Thoughts on FG’s Plans To End Subsidy in Electricity and Downstream Petroleum Sectors

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The Group Managing Director of the Nigerian National Petroleum Commission (“NNPC”),  Mele Kolo Kyari has, yet again, announced plans to remove subsidy on Premium Motor Spirit (“PMS” also known in Nigeria as Petrol or Fuel) (more commonly known as Fuel Subsidy). The Federal Government of Nigeria (“FGN”) has also expressed its determination to remove all types of subsidies in the electric power sector. This announcement was made at the opening of the 14th Nigerian Association for Energy Economics/IAEE conference in Abuja, recently.

In the year 2020, the FGN reduced the pump price of petrol from N145 to between N123.50 and N125, following the steep drop in oil prices occasioned by prevailing low demand for oil, because of the global economic shutdown itself prompted by the coronavirus (“COVID-19”) pandemic. It would appear that the argument is that the local pricing should reflect the global energy market conditions.

History of Subsidy in Nigeria

Fuel Subsidy has historically been a divisive issue in Nigeria, with statistics showing that Nigeria spent at least N10trillion on Fuel subsidy between the years 2006 and 2018. In the midst of reports that Nigeria projected to spend circa N750.81billion on petrol subsidy in 2020, many have argued that Fuel Subsidy in Nigeria is a subsidy which benefits only the rich and the funds spent on petrol subsidy would be more appropriately applied to fixing Nigeria’s huge infrastructure deficit, as well as providing funding for medium, small and medium scale enterprises in Nigeria to benefit a wider spectrum of the society.

As far as the electric power sector is concerned, the federal government pays an estimated N30 billion every month as electricity subsidy. This is in spite of the fact that the electric power sector is in private hands. The argument is that several billions of dollars have been spent on subsidy and related issues in the electric power sector without any commensurate improvement.

This article analyzes the measures currently being implemented by the FGN in relation to the subsidy regime in Nigeria and what they indicate about its long-term plans for the regulation of the price of petrol. It also recommends steps to be taken to cushion the effects of such removal on the less privileged and most vulnerable members of the society.

What Subsidy Means in Nigeria- The Energy Subsidy Situation

A subsidy can be defined as a discount provided by a government to ensure the availability of essential goods and services to the public at affordable prices. According to the International Energy Agency, subsidy means “any government action that lowers the cost of energy production, raises the revenue of energy producers or lowers the price paid by energy consumers” The energy (both downstream petroleum and electricity) subsidy regime operated by the FGN was a means by which the FGN capped the price of petrol and electricity at prices determined to be affordable for the majority of the populace regardless of the prevailing market forces and actual cost of production.

In practical terms, the petrol subsidy is calculated as the difference between the Expected Open Market Price (“EOMP”) and the approved retail price of petrol, both of which are determined by the Petroleum Products Pricing Regulatory Agency (“PPRA”) in line with set policies. The EOMP is determined as the sum of landing costs of petrol and a distribution margin. In simple terms, it is composed of the cost of production (that is the cost of purchasing refined petrol and importing same into the country) and an expected profit margin per litre of petrol. The PPRA determines the approved retail price of petrol (the “pump price”) derived from a consideration of the EOMP vis-à-vis prevailing economic conditions and the FGN pays the difference between the EOMP and the pump price as Fuel Subsidy to the petrol marketers to ensure that petrol is sold to the public at the approved retail price without incurring losses for the marketers.

For electricity, we have had the concept of sculpting where electricity prices have not been cost-reflective historically and did not take into consideration the costs of inputs such as gas and its pricing. The idea under the Multi Year Tariff Order was to avoid rate shock such that after privatization, electricity prices didn’t escalate substantially and cause a systemic shock at least as far as consumers were concerned. Beyond government subsidy, there was also the regime of cross-subsidy such that larger consumers also subsidized smaller consumers.

Whilst the FGN has sought to entrench reforms through, amongst other steps, the removal of subsidy from the time of President Goodluck Jonathan, there has been stiff opposition from the citizenry as the citizens see cheap energy prices as the only benefit from the FGN, historically. Nigerian citizens especially see subsidy as their only benefit from Nigeria’s oil wealth.

Any Benefits of the Removal of Energy Subsidy and any Role for Consumer Protection

Both the downstream petroleum and electricity sectors are sectors which should ordinarily thrive on efficiency and without efficiency profitability should not be expected. What FGN’s subsidy does is to discourage or not provide any incentive for efficiency and hence, the failure of both sectors despite several billions of dollars pumped into both sectors in the last twenty years.

Where subsidy is removed and producers and operators understand that there will be no profitability without efficiency, then there is an incentive to improve both sectors. To, however, prevent abuse, the Federal Competition and Consumer Protection Com (“FCCPC”) will need to be more alive to its responsibilities.

It is also worthy of note that with the liberalization of the pricing regime, competition law will be play a more critical role, to protect the interests of consumers, in line with the Federal Competition and Consumer Protection Act. The FCCPC would therefore monitor the activities of oil marketers to prevent collusion between oil marketers to drive up the price of petrol, especially in situations such as the present situation where, for example, the global price of crude oil and gas are low, and the FCCPC would, within its powers under the FCCPC Act, investigate complaints from consumers on any breach of the provisions of the FCCPC Act and impose sanctions on any defaulting power utility or oil marketer.

Removal of energy subsidy will encourage competition especially if the removal of subsidy also encourages transparency and reduces corruption. International businesses are likely to consider the sector and find cheaper means using newer technologies and other means to improve energy production, transportation and distribution. Of course, the FGN needs to do much more around the dual issues of infrastructure and security to improve the attractiveness of the energy sector in Nigeria.

These reforms to the energy sector, if implemented in line with the projections herein, especially if tackled together with the challenges of insecurity and poor infrastructure (infrastructure is an area where there have been modest gains and improvements in the last few years), will engender economic development.

With full price liberalization, oil marketers will be free to adjust the prices of petrol in inland areas to reflect the extra transportation costs, which would render the Petroleum Equalisation Fund (“PEF”) obsolete thus further reducing government expenditure. The funds saved on these adjustments can be allocated towards critical but underfunded areas including Nigeria’s healthcare system and the improving infrastructure, measures which will be of the benefit for the masses in Nigeria.

Economic development will also be boosted if the FGN follows through with plans to increase Nigeria’s refining capacity, boost domestic production of petrol and generally improve the attractiveness of the country and the energy sector, in particular, to international investment. Recent reports have shown the NNPC’s plans to shut down Nigeria’s four refineries for major repairs and to subsequently enter into Operations and Maintenance contracts with private companies for the operation, management and maintenance of the country’s refineries. It is expected that the selected private companies have the requisite capacity to operate and maintain the refineries which have historically operated well below capacity.

Conclusions on Cushioning the Effects of Subsidy Removal on Ordinary Citizens

It is hoped that the FGN’s decision to review the pricing regime of the energy sector, is an indication of its intention to finally end fuel subsidy and liberalize petroleum pricing whilst also encouraging efficiency and discipline in the electric power sector. It is also hoped that the FGN will complement the removal of fuel subsidy with improving Nigeria’s refining capacity and applying funds saved from the fuel subsidy to critical and underfunded areas, in order to promote economic development.

It pertinent to state that it has always been the author’s view, that subsidy was a bad idea in the long term, for the electricity and downstream petroleum sectors. Subsidy encourages corruption and inefficiency in two sectors which should thrive only on efficiency. Further, government revenues cannot continue to sustain subsidy. What should be done instead is to reduce the need for petroleum products by ensuring the power sector works as many people will substantially reduce their need to buy petroleum products if the electric power sector works.

Rather than have subsidy, govt should set up well run social intervention programs for the most vulnerable and the poorest people as is done elsewhere. We need accurate and efficient records, honesty and competence in public service and politics to achieve those. We also require strong institutions. If the electric power and transportation sectors work, reliance on petroleum products will reduce substantially. Then the debate around subsidy will weaken tremendously. Govt should get to work and create a more enabling environment for the transportation and electric power sectors to work. Govt needs to do much more, in terms of policy, regulation, attractiveness of the energy sector in Nigeria and enforcement of rules (whilst not overregulating) for things to work in the energy sector.

 

 

 


Dr. Ayodele Oni ([email protected]), a commercial lawyer, specializes in international energy (oil, gas & power) investment law.

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