COVID-19 Pandemic and the likely consequences on the oil and gas sector on Nigeria: Any feasible options?
The World Health Organization (WHO) declared Covid-19 a Pandemic late January 2020 since its initial outbreak in China a month or so. In trying to contain the spread of the virus, various governments have implemented lockdowns in all or parts of their countries almost grinding economies to a halt. The oil price has dipped into record lows and the supply glut made worse by a row between Saudi Arabia and Russia over production output. Many producers in the US have closed shop while some countries like Nigeria are struggling to find buyers of their crude oil products. Attempts by OPEC and some countries (OPEC+) to lift the price with unprecedented production cuts has necessitated a revision of the 2020 budget calculations to 1,700,000 million barrels per day and benchmark price of US$30 per barrel. So far this has not yielded much change in the price as most analysts believe the effects of the Covid-19 will last a long time.
This paper does a non-exhaustive review of the Pandemic’s effects on government revenues, and provides immediate and long term options to manage some of the consequences. For instance, apart from the production cuts resulting from the OPEC+ agreement, we make suggestions such as government providing clear guidelines on downstream deregulation and fast tracking development of natural gas sector and use of bilateral trade instruments.
Since the Novel Coronavirus was discovered in Wuhan, China less than 6 months ago, Covid-19 (as called) has infected more than 3 million people, killed over 200,000 with 1,000,000+ recovered world-wide according to the John Hopkins COVID-19 dashboard (JHU, 2020). Attempts to contain the spread of the pandemic has resulted in nearly 50% lockdown of the world population including many states in Nigeria (Euronews, 2020). Industries are closed, airplanes grounded and transportation in many cities virtually at a standstill. Added to this tough effect of the pandemic on the crude oil supply chain was the spat between Saudi Arabia and Russia on production volumes.
While China claims that her businesses and industries are re-starting, many business sectors and factories have remained closed for nearly 2 months. This continues to push down world oil demand by roughly 30% and the Brent price to roughly US$29 per barrel as at April 13, 2020. This is despite OPEC+ (that is OPEC and some major producers like Russia) deal to reduce crude oil production to 9.7 million barrels per day (bpd) from May 1 and well into 2021 (Reuters, 2020). The deal also expects several other countries to reduce output as well, to achieve a total estimated cut of 19.5 million bpd. The Nigerian government has reacted by revising the 2020 budget estimates to 1.7 million barrels per day of production at US$30 per barrel in line with the proposed OPEC+ production cut proposal. Last week, key officers of the government announced a total withdrawal of government subsidies on petroleum products. Government is also providing palliatives to alleviate the economic effects of the lockdown on the citizens one of which is a N50 billion intervention fund for small and medium scale business loans.
This paper gives a non-exhaustive review of the effects of the lockdown, the crashing oil price and their consequences on the Nigerian oil and gas industry. It will also attempt to provide some suggestions to the Nigerian government on policy decisions to help the sector in the short and longer term.
2. Consequences of the pandemic and crashing oil prices
a) Supply glut and dwindling government revenues
World oil demand averaged a growth of about 1 million barrels of oil equivalent per day (MBOE/day) between 1971 and 2019 with various sharp rises and falls in oil price, the latest before now being between 2014 and 2016. Oil is Nigeria’s top foreign exchange earner and contributes nearly 90% in revenues to the government. As one of the leading producers (number 4 within the OPEC group and 11th in the world), Nigeria has both benefited and felt the adverse effects of these oil price cycles. Substantial savings where made into the Excess Crude Account (ECA) during surplus which stands at only about US$71 million today (Daily Trust Newspaper, 2020). The country now faces not just a direct loss of revenue from oil that will lead the country into a recession, it may also be forced to another devaluation of the Naira as it runs out of foreign cash reserves. The lockdown will also impact negatively in the projected earnings from local taxes set for the Federal Inland Revenue Service (FIRS) as businesses citizens will be on lockdown for most of March and April.
Figure 1: Oil price fluctuation since 1970 (Kumar & Bello, 2020)
Nigeria and the rest of the world are yet to fully recover from the effects of the 2014 fall in prices. With the advent of this current downfall, the world is facing a supply glut of about 2.5 MBOE/day due also to disagreements between Saudi Arabia and Russia driving prices to nearly as low as US$20. The intended price gains from the OPEC+ production cuts (with effect from May 1, 2020) have at best, so far, sent prices to US$34 appx. only for a short span. The Nigerian Minister of State for Petroleum expects prices will appreciate by US$15 in the short term potentially yielding US2.8 billion additional revenues (Punch Newspaper, 2020). However analysts suggest a price in the sub US$20s is more likely, if inventories eventually surpass 12 MBOE/day as refineries, plants remain shut; world runs out of excess storage capacity; and world economies take a long time to restart. Many analysts say the OPEC+ cut is late in coming and not deep enough and are skeptical of the discipline of the countries to adhere to the production cuts. Industry veterans such as Andrew Gould (former Chairman of Schlumberger and BG) feels this period will see the end of the influence of OPEC as a central bank of oil and prices reaching to much higher levels as seen in the past decades, gone (Financial Times, 2020).
Figure 2: World Fuels Production and Consumption (EIA, 2020)
Figure 3: World Oil demand growth by Region 2020 (OPEC, 2020)
The Nigerian oil & gas sector has had its own fair share of challenges and seen a few reforms though not as many nor as deep as been clamored for. The Nigeria government’s expectations of a US$2.8 billion export surplus may not be realistic given the situation and trend. As of March, NNPC reported that Nigeria had 50 cargoes of crude oil yet to find off-takers due to the pandemic. On April 16, referring to the glut, World Oil magazine reported that “…It’s a similar picture in West Africa, where about 20 million barrels of April-loading crude remain unsold, according to traders” (World Oil, 2020).
b) Job losses
Finally, a fallout of most oil price crashes for many producing countries are the associated job losses mainly due to cut back of projects. However, the Finance Minister stated that the federal government intends to keep most jobs in place till year end 2020 and is looking to merge the duplicated functions across its many agencies. This is laudable though it will be interesting to see how they can manage retentions given the high cost of governance and public administration in the country. On the private sector side, majority of the headcount particularly in the oil field services fall within the fast-disappearing middle class. This is a group already adversely affected by mass migration to foreign lands. The global effect stands to impact the level of remittances into the country as the migrants in different countries will struggle to stay on their feet before thinking of what to send home. In recent times, foreign remittances have almost been at the same levels of the revenue from crude oil export.
c) The unlikely positives of Covid-19 thus far
The lockdown restrictions announced by various countries in trying to either contain or suppress the effects of the spread of Covid-19 has resulted in reduced movements of people and closedown of factories. Charts show that Covid-19 has made the world quiet, not only by social distancing but also seismically. Scientists are now studying these charts of world’s “quietest” period to see if they can help to predict and manage movements of people in future crises (National Geographic, 2020).
Another positive consequence is that many parts of the world have recorded drastic falls in air pollution including lower carbon and nitrogen oxide emission levels. Carbon emission in China was down by an estimated 18% between March and April 2020 while the total drop in the EU by year end may reach 400 million metric tons, about 9% of its 2020 cumulative target (National Geographic, 2020). Many residents of Lagos have even jokingly commented they never realized it was home to as many birds as they now hear at dawn. However experts have warned that the benefits of these drops in air pollution may add little to the long term solution for climate change. Other experts argue that less pollution is always good for the environment. The situation does offer government the opportunity for more urgent reviews of workday patterns in some of our crowded cities to reduce pollution. There are now many alternatives for remote engagements offered by new digital technologies.
3. What are government’s feasible options for the oil & gas sector?
In addition to the actions taken by government, below are some immediate and longer term suggestions that it may pursue to protect the sector and maintain its contributions to the country’s economic development.
a) Pragmatism, consistency and transparency in intentions and actions
Many Presidents and countries have likened this pandemic to a war. If indeed it is to be treated as a war, the need for discipline, frugality and transparency in actions and spending is now more apparent and urgently called for. Messages going out from government at these times must be consistent and sincere to reaffirm public trust. In one news report, the NNPC GMD said they are working to increase crude oil production to 3 million barrels per day, reducing the cost per barrel to US$17 yet said there were still 50 cargoes of crude stock looking for landing (The Guardian Newspaper, 2020). Plans to increase production, if indeed they exist, must be reviewed cautiously. The economic slowdown will last not a short time hence efforts into growing production should be channeled into other areas. Government, her agencies including the legislature must avoid hasty yet unnecessarily delayed and unclear directives. The intent to promote made-in-Nigeria goods must be exemplified by the same people in government who advocate for it. This is a time for practicing what you preach. There is still a lot of waste in process hurdles and bureaucracy in the oil & gas sector which create room for corruption. It is worth noting that there have been positive changes in recent years, however, in extraordinary circumstances as we are currently experiencing, are opportunities for few people to unlawfully enrich themselves. This must be avoided.
b) Deregulation of the downstream and removal of petroleum subsidies
Two pronouncements made by the NNPC Group Management Director and the Hon. Minister of Finance respectively stated that all subsidies towards the pump price of fuel have been removed. About 99% of petroleum products are imported by the NNPC and consumer price determined by the Petroleum Product Pricing Regulatory Authority (PPPRA). In March, government reduced the petrol prices as a fallout of the oil price crash, first to N125 then to N123.50 from N145. The PPPRA pricing template released in March 2020 showed the Landing Cost was N115.52 while the Expected Open Market Price (EOMP) was N134.89 after adding Total Distribution Margins of N19.37 (PPPRA, 2020). The PPPRA reconfirmed N123.50 and N125 as the petrol pricing range for April (PPPRA, 2020). So far government has not made clear if the subsidy removal is a policy change. Comparing the prices in the released pricing template with the recommended pump prices, there is difference of N9.89 between the EOMP and the N125 upper boundary price. It is unclear who is incurring this cost. Does this imply the existence of a subsidy for the month of April? While subsidy removal is a welcome move by the government, it is better if clarity is provided on the details and how it intends to reallocate or redirect the savings (if any). As at today, only 1 of the 27 active approved licenses for refineries is operational (DPR, 2018). In addition, the proposed start date of early 2021 for the Dangote Refinery may be at risk given the current state of things. This is a good opportunity to begin the much needed deregulation of this section of the downstream to improve the local refining capacity in Nigeria. It will speed up investment and commitments by investors once they know the ready local market for their products is available to compete for. And there is still the regional market to expand into for them. A clear policy direction on the subsidy and deregulation is required.
c) Reviewing costs of oil production
A 2016 analysis of costs of production per barrel estimates Nigeria’s average cost of production at about US$29 barrel of oil equivalent with a huge component being the capital spend. The NNPC Managing Director in a Central Bank round table said the organization is putting actions in place to bring down the production costs from US$15-17 per barrel (The Guardian Newspaper, 2020). He did not reveal what those actions are. The Finance Minister in another interview mentioned US$25 as the average cost per barrel for Nigeria currently. Putting aside the contradiction between the two statements there is still a challenge towards achieving a reduction in production costs that will yield an immediate export surplus. Need for huge security expenditure and unclear taxation structure at various stages and levels drive the production costs up. Some of these were intended to be addressed by the Petroleum Industry Governance Bill (PIGB) now at a stalemate between the presidency and the legislature. There are unconfirmed reports that operating companies had been hastily directed to cut their 2020 budgets by 40% as far back as early March 2020. While a 100% compliance may be not be easily achieved but any reasonable reductions will help. Hasty decisions often hurt. A downside will be cuts affecting operating expenditure leading to loss of jobs and of course taxes. Companies, regulators (NAPIMS, DPR) and investors must be pragmatic in the technical and business selection of projects they will chose to execute and assume near zero margins for error. Targeting low cost producing fields and those wells that require minimal intervention to flow and with minimal security risk is advised. Use of highly competent skills and tight governance systems to reduce error margins in decisions and protect leakages is a must at this time. Many of the indigenous producers are already quite leveraged and this is also an opportunity to encourage them into forms of consolidation by the government.
Figure 4: Cost of BOE of Countries (Knoema, 2016)
d) Economic diversification and improved GDP contribution from oil & gas
The present government has made expansion and diversification of the economy from oil production one of its top priorities. Nigeria’s contribution of oil to gross domestic product (GDP) is much lower compared to other OPEC members and is only less than 10% (NBS, Q1 2019). While attempts to diversify the economy must be encouraged, the oil and gas sector can still be the catalyst for the growth of other sectors particularly industrial manufacturing and power generation. GDP contribution from oil remain low for many reasons but mostly due to the fact that most of the oil is exported while only 15-20% is traded and used locally. In addition majority of the top producers are all International Oil Companies (IOCs) hence an average of 40% of the revenues and proceeds from sales is external based. Between the local producers total daily production may not be not more than 200,000 barrels per day, another challenge going forward with tightening of budgets and disappearing access to the levels of cash investments the oil industry demands. Domestic cooking gas utilization is reported to be less than 40% across the country. The local content act of 2010 encouraged domestication of some services but there is still a long way to go. The Nigerian Gas Policy of 2017 was another welcome development and has seen the progress of some projects such as the Assa North-Ohaji South (ANOH) joint venture between the Nigerian Gas Company and Seplat. The NNPC must push the drive towards increased domestic gas market expansion and utilization. This will also reduce gas flaring and promote use of cleaner energy resource. If possible, NNPC should seek to progress the 614km Ajaokuta-Kaduna-Kano gas pipeline (part of the Trans Sahara Gas Pipeline Project) without additional burden on the country. This is a good time for the presidency to get all other stakeholders including the legislative houses to collectively review their concerns on the PIGB with a view towards passing it into law. Post Covid-19, access to investment capital from both internal and foreign sources will be very limited and more selective than before. Carrying on the uncertainty created by the PIGB impasse will not be to Nigeria’s benefit.
e) Review of existing bilateral trade agreements and opportunities for new ones:
While many of the trade agreements signed by Nigeria with other countries had been intended to promote export of other products other than oil, the truth is that crude oil continued to dominate exports to these countries and regions (Business Day, 2020). Now is the time to effectively use these agreements for the purposes of promoting the sale of Nigeria’s oil till the other sectors are ready. Trade of much needed medical equipment and medicines in exchange of crude oil should be explored. Unless government is able to secure agreements through bilateral discussions with its top trading partners, the challenge of finding ready off-takers of export crude cargoes may continue. Interestingly most of Nigeria’s top trading countries are some of the countries heavily affected by the Covid-19 pandemic and its economic consequences. These include China, India, United States of America, Spain, Netherlands, Belgium, Germany, United Kingdom and Italy. Nigeria’s core oil & gas sector activities may still be in a better position than most if the suppression strategies to “flatten the infection curve” remain successful by the time economic activities in these countries restart, overstock conditions notwithstanding.
f) Secure current production and facilities we have
At the moment it is difficult to estimate how much world market share Nigeria is able to secure for the rest of 2020. However adequate arrangements must be in place to contain the effects of Covid-19 and potential security challenges to avoid unplanned interruptions in production. More sincere efforts have to be made to curb the illegal bunkering and refining in the country as well as reduce the occasions of oil spills. Production facilities are prone to security attacks when oil communities become restive due to prolonged economic discomforts as these times. There should be Covid-19 testing centers well equipped with kits and PPEs as close as possible to the oil terminals and clear logistic agreements for evacuations with all stakeholders involved.
Covid-19 pandemic continues to ravage the health and welfare of countries and their citizens. The slowdown in economic life has affected all sectors including a drastic fall in the world price of Nigeria’s primary export, crude oil. The government has adjusted it 2020 budgets with the hope that a deal between OPEC and other producing countries to cut production will sure up the price. However prices have not reacted as expected. Oil stock inventories continue to grow due to lockdowns across major buying countries.
This paper has reviewed direct consequences of the pandemic and the oil price crash and provided additional strategies to those steps taken by government to withstand the impact on the sector. It makes suggestions for policy reviews on topics like petrol subsidies and pursuit for focused bilateral discussions with trade partners.
Nigeria like the rest of the world is in a war with an unseen enemy. It is also in a race, with the rest of the world. A race that her antecedents have made her badly equipped to run. However, history has proven that necessity is the mother of many good inventions.
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