Nigeria - Country Partnership Strategy FY14-17 Performance and Learning Review

Document of

The World Bank Group

FOR OFFICIAL USE ONLY

Report No. 104616

INTERNATIONAL BANK FOR RECONSTRUCTION AND DEVELOPMENT

INTERNATIONAL DEVELOPMENT ASSOCIATION

INTERNATIONAL FINANCE CORPORATION

AND

MULTILATERAL INVESTMENT GUARANTEE AGENCY

PERFORMANCE AND LEARNING REVIEW

OF THE COUNTRY PARTNERSHIP STRATEGY

FOR

THE FEDERAL REPUBLIC OF NIGERIA

FOR THE PERIOD FY14-FY17

August 24, 2016

Nigeria Country Management Unit, AFCW2

International Finance Corporation

Multilateral Investment Guarantee Agency

The date of the last Country Partnership Strategy was April 24, 2014

CURRENCY EQUIVALENTS

Exchange Rate Effective as of July31, 2016

SDR1= US$1.39

US$1= Naira319

GOVERNMENT FISCAL YEAR

January 1 – December 31

ABBREVIATIONS AND ACRONYMS

THE FEDERAL REPUBLIC OF NIGERIA

PERFORMANCE AND LEARNING REVIEW

Table of Contents

I.Introduction

II.Main Changes in Country Context

A.Political Environment

B.Security

C.Recent Economic Developments and Outlook

D.Poverty Reduction and Shared Prosperity

E.Emerging Priorities and Government’s Agenda

III.Summary of Program Implementation

A.Portfolio Performance and Issues

B.Partnerships and Leveraging

C.Progress toward CPS Outcomes

IV.Emerging Lessons

V.Adjustments to the Country Partnership Strategy

A.Relevance of the Current Strategy

B.Modification of the Results Framework

C.Indicative WBG Program

D.CPS Program Adjustments

VI.Risks to CPS Program

VII.Annexes

Annex 1. Updated CPS Results Matrix

Annex 2. Matrix of changes to original CPS Results Matrix

Annex 3. Matrix summarizing progress toward CPS Objectives

Annex 4. Drivers of Conflicts and Fragility in Nigeria

Annex 5. Learning by Doing in Nigeria

Annex 6. The North-East Nigeria Recovery and Peace Building Assessment

List of Figures and Tables:

Figure 1. NE Nigeria: Conflict fatalities by Local Government Area and displacement by ward

Table 1. Selected Macroeconomic Indicators for Nigeria

Table 2. Proposed Lending Support (US$ million)

Table 3. Proposed Non-Lending Support – ASAs

Table 4. Summary of Risks to the WBG Program

Table 5. Overall Recovery and Peace Building Needs by Component

I.Introduction

1.This Performance and Learning Review (PLR) assesses progress to date on the World Bank Group’s(WBG) Country Partnership Strategy (CPS) for the Federal Republic of Nigeria for the periodof fiscal year (FY) FY14-FY17 discussed by the Board of Directors on April 24, 2016. The CPS’s objectives are: (a) promoting diversified growth and job creation by reforming the power sector, enhancing agricultural productivity, and increasing access to finance; (b) improving the quality and efficiency of social service delivery at the state level to promote social inclusion; and (c) strengthening governance and public sector management, with gender equity and conflict sensitivity as essential elements of governance.

2.ThePLR confirms the alignment of the CPS objectives with Nigeria’s development goals, but finds mixed progress towards achieving the CPS outcomes. Two out of seventeen CPS outcomes have been achieved while eight are on track to be achieved during the CPS period. However, it will take longer than expected – beyond this CPS period – to achievesome of the remaining sevenoutcomes. Two risks that were identified in the CPS significantly materialized: (1) macroeconomic risks; and (2) intensified security challenges. These developments are respectively discussed in detail in section II.C on Recent Economic Development and Annex 4 on Drivers of Conflict and Fragility in Nigeria. Macroeconomic difficulties and intensified security challenges, along with the longer than expected period of political transition and institutional weaknesses at subnational and national level slowed down the progress.

3.The PLR proposes to adjust the CPS to Nigeria’s emerging new development priorities. The 2015 elections brought to power the opposition party which took office in a context of marked security challenges and a severely weakened economy. The new administration has requested the WBG’s support in addressing macroeconomic challenges. The PLR thus proposes the addition of a new cross-cutting/foundational cluster – Restoring Macroeconomic Resilience Cluster (CPS Cluster 4) – forthe remainder of the CPS period. The Government of Nigeria (GoN) has also requested additional WBG support in some prioritized areas such as North East (NE) recovery; diversifying the economy; enhancing climate resilience; and safeguarding social expenditures at a time of fiscal crunch while improving the efficiency and effectiveness of those expenditures. The PLR proposes to integrate this additionalsupport in the three original CPS clusters.

4.A Systematic Country Diagnostic (SCD) will be prepared in FY17 to provide a knowledge platform for addressing Nigeria’s development challenges in the current changing context. The SCD will serve as the basis for the Country Partnership Framework (CPF), covering FY18-FY20.

II.Main Changes in Country Context

A.Political Environment

5.The 2015 elections marked, for the first time in Nigeria’s history, a peaceful transfer of power between two political parties. Since 1999, Nigeria had been governed by the People's Democratic Party. In March 2015, GeneralMuhamadu Buhari, the candidate of the All Progressives Congress, won the presidential election, marking a critical juncture in Nigeria’s democratic transition.

6.The new cabinet was sworn into office seven months after the elections, in November 2015,reflecting the complexities of forming the newcoalition government. Decisionmaking mechanism under the new GoN calls for subtle political and regional trade-offs in a political environment whose stability rests on an elaborate system of power sharing at the federal level.

7.The new authorities reconfigured the federal Government. The number of ministries was reduced from 32 to 24. Budget responsibility was transferred from the Federal Ministry of Finance (FMOF) to the Ministry of Budget and Planning. In addition, the office of the Vice President was given a much stronger coordinating role in economic and other affairs. The President took on the role of the Minister of Petroleum.

8.The sharp decline in oil revenues has rekindled the debate on fiscal federalism. The considerations how to unlock the economic potentials of subnational levels of government has rekindled calls to devolve more powers for economic development to the states.

B.Security

9.The security situation inNigeria continues to beinfluenced by terrorism, armed conflict and general crime. The Boko Haram insurgency in the North East (NE) has proved a considerable challenge to the country’s security forces and has led to the loss of more than 20,000 lives, the displacement of 2 million people, and has negatively affected the livelihoods of 6 million more people.[1] The impact of the insurgency has transcended the geographic borders of the country, imposing economic and security costs on neighboring countries. In parallel, the attacks by Fulani herdsmen on farmers have intensified as they move south across Nigeria’s “middle belt” as the Sahel encroachestheir pastures. Other security challenges include crime and kidnapping, particularly in urban areas, attacks on oil and gas infrastructure, and threats of renewed militancy in the Niger Delta. There is also some simmering discontent in Biafra in South East. At the root of the security challenges are high levels of poverty, joblessness, growing numbers of frustrated youth, as well as natural resources degradation and climate stressors (see Annex 4 for details).

10.President Buhari has acted decisively to tackle the challenges of insecurity. Steps have been taken to build a more efficient and effective coalition with Nigeria’s neighbors against Boko Haram. An offensive in late 2015 drove Boko Haram from much of the territory it held in Northeast Nigeria. However, the militants have since struck back with suicide bombings and attacks on civilians. The GoN’s response to the crisis in the NE has focused largely on security, humanitarian support, and service delivery. At the developmental level, the federal and state governments have formulated two regional initiatives, the Presidential Initiative for the NE, and the NE States Transformation Strategy. Complementing these are strong efforts to reach a regional solution to the shrinkage of Lake Chad, which has resulted in increased social conflicts and high rates of internal and cross-border migration. The critical and immediate challenge facing the GoN is to ensure the welfare of internally displaced people (IDPs), the host communities, and the population in the NE.

11.The intensified attacks by militants on oil and gas infrastructure in Niger Delta are affecting Nigeria’s oil and gas output. Theattacks by the militant group – Niger Delta Avengers – since early 2016 have brought Nigeria's oil output to a 20-year low[2]. The GoN has been seeking solution by extending the Presidential Amnesty Program, followed by the scaling down of the military campaign and engaging in a dialogue with the Niger Delta Avengers.

C.Recent Economic Developments andOutlook

12.Recent Economic Developments: Three major economic transitions – the slowdown and rebalancing of the Chinese economy; lower commodity prices, especially the sharp drop in oil prices; and tightening financial conditions and risk aversion of international investors – have had a significant impact on the Nigerian economy. These shocks have compounded an already challenging development environment.

13.The fall in oil prices in 2014 found Nigeria in a position of weakness. Economic management during the latter part of 2014 and 2015 was prudent, but mostly consisted in running down buffers such as the Excess Crude Account and international reserves, and critical structural reforms were not undertaken as the country prepared for Presidential elections in 2015. Economic management during the run-up to the 2015 elections focused on short term stabilization policy but key structural reforms – non-oil revenues, quality of expenditure especially on oil subsidy and state owned enterprises (SOEs) governance reforms – were not addressed.

14.The Buhari administration took office on May 2015 in a context of a severely weakened economy, large infrastructure gaps and poor service delivery that accumulated over the years. Further decline in oil prices and a resulting decline in revenues, enhanced security challenges, and the overall uncertain global environment all manifested with force in Nigeria. Revenues which were already low at 10.5 percent of Gross Domestic Product (GDP) in 2014 declined to 7.8 percent of GDP – all of it on account of the decline on oil revenues – with an even more negative outlook for 2016. Oil exports almost halved from US$76.5 billion in 2014 to US$44.4 billion in 2015.

15.The collapse in oil prices unmasked another weakness in public finance institutions, namely the rules governing the intergovernmental fiscal relationship. Similar to the federal government, states and local government budgets are also dependent on oil. However, the structural weakness went unaddressed given the buoyant liquidity during boom years. In 2013, oil revenue represented 73 percent of total revenue of the states. The collapse of oil prices and the liquidity crunch revived tensions on the burden of the adjustment between federal government and subnational governments that ended in a state bailout in July 2015. In May 2016, the liquidity situation had gotten worse given the drop in oil production due to the insurgent attacks on the oil and gas pipelines. Salary arrears have continued growing as the bail-out fund was not used for payment of salary arrears as intended, and debt service associated with the first bail-out increased resulting in negative federal account allocation for some states. Hence an extension of the bailout was agreed in 2016 under the Fiscal Sustainability Plan that includes 22 point reform agenda to rationalize expenditure, increase internally generated revenue, strengthen public financial management, increase transparency and accountability, and ensure fiscal and debt sustainability.

16.In 2015 the collapse of Nigeria’s terms of trade resulted in Nigeria being for the first time in decades a net importer of savings from the rest of the world. From generating an average Current Account (CA) surplus of 3.5 percent of GDP in 2012-2014, the CA deficit reached around 3 percent in 2015 and is expected to remain at that level in 2016 and decrease gradually to a deficit of 1 percent of GDP by 2020.

17.An evolving monetary policy coupled with a fixed exchange rate in the period 2014 – Quarter 1 of 2016 exerted additional pressure on the external accounts and on the real sector. The Central Bank of Nigeria (CBN) reacted to a growing gap since late 2015 between the official exchange rate, the interbank rate, and the market cash rate, and pressure on reserves by tightening administrative controls. These measures include directing limited CBN forex offerings on the interbank market to higher priority transactions; a ban on use of either export proceeds or forex markets for financing the importation of goods from 40 categories of items that are deemed of relatively low importance or seen as candidates for import substitution. In June 2016, the market exchange rate exceeded by 60 percent the official rate and lack of access by banks to foreign exchange has become a significant detriment to private sector activity and growth.

18.Inflation has been accelerating and reached 16.5 percent in June 2016 (year-on-year). While the initial rise in inflation was partly due to the currency depreciation and pre-election spending, the recent acceleration has been due to a combination of factors, mainly higher electricity tariffs, increased prices of all fuels[3], low food supplies at the beginning of the planting season, and a scarcity of foreign exchange.

19.Due to significant exposure to the oil and gas sector (26 percent of the loan book), the quality of assets in the banking sector has deteriorated. According to recent Financial Stability Report, the Non-Performance Loan (NPL) ratio deteriorated from 2.9 percent in December 2014 to 4.9 percent in December 2015[4]. It is estimated that the NPL ratio for the Nigerian banking sector would reach 12.5 percent by end-2016[5].

20.In this context, GDP growth fell from 6.3 percent in 2014 to 2.7 percent in 2015, and further went into negative territory, -0.4 percent in Quarter 1 of 2016. The macro instability generated initially by external shocks was compounded by a combination of policy responses and outcomes, such as pegging the exchange rate, rationing the foreign currency, implementing a stop-go-stop monetary policy and delaying the execution of the budget. This growth rate is significantly below the historical standards, and below the potential growth rate of the economy even at low commodity prices. There is evidence that countries which grow fast and suddenly fall into a growth trap, i.e.growthbelow potential have two things in common: macro instability and lack of progress in institutional reform. Hence, the government’s program, and the proposed revision of the PLR, are oriented to supporting this reform agenda.

21.Outlook: Over the medium term, economic recovery is likely to be modest. Growth in 2016 is expected to contract by -1.5 percent although the economy is expected to stop contracting in the third and fourth quarters if the militant attacks on oil and gas infrastructure can be halted and production restored to normal levels. In 2017, growth is projected to recover to 1 percent as recent initiatives start to bear fruit. These include adoption of a flexible exchange rate and improved governance in the oil sector which should facilitate an expansion in production, while the greater clarity in regulation and the gradual rebound in international oil prices should result in renewed investment[6]. The general government deficit is projected to widen in 2016 before improving in 2017, while the external CA deficit is likely to decrease gradually. The reduction in the deficit will result from slightly higher projected oil prices and production levels and increased non-oil revenues largely on account of increased efficiency in the value-added tax (VAT) collection.