The Nigerian economy is facing huge financial haemorrhage as politicians, corporate bodies and foreign investors are moving funds massively out of the country as well as from Naira to dollar.
This capital flight has resulted in the crash of the Naira exchange rate which had remained stable before the election and the crash of the international crude oil price. But CBN has attributed the collapse of the Naira at the inter-bank to currency speculators who buy and hold currency for them to sell at a future date to make some gain. The movement of funds out of the country comes by way of Nigerian residents buying up dollars with their Naira and moving it offshore.
The trend became more noticeable in July 2014 where in fact, in a matter of weeks, several billions of dollars were purchased through the banks and bureaux de change. The movement of funds is noticeable from CBN records of direct remittances, whole Dutch Auction sales of dollars etc. According to data obtained from CBN in the five weeks, the total amount of foreign exchange that went out through direct remittances amounted to $3.33billion, Debt service/payment — $155million. The bulk of the outflow went through the wholesale at the Dutch Auction market where a total of $18.6 billion was purchased from the CBN. Curiously, foreign exchange purchases backed by Letters of credit in the five weeks amounted to just $108.8 million.
Capital flight has led to the depletion of Nigeria’s foreign reserves, thus weakening the Naira. Nigeria’s foreign exchange reserves, which was $5.4 billion in 1999, rose to an overwhelming level of $51.3 billion at the end of 2007 and further to $53.0 billion in 2008, but owing to the crash in the international price of crude oil in 2008 and the aftermath of the global financial crisis, the reserve declined to $42.4 billion in 2009, further declined from $38.138 billion at the end of April 2014 to $33.04 billion in February 2015.
Market operators are however seeing it from the perspective that the reduction of credit line to Nigeria banks by their foreign counterparts as a result of the crash in crude oil prices and the uncertainty surrounding the 2015 elections is partly responsible for the high volume of funds leaving the country as the usual 90-day trade credit line has dried up in some banks which have had to meet the needs of their customers through direct cash payments.
CBN on Wednesday last week scrapped the Retail and Wholesale Dutch auction of foreign exchange saying that all genuine importers should source funds from the inter-bank market. It however said that it will continue to intervene in the inter-bank foreign exchange market.
The apex bank in a statement signed by its Director of Communication, Mr. Ibrahim Mu’azu, said: “The managed float exchange rate regime, which the bank had adopted following the liberalisation of the foreign exchange market, has for the most part been successful in ensuring exchange rate stability in line with its mandate.
“In recent times, however, with the sharp decline in global oil prices and the resultant fall in the country’s foreign exchange earnings, the bank has observed a widening margin between the rates in the inter-bank and the RDAS window, thus engendering undesirable practices including round-tripping, speculative demand, rent-seeking, spurious demand, and inefficient use of scarce foreign exchange resources by economic agents.
“This has continued to put pressure on the nation’s foreign exchange reserves with no visible economic benefits to the productive sector of the economy and the general public.
“In view of the foregoing, it has become imperative that appropriate actions be taken to avert the emergence of a multiple exchange rate regime and preserve the country’s foreign exchange reserves.
“Consequently, we wish to inform all authorised dealers and the general public that, with effect from the date of this press release, the Retail Dutch Auction System (RDAS/WDAS) foreign exchange window at the CBN is hereby closed. Henceforth, all demand for foreign exchange should be channeled to the INTERBANK FOREIGN EXCHANGE MARKET. For the avoidance of doubt, all authorised dealers and the general public should note that the CBN will continue to intervene in the inter-bank foreign exchange market to meet genuine/legitimate demands.
In a flash note to investors, Afrinvest, an institutional investor said: “This is a positive development as we have always clamoured for a one-way quote to reduce speculation and unhealthy malpractices. The development can be tagged a tacit devaluation of the Naira given that the CBN will sell at the pre-existing inter-bank rates. As a result, we expect to see some stability at the inter-bank market in the short term as there will be no incentive to round trip or speculate given the minimal spread between the inter-bank rate and the parallel market. In addition, the banks will likely forfeit the huge spread earned on forex trading as offer will be filled on “demand basis”.
“Whilst this move may suggest that the CBN has jettisoned the managed floating exchange rate regime, we note that the new system still appears to be linkable to a “guided floating exchange rate” as prices will be market-driven.
“However, the banks will still be able to play at the inter-bank window alongside CBN’s intervention as may be genuinely or legitimately required.
“On the economy, this decision may reduce the pressure on the exchange rate in the interim. However, foreign investors may still remain wary of foreign exchange risks in view of depleting external reserves (5.2 per cent decline YTD) and other concerns around the domestic polity. Nevertheless, it is instructive that the volatility and uncertainties within the foreign exchange market space would be taken care of by this policy as speculation is more or less taken out.
“This decision is expected to compel the banks to look more inward and focus on real banking generating activities so as to improve their bottom line. The pressure that has confronted the Naira recently has been aggravated by speculative attack mounted at the inter-bank for which the banks have enjoyed certain income spreads. With the new policy, the banks need to remain committed to creating risk assets allowable within the capital adequacy threshold in order to earn more interest income that will enhance profitability.
“This decision more or less confirms the new normal of Naira/Dollar at sub N200.00/US$1.00 hence increasing the cost of imported inputs for the FMGCs thereby impacting profit margin. Investors are expected to price-in the new development into the share prices of the FMGCs when taking investment decisions.
“The most impact of this decision will be felt in the capital market as we expect equities and bond markets to feel the impact. We do not expect increased inflow from Foreign Portfolio Investors, FPIs as foreign exchange risks remain evident despite the re-assurance from the CBN to defend the Naira. Other risks around Nigeria’s credit rating, interest rate and domestic polity will continue to determine the direction of these markets. While we expect bond yields to remain high owing to various macroeconomic risks, we expect the equities market to continue to trade sideways. The pressure on the naira at the foreign exchange market might continue to mount and see further depreciation in value of the naira this year.
Official reserves at the beginning of this week stood at $32.7bn, 18 per cent below end-February 2014 levels. In December, the central bank spent $2.3bn defending the naira. Despite intervening occasionally, the pressure on the naira intensified, leading to the CBN having to shift demand out of RDAS to the inter-bank market. While this brought some relief to the RDAS (the average dollar sale per auction in January was just $248m the inter-bank rate diverged sharply from the official rate. The hand writing was on the wall for de-facto devaluation.”
FBN Capital in its note to investors said: “With this announcement, the central bank has effectively shifted all (RDAS) foreign exchange demand to the inter-bank market, thus minimising its role as the “prime” market maker. The move is a necessary one towards ensuring that the naira stabilises and reflects demand and supply dynamics, and should assist in improving market depth and efficiency. It effectively closes the arbitrage opportunity for “round-tripping, speculative demand, rent-seeking and spurious demand.
“The markets had been expecting some kind of adjustment to the foreign exchange rate, discounting the CBN’s regular insistence that the naira was appropriately priced, although the exact timing was difficult to call. As long as the CBN continues to intervene to meet “genuine/legitimate” demand as it stressed, the inter-bank rate should hold at current levels, even with the expected spill-over demand from the RDAS.
With oil prices staging a slight recovery recently to $60/barrel, the naira should see some slight support.
Given that all transactions have now been shifted to the inter-bank market, we expect consumer goods companies in particular to feel the impact of CBN’s decision, given that a significant proportion of their raw materials is imported.”