By Ayo Teriba
Global gluts and Nigeria’s growth and stability
Nigeria’s economy came to be defined by recession and devaluation in 2016, pressing home the point that Nigeria’s growth and exchange rate stability in the decade-and-half from 2000 to 2014 had been entirely dependent on favourable global commodity cycles.
Weak commodity prices brought Nigeria’s growth to a very abrupt end and inflicted heavy bouts of devaluation to the naira. It should be noted that Nigeria’s growth would have been more resilient if the country had a better rail transport and energy infrastructure that would have underpinned higher value addition in industry.
Both the recession and devaluation resulted from the foreign exchange shortage inflicted by the collapse in Nigeria’s annual exports receipts from about US$100 billion up till 2014, to less than US$50 billion since 2015, because of the fall in oil price.
Nigeria’s dependence on export receipts as the sole source of external financing made the country more vulnerable than countries who receive large diaspora remittances and large foreign direct investment (FDI) inflows, in addition to export revenue.
A major learning point for Nigeria is that larger capital inflows would have made the oil price fall less hurtful. Global trade flows are slowing because of the global commodities supply glut, but global financial flows are growing because of the global liquidity glut created by leading central banks. Past Nigerian governments and the central Bank of Nigeria have been historically transfixed on external trade flows, while being largely oblivious of external capital flows.
Nigeria now needs to take steps that reflect the realisation that opportunities to grow exports are currently limited by the global commodity glut, while opportunities to grow capital inflows are more abundant, given the global liquidity glut.
There is an urgent need to increase the global rank of Nigeria as an investment destination now that the global liquidity glut presents the opportunity to do so. The inward FDI stock of US$20 billion in China was just about twice as large as Nigeria’s US$8.538 billion in 1990. China now hosts a US$1.1 trillion FDI stock compared to Nigeria’s paltry US$89 billion.
India hosted a measly US$1.656 billion FDI stock in 1990, just about a sixth of Nigeria’s stock at the time, but now hosts nearly US$300 billion, more than three times as large as Nigeria’s stock today. Both South Africa and UAE have, like India, come from behind to now host more FDI than Nigeria. India and China had each received remittances of about US$22 billion in 2005, compared with Nigeria’s US$15 billion.
That margin of US$7 billion in 2005 has widened to US$50 billion in 2015, as India received US$70 billion and China received US$68 billion, compared with Nigeria’s US$20 billion. Both countries’ growth, stability and export successes depend on their successes in attracting foreign capital inflows. India’s current account deficits are more than compensated for by capital account surpluses that are twice as large. Trade reforms, such as export promotion or import substitution, take five years or much more to yield results.
In contrast, foreign investment reforms, such as Eurobond issuance, the diaspora bond 1 FDI figures, are from UNCTAD’s 2016 World Investment Report, while remittances figures are from World Bank’s online remittances database. Issuance, brownfield/greenfield foreign direct investment inflows into infrastructure sectors that are currently under government monopoly, begin to yield results within a year.
Nigeria’s experiences with FDI inflows into the telecoms sector and the recent US$1 billion Eurobond issue show that capital can flow in shortly after necessary steps are taken.
Sectors: Farms, factories, cities – Where Is the money?
Nigeria’s nominal GDP stood at N101 trillion in 2016. This was made up of N64.9 trillion or 64 percent in services; N21.5 trillion or 21 percent in agriculture; N5.5 trillion or five percent in oil; and N9.7 trillion or 9.5 percent in non-oil industry (manufacturing, solid minerals and utilities).
Thus, services now supply nearly two-thirds of economic activities, agriculture supplies one-fifth, non-oil industry supplies one-tenth and oil supplies one-twentieth. The nominal GDP increased by N7.45 trillion in 2016. This came from the increase of N6.14 trillion or 82 percent in services, N1.89 trillion or 25 percent in agriculture, -N500 billion or -6.9 percent in oil, and -N60 billion or -0.78 percent in the non-oil industry.
Thus, services supplied most of the growth, with agriculture playing a supporting role, while oil and non-oil industrial activities declined. Nigeria’s cities supply most of the growth, with the farms playing a supportive role, while the factories are in decline because of foreign exchange shortage and infrastructure decay. Most inward foreign direct investment in Nigeria currently end up in the telecoms, oil and gas, and banking sectors.
The government urgently needs to open other sectors that have huge potentials to attract and retain large investments, such as rail transportation and energy (including power transmission, gas, and petrol).
The federal government must take immediate steps to open these sectors for large foreign equity investments, as was done in telecoms, oild an gas and banking. Nigeria’s sectoral strengths include:
agriculture (21 percent of GDP in 2016);
crude oil extraction (5.5 percent of GDP);
services (64 percent of GDP), especially trade, telecoms, real estate and professional services.
Nigeria’s sectoral weaknesses or the missing middle include:
mining (weak in extracting abundant mineral resources), and must import minerals;
manufacturing (weak in processing agricultural, minerals and crude oil resources), and therefore imports processed food, raw materials, intermediate goods (especially chemicals), fuel, minerals and finished manufactured items (especially machinery, electronics, and automobiles);
utilities (weak in distribution of abundant gas resources for domestic and industrial use) we flare or reinject the gas, weak in the generation, transmission and distribution of electricity, weak in the purification and distribution of water;
transportation (weak road, rail, water, and air transportation, especially weak in rail). Weaknesses in transportation and utilities make manufacturing and mining uncompetitive, and hinder a big fraction of agricultural out from leaving the farm.
Nigeria first needs to ensure that inputs and output can get to and leave factories and farms at the least possible costs, and ensure steady supply of electricity, gas, petrol, and water, before talking about treating agriculture, mining or manufacturing as priorities.
States: Sectoral and fiscal strengths – Where in Nigeria?
There is always the pressing need to demonstrate where in Nigeria can the largest growth and investment opportunities be found by investors, and where in Nigeria would government officials and development partners find the biggest opportunities for making things better.
A breakdown of national GDP and sectoral aggregates across the 36 States and the FCT provides such insights. Sectoral activity continues to be regionally concentrated in a few states, to the exclusion of most states. Three states account for 66.64 percent of the huge service sector output. Eight States account for 75.84 percent of the agricultural sector output. Six states account for 84.68 percent of non-oil industry output. Nine states produce oil, but 89 percent of it comes from four states.
Rebuilding rail transportation and energy infrastructure across the country will reduce sectoral concentration and make growth more regionally inclusive. About half of the states are dependent on services, up to 90 percent in some cases, while about one-third of the states are dependent on agriculture, up to 80 percent in some cases. States must therefore either concentrate on creating more wealth in services, such as making cities more competitive, as Lagos is already doing, and/or concentrate on creating more wealth in agriculture, by making farms more competitive, until infrastructure that must underpin wealth creation in industry are rebuilt to permit the option of creating more wealth in industry.
The ontinued growth of the services and agriculture sectors in 2016 meant that states with relatively large shares of services and agriculture were insulated from the nominal contraction in economic activity, which was confined to industry (both oil and non-oil). Thus, economic and fiscal conditions deteriorated markedly across states with relatively large shares of industry and relatively small shares of services or agriculture. States received N2.859 trillion in total revenue in 2015, which was N1.05 trillion less than the 3.905 trillion they had received in 2013.
The fall in the revenue of states came from the slump in statutory allocation by N620 billion from 2.1 trillion in 2013 to 1.48 trillion in 2015, and the collapse in excess crude allocations from N560 billion in 2013 to N5.8 billion in 2015. While central allocations to states declined, internally generated revenues increased by N99 billion from N657 billion in 2013 to N756 billion in 2015, and value added tax receipts stayed just about the same over the two years at N381 billion in 2015, down by only N8 billion from N389 billion in 2013.
The statutory allocations of N1.48 trillion was 51.86 percent of the states’ total revenue in 2015; IGR of N756 billion was 26.4 percent, VAT of 381 billion was 13.3 percent, and other revenues of N239 billion were 8.4 percent. While states got an average of 51.86 percent of their total revenues from central allocations in 2015, three of the states – Lagos, Enugu, and Ogun – relied much less on the federation account, with statutory allocation respectively providing just 10, 30 and 34 percent of their total revenues, while internally generated revenue supplied 68.62, 53.13 and 50.13 percent of total receipts, respectively.
Those were the only three states who received considerably less revenue from the centre than they raised from within. 16 states (including the FCT) got between 45 and 59 percent of their funding from the centre, while the remaining 18 states depended on the centre for 60 to 80 percent of their total receipts. Many of the states with the highest IGR/total revenue ratios are service-led. The continued growth of the service sector offered fiscal resilience, and services are easier sources of revenue for states than agriculture or industry. Many of the states with the lowest IGR/total revenue ratios are agriculture-led, suggesting that states need to learn how to generate internal revenue from their agricultural sectors.
Poilcy: Macroeconomic policies and the economic recovery and growth plan
The cyclical downturn of 2016 tested the countercyclical policy capability of the Nigerian government and revealed weaknesses in both fiscal and monetary responses. Apart from growth and stability, the other cyclical casualty was government revenue. It declined with the slump in oil price, constraining government’s ability to provide counter-cyclical fiscal stimulus in the face of the recession.
The Central Bank also found reasons not to provide any counter-cyclical monetary stimulus, pro-cyclically hiking rates twice in 2016, and just standing aloof, watching, and holding on to all policy instruments on the other four occasions that the Monetary Policy Committee (MPC) met. Nigeria has now put together an Economic Recovery and Growth Plan 2017-2020 (ERGP).
The plan however blurs the line between what the government had intended to do before the recession and devaluation blew it all out of track, and an urgent crisis response package that is required to confront the recession and devaluation and lift Nigeria out of the crisis.
The projections in the plan do not include any action steps or any likely dates that such steps will be taken. The plan is also not backed by any legislation. Nigeria needs a swift action plan that is backed with appropriate legislation, and it might have been better to separate the crisis response package from the broader economic plans of the government, so that the crisis response efforts can receive required urgency.
At a minimum, the following actions must be included in Nigeria’s crisis response package: First, Nigeria needs to reduce dependence on exports by opening to diaspora and FDI inflows, especially into government coffers, or into infrastructure activities that are currently under government monopoly. Currently, most of the non-export external resource inflows into Nigeria are small and stagnant private-to-private flows. Diaspora remittances flow entirely to private recipients, and are on the current account.
Some developing countries have successfully created parallel private-to-government streams of remittances on the capital account by issuing large multiyear diaspora bonds. Also, some governments succeed in getting private-to-government FDI inflows by allowing investors to have a growing stake in infrastructure services that were previously under government monopoly. Nigeria urgently needs to join the fray, and a credible plan must commit to specific steps that will be taken to make these happen, and commit to specific dates that the steps will be taken.
Second, Nigeria needs to rebuild rail transportation and energy infrastructure nationwide to make agriculture, manufacturing and mining more competitive. Services currently boom in Nigeria, and is growing as a share of GDP, in the face of stagnation in the share of agriculture in GDP, and a decline in the share of oil and non-oil industry in GDP. Rebuilding rail transport and energy infrastructure through increased foreign investment ought to be the number one priority of Nigeria today.
Third, government should break its own monopoly in all infrastructure sectors, especially rail transportation and pipelines, power transmission, health and education, and give foreign investors a larger role in funding and managing the sectors as we have beneficially done in oil.
The Economic Recovery and Growth Plan (ERGP) is based on the Strategic Implementation Plan (SIP) that codified government’s intentions ahead of the crisis, and such embodies little or no crisis responses. Immediate steps must therefore be taken to repeal monopoly laws across infrastructure sectors.
Outlook: Cycles vs. Policies – 2016 was lost to a cyclical downturn
Policies lost to cycles in 2016 as there were no counter-cyclical fiscal or monetary policy responses to the recession and devaluation. Despite a lot of public debate about stemming the slide, and several public acknowledgements of the government’s desire to intervene, long response-lag meant economic conditions deteriorated throughout the year. Real GDP declined in all the four quarters, the naira weakened throughout the year despite administrative efforts and executive orders by the Central Bank aimed at obstructing legitimate foreign exchange transactions, and inflation soared.
The cyclical tide is turning upward in 2017 despite the constraints on policy responses in 2016. Cycles are now on the upturn in 2017, and the recession, inflation and weakness of the naira are most likely to fizzle out. Oil price has risen from a low of US$28 per barrel in the first quarter of 2016 to US$55 in the first quarter of 2017, external reserves have risen steadily for six months to climbed above US$30 billion by March 2017, after reaching a low of US$23.9 billion in October 2016.
The oil price is likely to average about $55 in 2017. Government also expects oil production to be stable at 2.2 million barrels per day in 2017, as expressed in the federal budget proposals. The outlook for growth, inflation and exchange rate is brightened by this. The parallel market rate is beginning to appreciate in response to improvements in the central bank’s capacity to supply foreign exchange, with the parallel market rate rising to N380/US$ in March 2015, after touching an all-time low of 520/US$ the month before.
If the oil price holds up at the current level and external reserves continue to grow, the parallel market rate will continue to appreciate until it converges with the inter-bank rate. Both rates started to diverge after external reserves dropped below US$36 billion in November 2014, forcing the CBN to close its Wholesale Dutch Auction (WDAS) window and devalued the interbank rate from N150/US$ to N197/US$ by February 2015, only for the parallel market premium to widen steadily as falling reserves signalled weakness of the CBN to meet demand. CBN was forced to devalue the interbank rate again in June 2016, but premium continued to widen to signal unease.
Between the two devaluations of the inter-bank rate, CBN introduced a lot of obstructionist policies to suppress demand, like forcing recipients of inward remittances to receive their funds in naira at the controlled inter-bank exchange rate, restricting foreign currency transactions on accounts held with Nigerian banks, and publishing an infamous list of 41 import items that would not be funded by CBN. Such demand restrictions amplified the cyclical downswing and triggered the recession. A better response would have been for the CBN to look beyond the current account and boost foreign exchange inflows on the capital account to counter the downswing.
The problem was the sharp drop in foreign exchange supply that a fall in oil price from US$110 per barrel in 2014, to US$53 in 2015, and US$28 in the first quarter of 2016 implied. Boosting supply would have been a better way to stabilise the market than restricting demand to amplify the downswing, or attempting to float the exchange rate in the face of the supply shortfall as the CBN did.
Now that the external reserves are rising, the Central Bank is beginning to drop some of its administrative restrictions and is likely to continue to do so once reserves keep rising, until we get back to a threshold of US$36 billion in external reserves when a stable supply can be assured, and the rates in the markets will converge. The Central Bank can be trusted to drop it list of prohibited items as we approach that point. Seeing external reserves above the US$36 billion threshold could even mean a reopening of the WDAS window of the Central Bank.
The CBN should not be tossed up and down by cyclical swings. From less than 10 percent in January 2016, year-on-year inflation rate rose sharply between February and May 2016, because of devaluation and other costs shocks like the upward adjustments in electricity tariffs and pump prices of petroleum products, but kept rising alarmingly towards 19 percent by January 2016, because of low base effects.
Expectedly, it should decline as sharply as it rose from February, as already happened, through May 2017, as the base effects get corrected. While the recession had intensified between the first and third quarters of 2016, it abated in the fourth quarter, and should abate further in the first quarter of 2017, if not end altogether, paving the way for a resumption of growth from the second quarter of 2017.
Policies can still brighten the outlook further. The economy already is on the upturn, even in the absence of counter-cyclical fiscal, monetary, or investment policy responses. The outlook for 2017 is now brighter than the contractions of 2016 for purely cyclical reasons. During 2017, most economic variables, real growth, inflation and exchange rate, can be expected to improve towards conditions prevalent in 2015 when inflation was just below 10 percent, real growth was just below three percent, and the naira exchange rate was about N200/US$. The bright outlook could be threatened by any adverse shock to oil price or oil production.
Both fell in 2016 to inflict the hardships faced that year. The outlook in 2017 is better because both have recovered to levels last seen in 20156. The brighter outlook will be premised on both holding up throughout 2017. But it is reasonable to expect that they would. If they do, Nigeria can expect a resumption of growth, a moderation of inflation, a return of stability to the foreign exchange market, a convergence of exchange rates, and a sustained strengthening of the inter-bank rate.
Nigeria’s recovery in 2017 is currently premised on luck, cyclical upturn, rather than hard work, countercyclical policies or economic reforms. Assuring the sustenance of the recovery will require more than luck. Policies would be required to open Nigeria up for investment inflows that will rebuild rail transportation and energy infrastructure now, and create much needed external reserve buffers that would help Nigeria withstand future cyclical swings.
Ayo Teriba is CEO of Economic Associates; Email: [email protected]