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JP Morgan: ‘Solution’ Worse Than The Problem

By Joseph K Okocha   |   27 September 2015   |   8:36 am  

JP MORGANIT is no longer news that Nigeria was de-listed from the JP Morgan Chase’s local-currency emerging-market bond index as a result of the Central Bank’s refusal to relax capital controls in the foreign exchange market based on the Emefiele-led institution’s conviction that doing so would worsen rather than ease the economic challenges facing the country.  
As a result of this action, some foreign media and analysts have alleged that the country faces a possible $2.8billion capital flight in foreign holdings of Nigerian government bonds with related higher borrowing costs and government’s dependence on domestic investors.
However, according to economic analysis from the Central Bank, which has been corroborated by renowned financial experts, the implication of the alternative action – which is full devaluation – is that it will ignite an uncontrollable chain of negative economic developments with far more damaging consequences for our economy along and at the end of the chain. Some of the end effects include higher food prices, increased poverty, job losses, increase in unemployment, and negative growth rate with the poor and ordinary Nigerians bearing the full brunt.
First, the official exchange rate of the naira to the dollar would have immediately shot up from the current rate of N197 to N260, while the black market rate would also shift from the current of N220 to over N300 per dollar. Second, given the highly import dependent structure of the economy and the fact that a change in the foreign exchange rate affects import prices which affects retail and consumer prices, wholesalers and retailers of goods will adjust prices upwards to reflect the amount being paid for these goods.
As a result, the prices of food items and other basic consumables would immediately shoot up leading to a corresponding spike in the domestic inflation rate from the current 9.3% to between 13.5% and 15%. This projection is based on the fact that between 46 percent and 92 percent of every 1 percent change in exchange rate is reflected in domestic inflation; owing to the level of import dependence of our domestic consumption.

Third, a rise in inflation will cause interest rates to rise and it is expected that over 50 percent of the change in inflation would be reflected in policy interest rates adjustment. Consequently, monetary policy rate would rise from the prevailing rate of 13 percent to around 16 per cent due to efforts by the Central Bank to curb inflation.
Fourth, due to the increase in the MPR rates, commercial who are in the habit of overshooting interest rate adjustments when rates rise would have also increased their lending rates by a minimum of 2.5 percentage points on the average causing a sharp and significant fall in the growth rate. The fall in growth will result directly from a rising inflation and indirectly from a rising interest rate.

Although conventional analysis indicates a positive relationship between inflation and GDP growth, the estimates for Nigeria suggest a downward curve which implies that rising inflation is associated with a slowing rate of GDP growth. According to the National Bureaus of Statistics, current rate GDP growth for the second quarter, 2015 has already shrunk to 2.35 percent.
This analysis thus suggests that the multiplier effects of allowing the exchange rate to depreciate freely will cause this rate to drop by 4.2 percentage point resulting in a negative growth rate of 1.85 per cent. A situation that would set the nation on the path towards recession – a state that is characterized by general slowdown in economic activities, extreme fall in investment spending, capacity utilization, household income, business profits along with a rise in bankruptcies, poverty and job losses.
Many Nigerians are either too old to clearly recall or too young to know that Nigeria went through a recession in the 1980s. The nation faced serious economic crisis characterized by mass unemployment, rising rate of inflation, huge public debt and disequilibrium in the balance of payments. Many industries were forced to operate below their installed capacity because of shortage of raw materials, spare parts and other factors of production.
Similar to the crisis that we have at hand now, one of the major factors responsible for the 1980s economic crisis was the sharp decline in revenue from oil, the country’s major foreign exchange earner as a result of the sudden collapse of the world petroleum prices from $40.9 to about $15.0 per barrel in the mid- 1980s. With very little savings estimated at about $3billion at the start of the crisis, and less than $40 billion in external reserves and an economy still dependent on oil, it is clear that nothing much has changed structurally in the economic make-up of the country. Our economy is still as susceptible to this major external shock as it was over thirty years ago.  And several other countries whose economies depend on oil are facing this challenge. But among the lot, the Central Bank’s bold and creative interventions have so far effectively succeeded in keeping things at an even keel.  
At the start of the crisis, Russia one of the world’s largest oil producers with oil and gas accounting for 70% of its export incomes was estimated to lose about $2bn in revenues for every dollar fall in the oil price. The World Bank warned that the Russian economy would shrink by at least 0.7% in 2015 if oil prices do not recover.
Today, the Russian economy is already in full recession with latest figures showing that the contraction of its economy has doubled to 4.6pc from 2.2pc it experienced in the first quarter of 2015. According to figures from Russia’s Federal Statistics Service, Retail sales have fallen fell by 9.4pc in the three months compared with the same period last year as Russians failed to take advantage of a weaker rouble. The currency has been depreciated by more than 40pc against the dollar over the last year, stoking inflation and squeezing household budgets. Financial analysts estimated that the recession might last for over two years if oil remains at $40.
This is the more reason why we need to be seriously wary of those people who are leading the vanguard to pressure the government and the Central Bank to devalue the naira. They are either myopic in their reading of the situation or are currency speculators who have hoarded dollars with the hope of making great profit when the value of the naira falls at the expense of the Nigerian people.
Venezuela, another one of the world’s largest oil exporters is also in recession with inflation running at about 60 per cent, shortage of supplies and people have queue to buy essentials like medicines, toiletries etc.
At this challenging time, the last thing we should do is to allow the economy to contract, especially bearing in mind the strong hysteresis effects that ensues from the associated drop in potential growth rate.
Compared to other emerging countries like Russia and Brazil who allowed unscrupulous market forces to devalue their currencies with attendant sharp contractions in their respective economies, the resilience of the Nigeria economy experienced so far and the muted deceleration can be attributed largely to the Central Bank’s continued hold on the activities of currency speculators in the foreign exchange market. If devaluation is allowed to hold, things will worsen and Nigeria will slide into recession like Venezuela, Russia and Brazil have. The only group of people who would profit are the currency manipulators and speculators.  
Those who understand the way the international currency speculators cartel works know that when agents of these exchange rate manipulators believe that a currency will depreciate they strive to provide forward guidance in the market with the sole aim of enhancing their chances to benefit. In the case of Nigeria for instance, the value at which the naira is estimated to exchange for the dollar has long been estimated and is being traded within the speculative market as being N250 – N280 per dollar. Beyond the noise, the nice talk by the international media in support of devaluation is a ploy by this cartel who have already bought naira in the billions of dollars with which they hope to sell when the value of the naira fall at a great profits.
Unfortunately for them, the controls put in place by the Central Bank, led by Mr. Godwin Emefiele and fully supported by President Buhari has effectively shut them out of the market and their evil plans in jeopardy.  The Central Bank Governor is right to insist that devaluation is not the option for Nigeria at the moment. Our economy does not have the productive capacity, the manufacturing/processing base to take advantage of relatively lower prices to increase export goods to other countries and benefit from devaluation. We simply don’t have such a capacity at the moment.
Devaluation may have its advantages, but we are not in a position to enjoy them yet. For us now, it simply means importing poverty and misery and creating a conducive environment for currency speculators to make money. We cannot continue with policies simply because they satisfy the interest of some foreign portfolio investors and financial institutions to the detriment of the Nigerian economy. Nigerians must all rise and support the President and the Central Bank so we do not allow a repeat of the economic crisis of the 1980s. Anyone who would rather, Nigeria devalues the naira is not a friend but a foe and should be regarded as such.
The Nigerian financial system is undergoing its toughest trial since the 1980s as a result of the sharp and sustained fall in global oil prices. Increase in domestic oil production in America, the lifting of sanctions that allow Iran to sell oil, and refusal of leading OPEC members like Saudi Arabia to cut down production quotas has led to an oil supply glut in the international market forcing oil prices to nose dive from a high of $140/barrel late last year to about $40/barrel September 2015. Financial experts have projected that oil prices will remain low and that the era of golden oil prices is gone for good. Atedo Peterside, chairman of Stanbic IBTC Holdings Plc. calls it the ‘new normal’. Bottom-line: the economics of oil have changed with devastating implications for oil dependent countries. Being a country that relies on oil for 90% of revenues, Nigeria has seen its receivables fall precipitously leading to a reduction in the level of liquidity in the foreign exchange market and pressure on the naira. It is a tough and delicate situation, but the only option cannot be devaluation.
The strategic path which Emefiele has taken to fix this problem has so far kept things going with the support from the President. It is reassuring to know that Nigeria’s best interests, not the narrow interests of speculators and their friends, are driving Nigeria’s response to the current economic challenges. 

Joseph Okocha is a public policy analyst.

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