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Upon taking office as the newly appointed Governor of the Central Bank of Nigeria (CBN), Olayemi Cardoso will be confronted with various economic challenges in the country. These obstacles, which have negatively impacted the quality of life in Nigeria, encompass escalating inflation rates, rising interest rates, and the consistent devaluation of the naira against the US dollar.

As the Monetary Policy Committee (MPC) convenes on September 25 and 26, these issues, along with global and domestic economic concerns and the outlook for the remainder of the year, will influence their decisions. Nigeria’s headline inflation in August surged to 25.8 percent year-on-year, primarily attributed to increases in petrol prices and naira depreciation.

Month-on-month headline inflation climbed from 2.89 percent in July to 3.18 percent. In July, the CBN MPC increased the benchmark interest rate, known as the Monetary Policy Rate, by 25 basis points to 18.75 percent. This marked the first decision by the monetary committee since President Bola Tinubu assumed office on May 29, 2023.

Food inflation, at 29.34 percent, saw a significant 235 basis points increase compared to the previous month. Notable price hikes occurred in vegetables, milk, cheese, eggs, bread, cereals, potatoes, tubers, fish, and oil. Persistent high food inflation is attributed to factors such as insecurity in food production areas, elevated logistics costs, and storage challenges, according to economists from Coronation Research led by Chinwe Egwim.

Expectations for the upcoming MPC meeting range from a decision to maintain the current stance to a potential 25 basis points rate hike, given the ongoing upward trajectory of headline inflation.

Both global and domestic developments will continue to present substantial challenges to Nigeria’s policy environment, even as the country’s economic growth remains moderate amid elevated general price levels.

Fitch Ratings, in a note dated September 6, noted that Nigeria’s weakened net international reserve position, as indicated in recent data, underscores the nation’s vulnerability in external matters.

“Exchange-rate liberalization and enhancements in the overall monetary policy framework could enhance the sovereign’s credit profile by alleviating foreign-currency supply constraints. However, recent loss of reform momentum and the constrained reserve position present significant challenges to such policy adjustments,” stated Fitch Ratings.

The rating agency emphasized that Nigeria’s exchange-rate liberalization should make it more attractive for capital inflows, thereby supporting the country’s external position. This is particularly relevant given Nigeria’s sluggish domestic oil production, which averaged 1.3 million barrels per day (including condensates) in July, and continues to exert downward pressure.

Nevertheless, Fitch Ratings noted that the official and parallel exchange rates diverged in August, undoing some of the narrowing that occurred after the official rate depreciated in June. This divergence may partly stem from the Central Bank of Nigeria’s (CBN) reluctance to allow further official rate depreciation due to high consumer price inflation.

The agency also pointed out that the CBN has made only partial progress in clearing its backlog of unsettled foreign-exchange forwards, indicating ongoing foreign-currency shortages. A weaker net reserve position could hinder the pace of exchange-rate liberalization by limiting foreign exchange supply and potentially affecting investor sentiment.

Gross foreign reserves declined by $3 billion between January and August 2023, reaching $34 billion in August. Fitch Ratings raised concerns about the net reserve position, stating that while the recent publication of consolidated financial statements by the CBN increased transparency, important gaps remained, making a reliable assessment difficult.

Fitch Ratings further noted that the reserve disclosures offset some of the more positive recent developments in Nigeria’s credit profile. It highlighted the faster-than-anticipated policy reforms, including fuel subsidy withdrawal and increased exchange rate flexibility, as positive steps.

Analysts also suggested that the CBN should adopt a heterodox approach to interest rate policy, considering the liberalization of the foreign exchange market and the current inflationary environment, which they believe is not money-induced. They argued that accommodating monetary policy might be necessary, given the modest money supply growth and global economic risks.

The commentator emphasized that using monetary policy tightening as a tool to combat inflation at this time is not suitable, given the weak transmission mechanism. Inflation is currently driven by structural factors beyond the control of monetary policies. Tightening monetary policy would hinder the supply of basic and intermediate goods and undermine overall productivity, exacerbating the country’s already poor unemployment rate. Instead, he recommended pursuing a low-interest rate environment to stimulate money supply and productivity, with coordination in foreign exchange policies to prevent undue outflows of foreign exchange.

He stressed the importance of ensuring that banks direct credit to the real sector of the economy reasonably while mitigating moral hazards and adverse selection that could weaken the quality of banks’ credit portfolios. A lower interest rate environment may help alleviate inflationary pressure by improving supplies and productivity.

Regarding the foreign exchange market, he suggested that the Central Bank of Nigeria (CBN) should continue to monitor transactions and ensure transparency with penalties for market participants who violate rules. It is essential to follow through with liberalization while providing necessary monitoring to prevent market abuse. As pent-up demand is gradually cleared, and seasonal demand eases, positive outcomes of liberalization should become apparent.

In addressing the food crisis, he noted the importance of funding the agricultural sector and highlighted the challenges faced in the sector, particularly due to security issues affecting livestock production and limited cash access, which constrains economic activities. The contraction in the livestock and fishery subsectors has been significant, emphasizing the need to support this vital sector.