The Central Bank of Nigeria’s (“CBN”) announcement of “operational adjustments to the foreign exchange market” last week is, in my opinion, the single most important domestic economic decision Nigeria has made in recent years — one that will have a significant and advantageous impact on the Nigerian market and, as Africa’s largest economy, the region as a whole.
To recap, Nigeria has struggled for a long time with a physical shortage of USD to pay for imported goods and services.
In response to this shortage, the Nigerian Naira (“NGN”) should have become less expensive or lost value relative to the dollar, according to the fundamental principles of supply and demand.
However, to protect from deprecation, the CBN would set the official rate, rather than let it be determined by market forces. It was around NGN463 per USD the day before the announcement.
The reality was that there were no dollars available on demand at this rate and as a result, a parallel market opened up where people could source dollars.
The day before the announcement, that parallel rate was approximately NGN750 per USD — a 62% premium to the official rate. That was the price for liquidity and dollar availability, and an indication of where the true equilibrium between demand and supply should have been set.
The problems of access to dollars at the official rate were many. Appointments had to be booked in advance, a lot of paperwork was required, and the final decision would come weeks or even months later. If you were granted the rate, there was no guarantee that you would even be able to get the full amount requested.
This made it challenging for businesses in Nigeria to plan and forecast effectively.
Cause and Effect: Consequences of the premium
Up until the announcement last Wednesday, Nigerian Banks were only allowed to transact at the official rate meaning that customers needing cash, today, had to find other means of getting access to cash. Following the announcement banks are now free to set their own rate.
One of the unintended consequences of the USD shortage and the premium was that it drove many Nigerians to buy into cryptocurrencies to preserve their savings in a USD-quoted coin and to be able to use the crypto coins to make foreign payments – making Nigeria one of the top countries in the world for peer-to-peer crypto transactions.
However, the problem with this has been that many people have lost money, either from fraud or volatility in the crypto market.
The system was also vulnerable to abuse. People would attempt to obtain USD at NGN463 through forged paperwork and then resell it at NGN750 on the black market, and then carry on the process. Rinse and repeat.
Business Blocker: Losing out on foreign investment
The old model — and it feels great to say that — was a major blocker to doing business in Nigeria. Late last year, we saw Emirates Airlines suspend flights to Nigeria because it was unable to repatriate funds from ticket sales out of Nigeria.
The airline couldn’t make that exchange at the 62% premium price because the cost to do so was simply too high.
We’ve also seen this impact on foreign investors, who have had to weigh up the cost and consider whether the investment returns after the premium are worth the risk. The answer has often been “no”, leading Nigeria to lose out on Foreign Direct Investments that would bring much-needed USD cash. This left the country caught in a cycle that only ever led to further cash shortages.
In reality, the majority of Nigerians accepted the parallel rate and conducted their business at that rate rather than that set by the CBN.
Additionally, the pricing itself lacked transparency, with no publicly published or quoted cost, and people frequently paid the price.
The closest people could come to “price discovery” would be through unauthorized Nigerian websites that would survey various FX merchants to find out what their USD rate was on any given day.
As a foreigner travelling to Lagos for business, it was common to be accosted by dozens of street FX dealers as soon as you exited Murtala Muhammed International Airport, all seeking to exchange their stacks of Naira notes for Dollars, Pounds, or Euros.
Opening the door of opportunity
All of this is now in the past. The main entry barrier, and an obstacle to the Nigerian economy, has been removed. Now, there is one less issue for both businesses and people to deal with — which is encouraging for both Nigerian and foreign businesses who want to start, scale and grow companies in Nigeria.
Nigeria has a thriving and exciting startup scene. Following this announcement, I expect to see more interest from foreign investors who will be updating their FX assumptions in their investment models, and they will discover that more Nigerian businesses have now crossed the threshold from uninvestable to investible.
In my opinion, the door of opportunity has opened — Africa’s largest economy has just opened itself up for business, and the positive economic consequences for Nigeria will be evident for years to come.
