In line with our expectations, the eleven members of the Monetary Policy Committee (MPC) of the Central Bank of Nigeria (CBN) unanimously voted to retain all policy parameters: Monetary Policy Rate (MPR) at 13.5% with asymmetric corridor of +200bps/-500bps, Cash Reserve Ratio (CRR) at 22.5% and Liquidity Ratio (LR) at 30.0%. We observed that the Committee’s interest in easing monetary conditions strengthened relative to the previous meeting in May 2019. This shift reflects easy monetary conditions by central banks in advanced economies which is also already prompting rate cuts in emerging and frontier markets. For instance, the South Africa Reserve Bank (SARB) cut policy rate by 25bps to 6.5% in July 2019, the first reduction since March 2018. The MPC has adopted a wait-and-see approach on the impact of March’s rate cut and other measures taken by the CBN to spur credit before adjusting its policy rate. In our view, there is a need to go back to convention as the MPR tool is now merely symbolic, investors now look to the CBN’s liquidity management operations for guidance.
Conflicting Monetary Policy Objectives
The MPC’s decision not to tighten was driven by the need to support credit expansion, although the Committee cites price stability as the overarching policy objective. We believe this position is contradictory for two reasons. First, the committee fears that easing monetary policy could spur inflation; yet, easing is already in full gear in the financial market and the real economy. The latter is driven by the CBN’s introduction of a minimum floor of 60.0% for loan to deposit ratio by the end of Q3:2019 and the reduction in maximum deposits attracting interest at the Standing Deposit Facility Window to N2.0bn from N7.5bn in 2014. Secondly, headline inflation at 11.2% in June 2019 continues to run outside the upper limit of CBN’s inflation target of 9.0%. Although we believe inflation is driven by structural factors that make doing business difficult, there is empirical evidence from the CBN that monetary tightening could help to further rein in inflation.
We noticed that the pro-growth stance of the Committee continues to prompt the CBN’s development agenda through credit support to key sectors. Given that we believe that the administration of such schemes could be better, and that the impact was modest, the view by the MPC that credit intervention only has a short-run effect is slightly comforting. In the long run, we align with the Committee that fiscal policy is crucial to boosting and sustaining growth. However, the recommendation that fiscal buffers and higher revenue collection is required for fiscal policy to have a significant impact ignores that the CBN’s continued financing of more than half of FG’s budget deficits since 2015 limits urgency.
The Committee’s protectionist inclination also gained steam with the proposed introduction of milk to the list of items ineligible for foreign currency, although we note that FX demand management mainly reflects deteriorating external position. However, with external reserves of US$45.1bn covering 13 months of imports and the recent improvement in exports, the threat of this is low despite a current account deficit of -1.0% to GDP in Q1:2019. The implication of this policy, if introduced, is likely to be higher prices for consumer goods items requiring milk as inputs. With a high level of stunting at 44.0% in children under five, this decision would be concerning. On the CBN’s aggressive drive for credit expansion by the commercial banks through its recent policy pronouncements, we believe developing a credit scoring system as advised by the MPC could help reduce credit risk.
On the financial market front, we expect the activities of the Apex bank at the OMO and T-bills market to continue to provide interest rate guidance to investors. Meanwhile, current reading suggests that barring any upset in the recent downward trend in rate, bond market will remain attractive with activities in that space further pressuring yields lower in the near term.