The International Monetary Fund (IMF) has again urged the Central Bank of Nigeria (CBN) to quickly come up with a clear strategy and timeline on how it intends to achieve full unification of the country’s multiple exchange rates.
According to the IMF, this will enhance foreign exchange availability for FX-strapped businesses, promote both domestic and foreign investment and create conditions for a boost in economic activity for Africa’s most populous country.
Speaking with members of the American Business Council, Jesmin Rahman, the IMF’s mission chief for Nigeria, said it was important for Nigeria to have a well-functioning foreign exchange market with uniform rules of engagement.
“This will enhance confidence, improve business continuity and governance,” Rahman said, noting, “In addition, greater flexibility of the exchange rate is desired because of Nigeria’s low buffers.”
She is not the only one calling for the unification of Nigeria’s foreign exchange rates. Several leading economists in Nigeria as well as President Muhammadu Buhari’s economic council have long prescribed the measures as necessary for the country to exit the tough business climate, which it finds itself.
At Wednesday’s breakfast meeting of the Lagos Business School, the issue was top of mind for the CEOs who attended the meeting.
While Nigeria has pledged to merge its multiple exchange rates at the more market-reflective Investors and Exporters window rate, the CBN has seemingly been reluctant, fearing that this could plunge the economy into further turmoil.
The apex bank has moved the official rate from N305 to the dollar first to N325, then N360 and now to N380, but the drip-feed approach to the unification has occasioned more pain and confusion for investors.
The IMF’s Rahman believes there is still a long way to go given the multiple windows, large parallel market premiums, and low turnover in the I&E window, which many now hope will become the only market.
There is a record N80/$ gap between the I&E rate and black market rate, a sign of the growing FX illiquidity in the country, and the longer it takes Nigeria to get its acts together, the harder businesses and households would suffer, analysts say.
Due to the FX shortages, manufacturers have been unable to open letters of credit required for imports of key inputs.
The dollar shortages have also taken a significant toll on banks that announced plans to reduce the amount customers could spend abroad using debit cards last month, as lenders try to limit foreign currency settlement risk.
One of the banks planning the move, Zenith Bank, says it will temporarily suspend the use of debit cards abroad for cash withdrawals and cut the monthly spending limit abroad by more than half to $200.
The tier-one bank says “the review is in response to today’s economic realities,” in a notice, advising clients to request prepaid dollar cards.
A source familiar with the matter says, “There appears to be an attempt to suppress demand for FX, and that means we are headed for the rocks.”
Bankers say the dollar crunch means it now takes more than six months to settle foreign lines of credit.
David Cowan, Citi Bank’s chief economist for Africa, however, bet on the CBN to resolve the crisis soon, saying it would be “fundamentally depressing” if issues surrounding Nigeria’s foreign are not resolved faster than it took the central bank after the 2015 crisis.
“So, I think we’ll see a speedy response, which I hope would speed up the recovery and I still expect to see some sort of exchange rate adjustment in the NAFEX in the final quarter of this year,” he says.
The collapse of oil prices in March forced the central bank to take the first step, adjusting its official currency peg against the dollar. The adjustment was cheered by the IMF, from which Nigeria obtained a $3.4 billion emergency loan.
The Fund approved the loan after Nigeria promised to seek a unified and more flexible exchange rate, even though that was not a precondition. Authorities are also in talks with the World Bank for another loan needed to cover its budget gap.
Nigeria’s multiple exchange rates practice started in 2016 following a sharp drop in oil prices.
Exchange rate unification was part of policy commitments made by the Nigerian government as part of reforms to be implemented after the COVID-19 pandemic struck.
Other commitments include resumption of domestic revenue mobilisation once the crisis passes, transparent use of emergency fund through various measures introducing budgetary lines and having an audit of these funds, and safeguard assessment of the central bank.
One of the recommendations of the Economic Sustainability Committee (ESC) headed by Vice President Yemi Osinbajo, was to “unify exchange rates to maximise naira returns to Federal Account Allocation Committee (FAAC) from foreign exchange inflows” and “manage the exchange rate in a sustainable manner.”
This sent out the signal that Nigeria will exit its baseless pursuit of managing demand of FX and instead go for broad policies to promote supply and help Nigeria to become competitive in attracting inward investment.
Nigeria’s foreign reserves are under $36 billion but there is probably a FX demand backlog of around $5 billion and then add the estimated value of swaps of around $7 billion.
At the LBS breakfast meeting, CEOs outlined the many benefits of having a unified exchange rate as well as a market that is free from the grip of the central bank.
These include the boost to government in terms of higher revenues.
“A rate convergence will be positive for monthly revenue shared (FAAC) between all tiers of the government, which includes revenue generated from sales of crude oil,” said Ayodeji Ebo, MD Afrinvest Securities Limited.
“Now that things are tight they should be able to share revenue based on prevailing rates and not one fixed by the CBN,” Ebo said.
The long-standing argument has been that by unifying the windows and allowing market-driven pricing, there will be a scope for increased capital inflows into Nigeria and a boost in dollar liquidity.
The case of Egypt that utilised the 2016 oil crash to float its pound and the consequent inflow of investments into its economy is a clear indication of how much investors value market forces.
“The multiple exchange rates have been a major challenge for investors when bringing money into the Nigerian economy vis-à-vis peers sub-Saharan Africa and emerging markets,” Gbolahan Ologunro, equity research analyst at CSL Stockbroker, said.
“By collapsing the exchange rate, the country would also successfully de-risk the exchange rate from shocks in the external sector, such as a decline in crude oil price,” he said.
The existence of multiple windows has created room for arbitrage and unfair pricing, which discourages investors from buying Nigerian assets even if the opportunities to invest are attractive.
To attract dollars and keep the naira stable, the country has had to keep its main interest rate (Monetary Policy Rate – MPR) elevated at the cost of domestic growth.
For an economy with growth concerns, this would be an opportunity to avoid costly trade-offs involved in currency stability.
Substantial capital inflows into the economy are also critical due to Nigeria’s balance of payments deficit, which economists expect to hit $7 billion this year.
However, the creation of multiple exchange rates by the CBN has been justified in the past by the apex bank as necessary to help the country manage its dollar shortage by selling at different rates to different sectors hence ensuring critical needs are prioritised.
An economic crisis emanating from oil declines four years ago led to the creation of window for investors and exporters in 2017 and the introduction of forward settlements in efforts to control demand for dollars and help keep the naira steady.
Economists say one dilemma in implementing a unification of rates is in regards to the timing, considering the shock brought by the global pandemic.
The initial reaction to a steep depreciation in the currency could further exacerbate the impact of the global pandemic and result in an increase in price levels.
But experts say providing a clear direction regarding FX as well as providing liquidity will result in business confidence.
“Investors need to be sure of the direction… this is a bigger problem than a depreciation or devaluation of the naira,” said Ebo, noting, “If everyone knows its N500/$ today, they will work with that rate but if they are not sure the rate will stay the same, then they get worried about losing money.”
Ologunro said the long-term gains would make up for the short term and the fact that there was greater price discovery before all the risks crystalise, the naira would be priced at its true market value.
Egypt’s message to Nigeria is that bold reforms need to happen even if they come with some short-term pains.
