“In a petro-state, the competition for [oil] revenues and the struggle over their distribution becomes the central drama of the nation’s economy, engendering patronage and clientelism and what is called “rent-seeking behaviour.” That means that the most important “business” in the country (aside from oil production itself) is getting some of the “rents” from oil—that is, some share of the government’s revenues.”
Anyone familiar with Nigeria will immediately recognise how applicable the above description of a petro-state from Daniel Yergin’s The Quest is to Nigeria’s economy. Nigeria is an unproductive economy propped up by the wasteful and corrupt distribution of oil rents. Only three of Nigeria’s 36 states generate more revenue internally (i.e. revenue generated by taxing productive activities within the state) than from allocations from the federation account, the bulk of which is oil revenue. Essentially, most states in Nigeria have very few productive activities happening within their borders and generally only exist to facilitate the distribution of oil revenue through their bloated civil service.
Why Oil is King in Nigeria
Although oil only accounts for less than 10% of Nigeria’s GDP, from 2015 to 2017 it provided over half of all government revenue and at least 90% of export earnings.
When oil prices and, consequently, government revenues fall, the government can either respond by cutting spending or by increasing borrowing, which reduces private sector investment by increasing the cost of borrowing for private firms. Additionally, the decrease in foreign exchange earnings exerts downward pressure on the naira which often eventually forces a currency devaluation which in turn increases inflation rates.
The collapse of growth in the Nigerian economy from 2015 to 2017 illustrates just how damaging Nigeria's overreliance on oil is to its economy. Although a recession could perhaps have been avoided with better economic policy responses—misguided policies such as the arbitrary rationing of forex played their part—Nigeria would at least have experienced a severe slowdown in its GDP growth rate. Further demonstrating Nigeria’s dependence on oil, Nigeria’s subsequent recovery from the recession has mostly been due to a rebound in oil prices and production.
Why It Shouldn’t Be — Peak Oil is Coming
One day, oil prices may fall and never rebound. As governments around the world intensify efforts to wean their economies off fossil fuels in order to meet the goals of the 2015 Paris Climate Agreement, the prospect of peak oil demand has become a real possibility. Various organisations including Shell, BP, Equinor (formerly Statoil), and Wood Mackenzie expect a peak in oil demand before 2040. Although other forecasts do not foresee a peak any time soon, the prospect alone is worrying for Nigeria. While the need to reduce Nigeria's dependence on oil has long been clear to observers of the Nigerian economy—and indeed successive Nigerian governments have spoken at length about it—there have been few concrete actions towards achieving this.
If the recent oil price crash was painful for the Nigerian economy, peak oil demand would be catastrophic. Currently, when oil revenue is low, the Nigerian government is still able to borrow relatively cheaply because lenders expect that the government will be able to repay loans when oil revenues pick up again. This allows the government to maintain or even increase its level of expenditure, despite federal government revenue falling from ₦3.2 trillion to ₦2.9 trillion between 2014 and 2016, government expenditure increased by ₦273 billion over the same period.
However, if lenders expect oil prices to be permanently low, the government would find creditors hard to come by. Civil servants would likely go unpaid while capital projects (which are usually first on the chopping block when revenue is low) would be non-existent. Nigeria would face a prolonged period of low or even negative GDP growth rates compounded by high inflation caused by a plummeting exchange rate. Given that many of Nigeria’s states are dependent on oil revenue to fulfil their basic obligations, some of these states would become bankrupt since the Federal Government would not be able to bail them out as it has done in the past.
One way or another, Nigeria must face up to a future without oil; we can either choose to voluntarily transition from a petro-state to a more balanced and productive economy, or we will be dragged, kicking and screaming, into the post-oil age. If Nigeria chooses the first option, we must start preparing for the future now. Unless we take the steps required to develop a productive and diversified economy, in 2050, we could be looking at the ruins of a failed state.
This article is Part I of a series. Read Part II here.
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