MPC Leaves Rate Unchanged, Reduction Will Worsen Inflation, Says Emefiele

• Mulls new measures on FX flow to BDCs
• Obama praises Buhari for Nigeria’s adoption of flexible exchange rate

James Emejo  and Obinna Chima 
The Governor of the Central Bank of Nigeria (CBN), Mr. Godwin Emefiele yesterday defended one of the bank’s core functions of ensuring price stability and counselled against calls to reduce the Monetary Policy Rate (MPR) in order to lower the cost of funds needed to stimulate economic growth and aid recovery from the current economic recession.

He argued that easing the MPR at this point would only worsen inflationary conditions, which the central bank described as still benign in its outlook.
The Minister of Finance, Mrs. Kemi Adeosun on Monday had called for a reduction in the CBN rate to aid growth and lower the cost of government borrowing from the financial sector.

However, at the end of the meeting of the Monetary Policy Committee (MPC), the central bank resolved to retain the current monetary policy stance, holding the MPR, otherwise known as interest rate at 14 percent, with an asymmetric window at +200 and -500 basis points.

The MPR is the rate at which the CBN lends to commercial banks and often determines the cost of funds in the economy.
The CBN further decided to maintain banks’ Cash Reserve Requirement (CRR) at 22.5 per cent and the Liquidity Ratio (LR) at 30 per cent.

Addressing journalists in Abuja at the end of the two-day meeting of the MPC, the CBN governor said all 10 members of the committee present voted to retain the current policy stance, having assessed the relevant risks, and concluded that the economy continues to face elevated risks on both price and output fronts.

However, he said given the central bank’s primary mandate and considering the limitations of its instruments with respect to output, the committee resolved to retain the current stance, being conscious of the need to allow this and other measures like the foreign exchange market reforms to work through fully.

Emefiele said the committee acknowledged the weak macroeconomic environment and the challenges confronting the economy, but noted that the MPC had consistently called attention to the implications of the absence of a robust fiscal policy to complement monetary policies in the past.

He said the committee further assessed the impact of its decision to tighten monetary policy by raising the MPR in July 2016 to 14 per cent, noting that at the time the committee understood the complexity of the challenges facing the economy and the difficulty of arriving at an optimal policy mix to address rising inflation and economic contraction simultaneously.

He said the committee also recognised that monetary policy had been substantially burdened since 2009 and had been stretched, restating that new capital flows of about $1 billion into the economy had come in since July, while month-on-month inflation had declined continuously since May 2016.

The governor said against this backdrop, members re-emphasised the need to prioritise the use of monetary policy instruments in dealing essentially with stability issues around key prices including consumer prices and the exchange rate as prerequisites for growth.

Also, reacting to complaints that bureau de change operators were still not accessing enough FX to meet demand largely as a result of non-compliance by the banks which were meant to supply them FX, the CBN governor who expressed regret over the development, said the central bank would revisit the existing mechanism to ensure that dollars flow directly to BDCs.

On calls to slash the interest rate at a time of recession to aid growth, Emefiele argued: “Both the monetary and fiscal authorities have the same objective to achieve growth, but the direction through which we want to achieve it may differ for as long as you still achieve the growth.

“The issue here is that when you reduce the interest rate, there are two reasons here: you want that to spur credit to the private sector at lower rates and two, is that the fiscal authorities need to be able to borrow at a lower rate to spend.

“Our own view at the MPC, because this was exhaustibly discussed, there was a time when the MPC took the decision not only to reduce the policy rate and indeed reduced the cash reserve requirement. These were intended to lower rates and encourage borrowing particularly to the private sector.

“After we did that, at the following meeting, since we did not see the impact of credit to the private sector, we further reduced the CRR from 30.5 per cent to 25 per cent and this provided about N1 trillion that was injected by the CBN into the economy or made available to the banks.

“But rather than loan these monies to consumers, agriculture and SMEs, we found that the credit went to traders who used the funds to demand for foreign exchange which ended up putting pressure on the FX market.

“So subsequently, we determined that if this money wasn’t deployed directly, we would reduce the CRR from 25 per cent to currently 22.5 per cent – that provided between N350 billion and N500 billion to the banking system.

“But we said we were not going to allow the banks to have the cash until they sent proposals to the CBN for primary agriculture projects, new manufacturing projects, and other kinds of projects that would spur industrial capacity and manufacturing output.
“I must confess that the proposals we received were mainly for the purpose of refinancing the liquidity of the banks and we concluded that that was not what we wanted and that’s the reason we have been a little circumspect about releasing some of the liquidity.

“However, we are looking at the books. There are indeed few of them that have submitted proposals for agriculture and new manufacturing projects that we would be considering in due course.”

Emefiele further explained that if the policy rate is lowered, even though it would make it possible for the fiscal authorities to borrow at lower interest rates to stimulate spending and would in it turn stimulate demand for goods, without a corresponding increase in industrial output, this could lead to astronomical inflation.

“When you stimulate demand for goods by providing money without taking action to boost industrial capacity, what happens is that you will see a situation where you have too much money chasing too few goods which will also worsen the inflationary condition that we are in now.

“That is why we are saying that while the fiscal side is going ahead to spend, we (monetary side) have to retain the policy rate where it is so as to maintain price stability on the one hand, and as we said in the last meeting encourage the inflow of foreign capital through higher yields.

“I must say that truly I wasn’t very optimistic when we liberalised the FX market initially, but today I will say that between July and now, we’ve seen an inflow of FX of above $1 billion,” he said.

The governor said the $1 billion inflow was used to fund FX demand to procure raw materials by manufacturers, adding that with increased importation of raw materials, industries will be able to increase productivity and employ more people, which ultimately will moderate prices and spur economic growth.

Elaborating on the position of the MPC, Emefiele said: “The MPC noted that stagflation is indeed a very difficult economic condition with no quick fixes: having been imposed by supply shocks as well as fiscal and current account (twin) deficits.
“Consequently, the policy framework must be re-engineered urgently to provide a lever for reversing the negative growth trend. While the imperative for ensuring financial system stability remains, the MPC reiterated the fact that monetary policies alone cannot move the economy out of stagflation.

“The MPC considered the numerous analyses and calls for rates reduction but came to the conclusion that the greatest challenge to the economy today remains incomplete fiscal reforms which raise costs, risks and uncertainty.

“The calls came mainly from the belief that reducing interest rates will spur credit growth, not only in the private sector but also by the public sector, which will help provide liquidity to stimulate consumption and investment spending.

“The committee was of the view that in the past, the MPC had cut rates to achieve the above objectives; but found that rather than deploy the available liquidity to provide credit to agriculture and manufacturing sectors, the rate cuts provided opportunities for lending to traders who deployed the same liquidity in putting pressure on the foreign exchange market which had limited supply, thus pushing up the exchange rate.

“With respect to providing opportunity to the public sector to borrow at lower rates to boost consumption and investment spending, the committee agreed that while it was expected to stimulate growth through aggressive spending, doing so without corresponding efforts to boost industrial output by taking actions to deepen foreign exchange supply for raw materials will not help reduce unemployment, nor would it boost industrial capacity.

“The committee was also of the view that consumer demand for goods which will be boosted through increased spending may indeed be chasing too few goods which may further exacerbate the already heightened inflationary conditions.
“The urgency of a monetary-fiscal policy retreat along with trade and budgetary policies, to design a comprehensive intervention mechanism is long overdue.

“The (Central) Bank has since 2009 expanded its balance sheet to bail out the financial system and support growth initiatives in the economy. While stimulating economic growth and creating a congenial investment climate always is and remains essentially the realm of fiscal policy, monetary policy in all cases only comes in to support sound fiscal policy.

“Nevertheless, the (Central) Bank has and shall continue to deploy its development finance interventions to complement the overall effort of fiscal policies towards reinvigorating the economy.

“The interest rate decisions of the (Central) Bank are therefore anchored on sound judgment, fundamentals and compelling arguments for such policy interventions.
“The committee also feels that there was the need to continue to encourage the inflow of foreign capital into the economy by continuing to put in place incentives to gain the confidence of players in this segment of the foreign exchange market.

“Consequently, the committee considers that loosening monetary policy now is not advisable as real interest rates are negative, pressure exists on the foreign exchange market while inflation is trending upwards.”

He added that the committee noted “the positive response of the deposit money banks (DMBs) to the CBN’s call for increased credit to the private sector between July and August.

“As the growth in the monetary aggregates spiked above their provisional benchmarks, headline inflation continued its upward trajectory in August 2016, and is now close to twice the size of the upper limit of the policy reference band.

“Supply side factors including energy and utility prices, transportation and input costs, have continued to add to consumer price pressures. “Members emphasised that improved fiscal activities, especially the active implementation of the 2016 Federal Budget, and payment of salaries by states and local governments, will go a long way in contributing to economic recovery.

“In the same direction, the committee urged the fiscal authorities to consider tax incentives as a stimulus on both the supply and demand sides of economic activities,” Emefiele added.

On the sale of FX to BDCs by commercial banks, the governor said: “I must again say that it’s regrettable that what we did was to see how the dollars from international money transfer operators could flow to the BDCs and from them to people who want to buy foreign exchange through the BDCs at the limit of not more than $5,000.
“We have reviewed the report and the management of the CBN is looking at various options on how to ensure that these funds flow directly to the BDCs so that we can moderate the prices in that market.

“If need be, we would change the existing mechanism that would ensure that these dollars flow directly to the BDCs. However, I would like to appeal that whenever you see that some banks or bank officials are collecting brokerage fees in order to sell FX to the BDCs, I plead with you to provide us with credible information.

“We encourage whistle blowing, so be bold to bring it up or mention the name of any bank official or any bank that is involved in requesting for brokerage in order for them to sell FX to the BDCs.

“The CBN is determined to achieve a particular rate at which these BDCs can sell and at which the banks can sell to the BDCs, but if you find a situation whereby some banks are trying to undermine the intentions of the CBN, please report them so we can deal with this as appropriate.”

Mixed Reactions Trail MPC Decision

Reacting to the outcome of the MPC, a senior lecturer at the Department of Economics, Pan-Atlantic University (PAU), Dr. Bongo Adi, said the MPC members decided to leave interest unchanged because they were “caught in a dilemma”.

Speaking in a phone interview, Adi explained: “We are battling inflation and at the same time we are in an economic recession. Reducing the interest rate might lead to a spike in inflation and we are already battling spiralling inflation.

“I think they are adopting a wait and see attitude. This is a situation whereby doing nothing is even something. This means they have reached the limit of monetary policy tightening.”

The Managing Director of Cowry Asset Management Limited, Mr. Johnson Chukwu, however, argued that the MPC members ought to have adopted an accommodative monetary policy stance.

“For me, at this point in time, I think the emphasis should be how we should restore growth and ensure that credit gets back to the hands of those in the productive sector. There are a lot of small and medium sized businesses in the country today that cannot access credit and partly because of lack of foreign exchange liquidity.

“But at this point in time, maintaining a restrictive monetary policy will not necessarily lead to an improvement in FX supply. So, I was thinking that the MPC would consider the overriding need to restore growth in the economy instead of targeting price stability,” Chukwu added.

Chukwu, however reiterated the need for the federal government to consider the sale and concession of some critical assets in the country so as to raise funds that can be channelled to productive sectors.

Time Economics Limited, in its assessment, aligned with the MPC, stating that given the reality of Nigeria’s situation, past efforts to cut rates in other to stimulate spending were misapplied by commercial banks who rather than lend to the real sector, diverted loans to traders, importers of manufactured goods, and government.

“Furthermore, cutting the MPR could do more to erode the credibility of the CBN with regards to the conduct of monetary policy. Such action, in our opinion, will help worsen the already growing negative real interest rate and could further discourage the return of foreign investors – something the CBN has worked so hard to avoid.

“Moreover, the pursuit of an expansionary monetary policy in order to support growth, in the face of rising inflation and currency depreciations could prove to be counter-productive, particularly in the absence of complementary fiscal policy reforms,” the economic research firm said.

Buhari Gets Pat on the Back

In a related development, President Barack Obama of the United States of America has commended President Muhammadu Buhari for Nigeria’s adoption of a flexible exchange rate regime after the country had pegged it currency for more than a year.
Obama, who spoke after a meeting with Buhari on the sidelines of the 71st session of the United Nations General Assembly in New York, said that he and Nigerian leader also discussed the fight against terrorism and ways of countering the Boko Haram militant group.

Also, at a bilateral meeting with President Jacob Zuma of South Africa, Buhari assured his African counterpart on the protection of lives and the investments of existing and potential investors in Nigeria.
Buhari said the security situation in Nigeria had become very much better and conducive.

He said: “The de-radicalisation process in the North-east is also going on, and we are achieving some measure of success. Even suicide bombing is becoming rare, as the local people are themselves rejecting indoctrination by the insurgents.”

Buhari said Nigeria was working hard to diversify the economy and expressed willingness to collaborate with South African businessmen especially in the areas of mining and agriculture for the mutual benefit of the two countries.
In his remarks, Zuma recalled his visit to Nigeria earlier this year, which he described as “very successful”.

He added that he was interested in the promotion of economic and trade partnerships between the two countries.