Nigeria’s forex market still unstable, says Fitch

Nigeria’s foreign exchange market has yet to stabilise despite several initiatives by the Central Bank of Nigeria, Fitch Ratings, a global rating agency, has said.

This view slightly contrasts with a report by the International Monetary Fund, which suggested that the naira was showing signs of stability, owing to recent interest rate hikes and CBN efforts to address outstanding FX obligations.

In its Global Financial Stability Report, the IMF pointed to policy actions by Nigerian authorities, crediting CBN’s efforts to clear overdue FX commitments as key to the naira’s apparent stabilisation.

“Policy actions by local authorities have also resulted in positive developments; for example, in Nigeria, rate hikes and the clearing of overdue domestic central bank foreign exchange obligations have helped the naira show more signs of stability,” the IMF noted in its report.

However, Fitch’s latest rating of Nigeria suggests a more cautious outlook. The rating agency commented, “The Central Bank of Nigeria is initiating several measures to address FX liquidity challenges and formalise FX activity to support the currency. These include plans to introduce an electronic FX matching platform for all FX transactions effective December 1, 2024, to provide intra-day prices in real-time and enhance transparency.

“The CBN has also raised the monetary policy rate five times by a cumulative 850bp to 27.25 per cent since February 2024. However, Fitch believes that the FX market has yet to stabilise, and the ongoing flexibility of the exchange rate remains to be tested.”

Fitch further noted an increase in Nigeria’s gross FX reserves, which rose to $39bn in mid-October from a low of $32.1bn in mid-April.

The agency attributed this rise to official disbursements, remittances, portfolio inflows, and an improved trade balance, the latter boosted by lower imports amid higher domestic refining production and the dampening effect of currency depreciation on local demand.

 “We forecast FX reserves to rise to 6.1 months of current external payments at end-2024 (‘B’ median 3.7) and to average 5.3 months in 2025-26,” Fitch added.

However, the agency expressed caution regarding the true net reserves position, estimating that about a quarter of current gross reserves are comprised of FX swaps with local banks.

“There is significant uncertainty over the size of net reserves. We estimate that around one-quarter of current gross reserves are made up of FX swaps with local banks, although we expect most of these to continue to be rolled over,” Fitch stated, noting that while these FX swaps are expected to be rolled over, they still contribute to uncertainty in the FX market’s stability.

CBN Governor Olayemi Cardoso recently said the confidence in the naira is “gradually returning”, noting that the apex bank is focused on ensuring stability.

Speaking at the World Bank’s launch of the Nigeria Development last month, Cardoso said, “The confidence in the naira is gradually returning as a result of the policies that we are already undertaking, which goes back to the whole issue of Orthodox monetary policy, that is really what begins to encourage people to hold onto naira.”

“Over a period of time, we believe that the confidence will continue to go up,” the CBN governor added.

He explained that orthodox policies are implemented to give confidence in the naira, adding that this will bring trust in the naira.

The CBN governor said the apex bank is putting out efforts to ensure stability in the exchange rate which has continued to fluctuate since the unification of the market segment last June.

“The CBN doesn’t determine the exchange rate. The fundamentals do. We will provide policies to make sure the policies are there in the market,” he said.

Cardoso said the CBN is focused on ensuring transparency and sanctioning those who would like to take advantage of the market.

He noted that the monetary policies are driving FX inflows which have seen the country’s reserves grow to about $39bn in October.

However, despite the efforts of the CBN, challenges still persist in the market, with the naira trading above N1,600.

The PUNCH observed that the naira appreciated against the dollar at the official and parallel foreign exchange markets to begin November 2024 on a good note.

FMDQ data indicated that the naira strengthened to N1,666.72 per dollar on Friday, November 1, from N1,675.49 traded on Thursday, October 31.

This means that naira gained N8.77 against the dollar at the end of the week.

Similarly, at the black market, the naira gained N15 to close at N1,735 against the dollar on Friday compared to N1,750 on Thursday.

Despite the appreciation at the beginning of the month, the high exchange rate remains a challenge in the country.

In the latest Purchasing Managers’ Index report by Stanbic IBTC Bank Nigeria, the Nigerian private sector faces intensifying challenges as the weakening naira continues to drive up purchase costs.

The report read, “A steep increase in purchase costs reflected currency weakness and higher prices for fuel and transportation.”

The report reveals that inflationary pressures have surged, with input costs rising at one of the sharpest rates recorded, leading to higher prices for goods and services and a resulting contraction in demand and business activity.

In October, the PMI dropped to 46.9, a 19-month low, indicating a marked deterioration in business conditions compared to September’s reading of 49.8.

A reading below 50 signals a decline in the sector’s performance. The report attributes this downturn largely to currency depreciation, which has compounded the costs of fuel, transportation, and other essential imports.

Companies have had to raise their selling prices sharply to offset these input costs, marking the fourth-highest rate of charge inflation on record.

The increase in operational costs has also impacted workers, as businesses have raised wages to counter rising living expenses, leading to the largest increase in staff pay in seven months.

Despite shrinking new orders, firms marginally increased staffing levels, continuing a six-month trend in job creation.

However, these adjustments were modest, as some companies opted to reduce their workforce in response to financial pressures.

Weakening demand has also prompted businesses to scale back on purchasing activities, marking the steepest reduction in input buying since March 2023.

Consequently, inventory levels have dropped for the third consecutive month as companies adapt to falling client orders.

The Head of Equity Research for West Africa at Stanbic IBTC Bank, Muyiwa Oni, noted that the steep inflation and currency-related pressures are compounding Nigeria’s economic strain.

He remarked that the ongoing exchange rate pressures, coupled with high interest rates, are likely to dampen non-oil sector growth, even as improved crude oil production could provide some relief.

Oni said, “Nigeria’s private sector activity worsened further in October, with the headline PMI settling at a 19-month low of 46.9 points from 49.8 in September.

“The notable reason for this worsening business environment in October was an intensification of already-strong inflationary pressures, reflecting currency weakness and higher prices for fuel and transportation.

“Consequently, there was a marked reduction in new orders and business activity, while business sentiment was the lowest since the survey began in January 2014. Three of the four monitored sectors saw output fall, with only the agriculture sector bucking the wider trend to record a rise in output.

“Despite a sharp fall in new orders during October, Nigerian companies continued to increase their staffing levels slightly, thereby extending the current sequence of job creation to six months.

“The downturn in the business environment worsened at the start of Q4:24, still reflecting the impact of price pressures on consumer demand and business investments.

“Currency pressures and high interest rates are further intensifying the lingering pressure on the private sector.

“This continues to imply that the non-oil sector’s growth will remain weak, although improved crude oil production relative to the prior year may compensate for this lacklustre non-oil sector’s performance.”

As the challenges in the FX market persist, the CBN plans to introduce an Electronic Foreign Exchange Matching System aimed at transforming the country’s foreign exchange market.

Although this new system is set to be operational in the Nigerian Foreign Exchange Market by December 1, 2024, the CBN plans a two-week test run scheduled for November.

The EFEMS is expected to reshape how foreign exchange transactions are conducted in the interbank market by enhancing transparency and promoting a market-driven exchange rate accessible to the public.