How CBN’s loan to deposit ratio policy spurred bank credit growth

Access to finance and financial inclusion has been of growing interest throughout the world, particularly in emerging and developing economies.

According to the World Bank policy makers are increasingly concerned that the benefits produced by financial intermediation and markets are not being spread widely enough throughout the population and across economic sectors, with potential negative impacts on growth, income distribution and poverty levels, among others.

In Nigeria the Central Bank’s policy on Loan to Deposit Ratio has resulted in a significant growth in credit to various sectors from N15.57 trillion to N19.33 trillion between end-may 2019 and the end of August 2020, an increase of N3.77 trillion.

This growth in credit was mainly to manufacturing (N866.27 billion), consumer credit (N527.65 billion), oil & gas (N477.65 billion), agriculture (N287.11 billion) and construction (N270.97 billion).

Access to credit by the private sector is crucial to the growth and development of the Nigerian economy, analysts said.

In his five-year policy thrust, Godwin Emefiele, governor of the Central Bank of Nigeria (CBN) said the Bank was working to encourage banks and financial institutions to lend from their balance sheet in order to support the growth of critical sectors of the economy, such as Agriculture, Micro Small and Medium Enterprises (MSMES) and the real estate sector.

“Greater emphasis on improving consumer spending and business investment by MSMES is critical to sustainable double digit growth of the Nigerian economy,” Emefiele said.

On June 2019, the Central Bank announced a new policy measure, which required Deposit Money Banks to maintain a minimum 60 percent Loan to Deposit Ratio (LDR).

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The objective was to grow the economy through making credit available to the real sector of the economy.

At the end of the last quarter of that year, the Nigerian banking sector recorded the most credit growth to the real sector of the economy in almost five years, hitting N17.1 trillion in the fourth quarter of 2019.

To further spur growth in the economy, CBN in October 2019 raised the LDR of banks to 65 per cent, after the September 30 deadline given to the banks to meet its 60 per cent directive.

In his personal statement at the last Monetary Policy Committee meeting, Adamu Edward Lametek, deputy governor of CBN, said several policy measures which the CBN had implemented prior to, and since the outbreak of COVID-19, have continued to have tremendous effect.

In particular, he said the Differentiated Cash Reserves Requirement (DCRR) and the minimum LDR, have ensured a significant stream of credit to the real economy. As at end-august 2020, aggregate bank credit had risen by about N3.7 trillion relative to its level in May 2019, when the LDR policy was introduced.

He said the outlook for credit to the economy remains positive given that these policies are still in place and, importantly, that the banking industry continues to be resilient.

The industry’s non-performing loans ratio further declined in August 2020 to 6.1 per cent from 6.4 per cent in July, while capital adequacy ratio (CAR) rose to 15.3 per cent from 14.6 per cent in July.

In assessing the impact of the policy on the banks, Olalekan Aworinde, Senior Lecturer, department of economics, PanAtlantic University, Lagos, said the banks really felt the heat as some of them were not able to meet up with their customers demand in terms of withdrawals and also it is a pointer that banks need to recapitalize.

Another challenge to the banks, he said was that there is the possibility of the loans going bad and as such reduce the expected earnings of the banks.

“Also noticable is that because of the increase in LDR ratio some banks ventured into other businesses so as to spread their risks,” he said.

To the economy, Aworinde said the multiplier effect is not visible, because majority of the banks lend at double digit interest rate and coupled with the structural and cyclical changes in the Nigeria space affect the overall effect of the LDR policy.

“The objective has not been totally achieved, because the borrowers do not have substantial collateral securities and this still hampers their access to finance,” he said.

He said the government needs to create enabling environment for SMES to thrive so that it will engender growth and all parties will benefit, without this, growth will be stunted.

Focused implementation of the LDR policy over the last year continues to promote credit growth to the real sector and lower deposit and lending rates, – which supported banks’ net interest margins, said Aishah Ahmad, CBN’S deputy governor in charge of financial system stability.

CBN Staff reports presented at the last Monetary Policy Committee (MPC) meeting showed prime lending rates declined (15.40 per cent in August 2019 to 11.76 per cent in August 2020), in sync with money market rates (1year NTB rate from double digit in 2019 to 3.30 per cent in August 2020) and Open Buy Back rates (from 12.35 per cent in August 2019 to 8.22 percent in August 2020).

This lower interest rate environment coupled with improved credit conditions survey which indicated that more households are accessing finance presents an opportunity to further increase credit to the real economy at lower cost, critical to driving the much-needed recovery.

She said the industry however remains exposed to macroeconomic fragilities, given the uncertain business environment, exchange rate fluctuations and other spillover effects of the pandemic. Thus, the Bank must sustain its vigilance and deploy its prudential tool kit as required to ensure the sector continues to support the domestic economic recovery.

To the economy, Aworinde said the multiplier effect is not visible, because majority of the banks lend at double digit interest rate and coupled with the structural and cyclical changes in the Nigeria space affect the overall effect of the LDR policy ‘

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