Nigeria Content Online

Volatile interest
rates may attain relative stability while lending activities are
expected to improve, with the Central Bank’s new framework for banks’
Cash Reserve Ratio (CRR).

The Central Bank of
Nigeria has introduced reserve averaging to the money market, to reduce
volatility in overnight market rates and bring them more in line with
the official bank rate.

“Averaging means
that a bank’s average end-of-day reserve balance over a given period
must be equal to or above the required level; but that on any
individual day, it can be lower or higher.

“If averaging of
RRs is permitted, this can be a very effective way of supporting
commercial banks’ own short-term liquidity management,” Simon Gray, an
IMF staff said.

Finance experts say
the read-across of this policy is positive and that the implication of
this is that there would be more liquidity in the system and this would
translate to increase in banks lending activities, which have plunged
since the banking crisis of 2008.

They also say that
the volatility in interest rates would be addressed, as banks can now
borrow from their own reserves to meet up with pressing cash demands,
instead of borrowing from other banks, an opportunity they did not have
before.

Under the new
framework, the Central Bank plans to remunerate banks’ surpluses above
the cash reserve requirement (CRR) in their operational accounts in
contrast to the previous practice, according to which the CRR account
did not yield interest, could not be accessed, and did not qualify for
liquidity ratio computations.

The daily average
in banks’ operational accounts with the Central Bank will be monitored
over maintenance periods of four or five rolling weeks, and this would
now serve as the banks’ CRR.

Aiding rates and lending capacity

With this
framework, finance experts say, it is expected that there would be
stability in the money market and that banks liquidity ratio should be
boosted.

“Although we note
that this modification to the operations of the money market has been
in the works for some time, we expect to see decent stability being
infused into money market yields when the framework takes effect on
March 9,” Adesoji Solanke, a banking analyst at Renaissance Group, an
investment bank said.

“Banks’ liquidity
ratio should be boosted, as on 9 March, banks will be credited with the
2 per cent of their deposits currently locked up in the CRR account –
this will immediately bolster liquidity levels, given that this sum
previously did not qualify for the computation of banks’ liquidity
ratio,” Mr. Solanke further said.

According to him,
the impact of liquidity shocks should be largely reduced, ultimately
easing interest rate volatilities, which characterise Nigeria’s money
market yields.

This would be made
possible given that under the new framework, banks’ focus would be to
ensure that they maintain an average daily minimum balance over a four-
or five-week period with the potential of earning interest on the
surplus, as opposed to the previous practice of ensuring that a moving
base sum is domiciled in a non-interest yielding CRR account.

“In other words,
banks will be able to spread the impact of sudden liquidity tightness
over a number of days, thus lessening the impact on overnight yields,”
he added.

Mr. Gray, in a
working paper titled ‘Central Bank Balances and Reserves Requirement’,
said in deciding the precise structure of RR it is important for a
central bank to be clear what the intended goals are.

“Reserve averaging
is a powerful liquidity management tool, but giving primacy to this
goal undermines the prudential aspect since a bank could, if under
pressure, run down reserves for a period and so not have any left when
trouble arrived.

“Similarly, one of
the benefits of reserve averaging is that it reduces the need for
‘excess’, or precautionary reserves, effectively reducing the demand
for central bank balances. Banks’ efforts to dispose of surplus
reserves will tend to lead to an easing of monetary conditions,” Mr.
Gray said.

According to him,
RRs which are unremunerated, or at least remunerated substantially
below prevailing market rates, should impact the spread between
commercial banks’ deposit and lending rates.

“Since the
facilitation of liquidity management should reduce short-term interest
rate volatility-to the extent that volatility is the product of
unanticipated liquidity shocks, it can promote interbank trading and
support capital market development,” he said.

A source at First Bank said this is a positive development.

“Before, the CR was
a fixed sum of 20 per cent and it must not be lower than that. Now, you
can take money from there, you can borrow money from that source now,
instead of going to the interbank markets to borrow. Hence, to an
extent, it would make rates less volatile.

“I, however, do not
think that the nation’s lending problem is basically because banks
don’t have money to lend. The banks have money to lend, but no one is
borrowing,” the source said.

According to him,
banks are wiser now and would request for proper form of
identification, which from the retail end, may not be readily
available. And the corporate too have their challenges. So generally,
“there is a demand problem,” he said.

The Central Bank
has been making efforts to address the nations lending challenges,
which have lingered since the banking crisis in 2008 as banks have been
reluctant to create new assets.