Transitioning to a New Urban-Based Model of Economic Growth

Nigeria’s economy is at a crossroads. For decades, it has relied mainly on oil extraction to drive growth and revenue. Outside oil and gas, tradable sectors have not been developed, leading to weak structural transformation and limited employment opportunities. Consumption-based cities have arisen because of oil wealth, but these have not increased economic productivity or urban employment, or reduced poverty, as they have in many other parts of the developing world. Now, as declining oil prices reveal the economic weaknesses of the country, pressure for a new economic model is growing. Urbanization, which to date has followed wealth creation, can instead, if reformed, help drive economic growth and poverty reduction.

From 1980 to 2010, oil revenues contributed over three-quarters of the federal government’s revenues, nearly 97 percent of total exports, and 35 percent of gross domestic product (GDP). But the growth they have created is not sustainable. Oil revenue per capita has grown more than tenfold since the mid-1970s, but GDP per capita only returned to the levels of that decade by 2008 (in real purchasing power parity). Although oil has created some positive spillovers in high-end services and finance, high oil revenues have also led to an overvalued exchange rate that makes other exports uncompetitive, lowering incentives, and the ability to invest in non-oil sectors, including manufacturing and agriculture. Tradable sectors, apart from natural resources, have not been developed. In particular, manufacturing development has resembled that in resource-dependent economies more than in most developing countries (figure O.1). Even in today’s slightly more diversified economy, growth has been most rapid in nontradable services sectors, including real estate, financial intermediation, and information and communication technology (ICT).

The dependence on oil has in turn led to underdevelopment of other revenue sources and prevented improvements in governance. For 2012 the share of oil revenue in the national budget was 75 percent, and state governments received over 63 percent of their revenue from oil. Reliance on oil-based fiscal transfers to subnational governments provides few incentives to boost collections of local revenue and weakens urban planning and financing. Moreover, research on the “resource curse” demonstrates that developing countries with “Dutch disease” generally perform worse on the rule of law and good governance. Nigeria is no exception, ranking extremely low on both, as well as on corruption indicators; Transparency International had ranked the country 136th place in their Corruption Perceptions Index 2014.

Oil dependence has also left the economy highly vulnerable to the drop in crude oil prices. The tax share of revenue averaged 30 percent over 2003-12, far below the 80 percent average in other countries at Nigeria’s level of development. The country’s fiscal buffers – the Excess Crude Account and Sovereign Wealth Fund – are meant to finance countercyclical spending, but have been largely decimated in the past two years, mainly due to the decline in international oil prices.

The recent decline in oil prices has had considerably detrimental impact on Nigeria’s economy, as did the previous episodes. Most notably, from the 1970s onward, oil revenues were used to develop urban and transportation infrastructure and to promote industrialization, which in turn fueled urbanization. But during the structural adjustment in the 1980s and 1990s, Nigerian cities simultaneously went through a phase of urban expansion alongside a decline in their physical condition: while they grew and absorbed newcomers, they often lacked the resources for appropriate infrastructure and services. This was closely linked to the collapse of oil prices, which meant that available resources for housing, water supply, security, and waste management in urban settings was undersupplied.

The triple impact – of a long-term drop in oil prices, low levels of nonoil-based internally generated revenues (IGR), and a growing infrastructure deficit – now pose an increasingly urgent investment challenge.

Oil dependence and poor governance have also left cities with limited job creation and access to basic services. Ideally, urban economies should help enhance productivity through economies of scale, agglomeration effects, and specialization. But oil dependence has decreased the competitiveness of the tradable sectors, particularly manufacturing, that usually tend to unleash these new sources of productivity. And at the same time it has removed the impetus to develop land management practices and a business environment that support these emerging sectors. Rural “push” factors have encouraged people to move to cities – particularly declining incomes in agriculture due to an overvalued exchange rate and high levels of conflict in northern and central regions – rather than urban “pull” factors, such as job creation. With poor land management and limited and mismanaged provision of infrastructure for services and mass transport, much of the urban population lives in settlements that lack access to basic services and, largely, to many jobs.

If Nigeria hopes to generate employment and reduce poverty, it must seek new sources of growth. Managed correctly, urbanization can provide such a path. Past efforts supported by the World Bank have focused on agribusiness and agricultural development. Such efforts are a key avenue for job creation in rural areas, but they are insufficient to provide a source of growth for the whole economy. Rather, metropolitan-based policies will be essential.

The density of cities offers the potential benefit of a high concentration of firms and households. Urban areas are natural hubs of economic density and productivity, and competitiveness accelerates when firms locate close to each other. Agglomeration facilitates the exchange of knowledge to improve productivity and ideas to spark innovation across sectors. For workers, cities increase opportunity through a higher concentration of jobs. And a better-planned spatial distribution of people can lead to efficiencies in public service delivery, presenting possible savings in water, sanitation, and road infrastructure, as well as making it easier to create efficient public transport networks.

These positive effects are not widely evident in Nigeria; instead, its relatively rapid urban population growth has occurred without structural transformation and, thus, without adequate job creation, infrastructure provision, affordable housing, or access to basic services. That pattern of rural push rather than urban pull is a key cause. Stagnating agricultural productivity and substantial conflict, particularly in the north, have spurred migration, not urban jobs or services.