March 23, 2009
23 March 2009: The Nigerian Central Bank (CBN) today arbitrarily announced in a circular that it will from April 1 impose maximum deposit and lending rates of 15% and 22% respectively on all its banks, cementing its growing reputation as one of the most erratic central banks in the world.
This panicked decision comes in the wake of concerns that recent double and triple digit percentage increases in deposit and lending rates by some of the country's local banks may indicate that the country's ongoing bank liquidity crisis may be worsening. Rather than helping to ease the liquidity crisis, the arbitrary imposition of interest rate controls will severely exacerbate it. While Nigeria's largest banks will actually gain deposit market share in the short-term, the move could signal the death knell for a few middle-tier banks that are nearly insolvent. The profitability of the country's banking sector will also take a structural hit. Nigerian Central Bank Governor Chukwuma Soludo (who is tirelessly fighting to be re-appointed to another 5-year term next month) has clearly abandoned all pretences of a basic belief in market-based economic mechanisms.
In an attempt to control a surging liquidity crisis that has engulfed its banking system, Nigeria's Central Bank (CBN) announced in a circular (BOD/DIR/CIR/01/24) that it will from April 1 until the end of 2009 impose maximum deposit and loan interest rates of 15% and 22% respectively on its entire banking sector. All other fees charged by banks are also not to exceed 2%. The CBN ostensibly imposed these new measures to arrest the localized effects of the global financial crisis. In the short term these measures will in fact exacerbate the liquidity crisis. In the longer-term, the measures will reduce the Nigerian banks' profitability and help create an unregulated 'shadow banking system.' The measure considered in the context of other heavy-handed measures imposed by the CBN in the forex market, as well as recent statements by the CBN Governor Chukwuma Soludo that he 'doesn't care about foreign investors' signals that the CBN may be abandoning its recent philosophy backing forays into liberal market-based approaches and embracing more statist top-down, non-market based approaches to managing the economy. In aggregate, the CBN moves essentially reduces the total amount of private sector credit as all of the country's banks will adjust their lending patterns to compensate for the loss of autonomy in pricing their loan products.
Since August 2008 while the average deposit rate at most Nigerian banks has hovered around 11%, many of the country's cash strapped middle-tier banks have increased their deposit rates by averages ranging from 40% to 113%. Also bank lending rates have surged as banks have re-calibrated the risks associated with cyclical sectors such as real estate, oil and gas and shipping. By imposing an arbitrary price ceiling on bank deposits and lending the CBN will effectively distort the ability of banks to adjust their interest rates to reflect the underlying risks associated with lending to a particular sector or borrower. In effect, the banks may simply decide not to lend to certain risky (and yet economically vital sectors such as construction and oil and gas) for fear that the 22% CBN imposed price ceiling on lending rates (when risk adjusted for the 30% currency depreciation and other inherent and emergent risks) will not adequately compensate their depositors.
Nigeria's credit crunch is simply going to get worse with today's CBN decision.
On the deposit side, because of the nearly 600 basis points differential between the average deposit rates of banks like Standard Chartered or UBA (at around 6%) and others like GT Bank and Fin Bank (at 17%), the effect of the circular may very well lead the large banks who can afford to pay lower deposit rates to increase those rates to the regulatory maximum of 15% in order to compensate their shareholders and depositors for the impending loss of market autonomy to lend at whatever markets rates they deem fit. This adjustment process will crowd out the middle-tier and smaller banks - many of who currently need deposits desperately. Many rational depositors will place their funds at large, marquee-name liquid banks with hundreds of branches throughout the nation, rather than with the smaller or middle-tier banks that will now be unable to adequately compensate their depositors for the added risk premiums associated with placing funds with them. Essentially this CBN circular will strengthen the large liquid banks, and severely contrict the ability of the middle-tier and smaller banks to compete for deposits and loans. By taking such a market-distorting measure without much discussion or public debate or warning in the middle of a worsening liquidity crunch, (where a few banks are already suspected of potential being on the brink of insolvency), the CBN is simply being reckless.
Unless this circular is rescinded soon, Nigeria will soon develop an even more risky unregulated 'shadow banking system' where market rates will apply between borrowers and lenders. The country's growing shadow 'black/gray' forex market is an example of what happens when basic laws of economics are violated by monetary authorities.
Sebastian Spio-Garbrah
Analyst, Middle East and Africa
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