Tuesday, May 24, 2016

CBN adopts flexible forex policy as reserves dip to $26.6bn

CBN Governor, Mr. Godwin Emefiele

Akinpelu Dada, Oyetunji Abioye, Ifeanyi Onuba and Anna Okon

The Monetary Policy Committee of the Central Bank of Nigeria has directed the management of the apex bank to adopt a flexible exchange rate policy in the inter-bank forex management structure.

The CBN Governor, Mr. Godwin Emefiele, disclosed this on Tuesday while addressing journalists shortly after the two-day MPC meeting held at the apex bank's headquarters in Abuja.

He said with the directive, the bank would soon release a new guideline on the management of foreign exchange in the country, adding that it would retain a small window for critical transactions.

The governor gave some of such transactions as importation of vital machineries for production as well as essential basic raw materials critical for manufacturing, which, by their nature, could not be sourced locally.

A flexible exchange rate system is a monetary system that allows the exchange rate to be determined by supply and demand.

The implication of this is that with a high demand for the dollar in Nigeria, there is every likelihood that the naira will experience a further decline in the coming months.

The CBN had been under pressure over the last few months to either devalue the naira or adopt a flexible exchange rate policy.

Emefiele said following the recent decrease of the country's foreign exchange reserves, the time had come for the bank to introduce greater flexibility in the management of forex.

He said all the members of the committee voted unanimously to introduce greater flexibility in the inter-bank forex market structure and to retain a small window for critical transactions.

According to him, while the country awaits the new policy to be unveiled soon, the CBN will only fund critical transactions as the apex bank does not have enough foreign exchange to meet all the demand by users.

He added that those who desired foreign exchange should seek for it from autonomous sources.

The governor also ruled out the possibility of the CBN providing foreign exchange to fund the operations of Bureau De Change operators under the new policy.

He recalled that the committee had in its last two consecutive meetings signalled the imperative of the reforms that needed to be carried out in the foreign exchange market.

Emefiele said, "The committee observed that while the bank had been working on a menu of options to ensure increased supply of foreign exchange, there was no easy and quick fix to the foreign exchange scarcity problem as supply remained essentially a function of exports and the investment climate.

"The committee is aware that a dynamic foreign exchange management framework that guarantees flexibility could not replace the imperative for the economy to increase its stock of foreign exchange through enhanced export earnings.

"Consequently, such a structure must evolve to provide a basis for radically improved investment climate to attract new investments. The committee recognises the exchange rate as a very important macroeconomic variable, which must be earned by increased productive activity and exports.

"Accordingly, the MPC decided that the bank should embrace some level of flexibility in the foreign exchange market."

On the negative Gross Domestic Product growth rate recorded in the first quarter of this year, Emefiele said the delay in the passage of the 2016 budget was a major factor that contributed to this.

While acknowledging the severely weakened macroeconomic environment, as reflected particularly in increased inflationary pressure, contraction in real output and rising unemployment, the CBN governor recalled that in July 2015, the committee had hinted on the possibility of the economy falling into a recession.

This, according him, would have been averted if appropriate complementary measures were taken by the monetary and fiscal authorities to stimulate the economy.

He added, "A lot of activities are predicated on the budget, because with the budget, construction workers will return to sites; people will buy gravel and sand as well as other building materials. People will earn income from these activities.

"Unfortunately, the delayed passage of the 2016 budget constrained the much desired fiscal stimulus, thus edging the economy towards a contractionary output.

"As a stop-gap measure, the central bank continued to deploy all the instruments within its control in the hope of keeping the economy afloat. The actions, however, proved insufficient to fully avert the impending economic contraction.

"With some of the conditions that led to the contraction in the first quarter of 2016 still largely unresolved, the recession, which was signalled in July 2015, now appears imminent."

Also at the meeting, the MPC decided to retain the Monetary Policy Rate at 12 per cent, the Cash Reserve Requirement at 22.5 per and the liquidity ratio at the current rate of 30 per cent.

While reacting to the decisions of the MPC, the President, Manufacturers Association of Nigeria, Dr. Frank Jacobs, said the group was in support of the flexible exchange rate policy, adding, "It is what we have been advocating for all this while: that the government should allow market forces to determine the exchange rate instead of fixing it. At the end of the day, the law of demand and supply will usher in an effective and even exchange rate.

"It will help us to plan and know where we are going instead of depending on speculation all the time. Initially, the rate may be volatile; but as time goes on, it is going to stabilise."

Similarly, the Lagos Chamber of Commerce and Industry commended the decision to adopt a flexible exchange rate regime.

According to the chamber, the new regime will lead to improvement in the efficiency of foreign exchange allocation; reduction in the distortions that currently characterise the forex market and bring the economy closer to equilibrium; improvement of liquidity in the foreign exchange market; and reduction in the current trade arrears.

The Director-General, LCCI, Mr. Muda Yusuf, said it would also lead to reduction in the arrears of remittances, which had accumulated for the past 18 months; reduce uncertainty that investors had been grappling with over the last one year; and boost investor confidence as well as attract greater forex inflows to the economy.

Economic experts also hailed the decision of the MPC, saying it was long overdue.

The Chief Executive Officer, Financial Derivatives Company Limited, Mr. Bismarck Rewane, who lauded the new exchange rate policy, said the development would eliminate the fears that foreign investors had been nursing about the Nigerian forex policy.

According to him, the decision may make the naira to depreciate initially, but it will find its equilibrium price against the dollar and other major currencies over time.

The FDC boss, however, warned the CBN against further creating a separate forex market where the central bank could sell dollars at cheaper rates for some critical goods and services.

The Chief Executive Officer, Cowry Asset Management Limited, Mr. Johnson Chukwu, said the flexible market-determined exchange rate regime was long overdue, describing it as "a much-awaited decision."

"We have been canvassing this for a very long time; we are happy that the CBN has finally adopted it," he said.

A professor of Economics at the Olabisi Onabanjo University, Ago Iwoye, Sherriffdeen Tella, also hailed the adoption.

He said the exchange rate policy the CBN was using would have worked for the country but unpatriotic elements, especially in the banking sector, frustrated it.

The Head, Investment and Research, Afrinvest West Africa Limited, Mr. Ayodeji Ebo, said the MPC's decision would enhance liquidity in the market and help to stabilise the naira.

Ebo foresees the naira-dollar exchange rate at something close to 300.

An economic analyst and Head, Investment Advisory, Sterling Capital, Mr. Sewa Wusu, also hailed the MPC's decision.

"The muted economic growth was traceable to structural issues such as scarcity of forex and scarcity of fuel. The MPC's latest decision on the exchange rate will help to stimulate growth. It is a right move," he added.

The National President, Association of Bureau De Change Operators, Alhaji Aminu Gwadabe, also hailed the decision of the MPC, saying it would help to enhance liquidity in the forex market.

He said the decision to rule out the sale of forex to the BDCs was right, adding that it had been overtaken by events in the forex market.

Meanwhile, the naira weakened slightly in the parallel market on Tuesday following the MPC decision.

The currency closed at 346 to the dollar on the parallel market, weaker from 345 at Monday's close.

At the official interbank window, commercial lenders were quoting 199 naira to the dollar, close to its peg of 197.

Also, the external reserves fell by 2.7 per cent to $26.56bn as of Monday from a month earlier, according to the CBN data.

The external reserves have lost over $2bn this year and were down by 10.7 per cent a year ago when they stood at $29.77bn.

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