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One can only hope
that the news reports are wrong. A misreading of a new policy; in which
case, some public officer may have “mis-spoken”. The consequences of
the Central Bank’s recent decision to tighten procedures for accessing
foreign exchange (forex), by requiring banks to scrutinise the history
of both domestic importers and their overseas suppliers before making
forex available to the importers, are worrying.

Though this
decision reflects the apex bank’s support of the Federal Government’s
resolve to limit the importation of unwanted goods, especially arms,
into the country, this policy is wrong-headed for several reasons.

Ideally, the
punishment for illegal importation of any kind should include
forfeiture of the consignment; and either a fine and/or imprisonment of
the offenders; including every known accessory to the crime. Now, this
requires that two institutions of the state work properly: the customs
department, which must be able to interdict the shipment; and the
criminal justice system, responsible thereafter for the successful
prosecution of the case against the importers.

Since the customs
department is wont to let the occasional ball slip, the police
prosecute the case fecklessly, and/or the court processes be too drawn
out to result in justice being meted out correctly, the punishment
might not sufficiently reward the crime. Or, put differently, because
existing domestic incentives in one sector of our national life might
reward deviant conduct in another, is it possible that the CBN may have
designed policy to help government do the job of both the customs
department and the criminal justice system?

The fear is not
that the apex bank is about to become the cure-all to the nation’s
myriad complaints (although it recently found initiatives for
re-financing just about every sector of the economy). Instead, the
bigger worry is that the CBN’s new initiative, by requiring each bank
to validate underlying transactions and supporting documents before
selling forex to importers, adds a fresh administrative burden to an
industry already labouring and heavy-laden. Ought not the apex bank to
know better, especially in view of its previous commitment to removing
all administrative burdens from the foreign exchange market in search
of eventual naira convertibility?

Could the CBN then
had intended other consequences for its action? One obvious consequence
of increasing the administrative burden of participating in any market
is the resultant behaviour of prices. If the burden is on the demand
side, and supply remains constant, prices should fall. If the burden
constrains supply while leaving demand unchanged, then prices should
rise. Now, we all know that the CBN had problems funding the supply
side of the forex market in the latter half of last year. So bad was
the problem that despite rising oil prices, better domestic crude oil
production stats, and improved autonomous inflow into the market, the
naira still depreciated marginally, and the gross external reserves
even more so.

Given this dynamic,
concerns began to be raised towards the end of the year over the
prospects for the naira’s exchange rate. If the CBN was rapidly running
out of ammo with which to support its sense of the naira’s exchange
value, how long before speculators piled in, and started “shorting” the
naira?

The apex bank’s
main bulwark against this possibility is the fact that it runs a pretty
rigged market for foreign currency sales. Add to this the absence of a
futures market for the naira, and it is well nigh impossible to borrow
a futures contract on it, sell this on, in the understanding that it
could be bought at a lower price in future and returned to the original
lender.

Thus, by increasing
the administrative burden on market participants, the CBN may have
resolved to further ring-fence the naira against anticipated demand
pressures in the new year. But there are unintended consequences to
this.

If demand continues
to build for foreign currencies, as election-related spending increases
the naira’s supply, the CBN’s action may have the effect of trying to
squeeze hard on a balloon: divert pressure to the unofficial markets,
leading to a widening of the arbitrage window between the parallel and
official markets.

Inevitably, a
vicious cycle, a downward spiral in the market for forex would build
up, as marginal arbitrage opportunities further drive up demand for
forex.