Khan: Nigeria Really Needs to Move Away from Oil

Ms. Razia Khan

The Chief Economist at Standard Chartered Bank for Africa and Middle East, Ms. Razia Khan, during her recent visit to Nigeria held an interactive session with journalists, where she spoke about her expectations from the Nigerian economy in 2020. Dike Onwuamaeze and Peter Uzoho provide the excerpts:

Africa and Nigeria’s Economic Outlook
We had taken the view that 2020 might be the first year that while we see a deceleration in global growth, we might for the first time in many years see the Sub Saharan African (SSA) economy growing a little bit faster than the global growth rate. A month into the New Year it seems likely that will be the case. Fortunately, for one reason because of the expectation that the global economy might be slowing even faster as previously hold. The concern was around the trade tension in the last year between United States and China and its impact multinationals decision about were to be producing from. All of these ultimately have dampened the effect of global growth.

It has been evident for the emerging market for some time. The dovish way that we saw with the emerging market last year and monetary authorities trying to add more stimulus was a symptom around this ground of slowing global growth. This year, with the Corona virus in China, concerns are more significant. We have revised downward our Q1 GDP growth for China to 4.5 per cent. Our concern is that we should not see an escalation of the virus to a level that it might have impact on the oil prices. When we were formulating our views on Nigeria’s GDP growth, this was based on a fairly constructive view of foil price.

The believe was that OPEC was in control of oil prices owing to the commitment by member countries in its December meeting to produce in line with OPEC quotas. This seemed to be strong support for oil prices. Since then, there has been concern on what might happen to global demand for oil, especially aviation fuel as global travels are impacted significantly by the Coronavirus. For the moment, our attention is focused on if the spread of the virus will affect oil demand in any significant way. But I think anyone looking at the Nigerian economy and looking at the susceptibility of the Nigerian economy to external shocks, especially a decline in oil prices in particular, will have to be concerned about this.

We have taken the view that a lot of this relative acceleration in the SSA growth in 2020 will be down to the fact that we see growth prospects in the three largest economies. If one puts Nigerian growth in perspective, for much of last year in Nigeria, we know that growth from Q2 to Q3 were driven by the oil sector and growth in production and prices. But we didn’t see the same strength in the non-oil sector, which accounts for 90 per cent of Nigeria’s GDP. This means that ultimately growth will come to very low level to about 2.4 percent which is below the population growth of 2.7 per cent. In fact, the income per capita of Nigeria has been contracting. The risk of course is if we will see a weak oil environment and that will impact activity in Nigeria’s environment. The susceptibility of external influences hover much in place.

Monetary Policy and its impact on Economy
On monetary policy, first of all, we have seen a lot of efforts by the central bank to encourage banks to lend much more aggressively to ramp up private sector credit creation in the Nigerian economy. We know that between May last year and the end December, in the last economic report, there was a N2 trillion rise in private sector credit extension. Some of that, roughly N400 million, I believe, was credit to manufacturing. There is a fair chunk of it that is credit for consumption purposes. But with N2 trillion for additional lending stimulation coming into the Nigerian economy from a reasonable low base, our expectation is that this will help to feed demand in 2020. The other point that we need to take into account is just how fiscal policy has operated in Nigeria since the late 2014 collapse of oil prices. For a long time, fiscal policy was constrained by the authorities which announce big budget with a big capital expenditure intention. But what we have been seeing year after year was that the budget cycle ultimately meant that Nigerian budget, only being signed into law around May or June was subject to significant delay.

For the first half of the year, the country will be operating on the recurrent expenditure budget of the previous year. And ultimately, we didn’t see the benefit of that because of the slowness of the budget cycle and how slowly budgets were actually being signed into law. The difference of course in 2020 is that for the first time in many years we have reverted to a more normal budget cycle. So, even though there is officially a very small material reduction in the amount of planned capital expenditure, the very fact that that can be put into operation, we think it will add to the economy. So, two factors are present now that have largely been absent since early 2015, in the Nigerian economy: the strong impetus to encourage private sector lending. One can understand that the immediate aftermath of the oil price collapse, there is great risk aversion in terms of the intention to lend. It is not exactly the kind of macro environment where financial institutions will have been thinking this is when you will really ramp up lending in the economy. Things are different now, and knowing that there has been N2 trillion of additional private credit extension alongside a more effective budget cycle, this really underpins our expectation that GDP growth in Nigeria in 2020 will be better, just modestly better, but still better than what we have become very used to in past years.

The Nigerian economy of course still has the potential to be growing much more significantly, but we think this will be an encouraging start and hopefully the return of more positive momentum hoping to attract more private investment into the country again, the return of confidence and the ability of the Nigerian economy to grow. The other thing that underscores our belief that we are going to see this acceleration in sub-Saharan African growth in 2020, is of course the weakness that we have seen in South Africa in recent years for entirely different reasons, really driven by domestic political factors.

Right now, electricity issue is at the front and center of the weak South Africa growth story and whilst a lot of analysts are focused on the problems of the state-owned electricity company- ESKOM, it has just announced the maintenance schedules. That will mean effectively there will be low shedding in place for a lot longer than has previously been believed, and that would be growth negative that takes away from growth. Nonetheless, there have been very important developments. The Government of South Africa in response to this crisis has essentially lifted restrictions that had been in place in private companies and their ability to generate renewable energy to meet their own consumption need. That we think is really important. Investment growth in South Africa has been weak for a long time.

If you take away that restriction on at least on the renewable side, you will be seeing g a lot more investment and generation capacity by private companies for their own use, but ultimately, the beginning of an investment cycle that looks a lot healthier. So, on both Nigeria and South Africa we are in fact above consensus in terms of our growth expectations; and those two economies are over 50 per cent of sub-Saharan African GDP. It has never been the case that the whole region had experienced weak growth, the commodity importing-countries of East Africa did particularly well. We saw the delivery of fairly-robust growth rate there.

Countries in Francophone West Africa, Ivory Coast that you see that is still here, Senegal which you don’t, but those are countries that gave been experiencing accelerated growth. Senegal has made the transition to becoming an oil and gas producer, growing above six and half per cent every year. Ivory Coast still one of the regional champions, even Ghana which went through an IMF programme. Normally, we think of IMF programmes involve fiscal restraints, great austerity, a slowdown of growth. Ghana was fortunate enough to be emerging as an oil and gas producer over that time, and so growth has not necessarily been that unhealthy. Southern Africa of course, if you look at the colour map of Africa, you can see that that is probably the weakest part in terms of the African story. But nonetheless, the expectation is that we should see just enough of a turnaround in both South Africa and Nigeria to lift African average growth.

Increasing China Lending to Africa
Another theme that has been especially topical in Africa has been what is China doing in the region? How much of the debt accumulation is basically happening with respect to China? And what we constructed here is a chart of the percentage of external debt that is owed to China in different economies. Now, we sense that as much as there has been a lot of attractiveness to Chinese lending, typically this is not available necessarily on purely commercial terms, it is not quite concessional either, but it tends to be available on more attractive terms than would be available from other commercial sources. Chinese lending also tends to come with a much longer time horizon. The maturity of the loans tends to be 15 to 20 years, and for borrowing countries it can be very attractive, such that that there is an initial grace period typically of around five years before any interest payments are do.

So, if you are an African sovereign or government and you are thinking how do you build infrastructure, then borrowing from China starts to look a lot more attractive. But we also know that many of these countries have had debt sustainability issues in the recent past. Zambia is in the process of negotiating with Chinese creditors. The re-profiling of its debts is trying to stand the debt maturities. So it has left to pay while it has got its bonds with Eurobonds that it also got to think about repaying or refinancing. Angola and Ethiopia have actually had some elements of debt forgiveness from China, and this means the behaviour that we have observed of a lot of policy bank lending -China policy bank lending in Africa in the recent past is that it is no longer the case that China seems to be increasing the amount that it is willing to lend without any consideration for credit risks. We think that policy banks are probably focusing on a lot more on credit risks.

They are looking at the projects that look more sustainable, that look as though they can be repaid. And it sounds surprising that against this backdrop, we have started to see headlines suggesting stepped up engagement between China and Nigeria. From September last year it seems as though there wasn’t a week they went by without there being an announcement of a new project being financed by different Chinese banks. It is clear that Nigeria has been a clear beneficiary of this closer look at credit quality in Africa. Nigeria still considered to be one of the more credit where the economies in the region with good long term prospects, and we are still seeing signs of very strong Chinese engagement in terms of Nigeria. We think is a point worth mentioning. Of course, when it comes to foreign exchange and the sustainability of current exchange rate regime, an important driver of this is just the amount of foreign ownership of local currency debt securities.

Nigeria’s preparation for oil price shock
Well, investors might look at foreign exchange reserves and get a little bit nervous about the sustainability of a stable exchange rate, and they might in return therefore demand higher risk premium from Nigeria. The want to know that they will gather higher return because of the perceived higher risks; and this could well emerge as a challenge that the monetary authorities in Nigeria will need to look at. Just broadly speaking in an Africa-wide basis, so far we have a lot of credit deterioration in the sense that when it comes to rating agency decisions on different economies, there have been far more credit rating downgrades in the recent past that there have been upgrades.

There has been far more assigning of a negative outlook to credit ratings than there has been necessarily assigning of a positive outlook, which will suggest that the next move may well be an upgrade to the ratings. And this is a feature of the macroeconomic cycle that we have seen. What we think it will take to change this trend is a return to growth-based growth in the region. The hope that we would see actual fiscal reforms, that revenue mobilisation might start to rise. These tend to be important drivers of the ratings perceptions of other African countries and no less so for Nigeria.

On Diversification of Nigeria’s Economy
The expectation that the collapse in oil prices in 2014 and 2015 would led to more diversification of the Nigerian economy has not been a reality. The oil export proportion to total export is still around 90 per cent. This doesn’t mean that there have not been the building blocks. There are, but what that is needed to move away from oil there need to be more economic debt outside the monthly allocation model that Nigeria has had over the decades. The question is, are we really seeing a new building block to drive a new longer term growth? Allocation is a challenge faced by many resource economies. Higher oil prices will effectively lead to higher FAAC allocations. There will be much more liquidity slushing around the economy. But when oil prices fall the reverse will be the case.

The problem with this model is that it creates more importance for the government in the economy. If government is spending the private sector will do well and everyone will feel good. If government is not spending because oil price is not strong that feel good mood will disappear. The Nigeria’s challenge is to really move away from this model to a one that the 90 per cent of the GDP will become much more resilient and the country less susceptible to external shocks. Even the CBN has called on the federal government to stop the FAAC allocation and start building fiscal buffers. Oil is not a renewable resource. It is what you do with the proceeds of the sale that will be important. But the question is whether there will be enough liquidity from other sources to compensate for that.