Chamberlain is the Executive Chairman of Xcellon Capital Advisors Ltd, Lagos, Nigeria

PERSPECTIVE 2

By Chamberlain S. Peterside

…The Raging Naira Debate
Nearly a day goes by in Nigeria now without hearing the debate about devaluation of the Naira. This is indeed not surprising against the backdrop of the current state of Nigeria’s currency and economy in general. As the country grapples with declining growth, that is trending at 3%-4% from a high of 6%-7% over the last decade, it is clear that the platform on which the economy was built is indeed flawed and under serious threat. Virtually every facet of life in Nigeria over the last 4 decades rides on the exchange rate and price of a single product – crude oil. Unlike in more diversified economies where currency rates have a more tepid impact on everyday life.

A cursory look at the economic framework shows the overly dependence on crude oil exports, that accounts for over 80% of budgetary revenue and funds a voracious appetite for imported consumer products. The Nigerian industrialist, Aliko Dangote, was recently quoted as saying that Nigeria spends over $1.8 billion annually on the importation of rice alone. An analysis of our import bill indicates that rice and refined petroleum products account for the bulk of forex expenditure. In the face of historically high crude oil price, in the recent several years, federal policy-makers grossly failed to learn vital lessons. Consequently the situation has now hit a crescendo, whereby we are faced with the painful challenge of whether or not to devalue the Naira. As we speak, rates in the parallel market continues to gyrate hitting a high of N400 to a dollar on February 19th as official exchange rate remains stuck at N199 reflecting a nearly 100% disparity between the two exchange rates.

This actually compares to several countries experiencing similar currency rate quagmire. According to a recent research report by Bloomberg; Egypt, Angola, Tajikistan and Uzbekistan, all are in dire situations with their own exchange rates against the USD. The level of gap between the local currencies and US dollars varies from as high as 110% for Uzbekistan’s to as low as 12% for Egypt. Angola’s currency (an oil exporter here in Africa) has a 136% gap between its official and parallel exchange rates. The approaches in all this countries are a mix, ranging from a wait-and-see attitude in the case of most of them to active currency management strategy by the central bank of Egypt.

My main reason for concern in all of this is – the risk of policy inertia that could lead to catastrophic drop in currency value and spur continued uncertainty or conversely, aggressive protection of the official currency rate that could deplete the foreign reserves of affected countries. A suitable policy option for Nigeria, to my mind lies somewhere in between.

Source: Bloomberg
(Note: Nigeria parallel market rate peaked at N400/US$ on February 19, 2016)

…How Realistic Is The Current Rate?
The current situation with the Naira begs the question of how long the official rate will remain the same, whether the gap will become slimmer or if the official rate is even realistic? I had in one of my earlier articles back in 2006, argued on the need for a stable foreign exchange regime to make for a predictable and sustainable economic development in Nigeria. Some of the points adduced for this policy stance remain true and compelling to this day. Needless to say that to an extent between the 2006 – 2008 periods some relative stability in exchange rate was attained, before the global financial meltdown of late 2008 threw a spanner in the works. That saw the Naira rate spiral downward from N112 – N115 for 1$ to N150 per dollar. Things have never been the same ever since.
Source: Bloomberg, CBN
Truth be told, the effort to create a fiscal buffer during the 2003 – 2007 periods helped Nigeria shore-up its foreign reserves, build the excess crude account (ECA) against all odds and successfully withstand the cyclical shock that hit in 2008. Our inability to prepare and plan for such eventuality again is the main reason for the current predicament. The error of judgment or plain lack of political will is made worse by the fact that price of crude oil traded at a historical high of over $90 – $115 per barrel between 2010 to early 2015. There is enough blame to go round for such blatant miscalculation but the blame game does not solve any problem for Nigeria. Beyond saving for the rainy day, the inability of successive governments to truly diversify the economy is the ultimate culprit of why Nigeria is where it is today.
Source: CBN
Aside from the failure to save for the rainy day, the perennial lack of foresight to diversify the economy, wean Nigeria from what I like to call the Hydro-carbon Dependency Syndrome (HDS) and truly transform from a crude exporting to a manufacturing and value –adding nation has more than anything else culminated to the current situation.

…What Options Are There?
So what do we do, you may ask? The choices in my opinion at this point are unfortunately tough and limited. It is either we reform or perish. I fervently hope that the current situation does not degenerate deeper or last for much too longer. But I am afraid it may well get worse before it improves for many obvious reasons beyond our internal control in Nigeria. For starters, the prognosis on a quick rebound in crude price globally is not comforting. The headwind of geopolitics and consumption trend does not seem to be showing any immediate silver lining. The ongoing tug of war among leading Arab producers, namely Saudi Arabia, Iran and Iraq does not bode well for a quick recovery that Nigeria so desires. Coupled with that is the drastic, but concerted effort to move away from hydrocarbon consumption to renewable energy sources as major global importers like the US, China, India and Brazil are either beefing up oil reserves or consuming less due to modest economic growth numbers.

Taken as a whole to hope that oil prices will soon recover therefore, Naira rate will quickly find a better standing is simply foolhardy at best. No serious and smart policy making should be based on that hypothesis. Assuming for a moment that prices suddenly rebound fast, how will Nigeria contend with current structural deficiencies; widening fiscal deficit, growing debt burden, declining productivity levels, and slump in GDP in the face of steadily rising public operating expenditure? How does anyone in their right mind expect that Nigeria will continue to wither the storm of galloping crude oil prices into the future with a bulging youth population and skewed mono-product economy without ultimately hitting an iceberg? The current scenario therefore might offer a rare chance to reposition the economic superstructure. With that in mind, it is not a question of whether devaluation is necessary, but a matter of how, when and by what policy mechanism that can be achieved and to what end? Maintaining a fair market exchange rate for Naira can never be achieved through administrative fiat or wishful thinking.

…Revaluation or Devaluation
Supporting an exchange rate that is static, high and unrealistic in the face of scarce forex inflow to defend the market is unreasonable and dogmatic. Whereas a sudden and dramatic drop in official exchange rate could have a devastating immediate impact on consumer purchasing power, possibly trigger inflationary pressure and further drive up price of forex in the parallel market. Consequently, a constructive and systematic strategy will entail letting the Naira gradually slide in the market periodically to allow for some level of acclimatization by the average citizen to the new realities.

A weaker exchange rate of Naira vis-à-vis USD at the official window is sure to loosen the pressure on foreign reserves, earn more local currency per unit of crude oil export receipts that can enable the government better fund the budget as the economic team and central bank strategize on a cocktail of additional measures to help stimulate local manufacturing, improve domestic productivity and boost business confidence among local and foreign investors, that is currently waning.

The long term Naira policy should be geared not necessarily on supporting cheap imported goods or encourage ostentatious consumption of anything foreign-made, but nurturing domestic value-added production in the manufacturing and agriculture sector as well as encouraging local refining of crude oil. Only a realistic but low Naira rate can ultimately help stimulate non-oil exports and the domestic manufacturing sector.

The fixation on not devaluing Naira in the long run can wreak havoc on our national economy. The analogy with Venezuela is quite instructive, while the bitter lessons of the early 1980s must be refreshed in our memory. If Nigeria runs out of forex reserves before crude oil prices recover, the prospects could be grim. The option of borrowing from abroad at already high debt-service ratio of around 30%-35% of budget to plug the fiscal hole is fraught with serious pitfalls. Not acting at all or not doing enough may even be worse.

Naira official exchange rate ought to be actively managed and constantly re-evaluated by the CBN and allowed to swing on a narrow band of say 5%-10%, based on a composite of such leading indicators like – Crude Oil Prices; Forex Demand and Supply Dynamics; Inflation Rate; Budget Deficit; Debt Service Ratio and Debt-to-GDP Ratio plus any other metrics deemed necessary. The imperative for applying such an econometric model is that, the exchange rate equilibrium should be a function of both the government’s conscious economic targets and market forces. In the simplest understanding of this strategy, you could liken it to trying to play a balancing act with a weighing scale when purchasing fruits or fresh groceries in the store. If the weight of the iron is heavier than the fruits, the scale tilts in that direction. Hence you have to continuously add or remove weight on both ends until the scale balances – and that is what you pay or get. It is not perfect in terms of timing and volume and some mischievous shop-keepers even try to play pranks at times, but it is fair and the best you can strive for. Already the Central Bank utilizes the time-tested interest rate policy to actively manage and regulate the volume of liquidity in the banking system or in circulation. So, why not with the currency?

Chamberlain is the Executive Chairman of Xcellon Capital Advisors Ltd, Lagos, Nigeria