Chibuike Oguh, Frontier Markets Analyst, Financial Nigeria International Limited
Subjects of Interest
- Capital Market
- Finance and Investment
- Frontier and Emerging Markets
Why Nigeria no longer attracts foreign direct investment 07 Dec 2016
The National Bureau of Statistics recently released its latest report on foreign direct investment (FDI) into Nigeria. Besides foreign portfolio inflows (in equities, stocks, and bonds), Nigeria recorded no direct capital investment inflow in the third quarter of 2016. This is a dramatic fall from grace for a country that has been a major recipient of FDI in Africa.
Over the last decade to 2014, Nigeria consistently ranked among the top three destinations for FDI in Africa – surpassing South Africa, according to the United Nations Conference on Trade and Development (UNCTAD). Total FDI inflows ranged between $5 and $7 billion per year, as yield-hungry investors targeted the oil and gas, real estate, communications, and consumer goods sectors of Africa's largest economy.
So why has Nigeria's FDI inflows dwindled from its previous highs to a woeful state of zero inflow in Q3 2016? The most definitive reason would be the correlation of FDI to the commodity cycle. FDI to commodity-exporting countries oscillates between the peak and the trough of commodity prices, depending on the prices of crude oil and metals. Oil prices have fallen by over 60 percent from its peak of 2014 to about $45 per barrel currently. UNCTAD reports that Nigeria's FDI fell 34 percent from $4.7 billion in 2014 to $3.1 billion in 2015. Given that oil prices have remained depressed for much of 2016, the dismal FDI data for Q3 indicates another year of decline.
Many commodity-dependent economies around the world have witnessed a similar phenomenon. South Africa's FDI flows dropped by 69 percent from $5.8 billion in 2014 to $1.8 billion in 2015. For Australia, FDI flows declined by 44 percent from $39.6 billion in 2015 to $22.3 billion in 2015. In Canada, FDI flows have fallen by 17 percent from $58.5 billion in 2014 to $48.6 billion in 2015.
The double-whammy of revenue and FDI declines was expected to foster macroeconomic instability, which can be very significant in the absence of the cushion of reserve savings. This has been the case in Nigeria, where a political transition in the middle of the oil price slump has slowed policy responses.
FDI often flows from multinational corporations in developed countries to less-developed, although investment flows between developed economies are usual, and flows from emerging markets have been increasing in recent years. However, political stability, positive growth outlook, low inflation, and buoyant government spending generally attract long-term investments. Owing to the slump in oil prices in the past 24 months, however, Nigeria has not been an ideal candidate for FDI flows. GDP growth – which averaged about 6 percent over the last decade to 2014 – declined to 2.82 percent in 2015. What is more, Nigeria is now in the throes of a recession as GDP growth contracted in the first three quarters of 2016.
Nigeria's inflation has also been on the upswing. Inflation, which had been in single digit since November 2014, rose to 18.3 percent this October. Given this, real yields on fixed income securities have been quite low or negative. The monetary strategy to keep interest rates high by the Central Bank of Nigeria (CBN), in order to bolster yields, improve dollar liquidity through foreign portfolio investment, and attract longer-term capital investment have proved largely unsuccessful.
Long-term investment commitment in Nigeria is also constrained by near-term concerns about declining disposable income. In the current recession, many Nigerians have lost their jobs and SMEs are facing more intense challenges including rising costs. The consequent weakening in effective demand is deterring foreign investors. We have seen this in the automobile sector and the retail segment, where, indeed, some foreign brands even closed shops and exited the market.
To be fair, the foregoing is a nightmare for monetary policymakers in the Nigerian market that lack adequate breadth and depth. The CBN has tried to respond to the headwinds, in part by imposing capital controls in order to maintain a safe reserve level that is needed to instil investor confidence. But the very same capital controls have been the most criticised policy of the CBN, and it has achieved the very opposite of stabilising the foreign exchange market. Inevitably, even investors willing to make long-term capital investment will nevertheless worry about the current policy which suggests they will face a hurdle when they need to repatriate their profit or capital or both in the future. Even the introduction of a putative floating exchange rate system by the CBN has failed to improve dollar inflow in any significant way.
However, it is very doubtful that government has done enough in the areas where it should really not be constrained to act. Reforms to improve the business climate have yet to gain traction, in spite of stated government commitment. Nigeria has remained rooted in the lower strata of the World Bank's annual Doing Business ranking. The country currently ranks 169th out of 190 countries, reflecting the level of difficulty in performing basic business tasks such as starting a business, getting electricity, enforcing contracts, getting credit, registering property, paying taxes, etc. This has added further pressure to businesses who continue to grapple with acutely inadequate infrastructure and rising security concerns.
Unlike Nigeria, some other African countries including Rwanda, Botswana, Kenya and Namibia have climbed up the Doing Business ranking by significant notches over the past years. But the promise of the Minister of Trade and Investment, Okechukwu Enelamah, on raising Nigeria's ranking by 20 places delivered only one-notch rise in 2016. Also revealing, Nigeria did not sign a single International Investment Treaty (IIT) in the six months of May to October 2016, according to UNCTAD. IITs and Bilateral Investment Treaties (BITs) are key instruments in spurring inward investments. Such treaties offer tax incentives, faster approval processes, clear dispute resolution mechanism, assurance on capital repatriation and more, to lure foreign investors. Only after the UNCTAD report came out did news break on the investment treaty Nigeria signed with Singapore last month.
By contrast, the latest investment treaties UNCTAD documented include Kenya's adoption of a new Finance Act that repealed a 30 percent domestic-ownership requirement for foreign investors. Mauritius introduced various tax incentives, including an eight-year tax holiday, to businesses that purchase a “global headquarters administration licence.” Niger ended its national oil company's monopoly over the sales of petroleum products by approving a joint-venture oil refinery with a foreign corporation. In spite of Nigeria's position for decades as Africa's top oil producer, the country has for more than a decade been saddled with decrepit state-owned refineries.
For Nigeria to turn the tide against its declining FDI data, deliberate multi-agency efforts to bring about needed reforms are imperative. But the efforts must start with bringing credibility to both fiscal and monetary policies. The implementation of the 2016 budget was very inadequate, with capital disbursement below 50 percent of budgetary provision. Such a situation needs to be avoided in the 2017 budget. Government also needs to get its deficit financing strategies right.
On the monetary side, more transparency is required with managing the exchange rate. Allegation of favouritism, which has continued to dog the allocation of foreign exchange in the autonomous interbank market, has to be addressed by the CBN, assuming the apex bank can extricate itself from the problem.
2017 will be critical in forestalling a long-drawn economic decline in Nigeria, a scenario that could continue to see the country fade off the radar of foreign investors. Given the next election cycle, the Nigerian economic recovery needs to happen in 2017 through concerted and effective fiscal and monetary policies, otherwise it may be delayed until the second half of 2019. Oil price rally anticipated in 2017 will be insufficient to, on its own, spark the next round of FDI into Nigeria and push growth back to at least the 6 percent average we had been used to.