In a new report by research agency Afrinvest, Nigeria’s economic space will remain constrained due to political and interest rate risks. In this report, BENJAMIN UMUTEME takes alook at the report.
In its outlook report for 2919 stated that the currency faces a downside risk as foreign capital flows may remain constrained due to both political risk and elevated interest rate in advanced economies.
According to the research agency, this may impacy heavily impact Nigeria’s external position and weaken external reserves accretion.
Afrinvest (West Africa) Ltd. is an independent investment banking firm with a focus on West Africa and active in four principal areas: investment banking, securities trading, asset management, and investment research.
It is both a provider of research content on the Nigerian market and an adviser to companies across West Africa on M&A and international capital market transactions.
The report titled: “On the precipice: the Nigerian Economy and Financial markets (2018 review&2019 outlook) stated that CBN has guided towards a tight monetary policy stance which should help attract capital inflows.
“We also expect a stable current account surplus to support reserves accretion, if oil production remains steady at 2.1mb/d as expected, and oil prices remain above $50.00/b.”
Exchange rate breaches resistance levels in 2019
The exchange rate stability which we anticipated was achieved for most of 2018.
The official rate remained unchanged from N305.00/US$1.00, its level since September 2016. However, in the I&E window and parallel market, rates converged at N360.00/US$1.00. The current account balance to GDP which hit a five-year high of 4.4% in Q2:2018 supported exchange rate stability. However, turbulence soon emerged in H2:2018 when investors retreated from emerging and frontier markets. In Nigeria, policy uncertainty as a result of the upcoming elections also made investors jittery. Consequently, increased FX demand led to depreciation in rates to N366.00/US$1.00 in the parallel market and the rate at the I&E window was also pressured. To support stability, the CBN responded by end 2018.
“Overall, we believe the exchange rate will remain stable, especially in H1:2019, since the CBN has ample reserves for interventions. However, we note that pressures on the currency will intensify in H2:2019. Hence, we may see a depreciation in the currency to N401.00/US$1.00, mirroring the rate of 12-month non-deliverable forwards quoted on Bloomberg. We note that the likely emergence of a new CBN governor by mid-2018 may result in a new exchange rate policy,” the report said.
Monetary policy to remain tight in 2019The monetary policy environment has remained tight since 2016 despite weak economic growth. While growth has stayed below population growth rate of 2.6% since 2016, inflation has remained elevated at double-digit – slowing to 12.2% monthly average in 2018 (2017: 16.5%). With price stability as objective, the MPC retained Monetary Policy Rate at 14.0% with a corridor of +2%/-5% in 2018, as well as Cash Reserve Ratio at 22.5% and liquidity ratio at 30.0% in 2018.
Looking forward, the guidance offered by the Bank so far is that the restrictive monetary policy stance will remain in place for the early part of 2019. This is due to expected inflationary pressures from food shortages, fiscal spending and possible implementation of a new minimum wage of N30,000/month. In our view, food shortages and a devaluation in exchange rate are the biggest threats to inflation, as well as pricing adjustments for electricity and petrol.
2019 budget projections still far from prudentThe report noted that while the federal government planned to spend N8.8 trillion n 2019, the composition of spending which showed that the share of capital expenditure is lower at 23.1 per cent, a departure from the average of 30.0 per cent in the previous three budgets. Hence, non-debt recurrent expenditure is projected 15.0 per cent higher at N4.0 trillion. This is perhaps driven by the need to accommodate fuel subsidies which are now finally budgeted and the imminent minimum wage increase. The decision to include fuel subsidies in the budget is laudable as it adds more transparency to the process. However, like we have mentioned in our previous notes, removing fuel subsidies could unlock more revenues which can be better spent on other critical areas of the economy.
However, the reduction in projected revenues mainly reflects fading optimism on the part of the FG on the contribution of independent revenues, asset sales and recoveries which are set lower at N1.9tn (27.4% of total revenues in 2019 vs 40.9% in 2018).
While lower projections for spending and revenues suggest that the FG is finally recognising its dire financial position and making adjustments, we believe the spending estimates are still far from prudent. Indeed, the fiscal position of the federal government has improved somewhat as total collected revenues of N2.8tn as at 9M:2018 is already above total revenues of N2.7 per cent collected in FY:2017. However, at the current run rate, estimated actual revenues of N3.8 trillion will fall short of 2018 projections by an estimated 47.1 per cent. This means a likely expansion in the fiscal deficit to 2.9 per cent of GDP, above the 1.8 per cent projected for 2018. We expect this scenario to play out again in 2019 as non-oil revenue from non-core sources underperform. The fiscal deficit projected for 2019 is 4.8 per cent lower at N1.9tn from the previous year, translating to 1.3 per cent of GDP. But going by recent trends, we believe the fiscal deficit to GDP will remain closer to the 3.0 per cent threshold set by the Fiscal Responsibility Act. Also, we have concerns around implementation as 2019 is an election year. Should the incumbent emerge, we expect budget implementation to proceed smoothly; otherwise, implementation will suffer due to a likely difference in priorities.
The financial markets outlookThe performance of the domestic bourse in 2018 was largely bearish as sustained sell offs dragged the benchmark index 17.8% southwards. The year began with optimism, riding on the positive wave of 2017 which was stoked by the launch of the Investors’ & Exporters’ (I&E) FX window, but this slowly dissipated from the tail end of January 2018. In January, the benchmark index rapidly accelerated to as high as 17.9% (19/01/2018) before the bearish run set in. The gains recorded at the start of the year were largely in line with our views on the performance of the market for 2018, although we expected a weaker performance for H2:2018 as jitters of the impending elections filtered in. However, the impact of the upcoming elections was somewhat underestimated as this was a major drawback to market performance in the year alongside increased policy normalisation in systemically important central banks.
Historically, the performance of the Nigerian equities market has largely moved in lockstep with developments in the oil market, as foreign investors who often are the major players in the domestic market closely track the strength of the external reserves of emerging markets before investing. This focus on oil price and external reserves was evident between 2014 and 2016 as depressed oil prices took a toll on Nigeria’s external reserves and weighed on investor sentiment. However, 2018 took a different turn as investor sentiment remained weak for the greater part of the year, despite historical average of 14.5x. This bucks the trend of the premium pricing the NSE ASI has enjoyed over the MSCI Frontier Market Index in the past 7 years. This undervaluation is more apparent when juxtaposed with peer markets; hence our view that investors may have left value on the table.
