FUEL SUBSIDY REMOVAL IN NIGERIA:
Alternative Options for Re-targeting
the Budgetary Gains
Samuel Chinedu OMENKA
samuel.omenka@yahoo.co.uk
+234-803-837-3456
and
Professor A. ADENIKINJU
adeolaadenikinju@yahoo.com
+234-802-344-0018
A Paper Prepared for Presentation at the 6th Nigeria Association of Energy Economics (NAEE) Annual International
Conference on Energy Resource Management in a Federal System:
Challenges, Constraints and Strategies
Sheraton Hotel, Lagos, Nigeria
April 22 – 23, 2013.
Outline
 Introduction
 The literature
 Methodology and Data
 Results and Discussions
 Conclusion
Introduction
 Higher energy prices! An important concern for policy makers
Shocks to
global
fuel
prices
High
Fiscal
Deficits
Rationale for
existing
energy
subsidy
Scheme?
Increasing
Poor
People
 Global market conditions and national fiscal
state daunts fuel subsidy policy
 Sustaining a high level of fuel subsidy: A huge
fiscal burden, despite oil wealth
Global
Carbon
Emission
 Sets back:
 poverty reduction investments
 increases social inequality
 promotes smuggling , and inefficiency in
petroleum production, processing , and
distribution
http://www.iea.org/weo/Files/ann_plans_phaseout
Introduction
continued
Year
Poverty Level
(%)
Est. Total Population
(Million)
Poverty Population
(Million)
1980
27.2
65
17.1
1985
46.3
75
34.7
1992
42.7
91.5
39.2
1996
65.6
102.3
67.1
2004
54.4
126.3
68.7
2010
69.0
163
112.47
2011*
71.5
168
120.12
Source: National Bureau of Statistics, HNLSS (2010)
*The 2011 figures are estimated
 What does theory says? Any Empirics?
(Amegashie, 2006; Lipsey and Lancaster, 1956; Hope and
Singh, 1995; Coady et al., 2006)
 Uncertainty-driven research questions: what are
the macroeconomic and household impacts of
fuel subsidy removal; which households group
benefits from the policy-shift; is a gradual
approach more rewarding than a one-shot shift?
 Policy-shift caused fiscal and
social tension due to
uncertainties
 How about the potency of
reallocation policy to mitigate
the cost of readjustment?
The Literature
Partial Equilibrium Models
(DRI, 1994; Birol et al., 1995; Hope and
Singh, 1995; IEA, 1999)
Considers only the market directly
impacted by the subsidy reform, and
estimated price, output and demand
changes in that market
CGE models
Multi-country (Larsen and Shah, 1992; Burniaux
et al., 1992; Steenblik and Coroyannakis, 1995;
OECD, 2000; Saunders and Schneider, 2000; and
Burniaux et al., 2009)
Single-country (Clarke and Edwards 1997; Jensen
and Tarr, 2002; Clement et al., 2003; Nwafor et
al., 2006; Yusuf and Ramayandi, 2008; Dartanto,
2011; Breisinger et al., 2011)
CGE models
Capable of providing useful insights into
the impacts of subsidy reform but unable
to address questions relating to intersectoral linkages as well as macro
questions relating to international
competitiveness.
Capable of capturing distributional
changes in employment, consumption
patterns and real incomes among
different income groups in economy.
Comparability of results in relation to
the size of the subsidies is very limited
in multi-region CGE models
The Literature
continued
Economic Effects
Household Effects
Burniaux et al., (1992), Larsen and Shah
(1992), Clarke and Edwards (1997), IEA
(1999), Saunders and Schneider (2000),
OECD (2000), Jensen and Tarr (2002),
Hartono and Resosudarmo (2006),
Burniaux et al., (2009), Breisinger et al.,
(2011)
Most studies find evidence that fuel
subsidy reforms have negative household
effects: Freund and Wallich (2000) for
Poland; Clements et al., (2003) for
Indonesia; Coady et al., (2006) for Mali
and Ghana. Other include Oktaviani et al.,
(2005), Yusuf and Ramayandi (2008)
Economic effects (usually measured in
terms of changes in GDP) from subsidy
reform are positive at an aggregate level
due to enhanced price incentives that
leads to better resource allocation. Some
studies report net increases in GDP or
real income by the end of the model run,
while some others report (per annum
increases in GDP or income over the
course of the simulation period.
Re-targeting of Budgetary Surplus
Targeting option matters!
Targeted direct transfer of saved money increases poorest households
welfare in rural areas more than urban areas (Jensen and Tarr, 2002; Coady
et al., 2006; Hartono and Resosudarmo, 2006)
Impact of the transfer depends on service delivery (Breisinger et al., 2011)
Direct transfers plus investment in infrastructure or human capital
(Dantarto, 2011)
Use savings to finance government deficit or reduce the rate of indirect tax
(Yusuf and Ramayandi, 2008)
Methodology and Data
 Theoretical structure
• based on the neoclassical theory of general equilibrium – Leon Walras (Arrow
and Debreu, 1954, and McKenzie, 1959; 1981) +
Nwafor, 2007)
structuralist features
(Dorosh, 1996,
• The standard model: a recursive dynamic CGE model (Decaluwe et al., 2010)
 The SAM
• Nigeria’s 2006 SAM (Nwafor et al., 2010):11 sectors, 3 factors, 3 tax
accounts, 4 household categories, a firm, government, S-I, and ROW
accounts. Innovation!
Methodology and Data
Households Rural Poor
Labour
Capital
Land
Transfers from ROW
continued
Households Rural Non-poor
Labour
Capital
Land
Transfers from ROW
4%
1%
15%
18%
35%
Govt
Transfers
Land 1%
14%
47%
77%
3%
Households Urban Non-poor
Households Urban Poor
Labour
Capital
Govt Transfers
Transfers from ROW
1% 3%
Capital
17%
Labour
Capital
Govt Transfers
Transfers from ROW
2%
9%
12%
34%
55%
84%
% Share of income for each household category
Transfers
from ROW
9%
Labour
59%
Methodology and Data
continued
Consumption Share by Household Category
60.00
50.00
Percentage
40.00
30.00
20.00
10.00
0.00
H-R-P
H-R-NP
H-U-P
H-U-NP
food
50.47
20.91
29.95
9.28
ocrop
26.95
27.01
21.63
20.81
live
0.07
0.09
0.08
0.08
otheragr
4.11
5.28
4.75
4.57
man
12.73
31.73
26.78
29.02
roil
0.54
0.70
0.89
1.37
transp
0.77
2.14
1.94
4.26
ser
4.36
12.14
13.99
30.61
Methodology and Data
continued
 Eight blocks: Production, Income and Savings, Demand, Producers supplies of product and






International trade, Prices, Equilibrium, Gross domestic product, and Dynamic equations
blocks
Production: Multi-level cascading specification: CI + VA --- Leontief production function;
VA: labour and composite capital --- CES; MPL and MPK = their price; land is fixed
throughout; capital is fixed in the first year; labour is free to migrate across sectors
Income and Savings: Households (4), assumed to have Stone-Geary type of preferences,
earn income from L, K, and TR. Savings is linear function of income; Govt revenue is
made up of direct and indirect taxes, as well as transfer income from ROW
Demand: Specified as Stone Geary LES (offers some degree of flexilibility w.r.t
substitution possilibilities )
International Trade: ROW and domestic economy relationship based on Armington
assumption of imperfect substitution (minor exception – refined oil); producer decides
how much to export and sell domestically based on CET function
Dynamics: between-period relationship driven by population growth and capital
accumulation.
Nigeria and the Small Country Hypothesis + Departure from the pure hypothesis
(PE.FOB)
Methodology and Data
 Model Closure
 neoclassical closure : labour
continued
 Numeraire: nominal exchange rate
(exogenous, thus)
 C.A Bal: Current account is held fixed while
foreign savings is allowed to adjust
endogenously to ensure external balance
 Government Bal: G.E is fixed in real terms as
well as all tax rates. Its budget adjusts to ensure
P.E equal R.
 S-I closure: savings-driven (savings rates of
domestic institutions are fixed so investment
passively adjusts to ensure equilibrium
supply is held fixed and
assumed to be mobile across
sectors
 wage is allowed to adjust to
clear the market.
 capital is also kept fixed but
immobile only in the first
period
 Simulation Scenario
 return
to capital is
 SIM1com
determined endogenously in
 SIM2grad
the model to clear the
 SIM1gov
market for capital supply
 SIM2ind
Results and Discussions macroeconomic effects
 Increase in several
% Change from Base year value
30.00
25.00
20.00
15.00
10.00
5.00
0.00
SIM1com
SIM2grad
GDP
YG
SG
IT
0.88
0.62
1.31
0.98
14.95
11.90
27.94
22.06
AGGE
X
1.42
1.03
AGGI
M
0.99
0.73
AGGY
H
0.65
0.44
INFL
0.58
0.45
macroeconomic aggregates
 Less pronounced with a
gradual removal of fuel
subsidy
 Interestingly, one-shot
subsidy removal makes
more macroeconomic
sense!
Results and Discussions
 Increase in aggregate output
 Total Aggregate Output
3.00
2.15
2.00
1.00
0.00
-1.00
0.44
FOOD
1.62
1.20
except transport output
 DP rises? VA rises but DIT falls
 Changes in relative prices of
factors
 Declines more in SIM1com
0.92
0.31
MAN
Sectoral Effects
TRANS
SER
-2.00
-3.00
-3.26
-4.00
 Price of local product (Domestic Market)
-3.92
SIM1com
SIM2grad
 Price of basic domestic
commodities increase
 Food price declined
4.00
3.50
3.00
2.50
2.00
1.50
1.00
0.50
0.00
-0.50
3.67
2.99
1.54
0.86
-0.05 -0.06
FOOD
0.66
MAN
SIM1com
TRANS
SIM2grad
SER
1.20
Results and Discussions
Sectoral Effects
 Labour Demand Effect
 Labour is affected more in
sector that depend more on
petroleum products as
intermediate input
 Changes in relative prices
of factors
4.00
2.06 1.62
2.00
0.00
-2.00
-0.61
FOOD-0.43
MAN
2.00
SIM1com
2.25
1.47
2.11
1.63
1.53
1.50
0.81
1.00
0.61
0.50
0.00
FOOD
MAN
SIM1com
TRANS
SIM2grad
SER
-5.64
-6.81
-8.00
 Demand for capital
2.07
TRANS
-4.00
-6.00
2.50
1.02 0.80
SER
SIM2grad
 General increase in
demand of capital
Results and Discussions
 The worst hit: Poor
 Households income effect
0.60
households (esp. HRP)
 HUNP least affected
 One-shot approach to the
policy shift appears favourable
 Result is plausible given fall is
income sources returns
0.76
0.80
0.63
0.51
0.32
0.40
0.56
0.42
0.54
0.36
0.20
0.00
HRP
HRNP
SIM1com
Household Effects
HUP
HUNP
SIM2grad
 One-shot approach to the
policy shift appears favourable
 It is distributionally
progressive
 Rural households benefits
more from the reform
 Households consumption effect
0.30
0.30
0.16 0.15
0.20
0.04 0.03
0.10
0.00
-0.10
HRP
HRNP
-0.20
-0.30
SIM1com
HUP
HUNP
-0.05
-0.17
-0.21
SIM2grad
% Change from Base year value
Results and Discussions
20.00
18.00
16.00
14.00
12.00
10.00
8.00
6.00
4.00
2.00
0.00
Macroeconomic Effects
 Increase in several
GDP
YG
SG
IT
SIM1gov 0.67
SIM2ind 1.06
0.89
1.25
8.23
9.45
15.96
18.94
SIM1com
SIM2grad
GDP
0.88
0.62
YG
1.31
0.98
AGG
EX
0.51
0.81
SG
14.95
11.90
AGGI
M
0.45
0.59
AGG
YH
0.58
0.94
IT
27.94
22.06
INFL
0.75
0.71
macroeconomic
aggregates
 However, increasing
investment is specific
sectors generates more
growth
 SG; IT; AGGYH
AGGEX AGGIM AGGYH INFL
1.42
0.99
0.65
0.58
1.03
0.73
0.44
0.45
Results and Discussions
 Total Aggregate Output
4.00
2.00
0.00
SIM1com
3.75
0.15 0.20
FOOD
MAN
2.15
TRANS
-3.92
SER
1.20
0.82 1.16
0.84
MAN
FOOD
0.44
Sectoral Effects
TRANS
SER
-2.00
 Price of local product (Domestic Market)
-4.00
SIM1gov
-3.81-3.70
SIM2ind
5.00
4.01 4.05
4.00
3.00
1.65 1.89
2.00
1.00
0.00
FOOD
SIM1com -0.05
MAN
0.86
TRANS
3.67
SER
1.54
-1.00
0.24 0.42
FOOD
0.86
MAN
-0.63
SIM1gov
TRANS
SIM2ind
SER
Results and Discussions
 Labour Market Effects
2.00
0.00
-2.00
FOOD
SIM1com -0.61
MAN
2.06
TRANS
-6.81
SER
1.02
0.75 1.07
0.59
-0.47 -0.68
FOOD
MAN
Sectoral Effects
TRANS
SER
-2.18
-4.00
-6.00
 Demand for capital
-6.21-6.23
-8.00
SIM1gov
FOOD
SIM1com 2.07
SIM2ind
MAN
2.25
TRANS
0.81
SER
2.11
12.00
10.00
8.00
6.00
4.00
2.00
0.00
11.27
1.101.56
1.14
FOOD
MAN
TRANS
SIM1gov
SIM2ind
0.080.42
1.181.60
SER
Results and Discussions
 Household Income Effects
0.90
1.00
0.80
0.60
0.94
0.56
0.54
0.96
0.90
SIM1com
HRP
0.51
Household Effects
HRNP
0.63
HUP
0.56
HUNP
0.76
0.64
0.54
0.40
0.20
0.00
 Household Consumption Effect
HRP
HRNP
SIM1gov
HUP
HUNP
0.39
0.40
SIM2ind
0.20
0.00
-0.20
0.40
0.26
0.07
HRP
HRNP
-0.08
HUP
-0.15
-0.40
SIM1com
HRP
0.30
HRNP
0.15
HUP
0.03
HUNP
-0.17
HUNP-0.03
-0.42
-0.60
SIM1gov
SIM2ind
Conclusion
 This paper analyzed the general equilibrium






effects of petroleum subsidy removal using a
recursive-dynamic CGE framework.
Increase in several macroeconomic
aggregates; however, increasing government
expenditure reduces the macroeconomic gain
Growth-effects are more when gains are
invested in agriculture and manufacturing
sector
Interplay in sectoral activities also determine
household effects
Increases in households income (NP benefits
more)
Rural households gain more in terms of
consumption
One-shot approach to the policy shift appears
favourable
 CAVEATS!!!
 The political economy
perspective
 Shocks to international
price of oil not considered
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