Important warning on our oil subsidy

With the growing calls on President Muhammadu Buhari to reform our present fuel subsidy system, I hope we won’t again wake up one morning and suddenly hear that the subsidy has been removed, just like President Jonathan did in 2012! Then, fuel suddenly started selling at around N141/litre (from N65/litre), and government announced that the subsidy has been removed, with a new “indicative” price of N141/litre!

Several questions begged for answers, including how government even arrived at its “indicative” price of N141/litre. We shall look at them, but first, let us remind ourselves of the key issues in our present fuel subsidy debate! There are two main components of the subsidy: the subsidy that prevents us from paying the international cost of the imported fuel we consume locally, and the subsidy that enables government to keep the price of fuel uniform across the country.

If an oil marketer delivers fuel at N130/litre, and we pay a pump price of only N87/litre, the subsidy is N43/litre (the difference between N130 and N87), which government is obliged by the policy to refund to the marketer. Similarly, when imported fuel lands, for example, in Lagos, and a tanker takes a truckload from Lagos to Ilorin at an agreed fee of, say, N230,000, government is obliged to refund this amount so that fuel can sell at the same price all over the country.

The problem with this subsidy system is the overwhelming incentives it creates for fraud! If I import 20 million litres, I can apply for subsidy on 50 million litres and present papers that convincingly show it was 50 million litres – as long as I know how to share the loot! Neither President Buhari nor even his petroleum minister can physically go there to verify! Similarly, if my actual cost of the imported fuel is N80/litre (covering things like the F.O.B cost, shipping cost, clearing and port charges, storage charges, exchange rate costs, agreed profit margin, and so on), what prevents me from presenting papers that show convincingly that my cost is N130/litre, as long as I know the game? Similarly, what prevents a fleet owner doing10 truckloads in a day from presenting papers for 52 truckloads? And so on! Now, imagine the billions of naira that could be available for sharing in this way, on a regular basis!

To further compound the matter, the fuel on which subsidy has been calculated can end up across the border, smuggled into a neighbouring country!

Note that these frauds would not be successful without the collaboration of key parties in the value chain – including conceivably the overseas parties, fuel marketers, banks processing the transactions, government’s monitoring agencies (at both the ports and the oil industry), members of the executive and legislative arms of government, and even state government officials! The reason fuel sells at higher prices in many states is probably because all the fuel that was supposedly taken to those places was only on paper! How many times have the affected state governments asked the necessary questions?

The overwhelming incentives this system creates for fraud is strangulating our downstream oil sector and doing a monumental damage to our economy. After several decades of being a major crude oil exporter, and several decades of huge turn-around maintenance costs, we cannot refine the fuel we use domestically! Is it not an irony that while Biafra refined the fuel it needed during the civil war, Nigeria cannot do the same today, 45 years later? Is it also not an irony that while petty oil thieves can construct make-shift refineries, the Nigerian government has since 1999 not been able to get even our existing refineries to work well, let alone building new ones? Why are new refineries sprouting in our neighbouring countries but not here? Today we hold the scornful distinction as the only oil-producing country with bogus refineries that hardly work! If influential Nigerians have built refineries in other countries, does that not tell us the kind of forces behind the subsidy mess? While Ghana and other African countries that recently discovered oil have already developed appropriate legal frameworks for their oil industries, our PIB is languishing in the National Assembly!

Available options

Can President Buhari successfully retain this subsidy by using “better” hands to administer it? My answer is an emphatic “No”, not minding that throughout the campaign, his party, the APC, blamed PDP and “its corruption” for the sector’s woes. The truth is that no system anywhere in the world can work properly in the face of the overwhelming incentives that our subsidy system creates for fraud! Merely replacing the PDP appointees with those of the APC without tackling the underlying distortions (no matter how trustworthy Buhari may find his team) will simply move us round our usual circle! Besides, government should focus on creating strong systems that are self-driving, rather than sustaining vulnerabilities that rely on “outstanding” persons!

On the other hand, if we wake up one morning and suddenly hear that the subsidy has been removed, with another “indicative” pump price just like we experienced in 2012, it will also merely change the nature of fraud rather than tackling the system’s dysfunctions! Yes, it will transfer a lot of burden from government to consumers, who will start paying whatever the system (right or wrong) declares as the “indicative” price. But it will also retain the corruption in the system, including the one that will now revolve around the “indicative” price. For example, if the actual cost is N80/litre while the indicative price is N145/litre, who will be pocketing the difference?

The same argument goes for subsidy “reduction”! What government calls subsidy reduction is only a nicer name for price increase. It does not tackle the dysfunction – even if a special programme is set up to manage the extra revenue from the price increase (such as the PTF of the Abacha administration, and the SURE-P of the Jonathan administration). The system’s distortions still remain! Recall that President Obasanjo increased fuel price (or reduced subsidy) seven times during his eight-year reign, ultimately raising fuel price from the N20 he met to N75 per litre! Yet after all that circular ride, we are back to the starting point!

Deregulation

The answer to all these distortions is “proper” deregulation, which will bring the full vibrancy of market forces into the sector – allowing the NNPC as well as other oil dealers (including new entrants) to import and sell fuel at their own prices. Foreign refineries will be free to bring their refined products directly through their representatives. The competition in the downstream sector will be fiercer than what we saw in our telecoms industry, because oil importation is no rocket science – almost every Nigerian businessman can represent a foreign refinery! The competition will force down prices, even if they start high. In fact, my estimate is that petrol price will crash to N30-40 per litre within months of deregulation if it is done properly! Notice how such a low price (compared to the subsidised price of N87/litre) makes nonsense of the notion that our subsidy benefits the poor! Also, if the highest pump price anywhere in the country becomes N40, it rubbishes the illusion that subsidy benefits the inland states!

Most importantly, deregulation will open up our downstream sector to real investors eager to enter the value chain with refineries, storage and transport systems, etc. Deregulation will also create the incentives for the take-off of our gas industry, for a new era of gas plants, petrochemical plants, fertiliser plants, and so on! Ancillary industries will mushroom everywhere, around the by-products and feedstock needs of all these major industries. Employment will boom, as companies scramble for competent engineers, marketers, chemists, technicians, human resource managers, accountants, etc!

We can see how the subsidy system is strangulating investments in our downstream oil sector – and frustrating the mammoth jobs that the sector can readily create, as well as the economic prosperity and poverty-reduction that would have come from there. Today, faced with tumbling revenue and unprecedented levels of unemployment and poverty, deregulation is an incredible “low-hanging” fruit for this new government!

But market structuring is critical – because all these benefits can only accrue from “proper” (not 419) deregulation, which emphatically unleashes the power of market forces on the sector, creating self-propelling incentives for improvement and automatic consequences for failure to improve! To ensure this, the overall responsibility for the deregulation is best domiciled outside the industry, perhaps with a special presidential taskforce that can properly structure the market.

Gabriel Zowam