Pre-MPC Note: Moderating Risks Create Room for Accommodative Policy Stance

The second meeting of the Monetary Policy Committee (MPC) of the Central Bank of Nigeria will hold between 25th and 26th March 2019. Since the last meeting, global and domestic economic conditions have remained favourable. On the global scene, monetary policy is now accommodative, supporting the return of investors into Emerging and Frontier markets. On the domestic scene, growth has improved, inflation is moderating, and external reserves have strengthened due to a surge in capital inflows post-elections. Despite these tailwinds, we believe the CBN would maintain all policy rates to manage the delicate balance between growth, inflation and exchange rate stability. 

External and Domestic Economic Conditions Upbeat
Central Banks in advanced economies have held off on further interest rate hikes and economic stimulus is gaining steam due to the slowdown in the global economy. This is the case for the US Fed, which retained all policy rates this week. Similarly, the ECB intends to sustain monetary stimulus until inflation nears the 2.0% target and growth recovers. We are seeing progress in the US and China trade spat which was suspended for negotiations in December 2018. The deadline to reach a trade agreement elapsed on March 1, 2019. However, both countries have extended trade negotiations and there is rising optimism on the possibility of a trade deal that works for both parties.  In the United Kingdom, BREXIT continues to fuel uncertainty about the economy. Prime Minister May’s BREXIT deal was rejected by the parliament and there is now an even possibility of a no deal BREXIT or a delay till mid-year.

In Nigeria, recent economic data releases by the National Bureau of Statistics (NBS) show sustained positive momentum in the economy. Economic growth reached 1.9% in FY:2018, the highest in three years. This performance was mainly due to the non-oil sector which expanded by 2.0% while the oil sector grew slightly by 1.1%. Similarly, consumer prices have remained stable, with inflation decelerating to 11.37% and 11.31% respectively in January and February 2019. For the external sector, the performance was mixed in Q4:2018. While the current account balance staged a recovery to positive territory at 1.0 % of GDP in Q4:2018 from -1.4% in the previous quarter, capital importation was weak at US$2.1bn compared to US$2.8bn in the prior quarter. This was not unexpected given domestic political risks and monetary tightening in advanced economies which spooked investors. Upon the conclusion of the Presidential election in February 2018, political risks have receded. We observe that a stable political environment and accommodative monetary policy have renewed foreign investor's interest in the Nigerian market, with the money market as destination. Post-elections, yields have moderated by 47bps and activity level in the I&E Window between February and March till date has strengthened by 11.3%. Consequently, external reserves increased by US$977.6m to US$43.5bn between February and March 2019. This has supported continued exchange rate stability and we expect this to be sustained in the short-term.

MPC to Retain all Policy Rates
We expect the MPC to hold all policy rates at current levels in next week’s meeting: Monetary Policy Rate at 14.0%, Cash Reserves Ratio at 22.5% and Liquidity ratio at 30.0%. Although the case for monetary easing has become compelling, the CBN is more comfortable using OMO instruments to guide yields rather than the MPR. This has already resulted in a moderation in average T-bills and bond yields to 13.2% and 14.2% respectively. However, this strategy is unlikely to be supportive of growth given that interest rates in the real economy would remain high. Although members expressed concerns about the fragile state of the economy in the last two MPC meetings, we believe the power to adjust yields to attract and sustain capital flows as and when needed supersedes this. We do not see the possibility of a rate hike due to weak economic growth, which remains below population and long-term growth rates of 3.0% and 7.6% respectively.