Handling the CBN mandate right

IT is very sad that four meetings of the Monetary Policy Committee after seven months in office of current Central Bank of Nigeria (CBN) Governor Godwin Emefiele, the bank has yet to activate the managed float naira exchange rate system (MFS for short), which the governor had pledged to sustain at his maiden press briefing. As a matter of fact, though the naira exchange rate contained in the yearly Federal Appropriation Act (FAA) is in principle meant to operate the MFS, the CBN has not at any time adopted the MFS in practice. Emefiele met three simultaneous but parallel naira exchange rate fixing systems, namely, the retail Dutch auction system, which is anchored to the FAA exchange rate, the interbank forex rate and the bureau de change (BDC) forex rate. These parallel rates are bad for the economy.  

   Over the years, the CBN adopted, changed and re-adopted additional exchange rate fixing methods like the wholesale Dutch auction system, the second-tier forex market system, the autonomous forex market system among others. In spite of the numerous exchange rate fixing methods applied at one time or another since the 1970s, the CBN has failed to achieve its mandate. Inflation has invariably been double digit and has ranged from 10.2 per cent in 1986 to 29.8 per cent in 1992. Average lending rates have been above 15 per cent since 1983 with maximum lending rates reaching as high as 39 per cent in 1993. The average value of the naira (official) has plummeted from N0.5464/US$1 in 1980 to its present level of N168/$1.

   When the CBN finally accepted in August 2007 to do things right by introducing the MFS in accordance with international best practice based on an exchange rate close to the FAA prescription, vested interests within the Yar’Adua administration scuttled the plan. (The MFS proposal should not be confused with naira redenomination, which the apex bank canvassed simultaneously.) Indeed, the CBN should not consider its core mandate of “ensuring monetary and price stability” achieved until inflation falls within the range of 0-3.0 per cent, the naira is stable and realistically valued and strong while lending rates across-the-board should cluster about the mid-point of the single digit range. To be sure, a stable currency floats in response to supply and demand forces within a compact band that has the set (managed) rate as its mid-value. A strong currency tends to appreciate with the economy accumulating external reserves. The converse denotes a weak currency. And so the naira has been perennially weak because the  “CBN’s external reserves” flow unidirectionally from the vaults of the apex bank to unsuccessfully defend the naira.

  Now, based on the routine MPC review of economic developments internationally, the CBN is cognizant of the levels of inflation, exchange rate variations and lending rates that prevail in the world’s leading economies. Singapore and Malaysia, Nigeria’s quondam economic peers that have sprinted far ahead, present a long history of those benign economic indicators. Quite clearly, the CBN’s benchmark inflation range of 6.0-9.0 per cent is wide of the economically beneficial levels. The CBN kowtows to vested interests, forsakes its statutory mandate in the process and pretends to be fixing the economy with self-serving indicators as benchmark.

   As has been observed for decades, the communiqués (Nos. 96-99) of the four MPC meetings held under Emefiele indicate the existence of persistent liquidity surfeit (excess liquidity) in the banking system. Once upon a time, the CBN attributed the phenomenon to expansionary budget spending by government, which caused the economy to overheat. The MPC in the last seven months has laid at the door of liquidity surfeit economic ills such as the high inflation, the sliding naira exchange rate, restrictive monetary policy stance symbolised by high monetary policy rate, high lending rates, reluctance of the banking sector to lend to the productive sector while available funds are placed in standing deposit facility and are used for speculative demand for forex that has no bearing on genuine forex needs thereby depleting foreign reserves. Also, the MPC may wish to know that excess liquidity is responsible for the rising trend in making transactions in dollars; it is excess liquidity that has rendered the naira permanently weak, resulting in the apex bank’s thrice weekly intervention in the rDAS;  excess liquidity gave birth to the skyrocketing non-investable national domestic debt that will require over N750 billion to service in 2015; and liquidity surfeit is the ultimate cause of the high level of non-performing bank loans and the low level of bank credit to the private sector as a proportion of GDP, which accounts for the scant diversification of the economy.

    Far from being the result of expansionary government spending, the liquidity surfeit together with its accompaniments arises when the CBN withholds shared Federation Account (FA) dollar accruals to form the bank’s spurious external reserves while the FA beneficiaries collect substituted freshly printed purported naira equivalent for budget expenditure. The tiers of government therefore collectively annually incur CBN deficit financing of their budgets that is proportional to the withheld dollar allocations in their total budget. Thus the economy grossly under-performs because it has been victim to unending excessive fiscal deficits. Allegorically, the substitution of CBN deficit financing for withheld FA forex engulfs the economy in a big fire of liquidity surfeit which the CBN turns round to combat futilely using CBN’s external reserves, the selfsame withheld FA dollars, as the fire engine. End result: a charred economy.

   The MPC recommended and the CBN devalued the naira by 7.7 per cent last November, notwithstanding the good reasons advanced by Emefiele at his maiden press briefing against exercising that option. Since then, the CBN has been helplessly entangled in the confusion posed by the three exchange rate fixing systems. Even as the MPC awaits the “crystallization of its decisions of November”, the BDCs which have usurped the role of dictating the naira exchange rate, have lately further depreciated the naira by some 30 per cent relative to the so-called official CBN rate of N168/$1. As things stand, stark economic ruination looms. In order to rescue the economy, the CBN should immediately implement the MFS as the absolutely essential first step towards putting in place a productive and prosperous economy.

  Because the general public has not experienced the MFS firsthand, a little detailed examination will help the public to understand how it works and appreciate its superior benefits. Under the system, FA beneficiaries will collect dollar allocations (preferably in a secure form) and like every other holder of foreign exchange, approach any deposit money bank to convert their allocations as and when desired to non-inflationary naira revenue at the market determined naira exchange rate. In practice, through the MFS, the naira is made to float within a set compact band that has the FAA exchange rate as the mid-value.

   The CBN, as the naira monopolist, maximizes economic efficiency by deliberately adopting a strong naira policy stance. A strong naira policy stance neither requires huge size of external reserves nor means suddenly pegging a relatively small amount of naira to exchange for a unit of the dollar. It depends on ensuring excess dollar supply relative to demand (or favourable balance of payment) thereby inducing the naira to appreciate relative to its FAA value within the floating band. It takes an appreciating naira to snuff out dollarization and force dollar hoards held for speculation or as preferred store of value to be offered for sale at the forex market in order to avert heavy losses. Thus demand for forex should be moderated in collaboration with the fiscal authorities and other relevant MDAs by means of discriminatory tariffs, levies and surcharges imposed on imports. The resultant constriction of demand produces unsold or surplus forex in the single open forex market operated by DMBs. The surplus forex is sold by DMBs to the CBN at the market-determined rate to swell external reserves. Day by day individual forex transactions are executed at varying exchange rates within the set band. The transaction rates may be weighted to give the daily MFS exchange rate. Under the system BDCs buy and sell small amounts of forex obtained from non-bank sources within a permissible spread that it tied to the daily naira exchange rate as notified by the apex bank.

   Under the managed system, the external reserves extracted from the forex market by way of carefully engineered demand represent Federal Government’s internally generated revenue (IGR). The FG possesses exclusive responsibility for monetary matters. Therefore, upon the take-off of the MFS, the inappropriately acquired CBN’s external reserves revert to the FG while the CBN retains accountability for the integrity of the federal external reserves. Apart from earmarking external reserves worth three months’ import cover for possible negative movement in the balance of payments, the FG external reserves are investable in any Federal Government business subject to prior appropriation by the National Assembly. For example, as at year-end 2014, the external reserves stood at $34 billion, over 90 per cent of which were spuriously termed CBN’s external reserves. After setting aside the requirement for three months’ import cover, the FG has about $20 billion nestling in the treasury. That IGR amount may be deployed for critical federal investment needs. Also upon the implementation of the MFS, the sovereign wealth fund should become wholly FG-owned and FG-financed from the federal external reserves. Consequent upon the $20 billion in the federal kitty, any proposals that the 2015 Federal Budget would need external loan of $5 billion for capital projects are uncalled-for.

   And so, with the MFS in place, the CBN will proceed surefootedly toward  attaining its mandate. Liquidity surfeit in its present form will be no more. Conducive economic conditions will berth. The banks will have no other avenue than the productive sector to place their funds. Diversification-engendering cheap bank credit to the private sector will soar. And the era of largely Nigeria-financed inclusive growth and rapid development at long last will have begun.