Nigeria Economic Outlook H2-2021: Walking a Slippery Slope


Monday, July 26, 2021 / 02:04 PM / by United Capital Research / Header Image Credit: United Capital 

Global Economy: Strong but uneven recovery

2021 was tagged the year of return to normalcy, and we highlighted that growth across countries would remain uneven due to differing wealth of nations. Large swathes of that forecast have proven to be right. The forecast that more affluent countries would recover stronger from the pandemic never appeared more accurate, thanks to the combination of accommodative fiscal and monetary policies. Although the global economy's outlook appears greener, global expansion remains heavily dependent on successfully overcoming the Covid-19 health crisis, as the virus remains a threat. As of the time of writing, there have been 169,597,415 confirmed cases of COVID-19, including 3,530,582 deaths, as reported by the World Health Organisation (WHO). A 3rd wave of the pandemic, led by a new, more infectious "Delta" variant, has emerged in various pockets of the globe, prompting the reintroduction of lockdowns. Furthermore, while the vaccination story has been largely positive, vaccination rates remain broadly uneven across regions. Despite 3.6 billion vaccine doses administered globally, only one in ten people in lower-income countries have received at least a dose of the vaccine.

The rebound in global economic activity has triggered discussions of an overheating economy as inflationary pressures intensify. In June, the US inflation estimate printed at 5.4%, the highest pace of increase in 12 years, running ahead of the US Federal Reserve's (US Fed) average inflation target of 2.0%. However, the US Fed has tagged these inflationary pressures as temporary effects of the economy reopening after pandemic-induced lockdowns. Nevertheless, it has stated it will be open to reviewing its monetary policy should inflation continue to spiral out of control. Notably, inflationary pressures have accelerated monetary policy normalization in emerging markets like Brazil, Russia, and Turkey. Nonetheless, the sustainability of economic recovery in H2-2021 will largely determine monetary policy direction, which will be a crucial driver of financial market performance.

As countries continue to scale up vaccination programs, global growth is expected to remain robust. The International Monetary Fund (IMF) projects global GDP to expand by 6.4% in 2021, after an estimated contraction of -3.3% in 2020, an improvement on estimates earlier in the year. The global recovery will likely remain divergent as Advanced Economies are forecast to lead at 5.1%, while Emerging Markets and Frontier Markets (except China) are expected to lag, as a result of varying vaccination efforts and capabilities. However, we remain cautiously optimistic that under-vaccinated regions will receive significantly higher vaccine batches in H2-2021 from global initiatives (the most noteworthy of which is COVAX) aimed at addressing the problem of inequitable vaccine access.


Sub-Saharan Africa: Treading a recovery path

The Sub-Saharan Africa (SSA) region, forecast to be the world's slowest-growing region in 2021, performed in line with expectations in H1-2021 as SSA economies embarked on the path of recovery from the previous year's pandemic-induced slump. In our outlook report for FY-2021 titled "A Shot at Recovery", we stated an expectation of a decent but varied recovery for the region in 2021, underpinned by improvement in exports, commodity prices and travel as key growth drivers in line with a recovery in global demand from the synchronized, devastating impact of the Covid-19 pandemic. We also noted that the virus and related economic restrictions will remain a significant threat to full economic recovery due to the region's limited access to vaccines.

However, the slow-paced rollout of vaccines on the continent remains a downside factor that could potentially derail/prolong the region's recovery. SSA has lagged other regions in terms of vaccinations, although inoculations in some countries, including Angola, Ghana, Kenya, Nigeria, and South Africa, have picked up in the last quarter. Nonetheless, the region is significantly under-vaccinated, with an IMF estimated average of less than 1 vaccinated adult in every 100, compared to about 30 in advanced economies. This is largely a result of heavy reliance on sluggish external donations for the supply of vaccines, a consequence of limited fiscal power across SSA economies, which was further weakened by the pandemic. Besides procurement challenges, the poor and inadequate level of infrastructural development means that African countries also face storage and logistical bottlenecks as well as inefficient supply chains, leaving the region susceptible to new waves of infections and variants of the virus. Notably, the number of daily new Covid-19 cases in SSA spiked in June-2021, led by South Africa and Namibia, foreshadowing a 3rd wave of the pandemic.

Clearly, SSA is on the road to recovery from the pandemic; the problem now lies in clawing back from the economic damage - particularly to individuals and households. The African Development Bank (AfDB) estimates that the pandemic drove c.30.0m Africans into extreme poverty in 2020, with c.39.0m more likely to fall into extreme poverty in 2021. Reversing this will be significantly harder for countries with high fiscal deficits like Ghana (16.0% of GDP), Zambia (13.9% of GDP) Kenya (8.4% of GDP) and Nigeria (5.8% of GDP), where debt must be brought back to more sustainable levels. Nonetheless, our outlook for an economic rebound in the region in 2021 remains intact, although the increased risk of a 3rd wave of Covid-19 infections as well as the region's challenges with vaccination, insecurity, political instability, climate-related shocks, and credit access pose significant downside risks that threaten to elongate the recovery.

Nigeria: Walking a slippery slope

In our January outlook titled "A Shot at Recovery", we predicted that the economy would recover (by 1.7% to 2.0%) from the previous year's recession in 2021, boosted by full economic reopening, increased economic activity, and modest improvements in the oil market. We also expected structural factors such as illiquidity in the foreign exchange market and probable increases in energy prices to keep the overall price level elevated. Interestingly, economic activities began to rebound as of Q4-2020. Over the last 6 months, Nigeria has continued to make solid progress in its fight against Covid-19 outbreak. As of H1-2021, Nigeria received 3.9m of the 16.0m doses of the Oxford/AstraZeneca COVID-19 vaccine pledged by the COVAX facility. In addition, Nigeria also received 100,000 doses from the government of India, bringing total vaccine doses received to 4.0m doses according to the National Primary Health Care Development Agency (NPHCDA). So far, according to NPHCDA, as of June 29, Nigeria has administered 3.4m doses in two rounds of vaccination, of which 2.2m people have received the first dose while 1.2m have received a second dose (0.6% of the total population). That said, Nigeria continues to record Covid-19 cases daily with total cases recorded printing at 168,867 cases as of 13-Jul. Nevertheless, unlike events in countries such as India, Nigeria appears to have flattened the curve of the pandemic.  This has not only emboldened the authorities to push forward with the reopening of the economy but has also hastened the road to recovery as Q1-2021 GDP came in at 0.5%.

Looking ahead, a myriad of factors will shape the trajectory of the Nigerian economy in H2-2021. First, developments around Covid-19 infections and vaccination rates will determine if economic growth garners pace. Also, the success of the FG's external debt issuance plans is critical for the FG's ability to finance its budgetary obligations and for improved USD flows, stronger FX reserves and consequently, the exchange rate. The subsidy program, which is expected to last till Oct-2021 is also key to watch as the rising cost of subsidies (estimated at over N100.0bn/month) continue to weigh on FG's finances. Furthermore, the Monetary Policy Committee (MPC) will be meeting three times before the end of H2-2021. The committee's decision on the monetary policy rate at these meetings would be a key factor to watch in the second half of the year.

Overall, we raise our GDP forecast for FY-2021 to 3.1% y/y from our prior forecast of 2.1% y/y, with rapid economic growth of 7.4% y/y and 4.4% y/y in Q2-2021 and Q3-2021. The upward adjustment to our GDP forecast reflects the faster than expected recovery in economic activities, as well as the low base impact of 2020. Despite continued inflationary pressures, we expect the high base effect of H2-2020 to create an inflection point for consumer prices, causing the headline rate to continue trending downward. Lastly, we expect to see sustained stability in the FX market as oil prices are expected to remain strong while the upcoming Eurobond issuance is expected to support external reserves. Certainly, downside risks abound, mostly tied to the key factors highlighted above, but also due to the rising insecurity bedevilling the country. We express concerns that failure to stem the recent tide of instability could lead to a country-wide breakdown, disruption of economic activities, destruction of oil installations and weakened investor sentiments. Thus, the government's action or inaction regarding the security situation would be a critical factor to watch.

Naira Assets: Yield reversal sets tone for financial markets

True to our expectations, albeit surging faster than initially projected, the yield environment reversed higher in H1-2021, setting the tone for financial market performance. Stop rates at primary market auctions in H1-2021 rose sharply through the auctions due to investors' demand for higher rates and FG's huge fiscal deficit financing needs amidst tight liquidity in the financial system before moderating following strong investor demand for bills amidst limited offering by the apex bank. At the bond markets, the narrative was similar as average yield across the yield curve climbed 617bps YTD to 11.3% as of Jun-2021, from 5.1% at the end of 2020. Consequently, Nigerian sovereign bonds underperformed peers in emerging markets, as the S&P/FMDQ Nigeria Sovereign Bond index has lost 21.1% YTD, compared to a YTD loss of 2.9% on the JP Morgan EM Government Bond index.

In the equities market. the Nigerian stock market, which kicked off the year with some of the bullish momenta from 2020, gaining 5.3% in Jan-2021, subsequently reversed as various drags, particularly the yield reversal, weighed on sentiments. Accordingly, the equity market has slumped 5.9% YTD, closing at 37,907.28 index points at the end of H1-2021. Although q/q, the NSE ASI shed 8.7% in Q1-2021, the bleeding eased somewhat in Q2-2021 the market gained 2.8% q/q.

Following evaluation of the several factors expected to shape the financial markets in H2-2021, we harmonise these factors and provide our expectations for the equities market and the yield environment as well as our preferred strategies. We expect to see periods of oscillation in the yield environment, albeit with an overall downward bias. Our expectation is built on three key factors; improved system liquidity via instrument maturities, deployment of financial repressive tactics by sovereign debt managers and status quo stance on monetary policy. That said, despite our expectation of moderation in fixed income yields, we do not see a rate crash similar to that of 2020. As a result, we expect demand for fixed income instruments to remain upbeat particularly among domestic investors, limiting prospects for improved flows to risk assets like equities.

For equities, our prognosis for the Nigerian stock market in 2021 is a lukewarm, sideways movement in the equities market with a bearish bias. We do not expect to see any major negative drag on the equities market in H2-2021. However, we do not see a positive catalyst in the near term. On a balance of factors, we expect developments in the yield environment to outweigh other possible market triggers. Thus, despite positivity from oil price uptrend, economic recovery, and calm on the Covid front, we expect relatively attractive fixed income instruments to capture investors' focus in H2-2021.


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