How not to make public policy

Of the more challenging aspects of policy formulation/implementation, that of holding unintended consequences at the barest minimum is the more trying. To understand this challenge, it helps to properly interrogate two needs. First is the requirement to design policy processes and procedures in ways that help keep the undesired effects of the policy on unrelated third parties at a minimum. The decision by the Central Bank of Nigeria (CBN) to hold interest rates down in support of the Federal Government’s large borrowing appetite, is a useful example of this. For it has the undesired effect of lowering the yield on pension funds’ assets. While it could not have been the central bank’s intent to purloin would-be pensioners’ nest eggs, the bet, over the next couple of years, is that the investments in new capacity from government’s borrowings work to drive domestic productivity increases that not only improve general citizen welfare, but also help to lower domestic costs. That way, today’s loss to tomorrow’s pensioners would be more than compensated for.

…the CBN’s desire to keep the naira’s exchange rate at levels that support the economy is reduced to a fiction. Then, there is the small matter of transactions that drive costs and inflation (very important measures of the economy’s health) now taking place beneath the radar. And finally, there is the equally noteworthy matter of what this charade does to domestic expectations…

This need to curb negative externalities is, unfortunately, no more important than the collateral obligation, which policy makers owe their policy space, to keep perverse incentives at a minimum. So, the federal government bans rice imports to Nigeria, in order to boost domestic rice cultivation and production. And over the same period, the rice import bill for the Republic of Benin shoots through the rafters. Evidently, the one most important consequence of the ban on rice imports is that monies lost to the Federal Government’s coffers from forgoing rice imports ends up supporting the different smuggling value chains that criss-cross the nation’s spongy borders.

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One could argue, though, that so long as gains from a policy significantly outweigh the negatives, such policies should be waved through. Afterall, it would be an incredibly tall order to require that policies must completely eschew both externalities and perverse incentives before they are approved. The problem, though, with both of these concepts is that without clarity around their full extent, they could affect economic outcomes and the culture around them for years into the future.

…the central bank has kept the market on a tight leash: Diligently chasing after saboteurs; and resolutely warring against freebooters. Despite its best efforts, however, it has struggled to keep the genie from the shadow economy in its lamp. Consequently, however undesirable the parallel market rates are, they will remain with us…

Nowhere is this latter possibility more noticeable, in the country’s current circumstances, as in the domestic market for foreign exchange. What is the aim of current policy in the sector? “To keep the naira strong, is a task that must from the economy be wrung”. Thus, the central bank has kept the market on a tight leash: Diligently chasing after saboteurs; and resolutely warring against freebooters. Despite its best efforts, however, it has struggled to keep the genie from the shadow economy in its lamp. Consequently, however undesirable the parallel market rates are, they will remain with us for as long as the central bank continues to support market windows where the naira’s virility is at its most macho.

An accidental consequence of this differential is the reluctance of exporters to repatriate their earnings through the official market. Neither saboteur nor freebooter labels matter here. It is simply human to seek to sell whatever asset one has at the highest rate that the market may take. Yet, if they are not to fall foul of the laws, importers must sell these proceeds through the banks, who in turn get sanctioned for violations of the spirit and letter of extant laws designed to keep the naira strong. However, both perverse incentives and negative externalities have found their way into this sphere. Over the weekend, I learnt of the brokerage market for foreign exchange, also known, apparently as “I&E+”.

Exporters with dollars to spare but reluctant to sell it at the official rate meet up (through a non-bank broker) with importers with a huge dollar need, that may not be fully met through the official channels ― and agree to a sale at a price far higher than the official exchange rate and little under the parallel market rate.

How does this work? Exporters with dollars to spare but reluctant to sell it at the official rate meet up (through a non-bank broker) with importers with a huge dollar need, that may not be fully met through the official channels ― and agree to a sale at a price far higher than the official exchange rate and little under the parallel market rate. Exporters then approach the bank and would only sell their dollars on the condition that it is to designated importers. Banks make their statutory margin on the transaction.

Is all, then, well that ends well? Depends on what the intendment of public policy is. First, the CBN’s desire to keep the naira’s exchange rate at levels that support the economy is reduced to a fiction. Then, there is the small matter of transactions that drive costs and inflation (very important measures of the economy’s health) now taking place beneath the radar. And finally, there is the equally noteworthy matter of what this charade does to domestic expectations: Around how prices are formed, and resources allocated.

It is essentially a study in how not to make public policy.

Uddin Ifeanyi, journalist manqué and retired civil servant, can be reached @IfeanyiUddin.