Lukman Otunuga, Senior Research Analyst at FXTM
- Once upon a time, the naira was worth almost twice as much as the dollar and equivalent to the British pound.
Fast-forward today, the local currency is trading at a paltry N455 per dollar, N585 per pound on the parallel markets and around N380 on the official exchange. The naira’s story has been one filled with many twists and turns revolving around oil prices, multiple exchanges, unfavourable economic fundamentals, dollar scarcity, pegged exchange and overall uncertainty. Will the naira ever be able to return back to its former glory? Given how Nigeria is still nursing wounds inflicted by COVID-19 and falling oil prices are threatening the country’s economic outlook, the vulnerable naira remains in the direct firing line.
For Nigeria to become truly productive and break away from the chains of oil reliance, could a free-floating naira be the solution? While an artificially strong currency remains attractive for Nigeria based on the fact that most products are imported, the negative impacts continue to be reflected across the economy. Given how over 90 percent of foreign exchange earnings are sourced from oil sales, falling oil directly impacts Nigeria’s FX reserve which complicates the CBN’s effort to defend the naira. This dependence and heavy exposure to external risks leave Nigeria open to currency instability and uncertainty.
The question is whether Nigeria will be able to handle the aftermath from a free-floating naira. If the natural forces of supply and demand are allowed to determine the equilibrium value of the naira, a sharp depreciation could be on the cards based on the macroeconomic conditions. Such may accelerate inflationary pressures, forcing the CBN to potentially hike interest rates while other central banks are cutting. All in all, the idea of a free-floating Nigeria could elevate Nigeria’s economic prospects and offer transparency. However, this will depend on whether the country had the ability to bounce back from the potential pain inflicted by a tumbling naira.
Investors directed their attention towards pending inflation figures for August which were forecast to jump 12.95%, its highest level in 12 months. Inflationary pressures are expected to rise over the next few months thanks to continued border closures and coronavirus induced supply disruptions.