29 December 2013, Lagos – As concern mounts over the volatility in the foreign exchange market and the attendant pressure on the naira, money market affairs watchers, who acknowledged the efforts of the Central Bank of Nigeria so far to defend the local currency, however, argued that the implication of the volatility is grave for an import-dependent economy like ours, report Festus Akanbi and Obinna Chima
The widening gap of the value of the naira against the dollar in the various segments of the foreign exchange market has remained a source of concern to policy makers, investors and those that need international currencies for transactions.
The sad development even becomes worrisome considering various measures introduced by the Central Bank of Nigeria, CBN, during the year to reverse the trend, which appears to have failed to achieve the target.
Specifically, the naira, which stood at N155.70 to a dollar at the CBN regulated Retail Dutch Auction System, RDAS, otherwise known as the official market last week, is sold at N173 to a dollar at the parallel market; N171 to a dollar at the Bureau De Change, BDC; and N159.86 to a dollar at the interbank.
The discrepancy among the market has been a source of concern to a lot of people. The parallel market, also known as the black market, where the naira has depreciated significantly, is the unofficial segment of the forex market. It is not under the control of the CBN and there are indications that the huge demand for the greenback observed recently at that segment of the market was as a result of some regulations by the apex bank.
Nevertheless, the parallel market is regarded as the smallest arm of the market and is not necessarily seen as a threat by the CBN.
However, some currency analysts argued that with the trend, it was obvious that the CBN’s strategy of defending the naira with the external reserves was not effective. They also forecast that the naira might depreciate further at the parallel market.
Measures by CBN
Disturbed by what it described as the perceived dollarisation of the economy, the CBN this year adopted policies that would reverse the trend. For instance, the central bank’s official forex window, otherwise known as the Wholesale Dutch Auction System, WDAS, was suspended, while the RDAS was re-introduced. The policy was expected to create short-term scarcity of the dollar and a marginal depreciation at the BDC segment of the market. However, observers have argued that this was yet to happen.
Also in a circular during the year, the central bank directed that receipts of proceeds of international money transfers should now be paid in naira, while at the same time increasing the ceiling on the naira debit and credit cards allowance to $150,000 from $40,000.
In addition, the regulatory body revoked the operating licences of 20 BDC dealers. According to the CBN, the affected BDCs did not render returns on utilisation of the forex purchased and also failed to provide documentary evidence that their purchases were utilised for eligible transactions.
Furthermore, the central bank proscribed the importation of all foreign currencies by banks into the country, saying that the policy was part of its resolve to save the naira as well as the economy from external threats and dominance.
Central Bank’s Position
To the Deputy Governor, Corporate Services, CBN, Alhaji Suleiman Barau, contrary to speculations that the naira is not measuring well against the dollar, the nation’s currency has outperformed the greenback and other international currencies.
Suleiman had argued that the naira only recorded a slight depreciation at the BDC market and has since stabilised following measures put in place by the CBN.
According to him, “The naira is not falling. The most important aspect of the market is the interbank market and the RDAS and the naira has not depreciated in these markets.
“We had a slight depreciation on the BDC market and we are addressing that. As you may know, the parallel market is less than five per cent of the entire money market, so no one can claim that the naira is falling.”
On analysts’ forecast that the naira may decline further against the dollar in 2014, he said such position was not correct when measured against the nation’s economic indicators.
“There is no reason for anybody to speculate that the naira will fall drastically against the dollar next year. The economy is growing, the country’s fundamentals are very strong, our external reserves are stable and we have a credible central bank. There is no reason for anybody to think in that direction,” he said.
On his part, CBN Governor Mallam Sanusi Lamido Sanusi had explained that the illegal activities of the BDC operators were partly responsible for the volatility observed in the BDC and parallel segments of the forex market.
He explained: “There are banks that were importing cash in millions of dollars and were selling to BDCs. We went to those BDCs to show us what they did with the dollars and they could not.
“Nigeria has overtaken Russia as the biggest importer of United States dollars. This country imports more US dollars in cash than any other country in the world. Who are the people that can afford dollars? It is people who don’t have to borrow. People that have access to free naira they did not borrow from banks.”
Also, the CBN’s Deputy Governor in charge of Economic Policy Mrs. Sarah Alade had expressed concern over the strong foreign exchange demand from domestic sources, which according to her, were not linked to increase in the import of goods and services.
According to her, if the trend is not contained, it could pose grave threats to the value of the naira as well as the Nigerian economy.
“The re-introduction of the RDAS is expected to prevent round tripping of foreign exchange purchased at the CBN official window to unauthorised channels,” she added.
Implication for the Economy
To the London-based Emerging Markets Analyst at Standard Bank, Mr. Samir Gadio, the improving forex picture was at the expense of a wider spread between the official, interbank and parallel rates. It is worth adding that the CBN recently introduced some regulations restricting the selling rate of forex by banks to BDCs to a maximum one per cent margin above the prevailing interbank exchange rate. Also, the BDCs’ margin has been capped at two per cent above their buying rate.
Gadio added: “The impact of this measure – which is difficult to effectively monitor -has not yet filtered into the market, as the elevated spread between the interbank and parallel rates still persists.
“It must, however, be said that the parallel market is the smallest of the three existing forex markets in the economy, and as such the differential with the CBN and interbank rates is not necessarily a major concern for the central bank at this stage and does not point to a likely depreciation of the other forex rates.”
But Gadio advised that the name of the next CBN Governor should be announced in advance (perhaps three months before June 2014) so that the market can assess institutional and monetary policy risk adequately.
The idea, according to him, would be to reduce the possibility of a build-up of pre-emptive long dollar positions before the end of Sanusi’s tenure.
He added: “The main upside risk to dollar/naira in the second half of 2014 would come from a potential shift towards a more accommodative monetary stance that would be counter-productive in addressing the likely loss in confidence in the naira ahead of the 2015 elections, coupled with a loose fiscal stance and a possible start of quantitative easing tapering.
“Sanusi has also committed to ensuring a stable exchange rate regime until the end of his term in June 2014, which suggests that the CBN will step in to address any short-term pronounced weakness of the naira over the next six months or so either via the interest rate or forex sale routes (or both).
“In this regard, the central bank clearly has enough forex reserves to defend dollar/naira stability – its nominal monetary policy anchor – and tackle temporary mismatches in dollar supply-demand in the market.”
In her view, the Regional Head of Research, Africa, Standard Chartered Bank, Razia Khan, argued that the CBN may defend the current forex exchange band (around a mid-point of 155) up to a point, and may tighten policy to achieve this.
“Should the naira trade consistently outside this band even after tightening, we believe the authorities will accommodate this, with the mid-point of USD-NGN implicitly shifting to 160 in 2014,” she added.
Naira Still within the Approved Band
In his opinion, Head, Research and Intelligence, BGL Plc, Mr. Olufemi Ademola, said it was wrong to assume that the naira had gone beyond the band put in place the CBN. “The band is N155 +/- 3%, which means that the Naira is expected to float between N150 – N160. According the CBN, the current official rate is N155.20, so it is still very much within the official band.”
Ademola explained that the interbank rate and parallel market rate are usually subject to demand and supply and since the supply from the CBN has reduced since the adoption of the RDAS, demand has consistently outstripped supply at those markets. “In addition to the dollarisation of the economy, as posited by the CBN, the strong demand for foreign exchange is the cause of the downward trend in the naira.
“Several commentators have spoken about the undesirable effects of a weakened currency for Nigeria, being an import-dependent country. That is probably why the CBN is doing all possible to ensure the stability of the Nigeria. As it stands now, businesses with genuine needs for importation can access foreign exchange from the CBN. What the CBN has done is to ensure that only genuine needs for foreign exchange are met from the official market. However, since quite a lot of importers may not have the patience of going through the CBN, they may use the parallel or interbank market at a higher cost which would be passed on to the consumers,” he said.
He noted that the amount sold at the CBN auctions appear to have stabilised between $300m and $400m per auction. Since the demand have been met without any serious volatility on exchange rate at the official market, it should be possible for the country to grow external reserves. In fact, the adoption of the RDAS is to prevent speculations on the naira and thus allow for stronger accretion to the external reserves.
He said: “However, the issue of dwindling national revenue from oil could be another important source of concern to the accretion to external reserves. With strong oil revenue and stable exchange rate, there won’t be any reason for non-growth the country’s reserves.”
Raising the prospect of further tightening of the monetary policy, Ademola said, “I think the monetary policy committee has already given us a peak into 2014 when they commented on the front loading of political activities and when they set an inflation target of between 6% – 9%. That seems to say that we should expect monetary tightening (more likely further tightening) to arrest the development. In addition, by adopting the RDAS, the CBN has reduced the amount of dollars that could be easily circulated in the polity. However, the wager is out whether that would be enough to prevent strong naira exchange volatility by the middle of 2014.”
Another financial expert, who is also the head, Research and Investment Advisory, Sterling Capital Markets Limited, Mr. Sewa Wusu, believed the closure of the CBN’s forex window for the year might have exacted pressure on the naira. According to him, this coupled with the announcement by the U.S. Fed to taper stimulus may have also led to increased demand for forex as Foreign Portfolio Investors disconcerted by the announcement may have begun to wind down their holdings in some asset classes particularly government securities.
“Also recall that the need to curtail excess demand and achieve a realistic value for the naira led to the reintroduction of the RDAS in allocation of forex to ascertain legitimate demand. But immediately this was done we saw pressure at the BDC segment, which widened by about N14 spread at N170/$ to the official rate of N155.72/$. Currently, the gap between official and parallel market is over N14. As such I see CBN raising the forex band in 2014.”
Threat of Inflation
He maintained that a weakened naira has implications for the economy. “It means that the prices of goods and services imported into the country will rise and this will induce imported inflation. The marginal propensity to import in Nigeria is currently about 0.7 per cent, which means that we depend heavily on imported goods more than we can produce domestically. It also means that purchasing power will drop, which will make standard of living to fall. It will also send most workers into the realm of deficiency wages and potentially wipe off the middle class that is currently emerging in the economy.
“Businesses will also have to contend with the depreciation of the naira because it will raise the cost of imports in terms of raw materials and thereby impact on operating costs for them. A depreciating Naira would automatically imply increase in the cost of goods and services.
“Also a depreciating naira would most likely induce flight to forex as a more confident store of value, which may potentially lead to the dollarisation of the economy as demand for dollar will increase thereby putting intense pressure on the foreign exchange market.
“I think pressure on the naira is expected to intensify in 2014 as the general elections draws closer. Government expenditure is expected to increase as politicians build up funds for elections. As the case has always remained, we expect to see some level of fiscal bagginess. But the CBN will want to react by exacting monetary tightness in 2014 as an anticipatory antidote against increased liquidity, which we may begin to witness in 2014 ahead of the elections in 2015,” the Sterling Capital official stated.