Is Nigeria on the verge of fiscal collapse?

Last week, the Nigerian debt market panicked after a recent Bloomberg interview with the Finance Minister. In the interview, the minister was misconstrued to have suggested Nigeria was contemplating a restructuring of its debt instruments. However, before a formal clarification by the Debt Management Office (DMO) of Nigeria, the country’s dollar and naira-denominated debt instruments suffered a negative backlash from investors who rotated out for fear of imminent technical default.

In light of the recent panic, I took the liberty to explore the reality of Nigeria’s fiscal position to decipher the possibility of another medium-to-long-term concern. At least a proactive review of the situation could forestall another ill-advised investor crisis in the future.

My two cents on Nigeria’s fiscal position

Nigeria currently suffers from constrained fiscal space, with an increasing debt burden and elevated costs linked with interest and principal repayments. Nigeria’s total debt is estimated at N42.8 trillion, with debt servicing outstripping 100% of revenue as of April 2022. The total debt will be worse if I include off-balance-sheet debts like AMCON debt, power sector subsidies and the CBN ways and means facility. The ways and means advances have ballooned in recent years and are estimated at N20.0 trillion ($45.4 billion), having grown by an average of 45% in the last 5 years. The government has re-emphasized its plan to convert the CBN facility into government bonds, with Nigerian governors advising a conversion to a 100-year bond at 1.0% as of August 2022.

That said, Nigeria does not look to be in imminent danger of debt default, considering how its ratios stack up with the external debt burden thresholds of the IMF. In particular, the spread on Nigeria’s Eurobond is lower than the default benchmark set by the IMF. So although there is room for improvement, I think it is not yet time to press the panic button.

Figure 1: Spread on Nigeria’s Eurobonds lower than the debt-default benchmark of IMF

Source: IMF; Bloomberg

Could reforms improve the fiscal position?

With the government likely to spend about 9.6 billion on subsidy payments in 2022 (2x the N4.5 billion spent in 2021), I think the need for reforms has never been this strong. In the past, the government attempted to remove subsidies but backtracked after facing strong resistance from the public. However, with fiscal worries intensifying, it is clear that the subsidy regime might be unsustainable, especially given elevated crude oil prices and structural inefficiencies. Away from subsidies, the government has revealed plans to scale down on its tax waivers and incentives for companies and introduce new excise duties and levies. In its view, the incentives are unlikely to be sustainable given current realities.

I believe these reforms will likely slightly support the country’s fiscal position in the medium to long term. In particular, they are likely to free up revenue for deployment in productive sectors of the economy and even offer support to the currency. To the latter point, it is important to note that subsidy-related expenses account for about 25% to 35% of Nigeria’s annual dollar demand. Therefore, the removal of subsidy would result in a reduction of the demand-side currency pressures currently plaguing Nigeria #MEMBA11 #Philgaps