Subsidies: Working the Monkey and Feeding the Baboon

By ALEX OTTI

“Government’s view of the economy could be summed up in a few short phrases: If it moves, tax it. If it keeps moving, regulate it. And if it stops moving, subsidize it.” Ronald Reagan (1911-2004).

People naturally love freebies. However, the reality is that there is hardly anything that is free in life in the true sense of the word, except perhaps, air. But even air may come in a form that is not attractive for use depending on what part of the globe you are or what time of the season it is. In the temperate region, you may need to convert the air at a cost to ensure that you have the right temperature for comfort and survival. It is the same in the tropic regions where the temperature would have to be adjusted downwards for comfort. It may also be germane to point out that some types of ‘air’ are also expensive and make profitable lines of business to sell them.

Since the advent of crude oil as the prime mover of the Nigerian economy, subsidy has become a recurring feature in the country’s economic discourse. The preponderance of oil proceeds led to undue reliance on oil proceeds for practically all aspects of development and growth. In less than two decades following the positive oil shocks that came with the establishment of the OPEC cartel, Nigeria’s economy became monolithic. Before oil, Nigeria was the world’s largest exporter of palm oil and groundnuts. It was among the top five exporters of cocoa, cotton, rubber and several other commodities. Agriculture was the main stay of the economy and there was a fledgling manufacturing base that was growing to feed off the huge raw material base. All that is now history.

Sadly, while we groan under the burden of a monolithic economy, in which incomes have since shrunk, we have not been able to address the attendant subsidy legacy that developed during the era of seemingly unlimited income from crude oil. We love freebies and any attempt to take away some of these freebies has met with organized resistance and even institutional constraints. Subsidy has become a yoke on the neck of Nigeria’s economy, which has slowly squeezed life out of it. More pathetic is the fact that with the structure of subsidies in the country, the actual benefits go to the top instead of the bottom. The baboons are still having a field day at the expense of the labouring monkeys, it would seem!

Subsidy is defined as a sum of money granted by the government or a public body to assist an industry or business so that the price of a commodity or service may remain low or competitive.

Literature has it that agricultural subsidy in the US, started with the Morrill Act of 1862 that established the land- grant to teach agriculture and other related subjects. Several other acts followed in quick succession, eg, The Hatch Act of 1887 and the Federal Farm Loan Act of 1916 which created cooperative banks to provide special subsidized loans to farmers. That was the genesis of the Farm Credit System,  a government-sponsored financial behemoth with more than $280 billion in assets. By 1933, President F.D. Roosevelt signed the Agricultural Amendment Act, AAA, which was arguably the first major successful attempt to subsidize agriculture.

Presently, direct subsidy to agriculture in the US is over $20b annually. If account is taken of indirect subsidies like tax breaks, insurance and research and other subsidies, the figure will begin to look more humongous at around $180b per annum.

Besides agricultural subsidies are subsidies on different types of goods and services and the purpose is always to guarantee price, protect the industry or protect consumers. The jury is still out as to how well these purposes are served by different kinds of subsidies.

The subsidy debate has revolved around protectionism and experts contend that subsidy has a way of distorting the market. In the recent times, China and the US have been at each other’s throat on the subsidy issue. The US has accused China of deliberately engaging in unfair competition by subsidizing products thereby maintaining artificial low prices in their countries and elsewhere. This practice discourages local US production  as they become less competitive. Local subsidy in China that makes goods cheaper for its populace would not have been an issue for debate. However, because China has become the manufacturing hub of the world, its products have dominated the international market with a chunk finding its way into the US market. This has had the effect of driving competition in favour of Chinese products and driving away products from elsewhere including the US.

Our concern today is not necessarily the international market. We are interested in oil subsidy in the Nigerian economy. There are, however, some other sectors that enjoy subsidy of some sort, both direct and implied. Hajj and other religious pilgrimages continue to benefit from a subsidy regime despite the circular nature of the country. Fertilizer had at some point or the other been subsidized by the government, particularly at state levels. Farmers have also benefited from subsidized loans from the Central Bank through various schemes, including the Agricultural Credit Guarantee Scheme and Nigerian Incentive Risk Based Agricultural Lending Scheme. Even the current school feeding system has been described by some analysts as a form of implicit subsidy.

Recently, the Petroleum Products Pricing and Regulatory Agency, PPPRA, stated that the country’s expenditure on petroleum subsidy had gone up from N774 million in March 2018 to N2.4billion daily as at May 2018. The simple reason for this huge rise is the price of crude in the international market. While the average price of crude in March 2018 was $66 per barrel, it had hovered around $80 in May. At the new price, without subsidy, the pump price would have been N205 as against the N145 per litre. This leaves an “under recovery” an NNPC euphemism for subsidy of N60 per litre.

Recall that in May 2016, the government increased the pump price of PMS from N86 per litre to N145 per litre. This was described as partial deregulation as against full deregulation as with Automative Gas Oil (AGO) popularly known as diesel. The problem with this action was that crude oil prices had dropped to less than $30 per barrel as at early that year. Meanwhile, exchange rates were understandably rising in the face of challenged inflows of foreign exchange. So, at that time, it was natural to understand that subsidy would go down to zero. An increase of crude prices like we have witnessed today would naturally lead to a return of subsidy. A few people made that argument then, but not a lot of people listened, or if they did, they either did not understand or felt that we shall cross the bridge when we got there. Like Murphy’s law will tell us, if something can go bad, it would go bad. So, we are face to face with the resurgence of fuel subsidy. While no subsidy was provided nor paid in 2016, NNPC admitted, through the Group Managing Director, Dr. Maikanti Baru that it in 2017, it spent a tidy N144.53b in subsidizing PMS. This works out at N336m per day. Because there was no provision for subsidy in the budget, the NNPC, technically warehoused that amount or better still, netted it off the payment to federation account, since it was the only body importing PMS at that time.

Beyond the rise in crude prices, which by the way is very good for the country, there is another major issue of the quantity of refined PMS that the country consumes. Before this time, our daily consumption was between 30,000 and 35,000 liters. To the surprise of everyone this figure went up to 60,000 liters per day. What went wrong? According to a newspaper report, the NNPC, “had blamed the high value of the “under recovery” to rising fuel consumption which it attributed to massive smuggling of petroleum products to neighbouring countries. Baru insisted that the activities of the smugglers had led to recent observed abnormal surge in the evacuation of petrol from less than 35 million litres per day to more than 60 million litres per day, which was in sharp contrast to established national consumption pattern. He had also raised an alarm on the proliferation of fuel stations in communities with international land and coastal borders across the country, insisting that the development had energized unprecedented cross-border smuggling of petrol to neighbouring countries, making it difficult to sanitise the fuel supply and distribution matrix in the country. He revealed that detailed study conducted by the NNPC indicated strong correlation between the presence of the frontier stations and the activities of fuel smuggling syndicates. Providing a detailed presentation of the findings, the NNPC boss noted that 16 states, having among them 61 local government areas with border communities, account for 2,201 registered fuel stations. The fuel tank of the petrol stations, he noted, had a combined capacity of 144.998 million litres of petrol, about four times more than Nigeria’s average fuel consumption of 35 million litres daily. Baru explained that because of the obvious differential in petrol price between Nigeria and other neighbouring countries, it had become lucrative for the smugglers to use the frontier stations as a veritable conduit for the smuggling of products across the border, saying this had resulted in a thriving market for Nigerian petrol in all the neighbouring countries of Niger Republic, Benin Republic, Cameroun, Chad and Togo and even Ghana which has no direct borders with Nigeria.”

This is a very serious issue that must be addressed frontally. The same NNPC had said earlier in the year that the country had spent about N5 trillion between 2006 and 2015 on subsidising petroleum products. At today’s official exchange rate of N305, this figure translates to about $16.4b. Extrapolating from the numbers quoted earlier, there is no doubt that this year may end up with “under recovery” of close to N700b if oil prices remain at the present level. Adding this figure to that of last year would give a total figure of about N823b (about $2.7b). It therefore means that in 12 years, we have used over $19billion to subsidize petroleum products. If we used actual exchange rates that prevailed within those periods, we would be discussing much larger dollar numbers than we have here.

Now, consider that the Dangote group is constructing an integrated refinery with a capacity of 650,000 barrels of crude per day for $10b. This refinery would produce an estimated 50m litres of PMS and a further 15m litres of AGO per day. Ordinarily, these should not only take care of local consumption, but catapult us from a crude exporting country to a refined petroleum products exporter. It is also expected to generate close to 10,000 direct jobs and a further 25,000 indirect jobs and save the country an estimated $7.5b through import substitution. Of course, the fertilizer plant which is estimated to cost $2.5b will produce 3m tones of fertilizer per annum.

Bringing all these together, there is no doubt that we have over the years, shot ourselves in the foot. We have 4 refineries with combined installed capacity of 445,000 barrels of crude per day. However, the maximum operational capacity utilization is no more than 20%. They have also been a conduit for waste as we spend hundreds of millions of dollars on turn around maintenance that are ineffective. The government should do well to sell the four refineries to private investors, even as scrap. The behemoth of a refinery being built by the Dangote group would cost just about half of what we have spent in subsidizing imported petroleum products in the last 12 years. So, we could have built two of these types and saved the country a lot of money with the attendant job creation opportunities. Rather than go back to the debate on the removal of fuel subsidy, which a lot of us thought had happened in 2016, we should immediately completely deregulate this sector without further delay. While I am not persuaded that the reason for deregulation is to curb the activities of smugglers and racketeers, I will argue that it makes economic sense for government to stop the regulation of prices of this and other products. If truth be told, even with the partial deregulation, other than the urban areas, this policy has not been working. That is why once one leaves the major towns, most petrol station attendants would start punching their calculators after dispensing fuel to buyers. Since we all know that it is not working, we should stop the mutually assured deceit(MAD). Just like Murray Rothbard (1926-1995) said, “Government Subsidy systems promote inefficiency in production and efficiency in coercion and subservience while penalizing efficiency in production and inefficiency in predation”