The International Monetary Fund (IMF) in a technical note on strengthening Nigeria’s monetary and liquidity management, released on October 24, 2013 suggest a change to the current monetary policy strategy in Nigeria as well as a need for consistency with the inflation targeting framework, by the Central Bank of Nigeria (CBN).
It also urged the CBN to curb the frequent use of the cash reserve requirement (CRR) as a monetary policy tool.
“Changes to the CRR require banks to make abrupt adjustments in their portfolios and as a consequence can induce volatility in financial market prices,” the IMF said in the report.
“An increase in the CRR…imposes additional costs on banks, which then get passed on to the economy in the form of wider interest rate spreads. Therefore, changes in the ratio should be infrequent and made only when there is a strong reason not to use market-based instruments (i.e., Government/CBN securities and foreign exchange sales).”
The CRR for banks-the minimum cash, as a percentage of customer deposits that each bank must set aside as a reserve- has risen from 4 percent in 2011 to 12 percent for private deposits and 50 percent for public sector deposits.
The IMF estimates that a 2 percent increase in the level of the CRR adds approximately 0.5 percent to the spread between deposit and lending rates.
For most part of the last decade, monetary policy in Nigeria has been based on monetary targeting.
Broad money had been used as the policy target and reserve money as the operating target.
However, the CBN is gradually transitioning towards inflation targeting regime and has increasingly used its monetary policy rate (MPR) to guide market interest rates.
The Central Bank of Nigeria, has kept its monetary policy rate (MPR) at a record high of 12 percent, while the liquidity ratio stands at 30 percent, and the net open position at 1 percent of shareholders’ funds.
However, the IMF notes that frequent changes to the operating procedures of monetary policy have tended to undermine the credibility of the framework.
Over the past two years, the MPR corridor has varied between 400 basis points (bps) and 700 bps.
“At times, the CBN appears to be guiding short-term interest rates towards the MPR, while at other times these rates are pushed towards the upper range of the corridor.
Finally, abrupt changes in regulations also affected the credibility. For example, in August 2012, the OBB rate spiked when the CBN prohibited the banks from participating in the wholesale foreign exchange sales throughout the term of their repurchase or standing lending transactions with the CBN,” the IMF report said.
The IMF in its report urged the CBN to clarify overall monetary framework to avoid impression of pursuit of multiple objectives and increase frequency of FAAC distribution to twice a month to decrease lumpy shifts in liquidity.
The CBN should also adhere to its exchange rate policy within the context of the monetary framework as excess use of forex sales for sterilization requirement adds to the confusion about CBN operating targets notes the IMF.
The IMF also recommended distinguishing between the role of the CBN as a structural supplier of forex or as a market interventionist so as to dampen excess volatility and strengthening the signaling role of the MPR while clearly communicating policy decisions.
The CBN’s perceived blunt monetary policy responses often stems from the fact that structural source of liquidity in the financial system—oil related transactions—remains lumpy and volatile.
Meanwhile the extra budgetary spending in the form of ECA drawdown’s and offshore portfolio investor pullout from Nigeria on the back of FED taper fears, meant the CBN had to frontload its tightening earlier in the year.
The CBN may look to discountenance the IMF comments on the back of its recent success in achieving single digit inflation and exchange rate stability.
The local currency has this year outperformed most emerging market currencies (per dollar) such as the South African Rand, Egyptian pound, Indian Rupee and Indonesia Rupiah according BusinessDay to analysis of available data.
By: PATRICK ATUANYA
