Nigeria: Moody’s Forecasts Phased Fuel Subsidy Removal will Pose Challenge to Incoming Government

One of the leading global ratings agencies, Moody’s has predicted that the phased removal of subsidy paid on petrol in Nigeria will pose challenge to incoming government.

In its latest report on the recent issues surrounding fuel subsidy in Nigeria, the company also noted that without reforms to significantly increase its revenue, the Nigerian government’s balance sheet would remain exposed to further shocks.

Minister of State for Petroleum Resources, Timipre Sylva, had last week denied insinuations that since the federal government backed down on its plan to enforce price deregulation in the downstream sector, it might soon embark on a gradual subsidy removal.

But stressing that the ability of the Nigerian government to increase capital spending in a sustainable manner would be very challenging, Moody’s noted that the decision of the government to postpone removal of oil subsidies was credit negative.

The firm projected, “Ending oil subsidies will remain challenging even after a new president and a new administration are elected early next year. We expect that subsidies will eventually cease, but their withdrawal will only be implemented very gradually.”

But it explained that the costly fuel subsidy had historically been a key driver of Nigeria’s significant fiscal deficits and accelerated deterioration in its public finances.

In addition, the report stressed that the policy reversal also illustrated Nigeria’s weak institutions and limited capacity to implement challenging reforms.

The elimination of petrol subsidy had been envisaged for more than a decade by successive Nigerian administrations, but this time, to further guarantee its implementation, the reform was put into the Petroleum Industry Act (PIA) signed into law in August 2021.

Implementation of the PIA, which stipulates the removal of petrol subsidy, was initially meant to commence in February 2022, but it was later shifted to July 2022. However, due to pressure and threat of protest by the Nigeria Labour Congress (NLC) and the Trade Union Congress (TUC), the removal of subsidy was suspended for about 18 months, which means that the incoming administration in 2023 would bear the burden.

According to Moody’s, fuel subsidy generally weighs heavily on Nigeria’s public finances, especially when international oil prices are elevated, as the Nigerian National Petroleum Company (NNPC) deducts total cost of subsidy from oil profits before transferring them to the government’s Federation Account.

The ratings company stated, “We estimate the cost of oil subsidies – which are in fact forgone revenue – at around N250 billion a month or N3 trillion a year, equivalent to 1.6 per cent of Gross Domestic Product (GDP) and almost 25 per cent of general government revenue in 2021.

“The cost is even more burdensome because, according to our estimates, Nigeria’s general government revenue was only 6.8 per cent of GDP in 2021, one of the lowest among rated sovereigns for years.

“Although oil proceeds historically account for more than 50 per cent of annual government revenue, the rising cost of oil subsidies increasingly limits the recovery in government revenue when international oil prices rebound. Forgoing revenue is detrimental to Nigeria’s public finances and fiscal consolidation efforts.”

The report pointed out that between 2016 and 2021, general government fiscal deficits averaged 5.1 per cent of GDP, which it said was very high compared with the average government revenue of 6.9 per cent of GDP over the same period.

It disclosed that consequently, general government debt rose to 31 per cent of GDP in 2021, from 16.9 per cent in 2016, with the country’s debt affordability metrics also deteriorating significantly as interest payments consumed a third of total revenue in 2021.

Moody’s stated, “Since the re-election of President Muhammadu Buhari in 2019, the government has embarked on an ambitious plan to increase revenue towards 15 per cent of GDP in the medium term.

“Although achieving its target was unlikely in our opinion, the removal of the oil subsidies was a major component of the plan. Without reforms to significantly increase its revenue, the government’s balance sheet will remain exposed to further shocks and the ability to increase capital spending in a sustainable manner will be very challenging.

“The country’s currently weak public finances limit the authorities’ ability to tackle its structural bottlenecks, which is crucial to ensure the country’s economic development. For example, poor infrastructure – particularly for electricity and energy supply – has constrained productivity.”

In the opinion of the rating agency, although the removal of subsidy would support government revenue, lack of subsidy would increase fuel prices and lead to inflation. Furthermore, higher fuel prices would adversely affect the most vulnerable section of the population, given that inflation was around 15 per cent at the end of last year, it stated.

The company said, “In addition, removing the subsidies was a challenging reform in the penultimate year of the current administration’s term. To counter its social impact, the government planned to give cash transfers of N5, 000 to as many as 40 million people each month for six to 12 months, beginning in July 2022.”

But the report said the commissioning of the Dangote refinery, in 2023 would help the gradual transition to phase out subsidy because the project would drastically reduce the dollar-denominated demand to import refined petroleum products.

In the last quarter of 2021, Moody’s changed its outlook on Nigeria to stable from negative and affirmed its long-term issuer and senior unsecured ratings at B2. The firm also affirmed Nigeria’s (P) B2 senior unsecured medium-term note programme rating.

At the time, it said the change of outlook to stable reflected Moody’s expectation that higher oil prices and some measures taken by the government will help stabilise the sovereign’s credit metrics and support its external position.

“The on-going improvements in the macro-economy and the external position are likely to continue in the next few years, supported by the oil price environment, Nigeria’s new Petroleum Industry Act legislation and the opening of the Dangote refinery that will structurally reduce demand for US dollars.”

Emmanuel Addeh in Abuja

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