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CBN money supply policies compound Nigeria’s woes

Discretionary CRR deductions causing more harm than good

In the last four years, the Central Bank of Nigeria (CBN) in its bid to defend the naira at all cost, has relied mostly on unconventional policies. These unorthodox policies have birthed even more to fix the shortcomings of prior policies, with the costs outweighing the benefits to the general economy.

The CBN incurred over N3 trillion in interest payments between 2018 and 2019 from selling over N22 trillion worth of Open Market Operation (OMO) bills – a short term money market instrument it uses to control money supply in the economy. Towards the end of 2019, OMO bill issues were targeted at foreign investors after banning non-banks, local corporates and individuals from trading. This was in a bid to encourage dollar inflow at mouthwatering rates to lessen pressure on the naira due to growing dollar demand.

Now, with the COVID-19 induced plunge in oil prices resulting in low foreign reserves for Nigeria, the CBN now realises that its stock of OMO bills of over $55 billion at high yields of 12.2 percent to 15.3 percent, of which foreign investors account for about a third of the stock is no longer sustainable. In fact, some foreign investors have their dollars trapped and can’t get out given the CBN’s dollar demand management strategy in a difficult time like this. This has caused foreign investors to shun the auction of OMO bills so far this year.

Due to the inability to mop money supply at such a high cost, the CBN has resulted in debiting banks who breached the 27.5 percent Cash Reserve Ratio (CRR) and 65 percent Loan to Deposit Ratio (LDR) directives in order to discourage banks from buying OMO bills off foreign investors trapped in Nigeria.

The CRR represents a minimum amount banks are expected to retain with the CBN from customer deposits while the LDR represents a minimum amount that the bank must lend to the private sector from customers’ deposits.

The CBN’s discretionary Cash Reserve Ratio (CRR) deductions as a tool to mop up liquidity from the banking sector when its OMO tool has failed, damaging its balance sheet with high but unsustainable interest pledges is not only unacceptable but also unprofessional.

This year alone, the CBN has debited Nigerian commercial banks a total of N2.2 trillion for breaching. Debits in this manner will squeeze banks’ profitability and reduce their incentive to lend even in a period when lending to the private sector is needed to boost economic activities following the impact of the COVID-19 pandemic.

Prior to these deductions, the Nigerian banking sector has had to deal with a higher CRR and LDR, leaving them with little to trade with.

In January 2020, the CBN attributed the reason for raising the CRR to inflationary pressure in the economy. Also, it attributed the increase in LDR to the need to spur lending to the private sector. Raising CRR when trying to boost lending is counterproductive. An increase in CRR reduces the amount of money available to banks to lend which ultimately affects their interest income.

Also, the new CRR has done nothing to curb Nigeria’s spiralling inflation which has risen to 12.40 percent as of May 2020. This is because Nigeria’s inflation is explained by increase in the cost of commodities amid shortage and increased cost of production rather than too much money pursuing few goods. The rise in Nigeria’s inflation is the aftermath of the government’s policy to close the land borders coupled with the disruption of supply chains after COVID-19 slammed the brakes on trade locally and globally.

Overall, the CRR experiment of the central bank has yielded no positive results. It is estimated that banks would have made N86 billion in net profit on the N2.2 trillion debited from their accounts by the CBN.

This is rather detrimental to banks and may hinder the part banks have to play in providing the required boost the Nigerian economic needs to recover from the negative impact of the COVID-19 pandemic.

To a large extent, the success of an economy depends on the competence of its policymakers and regulators – and in these unprecedented tumultuous times – on its fiscal and monetary authorities. When the visions of these principal agents are myopic, then crises of different forms and degrees are imminent. This is the Nigerian case and the reason for its woes over the years.

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