The maze of multiple exchange rates in Nigeria
By Ibrahim B. B. Shettima
“But the extreme fragility of the financial system…is rooted in the incentives of people within the system and in the failure of regulations to counter these incentives.”
Amar R. Admati (Professor, Stanford University)
I t is tempting to dismiss the Daily Trust article of January 3rd, 2017, written by one Eugene Enahoro, entitled ‘Buhari and 2017’ as the work of a hack writer. The author dredged out a number of parallels between the current administration and its immediate predecessor. The comparisons ranged from the budgetary allocations to the creature comforts of the leaders to the critical issues of economic management. The said article may very well be a hatchet job, to which a quintessential retired public servant who rose to the position of Head of Service in the 1980s, Alhaji Adamu Fika, the Wazirin Fika, provided a fitting riposte in the Daily Trust of February 8th, 2017. Nevertheless, it is pertinent to examine the issue raised by the author on the prevailing multiple foreign exchange rates in Nigerian economy.
The author asserted that there are presently eleven (11) official naira/dollar exchange rates, namely; Pilgrimage (N197/$); Customs Duty (N285/$); Budget Benchmark (N305/$); Interbank Rate (N315/$); Fuel Imports (N316/$); International Debit/Credit Card (N319/$); Travelex Rate (N345/$); Airlines’ Special Rate (N355/$); Western Union (N375/$); Bureau de Change (N395/$); Black Market Rate (N488/$)
It should be admitted from the onset that Nigerian economy is beset with the phenomenon of multiple exchange rates. The historical background to this development is the unsatisfactory, nay premature, implementation of Structural Adjustment Programme (SAP), introduced in Nigeria three decades ago, involving the adoption of market determined exchange rate as against the hitherto fixed regime. The country’s subsequent experiments with various approaches to exchange rate determination, and by implication, foreign reserve management, under a flexible regime, spawned some nomenclatures over the decades, leading to neither stability nor convergence in exchange rate, irrespective of the government in power. Even the rates convergence achieved by CBN in 2006 soon turned out to be a flash in the pan. From the Second-tier Foreign Exchange Market (SFEM) through the Dutch Auction System (DAS), Guided Deregulation, Retail Dutch Auction System (RDAS) to Wholesale Dutch Auction System (WDAS), Autonomous Foreign Exchange Market (AFEM), Interbank Foreign Exchange Market (IFEM), it finally berthed at the Floating Exchange Rate System in June, 2016.
In spite of all these experiments, instability in the external value of the naira, often exacerbated by multiple exchange rates, has remained the bane of Nigerian economy. The reasons for this are located in both structural and policy domains. The structure of Nigerian economy is characterised by import dependence, monolithic export and revenue base and, unfavourable terms of trade, among others. On the other hand, the policy tools are disproportionately demand management biased, to the exclusion of supply management. The egregious lack of synergy between monetary and fiscal policies also compounds the problem. These, in a nutshell, are the factors responsible for exchange rate misalignment that has bedevilled the national currency.
The exchange rate of a currency is adjudged to be misaligned when it is out of sync with the long term economic fundamentals of its country, namely, terms of trade, trade balance, surplus /deficit levels, GDP growth rate, inflation rate, interest rates, among others. Stripped of technicalities, a misaligned exchange rate manifests in the existence of dual or even multiple exchange rates. This development invariably leads to rent-seeking speculative activities, especially when participants can move from one segment of the market to another. Sadly, this is the situation of Nigeria today!
It is however, pertinent to point out that the existence of minimal exchange rate deviations between different segments of a domestic foreign exchange market is not uncommon. But, by international convention, the tolerable margin of deviation between the official and any other rate should not exceed + (-) 5%. It is against this background that an assessment of the eleven rates cited above, should be carried out, assuming that the rates quoted are correct but subject to change, in line with the demand-supply dynamics of the foreign exchange market.
Out of the rates cited above, Budget (N305/$) and Interbank (N315/$) are “official” and “semi-official” respectively. At a deviation of 3.28%, there is near synchronisation between these two rates; the differential is therefore not distortive of economic incentives. Another set of rates recognised by the regulator (CBN) consists of International Money Transfer Organisations (IMTOs) referred to above as Western Union (N375/$); Travelex (N345/$) and BDC (N395/$). The deviations of these rates from the “official” rate are 23.00%, 13.00% and 29.50% respectively.
Three of the rates cited above are each distinctively unique. While the International Debit/Credit Cards rate (N319/$), autonomously determined by the issuing bank(s), has a tolerable premium of 4.6%, the Customs rate (N285/$) amounts to a discount of 6.56% for importers. This is preposterous as it is inconsistent with both the revenue drive and import restriction postures of the government. In any case, extant regulations require the Nigeria Customs Service (NCS) to apply CBN-published inter-bank rate to import duty payments. This may therefore be a figment of imagination of the author of the article under review.
The third distinctly unique case is the rate applicable to pilgrimages (N197/$). This is a politically sensitive matter, and the rate shifts from one year to another, dating back to the SAP-induced liberalisation of the market in the 1980s. It is instructive to note that this rate was applied to the last pilgrimages of the two main faiths in Nigeria because the CBN claimed that deposits had been made prior to the floating of the naira in June,2016, which led to the currency depreciating from N199/$ to N285/$.
This rationalisation meant that the pilgrims (Christians and Muslims) had unwittingly hedged against movements in the value of the naira. This seemingly rational expectation justified the implied subsidy or discount of 31% enjoyed by the pilgrims last year. I however hasten to note that if the same special rate prevails this year, the effective rate of subsidy will be 35%, if the “official” rate remains at N305/$ at the time pilgrims commence deposits of their Basic Travel Allowances (BTA).
The parallel market rate (N495/$) obviously has a close affinity with the recognised BDC rate since in the perception of informed stakeholders, the latter funds the former, although the umbrella body of BDC operators, Association of Bureau De Change Operators Of Nigeria (ABCON) distances her members from this market, characterised by a premium of 62%.
The remaining two rates alluded to by the author, Fuel Imports (N316/$) and Airlines’ Special Rates (N355/$) are apparently figments of the imagination of the author, like the alleged Customs rate. This conclusion is based on the fact that CBN’s special interventions of this nature, baring pilgrims’ BTA, are limited to volume allocations and not price (rate) discount/premium.
In the case of the alleged Fuel Imports premium of 3.6%, the deviation is tolerable in the context of the international benchmark of 5%, but it has the potential of exerting upward pressure on the domestic prices of refined petroleum products. It is inconceivable for the authorities to wittingly or unwittingly endorse this policy, given the centrality of energy availability to economic growth. Similarly, the implied 15.00% premium in the rate allegedly being applied to Airlines’ remittances or imports is counterproductive for a country without a national carrier.
In view of the foregoing, we can reasonably conclude that three of the rates (Customs Duty, Fuel Imports and Airlines Remittances) are conjectural as each of them stands the logic of enlightened economic interest of Nigeria on its head. Secondly, the rate stated against offshore utilisation of debit/ credit cards is not only within the tolerable limit of 5%, it is autonomously determined by the issuing banks. On this score, neither the government nor the regulator deserves to be pilloried for this.
Thirdly, the 3.00% divergence between the Budget Benchmark and Interbank rates has been adjudged to be within the tolerable limit. This leaves us with five rates that the authorities must assiduously realign with the international benchmark of 5%, since deregulation is not synonymous with absence of regulation. These are IMTOs, Travelex, BDCs, Pilgrims’ BTA and the run-away Parallel Market rates. In deed the preponderance of the rent- seeking incentives in the Nigerian foreign exchange market revolves round these segments of the markets.
The solutions to the identified problems lie in structural shifts in the economy as a long term strategy as well as in the realignment of policy tools as a short- to- medium term strategy. The long term strategy may not be germane to the requirements of the moment, and are therefore not discussed here. As for short term measures, the following courses of action are herein recommended for the authorities.
The market should be deepened through increased supply by harnessing IMTO inflows and private sector export proceeds, including those of Free Trade Zones (FTZs). This should be complemented by the imposition and enforcement of a buy-sell spread of 1% within each segment of the market. Secondly, the authorities should streamline recognised segments to a maximum of five, namely, CBN, Interbank, BDCs, Exports Proceeds and IMTOs, and the arbitrage between one market and another should be limited to + (-) 5%. Given the peculiar situation of Nigeria, this threshold may be raised to + (-) 10%, provided it is programmed to be realigned with the aforementioned international benchmark within a reasonably short time.
Thirdly, all preferential foreign exchange allocations, baring regulatory interventions, should be stopped forthwith. Fourthly, the CBN should revert to weekly sale of foreign exchange using the Retail Dutch Auction System (RDAS) because its customer- based demand is easily verifiable and less susceptible to round tripping and speculative attacks. Fifthly, to stem the unwholesome speculation on the naira, the rate applicable in the recently introduced forward/futures market should also be subjected to the benchmark of + (-) 5%. Sixthly, the CBN should refrain from taking precipitate action on foreign exchange management as long as the foreign reserve level covers between three and six months of imports.
Finally, these recommended measures are efficacious only when monetary and fiscal policies are aligned, and the identified long run structural macroeconomic transformations are pursued with vigour.
Mr Shettima is an economist and a retired Deputy Director of CBN.
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