Nigeria’s FX Policies And Investment, Trade

In the modern world, where globalisation has taken centre stage, trade and investment are critical to economic growth and development. In fact, there is no way to think of the Gross Domestic Product – the single most important measure of economic performance – without trade and investment. Trade ensures that countries can benefit from the reduced cost of the most efficient producers and also sell to the rest of the world, thus deriving more value than their local economy can provide. Meanwhile, investment supports development in countries that are resource starved and without high savings, while also ensuring that countries with surplus capital benefit through high returns on capital.

Both trade and investment are just as relevant to Nigeria given the high cost of local production, its large but poor market and weak savings. However, the fortunes of Nigeria on these fronts have been falling since the past decade. Between 2010 and 2019, trade and foreign direct investment fell from 43.3% and 1.7% of GDP to 34.0% and 0.7% respectively. While there are numerous factors responsible, from the worsening socio-economic environment and blatant anti-trade policies, the FX situation in Nigeria has played a huge part.

When it comes to international transactions, the FX situation – current and expected – is considered by investors and businesses in making decisions on whether to undertake ventures and on how best to. The cost of FX transactions must be acceptable to justify many economic decisions. Similarly, the free flow of capital and access to FX liquidity when and as needed are critical. These FX concerns are not hard to imagine, so let’s look at two scenarios from the perspective of exporters and foreign investors.

Businesses exporting goods want to receive the best value for their export proceeds. This means they will sell their FX proceeds at the best rate available in the market. This is usually obtainable in the parallel market when there is an FX crisis. Currently, the CBN expects exporters to trade in the Investors and Exporters (I&E) window at N410/$ but the parallel market is N485/$. Obviously businesses would not consider repatriating FX proceeds or conducting business through official channels if the exchange rate is not attractive.

This is why many exporters have decided to retain exports proceeds offshore, especially when they also have FX obligations for which the CBN does not allow them to use their proceeds to settle. Imagine an exporter whose raw material is included in the 43 items listed as not valid for Forex, or even one that has to pay lenders who financed a transaction with FX sourced in the parallel market. This threat is real in the current climate and businesses have shunned the I&E window. This has prompted the CBN to frequently persuade exporters to bring in FX proceeds, and even threaten them with being shut out of the banking system when persuasion failed. Meanwhile, exporters will be more comfortable in an environment where rates offered do not cost them or create significant arbitrage opportunities between the official and parallel markets. This will be the case in an environment where ease of doing business is critical.

Investors face a somewhat different but still fundamentally similar challenge. Two things investors love is policy consistency and predictability. The CBN manages to bungle these with poor communication and policy reversals. Two years – 2016 and 2020 – four years apart offer strong but barely accepted lessons in this regard. After allowing for free flow of capital before both years, the CBN implemented strong capital controls. This meant investors were trapped in the market because they cannot exit the market when they need to.

This situation affects both portfolio investors who operate in the financial markets (debt and equity) and foreign direct investors who are shareholders in companies. The CBN stopped selling FX to portfolio investors, telling them to wait for an orderly exit. Similarly, the registrar in charge of GTB’s – Nigeria’s most valuable bank – Global Depository Receipts (GDR) could not pay investors dividends. Many shareholders in Nigerian companies could also not take out their returns, forcing them to reinvest. The lack of FX liquidity and the many capital controls and restrictions on how to use FX and who gets FX has led to the exit of multinational companies in Nigeria. The most recent example is Shoprite, which is divesting its Nigerian operations partly due to FX challenges.

This type of inconsistency hurts the position of Nigeria as an investment destination. In both 2016 and 2020, for instance, there was a devaluation risk given that there had been a significant fall in exports and reserves. When investors expect a devaluation, they remain on the sidelines until there is clarity. Otherwise, their expected returns on investment would suffer if they bring money in and there is a devaluation afterward. But CBN does not provide any guidance whatsoever on when it is going to devalue, but rather insists that it would not. In fact, the CBN on March 12, 2020 released a circular saying it would not devalue only to change course on March 20, 2020. Imagine the cost to people and businesses who acted based on their word. Imagine the cost even to the CBN who requires economic agents to trust its communication.

In the two scenarios cited, both exporters and investors are reluctant to do business in Nigeria until the issues around capital controls and FX pricing are resolved. This is also why they would be more cautious in the future, hurting trade and investment in Nigeria. This is a major reason foreign investment fell sharply to $5.1bn in 2016 from the 2014 levels of $20.7bn, and from $24.0bn in 2019 to $9.7bn in 2020. It took Nigeria five years to witness complete recovery in the 2016 episode, with huge implications for the performance of the debt and equity markets, borrowing costs and long-term foreign financing of businesses. Waiting another five years for a recovery after the 2020 episode would be just as devastating, if not more, as the economy has not yet fully recovered from the 2016 recession before 2020.

In the case of non-oil exporters who decide to operate outside formal channels, it means the data available is unlikely to be accurate. This could partly explain why total non-oil exports fell to $651.7m in the third quarter of 2020 from $3.9bn a year earlier. The amount recorded in Q3 was also 59.9% lower than the average non-oil export of $1.6bn since the introduction of the I&E window and the weakest since the third quarter of 2016. When non-oil exports dropped from a peak of $2.4bn in the second quarter of 2014 to $465.6m in the third quarter of 2015, it took around five years for a recovery above that level. This will have significant negative impacts given the need for more non-oil exports in Nigeria and the contribution of exporting firms to the economy in the form of high quality productivity and employment prospects.

Trade and investment are perhaps the most important economic tools to be leveraged in Nigeria’s ambitious journey towards strong growth, low unemployment, industrialisation and moving 100 million people out of poverty. Anything that slows down this process should be done away with quickly.



Written by Olutayo Odutola