The market may have moved the focus of the protracted cash squeeze, momentarily despite the rise in interest rates, as the rate-fixing arm of the Central Bank of Nigeria (CBN), the Monetary Policy Committee (MPC) began its second meeting today.
Since May, when the current rate hike campaign began, the MPC, has raised the monetary policy rate (MPR) by more than 600 basis points (bps). With the current benchmark rate at 17.5 percent, economic agents are facing interest rates not seen in the past decade.
The policy rate remained at 11.5 percent from September 2020 until last May when rising inflation put pressure on monetary authorities. Since then, the rate has increased five times back-to-back even as the Governor of the CBN and Chairman of the MPC, Godwin Emefiele, emphasized that the aggressive increase will not stop until inflation eased.
But inflation remained very high, rising from 16.82 percent to 21.91 percent (which is more than 500 bps) when the MPC tightened the rate. Some analysts have questioned the effectiveness of the rate hike but monetary authorities say it could be worse.
Today’s meeting comes on the heels of the dilemma between sustaining high interest rates and a stable financial system. After the explosion of bank failures in the United States, there are concerns about whether the stability of the financial system will take precedence over concerns about high inflation.
Amid these concerns, global markets expect a hike in US interest rates on Wednesday when the Federal Open Market Committee (FOMC) ends its two-day meeting. A 0.25 percent increase would raise the upper bound on the Federal Funds Rate from 4.75 percent to five percent, which is ahead of the long-term target of 2.53 percent.
But the inflation rate is far from the two percent target, which Fed members say they are committed to achieving. High inflation rates are considered a major distortion of the economy with major consequences for long-term projects and growth prospects.
Single digit remains the CBN’s long-term inflation target, but the last time it did was in January 2016 when the rate was 9.62 percent. Since then, the inflation rate has been swinging between 11 and 22 percent, with last month’s print being the highest in decades.
Accepting high inflation or low interest rates is a policy option. But experts argue that these goals stop in theory in the modern economy. In Nigeria, for example, economists say that lateral constraints contribute more to inflation than the money supply, and that the government would do better to fix the obvious constraints to growth than to cripple the economy with unaffordable debt.
In addition, output growth fell from 3.4 percent in 2021 to 3.1 percent last year. The real sector, which supports employment, grew sharply with some sectors growing at less than two percent. Experts attribute the slow growth to growing challenges in the business environment and a sign that authorities need to do more to give economic players more headroom.
In recent weeks, the operating environment has been complicated by the cash squeeze, a challenge that not only limits consumption but also threatens to send cash-dependent informal players out of business. The implementation of a broad policy framework – naira redesign – has also created the CBN.
Economist, Prof. Ken Ife, told The Guardian yesterday, that the impact of the limited monetary space has been created in recent times as one of the reasons why the MPC may consider pausing in raising interest rates one day.
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“I don’t think the rate is too high. We should consider that other central banks are still increasing as well. But I think the MPC should pause the hike at this meeting. The hike could resume at the next meeting,” Ife said.
A pause could send a signal the inflation battle has been won or relinquished. February’s consumer price index (CPI) reading showed a month-on-month (m/m) change of 1.71 per cent, a slower climb when compared with the 1.87 per cent recorded in January, which suggested the intensity is weakening. Economists often use month-on-month changes in price to assess the current momentum of inflation. Unlike year-on-year (y/y) change, the m/m rate isolates the trend from remote base effects.
The core inflation (other items less volatile farm produce) also slowed from 19.16 per cent to 18.84 per cent y/y growth last month, underpinning the weakening aggregate demand.
Yet, the headline inflation (21.91 per cent) was the highest in recent decades, which deflates any argument the inflation war has been won.
A decision that suggests the CBN has given up on the inflation battle could also trigger fresh inflation expectations, which will worsen the inflationary pressure. Still, the MPC members may not want to give the impression they are insensible, which could reflect the content of today and tomorrow’s meeting. So, the prevailing economic condition may have made this meeting one of the trickiest the rate-fixing authority will hold.