Weighing Trade-off Between Growth and Stability



By Obinna Chima

The Central Bank of Nigeria (CBN) at its Monetary Policy Committee (MPC) meeting last week, decided to retain key policy tools, with the Monetary Policy Rate (MPR) still at 14 per cent, Cash Reserve Ratio (CRR) at 22.5 per cent, Liquidity Ratio at 30.00 per cent, and the asymmetric corridor at +200 and -500 basis points around the MPR.

The MPC’s decision has continued to attract reactions from experts. While some supported the decision by the central bank, saying monetary policy has reached its limit, some held the view that retaining a restrictive monetary policy stance might impede efforts by the fiscal authorities to reflate the economy.

The CBN Governor, Mr. Godwin Emefiele, while fielding questions from journalists after the meeting, explained that although changing rates might have some positive effects, various reasons were responsible for the retention of the policy rates.

“The MPC thinks that easing at this point would signal the committee’s sensitivity to growth and employment concerns by encouraging the flow of credit to the real economy. It would also promote policy consistency and credibility of its decisions.

“Also, the committee observed that easing at this time would reduce the cost of debt service, which is actually crowding out government expenditure.

“The risks to easing, however, would show in terms of upstaging the modest stability achieved in the foreign exchange market, the possible exit of foreign portfolio investors as well as a resurgence of inflation, following the intensified implementation of the 2017 budget in the course of the year.

“The committee also reasoned that easing would further pull the real interest rate down into negative territory,” he said, pointing out that the argument for holding was largely premised on the need to safeguard the stability achieved in the foreign exchange market, and to allow time for past policies to work through the economy.

“Specifically, the MPC considered the high banking system liquidity level, the need to continue to attract foreign investment inflow to support the foreign exchange market and economic activity, the expansive outlook for fiscal policy in the rest of the year, the prospective election related spending which could cause a jump in system liquidity, etc,” the governor explained.

He said the MPC welcomed the move by the fiscal authorities to engage the services of asset-tracing experts to investigate the tax payment status of 150 firms and individuals in an effort to close some of the loopholes in tax collection, in order to improve government revenue.

“However, the committee expressed concern about the slow implementation of the 2017 budget and called on the relevant authorities to ensure timely implementation, especially of the capital portion in order to realise the objectives of the Economic Recovery and Growth Plan (ERGP).

“The MPC believes that at this point, developments in the macro-economy suggest two policy options for the committee: to hold or to ease the stance of monetary policy,” he said, adding that available forecasts of key macroeconomic indicators point to a fragile economic recovery in the second quarter of the year.

“The committee cautioned that this recovery could relapse in a more protracted recession if strong and bold monetary and fiscal policies were not activated immediately to sustain it.

“Thus, the expected fiscal stimulus and non-oil federal receipts, as well as improvements in economy-wide non-oil exports, especially agriculture, manufacturing, services and light industries, all expected to drive the growth impetus for the rest of the year must be pursued relentlessly.

“The committee expects that timely implementation of the 2017 budget, improved management of foreign exchange, as well as the security gains across the country, especially in the Niger Delta and North-eastern axis, should be firmly anchored to enhance confidence and sustainability of economic recovery.”

Between Stability and Growth

To FXTM Research Analyst, Mr. Lukman Otunuga, Nigeria’s on-going mission to diversify away from oil reliance, as well as a sharp drop in oil prices, encouraged the CBN to maintain its key interest rates at 14 per cent.

According to Otunuga, although the nation still remains exposed to external risks, there has been optimism over the economic landscape stabilising, with the improving macro fundamentals fuelling speculations of a potential economic rebound by the end of 2017.

“Although CBN’s repeated intervention has played a significant role in the naira’s recovery against the dollar on the parallel exchange, confidence over Nigeria’s economic recovery continues to play a leading role.

“A potential economic rebound by year end and further signs of stability at home may prompt the Central Bank of Nigeria to cut interest rates in the medium to longer term,” he added.

To Afrinvest West Africa Limited, status quo was maintained on all key rates because the committee noted that recent gains recorded in the economic landscape remain fragile and could be disrupted if adequate fiscal and monetary policies are not implemented to complement the recovery.

“In our view, the decision was the most appropriate option open to the MPC in light of the fragile state of the economy despite the recent improvements in the forex market as well as general price levels.

“Given the broad consensus on the expected outcome of the meeting, the impact of the decisions across the various markets has been muted,” they added.

In the fixed income market, yields have remained elevated despite moderating headline inflation rate, and so the anticipation is that the CBN would likely keep financial system liquidity tight – via aggressive open market operations (OMO) auctions – in order to attract portfolio flows and maintain stability in the forex market.

“With only two MPC meetings left for the year, in September and November, there is an increasing likelihood that status quo would be maintained on all policy rates till the end of the year, given the fragile nature of the forex market rebound and negative inflation surprises in the past five months,” Afrinvest analysts added.

To London-based Chief Economist, Africa, Standard Chartered Bank, Razia Khan, there was little surprise in the decision of the MPC to keep all its key monetary rates unchanged.

She noted that although inflation had decelerated, the MPC commentary still suggested that it might be substantially due to a base effect, which may not be long-lasting.

According to Khan, what was noteworthy about the MPC outcome was: “First, the rhetoric around the economic recovery has changed very subtly. It is no longer seen as something that might happen on autopilot.

“Risks to the 2017 recovery are seen to be more substantial. There are on-going concerns about the weakness of financial intermediation.

“Fiscal stimulus is viewed by the MPC to be relatively untargeted. There are concerns about the scale of the FG deficit. Recovery will not be without its risks.

“Second, the unanimous ‘hold’ decision of the May MPC meeting has now given way to a 6-2 vote in favour of maintaining the current monetary policy stance.

“The debate on the MPC is growing, with at least two members seeing room for a more accommodative policy.

“Our base case remains for Nigeria’s policy rate to be kept on hold at 14 per cent through to the end of 2017, even as year-on-year inflation decelerates further.

“This will be necessary in order to support the nascent NAFEX forex regime, especially with the pledge to cap Nigeria’s oil output at 1.8million barrels per day.”

Khan observed that stabilising the economy requires on-going confidence in the availability of forex, saying that given external pressure, the only way to achieve this would be for a modest real tightening of the policy stance.

“In our view, the MPC was correct to avoid the temptation to ease policy prematurely,” she added.

The Director General of the West African Institute for Financial and Economic Management (WAIFEM), Prof. Akpan Ekpo, said the MPC did “the correct thing to have left the interest rate unchanged”.

According to Ekpo, “Right now, we are in a recession and monetary policy cannot do anything. What we need now is more of a fiscal stimulus and there should be no delay in policy implementation. We need structural reforms now.”

However, Ekpo advised that once the economy comes out of recession, the central bank should concentrate on using monetary policy to enhance growth instead of fighting inflation.

But the Chief Executive Officer of Financial Derivatives Company Limited, Mr.. Bismarck Rewane, expressed a contrary opinion, saying that what the MPC did was to maintain a tightened monetary policy stance at a time when the economy needs liquidity to stimulate activities.

Although Rewane acknowledged the risk of inflationary pressure, he argued that the MPC ought to be more audacious.

According to him, the MPC could have signalled its intention to start easing monetary policy by either reducing slightly the CRR or restrain its squeeze on liquidity.

“If you are dealing with protecting the naira, then maintaining the status quo would be considered to be an option. But if you really want to deal with growth, then there would have been the need to directionally show that you want to move in that direction.

“If you say you can’t do anything at this point, then at what point are you going to do something? Then there is no clarity on that,” he added.

Reacting to the comment by the WAIFEM boss that monetary policy has reached its limit, Rewane insisted: “But monetary policy cannot cannibalise fiscal policy.

“What you have now is that you are cannibalising fiscal policy. Fiscal policy should be growth oriented and pro-cyclical. The MPC decisions are counter-cyclical.

“So monetary policy cannot be counter-cyclical because what is needed as a stimulus to improve economic activities is a pro-cyclical stance.

“However, the central bank has said there are risks, and I agree. But there is a need for the central bank to be clear as to where must inflation get to before they start the easing process? We cannot be left in the air.

“So what they have done is to leave a certain amount of monetary policy uncertainty as to when the direction of interest rate would change.”

On their part, Lagos-based CSL Stockbrokers Limited, noted that things appear to be playing out in the CBN’s favour as far as exchange rates are concerned.

According to them, recent CBN’s policy have closed the gap between the official and parallel market, keep rates stable, and most importantly improve forex liquidity.

Access to foreign exchange by Nigerian banks has improved significantly since the introduction of new forex policies by the CBN in February this year.