In a move that aligns with the current administration’s policy direction, the Central Bank of Nigeria (CBN) recently issued a directive to banks regarding the unification of exchange rates. This long-awaited decision, hinted by the President in his inaugural address, aims to address the challenges posed by multiple exchange rates and promote transparency in the market. While the implementation details are yet to be communicated, let’s explore the potential impact on various stakeholders and raises intriguing questions about the future.
Unifying Exchange Rates and Promoting Competition
It has been widely discussed and agreed that the multiple exchange rates are detrimental to the economy as the current system allows arbitrage.
The unification of the ₦/US$ exchange rates through deregulation is expected to eliminate arbitrage opportunities and enhance market competition. By removing the existing complexities, this liberalisation will encourage banks to actively support trade and provide facilities to credible businesses with foreign exchange (FX) needs. Strategic banks, seeking to diversify their earnings, will seize the opportunity to play in the FX market, boosting productivity in the economy. However, the black market may face challenges as more transactions shift towards commercial banks.
Implications for Retail Investors
The unification of exchange rates will impact retail investors in several ways. With no arbitrage opportunity between official and black/parallel market rates, saving money in USD may not be attractive unless you have specific US Dollar obligations. Moreover, the cost of US dollar obligations, such as foreign tuition, training courses, medical bills, and online applications, is likely to increase. Additionally, importation costs, including cars, electronics, and imported food, may rise, potentially leading to higher inflation.
What does this mean for Institutions?
This move is anticipated to benefit institutions engaged in exporting goods and services. However, payment for software applications and cloud computing is likely to become more expensive, potentially resulting in higher operating costs for businesses.
Implications for the Markets
The ₦/US$ exchange rate liberation could have significant effects on the Nigerian markets. In the equities market, the devaluation of the naira may prolong the rally on the Nigerian Exchange, making stock prices more affordable for foreign investors. On the other hand, the initial reaction in the fixed-income market could drive yields lower. However, in the mid-term, yields are expected to align with the monetary policy rate.
Addressing Concerns and Looking Ahead
As this transformative change takes place, some questions arise. How does the government plan to increase US dollar supply in the Nigerian market, considering the significant demand backlog and weak external reserves? Furthermore, considering that Ministries, Departments, and Agencies play a crucial role in policy implementation, when can we expect the initiation of institutional reforms?
The liberation of the ₦/US$ exchange rate marks a significant step towards a more transparent and competitive foreign currency market in Nigeria. While it brings potential benefits for various stakeholders, such as increased export opportunities and affordable stocks for foreign investors, certain challenges, such as higher costs for US dollar obligations, should be considered. As the implementation progresses, it is essential to address concerns and provide clarity on plans for increasing US dollar supply and initiating institutional reforms. By closely monitoring these developments, investors and market participants can adapt their strategies and make informed decisions in this evolving landscape.
