FEAR OF FLOAT: Boyonomics revisited

I refer to ‘Boyonomics’ as the ideas of Henry Boyo, a Nigerian who has persistently contested the monetary framework of the Central Bank of Nigeria (CBN) since the turn of the millennium. Boyo’s ideas build on the condition in the foreign exchange market where the CBN is the single monopolist. The CBN captures the dollar revenues of the state, converts at a unilateral rate against the Naira, before disbursing to the arms of governments, MDAs and Bureau de Change (BDC). This is equivalent to minting of naira notes (naira flood). Because the dollar revenue which has been captured by the CBN via its monopoly stance creates dollar scarcity, there is a constant devaluation pressure against the naira relative to the dollar. So to ease the pressure on the naira following the naira flood, the CBN intervenes – in the money market – with a ‘mop-stick’ by exchanging promises-to-repay in order to clean up some naira liquidity. This monotonous routine has been the operational framework of the CBN that Boyo vehemently criticizes. He has endured cursory attention – if not outright disregard – by the relevant authorities. He proposed a system that issues dollar certificate to the statutory beneficiaries with which they would offer to buy Naira in the open market such that it would be dollars chasing naira – the currency in demand gains value. But does it translate to value for the naira?

Weaknesses in the Logic

‘Boyonomics’ may not translate to increased value for the naira, rather to correct valuation of the naira at higher exchange rate! For clarity, take the currency as a tradable good paid for with goods/services. Offering a currency in the open market – to compete – implies that it has some values driving its demand. The naira is mostly backed (indirectly) by the extractive industry which is the major foreign exchange earner, but the sector is also the base of the global production value chain; and since naira is not the currency in trade, the value derives from the foreign reserves. It becomes glaring that the naira, beyond the territorial bound in which it is a legal tender, is not as worthy as the digits inscribed on it. This implies that the statutory beneficiaries, who bear these dollar warrants, negotiating from a position of strength, would demand more naira for each dollar under the liberal framework, and the banks, tempted to increase their stock of valuable dollars, would comply!  Hence, under the liberalized foreign exchange market, the correct naira valuation would go under at the mercy of the dollars; and the economic woes of devaluation – eroded purchasing power, deplete foreign reserves and stagflation – would lead to suicides and revolution.

Again, assuming the representatives of the statutory beneficiaries are sincere, they would recognise that the critical short supply of infrastructures requires dollar expenditure to close: they would therefore develop preference for higher dollar balances. This implies that only the dollar sum enough to meet the naira denominated recurrent expenditures would be offered in the foreign exchange market. On the private sector side, major exports are extractive based, industries require foreign input – implying that we depend largely on imports for processed goods. All these, denominated by our population make up huge dollar import bills which take tolls on the naira value.

Why the CBN may not float

Dollar Debts: generally, developing countries are not able to borrow in their domestic currencies; and infrastructural gaps imply that they require huge dollar borrowings to buy foreign technologies to minimize gaps. These liabilities are denominated in foreign currencies whereas assets are denominated in naira. In the event of shocks, a depreciation in local currency could have a devastating balance sheet effect that dwarfs the assets side (in naira) relative to the liability side (in dollars), crippling the entire financial system. Also, it becomes even more expensive in terms of naira to repay foreign debts.

Credibility of the CBN: ensuring price stability is a statutory responsibility of the CBN. A credible central banker would want to stick to announcements about inflation targets. Therefore, the CBN, in a given period, sets a target on inflation under a loss minimization program. But because economic agents are rational, they would form expectations and engage in contracts which make the initial policy announcements of the monetary institution sub-optimal. Therefore, the central authority, in order to increase welfare (employment) along the Philips curve, deviates from announcement, creating surprise inflation. The implication here is that sustained inflation may not be the result of irrational policy decision of the central bankers but reflects their inability to commit to policy announcement due to the rational expectations of private agents.  This means that the exchange rate volatility in a float system has a pass-through effect on inflation and interest rates which challenges the credibility of the CBN to stick to rules on inflation target.

Dollarization: floating the exchange rate would lead to massive devaluation of the domestic currency as we saw in the last attempt by the CBN to liberalize the market in 2016/2017. Foreign goods would become more expensive, inflation bolts in: as the naira loses value, importers would develop preference for (increasingly) scarce dollars so as to reduce the transaction costs of exchanging currencies. This would weaken even more the naira fiat, making way for the dollar as the currency in trade, superior to the naira. If this is the case, it weakens the ability of the CBN to use monetary instruments. There is the argument about the counterbalancing effect of devaluation which increases exports revenues via the price and quantity effect such that devaluation means well if the Marshall-Lerner condition holds. But are we a net exporter by balance of trade?

In conclusion, initial devaluation and uncertainty in real exchange rate bear significant output costs via reduction in investments. However, the essence of this argument is not to discredit the efforts and ideas of the man in almost twenty years, but rather to glorify his persistence with an objective response based on the principles of economics. It is possible for the CBN to run simulations based on the idea, followed by a trial depending on the results of the simulation. He deserves recognition, if not an award.