The Naira Crisis – Crypto Naira

The dynamics of the traded value of USDT/NGN began exhibiting characteristics akin to those typically observed in highly volatile cryptocurrencies.

Observing the Naira hovering around N1500, I commenced gathering data on the traded value and order book entries across all crypto exchanges facilitating the trading of the stablecoin USDT to NGN.

The speculation evident in the order book entries was astonishing, with some entries surpassing N3000/$1. With just over 10 order book entries, rates were nearing 2000/1.

Within a few days, the exchange rate escalated to 1800/1, triggering a sense of alarm within me.

It became evident that there exists a significant issue with the Naira, one that many within the government seem oblivious to the influence of this parallel market on the currency’s value is profound.

Despite an average daily trade volume of just $1 million, the currency’s value had fluctuated by over 4%, and on some days, by as much as 6%.

To put this into perspective, the recorded daily cash circulation of Naira, as reported by the CBN, exceeds N3.6 trillion.

Such discrepancies raise concerns, particularly when considering that, by my estimations although they are speculative and lack statistical modelling to validate them the value of the trades causing these disruptions could be merely N500 million at a rate of 500/1 or at most N2 billion under extreme devaluation at 2000/1. These estimations are derived solely from my perspective and observations reflected in the charts.

In the conventional understanding of stablecoins, the NGN traded against the dollar does not fit the criteria, despite being treated as such due to its 1:1 exchange rate with the Nigerian Naira.

While stablecoins are engineered to maintain a stable value relative to a specific asset, such as fiat currencies like the US dollar (USD), the NGN being traded lacks backing in the form of Naira reserves or bonds.

Nevertheless, market perception dictates that it mirrors the currency’s value at a 1:1 ratio.

Presently, crypto exchanges may assert that they have not created a stablecoin for the Naira, thereby absolving themselves of any obligation to back its value on their platforms with Naira reserves.

Consequently, fluctuations are solely governed by algorithms designed to forecast the price movement of the NGN against the stablecoin USDT.

In essence, if the algorithm detects heightened demand for USDT/NGN, the allowable price ceiling may rise to generate more revenue for the platform. Unfortunately, these unregulated increases manifest in the physical Naira, which is exchanged at a 1:1 ratio with the crypto Naira NGN on the exchanges.

In essence, if the algorithm detects heightened demand for USDT/NGN, the allowable price ceiling may rise to generate more revenue for the platform. Unfortunately, these unregulated increases manifest in the physical Naira, which is exchanged at a 1:1 ratio with the crypto Naira NGN on the exchanges.

Given that this NGN does not qualify as a true stablecoin backed by reserve Naira but trades at parity with the Naira, measures must be implemented to disrupt the “stablecoin effect.”

I often initiate discussions on the floating of the Naira by addressing the two prevailing schools of thought on the matter.

One viewpoint contends that the Naira must discover its true value, attributing the existence of multiple exchange rates and arbitrage opportunities to the Federal Government’s pegging of the currency.

The resulting spreads, typically ranging between N100-200, enabled select individuals, particularly bankers, to amass considerable wealth. This situation popularized the notion of “willing buyer/willing seller,” a concept neither entirely erroneous nor wholly accurate.

Conversely, the opposing school of thought argues that no country entirely floats its currency without implementing some form of control.

To enhance the currency’s tradability, it is essential to establish guardrails through continuous monitoring and the development of adaptable policies capable of adjusting to economic indicators and relative currency values. Rather than abruptly announcing a new exchange rate to devalue the Naira, this approach advocates for the gradual adjustment of policies, thereby establishing a new tradeable range for the currency.

Concurrently, emphasis is placed on bolstering key sectors critical for accurately modelling the currency’s value, considering factors such as reserves, production, and export. Until these elements are firmly in place, maintaining the seemingly rudimentary guardrails of fixing the Naira is deemed necessary.

The former school of thought emerged victorious, and the concept of Naira float became the preferred slogan for politicians aspiring to lead the country. While a floating exchange rate is indeed beneficial, as it fosters an efficient market reflecting the country’s economic strength, it necessitates meticulous monitoring and the implementation of controls to ensure adherence to predefined targets.

Entities capable of widespread tradability typically enforce policies and controls to maintain stability within predetermined target ranges. This is crucial as the currency’s value not only impacts economic indicators such as inflation, GDP, and cost-of-living but also political stability, given that waning economic confidence erodes trust in the government.

I liken the current floating-rate regime of the Naira to the concept of naked trading, wherein a trader engages without risk management controls. In this scenario, the Nigerian state assumes the role of the market maker, ensuring liquidity and bearing associated risks.

The Naira’s staggering devaluation of over 100% within the past 6-8 months mirrors the characteristics of naked trading, wherein trading accounts face potential obliteration. However, in the case of the Naira, the risk of unrestrained potential loss persists as it continues its pronounced devaluation.

It’s evident that simply relying on the Naira to “find its level” within the current floating exchange rate regime is not only tempting but also imprudent. Urgent action is required to address and rectify the underlying issues contributing to the economic hardship experienced in the country.

The adoption of the floating exchange rate regime, without adequate tools for monitoring and implementing controls, has exacerbated the challenges facing the economy.

This has resulted in a situation where big businesses, which have long considered Nigeria their hub, are now departing due to the associated risks and losses.

Over the past 25 years, these businesses have played a crucial role in providing everyday essentials such as food, bathing and washing soaps, pharmaceuticals, construction materials, as well as contributing to the development of new economy sectors like fintech and venture capital.

Furthermore, the current economic difficulties have led to heightened political instability, with a notable decline in public confidence in the government. This has been accompanied by protests highlighting issues related to hunger and the lack of decent living standards.

To address these pressing concerns, several key areas need to be prioritized:

There are lots of benefits that a Naira stablecoin can have but the current iteration of “stablecoin-like” property of the NGN where the Central bank cannot control or make effective intervention should not continue.

A prudent deployment strategy would involve adopting a Fiat-Collateralized Stablecoin model, wherein the NGN or its equivalent is backed by Naira reserves.

This model aligns with established financial risk management principles, as the reserve requirement directly influences the asset’s price movements. Platform owners would have a significant incentive to maintain the tradable asset within a defined range, utilizing effective risk management techniques.

Based on the available data and potential further investigation, it appears that the value of the Naira against the dollar should ideally fall within the range of 400-500.

This range would correspond to periods where parallel trading exerts less influence on the real exchange rate. The recent ban of AbokiFX suggests that the Central Bank may have identified financial inconsistencies, and while the prohibition of crypto-related activities in Nigerian banks seemed stringent, it aimed to mitigate the reliance on parallel markets for a 1:1 NGN-real Naira exchange rate.

It’s essential to clarify that advocating for the re-introduction of the crypto ban is not the intention here. Crypto exchanges can play a role in alleviating the demand for physical dollars.