Foreign Direct Investment in Nigeria
DBJ, Dartmouth Business Journal
Captivated by the high rates of return, investors from all over the world have now set their sights on The Federal Republic of Nigeria. As Africa’s most populous country, Nigeria also boasts the continent’s second largest oil reserves and has a very promising growth outlook. Poised to eclipse Africa’s largest economy by 2015, Nigeria is becoming a rather worthy recipient of foreign capital, receiving anywhere from $10-$12 billion per year. However, in order to take full advantage of what foreign investment has to offer, Nigeria must first improve its economic and political climate.
For Nigeria, meaningful, long-lasting economic growth and development is almost entirely contingent upon securing substantial amounts of foreign direct investment. FDI, as it is called, is crucial for the Nigerian economy, as it permits the transfer of technology and facilitates improvements in productivity. Ultimately, this can help alleviate Nigeria’s widespread poverty by increasing per capita income and elevating overall standards of living.
To be sure, Nigeria has a difficult road ahead should it want to achieve the economic growth and stability that it seeks. Nigeria’s development plan is simple in theory, yet rather difficult in practice given its poor track record. Due to its long history of economic mismanagement, corruption, incompetent leadership, political instability, and poor infrastructure, Nigeria has numerous obstacles that collectively deter foreign investment. Thus, at a fundamental level, Nigeria needs to create an environment that is conducive to foreign investment and healthy economic growth.
To do so, Nigeria must address each of these impediments to growth through extensive political and economic reform. First, there must be a dramatic and comprehensive restructuring of Nigeria’s economy. Currently, petroleum and petroleum products account for 95% of Nigeria’s exports. Such a heavy reliance on rich mineral reserves makes Nigeria highly vulnerable to volatile economic fluctuations. A fall in commodity prices can have a potentially devastating impact on the country’s terms of trade, and thus on the economic well-being of the nation.
Therefore, in order to achieve greater macroeconomic stability and diminish its vulnerability to commodity prices moving forward, Nigeria must reduce its dependence on oil and natural gas. It would be best for Nigeria to develop and promote its non-energy exports, which include manufacturing, knowledge-based services, and agriculture. At this point, manufacturing and services accounts for only one-third of Nigeria’s GDP, as compared to upwards of 80% for other, more diversified African nations. With regards to agriculture, despite only accounting for 41% of GDP, the sector employs 70% of Nigeria’s population. Overall low productivity caused by poorly managed harvests, and failed preservation techniques have forced Nigeria to import food to feed its growing population. If it improves its efficiency in non-energy sectors like agriculture, Nigeria can begin to diversify its economy by exporting cash crops like cocoa, citrus, cotton, and peanuts.
Through a greater diversification of the economy, Nigeria can also diversify the distribution of the FDI it receives. Up until now, Nigeria’s FDI inflows have been almost exclusively in the natural resources sector, specifically in the oil and natural gas industries. However, such a concentration in FDI limits technology transfer and inhibits job creation, due to the capital-intensive nature of the extraction process. Should Nigeria attract FDI in other sectors, including manufacturing, tourism, consumer products, and construction, these new FDI projects could generate greater employment and create more balanced economic growth.
Next, should Nigeria seek to develop these other segments of its economy, it must address its infrastructure problem. Infrastructure in Nigeria is largely publicly owned, and thus poorly maintained. Inadequate telecommunications, power generation and distribution networks, ports, roadways and railways all deter investors, as well as push up unit labor costs, offsetting any potential comparative advantage Nigeria has in that particular industry. For Nigeria’s manufacturing sector to be efficient, sound infrastructure is needed in order to keep transportation costs low.
A reduction in inefficiencies within Nigeria’s prized oil industry will play a pivotal role in helping Nigeria realize its potential. Despite producing an average of 2.38 million barrels per day in 2011 and holding the title of Africa’s largest crude oil exporter, Nigeria is nowhere near its productive potential. Ironically, Nigeria has to import refined fuel, due to its unproductive and inefficient oil refineries that operate at just 25% capacity. In fact, estimates suggest that Nigeria could produce approximately four million barrels per day within 10 years. To do so however, requires a more efficient use of resources and thoughtful economic management that have been largely absent up until now. Improper handling of oil discoveries in the past has led to inflation, which caused an increase in the price of manufacturing goods. By making these goods less competitive on the world markets, the oil industry has effectively crowded out other export industries, reinforcing Nigeria’s over-dependence on oil.
Recently, Nigeria has also undertaken initiatives to reduce its reliance on fossil fuels in favor of renewable energy sources. Wind, solar, and geothermal power have all been identified as potentially promising areas for growth and investment. Nigeria’s first ever wind farm, consisting of 37 wind turbines, is set to go operational in July of 2012. Financed by a Japanese agency, the project should contribute approximately 10 MW of electricity. Similarly, Nigeria has also begun an 800kW solar panel project, which is expected to supply electricity to one of the nation’s universities.
In addition to programs on the part of individual nations, African nations are now allying with the European Union to further coordinate their efforts. Designed to keep each nation focused on reaching their fullest output potential, the Africa-EU Renewable Energy Cooperation Program and the Africa-EU Energy Partnership (AEEP) have established renewable energy targets for 2020. Again, meeting these goals requires substantial amounts of investment capital, further stressing the need for political and economic reform.
An ongoing skills deficit also poses a problem for African nations like Nigeria. Nigeria is in desperate need of educational reform, to improve the value of human capital, raise productivity, and ultimately increase wages. Nigeria’s labor force is growing rapidly, but with lagging literacy rates and the lack of necessary skills, investors remain wary. To be fair, however, Nigeria, as well as other African countries, is already making progress in this regard, as productivity is growing at a rate of 3% per year in Africa, which outpaces that of America by .7%.
The nature of African markets, namely the restricted movement of capital and human resources across borders, has also posed concerns for foreign investors. Because of this, trade is quite low between African nations, since on average, 80% of African exports go to non-African countries. To mitigate this, Nigeria, as well as other African nations, has begun to liberalize its economy by reducing tariffs, import restrictions, and other trade barriers. In doing so, Nigeria promotes increased competition and boosts intra-African trade. Perhaps more importantly, though, these measures allow more nations to reap the mutual benefits from trade, and attracts greater foreign investment now that African markets are more integrated.
Continued, institutionalized economic reform programs like the National Economic Empowerment and Development Strategy (NEEDS) will be essential for Nigeria moving forward. NEEDS seeks to liberalize the economy, promote private enterprise through increased privatization and lowering corporate taxes, reduce corruption, diversify Nigerian exports, improve education, develop sound infrastructure, and ultimately reduce poverty and increase standards of living. NEEDS provides a tangible agenda that helps Nigeria stay focused on reaching its development goals.
Political reform is paramount, as political stability will be a key component in attracting foreign investment in the future. With a fragmented, multi-cultural society consisting of 250 ethnic groups, rival factions competing for power oftentimes create a politically unstable climate. Meanwhile, Radical Islamist groups like Boko Haram, which has killed hundreds in violent attacks in the past year, further discourages investors by increasing political instability and jeopardizing the return on investment.
What’s more, Nigeria is considered one of the top 40 most corrupt nations in the world, particularly in its dealings with the oil industry. The most recent fuel subsidy scandal involving Nigerian oil companies and Nigerian officials, which lasted three years and cost the country $6.8 billion, is representative of the larger, omnipresent problems of corruption, weak leadership, and economic mismanagement. Overall, through strengthening its democratic institutions, Nigeria can help tackle corruption, maintain political stability, and make good governance a priority.
It is important to recognize that increased foreign direct investment is not limited to Nigeria alone. Rather, other African nations— among them Tanzania, Ghana and Mozambique—have also experienced a recent increase in capital inflows. As a whole, the African continent is inviting more and more FDI than ever before.
FDI in Africa is predicted to reach $150 billion by 2015, compared to just $84 billion in 2010. The vastly under- realized productive potential of many of these African nations, coupled with an expected GDP growth rate of around 6% over the next couple of years, makes Africa a very attractive prospect for investment.
For example, in Mozambique, U.S. energy companies are seeking investment opportunity in its energy industry, given its recent discovery of substantial offshore reserves in the Rovuma oil field. In fact, in an effort to penetrate this lucrative East African market, American oil giant, Shell, has just offered $1.6 billion to buy African oil explorer Cove Energy, who has an 8.5% stake in the Rovuma field. Italy’s biggest oil company has a $50 billion natural gas project in place in the area as well. Tanzania is also actively encouraging foreign direct investment, with the establishment of a gas-fired power plant and power transmission lines currently in the works. Likewise, the recent discovery of two giant oil fields in Ghana has caused a surge in investment, particularly from the Chinese. Foreign investors from Brazil, Turkey, Malaysia and India are also eagerly investing in Africa, primarily in the natural resource sector, but also increasingly in the manufacturing and service sectors.
Curiously, despite these efforts and a rather promising growth outlook, Africa attracts just 5% of global FDI projects. This further emphasizes the need to address the primary factors impeding foreign investment and to improve upon the key drivers of economic growth.
As evidenced by its complexity and the dynamic nature of a globalized economy, economic prosperity is not a simple task. Instead, it is a gradual progress requiring good governance, coordination, cooperation, and patience. Although Nigeria has emerged as a capable candidate for foreign investment, and has made great strides in the right direction thus far, the process is by no means complete. Whether Nigeria—and the rest of Africa for that matter—can attract a greater share of global investment and achieve these lofty ambitions in the long run still remains to be seen.