VII. The Petroleum Products Market85
197. The downstream petroleum sector in Nigeria—the industry providing processed petroleum products to Nigerian consumers and businesses—has long been dominated by the government as represented by the Nigerian National Petroleum Company (NNPC) with its refineries, pipelines, and depots. Notwithstanding, the retail end of the industry—the filling stations and delivery to businesses by road tanker—is almost exclusively in the hands of a number of private companies that buy products from the NNPC’s wholesale depots. The sector has until recently been tightly regulated, with a de facto import monopoly for the NNPC, fixed retail margins, and administered retail prices. At end-September 2003, the government announced that retailers were henceforth free to set prices. Liberalization however, was not complete, as discussed below.
198. This paper describes the main aspects of the downstream petroleum sector in Nigeria, including the economic effects of price fixing in the recent past, and the policies needed for the sector’s revival under a liberalized regime. The second part gives an overview of the structure of the industry, starting with the existing infrastructure. The third part analyzes the economic effects of price fixing by the government prior to September 2003. The fourth part calculates implicit subsidies to NNPC and to Nigerian consumers, and presents a downstream balance sheet for the NNPC. The fifth part discusses policy recommendations to move the liberalization of the sector forward.
B. Industry Structure
199. The import, distribution, and storage infrastructure is dominated by the Pipelines and Product Marketing Company (PPMC), which is a subsidiary of the NNPC. Most of the infrastructure investments began late in the 1970s, spurred on by Nigeria’s growing oil production capacity and oil revenue after the oil price hikes in 1973 and 1979.
The import infrastructure
200. Nigeria has five jetties for imports, the Agapa and the Atlas Cove terminals near Lagos, Escravos in the Western Delta, Okirika near Port Harcourt, and Calabar near the border with Cameroon. The two main import terminals are Atlas Cove and Port Harcourt close to the Port Harcourt refinery. These are deep sea ports.
201. Nigeria has four refineries, two in Port Harcourt (Rivers State), one in Warri (Delta State), and one in Kaduna with a total nominal refining capacity of 440 thousand barrels per day (kbd). The four refineries are characterized as follows:
the oldest unit in Port Harcourt is decrepit and not producing, although it has a nominal capacity of 60 kbd;
a new refinery was commissioned in Port Harcourt in 1989 with a processing capacity of 145 kbd of crude oil per day;
the Warri Refinery was commissioned in 1978 and upgraded to a capacity of 125 kbd in 1987;
the Kaduna Refinery was commissioned in 1980 and expanded to 110 kbd of processing capacity in 1986; crude oil to the refinery is delivered through a 700 km pipeline from the Escravos Terminal in Delta State.
202. The refineries have never been operating at their nominal capacities. In recent years, capacity utilization has been at 30-40 percent. This performance gap is only partly explained by the deterioration of equipment of the old Port Harcourt refinery, supply disruptions at the Kaduna refinery (vandalization of the pipeline), and social unrest in the area around the Warri refinery. More importantly, however, under the pricing regime prevailing before September 2003, there was a clear incentive to export rather than refine crude oil in order to finance NNPC’s losses in downstream petroleum distribution (see below).
The pipeline network
203. Apart from the crude oil pipeline that feeds the Kaduna refinery, Nigeria is criss-crossed by more than 4000 km of petroleum product pipelines, which deliver products to strategic storage depots in the regions. About 20 pumping and booster stations keep petroleum products flowing through the pipelines. The current configuration dates back to the early 1990s, when the last phase of the Pipelines and Depot Project worth $600 million was completed. Despite this investment, many pipelines and other pieces of equipment are run down. The functioning of the system is further hampered by vandalization and theft.
The wholesale storage depots
204. Following the refining process, petroleum products are first deposited in large storage depots at the refineries. From there, they are shipped through the pipelines to 15 storage depots strategically located in the various regions. A large percentage of the storage depots are old and leaking, which results not only in financial losses, but also in significant groundwater pollution.
The retail stations
205. The retail end of the petroleum product market was 100 percent private, until the NNPC opened filling stations in Abuja and Lagos in 2001–02. Seven major marketers dominate the sector with a combined share of more than 60 percent, led by Total with about 16 percent market share. Other international oil companies (IOCs) include ExxonMobil, ChevronTexaco, and Agip. A large number of small, independent marketers satisfy nearly 40 percent of demand (see Table VII-1).
(in percent of total)
206. Transportation of products between strategic storage depots and filling stations is provided by a fleet of road tankers owned primarily by the major marketers. Due to the low margins that have prevailed over the recent past, the retail sector has suffered from insufficient investment in maintenance and new equipment. Storage tanks, road tankers, and filling stations have deteriorated precipitously. Pumps at filling stations are often out of order, storage tanks are leak, and road tankers are accidentprone and break down often. Petrol queues occur frequently, not only because of shortages in product availability, but also because of the insufficiency and slow operation of petrol pumps.
C. Economic Effects of Government Involvement in Pricing
207. The government was involved in the downstream petroleum sector not only through ownership of infrastructure, but also through regulation of wholesale and retail prices. Liberalization at end-September 2003 ended the retail price regulation, and marketers started setting prices to cover their operating costs. Until September 2003, the government through its Petroleum Product Pricing and Marketing Committee (PPPMC) set wholesale and retail prices for petroleum products, and also fixed the margin for the private retailers. The rationale for price fixing was that Nigerian consumers should have access to cheap fuel at a uniform price across the country.
208. In recent years, the price set by the government did not cover refining, import, and distribution costs. The NNPC became therefore the only wholesale supplier of petroleum products, both through refining and imports. The goal of supplying cheap petroleum products to the country was also not achieved: demand was not met, large quantities of subsidized Nigerian products were smuggled to neighboring countries and outside of Lagos and Abuja, petroleum products were for the most part only available in the informal market at higher prices.
209. To cover the difference between NNPC’s costs of supplying petroleum products and wholesale prices it could charge when selling them, the government allocated to it crude oil below the export parity price. The domestic allocation crude was in part exported, while the remainder was refined domestically. Exports of crude financed imports of petroleum products. The NNPC made a trading profit by exporting rather than refining, because of the domestic allocation price advantage. The trading profit served to cover losses in refining and wholesale distribution.
210. The domestic petroleum market regulation led to two distortions, namely (i) implicit subsidies on domestic retail prices for petroleum products, defined as the difference between market prices and administered prices, and (ii) implicit subsidies to cover NNPC’s operating losses in the form of foregone government revenue from the domestic allocation of crude oil.
Official and competitive retail prices
Pricing regime before June 20, 2003
211. Official retail prices were set about once a year between 2000 and mid-2003, increasing from N16 to N26 per liter during this period. The price the NNPC had to pay for the domestically allocated crude was raised from $9.50 to $18 per barrel in 2002, and at the same time the quantity increased from 300 kbd to 450 kbd to partly compensate for the increase in price. NNPC paid for domestic crude in naira, and the applicable naira/dollar exchange rate was fixed at the same time as the U.S. dollar price for the crude.
Unit Costs in the pre-liberalization period
212. To estimate the extent of subsidies prior to the changes in June and September 2003, we use here data contained in the NNPC’s audited accounts for 2002 and world oil price data. As shown in Table VII-2, domestic crude cost, refining, depreciation, distribution and marketing add up to a cost of N22.8 per liter.
|2000 1/||2001 1/||2002 1/||2003 2/||2004|
|(in naira per liter)|
|Domestic crude allocation||5.6||6.0||12.1||15.1||29.0|
|Depreciation of property, plant and equipment||1.1||0.9||1.2||0.7||1.3|
|Wholesale marketing and distribution||1.4||1.9||1.8||2.0||2.2|
|CIF import price||31.3||21.5||24.1||23.5||29.2|
|Amortisation of TAM costs (N/l)||1.0||1.1||1.3||1.4||1.5|
|Retailer distribution and tax margin||5.2||5.7||6.0||8.4||8.4|
|Costs of domestic petroleum products at retail||15.5||16.0||22.8||27.8||42.7|
|Costs of imported petroleum products at retail||38.8||30.3||33.1||35.3||41.3|
213. Imported petroleum products are estimated to have cost N33.1 per liter. Using data on consumption of domestic and imported products, the weighted average for domestic and imported fuel is determined as N26.2 per liter, which is a little above the official retail price for 2002, so the official retail price came close to covering NNPC’s costs. It was, however, not a market price, as the NNPC was paying less than the market price for crude oil. Removing the cost advantage the NNPC received through the domestic allocation of crude oil would have increased to N30.9 the costs for the average liter of fuel sold in Nigeria.
214. Note that the audited accounts for 2002 show that domestically refined petroleum products cost about N3.2 per liter less than imported products.86 This is a surprising result given that the Nigerian refineries are run down and capacity utilization is far below the optimum. It is unlikely that domestically refined products would be significantly cheaper than imported products, despite the costs of shipping included in the price for imported products.87 The accounts most likely understate the true costs of operation, for example by not taking full account of equipment replacement costs. The cost differential between domestically refined products and imports is almost three times the depreciation allowance of N1.2 per liter shown in the accounts. To calculate retail subsidies, the import parity price has therefore been used, rather than the average of import and domestic price.
Pricing in 2003
215. On June 20, 2003 the government announced an increase in domestic retail prices for petroleum products from N26 to N40 per liter to cover all costs. The announcement was followed by labor unrest and the new price had to be reduced to N34 per liter. At the end of September 2003, the government announced the end of official retail price fixing, and most retailers increased their prices to at least N40 per liter. For the year as a whole, this meant the average retail price was about N31.5 per liter, compared with an import parity price of N35.3 per liter. Subsidies remained therefore significant during 2003.
216. With more unrest following the announcement of price liberalization, and under the threat of a general strike, the government held consultations with unions and downstream oil companies. What emerged was a consultative price fixing of retail prices on a regional basis. Meetings are held weekly to agree on a band of prices that filling stations can charge consumers. The Department of Petroleum Resources (DPR) controls adherence to the agreements and sanctions contravening filling stations with temporary closure. This system is in place in Abuja and Lagos, although in other parts of the country prices are more market-determined.88
217. Import parity prices at end-2003 remained somewhat higher than the N40 per liter retail prices observed after the liberalization in September 2003. Figure VII-1 compares c.i.f. prices, import parity prices, and official retail prices for gasoline in Nigeria on a monthly basis between June 2002 and December 2003.
Figure VII-1.Nigeria - Official and Import Parity Gasoline Prices, June 2002-Dec 2003
Implicit subsidies for retail prices
218. The breakdown of import prices and costs can be used to calculate subsidies on domestic petroleum products. At about 220 kbd domestic consumption, which is equivalent to 35 million liters, domestic petroleum subsidies as measured by the difference between official prices and import parity costs amounted to N117 billion (US$1billion), or 2.1 percent of GDP in 2002 (see Table II-3). Despite the price increases, subsidies are estimated at 1.6 percent of GDP for 2003. Without the price increases, subsidies would have amounted to 2.7 percent of GDP in 2003. Assuming that retail prices are allowed to adjust fully to import parity costs, subsidies would be eliminated in 2004.
|Retail price; domestic allocation price||N16/l;|
|(in billions of Naira; unless otherwise indicated)|
|Domestic products (at official prices)||199.8||309.1||303.1||687.1|
|Domestic products (at import parity cost prici||408.8||426.2||426.5||687.1|
|Domestic petroleum subsidies||209.0||117.1||123.4||0.0|
|Domestic subsidies (in percent of GDP)||3.9||2.1||1.6||0.0|
Foregone government revenue from the domestic allocation of crude
219. Revenue foregone by the government through NNPC’s preferential price for the domestic allocation of crude amounted to 3.2 percent of GDP in 2002.89 In 2003, the crude subsidy is still estimated at 2.9 percent of GDP, because of a widening gap during the first half of the year between the official price charged, and international prices for crude (see Table VII-4). Assuming that NNPC pays market prices for the domestic allocation in 2004, the domestic allocation advantage would be eliminated.
|Retail price; domestic allocation price||N16/l;|
|(in billions of Naira; unless otherwise indicated)|
|Domestic crude (official prices)||135.2||315.1||377.6||745.7|
|Domestic crude (export equivalent prices)||376.8||497.6||598.1||745.7|
|Foregone government revenue||241.5||182.6||220.5||0.0|
|Foregone revenue (in percent of GDP)||4.5||3.2||2.9||0.0|
|Excess of crude subsidy over retail subsidy||32.5||65.5||97.1||0.0|
D. NNPC Cash Flow
220. Because the NNPC exported part of the domestic crude allocation it acquired at a low price to subsidize petroleum products at the retail level, the NNPC made a profit in the downstream sector. As shown in Table VII-4, the domestic allocation subsidy exceeded the retail subsidy by a substantial margin. Domestic sales of petroleum products and exports of about half of the domestic allocation provided revenue of N 580 billion ($4.8 billion) in 2002, while imports of petroleum products, domestic distribution, payments to the government for the domestic crude allocation, and refining costs amounted to about N510 billion ($4.2 billion; see Table VII-5). The NNPC incurred losses on other business (mainly petrochemicals), resulting in an overall profit of N41 billion ($330 million). In 2003, the price reforms left the NNPC with a profit estimated at about N60 billion ($450 million). In 2004, both the retail prices and the domestic crude price are assumed to be marketdetermined. Nevertheless, from the 2001–02 accounts it can be expected that the company loses money in other activities. The company is therefore expected to incur overall losses in 2004. With market pricing of the domestic allocation, a change in price and/or quantity has no net effect on the government, as opposed to a change in the domestic retail price: higher retail prices mean lower NNPC losses, although there is of course a potentially long time lag between NNPC losses and actual costs accruing in the government budget.
|(in billions of naira)|
|Petroleum product sales 1/||223.2||329.4||318.5||720.4|
|Crude exports 2/||154.5||259.6||430.1||372.9|
|Domestic crude allocation||135.2||315.1||377.6||745.7|
|Wholesale distribution costs 3/||24.4||26.1||24.9||31.5|
|CIF import costs||142.2||146.2||226.6||287.6|
|Profit before taxes||19.7||40.8||59.7||−49.4|
E. Future of the Industry
221. The authorities have formulated an ambitious strategy to privatize the downstream petroleum sector. This includes the sale of the refineries, pipelines, and storage depots to strategic investors, and the opening of the sector to private investors in pipelines and other infrastructure. In terms of institutional changes, this includes:
the freeing of crude prices; refineries pay the equivalent of world prices for crude since October 2003; in the future, they will be able to choose which crude to process, including imported crude;
establishment of an independent regulatory commission for the sector to assure private investors of competition on a level playing field;
a regulated open access pipeline and storage depot system;
222. The current market structure is dominated by the NNPC infrastructure. Private marketers depend on NNPC pipelines and storage facilities. Furthermore, competitive markets will develop only in major cities, where a number of retailers compete for market share. In rural areas, in particular in the North, regional monopolies would eventually erode any gains from privatization. Government regulation of infrastructure and markets will therefore have to continue for the foreseeable time.
223. In the transitional period, the main challenge is to attract private investors to the refineries, and private importers to the products market. Investors in refining are unlikely to come forward before the final regulatory regime for the sector has been specified. The authorities are working on an action plan to open transportation and storage installations to the oil marketers on a user fee basis prior to privatization of the infrastructure.
224. Even after the establishment of a regulatory regime for a private petroleum products market it will be difficult to sell the domestic refineries. Nigerian refineries may not be attractive to private investors. After years of lack of funds, they probably need substantial upgrading, and recent experience with labor unrest may make workforce downsizing a difficult prospect.90
225. Nigerians have long suffered from shortages of petroleum products. Businesses have identified the shortages as a major cost element impacting negatively on Nigeria’s competitive position. The bold reform measures taken in the last quarter of 2003 have eliminated the considerable drain of the previous pricing regime on the government budget. Further action is needed to bring the benefits of reform to Nigerian consumers. Moving to the next phase will require:
clearly defining the pricing regulation to be in place over the short- and medium term;
designating an independent regulatory agency for pipelines and storage depots, that can also act as competition watchdog;
finalizing infrastructure access regulation and setting transportation tariffs.
226. If private investors cannot be attracted to the refineries, there will undoubtedly be calls for protective measures to subsidize domestic refiners. The government should resist such calls, as protection would only reintroduce the inefficiencies of price distortions that the government wanted to eliminate with the liberalization measures taken in 2003.
World Bank, 2001, Nigeria–Downstream Petroleum Sector Review, Washington, DC.
Bureau of Public Enterprises, 2004, Status Report on the Privatization Programme in Nigeria, Status Report Submitted to IMF, February, Abuja, Nigeria.
Nigeria National Petroleum Company, several years, Annual ReportAbuja, Nigeria.
Prepared by Ulrich Bartsch.
At the wholesale level, imported petroleum cost N27.1 per liter, as compared with N23.9 per liter for domestically refined products.
Refining is capital-intensive, and most capital goods are imported. Nigeria’s low labor costs would therefore give only a small competitive advantage to domestic refiners.
A court injunction in favor of a complaint by trade unions against the imposition of a fuel tax in January 2004 was interpreted initially as fixing fuel prices until formal proceedings could be heard. In May 2004 however, the authorities reviewed the injunction and came to the conclusion that it only stayed the imposition of the fuel tax. While prices were stable between January and May, they have now increased to more than N50 per liter.
Based on the official purchase price of $18, minus the exchange rate advantage of $1.80, and dated Brent crude price of $25.
During 2003, substantial amounts were spent to upgrade the refineries, in part through management contracts. These efforts, however, appear to have had little impact on the refineries performance.