11th October, 2011
In a move that takes key players in the financial industry by surprise, but which signified its determination to stop the freefall in the value of the naira, the Central Bank of Nigeria (CBN) on Monday raised its benchmark interest rate, the Monetary Policy Rate, MPR by 275 basis points, from 9.25 per cent to 12 per cent and also upped banksâ€™ Cash Reserve Ratio (CRR) which is the proportion of banks total deposits held in cash balance with the CBN from 4 to 8 percent.
Initial expectation was that CBN will raise rates by 100 basis points at Mondayâ€™s extraordinary meeting of Monetary Policy Committee which was called in response to depreciation in value of the naira.
CBN also reduced net open positions lenders can hold as reserves to 1 percent of shareholders funds, from 5 percent. The CBN expects the measures to reduce the quantity of naira in the system available for purchase of the dollar.
The MPR is the nominal anchor of all interest rates in the economy. It is the rate at which the CBN gives loans to banks and therefore has direct influence on the level and direction of change in interest rates.
Thus, with the increase in MPR, depositors can to get higher interest on their deposits, but will lead to higher interest rate borrowers. The central bank kept its 200 basis point corridor around the benchmark rate, so its recommended deposit rate is 10 percent and its lending rate is 14 percent.
The measures announced today will also lead to rise in yields on bonds will also rise, meaning that the government will pay more for its local debt while raising the cost its borrowing and that of other players in the bond market.
Yerima Ngama, Nigeriaâ€™s the Minister of State for Finance had earlier said today that interest rates had to rise to make government instruments more attractive and to support the naira.
“The committee recognized the need to remain very clear on the bank’s primary mandate and maintain the credibility it has established so far by sending strong signals on price and exchange rate stability,” Lamido Sanusi, the Governor of CBN said.
“In the face of the specter of declining oil prices, declining foreign reserves, increased demand for foreign exchange, fiscal dominance and capital flow reversals, monetary policy must bear a larger burden of economic adjustment in the short-term,” he added.
Reuters report that the naira again bowed to the dollar in the interbank market and weakened at the central bank’s official auction window on Monday, as CBN failed to meet the demand. The apex bank sold $400 million at 156.91 to the naira, short of the $736.94 million demanded and at attractive levels for dollar buyers than at the interbank market where the local currency touched an all-time low of 167.40.
CBN has tried to support the naira against the dollar since the beginning of the year, raising interest rates six times and selling dollars at bi-weekly auctions but without much success. Naira had lost more than eight percent of its value in about two months.