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Published On: Tue, Sep 29th, 2015

Market and value will always triumph

BISMARCK REWANE | Exchange rate arithmetic is more like a quadratic equation. In quadratic equation one won’t have a single answer. The answer is a range. In a simple equation like 10 apples equal N5, what is the price of one apple? In simultaneous equation you have two unknowns but in quadratic equation there are multiple unknowns. So, the range is that the answer is greater than or equals to. So, it is a range of answers, because you are differentiating functions.
The exchange rate mathematics is such that you have a number of options. But what you want to do is to be on the equilibrium path. To misunderstand the problem is to come up with the wrong prognosis or therapy. So, the problem is not the exchange rate, but the exchange rate determining mechanism.
If we say for example, we are going to have a formula which says the price of oil minus a certain amount of reserve cover, which multiplied by the exchange rate of the naira to determine what it is at a particular date to determine the value, let’s say N150, if we are not satisfied with N150, and we then say intervene to bring it lower, we will then sell more into the market to bring the price down to N130, depending on the capacity we have.
But without a mechanism, you cannot arbitrarily determine the price, because the price is what we call an effective exchange price between two variables. So, the moment one starts saying one can only buy this only when one wears a white shirt, the price is no longer the price. The price is that you have to factor in the price of buying the white shirt, the time you have to wait to the financial cost.
What we are saying is that we need to have a mechanism for determining our exchange rate. Once it is known, everybody will work with it.
Fear of speculation
On the fear of speculation, it will die once they know that if they push the rate up, they will buy tomorrow at minus 10. And there is a carrying cost attached to holding currencies, because you are paying about 15 percent per annum interest to borrow the naira to buy the dollar and you are getting only one percent. And the dollar will not appreciate. The only way to end speculation is to allow the market price to prevail.
Policy options
On policy options for government given the present situation, first and foremost, at $46 a barrel, you are not in a position to keep the currency at the same position as when it was $69 a barrel.
Since President Muhammadu Buhari came, prices have gone down from $69 a barrel. $69 minus 10 is 59, 59 minus 10 is 49. So, we have lost almost 30 percent of the value of the price of our product since he came in. But if you take it to July 2014, it is down 65 percent, that is from $116 to 46 dollars. We don’t have the revenue. We didn’t cause it. The markets are down. So what have we given up since the price of oil went down from $116 to where it is? All that we have given up is that we have blocked the holes for corruption and leakages.
Assuming that they were stealing $40 a barrel from $116, that leaves you with $76, from there to what we have now, we still need to make that adjustment.
Naira devaluation
The appropriate range that the naira should be devalued to is easy. If your income is down by a certain percentage, you adjust your currency accordingly. But I am not saying we adjust by 70 percent. We have done 26 percent adjustment since this thing started.
Our terms of trade have deteriorated against us by as much as 38 percent, because our import has come down, but our exports have gone down much more. Your currency adjustment mirrors the level of your terms of trade.
Again, if the government insists on not adjusting the currency it will create a gap. That gap will be filled one way or the other. Adams Smith did this centuries ago. Demand curve and supply curve, these are fundamental laws of economics. When a hypothesis becomes a law, it means it has been empirically verified, so it is not subject to any argument. If the price of any commodity increases, the demand for that commodity will decrease. If the supply increases the price will fall. If the price is not where the demand is equal to supply, a gap will be created. That gap will be filled by unhealthy and dysfunctional practices, which will distort the market and create rent and arbitrage and destroy productivity.
Single Treasury Account
Many people believe with the Treasury Single Account (TSA), we could be creating a gap in the financial system. The TSA will lead to an appreciation of the naira in the short-run because you are reducing the quantity of excess liquidity in the system. But this is a temporary measure, because eventually you will use the money from the TSA to pay contractors and the money will come back to the banking system. We must always equate an economy with a patient. If you have malaria, and you take any drug at 8a.m, you will feel strong and feel good, but in the evening when the sun goes down, your temperature increases. If you take the inadequate dose of medicine, you feel some initial relief, but the relapsing fever is often worse. So, if we take the inadequate dose of adjustment, the relapse will be much higher than we started.
JPMorgan
On the JPMorgan issue, the question is did Nigeria lobby it to include it in its bond index? No, JPMorgan included the country based on its assessment. Their index methodology is so disciplined and is transparent. If the country does not meet certain criteria, it cannot be in the index. Thirty-five emerging markets’ currencies have been adjusted. So there is nothing special about Nigeria. It takes time to accept realities. I come from the school of markets, so I believe in markets.
And one is not subordinating nationalism to the market. No! There is economic patriotism which I strongly believe in and there is economic realism. The truth is that when price adjusts to reality, production increases. And the economic well-being of the country will improve. At the end, we want to increase the Gross Domestic Product of the country, so that the welfare of the people is better off, so that people can invest and create jobs and boost economic welfare.

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