November 16, 2017 4:20 PM /Meristem
The Monetary Policy Committee (MPC) will be holding its last meeting for the year on the 20th and 21st of November 2017. The Committee will review amongst others, the current state of the global economy as well as changes in key macroeconomic indicators in the local economy in order to determine policy directions for key monetary variables in the near term.
Amongst other recent events, we anticipate the Committee will consider the impacts of capital spending in the proposed 2018 Appropriation Bill, the recent political upheavals in Saudi Arabia and its impact on the price of crude oil and the impact of the recent downgrade of the country’s sovereign rating by Moody’s on fiscal policy in 2018.
In this report, we review developments and uncertainties across the global economy while focusing our searchlight on economic events in the local space in order to shape our expectations for the MPC’s meeting.
While we observe the improvements in some economic indicators such as external reserves, FX liquidity, inflation rate amongst others, the economy still remains in a fragile state of recovery. A change in the current stance may therefore distort the gains achieved thus far. We therefore expect the MPC to maintain rate at the current level.
International Economies and Developments
Advanced Economies Post Steady Growth
The notable growth seen in 2017 is far-reaching, from the advanced economies through to the emerging markets. Considering the pickup in the global economy so far, the IMF, in its October World Economic Outlook (WEO), reviewed its 2017 growth estimate to 3.6%. This is stronger than its previous projection of 3.5% in April 2017. The upward revision ensued from the stronger-than-expected uptick seen in the advanced economies such as the Euro Area, Japan and Canada as well as sturdier growth prospects in the emerging and advanced economies especially China, Turkey, Russia and Brazil. Growths along these economies remain spurred by stronger demand levels. Despite the positive signals, global growth however remains marked down in the medium term as a result of policy uncertainty in the United States, tighter financing conditions across the advanced economies and geopolitical tensions amongst several drags.
Bank of England Hikes Rate after 10 years
Since the last MPC meeting, apex banks across the globe have utilized varied strategies in their bid to achieve their respective growth and inflation targets. While the Bank of England hiked its policy rate for the first time in 10 years to 0.50% due to what was described as the economy’s growth rate exceeding its “speed limit”, rising headline inflation and a weakening currency, the European Central Bank, Bank of Japan and the US Federal Reserve resolved to hold rates as they opt to drive inflation up to their targets.
In the United States, the Federal Reserve Committee also commenced their balance sheet normalization strategy in October. The strategy has been implemented to ensure that interest rate remains a viable tool in controlling inflation. We note that the Fed has reiterated the likelihood of one more rate hike before the end of the year.
While we anticipate the next rate hike in the US, we note that the Monetary Policy Committee would note the impact of this along with BoE’s rate hike on capital inflow to Nigeria. Although we rule out the possibility of a rate cut in this regard, we note that a rate hike though attractive, will heighten the country’s already heavy debt burden. Consequently, we posit that the MPC would maintain rate at the current level in its bid to sustain the current growth in capital inflow without upsetting other economic variables.
Improvement in Oil Production to Strengthen Growth in GDP
The National Bureau of Statistics is expected to release the Q3:2017 GDP report on the 20th of November 2017. Following an improvement in macroeconomic conditions during the period, we expect the quarter’s growth to consolidate on gains achieved thus far. We envisage an improvement in the oil sector’s contribution to GDP following the increase recorded in oil production levels alongside the relatively high oil price environment.
We note an improvement in manufacturing activities in the period, as the PMI for the month of July to September averaged c.54.33 higher than the Q2:2017 average of 52.17. Also, the various interventions by the Federal Government are expected to drive growth in the agricultural sector. Hence we envisage an uptick in the growth of the non-oil sector.
We however note that the economy still remains in a fragile state of growth and as such a decision to hold rate may be deemed more appropriate in achieving improved stability in key macroeconomic indicators.
Rising Food Prices Pressure Headline Inflation
Representing the 9th consecutive decline witnessed in the year, inflation rate waned by 15.91% in October 2017, down marginally by 0.03% from the figure reported in August 2017 (16.01%). The decline in general price levels alongside the weakening base effect has contributed to the decline in inflation rate observed in the period.
On the other hand, the aftermath of the flood in the North Central alongside lower production levels resulting from insurgency in the North East, has kept food prices elevated in the year thus far. Consequently the food sub-index which has advanced significantly in the year (20.31% as at October 2017) has pressured headline inflation thus moderating the impact of the declines recorded in the core sub-index (12.14% as at October 2017).
We expect the headline inflation rate to remain pressured as the upward trend on food prices is expected to be sustained given the prevailing factors impacting on supply alongside the upcoming festive period. A loosening stance may therefore exacerbate inflationary pressures, hence, we expect the MPC to maintain status quo.
FGN Projects 30% Revenue Increase
In the 2018 Budget presentation speech, the President restated the resolution of the present government to sustain its reflationary policies as witnessed in the past two budgets. Consequently the budget proposal shows an increase in total estimated expenditure by 16% to NGN8.612trn from NGN7.441trn in 2017. In the same vein, projected revenue is pegged at NGN6.607trn, showing a 30% increase from the 2017 budgeted revenue.
Capital expenditure which accounts for 30.08% of the total projected expenses is expected to fund critical infrastructure in Power, Works and Housing (NGN555.88bn), Transport (NGN263.16bn), Special Intervention Programmes (NGN150bn), Defense (NGN145bn), Agriculture and Rural Development (NGN118.9bn), amongst others.
Consequently, a deficit of NGN2.005trn is projected to be financed partly by total borrowing in the tune of NGN1.699trn while the balance of NGN306bn is to be financed from the proceeds of privatization of non-oil assets.
The proposed budget of consolidation has been designed in conformity with the Economic Recovery and Growth Plan to stimulate further economic growth and investment activities. While we rule out the option of a rate hike, as this would increase the cost of borrowing and may stifle the budget implementation; we also note that a downward review of the MPR may affect foreign capital inflow. Hence, we expect the MPC to hold rate at 14% to avoid weakening the significant milestones that have been achieved towards stabilizing macroeconomic growth within the year.
Moody’s Downgrades the Nigerian Government’s Credit Rating
Moody’s recently downgraded the Government of Nigeria's long-term issuer and senior unsecured debt rating from B1 to B2. The authorities highlighted that amid the high interest payments relative to revenue, the downgrades ensued from an unsuccessful implementation of the economy’s revenue diversification strategy, which has left the economy more exposed to economic and financial shocks.
Following the review, the credit agency stated that a further downgrade would be prompted by increasing debt levels which are unmatched by rising asset sizes. However, an upward review could be attained if the economy’s revenue base is broadened and the economy can build a sufficient financial buffer against oil price and production volatility.
Earlier on this year however, the government had cited that it would like to restructure most of its domestic debt through external borrowings. It also reinforced its position in its 2018 proposed budget, where it proposed to fund 50% of its budget deficits through external funding.
We opine that the successful implementation of the government debt strategy would be pressured by the downgrade. We also note that the Committee’s decision as regards the MPR plays a key role in determining the yield that would be demanded on Eurobonds raised. While we rule out the possibility of a hike in rates as we posit that the CBN would consider its impact on existing and forthcoming interest payments, we are also of the view that a drop in rates may offset the attractiveness of the present yield environment which has facilitated the economy’s ability to finance capital expenditure needed to broaden the economy’s revenue base.
Politics and Security
Improved Political Climate to Support Growth
During the period, we note the government’s intensified efforts at reducing security threats following the recovery of some territories from the Boko Haram insurgents. Also, clamors for secession by the Independent people of Biafra (IPOB) were slightly abated as sustained protests and threatening statements made by the group attracted military actions to forestall a looming civil war.
The threats from the Niger Delta region has however resurfaced as the Niger delta avengers ended the cease fire agreement with the Federal Government. The group had stated that the FG had not lived up to its promises to the region and would resume hostilities. The group’s action is known to have cut Nigeria’s oil production from 2.2MMbpd to C.1.3MMbpd in 2016. We however note that the current government’s fight against insurgency may curtail this new development.
On the political front, the whistle blowing policy gained increased advocacy as more efforts were made at recovering loots.
We expect a relatively calm political climate for the rest of the year to impact positively on the economy’s journey to full recovery.
Credit to Government Wanes by 15.31%
Broad money (M2) declined by 1.09% between July and September 2017 owing to the 2.81% decline in demand deposits as bank customers lean towards higher interest yielding investments in the fixed income environment. Similarly, M2 was further dragged by the total currency outside banks which recorded a decline of 0.47% during the period. In contrast, quasi money which includes highly liquid assets advanced by 0.13% to NGN11.89tn in the same period. Currency in circulation however advanced by 0.64%
Also, Net Domestic Credit declined by 3.74% between July and September on the back of a 15.31% decline in credit to the government and a 0.68% decline in credit to the private sector. We expect credit to the private sector to remain subdued in the near term as long as the yield environment remains attractive.
MPR vs. MM Rates
Since the last MPC meeting, average money market rate pared by 15.38% to close at 10.75% on November 15, 2017, as both the OBB and OVN rates declined by 13.67% and 17.08% respectively.
We note that there was a continuous management in system liquidity, as the CBN intervened in the interbank market through OMO and Treasury bills auctions. Furthermore, we noted that during the period, the NIBOR rates trended downward across all tenors with the average NIBOR rate closing at 18.58%. On the back the regular CBN interventions, we expect system liquidity to remain at current levels.
External Reserves and Forex
Foreign reserves have increased since the last MPC meeting on the 26th September. As at November 13th, 2017, foreign reserves had grown by 6.03% to USD34.27bn from USD32.32bn. We attribute this increment to the increase in global oil prices alongside local oil production levels during the period. In the past three (3) weeks, global oil prices have experienced a significant rally going from about USD57.37 per barrel to a year-high of USD64.27 per barrel on the 6th of November.
The Naira continues to maintain its stability at both the interbank FX and parallel markets thus responding positively to the CBN’s FX interventions. At the interbank FX market, the currency depreciated, albeit marginally, by 0.07% to NGN306/USD from the last MPC meeting on the 25th September, having ranged between NGN305.10/USD and its current rate within the period. Contrarily at the parallel market, the exchange rate appreciated by 0.83% to NGN363/USD, with the lowest being its current rate while recording the highest value of NGN366/USD within the period. The exchange rate stability is in line with our expectations as no significant derailment from the trend was noted during the period, especially as regards the CBN’s intervention in stabilizing the market.
Equities Market Performance and Outlook
The Nigerian Bourse has maintained its upward trajectory since the last MPC meeting, as the Year-to-Date incher higher to +36.25% on the 15th November, 2017 (vs. +30.05% on the 26th of September 2017). We opine that the increased investor confidence can be attributed to the improved macroeconomic conditions, as well as the impressive 9M2017 financial scorecards declared by several companies on the exchange. Also, the drop in yields in the fixed income space may have stimulated investor participation in the equities market.
Given our outlook on continued improvement in domestic macros, we expect that the positive momentum towards the market should be sustained, and thus, result in a positive close to the market for the year.
Fixed Income Yield Environment and Outlook
Debt instruments have been characterized by bullish sentiments since the last MPC meeting, as the average yield on the Treasury bills and bonds recorded respective declines of 1.82% and 1.02% to close at 17.04% and 15.19% on the 15th of November, 2017.
Ratings Agency, Moody’s, downgraded Nigeria’s Sovereign Issuer rating and lowered the long-term foreign-currency bond ceiling and the long-term foreign currency deposit ceiling. This downgrade was hinged on the country’s dependence on a single export commodity and its inherent exposure to external shocks. Although we do not expect this development to dampen the ability of the government to raise domestic debt, we underscore that this may threaten the strategy of the government to refinance its domestic debt with Eurobonds.
We believe the need to maintain an attractive yield environment to abate the skepticism of foreign investors should skew the decision of the committee towards holding the MPR and other policy rates constant. In light of this, we believe the high yield environment would remain sustained for the rest of the year.
On a Balance of Factors…
The Committee noted at its last meeting that further tightening would lead to a contraction in aggregate demand and depress the flow of credit to the private sector. On the other hand, loosening at this point would worsen inflation conditions. Although the rising foreign reserves level and exchange rate stability indicate improvements in the economy, the inflation rate, however, remains elevated.
We note that the Committee is likely to focus on consolidating on the gains attained so far as a result of policy decisions implemented in the year. Consequently, we expect the MPC to make the following decisions:
Retain the MPR at its current level of 14.00%
Retain liquidity ratio at 30%
Retain the asymmetric corridor at +200bps/-500bps
Retain the CRR at 22.5%
2. Justification for a Cut to the Monetary Policy Rate in a High Inflation Environment
3. Puzzles about Monetary Policy in Nigeria
4. CBN May Change Monetary Policy Stance – FSDH
5. MPC: Demanding For More Macro Clarity or Playing the Oliver Twist?
6. Post-MPC View - Stance Unchanged, and onto 2018
7. MPC Holds Rates in Nod to Sticky Inflation
8. CBN Holds Again – Better Safe than Sorry
9. CBN Communiqué No. 115 of the MPC Meeting – Sep 25-26, 2017
10. MPC Leaves Policy Rates Unchanged
11. Pre-MPC Commentary - Inflation, FX Considerations Should Stay MPC Hand
12. MPC Preview: Policy Trade-Off Still Favours No Change
13. On hold on a Majority Vote Expected
14. MPC: Advocacy and The Total Eclipse of Analysis
15. Likely Split Decision At MPC, Status Quo To Be Maintained
16. Some Cracks Emerging In The Group of Eight
17. After Recession : A Need for Policy Change?
18. MPC to Hold Rate Steady as Green Shoots of Recovery Emerge
19. Personal Statement by the MPC Members at the 114 MPC Meeting of July 24-25, 2017
20. Growth in Money Supply Falls below Targets