WHY NIGERIA IS POOR? 06032006

The subject of the causes of enduring and increased poverty in spite of increasing national income has been a regular theme in this column for sometime now.  We have on several occasions analyzed the pitfalls in Nigeria’s economic framework and proposed practicable and effective solutions that will redeem our people from a self-imposed poverty trap.  In truth, we have received several rejoinders to articles in this column from our readers but I am particularly touched by the sincerity in the following feedback from one Mr. Akinwumi Adu, who invited me to appreciate that oftentimes, non-economists may become disconnected from the thought processes expressed in ‘Rational Perspectives’ whenever the language becomes too specialized.  I hasten to apologize to all other readers or even potential patrons of this column who find a common ground with Akin’s observation. 

In this regard, the answers to the following questions raised by an enthusiastic patron of our column will be given, hopefully, a simpler treatment.  Akinwumi Adu responded to last week’s article “W-DAS, Why is CBN Fooling Nigeria” thus:

“…What I will like to know as a science student who does not know much about financial matters includes:

1) If the DAS is not good for selling dollar to the banks, what is the best way forward?

2) NEEDS being a blueprint put together by mentally lazy people who were called to come and chop, do you think there is any substance in it?

3) Why has the value of South African rand appreciated along with the increase in the foreign reserve and ours (Nigeria) has not?

4) Do you think in the Nigerian economy, as in all other things, there is any system on ground to make things work?

5) Is the issue of round tripping by banks so impossible to deal with or are the officials of CBN accomplices?

While I do read your articles as often as I see them, please try not to disconnect me and make a little effort to get across to other people by simplifying the language. Regards, Akin.”

Dear Akin,

I thank you for your mail, I am sorry that you found some portions of the article a bit ‘heavy’; as you know, the limited space available for each article makes it very challenging to develop a theme in totally plain language and also explain basic economic principles.  However, in deference to enthusiasts like you, I promise to redouble my efforts to ensure a broader audience for the important information contained in our weekly columns.

Meanwhile, I will attempt to answer the questions you raised as best as I can.

PROGRESSIVE ALTERNATIVE TO DAS!

The DAS framework implies that every month, the CBN would change the dollar portion of the revenue set aside for distribution to the three tiers of government to naira.  For example, the amount available for sharing to the three tiers of government every month consists of about 85% of dollar revenue earned from the sale of crude oil while the balance of about 15% is the sum accumulated from such taxes as VAT, import duties, company profit taxes and all other federal government revenue which are paid in naira.  Thus, for the sake of simplicity, let us assume that $1bn from oil export and N15bn from taxes are available for sharing to the three tiers of government for the month of March 2006; the current process of disbursement of the revenue is that the CBN would first convert the $1bn to naira at a rate unilaterally determined by itself at an exchange rate of about N109=$1, (until early 2005, a rate of N100=$1 was actually adopted)!  The resultant exchange sum of N109bn will be added to the N15bn collected from local taxes to arrive at a total sum of N124bn (N109bn + 15bn).

The cash level in the banks will rise immediately the bank accounts of the three tiers of government are credited with their own allocations of the N124bn.  The huge naira sum (or excess liquidity) that becomes available in the banking system cuts into the economy in two major ways; in the first place, the banks can now further expand their lending by a factor of over five times the amount of the deposit of N124bn.  In a scenario where these huge sums are not supported by any commensurate industrial production, the nation will experience a rise in the prices of goods and services (inflation) as there will be too much available naira competing for a static amount of goods and services.

Secondly, the huge amount of naira that becomes available in the banking system also helps to provide ample funding for real as well as speculative foreign exchange demand.  The larger the volume of forex to be divided, the greater the volume of naira in the system and the greater the demand for dollars.  Thus, there will always be so much naira chasing the limited dollars released into the market weekly by the CBN and the naira value will continue to fall vis-à-vis the dollar; in this manner, you may understand why core members of this administration have prayed for crude oil prices to fall, so that our dollar earnings can be curtailed!

Furthermore, the CBN changes the dollar revenue at a rate of less than N110/$1 before sharing the resultant sum.  In other words, states, local governments and other federal agencies who need to import vital equipment for industrial or agricultural development are compelled to bid for forex at the CBN’s weekly DAS (now WDAS) auction at rates above N128=$1 i.e.  they have to repurchase the same dollars at a higher cost of about N20=$1.

Furthermore, the DAS, and even the ‘novel WDAS’ system means that the CBN finds itself mopping up part of the huge naira that it had paid into the bank accounts of the state governments and other local and federal agencies at a huge cost to the nation.  In order to mop up, i.e. retrieve part of the huge naira allocations earlier paid into the banks and thereby control inflation, the CBN will borrow back part of the huge cash by selling Treasury bills to the banks and pay the banks an interest rate of over 15% for money that is subsequently kept unused by the CBN; the banks earned over N300bn from this scam last year!  In other words, the CBN competes for the cash in the system by outbidding serious real sector investors, who know that it is dangerous to borrow for medium and long term investment at a cost above 7%; compare this with 4-5% for such loans in focused economies worldwide!

Akin, as you can imagine, this is a crazy scenario, but it is real.  The CBN Governor himself has expressed concern at the adverse operation of this system, when he begged the Senate a few weeks back to retain the benchmark price of $33/barrel instead of the Senate’s advised $36/barrel for 2006 budget computations, even when in reality, crude oil currently sells above $60/barrel.  Meanwhile, inspite of Nigeria’s rating as the 6th poorest nation, we would be adding more than $20bn to the current all time high reserves level (dollar savings account) of about $30bn.  (See Rational Perspectives’ “SENATE, NIGERIA AND MONEY MISS ROAD” Vanguard of 6th February 2006)

So, Akin, you will agree that the current framework of monetary policy is retrogressive, as the system is contrived to support rising prices (inflation-currently at over 20%) and a weak naira whenever we earn more dollars from export.  To say the least, this is a contradiction and an anomaly.

However, Akin, don’t worry, all is not lost.  Next week, we will attempt to explain in simple language a credible and progressive alternative to WDAS.