Naira’s Vulnerability Deepens Due to Ongoing Dollar Scarcity, Fitch Warns

The Nigerian naira is facing significant weakness against the dollar. There is a growing disparity between its official and parallel market exchange rates. This disparity suggests challenges in stabilizing the currency and the potential for further depreciation.

Fitch Ratings Inc. has highlighted this concern.As of the latest data, the naira was quoted at 1002 naira per dollar in the parallel market, indicating a substantial weakening of the currency. In contrast, in the official window, the exchange rate was reported at 745.19 naira per dollar, which is 26% stronger.

This discrepancy between the official and parallel market rates indicates a lack of stability in the currency’s value. It’s important to note that the official exchange rate may not accurately reflect the true market conditions and demand for dollars in Nigeria. The central bank’s decision to abstain from increasing the supply of the greenback in the parallel market has contributed to the naira’s recent weakening in street trading.

This situation raises concerns about the government’s ability to stabilize the naira and suggests a likelihood of further depreciation if corrective measures are not taken. The disparity between the official and parallel market exchange rates is a significant indicator of the currency’s instability and economic challenges in Nigeria.

Factors Contributing to Dollar-Naira Depreciation

The depreciation of the Nigerian naira against the US dollar can be attributed to several key factors, further exacerbating the currency’s weakening position. Here are the main drivers of this depreciation:

Declining Forex Supply

The naira’s depreciation stems from a diminishing supply of US dollars into Nigeria’s economy, while the demand for dollars remains consistently high, largely due to the country’s dependence on imported goods for various economic activities. This decline is reflected in the continuous reduction of the nation’s external reserves, which serve as a measure of available foreign currency for imports and international transactions. The external reserves fell by $3.23 billion or 8.5% from $37.15 billion on December 31st, 2022, to $33.92 billion on July 9.

Net Forex Inflow (NFI) Decline

NFI, a critical indicator of forex inflow and outflow, has been on a steady decline since 2019. This decline in NFI is primarily driven by a sharp decrease in foreign investment inflow, plunging by 77.8% from $23.99 billion in 2019 to $5.33 billion in 2022. The continuous fall in external reserves this year underscores the persistence of this trend. Additionally, the volume of dollars traded (turnover) in the official forex market, represented by the Investors and Exporters (I&E) window, dropped by 35% in H1’23 compared to H1’22.

New Forex Market Measures

The recent depreciation of the naira can also be attributed to new operational measures introduced by the Central Bank of Nigeria (CBN) on June 14. These measures aimed to eliminate multiple exchange rates in the official market and introduce a “willing buyer willing seller” model for determining exchange rates in the I&E window. This shift disrupted the previous exchange rate stability, as the CBN struggled to meet all genuine demand for forex due to declining external reserves. The parallel market exchange rate rose steadily, resulting in a significant gap of N296.33 per dollar compared to the official rate.

Tinubu’s Promise for a Single Exchange Rate

The existence of multiple exchange rates in the official market, along with the substantial gap between official and parallel market rates, created opportunities for forex subsidy and malpractice. This situation discouraged foreign investment, hindered the repatriation of export proceeds, and discouraged Diaspora remittances. President Bola Tinubu pledged to address this issue and achieve a single exchange rate. In line with this commitment, the CBN’s measures on June 19 sought to create transparency and confidence in the forex market, albeit triggering a sharp rise in the exchange rate.

What’s Next?

This trend of naira depreciation is expected to persist for an extended period, possibly exceeding six months, with significant exchange rate fluctuations in the I&E window. The key to reversing this trend lies in increasing forex supply to surpass the substantial demand, which can be achieved through attracting foreign investment, rebuilding forex reserves, and maintaining transparency in the forex market. A similar situation occurred between 2016 and 2017, leading to measures that enhanced forex inflow, appreciation of the naira, and eventual convergence of official and parallel market exchange rates.

In conclusion, a concerted effort is needed to address the challenges contributing to the depreciation of the Nigerian naira and restore stability to the currency.