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Pains, gains of Nigeria-China currency swap deal

The Central Bank of Nigeria (CBN) on Wednesday announced the execution of a $2.5 billion bilateral currency swap agreement with the Peoples Bank of China…

The Central Bank of Nigeria (CBN) on Wednesday announced the execution of a $2.5 billion bilateral currency swap agreement with the Peoples Bank of China (PBoC) to boost local currency liquidity in the economy.

CBN governor, Godwin Emefiele, had led the Nigerian delegation to sign the agreement on behalf of the federal government while PBoC governor, Yi Gang, led the Chinese team at a ceremony in Beijing, China, at the end of negotiations on Friday, April 27.

A statement by the CBN spokesman, Isaac Okorafor, said the transaction valued at16 billion Renminbi (RMB or Yuan) was to provide adequate local currency liquidity for Nigerian and Chinese industrialists.

The deal will also assist other local businessmen by reducing the difficulties they encounter in the search for third currencies.

Mr Okoroafor said the agreement would provide naira liquidity to Chinese businesses as well as provide RMB liquidity to their Nigerian counterparts in return to improve the speed, convenience and volume of transactions between the two countries.

Bilateral trade volume between Nigeria and China grew by 30 per cent from 2016 to about $12.3 billion between January and November 2017, the Deputy Chinese Ambassador to Nigeria, Lin Jing, said.

Describing Nigeria as the biggest Chinese investment destination in Africa, Mr Lin said the country was also the second largest export market and the third largest trading partner to China in Africa.

Understanding the swap deal 

As Nigeria doesn’t sell much to China, it is not easy for the CBN to build up Chinese Yuan reserves. This means that for any trader who wants to buy stuff from China, they have to get prices in dollars.

This adds costs and risks,  given that the person in China giving the quote has to convert the Yuan to dollars before sending to Nigeria, bearing in mind the risk of currency moves affecting his bottom line. The Nigerian guy then has to buy dollars to make the payment to him. From the point of view of the CBN, this is extra dollar demand that can be avoided.

So the CBN approached the People’s Bank of China (PBOC) and asked to set up a swap. Now that the CBN has some Yuan, it can then sell it to Nigerian banks in the same way it sells them dollars.

The Nigerian trader can then tell his Chinese trading partner to give him a quote in Yuan instead of dollars. Once he has the Yuan quote, the trader can then go to a Nigerian bank and make a request for Yuan in the same way he used to make requests for dollars. Instead of the headache of dealing with three currencies, the dollar element is now removed and we have a normal two-way quote.

This takes off some dollar demand pressure as people who want to buy stuff from China can face their Yuan squarely while the dollar people face their dollars. At least we get to know who is who.

Hurdle before the deal

There are still a few loose ends to tidy up before the deal is operationalised. Only four Nigerian banks have offices in China which is a requirement for them to act as clearing houses – Stanbic, Standard Chartered, Zenith Bank and First Bank. But more importantly, the PBoC insists that for any bank to access its clearing house, it must have a balance sheet of at least US$20 billion.

While Stanbic and Standard Chartered, by virtue of being international banks, comfortably clear this hurdle, Zenith and First Bank just fall short.

Whereas the Central Bank would like more than two banks to have access,  it is not yet clear how this will pan out. One option according to experts is for the apex bank to act as a clearing bank.

Nigeria’s Central Bank may also be required to design a new ‘Form R’ as the current Form M used for dollar applications is unlikely to serve the new purpose.

In the meantime, The Central Bank of Nigeria has made it compulsory for all current and intending settlement banks in the country to have treasury bills valued at N15 billion, which will be used as collateral for their settlement roles. This was disclosed in the apex bank’s recently published Monetary, Credit, Foreign Trade and Exchange Policy Guidelines for Fiscal Years 2018/2019.

In addition to the N15 billion collateral requirement, prospective settlement banks will also be required to be capable of providing agency facility to other banks, clear on their behalf and have enough branches across locations where the CBN is currently located. The compulsory collateral of N15 billion will be subject to periodic reviews.

Benefit of the deal

China is by some distance Nigeria’s biggest trading partner with around 30 percent of all current foreign exchange demands relating to trade with the country. For context, the next biggest source of demand is for trade with India which accounts for only about five per cent of demands. Thus, in a best case scenario, 30 percent of current dollar demand could well be diverted to Renminbi.

With the significant presence of Chinese firms in the Nigerian economy in recent times, most of the companies handling various infrastructure projects for the government have had to struggle with funding to complete them.

Mr Okoroafor offered some insight in this regard when he said: “With the operationalization of this agreement, it will make it easier for most Nigerian manufacturers, especially small and medium enterprises (SMEs) and cottage industries in manufacturing and export businesses to import raw materials, spare-parts and simple machinery to undertake their businesses.

“They will take advantage of available RMB liquidity from Nigerian banks without being exposed to the difficulties of seeking other scarce foreign currencies, which attract higher interest rate charges,” he said.

Concern about the deal

Experts have expressed mixed feelings about the deal, with analysts at Afrinvest expressing the view that  the bilateral currency swap agreement is a positive development given the foreign currency liquidity squeeze Nigeria frequently experiences and the strong trade and investment ties between the two countries.

They however said the balance of trade is heavily tilted in favour of China. Imports from China in 2017 (N1.8tn) was 8.1x Nigeria’s export (N220.6bn) and accounts for 20.9% of the total imports in the last five years.

The experts cautioned that, while we are excited by the symbolism of this agreement, the impact on the economy will be limited by the relatively small size of the swap line which could barely cover 40.0% of Nigeria’s Chinese imports in a single year.

Furthermore, a key downside risk to the agreement is that the ease of transaction with a highly competitive country like China could worsen Nigeria’s trade balance and weaken domestic manufacturing capacity.

“We think this concern is justified, particularly in a period of heightened trade skepticism. Yet, it also emphasizes the need to deepen domestic policies on improving competitiveness,” they said.

This concern was also expressed by the head of research of the FSDH, Mr Ayodele Akinkumi, who told Daily Trust that there was worry around our local competitiveness.

He said: “We are reducing barriers to trade flow with this deal. In the last five years (2013-2017)  it is just 1.5 per cent  according to the Nigerian Bureau of Statistics.

“What this may likely do is to promote more import from China. Nigeria needs to develop its local competitiveness to benefit from such agreement because almost one percent of that 1.5 per cent from Nigerian export is oil,” they said.

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