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Real GDP growth declined to an estimated 1% in 2017, down from 1.3% in 2016. Sluggish growth was observed mainly in wholesale and retail trade, as well as financial services, where output was hindered by reduced government spending due to ongoing fiscal challenges. Although agricultural output buoyed by good weather conditions following the El Niño–induced drought of 2015, as was agro-processing, the sector contracted, dragged down by livestock production, which suffered heavy stock depletion following the drought. Manufacturing bounced back in 2017, driven mainly by investment in textiles. Construction activity contracted due to limited fiscal space, which hindered implementation of public projects in 2017.
Inflation was estimated at 7% in 2017 after peaking at 8% in 2016, largely reflecting the decline in food prices following adequate precipitation. To protect the currency peg to the South African rand, the Central Bank raised the discount rate by 25 basis points to 7.25% in January 2017. While the monetary stance has tightened, fiscal policy remains expansionary to boost economic activity. The budget balance swung into a deficit in 2014–15, which widened sharply to double digits in 2016 following a sharp decline in Southern African Customs Union (SACU) revenues and an upward adjustment of public-sector wages. The 2017 budget showed a slightly lower fiscal deficit, due mainly to a surge in SACU revenues. The deficit is financed through domestic borrowing, including Central Bank financing, and accumulation of domestic arrears, which threatens banking sector stability and potentially crowds out the private sector. Public debt, which rose rapidly in recent years to 19.3% of GDP in 2016, remains sustainable. Impacted by the prolonged expansionary fiscal stance, the current account deteriorated and international reserve coverage declined to 3.4 months of imports at the end of 2016.
Medium-term growth is projected to improve to about 2.5% in 2018. The recovery depends on a continued rebound in agricultural output and higher construction activity. Agricultural activity will be facilitated by completion of the Lower Usuthu Smallholder Irrigation Project and by an uptick in livestock production as farmers restock. The outlook for mining is positive, due to the rebound in international commodity prices and increased coal production following the renewal of a mining license. Manufacturing growth is expected to be boosted by increased food processing, reflecting higher sugar cane production and sustained expansion of the textile industry, which has successfully diversified to new markets, particularly South Africa, despite the loss of access to the U.S. market. Domestic growth is also likely to be driven by the sustained expansion of construction activity associated with the planned construction of infrastructure projects, such as the Lothair railway link.
Downside risks to the medium-term outlook remain elevated. The main risk stems from further tightening of budget financing due to the accumulation of domestic arrears, which could delay project implementation. Arrears could also lead to additional risks emanating from deteriorating banks’ asset quality. Lower export earnings on account of subdued demand for mineral exports, adverse weather conditions, and lower SACU revenues are other risks that need careful monitoring. These risks underline the importance of accelerating growth-enhancing reforms to boost private investment and put the country on a sustained growth path. The deteriorating fiscal position threatens macroeconomic and financial stability; the government needs to undertake durable fiscal adjustment efforts focusing on containing the public wage bill, prioritizing capital outlays, and boosting tax revenues.