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War over Naira exchange: Potential winners and losers

As in the oil market, so it is in Nigeria’s foreign exchange market. Oil has all along been sold at a lower-than-market price. That is…

As in the oil market, so it is in Nigeria’s foreign exchange market. Oil has all along been sold at a lower-than-market price. That is a subsidy, which has gone, as President Bola Tinubu ordered. Our central bank has for years kept the naira overvalued, in other words selling other currencies at lower-than-market prices. That, too, is a subsidy because it costs the nation a lot to maintain this low exchange rate. 

Selling such a scarce commodity below the open market price, naturally, has created opportunities for market operators to make quick gains by being able to buy in one market segment and sell in another at a higher price without incurring much cost. 

So, the existing multiple exchange rates in Nigeria have been sustained by abundant arbitrage opportunities that the monetary authorities have so graciously offered in the system. This has in turn bred many arbitrageurs, who sprouted, rather like mushrooms, to pluck the free fruits offered them by the system. 

The question about the naira exchange rate adjustment (devaluation) is no longer whether, but when, and perhaps how fast? And it is not good news really for Nigerians that these two fundamental changes will be taking place in the economy almost simultaneously. The multiplier effects are bound to be devastating, as inflation, currently at a five-year high, will spike further, reducing consumer welfare and pauperising many. 

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Already, with the removal of the oil subsidy, the price of a litre of petrol is approximately N500, with the exchange rate still officially at about N465/$. By the time devaluation kicks in properly and we are at about N700/$, then Nigerians will be talking about a litre of petrol at N700 or more. This will also affect the pricing of electricity, which is highly linked to the exchange rate, given the fact that most of the equipment used in that sector is imported. 

Again, as in the oil industry, where powerful forces who fed fat on subsidy resisted its removal, so will forces in the forex market, who make fortunes without lifting a finger to work, fight any moves to tamper with their fortunes, but their resistance is unlikely to last. 

So, the ensuing war in the nation’s foreign exchange market is actually a battle over arbitrage, the opportunity to make a quick, almost effortless profit. Should it stay or should it go? It is a war bordering on group interests. One interest group is those that have so far benefited from it, making stupendous gains; the others are the rest of the members of the society, who wish that the forex market in the country could be managed more professionally. 

William F. Sharpe, Gordon J. Alexander, and Jeffrey V. Bailey, in their book, INVESTMENTS, define arbitrage as “The simultaneous purchase and sale of the same, or essentially similar, security in two different markets for advantageously different prices”.  I think the emphasis here is on the word ‘simultaneously’.

In Nigeria’s foreign currency market, this means buying dollars or any other foreign currency at a lower price (from the official windows), and at the same time, selling the same in the parallel market, where they command higher prices. We call it “Round tripping” in Nigeria. 

 It is the game of rent-seekers. It is the ability to buy from one segment of the market, usually the official windows, and turn around to sell at the popular parallel market, at a much higher rate. Expectedly, the higher this arbitrage opportunity, measured by the price differential, the more the market booms, and the more difficult it becomes to control or eliminate it.  

This arbitrage has existed in our foreign exchange market since the deregulation of the market. But its size has bourgeoned as the demand outstripped supply from the official sources. This is what has characterised Nigeria’s forex market over the last six years or so, under its current leadership. With the naira kept artificially low by the CBN, with a plethora of rules to restrict access to the official windows, this has led to a boom in the black market, which over the years has actually become the relevant market for forex in Nigeria. 

What does it take for someone to become a beneficiary in this market? Very little, indeed. First, you become a supplier or a middleman of sorts in the foreign exchange market. They are those who obviously benefit from the rate differentials. In this group are the Bureau de Change operators.

The CBN under governor Godwin Emefiele set out to establish the BDCs in the nation’s forex market. And he went out of his way to do that, flooding the market with the BDCs. Figures available from the regulator’s website indicate that it has licensed at least 2, 991 of them, as of yesterday, June 6, 2023. 

But today, their influence and profit margins in the market have narrowed significantly. The creator of the BDCs also curbed their power. In July 2021, the CBN stopped supplying them directly with foreign currencies. Today, they get their funds from other sources, as the market structure makes it possible for them. 

For a long time, the CBN played a game of nomenclature. It refused to accept the existence of multiple exchange rates. It rather chose to argue that what Nigerians regarded as multiple rates were actually multiple platforms. 

Now, the chickens have come home to roost. The reality is that there are indeed multiple exchange rates in the Nigerian economy. And there is now a consensus that this is unhealthy for the economy and that the rates must be unified to aid decision-making by operators in the economy: investors (foreign and local), manufacturers, and even consumers. 

This economy needs to be opened up to investors, but that cannot be done under the current environment that it has been in the past few years. Multiple exchange rates, and stringent exchange control measures that made it difficult for foreign investors to repatriate their profits, cannot be part of the policy mix that Nigeria needs in this new dispensation. 


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