What's next for Nigeria's looming debt crisis?

The Nigerian government is officially spending more than it earns on servicing its debt (domestic and local). Between January and April 2022, Nigeria made a total budget revenue of ₦1.4 trillion but paid ₦1.9 trillion in debt servicing; that's 120% of the revenue going to paying back loan interest. With the government not earning enough to pay back interest on its debt, it is difficult for the country to spend on more critical development areas like healthcare and education.
 

That means the average Nigerian is not expecting ASUU’s five-month strike to end this year because the government has no money to pay lecturers to return to class.
 

The country has been on this trajectory since 2020 when the debt servicing ratio (the proportion of government’s revenue spent on debt) hit 98%. However, noticing the trend in the graph above, Stears* began sounding the alarm about Nigeria's fiscal distress as far back as 2018. But Nigeria failed to listen, and here we are.

Yet, things could get worse.

Whenever debt sustainability conversations come up, analysts are quick to use metrics like debt-to-GDP to paint a picture of how well a country is doing to maintain a healthy debt profile. They are often right as debt to GDP measures the potential of a government to earn revenue from its country in the future.

However, unlike debt-to-GDP, the debt-to-revenue ratio informs creditors if the government can meet its debt obligations today and in the short-term (liquidity) and its long-term obligations (solvency).

Going by the current estimates, Nigeria’s liquidity is drying up fast, particularly for domestic loans.

But now that Nigeria is no longer earning enough to make interest payments, what happens next? In this article, I'll take you to the future.
 

What are the options for Nigeria if it runs out of money?

January 2024

Nigeria has a new president who has met a mess of a country he so eagerly fought to lead. The government is officially illiquid, the debt to revenue ratio has exceeded 300%, and the debt to GDP ratio has surpassed the IMF's benchmark of 35%. Nigeria barely has enough foreign reserves to meet its import demands for a month and to pay back its now mature $500 million Eurobond. Nigerians are feeling the impact even more. The exchange rate is over ₦1,000/$1. Inflation is even higher due to producers and traders passing off the high cost of production to the consumers.

This scenario is quite extreme, but Nigeria has grown its debt from less than $3.5 billion in 2010 to more than $35 billion in 2020. The speed with which Nigeria has reached its current fiscal crisis and how quickly it depletes its reserves are alarming.

Nevertheless, this newly appointed President has selected an economic planning committee to tackle the country's debt issue.

There are already speculations about Nigeria's inevitable debt default. Still, neither the central bank nor the ministry of finance is saying anything to confirm or refute these claims. The committee gets right to work and presents the President with a bunch of options for the country. These options, quite similar to one an average individual faces when she goes bankrupt, are to beg or keep borrowing till she can’t anymore. Begging in this instance would be that the government requests debt forgiveness (or restructuring) from its creditors. The other option is to continue borrowing from existing creditors or new ones. And lastly, stop paying since it's run out of money.

These options have advantages and downsides, and the committee lays these down to the President. However, the option largely depends on the type of creditor the country approaches. The Nigerian government largely owes two main categories of creditors: Foreign (multilateral organisations, other countries and private foreign investors through the capital market) and domestic (the central bank and private local investors through the domestic capital market).
 

Nigeria’s debt in 2022 was heavily skewed to the domestic lenders, which hasn’t changed. So, from this point of debt distress, how does the committee decide on the right next step, given how much we owe our creditors? This article focuses on the first option: to beg our creditors (debt restructuring).
 

Option 1.1 - Beg  (IMF Edition)

It is common for countries to seek debt forgiveness or restructuring when faced with a debt crisis like Nigeria, and the President is favourably disposed to this option. He echoes Nigeria's debt restructuring experience in 2004, where $18 billion of Nigeria's debt to the Paris club—a group of wealthy developed countries, was written off.

But the committee explains that this time is very different from 2004; our creditors are more diverse and complex than before. Unlike in 2004, when Nigeria owed 85% of its debt to the Paris club and just 6% to foreign private commercial lenders (e.g. an investment bank), over 60% of the FG's borrowing was sourced locally as of 2022, and 40% of the external loans were commercial.

In the late 1950s, the Paris club (a group of some of the largest creditor countries at the time) collectively launched its debt relief programs for debt-distressed countries, particularly in Sub-saharan Africa.

This difference in debt composition is important because Nigeria has shifted from borrowing from creditors that are typically more lenient with debt restructuring to the markets where creditors have stricter rules and are less forgiving.

Likewise, locally, the government currently owes the CBN (in ways and means) more than the rest of its total domestic debt. Meanwhile, its foreign debt is almost equally split between private commercial lenders and multilateral organisations. 

So who should Nigeria beg?

The IMF and World Bank were set up to guide countries through difficult fiscal and monetary hurdles. So, they’re approachable and willing to give bailouts during fiscal challenges. Whenever a country defaults, the IMF and World Bank are more open to debt restructuring (granting moratoriums on loan repayment) or outright debt reductions.

Two significant programs in which the IMF and the World Bank have provided debt restructuring are the Heavily Indebted Poor Countries (HIPC) program and the Multilateral Debt Relief Initiative (MDRI). Through these programs, both organisations have collectively offered nearly $99 billion in debt relief to low-income countries(LICs)—almost 22% of the total debt owed by LICs today (2024).

However, these debt restructures usually come with conditionalities that ensure that the countries implement policies that make them more fiscally responsible and have sustainable debt. These policies are sometimes criticised for not yielding sustainable results. For instance, in the late 80s and 90s, to participate in the HIPC debt relief program, many countries—particularly in Sub-Saharan Africa, had to adopt the Structural Adjustment Program (SAP). SAPs required that countries devalue their currency, cut their public sector and social welfare spending, privatise state-owned enterprises and more.

Now, the issue wasn’t that these policies were terrible in themselves. But for countries that were already going through economic downturns, the policies were detrimental in the short-run—making people worse off, even if they had long-term benefits.

The President admits that multilateral organisations are the easiest to approach but have the hardest conditions to meet. In a country where the cost of food has doubled—and disposable income is less, it would appear insensitive if the government chose that time to increase taxes in the name of fiscal reforms. If a new head of state like him were to implement these unpopular policies, he might not earn a second term with already agitated Nigerians.

The next option to explore, similar to the previous, is the option of begging bilateral partners, China in particular, as it makes up over 90% of Nigeria's bilateral debt but only 10% of Nigeria's total external debt stock.
 

Option 1.2: Beg (G20 edition)

Bilateral creditors (e.g. China or France) are typically not as lenient as multilateral organisations but are sometimes open to restructuring. In 2020, the G20 countries offered emerging countries debt forgiveness through the initiative introduced by the World Bank called the Debt Service Suspension Initiative (DSSI). This was basically the developed countries telling the poorest countries in the world who were eligible for the program to suspend their debt servicing and focus on improving healthcare in their countries. The debt relief helped the 48 countries save $12.6 billion in debt service payments. On the other hand, China chose to handle debt restructuring on a case-by-case basis to its debtors.

Unlike in 2020, when countries had to pick between saving lives and paying back debt, 2024 is different. This time, countries are slowly recovering from the economic contraction of 2022 and 2023. Hence bilateral partners are not as lenient in 2024. Countries have undergone severe fiscal restructuring like increasing interest rates and cutting excess welfare and subsidy programs to ensure that their debt becomes sustainable—something Nigeria refused to do.

This option again dashes the hope of any politician that's not ready to make the hard decisions today to improve the lives of future generations.
 

Option 1.3 - Beg (Haircut edition)

Private commercial creditors (e.g. hedge funds) are the most challenging category of lenders to plead with when a country is nearing debt default. It is implausible that the capital market will grant the country any form of debt forgiveness, but not impossible. One prominent example of capital market pardons was the Brady Plan in the late 1980s and early 1990s, when private creditors granted debt reductions—haircuts—to Latin American countries. However, the capital market had to be lured to give this debt forgiveness. The incentive for the private companies to do this for the nations is that the leftover debt was collateralised with US treasuries and financed by loans from the IMF or World bank. So basically, there was a guarantee that the money would be paid back. And half is better than none.

Given that 40% of Nigeria's foreign debt comes from the international capital market, it's no shock that this option seems appealing. Afterall, if you owe someone money and there's a chance the person can write the debt off, you'll happily beg the person and request a write-off.

However, the key theme across these different debt restructuring and forgiveness options across all segments is that the creditors are willing to forgive your atrocities, provided you don't mind being handed over to the IMF to straighten your public finances. The policies the IMF expects these countries to implement are usually politically unpopular.
 

Option 1.4 - Beg the locals

Finally, debt restructuring can happen for domestic sovereign debt holders. This is typically the easiest to implement because domestic debt is denominated in a country's local currency. The country can ask the CBN to print money to pay off its debts or change the laws on investing in sovereign debt to suit the government's desire for restructuring.

In some cases, the government repackages the loans by making short-term bonds more long-term and selling them in the secondary markets. However, this is similar to the Paris club situation, where the government seeks a quick fix to a long-term problem and defaults on its loans. This was Russia's experience between 1998 to 2000, bonds owed to banks were restructured to become more long-term. However, long-term securities yields increased so much that the Russian government defaulted on the loans and caused the banks to default on their external obligations.

Due to the country's debt crisis, domestic debt restructuring exposes the local economy to more risk than already experienced. Typically, the government's domestic creditors are commercial banks, institutional investors like pension funds and the central bank. When the government restructures loans from these institutions, particularly short-term loans like treasury bills, it exposes these organisations and the financial sector to risk. However, suppose the government securitises its loans—by attaching them to external bonds or government physical assets. In that case, it can allow the banks to still earn their interest without hurting their balance sheets.

Imagine UBA bought federal government bonds, and the government cannot service the bonds but decides to use the Federal Ministry of Finance’ building as collateral such that if the government is unable to pay back, UBA can simply sell or rent off the Government’s property to get its money back.

In real life, restructuring sovereign domestic debt is more complex. From 1998-1999, Ukraine went through a debt crisis and had to restructure its loans. It offered its local domestic lenders (banks and capital market investors) that held its short-term treasury bills (worth $4.9 billion) three to six-year bonds, which were more long-term. The government also requested haircuts—reducing the debt by a certain percentage. This and other foreign sovereign debt allowed Ukraine to save about $240 million (which it could use to fund its budget). The issue, however, was that when it was time to pay back, Ukraine had to restructure its foreign debt, which meant it was shut out of the international market. In 2005, it was able to access the international markets again.

Ukraine’s experience and many other countries that revised their private sovereign debt eventually needed to borrow externally. In some cases, like Russia, the country already experienced a banking crisis before it could restructure its external debt to pay local creditors.

But if the country attempted to restructure its loans before it was at risk of default, its market ratings would have been downgraded, causing it to face high-interest rates and bad ratings—similar to a near default. So, either prevent near-default by being more fiscally prudent or face the impact of being shut out from the market with high-interest rates.

So far, we've shown the option of seeking debt forgiveness as a way of Nigeria's precarious debt situation. Regardless of the creditor, Nigeria has two options: either face the brunt of implementing policies that will be painful in the short-term and beneficial in the long-term or restructure market-led debt restructuring—which comes with its own impact of being shut out of the market. 

July 2022

This gloomy picture of Nigeria's looming debt distress may seem extreme. Still, anyone paying attention to how quickly the country's debt has increased over the last decade will realise that these are conservative estimates. When thinking of debt sustainability, many are quick to use the debt to GDP ratio as a yardstick to measure the country's debt sustainability, but this only shows the country's potential to pay back its loans if it can generate sufficient revenue from the economy. A more accurate picture is one where we see how much the government owes compared to the amount it earns as revenue in the country.

Again, we sound the alarm: Nigeria needs to pull the brakes on borrowing and spending like it's in an economic crunch. The time to make the hard decision of cutting unnecessary spending is NOW, or it will be more difficult by 2024.