Buhari on naira devaluation debate

May 2, 2016

Naira notes

THE naira devaluation debate resonated at the Presidential Villa with President Muhammadu Buhari displaying his trademark rigidity at a meeting with members of the Council of Retired Federal Permanent Secretaries. He told them that he was not yet convinced of the benefits such an action would bequeath to Nigeria given that previous efforts never impacted positively on the economy.

Yet, the economy is crumbling. At the parallel market, a dollar exchanges at N320, a rate very few businesses could survive with. Already, large-scale job losses have spread in many sectors as a result of low crude prices, forex shortage and budget delay. According to the President, Manufacturers Association of Nigeria, Frank Jacobs, 200 major companies risk closure due to the scarcity of forex for raw materials procurement.

Essentially, a country undertakes currency devaluation to boost export or make its goods cheaper, thereby earning more foreign exchange; shrink trade deficit; and reduce its sovereign debt burden. China, the second largest economy in the world, trod this path last year when it devalued its yuan – knocking off 3.5 per cent of its value to the US dollar – and thus boosting exports. There is also a strong evidence of a sharp increase in the inflow of capital following devaluation. But large currency devaluations can hurt, too, by raising the price of imports and spurring inflation.

But why is Buhari spurning the devaluation of the naira? With hindsight, he told his guests that he staunched the International Monetary Fund and World Bank requests to devalue the currency and remove oil subsidy in 1985, but these were done as soon as he was removed from office as a military Head of State. Cynically, he enquired, “But how many factories were built and how many jobs were created by devaluation?” He enjoys support from the likes of Emeka Anyaoku, a former Secretary-General of the Commonwealth.

However, the President’s logic is faulty. That Nigeria never gained from devaluations of the past does not necessarily mean that a subsequent policy move in this direction will beget a disastrous outcome. What may be wrong, however, with such an undertaking now is the fact that our economic fundamentals are very weak. Currency pegs allow nations to keep inflation and export prices stable. But, what do we export apart from crude oil? 

Truth is, hard choices still lie ahead. The shortage of dollars for international business, which has arisen from a steep decline in the global prices of crude oil — Nigeria’s major foreign exchange earner — has triggered the alarm bells. In response, the Federal Government introduced a slew of currency restrictions to protect the naira, which include a fixed exchange rate of N197-N199 to a dollar, limiting dollar sales at the foreign exchange market and barring 41 items from the official forex market, among others.

But the intended results have not been achieved just yet. Instead, what is obvious is that the economy is haemorrhaging; and inflation has hit 12.8 per cent on annualised basis, the highest since July 2012. To be fair, the present dire economic situation is not the fault of Buhari’s government. The Goodluck Jonathan administration left us with a thoroughly plundered treasury and an economy on the ropes.

Some experts have, therefore, argued that the only viable option for the economy is to allow the naira to float freely against the dollar and other major currencies; and by devaluing, the gap between the official and parallel market will be closed. Walter Lamberson, writing in the New York Times, said, “Buhari’s insistence on maintaining the peg at the current official exchange rate is not only crippling production, it is also encouraging corruption. He should abandon it as soon as possible and allow the naira to devalue.” He has a point.

Even some of our own experts, including a former governor of the Central Bank of Nigeria, Mohammed Sanusi II, support devaluation. At the Monetary Policy Committee meeting of the CBN in January, Doyin Salami, a Lagos Business School scholar, also voted in favour, stressing the imperative to widen the midpoint of the currency band to N220-$1, from the current N197. But he was a lone voice out of the 12-member MPC.

Really, there is no easy way out. Currency devaluation is one of the most dramatic — even traumatic — measures of economic policy that a government may undertake. For any country with weak economic fundamentals and without a war chest of reserves, any option is difficult. Having a fiscal adjustment is difficult and having exchange rate depreciation is difficult.

For Nigeria, will the falling oil prices not be too much for our lean foreign reserves to bear? If Saudi Arabia can stick to its promise to use vast foreign exchange reserves (valued at $592.6 billion as at February 2016) to defend the riyal’s 30-year-old peg to the US dollar, can Nigeria do that with a paltry $27 billion in fiscal buffers?  With a small manufacturing base and almost all goods coming in as dollar-priced imports, it is argued, a cheaper naira would instantly make Nigerians much poorer without providing any benefit to the wider economy via cheaper exports.

Nigeria is not alone in this quagmire; all developing and weak economies are. The economies of other oil commodity traders such as Brazil, Malaysia, Russia and Colombia are facing raps, forcing them to undertake varying degrees of devaluation or depegging of their currencies and adoption of other policy drives to head off economic headwinds.

Yet, Nigeria has a unique economic structure. Our fear is that an economy with a weak export base and serious infrastructure gap such as Nigeria’s might be cutting its nose to spite its face if devaluation is done in isolation.  Contrary to expectation, a devaluation that is not accompanied with other structural economic reforms would potentially further depress economic activity.

And the way out? The IMF has just warned again that oil exporters are facing another year of heavily reduced oil export revenues, and require ongoing fiscal consolidation and reforms to cope with these losses and to diversify their economies away from oil. We believe that considerable attention should be paid to Nigeria’s peculiar economic environment before a decision to devalue our currency is made. Richard N. Cooper, Department of Economics, Princeton University, US, argues in a paper, Currency Devaluation in Developing Countries (1971), “Because of the associated trauma…, currency devaluation has come to be regarded as a measure of last resort, with countless partial substitutes adopted before devaluation is finally undertaken.”

What Nigeria urgently needs is a structural reform that will, among others, tame public corruption, open up and diversify the economy, roll back public investment in business, end importation of refined petroleum products, improve ease of doing business, unleash foreign direct investment in railway and power sectors and substantially reduce our food import bills. If Buhari is against devaluation, then he should roll up his sleeves and change his sluggish, laid back approach to economic management.