Potential economic effects of the removal of the ban on Forex sales to traders of the 43-key goods.

By Chinedu Okoye

October 18, 2023.

Summary:

• The Naira is depreciating due to attempts to unify exchange rates by the Central Bank. Removing the ban on forex sales for 43 key goods may harm the economy.

• Oil marketers face challenges sustaining petrol prices due to rising costs and Naira devaluation. And inflation and economic headwinds are affecting businesses and consumers.

• The reversal of the forex ban may hinder industrial development and economic growth.

• Short-run effects include parallel market rate bumps and reduced official-parallel market spread.

• Long-run effects involve reduced aggregate demand, unemployment, poverty, and trade imbalances.

• A gradual policy phase-out prioritizing essential goods importers could be a better option and the Central Bank faces a dilemma between price stability and exchange rate management.

Naira Depreciation:

The Naira is facing significant pressure due to the Central Bank's aim to unify exchange rates. This ambitious goal has caused the Naira to fall against the USD on both official and parallel markets.

The decision to lift the ban on forex sales by banks for importers of 43 key goods items, previously banned in 2015, may have adverse consequences for the economy.

The ban was originally implemented to manage Foreign Exchange reserves and prioritize investors, exporters, and importers of essential goods. This safeguarded local industries and stabilized exchange rates at the I&E Window, mitigating the Naira's devaluation impact on key market segments.

Oil Marketers Struggle to Sustain Prices:

A significant segment of the foreign exchange market, oil marketers, now faces a double challenge of increased refined petroleum (PMS) prices and a weakening Naira against the US dollar.

These marketers are grappling with maintaining petrol prices at the current levels of N613, which is a 229% increase from late May 2023. There are rumors that the Federal Government continues to subsidize petrol prices at these levels, despite denials by the NNPC Boss.

Whether or not these rumors hold merit, with exchange rates at N767.22/$1 on the official window and N1047/$1 on the parallel market, these marketers cannot sustain current petrol prices.

Inflationary Pressures and Other Economic Headwinds:

This situation will also impact the prices of goods and services, as many businesses rely on external power generators running on petrol or diesel. Increased access to foreign exchange will likely lead to higher imports, further challenging local industrial production.

Even without the policy reversal, high energy prices have already negatively affected consumers and businesses by reducing disposable income and squeezing company profits. 

The high cost of credit and overall inflation discourage expansionary investments in fixed capital due to the Naira's depreciation.

Reversing the ban on forex sales through the official window will intensify pressure on the Naira, posing challenges for industrial development and economic growth, especially considering the Naira's pre-existing weakness.

Expected Economic Impacts:

Short-run Effects: Initially, an uptick in parallel market rates is expected as demand pressures ease. The policy aims to reduce the Official-Parallel Market Spread and work towards uniting both benchmarks in the short term.

Long-run Effects: Reduced aggregate demand, increased unemployment, higher poverty rates, and potential stagflation become concerns as the government grapples with foreign exchange debt. Slow infrastructure development growth and a negative trade balance could also come into play.

A Preferred Option:

A more favorable approach would involve a gradual phase-out of the policy, considering the interests of all stakeholders. Different imports have varying effects on the economy, with some goods being more impactful.

Prioritizing essential goods importers in the distribution of Foreign Exchange at the official FX Windows, such as Petroleum Motor Spirit, is crucial. Oil Marketers Association, for example, has called for a subsidized exchange rate at N600/$1 to maintain prices at N613 per liter.

Policy Dilemma for the Apex Bank:

In the short term, a temporary Naira appreciation on the parallel market is expected, but long-term stability remains a concern. Gradually phasing out the policy places less burden on consumers and producers of essential goods and services, reducing exchange rate volatility's impact on supply and demand.

The Central Bank faces a policy dilemma, torn between high price levels or more effectively managing the floating exchange regime. A complete reversal, I expect despite the short term bump in parallel market rates, could lead to high inflation and interest rates, causing economic contraction or slower growth.