Oil overhang may hit budget projections on trickledown effect

The role of oil in Nigeria’s economy while small at about 10 percent of GDP has an outsized impact due to its ability to slow down other sectors, meaning the government may find it difficult to meet 2016 budget projections.

The Federal Government has rightfully cut down expected oil income to some N820 billion.

However, it still projects non oil revenues of N1.45 trillion which is to come mainly from company income tax, VAT and Customs and Excise duties.

This may be overly optimistic in an economy growing way below potential, as can be seen from the lower year on year profits of most listed firms (2015 vs. 2014) including the banks, and much lower import and export volumes.

“It seems the transmission mechanism from oil prices to the so-called non-oil sector (90% of the economy) in Nigeria is strong,” said Eloho Omame,
Vice President at General Atlantic’s investment team based in London.

“Manufacturing is in recession, banks are taking impairments/writing off loans and Telco’s are shedding staff.”

Nigeria’s merchandise trade at the end of Q3, 2015 was N4, 021.4 billion, 38.3 percent less than the corresponding quarter of 2014, as a result of a N132.4 billion or 7.3 percent and N2, 364.6 billion or 50.3 percent decline in imports and exports respectively, the Bureau of Statistics reported in its most recent data.

“The transmission is made apparent by Government’s reduced spending in 2015 due to the oil revenue shortfalls. Government spending is a life-blood to the non-oil sector. It powers consumer spending, manufacturing, construction, and even agriculture.

“Hence the non-oil sector may see some slowdown as government spending shrinks due to weaker oil revenues. Recall some state governments are having challenges paying salaries; this in turn affects out-of-pocket consumer spending,” said Abiodun Keripe, Head of Research & Strategy at Elixir Investment Partners Limited, in response to questions.

Brent crude for February settlement traded at $37.77 a barrel on the London-based ICE Futures Europe exchange yesterday.
The International Monetary Fund projects Nigerian growth at 4.3 percent this year, 250 basis points below a ten year average of about 6.8 percent per annum.

“The government may need a miracle to hit its non-oil revenue targets,” said Olu Fasan, a visiting fellow at the London School of Economics.

“In Nigeria, corruption, inefficiency and lack of capacity significantly hinder non oil revenue targets.”

If the government decides to increase its borrowing this year to meet a potential shortfall in non-oil revenue targets, two opposite forces will be at play in the domestic market.

“On one hand, domestic issuance of FGN debt may increase amid a wider financing gap. On the other hand, abundant liquidity and the limited development of other asset classes may still ensure decent demand for FGN debt securities as local investors could struggle to diversify their investment portfolios,” Samir Gadio Head, Africa Strategy FICC Research, at Standard Chartered Bank said in response to questions.

“In terms of external issuance, the authorities will likely issue new Eurobonds, but this may prove expensive, given that the 2023 USD bond is now
trading at 8.4 percent. That said the Eurobond issuance may be facilitated by Nigeria’s low external debt levels relative to peers.”

Nigeria’s 2016 budget proposes to spend N6.07 trillion in total with N2.64 trillion allocated for recurrent non-debt expenditure, N1.84 trillion for capital expenditure, and N1.47 trillion on debt service.

The budget has an embedded deficit of N2.2 trillion to be funded mainly from domestic and external borrowings.

“It’s a concern when for every 2 Naira of revenues there is 3 Naira of spending, with borrowing making up the difference,” Charles Robertson, global
chief economist at investment firm Renaissance Capital said.