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Standfirst: Nigerian infrastructure assets routinely borrow in dollars and earn in naira. The mechanism meant to bridge that gap, tariff indexation, works cleanly on paper and imperfectly in practice, and the gap between the two has become one of the defining risks in the country’s power sector. Understanding how indexation is supposed to work, and where it actually breaks down, is essential before treating a Nigerian tariff structure as a hedge against currency risk.
I. How indexation is designed to work
Nigeria’s electricity tariffs are set and periodically revised under the Multi-Year Tariff Order (MYTO) framework, administered by the Nigerian Electricity Regulatory Commission (NERC). MYTO is explicitly built to pass through changes in variables outside a licensee’s control, principally the naira-to-dollar exchange rate, domestic inflation, U.S. inflation, and gas prices, into the cost-reflective tariff on a rolling basis. In practice, this means NERC issues supplementary tariff orders that update the applicable exchange rate assumption, for example, a July 2025 order adopting a rate of roughly ₦1,566 to the dollar, calculated by adding a transaction cost to the prevailing average market rate, alongside revised inflation projections for both Nigeria and the United States.
The design logic is straightforward: if a generator’s costs, gas purchased in dollar-linked terms, debt serviced in foreign currency, rise because the naira weakens, the tariff should rise correspondingly, so the generator’s real revenue in dollar terms is protected regardless of what the naira does.
II. Where the mechanism breaks down in practice
The gap between designed indexation and delivered indexation has three main sources, and Nigeria’s power sector has experienced all three at once.
Timing lag. MYTO reviews and supplementary orders are periodic, not continuous. Between reviews, a generator’s actual costs move with the market exchange rate in real time, while the tariff it is paid on reflects an exchange rate assumption fixed at the last review date. In a period of rapid depreciation, such as Nigeria experienced after the Central Bank floated the naira in mid-2023, moving from roughly ₦441 to the dollar under the prior MYTO assumption to above ₦750 within weeks, the tariff lag alone can represent a substantial real-terms shortfall before the next order catches up.
Cost-reflective versus allowed tariff. NERC’s own published figures distinguish between a “cost-reflective tariff”, what the indexation formula calculates the tariff should be, and an “allowed tariff”, what customers are actually permitted to be billed. Where the allowed tariff is held below the cost-reflective tariff for affordability or political reasons, the indexation mechanism functions correctly on paper while the generator or DisCo still absorbs the shortfall in practice.
Accumulating dollar-denominated arrears. Where payment itself is delayed rather than the tariff, unpaid gas invoices and capacity payments owed to generators do not simply sit static. Because much of the underlying cost structure, gas pricing, some generator invoicing, is dollar-linked, the principal of unpaid invoices is revalued upward by further currency depreciation while it remains outstanding, and where that debt carries dollar-denominated interest, the obligation compounds against the same generators the tariff was meant to protect. This is precisely the dynamic now driving a portion of Nigeria’s power sector debt: naira revenues expected to service dollar-indexed costs, in an environment where chronic underpayment means the pass-through never fully lands on the parties actually holding the currency exposure.
III. Why this matters more for debt service than for equity returns
Tariff indexation lag primarily threatens the parties with fixed, contractual obligations, above all, debt service, rather than the parties expecting variable returns. A sponsor’s equity return can absorb a period of tariff shortfall by simply reducing distributions. Debt service, by contrast, is a fixed schedule regardless of whether the tariff mechanism has caught up with reality. This is why lenders financing Nigerian infrastructure in foreign currency rarely rely on tariff indexation alone as their protection against currency risk. They typically require it be paired with structural mechanisms discussed elsewhere in this library, dollar-denominated reserve accounts funded ahead of need, and DSCR targets set conservatively enough to absorb a real indexation lag, not just modeled cost inflation.
IV. What to check when a tariff structure claims to be dollar-indexed
- Is the indexation continuous or periodic, and how long is the review cycle? A framework that only updates quarterly or on ad hoc supplementary orders carries meaningfully more lag risk than one with shorter, more frequent adjustment cycles.
- Is the cost-reflective tariff actually the tariff being billed, or is there a gap held open for affordability reasons? A published indexation formula is not evidence that the formula’s output is what the offtaker or consumer actually pays.
- Does the underlying cost base carry its own currency exposure that compounds during payment delay? A dollar-linked gas or capacity cost that goes unpaid does not stay fixed while overdue, it moves with the exchange rate, meaning payment delay and currency depreciation compound each other rather than acting as separate risks.
Read this before you read this one: Take-or-Pay vs. Availability-Based Tariffs in Power and Gas Infrastructure