Expert Seeks Restructuring of Nigeria’s Forex Regime
The Managing Director of the Financial Derivatives Company Limited, Mr. Bismarck Rewane has said that for Nigeria to escape from what he described as a ‘forex trap,’ the government must work towards adopting a properly functioning market. Rewane, who made this remark in his 2017 outlook on the naira, said a well functioning forex market allows the exchange rate to respond to market forces and reduce market distortions.
According to him, Russia and Kazakhstan recently did that and their currencies sank for a short period and then recovered sharply. On the other hand, Venezuela fell into the trap and has become a basket case, he said.
The FDC boss stressed that the Central Bank of Nigeria (CBN) will need to eliminate or phase out regulations that stifle market activity; ceate a sense of two-way risk in the market; reduce its market making role and stop indirect or overt rate determination; increase market information on the sources and uses of foreign exchange; there must be liquidity, transparency and openness; and that the CBN as a regulator must be firm in dealing with market infractions
“Forex policies usually complement trade and investment policies. The Nigerian government will in 2017 strive towards greater coordination of these policies, and will move from its current bias for a command economy monetary policy towards a mixed economy.
“I believe that with oil prices at $55pb and production back up to 2mbpd, the naira will slip in the interbank markets to N350-N380/$. It will fall in the parallel market to N520/$ before recovering sharply to N425/$. These projections are based in the assumption that the market will be reformed and that sanity will return to what is now essentially a foreign exchange asylum,” he said.
According to him, the exchange rate of N305/$ is neither a realistic nor an effective price of the currency at this time.
“This is because you cannot get dollars at this price unconditionally. In the parallel market, the naira is trading at N495/$, whilst transfers are going at N505/$. Any market structure where the same product is selling at different prices at the same time is described in economics as a price discriminating monopoly market structure.
“Typically this market is characterized by barriers to entry that allow those with influence or connections to buy in the cheaper market, e.g. N305/$ and sell in the more lucrative market, e.g. N500/$. This is what is probably happening right now (round tripping).
“However, before we look at the outlook for the naira in 2017, we need to examine the fundamentals that determine exchange rates. We also have to understand why Nigeria’s attempt at unifying its exchange rates has proved abortive so far. The forex market is a product of policy-making regulatory and market player interaction.
“Many fundamentals go into the determination of an exchange rate. These include balance of trade, the terms of trade, investment flows and the international competitiveness of the economy. There is also the interest rate/ inflation differential, which impacts the purchasing power parity of the currency,” he said.
Rewane noted that when a currency is appropriately priced, it will be in equilibrium and will have minimum deviation from the real equilibrium exchange rate path.
To this end, he said When the Nigerian case is tested against a number of such indicators, “it is not far-fetched to see why the Nigerian currency value is misaligned from its monetary policy anchors. It is also clear why there has been a slow but consistent erosion of confidence in the naira.”
“Rational investors and domestic economic agents always make decisions in their own enlightened self-interest and not because of emotional and irrational considerations. Historically the Nigerian economy, and by implication the naira, has been a beneficiary of oil windfalls and a victim of oil shortfalls.
“History shows that after a windfall, the naira remains relatively stable for an average of 5-6 years before the next oil shock. Immediately after every shock, the government embarks on adjustment measures including a devaluation. However, since 2008 the shocks have become more frequent and shattering,” he said.
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