Fitch Downgrades Nigeria to ‘B’ Rating, Negative Outlook

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Obinna Chima
Fitch Ratings has downgraded Nigeria’s long-term foreign-currency Issuer Default Rating (IDR) lower to ‘B,’ from ‘B+.
It also assigned the West African country a negative outlook.

In a statement issued yesterday, one of the global rating agencies explained that the downgrade and negative outlook reflected the aggravation of ongoing pressures on Nigeria’s external finances following the recent slump in oil prices and the pandemic shock.
Fitch pointed out that the collapse in oil prices would put pressure on already overstretched state and local governments’ resources, adding that they possibly would require financial assistance from the federal government.

It also stated that delays to electricity tariff hikes as well as other restructuring plans following the pandemic outbreak would raise needs for further support to the ailing electricity sector.

In addition, it noted that intensifying external pressures raise risks of disruptive macroeconomic adjustment, “given Nigeria’s precarious monetary and exchange rate policy setting and lack of fiscal buffers.”

According to Fitch, the shock would also raise government’s debt and interest payment-to-revenue ratios from already particularly high levels and lead to a renewed economic recession.

“The plunge in international oil prices, which we assume will average of $35/barrel in 2020 after $64.1/barrel in 2019, highlights Nigeria’s high dependence on the oil sector, with hydrocarbon revenues representing 57 per cent of current-account receipts and nearly half of fiscal revenue over the last three years,” the rating agency added.

The shock, Fitch stated further, exacerbates the overvaluation of the naira and policy actions taken by the Central Bank of Nigeria (CBN) would not suffice to address deteriorating external imbalances.

The CBN recently allowed the exchange rate on the Investor and Exporter Window, on which the bulk of foreign-currency (FC) transactions is held, to depreciate by 6.7 per cent since mid-January and devalued the official exchange rate by 15 per cent in March.

“The scope of the enacted adjustment is small relative to magnitude of the shock as well as to the steep real effective exchange rate appreciation of more than 30 per cent since end-2016.

“Real appreciation was driven by persistent high inflation averaging 13.3 per cent in 2017-2019 amid rigid nominal exchange rates. Continued pressures on the naira are illustrated by the drawdown in international reserves, which declined by 9.4 per cent year-to-date, representing a cumulative fall of 22.5 per cent since their peak mid-July.

“Reversal of international portfolio inflows in a context of a spike in global risk aversion could magnify the impact of the oil price shock. Nigeria’s vulnerability to short-term capital outflows is high given the sizeable stock of portfolio investments in short-term naira debt securities, equivalent to $27.7billion (6.9% of GDP) at end-2019 and representing around 72 per cent of FC reserves at the time.

“Of these liabilities, $14.7 billion was in non-resident investments in the CBN’s open-market operation bills that were attracted by high interest rates and hedging instruments offered to non-residents at non-economic costs under the CBN’s policy of stabilising the exchange rate,” it added.

In addition, the rating agency opined that Nigeria’s external finances are highly vulnerable to a further fall in international oil prices below its current forecasts.

According to Fitch, despite the expiry of production caps under the OPEC+ agreement, there is little scope to ramp up Nigeria’s oil production beyond its current assumption of 2.1 mbpd given capacity constraints and the build-up of a global supply glut on oil markets.

“Under a stable oil production assumption, a $10 drop in average Brent benchmark prices below our current projection would cause the current-account deficit (CAD) to widen by an additional 1.6 per cent of Gross Domestic Product (GDP). Furthermore, the domestic oil sector’s operational breakeven is around $25-30/barrel, based on official estimates, meaning production cuts are likely should oil prices continue to hover well below $30/barrel.

“The collapse in oil revenues and the slowdown in economic activity will take a toll on the government’s already weak fiscal revenues. This will be partly cushioned by the devaluation of the official exchange rate, which will boost fiscal oil revenues in naira terms. In addition, the fall in international fuel prices will allow the government to eliminate the implicit fuel subsidy.

“Nigeria’s fiscal breakeven oil price is high, at $133/barrel under our estimates, given particularly low non-oil fiscal intakes. We project the general government (GG) deficit will widen to 5.8 per cent of GDP (federal government, FGN: 3.1%) in 2020 from 3.8 per cent (FGN: 2.4%) in 2019.

“There is limited scope for consolidation through spending cuts given fiscal rigidity from payroll and interest outlays, which will represent 150 per cent of the FGN’s revenues and two-thirds of its expenditures in 2020. Cuts to other operational outlays and capital expenditures will be largely offset by higher spending on health services and support to sectors affected by the pandemic shock,” it added.

According to Fitch, low fiscal revenues present a major challenge to debt sustainability for Nigeria.
It anticipated that the government would cover most of its funding needs on domestic markets in 2020, but could still tap emergency funding facilities of multilateral creditors such as the International Monetary Fund and the African Development Bank.

“We expect the pandemic shock to push the Nigerian economy into recession with GDP contracting by one per cent in 2020. Non-oil GDP will fall, weighed down by spillovers from the oil sector, tighter FC supply and disruptions to economic activity from measures taken to contain the spread of the coronavirus as regions accounting for nearly half of the national economy were put under a two-week lockdown in March.

“We expect GDP to bounce back by 4.4 per cent in 2021 assuming a gradual normalisation of economic activity and stable oil production but risks around our baseline are tilted to the downside given uncertainty regarding the spread of the pandemic,” it added.