NigerianFinancial

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Volume 3No.2June 1990

'HILOSOPHY OF Ee OMICESTRUCTURING AN GROWTH·

by Fem; Adekanye ART CLE

R

'GHANA'S15 POL/CYRE

MULTIPLEANALYSIS)

YSTEM'SRJ G AND ECONOMICNIGE IA

55 'MONETARTHE 1990B

by Dr. Don . Ike

An Infodata Publication

Monetary Policy In The 1990 BudgetDr. Don N. Ike

Dr. Don N. Ike, Associate Professor and Head of Department, Accountancy and FinanceASUTECH.

A. Introduction

Monetary policy mea'>ures in the1990 budget appear to be rest ric·tionary and to worsen the situation

there was no compensating or offsettingexpansionary fiscal measures in thebudget. For instance the real magnitudeof the Federal budget itself of N39.758billion is a shade less than the' attainedmagnitude of N30. 07 billion if the 50%inflation, the highest in many years,is taken into consideration. Thus thespending limit itself has fallen in realterms and cannot be said to be expan­sionary. The nominal value of the 1990budget when deflated with the appro­priate price index comes short of the1989 level.

All the tight monetary measuresput in place in 1989 were retained andreinforced in the 1990 budget. Growthin money supply was pegged at 13%from its erstwhile level of 14.65%. Thisis intended to put a check on the infla­tionary spiral which has been the baneof the Nigerian economy. This desireto check inflation is also consistent withthe objective of reducing pressure on theforeign exchange market to realise amore acceptable exchange rate. Bykeeping money supply down it will notbe possible to finance increased con­sumption of both domestic and foreignproduced goods. A fall in demand forforeign goods would be reflected in afavourable exchange rate with its favou­rable impact on prices of foreign pro·duced items. The inflation rate wouldalso tend to fall when put along thereduced demand for domestic items.

Aggregate bank. credit was raisedfrom 9.5% in 1989 to 13.5% in 1990.This appears to be an expansionarymeasure as government believes thatadequate credit should be made availableto priority sectors to sustain growth

But this new enhanced ceiling will applyto aU forms of credit granted to theprivate sector rather than only loansand advances as was the case in theprevious period. Such off balance sheetitems as commercial papers and bankersacceptances will now be included in thecalculation of bank's credit. Also incalculating the base for credit growthin 1990 adjustments that reflect com­pliance with permissible credit expansionfor 1989 will be made for banks thatexceeded the 1989 ceiling. In effectbanks that exceeded their credit targetsin 1989 will have the excess deductedfrom their permissible range in 1990.These innovations were made by theCentral Bank to improve the effi·ciency of credit ceilings. The implicationis that most banks will be unable tolend in 1990 although the permissiblerate of expansion seems to be irrthe up­swing l

The same argument could be usedin relation to the seemingly increasedallocation of credit to Governmentsector 8.3% in 1989 and 10.90/0 in 1990and the increased allocation to the privatesector-IO.7% in 1989 and 15.8% in1990. Given the inclusion of earlier offbalance sheet items in the calculationof bank's credit and the innovations ofthe C.B.N. that excess of earlier yearswill be deducte.d from the permissiblelimits of succeeding years, banks willfmd it difficult to lend in 1990. Banksare now allowed to do equipment lea­sing, this would seem to be an outletfor loan expansion provided it is not alsoincluded in credit ceilings. Since mostequipments are imported, availabilityof scarce foreign exchange will effective·ly checkmate expansion in this area.Banks (both merchant and commercial)are permitted to provide equipment

NigerianFinancialReview

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leasing up to 15% of their assets.Gearing re~ rs to the ratio between

banks paid up capital and all retainedearnings on the one hand and theirloans. and advances on the other.2 TheBanking Act empowers the CentralBank to specify this ratio. The ratio ofI :IOwa a plicabIe for a long time untilthe Central Bank raised this to 1:12.Raising the ratio implies increasing banklending capabilities as the bank's assetbase can now support increased accom­modation. But in the 1990 budget thisratio was reduced to the erstwhile level ofI :IO. This is a further constraint oncredit ex ansion and is considered arestrictionary monetary measure.

B. Implications of Policy Measmes

In a period of depression, monetarypolicy should work towards stimulatingthe conomy in an expansionary direc­tion3

. Expansionary monetary policy willbe able to stimulate growth in the econo­my and help initiate an upswing in out­put and employment. Although inflationmay be worsened in the short run, theoutput effect of an expansionary policywould tend to moderate the inflationaryconsequences in the long run.

The credit squeeze has led to highcost of funds and lowered investmentpotential in the economy. For thosewho continue to produce, the cost ofprodu tion edges upwards leading tohigher prices through cost push infla­tion.4 Although demand pull inflationis reduced, cost push inflation takesover.

Inflation of the cost push variety has adampening effect on productivity. Ascosts of production ~ise, output andemployment fall. Compared with infla­tion of the demand pull variety, the costpush inflation is an argument for econo­mic recession.

Apart from reducing the cost of fundsby lowering interest rates, expansionarymonetary policy has an amplifyingeffect on productivity. Cost of produc­tion is lowered and output increasedalong with increases in employment.Since inflation is always with us, if we

should be given a choice of inflationtype, th nation in a period of recessionshould go for the demand pull typewhich is effected through the mechanismof expansionary monetary and fiscalpolicy.

C. Conclusion

The monetary and credit policymeasures in the 1990 budget are restric­tionary. The impact of the policy mea­sures is increased illiquidity in the opera­ting economic environment with itsconsequences of high cost of funds andcost-push inflationary spiral. The highcost of funds discourages investments,leads to a fall in output and employmentand wors ns a recessionary situation.A turnaroun in the economy shouldfollow .a mild expansionary monetarypolley, moderated just enough to re­duce cost of funds, interest rates so as toincrease output and employment. inceinflation is always with us, the nationshould sacrifice the attainment of pricestability and external balance for growthin output and employment which a fairlyexpansionary monetary policy can helpinitiate.

NOTES

1. Chinyemike Torti et al, "Budget 90:Recipe for a super Naira" The Finan­cial Post, Vol 2, No. 11 January 1990pp.7.

2. Don N. Ike, "Constraints to BankLending and the Economic Considera­tions to the Review of the NigerianBanking Act" Intemational JournalofDevelopment Banking, Vol 7, No.21989 pp. 101.

3. Don N. Ike "Monetary Policy In aP riod of Depression: The NigerianCase" In Nzewi (ed) Economic Emer­gency in Nigeria. Anambra PolytechnicPress 1986 pp. 133.

4. See Torti et al, op. cit.

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Book Review

This book, The Foundations ofNigeria s Financial Infrastrncture is divi­ded into five parts and contains 21pa pers contributed by Nigerian econo­mists and fmancial analysts. The bookas the title indicates is a survey of Nige­ria's financial infrastructure encompas­sing banking, finance, insurance, govern­ment revenue and th balance of pay­ments.

Part one is a General Survey of Nige­ria's Financial System, Tw paperswere contributed in this section byProf. J.K. Onoh and Prof. W. Uzoagaon Nigeria's traditional financial systemand modern financial system respec­tively. Types, objectives, functions andorganisation of traditional financia insti­tutions wer discussed. Also centralbanking, commercial banks and otherspecialised credit institutions in Nigeria,their operation and functions in creatinga modern financial system w r discus­sed by Professor Uzoaga.

Part two deals with the bankingsystem and the financial markets andconsists of seven papers.

The section discussed the develop.ment of central banking and the atten:dant pro lem of controlling the opera­tion of the commercial and mer hantbanks as well as the Nigerian capitalmarket. It was shown that the CentralBank has not been provided with ade­quate weapons to fight the myriadeconomic problems of the nation (p. 69).Further the orthodox orientation ofNigerian banking system were high­lighted. This latter fact is evidenced

Tjtle:

Editor:

Publishers:

Reviewer:

The Foundations ofNigeria's Financial Infra­structure.

Prof. j .K. Onoh

Croom Helm Ltd, Lon­don, 1980.

Dr. Don. N. Ike

by the very low banking density andlopsided banking development in thecountry (p. 73). Also Professor Onohshowed that while monetary policyinstruments such as liqUidity ratiO,cash reserve ratio, moral suasion, bankrate, open market operations, stabili­sation securities, special deposits, creditceilings et. a!. might have restrictedcredit in Nigeria, the credit gUidelineembodied in the monetary policy cir­culars of the Central Bank of Nigeriahave proved a more formidable instru­ment of monetary control in the eco­nomy (p. 92). The under-developmentof Nigeria's money and capital marketswas also highlighted.

Part three which contains five arti­cles deals with aspects of public andprivate sector finance.

The recommendations of the Finan­cial System Review Committee for amore active capital market were high­

,lighted by P.N.O. Ejiofor and F.O.Okafor to wit: That each state shouldbe allowed free access to the capitalmarket to issue and redeem its ownbonds ... each local government shouldbe allowed to issue project tied bonds. . . and that State owned companiesbe empowered and encouraged to seekfunds directly from the capital marketthrough the issue of their secu ities(p. 6). The authors showed thattraditional revenue sources for Govern­ment funds have shrunk considerablyand tax revenue cannot be relied uponfor elastic supply of funds for Govern·ment services. Direct borrowing byStates and parastatals is still an untappedsource for project financing. FurtherProfessor Nwosu in this section discus­sed the different revenue allocationformula in use in Nigeria and the variousprinciples that have guided funds allo­cations from the centre to the States.He reconunends deemphasis on theprinciple of derivation in favour ofpopulation and need. Professor j .K.Onoh in his contribution advocated

NigerianFinancialReview

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for short-term and long-term policyobjectives to match with our short­term and long-term budgetary plans asevidenced by the annual budgets andthe development plans. The varioussources of funds for Nigerian companiesand ousing schemes were also discussedin this section y Dr. Obi Mordi, Pro­fessor Ezejelue andMoses Bakpa.

Part four tre ts other fmancial insti­tutions especially the development banksand insurance.

It was shown that the NJ.D.B. provi­des both loan and quity capital forpublic and private companies. Theloans are on medium and long-termbasis. rticipation has been in manu­facturing, non petroleum mining acti­vities and in all aspects of tourism inclu­ding development of hotels of inter­national standard. By 31 st December,1977 total sanctions by NlDB totalledN258.6m for 318 projects, N25.7mwas in equity and N2349m was inloans (p. 254). The Nigerian Agricultu­ral Bank on he other hand fInancesagricultural projects. It makes shortmedium and long-term loans to indivi­duals, co~peratives and governments.A catalogue of projects in the agriculturalsector have been financed by the N.A.B.Insurance premium incomes and theirrole in Hie Nigerian capital marketwere al discussed in this section. Itwas shown that insurance companieshave contributed reasonably towardsmobilisation of savings for investmentin the Nigerian economy.

Part fIve deals with Nigeria's exter­nal fmancial relations and consists offour papers.

Nigeria's currency which is not con­vertible was devalued in 1973. A mecha­nism of manage float is now in exis­tence under which the Central Bankchooses a basket of currencies involvingNigeria's major trading partners andthrough cross rates of exchange computesthe parity of th naira (p. 282). It wasshown that the balance of paymentssituation has further deteriorated dueto a dec ine in the production of cashcrops, the poor world marke commo­dity prices and the increasing food

imports (p. 289). On Nigeria's externalassets it was shown that prior to 980the nation had been holding reserv siIi xcess of hat she reqUired to finan eher foreign obligations when comparedto Tr'ffin's rule~f-thumb guide onminimum reserve level. (p. 296). Theproblem thus as to ensure hat theexcess reserves are not er ded by infla­tion necessitating diversification intointerest yielding stable assets. It wasshown that Nigeria did not diversifyenough into stable assets and thus suf­fered huge losses because of the cas­cading dollar and sterling rates' in theforeign exchange market (p. 3(0). Intheir chapter on "Nigeria and the I.M.F.",1.K. Onoh and A.U. Chijindu showedthat Nigeria's posi ion in the fund hadcon inued to improve following re­purchase of local currency in 1973and 1974, improving Nigeria's borrowingpower from the fund.

However. th.e book is fairly com­prehensive in elucidating the funda­mentals of Nigeria's fmancial system.It should be required reading for studentsof economics, political science, publicfmance, accoun ancy, banking and othelpractitioners in the Nigeria's fmancialsystem.

Reviewed by:Dr. Don N. Ike,Associate Professor and Head, Dept. ofAccountancy and Finance, ASUTECH,Enugu.

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