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IT LGA M & E MDAs MDG MFB NACRDB NAICOM NASB NCS NEEDS NDIC NEEDS NEITI NICON NLSS N SE NSTIF PDO PEFA PEMFAR PENCOM PFA PFM POS PPP PSI - RTGS REITS SAS SEC SMEDAN SMEs TSA UN UNDP UNCTAD USAID VAT VFM
Information Technology Local Government Areas Monitoring and Evaluation Ministries, Departments and Agencies Millennium Development Goals Microfrnance Bank National Agricultural and Co-operative Development Bank National Insurance Commission Nigerian Accounting Standards Board Nigeria Customs Service Nigeria Economic Empowerment and Development Strategy Nigerian Deposit Insurance Corporation Nigeria Economic Empowerment and Development Strategy Nigeria Extractive Industries Transparency Initiative National Insurance Company of Nigeria Nigeria Living Standards Survey Nigerian Stock Exchange Nigeria Social Insurance Trust Fund Project Development Objective Public Expenditure and Financial Accountability Assessment Publie Expenditure Management and Financial Accountability Review National Pension Commission Pension Fund Administrator Public Financial Management Point of Sale Public Private Partnerships Policy Support Instrument Real-Time Gross Settlement Real Estate Investment Trusts Nigerian Accounting Standards Securities and Exchange Commission Small and Medium Enterprise Development Agency of Nigeria Small and Medium Enterprises Treasury Single Account United Nations United Nations Development Program United Nations Conference on Trade and Development United States Agency for International Development Value Added Tax Value For Money
Vice President
Sector Director Marilou UyISudhir Shetty Sector Manager Iradj AlikhaniIJan Walliser Task Team Leader . Michael FuchsNolker Treichel
Table of Contents
. I Introduction ................................................................................................................................ 1
I1 . Country Context ....................................................................................................................... 3 A . Recent Political Developments ...................................................................................... 3 B . Economic Management and Transparency Efforts since 2001 ...................................... 3 C . Recent Economic Developments .................................................................................... 4 D . Macroeconomic Outlook ............................................................................................... 6 E . Status of IMF activities in Nigeria ............................................................................... 12
................................................................................................................... . F Governance 12 ......................................................................................................................... . G Poverty 13
I11 . Nigeria's Response to the Crisis and Medium-Term Strategic Framework for Poverty Reduction and Financial Sector Reform ................................................................................... 13
A . Government's Response to the Unfolding Crisis ......................................................... 13 B . Nigeria's development agenda: NEEDS and the 7-Point Agenda linkages ................. 17 C . Nigeria's Financial Sector Reform Strategy ................................................................ 19
1 . Reforms have greatly strengthened the financial sector ......................................... 19 2 . The FSS 2020 Framework for Financial Sector Refornls ...................................... 20
. .................................... IV World Bank Group Strategy and Proposed DPC ; .................... 21 ......................... A . Link to the Country Partnership Strategy and other Bank operations 21
B . Analytical Underpinnings of the Credit ....................................................................... 22 1 .Financial Sector Development ................................................................................ 22
................................................................................ 2 . Public Financial Management 23 3 . Nigeria's Growth Strategy ..................................................................................... 24
C . Lessons Learned from Prior Operations ...................................................................... 24 D . Coordination with Other Development Partners .......................................................... 24
V . Government of Nigeria's Proposed Reform Program Supported by DPC ........................ 25 A . Overview of the DPC ................................................................................................... 25
Objective 1 : Maintaining Confidence and Stability in the Financial System ............ 25 Objective 2: Strengthening the Banking System ........................................................ 26 Objective 3: Supporting the objectives of the 2009 budget focused on raising
Government investment spending to accelerate non-oil growth .......................... 26 B . Proposed DPC Prior Actions ........................................................................................ 27
1 . Maintaining Confidence and Stability in the Financial System ............................. 30 2 . Sustaining Growth through Sound Macroeconomic Policies and Budget
Priorities ............................................................................................................... 34
VI . Operation Implementation ................................................................................................... 40 A . Participatory Process .................................................................................................... 40 B . Poverty and Social Aspects .......................................................................................... 40
.................................................................................................. C . Fiduciary Assessment 41 D . Disbursement and Auditing ......................................................................................... 43 E . Environmental Aspects ................................................................................................ 44
F . Implementation. Monitoring and Evaluation ................................................................ 45 G . Risks and Risk Mitigation ............................................................................................ 45
1 . Nigeria has developed a strategy to deepen access to finance ............................... 83 2 . Developing a commercial microfinance sector ...................................................... 83 3 . Using branchless banking to reach the poor ........................................................... 84 4 . Financing Social Housing ...................................................................................... 85 5 . strengthenkg the Enabling Environment for Financial Sector Deepening ........... 86
Annexes
Annex 1 : Letter of Development Policy ........................................................................................ 47 Annex 2: Financial Sector and Public Financial Management Policy Matrix ............................... 61 Annex 3 : Fund Relations Note ....................................................................................................... 65 Annex 4: Country At A Glance (Includes Country Map) ............................................................. 69 Annex 5: Analytical Underpinnings of the Credit ......................................................................... 73 Annex 6: Nigeria's Financial Sector Reform Program under FSS 2020 ....................................... 77 Annex 7: Nigeria's Public Financial Management Reforms ......................................................... 99
Figures
Figure 1 : Growth Projections .............................................................................................. 1 Figure 2: GDP Growth 2005-2008 and Contribution to GDP in 2008 .............................. 4 Figure 3: Inflation 2005-2008 ............................................................................................. 5 Figure 4: Nigeria: Federal Government capital budget. 2009 ........................................ 8 Figure 5 : Federal Financing Plan .................................................................................. 10 Figure 6: Current Account Projections ............................................................................. 10 Figure 7: Fiscal Balance .................................................................................................... 11
Tables
Table 1 : Medium-Term Macroeconomic Indicators ........................................................................ 7 Table 2: Nigeria: Federal Government Budget. 2005-09 ................................................................ 9 Table 3 : Nigeria: 2009 Federal Government Budget ....................................................................... 10 Table 4: Trends in Poverty Levels: 1980-2004 .............................................................................. 13 Table 5: Growth of the Nigerian Financial System 2004-2008 .................................................. 20
Boxes
Box 1 : Investors See Upgrading Banks' Reporting & Governance as Essential ... : .................... 15 Box 2: Application of Good Practice Principles in Development Policy Lending t o the Proposed Credit ..................................................................................................................... 29
CREDIT AND PROGRAM SUMMARY THE REPUBLIC OF NIGERIA
FINANCIAL SECTOR AND PUBLIC FINANCIAL MANAGEMENT DEVELOPMENT POLICY CREDIT
vii
Borrower Implementing Agency Financing Data Operation Type Main Policy Areas
Key Outconle Indicators
Program Development Obj ective(s) and Contribution to CAS
The Republic of Nigeria Ministry of Finance IDA Credit of SDR 323 million (US$ 500 million equivalent) Development Policy Operation The main policy areas supported by the DPO are: (a) maintaining confidence and stability of the banking system, and (b) sustaining growth through sound macroeconomic policies and budget priorities The following outcomes are expected as a result of the proposed operation:
Banking system liquidity is restored and increased confidence allows normal functioning of the interbank markets for Naira and foreign exchange. Government debt markets function more efficiently and become more liquid. (Use of the extended window facility declines from W 480 billiodday to below W 200 billiodday; parallel market USD exchange rate falls to within 10% of the interbank rate). The banking system becomes more sound and transparent. (Capital adequacy ratios remain above 15 percent through 2009. Improved reporting and accounting encourages investment in bank debt & equity, and better pricing for debt issuances by banks on international markets. Banks' ability to manage risk improved by access new sources of credit information). Federal government expenditure in 2009 remains within a range of 23-25 percent of non-oil GDP (21.2 in 2008,25.4 in 2007,21.4 in 2006). Execution rate of the federal capital budget (in percent of the 2009 budget as finally approved by the National Assembly) rises from 53.9 percent in 2008 to more than 60 percent in 2009. Non-oil revenue collected at the federal level (as percentage of non-oil GDP) increases fiom 8.6% in 2008 to 9% in 2009. Month-end financial statements produced by 75 percent of federal government MDAYs within 7 days. (Baseline: formerly no automated statements). 65% of Federal Government contracts using national standard bidding documents. 95% of Federal Government contract awards above W 75 million are published.
In responding to the on-going global financial crisis the proposed credit is intended to provide budgetary support to the Federal Government of Nigeria to offset the fiscal impact of the crisis and support the Government in maintaining its current economic reform path in the financial sector, fiscal policy, management and governance. The three program objectives are: (i) maintaining confidence and stability in the Financial System; (ii) strengthening the Banking System; and (iii) supporting the objectives of the 2009 budget focused on raising Government investment spending to accelerate non-oil growth.
I Risks and Risk 1 The main risks associated with the operation, which the measures I I Mitigation 1 supported by the operation also seek to &tigate, are: I
Operation ID
Governance risk: Nigeria is a country that faces governance challenges. The Credit includes prior actions to strengthen transparency as regards the financial sector and public financial management. ~olitiial support: Government is strongly committed to taking tough decisions in supporting of a program of ambitious reforms despite the context of a global financial crisis and severe economic downturn. The letter of development policy signals the authorities' commitment to policy reform and a strong communications strategy. Economic risks: On the external side, a firher reduction in oil prices and the continued reduction in foreign remittances coupled with a M e r deterioration in the world economy and international financial markets could seriously impact economic circumstances in Nigeria. The authorities are monitoring the situation closely and Nigeria has as yet managed to withstand a serious external shock. Financial sector risks: Given Nigeria's current accounting standards and the continued worldwide pressure on international financial markets, efforts to shore up the Nigerian banking sector might not be sufficient. The Credit includes prior actions to nitigate against this risk and supports a medium t& program of financial sector reforms. Security issues: There is a risk of deterioration in the security and law and order situation, which could shiR Government's focus from economic matters. While this risk cannot be directly mitigated, the Government is committed to improved security, as confiied by the renewed efforts to end militancy in the Delta. The Government has also showed its commitment in this area by the recent creation of a ministry for the Niger Delta, and a significant increase in budgetary allocations.
. . . Vl l l
1. Oil plays a dominant role in the Nigerian economy accounting for over 95 percent of exports and nearly 8 1 percent of Government revenues.' In the wake of the global financial crisis, oil prices fell from a peak of US$ 147hbl to around US$ 40hbl. before recovering to about US$ 60hbl in March 2009. This situation presents tremendous macroeconomic challenges for Nigeria. At current prices and production rates Government revenues will be dramatically smaller in 2009 than in previous years. Although oil revenue has been managed carefully over the past years with Government building up savings in the excess crude account, falling oil prices, production problems, and the deteriorating fiscal outlook have reduced international confidence. Also, large portfolio outflows that had begun at the beginning of 2008 and triggered a decline in the stock market further accelerated in the wake of the global financial crisis. The smaller oil revenue inflows and weakening confidence with concomitant lower net capital inflows have put increasing pressure on the Naira, M e r deterring investments. Net capital outflows have also impacted the stock market, which has fallen dramatically since the beginning of 2008. In combination, these factors led to liquidity pressures within the banking system in late 2008 and the first months of 2009. While Nigerian banks continue to be well-capitalized, declining economic growth, coupled with the banks' lending to the oil industry and its suppliers and exposure to the stock market, is putting pressure on bank earnings.
2. Ahead of the international financial crisis, Nigeria's economy experienced a sustained growth spurt. Since 2001, Nigeria's growth of the non-oil economy accelerated to more than 8 percent. This growth performance was made possible by a combination of sound macroeconomic management, notably the introduction of an oil-price based fiscal rule, with economic and governance reforms. Increased agricultural production played a key role in the expansion of the non-oil economy as previously pent-up domestic demand increased prices for food products and led to increased land under cultivation. As a result, incomes rose significantly in rural and urban areas during this time.
Figure 1: Growth Projections
3. The international financial crisis is now bringing this growth episode to an end. Non-oil growth projections have been revised substantially downwards from 6.8 to 3 percent in 2009 and 2010 (see Figure 1). Compounded by the decline in oil output, overall growth in 2009 and 2010 is expected to fall to 2.9 and 2.6 percent respectively, down from 5.3 percent in 2008. The decline in oil prices and the resulting sharp drop in oil revenue is also creating fiscal pressures. The oversall fiscal balance of the consolidated Government is projected to turn
1 Source: Based on the 2008 UNCTAD data, the most highly concentrated export structure in the world."
from a surplus of 5 percent of Gross Domestic Product (GDP) in 2008 to a deficit of about 8 percent of GDP in 2009. The consequent increase in financing requirements will increase pressures on the domestic capital markets. Despite the achievement in economic management since 2001, the economy is therefore severely affected by the crisis.
4. The proposed Development Policy Credit (DPC) would support the Government's efforts to maintain its current reform path and limit the crisis impact on the non-oil economy. The policy actions supported by the credit aim at sustaining a stable and sound financial sector, maintaining sound management of oil revenues, refocusing budgetary expenditures on investments addressing growth bottlenecks for the economy, and continuing reform efforts in the area of public financial management. In particular, the monetary authorities have taken aggressive measures to provide sufficient liquidity to the banking system, and advanced measures to tighten bank oversight as part of a medium-term financial sector reform program. The Government has approved a 2009 budget that uses a conservative oil price, reprioritizes spending toward capital outlays, and taken measures to accelerate execution of capital spending. At the same time, reforms continue in improving transparency and accountability, and ensuring value for money in procurement. Going fonvard the credit identifies a set of medium term actions required to support implementation of the identified structural reforms, see attached matrix in Annex 2. These relate to both strengthening the financial sector, macroeconomic management and public financial management and procurement. These actions4iscussed and endorsed by the authorities-lend themselves to monitoring. Their realization will be crucial to maintaining the momentum for reform supported by this credit and to achieving the envisaged structural outcomes.
5. The DPC is closely aligned with the Government's overall medium-term reform agenda and the Country Partnership Strategy (CPS). The Government outlined its program in the 7-point agenda, which is based on the Nigeria Economic Empowerment and Development Strategy (NEEDS). The seven focus areas are: (i) critical infrastructure (particularly electricity and transport) ; (ii) Niger Delta regional development; (iii) food security; (iv) human capital development; (v) land tenure changes and home ownership; (vi) national security; and (vii) wealth creation. The Bank's support for this agenda is formulated in the 2009-2013 CPS, presented to the Board jointly with this proposed credit.
6 . The global financial crisis and the associated economic downturn have affected Nigerian macroeconomic indicators, as manifested in: (i) lower share prices and market capitalization on the Nigerian Stock Exchange Market (NSE); (ii) balance of payment pressures emanating from lower commodity prices especially oil; (iii) reduced Government revenue; (iv) capital outflows due to foreign investor flight from the NSE market and withdrawal of dollar-denominated assets from some banks; and (v) reduced foreign exchange reserves.
7. Indications are that the miacroeconomic environment is improving, a consequence of Government's response to the global economic slowdown and improved external environment. The Government, however, recognizes that global developments will negatively affect real GDP growth in Nigeria in 2009. The slowdown would definitely impact negatively more on the very poor segment of the population. In this context and in view of endemic infrastructure and unemployment challenges, the Government plans to put in place strategic interventions that would address infiastructure bottlenecks, reduce unemployment and alleviate poverty.
A. Recent Political Developments
8. The last decade has been the first period of continuous democratic governance in Nigeria. Nigeria returned to democratic governance in 1999, after 16 years of military rule. The transition to another civilian regime in 2003 was the first civilian to civilian transition the country had recorded. President Obasanjo was elected in 1999, and then re-elected in 2003. He was succeeded following the 2007 elections by President Umaru Musa YarYAdua. Nigeria's political terrain through 2008 was marked challenges regarding the electoral process. However, the outstanding court challenges to the results of the electoral process were resolved in confirming the result of the 2007 elections outcome. Already in March 2009 the Federal Executive Council adopted a series of significant electoral reforms designed to strengthen the electoral process.
B. Economic Management and Transparency Efforts since 2006
9. During the period 2001-2008 Nigeria's economy grew rapidly. In contrast to previous growth episodes, recent analysis shows that growth was not primarily driven by rising oil prices-the economic impact of which was largely neutralized through fiscal policy-but by accelerating non-oil growth. Non-oil growth averaged only about 3-4 percent in 1995-2000, and it more than doubled to 8-9 percent in recent years. Key underpinnings of the growth acceleration in the non-oil sector were the improvement of macroeconomic management and reforms of the financial sector. Greater attention was also paid to improving the investment climate, strengthening governance and boosting investments through privatization. Combined, these attracted increasing capital flows (including remittances and foreign direct investment), and stimulated domestic demand. Improved macroeconomic and fiscal management was greatly facilitated by Nigeria's successful efforts to secure the largest debt write-off in the history of the Paris Club reducing its external debt fiom US$ 33 billion in 2003 to just US$3.5 billion in 2006.
10. At the center of strong macroeconomic performance was the prudent management of oil revenue. An oil-price based fiscal rule was introduced in 2004. Under the rule, the approved budget is based on a conservative reference price for oil, and any excess revenue is saved in the Excess Crude Account. This mechanism largely de-links expenditure from oil prices by not only limiting federal expenditure but also subjecting transfers from oil revenue above the oil reference price to state Governments to a negotiation with the ~edera t ion .~ As a result, the mechanism succeeded in avoiding boom-bust cycles of spending that had plagued Nigeria since the 1970s. Sound fiscal policies were twinned with prudent monetary policies to curb the inflation rates of 40 percent per year in the 1990s to between 14 and 18 percent during 2001 - 2005 and to single digits in 2007, only mildly accelerating in 2008. Notwithstanding these positive developments, the country faces important macroeconomic management challenges related to its federal structure, with the Excess Crude Account being challenged in courts as being unconstitutional. Further reforms, including in the area of fiscal federalism, are needed to ensure that sound fiscal management becomes a responsibility of all levels of ~overnment .~
Nigeria's constitution provides for allocation of more than 54.2 percent of oil revenue to the states and local fovernment according to a revenue sharing formula.
For example, large disbursements from the ECA to states in 2008 could have fuelled unsustainably high expenditure increases, if the budget execution rate had been higher.
still scope to reducing corruption and improving governance both at the federal and the sub-national levels.
11. Macroeconomic stabilization was accompanied by a series of reforms aimed at improving public sector performance and accountability. In the area of public fmancial management, a Fiscal Responsibility Act (FRA) and new procurement law were passed in 2007 at the federal level and similar laws are being adopted in all states. The Accounting Transactional Recording and Reporting System (ATRRS) was rolled out, and a computerized federal payroll management system was launched. Preparations for the adoption of the Government Integrated Financial Management Information System (GIFMIS) have gained pace and an E-payment system introduced in 2008 promises to increase transparency and accountability further. These systems reforms are still under implementation, and need further work to deliver on their promise of transforming budget management and controls into a fully fimctional set of tools for managing public fmances. In addition, reform efforts in public financial management at the federal level have not been matched at the sub-national level, where half of public resources are spent. While some states have made important strides, others lag behind. The Bank's program supports several reform-minded state Governments through Public Financial Management (PFM) diagnostics and reforms.
12. Successful initiatives were undertaken to increase transparency and reduce corruption through the establishment of the Economic and Financial Crimes Commission (EFCC). Nigeria also adopted and is implementing the Extractive Industries Transparency Initiative (NEITI) to improve governance of the oil and gas sector. Disclosure on revenue allocations to all levels of the Government has been regular through newspapers and Government websites. Nigeria's success in improving the management of the economy and strengthening governance has also been reflected in a sharply
C. Recent Economic Developments
improved rating on the World Bank's Country Policy and fi-om 2.8 in 2006 to 3.4 in 2008. In addition, corruption perceptions have improved, with Nigeria climbing from 10ISt out of 102 countries in 2002 to 121St out of 180 countries in 2008 in the Transparency International rankings. Notwithstanding these improvements, there is
13. Following robust growth in 2007, Nigeria's economic growth decelerated in 2008, in the wake of
Institutional Assessment (CPIA) which rose
the global economic crisis. Gross domestic product (GDP) grew by an estimated 5.1 percent in real terms in 2008+ompared with 6.4 percent in 2007. Oil output declined by 5.5 percent-more than in previous years owing to growing unrest in the Niger Delta. However, non-oil growth remained buoyant at 7.7 percent, reflecting growth in all sectors of the economy, in particular agriculture and services (see Figure 2Error! Reference source not found.).
14. High international oil prices until the third quarter of 2008 and improved non-oil revenue collections kept the fiscal position relatively strong. In
Figure 2: GDP Growth 2005-2008 and Contribution to GDP in 2008
Real GDP growth
Contribution to GDP ,2008
(percent)
the first three quarters of 2008, the price of oil in the international market remained very high, reaching an all-time high of US$ 147 per barrel in July (as against an oil reference price in the 2008 budget of US$ 59). As a result, oil revenue significantly exceeded the budget leading to savings in the Excess Crude Account of about US$ 18 billion at end-2008. Also, reflecting improvements in tax administration, non-oil revenue exceeded budget projections and was significantly above 2007 collections.
15. The overall fiscal balance of the consolidated Government in 2008 was a robust 5 percent of GDP. Total consolidated Government expenditure in 2008 fell marginally from 29.5 percent of GDP in 2007 to 27.8 percent in 2008. While federal Governmelit expenditure is estimated to have fallen from 15.9 percent of GDP in 2007 to 13.5 percent in 2008, states and local Government (SLG) expenditure is projected to have risen from 12.4 percent to 13.8 percent. Recurrent expenditure accounted for 84 percent of federal expenditure.
16. In view of the uncertain duration and depth of the crisis the federal Government continues to exercise caution in using the Excess Crude Account (ECA) and limits draw-downs to offset shortfalls in revenue and to finance critical infrastructure. In the first half of 2008, a total of US$ 6.8 billion was shared from the ECA with states. In June 2008, US$ 5.3 billion from the ECA were allocated to the power sector, and the bulk of these resources have been withdrawn into a separate account for managing the power sector investments.
17. Headline inflation increased well above the single digit range in 2008, reaching 15.1 percent (year-on-year) in December (see Figure 3). This hike was due not only to the increase in food prices during the year, but also a rise in core inflation, reflecting the rapid expansion of liquidity.
18. Monetary growth continued to accelerate in 2008, largely on account of an increase in credit to the private sector. Increased private sector credit was concentrated in a few sub-sectors: oil and gas, telecommunications, and wholesale and retail trade. However, individuals and households increasingly benefited from consunier and mortgage credits. Growth in credit to the private sector slowed down significantly at end-2008, as foreign trade credit lines to Nigerian banks began to dry up as a result of the global economic crisis, and the decline in Nigeria's stock market affected banks' asset quality.
Figure 3: Inflation 2005-2008
25.0
20.0
15.0
10.0
5.0
0.0
-5.0
-10.0
--
Headline Inflation -Core Inflation -Food Inflation
19. The fall of oil prices and declining capital inflows led to a substantial reduction in foreign currency inflows and a sharp decline in the exchange rate, prompting the central bank to reintroduce temporary exchange controls. In an effort to stern the depreciation of the exchange rate, in January 2009, the Central Bank of Nigeria (CBN) imposed temporary exchange controls that effectively led to a suspensioii of the credit of the interbank foreign currency market. These measures have had the effect of stabilizing the exchange rate in the Central Bank oflicial window at between W144.54146.5 to the US$ since end-January 2009. However, they have also resulted in increased activity in the parallel
market4 for foreign exchange where the rate of depreciation is much higher. Initially the spread between the parallel market and the official rate was about 38 percent (between end-November 2008 and end-March 2009), but following the announcement on May 21St, 2009, of the authorities' intention to normalize the foreign exchange market within 3 months and a set of measures lessening the impact of the restrictions the spread has declined to around 10 percent.
20. The decline of the stock market in combination with coizcerns raised in the media about the accuracy of banks' financial reporting, and depreciation of the exchange rate led to stress on the banking system. Concerns were raised about the true level of capitalization of the banks. In conjunction with the ten-fold increase in bank minimum capital to W 25 billion (introduced as of end-December 2006) many banks made initial public offerings (IPOs). At the time the demand for bank shares far outstripped the supply, leading to a sharp rise in share prices and encouraging the banks to make repeated share offerings. As a result several banks managed to accumulate capital of over W 100 billion. When stock market prices adjusted both as a result of portfolio outflows resulting fiom the global crisis as well as the adjustment to more sustainable pricelearnings ratios on the Nigerian market, banks in Nigeria were heavily impacted, particularly because they had lent to customers both directly and through their broking subsidiaries for the purpose of purchasing shares. The CBN is monitoring the situation of individual banks carefilly and has determined that the impact of this margin lending on bank solvency is manageable for the banking system, given its high level of the capitalization. Nonetheless, uncertainty as to the extent of individual bank's exposures awakened fears regarding the quality of bank disclosure and reporting practices. Particular concerns relate to the reporting of the value of investments at cost rather than market value; provisioning for non-performing loans based on time overdue rather than their expected recovery; and the lack of consolidation in both financial reporting and supervision of banks and their subsidiaries and affiliates.
21. In early 2009 when these domestic factors were compounded by the liquidity impact of the global crisis on trade, portfolio, remittance and Foreign Direct Deposit (FDI) inflows bank depositors' confidence was undermined, and deposit interest rates rose sharply as banks began to compete for liquidity and banks with liquidity hoarded cash and reduced their counterparty risk on the interbank market, firms and individuals also hoarded foreign currency to avoid temporary foreign exchange restrictions, and a "flight to quality" took place. In response, the CBN took action to supply liq~udity to the banking system by opening an extended window facility, reducing liquidity ratio requirements, and reducing reserve requirements. These measures were supplemented by temporary interest rate caps imposed (at the request of the banking industry) to reduce price-based competition for deposits. In combination, these measures have restored some confidence to the system, with borrowing from the extended window facility falling from a peak of about W 480 billiodday in November and December 2008 to about W 280 billionlday in mid-May 2009, and banks also reported in May 2009 that deposit interest rates have also begun to fall in line with the reduced liquidity pressure.
D. Macroeconomic Outlook
22. The Government remains committed to sound macroeconomic management, and maintains an adequate macroeconomic policy stance. In piloting the economy through this difficult year, the Government is appropriately trying to sustain Government spending, but with a focus on improving
4 The CBN estimates that a "normal" level of activity in the parallel market is 6% to 8% of the volume of the official market due to tax, customs, and excise evasion.
effectiveness of expenditure for growth and employment creation. Annex 3 provides the related assessment by the International Monetary Fund (IMF) on the adequacy of the medium-term macroeconomic framework.
23. Low growth is projected for 2009-2010, with a subsequent slow recovery (Table 1). Over the medium term, non-oil growth is expected to accelerate fiom about 3 percent in 2009-2010 to 6.5 percent in 2014, reflecting the gradual recovery of the economy following the end of the global financial crisis.
Table 1: Medium-Term Macroeconomic Indicators
2006 2007 2008 2009 2010 2011 2012 2013 2014
Act. Act. Est. Proj. Proj. Proj. Proj. Proj. Proj.
National income and prices (annual percentage change, unless otherwise specified) Real GDP (at 1990 factor cost) 6.0 6.4 5.3 2.9 2.6
Oil and Gas GDP -4.5 -4.5 -4.5 -2:6 0.5 . Non-oil GDP 9.4 9.5 7.7 4.0 3.0
Production of crude oil (million barrels per day) 2.36 2.21 2.09 2.02 2.02 Nominal GDP at market prices (billions of naira) 18,710 20,874 25,141 25,021 29,126 Nominal non-oil GDP at factor cost (billions of naira) 11,582 13,124 15,657 18,618 21,076 Nominal GDP per capita (US$) 1,049 1,164 1,451 1,109 1,201 GDP deflator 19.5 4.8 14.4 -3.2 13.4 Non-oil GDP deflator 18.8 3.5 10.8 14.3 9.9 Consumer price index (annual average) 8.3 5.5 11.2 14.2 10.1 Consumer price index (end of period) 8.5 6.6 15.1 11.9 8.5
Consolidated government operations (consists of federal, state, and local governments; percent of GDP) Total revenues and grants 33.9 28.4 32.1 22.2 24.1
Of which: oil and gas revenue 29.1 21.9 26.0 14.5 16.7 Total expenditure and net lending 26.9 29.7 27.2 30.6 27.5 Overall balance 7.0 -1.3 4.9 -8.4 -3.4 Non-oil primary balance (percent of non-oil GDP) -29.5 -30.7 -27.8 -25.1 -22.0 Excess crude account (US$ billions) ' 13.3 14.2 18.3 15.3 16.1
Money and credit (change in percent of broad money at the beginning of the period) Broad money 53.4 44.2 Net foreign assets 72.5 16.4 Net domestic assets -15.7 27.8
Credit to consolidated government -38.3 -3.5 Credit to the rest of the economy 22.6 54.8
Velocity 2.9 2.3 Treasury bill rate (percent; end of period) 7.4 8.7
External sector (annual percentage change, unless otherwise specified) Current account balance (percent of GDP) 13.5 Exports, f.0.b. 19.9
Oil export volume -2.7 Imports, f.0.b. 25.8 Terms of trade 20.4
Price of Nigerian oil (US$ per barrel) 64.3 Nominal effective exchange rate (end of period) -6.9 Real effective exchange rate (end of period) -1.3 External debt outstanding (US$ billions) 3.5 Gross international reserves (US$ billions) 41.8 (equivalent months of imports of goods and services) 9.8 9.9 11.3 8.8 7.5
Sources: Nigerian authorities and IMF staff estimates and projections. ' Including the naira-denominated component.
24. Following the sharp decline in oil revenue, the overall fiscal balance is projected to turn from a s~uplus of 5 percent of GDP in 2008 into a consolidated deficit of 8.4 percent of GDP in 2009 and 3.4 percent of GDP in 2010. The projected widening of the fiscal deficit is based on a conservative oil price of US$45/bbl. The primary deficit as a percentage of non-oil GDP is expected to improve from 27.8 percent in 2008 to 25.1 and 22 percent in 2009 and 2010 respectively, reflecting the fact that much of the increase in the overall deficit is on account of higher capital expenditure. Under the medium-term projections, the budget would be gradually returning to overall balance by 2014.
25. Despite the economic downturn, the federal Government is. maintaining efforts to strengthen the fiscal balance and reprioritize Government spending. In response to the crisis, the 2009 budget caps recurrent expenditure, and makes a determined effort at targeting major growth bottlenecks through higher allocations for capital spending in priority sectors. In percent of non- oil GDP, recurrent expenditure will decline by 1.3 percentage points in 2009 reflecting cuts in overhead expenditure due to reduced international travel and transport, workshops, and meal entitlements. Capital expenditure will increase by 2.4 percentage points of noii-oil GDP in 2009, mostly in the area of works, housing, agriculture, transport and power (see Table 2).
26. In terms of the capital spending, the federal Government is seeking to both to increase allocations and accelerate execution compared with 2008. The content of the capital budget, in line of the division of labor within the federation, focuses on roads, agriculturelwater, and power (Figure 4). In addition 6 percent of the capital budget is distributed as grants through the MDG office. Faster execution of works, power projects, and investment in priority sectors or distribution of grants will have a direct employment effect, but also address longer-term supply bottlenecks.
Figure 4: Nigeria: Federal Government capital budget, 2009
Education
r Health
&@ MDGsoffice
JI Environment
@ A~ricul turr & Water
r Power
I Transport & aviation)
8% Works {roads) and housing
&& FCT
@Niger Defta
k t u r i t y (Defense& poice)
u Capital supplementation
% Others
Table 2: Nigeria: Federal Government Budget, 2005-09
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-6- NGN
NmpPhoBuRr- wma-aaE33 --- V a l m k M W
27. Financing of the 2009 budget remains challenging despite significant levels of savings in the excess crude account. Overall financing needs for the federal Government are estimated at $41.2 trillion or US$ 8 billion (Table 3). The three tiers of Government reached an agreement on March 9, 2009 to share the sum of US$ 1.5 billion from the excess crude account. In view of the
Table 3: Nigeria: 2009 Federal Government Budget ($4 Billion)
Budget
Total revenue 1,900 Petroleum revenue 1,516 Nonpetroleum revenue 384
Total expenditure 3,102 Recurrent expend~ture 2,080 Capital expenditure 1,022
Overall balance (cash basis) (1,201)
uncertainty about the depth and duration of Fiizz 1,201 39
the global financial crisis, the three tiers of Borrowing ( $ 5 0 0 ~ from IDA) 73 Amortization, cash Government have agreed to limit access to (34)
1,038
the Excess Crude Account to offset shortfalls Unspent acco~lnt balances (lncludlng specla1 accounts) 365 ECA (FG's share of the $1 5B) 59
in revenue and to finance critical Borrowing 614
infrastructure (in particular the power sector).
28. The Government is seeking to combine some domestic borrowing with concessionary external resources (Figure 5). Financing this shortfall through domestic borrowing would cause significant strains in domestic financial markets as well as crowd out of private sector credit, possible fi~rther exacerbating the impact of the crisis. The current weak appetite for emerging market debt also reduces Government options for international bond financing.
Privatization proceeds Recovered funds ($200M recall from ADB)
Figure 5: Federal Financing Plan
2009 Federal Budget Financing Plan
/ %term1 Unspent 2008 Balances ECA 1 1
proactive response by the central bank. Figure 6: Current Account Projections
Headline inflation (on an annual average 1 29. Control of inflation will rely on a
- - -
basis) is projected t o increase from 11.2 percent in 2008 to 14.2 percent in 2009, partly reflecting the impact of strong growth in monetary aggregates in 2008. Medium- term projections assume that inflation will remain between 8 and 9 percent.
30. Nigeria's current account balance is projected to move from a surplus of 4.5 percent of GDP in 2008 to a deficit of 9 percent of GDP in 2009 and 3.5 percent of GDP in 2010 (Figure 6), reflecting significantly lower oil exports and the sharp decline in oil prices from peak levels in 2008. The current account is projected to improve gradually but remain in deficit in the medium-term through 2014. External reserves are projected to continue to decline from a peak of US$ 62
Domt~cBonds Privatlsatlon Proceeds Recall fromAfDB
billion in September 2008 to US$ 39.6 billion (about 8.8 months of import cover) by end-2009 and US$37 billion (about 7.5 months of import cover) by end-2010.
3 1. A debt sustainability analysis conducted in 2008 by Nigeria's Debt Management Office found that Nigeria's debt outlook was robust. The results were confirmed by Bank and Fund staffs' calculations. Despite the significant changes in oil prices since the completion of the last Debt Sustainability Analysis, in view of very low debt servicing ratios, the risk of debt default over the medium term remains low. Under a scenario of a prolonged oil price shock (calibrated as one standard deviation of Brent crude prices over the period 1970-2006) Nigeria's external debt ratio could reach 37 percent of GDP by 2027, but debt service payments would remain low at around 1 percent of exports. The bulk of current outstanding external debt is to multilateral creditors, and Government continues to reiterate its desire to contract any future borrowings on concessional terms. The stock of domestic debt of the federal Government has increased only modestly since 2005, mostly as a result of the securitization of budget and pension arrears.
32. The Nigerian authorities intend to continue implementing reforms aimed at ensuring long-term debt sustainability. Key elements of the debt management framework include: (i) limiting external borrowing to concessional terms and specified thresholds to ensure debt sustainability in the future; (ii) requiring state Governments to seek federal Government approval for external borrowing; (iii) setting guidelines and limits on federal guarantees for borrowing by parastatals; and (iv) improving data on public debt. To address concerns about domestic borrowing at state and local Government levels, the CBN has significantly increased provisioning requirements for commercial bank lending to sub-national Governments, while the Securities and Exchange Commission introduced rules for sub-national bond issuance that significantly reduce the risk of default on sub-national debt.
33. Long-term challenges and risks remain for staying on a sustainable fiscal path (Figure 7). These challenges result from the careful equilibrium in managing the excess crude account
- -
between the different levels of Government. A break-down of this consensus-driven approach to - -
reducing the impact of oil price volatility on spending would destabilize macroeconomic aggregates. Similarly, a successful challenge to de-regulation of the petroleum downstream Figure 7: Fiscal Balance sector and improving effectiveness of expenditure would increase challenges for sustainable fiscal management. However, Government's strict adherence to the oil-price based fiscal rule coupled with a conservative estimate of the 2009 oil reference price of US$ 45 per barrel bodes well for addressing the challenge. The Government has also established and continues to empower the Fiscal Responsibility Commission to monitor and enforce the provisions of the FRA.
Consolidated Government Fiscal Balance (in % of GDP)
E. Status of IMF activities in Nigeria
34. In 2005, Nigeria became the first country to adopt an IMF Policy Support Instrument (PSI), which expired in late 2007. The PSI supported Nigeria's reform program set out in the homegrown National Economic Empowerment & Development Strategy (NEEDS) of 2004 - 2007. The IMF commended Nigeria's performance under the program in the area of macroeconomic policy and structural reforms, noting that the development of a strong policy framework, supported by continued political commitment, was critical to preserving the gains. The authorities have indicated interest in a successor prograni. In March 2009, an IMF staff visit took place to assess the impact of the current crisis. The IMF cautioned about the temporary exchange controls imposed by the Central Bank and highlighted the downside risks for the 2009 budget.5 The most recent assessment, which confirms the adequacy of the medium-term macroeconomic framework in the face of the global financial crisis, is attached in Annex 3.
F. Governance
35. Significant progress has been made on governance which needs further strengthening. The recent and substantial improvements in macroeconomic stabilization were accompanied by a series of reforms aimed at strengthening the institutional and legal frameworks for transparency, accountability and public sector performance. These include putting in place the FRA, the NEITI and Public Procurement legislations at the Federal level in 2007, consistent with best international practices. The implementation of these new Laws is ongoing and in need of further support--cascading down to the sub-national levels of Government. The Accounting Transactional Recording and Reporting System (ATRRS) was rolled out, and an Integrated Payroll and Personnel Information System (IPPIS) was launched in 2007 leading to significant savings on the wage bill in six pilot Ministries, Departments and Agencies (MDAs). Preparations for the adoption of the Government Integrated Financial Management Information System (GIFMIS) have gained pace and an E-payment system introduced in 2008 promises to increase transparency and accountability further. The Auditor General has significantly reduced the backlog of audit reports up to 2006.
36. The passage of the procurement law was followed by: (i) the establishment of a regulatory agency (Bureau of Public Procurement (BPP)) that provides procurement oversight function; and (ii) development of some procurement tools such as implementation regulations and the National Procurement Manual. The creation of a professional procurement cadre in the civil service has further enhanced the quality of procurement. Competitive bidding in public contracts is now widespread with significant savings being made and there are improved consultations with anti-corruption agencies, civil society organizations (CSOs) and parliamentary oversight committees.
37. On the Anti-Corruption front, Nigeria's Economic and Financial Crimes Commission (EFCC) has made significant in-roads on indicting high level corrupt officials and recovery of stolen assets as well as on internet fraud in the past 4-5 years. These achievements are reflected in improvements in Nigeria's TI corruption perception index from 101'' out of 102 countries in
--
'on May 21,2009, the CBN announced that the temporary exchange controls will be removed over a three-month period and took immediate measures to phase them out.
2002 to 121St out of 180 countries in 2008. However, corruption and poor governance remain important challenges both at the federal and the state level.
G. Poverty
38. The incidence of poverty in Nigeria has Tab13 4: Trends in Poverty Levels: 1980-2004
fallen since the mid-1990s. accordinn to the 2004 Estimated Nigeria Living Standards Survey ( N ~ s ) , the latest Poverty total Population available household survey. The NLSS indicates Year incidence population in poverty
1980 that the national poverty rate fell from about 65.6 1985 28.1 65 m 18.26 m 46.3 75 m 34.73 m
percent in 1996 to 54.7 in 2004. However, over the 1992 42.7 91.5 m 39.07 m same period the actual number of persons living in 1996 65.6 102.3 m 67.11 m poverty increased by almost 2 million. The NLSS 2004 54.7 126.3 m 69.09 m showed that poverty in rural areas is Source: NCS 1980,1985,1992,1996, NLSS 2004.
higher than in urban areas (Table 4).
39. Obtaining more current poverty estimates will have to await the results of the new NLSS (2009) currently being conducted, with results expected by the end of 2009. However, strong growth in the non-oil economy, especially since 2003, suggests that poverty is likely to have fallen substantially, especially as growth has been buoyant in all sectors and was driven primarily by agriculture. This conclusion is also supported by a recent analysis of data of General Household Surveys of 1999, 2004 and 2006 which indicate that real incomes in the formal and the informal sectors have risen significantly in real terms, especially in the mral informal sector.
111. NIGERIA'S RESPONSE TO THE CRISIS AND MEDIUM-TERM STRATEGIC FRAMEWORK FOR POVERTY REDUCTION AND FINANCIAL SECTOR REFORM
A. Government's Response to the Unfolding Crisis
40. The impact of the international financial crisis began to be felt in Nigeria in the fall of 2008. In response the Federal Government of Nigeria (FGN) and the CBN took a number of immediate and proactive actions which, in some cases, rapidly accelerated implementation of key components of Nigeria's long term reform program developed with bank and donor support under the aegis of the Financial Sector Strategy 2020 (FSS 2020) framework, an agenda described in detail in (Table 2), and public financial management reform. The measures undertaken in response to the crisis included establishing a Presidential Committee to coordinate FGN's anti-crisis program; measures to stabilize the banking system and restore confidence; fiscal adjustments including work to develop progranls to offset the impact of the economic slowdown on the poor; and, administrative reforms designed to improve revenue collection and the quality and transparency of Government expenditures. These policies (including the oil-price based fiscal rule, targeting of growth bottlenecks, containing recurrent costs and wages, tackling subsidies, and prudent borrowing) will be important to build the confidence of domestic and international investors in the Government's ability to stay on a sustainable path and help mitigate the crisis.
Creating a Presidential Committee to coordinate the response to the crisis: In January 2009, the President inaugurated this committee which is chaired by the President
himself and which includes key Government Ministers, four prominent State Governors, business leaders, academics and the trade unions. The Committee meets on a regular basis and has proven an effective mechanism for coordination as well as consensus building around measures to be taken.
Adopted a framework for strategic interventions to address supply constraints and unemployment in the context of global economic crisis: With a view to addressing the crisis the presidential committee to coordinate the response to the crisis already approved a framework to improve growth prospects, notably: (i) the upgrading of key roads; and (ii) the adoption of a massive program of relatively small maintenance and clean-up projects for roads, drainage and other basic infrastructure.
Stabilizing the banking system. The CBN acted swiftly to counteract liquidity stress in the banking system as a result of a combination of exchange rate depreciation, hoarding of liquidity by banks, firms, and individuals, and a "fight to quality" by depositors. An extended borrowing window was opened at the CBN to provide liquidity for up to 365 days, and access to the window was eased by expanding the range of acceptable collateral to include high quality commercial paper. The CBN facility is backed up by liquidity borrowing facilities available from the Nigerian Deposit Insurance Corporation (NDIC) for banks in full regulatory compliance (this facility has so far not been used). Liquidity pressures have been eased further by a stepped reduction of reserve requirements from 4 percent to 1 percent and of the regulatory bank liquidity ratio requirement from 40 percent to 25 percent. Interest rate pressures on banks were eased by reducing the Monetary Policy Rate from 9.75 percent to 8 percent and, at the banking industry's request, the imposition of temporary interest rate caps to dampen the bidding up of deposit rates. In combination, these measures have been successful in reducing liquidity stress on the system and restoring some liquidity to the interbank market: daily borrowing from the extended window facility fell from a peak of about 86 480 billion in November and December 2008 to about 86 280 billion in mid-May 2009, and in the same month banks reported that deposit rates had begun to fall below the cap rate 15 percent and limited liquidity was returning to the interbank market.
Improving the transparency of the banking system to improve depositor and investor confidence (Box 1). As the international financial crisis developed starting in mid- 2008, the CBN swiftly accelerated the implementation of measures to strengthen bank supervision and the quality of bank financial reporting which had formed part of the FSS2020 medium tern1 agenda to upgrade the quality and reputation of the banking system to international standards. These measures included: announcing that banks would be required to convert to International Financial Reporting Standards (IFRS) as of 31St December 2010; initiating the procurement process for a major international accounting firm to assist the CBN with transitioning to IFRS-based supervision and regulation; requiring all banks to adopt a common financial year end of 3 1 December; placing resident bank inspectors in all banks to continuously monitor them; adopting a program for the introduction of consolidated risk-based supervision; and, implementing the e-FASS information system which provides real time data on banking transactions to improve the CBN's ability to monitor and analyze the system.
These measures to improve supervision were supplemented by the issuance of regulations covering the operation of private credit bureaus and, by May 2009, the issuance of the first two provisional licenses to private bureaus. The development of the private credit information industry should enable banks to better manage their credit risks using higlier quality and more timely information on borrowers.
Box 1: Investors See Upgrading Banks' Reporting & Governance as Essential
"Following three strong years of growth in capital and assets, Nigerian banks have evolved very rapidly from the small, fragmented, and structurally weak players of the pre-consolidation era.. . .Nigerian banks have also become more complex on account of the increased variety of assets, liabilities and to some extent, capital structures that they have since acquired. This increased balance sheet variety has not been accompanied by sufficiently more advanced levels of financial reporting, both in terms of frequency and depth of reporting. Whereas the typical pre-consolidation bank might be limited in its credit risk exposure only to large corporate, foreign and local banking counterparties and the Federal Government, current bank balance sheets are more likely to include unsecured consumer credit risk, trade finance exposure, equity markets risk, sovereign fixed income and corporate lending risk, corporate or residential real estate backed debt, as well as significant potential for foreign currency risk as part of large scale asset and liability transactions with international counterparties. Given these new realities, accounting and financial reporting standards that may have been sufficient in the years before 2005 have now become at best archaic as a basis for continuous public assessment of conxnercial bank's financial position and performance."
Source: Nigerian Banks: In 2009 Transparency Will Be The Key, Afrinvest West Africa, January 2009
Recasting the budget: Prior to September 2008, the Government had announced an oil reference price of US$ 62.5 per barrel. This was quickly reduced to a much more conservative price US$45 per barrel-the lowest among oil producers-which has to date proved a far more accurate and prudent forecast, resulting in an overall sound budgetary framework, albeit not one free of risks from further declines in oil production and prices.
Upholding the use of the Excess Crude Account: In 2008 the National Economic Council decided to allocate withdrawals to finance ongoing and critical projects in the power sector (US$ 5.3 billion). The Government recognizes the need to retain balances on the Excess Crude Account so as to have a fiscal cushion with which to address eventual medium term needs, especially should the crisis persist.
In early-2009 the Government inaugurated the Fiscal Responsibility Conmission to monitor and enforce the provisions of the 2007 Fiscal Responsibility Act. The Fiscal Responsibility Commission, which includes members of the private sector and of NGO's in addition to Government officials, is empowered to review the implementation of the F M , investigate contraventions to the act and report them to the National Assembly
Eliminating non-essential recurrent expenditure and focus on priority sectors: The 2009 budget shifts the focus from recurrent to capital expenditure to spur growth and tackle infrastructure bottlenecks. To limit current expenditure, measures were put in place to contain overhead expenditure and the wage bill. The 2009 budget shifts focus
from recurrent to capital expenditure to spur growth and tackle infrastructure bottlenecks. It undertook a detailed review of bottlenecks in capital budget execution and took measures to accelerate the releases of the capital budget and remove procedural bottlenecks without jeopardizing quality. In addition, employment- intensive projects to rehabilitate physical infrastructure are a focus of additional spending expected to boost incomes and address poverty. Overall these efforts result in a strong improvement of the quality of the 2009 budget from a development perspective. The Government has also announced its intent to further prioritize the budget through the use of the Cash Management Committee, and a further round of elimination of less essential spending and introduction of priority spending in key areas of service de1ivery.s
Deregulation of the petroleum downstream sector: With a view to improving the efficiency of the petroleum downstream sector and creating conditions conducive to investment by the private sector, the Government decided to embark upon the deregulation of the petroleum downstream sector.
Intense efforts are underway to improve the quality of spending and the execution of the budget: This includes significant reforms in the area of Public Financial Management and Procurement where the Bank and other donors are supporting a wide-ranging program of reforms at the federal and state level. In addition, the Government has developed Medium Term Sector Strategies for most key sectors of the economy to form the basis for budgeting and investment planning. Availability of funds for commitment of expenditures is becoming more predictable through cash- backing of budget releases. A cash management policy has been prepared with plans to implement a Treasury Single Account. Meanwhile, the Government has adopted electronic payment through the use of mandates until such time when connectivity challenges and use of an integrated inter-switch system is established.
Initiating reforms aimed at internal revenue generation: The crisis has strongly enhanced the awareness of the Nigerian leadership of the need to diversify not only the economy but especially the fiscal revenue base. There is now broad recognition that this is the only way to ensure Nigeria being on a long term sustainable growth path. The Government has therefore formed a Presidential Steering Committee on the . Global Economic Meltdown with the mandate to develop a two year program for customs reform. Ongoing tax administration measures include an increased reliance on e-payments (expected to reduce leakages) and increased staffing. In addition, actions are taken to continue building on the reforms undertook in 2007 and 2008 by further implementation of the four bills adopted in 2007.~ The Federal Inland Revenue Service (FIRS) is implementing a modernization plan that includes: (i) the preparation and implementation of a change-management action plan for FIRS organizational reform; (ii) the development of new tax administration procedures to
The four bills are: the new Federal Inland Revenue Service act which raises the status of the FIRS to semi- autonomous agency and enhances its ability to raise revenue for its own administration, the Bill for an Act to amend the Companies Income Tax Act, the Bill for an Act to amend the Value added Tax, and the Bill for an Act to amend the National Automotive Council Act
improve transparency and effectiveness, including in collection, audit dispute resolution and investigative intelligence and preparation of new operation manuals; (iii) the development of institutional capacity of FIRS information systems, including preparation of training needs analysis, a comprehensive training plan and provision of general and specialized staff training; and (iv) the modernization of the basic FIRS information system including provision of network facility support, intensive ICT training for both senior management and end-users and preparation of a preliminary study for integrated tax information management system.
B. Nigeria's development agenda: NEEDS and the 7-Point Agenda linkages
41. NEEDS. In 2004, the Nigerian Government articulated a poverty reduction strategy - the National Economic Empowerment and Development Strategy (NEEDS). NEEDS was designed to focus on the four main goals of Wealth Creation, Employment Generation, Poverty Reduction and Value Re-Orientation. The strategic pillars of NEEDS were: Empowering People, Promoting Private Enterprise and Changing the Way the Government Does its Work. The strategy was implemented between 2004 and 2007 and provided effective guidance to the authorities' broad reform agenda. Key macroeconomic indicators improved during the NEEDS and significant progress was made in the areas of public expenditure management, governance, transparency and accountability. Many social indicators also improved, e.g. school enrolment at all levels of education increased and the HIVIAIDS infection rate declined. However, maternal and infant mortality rose during the NEEDS implementation period and access to basic health care remained weak. A successor strategy to NEEDS (NEEDS-11) was prepared shortly before the beginning of the new administration.
42. 7-Point Agenda. The current administration has articulated its reform priorities in a 7- point agenda that is based on NEEDS. NEEDS-I1 and the 7-point agenda are currently being harmonized in a National Development Plan which is pending the approval of the Government. The seven focus areas of the new strategy are: (i) critical infrastructure (partic~~larly electricity and transport); (ii) Niger Delta regional development; (iii) food security; (iv) human capital development; (v) land tenure changes and home ownership; (vi) national security; and (vii) wealth creation. These policy priorities of the Government can be defined as follows:
Sustainable growth: in the real sector of the economy Building upon the reforms in macroeconomic management to foster private sector and employment growth. The elements include a firm fiscal policy, transparent fiscal operations, development oriented monetary and exchange rate policies, and strengthening of the financial sector.
Physical Infrastructure. In power: develop an integrated, lowest cost, expansion plan for the development of the Nigerian electricity industry in the medium and long-term; upgrade and reinforce distribution networks; develop an appropriate gas policy to encourage production and supply of gas for electricity generation; develop gas production and supply infrastructure; and develop a policy on IPPs. In transport: provide platforms for public-private partnerships (PPP), which will require extensive capacity building in Ministries and agencies. In roads: explore mechanisms to ensure funding for maintenance investments. In railways: revive the system and involve the
private sector. In aviation: the priority is to anchor reforms, including a recertification project, on the National Civil Aviation Authority.
Agriculture: Develop a private sector led input supply and distribution system; support all-season farming by promoting rain-fed and irrigated farming with emphasis on Fadama agriculture; develop markets and agribusiness with adequate infrastructure in transport, power and water resources; expand existing initiatives such as bio-fuel; strengthen agriculture research and streamline the extension delivery system; improve competitiveness of Nigerian agriculture in the international markets; increase the budgetary allocation to agriculture; reform the land tenure system; and restructure or replace the National Agricultural and Co-operative Development Bank (NACRDB) to improve the flow of finance to the agricultural sector.
Human Capital Development: In education - improve the efficiency and effectiveness of available funds in MDG and Universal Basic Education (UBE) program implementation, particularly at the state level; design and implement education reforms at the state level based on Federal education reforms. In health: further define and coordinate health care responsibilities at the federal, state and local Government levels; revitalize the primary health care system; fully utilize the potential of Public- Private Partnerships; increase access to anti-retroviral drugs; substantially reduce infant and child mortality rates; make substantial progress towards the health related MDGs; achieve 100 percent success rate in child immunization; and provide Nigerians with easy access to health insurance.
Security, Law and Order: Improve policing, judicial reforms; give a greater role to civil society and advocacy groups in educating people on proposed bills and in taking part in National Assembly public hearings; and improve the Nigerian prison system.
Combating Corruption: Strengthen anti-corruption agencies and establish anti- corruption units within Ministries; greater transparency in budgetary and fiscal activities; empower NGOs and civil societies to inquire about Government spending; improve funding of the Auditor General's office; and pass of the Freedom of Information Bill.
Niger Delta: In March 2007, the Niger Delta Regional Development Master Plan was formally launched. The plan, a US$50 billion, 15-year sequenced framework, aims to address poverty and community needs in an environmentally and socially sustainable manner. Also, in March 2009, the Niger Delta Ministry was established which will be in charge of implementing the plan.
C. Nigeria's Financial Sector Reform Strategy
1. Reforms have greatly strengthened the financial sector
43. While FSS 2020 (see below) lays out a sizeable agenda for further reform, it is important to recognize that major reform of the financial sector started in 2004 with a 13-point reform agenda issued by the Central Bank of Nigeria (CBN). It aimed to transform the financial sector into a growth catalyst, focusing on increasing minimum capitalization for banks to $425 billion from December 2005. The financial sector reform efforts also witnessed the phased withdrawal of public sector funds fEom the banking sector, the adoption of a rule-based regulatory framework and an automated process for the rendition of returns by banks and other financial institutions through the enhanced Financial Analysis and Surveillance System (e-FASS). A number of relevant laws were updated and enforced and the period saw a closer collaboration with the Economic and Financial Crimes Commission (EFCC) in the establishment of the Financial Intelligence Unit (FIU), and the enforcement of the anti-money laundering and other economic crime measures.
44. As a cornerstone of the 13-point reform agenda, the CBN raised the minimum capital requirement of banks from 812 billion (US$ 15.4 million) to N25 billion (US$ 192 million) in June 2004 and banks that could not meet this requirement either merged or had their licenses revoked. By the end of the consolidation exercise in December 2005, the number of banks had dropped from 89 to 25. The success of these banking sector reforms (Table 5) together with sound macroeconomic reforms has created opportunities for improving the availability of finance for productive investments, including:
Banking consolidation has created banks with a significantly increased capital and deposit base which can be leveraged for term finance and outreach. As the largest financial market in Africa other than South Africa, Nigeria has significant potential to promote financial sector development also on a regional level;
Nigeria is now rated BB- by Standard & Poor's and itch,^
Total external debt dropped to US$ 3.5 billion in December 2006, compared to US$ 33 billion in 2003;
In 2004 a new regulatory framework for the pension system was introduced with the establishment of a strong regulator, the Pension Commission, and the pension system for public sector employees was changed from a defined benefit to a funded defined contribution system. Pension finds are now worth an estimated 34300 billion (US$ 2.5 billion), with a projected annual growth rate of 15 percent; and
In early 2007, one Nigerian bank issued over-subscribed bonds in the international markets without guarantees from any Government or multilateral agency. In addition, several other Nigerian banks have accessed several tens of millions of United States dollars in lines of credit from international financial institutions without Government guarantees.
7 Recently, S&P changed its rating outlook from stable to negative, but left the rating unchanged at BB-.
19
Table 5: Growth of the Nigerian Financial System 2004-2008 Category 2004 2008
Banking'sector capital base W.4 trn W10.4trn (2007) .. -- .- ......... - . . Volume of ................. equiQ transactions, in . billion shares 19.3 191.0 Value of e@ty transactions, in naira billion 223.9 2,376.7 Equity market cagtalization, in naira billion 1,926 6,960 - .. . Equity market capitalization, --- -- % of GDP 19% 33% Insurance ..................... Sector ~remiums ..... . .. W69bn W82bn . Pension . find assets . W50bn . W700 billion Secondary Bond market trading -. .- nla . . . Remittances US$2.26bn US$ lObn Source: CBN, SEC, NSE, World Bank and Pencom.
45. Notwithstanding the tremendous successes achieved under the CBN's 13-point agenda, the Nigerian authorities are cognizant of the need to further strengthen the financial sector and in 2006 embarked on the development a comprehensive, long-term, strategic plan for the development of the financial sector -the Financial System Strategy 2020 (FSS 2020). The FSS 2020 steering committee defined the vision for the strategy as follows: "To be the safest and fastest growingjnancial system amongst emerging market countries".
46. The strategy aims to build on the success of the recent banking sector reforms to promote greater stability, depth and diversity for the entire financial system. It covers all priority areas of the financial system. The World Bank, FIRST, IMF and IFC have supported the formulation of FSS 2020 with extensive technical assistance. Nevertheless, FSS 2020 remains a home grown approach and is fully owned by the Central Bank, the Ministry of Finance, regulatory agencies, and with industry representatives fully participating.
2. The FSS 2020 Framework for Financial Sector Reforms
47. The process of putting together FSS 2020 was highly consultative involving representatives of all the regulators, industry participants, academics, donors etc. From the outset 'focus groups' were organized for various sub-sectorss. They met regularly and their findings were reported and discussed at a series of retreats culminating in an international conference held in June 2007 opened by the President, which provided an official endorsement to the vision outlined in FSS 2020. Subsequently the Bank worked closely with the CBN to undertake further diagnostic work to set the baseline and develop an implementable roadmap for FSS 2020 focusing on such areas as: banking sector, payments and remittances, debt management and debt market development, capital markets, insurance, pensions, housing finance and social housing, SME access to finance, microfinance, corporate governance, and creditor rights & corporate insolvency.
48. In each area, experts drafted concise papers identifying the key challenges to achieving the FSS 2020 vision and outlining practical, time-bound steps for overcoming them. In many cases, the papers have been discussed at length by industry stakeholders convened under the rubric of the Central Bank of Nigeria (CBN) FSS 2020 Working Groups.
Namely, capital markets, housing finance, regulation and legal framework, insurance market, credit market, SME finance, money and FOREX markets, monetary policy, IT and communications and human capital as well as quality assurance.
49. In an effort to maintain a results-oriented focus, support was also provided in assisting the CBN in putting together a Monitoring and Evaluation (M&E) framework for FSS 2020 and advising the project implementation unit-housed (temporarily) by the CBN-in organizing the envisaged transition to an implementation office referring to the Steering Committee to be appointed by the President.
50. Crucial to the success of FSS 2020 so far is that the strategy and process have all along been owned and managed by the Nigerian authorities. In supporting the authorities in moving FSS 2020 from the drawing board to implementation the Bank has broadened its involvement beyond providing technical support to supporting the complex change management challenge. This support to FSS 2020 has been greatly appreciated by Nigerian stakeholders, and the Nigerian authorities have managed ta make significant gains in the area of financial sector reforms which are elaborated in the following section.
PV. WORLD BANK GROUP STRATEGY AND PROPOSED DPC
A. Link to the Country Partnership Strategy and other Bank operations
5 1. A new Country Partnership Strategy (CPS) for Nigeria is being presented simultaneously to the Board with this Credit. The second country partnership strategy covers FY10-13 and focuses on three themes. These are: (i) improving governance; (ii) maintaining non-oil growth; and (iii) promoting human development, and were identified in the Government's Seven Point Agenda and reaffirmed in stakeholder consultations. Governance will be both a core theme and, because it is fundamental to achieving results in the other two areas, is also a cross-cutting theme, an integral part of virtually every form of support. When work began on formulating the CPS I1 in September 2008, the global crisis was just beginning to emerge and had not yet touched Nigeria. Since then, as discussed in Chapter 1 of the CPS, the Nigerian economy has begun to feel the effects of the crisis. As a result, the CPS is supporting the Government, as an integral part of its assistance program, in dealing with the impact of the global crisis. The focus of the DPC on strengthening the banking sector and on raising Government spending is also fully aligned with the core theme of governance and that of maintaining non-oil growth. The adoption of International Financial Reporting Standards, for example, will improve accounting and auditing standards, at the heart of improved banking sector supervision and governance in the financial sector (Box 7 CPS 11).
52. The DPC complements other operations in the Bank's active and prospective portfolio. Two large CDD operations (Fadama 111, US$ 250m and Community Social Development Project, US$ 200m) are just starting implementation. These operations will be crucial for cushioning the impact of the crisis on the rural poor by providing basic social and infiastructure services to rural communities as well as support for income generating activities to small holder farmers. In addition, the Bank is working wit11 the Government through its Millenium Development Goals Office (MDG) on designing and rolling out a Conditional Cash Transfer program based on international best practice. In the power sector, generally accepted to be the key to unlocking Nigeria's growth potential, the Electricity and Gas Improvement Project is designed to remedy the key problem of unreliable gas supply to power generating plants, thus creating the basis for sustainable growth in the sector through PPP investments. This is complemented by work on the creation of a sound regulatory fiamework for 'PPPs. Finally, the
Bank supports a large portfolio of operations in the human development sector. The health portfolio will gradually move away from vertical disease programs to a programmatic approach to mother and child survival. In education the emphasis will be on girl's education in the North and skills development for the labor market at secondary, vocational and tertiary levels.
53. In the Niger Delta, the approach will be attentive to the particularly fragile circumstances of the area. Sustainable development in the Niger Delta will be difficult in the absence of a peace settlement acceptable to all parties. Nevertheless, the Bank, DFID, USAID and the AfDB Development Bark have worked closely with UNDP to agree on a joint position on the Niger Delta. In the absence of a peace settlement, development partners will continue to seek opportunities to work with state Governments in the Niger Delta which demonstrate commitment to reform and better governance. The Bank is currently implementing CDD projects in the core states of Niger Delta (Fadama I11 and Community Social Development), and is in early stages of discussion with Bayelsa state, initially focusing on analytic work and policy dialogue, leading eventually to lending in the medium term. The Federal Government created a new ministry in September 2008, which is expected to be responsible for implementing the 15 year, US$ 50 billion Niger Delta Regional Development Master Plan. Partners will work closely with the Ministry and its parastatals on future support to the Niger Delta.
B. Analytical Underpinnings of the Credit
54. The proposed Credit is intended to provide budgetary support to the FGN to offset the fiscal impact of the crisis and signal the Bank's endorsement of the accelerated implementation of reforms in the financial sector, fiscal policy and management, and improvements to governance which the Government and CBN have undertaken in response to the crisis. Support for these actions is based on a range of economic and sector work on the Nigerian macroeconomic and financial sector that were concluded in 2008, includingg:
1. Financial Sector Development
Banking Sector Diagnostic: This report focuses on how the banking sector can be a major driver in achieving the FSS 2020 vision once it addresses the risks of the sector.
* Housing Finance: This report address the issue of what can be done to close the current housing gap, estimated at more than 17 million units.
Social Housing: The focus of this report is primarily on the options available for those further down the income distribution to finance their housing needs.
* Pensions Industry Assessment: This report analyzes and makes recommendations for further development of the 2004 pension reform.
* Insurance Industry Assessment: This report analyzes the underdevelopment of the Nigerian insurance market and makes recommendations for reforms.
9 A fuller description of the economic and sector work briefly described in this section can be found in Annex 1.
Access to Finance: This report identifies key issues for microfinance, branchless banking and SME finance.
Capital Markets: The report highlights the sizeable growth experienced in the capital market due to structural changes in the financial system and identifies additional reforms to ensure its continued development.
a Report on Observance of Standards and Codes for Creditor Rights: The report found that although the Insolvency and Creditor Rights regime of Nigeria is strong in certain aspects it remains in urgent need of reform.
Nigeria Investment Climate Assessment 2008: The ICA 2008 was based on a survey of 2,300 enterprises based in Nigeria. It concluded that Nigerian firms are unproductive largely due to a lack of electricity, good roads and access to affordable finance.
Doing Business in Nigeria 2009: This is part of an annual series of reports that compares more than 180 countries around the world in terms of the ease of doing business.
FSS 2020 Change Management and Implementation Plan: The objective of this report was to evaluate current/proposed change management approaches for the implementation of the FSS 2020 vision.
2. Public Financial Management
Debt Markets and Debt Management: This report highlights recent improvements in . Government debt management capacity and remaining areas for improvement.
Public Expenditure Management and Financial Accountability Review (PEMFAR): This report conducted in 2006 proposes actions to promote a sound Public Financial Management Environment.
Review of capital budget implementation: A recent review of obstacles to the faster execution of the capital budget resulted in a number of measures being adopted by the Government, including the early release of the capital vote and the swift approval of the 2009 budget as well as the introduction of a template for MDA's to monitor and evaluate the implemeiltation of capital projects. A sunmary of the recommendations is in Annex 7.
State-level Public Expenditure Reviews and Public Expenditure and Financial Accountability Assessments (PEFA): Several states have already completed Public Expenditure reviews and PEFA assessments y d use these to inform their reform agendas in the public financial management area.
3. Nigeria's Growth Strategy
Employment and Growth Study: This report identifies targeted interventions to remove binding constraints in employment-intensive value chains and identifies strategies to enhance the employment-intensity of growth.
C. Lessons Learned from Prior Operations
55. The 2005 CPS reflected four key strategic elements. First, it focused on areas where the Bank could have "quick wins" to establish the Bank's role, after a relatively modest presence in Nigeria. Second, it used a lead states approach, which involved selecting states with committed and capable leaders, and which was to serve as incentives for other states to improve their governance. Third, the strategy was a formal partnership with DFID. Finally, the strategy envisaged a gradual increase in the International Development Association (IDA) envelope, as governance and capacity improved.
56. In terms of development objectives, the overall outcome was assessed as moderately satisfactory by the CPS I Completion Report. Moderately satisfactory progress was made on liunian development indicators (good on HIVIAIDS, immunization coverage, primary school enrollment and gender ratio, but stagnation in maternal and child mortality rates); good progress on non-oil growth (including the establishment of regulatory institutions for the telecommunications and the transport sector, and a number of successful privatizations), and moderate progress on selected aspects of governance at the federal level, with scope for improvement remaining at both the federal and the state levels.
57. Key lesson drawn from the Completion Report of CPS were to focus on the following areas: (i) power and transport to stimulate non-oil growth; (ii) human development efforts at state level with the need to support health systems instead of concentrating resources in vertical disease programs; (iii) CDD approaches that integrate local and state Governments to ensure sustainability and maintenance of infrastructure; (iv) move away from a lead state approach towards a differentiated approach to states; and (vi) expand the partnership with DFID and bring other development partners on board.
D. Coordination with Other Development Partners
58. CPS I was a formal partnership with DFID. Under CPS 11, the partnership will be expanded to include the Afiican Development Bank (AfDB) and USAID as well as DFID and the World Bank in line with the Government and CPSCR recommendations to enhance opportunities for donor coordination. The CPS I1 partners account for over 80 percent of Nigeria's development assistance. By agreeing to a single joint strategy, partners will strengthen the likelihood of increasing development effectiveness. Partners will also continue to coordinate closely with Nigeria's other main development partners, including the UN funds, programs and agencies, JICA and the European Commission.
59. In developing FSS 2020 the authorities have worked closely with the World Bank, DFID and the IMF. The intention is to further develop this collaboration in the implementation phase, including the involvement of other donors such as GTZ and USAID. The technical assistance
required to build the capacity of regulators and private sector participants is considerable. A comprehensive reform agenda has been developed focusing on developing accounting and reporting systems, regulatory and supervisory capacity, risk monitoring and managing systems etc.
60. Following high-level discussion with the authorities, the AfDB has begun exploration of a parallel budget support operation for Nigeria that could be on the order of US$ 150 million. The Bank team will closely coordinate with the AfDB.
V. GOVERNMENT OF NIGERIA'S PROPOSED REFORM PROGRAM SUPPORTED BY DPC
A. Overview of the DPC
61. In responding to the on-going global financial crisis the proposed credit is intended to provide budgetary support to the FGN to offset the fiscal impact of the crisis and support the Government in maintaining its current economic reform path in the financial sector, fiscal policy and management, and governance. It builds on strong Government ownership of a medium-term reform program, which consolidates the successful record of economic management and reforms since 2001, despite occasional setbacks. This strong alignment with home-grown programs, building on solid achievements to date while adapting the medium-term policies to address the challenges from the financial crisis, sets it apart from earlier quick disbursing lending operations in the 1980s as does its emphasis on cushioning the damaging impacts of the financial crisis on those at the lower end of the income distribution.
Objective 1: Maintaining Confidence and Stability in the Financial System
62. The proposed credit lends support to the CBN's measures undertaken to ensure the stability of the banking system by ensuring its liquidity. The PDO-supported measures are: an extended borrowing window at the CBN to provide liquidity for up to 365 days and access to the window was eased by expanding the range of acceptable collateral to include high quality commercial paper; a back up liquidity borrowing facility available fiom the NDIC for banks in full regulatory compliance; stepped reductions of reserve requirements fiom 4 percent to 1 percent and reduction of the required bank liquidity ratio from 40 percent to 25 percent; reduction of the Monetary Policy Rate fiom 9.75 percent to 8 percent intended to dampen the bidding up of deposit rates. The Government has also adopted a comprehensive plan to increase the liquidity and efficiency of the Government debt markets, which should result in an increased depth of the market and a greater variety of Government debt products and instruments which participants will be able to manage their liquidity.
63. In combination, these measures have been successful in reducing liquidity stress on the system and restoring some liquidity to the interbank market: daily borrowing from the extended window facility fell fiom a peak of about N 480 billion in November and December 2008 to about Ba; 280 billion in mid-May 2009, and banks reported that deposit rates hsba begun to fall below the cap rate 15 percent and that limited liquidity was returning to the interbank market
Objective 2: Strengthening the Banking System
64. The proposed credit lends support to a significant acceleration of measures needed to strengthen bank supervision and regulation and increase the attractiveness of Nigerian banks for investors and borrowers. These measures were identified as part of the FSS 2020 medium term reform agenda and had been the subject of extensive discussions between the Bank and the CBN and NDIC, but had not been expected to commence implementation in the short term. The measures include: the CBN's announcement that banks would be required to convert to International Financial Reporting Standards (IFRS) as of 31St December 2010; the CBN's initiation of the procurement process for a major international accounting firm to assist it with transitioning to IFRS-based supervision and regulation; requiring all banks to adopt a common financial year end of 3 1 December; placing resident bank inspectors in all banks to continuously monitor them; adopting a program for the introduction of consolidated risk-based supervision; and, implementing the e-FASS information system which provides real time data on banking transactions to improve the CBN's ability to monitor and analyze the system. These measures to improve supervision are supplemented by the issuance of regulations covering the operation of private credit bureaus. The development of the private credit information industry should enable banks to better manage their credit risks using higher quality and more timely information on borrowers.
65. Prior actions identified to occur before closing of the Credit in December 2009 are designed to support the implementation of the measures to improve bank supervision and banking sector transparency already announced by the CBN. Once implemented, these measures should improve the access of Nigerian banks to international debt and equity markets and help to restore full depositor confidence in the system. These actions include: completion of an assessment of the financial impact of the introduction of IFRS reporting on banks; issuance by the Nigerian Accounting Standards Board (NASB) of Nigerian accounting standards (SAS) in full compliance with IFRS as applied to the banking sector (this will ensure that banks are not faced with additional costs as a result of having to fulfill regulatory and legal reporting requirements using different accounting standards); alignment of CBN and NDIC regulations and supervision with IFRS; implementation of a comprehensive training program for CBN and NDIC supervisors to allow them to work effectively in an IFRS environment; and, adoption of the framework for risk based supervision now under consideration by the CBN and NDIC. Further prior actions will support the commencement of licensing of private credit bureaus and the issuance of a tender to establish a computerized movable collateral registry. These actions are intended to support the development of an improved flow of credit information and facilitate an increase in credit activity by improving the ability of banks and other financial firms to secure lending.
Objective 3: Supporting the objectives of the 2009 budget focused on raising Government investment spending to accelerate non-oil growth
66. The proposed credit will provide support to the 2009 budget's objective of maintaining fiscal stability and continuing emphasis on prioritizing investment to reduce the economy's dependence on oil exports. The PDO-supports the rebasing of oil revenues using a conservative average price of US$45/bbl., limits current expenditure by containing overhead expenditure and the wage bill, and tightens restrictions on the use of the ECA, which is now limited to financing
ongoing and critical projects in the power sector and financing the revenue shortfall that emanated from the crisis. In addition, the Presidential Steering Committee to coordinate the response to the global crisis has already approved a framework to improve growth prospects, including through targeted infrastructure projects. The Government has also announced its intent to better prioritize spending through the introduction of a Cash Management Committee, and a further round of elimination of less essential spending and introduction of priority spending in key areas of service delivery. The Government recognizes the need to retain balances on the Excess Crude Account so as to have a fiscal cushion with which to address eventual medium term needs, especially should the crisis persist. Fiscal discipline will be encouraged by the establishment of the Fiscal Responsibility Commission to monitor expenditures. The budget supports the strategic objective of encouraging non-oil growth by shifting the focus of expenditure from recurrent to capital expenditure, which will spur growth and address infiastructure bottlenecks.
67. The proposed credit will also support the Government's work to improve non-oil revenue collection and to improve the quality of expenditure. To reduce oil dependency and provide more stable revenues by diversifying their sources, the Government has initiated an audit of the customs revenue collection process and has initiated a working group to develop two year reform programs both for tax administration and customs. The quality and governance of expenditure are being improved by the implementation of an accounting transaction reporting system, adoption of a cash management policy, and strengthening of the electronic payments system. These measures are supported by implementation of the Public Procurement Act (which meets international standards) publication of its regulations, and publication of Government contract awards in the National Procurement Journal and on its website.
68. Although the Credit focuses on the federal budget and policies, it is embedded in a broader agenda of improving fiscal management on the state level. The Bank currently is supporting several states through both state-level PER'S, PEFA's and procurement assessments as well as the State Governance and Capacity Building projects. These initiatives build on the progress that has already been made in several states, notably the adoption of Fiscal Responsibility and procurement laws, as well as improvements of the payroll payment and expenditure management system (including through the adoptioii of Integrated Financial & Economic Management Information Systems (IFEMIS) in a number of states). They aim at improving the effectiveness of spending on the delivery of social services (notably education and health). In combination with improving effectiveness on the federal level, these initiatives are critical to deliver on the Government's poverty reduction objectives.
B. Proposed DPC Prior Actions
69. The proposed DPC highlights 13 prior actions that are elaborated below. In addition to these 13 major actions that the Nigerian Authorities have already implemented, further actions required to support the major actions have also already been taken, and these are presented in the attached policy matrix and discussed in more detail below. In addition, the general requirement of a satisfactory medium-term macroeconomic framework for all Bank budget support operations applies. The prior actions for this proposed credit follow iiiternational good practice (see Box 2).
The CBN has taken action to ensure the liquidity of the banking system by: (a) providing a new extended window facility and expanding the range of acceptable collateral for borrowing; (b) reducing the liquidity ratio requirement fiom 40 percent to 25 percent; (c) reducing the reserve requirement fiom 4 percent to 1 percent; and (d) reducing the monetary policy rate from 9.75 percent to 8 percent.
The CBN has adopted: (a) a timetable for banks to submit IFRS-based regulatory reports as of December 3 1'' 2010; and (b) a timetable for all banks to implement a 1 January - 3 1 December financial year.
The CBN has adopted a program for introduction of consolidated risk-based banking supervision.
The CBN has placed resident inspectors in all banks.
The Government has enacted a budget using a conservative oil price of US$ 45 per barrel.
The Government has continued to implement a policy under which the Excess Crude Account is credited with excess oil revenue after compensating for shortfalls in revenue.
The Government has enacted its 2009 budget containing recurrent spending to W 1.6273 trillion (6 1.4 percent) and increasing capital spending to W 1.0223 trillion (38.6 percent) of its budget (excluding statutory transfers and debt service).
Budget Office has released capital expenditure of 94187 billion to MDAs through January 2009.
A framework for strategic interventions to address supply constraints and unemployment in the context of the global crisis has been adopted.
The interim Accounting Transaction Recording and Reporting System has been implemented.
The Cash Management Policy has been adopted.
The Public Procurement Act and Implementation Regulations consistent with international best practices have been made operational and made available to the public.
Contract awards are being published in National Procurement Journal (bi-monthly) and on the BPP website.
Box 2: Application of Good Practice Principles in Development Policy Lending to the Proposed Credit
Principle 1: Reinforce ownership
The reform program is filly owned by Government and elaborated both within Government's FSS2020 strategy, and the NEEDS and SEEDS documents. The program reflects policy measures which Government has proposed and is committed to do.
Principle 2: Agree up front with the government and other financial partners on a coordinated accountability framework
The medium-term policy matrix, which outlines short and medium-tern actions with clear and measurable outcome indicators and targets, was developed jointly with the Nigerian authorities and discussed with the IMF and other donors.
Principle 3: Customize the accountability framework and modalities of Bank support to country circumstances
The reform program is based on Nigeria's needs. It reflects the significant policy measures on various fronts needed for stabilization of Nigeria's economy, the protection of financial sector reform gains and the enhancement of competitiveness and economic growth for poverty reduction. The program also focuses on outcome-oriented actions to achieve program objectives.
Principle 4: Choose only actions critical for achieving results as conditions for disbursement
The policy matrix focuses on actions that are critical for achieving the set outcome goals. The number of prior actions has been limited to thirteen.
Principle 5: Conduct transparent progress reviews conducive to predictable and performance-basedfinancial support
Progress made with the implementation of reforms and achievement of outcome goals will be monitored through preparation of regular macroeconomic updates, and a progress matrix, which outlines the status of reforms and outcome indicators.
70. Expected Outcomes: The following outcomes are expected to be reached by December 2009, the closing date of for this proposed Credit:
Banking system liquidity is restored and increased confidence allows normal functioning of the interbank markets for Naira and foreign exchange. Government debt markets function more efficiently and become more liquid. Use of the extended window facility declines from $4 480 billiodday to below $4 200 billiodday; parallel market USD exchange rate falls to within 10 percent of the interbank rate.
The banking system becomes more sound and transparent. Capital adequacy ratios remain above 15 percent through 2009. Improved reporting and accounting encourages investment in bank debt &: equity, and better pricing for debt issuances by banks on international markets. Banks' ability to manage risk improved by access new sources of credit information.
Federal Governlent expenditures in 2009 remain within a range of 23-25 percent of non-oil GDP (21.2 in 2008,25.4 in 2007,21.4 in 2006).
The capital budget execution rate rises from 53.6 percent in 2008 to more than 60 percent in 2009.
Non-oil revenue increases from 8.6 pe;cent of GDP in 2008 to 9 percent in 2009.
Month-end financial statements produced by 75 percent of Federal MDAs within 7 days.
95 percent of Government contract awards are published.
The medium-term actions presented in Annex 1 are measures the Government intends to implement following disbursement of the operation. Since this is a single-tranche, stand-alone operation, they are not directly supported by the operation.
The program supported by the proposed DPC is elaborated in more detail below. The program components include;
1. Maintaining Confdence and Stability in the Financial System
a. Measures to Stabilize the Banking System
71. Outcome goal. Banking system liquidity is restored and increased confidence allows normal functioning of the interbank markets for Naira and foreign exchange. Government debt markets function more efficiently and become more liquid. Use of the extended window facility declines from W 480 billiodday to below W 200 billiodday; parallel market USD exchange rate falls to within 10 percent of the interbank rate.
72. Issues. The decline of the stock market in combination with concerns raised in the media about the accuracy of banks' financial reporting, and depreciation of the exchange rate led to stress on the banking system. Bank depositors' confidence was undermined, deposit interest rates rose sharply as banks began to compete for liquidity and highly liquid banks hoarded cash and reduced counterparty risk from the interbank market, firms and individuals hoarded foreign currency to avoid temporary foreign exchange restrictions, and a "flight to quality" took place.
73. The CBN took action to supply liquidity to the banking system by opening an extended window facility, reducing liquidity ratio requirements, and reducing reserve requirements. These measures were supplemented by temporary interest rate caps imposed at the request of the banking industry to reduce price-based competition for deposits. In combination, these measures have restored some confidence to the system, with borrowing from the extended window facility falling from a peak of about W 480 billiodday in November and December 2008 to about W 280 billiodday in mid-May 2009, and banks also report that deposit interest rates have also begun to fall in line with the reduced liquidity pressure.
74. Reform Strategy to Reach Outcome Goal: The proposed DPC will support the following CBN, NDIC, and Govement actions to maintain confidence and the stability of the Nigerian banking system:
Measures to reduce liquidity pressures on the banking system: the CBN has established an extended borrowiiig window at the CBN to provide liquidity for up to 365 days and access to the window was eased by expanding the range of acceptable collateral to include high quality commercial paper; stepped reductions of reserve
requirements from 4 percent to 1 percent and reduction of the required bank liquidity ratio from 40 percent to 25 percent; reduction of the Monetary Policy Rate from 9.75 percent to 8 percent intended to dampen the bidding up of deposit rates. The NDIC is also maintaining a back up liquidity borrowing facility available to banks in full regulatory compliance. Further liquidity is available from the CBN which has authority to purchase problem assets from banks.
The Government has adopted a comprehensive plan to increase the liquidity and efficiency of the Government debt markets, which should result in an increased depth of the market and a greater variety of Government debt products and instruments, thus better enabling market participants to manage their liquidity.
The CBN's monetary policy committee announced on May 21, 2009 that all exchange restrictions would be phased out over the next three months. To this effect the CBN put in place a range of measures with immediate effect, including an increase in the net foreign exchange position of banks from 1 to 2.5 percent and the removal of the requirement for banks to transact at 1 percent around the CBN rate and increasing from 10 to 60 the number of Bureau de Change participating in the retail auction market for foreign exchange.
6. Strengthening the Ban king System
75. Outcome goal. The banking system becomes more sound and transparent. Capital adequacy ratios remain above 15 percent through 2009. Improved reporting and accounting encourages investment in bank debt and equity, and better pricing for debt issuances by banks on international markets. Banks' ability to manage risk improved by access new sources of credit information.
76. Issues. Before the onset of the international financial crisis, the Nigerian banking system experienced impressive growth in an environment of increased competition. Since 2006, Banks have been opening new branches, expanding to new geographical areas (including establishing subsidiaries in other countries), moving into new areas of activity such as retail loans, insurance and brokerage services and introducing new products. Increased competition has put strains on profitability.
77. Overall, the banks' capacity and infrastructure required to adequately manage risks (which includes bank supervision, accounting and auditing standards and practices, and banks' internal risk management systems and governance) has struggled to keep up with the dramatic growth of the system itself. The pace of expansion of banks is creating stress on systems designed for a much smaller and simpler environment and banks are only now putting in place the required, more comprehensive risk management systems. Management and specialized professionals with experience in managing large complex financial institutions are in short supply, despite efforts to bring in experts with experience from other countries.
78. The CBN has responded to this increase in vulnerability by attempting to improve supervision practices (see further description below) and these efforts have been intensified in the context of the international financial crisis. The global financial turmoil has led to a reversal
of portfolio flows to the country (net equity outflows were estimated to amount to over US$ 3.4 billion in 2008) and precipitated a decline in the Nigerian stock market (over 60 percent in 2008), which has significantly affected Nigerian banks. These institutions formed between 60 to 75 percent of the market capitalization of the NSE. Moreover, Nigerian banks have increasingly relied on equity markets to raise capital especially after the consolidation exercise of 2005 and have engaged in direct and indirect lending for share purchases (margin loans).
79. Given the weaknesses in the accounting and financial reporting framework, there is considerable uncertainty about the magnitude of the exposure of banks to share lending, but official reports suggest that it could amount to less than 10 percent of total bank loans. In any case, losses linked to share lending are likely to appear in balance sheets with some delay, partly because the CBN in 2008 allowed banks to reschedule debt repayments on margin loans for a year. Unfortunately most banks do not appear to have taken the opportunity to provision for bad loans preferring to announce bumper dividends in an attempt to shore up falling share prices.
80. Given that the expansion of credit was also strong to firms that are second and third tier suppliers of goods and services to the oil and gas sectors, the quality of loan portfolios is also vulnerable to recent reductions in oil prices. These price reductions may have a disproportionate impact on the credit quality of these borrowers, because their position in the supply chain makes them likely to be the first, and most, affected by the reduced cash flow of the sector and any reduction in exploration activity.
81. In addition, a large fraction of corporate audited financial statements may be unreliable due to weaknesses in second and third tier accounting firms' practices and governance. The unreliability of corporate financial information increases the risks and costs of financial intermediation by requiring more due diligence on the part of lenders while simultaneously making it more difficult for bank supervisors to accurately assess the quality of borrowers, and hence the need for provisions.
82. Most Nigerian banks appear to be strongly capitalized, but the banking system is highly segmented by quality and the recent increase in spreads between interbank rates and T-bill rates reflects concerns about counterparty risk in the interbank market. Despite double digit inflation, banks prefer to invest in T-bills yielding as little as 5-7 percent instead of lending on the interbank market at around 16 percent. This risk aversion is exacerbated by the lack of transparency in bank balance sheets linked to relatively weak accounting and financial reporting frameworks.
83. A weak credit information environment also contributes to increased costs and risks that banks face, particularly for retail loans as well as loans to small and medium enterprises. Furthermore, the high costs of contract enforcement in Nigeria, as well as inefficiencies in mechanisms for enforcement and registration of collateral and antiquated insolvency laws also increase the costs of financial intermediation and reduce access to finance. Procedures for taking and registering securities in Nigeria are inefficient and are accompanied by excessively high filing fees that generate perverse incentives for banking practices such as inaccurate registration. Overall, the Nigerian legal framework is considered to be expensive and time-consuming as well as typically favoring debtors.
84. Reform Strategy to Reach Outcome Goal. The proposed DPC will support the following Government actions to maintain the soundness of the Nigerian banking system and enhance transparency:
CBN adopts a timetable for banks to implement IFRS-based regulatory reporting as of December 3 1, 2009. An effort to introduce IFRS in Nigeria is presently being led by the Securities and Exchange Commission (SEC) and Nigerian Accounting Standards Board (NASB) for all listed firms in the country, but bank supervisors' preparations for the implementation of IFRS by banks are more advanced. The fact that financial statements in Nigeria are not prepared according to IFRS" has important implications for the transparency and accuracy of financial statements (especially for financial intermediaries). Delays in klly implementing IFRS will also continue to hamper banking supervisors' ability to detect and anticipate emerging problems in the system in the context of the global financial crisis. Crucially, IFRS requires full consolidation of subsidiaries and affiliates based on the risks to the parent posed by them and the degree of actual control exercised by the parent rather than allowing an affiliated company to be treated as an investment. For supervisors attempting to implement consolidated supervision, the lack of IFRS reporting may thus mask the "full picture" of a banking group's operations and their risks, making a comprehensive supervisory assessment more difficult. As part of the IFRS adoption process, both bank supervisors (CBN and NDIC) will need to adapt regulations to IFRS and, most importantly, train bank inspectors to apply IFRS in the supervision process. The CBN has initiated the procurement process for a major international accounting firm to provide support to it during the transition period.
Adoption of a timetable for all banks to implement a 1 January - 31 December financial year with effect from 31 December 2009. At the moment, Nigerian banks have varied financial years which creates opportunities for banks to "window dress" their results and, also, is believed to create periodic liquidity stresses in the system as a result of banks seeking to inflate their balance sheets in order to gain prestige by seeming larger. The uneven financial years also creates problems for supervisors by making it difficult to accurately compare banks using year-end results, making it harder to detect and address trends in the sector. The CBN has now instructed banks that all will have financial years ending on 31 December, with the result that as of 20 10 comparable period financial reports will be produced.
Adoption of a program for consolidated risk-based banking supervision. Banking supervision in Nigeria is still mainly compliance-based, an approach which has inherent shortcomings in its ability to identify problems early in the credit cycle. These shortcomings are reinforced when the transparency of banks' reports is limited. The CBN and NDIC are moving to consolidated risk-based supervision with technical assistance from the IMF and DfID. This reform is crucial given the conglomerate structure of Nigerian banks. In the short term, the CBN and NDIC bank supervision departments need to develop their capacity with great rapidity to meet the challenges posed by the explosive growth and increasing complexity of the banking system.
lo A few banks have voluntarily adopted IFRS as a result of their participation in international markets.
33
CBN and NDIC have also recently implemented a regime of resident examiners. Resident examiners will provide continuous supervision of banks. The measures taken so far indicate the regulators' commitment to improving supervision, but efforts to modernize supervision and regulation will take quite some time to reach fruition and will require intensive technical assistance to support the retraining of the CBN and NDIC bank supervision departments' management and staff.
Inlplementation of the Electronic Financial Analysis and Surveillance System (eFASS). The CBN has sponsored the move towards the eFASS system that has allowed for real time transaction monitoring. This has significantly improved statutory compliance and anti-money laundering programs.
Adoption of steps to enhance credit information systems. In October 2008, the CBN issued licensing regulations for credit bureaus in Nigeria ("Credit Bureau Regulations"), which are well designed and should pave the way for development of a competitive credit information system. The CBN currently maintains a credit information system, the Credit Risk Management System (CRMS), with both positive and negative data and a profile on the total liabilities a debtor has acquired within the banking system. A total of four private companies of significant size (and as many as four others) are currently operating and waiting to be licensed. These actions have created a framework for an improved credit risk management system.
2. Sustaining Growth through Sound Macroeconomic Policies and Budget Priorities
a. Supporting Macroeconomic Stability and Non-oil Growth through Sound Fiscal Policies
85. Outcome goal. Federal Government expenditure in 2009 remain within a range of 23-25 percent of non-oil GDP (21.2 in 2008'25.4 in 2007'21.4 in 2006).
86. Issues. Prior to 2003, the Government's expenditure levels were largely determined by available revenue: In periods of high oil prices, both current and capital expenditure spiked, while following the end of the oil price boom expenditure were significantly curtailed. The expenditure retrenchment following the end of a period of high oil prices often led to a substantial contraction of non-oil economic activity, resulting in the familiar boom-bust cycle. Moreover, as the scope for expenditure retrenchment was often somewhat limited, periods of high oil prices were frequently followed by a substantial widening of the fiscal deficit and high volumes of new domestic and external debt, leading to an unsustainable debt burden. The establishment in 2003 of an oil-price based fiscal rule and of an Excess Crude Account where oil revenue above the established oil reference price were deposited succeeded in ending the period of boom-bust cycles and helped build support for the October 2005 debt relief deal which eliminated the bulk of Nigeria's external debt. However, the legality of the Excess Crude Account continues to be challenged, given that the constitution stipulates that all revenue in the federation account needs to be shared with all tiers of the Government.
87. Reform strategy to reach the outcome goal. The proposed DPC will support the following Government actions to support macroeconomic stability and non-oil growth through sound fiscal policies.
The Government has enacted a budget using a conservative oil price of US$ 45 per barrel and continues to implement a policy under which the Excess Crude Account is credited with excess oil revenue (after compensating for any shortfalls in nonoil and oil revenue). The oil reference price of US$ 45 is the lowest among oil exporters. Although the oil-price based fiscal rule foresees that only shortfalls in oil revenue are being compensated for through access to the Excess Crude Account, the Government has chosen to also compensate for shortfalls in non-oil revenue through the Excess Crude Account with a view to ensuring effective implementation of the 2009 budget in the context of the global financial crisis.
The Government has established the Fiscal Responsibility Commission to monitor and enforce the provisions of the Fiscal Responsibility Act, 2007 (gazetted in December 2007): The FRA which was enacted by President YarYAdua in November 2007 institutionalizes the oil-price based fiscal rule and basic principles of the use of the Excess Crude Account. It also foresees the regular preparation of a Medium-Term Fiscal and Expenditure framework to guide expenditure allocations in conformity with the strategic priorities of the Government and limit spending and new debt to macro-economically sustainable levels. States are now in the process of adopting their own fiscal responsibility bills following the model of the federal Govenment. A key innovative feature of the fiscal responsibility bill is the institution of a Fiscal Responsibility Commission which consists of Government officials as well as members of civil society and the private sector and has broad powers to review the implementation of the Fiscal Responsibility Act, investigate contraventions of the Act and report these to the National Assembly. The institutionalized involvement of civil society and the private sector in monitoring fiscal responsibility provides a new mechanism for enhancing the transparency and accountability of resources. The inauguration of the commission at this juncture demonstrates the Government's resolve to safeguard the efficiency of Government spending in the wake of the global financial crisis.
b. Adjusting Expenditure Priorities to Economic Challenges
88. Outcome goal. Capital budget execution rate (in percent of the 2009 budget finally. approved by the National Assembly rises from 53.6 percent in 2008 to more than 60 percent in 2009.
89. Issues. The execution of Nigeria's capital budget has been volatile reflecting a variety of shortcomings, including MDAYs capacity constraints in the area of project design, planning and supervision and difficulties in the procurement process. The execution of the capital budget was particularly weak in 2008, largely on account of uncertainties over the 2008 budget (given that the original 2008 budget was subject to both an amendment and a supplementary budget and its final version only enacted in November 2008), lack of familiarity with the new procurement
procedures and the late release of the capital vote. Measures to accelerate the execution of the capital budget are particularly important in view of Nigeria's large infrastructure gap.
90. Reform strategy to reach the outcome goal:
The Government has enacted a budget containing recurrent spending to $41.6273 trillion (6 1.4 percent) and increasing capital spending to W 1.0223 trillion (3 8.6 percent) of the MDA budget. With a view to addressing critical infrastructure bottlenecks that affect non-oil growth and constrain private investment as well as maintain incomes of those at the lower end of the distribution through employment- intensive projects, the 2009 budget foresees a reorientation of spending towards the capital budget. While reducing the infrastructure gap has always been a priority of the Government, the Government considers alleviation of such bottlenecks particularly urgent to mitigate the impact of the crisis on non-oil growth and incomes. The 2009 budget was signed into law by the President on March 10,2009.
The Government released capital expenditure of W187 billion to MDAs by January 2009, (a considerable share of the first quarter capital vote), as against no release in the same period 2009. With a view to accelerating execution of the capital budget, the Government decided to release capital expenditure early in the year as recommended by the Review on Capital Budget Implementation (Annex 7). The unavailability of resources had been a significant constraint to the effective execution of the capital budget in the past. Data from April 2009 indicate that more than half of capital budget resources released so far have been spent.
The Government has appointed a Presidential Steering Committee on the Global Economic Crisis to manage the Government's crisis response. The Presidential Steering Committee on the Global Economic Crisis has been an effective instrument to coordinate the Government's response to the crisis, including the implementation of measures aimed at strengthening the stability of the financial sector and the deregulation of the downstream petroleum sector.
The Presidential Steering Committee to coordinate the response to the crisis has adopted a fran~ework for strategic interventions to address supply constraints and unemployment in the context of the global economic crisis. To this end, it has identified a number of interventions, such as the upgrading of key roads, the adoption of a program of relatively small maintenance and clean-up projects, and putting in place incentives for the use of other ports.
c. Raising Non-Oil Revenue
91. Outcome goal. Non-oil revenue increases from 8.6 percent of GDP in 2008 to 9 percent of GDP in 2009.
92. Issues. Collection of non-oil revenue has been constrained in the past by capacity constraints at the Federal Inland Revenue Service and the customs administration.
93. Reform strategy to reach the outcome goal. The DPC supports the Government's .
measures to strengthen non-oil revenue collection.
The Government has initiated audit of processes in revenue collecting agencies. Process audits in all revenue-collecting agencies of the Government are in the process of being adopted and are expected to identify a range of shortcomings.
The Government has created a customs reform committee. The Government has also created a Presidential Task Force on customs reform to comprehensively reforming the customs administration, including by reducing leakages and streamlining of administrative procedures.
d. Improving Transparency and Accountability for Use of Public Funds through Effective Oversight Arrangements
94. Outcome goal Month-end financial statements produced by at least 75 percent of Federal MDAs within 7 days.
95. Issues. Financial Reporting: Nigeria does not have a national public sector accounting standard but in 2002 the Federal and State Governments agreed adopted a common reporting format for the preparation of final accounts. Timely and quality financial reports that are publicly available provide an opportunity to hold public officers accountability for the use of public funds. The financial reports should also meet minimum acceptable standards to be useful for making decision on strategic allocation of resources for service delivery. Although the financial statements have become timely they do not include all sources of funds. ATRRS has been deployed to all MDAs and used to submit transcripts to the Treasury for consolidation. However, budget figures are not captured to produce budget performance reports.
96. Chart of Accounts: The current chart account is limited as it does not allow classification of the budget to align ministries activities with policy priorities. Key segments such as geographical location, program and projects are missing in the classification system. The classification system used by the Budget Office is not consistent with the Chart of Accounts used by the Office of the Accountant General making it difficult to directly report actuals against approved budget.
97. Reform strategy to reach the outcome goal:
The Government has implemented the interim Accounting Transaction Recording and Reporting System (ATRRS). Although ATTRS has been deployed to all MDAs, the system is not linked up with the Treasury and manual vote books are still maintained. Transcripts are submitted using backup devices. A robust and well secured information mariagement system is required to protect the credibility of financial reports for decision making. The conceptualization of the Government Integrated Financial Management Information System (GIFMIS) has been completed through a consultative process under the direction of steering committee chaired by the Accountant General and reporting to the Minister of Finance. A phased implementation approach has been adopted starting with the core foundation modules
(General Ledger including bank reconciliation, Appropriation, Expenditure Payment and Reporting). The system is expected to become operational in 2010 at the Budget Office and the Accountant General's Office and will later be roll-out to MDAs and FPOs with additional modules (Purchasing, Revenue, Assets and Inventory); interfaces will be provided to existing debt management systems and revenue administration systems. The implementation of GIFMIS will transform the way Government operates financial management. The quality and timeliness of financial reports will also be improved.
Develop a multi-dimensional chart of accounts to provide a framework to align policy priorities with the budget and financial reports. The budget is expected to translate the policy intent of the Government into costed activities for implementation by the various MDAs. In order to be able to analyze and report on the budget, the classification system should be flexible enough to allow for aggregation of data as well as drill-down to the lowest level. In preparation for the implementation of GIFMIS an inter-ministerial committees is in place to expand the chart of accounts to include critical segments such as: fund, organization, program, project, objects and location. The aim is to ensure consistency between codes used for budget preparation and accounting and financial reporting. The new chart of account will be comply with the IMF-GFS 2001 manual and provide a framework for preparation of annual financial statements in accordance with the International Public Sector Accounting Standards.
The Government has established a cash management committee. Timely availability of cash is critical for successful implementation of the budget. Fiscal discipline requires keeping expenditure within the Government cash constraints. Reliable forecasting tools should be used whereby revenue projections and cash plans will inform preparation and publication of Disbursement Schedules as stipulated in the Fiscal Responsibility Act. To achieve this, the Office of the Accountant General should be in a position to undertake timely and efficient bank reconciliation to determine its overall cash position at any point in time. Fragmentation of bank accounts in commercial banks and limitations in connectivity infrastructure at the MDAs poses a serious challenge to consolidate Government's cash position. The recently developed Cash Management Policy notes that "A Treasury Single Account (TSA) shall be maintained at Central Bank of Nigeria with each MDA responsible for the management of its allocations but effecting payment through the TSA ... up to their cash allocation ceiling". With GIFMIS the TSA will be more efficient and further solidify the E-Payment system.
e. Improving Accountability9 Effectiveness and Value for Money in Public Procurement
98. Outcome goal: 65 percent of Federal Government contracts using national standard bidding documents and 95 percent of Federal Government contract awards above N75 million are published.
99. Issues: Increased value for money (VFM) in the use of public resources: Key elements of obtaining value for money in public procurement are unhindered availability of detailed regulations, relevant procurement tools-standard bidding document and appropriate human resources with good skill mix. The public procurement Act and the implementation regulations have been prepared, but implementation is rather slow. Though standard bidding documents have been developed, they are yet to be fully tested and put in use in all MDAs. Standardization of tender document and its use by MDAs will promote consistency, improved quality and efficiency of procurement practices and enhance increased participation of bidders. In the past, procurement functions had been managed by administrative staff with little or no experience in procurement. This led to poor quality of procurement decisions resulting in increased unit cost of procurement, corruption and substantial losses to the budget. Establishment and training of a procurement professional cadre in the public service will address this risk and increase capacity, professionalism and the cost-effectiveness of public spending. There is the need also to build EFCC's and anti-corruption agencies capacity to understand the procurement act and reforms for investigative and sanction purposes.
100. Reform strategy to reach the outcome goal: d
The Government in 2007, has enacted the Public Procurement Act and developed implementation regulations consistent with international best practices. The Act and its implementation regulations though consistent with international best practices, will only produce the desired result of effective and efficient use of resources if fully implemented and in a timely manner. Enforcing compliance with these instruments and putting in place mechanism to make them readily available to the public, apart from promoting desired integrity and accountability of public procurement, will further facilitate and increase public confidence in Government procurement.
The reform strategy will further support usage of already developed Standard Bidding Documents first in pilot MDAs-about 30 percent coverage of procuring entities in 200819 and then attain 60 percent in 2009110. Also Procurement capacity and training needs assessment will be finalized and recommended action plan implemented in phases covering pilot MDAs in FY 200911 0 and subsequently all procuring entities by 201 011 1. The capacity of EFCC's and other anti-corruption agencies to understand the procurement act and reforms for investigative and sanction purposes will be undertaken by Government by end 20 10.
A functional BPP website has been established where relevant information about procurement reforms and contract award decisions will be published (in addition to publishing them in the procurement Journal). Recently, contract awards for threshold above S75 million per contract are published in National Procurement Journal (bi- monthly). Government will prepare a procurement perception index using survey of private sector perception of public procurement including establishing procurement performance benchmarking using OECDIDAC methodology to measure reforms progress by Fy2010. Also, a Code of Conduct for civil society participation as observers in public procurement process will be prepared and adopted by FY 2009120 10.
VI. OPERATION IMPLEMENTATION
A. Participatory Process
101. The specific reforms supported by the proposed Credit are critical elements of the Government's program responding to the international financial crisis, which is embedded in the medium-term reform agenda outlined in Section 11. The 2009 budget was debated and amended in the national assembly, and different viewpoints were widely publicized. The Government has also presented and debated its policy intentions widely in public fora and through the media. Reforms in the financial sector involve close consultations with various stakeholders in the financial sector. Finally, public financial management reforms are introducing transparency into public financial management (i.e., through publication of contract awards), and participatory elements in monitoring performance under the Fiscal Responsibility Act.
B. Poverty and Social Aspects
102. The poverty and social impacts of the international financial crisis in Nigeria are being felt through the slowdown in non-oil growth, and tightening banking sector liquidity. The Government's efforts aim at stemming these (indirect) effects through a pursuit of proactive policy measures on the fiscal side and in the financial sector.
103. The specific reforms supported by the proposed Credit are likely to have positive poverty and social impacts by helping to sustain growth and employment. The proposed Credit supports measures that supply short-term liquidity to the financial sector and over time lead to a more transparent and better supervised sector. A liquid and stable financial system is critical to enabling private sector investment and sustaining Nigeria's non-oil growth, in turn raising income and creating opportunities for the poor. Financial sector development has been a key element in the growth acceleration during the early 2000s. Expanding access to banking and financial services beyond the highest income brackets through sustained expansion of the financial sector also has a direct positive effect on income generation for the poorer segments of society.
104. More effective and transparent budget planning and execution will raise the impact of public investment on addressing growth constraints. The 2009 budget makes a concerted effort to raise the level of capital spending and execution, and the Government is implementing reforms to enhance the effectiveness and transparency of spending. As outlined above, the capital budget includes key investments to address growth bottlenecks in Nigeria, notably through roads, power, and agricultural investments. Better execution of Government capital spending would have both an immediate employment impact as well as support long-term growth objectives, thereby supporting poverty reduction targets. In addition, the Government is re-prioritizing capital budget releases on a quarterly basis so as to enhance its employment impact, and is contemplating to further recast the budget with this objective. In combination, these actions offset some of the negative impact of the financial crisis on employment.
105. The Credit is embedded in a range of additional initiatives under the medium-term program aiming at enhancing the poverty impact of Government interventions and protecting vulnerable groups. First, Government is conducting its own review of poverty and social impacts
of particularly sensitive reforms so as to define appropriate mitigating measures. Second, the federal Government through the MDG office is experimenting with conditional grants so as to identify and expand the activities that show greatest potential for impact. The latter is done in a context of intense investments in improving statistical performance at the federal and state level. Third, as mentioned above, the Bank and donor community seek to support states in improving their public financial management so as to ensure that spending at the state level, with its service delivery implications, improves its impact.
C. Fiduciary Assessment
106. Public financial management has improved in recent years, and a broad reform program is being implemented with support of the donor community. The federal Government has increasingly aligned its budget to the medi~m and longer-term policy priorities defined in NEEDS and the 7-point agenda of the President. Even though important elements of forward strategic and budget planning have been incorporated in the annual budget process, the strategic fr-amework remains too broad to guide details of the budget process. A fiscal strategy paper was prepared in 2007 and updated in 2008, which covers a three year period. The budget classification system was revised in 2005 yet it needs further upgrading to go beyond financial compliance and incorporate Government policies, priorities and programs. In addition, the coding structure has limited flexibility and scope for analyzing different dimensions. To address this issue, a new chart of accounts is being prepared as part of the introduction of GIFMIS and will be adopted in 2009.
107. Since 2003, the federal Government has made a significant effort to advance the reform of the PFM system. Nonetheless, there is still scope for the improvement of capacity at the federal level. In particular, there are capacity gaps in the areas of in-year budget monitoring and control. Monitoring is also hampered by the fact that a considerable portion of federal spending remains outside the official federal budget. Such off-budget spending includes public investments in the oil sector ("cash calls"), investments funded with excess oil revenues saved with the special Government account, and projects funded under the donor supported programs, including IDA credits.
108. Several improvements have occurred since 2005 in terms of cash management, accounting and reporting. At the federal level, the cash management function was strengthened, and cash releases became more predictable. A decision was made to clean up the Government balance sheets by writing off long outstanding and largely fictional public liabilities. This will make future balances more realistic. The Accounting Transactional Recording and Reporting System (ATRRS) has been rolled out widely in the federal administration. Also, a major contract was signed to install a computerized federal payroll management system. Much of the accounting processes, however, continue to remain manual and there are significant backlogs. Preparations for adoption of the Government Integrated Financial Management Information System (GIFMIS) have gained pace with the establishment of a GIFMIS steering committee in September 2007 and core teams.
109. Progress has been made on timely reconciliation of fiscal and monetary accounts. The ATRRS supports better reporting and monitoring as well as reconciliation of cash books and bank statements. CBN has introduced Real Time Gross Processing System (RTGS). This will
improve the timeliness of recording and accounting for revenue and also disbursing of funds. The implementation of GIFMIS will also further improve the bank reconciliation function.
110. The Offices of the Accountant General and of the Auditor General have made major progress in reducing the backlog of reports. The audit examination of the financial statements for 2002-2006 has been completed and for 2007 the audit examination is in progress. The Auditor- General for the Federation has forwarded the statements for the years 2002-2005 to the National Assembly. Of these audits the National Assembly has cleared the audit for 2002-2003. By statute the Auditor-General is required to publish the financial statements within 7 months of the end of the financial year. The 2008 financial statement is expected to be finalized and submitted for audit within a few weeks. The implementation of the GIFMIS should greatly improve on the timeliness and accuracy of management reports and annual statements of accounts.
11 1. The openness and scrutiny of the budget by the Legislature and the public has improved with the publication of the federal budget on websites and in newspapers. The appropriations committees of the National Assembly have started the practice of requesting the Executive to account for use of previous budget allocations before passing the current budget. The Government continues to regularly disclose information on revenue allocations to all levels of the Government in widely circulated newspapers and also on Government websites.
112. Challenges remain the lack of consolidated reporting at the federal level, as well as insufficient reporting on budget assets and liabilities. There is also the need to improve quality of external budget audit. It is expected that Adoption of a new Audit Law would help accelerate progress in this area. In the absence of timely audit reports it is difficult to hold budget holders accountable for the use of public funds. There are few instances of withholding budget allocations for non-submission of required returns. The PAC has also been able in some instances to recover revenues not properly accounted for by MDAs. However, the application of administrative sanctions and prosecution can still be considerably improved.
113. Starting from 2004 budget, the Government initiated production of annual budget perforniance reports, which are released to the general public. The Federal Ministry of Finance produces in-year budget implementation reports on a quarterly basis (within a month after the end of period). The Government plans to post quarterly budget execution reports on its web- page.
114. In procurement, Nigeria has been implementing a reform program based on the recommendations of the 2000 Country Procurement Assessment Review (CPAR). The 2007 PEMFAR, shows that implementation of procurement reform has brought about substantial improvements in obtaining value for money in public sector expenditure. This has fiu-ther introduced some level of transparency into the country procurement process. Some of the actions taken by Government to advance the procurement reform in Nigeria include: (a) the establishment of the procurement professionals cadre at the Federal level in 2006; (b) the passage of the Procurement Bill in June 2007 to further sanitize the public procurement system, which has often been the subject of abuse and corruption; and (c) the establishment of a functional regulatory body, the to speed up implementation of recommendations. The BPP has organized a series of sensitization workshops at the Federal and State levels. The National Bidding
documents have also been produced by BPP. The recent PEMFAR report indicated that contract prices were reduced substantially.
115. As regards the control environment at the Central Bank of Nigeria (CBN), the IMF conducted a full safeguards assessment in 2001 with respect to the Stand-By Arrangement, which expired on October 31, 2001. The assessment, which included an on-site visit, was completed on November 28, 2001. The assessment concluded that vulnerabilities existed in the areas of financial reporting and legal structure of the Central Bank. Staff findings and proposed recommendations are reported in the related staff report. No fwther safeguards assessment has been conducted. The CBN's financial statements are audited on an annual basis and the reports rendered timely. The 2008 audited financial statement has been completed and the auditors gave an unqualified opinion on the 2007 financial. The reports are made public. Nonetheless, given the absence of a more recent IMF Safeguards Assessment or equivalent information from other sources relating to the control environment in the CBN, the foreign exchange proceeds of the loan will be deposited into a dedicated Bank account, and an independent audit will be carried out of the flows in this account as outlined below.
D. Disbursement and Auditing
116. Borrower and credit amount. This Credit is a single tranche IDA Credit of SDR323 million (US$ 500 million equivalent). The tranche would be made available upon Credit effectiveness.
117. Disbursement arrangements and use of funds. The credit amount will be disbursed into a dedicated foreign currency account of the Borrower at the Central Bank of Nigeria, to be used exclusively for the proceeds of the DPL. The account will form part of Republic of Nigeria's foreign exchange reserves. The Borrower will ensure that an equivalent amount of the Loan is promptly accounted for in its budget management system and thereby be available to finance budget expenditures of the Republic of Nigeria. The Borrower will provide to the Bank a written confirmation within 5 working days of disbursement that this accounting has been done, with supporting details. The government will make withdrawals from this account either directly for US$ denominated budgetary expenditure, or transfer the resources in local currency where they will form part of Government Treasury Bank Accounts to finance budgeted expenditures in local currency. See Figure 8 below depicts the funds flow arrangements. The dedicated accounts and the transactions therein will be recorded in the Government's budget management and accounting system.
118. An audit of the dedicated foreign currency account will be carried out for each fiscal year of the CBN by independent auditors acceptable to IDA, and submitted to IDA within 4 months of the end of the fiscal year. The terms of reference of the audit will be agreed before submission to the Board.
Figure 8: Funds Flow Diagram
Independe nt Audit
Dedicated
(Part of Government Treasury Bank Accounts)
(Using Government's budgeting, expenditure control, accounting, reporting and audit systems)
119. Disbursements of the credit will not be linked to any specific purchases and no procurement requirements have to be satisfied, except that the Borrower is required to comply with the standard negative list of excluded items that should not be financed with Bank credit proceeds. In the event that the proceeds of the credit are used for ineligible purposes as defined in the Financing Agreement, the equivalent amount of the credit will be cancelled and the Borrower will be required to refund an amount equal to the amount of the said payment. The administration of this credit will be the responsibility of the Federal Ministry of Finance. Ongoing discussions with the Government on the overall reform program being supported by this Credit will form the basis for reporting on substantive policy issues. Fiduciary aspects and risks of this Credit are discussed elsewhere in this document.
E. Environmental Aspects
120. The specific measures supported by this Credit are not expected to have likely and significant adverse effects on the environment, natural resources, and forests. Environmental effects may arise under the broader overall activities funded by the Government's budget, and implemented under national regulations, but not be directly linked to the specific policies.
121. As this is a budget support operation it is not be possible to ring-fence the environmental impacts of the operation. However, the policies and measures supported by the proposed Credit could be potentially associated with both positive and negative environmental effects. At a minimum, the DPC interventions should not exacerbate existing environmental pressures, e.g. not driving illegal national or regional trade in forest or mineral products. The country has adequate environmental laws and regulations. However, Nigeria's institutional capacity for environmental management is still in need of strengthening. States and Local Government Areas (LGAs) are encouraged to set up their own environmental protection agencies. The capacity of FME in implementing and enforcing provisions of Nigeria environmental laws will be
strengthened. IDA will work closely with the Federal Government of Nigeria to build appropriate and pragmatic response measures and guidelines within the StatelFederal systems.
122. All of the spending that will be supported by the DPC will come under the jurisdiction of the national systems for Environmental Impact Assessment (EIA). And the elements of planned spending at the state and sector levels will also be subject to Nigerian provisions for EIA and the relevant sector guidelines for infrastructure and manufacturing industries. IDA can support the Nigerian authorities in closely monitoring these standards and ensuring that they are met.
123. Targeted provision of environmental management support to address the health, safety and environmental challenges in specific areas can be provided by other Bank-funded project. Given the current level of compliance with national regulations, the DPC targets on environmental stewardship will be kept under review during the implementation period of the Credit.
F. Implementation, Monitoring and Evaluation
124. The Federal Ministry of Finance is coordinating the implementation of the proposed Credit. The FMF regular shares detailed information on budget implementation on a monthly basis and can provide daily information on the status of the implementation of the Excess Crude Account. A regular dialogue on public financial management reform takes place through the supervision of the Economic Reform and Governance Project, which support a key set of these reforms.
125. Those reforms of the financial sector supported by this DPC are overseen by the Central Bank of Nigeria. The Central Bank bears responsibility for setting the parameters for liquidity management and for all matters relating to banking supervision, including setting standards for financial reporting standards for the banking system, implementing supervisory practices, such as risk-based supervision and consolidated supervision.
126. The Policy Matrix (Annex 2) provides the list of outcome indicators. The latter were agreed upon with the Government of Nigeria in 2009. Outconie indicators reflect progress over an agreed-upon baseline.
G. Risks and Risk Mitigation
127. Since 2003, Nigeria has made considerable progress in economic management and strengthening governance, notably reflected in the substantial improvement in Nigeria's ranking on the Country Policy and Institutional Assessment (CPIA) and on Transparency International's Corruption Perception Index (see paragraph 13). Nonetheless, in undertaking an operation of this size and scale there will clearly be a number of risks involved. Compounded with the usual operational risks that revolve around; political risk, country risk and fiduciary risk there are the additional risks associated with the first budget support operation undertaken in Nigeria since 198 1. Within this context, the major project risks are outlined below.
128. Governance risk: Nigeria is a country that faces governance challenges. However, there is now a strong consensus in favor of policies to sustain growth and macro conditions are now more stable. The Credit includes key prior actions that have already been undertaken and will
45
strengthen transparency as regards the financial sector and public financial management in Nigeria.
129. Political support: Government is strongly committed to taking tough decisions in supporting of a program of ambitious reforms. These decisions will have to be taken in the context of a global financial crisis and severe economic downturn that will depress earnings and could intensifl social tensions. They will also have to be taken in the run-up to an election to be held in 201 1 that promises to be hard fought. However, not using this opportunity to get rid of wasteful public expenditures and counter-productive economic regulations will in the long run create an even worse situation. It is important that the potential negative reactions are mitigated by a strong communications campaign and early signaling of the authorities' medium term commitment to a policy framework. The latter is evidenced by the attached letter of development policy.
130. Economic risks: On the external side, a further reduction in oil prices and the continued reduction in foreign remittances coupled with a further deterioration in the world economy and international financial markets could weaken the export sector, reduce household transfers, lower capital inflows, limit economic growth and reduce flexibility for policy reforms. Owing to these reasons, the external imbalances may continue to widen despite the short-term measures taken. This could in turn reduce business and consumer confidence at home and abroad and prompt a vicious cycle. However the authorities are monitoring the situation carefully and have already taken steps to relax the temporary exchange rate controls. Nigeria's external reserve situation remains healthy and has managed to withstand a serious external shock.
13 1. Financial sector risks: Given Nigeria's current accounting standards and the continued worldwide pressure on international financial markets, efforts to shore up the Nigerian banking sector might not be sufficient. If a few banks within the Nigerian system came under speculative attack or failed due to internal reasons this could also trigger disturbances in the domestic financial sector. In such a case, large amounts of money would be required to recapitalize the banking sector. Although World Bank and IMF staffs consider this possibility very unlikely both institutions stand ready to support Nigeria with additional cash infusions should such a situation take place. Once again the Credit itself includes key prior actions in the financial sector that mitigate against this risk. It also aims to support a medium term program of support for the financial sector that will help strengthen the sector and reduce its vulnerability in times of global uncertainty.
132. Security issues: There is a risk of deterioration in the security and law and order situation, .which could shift Government's focus from economic matters. However, this risk cannot be directly mitigated. The Credit would rely on the Government's cornniitment to improved security, as confirmed by the renewed efforts to end militancy in the Delta. Improved security is one of the points of the President's seven-point agenda. The Government has also showed its commitment in this area by the recent creation of a ministry for the Niger Delta, and a significant increase in budgetary allocations.
Office of the Honourable Minister
JUNE 22,2009
Mr Robert Zoellick --, ------z.
Fres~dent . THE WORLD BANK o f f a International Bank for Reconstruction and Devel merit A 8 U J A. '1 81 8 H Streei, N W t '2 6 JUN ?om Washington DC, 20433 R E ~ ~ I V P D
W J
$,an ...,.. ..c:......-...... RE: LETTER OF DEVELOPMENT POLICY
Dear Mr Zoelltck
k'Ve are \writing to request, on behalf of the Federal Government 6: Nigeria. a Deveicpment Policy Credit (DPC',, in the sum of US$SOO mil!lon to frnance strategic interventicns and development prioritias irl the zcntaxt of the 2909 budget. that would halp address infrastructure bottlenecks. rcauce tinemployment and alleviate poverty.
2 The shockwave of the global financial crisis has served to indicata tne need for deepening economic reform. We remain committed to diversifying tne production of our economy. While the current global economrc rneitdown has come with its attendant challenges, the government will use it as an opportunity to further improve confidence and stability in ike financial system, sustain growth through sound macroeconornic polrccss and budget priorities, In this connectior~, enhanced focus will be o f brlild::.!g competitive and prosperous economies at all levers of Government 17 t ~ s country, thus ershering in a new era of economic growth
3. This Letter of Developrr:e!it Policy preser~ts the mscroeconon:,c: ~ertormance in Nigeria before the emergence of the global financial crisls and the accompanied economic slowciown; the impaci of these 9lci)ai
developments on the macroeconomic environment in Nigeria; government's policy response so far; and envisaged strategic interventions to alleviate supply bottlenecks and ensure increased job creation, especially for the youths. The policy agenda of the government going forward is also discussed.
1 ECONOMIC PERFOMANCE DURING 2004 AND FIRST HALF OF 2008
4. Macroeconomic performance was remarkably strong during 2003- 2008 period; Real GDP growth averaged 7.1 percent. Growth was generally broad-based, as all the sectors with the exception of the oil sector recorded substantial growth. Fiscal and external positions strengthened significantly, as evidenced in sustained surplus in the current account balance (CAB) and enhanced Foreign Direct Investment (FDI) and remittances flow as well as portfolio investments. These developments culminated in robust external reserves, reaching an historical high of about US$65 billion on August 8, 2008. The country earned debt forgiveness of US$18.0 billion and repaid US$12.0 billion, which led to an exit from the Paris Club of creditors. Nigeria has also successfully ex~ted its London Club debt by redeeming par bonds (US$1.486 billion) and repurchasing its promissory notes, culminating in a sustainable public debt position. Convergence between the official and parallel market exchange rate was achieved. In addition, the financial sector deepened with the consolidation of the banking and insurance sub-sectors. A favourable sovereign rating (BB-) has facilitated placements by Nigerian banks on international markets.
5 The strong economic performance was underpinned by critical reforms, including: (i) the adoption of an oil-price based fiscal rule, which has allowed the government the opportunity to smoothen expenditure, thereby reducing the historical strong correlation between government's expenditure and oil-related revenue; (ii) the introduction of Medium-Term Sector Strategies (MTSSs) and Medium Term Expenditure Frameworks (MTEFs), with the objective of ensuring consistency between sectoral spending plans, existing government development priorities, and envisaged resource envelopes; (iii) enactment of Fiscal Responsibility Legislation and Public Procurement Acts; (iv) the establishment of Debt Management Office (DMO), which has contributed immensely to effective debt management in the country as well as the strengthening of the debt
markets; and (v) successful use by the Central Bank of Nigeria of indirect (market) instruments, especially the open market operations (OMO) and discount window operations for monetary control.
6. Additional measures were put in place with the objective of increasing transparency as well as ensuring improved governance, including: (i) the introduction of a Value for Money audit in government procurement contracts,; (ii) the rolling out of Accounting Transactional Recording and Reporting System (ATRRS), culminating in timely availability of fiscal data; (iii) the establishment of a computerized federal payroll management system (IPPIS); (iv) the establishment of the Economic and Financial Crimes Commission (EFCC); and (v) the adoption of the Nigeria Extractive Industries Transparency Initiative (NEITI) to improve governance of the oil and gas sector. The government continues to regularly provide information on revenue allocations to all levels of the government in widely circulated newspapers and also on government websites.
II THE GLOBAL ECONOMIC SLOWDOWN AND THE MACROECONOMIC ENVIRONMENT IN NIGERIA
7. The global financial crisis and the associated economic downturn have affected Nigerian macroeconomic indicators, as manifested in: (i) lower share prices and market capitalization on the Nigerian Stock Exchange (NSE); (ii) balance of payment pressures emanating from lower commodity prices especially oil; (iii) reduced government revenue; (iv) capital outflows due to foreign investor flight from the stock market and withdrawal of dollar-denominated assets from some banks; and (v) marked naira depreciation and (vi) reduced foreign exchange reserves.
8. Indications are that the macroeconomic environment is improving, a consequence of government's response to the global economic slowdown (as discussed below) and improved external environment. The NSE has witnessed improved performance, as reflected in improved share prices and market capitalization; and there has been a narrowing of the premium between the market and official exchange rates. The government, however, recognizes that global developments will negatively affect real GDP growth in Nigeria in 2009. In this context and in view of endemic infrastructure and unemployment challenges, the government plans to put in place strategic interventions that would address infrastructure bottlenecks and reduce unemployment.
9. Against this background and in effectively responding to the on-going global financial crisis, the Federal Government of Nigeria is seeking financial support from the World Bank, The envisaged credit is expected to provide needed financing assistance for strategic interventions and development priorities as well as support the government in sustaining its current economic reform path in the financial sector, fiscal management, and governance.
1111 NIGERIA'S RESPONSE TO THE GLOBAL ECONOMIC CRISIS
A. The New Framework for Economic Management
10. To address the challenge posed by the global crisis, a new framework for National Economic Management was put in place by the government. The framework aims at strengthening the capability to respond to the global meltdown and at the same time laying a good foundation for sustainable development. The Presidential Steering Committee on Global Economic Crisis (PSCGEC), which is at the apex of this new framework, was inaugurated in January 2009. The PSCGEC has broad Stakeholder Composition, including Executive Governors of Four States, Ministers, Chief Economic Adviser, Principal Secretary to the President, Governor of the CBN, Independent Economist, representatives of the Private and Financial Sectors and Labour Unions. A reinvigorated and reconstituted National Economic Management Team, with wider membership that cut across the critical sectors of the economy, was put in place to provide technical support to the Presidential Committee and the Federal Executive Council. Technical Working Groups, bothering on macroeconomic management, public finance, the real sector and infrastructure were constituted with mandates and work programs. Second- tier linkages and coordination mechanisms are being developed with Ministries, Departments and Agencies that are involved in implementing the 7-Point Agenda. This new institutional framework for economic management has proven to be an effective mechanism for consensus building and in-depth discussion of critical policy issues.
B Monetary and Credit Policies and the Global Financial Crisis
11. Monetary policy instruments were aptly adopted to address the adverse impact of the global financial crisis on the macroeconomic environment. The focus has been on: improving liquidity in the banking system; ensuring the stability and strengthening of the banking system and avoiding undue exchange rate volatility. Specific measures ~~ndertaken are: (i) series of cuts in the Monetary Policy Rate (MPR), leading to the current rate of 8 percent; (ii) provision of a new extended window facility and expansion of the range of acceptable collateral for borrowing; (iii) reduction of the required liquidity ratio from 40% to 25%; (iv) reduction of reserve requirement from 4% to 1% and (iv) replacement of the Wholesale Dutch Auction System (WDAS) with the Retail Dutch Auction System (RDAS), with a view to eliminating speculative demand for foreign currencies.
12. There has been increased emphasis on the importance of sound regulatory framework and enhanced supervision of financial system. As part of measures to ensure data integrity, the Electronic Financial Sector surveillance (e-FASS) as a tool for banks' returns, was deployed for timely analysis and identification of early warning signals. Resident examiners were deployed to banks, which has greatly improved examiners' access to data and information of banks. The adoption of a common-accounting year for all banks is envisaged for end-December 2009. This is very important for ensuring data integrity and comparability. A timetable for banks to submit International Financial Regulatory Standards (IFRS)-based regulatory reports as of December 31", 2010 and a program for the introduction of consolidated risk-based banking supervision have been adopted.
C. The 2009 Budget and the Global Economic Slowdown
13. The 2009 budget was prepared against the backdrop of a changed global landscape and guided by three main principles. First, priority has been given to critical infrastructure that would aid the development of the private sector, thereby increasing income-generating opportunities so as to reduce unemployment and poverty. Second, we have sought: measures that have the potential to improve the competitiveness of our economy. Third, with a view to accelerating the return to healthy GDP growth rates, we have sought measures that promote a more diversified economic base,
tap new opportunities, and provide new economic drivers to benefit Nigeria in the long run.
14. In the light of the challenges in the oil market, the 2009 budget puts increased emphasis on widening the base for non-oil taxes. Specifically, non-oil revenue is projected to increase by 51.8% from the N1.3 trillion achieved in 2008 to the N1.973 trillion projected for 2009. The budgeted increases in non-oil revenues are expected to come not from higher tax rates, but from securing improvements in the efficiency of collection by the major revenue generating agencies. The 2009 Budget envisages total revenue for the Federal Government of N2.2652 trillion.
15. The Federal Government has also rationalized expenditure by re- prioritizing spending to deliver on the promises of the Seven-Point Agenda. The 2009 Budget allocates 93% of the Capital Expenditure'to five key priority sectors: (i) critical infrastructure - power, aviation, petroleum resources, works, transport and infrastructural projects within the Federal Capital Territory; (ii) human capital development; (iii) land reform and food security; (iv) Security; and (iv) the Niger Delta. The Aggregate Expenditure is budgeted at N3.1018 trillion and has the following elements: N1.0223 trillion for Capital Expenditure; N1.6273 trillion is budgeted for Recurrent Expenditure; N168.62 billion for Statutory Transfers; and an amount of N283.65 billion for Debt Service.
16. Another special feature of the 2009 Budget is the focus on specific deliverables in terms of public goods and services that the MDAs have undertaken to provide to Nigerians. This focus on achieving and tracking the impact of resources utilized on the welfare of Nigerians is part of the ongoing reforms to introduce a comprehensive performance-based budgeting system. The measurable targets and outputs set include:
Power Generation: delivering 1.2 billion SCF of gas to the domestic market to ensure the attainment of the target 6,000MW of power by the end of 2009;
Works; Housing & Urban Development: completing the construction and rehabilitation of 3,293km of roads and maintenance of over 10,000km of federal roads every year for the next 3 years;
Health: completing modernizing work on three Teaching Hospitals in Awka, Calabar and Ife, and seven Specialist Hospitals in Kaduna, Lagos, Kano, Calabar, Enugu, Maiduguri and Abeokuta;
e Security: the Police are increasing their investment in community policing and are targeting a 40% reduction in crime in 7 cities nation- wide, namely Abuja, Lagos, Kano, Ibadan, Port Harcourt, Maiduguri and Onitsha.
o Food Security: increasing land under cultivation by 5%, optimizing 220,000 hectares of irrigated land and irrigating 12,000 hectares of arable land to increase crop yields by between 50% and 250%, and increase agriculture's contribution to GDP by 5%; and
o The ~ederal ' Capital Territory: completing three key headquarters structures, namely the Foreign Affairs Headquarters, the Shehu Shagari Complex and the Federal Secretariat Building Phase II (Bullet House) so that MDAs can relocate to these premises instead of embarking on multiple headquarters projects.
17. The projected fiscal balance at the federal level for 2009 is a deficit of about N836.6 billion (3.02 percent of GDP). The deficit is to be financed by a combination of sources, including outstanding signature bonuses, proceeds from privatization and withdrawal of some accumulated reserves that the Government has with the African Development Bank's Nigeria Trust Fund. The balance is expected to be financed by borrowing from the domestic and international financial markets. The projected deficit is to make up for falling oil revenues while ensuring that we keep our commitment to maintaining essential expenditure, particularly in critical infrastructure. However, it is our expectation that as the global recession recedes and our revenues improve, this deficit will be reduced over the next few years to a more modest level.
18. The request for World Bank's assistance is predicated on the need to finance strategic interventions and development priorities in ,the context of the 2009 budget, that would help address infrastructure bottlenecks, reduce unemployment and alleviate poverty. The envisaged credit support from the World Bank in conjunction with planned reforms in the public financial management areas would further help in enhancing the effectiveness and productivity of government's expenditure. Against this background and in effectively responding to the on-going global financial crisis, the Federal
Government of Nigeria is seeking financial support from the World Bank. The envisaged credit is expected to support the government in sustaining its current economic reform path in the financial sector, fiscal policy and management and governance.
19. The government is committed to further enhancing expenditure efficiency in combination with expenditure prioritization. The Excess Crude Account is also being used to smoothen the adverse impact of the global economic slowdown on the budgetary revenue. In this connection, the National Economic Council reached a consensus in March to share US$1.5 billion from *the Excess Crude Account. It must however be indicated that there is a limit to which the Excess Crude Account can be used to meet the revenue shortfalls, in view of the 2007 Memorandum of Understanding, which sets a minimum threshold of N l trillion in the excess crude account. Notwithstanding more-recent recovery in oil prices, there are still uncertainties surrounding the duration and depth of the global economic recession with attendant adverse impact on the budgetary revenue. In this connection, it is critical that the government continues to exercise caution in the use of Excess Crude Account with a view to preventing its fast depletion and the associated negative impact on macroeconomic indicators. The government continues to work on the modalities for putting in place a Nigerian Sovereign Wealth Fund.
20. Additional efforts are being made towards ensuring effective implementation of the 2009 budget. A Cash Management Committee has been established with the objectives of: (i) managing and controlling cash available to Government at any point in time; (ii) supporting budget implementation and promoting efficient resource allocation; (iii) ensuring that budgetary revenues are realized and that adequate machineries are put in place for prompt collection, accounting and remittance to the relevant revenue accounts on a real-time basis; and (iv) integrating government cash and debt management.
21. While efforts are being made to further reprioritize spending as envisaged in 2009 budget, it is essential that critical expenditures are preserved and government puts in place strategic interventions that would help address infrastructure bottlenecks and unemployment in the context of sharper global economic downturn relative to the level envisaged in the 2009 budget. In an attempt to further respond to the global economic
recession, we plan to urgently put in place measures that would help address supply bottlenecks and unemployment. Such interventions would help contribute to the diversification of our economy as well as putting the country in an enhanced position to be able to withstand any future global economic challenges.
22. The envisaged credit support is in alignment with CBN's measures undertaken to enhance the stability of the banking system by ensuring its liquidity. The measures, being supported by PDO, are: (i) the putting in place of a new extended window facility at the CBN and the expansion of the range of acceptable collateral for borrowing; (ii) reductions of the required liquidity ratio requirement from 40% to 25%; (iii) stepped reductions of reserve requirements from 4% to I %; and (iv) reduction of the Monetary Policy Rate from 9.75% to 8%. The Government remains committed to ensuring that banking system liquidity is restored as well as normal functioning of the interbank foreign-exchange markets. In addition, the government has also adopted a comprehensive plan to increase the liq~~idity and efficiency of the government debt markets. This holds the promise for ensuring increased depth of the market and a greater variety of government debt products and instruments.
25. The proposed credit lends support to the acceleration of measures considered vital to strengthening bank supervision and regulation and further increase the attractiveness of Nigerian banks for investors and borrowers. These measures were identified as part of the FSS2020 medium term reform agenda, but had not been expected to commence implementation in the short term. The measures include: the CBN's announcement that banks would be required to convert to International Financial Reporting Standards (IFRS) by end-December 2010; the CBN has adopted a timetable for all banks to implement a lSt ~anuary-31st December financial year; a program for the introduction of consolidated risk-based supervision has been adopted; resident inspectors of banks have been placed in all banks. These measures would contribute to ensuring that the banking system becomes more sound and transparent.
26. The envisaged credit will provide support to the 2009 budget's objective of sustaining growth through sound macroeconomic policies and budget priorities. The PDO lends credence to our efforts in making sure that the 2009 budget was based on a conservative oil price of US$45 /bbl, in the light of uncertainties in the oil markets. The Federal Government
remains committed to continue to implement a policy under which the Excess Crude Account is credited with excess oil revenue, after compensating for shortfall in revenue. These measures would put us in a position to have the Federal Government expenditure in 2009 remain within a range of 23-25 percent of non-oil GDP.
27. The PDO is also in support of the strategy to ensure that expenditure is tilted toward critical infrastructures that would help enhance the economy's growth potential. In this regard, the 2009 budget contains recurrent non-debt expenditure at N1.6 trillion (61.4%) and increases capital spending to about N1 (38.6%) of the Federal Government expenditure (excluding statutory transfers and debt service). With a view to ensure high capital implementation rate, capital expenditure of N187 billion for the first quarter of 2009 was released by January. In view of the uncertainties surrounding the depth and duration of the global economic slowdown, the government is in the process of putting in place strategic interventions that would address supply constraints and unemployment.
28. The proposed credit, in our view, will also support our efforts towards further enhancing transparency in budget preparation, execution and reporting. In this connection, the government has implemented interim Accounting Transaction Recording and Reporting System (ATRRS). With the progress made in automating accounting statement, we expect that about 75% of our MDAs will produce month end financial statement within 7 days. In view of lower-than-envisaged revenue in the first quarter of 2009, the Cash Management Committee has been resuscitated, with the main objective of supporting budget implementation and promoting efficient resource allocation. In the area of public procurement, the Public Procurement Act and Implementation regulations are consistent with international best practices. They are operational and made available to the public. Contract awards are published in National Procurement Journal (bi- monthly) and BPP website. With the progress already made, we are committed to ensuring that at least 65% of Federal Government contracts are based on national standard bidding documents and 95% of Federal Government contract awards above N75 million are published.
29. With a view to addressing the impact of the global financial crisis on the Nigerian economy, the Presidential Steering Committee on Global Economic Crisis has agreed to a framework on strategic interventions to help address infrastructure bottlenecks and unemployment.
V POLICY AGENDA GOING FORWARD
A National Development Plan
30. The Government's Development Strategy draws from President Umaru Musa Yar'Aduals 7-Point Agenda, draft NEEDS 2 and Vision 2020. President Yar'Adua has set out his administration's goals in the form of a seven-point agenda encompassing the key issues of critical infrastructure- particularly electricity and transport; Niger Delta Regional Development; Food Security; Human Capital Development (Health, Education and Training); Land Tenure Changes and Home Ownership; National Security; and Wealth Creation.
31. The National Planning Commission (NPC) is working closely with the Federal MDAs to develop indices, clear deliverables and timelines for objectively tracking the implementation process. The Government is also in the process of developing a comprehensive medium term development plan. This is expected to bring in the perspectives of States, Local Government Authorities (LGAs) and private sector into the formulation of National Development Plan (NDP)' .
32. The major thrust of the 5'h NDP is to achieve high levels of pro- poor growth, the MDG target and make Nigeria one of the top twenty largest economies in the world by year 2020. This is also designed at tackling the problems in the real sector, especially with respect to physical and human infrastructure, rising levels of unemployment and poverty as well the current structural and institutional weaknesses in the economy. The target is to ensure an average annual GDP growth of 7.5% with the non-oil sector being the growth driver from 2010 and beyond.
33. As part of the efforts in facilitating effective implementation of the process, it is planned that the NBP framework will be replicated at ,the state level. In this regard, the leadership of States Governments
-
' ln this renard, the draft NEEDS-:! has been harmonized with the 7-Point Agenda to form R the draft 5' NDP to span from 2009-2012. Thc process is expected to be completed within 5
months.
is being encouraged to buy-in into the process to facilitate accelerated development of the country.
34. The long-term economic development strategy of Government is anchored on the Vision 20:2020. The Vision 2020 framework has been approved by the Federal Executive Council (FEC). The current Administration has also formally inaugurated the framework for developing Nigeria's Vision 2020 plan. At the peak of the framework is the National Council on V2020, which is chaired by Mr. President. The Council is closely supported by the National Steering Committee which is the operational arm and chaired by the Honourable MinisterIDeputy Chairman of NPC. The other key supportive structures include the Business Support Group, Stakeholder Development Committees and . the National Technical Working Groups (NTWGs) which consist of private sector experts in relevant thematic areas. The NV20:2020 plan is expected to be launched by the President in October 2009. The medium term development plan (5th NDP) is also to serve as operational vehicle for the implementation of the NV20:2020 plan.
B Strengthening Public Financial Management (PFM) Systems
35. Recent progress in further enhancing transparency in the implementation of the budget included the constitution of the Fiscal Responsibility Commission. Fiscal prudence is considered important to macro-economic stability, enhanced growth, wealth creation and poverty reduction. In this regard, the government will continue to apply the oil-price- based fiscal rule. The Medium Term Sector Strategies for key sectors will continue to form the basis for budgeting and investment planning.
36. The government remains committed to moving forward reforms in the Public Financial Management areas. Envisaged reforms in this area include: (i) computerization of the Budget Office and Office of the Accountant General of the Federation (OAGF), with a view to interconnecting their operations with those of the Bureau of Public Procurement (BPP) and CBN, under the Government Integrated Financial Management Information System (GIFMIS); (ii) establishing a well functioning Treasury Single Account; (iii) institutionalizing a predictable and timely disbursement of budgeted funds to MDAs; (iv) major initiatives in ICT applications, which are already underway and include the IPPlS and
the GIFMIS. Government has also directed the fast-tracked implementation of an e-payment system and integration of IPPlS into the GIFIMIS.
C. ENHANCING CONFIDENCE AND STABILITY IN THE FINANCIAL SYSTEM
37. Notwith~tanding .the considerable successes achieved under the CBN's 13-point agenda and in the arena of pension reforms, we are fully cognizant of the need to further strengthen the financial sector and to this effect, we have developed a comprehensive, long-term, strategic plan for the development of the financial sector, underpinned by Financial Sector Strategy (FSS) 2020. FSS 2020 builds on the success of the financial sector reforms to promote greater stability, depth and diversity for the entire financial system. It covers all priority areas of the financial system.
38. With a view to further strengthening the financial system, the envisaged financial sector reforms include: (i) adjusting regulatory liquidity requirements in line with stabilization of system liquidity; (ii) easing and eventual elimination of extant administrative interest and exchange rate measures; (iii) consolidating debt portfolio management strategies aiming at benchmark building; (iv) amending banking regulations, reporting requirements, and supervisory procedures to conform to International Financial Reporting Standards (IFRS); and (v) adopting a framework for risk-based supervision.
39. In conclusion, we would like to reiterate the commitment of the Government to all these reforms, and we trust that this request for World Bank support for their implementation will receive your favorable consideration.
Yours sincerely,
: . Mansur M>.- Minister of Finance Federal Government sf Nigeria
Sanusi Lamido Sanusi Governor Central Bank sf Nigeria
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Dec
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Pil
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I: M
aint
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A
. Mea
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C
BN
take
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tion
to e
nsur
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e liq
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e of
the
ban
king
sys
tem
by:
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- - -. . . - . . . .
Pil
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und
fisc
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bud
get
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cons
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pric
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US
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per
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tinu
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cativ
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m-T
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09
2009
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re in
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9 T
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.
INTERNATIONAL MONETARY FUND
WAS%INCTON. O.C. 2OA.31
June 25,2009
Ms. Obiageli Katryn Ezekwesili Vice President African Region World Bank
Dear Ms. +esili, 9 As requested in connection with the proposed World Bank Development Policy Operation for Nigeria, I am pleased to attach herewith the staff's assessment of macroeconomic developments in Nigeria, based on information received through May 2009.
Yours sincerely,
Antoinette M. Sayeh I Director African Department
Attachment
Nigeria-Assessment Letter for tlle World Bank
Good n~acroeconolnic management and successful reforms initiated earlier this decade have enabled tlle economy to negotiate the global financial crisis front a position of strength. The oil price based savings rule has been effective in breaking tlte link betwccn public spending and oil prices with a cushion of USS18 billion (1 5 pcrcent of non-oil GDP) of oil revenucs saved by end-2008. The banking sector was recapitalized followilig a successful consolidation exercise, paving the way for a rapid expansion of tlte tinancia1 sector. Increased confidence in economic prospects and managetnent was reflected in higher foreign reserves, which peaked at USS62 billion (16 months of in111orts) in September 2008. Growth has been robust, with non-oil growth averaging over 9 pcrcent in the past 5 years, and inflation is well below rates prevailing earlicr i n the decade.
The impact of the global financial crisis is nevertl~eless expected to be significant. The main transmission mecl~anism is tl~rougll the lower price of oil, which is putting fiscal and exter~ial accounts under signiticant pressure. A lack of high-frequency data niake it difficult to assess the reaction of the real eco~iol~iy at this stage. However, reduced availability of financing, constraints on public spending, and uncertainty about global and do~nestic prospects, ufill weigh heavily on consumptioll and investnlent until well into next year. Non-oil growth is expected to slow from an estinlated 7.6 percent in 2008 to 4.0 percent in 2009-1 0. Oil production remains constrained by security-related disruptions in tlle Niger Delta, but is projected to be about 2 millioi? barrels per day-20 percent below its peak in 2005. Overall GDP growth is projected to decline fiom 5.3 percent in 2008 to about 3 percent in 2009, before recovering slightly to about 3 112 percent in 2010. Inflation has ~~ioderated corn a peak of 15.1 pel.cent in Decentber 2008 to 13.3 percent in April 2009, and is expected to fnll to single digits towards the end of this year as the eeonoinic slowdown takes hold and supply bottlenecks related to domestic fuel sltortagcs ease.
Against this backdrop, the autllorities have souglit to preserve public spending while allowing the overall fiscal balance to swing into deficit in response to sharply lower oil revenues. The budget for 2009, which is based on a conservative oil price assi~mptiot~ of
I A two-ycar Policy Support Il~stnlmcnt concluded si~cccssii~lly ill Octabcr 2007. Thc last IMF Exccutivc I3oal.d assess~iienl, at thc ~ooclusion of the 2007 Article I V consultation, is contained in tllc 12uhlic Informatiotl Notice of Fcbnlary 15, 2008 (see j~~~p;~~y~~~~v.in~f:c~!:g::~:~t~111i;ti~1j~~~s~~c:j~1j~~!~~p~1(~jJ,~~~.~,). Thc ncst Afliclc I\/ consultation discussions arc schcdulcd to take place in July 2000.
USS45 per barrel, envisages a modcst real incrcasc In spending at the federal level fwltli a signlfieant rcol-~cntation towards capital projects). It nsstimcs an increase in non-oil revenues wl~icl~ will be d~ffIcult to achieve. though past experience suggests that capital spending is also likely to be lower than planned. Spending by cash-strapped strite and local governments is likely to bc significantly recit~ced. At tiic consolidated government level, staff estimate tlint tlie non-oil prilnary deficit \vill therefore fall from 30 percent of non-oil GDP i n 2008 to about 76 percent in 2009-a moderately contractiona~-y fiscal stance.
While there is a case for a looser fiscal stance than this fro111 a cyclical perspective, the prudent approacl~ being followed by tile atrtliorities is justified. Staff estimate that the overall fiscal bnlance will swing from a surplus of 3.6 percent of GDP in 2008 to a deficit of 8.6 percent in 2009. In the absence of significant cxternal resources. financing this deficit domestically will be cltallenging. but feasible through a combination of past oil savings and borro\ving. The remaining oil savings could in pr~nciple finance a larger deficit, but the exceptionally uncertain outlook for oil revenues warrants a degree of caution in determining the pace at wl~ic l~ they are utilized. Administrative capacity limits also 1.1eed to be considercd in any major scaling up of public spending. Next year, based 011 projected oil price of US$ 75, the financing requirement should fail to a no re conifortable Icvel, with the overall balance projected to drop to below 4 percent of GDP even after providing for a slight relaxation in the non-oil deficit to support the domestic economy.
Moiietary and exchange rate policies are returning to a more normal footing as exreptio~~al measures to provide liquidity support to the banks and liniit pressure on the excliange rate are being unwound,
e LVhcn the global financial crisis broke i n September 2008, the central bank responded swiftly to safeguard the financial system by providing additional liquidity to the domestic nioney markets. As initial uncertainty about f lc impact of the crisis has dissipated, and it has become clearer that syste~liic liquidity is more than amplc, tile central batik has begun to withdraw liquidity suppo~t. The central bank should look to restore conventional monetary policy focused on price stability in the period ahead.
a The exchange rate was allowed to depreciate by 25 percent against the US dollar around the turn of the year, but ren~ains, i n real effective rerrlis, above its level 12 months ago when oil prices where peaking. Tenlporary administrative measures to lirnit the pressure on the excllarlge rate, whlch effectively closed tlze interbank market for foreign exchange, failed to address the underlying imbalance in supply and demand for foreign exchange. A parallel niarket for foreign excl~ange reemerged, a large parallel market premiuni developed, and foreign reserves continued to decline, reaching US$45 billion in May 2009. The central bank has begun to ease restr~ctions with a view to returning to a fully liberalized foreign exchange market by August 9009. Building on this. thc exchange rate should be allowed to respond flexibly to major external shocks.
Sorne signs of stress are evident in the banking systern as i t goes through its first down turn since a successf111 consolidation and recapitalizatio~l program. Tlie dirccr impact of the global financial crisis has been contained: there is 110 exposure to complex domestic or foreign financial instrun~ents: foreign bank ownership is very low; and reliance on foreign f~rnding is reportedly limited. However, tlie quality of some credit extcnded during the rapid expatision of the financial sector Iias been questioned (including equity-related lending). An increasing share of loan pol-tfolios could beeonie lion-pcrforn~ing in tlie current environment as a result of banks' exposures to equity market losses and other sectors affected by the econoiiiic do\tlnturn. Poor transparcncy and disclosure on the part of banks tends to preclude a full understanding of tlie cluality of their assets. This hinders sitpervisors in their assessntait of potential risks and vulnerabilities in the system, and has likely also contributed to fears of counter-party risk and segmentation in the interbank market.
Supervisors have respo~~ded to tliese challenges, iacluding by placing resident supervisors in basks. Vigilant supervision and a preparedness to take further action 011 the part of tlie supervisor in tl~is area will bc essential to respond to possible risks amid the econo~nic downturn. The require~nents to move to a colnnion reporting period by end-2009 alid adopt IFRS accounting standards fro111 the beginning of 20 10 will be key steps forward in enhancing the credibility of infomiation on banks' balance sheets over time. Continued progress in other arcas will also be important, including nioving to consolidated risk based supervision, strengtliening tlie contingency fraii~ework for systemic distress, and enliancirlg cross-border cooperation among regulators.
Sub- POVERTY and SOCIAL Saharan Low-
Niger la A f r i ca Income 2006 Population, mld-year(m1111ons) #4 7 770 2403 GNI percaplta (Atlas method, US$) 620 842 650 GN I (Atlas method, US$ b~llrons) 89 7 648 1562
Average annual growth, 2000.06
Population (S/d 2 5 2 4 19 Laborforce (%) 3 6 2 6 2 3
M o s t recen t est lmate ( latest year available, 2000-06)
Poverty (%of populatlon belownatlonalpove!?y 11ne) Urban population (%oftotalpopulabon) 49 36 30 L~feexpectancy at b~rth (pars) 44 47 59 Infant mortai~ty (per 1OOOl1ve births) 0 0 96 75 Ch~ld malnut rit~on (%of ch~ldren under 5) 29 30 Access to an ~mproved watersource (%ofpopulabon) 48 56 75 Llteracy (%ofpopulat~on age 159 89 59 61 Gross prlmary enrollment (%of school-age populabon) 0 3 92 0 2
Male in 98 0 8 Female 95 86 96
KEY ECONOMIC RATIOS and LONG-TERM TRENDS
1986 1996 2006 2006
GDP (US$ bilhons) 202 353 986 1153 Gross capltalformat~onlGDP 150 142 2 220 Exports of goods and serv~ceslGDP l 7 1 481 533 563 Gmss domest~c savingslGDP 116 34 9 392 436 Gmss natlonal sav~ngsIGDP 29 2 271 339
Current account balance1GDP -224 t(2 9 2 119 Interest paymentslGDP 2 5 3 0 5 0 Total debt1GDP 0 9 9 890 225 Total debt servlcelexports 284 152 159 Present value of debt1GDP 22 4 Present value of debtiexports 39 6
1986-96 1996-06 2 0 0 1 2006 2006.10 (average annual gro vdh) GDP 4 3 4 5 7 2 5 2 6 8 GDP per caplta t 3 19 4 7 2 7 4 7 Exports of goods and services 5 8 2 5 -18
Development d iamondg
Llfe expectancy
-
GNI Gross per 1 1 primary capita enro llment
-
Access to ~mproved watersource
- N~gena - - - - Lo w-lncorne group
Economic ra t ios*
Trade
Domestlc s Cap~tal savlngs formation
indebtedness
- Nlgena
- Low-income group
STRUCTURE o f the ECONOMY
(%of GDP) Agriculture Industry
M anufacturlng Services
Householdflnal consumption expenditure General gov't final consumption expenditure Imports of goods and services
(average annual grovdh) Agriculture Industry
Manufacturing Services
Household final consumption expenditure General gov't final consumption expenditure Gross capital formation Imports of goods andservices
l ~ r o w t h o f cap l ta l and GDP (%) 1
Growth o f expor ts and i m p o r t s (%)
45 T
I Note:2006 data are preliminaryestimates. This table was producedfrom the Development Economics LDB database. 1
! T h e diamonds showfour key indicators in the country(in boId)comparedwith Its income-groupaverage. If data are missing,thediamondwill j
Nigeria
P R I C E S and GOVERNM ENT F I N A N C E 1986 1996 2005 2006
D o m e s t i c p r i c e s (%change) Consumer pnces 5 7 293 7 9 8 2 Implicit GDP deflator -15 3 6 9 261 7 9
I n f l a t i o n (%)
50
40
30
20
10
0 01 02 03' 04 05 06
---GDPdeflator -CPI
G o v e r n m e n t f i nance (%of GDP, includes current grants) Current revenue Current budget balance Overa!l surplus/def~cit
T R A D E Isg6 1 ~ x p o r t a n d i m p o r t l eve l s (US$ mil l .) I
(US$ m1111ons) Totalexports (fob)
Fuel Liquified natural gas Manufactures
Total Imports (c~f ) Food Fuel and energy Capital goods
Export pnce 1ndex(2000=00) Import pnce index(2000=00) Terms o f trade (2000=00)
B A L A N C E o f P A Y M E N T S
Cur ren t a c c o u n t ba lance t o G D P (%)
20
10
0
-10
-20
(US$ m!Lons) E v o r t s of goods andservlces Imports of goods and services Resource balance
Net income Net current transfers
Current account balance
Financing items (net) Changes in net reserves
M e m o : Reserves including gold (US$ millions) Conversion rate (DEC,iocai/US$)
E X T E R N A L D E B T and R E S O U R C E F L O W S 1986
(US$ millions) Total debt outstanding and disbursed 22 2 8
IBRD 2 137 IDA 33
Total debt service 2 050 IBRD 219 IDA 1
Composi t~onof net resourceflows Official grants 9 Official creditors 677 Pnvate cred~tors -545 Foreign direct Investment (net inflows) 193 Portfolio equity (net inflows) 0
World Bank program Commitments 843 Disbursements 524 Pnnc~pal repayments 78 Net flows 445 Interest payments 142 Net transfers 303
Composition o f 2005 deb t (US$ m i l l )
A 722 G 1836 B 1 0 6
E 15479
A - IBRO E- ~l laera l B - IDA D - Other multilateral F - Prlvate C IMF G - Short-term
Note This table was producedfrom the Development Economics LDB database
Annex 5: Analytical Underpinnings of the Credit
1. The proposed Credit is intended to provide budgetary support to the FGN to offset the fiscal impact of the crisis and signal the Bank's endorsement of the accelerated implementation of reforms in the financial sector, fiscal policy and management, and improvements to governance which the Government and CBN have undertaken in response to the crisis. Support for these actions is based on a range of economic and sector work on the Nigerian macroecoi~omic and financial sector that were concluded in 2008, including:
Financial Sector Development
Banking Sector Diagnostic: This report focuses on how the banking sector can be a major driver in achieving the FSS 2020 vision once it addresses the risks of the sector, e.g. strengthening bank risk management capacity and banking supervision, transition from Nigerian accounting standards to International Financial Reporting Standards (IFRS) and diversify lending exposures away from volatile industries like the oil sector.
Housing Finance: This report address the issue of what can be done to close the current housing gap, estimated at more than 17 million units. The report recommends improving the time and cost of property registration, reforming the primary mortgage institutions and the National Housing Trust Fund. The report brings together some of the policy lessons learnt in the creation of mortgage liquidity facilities around the world and presents this as a possible contribution towards development of the mortgage market.
Social Housing: The focus of this report is primarily on the options available for those further down the income distribution to finance their housing needs. It also looks to cover other aspects of housing finance, such as access issues and the availability of funding for construction of housing. The report is targeted at policy makers both in the financial and housing spheres to consider a more broad-based approach to housing policy than just relying on the private sector to develop housing which will be paid for through mortgages. It suggests the need to develop the Real Estate Investment Trust (REIT) framework, create a national framework for housing PPPs, clarify the micro-finance rules for housing products and withdraw the proposed VAT increase on housing.
Pensions Industry Assessment: This report presents the background of the 2004 pension reform which was designed and implemented to: (i) improve the fiscal sustainability and welfare adequacy of the pension system; and (ii) create a well- regulated, prudently operating industry. The report presents recommendations to address flaws within the current pensions' framework. It concludes by explaining that the continued success of the pension industry depends on developments in capital markets, public debt management policies, the insurance industry, and interagency cooperation-issues central to the FSS 2020 agenda.
Insurance Industry Assessment: This report highlights the fact that the Nigerian insurance market is grossly underdeveloped and consumers are underinsured to a significant degree. The report suggests enforcing compulsory insurance policies and cracking down on fake companies as ways to quickly grow the industry. In the medium term, Nigeria will need to overhaul the accounting and regulatory framework for the industry, invest in improved IT systems and mount a public awareness campaign.
Access to Finance: This report identifies key issues for microfinance, branchless banking and SME finance. There are encouraging signs that access to finance is poised for growth, but the sector faces regulatory issues. Improved information, the promotion of credit registries, adopting a leasing law and operationalizing a moveable asset register are recommended as ways of growing access to finance in Nigeria.
Capital Markets: The report highlights the sizeable growth experienced in the capital market due to structural changes in the financial system. The report suggests that high cost elements might be preventing more companies from getting listed on the NSE and impeding the development of an issuer market. Also, the limited supply of financial instruments restricts investors to follow near identical investment strategies with little opportunity for diversification. The report concludes with recommendations to address these challenges.
Debt Markets and Debt Management: This report highlights recent improvements in Government debt management capacity and remaining areas for improvement, particularly in the areas of strategy development, cash flow forecasting, cash balance management and developing the secondary market.
Report on Observance of Standards and Codes for Credit Rights: The report found that although the Insolvency and Creditor Rights regime of Nigeria is strong in certain aspects it remains in urgent need of reform. The report concludes that the principal legislation that drives the legal framework for insolvency and creditor rights in Nigeria, the Companies and Allied matters Act and the Bankruptcy Act, are both antiquated and do not incorporate the features of modern international best practices of insolvency.
Nigeria Investment Climate Assessment 2008: The ICA 2008 was based on a survey of 2,300 enterprises based in Nigeria. It concluded that Nigerian firms are unproductive largely due to a lack of electricity, good roads and access to affordable finance. Each year 16 percent of sales in Nigeria are lost as a result of poor infrastructure, crime and corruption. Deepening the financial sector would serve to boost the productivity and performance of Nigerian businesses.
Doing Business in Nigeria 2009: This is part of an annual series of reports that compares more than 180 countries around the world in terms of the ease of doing business. The report finds that Nigeria is ranked 11 gth - a position that has remained fairly static over the last few years. Nigeria ranks particularly poorly on registering
property, dealing with licenses, trading across borders and paying taxes. However, the country fairs relatively well in employing workers and protecting investors.
FSS 2020 Change Management and Implementation Plan: The objective of this report was to evaluate current/proposed change management approaches for the implementation of the FSS 2020 vision. The report reviewed the current change architecture for transitioning the FSS 2020 vision and provided recommendations to strengthen it. The report concluded by suggesting that for the FSS 2020 vision to be successfully implemented, there needs to be a two-pronged change management approach working concurrently to engage in changing a large complex system and develop institutional capacity.
Public Financial Management
Public Expenditure Management and Financial Accountability Review (PEMFAR): This report conducted in 2006 proposes actions to promote a sound Public Financial Management Environment. The PEMFAR report provides the analytical underpinnings for Government's ongoing efforts to address the weaknesses in Public Expenditure Management. The report noted that while advances were made in macroeconomic and debt management, budget formulation, accounting, and procurement reform less progress was made with respect to capacity building, including in the Budget Office, and in such areas of financial accountability as reporting, monitoring, and disclosure.
Debt Markets and Debt Management: This report highlights recent improvements in Government debt management capacity and remaining areas for improvement.
Review of capital budget implementation: A recent review of obstacles to the faster execution of the capital budget resulted in a number of measures being adopted by the Government, including the early release of the capital vote and the swift approval of the 2009 budget as well as the introduction of a template for MDA's to monitor and evaluate the implementation of capital projects. A summary of the recommendations is in Annex 7.
State-level Public Expenditure Reviews and Public Expenditure and Financial Accountability Assessments (PEFA): Several states have already completed Public Expenditure reviews and PEFA assessments and use these to inform their reform agendas in the public financial management area.
Nigeria's Growth Strategy
Employment and Growth Study: Targeted interventions to remove binding constraints in employment-intensive value chains, in particular in the physical infrastructure area, were identified as a key strategy to enhance the employment-intensity of growth in a recent study by the Bank on employment and growth. The study found that notwithstanding high, sustained growth in the non-oil economy since 2001, the share of the population outside the labor force had not declined and that youth
unemployment was on the rise.' To improve the employment intensity of growth it proposes a number of value chains with high near-term potential for employment creation.
ANNEX 6: NIGERIA'S FINANCIAL SECTOR REFORM PROGRAM UNDER FSS 2020
A. Overview of the Nigerian Financial Sector
1 . Nigeria's financial sector is dominated by domestic commercial banks. The recent banking consolidation has, on the whole, significantly strengthened the banking sector. Most banks are well capitalized, liquid and profitable. In the process of meeting the new capital requirements, banks raised the equivalent of about US$ 3 billion from domestic capital markets and attracted about US$ 652 million of Foreign Direct Investment (FDI) into the Nigerian banking sector.14 NPLs are on a declining trend while deposits have grown considerably. The increased competition among banks arising from the need to deploy their enhanced capital has led to significant changes in their business models. There has been considerable credit growth largely to the corporate sector while banks have also been tapping the retail sector including through their expanded branch network. Some banks have initiated expansions in cross-border operations, while many have inherited subsidiaries from the nonbank sector, strengthening cross- border and cross-border linkages.
2. There is a strong relationship between the financial sector performance and a strong macroeconomic policy framework. A key risk to the financial sector is a relaxation in fiscal discipline and complications in monetary management.
3. A number of features of the financial sector could also pose challenges going forward. These include: (i) the emergence of large banks with both cross-border and cross-sector operations in the absence of consolidated supervision; (ii) the considerable growth in credit provided by the banks; (iii) the size of the banking sector's share on the stock exchange; (iv) the share of foreign investor presence in the domestic treasury bills and bond markets; and (v) the strategic risks that banks would be overly eager to deploy capital and deposits into risky activities. These features raise particular concern and call for policies to ensure that they are not allowed to undermine the soundness of the financial system. Efforts are being made to mitigate these risks through a strengthening of the supervisory capacity to monitor the developing banking system and environment.
4. Developments in the capital markets have mirrored the structural changes that have taken place in the financial system. Structural changes in debt management, reforms in the pension fund industry and the consolidation of the insurance sector have had a significant impact on the equity and Government bond markets, although the corporate bond market has not seen a resurgence.
5 . In spite of the overall stability and enhanced performance of the banking system, financial sector depth and intermediation remain below peer countries and the average for low- income countries. Capital and asset growth have yet to translate into better access to finance for SMEs (especially in the manufacturing sector), low-income households and micro enterprises. Credit remains concentrated in large enterprises. Short loan maturities do not meet the funding needs for long-term productive investments. The challenge, therefore, will be to overcome the
l4 Iweala and Kwaako, Nigeria's Economic Reforms: Progress and Challenges. Brookings Institution Report, 2007.
constraints in the lending environment: lack of information about financial health and credit histories of prospective clients, weak corporate governance, accounting and auditing discourage financial institutions from expanding their lending business into new market segments.
6 . A key area for further action is the legal and judicial framework for the financial sector. Strengthened creditor rights and insolvency systems will be necessary to foster greater confidence in commercial contracts. Lack of secured lending frameworks and high transaction costs in securing and transferring land titles are a serious impediment for mortgage finance, a key market for conmercial banks and an important source of SME finance. Private infrastructure finance will require clear policy and institutional frameworks for private participation in infrastructure. Positive momentum in the microfinance sector needs to be supported through adequate supervisory capacity further diagnostic work on the demand for financial services and the institutional capacity of formal and informal providers to provide adequate supply.
B. Nigeria's Financial Sector Reform Strategy
7. Major reform activities in the financial sector started in 2004 with a 13-point reform agenda issued by the Central Bank of Nigeria (CBN). It aimed to transform the financial sector into a growth catalyst, focusing on increasing minimum capitalization for banks to S25 billion from December 2005. The financial sector reform efforts also witnessed the phased withdrawal of public sector funds from the banking sector, the adoption of a rule-based regulatory framework and an automated process for the rendition of returns by banks and other financial institutions through the enhanced Financial Analysis and Surveillance System (e-FASS). A number of relevant laws were updated and enforced and the period saw a closer collaboration with the Economic and Financial Crimes Commission (EFCC) in the establishment of the Financial Intelligence Unit (FIU), and the enforcement of the anti-money laundering and other economic crime measures.
8. As a cornerstone of the 13-point reform agenda, the CBN raised the minimum capital requirement of banks from $42 billion (US$ 15.4 million) to $425 billion (US$ 192 million) in June 2004 and banks that could not meet this requirement either merged or had their licenses revoked. By the end of the consolidation exercise in December 2005, the number of banks had dropped from 89 to 25. The success of these banking sector reforms together with sound macroeconomic reforms has created opportunities for improving the availability of finance for productive investments, including:
e Banking consolidation has created banks with a significantly increased capital and deposit base which can be leveraged for term finance and outreach. As the largest financial market in Africa other than South Africa, Nigeria has significant potential to promote financial sector development also on a regional level;
e Nigeria is now rated BB- by Standard & Poor's and itch'^;
e Total external debt dropped to US$ 3.5 billion in December 2006, compared to US$ 33 billion in 2003;
15 Recently, S&P changed its rating outlook f ron~ stable to negative, but left the rating unchanged at BB-.
78
In 2004 a new regulatory framework for the pelision system was introduced with the establishment of a strong regulator, the Pension Commission, and the pension system for public sector employees was changed fiom a defined benefit to a funded defined contribution system. Pension funds are now worth an estimated $4300 billion (US$ 2.5 billion), with a projected annual growth rate of 15 percent; and
In early 2007, one Nigerian bank issued over-subscribed bonds in the international markets without guarantees from any Government or multilateral agency. In addition, several other Nigerian banks have accessed several tens of millions of United States dollars in lines of credit fiom international financial institutions without Government guarantees.
Table 6.1: Growth of the Nigerian Financial System Category 2004 2008
Banking sector capital .................. base - - - N4.4trn ~ NlOAtrn(2007)
..........
2.26bn Source: CBN, SEC, NSE, World Bank and Pencom.
21. Notwithstanding the tremendous successes achieved under the CBN's 13-point agenda, the Nigerian authorities were cognizant of the need to strengthen further the financial sector and in 2006 embarked on the development a comprehensive, long-term, strategic plan for the development of the financial sector - the Financial System Strategy 2020 (FSS 2020). The FSS 2020 steering committee defined the vision for the strategy as follows: "To be the safest and fastest growing financial system amongst emerging market countries ".
22. The strategy aims to build on the success of the recent banking sector reforms to promote greater stability, depth and diversity for the entire financial system. It covers all priority areas of the financial system. The World Bank, FIRST, IMF and IFC have supported the formulation of FSS 2020 with substantive technical assistance. Nevertheless, it remains a home grown approach and is fully owned by the Central Bank and the Ministry of Finance.
C. The FSS 2020 Framework for Financial Sector Reforms
23. The process ~f putting together FSS 2020 was highly consultative involving representatives of all the regulators, industry participants, academics, donors etc. From the outset 'focus groups' were organized for various sub-sectors16. They met regularly and their findings were reported and discussed at a series of retreats culminating in an international conference held in June 2007 opened by the President, which provided an official endorsement to the vision
l6 Namely, capital markets, housing finance, regulation and legal framework, insurance market, credit market, SME finance, money and FOREX markets, monetary policy, IT and communications and human capital as well as quality assurance.
outlined in FSS 2020. Subsequently the Bank worked closely with the CBN to undertake M e r diagnostic work to set the baseline and develop an implementable roadmap for FSS 2020 focusing on such areas as: banking sector, payments and remittances, debt management and debt market development, capital markets, insurance, pensions, housing finance and social housing, SME access to finance, microfinance, corporate governance, and creditor rights & corporate insolvency. 24. In each area, experts drafted concise papers identifying the key challenges to achieving the FSS 2020 vision and outlining practical, time-bound steps for overcoming them. In many cases, the papers have been discussed at length by industry stakeholders convened under the rubric of the Central Bank of Nigeria (CBN) FSS 2020 Working Groups.
25. In an effort to maintain a results-oriented focus, support was also provided in assisting the CBN in putting together a Monitoring and Evaluation (M&E) framework for FSS 2020 and advising the project implementation unit-housed (temporarily) by the CBN-in organizing the envisaged transition to an implementation office referring to the Steering Committee to be appointed by the President.
26. Crucial to the success of FSS 2020 so far is that the strategy and process have all along been owned and managed by the Nigerian authorities. In supporting the authorities in moving FSS 2020 from the drawing board to implementation the Bank has broadened its involvement beyond providing technical support to supporting the complex change management challenge. This support to FSS 2020 has been greatly appreciated by Nigerian stakeholders, and the Nigerian authorities have managed to make significant gains in the area of financial sector reforms which are elaborated in the following section.
D. Nigeria's Financial Sector Reform Program in Detail
27. As explained above, the Central Bank of Nigeria has been driving an ambitious program of reforms in the Financial Sector for many years. The CBN together with the Federal Ministry of Finance and other financial sector regulators and stakeholders intend to pursue this reform program over the medium term. An overview of plans in the following subsectors is provided below;
Enhanced Access to Finance for SMEs;
Increasing Access to Finance for the Poor;
Strengthening the Environment for Financial Sector Deepening;
Developing Capital Markets to Fund Medium and Long Term Development; and
Strengthening Pensions Systems.
E. Enhanced Access to Finance by Small and Medium Enterprises
28. Suggested outcome goal: Increase the percentage of small and medium-sized firms with lines of credit or loans from financial institutions from 5 percent in 2007 to 10 percent by 2012.
29. Issues: Tighter monetary conditions since the onset of the international financial crisis have resulted in less access to credit for small and medium enterprises. In this situation banks prefer to reduce their risks by focusing on lending to domestic top-tier corporations. Banks have increasingly also been able to engage in lending to multi-nationals whose access to foreign markets is impacted by the tightening of credit conditions abroad.
30. In 2007, only 5 percent of Nigeria's small and medium enterprises (SMEs) had access to loans or lines of credit, while more than 80 percent reported they would like to have access to these financial instr~ments.'~ SMEs report access to finance as the third most important obstacle to doing business after the lack of access to electricity and good roads. Given the potential that SMEs have in boosting growth and employment, Nigeria can gain substantially by improving their access to finance. SME finance is constrained by lack of data, inadequate regulations and infrastructure for collateral registration and insufficient credit information. Regulations require loans to be collateralized, limit the types of acceptable collateral and impose a complex and expensive system of registration charges. At the same time the laws relating to security over movables (i.e. equipment) are antiquated, fragmented and do not offer Nigerian businesses an effective means of raising capital.
3 1. Furthermore, the lack of a fully functioning credit information system is not conducive to increased access to finance for the SME sector. However, with quick approval of well designed regulations, Nigeria could establish a competitive and open credit information industry where private credit bureaus work alongside the CBN's Credit Risk Management System (CRMS).
32. Financial providers are challenged to offer adequate services to SMEs. Checks, which are normally used as security in supplier credit (particularly in developing nations), have a very poor reputation in Nigeria. As a result, checks are not considered reliable and hence do not function as credit or collateral. There are few financial products tailored to SMEs. Globally, leasing is a widely-used service for SMEs, although the lack of a leasing law in Nigeria is constraining development of this sector in the country. Finance companies have limited tools for credit risk assessment and lack of information and understanding of value chains that are important in the development of factoring services.
33. Past attempts to promote SME finance have not been successful, and this could lead authorities (and skeptical banks) to be hesitant in implementing new policies for the sector. Five venture capital companies were established to manage a publicly funded fund to support the sector, the Small and Medium Enterprises Equity Investment Scheme (SMEEIS). Their experience offer strong indications for how to further support the development of SME finance, given that they are still operational and have valuable experience and understanding of the sector.
34. Reform Strategy to Reach Outcome Goal: The following are suggested reform actions that have been discussed with the relevant Nigerian stakeholders:
l7 An Assessment of the Investment Climate in Nigeria, World Bank 2009.
8 1
Adoption of steps to enhance credit information systems. In October 2008, the CBN issued licensing guidelines for credit bureaus in Nigeria ("Credit Bureau Guidelines"), which are well designed and should pave the way for development of a competitive credit information system. The CBN currently maintains a credit information system, the Credit Risk Management System (CRMS), with both positive and negative data and a profile on the total liabilities a debtor has acquired within the banking system. A total of four private companies of significant size (and as many as four others) are cwrently working on credit bureau initiatives in Nigeria. These actions have created a framework for an improved credit risk management system.
Improved collection and dissemination of data by SMEDAN, CAC, CBN and other relevant stakeholders regarding SME finance. In order to adequately set policy and to have a baseline against which results can be compared, data needs to be collected and made available to relevant policy making agencies, private sector, industry associations, and the broad public. For that purpose, the CBN could expand open item code 10860 of the Monthly Statement of Assets and Liabilities (MBR 300) to include lending products such as leasing, factoring and loans under credit lines issued to SMEs. The CBN could also begin to classify the SME data by type of loan, loan size, company size, and economic sector based on the additional SME information provided by financial intermediaries and make the aggregate data (sum total for all financial institutions) public via the CBN website and its reports. The Company Affairs Commission (CAC) can also play a crucial role in improving SME data by making more widely available the database that it manages on companies and business names and the information that it collects on annual financial returns for all companies.
Adoption of steps to enhance collateral registration to reduce the costs and risks of lending. The CAC plans to adopt regulations that permit registration of individual items of property as collateral. Currently, it manages a workable registry of floating claims on company assets, but the registry does not identify individual assets, and only incorporated businesses can make use of it. Plans to develop a computerized movable collateral registry are also crucial to reduce the costs and delays attendant on registering mortgages and liens. The creation of computerized land registers presents significant technical and legal problems (partly due to the uncertainties of title created by customary ownership laws). Further study of how other African countries are resolving these problems may provide useful inputs into designing a computerization strategy.
F. Increasing access to finance for the poor
35. Suggested outcome goal: To increase the proportion of the adult population (those that are eighteen and over) that uses formal financial sector services from 21 percent to 40 percent by 2012.
36. Issues: A recent study revealed that only 21 percent of Nigerian adults have access to formal sector financial services.'' The unbanked are predominantly rural, female, from subsistence farming backgrounds and more likely to be living in the North West part of the country. Access to finance for such vulnerable groups is seen as key to unlocking growth for poor farming communities. A comparative analysis of the growth rates of different countries over a 30-year period has produced convincing evidence that a deeper financial system contributes to growth-and is not merely a reflection of prosperity.1g Countries with deep financial systems also exhibit lower incidences of poverty than others at the same level of national income.
I . Nigeria has developed a strategy to deepen access to f iance
37. Nigeria's authorities recognize the need to develop and deepen the Nigerian financial sector. As described above, the Central Bank took the lead with the 13-point agenda that was implemented starting in 200415 and more recently with the Financial System Strategy 2020 (FSS2020). The reform teams have committed to ambitious targets with the CBN publicly stating that: "By 2020, the Nigerian credit to GDP ratio will be among the top three of emerging markets, including access to credit for the productive SME sub-sector and 70% of the Nigerian population. " This goal addresses documented needs. Sixty one percent of the unbanked state that they wish to have access to formal sector financial services. However, the strategy is also confronted by a number of challenges.
38. The primary challenge is how to provide services to the poor on a financially viable and sustainable basis. Nigeria has a long history of community finance, microfinance and SME finance initiatives aimed at providing services to the unbanked population. However, their performance has been at best mixed. Nigerian authorities are learning from the past and moving rapidly to put in place a raft of new legislation as well as improving on existing acts and regulations. Given Nigeria's geographic size and development status, successfblly expanding access to finance is likely to involve innovative new access technologies such as branchless banking.
2. Developing a commercial microfnance sector
39. The CBN launched the Microfinance Policy, Regulatory and Supervisory Framework for Nigeria in 2005. It was an important turning point for the industry as it established the Microfinance Bank (MFB) as an institutional vehicle for privately-owned deposit-taking microfinance institutions. Following the establishment of the new regulatory framework, several projects (including an IDA-IFC supported operation focusing on MSME development) have succeeded in demonstrating that commercially sustainable, professional microfinance institutions can operate and thrive in Nigeria's wbm and pesi-urban areas.
40. The microfinance policy has been successfbl in catalyzing capital investments by a large number of Nigerian and international investors in the newly created MFBS.~' The new MFBs
18 Finscope study carried out by Enhancing Financial Innovation and Access (EFinA) in 2008. l9 Making Finance Work for Africa, Patrick Honohan and Thorsten Beck, 2007. 20 It is estimated that more than US$ 50m has been raised to support newly created MFBs since 2005.
have enjoyed a remarkable rate of growth. At the same time the new policy has inadvertently created conditions that have the potential to undermine the performance of the sector.
41. Low capital requirements to operate an MFB (currently N20million or US$ 150,000) have permitted a large number of undercapitalized and weak institutions to remain in the market. It has also not provided an incentive for MFBs to merge and thereby create the economies of scale that would be needed to effectively install IT platforms, provide training to credit officers and have the available capital to expand effectively. The microfinance policy also imposes relatively high capital requirements for a state-wide MFB license (341 billion or US$ 7.5 million). This has resulted in 98.9 percent of MFBs licensed as single units. It also provides a strong incentive for MFBs to locate in the South West in and around Lagos, the financial hub, rather than moving to underserved areas. The geographical restrictions also impede beneficial specialization. Finally the rapid growth rates have undermined the ability of many MFBs to manage growth resulting in reduced asset quality.
42. The lack of readily accessible market and financial institution performance data undermines evidence-based decision making for all stakeholders including policy-makers, regulators, investors, MFB managers and the public. This coupled with the lack of apex institutions has led to irrational growth of the sector. With over 1,000 MFBs to oversee, central bank capacity to regulate the sector is also stretched. While not creating systemic risks for the sector, as the MFBs only account for 1 percent of system assets, supervision of such a large number of institutions presents a considerable challenge to the CBN and detracts from the CBNYs focus on supervising the 24 large commercial banks.
3. Using branchless banking to reach the poor
43. Branchless banking involves the delivery of financial services through agents andlor new technologies to reach under-served populations. It has a transformation potential to expand access to finance by reducing the cost and increasing the points of service, especially in the rural areas. Nigeria's mobile phone sector has grown at a phenomenal rate exceeding 30 percent per annum in recent years. It is estimated that more than 50 percent of the population has access to a mobile phone and more than 40 percent of those are in the rural areas. Nigeria can benefit greatly by learning from and implementing solutions that have successfully been implemented in Kenya, Brazil, the Philippines and elsewhere.
44. In Nigeria the main payment instruments available include credit transfers, checks, electronic debits and payment card systems. Electronic purses (a form of stored value cards), internet-based banking along with mobile payment services have recently been introduced. Increasing branchless banking in Nigeria will require increasing the relevant infrastructure especially the point of sales (POS) terminals and introducing conducive mobile payments guidelines to promote branchless banking.
45. At the moment Nigeria has one of the lowest penetration rates of POS even when compared to other African countries. The ATM infrastructure is dramatically hindered by legislation that does not encourage sharing of facilities. This results in a situation in which there are multiple ATM machines at the same location which is a waste of resources on much needed infrastructure that could be used to increase penetration of financial services.
46. The Central Bank is in the process of drafting mobile payments guidelines to promote branchless banking. It is expected that the ,legislation will cover anti-money laundering ,and combating the financing of terrorism (AMLICFT) requirements as well as consumer protection. The CBN is working with a variety of stakeholders such as switch operators, mobile phone companies and others to ensure that the guidelines that emerge will be practical and developmental in nature.
4. Financing Social ~ o u s i n ~ ~ l
47. It is estimated that Nigeria's housing shortfall is in excess of 17 million units. While only 21 percent of the Nigerian population has access to formal sector finance, less than 0.5 percent of the population has access to housing finance. This number represents a very small elite. Even in urban areas more than 85 percent of the population rents, often spending over 40 percent of their income in the process. The failures in the rental framework leave them with a lack of security and without any choice but to accept such market practices as paying 2 years rent in advance. Landlords cannot take all the blame though as the current framework provides them with very little protection and makes it prohibitively expensive to evict a tenant, as well as taking close to 2 years to accomplish. A balanced approach is needed which will improve affordability for renters and provide the right inducements for landlords to invest more heavily into good rental accommodation. 48. The alternative solution in more rural areas or peri-urban areas is self-construction. This is typically slow, inefficient and does not produce good quality housing. Housing microfinance could help lower income households buy building materials in bulk, pay for title regularization, and pay for an expansion or an improvement to an existing dwelling. Yet virtually none of the 700 Micro-Finance Banks or other providers of micro-finance loans have yet to engage in housing micro-finance in any meaningful way. The contrast with South America is stark, where this product has enjoyed widespread success and has helped improve countless lives in slum areas. The potential is there, if steps are taken to create the right environment and to foster the introduction of housing micro-finance into Nigeria.
49. Nigerian developers currently focus almost entirely on high-end, high margin developments since financing housing is an expensive and risky proposition. Due to widespread public sector failures they are often forced to provide all the required infrastructure such as roads, drainage and electricity. Nigerian banks do not provide products suited to the extreme cash-flow patterns that developers' experience. Government can play a role in encouraging developers to go down market by providing infrastructure and developing public-private partnerships for the construction of affordable housing estates. A unified approach is needed that brings together the Federal Housing Authority (FHA), the National Social Insurance Trust Fund (NSTIF), and the State Housing Corporations. It is also important to broaden the current agenda away from mortgages alone to make housing finance more relevant to lower income households.
50. One of the most important sources of finance for the housing sector, the Urban Development Bank of Nigeria has recently been re-structured and is under new management. This institution's main objectives are to structure deals and finance infrastructure for the housing sector, by providing sub-debt and therefore making infrastructure investment more attractive for
2 1 Housing Finance for the Poor, Simon Walley March 2009 unpublished mimeo.
commercial banks. Despite the successfhl restructuring, the implementation of new activities by the Urban Development Bank needs to be accelerated. One of the major constraints on developers in producing large-scale affordable housing is the cost of infrastructure which at the moment falls entirely on the developer. Constitutionally it is local Governments which should provide water and sewerage services as well as access roads. The Urban Development Bank is looking to facilitate this by providing 'mezzanine' finance which would help local Government in financing infrastructure and would effectively provide a credit enhancement for banks to participate in loan syndication.
51. Reform strategy to reach the outcome goal: : The following are suggested reform actions that have been discussed with the relevant Nigerian stakeholders:
Improving microfinance penetration and coverage: The CBN is considering (a) publishing historical information including financial statements, outreach and performance data as well as interest rates for all MFBs on the CBN website, (b) prioritizing supervision efforts on the largest MFBs and develop off and on-site supervision tools and training programs, (c) moving towards a revision of the regulatory framework for MFB's involving higher minimum capital requirements for unit MFBs and allowing mergers and acquisitions without geographic restrictions and (d) aligning all MFB wholesale lending programs with a market-based model for pricing and eligibility requirements.
Promoting branchless banking initiatives: The CBN will promote the interoperability of the retail payments system. It will also ensure that the mobile payments guidelines address (a) key issues such as the use of agents and/or third party service providers and (b) prudential risks involved in nonbank-led models of mobile banking.
Financing Social Housing: The Federal Government of Nigeria will commission a detailed diagnostic study on Nigeria's private rental housing market. It will set up a working group to prepare recommendations on real estate development finance and it will clarify and develop the regulatory framework for Housing Micro-finance. In the longer term Government is also planning to (a) develop a REITS framework, (b) create a framework for Housing Public Private Partnership Schemes and (c) introduce a more coordinated and inclusive Housing Policy.
5. Strengthening the Enabling Environment for Financial Sector Deepening
52. Suggested outcome goal: To develop secure and efficient payment and remittances systems so that the proportion of non-cash payments rises from X percent to Y percent and the costs of remittances are reduced from 8 percent to 4 percent or less for firms covering 80 percent of the market 20 12.
53. Issues: There is a significant positive correlation between improved payment systems and credit to the private sector. Having a good retail payments system, a range of payment instruments and a higher degree of interoperability of retail payment systems will facilitate commerce and trade. Remittances (funds sent by migrant workers to their families back home)
represent a significant and growing proportion of GDP and export earnings. Annual remittances to Nigeria are through official channels are estimated at US$ 4.5 billion while estimates of total remittances sent to Nigeria are as high as US$ 10 billion. Remittances help to smooth consumption, stimulate investment and act as an important counter-cyclical safety net for the poor. There is also strong evidence that reducing the fees on remittances encourages remitters to send the fknds through formal channels and provides the receivers with an incentive to open a bank account.22 Nigeria has embarked on ambitious programs to improve the country's payment system and reduce fees for remittances.
6. Improving Nigeria's Payments System
54. The Central Bank of Nigeria (CBN) has embarked on a comprehensive reform of the national payment system that will significantly modernize payment transactions in line with international standards and best practices. The vision of the Nigerian authorities is to create an electronic payments infrastructure that is nationally utilized and internationally recognized as being world class.
55. The CBN recognizes that certain payments system improvements will not take place without its leadership. The CBN's goal is to achieve high quality, reliable and affordable payment systems thereby increasing confidence in the banking system, achieving greater use of banking services in all geographic locations, and reducing Nigerians' dependency on cash and checks. It is also spearheading the implementation of a central switch to achieve interoperability for the card-based systems in Nigeria. In 2006, the CBN commissioned a real-time gross settlement (RTGS) system which it owns and operates. The RTGS system was implemented with the primary aim of reducing risk and enhancing efficiency in the payment systems.
56. Although a systemically important payment system, the RTGS system does not currently meet international standards for risk mitigation and efficiency and does not meet the needs of users. The provision and repayment of intraday liquidity is not automated in the RTGS system. Because the processes are manual and administratively burdensome, intraday credit entries, once booked are not always reversed in a timely way. The spillover of intraday credit into overnight lending may therefore compromise the CBN's management of monetary policy. The necessary connectivity between the banks' internal banking systems and the RTGS system has not yet been implemented and straight-through-processing is therefore not achievable. Banks are unable to promote RTGS use for third party payments as, without the necessary connectivity, they lack the capacity to process large volumes of these payments through this system. Additionally, the RTGS system is not effectively linked to the central settlement and clearing systen1's (CSCS)
57. Electronic depository for securities. One of the consequences of the foregoing is that checks remain the primary payment meanst for large-value payments, including settling securities trades. And check usage continues to expand, despite the existence of the RTGS system. Checks currently account for over 90 percent of non-cash payments in Nigeria.
58. The use of electronic payment instnunents, in particular debit and credit cards, in Nigeria and by Nigerians abroad is constrained by the perception of corruption and a generalized fear of
22 Banking the Poor, World Bank Group, June 6,2008.
87
fraud, misuse, or loss. It is reported that the international card issuers (Visa and Mastercard in particular) often block, or refuse to pay, even genuine transactions as a precautionary measure against misuse. Nigeria has three private switch operators that are not interoperable. Currently banks compete on the branding and deployment of ATMs and they acknowledge that the non- collaborative and competitive approach they now take to the deployment of ATMs results in a less than optimal distribution of ATMs and is not cost-effective.
59. In this regard, the CBN, jointly with the banks, is currently implementing a central switch, which will be operated by the Nigerian Inter Bank Settlement System (NIBSS), to achieve interoperability among all the card-based systems in Nigeria. Such interoperability is a critical prerequisite for the effective distribution of ATMs and POS terminals throughout the country (currently multiple ATMs are positioned side-by-side in a single location, while other areas remain under-served).
60. Securities settlement systems are an integral part of the national payment system and are critical to the effective functioning and development of the capital market. Equally, the interbank money market is critical in an environment in which large value payments are settled in a gross system as higher levels of liquidity are then needed. Currently, the CBN acts as registrar for Government securities while the CSCS operates the central securities depository.
6 1. The secondary market for Government securities has recorded significant growth over the years and now averages an estimated 866 trillion annually. The CSCS reports average daily bond trades of $425 to 8630 billion through the existing securities depository. Trades are done over-the- counter with cash settlement mainly by check. The Money Market Dealers Association and CSCS are jointly implementing a trading platform for Government securities, even while the Ministry of Finance and the Debt Management Office are reported to be moving towards the implementation of a new trading platform. It is important that these initiatives be coordinated.
7. Reducing the cost of Remittances to Nigeria
62. International remittances amounted to about US$ 4.2 billion (7 percent of GDP) in 2006, through 700,000 transactions, an increase of about 30 percent over 2005. However, informal remittance flows into Nigeria are thought to be large, with much hand carrying of cash. Including infornlal transfers, total remittance inflows might be as large as US$ 10 billion.
63. In terms of geographical coverage, disbursement of remittances is restricted to bank branches. This means that some recipients have to travel lon distances to collect their money. About 35 percent of bank branches are in Lagos and Abuja! The requirement that only banks serve as agents of remittance companies, coupled with the imposition of exclusivity contracts by international money transfer operators, has resulted in a near monopolistic situation, with high commission rates. This provides an incentive for people to transfer cash using informal channels. Western Union charges approximately 7 percent of the principal sum to send money to Nigeria. This is significantly more than in other large markets where a competitive situation has
23 Orozco, Manuel and Bryanna Millis, "Remittances, Competition and Fair Financial Access Opportunities in Nigeria." USAID, October, 2007.
8 8
developed. In the Mexico-US corridor, for example, where many players compete, the average cost is between 3 and 4 percent of the sum transferred. Unlike in other countries global remittance service providers are not required to be licensed or regulated in Nigeria.
64. Late in 2008, the CBN outlawed exclusivity arrangements between banks and remittances services providers in order to open the market to potential new entrants and thereby bring down the cost of remittances. The CBN is working to encourage increased transparency in remittance services, by requiring the publishing of the fee schedule at both ends as well as the exchange rates, margins, time taken to make the transfer and specific locations of access points in both the sending and receiving countries. Appropriate consumer protection is also important. Senders should have rights including error dispute resolution.
65. Reform strategy to reach the outcome goal: The payment system strategy seeks to promote confidence in, and usage of, electronic payment instrunlents that are safe. It also pron~otes the adoption of internationally accepted standards that encourage interoperability and straight-through-processing for payment service providers and users, to minimize end-to-end costs and error rates and prevent or detect fraud. The remittance strategy seeks to reduce the cost and increase the transparency of the market for remittances in Nigeria. Achieving these goals will require progress in the following areas:
Upgrading the RTGS system: The system functionality should include straight- through-processing connectivity to the banks' systems as well as to CBN's to automate intraday liquidity management-lending, collateral management, and repayment. Straight-through-processing removes reliance on manual processes, reduces operational risk, and facilitates third party payments by banks on behalf of their customers. Ultimately it will support greater use of the RTGS system and more efficient management of intraday liquidity. A multi-functional payment system with interfaces to the regional payment system to be developed for the West Africa Monetary Zone for cross-border payments will also be important as will a linkage to the central securities depository for the settlement of securities market transactions on a delivery versus payment basis.
* Impose check limits: Determine check limits based on an analysis of check usage trends and impose cap on checks jointly with a system of penalties and incentives to promote use of the RTGS system. This will facilitate the desired migration from checks to the RTGS system. This exercise may also be expanded to include a simulation of the impact of the check limits on banks' multilateral net settlement positions. This will inform the extent of collateral (guarantee fund, for example) that may be required to guarantee settlement of automated clearing house files in the RTGS system. This would obviate the need for an arbitrary or excessive requirement for collateral from the respective banks.
Improve system integration: It is recommended that CBN oversee and coordinate with the Ministry of Finance and the dealers the implementation of the trading platform for secondary market transactions. Automating the interfaces between the RTGS system, the trading platform and the electronic depository will support
efficient trade initiation and the settlement of securities market transactions on a delivery versus payment basis.
Promote uptake and interoperability of card services: The CBN is working to encourage payment service providers to collaborate to increase ATM and POS ownership, improve the interoperability of ATM and POS terminals (through the implementation of the central switch as planned) and rationalize their deployment throughout the country. The aim is to achieve the widest distribution of these units to the rural unbanked and achieve greater use of banking services and an expansion of the customer base for the banking system as a whole. This process can be supported by joint promotional campaigns to encourage the use (by consumers) and acceptance (by merchants) of cards and other electronic payment instruments.
Liberalizing the market for incoming Nigerian remittances: The CBN has recently moved to liberalize the market banning the exclusivity arrangements between banks and remittance service companies thereby allowing the entry of new non-bank players. It is expected that this will generate significant benefits including reducing the cost of remittances. The use of non-bank agents as distribution points will extend geographical coverage of payout points, especially in rural areas. It will also encourage a greater proportion of the remittance flows currently moving through the informal market to switch to the formal market. This will increase the security of the transfers and enable improved data collection. Making continued progress on this agenda will require cooperation among a range of Nigerian authorities led by the CBN.
8.Developing capital markets to fund medium and long-term development
66. Suggested outcome goal: (i) Increased market activity with equity trading volume increasing to 34500 billion in 2012 from 34138.1 billion in 2007; (ii) Increase in market capitalization as percent of GDP. (iii) Increase in number of listed companies from 212 in 2008 to 220 in 2012 (iv) Increase in the average number of corporate bond issuance from 1.5 during 1999-2007 to 3 in 2012; (iv) Increased efficiency of Government bond market with an increase in the value of secondary market trading.
67. Issues: The Nigerian equity market has experienced growth due to structural changes in the financial system. In part this reflects increases in the minimum capital requirements in the banking and insurance sectors. In part as an outcome of the rapid growth in new issuances the Nigerian Stock Exchange (NSE) became one of the most over-valued exchanges in the world in early 2008. Banks and insurance companies accounted for 19 of the top 20 companies by turnover volume. To a large extent, growth in the financial sector drove much of the 75 percent appreciation in the NSE All-Share Index in 2007. This was partially fuelled by the practice of lending against share purchases by the banks. However, since March 2008, the stock market has witnessed a sharp decline with the Nigeria All Share Index losing more than 60 percent of its value. The correction (from very high PIE ratios) was triggered inter alia by foreign investor withdrawal owing to distress in international financial markets, and led to margin calls and increases in required collateral, precipitating further declines.
68. The high costs of issuance and trading curtails the interest of more companies from listing on the NSE and stifles liquidity. The number of listed companies grew only from 195 to 213 during 2002-08. The overwhelming majority of IPOs in recent years have been in the banking sector. Therefore, the key driver of growth on the NSE have been changes in regulation (that is, raising capital requirements for banks and insurance companies) which have led to public offerings in an effort to satisfy the new minimum capital requirements.
69. Although fees relating to initial public offerings (IPOs) and trading were reduced in September 2008, they are still much higher than average transaction costs in other emerging markets. Recently, the registrar has been under heavy criticism, with many market participants viewing it as a bottleneck to IPOs. The problem stems from lack of capacity in the industry to handle an increase in the number of IPOs and particularly the large number of small retail investors that now subscribe to them.
70. The governance of the NSE-the main stock exchange in Nigeria-is in need of strengthening. The NSE is currently a traditional self regulated organization, owned by its memberslbrokers. As in all such structures, there is the risk that (a) self-regulation is compromised by members and management failing to act in the public interest, and (b) management becomes entrenched. Measures to improve governance around the world have involved strengthening Government oversight, demutualizing the exchange, and separating the self-regulatory function from the trading function. Demutualizing the NSE and creating a self- regulated organization (SRO) would be appropriate to reduce conflicts of interest and improve oversight.
71. The Nigerian capital markets and their participants are regulated by a patchwork of institutions with uneven powers, competence, and status. The SEC regulates capital markets under the 1999 Investment and Securities Act (last amended in 2007). The NSE regulates its members. The National Pension Commission (PENCOM) regulates the pension industry. The National Insurance Commission (NAICOM). regulates the insurance industry. The Debt Management Office (DMO) regulates both the primary and the secondary market for Government debt. Efforts are underkay to strengthen the coordinating body for regulators of the financial services industry-the Financial Services Regulatory Coordinating Committee (FSRCC). The authorities recognize the need for stronger cooperation among regulators, particularly as the financial industry has moved to conglomerate structures. In addition, increased regulatory focus on risk-based methods of regulation and supervision is taking place.
72. There is a scarcity of skilled human resources both in the securities industry and among regulators. The creation of new regulators (which attracted scarce staff from other regulatory bodies), the establishment of the new pension fund industry (which attracted manpower from the small mutual fund industry), and more generally the drive to expamd into new products and markets by the newly consolidated banking sector has exposed the shortage of skills in the new environment.
73. Reform strategy to reach the outcome goal: A successful reform strategy for this sector would include progress on the following key issues:
Significant reduction in IPO and trading fees by SEC: The SEC, NSE, and market players reduced the fees relating to initial public offerings (IPOs) and trading in September 2008. The costs of an IPO was trimmed from roughly 4.5 percent to 3.2 percent (excluding underwriting). The costs of trading were cut from 2.5 percent to 2.0 percent (sell-side), and from 2.3 percent to 1.8 percent (buy-side). Although more still needs to be done in reducing issuance costs, given the impediments that high issuance costs are posing to the IPO market, the September 2008 reduction in costs is an important step towards enhancing the depth and liquidity in the market. The recent change in SEC regulations permitting issuance of shares through book building, eliminating the need for underwriting, is also a positive step in this direction.
Strengthen registrar infrastructure and move towards mandatory dematerialization of certificates: The SEC has taken a number of steps to strengthen the registrar infrastructure that includes: (a) issuing a deadline for complaints regarding unfinished settlements of subscriber cases; (b) forbidding registrars to be registrars for affiliated companies; (c) raising the minimum capital requirement; (d) demanding that the registrars upgrade their procedures and use modern technology; and (e) making it mandato2y for new IPOs to be fully dematerialized in the Nigerian central depository (CSCS).
Publication of rules on market makers and adoption of plan for their registration: The SEC is working on establishing capital requirements and other regulations for upcoming market maker schemes for equity trading on the NSE. In addition, the establishment of formalized borrowingllending arrangements is being considered.
Adoption of plan to transition to IFRS: For accounting and reporting, the SEC stands firmly in favor of adoption of the International Financial Reporting System rather than the adaptation of the rules. While there is discussion as to whether to adapt international financial reporting system standards, rather than fully adopting them, adoption will ensure that the accounting system for Nigerian banks and corporations moves efficiently to international standards and that these entities and the accounting profession reap the full benefits arising from international recognition of the improvements achieved by adherence to international accounting and disclosure standards.
9. Developing and expanding the Government Debt Market
74. Issues: The Nigerian Government debt market has developed at a remarkable speed since reforms started in 2003 and the main building blocks for a second phase of the reform are already in place. The primary market has developed soundly according to best international practices. This has included regular auction calendars, lengthening of the average maturity of outstanding debt, issuance of Federal Government (FGN) Bonds of standard maturities from 3 to 20 years and a primary dealerlmarket maker scheme. The challenge now, as already envisaged
24 But even new public offerings may become rematerialized fiom CSCS at the shareholders request as company law gives the shareholder a right to demand paper based certificates.
92
by the DMO, is to consolidate market benchmarks for T-Bonds proactively managing tlie outstanding debt portfolio and to increase liquidity in the secondary market.
75. The secondary market is still incipient given that most of its reforms date only from 2006, but has been growing significantly. However, most market participants point to lack of secondary market prices and low competition under the primary dealers scheme as the main problems. Success will depend on the combined efforts of the DMO, the CBN, the SEC, the CSCS and market participants. Collaborative efforts in such areas as issuance policy, development of the money market and investment in market infrastructure will all impact the level of secondary market activity.
76. The development of a diversified investor base is a key challenge in Nigeria. However, this diversification is unlikely to be achieved to its full potential until secondary market issues concerning transparency and competition are addressed. These are major concerns for the growing pension fund industry. Nigeria's settlement infrastructure has not developed at the same pace as other areas in debt markets. Shortcomings include the institutional split between the CBN for T-Bills and CSCS for T-Bonds. Currently an interagency group is working on upgrading some critical areas, such as connectivity between CBN and CSCS. A clearer definition of the institutional organization (CBN and CSCS responsibilities and governance arrangements) of the clearing and settlement infrastructure for T-Bills and T-~onds are also required.
77. Market developments have been so fast and recent that there are regulatory gaps or overlaps that need to be addressed in four areas in particular. First, the responsibilities of the different supervisors need to be defined in a context of financial intermediaries taking new roles and risks as debt market intermediaries. Second, there is a need to develop supervision of market conduct and trading systems that applies to markets in both private and Government securities, including regulations on pre- or post-trading price dissemination for OTC markets. Third, the legal framework needs to be developed for more sophisticated market activity and products, including repos, short selling and their supporting settlement infrastructure and risk management schemes. Finally, more specific regulations are needed on fixed income mutual funds, especially money market mutual funds.
78. Reform strategy to reach the outcome goal: The reform strategy to develop the Government debt market, currently being considered by Nigerian authorities includes:
DM0 to develop and adopt an action plan to enhance efficiency and liquidity in Government debt market: The DM0 intends to focus on (i) rep0 markets; (iii) secondary markets; (iv) C&S infrastructure; (v) investor base and (vi) regulatory framework for debt markets. The specific priority areas that have been identified for support are (i) liability management of transactions relating to issued government debt: buy backs and switches; (ii) revision of arrangements for primary dealers to increase competition; (iii) rep0 markets and securities lending: standardization of business rules, collateral valuation, tax and accounting standards and prudential regulations and clearing and settlement requirements; (iv) clearing and settlement infrastructure: strategic decisions and upgrades.
10. Strengthening insurance for better risk management
79. Suggested outcome goal: (i) Annual insurance premiums grow from approximately W 6 billion in 2008 to W180 billion in 2012; and (iii) Annual auto claims payout as a proportion of premium rises from 15 percent in 2007 to 40 percent in 2012.
80. Issues: At present, the Nigerian insurance industry is underdeveloped relative to comparable emerging nations. The industry has not grown in the last 35 years in inflation- adjusted terms. Consumers are relatively uneducated on the benefits of purchasing insurance products, and many informed policy holders have doubts whether their claims will in fact be paid. As a consequence, the Nigerian market place is significantly underinsured, both in absolute terms and compared to its peers--developing countries with similar GDP per capita. In order to strengthen the industry, major steps have been taken by the Ministry of Finance that include an increase in capital requirements for insurance companies to a minimum of US$ 16 million in 2007. The impact of this regulation was to halve the number of insurers to 49. However, significant work still needs to be carried out in order for the Nigerian Government to meet its objective of transforming the industry into a key international player.
81. The legislative framework governing the industry is not in line with international standards, with items which would ordinarily be covered by regulations having been "hard coded" into the Nigerian Insurance Act 2003. As a consequence, many minor changes cannot be made to the insurance legislation without the approval of Parliament. The Insurance Act 2003 does not address key issues such as risk management and anti money laundering, has vague guidelines on technical reserves calculations and, contrary to international standards, does not include risk based elements in the computation of insurance company solvency. The Decree which deals with the establishment and functions of National Insurance Commission (NAICOMFthe Insurance Regulator-is outdated as it stems from 1997, whereas IAIS principles were published in 2003.
82. NAICOM carries out offsite monitoring and on-site inspections in a routine fashion. Until February 2008, NAICOM did not practice risk based supervision, nor did it appear to fully appreciate the technical issues of policy holder reserving and solvency. However, over the past year, efforts are underway to move from the traditional compliance based approach towards risk- based supervision. Further NAICOM requires significant capacity building in the areas of law enforcement, IT upgrading and staff training to enable it to perform its expanded role in regulating the insurance industry in an effective manner.
83. Reform strategy to reach the outcome goal: Major initiatives by the Government, the Central Bank of Nigeria, the Insurance Regulator and broad membership of the Nigerian Insurance Industry aimed at developing the industry are underway including:
Restructuring of NAICOM: The Insurance Regulator has been radically restructured. More than 50 percent of the work force has been retrenched and the organization is now searching for professional recruits to expand its capacity.
Adoption of improved insurance supervision plan: NAICOM is gradually moving from compliance to risk-based supervision. A review of off-site monitoring and on- site inspections took place in November 2008. Reconmendations on suggested
improvements to existing practices were also put to NAICOM, and new manuals were produced with assistance from the Bank. This process is also driving the need to upgrade NAICOM's IT systems for which project documents are already at an advanced stage of preparation. Furthermore, a compulsory insurance awareness campaign was launched in 2008 and NAICOM is approaching stakeholders to replace fake insurance with genuine products, especially in motor and marine insurance. In addition, during 2008 there has been strong recognition on the part of all stakeholders that a "framework law/regulations/guidance notes" approach in line with international standards would need to be adopted, particularly as two countries in the WAMZ region, Ghana and The Gambia, have already done so.
Enforcement of measures to ensure legitimate claim payment: In the past, a major criticism of Nigerian insurance companies has been that they do not pay claims fairly. This matter has been addressed partially by the consolidation exercise. In addition during NovemberIDecember 2008, NAICOM embarked on a revised process of on- site inspections designed, to include new procedures to ascertain the claim payments approach of insurance companies. The recent temporary take-over of NICON, which forced it to honor claims, also served to set an important precedent in the industry.
11. Strengthening Pensions Systems to provide old-age income security and channel finance for development
84. Suggested output goal: (i) Risk-adjusted returns of PFAs rise and the diversification of PFAs' portfolios increases geographically and by asset class; (ii) Assets under management by PFAs grows; (iii) PFAs better match their portfolios to match the risk aversion and investment preferences of account holders with the variety of portfolios available to participants increasing.
85. Issues: The organizational and regulatory approach adopted by the private pension industry in Nigeria-the primary service providers (PFA and pension fund custodians) and their regulator (PENCOMCas established following major reforms initiated in 2004 lives up to international best practice. Remaining concerns relate to how the industry can be legally and institutionally protected to ensure that it maintains its observance of international standards and how the legal and regulatory framework governing the industry can be further strengthened to ensure fiscal sustainability and welfare adequacy of the pension system and its role in channeling long term funds to productive means.
86. The PFA market, as in other countries with mandatory defined contribution schemes, is highly concentrated. The hture growth of membership depends, first, on the capacity of Government agencies (tax authority, Ministry of Labor, and others) to enforce the registration of labor contracts, wage reporting, and collection of contributions, wd second, on the adoption by the states of the provisions of the 2004 Pension Reform Act. Since it is unlikely that reforms in these areas will be undertaken soon, leading to a rapid growth in membership, the PFA market looks to be saturated for the time-being and consolidation in the number of PFAs is to be expected. Mergers, acquisition, and exits would probably happen even sooner were PENCOM to adopt a regulation reducing the ceiling on asset management fees.
87. Currently, PFAs are not allowed to manage multiple portfolios, forcing all members to hold the same portfolio. PENCOM intends to maintain this provision in the future while PenCom as supervisor and the PFAs as asset managers gain capacity and pension f u d parlicipants become more financially literate. This approach is also consistent with the level of development of the securities market. The supply of domestic securities is small and there is little secondary trading and room for portfolio differentiation as yet.
88. The Pension Reforn~ Act and the relevant PENCOM regulations and guidelines on fees set the types and level of fees the pension Eund industry can charge. Asset management fees are limited to 2 percent of assets, custodians can charge fees of up to 0.6 percent of assets, while PENCOM is entitled to a regulatory fee of 0.4 percent. These fee levels, especially 2 percent for asset management, are very high compared to mature markets, but are not out of line with fee levels seen in other, newly emerging pension fund markets. However, eventually it will be desirable to bring pressure on the efficiency of the industry through a reduction of the 2 percent asset management fee.
89. PENCOM was established to formulate and oversee pension policy in Nigeria as well as to regulate and supervise the private pension industry. It is unusual to appoint a financial sector regulator to formulate and oversee pension policy. The regulatory function and the policy formulation function require different skills, expertise, modes of operation, and level of independence. Whereas policy formulation is at the heart of the Government, prudent regulation and supervision require a high level of independence from political interference. It is likely that requiring PENCOM to serve both roles will lead to undesirable compromises, as their objectives and means can easily be contradictory.
90. Reform strategy to reach the outcome goal: The reform actions to strengthen the pension sector that are currently part of Government's initiatives include:
PENCOM issues regulation on PFAs investment policies, disclosure, asset allocation and pricing: The Pension Reform Act and the previous guidelines on investments established quantitative limits for portfolio composition as a result of which the room for judgmentldiscretion by PFAs was curtailed. PFAs felt obliged to apply the exact limits to their portfolios rather than undertake investment decisions according to targeted riskheturn profiles. In addition, these investment policies and benchmarks were not disclosed in a standardized format (if at all) as a result of which new entrants could not select among PFAs according to their specific riskheturn profiles. In early 2008 PENCOM issued guidelines on PFAs investment policies, disclosure, asset allocation and pricing to address these issues.
PENCOM issues regulations on investment management: PenCom to issue investment management rules regarding: (i) separation of the assets of retirees from those of active members; (ii) setting out permissible marketing practices-including permissible incentives to members and agents; (iii) setting out limits on asset based management fees and brokerage fees applicable to pension funds; (iv) limiting direct investment in property.
0 PENCOM and other regulators sign MOU to increase cooperation: PFAs operations are closely linked with those of other financial service providers such as brokers, traders, life insurers, auditors and actuaries. As a result PENCOM's regulatory efforts may be rendered partially ineffective by activities being undertaken by these other service providers. Thus in this area it is particularly important that the regulators (PENCOM, the Securities and Exchange Commission and ,the Nigeria Stock Exchange) sign a memorandum of understanding which lays out the scope and manner of cooperation, including reporting and joint activities.
PENCOM to prepare a timetable to liberalize overseas investment based on consultations with market participants. The regulations will need to specify the types of securities and intermediaries in and through which the PFAs would be allowed to invest and the conditions which the PFAs wishing to invest abroad would need to meet. The liberalization of overseas investments should be linked to an agreed set of legal, macroeconomic, fiscal, and financial sector indicators, the achievement of which would trigger regulatory responses aimed at expanding the investment horizon of PFAs.
Overview of Public Financial Management Reforms
1. The Public Expenditure Management and Financial Accountability Review (PEMFAR) report conducted in 2006 proposes actions to promote a sound Public Financial Management Environment to address the weaknesses in Public Expenditure Management. The report noted that while advances were made in macroeconomic and debt management, budget formulation, accounting, and procurement reform less progress was made with respect to capacity building, including in the Budget Office, and in such areas of financial accountability as reporting, monitoring, and disclosure.
2. The Government is addressing these weaknesses through the implementation of wide ranging reforms including through the Economic Reform and Governance Project covering three key areas: (i) financial management and information systems; (ii) external audit; and (iii) financial reporting. The long term reform agenda is further articulated the National Strategy for Public Service Reforms: "Towards a World-Class Public Service" which aims to rebuild the public service with emphasis on critical institutional changes, installing management systems, and restoring professionalism, merit, competence, and client focus in the medium-term (by 201 1). The PFM pillar of this strategy has four key target results: (i) sustained macro-economic and fiscal stability; (ii) strategic allocation and results-based budgeting of funds; (iii) efficient management of resources, accounting and reporting; and (iv) integrity in the use of public funds.
3. The Bank is in discussions with the Ministry of Finance to assist them to conduct a Public Expenditure and Financial Accountability (PEFA) self-assessment with the objective of (i) assessing the status of the Federal PFM system, processes and institutions to establish baselines to monitor implementation of the PFM pillar of the National Public Sector Reform Strategy (NSPSR); and (ii) to track progress in PFM since the PEMFAR assessment.
4. Suggested output goal: sustained macro-economic and fiscal stability
5 . Monitoring and Evaluation (M&E) framework to monitor progress in implementation of the budget and to assess whether the expected outputs are being produced and the results realized are not yet in place.
6. Chart of Accounts: The current chart account is limited as it does not allow classification of the budget to align ministries activities with policy priorities. Key segments such as geographical location, program and projects are missing in the classification system. The classification system used by the Budget Office is not consistent with the Chart of Accounts used by the Office of the Accountant General making it difficult to directly report actuals against approved budget.
Reform strategy to reach the outcome goal
7. Development of sector strategies to implement Government's polices as the basis of formulation of the budget by costing of activities to be implemented by the various MDAs within an MTSS and MTEF. 8. Develop a multi-dimensional chart of accounts to provide a framework to align policy priorities with the budget and financial reports. The budget is expected to translate the policy intent of the Government into costed activities for implementation by the various MDAs. In order to be able to analyze and report on the budget, the classification system should be flexible enough to allow for aggregation of data as well as drill-down to the lowest level. In preparation for the implementation of GIFMIS an inter-ministerial committees is in place to expand the chart of accounts to include critical segments such as: fund, organization, program, project, objects and location. The aim is to ensure consistency between codes used for budget preparation and accounting and financial reporting. The new chart of account will be comply with the IMF-GFS 2001 manual and provide a framework for preparation of annual financial statements according to the International Public Sector Accounting Standards.
9. The Government intends to introduce program budgeting and as a first step will improve the classification of the budget by functions of Government according to strategic priorities. Program budgeting and enabling chart of accounts (as a first step to Performance-Based Budgeting) should be operational within a stable MTEF and annual budget cycle.
10. Suggested output goal: efficient management of resources, accounting and reporting.
Issues
11. Financial Reporting: Nigeria does not have a national public sector accounting standard but in 2002 the Federal and State Governments agreed to adopt a common reporting format for the preparation of final accounts. Timely and quality financial reports that are publicly available provide an opportunity to hold public officers accountable for the use of public funds. The financial reports should also meet minimum standards to be useful for making decisions on the strategic allocation of resources for service delivery. Although the financial statements have become timely, they do not adequately reflect all sources of funds. ATRRS has been deployed to all MDAs and has been used to submit transcripts to the Treasury for consolidation. However, budget figures are not. captured to produce budget performance reports. Management and reporting structure are still guided by the Finance (Control and Management) Act 1958.
12. Cash Management: The current practice of transferring cash to various MDA accounts held in commercial banks leads to a situation of idle cash balances since Government is not in a position to accurately ascertain its cash position when issuing budget releases and may resort to unnecessary borrowing. Capital budget performance25 for 2008 was 43.9 percent with instances of huge amounts returned to the Central Bank at the end of the financial year. This can be attributed to late passage of the budget and lack of timely information on the availability of cash to plan for budget execution. The Fiscal Responsibility Law requires that the Accountant General should prepare an annual cash plan one month before the start of the year and that the Minister of
25 A background paper prepared for the Budget Office of the Federation: "Budget Implementation, Monitoring and Evaluation". Prof. Mike I. Obadan (March, 2009)
Finance should publish a disbursement schedule within thirty days of enactment of the Appropriation Act but this is not currently done. The challenge is to build skills at the MDA level to prepare annual work plans from which procurement plans can be derived and tied to disbursement schedules and cash release.
Reform strategy to reach the outcome goal
13. The Bill for the amendment of the Finance (Control and Management) Act, Cap 144 LFN 1990 is with the Attorney General for review and submission to the National Assembly. The objective of this Act is to secure transparency, accountability and sound management of the revenue, assets and liabilities of Government and other public institutions. The Act aims to (a) regulate financial management; (b) ensure that all revenue, expenditure, assets and liabilities are managed efficiently and effectively and in a transparent manner; (c) ensure that officers are put in a position to be able to manage and control all available resources and be more accountable; (d) ensure the timely provision of quality information; (e) eliminate waste (including fruitless expenditure) and corruption in the use of public resources; (f) stipulate the responsibilities of persons entrusted with financial management; and (g) provide for other matters relating to financial management.
14. The Government has implemented the interim Accounting Transaction Recording and Reporting System (ATRRS). Although ATTRS has been deployed to all MDAs, the system is not linked up with the Treasury and manual vote books are still maintained. Transcripts are submitted using backup devices. A robust and well secured information management system is required to protect the credibility of financial reports for decision making. The conceptualization of the Government Integrated Financial Management Information System (GIFMIS) has been completed through a consultative process under the direction of steering committee chaired by the Accountant General and reporting to the Minister of Finance. A phased implementation approach has been adopted starting with the core foundation modules (General Ledger including bank reconciliation, Appropriation, Expenditure Payment and Reporting). The system is expected to become operational in 2010 at the Budget Office and the Accountant General's Office and will later be roll-out to MDAs and FPOs with additional modules (Purchasing, Revenue, Assets and Inventory); interfaces will be provided to existing debt management systems and revenue administration systems. The implementation of GIFMIS will transform the way Government operates financial management. The quality and timeliness of financial reports will also be improved.
15. The Government has adopted a cash management policy. Timely availability of cash is critical for successful implementation of the budget. Fiscal discipline requires keeping expenditure within the Government cash constraints. Reliable forecasting tools should be used whereby revenue projections and cash plans will inform preparation and publication of Disbursement Schedules as stipulated in the Fiscal Responsibility Act. To achieve this, the Office of the Accountant General should be in a position to undertake timely and efficient bank reconciliation to determine its overall cash position at any point in time. Fragmentation of bank accounts in commercial banks and limitations in connectivity infrastructure at the MDAs poses a serious challenge to consolidate Government's cash position. The recently developed Cash Management Policy notes that "A Treasury Single Account (TSA) shall be maintained at Central Bank of Nigeria with each MDA responsible for the management of its allocations but effecting payment through the TSA . . . up to their cash allocation ceiling".
16. Availability of funds for commitment of expenditures is becoming more predictable through cash-backing of budget releases. Meanwhile, the Government has adopted electronic
payment through the use of mandates until such time when connectivity challenges and use of an integrated inter-switch system is established. With GIFMIS the TSA will be more efficient and further solidify the E-Payment system.
17. Improved financial reporting by adopting the cash model of the International Public Sector Accounting Standard (IPSAS). Personnel from The Government Accounting Standards Advisory Board (GASAB) in the Office of the Comptroller and Auditor General of India Government will work closely with counterparts from Office of the Accountant General of the Federation, Nigerian Accounting Standards Board and Office of the Auditor General for the Federation to conduct an . The specific objective of the assessment is to develop a report for the country authorities which: (a) provides the Government and other interested stakeholders with a common well-based knowledge as to where the country stands against the internationally developed norms of public sector financial reporting; (b) assesses the consequences of the prevailing variances; (c) provides a basis for measuring interim compliance; and (d) charts paths for improved compliance with IPSAS casli basis.
18. Suggested output goal: integrity in the use of public funds.
Issues:
19. The internal audit function for now mainly focuses on pre-payment audit and post audit of transactions. The Internal Audit Units are not staffed with adequately qualified professionals and there is no clear professional career path. Independence is not assured due to insufficient funding and there is over-reliance on financial support from the Auditees (MDAs). Audit Committees are not in place to follow-up on implementation of internal audit findings and recommendations.
20. Whilst the Auditor General has made efforts to clear the backlog of audit reports up to 2006, more efforts are needed to improve on the quality of audit practices by adoption of International Standards on Auditing (ISA). Currently a volume one report is issued containing findings on transactions audits and a volume two is later issued to provide an audit opinion on receipt of the financial statements. The audit report needs to be comprehensive to cover all public funds and highlight systemic control issues that pose a fiduciary risk to public funds. The Federal Government still uses a 1956 Audit Law Which needs to be update to strengthen the independence of the Auditor General and broaden the scope of work and adopt modem audit techniques.
Reform strategy to reach the outcome goal
21. Internal audit should play an important monitoring role in evaluating the effectiveness of the control systems within the Government's operations in meeting its strategic objectives. In this regard a shift from pre-payment audit is required with a new focus of ensuring: (i) MDAs conform to the Government's strategy (NEEDSIseven-point agenda); (ii) effectiveness and efficiency of operations; (iii) reliability of financial reporting; and (iv) compliance with applicable laws and regulations. The Auditor General can place reliance on the work of the Internal Audit h c t i o n if found to be independent and operating according to acceptable standards. Establishment of Audit Committees to approve and monitor internal audit work
programs and follow up on internal audit findings and recommendations will enhance the quality of the Internal Audit function across Government.
22. Public assets register system will be installed in all MDAs to ensure that assets are properly accounted for and utilized for the purposes intended.
23. Strengthen oversight institutions such as the Office of the Auditor General, the Public Accounts Committee and the Fiscal Responsibility Council. Access to budget information and financial reports provides an opportunity for open public participation in the budget process. The work of the Legislature and the Auditor General to hold the Government accountable is further strengthened through publication of financial information. For the Auditor General's Office to perform its mandate objectively, the Office needs to be independent of the Executive. In this regard, the long outstanding Audit Bill needs to be passed to provide for the operational and financial independence of the Auditor General's Office. There is need for qualified staff and facilities for discharging its constitutional responsibilities and piloting of value for money (VFM) audits.
24. The capacity of the Public Accounts Committee especially the secretariat that is expected to provide technical advisory services needs to be built. Furthermore, a functional Fiscal Responsibility Commission will ensure strict compliance with transparency and accountability provisions
Summary recommendations for improving capital budget implementation
25. With a view to analyzing constraints to the more effective execution of the capital budget, the Budget Office of the Federation commissioned in March 2009 a study which resulted in a number of recommendation^.^^ Some of the recommendations have already been implemented, while others are still being considered by the Governrnent.
26. Restoring confidence in the Budget Formulation Process and Commitment to Implementation. For MDAs to be able to properly budget for that component of a multi-year project that can be implemented in a fiscal year, they need to be assured that projects that are admitted into the budget will be funded annually to completion. Also, it should be possible for projects whose contracts are not awarded by the third quarter to be rolled over and funded in the budget of the subsequent year. This means that projects that are not likely to be completed by year end should be identified early for roll-over to the next budget. Reassuring MDA's on this will prevent rushed and wasteful spending by MDAs at year-end to exhaust budget releases. An essential prerequisite for the more effective execution of the capital budget and avoiding overloading of the budget are realistic cost estimates for projects.
27. Early preparation and submission of the Appropriation Bill and early enactment of the Bill into an Act. This is fundamental and the present practice requires significant improvement. For this to happen there is need for a clear timetable for budget formulation and enactment. The budget process for the next fiscal year has to start early in AprilMay of the current fiscal year so
26 This study was prepared as background paper for the workshop on capital budget implementation held on March 24,2009 in Abuja
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that the Appropriation Bill can be submitted to NASS by the first day of September. By the end of the year, it should be enacted and ready for implementation from January of the new fiscal year.
28. Early Release and Cash-backing of Warrants. In light of the above recommendation and against the backdrop of the experience of 2008, it is highly desirable to have a systematic, as opposed to rushed and inefficient, implementation of the capital budget. To this end, the quarterly release of funds should be done in the first month of each quarter.
29. Effective coordination with the National Assembly. Extensive consultations with the National Assembly prior to the submission of the annual budget is essential to avoid substantial revisions to the budget that may not be fully coordinated with MDAs and stretch their implementation capacity and introduce uncertainty on budget outcomes.
30. Adhere to the MTEFIMTSS Framework to ensure budget discipline: To this end, the following measures are important.
The annual capital budget should be based on the prioritization articulated in the MTEFIMTSS. Avoid introducing new projects that are inconsistent with priorities outlined in the MTSS.
NASS should be involved in the MTSS prioritization. Other stakeholders should also be involved to make the process highly participatory and bottom-up.
31. Capacity Building for compliance with the Public Procurement Act. The Procurement Act entails procedures which help to ensure that budgets and spending are not only based on authentic, reasonable and fair costing, but are also appropriately geared to the realization of set targets and priorities reflected in the budget. What is required is for MDAs to build appropriate capacity to fully implement the Act, build adequate capacity for compliance with the procedures and commence early compliance with aspects of the processes even before the enactment of the budget.
32. Capacity for Project Implementation: To achieve this objective, it is important to consider the central deployment of technical/professional staff by the Ministry of Works to ministries that do not have the in-house capacity to prepare project documents. Furthermore, there is the need for systematic training and re-training of budget officers, procurement officers, monitoring and evaluations officers, etc, on budget implementation processes and best practices.
33. Monitoring and Evaluation of Projects: MDAs need to strengthen the monitoring and reporting on projects. This requires the setting up monitoring and evaluation units and adequately empowering them with funds, human capacity and logistics. Adequate funding of M&E could be achieved by earmarking a share of the capital budget of the MDA (0.5 - 1%) for monitoring and evaluation. Regarding the timely production of progress reports on budget implementation, the plans of the Budget Office to send monitoring templates to MDAs as basis to provide quarterly reports on capital budget implementation is an important undertaking. Finally, one way to ensure that MDAs comply with the reporting requirement is to tie release of funds for projects1procurement to reports on earlier funds released or projects executed.
