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Diamond market woes reinforce the need for export-led growth Introduction

Publishing Date : 05 August, 2019

Author : KEITH JEFFERIS |SETHUNYA SEJOE |KITSO MOKHURUTSHE

The second quarter of 2019 has been a very mixed one in terms of economic performance, with the main feature being a marked deterioration in conditions in the global diamond industry, and poor performance by exporters in general.


On the domestic front, data releases for the first quarter show some improvements, with reasonably robust economic growth, continued low inflation and interest rates, and some easing of pressure in the financial sector. If the weakness of the global diamond market continues, however, this will show up in growth, export and government budget figures later in the year.


Economic growth Real GDP growth in the year to March 2019 was 4.4%, very similar to the 4.5% recorded in 2018. Growth was reasonably broad-based, across both the mining and nonmining sectors of the economy, and was largely in line with expectations.
The main weakness was in the wholesale sub-sector, which is dominated by diamond trading activities, and where negative growth reflects a lower level of activity compared to 2018. Our estimate of real non-diamond private sector growth was resilient at 5.2%, year-on-year.


Diamond markets Sales of rough diamonds in the first quarter of 2019 were weaker than in 2018, and the trend appears to have intensified even further in the second quarter of the year. Sales of rough diamonds through De Beers Global Sightholder Sales (DBGSS) in Gaborone were 17.5% down, by value on the same period in 2018.


This reflects a number of influences, including weak final demand for diamond jewellery in the major markets (the USA and China), overstocking in the midstream (diamond cutters and polishers) and a lack of profitability due to narrow margins between rough and polished prices, a lack of bank liquidity in India to finance diamond stocks, and the continued downward pressure on prices of lower-value diamonds due to competition from supplies of lab-grown diamonds.


The weak market for rough diamonds will in turn have an impact on the mining sector, and hence on economic growth, as major diamond mining companies – including Debswana – adjust production levels in line with demand. It also intensifies the fiscal challenges facing government. Revenues have been in structural decline for several years, relative to GDP, and weak diamond sales will make it difficult to achieve the 2019/20 revenue targets set out in the February 2019 Budget. Looking further ahead, some very large investments are required to extend the productive lives of the major diamond mines at Jwaneng (Cut 9) and Orapa (Cut 3).


These investments will reduce government mineral revenues in the short-run, although by extending the period of diamond production will increase revenues over the longer term. But while the investments are being financed – during the second half of NDP 11 – budgetary constraints will be a major challenge, especially given the spending commitments made by all political parties in the run-up to this year’s general election.


Government will need to respond to this challenge by prioritising the competing demands on public spending, and cutting back spending on unproductive or low priority programmes, projects and institutions. Monetary and Financial Conditions Inflation has remained at very low levels by historical standards, and is still below the lower end of the BoB’s inflation objective range of 3-6%, despite a slight increase during the quarter.


Low inflation reflects a lack of price pressures, including low food price inflation, although this is now beginning to tick up due to low rainfall and poor harvests in Southern Africa. To some extent, however, low inflation may be artificial, as many regulated prices have not been increased as costs have risen, thereby requiring subsidies that may not be sustainable.


Inflation is likely to rise modestly over the next 12 months, as food prices increase, some administered prices are adjusted, and as the impact of the recent 18% rise in minimum wages feeds through to costs. There may also be demand-side pressures if the proposed substantial increase in public sector salaries is implemented.


Alongside low inflation, policy interest rates have been kept low, and remain at the lowest ever levels in Botswana. In the banking sector, credit growth is weak, which may be an indicator of slowing activity in the non-mining business sector of the economy. More positively, arrears on outstanding loans are declining. Furthermore, banking liquidity is improving, but this mainly reflects the very slow growth of bank lending during recent months. If the rate of growth credit picks up, banking liquidity could soon become an issue, and this would in turn push interest rates up, independently of monetary policy rates.


EXTERNAL SECTOR

Export performance was poor during the first quarter of 2019, with all categories of exports registering major declines, according to data from Statistics Botswana. For diamonds, this is in line with known developments in the global market, but it is surprising that export weakness has also been manifested across all other commodity groups; for instance, exports of beef, plastic products and vehicle parts were all down by 50% or more in Q1 2019 as compared to Q4 2018, as well as when compared to Q1 in 2018.


This is of great concern, given the importance of export-led growth (see feature later in this Review). Closer monitoring of export performance over the coming months will be necessary to determine whether this is a short-term problem or reflective of a deeper export malaise that needs policy attention.

OUTLOOK


Although 2019 has started reasonably well in terms of economic growth performance, there are some worrying clouds on the horizon. Already, we have seen a weakening of the global diamond market during 2019, which is unlikely to be reversed in the second half of the year. 


Outside of diamonds, there are many risks in the global economy. Amongst the big, negative risks are the prospect of an escalating trade war between the USA and China; potential recession in the US – as indicated by the inverted US treasury yield curve – and growth slowdown in China, both of which would be made more likely by a trade war; a “no-deal” Brexit, which would be disastrous for the UK and bad for the European Union; and potential hostilities in the Persian Gulf, with escalating tensions between the USA and Iran, which could easily send global oil prices well over $100 a barrel and trigger global inflation, recession and tumbling financial markets.


A further concern, but this time a domestic one, is the government’s decision – now approved by Parliament – to increase the rate of transfer duty on property purchases by non-citizens from 5% to 30%. This is likely to undermine the property market, with fewer transactions and lower prices, as well as negatively affect the banking system and reduce the availability of mortgages.


To give the government credit, they have softened some of the more egregious elements of the original transfer duty proposals, following extensive consultations with the private sector. However, even though the proposed increase in the transfer duty rate for foreigners – including foreign-owned companies - is likely to have an adverse impact on the economy and deter much-needed inflows of foreign direct investment, the political environment of an election year made any further concessions impossible.


The move emphasizes (adversely) the distinction between Botswana and Mauritius, where a new Property Development Scheme has been described as “the latest in a series of initiatives geared at opening up the economy to foreigners and providing them with the opportunity of becoming property owners in an enviable and stable country, if they so wish.” Extracted from econsult Economic Review - second quarter april-june 2019

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