The Nigerian naira has shown signs of strengthening in recent weeks, bolstered by foreign exchange reforms implemented by the Central Bank of Nigeria (CBN). While this has provided some relief for businesses and traders, concerns linger about the sustainability of this positive trend. There are fears that the recent gains may be short-lived, with factors such as declining foreign reserves and ongoing challenges in the global and local economic landscape potentially undermining the currency’s stability.
As of Tuesday, the naira appreciated by 0.15% to close at N1,501.42/$ on the official window, according to FMDQ FX. In the parallel market, the naira also strengthened by 0.24%, settling at N1,497/$, narrowing the gap between the official and parallel market rates. This development marks a significant change from previous times when the difference between the two markets was much wider.
A Positive Start for the Naira in 2023, but Concerns Grow
Since the beginning of the year, the naira has gained 2.6%, according to Bloomberg data. However, this positive trend contrasts with a worrying decline in Nigeria’s foreign reserves, which have dropped by $2.34 billion, from $40.92 billion on January 6 to $38.58 billion by Monday. Analysts are concerned that this decline, combined with the potential for monetary policy easing, could dampen investor confidence.
Ayodeji Dawodu, the director of fixed income at BancTrust & Co. in London, expressed concerns about the potential risks. “If reserves continue to decline at an accelerated pace and we don’t have clarity on net reserves, and monetary policy easing commences, then foreign investors could become nervous,” he was quoted as saying by Bloomberg.
The Impact of Discontinuing Forex Sales to BDCs
In addition to the decline in foreign reserves, another potential risk to the stability of the naira is the CBN’s recent decision to discontinue the weekly sale of dollars to Bureau De Change (BDC) operators. Financial data and software company, Stears, highlighted the potential impact of this move in its 2025 report, warning that the discontinuation could widen the gap between the official and parallel markets.
Stears noted that the weekly $25,000 forex sales to BDC operators had played a role in maintaining relative stability in the parallel market by meeting invisible forex demand. Without this support, the company cautioned that there could be an increase in arbitrage and speculative pressures, destabilizing the market. Stears projected that in 2025, with proactive interventions by the CBN, the naira would depreciate at a slower rate of around 8-9% annually, compared to the 41% depreciation in 2024. However, risks like oil revenue volatility and weak investor sentiment could still pose significant challenges.
CBN’s Interventions and the Naira’s Undervaluation
Despite these concerns, the CBN’s recent interventions in the forex market have been praised by some economists. Bismarck Rewane, the Managing Director of Financial Derivatives Company, stated that the naira had been undervalued, pointing to a Purchasing Power Parity (PPP) analysis that places the fair value of the naira at 1,102.15/$, indicating that the currency is currently 26.35% undervalued.
Rewane argued that while protecting an overvalued currency can distort market forces, supporting an undervalued currency is a positive step toward correcting its misalignment. He commended the CBN’s actions, noting that they are helping to restore the currency’s balance and alignment with market realities.
Rewane also pointed out that the difference between the official and parallel exchange rates had decreased significantly, from as much as 10-20% to less than 1%, showing that market forces are now functioning more efficiently. Additionally, Nigeria’s balance of trade has improved, with the country now recording an $18.6 billion trade surplus, the highest level in a long time. This has been partly attributed to policies that encourage exports and discourage imports, in line with the CBN’s efforts to support the local economy and improve the nation’s foreign exchange position.
Looking Ahead: Key Risks and Opportunities for the Naira
As Nigeria moves into 2025, several factors will play a critical role in shaping the future of the naira. The country’s ability to manage its foreign reserves, maintain stability in the forex market, and attract foreign investment will be essential. Additionally, tackling issues like insecurity and economic uncertainty will be crucial for improving forex inflows.
If the CBN can successfully navigate these challenges and continue to implement sound economic policies, the naira could maintain relative stability in the medium term. However, the risks remain substantial, and the balance of trade, oil revenues, and investor sentiment will all be factors to watch closely. The naira’s future trajectory depends on the continued success of the CBN’s efforts and broader governmental action to improve the country’s economic fundamentals.
While the naira’s recent appreciation provides a glimmer of hope for businesses and investors, the outlook for the currency remains uncertain, and only time will tell whether the gains will be sustainable.
