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Economics
Zambia: Annual economic outlook
Copper price bust
5 March 2009
Yvonne Mhango
Projections for 2009:
•
Real GDP growth is expected to slow to 3.8%
•
Average annual inflation to edge up to 12.9%
•
Kwacha to depreciate to an annual average rate ofZMK4 915.8/USD
•
Trade balance is projected to moderate to 0.5% of GDP
•
Fiscal deficit is expected to increase to 3.1% of GDP
Recent trends
Production
The economy is estimated to have grown by 5.8% in 2008, up from6.3% in 2007, with economic activity largely stemming from threesectors: transport, storage and communications; construction; and thecommunity, social and personal services’ sectors. The transport,storage and communications sector, which generates about 10% ofnational output, is estimated to have grown at a rate of 15.3% in 2008,which is a softening from 20.6% in 2007. The expansion of this sectorwas largely due to communications and road transport. The increaseduptake of telecommunications’ products explains the growth incommunications, and the up-scaling of public investment in roadrehabilitation in recent years is partly the reason for the increase inroad transport’s contribution to gross domestic product (GDP).
Figure 1: Gross domestic product by activity (2008 estimates)
Source: Central Statistical Office, Zambia 
Construction, the country’s second-largest sector, has picked up inrecent years on account of an increase in public investment ininfrastructure and foreign investment in the mining industry. The sectoris estimated to have grown at 11.0% in 2008, up from 10.4% in 2007.This strong growth explains the more than twofold increase in theconstruction industry’s share of GDP, in the 10 years to 2008, to 11%of GDP, from 4.8% in 1998.
Figure 2: Real growth of largest sectors
Source: Central Statistical Office, Zambia 
The growth in community, social and personal services largely reflectsthe expansion of the education share of GDP. One of the agreementswith creditors following the forgiveness of debt in 2005 was that thegovernment would use its freed resources to increase expenditure onthe so-called priority sectors, including education. The 14.3% growth incommunity, social and personal services in 2008, up from 12.9% in2007, is indicative of the scaling up of investment in education in recentyears.Mining and quarrying also performed strongly in 2008, especially whencompared to the sector’s performance in 2007. The extractive industryexpanded by 10.5% in 2008, after contracting by 1.5% in 2007, onaccount of record-high copper prices in the first seven months of 2008,and a 14.1% expansion in copper production in the January toNovember 2008 period, compared to the corresponding period of 2007.However, power blackouts are proving to be a severe constraint on the
Agriculture,Forestry &Fishing13%Mining &Quarrying9%Manufacturing10%Electricity,Gas &Water2%Construction11%Wholesale &Retail trade17%Restaurants,Bars &Hotels3%Transport,Storage &Communications10%FinancialInstitutions& Insurance7%Real Estate& Businessservices9%Community,Social &PersonalServices9%
-404812162024
Wholesale &retail tradeAgriculture,forestry &fishingConstructionTransport,storage &comm.Mining &quarrying
%
2006 2007 2008*
 
2mining industry. The Luanshya copper mine alone is estimated to havelost US$5 million in early 2008 on account of significant powerdisruptions.The sectors that underperformed relative to their historical averagegrowth rates were agriculture, commerce and manufacturing.Agricultural production shrank by 1.5% in 2008 on the back ofinadequate rainfall during the year. As such, the maize harvest duringthe 2007/08 season is estimated to have fallen to 1.2 million metrictonnes, from more than 1.4 million in the 2006/07 season.Activity in the manufacturing sector slowed in 2008, when the sectorgrew by 2.4%, compared to 4.9% in the previous year. The slowdownin manufacturing growth is attributed to poor growth in textile andleather products, as well as non-metallic mineral products, especiallycement sales. It is likely that Zambia’s electricity shortage impactedoperations in the manufacturing industry, hence the softening in thesector’s activity in 2008.The electricity, gas and water sector reported anaemic growth of 0.1%in 2008, down from 1% in 2007 and 10.5% in 2006. Zambia has beenafflicted by interruptions in the supply of electricity. The national powersupply is in deficit, hence the shortages, and the mining operations’supply is supplemented by 100-150 megawatts of power from theDemocratic Republic of Congo. Slowing utilities’ growth implies that abrake is being placed on economic activity and thus sub-par economicgrowth.
Domestic expenditure
Spending within the Zambian economy is estimated to have slowed in2008 to 3.0%, from 4.9% in 2007, owing to a softening in householdconsumption growth and the likelihood that fixed investment did notincrease in 2008. Household consumption was supported by a largeincrease in the recruitment of public workers, including health workers,teachers and police, and a lower non-taxable threshold and valueadded tax rate in 2008, but higher inflation and layoffs in the miningindustry in the second half of 2008 are expected to have slowed itsgrowth to 3.9%, from 4.6% in the previous year.
Figure 3: Structure of GDP by expenditure (% of GDP)
Source: EIU 
Gross fixed investment has grown significantly in recent years, thusincreasing its contribution to GDP from 13% in 1997 to an estimate of26% in 2007 (see Figure 3). In 2007 alone, gross fixed investment isestimated to have grown by 29.3%. A surge in foreign directinvestment (FDI) in 2007, to US$1.4 billion, partly explains the jump ingross fixed capital formation in that year. A sizeable share of thisinvestment was in the mining industry. At the end of 2007, FDI wasexpected to increase significantly in 2008 largely due to interest in themining sector from Chinese and Australian investors and also in thenon-mining sector. Investments in manufacturing; construction ofcommercial property; banking; an economic tax-free zone; agriculture;and tourism from China, India, South Africa and Nigeria were projectedfor 2008, at the end of 2007; however, the global financial crisis isexpected to have dampened FDI in 2008. As such, gross fixedinvestment is estimated to have grown by 6.4% in 2008.Government consumption expenditure is estimated to have increasedby 1.4% in 2008, from 0.8% in 2007, as income growth related to therise in mining tax revenue created greater fiscal space. One-third of the2008 budget was allocated to general public services, including debtrepayment, health and education.As spending in Zambia exceeds production in the country, this impliesthat the country’s imports exceed its exports, despite copper being asignificant export, which, at times, fetches a high price. Zambia’simport dependence exposes the country’s low manufacturing base,and the mining companies need to import capital equipment. Therecent commodity boom and subsequent attraction of FDI boostedcapital-equipment imports and thus partly explain the expansion of thenet exports’ deficit to 11% of GDP in 2007, from 5% in 1997 (seeFigure 3).
Monetary policy
The Bank of Zambia aims to keep inflation stable and below 10% bycontrolling the growth of monetary aggregates. The monetaryauthorities’ challenge is to strengthen liquidity management so as torein in inflation. Broad money growth slowed to 22.3% y/y in December2008, from 26.6% y/y 12 months earlier on account of softening inactivity in the external sector and slower buildup of internationalreserves.
Figure 4: Food’s contribution to consumer price inflation in 2008
Source: Central Statistics Office 
-20%0%20%40%60%80%100%1997 2007*Net exports StockbuildingGross fixed investment Government consumptionPrivate consumptionFood andbeverages,62%Clothing andfootwearRent, fueland lightingFurnitureandhouseholdgoodsMedical careTransportandcommunicationRecreationandeducationOther goodsand services37%
Clothing and footwearRent, fuel and lightingFurniture and household goodsMedical careTransport and communicationRecreation and educationOther goods and services
 
3The authorities’ inflation target for end-2007 was 7%. But, from thetime inflation escaped the single-digits’ range at the beginning of thesecond quarter of the year, it accelerated to 16.6% y/y in December2008, up from 8.9% y/y 12 months earlier. Inflation’s climb was largelydue to rising food prices owing to a weather-induced supply constraint,particularly in southern Zambia that had pushed prices above average.Food inflation soared to 20.5% y/y in December 2008, from 5.9% y/y ayear earlier on the back of floods during the 2007/08 season, whichwere followed by dry spells at the tail end of the season. Thus, everythree out of five percentage points of inflation were due to food andbeverages, which is equivalent to their weight in the consumer priceindex, implying that inflation was broad based in 2008. Inflationarypressures were exacerbated by the depreciation of the kwacha.Although non-food inflation slowed to an average of 11.2% in 2008,from 16.4% in 2007, it remained elevated on account of strong energyprice pressures. Fuel prices were the primary source of non-foodinflation in 2008. Transport and communication price inflation ended2007 at 15.9% y/y, this after starting the year at 7.7% y/y. The demandfor fuel, diesel in particular, rose to a record high in the third quarter of2008, as a large number of mining operations and other users turnedto fuel-fired generators to supply electricity to compensate for thegrowing domestic power shortages. Notably, the copper minesconsumed about half of the imported diesel in 2008. Non-food inflationreceived a breather in the tail end of 2008, when the international oilprice collapsed. This prompted the state-owned Energy RegulationBoard to cut the country’s average fuel price by 25%.The policy interest rate, the Bank of Zambia rate, increased to 15.9% inDecember 2008, from 13.5% 12 months earlier. This incline was intangent with that of the 91-day Treasury bill rate that has a twopercentage points’ margin with the policy rate. The upward trend inshort-term interest rates reflects the tightening of monetary policy,particularly in the second half of 2008, as monetary expansionaccelerated on the back of the unwinding of short-term investors thatwere demanding foreign currency. Broad money and reserve money’sgrowth rates accelerated to 35.6% y/y and 27.5% y/y respectively inOctober, when capital flight was acute, from 17.3% y/y and 4.3% y/y inSeptember (see Figure 5).
Figure 5: Money supply growth (% y/y)
Source: Bank of Zambia, Standard Bank Group est 
As the global financial crisis deteriorated in the last quarter of 2008 andrisk aversion heightened, foreign holders of Zambian Treasury bills gotout of their investments. This decline in appetite for Zambiangovernment paper depressed Treasury bills’ prices and pushed upyields.In line with short-term interest rates, the average rate at whichcommercial banks lend to their customers edged up to 26.9% inDecember 2008, from 24.4% a year earlier.
International trade
The impact of the global economic downturn on international tradehas been marked for Zambia because of its significant dependenceon one primary export commodity. The deep recession in the world’sadvanced economies has shredded their demand for exports fromone of its biggest markets, East Asia. To be sure, China’s realexports’ earnings declined by 22% y/y in January 2009. As East Asiais a large market for Africa’s raw materials, which are employed toproduce manufactured goods for its export market, the plummetingdemand for its exports implies a corresponding drop in appetite forraw materials.Zambia’s main export, copper, is the world’s third most widely usedmetal, after iron and aluminium, and is mainly employed in highlycyclical industries, including construction and industrial machinerymanufacturing. The global economic slowdown has slowed and haltedthe construction of infrastructure and property development, andreduced the demand for consumer goods, including electronics. Theglobal credit crunch has placed a dampener on trade finance, and, assuch, the movement of freight has slowed, as demonstrated by thecollapse of the Baltic Dry Index, which indicates the price of movingmajor raw materials by sea and thus measures the demand forshipping capacity versus the supply of dry bulk carriers. It is thus anefficient lead economic indicator of future economic growth andproduction. The sharp fall in the index in the latter half of 2008demonstrated the drop in demand for bulk carriers, which indicatesfalling demand for raw materials and thus a decline in economicactivity.Depressed demand for copper explains the more than 60% drop in itsprice, from US$8 162 per tonne at the end of July 2008, to US$3 042at the end of December 2008. The fall in prices was across allcommodities, including energy and food commodities.In response to the halting of global economic activity, the world’smajor central banks have relaxed monetary policy through aggressiveinterest rate cuts and cash injections in a bid to unfreeze the creditmarkets. Various fiscal policy stimulus packages have also beenreleased by a myriad of governments seeking to haul their economiesout of recession.
External sector
The Zambian kwacha was one of the region’s worst performingcurrencies in 2008. In the 12 months to December 2008, the kwachadepreciated by 27.2% against the US dollar to ZMK5 015.68/USD,
-10010203040502004 2005 2006 2007 2008Broad money (M3) Reserve money
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