Weak Naira Could Lead To Introduction Of Higher Denomination

Continous pressure on weak naira notes might result in a fresh introduction of a higher denomination in the coming years, Brandnewsday noted.

Brand News Nigeria reports that Economist at Vetiva Capital Ibukunoluwa Omoyeni made this known during a session with MarketForces Africa’s questions on the performance of the local currency in the foreign exchange market.

For most companies in the fast-moving consumers’ goods, persistent depreciation of the Nigerian naira has increasingly pose negative performance as many operators garment on losses. This has also raise foreign currency risks for borrowers while banks with net dollar positions reflate earnings performances.

Weak naira has made importations for productive purposes a burden for the manufacturing sector, rising production costs, sometimes, twice the rate of the local currency depreciation.

Since 2016, Naira has faced several adjustments at the official rate. Six years ago, the Central Bank of Nigeria (CBN) official exchange rate was N197 as against the ongoing autonomous foreign exchange fixing rate of N410, while the parallel market rate print at N520.

Weak Naira Could Lead To Introduction Of Higher Denomination

Grappling with naira weakness, steep inflation rate, companies have raised prices on several occasions yet manufacturing sector earnings performance remains unimpressive, according to figures reported in the first half of 2021 financial statements.

Analysts at CardinalStone said in the second half of 2021 report that the apex bank’s decision to reduce the number of foreign exchange windows in the country is likely to be positive despite perceived FX illiquidity.

Over the next few quarters, CardinalStone analysts said their base case foreign exchange outlook is less pessimistic (3.3% depreciation to N425) than was initially feared.

This view is premised on our expectation of an improvement in the current account (CA) deficit position, alongside the country’s Eurobond issuance plans, which could potentially improve the CBN’s ability to defend the currency and boost the financial account”.

The firm recognised that CBN has employed a plethora of unorthodox measures to defend the naira in recent times, such as the creation of multiple foreign exchange markets, restriction of access to FX for the importation of select items, and limitation of FX supply since the start of the pandemic.

Recall that the monetary authority took a step towards FX rate unification in May 2021 after its erstwhile official rate was replaced by the relatively more transparent I&E FX rate.

However, analysts at CardinalStone said it appears that this latest drive towards currency unification, alongside higher oil prices, is yet to translate to tangible currency gains, with complaints of FX shortages persisting.

CardinalStone said the FX outlook appears less pessimistic in the second half on the back of the expected improvement in the current account deficit position, $6.18 billion Eurobond raise and a possible clampdown on speculative FX demand after robust GDP rebound.

In May, the CBN announced its decision to adopt the NAFEX rate as the official exchange rate, the decision was followed by weeks of speculation that the Naira could be floated, especially when the de-facto peg was replaced with a note that the official exchange rate was determined by market forces on the apex bank’s website.

“The eventual adoption of the NAFEX rate as the official exchange rate did not come as a surprise, given the Federal Government’s earlier stance on the NAFEX rate as a benchmark for carrying out official transactions”, Vetiva Capital said in a report.

Analysts noted that initially flaunted as a means of de-emphasizing the official exchange rate, data from the CBN reveals that the closing NAFEX rate was adopted as the official exchange rate, signalling both a quasi-currency adjustment and a change in the FX regime, although the CBN has emphasized it is still adopting a managed float scheme.

“We believe the weakness in the parallel market will persist irrespective of the anticipated about N9 billion inflow due to the discontinuation of FX sales to BDCs”, Vetiva Omoyeni told MarketForces Africa.

He also added that while the inflow may influence an appreciation in the NAFEX rate, the exclusion of BDCs from the parallel market erases the positive impact on the parallel market.

“Unless the CBN adopts an alternative arrangement or relaxes the ban on BDCs, the parallel market may remain under severe pressure.

“However, we do not see scope for significant depreciation in the parallel market due to historical concerns, including a possible policy reversal by the CBN, which could see speculators book huge FX losses”, he explained.

Omoyeni said increased FX supply to banks may not lead to appreciation in the parallel market unless banks are allowed to service other needs, including the 43 items restricted from FX access.

Speaking on the currency redenomination, Vetiva economist said this may not be the solution to the Naira’s problem. He added that attempt to make a relatively stronger Naira will be matched by commensurate adjustment in prices and wages.

“Unless structural issues around export diversification and import substitution are addressed, the currency may not benefit from other artificial measures. However, the persistent weakness of the Naira may create the need for higher denominations in the coming years”, he explained.