Analysts Highlight Remedy for Stable Naira

Analysts at the Financial Derivatives Company Limited (FDC) have argued that the perennial volatility recorded by the naira in the parallel market will continue unless the supply-demand dynamics are adjusted and the domestic manufacturing industry becomes competitive on the international front. The Lagos-based financial advisory and research firm noted that import dependency had crippled the manufacturing sector, describing it as a weed that needs to be uprooted.

However, the firm in its latest monthly economic report, pointed out issues such as the fuel subsidy needs to be resolved before visiting the core of the monster causing the volatility at the Nigerian foreign exchange.

The FDC maintained that the removal of the fuel subsidy would reduce the country’s import bill by 21 per cent, which includes the importation of refined crude products, as importers will have to bear the cost of oil price volatility and exchange rate depreciation.

“This will make the importation of premium motor spirit a less profitable venture. Moreover, local refineries have resumed operations, expected to run at 150,000bpd, further reducing the business prospects of local importers. Hence, the indirect effect of a subsidy removal is a reduction in the outflow of foreign exchange.

“This will reduce pressure currently being exerted on the foreign reserves, thereby creating room for the Nigerian government to meet obligations at the foreign exchange market,” it explained.

The report stated that another sector to be reviewed in terms of foreign exchange out-flows is the invisible sector.

According to the Central Bank Economic Report, the invisible sector accounted for the bulk (41.5 per cent) of total foreign exchange disbursed in April 2015, higher than the 36.9 per cent disbursed in January 2015.

According to the Global Financial Integrity, Nigeria ranked 7th among the top 10 countries with the largest illicit financial outflows.

To this end, the FDC argued that if fuel subsidy was addressed and other leakages are blocked, this will reduce the bogus demand in the import bill.

“Secondly, Nigeria needs to adopt a free-floating exchange rate regime. The CBN started this process by moving from an auction system in February. The problem is that because the price (exchange rate) is not in equilibrium, there remains a significant demand overhang. The unsatisfied demand is filtering into the parallel market. The distortion created by this gap is a major source of concern to policy makers and investors.

“There have also been frequent interventions to support the currency when necessary. Under a free floating exchange regime, the true value of the naira will be determined by the forces of demand and supply at the foreign exchange market. While a free float would be extremely harmful to the consumers and importers, devaluation is no less so. The main difference is that there is no certainty at-attached to the magnitude of depreciation. However, in the long run, it will encourage international and domestic investments and help stabilise the naira.

“It is important to note that the sharp decline in oil prices in June 2014 is considered to be the immediate cause of the sudden pressure on the exchange rate. This is because the oil and gas sector remains the major contributor to foreign earnings increasing the vulnerability of the naira to external imbalances.

“However, other remote causes remain as Nigeria would have been less vulnerable to this shock if strategic policies had been implemented to eliminate fundamental weaknesses within the system. Historically, the Nigerian economy had experienced cyclical downturns that are tied to global oil price,” it added.