MPC: Tightening Argument Overriding despite Strengthening Case for Easing

The Monetary Policy Committee (MPC) is set to have its 5th meeting of the year on the 18th and 19th of September, 2017. As has been the case with all meetings held so far in 2017, we expect the committee members to maintain status quo on policy rates as they sit to deliberate on recent happenings in the global and domestic landscape next week. However, we expect emphasis to be placed on the need to consolidate gains in the FX market whilst urging for more fiscal-monetary policy coordination to sustain recent improvements in domestic macroeconomic fundamentals. We highlight our thoughts on possible MPC considerations below.

Global Economic Conditions Still Favourable, but Medium Term Risk of Policy Tightening Persists
Since the last MPC meeting in July, the odds of a near term aggressive monetary policy tightening in advanced economies have slimmed considerably as officials of the US Fed, European Central Bank (ECB) and the Bank of England (BoE) softened hawkish rhetoric in response to economic disruption caused by natural disasters, heightening geological risk and increased uncertainty on Brexit negotiations. Dovish comments from Central Bankers have spurred bullish bets on financial assets globally, with US equity market benchmarks reaching new record highs on Wednesday while Emerging Market high yield credit spread hit their lowest level since 2007 as bond yields fell and prices rose.

Much to the delight of commodity-exporting countries, oil prices have been on a bullish run since start of the month, after initial scepticism that the production cut agreement between OPEC/Non-OPEC countries will do little to trim global supply glut, led to bearish bets in July. The rebound in prices is driven by quick restart of US refineries after Hurricane Harvey led to a closure of major oil refineries (estimated at 20.0% of U.S refining capacity) in August as well as report by the International Energy Agency (IEA) this week which projected rising demand for oil from OECD countries. The IEA raised its 2017 global oil demand growth estimate to 1.6mbpd from 1.5mbpd. On the supply side, recent shocks in supply volumes from the US and the lid placed on production volumes for OPEC and Non-OPEC members (ex- Nigeria and Libya) have kept prices above US$50.0bpd; hence the Brent crude currently trades at US$55.7/b as against US$48.84/b before the last MPC meeting.

Notwithstanding advanced economies’ recent cautious restraint on tightening pace and high oil prices, there are still downside risks to watch out for. The resurface of nuclear threats from North Korea, whose government have singled out the US and Japan as possible targets, will continue to rattle markets in the near term, while improving economic fundamentals in the US and EU could yet prompt hawkish comments from US Fed and ECB officials.

Slower Non-Oil Sector Growth in Q2:2017 Not Sufficient for Policy Easing
In the domestic landscape, the release of several economic data since the last MPC meeting have mirrored our current positive outlook for the Nigerian economy. The National Bureau of Statistics (NBS) released Q2:2017 GDP figures last week which confirmed expectations already formed from leading macroeconomic and market indicators such as Purchasing Managers Index (PMI) data, oil production volumes, FX liquidity and company earnings. The report showed GDP expanded by 0.55% Y-o-Y in Q2:2017 - much in line with our estimate of 0.6% - compared to a contraction of 0.9% Y-o-Y in Q1:2017 (revised downward from earlier estimate of –0.55%). Growth was largely driven by the Oil sector which rebounded 1.6% Y-o-Y from a contraction of 15.6% in the prior year on the back of an improvement in oil output. Non-Oil sector growth however unexpectedly trimmed to 0.5% in Q2:2017 from 0.7% recorded in Q1:2017. Whilst we are of the view that slower growth of the Non-Oil sector, despite improving FX liquidity and recent drive to boost Agriculture sector productivity, will strengthen the case for policy easing from dovish members of the MPC, we reason that the hawkish argument may be overriding given the need to sustain recent gains including increased FPI and FDI inflow.

The tightening stance is further supported by the NBS’ recently released Foreign Trade Statistics data for Q2:2017 which indicates a positive trade balance for the second consecutive quarter, albeit trade surplus slimmed Q-o-Q on account of faster growth in imports relative to exports. The report showed aggregate trade for the period summed up to N5.6tn, indicating a 37.3% increase Y-o-Y and a 7.7% increase Q-o-Q. Trade Balance for Q2:2017 came in at a surplus of N506.5tn (N3.1tn in exports vs. N2.6tn in imports) from a deficit of N572.1tn in Q2:2016, but lower than N719.4tn surplus recorded in Q1:2017. Our outlook on trade balance remains positive given the cessation of attacks on oil & gas installations in the Niger Delta region and improvement in oil production.

Although the improvement in external sector variables and tepid growth of Non-Oil sector may impose a temptation for policy easing, yet, we believe MPC would maintain status quo next week given the need to consolidate gains on stabilizing FX and inflation rates. Our expectations are based on the following considerations:

  • Price level remains sticky as high base effect thins out: the National Bureau of Statistics (NBS) Inflation report for August released today indicated Headline inflation marginally decelerated 3bps to 16.01% Y-o-Y from 16.04% in July. M-o-M CPI growth have remained elevated since the start of the year against the backdrop of a food price pressure which took Food Inflation to an all-time high of 20.3% in July 2017. With the economy now running out of high base effect driven moderation in headline inflation, our model projects inflation rate will rise for the first time since the start of the year in September. Given supposed price-anchored monetary policy regime, the MPC is not likely to cut benchmark rate in a period of rising inflation expectation.
  • MPR has become a less effective Monetary Policy Tool: the case for easing via benchmark rate reduction becomes weaker if the current disparity between the benchmark rate and short-term fixed income yields is taken into consideration. More so, the Apex Bank has gradually resorted to the use of short-term instruments (OMO and T-bills) to guide the economy on a path of easing.

While our medium term outlook favours a gradual monetary easing, we believe the stabilization of the FX market is paramount to achieving monetary policy objectives. The FX market despite improvements recorded so far in the year, it still is in a fragile state as the CBN is yet to harmonize all rates at the official market. As such, in the event that a unified rate is not achieved, monetary easing poses a threat for FX stability. Furthermore, the current realities of Nigeria’s budget deficit, suggests the need for the fiscal authorities to continuously fund this disparity which current tightening stance enhances; though at a higher cost to government.

In light of the above, the more rational decision we foresee the MPC making is to maintain status quo and continue to consolidate on gains in the FX market. Hence, we believe the outcome of the 5th MPC meeting would be to;

  • Retain the MPR at 14.0%;
  • Retain the CRR at 22.5%;
  • Retain the Liquidity Ratio at 30.0% and
  • Retain the Asymmetric corridor at +200 and -500 basis points around the MPR.


Afrinvest West Africa