Long-Term Risks To The Naira

Short-Term Outlook

The Nigerian naira has recovered from its 2013 lows of around NGN164.00 in September to trade at NGN158.53/US$ on the interbank market at the time of writing on December 4. Although this recovery has come at the cost of declining foreign exchange reserves, we believe that these remain large enough - at US$44.5bn on December 2 - for the authorities to defend the currency against significant weakness in short term. Indeed, officials have demonstrated, through both actions and words, that they value naira stability and we therefore expect the exchange rate to remain at around its current level for the next few months.

Core View

Recovery From September 2013 Lows
Nigeria - Exchange Rate, NGN/US$

Long-Term Risks To The Naira

BMI ZAMBIA CURRENCY FORECAST
Spot Short-Term 2014 2015
NGN/US$, ave 158.53 160.00 162.50 167.50
NGN/EUR, ave 215.55 206.38 206.03
CBN Policy Rate, % eop 12.00% 12.00% 12.00% 10.00%
Source: BMI, December 4 2013

Short-Term Outlook

The Nigerian naira has recovered from its 2013 lows of around NGN164.00 in September to trade at NGN158.53/US$ on the interbank market at the time of writing on December 4. Although this recovery has come at the cost of declining foreign exchange reserves, we believe that these remain large enough - at US$44.5bn on December 2 - for the authorities to defend the currency against significant weakness in short term. Indeed, officials have demonstrated, through both actions and words, that they value naira stability and we therefore expect the exchange rate to remain at around its current level for the next few months.

Recovery From September 2013 Lows
Nigeria - Exchange Rate, NGN/US$

Core View

Although the naira has appreciated by around 3.4% over the last three months, we believe that the fundamental pressures remain to the downside. The recovery of the currency has been accompanied by a continued decline in foreign exchange reserves, which suggests that the appreciation has been a result of the Central Bank of Nigeria (CBN) supplying more foreign currency to the market, rather than a shift in fundamentals underpinning the currency.

Reserves Continue To Decline
Nigeria - Official Foreign Exchange Reserves, US$bn

Data from the CBN show that the amount that it offers at its twice weekly wholesale Dutch auction has averaged US$315mn during the second half of 2013 up from US$238mn during H113 and US$188mn during the final six months of 2012. Looking at the balance of payments provisional data for Q313, it is not immediately obvious where the increase in demand, which has led to this increase in dollar offerings from the CBN, has come from. Indeed, the data show that the current account surplus for the quarter was the highest it has been for more than three years at US$11.1bn while the capital and financial account recorded a surplus of US$1.1bn. This means that net errors and omissions came in at a whopping US$12.2bn for the quarter.

With political uncertainty on the rise following the split in the ruling People's Democratic Party in September 2013, the demand for hard currency from wealthy Nigerians looking to protect assets has likely increased. At the same time, with 2015 elections looking more likely to be hard-fought as a result of recent developments, it is probable that the country's patronage system has shifted up a gear. Unaccounted-for demand for foreign exchange from the country's politicians to oil the wheels of this system is therefore likely to have contributed to overall FX demand.

Sanusi Factor

Central Bank Governor Sanusi Lamido Sanusi has gone on record recently to reiterate his commitment to currency and price stability. We therefore believe that he will tighten policy if he deems the pressures on the currency have become too great and that he will use the country's sizeable foreign exchange reserves to protect the currency against whatever pressures persist. However, Sanusi is set to leave office in June 2014 after confirming that he will not run for a second term at the helm of the central bank. It is impossible to know whether his successor - whose identity is unknown at this stage - will keep policy tight to ward off depreciatory pressures or if he or she will be willing to run down reserves to the same extent to protect the currency. Even if Sanusi's successor continues with the same broad policies, unless there is a shift in the fundamental dynamics underpinning the currency, reserves will continue to decline to a point where it will no longer be viable to support the currency. We therefore believe that the longer term risks to the naira are weighted to the downside.

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