I take the view that some of the recommendations of the IMF, following the recent conclusion of the Article IV consultation with Nigeria, are not fit-for-purpose.
For example, the Fund has advised the government to increase the Value Added Tax rate from the current 7.5% to 10% by 2022 as a way of shoring up non-oil revenue. Without doubt, this is consistent with the country’s National tax policy of rebalancing the tax mix in favour of consumption tax. But this recommendation fell short of providing the required balance which is a reduction in the standard company income tax rate from the current level of 30 percent which applies to large companies.
Regarding the overarching issue of ensuring a unified exchange rate, much as it finds theoretical support in its ability to respond to market forces, reduce market distortions and encourage foreign investments in the long run, these outcomes are subject to ceteris paribus conditions.
Unfortunately, Nigeria has a peculiar case: the interplay of market forces in the forex market, lopsided in favour of demand, can only result in a very high equilibrium price. Even if a unified exchange rate solves the problem of multiple pricing and eliminates incentives for arbitrage; it does not address the liquidity challenge.
Because the country imports fuel, raw materials, food and virtually everything, commodity prices will hit the roofs from pass-through effect of high exchange rate. Granted that government revenue will increase from the naira value of oil exports, but the cost of servicing government’s huge domestic debt will also surge following increased yields on government securities. Further, huge sums will be needed to implement dollar-dependent capital projects contained in the 2021 budget.
It goes without saying that a unified exchange rate is capable of increasing the pump price of fuel. This will accelerate already elevated inflation potentially leading the CBN to change stance of policy. Tighter monetary policy implies, in part, jerking up the benchmark rate from the present level of 11.5 percent which is most likely to put additional pressure on banks’ asset quality with commercial banks being compelled to reprice their assets resulting in an increase in the rate of non-performing loans thereby undermining financial stability and real sector growth.
Many small businesses will suffocate under a harsh environment occasioned by the resultant high interest rate regime leading to loss of jobs. By the same token, the increase in MPR will also spike the cost of government borrowing especially in view of the fact that domestic debt constitutes a significant proportion of the 2021 budget deficit financing.
Also, the stock market, which has been the greatest beneficiary of CBN accommodative monetary policy, will be impacted negatively as equities become less attractive to portfolio managers as an asset class. Therefore, implementing this recommendation will spell doom for an economy in a recession still recuperating from the devastating effects of COVID-19 pandemic.
The impression created by the IMF report is that the country’s economic woes would significantly vanish by removing forex restrictions and unifying exchange rates. To understand why this amounts to pipe dream, it is useful to point out that the country’s major challenge lies in its import-dependent nature and over reliance on oil revenue which accounts for about 90 percent of forex inflows. In the forex market, the ‘many buyers and sellers’ condition for a successful free float is not met since the autonomous source is insignificant and CBN remains the major supplier of forex. So, while unification promises to solve the problem of dual pricing and arbitrage it neither addresses the demand pressure nor bridges the supply gap.
The Fund should realize that a model that works for other economies may not find application in Nigeria. The Fund’s one-size-fits-all recipe has often been criticized not least because it is without consideration for local factors. In the words of former Zambian president, Kenneth Kaunda, “The IMF does not care whether you are suffering from economic malaria, bilharzia or broken legs. It will always give you quinine”.
Nigeria certainly does not need quinine in this critical period.
It will be recalled that in 2020, the CBN had effected upward adjustment in the official exchange rate twice: from N305/$ to N360 and later to N379/$ and yet the IMF thinks the naira is overvalued citing the premium between the I&E and the parallel market rates (most times on account of speculation) and the unmet forex demands.
As the country’s experience has shown, demand may wane initially and supply might increase temporarily following a devaluation of the naira, but it will be short-lived and before long demand will outstrip supply.
The truth is that there will be no end to exchange rate adjustments until the fundamentals are addressed. By implication, forex market liberalization should be a gradual process the pace of which should be dictated by prevailing economic conditions.
The way forward therefore is to reduce the country’s import dependency and strive to join the league of net exporting countries. Only then, will exchange rates unification make economic sense for Nigeria.
- Uwaleke is Professor of Capital Market, Nasarawa State University
