Worst inflation in a decade deepens dilemma for Nigeria in slump

Caught between the highest inflation rate in more than a decade and an economy set to contract for the first time since 1991, Nigeria’s central bank may opt to do nothing.

Governor Godwin Emefiele is under pressure to limit inflation, which accelerated to almost double the upper end of the central bank’s target range last month, while the economy will probably contract by 1.8 percent this year, according to the International Monetary Fund. Still, 10 of the 15 economists in a Bloomberg survey forecast there will be no change to borrowing costs on Tuesday. The rest predicted the Monetary Policy Committee will increase the key rate by between 100 and 300 basis points.

“Nigeria is facing a policy dilemma: high inflation and is technically in recession,” Ayodele Akinwunmi, head of research at Lagos-based FSDH Merchant Bank Ltd. said by phone on Monday. “The MPC can’t cut rates, because that will be contradicting the situation at hand. The MPC shouldn’t however raise either, because that might not help curb inflation which is cost-push inflation that must be tackled from the supply-side.”

Inflation in Africa’s largest economy accelerated to 16.5 percent in June, the highest rate since October 2005, as the cost of food and gasoline surged due to foreign-exchange shortages caused by a 15-month currency peg. The naira was allowed to float from June 20, losing more than a third of its value against the US currency and weakening beyond 300 per dollar for the first time on July 22.

“They might need to tighten to support the new naira policy,” Pabina Yinkere, head of research at Lagos-based Vetiva Capital Management Ltd. said by phone on Monday. “While from an economic standpoint, tightening may not be the best move, the balance of risks calls for it.”

While the central bank has said it would let the market determine the value of the naira, it continues to prohibit importers of goods ranging from steel products to rice from accessing dollars on the interbank market. That forces businesses to buy foreign currency on the parallel market where the naira is trading at more than 370 per dollar, increasing inflation pressures further.

“We expect a 100-basis-point hike, which is probably the minimum required for the CBN to regain control of inflation expectations,”  Alan Cameron, a London-based economist at Exotix Partners LLP said in an e-mailed response to questions. “Prices economy-wide have been set to reflect a depreciation in the parallel market rate. In order to break this cycle, the CBN will need to hike policy rates.”

Central banks in Ghana, South Africa and Kenya all kept borrowing costs unchanged over the last eight days, while Mozambique tightened policy by 300 basis points seeking to contain inflation.

Emefiele held the benchmark interest rate at 12 percent in May after an unexpected 200 basis-point cut in November to stimulate growth, followed by a 100 basis point reversal in March. The economy expanded at the slowest pace in two decades last year, according to IMF data, and gross domestic product contracted by 0.4 percent in the three months through March.

The Central Bank of Nigeria “has been an inflation-targeting central bank, and may choose to raise rates to also attract foreign-exchange inflows until the exchange rate stabilizes,” Mark Bohlund, an economist with Bloomberg Intelligence in London, said by phone. “It’s however hard to tell which direction the MPC will take on rates because they are obviously concerned about GDP.”