Economy and Finance: Light at the end of the tunnel May 29th, 2006

The Nigerian economy has undergone a steady transformation since May 29 1999. The banking sub-sector also recently went through serious changes. Now the focus has shifted to the insurance sub-sector. BLESSING ANARO and BETHEL OBIOMA examine the trend since 1999.

In 1999 when the present regime of President Olusegun Obasanjo came to power as a democratically elected government, the situation was bad to say the least. Revenue from crude oil, Nigeria’s major source of revenue was at its lowest ebb. The country was isolated from the international community – a pariah state of some sort. Fuel, which ordinarily should be taken for granted as a must for availability was most scarce.

On the financial scene, the banking industry was in state of comatose. Very few were healthy.

Of course, the first four years were seen as a period of consolidation or a kind of learning process. The current tenure of the president has actually brought some positive changes. To the extent that some actually wanted him to remain in power to consolidate these changes further. However, the National Assembly has put a stop to it all.

So far, things have really changed positively, though many say it can not be measured in terms of the money that has gone into their pockets or improved standard of leaving.

Though refineries in the country are hardly working, fuel supply situation has stabilized, while the level of corruption has actually reduced. In fact, there is so more awareness about due process in the public corridors.

On the other hand, though the number of banks in the country has reduced to 25, one can now put his money in the bank and go to sleep with his two eyes closed.

The oil boom of the 1970s led Nigeria to neglect its strong agricultural and light manufacturing bases in favour of an unhealthy dependence on crude oil. In 2002 oil and gas exports accounted for more than 98 percent of export earnings and about 83 percent of federal government revenue. New oil wealth, the concurrent decline of other economic sectors, and a lurch toward a statist economic model fueled massive migration to the cities and led to increasingly widespread poverty, especially in rural areas.

A collapse of basic infrastructure and social services since the early 1980s accompanied this trend. By 2002 Nigeria’s per capita income had plunged to about one-quarter of its mid-1970s high, below the level at independence. Along with the endemic malaise of Nigeria’s non-oil sectors, the economy continues to witness massive growth of "informal sector" economic activities, estimated by some to be as high as 75 percent of the total economy.

Nigeria’s proven oil reserves are estimated to be 25 billion barrels; natural gas reserves are well over 100 trillion cubic feet. Nigeria is a member of the Organization of Petroleum Exporting Countries (OPEC), and in 2003 its crude oil production was averaging around 2.2 million barrels per day. Poor corporate relations with indigenous communities, vandalism of oil infrastructure, severe ecological damage, and personal security problems throughout the Niger Delta oil-producing region continue to plague Nigeria’s oil sector. Efforts are underway to reverse these troubles. In the absence of government programs, the major multinational oil companies have launched their own community development programs. A new entity, the Niger Delta Development Commission (NDDC), has been created to help catalyse economic and social development in the region. Although it has yet to launch its programmes, hopes are high that the NDDC can reverse the impoverishment of local communities. The U.S. remains Nigeria’s largest customer for crude oil, accounting for 40 percent of the country’s total oil exports; Nigeria provides about seven to nine percent of overall U.S. oil imports and ranks as the fifth-largest source for U.S. imported oil.

The United States is Nigeria’s largest trading partner after the United Kingdom. Although the trade balance overwhelmingly favours Nigeria, thanks to oil exports, a large portion of U.S. exports to Nigeria is believed to enter the country outside of the Nigerian Government’s official statistics, due to importers seeking to avoid Nigeria’s excessive tariffs. To counter smuggling and under-invoicing by importers, in May 2001 the Nigerian Government instituted a 100 percent inspection regime for all imports, and enforcement has been sustained. On the whole, Nigeria’s high tariffs and non-tariff barriers are gradually being reduced, but much progress still remains to be made. The government also has been encouraging the expansion of foreign investment, although the country’s investment climate remains daunting to all but the most determined. The stock of U.S. investment is nearly $7 billion, mostly in the energy sector. Exxon-Mobil and Chevron are the two largest U.S. corporate players in offshore oil and gas production. Significant exports of liquefied natural gas started in late 1999 and are slated to expand as Nigeria seeks to eliminate gas flaring by 2008.

Agriculture has suffered from years of mismanagement, inconsistent and poorly conceived government policies, and the lack of basic infrastructure. Still, the sector accounts for over 41 percent of GDP and two-thirds of employment. Nigeria is no longer a major exporter of cocoa, groundnuts (peanuts), rubber, and palm oil. Cocoa production, mostly from obsolete varieties and overage trees, is stagnant at around 180,000 tons annually; 25 years ago it was 300,000 tons. An even more dramatic decline in groundnut and palm oil production also has taken place. Once the biggest poultry producer in Africa, corporate poultry output has been slashed from 40 million birds annually to about 18 million. Import constraints limit the availability of many agricultural and food processing inputs for poultry and other sectors. Fisheries are poorly managed. Most critical for the country’s future, Nigeria’s land tenure system does not encourage long-term investment in technology or modern production methods and does not inspire the availability of rural credit.

Oil dependency, and the allure it generated of great wealth through government contracts, spawned other economic distortions. The country’s high propensity to import means roughly 80 percent of government expenditures is recycled into foreign exchange. Cheap consumer imports, resulting from a chronically overvalued Naira, coupled with excessively high domestic production costs due in part to erratic electricity and fuel supply, have pushed down industrial capacity utilization to less than 30 percent. Many more Nigerian factories would have closed except for relatively low labor costs (10 percent to 15 percent). Domestic manufacturers, especially pharmaceuticals and textiles, have lost their ability to compete in traditional regional markets; however, there are signs that some manufacturers have begun to address their competitiveness.

In October 2005, the International Monetary Fund (IMF) approved its first ever Policy Support Instrument for Nigeria. On December 17, the United States and seven other Paris Club nations signed debt reduction agreements with Nigeria for $18 billion in debt reduction, with the proviso that Nigeria pays back its remaining $12 billion in debt by March 2006. The United States was one of the smaller creditors, and will receive about $356 million from Nigeria in return for over $600 million of debt reduction.

In the light of highly expansionary public sector fiscal policies during 2001, the government has sought ways to head off higher inflation, leading to the implementation of stronger monetary policies by the Central Bank of Nigeria (CBN) and under-spending of budgeted amounts. As a result of the CBN’s efforts, the official exchange rate for the Naira has stabilized at about 112 Naira to the dollar. The combination of CBN’s efforts to prop up the value of the Naira and excess liquidity resulting from government spending led the currency to be discounted by around 20 percent on the parallel (nonofficial) market. A key condition of the Stand-by Arrangement has been closure of the gap between the official and parallel market exchange rates. The Inter Bank Foreign Exchange Market (IFEM) is closely tied to the official rate. Under IFEM, banks, oil companies, and the CBN can buy or sell their foreign exchange at government influenced rates. Much of the informal economy, however, can only access foreign exchange through the parallel market. Companies can hold domiciliary accounts in private banks, and account holders have unfettered use of the funds.

Expanded government spending also has led to upward pressure on consumer prices. Inflation which had fallen to zero percent in April 2000 reached 14 percent by the end of 2003. In 2000 high world oil prices resulted in government revenue of over $16 billion, about double the 1999 level. State and local government bodies demand access to this "windfall" revenue, creating a tug-of-war between the federal government, which seeks to control spending, and state governments desirous of augmented budgets preventing the government from making provision for periods of lower oil prices.

Since undergoing severe distress in the mid-1990s, Nigeria’s banking sector has witnessed significant growth over the last few years as new banks enter the financial market. Harsh monetary policies implemented by the Central Bank of Nigeria to absorb excess Naira liquidity in the economy has made life more difficult for banks, some of whom engage in currency arbitrage (round-tripping) activities that generally fall outside legal banking mechanisms. Private sector-led economic growth remains stymied by the high cost of doing business in Nigeria, including the need to duplicate essential infrastructure, the threat of crime and associated need for security counter measures, the lack of effective due process, and nontransparent economic decisionmaking, especially in government contracting. While corrupt practices are endemic, they are generally less flagrant than during military rule, and there are signs of improvement. Meanwhile, since 1999 the Nigerian Stock Exchange has enjoyed stronger performance, although equity as a means to foster corporate growth remains underutilized by Nigeria’s private sector.

The fortunes of insurance have been on the rise since the nation’s new democratic experience commenced on May 29, 1999. However, the sector still remains underperforming, given the growth potentials available in the largely untapped life insurance business.

Checking fake insurance institutions

Since 1999, the insurance industry has been involved in ongoing campaigns aimed at checking the negative impact of fake insurance institutions on the fortunes of the local market. Employing fake insurance documents/certificates, fraudsters who are well-entrenched in the sector manage to rob the industry of no less than N20 billion annually. The activities of fake operators are more pronounced in motor and maritime business.

However, the efforts of the National Insurance Commission (NAICOM) in collaboration with the sector’s trade bodies have managed to raise awareness of the insuring public on the need to ensure they buy insurance policies from duly registered insurance companies. While some fraudsters have been apprehended, the vehicle insurance sticker (VISER)-the main vehicle of the campaign against fakes- is yet to achieve the desired results.

Capitalisation

The insurance industry has witnessed a marked growth in its capitalisation level since 1999. The Insurance Act 2003 paved the way for capacity building in the industry when it raised the minimum capital requirement of insurers. Life operators’ capital grew from N20 million to N150 million, non-life paid-up capital rose from N70 million to N200 million; and composite insurance outfits/reinsurers were required to increase their paid up capital from N90 million to N350 million. Today, the industry’s total capitalisation level stands at about N34 billion, with shareholders’ fund of N50 billion. The ongoing consolidation exercise which raised the sector’s minimum capital requirement to N2 billion for Life, N3 billion for General Insurance, and N10 billion for Reinsurance is expected to enhance its risk retention capacity and profitability.

Number of operators

After the recapitalisation exercise in 2003, 14 insurance companies were liquidated for failing to meet up with the capital level enshrined in the Insurance Act 2003. Presently, the insurance sector comprises 103 insurance companies, five Reinsurance companies and 350 insurance brokers in Nigeria. However, the number of operators is expected to dip as the consolidation exercise winds up on February 28, 2007.

Nigeria’s performance in global perspectives

In spite of the steady growth of the local market since 1999, the Nigerian insurance industry has remained underperforming when compared to other countries. Even in Africa, Nigeria continues to trail such countries as South Africa, Egypt, Morocco, and Zimbabwe. The nation is yet to improve its dismal insurance penetration level, put at under one per cent. While the Nigerian Insurance Industry’s share of the world market is 0.01 percent, South Africa leads the entire African continent with 0.86 percent.

As was the case before 1999, factors like low capitalization, high receivables, poor public perception, inability to attract and retain skilled manpower, poor remuneration and low investment in information technology have remained major setbacks to the development and growth of insurance in Nigeria.

In addition, according to the Swiss Re Global insurance report for 2004, Nigeria was ranked 62 out of 88 countries in terms of annual premium volumes, and purported to having 0.02 percent of the total world insurance market.

Key indicators of the industry

As at December 31, 2003, the total asset base of the insurance industry was N103 billion, representing a growth of 37 percent growth when compared with 2002 figure of N75 billion.

Total investments of the industry amounted to N42 billion, and represents 41 percent of the industry’s total assets. Premium receivable constituted a significant part of the industry’s assets (2003: 20 percent, 2002: 18 percent).

Total Gross Premium (GP) of the industry in 2003 stood at N51 billion compared with a value of N42 billion recorded in 2002.

With such results, the insurance industry remains a rather small player in the financial services sector when compared to banks, especially in terms of assets. The total banking industry as December 31, 2003 had total assets of valued at N2.6 trillion.

Size as a Percentage of GDP

Records from the insurance industry indicate that the sector’s contribution to the economy as measured by the ratio of Gross Premium (GP) to GDP was less than 1.0 percent in 2003. Experts have attributed this trend to the poor performance of the life insurance sector.

density. Insurance density represents premium per capita of a nation. Nigerian had a total insurance density of 4.0 in 2004.

The opportunities ahead

With a huge success in the ongoing recapitalisation exercise, the industry stands on a good stead of enhancing its capacity and profitability. Ongoing merger and acquisition talks will build the capacity of the industry to participate in underwriting risks oil and Gas, maritime and aviation.

Gradual reform

Nigeria’s economic team, led by Finance Minister, Ngozi Okonjo-Iweala, enjoys an excellent reputation in the international community. The team produced an encouraging body of work during the last nine months, notably a financial year budget described as "prudent and responsible" by the IMF and a detailed economic reform blueprint, the National Economic Empowerment and Development Strategy (NEEDS).

Other positive developments during the past year included: government efforts to deregulate fuel prices; Nigeria’s participation in the Extractive Industry Transparency Initiative (EITI) and commitment to the G8 Anticorruption/Transparency Initiative; creation of an Economic and Financial Crimes Commission (EFCC); and development of several governmental offices to better monitor official revenues and expenditures.

During 2000 the government’s privatization program showed signs of life and real promise with successful turnover to the private sector of state-owned banks, fuel distribution companies, and cement plants.

However, the privatization process has slowed somewhat as the government confronts key parastatals such as the state telephone company NITEL and Nigerian Airways. The successful auction of GSM telecommunications licenses in January 2001 has encouraged investment in this vital sector.

Investment

Although Nigeria must grapple with its decaying infrastructure and a poor regulatory environment, the country possesses many positive attributes for carefully targeted investment and will expand as both a regional and international market player. Profitable niche markets outside the energy sector, like specialized telecommunication providers have developed under the government’s reform program.

There is a growing Nigerian consensus that foreign investment is essential to realizing Nigeria’s vast but squandered potential. Companies interested in long-term investment and joint ventures, especially those that use locally available raw materials, will find opportunities in the large national market. However, to improve prospects for success, potential investors must educate themselves extensively on local conditions and business practices, establish a local presence, and choose their partners carefully. The Nigerian Government is keenly aware that sustaining democratic principles, enhancing security for life and property, and rebuilding and maintaining infrastructure are necessary for the country to attract foreign investment.

External debt

Oil-rich Nigeria, long hobbled by political instability, corruption, inadequate infrastructure, and poor macroeconomic management, is undertaking some reforms under a new reform-minded administration. Nigeria’s former military rulers failed to diversify the economy away from its overdependence on the capital-intensive oil sector, which provides 20 percent of GDP, 95 percent of foreign exchange earnings, and about 65% of budgetary revenues.

The largely subsistence agricultural sector has failed to keep up with rapid population growth - Nigeria is Africa’s most populous country - and the country, once a large net exporter of food, now must import food.

Following the signing of an IMF stand-by agreement in August 2000, Nigeria received a debt-restructuring deal from the Paris Club and a $1 billion credit from the IMF, both contingents on economic reforms. Nigeria pulled out of its IMF program in April 2002, after failing to meet spending and exchange rate targets, making it ineligible for additional debt forgiveness from the Paris Club.

In the last year the government has begun showing the political will to implement the market-oriented reforms urged by the IMF, such as to modernize the banking system, to curb inflation by blocking excessive wage demands, and to resolve regional disputes over the distribution of earnings from the oil industry. I

n 2003, the government began deregulating fuel prices, announced the privatization of the country’s four oil refineries, and instituted the National Economic Empowerment Development Strategy, a domestically designed and run program modeled on the IMF’s Poverty Reduction and Growth Facility for fiscal and monetary management.

GDP rose strongly in 2005, based largely on increased oil exports and high global crude prices. In November 2005, Abuja won Paris Club approval for a historic debt-relief deal that by March 2006 should eliminate $30 billion worth of Nigeria’s total $37 billion external debt.

The deal first requires that Nigeria repay roughly $12 billion in arrears to its bilateral creditors. Nigeria would then be allowed to buy back its remaining debt stock at a discount. The deal also commits Nigeria to more intensified IMF reviews.

Source: http://www.businessdayonline.com/?c=53&a=6717