• Global GDP growth is projected to remain flat in the medium term. Growth in 2023 was estimated at 3.1%, which is also the projected growth for 2024.
• Although inflation is expected to fall in 2024 due to the tightening stance of Central Banks and the slow growth of fiscal spending, these actions are expected to weigh on growth in 2024.
• As noted by the International Monetary Fund (IMF), global growth in 2024 and 2025 is still below the historical annual average of 3.8% from 2000 – 2009.

• Global GDP growth remains fragile with the tensions in the Middle East, the ongoing war in Ukraine, the slowdown of China’s economy and a high interest rate environment which limits output expansion. These events raise uncertainties in the commodity markets and have negative implications on global trade. While emerging and developing economies are expected to post better growth outcomes, countries in the Euro Area will exhibit sluggish growth mainly due to low productivity and high interest rate.
   
• The attack on vessels in the Red Sea following the Israel/Palestine conflict is having an impact on trade and shipping costs. Already, global shipping companies are rerouting vessels from the Red Sea. This comes at an additional cost, which is borne by shipping and insurance companies. If such attacks persist, the impact will be severe across the world as these costs will be passed on to the consumers. The attacks could also trigger a food and energy crisis, especially in East African economies that rely on the Red Sea for imports and exports. Moreover, the budgets of many African countries are severely pressured as many countries are at risk of debt distress. Essentially, African countries and many countries elsewhere may not be prepared for another fiscal and social crisis as seen during the COVID-19 pandemic. Therefore, the international community will need to find a peaceful resolution to forestall the brewing crisis in the Middle East/Red Sea.
   
• Monetary policy remains tight across advanced and developing economies. Central Banks are observing the trend of inflation, which is still above target in many countries. In the US, the Federal Reserve kept rate unchanged at 5.25% to 5.5% in the two meetings held so far in 2024. Although inflation rate has started to fall, the Fed is expecting to see more positive data on inflation before reducing interest rates. The disruption in global trade could exacerbate inflationary pressure in advanced economies. Hence, Central Banks may keep interest rates high in the short term. This is expected to constrain capital flows into African economies unless the policymakers in these economies raise rates to encourage inflows. For the US in particular, the Fed indicated that it could reduce interest rates later in 2024. This will depend on the performance of inflation.

• In 2024, we expect a real GDP growth of 2.98%, higher than what was achieved in 2023. Our optimism is based on the expectation that policymakers will continue to implement crucial reforms relating to foreign exchange, aimed at restoring investors’ confidence. Improved performance of the oil sector will support growth while key sectors such as finance and information & communication will continue to post high growth figures in the year. Nevertheless, the tough operating environment will persist due to the slow pace of ease of doing business reforms. A major risk to growth is the falling consumer purchasing power and limited investment in the real sector, exacerbated by the challenge of insecurity in some parts of the country.

Inflation

• We share an equally optimistic view regarding inflation. We expect that inflation rate will decline going into H2 2024 as households and businesses adjust to the FX and subsidy reforms. We believe that efforts to ensure exchange rate stability are yielding results, especially with the reforms by the CBN and the increase in crude oil production. Furthermore, the implementation of the dry-season farming initiative and the supply of input to farmers will also contribute towards price stability in the medium term. Other factors such as infrastructure deficit, supply chain bottlenecks, port charges, etc. are prevalent and are significant downside risks to our projection. Overall, we expect inflation rate to average 27.1% in 2024.

• Upon assuming office in September 2023, the governor of the Central Bank of Nigeria (CBN), Mr. Olayemi Cardoso, was met with a pressured exchange rate, declining external reserves and an FX backlog estimated at US$7 billion. In responding to these challenges, the governor assured stakeholders of the Bank’s commitment to achieve a single FX market. Some measures announced by the governor included lifting the ban on the 43 items, the review of the guidelines for International Money Transfer Operators (IMTOs) and Bureau de Change (BDC) operations and clearing the valid FX backlogs it inherited from the previous administration.
   
• These measures, coupled with improving oil production, have resulted in significant gains in the FX market. Exchange rate volatility has reduced; turnover in the FX market increased to US$6.4 billion in February 2024, and external reserves maintained an upward trend.
   
• In light of these, we expect the CBN governor to continue efforts to win back investors’ confidence. The apex bank will need to contain the excessive growth of the money supply and ensure transparency and clear communication on foreign exchange policy. The bank needs to temporarily halt Ways and Means and transfer its developmental lending activities to fiscal authorities.

• In July 2023, the Central Bank reduced the Cash Reserve Requirement (CRR) for merchant banks from 32.5% to 10%, freeing up more funds for risk asset creation. This reduction in the CRR was an expansionary move, which provided room for increased allocation of funds towards development financing initiatives.
• At the Monetary Policy Committee meeting in March 2024, the CRR was raised by 400bps to 14% as part of broad efforts to tame growth in Money Supply. The hike in the CRR implies that merchant banks will have less cash to deploy towards the creation of risky assets. Thus, the hike in the CRR reduces their lending capacity as a higher percentage of deposits will be held as reserves with the Central Bank.
• With reduced lending capacity, merchant banks could raise interest rates on new loans, thus making refinancing activities more expensive for project financiers and businesses. On the other hand, merchant banks could allocate more funds to short-term government securities, especially as yields on risk-free instruments rise above 20%. Overall, we believe the hike in the CRR and the MPR could depress demand for credit. However, the effect of the CRR hike is expected to be milder on merchant banks than on commercial banks, given the huge disparity between their respective CRRs.
• In addition, it is important to note that the 400bps CRR hike could be a pointer to further tightening measures in the merchant banking space. A surge in foreign exchange transactions could call for new policy directives like the Net Open Position (NOP) limits for commercial banks. Thus, merchant banks could remain under regulatory surveillance over the near term.

• The MPC’s decision to raise the MPR and CRR reflects the intense focus on price stability in this new inflation-targeting regime. Since the last MPC meeting in February 2024, the inflation rate has increased by 1.8 percentage points to 31.7% in February 2024. The CBN MPC, therefore, raised rates further to contain this upward-trending inflation. There is also the potential benefit of attracting portfolio investments into the country, which, if realised in large volumes, could positively impact the country’s exchange rate. In the last few weeks, the exchange rate volatility has eased owing to several reforms, including BDC regulations, clearing FX backlogs and improving oil production. We believe such stability in the exchange rate and appreciation in the currency will be important in bringing down the inflation rate in the near term.
• On the CRR, a much higher CRR affects banks’ ability to offer credit facilities to businesses. Combining a CRR of 45% for commercial banks with a liquidity ratio of 30% and an MPR of 24.5% suggests slower credit growth to businesses and may constrain the real sector. We note that this is a cost that the economy will have to face in the short term as the CBN seeks to achieve stable prices.
• Going forward, the fiscal authorities will need to step up in addressing non-monetary drivers of inflation. The dry-season farming initiative is a good step in the right direction as it could increase the supply of agricultural products in the medium term. Infrastructure deficits, poor power supply and insecurity are critical issues for the fiscal authorities to address. The CBN will also need to temporarily halt Ways and Means – lending to the government. Raising rates and increasing lending to the government is counter-intuitive and the cost will be borne by businesses in the form of higher borrowing costs and inflation. Fiscal authorities need to raise finance from non-CBN sources. Aggressively reducing oil theft, exploring solid mineral exports and curbing illegal mining are some options. We believe that having a positive real interest rate – where interest rates are higher than the inflation rate – is ideal; and fiscal and monetary authorities must collaborate to address inflation, one of Nigeria’s biggest economic problems.

• The FGN Bond and Treasury Bills markets experienced a significant yield rise in 2024. The average yield in the FGN Bond market increased from 14.13% on the first trading day of the year to 19.29% (as at 26th March). Meanwhile, yields in the Treasury Bills market increased at a much higher rate to 17.67% (as at 26th March) from 6.29% at the beginning of the year. This follows the unprecedented rise in the monetary policy rate by 600 basis points so far in the year to 22.75%, thereby pushing up yields across markets.

• The banks with international authorization have a huge task to meet the new requirements. Within this category, the least amount to be raised is N229 billion (Zenith) and the highest amount is N384.2 billion (UBA). We note that Access Holdings had announced plans to raise N365 billion through a rights issue. We believe that other banks will make such a move, implying an active capital market in the medium term.
• In addition to issuing ordinary shares to the public, many banks will target the inflow of foreign capital to leverage Nigeria’s weaker currency. This could also serve as an avenue to increase foreign participation in the NGX. Banking stocks are expected to react positively to the review.
• We expect increased mergers and acquisitions in Nigeria’s banking industry in 2024 – 2026. There will be fewer but stronger banks in Nigeria as some banks might be unable to independently meet the capital requirement.
• We believe that the timeline of 2 years is short and could add immense pressure on banks. The CBN will need to engage stakeholders to obtain their feedback going forward.

• With the restriction of the capital raising exercise to share capital and share premium, merchant banks, like their commercial bank counterparts, cannot rely on their robust retained earnings to plug the funding shortfall. With none of these banks listed on the Nigerian Exchange, the plausible source of funding could be equity injections via private placement or mergers and acquisitions. Banks that are affiliated with international firms such as Rand Merchant Bank*, could take advantage of capital injections from parent companies. 
• Although merchant banks are much smaller compared to national commercial banks in Nigeria, the recapitalization exercise is necessary to deepen their contribution to trade facilitation and infrastructural development in the Nigerian economy.
• Overall, the recapitalization exercise seeks to strengthen the industry’s balance sheet, and position these banks to plug key infrastructural financing deficits in the country.