When it was announced late last week that the Central Bank of Nigeria (CBN) had convened an extraordinary meeting of its rate-setting committee (the Monetary Policy Committee – MPC) for Monday, this week, an old banking industry hand I spoke with, wondered (half in jest) what members of the committee may have forgotten in Abuja. For, only three weeks before, the MPC had met, and its members agreed (by a majority of 8 to 3) to put up the policy rate by 50 basis points from 8.75% to 9.25%.
Part of the MPC’s rationale for the rate hike (the fifth consecutive such increase this year) were government’s expansionary fiscal stance (including the implications of the new national minimum wage), and “the weight of structural factors such as the announced hikes in electricity tariffs and the expected removal of petroleum subsidy”. AMCON’s activities in support of the industry were also a source of concern. The N3 trillion it was going to inject into the economy on behalf of the sick banks was obviously going to liquidity levels in the system with clear consequences for domestic prices.
So, what in all this had changed to warrant an emergency meeting? Consider the fact that for the first time in ages, retail rates had moved into positive territory. This was always going to have an impact on the structure of savings, investments, and loans in the economy. However, it was expected that we’d have to travel some distance in time before the jury could come in on the consequence of this development. However, most treasurers I spoke to about this agreed that the length of the lag, and the way in which the respective variables interact was always going to depend on the levels of liquidity in the system. On this, all but one of the five treasurers I spoke with were persuaded that there is a liquidity glut in the industry. Ratios for industry liquidity were close to 60%. And at the more practical level, some banks had pushed up their minimum deposit and operating balances for customer accounts in ways that suggested that they already had more deposits than they had the sense to manage.
The contrarian view was that we were double counting industry numbers. How? Banks that had turned in their dodgy loans for AMCON bonds (pretty illiquid in that state) would repo this with the CBN at 11.5% (creating new levels of liquidity in the process). Once, however, you recall that 61-day instruments issued by the CBN at the open market operation (OMO) last week had a coupon rate of 12.5%, then it is not too hard to understand what happened to the excess cash banks are holding. Obtained from the CBN at 11.5%, and sold back at 12.5%, the banks could make a spread of over 100 basis points without anyone getting up from their desks.
What about the exchange rate of the naira? The first auction after the September meeting of the MPC saw the CBN unable to meet demand in the official market; the naira duly lost value — trading outside the central bank’s psychological band of N150 +/- 3.0%. Yet we all know that the trend is that as we move towards year-end, what remains of local industry begins to stock up in anticipation of the holiday season. In the particular conditions we are in now, where all manner of threats to global supply chains are to be met with, it would make sense to increase stocks as a precautionary measure. Therefore, there was a sense in which we should have anticipated a spike in the demand for foreign exchange at the official market.
On the surface therefore, not only was the system healthier than the headline numbers suggested; it was also clear that not enough time had passed for us to have a fair sense of the impact of the MPC’s last intervention.
Then, suddenly, the CBN (via the MPC’s Monday meeting) throws all the levers in its control as far as they can go, and battens down the hatches:
- Raised (MPR) by 275 basis points from 9.25% to 12.0%;
- Increased the cash reserve ratio (CRR) from 4.0% to 8.0% from the maintenance period beginning October 11, 2011;
- Reduced the net open position (NOP) from 5.0% to 1.0% of share-holders funds with immediate effect; and
- Suspended, until further notice, the reserve averaging method of computation in favour of daily maintenance.
What to make of this? The apex bank concedes that it might as well reduce the supply of foreign currency to the official market. However, it is concerned about the consequences of the ensuing devaluation on domestic prices. According to the communiqué released after the extraordinary meeting, the CBN believes that the impact of a devaluation “on price and exchange rate stability will be such as to undermine the key mandates of the Central Bank. Given the highly inelastic demand for imports, it is doubtful that increasing the cost of dollars will significantly reduce quantity demanded. Indeed, genuine demand will be compounded by high levels of speculative demand”.
Frightened by this possibility, the CBN chose to “address monetary and liquidity conditions more aggressively”. In other words, we have chosen to tighten monetary conditions, and risk an economic slowdown, in order to continue to subsidise the local currency. Now, this is strange coming from an institution which endorses the removal of domestic subsidies on the pump-station price of petroleum products by warning that despite “the labour unions…genuine concerns about the impact of subsidy removal on the poorer segments of society, the stark reality is that the country is living above its means”.
Methinks this argument also holds for the decision to continue to support the naira!