CBN Cracks Down on Naira Overdrafts Secured by Foreign Currency Deposits
The Central Bank of Nigeria (CBN) has issued a stern directive to a commercial bank, ordering it to stop offering naira overdrafts that are backed by foreign currency deposits.
This practice, according to the CBN, poses a risk of currency mismatch and could create scarcity and pressure on the exchange rate.
The directive was contained in a confidential letter from the CBN to the bank, which was leaked to the public.
The letter, dated August 17, 2023, and signed by Mr. Haruna B. Mustafa, the Director of Banking Supervision, revealed that the CBN discovered this practice during a recent supervisory review.
The letter stated that some borrowers were using their foreign currency deposits as collateral to obtain loans in naira, rather than converting their dollars to naira.
The CBN said that this preference was likely due to the need to hedge against foreign currency spikes, which could be costlier than interest rates.
However, the CBN warned that this practice was not only fraught with the risk of currency mismatch, which could introduce substantial financial risks for banks, but also capable of limiting foreign exchange liquidity in the market.
The CBN said that rather than have the dollars secured as collateral, it would prefer the borrowers to sell them to create liquidity than to save them.
The letter read: “This practice is not only fraught with the risk of currency mismatch, but is capable of limiting FX liquidity in the market, thereby creating scarcity and exerting pressure on the exchange rate.”
The CBN also said that the bank’s actions contradicted its previous circular titled “Currency Substitution and Dollarization of the Nigerian Economy”. This circular was issued in 2015 to deter practices that might undermine the country’s economic stability.
The circular warned Nigerians against dollarizing the economy by pricing goods and services in foreign currency. It also advised deposit money banks to desist from collecting foreign currencies for payment of domestic transactions and using their customers’ domiciliary accounts for making payments for visible and invisible transactions.
The circular stated: “The general public is hereby warned that it is illegal to price or denominate the cost of any product or service (Visible or Invisible) in any foreign currency in Nigeria and no business offer or acceptance should be consummated in Nigeria in any currency other than the Naira.”
Consequently, deposit money banks operating in Nigeria are advised to desist from the collection of foreign currencies for payment of domestic transactions on behalf of their customers and the use of their customers’ domiciliary accounts for making payments for visible and invisible transactions (fees,charges, licenses e.t.c) originating and consummated in Nigeria.”
Following this discovery, the CBN directed the bank to stop offering naira overdrafts secured by foreign currency deposits immediately. The bank was also instructed to switch out the foreign currency collateral on existing overdrafts to other acceptable asset types within two weeks. Failure to comply would mean that the bank would have to unwind these facilities.
The letter read: “Consequently, your bank is hereby directed to cease granting FCY secured Naira overdrafts forthwith and immediately replace the FCY collateral on existing overdrafts with other acceptable asset types within two (2) weeks, failing which the facilities should be unwound without delay.”
The letter also demanded evidence of compliance from the bank by September 7, 2023.
This incident underscores the necessity of transparency in banking operations and the vigilant oversight of the CBN in ensuring adherence to its policies, especially as they aim to shield Nigeria’s economy from potential pitfalls.
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