Nigeria needs managed depreciation to limit coronavirus, oil double whammy
A weaker Nigerian naira is inevitable: the only questions are when and how. -- It will be “impossible” for the central bank to continue to support the naira
The central bank said on March 12 that “market fundamentals do not support naira devaluation” at this time. Nigeria’s foreign exchange reserves remains “robust and comfortable”, the bank said.
Investors and analysts are unconvinced.
- “Unless something dramatic happens to tighten oil supplies, it is hard to argue Nigeria will be able to avoid devaluation,” says Harry Broadman, chair of the emerging markets practice at Berkeley Research in Washington.
- “Price changes in a global market like oil do not discriminate among suppliers.”
Failure by Russia and Saudi Arabia to agree on how to counter a fall in oil demand prompted by coronavirus has led to a collapse in oil prices. Nearly 90% of Nigeria’s foreign currency revenues come from oil exports.
It will be “impossible” for the central bank to continue to support the naira in the face of dwindling foreign reserves and low crude prices, says Moses Ojo, chief economist at PanAfrican Capital Holdings in Lagos.
- Policymakers are likely to devalue the naira soon, he says.
Charles Robertson, chief economist at Renaissance Capital in London says “the ideal would be a one-off adjustment to weaken the currency to reflect the lower oil price, combined with the introduction of a crawling peg” allowing monthly devaluation.
- This, he says, would create predictability for domestic and foreign investors.
Ikemesit Effiong, head of research at SBM Intelligence in Lagos, expects that the central bank will be forced to retreat. The bank will be “will be looking at a managed depreciation than a large, one-off devaluation,” which may cushion its impact in the short term, he says.
Low growth economies spared?
The likely impact of coronavirus on African economies can be gauged through the tourism, trade and transport sectors, according to Neville Mandimika and Daniel Kavishe at RMB Global Markets Research in Johannesburg. Their note uses the following metrics to gauge the impact on Africa: transport gross value added, tourism earnings relative to total export earnings and trade with China as a proportion of overall trade.
- Kenya has the highest overall Covid risk score on 27 points, followed by Ghana on 24 and Egypt on 23.
- The countries with the least risk are Nigeria with a score of 11, Botswana on 13 and Mozambique on 17.
- The countries that stand to be hurt the most are those whose growth rates the sub-Saharan Africa average, the note says.
- “Nigeria with low growth will be least affected” – though the note points out that the rankings ignore fiscal risks that are constantly changing.
Such an optimistic view discounts factors such as Nigerian imports from China including manufacturing inputs, and Chinese imports of Nigerian oil and agricultural products, says Ebenezer Seun Oyajumo, private wealth executive at Barino Investments in Lagos.
- “Sooner or later, the drop in exports from China and other south-east Asian counties is going to start showing up in higher consumer prices in Nigeria,” he says.
- “The level of the FX reserves is too low to continue defending the naira.”
Nigeria in 2014 devalued the naira as oil prices dropped. But rather than allowing the naira to continue to weaken in response to lower oil prices, the central bank imposed currency controls to keep the official rate artificially high.
“If they try to manage the exchange rate and impose FX restrictions then the economy will suffer as in 2016,” says Nonso Obiliki, director at the Turgot Centre for Economics and Policy Research in Abuja.
“If they allow a depreciation then there will be some negative pressure on growth but not as much as the first option.”
Bottom Line: Managed currency depreciation that is transparent for investors is the best way for Nigeria to avoid being pushed into a sharp devaluation.