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In the wake of the crash in the price of crude oil with its attendant negative impacts on the revenue of Nigeria’s mono-product economy, the fiscal and monetary authorities opt for austerity measures and the devaluation of the Naira to keep the economy on a stable course through the crisis. But financial experts caution that these measures would trigger inflation and inflict further hardship on Nigerians.

By Dike Onwuamaeze

For some time now, the  signs that all was not well with  the Nigerian economy have been glaring but the managers of the nation’s economy  in the Ministry of Finance  kept assuring Nigerians that  there was no cause for alarm.

When the crude oil price, Nigeria’s main source of foreign exchange, sustained its slide a few months ago, Mr. Godwin Emefiele, the Central Bank Governor hinted at a possible devaluation of the national currency, but was quickly contradicted by Dr. Ngozi Okonjo-Iweala, Minister of Finance and Coordinating Minister for the Economy who thought that there was no need to devalue the currency.

But with the fast depletion of Nigeria’s external reserves, it was clear that the centre can no longer hold.  It is therefore not surprising that at the 98th meeting of Monetary Policy Committee (MPC) of the Central Bank of Nigeria (CBN) held between November 24 and December 11, 2014, the apex bank decided to devalue the Naira and protect the country’s foreign reserve in the wake of the current slump in the oil market. The price of crude oil, Nigeria’s major foreign exchange earner, has crashed from $115 to $64.88 per barrel between June and November 2014. This development forced the MPC to take far reaching decisions to devalue the Naira and increase the interest rate all at a go. The Naira was devalued by moving the midpoint of the official window of the foreign exchange market from N155 per dollar to N168 per dollar. In addition, the CBN increased the Monetary Policy Rate (MPR) — the rate at which the apex bank lends to commercial banks — from 12 percent to 13 percent while the Cash Reserve Ratio (CRR) on private deposits was moved up from 15 to 20 percent. It, however, retained the public sector CRR at its current level of 75 percent.

The foreign reserve has been under pressure and unable to defend the value of the Naira as the divergence between the official and the parallel foreign exchange market rates widened by almost 20 percent. Emefiele, who announced the devaluation, said that the gross official reserves dropped from $40.7 billion on September 17, 2014, to $36.75 billion at the end of October 2014. The implication is that about $4 billion was spent within six weeks to protect the Naira value to no avail. The Naira’s rate to the dollar at the parallel market was N184 as against the N155 at the official market before the devaluation was announced.   The parallel market rate was N183.5 to the dollar on December 11.

The devaluation was foreshadowed by the weakening of the Naira at the interbank and Bureau de Change (BDC) segments of the foreign exchange market since September 2014. To curb this development, the CBN excluded certain import items such as electronics, generators, telecommunications equipment, finished goods and invisible transactions from the official Retail Dutch Auction System (rDAS) foreign exchange window. The implication is that these items will be funded either from the interbank or parallel market at a higher foreign exchange rate. Despite the tight measure, the high demand for foreign exchange continued unabated even though it had no bearing on the genuine foreign exchange needs of the country.

This necessitated further policy measures. On November 21, 2014, the Central Bank issued a circular against the sale of foreign exchange for imported items not supported with adequate documentations, particularly shipping documents. “It is therefore important to note that only imports which are backed with evidence of shipment and other relevant documents are eligible for foreign exchange. For the avoidance of doubt, only transactions for which Letters of Credit are cash backed, or with matured clean lines or matured Bills of Collection are eligible for purchase of foreign exchange in the forex market. For the sake of emphasis ‘front loading’ purchase of foreign exchange in both rDAS and interbank shall no longer be permitted with effect from the date of this circular. Any infraction whatsoever of these requirements by any authorised dealer shall be appropriately sanctioned,” the circular stated.

The Devaluation option

Unable to contain the escalating demand for foreign exchange and burdened with the concern that the current downturn in oil price would persist for a long time, the CBN felt that devaluation was the only option it had to regain stability in the foreign exchange market and preserve the foreign reserve. “A major issue considered by the committee, however, was the declining level of external reserve, which arose from demand and supply constraints. On the supply side, the falling oil price has considerably reduced the accretion to external reserves thus constraining the ability of the bank to continually defend the Naira and sustain the stability of the Naira exchange rate. On the demand side, the pressures in the foreign exchange market were aided by excess liquidity conditions in the banking system and speculative activities. Against this background, the committee is of the view that the current challenge requires bold policy moves …to align the market towards its long-run equilibrium path,” Emefiele said. Indeed, that bold policy move is the devaluation of the Naira.

The expectation that the current oil dynamics might last longer was not unfounded. This is based on certain factors. In the first instance, the political restiveness in the Middle East and the North African region has  not in any way hampered oil supplies as both Libya and Iraq have strong supply lines to the international oil market. Secondly, a nuclear deal with Iran and subsequent removal of sanctions imposed on the country by United States could increase oil supplies and further drive down the oil price. Thirdly, improvements in technology have driven down the break even cost of shale oil production in the United States to an average range of $52 to $72 per barrel. This has made the United States, which used to be the highest importer of Nigeria’s crude oil, to be increasingly energy independent. United States pumps about 8.5 million barrels of crude oil per day.

Furthermore, the sluggish economic growth in Japan and Europe has lowered demand for oil.  Indeed, recent technological development has not only opened up more alternative sources of energy supply, it has also lowered the fuel consumption by automobiles so much that an average new car consumes 25 per cent less petrol than 10 years ago.

All these factors influenced the decision of the MPC to opt for the devaluation of the Naira. The committee’s decision was further influenced by available data that showed that a number of six-month oil bookings are currently signed at below $70. This was why the Central Bank believed that fixing the oil at $73 per barrel would be an unrealistic projection for 2015 budget. In addition, members of the Organisation of Petroleum Exporting Countries (OPEC) are engaged in a seemingly oil price war as each member state seeks to pump more crude than the market requires. This was amply illustrated by OPEC’s refusal to lower supply at the end of its meeting to deliberate current developments in the oil market in Vienna, Austria on November 27.

Apart from the unfavourable external factors, the CBN was worried by the “considerable loss of fiscal space following the country’s inability to build sufficient reserves during the boom days.” Nigeria has a net savings of $2 billion in the Sovereign Wealth Fund (SWF) currently which is nowhere near the $20 billion it saved in the Excess Crude Account (ECA), which is now SWF, and the bulging foreign reserves of $62 billion with which the country was able to cope with a similar situation in 2008.

Fiscal Measures

Prior to the recent devaluation of the Naira, the Federal Government had announced series of fiscal measures to streamline government’s expenses and increase its non-oil revenue in the wake of the declining oil revenue. Dr. Okonjo-Iweala had on November 17 reeled out adjustment measures to contain the decline in global oil prices, protect economic growth, reassure investors and keep the economy on a stable course through the crisis. She announced the reversal of the oil benchmark for 2015 budget from $78 to $73 per barrel in November and later reversed it further to $65 in the first week of December. She also increased the revenue target of the Federal Inland Revenue Service (FIRS) from N75 billion in 2014 to N160 billion for 2015. She promised that the government would revisit the Steve Oronsaye Report that recommended the winding down of some agencies to cut recurrent expenses.

Other measures announced by the finance minister included a ban on foreign travels by civil servants unless where absolutely necessary. Similarly, there would be no more foreign training for government personnel. Henceforth, all trainings must be done locally while those bent on overseas training must secure foreign sponsorship because government would not shoulder the expense. Government would also review the granting of import duty exemptions and impose taxation on consumption of luxury, goods owners of private jets and yachts as well as those who patronise champagne and similar items.

Okonjo-Iweala assured Nigerians that government would not print money to pay for its expenses to avoid spiral inflation, which she described as the worst enemy of the poor. “We won’t compete by printing money. We will not also compete by borrowing. But we will borrow concessionary loans to fund infrastructure. We do not want to do local borrowing,” she said. But this may not hold in the face of the recent devaluation of the Naira, which simply means printing more Naira notes for every US Dollar the country earns.

Okonjo-Iweala also debunked the speculation that the country is broke. For her, it is only when the government could no longer pay salaries of its workers that “we can say that the country is broke. But we have not got there yet.” The country, according to her, had $4 billion in the SWF account from where it would tap about $2 billion before the end of 2014 to meet expenditures that were crystallising at the moment.

Economic and financial experts react

These fiscal and monetary measures adopted by government to address the problems occasioned by the dwindling oil revenue have continued to receive mixed reactions from economic and financial experts as well as eminent Nigerians. Although some economic and financial analysts commended the CBN Governor and the MPC team for having the courage to take  the ‘drastic and bold decision’ to devalue the Naira, they noted that  it would inflict more ‘pains’ on Nigerians, at least in the short term. According to them currency devaluation for an import-dependent nation like Nigeria means an imminent general rise in the prices of imported goods. They said the economy had enjoyed single-digit inflation for a very long time but the current policy decisions might take the inflation rate from the current 8.1 to about 10.5 per cent. Indeed, there is a considerable consensus among economic and financial experts that the fiscal and monetary policy measure would aggravate inflation, poverty and unemployment in the economy.

Mike Obadan, a professor of Economics at the University of Benin, told TheEconomy that “the country would not have found itself in the present crisis resulting in panicky and harsh adjustment measures if the economy had been well-managed, savings for the rainy day not squandered through profligacy, public spending efficient and corruption had been minimal.” He explained that if something more than lip service had been done to achieve structural transformation and diversification, the situation would have been different today. “The country could have absorbed the shocks emanating from the oil market without the adverse effects of the adjustment measures that have now been introduced,” he said.

According to Professor Obadan, the fiscal measures thrown up in response to the declining oil prices are panicky measures which may not achieve much especially where there is no political will to implement them. He added that the measures do not provide a long-term solution to the underlying problem. “Since the Oronsaye report and the follow-up White Paper were released, the government has been prevaricating on the implementation of the report because of political pressures and interests, sometimes suggesting that no substantial gains would be realized from its implementation. The rich members of the political and business class and other elites who consume the luxury goods proposed for taxation are those in control of the government including membership of the Economic Management Team. And so, the prospects of this measure succeeding are rather dim,” he said.

Prof. Obadan noted that government’s decision to increase the IFRS revenue target by over 100 percent from N75 billion in 2014 to N160 billion in 2015 is desirable if it can be realized. “But it is like a tall order considering that the country is not known for aggressiveness and efficiency in tax revenue collection. This has been the case because oil revenue had been readily available for sharing and misuse,” he said.

Commenting on the monetary policy measures, Obadan observed that the increase in the MPR and the CRR on private sector deposits are restrictive demand management measures aimed at increasing the cost of credit and curtailing the demand for loans and, hence, reducing aggregate expenditure. To him, they are likely to reduce access to foreign exchange and loans to the real sectors of the economy. “In particular, the fortunes of the manufacturing sector will be further aggravated. Operators in this sector had before now complained openly of limited access to, and high cost of credit. It will not be surprising if retrenchment of workers result from the fiscal and monetary measures,” Obadan added.

He was emphatic that the devaluation of the Naira would have negative effect on the people and the economy of Nigeria by increasing inflation and worsening poverty rate. But it would be a good omen to the government by boosting its revenue through the monetization of dollar earnings from oil. This has been the major function of the exchange rate devaluation/depreciation since the structural adjustment programme of the second half of the 1980s, which the government has found irresistibly seductive because it helped in balancing the budget. “But this is at a great cost to the economy in terms of the cost push effects on the prices of goods and services, increase in unemployment and poverty, among others. The country’s exports are not likely to increase because of the nature of the exports. This has been the experience with past devaluations/depreciations of the Naira. In the same way, imports may not decrease, although their prices in Naira would shoot up. This is because of the inelastic nature of the demand for most imports. In light of this, the pass-through effect of exchange rate devaluation will be reflected in a higher rate of inflation in the country,” Obadan told TheEconomy.

Henry Boyo, an economic analyst, also said the measures would increase inflation and consequently deepen poverty in the country. He said: “Anything that creates higher inflation is destined to make the people poorer particularly the income earners. For industries, you may not be aware of what they are doing, but when they increase the MPR from 12 percent to 13 percent, what it means is that they are equally increasing the cost of funds from 15 and 20 percent for the real sector. With this, how is the industry going to create employment, pay rents and things like that? We should ask ourselves why the managers of the economy and the CBN are deliberately killing the economy by making sure that interest rate continue to be high, making sure that inflation would be high and that the exchange rate of naira to dollar would not be stronger. The CBN governor in his speech during the announcement of the devaluation of naira lamented that the excess liquidity was high. He however refused to tell Nigerians why the excess liquidity was high,” he said.

Bismark Rewane, chief executive, Financial Derivatives Company, however said that devaluation was inevitable under prevailing circumstances, but wondered if the measures   would actually cushion the impact of the falling oil prices. “The most important thing is the fact that the government has come to accept that it has to do something with respect to the falling oil prices. What we are seeing now is not a short-term phenomenon. Whether the therapy is adequate is another issue,” Rewane said.

Former President Olusegun Obasanjo described the devaluation of the Naira as a horrendous disadvantage to the already impoverished Nigerians. “We will all sink deeper in poverty except for those who have corruptly stashed money abroad and who will start to bring such illegal and illegitimate funds back home to harvest more Naira. All the economic gains of recent years and the rebuilding of the middle class may be lost,” Obasanjo said.

For Lawson Omokhodion, chairman/chief executive officer, Ritsoil Petroleum Limited, “the MPC decisions are not business friendly but we had no choice.” Similarly, Remi Babalola, chairman/chief strategist, Alternative Capital Partners Limited and former minister of state for finance, said the government was in a panic mode and described the MPC’s decisions as reactionary because the central bank failed to cease the initiative. “The market had really‘re-valued’ the Naira ahead of the CBN. It would have been the other way round. I thought serious discussions would have taken place between the economic managers and the bankers on the economy’s direction to avoid the panic,” Omokhodion said.

The looming hardship

Currently, there are fears that with these measures, economic hardship is looming in Nigeria. The ability of the governments at the federal, state and local levels to fund their budgets, especially in 2015, is increasingly becoming doubtful. This is also sending shivers down the spines of government policy makers. “I am afraid the way things are going, states (state governments) may collapse in the next three months if urgent steps are not taken to address the situation,” Babangida Aliyu, governor of Niger State cautioned.

Obasanjo observed that governments would have budgets that could not be funded. “We may have to borrow to pay the salaries and allowances. Revenue allocation to states and local governments has already been drastically reduced. Capital projects at all levels of government may have to be drastically cut or stopped.”

According to Dr. Isaac Nwaogwugwu, a lecturer at the Department of Economics, University of Lagos, “the issue is not whether the governments are going to deliver on their 2014 budgets because it goes beyond it to spill over to 2015 and possibly beyond that. So, everyone is going to be affected one way or the other.”

Financial experts agreed that the Nigerian economy is facing serious challenges because of government failure to diversify its sources of revenue. This is evidenced by the fact that it depends on oil for over 95 percent of its foreign exchange earnings and about 80 percent for government revenue. The also argued that the ratio of tax revenue to the gross domestic product (GDP) is very low in Nigeria because the inflows of oil revenue have sapped the government’s will to tap the potential in non-oil taxation. This has limited the share of non-oil revenue (including independent revenue) in the GDP to about 10 per cent or less in spite of the fact that in modern economies, taxes are the most important sources of government revenue.

Worse still, Nigeria has failed to manifest the will to manage the oil sector optimally. Today, Nigeria is the only oil producing country that relies on importation of refined petroleum products to meet local consumption. The current capacity of Nigeria’s local refineries is 16 percent when it can earn $300 by refining a barrel crude oil.

Moreover, the management of the oil sector is riddled with corruption. Sources told TheEconomy that there is total lack of transparency and accountability in management of the oil and gas sector; hence there have been cases of “missing” oil money.

Apart from being a monolithic economy, ineffective public expenditure management and the propensity to spend as income increases have not allowed the country to learn from its past experiences of oil price volatility to save for the rainy day. This has made public spending pro-cyclical, such that during oil booms expenditures would shoot up only to contract marginally with increased borrowing in periods of falling oil earnings.

According to Professor Obadan, successive governments have not exhibited the discipline to maintain the reasonable savings in the SWF that would enable them to achieve macroeconomic stability in a healthy form during lean seasons. For this reason, the SWF has been subjected to misuse and its proceeds spent on all kinds of things which were at variance with the essence of the account.

Similarly, Omokhodion also blamed the precarious economic condition of the country on government’s tendency to spend lavishly and leave the country without any benefit even when the oil prices were high. “We ought to have had about $80 billion in reserve for buffer but when it is $4, they will spend $3 and when it is $10, they will ‘eat’ $8. The political class benefits and we see these benefits in beautiful mansions and luxury cars on the streets but not in productive ventures that can create wealth.”

The profligacy of the government is not helped by the grand corruption that has characterised the management of public expenditure in the country through the contract award and procurement process. The situation has been such that the amount of money allegedly spent on public goods and services tended to be grossly inflated such that there is a sharp mismatch between spending and the value realized. It is believed that 60 percent of government contract is used to service corruption.

Currently, the guiding philosophy of the country’s political leaders seems to be to spend as much as they can today and shift the evil days to their successors. Joseph Sanusi, who sold the idea of establishing the ECA in 2004 when he was governor of the CBN, pointed out that things could be worse. “Not only are they spending, they are also borrowing much and leaving much debt for tomorrow when there will be nothing left. So, the problem is very apparent,” he said.

Today, the debt burden on the government is huge without corresponding development on basic infrastructure such as roads, rail, power, education and health system. Remi Bello, president, Lagos Chamber of Commerce and Industry, noted that government would find it difficult to meet financial obligations. This would force businesses driven by government patronage to suffer decline in the short term. “With declining revenue, the risk of default in payment of jobs executed for government agencies will be higher in the short run. This situation calls for cautious engagement with contracts at all levels of government. As government revenue contracts, the capacity to meet financial contractual obligations may be difficult,” Bello said.

The possibility that government could have challenges in meeting its external debt is high. It would also accumulate more debt if foreign exchange inflows remain weak and domestic revenues continue to fall short of projections.

This will add to the increasing burden of debt servicing to revenue ratio, which has risen from 14.79 per cent in 2011 to 19.87 in 2014. It is anticipated that it could rise to 26 per cent in 2015 as government borrows more to finance the budget. For instance, the Ministry of Finance has negotiated long term credit financing of $14.1 billion presumably to support the real economy.

The prevailing circumstance in the international oil market has started to transmit shock waves to the Nigerian economy. Investors in the Nigerian stock market who are wary of potential liquidity crunch have embarked on flight to safety. The Nigerian Stock Exchange (NSE) recorded a loss of N3.132 trillion in equity capitalisation between July 7, 2014, and November 10, 2014.

Moreover, Nigeria is no longer the number one investment destination in Africa as it used to be in 2011 and 2012. Uncertainty in the oil market, coupled with insecurity problem and the inability of President Goodluck Jonathan’s administration to get the Petroleum Industry Bill (PIB) passed into law by the National Assembly are fuelling capital flight.

Likewise, the ability of the country’s economy to create job is dwindling. According to the National Bureau of Statistics (NBS), the total number of jobs created in the first half of 2014 decreased by 151,851 jobs or 30.36 per cent when compared to jobs created in the first half of 2013.

The lessons to be learnt

Could the current oil shock constrain the federal government to do things differently so as to lift the economy from the doldrums? Perhaps, it could. Some economic and financial experts see the current fall in oil prices as a blessing in disguise. For instance, Akpan Ekpo, a Professor of Economics and Director- General of the West African Institute for Financial and Economic Management (WAIFEM) told TheEconomy that the positive implication of a persistent decline in oil revenues is that it would force policy-makers and the leadership to urgently diversify the economy away from oil. “Why can’t we plan or budget for the economy as if we do not have oil? It is an early warning signal,” he said.

Wilfred Iyiegbuniwe, a Professor of Finance at the University of Lagos, also shared the same view. “Let the oil price crash and let all of us face the consequences. We can survive without oil if we have sincere leadership. We should be more afraid of the insincerity of those in leadership and the coming election,” Iyiegbuniwe said.

For Dr. Nwaogwugwu, the current situation would compel the government to be more disciplined in its fiscal management and intensify legitimate efforts toward revenue generation. “We have many rich people who are not paying taxes. Many companies are outside corporate tax bracket. There are many leakages. Many oil companies are evading taxes. But the key lies with prudent management of resources,” he said.

Professor Obadan submitted that the federal government could learn a number of lessons from the current oil price shock. Firstly, there is need for government to take economic diversification very seriously to reduce dependence on oil revenue by stopping the implementation of measures that worsen the business environment.  Secondly, the government needs to muster the will to govern the country well and eliminate corruption from public spending and make it effective. Thirdly, the Nigerian government should have the will to go beyond the oil euphoria and make non-oil taxation the primary source of revenue.



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