IMF To Tie $1.5B Nigeria Loan Talks To Reforms

by Samuel Abasi Last updated on April 15th, 2017,

IMF To Tie $1.5B Nigeria Loan Talks To Reforms. The International Monetary Fund (IMF) is expected to ask Nigeria  to introduce immediate changes to its exchange rate policy and say its recent reform plan is not enough to drag Africa’s biggest economy out of recession.

The World Bank has been in talks with Nigeria for a loan of at least $1 billion for more than a year and the African Development Bank (AfDB) has $400 million on offer, but discussions have stalled over economic reforms. “Much more needs to be done. Further actions are urgently needed”

The report – from the fund’s acting secretary and addressed to members of its executive board – is set to form part of the IMF’s verdict, though Nigeria can request alterations. Three people familiar with the negotiations said it would send an important signal to institutional lenders. “The tone of the IMF will be critical in terms of signaling,” said one of the people familiar with the negotiations, who spoke on condition of anonymity because they were not authorized to speak to media. Two of the people with knowledge of the loan talks said the lenders were unlikely to withhold funding entirely.

President Muhammadu Buhari has rejected a devaluation of the naira currency and backed curbs imposed by the central bank that force firms to buy dollars needed for imports for a premium on the black market.

Nigeria has at least five exchange rates – the official one, a rate for Muslim pilgrims traveling to Saudi Arabia, one for school fees abroad and a retail rate set by licensed exchange bureaus.

The IMF said that if Nigeria did not remove foreign exchange restrictions and unify the exchange rates, it risked “further deterioration in (forex) reserves” and “a disorderly exchange rate depreciation”.

The report said Nigeria should also tackle its over-dependence on oil, low government revenues, a large infrastructure deficit, a rising debt service and double-digit inflation. Nigeria has not asked the IMF for fiscal support. An IMF spokeswoman declined to comment.

A spokesman for the presidency directed inquiries to the ministries of finance and budget and national planning. The finance ministry and central bank did not respond to repeated attempts to seek comment. A budget and planning ministry spokesman declined to comment.

A World Bank spokeswoman said the lender was continuing its discussions with Nigeria and other partners and “will determine with the government the most appropriate lending instrument to support the implementation” of reform plans.

Earlier this month, Nigeria released an Economic Recovery and Growth Plan (ERG) for 2017 to 2020 calling for a market-determined exchange rate. But it offers few concrete steps.

The ERG “is more optimistic on growth than (IMF) staff… does not explicitly call for tighter monetary and fiscal policy in the near term, and assumes no immediate change in exchange rate policy – all of which are essential to reduce vulnerabilities and increase investors’ interest,” said the IMF. Delays in adopting these policies increase vulnerabilities and risk reforms being politicized ahead of the 2019 elections, the IMF said.

Adoption of a fully flexible exchange rate would likely see the naira, which is propped up by the central bank but trades around 30 percent weaker on the parallel market, plummet in value.

Buhari, a 74-year-old former military ruler who led the country for 20 months in the 1980s, resisted pressure from the IMF and World Bank to devalue the naira in his previous tenure before being deposed in a coup.

Two of the people with knowledge of the negotiations said even without the IMF’s proposed reforms, the World Bank and AfDB were likely to offer the loans to Nigeria.

“There might be some eye-rolling but then they’ll still go through with the loans,” said one, a diplomat, adding that the World Bank could offer its money in tranches as a way of holding back and enforcing reforms.The report said Nigeria should articulate a sustainable fiscal policy and adopt structural reforms to diversify the economy away from its dependence on oil and promote competitiveness. “The outlook is challenging, with growth expected to remain flat and macroeconomic imbalances to persist,” it said.

Structural Impediments To Nigeria Reform

Both direct and indirect interest rate channels, as well as the credit channel of the
monetary transmission mechanism are limited by the overall financial depth of Nigeria.

Assetsof the banking sector are only about 30 percent of GDP in Nigeria, compared to 80 – 200+ in the BRICS . The exposure of the banking sector to the sovereign is high, at about 20 percent in
Nigeria, while credit to the private sector is low (13 percent of GDP). The Nigerian Stock Exchange
has about 200 listed companies, with a total market capitalization of about NGN11.5 trillion (about
12 percent of GDP). Other constraining factors include low banking penetration and the fact that
many foreign owned corporations manage their financial activities at the group level.

The composition of the consumer basket makes inflation dynamics largely beyond the
direct control or influence of monetary policy actions.

A high share of the consumer basket is in items (e.g., food) that tend to be volatile, either from domestic (e.g., weather) or external factors (foreign price of imports). For example, the share of food items in the CPI basket exceeds 50 percent in Nigeria.

Potential fiscal dominance could also constrain the conduct of monetary policy.

High rising public domestic debt could reduce the central bank’s ability to raise the interest rate in the face of rising inflationary pressures to prevent further worsening in the public debt and debt service. In the case of Nigeria, while the debt-to-GDP ratio is only about 14 percent, interest payments-to revenue ratio is above 30 percent and is projected to increase in the medium term. The use of the  central bank overdraft facility has been growing in recent months, but the Federal Government of Nigeria (FGN) does not generally rely on overdrafts from the central bank, and in net terms, the FGN is still a net creditor to the banking sector.

Lumpy oil-related and fiscal flows make liquidity management a challenge.

Monthly transfers of oil funds from the Nigerian National Petroleum Corporation held at Deposit Money Banks (DMBs) to the Federation Account of the CBN and subsequent transfers to states and local government (SLGs) generate significant intra-month volatility in reserves balances and consequently interest rates. As export receipts are sizeable relative to banking sector assets, the timing of their tax or wage payments (and their cash management more generally) can cause liquidity fluctuations in the foreign exchange and interbank markets and occasional spikes in short-term interest rates.

The absence (until now) of fully functioning and comprehensive coverage of Treasury Single Account (TSA) has also been a source of liquidity fluctuations.

The absence of the full coverage and functioning of the treasury single account (TSA) for all ministries, departments and agencies (MDAs) of the FGN, has made managing liquidity a challenge at times. The Monetary Policy Committee has in the past expressed concern over the rising cost of
liquidity management as well as the sluggish growth in private sector credit, which was traced to
DMB’s appetite for government securities. This situation is made more serious by the perverse
incentive structure under which banks source huge amounts of public sector deposits and lend
same to the Government (through securities) and the CBN (via OMO bills) at high rates of interest.”

The lending-deposit rate spread is stubbornly high in Nigeria, making real cost of
borrowing high.

A key factor underpinning this spread is likely to be banks’ operating costs; in addition to the general challenges in the business environment that face all companies, banks are
also likely to face higher security costs. Funding costs as reflected in the return on equity also seem relatively high, while there is some clear differentiation across banks in terms of deposit funding, with some banks having to offer relatively high time deposit rates. Alongside efforts to strengthen the overall macroeconomic policy framework and reduce the risk premium, and continued efforts to ensure all banks are resilient, the authorities’ plans to address key security and governance concerns in the economy should help this spread to narrow over time.

Monetary policy transmission on inflation

With regard to exchange rate pass-through on inflation, in parallel to the conduct of monetary policy through monetary policy instruments, exchange rate targets with a band can be used to anchor inflation expectattions

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Samuel Abasi

Samuel Abasi

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