• Tuesday, July 16, 2024
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BusinessDay

Nigeria’s besieged naira

Da_Steinbock
Today, Nigeria’s naira is suffering from a triple-whammy: structural risks, the plunge of oil prices, and currency wars. When will things change for the better?
Only days before last Christmas, the plunging oil prices were exacting a painful toll on Nigeria as the central bank imposed new foreign-exchange controls aimed at stopping the 15 percent plunge in the naira in 2014. In turn, lower oil prices diffused into the Nigerian economy through multiple channels.
The impact on foreign exchange revenue and import financing has been the most obvious channel. Nigeria is highly reliant on foreign-exchange revenues that rest almost entirely on oil. That, in turn, finances imports.
Another channel involves growth and inflation. The plunge of oil prices is reflected in inflationary pressures, thanks to naira’s weakening. That, in turn, reduces consumer purchasing power, while compounding import and operating costs.
Similar adverse pressures have strained reserves, which translates to weakened external buffers, and fiscal vulnerabilities, which has caused a widening budget deficit.
But don’t expect positive changes anytime soon.
The oil-naira symbiosis
The simple reality is that, after the global financial crisis, many emerging economies have deployed direct government intervention and capital controls for competitive devaluation, whereas advanced economies have achieved the same indirectly through low policy rates and quantitative easing (QE).
Officially, the largest economies (G20) have agreed to resist “currency wars”; in practice, they are likely to prevail until around 2020s.
The plunging oil prices have harmed all oil exporters, but not equally. Those economies that have been most resilient to crude price decline encompass oil exporters that enjoy adequate fiscal and monetary space, flexible economies and diversified revenue sources.
Unfortunately, Nigeria is not one of these nations. It belongs to a group of economies that have high fiscal needs but limited monetary space; rely excessively on oil revenues fiscally and import financing, and lack diversified revenues; and that are haunted by structural risks.
A year ago, I warned about Nigeria’s increasing domestic threats and the far more challenging international environment. Despite its BRIC potential, the nation was facing political, fiscal, monetary, security, and energy price risks, which, taken together, would challenge the growth promise of Africa’s largest economy. http://www.businessdayonline.com/2014/03/new-risks-to-nigerias-growth-promise/#.VO_IWnyUdqU
Not only have these risks materialized during the past year; they are converging. In turn, the deep nexus between plunging oil prices and weakening currency is fueling the adverse risks.
Where is naira’s floor?
In 2014, the currencies that weakened more than 15 percent against the rising U.S. dollar included the Russian ruble, several Latin American currencies, as well as the non-Eurozone Nordics (Norwegian and Swedish krone) – all of which weakened from 10 percent(Mexican peso) to 55 percent against the U.S. dollar (ruble).
In the case of Nigeria, the naira fell more than 15 percent against the dollar, which is comparable to the performance of the Colombian peso or the Swedish krone. However, neither two suffers from the kind of pressures that haunt Nigeria where the relationship of oil and naira is symbiotic.
Sweden is an advanced economy that enjoys a significant current account surplus. It is an oil importer. Unlike Nigeria, Colombia has a current account deficit (-3.0 percent) but its oil accounts for over a half of exports and a sixth of government revenues – whereas in Nigeria the two latter figures are far higher.
Recently, Nigeria’s senate voted to cut its benchmark expectation for oil prices in 2015 to $52 a barrel, from $65 in December. At the same time, the value of the naira was pegged to the U.S. dollar at 190, well below the previous target of 165.
While these changes may have been necessary, they will not be enough. Amidst the senators’ vote, Brent crude traded at about $59 per barrel, while a dollar amounted to 200 naira. So the actual price of the barrel was 5 percent and the real naira 10 percent less than the target price, respectively.
The ultimate question, of course, is how low the naira will go. That was the nightmare of the former CBN chief Lamido Sanusi, who warned for years that there was only so much that he could do with monetary policy.
Like Japan, Western Europe and the United States, Nigeria has not moved fast enough toward structural reforms and pro-growth policies. Like Russia, it did not achieve adequate diversification of its industrial structure during the booming growth years. Now it’s time for the bill.
Even as the shale gas revolution took off in the U.S., Nigeria’s prime oil buyer, the red lights failed to blink. Even though America remains the nation’s largest export partner, in the past half a decade, U.S. oil imports from Nigeria have plunged by more than 90 percent.
Currency wars déjà vu
As the U.S. is recovering but Europe and Japan are not, monetary divergence will broaden between the Fed’s impending hikes versus low rates and quantitative easing (QE) in Europe and Japan, as well as monetary easing in China and emerging Asia. 
After half a decade of “hot money” inflows, emerging economies must tackle disruptive capital outflows, while commodity producers face additional headwinds, thanks to U.S. shale gas and the plunge of energy prices.
In this view, currency wars have barely begun, as exemplified by the interest rates in the advanced world. Before the crisis year of 2008, U.S. rate still exceeded 4 percent. That level is not likely to be restored until 2018-2020.
In the absence of structural reforms, stagnation in America, Europe and Japan are being contained by unsustainable leverage, historically low policy rates, and excessive quantitative easing. In the coming years, the emerging world, particularly energy-reliant exporters, will suffer the consequent “collateral damage.”

In Nigeria, it is not a cause for resignation but for structural reforms to finally end the dependency on oil revenues and to reform the industrial structure.

 

Dan Steinbock