Loss of central bank independence in practice: the return of the fuel subsidy
The details on the naira float that was not a float have been disclosed in recent weeks. Although many suspected that the CBN was secretly controlling rates behind the scenes, some insiders have come out to speak on it. The issue has moved from a case of “are they really doing that?” to “Yes, they are doing that”. All a bit sad seeing as we all hailed the original naira floating plan as a step in the right direction. Although not surprising seeing as the powers that be only abandoned the price fixing policies because they had to, not because they finally understood the point.
One of the things that has come to light is the return of the fuel subsidy, but first a bit about central bank independence.
The argument for central bank independence is a simple one. The central bank has very useful but potentially dangerous tools in its arsenal. These tools when used properly result in best outcomes, but when used improperly result in worse outcomes. Sometimes the use of these tools seem counter intuitive or unpopular. But sometimes counterintuitive and unpopular policy is required to get the best outcome, or at least to avoid the worst outcome. The outcome being not just at a given point in time, but in the future as well.
Politicians however tend to care a lot about now, and less about the future. Politicians also care a lot about popular opinion, regardless of if popular opinion is good or bad. Given those preferences politicians are almost always expected to opt for policy that looks good and is popular today, not caring about if it has bad outcomes in the future. The classic example is politicians choosing to lower interest rates to create the illusion of a boom in economic activity before elections, never minding that it might lead to a bigger bust after elections.
The conventional way to deal with this problem is central bank independence. Basically giving the central bank the freedom to make decisions that are good for the economy even if they are unpopular today.
Back to the fuel subsidy. There is no reason why the central bank should care about the pump price of PMS more than it cares about other prices. Its mandate is to achieve price stability in general, not with regards to any particular product. However we know that politicians care a lot about the pump price of PMS. So if we see the central bank using policy to stabilize the price of PMS then we can say for sure that the central bank has lost its independence, and that politicians are actually dictating policy.
Which is what we see in the Nigerian foreign exchange market (or maybe we should call it the Nigerian foreign exchange program because you can’t really call that a market). The central bank, and maybe the ministry of petroleum resources headed by the president, has coerced IOCs to sell their foreign exchange earnings to fuel importers at a central bank determined rate. A rate designed to keep the price of PMS fixed. What this means, given that the rate sold to importers is allegedly lower than any other rate on the market, is that the fuel subsidy has returned. IOCs are allegedly forced to sell at around N305 per $, while others buy at anywhere from N320 to N450 per $ depending on how important they are deemed to be.
How much fuel subsidy is being paid? We can’t say because we don’t even know what the proper exchange rate should be given that there is no market. It could be anywhere from N7 per litre to N70 per litre. Who is paying the subsidy? Again, we can’t say. On the surface it seems like the IOCs are bearing the costs, but I seriously doubt that the IOCs will agree to such an arrangement without extracting their pound of flesh. The details of the deal are not public.
In essence we have managed to replace an opaque and corrupt fuel subsidy system with an even more opaque, and therefore probably more corrupt, fuel subsidy system. And we have been able to do this because the central bank has lost its independence and policy is now dictated by politicians. Stellar work Nigeria. A round of applause.
As I said earlier, the central bank has many tools in its arsenal that if used properly can lead to stability, but if used improperly can lead to disaster. The politicians are at the wheel now and I fear that we have not seen the last of their work.