By Babajide Komolafe
The 50 basis points increase in the Monetary Policy Rate (MPC) to 8.0 per cent and the increase in the cash reserve requirement of banks would enhance stability of the foreign exchange markets, says Razia Khan
In a bid to further tighten money supply in the economy, the Central Bank of Nigeria (CBN on Tuesday announced the second increase in the MPR to 8.0 per cent from 7.5 per cent, citing “need to address inflationary expectations associated with excessive liquidity and pressure on foreign exchange market”.
To complement this, the CBN also increased the cash reserve requirement of banks to 4.0 per cent from 2.0 per cent effective from June 8th. The apex bank had on March 22nd raised the MPR by 100 basis points to 7.5 per cent for same reason.
“The combined and unexpected nature of the tightening, a higher MPR and CRR, should help to support foreign exchange stability, by dealing with some of the excess liquidity in the system”, said Khan, who is the Regional Head of Research, Africa Global Research at Standard Chartered Bank.
Commenting on the likely impact of the increase in MPR in an email statement, she said, “While detractors will argue that this is a potential negative for bank asset growth, they are likely to be wrong.
The factors impeding bank asset growth are more structural – and have little to do with current interest rate levels, which on an historic basis, are still relatively low.
Higher deposit rates may even draw more liquidity into the banking system, helping in time to create the conditions for more robust private sector lending.
“Given the unexpected nature of the move, in the very short term we are likely to see the bond market react to this. But more attractive Nigerian yields are also expected to serve as a substantial draw to foreign capital inflows, helping to support the NGN, and ultimately benefiting the bond market too,” she said
Explaining the rationale for hiking the MPR, the Monetray Policy Committee (MPC) of the apex bank in a communique issued at the end of its meeting said, “The Committee urged that in a highly import-dependent economy with large pass-through effects of import prices on domestic prices, it is necessary to create a climate conducive to larger foreign capital inflows through appropriate fiscal measures, particularly in the light of the gains that could be made in the current context of high crude oil prices.
The MPC, therefore, stressed the importance of continuing structural reforms and infrastructural development to enhance domestic production to reduce the import bill and its pass-through effects on inflation. It also noted the inflationary impact of the likely deregulation of petroleum product prices.
The Committee held that it would be prudent to adopt a monetary policy stance that is consistent with the need to address inflationary expectations associated with excessive liquidity and pressure on foreign exchange market. Although the fiscal authorities have declared their intention to fiscal consolidation, the MPC recognizes that time will be required for fiscal adjustment to take place. In the interim, monetary policy will have to bear the burden of adjustment through further tightening in order to rein in inflation to maintain price stability, as well as continuing with the progress toward positive real interest rates.