Energy & Mining
Currents of Change
COVID-19 and Low Oil Prices
COVID-19 has exposed economic vulnerabilities latent in many sectors and industries around the globe. In no sector has this become more apparent than in oil and gas. As the end of April 2020 saw oil prices go negative, OPEC, Russia, and other oil-producers again made another production cut, as producers faced a lack of room to store their goods. According to the latest, global oil producers will reduce total output by 10%, a cut of 9.7 million bpd of production—the largest ever.
As such, Nigeria will cut its oil production by 1.9 million bpd, reducing its daily crude oil production to 1.412 million barrels. Abuja still holds onto the hope that a price rebound will come—and with it, bring at least USD2.8 billion to the economy. But even with the rosiest picture, this seems unlikely.
Sadly, this is not the first time Nigeria’s oil and gas sector has brought the country close to economic ruin. Recent increases in the production of US shale oil hurt Nigerian exports, when it reduced US demand.
Security has also created an unstable oil production environment, with violent conflict with the armed groups in the Niger Delta leading to halts in production. In 2014, the country experienced another oil-price shock, leaving the government without a major source of its revenue and hitting the country’s foreign reserves hard, leading to an economic recession.
Thanks to Nigeria’s industry’s structure, it paints a different picture than other oil-producing countries, due to its reliance on the upstream market for its government revenue. Indeed, it is government revenue and foreign reserves that Nigeria loses when oil prices hit rock bottom, as opposed to actual GDP.
Oil and gas make up for around 9% of Nigeria’s GDP, this same contribution in other oil-producing nations is anywhere from 30 to 50%. Meanwhile, in Nigeria, the petroleum sector makes up around 80% of the federal government’s revenue and perhaps more importantly, 90% of its export earnings.
As such, it is from the upstream market that Nigeria sees the most benefit from its oil and gas reserves, mostly in the form of rent and exports. In contrast, the downstream sub-sector accounts for less than 1% of its GDP, while the government spends billions of naira on subsidies for imported refined-oil products.
As such, in the pre-COVID-19 world, in addition to diversification, the government encouraged investment in refineries by local players to increase midstream and downstream markets. With its Direct sale, Direct Purchase (DSDP) contract, Nigeria downstream producers could exchange crude oil for refined oils from European, Asian, and American markets, thus lessening the pressure on foreign exchange used for oil imports into the country.
The government even had its eye on turning flare gas into LPG through a gas commercialization scheme. The idea behind them all was the same: for Nigeria to grow its downstream market, reduce refined-oil imports, and reduce subsidies on refined-oil products.
However, more structural problems were of no secret to local producers. A major issue was finance: local players were in need of larger, international producers for capital to start producing, especially in offshore sites where more capital-intensive investments are needed. Only short-term funds were the local finance available to producers, with government leases having a two-year payment period, a period most small local producers struggle with.
Even for larger players, security was still an issue at many oil production sites. So even before COVID-19, Nigeria’s oil and gas industry was living from oil shock to oil shock.
Like many other oil producers, Nigeria’s government found itself in dire straits when COVID-19 decimated global demand. As of early May 2020, Nigerian government’s oil revenues have dropped by 80%. The government budget has since dropped by 15%, to USD33.8 billion. IMF has estimated that the country’s GDP will contract by 3.4% in 2020. Nigeria has since requested USD6.9 billion in funding from international lenders; the IMF has pledged USD3.4 billion in assistance thus far.
Even banks risk loan default from exposure to oil-related lending, according to Deputy Governor of the Central Bank’s Financial Systems Stability Directorate, Aishah Ahmad. The global industry’s tanking has also led to less investment by international companies, especially in upstream operations. Exxon Mobile has terminated jack-up contracts with Borr Drillin Ltd for Gerd and Groa offshore in Nigeria, which had contracts originally committed until April 2021 and May 2021, respectively.
As Nigeria starts easing its lock-down, it is unclear what remains in store for the country’s oil and gas industry, but it seems as though COVID-19 has uncovered already existing vulnerabilities inherent in a shaky system. While better oil prices in later months could help the country in the short-term, any future shocks could bring about the same outcome as today, with Nigeria looking to international creditors for bailouts to meet its budgetary needs.
The current distress the system is experiencing on a global scale shows that the imbalance between supply and demand is not only there, but hugely problematic for even the largest economies.
COVID-19 could be the real push that oil-reliant countries need to diversify into greener pastures, bringing about change not only for the planet but for national economies as well. According to a recent Oxford University study co-written by economist Joseph Stiglitz, projects on clean energy infrastructure are expected to create twice as many jobs as fossil fuel projects, while driving down costs of the clean energy transition. For Nigeria, this could mean exploiting the country’s solar resources in its north, 5% of which, according to estimates, could generate 42,700MW. Infrastructure for hydropower generation, another green energy the country is already using, could also be increased.
While it is clear that COVID-19 has brought hardship, it has also brought about greater solidarity in Nigeria’s business community, even with those hit worst by the crisis. Aliko Dangote, founder and chairman of Dangote Group, backed by Access Bank, Zenith Bank, Guaranty Trust Bank, and others, have come together to form the Coalition Against COVID-19, which will mobilize private sector resources to support public health facilities.
Even the NNPC and other oil players has pledged USD30 million to the Nigerian Centre for Disease Control in the health battle against the virus. And who knows? Perhaps this increased cooperation between local private sector players may be just what Nigeria needs to build a more stable and diversified economy that is not reliant on the whims of the global marketplace.