Lesotho, Kingdom of

Economic growth dependent on water infrastructure mega-projects and on South Africa

As was the case in 2022, Lesotho's economic growth will stagnate at just over 2% in 2023 even though the country has set itself an annual growth target of 5% in order to achieve its national development goals. The economic activity of this small enclave in South Africa will continue to be largely affected by the economic slowdown of its neighbour (2% growth), with South Africa being its main source of export earnings (50% of the total in 2022) and remittances from expatriate workers, and its main supplier of basic consumer goods (85% of the total). Yet again this year, growth will be largely driven by the construction sector, with spin-offs from investment in the second phase of the Lesotho Highlands Water Project (LHWP). This project, which aims to supply drinking water to South Africa while producing hydroelectricity for Lesotho to reduce its dependence on Mozambique and its neighbour South Africa, is the country's driving force for economic development.

Foreign trade will also make a positive contribution to GDP. In fact, despite the expected decline in diamond exports due to the fall in the price of diamonds and the sluggishness of advanced economies, the reduction in the import bill will more than offset that of exports, so that net imports will make a positive contribution to economic expansion. While the Southern African Customs Union's exceptional revenues will support public investment (27% of GDP) in the development of national infrastructures, the contribution of private investment to GDP growth will remain negative. The private sector, still underdeveloped and characterised by low productivity, will suffer from high interest rates, which are at the root of a high degree of informality. Last, household consumption (57% of GDP) will be constrained by high levels of unemployment (18% of the population), poverty (32.4% of the population) and inflation. After peaking in July 2022 at 9.8%, inflation is expected to ease gradually thanks to the moderation of inflation imported from South Africa and monetary tightening by the Central Bank of Lesotho (CBL), in line with that of its South African counterpart.

Consolidation of external and fiscal balances

While Lesotho's fiscal performance is highly sensitive to changes in SACU receipts, exceptional SACU transfers (16.3% of GDP) will provide the government with an opportunity for fiscal consolidation in FY2023-24. However, the public deficit will remain high due to the rigidity of government spending (54% of GDP). In fact, despite a high level of tax revenue (22.6% of GDP) relative to other SACU countries, the public sector wage bill (15% of GDP and 75% of tax revenue on average since fiscal year 2021-22) and its size are compromising the sustainability of public finances. While domestic financing conditions have shown improvement in 2022, the government will easily finance its public deficit through domestic bonds. In addition, Lesotho enjoys continued support from multilateral and bilateral lenders who provide cheap external financing. While 80% of the country's public debt is denominated in foreign currencies, over three-quarters of this external debt is contracted on concessional or quasi-concessional terms, mitigating the risk profile of Lesotho's public debt.

In 2022-23, the cost of the second phase of the LHWP (9.6% of GDP) significantly worsened the current account deficit. While the current account deficit is expected to narrow in 2023-24 on back of a shrinking trade deficit (33.6% of GDP), itself linked to the reduction in purchases under the LHWP, the structural deficit (i.e., excluding the LHWP) will remain at 4.5% of GDP. The deficit in the balance of services (17% of GDP), which reflects the need to import skills and labour for the LHWP, will also improve slightly. While income from cross-border workers and expatriates in South Africa (18.9% and 5.5% of GDP respectively) will fall as a result of the slowdown in South African growth, the increase in SACU transfers (22.4% of GDP) will have a positive impact on the income account. As the bulk of the current account deficit is linked to the LHWP, it will be almost entirely financed by capital injections from South Africa, and will therefore only require a small drawdown of foreign exchange reserves equivalent to 3.6 months of imports.

Improved political stability following the October 2022 legislative elections - Lesotho

Lesotho, which is no stranger to episodes of political volatility that limit the government's ability to implement structural reforms, held peaceful general elections on 7 October 2022. The new Revolution for Prosperity (RFP) party, led by businessman Sam Matekane, won 56 of the 120 seats in the national assembly. It formed a governing coalition with the Alliance of Democrats (AD) and the Movement for Economic Change (MEC), which took 5 and 4 seats, respectively. Among the opposition parties, the Democratic Congress (DC) will sit in the National Assembly with 29 seats, while the former ruling party, the All Basotho Convention (ABC), will now have just 8 seats. The composition of a durably fragmented parliament and the absence of a two-thirds majority for the governing coalition will make political paralysis likely, while underlying factors of social frustration remain among the population, including the influence of the army (Lesotho Defence Force), high youth unemployment and poverty, and the lack of economic prospects. However, if the institutional reform recently approved by Parliament were to be adopted by the Institutional Court, the country's political stability could be strengthened. The reform aims to reduce the likelihood of the government collapsing, by preventing MPs from changing political parties and by limiting the number of confidence votes that can be cast against the Prime Minister during his term of office.

Last updated: September 2023