Sophors Consulting Limited Asks CBN To Balance Support For Growth With Controlling Inflation

As Nigeria’s Monetary Policy Committee (MPC) prepares for its first meeting of 2025, the Central Bank of Nigeria (CBN) faces a crucial decision: whether to persist with aggressive tightening or adopt a more nuanced strategy that considers both inflation control and economic growth.

A new report from Sophors Consulting Limited, “Rethinking Policy Mix and Policy Strategy,” makes a compelling case for policy recalibration. The report warns that Nigeria’s current approach—marked by high interest rates, liquidity restrictions, and excessive cash reserve requirements—is proving counterproductive. It calls for a strategic shift that prioritizes policy coordination and structural reforms, rather than relying solely on monetary tightening to fight inflation.

Why the Current Approach is Failing

CBN’s decision to raise the Monetary Policy Rate (MPR) to 27.5% was intended to curb inflation, but the collateral damage to economic growth is becoming increasingly evident.

• Businesses are struggling under high borrowing costs, which have reduced investment and slowed job creation.
• The banking sector remains constrained by a 50% Cash Reserve Ratio (CRR), severely limiting its ability to provide credit.
• While treasury yields are high—attracting investors—the positive correlation with stock market performance raises concerns about financial instability, as this pattern is unusual and may indicate underlying market distortions.
• The economy grew by 3.5% in 2024, but much of this was fueled by short-term government spending and currency depreciation, raising doubts about long-term sustainability.

The Business Expectations Index on Exchange Rate has jumped from 2.0 to 25.1, signalling improved market confidence in the naira. However, this optimism alone is not enough to counter the real economic pressures businesses and households face due to CBN’s restrictive policies.

A Definite Policy Recommendation: Shift to a Coordinated Policy Mix

The Sophors Consulting report argues that Nigeria’s inflation is largely supply-driven, meaning that raising interest rates will have limited impact. Instead, the CBN and the Nigerian government must implement a policy framework that stabilizes prices without choking economic growth.

1. Gradually Lower the Cash Reserve Ratio (CRR) to Boost Credit

• The 50% CRR is among the highest globally, restricting banks’ ability to lend.
• A phased reduction to 30-35% would free up capital for productive investment while maintaining financial stability.
• This move would support small and medium enterprises (SMEs), which are critical for employment and economic diversification.

2. Stop Relying Solely on Interest Rate Hikes

• Nigeria’s inflation is not primarily demand-driven, so hiking rates further will not solve the core problem.
• Instead of continuous rate increases, CBN should focus on policies that address supply constraints (e.g., improving infrastructure, stabilizing power supply, supporting local production).

3. Adopt a More Flexible Interest Rate Policy

• Monetary policy transmission is weak, meaning that high policy rates are not effectively influencing deposit and lending rates.
• The CBN should consider more flexible interest rate policies, allowing savings and borrowing rates to adjust based on market conditions.
• This would encourage competition in the financial sector, particularly as fintech firms and money market funds provide higher returns than traditional banks.

4. Reduce Nigeria’s Dependence on Short-Term Capital Inflows

• The CBN’s strategy of attracting foreign capital through high interest rates is unsustainable.
• Instead, policymakers should focus on boosting domestic investment by incentivizing local industries, improving infrastructure, and ensuring currency stability.

5. Coordinate Fiscal and Monetary Policy to Support Growth

• Contradictions between government spending and monetary tightening are weakening economic outcomes.
• The CBN and the Ministry of Finance must align policies, ensuring that fiscal expansion is complemented by a monetary framework that supports sustainable investment rather than restricting liquidity.

The Risks of Inaction

If the CBN continues its aggressive tightening without addressing underlying structural constraints, Nigeria risks prolonged economic stagnation. The combination of high interest rates, limited credit availability, and financial market distortions could deepen inequality, slow job creation, and weaken the private sector.

What This Policy Recommendation Opposes:

• Further interest rate hikes without complementary policies
• Over-reliance on monetary tightening while ignoring fiscal and structural issues
• High CRR that restricts bank lending and slows economic growth

What This Policy Recommendation Supports:

Lowering the CRR to increase credit availability
Targeting supply-side inflation through infrastructure and productivity measures
Encouraging market-based adjustments to interest rates instead of rigid controls
Coordinating fiscal and monetary policy for balanced economic management

The Path Forward

As the MPC meets on February 19-20, it must recognize that monetary tightening alone will not solve Nigeria’s inflation problem. A shift toward a balanced, coordinated policy mix—one that reduces constraints on credit, adopts transparent inflation targeting, and improves market-based financial mechanisms—is the only viable path forward.

The CBN must not simply react to inflation; it must actively shape a sustainable economic future.

Explainer Box: Understanding Nigeria’s Monetary Policy Challenges

As Nigeria’s Monetary Policy Committee (MPC) prepares for a crucial decision on interest rates and liquidity controls, several key economic concepts are shaping the debate. Below, we break down these terms and their relevance in simple terms.

1. Monetary Policy Rate (MPR)

• What it means: The interest rate set by the Central Bank of Nigeria (CBN) to influence borrowing and lending.
• Why it matters: A higher MPR makes loans more expensive, discouraging spending and borrowing. A lower MPR makes credit cheaper, stimulating business activity.

👉 Current Issue: The CBN has raised the MPR to 27.5%, making borrowing expensive and slowing business growth.

2. Cash Reserve Ratio (CRR)

• What it means: The percentage of total deposits that banks must keep with the CBN, instead of lending it out.
• Why it matters: A higher CRR means banks have less money to lend, making loans harder to get and more expensive.

👉 Current Issue: Nigeria’s CRR is at 50%—one of the highest in the world—which limits banks’ ability to finance businesses. The report suggests lowering it to 30-35% to increase credit availability.

3. Supply-Side vs. Demand-Side Inflation

• What it means:
  • Supply-side inflation is caused by high production costs, such as rising fuel prices, poor infrastructure, or currency devaluation.
  • Demand-side inflation happens when people have too much money to spend, increasing demand for goods and pushing prices up.

👉 Current Issue: Nigeria’s inflation is mostly supply-driven, meaning raising interest rates won’t solve the root problem. Instead, investment in production, power, and transport is needed.

4. Monetary vs. Fiscal Policy

• Monetary policy (controlled by the CBN) manages money supply, interest rates, and inflation.
• Fiscal policy (controlled by the government) involves taxation, government spending, and borrowing.

👉 Current Issue: Nigeria’s government is spending more (fiscal policy), while the CBN is tightening liquidity (monetary policy). This contradiction weakens economic stability. A coordinated approach is needed.

5. Treasury Yields and Financial Stability

• What it means: Treasury yields are the returns on government bonds, which are used to borrow money from investors.
• Why it matters: High treasury yields attract investment, but they also increase government borrowing costs and make business loans more expensive.

👉 Current Issue: Nigeria’s stock market and treasury yields are rising together, which is unusual and signals financial instability. A correction could destabilize markets.

6. Inflation Targeting

• What it means: A central bank policy where a specific inflation rate target (e.g., 6-9%) is set, and policies are adjusted to meet that goal.
• Why it matters: A clear target helps businesses and investors plan better and trust monetary policy decisions.

👉 Current Issue: Nigeria does not have an official inflation target, making policy adjustments unpredictable. The report recommends adopting a realistic, phased approach.

7. Foreign Exchange Market Intervention

• What it means: When the CBN buys or sells foreign currency (mostly USD) to stabilize the naira.
• Why it matters: This prevents extreme naira fluctuations, but excessive intervention can drain foreign reserves.

👉 Current Issue: The Business Expectations Index on Exchange Rate shows optimism about naira stability, meaning CBN’s FX interventions have helped, but a long-term strategy is needed.

8. Interest Rate Transmission and Market-Based Adjustments

• What it means: The process by which a central bank’s interest rate changes affect consumer and business loans.
• Why it matters: In Nigeria, high policy rates are not fully translating into bank lending and deposit rates, meaning monetary policy is not working efficiently.

👉 Current Issue: The CBN should allow deposit and lending rates to adjust naturally, rather than enforcing rigid controls. Fintech and money market funds already offer better returns than traditional banks.

9. Reducing Dependence on Short-Term Capital Inflows

• What it means: High interest rates attract foreign investors looking for quick returns, but they do not lead to sustainable economic growth.
• Why it matters: If foreign investors leave suddenly, Nigeria could face a financial shock.

👉 Current Issue: Instead of using high rates to attract short-term capital, Nigeria should focus on domestic investment and business-friendly policies.

10. The Case for Policy Coordination

• What it means: Instead of making decisions in isolation, the CBN and the Ministry of Finance should align monetary and fiscal policies.
• Why it matters: A conflict between government spending and monetary tightening can undermine economic stability.

👉 Current Issue: The government is spending more, while the CBN is restricting liquidity, creating contradictory effects on growth.

Subscribe to Notifications