Downstream Petroleum Deregulation: Options and Constraints

by L.Chinedu Arizona-Ogwu

Nigeria is facing a major fuel crisis following the deregulation plan of this government. The energy industries and our refineries lag well behind other sectors such as agriculture, eatery houses, oil-ware supply, ports, and motorways, in undertaking an open policy. Commuters suffered tremendously and transportation system is being affected because of the looming deregulation. However, this move inevitably come tied with conditions which appear as if it is a favour to the country’s economic growth and poverty reduction. The detrimental effects deregulation has had on Nigeria are immeasurable, putting the country under increasing pressure to abide by the prescriptions imposed by the depots.

As advocates of corporate globalization, the petroleum pricing and Regulatory Agency (PPPRA) and their allies work for domestic capitalism, exerting a heavy influence on nationwide oil consumption policies that mainly promote trade liberalization and public sector privatization. Many of the Nigeria’s economy platforms have become a place of experimentation for trade liberalization at the hands of desperate politicians that pressure the governments into liberalizing trade policies. This causes serious devastation in public service sectors including heath, education, water, agriculture and food.

This Deregulation strategy contain conditions such as cutting social expenditures also known as austerity implementing user subsidy called PEF in basic services such as education and health, focusing economic output on direct export and resource extraction, devaluation of overvalued currencies or lifting import and export restrictions, removing price controls and state subsidies, privatization or divestiture of all or part of state-owned enterprises, enhancing the rights of foreign investors vis- -vis national laws, improving governance and fighting corruption. Many of these have negative consequences for the situation of the poorest people in Nigeria.

Deregulation imposes two types of policy conditions, namely quantitative and structural. Quantitative conditions are imposed at the macroeconomic level of the poor Nigerians, while the structural ones are for institutional and legislative policy reforms. All of them prove to be not relevant to tackling the challenges that Nigeria faces, moreover the policy is unfair, undemocratic, ineffective, and inappropriate mainly because they undermine democratic accountability within Nigeria and will deprive the poor of the access to services (education, health, etc) at a low cost. Yet the influence of the oil industry bill to open up the domestic market trend is so powerful that the government cannot resist or deny their illegitimate influence and power.

Since the 1980s, the petroleum sector of our economy has become increasingly preoccupied with the structural obstacles to Nigerian economic growth and poverty reduction, and has sought to use government policy to leverage the reforms that their salivary-throat economists have deemed desirable. As a result, the average number of the government prices per regime tripled between the early 1990 s up till now, and by this year, the government mission creep led to it bolstering the economy-boost efforts with its own structural conditions.

The government provides most of its oil-quota for a specific project on the basis of particular strategic policies. The main conditions of the NNPC fusibility have been massive privatization of industries and major utilities; the blanket application of the free market policy which actually means a unilateral canceling of all tariff restrictions by the government on the receiving end of the deregulation; withdrawal of all types of subsidies for the sake of efficiency; and drastic cuts in government spending in order to ensure so-called macro-stability of the economy.

The trend empowers desperate politicians in their choice to continue to bypass parliaments, a trend that is at odds with good policy making insistence on good governance. The NNPC, the local oil importers and private depots attach conditions with an intention of downstream deregulation which they legitimize through a range of documents including poverty reduction strategy papers. The incident had kept some private oil depots closed for almost five days now. Hundreds of buses and trucks carrying goods and people lined up for diesel and petrol in front of fuel pumps last Monday and Tuesday, but many of them failed to get any fuel because of inadequate stock.

But officials of the Nigeria National Petroleum Corporation said that there should not have been any shortage because of the looming deregulation as the dealers had lifted around 200million litres of additional amount of petroleum product few days ago. The government has formed a two-member committee, to negotiate on the looming deregulation move but Nigerians are expressing regret for the fuel crisis and the resultant suffering of the people and disruption in the business of the transport sector. Private cars and other vehicles also faced many problems because of shortage of fuel, especially in the city s filling stations. Many filling stations in the capital, Lagos,Abuja, Asaba, Yenegoa, Warri, Calabar and Kano were closed because of supply dearth, while others had to ration fuel oils.

It appears that some inter-city buses cancelled scheduled trips from the three major terminals in the capital while buses carrying passengers, who were bound for their village homes in Lagos from different cities, are suffering due to shortage of these products. Many of the passengers had made all their days on roadsides because the buses were stranded due to lack of fuel. Informed sources said that although some petrol pumps do not have the capacity to keep fuel for five days, a section of unscrupulous petrol pumps, which have that capacity, made windfall profits by selling fuels at higher prices.

Petrol pump owners is blaming the government for putting up panic buying since those who could not wait for their allocation embark upon buying from private depots .Whereas few blame the Banking sector hurricane for the crisis. Despite Nigerians prayers, the government cut in to deregulate. It is unprecedented to keep the oil sector unstable for such a long time as the fuel sector is an essential sector. The fuel which the regime earlier put at N65 had remained on the air beyond average reach despite the price value. If this government pays fuel subsidy, and the dealers remain adamant, could it be a right move to remove it? Then to whose detriment if not Nigerians!

We all know that the crude oil price is skyrocketing globally for many months now and our banks are reeling under a heavy debt-burden. Just to bail out private petroleum importers of their predicament this moderate deregulation is inevitable and rather overstretching. The situation had become so alarming that after a month or so our depots would not have been able to buy oil from the international market due to the paucity of funds and there seems no petrol at all in this country. Imagine the scenario. It would have been worse. It is better to pay more for the petrol or diesel than not to have it at all. We should be a little more reasonable and think that how long the government can subsidies petroleum products. Subsidies have eaten away a great chunk of our resources and to continue subsidizing product after product will not be healthy for this economy. The earlier we get rid of this menace the better it is.

The price rise of petroleum products, especially diesel and kerosene, will have bearing on us all, and we will have to taste the price pinch inch by inch in times to come. Actually, the price rise of the petroleum products was inevitable, and it would be dearer in the future. Let me present some statistics for a better understanding of the issue. The world now produces about 90 million barrels of oil per day. The total proven reserve of easily extractable light crude was estimated at 2.2 trillion barrel, of which about 50 per cent was alread

y extracted by 2004/05, or what is called peaking or Peak Oil. Even if all oil fields work at their optimum efficiency, there is a consensus among oil experts that at the most about 95 million barrels can be produced from the existing wells. This level of oil production is estimated to last till about 2008 / 2010. From then onward, production decline would set in while demand will keep rising. This is scenario Number One.

The second is, as the supply is expectedly going to be inadequate in future with rising demand, speculators or investors in oil stocks are investing heavily on the futuristic stocks of oil that prompts the price of oil to rise worldwide.

Since the late 80’s the Nigerian government has been undertaking measures to open the economy and encourage private investment as a result of a world trend to improve the efficiency of the state by concentrating its efforts in a few activities. This situation is particularly true in the oil industry, which is one of the most capital-intensive businesses even as the oil industry bill is set aside. However, freeing the petrol supply market is considered necessary in order to release the state from the economic burden that it would otherwise have. . From that onset, participants in “Nigeria4betterrule” forum were yesterday assessing the petrol supply chain in Nigeria identifying the key driving factors. They reiterate the companies involved and the challenges they are facing in the light of world and regional trends.

However, stability in the importing cost is crucially important if the government were to attract private competitor to supply petrol. if the government changes frequently the importing costs, it will send signals to discourage private involvement in the business because of distrust in long term planning. For instance, in January 2009 as devaluation increased and the international petrol price soared too, the government was forced to cut the tariff by 7.5 per cent from 15.0 percent in order to avoid further increases in the consumer’s price (52). It might have been a sensible measure to buffer petrol price protecting the local refining industry, but it was an antecedent that may produce distrust in legal stability.

Looking at the PPMC scenario the price differential is US$9.7 per barrel,), from which it is worth expanding only the refining capacity. As can be seen, the situation is the opposite for the low scenario. Hence, the imported refined petrol should be at least US$6.25 per barrel cheaper than the international price (regardless of importing cost) to justify expansion only of the refining capacity. It means that if petrol demand rises as the PPMC’s scenario for the next 11 years, the need to expand the pipeline capacity will be virtually unavoidable. As can be seen, at parity prices (price differential equals zero) the optimum share to meet the demand is not in expanding the refining capacity but expanding the pipeline to another step. In such event, it is worth building the two storage tanks and re-installing the NNPC pumping depots in order to take advantage of the maximum pipeline capacity.

In the high scenario the price differential to expand only refining capacity as the optimum augment in capacity is US$6.38 per barrel. Conceptually it is a similar situation to the PPMC’s scenario of demand but with different figure. Hence, under this scenario the three major Nigerian refineries should be able to produce a barrel of petrol US$2.93 cheaper than a US Gulf Coast refinery to justify only expansions in its refining capacity with no expansions in the pipeline. Clearly, in practice it means that expansions in the pipeline capacity are unavoidable. Overall this scheme of only expanding refining capacity seems unjustifiable because it would almost imply either a better performance of the three Nigerian refineries than its benchmark, or a sharp increase in import cost caused by a stricter taxing policy to protect local refining. In this way, to comparative assessment of the Nigerian National Petroleum Cooperation (NNPC) and its PPMC subsidiary is undertaken looking at how other state-owned companies such as the Venezuelan, Brazilian, and Mexican looking at how other state-owned companies such as the Venezuelan, Brazilian, Mexican and the Argentinian are tackling similar problems.

Because of budgetary shortages of the NNPC and a commitment of the state to reduce fiscal deficit in order to make the economy more stable, the government has planned to create a framework for freeing market using private companies; it wants ultimately to create a mature free market to supply petrol at every stage of the commercial chain from upstream to downstream thereby improving efficiency and competitiveness.

Given the very difficult global environment of the refining business and the significant competitive advantage that the Nigeria refineries have, it is interesting to speculate about why a private company might be interested in importing petrol. The first reason is because they can deliver imported petrol more cheaply than their counterpart’s NNPC, due to added value for being vertically integrated. The second reason is because they want to gain market share in downstream business as a worldwide or regional strategy. Thirdly, although not true for the Nigerian case, it is worth mentioning, companies go downstream in some countries as a step towards going upstream because they find it easier to do so as state-owned oil companies normally protect the downstream businesses less than they protect the upstream.

But since the Oil industry bill was introduced in the national assembly, Nigeria has made substantial progress in settling an appropriate legal framework to protect the host environment in industrial processes. There are regulations on the pipeline for solid waste disposal, liquid effluents and gaseous emissions. However, there is still a lack of specific regulation for certain sectors, for instance, although regulations in the upstream business of the oil industry are developed and implemented, to a certain extent, the downstream business lacks specific legislation and in particular, the refining industry.

Hence, there is much tougher environmental regulation in oil exploration and exploitation than in the refining and distributing business. Correspondingly, the state has been softer with state-ruled companies than with private ones, resulting in no benefit for the nation. Because of that it is very important to match the level of legally binding accountability towards the environment between state and private companies. This is not just looking at creating a more mature market that bring its advantages to the country, but also in creating a way in which the citizens will be benefited by sending the same signals to the market for protection of the environment.

Paradoxically in the Nigerian petrol supply chains the most important environmental impacts that are to be tackled by controlling both militancy and perforations on the pipeline grid. NNPC should pursue benchmarking targets for environmental impacts of its refineries in order to monitor emissions to the air, water and soil. Apart from these specific issues, the main challenge of the government should be finding mechanisms for internalizing environmental externalities in the petrol supply chain, for instance, setting up a special tax relief for projects related to using alternative fuels like liquid natural gas for motorcars that are more environmentally friendly.

There are five refineries in Nigeria with 49% of petrol supplied by two of them, 50% imported and the rest just supplying 1%. Petrol importers use the Calabar Port, the NNPC jetty/pipeline, from the Gulf of Guinea coast to the main refinery in the country. NNPC the state-owned oil company has a monopoly in most of the stages of the fuel supply such as refining, transporting and importing. In addition, private depots are the wholesalers. Likewise, there are more than 200,000 private retailers (independent marketers) that buy petrol from these

wholesalers, using their brand names.

This regime assess what is the best trade off between importing and/or refining for supplying petrol but in Nigeria it is evident that the state-ruled companies have not been efficiently managed. There have been a lot of projects in electricity generation, road building, maritime ports, and the Niger Delta development for which final costs and the period of building exceeded their initial budgets by several times. Most of the reasons are attributed to mismanagement, lack of planning, short sight and many other ill effects of a very unstable and fluctuating policy making.

Regarding three different schemes under three different scenarios of demand, Nigeria is the best trade-off between importing and / or refining for supplying petrol. The problem analysis considers environmental, institutional, technical and economic issues while the latter is assessed using a Linear Programming (LP) model. The Participants conclude that the Nigerian government should elaborate a white paper to restructure NNPC. Administratively, the chairman should be appointed for a fixed period of time which would provide it with autonomy for selecting its most convenient business strategy. NNPC should be opened up to both international competition and foreign partnership in order to compete in the global market. This would involve improving its competitiveness, pursuing international standards of efficiency and using benchmarking targets for its Pursuing international standards of efficiency and using benchmarking targets for its planning and development. . In addition, the government and NNPC should separate their accountancy; in a way subsidies for middle distillates consumed by low income subsidiaries should be funded through the national budget and not charged to NNPC.

In this way, the state can deliver fewer but better services and the private sector can provide the rest of the services with a better management of resources. Consequently, the state can be released from the burden of becoming heavily indebted in hard currency to fund capital intensive projects of a fast growing infrastructure demand. The aftermath of an imminent deregulation may accompany price increase of petroleum products which can not help matters, with members of the public isolating insincerity in government’s management of key issues like the one under review. The non-arrival of refined petroleum product shipment from abroad, even after an assortment of announcements to that effect was made by the government communication machinery, has not helped matters either. If Nigerians are being kept informed of developments from the Labour union negotiation and are liaising with this Government, who have responsibility for continuity of oil, gas and fuel supplies.

Similarly, the government must commit to a policy of not withdrawing economic resources from the NNPC to finance independent projects. After undertaking this first series of measures, the next step should be setting a legal and stable framework for the capitalization opening for the oil economy. In this way NNPC would be listed in the stock exchange market both in the country and abroad initially offering a minority stake of its shares in the search for fresh capital. Enabling this government to set the company free from political dependency will form strategic alliances to scale up its businesses and improve its efficiency.

NNPC can adopt for its restructuring program towards running a more efficient company, privatization, mixed capital or remain completely state-owned. As was already discussed privatization is the least convenient at the moment not only due to the massive opposition, but because the company is not attractive to foreign investors given the gravity of its administrative and economic problems. Remaining state-owned could make it more difficult to carry out the administrative restructuring needed by NNPC, as well as for obtaining the economic resources needed for the investments required. For the above reasons undertaking a mixed solution, like Petrobras and other state-owned oil companies, might be the best option for NNPC.

If there is something true about the Labour union is that its influence on NNPC performance has not benefited the state-owned oil company in the last decades. Although the NNPC employees are amongst the best paid within the Nigerian state-owned companies, they are always struggling to gain more and more benefits without any commitment to improve their own performance. It is common knowledge that each time the government meets the unions to agree the increase in the minimum wage, the Labour union asks for the highest rate for their workforce. The union takes advantage of the political susceptibility of the government when making deals.

However, it is important to highlight that the union is not the only reason to explain the lack of competitiveness NNPC currently has. It is the administrative structure and mostly the political influence that for years have prevented long term planning in NNPC and politician have conceded too much to the union to avoid unpopularity looking after their own political interests. There must be a need for national emergency plan .The use of emergency plans is an option, if necessary, to mitigate the effect of possible future fuel supply disruptions. A reliable fuel supply is the least you can expect from a country as oil rich as Nigeria.

There is absolutely no doubt about the fact that this government will not get as much funds as it might need for expanding its infrastructure unless it brings in private capital. This will involve a trade off between borrowing money and giving the investment responsibility to private companies. The government therefore has to make decisions to settle a new legal and institutional framework in order to send the appropriate signs to encourage participation of the private sector. This situation is particularly true in the oil industry, which is one of the most capital-intensive businesses. Within this industry, the upstream is the most capital intensive with the highest risks and therefore the most profitable. The downstream is less capital intensive, less risky and, indeed, much less profitable. That makes the downstream projects low in their return of capital, hence, a business that should be run with a long-term perspective.

It is capable of threatening the economic stability of the state because of its strategic influence on the operation of NNPC’s infrastructure. It is believed that the union has been linked to extreme-left rebels that bombed the oil pipeline about 600 times in the last ten years, which equates to more than once a week for ten years. Also, there are employees linked to people who illegally perforate the pipelines to steal the petrol. It is a challenge for the government to relate with NUPENG including their labour counterpart to ensure justice by all peaceful and diplomatic means; and to make the union members aware that they need to make sacrifices to improve Nigeria’s economic performance to otherwise her long term survival could be endangered. The labour union should make the government aware that the NNPC is owned by the whole nation and not by themselves. Hence, the best way of getting social benefit from the company is not by creating bad businesses favouring just those in power but the entire nation.

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1 comment

okpozih samuel November 8, 2010 - 11:53 am

The article is very good.


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