NIGERIAN CENTRAL BANK GOVERNOR ON SUBSIDIES

"If you will patiently read this mail to the end you will understand my position. I am not complaining about insults I am used to that. I just believe that an insult is not an argument and when people resort to personal abuse they have run out of logic.
But to then go beyond me and extend it to my dead grandfather and his "descendants" ie my late father his siblings etc I think goes beyond the pale. As a Nigerian-and as an economist-I can take a position on economic matters and this position is one I have had for years even before coming in to the Central Bank. I have also explained the position on several occasions and criticised government for not doing this before.

"In 2010 at a public hearing in the House of Reps on the 25pct saga I alerted the nation of what I considered a potential big scam around subsidies and urged for its removal. No one paid attention. The economics is very clear to me. That it is unpopular is also understandable. The British public is unhappy with Tory budget cuts. The Greeks went on riot over austerity. Italian parliamentarians came to blows before Berlusconi was thrown out of office. The US congress is yet to approve Obamas tax increases.

"Economic decisions-by definition-ALWAYS must involve a cost or an opportunity cost since for them to qualify as economic they must involve a choice in resource allocation among competing uses. An enlightened debate is one that weighs the pros and cons of removing subsidy and continuing with it.
Removing it has costs in terms of Nigerians paying more for PMS-which by the way is not the fuel for generators, power plants, production facilities, heavy duty goods transportation trucks and even luxury buses. It is fuel used by the middle class and car owners to drive around town and from city to city not to employ workers and produce goods and services. Diesel which is critical to manufacturing and employment creation is not subsidized as the subsidy was removed years ago by Obasanjo. Nigerians said nothing then because it was blue collar workers that got retrenched by factories. Those speaking now on the Internet and Facebook and Twitter and newspapers are not workers but middle class elite who use PMS in their smart cars so let's stop all the ideological pretence. This is not about elite and masses but an intra-elite discourse.

"I will summarise the issues and I write as a Nigerian economist and public intellectual not as a public servant:

1. I am a strong advocate for subsidies if they are for production and not consumption, and if they benefit the poor and not middle men and rent seekers. The US government subsidizes cotton and wheat farmers and Nigeria spends its reserves importing wheat from America and keeping American farmers employed. The OECD countries pay subsidies to cattle farmers. Today Promasidor imports powdered milk from New Zealand and packages in Nigeria using our foreign exchange while we have cattle. WAMCO imports milk from the UK and adds water and tins it and calls it "production" of Peak milk. We use our Forex to import petroleum products and keep refineries and jobs open in Europe. Meanwhile precisely because of market distortions there can be no private sector investment in refineries since no one can make profit selling at the regulated price unless we are going to provide private refineries with crude for next to nothing. Certainly no one can purchase crude at market price, refine it and sell at N65 without huge losses so this explains why there are no private refineries.

2. What I mention above is the heart of the problem with government economic policy which needs to be changed. The economy since SAP is one that supports imported consumption and not local production, perpetuating dependency, non inclusive growth and insecurity. Why is it that the economy is growing at 7pct annually but the people are getting poorer. Because growth gains are not evenly distributed. Personal income is skewed towards people in the oil industry, telecomms, high finance, stock market, real estate and yes civil servants and politicians who feed on corruption. We produce crude oil but import petroleum products (today the UKs highest exports to Nigeria are petroleum products). We have a large cotton belt but import textiles from China (thus keeping their subsidized factories open and jobs in China). We are the world's number 1 producer of cassava but import cassava starch from Europe. We have a huge tomato belt in Kadawa, Jigawa and Chad basin but are the world's largest importer of tomato paste-from China and Italy. We can produce rice but we import rice from Thailand and India-most of it from grain reserves that have been in stock for over 5 years...I can go on and on
3. If above is clear then it is evident that this trajectory can only lead to disaster. We will continue to spend our resources promoting growth and employment in our trading partners. Terms of trade shift against us, we can only have foreign reserves because by the good grace of God we have Oil which will be exhausted soon and with new discoveries may become so cheap it loses value. We don't create any value added jobs as the only real production is peasant farming. Oil, telecomms, finance and real estate are not employment intensive. So everyone becomes a civil servant as the economy cannot create jobs. Result? In 2012 budget out of a total N1.8tr recurrent expenditure for the executive arm N1.6tr is on personnel costs not overheads. To reduce this you have to cut salaries or pensions or retrench civil servants. This is the classic trajectory of underdevelopment, de-development and de-industrialisation.

4. For the above reasons I am a strong proponent of structural reform and this begins from the fiscal framework. The limited resources of government should be allocated to supporting production-especially if we are running a budget deficit. We cannot keep borrowing to support conspicuous consumption. To support a job creating economy we need to fund power, transportation infrastructure, market infrastructure and access, technical and vocational education etc. We need to build rice processing plants, produce starch and cassava flour and ethanol, process our tomato and milk locally, regenerate our textiles firms (which used to employ 600,000 workers but now employ 30,000!), refine our own crude etc. We cannot even begin to do this if 30pct of govt expenditure is on fuel subsidy, if out of the balance 70pct is recurrent spending, 10pct is debt service, 10pct goes to the Niger Delta and only 10pct is capital expenditure. So it is about a choice-what do we spend money on and how do we allocate resources?

5. We often compare ourselves to other oil producing countries like Saudi Arabia. What are the facts? With a population of over 160m we produce 2mbpd ie 1 barrel for every 80+ citizens daily. Govt share of revenues is like 50pct of every barrel so it is effectively a barrel for 160 citizens. Saudi Arabia with a 24m population produces over 8mbpd or one barrel for every 3 citizens. In fact in 2010 the nearest OPEC country to Nigeria in production per capita was Algeria with a barrel for 30 and Algeria is more gas than oil.

"With one barrel for 3 citizens daily Saudi Arabia is able to provide infrastructure, education, healthcare and social safety nets and have huge savings. It can provide subsidised fuel at a total cost that is a fraction of its savings and even export refined products. It is paying for subsidies out its fiscal savings and not borrowing to pay. We are like a poor man with a rich neighbour. The neighbour builds a good house, buys several cars, eat expensive food, travel abroad every year and still have huge balances in several current accounts. Then you choose to live that lifestyle and mortgage your house, take an overdraft from the bank to finance it. Next year it is time to repay the bank, you don't have the money so you go to another bank, borrow enough to pay the first bank principal plus interest and also fund the continuation of the lifestyle. It continues till you can't borrow anymore and the bank throws you and your family out of your house and you lose everything. A responsible father would have long since faced reality and told his family he doesn't earn as much as his neighbour and expectations need to be moderated if they to keep their roof. Of course the children won't be happy at not going to Hawaii for summer and having to take public transport rather than own cars like their neighbour's children. Maybe they will even abuse the father behind his back and call him a miser. That is the cost of leadership.

"Finally: removing subsidy is not a silver bullet that solves our economic problems. And there is a huge trust deficit that government has to address. Government needs to investigate subsidy payments and punish any violations of extant guidelines. It needs to cut on unnecessary and wasteful expenditure. It needs to fight corruption and show seriousness in that. It needs to deliver on capital projects, power and infrastructure including irrigation, farm-level storage and agri-processing. These are all valid issues that are to be taken IN ADDITION to and not in place of subsidy removal.

"Since someone has decided to make insinuations about my grandfather I owe it to him to defend his record. It was my grandfather as Emir that repealed an obnoxious rule started from the days of Emir Usman that disenfranchised women from inheriting property. It was Sanusi that built the groundnut pyramids to the point where Kano NA was contributing 40pct of the revenues of the Northern region. It was Emir Sanusi who built the Bompai Industrial Estate, and turned Kano into the industrial nerve centre of the north. He was ag Gov of the northern region, Minister for Pilgrim Affairs, Chief Imam of Friday Mosque, judge and leader of the Tijjaniya order. As for his "descendants" my father was one of the very first batch of 12 Nigerians recruited by the British to set up the foreign service in 1957 and he remained in public service and rose to be Permanent Secretary before retirement. He set up in the 60s the research dept of the ministry- the present NIA so he was the first external intelligence officer in Nigeria. As permanent secretary he was the architect of Murtala Mohammed's policy on decolonisation of Africa and oversaw the independence of Mozambique and Angola and the final push to liberate Zimbabwe and South Africa.

"So yes Sanusi was not perfect. He was a feudal aristocrat. And my father was not perfect. He was also a prince and privileged to go to Oxford and LSE. But please if you want to abuse my grandfather and father kindly tell us what contributions your own grandfather and father made to the people.

"I love my grandfather and am proud to be his grandson and absolutely think it inappropriate that his name is dragged into this. "Haatuu burhaanakum in kuntum saadiqeen."

Sanusi Lamido Sanusi, CBN Governor and an activist in government
Please check the features column of the Economic Confidential to read memos and rejoinders on the positions of Sanusi Lamido Sanusi over the subsidy removal

POWER SUBSIDIES, THE LESSON

Last week the Electricity Regulatory Authority (ERA) announced up to 69% hike in power tariffs.

ERA said the increases were necessary to attract new investment in the sector and to relieve government of the billions of shillings in subsidies it has been doling out to keep power tariffs affordable.

The subsidies were deemed necessary five years ago when we had to resort to costly diesel run generators to bridge the power deficit.

"If ever there was a case study for why subsidies should be frowned on this would be a text book example...

With one fell swoop starting today Monday, manufacturers are going to pay up to 69% more for their power while domestic consumers will pay 38% more.

The unbudgeted for increase in a time of lower than usual economic activity, will lead to two things an increase in commodity prices and a possible slowdown in production. It does not take any advanced powers of prophecy to tell that this increase will be disruptive.

Price should be left to find their own level dictated by the forces of supply and demand, that way prices will move gradually up and down. Attempts to fix prices only create artificial comfort which when lifted can cause price spikes that shake out many economic players.

For instance the 69% increment if it were spread over five years would entail an annual 11% increase that would allow the economy to adjust with time.

There is the experiment where a beaker of water is heated to boiling point and when a frog is thrown in it jumps out immediately however if you put the frog in a beaker of cold water and heat it gradually the frog gets boiled to death because it adjusts to the gradual temperature increase until it’s too late.

"Subsidies are oftentimes motivated by bad politics rather than good economics. The seduction of subsidies for a government is that in the short term they appease certain constituencies in the long term however the costs far outweigh the benefits, by reducing the attractiveness of a particular sector for investors, promoting inefficiency among existing players and therefore sub-par service to consumers...

For instance power use in Uganda is slanted heavily towards personal consumption, used for powering TVs, cooking and ironing rather than industry or the productive sectors of the economy. We use power extravagantly at home because its affordable. And we continue to perpetuate this with the latest tariff hikes by penalizing the producer more than personal consumer.

One positive that is likely to come from this removal of tariffs is that new investment into generation may ensue. Our artificially low tariffs were a disincentive to investment especially in the mini-hydro dams and other alternative energies like solar power.

Hopefully we might see a boom in investment the way we have seen one in the real estate sector.

"Government resisted calls to cap rents in Kampala arguing that supply will rise to meet demand and prices will level off. There still remains a 50,000 housing deficit in Kampala but one can say it would have been worse if government had gone the spineless route of rent controlling....

It’s part of the human condition to desire certainity over uncertainity and hence calls by KACITA last week for government to prevail on banks to lower lending rates.

The raising of lending rates by banks is not to make astronomical profits, but it is in response to the prevailing circumstances.

Inflation hit a 19-year high of 30% at the end of last year. The only commodity banks deal in is money so what makes the traders – many of whom have already raised prices in their shops, think that the cost of money has not risen as well?

The knee jerk reaction is to control lending rates. Controlling lending rates would reduce the incentive for banks to lend, expand or innovate and we would have poorer banking services for it. And when we inevitably have to lift controls – as has happened with the power tariffs, we will be unprepared for the spike in lending rates. And who would be hardest hit? The businessmen.

We are all hurting from the current financial crisis, the immediate pressing need while unbearable now can be made worse in the future if we panic and take short term remedial action that will have long term detrimental damage on the economy.