Much ado about the Yuan Swap

The talk this weekend is all about the yuan currency swap deal between the CBN and a bank in China. I’m not going to go into the details of what a currency swap is (you can read a very good post explaining it here) or the details of the swap because it hasn’t been made public.

The summary of the gist is that the CBN got a loan in yuan and as part of the deal Nigerian banks will be able to buy and sell yuan and probably run yuan denominated domiciliary accounts. The benefits, like any loan, is it buys the CBN some time in it naira defense battle by sort of boosting the amount of foreign reserves it has. The cost? We don’t know yet. That will depend on the details of the deal.

Practically though it does nothing to change the actual problem: which is that the naira is massively overvalued on the official market relative to all currencies. This includes not just the US dollar but the British pound, the euro and the CFA franc. And maybe too the yuan.

We know the yuan trades at about 6.48 per dollar, which puts the “official” naira to yuan rate at about N30.7 per yuan and the black market rate at about N49.3 per yuan. Which rate will the CBN use when selling yuan to banks? It has three choices:

  1. Use the black-market rate of N49.3 per yuan. This will be symbolic because it will mean the CBN has accepted a devaluation of the naira. It will allow formal trading in yuan to commence and give traders, importers and exporters, and official channel to do business without the arbitrage incentives. Something which has been missing since the dollar administrative controls started. And the CBN will be able to do this without oga PMB worrying too much because I doubt he will notice. This is the smartest option in my opinion as you might have guessed if you have been reading this blog.
  2. Use the official rate of N30 per yuan and keep the administrative controls. In which case you have wonder what the whole point was. Importers will still not be able to import their raw materials and fancy dresses from China. And the economic stagnation will continue.
  3. Use the official rate with no administrative controls. This is probably the worst thing to do because it means the yuan reserves will be drained faster than you can say abracadabra. To understand why the yuan reserves will be drained you just need to imagine yourself sitting in Ghana (or any country that imports stuff from China) and solve a bit of mathematics.

    Basically option 3 means that if you route your imports from China through Nigeria then you get a 65% discount courtesy of the CBN. (See working below). And everyone loves a discount. Recall how we started, allegedly, importing fuel for the whole West Africa because of fuel subsidy? Just replace fuel with Chinese goods and you have your answer. And remember the yuan reserves are a loan, which will have to be paid back.

    The devil is in the details with regards to this swap deal so we will just have to wait and see. But if history is anything to go by then don’t hold your breath. Its bound to be anti-climatic.

WORKING

Imagine you are in Ghana and you have $100 to shop for goods from China. This $100 dollars is equivalent to 648 yuan worth of goods if you take your yuan straight to China. But you hear via your connect in Nnewi that the CBN is selling yuan for N30 per yuan if you shop via Nigeria. You solve the math. Your $100 would fetch you N32000 in the black market in Nigeria. That N32000 will fetch you 1066.66 yuan which you buy from the “official” market. Your Nnewi connect then takes your 1066.66 yuan and buy goods from China on your behalf.

What abracadabra has happened? Thanks to your connect in Nnewi and a generous subsidy from the CBN you can buy 1066.66 yuan worth of stuff via Nigeria versus 648 yuan worth of stuff if you went straight to China. Or 65% more stuff. Or a 65% discount. You will of course give your Nnewi connect a small cut for organizing the deal for you. Everybody is happy, except the CBN.

If you are sharp you are probably thinking, “But the inflow of dollars will help the dollar rate in Nigeria”. Sorry to burst your bubble but the Nnewi connect has accounts in Panama and Mauritius and the deals will be done there. So you will not even smell the dollars.

This arbitrage opportunity will be open to all who import stuff from China. From Ghana to Senegal to Cameroun to Jamaica.

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3 thoughts on “Much ado about the Yuan Swap

  1. Very true on certain points except that Nigeria can gain considerably in the sense that importers wont need to buy dollars when importing from China. Consider the relative cost of the dollar to the yuan and consider that items on Nigeria’s import bill still include items that would require dollars. The pressure on the dollar will decrease and that of the yuan should (all things being equal) remain constant. The short run gains will be significant but may be eroded with time if importers key into the kind of deals you used as an example and if our import bill doesn’t reduce.

    1. Except the CBN will still have to pay back the yuan. And because we don’t export much to China the CBN will either need to sell dollars from it’s reserve to buy yuan or buy up dollars from the open market to buy yuan. So the only real benefits are transaction costs.

      The bottom line is that the value of a currency depends on its trade with the rest of the world and the value of that trade has not changed.

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