Nigeria's Impending Recession

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Thursday, April 23, 2020 / 10:58 AM / By FDC Ltd / Header Image Credit: Ecographics

 

The International Monetary Fund (IMF) estimates that the coronavirus pandemic will cause a global recession in 2020 that could be worse than the one triggered by the global financial crisis of 2008-2009. However, it expects a recovery by 2021. The pandemic has sparked a global economic meltdown. The negative effect on growth comes through both demand and supply channels. As entire countries go into lockdown and economic activity grinds to a halt, negative consumer and business sentiment will impact demand negatively. At the same time, businesses have shutdown and the resultant disruption to global supply chains is still yet to be fully quantified.


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For Nigeria, It's No Longer A Case Of If But When

A second recession in four years is clearly on the cards. In 2016, it was the incomplete and belated response to the oil price crash that was the trigger. In 2020, the trigger is COVID-19 and preemptive measures on the part of the monetary and fiscal authorities will more than likely not be enough to stave off the looming threat. Four years ago, external reserves were $25.84bn while external debt was $11.26bn (mid-size buffers: $14.58bn). Today, the buffers are down to $9bn as external debt has more than doubled to $26.94bn while reserves, though higher at $35.94bn, have been in steady decline for about 10 months.

 

The impact of COVID-19 on the Nigerian economy has been 3-dimensional. The first is from the medical and health care perspective. The second is through a slowdown in trade, investment and project finance, considering that Nigeria's largest and most important trading partners are China and India - who are on lockdown. The third is through the plunge in oil prices and its devastating impact on macroeconomic stability.

 

A Case Of Deja vu

Nigeria's vulnerability to oil market turbulence is once again brought under the spotlight. The impact of an over 50% drop in oil prices since the start of the year will lower export revenues considerably from an estimate of $65.7bn to $40bn. Imports are now also projected to fall to $43bn as both consumption and production slow. This means that the trade balance will fall to -$3bn from $11.4bn in 2019. According to the IMF a 10% drop in the price of oil in one year will reduce GDP growth by 1.3%. Therefore, if the current price of oil ($28pb) persists through 2020, Nigeria's GDP will contract by 0.2%, guaranteeing a return to a recession.

 

The drop in oil prices means lower government revenue, which translates into many states having difficulty meeting salary and pension obligations. Capital projects will be suspended and contractors owed. This is negative for aggregate demand. When Q4'19 GDP growth numbers are broken down, it reveals that oil sector growth of 6.36% is the major driver of growth in the period. Of the 46 activities tracked by the NBS only 12 outperformed the national GDP growth rate of 2.55%. The 12 activities had an average of 6.85%. The other 34 activities had a combined average growth of -01.04%. The fast growing sectors including aviation are also highly vulnerable to the impact of the COVID-19. As if the oil price shock is not bad enough, the rapid spread of coronavirus means entire industries are faced with shutdowns as a way of slowing down the outbreak. This is already resulting in job losses and Nigeria's unemployment figures could rise to 35-40%.


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Policy Fall Out

Nigeria's current expenditure plan (N10.59trn) is too small to meaningfully support the economy. The sharp drop in oil prices has necessitated a proposed cut of N1.5trn ($5bn) to the 2020 budget and the adoption of a lower oil price benchmark of $30pb. It also nudged the CBN into action after which it announced 6 policy responses:

    1. Extension of moratorium on loans
    2. Reduction of interest rates from 9% to 5%
    3. Creation of a N50bn (130mn euro) fund to support the economy
    4. Credit support for the healthcare sector
    5. Regulatory forbearance & strengthening of the loan-to-deposit rate policy

 

Fiscal and monetary coordination is needed now more than ever before. An exchange rate adjustment to N380/$ means more revenue for the government as oil exports are priced in dollars but it also means higher import prices, including for food. To many, the CBN could not have chosen a better time to devalue the naira. Nonetheless, a similarly pressing issue would be when it would be a perfect time to remove petrol subsidies completely - certainly in a period of low oil prices. A lower pump price of Premium Motor Spirit (N123.50/liter) has been implemented and this will boost aggregate consumption, but not significantly. The CBN has left interest rates unchanged as it weighs inflationary fears against the need to lower interest rates and stimulate growth. There is no telling how long this recession will last but sustainable and accelerated post-COVID-19 recovery will require economic restructuring that incentivizes long-term investment. Hopefully, the movement towards equilibrium factor pricing (exchange rate and petrol prices) will be a catalyst.

 

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