Interest rate hikes have become CBN’s go-to strategy but what are the economic implications?

• The CBN has maintained its interest rate hiking stance for the fifth consecutive time in seven months
• The rate has an impact on the already fragile economy
• It also has implications for businesses and the stock market

At the Central Bank of Nigeria (CBN)’s 297th Monetary Policy Committee (MPC) meeting held on September 23 and 24, the committee decided to increase the Monetary Policy Rate (MPR) for the fifth consecutive time in seven months by 50 basis points (bps) to 27.25 per cent from 26.75 per cent in July.

According to the CBN governor, Olayemi Cardoso, the decision is to tame the persistent inflationary pressures and consolidate the gains recorded with previous rate hikes. The apex bank has often said its monetary tightening stance is aimed at reining in inflation, which soared to a new 28-year all-time high of 34.19 per cent in June but tapered in July after 19 months, declining to 33.40 per cent and further declined for the second consecutive month in August to 32.15 per cent.

At the last MPC, Cardoso reiterated the CBN’s stance, saying, “The committee noted the moderation in headline inflation year-on-year in July and August 2024. In addition, the MPC noted the relative stability and convergence in the exchange rate across the various market segments, resulting from the bank’s tight monetary policy stance. This is expected to improve confidence which will enable economic agents to plan in the medium to long term.

“The committee was, however, unanimous in recognising that a lot more is required to actualise the bank’s price stability mandate. The MPC noted that even though headline inflation trended downwards due to a moderation in food inflation, core inflation has remained elevated, driven primarily by rising energy prices. The uptrend poses severe concerns to members, as it clearly indicates the persistence of inflationary pressures.”

Cardoso also noted this recently while addressing members of the Harvard Club of Nigeria in Lagos on the topic, ‘Leadership in Challenging Times: Restoring Credibility, Building Trust and Containing Inflation,’ saying leadership is about making tough decisions.

“Our decision to raise the MPR to 27.25 per cent was bold. Higher interest rates, though challenging for borrowers, are necessary to reduce excess money in circulation and control inflation. Leadership is about making hard choices for long-term stability over short-term comfort,” he said.

Though the continued interest rate hike by the CBN is well-intentioned, seeing that it has helped slow down inflation in two consecutive months as well as reduce excess cash in circulation, which reached N107.1 trillion in August 2024, it comes with its impact on the economy.

Weakening of an already fragile economy

For an economy like Nigeria’s that is beset with multifaceted economic challenges such as low demand as a result of weakened purchasing power, depreciation of the local currency, poor revenue, increased unemployment rate, insecurity in most food-producing states, among others, further interest rate hike doesn’t bode well.

Given these peculiarities, a higher interest rate regime will further tilt the scale, especially on the demand side and supply costs will increase due to high import costs, high fuel and transportation costs and general hike in production costs.

The pass-through effects of these increases are transferred to consumers on the demand side of the spectrum as increased prices of goods and services, worsen local demand and erode the purchasing power of consumers.

Businesses will take a hit

On the business scene, especially for privately-owned businesses, economists and business analysts believe the interest rate increase by the MPC is detrimental to investment, economic growth and business operations.

Reacting to the MPC’s decision, the National President of the Nigerian Association of Chambers of Commerce, Industry, Mines and Agriculture (NACCIMA), Dele Kelvin Oye, said the decision will further burden businesses with higher loan costs and has failed to curb inflation or stabilise the naira.

He said, “As president of NACCIMA, I express concern over the CBN’s recent monetary policy rate hike to 27.25 per cent. This decision burdens businesses with higher loan costs, exacerbating their struggles and failing to curb inflation or stabilise the naira.

“We urge the CBN to engage with stakeholders for a collaborative approach, considering alternatives like targeted sector support, deficit reduction and promoting local production. 

“A reassessment of strategies is essential to ensure effective economic management and sustainable growth in Nigeria. Dialogue and innovative solutions are crucial for repositioning our economy.

“The increase is 50bps. It is not a material change. The narrative is actually the trend upwards. This is a confirmation that the previous high interest rate has not worked.”

On its part, the Centre for the Promotion of Private Enterprise (CPPE) said the decision will further exacerbate the already harsh operating environment for businesses and discourage investments in the country

Director/CEO of CPPE, Dr Muda Yusuf, said, “It is quite troubling that at a time when manufacturers, entrepreneurs and other investors in the economy are craving for a breath of fresh air, the CBN chose to tighten the noose on them by resorting to a further tightening of monetary policy.  

“The latest policy choice of the apex bank is at variance with the mood of most economic players and the desire to promote economic recovery and growth.   

“What manufacturers and other investors need at this time is some oxygen and stimulus, not policy measures that would worsen an already suffocating situation. 

“MPR at 27.25 per cent, CRR at 50 per cent and asymmetric corridor at +500 and -100 are very difficult monetary conditions to bear for most businesses, given the prevailing macroeconomic and structural conditions.”

The CPPE added that the rate increase is tantamount to making private sector operators pay the price for liquidity growth, urging the CBN to explore other measures of addressing the issue.

It said, “The implications of the latest MPC decision for investors are quite concerning as cost funds would be further exacerbated, possibly well above 35 per cent or more. It is made worse by the increase in CRR to 50 per cent and retention of asymmetric corridor of +500 and -100. 

“We believe that the policy decisions of the CBN are most inappropriate for the prevailing economic conditions and the challenges faced by entrepreneurs in the country.  

“The operating and production costs of businesses would be further exacerbated by the latest monetary policy tightening.  The increase in CRR to 50 per cent would constrain financial intermediation with negative consequences for the banking system and the economy.”

Shocks are reflected on the stock market too

The impact of the CBN’s interest rate hike is felt in the stock market. The investment landscape is impacted by the wave as borrowing costs are increasing, making it more expensive for companies to embark on new projects, finance existing projects or service debts. This ultimately takes a dig into companies’ profits as the cost of repaying loans becomes higher, especially in the real and capital-intensive sectors like manufacturing, oil and gas and industrial goods.

Also, higher interest rate will shift investor sentiments making fixed-income instruments like government bonds and treasury bills, which offer higher yields with lower risks, attractive to investors than equities investment.

Demand for equities will decline, moving capital away from the stock market to the fixed-income market as investors seek safer, stable and income-yielding assets in a high-inflationary environment.

Though Nigeria’s stock market has been resilient, it is still impacted by the shocks occasioned by the dual challenge of soaring inflation and higher interest rates.

Beyond increasing MPR, how else can CBN tame inflation?

Meanwhile, TheRadar reported that at its 296th Monetary Policy Committee (MPC) meeting, the Central Bank of Nigeria (CBN) increased the Monetary Policy Rate (MPR) by 50 basis points to 26.75 per cent from the May rate of 26.25 per cent to tame inflation.

TheRadar highlighted other ways the apex bank can tackle inflation beyond increasing interest rates, which some Nigerians describe as ‘textbook economics.’