1. Bifm Economic Review 2nd Quarter 2006
Economic Review
The main reason for jump in inflation was noting that historically, peaks in Botswana’s
Summary of the re-introduction of fees at government inflation have been short lived and followed
Economic secondary schools. According to the Central
Statistics Office (CSO), this item alone added
by rapid declines; for instance, inflation fell
Developments 4.3% to inflation in January, while the impact
from its highest ever level, 18.8% in May
1981, to only 7.6% in March 1982.
of higher education fees was compounded
Dr Keith Jefferis, by relatively high annual inflation for food,
The dramatic impact of the increase in school
fees on inflation does, however, bring into
Chairman of alcohol & tobacco, fuel & power and transport
& communications. Although the weight of
question the reliability of the CPI as the basis
for the calculation of inflation. As we have
Bifm Investment government secondary school costs in the previously noted, the index is very out of
Committee Consumer Price Index (CPI) basket is small
at 1.2%, the increase in this item – which
date (it is based on 1993/94 data) and does
not reflect current or even recent expenditure
Summary previously included only uniform costs – was
patterns. In general, when CPIs become
Economic performance during the first quarter so high that it had a huge impact on the
outdated they over-estimate inflation, and it
of 2006 was mixed: inflation rose to overall CPI and inflation rate.
is very likely that Botswana inflation is being
historically high levels, leading to higher Our forecast is for inflation to continue to overestimated due to the omission of items
interest rates, and there are no immediate rise slightly in next few months – although such as cellphones, airtime and computers
signs of improved economic activity in the it should peak at less than 18% - before from the CPI. The reason for the overestimate
domestic economy. On the plus side, however, declining the second half of the year (see Fig.2). is that new items such as these tend to fall
the 2006 budget was positively received, and Although the current inflation situation is of significantly and rapidly in price in the early
trade data for 2005 shows extremely strong concern, there are good prospects for a rapid years after they become widely used and
performance across a range of commodities. decline in inflation in the second half of 2006 available, and this downward influence
There are good prospects of improved and early 2007, as the impact of large on the price level is omitted from the
economic performance, with faster growth one-off increases in prices resulting from the inflation calculation.
and falling inflation, in the second half of May 2005 devaluation and the reintroduction
There is also a problem arising from the
the year. of school fees drop out of the inflation
weight of school fees in the CPI basket,
calculation. Unlikely though it may seem at
Inflation which appears to be much higher than their
the present time, it is quite conceivable that
Inflation rose to 17.0% in February 2005, likely share of consumer spending.
inflation will be back down around 6-8% by
the highest level for 13 years and not far February 2007, which would bring it close Government expects to raise P36 million from
from the historical peaks of 17.7% in to upper end of the Bank of Botswana (BoB) this measure in the 2006/07 financial year.
June 1986 and 18.2% in January 1981 (see Fig.1). inflation objective range. It is also worth continue...
Fig 1: Long-term Inflation Fig 2: Inflation - Actual and Forecast
20% 20%
Actual Forecast
18% 18%
16% 16%
14% 14%
12% 12%
10% 10%
8% 8%
6% 6%
BoB inflation objective range
4% 4%
2% 2%
Source: Central Statistics Office and own calculations
0% 0%
1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2002 Q2 Q3 Q4 2003 Q2 Q3 Q4 2004 Q2 Q3 Q4 2005 Q2 Q3 Q4 2006 Q2 Q3 Q4 2007

2. 2 Economic Review
This equates to only 0.2% of estimated Setting the inflation objective is more Shortly before the MPS was released, the
consumer expenditure over this period, complicated this year given the existence of Bank increased interest rates by 0.5%, in
suggesting that the 1.2% weight in the CPI the new crawling peg exchange rate regime, response to the sharp jump in January
basket is far too high – perhaps because the and the fact that the rate of crawl has an inflation, pushing the Bank Rate to 15%.
impact of significant exemptions from school influence on inflation, through import prices. Isn doing so the Bank cited concerns about
fees for poor households has not been taken inflation expectations and further upward
Given that the crawl is ultimately under
into account. With a more appropriate
control of the Ministry of Finance and inflation pressures. Not everybody found the
weighting, school fees would have added
Development Planning (MFDP), this illustrates explanation convincing, however; Standard
only around 0.8% to inflation, and inflation
crucial importance of policy co-ordination Chartered Bank in London described it as
would currently be around 13% rather than
between BoB and MFDP. “Wrong move. Wrong reason. Wrong time1”,
the actual rate of 17%.
noting that inflationary pressures were likely
It is not unusual for a change in the price of The big question arising from the MPS is the
to be subdued going forward. It is unlikely
a single item to have a disproportionate credibility of the 4-7% inflation objective for
that the hike in school fees will contribute
impact on the overall price level – for instance, 2006. Given that annual inflation is currently
to a further round of upward price
it has happened in the past with BHC rentals 17%, and that inflation in the two months
adjustments; effectively it was equivalent to
and BTC telecoms charges, and in both cases of January and February alone totalled 6%,
a tax increase that will reduce spending
the disproportionate impact reflected, in part, it is evident that there is no prospect of
power, thus reducing demand pressures,
an inappropriate weighting of these items in meeting the inflation objective at any time
which are already weak. Furthermore, as
the CPI basket. More generally this illustrates
during 2006, even though there is good school fees are not an input to any production
a problem with relying on the headline CPI
prospect of a substantial decline in inflation costs – other than very indirectly through
measure alone, and emphasises the need for
and possibly meeting the objective early in their possible impact on wages – they will
a measure of core or underlying inflation
2007. This raises key issues with regard to not have any cost-push effect on other prices.
which is less subject to volatility from a
the appropriate measure of inflation for the
few items. Economic Activity
inflation objective. The use of the
Monetary Policy Following the increase in interest rates, tight
conventional headline inflation rate does not
The BoB released the 2006 Monetary Policy appear to be appropriate, given that it can monetary policy will continue to restrain
Statement (MPS) on February 27. It contained economic growth. Indications are that
be highly volatile for reasons that are
no great surprises, but did have one important domestic economic activity has remained
unrelated to changes in the domestic demand
innovation in the inclusion of a medium-term sluggish in the first quarter of 2006. Our
pressures that monetary policy addresses.
inflation objective. The MPS admitted that index of economic conditions remains in very
The volatility of conventional headline inflation
2005 had been a difficult year with respect weak territory, with the signs of possible
to controlling inflation, and that due to a illustrates the importance of having a publicly
recovery evident in the first half of 2005
range of exogenous factors, including oil available measure of core inflation, as is the
completely reversed by the end of the year
prices and the devaluation of the Pula, the case in most developed countries. While BoB
(see Fig.3)2. This is consistent with the findings
Bank had been unable to bring inflation within makes reference to its own measure of core
of the Bank of Botswana’s recent Business
the objective range of 4-7% in the second inflation, and even includes it in the MPS
Expectations Survey3, which noted that
half of year. This was despite a lack of charts, it is not generally publicly available.
business confidence was “very low” in the
inflationary pressures from domestic demand, In this volatile inflation environment, the
given that credit and government spending second half of 2005, with only just over a
credibility of the inflation objective would be
were both growing slowly. Going forward, quarter of respondent firms describing
strengthened if an agreed measure of core
the inflation objective for 2006 was retained business conditions as “satisfactory”.
inflation were calculated and published,
at 4-7%, while a medium term (2006-2008) continue...
preferably by the CSO, on a regular basis.
inflation objective was introduced, at 3-6%. 1.
On the Ground - Africa (21st February 2006)
With the focus on core inflation – which we
This is a useful development, which aims to 2.
The Index comprises a weight average of growth rates
focus inflation expectations, and represents estimate to be currently around 13% - the of bank credit to the private business sector and
non-mining electricity consumption.
a step towards the introduction of a full BoB’s objective for 2006 becomes potentially
3.
See www.bob.bw
inflation targeting regime. achievable by the end of the year.

3. 3 Economic Review
The survey also noted a deterioration in National accounts data released along with inaccuracies in the data and the potential
business conditions during the year with a the 2006 Budget shows healthy overall for future revisions that could significantly
“sharp drop in overall business confidence economic growth of 8.4% in 2004/05, up revise the published data. As an example of
since the previous survey” in March 2005, from 3.4% in the previous year. However, this where inaccuracies may arise, there is an
which is consistent with the Index of conceals a sharp contrast between the mining inconsistency between the negative output
Economic Conditions in Fig.3. sector, where value added grew by 18.2%, growth recorded for the manufacturing sector
and the non-mining private sector, where in 2004/05 and the rapid expansion of exports
However, one important finding in BoB’s
value added contracted by 0.2%. Negative of manufactured goods (meat, textiles,
Survey was the much higher level of
growth was recorded by the manufacturing vehicles & parts and “other goods”), which
confidence shown by exporters – 57%
sector (-2.6%), trade, hotels and restaurants rose (in nominal terms) by 43% during the
finding conditions satisfactory – as compared
(-6.6%) and social & personal services (-0.5%). same period.
with firms producing mainly for the domestic
Healthier growth was shown by the transport
market. This presumably reflected, in part, 2006 Government Budget
sector (+5.6%) and financial & business
the beneficial impact of the 2005 The 2006 Budget, presented to Parliament
services (+4.1%) (see Fig.5).
devaluation on the export sector. on February 6, includes an overall spending
The data also showed a further decline in
The favourable export environment also increase of approximately 15% in the 2006/7
the fixed investment rate to 20.3% of GDP,
shows up in export data. In 2006 total financial year, including a pay rise for public
which does not augur well for future growth.
exports rose by 36% to P22.5 billion, with sector employees of 8% in April. However,
Also of concern was the figure for errors and
increased export values across almost all omissions which, at 11.1% of GDP, suggests continue...
commodities. Over the past two years (i.e.
between 2003 and 2005), total exports
Fig 3: Index of Economic Condition
increased by 61% (see Fig.4). Although part 60
of this increase was simply the valuation
40 strong
impact in local currency terms of the
cumulative 20% devaluation of the Pula
% devlation from mean
20
over the two years, in foreign currency terms
0 neutral
exports were still up 40%. This was partly
the result of buoyant commodity markets -20
and healthy world economic growth, leading
-40 weak
to price increases that benefited diamond,
Source: Own calculations
copper, nickel and gold exports. One very -60
2000 Q2 Q3 Q4 2001 Q2 Q3 Q4 2002 Q2 Q3 Q4 2003 Q2 Q3 Q4 2004 Q2 Q3 Q4 2005 Q2 Q3 Q4 2006
impressive result came from the textiles
sector, where exports rose nearly fourfold
in two years. This was due largely to the Fig 4: Increase in Major Exports 353%
Pula terms, 2003-5
beneficial impact of the preferential access 100%
to the US market under the Africa Growth 90%
and Opportunity Act (AGOA). Higher textiles 80%
73%
70%
exports drove the general increase in non- 61%
60% 58%
traditional exports (i.e. excluding meat,
50%
diamonds and copper-nickel), up 81% 43%
40%
between 2003 and 2005. These results 32%
30%
strongly suggest that export competitiveness 20% 16%
14%
and performance was assisted by the 10%
devaluations of February 2004 and 0%
Soda Ash Vehicles Meat Other Diamonds Total Copper Textiles
& parts goods exports nickel
May 2005.

4. 4 Economic Review
the additional spending is not spread equally Revenues are projected to increase by 11.3%; in real terms is small- but because the
across categories; essentially, recurrent however, much of this is due to an additional revenues are mostly sourced from
spending will be contained while enabling exceptional one-off payment from SACU non-domestic sources, marking a departure
a sharp increase in development spending related to the transition from the old to the from recent trends of raising increased revenue
(see table 1). new SACU agreement. Without this, the from domestic sources such as VAT. Hence
The expenditure total was set in terms of the projected revenue increase would have been the domestic impact of greater spending is
new “Fiscal Rule” introduced in the much smaller, at around 5%. Nevertheless, not offset by higher taxes. The 8% public
Mid-term Review of NDP 9, which was the government budget is in good shape, sector pay rise should also provide some relief
approved by Parliament in December 2005. with healthy surpluses anticipated for to the household income squeeze, even
This commits government to keeping 2005/06 and 2006/07 (at approx 3% and though the increase is below current inflation.
expenditure at or below 40% of GDP, a level 1.5% of GDP respectively), although without The structure of spending projected for 2006/07
that is consistent with medium-term revenue the SACU payment, the projected 2006/07 is little changed from the current year. Education
expectations. budget might well be showing a deficit. remains the largest single sector of spending,
While the increase in development spending The generally positive reception for the at 25% of the total, followed by general public
will enable the unblocking of many projects 2006/07 budget reflects the fact that it is administration (16%), economic services (16%)
that have been held up for budgetary and health (11%).
moderately expansionary at a time of sluggish
reasons, it may be difficult to spend the full activity in the domestic economy. This Economic Outlook
amount of the increase given the likely expansionary impact is not specifically Conditions are likely to remain difficult in
implementation constraints. because of the increase in spending – which the first half of 2006, with firms and
consumers faced with rising inflation, high
Fig 5: Economic Growth by sector, 2004/05 interest rates and sluggish domestic demand.
During the second half of the year, however,
MIning
Transport
there should be some improvements, with
Fin. & Bus. Serv a pickup in economic activity driven by
Government increased government spending and the
Agriculture
public sector pay increment, from which the
Water & Elec
construction and retail sectors should
Construction
Soc. & Pers. Serv.
particularly benefit. The economy should also
Manufacturing benefit from the impact of strong export
Hotels & restr performance, which is likely to continue
Trade Source: CSO through the year as commodity prices stay
-10% -5% 0% 5% 10% 15% 20%
high and the beneficial impact of past
devaluations continues to feed through.
During the second half of the year, inflation
Table 1: Government Spending by Category
should begin to fall and there may even be
Category 2005/06 2006/07 Increase scope for cuts in interest rates before the
(P million) (P million) (%) end of 2006, which would provide further
Recurrent 15,796 17,233 9.1 support to higher growth.
o/w wages, salaries etc. 5,436 5,998 10.3
o/w other recurrent 10,360 11,235 8.4
Development 4,450 6,035 35.6 Bifm Botswana Limited
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