The Nerve Desk

The Nerve Desk

Poor economic diversification constrains Nigeria’s credit profile, says Moody’s

Nigeria’s credit profile (B2 stable) is constrained by the sovereign balance sheet’s continued exposure to shocks because the government has been unable to expand its non-oil revenue base sufficiently, Moody’s Investors Service said in a report today.

“Although oil revenue has risen in 2018, deficits remain elevated relative to revenue and debt affordability is still weak but improving,” said Aurélien Mali, a Moody’s Vice President — Senior Credit Officer and co-author of the report titled “Government of Nigeria — B2 stable, Annual credit analysis”.

“We expect debt levels to remain contained at around 20 percent of GDP in 2019,” Mali noted, alluding to Nigeria’s credit strengths, which include the large size of its economy and the country’s robust medium-term growth prospects, supported by strong domestic demand.

Moody’s report comes as the National Bureau of Statistics released Nigeria’s Q3 GDP figures, showing a growth rate of 1.81 percent, boosted by its non-oil sector. Although, its oil sector contracted 2.91 percent (year-on-year) in Q3 2018, oil remains Nigeria’s major revenue earner and its largest source of foreign exchange. Hence, oil plays a major role in its economic growth. This is evident in its recovery following a 2016 recession. The economy rebounded as a result of higher oil prices and increased oil production.

However, the sharp decline in oil prices from mid-2014 severely weakened the country’s public finances, with general government revenue dropping by half to 5.6 percent of GDP in 2016 from 10.5 percent in 2014. Efforts to ramp up non-oil revenue, while beginning to bear fruit, have not helped significantly to increase government revenue, even with oil prices above the budget benchmark.

Moody’s notes that increasing non-oil revenue is the only way for Nigeria to improve its resilience to oil price volatility and increase realisation rates of capital spending on the large infrastructure projects that are crucial to its economic development.

“Until it does, the government’s balance sheet will be exposed to further shocks. Deficits will remain elevated and debt affordability challenged,” Mali noted.

Following the last meeting of the Organisation of Petroleum Exporting Countries (OPEC), members agreed to cut production to stabilize the oil market, with current situation showing oil prices could fall as low as $40 per barrel if oil producers do not reduce their output. Nigeria is expected to cut its output by about 40,000 barrels per day. At current levels, the output cut means Nigeria will be losing about $2.4 million per day when the cut comes into effect next year. It’s even worse if there were no cuts and oil prices fall as low as $0 per barrel; Nigeria will be making $76 million per day instead of today’s $114 million per day (at 1.9 million bpd). Either way, Nigeria remains exposed.

“Structural institutional improvements and reforms that increase the diversification of government revenue away from oil would be positive for Nigeria’s credit profile,” Mali noted, adding that “a sufficient increase in fiscal savings with the potential to offset a protracted economic shock would also be positive”.

Meanwhile, Moody’s says its stable outlook on Nigeria’s sovereign rating reflects the low likelihood of a shock that further impairs Nigeria’s economic and fiscal strength.

“External vulnerabilities have receded, supported by a rebound in oil prices and production,” Mali noted.

However, Moody’s stated that downward pressure could emerge in the event of a prolonged slowdown in growth and investment, an extended deterioration in Nigeria’s fiscal position or further delays in implementing key structural reforms, particularly in the oil sector.

Apart from the continued exposure of Nigeria’s balance sheet to oil volatility shocks, the country’s B2 credit profile remains constrained by weak institutional framework, particularly in respect of rule of law, government effectiveness and control of corruption. There are also political risks, especially from the conflict with Islamist militant group Boko Haram.

Moody’s forecasts a GDP growth of 1.9 percent for Nigeria in 2018, up from 0.8 percent in 2017. The ratings agency also expects Nigeria’s current account to remain in surplus; with external borrowing and increased foreign capital inflows supporting the country’s reserves.