The depreciation of the Naira during the month of August was exacerbated by the incapacity of Nigerian banks to meet the surging demand for dollars, leading buyers to resort to the parallel market.
However, the Central Bank of Nigeria (CBN) has articulated a strategic plan aimed at resolving the foreign exchange debt within the next two weeks.
This proactive measure holds promise for reinstating confidence in the economy, especially considering the entrenched position of the US dollar in global transactions and foreign exchange reserves, which renders its substitution with another currency a formidable challenge, notwithstanding its inherent imperfections.
This was disclosed in the Nigeria Macroeconomic and Market report for August 2023 by Comercio Partners viewed by Nairametrics.
Dollar dominance
The report noted that in the official market, August started with a bang as the Naira reached a high of N789.08/$1 on August 1st, and then later appreciated to N738.18/$1 by August 30th.
- “This marked a depreciation of roughly 0.76% from the July closing rate of N756.94/$1, eventually settling at N762.71/$1 by month-end.
- “The Naira’s erratic behaviour left both investors and market observers scratching their head
Pressures
They added that Naira faced a sharp decline, weakening to N930 to 1 dollar in the unofficial foreign exchange market, known as the parallel market, as the US dollar steadied near six-month highs.
- “Lingering concerns about inflation in the United States and the hawkish Federal Reserve contributed to the dollar’s strength, prompting investors to seek safe-haven currencies.
- “This depreciation of the Naira was exacerbated by Nigerian banks’ inability to meet the surging demand for dollars forcing buyers to turn to the parallel market.
- “However, the Central Bank of Nigeria (CBN) announced plans to clear foreign exchange debt in the next two weeks, which could restore confidence in the economy.
The report also noted that the dollar’s entrenched position in global transactions and foreign exchange reserves makes it challenging to replace with another currency, despite its flaws, as a result, the Naira and other frontier market currencies continue to face pressure amid the dollar’s dominance.
Culprits behind Naira’s Depreciation
They noted the naira’s depreciation can be attributed to a complex interplay of various factors including Liquidity and demand constraints, they said:
Liquidity Constraints: They said within Nigeria’s financial system, liquidity constraints posed a formidable challenge. As liquidity levels fluctuated, so did the Naira’s stability, adding uncertainty to the markets.
Supply and Demand Dynamics: Imbalanced supply and demand dynamics further exacerbated the Naira’s troubles. Achieving equilibrium amid these fluctuations proved to be an elusive goal, they noted.
Shocking FX Reserves Revelation: The report also noted the report from JP Morgan which revealed a startling revelation about Nigeria’s net foreign exchange (FX) reserves.
- “The report unveiled a complex web of financial instruments, including foreign exchange forwards, securities lending, currency swaps, and outstanding contracts, which had eroded Nigeria’s net external reserves to an alarming low of $3.7 billion by the end of 2022.
- “This revelation sent shockwaves through the market, resulting in a short-term repricing of Nigerian international bonds and exacerbating the Naira.
Diaspora Remittances Diversion: The acting CBN Governor, Folashodun Shonubi, pointed to the diversion of diaspora remittances to unofficial channels, including the parallel market and unlicensed online platforms, as a major factor contributing to the Naira’s decline against the dollar
CBN’s Response and the Return of BDCs
They added with the revamped framework, BDC operators are now restricted to a permissible range of -2.5% to +2.5% of the Nigerian Foreign Exchange market window’s weighted average rate from the preceding day
- “This move aims to address the significant backlog of unmet foreign exchange demand, estimated at a staggering $10 billion. These FX backlogs have inflicted heavy losses on many firms and disrupted the economic ecosystem.”
Expectations
On its expectation for the coming months, they said CBN’s efforts to address liquidity challenges and enhance transparency via the revised BDC operational framework may bring stability, adding:
- “ However, market focus will persist on Nigeria’s FX reserves’ true status, the CBN’s ability to restore confidence in them, and effective foreign exchange market management.
- “Vigilance and adaptable strategies are advised for navigating potential foreign exchange landscape shifts”