Naira fluctuation and matters arising

The Central Bank of Nigeria says on its website that the main objectives of its exchange rate policy in Nigeria are to preserve the value of the domestic currency, maintain a favourable external reserves position and ensure external balance without compromising the need for internal balance and the overall goal of macroeconomic stability.

That sounds quite dandy but its approach appears to have been somewhat doomed from the beginning by a very flawed perspective of what the actual value of the Naira is and in matters like this, small steps in the right direction are way better than marathons run in the wrong direction.

Nigeria has two main exchange rates: the official rate, and the BDC rate. The CBN exercises faith in picking an official rate while the rest of mankind looks to be guided by market forces and the presumed impact of current events. Utterances by relevant government officials are also a factor because they are supposed to give a clue about the direction of things.

Let’s give some examples of how officials speak and affect the movement of the naira.

On December 28, 2015, President Buhari said, “I personally do not support the devaluation of the Naira.” the next day, the black market rate fell to N258.30 from N240.

On February 18, 2016, CBN governor, Godwin Emefiele said, “We are stopping the sale of foreign exchange to BDCs as part of measures to reduce the pressure on the nation’s foreign reserves.”

Immediately after that, the black market rate fell to N329. A few months after, on 15 June 2016, the President said “I have asked the Central Bank Governor and others to sit and see if they can convince me to murder the Naira.”

Black market rate? N351.72.

The CBN governor has done a number of things in his search for a stable and bearable exchange rate and these things include cutting trees, inviting people to physical fights, and recently making an ill-fated attempt to run for the presidency of the country itself.

The last action doesn’t readily appear to be an action associated with exchange rate management but neither are tree-cutting and openness to physical combat. Surprisingly, none of these efforts has worked. As of the end of July, the CBN’s official exchange rate for the dollar was N416 while the BDC rate was N680 from a N710 high. A N270 margin.

The Nigerian president and his Central Bank governor have kept making statements and taking actions that spooked the local and international business communities by showing that they were totally unwilling to take the steps required for effective exchange rate management and most of the time, they ended up spooking the market and making things harder at great cost to the country.

The problem is not just the high price of the dollar. The margins between the official CBN rate (which is little more than an opinion in the marketplace) and the BDC rates are a subsidy cost per dollar. The CBN doesn’t manufacture its own dollars. It funds the cost of the margins between the official rates and the actual market rates at great cost from the country’s foreign reserves.

The managing director of Financial Derivatives, Bismarck Rewane, said recently that the CBN was going to spend between $8 and $10 billion to defend the Naira in 2022, which would leave the country with gross external reserves of $30-$32 billion. The CBN could very well have spent roughly $80 billion from its foreign reserves defending the Naira over the past decade while taking the country’s loan profile to a whopping $40 billion.

Read also: Dollar scarcity drives naira fall despite rising reserves

Nigeria’s foreign reserves are assets held by the CBN for the purpose of meeting liabilities and influencing monetary policy. These reserves include foreign banknotes, deposits, bonds, treasury bills, and other foreign government securities.

Instead of using these reserves to improve Nigeria’s capacity to produce and export at foreign exchange rates determined by the market, they have been wasted on a bizarre fight to maintain an unrealistic exchange rate that doesn’t in any way reflect Nigeria’s production and export capacity.

Economics is a social science but President Muhammadu Buhari and his CBN governor, Godwin Emefiele, have chosen to treat it like an artform or a branch of metaphysics that is dependent on their wishes and faith.

For over 30 years, Nigeria’s political leaders have made grievous financial and structural sacrifices to the country just to preserve unrealistic exchange rates instead of simply spending the money on infrastructure that would have improved Nigeria’s export capacity and aligning with a market-based pricing mechanism.

The South Korean economy is quite strong and has significant export capabilities with brands like Hyundai, Samsung, and LG doing quite well on a number of continents around the world. A single United States dollar is exchanged for 1,302.38 South Korean Won.

South Korea did not have the wrong idea about what the value of their national currency should be. They accepted the feedback from the marketplace and positioned themselves to benefit from the reality of the situation.

So, the South Korean Won won and the Nigerian Naira didn’t.

Nwanze is a partner at SBM Intelligence

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