March 20, 2020 / 09:40 AM / By FBNQuest Research / Header Image Credit: @ZReporters
Event: The federal government cuts gasoline pump prices by N25 to N125/litre and introduces of a market-friendly pricing mechanism.
Implications: Elimination of oil subsidy payments and increased liberalisation of the petroleum downstream sector.
Late yesterday, the federal government (FG) announced significant structural changes to gasoline pricing. The key takeaways were 1) market forces will henceforth determine the price of all petroleum products; 2) pricing bands will be determined by the Petroleum Products Pricing Regulatory Agency (PPPRA) and will be disclosed every two weeks and 3) all marketers are now allowed to import petroleum products, ending the Nigerian National Petroleum Corporation (NNPC's) monopoly. Yesterday's announcement was a follow on from a -14% (or N20/litre) reduction in gasoline pump prices to N125/l the day prior.
The government's new found flexibility is driven by rapidly declining global oil prices resulting from the global health pandemic and an on-going dispute between two of the world's largest oil producers, Russia and Saudi Arabia. Going strictly by the FG's statement, it could be inferred that we have seen the last of gasoline subsidies. Nevertheless, we recall that a similar price modulation mechanism was introduced in 2016/17 when oil prices were also subdued. Subsidies were subsequently re-instated as prices increased.
While we hope that global efforts to control the spread of covid-19 yield favorable results in the short term, the timing on a resolution (if ever) of the Russia-Saudi Arabia row is harder to call. We suspect that OPEC+ might be irreparably broken which could potentially result in relatively lower oil prices beyond this year. The next OPEC meeting is scheduled to hold on the 9th of June, 2020. Therefore, it is very likely that oil prices will remain subdued at around US$30/barrel levels in H1 2020. Under this scenario, the FG's resolve to maintain the newly introduced market-driven pricing regime will likely not be tested as the expected market price for gasoline should comfortably remain below the previous N145/l pricing ceiling, all things being equal. We note however that the present situation could change quickly and as such do not totally write off the possibility of an emergency OPEC+ meeting before June. For now though, it is considerate to write off any chances of a strong recovery in global oil prices over the next quarter. Although China is getting back on its feet, OECD economies - which account for almost half of global oil demand - are presently in the eye of the covid-19 storm. Therefore, we expect global oil demand to remain weak for some time yet.
The FG will have to make a bold decision when the global economy restarts and oil markets strengthen. The two options it has are to continue with the market-driven price modulation or revert to the subsidy regime. We believe that this administration is now in a much stronger position to do away with the expensive and burdensome oil subsidies.
Yesterday's announcement is a big break for downstream marketers. The extent of the new policy gains is subject to the government permanently retaining a free market, by setting gasoline pump prices in line with prevailing global oil prices. However, we do not anticipate an immediate boost to product sales volumes in H1 given that social, religious and economic activities in Lagos State (now expected across major cities in the country) are now reined in to prevent a health pandemic. To put this into context, according to official figures, Lagos accounts for 20% and 55% of national gasoline consumption and stock level respectively. We also note the likelihood of increased petroleum product importation activity by marketers given relatively lower prices.