Internationalisation of the naira, institutional reforms, and a common currency for the ECOWAS

Abstract

This study investigates the potential for internationalisation of the naira in the quest for a common West African currency, despite some weak institutional challenges attributed to Nigeria. We employed a two-stage currency internationalisation modelling approach, where the first stage estimates the model, and the second stage employs ‘counterfactual simulations’ to predict the trend in the currency ratio of the proposed currency for internationalisation (in this case, the naira). We also account for the ‘tipping effect’ and ‘network externalities’, as recommended in the literature. The results provide evidence that supports the ‘tipping effect’ and ‘network externalities’, which show that accounting for ‘network externalities’ may cause inconsistency in the results. Our simulation exercise shows that improvements in the financial and macroeconomic development levels are prerequisites for the internalisation of the naira in West Africa. The results of the policy simulation also show that the reserve ratio of the naira is consistently higher than that of the CFA franc, which indicates that the naira is a better reserve currency anchor for the proposed single currency in West Africa, compared with the CFA franc. This is also reinforced by evidence that the naira in its worst performing period is better than the CFA franc in its best performing period.