First a recap. October 2014 the crude oil slide begins with prices falling from around $100 a barrel to around $45 a barrel. Remember crude oil makes up somewhere around 90% of our exports. In response the Naira tried to weaken. The CBN tried to stop it from weakening but after a couple of billion dollars spent it kind of gave up. It changed its official exchange rate from N150 per dollar to N168 per dollar plus or minus a few.
Unfortunately that wasn’t enough. As at the time the CBN made the first change the Naira was already trading at N178. And so the war continued. After a few billion dollars the CBN decided to change tactics. First if gave up its official WDAS window, choosing instead to intervene directly in the interbank market. Giving up the WDAS of course meant it had also given up its N168 plus a few exchange rate. It intervened in the interbank and moved the exchange rate from around N206 per dollar to N197. Secondly, and more importantly, it implemented a couple of “administrative measures”. From the CBN’s perspective the measures were put in place to check the activities of these so-called speculators. In reality though it was just a way to slow down capital outflows. In practice the administrative measures created a lot of difficulties for anyone who wanted to legally purchase foreign currency via the interbank market.
We had already seen complaints by some businesses on the difficulties in obtaining forex most notable being MTN who had to abandon its foreign debt repayment plan. In this context the foreign holders of Nigeria’s Naira denominated bonds, guided in part by indices like the JP Morgan EMI, are just one extra casualty of a forex market that is broken. Indeed a lot of the foreign bondholders had already read the writings on the wall with their holdings dropping from a peak of $11bn to somewhere around $3bn depending on who you ask. The removal from the JP Morgan index is just the nail in the coffin. The CBN will of course argue that there was no problem and that “all genuine and effective demand were met”. The words genuine and effective however betray the reality of bottlenecks in the forex market.
The direct impact of the removal from the index will be somewhat limited. It will probably result in higher borrowing costs for everybody from governments to business which given our huge infrastructure deficit and financing needs is a big deal. There are also worries about the asset quality of banks who hold lots of government instruments as these instruments are in someway less valuable than they were before. The real effect will be on the reputation of Nigeria as a destination for foreign investment. In the words of Warren Buffet; “It takes 20 years to build a reputation and five minutes to ruin it”. There are some who would argue that we don’t really need these portfolio investors anyway and that what we need is long term foreign direct investment. Unfortunately the same investment banks who advise funds on what instruments to hold are the same banks that advise companies on where to invest long term.
Its important to keep the bigger picture in mind. JP Morgan might have made it to the front pages but the hundreds of other businesses who face the same forex difficulties won’t. They will just go quietly. In the end the CBN has to ask itself if the collateral damage from its Naira fixing policy is not greater than any damage a devaluation would cause.