The exchange rate: N950/$ may be better than N650/$

The Chairman of the Presidential Committee on Fiscal Policy and Tax Reforms, Taiwo Oyedele, told Bloomberg in an interview two weeks ago in South Africa that the Nigerian Government had set its sights on achieving an exchange rate of N650 to the dollar by December 2023. Is this rate achievable and sustainable? Is it possible that a unified exchange rate of N950 to the dollar might be a better choice than the proposed N650/$1 rate? Even if N650/$1 is attainable by December 2023 or June 2024, will it be sustainable and thus good for the Nigerian economy and people (investment, inflation, jobs, growth)?

Nigeria has a historic opportunity to initiate an “unorthodox” forex policy that supports investment, growth, export diversification

Traditionally, the Central Bank of Nigeria (CBN) has intervened in the forex market to maintain a high exchange rate (i.e. to prevent depreciation of the naira or to stimulate an artificial appreciation of the national currency). This intervention typically occurs during periods of plummeting crude oil prices, which tends to happen roughly twice every decade. Nigerians feel entitled to a high exchange rate and mostly view it as a variable completely under government control rather than driven largely by global economic cycles and geopolitics. A falling exchange rate is thus politically unacceptable for a host of important stakeholders. Nigeria has consequently calibrated policy to target a high but unsustainable and economically disruptive exchange rate rather than a stable one (which stimulates investment and growth).

When oil prices are high, the exchange rate allows the Nigerian middle class to send children to British universities, including struggling backwater institutions, and buy Korean cars en masse. (The current wave of Nigerians paying for British university degrees are investing in British residency and not British education). A good chunk of what Nigeria earned from high oil prices before the 2014 crash was spent importing Hyundai and Kia cars which a lot of professionals could afford to buy after 5 years of employment.

Nigeria has a historic opportunity to initiate an “unorthodox” forex policy that supports investment, growth, export diversification, etc. A (developing) nation’s exchange rate is indeed too important to leave completely in the hands of “market forces”. The CBN should “manipulate” the market- this time not to defend the naira against depreciation or to support its appreciation but to maintain the stability of the exchange rate at approximately N950/$1 (while doing everything to keep stimulating forex inflows).

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This targeted rate could be maintained for a considerable period, spanning five to seven years, effectively ensuring exchange rate stability. At most, it would require only modest, non-disruptive depreciation. This approach would lead to the accumulation of forex reserves, bolstering both external and domestic confidence in the naira while also mitigating inflationary pressures. Furthermore, a stable (unified) exchange rate at N950/$1 would act as a “protection” against imports, encouraging investments not only in manufacturing but also in the production of essential input materials. Businesses don’t invest in Nigeria because the exchange rate is too high or too low; investors avoid Nigeria because the exchange rate is unstable and stokes recurrent cycles of inflation that keep crushing purchasing power.

Given the current state of the naira, achieving a stable exchange rate is well within reach through transparent and consistent reforms. This represents an immense economic opportunity. While it might be tempting for Nigeria’s decision-makers to aim for a short-term appreciation of the national currency, such as N650/$1 or N700/$1, it’s a more prudent choice to aim for N950/$1 or N1,150/$1. These rates may not immediately position the new authorities as financial wizards who miraculously restored the naira’s value, but they will certainly prevent undue stress on the naira and the economy in the near future.

An exchange rate of N950 to the dollar carries no political costs, but it holds the promise of substantial political and economic benefits over the medium to long term. In the short term, it could allow the CBN and the Federal Government to claim stabilizing the exchange rate as a significant economic policy achievement. This approach effectively mitigates the economic risks and hardship, and potential political setbacks associated with continued exchange rate instability or repeated rounds of depreciation of the naira. Furthermore, it provides a strong impetus for exports and economic growth even within the medium-term horizon.

If the current administration embraces a N950/$ exchange rate, it may well be remembered as the government that ushered in a new economic era for Nigeria, prioritizing exchange rate stability, economic growth, and export expansion over political management of the exchange rate. This shift would mark a departure from the historical pattern of splurging on consumer goods imports when oil prices are high and exchange rate instability. (Diminished oil production has made the former impossible for now).

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Conversely, a strategy and messaging centred around a N650/$ exchange rate is very clearly a choice that will generate economic and political challenges that will manifest rapidly. Presently, the Central Bank of Nigeria (CBN) follows a somewhat “piecemeal” reform strategy. While the N650/$ target has been announced, uncertainties persist within the market regarding the source and depth of funds being allocated to settle forward contracts. Additionally, concerns persist about Nigeria’s ability to accumulate sufficient reserves to meet the demand that such a target rate would likely stimulate by January or March 2024. Unfortunately, the preference for obfuscation over transparency persists.

In summary, the choice of a (unified) N950/$ exchange rate, in contrast to the N650/$ option, not only promises more substantial long-term benefits but also mitigates economic and political risks, aligning with a strategic vision for Nigeria’s economic stability, growth, and export competitiveness. The longer Nigeria delays adopting an exchange rate that unmistakably indicates the naira has reached its lowest point, thus curbing the conversion of naira savings into dollars and encouraging forex inflows, the lower the exchange rate that will be required to eventually stabilize the naira. While around N950/$ could be effective today, waiting might necessitate a rate as low as N1600/$ to establish credibility and confidence in March 2024.

Agboluaje is managing director, WNT Capitas