Tuesday, February 27, 2024

Should The CBN Be Thinking About Inflation Differently?

On November 24, 2023, the governor of the Central Bank of Nigeria (CBN) unveiled the bank’s monetary policy outlook for 2024. The primary objectives are to achieve price stability, foster sustainable economic growth, stabilize the naira’s exchange rate, and reduce interest rates to facilitate borrowing and investment.

In 2024, major plans include:

  1. Adoption of an inflation-targeting monetary policy framework.
  2. Effective management of inflation through continued tightening measures for two quarters.
  3. Clearing all unsettled forward foreign exchange obligations.
  4. Ensuring stability in the short to medium term.

So, what do these plans mean for the economy?

Firstly, adopting an inflation-targeting monetary policy framework is a continuation of the existing policy stance of the CBN. This approach ensures price stability, positively influencing both consumer and investment confidence, and ultimately fostering economic growth.

Additionally, the CBN has disclosed that for the next two quarters, they will implement tightening measures. While this aligns with conventional norms, it’s crucial for the CBN to recognize that monetary tightening has not significantly reduced inflation. Despite a consistent increase in the monetary policy rate (MPR), inflation has continued to rise. Economic doctrine suggests that monetary policy is most effective in a demand-pull inflationary environment. However, Nigeria’s inflationary issues are predominantly cost-push, rendering traditional monetary tools less effective.

It’s important to highlight that further raising the MPR could increase borrowing costs, potentially escalating production costs and prices. This necessitates a careful reconsideration of the CBN’s stance on further tightening the economy.

An illustrative example of the inefficacy of monetary policy in combating inflation in the Nigerian economy is the well-known naira redesign policy, which resulted in a substantial reduction in the money supply. Despite this, Nigeria experienced a further increase in prices during that period.

Clearing all unsettled forward foreign exchange obligations can help alleviate pressure on the naira by reducing black market activities. Successfully addressing forex obligations can boost investor confidence, potentially enhancing foreign investment and improving access to dollar liquidity.

Nevertheless, ensuring stability in the short to medium term remains elusive. Nigeria’s inflationary issues are primarily independent of monetary policy. Fiscal authorities are better positioned to ensure price stability and sustainable economic growth in a cost-push inflationary environment.

Dr. Chimere Iheonu is a Senior Associate at Kwakol Market. He now writes a weekly column on macroeconomics for The Avalon Daily. 

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