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Nigeria: Fuel Subsidy Removal Achieving the optimal solution December15,2011 bypatricko.okigboiiianddilienekebe The debate over the removal of the subsidy on petroleum products is not about its effectiveness(asaninterventionprogram)oritssustainability(amongotherconflicting
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Nigeria: Fuel Subsidy Removal Achieving the optimal solution December15,2011 bypatricko.okigboiiianddilienekebe The debate over the removal of the subsidy on petroleum products is not about its effectiveness(asaninterventionprogram)oritssustainability(amongotherconflicting economic demands). Rather, it is about the credibility the Nigerian government lacks anditshistoricalfailuretodeliveronitspromises.thepurposeofthisdocumentisto provide an independent review of the key issues involved in the debate and to recommendanoptimalsolution.thisdocumentisintendedforindustrystakeholders, decisionmakers,andpolicyanalystsasapointofreferenceduringtheongoingdebates. ISSUE STATEMENT Should the Federal Government remove the subsidyonpetroleumproducts? BACKGROUND Nigeria s economy is still in crisis. 72%oftheproposed2012budgetwillbespentonrecurrentexpenditurewithless than30%spentonpotentiallyrevenuegeneratingcapitalprojects. Governmentbureaucracyisamajorconstraintontheeconomy.Thereareover400 federalparastatalsandagencieswithoverlappingrolesresultingininefficiencies andmisappropriations.about25%ofthefederalgovernment s2011recurrent expenditurewasspentonthesalariesandallowancesofthenationalassembly. i Over60%ofNigerianslivebelowthepovertyline.80%ofNigeriansbetween18 35 yearsareunemployed(64million) ii.lowerunemploymentnumberstriggeredthe 2011ArabSpring. Nigeria cannot sustain the subsidy on petroleum products. AboutN1.3trillionwasspentonfuelsubsidyin2011.Thisamountisequalto171% ofthecombinedallocationtoeducation,health,andagricultureinthe2012budget. Nigeria seconomy cannotsustainthe fuelsubsidy. Mostpunditsargue foranalternative solution. Theunderlyingissueis thatnigerianslack confidenceinthe government. Theargumentsforand againsttheremovalof thesubsidyhave meritsanddemerits. Theoptimalresolution demandsspecific, measurable,and visiblecommitments fromthegovernment. i SanusiLamidoSanusi, TheFutureofNigeria'sEconomy speechdeliveredatthe8 th ConvocationceremonyofIgbinedionUniversity,EdoState. ii AwogbenleC.andIwuamadiC.(2010) YouthUnemployment:Entrepreneurshipdevelopmentasaninterventionmechanism AfricanJournalof BusinessManagement.Vol.4(6) Page1of Fuelsubsidyexpensesfor2011constituteabout27%oftheaggregate expenditureproposedforthe2012fiscalyear(n4.749trillion). Many Nigerians argue that the fuel subsidy is the only tangible benefit from the country s oil wealth that is accrued to the masses. Giventheinefficienciesinthesectorandallegedrent seekingactivitiesof importersandmiddlemen,asignificantportionofthefuelsubsidiesdoesnot reachtheendcustomer(poornigerians). Researchshowsthatsubsidyfavourstherich(whoowncarsandgenerators)not themasses. STATEMENTOFINTENT Nextier sinterestinthe fuelsubsidydebateisto provideareviewofthe keypointsandtoensure apareto efficient solutionisachieved. Nigeria is mortgaging the future of tomorrow s generation. Nigeria s current sources of crude oil are estimated to run out before 2050, yet no substantial investments have been made in the non-oil sectors. Unilateral removal of the subsidy - without adequate consultations - will be seen as a direct affront to ordinary Nigerians and could trigger mass retaliation. HISTORICAL REVIEW Allgovernmentssince1978havesteadilyincreasedthepriceofalitreofPremium MotorSpirit(PMS)from8kobo(1978)tothecurrentN65(2009).Theargumentsfor removingthesubsidyonpetroleumproductshavebeenlargelythesameirrespective ofthegovernment;yet,theexpectedimprovementinthewelfareofthepeoplehas notbeenachieved. Overthesameperiod,nationalpovertylevelincreasedfrom28%(in1980)to64.4% (in2009).concurrently,compoundedannualgrowthrateoffuelpriceshasbeen 23.29% iii whilegdpatconstantpricesincreasedbyonly3.99%.besidesthedata, Nigeriansfeelthattheireconomicsituationhasworsenedwitheachpassingyearas fuelpriceshavesteadilyincreaseddespitepromisesthatsubsidyremovalsavingswill bechannelledtowardseconomicdevelopment. THE ARGUMENTS Thedebateontheremovaloffuelsubsidyhasmeritwithmanystakeholders.Most commentatorsagreethatthesubsidyburdenisgrowingandcannotbesustainedin itscurrentformwhileothersbelievethatsubsidyisafallacy iv.whateveroptionis adopted(subsidyremovalornot),theeconomicimpactonthepoorneedstobe alleviated.thefundamentalissuestillremainsthatnigeriansdoubttheir governmentcandeliverthepromisedimprovementsinlivingstandardsevenwitha removalofthefuelsubsidy. Arguments for Removal of the Fuel Subsidy Fuelpricemovementin Nigeria( ) Dates N Sep.30, Oct.01, Apr.20, Mar.31, Apr.10, Jan.01, Dec.19, Mar.06, Nov.08, Nov.22, Oct.02, Oct.04, Dec.20, Jan.06, Jun.01, Jun.08, Jun.13, Jan.01, Jun.23, Jun AnnualsavingsofaboutN1.3trillioncanbeachievedandappliedto infrastructuredevelopmentand/orprovisionofsocialsafetynetprograms. Propertargetingofpro poorprogramscanbeachieved.thisiscurrentlynot attainedwiththefuelsubsidiesasmostofthebenefitsaccruetoproduct importersandmiddlemen. iii CalculatedusingWorldEconomicOutlookandIMFdataasreportedinwww.econstats.com iv Nwachukwu,M.U,andChike,H.(2011), FuelSubsidyinNigeria:FactorFallacy.Energy36(2011)pp Page2of Subsidiesdeterinvestmentsinpetroleumproductrefineries.Thissituation perpetuatesthedependenceonimportedpetroleumproducts. Removalofsubsidieswillencouragecompetitionwhichwillinturnreduce inefficienciesinthepetroleumproductvaluechain,discouragewasteful consumption,cross bordersmuggling,shortages,blackmarketsales,and adulterationoflowersubsidizedfuelswithhighersubsidizedfuels. Thiswillalsoalleviatethepressureonforeignexchangeusedtoimportthe product Arguments against the Removal of the Fuel Subsidy FuelsubsidyistheonlybenefitNigerianmassesgetfromthecountry srich crudeoilendowment. Subsidyremoval,withoutappropriateinvestmentofthesavings,willresultin increasednationalpovertylevels v Anabruptincreaseingeneralpricelevelswillresultinanoveralldeclinein livingstandards. Anincreasedcostoffuelwilladverselyaffectallaspectsoflifewiththe harshestimpactonthepoor Commercewillbenegativelyaffectedbytheincreaseintransportationcost andthefinalcostofgoodsandservices. Ageneralincreaseinthecostofdoingbusinesswillbeinevitable. CostofgoodsproducedinNigeriawillbemuchhigherthanimportedgoods. Consequently,consumerswillfavourcheaperimportedfoodsoverthe alreadylimitedlocallymanufacturedproducts. Fortheagriculturesector,thecostoftransportingproducetothemarket (whichisincurredbythefarmers)willalsoincreaseleadingtoanincreasein produceprices. Allinall,continuedincreasesinfuelpriceswilldiscourageordinaryNigerians fromcommerceduetothehighcostofconductingbusiness. Removalofthesubsidywillnotrestoresupply demandequilibrium;aspast upwardspricereviewsfailedcausingthegovernmenttolosecredibility. ECONOMICS OF FUEL SUBSIDY AccordingtoresearchbyBirol,F.etal(1995) vi ontheimpactofsubsidyphaseout inalgeria,iran,andnigeria,subsidy irrespectiveofwhetheritisgiventothe consumer(atthepump)ortotheproducer(refineries)adverselyaffectsthe economy.subsidizedenergymarketsultimatelyworkagainstthegoalof promotingeconomicdevelopment. Subsidiesgiventoconsumersresultinexcessivedomesticdemand,which reducestheamountofcrudeoilforexport,therebydecreasingtheforeign exchangerevenueneededtoinvestintheeconomy. Subsidiesgiventotheproducers(refineries)resultsinexcessivesupplyand depletionofresources(crudeoil,whichisoftenthemainrevenueearnerfor thecountry). Subsidiesgiverisetodebtaccumulationwhichresultsfromadepletionon governmentresourcesbecauseoflowerexportearningsandrevenuespent onsubsidieswhichleadtofiscaldeficits!#!%#!$#! # +,# +(# +)# -# *(# &'(#&')# & # &$(# &$)# &# Energysubsidiesinanoil exportingcountry Ifsubsidyisintroducedfor consumers: Domesticprice(Ps)willbe belowworldprice(pw) Domesticproduction(Qs1) willremainstablewithan increaseindomestic consumption,qd2 Quantityavailablefor exportwilldropfromx1to X2reducingpotential exportearnings Ifsubsidyisintroducedfor producers(localrefineries) Supplycurveshiftstothe rightfroms1tos2and productionincreasesto Qs2 Quantityexportedwill increasetox3while domesticconsumption remainunchanged Longrunexportcapacity willdecrease *)# v Nwafor,M.etal(2006),DoesSubsidyRemovalHurtthePoor?,SISERAWorkingPaperSeries vi Birol,F.etal(1995),TheEconomicImpactofSubsidyPhaseOutinOilExportingDevelopingCountries:ACaseStudyofAlgeria,Iran,andNigeria, EnergyPolicy,Vol.23,No.3pp Page3of SOLUTION OPTIONS OPTION 1: Government should proceed - as indicated by the President in the 2012 budget - to remove the subsidy without further consultations. Pros: ImmediatesavingsofN1.3trillionthatcanbeinvestedinothersectorsofthe economy. Governmentwillachievetheotherbenefitsoutlinedaboveinthe Argumentsfor RemovalofFuelSubsidy. PresidentGoodluckJonathanwillbeseenasanenforcerandabletoimplement controversialreformprograms.thisimagewillbeimportantforthecontentious policiesnigeriawillneedtoaddressinthenearfuture. Cons Unilateralandabruptremovalofthesubsidycouldbethetriggerfornationwide politicalunrestwithfar reachingconsequences. ContraveningforceswillbeemboldenediftheAdministrationconcedesitsposition indicatedintheproposed2012budget. OPTION 2: Government concedes on this issue and continue to fund the fuel subsidy. Pros ThemasseswillseetheJonathangovernmentasresponsivetotheirconcerns. Governmentwillavertapotentialpoliticalcrisis. Cons Theeconomywillgraduallygrindtoahalt,asNigeriacannotaffordthecurrentlevel offuelsubsidy. Nigerianswillviewthisasgovernmentpolitickingwithacriticalgovernanceissue. Thiswillpotentiallydepleteanypoliticalgoodwillthatmayexist. PresidentGoodluckJonathanwillbeperceivedasineffectiveindrivingareform agenda. OPTION 3: Government should phase out the subsidy after agreement is reached on the projects to fund with the subsidy savings and how performance on the projects will be measured. Pros PresidentGoodluckJonathanwillbeviewedasabenevolentleaderintouchwith thestrugglesofnigeriansaswellasrecognisedasaneffective changemanager by carryingthenationalongthroughthepainsofreform. Governmentwillgainthetrustofthepeople,whichisrequiredtodrivethe TransformationAgenda. Thereisahighprobabilityofsuccesswiththeprojects. Con Nigeriawillcontinuetolosemoneyfundingthefuelsubsidyduringthenegotiation andprogrammetransition/phaseoutperiod. OPTIONS: [1]Removethesubsidy. [2]Retainthesubsidy. [3]Buildtrustandphase outthesubsidy. Thedebateisall abouttrust. Page4of CASE STUDY Ghana In2004,whenitbecameclearthatworldoilpriceswouldremainhighandthat Ghanacouldnotsustainitsfuelsubsidypolicyformuchlonger,thegovernment decidedtomakeathirdattemptatremovingthefuelsubsidies.thefirsttwo attemptshitthepoorthehardestdespiteeffortstocross subsidizeother programstargetedatthepoor. Thegovernmentlaunchedapovertyandsocialimpactassessment(PSIA)study in2004.thestudyquantifiedtheextenttowhichghana srichbenefitedmore fromthesubsidiesthanthepoorandmadethecaseforliberalisingfuelprices. Thereportwasmadepublicanddebatedbyallstakeholders.ByFebruary2005, whenthegovernmentannounceditsplantoincreasefuelpricesby50%,most ofthepublicwasconvincedthatfuelsubsidieswerenotsustainable. Thegovernmentstillneededtoprovethatithadplanstoalleviatethesufferings ofthepoorandasaresultinitiatedanumberofpro poorprograms.these programsweretransparent,easilymonitoredandtrackedbythepublic.the governmentneededaprogramthateveryonecouldrefertoasaresultofthe subsidyremoval.itimmediatelyeliminatedfeesatallgovernment runprimary andjuniorsecondaryschools,andalsomadevisibleimprovementstothepublic transportsystem.whiletradeunionsremainedopposedtotheincrease,the publicgenerallyacceptedthembecausetheycouldattributetangible improvementstotheremovalofsubsidies;asaresult,therewerenolarge scale demonstrations. Thediscussionswereopenandallinclusivewhiletheprogramsprogresswas visibleandmeasurablebythepubliccouldtrackprogressonthem. Source:ESMAP(EnergySectorManagementAssistanceProgramme) CopingwithHigherFuelPrices RECOMMENDATION ThegovernmentoftheFederalRepublicofNigeriashouldremovethefuelsubsidy becausetheeconomycannolongersupportit.thefuelsubsidyconstitutesamajor constrainttotheeconomicdevelopmentofthecountry.however,theremovalshould beinphasesandshouldcommenceonlyafterthegovernmenthasidentifiedtangible andmeasurablealternatives.unilateralremovalwillleadtopoliticalconsequencesthat maybetoocostlyfornigeriatohandlegiventheprecarioussecuritysituationandthe socio economicandpoliticalfaultlinesthatcontinuetoappearacrossthecountry. TheGovernment ssubsidyremovalstrategyshouldbeguidedbythefollowing: 1. Provideirrefutableproofthatsubsidiesbenefitmainlythewell offandnotthe poorforwhomitisintended; 2. Demonstrateitscommitmenttopluggingotherpointsofleakageand misappropriationsinthesystem. 3. Applysavingsfromthesubsidyremovaltotransparent,effective,measurable, andpro poorprograms. HowdidNigeriafare withthe2005fuelprice review? Nationalpovertyhas doubledfrom27%(18m) in1980to54.4%(68.7m) in2004. Removaloffuelsubsidy becamethefocusand generatedmuch controversy. In2005,government reviewedpricesupwards byremovingsomeofthe subsidyonimportedand locallyrefinedproducts. Result:Subsidyremoval, withoutinvestmentof thesavings,didnot reducenationalpoverty. COMPARATIVEPRICES FORALITREOFPMSIN ECOWAS Countries USD Nigeria $0.51 Liberia $0.77 Gambia $0.79 Togo $0.89 SierraLeone $0.91 Ghana $0.92 Niger $0.99 Guinea $1.02 Benin $1.03 Mali $1.30 Chad $1.30 Coted'Ivoire $1.33 Senegal $1.35 BurkinaFaso $1.38 CapeVerde $1.84 Page5of Thekeyissue,however,isthelackofconfidenceofNigeriansinthegovernment.There isnothingintherecenthistoryofnigeriangovernmentsthatbestowsconfidenceon theirabilitytoproperlyinvestthesavingsfromthefuelsubsidy.itisimportanttonote thatmostofthecriticalprojectshadpreviouslybeenbudgetedforwithoutany meaningfulprogressonanyofthem.itisimperativethereforethatthegovernment gainsthetrustandbuy inofnigeriansinitsabilitytomanagethereinvestmentfunds efficientlyandwithouttheusualleakages. Thistrustcanbeachievediftheprogramdesignhasthefollowingelements: TransparentProcesses:Governmentshouldengageateamofprofessionals (includinggovernmentemployees)tobuildfail safeprocessesforeveryaspectof theprogram.theprocessesneedtomeetgenerallyacceptedbestpracticesto engendertrustandconfidence. People:Recruitpeopleofunimpeachablecharacterandintegrity.Thesepeople mustbeindividualswhohavespentsometimeinpublicdomainandmustbewilling topresentthemselvesforpublicscrutinybeforetheassumetherole. CommunicateResults:Theteamshouldcommunicatevisible,measurablegoals thatcanbeindependentlytrackedbythepublic.ateamofreputablefirmsshould beengagedtomeasure,evaluate,andreportprogressagainstthecommunicated goals. Governmentmustemphasizepolicydesignaswellasitsimplementation.Thereisa popularmythinnigeriathatthekeychallengeispolicyimplementation.nextier s reviewofanumberofgovernmentprogramsfoundanequalnumberofchallengeswith policydesignaswellaspolicyimplementation. Intermsofdesign,governmentshouldbemindfulofthedivergenteffectofthe reinvestmentofthesubsidysavingsontheurbanandruralpoor.accordingtonwafor, M.etal(2006) vii, ahighlyexpansionarypolicyofspendingallsavingsfromsubsidy removalfavoursruralanddisfavoursurbanhouseholds.thisisbecauseurban householdsearnmostoftheirincomesfrominputs intensivesectorswhilerural householdsdonot.anexpansionarypolicyfuelsinflationandworsensurbanincome whileitimprovesruralincomeasoutputpricesrisegenerally. CONCLUSION Fuelsubsidiesaremeanttoproviderelieftothepoorbutmostlycomeatahighcostto theeconomy.thefederalgovernmentshouldstrivetomoveawayfromfuelsubsidies andfocusonreinvestingthesavingsfromthesubsidyremovalinamannerthatdoesnot leadtohighinflationorfurtherworsentheplightofthepoor.beingthatthe governmentdoesnothavetheconfidenceofitscitizens,itmustensurethatitadoptsa processthatistransparentandefficient. vii Nwafor,M.etal(2006), DoesSubsidyRemovalHurtthePoor?,SISERAWorkingPaperSeries PatrickO.OkigboIIIis theprincipalpartnerat Nextier. DiliEnekebeisan AssociateatNextier. Nextier Limited is a multi competency public sector advisory firm with expertise in policy analysis, policy design and implementation, strategic planning,processre engineering,andhumancapitaldevelopment.weworkwithpublicsectorclientstodeliversustainedimpact. SuiteF 03,KenujO 2 Offices, BehindGamesVillage,Durumi, Abuja Plot161aSinariDaranijoStreet, OffAjoseAdeogunStreet,VictoriaIsland, Lagos No.6aAguluzoigboCllose, OffNzaStreet,IndependenceLayout, Enugu 17742PhelpsHillLane, Derwood,MD20885, UnitedStates i n f n e x t i e r l i m i t e d. c o m w w w. n e x t i e r l i m i t e d. c o m NextierAdvisory SustainedImpact
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