CBN lacks the firepower to clear FX backlog says EIU

The Economic Intelligence Unit (EIU), the research and analysis division of the Economist Group, has warned that the Central Bank of Nigeria (CBN) does not have the required firepower to clear the backlog of foreign exchange orders valued at over $6 billion.

This warning comes as the CBN returned to a supportive monetary system after its uneventful adventure with the “managed float” system caused the naira a more than 60 percent loss in exchange value on the street market since June.

In its country report for Nigeria, published early this month, the research firm, which had in August warned that the country’s apex bank doesn’t have the sufficient experience to successfully manage a managed floating FX system whose objective was to create an FX convergence situation, said that without support for the naira, the currency will be under pressure, forcing it to continue its downward fall.

A situation that has seen the currency fall to record lows on both the street market and the official market.

EIU said, “an unsupportive monetary policy implies that the naira will remain under pressure, and the CBN lacks the firepower to adequately supply the market or clear a backlog of foreign exchange orders valued at over US$6 billion, which will keep foreign investors unnerved.”

Apparently, one of the most important instruments used to defend a currency is the strength of its foreign reserve, of which, unfortunately, a huge portion has been tied up in derivative contracts or loans.

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EIU said, “Official foreign reserves are reported at US$33 billion, but up to one-third of the assets are encumbered, tied up in derivative contracts or loans. In the short to medium term, the official exchange rate will continue to be propped up by access restrictions, implying long lead times at the NFEM.”

It noted that unlike in June, when the apex bank was willing to embark on some market-friendly policies especially aimed at convergence, “the CBN would resist any other attempt at convergence until petrol imports are eliminated in late 2024, with the naira ending that year at N822.9:US$1, down from an estimated N810:US$1 at end-2023 (accounting for some likely near-term weakening).”

“Sizable devaluations are expected in 2025—or possibly sooner—causing a 38.5% loss against the US dollar over the year, to N1,142.5:US$1 at end-December. However, we do not expect lasting commitment to a market-led naira, as the CBN lacks experience conducting monetary policy under a float.

“High inflation and a continued spread with the parallel market will leave the exchange-rate regime unstable and result in periodic devaluations. We project a rate of N1,262.1:US$1 at the end of 2028, with a continuous spread with the parallel market expected,” it explained.

Regardless of the developments in the management of the naira, the research firm believes that “Nigeria’s real GDP should pick up from an estimate of just 2.2 percent in 2023 but remain sluggish in 2024, at 2.6 percent.”

Read also:EIU sees Nigeria’s oil production rising to 1.4m b/d by 2028

However, domestic demand should be affected by a combination of high inflation and monetary tightening, a situation that should cause domestic demand to shrink in 2024.

EIU said, “Net exports will be the sole growth driver early in the forecast period. We expect oil export volumes to increase as security in the Niger Delta allows higher oil output; the balance will be complemented by the displacement of fuel and chemical imports in 2024 as the Dangote refinery ramps up production.”

The research firm believes that real domestic growth of 4 percent should happen in 2025, the highest rate since 2014, “owing partly to rebound effects—and average 3.2% in 2026–28, with the PIA and recent deregulation of the power sector expected to support investment over the medium to long term.”