CBN’s Double-edged Sword on Public Sector funds

The decision by the Central Bank of Nigeria (CBN) to withdraw public sector funds from deposit money banks (DPM) up to 50 per cent is still generating controversies in the financial sector.

The apex bank has restricted the banks to keep only half of the funds, comprising deposits from all tiers of government, as well as monies from ministries, departments and agencies (MDAs).

Enforcement of the squeeze last week saw a huge withdrawal of about N1.2 trillion from the system, throwing the financial sector into a worrisome liquidity spin. In the money market, the Nigeria Inter-Bank Offer Rate (NIBOR – rate at which banks lend to one another) and lending rate have shot up.

Operators in the capital market have been identifying the policy as responsible for the current bearish trend.

Financial analysts said the hike and other tightening measures in the past may have led to a roll-back in credit expansion or higher cost of funds.

They are apprehensive that the latest CBN action could lead to a reduction in loan availability, while loans may re-price upwards, making them more expensive.

The 12-member Monetary Policy Committee (MPC) of the apex bank had, at its meeting on July 23, 2013 decided to withdraw 50 per cent of the funds from deposit money banks (DMBs) to its vaults, in a move it argued was aimed at stabilising the macro economy, especially the exchange rate. And two weeks ago, the Bankers Committee, an assembly of the chief executives of commercial banks and the CBN, at its 314th meeting approved the move.

But there are fears in the financial and industrial sectors of a backlash on the interest rate regime, and consequently, inflation.

Until the last BC meeting, CBN’s Cash Reserve Requirement or Ratio (CRR) policy regarding public funds was 20 per cent. But the CBN argued that on examining banks’ balance sheets, it discovered their liquidity ratio was too strong and there was too much liquidity in the system, hence a mopping-up was necessary to enable it achieve its primary mandate of stabilising the macro-economic environment. Group Managing Director of Zenith Bank, Mr. Godwin Emefiele told journalists that the CBN and the BC needed to agree on that position to ensure a stable foreign exchange regime.

The CBN’s decision has exposed the Achilles heel of the Nigerian banking industry as depending largely on public funds to survive. It also aims at tackling alleged huge corruption in brokerages paid to government officials and bank staff in the process of arranging public sector funds deposits.

The House of Representatives committee on Banking and Currency, which has been pushing for just such a policy shift for the past two years, was quick last week to laud the initiative. The committee’s chairman, Hon. Chukwudi Onyereri, disclosed last week that it has long been urging the CBN and other financial institutions, including the Chartered Institute of Bankers of Nigeria (CIBN) to embrace public sector funds withdrawal from banks so they (the deposit money banks) can re-focus on their core banking functions. “The withdrawal of public funds from commercial banks will force banks to look for alternative funds, which will, in turn, lead to offering better incentives to the public, including higher deposit rates and an increase in private sector lending,” Onyereri maintained.

But bankers are more apprehensive of the immediate effects of the new policy on lending interest rate and the industry, rather than be optimistic on what could be the medium to long-term effects that Hon. Onyereri envisaged. It is a double-edged sword, many of them posited. Already, banks have been adjusting their NIBOR in sync with the new CRR. Data from the Financial Market Dealers Association (FMDA) penultimate Wednesday showed that inter-bank rates rose generally to an average of 21 per cent, from an average of 12.5 per cent just a day earlier after the apex bank debited lenders’ accounts to meet the hike in the new CRR on public sector deposits. Specifically, call tenor leaped from 11.25 per cent on the Tuesday to 19.50 on Wednesday; 7-day tenor to 20.29 per cent; 30-day tenor from 12.33 per cent to 20.75 per cent; 60-day tenor from 12.62 per cent to 21.12 per cent; 90-day tenor to 21.50 per cent; 180-day tenor at 21.87 and 365-day tenor at 22 per cent.

Mr. Andy Ayabam, an ex-banker and Chairman, Benue Inland Revenue Service (BIRS) observed that “the effective cost of deposit by government agencies to a bank is now twice the agreed rate.” He explained that “if an agency of government deposits funds at the rate of 10 per cent, the effective cost of such a deposit will be 20 per cent since it is only half of such a deposit that is available to the bank to utilise.” According to him, the question the bank will have to internally ask is, “where/to who do we invest/lend out the deposit at rates in excess of 20 per cent in order to break even?”

While Ayabam endorsed the policy as, indeed, relevant, he saw the timing as inappropriate. The implication for the economy, he stated, is that the cost of doing business will go up as lending rates soar since government remains the major funds provider for the banks. He pointed out that “mid-tier banks would run to the inter-bank market to borrow at high interest rates. He noted that the rates had hit a high of 68 per cent last week largely due to panic, following the CBN action, and are likely to remain high in the days ahead.

He observed that while the policy seeks to curtail inflation, government itself has failed to provide the right atmosphere of infrastructure (stable power is key) and financial support even through its specialised lending institutions like the Bank of Industry, NEXIM and Bank of Agriculture to provide cheap accessible funding to the real sector. Banks, he warned, are likely to be lending at rates above 30 per cent per annum, a development he feared would impact on prices of goods & services negatively.

He explained further, “Banks with strong liquidity positions will enjoy the inter-bank market with bountiful gains. Banks with offshore affiliation will also leverage on it by drawing on their foreign idle or low interest deposits to trade in Nigeria by on-lending in safe/lucrative areas such as the inter-bank market and oil & gas etc. Big businesses will be forced to borrow from abroad, while the local banks act as guarantors, earning fees and other benefits in the transactions.”

He believed government may encourage banks by using a percentage of the same deposits to provide guarantees for, say certain key sector funding activities in order to reduce cost of doing business, while at the same time discouraging banks to hoard government funds for maximum selfish benefits.”

Moses Azege, a financial expert with SunTrust Savings & Loans Ltd, Abuja noted that “banks were hitherto not selling loans to mainstreet traders but to government through treasury bills.” The 50 per cent CRR squeeze, therefore, he said, “is a more effective way to further squeeze the banks’ loan-creating capacity, which will further squeeze mainstreet loan requirement .”

Azege listed possible reasons for the new monetary policy as including, protecting the naira exchange rate; checking demand-pull inflation, especially during the festive period; forcing banks to soak up available cash outside the system (deposit drive); squeezing banks from jumbo profits as seen recently; and making banks more disciplined in terms of politically induced loans.

He explained that there is so much “corrupt cash” out there looking for avenue to be laundered and this is having an adverse effect on the naira exchange rate. “You will agree with me that the EFCC surveillance policies have made keeping free money in banks suicidal,” he argued.

Moses Kyegh, a public affairs analyst argued that, “if only the naira would stop chasing the dollar, there would be some difference in the upward value of the naira.” According to him, “the CBN withdraws many billions of naira from the system but soon enough infuses the same system with a flood of cash right after collecting dollars for oil export and converting same to naira for the three tiers of government to chase the dollar.” This practice, he argued, is most injurious to the economy. Kyegh asserted, “nothing makes an economy more sick than the overnight rate at which banks lend to each other.”

The Managing Director/Chief Executive Officer, Financial Derivatives Company Limited (FDC), Mr. Bismarck Rewane advised banks to follow the alternative route of repurchasing maturing Asset Management Corporation of Nigeria (AMCON) bonds. “Banks will be expected to take one-off losses of N1 billion to N5 billion on this position, depending on the size of their public sector funds. Either way will lead to a squeeze in banks’ net interest margins. Accordingly, banking stocks are expected to be discounted further as earnings capacity declines. The total sum of money to be quarantined is N890 billion. The percentage of total debits (N890 billion) to M2 (broad money supply) is about 5.7 per cent, while the percentage of total debits (N890 billion) to total deposits is about 6.4 per cent. So average interest rates are expected to rise as liquidity is tightened,” Rewane said in a report.

The FDC boss argued that banks would be forced to sell their treasury bills and bonds in order to cover their position. The policy, according to him, would also see banks’ loan portfolio shrink due to trade-off between liquidity and profitability.

The Deputy Managing Director, FundQuest, Bisi Oni feared the rising NIBOR for both long and short lending rates may worsen the repayment of loans as ability of borrowers is constrained.

Oni, however, agreed the policy would help the naira. “The policy is in line with CBN’s inflationary control measure. It shows policy consistency of the CBN in support of monetary policy. But with the increase in interest rate, employers of labour may be constrained in engaging more hands since money borrowed to execute projects is borrowed from banks”

The nation’s capital market is not unaffected by the new policy, with market capitalisation and market index dropping fast. Between last Monday and Thursday, the market lost N294 billion as market capitalization closed on Thursday at N11.753 trillion, as against N12.047 trillion it opened with on Monday. The All-Share Index also dropped by 2.44 points, from 38,038.79 basis points to 37,111.64 points. Dotun Fakayejo of Enterprise Capitals attributed the drop in share value to the inconsistency of the CRR monetary policy and specifically, the increase from 20 per cent to 50 per cent and consequent withdrawal of huge funds from bank vaults.

Analysts at Partnership Investment Company Plc observed that “interest rates on deposits are inching up while lending rate is also on the increase. A stockbroker, Mr. Niyi Fatai told Sunday Trust, there was bound to be a change in market trend for the next few weeks.

The Managing Director and Chief Executive Officer of Lambeth Trust Limited, Mr. David Adonri urged the CBN to closely watch the impact of its action on the economy and be ready to take vital steps to guard against a liquidity crunch.

By Kayode Ekundayo, Kayode Ogunwale and Chris Agabi

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