Declining Crude Oil Prices and the Nigerian Naira

With entire industries across the country currently shut down due to the Coronavirus, one source which had continued to generate the much-needed cash and foreign exchange for the Nigerian government was the sale of crude oil, albeit at lower prices.

This week, prices declined even further, causing Nigeria’s Bonny Light crude oil blend to sell for around $12 and $13 per barrel. Despite the low price of crude oil, Nigeria currently has about 10 million barrels of unsold crude oil, and traders expect this number to increase in the following weeks and in the month of May.

These low prices (compared with prices from 12 weeks before) and the inability to find buyers for the 10 million barrels at such low prices can be traced to the Coronavirus pandemic which is still spreading across the globe. With factories shut down, and transportation and other economic activities put on hold across Europe and Asia (some of Nigeria’s major buyers), there simply is not enough demand to match oil supply.

This is particularly worrisome for Nigeria because revenue from crude oil accounts for the major source of government revenue, and with the Nation currently on lockdown, other sources of revenue will be reduced significantly or completely wiped out for the entire period of the lockdown.

Another reason to be worried is that, the current prices are below the cost of producing crude oil in the country - around $22 a barrel – and well below the benchmark price of $30 per barrel set by the Nigerian government in its revised budget.

The economic repercussions will compound the already dire state of the economy and the expected impact of the Coronavirus lockdown on the Nigerian economy. We will get to these individual topics in later articles, but today, we examine the impact of the declining oil prices on the Nigerian Naira.

The last time oil prices fell from a previous “normal” was around 2014/2015, from a peak of $115 per barrel in June 2014 to under $35 a barrel by February 2016, and Nigeria is yet to recover fully from the aftermath of that crash.

Firstly, the Naira lost almost 50% of its value as the Nation faced a foreign exchange crisis - lower crude oil prices meant that the government earned less foreign currency income, but the amount of products imported into the Country, and paid for in dollars, a currency which was now in short supply, did not reduce organically.

Then the country suffered from one of its worst economic downturns in decades, with GDP falling from around 6% in January 2015 to less than -2% in September 2016.

In the years that followed, Nigeria became the poverty capital of the world, overtaking India (despite having less than 16% of India’s population), with the number of people living below the poverty line increasing to 87 million people. Over the same period, Nigeria’s unemployment rate increased from under 10% in 2015 to around 23% in 2019.

At this point, it is worth mentioning that crude oil prices did not remain at the $35-a-barrel level of February 2016. The average annual prices increased from $40 in 2016 to $70 in 2018, and down to $64 in 2019.

With prices now at their lowest in almost two decades, and with economic activities expected to remain low for the greater part of 2020, the Nigerian Naira will likely need to be devalued further from its current level of NGN361 to a dollar.

However, it is no news that President Muhammadu Buhari has, throughout his presidency (since 2015), prioritized keeping the Naira “stable” ahead of investing in education, healthcare and building a vibrant economy where investors would not have to worry about artificially / government determined currency exchange rates or about policy summersaults.

As a result of the above, Nigeria’s Central Bank is likely to continue to defend the Naira, at the expense of other important economic policy areas. Recommendations from organizations such as the International Monetary Fund (IMF) to devalue the Naira further will likely be criticized or ignored completely, initially.

As was the case the last time oil process fell and Nigeria faced a foreign exchange crisis, when economic activities resume after the Coronavirus lockdown, significant restrictions will likely be placed on economic activities which rely heavily on the importing of raw materials or finished products, with the hope of keeping the demand for the US dollar, vis-à-vis the Naira, low.

As more industries resume their activities after the current Coronavirus lockdown, and as economic activities pick up in Nigeria, the demand for the dollar would increase sharply, putting even more pressure on the Naira.

Ultimately, as the Nation’s foreign currency reserves deplete further, the CBN may have to choose between devaluing the Naira to another artificially determined rate and letting market forces determine the exchange rate through a free-float system.

Had the Naira been let to float freely during the foreign exchange crisis in 2015/2016, the exchange rate would likely have stabilized by now - as was the case with the Egyptian Pound which was let to float in 2016 and has not only stabilized, but has started to gain ground against the USD - and the Buhari Presidency would very well have been able to attribute the devaluation of the Naira to the crude oil crisis. However, that ship has sailed.

As the Nation prepares for another crisis, the type that could be potentially worse than the 2015/2016 crisis, the CBN has been presented with another unique opportunity to allow market forces determine the value of the Naira.

Will the not-so-independent CBN be allowed by President Buhari to leave the valuation of the Naira to market forces or will they let another good crisis go to waste?