Galvanising Liquidity to Boost Economic Growth

CBN Governor, Mr. Godwin Emefiele

All things being equal, the latest injection of funds into the economy following the reduction in monetary policy rate by the Central Bank of Nigeria should spur economic activities and ameliorate the impact of the COVID-19 pandemic in the country, reports James Emejo

In yet another surprise move, the Monetary Policy Committee of the Central Bank of Nigeria (CBN) recently took the bull by the horn and reduced the monetary policy rate (MPR) by 100 basis points to 11.5 per cent from 12.5 per cent.

It further adjusted the asymmetric corridor to +100/-700 basis points around the MPR from +200/-500 basis points.

The MPR is the rate at which the central bank lends to commercial banks and often determines the cost of funds in the economy.

However, no one had envisaged the cut given that the conditions that favour monetary easing were lacking especially inflation rate, which had climbed to 13.22 per cent in August.

Analysts had variously expressed concerns over a situation whereby inflation rate goes higher than MPR, highlighting its attendant implications for the economy including monetary tightening.

Analysts had before the MPC meeting predicted that the CBN was most likely to hold all monetary policy tools at their existing levels.

The last time the apex bank had tweaked the MPR was in May when it reduced the benchmark rate by 100 basis points, from 13.5 per cent to 12.5 per cent.

But addressing journalists at the two-day meeting of the MPC in Abuja, the CBN Governor, Mr. Godwin Emefiele, particularly attested to the fact that the resolve to slash interest rate was arrived at after tough considerations.

According to him, the MPC was confronted with a difficult set of policy choices, requiring trade-offs and sequencing amidst declining economic growth and rising inflation and bearing in mind its primary mandate of price stability and the need to support the recovery of output growth.

He said the committee was of the view easing policy stance would provide cheaper credit to improve aggregate demand, stimulate production, reduce unemployment and support the recovery of output growth.

It, however, observed that with inflation trending upwards, easing of the policy stance may exacerbate the current inflationary pressure through an increase in money supply.

In addition, the MPC noted the tendency of an asymmetric response to downward price adjustments by ‘Other Depository Corporations’, thus undermining the overall beneficial impact of a reduction to the cost of capital.

On the other hand, the committee noted that the likely action aimed to addressing the rise in domestic prices would have been to tighten the stance of policy, as this will not only moderate the upward pressure on prices, but will also attract fresh capital into the economy and improve the level of the external reserves.

The MPC also noted that a hold position will allow the economy to adjust to the ongoing stimulus measures put in place by the monetary and fiscal authorities to curb the downturn and allow more time for the MPC to assess their impact on the economy.

Emefiele, however, said: “After the consideration of the three policy options, Members were of the opinion that the option to loose will complement the bank’s commitment to sustain the trajectory of the economic recovery and reduce the negative impact of COVID-19.

“In addition, the liquidity injections are expected to stimulate credit expansion to the critically impacted sectors of the economy and offer impetus for output growth and economic recovery.”

According to the apex bank boss, the MPC had expressed deep concern on the continued uptick in inflation for the 12th consecutive month as headline inflation (year-on-year) rose to 13.22 per cent in August from 12.82 per cent in July.

The CBN noted that the increase in headline inflation was largely driven by the persistent increase in the food component, which rose to 16.00 per cent in August 2020 from 15.48 per cent in July 2020.

It noted that the upticks were driven primarily by legacy structural factors such as the inadequate state of critical infrastructure and broad-based security challenges across the country, which dampened production activities.

Other factors include the disruptions to supply chains following restrictions to movement to curb the spread of the pandemic, adverse weather conditions, which resulted in flooding of farmlands as well as the inflation pass-through to domestic prices following the depreciation in the exchange rate.

However, analysts have continued to react to the interest rate cut, highlighting its implications for the economy.

In an interview with THISDAY, Managing Director/Chief Executive, Credent Investment Managers Limited, Mr. Ibrahim Shelling, said the MPR cut will among other things allow the banks to lend at cheaper rate to customers.

He said: “The CBN contractionary policies have been unable to curb that inflation. Monetary policy is more effective in curbing demand pull inflation – that is- too much money chasing few goods.

“By reducing interest rates it allows more liquidity in the system. Banks are able to lend at cheaper rates and this in turn will stimulate production and growth. Certainly, the reduction in the MPR came as a surprise as many expected the CBN to maintain its stance.”

Shelling further argued that a high interest regime was inimical to the country’s growth aspiration.

He said: “However, it has been rather obvious for some time that monetary policy alone cannot be used to tackle the inflationary figures. This is because inflation in Nigeria is caused by structural issues and as such is cost-push in nature. Increase in electricity, fuel, increased tax and devaluation have been the main drivers increasing inflation.

“In my opinion the MPR rate needs to be further reduced to single digits. We no longer need to be attracting hot foreign portfolio investors with our attractive rates. We need growth and a high interest environment is detrimental to growth.

“However, without the structural issues being addressed, the effects of this reduction in MPR may still not be far reaching. MSMEs will still face a myriad of structural challenges that hamper their growth.”

Also, an economist, who spoke under conditions of anonymity, urged the fiscal authorities to complement the CBN rate cut by articulating more strategies towards ease of doing business in the areas of improved infrastructure and avoidance of multiple taxation.

He said: “The decision came notwithstanding the continuous rise in headline inflation. The committee believes the current uptrend in consumer prices is not a result of monetary factors, but cost push factors. This has shown that going forward, CBN will be focused more on growth than fighting inflation.

The committee’s rate cut decision surprised most analysts as earlier rate cut is yet to transmit to significant improvements in growth. There is therefore the need for fiscal authorities to complement that effort by articulating more strategies towards ease of doing business like improved infrastructure and avoidance of multiple taxation. With the rate cut, savings rate will come down and Deposit money banks will be discouraged from investing in CBN’s standing deposit facility, thereby encouraging them to lend to more to real sector and support growth and employment. Rate cut will also support cheap borrowing/ growth, but at same time disincentivise investment in fixed income market due to negative interest rate. This may impact negatively on foreign exchange market stability especially given the huge demand/ supply gap.

Further commenting on the development, Professor of Finance and Capital Markets at Nasarawa State University, Prof. Uche Uwaleke, however expressed concern that from empirical studies, the reduction in MPR “hardly translates to a reduction in lending rates.”

He said: “I had expected the status quo to be maintained against the backdrop of rising inflation and pressure in the forex market. By lowering the MPR by 100 basis points, the real rate of return has been dragged further into the negative territory which is likely to affect capital inflows adversely.

“In reducing the MPR, the MPC must have been emboldened by the recent marginal accretion to reserves as well as the approaching harvest season which is expected to rein-in food inflation.”

He said: “But the reality is that with foreign investors exiting the country following COVID-19, except crude oil price recovers substantially, I see further pressure in the forex market. If you notice, the gap between the AFEX rate and the parallel market has begun to widen following increasing demand on the back of resumption in International flights.

“Also, given that a lot of cost-push factors are responsible for inflationary pressure including the increase in VAT, hike in electricity tariffs and pump price of fuel, I see headline inflation worsening given all the downside risks. From experience, a reduction in MPR has little or no impact on economic growth due to poor transmission mechanism.”

According to the former Imo State commissioner of finance, “Deposit Money Banks hardly reciprocate this gesture through a commensurate reduction in interest rate due to several other costs borne by financial institutions arising from infrastructure deficit especially power and insecurity. So, empirical studies in Nigeria have shown that a cut in MPR hardly translates to a reduction in lending rates.

“I recognise that a number of Central Banks have cut rates in response to the pandemic. But most of them have done so because inflation rate was within the target range. In the case of Nigeria, where inflation rate of 13.2per cent is well above the CBN’s upper band of 9per cent, cutting the MPR in a season of rising inflation and forex market pressure may not be a wise decision.

“The CBN has been supporting economic growth in the last few years using more of unconventional measures in line with its developmental function. The MPC could have advised the CBN to strengthen and possibly scale up its interventions in the various sectors of the economy which in my view would have been a more effective way to stimulate the economy.”

Uwaleke said: “While I support a reduction in both the Standing Deposit and Standing Lending rates following the adjustment in the asymmetric corridor, it is my submission that any support to economic growth at this critical time from the CBN is better achieved through heterodox measures.

“Even in the US noted for dual monetary policy objectives of price stability and full employment, the Federal Reserve can only lend a supporting hand to the government. All said, the fiscal authorities (government at all levels) should be on the driving seat with respect to economic growth and development. The reality is that there is a limit to what the CBN can do in this regard.”

Also speaking on the interest rate reduction, former Director General of the Abuja Chamber of Commerce and Industry (ACCI), Dr. Chijioke Ekechukwu, urged the apex bank to put a cap on both lending and borrowing rates so Nigerians can feel the impact of the recent cut in MPR.

He said: “CBN has been on a course of reducing interest rates of deposit money banks using both moral suasion and MPR. Unfortunately, the inflation rate has been on a continuous upward movement since the beginning of the year due partly to another monetary policy tool, the high exchange rate.

“The further reduction of the MPR was basically for CBN to avoid approbating and reprobating itself by using one monetary policy tool of MPR to retrogress its effort of reducing interest rate.

“The 100 basis point will not make any significant change in interest rates of banks. CBN should as a matter of urgency therefore, having achieved a very low deposit rate for banks, put a cap of say, not more than 3 per cent spread between borrowing rates and lending rates. By so doing, the impact of its efforts to reduce interest rate will be felt and enjoyed by the Nigerian business public.”

On his part, an Associate Professor of Agricultural Economics at University of Port Harcourt, Anthony Onoja said the interest rate cut was timely as this could stimulate the economy and provide cheaper credit to SMEs which are critical for economic recovery and growth.

He said: “The reduction of the MPR from 12.5 per cent to 11.5 per cent by the Monetary Policy Committee is a welcome and timely development. This is because with the negative impact of the COVID-19 pandemic there is a dire need to stimulate the economy by bringing down the cost of borrowing by the small and medium scale enterprises (SMEs) in the economy.

“Hence it is implied that the reduction of the MPR will signal the commercial and development banks to reduce their cost of lending to customers especially the SMEs who will utilise borrowed funds to revive their businesses.

“The business start-ups too will also be motivated to raise equity at a less costly rate from the banks. This can result in employment generation, improved GDP and stimulation of aggregate demand in the economy.”

Amid criticisms, Emefiele had continued to silence critics of his monetary policy interventions as well as vowed to continue to use unorthodox methods where necessary to achieve positive results and salvage the economy.