A second window would be ajar, and not fully open

Your supply of fx is inadequate to meet demand yet your preference is for a stable exchange rate. You feel comfortable with more than one fx window, provided that your system is not abused, and have plenty of experience in the area. You have established your priority import needs, published or otherwise, and think that they should be met at the current CBN rate. You are discussing internally, according to the local media, the opening of a second fx window for non-priority transactions. You are wary of round-tripping and other perceived abuse by the banks, which guided your closure of the Dutch auction system in February 2015 and your halt to sales of fx to the bureaux de change in January this year.

We use the second person above for the CBN, of course. The governor, Godwin Emefiele, noted in a press statement dated 10 January that the CBN’s monthly earnings had fallen to about US$1.0bn from an earlier level of US$3.2bn. These fx inflows will have since risen due to the recovery of about US$10/b in the crude oil price but remain far short of demand.

The same statement identified four priority areas for allocation, namely: matured letters of credit from commercial banks; imports of petroleum products; imports of critical raw materials, plant and equipment; and school fees, and business and personal travel allowances.

By our estimates, the current inflows would cover public external debt service of about US$250m annually, membership of international organizations, the costs of Nigeria’s diplomatic service and petroleum product imports. We note from the statement last week on the social media by the federal finance minister, Kemi Adeosun, that visa and passport fees were among those that “must be tracked and accounted for”.  As for products, the CBN data show a monthly average of US$840m for the first nine months of 2015 for all oil and gas imports. (Again, this figure will have eased in tandem with the oil price.) The CBN should have some loose change left after meeting these fx requirements.

The governor’s stated import priorities included school fees. Indeed, a circular dated 19 February clarified that the CBN had not stopped fx allocations for school fees and medical bills abroad. The same CBN balance-of-payments (BoP) data show average spending on education-related expenditure at US$190m per month. This would cover just 190,000 students at US$1,000 per month, which suggests that some of the cost of foreign school and university fees is met from other fx sources. (Nigerians may be high academic achievers but they cannot all secure scholarships!)

This brings us to the benefits of a second window and the underlying idea that it would reduce the backlog of unmet fx demand, which has run as high as N500bn (US$2.5bn) judging from the CBN’s weekly return to the banks of naira collateral attached to unsuccessful bids. The success of a second window in attracting additional fx supply would be inversely tied to the controls imposed by the CBN. We have noted the track record of abuse by the banks in the eyes of the CBN. For this reason we would likely see new controls to deter round-tripping, and we would be surprised if this second rate was allowed to move unchecked.

There would be some fx supply gains from a second window. A more competitive rate would surely attract remittances, which have been running at about US$22bn annually per the BoP. Leading money transfer companies have reported a decline in their Nigeria business, which we can translate into a rising trend for exchange on the parallel market.  Oil companies, embassies and foreign NGOs would all welcome the opportunity to fund their local salaries and other running expenses legally at, say, N260 per US dollar rather than N199.

In economies with a more diverse export base, a second window (or a devaluation) can have a dramatic impact on the non-oil economy. We hark back to the devaluation of the CFA franc in January 1994, and the boost to exporters in the West African part of the Franc Zone. The beneficiaries in Nigeria would be the exporters of tropical products, who would gain a competitive edge relative to their francophone competitors in the sub-region, and of cement.  Reverting to the same BOP series, we see that total non-oil exports averaged US$340m per month in the first nine months of 2015.

The offshore portfolio community may well have a view as to the entry point to return to Nigerian securities markets and would probably find the rates in a second window to their taste. However, only the long-term player would bite as long as the delays in repatriations persist. In our view such delays would not be quickly tackled by a devaluation of the naira exchange rate with or without a subsequent move to a floating regime. The gap between aggregate fx supply and demand has become too large to bridge until the oil price recovers and/or the economy is remodeled according to the designs of the Buhari administration.

We can hear the question why, if a second window is under consideration, the authorities do not just devalue. The simple answer is that they have no such wish and, that even if they have to move ultimately under pressure (as we suspect), they may like the idea of holding onto the current rate for priority transactions.

 

Gregory Kronsten