Proposed PIB alone cannot insulate Nigeria from oil volatility

Nigeria has been unable to pass a petroleum industry law for nearly 20 years but the 9th National Assembly, due to its rancour-free relationship with the executive, may succeed in turning it into law. However, without amending the constitution to allow for saving some oil revenues, the country remains susceptible to shocks from a volatile oil market.

The 252-page Petroleum Industry Bill, 2020 covers the governance of institutions in the sector, the role of the minister, establishes two regulatory agencies, transforms the national oil company into a commercial entity, clarifies the relationship between host communities and oil companies, and provides a new fiscal framework for the sector.

Some of the provisions have interested industry observers. For example, it is legally putting an end to subsidies on petrol, the NNPC will become a limited liability company with a commercial focus, open up oil sector contracts enhancing accountability, and prevent companies from hoarding leases.

However, analysts say while these are necessary reforms, current efforts to reform should include ways to prevent mistakes of the past like an inability to save for a rainy day in periods of abundance to insulate the economy from a volatile oil market.

“It appears to be quite a comprehensive piece of legislation, which articulates many issues. However, a few issues such as financial savings are not dealt with,” said Ayodele Oni, energy lawyer, and partner at Bloomfield law firm.

“Although there is the Nigerian Sovereign Investment Act (NSIA), the PIB could do more to specifically complement the NSIA Act as regards oil wealth savings. Also, more could have been done in the PIB relating to transparency of revenues,” Oni said.

Price volatility is a common feature of the oil market, exposing oil-dependent countries like Nigeria to a regular economic crisis when prices tumble. A lack of transparency in managing oil incomes fuels corruption and communal agitations in the Niger Delta.

Between May 1987 and May 2020, according to the Nigerian Extractive Industries Transparency Initiative (NEITI) data, the oil market has seen about half a dozen periods of boom and busts with significant consequences to the Nigerian economy.

Oil prices started rising in 1990 in response to the Iraqi invasion of Kuwait on August 2, 1990, and reached a peak of $35.92 per barrel in October 1990.

Keeping with the volatile behaviour, oil prices started falling as the US-led coalition experienced military success against Iraqi forces, concerns about long-term supply shortages eased and prices began to fall and dropped briefly below $20 per barrel in March 1991.

Following this, oil prices were in the range of $18 to $22 per barrel but dipped to $14.51 per barrel in December 1993.

Subsequently, oil prices remained below $20 per barrel until March 1996. From April 1996, oil prices were between $18 and $22 per barrel.

The onset of the East Asian financial crisis brought in a crash in oil prices, with prices reaching a low of $11.28 per barrel in December 1998. The Asian financial crisis was a sequence of currency devaluations and other events that began in July 1997 and spread through many Asian markets. The currency markets first failed in Thailand as a result of the government’s decision to no longer peg the local currency to the US dollar (USD). Currency declines spread rapidly throughout East Asia, in turn causing stock market declines, reduced import revenues, and government upheaval.

After the crisis, oil prices started rising again and by January 2003, they were above $30 per barrel. This increase in prices continued and oil prices were above $100 per barrel in March 2008. They remained above $100 for seven months, peaking at $147 per barrel in July 2008.

According to the EIA, the main drivers were a strong world economic growth driving growth in oil use, moderate supply growth, increased interest and participation from investors and financial entities without direct commercial involvement in physical oil markets.

Oil prices fell sharply from October 2008 as a result of the global financial crisis and reached $39.16 per barrel in February 2009. It started with a subprime mortgage lending crisis in 2007 and expanded into a global banking crisis with the failure of investment bank Lehman Brothers in September 2008. Huge bailouts and other measures meant to limit the spread of the damage failed and the global economy fell into recession.

Thereafter, oil prices started rising again and crossed the $100 per barrel mark in March 2011.

Another period of oil price collapse started in late 2014. Following increased production from shale producers, oil prices fell from $103.59 per barrel in July 2014 to $59.29 per barrel in December 2014. This decline continued and prices reached a trough of $30.32 per barrel in February 2016.

Oil prices increased and were above $50 per barrel between 2018 and 2019.

However, the price war between Saudi Arabia and Russia and the onset of the COVID-19 pandemic led to a bust. Oil prices declined from $67.04 per barrel on January 2, 2020, to $37.71 per barrel on June 2, 2020, a 44 percent fall.

At each period of boom, Nigeria was reckless in its spending and at every bust, the economy was on its knees.

“With high prices and steady flow of cash providing an illusion of prosperity, decision-makers of resource-rich countries usually increase government expenditures and make other choices that cannot be sustained by low commodity prices,” NEITI said.

It said that in addition, natural resource dependence weakens accountability mechanisms, as extractive states (as opposed to tax states) are inclined to white-elephant projects, leakages, state capture, and graft.

This is why it has proposed a healthy minerals savings fund, the size of which should reflect not only the volume of revenues from mineral resources but also the size of the national economy.

Nigeria is already sold to the idea of saving some oil windfalls but the funds are mostly inadequately ring-fenced and are too tiny to fully serve the intended purpose.

At the thick of COVID-19, Nigeria’s three ‘rainy day’ funds – Stabilisation Fund, Excess Crude Account, Nigeria Sovereign Investment Authority (NSIA) – had about $2.25 billion, which can fund about 7.7 percent of the revised 2020 federal budget.

This compares poorly with Norway, with a sovereign wealth fund worth more than $1 trillion. To assuage the impact of COVID-19 on the government’s earning, Nigeria withdrew $150 million but Norway cashed $37bn. Norway’s withdrawal ($37bn) is about 25 percent higher than the Federal Government’s N10.5 trillion 2020 budget.

However, Nigeria’s challenges are more fundamental. NEITI suggests amending Section 162 (1) of the 1999 Constitution which prescribes that government income, apart from personal income tax, should be placed in the Federation Account and shared among the Federal, State, and Local Governments.

Former President Olusegun Obasanjo began the Excess Crude Account in 2004 to save oil revenues above income benchmarks and state governors balked. In reality, apart from spending patterns often described as frivolous, many states are challenged by today’s problems so the country needs to earn more money.

NEITI also recommended abolishing the 0.5 percent Stabilisation Fund and the ECA, then transferring the balance in those accounts to the NSIA.

The transparency watchdog further advised Nigeria to abolish the Oil Price-based Fiscal Rule (OPFR) where revenue in excess of oil price benchmark is saved and replace it with a mandatory saving of a percentage of daily oil production like Angola does, saving proceeds from 10 percent of its daily production.

This ensures savings at all times, whether prices are high or low. Nigeria can save proceeds of between 5 percent and 20 percent of its daily oil production. With this, Nigeria could easily save between $1bn and $3bn every year even in periods of low oil prices.

NEITI further recommends transferring the proceeds from the percentage of daily oil production to NSIA to invest in easily convertible instruments as well as raising the NSIA’s Stabilisation Fund from 20 percent to 40 percent and sharing dividends from NSIA’s earnings every year.

Nigeria has reviewed its Value Added Tax and recently passed a new company administration law. In addition, it must boost non-oil exports which, according to the Central Bank, increased from $4.6bn in 2018 to $10.4bn in 2019, bumping non-oil export to 16 percent of total exports ($64.9bn) in 2019.

“This is a good pointer to what is feasible. It will be important to further diversify sources of exports and foreign exchange earnings by boosting not just raw but processed agricultural and solid minerals exports, fast-tracking the export processing zones and providing reasonable incentives to attract investors to them, and introducing fiscal, monetary, and industrial policies that will make the country competitive for direct and portfolio investments,” NEITI said.