Nigeria Naira Crash – Confusion Rules the Markets

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VANGUARD

Nigeria Naira Crash – Confusion Rules the Markets

22 December 2008

The Nigerian economy seems to be experiencing stress in several sectors and unless appropriate policy frameworks are put in place to deal with the various problems plaguing it, the country could slip into more difficulties, Lucky Fiakpa writes

The Nigerian financial system is undergoing intense stress and this is no understatement. There is uncertainty in all the markets at the moment.

The capital market is in a mess with share prices now selling at all time low levels. The money market is not better. Inter bank transactions have virtually come to a halt as a result of the naira crash; credit lines to manufacturers is drying up; interest rate is heading for the roofs as foreign creditors call back their loans to Nigerian banks and inflation rate is moving in all direction but downwards.

The foreign exchange market, which for almost a year now has been stable, suddenly lost ground against major traded currency about three weeks ago and has not been able to recover since then. The CBN effort to stem the market failed to achieve set objective as the naira dipped further against the United States dollar on Monday on the Inter bank Foreign Exchange Market. The CBN had supplied $207 million which it probably hoped would have met demand but it was not enough to stop the naira from going further down.

The naira closed at N135.5 per dollar, down from N132.3 last week as banks and other authorised dealers scrambled for the greenback to meet customer obligations in an increasingly tight market.

The naira, which recorded some stability in the last three years, took a dramatic turn by crashing continuously from N120 to almost N140 to the dollar in the past three weeks, fuelling speculations that the CBN had deliberately allowed the currency to fall to generate cash to fund the fourth quarter budget, by withholding supplies to the official Wholesale Dutch Auction System.

Within a few days at the official market (WDAS), the naira lost N7 and traded at N127.5 to the dollar, while at the parallel market and bureau de change, it dangled between N137 and N140.

The development prompted the closure of the foreign exchange market for two consecutive days shortly before the Muslim festival of Eid el Kabir.

The oil market is not doing better either. From a peak of about $147 per barrel the oil traded last July, last week it traded at an average of $45 per barrel. This has created severe hiccups for the Nigerian budget benchmarked at $45 per barrel.

In fact, there are so many distortions in the market place at the moment to the extent that the Central Bank of Nigeria, CBN, governor, Professor Chukwuma Soludo, who had boasted in the past that the Nigerian economy was insulated from the external shocks, last week, for the first time since the downturn of the world economy, brought about by the financial meltdown in the United States economy, acknowledged the impact of the global financial crisis on the nation’s economy and decided to actively participate in the daily inter-bank foreign exchange market by buying and selling through the two-way quote to stem the crisis in the foreign exchange market.

Also effective last Monday, the foreign exchange net open position of banks was reduced from 20 percent to 10 percent of shareholders’ funds. It is either these measures are coming too late or are too feeble to stem the impact of the falling naira on the Nigerian economy as confusion seems to have set in.

It all started with the capital market where share price of blue chips companies in the market were reduced to the price of pure water with the fear of hostile take over now looming all over. Many thought the problem would be restricted to the capital market and several measures were quickly put in place to firm the downwards plunge of share price in order to restore confidence in the market.

Effort to Stem the Market

In a bid to stem the meltdown in the capital market, the Central Bank of Nigeria (CBN) granted reprieve to banks with large portfolio of margin facilities by approving their request to restructure such facilities for a longer period.

Margin loans are facilities extended to investors by banks for the purpose of share purchase to buoy up individual and institutional investment portfolio. Some of these facilities have, fallen due for repayment but are still outstanding because of the current low share price regime in the stock market, which makes repayment difficult, if not impossible.

The Prudential Guidelines for banks stipulate that facilities that are three months old but not performing should be classified as “doubtful”. If after six months, and they are still not performing, they should classified as “non-performing” and said to be “bad” after six months when the banks are expected to start making provision for them.

It is estimated that the banks may have granted as much as N336 billion margin facilities to investors, prompting insinuations that the banks may have lost substantial money to the stock market crash.

In a meeting between the Federal Government and management of the NSE as well as other stakeholders in Abuja, a number of measures were adopted by to stop the tide of sliding fortunes of stocks in the country.

The meeting resolved that the office of the Attorney-General of the Federation should issue an exemption to the provisions of the relevant sections of CAMA, to permit quoted companies to buy back up to 20 per cent of their shares to curb the spate of bearish trading in the market.

The CBN was also directed to take appropriate measures to ensure adequate liquidity within the system to oil operations in the capital market. The meeting also resolved that a Capital Market Stabilisation Fund be established, as an intervention instrument to stem the meltdown in the market.

Also, the commercial banks were advised to restructure existing facilities to aid operations of licensed stockbrokers, institutional and individual investors on longer repayment terms. Both the Securities and Exchange Commission (SEC) and the NSE, and all capital market operators also agreed jointly to reduce the burden on investors by cutting fees significantly. It was also directed to review its trading rules and regulations.

The NSE has since cut its fees by 50 per cent and taken the following steps: One per cent maximum downward limit on daily price movement would be allowed, while the current five per cent limit on upward movement is retained.

The CBN on its part, has injected liquidity into the economy through intervention by rolling out a number of measures, which has increased the liquidity by over N1 trillion. The measures include, a reduction in the bank’s benchmark interest rate by 50 basis point from 10.25 per cent to 9.75 per cent; a reduction in the Minimum Liquidity Ratio (MLR) from 40 per cent to 30 per cent; and the Cash Reserve Ratio (CRR) from four percent to two percent, and they were aimed at reflating the economy by N1.05 trillion.

Additionally, the CBN has also allowed banks to buy back their securities and extended the lending window to 365 days (one year), as opposed to overnight lending. To ensure that some level of stability was attained in the market, the Securities and Exchange Commission, SEC, approved the applications of Greenwich Trust Limited, Chapel Hill Advisory Limited and Diamond Capital & Financial Market Limited as market makers to help stem the downwards slide. But all of these efforts have not stopped the downwards movement of share prices in the capital market.

Manufacturers Woes

Manufacturers are now complaining of the choking effects of the various upheavals in the market place. Alhaji Bashir Borodo, the President of the Manufacturing Association of Nigeria, MAN, has called on the Central Bank of Nigeria, CBN, to do something to firm the downwards movement of the naira in other to save manufacturers another round of angonising moment. He believes the current operating environment is bad enough and a further fall in the value of the naira, could spell disaster for the sector.

In a chat with Financial Vanguard, the MAN President said the decline in the value of the Nigerian currency against the dollar in the foreign exchange market will have an adverse effect on the cost of production in two ways. First, he said, cost of imported raw materials will rise which will further hike cost of production and of course, lead to increase in general price level across the country.

He also believes the falling value of the naira if not arrested could also lead to increase in interest rates. Put differently, as more naira is generated to buy dollar in the foreign exchange market, what would be left for lending for businesses would be less, which will in turn push up the lending rates by banks.

Speaking on behalf of other manufacturers, he says, “We believe the Central Bank should intervene effectively to preserve the value of the naira and protect the macro-economic gains achieved in the last four years. Otherwise, we will be repeating our experiences of four years ago”.

Some other manufacturers even believe the problem is worse than that. A source close to the Lagos Chambers of Commerce and Industries, LCCI, told Financial Vanguard that it will take divine intervention for businesses to survive next year if the naira continues to fall. He said there are certain businesses that take goods from manufacturers abroad, sell and return money at the end of sales.

“Mind you, these contracts were entered into and the goods sold when the naira was stronger. At the current position, it means the agent in Nigeria may have to look for additional money to be able to pay the foreign manufacturer the agreed sum,” he said.

Apart from that, he said that some manufacturers had opened letters of credit for imports when the naira was strong. With the fallen value of the currency now, the importer may have to source for more funds to be able to finance the same equipment or materials. “He will be lucky if he can pass on the additional cost to the consumers if not he may have to bear the cost all alone with attendant consequences on the cost of operation. This could result in drop in profit margins and there would be the temptation to lay off workers,” he says.

Bola Olayinka, the managing director of DN Meyers Plc and Chairman, Manufacturers Association of Nigeria, Paint Group, painted a gloomier picture. “As if the situation is not bad enough for manufacturers, right now, the banks are not even willing to open letters of credit for anyone.

The situation is so uncertain and only God can save the manufacturing sector from the way things are going at the moment,” he said.

Government Induced Depreciation

But last week Professor Soludo said the naira depreciation was a deliberate government policy. The apex bank governor who spoke in Abuja in response to the invitation the Senate sent out to the managers of the economy, which included Finance Minister, Shamsuddeen Usman, and Presidential Economic Adviser, Tanimu Yakubu Kurfi, said the downward movement of the naira was deliberate but gave assurance that the economy is robust enough to withstand the fall of the currency.

Soludo said the CBN operates a flexible foreign exchange (forex) regime controlled by market forces, and insisted that the financial system is not in any danger but is only reacting to the global financial crisis. He recalled how everything was carefully thought through and “deliberately implemented” to maintain the internal and external balance of the economy.

“The economics of exchange rate is such that in a world where you face any fracture on your balance of payment, especially through the external sector, especially in our experience in much of the latter part of this year, declining oil prices which account for 95 per cent of our foreign exchange.

“Every country which experiences that has two options: you either allow the prices to adjust by way of exchange rate or quantities would adjust. The quantity that will adjust would either mean that you cut down on domestic consumption, domestic investment, and government spending in order to retain pressure on the external sector or you allow the price to do the readjusting,” he said.

According to Soludo, generally, the exchange rate responds to several factors, and Nigeria operates a flexible forex rate as most economies of the world, dictated by market demand and supply. “If you have an increasing supply of foreign exchange, the exchange rate appreciates. If there is a declining supply and the demand is still up there or rising, you have depreciation,” he explained.

He said factors that can lead to forex demand include liquidity in the economy induced by money supply, government spending net capital flows, level of foreign reserves and rates at which they grow, domestic productivity, and increase in exports and imports.

“In the global shock that we have experienced, as we did mention in our last presentation before this House, the major channel of effect on Nigeria would be the declining oil price and, therefore, what could put pressure on the foreign reserve and the exchange rate and if care is not taken, it could go via the fiscal sector, down to the financial sector if not managed. But we hope that that would not happen.

“Look around the world today, because of our declining commodity prices, there is declining trade, and, therefore, declining foreign exchange earning by most stable countries. Whether or not they are experiencing financial crisis, there are many countries that do not have financial crisis and are not experiencing financial crisis, including Nigeria.

“However, these countries as well are experiencing declining commodity prices and, therefore, declining export and foreign exchange earnings. In almost all of these countries today, with little or no exception, the exchange rate under a flexible exchange rate regime is the variable that does the adjustment. I have with me here a table of countries with the largest level of reserves, including Algeria, which has the largest reserves in Africa.

“As at 2007, it had about $110 billion and as at September this year it had $130 billion, but its exchange rate has also depreciated. If you take them all from the emerging markets, most of them, whether it is Malaysia, Thailand, Brazil, India Russia, Indonesia, Philippines, or South Africa, all down the line with even higher levels of diversified export structure, most of these countries are not having any financial crisis.

“But it is simply that the global trading regime has altered and therefore the variables that you allow to adjust are the exchange rate. Nigeria happens to be one of such countries. The most significant shock in Nigeria occurred in late 1981 through early 1982 and the difference between then and now in terms of the economy is about three four key areas.

“The first is that then we had high external debt relative to GDP (Gross Domestic Product), relative to government expenditure. Now we don’t have it. Then we had a fragile financial banking system that most of the banks owned by the government lacked depth, just too fragile to take up the flak between then and now. Today we have a stronger banking sector that grants credit. The total credit granted as at the end of September to the private sector was indeed larger than the Federal Government expenditure,” he explained.

Soludo stated further that “If we fail to meet the demand in the market, then the demand would continue to rise, and the rise will continue ad infinitum. We needed to clear the market but at an appropriate price.”

Banks Under Pressure

Even now, banks have come under pressure as foreign credits dry up. Intercontinental Bank Plc has reportedly repaid the $160 million loan granted it last year by a consortium of eight foreign financial institutions. The credit line was facilitated by the French investment bank, BNP Paribas Renaissance Capital and five others in December 2007 to facilitate trade finance by Intercontinental Bank. “Yes, we have repaid it,” the head of Corporate Affairs of the bank was quoted to have said.

Right now, unless the rate of credit line recall by foreign banks is checked, Nigeria’s banking system which is already reeling from massive loss to margin accounts and shortage of foreign exchange among others may run into serious difficulties.

In the last four months, more leading global financial institutions have scaled down the confirming lines of credit with most Nigerian banks, just as several existing lines are being cancelled. Not less than 15 foreign credit lines are reported to have been recalled while over 10 have been cancelled owing to the growing pressures on the foreign banks to meet their financial obligations to their customers. Top on the list of these foreign banks are Citibank, BNP Paribas, Deutsche Bank, ANZ Commerzbank, ING of Belgium, US Ex-im Bank, HSBC among others.

This is in an apparent bid to shore up their balance sheet in response to the current global crisis. For instance, the foreign banks, acting as correspondents to our local banks, recalled over $4 billion credit lines from their local counterparts in November alone. This is against $3 billion recalled in October which triggered an increase in demand for foreign exchange at the Wholesale Dutch Auction System (WDAS) from $300 million to $3.4 billion.

Consequently, the average demand for foreign exchange at the weekly WDAS for the month of November shot up to an average of $2 billion, development analysts attribute to mounting pressures from the correspondent banks that have decided to recall the lines at a swoop. Credit lines represent money used by foreign correspondent banks to help local banks settle foreign currency denominated trade transactions to customers, which are usually recalled gradually.

Oil Marketers’ Threat

Another problem created by the falling naira is that of oil marketers seeking revaluation of outstanding debts of N62 billion on petroleum subsidy. In fact, the marketers are poised for a confrontation with the Petroleum Products Pricing Regulatory Agency over the outstanding debts.

They want the sum revalued based on the current exchange rate, as the products suppliers would have to be paid for in dollars, and they would need more naira to purchase dollars. With the current exchange rate, the marketers said that all the burden of the falling value of the naira would be borne by them alone, insisting that the PPPRA, managers of the Petroleum Support Fund, should pay interest on outstanding debts by way of revaluation.

And unless caution is applied in the handling of this matter, a labour action by this group of marketers could paralyse the petroleum product distribution and in turn create scarcity which the Nigerian economy can hardly afford for now.

 

Copyright © 2008 Vanguard. All rights reserved. Distributed by AllAfrica Global Media (allAfrica.com

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One Response to “Nigeria Naira Crash – Confusion Rules the Markets”

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