The overhaul of the banking system is the latest reform milestone crossed by the Obasanjo government. Although many challenges lie ahead, the momentum of reform is gathering pace, promising long-lasting transformation, writes James Eedes.

Not too long ago, any suggestion that Nigeria was on track to emerge from its political and economic torpor would have been dismissed as fanciful but the idea is now gaining ground, albeit with important caveats.

The government estimates that the economy grew by as much as 6.5% in 2005, faster than 2004 and more than double the 2.9% average over the past decade. Significantly, non-oil gross domestic product (GDP) growth is estimated to have accelerated to 8.2% in 2005, up from 7.4% in 2004. Early forecasts suggest the overall economic growth for 2006 will top 7%.

Nigeria is Africa’s most populous country and could become the continent’s biggest economy. It is blessed with oil (3% of known reserves; 10th in the world) and natural gas (2.8% of reserves; seventh in the world). It is also believed to have substantial solid mineral deposits, possibly worth more than the country’s hydrocarbon reserves. Fertile soils and abundant fallow acreage beg cultivation in a country that was once known for its farm exports but is now spending more than $2bn importing basic food items such as rice, sugar, wheat and vegetable oil. There are also attractive opportunities in the manufacturing sector.

Where the right investment conditions have been created, the pay-off has been considerable. Telecommunications liberalisation spawned mobile services; market-leader MTN recently reported six-month earnings of $970m for its Nigerian operations and a 38% rise in users to more than 7.7 million. Nigeria remains one of the fastest growing mobile phone markets in the world.

Investment bank Goldman Sachs believes Nigeria could emerge as the world’s 11th biggest economy by 2050. Having coined the BRIC (Brazil, Russia, India and China) acronym in 2003, the bank set out to identify a further group of countries that have the scale and trajectory to rival major economies in the future. Although emphasising it was a case of ‘could’ rather than ‘would’, Nigeria was noted for its large population and wealth of natural resources.

Counter-image

But there is a lingering counter-image of Nigeria, one that recalls military coups, despotic leadership and wanton corruption. Throughout decades of neglect, public institutions have been severely eroded, which has caused basic infrastructure to crumble. Transparency International, the anti-graft watchdog, places Nigeria 152nd out of 158 countries on its global corruption perceptions index. The World Bank ranks Nigeria 88th out of 117 countries on its 2005 global competitiveness index.

FITCH RATINGS: KEY INDICATORS FOR NIGERIA

Changing perceptions

It is this perception of Nigeria that president Olusegun Obasanjo wishes to consign to history. To transform the country irreversibly, he and a team of reformers have steadily and determinedly implemented an ambitious but coherent economic reform plan. The National Economic Empowerment and Development Strategy (NEEDS) was unveiled in 2003 but in less than three years the government has added one reform success after the other to its lengthening track record.

A crucial pillar of the reform plan is a zealous zero tolerance for corruption, countering the most persistent and negative perception of the country. An ongoing campaign, fronted by the Economic and Financial Crimes Commission and its chairman, Mallam Nuhu Ribadu, has shaken the establishment, going after and occasionally bringing down some of the holiest cows. More arrests need to be made before the tide is turned for good but the country’s wayward officials have been given notice and, just as important, the Nigerian public is starting to believe that corruption will not continue unchecked.

The second pillar of reform is to overhaul the operations of government and improve its effectiveness. The furthest-reaching reforms have been made in the finance ministry, where Ngozi Okonjo-Iweala, the no-nonsense finance minister, has restored order to chaotic public finances. She has implemented an oil price fiscal rule, limiting expenditure to the fiscal revenue received at a pre-determined oil price. More importantly, and in a break with the past, she has saved the revenue windfall arising from a higher oil price. As a result, the country has enjoyed large general government budget surpluses in the past two years. For 2005, the surplus is provisionally estimated at 14% of GDP; in 2006, the budget will be based on a price of $33 per barrel against a government price forecast of $60 per barrel. As a result, reserves are forecast to swell to $42bn by the end of the year.

In addition to fiscal prudence, the minister has established unprecedented levels of budget transparency, publishing expenditure allocations to all tiers of government. She is seeking more efficient and effective spending, breaking the tradition of budgets going unspent or half-finished capital projects falling idle.

Private development

The remaining pillar of the reform is private sector development. The government has scaled down its involvement in the economy with the disposal of a number of small state-owned companies. Some of the biggest and most complex deals remain but Mr Obasanjo has re-emphasised his commitment to the process.

The most important private sector reform so far took place on December 31, 2005. Central Bank of Nigeria governor Charles Soludo announced the successful conclusion of the consolidation of the banking system, cutting 89 banks down to 25 and forcing many small, weak banks to merge, close or be bought out. Consolidation was precipitated by the introduction of new minimum capital requirements, which were hiked to N25bn ($190m) from N2bn. Mr Soludo, who was just weeks into the job at the central bank, made the announcement to howls of protest and scepticism that the market could meet the 18-month deadline. He prevailed, and the outcome promises to change the role and function of the banking system dramatically (the subject of this report).

The immediate spin-off of reform has been that the Paris Club group of creditors has agreed to a comprehensive restructuring of Nigeria’s $30.9bn debt obligation. This involves a 67% face-value reduction under ‘Naples terms’ on eligible debt and a buy-back of remaining eligible debt at a discount. This will result in a total debt cancellation of about $18bn. The total cost of the deal for Nigeria is $12.4bn.

This optimistic outlook was underscored in February when Nigeria received its first sovereign credit ratings, BB- from both Standard & Poor’s and Fitch.

Debt deal

The Fitch rating, with a stable outlook, puts Nigeria on a par with Brazil, Indonesia, Turkey and Vietnam. The rating reflects the likelihood of a sovereign credit default, which, as Fitch notes, has been substantially reduced as a result of the agreement reached with the Paris Club. Fitch describes the debt deals as “extremely important” for Nigeria and its rating prospects, highlighting the normalisation of relations with external creditors after a prolonged period and the major transformation in the public and external balance sheet. According to Fitch, government debt should fall from 66% of GDP in 2004 to as low as 17% of GDP by the time the operation is concluded in 2006, far below the BB rating category median of 48% of GDP.

With government finances under control, reserves growing, the non-oil economy lively and rising foreign investor interest, the question is whether Nigeria can sustain its steep trajectory of improvement. This will depend on whether the government can resolve some key problems.

Recently, the country was hit by a triple blow. In the troubled Niger Delta, nine more foreign oil workers were taken hostage by militants. This, combined with attacks on production facilities, forced Shell to shut down large sections of its operation.

At the same time, authorities were struggling to contain the spread of bird flu, which was first detected in Nigeria on February 8. At the time of publication, the limited resources of federal and state governments to intervene posed the risk of a pandemic that would have painful economic and social consequences for locals who depend on poultry for food and livelihoods.

The country was then faced with sectarian violence in the north: clashes between Christians and Muslims that eventually claimed more than 100 lives and in which a number of churches and mosques were targeted. Muslim protests at the publication of cartoons depicting the Prophet Muhammad spun out of control, with 18 Christians being killed, triggering revenge attacks.

Natural disaster

The most urgent challenge to the government is the stability of the country’s oil producing areas. A recent research report by investment bank Merrill Lynch says failure to address this would have “extremely negative” consequences for Nigeria, slowing the flow of oil (and the fiscal revenue earned on it) and curbing new investment. In 2005, oil accounted for about one-quarter of GDP, 85% of government revenue and more than 90% of export earnings. With what seems to be escalating militancy, the government is under pressure to act. The Merrill Lynch report says the response to the violence has so far been “opaque”, casting doubts on the government’s commitment to resolving the problem.

There is no doubt that the government recognises the problem; the question is whether it has the means to deal with it. Groups such as the Movement for the Liberation of the Niger Delta are well armed and appear to be well organised. The government also needs to be politically sensitive, given that there is some sympathy for the militants’ demands for a greater share in oil profits.

Short of a long-term scale back in production, the fiscal cost – the taxes paid by oil companies to the government – is relatively small. A far bigger risk is the international public relations damage.

All of these problems exacerbate the government’s already demanding agenda. For instance, severe infrastructure constraints, particularly power, need to be addressed if the economy’s growth momentum is not to peter out. Civil service reform that could result in up to 160,000 workers losing their jobs must be handled sensitively.

Election fears

These challenges exist against the backdrop of presidential elections next year, which are casting a question mark over the country’s immediate future. Under the constitutional two-term limit, Mr Obasanjo is due to step aside and there are fears that his successor might not pursue reforms with equal vigour, or worse, abandon them altogether.

In Nigeria, presidential politics is complicated by a rumoured informal agreement that the presidency be rotated between north and south. A proposed constitutional amendment in 2003 went further, putting forward the idea that the presidency be rotated through the six geopolitical zones of the country. As Mr Obasanjo is from the south, there is already a strong clamour that the next president be from the north. Complicating matters further, Mr Obasanjo has cultivated a rumour that he might amend the constitution to stand again.

There is a risk that Mr Obasanjo will lose the political upper hand with respect to reforms and become bogged down in pre-election jockeying and skirmishing.

Some of the reforms achieved, such as privatisation and banking sector consolidation, are irreversible. To prevent other reforms from being rolled back, the government is actively institutionalising them into law. The fiscal responsibility bill is under debate, establishing an onerous burden on federal and state officials to manage public finances prudently and responsibly. More legislation is scheduled to pass through parliament ahead of the next elections.

Sources trusted by The Banker are adamant that Mr Obasanjo will stand down at the end of his current term. They speculate that the rumour that he is considering a third term is a ploy to draw opposition fire on himself, thus opening the political space for his anointed successor to build support. Regarding contenders for the presidency, there is no obvious indication.

There is no doubt that Nigeria’s rent-seeking crony elite still wields influence and powerful forces will try to sway the outcome of the election but there are also signs of an approaching tipping point, after which it becomes increasingly difficult to reverse the direction of reform. Consolidation of the banking sector, the most direct confrontation between the reformists and vested interests, was successfully navigated, in part because of Mr Obasanjo’s political nous. It is exactly this canniness that underpins the likelihood that he would never let Nigeria slip backwards.

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