Last year was tough for Nigeria. The country’s 2016 budget was calculated with Brent Crude estimated at a price of US$38 per barrel – but in the first month of 2016, the oil price fell below $28. Foreign exchange reserves began to dwindle further and the Central Bank of Nigeria (CBN) was forced to halt US dollar sales to foreign exchange operators.
The situation only seemed to worsen over the next few months as foreign companies, including South African packaging company Nampak, reported troubles getting their earnings out of the country (they couldn’t convert naira profits into dollars). Spanish airline Iberia and America’s United Airlines were forced to completely shut down operations as a result.
Most economists said the solution to Nigeria’s dollar liquidity shortages was to abandon the naira’s peg to the dollar – which had been fastened at just below ₦200/$1 since March 2015. In June 2016 the CBN eventually caved and adopted a more market-driven exchange rate system. Today the naira’s official central bank rate sits at about ₦315/$1.
Yet Nigeria still faces huge dollar shortages and this is proving a deterrent for foreign investors and even local manufacturers. For example, Nigeria’s largest tomato paste manufacturer, Erisco Foods, decided to move its production to China due to struggles with accessing foreign currencies to import raw materials and machinery.
So what should Nigeria do differently this year? How we made it in Africa posed the question to a handful of economists. Here are a few suggestions.
Let the naira depreciate fully
While the naira has depreciated considerably since it was unpegged in June, it is still not completely floating freely as can be seen in the huge disparity between the official central bank exchange rate and the unofficial, parallel market rate. This means that the central bank is still intervening to prevent the naira from free-falling in what is known as a ‘managed float’ regime. The naira is, therefore, still overvalued.
Many economists argue that Nigeria needs to adopt a purely market-driven exchange rate regime that will see the gap between the central bank rate and the parallel market rate close. Allowing the naira to fully depreciate to the dollar would come with short-term struggles – such as a rise in inflation as imported good will cost more – but could help solve the country’s fiscal challenges.
Charles Robertson, global chief economist at Renaissance Capital, notes that Nigeria’s budget revenues are mostly derived from oil exports and an overvalued naira means the country is earning less from exports.
“If your currency is weaker and reflecting the lower oil price, then your naira revenues will be higher and your ability to minimise your borrowing is better as well,” he explains.
“And that is the policy stance they have gone half way towards. They have let the currency depreciate somewhat – which has helped. I think the economy would be in a worse place were it not for that.”
Robertson argues that other economies have managed to attract foreign investment from unpegging their local currencies from the dollar in recent years (such as Russia in 2014 and Argentina in 2015).
“And we saw Egypt do it in 2016 and that is our top pick right now for investors in emerging markets all over Africa – to invest in Egypt – because they have let their currency go. We continue to think is the most important priority for Nigeria today.”
Encourage local manufacturing with favourable foreign exchange policies
For Thierry Mbimi, partner and head of financial risk management at KPMG Nigeria, another solution to the country’s economic woes would be to implement foreign exchange policies that favour local manufacturing firms who are export-orientated but have to import some of their raw materials.
“For instance, a local furniture manufacturer who needs accessories for his product would have less need for foreign exchange if he/she exports any excess timber and then instructs the buyer to use proceeds from that sale to purchase and send whatever accessories the furniture manufacturer needs,” he explains.
“Providing special waivers for such need-based exports would help reduce the demand for foreign exchange for this type of local manufacturers.”
Intensify efforts to diversify the economy
Nigeria’s current foreign exchange crisis is partly due to the dwindling oil export revenue (from a collapsed oil price and less production) which has reduced the amount of foreign exchange coming into the country.
“There needs to be a major shift away from oil and gas and more towards services – or even developing the IT or telecoms sector in a more significant way,” says Ecobank’s head of economic research, Gaimin Nonyane.
She adds that Nigeria could also benefit from developing specialised export processing zones and offering incentives to export-orientated manufacturers.
“Creating export zones specialised in a particular area – such as IT, telecoms, etc – I think will attract a lot of investment into the economy and help to stimulate growth, and would be good to provide foreign exchange which would prop up the value of the naira.”
Address oil production problems
Last year, attacks on oil producing facilities and pipelines in the oil-rich delta region by militant group, the Niger Delta Avengers, brought Nigerian oil production to the lowest in years.
Robertson says addressing these oil production challenges will help tackle Nigeria’s foreign exchange shortage (as more oil exports will bring in US dollars). This will, in turn, help strengthen the naira’s value.
“Oil production remains weak. It is pretty hard to get a firm figure on just how weak but I have seen anything from 1.2-1.8 million barrels a day… Production should be over two million barrels a day. So if production is at 60-80% of your target, then your currency is also going to be weaker than what you might hope.”
Harmonise fiscal policies with monetary policies
According to Mbimi, the finance ministry can do more to harmonise their fiscal policies with the CBN’s monetary policies in order to spur economic growth. For example, to help increase disposable income for lower- to middle- income classes (who are facing inflationary pressures), appropriate expansionary fiscal policies, such as tax cuts, could help spur economic activity.
Furthermore, increased government spending on infrastructural development (especially power, education and healthcare) could also help provide an enabling environment for foreign direct investment in sectors such as manufacturing and solid minerals, Mbimi notes.