Avoiding the Pitfalls of Economic Recession


Amid the fear of imminent recession, the monetary policy committee of the Central Bank of Nigeria has moved to buoy the economy, necessitating the adoption of flexible foreign exchange regime and leaving the rates unchanged. Kunle Aderinokun, Olaseni Durojaiye and James Emejo write that the development has rekindled the hope of economic recovery

The 255th meeting of the Monetary Policy Committee (MPC) of the Central Bank of Nigeria (CBN), which ended in Abuja last Tuesday is significant for a number of reasons. One, the decision of the committee to adopt a flexible foreign exchange rate regime, albeit with a “small window for critical transaction” after rebuffing several calls to that effect, will continue to generate discussion, perhaps until details of the window is made public.
Besides, debating the policy shift even with the dual forex rates that it would foist on the economy, another fallout of the meeting that has attracted the attention of analysts and stakeholders is the disclosure by the CBN Governor, Godwin Emefiele, to the effect that “recession appears imminent.”

Recent data from the National Bureau of Statistics indicated that the economy contracted to about 0.36 per cent in the first quarter of the year, the first time in over a decade. Some experts feared that the economy might shrink again in the second quarter, which ends in June, a development they say will lead to recession.

The MPC latest decisions and the warning of impending recession have attracted the attention of economic analysts and stakeholders, who have expressed diverse opinions .

While some agreed that the introduction of a flexible foreign exchange regime will positively impact the economy, the others stated that the impending recession would not be for a short term.

The analysts welcomed the introduction of flexible exchange rate regime, enthusing that it would boost investor confidence. They pointed that the multiplier effect of the new forex policy would impact the economy and may ward off the recession.

Executive Director, Corporate Finance, BGL Capital Ltd, Femi Ademola, said, “the decision by the MPC to adopt a flexible exchange appears to be very apt considering the current development in the foreign exchange market.”

According to him, “by the policy, exchange rate would be market determined while the CBN would be the invisible hand in the market which uses money supply to affect the price indirectly.”

Essentially, Ademola noted that “the flexible exchange rate mechanism adopted will now make Nigeria to conform with the “impossible trilogy” that require an independent monetary policy and liberal capital mobility to be combined with a flexible exchange rate for efficiency.”

“Although a lot of people expected only a devaluation of the Naira, it would only be a temporary measure as the pressure on the currency would continue as long as there is a price peg. I must say here that it would have been better if this policy had been adopted and implemented some years ago when the country had strong foreign currency reserves and savings which could be deployed to stabilize the market and prevent a severe initial impact. However, it is better late than never,” he added.

“It is also noteworthy that there are several variants of the flexible exchange rate some with adjustments around a peg such as inflation or money supply. The adoption of such adjustment pegs serves as automatic stabilisers based on forward guidance from the monetary authority. In other words, it would be expected that the CBN would act through the supply of FX to the market once the set target (say inflation, credit growth or GDP growth rate) is breached.

“Because the CBN has not yet released the guidelines, it is difficult for us to determine the variant of the flexible exchange that the country will adopt. But overall, I think the adoption of this mechanism is a good one,” he pointed.

Likewise, Managing Director of APT Securities and Funds, Garba Kurfi, welcomed a flexible foreign exchange rate. “It is good for the capital market but not so good for the money market,” he posited, however, stating that “I don’t subscribe to dual rate which is what you will get with this small critical window; I prefer a uniform rate.” According to him, “a uniform rate will be transparent; knowing our country, a dual exchange rate regime can be manipulated.”

In welcoming the flexible exchange rate, Director General, Lagos Chamber of Commerce and Industry (LCCI), Muda Yusuf, explained that “It will boost investor confidence. This will boost inflow of investment; it will also boost in flow of foreign exchange through autonomous sources.”

He, however, added that “There is need to seek further clarification on what qualifies for that window. If it is for infrastructure it may be excused; but it is an area that we must continue to engage on.”

In his own analysis on the CBN pronouncement, Chief Executive Officer, Global Analytics Derivatives Ltd, Tope Fasua, was optimistic that things could take a different shape in the coming days.

He said: “The Central Bank of Nigeria (CBN) has only stated the true position. Many analysts had raised that concern before the MPC meeting.

“The NBS released figures showing Nigeria’s GDP dipping for the first time since 2004 and before that 1972. That is momentous.

“The MPC statement only adds legitimacy to what we have feared and what we have known. Everyone should tighten their seat belts because it could get very interesting going forward.”

Analysts at Eczellon Capital Ltd said, “holding rate constant in a period of weak pace of economic growth would likely provide succour for the economy as the structural drivers of inflation in the country are expected to wither in the coming months; likewise, the commencement of the implementation of the budget should also provide some form of succor to the economy in the coming months “

Besides, the analysts were of the view that “the decision of the MPC to introduce a flexible interbank exchange rate market seems responsive enough for a market that has long grunge under a fixed exchange market rate system.”

The Eczellon analysts informed that, “how the new “flexible” exchange rate would impact financial markets and the economy would largely depend on its details which is expected in the “coming days.”

“Consequently, investors and businesses would remain in the “waiting mood” until the new FX guidelines are released to the market.”

A former chief economist of the African Finance Corporation (AFC) and managing director, Nexnomics Advisory, Temitope Oshikoya, submitted that, “while a flexible exchange rate may be necessary, it is not sufficient nor suffice to solving the underlying productivity problem which prevents diversification of export earnings away from oil into manufacturing and agro allied export earnings, which in turns requires concerted efforts on structural, institutional and fiscal reforms and tackling infrastructural constraints. “

Agreeing with MPC on its decisions, Oshikoya noted “this is the most logically consistent and coherent MPC’s decision in the past 24 months, devoid of the erratic behaviour that we have seen lately such as reducing MPR from 13 per cent to 11 per cent in Q4 2015 only to jack it up back to 12 per cent in Q1, 2016.”

According to him, “It reflects a balancing act devoid of polar ideological positioning. It recognizes that raising interest rate in the midst of a stagflation may simply compound the misery indices. It observes that inflation is a structural problem, which the monetary authorities alone cannot address.

“More importantly, it pragmatically confirms that Nigeria’s long term challenge is that of a productivity problem, not necessarily an exchange rate issue,” he concluded.

For FBNQuest ‘s analyst on Macroeconomic and Fixed Income, Chinwe Egwim, leaving all the rates unchanged by the CBN, was “a tough call for the committee.”

On the flexibility exchange policy, Egwim explained: Flexibility” and “working out modalities” were the two things the CBN governor mentioned that could fuel uncertainty and nervousness going forward. We expected a firmer decision on the FX policy, the market has to wait for further information to gain clarity.”

Also speaking on the latest development, an Associate Professor of Finance and Head, Banking & Finance, Department, Nasarawa State University, Keffi, Dr. Uche Uwaleke, said the apex bank was right about its short term economic forecast.

According to him, “The MPC’s decision is good for stability in monetary policy and allows for proper planning on the part of businesses. Too frequent fluctuations in the liquidity positions of banks have negative effects on their credit decisions.

“Yes, inflation rate is high at 13.7 per cent but unemployment rate is also double digit at 12.1 per cent and the economy is already in a recession. The option of tightening monetary policy in order to target inflation by increasing the MPR and the cash and liquidity ratios would hurt output growth and plunge the economy into deeper recession.

“So, the decision to leave the rates unchanged is welcome. Equally commendable is the decision to adopt a more flexible exchange rate policy. In the coming days, we expect to see the gap between the interbank rate and the parallel market rate significantly narrowed.”

According to him, “the problem of over dependence on oil revenue will not be solved in the next few months. Oil price is still unpredictable and low even though slightly above the budget reference price.

“Worse still, forex revenue is shrinking now on account of thousands of barrels of oil lost daily to militant activities in the Niger Delta region. Also, the electricity challenge will not disappear overnight.”

He said: “Power shortages will continue to hamper output in the next few months until it is substantially addressed. So, the CBN is right in its short term economic outlook. How long this economic recession lasts will depend on the urgency and commitment with which the capital component of the 2016 budget is implemented.”

Also, Managing Director of Heritage Capital Markets Limited, Chidi Ajaegbu, stated that, “I agree entirely with the CBN governor that recession is imminent. The indices are there; dwindling oil prices, dwindling production output due to resurgence of militancy, dwindling commodity pricing. Again, because corruption has become part of our system, the anti-corruption war may also be blamed,” adding that “But I also think the recession will be for a short term.”

As for Yusuf, who spoke over the telephone “the (CBN Governor) was saying the obvious because we already have negative growth in the first quarter of 2016; and I think it is better to have an imminent recession than to have a contraction. It also underscored unless we take some steps we will have recession,” he argued.

However, Lagos-based economist, Rotimi Oyelere, disagreed and argued thus: ”I don’t see a recession looming. Fine, we have recorded negative growth but part of the causes of the negative growth is being addressed. Don’t forget that we ran an economy for months without a budget in place in an economy where government is a big spender; this impacted decision making on the part of businesses. But the budget has since been signed and running.

“This will boost capital spending and liquidity; the various stimuli will also compliment in that direction and we will soon begin to see the multiplier effect. Again the shift towards a flexible foreign exchange window will boost availability of forex. Already we are beginning to see revival of activities in the import sector, fuel importers are now importing. I believe the economy will soon begin to balance itself out. I don’t see us recording a back to back negative growth; rather we will see a marginal growth in the (economy),” he added.

Meanwhile, while welcoming the policy shift towards a flexible forex rate, which observers insisted will among other boost investor confidence and inflow of foreign investments and forex from autonomous sources, there were concerns that it may be fraught with underhand practices.

This is even as other analysts plead for caution, insisting on seeing the details of what qualifies for Emefiele’s comment that the CBN will “retain a small window for funding critical transactions.”