A Review of the Nigerian Energy Industry

Time to end fuel subsidy

06 January 2015, Lagos – The drop in the international market price of crude oil from $115 in June 2014 to around $56.42 at the weekend, about 48 per cent decline, represents both a curse and blessing to the federal government.

Curse, in the sense that crude oil revenue on which the country’s economy depends has fallen sharply, threatening the capacity of the government to fund the 2015 budget.

fuel-pumpIndeed, since the oil price began its free fall, the federal government has revised the 2015 budget benchmark three times, yet the falling price has already surpassed government’s projection in the latest revised budget, which is predicated on $65 per barrel.

In the first Medium Term Expenditure Framework (MTEF) and fiscal strategy presented in September 2014, the federal government had proposed a benchmark of $78 per barrel of crude oil for 2015 budget, with an exchange rate of N160 to a dollar and a total budget figure of N4.8 trillion.

But when the price of oil dropped ahead of the passage of the budget, the government reduced the benchmark from $78 to $73 per barrel, with an exchange rate of N162 to a dollar and a total budget figure of N4.7 trillion.

With further fall in the oil prices, the benchmark was further reduced to $65 per barrel, with an exchange rate of N165 to a dollar and a total budget figure of N4.357 trillion for the 2015 fiscal year.

Though the benchmark has been reduced to $65 per barrel, oil price has further dropped to $56.42 per barrel below the $65 projection in the 2015 budget.

This has fueled concern on the capacity of the government to implement the budge, which is already running at a deficit, several months ahead of its implementation.

However, the falling price of crude oil is also a blessing for the federal government as it has equally led to a drastic drop in the price of petroleum products, thus reducing the government’s huge subsidy burden, which has become unsustainable over the years.

The issue of payment of subsidy became controversial in 2011 when N286 billion was budgeted but close to N2 trillion was paid.

After series of controversial probes, and failed attempt by the government to remove it in January 2012, the government was forced to revise the 2012 budget, with N656.3 billion set aside for the payment of subsidy in 2012 and additional budget of N231.8 billion as outstanding for 2011, bringing the total budget to N888.1 billion.

In 2013, the government set aside N971.1 billion for the payment of subsidy and retained the same figure in the 2015 budget, according to the first Medium Term Expenditure Framework (MTEF) and fiscal strategy presented in September 2014.

Even though the initial subsidy projection was reduced by half with the falling crude oil price, which necessitated the revision of the budget benchmark, the government will have no cause to pay huge subsidy claims in 2015.

This is because with a difference of only 90 kobo for petrol, the price of petroleum products at the international market is already almost equal to its expected market price in Nigeria.

Government’s huge savings

Though the government has lost billions of naira of oil revenue due to the falling price of oil, it has also saved billions of naira due to the reduction in subsidy claims as a result of the drop in the international market price of petroleum products.
The drop in the price of crude oil at the international market from $115 per barrel to $56.42 at the weekend has drastically reduced the federal government’s indebtedness to marketers on subsidy claims.

Subsidy claims have reduced from N44 per litre of Premium Motor Spirit (PMS) or N1.54 billion daily to N0.90 per litre or N31.5 million daily, representing daily savings of N1.225 billion.

At the crude oil price of $115 per barrel, the expected market price of imported petrol is N141 per litre, while the regulated price is N97, translating to a difference of N44 as subsidy.

Official statistics by the Petroleum Products Pricing Regulatory Agency (PPPRA) indicates that the country consumes 35 million litres of petrol daily at regulated price of N97 per litre.

With N44 paid per litre as subsidy before the current drop in the price of oil, the government spent N1.54 billion daily.

But with the drop in the price of crude oil at $56 per barrel, the landing cost of PMS has since dropped to N82.41 per litre.

In the same circumstance, the expected open market price has also crashed to N97.90, against the official pump price of N97 per litre.

According to the latest pricing template released by the PPPRA, the subsidy element has equally dropped to N0.90 per litre, representing the new difference between the official pump price of N97 and the expected market price of N97.90.
With the drop in subsidy from N44 per litre or N1.54 billion daily to N0.90 per litre or N31.5 million daily, the federal government is enjoying a relief to the tune of N1.225 billion daily, as it is now paying N831.5million daily, against the N1.54 billion it was paying before the drop in the price of crude oil.

Though the drop in the price of crude has reduced government’s bills on subsidy, the government and the oil –producing companies operating in Nigeria have lost estimated $11.5 billion oil revenue.

With Nigeria producing about 2.4 million barrels per day and exporting nearly 2.2 million barrels per day, the country may have lost an estimated $11.5 billion between June and November 2014 due to the current drop in the price of crude

Abundant supply of crude oil to the international market by the member-states of the Organisation of Petroleum Exporting Countries (OPEC), and the big jump on United States crude stockpiles are some of the factors said to be responsible for the falling crude oil prices at the international market.

With Shale gas/oil boom in China and the US, there is falling demand of imported crude oil by the two countries, which used to be major buyers at the international market.

As a result of the increased domestic production of shale oil, the United States has slashed crude imports from a peak of almost 14 million barrels per day in 2006, to slightly above 7 million barrels per day, according to the Energy Information Administration (EIA), the country’s official source of energy information.
Crude oil import from Nigeria, one of the principal sources of light crude, was also slashed from more than 1 million barrels per day in 2010 to zero in July 2014, with Nigeria focusing on India as the alternative market to sell her crude.

Other cost components

Though the current PPPRA data showed that PMS Is sold below N80 per litre at the international, additional costs are incurred by importers for the product to land in Nigeria at a cost of N82.41 per litre.

The actual cost of products used to determine subsidy payments by the federal government is the monthly moving average cost of products cost as quoted on Platts Oil gramme, with the North West Europe (NWE) as the reference spot market.

Platts Price Index is calculated by Platts, a division of the McGraw-Hill Companies, based on the global average price at the refineries, using that organisation’s proprietary daily assessments for the spot prices in the relevant regional centres.

In the event of a public holiday for instance, Christmas or New Year Day when a market is not assessed, the previous working day’s spot assessment is used.

As the products are being sold at N82.41 per litre at the international market for instance, additional costs are incurred before the imported cargoes get to the Nigerian waters, according to the pricing template of the PPPRA.

The first cost is the freight charge, which is the average clean tanker freight rate (World Scale (WS) 100) as quoted on Platts.

It is the cost of transporting 30, 000metric tonnes (30kilotonne) of product from North West Europe (NEW) to West Africa (WAF) and it is $10 per metric tonne.

There is also the lightering expenses consisting of the Ship-to-ship (STS) or Local Freight charge, which is the cost incurred on the transshipment of imported petroleum products from the mother vessel into daughter vessel to allow for the onward movement of the vessel into the jetty.

This charge, according to the PPPRA, includes receipt losses of 0.3 per cent in the process of products movement from the high sea to the jetty and then to the depot.
The mother vessels expenses are based on the allowable 10 days demurrage exposure at the rate of $28,000 per day.

But in practice, imported cargoes stay for weeks at the high sea, incurring huge demurrages, which impact on cost of products and the cost of funds to finance importation.

The lightering expenses also includes the shuttle vessel’s chartering rates from offshore Lagos to Lagos and Port Harcourt which currently stands at N2.00 per litre and N2.50 per litre respectively.

According to the PPPRA, transshipment or STS is as a result of peculiar draught situation and inadequate berthing facilities at the Ports.

The Nigeria Port Authority (NPA) also collect cargo dues (harbor handling charge) of $10.5 per metric tonne from the importers for use of Port facilities and this charge includes Value Added Tax (VAT) and agency expenses.

There is also the cost of fund, which includes the cargo financing based on the International London Inter bank Offered Rates (LIBOR) rates  plus 5 per cent premium for 30 days (for Annual Libor rate of 2.07per cent, LIBOR cost would be 7.07per cent).

Again, though the Petroleum Support Fund (PSF) guidelines provide that the marketers will be paid within 45 days, subsidy claims accumulate for six months without payment, putting pressure on the ability of importers to access credit importation.

The interest charge on the subsidy element being awaited for an allowable 60 days period at Nigerian Inter Bank Offered Rate (NIBOR) rate of 22 per cent is also included in the cost of fund.

Marketers or importers also pay jetty/depot thru put, which is the 80 kobo per litre tariff paid for use of facilities at the Jetty to move products to the storage depots.
A storage margin of N3 per litre is another component factored into the cost of imported products to cover the storage charges and other services rendered by the depot owners.

With the addition of the storage margin, the landing cost consisting of these additional costs plus the cost of the products at the international market is derived.
With PPPRA’s template based on the international market price of $788 per tonne for instance, the landing cost is $883.4 per metric tonne or N103.8 per litre.

Also added to the landing cost is the distribution margin consisting of retailers (N4.60 per litre), transporters margins (N2.99 per litre), dealers margin (N1.75 per litre), bridging fund (plus marine transport average) (N6.00 per litre) and administrative charge (N0.15 per litre).

The cost of taxes are also factored in and these include highway maintenance, government, import and fuel taxes to arrive at the retail price, which is the expected pump price of petroleum product at retail outlet.

Relief for consumers

Removing subsidy at this time is also relief to consumers as it is to the government.

When the Federal Government deregulated the price of petrol in January 2012, resulting in an increase in the price of the product from N65 to N141, the action was greeted with street protests.

The protests, which were championed by the organised labour and other civil society groups stemmed from concern by the protesters that the high cost of the product would inflict hardships on the masses.

Crude oil prices had averaged $113.81 a barrel during the said month of January, when the action took place and $111.67 a barrel for the entire year, thus hiking PMS at over N141 per litre, which led to the mass protests.

Apparently overwhelmed by the mass protests which nearly took a dangerous dimension in Lagos State, the Federal Government capitulated, reducing the price to N97 per litre.

Previous attempts by the government to eliminate or reduce subsidies were also resisted by the labour and other civil society groups on the grounds that the measure would hike the cost of products beyond the reach of the ordinary people due to the high cost of crude oil at the international market.

With the current PPPRA’s template based on the landing cost of N82.41 per litre, the total cost or expected open market price is N97.90 per litre.

It is evident that if the price of petrol is deregulated, the expected market price with the current drop in the price of crude oil will be N97.90 per litre, just a difference of 90 kobo from the current N97 official pump price.

It is even expected that the price will stumble further in view of the prevailing market dynamics.

If petrol is sold at N97.90 per litre, it will not inflict economic hardship to the people, when compared to the benefits from the reinvestment of the money earmarked for payment of subsidy in other social services and infrastructure.

After all, the official pump price of PMS is N97 per litre but the products are sold at N100 and N110 in most areas of the country today.

Even if the price of crude remains around $80 – $100 per barrel, with deregulation, private investors will be encouraged to build refineries to boost the country’s local refining power.

If more refineries are built and they are able to refine all the products used in the country, it will drive down the cost drastically because all the cost components factored into the pricing template for imported products by the PPPRA will be eliminated and Nigerians will pay for only the actual cost of the refined products

The current situation is different from the case in January 2012 when the federal government removed the subsidy on petrol, when the crude oil prices were high at $113.81 a barrel during the month and $111.67 a barrel for the entire year, thus hiking PMS at over N140 per litre, which led to the mass protests.

Options, potential challenges

Notwithstanding the continuous fall in global prices of crude oil and subsequent drop in the landing cost of petrol, Nigerian consumers will likely not see a drop in pump price of petrol like their counterparts in the United States and Saudi Arabia, unless the sector is fully deregulated.

From findings, the federal government will be quite challenged to lower its officially approved pump price of petrol in the country from its current N97 per litre for a number of reasons and all of which have market implications.

Checks by THISDAY indicate that regardless of the drop in landing cost for petrol  and  the subsequent drastic reduction in the amount paid as subsidy to petrol marketers in the country, it may still be difficult for the government to reduce the pump price of petrol because of the unpaid subsidy claims of petroleum marketers.
Also, such possibility of reduction in petrol pump price may have been negated by the recent devaluation of the naira against the dollar which is the transactional currency for petroleum marketers.

This means that marketers who import petrol into the country will still have to contend with the exchange rate differentials, which have added up in value.
It was also gathered that about  10 months of unpaid subsidy claims to the marketers by the government, has added up to make it quite difficult for  government to force a drop in pump price.

Accordingly, there are extant interests to be paid by oil marketers on facilities obtained from banks for petrol importation.

This implies that clearance of the outstanding debts by the government will have to be done before any pump price reduction can be contemplated.

But drawing from the January 2012 deregulation incidence, industry analysts explained that while the global decline in crude oil price presents the government with an ideal opportunity to discontinue with the subsidy regime.

It equally leaves it with a very difficult option to sustain considering that in a regulated market, such decision to drop the official pump price at the prevailing crude oil price will eventually boomerang with an inevitable hike in pump price when the price of crude oil rises again in future.

To this end, it was learnt that just like it was done in the days of late President Musa Yar’Adua, a presentation was recently made to the federal executive council by the PPPRA on the need to deregulate the downstream petroleum sector now and allow the market  balance itself as the case may be.




– Ejiofor Alike and Chineme Okafor, This Day

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