INTERNATIONAL DEVELOPMENT ASSOCIATION INTERNATIONAL MONETARY FUND KINGDOM OF LESOTHO JOINT BANK-FUND DEBT SUSTAINABILITY ANALYSIS – 2018 UPDATE1 Prepared jointly by the staff of the International Development Association (IDA) and the International Monetary Fund (IMF) Approved by Paloma Anos-Casero (IDA) and Martin Sommer (IMF) Lesotho’s risk of external debt distress has been revised from “low” in the 2017 Article IV to “moderate,” reflecting weaker GDP growth projections, expanded debt coverage, larger deficits, and the inclusion of large contingent liabilities. The overall risk of debt distress is also assessed to be moderate. The moderate risk tool suggests some space to absorb shocks. The results of the DSA highlight the importance of addressing underfunding of the pension fund, preserving a cautious debt management strategy, and developing the domestic debt market. Fiscal consolidation, particularly addressing the high public-sector wage bill, are needed to reduce external imbalances and mitigate vulnerabilities. 1 This DSA updates the previous Joint DSA dated February 14, 2018 (IMF Country Report No. 18/54). This DSA applies the revised joint Bank-Fund Debt Sustainability Framework for Low-Income Countries. Under this framework, Lesotho’s debt carrying capacity re mains at medium based on the composite indicator consistent of the 2018 October WEO and the 2017 CPIA. 1 PUBLIC DEBT COVERAGE 1. Lesotho’s public debt data covers the central government, the central bank, and publicly-guaranteed debts for SOEs (Table 1). Debt coverage is similar to the previous DSA, but the tailored contingent liability shock captures the unaccounted subsectors of the public sector. Specifically, the contingent liability shock captures shortfalls of the pension fund, estimated to be between 10.3 and 20.7 percent of GDP2, and applies the default 2 percent GDP shocks to capture non-guaranteed SOE debt since comprehensive estimates of non-guaranteed SOE debt are not available. The contingent liability stress test also includes 5 percent of GDP for a financial market shock and 35 percent of the PPP capital stock, which is estimated to be 3.2 percent of GDP. External debt is defined based on currency-criterion as there is no foreign holdings of local-currency debt. Domestic arrears are included in the debt stock. Table 1. Lesotho: Coverage of Public Sector Debt and Design of the Contingent Liability Stress Test BACKGROUND 2. Lesotho’s total public debt increased to 38.8 percent of GDP in FY 2017/18 from 37.6 percent (Table 2).3 The increase was observed in both domestic and external borrowing and was partially offset by growth in nominal GDP and appreciation of the Rand. External debt continues to account for most of total debt (79.1 percent) and is largely owed to multilateral 2 These estimates are based on two valuations conducted by actuarial firms, with the larger gap calculated on a solvency basis, the smaller on a funding basis. 3 The fiscal year runs from April 1 to March 31. 2 creditors. Domestic debt grew from 4.5 to 8.2 percent of GDP in FY 2017/18 as authorities issued new bonds of M400 million and accumulated arrears of M700 million. The gradual increase in the share of domestic debt, by tapping into the large pool of assets held by the pension fund and insurance companies, is a goal of the authorities for the medium-term.4 ASSUMPTIONS 3. The macroeconomic framework is broadly in line with the previous DSA, though GDP growth is now slightly lower (Table 3). Real GDP growth for the medium term has been revised downwards from an average of 3.1 percent to 2.6 percent, reflecting delays in the second phase of the Lesotho Highlands Water Project (LHWP-II) and in implementing fiscal consolidation. Long run real GDP growth is revised downwards to around 3 percent, reflecting recent evidence of tighter domestic constraints and a more adverse external environment. Inflation projections are slightly higher at around 5.5 percent in line with monetary developments in South Africa. A primary fiscal deficit of 0.8 percent on average is expected for the medium term based on the consolidatory stance envisaged in the FY 2019/20 budget. Over the long run, fiscal deficit is now projected to average 0.4 percent of GDP as opposed to a 0.6 percent surplus in the previous DSA, reflecting higher capital expenditures. On the external sector, weaker export growth and the secular decline in remittances from South Africa are expected to deteriorate the current account balance slightly over the medium term with respect to the previous DSA, with the large deficit still reflecting the high import component of the LHWP-II. Over the long run, the current account balance is expected to remain negative. 4. Debt assumptions take account of the latest information on loan contraction. The government has recently signed a semi-concessional loan of M1.4 billion with the Export- Import Bank of China to build a road of 92km connecting Ha Mpiti and Sehlabathebe. Signature of a USD 20 million World Bank loan in the context of the Agriculture Productivity Program for Southern Africa is expected in the next few months. 5. External borrowing at concessional terms is expected to decline moderately, while remaining significant. Concessionality is assumed to be lower than in the previous DSA, reflecting the latest terms Lesotho has obtained. Furthermore, as Lesotho grows and graduates from some concessional borrowing sources and the domestic market develops, concessionality is expected to further decline over time. However, concessional external borrowing will remain critical for financing large investment projects, as was discussed in the previous DSA. In line with the authorities’ medium-term goals, the development of the domestic market is assumed to continue. By FY 2038/39, domestic borrowing is expected to account for around one-third of total debt. 6. The realism of the macroeconomic framework is confirmed by several checks (Figures 3 and 4). The path for external debt accumulation remains largely unchanged with 4 A medium-term Debt Management Strategy (DMS) is under development and is expected to be completed and released with the FY 2019/20 budget. 3 respect to the previous DSA. The current account deficits, which have in the recent past been partly funded by the drawdown of international reserves, are expected to be financed in the medium-term with the support of capital transfers, in particular those financing the LHWP-II (which is administered by the Lesotho Highlands Development Authority, which is not consolidated with the fiscus). With respect to the previous DSA, higher public debt is expected for the medium term as GDP growth has been lowered, while a larger domestic debt component will result in higher interest rates. The DSA projects a significant shift in borrowing assumptions towards less concessional external borrowing and more domestic debt, reflecting the likely availability of financing. The fiscal multiplier is assumed to be small due to high import content, and the negative impact of fiscal consolidation on GDP growth is expected to be partially offset by the beginning of the LHWP-II (unless the project experiences further delays) and positive developments in mining and textiles. Real exchange rate depreciation is also expected to contribute to the projected increase of the public debt. Unexpected changes in debt have not been significant over the past 5 years. 4 Table 2. Lesotho: Stock of Outstanding Debt, 2013/14–2017/18 2013/14 2014/15 2015/16 2016/17 2017/18 (in million USD) Domestic Debt 111 120 120 104 214 External Debt 828 825 841 849 899 Multilateral 724 692 709 727 775 IDA 308 273 292 295 331 ADF 191 167 167 159 165 EIB 67 102 95 127 135 IMF 79 68 70 65 61 Other 78 83 85 82 83 Bilateral 98 129 132 123 124 China EXIM Bank 43 57 54 50 49 Kuwait Fund 25 29 29 27 26 Saudi Fund 14 23 23 23 22 Abu Dhabi Fund 3 10 16 15 17 India EXIM Bank 7 7 6 6 5 Other 6 4 3 3 6 Commercial 6 5 0 0 0 Total 939 945 961 953 1,114 (in percent of GDP) Domestic Debt 4.0 4.4 4.6 4.5 8.2 External Debt 34.5 34.5 38.7 33.1 30.7 Multilateral 30.2 28.9 32.6 28.3 26.4 IDA 12.9 11.4 13.4 11.5 11.3 ADF 8.0 7.0 7.7 6.2 5.6 EIB 2.8 4.2 4.4 5.0 4.6 IMF 3.3 2.8 3.2 2.5 2.1 Other 3.3 3.4 3.9 3.2 2.8 Bilateral 4.1 5.4 6.1 4.8 4.2 China EXIM Bank 1.8 2.4 2.5 1.9 1.7 Kuwait Fund 1.1 1.2 1.3 1.1 0.9 Saudi Fund 0.6 0.9 1.1 0.9 0.7 Abu Dhabi Fund 0.1 0.4 0.7 0.6 0.6 India EXIM Bank 0.3 0.3 0.3 0.2 0.2 Other 0.3 0.2 0.2 0.1 0.2 Commercial 0.2 0.2 0.0 0.0 0.0 Total 38.5 38.8 43.2 37.6 38.8 Source: Country authorities and Sources: Country authorities and staff estimates. staff estimates. Note: Note: Domestic Domestic Debt Debtand includes arrears includes arrears and guarantees. guarantees. 5 Table 3. Lesotho: Macroeconomic Assumptions 2017 DSA 2018 DSA 2017 DSA 2018 DSA 2017-22 2018-23 2023-37 2024-38 Real GDP Growth (Percent) 3.1 2.5 3.4 2.9 Inflation (Percent) 5.5 5.5 5.1 5.5 Primary Deficit (Percent of GDP) 1.6 0.8 -0.6 0.4 USD Export Growth (Percent) 7.9 6.5 7.3 6.3 USD Import Growth (Percent) 8.6 5.3 4.6 5.2 Non-interest Current Account Balance (Percent of GDP) -8.3 -9.6 -2.1 -2.7 Net FDI (negative = inflow) -0.7 -1.6 -0.7 -1.7 Grant element of new public sector borrowing (in percent) 42.3 26.9 42.3 20.8 External Debt (Percent of GDP) 34.5 35.7 30.3 34.5 Public Sector Debt (Percent of GDP) 42.6 50.2 40.8 51.0 Sources: IMF Country Report No. 18/54 and staffs estimates and projections. COUNTRY CLASSIFICATION AND SCENARIO STRESS TESTS 7. Lesotho is classified as standing at medium debt carrying capacity (Table 4). Debt carrying capacity is determined by a composite indicator that includes the World Bank’s Country Policy and Institutional Assessment score, world economic growth, and Lesotho’s real growth rate, import coverage of reserves, and remittances. Lesotho’s debt carrying capacity is assessed to be medium. 8. Lesotho does not qualify for other tailored stress tests. Apart from the contingent liability tailored shock described above, Lesotho’s economic characteristics do not trigger any of the tailored stress tests on natural disasters, commodity prices, and/or market financing risk module. 6 Table 4. Lesotho: Debt Carrying Capacity EXTERNAL DEBT SUSTAINABILITY ANALYSIS 9. All external debt sustainability indicators remain below their corresponding thresholds in the baseline scenario (Table 5 and Figure 1).5 In the medium term, the present value (PV) of PPG external debt-to-GDP is expected to reach a maximum of 27.4 percent by FY 2020/21 from a level of 25.0 percent in FY 2017/18. In the longer term, it is expected to increase modestly to 28.0 percent. All other indicators of external debt sustainability remain well below the thresholds. 10. Stress tests show that Lesotho’s external debt vulnerabilities could emerge in the event of a realization of a contingent liabilities shock or a major shock to exports (Table 7 and Figure 1). The threshold of PV of PPG external debt-to-GDP would be breached if a large contingent liabilities shock, emerging mainly from the unfunded pension fund, were to be realized. Even absent the contingent liabilities shocks, the threshold would still be breached in the case of a large negative exports shock or other flows. All other indicators of external debt sustainability remain below the thresholds. OVERALL RISK OF PUBLIC DEBT DISTRESS 11. All public debt sustainability indicators remain below their corresponding thresholds in the baseline scenario (Table 6 and Figure 2). The PV of public debt-to-GDP is expected to reach a maximum of 44.4 percent by FY 2024/25 from a level of 31.0 percent in 5 The LHWP II project is financed by capital grants, which are a key driver of the residuals. 7 2017/18. Afterwards, it is expected to decline gradually, stabilizing around 44.0 percent in the long term. All other indicators of public debt sustainability also remain well below the thresholds. 12. The realization of a contingent liabilities shock would expose Lesotho’s public debt vulnerabilities (Table 8 and Figure 2). The threshold of PV of public debt-to-GDP would be breached in the event of a large contingent liabilities shock, as the ratio would rise to 66 percent in 2019/20. Real GDP growth, primary balance, exports, and other flows stress tests also lead to breaches. All other indicators of public debt sustainability remain below the thresholds. 13. The mechanical signal for the overall risk of public debt distress is moderate. This result reflects the moderate risk signal for PPG external debt and the public sector debt stock indicator breaching the threshold under some shocks. RISK RATING AND VULNERABILITIES 14. Lesotho’s risk of external debt distress has been revised from “low” to “moderate,” with some space to absorb shocks. All external and public debt and debt service indicators for the baseline remain below their respective thresholds, but shocks to contingent liabilities, exports and other flows lead to breaches. The DSA results highlight the importance of addressing the financing gap at the pension fund and continuing with a cautious debt management strategy focused on financing projects with high economic returns through concessional sources. Development of a domestic debt market would also prove critical to deal with contingent liabilities shocks. Authorities Views The authorities concurred with the DSA and the “moderate” risk rating. They agreed with the need to better monitor domestic contingent liabilities in order to have a comprehensive view of the debt. The authorities highlighted the need for the Debt Department and the public pension fund to agree on a strategy to address the underfunding of the latter. They also agreed that prudent debt management must continue in the medium term, in particular by pursuing financing with a significant grant element and that stronger capacity in the Cash Management Unit would support the forecasting of financing needs. Finally, authorities noted that work has begun on developing a Debt Policy Framework that will guide new decisions on guarantees, contingent liabilities, and unsolicited proposals. 8 Table 5. Lesotho: External Debt Sustainability Framework, Baseline Scenario, 2017–2038 (In percent of GDP, unless otherwise indicated) Actual Projections Average 8/ Historical Projections 2017 2018 2019 2020 2021 2022 2023 2028 2038 External debt (nominal) 1/ 30.7 36.1 36.1 36.5 35.7 34.7 34.8 34.2 34.4 32.9 35.2 Definition of external/domestic debt Currency-based of which: public and publicly guaranteed (PPG) 30.7 36.1 36.1 36.5 35.7 34.7 34.8 34.2 34.4 32.9 35.2 Is there a material difference between the two No criteria? Change in external debt -2.4 5.4 0.1 0.3 -0.8 -0.9 0.1 -0.2 0.0 Identified net debt-creating flows -0.1 6.3 11.5 3.2 6.2 12.5 7.0 1.8 -0.7 0.3 5.0 Non-interest current account deficit 4.1 8.2 13.6 4.1 8.4 15.0 8.5 3.7 1.0 3.4 6.8 Deficit in balance of goods and services 42.0 42.1 47.8 38.8 42.4 48.3 41.8 37.1 31.7 52.0 40.6 Exports 43.7 45.3 46.6 49.7 49.9 49.8 50.9 51.6 58.5 Imports 85.8 87.4 94.4 88.5 92.3 98.1 92.8 88.6 90.2 Debt Accumulation Net current transfers (negative = inflow) -24.2 -20.9 -21.6 -22.3 -21.9 -21.7 -21.6 -21.9 -20.6 4.0 30 -29.5 -21.8 of which: official -19.1 -15.9 -16.5 -17.2 -16.9 -16.6 -16.5 -16.8 -15.6 3.5 Other current account flows (negative = net inflow) -13.7 -13.0 -12.6 -12.4 -12.1 -11.6 -11.7 -11.4 -10.1 -19.2 -12.0 25 Net FDI (negative = inflow) -1.7 -1.5 -1.7 -1.7 -1.7 -1.7 -1.7 -1.7 -1.7 -2.6 -1.6 3.0 Endogenous debt dynamics 2/ -2.5 -0.3 -0.4 0.7 -0.6 -0.8 0.2 -0.3 -0.1 20 Contribution from nominal interest rate 0.6 0.5 0.6 0.7 0.6 0.6 0.6 0.7 0.9 2.5 Contribution from real GDP growth -0.2 -0.9 -1.1 0.1 -1.3 -1.4 -0.5 -1.0 -1.0 2.0 15 Contribution from price and exchange rate changes -3.0 … … … … … … … … Residual 3/ -2.3 -0.9 -11.4 -2.8 -7.0 -13.5 -7.0 -2.0 0.8 -1.4 -4.7 1.5 of which: exceptional financing 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 10 1.0 Sustainability indicators 5 0.5 PV of PPG external debt-to-GDP ratio 25.0 26.2 26.9 27.4 26.8 26.2 26.4 26.7 28.0 PV of PPG external debt-to-exports ratio 57.1 57.9 57.7 55.0 53.8 52.6 51.8 51.8 47.8 0.0 0 PPG debt service-to-exports ratio 4.8 3.5 5.4 5.1 5.0 5.0 4.8 4.5 4.6 2018 2020 2022 2024 2026 2028 PPG debt service-to-revenue ratio 5.2 4.0 6.4 6.4 6.3 6.3 6.2 5.6 6.5 Gross external financing need (Million of U.S. dollars) 120.9 224.3 401.1 141.3 279.8 507.3 311.6 189.9 150.1 Rate of Debt Accumulation Grant-equivalent financing (% of GDP) Key macroeconomic assumptions Grant element of new borrowing (% right scale) Real GDP growth (in percent) 0.5 2.9 3.1 -0.2 3.6 4.2 1.4 3.0 3.0 3.7 2.6 GDP deflator in US dollar terms (change in percent) 9.9 -1.3 -1.0 2.7 2.3 2.3 2.7 2.4 2.4 0.4 1.8 Effective interest rate (percent) 4/ 2.1 1.7 1.8 1.9 1.9 1.8 1.9 2.3 2.8 1.4 2.0 External debt (nominal) 1/ Growth of exports of G&S (US dollar terms, in percent) 21.9 5.0 5.1 9.4 6.4 6.5 6.4 6.5 7.0 3.7 6.0 of which: Private Growth of imports of G&S (US dollar terms, in percent) 17.8 3.4 10.2 -3.9 10.6 13.3 -1.6 5.6 5.7 2.3 4.8 37 Grant element of new public sector borrowing (in percent) ... 28.2 27.0 27.3 27.7 26.3 26.1 22.8 16.1 ... 25.7 Government revenues (excluding grants, in percent of GDP) 40.5 38.6 39.4 40.0 39.6 39.4 39.4 41.5 41.5 45.9 40.1 37 Aid flows (in Million of US dollars) 5/ 703.5 103.6 96.2 98.6 95.4 76.9 79.1 81.6 139.0 36 Grant-equivalent financing (in percent of GDP) 6/ ... 3.5 3.4 3.4 3.3 3.2 3.2 2.6 2.5 ... 3.1 Grant-equivalent financing (in percent of external financing) 6/ ... 64.9 58.0 58.6 59.4 58.6 57.5 51.7 45.1 ... 56.6 36 Nominal GDP (Million of US dollars) 2,677 2,717 2,775 2,843 3,015 3,213 3,344 4,293 7,315 Nominal dollar GDP growth 10.5 1.5 2.1 2.4 6.1 6.5 4.1 5.5 5.5 4.1 4.4 35 35 Memorandum items: PV of external debt 7/ 25.0 26.2 26.9 27.4 26.8 26.2 26.4 26.7 28.0 34 In percent of exports 57.1 57.9 57.7 55.0 53.8 52.6 51.8 51.8 47.8 Total external debt service-to-exports ratio 4.8 3.5 5.4 5.1 5.0 5.0 4.8 4.5 4.6 34 PV of PPG external debt (in Million of US dollars) 668.9 711.8 745.5 777.9 809.0 843.0 882.8 1147.1 2046.9 33 (PVt-PVt-1)/GDPt-1 (in percent) 1.6 1.2 1.2 1.1 1.1 1.2 1.5 1.7 2018 2020 2022 2024 2026 2028 Non-interest current account deficit that stabilizes debt ratio 6.5 2.8 13.5 3.7 9.2 15.9 8.5 3.9 1.0 Sources: Country authorities; and staff estimates and projections. 0 1/ Includes both public and private sector external debt. 2/ Derived as [r - g - ρ(1+g)]/(1+g+ρ+gρ) times previous period debt ratio, with r = nominal interest rate; g = real GDP growth rate, and ρ = growth rate of GDP deflator in U.S. dollar terms. 3/ Includes exceptional financing (i.e., changes in arrears and debt relief); changes in gross foreign assets; and valuation adjustments. For projections also includes contribution from price and exchange rate changes. 4/ Current-year interest payments divided by previous period debt stock. 5/ Defined as grants, concessional loans, and debt relief. 6/ Grant-equivalent financing includes grants provided directly to the government and through new borrowing (difference between the face value and the PV of new debt). 7/ Assumes that PV of private sector debt is equivalent to its face value. 8/ Historical averages are generally derived over the past 10 years, subject to data availability, whereas projections averages are over the first year of projection and the next 10 years. 9 Table 6. Lesotho: Public Sector Debt Sustainability Framework, Baseline Scenario, 2017–2038 (In percent of GDP, unless otherwise indicated) Actual Projections Average 6/ 2017 2018 2019 2020 2021 2022 2023 2028 2038 Historical Projections Public sector debt 1/ 38.8 46.8 49.5 51.7 51.4 50.7 51.1 51.4 50.0 37.7 51.0 of which: external debt 30.7 36.1 36.1 36.5 35.7 34.7 34.8 34.2 34.4 32.9 35.2 Definition of external/domestic debt Currency-based of which: local-currency denominated Change in public sector debt 1.2 7.9 2.7 2.2 -0.2 -0.7 0.4 -0.2 -0.1 Is there a material difference Identified debt-creating flows -0.8 8.3 1.1 0.5 -1.3 -2.2 -1.1 -0.3 -0.1 0.9 0.3 No between the two criteria? Primary deficit 2.5 4.3 1.8 0.3 0.0 -0.7 -0.9 0.5 0.5 2.4 0.5 Revenue and grants 42.9 41.3 41.9 42.4 42.0 41.8 41.7 43.4 43.4 48.6 42.4 of which: grants 2.4 2.8 2.5 2.5 2.4 2.4 2.4 1.9 1.9 Public sector debt 1/ Primary (noninterest) expenditure 45.4 45.7 43.7 42.8 42.0 41.1 40.8 43.9 43.9 50.9 42.9 Automatic debt dynamics -3.3 4.0 -0.7 0.1 -1.3 -1.5 -0.3 -0.8 -0.6 of which: local-currency denominated Contribution from interest rate/growth differential 0.1 -1.4 -1.0 0.5 -1.3 -1.5 -0.2 -0.7 -0.5 of which: contribution from average real interest rate 0.3 -0.3 0.4 0.4 0.5 0.6 0.5 0.8 0.9 of which: foreign-currency denominated of which: contribution from real GDP growth -0.2 -1.1 -1.4 0.1 -1.8 -2.1 -0.7 -1.5 -1.5 60 Contribution from real exchange rate depreciation -3.4 ... ... ... ... ... ... ... ... 50 Other identified debt-creating flows 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 Privatization receipts (negative) 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 40 Recognition of contingent liabilities (e.g., bank recapitalization) 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 30 Debt relief (HIPC and other) 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 Other debt creating or reducing flow (please specify) 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 20 Residual 2.1 5.0 1.9 1.3 1.1 1.5 1.5 0.0 0.0 -1.2 1.3 10 Sustainability indicators 0 PV of public debt-to-GDP ratio 2/ 31.0 37.9 40.7 42.9 42.9 42.5 43.1 44.2 44.0 2018 2020 2022 2024 2026 2028 PV of public debt-to-revenue and grants ratio 72.3 91.7 97.3 101.0 102.2 101.7 103.3 101.9 101.4 Debt service-to-revenue and grants ratio 3/ 5.6 14.7 9.5 9.5 13.2 12.8 13.0 14.3 13.4 Gross financing need 4/ 4.9 10.4 5.8 4.4 5.5 4.6 4.5 6.7 6.3 of which: held by residents Key macroeconomic and fiscal assumptions of which: held by non-residents 1 Real GDP growth (in percent) 0.5 2.9 3.1 -0.2 3.6 4.2 1.4 3.0 3.0 3.7 2.6 Average nominal interest rate on external debt (in percent) 2.0 1.6 1.9 1.9 1.9 1.9 1.9 2.3 2.8 1.4 2.0 1 Average real interest rate on domestic debt (in percent) 5.6 -0.8 3.6 3.6 4.4 4.9 4.3 4.7 4.8 0.2 3.9 Real exchange rate depreciation (in percent, + indicates depreciation) -10.4 … ... ... ... ... ... ... ... 0.3 ... 1 n.a. Inflation rate (GDP deflator, in percent) 1.6 4.9 5.7 6.1 5.3 5.2 5.7 5.5 5.5 6.1 5.5 0 Growth of real primary spending (deflated by GDP deflator, in percent) -6.1 3.6 -1.3 -2.3 1.7 2.0 0.7 3.0 3.0 5.3 2.3 Primary deficit that stabilizes the debt-to-GDP ratio 5/ 1.3 -3.6 -0.9 -1.8 0.2 0.0 -1.3 0.7 0.6 3.4 -0.6 0 PV of contingent liabilities (not included in public sector debt) 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0.0 0 2018 2020 2022 2024 2026 2028 Sources: Country authorities; and staff estimates and projections. 1/ Coverage of debt: The central government, central bank, government-guaranteed debt. Definition of external debt is Currency-based. 2/ The underlying PV of external debt-to-GDP ratio under the public DSA differs from the external DSA with the size of differences depending on exchange rates projections. 3/ Debt service is defined as the sum of interest and amortization of medium and long-term, and short-term debt. 4/ Gross financing need is defined as the primary deficit plus debt service plus the stock of short-term debt at the end of the last period and other debt creating/reducing flows. 5/ Defined as a primary deficit minus a change in the public debt-to-GDP ratio ((-): a primary surplus), which would stabilizes the debt ratio only in the year in question. 6/ Historical averages are generally derived over the past 10 years, subject to data availability, whereas projections averages are over the first year of projection and the next 10 years. 10 Figure 1. Lesotho: Indicators of Public and Publicly Guaranteed External Debt under Alternative Scenarios, 2018–2028 1/ PV of debt-to GDP ratio PV of debt-to-exports ratio 50 200 40 150 30 100 20 50 10 0 0 Most extreme shock is Exports Most extreme shock is Exports -10 -50 2018 2020 2022 2024 2026 2028 2018 2020 2022 2024 2026 2028 Debt service-to-exports ratio Debt service-to-revenue ratio 16 20 18 14 16 12 14 10 12 8 10 8 6 6 4 4 2 2 Most extreme shock is Exports Most extreme shock is Exports 0 0 2018 2020 2022 2024 2026 2028 2018 2020 2022 2024 2026 2028 Baseline Historical scenario Most extreme shock 1/ Threshold Customization of Default Settings Borrowing Assumptions for Stress Tests* Size Interactions Default User defined Shares of marginal debt No No External PPG MLT debt 100% Tailored Tests Terms of marginal debt Combined CLs Yes Avg. nominal interest rate on new borrowing in USD 2.6% 2.6% Natural Disasters n.a. n.a. USD Discount rate 5.0% 5.0% Commodity Prices 2/ n.a. n.a. Avg. maturity (incl. grace period) 24 24 Market Financing n.a. n.a. Avg. grace period 4 4 Note: "Yes" indicates any change to the size or * Note: All the additional financing needs generated by the shocks under the stress tests are interactions of the default settings for the stress tests. assumed to be covered by PPG external MLT debt in the external DSA. Default terms of marginal "n.a." indicates that the stress test does not apply. debt are based on baseline 10-year projections. Sources: Country authorities; and staff estimates and projections. 1/ The most extreme stress test is the test that yields the highest ratio in or before 2028. Stress tests with one-off breaches are also presented (if any), while these one- off breaches are deemed away for mechanical signals. When a stress test with a one-off breach happens to be the most exterme shock even after disregarding the one-off breach, only that stress test (with a one-off breach) would be presented. 2/ The magnitude of shocks used for the commodity price shock stress test are based on the commodity prices outlook prepared by the IMF research department. 11 Figure 2. Lesotho: Indicators of Public Debt under Alternative Scenarios, 2018–2028 PV of Debt-to-GDP Ratio 80 70 60 50 40 30 20 Most extreme shock is Combined contingent liabilities 10 0 2018 2020 2022 2024 2026 2028 PV of Debt-to-Revenue Ratio Debt Service-to-Revenue Ratio 180 30 160 25 140 120 20 100 15 80 60 10 40 5 Most extreme shock is Combined contingent liabilities 20 Most extreme shock is Combined contingent liabilities 0 0 2018 2020 2022 2024 2026 2028 2018 2020 2022 2024 2026 2028 Baseline Most extreme shock 1/ Public debt benchmark Historical scenario Borrowing Assumptions for Stress Tests* Default User defined Shares of marginal debt External PPG medium and long-term 48% 48% Domestic medium and long-term 52% 39% Domestic short-term 0% 13% Terms of marginal debt External MLT debt Avg. nominal interest rate on new borrowing in USD 2.6% 2.6% Avg. maturity (incl. grace period) 24 24 Avg. grace period 4 4 Domestic MLT debt Avg. real interest rate on new borrowing 4.6% 4.6% Avg. maturity (incl. grace period) 7 7 Avg. grace period 5 5 Domestic short-term debt Avg. real interest rate 1.6% 1.6% * Note: The public DSA allows for domestic financing to cover the additional financing needs generated by the shocks under the stress tests in the public DSA. Default terms of marginal debt are based on baseline 10-year projections. Sources: Country authorities; and staff estimates and projections. 1/ The most extreme stress test is the test that yields the highest ratio in or before 2028. The stress test with a one-off breach is also presented (if any), while the one-off breach is deemed away for mechanical signals. When a stress test with a one-off breach happens to be the most exterme shock even after disregarding the one-off breach, only that stress test (with a one-off breach) would be presented. 12 Table 7. Lesotho: Sensitivity Analysis for Key Indicators of Public and Publicly Guaranteed External Debt, 2018–2028 (In percent) Projections 1/ 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 2028 PV of debt-to GDP ratio Baseline 26.2 26.9 27.4 26.8 26.2 26.4 26.7 26.7 26.7 26.7 26.7 A. Alternative Scenarios A1. Key variables at their historical averages in 2018-2028 2/ 26 18 17 12 3 -2 -3 -2 -1 -1 0 0 #N/A #N/A #N/A #N/A #N/A #N/A #N/A #N/A #N/A #N/A #N/A B. Bound Tests B1. Real GDP growth 26 28 29 29 28 28 28 28 29 29 29 B2. Primary balance 26 29 33 33 33 33 33 34 34 35 35 B3. Exports 26 33 46 45 44 45 45 44 43 42 41 B4. Other flows 3/ 26 33 39 39 38 38 38 37 37 36 35 B5. Depreciation 26 34 25 25 24 24 24 25 26 26 27 B6. Combination of B1-B5 26 35 37 37 36 36 36 35 35 35 34 C. Tailored Tests C1. Combined contingent liabilities 26 37 40 40 39 40 40 42 43 44 44 C2. Natural disaster n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C3. Commodity price n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C4. Market Financing n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. Threshold 40 40 40 40 40 40 40 40 40 40 40 PV of debt-to-exports ratio Baseline 58 58 55 54 53 52 55 53 53 52 52 A. Alternative Scenarios A1. Key variables at their historical averages in 2018-2028 2/ 58 38 34 24 5 -4 -6 -4 -2 -1 0 0 58 53 47 43 39 35 33 29 26 23 21 B. Bound Tests B1. Real GDP growth 58 58 55 54 53 52 55 53 53 52 52 B2. Primary balance 58 63 67 66 65 65 69 67 68 68 67 B3. Exports 58 79 123 120 117 115 121 115 111 108 104 B4. Other flows 3/ 58 70 79 77 76 74 78 74 72 70 68 B5. Depreciation 58 58 40 39 38 37 40 39 40 41 41 B6. Combination of B1-B5 58 77 71 84 83 81 85 81 80 78 76 C. Tailored Tests C1. Combined contingent liabilities 58 80 80 79 78 78 82 83 86 86 85 C2. Natural disaster n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C3. Commodity price n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C4. Market Financing n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. Threshold 180 180 180 180 180 180 180 180 180 180 180 Debt service-to-exports ratio Baseline 3 5 5 5 5 5 5 5 4 4 5 A. Alternative Scenarios A1. Key variables at their historical averages in 2018-2028 2/ 3 5 4 4 4 3 2 2 1 1 0 0 3 5 5 4 4 4 4 3 3 2 2 B. Bound Tests B1. Real GDP growth 3 5 5 5 5 5 5 5 4 4 5 B2. Primary balance 3 5 5 5 5 5 6 6 6 6 6 B3. Exports 3 6 8 8 8 8 9 10 10 10 9 B4. Other flows 3/ 3 5 6 6 6 5 6 6 6 6 6 B5. Depreciation 3 5 5 5 4 4 4 3 3 3 4 B6. Combination of B1-B5 3 6 7 7 7 6 7 7 7 7 7 C. Tailored Tests C1. Combined contingent liabilities 3 5 6 6 6 6 6 5 5 5 6 C2. Natural disaster n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C3. Commodity price n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C4. Market Financing n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. Threshold 15 15 15 15 15 15 15 15 15 15 15 Debt service-to-revenue ratio Baseline 4 6 6 6 6 6 6 6 5 6 6 A. Alternative Scenarios A1. Key variables at their historical averages in 2018-2028 2/ 4 6 5 5 5 4 3 2 2 1 0 0 4 6 6 6 5 5 4 4 3 3 2 B. Bound Tests B1. Real GDP growth 4 7 7 7 7 7 6 6 6 6 6 B2. Primary balance 4 6 7 7 7 7 7 7 7 7 7 B3. Exports 4 7 7 8 8 8 8 9 9 9 9 B4. Other flows 3/ 4 6 7 7 7 7 8 8 8 8 8 B5. Depreciation 4 8 8 7 7 7 7 5 5 5 6 B6. Combination of B1-B5 4 7 7 7 7 7 8 7 7 7 7 C. Tailored Tests C1. Combined contingent liabilities 4 6 7 7 7 7 7 7 7 7 7 C2. Natural disaster n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C3. Commodity price n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C4. Market Financing n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. Threshold 18 18 18 18 18 18 18 18 18 18 18 Sources: Country authorities; and staff estimates and projections. 1/ A bold value indicates a breach of the threshold. 2/ Variables include real GDP growth, GDP deflator (in U.S. dollar terms), non-interest current account in percent of GDP, and non-debt creating flows. 3/ Includes official and private transfers and FDI. 13 Table 8. Lesotho: Sensitivity Analysis for Key Indicators of Public Debt, 2018–2028 Projections 1/ 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 2028 PV of Debt-to-GDP Ratio Baseline 38 41 43 43 43 43 44 44 44 44 44 A. Alternative Scenarios A1. Key variables at their historical averages in 2018-2028 2/ 38 41 43 45 47 49 52 53 54 55 55 0 #N/A #N/A #N/A #N/A #N/A #N/A #N/A #N/A #N/A #N/A #N/A B. Bound Tests B1. Real GDP growth 38 43 49 52 53 56 60 62 64 67 69 B2. Primary balance 38 46 56 56 55 56 58 57 57 57 57 B3. Exports 38 46 59 59 58 59 60 59 58 57 56 B4. Other flows 3/ 38 47 55 55 54 55 56 55 54 54 53 B5. Depreciation 38 44 43 41 38 36 35 32 30 28 25 B6. Combination of B1-B5 38 43 47 44 43 43 44 44 44 43 42 C. Tailored Tests C1. Combined contingent liabilities 38 66 69 68 68 68 70 70 69 69 68 C2. Natural disaster n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C3. Commodity price n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C4. Market Financing n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. Public debt benchmark 55 55 55 55 55 55 55 55 55 55 55 PV of Debt-to-Revenue Ratio Baseline 92 97 101 102 102 103 107 102 102 102 102 A. Alternative Scenarios A1. Key variables at their historical averages in 2018-2028 2/ 92 98 102 107 113 118 126 122 124 126 128 0 15 10 10 16 16 16 6 6 15 19 20 B. Bound Tests B1. Real GDP growth 92 103 116 122 127 134 143 143 148 153 158 B2. Primary balance 92 111 132 133 132 134 138 132 132 131 130 B3. Exports 92 109 139 140 139 141 144 136 133 131 129 B4. Other flows 3/ 92 112 130 130 129 131 134 127 125 123 122 B5. Depreciation 92 107 103 98 91 87 84 75 69 64 59 B6. Combination of B1-B5 92 103 111 104 102 103 106 102 101 99 98 C. Tailored Tests C1. Combined contingent liabilities 92 158 162 163 162 164 168 160 159 158 157 C2. Natural disaster n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C3. Commodity price n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C4. Market Financing n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. Debt Service-to-Revenue Ratio Baseline 15 9 10 13 13 13 12 12 13 15 14 A. Alternative Scenarios A1. Key variables at their historical averages in 2018-2028 2/ 15 9 9 14 14 14 14 14 15 17 18 0 15 10 10 16 16 16 6 6 15 19 20 B. Bound Tests B1. Real GDP growth 15 10 11 15 15 16 16 16 19 21 22 B2. Primary balance 15 9 13 18 15 15 15 17 21 21 18 B3. Exports 15 9 10 14 14 14 14 15 16 17 17 B4. Other flows 3/ 15 9 10 14 14 14 14 14 15 17 16 B5. Depreciation 15 10 11 13 13 13 12 11 11 12 12 B6. Combination of B1-B5 15 9 9 15 13 13 13 12 15 16 14 C. Tailored Tests C1. Combined contingent liabilities 15 9 22 19 17 17 17 24 27 21 19 C2. Natural disaster n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C3. Commodity price n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. C4. Market Financing n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. n.a. Sources: Country authorities; and staff estimates and projections. 1/ A bold value indicates a breach of the benchmark. 2/ Variables include real GDP growth, GDP deflator and primary deficit in percent of GDP. 3/ Includes official and private transfers and FDI. 14 Figure 3. Lesotho: Drivers of Debt Dynamics – Baseline Scenario External debt Gross Nominal PPG External Debt Debt-creating flows Unexpected Changes in Debt 1/ (in percent of GDP; DSA vintages) (percent of GDP) (past 5 years, percent of GDP) Current DSA 60 80 Residual 20 Previous DSA proj. 40 70 DSA-2013 15 Interquartile range (25-75) Price and 60 exchange rate 20 10 50 Real GDP growth 0 5 Change in PPG 40 debt 3/ 30 Nominal -20 0 interest rate 20 Median -40 -5 Current 10 account + FDI -60 -10 0 Contribution of Change in PPG 5-year 5-year Distribution across LICs 2/ 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 2028 unexpected debt 3/ historical projected -15 changes change change Public debt Gross Nominal Public Debt Debt-creating flows Unexpected Changes in Debt 1/ (in percent of GDP; DSA vintages) (percent of GDP) (past 5 years, percent of GDP) Residual 20 Current DSA Previous DSA proj. 40 DSA-2013 Interquartile range 80 Other debt 30 (25-75) creating flows 70 Real Exchange 10 20 60 rate depreciation 50 10 Real GDP growth Change in debt 40 0 0 30 Real interest rate -10 20 Primary deficit -20 10 -10 Median 0 Change in debt 5-year 5-year -30 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 2028 Distribution across LICs 2/ historical projected Contribution of unexpected -40 changes change change 1/ Difference between anticipated and actual contributions on debt ratios. 2/ Distribution across LICs for which LIC DSAs were produced. 3/ Given the relatively low private external debt for average low-income countries, a ppt change in PPG external debt should be largely explained by the drivers of the external debt dynamics equation. 15 Figure 4. Lesotho: Realism Tools 16 Figure 5. Lesotho: Qualification of the Moderate Category, 2018-2028 1/ Figure 5. Lesotho: Qualification of the Moderate Category, 2018–2028 1/ PV of debt-to GDP ratio PV of debt-to-exports ratio 45 200 40 180 35 160 140 30 120 25 100 20 80 15 60 10 40 5 20 0 0 2018 2020 2022 2024 2026 2028 2018 2020 2022 2024 2026 2028 Debt service-to-exports ratio Debt service-to-revenue ratio 16 20 18 14 16 12 14 10 12 8 10 8 6 6 4 4 2 2 0 0 2018 2020 2022 2024 2026 2028 2018 2020 2022 2024 2026 2028 Threshold Baseline Limited space Some space Substantial space Sources: Country authorities; and staff estimates and projections. 1/ For the PV debt/GDP and PV debt/exports thresholds, x is 20 percent and y is 40 percent. For debt service/Exports and debt service/revenue thresholds, x is 12 percent and y is 35 percent. 17