Currencies
Forex inflow in I&E window declines by $2.8 billion as FPIs drop by 97%
Exchange rate faced significant pressure due to declining external reserves and falling crude oil prices.
The coronavirus pandemic has had a devastating impact on the global economy and businesses. In Sub-Saharan Africa, oil and other resource-intensive countries will be significantly affected given their over-dependence on these commodities for their foreign exchange earnings and revenue.
Nigeria, Africa’s leading oil producer has been badly hit by the crash in crude oil prices. Following the coronavirus outbreak, the foreign exchange inflows into the Investors and Exporters (I&E) window dropped on the back of lower foreign portfolio inflows.
According to a report from FSDH research, the foreign portfolio investors (FPI) declined from $2.04 billion in January 2020 to $57.7 million in May 2020. The CBN intervention increased from $3.9 billion in January 2020 to $2.48 billion and $2.89 billion in February and March respectively.
The attendant effect of COVID-19 on oil price constrained the CBN’s capacity to intervene further as dollar inflow dwindled in April. Following the lockdown and restriction of economic activities in April and May, total inflows to the I&E window dropped from $3.19 billion in January to $459.2 million in April and $381.2 million in May 2020.
READ MORE: Naira appreciates to N385.50 to $1 at the I&E window
The exchange rate faced significant pressure in the I&E window due to declining external reserves and falling crude oil prices. The Naira fell from 367/$1 in early March to 401.6/$1 in mid-April. As oil prices increased in May following OPEC cuts and higher crude oil demand, external reserve situation also improved.
In addition, The Nigerian government’s ability to secure $3.4 billion loan from IMF also contributed to the improvement in the reserves position. The reserves stood at $36.6 billion as of June 1, 2020.
In the first quarter of 2020, foreign capital inflows into Nigeria amounted to $5.85 billion. This is an increase of 54% from $3.8 billion in 2019 fourth quarter but a 31.2% decrease from $8.5 billion recorded in the first quarter of 2019.
Foreign portfolio investment continued to dominate capital inflows with a share of 73.6%. This represents a 9.9% points decrease from 83.5% in first-quarter 2019.
READ MORE: Naira strengthens against the dollar at I&E window, closes at N386 to $1
Due to the negative impact of the COVID-19 pandemic, the foreign direct investment inflow in the first quarter 2020 fell to $214 million, a 13.4% decrease relative to the $247 million recorded in the first quarter of 2019. The FDI accounted for 3.7% of total inflows, just as Lagos and FCT accounted for 87.7% and 12.1% respectively of the inflows in the first quarter of 2020.
Foreign investment inflow is expected to decline in 2020 when compared with the $24 billion inflow recorded in 2019. The highest decline in inflows will be recorded in the second quarter following the lockdown and movement restrictions.
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Currencies
How rise in oil prices will impact exchange rate
Oil prices are currently inching closer to $70 per barrel as the positive outlook of a return to global economic recovery swells investor sentiments.
Nigeria, Africa’s top oil producer and home to the second-largest reserves on the continent, is expected to benefit from the rise in oil prices in many ways.
Oil prices are currently inching closer to $70 per barrel as the positive outlook of a return to global economic recovery swells investor sentiments.
Historically, there has been a strong positive correlation between crude oil prices and the performance of the Nigerian economy. For example, when oil prices plummeted due to the COVID-19 outbreak and the implementation of lockdown protocols in 2020, the Nigerian government scaled down the budget to align better with the drop in crude oil price.
Now that there is a surge in oil price, we should expect that there would be an increase in government revenue translating to a stirring-up of aggregate demand.
READ: Nigeria records highest trade deficit since 1981
Why oil price is rising
The OPEC+ output restrains, despite the strong recovery of oil consumption, continues to give formidable fitting to bullish sentiments about soaring oil prices.
- Oil prices are rising as optimism about a strong rebound in fuel demand in developed countries overshadows concerns of full lockdown to curb covid-19 in India.
- Oil (BRENT) has seen a 34.3% increase Year to Date with the oil price at $69.34 showing an increase of +1.15% as of the time of writing this article.
What it means for the exchange rate
Perhaps the greatest benefit of the recent oil price rise is exchange rate stability. Since the crash in oil prices began in late 2019, Nigeria’s official currency has faced a barrage of sell pressure as local and foreign investors increase demand for the dollar.
This forced the central bank to curtain demand, implementing various forms of capital controls across the economy. With oil prices on the rise, Nigerians can begin to expect the following:
- An increase in government revenue, which also means higher dollar earnings and thus increased FX reserves. Nigeria’s FX reserve reportedly stands at $34.7 billion as of Tuesday, May 4th, 2021. Soaring oil prices strengthen the exchange rate and promote economic growth. This effect trickles down to higher reserves held by the CBN meant for stabilization of the currency.
- Higher oil prices could also mean a more stable economy thus propelling economic growth. This, in turn, attracts foreign investor dollars or at least retains what we already have and reduces the pressure on demand.
- Nigerians have intensified diversifying their currency holdings, keeping less of naira and holding more dollars as they hedge against depreciation. This has kept the pressure on the exchange rate over the last one and a half years. This trend could reverse if oil prices continue their steady rise.
READ: Dangote: Cement price from our factories is between N2,450 and N2,510 per bag, VAT inclusive
The implication? The parallel market exchange rate might appreciate closer to the NAFEX rate if this trend continues.
Hence, it is safe to presume that as the world resume business and travel activities, the demand for Black Gold will continue to increase, and with supply held steady by OPEC+ we can speculate that this is enough catalyst to relieve the pressure of FX demand and increase our foreign reserves thereby propelling growth.
However, the inclusivity of this growth may still be in question.
