Report No. 7243-ISO Public Expenditure Priorities in Lesotho 28 September 1988 Southern AfricaDepartment AfricaRegion FOR OFFICIAL USE ONLY Document of the World Bank This document has a restricted distribution and maybe used by recipients only in the performance of their official duties. Itscontents maynot otherwise be disclosed withoutWorld Bank authorization. Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized Public Disclosure Authorized
Transcript
Report No. 7243-ISO
Public Expenditure Priorities in Lesotho28 September 1988
Southern Africa DepartmentAfrica Region
FOR OFFICIAL USE ONLY
Document of the World Bank
This document has a restricted distribution and may be used by recipientsonly in the performance of their official duties. Its contents may not otherwisebe disclosed without World Bank authorization.
AFDB - African Development BankBEDCO - Basotho Enterprises Development CorporationCDC - Commonwealth Development CorporationCEM - Country Economic MemorandumCIDA - Canadian International Development AgencyCMA - Common (formerly Rand) Monetary AreaEEC - European Economic CommunityESKOM - Electricity Supply Commission (RSA)FP - Family planningFSSP - Food Self-Sufficiency ProgramGST - General sales taxLAPIS = Lesotho Agricultural Production and
Institutional Support Project (USAID)LBFC - Lesotho Building Finance CorporationLEC - Lesotho Electricity CorporationLEHCOOP - Lower Income Housing CooperativeLHC - Lesotho Housing CorporationLHDA - Lesotho Highlands Development AuthorityLNDC - Lesotho National Development CorporationLHLDC - Lesotho Housing and Land Development CorporationLHWP - Lesotho Highlands Water ProjectLHWS - Lesotho Highlands Water SchemeLTC - Lesotho Telecommunications CorporationMCH - Maternal and child health careMMC - Maseru Municipal CouncilMOA - Ministry of AgricultureMOE - Ministry of EducationMPEA - Ministry of Planning and Economic AffairsMTI - Ministry of Trade and IndustryMTO - Maseru Township OfficeNTTC - National Teacher Training CollegePFP - Policy Framework PaperPHC - Primary health careQE II - Queen Elizabeth II Hospital in MaseruRSA - Republic of South AfricaSACU - Southern Africa Customs UnionTVE - Technical/vocational educationUNDP - United Nations Development ProgramUSAID - United States Agency for International DevelopmentVAT - Value added tax
FOR OMCIAL USE ONLY
LESOTHO
PUBLIC EXPENDITURE PRIORITIES IN LESOTHO
Table of Contents
Page Nos.
Conclusions and Recommendations ................................ iii
This document has a restricted distribution and may be used by recipients only in the performanceof their official duties. Its contents may not otherwise be disclsed without World Bank authorization.
- ii -
LIST OF TEXT TABLES
Tables Page No.
Table ls Sources and Uses of Public Funds, 1982/83 - 1987/88 4
Table 2: Intersectoral Breakdown of Government Expenditure 6
Table 3: Suimmary of Overall Fiscal Operations 7of the Central Government
Table 4: Total Expenditure as percent of GNP 8Table 5: Future Resource Allocations 18
Annex Table 1: Balance of Payments and Macro Projections 47
This report was prepared by Chris Hall (principal author),Ebenezer Aikens-Afful, Vargha Azad, Yahaya Doka, Joe Gilling,Carolyn Gochenour, Robert Hecht, Melody Mason, Johann Renkewitz, andMitsuru Taniuchi. An earlier version of this report was discussed with thegovernment in June 1988.
Conclusions and Recommendations
1. Public expenditure policy in Lesotho represents the government'sprimary economic management tool. The Lesotho government is ps'sently at acritical juncture with regard to its development strategy and publicexpenditure program. The high expenditure and budgetary deficit levelsexperienced in recent years cannot be sustained as they have exceededconcessional resource availability and the government's capacity tomobilize additional resources or accumulate more non-concessional debt.Given the serious constraints on skilled manpower availabili':y in thecountry, expenditures have exceeded as well the economy's capacity foreffective absorption. Thus government needs to reduce the size of itsspending program relative to the size of the economy and ensure that theremaining expenditures are directed only to the highest priority programs.
2. Over the longer run the government's resource situation shouldimprove with the receipt of Lesotho Highlands Water royalties, firstly inthe form of SACU rebates on LHWS construction-related imports. These*advance* royalties will reach significant amounts around 1992. Governmentneeds to determine how to achieve the most beneficial development impactfor the Basotho people from these natural resource-based economic rents.Needing greater consideration by government is the possibility of creatinga trust fund to save LHWS revenues until such time as they could beabsorbed effectively. We have prepared this report to contribute to thenear- and longer-term processes of expenditure restraint, prioritizationand identification of the most effective pattern for future resourceallocation. A later report will review the issues surrounding thecreation of a development trust fund.
3. Government expenditure programs should emphasize improving thequality of human resource development, maintenance of existinginfrastructure, orderly growth of new infrastructure investment, provisionof other essential services, and creating an appropriate environment forproduction activities but leaving those to the private sector. In thisreport we evaluate Lesotho's public expenditure program to identifyexpenditure priorities in line with the underlying policy framework neededto promote Lesotho's development objectives. In addition to identifyingways to achieve greater efficiency of resource use through reallocation ofresources, the report sets forth for government consideration steps whichcould be taken to mobilize additional revenues, particularly through moreappropriate cost recovery policies.
4. This report contains a number of macroeconomic, institutional andsector expenditure policy recommendations and option3 for government toconsider. The rationale for these proposals is discussed in the body ofthe report. The major recommendations are summarized below. The Lesothogovernment has already agreed to a number of recommendations in this reportand has recently adopted a Policy Framework Paper which lays out the rangeof policy and institutional reforms its plans to undertake over the comingyears. This report recognizes those efforts as part of an on-going processin Lesotho.
- iv -
I. The Planning Process
5. Much of this report focuses on the need to strengthen planning inLesotho. Through institutional improvements and tthrough an increasedcommitment by government to guide expenditure program development moresystematically, the government and donors should begin to match proposedprograms with agreed priorities. A number of steps have been taken inrecent years to strengthen the government's planning capability. Toimprove planning processes further we recommend that government:
a. reinstitute the Project Review Committee as a decision-makingbody for investment programs and related recurrent expenditures;
b. improve budgetary information systems so that expenditure andrevenue data and net borrowing requirements are disseminated on a moretimely basis;
c. create a joint macroeconomic unit comprising personnel fromPlanning, Finance and the research staff of the Central Bank which would beresponsible for preparing macroeconomic forecasts including the overallpublic expenditure and borrowing programs;
d. reinvigorate the debt monitoring unit in Finance to ensurethat debt servicing implications of new borrowings for both the budget andbalance of payments are analyzed prior to government commitment;
e. reject project ideas for which recurrent budget resources andthe requisite manpower are not available;
f. establish a technical planning unit with engineers andeconomists for the the infrastructure ministries to assist in programplanning, monitoring and evaluation;
g. establish a standardized system for reporting the budgetaryimpact of public enterprises.
All these measures will require greater coordination between the recurrentand capital budgets. The joint macroeconomic unit should review thehistorical link between capital programs and recurrent resources andmanpower availability, the results of which would be used in allocatingfuture recurrent and capital resources. To improve the institutional basisfor this coordination, government should consider merging the ministries ofPlanning and Finance. For the future, government needs to consider as wellthe possibility of changing to a system of 3-year rolling plans for boththe recurrent and capital budgets. Such a system would set out, at anearly stage, intersectoral resource allocations thus forcing lineministries to prioritize their investment and expenditure plans.
II. Financing Public Expenditures
6. In addition to reducing spending, government must generateadditional budgetary resources. Given the need for equitable tax/subsidysystems, government should focus much of its effort on instituting
appropriate cost recovery measures so that those who benefit from publicservices pay a fair share of their cost. Appropriate pricing of publicservices tends as well to rationalize demand for the services and provideadditional funds for maintenance of existing assets. We recommend thatgovernment:
a. implement electricity tariff increases emanating from theinvestment planning and tariff study now being undertaken so that LEC bearsfully the burden of its current operations and debt servicing; to improveLEC's financial position in the near term, tariff increases of 15 percentare currently warranted.
b. raise tariffs on urban water supply so that the Water Branch'sinternal resource generation covers its operations and debt servicingcosts, with an initial focus on non-domestic consumers (government iscurrently considering substantial tariff adjustments);
c. recover a greater proportion of health sector costs by raisinghealth service fees, as per Health Financing Study recommendations (a new,higher fee structure became effective July 1, 1988), by ensuring that thereal levels for the fees do not deteriorate, and allowing local facilitiesto retain a portion of fee increases;
d. prepare and implement a phased program of higher tuitions forthe university complemented by establishment of a well-administered studentloan and recovery scheme and selective scholarships for needy students;
e. raise government pool housing rents to levels whichapproximate private sector rents in order to cover maintenance costs and toreduce subsidies.
In areas other than cost recovery, we recommend that government:
f. further simplify the income tax system beyond the rateunification recently announced through eliminating tax deductions andallowances, simultaneously reducing tax rates and creating a limited numberof tax brackets;
g. include Basotho migrant workers under the Lesotho income taxthrough cooperation of RSA mining companies for tax withholding; if thelabor agreement with the RSA cannot be amended to shift the onus of taxwithholding to the mining companies or if cooperation is not forthcoming,government should consider implementing a flat tax on mineworkers leavingLesotho at the beginning of each contract; raising the attestation feecould also be considered only if it does not raise the cost of recruitingBasotho labor relative to other nationalities and if the higher fees couldbe withheld from Basotho salaries;
h. broaden sales tax coverage to include public utility tariffs;
i. ensure that income tax arrangements capture fully all taxesowed the Lesotho government from personnel working for LHDA and companiesinvolved in LHWS construction.
- vi -
III. Public Expenditure Progrsm
7. Goversnment needs to reduce its expenditures from 33 percent of GNPin 1987/88 to 29 percent by 1992/93. In large part, hard decision'Is toreduce expenditure levels must be made on assessments of relative priority.In addition to reducing the overall level of expenditure, government needsto shift its intersectoral resource allocation toward human resources(primary and secondary education, health) and maintenance of physicalinfrastructure. Relative allocations to, inter alia, university education,power (minihydros), transportation (airfields and large airplanes), foreignreal estate, and the military should be reduced. There are other stepsgovernment could take to reduce spending, including:
a. undertake a civil service reform study to determine optionsfor reducing the size of the civil service, rationalizing its structure,and enhancing civil service pay scales to improve incentives (the reformexercise could emulate the process which the Ministry of Agriculture hasrecently undertaken; plans are under way for this study).
In the human resource sectors, government should:
b. raise relative investment allocations for primary health care,especially in the areas of maternal and child health care, family planningand population education; the increased recurrent budget allocation wouldpay for the required increase in medical personnel;
c. reduce planned expenditures on hospital construction byupgrading QE II Hospital rather than building a new referral center inMaseru; in addition, phase the process of upgrading district hospitals tobe consistent with funding for nurse positions and adequate recurrentallocations for drugs and supplies;
d. institute improved referral procedures and build more urbanhealth clinics to reduce overcrowding at QE II;
e. investigate the cauaes of observed increased malnutrition soas to determine whether increased aid or better targeting is needed;
f. reorient education priorities to raise the quality of basiceducation rather than, at this stage, to further expand access to educationprograms;
g. increase education's share of the recurrent budget in order toraise compensation levels to attract and retain better teachers and providemore and better quality teaching materials; the resulting share of therecurrent budget directed to education should approximate 20-22 percent;
h. prepare a plan for least-cost expansion of teacher trainingprograms;
t. allocate at least 60 percent of education's capitalexpenditures to primary education, teacher training and vocationalprograms;
- vii -
j. reduce planned capital expenditures on the university andMinistry of Education administration buildings.
In infrastructure sectors, government should:
k. complete its review of the Land Policy Commission report andmake necessary legislative changes to the Land Act in order to providesecure titles for land, collect annual property levies, stimulate an urbanland market, and facilitate transfer of land to productive leaseholders;
1. reconfirm and enforce central and local governmentresponsibility for urban land allocation;
m. Establish LHLDC as a sites and servicing agency, leavinghousing construction to the private sector;
n. prepare a Water Master Plan which would set out a least-costexpansion plan for efficient use of Lesotho's wateL resources, taking intoaccount the Lesotho Highlands Water Scheme and the possibility ofpurchasing LHWS water for Maseru's use;
o. reconsider whether establishment of the Water Board at thistime would make the most efficient use of financial and manpower resources;government and the Water Board, if established, must agree on specificcriteria and timetables for reform of tariff structures and reduction ofsubsidies;
p. using updated traffic forecasts and economic analyses andtaking into account planned construction of access roads for the LHWS,government should update the national transport plan and prioritize newinvestments while ensuring that maintenance of existing stock of roads hasthe first claim on resources;
q. avoid year-to-year fluctuations of the budget allocation forroad maintenance in order to allow for orderly build-up of maintenancecapabilities;
r. sell or lease on a long-term basis the recently purchasedBoeing 707 in order to avoid further financial losses;
s. defer further development of minihydros unless the powersector investment planning study incorporates minihydros in its recommendeddevelopment plan;
t. evaluate the Oxbow hydropower facility proposal in the contextof investment plans for LHWS hydropower; be prepared to drop plans toinvest in Oxbow if it is found to be economically unviable.
Our review of the productive sectors was selective in its focus since thegovernment has recently undertaken a comprehensive industrial sector reviewand given the substantial amount of work recently undertaken by the WorldBank in both industry and agriculture. Recommendations for future actionsuggest that government should:
- viii -
u. focus greater attention on investment and export promotionboth within South Africa and in other markets; set up an investmentpromotion unit within the Hinistry of Trade and Industry for this purpose;
v. reconsider the extension of the tax holiday as an investmentincentive; determine whether the same resources could be used moreeffectively in other incentives programs;
w. examine the possibilities for promoting the establishment ofenterprises as spinoffs from Highlands Water construction activities inways which would not promote economic inefficiency; government should notuse its comercial licensing system to prohibit prospective competitionfrom RSA enterprises; rather government should explore other means ofpromoting Basotho-owned enterprises or operations employing largeproportions of Basotho labor - e.g., through granting price preferences tothese firms;
x. ensure that private investment continues as the basis forinvestment decisions so that government/LNDC are not the sole investors inany enterprise;
y. maintain the present agriculture pricing system, refrainingfrom output price or other subsidies for farmers producing higher yieldsthan government-set norms;
z. pursue plans to remove government from the tractor hirebusiness;. decontrol tractor hire prices for private operators.
CHAPTER I: Public Expenditure Priorities
1. In last year's Lesotho, Country Economic Memorandum, I we examinedthe major constraints to econumic development in Lesotho and key elementsof Lesotho's development strategy. We concluded that despite Lesotho'sdisappointing economic growth record during this decade, with stagnant percapita GDP and GNP, possibilities do exist for economic development inLesotho if the country were to make more effective use of the resources andopportunities which it does have and if development were supported bygovernment through a number of economic policy changes and appropriatepublic investment and expenditure programs. We noted as well the need toplan public expenditures at a level which promotes consumption and importgrowth consistent with internal and external balance.
2. Over the coming years Lesotho's domestic economic development willmost likely take the form of greater production and marketing of relativelylabor-intensive high-value horticultural crops; greater commercializationof the livestock sector; continued growth in medium-scale manufacturingindustry for export to South Africa as well as to other markets; and growthof small-scale industry and the service sector, particularly theconstruction industry and economic activities associated with the LesothoHighlands Water Scheme (LHWS). Over the long term, Lesotho will mostlikely continue to export labor to South Africa, to the mines andincreasingly to other sectors. The government should ensure that itspolicies and expenditure programs prepare Basotho for this role and capturethe appropriate social benefits for the economy.
3. Because of its geographic position and open economy, Lesotho willinevitably be strongly influenced by the economic situation in the Republicof South Africa (RSA). Indeed Lesotho should try to take maximum advantageof the opportunities afforded by economic integration with South Africa.Presently, just under half of Lesotho's aggregate GNP derives from incomeaarned by the 140 thousand Basotho migrant workers in the RSA gold and coalmines. These laborers could not locate comparable employment opportunitiesin Lesotho, and Lesotho's consumption and investment levels could not bereached without this labor income. 'While RSA domestic policies placeconstraints on non-mine labor imports, skilled Basotho can generally locatenon-mining employment opportunities in South Africa as well. In addition,South Africa is the primary source of direct foreign investment in theLesotho economy.
4. However, this relationship does limit Lesotho's scope forindependent policy action. Independent monetary and exchange rate policiesare particularly constrained given Lesotho's membership with South Africain the Common Monetary Area (CMA) and the pegging of the Lesotho loti atpar with the RSA rand. Fiscal policy options are also restricted. WhileLesotho's membership in the Southern Africa Customs Union (SACU) gives itfree access to the RSA domestic market and provides more than half of theLesotho government's resources, it also limits the government's controlover its primary revenue source. In seeking to generate other revenues by
1/ 6671-LSO; May 27, 1987.
- 2 -
imposing taxes or undertaking other revenue measures, Lesotho must takeinto account as well the country's open borders.
5. The primary economic managerent tool available to Lesotho with thegreatest discretion for government is public expenditure policy. Withsevere limits on the government's financial base And expenditure capacity,the Lesotho government should concentrate on providing human resourcedevelopment programs, basic infrastructure, and other essential servicesand on creating an appropriate environment for production activities. Itshould continue to leave direct production activities to the privatesector. The composition of government's expenditure and investment, thegovernment's policy framework and indirect incentives are thus the toolswhich can best influence directly the pattern of domestic economic growththrough educating and serving the population and inducing appropriateprivate sector response. Even within this restricted domain, Lesotho'slimited resources require the government to scale its activities inaccordance with its long-run financial situation and implementationcapabilities. As set forth below, this will require government to reducethe level of its expenditure relative to the size of the economy. In thisreport we evaluate Lesotho's public expenditure program and strategy tohelp identify priority investments and other expenditures government shouldundertake and the underlying policy framework needed to promote Lesotho'sdevelopment objectives. In addition to identifying ways to achieve greaterefficiency of resource use through redirection of priorities and resourceallocation, government needs to take steps to mobilize additionalresources. This report sets forth steps which government could take,particularly in instituting more appropriate cost recovery policies.
6. The Lesotho government has recently adopted a Policy FrameworkPaper (PFP) which lays out the structure for a range of policy andinstitutional reforms government plans to undertake over the coming years.The preparation of this report contributed to that process. In a number ofareas, recommendations contained here have been adopted as part of the PFPor are under active consideration by government, and we have attempted togive due recognition to these efforts. The report is divided into twomajor sections, focusing first on the current situation with regard togovernment revenues and expenditures, planning processes and theintersectoral allocation of resources. The second section focuses onsectoral expenditure programs and policy objectives in human resourcesectors (health and education), infrastructure (water supply, housing,urban development, power, transport, and Highlands Water), and theproductive sectors (agriculture and industry).
7. Need for Reassessment of Expenditures. The government of Lesothois presently at a critical juncture with regard to its development strategyand public expenditure program. In the short run the government will beunder considerable and increasing fiscal stress. Expenditure levels inrecent years have increased beyond the government's capacity to sustainthem through revenue increases and borrowing. Government thus needs toreduce spending while ensuring that resources are spent only on highestpriority programs. From this perspective alone, it would be necessary forthe Lesotho government to reconsider the present level of expenditures andintersectoral priorities to determine the most effective pattern for futureallocation of government resources.
S. Over the longer run, the resource situation will tend to improvethrough revenue measures which can be undertaken and particularly with thecoming on stream of 8ighlands Water royalties. Construction of the advanceinfrastructure for the Highlands Water project has begun in 1988, withconstruction of the primary project components to begin around 1990.Project construction activities will directly create a limited amount ofemployment for Basotho, but the primary economic impact of the project willbe through opportunities for associated services and industry and throughroyalties accruing to government for the water exports to South Africa."Advance* royalties for water exports (SACU rebates on Highlands Water-related imports) will begin in significant amounts around 1992 and couldtotal as much as US$100 million even before water delivery begins around1996. When actual water exports occur, Lesotho will receive royalties ofaround US$15 million (1985 prices), with the potential that these willincrease to US$50 million by 2020 as further investment takes place. Thesenatural resource-based economic rents should be used for developmentalpurposes to benefit the Basotho people. By improving government's presenteconomic policy framework, the Lesotho government will begin to lay a basisfor ensuring that LHWS benefits are distributed to all Basotho on anequitable basis. By beginning now to strengthen planning processes, it maybe possible to direct these resources toward developmental priorities andguard against large, ad hoc requests for low priority purposes. Given theeconomy's absorptive capacity limitations, government should also considerthe creation of a development trust fund which could save LHWS royaltiesuntil the time when they could be used effectively.
Recent Performance
9. The financial performance of government during the current decadehae been rather mixed. The overall government deficit has fluctuated from6.5 percent of GNP in 1982/83 to 3.7 percent in 1984/85. Since that year,the budget deficit has risen to 9.3 percent in 1986/87 and is estimated tohave been 11 percent of GNP in 1987/88 (or M 152 million). When cyclicalfluctuations such as this have occurred in the past they have largelycorresponded to variations in SACU receipts. In this recent period,however, while declining SACU revenues have contributed to the widerdeficit, substantial public spending increases have contributed as well.
10. Between 1982/83 and 1987/88 overall government revenues averaged21 percent of GNP. Within this total SACU revenues have generallyrepresented more than 60 percent and in fact in 1984/85 they represented70 percent of total. In 1986/87 and 1987/88 though, customs receipts fellto around 50 percent of government revenues (reflecting the downturn ineconomic growth, hence imports, experienced during the mid-1980s). Non-customs revenues have been extremely buoyant in recent years, increasingfrom 6.7 percent of GNP in 1984/85 to over 10.4 percent in 1987/88. Theretail sales tax was largely responsible for this growth. This tax wasinitiated in 1982, and tax rates have been progressively increased to12 percent currently, as is the case in the RSA. The inability to raisesales tax rates further, since rates should generally approximate those inthe RSA, and recent exclusions of some items from seles tax coverage willlimit further growth prospects. Company income taxda have also increasedat high rates in recent years, reflecting relatively high growth inLesotho's manufacturing sector.
Table 1Sources & Uses of Public Funds 1982/83-1987/88
11. Over the period of 1982/83 to 1984/85, recurrent expenditure hasremained fairly stable, averaging 16 percent of GNP. In most recent years,however, recurrent expenditure has risen to over 21 percent of GNP. Thisincrease is due to combination of factors. The most significant increasehas been for military expenditures, which were 2.6 percent of GNP in1983/84 and now represent 4.5 percent (a portion of this increase reflectsthe Military Council's new responsibility for food aid programs). Wagesand salaries have also increased from an average 8 percent of GNP between1982183 and 1984/85 to 9-10 percent by 1987188. This shift reflects acombination of large increases in civil service salaries in 1985 (by an
average of 40 percent) to make up for past real wage declines and increasednumbers of public employees. Interest payments remained around 2 percentof GNP over the period 1982/83 to 1987188, but can be expected to rise overthe near term due to the increased non-concessional borrowing recentlyundertaken. Subventions and transfers have risen consistently from1.2 percent of GNP in 1982183 to 2.2 percent in 1987/88. Other purchasesas well have more than doubled over this period and now represent over10 percent of GNP.
12. Growth in overall recurrent expenditures disguises a relativeshift of government resources away from economic and social services(Table 2). Between 1982/83 and 1986/87, recurrent expenditures on economicand social services dropped from 52 percent of total to 49 percent. In1984/85 expenditures on these services only represented 44 percent oftotal. Most of this drop took place in the allocations directed towardeducation which fell from over 20 percent to 17 percent in 1984/85, to18 percent by 1986/87 and a budgeted 15.8 percent in 1987/88. Other shiftscan be seen under roads, which lost part of its relative share, fallingfrom 7.5 percent of total to 5 percent by 1986/87, though its budget wasincreased in 1987/88. In addition to increased military expenditures, theForeign Affairs Ministry has been the principal recipient of greaterexpenditure allocations. The addition of new ministries (e.g., Tourism)has also required new budgetary allocations without discernible reductionselsewhere.
13. Capital expenditures have been rising slowly over the early 1980s,representing just over 8 percent of GNP in 1982, 83 and 11 percent in1987188. Infrastructural ministries account for most outlays, with Worksand Transport together averaging one-third of total expenditures. In1987/88 the share allocated to Water, Energy and Mining increasedsubstantially due to expenditures related to LHWS and investments inminihydropower generation schemes. The large unallocated expendituresreflect direct funding by donors for which no breakdowns are available.This illustrates as well the data problems extant in Lesotho which needgovernment attention.
14. To finance the budgetary deficits government has undertakenforeign and domestic borrowings. Foreign borrowings averaged 3 percent ofGNP over the early to mid-1980s though in 1987/88 rose to 4 percent,reflecting the government's increased recourse to non-concessionalborrowings. Domestic financing has also risen substantially in recentyears. While in the early 1980s government was actually able to repayprevious borrowings to the domestic banking sector, in 1987/88 borrowingfrom domestic sources had grown to 6 percent of GNP.
Budgetary Projections
15. The outlook for the near term is fairly bleak. Under currentinstitutional arrangements SACU receipts will increase in real terms overthe next two years, but no other major growth can be expected until the'advance' royalties begin. Before that, however, South Africa may seek torestructure the SACU arrangements to reduce the burden on its budget,effectively reducing Lesotho's revenues. An immediate concern is theproposed value added tax in the RSA. South African authorities announced
Tablo 2
Inter..ctoral Breakdown of Covernment Expenditur
Recurrent Budgot Capital Budget(U of Total) (X of total)
1962/83 1983/84 1984/86 1985/88 1988/87 1987/88 1982/83 1983/84 1984/85 1985/886 198/87 1987/88Actual Actual Actual Actual Actual Budget Actual Actual Actual Actual Actual Budget
I. PUBLIC ORDER, DEFENSE 21.4 18.8 17.5 21.8 24.8 23.2 1. 0.8 9.2 0.2 0.7 0.4 1.8
II. OTHER PUBLUC SERVICES 19.7 13.2 10.3 11.2 4.6 5.2 II. 1.8 20.2 13.7 12.9 12.4 2.2
II. HEALTH 8.0 8.7 7.2 8.2 0.4 6.8 III. 1.2 2.a 0.8 0.4 1.4 1.e
IV. EDUCATION 20.1 19.8 17.1 18.1 18.0 16.8 IV. 3.7 6.9 3.9 5.3 6.6 1.9
their intention to replace its general sales tax with the VAT earlier thisyear. As presently proposed, the VAT would not be rebatable on intra-SACUtrade. Instituted in this manner the VAT could reduce Lesotho's revenuebase since Lesotho would need to lower its GST rates to near zero to keepfinal prices in Lesotho in line with those in South Africa. Presently,Lesotho's sales tax accounts for over 18 percent of total revenues. Inorder not to lose these revenues, Lesotho authorities should pursue withSouth Africa the possibility of instituting a revenue-sharing scheme forthe VAT along the lines of SACU arrangements. Lesotho could, for example,propose to receive VAT reimbursements equivalent to income tax deductionsclaimed by Lesotho commercial and production enterprises.
16. Table 3 contains revenue and expenditure projections which thegovernment has adopted in its Policy Framework Paper. The budgetaryprojections reflect government's understanding that it cannot sustain abudgetary deficit at the 1987/88 level (11 percent of GNP), since thatwould cause serious problems in servicing the implied accumulation of non-concessional debt which would be required. Overall, through a combinationof revenue increases and expenditure restraint, the government deficit isplanned to fall to just over 3.2 percent of GNP (5.8 percent of GDP) by1992193. This represents a sustainable deficit which could be supported byconcessional borrowings and donor grants. In essence, the levels projectedwould bring the Lesotho government budget back to the real expenditurelevels of the mid-1980s, down from the inordinately high levels of the pasttwo years. Over this period, expenditures will decline from 32.7 percentof GNP in 1987/88 to 28.8 percent in 1992/93. The budgetary estimates alsoanticipate revenue growth from 21.7 percent of GNP in 1987/88 to 25.5percent by the end of the projection period, contributing another 4percentage point reduction to the deficit. This would tend to alleviatethe pressures on Lesotho's absorptive capacities which are so evident atthe present level of expenditure.
17. Reducing overall expenditures much below these projected levelswould not be advisable given Lesotho's special requirements for basicinfrastructure and human resource development. Indeed, if publicexpenditures (relative to GNP) in Lesotho were reduced further, they wouldfall to a level far below those in many other southern African countries(Table 4).
Table 4Total Expenditures as percent of GNP
(most recent year)
Lesotho 28.82 (target for 1992/93)Botswana 39.6ZSwaziland 26.91Zimbabwe 35.9?Malawi 30.32
18. Given these dilemmas, government needs to focus on domesticresource mobilization, perhaps in greater measure than other countries atits income level. Fortunately there are measures that government canundertake which will not only raise revenue but should improve theefficiency of the current tax system. These includet
i. Lesotho's income tax system should be simplified through theelimination of tax deductions and allowances, the simultaneous reduction oftax rates and the creation of a limited number of tax brackets. Thesesteps should be in addition to the steps taken recently to unify Lesotho'stax rates at 45 percent. The suggested tax rate changes will generally be
* revenue-neutral, but the simplification would allow tax office personnel toconcentrate on enforcement of the Pay-As-You-Earn system in the growingnumber of manufacturing industries and service establishments, instead of
* recalculating each return as at present. Thus the result should be anincrease in overall income tax receipts. Reduction of the top marginalrate should also reduce incentives for more highly skilled Basotho to seekemployment in the RSA where the tax schedule is less steep.
ii. Recognizing that migrant workers and their households dobenefit from government's services, but unlike their counterparts workingin Lesotho do not contribute directly to government revenues, governmenthas decided to include Basotho migrant workers in the RSA under the Lesothoincome tax system (present law actually stipulates such inclusion but thetaxation of mineworkers' salaries has never been implemented). Thebudgetary projections assume that by the end of the period approximatelyM 40 million (or an average M 300 per mineworker) will be collected. The1973 labor agreement between Lesotho and South Africa needs to be revisedto place responsibility for withholding taxes on the mining companies. Thegovernment is currently discussing this issue with the mining companies andthe RSA government. If this proves not to be feasible, government couldalso consider levying a flat or head tax on workers registering to leavethe country on new 12-month contracts in the mines. This would notrepresent a disincentive to remit and could be made progressive byexempting each miner's first contract. The advantage to this system wouldbe that it would not involve RSA cooperation, except the RSA's agreementnot to subject Basotho to double-taxation (which is necessary under thewithholding scheme as well). Practically, though, average tax levels undera head tax scheme might not equal those under the withholding option sinceit would require cash payment of the entire amount at a single point intime. Another alternative could be to raise the attestation fee currentlypaid by mining companies on each new employment contract. Care should betaken, however, not to raise the cost of recruitment of Basotho laborrelative to recruitment costs of other nationals. Practically, this wouldmean gaining the agreement of the mining companies to deduct theattestation fee from future wages.
iii. Government has decided to broaden present sales taxarrangements to include public utility tariffs for electricity, telephonesand other telecommunications, and water. This change is important sincethe tax on these items could be maintained even if the general sales taxrate on other items needed to be reduced in response to RSA tax lawchanges. Government is also reviewing the exemptions granted to some
- 10 -
products and whether higher rates could be placed on luxury items. Beforeundertaking these changes, consideration should be given to RSA rates onsimilar products; Lesotho's tax rates should not exceed those in the RSA byany significant margin since large differentials would encourage people toshop across the border.
19. In addition to these tax law changes, there are other actionswhich government should consider to enhance the revenue base. Given theneed for equitable treatment of Basotho across different income groups,government in particular needs to focus greater attention on measures toimprove cost recovery in a range of sectors. In the case of publicenterprises, government should require that they service their own debtinstead of the current practice whereby government services it. In thesocial sectors, service recipients need to contribute a greater share ofcosts. To a substantial degree, government has accepted this need and isaddressing a number of these issues as part of its reform program. Thefollowing issues are dealt with more extensively in the respective sectorsections of this report. To summarize, sectors where policy reforms arerequired immediately are: electricity tariff levels that ensure efficiencyimprovements and tariff increases combine to cover recurrent and capitalinvestments costs in this sector; water and sewerage rates for consumerswith private connections which cover recurrent and capital costs,concentrating first on non-domestic consumers; user fees for healthservices which raise cost recovery beyond the current 5 percent level;tuitions and more effective loan schemes which recover a higher proportionof costs at the university; LHC and government housing program rents; andappropriate water charges for irrigation. The impact of these changeswould be primarily on urban residents whose incomes are substantiallygreater on average than rural residents and who should generally have agreater ability to pay than residents of rural areas. Thus institution ofthese measures should contribute to maintaining equity between differentincome groups.
20. Finally, government needs to review its income tax legislation andpractices and the LHWS treaty to ensure that all workers employed inLesotho by the Lesotho Highlands Development Authority (LHDA) or privatecontractors constructing the Highlands Water Scheme are taxable underLesotho law. To exempt these workers would represent a substantial loss tothe Lesotho economy.
Expenditure
21. As noted above, equal emphasis in the fiscal reform effort is tobe placed on expenditure policies. With the aim being to bring the deficitback in line with historical levels, total expenditures are projected todecline to 28.8 percent of GNP by 1992/93 (Table 3). Within this total,government's recurrent budget (the wage bill plus expenditures on otheritems), however, would be reduced from 21.5 percent of GNP in 1987/88 toaround 18 percent in 1992/93. On the basis of recurrent expenditure levelsbetween 1982-1985, which averaged 16 percent of GNP, this still representsan increase. We do not advocate that Lesotho reduce recurrent expendituresbelow historical levels, only below the unsustainable levels of recentyears.
- 11 -
22. There are a number of steps government could consider in thisregard. First, government needs to follow through with its present plansto undertake a civil service reform study. Public employment currentlycomprises almost 45 percent of the total formal sector work force, havinggrown substantially since the early 1980s to levels which governmentaccepts are too high. This study would set forth options for rationalizingthe civil service structure, particularly with regard to establishmentversus daily positions, and for reducing the number of civil serviceemployees. In large part, the Ministry of Agriculture has undertaken thisexercise on its own over the past year, and its efforts could be emulatedin other ministries. As public pay scales (eg, for administrators,teachers, engineers, nurses) appear to be substantially below comparableregional levels, creating incentives for skilled labor to emigrate, thestudy should also include a review of the civil service salary structure.Some of the savings from reducing employment could be used for raising payscales to more appropriate levels. As part of this study as well, thegovernment should attempt to reduce the number of ministries, currentlysixteen. This could reduce overhead costs substantially and result inbetter allocation of skilled manpower.
23. In addition, there are a number of areas where budget savingscould be achieved and which, cumulatively, could contribute substantiallyto the expenditure reform effort. Government could reconsider the level ofmilitary expenditures, which are presently much greater in real terms thanthose experienced earlier this decade. Travel policies, including perdiems given, should also be reviewed to ensure that they do not encouragecivil servants to supplement their incomes by travelling abroad more oftenthan necessary.
24. As noted earlier, government's servicing of all public enterprisedebt, as well as covering current costs in many cases, constitutes a majorsubsidy to the recipients of the services provided by these enterprises.There are also other direct and indirect subsidies granted by government toparastatals. The full impact of these subsidies on the government budget,however, is unclear as there exists no uniform presentation in therecurrent or capital budget for the various types of subsidies (eg, thereis no means of differentiating between direct subsidies or equityinvestments from government or donors; in addition, some enterprises areregarded as government departments for budgetary purposes). As a means ofgaining a greater appreciation of these costs, government needs toinstitute a standardized system of reporting on the activities andbudgetary impact of these enterprises. Government should publish an annualreport covering, inter alia, financial requirements, impact on thegovernment budget, debt service obligations, taxes and dividends paid bythe enterprises, discussions of pricing issues and performance evaluation.A detailed study and set of recommendations concerning the publicenterprise sector is set out in a draft report to government.2 Governmentshould also pursue plans to reduce the budgetary impact of parastatalsubsidies through specific actions it can take. For example, government ispresently considering restructuring and privatizing Co-op Lesotho, aparastatal currently receiving extensive subsidy.
21 A Report on the Structure, Role and Performance of a Number of KeyParastatals in Lesotho, January 1988.
- 12 -
25. According to the projections, capital expenditures would averageapproximately 10-11 percent of GNP in the coming years. This is justslightly higher than that experienced in recent years and reflects the needfo. continued investment in the economy, the strong tie between donorassistance and the capital budget, and, specifically, some beginninginvestment in advance infrastructure for the Highlands Water Scheme.However, the projection that capital expenditures could generally remain atlevels comparable to those in recent years does not suggest that reform inthis area is unnecessary. To strengthen the institutional basis forselecting priority projects having a development orientation and developingan overall public investment program, government needs both to improve itsplanning capabilities and strengthen its commitment to using economicprinciples in determining how resources are spent. The experience inrecent years illustrates this need. While the Ministry of Finance hastaken some steps to impose greater fiscal discipline and reduce certaintypes of expenditures, government decisions to undertake a number ofadditional expenditures (eg, jet aircraft, foreign real estate, large-scaleirrigation schemes) having questionable economic justifications orinappropriate cost recovery bases have more than offset these reductionattempts. In addition, a number of these expenditures have involvedsignificant non-concessional borrowings; in 1986 and 1987, governmentborrowed about M 40 million from foreign sources on hard terms. Apparentlythis borrowing is based on the anticipation that LHWS royalties will sooncome on stream. This mortgaging of future revenues would appear ill-advised. To achieve a greater developmental impact from these newrevenues, indeed from the entire expenditure program, Lesotho must improveits (a) identification and impleientation of projects and programs; (b)link between expenditures and revenues so as to avoid non-concessionalborrowings; (c) allocation of its limited resources in a way which directlyaddresses the country's development needs; and (d) policy formulation tosupport this expenditure program.
The Planning and Budgeting Process
26. The Lesotho government recently completed drafting its 4th FiveYear Development Plan, covering the period 1986187 - 1990/91, which waspublished in January 1988. In setting out to draft the plan, thegovernment recognized that previous plans had primarily consisted of listsof projects various ministries wished to undertake, but with inadequateconsideration of the impact of limited donor funds and government's ownrestricted financial and manpower resources. Thus Lesotho's previous plansinadequately reflected priorities among the various activities listed,leaving this to the annual budgeting exercise. In the 4th Plan, thegovernment rightly attempted to focus first on the objectives, programs andpolicies to be pursued during the plan period and to provide an aggregatemacro framework for the specific expenditure programs. These are containedin the first volume of the plas.
27. However, in putting together the 4th plan public investmentprogram, the draft second volume of the plan, little changed from previousprocedures. The Ministry of Planning requested line ministries to submitproject ideas and financial resource requests, but gave no indication as toexpected ministerial allocations. Line ministries submitted projectrequests which exceeded as much as fourfold the total resources which the
- 13 -
government could reasonably expect to spend during the five year planperiod. In the second round of this process, the government is nowpreparing a detailed public investment program which should be reasonablyconsistent with aggregate expenditure forecasts and shifts in relativepriorities for government expenditure. However, the opportunity of havingthe line ministries themselves suggest their priority investments withinreasonable financial constraints was lost.
28. Annual budgeting in Lesotho has been more effective than medium-term planning, but there are still problems. Historically, the capitalbudget has been mainly funded through external donor assistance. Becauseline ministries want the budgetary authority to utilize as much availabledonor funds as possible, detailed budgetary estimation oa a year-to-yearbasis is generally not undertaken to any real extent. In addition, capitalbalances not spent in one year automatically are added into the next year'sbudget through the revote mechanism, irrespective of whether the resultingexpenditure levels are realistic. Government budgets better for its own-funded activities, but the result is still that the capital budgetgenerally overestimates government's capability of spending capitalresources by a factor of two. Failing to set priorities means that toomany capital/development projects are vying for scarce manpower andrecurrent resources. The lack of adequate recurrent budget and manpowerresources thus becomes the overriding constraint to delivering the fullcapital program. There are problems with recurrent budgeting as well, inparticular the lack of accountability to original budget figures. Thisresults in chronic overspending. Finance should give realistic budgetallocations at the beginning of the year and generally not allowoverspending thereafter. This would require the line ministries to useonly the resources originally allocated and direct those resources topriority areas.
29. The planning process in Lesotho is also weak due to a lack ofmacroeconomic perspective. In general, little attempt is made to projectrevenue and expenditure requirements within an overall macroeconomicframework. As a result, capital expenditure programs are essentially basedon funding availability, with little attention to recurrent costimplications of capital expenditures, either during the construction stageor for subsequent operations; to foreign exchange versus local currencyrequirements; or to debt service implications of either foreign or domesticborrowing.
30. Within the past year or so government has taken a number of stepsto reorganize the Planning ministry and strengthen planning institutions.The following are additional steps for government to take to improve itsplanning processes.
a. Setting better priorities for government expenditure programsrequires that decision-makers take into account economic analysis ofprojects when making choices about projects/programs and their phasing.For this, decision-makers must have access to basic project information(including, inter alia, rates of economic return) on ongoing and proposedprograms. The Planning Ministry and line ministry planning units mustimprove their capability to deliver this information.
- 14 -
b. Strengthening the planning function in the Planning/Financecomplex and line ministries will require substantial training of thegenerally capable planning staff. The 1987 CEM contained detailedrecommendations for structuring on-the-job, academic and field trainingprograms. Under a UNDP project the Ministry of Planning will receivetechnical assistance for planning, donor coordination and macroeconomicanalysis. In addition, government should establish a technical planningunit to serve the ministries of Works; Transport; Water, Energy and Mining;and Highlands Water and Power and which could be staffed by engineers andeconomists who could help evaluate project proposals. Donor assistancecould be attracted to finance the unit and related training programs.
c. Reinstituting the Project Review Comnittee as a decision-making body would strengthen the procedures by which government assessesproject options. This committee, comprised of Planning, Finance, and theconcerned line ministry, failed in the past to carry out its function dueto the belief that its recommendations carried insufficient weight, to itslack of high level representation and because its deliberations came toolate in the decision-making process. The reconstituted committee shouldserve as a focal point in determining the priority of suggested projects,consistency with resource availability and whether to include projects inbudgets and plans. It should consider projects early enough for itsdecisions to have a bearing on project design, cost and financing. Itshould also be comprised of high level representatives.
d. Fitting overall spending/borrowing plans into a macroeconomicframework encompassing projections of future resources, requirements andalternative allocations would result in an appropriate budget envelope.The macroeconomist to be hired under the UNDP planning project and thelocal counterpart should head a joint macroeconomic unit comprisingPlanning, Finance and the research staff of th6 Central Bank. This newunit should be given responsibility for preparing macroeconomic forecasts,placing the overall public expenditure program in that contexc, andreporting to decision-makers. This input would be essential for theProject Review Committee in determining resource availability.
e. Contracting for economic advisory services modelled on theprevious economic unit which was located in the prime minister's officewould effectively supplement the joint macro unit. Through a series ofshort-term consultancies, a long term relationship could be built with acapable firm or academic institution to provide government with advice andanalytical capabilities. The unit could report either directly to themilitary council or jointly to Finance and Planning. Government couldidentify this as a priority for technical assistance from a donor (theNordic countries previously financed the unit noted above).
f. Better coordination is required between the recurrent andcapital budgets. In particular, the recurrent budget implications (both inthe short and longer term) of capital programs need to be judged againstthe overall macro framework to be prepared by the macroeconomic unit. Thisimplies that government must be willing to defer or reject projects forwhich recurrent resource requirements in subsequent years would not beavailable. Ad hoc steps taken within the past year to gather informationregarding the recurrent budget implications of ongoing programs could
- 15 -
improve the situation as government begins to refine and use theinformation. When the macroeconomic unit is formed, it should study therecurrent budget implications of past investment programs both withinsectors as a whole and on a program by program basis. Future recurrentbudget allocations and growth could then be based on these estimates.Coordination between the ministries of Finance and Planning, which areresponsible for the recurrent and capital budgets respectively, isimproving; but government could consider merging the two ministries tosolidify the institutional basis for achieving more integrated andinternally consistent budgets and plans. Consolidating responsibility forthe budget into a single ministry would also strengtien government'scontrol over the make-up of sectoral expenditure programs and aggregateexpenditure levels.
g. Debt servicing implications of existing and planned foreignand domestic borrowings on the balance of payments and on the governmentbudget need to be monitored more closely than in the past. The debtmonitoring unit in Finance needs to be reinstituted to report on the debtservice implications of all borrowings prior to their commitment. Whilethe unit should maintain its line reporting relationship within Finance,its input would be most useful to the joint macroeconomic unit, the ProjectReview Committee and other decision-makers.
h. Budgetary information systems need to be improved greatly.PlanninglFinance particularly need to improve the timeliness of theirreporting of revenues, expenditure, surplus/deficit and financing data tothe Military Council, the Council of Ministers, the central ministries andthe Central Bank. Presently, it can take six months or longer forbudgetary accounts to be reported by the Treasury. With more timely andsystematic information flows decision-makers could better appreciate thesignificance of discrete expenditure-related decisions they must make.Further improvement in this regard would result if donors were to report togovernment quarterly or semi-annually on disbursements of directly-fundedand other projects. This would allow government to gain a greaterappreciation of resource flows into all sectors.
i. In preparing the next plan and long-term public expenditureprogram, Planning/Finance should begin by indicating the approximateallocations for both recurrent, capital and manpower resources which theline ministries should reasonably expect. These resource envelopes shouldbe based on past allocations and judgements concerning changes togovernment's priorities. Line ministries should then develop programsconsistent with these tentative allocations rather than submitting "wishlists, as in past plans. In effect, government has already accepted theneed for this reform by instituting a similar system for the annualrecurrent and capital budgeting exercise. As recently announced,government's priorities and inter-sectoral resource allocations are to bedetermined nine months before the beginning of each fiscal year, followedby a period during which line ministries would develop their intra-sectoralprograms based on those expenditure levels. If the original levels arerespected, this should help force a greater degree of fiscal discipline onthe line ministries.
- 16 -
J. An option for government to consider is to alter its presentsystem of preparing medium-term development plans every five years in favorof a system of rolling 3-year plans. The Planning complex would continueto be responsible for providing long-term perspectiv,e planning. A rollingplan system would make public expenditure planning more relevant for thecentral and line ministries, as all would have an annually updated/revisedidea of requirements and resource limitations in the immediate three yearhorizon -- as opposed to the present fixed five year time frame which canquickly become out of date. The utility of this process would beheightened further if it were structured to coincide with the anmualbudgeting exercise, thus avoiding duplication of effort.
Allocation Issues
31. The following sections of this study set out in detail publicexpenditure priorities in the major economic and social services sectorsover the coming years. As identified there, the primary areas needingincreased government and donor attention and relatively greater budgetaryresources are the human resource sectors. In general terms, to equipBasotho labor to compete effectively in the regional labor market and toimpart skills needed in the domestic economy, government needs to takesteps to stem the recent marked decline in the quality of education inLesotho. Raising compensation levels to attract and retain better qualityteachers, expanding access to more and better teaching materials, and otherimprovements identified will require a shift of government's resources tothis sector. To train and pay staff needed in Lesotho's increasing numberof primaryj health care centers and in hospitals, to provide adequate drugsand other supplies to fight the country's health problems, and to expandfamily planning and population education programs, a relative shift ofgovernment resources toward health is also needed. As is identified in thefollowing section on infrastructure, government needs to focus relativelymore of its resources and effort on maintenance, particularly on existingroads but also for physical assets in other sectors.
32. An objective of the Finance Ministry should be to allocate therecurrent budget so that line ministries generally know in advance theapproximate the level of budgetary growth they can expect from year toyear. This would allow the ministries to build up capacity to undertaketheir responsibilities in an orderly manner. An indicative intersectoralallocation of Lesotho's recurrent budget, which has been prepared by theWorld Bank, is given in Table 5. It is consistent with the expenditurepriorities we have identified. This suggested breakdown is intended tosupport a greater development orientation of expenditures by targetingdevelopment priorities in the human resource and infrastructural sectorswhile maintaining or shifting relative resource allocations away from othersectors. While overall recurrent budget growth from 1985/86 to 1992/93 isprojected to average 2.2 percent per annum in real terms, annual recurrentallocations to health, education, works (roads), should rise more than theaverage to reflect priority to these sectors. Suggested allocations towater, energy and mining are also greater than average, primarily toreflect needs related to LHWS but also to provide for more adequatemaintenance in, for example, water supply. The suggested growth for tradeand industry refiects the increased costs associated with greater focus oninvestment and export promotion.
- 17 -
33. Table 5 also presents a suggested breakdown by major ministry ofthe interaectoral allocation of capital resources for the 4th Plan periodwhich was developed by government staff and the PFP discussion missionearlier this year. These figures also reflect a needed added emphasis onhuman resource development programs, a focus on urban housing sites andservicing programs, on-lending of aid funds to LNDC for development of newmanufacturing industries, and increased emphasis on prosnotion of high-valuecrop production through minor irrigation works. Expenditure allocationsfor transport (other than roads) is much reduced from previous levelsfollowing completion of the new airport. This indicative aggregatebreakdowr shoul.d help government to start the process of identifying andimplementing priorities in its public investment program for the comingyears. A more detailed analysis of priorities in each individual sectorfollows.
Table 6Future Resource Allocations
Capital AllocationsRecurrent Allocations for 4th Plan period
1986/87 Actual 1992/9a Re l Growth Annual *llocationL X L X XpSp. (U Sillion) X
Agriculture 15.1 6.8X 29.4 6.8X 2.3X 16.7 12XInterior 15.7 7.1% 38.2 7.6% 2.1X 10.4 8XTrade A Industry 2.7 1.2X 6.6 1.5X 6.2X 14.6 11XWater, Energy A Mining 1.9 0 9X 6.0 1.4X 11.aX 14.6 11X b/Works 11.1 5.9X 8.2 7.0O 8.2X 82.8 24XTransportation A Communication 4.0 1.8X 6.0 2.0X 4.2X 0.8 ax
Other 47.0 21.4% 66.4 20.9X 1.8x 109. 7X
Total 221.9 100.9X 481.7 199.0X 2.8% 136.2 199X
Footnote: a. Included In other ccb. Doe not Include LHWS water transfer expenditures a
- 19 -
PART B
Chapter 11: Development Priorities in the Human Resource Sectors
34. Relative to Lesotho's physical and financial resources, thecountry's population growth is high, estimated at 2.7 percent per annum inthe 19808 as opposed to 2.3 percent in previous years. This represents animportant complication over the long run as continued growth at this ratewould overwhelm the capacity of the government and families to provideeducation, health, nutrition and other basic services to the growing numberof youths and others. With Lesotho's present birth rate at 41 perthousand, this translates into almost 70,000 births per year. A reductionin the birth rate to 3811000 (or population growth of approximately 2.4percent), for example, would reduce annual births to less than 65,000, thuslessening immediately the need of the country's health system to providethese services. In later years this would reduce as well the numbers ofchildren entering the education system. Lesotho's high rate of populationincrease also translates into a rapidly growing labor force for whom thereis little hope of locating employment opportunities either in the domesticformal sector or in the RSA mines, the traditional employer of Basothomales. For all these reasons government needs to place high priority onpopulation education, family planning services and elements of other healthprograms (eg, maternal and child health care) which would promote reductionin the birth rate. Experience in many countries has shown that stronggovernment leadership and establishment of family planning services canplay a critical role in bringing down birth rates. Government leaders inLesotho can educate people and popularize the need for population programsby continuing to support these aims publicly.
A. Health
35. Obiectives/Strategy. For Lesotho's adult population, the mainhealth problems relate to the high incidence of respiratory diseases(including tuberculosis), sexually-transmitted diseases, complications frompregnancy, and trauma often connected with accidents and violence.Children suffer from acute respiratory infection, gastro-enteritis, andother diseases such as measles. Recently, as well, malnutrition among theyoung appears to have become a serious problem in Lesotho despite thecountry's high consumption levels relative to income. To combat theseproblems the government's main objectives in the health sector in recentyears have been to expand access to health care to underserved groups(especially in remote rural areas), and to shift emphasis from curative topreventive health services. The government's strategy for achieving theseobjectives has revolved around the design and implementation of a primaryhealth care (PHC) network consisting of rural and urban clinics and villagehealth posts. The PHC programs, including maternal and child health care,family planning, and improved rurallurban sanitation, are largelyimplemented through government and church mission facilities. In theFourth Plan period, in addition to reinforcing the earlier emphasis onexpanding PHC and preventive health services, the government's new
- 20 -
objectives include training more Basotho health workers, integrating churchand state health services, and increasing cost recovery.
36. Expenditures. During the 1980s the pattern of public expenditurehas been consistent with the government's stated objectives. Capitalexpenditures have focused on PHC/preventive health care, with minimalexpenditure on central, curative facilities. In the 1985/86 capitalprogram, for example, almost 90 percent of planned expenditure wasearmarked for PHC and preventive care. Projects included clinicconstruction, MCH/FP activities, childhood immunizations, rural sanitation,and installation of radio links for remote mountain clinics. The recurrentexpenditure budget does not distinguish between preventive and curativecare, but the share of recurrent expenditure allocated to the two budgetprograms with the greatest impact on primary and preventive health rosefrom 28 percent in 1981182 to 37 percent in 1986/87. While the historicbias in favor of central tvrban facilities and curative care remainedevident throughout the third plan period, with the national referralhospital in Maseru (Queen Elizabeth II) allocated 46 percent of recurrentresources in 1985/86, this represented a decline from 60 percent in1983184.
37. During the third plan period, budgeted capital expenditure onhealth averaged about M 3.4 million, or about 2 percent of total budgetedinvestment expenditure. Actual public investment in health, however,averaged only about M 1.5 million annually during 1981-86, or less thanhalf of planned levels. The low implementation ratio was the result ofdelayed start-up of major projects and logistical difficulties associatedwith providing health services to remote areas. This level of investment(M 1 per capita per annum) appears to be inconsistent with Lesotho'sdeclared PHC objectives and inadequate to upgrade clinics and ruralhospitals and replace aging vehicles and other equipment.
38. Recurrent expenditures on health have averaged about 8 percent ofthe government's total recurrent budget during recent years. While thiscompares favorably to some other African countries, where public funds forhealth generally amount to 3-6 percent of total, the comparison hides thefollowings (a) this level of expenditure is only reached on an ex postbasis, after the Hinistry of Health regularly overspends its originalbudgetary allocations by as much as 50 percent; (b) some categories ofexpenditure continue to be seriously underfunded (eg, established posts fornurses); and (c) on a per capita basis, recurrent expenditures stillaverage only US$8 annually, compared to US$21 in Botswana and Zimbabwe,US$35 in Latin American countries, and much greater in developed countries.
39. Issues and Recommendations. The government's plans for capitalexpenditure through the Health Ministry over the next few years averageM 20 million per year, only 10 percent of which is directed to PHCactivities. Over 80 percent is directed toward renovating and constructinghospital facilities. While some upgrading of district facilities andmeasures to improve the efficiency of the national referral hospital may bejustified, this investment program raises questions regarding its cost-effectiveness and its consistency with sectoral objectives, recurrentresources and donor resource availability. To achieve greater consistencywith sectoral objectives, target investment levels for PHC and preventive
- 21 -
medicine should be increased, especially in the areas of maternal and childhealth care, family planning, and health and population education.Especially as the government is continuing with plans to construct a newmilitary hospital in Maseru, planned expenditures for other hospitalconstruction should be reduced, by dropping the proposal for a new referralhospital in Maseru and scaling back the district hospital renovations to alevel that the government can realistically staff and afford to operate.In lieu of a new Maseru referral hospital to replace QE II, the governmentand donors should consider a program of low-cost improvements, facilitiesupgrading and improved management of the existing QE II hospital. Tocontribute to better management and introduce proper referral procedures toreduce overcrowding at QE II, a program of building and staffing morehealth clinics in urban areas needs to be considered. Taking into accountimplementation capacity and the country's most pressing health needs, theministry's health planning unit should identify a core expenditure programon the order of M 10-12 a year. This would represent 4-5 percent of totalpublic investment and should cover a balanced set of activities in theareas of PHC, preventive health, institutional strengthening, andfacilities upgrading.
40. 'While the health sector's level and share of recurrent resourcesat this stage probably cannot be raised significantly (except throughincreased user charges as addressed below), the composition of suchexpenditure needs review. Not enough nursing positions have beenestablished, for example, with the result that the Maseru hospital has onlyhalf the number of nurses required for it to be fully staffed. Allocationsfor operations and maintenance have also been inadequate; the effects ofsuch shortfalls are exacerbated by stringent budgets given by Finance atthe beginning of the year, only to allow overspending at a later date. Inpreparing future budgets, the Health Ministry should quantify these andother areas of chronic underfunding and cover these shortfalls through acombination of additional allocations and transfers from savings achievedin other budget categories. To estimate better the requirements foroperations and maintenance, the ministry should develop and apply a seriesof norms (eg, annual equipment maintenance = 5 percent of purchase price,building maintenance - 2 percent, etc.) to existing and proposed newfacilities. In the future, reasonable levels of recurrent expenditureshould be determined by the Health and Finance ministries at the beginningof each year. Once these levels are agreed to, they should be respected,and supplemental allocations should only be made under exceptionalcircumstances.
41. The government needs to make a special effort to investigate theextent and causes of the increased level of malnutrition, particularly inchildren, being observed in both rural and urban areas. If malnutritionlevels at this stage are not reversed, this could have long-termconsequences on productivity levels of the affected population and onhealth, education and other expenditures which will be required ofgovernment. Lesotho currently receives large contributions of foodassistance; government and donors need to make a special effort todetermine whether better targeting, increased aid or other actions arerequired.
- 22 -
42. Cost Recovery. The Health Ministry collects revenues for a widerange of health-related services. The most important items include out-and in-patient fees, private patient and dental fees, vaccination fees andherbalist licenses. While the volume of collected revenues has increasedfrom M 0.5 million in 1981182 to M 1 million in 1986/87, this representsonly 5 percent of recurrent expenditure on health.
43. One of the Health Ministry's goals for the Fourth Plan is to boostthe level of cost recovery. This is appropriate and should be feasible.Cost recovery stood at 15 percent just a decade agos the recent decline to5 percent has resulted from inadequate fee collection procedures andfailure to adjust the fee schedule in line with inflation. It appears thatmost Basotho could pay more for government health services: they do paysignificantly more to the church hospitals and clinics, which cover a thirdto half of their costs through patient charges. Moreover, the 1987household expenditure survey revealed that the average Masotho householdspends about M 15 (US$7) annually for health care, mainly for drugs andservices of traditional healers. Building on the recommendations of theEEC/World Bank-sponsored health financing study, the government hasrecently formulated and implemented increases in fees for medical services.This will essentially double the fee collections. Government should ensurethat these rates, at a minimum, keep pace with inflation, should considerother phased increases and should put into place improved collectionprocedures. The government should also ensure that special measures toprotect the poor are instituted so that those who cannot afford healthservices are not denied access to these services. As a long-run issue,government needs to review options for expanding coverage of medicalinsurance schemes. Informational campaigns for the public and training forhealth administrators will be required to implement such reformseffectively. The increased cost recovery being put into place should beused to finance the greater numbers of nurses needed and strengthenedmaintenance programs. To provide added incentive to these reforms,government should ensure that local health facilities can continue toretain and spend a portion of revenues collected as supplementary budgetresources.
B. Education
44. Sector Objectives and Strategies. The key government objectivesfor education during recent years are spelled out in the 1982 sector taskforce report. These include making basic education (seven years of primaryschool) universally accessible, and fashioning a system of education andtraining which is more relevant to the country's development needs.Increasing accessibility of basic education is being undertaken throughconstruction of primary school classrooms, production and distribution oftextbooks, and training teachers with appropriate qualifications. Thesecond objective is being addressed through curriculum reform to introducemore practical subjects in primary school and technical subjects insecondary school, expansion of vocational instruction, and improvement ofscience teaching facilities.
- 23 -
45. Two projects presently dominate the education sector in Lesotho:the IDA-assisted Training for Self-Reliance Project (TSRP) and the USAID-financed Basic and Non-Formal Education Systems Project (BANFES). Thecomponents of TSRP are primary classroom construction, upgrading of sciencelabs and provision of basic textbooks. The main elements of BANFEScomprise curriculum reform, provision of instructional materials, andstren,thening of a number of Ministry of Education institutions includingthe National Teacher Training College (N!TTC), Curriculum DevelopmentCenter, and Teachers Service Commission.
46. As a share of capital expenditure, planned investment in educationby government has exhibited wide variations during 1981-86, accounting for3-8 percent of the total investment budget. Planned education investmentlevels have risen in the last year of the Third Plan and first years of thecurrent plan period, jumping from M 11.2 million in 1984185 to M 15.9million in 1985/86 and M 24.2 million in 1986/87. These increases havemainly been due to a surge in TSRP and BANFES funding. The expenditurefigures need to be viewed with caution, however, as only a portion ofgovernment capital expenditure represents investment in fixed assets - forexample, nearly two-thirds of the BANFES budget finances technicalassistance. In addition, actual expenditure levels are only slightlybetter thau half these targets (but improving to 70 percent in 1985/86),attributable to over-ambitious targets, donor delays, shortages ofgovernment revenues for exclusively locally-funded projects, and weaknessesin project management.
47. The planned level of recurrent expenditure for education as ashare of the national total declined significantly during the Third Planperiod, from 17.4 percent in 1982/83 to 13.9 percent in 1986/87. In termsof actual expenditures, recurrent expenditures on education stand around18 percent. This level of recurrent spending is lower than in most otherAfrican countries, where it generally equals 20 percent of the totalbudget. In view of the currently poor levels of compensation for teachers(especially in secondary schools), continuing shortages of teachingmaterials, and inadequate facilities maintenance, the share of the budgetallocated to education should be increased. As Lesotho's overallgovernment spending relative to GNP is lower than in many other countries,Lesotho may need to direct relatively more expenditure toward education toequal efforts in other countries.
48. While in absolute terms, the original recurrent allocations foreducation increased from M 26 million to H 30 million between 1982 and1986, in real pcr capita terms there was a serious drop from M 31 to M 23between these two years. Even large nominal rises in recurrent allocationsover the last two years have not restored per capita expenditures to theirlevel of six years ago.
49. Ninety-five percent of public education expenditures are forsalaries and wages (mostly for primary and secondary levels), andsubventions to the National University (NUL). Government recurrent outlaysper student vary enormously from one level of education to another. Thistendency is further accentuated in Lesotho, where parents' payments andother private donations defray a substantial proportion of the total costof primary and secondary education, while virtually all of university
- 24 -
students' expenses are covered by the government. As a result, publicexpenditure per student in 1986/87 amounted to M 7992 at NUL, M 338 forsecondary students and M 53 at the primary level. Per student outlays atNUL have been more than five times greater than at NTTC.
50. While non-government funding of university education in Lesotho issmall, a substantial portion of expenditures for p:imary, secondary, andtechnical-vocational education is financed from non-government sources.Various church denominations own and operate virtually all of the primaryand secondary schools in the country. The government pays most teachers'salaries, while private contributions (from overseas and the localcommunity, including school fees) cover the remaining costs of buildingconstruction and maintenance, some teachers's salaries, books and writingmaterials, school uniforms, etc. On average, secondary school students(including both day and boarding pupils) paid fees of M 220 in 1987 andprimary students paid M 20, implying collections totalling M 15 million.This is equivalent to about one-third of recurrent expenditures foreducation in 1986/87, or about half of the M 29.4 million in publicspending for primary and secondary education.
51. Cost recovery. Apart from school fees at the primary andsecondary level, direct cost recovery in education in Lesotho is verymodest, amounting to about M 1.3 million in 1986/87, or 3 percent ofgovernment expenditures for education. These come from four sourcessprimary exam fees, student fees at Lerotholi Polytechnic, the secondarytuition levy, and student fees at NTTC. Not included are universitystudent loan payments, since 97 percent of such borrowers are in arrears.
52. Objectives/Strategies. The government's principal objectives foreducation during the coming plan period continue to be expansion of accessand gearing education to the economy's overall developmental needs. Whileas long-run goals these objectives continue to be important, theappropriateness of expanding access to education needs to be reviewed.Examination results in recent years have been poor and are declining, andhigh drop-out and repetition rates mean that an average of 15 pupil-yearsare required for one Masotho child to complete the seven-year primarycycle. Thus improving the quality of primary education would appear atthis stage to be a more pressing goal. Given that 85 percent of Lesotho'sprimary school age children are already enrolled in school, broader accesswould be more important at the secondary level, where pupil:teacher ratios(21:l) are unnecessarily low. Secondary education should also bereoriented over time, to prepare better-qualified graduates for thetechnical professions where serious manpower shortages persist, byemphasizing math and sciences. A range of ongoing and planned activities(science lab construction and equipping, special math/science courses) areconsistent with this. In order to help guide development of training andeducation programs to coincide with future manpower requirements, thegovernment may also wish to set up a labor market information system and amechanism for carrying out flexible national manpower planning.
53. The average annual capital budget allocation in government'soriginal 4th Plan public investment program (H 28 million) exceeds MOE'simplementation capacity. Rather, a core investment expenditure program foreducation of about M 15-20 million a year would be a feasible and desirable
- 25 -
level, especially if it is concentrated in the priority areas of primaryeducation, teacher training, secondary curriculum development andtechnical/vocational education (TVE). However, education's proposedcapital program for the coming years can be broken down as followstprimary (16 percent), secondary (14 percent), teacher training(19 percent), TVE (8 percent), NUL (21 percent), the inspectorate(9 percent), and MOE administration (12 percent). Given the need for majorefforts at quality improvements, the share of capital resources allocatedto primary education appears inadequate, while proposed funding for NUL andadministration is too high. While teacher training deserves a highpriority, proposed capital development of NTTC is not accompanied byplanned expansion of enrollment. Thus we recommend that the share ofcapital resources allocated to primary education (classroom constructionand furnishing, provision of books and teaching materials) be significantlyincreased, and that a least-cost expansion plan for teacher training alsobe supported. Correspondingly, capital expenditures for the universityshould be trimmed to the minimum possible, consistent with expandedenrollments and quality improvements in existing academic programs (withoutincreasing faculty size). New capital projects for MOE administrationshould also be delayed or removed to permit more support for improvementsin primary, secondary, and TVE programs. The core expenditure program ofM 15-20 million a year should allocate at least 60 percent to primaryeducation and teacher training.
54. The slippage in education's share of total recurrent public budgetand the continuing decline in quality of education and increasing shortagesof teachers and instructional materials underscore the need to increase thelevel of recurrent expenditure for the sector. As set forth in Table 5,education's share of public outlays should be raised to about 20-22percent. More detailed analysis is required to estimate total recurrentneeds, e.g., adequate numbers of primary teachers, suitable compensationfor teachers, sufficient teaching aids and books, etc.
55. Enhanced cost-effectiveness should be vigorously pursued,especially: (a) in primary education, where increased outlays for more,better-trained teachers with access to improved physical facilities andinstructional materials and following a standard exam .ystem, would lowerthe unit cost of graduating primary pupils, by reducing current rates ofdrop-out and repetition in the schools; (b) in secondary education, whereraising the pupil:teacher ratio to 25:1 would permit about a 20 percentincrease in enrollments (government could consider promoting use of newlyvacated classrooms in secondary schools to teach over-age primarystudents); (c) through withdrawing a part of the governments's financialsupport to secondary schools that refuse to comply with the new minimumstandards; and (d) at NUL, where a number of measures should be adopted,including increasing average class size, adjusting faculty workloads,phasing out marginal academic departments, and reducing non-academic staffand other expenses. Both secondary schools and NUL should be offeredreasonable incentives to implement such cost-effectiveness measures. Theseincentives should include higher teacher salary levels in secondaryschools, and redeployment of some NUL savings to fund priority academicprograms and research opportunities. Regarding NUL specifically, we notethat a government commission was set up in mid-1988 to review thegovernment's objectives for the university in the context of its resource
- 26 -
limitations. Government should encourage the commission to report on atimely basis.
56. Lesotho's arrangements for cost recovery in education containserious inequities (e.g., nearly a quarter of the recurrent budget paystuition of only 1,000 university students; the assistance is not needs-based). It also results in inefficient decisions in the students' study,since private costs of education are much lower than the true social costs.The government's primary efforts should be to prepare and implement aphased program to charge fees at NUL to cover an increasing share of thecost of tuition, room, and board. This should be complemented by theestablishment of a well-administered student loan and recovery scheme andselective scholarships for needy students. A full discussion of these andother recommendations to increase the cost-effectiveness of highereducation in Lesotho are contained in a 1985 World Bank report.1 Theuniversity review commission should include cost-effectiveness and cost-recovery issues in its consideration of needed policy changes. Thegovernment should also explore other areas for increased cost recovery,consistent with families' ability to pay. For example, a small increase inthe secondary school levy of about 10 percent (between H 25 and M 50) wouldgenerate more than a million maloti, an amount equal to 12 percent of thecurrent secondary school teacher salary bill.
57. As in other areas of the government, Lesotho's system for sectorplanning in education and training continues to suffer some importantshortcomings, including limited capacity to appraise capital investments,determine the recurrent cost implications of capital outlays, judge theadequacy of allocations for operation and maintenance, and make projectionsof recurrent expenditures. Government needs to strengthen its educationplanning capability to carry out these tasks and adopt a comprehensivemethodology for financial analysis of the sector which can integratecapital and recurrent projections and embody key policy changes. It wouldbe useful for HOE to maintain and publish regularly a set of educationfinance statistics. The ministry should also prepare on a regular basis aseries of education finance policy papers which could then be discussed bya high level MOE policy committee chaired by the principal secretary orminister.
1/ Financing the costs of Higher Education in Lesotho, 5088-LSO, January1985.
- 27 -
Chapter III: Development Priorities in Infrastructure
58. Infrastructure investment in Lesotho is an expensive proposition,given the country's mountainous terrain, that most of the populationcontinue to live in rural areas and given that virtually allinfrastructural sectors require increased attention. For the immediatefuture government and donors should place heavy emphasis on maintenance ofexisting infrastructure rather than focusing solely on constructing newfacilities, roads, etc. Given Lesotho's resource constraints, thegovernment's emphasis has to be placed on getting the most out of theresources which are available to these sectors. Thus future investmentdecisions must reflect analysis of developmental impact, economic returnsand the priorities amongst allocational choices. Investment decisions needto be supported by policy environments which promote efficient use ofavailable resources, in which appropriate levels of cost recovery arereached and which reduce the long-run financial burden of the publicsector. Emphasis must as well be placed on improving the operations andmanagement of the public enterprises in the infrastructure sectors.
59. The following sections treat housing and urban development, waterand sanitation, transport, power and Highlands Water from this perspective.An area not receiving separate coverage, but where further investment willbe important to spur increased export opportunities, given requirements ofthe LHWS and for other developmental concerns, is the telecommunicationssector. As in the case of the other infrastructure public enterprises,government should ensure that the Lesotho Telecommunications Corporation's(LTC) management and pricing policies cover operations and maintenancecosts and move toward full coverage of the corporation's debt serviceobligations without government subsidy.
A. Housing and Urban Development
60. Urbanization. Lesotho's urban population growth has averagednearly 10 percent per annum over the past decade. As a result, the urbanpopulation has nearly doubled just since 1982 and currently representsabout 15 percent of the national population. There are 12 centers inLesotho that are classified as towns; 4aseru, with a population of 135,000,comprises almost 60 percent of the total urban population, with the nextlargest town estimated at about 20,000. Urban population growth ispr'marily centered in Maseru's peri-urban areas where the rate of increasehas approached 16 percent in recent years. High urban growth rates areprojected to continue given the economic attractiveness of the wage sectoras compared to the rural sector. The trend towards concentration ofpopulation in Maseru is expected to continue as well. Consequently, by theyear 2000, the urban population will comprise over 30 percent of totalnational population. While demand for urban services and housing willrequire increased public investment in the coming years, over the long rungovernment's role and financial burden must be reduced. In the near term,government must also make the necessary policy changes to increase costrecovery and promote rational land use and the required private sectorinvestment.
- 28 -
61. Housina. The demand for new urban housing construction in Lesothohas been averaging about 5,000 new units per year. Of this, the publicsector has produced 40 new units through the Lesotho Housing Corporation(LHC) over the past six years and 2,400 new and upgraded plots through theLesotho Lower Income Housing Company (LEHCOOP) over the same period.Because there are no private housing developers in the country who carryout sites and servicing activities, in Maseru this has meant substantialunplanned growth of the peri-urban areas surrounding the city. Householdslocating in these areas generally live in substandard housing withoutadequate services.
62. One of the key problems in the past has been the inability ofpublic agencies to acquire suitable parcels of land for large-scale housingdevelopment. Despite the existence of the Land Act of 1979 and otherlegislation designed to establish property rights in urban areas and togive the central and local governments the rights of land assembly andacquisition, chiefs have continued to allocate urban land in the rapidly-growing peri-urban areas. The result is an urban land use pattern that isunplanned, that increases the cost of supplying basic infrastructuralservices and in which population densities are too low. In addition,traditional tenure instruments do not permit application of property rates(taxes). Government basically recognizes this dilemma and has been takingsteps which may address problems with the Land Act. In 1987, thegovernment formed a Land Policy Review Commission and since early 1988 hasbeen reviewing its report. Government's decisions, based on the commissionreport, need to include creation of systems to provide secure titles,collect annual property rates and stimulate an urban land market by anefficient system of monitoring and control over dealings in land.Essentially, government must recognize and legitimize the land transactionswhich are already taking place. In addition to legislative changes whichmay be recommended, renewed determination by central and local governmentto undertake and enforce their responsibilities for urban land allocationand monitoring is needed to solve this problem.
63. In addition to dealing with land issues, government's objectiveover the coming years in this sector is to provide a better policy andinstitutional framework for housing development. Government plans toprovide about 6,000 (or 20 percent) of the 30,000 housing sites requiredover the Fourth Plan period. Priority is to be given to lower-incomehousing for which the objective is to build 700 units per year. Tofacilitate this, LHC and LEHCOOP have recently been merged into the LesothoHousing and Land Development Corporation (LHLDC), which will be theresponsible agency for servicing and marketing residential plots.Prospective residents would be expected to purchase the serviced land andcould borrow from the Lesotho Building Finance Corporation to finance theplots and building costs. Actual housing construction would be arranged bythe purchasers.
64. Driven by normal housing demand and the increased economicactivity from the Lesotho Highlands Water scheme, government has begun totake steps to rationalize the sector. The LHLDC is beginning operations,and through the IDA-supported second urban project, assistance from CIDAand possibly other local and regional sources, it will soon begin landdevelopment programs. Although government will not meet its imbitious
- 29 -
target of 6,000 housing units and plots over the plan period, sinceprojects currently in the pipeline account for only about 40 percent ofthat target, the steps which are now being taken are instituting a systemwhich will allow government to reduce its reliance on foreign-fundedprojects to supply modern housing. Once LHLDC is established as a viableinstitution, as is being assisted under Urban I1, it should be able to takeadvantage of the high level of liquidity within the banking system byborrowing short-term money from commercial banks for its sites andservicing activities. In addition, land acquisition problems are beingaddressed through a strengthened Maseru Municipal Council (MC) and itsland banking program.
65. Cost recovery performance in the housing sector has been poor.For rental housing, rents have not been raised frequently enough to aupportmaintenance expenditures adequately. This has resulted in losses onoperations in recent years on LHC-owned houses and a continuing requirementfor subsidies on government's pool housing. Serviced plots and housingloans have generally been priced to recover appropriate development costs,but low levels of production and poor collection performance have failed togenerate the revenues necessary to support further development activities,without additional government intervention. However, by moving away fromprovision of new pool housing for civil servants, limiting new rentalhousing projects, and focusing on provision of serviced plots and housesfor sale, the government will limit its requirements for maintenance andother recurrent expenditures, and thus eliminate most direct subsidies tothe housing sector. Housing for sale is expected to continue to be pricedat market value, thus allowing full recovery of development costs. SinceFY87 a process has been established for regular increases (which weresporadic in the past) of rents on LHC-owned rental units which shouldbetter permit a satisfactory level of maintenance to occur. Finally,LBFC's interest rates are expected to be set in accordance with marketconditions and at levels sufficient for the corporation to operateprofitably. Some assistance, however, will be required by the newly-formedLHLDC; government will need to take over the foreign exchange risk of LHC'sloan repayment obligations to CDC, since the initial income of LHLDC willnot be sufficient to cover repayment obligations fully.
66. Government-owned houses number about 2,300 and are occupied byless than 10 percent of civil servants. Government plans no major newcapital investments in government pool housing. However, maintenance ofexisting units is a problem. As rents collected currently range fromM 2 - 42 per month, direct recovery of maintenance costs stands at lessthan 5 percent. In addition, civil servants who do have access togovernment housing generally pay about 3 percent of their salaries in rentcompared to about 10 percent paid by those in privately-heldaccommodations. Particularly for government employees living in Maseru,this raises serious equity problems. Maintenance funds for government poolhousing were substantially increased (bv more than eleven-fold) to aboutM 3.8 million during 1987/88 to address past inadequacies. To ensure thatmaintenance on pool housing remains adequate and that access to poolhousing does not create or perpetuate inequities, government should bringrents on government pool housing into line with LHLDC housing.
- 30 -
67. Urban goverrament. In recent years several new laws have beenenacted dealing with the urban sector, including the Valuation and RatingAct (1980) and the Urban Government Act (1983). Under these laws,establishment of the MHC, which will have the responsibility to supplylocal services supported by locally raised revenues, has recently occurred,and valuation assessments of properties will be undertaken on a moreregular basis. During the Fourth Plan period, a National Settlement Policyfor urban areas is expected to be drafted, which would establish a strategyand hierarchy for investments in urban areas. Government also intends toprepare and implement the Maseru Master Plan as well as similar plans forother towns. Beginning in 1989, the MMC will undertake its firstsignificant capital investments with support from IDA. Buildings,equipment and vehicles will be provided, and investments for upgrading theMaseru South area and road works will be undertaken. Total capitalexpenditures planned for Maseru through the end of the Fourth Plan amountto about M 18.6 million. For other urban areas, an annual investmentprogram of M 1.5 million for urban/district development projects willcontinue to be required.
68. Urban revenues. The recurrent expenditures of the Ministry ofInterior, which have been required to maintain the Maseru Township Office(MTO), have represented a drain on the government budget. For urbaninfrastructure and services, property rates and other revenues have beeninsufficient to support local services without government subsidies andhave not provided for new capital investment. Difficulties in updating thetax roll and valuations, coupled with poor collections performance, alsocontributed to the low level of revenues. Since locally generated revenuesreverted to the central government, there was no direct link betweenrevenues raised and budgetary allocations. Consequently, there has in thepast been little incentive for MTO to perform effectively, eitherfinancially or in the delivery of services. Budgets have been regularlyoverspent as a result. A similar situation exists in other urban areas aswell. Also since the budgets have been determined annually by the centralgovernment, the MTO and other urban authorities could not effectively planor ensure continuity of maintenance programs. Now that the MMC has beenestablished (replacing the MTO), direct powers to raise and retain revenueshave been provided, and expenditures will be incurred on the basis ofrevenue availability and local priorities determined by MMC. In addition,government has also initiated a process of periodic property assessments(every three years), updating the tax roll, better follow-up procedures forcollections, and increased charges for local services. As a result,collections of rates have risen from about 54 percent of amounts due duringFY85 and FY86 to about 96 percent during FY87. With these changes, overthe long run NMC is expected to reduce its dependence on central governmentsubsidies. For the first five years of MMC's operation, an annualsubvention of M 1 million will be required to raise service levels toacceptable standards.
69. Virtually all the capital investment projects for urban andhousing have funding already arranged either from domestic or foreignsources. Particularly as these projects will contribute to a strongerrevenue base and housing/urban policy framework, these projects should beconsidered as part of the government's core program. The only projectswhich rely on direct government funding are the district development
- 31 -
projects in other urban areas amounting to about M 1.5 million per year(representing less than 1 percent of government's capital investmentprogram for FY87/88) and the Mobote site and oervices scheme for whichfunding from government has not yet been forthcoming. The Mobote schemewill come under MMC's responsibilities. Given the past housing shortageand the growing demand for new urban housing, government should seekforeign or local loans to finance this scheme, since the M 50 millionrequired is too large to be supported directly from government savings, MMCrevenues or from LHLDC's revolving accounts.
B. Water and Sanitation
70. Objectives/Strategy. Government's principal objective in thrwater and sanitation sector is to provide a safe and reliable basic serviceto the population. This had led to an increasing emphasis on realistic,achievable plans to provide affordable services. Since 1981. planning inthe water and sanitation sector has been coordinated by the NationalSteering Committee, which developed the ̂ Sector Plan for Drinking WaterSupply and Sanitation.* The plan is consistent with the objectives of theUnited Nations International Drinking Water Supply and Sanitation Decade toprovide water and sanitation services to the entire population. It is,however, not sufficiently comprehensive to serve as a Master Plan for thesector. A Water Master Plan would provide a better basis for planning foreffective and efficient use of the country's water resources and forintegrating development plans of a range of sectors into specific plans forthis sector. Preparing such a plan should thus be a priority forgovernment.
71. Organization. Three ministries are involved in the supply ofwater and sanitation. The Ministry of Interior is responsible for ruralwater supplies and urban sanitation; the Ministry of Health through itsEnvironmental Health Section is responsible for rural sanitation; and theWater, Energy and Mining Ministry's Water and Sewerage Branch isresponsible for water supply in the urban district centers and for publicwater-borne sewerage. Until recently there had been four institutions.The reduction in number is expected to reduce fragmentation ofresponsibility and overlap and to improve implementation of sectoralprograms. Close coordination is still required, though, between theremaining agencies.
72. The planned transformation of the Water Branch from a governmentdepartment to a public corporation, to be operated on a commercial basiswith the goal of full cost recovery, has the stated aim of improvingfinancial viability and autonomy while reducing the need for governmentsubvention. The "Transformation Study' recently undertaken, however,indicates that at a level of charges likely to be achieved, a publiccorporation for water supply and sanitation would not be financially viableuntil at least the year 2000. Until that time government subsidy wouldcontinue to be required. Government thus needs to reconsider whetherestablishment of the Water Board at this time would make the most efficientuse of financial and manpower resources in the Lesotho economy. If plansto transform the utility are maintained, government and the Water Board
- 32 -
will need to agree on criteria and specific timetables for reform of tariffstructures and reduction of subsidies. Prior to transformation as well,government must ensure that the organization structures and key personnelof the Water Board are in place and sufficient for the new corporation.Government has recently received technical assistance from AfDB for thispurpose.
73. Experditures. As of 1985, about 65 percent of the urbanpopulation and 31 percent of the rural population were served with adequatepotable water. The equivalent ratios for sanitation services were22 percent and 15 percent for urban and rural, respectively. Government'sgoals for the 4th Plan period are to provide water coverage for 100 percentof the urban population and 60 percent of the rural population. Sanitationcoverage is to increase as well to 80 percent for urban and to 38 percentfor rural areas by the end of the period. These goals are overlyambitious. For the period 1986-1990, the Water Branch has plans forcapital expenditures totalling M 134.5 million. Of this total, M 58.8million has been committed and the remainder, M 45.7 million, is now beingsought. Before borrowing this remaining sum, hiwever, the Water Branch andthe central ministries need to determine the relative priority of theadditional construction and ensure that needed manpower and recurrentresources would be available. Any new borrowings would be in addition tothe sector's indicative capital allocation shown in Table 5 of this report.
74. Recurrent expenditure requirements for the period 1986 to 1990 hasbeen estimated to be M 18.5 million, or an average of M 3.7 million peryear. Actual expenditures in previous years have been less than half thatamount. This has created a situation where maintenance has been deferredfor extended periods, thus contributing to accelerated deterioration ofassets and increasing costs in future years. This situation could beimproved if water charges were set at more appropriate rates. Currently,only a fraction of operating expenditure is covered through internallygenerated revenues, with the result that the operating deficit accumulatedfrom about M 0.5 million in 1982/1983 to over M 5.6 million in 1986/1987.
75. An appropriate tariff structure and level of charges would coverfully operations and maintenance and, to an increasing degree, contributeto debt service coverage and depreciation. A tariff increase announced inmid-1988 represents a welcome first step in this direction but will notgenerate significant new revenues. If further tariff adjustments werecoupled with aggressive billing and collection and other efforts topinpoint waste and reduce costs, this would improve financial performanceof the utility. As indicated in the Water Branch Transformation Study,tariffs on water currently cover only 40 percent of total costs whilerecovery for sanitation is 30 percent. In adjusting tariffs, there appearsto be room for substantial maneuver in tariffs charged non-domesticconsumers. As part of the reforms to be adopted under the PFP, governmenthas already determined to begin to adjust tariffs for these consumers.
76. Finally, there is a general shortfall of skilled and experiencedmanpower in Lesotho. As with other infrastructure sectors this is due inlarge part to the higher remuneration levels available at the LesothoHighlands Development Authority, in the private sector and in South Africa.As shortages of local engineers will be a chronic problem over the coming
33 -
years, government should make special efforts to attract donor assistancein related training programs, and no borrowings in the sector should beundertaken without the inclusion of substantial amounts of training. Inaddition, in the short and intermediate term, Lesotho will continue torequire substantial amounts of technical assistance to carry out sectordevelopment programs.
C. Transport
77. Lesotho's transport sector objectives and expenditures in recentyears have emphasized the roads and air transport subsectors. For roads,government objectives are to connect Maseru with the outlying districtheadquarters and to expand the secondary and feeder networks, using pavedroads in most itances. The Fourth Plan recognizes that road maintenancerepresents a icularly pressing problem. Government policy is also touse labor-based construction techniques and domestically availablematerials wherever possible. Objectives for the air transport sector havebeen to improve access to countries beyond South Africa and to isolatedrural areas within Lesotho, directing expenditures to both improvedinfrastructure and equipment.
78. Total actual capital expenditure on the transport sector for theperiod FY84-87 averaged M 45 million per year, which represented about55 percent of government's total capital expenditure. Of the sectoraltotal, about 62 percent was spent on roads and the remainder on airportsand airfields. As construction of the new international airport has beencompleted, at a cost of over M 45 million, future transport expenditureswill focus even more on the road network. Given Lesotho's mountain terrainand the resulting high unit costs for road construction, however, roadconstruction will continue to comprise a major share of total governmentexpenditure. Capital expenditures on roads have averaged just under M 30million over the past several years, most of which (92 percent) have beendirected to the classified road network. Only about 7 percent of totalexpenditures has been for roads built or upgraded by the Labor-IntensiveConstruction Unit; the remainder has been expended on road constructionunder rural development programs.
79. To raise the cost-effectiveness of future government expenditureson roads, an improved planning capability is greatly needed. This isreflected in the lack of prioritization of road construction activitiesunderlying the Fourth Plan investment program. A priority for governmentand for technical assistance from donors should be to establish a technicalplanning unit, serving all the major infrastructure ministries, with themandate and the requisite technical expertise to propose sector strategies,analyze and review project proposals and train qualified local staff inproject analysis.
80. To build a basis for improved planning, government, with thesupport of donors, needs to update the national transport plan, which wasfirst drafted in 1974 and last updated in 1980. The priorities set forthin the update should reflect development priorities in other sectors andshould thus receive input from the recommended technical planning unit, the
- 34 -
Ministry of Planning and other ministries. It should also be discussed andagreed by the Council of Ministers and later used as the basis of donorcoordination in the sector. It is our understanding that the governmentand AfDB will work together on such an update.
81. The update to the national transport plan needs to focus first on }the problem of maintaining the existing stock of roads. Assessing the needfor maintenance expenditures, however, is a problem in Lesotho. Whilemaintenance expenditures fell in real terms from FY84 to FY86 by about13 percent, before regaining previous levels in FY88, there is littlehistorical unit cost data to assess the adequacy of past levels ofmaintenance expenditures. Rough estimates indicate the need for M 17-18million annually in order to carry out all routine and periodic activitieson the existing stock of roads, but more detailed analysis is nee,;d inthis respect. It would also be important to take into account the effectof increased traffic due to LHWS construction on roads maintained by theRoads Branch. Year-to-year fluctuations of the budget allocation for road,maintenance should be avoided as fluctuations tend to reduce thedevelopment impact of overall expenditures. Government should also focuson increasing the low productivity levels of Roads Branch maintenanceactivities. Productivity and the cost-effectiveness of maintenanceallocations could be increased substantially if government were toinstitute incentives systems for mechanics and operators based on equipmentavailability rates. Currently, there are no incentives for mechanics oroperators to carry out preventive maintenance on government equipment.
82. Recommendations in the transport plan update need to reflect notonly economic justifications and availability of government and donorresources, but also must take into account that recurrent resourceallocations for maintenance can only be expected to grow slowly in realterms for the foreseeable future. This will constrain the growth ofcapital expenditure on roads below levels that might otherwise be feasiblebased solely on the availability of investment funds. Government anddonors must refrain from building or upgrading roads which could not beadequately maintained given this resource picture.
83. Most of the projects government plans to undertake during theFourth Plan period are for upgrading existing roads to paved standard.While some of government's suggested road projects have been the subject offeasibility studies, a number of these studies were completed in the late1970s and are thus outdated. To ensure that road construction to highstandards remains justified, traffic projections need to be re-estimatedand economic justifications, particularly regarding agriculturalproduction, should be reassessed. The recommended technical planning unitwould have this as one of its principal responsibilities. As an input tothis process, the Ministry of Works, perhaps in conjunction with theUniversity, should institute a series of studies to assess the impact ofdifferent design standards on traffic and economic activity levels forroads constructed and upgraded over the past decade.
84. The integration of Lesotho's existing road network and theadditional access roads to be built as part of the Highlands Water schemehas to date received inadequate attention. The updated transport planshould incorporate those roads now planned and being constructed under LHWS
- 35 -
but which were not contemplated when the transport plan was prepared. Forexample, the new plan should reevaluate the number of road projectscentered on Mokhotlong. Given that financing has already been arranged forthe Oxbow-Mokhotlong road and that LHWS access roads may also serve thisarea, consideration could be given to constructir.g the suggested Taung-Mokhotlong-Sani Pass road on a more direct route to encourage trade,tourism and greater east-west traffic between Maseru and the easternborder.
85, Air Transport. Aircraft acquisition is a costly and long-termundertaking for which there should be considerable planning. However, nolanding rights in foreign countries had been secured and little analysis ofpotential passenger or cargo air traffic was undertaken prior togovernment's recent purchase of a Boeing 707 for Lesotho Airways. Theairplane cost about M 8 million to purchase, refurbish, and install noisereduction equipment. 'While actual operating costs would vary depending onusage and maintenance needs, government at one point estimated that runningcosts (including liability and other insurance) could total as much as M 30million annually with receipts from passenger and cargo trafficoptimistically estimated around M 20 million. World Bank estimates suggestthat flight hours and load factors required for break-even greatly exceedreasonable assumptions. As Lesotho Airways will not be able to cover anydeficit caused by the aircraft's operations, this responsibility will fallto the government. A M 10 million deficit would represent an increment tothe recurrent budget of four percent. Government cannot afford to raiseits budgetary deficit by this amount and, as this does not represent apriority expenditure, should not undertake compensatory cuts in otherspending. Rather the government should cut its losses and seek either tolease or sell the aircraft to avoid a continuing resource drain.
86. For similar reasons, government should reconsider plans forfurther major capital expenditures on the new international airport.Included in the original draft of the Fourth Plan public investment programwere several projects, totalling around M 65 million, to extend the runwayto allow wide-bodied aircraft to land, to expand the airport's apron andfor other facilities. Financing for such activities should only be soughton a grant basis and. even on this basis care should be taken to considerrelated opportunity costs and long term maintenance and recurrent budgetImplications. Government should also review its rural airfield program.Given the amount of projected traffic, expenditures totalling almostM 20 million over the 4th Plan period seem questionable.
D. Power
87. In recent years the government has established ambitiousobjectives for the power sector: to extend power supply to secondary urbancenters and rural areas in Lesotho and to reduce the dependence on SouthAfrica for electricity supply through the development of Lesotho'shydropower generation capabilities. In pursuit of these objectives, powersector expenditures through the government budget have already risen fromabout M 3 million in 1983184 to around M 30 million at present, and as aconsequence, Lesotho's power sector investment program accounts for about10 percent of total government investment. In future years public
- 36 -
expenditures for power will expand further given government's plans toconstruct hydropower generation facilities as part of the Lesotho HighlandsWater Scheme and the need for transmission and distribution investments tomeet power demand growth. So that government is not burdened withservicing financing costs of power sector expansion, government and theLesotho Electricity Corporation (LEC) should begin immediately to address arange of sector issues. In particular, the efficiency of power sectorinvestments and operations should be greatly improved, and electricitytariff policies should be reviewed and, where appropriate, changed.
88. LHWS Hydropower. In March 1988, government and donors agreed onthe configuration of the hydropower generation facility to be designed forthe LHWS. The facility would be located un-derground along the Nqoe riverin northern Lesotho. It would house three generation units to produce anominal total 70 MW. The project is expected to be economic at an 8percent discount rate. Total costs are presently estimated atapproximately M 580 million (including price contingencies, technicalassistance, other expenses). Once constructed, the Lesotho HighlandsDevelopment Authority would operate the hydropower facilities, selling thepower to LEC at a price that covers LHDA's operations, maintenance andreplacement costs, but does not exceed the prevailing cost of importedpower from ESKOM. As in the case of power purchased from ESKOM, LEC wouldresell the electricity to its customers through its transmission anddistribution network.
89. Construction of hydropower generation facilities according to theaccepted configuration will require a wider diameter water tunnel than thatneeded for the water trensfer only. This and other "common" elements andf.acilities will entail greater construction costs than will be covered byplanned financing arrangements for the enclave water transfer projectconstruction. These costs would need to be borne by Lesotho. Thus thefinancing plan for the LHWS hydropower component, particularly thoseadvance elements where costs will be incurred in the early stages ofconstruction, has to be finalized prior to commencing construction of thewater transfer component (ie, within the next 12 months). Withoutassurance of this financing, contingency plans would have to be put intoplace which would ensure completion of water transfer constructionaccording to the schedule agreed between Lesotho and the RSA but stillallow addition of hydropower facilities at a later date. Lesotho shouldavoid this eventuality as it would increase substantially the costs ofhydropower construction. Assuming full funding is available for theadvance elements of hydropower construction, the hydropower generationfacilities are being designed to allow completion of construction at somelater date. Preferably, funding for all elements of hydropowerconstruction will be forthcoming when required to allow construction tooccur according to present plans. Construction costs would be minimized inthis way as well.
90. LEC Performance. LEC's financial and operational capabilitiesneed to be improved for the electricity authority to carry out its role inan economically efficient manner. In recent years LEC has required majorsubventions from government (totalling over M 2 million) to cover itsrecurrent costs and relies totally on government to cover its debt
- 37 -
servicing obligations. This represents a substantial subsidy to the smallproportion of the population who benefit from electricity as well as adrain on the government budget. Government policy should require LEC tocover the costs of its operations and investment program. Through acombination of efficiency improvements, tariff increases and an appropriateborrowing strategy, this should be possible.
91. Efficiency gains are possible through strengthening LEC'soperational performance. In this regard the World Bank's 1988 Power SectorReview recommends a number of specific steps which could be taken bygovernment and LEC. As reviewed in that report, LEC's technical losses andunaccounted consumption are high. LEC needs to continue giving highpriority to selective investments to improve technical performance levelsof its transmission network. Improvements in metering, billing andcollections operations are thus required to limit losses due to unaccountedconsumption. Government also needs to support LEC in efforts to reduce thelevel of accounts receivable which has also been growing in recent years.In addition, greater focus on maintenance would contribute to operationalefficiency grains, requiring greater expenditures on 0 & M than at present.To help put in place these improvements, government and LEC should considerengaging a small technical assistance team to staff technical, financialand management positions.
92. Under the LHW Engineering Project the government is carrying out aPower Sector Investment Planning and Tariff Study. The study will identifythe optimal power sector development program based on government'sobjectives to expand power supply into urban and rural areas, on arealistic assessment of Lesotho's financial and absorptive constraints andon economic returns to this investment. The study will also recommend anappropriate tariff structure based on the recommended development plan,taking into account the scope for efficiency improvements and its financialimpact. Tariff levels should be set to meet certain financial objectivesfor LEC, notably a minimum acceptable rate of return on revalued assets.The funds generated should be sufficient to service the debt and provide areasonable contribution to the power sector investment program. Aftertariff adjustments, there should be no government subvention orcontribution to LEC debt servicing. The tariff study will be completedduring 1988; even with possible efficiency gains, rough estimates indicatethat real tariff levels will have to be increased. In anticipation ofrecommendations to increase tariffs, to reduce the need for large increasesall at once, and to demonstrate improved financial performance prior todecisions on the part of government and donors to invest in large-scalehydropower facilities, LEC should increase present tariffs by 15 percent.
93. Minihydros. During the Third Plan period, the government and theLesotho Electricity Corporation (LEC) began construction of four smallhydropower generation facilities (minihydros) in remote areas of thecountry. The Semonkong minihydro will supply part day service to a localnetwork while the facility at Mantsonyane will connect to the national gridto help reduce LEC'S peak load imports from ESKOM as well as reduce thevoltage drop currently experienced on the Maseru-Mantsonyane transmissionline. Upon their completion during 1988, these two projects will have costM 22.8 million, financed mostly on grant terms. Construction of two otherminihydro facilities has begun at Tlokoeng and Qacha's Nek to serve local
- 38 -
isolated networks. Investment costs for these total M 27.5 million, abouta third of which was financed from foreign borrowings on comiercial terms.
94. Tariffs on electricity produced at these isolated minihydro plantshave not yet been established, though at current tariff levels rates ofreturn on these investments would be negative. With the exception ofMantsonyane, minihydro plants in general are difficult to justify oneconomic grounds. Only when compared with diesel generation alternativesdo rates of return approach a reasonable minimum level of 8 percent.Further development of minihydros is not recommended unless the investmentplanning study is able to recommend minihydros in its power sectordevelopment plan.
95. In the period 1988189 to 1992/93, LEC's presently proposedinvestments in transmission and distribution total about M 110 millionabove and beyond financing LHWS hydropower construction. Of thisinvestment figure, approximately M 60 million has yet to be committed tospecific LEC investment projects. These figures will be reviewedcritically in the investment planning study since there are indicationsthat proposed investments would earn a low economic rate of return.Finally, the estimate of future investment requirements does not includeany resources for development of hydropower generation facilities at Oxbowbeyond the ongoing feasibility studies. On a preliminary basis thesestudies indicate economic rates of return on this investment below thatwhich would be acceptable. In addition, government must weigh carefullys(1) the loss of water export potential, hence royalties, which might occurif the Oxbow facilities were built and operated; (2) the impact ofdiverting water away from the LHWS hydropower facilities; (3) the marketfor the power Oxbow would generate (LHWS and Oxbow together would generatepower in excess of domestic requirements); and (4) the feasibility ofattracting concessional finance for both schemes. The Oxbow scheme shouldnot be pursued until it can be demonstrated to have an acceptable economicrate of return in the context of the ongoing investment in the LHWS.
S. Highlands Water Prolect
96. On the basis of presently available estimates, total expendituresfor the Lesotho Highlands Water engineering and Phase 1A constructionphases could total approximately M 3.3 billion by project completion(around 1997). Under the LHW treaty between Lesotho and South Africa, theRSA has agreed to cover the costs of the water transfer component,including access roads and advance infrastructure, and the dams, tunnelsand other expenditures required for project construction and operation. Ingeneral, expenditures for the water transfer component of LHWS are anenclave operation which is being financed outside normal budgetaryprocesses and thus are not covered in this report. The LHWS impact on non-financial resources, though, is great, and these are covered in the othersections of this report.
97. There are immediate actions government departments other than LHDAmust undertake if Lesotho is to maximize the developmental benefits fromthe LHWS. These relate to strengthening of customs and immigration
- 39 -
personnel and systems at border crossing points; establishing an efficientcustoms system to record project-related and other imports into Lesotho;analysis of imports to permit identification of future SACU paymentsattributable to imports for water transfer construction, the hydropowercomponent and others; and construction of additional bridges and upgradingof border crossing facilities not covered under treaty provisions. Asnoted in the transport section of this report, there will also be anincreassd requirement for upgrading and maintenance of existing roads whichwill be affected by traffic resulting from the project. This will have tobe taken into account in setting budgetary and donor assistance priorities.
98. Correctly accounting for future imports will become increasinglyimportant to Lesotho as LHWS project construction comences. In the LHWStreaty, Lesotho and the RSA agreed that Lesotho would receive the SACUrevenues due on LHWS project-related imports. Part of these SACU paymentsare to be considered as 'advance' royalties, and it was agreed to reduceroyalties for actual water delivered by a certain percentage to reflectthese advance payments. If Lesotho's project-related imports are greaterthan anticipated in the treaty, Lesotho can still receive the SACU revenueson those goods without reducing royalty payments in later years. Todocument these flows appropriate data collection systems must exist atborder crossing points with central coupilation in Maseru. The first majorinflow of goods and services began in mid-1988 when access roadconstruction began. In the early years, increases in manpower for longeropening of the border crossing points will be minimal. However, trainingprograms and computer data collection systems need to be developed and putin place soon. Government should identify this as a priority activity fortechnical assistance from donors. The requirement for this technicalassistance program would be approximately M 400 thousand.
99. Replacing the existing bridge at the Butha-Buthe/Caledonspoortborder crossing is being borne by the RSA as part of the water transfercomponcont. In order to streamline project construction and relatedeconomic activities, however, the Lesotho government will need tocontribute to replacing other bridges and cover completely upgrading coststo existing border crossing facilities. Gover.anent particularly needs toreplace the existing bridges at Maputsoe/Ficksburg (sharing the costs withthe RSA equally) and upgrade border facilities at that crossing and atButha-Buthe as well. Consideration could also be given at some time toreplacing the brid8e and upgrading the border crossing at Maseru. TheLesotho contribution to these activities, which need to be undertakenbefore 1991, would be approximately M 3.3 million. There is an indicationthat the RSA may finance Lesotho's portion of the expenditures replacingthe Maputsoe bridge, possibly to be recovered from later water royaltypayments.
- 40 -
Chapter IVs Development Priorities in the Productive Sectors
A. Manufacturing/Industry
100. Manufacturing accounts for about 7 percent of GDP, employingapproximately 5,900 people (or about 9 percent of total formal sectoremployment). Value-added from manufacturing has grown significantly overthe last 20 years, averaging over 18 percent growth in real terms duringthis decade. The government has generally not undertaken industrialproduction through parastatals, nor does it impose significant regulationson economic activities. Private investment is the primary basis formanufacturing development in Lesotho. Most medium- and larger-scalemanufacturing establishments are owned by investors from the RSA. Thesehave generally been assisted by the Lesotho National DevelopmentCorporation (LNDC), the government's industrial development institution.
101. Obiectives/Strategies. Lesotho's industrial policy framework andpublic expenditures on industry are primarily comprised of (i) provision ofadequate infrastructure for industry, in particular development ofindustrial estates, (ii) provision of development finance and otherservices to foreign and local enterprises through LNDC and the BasothoEnterprises Development Corporation (BEDCO); and (iii) investmentIncentives such as tax holidays and training grants to attract foreigninvestors. These should continue to be the focus of government's policyand expenditure policies in the future, though government needs to reviewthe structure of its incentives and ensure that expenditures are cost-effective. In the future, government needs to focus greater attention onInvestment promotion and promoting exports both within the country'sprimary market, South Africa, and attracting investors from outside theregion as well as diversifying into other export markets. Attention alsoneeds to be given to the potential for investments in industries whichwould benefit as spinoffs from the Highlands Water scheme.
102. Public expenditure on industry in Lesotho is very small relativeto total government expenditure, accounting for about 2 percent of thetotal in the most recent five years. Capital expenditure for industryconsists of subventions to LNDC to assist in infrastructure development andonlending of donor finance for investment projects to be implemented byLNDC and BEDCO. Government needs to clarify the technical nature of theLNDC subvention as budget documenLts indicate that it is equity injectionwhile LNDC considers the transfer a grant. Half of the recurrentexpenditure budget for the Ministry of Trade and Industry (MTI) representssubventions to parastatals (BEDCO and the Lesotho Tourism Board) forgeneral revenue support. Wages for ministerial staff account for much ofthe remainder.
103. In past years LNDC has developed three fully-serviced industrialestates (in Maseru, Thetsane and Maputsoe), two of which (Maseru andMaputsoe) are now fully occupied. There are plans to enlarge the Maputsoeestate in the coming years to allow expansion of activities associated withthe Highlands Water scheme, and a new estate is planned for Leribe for thesame purpose. Government should also investigate whether establishment of
- 41 -
an industrial estate near Maseru's new international airport would beviable and could be linked to greater export of fresh and processed foodsand other products. In the future, government must improve planning andcoordination efforts between LNDC, other parastatals, and the central andline ministries to ensure that the availability of required infrastructureand other services (eg, water, power, telecommunications) will becoordinated with industrial development schemes. In *ddition, governmentmust ensure that rents charged by LNDC on factory shells recoup the costsof developing the industrial areas, thus reducing the need for futuregovernment subventions to LNDC. Over the past few years annual subventionsto government have averaged between M 1-2 million.
104. Incentives. Lesotho offers investment incentives to attractpotential investors from abroad, with an aim to spur industrial productionand expand employment within the country. Measures having majorimplications for the government budget are tax holidays and traininggrants. At present, 46 companies operate with tax-exempt status. Untilrecently, the government had granted a 6 year tax exemption to all newinvestors in medium-scale enterprises. To match tax holiday systemsoffered in the South African 'homelands', however, the government in 1987extended the maximum tax holiday from 6 to 10 years. It also now intendsto differentiate the length of tax holidays depending on the type ofinvestors. Clear-cut criteria for this differentiation have not yet beendefined, though those being discussed include export market diversity, theextent of local input use, and the length of time between start-up andprofitability.
105. Government should reconsider the recent changes to the tax holidayscheme. Studies of investment incentives in other countries indicate thattax exemptions, including tax holidays, are not the decisive factor ininvestment decision-making and may not be the most effective use ofavailable resources. Investors are generally more interested in thefundamental conditions of political and economic stability, availability ofinputs, non-discriminatory treatment, market access, and freedom fromburdensome controls, including receiving manufacturing licenses and workpermits expeditiously. While tax holidays can affect location decisionsmarginally, if all other factors are equal, benefits must be balancedagainst the associated cost of government revenue foregone. According to agovernment estimate, the extended tax holiday scheme would cost overM 1 million each year. Government should thus consider whether otherschemes (eg, enlarging training grants, short-term wage or other subsidies,etc.) might make better use of these resources.
106. Differentiating the length of tax holiday is even moreproblematic. Lesotho generally does not have the resources to matchincentives with South Africa. In addition to economizing on its fiscalresources, Lesotho should also limit demands on its administrativecapacity. Consequently, Lesotho's industrial incentives system should bebased on the principles of automaticity and transparency. Bargaining overindividual cases is time-consuming and, in the investors' eyes at least,could represent a further bureaucratic hurdle making investment in Lesothothat much less attractive. Experience in other countries suggests as wellthat monitoring compliance with agreed arrangements can overwhelm
- 42 -
*dministrative capacities. In addition, tax holidays will generally not beeffective in attracting new foreign investment unless 'tax-sparing'agreements are in effect between Lesotho and the investor's home country.Under these agreements the investor's home country would give credit fortaxes that would have been paid in Lesotho had no tax exemption been given.Without this agreement, the investor's home country could tax profits madein Lesotho.
107. Industrial incentives in Lesotho also include cash grants fortraining new and additional workers. These programs are generally viewedas cost-effective given the wage subsidy involved and manpower trainingaspects. Lesotho's program covers 75 percent of training costs and thewages of workers in training, thus ensuring that the enterprises also havea financial stake in the training costs. Since 1980, 18 companies havereceived the training grants totalling H 380 thousand disbursed, and about1,700 workers or one fourth of the present workforce in industry have beentrained. This program should continue to be supported by government anddonors.
108. Promotional Activities. Lesotho needs to reinforce its efforts atinvestment and trade promotion. To mobilize greater private sectorentrepreneurial activity and investment from domestic and foreign sources,an investment promotion units needs to be set up either in MTI or LNDC.The ministry would be an appropriate location for the unit as investmentpromotion is a legitimate government role and since potential investorsshould not necessarily be constrained to deal with LNDC unless financialassistance is required. In addition, to promote investment moreeffectively, government policies should allow investors direct access toindustrially-zoned land in urban areas, industrial incentives and otherrequired services also without having to go through LNDC. However, thegovernment argues that placing the unit in LNDC would be more feasible andeffective. In this case government and LNDC need to formulate anarrangement whereby LNDC is accountable to government for carrying outinvestment promotion and under which government reimburses LNDC for someexpenses or bases payments on an incentives system. The investmentpromotion unit should focus primarily at South African investors, thoughthere may be potential elsewhere as well, and develop tie-ups withconsulting and market research firms and Lesotho's main embassies to assistin this effort. Strengthening the government's export promotion functionis also an appropriate item for government expenditure and donor support.Future government work at trade promotion should focus on more activemarketing efforts. Experience in exporting particular products (eg, cannedasparagus, garments, tapestries and other handicrafts) illustrates thatmarkets for Lesotho's exports can be located through focused marketingefforts.
109. LHWS-related Activities. Government should continue to examinethe possibilities for promoting and assisting the establishment ofenterprises which might benefit from LHWS-related activities. Ofparticular importance could be plans to enlarge existing industrial estatesand perhaps create additional areas. Government as well needs to reviewthe possibilities for extending limited loan guarantee schemes andsupporting entrepreneurs through extension and supervision efforts.
- 43 -
Promotion of service enterprises (service stations, vehicle repair shops,etc.) also seems particularly feasible. In accord with past practices,government should ensure, however, that private investment continues to bethe basis for investment decisions as there are many uncertaintiesregarding whether local enterprises would be able to compete on aninternational competitive bidding basis for LHWS contracts.Government/LNDC should not be the sole investors in any enterprise. Itwould be beneficial for MTI, LNDC, LHDU, Planning, BEDCO, the Chamber ofCommerce and other private business groups to develop and discuss a sectorstrategy for taking advantage of LHWS-related activities. It will beimportant as well for LHDA and the other groups to meet regularlythroughout the construction period to coordinate plans and learn ofopportunities.
110. Industrial ProtectionlRegulation. To exploit LHWS-relatedopportunities the government has recently stated its intention to use itscommercial licensing system to reserve a wide range of industrial andservice enterprises for Basotho, prohibiting anticipated competition fromSouth African or other businesses. However, experience in many otherAfrican countries demonstrates that such protective regimes do not in theend give the desired results, but rather promote inefficient investment andproduction decisions. In place of imposing a restrictive system, thegovernment should explore other, more efficient means of promoting domesticenterprises which would ensure that local enterprises continue to benefitfrom working in a competitive environment and which also give preferencesto Basotho enterprises or to foreign-owned businesses employing largeproportions of Basotho labor. One means of accomplishing these objectiveswould be to give limited price preferences to those particular groups ofenterprises which are to be encouraged. In addition, other governmentprograms (eg, financial assistance, supervisory help, limited loanguarantees, etc.) could be fashioned to give preference to and thus promoteBasotho investment and employment.
B. Agriculture
ill. Introduction. Despite agriculture's small share of domesticoutput (20 percent of total value-added) the sector is of great importanceto the population and economy in that it provides at least part-timeemployment and contributes partially to the income of about 70 percent ofall Basotho households. Government's stated objectives for the sectorinclude promotion of increased agricultural production, income andemployment and growth with equity through assistance to the poorer segmentsof the rural population. Another objective is to attain food self-sufficiency, which would mean doubling total agricultural production. Thesector's ability, however, to achieve these goals is hampered by a numberof major constraints, including: (i) a poor natural resource base oflimited arable land (only 13 percent of the land is cultivable) and highlyerodible soils, complicated by a harsh environment; (ii) extensive soilerosion which itself is partly due to practices encouraged by theprevailing system of land tenure and the resulting overgrazing oflivestock; and (iii) poor returns to traditional agriculture relative toincome from other sources -- mainly wage income in the RSA mines and in the
- 44 -
domestic sector within Lesotho. Over the past several years the Bank hasreviewed government's policies and programs extensively (in the 1986Agriculture Sector Review and in the 1987 CEM). Thus this section will belimited to reviewing recent major initiatives by government.
112. Policy initiatives. Government's strategies to raise productionand productivity, strengthen institutions, reverse environmentaldegradation, and alter land tenure systems are articulated in a series ofpolicy papers recently issued by the Ministry of Agriculture and representsubstantial improvements to Lesotho's agricultural policy framework. Thesenew policies, which build on measures initiated in the early 19809, stressdevelopment of intensive crop and livestock production systems, provisionof marketing information and other support, and changes to land tenurepractices to achieve increased investment and production. Regarding thelatter point government has decided to prowote the increasingly prevalentinformal practice of land leasing, whereby traditional allottees ofagricultural land contract with other Basotho to farm the land in returnfor a payment or a share of the crops produced. This will give youngfarmers access to land and should encourage increased production offoodgrains and horticultural crops. Other elements of the policies includereorganization and strengthening of the Agriculture Ministry, discouragingtranshumance of cattle while encouraging more intensive livestock systemsand fodder production in the lowlands, and strengthened enforcement ofother management and grazing control regulations. Of major importance isthe decision by government to attempt a grazing fee scheme as an incentiveto destock the land and thus lessen the problems associated withovergrazing. Government intends to institute this scheme in late 1988,though implementation details remain to be worked out and institutionalcapacity put in place. Institution of the grazing fee is being supportedby a USAID Agriculture Policy Support Program grant.
113. In the government's policy papers, however, there were severalsuggested policy changes which government should reconsider. Of particularconcern are MOA's moves to reward greater production through subsidies tooutput prices for farmers producing higher yields than some government-setnorm. Vhile the motives behind these efforts are understandable, topromote increased agricultural production, administration of such a schemewould be extremely difficult. Agricultural pricing policy in Lesotho hasonly limited leeway to deviate from RSA prices. A 25 percent pricedifferential, as is being considered, could increase governmentexpenditures substantially without actually increasing overall productionif it promoted cross-border trade or other arrangements to take advantageof the subsidy. Instead, government policy should continue to rely onpresent pricing mechanisms which are based on regional market prices andwhich provide adequate incentives to raise agricultural yields.
114. As noted earlier, to reduce government expenditure, the governmentis considering a program to restructure and privatize Co-op Lesotho, apublic enterprise supplying agricultural inputs to farmers and whichreceives various government subsidies. Privatization in this case may meanselling stores to private traders or to co-op organizations in Lesotho withthe means to run the enterprises. It is recognized, however, thatgovernment subsidy in some form may continue to be necessary to ensure thatall areas of the country have access to agricultural input supplies. The
-45 -
USAID Policy Support Program and IFAD/World Bank activities are supportingthe restructuring and privatization objectives. In parallel to thiseffort, government should remove restr4ctions which currently prohibitprivate traders from competing with Co-op Lesotho in the supply of inputs.In addition, to receive the government fertilizer subsidy, farmerspresently must purchase fertilizer from Co-op Lesotho. To the extent thatgovernment fertilizer subsidies are maintained, farmers should have accessto them irrespective of where fertilizer is purchased.
115. The investment program. In addition to these policy initiatives,Lesotho's agricultural strategies are being fostered through a range ofprojects in land and water conservation, forestry, planning, research,crops, livestock, and range management. The USAID-supported LesothoAgricultural Production and Institutional Support project (LAPIS) is thelargest externally-financed program, encompassing production, extension,and planning components. Its and other government efforts to promoteincreased levels of horticultural crops with the assistance of small-scaleirrigation, extension and credit schemes could be particularly beneficialin diversifying the agricultural production base and providing increasedlabor-intensive employment opportunities.
116. While donors have focussed their assistance on labor-intensiveschemes, government's overriding priority of attaining food self-sufficiency has led increasingly toward larger-scale agricultural)roduction programs. One of the major public sector interventions inagriculture is the Food Self-Sufficiency Program (FSSP). This program wasdesigned to expand foodgrain production by providing selected farmers withtractor power for land preparation, inputs and extension services. FSSPcurrently covers 40-45,000 hectares and employs a significant proportion oftotal extension staff. Since its inception in 1981, FSSP has not increasedfoodgrain production as was anticipated; foodgrain production and yieldshave been stagnant in recent years, and the country continues to importover half of its grain requirements. The total cost of the program s'Lce1981 has been approximately M 50 million, which represents about 10 percentof the Ministry of Agriculture's budget. As originally set up the programconstituted almost a complete government production service with littlephysical or financial contribution on the part of the farmer. Recognizingthat little benefit was accruing to the country at great cost to thebudget, during the mid-1980s changes were made to increase financialparticipation by farmers and to reduce the subsidy element by requiringfarmers to obtain inputs through the use of agricultural credit and to payfor tractor hire. These changes have reduced the level of subsidysomewhat, though there still exists a major subsidy elements in the tractorservices component and for inputs. Government charges M 28 per acre forplowing and planting and M 20 per acre for discing. Private operators, whomust gain approval by the ministry, can offer tractor services, but only atthese government controlled prices. Based on prices charge by RSA andother regional tractor operators, a non-subsidized price would approximateM 45-50 per acre. Government has stated it3 intention to get out of thetractor hire business in the coming years due to the high cost ofadministration and maintenance. Government should also decontrol tractorhire prices to reduce the implicit subsidy so that private Basotho tractoroperators can cover operations costs and earn a reasonable return for theseservices.
- 46 -
117. The Bauer/Seaka Irrigation Project is a further example of themove by government toward larger-scale agricultural production programs.Financed by a foreign loan on non-concessional terms, this investment islarge, about V. 13.5 million, which, assuming the full 400 hectares underthe scheme are irrigated, averages to a total investment cost of aroundUS$16-17 thousand per hectare for the irrigation facilities and management.This appears somewhat high even by standards within Africa. The firstsignificant yields were produced as part of this project in early 1988;thus the net impact on agricultural production and yields remains to bemeasured. What has been seen, however, is that the Bauer farms have becomemarketing centers for the agricultural production from those farms as wellas potentially from smaller holdings in the surrounding areas.
118. For this project and particularly as government gets more involvedin small and larger-scale irrigation operations, government's policy onwater charges needs to be clarified. To limit the impact on the governmentbudget and to provide for equitable treatment among Basotho farmers, thosewho are benefitting from this government investment should pay a watercharge which is related to and covers operations, maintenance and capitalcosts of the facilities. This, essentially, would place the Basothofarmers on a par with producers in South Africa and would not require majorsubsidies from the government budget.
Annex Table 1Balance of Payments and Macro Projections
