Interest rate hike pushes borrowers to danger line  

The Central Bank of Nigeria (CBN)-led Monetary Policy Committee (MPC) raised the benchmark interest rate by 150 basis points from 11.5 per cent to 13 per cent per annum.

Market analysts insist that the first interest rate hike in two and half years was meant to tame inflation, raise investors’ confidence and support the ailing naira. But it also came with heavy consequences for public and private sector borrowers, who will now pay more for loans and face  increasing risk of default.  

Not many people saw the shocking decision of the Monetary Policy Committee (MPC) to increase Monetary Policy Rate (MPR)- benchmark interest rate- from 11.5 per cent to 13 per cent coming.

The impact of that decision is already reverberating across different market segments, the fixed income and equities, including uptick in loan cost in the coming months.

The MPC decision was the first rate hike in 70 months- since July 2016. The MPC also voted to retain the other parametres at: asymmetric corridor +/- 100/700 basis points around the MPR; retain the Cash Reserve Ratio (CRR) at 27 per cent. 

The MPC decision to raise the benchmark rate was supported by concerns to rein in inflation, moderate capital flow reversal and strengthen the weak naira which is currently trading above N610/$1 at the parallel market. 

 According to the Central Bank Governor, Godwin Emefiele, the Committee decided to hike interest rates after careful consideration of the need to strike a delicate balance between containing inflationary pressures whilst supporting economic recovery and mitigating capital flow reversals associated with global central banks’ normalisation of monetary policy.

On domestic growth, the Committee highlighted the sustained economic growth momentum in first quarter to 3.11 per cent year-on-year and attributed it to the spillover effect of continued policy support on aggregate consumption expenditure. Farther out, the Committee expects output growth to continue, albeit at a much-subdued pace, given the unfolding pass-through impact of domestic and external shocks on the economy. 

In his response, an economist and Managing Director, Financial Derivatives Limited, Bismarck Rewane, said  the MPC decision was supported by concerns to rein in inflation, moderate capital flow reversal and strengthen the weak naira which is currently trading above N610/$1 at the parallel market. 

“The hike in interest rates, which is larger than expected, signals the commencement of monetary tightening. In line with the global trend, the CBN is committed to mopping up excess liquidity as a means of tackling demand-pull inflation believed to have been precipitated by its intervention programs aimed at supporting post-pandemic economic recovery,” he said in a rapid response to the policy shift. 

He expressed concerns that the current inflationary pressure is largely a supply shock phenomenon, which could require structural policy arsenal to contain. “Furthermore, interest rate hike is expected to raise cost of borrowing for both government and private firms, while increasing their risk of default. On the other hand, it could help reduce speculation activities in the forex market as the currency begins to appreciate,” he said. 

For the Founder/ Chief Executive Officer, Center for the Promotion of Private Enterprise (CPPE), Dr. Muda Yusuf, the outcome of yesterday’s MPC meeting was not unexpected because of the intense inflationary pressures, the increasing risks to price stability and the policy tightening trend by Central Banks globally.

He explained that what the interest rate hike means for the economy is that the cost of credit to the few beneficiaries of the bank credits will increase which will impact their operating costs, prices of their products and profit margins.  He noted that investors in the fixed income instruments may also benefit from the hike, while there would be some adverse effects on the equities market.

According to him, the primary mandate of the CBN is price stability. Unfortunately, he noted, numerous headwinds had posed significant risks to this critical CBN objective. He listed some of these to include the surge in commodity prices and impact on energy cost; spike in domestic liquidity from electioneering related spending and global supply chain disruptions.

Therefore, given the foregoing factors, the hike in MPR is understandable.  However, whether this would significantly impact on the inflation is a different matter.  Already, Yusuf further said, bank lending has been constrained by the high CRR-  the discretionary debits by the apex bank, the 65 percent Loan to Deposit Ratio [LDR] and liquidity ratio of 30 percent.

Yusuf, the immediate past Director-General of the Lagos Chamber of Commerce and Industry (LCCI), explained that the Nigerian economy is not a credit driven economy, unlike what obtains in many advanced economies which have much higher levels of financial inclusion, robust consumer credit framework and strong correlation between interest rate and aggregate demand.  

“The level of financial inclusion in the Nigerian economy is still quite low, access to credit by households and MSMEs is still very challenging, and the informal sector accounts for close to 50 per cent of the economy. Presently, lending situation in the economy is very tight. The transmission effects of monetary policy on the economy are therefore still very weak.   In the Nigerian context, price levels are not interest sensitive.  Supply side issues are much more profound drivers of inflation,” he argued.

Yusuf listed key drivers of inflation in the Nigerian economy to include: liquidity challenges in the forex market which is affecting access to manufacturing and other inputs; supply chain disruptions resulting initially from the pandemic and now deepened by the Russian – Ukraine conflict; security concerns disrupting agricultural output; climate change effects on agricultural production and structural constraints affecting productivity in the agricultural value chain and manufacturing.

Others, Yusuf listed as high transportation costs which is affecting distribution costs across the country; high and increasing energy cost; monetisation of fiscal deficit (CBN financing of deficit) which is highly inflationary because of the liquidity injection effects on the economy; high transactions costs at the nation’s ports; high import duty on intermediate goods and raw materials and aggressive revenue drive by government agencies which is taking a toll on cost of production.

He charged managers of the economy to put in place measures to curb the current inflationary pressure, by fix the following: address the security concerns causing disruption to agricultural activities; reform the foreign exchange market to stabilise the exchange rate, reduce volatility and stimulate forex inflows.

Furthermore, Yusuf said there is the need to address forex liquidity issues through appropriate policy measures; fix the structural problems to boost productivity and competitiveness of domestic firms; address the challenge of high transportation and logistics cost and reduce fiscal deficit monetisation to minimise incidence of high-powered money in the economy.

Analysts from Cordros Capital said the hawkish rendition among global central banks further compelled the MPC to make a U-turn on its pro-growth objective to mitigate capital flow reversals and stem currency pressures.

“It is imperative to note that the decision of the MPC is in line with the actions of Central banks on the continent. For context, the Bank of Ghana (BOG) voted to increase the Monetary Policy Rate (MPR) by 200bps to 19.00 per cent at its May policy meeting. Similarly, the Monetary Policy Committee of the South African Reserve Bank (SARB) raised the repo rate by 50bps to 4.75 per cent at its May meeting, while the Central Bank of Egypt recently raised the deposit and lending rate by 200bps apiece to 11.25 per cent and 10.25 per cent respectively,” he said. 

“In our opinion, the MPC has opted for a proactive stance by front-loading rate hikes at this meeting instead of a gradual increase in the MPR. We believe concerns about the domestic economy’s health and the need to ease the burden on government financing costs will make the Committee hold off on further rate hikes in the next two meetings in July and September.” 

“However, we have pencilled down a 100bps hike in the MPR at the last meeting in November. In the interim, we expect the CBN to sustain the use of its development finance initiatives to ensure the rate hike does not derail the fragile recovery,” the analysts said.

They said the outcome of this meeting will trigger another round of selling activities in the fixed income market on the long end of the yield curve, advising investors to remain wary about duration risk given our expectations of a tight monetary posture from the CBN, as evidenced at this meeting. 

On equities, they said negative sentiments to dominate market performance in the short term. “Indeed, the stock market shed 1.82 per cent at the close of the market today, the most significant single-day loss since Dec 1, 2021 (-1.81 per cent). We think this was triggered by a knee-jerk reaction from investors, given that rising financial institutions yields typically make equities less attractive,” they said.