On Tuesday, the 27th of February, 2024, Nigerians were greeted with the news of changes to the Central Bank of Nigeria’s key policy parameters. The introduction of a 4% hike in the benchmark policy rate was announced by the governor of Nigeria’s apex bank, Olayemi Cardoso, at the first Monetary Policy Committee (MPC) meeting of the year.
This pronouncement has become a point of interest among Nigerians on social media; many are at a loss regarding what the CBN seeks to achieve with these adjustments. X user, @monsieur_avril commented, “Economists had in 2023 advised that the CBN refrain from raising the MPR further. The issues in monetary and foreign exchange policies, structural components of inflation and inflation expectations have weakened the effectiveness of MPR as a tool to control inflation.”
For some others, these unfamiliar terms are tripping up the alarms in their head. Most Nigerians hold a widespread sentiment: “How will the new MPR hike affect me?” So, in typical PiggyVest style, we’ve decided to break down this new CBN policy for you.
Let’s deconstruct the key policy parameters
The Monetary Policy Rate (MPR) is the benchmark interest rate the CBN uses to give loans to deposit money banks. The Central Bank lends money to banks facing temporary funding problems, or as a last resort when they are confronted with a crisis, like the risk of collapse. The MPR is also used by commercial banks and other financial intermediaries (OFIs) to determine their own lending interest rates. The other day, the MPR was raised from 18.75% by 400 bps (basis points) — which is just financial jargon for 4% — to 22.75%. The MPR also influences the rate banks are expected to pay on customer savings deposits. Banks are expected to pay a negotiable minimum of 30% of the MPR on customers’ savings deposits. The higher the MPR, the greater the reward for savings and investments. So, see the MPR as a tool used by the Central Banks to regulate the money supply in the economy.
Let’s look at the other interesting terminologies in this mix. The Cash Reserve Ratio (CRR) was also modified from 32% to 45%. The CRR is the minimum ratio of total cash deposits banks are required to deposit with the CBN as reserves. This helps ensure that banks do not run out of cash to meet the demands of their customers. Say a bank receives total deposits of ₦1 billion in a day. This new CRR requires the bank to deposit ₦450 million in cash with the CBN for safekeeping to be able to meet their customers’ payment demands and operate risk-free.
The Liquidity Ratio (LR) is the metric used to gauge a bank’s health. It is the amount of cash a bank has and/or assets that can be easily liquidated (converted to cash). The CBN retained the old LR, which mandates banks to have no less than a 30% liquidity ratio; a bank with a lower figure than this might be considered unhealthy.
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Then, the Asymmetric Corridor was also adjusted from +100 bps and -300 bps to +100 bps and -700 bps. The “Asymmetric Corridor of +100/-700 basis points around the MPR” is just a technical way of saying that the CBN will lend to commercial banks at 23.75% (22.75% + 1%) — recalling that 100bps is equivalent to 1%. On the other hand, the CBN will borrow from commercial banks at 15.75% (22.75% – 7%).
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Expected outcomes of this new policy
1. Anti-inflationary measures
The overarching objective of this new policy is to reduce the money supply and slow down inflation in the economy. According to Mr Cardoso, evidence showed that the previous rate hike announced by the then-acting CBN governor Folashodun Shonubi in July 2023, from 18.5% to 18.75%, slowed inflationary pressure, but not to a satisfactory level. These adjustments to the MPR seek to address the persistent inflation by controlling Nigeria’s money supply.
2. Reduced cash in circulation
The new, increased CRR means that banks will have even less cash available to give out business loans. Widening the Asymmetric Corridors is the CBN’s strategy to discourage borrowing by banks unless absolutely necessary. Making cash expensive to get will lead to less borrowing, and less borrowing equals less money in circulation. With less money in circulation, inflation is expected to reduce.
3. Possible reduction in prices
Theoretically, when there’s less demand for goods and services, producers may be compelled to lower their prices to stimulate sales. This downward pressure on prices helps to reduce inflation rates. In the case of Nigeria, the impact on the cost of production will be a huge determinant of price direction.
4. Increased deposits/investments
For savers, a higher MPR is a big plus, as this hike in interest rates will also determine the interest on their fixed deposits and other savings. An increased MPR means that banks will also need to adjust the interest rates for savers. It is also a green flag to investors who are characteristically enticed by higher interest rates on government-issued treasury bills and bonds. With an influx of foreign investments, the CBN will reach its goal of stabilising the FX rates even quicker.
Potential demerits to Nigerian consumers and businesses
1. Increased borrowing costs
An MPR hike will affect the prime lending rates, i.e., the interest rate commercial banks charge their most creditworthy customers. Note that a 22.75% MPR doesn’t imply that commercial banks will start lending money at a 22.75% interest rate; the MPR is used as a point of reference to derive their own interest rates.
At the previous MPR of 18.75%, commercial banks were lending at a 25% to 30% interest rate. This new policy could put the latest interest rates of commercial banks at around 30% to 35%. This may not pose much of a problem for commercial banks. But for loan companies, the new MPR may lead to more customers defaulting on their loans, forcing them to find alternative sources of generating revenue. This will make credit even less available to the average Nigerian.
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2. Decline in economic growth
As it becomes more expensive for businesses to borrow money, they may be forced to downsize or explore other avenues to manage their costs. Others may mark up the prices of their goods to account for the hefty interest rates they have accumulated due to borrowed funds. Affected businesses could also record even lower revenues due to a decline in the demand for their services, which could ultimately lead to the foreclosure or demise of their companies.
What does the future hold for Nigerians?
This is not the apex bank’s first attempt to tackle inflation by hiking its Monetary Policy Rates. The past CBN governor, Mr Emefiele, failed to accomplish this goal despite multiple adjustments to its interest rates. This begs the question, “How will things be any different this time?”
The major driver of headline inflation in Nigeria is food inflation. Despite a brief remission in 2023, food inflation once again rose to 35% in 2024, and headline inflation peaked at 29.9%. Despite their lack, Nigerians will once again have to find ways to renew their optimism and brace for a period of adjustment, in the hope that this policy is the gateway to the change we’ve desired for far too long.
