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The Central Bank of Nigeria and the Decentralization of Exchange Rate Prices




Dear Speculators,
In 2015, the wide variation between the official exchange rate and the parallel market was a major source of economic concern for Nigeria, a country frequently described as an import dependent nation (I have my reservations on describing Nigeria as such but I choose not to digress from the discussion at hand). During this period, the continuous fall in oil prices reduced the foreign exchange earnings of the country. The Dollar was scarce in both the official and parallel market, leading to a rapid rise in the dollar rate in the later while the Central Bank was left to defend the peg in the former by depleting the external reserves. Whereas, the easier alternative would have been to devalue and stabilize the exchange rate at a new and fairer level to reflect the prevailing economic fundamental.
Fast-forward to mid-2016 when the Naira devaluation was overdue and the Naira had greatly depreciated in the parallel market, the Central Bank decided to float the currency. The idea appeared not to have been carefully thought through as the implementation of this policy led to an even worse depreciation of the Naira than was ordinarily expected the previous year. The demand for the Dollar in Nigeria is fairly inelastic in contrast with the supply which is fairly elastic. This means that at whatever price, Nigerians will need Dollars to handle the majority of their foreign transactions while the supply of Dollar depends on the performance of the export market, which is biased to the price of crude oil. In simpler terms, higher price of crude oil means large foreign exchange earnings and vice versa.

Once the Naira floated in June 2016, its price against the Dollar depended upon the demand and supply of foreign currency in the open market. Since the foreign currency was in short supply, the Naira plummeted from 199 Naira in the inter-bank market to above 300 Naira just a few weeks later. It seems the Central Bank ignored the fact that most of the crude oil export earnings are accrued by the Federal Government and the Multinational oil exploration companies which are domiciled abroad. Without the supply of dollars earned by the Federal Government in the currency market, Dollar supply will run low, demand will remain unchanged and the negative consequences of such mismatch will trigger an economic slowdown.

All the danger signs of such policies were ignored and the Naira continues to be under tremendous pressure. The country now have numerous exchange rate prices which creates an arbitrage opportunity for currency traders to exploit to the detriment of the economy. A large proportion of capital in Nigeria is now allocated to acquiring dollars in the cheaper end of the currency market and selling it off at the higher end of the currency market to make abnormal gains. Since the Central Bank has chosen to subsidize dollars to some particular economic agents, it is this bank and innocent Nigerians that will bear the full cost of the arbitrage trades, thus further depleting both local and foreign reserves of the country.

It then becomes imperative for the Central Bank to discontinue the operation of numerous foreign exchange markets trading at different prices in the same country. A single exchange rate will reduce fraud, boost investor confidence, aid planning, eliminate exploitative arbitrage, and save Nigeria a lot of money. Until the foreign exchange issue is sorted, the possibility of an economic resurgence in the country will appear to be an almost impossible task for the Nigerian government.

I Emeka Ucheaga, say so!

Emeka Ucheaga,
Managing Partner,
Emeka Ucheaga Advisory

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