The Central Bank of Nigeria may have reclaimed some of its inflation-targeting credibility through raising its main rate on March 22, but its latest about-face also prompts further questions about the direction of monetary policy. Bloomberg Intelligence Economics views the shift in policy as primarily reflecting a lack of traction of previous monetary easing and the risk of inflation accelerating further. It also indicates that the central bank remains committed to the naira’s peg to the dollar at 199, despite its negative impact on economic growth and inflation.
The central bank raised its benchmark rate by 100 bps to 12 percent on March 22 and raised the cash reserve ratio (CRR) by 250 bps to 22.5 percent in a move that surprised economists. Consensus called for the bank to leave the rate unchanged, as it did in January. The bank’s independence and credibility faced scrutiny following its decision to reduce the policy rate to 11 percent on Nov. 25 from 13 percent and lowered the CRR in order to support economic growth. The November rate cut was agreed despite a steady upturn in inflation through 2015 and indications that foreign-exchange controls and a rising black market exchange rate were exerting upward pressure on prices. The latter came home to roost in February when inflation accelerated sharply to a three-year high of 11.4 percent from 9.6 percent in January. Prices soared by 2.3 percent in January compared with the prior month, the biggest jump since January 2012. The CBN noted that this has pushed the policy rate into negative territory in real terms.
The CBN said that its previous cut in the policy rate and CRR had failed because banks hoarded liquidity and accelerated lending to the public sector, instead of extending credit to private companies. It added that the excess liquidity in the banking system had contributed to pressure on the currency with a strong pass through to consumer prices. This indicates that the central bank remains committed to the naira’s peg to the dollar, though it added that comprehensive reform of the currency market was needed to complement the rate increase in order to channel foreign inflows.
It is also worth noting that the rate increase is unlikely to spur inflows as long as there remains a significant risk of devaluation. This risk is still priced in to non-deliverable forwards, although primarily over the three- to 12-month range rather than in the near term. Hence, the CBN is likely to fail this year on all three of its policy objectives: containing inflation at 6-9 percent, supporting economic growth and maintaining the naira peg.
Nigeria’s parliament passed a record 6 trillion-naira ($30 billion) budget for 2016 on March 23, three months after it was first presented. While the benchmark oil price in the budget was lowered to $38 a barrel, to reflect a lower market price for Brent crude, the oil production assumption of 2.2 million barrels a day will likely be challenged by current and future outages, raising risks of the fiscal deficit being wider than expected.
The CBN decision came a week after CPI data showed inflation accelerating sharply. The main impetus stemmed from the non-food category (all items excluding farm produce), in which prices rose 2.7 percent month over month. Food prices rose 1.4 percent month over month and 11.4 percent year over year. Imported food prices increased 2.4 percent month over month, while prices in the general food category only advanced 1.4 percent. That indicates that the shortage of foreign-exchange and increases in the black-market exchange-rate played a role in the increase.