to South Africa although they have followed different trajectories since 2010. Machinery exports declined by 40% in nominal terms between 2010 and 2016 and the sector lost relative importance, dropping from accounting for about 55% of exports to South Africa in 2010 to less than 15% in 2016. On the other hand, apparel exports increased five-fold in nominal terms during the same period and increased its share of exports from 20% to 55%.

Lesotho has not taken steps to exploit potential services export expansion. Despite the sector’s growing importance to GDP and employment, Lesotho’s tourism sector continues to underperform, and has seen a decline. In 2015, Lesotho was ranked 129 of 141 countries by the World Economic Forum’s Tourism Competitiveness Index (WEF 2015). Among comparator countries, Lesotho has the third lowest ratio of foreign to domestic spending on tourism, after two other landlocked countries, Eswatini and Malawi. Lesotho could differentiate itself from other Southern African countries, with mountain ranges, clear water and snow in winter. To capitalize on its tourism potential, Lesotho needs to take some steps to enhance its infrastructure and train its human resources. Of 82 accommodation enterprises surveyed by a group of World Bank economists (Yiu and Saner 2015), less than 40% were considered “market ready”.

# 4. Impacts of potential future external trade policy changes

## 4.1. Data, Modeling Framework and Scenarios

The CGE analysis aims to assess potential impacts based on specific trade-related scenarios, incorporating Lesotho in the GTAP database for the first time. The core specification of LINKAGE replicates largely a standard global dynamic CGE mode (van der Mensbrugghe, 2011 and 2013). Production is specified as a series of nested constant elasticity of substitution (CES) functions for the various inputs – unskilled and skilled labor, capital, land, natural resources (sector-specific), energy and other material inputs. LINKAGE uses a vintage structure of production that allows for putty-semi putty capital. In the labor market we assume full employment and allow for rural-urban internal migration. Demand by each domestic agent is specified at the so-called Armington level, i.e., demand for a bundle of domestically produced and imported goods. Armington demand is aggregated across all agents and allocated at the national level between domestic production and imports by region of origin.

The standard scenario incorporates three closure rules. First, government expenditures are held constant as a share of GDP, fiscal balance is exogenous while direct taxes adjust to cover any changes in the revenues to keep the fiscal balance at the exogenous level. The second closure rule determines the investment-savings balance. Households save a portion of their income, with the average propensity to save influenced by elderly and youth dependency rates, as well as GDP per capita growth rates. The savings function specification follows Loayza, Schmidt-Hebbel, and Serven (2000) with different coefficients for developed and developing countries. In the case of China and the Russian Federation, we impose projections of investment or savings rates up to 2030 from World Bank regional reports. Since government and foreign savings are exogenous, investment is savings driven. The last closure determines the external balance. We fix the foreign savings and therefore the trade balance, hence changes in trade flows result in shifts in the real exchange rate. We then generate the long-term baseline, then run a number of counterfactual scenarios. By comparing the two, we can isolate the impacts of various policy changes: 12