CBN policy credibility up on devaluation as markets rally

Analysts at the weekend said the action of the Central Bank of Nigeria (CBN) to abandon the weekly foreign exchange auctions has boosted its credibility, as the devaluation which came before general elections show the independence of the regulator. In a February 12 interview, the CBN governor, Godwin Emefiele, had resisted removing the naira-dollar peg, maintaining that the currency of Africa’s largest economy was still “appropriately priced”. But six days later, the regulator abandoned the weekly foreign-exchange auctions that underpinned the peg, effectively devaluing the naira, as the unsustainable nature of the old FX regime became apparent.

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“The CBN has converged markets and rates and reduced arbitrage opportunity as part of wider agenda of trade and financial system reform,” said analysts at Financial Derivatives Company, in a February 18 note. “There is never a good time to adjust a currency to its fair value; however, it is al- ways better late than never.” Stocks rose 6.52 percent last week, rising all five days as investors welcomed the CBN’s move to what is seen as a more efficient market driven exchange rate mechanism. The naira gained, as the average rate at the interbank market firmed to N197.50 to the dollar at the close of trading on Friday, from N205.60 a week ago.

The price action in the non-deliverable forward (NDF) market gives a hint on how the recent moves in the FX regime are perceived by investors. The NDF curve steepened after the CBN scrapped the RDAS window and introduced a policy-deter- mined exchange rate around the 198-199 level. Short-dated forward out- rights shifted with 1-month NDF now at 202/204 from 209/213 on 16 February, while long-dated forward outrights moved higher to around 270/280 for the 12-month tenor. “The steep curve probably partly reflects expectations of relative FX stability in the short term, but also increasing concerns about the pace of FX reserves depletion in the medium term,” said Samir Gadio, Head of Africa Strategy, FICC research, at Standard Chartered Bank, in a response to questions. The currency adjustment by the CBN was probably inevitable, given the re- cent decline in crude prices, which is the source of most of Nigeria’s exports. The CBNs dollar reserves are down to $33 billion, “25 per- cent below the safe adequacy level,” according to FDC. The Central Bank didn’t have to act now however, and the fact that it did, de- spite some potential negative impact on consumers, shows positive policy credibility. “We view the CBN decision as a bold and positive move and expect to see the naira exchange rate fluctuate to its market determined exchange rate level,” said GTI Securities analysts in a February 19 note.