Naira tumbles 23 percent after currency peg ends

Nigeria's naira slumped 23 percent against the dollar on Monday after the central bank removed its currency peg to alleviate chronic foreign currency shortages choking growth in Africa's biggest economy.

The central bank will hold a special auction later ion Monday to help reduce a mounting foreign exchange order backlogs and increase liquidity. Interbank trading will be extended by two hours until 4 p.m local (1500 GMT).

Bids submitted by banks prior to the auction ranged between 210-290 naira to the dollar, dealers said.

Monday's rate was sharply weaker than the 197 peg the central bank had been maintaining for the past 16 months, then abandoned last week in a bid to alleviate chronic forex shortages.

Black market currency dealers were quoting the naira in a spread between 325-345 naira to the dollar, up to 10 percent stronger than on Friday on expectations more forex liquidity on the interbank market would reduce demand on the street.

The central bank has said it may inject foreign exchange into the interbank market to boost liquidity.

"They have the room for discretionary FX interventions, and we don't know how active they are in the market today, so the next days will show where the real equilibrium is," said Jonas David, emerging markets specialist at UBS Wealth Management

"We should not be surprised by further weakening."

The central bank has said there is a $4 billion backlog of demand which could take 4 weeks to clear.

Non-deliverable forwards - contracts used to bet on future exchange rate moves - priced the naira at 295 per dollar in one-month's time after initially hitting its weakest level at 310.

The two-month contract < NGN2MNDFOR=> saw the naira at 304 per dollar while one year down the line < NGN1YNDFOR=> the naira was priced at 349.

Nigeria's central bank is "reasonably optimistic" the naira will settle at around 250 to the dollar after an initial period of weakness following a flotation, the bank's governor said in a June 3 letter to President Muhammadu Buhari.

ECONOMIC DOWNTURN

Foreign investors and economists had called for a naira devaluation for months as the forex shortages hit economic growth and led to widespread capital flight.

The central bank said last week it would abandon the peg in a "managed float". The median forecast from 10 analysts surveyed by Reuters suggests it will could trade on Monday as weak as 300 per dollar.

Nigeria's economy, which contracted by 0.4 percent in the first quarter, faces its worst crisis in decades after the decline in oil prices since 2014 and last year's introduction of a currency peg.

With a likely sharp fall for the naira, Nigerian products will become relatively cheap and imports more expensive, which should stimulate the domestic economy but will likely light a fire under already rising inflation.

"The new system should reduce the shortage of FX in the economy and - in the long run - reduce strains in the balance of payments by discouraging imports and boosting export competitiveness," Capital Economics' John Ashbourne said.

"But the new system certainly does not mark the end of Nigeria's economic problems."

The OPEC oil exporter had resisted devaluing its currency for more than a year despite other major oil producers, including Russia, Kazakhstan and Angola, allowing currencies to fall after crude prices collapsed.