Government Spending Will Drive Economic Growth

The Fidelity SME Forum is a weekly radio programme organized by Fidelity Bank Plc to educate, inform, advise and inspire budding entrepreneurs in Nigeria with knowledge and expertise that will enable them build sustainable and successful businesses. The interactive radio programme features subject matter experts and model entrepreneurs as guests on a weekly basis to share their insight and unique success stories. In this interview, Bismack Rewane, an economist and Chief Executive Officer of the Financial Derivatives Company, identifies fresh business opportunities for SMEs even amidst the raging economic downturn. He gives valuable insights on business outlook for this year in view of the decline in oil prices. 


Question 1:

SMEs are really concerned about the state of the economy. This week, oil prices dropped below $20. The naira in the parallel market hit N300 to $1. What are the implications here? How should SMEs prepare themselves to brace the impact of the economic downturn?


First of all, let me describe 2015 as a rough year. 2016 is going to be a tough year. Interestingly, tough is better than rough. When the going gets tough, the tough gets going. Tough situations typically bring out the best in people. Just recently, China announced that its economy grew by 6.9 percent last year, its slowest growth rate in a quarter of a century. Now, China is the world’s second largest economy and they purchase a lot of commodities. In view of this, China’s slowing economy will definitely rattle commodities traders.

The United States (US) has lifted most of its sanctions against Iran after 37 years. Now, Iran has started pumping crude oil. Yesterday, we understand the country pumped about 500,000 barrels of crude oil. Oil price is around $27 a barrel and the Naira is trading at N300 to a $1 in the parallel market. These risks can be managed. Quite frankly, SMEs are in the best position to do that because they are small and nimble. Small businesses are versatile and they can always manage and actually dimension the risks here.

The sharp fall in oil prices in the international market means that government will have to borrow funds to meet its capital expenditure obligations. This also means that government expenditure will drive growth. Government expenditure translates into consumer power and small businesses will benefit from increased government spending, reduction of uncertainties, and clear policy framework that will further drive investment inflows. In all, GDP (Gross Domestic Product) growth at the beginning of 2017 will rise to 4 percent.

So, we are going from 2.4 percent to 4 percent which is almost an 80 percent increase in the range. There are the consequences here. First and foremost, we expect an inflationary pressure. The inflation rate in December 2015 rose to 9.6 percent. We expect that to rise as high as 11 percent or 12 percent, if not 13 percent. This is because there will definitely be adjustment in the currency value. There will also be job cuts in some organizations, which is very good for the SMEs.

If the big corporations begin to lay-off workers, small businesses should be able to absorb those people. Remarkably, Nigeria, Africa’s largest economy by GDP has a very ambitious civil works programme. SMEs can actually benefit from civil construction. Governor Fashola who is the current Minister of Works, Power and Housing is committed to a very aggressive programme. This will surely translate into more jobs for the populace. As far as I am concerned, this is a year of challenges and opportunities. It is a year of the versatile and the indolent.

Question 2:

How can SMEs hedge against some of the risks we’ve heard you articulate clearly?


Clearly, there is a serious exchange rate risk in Nigeria. I do not believe that the true value of the Naira is N300 to $1. The true value of the naira is not N190 either. Somewhere in between lies the true value of the Naira. SMEs should not be tempted into buying foreign currency they don’t really need. My advice to import-dependent SMEs is to wait till February or March when the foreign exchange stabilizes.

By this time, the market would have seen an adjustment of 10 to 20 percent, around N230/N225 in the official market and not more than N240, N250 in the parallel market. But don’t forget that a 20 percent adjustment in the currency, which is 20 percent of the range and leads to about a 30 percent increase in the inflationary range, from 9 to 12 is good for the country. This is because it further translates into a 100 percent increase in GDP output.

But more importantly, output growth is economic wealth being converted to economic wellbeing of the people. Who are the people? The people are the SMEs and the individuals they employ. Nigeria has the highest level of nascent and direct entrepreneurs in the world; 49 percent of them. Those are the people that we are speaking to today. Exchange rate is important, but the SMEs’ versatility is more critical.

Question 3:

You had earlier mentioned that the Construction, Transportation and Agriculture sectors will be critical to the growth of the economy. For SMEs not currently playing in the aforementioned sectors, should they start considering other alternatives? What is your take on import-dependent SMEs who rely on raw material from outside the country for production?


For SMEs that are import-dependent, they need to develop greater efficiency in terms of purchasing from the right country. Import- dependent SMEs need to source products or raw materials from countries that are also currently facing a currency crisis. So, if you are buying things just because you couldn’t careless, that has to stop considering the prevalent economic conditions. Now, SMEs have to use Information Technology (IT) to find the most efficient source of raw materials. Look for these countries whose currencies have actually depreciated. For example, the Chinese currency has actually gone down to almost 7 to 1. The South African Rand is at 17 to 1.

If you are buying things from South Africa, when it used to be 11 Rand to 1 your imports is actually about 30 to 40 percent cheaper. If your currency adjusts by 20 percent and the currency of the country where you are importing from has adjusted by 30 percent, you are actually getting imports cheaper. So, our currency is not in isolation. At least, 55 currencies in the world this year have actually depreciated significantly. I don’t think that we should go into panic mode. We should just allow the policy makers to take their decisions and allow the Central Bank of Nigeria (CBN) to come out with a policy framework. This is because the current framework is not working.

The Central Bank is bound to do something about it. I expect that the Monetary Policy Committee (MPC) will address the issue of exchange rate flexibility and calm the nerves of Nigerians. I am highly confident that this is going to happen pretty soon.

Question 4:

Small businesses in Nigeria are struggling with critical issues. First, the receivables; a lot of other customers are owing SMEs. Secondly, purchasing power is being eroded due to rising job cuts.  Shops are getting empty and there is every temptation to increase prices to cover some of these risks. As an economist, what advice do you have for struggling SMEs on those two key issues?


One fundamental rule of economics is that you produce where your marginal cost equals your marginal revenue. Your profitability is determined not by your marginal cost but by your average cost. There are times when you absorb some of these costs to maintain market share. When the market stabilizes you don’t pass on your prices. To increase your prices at every time your cost increases is inefficient because the currency denomination does not allow you to. You cannot increase the price of a product from N10 to N11 because you may not have the N1 note and it will be so complicated to even sell.

So, you have to wait until it comes down to N15 where there are N10 and N5 notes. Therefore, you can only increase your price if your cost and the market can absorb a 50 percent increase. In times of turbulence, you maintain the status quo until things stabilize and then you begin to absorb. Usually, when things like this happen, industry will either fragment or consolidate. At this time, the tendency is for people to consolidate. In consolidation, the strong will survive and those who survive will thrive. It is important for small businesses to stay above water. They must believe that there is light at the end of the tunnel. As a business, they must strive to extract efficiencies day-to-day.

In terms of receivables, there are also some intervention funds available right now. The Central Bank, the Bank of Industry (BOI) all have intervention funds for SMEs. Some of these things are all paper policies and SMEs are not really feeling the impact of these funds. The Buhari-led government is a people orientated one. This administration is focused on infrastructure development. I strongly believe government spending will trickle down to the masses and increase purchasing power. Last year, there was a bailout for states. We expect another bailout very soon because some states are already under water. In fact, I expect two more bailouts this year.

But, you must realize that the moment you adjust the currency value, the dollars that come with it will multiply by a higher naira amount. Invariably, the States and Federal Government in nominal term will get more Naira. With the removal of subsidies, the states will spend less on subsidies and spend more on relevant developmental programmes.

All of these translate and impact directly on your customer and increase their purchasing power. Public power supply is four times cheaper than alternative power supply. So, if I have steady power supply and I increase my tariff, but I spend less on diesel and generator, that means that I have more money to buy products from the SMEs. While planning the strategy for 2016, SMEs should keep their eyes on government policy. How is it going to impact the economy, the consumers and SMEs? I think that is really important.

Question 5:

Is there any government programme aimed at supporting young entrepreneurs?


I don’t think that any of the former government programmes have been dismantled. They still exist. I think the current government is taking stock because as you are aware, there had been a lot of abuse in the past. They are taking stock of all these things and then many of these things are going to be re-instated.  I think, the SMEs are better served by actually using their own resilience to build on their own. You can access all these other initiatives and programmes.

The future of SMEs is actually not dependent on government assistance. An entrepreneur’s future depends on his or her own innovation, creativity, resourcefulness.

Question 6:

Frequent changes in government policies create uncertainties. How can this affect SMEs? What’s your advice to them?


Businessmen want to deal with risks. There are risks associated with fluctuations in exchange rate and pricing.  Businesses can actually hedge against these risks. Government must create the right environment for businesses to thrive by reducing uncertainties. We need to begin to have sanctity of contracts. These are some of the very broad governance principles that many of the stakeholders are insisting that government has to change its attitude on. You are not alone on this, I can assure you that government is also listening to this.

Question 7:

What is your take on import substitution and what are the benefits to SMEs?


In all honesty, the economic narrative of Nigeria has to change from protectionism to competitiveness. Whether you are buying anything or whether you increase the duty, if people want to buy it, they will buy it. With protection, you’re only going to make smugglers and nefarious Customs officials richer. Businesses need to produce efficiently anywhere they find themselves. For instance, if you source your goods from the most efficient market where the currencies are actually weak relative to Nigeria, you will find that no matter what happens, you will be competitive. And, if you are not competitive domestically, you cannot be competitive internationally.

Do not forget that the bulk of Nigerian businesses operate within the region of West Africa. So, regional informal trade is critical to the Nigerian economy. People will not buy your goods if the quality is not competitive. SMEs need to position their products in the price range that attracts customers.

Question 8:

A recent survey indicate that 80 percent of small businesses fail within 18 months. What are those critical drawbacks to business success?


Typically, companies that survive the first five years are more likely to remain for a life time. If in the first five years you have difficulties, carry out a diagnosis to ascertain the problem. You can call in some experts and advisers to take a critical look at the business. It is always good for an outsider to look at your company from outside in, give you some advice. The key element to corporate success is governance. Governance failure always precedes financial failure. In a typical business, it takes three to four years to break even. Many Nigerian businessmen think that from day one they will break even.

Financial discipline is a pre-condition to economic success. First and foremost, we have to lower our expectations to avoid disappointments. Secondly, look at building proper corporate governance structures and principles. Thirdly, if there are difficulties, call in experts to look at the business. These experts will look at your problems dispassionately. They will provide you with relevant advice to propel your business forward. If you have a good board and governance structure, they will look at the advice and you can deal with the situation appropriately.

Question 9:

What are the pre-steps for aspiring SMEs that want to look at the sectors you talked about earlier – transportation, public works, construction and power?


The sectors I talked about are very big sectors. Beneath this, there are a lot of things. Let me take an example, the IT space. Businesses are looking at ways of becoming more efficient. Deployment and usage of IT improves efficiency and reduces costs. So, if you can extract cost efficiencies, you can then be ready to compete on price. In the area of agriculture and food processing, people are switching their taste because imports are becoming more expensive. So, what are the local substitutes to some of those things?

In the area of education, people can no longer afford education tourism because of the FOREX crunch. You can no longer send your kids overseas for the slightest thing. So, you have to substitute. Healthcare is another very important area that offers immense opportunities for SMEs. In the medical space, there is the entire chain from diagnosis all the way down. So, from IT to agriculture, to food processing, to packaging, to even small scale manufacturing, there are lots and lots of opportunities.

More than ever, SMEs need to begin to look inward. With current capital controls of the Central Bank, people are making those substitution decisions. The devaluation of the currency is tantamount to a reduction in people’s income. When incomes reduce, you just have to make choices. So, if you currently eat butter, you buy margarine. If you eat cheese, you go for butter. If you eat bread, you go for cassava bread. So, those decisions are being made. You need to take advantage of those things. First of all, ask yourself what am I willing to give up?