Naira woes overshadow rare rise in dollar reserves

A rare rise in Nigeria’s foreign currency reserves is proving just as useless as a wooden frying pan for the country’s embattled currency.

That’s after the naira weakened by the most against the dollar this month to N773.50 on Tuesday morning in official trading while sliding to a low of N930 per USD on the streets despite the first increase in external reserves in a year.

According to data from the Central Bank of Nigeria (CBN), gross official reserves increased marginally by around $2 million at the end of August 2023, the first accretion since July 2022 when the gross official reserves rose by $64 million.

The level of reserves is no longer an accurate gauge of the CBN’s firepower after it emerged in the apex bank’s financial accounts that a large part of the reserve is encumbered.

With the true level of the CBN’s reserves in contention after the government’s foreign banker, JP Morgan, estimated net reserves at around $3 billion, which is about 10 percent of the gross reserves, the market now takes the CBN reserves data with a pinch of salt.

What the market is however waiting for this week is for acting CBN governor, Folashodun Shonubi, to make good his promise to clear a gaping FX backlog that is undermining confidence in the latest currency reforms. Shonubi said last week Monday that the backlog will be cleared in two weeks and now has only this week to fulfill his vow.

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“Although the exact mechanism remains undisclosed, what is clear is that domestic banks will have a significant role in this process,” said Tunde Abidoye, head of research at FBN Quest Capital.

Shonubi did not specify whether he was referring to clearing the total backlog in the market which is estimated at $10 billion or just the forward backlog which is around $2.5 billion.

Sources close to the CBN however told BusinessDay that Shonubi was referring specifically to settling the $2.5 billion foreign currency forward contracts which had gone unpaid for six months.

Nigerian businesses from manufacturers to importers, who have been on a long queue for dollars, have resorted to buying the greenback at a 15 percent premium in the black market. The businesses drive demand to the market and complicate the CBN’s effort to attain a single exchange rate.

“Those owed forwards go to the black market today, so if the CBN paid the forwards, black market demand would collapse,” a source familiar with the matter said.

“The naira will sell for close to the official rate, at least in the near term, in the black market if the CBN keeps its word,” another knowledgeable source said.

Clearing the dollar backlog owed to local businesses is a big step towards restoring investor confidence in Nigeria’s foreign exchange market and moving the country closer to reaping the fruits of a bold move in June to allow the naira trade at a more market-reflective rate.

“If successful, it will be an important means of restoring confidence,” Razia Khan, managing director and chief economist, Africa and Middle East Global Research at Standard Chartered Bank, said.

Khan, who also said clearing the backlog “will help reduce the demand at the parallel market in the near-term,” was however not sure “..if the backlog can be entirely cleared in two weeks, but it would be a massive boost to confidence if it were cleared,” Khan said in an emailed response to questions.

Nigeria needs every bit of confidence it can get to fully revive its FX market and boost the dollar supply needed to support the naira. The sharp slide in the currency has been particularly painful for households and businesses and it’s on the heels of the removal of a costly petrol subsidy which led to a doubling in the retail petrol price.

“It will help improve the confidence in the FX market and the economy,” said Muda Yusuf, Chief Executive Officer at Lagos-based private sector advocacy firm, the Centre for the Promotion of Private Enterprise (CPPE).

Read also: Naira steadies at N930 per dollar on Monday

“There’s been a collapse of confidence and that is fuelling a lot of currency speculation in the black market,” Yusuf said.

The gray area for investors is whether the CBN has the dollars to clear the demand backlog.

Despite the CBN’s decision to float the naira in June ’23, it has had limited success in increasing foreign exchange inflows, as offshore investors have mostly remained cautious.

Monthly transactions on the investors’ and exporters’ (I&E) fx window for the first eight months of 2023 are currently running at an average of $2.1billion, compared with $2.4 billion over the comparable period of 2022.

At first glance, the total reserves as at end-Aug ’23 covered 7.0 months of merchandise imports on the basis of the balance of payments for the 12 months to December 2022 and 5.6 months with the inclusion of services.

However, the CBN’s recent publication of its audited accounts after a long period of non-disclosure, unveiled the possibility that the encumbered portion of the reserves may exceed initial estimates.

For instance, the 2022 accounts revealed a securitised loan of around $7.5 billion owed to JP Morgan and Goldman Sachs, as well as FX forwards of almost $7 billion.