Monthly Economic News and Views1 at Lagos Business School Executive Breakfast Meeting July 4, 2012 Presented by B.J. Rewane Financial Derivatives Company Limited It’s the Economy, stupid - James Carville Declining Oil Prices – A threat to macroeconomic stability Financial Derivatives Company Limited Outline Burning Issues in June Global Update and Implications Leading Economic Indicators Policy Update Markets and Business Proxies Political Review Outlook 3 Financial Derivatives Company Limited Burning Issues in June 4 Oil price decline continues dipping by 5% in June Year to date Bonny Light has shed 29% or $35 from its peak of $130pb The impact on revenue for Nigeria is magnified In April oil revenue declined 7.1% to $4.72bn Net inflow of forex also dropped sharply to $1.49bn Financial Derivatives Company Limited Burning Issues in June 5 Naira under speculative attack, forex sales for June up to $2.75bn Forex revenue decline partially offset by U.S. dollar appreciation The U.S. dollar has gained over 5.97% against the basket of world currencies in the last quarter External reserves down marginally to $36.6bn Financial Derivatives Company Limited Burning Issues in June 6 Marginal increase in money supply (M2) growth of 2.24% month-on-month When annualized, there has been a decline in M2 growth of 0.74% CBN mopping up and forex sales is keeping a lid on M2 Cashless Lagos- mild impact on consumption patterns and behaviour Financial Derivatives Company Limited Burning Issues in June 7 New Visa-at-Destination rules for international investors to Nigeria announced Fiscal balance threatened by potential decline in revenue and an inelastic expenditure profile N2.1trn spent so far on fuel subsidy representing 47% of 2012 budget Clearly an unsustainable item of expenditure Financial Derivatives Company Limited 8 Global Update World economy still on the ropes Financial Derivatives Company Limited Global Update - World Economy Still on the Ropes 9 According to Bank of America Emerging markets that initially appeared relatively unscathed by the E.U. crisis are now catching the cold Plunging oil prices and downward revisions to growth projections are generating a negative market sentiment OPEC cartel is trying hard to hold the line, especially with Saudi as a swing producer The IMF reduced its forecast for U.S. growth this year by 0.1% to 2% Financial Derivatives Company Limited Global Update - World Economy Still on the Ropes 10 It cites concerns about the Euro crisis and failure of politicians to reach an agreement on tax and spending plans U.S. factory orders shrank in June according to the Institute of Supply and Management The first time since July 2009 Exports fell and new orders which gauge future factory activity dropped Financial Derivatives Company Limited Global Update - World Economy Still on the Ropes 11 Strongest evidence that slowing Chinese growth is hurting the U.S. economy The good news is that the pump price of petrol is now closer to $3 per gallon Down 15% since April 2012 The E.U. is finally coming to grips with cobbling together a monetary union and fiscal responsibility Financial Derivatives Company Limited Global Update - World Economy Still on the Ropes 12 There is plenty of work left to be done with some more pain before gain Euro-zone unemployment climbed to 11.1% Especially bad, is Spain with 24.6% and 21.9% in Greece Purchasing Managers Index is down to 45.1 as most economies are contracting while others are reporting flat output Financial Derivatives Company Limited Global Update - Emerging Markets Catching the Flu 13 Private consumption growth in rich countries is being undermined by deleveraging And policy is providing little support China’s investment-led economic model has resulted in an unprecedented boom in steel production India reported a record current account deficit for Q1’12 of $21.7bn Up from $6.3bn a year earlier The Indian Rupee has declined by 21% in 2012 Financial Derivatives Company Limited Sub-Saharan Africa – Oil price dip is a relief 15 Kenyan inflation dipped to a 15 month low of 10% in June Food prices fell by 1.9% A fifth consecutive decline Fall in oil prices lead to a 0.35% decline in local fuel prices Ghana reported a real GDP growth rate of 8.7% in Q1’12 Financial Derivatives Company Limited Sub-Saharan Africa – Oil price dip is a relief 16 Growth had slackened since 2011 after oil production commenced Oil production from the Jubilee Field had declined from 78,000bpd to 70,000bpd Optimists had projected that the field could produce 120,000bpd Financial services expanded by 13.9%, personal services was up 88.2% while trade declined by (19.3%) Financial Derivatives Company Limited Sub-Saharan Africa – Oil price dip is a relief 17 Poor performance in services and agriculture with high labour intensity has serious unemployment consequences. Youth unemployment in Ghana is at 25.6% compared to Nigeria’s 23.9%. Ghana is requiring that all foreigners must deposit $300,000 before being allowed to own shops in the markets. They must also employ a minimum of 10 people. Financial Derivatives Company Limited Implications for Nigeria 18 Sharp fall in oil price is having a magnified impact on fiscal revenues and widening the deficit to above 3% of GDP. The appreciation of the U.S Dollar is forcing a gradual slide in Nigeria’s terms of trade From 113.6 to 105 in 2012. The oil price decline and the currency impact has reduced Nigeria’s share of world exports from 0.63% to 0.58%. China now controls 17.5% of Nigeria imports, U.S. 9.1% and India 4.7% Financial Derivatives Company Limited Oil Price and Revenue Decline Threat to macroeconomic stability 19 The correlation between oil price and forex revenue remains positive, holding production constant. The economy is highly vulnerable to oil price shocks A $1 decline in oil price has 0.8% impact on revenue Expressed as FR = 5.28 - 0.0125*P where FR = Forex inflow, P = Oil price (Bonny) If oil price averaged $90pb in July Total revenue will be $2.47bn from $3.24bn in April when prices were $118pb Financial Derivatives Company Limited Oil Price and Revenue Decline Threat to macroeconomic stability 20 The relationship between oil price and external reserves accretion was positive with the model: ER= 29.12 + 0.031*P. where ER = External Reserves, P = Oil price (Bonny) i.e. external reserves would decline by 0.1% for a $1 drop in oil price If oil price falls to $90pb, external reserves should decline to $29.98bn from current $36.77bn Financial Derivatives Company Limited Oil Price and Revenue Decline Threat to macroeconomic stability 21 The effect of oil price on exchange rate was positive and the model was: Exchange Rate = 152.18+0.07*Oil price. i.e. for a $1 decline in oil price, the naira would depreciate by 0.8%. This implies the naira will come under pressure. Financial Derivatives Company Limited Oil Price and Revenue Decline Threat to macroeconomic stability 22 Our research shows a negative correlation between Nigeria’s inflation and exchange rate with the model: ERa = 170.19 - 0.93*In. where ERa = exchange rate, In = inflation rate This means, for a 1% rise in inflation, the naira would depreciate by 0.41% Assume inflation rises to 14.5% The naira could depreciate to N157.99/$1 in the official market and N165.95/$1 at the parallel market. Financial Derivatives Company Limited 23 Policy Developments Subsidy Removal!! Not how much, but when? Financial Derivatives Company Limited Policy Update 24 Brace up for adjustment at 3 levels - Monetary, fiscal & structural When oil prices fall below $100pb- monetary policy adjustment Limited interest rate increases A depreciation in the official rate of exchange from N156 towards N160/$1 Interbank and street rates down to N165 -170/$1 Financial Derivatives Company Limited Policy Update 25 If oil prices fall below $90pb, fiscal adjustment kicks in Deferring some capital expenditure items Trimming the recurrent expenditure and cutting waste Removal of subsidy Increase in excise taxes and some import duties If oil prices fall below $80pb, expect structural adjustments which will include Increased borrowing – external and internal Tinkering with exchange control regulations Currency devaluation etc Financial Derivatives Company Limited 26 Leading Economic Indicators Mixed but positive Financial Derivatives Company Limited Leading Economic Indicators Indicators Apr’12 May’12 June’12 Apr/Jun (%) Oil Markets Spot price ( end of month) 118.85 103.85 99.31 16.44 Spot price (avg $’pb) 119.96 110.67 95.81 20.13 Production (mbpd) 2.18 2.13 - - Money Markets (End Period) OBB (%)p.a 11.38 11.58 14.54 316bps Overnight (%)p.a 11.83 12.17 15.08 325bps MPR (%)p.a 12.00 12.00 12.00 - T-Bill Rate(%)p.a 13.85 13.50 14.19 34bps CPI ( %) 12.90 12.70 - - External Reserves ($’bn) 36.48 37.68 36.77 0.79 Market Capt 7,030.48 7,037.23 6,895.29 1.92 Exchange rate (End Period) Official (N/$) 155.69 155.75 155.90 0.13 Inter-bank (N/$) 157.66 159.65 162.50 3.07 Parallel (N/$) 159.00 162.00 164.50 3.46 Financial Derivatives Company Limited 28 Leading Economic Indicators 29 Oil price decline continued in June Oil production flat at an average of 2.1mbpd Inflation eased to 12.7% in May Money supply growth still subdued at 2.24% m-o-m in May Year to date, M2 declined by 0.74% to N13.6trn Interests rate are still high and above inflation rate, Real interest rates are positive at 2%-3% p.a.