Confronted with sliding growth and surging inflation, the Central Bank of Nigeria (CBN) finally decided to abandon its untenable fixed exchange rate policy in place since February 2015. Despite dwindling liquidity levels, the naira was fixed at 197 to the US dollar although traded at significantly higher rates on parallel markets. Instead, on Monday 20 June the CBN implemented a managed floating regime, denoting it intends to periodically intervene in the market nonetheless. The float immediately resulted in currency depreciation by around 40% against the US dollar and capital controls to defend the naira peg are being lifted. However, import bans (list of 41 items) causing economic distortion and supply shortages continue to be in force.
Impact on country risk
The liberalised exchange rate will improve availability of foreign exchange reserves to the market and could therefore help diminish liquidity scarcity. A weaker currency will improve Nigeria’s fiscal accounts, encourage import substitution in the longer run and appeal foreign investors again who turned away – inter alia – over devaluation fears. Nigeria might also regain access to international bond markets at more reasonable rates, needed to cover the government’s soaring financing needs. On the downside, the currency floatation and subsequent tumble of the naira will push this year’s double-digit inflation even higher. Besides, it raises the reimbursement burden of hard currency denominated debts and therefore nurtures the insolvency risk for entities heavily indebted in foreign currency. The oil sector continues to suffer from low prices and a sharp drop in oil production following the resurgence of attacks on pipelines and platforms by Niger Delta militia. When furthermore considering that manufacturing and domestic activity are still being affected by relatively low foreign exchange inflows and supply shortages, the possibility for Nigeria to face recession this year remains real. Obviously, the environment is still very challenging and it will take further policy efforts to rebuild confidence and stabilise the outlook. Analyst: Louise Van Cauwenbergh, email@example.com