Monetary Policy, Looking Ahead, By Ifeanyi Uddin
“Calm before a raging storm”! This was how a participant at a discussion, last week, described the state of the economy. I am privileged, every week before the Central Bank of Nigeria’s (CBN) rate-setting committee’s meeting, to sit at a table where bank treasurers and their economist friends dwell on the fortunes of the economy. One such session held, Friday, last week, to dimension today’s meeting of the CBN’s Monetary Policy Committee (MPC).
Last week’s session agreed that ahead of the MPC meeting, the main numbers on the economy are good. Headline inflation moved up a tick in April (from the May count), as food prices headed north. Not much surprise here, in the light of the continuing insurgency in key farm areas in the north of the country. Core inflation numbers, on the other hand, moved sharply in the wrong direction. Nonetheless, all these numbers remain well within the now-important single digit band. Listening to the bankers at the meet, industry liquidity did not come across as a near-term risk. Although liquidity remains “robust” (that is how one of them put it), much of it is the result of improved portfolio inflows. So the potential for adversely affecting money market rates is muted.
Conversely, we have seen marginal improvements in our external reserve numbers. Not too long ago, I was asked to explain the obsession with relatively large reserve numbers. Ought not the concern to be with establishing reserve balances consistent with a “decent” import cover? Or better still, one that is able to support the economy’s balance of payments needs over the medium- to long-term? The meeting last week did not advert it’s attention to any of these questions. Consensus, though, was that reserve numbers had benefitted from a 6 – 7% jump in the nation’s crude oil production.
“Are we, then, in a good place?”, one of the participants in the dialogue asked. The statement by the CBN governor-designate (he resumes in June) that he would do all in his power to hold-off speculative punts on the naira was interpreted as having helped calm the markets. Apparently, the slowing down of headwinds generated by concerns over the effects from the easing of unconventional monetary policies in developed markets also had a sanguine effect on the economy.As a result, we have seen reversals of the outflows which commenced mid-last year, and carried into the first quarter of this year.
With the Nigerian carry trade (the practice of selling currencies in economies with relatively low interest rates and using the proceeds to purchase currencies in economies with higher yields in the hope of capturing the rate difference) one of the most profitable around (although much of it is still at the short end of the market) portfolio investors have dribbled back in. On the back of these, domestic demand for foreign exchange has eased considerably in the last couple of months. Indeed, about two weeks ago, foreign exchange rates at the interbank market almost converged with rates at the official auction.
On this reading, the consensus at last week’s meeting was that monetary policy has not been particularly responsible for holding the course. A collocation of fortuitous circumstances has conspired to create favourable monetary conditions in spite of the CBN’s best efforts. So, is there anything that the apex bank can do to improve domestic monetary conditions?
It was agreed that the next big “trigger” for the markets will be the party primaries ahead of next year’s general elections. Depending on the outcome of these primaries, investors could once again make an uncontrolled dash for the exit (doors and windows). “Outcome” was defined to include not just the character of the eventual candidates, but the nature of the processes by which they emerge. The more democratic and transparent these processes are, the better. And vice versa – any form of “violence”, though will be a primary worry.
What instruments are available for the CBN (through today’s meeting of the MPC) to address this concern? And how big is the room available for deploying these instruments? How high, for example, can domestic interest rates still go? The CBN’s balance sheet haemorrhaged red ink last year following the huge sums it spent intervening in the open market. Can it proceed down this route later this year?
Agreement was that the CBN will need to build a sizeable war-chest ahead of these potential head winds. One big enough to easily accommodate fleeing portfolio investors. Given that the markets might allow the incoming CBN governor a two months honeymoon, the meeting I was at last week agreed that there is enough time for the CBN to put in its response ahead of the markets. Still, since the CBN’s default contingency plan is to sell money anyway, in designing its war-chest, “how” it sells this money, in the months ahead (in response to diverse pressure points) will matter more than the size of its interventions!