Devaluation: Another “IMF Debate” Looms?

The stage seems set for Nigeria to join the growing list of nation’s currently debating the prescription of the International Monetary Fund (IMF) for economic stability and growth. Very recently, it was the lot of the United States of America (USA) and the United Kingdom to decide whether to accept or decline IMF proposal for economic management.

It would not be the first time Nigerians debated an IMF prescription for the economy. We had one in 2001. Also, in the run-up to the Structural Adjustment Programme (SAP), there was a heated public debate over IMF “conditionalities” for supporting the restructuring of the economy in the late 1980s. Nigerians opposed to the IMF conditionalities won the debate, following which the military administration of General Ibrahim Babangida implemented a “home-grown SAP”.

This time around, the looming debate is over IMF recommendations that Nigeria should devalue her currency and allow interest rates to rise higher in order to contain inflationary pressures. As at January 2011, the Nigerian Bureau of Statistics reported an inflation rate of 12.1%, up from 11.8% in December 2010.

The IMF recommendations are part of its Article IV Consultation Report on Nigeria. The Article IV report is a routine report that the IMF makes following annual consultations with member countries. Ordinarily, it should not generate so much excitement, but for the position it took on the sensitive issues of exchange rate and interest rate. In calling for currency devaluation and upward adjustment of interest rates, IMF drew attention to the expansionary budget in 2010 and the depletion of the Excess Crude Account despite high oil prices. It remarked that the expansionary budget was in spite of strong economic growth and high inflation, contending that rather than reduce interest rates at a time of high inflation and selling of foreign exchange reserves, government ought to have raised interest rates or allowed the currency to weaken.

Notwithstanding these seemingly adverse comments, the Fund said the outlook for Nigeria remains positive, with economic growth expected at 7.0% in 2011 and inflation seen declining to 9.0% by end 2011. The Fund supported the planned fiscal consolidation as reflected in the 2011 budget, as well as the creation of the sovereign wealth fund. The creation of AMCON was commended, even though it went on to counsel that the CBN may need to tighten policy further, stressing that the Naira was overvalued and that greater exchange rate flexibility was needed.

It is noteworthy that Citibank economists focused on Africa agreed with many of the issues raised by the IMF, saying the issues had been “frequently discussed” in the past. Indeed, back in 2002, the IMF resident representative in Nigeria, Mr. Gary Moser, while conceding that “we (Nigeria/IMF) do not always agree,” remarked that a big increase in spending in early 2001 fueled a sharp increase in inflation and widened the differential between the official and parallel exchange rates, distorting the allocation of resources in the economy. In what may pass for a justification of the IMF’s intervention this time around, Mr. Moser had at the time reasoned that “large differentials between the official and parallel exchange rates generate opportunities for corruption, as easy profits can be made ‘round tripping’ by those with the right to buy dollars at one rate and sell them at another.” Significantly, at this moment, Nigeria still has an active parallel foreign exchange market.

However, not a few Nigerian feathers have been ruffled by the recent suggestion that the Naira should be allowed to “weaken” – where “weaken” has been interpreted as a euphemism for devaluation. In particular, the IMF proposition drew the ire of the Central Bank of Nigeria (CBN), which issued an elaborate Press Statement to defend its management of the economy. Earlier in a television interview, CBN Governor, Sanusi Lamido Sanusi, said the IMF call was premised on a flawed logic, as he did not believe the Naira was overvalued. His contention: “We do not believe that at a time when the oil price is going up and output is going up we should be losing the value of our currency. We also do not think that it makes sense if the IMF is concerned about inflation, to ask a country that is import-dependent to devalue its currency …”

Government officials are known to have reasoned that some of the dollar demand putting downward pressure on the Naira was driven by the meeting of outstanding corporate liabilities which where unhedged as well as speculation from market participants who increased their pre-liquidated exposure in anticipation of further depreciation. It is believed that these “temporary factors” have now subsided, eliciting a smug feeling in government circles that the pressure on the Naira will reduce. That did not happen in the week ended Friday, 4^th March 2011, as the CBN failed to match the demand in the weekly official foreign exchange market. The two auctions saw a combined total demand of USD 677million but the CBN only sold USD 500 million. Demand was slightly higher the previous week at USD 697 million, but the CBN sold USD 618 million.

However, hopeful government officials said the CBN is in the process of introducing various foreign exchange derivative instruments, with plans to start a foreign exchange forward auction this month, as part of the strategy for dealing with the exchange rate challenges. The derivative instruments would be used to hedge economic transactions – for example, trade or portfolio flow related.

Current high oil price has also worked to further support the hope for an improved future cashflow. Some analysts feel that the Balance of Payment will be in surplus with oil trading over USD 90per barrel. Already there has been a sharp drop in dollar demand in the official weekly foreign exchange market, which bodes well for short term Naira stability, especially when combined with the CBN's clear intention to maintain currency stability. In the medium term however, the point has been made that strong growth in imports remains a key risk and investment spending (both public and private) will remain a key force to currency weakness should the oil price drift lower again.

Not a few commentators have hailed the stance of the CBN on the IMF call for Naira devaluation. Chief Richard Akinjide, politician and former Attorney General of the Federation, while supporting the CBN, stressed that “there is nothing to gain for Nigeria in reducing the value of her currency.” He wrote in the Guardian newspaper that “if like China or Japan, Nigeria were a large manufacturer of cheap goods exported to major world markets, devaluing her currency would undoubtedly boost demand for her products and increase her income.”

Nigerian ICT weekly, Nigeria Communications Week, said in an editorial, “A vote against devaluation of the Naira”, that the economy was not under any pressure to warrant further devaluation of the Naira.

However, even though the CBN appeared resolute and ready to stare down the IMF, former banker and business consultant, Dr. Boniface Chizea, is worried that “if we do not begin to raise issues” on these “far-reaching and startling recommendations”, government might end up implementing them “as the authorities crave to be in the good books of such multilateral financial bodies.”

Is this the battle cry? Will Nigerians raise more issues on this matter than has already been said? Only time will tell.