| Nigeria Economy |    1216 VIEWS  |
| Nigeria Economy | |
| 1216 VIEWS | |
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Friday, May 08, 2020 / 04:34 PM / by NOVA
Merchant Bank / Header Image Credit: @novabankng
Liquidity Pressure to Moderate Impact of
Higher Borrowings
In our recently published report on the fiscal
position, we concluded that the expected borrowing of $6.9 billion and the $150
million drawdown from NSIA will unlock about N2.5 trillion for the federation
account to augment shortfalls from both oil revenue, lower customs and VAT
revenue. Irrespective, we stated that the 2020 budget will still have a N2.6
trillion gap given our modelled budget deficit of N5.1 trillion. Assuming the
only planned foreign borrowing for the 2020 fiscal year is the $6.9 billion
from IMF, World Bank and AfDB, we believe the options available to the FGN to
finance the gap are domestic borrowings, CBN overdrafts and drawdown from
existing deposits held in accounts of extra-budgetary funds (like the
stabilization fund). The total balance in the stabilization fund at the end of
2019 was $351 million, as such with the withdrawal of the planned $150 million,
the excess in the account even if totally drawdown will only provide N72
billion in funding, which will be shared with states and local governments.
Accordingly, we believe the most viable option available to the FGN in funding
the gap is domestic borrowings and CBN overdrafts.
On
borrowings, compared to the approved budget which allocated N744 billion in new
domestic borrowings and N850 billion external borrowings, the DMO recently
received approval of the Senate to source the planned external borrowings from
the domestic market, bringing total planned domestic borrowings to N1.6
trillion. With expected total NTB and Bond maturity of N3.5 trillion over 2020,
we reckon that total paper issuance by the FGN will have to sum up to N5.1
trillion during the year. Between January and April, the FGN issued total
securities of N2.0 trillion (of which N1.2 trillion is NTBs and the rest N817
billion in bonds), with total maturity over the same period of N1.73 trillion
(the sole bond maturity for the year was in February, N606.4 billion). As such,
to meet up with the planned domestic borrowing, the FG will have to issue a
total of N3.1 trillion between May and December, which we believe the domestic
market can sufficiently supply given the run rate over the first months of the
year.
However,
given that the 2019 budget deficit was largely financed by the Central Bank of
Nigeria (CBN) to the tune of about N2.9 trillion through drawdown on ways and
means, we do not rule out the FGN adopting same approach over 2020. As such, on
a preferred scenario, we see the FG actual new domestic borrowings summing up
to N1.24 trillion with the CBN financing the excess of the gap of N1.24
trillion.
On
pricing of the borrowings, out of the OMO holdings prior to the restriction of
corporates and individuals from participating in OMO (effective 23 October
2019), a total of N9.83 trillion is due for maturity in 2020 with about N4.2
trillion of the maturity being held by corporates and individuals. With the
maturities largely dominating the NTB, Bond and corporate instruments, we see
limited upside for stop rates from NTB and bond current levels of 2.73% and
11.2% on average respectively. While our outlook for the gross reserve favors
upward adjustment to the OMO rates in H2 2020 to make it more attractive for
foreign portfolio investors, we expect the divergence between the OMO and NTB
rates to persist over 2020.
Rising Reserves Pressure Could Result in
More Stringent Policies
The
gross external reserves depleted at a much faster rate of $1.64 billion (March
depletion $1.14 billion) in the month of April to adjusted level of $32.24
billion. While CBN was largely absent at the Investors and Exports Window (IEW)
amidst lower intervention sales across other segments, we reckon that the rate
of depletion is not unrelated to matured swap positions, external debt service,
drawings on LCs, other official payments, funds returned to remitters and 3rd
party MDA transfers. Sales across other segments was meagre following the
lockdown implemented for most of the month. Particularly, CBN sales to the
SMEs, Invisibles and SMIS (retail and wholesale) windows declined 32% MoM to
$451 million as CBN rationing of dollars and DMBs lowering of bids to avoid
unusual debits by CBN persists. Non-auction sales also declined to just $192
million from $2.3 billion in March, while no sale was recorded for BDCs
following the suspension of sales in April. Even with the dollar rationing at
the interbank and SMIS, it is our understanding that the apex bank is yet to
deliver on some sales in March and April.
On the positive, despite the lackluster activities in
April, foreign inflows totaled $163 million compared to $335 million in March,
while local supplies (ex-CBN) also declined to $360 million (March: $819
million). With the absence of CBN intervention at the IEW, only DMBs activities
with clients were recorded. DMBs sold a total of $492 million during the month
compared to purchases from clients of $465 million.
OTC FX
futures market activity also slowed in the month of April, with total value
traded declining to $1.99 billion compared to $4.95 billion in March (with
total number of transactions declining to 246 in April from 755 in March).
Notably, a total of $1.52 billion contracts matured on April 29. Compared to
the rate at initiation of N362.4/$, the NAFEX rate on the settlement date
averaged N387.5/$, indicating the apex bank closed the position with a loss of
N37.9 billion compared to N6.3 billion loss on the March settlement. Reflecting
the widening loss position, the FMDQ today announced upward revision for all
new contracts, with the 6 months, 1 year and longest tenor moved up by N11.8,
N26.93 and N156.33 to N402.9/$, N421.2/$ and N569.69/$ respectively.
In our
April Economic Insight, we stated that with limited inflows in sight and
reduced avenues to control outflows, we do not see the recent price adjustments
to the NAFEX and BDC rates having any material impact on the reserves. As such,
we concluded that the only option that will have any meaningful impact on the
reserve is an outright floating of the exchange rate with intermittent
intervention to avoid unnecessary speculative attacks. In modelling the reserve
position over the rest of the year, we have adjusted expected oil inflows to
reflect the depressed oil price and production cap due to compliance to OPEC+
cuts. Also, we expect paucity of FPI inflows to persist for the rest of the
year, while we also adjusted outflows for the resumption of sales to BDC in
May, albeit lower than average of January to March. With the minimal activity
at the IEW in April, we believe the portion of offshore holdings of maturing
fixed income ($10.6 billion between April and December) for the month of April
(estimated at $1.02 billion) is yet to be repatriated, as such we rolled it
over to the rest of the year.
Still assuming a worst case scenario that 100% of the
offshore holdings are repatriated, resumption of sales to BDC in May amidst
import and services demand, the gross external reserves could end the year at
$20.6 billion. Adjusting our modelled reserve level for the inflow of IMF
facility and other official receipts, we see support for the reserve to $24.4
billion at year end. Furthermore, if adjusted for the remaining expected World Bank
and AfDB borrowings of $3.5 billion, we estimate a year end reserve position of
$27.9 billion, with our model suggesting further weakening of the NAFEX rate to
N410/$. On the offshore holdings, given the scale of fixed income sales by
offshore investors prior to maturity, the timing of the repatriation might
defer from our monthly expectations based on the maturity profile. And also, we
do not rule out the introduction of capital controls, either in form of
sizeable currency adjustment or other administrative measures, to limit the
scale of the offshore repatriation.
FX Depreciation and Social Distancing to
Ignite More Pressure on Prices
Events
over the last two weeks in March to a large extent changed our view of price
movement over the rest of the year. However, given delayed transmission of the
disruption in supply chains and the tacit exchange rate adjustment,
month-on-month inflation expanded by 0.84% coming above 0.79% MoM in February,
but below our forecast of 0.93% MoM change. The increase compared to the prior
month largely mirrored 7bps MoM increase in both the food and core index to
0.94% and 0.80% respectively. Going by the breakdown of the food index, the
increase emanated from a slower expansion in farm produce (+2bps to 0.88% MoM),
which neutered increase in processed foods (+62bps to 1.6% MoM). On the core
index, Transport sub-index firmed 1bps MoM, while Clothing & Footwear
(+3bps to 0.78% MoM), Health (+1bp to 0.81% MoM) and Housing, Water, Gas,
Electricity, and other Fuel (+5bps to 0.60% MoM) recorded increases.
Despite gradually fading, the impact of the border
closure continued to take its toll on the price level, when compared to the
prior year. Specifically, food prices remained elevated with the YoY number
expanding 7bps to 14.98% reflecting increases in prices of imported food (+6bps
to 16.2% YoY) and processed food (+320bps to 12.9% YoY), which more than
outweighed gains from bountiful harvest with farm produce declining 22bps to
15.2% YoY. Solidifying the pace in the prior month, the core index surged 30bps
to 9.73% YoY, following increases in Furnishing (+12bps to 9.50%), Transport
(+6bps to 9.49% YoY), Health (+5bps to 9.99% YoY) amongst others. Overall, the
headline inflation expanded by 12.26% in the month of March, coming ahead of
February level of 12.20%. Relative to same period in the prior year, the food
index is 153bps higher than the March 2019 level of 13.45% YoY while the core
index increased by 27bps from 9.46% YoY in March 2019.
We believe the impact of the disruptive impact of a
breakup in the supply chains (with transmission to scarce imported commodities
and higher demand for local substitutes), the abrupt adjustment to the exchange
rate and jump in prices of essential items (due to the lockdown) were largely
evident in the month of April. All told, we expect the consumer price index to
expand by 0.96% MoM, with headline YoY expanding to 12.28% YoY in April. While
we still allow our model to reflect the likely implementation of the higher
electricity tariff in July, we acknowledge recent communication between Nigeria
and IMF suggesting a likely implementation starting 2021 due to the economic
cost of the Covid-19 outbreak on consumers. We maintain our expectation of
persistent Naira weakness, elevated transportation cost due to social distancing
policy and higher prices of essential items due to the partial lockdown. All
told, we expect average inflation rate for 2020 to settle at 12.7% on our base
case.
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