The Economics of the DANGOTE - PENGASSSAN Dispute, Why the Federal Government needs to Act Quick.

By Chinedu Okoye 

Summary:

• The Dangote debacle presents macro and micro level economics, as well as reputational risks for the country.

• This could have economic effects that ripple through the economy, first hitting the oil industry players, and then the broader local economy.

• Risks at the Micro level involve; Revenue and Cashflow Pressures, Costs and Price increases, and reduced Supply or Refined Products.

• And at the Macro level; FX Reserves and Exchange Rate Pressures; Inflationary Pressures; and increased Risk Premiums on Naira Denominated Assets.

• The government needs to act swiftly to protect economic growth and project a willingness and ability to protect investors, and via effective regulation.

Background:

The Petroleum and Natural Gas Senior Staff Association of Nigeria (PENGASSAN) has ordered a stoppage of crude and gas supply to the Dangote Petroleum Refinery in response to the recent mass dismissal of Nigerian workers, allegedly replaced by foreign nationals.

The union has directed its members nationwide to withdraw services, and to shut down the facility and associated fertilizer plants.

The refinery previously announced a halt in Naira petrol sales citing mismatches in revenue and Naira cost of crude feeds, giving unsustainable volumes under the Naira-for-crude swap, and broader feedstock constraints. As mentioned in our paper Dangote Naira Sales Suspension: Potential Effects and Suggested Policy Response. only about half of the Refinery's crude oil feed is sourced locally.

However as opined, that the government finds a way to ameliorate the situation in the paper, the Naira for Crude Technical Committee intervention has led to a reversal of the company's decision.

With one threat wealth with, another persists, which is far more disastrous – the PENGASSSAN conflict, which combines labor disputes over dismissals and union rights of workers.

The issue is of no small economic effects at the micro (household and businesses) and micro level. And we outline both to signal broad economic risks to both businesses, and policymakers.

Risks at the Microeconomic Level;

Reduced Supply or Refined Products; A partial of full short down in operations of the largest local refiner selling ~20-30 million liters of petrol to the nation, stalls production, reducing the supply of PMS, fertilizer (whose plants are 100% and 60% down for train 2 and train 1 respectively).

Costs and Price increases; This lost output raises unit costs, and may impair contracts with buyers. With reduced supply the longer the Refinery is down, the higher chances of a steep rise on fuel prices, and the reemergence of long ques and scarcity. This also bears on general prices, and industrial production.

Revenue and Cashflow Pressures: With lower overall (industrial) output and sales, the cost to businesses increases as the prices reduce.

This also affects the Refinery's cashflow, and that of both upstream and downstream oil companies. Upstream (oil and gas producers) lose a major buyer or sales volume, and downstream operators, seledm on steady supply, as shortages erodes profit margins.

The effects would trickle down to the rest of the economy, starting with service providers, from the upstream and downstream oil and gas players and local industry dependent on key Refinery products; fuel, diesel, and fertilizers.

Macroeconomic Level Effects:

FX Reserves and Exchange Rate Pressures; The shutdown of the local refiner increases Nigeria:s reliance on imported refined products, raising the import demand, with a drag on FX reserves, and this could inadvertently pressure the Naira into weaker levels.

Inflationary Pressures:
Since Enery (fue)l is a core input to almost all inputs, and with increased reliance on imported refined products, the risks of a disruption on inflation becomes apparent.

Government Revenue; also takes a bit as the refinery is a major crude purchaser, taxpayer, and royalties earner for the Federal government.

Increased Risk Premiums on Naira Denominated Assets:

This conflict exposes regulatory , labor and contractual risks in. Nigeria's energy sector, and foreign and local would-be investors may be frightened by perceived high volatility, and institutional weakness wilhich raises the risks of establishing (real) businesses in the country and a higher yield on Nigerian Government securities demanded by the market.

This potential of industrial action at large, capable of disrupting the production processes of a more or less monopolized company will weigh in negatively on broader risk assessments in the Nigerian economy.

Risks, Uncertianties and Outlook;

Rhe above is dependent on; duration, government response, energy shocks, the expediency of a legal resolution.

Duration; the longer this lasts, the more chances the Refinery runs out of PMS and other petroleum products in its reserves. Since it cannot operate the economy is forced to depend fully on imported Crude.

Government Intervention: The federal government may intervene (via labour ministry, mediation, or force) to compel resolution, with political / legal consequences.

External shocks: Global oil price movements, international demand, and currency volatility can exacerbate the effects.

Legal resolution: Courts might restrain industrial action or enforce reinstatement or compensation, influencing outcomes

ZE Remarks:

• It is imperative that the government acts swiftly to resolve the issue more only to prevent an economic fallout from an escalation, but also to quell fears of would-be investors..

• In doing so, the Federal Government would need to set-up a policy framework that seters or discourages a releettion of such occurrence in the future in any industry..

• The Swift action of the Naira for Crude Technical Committee yesterday on the re-commencement of re Naira petrol sales, leads one to expect a similar resolution to this issue.