Nigeria’s opaque external reserves drain confidence in FX reform

The Central Bank of Nigeria (CBN) is finding that floating the naira is not enough to lure foreign investors back into Africa’s largest economy if there isn’t clarity on just how much the apex bank holds in its dollar reserves.

The CBN used to publish a detailed breakdown of the reserves that helped investors to ascertain Nigeria’s unencumbered reserve level (balance of reserves after swaps and other obligations are accounted for), but since that practice came to a halt some five years ago, it has created confusion and opened the door to some estimates that the reserve level is closer to $15 billion, less than half of the publicly declared amount.

Those estimates gain credibility from the CBN’s inability to meet dollar obligations it should ordinarily be able to deal with if it did have the reserves it claims.

In the meantime, foreign investors are holding on to their dollars without the clarity they need around the external reserves and the naira is under pressure even after the CBN finally delivered a much-needed reform in floating the currency in June.

“It could be that FX reserves are tied up – locked into deposits? The problem is that no one really knows,” Razia Khan, managing director & chief economist, Africa & Middle East at Standard Chartered Bank, said.

“Confidence in the new FX regime will be best served by transparently declaring what the level of reserves might be,” Khan said.

The true level of net external reserves needs to be established and made public, according to Bismarck Rewane, an economist and CEO of Financial Derivatives Company (FDC).

“Central banks the world over, typically publish their net external reserves free of encumbrances. Nigeria’s external reserves are published at a 30-day moving average of its gross reserves which make it difficult to determine the level of liquidity which is free and clear,” Rewane said.

Nigeria’s gross external reserves stood at $33.9 billion as at July 26, according to CBN data. That translates to 7 months of import cover.

The rule of thumb is that a country’s net reserves should not be lower than 6 months of its import and payments cover.

“To the extent that the gross figures are currently able to cover approximately 7 months of import and payment bill should offer some conditional comfort. However, if you strip out balance sheet cosmetics the picture may change,”

Investors and analysts who had hoped to get some clarity at the Monetary Policy Committee (MPC) briefing last Tuesday were left disappointed after the CBN failed to take the opportunity to address the rumours around the level of unencumbered reserves.

“Most people are hoping the CBN will resume publication of that critical reserve breakdown as it continues to reverse some of the damaging policies under the now-suspended Godwin Emefiele,” a senior investment banker said.

Uncertainty about the reserves overshadows the CBN’s latest rate hike which should excite investors who wondered if the apex bank will be independent under new President Bola Tinubu who has called for lower interest rates.

Folashodun Shonubi, the CBN’s acting governor also said the rate hike was in a bid to narrow the negative real rate of return on naira investments which would help encourage foreign investments.

But that may not count for much without liquidity in the market and while there is no alignment in monetary policy instruments.

“It’s when monetary policy instruments align that investors can bring their money in,” a former member of the MPC told BusinessDay.

“The negative real return is a downside but there’s no alignment for instance between the MPR- which is at 18.75 percent and the overnight lending rate which is 3 percent,” the former MPC member said.

Nigeria’s Monetary Policy Rate (MPR) which was raised by 25 basis points to a record 18.75 percent Tuesday, ought to be the floor for all other rates but that relationship has been long broken as there are several other rates in the market that do not take a cue from the supposed anchor rate.

“My view is that Nigeria can do a number of things to bring liquidity into the market but must start from knowing how much is needed which will be determined by the current level of unencumbered reserves,” an economist told BusinessDay.

“My estimate is that to get to a place of safety with our reserves, we need an additional $15 billion,” the economist said.