What The CBN Might Do This Week As Emefiele’s Policies Flop
Pride they say often goes before a fall.
In the case of Godwin Emefiele, the Central Bank of Nigeria (CBN) Governor, it may be better described as hubris.
Emefiele (or the emperor) as we like to call him here at Nairametrics has wielded absolute power in the past 2 years or so since his ascension as head of the apex regulator.
The CBN has churned out mind-boggling proclamations ( for example there were 14 pronouncements on foreign exchange FX alone between November 2014 and February 2015) banning and unbanning cash deposits by Nigerians into domiciliary accounts, restricting 41 items from accessing forex from the Central Bank and so on.
Emefiele has defied all, from the IMF, to the World Bank, to rating agencies to domestic manufacturers and even seasoned economists on his monetary policy committee who have warned (and are still warning) of the disastrous consequences of his monetary policy thrust.
Now the chickens have come home to roost as the CBN has not only lost its credibility as an inflation hawk but also managed to drive economic growth to the lowest levels since 1999.
All these were achieved through Emefiele’s unorthodox monetary policy stance.
As inflation expectations rose, instead of hiking interest rate, Emefiele and other members of the MPC in a baffling move decided to cut rates and flood the system with liquidity to stimulate the economy.
In a move reminiscent of Venezuela’s socialist failed policies, Emefiele and his MPC band of magicians?, thought they could conjure the banks into lending by cutting the Cash Reserve Ratio (CRR) and making it applicable only for banks that would lend to these 4 sectors chosen by the CBN : Manufacturing, Agriculture, Industry and Solid Minerals.
They naively justified their (bound to fail) central planning policies by thinking they could fix the naira dollar rate at N197 per $1 by fiat, so that the excess liquidity they created would not lead to imported inflation.
However the results of these policies have been a spectacular failure.
The Inflation rate has spiked to 11.4 percent (February), while growth fell to 2.1 percent in Q4, 2015.
In essence Emefiele’s policies have put us into a very dangerous economic problem known as stagflation.
Central banks world over usually are faced with a choice of either sacrificing growth for inflation or vice versa.
So they often hike rates to cool down an overheating economy, and rising prices or cut rates to stimulate a slowing economy with the choice that they can live with some level of inflation.
Emefiele’s actions however have given us little to zero growth and rising inflation at the same time!!
What to expect from the MPC…
Scenario 1…Maintain Status quo (55% probability)
The CBN and MPC members, who are largely not economists but mostly academics, can choose to remain adamant, maintain the status quo and play the emperor without clothes despite evidence that shows the damage their policy is causing the real economy.
Scenario 2…Shift a little (35% probability)
The CBN and MPC members can recognize they have lost market credibility and begin to retrace their steps.
They might open a second FX window that non-essential dollar demand would be channeled to in a bid to close the gap between the official and black market rate.
The MPC members might also choose to tighten liquidity either by raising the monetary policy rate (MPR), and CRR or both.
The CBN may also begin to roll back some of its capital controls.
Scenario 3…Listen to sound economic judgment and unwind bad policies (10% probability)
The CBN at its next MPC meeting can choose to begin to listen to sound economic judgment, devalue the naira currency to a midpoint of N250 plus or minus 5% and move to a managed float regime.
The CBN may also remove most forms of capital controls.
The aim of the naira policy would be to maintain as little divergence as possible between the official and black market rates.
The CBN would begin to actively court foreign direct investments (FDIs) and Foreign Portfolio Investments (FPIs) again.
The CBN would raise interest rates and tighten liquidity to put a lid on inflation and attract flows to stem the naira rout.
The CBN would then begin to move towards a more empirical analysis of the economy as opposed to defending an unsustainable nominal naira dollar peg.
For example Standard & Poor’s in its latest ratings review for Nigeria notes:
“Nigeria’s monetary policy has also weakened the country’s credit profile, in our view. We now consider Nigeria’s foreign exchange regime as a fixed arrangement rather than a managed float. The Central Bank of Nigeria (CBN) has maintained a Nigerian naira-to-U.S. dollar bilateral exchange rate of NGN197: US$1 since February 2015 and statements by the CBN governor indicate the bank’s commitment to the fixed foreign exchange regime. In order to defend the exchange rate, the CBN has imposed foreign exchange controls on both current and capital transactions, including import restrictions on 41 categories of goods. Domestic production has yet to respond fully, leading to scarcity of some products such as refined fuel and some fast-moving consumer goods. Meanwhile, the naira has appreciated in real effective terms since 2010, hurting manufacturer’s external competitiveness. ”
We have spoken here on Nairametrics in the past about the need for our economic policy makers to know the difference between a real effective exchange rate (REER) and a nominal one like the CBN is trying vainly to defend.
Finally the CBN would accept the limits of monetary policy (in a structurally flawed economy like Nigeria’s) and begin to let fiscal policy do the heavy lifting in the form of fiscal stimulus.
This would enable the CBN go back to its core functions of fighting inflation.
I don’t know if the CBN Governor took ECN 101 as a University course, however he must know that just like Argentina and Venezuela, Nigeria’s unorthodox monetary policies are bound to fail (in fact they are already failing).
The laws of economics are not a respecter of Presidents or Emperors with or without clothes.