Monday, July 25, 2016 8:57am/ FBNQuest Research
The monetary policy committee (MPC) meets today and tomorrow in Abuja, and has a similar dilemma to two months ago. In May members faced a surge in inflation and a contraction in the economy.
They left the policy rate of 12.00% and banks’ cash reserve requirement unchanged but made the pledge on the naira exchange rate. The communique concluded that it was “the least risky option to hold” and we would not be surprised by the same judgment this week. The committee faces a similar landscape but worse.
Headline inflation has since increased by more than two percentage points to 16.5% y/y in June, and the core measure to 16.2%. The latest commentary from the National Bureau of Statistics identified energy products and import costs as the main culprits for the acceleration.
We do not have access to the CBN’s staff forecasts for inflation. Our own assume that, until the new exchange-rate regime attracts sizeable autonomous inflows, the headline rate will continue to pick up. We see 18.0% y/y at end-year.
In May the committee viewed the surge as driven by factors which it variously described as legacy, transient and supply-side. Its point was that they could not really be influenced by monetary policy.
On growth, the FGN has indicated that another contraction in GDP is due in Q2 2016 following -0.4% y/y in the first quarter, and suggested that thereafter the positive stimulus of the 2016 budget will start to have an impact. We see contraction in both the second and third quarters, and -1.2% y/y for the year as a whole.
In May the committee suggested that many of the developments in the economy (and not just inflation) were outside its direct control. Its subtext was that it had few weapons in its arsenal still to deploy, and was looking for support from fiscal policy and structural reforms.
The committee might hike to restore a positive policy rate in real terms, and allow for inflation expectations. The resulting increase of more than five percentage points would be unprecedented.
Alternatively, it might opt for a token increase to show its inflation-fighting credentials but there again we struggle to see how it would explain the magnitude of the hike.
By way of a final warning, we should remember that MPCs can change their mind. In May we were led to believe that the more flexible exchange-rate regime on its way would still leave a rate for said critical transactions. Under the new regime launched on 20 June, of course, there was a single rate.