Below are extracts from the PwC report ‘Nigeria’s economic recovery: Defining the path for economic growth‘.
Nigeria’s economy has turned a corner.
The oil price shock, which started in mid-2014, severely affected the Nigerian economy. In 2015, the economy slowed sharply, as annual real GDP growth declined to 2.7%y/y from 6.2%y/y in 2014. By 2016, the economy recorded its first recession since 1991, recording a growth of -1.5% y/y, as oil production shortages exacerbated the decline in the oil price. Notably, the underperformance in the oil sector spilled over to the non-oil sector through the exchange rate channel, with the non-oil sector contracting 0.2% y/y to record its worst performance since 1984.
By Q2’17, the Nigerian economy exited its recession, recording a positive growth rate of 0.5% y/y. The recovery was in part due to a sharp recovery in the oil sector, driven by an improvement in oil prices and production volumes. In addition, the non-oil sector recorded a positive growth for the second consecutive quarter, spurred by ongoing recovery in the manufacturing sector due to improved foreign exchange (FX) liquidity. Asides the improvement in real GDP, the performance across several other macro-indicators suggest that the economy is on track for a broad-based recovery.
We have developed three scenarios that show Nigeria’s potential economic performance over the next five years. In these scenarios, we examine the impact of political shocks, and the implementation of structural reforms and economic diversification on key economic indicators in Nigeria. In our analysis, we assume that oil continues to be the main driver of fiscal and export revenues over the forecast period. As such, the extent to which the Nigerian economy moves towards its near-term development aspirations is dependent upon the success of its import substitution policies.
Scenario 1: Accelerated policy reforms
Oil price increases from an estimated average of US$55/bbl in 2017 to US$60/bbl in 2018 and remains at this level to 2022. Between 2018 and 2019, the supply of oil moderates due to the OPEC production cut agreements while the demand for oil increases mildly in line with the global growth recovery. On the other hand, between 2020 and 2022, the demand for oil weakens as advanced economies gradually move to greener sources of energy, and investment in oil production slows. Towards the end of the forecast period and beyond, the global oil market rebalances.
Domestic oil production rises to 2.0 mbpd in 2018, and increases further to 2.2 mbpd by 2019, remaining at this level through to 2022. This is expected to be driven by minimal production disruptions in the Niger Delta region, as the mediation efforts of the government pays off. The government is committed to the implementation of structural reforms, with policies aimed at improving the business environment.
Growth accelerates back to trend
Economic growth increases steadily from 0.7% in 2017, maintaining an average of 4.4% between 2018 and 2019, before rising to trend at 7% in 2022.
There is stability in oil exports and an improvement in non-oil revenues as a result of the government’s tax reforms. The fiscal deficit narrows and the pace of borrowing slows, providing head room for significant rate cuts. The economy records a consistent and growing current account surplus, driven by a significant reduction in imports between 2019 and 2020 as the government’s import substitution policies yield results. However, between 2021 and 2022, imports pick up as a result of strong economic growth and increasing per capita income.
Final consumption expenditure of households grows steadily, as employment growth strengthens and real incomes increase, owing to price stability. Inflation declines from 16.5% y/y in 2017 to 6.2% y/y in 2022, due to exchange rate stability and increased food production arising from the success of government’s import substitution policies. Nominal GDP per capita rises to a peak of US$3,301.9 in 2022, which continues to spur consumer spending.
Investor confidence supports high investment
The share of investment to GDP increases from 16% in 2017 to 26% in 2022, in line with our estimates of the investment level required to drive growth to trend. Foreign investments return to pre-recession highs as lower constraints in the business environment and a more predictable operating landscape results in an improvement in Nigeria’s economic freedom score and ease of doing business ranking. In addition, there is improved macroeconomic stability and consistency in policy making which improves investor confidence. Increased credit to the private sector provides a boost to investments, riding on lower macro risks, higher government capital expenditure implementation, and implementation of the Economic Recovery and Growth Plan (ERGP).
Scenario 2: Weak policy implementation
Oil price remains stable at an average of US$60/bbl through the forecast period and domestic oil production remains firm at 2.2 mbpd from 2018, through to 2022. The implementation of structural reforms to improve the business environment, the drive for non-oil revenues and import substitution progress at a sluggish pace.
Growth advances moderately
Economic growth increases marginally to 2% in 2018, and further to an average of 4.3% between 2019 and 2022. Oil export earnings increase, supported by higher oil production and prices. However, initiatives to boost non-oil revenue records only marginal success. As the size of the budget continues to increase, the fiscal deficit remains large, negatively impacting capital expenditure. With slow progress in the substitution of food imports, Nigeria’s current account surplus narrows.
Final consumption expenditure of households grows at an average of 3.7% between 2017 and 2022. This is due to a modest recovery in purchasing power, owing to improving employment conditions and increased real income.
Investment slightly above recession levels
The share of investment to GDP rises from 15% in 2017 to an average of 16% between 2018 and 2022, below the 26% required for the economy to return to trend. The business environment remains challenging due to the slow pace of reforms, and the lack of a market driven exchange rate policy puts a lid on investment. As a result, capital inflows remain below pre-recession levels. The combination of these factors, in addition to a narrowing current account surplus, results in uncertainty and volatility in the foreign exchange market. Although monetary policy is accommodative between 2020 and 2022, domestic investment provides no significant reprieve as banks are cautious in lending to the real sector.
Scenario 3: Heightened political risk environment
Oil price remains stable at an average of US$60/bbl through the forecast period. However, there is a reduction in oil production to an average of 1.7 mbpd by 2019, before a gradual recovery to 2.2 mbpd by 2022, as security challenges in the Niger Delta region disrupt oil production activities. Political tension accelerates in the wake of the general elections in 2019, causing insecurity in the crisis prone region of the North-East, and negatively impacting policy implementation.
Fiscal sustainability comes under threat
Government revenues weaken, as oil exports fall due to lower oil production. The non-oil revenue drive of the government suffers a setback due to the deteriorating conditions in the broader economy which impacts the non-oil sector. Consequently, the government records a significant increase in its fiscal deficit, and ramps up borrowing. However, this comes at a high cost in the domestic and external debt market, due to rising risk premium as credit rating agencies downgrade Nigeria’s sovereign bonds in 2019.
Sub-nationals continue to struggle to meet salary obligations, and capital expenditure remains consistently weak. The need to increase Internally Generated Revenue (IGR) continues to gain prominence, with minimal success among states.
Growth deteriorates considerably
Economic growth deteriorates considerably from 1.8% in 2018 to 0% in 2019, largely due to increased risks in the political environment. Political tensions in the Niger Delta negatively impact oil production, while security concerns in the Northern Nigeria affect food output. However, in the aftermath of the 2019 elections, the government makes quick interventions to pacify the various interest groups. As a result, growth picks up to 2.3% in 2020, before rising steadily to 4% by 2022.
Final consumption expenditure of households declines by -1.3% in 2019, before recovering to an average of 4% between 2020 and 2022. This is because inflation increases to 17.8% y/y in 2019, due to supply shocks such as declining food production and a weaker exchange rate. Similarly, Nigeria’s nominal GDP per capita declines 2.8% to US$2,288.3 in 2019 (2018F:US$2,350.9).
Investment falls to recession levels
The share of investment to GDP remains flat at an average of 14% from 2019 through to 2022, due to risks in the political and economic environment. We assume that Nigeria’s economic freedom will weaken to 5.2 points in 2019 (2016: 5.9 points), similar to the levels recorded at the beginning of the democratic dispensation between 2000 and 2001. As a result, capital outflows increase, and foreign direct investment weakens to about $4.4bn, around levels recorded during the 2016 recession.