#37 - The eNaira Project

Trying to contextualise the eNaira and understand its potential implications

Hi all - This is the 37th edition of Frontier Fintech. A big thanks to my regular readers and subscribers. To those who are yet to subscribe, hit the subscribe button below and share with your colleagues and friends. 🚀

Introduction

Nigeria’s Apex Bank recently pulled out of the public launch of the eNaira that was meant to coincide with the Nigerian Independence Day. The next launch date is yet to be announced but may likely happen in Q1 of 2022. Banks on the other hand have been working closely with the CBN to ensure that they are ready for the launch given that they are the main partners in the eNaira project. The eNaira is Nigeria’s Central Bank Digital Currency and will likely be the first in Africa. Other countries such as Bahamas and China have already launched their CBDCs whilst globally, different Central Banks are at various stages of their CBDC journeys from white papers to early testing.

Jamaica, Bahamas, Eastern Caribbean and Uruguay have all launched or completed their pilot programs. Here’s a global tracker of where different countries are in their CBDC journeys. 

Whenever you survey the coverage of the CBDC by Nigerian as well as international press, there’s an element of the classical line from Superman; “Look! Up in the Sky! It’s a bird! It’s a plane! It’s Superman!”. The coverage has been all over the place. Some coverage has been around the fact that the eNaira is a cryptocurrency or stablecoin. Other coverage has been around the idea that the eNaira will solve the existing currency devaluation issues that the country is facing by somehow powering remittances and of course, there’s been coverage around the impact of the banking sector and how the eNaira will disintermediate the financial system and thus drive fairer outcomes. With all this confusion, I thought it necessary to dive deep into the eNaira and build my own conclusions as to what the eNaira actually is, why it was necessitated and the likely impact on the Nigerian financial system. This is particularly relevant given the amount of money that’s been invested in the Nigerian fintech ecosystem.

First, it’s important to understand what the CBN has been up to for the last 10 years or so and maybe this will shed light on the rationale for the eNaira.

CBN and Financial Inclusion

Starting from around 2010, the Central Bank of Nigeria has paid close attention to driving financial inclusion in the country. At the time, the overall statistics around financial inclusion were not standing up well when compared to peers such as South Africa and Kenya. If the CBN drove financial inclusion, there would be improvements in key areas such as the depth of local savings, the ability to transact and participate in the economy and overall economic improvement measured both by GDP and the reduction in poverty levels.

As of 2010, only 36.3% of Adult Nigerians were formally included with over 46% of Nigerians being excluded. As regards exclusion, similar exclusion rates from South Africa and Kenya were 24% and 33% respectively. Kenya had a higher rate of informal exclusion which probably included Mobile Money providers. Through a set of targeted interventions, the CBN wanted to improve formal inclusion to 70% by 2020. These targeted interventions included;

1. Introducing tiered KYC to enable easier onboarding into the financial system for people who didn’t meet the existing formal identification requirements;

2. Developing a regulatory framework for Agency Banking;

3. Continued pursuance of mobile based payments system and cash-lite policies;

4. A host of other policies surrounding MSME credit schemes, consumer protection, financial literacy and agricultural finance policies particularly for small farmers;

As of 2020, the targets are yet to be met despite significant progress and innovation within the financial system. Formal financial inclusion according to Enhancing Financial Innovation and Access (EFinA) stood at 51%, quite far from the 70% target. At the same time, significant progress has been made in the Nigerian financial system such as;

1. Introduction of the Bank Verification Number (BVN) by the Nigerian Interbank Settlement System (NIBSS);

2. Introduction of Instant Payment System also by NIBSS;

3. Introduction of the Shared Agent Network Expansion Facility (SANEF);

Despite all these impressive measures, the targets are yet to be hit. This probably is based on a structural issue that should be solved by a change in the definition of formal inclusion, an acceptance of informal financial services into mainstream thinking or a deeper understanding of the structural issues around Nigeria’s economy. For instance, given the troubles in the North and the low income in some areas, is 70% inclusion even possible? In Kenya for instance, formal inclusion grew from 26% in 2006 to over 83% in 2019 largely driven by M-Pesa. 

Nigeria seems to have taken the stance of “Anything but Mobile Money” and the eNaira could be an off-shoot of this. The eNaira could be the CBN’s latest move in slaying the exclusion beast and there are significant implications based on how it’s designed and how it’s driven. 

One interesting story I’ve heard about the eNaira is the role of Ade Shonubi, currently a director at the CBN and one of the masterminds of the eNaira project. A technobanker like no other, Ade Shonubi cut his teeth managing IT and Operations across some of the largest banks in Nigeria. Thereafter he played a key role as the Managing Director of NIBBS from 2012 to 2018. In 2018, he was nominated to be a Deputy Governor of the CBN overseeing operations at the CBN. He has been the driving force behind a lot of the innovations such as the BVN and Instant Payments. Some say it’s because of a personal grudge against Interswitch which has had a stranglehold over payments in Nigeria through its transaction processing business and the Verve Card. Whether this is just hearsay or not, one thing I believe in is the power of people and ideas in driving transformational outcomes. Behind every great outcome is someone with the conviction to push through his ideas. 

What is a CBDC?

For a thorough primer on Central Bank Digital Currencies, read this older post of mine which does a decent job at breaking down what CBDC’s are. Driving the whole CBDC discussion is the issue around cash as a public good which enables every citizen in the country to participate in the economy. 

However, new modes of transacting are emerging such as stablecoins, private digital wallets and other fintech applications. These payment methods are novel and convenient, nonetheless they are potentially exclusive given that they are largely offered and managed by private entities. CBCD’s are meant to bridge this by offering digital legal tender to every citizen thus enabling citizens to transact in the modern era. It should mostly be seen as an appendage to existing payment systems rather than something that should override everything else. Additionally and importantly, CBDCs are digital cash and thus from a Central Bank perspective are considered base money or M0 and will be included in the Central Bank balance sheet in a similar category to cash.

Further, in terms of taxonomy, the money flower below enables one to contextualise what a CBDC is;

Source: Bank for International Settlements

CBDCs are meant to be widely accessible (retail based), digital and central bank issued currencies. Additionally they can either be token based or account based. In terms of design, the following are the core considerations;

1. Account or Token based - CBDCs can either be issued as accounts or wallets or they can be tokens issued by the Central Bank. These tokens can be attached to any wallet of your choice. There are serious considerations around both these design choices. If it’s token based, then the Central Bank will have to develop private key infrastructure and significant KYC capabilities. If it’s account based, there are considerations around their impact on the banking system. The eNaira seems to be account based where every Nigerian citizen, business and institution will have a wallet at the CBN;

2. Direct/Indirect distribution - If they are wallet based which they are; the Central Bank will have to figure out a distribution strategy. You can either distribute directly where wallets are held at the Central Bank or you could distribute indirectly where banks and other intermediaries are allowed to offer CBDC wallets. In Nigeria, the eNaira will be distributed directly by the CBN with banks playing the role of on-ramps and off-ramps into the eNaira system;

3. Interest bearing  - Central Banks could issue interest on CBDC holdings or they could be non-interest bearing. There are significant implications of paying interest to CBDC holdings in terms of monetary policy. In the case of the eNaira as well as the eCNY, both are considered M0 and thus won’t be interest bearing.

The diagram below shows how CBDC’s can coexist with other elements of the payments system.

On the left, the Central Bank will have a CBDC system that works through banks and other intermediaries to offer either tokens or accounts (wallets) to the general public of digital currency. This will live together with existing systems of traditional banking based on cash and account based payments or digital wallets which are backed by trust accounts held in the banking system.

Additionally, CBDCs are not necessarily cryptocurrencies. They are not decentralised ledgers that run on multiple nodes. If anything, they are centralised at the Central Bank. Therefore I don’t understand discussions around CBDCs and blockchains. Having said this, CBDCs can be built around smart contracts thus enabling programmability. However, my view is that programmability is best suited to token based CBDCs and not account based CBDCs.

The eNaira

Source: CBN eNaira Presentation

The diagram above from a presentation by the CBN on the eNaira gives the overall characteristics of the eNaira project. By its definition as a legal tender that has parity of value to the Naira and is non-interest bearing, one can see its role as base money (M0). Additionally, it’s clear that it’s an account based wallet and thus not a token with settlement finality. Onboarding will be based on the BVN as well as the National Identity Number which is being rolled out across the country.