Data Sources and Estimations

Data for the analysis were derived from Central Bank of Nigeria publications such as the Statistical Bulletin; Annual Reports and Statement of Accounts; Economic and Financial Review; Economic and Financial Reviews, etc. The World Bank and IMF publications such as the International Financial Statistics, World Tables, World Debt Tables, etc. and other relevant sources.

Applying equations 4.22 and 4.23, the desired trade balance/GDP ratios needed to be achieved over a period of five years were obtained. Two options were advocated namely:

Option A - Maintain the current level of debt/GDP ratio in 2003 at 64.4 percent over the next five years; and

Option B - Decrease the debt/GDP ratio with 6 percentage points per year over the next five

Table 4.3: Projected Sustainable Levels of External Debt/GDP Ratio in Nigeria, 2004-2010

Years Real Interest Rate Real GDP Growth Rate [g]

External Debt/GDP Trade Balance/GDP

2004 6 5 64.4 -3.07 2005 6 5 60.54 0.79 2006 6 5 56.9 0.75 2007 6 5 53.49 0.70 2008 6 5 50.28 0.66 2009 6 5 47.26 0.65

Under option A, with a constant debt-GDP ratio of 64.4 per cent, the government needs to achieve trade surplus of 3.12 per cent in 2004 if the debt is to be sustainable. However, if the growth rate of the economy falls below 5 per cent and real interest rate remains stable, then the government has to achieve higher surpluses to keep the debt stock sustainable. On the other hand, if the real interest rate declines, then the government may be required to achieve lower surpluses. Under option B, the government will be required to achieve trade deficit to GDP of between 0.79 and 0.65 per cent over the next five years (Table 4.3). This result highlights the difficulty of stabilizing the debt ratio when interest rates and the initial levels of the debt ratios are high.

Highlight of Key Debt Episodes

It appears from figure 1 that the 1978 to 1993 or 1980 to 1993 and 1994 to 2003 are distinct episodes that would enable one to draw important policy conclusions on the sustainability of the past debt strategy.

Table 4.4: Nigeria: Assessment of Past debt Sustainability

Episodes Real Interest Rate [r] Real GDP Growth [g] External Debt/GDP Ratio Estimated Trade Gap/GDP Ratio Actual Trade Gap/GDP Ratio 1978 – 1993 8.5 2.22 58.24 -301.27 -4.91 1980 - 1993 8.25 2.74 65.39 -402.48 -5.76 1994 – 2003 6.3 3.01 87.24 -98.77 -12.59

Table 4.4 shows that the actual trade gap to GDP ratio fell too short of the required or estimated trade gap to GDP ratio which implies that the external strategy has been highly unsustainable. The implication is that the government needs to step-up its growth performance and apply or use concessional debt with lower interest rate in order to keep the debt at sustainable level.

4.3.2 Sensitivity Analysis

In order to assess the sensitivity of the estimated trade gaps to changes in the underlying

economic assumptions, several experiments were conducted. Three experiments were performed to gauge the impact on the trade gap of 0.5, 1, 1.5, 2, 2.5 percentage point downward revision in the baseline projections for GDP growth in each years during 2004 and 2008 period. The second involves 0.5, 1, 1.5, 2, 2.5 percentage increase in interest rate in each year, while the third

experiment involved a combination of the first and second experiments. The results are presented in table 4.5 below.

Table 4.5: Trade Gap: Sensitivity to Changes in Growth and interest rate

Year Experiment 1 Experiment 2 Experiment 3

2004 -1.52 -1.23 0.32 2005 0.03 0.61 3.71 2006 1.58 2.45 7.10 2007 3.13 4.29 10.49 2008 4.68 6.13 13.89

As observed from table 4.5 the impact of a decline or some percentage point reduction in GDP growth during 2004-08 is to raise resource gaps by around 1.5 surplus to 4.7 deficit of GDP (column 1 or experiment 1). The impact becomes greater as GDP growth falls during the review period. Therefore, a lower growth rate would affect the resource gap by widening the resource requirement. The second experiment which is aimed at calculating the effects on the resource gap of a percentage point rise in the interest rate relative to the baseline projection (Table 4.3 column 2). In this experiment a rise in interest rate raises the resource gaps during the period 2004-08. The rise in resource is as result of higher debt service associated with higher interest rate. The magnitude of the effect is similar to the effect of lower economic growth but more

deficit of 6.13 per cent of GDP in 2008. Finally, the last experiment which involves a

combination of both the first and second experiments shows that the estimated impact of lower growth and rise in interest rate is a substantial or radical rise in the resource gap.

For instance, resource gap moves from a deficit of 0.32 percent of GDP in 2004 to 13.89 per cent of GDP in 2008. The debt strategy becomes highly unsustainable with the experiment of a rise in interest rate and fall in growth rate of GDP.

4.4: Long-Term Sustainability Analysis and Terms-of-Trade Shock

The assessment of external debt sustainability beyond the medium term is subject to considerable uncertainty, as long-term rates of interest, economic growth, export income and government finances cannot be predicted with any degree of precision. However, it may be useful to consider the resource gaps effect that might result from prospective uncertainties that face governments in emerging market economies. Government revenues in emerging market economies are more unstable than in industrial economies, it finds itself with low revenues for an extended period of time because of, say, a collapse in the price of the country’s primary

commodity export. Emerging markets have faced long periods of low revenue realizations in the past when the price of their main commodity export has fallen. For example, governments in an oil-exporting country like Nigeria faced this situation after the collapse of oil prices in the 1980s. In such circumstances, the government is suddenly confronted with a debt stock that it had believed was sustainable when related to commodity exports were high, but which is not sustainable with the new reality of lower revenues from commodity exports.

One way of looking at the impact of uncertainty on external debt sustainability is to consider the case of a government that is credibly committed to servicing its debt in all circumstances. Such a government would need to take into account the fact that its future revenues, and consequently resource balance and growth outcomes, are uncertain, and that it could be faced with the possibility of a long period of low revenues in the future. To be credibly committed to servicing its debt in all circumstances, the government cannot borrow more than the debt that it would be able to sustain with the resource balances that would occur with these low revenue outcomes. If actual debt were below the maximum sustainable debt level, the government would be able to borrow until the threshold was reached, at which point it would

We consider what is expected to happen in the next 5-35 years following lower revenue outcomes resulting to lower potential output growth(attributable to fall in import due to fall in export income). Table 4.6 presents the estimated resource gaps calculated on the basis of the long-term simulations.

Table 4.6: Trade Gap Ratio: Sensitivity to falling Revenue and Growth

Period 1st Year (2005) After 5 Years After 10 Years After 20 Years After 30 Years After 35 Years µ -1.77 1.20 4.15 9.56 15.63 18.45

Note: For the simulation, we assume 0.25 percentage point drop in growth throughout the simulation period.

µ - resource-gap GDP ratio

The result in table 4.6 show first, the longer-run values of the resource gap to output ratio are clearly sensitive to what appears to be small differences in the values chosen for the

assumptions and the time path of the resource gaps are somewhat slow to distinguish themselves from one another. After five years, the resource gap ratio appears relatively unaffected, but after 20 years the effect is quite significant. After 30 years, the resource gap becomes quite large, thus making the debt path highly unsustainable. Second, as long as revenue and growth continue falling, the unsustainability of Nigeria’s debt strategy appears unlikely to be reversed over the longer term, as unsustainable resource gap appears in a greater extent into the future.