Nigeria: Significant external stress to reduce export by 40% in 2020 – IIF

  • COVID-19 has exacerbated existing external pressures on Nigeria.
  • Despite external support, we expect reserve losses of $8 bn in 2020.
  • The current account deficit remains significant in the context of low oil prices.
  • At the same time, global risk-off behavior weighs on capital flows.
  • Debt amortization and large fiscal deficits increase financing needs.

The Institute of International Finance, IIF, has said that external pressure is rising markedly for Nigeria in the context of COVID-19.

The Institute stated this in a report, explained that the dramatic decline in oil prices since the beginning of the year—together with production limits under the OPEC+ agreement—will reduce goods exports by more than 40% in 2020.

“Despite significant import compression, we expect the current account deficit to remain sizeable”, IIF stated.

At the same time, the Institute said that the large non-resident inflows observed in first half of 2019 have since reversed, and capital flow dynamics are not expected to improve anytime soon in the context of global risk-off behavior.

“While external support—including $3.4 billion under the IMF’s Rapid Financing Instrument – will reduce pressures, we still project significant reserve losses in 2020”, the Institute held.

Nigeria’s current account balance stood at $17 billion deficit or 3.6% of GDP in 2019.

However, IIF stated that the shift from a $3.9 billion surplus in 2018 was primarily driven by a smaller goods surplus.

“We expect this surplus to turn into a deficit in 2020 as lower oil prices and production cuts reduce exports dramatically”, the Institute forecasted.

As a result, and despite substantial import compression, IIF held that it projects a current account deficit of $14.7 billion or 3.4% of GDP this year.

It highlighted that a sharp decline in goods imports and services debits mean a lower breakeven oil price of roughly $70/bbl.

“However, we expect the average crude oil price in 2020 to be around $35/bbl.

“We documented in previous research that Nigeria experienced substantial inflows of short-term portfolio debt in the first half of 2019, largely as a result of foreign purchases of central bank (CBN) bills.

“We expressed concern not only about the increasing cost of this type of financing, but also the possibility of capital outflows”, IIF stated in the report.

However, the report revealed that these short term debt materialized in second half of 2019 to the tune of $6.6 billion.

The Institute projects that non-resident flows to Nigeria will be markedly weaker this year—at $8.5 billion compared to $17.7 billion last year—leading to substantial reserve losses.

Over the first three months of this year, gross foreign reserves declined by $3.3 billion, bringing the total to $35.3 billion at the end of March.

Furthermore, the Institute said it expects weak inflows to continue until the global risk-off sentiment subsides.

According to the Institute, Nigeria’s external financing needs will be significantly higher in 2020 compared to the previous year, as non-Eurobond amortization is rising.

It explained that while not a concern over the near term, increased issuance of Eurobonds in recent years will lead to even higher financing needs after 2025.

IIF stated that it is worth noting that both external public debt, which is about $28 billion or around 6% of GDP at the end of 2019 and total public debt of 19% of GDP are very low in comparison to other SSA countries—and the overall EM universe.

However, given extremely low non-oil revenues, repayment of any amount of debt could be a challenge, the Institute said.

The report further provided that low oil prices not only contribute to a sharp decline in merchandise exports, but also widen the fiscal deficit.

This is on explanation that oil revenue accounts for more than 50% of total revenue in most years and is strongly correlated to the Naira-value of oil exports.

“For 2020, we expect the fiscal deficit to reach close to 5% of GDP”, the Institute estimated.

While expenditures are rising in GDP-terms as well, revenue collection weakness clearly dominates, with non-oil revenue remaining persistently low.

The Institute stated that as the deficit has increasingly been financed externally, global risk-off behavior and capital outflows will impact the government’s ability to run fiscal deficits.

In addition to the extremely limited room for fiscal stimulus, monetary policy room is restricted by Nigeria’s multiple exchange rate regime, it added.

The report stated that considering the significant external stress, together with the risk of local COVID-19 outbreak, the country will need to rely on external support.

In addition to the recently approved $3.4 billion in IMF RFI funding, Nigeria is planning to receive an additional roughly $3.6 billion from the World Bank, African Development Bank, Afreximbank, and Islamic Development Bank.

Nevertheless, the Institute believes that reserve losses will remain substantial in 2020—around $8 billion or around 25% of the current stock.

“If oil prices do not recover and foreign investors not reengage in a material way, large financing needs over 2020-22 may force Nigeria to address fundamental imbalances.

“One option is to impose capital controls to prevent significant outflows, but this would only delay the inevitable.

“A better path forward would be a multi-year IMF program.

“Exchange rate liberalization would allow for substantial current account adjustment, while IMF engagement would improve market sentiment and enable Nigeria to easily roll over of existing debt.

“Thus, we believe a program of $15-20 billion over 2020-22 could be sufficient to relieve pressure on reserves”, the Institute stated.

Nigeria: Significant external stress to reduce export by 40% in 2020 – IIF


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