Considerations and Policy Options - A Hold Decision Appropriate Despite New Pressure Points

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Friday, September 21, 2018 / 05:55 PM /FSDH 

FSDH Research believes the most appropriate monetary policy decision under the current economic and financial market situation is to hold policy rates at the current levels. Although there are some arguments to increase rates, the need to provide necessary incentives for the Nigerian economy to achieve inclusive growth negates an option of a rate increase. 

The Monetary Policy Committee (MPC) of the Central Bank of Nigeria (CBN) will hold its fourth meeting of the year on Monday, 24 and Tuesday, 25 September 2018. At its meeting in July 2018, the MPC maintained the Monetary Policy Rate (MPR) at 14%, with the asymmetric corridor at +200 and -500 basis points around the MPR; it retained the Cash Reserve Ratio (CRR) and Liquidity Ratio (LR) at 22.50% and 30% respectively. It also announced measures to provide cheaper funding for some critical sectors of the economy to boost economic activities. 

On the international market, the growing trade war between the US and China has heightened global risks which may lead to an increase in interest rate. In addition, FSDH Research believes the Federal Open Market Committee (FOMC) of the US Federal Reserve may likely raise the Federal Funds Rate (Fed Rate) by 25 basis points when the committee announces its decision on Wednesday, 26 September 2018. The Fed maintained the rate at 1.75% - 2.00% when it met in July 2018. 

The US unemployment rate at 3.9% (lower than the target of 6.5%), inflation rate of 2.7% (higher than the target of 2%) and the strong growth of 4.2% in the economy all support an increase in the interest rate. A rate hike may further increase global yields with its attendant impact on capital flights from emerging markets and demand pressure at the foreign exchange market. Thus, a rate cut in Nigeria is not appropriate under these situations. 

The sluggish growth rate of 1.5% the Nigeria economy recorded in Q2 2018 calls for urgent policy measures and engagements to boost economic activities. Although the fragile growth was driven by the Non-Oil sector, the fact that dominant sectors of the economy either recorded low growth or contracted in Q2 2018 indicates that urgent actions are required. The Purchasing Managers’ Index (PMI) survey published by the CBN for the month of August 2018 expanded further. 

The Manufacturing PMI of August stood at 57.1 points from 56.8 points recorded in July. Production levels, new orders and employment level grew at a faster rate in August than in July. The Non-Manufacturing PMI also increased, with new orders and equipment growing at a faster rate in August than in July. 

FSDH Research notes that although the expansion in the PMI is a good development, it may not necessarily translate to an increase in the Gross Domestic Product (GDP) in Q3 2018. Therefore, a combination of monetary, fiscal and trade policies are needed to stimulate sustainable growth. 

The demand for foreign exchange increased in the face of a relative drop in the foreign exchange inflow through the Investors’ and Exporters’ Foreign Exchange Window. Consequently, the drawdowns from the external reserves continued till September 2018. The total inflows for the month of September as at 19 September 2018 stood at US$0.89bn. Given the run rate, September may record the least inflows since May 2017. 

The 30-Day moving average external reserves decreased by 4.35% to US$45.07bn at 17 September 2018, from US$47.12bn at end-July 2018. FSDH Research notes that an attractive Nigerian Treasury Bill (NTB) yield around 15% may help to attract foreign portfolio investment and reduce capital flight. Nevertheless, deliberate fiscal measures and engagement that will promote non-oil exports are a lasting solution to attract foreign exchange that will guarantee stability. The inflation rate increased to 11.23% in August 2018, the first increase since January 2017. This was principally due to the increase in the Food Index. 

FSDH Research links the increase in the Food Index to the low supply of agricultural items caused by the crisis in the food producing regions of the country. Although we expect the inflation rate to increase further in the remaining four months of the year, it will be difficult for a hike in interest rate to stem the rising inflation rate, as the cause of the rising inflation rate is not within the scope of monetary policy. 

Data from the CBN shows that the growth in the monetary aggregates (term, demand and saving deposits and credits) in the country is below the target the CBN sets for the country. This is an indication that an expansionary policy is required. However, the weak operating environment in the country does not support strong credit growth. 

Thus, measures to stimulate aggregate demand and increase the purchasing power of the citizens will help to achieve a modest growth in monetary aggregates. A tight monetary policy stance in the form of increase in interest rates would not be appropriate. Looking at possible policy options open to the MPC, FSDH Research is of the opinion that members of the MPC will vote to maintain interest rates at the current levels. The CBN can continue to use the Open Market Operations (OMO) to manage liquidity in the banking industry in order to maintain price stability.

 Proshare Nigeria Pvt. Ltd.

 Proshare Nigeria Pvt. Ltd.


 Proshare Nigeria Pvt. Ltd.


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