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Cracking Nigeria’s oil subsidy nut

Nigeria’s oil subsidy programme has unwittingly become a drag on the economy. When the price of the commodity rises on the international market, revenue rises,…

Nigeria’s oil subsidy programme has unwittingly become a drag on the economy. When the price of the commodity rises on the international market, revenue rises, but this gain is more of a paper entry. It is taken away by a higher subsidy, which under the current arrangement, the government must concede so that Nigerians can afford to buy refined products which are imported at higher costs.

When the price of oil goes down, the government’s revenue similarly falls, but subsidies still have to be given.

In the first quarter of this year, the government spent about N197.74bn on subsidy payments, according to official figures. As the price of crude oil surged past $71/barrel, it became clear this would push prices of refined products to higher regions of subsidy requirements to make them affordable at home.

This is the reasoning. It is also the fear within official circles, where this scenario is viewed as unsustainable, subsidy removal is inevitable.

These swings in the government’s revenue and the pressure on the public purse have led to persistent talks from official quarters for an end to oil subsidy. The government has been in talks with stakeholders on the issue of removing the subsidy.

For a start, Nigeria’s four refineries, located in Port Harcourt (two), Kaduna, and Warri, have a combined capacity to refine 445,000 barrels per day. Since they are virtually moribund, the Nigerian National Petroleum Corporation (NNPC) allocates this volume of crude oil from our production to traders, under a “SWAP” arrangement.

Armed with this volume, the traders roam the global oil market in search of refined products at the best prices possible. It is in this market that the product that we consume in Nigeria is secured at the best of prices.

NNPC has another stream, the direct imports, through which it brings in refined products.

How does this affect the price at which Nigerians consume refined petroleum products? Typically, the final cost of petrol or diesel is determined by four distinct factors.

The first is the cost of producing the crude oil itself. In our case here, we could take this as given since it makes no difference in our consideration whether we refine our product at home or import from abroad.

The other components that matter here are the refining costs and profit, distribution and marketing costs, and significantly, Value Added Tax (VAT).

Clearly, the refined products that are imported into Nigeria contain some of these cost components, which inevitably translate into higher landing costs, versus the locally refined products.

This, therefore, makes the issue of oil subsidy in Nigeria “man-made”. It has thrived because the local oil industry has not been enabled to operate efficiently so that a truly cost-reflective price can be attained. This also explains the fact that the greatest beneficiaries of the subsidy regime have those who do not necessarily need it in terms of the affordability of the products. Rather, the beneficiaries are those involved in the flawed procurement process: middlemen and politically connected persons who know the intricacies of the oil and gas industry.

While the above is the case, the narrative in the industry has been rather that subsidy is inevitable because a cost-reflective price in the industry must necessarily be unaffordable to the consumer. Economists dispute this. And they argue that efficiency is profitable because it drives down costs.

It is, therefore, evident that what the government has been subsidising is the inefficiency in the industry. This inefficiency is partly the price of policy lethargy and wrong sequencing of actions. Waiting for the answer to this question now is like waiting for another edition of Samuel Becket’s Waiting for Godot.

There is no more time. This is happening in the context of Dangote Refinery and Petrochemical Company coming on stream. Already, the fertiliser plant has commenced production, while the refinery is scheduled to begin production later this year or in early 2022.

What is the implication of this for the local price of petrol? One of the conversations that went on within the policy circles in the country, with respect to the privatisation of the petroleum industry was the question of pricing. At what price would private producers or investors sell their products? Would it be the subsidised price or market-determined prices?

That reality is now with us, and within a short time, we will have to answer that question, not as a mere conjecture but as an economic policy reality.

The Nigerian Governors Forum (NGF) in May recommended a price of N380/litre of petrol. Their position is understandable: what should come to them by way of  Federal Account Allocation Committee (FAAC)  allocations is being distributed to the consumers of petroleum products who benefit from the subsidies. There are issues of allocative efficiency involved here. But between the funds being given to the state via FAAC and the subsidy offered; neither of them is efficient. Yet the reality is that those who collect the salaries paid by the states will be part of the citizens who will now pay N380/litre; directly or indirectly. Those who have cars will fuel their vehicles at the new price, and when they run their generators at home (including “I Pass My Neighbour”), they will do so at the new price.

In a country where factories, offices and homes depend on generators to run, the planned subsidy removal is bound to impact production negatively and ultimately raise prices of goods and services.

With salaries that are fixed, for now, there is little room for most of the civil servants to contend with the inflationary blitz that will be visited upon the average consumers in the country.

The consequences of the subsidy removal are certain: welfare will fall across the board, but as usual, some groups will be impacted more than others. People will become more restive. Production will be hurt.

That will force decision-makers to rethink their actions.

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