Winners, losers of CBN’s interest rate cut on savings deposits

A new directive from the Central Bank of Nigeria (CBN) that slashes the minimum interest rate banks pay on savings deposits to 1.25 percent from 3.75 percent holds a mixed bag of fortunes for the economy.

While banks are expected to be the biggest beneficiary of the rate reduction as it boosts their profitability, Nigerian savers are going to be negatively hit.

Nigerian savers

By reducing the minimum interest rate on savings deposits to 1.25 percent per annum, the negative interest earned on deposits by Nigerian savers will widen to -11.5 percent from -8.7 percent when inflation rate of 12 percent is factored.

What this means is that if a person deposits N1 million in a savings account, while the money would have appreciated in nominal terms by N12,500 (1.25 percent) to N1.0125 million by the end of the year, the money would be worth 8.7 percent less in real terms.

With this in mind, Nigerian savers are perhaps better served looking for other ways to protect their savings from losing value. The problem with that, however, is the current subdued interest rate environment in the country.

Analysts say that the limited investment outlets available to savers due to the subdued interest rate environment may see interest in equities increase.

“We believe that some bank customers might be encouraged to take a second look at alternative asset classes such as equities,” analysts at Lagos-based FBN Quest said in a note.

“In our view, with most banks trading below book value, we believe that a significant portion of banks’ credit risks is already reflected in their share prices,” FBN Quest analysts said.

In addition, the dividend yields of some bank stocks will still be better than the 1.25 percent implied interest on savings deposits and the c.2 percent yield on T-Bill instruments and that could be another attraction.

The attraction of the equities market, which is down 5 percent this year, is, however, muted due to the risk involved.

Every other account holder in a bank will be faced with a wider negative real interest rate as this could also be a trigger for lower rates on fixed deposits.

Banks

Nigerian bank stocks gained by the most in three months Tuesday after the Central Bank of Nigeria (CBN) reduced the interest rate on savings deposits to a minimum of 1.25 percent per annum from 3.75 percent.

The rate reduction which became effective Sept.1 is expected to translate to increased profitability for banks as it reduces their cost of funds.

It means they can save money that would have gone into paying higher interest on savings deposits. Banks with already low cost of funds like Guaranty Trust Bank and Zenith Bank are, however, expected to benefit the least from the new directive.

The banking index, which tracks the share price movement of publicly listed banks in Nigeria, was up 1.25 percent, with the big banks gaining the most in three months, according to data from the Nigerian Stock Exchange (NSE).

Ecobank gained the most with a 6.4 percent gain Tuesday, the biggest jump in three months.

United Bank for Africa (UBA) was also up 4.8 percent Tuesday while Access Bank climbed 3.23 percent.

First Bank was up 3.06 percent while Stanbic IBTC gained 1.25 percent.

Zenith Bank and Guaranty Trust Bank rose 0.6 percent and 0.39 percent, respectively, on the day.

Given that savings deposits account for around 20 percent of the deposit liabilities of commercial banks, the new directive should be positive for banks in terms of a slight reduction in their overall cost of funds.

“All else being equal, our back of the envelope calculations indicate that on average, the cost of funds for our universe of banks could potentially decline by around c.50bps in Q4,” the FBN Quest analysts said.

“In terms of earnings impact, we estimate an average increase of around 8 percent in the 2020 Profit Before Tax (PBT) for our banks universe.”

They, however, add a caveat that the stringent rules around interest on savings make it doubtful that the impact will be that material.

Economy

If the lower rates translate to a reduction in lending rates and serve as an overall boost to lending to the real sector, then perhaps the policy is not so bad for the economy. After all, savers were already contending with negative real interest rate before the directive.

If it doesn’t translate to increased lending, then it’s hardly a win for the economy.