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Why the CBN is cagy with lower interest rate 22 Nov 2017

CBN Governor Godwin Emefiele

The November 2017 meeting of CBN’s Monetary Policy Committee could have taken any of the three possible decisions – tighten, loosen or hold policy rates – with justification. With trend reduction in inflation becoming quite sluggish in recent months, the MPC could have opted for monetary tightening. This would help change the pace towards the target of single digit inflation rate in 2018.

This is a plausible pre-emptive action, in order to rein in self-fulfilling inflationary expectation, as the total fiscal spending the federal government plans for next year will reach N10 trillion. Whereas the CBN might be seen to be acting slightly ahead of the curve, it would have sent a strong signal on its commitment to price stability, in another electoral cycle when typically the liquidity tap is left running with reckless abandon.

But then, a decision to loosen monetary policy would seek to support current growth momentum. Following real GDP growth rate of 0.72 percent in Q2, which ended the recession, growth revved up to 1.4 percent in Q3. But with these GDP growth numbers well below the rate of population growth at 2.8 percent, the standard of living of average Nigerians is still growing worse.

Moreover, the story of Nigeria’s economic recovery so far has been dominated by higher oil prices this year, relative to 2016. But the oil revenue boon has made very weak impact in the manufacturing industry, and is more or less blunt across the non-oil sectors. The aggregate non-oil sector growth rate was a meagre 0.76 percent in Q3, compared to the oil sector at 25.89 percent. And given that the MPC noted that credit to the private sector had shrunk recently, the case for monetary loosening could not have been stronger.

However, the MPC decided to maintain status quo, leaving policy rates unchanged. This decision was anchored on making extant policies, which appear to have promoted the recovery and stability in the foreign exchange market, to continue to produce these effects.

Quite obviously, the MPC took the least ambitious decision, either in terms of achieving much lower inflation or supporting growth. This reflects the underbelly of extant suboptimal monetary policy, which embraces risk by not taking appropriate risks, and CBN that is cosy to the establishment.

It also shows the relapse to accustomed complacency when oil revenue climbs to decent levels. Therefore, we see the CBN that is not adept at fostering near-optimal production with its tools, but whose flush of pride is porous financial and exchange rate interventions.

The CBN harbours cynicism about the effectiveness of lower anchor interest rate – the Monetary Policy Rate (MPR). To be fair, this derives from marketplace reality of the behaviour of the banks with lending to the productive sectors and SMEs. But it nevertheless depicts an awkward situation whereby the tail is wagging the dog in monetary policy.

The CBN last cut interest rate in November 2015. In what was a major move, and the first rate cut in six years, the MPR was reduced from 13 percent to 11 percent. The CRR was also reduced by a whopping 500 basis points, from 25 percent to 20 percent. With this injecting additional N900 billion liquidity to the banks, the CBN said it wanted to enhance credit penetration to the “employment generation activities.”

Two months later, the subsequent MPC meeting retained this decision, stating that the banks needed some time to create the credit products for lending to the real sector and the SMEs. While the credit prescription to the bank is ordinarily problematic, but as I noted then, it was scandalous that Nigerian banks were not in a state of readiness to lend to the productive sectors. They have hardly been since then.

Partly because of disillusionment – as the CBN started to directly disburse intervention funds – and because inflation was picking pace, the MPC returned to a tightening cycle in March 2016 when it raised the MPR to 12 percent and the CRR to 22.5 percent. The MPR was further raised to 14 percent in July where it has since remained.

Unequivocally, high oil prices is the only effective intervention in the Nigerian economy. On price recovery, oil has practically singlehandedly pulled the economy out of the recession. Relatively high oil prices have boosted accretion to the foreign reserves. In tow, foreign portfolio flows, which partly exploit the high interest rate environment, have been steady. And the stock market is booming now. The CBN has been claiming credit for these.

But we have been here before. Between 2012 and 2014, Nigeria was an oasis of macroeconomic stability. The exchange rate was massively subsidised. And we all had a good time. With the reversion to the same old policy under new garbs, surely the naira will be ‘great’ again. But the party will end with the next oil price shock.

The critical question the November MPC meeting answered incorrectly was this: when is the right timing for economic policy adjustment? Oil-producing countries like Nigeria get the wake-up call to make their haphazard and half-hearted adjustments during a period of oil price downturn. As we experienced in the last two years, this timing is very awful from welfare stand point. The adjustments are forced when the economy, and the people, are least able to cope.

The MPC purports with its November decision that a recovery must take root before adjustments are made. This is fallacious. Precisely because of CBN’s own complacency, the economic rentiers would also like to enjoy the good time a bit longer. This mutual delusion only ends when another crisis occurs.

However, my hunch is that the outset of a growth cycle can be a great time to deepen economic reform and structural adjustment. The reasons are obvious. The ability to cushion the pains of adjustment is present at such a time, and expectations are moderate. Oil countries that have done well and have considerable reserves – usually in sovereign wealth funds – started very early after discovering the commodity.

According to Nigeria’s foremost market economist, Bismarck Rewane, the last MPC meeting outlined 11 reasons it could have loosened monetary policy and four reasons for tightening. Yet the MPC voted overwhelmingly to leave rates unchanged for only one reason.

Jide Akintunde is Managing Editor, Financial Nigeria, and Director, Nigeria Development and Finance Forum