Flash Report / Nigeria

Nigeria responds to monetary policy dilemma with a surprise rate cut

  • The Central Bank of Nigeria cuts interest rates for the second time this year and reduces the asymmetric corridor
  • Although the CBN’s policies have yielded some positive results in growing loans...
  • ...key driver of inflation is recent structural reforms and FX complexities; it needs more than rate cuts to spur growth
Nigeria responds to monetary policy dilemma with a surprise rate cut

At yesterday's monetary policy meeting the Central Bank of Nigeria (CBN) caused a surprise, voting to cut rates by 100 bps to 11.5% from 12.5% – the second rate cut this year and taking rates to their lowest since 2016. The range of the asymmetric corridor (the cost at which lenders borrow) was also revised lower to +100/-700bps from +200/-500bps, which reduces the CBN’s Standing Lending and Deposit Facilities window to 12.5% and 4.5% respectively.

The committee was faced with the dilemma of whether to raise rates in support of FX stability and to curb inflation, or cut rates in support of growth and increase in aggregate supply (which in the long run supports price stability). The central bankers chose the latter.

In truth, inflation has risen to a 29-month high and slashed real returns. However, the key driver of inflation has been the recent structural reforms and FX complexities, and as such is unlikely to be effectively managed through traditional monetary policy tools.

The CBN scorecard

A total of NGN3.5 trillion (US$9 billion) has been disbursed in bank interventions this year to spur growth in the midst of Covid-19. Meanwhile, the CBN’s measures to increase loans through the banks (thanks largely to the CBN’s increase in LDR last year) have also yielded positive results, with NGN3.77 trillion worth of loans issued between May 2019 and August 2019 (compared to a decline in real loans of NGN606bn in 2018).

It is also worth adding that the rate cut further reduces the minimum savings deposit rate, which was adjusted from 30% to 10% of MPR in September. Banks are expected to respond to the cut in deposit rate by increasing loans. Meanwhile, the banks continue to contend with the CBN’s tight leash on CRR debits (Nigeria's CRR of 27.5% is one of the highest globally) that aims to curb excess liquidity chasing OMO (in order to reduce the CBN’s borrowing costs) and FX. In addition, the banks must also tread cautiously to avoid creating non-performing loans.

Rate cuts alone will not spur growth

The optimism that the CBN’s policies can spur growth must be tempered with caution. The constraints to growth are largely structural, driven by FX shortages, import bans, and other CBN policies aimed at limiting FX demand. Thus, growth is unlikely to be positively impacted by the rate cut, as the transmission mechanism is no longer that strong. Rather, what appears more apparent is that the economy will have to grapple with pent-up inflation and FX instability and simply needs better policy implementation.

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