Nigeria with its demography and potential, has the capacity to be much-more than an oil dependent economy and so, the latest sharp drop in crude oil price should be seen as an opportunity to reform the economy, writes Obinna Chima
Nigerians, especially policy makers, woke up on Monday, to the rude shock of a sharp drop in the price of crude oil, the country’s major source of revenue.
It fell by 30 per cent in just one day, thereby causing apprehension in the economy.
This emerged just as the country was battling to find ways to cushion the likely effect of the outbreak of the coronavirus, which could pose a major threat to Nigeria’s macroeconomic fundamentals.
The slump in crude oil price was triggered by a price war between Saudi Arabia and Russia. As of Monday, oil price had suffered its biggest fall since the day in 1991 when American forces launched air strikes on Iraqi troops following their invasion of Kuwait, as the benchmark Brent crude price closed at $35.45 per barrel.
Monday’s crash spooked markets that were already freaking out about the impact of the coronavirus pandemic on the global economy and demand for oil, according to a CNN report.
Saudi Arabia, the world’s top exporter, had launched a price war over the weekend. The move followed the implosion of an alliance between the OPEC cartel, led by Saudi Arabia, and Russia.
Indeed, this development matters to Nigeria because oil revenue remains the backbone of the economy and provides majority of the country’s revenue and forex inflow.
In fact, oil accounts for about 80 per cent of the federal government’s revenue and that explains why oil price movement is often the bellwether for the country’s economic health, and why there is a swift pass-through on exchange rate and inflation.
Crunch Time for Policymakers
In response to the volatility in global oil prices occasioned by the impacts of the outbreak of COVID-19 and the oil price war, the federal government on Monday raised a committee to cut the size of the N10.59 trillion 2020 budget, which is under threat of underfunding.
The committee, which was constituted by President Muhammadu Buhari, has as members the Minister of Finance, Budget and National Planning, Mrs. Zainab Ahmed; the Minister of State for Petroleum Resources, Chief Timipre Sylva; the Governor of Central Bank of Nigeria (CBN), Mr. Godwin Emefiele, and the Group Managing Director of the Nigeria National Petroleum Corporation (NNPC), Malam Mele Kyari.
Aside the task of reducing the size of the budget, the committee is also saddled with the responsibility of reducing the oil benchmark from the approved $57 per barrel to reflect the current realities.
Ahmed said the committee was expected to submit its report to the president on its eventual decision latest Wednesday.
She explained that the committee would determine a new oil benchmark, the size of a new budget and subsequently make such new decisions public.
She said: “We just met with the president to discuss the matter of the impact of the coronavirus on our economy and Mr. President has formed us into a committee, with the Minister of State, Petroleum Resources, the Central Bank Governor, the GMD NNPC and I as members.
“Our mandate is to make a quick assessment of the impact of this coronavirus on the economy, especially as it affects the crude oil price. We will be writing a report and brief Mr. President tomorrow or Wednesday morning and after that, we’ll also have more substantial information for the press.
“But it is very clear that we will have to revisit the crude oil benchmark price that we have of $57 per barrel; we have to revisit it and lower the price. Where it will be lowered is the subject of the work of this committee.
“What the impact will be on that is that there will be reduced revenue to fund the budget and it will mean cutting the size of the budget. The quantum of the cut is what we are supposed to assess as a committee.
“This is just an initial update to inform you on the directives that we have and subsequently we will be sending a report to the president, after which we will be briefing the press on the actions that government will be taking.”
Buhari, on December 17, 2019, had signed the N10.59 trillion budget, made up of N4.84 trillion recurrent expenditure, N2.46 trillion capital expenditure, N2.72 trillion for debt servicing, fiscal deficit of N2.28 trillion and deficit to Gross Domestic Product (GDP) ratio of 1.52 per cent.
The Appropriation Act was also predicated on certain projections, including a crude oil production volume of 2.18 million barrel per day, oil benchmark of $57, N305/$ exchange rate, the GDP growth rate of 2.93 per cent, the inflation rate of 10.81 per cent and statutory transfer of N556.7 billion
Also answering questions yesterday on whether Nigeria would engage Russia on the controversies involving the Organisation of Petroleum Exporting Countries (OPEC), Sylva said Nigeria lacked the power to solely undertake such a move.
According to him, the reality of the current situation will soon dawn on everyone and both OPEC and OPEC+ may meet, adding that meaningful engagement is also expected to take place between Russia and Saudi Arabia.
Time to Act
Emefiele, had last month, stressed the need to urgently diversify the economy and “create institutional structures that will insulate the economy from oil shocks.”
He had also also warned that a potential fall in oil prices could debilitate the economy and adversely impact exchange rate and heighten inflationary pressure.
“I reiterate that even as economic recovery stayed fragile, effective anchoring of inflation expectations remain fundamental.
“Besides, potential fall in oil prices could debilitate the economy and adversely impact the exchange rate with ramifications for inflation.
“It remains urgently imperative to diversify the economy and create institutional structures that will insulate the economy from oil shocks,” he had explained.
This, he said informed the Bank’s aggressive intervention in the non-oil sector through its development finance activities.
Furthermore, Emefiele said cautious policy was irrefutable as growth was still low while per capita income and unemployment rate remained outside tolerable levels.
“Besides, the modest short-term prospect is threatened by a delicate oil price dynamics, weak aggregate demand, persistent herder–farmer conflicts and prevalent security challenges.
“I am of the view that a favourable resolution of these challenges, reinforced by sustained FX stability, as well as continued implementation of the Loan-to-Deposit Ratio (LDR) policy, will further boost short-term outlook,” he added.
“I note the improvements in banks’ Non-Performing Loans (NPLs) position and our continuing efforts at de-risking the target sectors.
“Robust credits will bolster domestic investment, household demand and factor productivity while accelerating economic diversification, and ensuring strong and inclusive growth,” he added.
Also reviewing the situation in the global economy and its likely effect on the economy, Managing Director, Financial Derivative Council and a member of Buhari’s Economic Advisory Council, Mr. Bismarck Rewane, said the country should now face the reality because it knew what to do but was wasting time.
Rewane, said: “Now the shit has hit the fan and there is nowhere to hide anymore. It is now time for us to face reality.”
When asked on the way forward, Rewane said: “We knew the way forward all these while; we knew what to do, but we were wasting time. But this is crunch time.”
Analysts at Afrinvest West Africa Limited, stated that, “the worry is that history could repeat itself, with devastating impact to the economy like we saw during the 2016 recession. We believe a gradual adjustment of the currency would better help the economy adjust to the current shocks and support government revenues.”
Also, to analysts at CSL Stockbrokers Limited, with the development in the oil market, the rhetoric about an impending naira devaluation would gather momentum, considering the elevated threat to foreign exchange earnings and in turn the nation’s forex reserves, which the CBN relies on to maintain liquidity and support the local currency.
The Lagos-based investment and research firm noted that the prospect of reconciliation between Saudi Arabia and Russia was uncertain, just as it stated that oil prices trading at current levels for a prolonged period would significantly undermine government revenue considering that the 2020 budget was benchmarked on an oil price assumption of $57 per barrel.
“With elevated debt servicing cost, rising recurrent expenditure amidst weak fiscal buffers, we are of the opinion that the nation may be on course for another fiscal crisis. That said, we anticipate a widespread sell-off in the financial markets as investors scale down on their holdings to gain more clarity on the developments in the oil markets,” it added.
Also, the CEO, CGF Advisory, Mr. Tilewa Adebajo, advised the federal government to adopt fiscal prudence measures.
He said key policy reforms would be imperative to support and sustain macroeconomic stability.
These, it listed to include, among others, a foreign exchange management framework that reflects the market fundamentals, the acceleration of the country’s economic diversification agenda and the oil and gas sector reform, among others.
In addition, it advised the federal government to cut overhead and recurrent expenditure, while increasing capital expenditure to total budget ratio.
Also, economist and former Director-General, Abuja Chamber of Commerce and Industry (ACCI), Dr. Chijioke Ekechukwu, recommended a possible downward review of the budget as well as eliminate wasteful expenditure as a response to the falling price of oil.
He also said the government would need to quickly increase the revenue base from other frontiers like tax efficiency without increasing taxes as well as ensuring that every government revenue-generating agency is held accountable.
He said: “There is fear that we may be heading for another recession. The oil price shock like we have today has always been my fear for our economy that does not have control over that major factor that drives its economy, the oil price.
“Our reserves will be eroded very fast and give room for a very high exchange rate in the short to long run. Borrowing has become inevitable to fund our budget. We can, however, also review our budget downwards and eliminate unnecessary expenditure items or bloated items in the budget”.
To Senior Research Analyst at FXTM, Lukman Otunuga, the depreciation in oil prices could not have come at a more disruptive and critical time for the Nigerian economy.
According to him, “this is bad news for many emerging market energy producers, including Nigeria. The country’s export earnings and government revenues will take a direct hit from the steep decline in oil prices.”
Also, the Director General of the Lagos Chamber of Commerce and Industry, Mr. Muda Yusuf, said the effect of the Coronavirus is related to the drop in oil price could cause significant dislocations in the 2020 budget and in the economy, especially for a country already grappling with challenges of weak revenue performance and a complete erosion of fiscal buffers.
“Oil revenue currently accounts for about 50 per cent of government revenue and about 85 per cent of foreign exchange earnings. With the current scenario of tumbling oil price, a drastic reduction in the revenue of government may become inevitable in the near time.
This has implications for the level of fiscal deficit in the budget; budget implementation will be constrained; infrastructure financing will be affected; borrowing may increase, and the capacity to fund capital project will be severely constricted. With this scenario, the outlook for oil dependent economies looks rather gloomy,” Yusuf said.
He also observed that the impact of the coronavirus would be significant on the country’s foreign reserve, which is currently at all-time low of $36.2 billion as at 3rd March 2020.
The foregoing showed that considering the external vulnerabilities, the federal government needs to urgently introduce major reforms to help reposition the economy.