The Yuan-Naira currency swap: Opportunities and risks

The finance and banking community in Nigeria welcomed last week’s announcement of the Yuan-Naira currency swap deal between Governor Yi Gang of the People’s Bank of China (PBOB), and Governor Godwin Emefiele of the Central Bank of Nigeria. The deal, which is to facilitate bilateral trade over the next 3 years, amounts to some US$2.5 billion — equivalent to N720 billion and 16 billion Chinese Yuan.
A currency swap simply refers to an arrangement whereby two parties agree to exchange the principal amount of a loan and the interest in one currency for the principal and interest in another currency. At its inception, the principal of the equivalent amounts are exchanged at the spot rate. And during the period of the swap each party pays the interest on the swapped principal of the other. And at maturity, principal and interests accruable are finally exchanged.
For decades swaps have been standard practice among major multinational corporations as an international financial derivative tool to facilitate their trade and investment and activities within and outside their subsidiaries. As far back as the Asian financial crisis of the late nineties, currency swaps were brokered between Asian countries and some of the central banks of the advanced industrial countries to address the problem of acute liquidity constraints. China, South Korea and Japan also crafted bilateral swap arrangements to supplement whatever international facilities were available. These arrangements were to culminate in the emergence of the Chiang Mai Initiative involving establishment of a whopping US$240 billion fund to finance balance of payments shortfalls among the Association of South Asian Nations (ASEAN).
Currency swaps have gained some popularity after the subprime crisis of 2007/2008 that portended the so-called Great Recession. Following the collapse of investment bankers Lehman Brothers in Wall Street, several of America’s trading partners experienced massive dollar shortages. The Federal Reserve, America’s central bank, structured swap arrangements with major trading partners such as South Korea, Brazil, Mexico, Canada, United Kingdom, Singapore and Australia so as to boost their dollar liquidity and overcome the currency constraints to international trading. The European Central Bank (ECB), on its part, has structured currency swap deals with countries such as Sweden, Denmark, Poland, Hungary, Latvia, Estonia, Iceland and Norway.
There is a major confusion which often accompanies any discussion of the Chinese currency. The official name is Renminbi (RMB) which means “the people’s money”. That has been the official name of the legal tender currency of China since the establishment of the communist republic in 1949. However, most people also know the name of the currency as the Yuan. Strictly speaking, the two are not interchangeable. Whilst the Renminbi is the official name of the currency, the Yuan is its unit of account. A typical analogy would be that between pound sterling and the pound. The pound sterling is the official name of the British legal tender currency issued by the Bank of England. The pound is, strictly speaking, a unit of account for sterling. For example, we never discuss any quantum of the British legal tender currency in terms of sterling; rather, we talk of it in terms of x amount of pounds. In the same way, the Yuan refers to x units of the Renminbi.
China has recently emerged as the world’s Number 1 international trading nation. The Chinese have brokered currency swap arrangements with more than 30 countries. In 2013, for example, Beijing signed a bilateral swap arrangement with the EU amounting to some Є45 billion, equivalent to RMB 350 billion. By the largest deal has been Britain-China swap deal of October 2014 which stands at more than US$100 billion.
The current swap arrangement between CBN and the People’s Bank of China should be seen as a welcome test-case of the potential of our naira as an international currency. My good friend Isaac Okorafor, Acting Director of Corporate Communications at the CBN was saying the other day that no decision has yet been taken by the apex bank as to which banks will be selected to participate in the lucrative deal. That decision, according to him, will soon be taken and will be accompanied by the necessary guidelines for the relevant market-players. However, as we understand it, only 4 of our commercial banks currently have a presence in China: these are Stanbic, Standard Chartered, First Bank and Zenith. It transpires that the People’s Bank of China are insisting that the minimum requirement for participation is that banks must have not less than US$20 billion in their balance sheet. If this rule is strictly applied, it would mean that probably only two banks – Standard Chartered and Stanbic – will be qualified to participate.
One thing, though, is clear: the CBN will have to play a central role in defining the terms of engagement, including providing mechanisms for clearing, specifying the relevant collateral for market actors and most probably creation of another equivalent to Form M which strictly covers only dollar denomination.
Currency swaps have two principal advantages. First, they are a vehicle for accessing foreign currency at a better rate of interest than could directly be obtained in the Eurodollar market. Secondly, they provide a mechanism for hedging transaction risk on foreign currency loans. They also reduce overall transactional costs for accessing forex by international traders. For example, the typical Nnewi industrialist who normally sources his vital raw materials from China would typically have to use his naira to purchase dollars either through CBN via the Form M process or directly from bureaux de changes (BDCs). This entails purchasing dollars at a cost. When he arrives in Shanghai he would then have to exchange those dollars into Yuan, with also some additional transactional costs. The currency swap eliminates those double transactional costs by allowing the trader to change his naira directly into Yuan.
It is good news for the overall economy and our external current account in the sense that it will ease demand for dollars in our foreign exchange market. According to available data, at least 30 percent of demand for dollars in our foreign exchange market is to facilitate trade with China. The currency swap deal will ease pressure on demand for dollars because our traders will now be able to purchase Yuan directly without recourse to the dollar market. This will in turn ease pressures on the exchange rate and on external reserves. The stabilisation of the naira and the ensuing confidence with regards to our external reserves will be a boon to the overall business and investment confidence.
We also believe that the success of this deal could pave the way for subsequent deals with Beijing. It is also good for the credibility of the naira. I have always insisted that we lack sufficient ambition for our naira legal tender currency. In the seventies the naira was acceptable as a trading currency in London, Paris and Saudi Arabia. Until recently the naira was the de facto currency of West Africa, especially in such countries as Benin Republic, Togo, Ghana, Côte d’Ivoire, Burkina Faso, Senegal and Mali. Something went wrong along the way. Today, none of those countries would touch it with a barge-pole.
I once mentioned the issue of fake currency in circulation and all hell broke loose. I stand by words and shall not budge. I know what I am saying but I will never reveal everything I know until the appropriate time. Denial of reality is the first mark of hubris. The problem remains a big one. We need to take steps to bolster the security of the Mint and ensure the integrity of those paid to print our legal tender currency abroad. I have been told of a foreign power that can print any amount of African currencies for you in exchange for dollars. You can never tell the counterfeit from the genuine. Some foreign powers have the technology to print illegal currencies of our countries. Lebanese vultures have been in the business for decades. And only a fool will not know that currency wars have been one of the vital tools in the hands of the cloven hoofs behind the chancelleries of the world powers.
Indeed, those who would want to bring our country down, as they prophesied ad nauseum will only need to focus on two vital areas: destruction of our food security system and rural agrarian production – as they are doing with Boko Haram and Fulani militias — and on the monetary system as they do more surreptitiously. A programme to re-launch our naira as an international convertible currency must of necessity begin with iron-cast measures to ensure the integrity of the legal tender currency. Bold monetary-policy steps must also be taken to stabilise the naira and bolster its prestige and standing among world currencies.
Whilst welcoming the Chinese deal, I worry about the risks. First, of all, CBN has not told us everything. For example, at what exchange rate is the swap being structured? Is it the official rate of N306/US$ or the spot rate, which is currently around N360/US$?
Secondly, will the deal cover all manner of goods? Whilst CBN has been categorical that the 41 banned items will remain banned and will not be part of the swap deal, it’s not clear if traders can import everything else under the deal.
Some of us welcome the fact that our Nigeria-China trading and investments relations have been growing from strength to strength. Nigeria is today China’s primary investment destination on the continent as well as its largest trading partner. According to the Consul General of China in Lagos, Chao Xiaoliang, China-Nigeria bilateral trade stood at US$8.9 billion as of November 2017. As a matter of fact, our bilateral trade fell from a high of US$13 billion in 2012, although it’s on the rise once again. Chinese FDI in our country stood at around US$2 billion in 2017.
Two major issues, however, stare us in the face. First, there is a huge trade deficit between our two nations that is stupendously in favour of Beijing. Second, there is anecdotal evidence of huge Chinese trade dumping in our country. Everywhere you go, you find inferior Chinese goods in our country. There was a time they were even exporting poisonous baby milk and even plastic rice. The Chinese have contributed to ruining our entire textile and garment industry by their smuggling and sharp trading practices. If I were President Muhammadu Buhari I will call for a meeting with President Xi Jinping. I would take to that meeting the heads of the Standard Organisation of Nigeria, NAFDAC and others. We will sit down and draw up a treaty requiring that only products that meet Euro-American standards can be imported to our country. Period! There cannot and must never be, any compromise on that matter.
I hope my colleagues in CBN and the relevant MDAs will take foolproof measures to guarantee that the currency swap will not aggravate trade dumping by China but, rather, accelerate importation of relevant machine tools and other vital inputs necessary for our accelerated industrialisation and structural transformation of our economy. It cannot be business-as-usual.

Obadiah Mailafia