The arbitrage bazaar is back again

Since the days of the Babangida regime and the IMF Structural Adjustment Programme debates, Nigerians have come to see a strong local currency as an attribute of a strong economy.

However, low oil prices and the insistence of the IMF on devaluation have seen the naira gradually devalued from its high of 90kobo to a dollar in 1985 to N17 to $1 when IBB stepped aside in 1993.

On seizing power, the dark goggled dictator, General Sani Abachi decreed that the exchange rate be fixed at N22 to the dollar. That remained the exchange rate for the entire duration of his regime.

But it is one thing to fix the exchange rate by fiat and another to supply the dollars to manufacturers, importers and those who need it. With oil prices as low as $20 per barrel and with the regime under a surfeit of sanctions by the international community over gross human rights violations, it became impossible to supply the market with dollars at the fixed price. As a result, the parallel or black market came into being.

But more importantly, a new and extremely profitable business emerged among regime insiders and those with influence. It was called arbitrage, simply defined as “an investment strategy in which an investor simultaneously buys and sells an asset in different markets to take advantage of a price difference and generate a profit.”

The Abacha regime gave dollars to his cronies at the official exchange rate of N22 per dollar when the parallel market rate was between N70 and N80 to the dollar. These cronies just turned around and sold the dollars they got from the regime at the black market, making gains of between N50 to N60 on a dollar. Of course, bankers quickly joined in the bazaar too.

Even for the genuine manufacturers who eventually got their dollars at the official rate, they index their prices against the black market price thus making a kill from both ends

The return to democracy and the deliberate convergence of the rates ended the bazaar, that it, until Muhamadu Buhari came into power in 2015. Following the crash in crude oil prices, the naira again came under pressure.

But Buhari government would not permit any form of devaluation of the naira and ordered that the exchange rate be maintained at N199, even when the central bank lacked the capacity to supply the dollars needed by the market at that rate. Expectedly, the naira started declining at the black market, going as far as N500 per dollar before normalising at N360 per dollar.

The arbitrage market was back again. This time, more people joined the party. Smart politicians, businesses, and well-connected individuals began gaming the system by obtaining dollars at the official rate and selling same at the black market and making huge profits at little or no cost.

The argument that the central bank was supplying cheap dollars at official rates to manufacturers made no sense because most genuine manufacturers had no access to the CBN’s dollars. They get their dollars from the black market.

Rather, those dollars go to fake manufacturers and businessmen who are adept at gaming the system, opening up fake Letters of Credits, obtaining the dollar at the official rate and selling them off at the black market. Even for the genuine manufacturers who eventually got their dollars at the official rate, they index their prices against the black market price thus making a kill from both ends.

Eventually, the CBN realised the futility of its actions and reluctantly devalued the naira till it reached N306 to the dollar at the official rate but stopped short of fully converging the rates, leaving room for arbitrage and sharp practices.

Read also: 5 top economies with weak currencies but no dollar scarcity

Politicians, cronies, smart businessmen and even the CBN exploited this gap to devastating effect. While the CBN continues to give dollars to selected and connected persons at the official rate, it recommended agents to manage transactions of multinationals and Nigerian companies who needed to buy naira to settle domestic administrative and business obligations.

As a BusinessDay investigation in 2018 showed, these agents accept the dollars from the exporters in exchange for naira at the official rate of N306 per dollar and then heads to the black market to sell same dollars at N360, helping themselves to a gain of N54 per dollar.

Eventually, these businesses, exporters and multinationals became wiser and now circumvent official channels in order to get a market reflective rate for their dollars or even ensure their dollars stay safely outside of the country.

Nigeria is currently in uncharted territory. Oil prices are very high – at over $100 per barrel, yet the naira has been under sustained pressure. The reasons are clear.

While the tomfoolery of the Buhari administration and the CBN’s frequent policy summersaults have combined to keep foreign direct and portfolio investors away from the country, the irrational subsidy on imported petrol, the sharp practices of the CBN with regards to forex management have finally caught up with it as citizens, exporters and businesses have found ways to maximise the value of the dollars. The combined effect is a diminished dollar supply, which is piling further pressure on the exchange rate.

The naira now trades at over N720 per dollar at the parallel market while the CBN continues to maintain an unrealistic rate of N424 per dollar at the official rate. The spread between the official and parallel rates is also at its highest ever, at between N296 – N300, creating a tantalising arbitrage opportunity.

If history is any guide, politicians, bankers, businesses and cronies of the Buhari government would be jostling right now to get the dollars at the official rate.

The joke is clearly on us. We can either liberalise the forex market or keep pretending to be defending the naira even when it is obvious to everyone that we do not have the capacity to do that and that what we are actually doing is rewarding the rich with our scarce dollar reserves.

Meanwhile, the run on the naira looks set to continue. Those with dollars will resist the temptation to bring their dollars into the country thinking the naira will fall further, while those with naira are dumping it fast and buying up dollars also believing the naira will continue to fall.

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