What CBN’s interest rate hike means for Nigerians, the economy

The Central Bank of Nigeria’s Monetary Policy Committee on Tuesday raised the benchmark interest to 13 per cent. The governor of the Central Bank, Godwin Emefiele, said the action was to tame the rising inflation rate in the country.

Inflation in Africa’s most populous country soared to 16.8 percent in April, according to a report by the National Bureau of Statistics (NBS). The soaring rate was driven by fuel price increases and accelerating costs for food, including bread and cereals.

The CBN on Tuesday said that the global economic outlook remains uncertain amid rising commodity prices worsened by the Russia-Ukraine war.

Earlier in the month, a 0.5 percentage points interest rate hike announced by the United States’ Federal Reserve had reverberated around the globe, spurring other economies to hike rates.

The U.S. Fed raised its benchmark interest rate to a target rate range of between 0.75% and 1%, the largest hike in 22 years. The decision followed a 0.25 percentage point increase in March, the first increase since December 2018.

Like the US, other big economies of the world have raised their rates.

Monetary Tool

The interest rate is one of the key tools deployed by central banks across the world to manage the flow of money and productivity in their respective countries. A change in the interest rate could have an effect on macroeconomics and other key economic indicators like consumer spending and borrowing.

In Nigeria, the tool allows the apex bank to effect changes in broad monetary policies designed to facilitate the government’s planned fiscal policy.

Mr Emefiele explained on Tuesday that at the MPC meeting, six out of the 11 members of the committee voted to raise the key rate.

The committee also voted to retain the asymmetric corridor at +100 and -700 basis points around the MPR, just as it maintained the Cash Reserve Ratio (CRR) at 27 per cent.

The CBN governor argued that the sharp rise in inflation across both the advanced and emerging market economies has generated growing concerns among central banks across the world, adding that the progressive rise in inflation driven by rising aggregate demands and wage growth has put sustainable pressure on price levels.

Inflationary Pressure

The major determinant of the CBN’s hike in rate on Tuesday was the need to tame rising inflation. Until Tuesday, Nigeria hadn’t altered its interest rate since September 2020 when the CBN reduced the monetary policy rate from 12.5 per cent to 11.5 per cent.

In the midst of the global hike, the nation faces a dicey situation amid efforts to contain inflation, keep domestic prices stable, and ensure economic growth.

Mr Emefiele addressed this concern on Tuesday, thus: “On the need to tighten, MPC feels compelled that tightening would help moderate inflationary trade-off from the steady growth so far recorded and improve real GDP.

“It also feels that tightening would help rein inflation before it assumes the galloping frame considering the rising increase in headline inflation month-on-month.”

By hiking the interest rate to 13%, it is expected that borrowing would become more difficult and consumers would have less money to spend. By implication, amid lower demand among consumers, manufacturers of goods would be wary of raising prices. In effect, all of these would combine to reduce inflationary pressure.

But the hike could also fail to tame inflation if other macroeconomic indicators go wrong.

Manufacturers’ nightmare

A hike in interest rate is often considered manufacturers’ nightmare as it stifles productivity and expansion.

As the apex bank raises its rates to 13%, manufacturers hoping to borrow from banks may have been shut out of the windows due to the higher cost of borrowing amid falling demands.

When the benchmark rate was pegged at 11.5 per cent, banks typically charged manufacturers and other lenders between 12 to 30 per cent on loans. With the hike in rate (13%), the charges could skyrocket.

Earlier in the year, the Manufacturers Association of Nigeria had said the average rate at which its members borrowed money from banks was 20.75 per cent and 21.25 per cent in 2020 and 2019, respectively.

“It is important for the CBN to carry out a coordinated reduction in the monetary policy rate and lending rate,” MAN said in a statement.

Employment and Productivity

A hike in interest rate slows down productivity, as manufacturers struggle to keep machinery in operations and pay salaries. Those who look forward to borrowing for expansion and production would have to shelve such ideas in the face of the high cost of accessing funds. Persistent low interest rates favor larger companies because it allows them to increase production, employ more people, and expand. When the interest rate is hiked, the reverse is the effect.

In terms of job creation, a hike in interest rate could have effect—if marginal—on the number of jobs created or lost.

Unemployment Rate in Nigeria averaged 13.55 percent from 2006 until 2020, climbing to an all-time high of 33.30 percent in the fourth quarter of 2020. Even if the impact may not be significant in the immediate, the hike in interest rate and attendant fall in productivity could throw a number of people out of jobs.

Stocks, Bonds, and Forex

By default, low interest rates can cause the stock market to go up, just as the market records depreciation when the apex bank raises interest rates.

By implication, change in central banks interest rates affect prices of various assets such as bonds, stocks and houses.

READ ALSO: Nigeria’s central bank raises interest rate from 11.5% to 13%

In the case of Nigeria, the 13% increase in the central bank interest rates can negatively impact the prices of these assets, decrease household wealth, and weaken peoples’ appetite for borrowing and spending.

The exchange rate can also be affected by the increase in rates, because a hike in a nation’s interest rate relative to other countries makes the domestic currency denominated assets more attractive to foreign and domestic investors. This can lead to a rise in demand for the domestic country’s currency in relation to other foreign currencies.

Meanwhile, as domestic currency strengthens, imported goods would become cheaper while locally produced products would become more expensive in the foreign market. This could as well affect demand, and lead to reduction in foreign exchange earnings with possible impact on balance of payments.

In the case of Tuesday’s increase in Nigeria’s interest rates, it remains uncertain how much this would affect the nation’s foreign exchange in the light of the widespread hike in rates across different economies around the globe.

As of press time Wednesday, numerous central banks across the world have hiked their rates in the wake of the United States’ hike in rate earlier in the month. Like the US’ apex bank, the Bank of England increased interest rates from 0.75% to 1% in order to tackle soaring inflation that is expected to rise above 10% in the coming months. The bank also warned that the cost-of living crisis could plunge the economy into recession in 2022.

Similarly, Australia’s central bank as well as the Reserve Bank of India (RBI) raised their rates to accommodate the changing dynamics.