Dec 25 (Lagos) - Nigeria’s post-recession recovery has been slow and below potential. Between 2010 and 2014, the economy grew at a CAGR of 4.8% y/y, but has grown just 0.8% y/y and 1.8% y/y in 2017 and 2018E.
Analysts at Vetiva Capital Management Ltd in Victoria Island attribute this to the structural weakness of our mono-commodity economy and a struggle to recover from the stagflation and foreign exchange (FX) crisis of 2016. Consumer wallets are still severely weak amid a significant loss of spending power since the end of 2015 and industries must still battle high costs and high interest rates.
Federal Government spending has been substantial thanks to a series of record budgets, but the fiscal multiplier has been weak due to the lag time of capital expenditure projects and the underperformance of social investment programs.
Unsurprisingly, our near-term outlook is muted as the structural weakness meets political uncertainty in early 2019. Overall, we project growth of 2.7% y/y in 2019, just about equal to estimated population growth, and look beyond 2019 for true structural adjustment that can transform Nigeria’s economic growth trajectory.
Meanwhile, the key economic headwinds in 2019 are currency volatility, policy instability, and severe fiscal strain as a result of excessive spending.
Ongoing violence threatens sector growth
Nigeria’s agriculture sector has been ravaged by intensified farmer-herdsmen clashes over the past eighteen months. The effect was most pronounced in Q2’18 when GDP growth fell to a 30-year low of 1.2% y/y and monthly food inflation peaked at 1.6% m/m in June. Notably, Q3’18 data was more positive as GDP growth rose to 1.9% y/y as food price pressure abated.
It is difficult to determine the lasting damage of the Middle Belt conflict on Nigeria’s agriculture output, but it is prudent to assume that disruptions would persist even as violence abates as a result of the permanent displacement of farmers and loss of farmland.
As a result, our 2019 growth outlook is still restrained, with just 2.6% y/y growth expected (2018E: 2.0% y/y), which would be the lowest in 24 years. Beyond 2019, fundamental issues around agricultural productivity and access to markets must be addressed in order to unlock the sector’s growth.
Oil & Gas sector output constrained by OPEC, underinvestment
Barring a dip in Q2’18 amid key pipeline and terminal shut-ins, Nigeria’s oil production has been relatively stable through 2018, averaging 1.93 mb/d up to September according to the National Bureau of Statistics. We note that this remains well-below 2018 budget target of 2.3 mb/d and pre-2016 militancy level of 2.12 mb/d in 2015.
As there has been no notable disruptions to production in the last eighteen months, it seems that the militant uprising of 2016 has had a lasting impact on Nigeria’s production capacity. Thankfully, we note the entrance of the EGINA FPSO (Floating, Production, Storage, Offloading) which has a capacity of c.200,000 barrels a day and may partially come online at the tail end of 2019.
But beyond the FPSO, we note that in recent years, investment in the upstream oil & gas sector has been constrained by low oil price, heightened security risk, and legislative uncertainty.
One key variable for 2019 is the OPEC deal which assigns Nigeria a production quota of roughly 1.7 mb/d (based on October production) excluding condensates production. Nigeria’s condensates production has been volatile and difficult to estimate.
Data from the Nigerian National Petroleum Corporation (NNPC) and JODI Oil Database estimate condensates at nearly 0.5 mb/d between 2010 and 2015, but NNPC and OPEC estimates suggest that 2018 condensates production has been closer to 0.2 mb/d.
Our base projection is for condensates production of 0.3 mb/d in 2019, which would bring total crude oil production to 2.0 mb/d, much less than the government’s 2019 target of 2.3 mb/d. With 2018E oil production of 1.95 mb/d, oil sector GDP growth is expected to be a weak 2.8% y/y. Finally, we highlight that all of this is contingent on continued stability in the Niger Delta region for the entirety of 2019.
Manufacturing & services growth to accelerate in 2019
We expect growth in the manufacturing and services sectors to accelerate slightly, from 2.1% y/y and 1.7% y/y in 2018 to 3.7% y/y and 2.6% y/y in 2019. This view is predicated on our expectation of higher aggregate demand in an election year and as a result of the likely minimum wage hike.
However, we are cautious about the pricing and exchange rate environment in 2019 as most indicators point towards higher inflation and exchange rate instability. Thus, we expect margins in the manufacturing and services sectors to be squeezed in the coming year. Meanwhile, we do not anticipate any material impact of the Real Sector Support Facility or schemes aimed at incentivizing lending to manufacturers and SMEs.
The domineering shadow of the polls
We anticipate that economic activities in the first quarter of 2019 would be overshadowed by the polls and expect slower economic and policy momentum on the back of the political uncertainty. We foresee a close two-horse race for the Presidential ticket but do not anticipate any major security incidents.
Victory for the incumbent should bring certainty and consistency—which are favourable to investors—as his policy thrusts continue, but the worry here is that growth momentum would not significantly pick up in the medium-term. Moreover, Nigeria’s precarious debt burden would be of greater concern, especially if the proposed minimum wage hike goes through.
Victory for the main challenger could be accompanied by more uncertainty and we see both a higher upside and lower downside in this scenario. The upside is driven by the market-friendly reforms promoted as the challenger’s key policy thrusts, and although we do expect them to have limited impact in 2019, if implemented, such reforms would significantly boost investor confidence.
However, the downside comes from a greater likelihood of political instability and insecurity in the event of a botched or reluctant transfer of powers. Overall, the Nigerian economy in 2019 would not be affected as much by who wins but by the build-up to and fallout from the elections. Of course, the long-term trajectory of the economy is tied to the figure voted in come Q1’19.
Fiscal Policy
Fiscal position improves in 2018, but trouble lies ahead
After remaining sticky in recent years, 2018 has been a relatively bumper year for FGN revenues, according to data from the Medium-Term Expenditure Framework 2019-2021 (MTEF). Based on data covering the period from January to August, FGN revenue-GDP ratio is on track to reach a four-year high of 2.94%.
This has been driven mainly by a recovery in oil earnings—from 24% of revenues in 2016 to 53% of revenues in 2018—which are on track to be the healthiest since 2014, the year of the oil price crash. Non-oil revenues have also fared better, with annualized non-oil revenues (% GDP) of 1.24% the highest in at least seven years.
However, FGN revenues are still weak, and annualized revenue for 2018 would be c.52% of target. The Federal Government has not delivered on intended asset sales in recent years, nor has it been able to successfully restructure Joint Venture agreements in the oil sector to boost revenues. Meanwhile, oil receipts are likely to be lower in 2019 given our bearish oil price outlook (2018 11-month average: $73/bbl, 2019 forecast: $60/bbl) whilst non-oil growth has still been too tepid to make a significant difference.
This is because tax accretion policies such as the Voluntary Assets & Income Declaration Scheme (VAIDS) have been relatively unsuccessful, even as the FGN looks towards other policies such as recent excise duty hikes (implemented in H2’18) and the Voluntary Offshore Assets Regularisation Scheme (VOARS). Overall, analysts at Vetiva are doubtful that FGN revenues would improve materially in the next year as any uptick in non-oil earnings would be eroded by weaker FGN oil receipts.
Will aggressive borrowing continue as FGN reaches thresholds?
Nigeria’s debt has climbed steadily in the past decade, rising from 13% of GDP in 2015 to 19% of GDP in 2017. Part of this is due to depreciation of the naira within that period, as, for example, FGN external debt jumped 65% in naira terms between 2015 and 2016 amid significant currency depreciation. However, debt escalation has also been due to increased sovereign borrowing. In 2017, the Federal Government borrowings were higher than inflows into the budget.
Meanwhile, the FGN has successfully reduced tilted its debt portfolio away from domestic debt; in 2015, domestic debt represented 83% of sovereign liabilities and that proportion declined to 73% in 2017. However, both domestic and external debt have grown in recent years. In 2016, FGN domestic bond sales were ₦1.0 trillion, but had risen to ₦1.5 trillion in 2017. Likewise, the FGN has raised nearly $10 billion in Eurobonds since 2016.
Nothing in the MTEF suggests that borrowing would reduce in the medium term, particularly as revenues continue to underperform.
High debt servicing cost poses longterm fiscal risk
Even more worrying is FGN debt servicing which rose from 29% in 2014 to 66% in 2018. We note that absolute debt servicing costs are set to rise further on the back of higher FGN debt, rising domestic and international interest rates, and anticipated naira depreciation.
This puts the spotlight on the Federal Government to ensure that retained revenues grow fast enough to contain debt servicing costs, which have already breached local and international sustainability thresholds. As a result, analysts at Vetiva are genuinely concerned about an impending debt spiral if FGN borrowing and revenue trends persist as expected.
Tighter monetary policy expected in 2019
Analysts at Vetiva do not foresee any monetary easing in 2019 as price and exchange rate stability would remain atop the CBN agenda. Moreover, in our base scenario of mild currency depreciation and a minimum wage implementation in H2’19, there is a fair chance that the apex bank would increase its monetary policy rate to 14.5% by year-end in order to maintain positive real interest rates.
Finally, analysts anticipate continued focus of the Monetary Policy Committee on getting commercial banks to extend credit to the real sector on the back of its Real Sector Support Facility (RSSF).
Lower oil prices gives bearish outlook on current account
Nigeria’s current account profile remains heavily tilted towards oil & gas (accounted for over 95% of visible exports in Q2’18) and so will be swayed by the health of oil & gas sales in 2019. This can be seen in the way the current account recovered from -₦0.1 trillion in Q3’16, when oil production and oil prices averaged 1.6 mb/d and $47/bbl respectively, to ₦2.1 trillion in Q2’18 when production and prices averaged 2 mb/d and $75/bbl respectively.
reporting for easykobo.com on Tuesday, Dec 25 2018 from Lagos, Nigeria
Source - analysts at VETIVA CAPITAL MANAGEMENT LTD IN VICTORIA ISLAND. ALL VIEWS, OPINIONS, TARGETS AND FORECAST EXPRESSED IN THIS ARTICLE ARE THOSE OF ANALYSTS AT VETIVA CAPITAL MANAGEMENT LTD. EASYKOBO DOES NOT ENDORSE OR OPPOSE ANY VIEWS EXPRESSED IN THIS ARTICLE.