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Published On: Wed, Nov 19th, 2014

Devaluation of the naira

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By Boniface Chizea

Following recent developments with the oil market in the purview of precipitous fall in the price of oil, we have been inundated with comments to the effect that the Naira should be devalued. This is despite the assurances of the monetary authorities that devaluation is not the route they would prefer to take the country through for many reasons not the least of which is that devaluation is a strategy better suited to an economy that would gain from such a move by making exports cheaper to boost productivity within the economy with the benefits pertaining thereto.

There has been this shrill and persistent clamor that we should devalue the currency which experientially has not proven the panacea it is being touted to be and which to some extent will be a confirmation of the worst fears of the foreign investors against the shock which the economy has been subjected to following the developments with the oil price in the international market

Let us carefully engage ourselves in the following discussion by asking what the country stands to achieve should it decide to devalue the Naira. If Naira is devalued we should ask ourselves what level of devaluation would really impact the appetite of those truly dependent on foreign exchange to do business. What is likely to happen is that demand would persist at the same level if not worse as the market sentiments would be that once you get on that trajectory that no one is in a position to predict when and where it would bottom out. With that type of market psychology the Naira will even be subject to speculative attacks to worsen the scenario as operators would prefer to hedge their bets by buying forward to avoid being caught in an even worst situation.

What is more likely to happen is that economic agents would simply buy and ever grateful to be able to source this lifeblood requirement for their businesses and simply pass on the cost increase to the consumer thereby worsening the inflationary spiral. Therefore to expect a sharp drop in the demand for foreign exchange is to exhibit an attitude which is not consistent with the experience of the country so far. And therefore the level of devaluation of the Naira which is likely to impact substantially on the demand for foreign exchange is that no authority can accommodate as the level of disruption is unimaginable particularly with National elections in view. Those who were around during the onset of the Structural Adjustment Program would attest to this observation.

Upon the commencement of SAP the rate of exchange of the Naira was overnight devalued from around 22 Naira to the dollar to over 80 Naira. And to worsen the situation some transactions were preferred and allowed to be financed at the official rate of 22 Naira while others were to go through the autonomous market. It was simply bedlam. And this was when round tripping at the highest level was perpetrated and when some of the big boys around today who were in management positions made a killing. It is difficult to police a situation whereby for the same commodity in an economy there are two prices which are so disparate. And most of the bad loans which are yet to be resolved even today were due from those who got foreign currency denominated loans which could no longer be serviced within the purview of the massively depreciated Naira. It is correct to observe that this development commenced the demise of organizations such NERFUND and the like which until today are yet to recover. And what is most instructive and what we should bear in mind as we undertake this discussion is that the rate of exchange has since then been on a down ward spiral and had never recovered! The ensuing level of disruption visibly impacted adversely the misery index in the land.

Foreign investors holding Naira denominated assets are voting with their feet mainly because of the fear that the country is likely to devalue. In fact some of the investors who have been around for some time and have benefited from the above average return on their investments are holding out believing the authorities as they pledge to defend the rate of exchange of the Naira. The moment the first step is taken to confirm their worst fears by devaluing the Naira the run is going to be a torrent which will be difficult to handle. One must also remember that foreign investors are also concerned about the risk of the forthcoming elections not forgetting the risk arising from the insurrections in the North East arising from the unfortunate activities of Boko Haram. There are those who have argued that most other countries have had their currency devalued in relation to the dollar and therefore Nigerian manufacturers will be at a disadvantage if the country does not devalue. But that is essentially the argument that we do not have a manufacturing export base to make devaluation value adding. Some are even of the view that there will be penalty for being late in taking this decision. That because we have not seized the tide when it is most opportune the country would be paying a price! But we do not agree that devaluation is the panacea.

It is also necessary to bring into the picture the scenario the last time the country devalued in 2008. We should bring to the table our experience following that decision to ask ourselves how beneficial it was but what is most important is that the circumstances are not the same today as they were then. In 2008 the price of oil dropped from 140 dollars per barrel to about 37 dollars within a comparable period of about five months. Certainly we are thankful that the drop in the price is not as precipitous as it was then and considering the level of reserves we are still able to try and defend the exchange rate. The fact of the matter is that the oil market is volatile which could stabilize overnight even if informed opinion is that it is going to be difficult to witness the era of high price again in the immediate to near term. If for instance Saudi Arabia reputed to be in the recent past a swing producer is convinced that it is in the country’s strategic best interest to defend the price of oil and decides to withdraw just one million barrel a day from the market, stability would begin to return to the market and the price of oil would firm up. OPEC secretariat estimates that the amount of excess crude in the market is currently about 600,000 a day.

We align ourselves with the steps taken so far by the authorities. It is important to remind ourselves always that there is the need to avoid any panic decisions. The decision to review downwards the benchmark price of oil in the MTEP is well conceived but even at 73 dollars if the fall continues we might as a country still be caught on the wrong side. The decision to boost non-oil revenue is well thought through and must be sustained as that should really be the source for the funding of recurrent expenditure. The decision by the central Bank to defend the value of Naira is the only option available to try and checkmate the psychology of the market. We hope that OPEC would rise to the challenge to impose more discipline amongst its members and to withdraw some supplies from the market to try and facilitate badly needed stability. We hope in the best interest of this country that the situation of the oil market would not deteriorate to the extent that devaluation becomes an inevitable option.

Dr. Boniface Chizea is MD/CEO, BIC Consulting and wrote from Lagos


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