Since the Central Bank of Nigeria (CBN) raised the benchmark for interest rate from 12 to 14 per cent at the last Monetary Policy Committee (MPC) meeting, the decision has been generating criticisms from the industrial and political circles. But to financial sector analysts, the economy is better-off with lower inflation rate, improved foreign capital inflows and stable naira, which are the apex bank’s targets. The bank believes its tightening policy will have minimal impact on growth, writes COLLINS NWEZE.
Interest rate is the price that consumers of money pay and is at the prerogative of the Central Bank of Nigeria (CBN) to determine it without external interference.
The independence of the apex bank in global economies is sacrosanct. And it remains the exclusive right to determine interest rate and monetary policy directions of the country.
Basically, it remains part of investors’ confidence to see that the CBN has substantial autonomy, especially at a time the country is in dire need of Foreign Direct Investments (FDIs).
The Monetary Policy Committee (MPC) met on July 25 and 26 to review the fragile global and domestic economic and financial conditions during which the Monetary Policy Rate (MPR), which is the benchmark interest rate was adjusted from 12 to 14 per cent. The CBN’s argument for that decision was that the objective of price stability was preeminent and there was a need to keep inflation expectation lower.
The MPC evaluated the global and domestic macroeconomic and financial developments in the first six months of and the outlook for the year’s second half.
It noted that most of the conditions undermining domestic output growth were outside its purview. It nonetheless, hopes that the deregulation in the downstream petroleum sector and the liberalisation of the foreign exchange market would help bring about the much-needed relief to the economy.
The MPC noted that the level of money market interest rates largely reflected the liquidity situation in the banking system during the period under review. The average inter-bank call rate, which stood at 20 per cent on June 17, closed at 50 per cent on July 15. The increase was attributed in part to the newly introduced foreign exchange framework and the mop-up of naira liquidity due to increased sale of foreign exchange (forex) by the CBN.
Considering the high inflationary trend which has culminated into negative real interest rates in the economy; the MPC noted that it was discouraging to savings. Members of the committee also noted that the negative real interest rates did not support the recent flexible forex market as foreign investors attitude had remained lukewarm, showing unwillingness in bringing in new capital under the circumstance.
The members further noted that there existed a substantial amount of international capital in negative yielding investments globally and Nigeria stood a chance of attracting such investments with sound macroeconomic policies.
They consequently concluded that an upward adjustment in interest rates will, besides confirming the bank’s commitment to price stability, also shows its desire to gradually achieve positive real interest rates. Such a decision, it was argued, gives impetus for improving the liquidity of the forex market and the urgent need to deepen the market to ensure self-sustainability. They believed interest rate hike would boost manufacturing and industrial output, thereby stimulating the desired growth in the local economy.
The members therefore increased the MPR, which is the benchmark interest rate by 200 basis points from 12 to 14 per cent. That singular decision has earned the CBN strong criticisms from the political, legislative and real sector operators.
Faulting the CBN decision, Kaduna State Governor Nasir el-Rufai warned that the government might be forced to intervene and reduce the MPR through legislation.
El-Rufai, who spoke at a forum organised in Abuja by Women in Business, a non-profit making women advocacy organisation, said that the high interest rate prescribed by the apex bank was one of the major reasons for the massive job losses across the country.
He explained that while inflation in the United Kingdom (UK) was between seven and eight per cent, the lending rate was about one per cent, insisting that the theory that the rate of interest must always be above the inflation rate did make sense, noting that the country could always decide the interest rate that would stimulate business activities.
He said: “Only traders and drug dealers can make money at this interest rate. I have said it before and I will repeat it again, unless the central bank and the banking system make a conscious decision to bring interest rate down, one day we would legislate on it.”
But the Director-General of the Lagos Chamber of Commerce and Industry, Muda Yusuf, disagreed with the governor, saying that nobody can force the CBN to cut interest rate.
“Making political statement to force CBN to cut interest rate is not right. The CBN can be persuaded using logical arguments on why lending rate should be lower,” Yusuf said.
The LCCI chief urged the government to bring down the cost at which it borrows through Federal Government of Nigeria (FGN) Bonds and T-Bills.
Agreeing that the inflation rate was worrisome, he said manufacturers were already facing huge burden especially with the high energy costs.
“I think the CBN wants to bring inflation down. We cannot determine exchange rate but when it comes to monetary policy; it is the prerogative of the CBN. It is the CBN’s role to fix interest rate and it must be allowed to do so,” he said.
Also, former Executive Director, Keystone Bank Limited, Richard Obire, said the apex bank of every country should be independent because foreign investors look at the monetary policy of the central bank in making investment decisions.
Obire said: “It is part of investors’ confidence to see that the CBN has substantial autonomy. If the independence of the CBN is threatened, it will send the wrong signal to the investment community. It indicates that monetary policy is dictated by those close to government. However, people can voice their opinions on whether the interest rate is high or low, but cannot force the hand of the CBN on what decision to take.”
According to him, the interest rate in the country is in reality, high, explaining that interest rate is the price that consumers of money pay.
He said: “Consumers of money are those who borrow for industrial consumption, to buy equipment, land and other production materials to sustain productive activities within the economy.
“If the interest rate is too high, as it is in Nigeria, then productive agents will not be able to produce. But when inflation rises, the CBN will raise the price of accessing money to moderate the inflation pressure.”
He said the government should give priority to agriculture and domestic production loans, with such loans accessed at single-digit interest rate while luxury items should get loans at market prices.
“In every economy, there are borrowers and savers. I think the CBN is also trying to ensure that there is incentive for savers. By raising interest rate, the CBN wants interest rate to be positive for savers,” he said.
The rise in inflation rate, Obire said, was caused by the devaluation of the naira, impact of fuel price hike, electricity and diesel, among others. It has however, made more money available to the government, which should be spent to reflate the economy.
In the same vein, the House of Representatives has called for the establishment of Financial Services Commission (FSC) comprising of the monetary and fiscal authorities just as it called for the review of high interest rate.
The Chairman of the House Committee on Banking and Currency, Jones Onyereri, who made the appeal at the end of the committee’s oversight visit to the Lagos Office of the CBN, said the the FSC establishment became imperative to reduce high interest rate on government securities and reduce domestic borrowing.
Onyereri stated: “That is why we advise CBN to work with the Ministry of Finance to find a way of reducing the level of domestic borrowing. I think that would also help in respect to the reduction in the interest rate. I think they should be able to work out all these and that to improve our economy.”
The committee also expressed worries over the impact of the hike in the MPR on the Small and Medium Enterprises SMEs).
Onyereri said: “We were a little bit worried because of the increase in the MPR. We believe as a committee that that was not the best of decisions. But having heard from the CBN, we still want to tinker on what led them to come out with that decision because, for us, we were looking at the bigger picture of still trying to grow the SMEs and the only way to grow the SMEs is to make credit accessible to them.
“But making credit accessible to them will not work out with very high interest rate. But we believe along the line, we will be able to create a perfect balance.”
CBN’s policy direction
Although tight monetary policy stance has remained largely predominant since November 2011, with MPR hovering between 11 and 14 per cent, the recent policy thrust of the CBN suggests the aggressive nature of tightening for which a number of criticisms have been generated from trade and industrial circles as well as the political sphere.
Besides, shorter term rates in the secondary fixed income market have adjusted upward to 15.7 per cent on the average from below 12 per cent in May 2016 with discount yields on 364-day T-bills instrument trading as high as 18 per cent.
From June, N1.3 trillion has been mopped up via Open Market Operation (OMO) auctions by the CBN, reports from Afrinvest West Africa Limited, an investment and research firm confirmed.
The figure was N40 billion short of total value of auctions all through the first half of 2016, and was in line with the apex bank’s aggressive effort to push interest rates higher and attract foreign capitals namely Foreign Portfolio Investment (FPI) and FDI into the economy. Such foreign capital was expected to reduce external sector pressures and support the stability of the domestic economy.
Managing Director, Afrinvest West Africa Limited, Ike Chioke, explained that for operators in the manufacturing sector, having been on the receiving end of a weakened consumer spending power and forex shortages constraining demand and stifling profitability, the prospect of a tighter monetary policy and its consequences on borrowing cost and consumer spending decisions have worsened the challenges facing the sector.
The industrial sector is already in a five-quarter long recession. Manufacturing Purchasing Managers’ Index (PMI) has been below 50 points – the threshold separating activity expansion from contraction – since the beginning of the year.
Yet, yields (15 per cent) at the shorter end of the sovereign yield curve prior to the July MPC meeting were already reading above core inflation (policy preferred measure of price changes) which was 13.3 per cent in June.
Nigeria’s headline inflation increased by 16.5 per cent in June from 15.6 per cent in May, as the rate continued to rise for the fifth consecutive month.
The National Bureau of Statistics attributed the 0.9 per cent increase to a rise in energy costs, imported food items and related products.
During the period under review, the food index rose at a faster rate of 1.4 per cent, month-on-month due to increase in the prices of meat, vegetables and cereals.
Chioke believes that many of the factors driving inflation are structural and could moderate next year on base effect. Nonetheless, two arguments could still be made to justify the aggressive tightening.
He also thinks that the objective of stabilising rates in the forex market and closing the spread between interbank and parallel rates are yet to be achieved since the move to a liberalised naira system began.
At the Interbank spot market, the naira closed at N316.55/$1 on August 19, 20.3 per cent discounts to parallel market rates and also higher than 12-month T-bills discount yield of 18.1 per cent.
To him, the implication is that the naira could be sold in the spot market to earn a better return relative to risk free assets such as T-Bills. This suggests two things – it is either the exchange rate has not been appropriately priced in the interbank market, or that the interest rate does not compensate for exchange rate risk.
Chioke said: “The CBN appears to be comfortable with the second explanation hence the gravitation towards aggressive liquidity tightening to force shorter term rates higher and attract foreign capital.
“To compensate for the forex risk, the CBN’s forex futures contracts are being priced below market rate while the apex bank continues to intervene in the forex spot market to guide naira trading band.
“Despite the negative impact of higher interest rate on consumer and real sector investment decisions, the economy appears to be a lot more sensitive to forex stability than it is to increase in interest rate.
“The robust Gross Domestic Product (GDP) growth figures recorded in the last era of aggressive policy tightening between 2011 and 2012 further supports this. This explains the willingness of the CBN to go for tightening policy to attract portfolio inflow, with the expectation that feedback on growth will be limited.”
He noted that engendering investor’s confidence in the economy by coordinated and consistent fiscal and monetary actions is much more important in ensuring a fair pricing of exchange rate.
Chioke said: “The monetary policy might however remain tight in the shorter term but we expect a more accommodative regime before second half of next year.
T-Bills rate/naira exchange rate
Investors continue to display higher appetite for shorter term treasury instruments due to higher attractive yields relative to longer tenured instruments. Average T-bills rate opened last week at 17 per cent, rose as high as 17.7 per cent but eventually closed the week at 18.1 per cent.
The exchange rate remained pressured last week amid liquidity constraint. At the interbank, the exchange rate hovered around N317.50 to the dollar while in the parallel market, the exchange rate closed flat week-on-week at N397 to dollar.
In the futures market, the Over-the Counter Forex Futures contract calendar as at last Friday showed the value of open contracts at $2.2 billion from $1.7 billion in the previous week. The April 26 2017 futures instrument remains the most subscribed with the value of open contracts settling at $706.25 million, currently trading at N260.
Analysts insist that the foreign exchange market will remain pressured in the interim, especially at the parallel market, until sizeable amount of forex flow into the system.
But in furtherance of its efforts to improve activities in the currency market, the CBN had last week, increased the sale of forex to a single Bureau De Change operator from $30,000 a week to $50,000, but market is expected to remain driven by the dynamics of demand and supply this week.
