In a recent article in BusinessDay, titled “Time to Unify Exchange Rates”, Rafiq Raji (a prolific commentator with incisive perspectives) wrote, “…But with proof that a more transparent market would encourage the needed FX inflows and is not at all too destabilizing as demonstrated by NAFEX window, the CBN has an opportunity now to fully liberalize the market. In that event, it would not matter which way crude oil prices go”. Nothing could be further from the truth. The assertion, more particularly the latter part of the statement, is not only inconsistent with realities, it does not stand the test of statistical interrogation.Crude oil prices do matter in the context of our economic structure.
Data over the past ten years indeed suggests a strong correlation and consistent one-directional movement between foreign investment (whether Foreign Direct Investment -FDI or Foreign Portfolio Investment-FPI) and the ebb and flow of crude oil price. A graphical analysis shows this relationship and behavioral pattern very clearly. The observed relationship is neither an outcome of fool’s gold in data mining nor is it a spurious correlation and very much echoes my view in several articles on the role of exchange rate in FX supply in Nigeria. In one of my interventions titled “Sanusi: Beyond the Law of Holes”, published in one of the national dailies, a reaction to the contiguous debate on Naira devaluation, I contended thus: “…at the aggregate level, price (exchange rate) has minimal role in foreign exchange supply in the Nigerian market. The main and less unsustainable source of foreign exchange supply in Nigeria is crude oil revenue- itself a function of international oil price and crude oil export quantity”
Based on data from the Nigerian Bureau of Statistics (NBS), total inbound flows trended upwards to $21.3b in 2013 (about the same figure achieved in 2014 with minor negative variance) in tandem with oil price surge to a sustained price of over $100/bbl in four years to 2014. Annual inflows nosedived thereafter with $9.6b (inbound flow figures are on historical cost basis) inflow in 2015 and has not fared particularly well since then, both from a historical perspective and in terms of overall global share. Most strikingly, FDI behaves much the same way and reveals what we already know about the pervasive influence of crude oil in the Nigeria economy. In terms of composition, FPI has a disproportionate share of total inflows with 71% share while FDI component averaged 12% in about a decade to 17Q1.
Two conclusions can be evidently reached from the data which I intend to further address. First, we have not succeeded enough in attracting the resilient class of investments and notably, oil price, as a leading indicator of foreign exchange outlook in Nigeria, remains a critical consideration to investors in spite of the tantalising incentives on offer from the Central Bank of Nigeria through various initiatives such as the Investors & Exporters (I&E) and FX hedging windows.
Since the inception of I&E market by the CBN as part of the initiatives to ease FX illiquidity, total turnover in that window is estimated at an average of $1.3b monthly. Publicly available information shows total turnover of $2.5b from 22nd of May- 12th July, 2017. The turnover is significant compared with preceding quarters up to 15Q4 but still far below the era of high oil price especially if the share of CBN interventions in the market is discounted (a decomposition of the daily turnover by FMDQ will be helpful). On the flip side, it will also be interesting to know how much of the portfolio flows have taken flight this year.
What has been less acknowledged with respect to the upswing in flow from I&E market is the role of recent improvement in global oil supply-demand fundamentals, enhanced production volumes from the Niger Delta and the consequent accretion to Nigeria’s foreign reserves. A rollback of the marginal gains through capital reversals is not far-fetched should there be a significant dip in crude oil prices or sustained uptick in interest rates and policy normalisation by the Feds in the United States.
In any event, the CBN is still by far the largest supplier of forex and the dominant player in all the forex windows in spite of mouth-watering incentives for inbound flows. The CBN, without being unmindful of the negative consequences of wholesale FX market liberalization, technically devalued the Naira, albeit partially, through the I&E window, this is in addition to the introduction of Non-Deliverable Forwards (NDF), a form of subsidy to hedge against rates volatility. The actions of the CBN could be seen as a balancing act of some sort, in spite of its shortcomings. But now that the CBN has met the demand of investors to a certain degree, the narrative has changed (and will keep changing) with calls for unification of rates (a euphemism for full scale devaluation by some) as the new precondition for significant portfolio flows.
Unification of rates has its merits and demerits. This is where a bit of circumspection is required at the policy level. Rather than speak to the short term, our FX policies should have a more integrated and sustainable worldview embedded with well-articulated and clearly identified measurable economic outcome as well as productivity impact. Short term stability is necessary for long term planning – true, but a short term policy outcome which creates a more uncertain future should be perceptibly interrogated and reworked to secure a less uncertain future for the greater good. FPI as a source of forex is by nature transient, inherently volatile in stock and flow and highly disruptive for policy consistency and effectiveness. The capital flight in 2008 is a reference point. CBN may have overly bent over backwards already, in my view.
Let’s not be deceived, any semblance of FX rates stability that we currently enjoy and the improved flow through the I&E market is largely attributable to the two key mitigating factors of relatively stable oil price and recovery in crude oil production volumes. I have sufficiently expressed my view on FX market liberalization. Economic conditions have not changed materially to warrant a contrary submission. What we have in Nigeria is a “crude” economy and very “gaseous” too, I must add. Crude oil prices matter in this clime!
Glenn Ubohmhe
