Africa’s largest economy entered the new quarter with a strong likelihood of following the same old story, namely COVID-19 headwinds, recessionary trends and widespread local and global market uncertainty.
What are the chances of a plottwist?
In a year full of twists and turns, the Central Bank of Nigeria (CBN) surprised investors with a 100 basis point interest rate cut from 12.5 percent to 11.5 percent. The monetary policy signal is a green light for more affordable lending which could stimulate economic growth and temper recessionary pressures. However, the same green light could speed up the inflationary pressures which weigh on the economy.
The currency markets may view the CBN’S rate cut as a sign that monetary policy no longer prioritises foreign investors seeking high returns on deposits.
Read also: Negative growth would have been worse if not for CBN intervention, say analysts
Until now, the CBN’S hawkish monetary policy helped to maintain and grow the banking system’s foreign currency reserves, providing the Naira with a cushion against further weakness. The current weakening global and domestic economic outlook does not support a high-interest rate environment in the short term. Faced with a protracted recession or runaway inflation, the CBN appears to have chosen the lesser of two evils. The central bank’s latest statement indicates that high interest rates have not been successful in checking inflation, which the CBN blames on structural factors like rising fuel and electricity prices.
This raises the question of why an Oil-producing country faces inflation in fuel and electricity prices when fossil fuels are locally produced and ought to be more affordable. The answer is the strange economic distortion created by COVID-19. In this case, Nigeria applied to borrow $3.4 Billion from the IMF in order to bail out the economy because of the COVID-19 pandemic. The money will have to be repaid – cue a hike in electricity tariffs to increase government revenues from utilities and bolster its repayment capacity. This would be credit-positive as the last thing Nigeria needs in such extraordinary times are doubts over its creditworthiness.
Weaker global Oil prices make Nigeria’s creditworthiness even more of an important factor because the state is hardpressed to cover its budgetary needs in the current climate of low demand for crude Oil.
Now that the CBN has put checking inflation lower down in its priorities, does this signal further rate cuts in the near future?
The case for further pandemic-driven rate cuts appears to be strong. The COVID-19 outbreak shows no signs of abating. On the contrary, at the time of writing, the number of new cases in Nigeria is on the rise after lockdowns eased. Further monetary stimulus to the economy appears unavoidable.
Of course, it all depends on what happens with inflation. If the inflation rate keeps rising in sectors like fuel, electricity and food it may drag on consumer spending, outstripping the economic benefits of lower interest rates. Medical costs have also risen because of COVID-19, according to the August inflation statistics.
