IMF recommends further VAT rate increase in Nigeria

In order to reduce debt sustainability risks, the executive directors of the International Monetary Fund (IMF) on Monday called on the Nigerian government to consider significant domestic revenue mobilization, including by further increasing the value-added tax (VAT) rate, improving tax compliance, and rationalizing tax incentives.

The IMF directors made the call in the 2021 article iv consultative with Nigeria where they highlighted the urgency of fiscal consolidation to create policy space and reduce debt sustainability risks.

They said the outlook for Nigeria faces balanced risks. On the downside, low vaccination rates expose Nigeria to future pandemic waves and new variants, including the ongoing Omicron variant, while higher debt service to government revenues (through higher US interest rates and/or increased borrowing) pose risks for fiscal sustainability.

A worsening of violence and insecurity could also derail the recovery, the Washington-based Fund said in a statement on Monday.

On the upside, the non-oil sector could be stronger, benefitting from its recent growth momentum, supportive credit policies, and higher production from the new Dangote refinery.

Nigeria’s ratification of the African Continental Free Trade Agreement could also yield a positive boost to the non-oil sector while oil production could rebound, supported by the more generous terms of the Petroleum Industry Act.

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IMF directors also urged the removal of untargeted fuel subsidies, with compensatory measures for the poor and transparent use of saved resources. They stressed the importance of further strengthening social safety nets.

They welcomed the removal of the official exchange rate and recommended further measures towards a unified and market-clearing exchange rate to help strengthen Nigeria’s external position, taking advantage of the current favorable conditions.

They noted that exchange rate reforms should be accompanied by macroeconomic policies to contain inflation, structural reforms to improve transparency and governance, and clear communications regarding exchange rate policy.

IMF directors encouraged Nigeria’s Central Bank to stand ready to adjust the monetary stance if inflationary pressures increase.

They considered it appropriate to maintain a supportive monetary policy in the near term, with continued vigilance against inflation and balance of payments risks.

The directors recommended strengthening the monetary operational framework over the medium term—focusing on the primacy of price stability—and scaling back the central bank’s quasi-fiscal operations.

The directors welcomed the resilience of the banking sector and the planned expiration of pandemic-related support measures.

They agreed that while the newly launched eNaira could help foster financial inclusion and improve the delivery of social assistance, close monitoring of associated risks will be important.

They also encouraged further efforts to address deficiencies in the Anti-Money Laundering and Countering Financing of Terrorism (AML/CFT) framework.

The directors emphasized the need for bold reforms in the trade regime and agricultural sector, as well as investments, to promote diversification and job-rich growth and harness the gains from the African Continental Free Trade Agreement.

Improvement in transparency and governance are also crucial for strengthening business confidence and public trust. Directors called for stronger efforts to improve the transparency of COVID-19 emergency spending.

The IMF said the Nigerian economy is recovering from a historic downturn benefitting from government policy support, rising oil prices, and international financial assistance.

Nigeria exited the recession in 2020Q4 and output rose by 4.1 percent (y-o-y) in the third quarter, with broad-based growth except for the oil sector, which is facing security and technical challenges.

Growth is projected at 3 percent for 2021. Headline inflation rose sharply during the pandemic reaching a peak of 18.2 percent y-o-y in March 2021 but has since declined to 15.6 percent in December helped by the new harvest season and opening of land borders.

Reported unemployment rates (end 2020) are yet to come down but more recent COVID-19 monthly surveys show employment back at its pre-pandemic level.

Despite the recovery in oil prices, the general government fiscal deficit is projected to widen in 2021 to 5.9 percent of GDP, reflecting implicit fuel subsidies and higher security spending.

Moreover, the consolidated government revenue-to-GDP ratio at 7.5 percent remains among the lowest in the world. After registering a historic deficit in 2020, the current account improved in 2021, and gross FX reserves have improved, supported by the IMF’s SDR allocation and Eurobond placements in September 2021.