I wrote something a few days ago about the foreign reserves and the story behind its current free fall and a few days later the IMF also came out with a statement urging the CBN to allow the naira to devalue and raise interest rates to curb inflation. Trust Nigerian’s to shoot down the messenger though. The basic line is “isn’t that the same IMF that screwed us in th 80’s, abeg they should free us”.
However is the IMF right? Does the CBN need to devalue the naira or technically stop trying to back the naira? Well Yes and No. Yes because the CBN does NOT print dollars and cannot back the naira forever. Sooner or later they could run out of reserves and if that happens then the naira will devalue itself but a lot more violently. Secondly if the central bank chooses not to devalue then they are left with the sole option of raising interest rates even further than they already have to to curb inflation. A move which will be tough given that the real interest rates are already thought to be too high. Finally there is the issue of speculation. Everyone knows the CBN is actively backing the naira and short of some big event the market is trying to devalue the naira also. What does this imply? If I have dollars I am better off holding onto them until the devaluation occurs. Banks, Oil companies, businesses all see this and they will all choose to hold on to their dollars as much as they can. This means that the CBN will have to deplete its reserves even more to maintain the exchange rate. This accelerates the inevitable devaluation.
So should the CBN devalue the naira now? No. The tensions in the middle east and rising demand for crude oil means the price of crude oil should rise further than expected which gives the CBN a bit more excess dollars and a bit more time. A bit more time to get it to the heads of the people at aso rock that the reforms need to happen and happen now and that they need to stop spending like there is no tomorrow. But if there is no real change in the levels of domestic production and exports then something will have to give. The naira is probably the most like candidate.