Feb ’13 Economic Overview: Single digit inflation crystallizes on strong base effects


Tuesday, March 05, 2013 12:35 PM / ARM Research

The NBS reports that prices rose 0.6% MoM in January 2013, bringing the YoY inflation rate to 9%. The decline largely bears out much-anticipated ‘base effects’ from January 2012 when the partial removal of petroleum subsidies spurred a 3.3% MoM jump in inflation.


YoY Core inflation snapped a two month rise falling 240bps in January to 11.3%. Food prices rose 10.1% YoY and 0.8% MoM in January – 10bps and 20bps lower from the December reading respectively—reflecting, in our view, improved storage and government efforts to mitigate the adverse impact of flooding in Q3 2012. The latest NBS figures lower the CPI trajectory further supporting our expectations for single-digit inflation readings for most of 2013.


Near term risks to headline CPI arise from the food component where FEWS NET reports that a joint field assessment by NEMA, WFP, OCHA and CILSS in January to evaluate flood related damage, noted that “2012/13 staple food production may be as much as 12 percent lower than November 2012 estimates”. The body had earlier indicated that 2012 output would only be 2% lower than a bumper 2011 in spite of floods. Furthermore, recent reports from the agriculture ministry suggests that national production of staples such as maize, yam, and cassava in 2012 contracted 10%, 13% and 9% YoY and 1%, 8% and 3% respectively relative to the five-year averages.


We believe adverse base effects in February 2012 and food stock depletion could drive a temporary rebound in February 2013 headline CPI but still forecast FYE 13 average CPI of 9.7% ± 50bps.



Naira weakens as demand returns to the official market

On the heels of a 0.7% depreciation in January, the naira shed a further 0.6% to close February at N158.1/$1 in the interbank market. At the official market, the USDNGN weakened 0.01% to N155.75/$1 as a resurgence in WDAS demand snapped an 8-month declining trend in monthly dollar sales, climbing 38% in February to $1.2billion. Increased pressure at the official market  appears to reflect increased petroleum product imports with the payment of subsidy arrears in January, which possibly coincides with moderation in dollar supply at the interbank as IOCs, who are the major suppliers in that market, usually repatriate profits towards the end of first quarter. Nevertheless, foreign reserves climbed 3.04% from January end levels to $47.4billion spurred by higher oil prices during the period.


Figure 2: USDNGN Exchange rate and WDAS Sales

We still see near term outlook for the naira as dependent on impact of global economic events on oil prices. In this regard, while there is still a semblance of calm in global markets and economy thus far in 2013, political risks appear to have materialized over a ‘hung election’ in Italy and political squabbles in Spain. In addition, the US ‘sequestration’ could create further uncertainty as the full nature of $85billion cuts crystallize with the IMF warning that the event could shave at least 0.5 percentage points off US 2013 GDP growth (IMF forecasts a 2% GDP growth in the US).


On the other hand, although, China’s February PMI reading came in lower reversing a recent rising trend, we note that January and February readings are often distorted by the onset of the Chinese Lunar New Year holidays and much clearer insight can be gleaned from the March reading. In addition, while surging real estate prices serve to limit the scope of further monetary easing, tamer inflation reading could ease such worries. We thus believe that continued recovery in the Chinese economy as well as persistent tensions in the Middle-East should continue to provide support for oil prices. Notably, Brent crude averaged $115.66/bbl in February, 4.2% higher MoM.


Yields trend lower under pressure from maturing paper

As in January when the quantum of bills maturing worked to compress yields across the curve, 91-day, 182-day and 365-day treasury bill papers shed 90bps, 39bps and 109bps over the month to close at 10.38%, 9.93% and 9.38% respectively.  Longer dated securities have also closed below the 11% mark with the FGN 2017, FGN 2019 and FGN 2022 shedding 5bps, 16bps and 37bps from January end levels to close at 10.56%, 10.59% and 10.6% respectively. At N1.08trillion, the quantum of maturities in February may be weighing on the yield curve even as investors appear to be pricing in expectations of more benign inflation. The CBN issued N1.35trillion in OMO during the month compared to N1.7trillion in January.


At the monthly bond auction, the DMO issued N115.5billion worth of naira debt along with a surprise inclusion of N15billion worth of the relatively illiquid FGN 2030 bond. The yields on the auction came in 13bps, 4bps and 34bps lower than at January auction at 10.67%, 10.96% and 10.8% for the FGN 2017, FGN 2019 and FGN 2022 respectively, while the FGN 2030 came in 10.9% with a bid-cover ratio of 5.23x vs. an average of 1.7x on the other tenors offered. In our view, massive yield declines since mid-2012 underscores the growing dichotomy between the market’s long term expectations and current monetary policy stance. However, anticipation of rate cuts belies the body language of monetary authorities which shows little indication of a shift. In our view, aggressive OMO issuance hightlights CBN concerns about elevated liquidity levels, a ‘problem’ rate cuts would only exacerbate. With high levels of MPR apparently perceived by the CBN as critical to attracting portfolio flows to prop up the naira, the apex bank has little incentive to change the status quo in the near term.


Relatedly, yields on Nigeria’s  Eurobond surged 50bps in February to a 2-month high of 4.35%, possibly reflecting a pick-up in similar 10-year US Treasuries which have climbed 25bps since YE 2012. However, as we highlighted in our most recent strategy report, while interpreting the expansion in yield spreads is hardly straightforward, EM Eurobond trends may constitute an early indicator of possible reversals in EM portfolio inflows.


Oil exports firm on  Asian demand as theft cuts output

Although, recovery was expected in January crude exports following the removal of force majeures by several IOCs, the re-instatement of a force majeure by ExxonMobil along the 400kbpd Qua Iboe stream which had been earlier lifted on December 10, 2012 served to underscore the growing problem of oil theft. Shell has since hinted at a possible shutdown of the Nembe Creek pipeline due to continuous disruptions with an estimated 150kbpd lost to theft. Nevertheless, oil revenues are likely to have been supported by elevated global oil prices during the period– Nigeria’s Bonny light averaged $117.8/bbl – 3.3% higher than in January supported by lingering effects of the Algerian pipeline attack. Moreover, loading schedules obtained from Bloomberg suggest that January and February exports were respectively 6% and 10% higher than December 2012 levels respectively[1] and while a 9% MoM dip is forecast for March loading (possibly due to disruptions from theft), April programmes is expected to touch an 8 month high.


We believe crude prices will continue to find support in the near term. The EIA estimates that 2012 global oil consumption reached 89.2mbpd with oil supply at 88.97mbpd vs. 88.29mbpd and 87.08mbpd respectively in 2011. It expects global oil markets to remain in deficit -0.17mbpd driven not just by China but by stronger economic recovery in non-OECD Asia, continued European economic weakness notwithstanding. Consequently, the EIA revised its average for 2013 prices 3.8% higher to $109 from its January forecast. This position is corroborated by OPEC which recently raised outlook for global demand 0.84mbd higher on account of colder weather and prospective Chinese economic recovery, though the Paris based oil consumer nations grouping – IEA cut its outlook for demand basing its position on a weaker economic outlook for Europe. We note that the EIA forecasts precludes a major turnaround in European fortunes and that momentum in oil markets are increasingly determined by Asia and is expected to remain so for much of 2013. Furthermore, support for crude oil prices in the near term is likely to come from geo-political risks emerging from Iran and Egypt.

Lower imports likely to boost trade balances

The CBN issued a circular notifying importers of its intention to commence compliance of the new fiscal trade restrictions on raw and refined sugar and husked rice. This in addition to earlier tariff regimes instituted in 2012 on wheat, cement and other rice varieties which helped cut imports 16% in 2012 appears set to reduce imports further in 2013.


Third quarter foreign trade figures released by the NBS indicate that the US still retained its position as the top destination for oil and non-oil Nigerian exports totaling ~N3trillion (N1.9trillion – Oil, N1.1trillion –Non-Oil). However, as a bloc, the EU remains the top destination accounting for ~N5trillion worth of exports (73% oil, 27% Non-oil). China remains the largest source of Nigerian imports accounting for N894billion with the EU – N723billion and the US – N578billion.


As usual, outlook for Nigerian trade balances are largely hinged on crude petroleum exports as well as imports of petroleum derivatives. Crucially, while weaknesses persist in European and US economic outlook, no signficiant deterioration is expected. On the other hand, rising Asian demand leaves room for an expansion in Nigeria’s exports to this region as bilateral trade reltaions improve. We believe this phenomenon will more than compensate for declines in crude volume exports to the US, though price discounts will likely crimp margins. By implication we foresee that, absent a shock on the portfolio investment side, near to medium term outlook for reserves—and the naira—are relatively benign. We however continue to highlight risks on the portfolio investment side which may have increased to some extent in the past month in view of a tendency towards a reallocation towards DM risk assets and rising threats of currency and trade wars across same.


GDP growth slows on agriculture and oil production weakness

Recently released data provided by the NBS shows that output grew 6.99% in Q4 2012, 51bps higher than the preceding quarter but 77bps lower than the corresponding period in 2011. This reading puts 2012 GDP growth 85bps lower YoY at 6.58%.


The 0.79% contraction in oil sector GDP caps a disappointing year for the sector which posted its first annual contraction (0.91%) since 2008 on account of output disruptions and lack of progress on licensing to expand production. The Q4 contraction comes on the heels of a decline in oil production from a peak of 2.5mbpd in Q3 to 2.14mbpd on account of the floods and more significantly the force majeures in operation across four major platforms – Brass, Forcados, Bonny and Qua Iboe.


With the weight of the floods bearing down, Agricultural GDP posted a 3.62% growth for the quarter bringing its 2012 growth rate to 3.97% - 195bps lower than the average growth rate over the last four years. This no doubt reflects the weakness arising from the floods and from insecurity in the north which has resulted in disruptions to production and displacement of people. These twin shocks to agriculture, the main driver of non-oil GDP resulted in non-oil GDP growing at 7.88%, its slowest pace in four years. Wholesale and retail trade, the second largest component fell 172bps lower YoY at 9.61% , with deceleration attributed to lower consumer disposable income due to the partial subsidy removal and the insecurity in the north, while Telecommunications  and Real Estate shed 267bps and 14bps to 31.83% and 10.41% respectively. A few positives from 2012 include the recovery in Manufacturing (5bps to 7.55%), Finance and Insurance(7bps to 4.09%), Building and Construction (32bps to 12.58%) and Business and Other Services (17bps to 9.69%).


Our near term outlook for the oil sector is for production recovery as all force majeures have now been lifted and 2013 will see the on-streaming of new oil wells from previous licensing rounds which should see oil production track the budget assumption of 2.5mbpd barring any significant disruption to oil streams from bunkering activities. However, the delay on the passage of the PIB bill continues to cloud long term outlook for oil production as absence of clarity on the new fiscal regime dims the prospects of new licensing rounds.


Our outlook for Non-oil GDP growth is hinged on reforms in its largest component, Agriculture. Programmes aimed at channelling financing to farmers through the new NIRSAL programme; a new regime of subsidized farm input distribution and higher tariffs on food imports to incentivise backward integration by consumer goods manufacturers and increased investment in industrial scale farming. We believe the effects of this program could reflect in 2013 GDP figures, despite tepid agriculture GDP growth in 2012 amplified by a reversion of the weak 2012 base to trend over 2013. Furthermore, we expect continued acceleration in manufacturing output with improving power supply and improvements in trade and other services as the effects of adverse events for the consumer in 2012 wane in 2013.


Positive outlook to both oil and non-oil segments support our FY 13E GDP forecast band which is 100bps higher than FY 12E at 7.0-7.5%.


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