Again, the Central Bank of Nigeria’s (CBN) rate-setting committee (the Monetary Policy Committee ― MPC) meets this morning. In a marked departure from practice, the meeting this January (the MPC meets every other month) is scheduled to run for just one day (all through last year, the meetings lasted the better part of two days). In addition, the press conference by the governor at which he makes public the committee’s decision, earlier scheduled for 5.00pm was (on Friday, last week) brought forward to 4.45pm. Auguries of a slimmer agenda than usual?
Headline inflation for December 2012 was 12%, down from 12.3% in November. Thus, all through last year, inflation stayed stuck around 12%, despite the central bank’s restrictive money policies. Clearly, therefore, there might be problems with the economy, which make further softening of inflation difficult, if not impossible. However one calls these impediments, “structural”, or “fiscal” (there is no doubt that we are in need of further reforms to the organisation of the state), “stubborn” inflation figures invite consideration of their interest rate implications. Of late, much of the popular attention paid to the workings of the MPC has arisen on the back of concern with the output-dampening effects of a high interest rate environment.
Thus, as the clamour for the CBN to lower the policy rate becomes ever more strident, it bears reflecting on whether we are, indeed, a low interest rate economy. On one hand, those who would have interest rates lowered reference the state of affairs a couple of years back, when the central bank strongly eased monetary policy to help buoy banks that were treading water at the deep end of the pool (as the aftershocks from the global financial and economic crisis threatened). Then, there is the worry over the quantum of lending from the formal financial services sector to the real sector, and the role interest rates play in this.
The key question here is whether the problems with domestic private credit growth are of a supply or demand side nature. In other words, are there “bankable” projects in this economy in want of credit? The structural flaws that put a floor on how low inflation may drop do not make this discussion any easy, but a fair answer to the last question is a huge “NO”! There are just too many constraints to doing business in this country for there to be that many businesses that can make profitable use of bank lending. Conversely, given that the market responds to demand and not need, there may well be a zillion commercial concerns out there in “need” of bank loans but which will not receive a dime, because those effectively “demanding” bank loans are already getting it.
Still, none of these arguments is pro-low interest rates. And even less in favour of single digit rates. Of course, we may wonder why banks with their huge balance sheets, faced with a small universe of borrowers have not seen the price of their asset portfolios fall ― and have remained obscenely profitable. After all, every other variable remaining unchanged, if supply exceeds demand, price drops to a new equilibrium where higher cost players can no longer compete. It would appear that governments’ ravenous appetite for borrowing is the new tide that is keeping the financial services industry’s boats afloat.
Thus, the policy need is for levels of inflation/rates compatible with the economy’s need to invest in businesses that support higher levels of employment than are currently available. While these levels need not necessarily lie below 10%, and may actually be no higher than they currently are, it is important that they do not go up and down like a yoyo. For price/rate volatility is far more deleterious to the planning that precedes investment decisions than relatively high, but stable, rates.
The central bank can therefore not afford to ease monetary conditions just yet. For in the absence of the private credit creation route, any easing of banks’ current liquidity conditions will flow into demand pressures at the foreign exchange market. And this is where anxiety over the approximately US$10bn (in discussions with industry experts, it is obvious that we just may not know how big this inflow has been) that have flowed into fixed income securities in the last couple of months matter. For of the many shocks that could spook this hot money, the biggest is investor uncertainty over exit terms.