Is Nigeria’s currency crisis a cautionary tale for Ethiopia?

A Plausible argument can be made, that Nigeria’s long ailing economy was pushed over the edge by the most recent IMF imposed devaluation and structural reform plan.

While most developed countries anticipate a slowdown in global inflation, Nigerians face a different reality. The seemingly endless economic woes in the country is being fueled by a persistent shortage of foreign exchange (FX) and a declining Naira. Stubborn structural problems in Nigeria’s economy have led this resource rich African country to lag relative to its potential. According to a recent Bloomberg report, “once Africa’s biggest economy, Nigeria has now slipped to fourth place”.

The devaluation of Nigeria’s currency at the behest of the IMF has worsened inflation, collapsing the Niara 31% a month later in January of 2024. More recently the loss in value is pushing consumer product manufacturers to close factories & exist the market as FX reserves dwindle further. Some economists argue bringing the Naira into alignment with its parallel market exchange rate was prematurely done, without adequate financial support for the central bank, which has the main responsibility of keeping a stable currency and inflation. 

This “double whammy” presents difficulties for multinational companies operating in Nigeria. Their fixed costs, often denominated in dollars, have become more expensive due to the weakened naira. This has the inherent outcome of restricting profit repatriation by multinational corporation operating in Nigeria.

The FX scarcity significantly impacts consumer goods companies like Nigerian Breweries, Unilever, PZ Cussons, and others. This situation casts a shadow on Nigeria’s previously promising image as a rising market due to its large population.

Several major consumer groups have scaled back operations or entirely exited the Nigerian market. Companies like Unilever have halted production of certain product lines, citing difficulties in competing with the current economic climate. Similarly, GSK, Bayer, Sanofi, and Procter & Gamble have all reduced their presence in Nigeria.

According to a recent report by the Financial Times. Procter & Gamble highlights the significant financial burden of restructuring its Nigerian operations due to “macroeconomic conditions.” Their CFO emphasizes the challenges of operating in a market with a weak local currency for a dollar-denominated company.

This situation underscores the complex relationship between foreign currency availability, inflation, and the viability of consumer goods production in Nigeria.

The currency devaluation of the Niara is a cautionary tale of poorly planned and executed devaluation and economic restructuring schemes proposed by the IMF in Africa. It has worsened rather than improved the situation. IMF economists contend these are unavoidable temporary pains that an economy must undergo to be truly competitive in the long run. 

Other countries in Africa have recently received financing from the IMF. Although each country is unique, many countries on the continent are debt distressed, with high inflation and facing shortages of FX reserves. This is a story that echoes right across Africa. But the fix recommended by the multilateral lenders has not been ideal. 

Alemayu Geda, an Ethiopian economist, whose country also faces a similar economic malaise argues, “where the export sector is underdeveloped and demand for imported goods is inelastic, devaluing the exchange rate rapidly will lead to a spike in prices on essential goods”. This is especially the case since Ethiopia’s state-owned enterprises (SoEs) get priority access to FX reserves, giving a handful of SOEs monopoly on key imports such as fuel and fertilizer. It has insulated consumers from erratic price spike, albeit at the cost of SoEs. A sudden free float would result in rapid inflation in crucial imports. Alemayehu recommends, “a dual exchange for remittance & nontraditional exports only as first step, if absolutely necessary”. 

Ethiopia’s sovereign debt per GDP is manageable and has been improving. Although other bilateral debt has increased of late, overall the country’s debt holders have become relatively more optimistic, as demonstrated by the surge in the country’s Eurobond. But FX reserves are extremely low, covering only one months of imports. Tax revenue is also dismal, thanks to decades of subpar tax collection. Although the authorities have embarked on a new “Home Grown Economic Plan” to invigorate, both the quality and quantity of exported goods, the country remains reliant on key imports that tie up most FX reserves. 

Critically needed long-term economic reform can be undermined by inadequate attention to real world outcomes of restructuring schemes, such as the one in Nigeria, which made thigs worse. Securing IMF financing may also require liberalization of the financial sector, continuing with the program to privatize public enterprises, and fostering improvements in the business environment. These textbook liberal policies regularly fall short of their intended outcome however, providing ample warning to the developing nations of Africa.

Following a recent visit, creditors have agreed to give Ethiopia until the end of June to reach an agreement with the IMF as staff ended their meeting in Addis Ababa. The critical time for decisions on Ethiopia’s debt restructure has arrived, as the funds spring meeting gets underway this week in Washington. The hotly debated item of currency devaluation will be on top of the agenda. It will be crucial to calibrate the financial support given to cushion the Birr to avoid the fate of the Niara and avoid an uncontrollable spike in inflation.