US embassy cable - 05LAGOS1100

UNCLAS SECTION 01 OF 02 LAGOS 001100 
 
SIPDIS 
 
STATE PLEASE PASS TO USTR 
 
E.O. 12958: N/A 
TAGS: ECON, EFIN, EPET, ETRD, ECPS, NI 
SUBJECT: NIGERIA: STATE OF THE ECONOMY FOR JUNE/JULY 
2005, OUTLOOK FOR FALL 
 
 
1.  Summary: Nigerian economists indicate that the 
country can expect continued inflationary pressure, 
increased interest rates, and modest naira 
depreciation.  This economic environment will cause 
Nigerian investors to continue to look outward for 
investment opportunities, as evidenced by a 30% 
increase in foreign exchange investments in June.  The 
Nigerian stock market, however, is still attracting 
investors, and new capital requirements for banks set 
for December 2005 have resulted in increased trading 
levels.  Current trading suggests that more banks than 
previously thought will survive the need to 
recapitalize. End summary. 
 
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RISING INFLATION RATES 
---------------------- 
 
2.  A recently released communiqu of the Central Bank 
of Nigeria's (CBN) monetary policy committee (MPC) 
estimated the monthly inflation rate for April 2005 at 
16.3%. This is significantly higher than the 10.0% 
achieved in December 2004 and is way off the single 
digit inflation target set for 2005. In addition, first 
quarter money supply increased by 17.5%, for an 
annualized growth rate of 42%, more than double CBN's 
2005 target of 15%. Executives at Financial Derivatives 
Company (FDC) Limited, a Lagos-based economic think 
tank, attribute the money supply saturation to the 
monthly release of statutory allocations to all tiers 
of government. They predict increased pricing pressure. 
For example, prices of staple foods like wheat bread 
have risen by about 50%. 
 
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RISING INTEREST RATES 
--------------------- 
 
3.  Money market interest rates had been on a downward 
trend in early June because of excess liquidity in the 
system.  However, the money market took a sharp upward 
turn in June to reach 14.7% by month's end, likely due 
to CBN's gradual withdrawal of public funds from banks. 
In June, the CBN withdrew approximately 30 billion 
naira from Nigerian National Petroleum Corporation 
(NNPC) and plans to withdraw another 30 billion naira 
in July.  The CBN is concluding plans to become sole 
banker to seven major Nigerian parastatals, including 
NNPC. This move by the CBN is yet another way in which 
they are trying to decrease commercial banks' 
dependence on the government. They have already ordered 
state governments to reduce ownership of private banks 
from sometimes over 50% to a maximum of 10%, and they 
are closely monitoring stock market trading in bank 
shares to ensure that states do not overpurchase bank 
shares. In the past, overdependence on public funds has 
resulted in private banks' maintaining unsustainable 
debt. 
 
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NAIRA DEPRECIATION IN JUNE REVERSES EARLIER TREND 
--------------------------------------------- ---- 
 
4.  At the end of first half of 2005, the Naira 
remained stable at N132.87/$1 in the official markets, 
despite a marginal depreciation early June, while the 
value of the naira in the parallel market fell during 
the same period to N143/$1 from N139/$1.  Many look at 
this difference as a result of summer travel plans, 
which increases demand for U.S. dollars in the parallel 
market without greatly affecting the official rate. 
Experts predict people will hold on to their U.S. 
dollars because of both the dollar's stability relative 
to the Naira and the dearth of investment outlets in 
the Nigerian money market. Furthermore, yields on money 
market instruments have become unattractive, with the 
MRR (Marginal Rediscount Rate) pegged at 13%, and the 
inflation rate projected to be 12.2% at best. Also, 
Nigerian government securities are currently 
unattractive, with Treasury bills yielding all-time low 
returns of 4.5%, compared to 14.5% just a year ago. 
 
5.  According to FDC, the current environment is an 
inducement for capital flight, since investors will 
prefer to hold dollar-denominated assets outside of the 
country. "Even the most patriotic investor will think 
twice about investing in these money market 
instruments," FDC executives said. June's 30 percent 
increase in foreign exchange demand in the Inter-Bank 
Foreign Exchange Market (IFEM) to N1.07 billion 
(USD8.05 million) lends credibility to this assertion. 
 
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NIGERIAN STOCK: STILL ATTRACTIVE TO INVESTORS 
--------------------------------------------- 
 
6.  The Nigerian Stock Exchange (NSE) remained a haven 
for investors, as overall price gains seemed to 
outweigh price losses in the first half of 2005. The 
NSE All-share index rose by 1.7%, while market 
capitalization rose by 6% from N1,860 billion in May to 
N1,909 billion in June. 
 
7.  Initial Public Offerings (IPO) for banks continued 
to be introduced on the floor, as smaller banks 
struggle to meet the December 2005 deadline to 
recapitalize to N25 billion.  As the deadline draws 
closer, experts believe that, based on these IPOs, 
between 30 and 35 banks are likely to meet the Naira 25 
billion mark, a much larger number than the 15-20 
previously estimated.  (Comment: The CBN nevertheless 
continues to investigate the origins of funds invested 
in these IPOs and has disqualified some.  A firm 
estimate of surviving banks might therefore be 
premature at this point.)  FDC executives noted a 
decline on returns on investment (ROI) and earnings per 
share (EPS) of banks that had raised capital from the 
NSE, despite an increase in their total earnings. 
 
HOWE