Need for naira floating to curb financial market uncertainties

As alternative measure to reduce uncertainties that have plagued the financial markets and domestic investment environment in recent times, there is need for a more realistic policy options such as floating the Naira, establishing of a Naira futures market and use of forward guidance in Central Bank of Nigeria (CBN) communications, analysts have said.

According to analysts at Afrinvest, the CBN’s recent decision to restricts some arbitrarily selected-items from obtaining FX at all segments of the FX market has further placed the CBN’s policy under scrutiny from domestic and international media. With no analysis or data on level of domestic self-sufficiency provided to justify the exclusion of the 41 items, there are no basis yet to project the CBN’s next move on forex policy. This continues to be responsible for lack of clear direction for the market.

The Apex Bank Governor, Godwin Emefiele, who assumed office with a commitment to stabilize consumer prices and exchange rate, and create a development oriented central bank (with an implicit commitment to reduce interest rate) have had to backtrack on these commitments amidst elevated macroeconomic headwinds.

The more than 40.0 percent plunge in crude oil prices and corresponding impact on Nigeria’s macroeconomic indicators have necessitated some tough decisions on fiscal and monetary policy authorities. Fiscal authorities have been forced into austerity, with tough decisions taken to trim 2015 budget assumptions to reflect economic realities. Monetary authority has however taken much more drastic measures to ease speculative attacks on the Naira and stabilize the economy. Nevertheless, the naira remained under pressure, external reserves continue to nose-dive (down 15.2% YTD to US$29.2bn) while inflation rate keeps tiptoeing northwards.

Since November 2014 when the Emefiele-Chaired MPC first devalued the Naira and raised interest rate to 13.0 percent, it has been a long road to policy tightening and policy pronouncements, particularly on the foreign exchange market. Between November 2014 and July 2015, approximately 16 circulars have been issued by the CBN on foreign exchange (FX) activities alone. This includes review and adjustment of exchange trading position, scrapping of the official FX market, and curbs on foreign exchange trading in the interbank market in February 2015.

“We however observe that some of the recent policies are characterized by seeming inconsistencies, conflicts, policy reversals and more clarifications that have trailed forex guidelines and considerably weakened the credibility of the CBN. The feedback effect can be seen in heightened uncertainty in the capital market and economy. Real sector investors face increased uncertainties in projecting cash-flows and deciding on long-term capital budgeting and short-term working capital plans. The capital market has also witnessed a lull since the April rally, as investors await clarifications on FX guidelines apart from events in the polity”, the analysts said in a report.

The financial market (equities and fixed income) is in dare need of a clear cut policy direction and stability. A lot of foreign investors appear to have taken to their heels leaving only the bandwagon local investors, who also have no clue of the impact of future monetary policy on their investment position, in the scene, whilst value seeking investors are on the prowl in search of opportunity.

“Whilst we note that the limits of monetary policy in creating internal and external balance may have been reached (and in need of supportive and pragmatic fiscal policy plans), we are of the opinion that the CBN should start considering alternative measures rather than the current capital control methods that appear to have resulted in little gains and heightened uncertainty”, Ayodeji Ebo, head, investment research, and his team of analysts said.

“Nigeria’s changing economic fundamentals call for a rethink of FX policy, in order to better absorb external shocks. We see Nigeria’s current account surplus moving to a deficit, both in 2015 and in the years ahead. The pace of accumulation of new FX reserves will not easily support a fixed exchange rate system. With a fixed exchange rate, FX reserves rather than the NGN bear the brunt of any external shock, hurting Nigeria’s creditworthiness, and potentially raising the cost of any external borrowing. Near-term, constrained FX availability also exerts a cost on the real economy, adding to uncertainty and delaying investment activity”, Razia Khan, Managing Director, Chief Economist, Africa Global Research, Standard Chartered Bank, London, said in a report.