in Chapter 5,“Financial Sector Policies for DiversifiedGrowth”. The chapter reviews theachievements in the financial sector since thepreparation of a seminal report by theGovernment of Botswana and the WorldBank on “Financial Policies for DiversifiedGrowth” in 1989, following which a widerange of reforms were introduced relating to

2

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both the development of the financial sectorand the conduct of monetary policy.

1.6 A further crucial issue in the context ofdiversification is the role of technology andhuman resource development. Most crediblediversification strategies require theupgrading of both the technological resourcesand the skills base of the country, in order totake advantage of the enabling environmentthat the general policy framework attempts tocreate. Botswana has acknowledged this needby investing large amounts of resources ineducation. The issues raised in ensuring thatlabour market as well as science andtechnology policies are supportive ofdiversification are discussed in Chapter 6,“Economic Diversification: The Role of Skillsand Technology”. Finally, Chapter 7concludes with a brief discussion of “TheRole of Government”.

1.7 This introductory chapter sets the scene forthe rest of the Report by briefly consideringtwo key issues. First, why diversify? Whatare the reasons behind this long-standingcommitment to diversification in Botswana’seconomic policy choices? Second, what isBotswana’s position in the global economy atthe beginning of the third millennium, andhow is this related to the policy objective ofeconomic diversification?

2. Why Diversify?

2.1 Over the past three decades the Botswanaeconomy has recorded impressive growthrates. However, much of this growth has beendue to the prolonged and rapid expansion ofone sector - the mining sector - and ofGovernment, which has largely been financedby the proceeds of mineral revenues. Miningand Government together account for almostone half of Gross Domestic Product (GDP).As a result, the economy remains vulnerableto the vagaries of the mineral sector,especially diamond mining. It is thisdependence upon a single sector thatunderlies the need to diversify.

2.2 While mining is by far the most importantsingle sector of the economy, at present, it is

worth recalling that this situation has notalways been the case. At independence in1966, the agricultural sector accounted forsome 40 percent of GDP. This dependence onagriculture brought with it its own problems,and the growth of diamond mining in the1970s marked, in many ways, a welcomediversification away from dependence onagriculture. But more broadly, the relativedecline of agriculture and the growth ofmining is a reminder that the Botswanaeconomy has always been undiversified,although it has changed from one dominatedby agriculture to reliance on mining.

2.3 The policy of diversification has emerged inresponse to the vulnerabilities embodied inthe current economic structure with itsdependence on mining. Despite the rapideconomic growth that has been associatedwith the development of mining, there are anumber of problems that diversification seeksto address.

2.4 Risk: an economy that is highly dependentupon any one economic commodity, sector oractivity faces higher risks of fluctuations inperformance than one with a more broadlybased structure. An agricultural economyfaces climatic and market risks. Similarly, amineral based economy, particularly if itrelies heavily on a single product, encountersrisks associated with changes in prices anddemand patterns. For instance, diamondproducers have recently been exposed to thepotential risk of consumer discontent over theso called “conflict diamonds”. Moregenerally, the prices of primary commodities,whether mineral or agricultural, tend to bevolatile, adding to the uncertainties and risksfaced by economies that are dependent uponthese commodities. The risk problem isworsened if the dominant sector is itselfundiversified. Diversification of an economy,by making it more broadly based, reduces itsvulnerability to fluctuations in the dominantsector.

2.5 Flexibility and Adjustment: all economies aresubject to external shocks, whether in themarkets for particular commodities, or as partof broader economic trends and cycles. A

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Chapter

diversified economy is likely to be in a betterposition to respond and adjust to such shocks,and is also more likely to give rise to a moreequitable structure of income distribution andgrowth.

2.6 Primary Commodity Dependence: economiesthat are dependent upon the production andexport of primary commodities have not justbeen vulnerable to volatility of prices andexport earnings, but have generallyexperienced relatively slow rates of realincome growth. Due to long-term relativeprice changes in the world economy, sucheconomies have experienced a long-termdeterioration in their commodity terms oftrade, in that the prices of their primarycommodity exports have risen more slowlythan the prices of their imports ofmanufactured goods. This is partly due totechnological changes, such as thereplacement of copper wires with fibre opticcables, which has had an adverse impact oncopper producers. Diversification away fromprimary commodities and towardsmanufactured goods and services wouldreduce vulnerability to the long-termdeteriorating trend in the commodity terms oftrade and the associated loss in real income.

2.7 Employment: although mining dominatesGDP, it is highly capital intensive and has notmade a significant contribution toemployment in Botswana. Diversificationinto more “employment-intensive” sectorswould assist in translating rapid economicgrowth into faster employment growth and,therefore, lower unemployment.

2.8 Prospects for Diamonds: Botswana hasexperienced rapid growth in diamondproduction and exports for most of the pastthree decades. But indications are that outputfrom the diamond sector is unlikely to showsignificant growth over the next decade. Ifthis happens, the sector that has provided thebasis for growth in the past is unlikely to doso to the same extent in the future. Even ifnew diamond deposits are found andexploited, the proportionate impact of newmines on GDP will be less than it was inearlier years when the economy was smaller.

Diversification - in the sense of finding new“engines of growth” for the economy - is,therefore, a prerequisite for continued growthin real incomes and employment, whichwould provide a basis for poverty reduction.

2.9 Linkages: a more diversified, broadly basedeconomy is likely to have greater domesticlinkages, i.e., a 1 percent increase in outputof any one sector will have a greater impacton GDP, the more diversified is the rest of theeconomy. Thus, a more diversified economyis more likely to be able to generate self-sustaining growth.

2.10 There is no generally accepted norm forsectoral contributions of GDP oremployment, which can be considered anideal level of diversification; however, thegeneral point is that a diversified economy isone that does not disproportionately rely onvery few sectors, a single sector, orcommodity. While certain dominant sectorsor activities may be adaptable in response tochanging market conditions, it is generallythe case that the less diversified an economy,the more vulnerable it is to the problemsindicated above.

3. Botswana in the Global Economy

3.1 Diversification has a particular relevance forsmall economies. First, small economies tendto be less diversified than larger economies.Second, they tend to be more open and,therefore, more dependent on imports, thanlarger economies. The two points are related.Due to the constraints imposed by economiesof scale effects, small economies cannotproduce as wide a range of goods for thedomestic market as is the case with largeeconomies. Therefore, in order to haveavailable a broad range of consumption andinvestment goods, there is need to import.Ability to import implies availability offoreign exchange, which in turn depends onexports. Therefore, the “engines of growth”in such an economy must predominantly beexport goods and/or services. Any growth thatdoes not have a high export componentwould soon encounter a balance of paymentsconstraint. Available opportunities for import

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substitution would soon be exhausted andthereafter grow in line with the economy asa whole. Domestic demand, therefore, hasvery limited potential to maintain sustainablegrowth.

3.2 This is one reason why Botswana’s policy ofdiversification has always focused on exports.Indeed, it is clear that Botswana’s rapidgrowth has been export-led, and althoughnon-export sectors have also expandedrapidly, their performance has largely been“following” export sector growth. Futuregrowth must also be export-led and,therefore, economic diversification impliesexport diversification. This point is discussedfurther in Chapter 4.

3.3 The emphasis on export-led growth does notjust apply to Botswana. Recent years haveseen the global economy become moreintegrated, with reduced barriers tointernational trade and capital flows. As aresult, global trade has grown faster thanglobal output, indicating that economies ingeneral, are becoming more open and tradeoriented. Simultaneously, flows ofinternational investment have becomeincreasingly important in stimulating andfacilitating trade.

3.4 The growth of world trade has two importantconsequences. First, efficiency is important.As trade barriers come down and the globaleconomy becomes more competitive,inefficient industries will find it more andmore difficult to survive. This considerationunderlines the importance of improvingproductivity and more generally, ensuringthat economic distortions that may reducecompetitiveness are minimised. Second,countries should increasingly specialise inproducing goods and services in which theyhave a comparative advantage; this may, ofcourse, change over time.

3.5 In this regard, the framework of internationaltrade agreements, within which Botswanaoperates, is undergoing significant change.Historically, the most important tradeagreement has been the Southern AfricanCustoms Union (SACU) Agreement, which

provided for duty-free trade with SouthAfrica and other small economies in theregion (Lesotho, Namibia and Swaziland) anda relatively high degree of protection againstimports from the rest of the world. In recentyears, SACU tariffs have been progressivelyreduced, partly in response to membership ofthe World Trade Organisation (WTO), andthis has increased competition from globalimports in the SACU countries. The SACUAgreement is currently being renegotiated;while it is anticipated that the basicprovisions ensuring free trade within theSACU area will be preserved, other aspects(such as governance and revenue distribution)may be altered.

3.6 The process of tariff reduction in the SACUarea has been accentuated by the Free TradeAgreement between South Africa and theEuropean Union (EU), under which barriersto imports into the SACU area from the EUare being progressively reduced. The SADCFree Trade Agreement will also reducebarriers to imports into the SACU area, aswell as providing improved access for exportsto the SADC market. The Lomé Convention,under which many African, Caribbean andPacific (ACP) states enjoy privileged accessto the EU market, is also coming to an endand is likely to be replaced by a newagreement under which access to the EU forACP countries will be tied to reciprocalaccess to ACP markets for EU exporters.Finally, changes taking place under theauspices of the WTO and various rounds ofinternational trade negotiations will also havea major impact in the areas of trade inagricultural products and textiles, which havehitherto been subject to various protectionagreements. These changes will also impacton trade in services, as well as in trade-relatedareas such as the protection of intellectualproperty rights and investment incentives.

3.7 All these developments will have to be takenaccount of as Botswana considers how topromote diversification. Not only will thechanges brought about by these developmentsbe extensive, they are also likely to be rapid.One of the inevitable consequences ofglobalisation is that events taking place in

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various parts of the world economy haveeffects that spread widely and quicklythroughout the world. Therefore, in order forfirms and industries to survive, they have tobe not just efficient but also adaptable.Decisions have to be taken and changesimplemented quickly - a requirement thatfaces both firms and governments that set thepolicy environment within which firmsoperate.

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79

Chapter

1. Introduction: Measures of Diversification

1.1 The previous chapter identified reasons forthe relevance of the objective ofdiversification to the needs of the Botswanaeconomy. This chapter looks at the extent towhich such diversification has already beenachieved and reviews the various policies thatthe Government has introduced with thespecific aim of supporting diversification.

1.2 Fundamental to the analysis of the extent ofdiversification is the choice of measures, orindicators, of diversification. This might seemself-evident, but it is a point that is easilyoverlooked. In Botswana, diversification isoften equated with reducing dependence ondiamond mining. The many gains thatdiamonds have brought to the economynotwithstanding, the heavy reliance on thissector as a source of wealth creation andeconomic growth, has raised legitimateconcerns about over-dependence. In thiscontext, the first place to look for signs ofdiversification is the share of mining, and thediamond sub-sector in particular, in majoreconomic aggregates including GDP,Government revenue, employment and trade.This is the subject of the next section.

1.3 This focus on the economic impact of themining sector, however, does not tell thewhole story. Diamond mining is currently thedominant economic activity in Botswana, butthis was not always the case. As late as1977/78, agriculture was still the largestsector in the economy, and rapid growth ofdiamond mining was the means ofdiversifying away from a sector characterisedby slow growth, volatile output and lowincomes. But the very success of this trendresulted in concentration in diamonds, the

reduction of which is now the primaryobjective of diversification. Therefore, toregard diversification purely in terms of theneed to reduce the current dependence ondiamonds risks being too one-dimensional.For instance, there is a substantive differencebetween whether dependence on diamonds isreplaced by dependence on another dominantsector or by growth across a wide range ofeconomic activities. For this reason, thechapter also includes broader measures ofdiversification.

2. Dominance of the Minerals Sector

2.1 Chart 3.1 shows the changing importance ofthe mining sector between 1980 and 2000. Itincludes the sector’s share in four differentkey macroeconomic indicators: GDP, formalemployment, merchandise exports andgovernment revenue.

2.2 Gross Domestic Product: From contributingvirtually nothing to the economy at the startof the 1970s, by 1979/80, mining accountedfor just over 30 percent of GDP, due largelyto the rapid growth in diamond mining. This

CHAPTER 3

ECONOMIC DIVERSIFICATION:THE TRACK RECORD

CHART 3.1: THE MINING SECTOR IN THEBOTSWANA ECONOMY, 1980 - 2000

1979/80

1989/90

1999/00

0%10%

20%

30%

40%

50%

60%

70%

80%

90%GDP

Govt. Rev.

Formal Employment

Exports

3

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trend continued through the 1980s as themine at Jwaneng came on stream, and a highpoint in terms of the sector’s contribution toGDP (at over 50 percent in 1988/89) was seentowards the end of the decade. There wasthen some decline in the 1990s as sectoralgrowth, while still generally healthy, wasslower than in previous years. This isaddressed further in the next section.

2.3 Formal Sector Employment: The directcontribution of the mineral sector toemployment has never been very large. Forthe years shown in Chart 3.1, the largest shareis only seven percent.1 Moreover, the sharehas been in general decline. This reflects thefact that sectoral growth has been achievedmainly through capital investment andincreasing the productivity of the labourforce. Between 1981 and 2000, sectoralemployment grew by only 14 percent, whileoutput rose by over two hundred percent inreal terms. This declining trend inemployment share is technically an indicatorof reduced dependence on the sector. But thisis only trivially so. The fact that the sector hasnot been a major source of employmentcreation partly explains why increaseddiversification is seen as desirable.

2.4 Merchandise Exports: The dominance ofmineral exports is readily apparent. By theend of the 1980s, they accounted for 65percent of the total, and during the nextdecade the share increased to nearly 90percent. It fell back somewhat during the1990s to around 80 percent. However, thisfigure does not include the impact of theOrapa expansion project, which only camesubstantially on stream during 2000. It shouldalso be pointed out that these data refer onlyto merchandise exports. To the extent thatthere has been some increase in theimportance of exports of services during thepast decade, the share of minerals in totalexports has fallen further than indicated in thefigure.2

2.5. Government Revenues: Although the sectoralshare of GDP suggests some reduction ofdependence on mining, its importance toGovernment revenues has increased. Whilestriking, in fact, this is not surprising. Theupward surge in diamond sales during 1999led to an anticipated budget deficit turninginto a record surplus; at the same time, duringthe 1990s growth in other revenue sourceswas muted as both external tariffs and ratesof domestic income tax fell.

2.6 The continuing, and even increaseddependence of Government revenue onreceipts from minerals, has important policyimplications. On the one hand, it emphasisesthe need for diversification of theGovernment’s revenue base. Just as the salesboom in 1999 was the direct cause of therecord budget surplus in 1999/2000, theslump seen in the previous year was themajor factor contributing to the large budgetdeficit in 1998/99; avoiding such volatility isone of the main objectives of diversification.In addition, because of the Government’scurrent policy of reserving all minerals’revenues for investment, alternative revenuesources are needed to support the recurrentbudget.

2.7 At the same time, however, increased relianceon activity in other sectors of the economyto generate revenues for Government willnecessitate strict control in the growth ofpublic spending. This is because the tax ratesprevailing in other sectors are much lowerthan those levied on diamond mining and, asa result, more diversified growth will havethe consequence of lowering the effective taxrate. This suggests that a policy of keepinggrowth in public spending below the rate ofeconomic growth will be required, if therevenue base is not to be put under unduepressure.3

1 Note, however, that this figure may be an underestimate. This is to the extent that this figure includes only those directly engaged in miningactivities. In addition, the major mines also employ people in various ancillary services, which are classified in other sectors. Nor does the figureinclude those engaged in prospecting, which is counted as a business service activity.

2 In 1990, services accounted for 10.4 percent of total exports; in 1999 the share was 12.1 percent.3 See the Bank of Botswana Annual Report 1999 for further elaboration on this point (4.32, p89).

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3. Structure of the Economy

Gross Domestic Product

3.1 Chart 3.1 looked only at the mining sector’scontribution to GDP. Chart 3.2 shows thestructure of GDP more broadly, giving thebreakdown of GDP by major economic sectorat intervals of five years between 1974/75 and1999/00.4

3.2 At the start of the period, the largesteconomic sector was agriculture. The miningsector had a share of less than ten percent.However, it was expanding rapidly and fiveyears later, it had reached the dominantposition described above. At the same time,the early dominance of agriculture wasquickly reversed. This has been more than acase of slow agricultural growth not keepingpace with the rest of the economy. Over theperiod as a whole, the sector has been inabsolute decline. According to the mostrecent estimates, real output in agriculturewas about four percent lower in 1999/00compared to 1974/75.

3.3 From 1974/75 to 1999/00, growth in theeconomy averaged 9.1 percent in real terms.That of the non-mining economy was 7.9percent and if the negative impact of thedecline in agriculture is excluded, the growthrate rises to 9.1 percent. Moreover, within the

non-mining economy, it is apparent fromChart 3.2 that, with the exception ofagriculture, growth was spread fairly evenlyacross the major sectors since, over theperiod, their GDP shares have remained moreor less constant. Therefore, while the wealthof the mining sector may have provided theimpetus that allowed the economy to developso rapidly, the resulting growth has beenbroad based and, in that sense, significantlydiversified. This point is often overlookedwhen focussing on changes in GDP shares asa measure of diversification. Such a focusdoes not directly take account of dynamiccircumstances, especially the growth patternsin which those sectors were developing.

3.4 One consequence of this growth pattern,characterised by the expansion of mining andthe decline of agriculture with other sectorsremaining roughly constant in output shares,is that overall, the concentration ofproduction in the Botswana economy haschanged considerably less than is commonlyimagined. This is indicated in Chart 3.3,which shows two alternative measures ofconcentration. First, there is development ofthe mineral sector alone (M in the Chart). Thedevelopment is then compared with a‘Herfindahl’ index (H), which is a broadermeasure that takes into account the changesin shares across all sectors.5 In both cases, themaximum value is 1, which occurs if thewhole economy is concentrated in one sector.

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

1974/75 1979/80 1984/85 1989/90 1994/95 1999/00

Period

CHART 3.2: STRUCTURE OF GDP BY SECTOR,1974/75 - 1999/00

Other Services

Other Industry

Financial andBusiness ServicesManufacturing

Agriculture

Government

Mining

4 The starting point of 1974/75 is chosen in large part because this is the date from which a consistent time series for GDP that provides thisbreakdown is available.

5 This was developed primarily as a measure of industrial concentration (i.e. the extent to which output within a particular sector is dominated bya few large firms). See, for instance, the Bank of Botswana Annual Report 1993, which used the Herfindahl index to analyse the extent ofconcentration within the banking sector in Botswana (p31).

CHART 3.3: MEASURES OF CONCENTRATION OFPRODUCTION IN BOTSWANA, 1974/75 - 1999/00,HERFINDAHL INDEX AND MINERAL SECTORSHARE

0

0.1

0.2

0.3

0.4

0.5

0.6

Period

HM

H a

nd

M i

nd

ice

s

1975

/76

1976

/77

1974

/75

1978

/79

1979

/80

1977

/78

1981

/82

1982

/83

1980

/81

1984

/85

1985

/86

1983

/84

1987

/88

1988

/89

1986

/87

1990

/91

1991

/92

1989

/90

1993

/94

1994

/95

1992

/93

1996

/97

1997

/98

1995

/96

1998

/99

1999

/00

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3.5 It is apparent that the pattern of H is largelydetermined by that of M as, through much ofthe period, the movements in percentageterms match almost exactly. However,because of the effect in the early years whenthe movement from agriculture to mining wasthe source of increased diversification, theoverall movement in H is much less than withM. Thus, while between 1974/75 and1979/80M increased from 0.10 to 0.35, Hmoved from 0.17 to 0.19, and was in fact,lower for the intervening years.

3.6 Overall, the broad picture that emerges is asfollows. Following the initial increase indiversification as the importance ofagriculture was reduced, in the decade1978/79 to 1988/89, there was a rising trendin the overall concentration of production asthe dominance of mining becameincreasingly pronounced. There was thensome decline over the next four years as theperiod of slow growth in mining led to theshare of other sectors increasing. Since then,there has been no consistent trend eithertowards greater concentration or increaseddiversification.

3.7 The performance of the manufacturing sectorhas received a lot of attention as an indicatorof the extent of economic diversification. Therationale for this is reviewed critically in thenext chapter. From Chart 3.2 it may seem thatthe performance of this sector has beendisappointing since, between 1974/75 and1999/00, its share of GDP fell from 6.5percent to 4.9 percent. However, while thissector has certainly not matched the hopesand expectations of those who saw it as thekey to a successful diversification of theeconomy, the focus on the GDP share can behighly misleading.

3.8 First, again there is the point that the GDPshare does not indicate anything about growthrates. Over the period reviewed, themanufacturing sector grew by an average of6.9 percent per annum, and such a growth

rate can only be classified as ‘low’ in relationto the 9.5 percent rate at which the economyoverall was growing. Similarly withemployment, the overall picture is of healthygrowth rates. Between the early 1980s and2000, the annual average growth in formalemployment in manufacturing was around 8.0percent. However, it should be pointed outthat much of this rapid growth occurred in thefirst part of the period. This is particularly thecase regarding employment for which, duringthe 1990s, the growth rate averaged only 2.0percent.

3.9 The other important point to appreciateconcerning the development ofmanufacturing in Botswana is the extent towhich there has been diversification withinthe sector. At the time of independence in1966, the only significant manufacturingactivity in Botswana was of meat and meatby-products, mainly undertaken by theBotswana Meat Commission (BMC). Thenext major addition to manufacturing was theestablishment of the brewery in the 1970s.Chart 3.4 shows the extent to which the sectordiversified between the end of the 1970s andthe mid-1990s.6 This chart is a repeat of theconcentration measures used in Chart 3.3, butin this case applied to the manufacturingsector alone. The decline in the importanceof the meat sector is readily apparent.7 So isthe reduction in overall concentration.However, the latter is less pronounced due tothe increased importance of sub-sectors suchas dairy and agro-products, bakeries, metalproducts, paper products and transportequipment.

3.10 In addition to manufacturing, theperformance of the financial and businessservices sector should also be highlighted.From Chart 3.2 it appears that this has beenthe only major sector that has consistentlyseen a rising trend in its GDP share over time,a reflection of the widening and deepening ofthis sector in response to the needs of thebusiness sector and increasing household real

6 The choice of time period is again dictated largely by the availability of sufficiently detailed published data from the Central Statistics Office.7 Even this does not tell the full story. The meat products industry is no longer focussed solely on BMC. During the 1990s there was rapid growth

in the domestic production of other meat products, such as poultry. The construction of the new abattoir for ostriches, which commenced in 2000,will help in a further diversification of this sub-sector.

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incomes that stimulated demand for suchservices. Besides achieving average growthhigher than that of the economy as a whole,the sector also contributed to employmentcreation. Between 1981 and 2000 averageannual growth in employment was 6.8percent. The role of the financial and businessservices sector in economic diversification isaddressed in more detail in Chapter 5.

Central Role of Government

3.11 Acting as a channel through which the wealthcreated by diamond mining has beenreinvested, the Government has been themain link between the mining sector and theeconomy as a whole. While this helpedsupport the rapid rate of overall development,one consequence is that the governmentsector has gradually increased in importance.This is clear from Chart 3.2. In particular,during the 1990s, the GDP share of thegeneral government sector increased steadily.This was to the extent that this increaselargely matched the fall in the share ofmining. In part, this reflects the continuingrapid expansion of the government sector ata time when the rest of the economy wasexperiencing slower rates of growth than hadpreviously been the case. During the 1990s,the government contributed 19.7 percent tooverall growth, compared with 14.2 percentin the 1980s.

3.12 But this dominant role stretches beyond thedirect contribution to GDP. Much of privatesector business is heavily geared to meetingthe needs of the Government through a

variety of channels, which include:8

• implementing the public investmentprogramme. Notable here is theconstruction sector, where theGovernment is the largest source ofdemand with its programmes ofexpanding public infrastructure. Itshould be noted, however, that the viewthat the construction sector is entirelydependent on Government, is anexaggeration. According to the detailednational accounts for 1994/95,Government accounted for ‘only’ 60percent of construction investment;

• meeting current supply requirements. Agood example is the domestic publishingindustry, which is generally thriving,with local branches of several majorinternational publishing houses. Whileinvolved in various activities, their corebusiness is meeting the bookrequirements of the education budget,which has been expanding rapidly. Thistype of example is replicated widelyacross other economic sectors. In themid-1990s, the supply requirements bygovernment were equivalent to nearly 70percent of non-mineral exports; and

• the spending power of Governmentworkers. Between 1990 and 2000, directemployment by Government (includinglocal government) contributed 73.8percent of total formal sectoremployment growth and, as a result, itstotal share of formal jobs rose from 31.1percent to 40.4 percent. According to the1993/94 Social Accounting Matrix(SAM), Government was at that time,the source of 42 percent of total wagepayments, a share that is likely to haveincreased subsequently. Thus, both thenumber employed by the Governmentand the wages paid have a significantimpact on domestic demand.

CHART 3.4: CONCENTRATION IN THEMANUFACTURING SECTOR, 1979/80 - 1994/95

Meat

H(man)

Period

0

0.05

0.1

0.15

0.2

0.25

0.3

0.35

1979/80 1984/85 1989/90 1994/95

RA

TIO

8 The dominant position of the Government is discussed in some detail in the Bank of Botswana Annual Report 1999 (pp82-85).

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3.13 The overall result is that Government-induceddemand has been very significant for thedevelopment of the domestic economy. Whilethis has been a stimulus for development toa wide range of businesses, it should be clearthat this situation cannot continue indefinitelyinto the future. Development based on thecentral role of Government goes directlyagainst the necessary outward-lookingorientation for development.

Export development

3.14 Since the development of export markets isthe cornerstone for the long-term prospects ofa small economy such as Botswana, theextent to which reliance on traditional exportsis reduced is a key indicator ofdiversification. As was made clear from Chart3.1, exports are dominated by sales ofdiamonds. This dependence on traditionalexports increases further once other mineralcommodities are included. However, withintraditional exports, the extent of reliance ondiamond sales has been growing as thecontributions of beef and copper-nickel havedecreased over time. In 1981 the share ofmeat and meat products in total exports was18.2 percent; by 1999 it had fallen to 1.8percent. Similarly, exports of copper-nickelfell from 24 percent of the total in 1981 to4.6 percent in 1999.

3.15 Over time, the share of non-traditionalexports has increased gradually. Again, giventhe continuing buoyancy in diamond exports,this may be regarded as more of anachievement than some may suppose.However, while the aggregate figures maysuggest some trend improvement in terms ofa more diversified export base, a closer lookquickly suggests that the firm establishmentof such export markets has proved to be verydifficult. The most recent example of this wasthe severe blow to the motor vehicle industryin 2000 with the closure of the Hyundaiassembly plant. To this point, exports ofvehicles had been the main source of growthin non-traditional exports through much ofthe 1990s. In 1995 they accounted for 66

percent of non-traditional exports, and duringthe period 1996 to 1999 vehicle exportsaccounted for 47.8 percent of manufacturingexports and 9.4 percent of total merchandiseexports.

3.16 Another hoped-for source of export growthhas been the textile sub-sector. However, thishas also demonstrated considerable fragility.Diversification of exports is a function ofmarkets as well as products, and the textileindustry in Botswana was badly affectedwhen the initial target market, Zimbabwe,started experiencing economic difficulties.Since then, attention has turned to supplyingboth South Africa and other global markets;the latter through exploiting the combinationof available supply of labour and Botswana’srelatively favourable access to these markets.Success has been only limited, however.Between 1991 and 1999 the nominal value oftextile exports grew by 9.1 percent per year,but there has been considerable volatilityaround this average and real growth rateswere much lower.9 Throughout this period,the difficulties of the sub-sector werehighlighted by a series of high-profileclosures of textile businesses, often havingreceived considerable amounts of financialsupport from the Government.

4. Government Support for Diversification

4.1 In the face of the rapidly expanding miningsector, the Government recognised, at anearly stage, the potential problems associatedwith over-dependence. Experience from othercountries showed clearly the difficulties ofdevelopment based on a narrow base ofprimary commodities. The limitations causedby the small size of the domestic market wereapparent and it was clear from the outset thatdiamond mining, whatever other benefits itpromised, would not be a major source ofemployment for the rapidly growingpopulation. In this context, even as themineral-led boom gained momentum, theneed for diversification of the economy awayfrom minerals was introduced as an explicitpolicy objective. Fortunately, the boom itself

9 As an indication of this, the US dollar value of textiles declined by 1.6 percent per year over the same period.

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generated resources that, if used wisely, couldhelp support the goal of wider socio-economic development.

4.2 This objective was pursued at several distinctlevels. First, great stress was placed onencouraging development in the context ofprudent economic management. In part, thisentailed the effective control and use ofavailable resources, in particular, usingwealth from the diamond mines to developthe public infrastructure as a necessaryplatform for long-term development. But italso meant ensuring that macroeconomicconditions did not work against the objectiveof diversified development. Notable in thisregard, has been the attention given tomanaging the exchange rate so that thecompetitiveness of domestic producersoutside the mining sector, is notdisadvantaged. The Government has alsoadopted a policy of low rates of directtaxation as a means of encouraging businessdevelopment.

4.3. Second, a variety of parastatals wereestablished to encourage the development ofcommercial activity. In terms of promotingeconomic diversification, the most prominentof these are the Botswana DevelopmentCorporation (BDC, established in 1970) andthe National Development Bank (NDB,established in 1974). Third, over time, theGovernment has embarked on a series ofinitiatives with the specific aim ofencouraging economic development outsidethe primary sectors of agriculture and mining.The remainder of this section provides a briefdiscussion of some of these initiatives.

Financial Assistance Policy

4.4 The Financial Assistance Policy (FAP), whichbegan in 1982, has been the mainGovernment incentive scheme aimed atencouraging investment and employmentopportunities in a range of economicactivities in Botswana. Its main objective has,however, been to encourage development inmanufacturing. But it also covers other areas,including agriculture outside cattle ranchingand dry land farming, small-scale mining and,

at a later stage, some service-relatedactivities, notably tourism. The specificobjective of creating employment issupported by basing the grants availableunder the scheme primarily on the number ofjobs that a qualifying business venture isexpected to generate.

4.5 Over the years since its introduction, thescheme has grown tremendously. In 1982/83,the first year of operation, the Governmentbudget shows that only P1 million was spent,or 0.2 percent of total expenditure. In1999/2000 the amount was P110 million, or1.1 percent of the total. The mid-1990s wasa period of rapid growth; in 1995/96, forexample, the total doubled from the previousyear to P72 million.

4.6 These figures, however, tell only part of thestory of the development of FAP. It has alsogrown considerably in complexity. At itsinception it was dealing with generally smalland straightforward business ventures; by theend of the 1990s it was increasinglyinteracting with intricate, large-scale projects,often with a significant internationaldimension. This inevitably put increasingstrain on the administration of the programmein terms of both appraising applications forfunds for their suitability and, crucially, in thefollow up monitoring of businesses.

4.7 FAP has been evaluated on a regular basis.Generally, the results of these reviews havegiven broad support for the scheme,concluding that it was providing value formoney in terms of supporting the creation ofviable employment opportunities. However,the most recent evaluation (the fourth,completed in March 2000) was far morecritical. This reflected the fact that rapidlyincreasing expenditures in the 1990s had nothad a commensurate impact on job creationor sustainable business activity. This, itargued, was due to problems of fraud andabuse, inadequate administrative andmonitoring capacity, and an outdatedstructure of incentives. The report pointed outfurther that most of the problems wereoccurring at the level of the small-scalecomponent of the scheme, principally

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because both appraisal and monitoring at thislevel, was extremely weak. This conclusiongoes against the common perception that themain cause of FAP abuse is at the level oflarger scale businesses.10

4.8 Given the changing economic circumstances,FAP has clearly become outmoded. Theeconomic case for its immediate abolitionappears to be strong. To the extent that it hascreated employment, this has been atsignificant financial costs and has increasedthe extent of dependence on Government. Atthe same time, there remains considerablesupport for the view that the underlyingobjectives of FAP continue to be legitimate.In the 2001 Budget Speech it was announcedthat these objectives would be pursuedthrough a newly established body, the CitizenEntrepreneur Development Agency (CEDA)with the emphasis moving away from cashgrants to other forms of support (see Chapter1 for further details).

Industrial Development Policy

4.9 The Industrial Development Policy (IDP) wasoriginally introduced in 1984. The objectiveswere the diversification of the economy awayfrom heavy dependence on mining,promotion of the private sector and creationof employment opportunities for the growingpopulation. In the mid-1990s a review wasundertaken, necessitated by both the changingeconomic circumstances and the need toreview the effectiveness of the original policyframework. Following this, a revised policywas published in 1997. While the objectivesremained unaltered, there was considerablechange in the strategies identified for theirachievement.

4.10 The 1984 IDP mainly focused on an importsubstitution strategy of industrialisation.Whether such a strategy would be successful,given the constraints of the small domesticmarket, was always open to question. In anycase, the change in the international andregional environment, especially the

establishment of the World TradeOrganisation (WTO) and the accession to theSouthern African Development Community(SADC) Protocol on Trade Cooperation,necessitated a review. The strategy of the newIDP addresses the following issues:

• the limited scope for development basedon the small domestic market;

• reorientation of the existing SADC andSACU trade and industrial developmentarrangement which provide increasedcompeting investment and tradeopportunities within the region;

• the impact of the decline in the degreeof industrial protection against outsidecompetition following the establishmentof the WTO and the opening of SouthAfrica under the new politicaldispensation; and

• the need to promote rapid growth inproductivity and efficiency as criticalelements of competitiveness in globaltrade in goods and services.

4.11 In order to meet the challenges of thechanging regional and global environment,the objective of the new IDP is to develop anefficient and competitive export-orientedindustrial and service sector. To this end, theGovernment strategy is to provide anenvironment conducive to the development ofthe private sector through the following:

• bilateral and multilateral negotiationswith the aim of maximising access toexport markets;

• encouraging investors and entrepreneursto improve labour productivity andpromotion of competitive unit labourcosts; and

• efforts to reduce the cost of utilities.

4.12 As part of the process of implementation, the

10 As announced in the 2001 Budget Speech, the evaluation report estimated that 75 percent of small-scale FAP projects have not survived beyondthe period of assistance. The comparative rates for medium- and large-scale projects were 45 percent and 35 percent, respectively.

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Government established a high-level NationalCommittee for the Implementation of theIndustrial Development Policy. This issupported by specialised working groups inthe key areas of land, infrastructure andutilities; human resource development andtraining; as well as technology development.Also in line with the objectives of the newIDP, the Government implimented additionalmeasures of special sectoral support. Theseincluded the establishment of the BotswanaExport Development and Investment Agency(BEDIA) and the programme to supportSmall, Medium and Micro Enterprises(SMMEs).

BEDIA

4.13 As a direct consequence of the 1997 IDP, theGovernment established BEDIA to take overthe role of export development andinvestment promotion previously undertakenby the Trade Investment and PromotionAgency (TIPA) of the Ministry of Commerceand Industry. BEDIA is a parastatal body and,as such, has enhanced autonomy; the agencyaims to promote investment in Botswana,particularly in manufacturing. It seeks toachieve this through both advertising theattractions of the country as an investmentlocation and support through a ‘one-stop’service centre that assists investors withmatters such as work and residence permits,securing of land and buildings, businesslicensing and identifying potential citizenjoint venture partners. To help deal with thespecific problem of the shortage of factoryspace, BEDIA is directly involved in theestablishment of new factory shellcomplexes.

4.14 While BEDIA has been in effective operationonly since 1998, it has adopted a high profile,conducting promotion missions to a varietyof countries worldwide. BEDIA also invitesgroups of potential investors to Botswana andan increasing number of foreign applicationsfor support from FAP have been channelledthrough the agency.

Support for SMMEs

4.15 Over time, the Government has set up avariety of schemes to support SMMEs, inrecognition of the potential role of smallenterprises in the socio-economicdevelopment of the country. These includethe reservation policy (under which certaincategories of businesses are reserved forcitizens), the Botswana EnterpriseDevelopment Unit (BEDU), the BusinessAdvisory Service and the RuralIndustrialisation Programme. However, it wasrecognised that there remained problemsfaced by SMMEs that needed to be addressedin a coordinated fashion. For this reason, in1997 the Government established a taskforce, led by the private sector, in order todesign a comprehensive policy framework forSMMEs. The resulting policy framework forSMMEs was published in 1999, the mainfeatures of which are as follows:

• the creation of an enabling environmentwithin which SMMEs will flourish;

• an integrated approach to SMMEdevelopment which ensures cohesionand linkages between the variousprogrammes;

• effective implementation of the SMMEpolicy and assessment of the policyagainst measurable objectives; and

• discouragement of SMME dependenceon Government.

In line with these principles, the SMMEpolicy provides for the establishment of aSmall Business Council as an advisory bodyto both Government and SMMEs. Thiscouncil will monitor Government policiesand regulations affecting SMMEs, developproposals for new projects and programmesto strengthen SMMEs and monitor the impactof SMMEs’ support programmes.

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4.16 Following the development of the policyframework, various specific measures wereannounced in the 1999 Budget Speech.11 Ofthese, most attention has been given to themicro-credit scheme. With an initial injectionof P150 million, the intention was to establisha self-financing revolving fund providingpeople with low incomes access to resourcesto develop viable businesses. Administrationof the scheme by the National DevelopmentBank was meant to ensure independence fromGovernment. Demand for the funds wasoverwhelming, while arrears accumulatedrapidly as many beneficiaries experiencedproblems in servicing their loans. As a result,by mid-2000 the funds had been completelydrawn down. In response, as announced inthe 2001 Budget Speech, the Governmentdecided to recapitalise the fund while at thesame time, placing its operation under CEDAwith, it is anticipated, an enhanced capacityto administer the scheme effectively (seeChapter 1 for details).

Trade Policy

4.17 Given the key role played by thedevelopment of export markets insuccessfully diversifying the economy, tradepolicy is a matter of key importance.Recognising this, the Government has playedan active role in regional and internationalfora that review trade policy.

4.18 Membership of the Southern AfricanCustoms Union (SACU) provides Botswanaproducers with access to the largest marketin Africa. Exports also benefit under theCotonou (formerly Lomé) agreement, whichprovides duty free access for most goods toEU markets. The major beneficiary of this inBotswana is the beef industry. Opportunitiesfor exports may also be enhanced through thepassing in 2000 by the US Congress of theAfrican Growth and Opportunities Act.12

4.19 However, recent developments also mean that

in coming years, the Botswana market willitself become increasingly open to importsfrom producers outside the SACU region.Membership of SACU effectively bindsBotswana into accepting the terms of the EU-South Africa Trade and DevelopmentCooperation Agreement, which provides forthe extension of reciprocal access to importsfrom the EU. Moreover, implementation ofSADC Free Trade Agreement began inSeptember 2000. The Agreement charts aprogramme for the liberalisation of inter-SADC trade for the period to 2012 and, againas a SACU member, Botswana is committedto a faster programme than non-SACUSADC countries.

4.20 It might be feared that such opening ofdomestic markets to competition from, on theone hand, the productive efficiency ofEuropean producers and, on the other,regional producers with lower costs, mayharm the prospects for diversification. In theshort run, some transitional problems mightbe expected. However, looking to the longerterm, in the context of an overall economicenvironment that remains business-friendly,dynamic gains in terms of improvedproductivity and increased investment areanticipated. With the opening up of theSouthern African region, Botswana, given itscentral location, reputation for political andeconomic stability and an advancedinfrastructure, is well placed as a gateway toattract investor interest.

Other Support

4.21 From time to time, the Government has takenthe initiative in support of the developmentof particular economic sectors. Most notable,perhaps, have been the various programmesto stimulate growth and development ofagriculture. However, there is generalrecognition that these have not achieved verymuch and Government has announced theintention to undertake a general review of the

11 For more details see Bank of Botswana Annual Report 1998 (p48).12 There is some expectation that this will provide positive benefits as reputable producers seek suitable locations to take advantage of the new

export opportunities to the United States. However, full requirements to access the benefits have yet to be completed and the Government willconsider very carefully the implications of the Act’s various conditions, including the extent to which its rights in the WTO might be limited,before proceeding further.

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efficacy of such support schemes. At thesame time, demonstration projects relating tothe National Masterplan for AgriculturalDevelopment (NAMPAD) are due to getunderway in 2001. The emphasis of the planis the introduction of efficient managementtechniques and production technologies inselected areas, such as wastewater irrigationand dairy farming, where it is felt thatagricultural production in Botswana can becompetitive.

4.22. Tourism is another sector where plans forspecific support are being developed. Sincethe mid-1990s tourism related investment hashad access to assistance under FAP. However,with the main focus of FAP being ongenerating employment for unskilled labour,the particular needs of tourism, which tendsto be more capital- and skilled-labour-intensive, were not fully met. The BotswanaTourism Development Programme has beenundertaken with the aim of devisinginitiatives to suit these needs more closelyand the establishment of a TourismDevelopment Fund is also underconsideration.

5. Conclusion

5.1 The chapter has examined the diversificationof the economy in the context of buoyantgrowth since 1974. Some progress has beenmade and, to a greater extent than iscommonly realised. The expansion of thediamond sector has continued throughout theperiod and for this reason, the rapid growthof other sectors is sometimes overlooked.Indeed, with the exception of the decliningagricultural base, all sectors have contributedsignificantly to the growth of the economyover the past twenty-five years.

5.2 Nevertheless, the challenge of effectivediversification largely remains to be met. Theexport base is still heavily concentrated, andtherefore vulnerable to market changes. Theleading role of the mining sector hassupported a broad range of developments buthas not provided much direct support for thespecific objective of employment creation.The dependence of the rest of the economy

on Government has been steadily increasing,a trend that cannot be sustained in the longrun.

5.3 The chapter has further reviewed keyelements of the Government’s support fordiversification. These have showed somepositive results but have also demonstratedthe serious difficulties that can arise withincentive schemes based on the use of publicfunds. Inevitably, there is a risk that suchschemes will lead to further dependence onGovernment

5.4 In the context of this assessment of the trackrecord of diversification, this review nowmoves on to examine in more detail, the pastand future role played by key economicsectors in the diversification process.

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CHAPTER 4

THE PATH TO DIVERSIFICATION:SERVICES OR MANUFACTURING?

1. Introduction

1.1 The title of this chapter may appear tosuggest that economic development is bestachieved by focussing on a particular sectoror sectors in the economy. Such an approachis apparent in Botswana where theidentification of ‘engines of growth’ iscommonly seen as summarising the challengefor diversification away from the miningsector.

1.2 Rather, the aim here is to argue against sucha viewpoint, or at least to point to itsassociated dangers. These dangers include thejudging of development against narrowcriteria and policies of support that commitfinancial and other resources unquestioninglyto the preferred sectors. In contrast, theargument is that the proper basis fordevelopment is an emphasis on policies thatcreateconditions for growth, with lessattention to the form - i.e., the engines - thatgrowth might take. Economics may provideinsights into what is good for economicgrowth, stressing the importance of factorssuch as education, technologicaldevelopment, economic and political stability.But how growth will manifest itself inparticular circumstances is far less easy toanticipate, with commentators usually being,at best, wise only after the event.

2. Preference for Manufacturing

2.1 The major example of promoting a particularsector as a precondition for widerdevelopment is the common belief that suchdevelopment is founded on the establishmentand maintenance of a strong manufacturingsector. Such a belief has certainly receivedsignificant support in Botswana, where

diversification and development ofmanufacturing are frequently regarded asbeing synonymous. Preferential support formanufacturing has also been seen at thepolicy level. The orientation of the FinancialAssistance Policy (FAP) towardsmanufacturing and the concessionary rate ofcompany income tax for some manufacturingbusinesses, are examples of this approach.

2.2 It would, of course, be a great exaggerationto suggest that the Botswana Government hasignored the potential for developing othersectors. The 1993 World Bank report onopportunities for industrial development inBotswana gave service development equalbilling; and from this came the 1998Industrial Development Policy (IDP), whichis not restricted to manufacturing.1 TheInternational Financial Services Centre(IFSC) initiative, which also includes apreferential tax regime, and the preparationof a master plan for the development oftourism are recent examples of specificGovernment support for non-manufacturingactivities. But the general orientation ofdiscussion is typically based on the premisethat the establishment of a successfulmanufacturing sector is the key to sustainabledevelopment.

2.3 Despite the support it has received, themanufacturing sector in Botswana has failedto take off to the extent that has been hopedfor. The closures of major manufacturingventures, which have typically receivedfinancial support from Government, havereceived prominent coverage. The closesuccession of several such closures in thesecond half of 2000 caused particularanguish. This was exacerbated by theircoinciding with the selling off of the assets

1 See Industrial Development Policy for Botswana, Section 3.

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of the Hyundai manufacturing plant that wasclosed earlier in the year, which finallybrought to an end attempts to re-launch themotor vehicle industry in Botswana.

2.4 This is, of course, far from the whole story.The variety of manufacturing businesses thatperform very well is not so newsworthy, butjust as important. As Chapter 3 of this reportpoints out, overall growth in the sector hasbeen generally impressive. But this has notmatched expectations: in particular, perhaps,growth in output has not been accompaniedby similar increases in sectoral employment.

2.5 What conclusion should be drawn from this?Some commentators have suggested that this‘failure’ means that support formanufacturing has not been sufficientlyextensive and/or well targeted. According tothis view, support should be intensified andthat the even-handed sectoral approach of theIDP is misguided. Such intensification wouldimply special government support for chosenindustries including, possibly, an extension ofstate ownership in the targeted areas.

2.6 The alternative view, which is the thrust ofthis chapter, is that, given the conditions inBotswana, the focus on manufacturing risksbeing taken too far. Historically, thisemphasis may have been appropriate. In thepast, the best hope for promoting export-ledgrowth and mass employment outside theprimary sector, did lie in manufacturing. Butit is argued here that this was due primarilyto the lack of alternatives rather than becauseconditions for establishing large-scalemanufacturing in Botswana have ever beenparticularly promising. This constraint hasnow been eased as current trends intechnological development have greatlyreduced the economic advantages supposedlyassociated with manufacturing. While this isa relatively new phenomenon, Botswanashould be aiming to take full advantage ofthese enhanced opportunities.

2.7 This is not to suggest that support for theconditions that would encourage viablemanufacturing to thrive in Botswana shouldnot be forthcoming. For instance, the current

emphasis on manufacturing in thepromotional activities of BEDIA isappropriate. Rather, the point being made isthat it is not the prospects in this sector alonethat will determine success or failure in thewider development effort.

3. The Fallacy of the View that‘Manufacturing is Different ’

3.1 The superiority of manufacturing comparedto other forms of production, remains acommonly held belief. Rich countries worryabout ‘deindustrialisation’. Similarly,developing countries fret if they do notpossess rapidly growing manufacturingsectors. Attracting (and retaining) investmentin manufacturing is a major preoccupation ofgovernments in both sets of countries. Thispreoccupation can go to such an extent thatsuccesses or failures in other sectors can passrelatively unnoticed. What then is the basisfor this belief in the primacy ofmanufacturing?

3.2 At the most general level, the belief is theresult of a simple historical association ofmanufacturing with success in economicdevelopment. The economies that are theconstituents of the ‘developed’ world and thevarious ‘clubs’ of rich countries, such as theOrganisation for Economic Cooperation andDevelopment (OECD) and the G-8, mostlyachieved this status originally through growthin manufacturing. Moreover, this is not justthe success of a bygone age. Just as it wasthe industrial revolution in the eighteenthcentury that launched Britain, followed byother European economies and the UnitedStates, to economic pre-eminence, the‘miracle’ growth of Japan and, subsequently,the Asian ‘tiger’ economies in the second halfof the twentieth century, was also based onmanufacturing. Clearly, it would seem, theformula has been successful over a sustainedperiod of time.

3.3 Moreover, not only is manufacturing seen asdelivering the goods as measured byaggregate economic wealth. It is alsoregarded as a foundation for development thatis accompanied by various desirable features;

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these include the following:

• Employment: mass production - thefeature of much of the manufacturingindustry - is commonly associated withmass employment. Conversely, declinein manufacturing is seen as a majorcause of mass unemployment: hence theconcerns regarding deindustrialisation inthe advanced economies. In thedeveloping economies, whereunemployment rates are frequently veryhigh, development that is accompaniedby rapid employment creation wouldseem to be particularly desirable;

• Exports: ‘export led growth’, whichoccurred in a number of countriesincluding Germany, Japan and other eastAsian economies, was based on thesuccessful development ofmanufacturing. This would seemparticularly relevant to Botswana due tothe smallness of the domestic market;

• Technological progress: manyinventions may be of more assistance tomanufacturers. It has also been arguedthat manufacturing is inherently moredynamic - characterised by ‘learning-by-doing’ - than other sectors. For thisreason, economies with strongmanufacturing bases would tend toremain advanced technologically, whichin turn, will support increasingproduction and, therefore, real incomes;and

• Economic linkages: manufacturingencourages linkages, both forward andbackward, within the domestic economy.

It must be acknowledged immediately thatthere is considerable truth in all these points.For example, in its World DevelopmentReport, the World Bank highlights themanufacturing share of GDP on the groundsthat it ‘is generally the most dynamic part ofthe industrial sector’.2 But in each respect theissues involved are more complex and the

supposed advantages of manufacturing farless clear-cut than is often supposed.

‘Engine’ of Growth

3.4 For the developed countries at least, growthcentred on manufacturing is a thing of thepast. In the OECD economies servicesaccount for more than two thirds of outputand up to 80 percent of employment. Apartfrom a residual belief that manufacturing isindeed something special, the practicalconcern is that those workers whose jobs arelost due to deindustrialisation do not have theskills to find alternative employment. But thisdoes not deal with the point that since theworld economy still needs manufacturedgoods, emerging economies should aspire totake over. According to this argument, it istheir ‘turn’ for industrialisation: the more so,because the driving force fordeindustrialisation is the cheaper labouravailable elsewhere.

3.5 In broad terms, this view is correct. One ofthe hindrances to successful development isthe reluctance of the high-income economiesto open fully their markets for free trade inmanufactured goods. But acknowledging thisdoes not mean that all emerging economiesare equally well placed to take advantage ofsuch opportunities.

3.6 At the same time, the suggestion thatcountries that do not industrialise will missout on development does not bear up tocareful scrutiny. In Europe, for example,small land-locked countries such asSwitzerland and Luxembourg have some ofthe world’s highest per capita incomes butonly modest manufacturing bases. Instead,they have built a reputation on providingquality services for their larger industrialisedneighbours. Among the developingeconomies, one of the original Asian tigers,Singapore, largely sidesteppedindustrialisation, using its advantages ofstrategic location, stability and efficientadministration to develop services andbecome the preferred headquarters location

2 See, for example World Development Report 1997, p237 footnote a.

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for multinational companies. At first sight,these experiences would seem to haverelevant lessons for Botswana. As an exampleof this potential, in November 2000 theworld’s largest medical assistance company,International SOS, acquired an interest inMRI Botswana based on the view thatBotswana was a suitable hub for expansionin the region for such services.

Mass Employment

3.7 Mass production no longer means massemployment. Labour has becomeincreasingly unnecessary as part ofmanufacturing production processes. Thephysical capabilities of machines increasinglyreplace rather than supplement labour. A goodexample of this in Botswana is the recentinvestment at the Orapa and Jwanengdiamond mines in the ‘Aquarium’ processingplants. The aim of this is to increaseautomation and reduce reliance on labourand, as such, further weaken the alreadynarrow direct linkages between the diamondsub-sector and the rest of the economy.

3.8 The extent to which this occurs or notdepends on the cost of labour. If wage ratesare sufficiently low, then mass employmentmay still be possible, as manufacturing willbe biased towards labour intensive productiontechniques. However, technologicaldevelopments mean that such production willtend to be in simple products where the keyelement of competitiveness is price. As such,this type of manufacturing will beconcentrated where the costs of labour arelow, and, in the worldwide context, Botswanadoes not fare well in this respect.

3.9 A further reason for caution regarding thepotential for employment arising frommanufacturing, is that such an association canlead to an unintentional, but potentiallydangerous, bias in policy. Specifically,proposed ventures that promise large-scaleemployment creation may tend to be viewedtoo uncritically when consideration is beinggiven to provide public resources in support

of the projects. With hindsight, it might beargued that this has affected policy inBotswana, which has provided substantialamounts in support of manufacturinginvestments through programmes such asFAP, the Botswana Development Corporationand others. Certainly, in the wake of the spateof closures of large scale manufacturing thatoccurred during 2000, serious questions wereraised from a variety of quarters, includingfrom within Government, about whether thecredentials of the various investors had beenscrutinised properly before agreeing tocommit public resources to them.

3.10 Nor is mass employment necessarily confinedto manufacturing. The potential for large-scale employment resulting from serviceindustries should not be discounted. Indeed,mass production of services may be on arising trend. A dynamic telecommunicationsindustry can result in the creation of manyjobs. For example, in Senegal it is estimatedthat private telecentres have led to 3000additional jobs. Moreover, on the basis ofefficient telecommunications, telephone helplines (for financial services, booking systems,etc) can also employ many people.3 Suchemployment does not usually require highlyskilled labour, and technological progress,which has reduced the costs oftelecommunications, means that provision ofthese services can be traded internationally(see below).

Tradeability

3.11 In the past, trade has been based on naturalcommodities and manufacturing. In theirmodels, economists have frequentlycategorised services as non-tradeable. This isin large part, because the provision of aservice has typically demanded the physicalpresence of both the service provider and theconsumer. Clearly, this gives the edge todomestic suppliers, since transport costs ofpeople are inevitably greater than that ofgoods.

3.12 Technological progress has worked against

3 It has been estimated that in the United Kingdom, call centres employ more than 400 000 people. This is more than two percent of the labourforce and exceeds the total employment in the coal, steel and motor industries combined.

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this. Physical presence is no longer soimportant, given better communications; andwhen transport is required, the costs arelower. Also of great importance and again dueto technology, it is now far easier than beforeto unbundle services to take advantage of thepotential benefits of the division of labour.This is to the extent that the variouscomponents of a service no longer need to bephysically close, enabling low cost elementsto be located in countries where the supplyof labour is cheap. For this reason, in theUnited States some aspects of serviceprovision, such as computer programming,airline revenues accounting, insurance claimsand call centres, have been moved to lower-cost locations in the same time zones.4

3.13 Thus, the technical barriers to trade inservices are much reduced. This leavesregulatory and institutional barriers. A starthas been made in dismantling these with theGeneral Agreement on Trade in Services(GATS), which was one of the major resultsof the Uruguay Round of international tradenegotiations. Signatories to the GATS are themembers of the World Trade Organisation.However, the agreement is only the start ofa long process. Although signatories acceptedthe principle of service trade liberalisation5,the initial commitments in this regard varywidely, and for many categories, countrieshave opted to remain ‘unbound’.6

3.14 Trade in services presents complexchallenges. This is because it involves morethan the movement of goods across frontiers.To export services may require entry by theconsumer into the supplier country. Tourismis a good example of this. Similarly, serviceimports can entail allowing foreignbusinesses into the consuming country. Forthis reason, such trade inevitably interactswith frequently sensitive areas of nationaljurisdiction such as immigration, residenceand employment laws.7 At the same time,

because of the previous difficulties in tradingin services, regulatory environments havetended to evolve largely independently.Therefore, adapting them to facilitate crossborder trade can be very difficult.8

3.15 Despite these caveats, it is to be hoped thatGATS offers significant potential forencouraging trade in services. The interestsof developing countries are explicitly builtinto the structure of the Agreement, whichrequires members to enter into agreementsthat improve the access of developingcountries to distribution networks andinformation as well as gain better access fortheir service suppliers. But what this meansin practice remains to be seen. TheAgreement is at an early stage, more in linewith the initial tariff cutting when the GeneralAgreement on Tariffs and Trade (GATT) waslaunched in 1947, than the current positionregarding trade in goods. It has already beenstalled by the failure in 1999 to agree on theframework for the next round of internationaltrade negotiations.

Cradle of Technology

3.16 On technology, it should be readily apparentthat some developments have been especiallyhelpful to manufacturing. Examples hereinclude improvements to power generationand to transport. The former reduces the costsof operating machines that are utilised inmanufacturing, while the latter lowers thecosts of moving them. As such, bothencourage mass production. Such earliergenerations of technical revolutions, whileincreasing the capital intensity of production,can be seen as expanding the physicalcapabilities of labour. Not surprisingly, thiswas particularly helpful to manufacturing.

3.17 But other factors are equally apparent. Someforms of technical progress are more neutralacross sectors. The current revolution in

4 In particular, to the islands of the West Indies.5 The main category of services that are excluded from the GATS is ‘services supplied in the exercise of governmental authority’.6 This is a technical term which means that a country has not made any commitment to trade liberalisation in that category.7 These are explicitly excluded from the GATS.8 Although again the contrast here with manufacturing, where required production standards can differ widely between countries, should not be

taken too far. Indeed such standards have been used as a form of hidden barrier to trade.

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communications and information technology(CIT) is a case in point. This generation oftechnical improvements extends theknowledge capabilities of labour; informationcan be stored in greater volumes andprocessed more quickly. This continues tobenefit manufacturing, but is relevant forother sectors as well.

3.18 Moreover, to the extent that advances intechnology do continue to helpmanufacturing, they may counteract otherfactors that have been seen to favouremphasis on the sector. That manufacturingis no longer to be equated with the massemployment of relatively unskilled labour,while opportunities for this are increasinglyavailable in the services sector, has alreadybeen mentioned.

3.19 On the question of the supposed inherenttechnological dynamism of the manufacturingsector, it should be pointed out that this pointis typically made in contrast to naturalresource based development. The suggestionis that when development is based on naturalresources the benefits of technology may notbe realised. However, this is an argumentagainst over-concentration on the primary

sector. The relevant question is whetherdiversificationaway from natural-resource-based activity should necessarily implyconcentration on manufacturing.

3.20 Some research work has argued thateconomies that have relied heavily on servicesectors have tended to exhibit lower growthcompared to those where development ismore concentrated on manufacturing, thuslending support for the view thatmanufacturing is inherently more dynamic.However, support is far from conclusive. Aparticular problem is that measuring theoutput of service sectors is very difficult, oneresult of which is that improvements inservice quality are often not taken intoaccount. This can depress estimates of growthin the services sector.9

Domestic Multipliers

3.21 Table 4.1 provides some information oneconomic linkages, using data drawn fromthe 1993/94 social accounting matrix (SAM).Manufacturing is compared to the servicesector and the private sector excludingdiamond production.

9 As an example, in 1999 new estimates of GDP for the USA were produced covering the period since 1959. The estimates incorporated improvedmethods for measuring the output in financial services to take into account quality improvements. As a result, growth estimates for several yearswere revised upwards.

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3.22 As shown in the table, manufacturing doesnot have a distinct advantage in domesticlinkages compared to services and non-diamond-mining private sector in general. Itis true that the ratio of domestic intermediateconsumption to gross output wasconsiderably higher for manufacturing at 42.4percent. However, this is entirely explainedby the food-processing sub-sector where,drawing on the domestic agricultural base(mainly beef but increasingly in other areasincluding poultry and dairy products) thebackward linkages are naturally strong.Without this, the ratio falls to 32.4 percent,which is very much in line with both theservice sector and the private sector morewidely. If it is accepted that the potential forfuture growth in agriculture is very limited,this latter figure may be a better indicator ofthe marginal rate of linkage that might beexpected from diversified development ofmanufacturing.

3.23 This argument is itself far from conclusive.If the assessment of the potential foragricultural development is too pessimistic,then the domestic linkages created by futuregrowth would be stronger. However, what isclear is that the question of linkages isempirical: there is nothing inherently specialabout manufacturing in this regard. InBotswana the manufacturing sector hasgrown rapidly in comparison with many othercountries. However, it has not beenaccompanied by the extent of domesticlinkages, which might have been anticipated.As Table 4.1 shows, manufacturing hasremained much more dependent on importsfor supplies than the rest of the economy.

3.24 Another sign of such linkages not havingoccurred naturally, is the extent to which theneed to strengthen such linkages has becomea policy issue. This is the logic behindpolicies that attempt to distinguish ‘real’manufacturing industries. The lower companyincome tax rate is not available tomanufacturing businesses where theproduction process is a low-value activitysuch as assembling components or packaging,

which are presumed to be particularly importintensive. Similarly, there has been calls toincrease the extent of domestic processing ofthe country’s natural resources such asdiamond polishing and leather working. Thatthis has not so far occurred is a frequentsource of lament, even if the reasons for thelack of development of such industries are nothard to discern.10

3.25 The aim here is not to make a judgement onwhether encouraging forward and backwardlinkages is desirable or not. There may wellbe good reasons to argue for a judiciouspolicy in support of this. For instance, theefforts by the Ministry of Commerce andIndustry in Botswana to establish a databaseof potential local suppliers should be aworthwhile initiative. Rather, the point is thatsuch linkages are not an automaticconsequence of development. Moreover, theextent of ‘natural’ domestic linkages may bedecreasing. The increasing tradeability ofservices discussed above is a case in point,since the very logic of establishing an IFSCin Botswana rests on it. The proposed policyof target industries and active support forcreating linkages recognises this also, but itgoes a step further by making a judgment onwhat the pattern of development ought tolook like.

4. The Case for Services: AssessingBotswana’s Comparative Advantage

4.1 The range of economic activities covered bythe ‘services’ sector is very diverse.Therefore, making statements that areapplicable for the service sector as a wholeis very difficult. At least manufacturers havethe common feature that the end result is aphysical product.

4.2 For the purposes of this analysis the servicessector is taken to include the nationalaccounts sub-sectors of hotels andrestaurants, transport, communications,financial and business services. The majorexclusions from this are wholesale and retailtrade, traditional services such as domestic

10 Take the diamond polishing industry for example. Given the high value/weight ratio of rough diamonds, the relative transport costs are low,which reduces the advantages of processing them where they are mined (see Bank of Botswana Annual Report 1999, p79).

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servants and traditional doctors and non-profit organisations.11 The aim of using thisdefinition is to focus on the areas whichwould form the basis of a modern service-based economy. The intention is not in anyway, to devalue the contribution made tonational output by the excluded sub-sectors.12

In fact, it should be noted that their exclusionshould reduce further the case that the servicesector is inherently less dynamic.

4.3 Economics teaches that countries’ strategiesto develop are most effective when based onareas where they possess comparativeadvantages in production. This is a technicaleconomic term that in practice, is muchoverused and misunderstood (see paragraph4.10 and footnote 14). Without going into thevarious details surrounding it, the basic ideais that everyone stands to benefit if eachcountry specialises in what it does best -regardless of whether other countries producethat same good more efficiently in absoluteterms - and relies on others to supply goodswhere it is relatively less efficient. (Such anassessment should be careful to take properaccount of the extent of indirect costs ofproduction, such as the effects of establishinga particular type of production on the localenvironment.)

4.4 In what areas a country has comparativeadvantage depends on many factors. But agood starting point is to consider goods interms of the inputs that they require in theirproduction, and then to compare these withthe extent to which a country is well endowedwith those inputs.

4.5 The most obvious characteristic for servicesis that they are ‘weightless’, i.e., there is littleor no physical product. Now that they are alsoincreasingly tradeable, this feature hasprofound implications for patterns of trade. Inparticular, the appropriate location forproduction will be less determined byphysical transport costs and should enhancethe opportunities for economies previouslydisadvantaged by such considerations.

4.6 Given its geographical characteristics (land-locked and with a limited natural resourcebase) the ‘weightless’ economy would seeman area where Botswana would expect tohave a comparative advantage. Attributeswhere the country has already demonstratedsuch an advantage are themselves‘weightless’. Examples here include areputation for stability and prudentmanagement. This is an area where furtherpositive progress is anticipated, such as in theacquisition of a sovereign credit rating.

4.7 The Government’s policy towards educationwould also seem to strengthen this argument.In recent years, the proportion of GDP spenton education in Botswana has been amongthe highest in the world (see Chapter 7). Ifthis investment is well targeted then,compared to other developing countries, thecomparative advantage should lie in theknowledge-based areas of development.

4.8 At the same time, it may seem difficult toenvisage Botswana competing seriously inareas which are based on the large-scaleemployment of low-cost labour. Variousfactors work against this. In particularperhaps, the high cost of living in Botswana,arising in part from the extensive need toimport, may put upward pressure on wagescompared to countries where basic necessitiescan be obtained at lower cost.

4.9 This point should not be taken too far giventhat evidence does not immediately confirmthat wage costs in Botswana are significantlyout of line when compared with othercountries. But it does not seem that a readyavailability of cheap labour has been themajor spur to investment in manufacturing inrecent years. During the 1990s, real wagerates in manufacturing have been declining.Assuming that there has been no matchingdecline in productivity, such a trend might betaken to indicate increased competitiveness.But growth in output has not been matchedby equivalent growth in employment. As aresult competitiveness has been increasing

11 This is ‘defn#2’ used in Table 4.1.12 It should also be noted that a thriving trade sector is also a necessary component of a modern economy. Its exclusion here is to avoid the

suggestion that development based on consumption activities rather than investment and production is being encouraged.

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faster than suggested by the trend in the realwage (see Chart 4.1).13

4.10. It is important to note the precise implicationsfor the idea of comparative advantage. Itpoints to where a country should be bestpositioned to compete; to possess acomparative advantage does notautomatically also imply a competitiveadvantage.14 The extent to which it doescompete effectively in certain areas stilldepends on basic factors, notably whether thecost of the various factors of production isrealistic compared to their contribution tooutput. (In particular, perhaps, this applies tolabour, where wage levels can be influencedsignificantly by factors other thanproductivity.) Thus, to say that Botswana mayhave a comparative advantage in serviceproduction should not raise expectations thatit can immediately compete effectively inthese areas.

4.11 As one example of this last point, which doesnot relate to labour productivity, it should beclear that to take advantage of theopportunities of the ‘weightless’ economy anefficient system of telecommunications isessential. There is economic research thatindicates the boost to growth that arises from

concentrating investment in this sector. Thisis a lesson that Botswana could do well tobear in mind, a point that is taken up againin Chapter 6. Botswana has for some time,managed to avoid being classified as a case,seen as being all-too-common in Africa,where the inefficiency of a state-ownedtelecommunications is holding backdevelopment more widely. In Botswana, theBotswana Telecommunications Corporation(BTC) has operated on a sound financialfooting while achieving connection rates thatare respectable, if not outstanding, by worldstandards.15 But the clear deficiencies in thecurrent operation - of which the burgeoningcellular phone sector may be seen as in parta consequence - cannot continue if suchpotential opportunities are to be realised.Already in Botswana there has beenconsiderable disquiet about the quality ofservices provided by BTC from thosepromoting the introduction of Internetservices into the country. Despite this,however, according to some independentestimates the number of Internet users inBotswana as a proportion of the populationis one of the highest in Africa.16 This mightbe taken as an indication of some potentialfor developing business in these areas.

4.12 The range of international services that mightbe expected to locate in Botswana is wide.The initiative to establish the IFSC is basedon a presumed comparative advantagecentred on financial and business stability.This has entered the implementation stage,with considerable regional and internationalinterest. Various regional organisations areheadquartered in Botswana with more tofollow. A natural extension from this wouldbe for private sector businesses with aregional focus, to locate in the country. Thesafe and stable environment, efficient service

CHART 4.1: PRODUCTIVITY ANDCOMPETITIVENESS IN MANUFACTURING, 1990 - 1999

1990

=10

0

ProductivityCompetitiveness

80

90

100

110

120

130

140

150

160

170

180

1990 1991 1992 1993 1994 1995 1996 1997 1998 1999

Period

13 The measure of competitiveness shown in Chart 4.1 is based on measures of the real minimum wage. A broadly similar (although more volatile)picture emerges if real average wages are used. Productivity is defined as sectoral GDP per worker.

14 This is something that is not always well understood, a situation not helped by the common usage where the terms comparative and competitiveadvantage are often used interchangeably.

15 In 1997 the number of access lines provided by BTC per 100 people was 4.7. This is below the average of 6 for the group of low and middle-income countries taken as a whole, but far higher than the 1 for sub-Saharan Africa (excluding South Africa). Moreover development has beenvery rapid: in the four years from 1995 annual growth in this measure in Botswana was 17.1 percent, reaching a figure of 6.4 in 1999. This said,such macro-level figures can be misleading. For instance, they do not take into account the extent to which public phones are frequently out ofservice and, more critically for overall development prospects, the speed with which lines are provided to applicants for new connections.

16 According to the Business Africa (January 1st to 15th 2001) Botswana had 12 000 Internet users, or 0.76 percent of the population. This is wellahead of most countries reported in the survey. But it is also well behind South Africa and Mauritius for which the estimates were 4.19 percentand 4.66 percent, respectively.

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provision and associated tourist attractions, isconducive for holding international meetingsand conferences. For example, in 2000 thecountry hosted major internationalconferences for statisticians,telecommunications regulators, science andtechnology experts and for the constructionindustry.

4.13 A further point is that as real incomes rise,the balance of demand tends to switch infavour of services. This has been seen in thepattern of domestic consumption inBotswana, where the growth in recent yearsin such low-skill and sometimes labour-intensive services as valet car wash facilities,convenience stores, fast food outlets(including door-to-door delivery) and radio-controlled taxis has been evident.17 As aresult, significant numbers of jobs have beencreated. This point may also be applicable tothe potential for developing export marketsin services, the demand for which is buoyantas incomes rise. A good example is thepotential for developing the tourist industryin Botswana. But, in saying this, it must bestressed that to be successful in competing insuch markets, the emphasis will very muchneed to be on the quality of the product.

5. The Case for Manufacturing Restated

5.1 The potential for service development shouldbe recognised. But the danger of swinging thebalance too far in that direction must also beacknowledged. The myth that manufacturingis something special should not be replacedby a similar myth for services. Furtherdevelopment of financial and businessservices as well as tourism can contributemeaningfully to growth in national output andemployment creation. But by themselves theycannot be expected to achieve developmentgoals.

5.2 Geographical factors may not reduce the

potential for Botswana to develop as a centrefor manufacturing by as much as issometimes made out. It is true that land-locked countries are generally disadvantaged.This is especially so when, as is the case withBotswana, they are not served by navigablewaterways that facilitate transport.18 But theview of Botswana as an isolated, land-lockedcountry developed at a time when suchdisadvantages were magnified by regionalinstabilities. Now there is the prospect of theSouthern African region as a wholedeveloping into a dynamic integrated market.In such circumstances, Botswana, with itscentral position in this region, could be anideal business location, not just for businessheadquarters, as suggested above, but formanufacturing operations also. This would insome ways be a repeat of an earlier period:in the nineteenth century, the land that is nowBotswana was very important not just as atransport route but also as a trading centre.

5.3 The planned relocation from South Africa toBotswana by a leading manufacturer ofblankets announced in November 2000explicitly identified the locational advantagesas the prime attraction. Similarly, a potentialNamibian investor in the Botswana millingindustry anticipated increasing domesticproduction capacity on the basis of regionalexport potential.

5.4 Some manufacturing may also be relatively‘weightless’. This observation may seem topoint towards ‘light’ manufacturing. But it ismore than this: what really matters is a highvalue to weight/transport cost ratio. Again theexample of the diamond industrydemonstrates this in Botswana. The exampleof Switzerland, where manufacturing hasbeen centred on ‘light’ high-value productssuch as precision engineering,pharmaceuticals and luxury confectioneries,is again relevant.19 If Botswana businessescan start to compete in markets for goods that

17 Another example is the mushrooming in 2000 of manned public cellular phone facilities. While also a reflection of the dynamism of the marketeconomy, this is a less encouraging example, however, since it is largely a reflection of continued difficulties experienced by BotswanaTelecommunications Corporation in providing satisfactory service levels with its public phone network.

18 In the land-locked areas of large countries such as the United States, the existence of such waterways - the Great Lakes and the Mississippi Riverfor example - has facilitated the developments of wealthy industrialised urban centres.

19 The relevance of the Swiss experience in Botswana can be taken further. The Pula was once famously described as the Swiss Franc of Africaowing to its strength and the country’s reputation for financial stability.

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are less driven by price alone, but whichemphasise attributes including quality,diversity and timeliness of delivery, thenmanufacturing may again be a viable option.

5.5 To the extent that the IT revolution no longerencourages mass production inmanufacturing, it also increases the viabilityof small-scale production as the advantagesof physical proximity of all the stages ofproduction are reduced. Moreover,developments such as the Internet mean thatit is more feasible for small firms indeveloping countries to market their goods indeveloped markets.

5.6 In the wake of the passage of the AfricaGrowth and Opportunity Act through theUnited States Congress during 2000, therehas been some optimism expressed that thiswill lead to significant international interestin investing in Africa. This will arise assuppliers to the vast US consumer marketlook to take advantage of the opportunities ofreducing the costs of duties and quotas thatthe Act provides for a wide range of goodsproduced in qualifying African countries.These countries include Botswana and itmight be expected that under such a focus,the country would come out well. Moreover,it is anticipated that such investors will bereputable international producers, rather thanthose that have been attracted mainly bygrants from FAP. But while this providessome hope that there is a window ofopportunity to establish effectivemanufacturing industry in Botswana, thissupports the argument that this chapter has setout to make. The attraction for investors willbe Botswana as a business location ingeneral.

6. Conclusion

6.1 There is nothing in this chapter that suggeststhat Botswana should ignore the potential formanufacturing as a basis for futuredevelopment. As already noted, the past‘failure’ of the sector to develop is easilyexaggerated. Rather, the point being made isthat the balance between manufacturing andother sectors should be explicitly and

consistently neutral. To emphasisemanufacturing may place unrealisticexpectations on that sector as well as riskignoring other viable avenues for sustainabledevelopment.

6.2 The chapter has focussed on services as analternative to manufacturing. This is becausethere are good reasons to believe that this isan area where the country might hope to havean effective comparative advantage. Theproblems of high transport costs associatedwith manufacturing would be minimised andmaximum use could be made of the potentialfrom a labour force that is increasingly welleducated.

6.3 But the real lesson of the chapter is not thatit is a choice between manufacturing orservices. Rather, it is manufacturing andservices,and many more. The whole logic ofargument is in favour of diversification,promoting conditions that encourage theeffective exploitation of economicopportunities across a broad range of sectors.In contrast, the search for ‘engines of growth’emphasises basing development onidentifying and promoting particular sectorsthat will drive the economy through the nextstage of development.

6.4 Encouraging such broad-based developmentin turn, implies policies that are neutralacross sectors. Many policies currently beingfollowed are neutral. Promoting Botswana asstable, both politically and economically,characterised by business-friendly conditionssuch as low taxes, lack of corruption, goodlabour relations, a work force with extensiveexposure to formal education and a soundfinancial system, are attractive conditionsacross all sectors. Nor are dedicatedprogrammes to deal with the special needs ofvarious sectors inconsistent with thisapproach. But the design and assessment ofsuch programmes should not be influenced bysome presumption that development inparticular sectors is inherently morebeneficial. This is especially since suchreasoning can increase the extent to whichwell-intentioned development policies mayfall victim to the activities of investors whose

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main intention is to benefit from the awardof public resources.

6.5 The evidence, such as it is, suggests that theadvantages which underpin successfuldevelopment of manufacturing are not easilyestablished in Botswana. Now thatopportunities to develop without reliance onmanufacturing are increasingly apparent, thecountry should pay due attention toestablishing conditions where it is best placedto do so. In this context, a lopsided focus onmanufacturing can be a damaging distraction.

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Chapter

CHAPTER 5

FINANCIAL SECTOR POLICIES FOR DIVERSIFIED GROWTH

1. Introduction

1.1 A decade has passed since the Governmentbegan to implement the Financial SectorDevelopment Strategy1. Progress made inimplementing the strategy up to 1996 wasreviewed in the Bank’s Annual Report for thatyear. As indicated in the Annual Report, thefocus was in four principal areas fordeveloping the financial sector, viz, curtailingthe role of Government as the major sourceof finance for parastatals, improving theefficiency and soundness of commercialbanks, promoting the development ofdomestic money and capital markets, andimproving the effectiveness of developmentfinancial institutions.

1.2 Among the important developments in the1990s were an increase in the number ofbanks, diversification of their services as wellas growth in capital market infrastructure andinstruments. In fact, over the past ten years(1989/90 - 1998/99), the share of “banks,insurance and business services” in thenational accounts nearly doubled, adevelopment which was accompanied bygrowth in the number and types of financialinstitutions during the period, a process whichis itself an aspect of economic diversification.

1.3 This chapter briefly reviews the financialsector reforms that have since beenimplemented, examines the degree to whichthe financial sector has developed andsuggests possible new policy measures thatwill need to be considered as the economydiversifies and integrates into theinternational global economy.

2. Financial Sector Reforms: A ProgressReport

The Pre-1989/91 Period

2.1 Prior to the reforms that took place in theperiod 1989-91, the financial sector wascharacterised by a lack of competition and alimited range of financial institutions andinstruments. While Botswana neverexperienced the degree of direct controls onthe financial sector that characterised manydeveloping economies in the 1970s and1980s, there was significant intervention bythe Bank of Botswana and the Governmentin the operations of the financial sector. Until1986, interest rates were controlled by thecentral bank through a system of maximumlending rates and minimum deposit rates,while the level of interest rates was heavilyinfluenced by the Bank of Botswana’s calldeposit rate. Although the Bank had statutorypower to control the growth rate of bankcredit, this power was only used once, in1981, when the country experienced balanceof payment problems. At no time did theauthorities attempt to exercise any directcontrols over the sectoral allocation of credit,nor did Government borrow from the bankingsystem. A fairly strict system of exchangecontrols on capital movements (although noton current account transactions) restrictedsavers from accessing offshore financialassets, which may well have offered higheryields than domestic assets.

2.2 During this period, the instruments ofmonetary policy were quite limited. Monetarypolicy was largely implemented through

1 Botswana: Financial Policies for Diversified Growth. World Bank/Government of Botswana, August 1989

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direct controls that the Bank of Botswanaexercised over commercial banks’ interestrates (until 1986), and subsequently throughthe Bank’s call deposit rate. The latter facilityhad been introduced to absorb excessliquidity from the banking system, andtherefore the call deposit rate had theimportant function of representing themarginal return on deposits accepted by thebanks. The interest rate at which the Bank ofBotswana lends to the commercial banks, theBank Rate, was also varied in accordancewith monetary policy objectives. However,given the environment of excess liquidity inthe banking system, there was virtually nolending to the banks, and for ths reason,changes in the Bank Rate had little directimpact, although it remained important as abenchmark rate. Similarly, excess liquiditymeant that changes in reserve requirementswere largely ineffective from a monetarypolicy perspective, as they would have hadto be raised to very high levels in order tohave a significant impact on the commercialbanks’ ability to lend. Also during this period,the Bank of Botswana had no scope toconduct open market operations, as the usualinstruments for this purpose (Treasury Billsor central bank paper) did not exist.

2.3 For much of the 1980s, interest rate policywas more concerned with the cost ofborrowing than with remunerating deposits.Given excess liquidity, policy attempted toencourage borrowing through keepinginterest rates low and, as a result, interestrates were negative in real terms for most ofthe period up to 1993. The combination oflow interest rates and exchange controlsmeant that financial assets yielding positivereal returns to savers were virtually non-existent.

Financial Sector Reforms: The Post 1989-91 Period

2.4 The current monetary policy frameworkspecifies the objectives, the intermediatetarget and the instruments for achieving theobjectives. In order to improve transparencyin the conduct of monetary policy, the Bankbegan to issue yearly Monetary PolicyStatements in 1998. The Statements provide

a background to the issues addressed bymonetary policy and indicate the direction ofpolicy.

Monetary Policy: Objectives, Instruments andOperations

2.5 As is the case in most countries, monetarypolicy is a major component ofmacroeconomic policy aimed at achievingmacroeconomic balance. In line withinternational trends, the objectives ofmonetary policy are low and stable inflationand maintenance of positive real interest ratesthat are comparable to those prevailing ininternational capital markets. The referenceinterest rate for international comparison isthe real yield on three-month Bank ofBotswana Certificates (BoBCs), while theintermediate target is the growth in bankingsystem credit in order to restrain credit-financed expenditure. In the course ofimplementing monetary policy, the Bankmonitors the rate of growth in Governmentspending, given its impact on total nationalexpenditure.

2.6 The Bank Rate and auctions of BoBCs are thetwo key tools of monetary policy. The use ofOpen Market Operations (OMO), through thesale and purchase of BoBCs by the centralbank to and from commercial banks and othercounterparties, was initiated in 1991. Thesecond instrument, the Bank Rate, is theinterest rate charged by the Bank for short-term borrowing by commercial banks. Therate is also a signal for the desired level anddirection of banking system interest rates. Areduction in the rate indicates a need toexpand bank lending and vice versa for anincrease in the rate, although banks inBotswana borrow infrequently from thecentral bank due to high levels of liquidity inthe banking system.

2.7 Reserve requirements, which could be analternative or complementary to OMO, arenot actively used since they tend to act as atax on banks’ loanable funds vis-à-vis otherinstitutions that provide similar services.Moreover, in view of the excess liquidity inthe banking system, changes in reserve

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Chapter

requirements are unlikely to have asignificant impact on bank lending unlessthey are raised very sharply.

2.8 The framework for the implementation ofmonetary policy has undergone steadyimprovement during the decade.Nevertheless, much remains to be done tofurther enhance its effectiveness. Key areasof attention remain the exact nature of therelationship between interest rates and creditgrowth, between different types ofexpenditure growth (household, investment,government) and inflation, the impact ofother sources of price pressures, such asimport prices, on domestic inflation, and thedynamics of these and other relationships.

Monetary Policy Performance

2.9 A review of policy operation andperformance examines movements in creditgrowth rates, interest rates and inflation.Among the factors affecting the operation ofmonetary policy are excess liquidity, thedegree to which the money market isdeveloped and the competitiveness ofparticipants in primary and secondary moneymarkets. Therefore, apart from the specifiedtargets and objectives of the new monetaryframework, success also requires progress ineliminating those factors which have hithertobeen constraints to effective monetary policyimplementation.

2.10 Trends in the annual rates of growth of creditto the private sector are shown in Chart 5.1.As shown in the Chart, from 1988 there wassubstantial increase in the growth rate ofcredit to the private sector, peaking at 52percent in 1990. In turn, inflationsubsequently increased markedly, andreached 17.7 percent in June 1992. This risein inflation was a combined result of excessdemand and the increase in prices of importedgoods2. In the event, despite the statedmonetary policy objective of achievingpositive real rates of interest, most depositrates remained negative in real terms asinflation rose to unprecedented levels.

2.11 From the second half of 1992, inflationdecreased and fell to 5.9 percent in the secondhalf of 1998, its lowest level since 1985. Theslowdown in inflation followed the decline inthe rate of growth of credit to the privatesector to moderate levels up to 1997. Thesedevelopments were the result of adjustmentsto the Bank Rate and sterilisation of excessliquidity through the sale of BoBCs as wellas slower growth in the non-mining sector ofthe economy and government spending. Theextent of the absorption of excess liquidity isrepresented by the volume of BoBCsoutstanding.

2.12 However, inflation subsequently rose in 1999and 2000. Among the factors responsible forthe rise in inflation were the substantialgrowth rate in credit to the private sector, thesignificant addition to liquidity in theeconomy following the July 1998 adjustmentin public sector salaries, the rapid growth ofgovernment expenditure and, more recently,the sustained increase in oil prices. In aneffort to contain inflation, the Bank Rate wasraised in February 1999, March 1999,February 2000 and October 2000. Theliquidity mopping up as indicated by BoBCsoutstanding was, however, less aggressive,although yields on BoBCs rose steadilyduring the period.

2.13 Overall, despite the rise in inflation in 1999and 2000, there is evidence that over time, theoperation of the policy variables has resultedin a restrained rate of credit growth, lower

CHART 5.1: BOTSWANA-GROWTH IN CREDIT TOTHE PRIVATE SECTOR AND INFLATION, 1980 - 2000

Growth rate of credit to private sector Inflation

-15

-10

-5

0

5

10

15

20

25

30

35

40

45

50

55

80 81 82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98 99 00

Period

Per

cent

(cr

edit

grow

th r

ate)

Infla

tion

0

2

4

6

8

10

12

14

16

18

2 See, for example, Wright and Kahuti, 1997, “The Real Costs of Inflation in Botswana”, in Aspects of the Botswana Economy.

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inflation and positive real rates of interest.Most notable was the substantial reduction inthe growth rate of credit to the private sectorin 2000 compared to 1999, a factor whicheased domestic pressures on inflation.

2.14 There were also policy achievements withrespect to real interest rates in Botswana. Therate for three month BoBCs has comparedfavourably to similar instruments in majorinternational markets since 1993. The realeffective yield on BoBCs averaged 3.53percent in 2000 compared to an average of2.65 percent in the USA and 2.87 percent inthe UK.

Banking Supervision

2.15 Another aspect of the financial sectordevelopment strategy was the promotion ofefficient operations of commercial banks andother private sector financial institutions byencouraging greater competition within theindustry. In line with this aspect of thestrategy, additional commercial banks werelicensed. Correspondingly, the Bank ofBotswana ceased to regulate bank tariffs andto be directly involved in the commercialbanks’ business location decisions.

2.16 In order to ensure the soundness ofcommercial banks and the financial sector ingeneral, the supervisory powers of the Bankwere enhanced under the new Banking Act,1995. The Act also widened the Bank’sregulatory powers beyond commercial banksand leasing companies to include merchantbanks, discount houses and other specializedinstitutions, as well as delegating to the Bank

the authority to process and issue bankinglicences. Furthermore, the Act strengthenedthe provisions contained in the previous Act,for direct involvement of the Bank in dealingwith distressed financial institutions. Underthis provision the Bank can directly interveneto rehabilitate distressed institutions, restorepublic confidence in the affected institution(s)and forestall a systemic financial crisis. Thereis also a provision for collaboration withother external supervisory authorities onmatters of banking supervision includingmoney-laundering issues. The Bank wasfurther granted the responsibility for theregulation and supervision of theInternational Financial Services Centre(IFSC) entities, as well as the administrationof the Collective Investment UndertakingsAct, 1999.

Exchange Control Liberalisation and Abolition

2.17 In February 1999, Botswana abolished allexchange controls, a logical step followingthe significant and progressive liberalisationthat had taken place over a period of manyyears. The increased integration intointernational financial markets will enable thecountry to tap global financial resources asfirms and households will take theopportunities available to diversify both theirinvestment portfolios and sources of funds.However, there are downside risks thataccompany increased integration into globalfinancial markets. Increased financial flowsacross national boundaries can render openeconomies susceptible to adverse shifts inmarket sentiment. From this perspective, thenew situation presents challenges topolicymakers in dealing with the preventionand resolution of financial crises of eitherdomestic or external origin. It also poses newchallenges in the implementation of monetarypolicy.

3. Financial Sector Growth: A Review ofRecent Trends

Institutional Developments

3.1 Charts 5.3 and 5.4 highlight the fundingprovided by the various types of institutions.

CHART 5.2: BOTSWANA-INTEREST RATES ANDINFLATION (1991 - 2000)

0

2

4

6

8

10

12

14

16

18

20

91M S 92M S 93M S 94M S 95M S 96M S 97M S 98M S 99M S 00M S

Period

Per

cent

Bank rate 88 day deposit ratePrime lending rate Inflation3 month BoBC rate

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Chapter

As can be seen from the charts, the financialsystem is dominated by commercial banks,followed by the Government’s Public DebtService Fund (PDSF) and non-bank financialinstitutions (NBFIs). Lending by commercialbanks has increased sharply since thebeginning of the 1990s, rising from P754million in 1990 to P4.2 billion in 1999, whilePDSF loans increased more slowly: fromP914 million in 1990 to a peak of aroundP2.5 billion in 1997, then falling to just overP2.1 billion in 1999. The decrease in PDSFlending reflects Government policy ofprogressively weaning parastatals offdependence on public funds as part of thefinancial sector development strategy. As aresult, the share of commercial banks in thetotal advances of financial institutions has

increased sharply, while that of the PDSF hasdeclined since the mid-1990s. The share ofNBFIs has remained steady, except for adecline in the mid-1990s when therestructuring of some NBFIs necessitatedsubstantial write-offs of loans.

3.2 There is also a growing money market, whichinvolves trading in BoBCs. The outstandingmarket value of the certificates grew fromP200 million in May 1991 to P4.2 billion in1999, but fell slightly to P3.7 billion in 2000.However, secondary market transactions (i.e.,trading outside the Bank by counterparties)have remained low, totalling P498.3 millionbetween January and December 2000, or 13percent of the outstanding market value ofBoBCs.

3.3 Chart 5.5 shows the growth rates and marketcapitalisation of the Botswana StockExchange (BSE). The stock market, whichwas established in 1989, performedremarkably well during the first few yearsafter its establishment, in terms of the levelof capitalisation, the value of shares andreturns to shares. However, the growth in thevalue of shares and returns has recentlytapered off. During the first eleven years ofits existence, sixteen companies have beenlisted, while market capitalisation grew at anaverage rate of 30.5 percent per annum. Asat the end of 2000, market capitalisation wasnearly P5.2 billion. Another significantdevelopment on the stock market has beenthe existence of dual listing3 of stocks as partof exchange control liberalisation.

3.4 The main investors on the BSE are domesticinsurance companies and pension funds,which are obliged to hold a certain proportionof their portfolio in the form of domesticassets. For these institutional investors andother savers, the establishment of the stockexchange provided a welcome addition to therange of available financial assets, especiallyat a time when exchange controls restrictedthe purchase of offshore assets. Taken overthe period as a whole, real returns on BSE-listed equities have been good. Nevertheless,

CHART 5.3: SELECTED ASSETS AND LIABILITIES OFTHE BANKING SYSTEM

0

2000

4000

6000

8000

10000

12000

14000

1985 1990 1995 2000

Period

P m

illio

n

Assets Advances Deposits

PDSFBanks

CHART 5.4: ADVANCES BY SELECTED FINANCIALINSTITUTIONS (RELATIVE SHARES)

0.0

10.0

20.0

30.0

40.0

50.0

60.0

70.0

1985 1990 1995 2000Period

Sha

re in

Tot

al F

undi

ng (P

erce

nt)

NBFI

3 As at the end of 2000, there were seven dual listed stocks. These are mostly companies with some business interests in Botswana, with theirprimary listings on the Johannesburg Stock Exchange.

Note: Advances include government loans to parastatals

from the Public Debt Service Fund (PDSF)

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there has generally been a problem ofliquidity in the market, with a shortage ofmarketable stock. Over the last two years,however, this problem has diminished, duepartly to the selling of shares by foreigninvestors as emerging markets generally fellout of favour. One recent development hasbeen the development of an embryonic bondmarket, as two parastatals (BotswanaTelecommunications Corporation and the

Botswana Development Corporation) floatedbonds with a total nominal value of P100million. In addition, a South African bank,Investec, issued short term paper with a valueof P182 million, and just before the end of2000, the Botswana Building Society floateda P50 million bond.

3.5 A further significant development in thefinancial sector during the 1990s has been thegrowth of pension and life insurance funds.Most large and medium sized companies inthe private and parastatal sectors now havetheir own pension funds, the management ofwhich is generally contracted out toprofessional fund managers. Correspondingly,pension and life fund assets have risen rapidlyand were over P2 billion in 2000. At least 30percent of these assets must be investeddomestically, while the remainder can beinvested offshore. The main domestic assetsheld by these institutions are shares andbonds quoted on the Botswana StockExchange, commercial property and BoBCs.Contributions to pension and life funds aregenerally made through salary deductions ona contractual basis, and have played animportant role in sustaining the savings rate

of the household sector. The funds representan important pool of long term savings, andone of the key tasks in developing thefinancial sector is to ensure that these savingscan be applied to productive investments,which are generally in need of long termfunds, without exposing savers to excessivelyhigh risks.

3.6 As the development of the capital market andfinancial sector liberalisation progresses, it isexpected that the relative share of commercialbanks in the intermediation process will bereduced. However, for firms that are unlikelyto raise funds from the capital markets,commercial banks will continue to be a majorsource of funds.

3.7 The lending decisions of financial institutionsare normally based on considerations ofmarket and credit risks, which may notalways coincide with some socio-economicgoals. In the event that purely businessconsiderations in lending are inconsistentwith other socio-economic objectives, theGovernment may need to address the specialborrowing needs of certain segments ofsociety in a transparent and efficient manner.In meeting such special needs the relatedchallenges are, first, to ensure that thefinancial sector should remain a majorconduit for channelling the funds to targetedsections of the society and, second, tomaintain the viability of the institutionsinvolved as well as the overallcompetitiveness of the financial sector.

3.8 It is in this context that the Government hasestablished certain schemes that are aimed atproviding finance for viable investments thatmay not be able to satisfactorily meet theirentire financial requirements through privateand parastatal financial institutions. Theseinclude the Financial Assistance Policy(FAP), which provides grants for approvedinvestments in manufacturing, tourism andnon-traditional agriculture, and the Small,Medium and Micro Enterprise (SMME)scheme. Both of these are discussed in moredetail in chapter 3.

CHART 5.5: MARKET CAPITALISATION OF THEBOTSWANA STOCK EXCHANGE

1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000

P M

illio

n

0

1000

2000

3000

4000

5000

6000

As at end of Period Pula US$

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Chapter

Financial Intermediation and Economic Growth

3.9 The financial sector contributes to thedevelopment process through theadministration of the payments mechanismand intermediation between savers andborrowers. One objective of financial sectorpolicies is the promotion of improvements inthe ability of the financial sector to dischargethese functions. Provided that intermediariesfinance viable projects, the overall effect isan increase in the average productivity ofinvestment.

Indicators of Financial Development

3.10 A study4 of the relationship between fourfinancial development indicators and fourgrowth indicators for 77 countries averagedover the period 1960 - 89 (Table 5.1),reported a wide range of values for the

financial development and growth indicatorsacross all the countries. Nevertheless, thestudy reveals two major conclusions. First,that each financial indicator is positively andsignificantly correlated with each growthindicator and, second, that the financialindicators are highly correlated with eachother. The study then concludes that, overall,financial development is strongly linked toeconomic growth.

3.11 Table 5.1 shows comparable data forBotswana for the 1980 - 2000 period. Theresults do not wholly conform to the averageoutcome reported in the 77-country study.While Botswana’s financial developmentindicators appear to be highly correlated witheach other, the correlation between thefinancial development and growth indicatorsis neither consistently high nor consistentlypositive. The reduced robustness of the

4 See King and Levine, 1993, “Finance, Entrepreneurship and Growth: Theory and Evidence”, Journal of Monetary Economics.

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results is probably due to the role of miningin the country’s economic performance. TheGovernment has played a key role inpromoting growth by channelling the miningrevenue into various developmental needs.This factor explains why financial depth isless correlated with real per capita growthrate and the capital stock growth ratecompared to the average reported in the crosssection study. However, financial depth ishighly correlated with the ratio of investmentto gross domestic product while private sectorcredit is correlated with some of the growthindicators.

3.12 Chart 5.6 further highlights the link betweenfinancial development and economic growth,and Botswana is compared with selectedcountries at different stages of development.It is evident that more developed countriesand rapidly growing developing countrieshave higher rates of financial depth. WhileBotswana has a lower rate of financial depththan the other rapidly developing economiesand the more developed economies, itsgrowth rate compares favourably.

(i) Financial Deepening

3.13 Most measures of financial depth utilise theratio of liquid assets to gross domesticproduct as an indicator, on the assumptionthat the size of the financial sector ispositively correlated with the provision offinancial services. There is evidence to theeffect that the ratios of liquid assets to GDPare higher in the more developed economiesthan in developing countries, indicating thatin these countries, more savings arechannelled through the financial system andare, therefore, intermediated. Similarly,financial systems are deeper in the rapidlygrowing countries, such as East Asiancountries, compared to the low-incomecountries in Africa.

CHART 5.6: FINANCIAL AND GROWTHINDICATORS (AVERAGE OVER 1985 - 1999)

Malaysia Trinidad and Tobago JamaicaMauritius USA UKTanzania Botswana Thailand

0.0

0.2

0.4

0.6

0.8

1.0

1.2

0.0 2.0 4.0 6.0 8.0 10.0 12.0 14.0

Nominal GDP Growth (Percent)

Rat

io o

f Priv

ate

Sec

tor

Cre

dit

to G

DP

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Chapter

3.14 Table 5.2 shows the relevant ratios to nominalGDP for selected industrialised, emergingmarket economies (middle income) and low-income countries. The selected measures offinancial deepening are the ratios of currencyand demand deposits (M1), M1 plus savingsand time deposits (M2), and credit to theprivate sector to GDP. There is no clearcorrelation between M1 and the level ofdevelopment. The ratio of M2 to GDP is,however, markedly higher in countries at ahigher level of development than in the lessdeveloped countries. The ratios reflect the

existence of a range of financial institutionsand financial claims that exist in the moredeveloped and the rapidly growing countries.Similarly, the ratio of private sector credit toGDP is higher in the more developed andrapidly growing economies, indicating thegreater use of the formal financial institutionsto finance economic activity undertaken bythe private sector.

3.15 Comparison of the various indicators in Table5.2 shows that Botswana’s level of financialdepth was comparable with low incomeAfrican countries in 1998, but markedlylower than that of countries with similarincome levels. Although the ratios of creditand M2 to GDP have increased during the1990s, the trend has not been consistent andthere was a significant decline in these

indicators in the middle of the decade. Thiscoincided with an increase in BoBC holdingsby the banks, as an alternative risk-free assetcompared to advances.

3.16 Financial development can also be analysedusing measures of concentration in thebanking system. It is assumed that a lessconcentrated (and presumably morecompetitive) banking system reflects a greaterlevel of financial development which is bettersuited to serve the diverse and emergent

needs of a growing economy. The degree ofconcentration in the banking sector ismeasured using two alternative ratios: a two-bank concentration ratio5, which measures themarket share of the largest two banks in theeconomy, and a market share ratio, whichtakes into account the total number of banksand their respective market shares.

3.17 Chart 5.8 shows the trends in the twoconcentration ratios for Botswana. For awhile there were only two banks, and therewas a decrease in concentration when a thirdbank entered the market in 1981. However,from 1983 to 1991 there was virtually nochange in the degree of concentration, and themarket share of the two largest banksremained above 90 percent. However, from1991 there was a marked decline inconcentration in the banking system as shown

CHART 5.7: MEASURES OF FINANCIAL DEPTHS

Period

Rat

io

M2/Non-mining GDP Credit/Non-mining GDP

1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000

0.45

0.40

0.35

0.30

0.25

0.20

0.15

0.10

0.05

0.00

5 The ratio is determined by calculating the proportion of the deposit liabilities of the two largest banks to the total deposit liabilities of all thebanks. To reflect the trend in this ratio a series from the available data for Botswana is calculated. In this regard, a Herfindahl index (seeSmirlock, 1985,”Evidence on the (Non) Relationship Between Concentration and Profitability”, Journal of Money, Credit and Banking), basedon the relative sizes of deposits held by individual banks is calculated. The index is calculated, for each year, by taking the share of each bank intotal deposits of commercial banks and squaring. It is expressed by the formula: Index= , where TD is total deposits in all thecommercial banks, and Di deposits with bank i.

CHART 5.8: COMMERCIAL BANKS MARKETSHARE AND CONCENTRATION RATIOS

50

60

70

80

90

100

110

1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000

Period

Inde

x/P

erce

nt

Market Share Ratio (Index) Concentration Ratio

5

2

i=1..n( )DiTD

∑

112


by the decrease in both concentration ratiosup to 1998. This trend reflects the changes inthe banking system, deriving from policychanges implemented since the early 1990s,which facilitated the entry of new institutionsinto the financial sector and the introductionof competitive new services. By the end of2000 the market share of the largest twobanks had decreased to less than 60 percent.

(ii) Banking System Efficiency

3.18 The degree of bank profitability canalternatively be measured by the return onassets or equity, the cost-income ratio, or theinterest margin6. Chart 5.9 shows the rangeof return on average assets for banks inBotswana over eleven years, while Table 5.3shows a comparison with selected countries.By these measures commercial banks inBotswana have remained largely profitable,and compare favourably with banksinternationally. The interest margin representsthe banks’ return on intermediation and islikely to be higher where banks can attract agreater amount of relatively low cost currentaccount deposits and where high lending ratesare unchallenged due to lack of competition.Chart 5.10 shows the trends in the primelending rate and the 88-day deposit rate. The

CHART 5.9: COMMERCIAL BANKS-RATES OFRETURN ON ASSETS,1990 - 2000

0

1

2

3

4

5

6

7

1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000

Period

Per

cent

1.76

0.86

0.12

1.27

0.81

2.72 2.722.83

1.901.96

2.49 2.40 2.45 2.37

3.65

2.94

3.51

4.564.34

3.82

5.83

6 The difference between the lending rate and the deposit rate.

CHART 5.10: INTEREST RATES AND INTERESTRATE SPREAD, 1991 - 2000

Interest rate spread 88 day deposit rate Prime lending rate

-4

-2

0

2

4

6

8

10

12

14

16

18

91M S 92M S 93M S 94M S 95M S 96M S 97M S 98M S 99M S 00M S

Period

Per

cent

113

Chapter

spread between these two rates shows theintermediation margin; it is evident that thegap between the two rates has widenedduring the 1990s. This is contrary to whatmight have been expected given theincreasing competition that should have beenaccompanied by a reduced intermediationmargin.

3.19 The high levels of commercial bankprofitability could indicate the absence ofcompetition and the possibility ofoligopolistic behaviour, which may result ininefficient intermediation. Notwithstandingthis, profitability is, generally, indicative ofsoundness of banks and establishes thepublic’s confidence in the banking system.Furthermore, to an extent that profits arederived from lending business, it reflectsviability/productivity of the activities beingfinanced7. Profits, to the extent that they areretained, sustain the growth of individualbanks and their ability to finance higherthresholds and increase the range of activitiesthat may be financed.

3.20 Other relevant areas for analysis of efficiencyof intermediation include the quality ofpayments and other services. Recentimprovements in this regard include thereduction in the lags in cheque clearing andthe abolition of exchange controls. Theefficiency of services has been enhanced byincreased adoption of new technology

including automated teller machines (ATMs),debit and credit cards and on-line access toaccounts for corporate and personalcustomers. At the same time, there has beena progressive introduction of special productsfor personal accounts, particularly targeted atregular salaried employees. Other facilitiesinclude foreign currency accounts (FCAs),which can help in reducing the transactionscosts for some categories of account holders;they also attract interest rates that arecomparable to those in the overseasrespective currency markets and can be usedas a hedge against exchange rate risks.

3.21 The innovations made by the banking systemare consistent with international trendsespecially with respect to infrastructure. Thetrend is also buttressed by the fact that banksin Botswana have reputable internationalparent banks. Notwithstanding the notableinfrastructural improvements and the range ofproducts, there remains anecdotal evidence ofinefficiencies in customer services at countersand delays in the cheque clearing process.

Services of the Financial Sector

Deposit Mobilisation

3.22 The relative performances in depositmobilisation by the different types offinancial institutions is shown in Table 5.4.Deposit mobilisation by the commercial

7 It is noted, however, that a significant amount of lending is for personal consumption backed by employment income (rather than businessincome). Profits also comprise interest earned on BoBCs.

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banks has previously been influenced byexcess liquidity in the system and lack ofopportunities for profitable financialinvestments in the domestic market. Theincidence of excess liquidity was a reflectionof limited domestic absorptive capacity in thecontext of exchange controls. Since theadoption of a new monetary policyframework, however, the banks can holdexcess funds in Bank of BotswanaCertificates. Furthermore, given theliberalisation of exchange controls, residentsare free to invest and utilise any of their fundsabroad. Therefore, the existence of excessfunds in the domestic market reflectspreference for domestic liquid funds takingaccount of a combination of factors thatinclude market and portfolio risks as well astransaction costs.

3.23 For development finance institutions, thelimitations imposed by the relevant statutes,their narrow range of services overall and,until recently, the ready availability ofgovernment funds, were apparently the moresignificant factors limiting the ability andincentive for deposit mobilisation.Furthermore, the absence of certain paymentsfacilities at the Botswana Building Societyand the Botswana Savings Bank, for example,limit the services they offer, and thereforetheir attractiveness to potential customers.The other development finance institutionsare statutorily inhibited from taking deposits,although they can raise funds in the market.In the past, the government could readilyfinance them at relatively low cost; for thisreason, there was no incentive to even raisewholesale deposits from the market.

Credit Allocation

3.24 The higher level of deposit mobilisation bythe commercial banks suggests an enhancedintermediary role vis-à-vis the private sector.To examine the extent of allocation ofmobilised funds, reference is made to theratio of advances to deposits, the trend ofwhich is shown in Chart 5.11. The ratio fellsignificantly in the mid-1990s, and by 1997the banks were lending only 50 percent ofdeposits, which may be considered a

relatively low level of intermediation. Thedecline in the proportion of deposits lent outfollowed a period of rapid credit growth inthe early 1990s, and a subsequent period ofrising arrears and bad debts. This experiencecaused the banks to reassess their lendingpolicies and appraise credit risks, and led toan increased preference for the risk-freereturns and liquidity offered by Bank ofBotswana Certificates. The improvedperformance of the private sector since 1997and enhanced investment opportunities has,however, led to a rise in the proportion ofdeposits lent out to nearly 70 percent by2000. Nevertheless, there is considerablescope for banks to increase their lendingrelative to deposits. Whether or not they cando so will depend on the availability of

effective credit demand from borrowers withacceptable risk profiles, and the banks’ abilityto reduce the costs of assessing andmonitoring risk. It should be noted, however,that the structural characteristics of theeconomy, including an excess of savings overinvestment, are likely to depress the level ofbank lending relative to deposits, and privatesector credit relative to GDP, in comparisonwith some other countries.

3.25 Another important aspect of intermediationrelates to the maturity structure of credit andits allocation (Chart 5.12). A varying maturityspectrum of credit reflects diverse fundingoptions for important elements of real sectorproductive activity such as payments,operations, innovation and investment.Payments and operations funding as well as

CHART 5.11: COMMERCIAL BANKS-DEPOSITLIABILITIES AND ADVANCES

Deposit liabilities Advances Advances/Deposits

0

1000

2000

3000

4000

5000

6000

7000

8000

P M

illio

n

0.00

0.10

0.20

0.30

0.40

0.50

0.60

0.70

0.80

0.90

Rat

io

99 00

Period

82 83 84 85 86 87 88 89 90 91 92 93 94 95 96 97 98

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services would normally be fulfilled throughcheque account, overdraft and short-termlending to provide liquidity and the financingof stocks and day-to-day costs. Effectiveintermediation should additionally facilitatethe flow of funds to private productiveinvestments, which normally require longerterm funding. Thus, whether lending was forproductive purposes or not could, at least tosome extent, be seen from the sectoraldistribution of loans and the term structure ofthe loans. A combination showingpreferences for short-term lending tohouseholds, for example, would indicateconsumption lending. In contrast, long-termlending to private businesses is more likelyto suggest productive lending. A review ofthe maturity breakdown shows that the banksmostly lend for one to five years and thislending has been increasing. This range of

maturity covers short-term personal loans andlending for household durables and motorvehicles. Notably, overdrafts which aremostly used by businesses for payments andfunding of operations have been declining asa proportion of total lending. However,although the maturity structure continues tobe dominated by loans of up to five years andoverdrafts, the proportion of loans over fiveyears has been steadily increasing.

3.26 Data on sectoral flow of credit show that alarge and increasing share flows to thehousehold sector (see Chart 5.13). It isnotable that considerably less credit flows toareas normally associated with growth-inducing activities such as agriculture, mining

and manufacturing; on the other hand, thetrade and service sectors attractcomparatively higher levels of credit. Thissuggests that, while banks may be effectivein providing funds for routine operations andconsumption purposes, there is relatively lesslending for investment. This may reflect thebias by the banks towards short-term lending.

It is possible, though, that the fundingrequirements of the relatively largebusinesses could not be met by the domesticbanks individually, given their level ofcapitalisation and restrictions with respect toloan concentration. This may also apply tofunding of utility parastatals, although in theircase recourse to PDSF borrowing andgovernment-assisted foreign borrowing was,until recently, the overriding reason.

3.27 Although commercial banks reported anincreasing proportion of lending tohouseholds, this could include a significantamount used for (household) businessoperations, especially in agriculture, smallretail, taxis and property development. Theclassification under households reflects thecircumvention of the more formal anddetailed requirements for loan applicationsclassified as business compared to the easilystructured application process for personalloans. There are a number of implications ofthis for the quality of returns on theinvestment being financed. First, those whoqualify for personal loans are normallypeople in professional employment and,therefore, do not necessarily devote focused

CHART 5.12: SHARES OF ADVANCES BYMATURITY

Overdrafts Less than 1 year 1 to 5 years Over 5 years

0

5

10

15

20

25

30

35

40

45

50

90 91 92 93 94 95 96 97 98 99 00

Period

Per

cent

CHART 5.13: SECTORAL DISTRIBUTION OF CREDIT

Percent

1990 1995 2000

0 5 10 15 20 25 30 35 40 45 50 55

Parastatals

Households

Agriculture

Manufacturing

Construction

Trade

Transport

BusinessServices

Other

Mining

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attention to their business ventures. Second,the applications do not benefit fromprofessional project evaluation and, therefore,their financing is not necessarily on the basisof projected positive return from theinvestment. It is, therefore, possible that thereis a significant amount of investment capitalwith low returns. This has implications forfuture rates of economic growth.

4. Conclusions

Bank of Botswana: Monetary Policy

4.1 Openness and increased integration intoglobal financial markets imposes anobligation of unfailing discipline on theconduct of economic policy so as to maintainpolicy credibility and consistency as well asminimise the impact of possible financialmarket crises. In globalised internationalfinancial markets, increased inter-linkagesbetween markets and the degree of sensitivityof capital flows, not only make monetarypolicy more complex, but also underline itscritical role in creating a stable domesticeconomic and financial environment. In thiscontext, it is important to sustain a transparentand consistent monetary policy framework,which is clear in terms of objectives andimplementation.

4.2 There is increasing consensus and emphasisin many countries that central banks shouldpursue price stability as the single andoverriding objective of monetary policy.Price stability is important for at least tworeasons. First, it is a necessary condition forattaining sustainable growth, as low andstable inflation contributes to economicexpansion by stimulating investment andimproving productivity. Second, a singleobjective helps to insulate the central bankfrom political pressures. Otherwise, monetarypolicy can be subjected to electoral cycles,thereby adversely affecting its credibility andconsistency in controlling inflation. The needfor consistency and credibility is importantsince fiscal policy is expected to besupportive of a monetary policy stance.

4.3 A major challenge for monetary policy in

Botswana, which emerges as the economyincreasingly integrates into the globalfinancial markets, is the potential for largecapital inflows or outflows, which canundermine the maintenance ofmacroeconomic stability. Under a flexibleexchange rate regime, economies are to acertain extent, insulated from such shocks bythe ability of the exchange rate to adjust. Witha pegged exchange rate, such as Botswanahas, significant interest rate differentials inrelation to other countries, could cause largeand potentially disruptive capital flows. Inpractice this has not been a problem since theabolition of exchange controls in 1999, butit could be in future as domestic financialmarkets evolve. It will, therefore, benecessary to monitor carefully therelationship between exchange rate andmonetary policies in future and to ensure thatappropriate choices are made in the face ofevolving policy constraints.

Prudential Supervision

4.4 Liberalisation of the financial sector inBotswana was supported by the establishmentof an adequate framework for the prudentialregulation and supervision of licensedfinancial institutions. The Banking Act, 1995addresses the need for maintenance of asound banking system that can supporteconomic diversification. However, one ofthe lessons drawn from the East Asian crisisis the importance of removing inherentweaknesses in the supervisory legislation fordealing with troubled institutions. TheBanking Act, 1995 deals with this problem bygranting the Bank unambiguous powers tomove swiftly to either rehabilitate orpromptly close a troubled financialinstitution, thereby limiting the prospects forsystemic risk. Another important lessonwhich emerged from the South East Asiancrisis, which the supervisory authorities inBotswana need to be cognisant of in thecontext of the globalised financial markets, isvigilance in monitoring and strictly enforcingthe levels of lending to related parties as wellas the degree of foreign currency risksassumed by large corporations and financialinstitutions.

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4.5 Currently, the supervision of developmentfinance institutions (which are establishedunder various statutes other than the BankingAct) is limited both in scope and in thesupervisory action that could be enforced.This situation needs to be reviewedparticularly with respect to the regulation andsupervision of deposit-taking financialinstitutions such as the BBS and the BSB, aswell as lending institutions, especially theNDB. Unsound financial institutions are alsounlikely to attract deposits efficiently andwould not easily raise funds in the privatemarket. Conversely, the inefficient financingof unviable projects would not supportsustainable economic growth in general anddiversification in particular. Furthermore,fully supervised development financeinstitutions would improve their ability toraise funds from the private market, promotethe development of the capital market andincrease the efficiency of the financialsystem.

4.6 Besides the existing firm prudential andsupervisory legislation, which hasunderpinned and supported the process offinancial sector liberalisation in Botswana,there are challenges that need to be met onan on-going basis, as the economy grows incomplexity. The challenges includediversification of the nature and number offinancial institutions, their manner ofoperation, the increased complexity offinancial services and greater incidence ofcross-border operations. These developmentshave implications, on the one hand, for theallocation of regulatory and supervisoryresponsibilities for banks and relatedinstitutions and for the capital market. On theother hand, there are implications for theprogramme of supervision, cross-bordercooperation, and the overall efficiency andintegrity of the process. Therefore, thedevelopment of new innovative financialproducts and the emergence of financialconglomerates, as the economy getsintegrated into a globalised world economy,will require the continuous modernisation andadaptation of the regulatory framework so asto ensure a resilient financial system.

Financial System and Economic Development

4.7 The financial reforms that have taken placesince the late 1980s were intended to ensurethat the financial sector would play a positivesupportive role in economic diversification.To a certain extent, this has been achieved:the range of financial products, markets andinstitutions has been significantly extended,with more specialisation and, hopefully,greater efficiency. Nevertheless, moreremains to be done, especially in developingthe bond and stock markets. Although thesemarkets now exist, the provision of financeby the private sector still remains dominatedby the commercial banks. It is also evidentthat there has been little significant financialdeepening, contrary to expectations; againindicating that more remains to be done inexpanding the role of the financial sector. Thelack of financial deepening may reflect afailure of the financial sector to penetratesignificantly throughout the economy, and thedevelopment of financial markets andinstitutions that can serve a broader range ofeconomic activities remains a challenge,whether through the provision of savingsproducts or the finance for investment.

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CHAPTER 6

BUILDING THE NECESSARY BASE OFSKILLS AND TECHNOLOGY?

1. Introduction

1.1 Earlier chapters have discussed the areas inwhich Botswana might expect to develop inorder to achieve the objective of a diversifiedeconomy. This chapter examines thefundamental question of how the countryshould equip itself with the necessary base ofproductive capital and skilled labour so thatthese goals can be realised. In particular, thechapter looks at what needs to be done inorder to take advantage of the economicopportunities resulting from technologicaldevelopment.

1.2 According to Vision 2016, ‘Botswana willhave entered the information age on an equalfooting with other nations’.1 What such an‘equal footing’ will mean in practice is notclear since by 2016 the country will clearlynot be a technological leader like the USAand other industrialised countries. But it isclear that the country intends to pursueseriously economic development objectivesbased on skills development, technology andknowledge. This is an ambitious goal since,by some measures at least, Botswana iscounted as one of the countries that are stillconsidered ‘technologically excluded’.2

1.3 The answer to this question may seem easy,summed up in a single word - ‘investment’.This has been emphasised by the BotswanaGovernment. In the 2000 Budget Speech itwas stated that ‘one of the major policychallenges is to raise investment as aproportion of GDP from the current level ofabout 25 percent to around 40 percent’ if the

goals of Vision 2016 are to be achieved.3 Ifthe emphasis is on skills and technologydevelopment, then investment should alsobe concentrated in these areas. In thisregard, the Government has shown arepeated commitment to continue to investin education and has recognised theimportance of supporting the advancementof science and technology.

1.4 Up to a point, the emphasis on increasingthe rate of investment may be appropriate.But economic research increasinglyemphasises that investment by itself maynot be sufficient to stimulate rapiddevelopment. Other supportive conditionsmust be in place so that the capital createdby the investment can be utilisedeffectively. This may seem obvious, but itis a point that is easily forgotten, with toomuch attention being paid to assetaccumulation as an end in itself, rather thanin support of other objectives, such asmeans to increase productive capacity andefficiency. This is something that may riskbeing encouraged by focussing on anoverall rate of investment since thisemphasises the aggregate total rather thanthe quality of the components. Put simply,unproductive investment does not supporteconomic growth. Such an emphasis mayalso lead to a bias in favour of investmentin physical assets, as this is the form ofcapital that is most easily quantified.

1.5 This chapter takes the need to encouragehigher rates of investment as given, andconcentrates attention on the supporting

1 Vision 2016, p5.2 Although it must be noted that such measures, insofar as they are based on the extent of primary commodities in countries’ exports, can be

misleading. In Botswana, the importance of diamond mining dominates many aggregate economic statistics, to the extent that the impact of otherpotentially important developments can be obscured. Moreover, to classify primary commodity exports as ‘low tech’ ignores the technology thatmay be required for their production. Diamond mining in Botswana has many “high tech” aspects.

3 Vision 2016 targets real income growth of nearly 8 percent per year.

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conditions that will help yield its maximumpotential. The emphasis is on encouraging aneconomy that is outward looking and flexiblein orientation.

1.6 It is appropriate that the issues of technologyand skilled labour are discussed together,since the similarities between the two aregreater than is often realised. Both contributeto the enhancement of the capital stock. Bothface some of the same problems; notably,achieving the appropriate balance betweenpublic and private sector involvement suchthat investment levels are optimised. For thisreason, policy conclusions that are reachedregarding technology development may alsobe relevant for skills development, and viceversa. Moreover, they are clearlycomplementary since technology, howeverclose it is to the ‘cutting edge’, may be oflittle value if people do not have appropriateskills to use it effectively.

2. Some General Observations

The need to be outward looking - in all respects

2.1 Whether based on manufacturing or services,a diversified Botswana economy will need tobe comprehensively outward looking.Already necessitated by the small size of thedomestic market, this imperative is reinforcedby the need for the country to both face upto the challenges and take advantage of theopportunities due to globalisation.

2.2 This is generally recognised in the case oftechnology. It is uncontroversial that relevanttechnologies should be utilised, regardless ofwhere they have been developed. InBotswana, there has been little hesitation ineither the public or private sector in utilisingforeign technology. Institutions involved inpromoting domestic technology, such as theBotswana Technology Centre (BOTEC), theRural Industries Innovation Centre (RIIC)and the Department of Agricultural Research,are active participants in this approach.

2.3 What is sometimes less clearly understood isthat this point is equally applicable to theissue of skilled labour. ‘Best practice’

elsewhere, including in the developedeconomies, increasingly recognises that notall skills and technology can be home grown,with consequent moves to free up movementof labour between countries. As this is thecase in developed countries with largepopulations and well-established high qualityeducation systems, it would seem to be evenmore applicable for countries such asBotswana where the opposite conditionsprevail.

2.4 Botswana has a good record of a pragmaticand generally welcoming attitude towardsutilising foreign labour. This is one of thefactors contributing to the country’s economicsuccess. There are, however, considerablepressures to move more rapidly in thedirection of ‘localisation’ of the work force,especially in the face of an increasinglyeducated population and persistent high ratesof unemployment.

2.5 Investment in the education of Batswana isindeed crucial. The slogan ‘Education,Education, Education’ as the key to economicdevelopment has a lot of merit. However, thecommon belief that the use of foreignexpertise is a stopgap measure while localskills are being developed, is only valid to acertain extent. Having an environment thatattracts talented and enterprising people fromelsewhere in the world is a requirement withno time limit. The realisation of thisimperative was underscored at the AsiaPacific Economic Summit 2000, organised bythe World Economic Forum, where it wasagreed that ‘the key priority forcountries...aiming to build new knowledgebased economies is to invest in education andattract talented individuals’ [emphasisadded]. While reached in the context of theAsia Pacific region, this conclusion is equallyapplicable to all countries with similaraspirations.

2.6 Moreover, if the objectives of Vision 2016 areto be realised, this necessitates a long periodof sustained and dynamic economicexpansion. Despite widespreadunemployment, it is unlikely that the locallabour force will be able to meet all the

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demands for the necessary skills. Already, theaggressive pursuit of localisation objectivesby institutions in the public sector - which hasa dominant impact on the labour market as awhole - has resulted in intensive competitionfor certain categories of labour. In thecircumstances, the pursuit of the legitimategoal of localisation may require a significantdegree of flexibility in its application, in adynamic and fast growing economy, whichwill continuously require new skills.

2.7 The impact of the HIV/AIDS epidemic inBotswana has made an emphasis on beingoutward looking even more necessary. Therisk that labour with relevant skills may notbe available, is much increased andemployers should have the flexibility to usethe available labour efficiently andsupplement it where necessary. Otherwise,the country, which is already disadvantagedby a small population and skills base, will behandicapped further. This need wasemphasised in a report produced forGovernment in 1999, which argued that asignificant factor influencing the extent towhich the macroeconomic prospects of thecountry would be affected in the face of HIV/AIDS, would be the extent of flexibility thatthe private sector is allowed in recruitingnecessary foreign labour.

2.8 However, while the economic case forcontinued, and even increased, flexibility inthe utilisation of labour from other countriesis strong, this should not be seen asadvocating uncritically the complete freedomof movement of labour between countries.This could lead to the legitimate economicrequirements of a country such as Botswanabeing overwhelmed by the consequences ofsocial and economic imbalances that existelsewhere. Moreover, the movement oflabour involves issues which are wider thanpurely economic, and proper account mustalso be taken of these factors.

More than just investment

2.9 The emphasis in much development thinking,is on the accumulation of capital (bothphysical and human) as the key for successfuldevelopment. In this respect, the example ofthe 2000 Budget Speech in Botswana hasalready been noted. However, influentialrecent economic research reaches theconclusion that factor accumulation is not themajor determinant of economic growth.4

According to this view a much moreimportant role should be accorded to variouscontributing factors that ensure that capital isused productively rather than creatingincentives that encourage asset accumulationper se.

2.10 This general conclusion must itself beinterpreted carefully. It does not deny theimportance of investment in promotingeconomic growth. For the early stages ofdevelopment in particular, the accumulationof basic public infrastructure is essential. Butit does suggest an emphasis that is oftenoverlooked by economists and policy makers.In particular, it points to the need to assesscritically, the role played by governments inencouraging development. This is both asinvestors in their own right and through theincentives they offer to the private sector toinvest. Regarding the former, it isincreasingly recognised that simplycategorising all investment by governmentsas contributing to capital accumulation can bevery misleading. Governments’ spendingpriorities are frequently determined by factorsother than economic return.5 Given the verylarge contribution made by the BotswanaGovernment to national investment, this is amatter to be taken seriously. As to the latter,private sector investment is driven by theexpectation of making adequate returns. Ifthis does not result in subsequent economicgrowth it is likely to be because there exist

4 See, for instance, ‘It’s Not Factor Accumulation: Stylised Facts and Growth Models’ by W. Easterly and R. Levine (World Bank Working Paper,2000).

5 Such factors range from the legitimate pursuit of other social objective to the problem that Government bureaucracies are not well suited tomaking sound, commercial investment decisions.

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incentives, such as investment grants orartificially low interest rates that encouragedunproductive investment. In Botswana, as anexample, the overall impact of the FinancialAssistance Policy (FAP) should be viewedcritically in this light.

2.11 The factors that encourage productiveinvestment are many and complex, and itremains a priority for economic research togain a fuller understanding of them. But ofcentral importance is likely to be the properfunctioning of labour markets. In particular,it is widely recognised that inflexibility inlabour markets can hamper investment inmodern technology. For example, it has beensuggested that this is one reason whyeconomic growth in Europe in the 1990s hasnot matched that seen in the USA. Again, ifthis is the case for the advanced economies,it is likely to apply in at least equal measureto countries where the track record forprofitable investments is less well established.

There are no short cuts

2.12 The potential for growth based on technologyis not a panacea for development. Thesuccess of such a strategy still depends onother essentials being firmly in placeincluding, in particular, a stablemacroeconomic environment with aconducive business climate. Botswana is wellplaced in this regard, but it will need tosustain the basic thrust of the underlyingpolicies.

2.13 Moreover, the fact that technologies existdoes not necessarily mean that they will beput to good use. This is apparent in theadvanced economies where the effectiveutilisation of ‘new-generation’ technologies isproving more of a challenge than optimistshad initially anticipated. The huge amountsbeing invested in broadbandtelecommunications represent major gamblesfor the companies concerned, while thestruggle to survive by many e-commerceoperators has signalled the need for cautionin these areas. Developing countries facesimilar problems, not just of acquiringtechnologies but also in their effective

application. There is a general danger of over-investment in technologies, where advancedequipment is acquired without there beingavailable the necessary resources to use itproductively.

3. Key Questions for Botswana

3.1 The issues discussed so far raise many moredetailed questions; many more than can bedealt with here. Four are focussed on below,which are considered particularly relevant toBotswana:

• The extent of reliance on domestic orimported technology;

• Striking the right balance between publicand private sectors in the funding ofinvestment;

• Potential conflict with promotingdiversified growth and other policyobjectives;

• The consequences of HIV/AIDS.

Reliance on domestic or imported technology

3.2 While Botswana has readily accepted theneed to utilise foreign technology, the extentto which development of a domestictechnology capability should actively beencouraged, is still a relevant question. Thereare at least two good reasons why not havinga domestic technology base does seem toleave countries at a disadvantage.

3.3 First, many technologies are not universallyadaptable, a problem that particularly affectscountries in tropical regions. This is for thesimple reason that certain sorts of technology,such as biotechnology and medicines, arespecifically developed for temperate climates.To compound matters, there may not besufficient commercial incentive for thetechnology developers to undertake thenecessary research in areas of interest totropical countries. The low incomes in thesecountries can create a vicious circle wherelack of demand can fatally inhibit thecommercial viability of developing

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technologies that could help raiseproductivity and, therefore, incomes. Theseconsiderations would seem to support a casefor policy intervention by governments insupport of the development technology thatis appropriate for their countries.

3.4 Second, the absorption of importedtechnology may be made more effective if theimporting economy itself has an active andeffective technological base. This is not justbecause domestic research and developmenthelps make necessary adaptations to localconditions. In addition, a significant localtechnological base can facilitate technologytransfer through ‘learning by experimenting’.

3.5 It is important not to take these arguments toofar. Basic considerations suggest that thecomparative advantage of developingcountries lies with using, with lower costs ofother inputs, technologies created elsewhere,rather than creating such technologies. Thepoint is that there are other important routesfor technology transfer apart from those, suchas trade and foreign direct investment, thattypically receive most attention. An emphasison this may be appropriate for Botswana,with its ambitious goals regarding educationwhich, if achieved, should support a domesticbase in technology. Moreover, the country’sadvantages as a regional hub may also pointto the potential for policies that support‘headquarters’ functions such as research anddevelopment.

3.6 Where technology is imported, the importantobjective is to make the economy‘technologically congruent.’ In other words,the economy should be able to incorporatetechnological advances developed elsewhereefficiently. This may not be straightforward.Experience elsewhere has shown that thetransfer of technologies is not always easy,even between advanced economies.6 Suchconsiderations suggest that a policy of

openness to trade and investment may not besufficient by itself to achieve the desiredcongruence. It may also be important toestablish effective links with well-establishedtechnological leaders if developing countriesare to converge effectively with higherincome economies. As an example of such anapproach in Botswana, BOTEC has a‘Partnership with Giants’ strategy, which isbased on cooperation agreements withleading science and technologyestablishments around the world.

The balance between public and private sector

3.7 It is generally accepted that there is a role forgovernment involvement in encouraginginvestment. If left to the private sector alonethere could be under-investment in the faceof various positive ‘externalities’ that wouldaccompany the investment.7 This applies toall sorts of capital, but in particular to humancapital and technology where suchexternalities are likely to be greater ascompared to physical capital.8

3.8 In Botswana, the small size of the domesticmarket may suggest that there is a particularlyactive role for the Government to play.Technological progress is likely to be subjectto economies of scale. Innovators seem towork best together rather than in isolationand, for this reason, they concentrate intechnology ‘hubs’, of which ‘Silicon Valley’in California is perhaps the best-knownexample. For countries with smallpopulations such as Botswana, this creates aproblem since the best local innovators arelikely to be attracted elsewhere. In turn, thissuggests a possible need for action byGovernment, such as incentives forinnovators to come to Botswana. Whethersuch an intervention would be worthwhile ornot, depends on the extent to which adomestic technology base is seen as a priority.

6 For instance, industrial technologies developed in the United States have often been based on large-scale production and the intensive use ofnatural resources and physical capital. Frequently this was not the optimal form of production when transferred to European conditions.

7 ‘Externality’ is a technical economic term referring to cases where the price paid for a good (or service) does not fully reflect its costs or benefits.Thus, if some of the benefits from an investment do not accrue to the investor only but to others more generally, then the level of privateinvestment is likely to be less than desirable. Education is usually considered to be such a case.

8 Conversely, physical capital may be more prone to over investment due to negative externalities. This is where the investor does not have to payall the associated costs. The risk of environmental degradation due to pollution and depletion of natural resources is a major concern in thisrespect.

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3.9 In some instances the dividing line betweenpublic and private sector responsibilities isreasonably clear-cut. For example, there isgeneral acceptance that it is governments’responsibility to provide general educationboth as a social objective and as thefoundation on which the ‘knowledge capital’created by private sector businesses is built.But, beyond this, the edges can blur quickly.An example here is the extent to which publicfunds should be used to support morespecialised, tertiary education.

3.10 Even in cases where government support forprivate investment might seem to be desirablein principle, practical difficulties mayintervene to the extent that the costs outweighthe benefits. Using public funds to supporttraining is a case in point. Employersfrequently claim that on-the-job instruction isthe most effective form of training. But thereis a concern that funds provided to supportthis may just be used as a general subsidy forlabour. In Botswana, this sort of problem hasplagued the administration of both companyincome tax, which allows for approvedtraining costs to be offset against taxliabilities, and training grants under FAP.Similarly, subsidies targeted for research anddevelopment, could turn into generalsubsidies for capital costs.

3.11 The risk of such misapplication of publicfunds may bias government support towards‘off the job’ programmes which could at leastresult in better control. However, differentproblems then emerge. Worldwide, designingeffective training programmes that increasethe earning potential of workers in a costeffective manner, has proved very difficult.Where there have been successes, these havefrequently proved difficult to replicateelsewhere where conditions may be cruciallydifferent.

3.12 Again, parallel problems exist with supportfor technology. In both instances, the problemis the extent to which the publicly fundededucation/research institutions are integratedinto the relevant markets, which they areintended to support. In Botswana there exist

several such Government-supportedinstitutions: Botswana Technology Centre(BOTEC), the Botswana NationalProductivity Centre (BNPC) and, mostrecently, the Botswana Training Authority.Designing strategies that achieve the requisiteintegration may be their principal challenge.

3.13 There also remains a danger of bias towardsphysical capital development. For one thing,since it is visible, it is easy to monitor.Moreover, the large numbers of jobs that arecreated through the construction industry maybe appealing, especially when considering theallocation of public spending. The last isobviously an important consideration inBotswana, given the predominant role thatGovernment currently plays in investment inphysical capital.

3.14 In Botswana, the Government can, withconsiderable justification, claim that it has notignored the need to develop human capital.Throughout the 1990s great priority wasgiven to public spending on education. Thisis shown in Chart 6.1, which shows spendingon education as a proportion of totalgovernment expenditure and of GDP. By bothmeasures, the allocation has been increasingand, as a share of GDP, Botswana ranksamong the highest in the world. Comparativeresearch has reported that, depending on thegeographical region, countries typicallyallocate between three and six percent ofnational income on education.9 At the start ofthe 1990s Botswana was already at the topend of this range; by the end of the decade itwas far higher.

9 See, for example, ‘Achieving Schooling for All’ by C. Colclough and S. Al-Samarrai, in World Development, November 2000.

CHART 6.1: EDUCATION SPENDING AS APROPORTION OF TOTAL GOVERNMENTEXPENDITURE AND GDP, 1990/91 - 1999/2000

0%

5%

10%

15%

20%

25%

30%

1990/91 1991/92 1992/93 1993/94 1994/95 1995/96 1996/97 1997/98 1998/99 1999/2000

Period

Total Gov't GDP

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3.15 This spending is aimed at meeting ambitiouspractical commitments, currently centred onmaintaining a guarantee of the opportunityfor nine years basic education to all childrenand increasing the proportion proceeding tosenior secondary school. At the start ofNDP 8 the transition rate from junior tosenior secondary school was 32 percent. Bythe time of the Mid-Term Review this hadincreased to 46 percent, which was on trackfor achieving the objective of 50 percent bythe end of the plan period. There is alsoexpansion in other areas, such as vocationaltraining, where the objective is to increase thetransition rate from junior secondary schoolfrom five percent in the late 1990s to 15percent by the end of NDP 8. Yet more isenvisaged:Vision 2016 foresees ‘...universaland compulsory education up to thesecondary level...’ and a flexible system sothat ‘...people can enter and leave theeducation system at different times in theirlives.’10

3.16 Moreover, this commitment to education isclearly linked to supplying the economy withlabour that is not only ‘educated’ in thegeneral sense but also equipped with relevantskills. The Revised National Policy onEducation (RNPE) emphasises focussing thecurriculum on what people need to know, inparticular in the area of science andtechnology. Business studies are also given acentral focus. The RNPE was followed by theScience and Technology Policy for Botswana(1998). Subsequent to this a consultancyreport was prepared on ‘FocussingInvestment in Innovation’, which wassubmitted to the Government in 2000.Proposals for the implementation of thescience and technology policy are expectedto be announced during 2001.

3.17 However, despite the impressivecommitments in terms of aggregate spending,overall objectives and agreed policies, thereremain some concerns about implementation.In particular, whether enough money in theeducation budget is actually getting through

to the schools and whether the availableteaching staff are able to cope fully with thedemands of such a multifaceted policy. At thesame time, while education has beenprovided largely free at the point of delivery,thus increasing its ‘inclusiveness’ acrosssocial classes, there is also concern thatcontinuing poor social conditions of somehouseholds continue to undermine theobjective of schooling for all. This is becausenot all children are able to take full advantageof the opportunities in education that woulddo much to improve their future prospects.11

As an indicator of this, according to data for1997, only 76.5 percent of the eligible groupwere still at school in the final (ninth) yearof the basic education programme.12

3.18 While there is a clear case for extensiveGovernment involvement in promotingdevelopment of skills and technology it isimportant that the private sector does notbecome over reliant on public funds.Government policies should not encouragethis, and it is important in this respect, thatpolicies should be clearly demarcated andadhered to. Too much flexibility, where‘special cases’ are given further support,could encourage the private sector tooverstate its requirements and problems as ameans of attracting additional publicresources that, in fact, may not be reallyneeded.

Potential conflicts in policy

3.19 Not all policy objectives are necessarilysupportive of diversified economic growth.This is not necessarily wrong. There is noreason why economic goals should in everyinstance be given primacy. Other objectives(social, environmental, cultural, etc) may insome instances take precedence. However,there is a danger of confusion if variousobjectives are subscribed to without realisingthe extent to which they may not be mutuallysupportive, therefore, it is important toappreciate where these conflicts can arise.

10 Vision 2016, p30.11 This concern was highlighted in the 1996 report on poverty in Botswana.12 SeeEducation Statistics Report 1997, Table 12 (b).

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3.20 In Botswana, unless handled carefully, theobjective of promoting citizen economicempowerment could prove to be a case inpoint. Some of the proposals regardingempowerment do not fit the prescription thata vibrant and diversified Botswana economymust,by necessity, be outward looking. Thisis particularly the case with policies thatprotect the domestic economy and evengroups within it, against competition fromoutside. Such policies are inherently inwardlooking.

3.21 This is not to argue against empowerment.Policies that equip local businesses tocompete effectively, and which may includeexplicit patronage and support fromGovernment, can also be outward looking.However, there is a powerful argument thatthe least empowered of all are those who areunemployed. If this viewpoint is accepted,

then it would seem to follow thatempowerment programmes should not workagainst the priority objectives of reducingunemployment and poverty. In turn, this willbe best promoted by policies that encourageoutward looking and diversified growth in theeconomy.

3.22 The programme of privatisation on which theGovernment is preparing to embark, shouldbe seen in this context. There are legitimateexpectations that this should lead tosignificant participation, in terms of bothownership and management, by Batswana inthe operations of the privatised enterprises.However, in seeking to meet theseaspirations, the principle objective ofprivatisation, which is to promote improvedproductivity and the efficient allocation ofresources, should not be lost sight of. Animportant example here is that of

Box 6.1: The Macroeconomic Impact of HIV/AIDS

HIV/AIDS poses a threat to continued economic growth in Botswana. This is mostly because of its impact on the

labour force, but also because of possible impacts on savings and investment.

The major impact of HIV/AIDS is likely to be on the overall rate of economic growth, as the supply of labour will be

reduced.

Per capita incomes will not be so much affected since the major cause of lower economic growth is a slowdown in

the rate of population growth. However, during the period when many people are seriously ill, living standards will

be affected as incomes of households fall while necessary expenditures increase to meet the costs of caring for sick

people.

AIDS orphans represent a particular challenge. They must be provided for effectively, not only for their sake but also

to help avoid serious social problems, such as a rising crime rate, that could impact negatively on the economy,

emerging in the future.

HIV/AIDS affects all subgroups of the population and existing shortages of skilled labour will be exacerbated. To

some extent, this can be met by substitution of capital for labour. But private sector investment is heavily dependent

on confidence that labour requirements will be adequately met. HIV/AIDS increases uncertainty in this respect.

Increased flexibility regarding the use of expatriate labour may be required to retain investor confidence.

The savings rate has been high in Botswana, and resources continue to be available for investment. However, their

allocation may be affected as they are increasingly diverted into meeting the social costs associated with HIV/AIDS.

Moreover, the resources are mainly in the public sector, and the extent to which government investment can sustain

economic growth is limited. Again the emphasis must be on establishing conditions that maintain private sector

confidence in the future of the economy despite the human tragedy of HIV/AIDS.

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telecommunications, a service that plays acentral role in promoting development, as hasbeen stressed elsewhere in this report. Havingthe most efficient telecommunications systempossible would do much to help empowerBatswana as a whole, rather than just theinevitably smaller sub-groups which wouldreceive the direct benefits of ownership. Forthis potential benefit to be maximised, theprivatisation of BTC should not proceed inany way that compromises access to capital,technology and expertise, from wherever itneeds to be obtained.13

Consequence of HIV/AIDS

3.23 The human tragedy of the HIV/AIDSepidemic in Botswana is ever more apparent.While the full extent to which this will bereflected in deteriorating economicperformance is still to be seen, clearly therewill be some cost. Valuable resources in theform of human capital will be lost whileothers, including human, technical andphysical capital, are being diverted to thetasks of controlling the disease and mitigatingits social costs. Undoubtedly, this will havean adverse impact on the diversificationeffort.

3.25 Several studies have been commissioned bythe Government to determine the impact ofHIV/AIDS in Botswana. These include adetailed assessment of the potential economicimpact, together with suggestions as to howthis may be mitigated. Box 6.1 highlights themost important of these conclusions. Onceagain, the issue of flexibility is of centralimportance. In Botswana, the human resourcemust be the basis for diversified developmentand HIV/AIDS will severely reduce thisresource. If in such circumstances themomentum of economic development is to becontinued, alternatives must be found. Theseinclude the more extensive use of foreignlabour to fill the human resource gap.Otherwise, potential investors will bedeterred from locating in the country if thereis increased uncertainty as to whether theirrequirements regarding labour can be met.

4. Conclusion

4.1 Skills and technology development mustunderpin the objective of achievingdiversified growth. The country has passedthe stage where continued accumulation ofphysical capital will alone continue to yieldhigh returns. For this reason, the emphasis oninvestment needs to be supplemented bystressing the requirement to create anenvironment where capital in all its forms,can be used productively. The key features ofsuch an environment are that it should beoutward looking, stable and adaptable.

4.2 Botswana has a strong institutional base thatsupports skills and technology development,together with policies that recognise thevarious linkages and complementaritieswhich mean that support for development, inthese various areas, cannot take placeindependently of what is being undertakenelsewhere. However, while the country has amultitude of policy objectives as well ascoordinating and implementation structuresthat would seem to add up to an impressivecommitment to promoting economicdevelopment, the key challenge is theeffective implementation of these policies.This is recognised by Government, which forseveral years, has stressed the need toimprove implementation. But the extent ofstructures which aim to improve programmedelivery, may itself risk creating too muchbureaucracy and regulation. This potentialproblem was identified in the AfricaCompetitiveness Report 2000/01, whichnoted in its country profile of Botswana that‘The country is overburdened withinstitutional structures to the point wheredelivery of services has become lethargic’.14

Rectifying this situation is just as important,if not more so, for achieving the underlyingobjective of economic diversification thandeveloping further detailed policies ofspecific sectoral support.

13 While the focus here is on BTC and telecommunications the same basic point is applicable more widely, especially to key utility services such aspower and water.

14 Africa Competitiveness Report 2000/01, World Economic Forum, p94.

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CHAPTER 7

CONCLUSION: THE ROLE OF GOVERNMENT

1. Introduction

1.1 Previous chapters have reviewed the variousefforts to encourage diversification awayfrom reliance on the mineral sector and theaccompanying prominent role of theGovernment in the Botswana economy. Theextent of success in achieving this goal hasbeen reported. In this regard, the degree ofdiversification is greater than commonlyrealised, since diamond mining continued toexpand through the 1990s and into the newmillenium. However, the foundations of thisdiversification are lacking in depth, remainfragile and results in terms of providingemployment opportunities have been lessthan hoped for. The various obstacles andconstraints that hinder further progress indiversification have been identified andanalysed. This concluding chapter drawsthese various threads together and makes ageneral assessment of the role of theGovernment in supporting the continuationand strengthening of the process ofdiversification.

1.2 Faced with the constraints to diversification,there has been a strong temptation for theGovernment to intervene in order to steer theeconomy in the desired direction. There aremany and repeated calls for it to do so, theargument being that the economy remains toosmall and the private sector too under-developed for the market-based developmentparadigm to work successfully in Botswana.

1.3 These views have some validity. In particular,the extent of the domestic economy,combined with the country’s physical sizeand location, conspire against development in

several ways. Even so, there are variouscompelling reasons that suggest the need forextreme caution in following an approachbased on intensified Governmentintervention. Government has a clear role inthe provision of an effective physical, legaland institutional public infrastructure, and thisis a fundamental prerequisite for sustainablediversification. Beyond this, the areas wheremore specific intervention can be justified arelimited and very careful consideration needsto be given to the content and mode ofGovernment activism.

2. A Culture of Dependency

2.1 A clear danger of active Governmentintervention is that any diversification thatresults risks being too dependent oncontinued Government patronage. Outwardly,the economic structure could appear morediversified. But this is hardly in line with thereduced dependence on Government that ithas been argued, needs to be achieved.Continuing to support growth through anexpansion of public sector demand, whetherit is for the construction of buildings androads, procurement of supplies orconsumption demand of Governmentemployees, cannot be sustainable in the long-term.1

2.2 The pessimistic view that the private sectoris too weak to develop without intensifiedpublic sector assistance, is certainly notsupported simply by reference to high-profilecorporate failures. The free entry and exit ofbusinesses, including their failure, is anecessary feature of the market economy.Ironically, the various failures in Botswana

1 As a simple, but telling, example of the type of problems that can arise, fieldwork for the recent evaluation of FAP found that a major use of FAPgrants was to support companies during times when contracts to supply government were not available. In other words the FAP grants, ratherthan supporting the process of improving productivity of labour, were simply perpetuating unproductive dependence on Government.

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may in fact point to the risks of utilisingGovernment resources to establishsustainable businesses rather than the needfor more such support.

2.3 While the lack of depth in the private sectorat present is acknowledged, there is no goodreason to suppose that this is a chroniccondition. On the contrary, encouragingdevelopment that is dependent onGovernment patronage will tend to delayprogress, or even risk worsening the problem.Weaknesses in the private sector remain insome areas, but such problems will only beencouraged and become further embedded inthe economic structure if Governmentsupport is intensified. There is a clear parallelhere with the ‘infant industry’ argument forprotecting domestic industry from outsidecompetition. The danger is that the infantcould fail to grow up.

3. Market Failure not Sufficient Justification

3.1 Examples of other countries wheregovernments have been central to thedevelopment effort, is of limited relevance.For a start, the apparent permanence of theseachievements has been eroded in manyinstances. Second, appropriate attentionshould be given to the concern that thesuccess of such support is contingent onsocial and economic conditions in thosecountries which cannot be assumed to prevailin Botswana.

3.2 More generally, it should be appreciated thatidentifying instances where the operation ofthe market has failed to produce the hoped-for results, does not mean that governmentintervention will improve the situation.Experience suggests that governmentinvolvement in business is problematic andfrequently not successful. This applies to themost well resourced public administrations.Despite its size relative to the overalleconomy, the Government of Botswana haslimited resources to administer its variouspolicy initiatives, and the rule of thumb thatgovernment should stick to the job ofgoverning is generally appropriate.

3.3 A good case in point is that of theimplementation of FAP. Part of the problemwith the scheme was that it overwhelmed theresources that Government was able to devoteto its administration. The lack of botheffective pre-project appraisal and post-project monitoring contributed greatly to thewaste of resources that the scheme hadclearly become by the end of the 1990s. Morefundamentally, the Government wasinherently ill equipped to manage theintermediation of resources to privatebusinesses.

4. Sending the Wrong Signals

4.1 It is recognised that there are clear caseswhere, left to itself, the private sector isunlikely to produce sufficient levels ofinvestment. This is due to the positiveexternalities associated with the investmentsuch that the total return is greater than thataccruing to the investor. A case in point isnon-specialised education and, for the samereasons, it can be argued that basic researchin science and technology is unlikely to beadequately supported by the private sector.Moreover, in Botswana, the small populationlimits the potential for realising economies ofscale, which may further inhibit investmentin knowledge-based capital. Therefore, inprinciple at least, there is a good case forpublic intervention in these areas.

4.2 But designing appropriate programmes basedon this principle, faces practical problems. Itis all too easy for a government to send thewrong signals and, by indicating awillingness to meet some of the costs ofinvestment, it may cause the private sectordeliberately to understate its willingness toinvest. This is particularly likely to occur ifthe support is seen to be discretionary ratherthan rule based. A discretionary approachincreases the perception that arguments infavour of being treated as a special case maybe worth pursuing. Such a tactic is morelikely in cases where Government is dealingwith ‘large’ investors who may have astronger bargaining power to extract moreresources.2

2 Seen from this perspective, it is unfortunate that governments frequently show clear willingness to apply the greatest discretion when dealingwith such ‘large’ investors.

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4.3 In Botswana, these dangers are compoundedby the Government’s seemingly strongfinancial position. Financial support may becalled for in the name of ‘diversification’ or‘empowerment’ when, in fact, such demandscould be little more than rent seeking.Moreover, in addition to the risk of theunproductive use of public funds, it should berecognised that the Government’s capacity toenter into programmes of financial support,is more limited than is often supposed. Oneconsequence of diversification of theeconomy away from the mining sector, is thatthe effective tax rate will fall, thus puttingpressure on the revenue base.

4.4 Government must also be wary of the risk ofencouragingover investment. In particular,the tendency to concentrate on theaccumulation of physical capital should beguarded against. In this respect, improvedcollection of data on the extent of non-physical investment in Botswana would bewelcome. This would cover information onareas such as spending on research anddevelopment and the extent to which thestock of natural (or environmental) capital isbeing preserved, enhanced or degraded.

5. Choosing Priorities

5.1 A very important priority for Government isto ensure that its heavy investmentprogramme in education yields positiveresults. This goal is not guaranteed bymeeting intermediate targets relating todevelopment of school facilities andincreasing student enrolment ratios; and thecapacity of the teaching staff to deliver theambitious objectives of the new curriculummust be a concern. Moreover, ensuring thatan educated labour force is also a productiveone is a challenge that is yet to be metconvincingly. The objective of enhancinglabour productivity is, in part, thwarted by theattitude that it is the responsibility ofGovernment to deal with all problems.

5.2 A related priority is the need to integratehuman capital development with well-targeted support for science and technology.In this connection, Government support is

required, not only for providing resources tothe publicly-funded research institutions, butalso in ensuring that these institutions serveeffectively the demands of their partners inprivate sector businesses, manufacturing orotherwise.

5.3 The Botswana Government has nowembarked upon a programme of privatisationof public enterprises. The programmesupports diversification in a number of ways,including reducing the extent of dependenceon Government and promoting efficiency.The latter consideration is essential since, asthe recent example of operational deficienciesat BTC has demonstrated clearly, bottlenecksin the provision of basic utility services runsthe risk of holding back development morewidely. For this simple reason, it is to behoped that Government moves forwardexpeditiously with this programme, buildingon the momentum of the privatisation of AirBotswana that is due in 2001.

5.4 The case has been made that policies shouldbe essentially neutral as to which sectorsshould be targeted for development. This isprimarily on the basis that the specialadvantages of developing manufacturing areno longer so apparent. But it might be arguedthat the argument for neutrality is being takentoo far since, while there may no longer beany good reason to favour manufacturing,there may be a case for considering policiesthat are particularly favourable to exports asopposed to production for the domesticmarket. Such a bias might appear to beconsistent with the view that outward-lookingdevelopment remains a priority for Botswana.

5.5 However, the case for policy neutrality standsup well in the context of the objective ofexport promotion. This is not to say thatexplicit support for export promotion is notdesirable. But this should be at the generallevel, based on the positive externality ofBotswana as a location for investment andproduction of tradeable goods and services.It is also important to avoid circumstancesthat would effectively discriminate againstproduction of such tradeables. In this regard,it is essential that, as a non-sector-specific

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policy instrument, the real exchange rate ofthe Pula against trading partner currenciesremains competitive. But beyond this,policies of more direct support for exports,such as subsidies, should be avoided. Thereis little empirical evidence from elsewherethat they are of benefit, and they raise thesame practical problems as other policiesbased on subsidies and protection.

6. Impact of Globalisation

6.1 Special consideration was given to thechallenge of diversification in the context ofglobalisation. Globalisation, the driving forceof which is falling real costs of transport andcommunication, is not a new phenomenon.The current phase is characterised by thecoincidence of an increasingly liberal andstable environment, together with rapidtechnological progress in the areas ofcommunications and information processing.

6.2 There is no need for Botswana to fear thesetrends. Indeed, they should providetremendous opportunities for growth.However, in order to take advantage of theseopportunities as they unfold, a number of keyfundamental preconditions should be met. Inparticular, the requirement of a world classtelecommunications system is very important,and this is an area where in Botswana,significant improvements need to be made.

6.3 It is also important that policy making shouldbe focussed and decisive, together withtimely implementation. It is not being arguedthat policy decisions should be taken in hasteon the basis of inadequate information.Rather, the point is that any tendency to adopta leisurely pace in the process of policyformulation and which is top heavy onconsultation, may lead to paralysis inimplementation and lost opportunities in anincreasingly complex and challenging globalenvironment.

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