Nigeria was once feted as Africa's leading economy. However, attacks on its oil infrastructure and a dollar liquidity crunch have pushed it into recession. But the government is determined to push through strategies that will revive this regional powerhouse, as James King reports.

Naira notes

Nigeria’s ascent to assume the mantle of Africa’s leading economy is one of the more impressive emerging market growth stories of recent times. But, in common with many of the country’s peers, this trajectory has been volatile, characterised by surging highs and challenging lows. The past two years have been no exception, as lower oil prices have hit the economy hard. Today, Nigeria is dealing with several vexing problems, including a dollar liquidity crunch and growing insecurity in the oil-producing Niger Delta.

In July, inflation hit an 11-year high of 17.1%, while second-quarter growth figures revealed that the economy had entered into a recession for the first time in more than 20 years. These difficulties are having a material impact on the wellbeing of a population that is increasing more quickly than gross domestic product (GDP) growth, which is projected to contract by about 1.8% this year.

Infrastructure spending

But the authorities are responding to these setbacks with a mix of policy changes and supportive spending plans to bring about positive change. In June, the Central Bank of Nigeria (CBN) implemented a flexible exchange rate for the naira, while the administration of president Muhammadu Buhari is trying to push ahead with ambitious spending plans to develop the country’s infrastructure.

For Nigeria, there will be no easy or immediate fix, though the government is now handling the situation with an improved set of policy tools. With further reforms, there is a strong chance it will be able to bounce back more quickly than expected. To its advantage, Nigeria boasts a solid banking system, a large emerging middle class and an investment opportunity suite that spans multiple sectors. Leveraging this potential while shielding it from the worst of the current crisis is now at the top of the government’s agenda.

Indeed, a number of business leaders view the current environment as an opportunity to achieve lasting economic reform. “Nigeria’s economy is facing a number of serious challenges today. But there is an abundance of latent potential and I think the current situation will be a turning point in terms of achieving greater diversification,” says Peter Amangbo, chief executive of Zenith Bank, the country’s largest lender.

Oil attacks

For now, however, Nigeria’s most invidious problem – that of a dollar liquidity shortage – must be corrected. Collapsing crude oil prices were the proximate cause of this deficiency. But the initial challenge has been exacerbated by the country’s declining crude oil production as a result of rising militant activity in the Niger Delta. By early 2016, attacks on oil facilities had become so severe that Nigeria lost its status as Africa’s biggest oil producer to Angola. In doing so, it lost a crucial source of US dollar revenue.

“During the [former president] Goodluck Jonathan era, the main problem facing Nigeria’s oil sector was the issue of bunkering [theft from pipelines]. Today, it is militants’ attacks on oil facilities in the Niger Delta that is shutting in production,” says Yvonne Mhango, director and sub-Saharan Africa economist at Renaissance Capital. “Even if oil prices rebounded, it won’t have a material effect on the country because production levels are so depressed.”

The impact has been challenging as government revenues and exports have both taken a hit, diminishing public investment and cutting off much needed supplies of hard currency. There have also been knock-on effects for the non-oil economy.

Broad-based recession

In the second quarter of 2016, the national statistics agency revealed that Nigeria had entered into a recession, which appeared to be relatively broad-based across both hydrocarbon and non-hydrocarbon sectors.

“The slowdown in non-oil growth is related to the lack of dollar liquidity. Though the non-oil economy accounts for 90% of GDP, it relies on the hard currency generated by the oil sector to secure imports,” says Oyin Anubi, sub-Saharan Africa economist at Bank of America Merrill Lynch.

Collectively, in June 2016 these challenges led the CBN to abandon its administrative dollar peg, which had been in place since February 2015. While this policy helped to stabilise the currency and ward off inflationary pressures that would have affected ordinary Nigerians during the period, it also earned the criticism of investors and other market participants due to the various restrictions put in place to achieve the peg. These included import restrictions and trading limits on the interbank market, among other measures.

Welcomed FX strategy

As such, the CBN’s move to a flexible exchange rate regime was welcomed by both local businesses, particularly those reliant on imports, and international investors, who viewed it as a way to boost foreign exchange liquidity and invigorate trading activity. “This was a very bold move by the central bank. It has helped a lot in terms of restoring confidence in the market,” says Mr Amangbo.

Although it had an immediate impact – the naira lost 30% of its value against the dollar on June 20 – in the intervening weeks, a gap between the official and parallel exchange rates has emerged once more.

“The level at which the foreign exchange market is now operating is not considered to be a sufficient adjustment by some businesses and investors. There’s a still a gap between the parallel and official rates,” says Abubakar Suleiman, executive director at Sterling Bank.

According to research from pan-African lender Ecobank, this reflects a structural mismatch between US dollar supply and demand. Here, the steep drop-off in oil production is playing a big role in diminishing the quantity of dollars in Nigeria’s economy. By May 2016, production had fallen to about 1.4 million barrels a day (b/d) from an average of 1.8m b/d in the first quarter of the year and 1.9m b/d in the fourth quarter of 2015. At the time of writing more recent data was unavailable, although further production declines were anticipated.

“Given the lack of progress in talks between the government and the Niger Delta militants, we expect production to remain depressed in the second half of 2016. This could further weaken the naira, along with Nigeria’s balance of payments position,” says Renaissance Capital’s Ms Mhango.

Liquidity boost

To improve liquidity levels on the interbank market, it will be vital to stabilise and then increase oil production. The government’s drive to secure external financing in support of a record $19.4bn budget, which includes a tripling of capital expenditure, will also provide an indirect boost. In early September, Bloomberg reported that the federal government had agreed to long-term loans with the World Bank, the African Development Bank, China and Japan, though the value of this financing was unclear.

Nigeria was expected to borrow about $3bn from the World Bank and African Development Bank, following comments made by the country’s finance minister in June. It is also expected to raise about $1bn in Eurobonds before the end of the year.

“Dollar liquidity remains constrained and until the sovereign attracts new dollar funding, Nigerian corporates will continue to struggle. Securing external financing will improve dollar flows between the banks in Nigeria. Once this happens, the backlog of outstanding transactions [on the interbank market] can then be settled and the market will begin to function effectively,” says Mr Suleiman.

If the government’s spending plans can be realised, they will go some way to addressing some of the country’s current ills, including high unemployment. Moreover, the emphasis on infrastructure development will give a much-needed boost to the sectors of the economy that have escaped the current malaise, such as agriculture and mining. And, with these improvements in place, there is every chance that their growth could accelerate further in the coming years.

“Growth in the mining and agriculture sectors has been strong in recent times and it appears to be quite sustainable [over the long term],” says Mr Suleiman.

Agriculture and healthcare

For their part, Nigeria’s banks stand ready to support this booming growth and are actively seeking to diversify their loan books away from traditionally dominant sectors. Zenith Bank, the country’s largest lender, has identified the agricultural sector as a key pillar of its growth, for instance. Similarly, Sterling Bank is supporting investments in both the health and education sectors.

But the country’s banking system has not been immune from many of the current challenges. Even the largest lenders are feeling the pinch of slower economic growth, exposure to the oil and gas sector and higher operating expenses.

“The near-term challenges facing the banking system are broadly hinged on macroeconomic uncertainties. The slowing economy and contraction of GDP in the first half of the year reflect the weak level of economic activity occurring in the country and [more limited opportunities] for banking sector growth,” says Mr Ugochukwu Nwaghodoh, group chief finance officer at United Bank for Africa.

Today, Nigeria is at a juncture. With the right reforms and a commitment to the further liberalisation of the economy, this could be an excellent opportunity to revive a regional powerhouse. Much will depend on the government’s commitment to meaningful change as well as the restoration of confidence among both local and international investors.

Better transparency 

Early signs have been encouraging – the transparency of key public institutions has increased, while reforms have strengthened the ability of the country’s financial sector to weather adverse economic conditions. “Today there is unprecedented transparency in the Nigerian National Petroleum Corporation and a number of opaque contracts have been cancelled. The banking sector is in better shape than it was before the previous crisis [in 2008], and reforms from the central bank have helped,” says Ms Anubi at Bank of America Merrill Lynch.

Nigeria’s progress from here is unlikely to be linear. But there is every chance it will continue on a forward march.


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