The Imminent Return to Fuel Subsidy Regime?


Yemi Kale

With the proposed output cut by the Organisation of Petroleum Exporting Countries (OPEC) to re-balance the global crude oil market, which has already seen prices surging, coupled with the soaring exchange rate in Nigeria, Ejiofor Alike reports that the return of fuel subsidy regime is imminent unless government deregulates the downstream sector as the N145 per litre pump price of petrol predicated on N285 per dollar is becoming increasingly unsustainable

The increasing volatility of the exchange rate, coupled with the gradual recovery of the crude oil prices, has made the official prices of petrol increasingly unsustainable.

This development, according to stakeholders in the downstream sector, has the potential to plunge the country into another fuel crisis, unless the federal government re-introduces the fuel subsidy regime or fully deregulate the downstream sector to allow the market forces of demand and supply to dictate prices.

When the federal government took a bold step on May 11 this year to adjust the prices of petrol upwards to reflect the market dynamics, the new prices were based on the exchange rate of N285 per dollar.

In the circular with reference number A.4/9/017/C.2/IV/690 dated May 11, 2016, the Petroleum Products Pricing Regulatory Agency (PPPRA) had directed the marketers to sell petrol within the price band of N135 to N145 per litre at filling stations as against the then prevailing N86.50 per litre.

For marketers, who will hire shuttle/daughter vessels to lift the product from the mother vessels at the high seas to their depots, these marketers are required to pay indicative ex-depot price (coastal price) of N126.63 per litre (maximum).

But for product that is already in the depots, the PPPRA directed that the maximum ex-depot price for collection would be N133.28 per litre, as the Bridging Fund, Marine Transport Allowance and Administrative Charge had been factored in.

With an exchange rate at N285 per dollar and crude oil price below $43 per barrel as at early May, it was profitable for the marketers to bring product from the international market and sell at the new prices that took effect from May 11.

The new prices also eliminated the subsidy element in fuel pricing and effectively ended the subsidy regime, which became unsustainable in recent years when crude oil prices soared above $100 per barrel and trillions of Naira wasted in payment of subsidy claims to marketers.

However, the dynamics of the crude oil market has changed, with prices increasingly showing signs of recovery, while the exchange rate has since soared above the N285 per dollar benchmark, potentially making the N145 pump price unprofitable for importers.

Recovery of Crude Oil Prices

From a peak of $115 per barrel in June 2014, crude oil price had dropped to a 13-year low of $27 per barrel in January this year due to the oversupply in the market.

Gradually, it had recovered to about $43 per barrel in May when the federal government fixed the current prices of petrol.

The production of Shale gas and oil by the United States was responsible for the huge glut in the oil market, which led to the plummeting prices of crude.

With the drop in the prices of crude, the cost of refined products also dropped significantly, with the government incurring little in the payment of subsidy in 2015 before exchange rate rose considerably.

At $43 per barrel, petrol was supposed to be below N100 per litre at the pumps but for the rising exchange rate, which made it impossible for Nigerians to enjoy low fuel price in the face of the drop in the international prices of crude oil.

However, after the government released the new prices in May, the prices of crude started to recover gradually to the extent that on May 17, the production disruptions in Nigeria, Canada and Venezuela forced the prices to hit their highest level in seven months at $48.41 per barrel, thus surging towards $50 per barrel.

While the then raging wildfires in oil-rich Canadian province of Alberta had forced major oil companies to cut production by about 1.2 million barrels of oil per day, Niger Delta militants had also launched attacks on oil and gas facilities that initially cut off Nigeria’s output to a 20-year low of 1.4 million barrels per day.

In Venezuela, crude production had also dropped following severe economic recession caused by political unrest, inadequate electricity supply, food crisis, medical supply shortages and outbreak of Zika virus.

The disruptions in these three countries had reduced the volume of crude in the international market, thus leading to the gradual recovery of prices.

As the crude prices were inching towards $50 per barrel, the cost of refined products at the international market was also rising.

By June this year, the prices hit their first 2016 peak of $52 per barrel before it dropped below $50 per barrel.

Earlier this month (October), crude prices hit another peak of $53 per barrel before it dropped to around $50 per barrel.

To further reduce the glut in the market, the OPEC also took a landmark decision in their September 28 meeting to cut output in their next meeting on November 30.

The Head of the International Energy Agency (IEA), Paris-based energy advisor to the industrialised countries, Mr. Fatih Birol, recently predicted that the crude oil market, which is currently oversupplied, would re-balance earlier than expected if OPEC implements the decision to cap production.

The gradual removal of the excess inventory in the global oil market will re-balance the market and increase the prices of crude oil and refined products, thus making the current fuel prices in Nigeria unsustainable.

Soaring Exchange Rate

The difficulty being experienced by marketers in importing petrol first started when in a bid to save the banks and the economy from collapse, the Central Bank of Nigeria (CBN) classified oil and gas sector into one segment and set a limit for lending by the banks.

The CBN had grouped the exploration and production (E &P); downstream and services into one segment referred to as ‘oil companies’ and directed the banks not to exceed certain lending limit to this sector.

That was the origin of the crisis as the marketers had argued that the CBN should have treated each of the three as a separate business entity.

After grouping the oil and gas sector into one segment, the apex bank in December 2014 directed the banks to reduce their exposure to oil companies to curb the challenges of meeting the huge funding demand of these companies and also address other liquidity issues.

The CBN’s directive stemmed from the result of an earlier risk-based supervision exercise carried out by the apex bank, which revealed a huge financial exposure of the banks to the oil and gas sector.

The apex bank was said to be concerned about some risk management deficiencies, and was determined to take necessary steps to ensure that banks have sufficient capital buffers to mitigate escalating risk-taking activities.

The second directive of the apex bank that affected the marketers was the closure of the retail Dutch Auction System/wholesale Dutch Auction System (rDAS/wDAS) segment of the foreign exchange market. CBN’s action was an indirect devaluation of the Naira at the interbank forex market and this made it difficult for marketers to access FX at affordable rates to enable them sell product at official prices.

After the closure and quoting of an exchange rate from N197 to N285 per dollar, the government increased the pump price to N145 per litre, which was profitable for marketers.

However, according to the marketers, the volatility experienced in recent months with exchange rate soaring above N400 per dollar, has made it impossible for them to access dollar at the N285 per litre official price.

The Minister of State for Petroleum, Dr. Ibe Kachikwu, had taken bold steps to get foreign exchange for the marketers from the international oil companies (IOCs) but the IOCs, it was learnt, no longer give dollar to the marketers at the N285 rate.

Some of the marketers had told THISDAY that none of them would enjoy any margin at exchange rate of above N285 per dollar.

So, having successfully exited the subsidy crisis, the downstream sector has moved into exchange rate crisis, which could engender a return to subsidy regime and its attendant crisis.

NNPC Confirms Subsidy Regime

However, after months of struggling to sustain fuel imports under the current foreign exchange regime, the NNPC recently admitted that the country is already in a subsidy regime.

The corporation also confirmed the position of the marketers that the sale of petrol at the current market price of N145 per litre was unsustainable due to the prevailing exchange rate.

NNPC also admitted that despite the preferential exchange rate made available to oil marketers to import petrol, many were reluctant to do so because they would be selling at a loss at the prevalent pump price, implying that NNPC imports and sells to marketers at subsidised price.

Group General Manager, Crude Oil Marketing Division at the NNPC, Mr. Mele Kyari, who made the confirmation in Lagos, revealed that fuel is currently being subsidised but that, “We (NNPC) have taken the heat”. He insisted that no marketer would import the product and make a profit if he sells at N145, stressing that marketers who currently sell below the N145 pump price do not import the product.

“Today, are we in a subsidy regime? Absolutely. There is no way you can bring products today and take it and sell at N145 and get back your money, and make a profit. That is not possible.

“You can see some marketers saying that fuel is N138. It is because they did not import it. But someone has taken the heat; indeed, we (NNPC) have taken the heat, and you buy from us, so you can afford to go to the market and then put a ridiculous price. It is possible, because they did not import it,” he added.

Kyari, who maintained that there was no way petrol would continue to be sold at the current pump price, was however quick to add that the present administration would not announce another increase in the petrol pump price, because Nigerians would not accept it.

According to him, legislation by the National Assembly would be required for petrol to be sold above N145 per litre. He said some suppliers had already stopped importation because of the current pricing regime.

“We have a very difficult business environment. It is impossible today to import products at the current market price – at the current foreign exchange rate. There is no way today you can take the product to retail and sell at N145. It is not possible today.

“If that is true and I believe that it is true because we all go to the market, why can’t we sell above N145? That is where legislation should come in,” Kyari said.

“I also know today that it is impossible for this government to announce tomorrow that petrol is about N150. This government cannot do it. That is the truth. The people will not take that number. That is why suppliers are not importing,” he added.

Kyari further argued that the scarcity of FX was not responsible for suppliers’ inability to import, adding that the NNPC had created “a niche FX market” for them.

“It is not FX. We have created a niche market for FX. I am part of the committee that allocates FX to marketers. But it is rejected, and the reason being given is that the FX is not enough to import. But that is not the truth,” he said.

According to him, suppliers were refusing to import because they would be selling at a loss as long as the pump price is left at N145 per litre.

“The truth is that marketers go back to the international market and land the product here, that you are required to sell it at N145 maximum. I am sure they won’t make it. That is the main reason why people are not importing today. It is not FX,” he explained.

“So the issue is not FX scarcity. As I speak to you, there is stranded FX that nobody is ready to pick. We have closed the chapter on FX,” Kyari explained.

Kyari’s position was also in line with the position canvassed by the former and present Group Managing Directors of the NNPC, who had, in their meeting in September with Kachikwu in Abuja, expressed fears that the current pump price of N145 per litre was no longer feasible.

In their communique at the end of the one-day meeting, the GMDs argued that the price did not correspond with the price-determining components of the commodity and the fluctuations of the foreign exchange rate.

“They (the GMDs) noted that the petrol price of N145/litre is not congruent with the liberalisation policy especially with the foreign exchange rate and other price determining components such as crude cost, Nigerian Ports Authority charges, etc remaining uncapped,” NNPC had said in a statement.

Political Expediency

Though both the NNPC and the private marketers have agreed that the new prices of petrol are not sustainable, the NNPC has insisted that there is no plan by the federal government to increase the price of petrol from its current N145 per litre.

The Group General Manager, Public Affairs in NNPC, Mallam Garba Deen Muhammad, argued that there would be no need for the government to undertake an upward review of the price of petrol, because in its estimation, there was oversupply of the product in the country.

On the rising cost of crude oil at the international market, which has the potential to hike the prices of refined products, the NNPC also claimed to have sealed long-term supply deals with suppliers to mitigate whatever price shock the development might bring on its downstream operations.

Muhammad also disclosed that a new regime that would allow petroleum marketers have more access to foreign exchange to aid fuel importation had been negotiated and taken off.

According to him, if there is going to be any upward review of prices, the PPPRA, which is the agency responsible for fixing price will definitely communicate to Nigerians and give reasons why that will happen.

From the position of the NNPC, it is evident that the federal government is already subsidising fuel price through the corporation but would not embark on immediate upward review of prices due to the current economic mood of Nigerians and political expediency.

However, with the soaring exchange rate in Nigeria and rising cost of crude in the international market, it will not be long before the federal government swallow the bitter pill of removing the cap on petrol price by deregulating the downstream sector or risk being choked by another corrupt and ineffective subsidy regime.