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PRE-MPC COMMENTARY - Cost-benefit analysis discourages monetary easing

Cost-benefit analysis discourages monetary easing                                                         

At its first meeting in 2018, the Monetary Policy Committee (MPC) of the Central Bank of Nigeria (CBN) opted to retain the base rate at 14%, its level since July 2016, to support disinflation and exchange rate stability. Whilst exchange rate has ramined stable on the back of the “Investors & Exporters” window and healthy oil earnings, pricing dynamics have waxed stronger since then, evidenced by a sizable drop in inflation from 14.3% y/y in February to 12.5% y/y in April. At the same time, Nigeria’s Q1’18 GDP growth came in unexpectedly low at 2.0% y/y (Vetiva: 3.4% y/y), with the non-oilsector particularly weak. Thus, the progress in attaining price and exchange rate stability shine a light on a competing requirement of monetary policy in modern Nigeria: stimulating economic growth. This is the narrative the MPC must consider at this week’s meeting, but we hold the view that despite the recent disinflation, concerns over the impact of H2’18 fiscal activities on inflation and doubts about the efficacy of policy easing at stimulating economic growth would convince the MPC to opt for another HOLD decision.                                                         

The strongest case to ease monetary policy rests on the disinflation seen so far (and the view that MPR is now needlessly high), as opposed to the effect of easing on economic growth. But considering the less optimistic outlook on medium-term inflation, as well as the need to preserve capital flows in an era of monetary policy normalization in the developed world, a rate cut is too risky to justify – particularly given the doubts over its ultimate impact. Therefore, we expect the MPC to hold all policy levers at their current levels, and our medium-term forecast is for this status quo to persist into 2019 unless inflation continues its downward trajectory till the end of the year.