What happens if Nigeria doesn't stop borrowing?

Nigeria is living above its means.

With debt servicing exceeding revenue, the country has gone overboard—threatening its ability to pay back. The issue isn’t just that we’re taking on more debt; we're also rapidly depleting rainy day funds like the Excess Crude Account (ECA), which has declined from over $2 billion in 2015 to less than $400,000 today.
 

It’s time to consider our options if we cannot repay our loans. With the country taking on more expensive loans and not making enough revenue, it’s only a matter of time before we’re unable to pay them back. Nigeria has primarily two options: debt restructuring and continuous borrowing. Last week we explored the former, and today we’ll see the possibility of the latter: continued borrowing.

But first, a recap of what debt forgiveness or restructuring would look like for Nigeria. Nigeria is already familiar with this and has done it repeatedly in the past. In 2004, Nigeria requested debt forgiveness from the Paris club, but before that, we had restructured our debt with international banks in 1992.

In 2004, Nigeria owed the Paris club and multilateral organisations like the World Bank and IMF around $33 billion. The country could either improve the economy and the well-being of the people or pay back loans. Luckily, we successfully restructured the loan, paid back all of it and got debt forgiveness of about $18 billion.

However, today’s debt is very different from 2004. For one, most of Nigeria’s external creditors are investors like hedge fund managers, who are relatively more challenging to negotiate with for debt forgiveness or restructuring. Secondly, most of the money is being owed locally—to the CBN, which affects Nigerians like you and me mainly because it increases inflation. 

Given the new structure of Nigeria’s loans, debt restructuring looks like a complex and politically expensive option due to the stringent austerity measures Nigeria would have to undergo. The IMF and other bilateral partners would expect reforms like subsidy removal, public spending cuts and other budget-tightening measures that would make the country more fiscally prudent. While this might sound like a good measure to improve the economy, it has significant implications for Nigerians, especially when implemented simultaneously.

For instance, when you hear that the government should reduce its expenses, you probably consider salary reductions for senators and other government staff. We admit that it’s probably a good place to start, but one of the ways the government can (and might) reduce its expenses is by cutting off the universities it sponsors. The implication is that schools would be expected to fund themselves, which would mean passing on the cost of schooling to the students. That in itself is not a bad idea because it would make universities independent and could reduce the frequency of strikes. However, when implemented as an austerity measure, it is usually combined with other policies like subsidy removal. Imagine a family whose children’s school fees just tripled and the price of fuel (and food) also spiked, all at the same time. That would be the fate of most Nigerian families, and it is enough to tip the country into a civil crisis—ask Egypt.

That’s what happens when the government implements the policies accompanying debt forgiveness. The idea is that the creditors want the countries to enforce policies that make them more credit-worthy in the future so that they never need debt forgiveness or restructuring again. It gets tough for the country before it becomes easier.

But the government has yet another option. It can keep borrowing to pay back existing loans and meet its obligations, and this article will focus on that option.
 

Who will give us money?

What happens if Nigeria continues to kick the can down the road by borrowing more?

The government can either borrow locally or from foreign sources. Locally, there are two options the government can borrow from to fund its budget: commercial creditors or the Central Bank of Nigeria (CBN). When the government borrows from commercial sources, it's getting money from individuals or institutional investors (hedge funds, investment companies and individuals). On the other hand, foreign loans could come through multilateral organisations like the World Bank and IMF or from countries through bilateral loan arrangements or even the foreign capital market.

Loans from the IMF and World Bank are usually concessional; they are given to the government on favourable terms. These loans are provided more so during a debt crisis or macroeconomic problem. The IMF and World Bank are typically eager to come to the aid of any country going through a debt crisis. In 2010, when Greece was going through a debt crisis—its debt had been characterised under “junk status”—the IMF did not hesitate to give the country €60 billion to stabilise the economy.

The IMF aims to give countries loans to rebuild their international reserves, stabilise their currencies, continue paying for imports, and restore conditions for strong economic growth while correcting underlying problems.

The last phrase, "while correcting underlying problems," is key to accessing those loans. Greece had to undergo severe austerity measures to obtain IMF bailouts, like laying off 25,000 public servants (primarily teachers and police). Likewise, in 2020, the World Bank approved Nigeria's request for a $1.5 billion loan because the government had agreed to development reforms like job creation to reduce poverty. But this was after months of consultation with the ministry of finance and CBN on stricter reforms like unifying the exchange rate.

However, Nigeria’s conditions in 2020 were more lenient than those given to Greece. That’s because in 2020, the entire world was going through a pandemic, and the government wasn’t earning enough from crude oil exports due to low prices and near zero demand. We had to choose between paying back loans and saving lives by erecting isolation centres and buying personal protective equipment (PPE). So, the World Bank’s reform for the unification of exchange rates was more of a recommendation than a demand. Also, in 2020, the IMF gave Nigeria a $3 billion loan, its first loan from the IMF—ever!—without any conditionalities.

The world was going through a pandemic, and people were dying. So, not giving Nigeria the loans because it failed to unify its exchange rate or meet any other reform would have come off as morally unethical and tone deaf.

Today, countries have learned to live better with Covid. So, the IMF and co are less sympathetic to a country that has failed to be fiscally prudent. As such, Nigeria must play by the rules or go home. I’m saying that although these multilateral institutions are easier to borrow from, taking this route isn’t an attractive option for Nigeria because the reforms that come with the loan are very unattractive for the borrowers.

However, as we saw with the Covid-19 pandemic, multilateral organisations typically act as a lender of last resort. So, multilateral organisations are the go-to lenders when countries can’t access loans through other means.  For instance, between 1993 and 1998, Nigeria was under a military regime that was unfriendly to human rights policies. Therefore, the US and other members of the Paris club imposed some economic sanctions on Nigeria. One of such sanctions was that the Paris club suspended all forms of debt restructuring for Nigeria. In response to these sanctions, Gen. Sani Abacha, the Head of State at the time, stopped paying Nigeria’s debt to the Paris club and only focused on paying back debt to non-Paris club countries and commercial loans. This caused Nigeria to accumulate $4 billion in late payment fees and debt payment arrears.

While all this was happening, the multilateral partners were still extending loans to Nigeria because the country was paying back its loans. This was Nigeria’s only source of financing as loans from other countries and the capital market dried up due to economic sanctions placed on the country.

From all I’ve explained so far, it’s safe to say that in an event where Nigeria is unable to pay back its loans, multilateral organisations will always be there to bail out the country. This is great news for Nigeria, but not necessarily for Nigerians because these organisations will demand a change in Nigeria’s fiscal reforms that’ll hurt Nigerians in the short term.
 

Borrowing from other countries

This next option is bilateral loans—borrowing from other countries, which are usually approved on a case-by-case basis and are typically different.

China is Nigeria's largest bilateral creditor and offers loans on a project-by-project basis, primarily for infrastructure projects. With Nigeria's ability to pay back loans in question, China is bound to back down. Sensing this, the country had already reduced its pledge to Africa in 2021.

Would other countries give us loans instead?

Well, that depends on how much these countries stand to gain from helping Nigeria out. History shows that countries are willing to extend bailouts or help debt-distressed countries when it's in their best interests. Their interests might align if the countries are trade partners because one country’s distress might strain imports or exports. Many wealthy countries could also see a bailout as an opportunity to negotiate diplomatic agreements with countries in distress.

For instance, when Mexico had the Peso crisis, the US provided the country with a bailout because it saw an opportunity that would benefit US exporters. Shortly after, the US signed the North American Free Trade Agreement (NAFTA) between the US, Canada and Mexico. Mexico benefited greatly from NAFTA: farm exports to the US tripled after the pact, creating many jobs for Mexicans. However, it did not live up to its promise of increasing people’s wages,  reducing poverty in Mexico and emigration from the country. However, Mexico and Canada remain the US’ two largest export partners to date, buying over 25% of the US exports. 

Other interests align when the country has lent to the distressed country so much that it has to bail out the country or stand a chance of losing the money loaned to it in the past. It’s almost like an investor that has funded a business at its early stages but chooses to fund it in later stages too so that the company can succeed and give the investor desired returns.

In some cases, it’s not the creditor country that supported the distressed country in the past; but its citizens or strategic businesses in the creditor country. For instance, in 1997, the US gave South Korea a bailout when there was the possibility that South Korea may default on its loans. The US did this because many American banks had taken on a lot of South Korean stocks, and their failure would have affected the US financial sector. 

Nigeria’s total commercial debt is about $15 billion, which is relatively small compared to the value of financial sectors of large creditor countries like the US ($50 trillion), UK($30 trillion) and China ($58 trillion). Although we're unsure of who holds the majority of our foreign bonds, there is very little chance that any country is coming to bail us out for fear that our inability to pay back will cripple its financial sector.

Therefore, Nigeria can still borrow from other countries, but it would be from countries whose interests align with Nigeria’s. For instance, a bailout could come from the EU funding the Nigeria-Algeria pipeline for gas, given the EU’s urgent need for gas. However, the funds released would only be targeted at the pipeline, not for other projects. Also, Nigeria must stay alert so that the forged partnerships are not detrimental to the Nigerian economy in the future.

So far, I’ve explained that one of the sources of borrowing is from other countries. Still, this option only comes when the countries view the bailout to Nigeria as valuable to their progress, either through trade partnerships or strengthening their institutions. 

Borrowing from the capital market

Nigeria can still borrow from the capital market—locally and internationally. However, the more we borrow, especially from the external market, the higher the interest rates and risk of severe credit ratings. The implication is a more extreme debt risk. That is what has brought us this far, as Nigeria took on more loans. Before 2016, Nigeria had just $1.5 billion in Eurobonds; by mid-2022, it had $15 billion worth. This increased interest payments from barely anything in 2016 to $50 million in Q1 2022. Borrowing more would cost much more.

This is mainly because our credit rating continues declining as Nigeria borrows. Earlier this year, JP Morgan delisted Nigeria’s bond from the overweight list, which means our assets are risky. Also, the government had to recall its Eurobonds issue earlier this year because the interest rate was too high. Remember how Nigeria’s loan to the Paris club increased by $4 billion because of accrued interests and penalties?

Borrowing locally will be just as expensive, mainly because, like the international market, interest rates are decided based on demand and supply—driven by investors' perceptions of the country.

Similar to the external debt situation, the yields on treasury bills are alarmingly high. Now, the money available can only be used to pay subsidies—causing the NNPC to remit less foreign exchange to the government to pay loans. Everyone saw it coming when domestic debt servicing increased from ₦1.5 trillion in 2015 to almost ₦5 trillion in 2020, which doubled less than a year after. The problem with accumulating debt quickly is that interest payments increase even faster because the old debt isn't going away (at least till its maturity date), and that's Nigeria's plight.  

There's more. The high yield on government security also causes a crowding out of other investments in the capital market. With inflation at the highest it's ever been due to the government continuously pumping money into the economy without corresponding growth, investors stop buying company bonds critical to economic growth.

Another repercussion of accumulating high domestic debt is that it makes the financial market vulnerable to shocks, especially if the government defaults on its loans. Remember, there's the belief that governments hardly default on their loans because they can print more money to pay back or change the rules in their favour. However, restructuring the loans can lead to a financial sector crisis, which has happened several times.

The final straw in Nigeria's fiscal mismanagement journey is that Nigeria would suffer from a debt overhang. In this situation, the government has borrowed so much it cannot borrow anymore, and it would begin to default on loans. The third option for our debt crisis—to stop paying back our loans—would become the order of the day, as the country refuses to be more fiscally prudent and realistic with its debt situation.

So far, we’ve seen that Nigeria’s options in looming debt distress are limited and quite expensive. On the one hand, if we decide to restructure our debt, the government will have to adopt policies that might be good in the future but challenging to implement in the short term. But if the country continues to borrow, the options are much more dire.

The best option, therefore, is to manage our fiscal situation so well that we won’t be in debt distress, as the only way out is down.