Nigeria lags peers as policies flop

The past year has been as challenging as well as decisive for Nigeria, Africa’s largest economy, reeling from a decline in global oil prices and below trend production volumes inflicted by aggrieved militants who, because they wanted a larger share of the country’s oil wealth, blew up pipelines in the Niger delta.

After decades of gorging itself on petrodollars, the economy was quickly unsettled with these new realities of the oil market, leaving every economic indicator flagging red.

GDP growth shrank 0.36 percent, 2.06 percent and 2.24 percent in the three successive quarters of 2016, while inflation and unemployment rates soared to fever-pitch levels.

December inflation hit an 11-year high of 18.55 percent, almost three times higher than a preferred band of 6-9 percent. While an unemployment rate of 13.9 percent, as at the third quarter of 2016, is the highest in six years.

The National Bureau of Statistics (NBS), when it publishes the fourth quarter GDP report on February 24, is likely to confirm that the country witnessed its first full year economic contraction since 1991.

In the wake of declining petrodollars, the local currency-naira- has also come under duress from the bulk of businesses which rely on dollar imports, but are finding it difficult to meet their required needs, thereby fuelling a dollar demand backlog well over $4 billion.

Indeed, President Muhammadu Buhari’s bounce soon became bust following his election in 2015 which saw an incumbent lose an election to opposition for the first time since a permanent shift to democracy in 1999.

The 74-year old’s administration tried to redeem its popularity among the electorates with a raft of policies, most of which have been unpicked below to analyse their impact.

 

Policy Responses

The need to fend off exchange rate volatility, spur economic growth and tame inflation opened the door to a raft of monetary and fiscal policies.

 

Monetary Policies	Aim	Unintended consequence
Pegged FX regime	·      Fend off naira weakening against dollar ·      Avert cost pressure on households and businesses	·      Foreign investors fled ·      Black market naira soars, Fuels round-tripping, Cost push inflation
Naira devaluation	·      Attract autonomous FX inflows ·      Provide dollar access to businesses	·      Currency remains overvalued and unattractive to portfolio investors
41 items IFEM access ban	·      Manage dollar demand side ·      Support local production	Driving traffic to parallel market
Interest rate hike	·      Ensure price stability/lure portfolio investors	High cost of capital, private sector crowding out
Fiscal Policies
Fuel price hike	·      Shave subsidy costs and avert fuel scarcity	Accelerating cost of food items
Expansionary budget	·      To stimulate economic growth	Too small to have significant impact

 

Pegged Foreign exchange regime

The naira was initially pegged at N199 to the dollar by the Nigerian Central Bank, in a bid to shield businesses and households from cost shocks sparked by a weaker naira.

But it didn’t work.

The policy mopped dollar liquidity from the official market as opportunities for round-tripping flung open in the parallel market where the dollar sold at a higher premium of around N300 per dollar.

The same businesses and households President Buhari claimed to be protecting were hard hit, since a sizeable chunk of them turn to the parallel market for dollar needs.

The country’s economic woes created a divide among analysts. Some held that the hard peg be reviewed to allow for a more flexible and market driven naira, while others backed President Buhari who likened devaluation to murder.

As debates over the CBN’s monetary policy brewed, oil peers from Russia to Colombia who had let their currencies depreciate in alignment with falling oil prices which hit their foreign-exchange receipts, were reaping the dividends of a currency float.

Pulling down a rubble peg against the dollar and Euro in 2015, brought an end to two decades of exchange rate controls, and has stabilized the exchange rate and brought inflation within the preferred single-digit range.

 

Russia is finding a soft landing after allowing the rubble float

 

	GDP growth (%)	Exchange rate movement in 2016	Exchange rate regime	Inflation
Nigeria	-1.7	53.2% depreciation	Pegged	18.6
Angola	3	19.64% depreciation	Pegged	41.95
Venezuela	-5.7	73.6 % depreciation	Fixed	180.9
Russia	-0.4	21.46% appreciation	Floating	5.4

Source: Bloomberg, BusinessDay

 

Naira devaluation

Officials finally caved in to devaluation on June 20, after 15 months of an unpopular currency peg.

The naira quickly plummeted by almost 30 percent to N280 per dollar on the first day of trading.

The intention of floating the currency was to attract autonomous dollar inflows by luring back portfolio investors who had dumped naira assets in the period of a currency peg, according to the Central Bank governor, Godwin Emefiele.

It did work from the onset, as foreign inflows slowly trickled in.

In clear signal that June 20’s big devaluation proved decisive in attracting foreign capital, the capital imported in June rose significantly and made up for record low inflows in April and May to boost total capital importation in the second quarter of 2016 to $1.04 billion.

The level of capital imported in June was $610.77 million, more than double the amount recorded in the preceding months of April ($305 million) and May ($125 million) combined.

However, the result was short-lived, as the CBN panicked in the face of a fast declining exchange rate and stepped in to halt the slide and soon reintroduced a peg.

The naira went on a five month run hovering tightly around N305 per US dollar and became too hot to handle for investors and traders who saw further depreciation.

Today, the currency still hovers around N305/$ and the CBN has resisted calls to step back and allow the market pull the strings of the naira.

The effect of this has been a runaway black market naira which has widened the gap between the official (N305/$) and unofficial naira value (N500/$) to a record N195/$.

But Nigeria can tow the path of African peer, Egypt, towards a sustainable foreign exchange policy. Although this would immediately stoke inflation.

In the second half of 2016, Egypt kick-started a raft of reforms which led to the adoption of a flexible exchange rate regime, increase in Value Added Tax (VAT) and reduction in energy subsidies.

Nigeria has already opted for a VAT increase and claims it is committed to a subsidy removal. However, it has shrugged off calls to adopt a truly flexible exchange rate regime, having subtly returned to the currency peg it claimed to have abandoned in June, 2016.

A sincere adoption of the Egypt-style reforms would be long-term positive in trimming Nigeria’s N2.4 trillion 2017 budget deficit and boosting foreign capital flows; but may bring short-term pain to consumers.

Egypt’s reforms resulted in a 36.6 percent decline in the value of the Egyptian Pound to the Dollar but bolstered investor sentiment in Egyptian assets as increased capital flows drove the local bourse 76.2 percent northwards in 2016.

To ease the short term pains being felt by Egyptian consumers and corporates with foreign currency liabilities, social protection programmes were introduced.

It can suffice for Nigeria, which has already started welfare programmes of its own, like the conditional cash transfer of N5, 000 targeted at the most vulnerable persons in the country.

Similar to Egypt, emerging markets such as Russia and Brazil, which were also negatively affected by the fall in commodity prices with pressures on their respective domestic currencies and prices, maintained a flexible foreign exchange policy and implemented market friendly policies to buoy confidence and adjust to the oil shock.

As such, inflation rates trimmed to 6.1 percent and 6.3 percent in December 2016 from the highs of 17.5 percent and 10.8 percent respectively in 2015.

Brazil and Russia recorded capital inflows (FDI and FPI) worth US$261.6bn and US$31.1bn in the first nine months of 2016 compared to outflows of US$284.3bn and US$39.9bn in 2015 respectively.

The Russian Rubble and the Brazilian Real appreciated 20.1 percent and 22 percent after depreciating 20.3 percent and 32.8 percent, respectively in 2015.

Meanwhile, the total value of capital imported into Nigeria in third quarter 2016 was estimated at US$1.8 billion; this represents a 33 percent decline when compared with the corresponding period in 2015.

Capital importation, bogged down by foreign exchange risks, fell further to $1.5 billion in the fourth quarter adding to a total of $5.1 billion in full-year 2016, the least in 9 years.

Within the period, the Naira recorded the worst performance of all asset classes, tumbling 35 percent and 46 percent against the US Dollar in the official and parallel markets respectively while also underperforming Emerging and Frontier market peers.

This can suffice for an indication that the hard peg has fallen short of expectations.

 

41 items ban

The dollar embargo on a list of 41 items from steel sheets to toothpicks was introduced by the CBN in August 2015 to curb imports and ease the pressure on dollar demand.

The policy came about as the country’s stock of foreign currency thinned due to a decline in dollar inflow which was brought on by militant attacks on oil pipelines, decade-low oil prices, reduced diaspora remittances and low foreign investment inflows.

Petrodollars account for 95 percent of Nigeria’s foreign exchange earnings, necessitating the need for dollar-demand management to preserve scarce dollars.

Godwin Emefiele said the dollar embargo on the blacklisted 41 items was helping to reduce importation and drive appetite for locally made goods.

Truly, there was a decline in imports last year, according to the National Bureau of Statistics (NBS), but the naira depreciation, weak purchasing power and the fuel subsidy removal must take some credit as well.

In dollar terms, the NBS noted that imports fell 12.5 percent to $7.53 billion (N2.41 trillion) in the first nine months of 2016, from $8.61 billion (N1.68 trillion) in the same period of 2015.

Imports are currently at their lowest in at least 4 years, according to CBN data.

Appetite for locally made goods is seen rising, and a clear indication is the dramatic jump in sales for indigenous palm-oil companies, Okomu and Presco, which can thank the dollar restriction and naira devaluation for making them more competitive against foreign companies.

Meanwhile, though the dollar restriction policy has been a boon for the likes of Okomu and Presco, it has stifled growth for other indigenous manufacturing companies and has thrown the entire sector into a recession. Maybe one tree cannot make an entire forest after all.

It became very confusing when one of the top benefactors from the policy, Okomu, said the policy was counter-productive.

Graham Heifer, the palm oil company’s managing director told BusinessDay that the policy had come short of expectations.

“When we compare 2016 to 2017, there has been an increase in palm oil imports,” Heifer said. “The concept seems not to have done what it sought to do,” he said, despite admitting the policy has been a boon for his company.

Okomu’s net profit, driven by revenue from its palm oil segment, spiked 92 percent, year-on-year, to N3.1 billion in the first three months of 2017, according to Heifer.

“Import substitution is a problem when local supply cannot meet demand,” Hefer added.

Clearly, local supply of some of the blacklisted items is unable to meet demand and has left manufacturers operating below capacity. In the meantime, the policy has rocked inflation, as manufacturers pass on costs of sourcing dollars at a premium outside the official window to consumers.

The manufacturing sector which contributes 9.5 percent to total GDP has been declining since 2015, according to NBS data.

Frank Jacobs, chairman of the Manufacturing Association of Nigeria (MAN) said about 16 of the total items on the list are critical raw materials for intermediate goods produced in the country.

Jacobs added that the dollar embargo led to the fold-up of about 272 manufacturing companies, unable to sustain production due to exorbitant dollar costs at the parallel market.

The dollar embargo is also fanning the disparity between the official and unofficial naira value.

Unable to get dollars at the interbank market, importers of these items turn to the parallel market.

The policy undermines bridging the gap between both markets and has been widely criticised by economists and stakeholders.

Rather than maintain such a policy, analysts recommend other measures to discourage imports such as increasing importation tariffs, which would also help prop up government revenue.

Alternatively, perhaps government should help local producers compete better with foreign products by providing better infrastructure rather than resort to tariffs to discourage imports and abuse globally accepted trade policies.

Regarding FX allocation, allowing the market distribute resources remains a better option.

Egypt has now been able to merge its official and parallel markets, although the Egyptian pound (EGP) had to go from the second most expensive currency in emerging markets to the third weakest, crashing 62.5 percent to 13/$ from 8/$ after officials floated the local currency.

It appears for long-term dividends, short-term pain is inevitable.

 

Interest rate hike

More often than not, the Monetary Policy Committee (MPC) of the CBN went into its bi-monthly policy meeting in 2016, confused on whether to raise benchmark lending rates at a time of weak growth or risk fuelling inflation.

Inflation- fuelled by rising food and energy costs- however, often took precedence over stimulating credit flow in the economy.

Nigeria increased interest rates by 300 basis points to 14 percent from 11 percent in 2016.

The Central Bank first raised rates in March by 100 basis points to 12 percent from 11 percent, before it raised rates again in July by 200 basis points to 14 percent from 12 percent.

Across sub-Saharan Africa’s top ten economies, Nigeria was second only to Angola, as the country with the most change in interest rates in the period.

Angola raised its rates by 500 basis points while, South-Africa- in third place- increased rates by 25 basis points.

Much to analysts’ expectations, the apex bank- for the third consecutive time- retained its interest rate at 14 percent, while it also retained the Cash Reserve Requirement (CRR) and Liquidity Ratio at 22.5 percent and 30 percent respectively at its first meeting in 2017.

However, despite leaving interest rates at a record high of 14 percent, portfolio investors have no confidence in naira assets, as demonstrated in the fourth quarter capital importation report published Wednesday, Feb.1 by the National Bureau of Statistics (NBS).

Portfolio investment, which shows investment in financial securities, shrank 70 percent to N284 million year-on-year from N952 million in the same period of 2015; but represents a 69 percent decline from N920 million in the third quarter.

Bogged down majorly by reduced portfolio inflow, total capital importation in 2016 fell to $5.1 billion, the least in nine years according to NBS data.

Interest rate hike has also failed to taper inflation, even though some analysts contend that December inflation saw the least incremental rise since November 2015, making a case for the effectiveness of a rate hike.

Inflation accelerated consistently through 2016, cementing an 11-year high of 18.55 percent in December, and is about 900 basis points above the CBN’s preferred band of between 6-9 percent.

 

	Q3 GDP growth rate	Q2 GDP growth rate	Q1 GDP growth rate	Inflation rate (December)	Interest rate (%)
Nigeria	-2.24	-2.06	-0.36	18.55	14
South-Africa	0.2	3.5	-1.2	6.8	7
Kenya	5.7	6.18	5.7	6.4	10

Source: NBS, CBN, Bloomberg

 

Fuel price hike

President Buhari was forced to take one of his most difficult policy decisions on May 16, when the government adjusted fuel prices to conserve scarce dollars in the face of a decline in oil revenue- the largest source of foreign exchange earnings and government financing.

The Minister of State for Petroleum Resources, Ibe Kachikwu, said that the federal government would have had to cough up N16.4 billion every month to offset the subsidy claims of oil marketers had it not taken the decision.

The price adjustment saw the retail price of fuel jump 68 percent to N145 per litre from N86.50.

However, subsidy has crept back in despite claims by the government to have stopped it.

Petrol landing costs have soared to almost N150 per litre according to the Petroleum Products Price Regulation Agency, on the back of higher crude oil prices and a weaker naira, yet the retail petrol price remains pegged at N145 per litre.

While Nigeria has resisted calls to review the 8-month old petrol price template already rendered obsolete, Saudi Arabia and Mexico, will ditch artificially low petrol costs this year, as the increase in international oil prices combined with strained public finances make it too expensive to maintain artificially low prices.

At root, the difficulty for Nigeria is that it exports too little oil per person, to offer a significant fuel subsidy.

Gulf countries export 25 times more oil per person and even they are removing fuel subsidies.

A subsidy will amount to a huge strain on public finances at a time of declining petrodollars.

For now, the state-owned NNPC is the most active importer of refined petrol products, which it then sells to marketers at subsidised prices to contain any further price hike.

Whether this is a sustainable model, time will tell.

 

Expansionary budget

 

Nigeria	5-year average	2016
GDP growth in %	3.86	-1.7
Inflation in %	10.69	18.6
Exchange rate (IFEM/Parallel)	190.44/222.67	305/490
External reserves	35.33	25.84
External debt (in billion USD)	25.24	33.2

Source: NBS, CBN, Bloomberg

 

To tackle its economic slump, Nigeria turned to an expansionary budget in line with the tenets of British economist John Maynard Keynes.

The crux of Keynes’s theory, which has come to bear his name, is the assertion that aggregate demand—measured as the sum of spending by households, businesses, and the government—is the most important driving force in an economy.

Keynesian economists justify government intervention through public policies that aim to achieve full employment and price stability.

Pressed to spend its way out of economic recession, Nigeria signed off a N7.4 trillion budget for 2017, the biggest budget ever in naira terms, even when it does not have the revenues to back it up, with oil trading at half the price today compared to early 2014.

President Muhammadu Buhari, on December 14 2016, presented a N7.02 trillion Budget to the National Assembly, tagged “The Budget of Recovery and Growth.”

Lawmakers later approved a N7.4 trillion budget, after altering the budgeted price of oil from $42.5 per barrel as proposed by Buhari, to $44.5 per barrel.

Although there is an increase in naira terms, the 2017 budget, in dollar terms, is 20 percent less, at $24 billion, compared to 2016’s $30.7 billion budget (N6.06 trillion- at an exchange rate of N197/$).

But a federal budget of N7.4 trillion would be insufficient to drive economic growth in a country of over 180 million people. The budget is like a drop in an ocean when you do the math.

Evenly split among the people, the budget comes to around 40,000 per annum and is less than 7 percent of the country’s N90 trillion Gross Domestic Product (GDP).

That’s deplorable compared to South-Africa’s 20percent and Ghana’s 15 percent, yet even these two know better than anchor economic growth on public spending alone.

What this means is that we may be unable to solve Nigeria’s economic problem by government spending alone, especially with the stipend it makes with oil prices trading half the price it traded in early 2014.

This is why Nigeria must incentivise private capital. To do this, we must have a market-driven economy and the right policy framework to stimulate private capital. The ease of doing business must improve.

But all of this is hardly a new counsel for Africa’s most populous nation, tipped to expand by a paltry 0.8 percent this year by the International Monetary Fund (IMF).

 

LOLADE AKINMURELE