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Why MPC Hiked Interest Rate

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CEM REPORT, ECONOMY | The Central Bank of Nigeria (CBN)’s MPC on Tuesday raised its Monetary Policy Rate (MPR) (interest rate) by 400 basis points from 18.75 per cent to 22.75 percent after eight months in a roll. This is according to the communique delivered by the Governor Central Bank of Nigeria, Olayemi Cardoso on Tuesday at the end of the first MPC meeting presided by the Governor.

CBN also adjusted the asymmetric corridor around the MPR to +100/-700 from +100/-300 basis points while Cash Reserve Ratio (CRR) was raised from 32.5 per cent to 45.0 per cent. Liquidity Ratio was retained at 30 per cent.

CBN’s consideration for this highest MPC rate ever was anchored on the need to stabilize prices to enable economic growth. The decision was centered on the current inflationary and exchange rate pressures, projected inflation, and rising inflation expectations. Against every other consideration regarding the trade-off between the pursuit of output growth and taming inflation, the committee was convinced that an enduring output expansion is possible only in an environment of low and stable inflation.

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Some analysts have maintained that achieving effort to lower inflation just by upward adjustment of interest rate can be an effort in futility if fiscal and other economic factors are not in commensurately in place. Raising rate is theoretically meant to mop up liquidity from the system.

However, MPC was convinced by two major factors to raise rates. The first is that previous hikes had impact in lowering inflation though not large extent.

“In the opinion of MPC, the options available for decision was to either hold or hike the policy rate to offset the persisting inflationary pressure. Considering the option of a hold policy, the evidence revealed that previous policy rate hikes have slowed the rise in inflationary pressure but not to a desirable extent. Members considered various scenarios of hold and hike, and concluded that, inflation could become more persistent in the medium-term and thus pose more regulatory challenges if not effectively anchored. The balance of the argument thus leaned convincingly in favour of a significant policy rate hike to drive down inflation substantially”; CBN said in the communique.

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Secondly, the MPC was convinced that the ongoing reforms in the foreign exchange market will yield results in the medium term.

“…however, convinced that the ongoing reforms in the foreign exchange market will yield the desired outcome in the short to medium term. Some of these reforms include: the unification of the foreign exchange market; promotion of a willing buyer willing seller market; removal of all limits on margins for IMTO remittances; introduction of a two-way quote system and the broad reforms in the BDC segment of the market to restore stability, enhance transparency, boost supply, and promote price discovery in the Nigeria Autonomous Foreign Exchange Market (NAFEM)”; CBN said.

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