Context, Rationale, and Benefits of the Decisions of the November 2014 Monetary Policy Committee Meeting

Context

The Nigerian economy has displayed uncommon resilience especially when compared to its peers as well as the spillover effects of exogenous factors that it has been dealing with in the last couple of months. For the first three quarters of the year, the economy expanded by an average of about 6.3 percent. The growth rate for the third quarter was recorded to be 6.23 percent, reflecting significant growth from key sectors. These numbers are impressive especially juxtaposed against the fact that after the GDP Rebasing Exercise, the recomputed growth rates for 2012 and 2013 were 4.2 percent and 5.5 percent, respectively.

Although inflation edged up during the first and second quarters of the year, these pressures have started to dissipate as inflation has been trending downwards from a peak of 8.5 percent in August to 8.1 percent in October 2014. Interestingly, this reduction is reflected in a reduction in both core and food inflation. While core inflation trended slightly down from 6.28 percent to 6.25 percent, food inflation decreased from 9.68 percent to 9.34 percent in September and October, respectively. 

During the third quarter of the year, the economy created 349, 343 jos with the private sector contributing almost 60 percent of that number. The country’s financial system continues to look good based on fundamental measures of stability, even though there is always room for improvement.

Despite these impressive outcomes, the Naira/Dollar Exchange Rate has been under some pressure in recent times. Although the Central Bank of Nigeria have managed to keep the official rate stable (the one that is accessed at the Retail Dutch Auction System), both the interbank and the BDC rates have gone up in the last couple of months (See Table 1). As of 18th November, the interbank closed at N173 to the dollar while the BDC rate closed at N176 to the dollar. 

It is important to note that the reason that the official rate only increased marginally over this period is because of the huge outlay of foreign reserves that the CBN has spent in defending the naira and ensuring that the official rate stayed about the same. In an effort to do so, the CBN has spent over US$45 billion during the year. In contrast, US Dollar inflows into the Bank’s FX Reserves were about US$39 billion during the year so far. 

During the course of the year, oil prices have also fallen by nearly 40 percent (See Table 2). As of the start of January 2014, oil prices reached a peak of US$116 per barrel. In contrast, we have seen oil prices fall to as low as US$72 per barrel. 

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Rationale

From the above analyses of the FX Market, it is clear that the CBN’s Reserve was already in deficit of about US$6 billion over the course of this year. What then can a Bank do to react to such a situation of falling reserves and pressurized exchange rates? One course of action would be to continue to deplete the CBN’s FX Reserves in trying to keep the official rate at a stable level.

But this option is significantly difficult in light of the fact that the strengthening/appreciation of the Dollar against the Naira reflects more of a global trend than a country-specific problem. In fact, of all the 26 Emerging Market economies in the World (including India, Russia, South Africa, Brazil, and so on), only the Chinese Renminbi has not suffered depreciation against the US Dollar in the last 6 months. 

The main global factors of this reality includes:

1. The end of Quantitative Easing by the US Federal Reserve, which implied that the monthly injection of about US$85 billion into the global economy suddenly ended;
2. The sustained fall in oil prices; and
3. Subsisting sanctions against Russia for its alleged role in the ongoing crisis in Ukraine. 

It is on the basis of these realities that the MPC decided that it would be sub-optimal to indefinitely continue to deplete the CBN’s FX Reserves in defending the naira whereas the Bank was not in control of the factors causing the depreciation. The CBN, just like any credible central bank has to respond to developments on the ground, especially when it believes that these developments seem permanent. For example, the Bank’s current thinking is that the fall in oil prices may persist for sometime to come. Hence, the Monetary Policy Committee decided as follows:

1. Increase the MPR by 100 basis points from 12 to 13 per cent
2. Increase the CRR on private sector deposits by 500 basis points from 15 per cent to 20 per cent with immediate effect
3. Move the midpoint of the official window of the foreign exchange market from N155/US$ to N168/US$
4. Widen the band around the midpoint by 200 basis points from +/-3 percent to +/-5 per cent. 
5. Retain public sector CRR at its current level of 75 per cent
6. Maintain a symmetric corridor of +/- 200 basis points around the MPR
7. Retain Public sector CRR at 75 per cent
8. Retain the foreign exchange trading position at 1 per cent.

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Benefits

These actions suggest that the CBN is nimble and responsive to both global and domestic economic realities as they unfold. And these are the hallmarks of a credible central bank. In particular, one must recall that the Bank’s major mandate is to ensure price stability and the developments in the FX Market were surely going to put undue pressure on domestic prices. Therefore:

• The MPC’s decision to tighten monetary policy would mitigate these developments while ensuring that inflationary pressure and inflation expectations are well anchored. 
• The decision to raise the Monetary Policy Rate (MPR) is expected to increase capital inflows into the country, which should improve accretion to reserves.
• The increased Cash Reserve Requirement (CRR) will reduce the amount of excess liquidity available to banks for speculative and arbitrage activities and moderate the pressure in the foreign exchange market. 
• Shifting the mid-point of the official exchange rate from ₦155/US$ to ₦168/US$ realigns it with the rates in the other segments, reduces the extant premium and discourages arbitrage tendencies in the market.
• The lower value of the naira would also make Nigerian exports cheaper, which should encourage other countries to buy more Nigerian goods.
• The new value of the naira also provides a critical opportunity for entrepreneurs to take steps toward replacing costly imports with cheaper locally made goods and services.

In sum therefore, the actions of the CBN suggests that there is cause for concern but no need for panic. This firm conviction stems from:

1. The resilience of the Nigerian economy as described above;
2. The key causal factors of the FX pressure we are facing are global; and
3. We have enough reserves to meet legitimate, transactions-based FX obligations.

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What is the CBN Doing to Boost Benefits?

Both the Monetary and Fiscal Authorities have long argued that Nigeria needs to move quickly away from its significant dependence on oil for budget financing, FX inflows and reserve accretion. The CBN believes that Nigerian businesspeople and entrepreneurs are willing and able to take investment risks and produce most goods and services here in Nigeria. Yet, several surveys have concluded that infrastructural deficits (including lack of Power), and access to, and cost of, financing have been serious impediments to short term survival and long term growth of Nigerian businesses. 

In response to these twin problems, the CBN has been collaborating with the Ministry of Petroleum and Power, the Nigerian National Petroleum Corporation (NNPC) as well as the Nigerian Electricity Regulatory Agency (NERC) and other stakeholders in the Power Sector, to pay-off the back-log of legacy debts in the Power value chain in order to ensure that the Transitional Electricity Market (TEM) takes-off smoothly as soon as possible. It is important to note that agreements have now been signed with all stakeholders in the value chain.

In return for paying off these debts, the CBN has received the following commitment from critical stakeholders:

• • The Ministry of Petroleum Resources and NNPC would address key infrastructure issues;
  • An approval of increase in controlled gas price to $2.50 and $0.8 for transportation by NERC;
  • Major gas suppliers, including all the international oil companies, would significantly increase supplies to power plants; and
  • Generation and Distribution Companies would allocate the new resources exclusively for capital-related expenditure including replacing obsolete equipment and improving capacity for better revenue collection.

The CBN believes that these efforts would significantly assist in solving the problems identified in the Power sector.

Against the backdrop of this progress, the Bank is also collaborating with the Ministry of Agriculture and Rural Development, the Ministry of Industry, Trade, and Investment, the Directorate of the National Youth Service Programme, and other stakeholders to launch an innovative scheme that would harness the ingenuity and energy of NYSC members to produce targeted crops around clusters of existing value-adding industries (like Rice Mills). Produce from such efforts would be stored around the country at storage facilities owned by the Ministry of Agriculture while the CBN would assist in ramping up new ones. The Commodity Exchange being mid-wived by the Ministry of Industry, Trade, and Investment would then guarantee the prices of such produce, while the CBN would catalyze efforts aimed at securing off-takers of these products.

On the issue of cost and access to financing, the Bank has also made available several special funds targeted at sectors that it believes can create jobs on a mass scale and improve the country’s chances of achieving much-needed inclusive growth. As the country witnessed on 19th August 2014, the President personally launched the flag-off of disbursements of the CBN’s N220 billion fund specifically targeted for Micro, Small, and Medium-scale enterprises across Nigeria. This fund is meant to provide financing at no more than 9 percent to recipients; an interest rate that is significantly less than what is obtainable in the open market. It is heart-warming to note that some State Governments (like Delta State) have even gone a step more to agree to pay-off the interest rates of these loans so that recipients only have to pay back the capital, without worrying about associated interest payments.

Similarly, the Bank has launched other funds like the Commercial Agriculture Credit Scheme (CACS), which has, between 2009 and 2013, disbursed a total of about N16.2 billion to 12 rice producers who have managed to meet about 10 percent of national consumption. The CBN believes that we can scale up this amount to enable these producers meet a much more higher share of our national consumption, thereby, reducing our import needs for importation of commodities such as rice. Towards this end, 60 percent of the Commercial Agricultural Credit Scheme will now be targeted at the identified commodities, while the loan limit under the Agricultural Credit Guarantee Scheme has been increased to N50million to expand the resources available to small agricultural projects.

Over the coming weeks, the CBN will continue to explore all possibilities and opportunities for scaling up its efforts to ensure that the country fully benefits from current economic developments.