Mixed Oil Markets and Q2 Slowdown Signal Economic Warnings to Nigeria

By Lukman Otunuga, Senior Research Analyst at FXTM,

Another recent escalation in the trade dispute between the US and China has punished crude Oil prices and set off warning signals for Oil-producing countries like Nigeria.

At the same time, Nigeria’s GDP slowed down to 1.94 percent in the second quarter from 2.1 percent in the first quarter, following the trend seen in several economies such as Germany and the UK.

It is becoming quite clear that as long as oil dependence remains one of Nigeria’s biggest risks, this will continue weighing heavily on the economy for the rest of 2019. While the GDP data should nudge the Central Bank of Nigeria (CBN) to cut interest rates for the second time this year in September in an effort to stimulate growth, this is a temporary fix to a bigger problem

What trade disputes mean for Nigeria’s economy

Persistent trade disputes between the world’s two largest economies is set to fuel fears over a global slowdown or even recession. Oil prices declined on the basis that a decelerating global growth may result in lower demand for the commodity Nigeria relies on for 90% of its export earnings.

In the context of a trade dispute, tariffs are like bombs exploding on trading relationships, supply deals and eventually on company profits.

Trade tensions also remain a direct threat to Nigeria’s economy. The risk factors are escalating along with the probability that the world may see an economic slowdown in the short-to-medium term.

Under the current circumstances, there are three main challenges Nigeria must navigate. They are China’s slowdown, lower oil prices, and the need for fast and adaptive monetary policy to handle local and external shocks.

Will China impact Nigeria’s growth prospects?

China’s growth slowed to 6.2% in the second quarter, its weakest expansion in three decades. 

Most recently, China’s backing in the form of loans reached $16 billion and its vested interest is seen as a key support for the current production level of 1.85 million barrels per day. 

However, Nigeria aims to reach three million barrels per day and needs more investment from China, which may prove to be more difficult going forward if China’s economy continues to decline.

The high level of debt to China is also proving to be a weight on fiscal revenues because Nigeria spent 50% of its 2018 government revenues on debt repayment.

Indeed, the IMF has urged Nigeria to curb its large appetite for Chinese loans as the country struggles with a €70 billion debt burden. That’s up from €62 billion in 2017, representing a year-on-year rise of 12.25 percent.

Lower oil prices remain a threat to Nigeria’s recovery

The prospect of high debt levels to China amid lower oil prices is something that must not be overlooked.

At the time of writing, Oil benchmarks come under continuous pressure from demand-side concerns, including recession fears stemming from trade disputes.

The money from Oil sales is the lifeblood of the Nigerian economy. In the worst-case scenario, if Oil prices start drifting lower there could be unwelcome consequences such as even slower GDP growth, job losses, sovereign debt defaults, less money in the fiscal budget for development, and constrained consumer spending. 

Reduced crude Oil sales would affect government revenues and reserves, meaning the capacity to fund projects will be weakened. Stock markets together with investor sentiment domestically and externally would be impacted and possibly even trigger capital outflows.

Can Monetary policy handle downside shocks?

One would have expected economic momentum to pick up from Q1 after CBN cut interest rates in March and forced lenders to dish out more credit in a bid to boost growth.

While lower rates have the potential to keep the economy running, the answer to Nigeria’s woes can be found in diversification. The level of progress the nation has made in breaking away from the shackles of oil reliance remains a question for many with even the International Monetary Fund urging the nation to diversify revenues.

Another concern is friction over a recent UK court decision allowing a natural gas company to take over nine billion USD worth of Nigerian sovereign assets in London. The government has refused to accept the ruling and plans to appeal but the CBN may still need to step in to defend the Naira.

There is still some light at the end of the tunnel for the Nigerian economy if the right steps are taking in breaking away from oil reliance to other sustainable sources of economic growth. However, if Oil prices continue to send warning signals to Nigeria’s economic policy makers by trading sideways or declining, fiscal measures combined with monetary policy easing measures may become urgently needed to accelerate economic diversification.