First Nigerian businesses were hit by a dollar shortage. Now there aren’t enough naira.

A central bank requirement that companies back forward dollar purchases with naira is drying up supplies, helping to underpin a 2.1 percent gain since the local currency fell to a record low against the greenback on Aug. 9. At the same time, an increase in government borrowing is spurring banks to invest in the safety of sovereign debt rather than lending to businesses or consumers, also draining cash out of the system.

Some banks demand naira deposits of as much as 1.5 times the amount of dollars sought in the 60-day forwards market to guard against fluctuations in the currency, said Ayodeji Aboderin, chief financial officer for May & Baker Nigeria Plc, a Lagos-based pharmaceutical and food processing company. That is pressuring the company’s own cash flow, he said. The difference is returned to the company on the delivery of the contracts, with the amount depending on how the currencies have moved.

“Money you would have used as working capital will be taken upfront by the bank,’’ Aboderin said. “Last year, it was more of dollar illiquidity. This year, it is naira illiquidity.”

May & Baker, which is building the country’s first vaccine plant, is responding by cutting production at its water-bottling and instant-noodle units, and focusing on more profitable pharmaceutical lines, Aboderin said. Interest rates on loans have also soared to as high as 25 percent, more than double the rate May & Baker is comfortable paying, he said. Nigerian inflation eased to 16.05 percent last month after reaching a record 18.7 percent in January.

Within Limits

The currency rule, introduced in January, is one of a series of measures aimed at managing dollar flows after a decline in the price and output of crude oil, which accounts for about two-thirds of government revenue. The regulator sells dollars directly to lenders on an almost weekly basis, which then supply these to their customers.

By depositing cash with lenders, companies are able to assure the regulator that they have the money to buy the foreign currency, said Yinka Sanni, chief executive officer for Stanbic IBTC Holdings Plc. The amount of naira required depends on the customer’s balance sheet strength, he said. 

“It is within the rules. It is a product that is acceptable and endorsed by the regulator,” Sanni said. “No bank is doing anything outside the rules. If they were, the CEO would have been cautioned by the central bank.’’

A spokesman for the central bank didn’t respond to calls and emailed messages seeking comment. The naira was down 1.25% at 361.5 per dollar in the interbank market as of 16.13 p.m. in Lagos on Thursday.

Limiting Access

Special auctions that are being used by the central bank to make “massive injections of cash” to the government, effectively raised banks’ cash-reserve requirements beyond the stipulated 22.5 percent, said Monetary Policy Committee Doyin Salami, who has previously been critical of the policies of Governor Godwin Emefiele.

“We thus find ourselves at a point where government borrowing from the central bank is neutralized by raising the cash-reserve ratio of banks, thereby limiting private-sector access to credit,” Salami said after the monetary policy committee’s July 24-25 meeting, according to a central bank statement published Tuesday.

Nigeria sold 364-day bills at a yield of 17 percent and 182-day securities at 16.8 percent at an auction on Wednesday, according to the regulator.

“The Central Bank of Nigeria’s efforts have in many ways helped stabilize the foreign-exchange market,” said Omotola Abimbola, a banking analyst at Afrinvest West Africa Ltd. in Lagos. “But the unintended consequence has been that banks have restricted credit extension to the private sector due to the high yields on government securities as well as low risk appetite.”

Growth in credit extended to the private sector slowed to 0.9 percent this year through July, compared with 19.8 percent in 2016, according to central bank data. Policy makers need to tackle a lot more than dollar liquidity to bolster economic growth and reduce the country’s dependence on oil, Abimbola said. This would include easing monetary policy by lowering interest rates from a record high, addressing infrastructural shortcomings, such as road, rail and power, and improving the productivity of state institutions, he said.

Nigeria’s economy expanded 0.55 percent in the three months through June, ending five straight quarters of contractions that saw gross domestic product shrink 1.6 percent in 2016, the first drop since 1991. The improvement came after oil output increased and authorities boosted the supply of foreign currency needed by manufacturers to import supplies.

Flour Mills of Nigeria Plc, the country’s biggest miller by market value, is planning to issue as much as 40 billion naira in bonds next year and is also considering a rights issue to enable it to deal with funding challenges arising from a scarcity of naira and high interest rates, Managing Director Paul Gbededo said.

“Continued tightness in the market will keep interest rates high,” said Pabina Yinkere, an analyst at Vetiva Capital Management in Lagos. “High interest rates increase the probability of default and make banks cautious in growing loans, particularly to SMEs. If banks do not lend it affects overall economic activity and stalls growth.’’

Source: www.bloomberg.com

The binary nature of the debate meant there was very little time devoted to the question of what to do next after the naira was devalued. The inevitable devaluation happened and Nigeria simply walked into it. This report is thus useful for insight into what happened to the aforementioned parts of the agriculture industry after the effects of the devaluation had flowed through.

In the main they looked at two effects – income and substitution. That is, how did the devaluation affect people’s incomes? And – how did it change behaviour in terms of how people switched products? Naturally, the impact of the devaluation was felt in different ways in different parts of the agriculture value chain, but one can summarise by saying it made everything more expensive.

Imported goods got more expensive for obvious reasons – more naira was needed to buy the same amount of stuff. But the reason the local substitutes got more expensive is that when people ran away from expensive foreign products, the local guys were not able to meet up with increased demand and had to increase prices. This was partly because things like fertiliser and pest control, needed to increase productivity, are all imported and had to be paid for upfront. This automatically ruled out a lot of smallholder farmers from taking part in the benefits of the increased demand for their products. This is something that could have been mitigated with policy responses but farmers were pretty much left to their own devices.

Another thing the research paper highlights is, how much poorer the combination of lower oil prices, naira devaluation, inflation, and population growth, made Nigerians. The researchers calculated that GDP per capita fell from $2,200 in 2014 to $1,180 in 2016 – a shocking 47% drop. Again, when something like this happens, one way to reduce the impact is by ensuring that people have access to cheaper goods. But as we’ve seen, it was not only the devaluation that raised prices, it was also deliberate policy of banning the import of some items that caused local prices of things like palm oil to shoot up.

A big part of the debate around devaluation of the naira and economic policy in general has been that Nigeria should produce its own food and not import. Be careful what you wish for. This policy has largely been ‘implemented’, based on the findings of this research paper, and the results are not altogether pretty. Taking rice as an example, the price of foreign rice increased following the devaluation. But the price of local rice went up as well. This meant that the overall demand for rice went down even though demand for local rice went up. In other words, ‘the substitution effect was greater than the income effect.’ A second order effect of this was that, the overall drop in demand for rice was replaced by an increase in the demand for garri and other cassava products. There have even been newspaper reports of increased cyanide poisoning because of people switching to garri away from rice.

One final interesting effect had to do with crop protection products. The researchers found that most of such products used in Nigeria are produced in China under commission from Nigerians who then brand them for sale locally. A lot of these businesses shut down completely in the wake of the devaluation while others who survived increased their market share – the researchers founds one such company that increased market share by 28% and value by 45% (the difference reflecting increased prices). But something else happened beyond devaluation to cause this shift. The Chinese government cracked down on producers of sub-standard crop protection products in China and many had to shut down. This reduced production capacity from the Chinese side meant that prices of these products increased in China. In other words, Nigeria was at the mercy of a Chinese government policy that had nothing to do with the naira’s devaluation. Between 2014 and June this year, the prices of some of these products increased by as much as 157% as a result.

What are we to make of all these? The obvious lesson is that the actual devaluation of the naira was the easy bit. There was no point wasting so much time on that part of the equation because after devaluing, there was still plenty of work to do. Devaluing the currency was to allow the economy to adjust to its new reality but even that adjustment required an understanding of its impact and how best to cushion the blow.

The other lesson is that the economy is an incredibly complex machine. I’m always reminded of a quote by Larry Summers – former US Treasury Secretary and World Bank Chief Economist – where he said, ‘it is not easy to understand how an economy works.’

They say you should never let a good crisis go to waste. Nigeria is now out of recession officially so maybe there is no incentive for policymakers to consider a report like this. But the effects it highlights can be lessons for good and bad times in terms of how to respond to difficult situations and where exactly to channel resources.

The report is available on www.pindfoundation.org

Source: www.guardian.ng