Avoiding emerging market turmoil in Nigeria’s future

For years, the market mantra was that emerging markets represented future growth. In the past few months, huge capital outflows have challenged the conventional wisdom. Can Nigeria avoid emerging market turmoil in the future?

Emerging market funds experienced massive outflows soaring to more than $33 billion in the 15 weeks before February, according to Morgan Stanley. These outflows have been ignited and magnified by the U.S. Federal Reserve’s tapering.

Much of the turmoil has been driven by the confluence of several events, including Argentina’s faltering currency crisis, the perceived slowdown of China’s economy, and longstanding political unrest in Turkey, Ukraine, and Thailand.

If the volatility will resurface in the near future, it reflects investors’ uncertainty in an era when advanced economies are muddling through their way amidst debt crises in advanced markets, while emerging markets remain poorly understood.

In the past quarter, a lot of attention has been given particularly to the so-called “fragile five”: India, Indonesia, Brazil, Turkey, and South Africa. Markets have focused on their internal challenges, especially fiscal and current account deficits, falling growth, excessive inflation and political uncertainty.

How can Nigeria avoid emerging market volatility in the future?

Nigeria amid current emerging market turmoil

Unlike India, Indonesia, Brazil, Turkey or South Africa, Nigeria has not been adversely affected by the recent volatility. The current account balance is on decline, but the ongoing year is likely to see a 4% surplus. In 2013, fiscal deficit increased to -4.7% but should decline to -2.9% by the end of 2014. This achievement, however, relies almost entirely on oil revenues.

In 2014, Nigeria’s non-oil primary balance is likely to amount to a whopping -22% of the GDP. That underscores the country’s continued reliance on oil and gas, highlighting the importance of structural reforms to diversify the industrial structure.

In the past year, real GDP growth amounted to 6.4% and it is expected to climb to 7.3%. The good news is that this growth relies increasingly on the strong performance in the non-oil sector. In the past half a decade, Nigeria’s oil and gas GDP growth has varied around 6.8% to -1.8%, whereas non-oil GDP has remained steadily at around 7.4% to 8.9%.

Also, inflation declined to less than 8% last year, on the back of lower food price, fiscal consolidation, and a tight monetary policy stance. As economic growth is projected to improve further during the ongoing year, it will be driven by agriculture, trade and services.

Nonetheless, Nigeria is not immune to potential risks either. These threats include the impending elections of 2015, the unwinding of unconventional monetary policies coupled with the suspension of Lamido Sanusi at the central bank, the escalation of domestic insurgencies, and the slow implementation of reforms.

Externally, Nigeria must cope with the continued impact of the Fed’s tapering (and eventually rate hikes), lower oil prices and shale gas revolution, persistent oil production losses, as well as uncertainty about the pace of global recovery.

Avoiding risks by accelerating progress

In the future, emerging economies will drive an increasing share of global growth. But it will not be a smooth ride. The promise of the potential growth is not identical with actual growth. Some countries will gain, others will lose.

In the next year or two, Lagos must make policy decisions that will shape the broad outline of its growth scenario in the medium-term.

Despite significant job creation, unemployment and poverty remain high in Nigeria, while social indicators lag those of peers. As the SMEs know only too well, access to electricity, cost of doing business, and access to finance remains challenging, along with continued weaknesses in the labor market.

In any major crisis, transmission channels, too, play a central role. Nigeria could be affected by financial, trade and investment transmission channels. Potentially negative scenarios include a stalled US recovery, a new bout of uncertainty in Europe, the failure of the reform agenda in Japan, an unanticipated slowdown in China, and further plunge of the commodities.

The only way for Nigeria to move ahead is decisive and accelerated progress. That requires at least the following:

A strong reform momentum to avoid growth reversals, while building resilient institutions and deepening the rule of law. This is vital to improve competitiveness and productivity, boost growth and job creation, strengthen governance, and build social cohesion.

Intensified efforts at industrial diversification and inclusive economic growth to ensure that catch-up growth will increasingly benefit all segments of the society in Nigeria. This includes strengthening the transparency and governance of the oil sector.

Decisive efforts to neutralize domestic insurgencies, coupled with policies of reconciliation to overcome the kind of economic and religious polarization that fuels terror. In the absence of such efforts, internal divisions are likely to increase.

Adequate political consensus among the large parties to support enforcement in order to support reforms, even when the latter challenge entrenched interests. Without political consolidation, soft democratic institutions are likely to undermine efforts at structural reforms.

Dan Steinbock