Cablegate: Higher and Higher: Nigeria's Means Of

This record is a partial extract of the original cable. The full text of the original cable is not available.

UNCLAS SECTION 01 OF 03 LAGOS 000115

SIPDIS

E.O. 12958: N/A
TAGS: ECON EFIN EINV ETRD NI
SUBJECT: HIGHER AND HIGHER: NIGERIA'S MEANS OF
FINANCING MEDIOCRE GROWTH

1. (U) Summary: Officers' in-country travel, anecdotal
evidence, and media commentary point to inordinately
high and steadily rising prices in Nigeria. People
regularly complain that frequent increases in the cost
of living and slow economic growth are hardly the
dividends of democracy they expected after the demise
of military rule. Prices are high and getting higher,
and real per capita economic growth has averaged little
more than 3.5 percent per annum over the last five
years. The upward trend in prices has multiple causes
and far-reaching effects, and we expect it to continue
throughout this year and into the next. End summary.

2. (U) Nigerians frequently complain of high prices and
an ever-increasing cost of living. Market traders
wonder how to make ends meet, and businessmen and
agricultural producers lament the high cost of doing
business. Even the relatively wealthy grumble about
over-priced goods and perceive gradual increases in the
overall price level. Available data support their
perceptions: the Economist Intelligence Unit (EIU)
recently noted that inflation began to trend upward
(from approximately 10 percent in August) in the fourth
quarter of 2003 and expects average annual inflation to
exceed 12.5 percent, a phenomenon driven primarily by
rising food and domestic fuel prices coupled with loose
fiscal and monetary policies. The EIU is not wide of
the mark: the Central Bank released data January 14
indicating that the twelve month moving average rate of
inflation rose from 10 percent in August to 12.3
percent in October. Annualized month-on-month
inflation accelerated from 18.4 percent to 23.6 percent
during the same period.

3. (U) The rate of inflation in Nigeria is measured by
movements in a composite urban and rural consumer price
index (CPI), with the weights assigned to food and
fuel/electricity representing 70 and 10 percent of the
CPI basket of goods, respectively. As such, changes in
food and fuel prices drive changes in the overall
index. Food prices, in turn, are influenced by a
variety of factors, including rainfall and other
climatic conditions, wages, domestic inputs, and import
prices. As these rise and food prices increase, so too
does the CPI and the average cost of living. Changes
in food prices may be the most noticeable indicators of
rising prices, but increases in the overall price level
- the rate of inflation - are related to a variety of
factors that go beyond fluctuations in rainfall and
agricultural productivity.

4. (U) Inflation in Nigeria is also closely related to
expansionary fiscal and monetary policies. The EIU
estimated Nigeria's 2003 federal budget deficit at 5.8
percent of its gross domestic product (GDP) or US$2.8
billion (with Nigeria's 2003 real GDP estimated at
US$48 billion at current prices). To finance the
deficit, the Government of Nigeria (GON) borrows
domestically (it sells Treasury bills and recently
introduced longer-term government bonds to the public)
and internationally. And borrow it does: the GON's
domestic debt equals about 25 percent of GDP and is
rising fast. External debt stands at an estimated
US$30.9 billion. In attempts to keep the cost of
government borrowing (or interest rates) at tolerable
levels, the Central Bank often accommodates the central
government by simply printing money to fund the
deficit, especially when private investors choose not
to buy government debt instruments. The result is
excess liquidity, which the Central Bank occasionally
tries to mop up by raising interest rates. Whether
through the government's direct borrowing or the
Central Bank's printing of money to accommodate a
deficit, deficit financing tends to fuel inflation.

5. (U) Government borrowing in Nigeria contributes to
inflation: there is no doubt about that. It keeps
domestic interest rates up and thereby raises
production costs and forecloses investment
opportunities, especially in agriculture and
manufacturing. This is normally the outcome since
little of the deficit spending finances productive
investment. The cost of money is thus relatively high:
the Central Bank's minimum rediscount rate (MRR) alone
is 15 percent. By law, banks can charge interest rates
equivalent to the MRR plus four, or 19 percent, but in
reality, rates often reach 29 or 30 percent. Thus,
many businesses, particularly small and medium
enterprises, find it difficult to secure financing.
When they do, they incur significant expenses. These
are factored into production costs and reflected in the
final prices of goods and services. High interest
rates may be less overt contributors to Nigeria's
relatively high prices, but like the factors mentioned
above, they raise the cost of doing business.

6. (U) Inflation indicates a rising overall price
level, but prices are high in and of themselves.
Insufficient and poorly maintained infrastructure,
particularly the lack of reliable road and railway
networks, efficient communications systems, and an
adequate power supply, increases the cost of doing
business. According to Nigeria's Ministry of Works,
nearly 80 percent of the country's 140,000-km road
network is in a state of disrepair. The condition of
the country's railway network is even worse: the three
lines are in such poor shape, in fact, that trains
rarely run. The dismal state and limited reach of
Nigeria's road and railway networks make the movement
of goods time consuming and expensive, and delays at
Nigeria's borders and ports of entry - particularly at
the Lagos port complex - exacerbate the problem.
Nigeria's fixed-line and mobile communications
networks, too, are grossly inadequate. The country's
national operator has an installed capacity of fewer
than 500,000 lines, and the country's four mobile
service providers supply only 3 million lines to a
population of 130 million consumers. Inefficient
communications systems raise the cost of doing
business, as does the country's equally unreliable and
inadequate power supply. Nigeria's state-run National
Electric Power Authority has an installed capacity of
6,000 megawatts (MW) but typically distributes about
half that, a quantity far short of the estimated 10,000
MW the country needs. Not surprisingly, frequent power
outages force businesses to supply generators, fuel,
and diesel storage tanks and raise production costs.

7. (U) Added to this is Nigeria's dependence on
imports. The country imports virtually everything,
including manufactured goods, capital equipment, fuel,
and food items like dried fish and rice. Once one of
the world's leading exporters of palm oil, groundnuts,
poultry, and other items, Nigeria now exports little
more than crude oil. Domestic producers cannot meet
the demands of a large and growing population, so
Nigerian consumers rely on relatively expensive
imported goods and services. Of course, imports become
relatively more expensive as the value of the currency
declines. The naira was relatively stable (at
approximately N120:US$1) during the first ten months of
2003, but increasing demand for foreign currencies -
particularly in the wake of the GON's decision to
deregulate the downstream oil sector - pushed the naira
to its lowest rate (approximately N140:US$1) in years.
Given the Central Bank's declining reserves and limited
ability to continue to defend the naira, the currency
will likely depreciate further. As a result, imports
will become even more expensive, and complaints of high
prices will likely grow louder.

8. (U) Inadequate security and widespread corruption
also raise costs. In the absence of an effective and
well-trained police force, businesses provide their own
security - and spend heavily on private guards, fences,
perimeter controls, and electronic surveillance
systems. Such precautions raise operating costs, as do
the payoffs and kickbacks that many individuals
consider an unavoidable cost of doing business in
Nigeria. For the third consecutive year Nigeria was
named the world's second most corrupt country in
Transparency International's 2003 Corruption
Perceptions Index, and anecdotal evidence suggests that
graft affects every sector of the economy. Businessmen
report paying bribes to clear imports through customs,
lower their tax burdens, win operating permits or
licenses, and cut through bureaucratic red tape. Many
consider bribes a means of getting things done quickly
and easily: to resist, people think, is to invite
unnecessary delays. Payoffs may indeed be a means to
an end, but they increase costs and perpetuate an
already inefficient system.

9. (U) Having run large deficits in 2002 and 2003 and
anticipating a deficit of about 3 percent of GDP in
2004, the GON will find it difficult to reduce
expenditures while simultaneously meeting new
commitments, particularly if oil prices (and government
revenues) decline in 2004. As a result, the GON's
fiscal policy will likely remain expansionary, and it
will either continue to borrow or attempt to finance
the deficit by printing more money. If it does the
latter, the increased money supply will lead to an
increase in the overall price level: as the supply of
money relative to the supply of goods increases, or as
more money chases the same quantity of goods, vendors
will adjust their prices accordingly. The overall
price level will rise, and individuals will note an
increasing cost of living.

10. (U) Comment: Following years of military rule,
Nigerians hoped, possibly against reason, that the
civilian rule inaugurated in 1999 would quickly yield
tangible dividends of democracy. Instead, what they
have experienced economically are high and seemingly
ever rising prices. Their hopes dashed, most Nigerians
now seem resigned to double-digit inflation, which is
nothing less than a disguised tax that hits the less
well to do particularly hard. Since these "taxpayers"
are poorly organized and largely silent, we know of no
reason why inflation should subside dramatically during
the next two years. The people who could provide
relief are least likely to endorse policies that will
erode their nominal income. These people generally
oppose devaluation of the naira, particularly since an
over-valued naira lowers the cost of their imports. (It
also renders non-oil exports less competitive, textile
products being an example, and thus retards development
of manufacturing.) The elite also prefer trade bans to
higher tariffs since bans are the currency of exchange
for political support and thus directly benefit people
with influence. Lastly, everyone opposes personal
income tax increases, largely because nobody believes
that such revenues will be used for the common good.
Under the circumstances, we expect double-digit
inflation to continue to be the government's preferred
means of financing what is likely to be mediocre growth
during the foreseeable future. End comment.

HINSON-JONES

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