CBN vs The Economist

In this week’s edition of The Economist, the magazine dared to say what many people have been saying for a while now – Godwin Emefiele, Nigeria’s Central Bank Governor does not inspire confidence in anybody.

As anyone who has been paying attention would have noticed – the CBN Governor has a magnificent obsession with Nigeria’s foreign exchange rate. At the beginning of this year he was defending the Naira with billions of dollars. That (unsustainable) strategy has since been abandoned. There is a new strategy every week these days.

The latest one however has to do with banning the use of the official foreign exchange market if the purpose is to import a list of 40 items ranging from toothpicks to Indian incense.  It didn’t stop there – it went further to say import of those items cannot be funded by buying forex from Bureau de Change or proceeds from exports i.e. if you sell your goods abroad, you can’t use the forex you earn to import any one of those banned items.

In short, the only way to fund the import of those items is by sourcing dollars from the black market. You can go through the recent press releases from the CBN and the message is clear – it is cracking down on use of forex for anything it does not like.

Why is the CBN doing this? It is trying to ‘defend’ the value of the Naira. It feels that the demand for forex is too much and as such is trying to reduce the demand. The way to buy dollars in Nigeria is of course to exchange it for Naira. The point of trade is that you give up something less valuable to you in exchange for something you consider more valuable. All the people demanding dollars have Naira which at that point in time, is not very valuable to them. The more people do this, the higher the value of the thing they want which in turn reduces the value of the thing they are willing to give up for it.

The moral of the story here is that the CBN’s actions clearly show that it is determined to stop the devaluation of the Naira. By denying people dollars to buy toothpicks from South Africa, it is telling them to use their Naira to set up a toothpick manufacturing plant in Nigeria instead.

And so we come to the gist of what The Economist said in its article – this is a very strange way of stopping the import of items you feel can be produced locally:

Economists find the policy baffling. Central banks usually prop up their currencies if they are worried about inflation, or allow them to devalue to depress imports and stimulate exports. Nigeria, by contrast, appears to be set on achieving both an uncompetitive exchange rate and higher inflation

We know that toothpicks can be produced in Nigeria. The technology is not complicated to the point that Nigerians cannot do it. The reason why it is being imported is that it is obviously cheaper to do so.

Imagine that the exchange rate is N200 = $1. Now, due to poor infrastructure, insecurity, police harassment and of course high cost of generating power, it costs N1,000 to produce a box of toothpicks in Nigeria i.e. $5. But in America where the roads are good, there is 24/7 electricity, policemen don’t demand bribes on the highway and the technology has advanced to very efficient levels, you can produce a box of toothpicks for $2. Add another $1.50 for shipping the toothpicks to Nigeria and clearing it at Apapa Port. By the time you add a profit element, it is still possible to sell the toothpicks in Nigeria for $4.50 i.e less than it will cost you to produce it in Nigeria. If you’re a businessman, this is a no-brainer. Manufacturing is stressful and Nigeria can be very unpredictable. You don’t have to be ‘unpatriotic’ to opt to import instead of manufacturing – it makes business sense.

But remember that the businessman who is importing the toothpicks can only sell them in Nigeria in Naira. Using the above exchange rate, a box will be sold for N900 ($4.50 * 200) as opposed to the N1,000 it would have cost to produce it locally.

You can see where this is going – the ability to import toothpicks for cheaper than it costs to produce locally relies on that N200 to $1 exchange rate. If the Naira loses value against the dollar and drops to N230 to $1, all of a sudden it will now cost you N1,035 to import that box of toothpicks. It becomes cheaper to produce it locally (for the sake of this simple argument, we assume that everything required to produce the toothpicks is available locally). If you agree that the reason anyone will import toothpicks in the first place is because it is cheaper to do so, it follows that when it is no longer cheaper to import, the person will stop doing it. And if the demand for toothpick remains (people are unlikely to switch to using their fingernails), then there will be money to be made by supplying it to them.

This is not some untested economic theory by the way – as I wrote previously here, devaluing a currency and keeping it undervalued is a tried and tested strategy for industrialisation. The most recent example of this is China who for decades has kept its currency undervalued (combined with massive infrastructure spending) to keep its producers competitive.

But what the CBN is trying to do is keep the exchange rate at N200 to $1 (in the example above) and then telling people to simply stop importing. It wants them to be ‘patriotic’ and instead manufacture and sell in Nigeria for N1,000 – an 11% increase on the N900 people are paying for the imported ones (the inflation part of The Economist’s argument). There are very few places in the world where such an approach makes ‘sense’. Nigeria is one of them.


Amazingly, in 24hrs, the CBN has responded to the Economist’s article via a press release. It is never a good sign when the response is longer than the original article itself. By the end, we still do not really understand why the CBN is trying to strengthen the Naira at the same as it is claiming to be discouraging imports:

The CBN believes that Nigeria cannot attain its full potentials by importing anything and everything. For far too long, this trend has significantly weakened the operating capacities of our industries, but now is a good opportunity to begin a reversal. Although the article hastily derides this idea as lacking in economic foundations, it is the same principles upon which many other countries do not allow importation of certain products.

Once you believe that ‘the devil is abroad’, it will determine how you react to the situation. The CBN continues to ‘believe’ that importing is what is killing our industries. It follows then, that reducing or banning imports will resuscitate the industries. The question of why people choose to import in the first place is always conveniently ‘unlooked’. Importing simply happens because Nigerians are ‘unpatriotic’.

They say no one deceives themselves like the woman who has only child but when asked how the child is, she replies ‘which one of them?’. The problems are hard and will take a long time to tackle but the best time to start is now. It is sensible to import into Nigeria today. You need to be mad to try to produce most things in the country. That is why people collect all the ‘intervention funds’ provided by the government and buy Range Rover Autobiography with it.

Interestingly, the same Economist addressed the underlying issues about a month ago (emphasis mine):

FOR Muhammadu Abubakar, life is an uphill struggle. Farming in Nigeria is tricky at the best of times. Only the brave or the downright crazy would think of dealing in a perishable product like milk.

On his ranch on the dusty fringes of Kano, the biggest city in Nigeria’s north, he faces a daunting array of problems. The electricity grid is hopeless. So, at the gateway, two generators splutter away 24 hours a day. Diesel sets Mr Abubakar back about 1m naira ($5,100) a month. “We’ve had two hours of power in three days,” he says. “There’s no option.”

There are no good cows for sale nearby, so Mr Abubakar’s company, L&Z Integrated Farms, plans to start importing its own. There are no good seeds for fodder; he brought in cuttings on a commercial flight from Kenya. There is no mains water, so he must drill boreholes to irrigate his fields. Fertile land has a tendency to turn to dust. He has to train his own staff to use complicated machinery. Plenty of batches get spoilt along the way. By the time it is processed, a litre of milk has already cost about 320 naira (£1) to produce.

Then the milk has to get to market. “Three or four years ago we used to fly our milk down to Lagos,” he says. “It cost a fortune. The milk would spoil sitting in the airport. We had to pay off customs. It was a nightmare.” Nowadays, the firm uses costly refrigerated trucks instead. Drivers must brave day-long journeys on disintegrating roads. Each truck requires about 200,000 naira ($1,000) in opaque licence fees every month. Even when those are paid, local authorities send thugs out to get more.

“They make you buy new paperwork,” one trucker says. “We probably pay 3,000-4,000 naira (roughly $15-$20) every journey. ”When the milk finally arrives on supermarket shelves, it costs around three times what it would in Europe. Cheap long-life imports sell for less than half the price of local milk. Nigeria spends roughly $1m a day on imported milk powder, according to Sahel Capital, a private equity group which recently invested the same amount into Mr Abubakar’s business in the hope of changing that.

Other types of farming are equally fraught. Nestlé finds it cheaper to bring starch in than to buy it locally. Olam, a Singapore-listed agribusiness, says that processing costs up to 30% more than in other countries. Mukul Mathur, who heads its Nigerian business, says that moving a container from Kano to Lagos costs as much as from Lagos to Osaka, though the distance to Japan is 13 times greater.

Of course the CBN did not respond to this one.



P.S This November 2014 article by Professor Ricardo Hausmann cannot get old. I share it with everyone I know – it addresses the issues currently afflicting Nigeria. 

P.P.S If you want something more technical, here’s a 2007 paper by Professor Dani Rodrik where he argues that an undervalued currency is associated with rapid economic growth in developing countries.