Effects of Naira Devaluation on the Nigerian Construction Industry

In November 2014, the Central Bank of Nigeria (CBN) in reaction to the global declining oil prices and Nigeria’s dwindling international reserves, devalued the Naira from N155/$1 to N168/$1 and further to N199/$1.

Since then, the whole nation has been thrown into panic with everyone wondering how the naira devaluation will impact the economy. In this article, we’ll be looking at how the naira devaluation impacts the Nigerian construction industry.

What is Naira Devaluation?

It refers to the deliberate lowering of the value of the naira in relation to other country’s currency within the context of a fixed exchange rate management system.

Devaluation or depreciation of a country’s currency is usually triggered when the country is experiencing an adverse Balance of Payment or Balance of Trade (BOP/BOT) crisis or by worsening economic conditions transmitted into the domestic economy from the foreign market.

The current devaluation of the Naira is linked to shocks emanating from the falling oil price driven by a global supply glut and a declining world demand for crude oil. As at 24th March 2015, crude oil price traded at US$55.14/barrel (bunny light) and US$50.92/barrel (OPEC reference basket price).

For a developing oil exporting nation like Nigeria, falling oil price will mean loss of revenue to the government, pressure on the country’s foreign reserves, and an exchange rate crisis. To manage this crisis, the devaluation of naira was implemented.

Is Naira Devaluation a Bad Idea?

Nigeria as a country is a net importer of product as opposed to a net exporter. Meaning we are an import dependent economy. Our high dependency on goods and services from foreign countries may likely bring about more negative impacts than positive impacts as a result of devaluing the naira.

Although, some financial and economic analysts have praised the Monetary policy Committee (MPC) of the Central Bank of Nigeria for taking a bold step to devalue the naira, but the question still remains – has the government done enough to create the enabling environment for businesses to produce locally and achieve more foreign exchange?

Without a doubt, devaluation if properly managed can be used as a fiscal policy tool to discourage imports, achieve balance of payment as well as encourage and promote businesses, but Nigeria is not there yet, as most Small and Medium Scale Businesses still depend on goods and services from other countries to still be in business.

So in the end, according to Dr. Obida Wafure of the Economics Department, University of Abuja;

“The recent devaluation of naira by the Central Bank of Nigeria (CBN) will have positive and negative ripple effects on the economy. The negative effect is that it will increase the rate of importation and so many industries will be shut down as they will not afford to import some raw materials.

It will also lead to unemployment and lower the production capacity and thereby bring about inflation as the Growth Domestic Production (GDP) growth rate will fall. Our GDP growth rate is measured by the activities in the economy, so by the time inflation is going on, the economic activity of the country will fall.”

Naira Devaluation and the Nigerian Construction Industry

Obviously, judging from the above, the Nigerian construction industry is not going to be left out of the negative impacts of the naira devaluation. But just how much of a negative impact are we looking at here or should we be expecting as building contractors, developers and real estate professionals?

• Reduction in Government Construction Projects

Government is the highest source of construction projects and with the current naira devaluation due to global declining oil prices, government’s capital expenditure on construction projects will certainly reduce.

This is going to cut across all government levels; starting from federal, down to state and local. As a result, the expected contribution from the construction industry to the GDP will invariably fall as fewer construction projects will be commissioned.

• High Costs of Doing Business

The Nigerian construction industry is heavily dependent on foreign importation for the raw materials and equipments they use for construction. With a devalued naira, the cost of purchasing these raw materials and equipments will definitely increase.

The effect of the naira devaluation is already being felt by developers as the cost of construction has risen since most of the materials for construction are being imported from foreign countries such as China.

• High Costs of Housing and Properties

As a result of the high costs of doing business, property developers to remain profitable will have to pass on these additional costs incurred to the market. According to industry experts, the estimated rise in the costs of housing is 25% – 35%.

The effect of the naira devaluation would have been much milder if construction materials are produced locally thereby cutting down the cost of construction and in turn making properties more affordable for the average Nigerian.

• Rise in Interest Rate and Cost of Borrowing

Due to the capital intensive nature of the projects undertaken by construction companies, there’s always the possibility of external funding from banks to finance major projects. But with the recent naira devaluation, there’s bound to be a raise in the base lending rate making the cost of borrowing funds to escalate.

This is a corrective measure from the CBN to ensure the inflation caused by the naira devaluation will not further escalate due to more money in circulation. So to discourage more lending, they raise the base lending rate and increase the cost of borrowing.

 

• Low Employment Outlook for Construction Professionals

With lesser construction projects available to be undertaken by contractors as a result of the naira devaluation, the quantity of available jobs within the Nigerian construction space will reduce. In addition, to remain competitive, construction companies will also reduce their labour overhead in an attempt to reduce their cost of doing business.

Combining these two factors, the employment outlook for skilled professionals within the Nigerian construction industry will be very low. Further leading to the growing rate of unemployment in the economy.

• Increase in Construction Project Abandonment

With an increased cost of doing business, there’s bound to be major price fluctuations with construction projects which will negatively affect previous budgets. As discussed in my previous article, this is one of the reasons why many construction projects fail and are abandoned in Nigeria.

The naira devaluation will affect the prices of previously estimated budgets for ongoing construction projects. If this is not properly managed by the contractor, the resultant effect is an abandoned project.

Conclusion

I’m sure going through this article will seem more doom than good, well, these are just the harsh realities of the present economic situation we find ourselves in Nigeria.

However, there’s always a way out for every challenge if given proper thought and creativity. So watch out for the follow-up article where I will be sharing some insights on how to manage these negative impacts of the naira devaluation on the Nigerian Construction Industry.