Emefiele faces sterner test at CBN as reserves plunge

The new governor of the Central Bank of Nigeria (CBN), Godwin Emefiele will confront a sterner test than his immediate predecessor as he begins his tenure. This follows on plunging reserves and less effective policy tools making the goal of price stability harder to attain.

This situation will be exacerbated by the Nigerian election cycle, the United States Fed tapering of stimulus, and investors’ continued selling of naira assets on the back of uncertainty tied to former Governor Sanusi Lamido Sanusi’s suspension.

“Our interaction with foreign portfolio investors suggests that they will consider re-entering the Nigerian carry trade if T-bill yields backed up to 17-19 percent, to compensate them for FX risk and other institutional and economic concerns, ahead of the 2015 elections,” said Samir Gadio, emerging markets strategist, Standard Bank, London, in response to questions.

“This will require further significant monetary tightening, and it remains to be seen whether the MPC will agree to hike the policy rate and the CRR more aggressively and the CBN resume a new wave of large-scale OMOs, especially after it overshot its budget expenditure in 2013,” said Gadio.

Nigeria’s gross dollar reserves have plunged to an 18-month low, declining 13 percent this year to $37.8 billion, as of March 28. The naira has dropped about 2.8 percent against the dollar on the interbank market in the period, while approximately $2 billion of foreign portfolio investments left Nigeria in February 2014, according to data from Financial Derivatives Company (FDC) Limited.

The CBN’s tight monetary policies already have led to some concerns from the business community and the Ministry of Finance has signalled its intent to see lower interest rates.

The test for Emefiele would be the ability to maintain price stability while treading carefully with regard to higher interest rates that might end up shaking the financial system and hurting growth.

When Sanusi resumed in 2009, he was confronted with a banking crisis, but had larger dollar reserves and fiscal buffers, and was just in the beginning of the tightening cycle for interest rates which helped to attract offshore investors playing the carry trade.

Sanusi also had strong political backing, as he was able to push through the banking reforms and AMCON Bill largely uncontested.

Emefiele, on the other hand, is coming from a weaker position as legislators and the executive are more wary of an independent and powerful CBN, the tightening scope for interest rates is diminished, fiscal buffers low and external reserves dropping, as oil leakages intensify.

The options for Emefiele include devaluation, says Bismarck Rewane, CEO, Financial Derivatives Company, although he notes that it would be almost impossible to devalue six months to an election.

“Emefiele could increase interest rates to attract more hot money. However, the bankers will scream. He could wait for a post-election devaluation, however. It has to be too much and perhaps too late,” said Rewane in a recent presentation at the LBS executive breakfast meeting.

Fiscal revenues declined by 19.8 percent to N2.2 trillion in Q4’13, from N2.75 trillion in Q3’13, as net outflows and leakages reflected the external reserve depletion.

There have also been increased dollar sales by the CBN with RDAS sales up 3.76 percent to $3.1 billion in February, from $2.98 billion in January.

The naira, which fell to a record low of N169/$ at the interbank market following Sanusi’s suspension, traded at N164.8/$ yesterday, while inflation for February eased to 7.7 percent, from 8 percent in the previous month, remaining within the CBN’s 6 percent to 9 percent target band.

Emefiele, 52, who was recently confirmed by the Senate, has vowed to maintain the current CBN policy of defending the naira.

“This is an import-dependent economy,” Emefiele told a Senate hearing in Abuja before approval of his appointment. “Devaluation is not an option.”

While Emefiele sees no devaluation in the immediate future, the markets may have a greater say on that if the import cover ratio falls further.

Nigeria’s FX reserves can cover around 8.3-m of merchandise imports (excluding services) based on import estimates of $55.0 billion in 2014. This compares with an import cover ratio of 17.1-m in 2009 based on imports of $29.7 billion.

“Imports may pick up in coming years on the back of accelerated spending on infrastructure and/or higher capital-intensive imports (for example, in the power sector), so the import cover ratio will potentially deteriorate further,” said Gadio.

PATRICK ATUANYA