KPMG has said that the effectiveness of the Central Bank of Nigeria’s monetary tightening strategies may be inadequate unless Nigeria resolves the underlying supply-side constraints fuelling cost-push inflation.
The firm emphasised the need for a balanced approach to tackle both demand-pull and cost-push inflationary pressures in issue 15 of the Flashnotes published by KPMG in Nigeria, according to nairametrics.
It recommended that the supply-side obstacles, which contribute to inflation, be broken down through cooperation between fiscal and monetary authorities.
The document read, “We recognise that price stability is a necessary condition for economic growth. We equally recognise that raising interest rates is a natural response to inflationary pressures in monetary policy playbooks.
“However, we emphasise that monetary tightening is more apt for addressing demand-pull inflation. Thus, inflation may yield little in response to the monetary tightening efforts, unless the supply-side bottlenecks fanning cost-push inflation are also addressed.
“Eliminating these bottlenecks will require concerted efforts from both fiscal and monetary authorities. We are confident that such efforts will better deliver the intended price stability without trading off economic growth.”
KPMG noted that a potential slowdown in inflation rates is on the horizon post-mid-2024, largely attributed to statistical base effects.
However, the absence of new economic policies that could push up prices is a determining factor for this anticipated slowing down.
However, KMPG argued that any reduction in inflation rates could not be attributed solely to currency policy tightening, and highlighted the effect of other macroeconomic factors and policies.
KPMG said “Meanwhile, with the onset of the base effect expected after mid-year, the next few months will be important for assessing the impact of the CBN’s monetary tightening on inflation.
“Statistically, inflation is set to lose steam after mid-year largely because of the onset of base effect, except economic policies that significantly pressure prices are implemented. Attributing a decrease in inflation solely to the tightening of liquidity once the base effect kicks in after midyear might be inaccurate.”
The CBN’s decision to elevate the Monetary Policy Rate (MPR) to a historic high of 24.75% in March 2024 is expected to attract more foreign exchange inflows, driven by the appeal of higher interest rates. KPMG projected that these inflows will primarily come from portfolio investments, seeking to benefit from the increased rates.
The firm, however, warned of the potential volatility of these inflows of ‘hot money’, noting the risk of sudden reversals that could pose macroeconomic stability risks.
“We expect the higher MPR to attract greater FX inflows that would drive the appreciation of the Naira in the foreign exchange market. However, most of these gains are expected to come from portfolio investments as investors move to take advantage of the higher interest rate environment.
“The downside of this “hot money” inflow, however, is the risk of sharp reversals in response to changes in market signals. Large-scale capital reversals are historically known to birth macroeconomic instability.”
