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                                                                      THE STRATEGIC BLUNDERS BY CBN’S MONETARY POLICY COMMITTEE
                                                                                 By: Sir Henry Olujimi Boyo (Les Leba) first published inJuly 2014

Two weeks ago, this column republished ‘Nigeria’s Economic Destiny: Trapped in False Hope!’The article discussed recommendations that could support Nigeria’s economic recovery and the barriers to executing viable solutions.

(See for this series and more articles by the Late Sir Henry Boyo)

Today’s republication explains how surplus Naira in the money market leads to inflation as more money becomes necessary for the purchase of less goods, a situation that causes a depreciation in the value of the Naira. The articleexplains how this affects local businesses as well as the banking sector and how CBN’s high MPR (Monetary Policy Rate) affects consumer spending, causing a negative impact on employment rates and job creation.

As you read through the below article taking note of previous events or rates, keep in mind its year of publication (2014), a clear indication that Nigeria’s economic situation is yet to improve even after all this time.

The Federation Accounts Allocation Committee last week approved the sum of over N755bn for sharing among the three tiers of government. Ordinarily, the distribution of this relatively sizable revenue would elicit hope that the economy will become positively impacted, as the various tiers of government would be funded to achieve their budget expectations.
In reality, however, Nigerians may not understand why the disbursement of this allocation would bring in its train, a host of adverse consequences to our economic and social welfare. Indeed, the economic dislocation attributable to such allocations begins with the deposit of the allocated sum of N755bn into the bank accounts of the federal, states and local governments including, ministries, departments and other agencies.
Invariably, the government deposits become fresh Naira supply which swells the cash levels in the banking sector; expectedly, the bountiful cash inflow is sweet music to the banks as it enables them to leverage on the fresh Naira inflow to expand their capacity to give loans to their customers. The extent of additional credit expansion will be determined by the prevailing ratio of cash to total assets dictated from time to time by the Central Bank in line with its mandate to maintain benignly stable prices and exchange rates in the economy.
Thus, if for example, the mandatory cash reserve ratio specified by CBN is 10 percent, then every Naira above this limit becomes surplus cash on which a bank could leverage almost tenfold to expand credit to its customers if required.  

Inevitably, however, such expansion in bank credit would promote increased spending within the economy and expectedly trigger inflation and weaken the Naira exchange rate as more money becomes available for relatively less goods and services while surplus Naira chase rationed dollar supplies; clearly, unbridled inflation spells doom for all income earners; consequently, the Central Bank would step in to reduce the cash balances with banks so as to constrain their ability to liberally expand credit to their customers.
Thus, the larger the Naira allocations to the three tiers of government, the more buoyant also will be the cash positions and credit capacity of banks and the more urgent will therefore be the need for CBN to subsequently remove the excess cash in order to reduce credit expansion and restrain spending and the threat of inflation.

Ironically, part of CBN’s strategy for reducing the systemic surplus cash and its adverse consequences is to offer to borrow some of the perceived excess Naira by selling treasury bills on which it offers to pay unusually high interest rates, which are considered inappropriate for risk free sovereign debts.
Late in June 2014, the CBN borrowed over N134bn with treasury bills; similarly, the CBN again borrowed N70bn and another tranche of over N134bn between the 9th and 23rd of July, 2014.  It needs emphasizing that the over N340bn loans incurred by the CBN within three weeks will not be deployed towards the remediation of our severe infrastructural deprivations nor indeed, can these funds be applied to remediate any shortfall in the recurrent expenditure of government, because such spending would only re-introduce more cash into the system and increase the pressure and consequences of already surplus cash in the money market!
Technically, therefore, the N340bn loan would simply be warehoused as idle funds in the accounting records of CBN, notwithstanding that the banks would still receive an average interest rate of about 10 percent on the sums borrowed by the CBN. In recognition of this reckless and destructive practice, former CBN Governor, Lamido Sanusi, last year, belatedly decried this inexplicable strategy and government’s apparent folly for placing its deposits at zero percent with banks only for the same government to return thereafter to borrow from the banks and pay oppressively high interest rates.

Ironically, in better managed and more successful economies elsewhere, such practice would be totally condemned; for example, the European Central Bank actually charges banks about 0.1 percent rather than pay interest on any surplus cash held by banks! Conversely, in view of our CBN’s feeding bottle strategy for addressing excess liquidity, it makes eminent business sense therefore for banks to shun lending to the risk prone private sector with its myriad challenges of infrastructure, multiple taxation, constrained consumer demand, etc. and for banks to readily embrace the farcical business model where government borrows back its own money at such generous cost!
Incidentally, the CBN’s Monetary Policy Committee (MPC) recently maintained its monetary policy rates (MPR) at 12 percent for the umpteenth consecutive time. The MPR is the principal CBN weapon for controlling bank lending so as to curtail spending and also control inflation. The MPR is therefore a ‘punitive’ rate at which banks will be forced to borrow from the Apex bank to cover their occasional cash shortfalls.

Invariably, like Central Banks everywhere, the CBN will set its monetary policy rate at the level that would engender the objective of minimal inflation and real economic growth. Thus, CBN’s MPR will be high if the objective is to make borrowing expensive to reduce spending and slow down economic activity; conversely, the MPR would be set much lower if CBN decides to encourage banks’ credit expansion in order to induce both capital and consumer spending to stimulate production and increasing job creation in the economy. In successful economies in Europe and America, Central Bank controls rates are usually less than 2 percent, so that commercial banks could also lend to their customers at single digit interest rates. Conversely, if Nigerian banks borrowed from the Central Bank at 12 percent MPR, they would in turn have little option than to lend to their own customers at economically destabilizing rates of over 20 percent as is currently the case.
The question therefore, is why CBN’s MPR is so high, especially when its product of high cost of loans is bad for the growth of all economic subsectors and the attendant need for increasing job opportunities. From the preceding narrative, it is evident that so long as monthly allocations continue to instigate the spectre of surplus Naira, it would be inappropriate for CBN to further stimulate spending with low interest rates or the promotion of liberal expansion of commercial bank credit because of the danger of inflation getting out of hand.

Furthermore, the sustained pace of borrowing with treasury bills is evidence that CBN’s supplementary strategy to reduce money supply with mandatory increases in banks’ cash reserve ratios for public and private sector deposit to 75 percent and 15 percent respectively has also failed to achieve its purpose.
Instructively, however, if CBN restrains itself from creating fresh Naira supply as allocations for the dollar derived portions of monthly distributable revenue, the erstwhile shackles of unyielding excess liquidity will be broken, and a new dawn of rapid and inclusive economic recovery will begin. If however the Monetary Policy Committee remains in denial of this reality, unfortunately, not even a thousand more of its meetings will burnish their legacy of complicity and failure to do it right for our fatherland!


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