More confusion trails Nigeria’s FX policy after latest naira U-turn

Investors and analysts were left scratching their heads after the naira, which had hovered at N410/$ since Thursday last week at the Investors and Exporters (I&E) window, suddenly closed stronger at N394/$ on Monday.

The naira gained following strong interventions by the Central Bank of Nigeria (CBN), which came as a surprise to investors and analysts who had thought Nigeria was now on the path to a speedy convergence of its multiple exchange rates.

The naira closed at N470 at the black market and N379 at the CBN’s official window.

The continued lack of clarity over Nigeria’s foreign exchange policy means foreign investment dollars will continue to steer clear of the market and the naira will come under more pressure in the new year.

It also means the CBN will continue to dip hands into the country’s fast thinning external reserves to defend the naira.

Nigeria’s reserve has suffered the shock in the fall of petrodollars and foreign investment inflows. The reserve closed the year 2020 at $35.32 billion, down from $38 billion at the beginning of the year, forcing the apex bank to devalue the naira twice that year.

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The CBN and non-bank corporates have been the biggest suppliers of the greenback, providing more than 90 percent of FX inflows at the I&E window, as foreign investors shun bringing new capital until there is clarity over how their trapped funds can be repatriated.

With a major source of dollar inflows drying up, Nigeria’s naira has since come under pressure, worsened by the fall in oil price, the country’s biggest foreign exchange earner.

The CBN sold as much as $4.37 billion defending the naira in the third quarter of 2020 alone, according to data by the apex bank.

At that run rate, analysts fear the CBN’s interventions are unsustainable, which reinforces the urgency to boost dollar supply into the market.

To ration scarce dollars, the CBN operates multiple windows. The CBN’s official window where the naira trades at a much stronger rate against the dollar; the NAFEX rates, where it trades fairly stronger against the dollar, and the black market, where it trades weaker against the dollar.

The central bank had been working to unify rates across windows, as part of an agreement after it tapped the IMF for $3.4 billion as a temporary measure to bolster its reserve from the shock of the pandemic.

Investors and analysts had cheered the initial move to allow the naira weaken at the I&E window even though they were under no illusion of the work still left undone in repairing investor confidence in Nigeria. That was all until the naira surprisingly gained to N394/$, when the market closed on Monday.

“We could say that this is a welcome move towards the ‘market determined’ rate that the FGN has loosely pledged,” Gregory Kronsten, head, Macroeconomic & Fixed Income Research, FBNQuest Capital, had said in a note to clients on Monday morning when the naira was at N409/$.

“However, it does not represent ‘fair value,’ regardless of how this may be calculated, or reflect inflation differentials because these are not official objectives. The parallel rate is quoted on a popular website this morning at N465/N470,” Kronsten said.

A speedy unification of the multiple rates does many favours for Nigeria’s economy, which has just slipped into its second recession in five years.

This is because narrowing the gap between the parallel market rate and official rates reduces speculative activities of those accessing dollars at a stronger rate at the (I&E) window, to sell at the parallel market.

The incentive to speculate will be reduced and that will lead to some level of stability in the local currency.

New foreign direct investors and portfolio investors would also gain, as they would have more naira for their dollars. However, those with naira assets before the devaluation would see their investments further eroded.

A unification may also unlock some multilateral budget support from the World Bank and others that was said to be conditional upon unspecified movement on exchange-rate policy.

On the macro side, the adjustment gives a boost to non-oil exports and to all inflows converted into naira at the I&E window (or bureaux de change).