Q1 Review and Outlook: Nigeria Exits Its Worst Recession. Where Do We Go from Here?

Global Economy

IMF updates global growth projection for 2021 to 5.5%

• The International Monetary Fund (IMF) in its January 2021 Outlook Update stated that the global economy will grow by 5.5% in 2021.
• This is an improvement from its earlier projection of 5.2%.
• According to the IMF, the update reflects “expectations of a vaccine-powered strengthening of activity later in the year and additional policy support in a few large economies”.
• The Fund however noted that recovery will vary across countries, depending on the efficacy of policy support, vaccine administration, among other factors.
• According to data from the IMF, emerging and developing countries will lead the global economic recovery with a growth of 6.3%.
• China will experience a GDP growth of 8.1%, higher than the pre-COVID-19 growth of 6% in 2019.
• The economy of Sub-Saharan Africa (SSA) is expected to expand by 3.2% in 2021 after a contraction of 2.6% in 2020.

Global Markets: Capital markets showed signs of recovery in early 2021

• Yields on 10-Year government bonds moved upwards in major economies in 2021Q1.
• Central Banks’ decision on the interest rate, breakthroughs in the development of COVID-19 vaccines and inflation expectations are some factors that led to upward yields movement.
• Yields on 10-year government bond inched closer to double-digit for major economies in Africa.
• While the impact of COVID-19 affects market confidence across countries, some markets still defy all odds.
• Although many of the markets on our watch list closed 2020 on an upside note, some markets could not sustain the momentum in 2020Q1.

Oil Production cuts and COVID-19 vaccines sustained higher crude oil price in Q1 2020

• The crude oil price has trended upwards since the end of October 2020.
• Year to date (March 19), the crude oil price has increased by 26% and has averaged US$60.8 per barrel.
• The increase in the price of crude oil has been driven by factors such as production cuts by OPEC and non-OPEC members and improved demand due to the administration of COVID-19 vaccines.
• These factors will continue to sustain high crude oil price in the second quarter of 2021.

Nigeria’s Macroeconomic Update

Nigeria records an early exit from the recession with a growth of 0.1% in Q4 2020

• In the fourth quarter of 2020, the Nigerian economy expanded by 0.11%.
• This means that the economy exited one of its worst recessions in the fourth quarter having posted a decline of 6.1% and 3.6% in 2020Q2 and 2020Q3, respectively.
• The non-oil sector was responsible for the improved GDP performance in 2020Q4. The sector grew by 1.7% in the quarter.
• Nigeria’s crude oil sector remained in recession with a negative growth of 19.8% in Q4, mainly due to lower crude oil output.
• Real GDP growth for 2021 is expected to be positive. We expect the economy to expand by 1.3% in 2021 in our moderate case scenario and 2.3% in the best case.

Prices keep rising as structural problems persist

• In February 2021, the inflation rate continued its upward trend to settle at 17.3%.
• Prices of goods have risen significantly in the last five months.

Exchange rate depreciates due to demand pressures

• The foreign exchange market continues to witness a supply shortage of foreign currency to meet its demand.
• Consequently, the gap between the various markets keeps expanding.
• As at March 16, 2021, the Naira on the I&E window closed at N409.67/US$, representing a year to date appreciation of 0.14%.
• It depreciated by 5.43% in the parallel market to N485/US$. Meanwhile, on the CBN Official, the Naira remained stable at N379/US$.
• Foreign exchange pressure will continue into the second quarter owing to limited inflows from both crude and non-oil sources, rising imports and a backlog of foreign currency demand.
• External Reserves trended upwards at the beginning of the year 2021, gaining 3.2% as at January 25.
• Despite rising crude oil prices, Reserves have lost 5.7% of their value from January 25 to March 17.
• Challenged oil inflows due to OPEC cuts, weaker foreign investment inflows, high demand for foreign currency to finance imports and other needs and possible clearance of FX backlogs are factors that continue to weaken External Reserves.

Nigeria records largest Trade Deficit of N7.4 trillion in 2020

• In 2020, Nigeria recorded its largest trade deficit of N7.4 trillion.
• While the value of exports declined by 35% in the year, imports value increased by 17% in 2020.
• Constrained supply chain, closure of land borders, exchange rate depreciation and weakened exports resulted in a larger trade deficit in the year.
• The deficit is expected to narrow in 2021 as economic activities improve.

FSDH Analyst Views on GDP Growth, Inflation, FX and Trade

• Nigeria recorded a GDP growth of 0.1% in 2020Q4. We expect that this positive growth momentum will continue in 2021 following the impact of the government’s fiscal stimulus on key sectors as well as improving economic activity. Major risks to growth are foreign exchange scarcity, slow pace of reserve accretion, stagnant oil output and insecurity.
• Prices will continue to rise in 2021 given the challenges associated with insecurity which has a direct impact on agricultural output and transportation cost.
• We expect, however, that the rate of change in prices (inflation) will moderate in the latter part of the year as the government will intensify efforts to address insecurity concerns.
• Other factors such as high fuel cost, logistics bottlenecks and infrastructure deficit will persist in the year.
• Foreign exchange challenges will persist in 2021 but we expect moderation in the latter part of the year. The wide gap between the official rates and parallel markets will continue to be a major FX challenge in 2021.
• High-interest rates environment, clearing of FX backlogs which has been estimated at US$2 billion, issuance of Eurobonds, FX policy clarity are actions that could attract FX inflows into the economy.
• We expect improvement in foreign trade figures, particularly both oil and non-oil export as demand conditions improve across the globe.
• Import will continue to rise. Nigeria’s ability to reverse its trade deficit in 2021 will depend largely on crude oil production volumes.
• Foreign investment inflows will be higher than the US$9.7 billion recorded in 2021 but below the pre-COVID-19 level of US$24 billion. Foreign exchange scarcity and insecurity will serve as a major constraint for investment inflows in 2021.

Fiscal Policy: FGN Expenditure aims to drive economic recovery

• Nigeria’s President approved a spending plan of N13.59 trillion in 2021, which is 25.7% higher than the 2020 revised budget.
  • Capital expenditure – N4.37 trillion (32.2% of total)
  • Recurrent expenditure – N9.22 trillion (67.8%)
  • Debt servicing totalled N3.32 trillion, accounting for 24.5% of total expenditure.
  • Debt servicing for 2021 is 41.6% of federal government revenue, much better than 83% (actual) recorded in 2020.
• Overall, the budget deficit for 2021 is N5.6 trillion. The actual deficit will be higher due to the anticipated revenue shortfall when compared with its target.
• The deficit as a share of GDP is expected to remain above 3% in 2021.
• The revenue projection of N7.99 trillion for 2021 is 37% higher than the 2020 projection of N5.84 trillion.
• For 2020, actual revenue was 73% of targeted revenue, despite several revisions of crude oil benchmark price and output due to COVID-19.
• While actual revenue for 2021 will improve as economic activities pick up in the year, it is expected to fall below projections contained in the budget.
• Revenue will be constrained by crude oil output as Nigeria complies with the OPEC quota.

Monetary Policy: Outlook and Expectation

The CBN Monetary Policy Committee (MPC) in its first meeting of 2021 made the following decision:

• Retained the MPR at 11.5%;
• Retained the Asymmetric Corridor at +100/-700 basis points around the MPR;
• Retained Cash Reserve Ratio (CRR) at 27.5 percent; and
• Retained the Liquidity Ratio at 30 percent all through the year.

Key factors expected to influence monetary policy decisions at the next MPC meeting are:

• The need to support economic growth
• Lower earnings from crude oil sales
• Lower foreign investment inflows
• Declining external reserves
• Exchange rate volatility
• Liquidity management
• Inflationary pressure
• Rising public debt

Outlook and expectation

• The need to drive growth and equally curtail the pace of inflationary pressure will put the CBN in a dilemma of either raising MPR to curtail inflation or reducing MPR to support growth.
• With the admission that there is weak transmission between the MPR and inflation at the previous MPC meeting, the Committee will not raise rates at the next meeting.
• With the introduction of the CBN Special Bill alongside conventional OMO Auctions, system liquidity will be relatively stable.
• The interest environment will stabilize deep into the year as the government will have to offer a higher rate to attract investors to purchase government securities.
• The exchange rate will remain volatile in the year given the weak reserve position and lower earnings from non-oil exports.
• We expect the Naira to depreciate further into the year as the outlook of major sources of inflows – oil price, foreign investment inflow, export earnings – remains constrained.

Analyst Views on Fiscal and Monetary Policy

• Nigeria has a major revenue challenge. Despite the increase in crude oil price in early 2021, external reserves continue to plummet, mainly due to stagnant crude oil production.
• This means Nigeria will struggle to take advantage of higher oil prices in the early part of 2021 until OPEC relaxes production quotas.
• The implication is that oil revenue will continue to be challenged and could fall below its projection of N2.4 trillion in 2021.
• Non-oil revenue will be higher than the actual N2.42 trillion realized in 2020 but lower than the projected N6 trillion. Structural challenges, a large informal economy and tax compliance issues are factors that will limit the growth of non-oil revenue.
• The debt profile will continue to increase in 2021, likewise actual government deficit.
• To ensure improvement in fiscal governance, the government must intensify efforts to drive prudent fiscal spending and ensure transparency and accountability of public funds.
• All through the year, Monetary Policy Committee will be caught in the battle of either raising rates to attract foreign exchange inflows into the economy or reducing rates to support economic growth.
• We expect the MPC to hold all parameters in its second meeting of 2021. This decision will be based on the need to strike a balance between growth and foreign exchange stability.
• For inflation, the MPC had earlier stated that inflation in Nigeria is driven mainly by structural factors which dwell outside the control of the Committee.
• While this view is true, we believe that the exchange rate which is largely influenced by the Central Bank is also a major determinant of inflation.
• Given this, tightening of monetary policy could favour FX inflows and further suppress price increase. As seen in recent months, the CBN can implement a tight monetary policy without necessarily adjusting the MPR. We believe the CBN will adopt other measures to tighten monetary policy.
• Therefore, the Committee will keep rates stable in the first part of the year with the expectation that there will be higher FX inflows and reserve accretion.

Capital Market: The impact of OMO regulation gradually fades out as yields advance

• The impact of the CBN’s OMO regulation that restricted participation of non-bank corporates from OMO transactions is gradually fading out as yields recover across segments of the fixed income market.
• The increase in yields was driven by
  • A week on week auction of OMO instruments by the CBN;
  • Introduction of the CBN Special Bill;
  • Desertion of the fixed income market for the equity market.
• Yields in the FGN Bond market advanced in 2021Q1 across tenors as the average yield increased to 9.39% (as of March 16 2021) from 6.12% at the beginning of the year.
• The federal government is positioned to borrow N5.6 trillion to finance the 2021 Budget which potentially could be higher at the end of the year as revenue remains constrained.
• Yields in the NT-Bill market also advanced in 2021Q1.
• The average yield in the NT-Bill market increased to 3.13% as of March 16 from 0.46% at the beginning of the year.
• Yields in the Treasury Bill space will continue to rise as the government is positioned to borrow more in the year and the CBN continues to implement measures to contain the liquidity in the banking system.
• Like other fixed income instruments, yields in the OMO space are fast recovering.
• THE average OMO yield expanded to 6.89% at the close of March 16 from 0.58% at the beginning of the year.
• The outcome in the OMO space is partly a result of the introduction of the CBN Special Bill. Generally, the CBN has expressed its willingness to raise rates in the year.
• The rising inflation rate might incentivize the CBN to auction more OMO instruments at higher rates in 2021.

NSE: The equity market sheds gains recorded in 2020Q4 as profit-takers dominate

• Despite the impact of COVID-19, the NSE closed 2020 as one of the best performing stock markets in the world has recorded a 50.03% expansion in the All Share Index.
• This performance was largely motivated by gains in the industrial index and telecommunication index.
• The NSE Market Capitalisation expanded by 62.5% in 2020, representing a total of N8.1 trillion increase in investors fund.
• This, however, is being reversed as investors maintained a profit-taking sentiment, which has become a trend in the first quarter in recent years.
• Year to date (March 16), the NSE-ASI has recorded a loss of 3.85% while investors have lost N797.84 billion driven largely by losses on banking stocks.
• The current appreciation of yields across segments of the fixed income market has contributed to the bearish run in the equity market.
• Based on data for January 2021, investors’ participation in the equity market subsided, when compared with data for November and December.
• Particularly, foreign participation remains significantly lower when compared with domestic participation.
• Month-on-month, participation in the NSE equity segment shrunk to N232.5 billion in January 2021 (13.7% decline) from N269.2 billion in December 2020.
• Domestic investors continue to dominate foreign counterparts. Total domestic transaction decreased to N185 billion (7.2% decline) in January 2021 from N199 billion in December 2020 accounting for 79.6% of the total transaction.
• Participation from foreign players decreased to N48 billion (32% decline) in January 2021 from N70 billion in December 2020 accounting for 20.4% of the total transaction.
• Despite the lower participation, foreign investors’ transactions on the NSE were mainly divestment (investment outflows) while the major investment inflows were from domestic investors.

Download the full report on Macroeconomic Review for Nigeria 2021 Q1 and Outlook.