CBN’s MPC in a thicket with little room to maneuver rates

By PHILLIP ISAKPA, MOSES OBAJEMU & CHARLES ABUEDE

The Central Bank of Nigeria (CBN), preparing for its Monetary Policy Committee meeting, which holds today, got hit hard on Friday when inflation for the month of June came home at 12.56 percent.

For five years the apex bank has failed to meet its own set inflationary band of between six and nine percent (6%-9%), but it appears not to really bother; nobody is holding it to account for five years of missing the target. But with tight liquidity in the banking system, many analysts think the CBN would have wished that inflation eased a bit to allow it room to maneuver on any of the monetary policy rates today.

As the MPC settles down to deliberate on a number of indices to help it decide whether to hold or tweak the rates, inflation has already gotten in the way, but many investors and stakeholders in the economy are still on the look out to see if there could be any surprises from the government’s banker.

Analysts were hoping for a further easing at this July meeting because in May when the last meeting was held, the MPC took a decision to cut the benchmark lending rates by a 100 basis points, from 13.5 percent to 12.5 percent on the back of challenges resulting from the COVID-19 pandemic, which it said it wanted to ease. It however left the Cash Reserve Ratio and Liquidity Ratio unchanged at 27.5 per cent and 30 per cent respectively.

Uche Uwaleke, professor of capital markets at Nasarawa State University and fellow of the Institute of Chartered Accountants of Nigeria (ICAN), told Business A.M. that he does not see the MPC cutting rates at this meeting.

“The status quo is likely to be maintained. The MPR may not be further reduced due to inflation rate that was 12.4% as of May. The NBS inflation figure for the month of June released on Friday indicates headline inflation rose by 12.56%. With inflation rate now above the MPR, real interest rate has turned negative and so, one should not expect any cut in MPR for now,” Uwaleke said in a note he sent in response to questions.

But it is the whole atmosphere surrounding inflation that makes any call by the MPC something to be handled with care.

Uwaleke said: “The recent increase in the pump price of fuel and the planned unification of exchange rates represent downside risk to inflation. A reduction in MPR even by 50 basis points from the current 12.5% will result in negative real interest rate which is inimical to capital inflows from foreign investors.

“A reduction in the Cash Reserve Requirement would have been ideal to free up liquidity for the DMBs[deposit money banks]. But the challenge will be its potential to put more pressure on the forex market and by extension on external reserves,” he explained the dilemma the MPC.

Kalu Aja, a financial planner and analyst, agrees with Uwaleke. He said the rates are likely to be left unchanged as a result of pressure from inflation figures as well as the weakening of the Nigerian naira in the exchange rate market. This, he said, is to enable the committee to keep watch of the global trends, which may pose economic uncertainties and consequently affect these parameters.

In a note to Business A.M. Aja wrote: “Central Banks across the world are cutting rates to boost capital investment which creates jobs. CBN faces a dilemma, and however, if rates are cut it could trigger more credit and thus inflation and put pressure on the naira exchange rate. I think these factors will weigh and rates may be left alone”

Should the committee be faced with a dilemma, coupled with pressure to cut rates further as a means to trigger more credit, the reactions from the market and other stakeholders may go either way – negative or positive. According to Aja, a downward review of the rates may be a weighing factor to investors’ perception of asset allocation in the fixed income market.

“I support a downward review of MPR but the MPR does not in my view impact the credit space especially the SME space because so few SMEs have traditional banking loans… That said, investors do follow the MPR to allow them to mark fixed-income securities to market, thus the MPR is more for the formal sector…a basis point or 1% will hardly move the needle on investors perception of allocation of assets back to equity or away from fixed-income securities,” Aja said.

What room is there for the MPC to maneuver? It seems very little to none. Lukman Otunuga, senior research analyst at FXTM in a note to Business A.M. stressed that the CBN inflation target of 6-9 percent for the past five years leaves it in a tight spot to ease monetary policy.

“Given how inflation has found comfort above the Central Bank of Nigeria’s target band of 6%-9% for over five years, there is little room for the CBN to ease monetary policy,” Otunuga said.

He revealed that a weaker naira, low oil prices and dollar shortages may further push the inflation rate high, which will in turn, mount pressure on the CBN to follow suit, the footsteps of other central banks globally into easing the monetary policy. Can this happen this week?

Uwaleke tells Business A.M. that the reality is that monetary policy tools have been stretched to their limits.

“The MPC can only advise the CBN to sustain and ensure the effective implementation of heterodox measures already introduced to strengthen the asset quality and financial soundness of the banking sector including the recent Global Standing Instruction, which will facilitate repayment of loans by bank customers leading to a reduction in non-performing loans and improvement in liquidity,” he said.

Uwaleke added that in order to support economic growth in a period of COVID-19, through increased credit to the real sectors, the MPC will also advise the CBN to maintain the Loan-to-Deposit Ratio of 65% for DMBs.

“I see the MPC commending the CBN for all its COVID-19 measures aimed at containing the economic impact of the crisis including the recent non-interest interventions in the agric value chain, textiles, healthcare, creative industries and SMEs in general. All these have the potential of positively impacting the capital market,” he further observed.

As the fear of inflation appears to be the beginning of wisdom in this monetary policy play, some analysts have offered that recent increases in inflation figures were caused by the border closures, as well as the weakening of the naira in the exchange market, another factor that will influence the MPC deliberations.

Aja explained that the tradeoff between inflation and lower rates are the main factor that might influence setting MPC rates; and he would like to see a stimulus by way of a lower MPR.

He, however, lauded the recent Global Standing Instruction (GSI) issued by the Central Bank of Nigeria, noting that it is a policy for Nigeria to address a uniquely Nigerian problem. “This policy looks to rescue banks that did not do the proper risk assessment,” he said.

Analysts expect that the MPC will be discussing and deciding on pressing issues affecting the economy, including the management of exchange rate, the health of the banking sector, foreign investment inflows and the macroeconomic environment.

The management and funding of the foreign exchange market is expected to dominate discussion as well as the rising inflation, economic stimulus for businesses, among other urgent economic issues.