The Africa Report - - CONTENTS - Funmi Ade­bayo sso­ci­ate,s Ex­otix Cap­i­tal

The Great Naira De­bate

TFhe bat­tle lines in the long-run­ning naira wars are drawn by pol­i­tics as much as by eco­nomics. In the right cor­ner is the ‘float the naira’ lobby. Its strate­gists con­cede that to let the naira float is to take a leap of faith in mar­ket eco­nomics, but they in­sist it will be richly re­warded. A more com­pet­i­tively-priced naira – that is, a de­val­ued naira – will spur lo­cal pro­duc­tion and push out all those un­nec­es­sary im­ports of food­stuffs and light man­u­fac­tures into Africa’s big­gest mar­ket. And then, the in­vestors’ dol­lars will come sluic­ing into the fi­nan­cial sys­tem, cut­ting in­ter­est rates. Then the naira will find its level un­der­pinned by mar­ket forces, not ad­min­is­tra­tive fiat. Both Ghana and Egypt, heav­ily en­cour­aged by the In­ter­na­tional Mon­e­tary Fund (IMF), have taken that path with mixed re­sults. So far, the in­fla­tion­ary ef­fects of the de­val­u­a­tion have out­weighed any boost to lo­cal pro­duc­ers. But the gov­ern­ments say the pro­duc­tion boost is com­ing. In the left cor­ner, the anti-de­val­u­a­tion lobby re­ject their op­po­nents’ eco­nomic and po­lit­i­cal ar­gu­ments. They point out that float­ing and de­valu­ing the naira will in­evitably stoke run­away in­fla­tion be­cause of Nige­ria’s eco­nomic struc­ture: heav­ily im­port-de­pen­dent with oil ex­ports still gen­er­at­ing 95% of for­eign ex­change. Cheap – that is, sub­sidised – fuel is ev­ery Nige­rian’s birthright as the coun­try is one of the world’s big­gest oil and gas pro­duc­ers. Float­ing the naira is po­lit­i­cally toxic be­cause it will hit the poor hard­est.

There is what we can call an un­easy truce in the naira wars. Both sides have given a lit­tle ground. Since mid-2016, Nige­ria has had a mul­ti­ple ex­change-rate sys­tem. That means one rate for anx­ious par­ents pay­ing school fees over­seas, another rate for lo­cal man­u­fac­tur­ers buy­ing ap­proved raw ma­te­ri­als and spare parts, and pre­sum­ably another rate for Her­mès hand­bags. Ini­tially, the float­ing of the naira saw it de­pre­ci­ate by 30% in June 2016. Af­ter the Cen­tral Bank of Nige­ria (CBN) in­ter­vened by in­tro­duc­ing dif­fer­ent rates ac­cord­ing to the end-use of the for­eign ex­change, we saw the par­al­lel and of­fi­cial mar­ket con­verge. Prior to the de­val­u­a­tion, in­vestors were un­will­ing to bring dol­lars into Nige­ria, through the for­mal fi­nan­cial sys­tem at least, due to the lack of naira con­vert­ibil­ity. Why risk bring­ing in dol­lars and con­vert­ing to naira to make in­vest­ments if you can­not con­vert the naira back into dol­lars and repa­tri­ate the funds? And what sort of liq­uid­ity pre­mium should th­ese in­vestors add con­sid­er­ing that many oth­ers were in a queue at the CBN for well over a year try­ing to con­vert their naira earn­ings into dol­lars? The CBN’S ar­gu­ment in sup­port of cur­rency con­trols was that they were pro­tect­ing Nige­ria from ‘hot money’ and forex spec­u­la­tors. In the cur­rent state of af­fairs, in­vestors, banks and the gov­ern­ment have reached an im­passe. Al­though the float­ing of the naira has made lo­cal-cur­rency in­stru­ments more at­trac­tive and en­cour­aged more pos­i­tive sen­ti­ment to­wards Nige­ria, again, hopes of a mas­sive uptick in dol­lar in­flows are largely un­ful­filled. That leaves many Nige­ri­ans ask­ing what is hold­ing up the for­eign in­vestors. This is where the dis­tinc­tion be­tween free-float­ing and float­ing gets im­por­tant. Many in­vestors want the CBN to step back from any in­ter­ven­tion in the forex mar­ket. That, they say, would al­low an ef­fi­cient and fair forex mar­ket to func­tion, set­ting the real price of the naira. Ini­tially, in­vestors were frus­trated by the mul­ti­ple ex­change rate sys­tem and blamed its com­plex­i­ties for caus­ing more con­fu­sion around the value of the naira. Such con­cerns have ebbed as in­vestors are now us­ing the price of the Nafex win­dow – cre­ated in April 2017 for use by port­fo­lio in­vestors – to value their naira hold­ings. The vol­ume and liq­uid­ity of trad­ing in the Nafex win­dow has steadily in­creased, with hun­dreds of mil­lions of dol­lars be­ing sold each week. You would think th­ese are wel­come de­vel­op­ments, but for­eign in­vestors are still re­luc­tant to bring in fresh dol­lars.

Trad­ing in the Nafex win­dow has in­creased, but in­vestors are re­luc­tant to bring in fresh dol­lars

Con­text mat­ters here. Nige­ria and many other oil ex­porters have never had a free-float­ing cur­rency. Egypt, with the 48% de­val­u­a­tion of the pound last year, is the new belle of for­eign in­vestors. Some are ad­vis­ing Nige­ria to fol­low its ex­am­ple. Yes, Egypt got a jumbo IMF loan of around $12bn and is at­tract­ing some fresh in­vestor funds. But in­fla­tion is roar­ing, and liv­ing stan­dards are fac­ing ever heav­ier pres­sure.

How­ever, Egypt’s po­si­tion is very dif­fer­ent from Nige­ria’s. It is get­ting mas­sive fi­nan­cial sup­port from its al­lies in the Gulf, and Pres­i­dent Ab­del Fat­tah al-sisi runs a far more au­thor­i­tar­ian regime than Pres­i­dent Muham­madu Buhari. Nige­ria’s eco­nomic struc­ture is also very dif­fer­ent from Egypt’s. Nige­ria is much more im­port-de­pen­dent and its con­sumers would suf­fer even more than Egypt’s from a full-throated de­val­u­a­tion. With for­eign re­serves of $30.8bn in April, the CBN may worry that it would not be able to man­age a mas­sive surge in de­mand for dol­lars. This has po­lit­i­cal im­pli­ca­tions, given that cam­paign­ing for the elec­tions in 2019 will start next year. The gov­ern­ment wants to avoid any poli­cies that will hurt the elec­torate in the short term. Nige­ria’s gov­ern­ment does not want an IMF pro­gramme. Given Nige­ria’s suc­cess in tap­ping the eurobond mar­ket for bil­lions of dol­lars, it could be ar­gued that those call­ing for a free float are set­ting up a moral hazard: that is, in­vestors are pro­tect­ing them­selves and leav­ing Nige­ria to bear the en­tire risk. With low oil prices and elec­tions com­ing, calls for a free float are los­ing steam. We are see­ing more in­vest­ment in naira stocks and lo­cal-cur­rency in­stru­ments. With stocks at un­prece­dented low prices and trea­sury bill yields in the dou­ble dig­its, it is hard to ig­nore Africa’s big­gest mar­kets when in­vestors have stock­piles of cash. So why haven’t we seen a surge of fresh dol­lars into the sys­tem? In one word: con­fi­dence. In­vestors have bit­ter mem­o­ries of cap­i­tal locked in Nige­ria. Some still can­not repa­tri­ate their funds. Pol­icy sta­bil­ity and trust in the in­sti­tu­tions that dic­tate pol­icy are be­com­ing more im­por­tant to in­vestors, par­tic­u­larly in emerg­ing mar­kets. It will take a while be­fore in­vestors be­lieve that Nige­ria has demon­strated enough sta­bil­ity, con­sis­tency and trans­parency to jus­tify a new wave of dol­lar in­vest­ments. For now, they see other emerg­ing mar­kets pro­vid­ing com­pa­ra­ble re­turns and with lower risk. The next few months will test the nerves of the CBN and the gov­ern­ment. The con­ver­gence of the par­al­lel and of­fi­cial mar­ket sug­gests there has been an ef­fec­tive clam­p­down on rent-seek­ing. By the end of the year, Nige­ria’s au­thor­i­ties could see those elu­sive in­vestor dol­lars start to re­turn.

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