By Obinna Chima
The announcement of plan by the Monetary Policy Committee (MPC) to adopt a flexible exchange rate policy last week brought relief to the markets.
Following the announcement at the end of the 250th MPC meeting, financial markets were eager to understand the structure of the policy. The move clearly instilled confidence in the markets as both the equities and fixed income markets reacted positively, although some pressure was noticed at the parallel arm of the forex market.
Following the decision of the MPC to retain MPR, the bonds market gained traction last Wednesday as average yields declined from 13.6 per cent on Tuesday to 13.4 per cent. But last Thursday average yields further moderated to 13.3 per cent before closing at 13.7 per cent on Friday.
The Governor of Central Bank of Nigeria (CBN), Mr. Godwin Ifeanyi Emefiele said the central bank resolved to introduce greater flexibility in the interbank foreign exchange market structure and to retain a small window for critical transactions for prospective investors. Also, while citing limited options in an already tight fiscal environment and the need to allow previous monetary policy decisions to crystalise, the CBN resolved to leave the monetary policy rate (MPR), otherwise known as the interest rate, unchanged at 12 per cent with the asymmetric corridor at +200 and -500 basis points around the MPR.
Emefiele said, in arriving at MPC’s decisions, the nine members of the committee, who attended the meeting, assessed the relevant risk profiles and came to the conclusion that although the balance of risks remained tilted against growth, previous decisions needed time to crystalise.
“Consequently, in a period of stagflation, the policy options are very limited. To avoid complicating the conditions, the committee decided on the least risky option to hold.
“With the foreign exchange market framework now ready, the MPC voted unanimously to adopt greater flexibility in the exchange rate policy to restore the automatic adjustment properties of the exchange rate,” he added.
Relief to Markets
Financial markets analysts, who welcomed the decision by the central bank to adopt a flexible exchange rate regime, however warned in separate phone interviews with THISDAY that continuing to allocate forex to “critical transactions” could lead to abuse in the system.
Also, a top bank executive, Mr. Abdulrahman Yinusa, said it was good to reintroduce the autonomous forex market, which according to him had been squeezed because there was no freedom of price determination when all the transactions were being done at N197 or N199.
According to Yinusa, what the central bank wants to do is to create some liquidity in the forex market so that the price can respond to supply and demand, noting that the CBN cannot continue to subsidise forex.
“My only objection is the issue of still using the CBN rate for what they called ‘critical transactions’. There was no definition of what they called ‘critical transactions’.
“It was a loose definition and there should be clarity because before you know it, CBN officials may abuse it if there is no clarity. In our own opinion, we would rather have everybody use the autonomous rate and move on,” Yinusa added.
The Managing Director of Financial Derivatives Company Limited, Mr. Bismarck Rewane, described the decision by the MPC as a move in the right direction.
“Adopting a flexible exchange rate policy is what I have been talking about for a long time and everybody knows that. Now, the question of having a rate for critical transactions is a recipe for abuse and it should be discouraged immediately.
“Everybody should go to the autonomous market. The market structure has to be supported by market dynamics,” he said.
Also, the Head of Research at Afrinvest West Africa Limited, Mr. Ayodeji Ebo, said the decision by the MPC would excite the market, adding that it was a big shift from the past stance of a fixed forex regime.
“With the MPC attempting to adopt a flexible exchange rate regime, this would excite the market. I expect the equities market to sustain its positive form which was in anticipation of this flexible regime and fixed income investors would come back to the market,” Ebo predicted.
The Head, Research at Cowry Asset Management Limited, Edgar Ebinum, said that the current inflationary pressure would continue unrestrained as budgetary disbursement commences.
“Capital market activities are expected to witness gradual recovery as foreign exchange risk diminishes with the adoption of a more flexible exchange rate regime,” he added.
On their part, the Lagos Chamber of Commerce and Industry (LCCI) also commended the decision of the CBN to adopt a flexible exchange rate regime.
The chamber said it believed the policy choice would help improve efficiency in foreign exchange allocation in the economy.
Director General, LCCI, Mr. Muda Yusuf added that it would help address the distortions that currently characterise the forex market and bring the economy closer to equilibrium.
Furthermore, he said it would help to improve liquidity in the forex market; lead to a reduction in the current trade arrears; and reduction in the arrears for forex requests that have accumulated in the past 18 months.
“We also welcome the decision of the CBN to refrain from further tightening at this time. The current context is that the economy is contracting, unemployment is on the rise, manufacturing capacity utilisation has been weakening, and investor confidence has been at its lowest ebb. The decision not to tighten monetary policy is therefore appropriate,” he said.
To analysts at Lagos-based CSL Stockbrokers Limited, the move by members of the MPC was in line with what they had been expecting for the currency.
Its report said: “Over time, the move is likely to increase the supply of US$ liquidity to the interbank market as remitters and exporters are likely to be more willing to sell dollars at the lower interbank rate. Similarly, we believe that investors who have been sitting on the sidelines for fear of not being able to get hard currency out of the economy will now be more willing to commit. With this increased supply, we expect that the flexible interbank market rate will gradually appreciate towards N310-N320/US$1.
“Overall this greater flexibility will be positive for the economy as it will improve access to foreign exchange (albeit at a higher rate) for firms which have been struggling to buy hard currency. The inflationary impact, we believe, will be fairly limited because many importers who were accessing dollars were already doing so on the inefficient parallel market.”
On their part, analysts at Ecobank Nigeria Limited pointed out that while it might be difficult to fully dimension the full impact of the expected adjustment in the operation of the interbank foreign exchange market, they opined that the flexible interbank exchange rate was likely to be above the current rate of $1/N197, at which the CBN had been selling dollars to banks.
They predicted that the expected currency adjustment would be around the current parallel market rate of N340/US$1 as pent-up demand for dollar was released onto the market.
“The effectiveness of this policy is likely to depend on the size of the allocation to ‘critical sectors’ (as well as the sectors that fall into this category) and the amount that is left available for the newly-autonomous interbank market. The system could be open to abuse. However, this opportunity to roundtrip is not new and has been available under the system that was in place until today’s announcement,” Ecobank analysts said.
But the Managing Director/Head of Research for Africa at Standard Chartered Bank, Razia Khan, in a note to THISDAY, pointed out that markets dislike uncertainty, and urged the central bank not to delay the announcement of the policy change.
Therefore, as the market awaits details of the new forex policy, there is need for the CBN to ensure transparency and a level playing field for all participants in the market. The banking sector regulator must be careful in handling the proposed special window for critical transactions.