Stop Digging

The CBN needs to come up with a well-thought-out policy plan (one of which should firstly address the exchange rate conundrum) to support the actions taken by the fiscal authorities, on — what hopefully is — the long painful road to economic recovery and reorientation

This is a quote from the conclusion of an article I wrote, in January, on the makings of a currency crisis.

CBN has been reactive to addressing the issues since the start of the currency crisis facing the country. So when the revised guidelines for the foreign exchange market was announced in June with the introduction of a futures market. It would seem that they had gone back to the drawing board to come up with a plan to finally address the FX problem by implementing a flexible exchange rate policy; there was hope, joy in the land. At last — a step in the right direction, the beginning of an economic recovery. The reaction to the announcement was almost reminiscent of the time a certain tyrant, that ruled this nation, died when the news of his untimely death reached the populace.

But we should have known better. The writings were on the wall.

I was skeptical though and shared my dissenting opinion with a few friends some days before the market officially opened. At some point, i also wrote on why free-float isn’t the best option at this time. The concluding part of the tweet below was a summary of my thoughts.

If actions taken by the fiscal authorities to salvage the economy haven’t amounted to anything, why did we expect CBN’s to be any different? Did we choose to simply forget our collective acquiescence to the apex bank’s lack of autonomy from the Presidency?

But there is no going back now.

The market had barely opened when the new policy began to go awry; CBN changed the FX Primary Dealers structure* in less than 24 hours of its introduction. The new revised guidelines were already been altered and that begs the question, wasn’t it a well-thought-out policy document?

From then on, it began to unravel as decisions, that undermines the policy framework, with glaring political overtones, were reached. Some of which were:

  • Introduction of an artificial peg through moral suasion to manage the exchange rate that wasn’t tenable;
  • A mandate forcing banks to sell dollars to BDCs. The same BDCs they described as rent-seeking companies that do no good for the economy a few months ago;
  • A directive to sell pilgrims travel allowance at a disparate exchange rate;
  • And now the latest, which finally comes full circle, instructing all banks to sell 60pct of forex allocation to manufacturers, inadvertently driving other fx end-users to the parallel market. As at yesterday, parallel market was already at a 30% premium.

Given all indications, regardless of how much Mr. Governor wants everyone to believe otherwise, CBN is running an exchange rate regime contrary to its policy framework/document.

And If they continues flip-flopping and sending mixed signals by continuously altering the framework without giving it time to function, they will eventually find themselves in a more difficult situation, where the economy would have a significantly weakened currency with high interest rates but no correlated foreign investment flows to provide succour.

A situation Ghana found itself and required a bailout from IMF/World Bank in 2014. The cedi depreciated by 40% against dollar becoming the worst performing currency that year, which sparked a rise in the cost of living as inflation hit 15%. The Ghanian government had to raise its benchmark interest rate to 19% in hopes of curbing it.

As it stands, Naira has already depreciated by over 40% in the past year and short-term investment yields are currently hovering at 19% trying to outdo inflation. At this rate we might have to add currency-crisis to join jollof-rice as a topic for debate in the never-ending Ghana versus Nigeria competition.

However it’s not all gloom. Luckily, these economic numbers that look bad right now are attractive indicators to foreign investors. And to provide any form of respite for the economy that is currently starved of foreign exchange, the quickest alternative source of funding can only come from portfolio investments.

Hence the reason why its lured by the apex bank, so badly, with irresistible pricing in the futures market.

Available contracts in the OTC FX Futures Market. So CBN expects the naira to appreciate to these levels?

But for us to attract substantial foreign portfolio investment (FPI) flows, sufficient to assuage our FX demands in the near-term, the CBN needs to stop digging itself into a hole — allow its flexible exchange rate policy be — and just adopt a laissez-faire approach this one-time.

One cannot over emphasise that this approach will allow the exchange rate find an equilibrium as market players determines its price – true price (currently the fx market has multiple exchange rates). This activity will give confidence to more investors to bring in more flows. The only major concern if they drop the shovel will be the availability of foreign exchange at time of exit for these FPIs. Which can be gradually funded from FG’s oil receipts and dollar borrowings or entrants of new flows. The CBN can also have dollar borrowings targeted for these purposes à la currency swaps.

Adopting a laissez-faire approach might not be the panacea to the many facets of this crisis. But for now, it is suggested as a short-term means to the current palliative stance by the CBN in managing the FX supply problem.

touted on the front page of the dailies as succour

Lest we forget, these FPI flows being coveted now were disparaged about 12 months ago. Another one of the countless narratives that perfectly accentuates Nigeria’s hindsight.

*The idea of FX Primary Dealer strucutre is sound as not all banks have the same might. But since the CBN is practically the major supplier of FX in the interbank market, the smaller banks might currently seem to be at a disadvantage. I will like to see this policy return when the fx market becomes liquid again.

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