Working Paper 176 - Medium-Term Sustainability of Fiscal Policy in Lesotho

Since the global financial and economic crisis, fiscal sustainability has increasingly become a topical issue for all countries. This is of particular concern to Lesotho given the permanent drop in the countries revenue receipts from the Southern African Customs Revenue(SACU) Pool which finances close to fifty percent of the country’s recurrent budget. Given this situation, access to concessional and non-concessional resources from the donor community remain critical for fiscal sustainability in the short to medium-term and even beyond. The objective of this paper is to understand whether the current trends in Lesotho’s fiscal policy is sustainable in the short to medium-term and in the event of shocks to key fiscal drivers such as growth, interest rates and concessional financing. The projections of the primary deficit path lead to the conclusion that Lesotho’s fiscal policy is unsustainable in the short-run. Drastic fiscal adjustment measures are needed to put fiscal policy on a sustainable path in the medium-term and beyond. Sustainability improves with higher growth, donor willingness to provide concessional funds and lower cost of concessional as well as non-concessional funds. This underlines the importance of improving the investment environment which accommodates faster growth and mobilization of both concessional as well as non-concessional resources. While attainment of steady state primary balance would be preferred, this would require a lot of fiscal adjustment effort which may not rhyme well given Lesotho’s political sensitivities and extreme poverty levels. It is, however, possible to gradually move towards the steady state primary balance by improving expenditure efficiency and rationalization as well as eliminating unproductive spending in addition to intensive resource mobilization including widening the tax base. The sustainable primary balance path towards the steady state under various scenarios is well discussed in the paper. Additionally, the paper underlines the need to take stock of the expected future expenditures, in particular, those related to pension and contingent liabilities which might increase the fiscal sustainability risk if not fully included in the primary balance.