DEVELOPMENT PARTNERS' CONSULTATIVE FORUM BRIEFED BY IMF

UNCLAS SECTION 01 OF 02 MASERU 000414

SENSITIVE
SIPDIS

DEPARTMENT FOR AF/S AND INR

E.O. 12958: N/A
TAGS: PGOV ECON EFIN LT
SUBJECT: DEVELOPMENT PARTNERS' CONSULTATIVE FORUM BRIEFED BY IMF
MISSION

MASERU 00000414 001.2 OF 002


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Summary
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1. (U) On Tuesday, November 17, the United Nations Development
Programme (UNDP) hosted the Development Partners' Consultative
Forum (DP CF) briefing by the International Monetary Fund (IMF)
mission on Article IV consultations. The IMF expects Lesotho's
economic growth to be around 1.5% in 2009. The mission reported
that the inflation rate was down 7.3% in September compared to
last year. Productivity has declined in the Lesotho's leading
economic sectors: agriculture, textiles, and mining. The IMF
mission projects a large deficit in 2010/11 unless the
government of Lesotho makes some policy changes regarding the
budget.

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Inflation and Growth down, textile sector expected to contract
further
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2. (U) The IMF reported that economic growth in 2008 was 4.5%.
but in 2009, they expect the rate of growth to be around 1.5%,
mainly due to the decline in global demand -- especially the
demand for textile exports. The mission reported that Lesotho's
inflation rate declined from 12% in September 2008 to 4.7% in
September 2009. This decline has been driven mainly by lower
food prices, which carry more weight in the Lesotho Consumer
Price Index basket. According to the IMF, the agriculture and
textile sectors' percentage share of GDP has been steadily
declining. In addition to experiencing marked decline since
2006, the textile sector's productivity is expected to contract
by 10% in 2009. The IMF advised the Government of Lesotho (GOL)
that it needs to find ways to make this sector competitive in
the world market, but they also recognize that the options are
limited since Lesotho's textile sector pays higher wages than
competitor countries such as Bangladesh. Lesotho's
comparatively high wages also make it difficult to attract new
investors, negatively affecting the competiveness of the
country's exports. The IMF reported that Lets'eng mine
production is still good despite the declining commodity prices
and global demand. However, Liqhobong and Kao mines have
suspended their operations until world commodity prices improve.
Finally, the IMF recommended that GOL should diversify the
country's production base into non-textile manufacturing.

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Budget deficit unsustainable, entire budget needs an overhaul
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3. (U) The IMF reported that Lesotho's 2009 budget, approved by
Parliament in February, was highly expansionary, with a deficit
of around 10% of GDP (Lesotho normally runs deficits around 3%,
so this year's is quite high). The IMF had suggested earlier in
the year that the Ministry reduce budget expenditures, since a
deficit at that level is unsustainable. With the reduction in
expenditure resulting from the revised budget and the slowdown
in spending caused by Integrated Financial Management
Information System (IFMIS) problems during the first half of the
year, the IMF expects this year's deficit to total around 1%.
(Note: IFMIS was introduced in 2009 and has had a number of
technical problems since its introduction. Complaints have been
rampant in the local press. Despite these initial problems, the
system is expected to contribute to greater transparency and
accountability in the management of public funds. End Note.)
Almost 60% of Lesotho's current budget comes from South African
Custom's Union (SACU) revenue. Lesotho received $657 million in
SACU revenue in 2008/09. The figures have since been revised,
and therefore, Lesotho has to pay approximately $146 million of
the $657 million back to the SACU common revenue pool (CRP) in
2010/11. Due to SACU repayment and declining SACU revenues, GOL
revenue is expected to decline by 17% of GDP in the next year.
The IMF added that if the GOL makes no budget policy changes,
the GOL will have a very high deficit in 2010/11. IMF did not
predict how high the deficit might be.

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IMF Changes and SACU repayment considered, $17.72 million
shortfall expected
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4. (SBU) The IMF mission made several recommendations to the
GOL. First, the GOL must reduce government expenditure. Some

MASERU 00000414 002.2 OF 002


options are: Reducing the wage bill (a large percentage of
government expenditure) by freezing all new staff positions and
hiring below attrition; reducing expenditure on goods and
services; giving no general wage increase for civil servants in
2010/11. Second, the GOL should budget on an outturn basis
instead of by appropriation. Third, the GOL should negotiate a
payment schedule for SACU revenue overpayments from 2008/09,
allowing them to pay when the GOL's fiscal position has
improved. Finally, the GOL could use part of its foreign
exchange reserves to help deal with the implications of the
budget deficit. When deciding the total amount of reserves that
can be used, the GOL will have to ensure that the minimum
international reserve requirement remains in the bank to keep
the Lesotho loti pegged to the South African rand.
Additionally, Lesotho is being required to make a M1.1bn (about
$150m) repayment to the South African Customs Union (SACU) in

2010. Even if the GOL is able to make all these adjustments and
meet this repayment, there wQld still to be a financing gap of
approximately $17.7 million. The IMF urged development partners
to consider helping the government close this financing gap
through budget support.

(Comment: It is unlikely that GOL will be able to implement all
the recommendations made by the IMF, especially the repayment of
SACU revenue because that decision involves other countries. The
$17.7 million financing gap is the best case scenario assuming
all the recommendations can be implemented. Post believes the
financing gap would be well in excess of the $17.7 million.)

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Future prospects
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5. (U) In the long term, among the challenges, the IMF foresees
some bright prospects due to the construction of Metolong dam,
which is expected to start in the middle of 2010. Developments
in phase II of the Lesotho Highlands Water Project, with
construction of the Polihali Dam at Tlokoeng in Mokhotlong, are
also expected to boost economic activity in future years.
NOLAN