The national currency of Nigeria, the naira, is under tremendous pressure amid the crisis in the financial sector after the sacking of key bank executives and the suspension of trading in their shares., a photo by Pan-African News Wire File Photos on Flickr.
Salvaging the naira through effective fiscal policies
Wednesday, 23 May 2012 00:00
By Femi Adekoya
Business Services
Nigeria Guardian
IN economics, depreciation is basically the symptoms of an underlying problem, specifically imbalances in the Balance of Payment (BOP), emanating from excess demand for foreign exchange. Fluctuations in currency value are common events and are usually no cause for concern. The minor daily increases and decreases in value are generally due to random movements and not to an economic event or fundamental problems.
However, changes in currency value become significant when the decline in value of the currency is an ongoing trend. Technically, when currency depreciates, it loses value and purchasing power, with impact on the real sectors of the economy. Many private and public firms are beginning to feel the pains of Nigeria’s unstable currency.
As the Monetary Policy Committee meets, the sentiment is that the body may remain neutral in its interest rate decision despite the rise in headline inflation by 0.8 per cent.
Last month, Nigeria’s inflation rate rose to 12.9 per cent, driven largely by non-food items and compared with a 12.1 per cent increase in March.
However, the committee’s stance will depend on its view of where future inflation is headed rather than the historical inflation rates. With the Monetary Policy Rate (MPR) of 12 per cent only 0.9 per cent lower than the current headline inflation rate of 12.9 per cent, the committee may rely on other policy instruments like the Open Market Operation (OMO) to mop up excess liquidity, mostly caused by fiscal expansion.
Inconsequential as the change in the inflation rate may be, it may have some effect on naira depreciation in the long run. The Nigerian economy is one of the fastest growing in the world and bond yields are attractive, however, poor fiscal management has had a tendency to build inflationary pressures.
The Central Bank of Nigeria has been struggling to keep the naira within a band of five per cent above or below N155 per dollar as oil prices declined and demand for imports surged. The bank pegs the currency to help keep price pressures under control. The naira fell to its lowest level in two months, N158.90, against the U.S dollar on the interbank market last week, on strong dollar demand from investors.
Already the battle to save the euro has been a major concern to the European Union, considering the continued battering of some European countries’ economies. The rationale for European issuers to bring bond deals denominated in the single currency is fast disappearing, as continued volatility means that issuing conditions remain highly unstable and the relative costs of funding actually make it cheaper for many borrowers to issue in dollars and swap them back to euros.
Hitherto, the release of the figures by the National Bureau of Statistics (NBS), the Central Bank had warned that inflationary pressures are too strong, hinting that it is likely to keep monetary policy tight this year, but nobody expects a rise in rates at the next meeting, from the 12 per cent last month.
Anticipating a need to avoid another possible downturn in the wake of the euro crisis, the Coordinating Minister of the nation’s economy and Finance Minister, Dr. Ngozi Okonjo-Iweala in an IMF online interview, noted that with the amount of fiscal space left for many countries, to take proactive measures is now limited.
She said: “We now need to look, with the help of the international institutions, at how we can rebuild fiscal space and rebuild buffers. I think that African countries also need to look inward. They need to learn how to better mobilise their own domestic savings, be more robust in their approach to tax, and also stimulate the growth of sectors that can diversify their economies to limit their dependency on commodity booms”.
Specifically, the woes of the naira began between 1960 and 1970 when the country witnessed a fixed exchange rate, which increased only marginally up to the mid-1980s with the naira exchanging for about N0.61 to the dollar.
However, it depreciated to N2.02 to $1 for the first time in 1986 at the inception of the World Bank-International Monetary Fund, IMF-imposed Structural Adjustment Programme (SAP).
The steady decline of the value of the naira from N117 to a dollar in 2007 to the present rate of between N155 to N160 to the dollar has been a source of worry especially to private sector operators. Perhaps even more worrisome is the high volatility in the exchange rate of the currency, raising many questions about the future of the naira.
In its quest to achieve macro-economic stability, the Central Bank of Nigeria (CBN), had established a market-determined nominal exchange rate using the Inter-bank Foreign Exchange Market (IFEM), the Autonomous Foreign Exchange Market (AFEM), the Dutch Auction System (DAS), and the Wholesale Dutch Auction System (WDAS), to stabilise the naira and boost non-oil export. But the naira has continued to slide against the major world currencies, a situation which economists say should boost export as is the case with China and India. The reverse is the reality in Nigeria due to its high consumption level compared with its low industrial capability.
Since 1994 when the naira was officially devalued by 46 per cent, it has continued on a downward slide. In the last quarter of 2008, Chukwuma Soludo, the then governor of CBN, adjusted the exchange of the naira by 20 per cent. That was after stabilising it at N117 to the dollar for almost three years. Since then, the naira has been fluctuating and losing its value relative to other major currencies.
Nigeria is thus fighting one of its longest and toughest battles – the battle to save the naira. When the price of crude oil peaked at $147 per barrel in July 2008, the apex bank assured that the prices would remain at elevated level and thus ensure the stability of the foreign exchange for a long time. But it did not take till the end of that year before the naira lost out again when the price of oil plunged to $40 per barrel. The naira then lost N14, N16, and N22 at the official, inter-bank and informal markets, respectively.
Dismayed by the statistics, CBN was forced to suspend the WDAS, replacing it with the Retail Dutch Auction System (RDAS), in January 2009. This enabled the apex bank to be directly involved in the sale of foreign currencies and to strive to curb round tripping and frivolous demands for foreign exchange by banks and other forex operators.
When it was re-introduced in 2009, CBN had explained that it would help to stimulate activities in the interbank foreign exchange market and bring stability to the foreign exchange market in general. But the demand for the dollar continued to outstrip supply, resulting in further decline of the national currency at the official and parallel markets.
The CBN under Lamido Sanusi, its governor, has also not succeeded in stabilising the naira for it to impact positively the national economy. Since June 2009 when the present management came on board, the naira has a quarter of its value. There is no sign yet that the apex bank has the ability to change the fortunes of the naira anytime soon. Nigerians are alarmed at not only the sliding value of the naira but the instability associated with it.
On its part, the IMF had expressed concern over the country’s dwindling foreign reserves, noting that the country had continued to use its foreign reserves to meet its foreign exchange demands and to strengthen and defend the value of the naira.
By IMF’s projection, the naira may continue to lose its value and even exchange for over N200 to the dollar in the coming years if the situation is not arrested.
Emphasizing the need for diversification, Okonjo-Iweala noted: “We need to diversify the economy itself into sectors such as agriculture, where we have a strong comparative advantage. I think Nigeria should not even be importing most of the food it currently imports. We spend about $10 billion a year on food imports of things that we could grow, like rice, fish, sugar, and wheat for bread. Actually we do not grow wheat very well, but we can substitute cassava flour for wheat flour. If we pursue the development of these sectors, then we will create jobs and we will diversify”.
On his part, an economist and monetary analyst, Mr. Henry Boyo, has asked the Central Bank of Nigeria to take measures capable of reducing the Monetary Policy Rate from 12 per cent to a single digit.
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