Oil is dead. It might yet rise again, but ‘petrocide’ was long prophesied at least with respect to the Nigerian economy. Oil was going to finish someday in Nigeria, we had been warned. No one took heed. The allure of cheap rent money from the Niger Delta was just too sensually titillating to the rent collectors in Abuja for them to ever sit back and wonder what a Nigeria without oil would ever look like. In a nation where non-religious socio-political and economic counsels are quick to be dismissed by the lording authorities of the time as words of doom by false prophets, no one in government ever planned for a day like this.
The reality is that the oil market had long battling a convergence of multiple enemies over the last couple of months, including storage limitations, overproduction, low prices, and the Saudi-Russia oil war. Oil price futures slipped into negative territory on Monday last week “an appalling oil-market initial, making previous doom and gloom forecasts of OPEC’s too-little-too-late production cuts now seem like sober predictions rather than overzealous fearmongering,” as noted by oil price.com, an oil and gas news platform. The market has been further overwhelmed by a growing supply glut as demand craters amid government’s orders for people to stay at home in order to stop the spread of Covid-19.
Western Texas Intermediate (WTI) crude oil futures settled at -$37.63 per barrel that same day, down $55.90 on the day. Not only was it the largest price drop for the commodity in history at some 305.97 per cent, it was also the first time the WTI futures market fell below $0.
The price of Brent crude oil, which is Nigeria’s and other producers’ benchmark fell to $15.98, its lowest level since June 1999, rising on Wednesday by $1.04, or 5.4 per cent, to settle at $20.37 a barrel.
As noted by The Star of New York, “since the start of the year, Brent has fallen about 65 per cent, while WTI has dropped around 75 per cent. The world’s major oil producers, led by the Organisation of the Petroleum Exporting Countries and its allies, attempted to wrest control of spiralling inventories by announcing a collective cut of 9.7 million barrels per day in supply in early April. But those cuts will come too slowly to offset rising inventories, which hit 518.6 million barrels in the United States last week, just 3 per cent off an all-time record.”
As it stands, the cost of production of crude in the oilfields of the Niger Delta, is more than the international market price. Evidence suggests the cost of production for most of the upstream companies to be around US$25-US$30 per barrel as such, at current oil prices, many companies will be loss-making, especially where there are huge overheads and finance charges. With revenue projections underperforming and inadequate to meet payment obligations, such companies are unable to proceed with CAPEX plans which could potentially impact production volumes.
Indeed, energy experts project that OPEC producers, like Angola, Nigeria, and Iraq, who don’t have adequate refining capacity at home and don’t have solid long-term oil supply contracts with oil-importing nations are set to lose the most. If prices continue to fall below production cost, many oil producers may be forced to shut crude production, amidst difficulty in getting the cargoes sold.
Earlier in the month, global consulting giant, McKinsey & Company warned that the economy could contract by as much as 3.5 per cent in 2020, compared to the 2019 GDP growth rate of 2.27 per cent.
“That would represent a reduction in GDP of approximately $20 billion, with more than two-thirds of the direct impact coming from oil-price effects, given Nigeria’s status as a major oil exporter,” McKinsey & Company said in a report published midweek.
McKinsey further added that if the Covid-19 outbreak was not contained, the nation’s economy could contract by 8.8 percent or $40 billion this year alone given its limited fiscal space and huge financial obligations. “The biggest driver of this loss would be a reduction in consumer spending in food and beverages, clothing, and transport,” according to Acha Leke, senior partner at McKinsey & Company.
Crude accounts for about 75-80 per cent of revenues with several transmission channels into incomes and economic output. Nigeria’s economy has for years relied on crude receipts for virtually all its foreign exchange. Recently rating giants, Fitch and S&P, downgraded Nigeria’s credit rating in recent weeks on the oil slump, with Fitch warning that all 10 Nigerian banks were at “severe risk” because of their exposure to the oil sector. According to Financial Times, “the previous time oil prices plummeted, in 2015, the country sank into a recession from which it has only recently, and barely, recovered. Economists said that downturn was both exacerbated and prolonged by policy errors, including central bank resistance to what was an inevitable naira devaluation.”
The oil price drop has finally pushed the government to remove the petrol subsidy, which had fixed fuel at N145 a litre and absorbed billions of dollars in spending. Economists have long advocated an end to the costly subsidy regime, of which economist Pius Okigbo III of Nextier Power, noted, “Every Nigerian leader since 1973 has known that the fuel subsidy is not sustainable. However, they all lacked the temerity and tenacity to do the needful. These failures have resulted in a need for urgent reforms across all sectors of the economy even at a time when the country is very poor.”
The ‘death’ of oil has starkly exposed the inherent contradictions in the Nigerian economy driven by oil yet almost irredeemably poor. Nigeria’s oil has done very little to grow the economy and drive development, principally due to corruption.
Nigeria, as noted by former U.S Ambassador, John Campbell, “remains “Exhibit A” of the so-called resource curse. At the time of independence in 1960, the nation exported food to West Africa, but now, it is now a net importer. In 1960, Nigeria had a significant manufacturing sector, especially in textiles, furniture, and other goods. With the coming of oil, which began in earnest in the 1970s, fiscal and economic policy were distorted, and oil sucked-up domestic and foreign investment at the expense of other sectors of the economy.
“Government borrowing when oil prices were low led to debt. Military governments punctuated by coups resulted in policy instability and uncertainty and facilitated whole-sale looting of the state. Government revenue increasingly came from oil. With the coming of civilian government in 1999, there has been some recovery, but government revenue remains hostage to fluctuating oil prices. Corruption, if less chaotic and rampant now than under the military, has become institutionalised at almost every level of government. The bright spot, if small now, has been a proliferation of good governance presidential candidates and other Nigerians, who are challenging king oil, politics as usual, and are shining a light on systemic government corruption.”
So, while countries like Malaysia, United Arab Emirates and even Saudi Arabia used their oil wealth to develop infrastructure and spur development, Nigeria’s case was the contrary. Billions of dollars of the country’s oil earnings found their way into foreign accounts of Nigeria’s leaders and civil servants. For a country that is oil dependent and poor, cheap rent monies from crude in the Niger Delta meant a small class of kleptocrats and corruptocrats, who perpetuated the country’s inability to break out of the poverty trap.
What this obviously means for the economy ahead, is the reality of heavily reduced income from crude receipts, heavily reduced income from taxes collected by federal and state revenue services, job losses in the oil and gas industry and associated sectors including banks, services as well as the public sector. In all this, there is no short, medium or strategic plan by the federal and state governments to deal with the coming economic cataclysm. The Nigerian government seeks to borrow its way through the crisis by taking over $7 billion from the IMF. Agreed, the government has no major option that to turn to the international financial institutions (IFIs), but it must go beyond just getting monies to spend on stimulus. There must be critical reforms of the economy including a reform of the inefficient public sector that has been unable to provide efficient public goods all these years. In addition, the incentivisation of the private sector to invest heavily in manufacturing and production is perhaps the only way out.
Nigeria produce little to nothing and import some 90 per cent of its non-food consumption, a situation that depletes its already burdened FX reserve and makes the dollar, pound and euro very expensive compared to the naira.
What this means is that fiscal diversification would be difficult as weak corporate income and job losses would inevitably lead to incapacity to increase tax revenues from non-oil sector to reduce the reliance on oil revenues for financing spending. Oil-related receipts continue to dominate budget revenues. Non-oil revenues remain largely unchanged as a share of non-oil GDP at about 3.3 per cent. This has occurred despite a flourishing non-oil sector due largely to the existing tax system, which comes across as cumbersome and ambiguous for tax payers to comply with especially as the country is a low-taxed economy compared to its peers. PwC estimates tax to GDP at 8 per cent, which “is the second lowest in Africa and fourth lowest in the world, compared to an average of 16% for emerging markets and 18% for sub-Saharan African economies. There is massive room to improve tax receipts by improving compliance and broadening the tax base to include the informal sector which is estimated at 58 per cent of GDP.”
While strong GDP growth in the past has been supported by rising government spending and financed by high oil revenues, the Nigerian government needs to expand its import substitution strategy measures to replicate the success of the cement sector which is now reported as in excess of domestic consumption.
While the prohibition of certain import items from officially assessing FX is also being touted as an import substitution strategy although it has been forced by the current economic climate, it has been argued by PwC Nigeria that “probably the greatest constraint in the implementation of the import substitution strategy is the difficulty in the business environment in terms of trade and logistics infrastructure. From the point of registering a business to electricity, road and rail infrastructure, warehousing and a simplified tax system, it just has to be easy to do business in Nigeria for import substitution to work successfully.”
Furthermore, it was noted that “despite a diversified services sector from a GDP perspective, services exports remain a small share of non-oil GDP at 0.41%. Net service exports in Nigeria has historically been negative as services remain restricted to the traditional services with relatively low value added and limited export potential”.
As noted by Price Waterhouse Coopers, there are probably three essential reasons why Nigeria needs to genuinely pursue diversification. “First, to insulate the economy from the risk of being vulnerable to a single commodity as the different oil price crashes have shown. Second, to create jobs that can raise the standard of living of an average Nigerian: oil and gas jobs account for less than 1 per cent of total employment and the young population can no longer be absorbed by the public sector. Third, to prepare for life beyond the oil resource.”
Nigeria’s intrinsic economic potential lies beyond oil. Nigeria has a large abundance of metals and minerals. It has a bubbling retail sector and a young middle class that is starting to embrace e-commerce. It has a big domestic market for manufactured consumer goods. Sadly, over the years, diversification has been the subject of numerous plans and initiatives by the government, although the statistics are broadly unchanged at least from the revenue and export perspectives.