Who moved our cheese?

by Obodo Ejiro

Decline in oil price (and subsequently, government budgets) often predates economic decline in Nigeria. Proposed states and federal budgets for 2015 confirmed this position earlier this year.

In 2014, 33 of Nigeria’s 36 states budgeted higher than what they spent in 2013. But in 2015, only 9 states had higher budgets compared to what they spent in 2014. (Twenty-seven states budgeted considerably less than what they spent in 2014 for 2015.)

While state budgets rose by 13% in 2014, they dropped by 5.3% in 2015. The federal budget for 2015 rose by only 4.3% over what was spent in 2014, which amounted to a considerable drop compared to the 2013/2014 period.

It would have amounted to economic hara-kiri, by inflation, if the federal government had taken to pump priming to help itself (and the states) sustain previous budget levels. Rather, budget cuts, a push to broaden the tax base, and borrowing were adopted to shore up finances. (States have also resorted to these methods to generate more income.)

Dimension of a crisis

The root of the problem is the lopsidedness of the economy which leans heavily on oil earnings (and high oil prices).

Based on research by Deutsche Bank, one of Germany’s leading financial institutions, Nigeria needs oil to sell at $126 per barrel to balance its budget. The Wall Street Journal puts the required price at $122.70. Interestingly, Brent crude last sold at $126 in June, 2011. (Its price has meandered within the $61-67 range in the last few weeks.)

But Nigeria has not stumbled alone. Libya, Iran, Algeria, Venezuela, Russia, Saudi Arabia, Iraq and Qatar have also affected, albeit at varying degrees.

Venezuela already had a financial crisis before the crash in prices. Inflation rate was almost 48% and its economy was growing at a decreasing rate. Libya’s crisis masks the full domestic implication of drop in oil prices, while other oil dependent countries have had their fair shares of troubles.

With a population in excess of 70 million, Nigeria is the most populated of these countries and the degree of openness of its economy makes it particularly vulnerable.

The bigger issues

That oil could unsettle these economies draws attention to bigger structural issues. The lopsidedness of oil dependent economies exposes their currencies, growth projections, inflation and employment figures to vagaries occasioned by changes in oil prices. This has led to calls for diversification.

The title of this article is a direct adoption of Spencer Johnson’s 1989 fictional, self-help novel, “Who moved my Cheese”; in which four characters had sufficient supply of cheese at a figurative Cheese Station C. The four characters came in to eat daily until the stock of cheese was exhausted.

While two of the four characters immediately went in search of fresh supplies, the other two kept coming back in the false hope that somehow the supply at Station C would be replenished. In the end, one of them learnt the hard lesson that the solution to draught in an area is to search for supplies in several other areas.

In a sense, the moral of this illustration is what oil dependent nations are trying to implement as they strive to diversify.

But achieving diversification in commodity dependent economies is an uphill task. There are really few examples of such successes. Malaysia is perhaps the closest example to some form of successful diversification in the past three decades. South Korea is also a good example.

In the case of Malaysia which was both agrarian and oil dependent, its current exports include electrical and electronic products, palm oil, liquefied natural gas, petroleum, chemicals, machinery, optical & scientific equipment, metal, rubber, wood and wood products.

It’s industrial sector accounted for 36.8% GDP in 2014, and employed 37% of labour in 2012. In 2014, Malaysia’s automotive industry produced 547,150 passenger cars and 49,450 commercial vehicles making it the 22nd largest automotive manufacturer globally.

(The car manufacturing industry in Malaysia is dominated by foreign investments made by Australians, Lebanese, Japanese, Americans, etc). Malaysia’s car makers have affiliations with automobile bigwigs like BMW, TOYOTA, etc.

In the case of South Korea, the country moved from being a predominantly agrarian and labor intensive country in the 1960, to one of the industrialized nations of the 21st Century.  

For Malaysia, the road was fraught with challenges. It took the country almost two and half decades to achieve some semblance of a diversified economy. And considering the many challenges Nigeria still faces, (ranging from political will and genuine commitment to make the sacrifice of nation building by the vast majority), it may not take Nigeria less time to reach the sophistication Malaysia has attained.

The road from here to there

An IMF policy paper states that, “a number of key obstacles often hinder diversification in oil dependent nations, including the economic volatility that is induced by reliance on oil revenues, the corroding effect that oil revenues have on governance and institutions, and the risks that oil revenues lead to overvalued real exchange rates.”

Thus success or failure appears to depend on the implementation of appropriate policies ahead of decline in oil revenues.

In the case of Nigeria most policies at diversification have not hit the mark. But that has not meant that there were no attempts. Both the Obasanjo and Jonathan administrations were at the forefront of these attempts. (It would amount to self deceit to say both men did nothing. But they had the debris of 16 years of directionless military rule to contend with.)

Failure to attain the goal of a diversified economy can be attributed to factors including: lack of sustained long term plans, poor infrastructure (especially electricity and transportation), weak institutions, rising insecurity and IMPORTANTLY, the incredibly difficult business environment.

Nigeria currently ranks 170 out of 189 countries in the global Ease of Doing Business Index. Though on the overall ranking, Nigeria inched five steps upward From 175 to 170 between 2014 and 2015, yet the country still sank on five key indicators which are important in computing the Ease of Doing Business Index.

It recorded decline in Dealing with Construction Permits, Getting Electricity, Protecting Minority Investors, Paying Taxes, Enforcing Contracts, and Resolving Insolvency. All of which are basic to attracting the kind of investment that will diversity Nigeria’s economy.                   

One truism that has come to be embraced by all is that in the task of diversifying an economy, government cannot achieve much working alone. The kind of high level finance which is needed to achieve this feat must be gathered from both the private and public sectors. But foreign capital (Investment and Gross Fixed Capital Formation) will flow only when the environment meets the basic requirement for operation. That is where policy at making business easier becomes imperative.

Looking in the wrong direction?

A few years ago, we were being shown the facilities of a haulage company at the cargo section of the Murtala Muhammed Airport, we were shown their cargo plane which had just flown in from London and was about to do a pickup tour on the West African coast. Raw leather, from Kano, was being loaded onto the aircraft for delivery in Italy! This has been done in Nigeria for decades with limited results.

The goal of policy should be the proliferation of manufacturing plants, mining and processing activities. For sure, the private sector (both local and foreign) will commit if they are convinced that governments will stand by covenants and make effort at easing the encumbrances associated with the business environment.

Based on current realities, agriculture and mining still have immense potential to grow the Nigerian economy. Manufacturing plants, mining and processing activities could enhance the value of agric and mineral output (which is a doctrine that has been preached for the last 16 years). But these sectors also face challenges.

Real economically significant mining is capital intensive, and Nigeria’s major mineral rich states are located up north. But with the kind of violence emanating from the north-east, it is doubtful that major investors will commit in that direction.

As for agriculture, the major challenge is that in the long run more investment in the sector will eventually engender mechanization, which may lead to job losses. (But these losses can be taken care of if processing factories take advantage of increased agric output.)Manufacturing has the advantage of employing several workers at the same time.

The internal migration that characterise China and India were occasioned by the demand for labour along their industrialized coastal states. In the case of both countries, labour which was once confined to farms was re-trained to supply labour in factories.

As oil loses its shine, policy makers are forced to look at other areas which may not spin money as fast as oil. But if they make the business environment more accommodating, the long run benefits will make oil revenues a mere complement.