World Bank Urges CBN to End Ad-Hoc FX Auctions for Market Stability

The World Bank has called on Nigeria’s Central Bank (CBN) to halt its ad-hoc foreign exchange (FX) auctions, citing the practice as a factor exacerbating market instability and undermining investor confidence. This recommendation comes amid the ongoing economic challenges in Nigeria, including currency depreciation and low foreign reserves, which the World Bank says could be better managed through a consistent FX framework rather than sporadic market interventions.

CBN’s FX Auctions: Background and Impact

For years, Nigeria’s FX market has been characterized by the CBN’s periodic ad-hoc interventions, whereby it injects foreign currency into the market to stabilize the naira and curb demand-supply imbalances. While these auctions aim to manage currency volatility, the World Bank notes that they have contributed to exchange rate unpredictability, especially as Nigeria grapples with low reserves and limited FX inflows.

These interventions often favor specific sectors or purposes, such as imports of essential goods, but critics argue that they create market distortions, contribute to a parallel exchange rate, and reduce transparency in FX pricing. This system has caused a sharp gap between the official rate and the parallel market rate, creating opportunities for arbitrage and further complicating exchange rate policy.

**World Bank’s Call for a Predictable FX Policy**

According to the World Bank, moving away from ad-hoc FX auctions toward a transparent and predictable FX policy would support Nigeria’s efforts to attract foreign investment, boost confidence in the naira, and strengthen overall economic stability. The bank contends that by adopting a market-driven FX system, Nigeria can address structural challenges more sustainably, allowing businesses and investors to make better-informed decisions.

The World Bank also highlighted that discontinuing ad-hoc auctions would help align Nigeria’s multiple exchange rates, creating a unified, reliable rate that reflects true market value. A more stable FX policy could reduce inflationary pressures and improve foreign direct investment (FDI) inflows, as international investors are more likely to commit long-term investments under stable currency conditions.

**Challenges Faced by the CBN**

The CBN faces considerable challenges in maintaining a stable naira amid dwindling oil revenues, reduced FX inflows, and rising inflation. The central bank’s reliance on ad-hoc FX auctions is, in part, a response to the scarcity of foreign exchange, which has driven up demand for dollars and weakened the naira.

However, Nigeria’s foreign reserves, which are closely tied to oil exports, have been impacted by fluctuating oil prices and reduced production, further limiting the CBN’s capacity to consistently support the naira. Without sustainable FX inflows from exports or diversified sources, the bank’s interventions become less effective and more expensive over time.

**The Case for a Unified FX Market**

One of the World Bank’s primary recommendations is the creation of a unified FX market, where the exchange rate is determined by market forces. Such a move would eliminate the disparities between Nigeria’s official rate, the Investors’ and Exporters’ (I&E) window rate, and the parallel market rate, simplifying exchange rate policy and improving transparency.

A unified FX market could reduce the cost of doing business in Nigeria by providing a single, reliable rate that applies across all transactions. This change would benefit businesses, as they could avoid the uncertainty and costs associated with navigating multiple exchange rates.

**Potential Benefits of a Market-Driven FX System**

A predictable, market-driven FX system offers several advantages for Nigeria’s economy:

1. **Improved Investor Confidence:** Stability and transparency in the FX market would attract both domestic and foreign investments, as businesses would face less risk from fluctuating exchange rates.
2. **Reduction in Arbitrage Opportunities:** A single FX rate would reduce opportunities for currency arbitrage, thereby minimizing distortions in the market.
3. **Enhanced Export Competitiveness:** A market-aligned naira could make Nigerian exports more competitive, supporting economic diversification goals.
4. **Conservation of Foreign Reserves:** By reducing the need for frequent interventions, Nigeria could better manage its limited foreign reserves.

**Path to Implementation**

While moving to a market-driven FX system would require the CBN to relinquish some control over the naira, such a transition could be supported by policies aimed at bolstering FX inflows. This could include measures to improve Nigeria’s export capacity, incentivize foreign investments, and support the growth of non-oil sectors to diversify the economy’s FX sources.

The central bank may also need to adopt a gradual transition approach, phasing out ad-hoc auctions while providing guidance to manage the potential impacts on inflation and the cost of imports. This strategy could help minimize the shock of moving to a free-floating system and allow for adjustments as the economy adapts.

**Conclusion**

The World Bank’s recommendation to discontinue ad-hoc FX auctions aligns with global best practices, promoting transparency, investor confidence, and economic stability. By adopting a predictable FX system, Nigeria could mitigate currency volatility, conserve its reserves, and pave the way for sustainable growth. However, successful implementation will require a strong regulatory framework, diversified FX sources, and collaborative efforts between the CBN and other stakeholders to ensure that Nigeria’s currency policies support both economic resilience and long-term investment.