Oil price crashes: 1986, 2008 and 2014 (3)

Nigeria suffered greatly for mismanaging the first oil boom and for the next two decades from 1980 the country was basically an insolvent nation! We’ve seen that average oil prices crashed in 1986 to below $10 per barrel and it was no coincidence that having exhausted all tokenism and diversionary responses, structural adjustment and devaluation happened that year.

In-between we had depleted reserves, accumulated debt and suffered severe erosion in the quality of life of our people.

The market moved to between $12-20 over the next three years before benefitting from a short Gulf War rebound that took prices over $30 before returning sub-$20 until 1999 when we had a second oil boom decade.

Nigeria’s second chance was better managed due to the convergence of democracy; a President Obasanjo able to enforce fiscal rectitude (excess crude savings) in spite of constitutional limitations; and a competent economic team that carried out sensible reforms including an oil price benchmark and budgetary reforms such that at the advent of the global financial crisis and great recession of 2008-2009, Nigeria had built over $60 billion in reserves and earned a debt write-off from the Paris Club. The major policy failing this time was that government had failed to leverage a very strong balance sheet and income profile in the area of social sector reforms (education, health, poverty reduction, employment generation, rural development and public transportation) and infrastructure, especially power sector reforms.

When due to global recession oil prices dropped sharply from a peak approaching $150 mid-2008 to below $40 by Q4, our high foreign reserves meant that the country by and large escaped the devastation of the 1980s oil shock. We had remedied most of the lessons we had failed to learn from the first oil boom – healthy savings in the form of significant foreign reserves; debt write-off, limited new external borrowings composed largely of long-term, low-interest development loans and restrictions on state borrowings; and a flexible exchange rate system that duly moved the exchange rate from N117/$ to around N150/$. The only error we repeated was that given the luxury of savings, we continued to spend and soon $60 billion became $30 billion of reserves in less than two years of the Yar’Adua regime! Fortunately, this oil shock was short-lived and with global recovery, oil prices recovered in 2010 and again crossed the $100 threshold in Q1 2011, starting a third oil boom with prices between 2011 and 2014 oscillating within the $100-110 band.

This time, like incorrigible students, we repeated all our past mistakes and the villains were not the executive, but the national legislature, state governors and the central bank! While the Presidency and Ministry of Finance proposed conservative oil price benchmarks that will have allowed accretion to reserves, the National Assembly consistently raised the benchmarks to eliminate capacity for savings; governors piled pressure to deplete excess crude savings and used their significant political leverage to achieve that outcome; while the executive sensibly created a long-overdue institutional mechanism for sovereign savings (Nigerian Sovereign Investment Authority) like other oil producing nations which had set up sovereign wealth funds, our governors went to court to prevent its operation; and the CBN under Lamido Sanusi frittered away scarce reserves as it essentially returned to an irrational, economically-unsustainable and ego-driven fixed exchange rate system ensuring that Nigeria failed to increase reserves in spite of historically high oil prices!

Now the chickens have come home to roost! Oil prices have declined from $110 to around $60 per barrel; there is little reason to imagine that oil price falls will be temporary – OPEC contributes only 30 percent of global oil supply and so has lost market power; Saudi Arabia has changed its approach to oil prices and seems to be pursuing a low-price strategy to wreck competing technologies; fracking and shale oil have increased OECD oil production; new oil supplies are being discovered in unexpected places, including across Africa; alternative energy investments are rising, etc; and tepid global growth is constraining demand growth. Nigeria’s federal government has expanded its recurrent spending, setting up agencies for every problem and paying legislators the highest remuneration in the world; and corruption continues to erode value-for-money in government spending, both capital spending.

The Central Bank has taken the sensible step of adjusting the value of the local currency to modulate demand and supply for scarce foreign exchange, but it is re-introducing the error of multiple exchange rates with wide divergences and therefore huge arbitrage opportunities. I believe policy must move towards eliminating this incongruity. There are other imperatives of policy which may not happen until after elections – low oil prices make the case for deregulating the downstream petroleum sector compelling; the Oronsaye Committee Report which would have helped to reduce federal recurrent spending will probably have to be revisited; a Petroleum Industry Bill acceptable to the international oil majors must be passed; efforts towards diversifying our exports base through agri-business, solid minerals and manufactures must be accelerated; and the country must radically enhance tax revenue.

Meanwhile, the economy braces up for a challenging 2015 and the combination of economic and political challenges tests the acumen of both businesses and government as sharply lower oil prices mean declining reserves, a depreciating currency, imported inflation, severe revenue and budget constraints and impaired consumption.

Opeyemi Agbaje