State of the economy: Dangote refinery, MPR hike and matters arising 

BY ABDULHALEEM ISHAQ RINGIM

For years, the Dangote refinery has been hailed as a potential lifeline for Nigeria’s ailing economy. Despite its vast oil reserves, Nigeria has failed to achieve sustained economic growth and stability due to deep-rooted structural dysfunctions. A critical aspect of this failure is the country’s inability to develop a robust oil refining industry capable of meeting domestic demand for one of its most crucial energy sources — petrol.

The ramifications of this dysfunction are far-reaching, profoundly impacting the country’s fiscal health, monetary system, and consequently, the entire economy. As a major oil producer, Nigeria should benefit from substantial government revenues and foreign exchange inflows generated by its oil wealth. These inflows should, in theory, ensure currency stability, a favourable balance of payments, and steady exchange rates.

However, the lack of adequate refining capacity among other factors like declining oil production, oil theft and inadequate economic diversification (of revenue and foreign exchange sources) constitute major impediments to achieving economic stability. This is the basis for heightened optimism for the Dangote refinery project and the economic stabilization potential it holds. It also explains the frustration of Nigerians towards the dramatic summersaults that characterized the refinery’s pre-takeoff.

The Nigerian National Petroleum Company Limited (NNPCL) has begun lifting premium motor spirit (PMS) from the Dangote refinery, though this milestone is overshadowed by renewed controversy surrounding product pricing. While the technical sub-committee on naira-based crude sales to local refineries, established by the president, is expected to resolve these pricing issues, Nigerians continue to express disappointment over the lack of a substantial decrease in petrol pump prices—which had been their greatest expectation.

It is crucial to recognise that this expectation of lower petrol prices may not be realized in the short term. The slight reduction anticipated from eliminating shipping and logistics costs related to fuel importation may not directly lead to a drop in pump prices. This is largely because the government is unlikely to reinstate a subsidy regime, and Dangote, as a private business, must account for various costs, including refining expenses, overheads, borrowing costs, insurance, and profitability.

The price of petrol at the pump will primarily depend on global crude oil prices and the exchange rate. Any significant reduction in pump prices will occur either from a decline in global oil prices or from the appreciation of the naira against the dollar in the foreign exchange market. For this reason, a decrease in petrol prices is likely to happen only in the mid-to-long term, rather than immediately.

This decrease is likely to be occasioned by the strategic move by the Bola Tinubu-led government to sell crude oil to Dangote refinery in naira. It is estimated that as a result of this move, there will be a reduction of 40 percent in the demand for the dollar in the economy. And ceteris paribus, this is expected to shift the demand curve downwards to find a new lower equilibrium price level on the demand/supply curve resulting in the appreciation of the naira against the dollar. And since oil prices are tied to the exchange rate, a stronger naira would make crude oil cheaper in local currency terms and ultimately drive down the cost of petrol at the pump.

It is imperative at this point to congratulate Aliko Dangote for conjuring a vision that ordinarily seemed unrealistic owing to both a failed previous attempt and the intricate impediments to successful investment in the refining segment of the downstream oil industry. The courage to drive a $20 billion investment in an industry climate with four state-owned refineries that have gulped over N11 trillion in failed turnaround maintenance costs within 10 years and the perseverance to withstand the machinations of vested interests committed to rendering this historic project a failure is indeed a rare display of entrepreneurial resilience.

The benefits of this massive business venture are enormous. It is arguably Nigeria’s biggest industrial achievement with far-reaching multiplier effects in terms of job creation; uninterrupted supply; energy security; and a downstream sector that assures proper accounting of our petrol consumption with tracking technology that limits the exportation of petrol meant for domestic consumption to neighbouring countries for arbitrage purposes. These are all in addition to the huge potential for exchange rate stabilization and a boost to foreign exchange inflows from the export of the refinery’s various products.

Nevertheless, the responsibility now falls on the government to implement the necessary interventions to turn these potentials into reality. Without such action, the opportunity for economic gains may deteriorate. And Nigerians, while coming to terms with the fact that the refinery might not reduce pump prices in the short term still remain optimistic that in the mid-to-long term, the multiplier effect resulting from the 40% decrease in dollar demand will translate into a stronger naira and exert downward pressure on pump price and ultimately cost-push and imported inflation across the board.

However, a reduction in dollar demand, without a corresponding increase in dollar supply within the economy may negate the anticipated improvement in the exchange rate. Without sufficient government intervention in the upstream oil sector to boost production and generate more dollar revenue from crude oil exports, the 40% decrease in dollar demand for petroleum imports could be offset by an equal or greater decline in dollar inflows from oil exports. This might leave the exchange rate stagnant or, worse, lead to further depreciation.

In the meantime, the Central Bank of Nigeria (CBN) continues its contractionary monetary policy, raising the monetary policy rate (MPR) by 50 basis points to 27.25%. This move aims to curb inflation, which has slowed from 34.19% in June to 32.2% in August, while also pre-empting the renewed inflationary pressures anticipated from rising food costs due to flooding and insecurity, increasing energy prices (especially petrol), and exchange rate instability. The CBN insists on monetary tightening even amidst debates regarding the true causation of our inflation.

Some experts argue that the efficacy of raising the MPR remains questionable, as previous rate hikes have yet to significantly impact inflation. They assert that the inflationary pressures we face are driven by a complex interplay of factors — from demand side pressures occasioned by fiscal measures that perpetuate economic overheating through monetary expansion caused mainly by increased government spending (from borrowing and central back financing — Ways and Means) without a corresponding rise in productivity of the real economy; to supply-side dynamics as a result of cost-push causations, driven by factors such as increased energy and agricultural input price levels (that raise production costs) and exchange rate pressures (causing imported inflation).

Therefore, it is argued that continuous monetary tightening primarily affects the demand side, but only to a limited extent, as it only impacts consumer and private investment spending rather than addressing the more significant inflationary pressure from unchecked government spending. While raising the MPR may have initially attracted foreign portfolio investment inflows, which briefly helped in stabilizing the exchange rate, the currency’s volatility has persisted as these inflows have slowed. Investors seem to be awaiting evidence of a clear fiscal direction that supports liquidity in the foreign exchange market before committing further.

On the supply side, tightening seems to be ultimately exacerbating inflationary pressures rather than alleviating them by increasing the cost of borrowing especially for larger businesses. This results either in reduced production (and resultant cost reduction, retrenchment of workers) for those who are unable to borrow at such unfavourable rates or an increase in the cost of production and subsequent increase in prices of output for those who can borrow. In both cases, these higher costs are passed on to consumers through price increases, further fueling inflation through the supply chain.

These issues expose the imperative of a nuanced approach as orthodox monetary tightening measures may not be the panacea to our inflation and exchange rate challenges. A deeper analysis reveals that the key lies in strengthening the real economy. A comprehensive strategy demands a reevaluation of national fiscal management as part of a larger effort to foster an environment conducive to investment, innovation, increased production and enhanced export capacity for improved capital inflows. The fiscal side of Nigeria’s economic policy implementation appears largely inactive in this case, leaving a gap in addressing these structural issues.

Therefore, as the Dangote refinery begins operations and the expectations of Nigerians continue to heighten, the government must imbibe fiscal discipline by reducing the cost of governance and redirecting financial resources away from non-essential expenditures towards investment in growth-driving and export-enhancing areas like infrastructure development; manufacturing and industrialization; crude oil production and security (of oil pipelines against oil theft and major agricultural production corridors).

These measures can boost productivity, enhance capital inflows, and increase foreign exchange liquidity from oil and other exports. Additionally, they would generate the required capital and revenue needed for investments towards a more robust economic diversification initiative. This approach would support diversification in both revenue and exports, leading to greater price and exchange rate stability, enhanced fiscal performance and ultimately contributing to overall economic growth and development.

Abdulhaleem Ishaq Ringim is an economic and public policy enthusiast. He writes from Zaria and can be reached via [email protected]