February 21, 2012
Key highlights. The Composite Consumer Price Index which measures inflation rose significantly to 12.6% year-on-year in January 2012. (fig. 1) This figure is 2.2 percentage points higher than 10.3% recorded in the previous month. The monthly composite CPI rose significantly by 3.4 percent when compared with December 2011. The increase in the headline index was due to the partial removal of the subsidy on the Premium Motor Spirit (petrol). This triggered a spike in food and non-food items as a result of the increase in transportation costs.
Inflation expectation. Prior to the partial removal of fuel subsidy, it was expected that inflation rate would decline to a single digit figure in 2012 due to the continuous monetary contraction by the Central Bank of Nigeria (CBN) in 2011 when the monetary policy rate (MPR) was increased from 6.25% to 12% within one year. However, in our view, we project that inflation will rise to about 15 percent by the end of June 2012. We believe this will be induced by higher utilities, transport and food prices in response to the partial removal of fuel subsidy and expected increase in electricity tariffs in 2012. These items currently make up 16.7%, 6.5% and 50.7% respectively of the CPI basket and as such would significantly drive inflation higher. In view of the foregoing, we expect moderate increase in bond yields during this period.
Real rate remains positive. During the 2011 fiscal year, the Monetary Policy Committee (MPC) raised MPR six times in anticipation of upward inflationary pressures from the government’s expansionary budget. However, the benchmark rate was maintained at 12% in January 2012. In this regard, we note the monetary authority’s position not to respond directly to first-round shocks as a result of higher fuel prices, which would raise inflation rate higher than expected. We equally note that inflation rate now stands higher than MPR; however, real rate in the economy remains positive given the average yields on government bonds and treasuries are ahead of inflation by c. 260 and 314 basis points respectively. (fig. 2)
Hold, hold, hold. Regardless, we hold the view that MPR be maintained at current levels whilst other measures are employed to curtail the growing inflation rate. In our opinion, further increase in the benchmark rate will lead to a possible reversal of the growth of the domestic bond market and further stifle the flow of the long term funding to the real economy. At present, we note the current threat facing the bond market in Nigeria in view of the high rates obtainable in the money markets. A situation that was last seen in 2003, prior to the commencement of the domestic bond market.
In our opinion, Nigeria’s current economic situation calls for a more cohesive approach with respect to fiscal and monetary policies. Otherwise, we foresee a reversal of the economic gains of the past, which was driven in part by the development and growth in the financial markets.
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