Why the external sector is under pressure

  • As foreign reserves dips further

By Emeka Anaeto

Nigeria’s external reserves have recorded a steady decline since its last peak on June 03, 2020, settling at $36.12 billion, down from $36.58 billion amidst the sustained demand pressures in all the segments of the nation’s foreign exchange market.

The reserves started in second half 2020 (H2’20) at $36.22, indicating it has lost $100million in the first two weeks of the second half.

Similarly, the Naira depreciated to N388.5 per dollar in the Investors and Exporters’ window as against N386.5 in the first trading day of the H2’20.

The Central Bank of Nigeria (CBN) had earlier in its monthly economic report for the month of February 2020, indicated that the external sector was already taking a heat after a good performance it recorded in the preceding month of January.

It stated: “The external sector performance declined in the review month (February 2020), due to the 11.7 per cent decrease in the international price of crude oil to $58.45 per barrel, at end-February 2020. This was attributed, mainly, to the continuous spread of COVID-19.

“Consequently, aggregate foreign exchange inflow into the economy amounted to $16.19 billion, indicating a decrease of 4.4 per cent, compared with the level in the preceding month.

‘‘The development relative to the preceding month reflected the decline of 8.6 per cent and 2.5 per cent in inflow through the Bank and autonomous sources, respectively,’’ the report concluded.

Though CBN has not released any new report covering the months of March to date, it is clear that if at $58.45 per barrel the external sector was already under pressure, the subsequent months which recorded a far lower oil price would present the external sector in deep distress.

Economy analysts have concluded that with the sustained downward trend in foreign reserves, the pressure on the exchange rate is likely to remain with a dire implication on the nation’s macroeconomic figures.

A number of underlining factors have been projected to be the drivers of a trend in Nigeria’s external sector presently and in the near future.

The policy disconnect

The first and most critical is the interplay of fiscal and monetary policies where an apparent disharmony is said to be a major pain point. The CBN is in charge of the monetary policy while the ministry of finance is in charge of the fiscal policy.

Most observers have reckoned with the historical disconnect between the two which became very pronounced since 2015 where the CBN has been forced to play a huge role in the fiscal end of the macroeconomic space due to the near absence of disjointedness of the fiscal component.

Over the years CBN has been saddled with firefighting to contain the impact of spending profligacy of the governments at all levels which tended to exacerbate non-productive money supply. This situation puts pressure on the balance of foreign exchange demand and supply, ultimately leading to exchange rate spike.

But amidst the COVID-19 induced economic contraction, many observers have recommended that fiscal policy must be expansionary. In other words, big spending is required to massively stimulate the economy.

However, commenting on this recommendation, Chief Olisa Agbakoba, a versed public and private sector legal luminary, stated, ‘‘I acknowledge the government has adopted an expansionary policy by borrowing massively, but we must have a clear strategy. First, we must determine our Public Sector Borrowing Requirements (PSBR). Additionally, we will need to identify an inventory of Public Sector Spending Requirements (PSSR). The PSBR and the PSSR should be indexed to identify funding gaps.’’

He believes that without the PSBR and PSSR the expansionary measures coupled with huge borrowings, would worsen the already boiling point crises in the macroeconomic space, the foreign exchange market inclusive.

He added that a harmonized fiscal and monetary policy will lay the foundation to rebuild the economy.

Other areas he said would help check the pressures on the macroeconomic numbers include the cost of governance and corruption which he argues, fuel non-productive money supply, which in turn pressures foreign exchange market with excess and non-productive demand.

Clearly, cost-effective government and corruption eradication are outside the control of the CBN, but the apex bank is made to bear the consequences, especially in the area of monetary and exchange rate stability.

Diversification of the Economy

Another fiscal policy and general macroeconomic strategy area which the government has been failing is in the diversification of the economy away from monocultural and import dependency. These are also clearly non-monetary core function except as it relates to complementarities such as interest rates and funding system.

Nigeria runs a mono-cultural economy as 85 per cent of her revenue is derived from crude oil exports.  As a result of the price shocks occasioned by COVID -19, crude oil receipts have gone down and are no longer able to sustain the economy.

This also links to another fiscal headache – the widening budget deficit and deficit funding gaps, which also dovetails into the economic burden of unsustainable borrowings and debt servicing obligations.

Economy experts believe that unless the economy is diversified the country will continue to borrow to the point where it becomes a fiscal crisis. The implication of the external sector is obvious.

In this connection, the Director-General, Lagos Chamber of Commerce and Industry, LCCI, Dr Muda Yusuf, said ‘‘There is also the exchange rate risk inherent in the exposure to mounting foreign debt which we need to worry about.’’ He added, ‘‘As the currency depreciates, the burden of servicing foreign debt would intensify, especially when productivity in the economy remains low.  This is a major problem with increasing the stock of foreign debt.”

The pressure of deficit and the funding crises is just one side of the dependency headache. The massive import bills that are coming from the inability of the government to implement an economic diversification programme is clearly evident in the perennial battle of the CBN to contain foreign exchange demand pressures lined up for importation of goods that could have been produced in Nigeria.

Trade policy

This also links to the other fiscal policy shortcomings of the government, the trade policy, which has put the external sector in a tenterhook. Trade policy refers to the rules and regulations on imports, exports, tariffs, duty etc. Trade policy rests on a tripod of critical factors – import substitution, tariffs, border enforcement and compliance.

Many economy commentators have argued that Nigeria has no trade policy which is why it is a major dumping ground for foreign goods. The country spends billions of dollars importing basic food commodities that can grow locally. President Mohammadu Buhari has been on a diversification mantra, “We must grow what we eat, and eat what we grow’’, but no concerted action has been taken in this direction so far.

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Even with the nearly one-year-old border closure measure, smuggling of the prohibited items is still rampant while the seaports are still heavily inundated with all manners of imports.

According to the World Bank, “Benin Republic’s economy is heavily reliant on the informal re-export and transit trade with Nigeria, which accounts for about 20 per cent of its GDP, or national income. About 80 per cent of imports into Benin are destined for Nigeria.

“Nigeria is only allowing in foreign rice through its ports – where since 2013 it has imposed a tax of 70 per cent. The move is intended not only to raise revenue but also to encourage the local production of rice. But smugglers have been taking advantage of the fact that it is cheaper to import rice to Nigeria’s neighbours.’’

All the imports are funded by the scarce foreign exchange which CBN is forced to provide, meaning the apex bank must perpetually be inundated with demand pressures.

The semblances of trade policy in the form of tariff protection are hardly executed by the Nigerian Customs Services and the nation’s foreign exchange reserves are made to pay the huge price.

Ways forward

The most important way forward, economy observers believe, is to bring the fiscal and monetary policies into harmony. With this done, they argue, the economic measures taken this year in response to the impact of the COVID-19 pandemic, if properly executed, will bring some reprieve to the macroeconomic numbers in general and the fortune of the nation’s foreign exchange market in particular.

On the monetary policy front, especially the exchange rate stability, CBN has been on some stern measures.

CBN measures

Nigeria maintains multiple exchange rates comprising the CBN official rate, the BDC rates, SMIS, and the NAFEX (I&E window).

But a few weeks ago the apex bank set plans in motion to unify the market rates. The CBN official rate has been adjusted from N360 to a dollar to N381 at its SMIS window where forex is sold to importers and SME’s.

A note from Renaissance capital suggests that the naira might depreciate again at the official window if the parallel market or unofficial rate continues to weaken further.

Last week CBN directed all authorised dealers to immediately  discontinue the processing of Forms M for maize/corn importation into the country.

Although the CBN has been trying to intervene in the foreign exchange market in order to support the naira, the low foreign exchange earnings due to crash in crude oil prices have been a limiting factor.

Earlier the CBN had announced that it would start to restrict foreign exchange for the importation of cassava, starch, ethanol and other products into Nigeria.

Godwin Emiefele, CBN Governor, who said this while hosting about 18 governors and two deputy governors at a meeting held at the CBN headquarters to discuss ways in which CBN would help in boosting the economy and create employment, explained that President, Muhammadu Buhari had directed that the bank should boost production of 10 key commodities in the country.

The 10 key commodities include rice, cotton, oil palm, tomato, cassava, poultry, fish, maize, cocoa and livestock/dairy. With the implementation of the measure, a considerable reduction in demand for foreign exchange would be achieved.

The fiscal measures have already been outlined including a battery of stimulus packages also involving the CBN, a new economic development plan, the renewed enabling business environment package, among others.

One just hopes implementation would be diligent.



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