January 20, 2023/Cordros Report
The Monetary Policy Committee (MPC) of the Central Bank of Nigeria (CBN) is expected to hold its first meeting of 2023 on the 23rd and 24th of January. At this meeting, we believe the Committee remains faced with either maintaining its hiking cycle or keeping policy parameters unchanged. Therefore, we expect the Committee to assess the domestic and global economic environment in the context of developing key economic and financial indicators since its last policy meeting in November. In our view, the MPC is likely to be concerned about the pressure on the domestic economy, given the slow growth recorded in Q3-22, more so that the manufacturing sector posted its first contraction since Q4-20. Moreover, inflationary pressures remain intact, although the slight ease in December will likely be welcomed among the Committee members. Elsewhere, the prospect of global central banks embarking on smaller interest rate hikes could also influence the MPC’s decision to tow the same line amid concerns about the domestic economy. Thus, we expect the MPC to opt for smaller rate hikes in the short term, given the build-up of pressures in the local economy and as the risks of overtightening come to the forefront of policy discussions. Consequently, we expect the Committee to increase the MPR further by 50bps – 100bps and retain other policy parameters.
Domestic Growth Expected to Remain on a Growth Path, Albeit Slowly
Economic activities likely maintained their steady growth path, albeit slowly in Q4-22, given the flurry of activities in line with the festive season, amidst intermittent PMS scarcity and increased production costs. Indeed, we understand that the Composite PMI rose to 51.5 points in October before slowing to 49.0 points in November. Given the festive season in December, we imagine the Composite PMI rose slightly above the 50-point threshold in December. Meanwhile, crude oil production increased by 11.8% q/q to 1.35mb/d in Q4-22, synchronising neatly with the government’s efforts at curbing crude oil theft and vandalism.
On a balance of factors, we project the economy is likely to have grown by 2.14% y/y in Q4-22 and expect GDP growth of 2.44% y/y in Q1-23. Consequently, we expect the Committee to remain optimistic that domestic growth will stay on a growth path, albeit slowly. However, the notable contraction in the manufacturing sector in Q3-22 could serve as a source of concern to the Committee, highlighting the impact of increased production and borrowing costs on the real sector. Hence, the Committee is likely to highlight the need to strengthen output expansion and forestall the reversal of gains recorded so far by slowing down on the pace of rate hikes and maintaining the ongoing monetary and fiscal interventions in critical growth-enhancing sectors.
Inflationary Pressures Likely to Remain Sticky Despite High Base Effects
Headline inflation eased for the first time in 11 months, moderating by 12bps to 21.34% y/y in December 2022 (November: 21.47% y/y). The favourable base effects from the prior year mainly drove the slowdown. On a month-on-month basis, consumer prices rose by 32bps to 1.71%, reflecting the trifecta impact of (1) increased demand associated with the festive season, (2) intermittent PMS scarcity, and (3) elevated gas and other energy prices. The breakdown provided shows that food inflation slowed by 37bps to 23.75% y/y while the core inflation increased by 25bps to 18.49% y/y.
Nonetheless, we expect the Committee to acknowledge the year-on-year moderation in consumer prices and expect prices to moderate on a month-on-month basis in the short term after the festive-induced increase in December. Furthermore, the Committee is likely to call on the CBN to maintain its policy actions to ensure inflation is brought down to a comfortable level that spurs growth and investments. As in previous meetings, we expect the Committee to urge the fiscal authority to sustain its real sector interventions and take decisive steps in tackling the contributory legacy factors limiting food production and distribution in the country.
Local Currency Weakness Remain Intact
Foreign investors remain on the sidelines given the lack of FX reforms, higher global interest rates and weak macroeconomic narrative. In addition, CBN’s FX supply to the different FX market segments remains significantly below pre-pandemic levels. Meanwhile, the demand for the greenback remains high as market players continue to source for FX to fulfil and clear their outstanding obligations. Consequently, since the last policy meeting, the local currency depreciated by 3.4% to NGN461.25/USD at the official market (IEW) as of 18 January 2023.
However, given that the FX reserves remain within the CBN’s comfort level, we expect the Committee to highlight the need for the apex bank to maintain its periodic FX interventions and intensify its call to the fiscal authorities to amplify their efforts in ensuring higher crude oil production over the short-to-medium term. Accordingly, the Committee will likely reiterate that the CBN should address the pressures on the local currency by boosting the FX supply for productive activities.
Global Central Banks to Embark on Smaller Rate Hikes
Taking a cue from its last policy meeting, the US Fed is expected to slow down its rate hikes over the subsequent two sessions amid softening inflation numbers. To put in proper perspective, the US Fed currently projects the target range for the federal funds rate to settle at 5.00% – 5.25% by the end of 2023 (currently: 4.25% – 4.50%), suggesting that the interest rate tightening cycle could end in March or May depending on how much the US Fed increases the key policy rate at its February meeting. More encouragingly, the persistent slowdown in inflationary pressures, albeit still significantly above the Fed’s target, portends a strong case for smaller rate hikes as we advance. Elsewhere, the Governing Council of the European Central Bank (ECB) at its December 2022 policy meeting voted to raise interest rates by 50bps and expects to raise them significantly further given that inflationary pressures remain far too high and are projected to stay above the ECB’s target for too long. Similarly, when the MPC of the Bank of England (BOE) raised the Bank Rate further by 50bps to 3.50% at its last policy meeting in 2022, it stated that it would continue with the tight monetary policy if the outlook suggests more persistent inflationary pressures. Notably, the median expected path for Bank Rate in the latest Market Participants Survey (MaPS) now has a peak of 4.25% in H1-23 and will remain at that level throughout the remainder of 2023.
Based on the preceding, we believe the persistent hawkish rendition among global central banks will remain a major theme of discussion at this meeting, given the negative spill overs of the tight global monetary conditions. Consequently, we think the Committee will be concerned about the negative impact of capital outflows on the external sector, increasing the urge to introduce measures to send positive signals that it is intentional about bringing down inflation.
MPC to Raise Rates Further by 50bps – 100bps
All told, we now expect the MPC to opt for smaller rate hikes in the short term, given the build-up of pressures in the local economy and as the risks of overtightening come to the forefront of policy discussions. Consequently, we expect the Committee to increase the MPR by 50bps – 100bps and retain other policy parameters.
