Growth: Structural Reform Should Precede CBN's Easing Policy – Analysts
Godwin Emefiele, CBN Governor

Growth: Structural Reform Should Precede CBN’s Easing Policy – Analysts

A slew of investment analysts are unimpressed about the recent monetary policy rate cut, say structural weakness in the economy needs to be addressed. Many investment banking firms stated in their macroeconomic notes that the reform may not achieve the target due to various unresolved issues in the economy.

Against expectation, some government reforms have been supporting instability in the price level, inflation has continued upward trajectory.

In its reaction to the MPC decision, NOVA Merchant Bank Limited is of the view that the policy rate cut could actually be growth negative for the nation. In its macroeconomic note, analysts at Asset and Resources Management Limited expressed that they believe that structural weakness in the economy needs to be addressed before there could be a significant impact of CBN’s easing policy.

Supporting the need for reform, CSL Stockbroker said: “We believe the ultimate aim of these policy measures is to bring down lending rates and stimulate credit creation in the economy, thus improving economic output.

“While we acknowledge the efforts of the apex bank, we note that the presence of structural bottlenecks in the operating environment will continue to limit the effectiveness of monetary policy tools in stimulating economic growth”.

Pundits believe that the decision to slash benchmark interest rate support the CBN intention to consolidate on its dovish monetary policy stance.

But Meristem Securities Limited said the firm does not anticipate a drastic impact on the real sector, and it is unlikely that the rate cut will significantly pressure lending rates downwards given the risks factors associated with the sector.

To stimulate economic growth, Nigeria’s central bank had in a circular sent to deposit money banks raised loan as a proportion to deposits ratio to 65%. However, many cash-rich banks have largely maintained their risk profiles, as data show they have been regularly affected by the CBN debits.

As of July, Banks cash balance with the CBN hit N11 trillion, 2.1 times its previous balance in the comparable period, according to Chapel Hill Denham note. Rising CRR debits on lenders are against the move to stimulate the real sector growth; analysts have explained.

They believe that debits on banks are counterproductive.

Analysts at ARM Securities explained that they see the change in the asymmetric corridor as a welcome development as it would help to restore the relevance of monetary policy to market rates.

“Going forward, we think the CBN would continue to juggle between economic growth and FX stability gave the frail state of the economy and external position.

“While we expect the CBN to maintain an accommodative stance over the rest of the year, we see a huge possibility of an increase in OMO rates in H1 2021 as currency pressure intensify”. ARM Securities explained.

Read: Naira Plunged despite Foreign Currency Intervention Sales

Commenting on the Committee dovish move, Pan African Capital Limited expressed that the CBN is faced with a policy dilemma between combating the high inflation rate and increasing economic output in the country.

The firm said in a note that increasing the MPR is in line with the reality of an inflation rate of 13.22% (in August) and address the issue of negative real interest rate in the country. However, this will adversely affect the economic growth in the country.

It stated that currently, the unemployment rate is rising while the economic output is falling in the country.

“To address the issue of stagflation and looming recession, there is a need to support productivity in the economy. Consequently, the decision of the CBN to reduce the MPR will improve productivity, which will lead to a reduction in the unemployment rate and inflation rate”, analysts explained.

However, to experience faster growth in the economy, particularly in the fourth quarter, Pan African Capital said it expects complementary effort from the fiscal authority.

Chapel Hill Denham Limited also expressed dissatisfaction about the monetary policy directions.

The investment firm stated that the CBN tacitly shelved responsibility for the elevated inflationary pressures, suggesting that available evidence does not support the view that the rise in inflation was due to monetary factors, but rather driven by structural rigidities and supply shocks.

However, the firm explained that the CBN’s argument has some merits, considering it has maximised the use of CRR debits to mop up excess liquidity.

As of July 2020, bank reserves with the CBN stood at a record of N11tn, up by 2.1x from N5.1 trillion in July 2019.

However, analysts at Chapel Hill said on closer inspection, some anecdotal evidence also suggests that monetary, fiscal, credit and exchange rate policies may have contributed to the macroeconomic instability in recent months.

Firstly, the firm said the CBN has been aggressively pushing a credit growth agenda, through the use of intervention funds and unorthodox policies such as the minimum LDR.

Already, the CBN loan to deposit ratio yielded a 24% expansion in credit to the private sector as of July 2020.

Growth: Structural Reform Should Precede CBN's Easing Policy – Analysts
Godwin Emefiele, CBN Governor

“We believe the credit impulse is contributing to demand-side pressures on the exchange rate”, Chapel Hill Denham explained.

Also, the firm said  Nigeria’s current account balance has been steadily deteriorating since 2018, due to a ballooning fiscal deficit largely monetised by the CBN.

In addition, analysts said the CBN’s protectionist policies and lack of FX liquidity, have weighed on food and core inflation recently.

Based on the National Bureau of Statistics data, imported food inflation is currently at the highest level since April 2017.

This suggests that weak FX liquidity, due to COVID-19 shock and lack of flexibility in the pricing of the FX rate, is contributing to surging food inflation.

The CBN Governor did not offer any guidance on the outlook for the currency and FX management framework, indicating that the Bank will continue playing the waiting game while hoping for a rebound in oil prices.

“With oil prices remaining stuck at US$40 – 45/b range, the FX liquidity challenges will likely continue in the near term, with pressures likely to increase due to credit-fuelled demand”, Chapel Hill stated.

Analysts explained that the MPR is generally viewed as a blunt monetary tool, given market interest rates are largely delinked from the movement in MPR and yields are already depressed at single digits.

Yet, the CBN’s dovish policy signal is hard to ignore, and will likely catalyse further compression in the fixed income yields in the secondary market and bond Primary Market Auction (PMA).

However, over the medium term, liquidity factors are expected to play a greater role in determining the direction of fixed income yields, with an inflection point likely to come in Q1-2021, once OMO maturities fuelling the fixed income rally begin to subside.

FSDH Group in its note added that the gap between the interest rate (1 year Treasury bill) and inflation rate widened further to -10 percentage points in August from -9.4 percentage points in July.

It explained that excess liquidity in the fixed income space led to a further decline in interest rate, while structural factors and FX challenges resulted in an upward movement of Nigeria’s inflation rate.

According to analysts, these structural factors, coupled with insecurity in some parts of the country, and currency pressures are expected to drive up inflation in the fourth quarter.

With this, the gap between interest rate and inflation is expected to expand further in the coming months with implications on real investment earnings. Read Also: Naira Reclaims Value on Black Market, Official Window

Growth: Structural Reform Should Precede CBN’s Easing Policy – Analysts