CBN LEADING ECONOMY TO HARD LANDING - FDC

By NBF News

By  Babajide Komolafe
Subsidizing the naira, and keeping a cap on inflation is one thing, strangling growth is another. The CBN is now treading on a tight rope that could lead the economy to a hard landing.

This is the conclusion of the Financial Derivatives Company Limited in its review of the recent decision of the Central Bank of Nigeria (CBN) to further tighten money supply.

The Monetary Policy Committee (MPC) of the apex bank at its July 24th meeting increased cash reserve requirement (CRR) of banks by 400 basis points (bpts) per cent from 8.0 per cent. The CRR is the portion of total deposit banks should keep as cash. It also reduced the amount of foreign exchange banks should keep per time (net open position limit, NOP) to 1.0 per cent from 3.0 per cent.

Commenting on these decisions, FDC said, 'The impact of a 400bps hike in CRR is expected to significantly affect the lending ability of banks. The amount of cash that banks have to keep with the CBN will increase, thus lowering the volume available for transactions.

'As a result of this, we expect borrowing costs for individuals and companies to increase by an estimate of 2-5 per cent. According to the CBN's annual report for 2011, total bank deposits were N6.86trn. Using this figure as a proxy, the initial CRR of 8% led to an estimate of N548.8bn being withdrawn and kept with the CBN; at 12 per cent, N823.2bn will be deducted.

'Thus, the 400bps hike will reduce bank deposits available for lending by an estimate of N274.32bn, a quicker way of mopping up liquidity. This could lead to an additional increase in banks' cost of funds by about 100- 150bps. Also, the withdrawal of liquidity is expected to push money market rates higher than their recent levels.

' The reduction in the NOP will result in banks having less forex to trade with. This, we expect will increase the demand pressure at the inter-bank market and a possible widening in the spread between markets. Notwithstanding, we expect a relatively stable naira in the short term in view of the 200bps reduction in banks' NOP.

'Nigerian Interbank Offer Rates (NIBOR) rose by about 200bps on July 25th in an initial response to the hike in the CRR. The Open Buy Back rate (OBB) rose to 16.08 per cent  from 14.92 per cent , while 60-days fund rose to 19.21 per cent  from 16.46 per cent.

The naira also strengthened across all market segments. At the interbank market, the naira traded at N158.6 per dollar, the strongest point since May 2012. At the official and parallel market, the naira traded at N155.84 per dollar and N163 per dollar.

The amount of forex sold on the 25th declined to $217.07m from $300m at the last Dutch auction. This was as a result of many banks bidding with their new NOP limit and pumping more dollars into the system (providing support for the naira).

'After the initial buzz of the CBN's move, money market rates have stabilized back to their normal trend, averaging 16 per cent as at July 31th. The naira also weakened against the dollar at the interbank market to trade at N160.7 per dollar, erasing the gains made as a result of the CBN's decision.

'The naira remained flat at the official and parallel market. The initial gain was short-lived as end- users rushed to take advantage of the lower currency price and this in-creased the demand pressure on the dollar. Subsidizing the naira, and keeping a cap on inflation is one thing, strangling growth is another. The CBN is now treading on a tight rope that could lead the economy to a hard landing.'