Nigeria's Foreign Exchange Policy Note - Navigating Through the Tides of Uncertainty - Proshare
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Nigeria’s Foreign Exchange Policy Note Navigating Through the Tides of Uncertainty May 2021
Foreign Exchange Policy Note
Nigeria’s economic recovery is yet to relieve pressure on Reserves & Exchange rate
• COVID-19 resulted in a real GDP contraction of -1.92% in 2020. The pandemic caused both demand and supply shocks in Nigeria.
• Crude oil price fell by 24% in 2020, due to lower demand and supply glut.
• Nigeria’s major foreign currency generating sector - crude petroleum and natural gas – declined by 9% in 2020 and by 2.2% in 2021Q1.
• External reserves declined by 8.2% in 2020. Foreign capital inflows fell by 60% from US$24 billion in 2019 to US$9.7 billion in 2020. Nigeria recorded
its largest trade deficit of N7.4 trillion in 2020.
• Although GDP has recorded two consecutive expansion in 2020Q4 and 2021Q1, external reserves and exchange rate remain under pressure.
Nigeria’s real GDP growth Nigeria’s External Reserves and Brent Crude Oil Spot Price
3.0% 85 50,000
2.0%
2.0% 1.9% 75
2.3%
1.0%
65 45,000
0.1% 0.5%
0.0%
55
-1.0%
45 40,000
-2.0%
-3.0% 35
-3.6%
-4.0% 25 35,000
-5.0% 15
-6.0% -6.1%
5 30,000
-7.0% Jan 31, 2019 Oct 31, 2019 Jul 31, 2020 Apr 30, 2021
2019Q1 2019Q2 2019Q3 2019Q4 2020Q1 2020Q2 2020Q3 2020Q4 2021Q1
Europe Brent Spot Price FOB (Dollars per Barrel) LHS External Reserves (US$ million) RHS
2
Data Source: National Bureau of Statistics (NBS), Central Bank of Nigeria (CBN) and U.S. Energy Information AdministrationForeign Exchange Policy Note
The effect of lower crude oil price was a depreciation of the Naira across markets…
Exchange Rate (N/US$)
450 • Since the first quarter of 2020, the Naira has
400 depreciated across the different foreign exchange
350 (forex) markets.
300
250
• The gap between the CBN rate and rates in the I&E
200
window and parallel market expanded due to forex
150
shortage.
• In 2020, the CBN adjusted the official exchange rate
CBN Official I & E Window twice following a wide spread between the official
rate and the rate in the I&E window.
Parallel Market Exchange Rate (N/US$)
550 • Having multiple exchange rates has been a key factor
500 that has limited the inflow of foreign exchange into
450 the Nigerian economy.
400
350 • The recent adjustment of the official exchange rate in
300 May 2021 to reflect rate in the I&E window is a
250 significant move that provides clarity and improves
200 market confidence.
150
3
Data Source: CBN, FMDQForeign Exchange Policy Note
…but despite a recovery in oil price, FX inflows in 2021 have been limited
Forex Inflow in the I&E Window (US$’Million)
• Foreign exchange liquidity has been a problem across the markets.
1,366
1,166 1,169 • Higher crude oil price in the first five months of 2021 was not enough
935 to eliminate pressure on Nigeria’s reserves and exchange rate. Despite
735 a +36% increase in crude oil price from January to May 2021, Nigeria’s
566 551 564 external reserves have remained below pre-COVID-19 levels.
429
• Year to date (May 27), reserves have lost 3.9% of its value from
US$35.65 billion in January to US$34.3 billion.
Aug-20 Sep-20 Oct-20 Nov-20 Dec-20 Jan-21 Feb-21 Mar-21 Apr-21 • Output cap on crude oil by OPEC and rising demand for foreign
currency for imports and services payments have increased pressure
Nigeria’s External Reserves (US$’Billion) on the Naira.
40
• Inflows into the I&E window are yet to return to pre-COVID-19 level –
38 US$564 billion in April 2021. This is despite CBN’s efforts, such as
36 diaspora remittance rule etc., to improve liquidity across the forex
markets.
34
32
• What is needed, in our view, is alignment of forex management
policies with fiscal, monetary and industrial policies to improve
30 liquidity in the forex market.
1/14/2020
1/30/2020
2/17/2020
3/20/2020
4/27/2020
5/14/2020
6/23/2020
7/27/2020
8/14/2020
9/17/2020
1/27/2021
3/15/2021
3/31/2021
4/20/2021
5/27/2021
03/04/2020
04/07/2020
06/04/2020
07/09/2020
09/01/2020
10/06/2020
10/22/2020
11/10/2020
11/25/2020
12/09/2020
12/23/2020
01/11/2021
02/11/2021
03/01/2021
05/07/2021
4
Data Source: CBN, FMDQForeign Exchange Policy Note
Relative to comparable countries, Nigeria’s exchange rate has significantly depreciated
End Period Exchange rates (LCU/US$) in Nigeria and select Countries
WAEMU
Year Nigeria Ghana South Africa Egypt Indonesia Malaysia
Countries
Naira (N) Cedi (C) CFA Franc Rand (Z) Egypt Pound Rupiah Ringgit
2011 156.70 1.58 509.38 8.08 6.03 9067.50 3.17 • Over a period of 10+ years, the Naira has
significantly lost its value relative to
2012 155.76 1.88 498.49 8.46 6.36 9637.50 3.06
some comparable countries.
2013 155.74 2.16 477.76 10.50 6.95 12170.00 3.28
2014 168.00 3.20 541.75 11.57 7.15 12385.00 3.50
• The official Naira rate has depreciated by
2015 197.00 3.80 613.90 15.48 7.83 13787.50 4.29 162.9% from N156.7/US$ in 2011 to
N412/US$ as at May 2021.
2016 305.00 4.20 628.92 13.74 18.13 13472.50 4.49
2017 306.00 4.42 573.51 12.37 17.74 13567.50 4.05
• This is unimpressive when compared
2018 307.00 4.82 572.72 14.36 17.91 14380.00 4.13 with performances of large economies
2019 307.00 5.54 581.75 13.99 16.05 13882.50 4.09 such as Indonesia (58.3%), Malaysia
(30.6%), Egypt (158.8%) and South Africa
2020 379.00 5.76 530.50 14.69 15.69 14050.00 4.02 (72.8%) during the same period.
21/05/21 412.00 5.73 536.75 13.96 15.61 14350.00 4.14
Period
162.92% 262.0% 5.4% 72.8% 158.8% 58.3% 30.6%
Change
5
Data Source: investing.comForeign Exchange Policy Note
Nigeria has also witnessed high frequency of policy shift in Forex management
Average Exchange
Exchange Rate Regimes/Policy in Nigeria Period
Rate (N/US$)
Managed Float 1973 – 1978 0.63
Basket of Currencies Approach 1978 0.78
Dual Exchange Rate System (Introduction of Second Tier FEM) September 1986 3.87
Dutch Auction System (DAS) of Bidding 1987 3.90
Single enlarged Foreign Exchanged Market with various pricing methods July 1987 4.40
Creation of Interbank Foreign Exchange Market (IFEM) January 1989 12.98
Pegged Exchange Rate system 1994 22.00
Autonomous Foreign Exchange Market (AFEM) 1995 81.93
Reintroduction of IFEM October 1999 102.81
Retail Dutch Auction System (RDAS) of foreign exchange management July 2002 129.14
Wholesale Dutch Auction System (WDAS) 2006 – 2013 142.66
Retail Dutch Auction System (RDAS) of foreign exchange management October 2013 159.43
Interbank Foreign Exchange Market (Closure of Official Window) February 2015 197.25
Tightly Managed Floating February 2016 197.00
Tightly Managed Floating Jun. 2016 – till date 324.49
6
Sources: CBN, Ali, A. I., Ajibola, I. O., Omotosho, B. S., Adetoba, O. O. and Adeleke, A. O. (2015), “Real Exchange Rate Misalignment and Economic Growth in Nigeria”, CBN Journal of Applied Statistics, Vol. 6 No. 2.Foreign Exchange Policy Note
Timeline of Recent Foreign Exchange Policies in Nigeria
January 2020 February 2020 March 2020 April 2020 July 2020 July 2020
Inclusion of fertilizer Restriction on Forex CBN devalued the Adjustment of exchange Increase of forex CBN added maize to
in the list of items supply to authorized official exchange rate rate for import duty bidding price for the list of imported
restricted from milk and diary from N307/US$1 to payment from N326/$ to SMIS operators to goods banned from
foreign exchange product dealers N360/US$1 N361/$ N380/$1 official access to forex
N
May 2021 March 2021 December 2020 November 2020 August 2020 August 2020
The CBN adopted the Introduction of the Instruction to banks Amendment of the Resumption of forex The CBN adjusted
NAFEX (I&E Window) ‘Naira 4 Dollar to transfer all diaspora remittances sales to BDC after the official exchange
rate as the official Scheme’ for diaspora diaspora remittances rule to allow recipient to the halt due to rate to N380/US$1
rate remittances to beneficiaries receive foreign currency COVID-19 from N360.1/US$1
7
in cash..Foreign Exchange Policy Note
Recently, the CBN appears to be more embracing of market fundamentals
Two crucial moves point to a deviation from previous approaches adopted
by the CBN:
The limited intervention in the I&E window as shown by the
1. reduced CBN FX sales since January 2021
The Recent unification of exchange rate (official and NAFEX)
2. in May 2021
We wait to observe whether these actions by the apex bank will be
sustained in months to come.
8
Data Source: CBN, FMDQForeign Exchange Policy Note
1. Reduced scale of intervention in the I&E window since January 2021
• In the first quarter of 2021, there was a change in the
Forex Inflow in the I&E Window (US$’Million) scale of CBN’s intervention in the I&E window.
Sources Aug-20 Sept-20 Oct-20 Nov-20 Dec-20 Jan-21 Feb-21 Mar-21 Apr-21
• We observe the limited inflow from the CBN in the I&E
FDI 36.2 30.8 31.7 65.0 54.2 69.8 7.5 29 12.3 window as shown by the data on forex inflows by sources.
FPI 9.2 36.8 48.1 54.8 23.6 116.1 17.9 175.2 31.1
• The decline in overall inflow into the market was largely
Other
19.1 22.4 43.4 22.9 24.0 17.3 9.3 9.7 25.3 driven by over 90% drop in CBN interventions.
Corporate
CBN 434.5 558.2 453.6 823.9 74.1 2.9 6.4 143.2
• In the first four months of 2021, inflows from the CBN
Exporter 37.4 206.8 117.2 134.8 111.5 209.5 175.7 125.5 109.4 intervention in the I&E Window totaled US$226.6 million.
Individuals 14.8 29.4 26.3 29.8 12.3 20.9 2.5 14.4 16.5 This is significant drop of US$2.27 billion in the last four
Non-bank
months of 2020.
31.2 175.5 304.8 407.7 316.5 227.2 350.1 191.2 226.4
corporate
Total 428.7 935.2 1,165.7 1,168.6 1,366.0 734.9 565.9 551.4 564.2
• If sustained, perhaps, this signals a breakaway from the
heavy interventionist role of the apex bank. This could
improve reserves position and boost market confidence.
• To get inflows into the window to pre-pandemic level,
fresh injection of huge amount of forex, particularly from
private sources would be needed.
9
Data Source: FMDQForeign Exchange Policy Note
2. Unification of the official Exchange Rate by the CBN
Potential Impact
• On Monday, May 24, 2021, the CBN displayed the NAFEX exchange
rate on its website. • Previous exchange rate adjustments by the CBN were
not aligned with prevailing market rates. They were
• The Naira exchanged at N410.25/US$, an adjustment of 8.2% from below the rate in the I&E window.
N379/US$ in the early part of May 2021.
• This time, however, the CBN adopted the rate in the I&E
• Recall that the IMF in its Article IV recommended “establishing a window as its official rate.
market-clearing unified exchange rate with the near-term focus on
allowing greater flexibility and removing the backlog of requests • We believe this is a first and major step towards gaining
for foreign exchange”. back investor’s confidence on the economy, which in
turn could improve forex inflows into the economy.
• Likewise, the Federal Government’s Economic Sustainability Plan
(ESP) proposed to “unify exchange rates to maximise naira returns • The government has also hinted the issuance of
to FAAC from foreign exchange inflows”. Eurobond which is expected to improve reserves
position and ease pressure on the exchange rate when
• The adoption of rates in the I&E window is long awaited and is issued.
among measures to regain market confidence and unlock funds
from multilateral agencies including the World Bank and the IMF.
10
Data Source: Central Bank of NigeriaForeign Exchange Policy Note
Key factors that will shape the movement of the exchange rate in 2021
Crude oil price movement and OPEC cuts CBN Forex Policies
Persistent OPEC cuts and compliance among member-countries Management of forex is crucial in regaining investors’ confidence
would mean that Nigeria may not reap the benefits of higher on the economy and in turn, attracting the much-needed inflow.
crude oil price. This implies lower petrodollar inflows in the short Recent moves by the CBN to unify the exchange rate is expected
term. to yield positive impact as regards the inflow of forex.
Ease of doing business reforms and insecurity Interest rate movement
Ease of doing business reforms are crucial in attracting and The gradual increase of interest rates on government securities is
retaining Foreign Direct Investment in Nigeria. The security expected to lead to higher inflows but this will largely depend on
situation, however, could serve as a setback for real sector forex liquidity and capital restriction policies.
investment in the country.
Real sector performance Movement of external reserves
Economic recovery and pick-up in imports and exports are Reserves currently hover at US$34 billion. Reserves accretion is
fundamental factors that will influence exchange rate movement expected to slow down in the short term due to lower than
in 2021H2. Following the gradual economic recovery and the anticipated foreign investment and oil inflows. Possible issuance
opening of the land borders, we expect improvement in non-oil of foreign denominated bonds will improve reserves position.
exports; albeit below pre-pandemic level. Trade deficit is expected
to narrow in coming quarters with reduced pressure on exchange
rate.
11
Data Source: Central Bank of NigeriaForeign Exchange Policy Note
Analyst views on Nigeria’s Foreign Exchange Situation
• The recent action by the Central Bank to unify the exchange rate is a positive move for the economy. This
was a recommendation in our Macroeconomic Review for 2021Q1. With this move, the CBN has taken a step
towards ensuring clarity and improving market confidence. Nigeria can also unlock funding from several
multilateral organisations such as the IMF and World Bank and ease the pressure on the exchange rate in the
medium term. However, exchange rate unification is not a sufficient factor in attracting significant capital into
the country. What should follow the CBN’s recent actions, in our view, are a set of consistent forex policies
that seek to improve market liquidity and prevent every form of forex arbitrage and unnecessary forex
subsidies. The CBN will also need to clear forex backlogs to further instil confidence in the market. In
February 2021, the IMF estimated backlogs at US$2 billion. We believe this will be done gradually.
• As much as Nigeria needs effective management of forex and unification of exchange rate to boost
confidence, the supply shortage of forex is still a major problem. Increasing forex supply from non-CBN
sources is vital in maintaining exchange rate stability in the I&E window and reducing speculative activities.
In addition, the planned issuance of Eurobond by the government is expected to provide some relief in the
market and boost external reserves in the short term.
• From the fiscal and trade perspective, Nigeria will need to leverage on the African Continental Free Trade
Area (AfCFTA) Agreement to boost non-oil exports and increase forex inflows. Providing direct incentives for
businesses to produce for exports, implementing port reforms as well as developing a comprehensive
industrial and trade strategies are important steps that the government must take.
• We believe that the Naira will settle around N430/US$ in the later part of 2021. Forex inflows are expected
to also improve, especially when the Eurobond is issued, but increasing demand pressures from imports and
other payments, will continue to exert pressure on the rate.
12Foreign Exchange Policy Note
Analyst highlights on macroeconomic outlook
• The Economy remains fragile and the macroeconomic outlook is subdued given recent developments
• Annual Inflation showed signs of stability for the first time in 19 months due to a slowdown in food inflation
but inflationary pressures remain. High inflation may continue to create challenges as long as structural
bottlenecks are not addressed.
• The slowdown in GDP growth indicated by the Q1 2021 data is a reflection of fragile economic recovery.
Non-oil GDP slowed to 0.8% from 1.7% in Q4 2020.
• Trade , a key sector (16% of GDP) continued to contract, possibly due to FX shortages and weak aggregate
demand.
• We believe that targeted infrastructure spending and enhanced structural policy implementation is critical
for economic recovery and sustained growth
• Our 2021 forecasts for key indicators Real GDP growth of 1.3%; an average exchange rate of N430/$ and
an Inflation rate of 16.6% .(see Table 1 : Macroeconomic projection ).
13Foreign Exchange Policy Note
Monetary Policy: Key statistics
Lending Rates (%) Credit to Private Sector (N’Trillion)
35 31.8 35
30.2 30.4 29.7 29.1 29.4 30.1 30.6 30.5 31.4
30 28.4 28.9 29.3 29.6 30
26.7 26.8
25 25
20 20
15 15
10 10
5 5
0 0
-5
MPR Prime Lending Maximum Lending Inter Bank Treasury Bill CPS YoY Growth CPS (RHS)
Financial Deepening Indicators (%) Sectoral Utilization of Credit (%)
37.2 37.7
Dec-19 Dec-20 Jan-21 Feb-21 Mar-21 Apr-21
Currency/M2 8.49 7.71 7.50 7.31 7.35 7.29
Currency/GDP 1.69 1.91 1.86 1.82 1.84 1.84
M2/GDP 19.96 24.75 24.78 24.97 25.09 25.20 6.5
8.6
5.2 4.8
CPS/GDP 18.51 19.79 20.12 20.03 20.64 20.89
Stock Market Agriculture Industry Construction Trade Government Services
Capitalization/G 8.99 13.56 15.38 14.44 14.17 14.46
Dec-19 Dec-20 Jan-21
DP
14
Data Source: Central Bank of NigeriaForeign Exchange Policy Note
Monetary Policy: Outlook and Expectation
The CBN Monetary Policy Committee (MPC) held its third meeting of Outlook and expectations
2021 and the Committee maintained its previous policy stance for the • As economic activities resume across several activity sectors, we
fourth consecutive meeting. Hence, the MPC decided as follows: anticipate improved economic recovery in subsequent quarters.
• Retain the MPR at 11.5%;
• However, the inherent fragility due to structural factors such as
• Retain the Asymmetric Corridor at +100/-700 basis points infrastructural deficit, security challenges, foreign exchange instability,
around the MPR; among others, will keep the growth rate tepid.
• Retain Cash Reserve Ratio (CRR) at 27.5 percent; and • Given that the recent driver of inflationary pressure remains structural
• Retain the Liquidity Ratio at 30 percent. rather than monetary, future MPC meetings will put this into
consideration, raising the possibility of a rate reduction.
• However, the need to continue to capital inflows to boost foreign
Key factors that influenced monetary policy decisions at the MPC reserves, support the budget and ensure exchange rate stability would
meeting included: motivate the MPC to keep interest rates high.
• The need to support economic recovery • Consequently in the coming MPC meeting, we anticipate the committee
• Inflationary pressure to retain their policy position while observing the domestic and global
• The need to improve consumption and investment developments.
• Credit to the private sector
• Persisting security challenges and infrastructural deficits
15Foreign Exchange Policy Note
The Policy Trilemma: a useful guide for monetary policy decision
• The Policy Trilemma explains Nigeria’s foreign exchange and monetary
The Policy Trilemma choices. The trilemma refers to the trade-offs a government faces
when making crucial monetary policy decisions.
• In the framework, it is argued that all three objectives cannot be
Free Capital achieved at the same time. Only two of the three objectives can be
achieved at a time.
Mobility
• With COVID-19, Nigeria maintained the two objectives of having a
fixed/managed official exchange rate and monetary autonomy (POINT
C), at the expense of free movement of capital. This was evident in the
A B capital controls and forex backlogs.
• The recent move by the CBN to adopt the I&E market rate as the
official rate could move the country to POINT B: the CBN can control
interest rate (monetary autonomy) while capital controls can be
relaxed, but exchange rate will have to be flexible.
Fixed Monetary
Exchange Rate Autonomy • Whether the Naira appreciates or depreciates will depend on the level
C of capital inflows and outflows, CBN’s involvement in the market and
the external reserves position. This means only way to maintain a
stable exchange rate is to attract even more capital into the economy
or intervene heavily in the forex market using the external reserves.
16Foreign Exchange Policy Note
The Policy Trilemma: a useful guide for monetary policy decision
• At POINT B, exchange rate is expected to be flexible and market
The Policy Trilemma determined. This, to a large extent, reduces arbitrage and round-tripping
and could move the Naira towards its fair value.
• The CBN’s move is expected to instil confidence in the market as foreign
investors are more likely to participate in a less fragmented market that
Free Capital
can be fairly predictable.
Mobility
• Given this framework, the options available for the CBN include:
• Raise interest rates to incentivise the inflow of capital into the
economy. This could hurt economic recovery in subsequent quarters.
A B
• Relax capital control rules/restrictions and simultaneously increase
market interventions to prevent significant depreciation of the Naira.
This could result in external reserves depletion.
Fixed Monetary • “Allow” the Naira to move freely and grow the external reserves.
Exchange Rate Autonomy
C • As a way forward, we believe the Monetary Policy Committee will hold
rates in the subsequent meeting to support economic recovery while the
CBN adopts other measures to increase capital inflows. Forex restrictions
will likely continue until reserves position improves.
17Macroeconomic Projection for 2021
18Macroeconomic Scenario for 2021
Scenario Assumptions Possible Outcome
Best Case • Oil price rises significantly above US$53 per barrel • GDP Growth at 2.3%
(Economy opens up and • Demand for Nigerian crude improves as economies recover- • Inflation Rate at 14.5%
government fully implements Nigeria produces 1.9 million barrels per day • External Reserves at US$38bn
interventions to stimulate the • Government capital spending at N1.7 trillion • Exchange Rate at N380/US$
economy) • Full implementation of sectoral support interventions
• GDP Growth at 1.3%
• Oil price averages US$45 per barrel
Moderate Case • Gradual re-opening of cities, schools, airports, businesses, etc.
• Inflation Rate at 16.6%
(the economy recovers • External Reserves at US$34 billion
• Crude oil production at 1.6 million barrels per day
moderately and embraces the new • Average Exchange Rate at N430/US$
• Government capital spending at N1.4 trillion
normal) • Partial implementation of sectoral support interventions
• Oil price below US$30 pb • GDP Growth at -2%
• Another wave of COVID-19 infections results in lock down of • Inflation Rate at 19%
Worst Case schools and restriction of gathering, etc. • External Reserves at US$28 billion
(Death toll from COVID-19 • Lower crude oil production- Nigeria produces 1.2 million barrels • Exchange Rate at N460/US$
increases rapidly, weak per day
implementation of business • Government capital spending at N700 billion
support initiatives) • Weak implementation of sectoral support interventions
• Civil unrests/protests disruptions productive activities
19Macroeconomic Projection for 2021
2017 2018 2019 2020 2021f*
Real GDP Growth 0.8% 1.9% 2.3% -1.9% 1.3%
Inflation rate 16.5% 12.1% 11.4% 13.2% 16.6%
Average Exchange rate (N/US$) 365.58 361.97 361.93 382.07 430
Investment as a % of GDP 14.7% 19.0% 24.6% N/A 23.0%
Monetary Policy Rate 14.0% 14.0% 13.5% 11.5% 11.0%
External Reserves (Average, US$
31.3 44.6 43.0 35.9 34.0
Billion)
*Please note that there is still a high degree of uncertainty around the forecast for 2021. Actual figures could exceed or
fall below these forecasts. A lot depends on the path of COVID-19, vaccine effectiveness, oil price movement and possible
disruptions in the local economy.
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