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Declining GDP stokes inflation




Declining gross domestic product (GDP) has stirred up fear of rising inflation in the economy following 11-month straight uptick recorded before it pointed at 12.82% in July 2020. The nation’s economy size plunged 6.1% year on year in the second quarter amidst rising cases of coronavirus pandemic.

Analysts explained that this level of contraction is expected to bear on households’ disposable income amidst falling purchasing power of naira. Price instability, being one of the core objectives of Nigeria’s central bank has worsened production cost as the manufacturing sector grapples with rising costs profile.

Recall that Nigeria’s central bank had targeted inflation rate of 6-9%, thus analysts expressed that with inflation hitting the rooftop, and projected to grow further, which will threaten the totality of inflationary targeting objective.

Meanwhile, the inflation profile has impacted the local currency as many investment firms begin to flood dollar assets investment windows targeted at high net worth individual clients as a way to protect their wealth.

In the fixed income market, average yields on government securities have plunged significantly but foreign investors willing to exit remain glued to the market due to scarcity of foreign exchange. Naira has plunged significantly due to weak accretion into the external reserves, of which analysts attributed to the scarcity of foreign exchange and lower investment sentiments in the market.

 Similar to other countries that have published Q2-2020 numbers, Nigeria recorded a negative year-on-year GDP growth, the first of such since Q1-2017, and the largest quarterly growth contraction in the re-based GDP series. Real GDP contracted by 6.10%, which was substantially lower than the +1.87% year on year expansion in Q1-2020 and +2.12% in Q2-2019, amid the COVID-19 pandemic and social distancing measures adopted to contain the spread of the virus.

In their views, analysts at Chapel Hill Denham stated that the GDP outturn was much worse than the CBN’s optimistic projection of -1.03%. Chapel Hill Denham said largely, the decline is in line with its expectation, as it fell within analysts’ forecast range of -5.0% and -8.0% year on year.

However, analysts said despite the weakness observed in Q2, the print largely outperformed developed and large emerging markets, possibly due to the relatively large size of Nigeria’s agricultural sector and the informal economy, both of which have proven resilient during the pandemic.

NOVA Merchant Bank, however, stated that it expects second-round effects of the economic disruption in the form of massive layoffs in the formal sector, corporate defaults, tightening of financial conditions and weaker capital spending.

“While the headline GDP contraction came in lower than our forecast, following much slower rate of contraction in manufacturing, and crude oil, we are however surprised about the level of contraction in construction and trade”, the Merchant Bank stated.

NOVA noted that while a large fraction of the formal sector continues to operate sub-optimally, the informal sector (which accounted for 65% of Nigeria’s 2017 GDP) was completely shut down for the most of the second quarter. Beyond the actual shutdown of activities in the informal sector, the income to participants was materially hampered with a transmission to lower consumption and demand.

“Even with our expectation of the complete opening of the economy at the end of July with strict rules on social distancing over the rest of the year, we stated that the return to full-fledged economic activities might remain slow as complete containment without major escalation of Covid-19 could extend until the end of Q3 2020”, Nova stated.

In all, analysts’ project second-round effects of the economic disruption in the form of higher unemployment, weaker capital spending (in both public and private sector), corporate defaults and even more significant supply-side disruptions. The oil and gas sector fell by 6.63% year on year, from 5.06% in Q1 of 2020 to 7.17% in Q2 of 2019.

Chapel Hill’s analysts stated that this was against the backdrop of a 10.40% year on year and 12.6% quarter on a quarterly decline in oil production to 1.81 million barrels per day (mb/d), in line with the OPEC oil production cut agreement, which limited Nigeria’s oil production to 1.41mb/d (excluding condensates) between May and June.

The investment firm explained that the oil & gas sector has seen worse periods, particularly at the peak of militant attacks on oil & gas infrastructure in 2016. However, analysts said the larger non-oil sector, which accounts for over 90% of economic output, shrank by a record -6.05%, from +1.55% in Q1-2020 and +1.64% year on year in Q2-2019.


Although telecoms economy increased +18.1%, financial institutions expanded 28.41% and agriculture increased 1.58%, leading the sectors that provided some support for the non-oil economy, manufacturing dropped by 8.78% and trade segment receded 16.59% were underwhelming.

Nigeria’s industrial sector was the worst hit by the pandemic restrictions, as output shrank substantially across major sub-sectors such as oil & gas as it recorded negative growth of 6.63% from 5.06% increase delivered in Q1-2020.

Manufacturing declined 8.78% from +0.43% growth contributed in Q1-2020 and construction slipped 31.77% from 1.69% added to the economy in Q1-2020.

“The strong growth in financial institutions reflects the sustained positive knock-on impact of the CBN’s loan-to-deposit ratio policy, which has resulted in a 14.5% year on year expansion in credit to the private sector as at June 2020”, Chapel Hill stated.

Analysts noted that the telecoms sector was perhaps the biggest winner of the pandemic restrictions, as industry voice and data subscribers expanded by 12.8% and 17.2% respectively. Public administrations sector benefited from the recent implementation of the new minimum wage law, which raised public sector wages across levels.

The major drags to services activities were traded which dropped 16.59%, education fell 23.12%, and real estate declined 21.99%, and transportation and storage tailed-off 49.23%. Chapel Hill said based on high-frequency data it tracks, the firm believes economic activities have shown signs of improvement, and recovery may be underway.

From the supply side, PMI data indicate that the economy remains in recession, but the severity of the contraction appears to have eased. Both manufacturing and non-manufacturing PMI have rebounded strongly, to 44.9 and 43.3 in July from 42.4 and 25.3 in May.

From the demand side, household consumption expenditure appears to have partly recovered, as VAT collection, a proxy for consumer spending, has expanded for three consecutive months, after shrinking in April.

However, Chapel Hill said downside risks remain ongoing balance of payment constraints and lack of FX liquidity, weak fiscal accounts, which could limit the implementation of the N2.3 trillion (1.5% of GDP) Economic Sustainability Plan, and potential underwhelming harvest season, due to COVID-19 induced disruptions during the planting season and lack of rainfall.

“On a balance of risks, we expect the gradual reopening of the economy to drive a sharp rebound in activities (on a quarter-on-quarter basis) in Q3-2020E, although we expect growth to remain negative on a year-on-year basis”, Chapel Hill stated.

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