The Case against Naira Devaluation

(By Onoakpoma Ohimor)

Clearly, there has been a systematic and progressive decline in the value of the Naira. If reports and commentaries in the media are anything to go by, further devaluations await us. The essential question, however, is whether the past devaluations have served any positive purpose or better still whether it has improved the lot of Nigerians.

IN recent weeks the issue of the Naira’s exchange rate has again seized our nation’s consciousness. It was merely exacerbated by the suspension of the Central Bank governor sometime last February. This article seeks to examine the subject of the value of the Naira and attempts to make a case for resisting further devaluation and possible options in this regard.

   In simple terms, the value of a currency is a measure of what it can acquire by way of goods and services. The greater the value of a currency the more goods and services it can provide and ultimately enhance the standard of living of its owners.  In other words, the cost and standard of living are inextricably tied to the value of a nation’s currency. A currency’s value is typically expressed in terms of its exchange rate relative to other currencies. This is even more poignant in our interconnected world and for us Nigerians due to the high level of imports.

  The importance of the exchange rate was recently underscored by a statement credited to the suspended Governor of Central Bank of Nigeria (CBN), Mallam Sanusi Lamido Sanusi that he is ready to expend the nation’s foreign reserves to defend the Naira. With external reserves around $42 billion and monthly demand for FOREX sometimes more than $3 billion, one wonders how far our reserves can go in defending the Naira in the face of worsening oil revenues.

  Almost everyone wants a stable and valuable currency. Besides the brief explanation above, economic planners and business persons whether importers, exporters and portfolio investors are gratified by the assurance of knowing both for the present and future value of the money they hold. What then is the appropriate value of the Nigerian Naira? Perhaps in attempting an answer a look at the official exchange rates of the Naira over the past years will be helpful.

Jan 2008 Jan 2009 Jan 2010 Jan 2012 Jan 2013 Feb 2014

N116∕$ N131∕$ N147∕$ N156∕$ N155∕$ N156∕$  Source – CBN Website

   Clearly, there has been a systematic and progressive decline in the value of the Naira. If reports and commentaries in the media are anything to go by, further devaluations await us. The essential question, however, is whether the past devaluations have served any positive purpose or better still whether it has improved the lot of Nigerians.

   This leads to the issue of how the exchange rate is obtained. Modern economic thinking supports the idea of market forces of demand and supply in determining the price of goods and services.  The market would be an efficient determiner of prices if it possesses the characteristics of a perfect competitive market whose main feature is the presence of large number of sellers and buyers. The Nigerian foreign exchange market(s) (comprising WDAS, RDAS, Inter-bank etc) where the value of the Naira is determined is far from this and as such ought not to be solely relied on in determining the price (exchange rate) of the Naira.

   With the CBN as the main supplier of foreign exchange attempting to meet the demands of thousands of buyers from banks to bureau de change, importers of tangibles and intangibles and from portfolio investors seeking to take their gains offshore. Our foreign exchange market is the perfectly imperfect market expecting to benefit from the features of a perfect market. It makes no sense to tie the fortunes of the Naira and indeed the living standards of Nigerians to such a contraption. How then should the exchange rate be determined? While I do not propose determining the exchange rate by fiat, I believe a form of intervention makes perfect sense as the market is far from being perfect.

   By continuing to subject the rate to the forces of demand and supply in an imperfect market we leave ourselves with just two options which have confronted us in cycles; continued depletion of our reserves to defend the arbitrarily set exchange rate band or devaluation of the Naira voluntarily or involuntarily. Both options are not sustainable in the long run for obvious reasons.

   Depleting our reserves can only make us vulnerable to economic downturns, particularly with the vagaries of the international oil price. Continued devaluation on the other hand will lead to pauperization of Nigerians as more Naira will translate to less goods and services in view of our unrelenting crave for foreign goods. The option of devaluation would be more plausible if the economy was tilted towards export (of manufactured goods, refined mineral products and services). This is unlikely to happen soon due to challenges with electric power and infrastructure.

   When markets are imperfect, some form of intervention makes good sense. I need not give examples of countries that have intervened in their foreign exchange markets. What kind of intervention is appropriate for the Nigerian foreign exchange market? This is the million dollar question which if the right answer is gotten, will go a long way to ensure a very stable exchange rate.

   While determining the exchange rate by fiat is a form of intervention, it is one that will lead to abuses and arbitrage as the gap between the official rate and the parallel market widens.

   Another form of intervention is the varying of demand from buyers. This would require an in-depth profiling of the buyers and utilisation of Nigeria’s foreign exchange. In the words of a notable economist, “there have been continued speculative attacks on the Naira”.  Who are those buying foreign exchange and to what purpose? Are there buyers that can be redirected to other sources? Are there buyers whose demand can be restricted or anticipated and better managed? If the answers to these questions are in the affirmative then, the CBN can considerably control demand and ensure a stable exchange rate.

   A snap review of the CBN quarterly reports for 2013 showed that as much as 55 per cent of demands for foreign exchange are invincible while the petroleum sector takes up as much as 15 per cent. Without prejudice to a detailed profile of the two groups, I posit that demands from them are at the centre of the downward pull on the value of the Naira. The prudent management of the demands from these groups among others through appropriate policies and in-concert with other economic regulators and drivers will go a long way in solving at least in the medium term the issue of stable exchange rate for Naira.

   The role of foreign portfolio investors (FPIs) cannot be over looked. These investors have had and continue to have profound impact on economies of nations not least because of the speed with which they take their flight to safety at the slightest sign of crisis. They contrast with foreign direct investors who seek to build factories, import machinery and technical personnel for production of goods or exploration of mineral resources.

   The impact of FPIs needs to be looked into, call it a socio-economic impact assessment of FPIs. The role of FPIs in the Asian crisis of the 1990s should not be lost and in fact should serve as basis for our economic regulators to fashion out a policy to manage the unmitigated impact particularly as their sneaky growth and influence continue to rise. The irony of the scenario is the fact that FPIs are perhaps the loudest voice in crying for stable exchange rate.   Some analysts would be quick to respond that FPIs keep our equities and bond markets liquid. A cost benefit analysis of a liquid market viz a viz the effect of significant outflows on the larger economy needs to be done.

   In summary, when markets are far from perfect, intervention makes good sense. The trend over the years have been, the CBN appears helpless with the ever growing demand for forex, draws on reserves to defend the self-imposed rate band till reserves falls to so-called psychological limits and then resorts to devaluation with a new lower rate band. This unfortunate vicious cycle is a journey to nowhere that only benefits a few and impoverishes the generality of Nigerians. My humble advice to our regulatory authorities and economic managers is to get off the beaten track and try something new and more positive.

Ohimor is a finance and SME consultant

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