A recent publication of the Lagos Business School on the state of the economy in the first 100days of GEJ (LBS Report) suggest the Naira is currently over valued by 11.82%. By their estimate the Naira should be trading at atleast N170 to the dollar as against the official spot rate of N152. Are they for real????
In carrying out their analysis, they employed a method called ‘PPP’ Purchasing Power Parity. PPP basically says that a bundle of goods should cost the same in Nigeria and the United States once you take the exchange rate into account. What they did was to take an average of the prices of a basket of similar goods that you can find in Nigeria and in the US (see Businessday of 15/9/11 page 20 or check page 53 of the download in the link above).
At then end of the analysis, they discovered that an average basket of goods in Nigeria was worth N3,045. Similar goods worth $17,87. If you then divide 3,045 by 17.87 you get N170.4. Compare that to the Naira which trades for N152.4 then you get a percentage difference of 11.8%.
But then, somethings are missing which they didnt mention. The goods in question all have several factors affecting their price. Examples are transaportation, consumption pattern, shipping cost, forces of demand and supply, taxation etc. Basically, inflation must be in the equation to justify the differences. Therefore, another method called Relative PPP is usually employed to adjust for inflation. Relative PPP, will typically factor in inflation in their calculation of PPP. To be sure you are correct, the difference between the 2 countries inflation rate must be the same with the PPP calculated above.
Whilst all of this may sound like jargons (which it probably is), the fact remains that the reason why this is even an issue is because we are a highly import dependant economy. China for example, would probably depreciate their currency further if this news were to be served upon them. For a net export country a devaluation of their currency helps them more as their goods are cheaper. For example, if the Naira was N170 as they assume and you export 1m units of biro at say $100,000k then your Naira value will be N17m. Compare this to N15.2m at today’s official rate.
So please, let them (economist cum analyst)leave our currency as it is and stop all this grammar. They should rather channel their energy towards formulating policies that will aid the common man.
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