The Nigerian Naira: Maligned, Mistreated and Misunderstood

WHY AM I WRITING THIS?

A recent newspaper article shared that the value of the Nigerian Naira has fallen by 69% in the eight months since the new government’s economic reforms began. This is an example of what economists call a Currency Crisis: the sudden and steep decline in the value of a nation's currency. It usually happens when the economic outlook of a country does not match investor expectations.

Nigerian pundits have written a lot already about this. I write this article because I noticed that they often miss the point. Sometimes the analyses focus on just one or two factors (e.g. removal of government subsidies for imported fuel or irregularities in Nigerian banks), and ignore the deeper underlying fundamentals affecting the value of the Naira. Some other analyses are only directed at attacking the current government. I also find that some explanations are too academic or theoretical, and not pitched in a way that the layman can easily understand.

I hope this piece will enlighten the average person, and most importantly, inform the right fact-based and evidence-based discussions that can lead to positive changes in my country.

WHAT MAKES A CURRENCY STRONG OR WEAK?

I found a good definition online for currency strength: “Currency strength is the relative purchasing power of a national currency when traded for products or against other currencies. It is measured in terms of the quantity of goods and services purchased and the sum of foreign currency received in exchange for one unit of the national currency.”

Keeping that in mind, there are four main factors that determine the strength of the Nigerian Naira:

1. The demand and supply of foreign exchange (FX) in circulation in Nigeria: How much FX is coming in from the goods and services that Nigeria exports? How much FX is left over after essential government demands and commitments (like debt servicing) are met? How much demand do Nigerian industries, businesses and private individuals place on this left over FX? These dynamics affect the true value of the Naira.

2. Central Bank (CB) interest rates: When the CB reduces interest rates (costs of borrowing), consumer spending and economic activity by businesses are stimulated because there are more Naira in circulation. This eventually and inevitably leads to higher profits for companies and higher costs of products (inflation) because of the higher volume of money in circulation.

3. Inflation rate and growth of the economy: Inflation can reach the point where the cost of living becomes unaffordable, and unemployment rises due to the resulting higher labour costs (workers will demand more pay). In this case, the CB usually raises interest rates to slow things down. There is a balance to be struck. Interest rate controls work best when there is a high domestic credit to the private sector as a proportion of the country’s Gross domestic Product (GDP). That means that private businesses are borrowing freely from banks. In Nigeria’s case, domestic credit to the private sector is very low (14% of GDP in Nigeria, compared to 31% in Egypt, 92% in South Africa, 86% in the EU, 56% in Latin America & the Caribbean, and 216% in North America). Nigerian businesses are not borrowing as freely from banks as they should. This may be one of the reasons why the Nigerian CB’s control over the runaway inflation rate (now estimated at 30%) is limited.

4. Balance of trade: How much FX is going out for Nigerian imports, compared to the amount of FX that is coming in from Nigerian exports? How much global demand is there for Nigerian goods and services denominated in local currency (i.e. do foreign banks require reserves of Naira to do business with Nigeria)? The United States Dollar is strong because around 60% of the world’s central bank reserves, 40% of global debt, 90% of global forex trades, and 80% of global trade is denominated in United States dollars. Therefore, there is a constant high demand for it all around the world.

WHAT FACTORS ARE REALLY WORKING AGAINST THE NAIRA?

Based on our understanding of the main influencing factors described above, we can easily identify the major elements that cause the Naira to be persistently weak. This is not an exhaustive list because many factors are interconnected. However, I have attempted to find the most fundamental ones, which may well in turn cause others to emerge. There are seven of them:

1. Revenue from exports is lower than it should be: According to the National Bureau of Statistics, 93% of Nigeria’s export revenue in 2023 was derived from the sale of oil and gas. Oil production has steadily declined from a high of almost 2.5mln barrels per day in 2006 to the current ~1.4mln barrels per day, against a current OPEC quota of 1.58mln barrels per day. Moreover the Speaker of the House of Representatives stated in 2023 that a significant portion (between 5% and 30%) of oil produced is stolen internally, and therefore unaccounted for in government revenues. This lowers the amount of dollars in circulation in Nigeria, thereby weakening the Naira.

2. Outside of Nigeria, there is little demand for Naira: Oil and gas sales and Nigeria’s other major exports (raw agricultural products and unprocessed metals) are denominated in dollars. Therefore, none of our major trade partners place any significant demand on Naira to pay for Nigerian exports. They only need dollars. This lowers the global demand for Naira, thereby weakening it further.

3. Foreign reserves are low and diminishing: Nigeria’s foreign reserves have fallen from a high of $62bln in September 2008 to the current $33bln in January 2024. It is reported that more than 40% of these reserves are encumbered by loan securitisation, effectively bringing available liquidity down below $20bln. Therefore, the Central Bank’s ability to sell our foreign reserves to place an artificial and temporary demand on the Naira is limited by the low reserves. I call this demand artificial and temporary because the Nigerian government is buying its own currency to create an illusion of free market demand, rather than foreign governments and businesses buying our currency because they need it to buy our goods and services. This is clearly an unsustainable approach.

4. Nigeria has high recurrent expenditures on debt servicing: The National Bureau of statistics reports that Nigeria currently owes $113bln in debt, both foreign and domestic. The foreign debt to creditors around the world is $43bln. Servicing the interest and paying down the principal on these debts depletes Nigeria’s foreign reserves, and also demands a large chunk of its dollar revenue. By mid-2023, Nigeria’s debt servicing to revenue ratio was about 74%. This means that, even before we are able to use any of the money we gain from exporting goods and services, we must set aside three quarters of it (possibly even more by now) to pay our debt obligations. Again, the resultant scarcity of dollars weakens the Naira. A healthy economy has a debt servicing ratio of between 0% and 20%.

5. High levels of importation of essential products: Nigeria imports large quantities of goods and services, some of which it had the capacity to produce locally in the past (e.g. refined petroleum products, cars and tyres). The biggest imports are refined petroleum products, used vehicles and wheat. The effect on the Naira is that these imports further deplete the small inflows of foreign exchange inside the country, making the Naira weaker still due to the scarcity of dollars. Interestingly, Nigeria is still reported as having a trade surplus or positive balance of trade, despite all of these challenges. On the whole, we export more than we import. But the poor performance of the Naira clearly shows that we still export too little and import too much.

6. High local demand for foreign goods and services: Compared to the impact of the other factors shown above, this aspect may not be huge. Nevertheless, it is still significant. Nigerians exert local pressure on FX supplies to support foreign medical, educational, business and family (diaspora) expenses. This is the current reality with most Nigerian families who can afford it. Often, it is not a choice informed by vanity or profligacy, but a direct result of the poor and continually declining quality of Nigerian education, Nigerian medical services and Nigerian employment prospects.

7. Currency hedging and money laundering: The long history of the devaluing of the Naira and ever increasing inflation has led some people who have surplus Naira available, generated from legitimate business, to purchase FX as a hedge against future Naira value uncertainty. This is simply a survival tactic that reflects a low level of confidence in the government’s management of the economy. In addition, Transparency International ranks Nigeria as 145th out of 180 countries in its Corruption Index. The proceeds of corrupt activities in Nigeria are often difficult to hide. Apart from laundering the money in purchasing land and businesses in Nigeria (where property rights are not secure and legal recourse in the case of business disputes is slow and unreliable), the easiest way to launder funds is to hide them in foreign accounts or purchase overseas properties or businesses. Obviously, this requires the stolen Naira to be converted to FX first, thereby putting an even greater, and completely invisible, strain on the value of the Naira.

SO NOW WHAT?

I can’t pretend to have all the solutions. Having given a lot of thought to these issues, I am quite certain that all the parties involved in the public sector and leaders of finance in the private sector know exactly what needs to be done. None of the things I have written above should be news to any of them because they are respected, intelligent and competent people with far more experience than I have in the fields of governance, finance and economics. In the unlikely case where they struggle with any of these things, there are many renowned local and international organisations that would be glad to support the necessary analysis.

I will therefore suggest just a few solutions that emerge naturally and directly from the issues I have identified above. I emphasise that these solutions attempt to define WHAT to do, and not HOW to do it. The “how” must be the subject of an entirely new and different analysis and approach.

I identify 9 obvious actions that need to be implemented to address the fundamental issues that weaken the Nigerian Naira. These actions address issues with inflow, outflow and equilibrium. Each broad strategic action requires commitment, analysis, engagement, communication, resourcing and a sense of urgency to distil out the implementation tactics that are both credible (i.e. doable) and sustainable through multiple transitions in government administrations. Furthermore, they all need to be pursued simultaneously because of the interdependencies.

FX INFLOW CONTROL

1. Increase export revenue by increasing and sustaining oil and gas sales, and sales of other dollar-denominated export products.

2. Increase the international demand for the Naira by manufacturing and marketing Naira denominated needed goods and services.

FX OUTFLOW CONTROL

3. Reduce debt servicing through negotiation of loan restructuring and forgiveness with creditors.

4. Increase foreign reserves through fiscal discipline and responsible long-term budgeting.

5. Reduce importation of major goods and services by developing local capacity to produce the biggest current imports (refined products, vehicles and wheat).

6. Reduce the cost of government by rationalising size, structure, services and wages across board.

7. Make Nigerian educational and medical institutions attractive and competitive by providing the right vision, focus, funding and governance/monitoring through the long term.

FX EQUILIBRIUM CONTROL

8. Sustain and improve the positive trade balance by negotiating more equitable international trade agreements.

9. Improve the local business environment and ease of doing business to support entrepreneurship and private sector job creation.

SO, WHO’S GOING TO DO ALL THIS AND HOW?

Among the mistakes that I see the Nigerian government make sometimes is to attack the outcomes, instead of the root causes. For example, they may insist that Bureaux de Change stop selling FX, to hide the obvious insufficiency of funds. Or they may insist that Nigerians no longer study abroad or go for medical treatment abroad, when nothing has been done to make the domestic alternatives attractive. Or they may insist that certain critical items can no longer be imported, when local alternatives are insufficient, and no clear plan has been put in place to sustainably improve local production (apart from forced scarcity). Such measures are generally desperate and ineffectual. They have never worked, and they never will.

My hope is that we can move beyond discussing only subsidy removal, or which party is in power, or which banks are illegally selling FX on the black market. I hope we all have a better understanding of how the Naira was always destined to end up this way because of the deliberate decisions that the government, businesses and the populace have collectively been making for decades. The drop in the Naira’s value reflects its true worth in the absence of persistent artificial controls. Of course, the government (at local, state and federal levels) bears most of the responsibility for the mismanagement of the economy for many decades. But I hope this piece has shown how all of us are involved in some way.

My countrymen often have many suggestions for how things can be better. All too often, we start by saying “they should…”. My intention in this article is for the Nigerian reader to find areas where he or she can begin to say, “we should”, or “I should”, or, even better, “I shall”. We may not all have control over all the things that we want. But we all have the ability to develop and exert various levels of influence over the things we want to change.

This is part of my contribution to hopefully begin to exert some influence. It starts with awareness among Nigerians. We need to have the right conversations at our Local Government, State Government and Federal Government levels. We need to have the right conversations with Finance leaders, many of whom run publicly traded companies, and are therefore more susceptible to public sentiment. We need to generate our own solutions, based on our own understanding of our environment, and not blindly swallow the advice and demands of foreign creditors. We need to continually hold our leaders accountable against measurable outcomes, and no longer against just good intentions or ethnic/religious affinity. We need to stop tolerating distractions, excuses, blame-shifting and reasons for failure. I have faith that we can do it. Let’s get to work.