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How Russia-Ukraine war is driving inflation

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With an economy that is import-dependent, analysts say Nigeria is at the mercy of external factors that will always push the economy on edge; BENJAMIN UMUTEME reports.

Regarded as the biggest economy in Sub Saharan Africa, Nigeria has over the years struggled with its exchange rate especially with the country having to depend largely on imported goods both as raw materials and as finished goods.

This continues to put a strain on its currency the Naira with the government spending billions of dollars on imports especially refined petroleum products.

And with oil theft also cutting Nigeria’s revenue derivable from crude oil export, pressure from importers have passed to the naira thus weakening it.

Despite the Central Bank’s attempt to protect Nigeria, falling FDIs have not helped the Nigeria monetary authorities have had to resort to devaluation to give strength to the Naira.

Import fuelling inflation

The World Bank in a report warned that rising food prices was an underlying factor behind the surge of headline inflation in Nigeria. Food prices have increased due to import restrictions and a nonflexible exchange rate management.

Rising inflation is leading to price increases for food, gas and other products and pushing many people to choose between digging deeper into their pockets or tightening their belts.

According to the report, “The current regime is keeping the official exchange rate of the naira artificially strong while the naira has weakened significantly on the parallel market. Additionally, the central bank has restricted importers’ access to foreign currency for 45 products and has reduced the supply to other importers.

One thing is obvious; inflation tends to devalue a currency since inflation can be equated with a decrease in money’s buying power. As a result, countries experiencing high inflation tend to also see their currencies weaken relative to other currencies.

The World Bank noted that food and fuel shortages will continue to put pressure on consumer prices despite fuel subsidies. Inflation is expected to remain high as the negative effects of the war in Ukraine are still coming through.

The Internal Monetary Fund (IMF) in a report further said “emerging and developing economies that are net importers of energy and food will be hit the hardest by surging international prices. Many of these countries already experience scarring from the pandemic and have little fiscal space to tackle new spending pressures. Government should focus on those most affected by the crisis and priority areas.”

With Nigeria, high inflation rate is further worsened by ravaging insecurity across the country as farmers find it difficult to go to their farms for fear of being killed.

In its Consumer Price Index report for March, the National Bureau of Statistics (NBS) said: “In March 2022, the CPI, which measures inflation, increased to 15.92 per cent on YoY basis. This is 2.25 per cent lower than the 18.17 per cent recorded in March 2021. This means that the headline inflation rate slowed down in March 2022 when compared to the same month in the previous year.

The rise in the inflation rate in March shows that Nigeria is not left out in the global inflation surge currently being witnessed.

The statistics body noted that the rate was fueled by food prices among others.

“On month-on-month basis, the Headline Index increased to 1.74 percent in March 2022, this is 0.11 percent points higher than the rate recorded in February 2022 (1.63 percent). The percentage change in the average composite CPI for the twelve months period ending March 2022 over the average previous twelve months period is 16.54 per cent, these shows 0.19 per cent points decrease compared to 16.73 percent recorded in February 2022.

“The Urban Inflation rate increased to 16.44 percent year-on-year in March 2022 showing a decline of 2.32 percent points from the rate recorded in March 2021 (18.76 percent). In the same vein, the Rural Inflation increased to 15.42 percent in March 2022 with a decrease of 2.18 percent points from 17.60 percent recorded in March 2021.

“On a month-on-month basis, the Urban Index rose to 1.76 percent in March 2022, this was up by 0.11 percent points from the rate recorded in February 2022 (1.65 percent). The Rural In [1] dex rose to 1.73 per cent in March 2022, with 0.12 percent point increase from 1.61 percent recorded in February 2022,” NBS said in the report.

For Dennis Hoffman, a Professor of Economics at the Arizona State University in the US, all the talk about inflation is centred on supply and demand.

He said, “All the factors driving inflation can be explained by the principles of supply and demand. For perspective, inflation occurs when there is “too much money chasing too few goods.” For much of the past 12 years, goods flowing through efficient global supply chains met the demands of consumers, and price appreciation was in the 2% range despite a very accommodative monetary policy that kept interest rates low. Significant expansion in U.S. domestic oil production helped to mitigate any energy-induced price pressures. The pandemic upset this delicate balance.

“Initially, factories were shuttered to stem the spread of COVID-19. And in many places, they were slow to open despite indications that demand for consumer goods increased while services (entertainment and travel) declined. Shortages began immediately popping up, and the only way to ration limited goods was through higher prices. Thus, the spiral began, and goods and labor shortages persisted throughout the pandemic. While some signs of easing appeared this winter, the geopolitics of Russia/Ukraine intervened as soon as troops began to assemble on the Ukrainian border. And history has demonstrated that energy price escalations cause inflation to accelerate across countries around the world.”

The war as enabler

Analysts have said the Russia-Ukraine war is only exacerbating an already bad situation as the world was still trying to recover from the pummeling it received from the coronavirus pandemic.

On February 24, 2022, Russia invaded Ukraine and in response to defending Ukraine, the United States, UK and their allies imposed economic sanctions on Russia.

Some of the sanctions included disconnecting Russia from SWIFT, a global payment system, freeze on its central bank assets, cancellation of oil and gas deals, suspended trade partnership and closure of western countries’ airspaces to Vladimir Putin’s country.

As the war continues and the sanctions continue, it has led to sharp rise in global oil prices with experts saying the development will adversely affect Nigeria’s economy as the largest oil producing country.

Analysts believe that the lack of FPIs, FDIs, the decline in the Diaspora remittances from Nigerians living in Russia, Ukraine, and other neighbouring territories, will pile more pressure on Nigeria’s FX liquidity, exposing the country to the possibility of further devaluations. As it stands, there are fears that Nigeria might witness a crunch in FX supply which has the potential to reverse the positives recorded in both current account and international trade balance.