Nigeria’s currency, the naira, ran into troubled waters in 2020, and although the New Year is widely expected to be better than the last, there are some familiar challenges lying in wait for the currency.
Nigeria devalued its currency a record three times against the dollar last year, and the general consensus of analysts is that there will be another devaluation in 2021.
Although the majority of analysts polled in a BusinessDay survey could not immediately see chances that a full rate convergence of Nigeria’s multiple rates will happen this year due to some structural imbalances in the economy. But there are expectations that the official rate will be devalued to between N410 per dollar and N420/$ in keeping with efforts towards a gradual unification of the rates, the central bank started last year.
Bankers seem a bit more optimistic for the naira in the New Year with many of them expecting relative exchange rate stability as global economic conditions improve, oil prices recover and the CBN’s policy on diaspora remittances come to the aid of the ailing naira.
Other upside factors that support a benign naira outlook include the proposed bilateral facilities expected from Brazil and a possible Eurobond issuance in 2021.
The analysts surveyed include Wale Olusi, head of investment research at United Capital; Charles Robertson, chief economist at Renaissance Capital; Yomi Olugbenro, partner/head of tax/regulatory services at Deloitte, and Bismarck Rewane, CEO of Financial Derivatives Company Limited.
Others are Muda Yusuf, director-general, Lagos Chamber of Commerce and Industry (LCCI); Mosope Arubayi, chief economist at Vetiva Capital; Abimbola Omotola, senior associate, investment research at Chapel Hill Denham; Paul Uzum, managing director of Halo Capital, and Lucky Djebah, head of corporate finance at Alpha Morgan Capital.
Also on the list are Adesola Adeduntan, CEO of First Bank; Wale Okunrinboye, head of investment research at Sigma Pensions; Ayodeji Ebo, head of investment research at Greenwich Merchant Bank, and others.
If a devaluation of the official rate does happen as many of the analysts predicted, it will narrow the gap with the black market and could possibly even lead to an appreciation of the exchange rate at the black market where the naira trades much weaker at about N470/$.
Read also: Naira breaks stability, weakens to N472 on black market
An appreciation will be possible in the black market if the devalued official rate leads to increased autonomous dollar inflows and by extension improves dollar liquidity in the country.
The black market rate is the rate at which many Nigerians do business and an appreciation of the currency in that segment of the market will bring a welcome relief. Improved dollar liquidity is what Nigeria needs to avert another exchange rate volatility this year, as it would engender foreign investor confidence and help manufacturers access dollars to fund critical imports.
An abrupt end to three years of stability
Nigeria witnessed a raft of currency adjustments in 2020, as exchange rates depreciated across segments despite the CBN’s effort to stabilise them. Acute dollar shortages caused by the global crude oil price plunge and a sharp reversal of foreign inflows amid the pandemic exposed the economy and hammered households and businesses.
In the heat of an oil price war, a barrel of crude oil even went negative for the first time in decades as sellers paid buyers to take stranded barrels of crude oil. As Nigeria’s largest source of dollars, the crash in oil prices was hard to take for Nigeria, as capital flows were also grounded.
According to the capital importation data for Q3-2020 published by the NBS, the total capital imported into the Nigerian economy tumbled 74.0% y/y to $1.5bn in Q3-2020 from $5.6bn in Q3-2019. The breakdown of the data revealed that inflows from portfolio investments, which had dominated gross investment inflows (averaging 67% since 2018 to Q1-2020) thinned out to $407.3m (vs.$4.3bn in Q1-2020 alone) or 10% of 2019 quarterly average. Meanwhile, loans and other claims accounted for the bulk of the inflows at $639.4m in Q3-2020. With dollars hard to come by, the CBN devalued the official market rate to N379/$, representing a 23.5% weakening of the currency in 2020.
Meanwhile, with the CBN’s effort to ration FX and limit access to the official market auction, the divergence between the parallel market rate and the official segment widened to levels last seen during the 2016 currency market crisis.
Notably, the parallel market rate depreciated to N475/$ – N505/$, amid speculation, increased demand for eliminated items from official market auctions and FX rationing. Despite the clear indications of a crisis, the CBN was quite reluctant to adjust the official market rate and adjusted the local unit against the dollar amid pressure from the IMF and the World Bank as criteria for debt facilities from both institutions.
By November 2020, the CBN announced that recipients of diaspora remittances through the International Monetary Transfer Operators (IMTO) would now have inflows in foreign currency through the designated bank of their choice, a move targeted at improving liquidity in the market. With a large, growing and highly energetic diaspora population spread world over from the US, UK, Canada, EU, UAE, South Africa and several other advanced economies, Nigeria commands the largest remittance volume in sub-Saharan Africa.
For context, Nigerians in the US are among the most educated and entrepreneurial migrants with significant earning capacity out of which are sent back to families at home. By World Bank’s estimates, personal remittances received in Nigeria peaked at $24.3bn in 2018 before dropping to $23.8bn in 2019.
In 2020, total remittance is projected to fall to $21.6bn due to the impact of the coronavirus pandemic. In spite of the projected decline, the move is expected to help improve liquidity in the system, and help reduce the pressure on parallel marker rate going forward.
Nigeria’s love for multiple exchange rates
For nearly five years now, Africa’s most populous nation has operated a multiple exchange rate window. Although there was a convergence among some of the rates last year, Nigeria is still with three rates.
One, known as the CBN official window is where the naira trades at a much stronger rate against the dollar. Another is the NAFEX rates, where it trades fairly stronger against the dollar, and the Black Market, where it trade weaker against the dollar.
The World Bank and the IMF have frowned at Nigeria’s multiple exchange rate systems, saying it creates room for arbitrage and deters foreign investments from coming into the country.
At the point the dollar needs to boost reserves, the IMF and the World Bank requested that Nigeria unifies these rates.
It was as a result of that, the CBN adjusted the naira at the official window from where it was pegged at N306/$ to N360/$ and devalued to N380 from N360 the amount the naira trades against the dollar. It also reviewed upward the price it sells petrol in the local market, and also the rate of electricity tariffs.
While the IMF, seeing improvements Nigeria made towards market reflective rates, approved the $3.4 billion emergency support funds, the World Bank delayed the approval of the $1.5 billion loans, saying Africa’s largest economy “needs to do more”.
Experts on where the naira is headed this year and chances of rate convergence
Here are the views of analysts concerning the direction of the naira and rate unification this year.
Adesola Adeduntan, CEO of First Bank Nigeria Holdings: Based on the recent foreign exchange policy actions of the Central Bank of Nigeria (CBN) and the positive sentiments and expectations around the recovery of the global economy, the naira will likely witness relative stability in 2021.
Recall that towards the end of 2020, the CBN directed that beneficiaries of diaspora remittances will henceforth receive their inflows in dollars. The impact of this policy is expected to be net positive for naira exchange rate stability as it will improve availability of dollars in the retail end of the FX market.
Additionally, the positive sentiment in the recovery of the global economy that is currently driving improved crude oil demand and price will help to enhance the foreign exchange earning capabilities of Nigeria. With improved foreign exchange earning capabilities and supply, the economy will be able to achieve relative exchange rate stability in 2021.
Wale Olusi, head of research at United Capital: If the past is any indication of the future, we think an additional 6% – 10% currency adjustment (to bring the official rate to roughly N400-N415/$) will be needed to structurally rebalance the current account by year-end or Q1-2021. On a rather positive note, we expect the optimism around the coronavirus vaccine, which seemed to be supporting the oil prices so far, to help strengthen the external reserves going forward, thus improving the Nigerian currency market outlook. If the vaccine is able to successfully scale through the acceptance phase, we imagine that oil prices should improve even further – to say $55/b, or perhaps pre-crisis level – if OPEC+ is able to find an optimal Supply -Demand ratio to maximize prices.
For the parallel market, if history is anything to rely on as a looking glass for what the future holds, we imagine a potential convergence of rates – when the CBN begins to fully intervene – will result in a possible appreciation from the market rate N470/$ -N500/$ rate towards the official rate. The fact is that the Nigerian economy has been here before, in 2016, when the parallel market rate climbed as high as N500/$ but converged to N360/$ after the I&E window was introduced.
Charles Robertson, leading emerging markets specialist, and global chief economist at Renaissance Capital: “Nigeria will struggle to attract portfolio inflows after two periods in 2015-17 and 2020 where it became so difficult to take money out of the country.”
“I’m not sure if there is anyone expecting unity in exchange rates. There was a good opportunity to achieve this in 2019,” Charles Robertson.
Yomi Olugbenro, partner & head, tax & regulatory services, West Africa, Deloitte: Until we get to the point of a unified exchange rate, where rates are market-determined, our FX mechanism will continue to create some bit of scepticism for foreign investors, as well as all those who are exposed to foreign exchange.
“Investors are much more confident to bring in their dollars if they know that the forces of demand and supply determine what the rate would be,”
“With the disparity between the official fixed CBN rate and the I&E Window, there is only one direction of the naira: which is a further devaluation. We cannot anticipate in 2021 a strengthening of the naira against the dollar when there are no indices to support that.”
“The oil price at the international market in 2021 will not get to the level where the country will be awash with dollars. Hence, it is more likely than not that the naira will reach N500 this year,” Olugbenro said.
Bismarck Rewane, Financial Derivative Company (FDC): Currency pressures are expected to taper due to World Bank loan disbursement ($1.5bn), and increase in Diaspora remittances on the back of the CBN’s policy change. However, pressures are expected to resurface on increased capital outflows, heightened forex demand and dollar dearth, driven by weak macroeconomic fundamentals.
Another currency adjustment is likely in 2021. The IEFX rate will oscillate between N410- N420/$.
Lucky Djebah , head of corporate finance, Alpha Morgan Capital Group: My view on the exchange rate is that we will see one or adjustment this year given that we are having a balance of trade deficit.
Our major source of revenue which is oil will remain within 50-55 levels. Diaspora remittance which also gives support, is strain, and we don’t see it recovering fully.
I do not see a unification happening this year. The reason being that we haven’t addressed the structural issues wrong with our economy.
Our source of revenue, which is oil, is fast waning, with the high adoption of electric cars, as the world moves towards green energy.
We also have a US elect who is an environmentalist. His decisions would have a negative impact on oil unlike Trump who doesn’t care about fossils.
In light of all that, I don’t see us achieving a complete unification this year, just that the spread will close.
Muda Yusuf, Lagos Chamber of Commerce and Industry (LCCI): The CBN is expected to maintain intervention sales in the FX market to support the naira. Nonetheless, FX illiquidity challenges may persist in the year 2021 depending on the performance of the global oil market and the policy environment around the forex market.
The effectiveness of the recent diaspora remittance policy aimed at encouraging liquidity and promoting transparency in remittance transactions depends significantly on the size of diaspora remittance inflows into Nigeria.
However, we expect remittances to remain likely to remain subdued in the short-term due to the COVID-19 global disruptions as remittance flows are dependent on economic conditions in host economies especially the United States and the United Kingdom.
Mosope Arubayi, chief economist, Vetiva Capital Management Limited: The uncertainty in advanced economies regarding the pandemic will continue to dampen the demand and price of oil.
Yes, we have seen foreign investors return to emerging markets but Nigeria that used to be a destination market is now not the most attractive because of the many structural issues, particularly, FX related and this will also contribute to the gap in the FX market.
Paul Uzum, managing director, Halo Nigeria Capital: I do not expect rate convergence any time soon. This is because Nigeria still has acute dollar scarcity.
“Foreign portfolio investors cannot take their money out of Nigeria because there is no supply. So they too are not willing to bring money in. The government seems to be the only big seller of FX. The government is in a tight corner in the short-medium term, the option is to supply at the expense of your reserves,” Uzum said.
Boboye Olaolu, sub-saharan Africa economist at CSL, Stockbrokers Limited: For us, the fair value of the naira is around N420/$, based on our methodology of Non Deliverable Forwards (NDFs), which shows us what the naira should be trading at in the next 6 months -1yr period. We do not use the PPP because of inflation. Nigeria’s inflation is largely supply sided driven. That would have been obtainable for us, supposing our inflation were driven by monetary factors.
On the rate unification, it should have happened last year, not sure the fundamentals support it this year.
Fola Abimbola, consumer analyst, FBN Quest: We expect the naira to get to N420 this year at the I&E Window.
Despite the fact that the apex bank keeps supplying, they are still not meeting up with FX demand particularly from offshore investors. Hence, we see a slight adjustment of the currency.
I don’t see a full unification of the rates happening this year. The divergence in the parallel market will continue to be there, and I do not see any convergence soon.
Johnson Chukwu, MD/CEO, Cowry Asset Management Limited: We should see some level of stability of the exchange rate this year. We have seen oil prices climb to $55 per barrel, and OPEC is trying to increase production.
Hopefully, by the end of the second quarter of the year, the coronavirus vaccine would have been well distributed. Hence, we should expect economic activities to have fully resumed.
Also, as we know, even countries that are severely affected by the pandemic are not enacting total lockdown measures like we saw last year.
If the government enacts sound policy measures, helped by the above, we would see FPIs start returning, and this would improve our reserve, giving the CBN the war chest to continue to defend the naira and clear the backlog of demand.
If we have a reserve accretion and the CBN is able to meet demand of portfolio investors, we will see new ones coming in.
The unification of the CBN adjusting the official rate to be more market reflective, which is the I&E Window.
Anonymous: The activities of the FX market in 2021 will be dependent on some variables like the interest rate and inflation which determines how fast the value of a currency erodes, however, the opening of the border closure might drive a slowdown in the inflation rate.
As economic and commercial activities resume fully, the FX market will be pressured and the CBN might be forced to further devalue the naira especially if they want investors to flood the market.
Abimbola Omotola, senior associate, investment research, Chapel Hill Denham: Last year, we saw a much bigger depreciation in the parallel market which is more market-determined as naira was down by more than 20 percent as well as a rising spread between the official and parallel market rates, although the CBN took some steps in the right direction through its FX management policy by making quick adjustments to the FX rate to limit the pressure on the exchange rate what they did was not impactful enough.
Shakirat Anifowoshe, a Lagos-based investment analyst: A unified FX window will leave little or no room for arbitrage, ease the decision making of businesses, and converge liquidity to the formal channels.
“While we acknowledge the attempts by the CBN to adjust the rates at the official window, we do note there are still obvious gaps between the official and parallel window rates.” Anifowoshe said.
