₦airaland Forum

DISCLAIMER: This post is a my reflection on a currency devaluation. It is not meant to be a defense of or a rejection of a decision to devalue. Note also that this post is not political in nature. Just my thoughts.

Where a country operates a fixed exchange rate syatem like we do in Nigeria, devaluation as a monetary policy would involve reducing the value of the Naira with respect to those goods, services or other monetary units with which the naira can be exchanged. When we devalue our currency, we officially lower its value versus other currencies in a fixed exchange rate system that is the monetary authority (the CBN) formally sets a new fixed rate with respect to a foreign reference currency (in this case the dollar)

A devaluation means that the value of the Naira falls. Nigerians will find imports and foreign travel more expensive. However domestic exports will benefit from their exports becoming cheaper.

Herein lies the crux of the matter.

A weakened currency is only valuable if we EXPORT!

Advantages of devaluation

1. Exports become cheaper and more competitive to foreign buyers. This provides a boost for domestic demand and could lead to job creation in the export sector.
2. Higher level of exports should in theory lead to an improvement in the current account deficit. This is important if the country has a large current account deficit due to a lack of competitiveness.

3. Higher exports and aggregate demand (AD) can lead to higher rates of economic growth.

Disadvantages of devaluation

1. Is likely to cause inflation because:

Imports more expensive (any imported good or raw material will increase in price)

Aggregate Demand increases causing demand pull inflation.

Firms / exporters have less incentive to cut costs because they can rely on the devaluation to improve competitiveness. The concern is in the long-term devaluation may lead to lower productivity because of the decline in incentives.

2. Reduces the purchasing power of citizens abroad. e.g. more expensive to go on holiday abroad.

3. A large and rapid devaluation may scare off international investors. It makes investors less willing to hold government debt because it is effectively reducing the value of their holdings.

4. If consumers have debts, e.g. mortgages in foreign currency – after a devaluation they will see a sharp rise in the cost of their debt repayments. This occurred in Hungary when many had taken out a mortgage in foreign currency.

In summary devaluation of a currency is not a task to be taken lightly. If we stimulate exports properly then it MAY be beneficial in the long run. But just devaluing for the sake of having the dollar more readily available is a reckless economic endeavour.

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