Nigerian macroeconomic outlook for the new political dispensation - BUSINESSDAY

MAY 15, 2019

Nigeria’s growth forecast tends to cause as much debate as the country’s official population. But why? For a country belonging to a continent that, according to the IMF, is predicted to be home to four of the top-five fastest-growing economies in 2019, one would think that Nigeria’s growth forecast would be universally positive.

Yet the IMF’s projection of c. 2 percent GDP growth in Nigeria in the coming years seems downbeat compared to high-flying Ghana’s 9 percent or Ethiopia’s 8 percent.

Why is this? And why at Renaissance Capital are we more optimistic? According to our calculations, Nigeria can – and should – be capable of recording GDP growth of 7-11 percent. For this to happen, however, Nigeria must take very concrete steps to strengthen and diversify its economy away from oil. We will discuss this and some other key themes that are playing out in Nigeria and wider Africa with investors and leading companies at our upcoming 10th Annual Pan-Africa Investor Conference on 13-17 May, 2019 in Lagos, Nigeria. In this column, we present our key thesis and highlights.

Before looking at where Nigeria must improve, a degree of credit must be given to how far it has come.

When oil prices crashed in the 1980s, Nigeria’s economy shrank by c. 10 percent a year in three different years within the space of half a decade. To put this into context, the contraction of the Nigerian economy in this period was worse than the US during the Great Depression. In contrast, in 2014-2015, when oil prices crashed, Nigeria only shrank by 1.6 percent in just one year.

Why was it so much better in 2014-2015? Education. Over the years we’ve seen a dramatic change in adult literacy, with human capital in the country improving and this stimulating an increase in FDI across the board. This has left the economy less correlated to oil prices and thus in a much stronger place.

What does Nigeria need to do to improve its growth forecast?

So why is Nigeria still only recording 2 percent growth forecasts? Because the government must not rest on its laurels.

First and foremost, Nigeria must continue to pivot away from oil. After all, you can have high growth without high oil, as demonstrated by China, Taiwan and Korea. Whilst undeniably less correlated to the price of oil than it was in the 1980s, the economy still depends heavily on the price of crude. In 2019, the majority of federal budget revenues and over 90 percent of exports will be from the energy sector.


This is a problem, considering there is relatively little oil per person – 9 barrels for export per 1,000 people, according to our estimates. If we take the price of a barrel at c. USD60, and factor in that half the income will be given to major oil companies, that means just 30 cents per barrel per person per day. The economy simply cannot rely on this and the government must look at investing in other sectors.


To support the investment into other sectors, literacy rates must also continue to improve. To diversify the economy into manufacturing or high productivity services, adult literacy in any language in Nigeria needs to rise from 60 percent in 2015 to 70 percent (which we hope it will reach in 2024) and ideally 80 percent (we see 75 percent in 2030 according to our model). Nigeria must accelerate the rise of adult literacy, aiming for at least 80 percent as soon as possible.


Exchange rate reunification

Improving literacy rates and investing in wider sectoral development, however, undeniably takes time. One area where Nigeria can unlock its economic growth potential quickly is by reunifying its exchange rates in 2019.

Nigeria is one of the very few countries in the emerging and frontier world that still has multiple official exchange rates. Venezuela and Iran are two other prominent (and negative) examples. While it is a policy that is surprisingly easy to get used to, it does carry costs. Interestingly, Nigeria is well positioned now to make a success of unification. The forthcoming change of government and the renewal of the Central Bank of Nigeria (CBN) governor’s term from 2 June could be perfect triggers for that. According to the IMF Article IV, the Nigerian authorities are ready to do this soon.

Nigeria has achieved the (usual) primary goal of multiple exchange rates, which is to smooth the impact of a commodity shock. What has happened in so many countries before, and Nigeria itself in the 1980s and again in the 1990s, is that the authorities then hold onto the multiple exchange rate regime for too long. The gap between an official fixed rate and a market-based exchange rate rises due to inflation. Eventually, stresses build up that lead to a shocking devaluation of the fixed rate, high inflation and considerable pain for the poorest in society. This is the outlook for Nigeria in the 2020s if there is no shift in the FX regime.


One clear lesson from the past is that countries often hold onto multiple exchange rate regimes for too long. The floating rate gets weaker and weaker in nominal terms (due to inflation), and the discrepancy with the official rate becomes more and more attractive to those with less-than-honest intentions.


The good news is that Nigeria is well placed to unify its exchange rates today. The World Bank report ‘Parallel exchange rates in developing countries: Lessons from eight case studies’ published in March 1994, by Miguel A. Kiguel and Stephen O’Connell, showed how to successfully reunify exchange rates.


Three conditions made success likely: (1.) When the gap between the rates was not wide (i.e., more like 20 percent than 2,000 percent); (2.) When the fiscal deficits were not massive and financed by central banks, and (3.) When the unification happened as part of an overall reform package.


We think Nigeria meets the first two conditions, which makes the third condition less necessary. If the CBN unifies the exchange rates, it could unlock business growth and potentially increase the FDI flow, which is so much needed to drive overall economic growth. This could then help lift the share of total investment in the economy, which needs to double from 13 percent of GDP in 2017 to at least 25 percent if Nigeria wants to sustain high single-digit GDP growth.


It is our view that 2019-2023 will be tougher for Nigeria, than for countries such as Vietnam, Morocco or Egypt, which are already ready to industrialise and achieve 4-5 percent real per capita GDP growth. Probably only a higher oil price can deliver that for Nigeria in the next few years. However, making a big push on the right reforms now (as outlined above) would make the mid-2020s and beyond a much easier time to run Nigeria, and Lagos could become an even greater success story within Africa.


CHARLES ROBERTSON, Renaissance Capital


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