ECONOMY - 24 JUL 2015

Does the CBN know when to give up?

Does the CBN know when to give up?
Godwin Emefiele, Governor Central Bank of Nigeria

This June, the Central Bank of Nigeria (CBN) announced that it will restrict Foreign Exchange (FX) access to importers of certain items. The statement made by the CBN Governor, Godwin Emefiele, suggests that the decision was motivated by the need to control who gets dollars (and for how much), as much as regulating the import of the targeted items. This unexpected move, alongside other attempts at regulating the price of naira, indicates the CBN’s desire to aggressively defend the currency after the last official devaluation in early 2015.

Stubbornly low oil prices have sustained downward pressure on the naira since the second half of 2014 as the country pays heavily for it’s reliance on oil revenue for FX. Worrying levels of capital flight have compounded the problem as Nigeria suffers alongside the likes of Russia and Venezuela. Conversely, the Dollar continues to be strengthened by OPEC’s strategy to ride out the US shale storm and the weight of the Greek debt crisis on the EU.

Bravely, but perhaps rashly, the CBN has ruled out a further devaluation or the possibility of free floating the currency. These minor measures are a shot in the dark as the apex bank is quickly running out of options.

It is easy to see why the CBN has chosen this approach. As the price of naira tumbles, imports become prohibitively expensive. The resulting fall in real purchasing power experienced by ordinary Nigerians would be an extremely unwelcome addition to the many economic challenges they are currently facing. Yet this particular rationale is challenged by the recent vocal calls for prioritising local content in Nigeria. Indeed the CBN FX restriction policy seems to be in line with the focus on local content. But, if anything, costlier imports should encourage this drive for more locally produced goods. Thus the two policies are at odds with each other - it makes little sense to keep imports artificially cheap while trying to promote local content.

Nevertheless, a weaker currency would make it more difficult for Nigeria to service it’s foreign debt – a problem worsened by the implied poor state of the nation’s fiscal situation. But there is a danger that the treatment does more damage than the disease. Liquidity in the FX market has reportedly dried up and some firms now struggle to acquire the dollars needed to pay for imported raw materials. At the same time, the price of a dollar in the black market steadily climbs, creating more problems for the growing number of Nigerians who rely on that for their FX.

There is a growing sense that the CBN’s stance is becoming economically indefensible even as it remains politically expedient. Though it is difficult to gauge the net effect, a devalued naira would at least ensure that exports remain competitive and potentially provide the Federal Government with a more diverse base of FX revenues. Furthermore, the growing currency restrictions have caused significant turbulence in the FX market and the irony is that allowing the naira to float more freely could induce greater stability.

The infamous rent controls on New York City apartments are the seminal example of the danger of regulators going to war with market prices. Despite this, and with good reason, fixed and managed floating exchange rate regimes remain popular. But there is a strong argument for the CBN loosening its current grip on the naira. The alternative is sticking to a defence it cannot sustain – the market price will eventually win.

 

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Kitan Williams

Kitan Williams

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