A curious ordinance on productive investments

The Federal Government recently issued a curious directive on productive investments to Nigerian banks and other financial institutions. Speaking at the 19th Annual Banking and Finance Conference of the Chartered Institute of Bankers of Nigeria (CIBN), the Minister of Finance and Coordinating Minister for Economy, Taiwo Oyedele, who represented President Bola Ahmed Tinubu, urged banks and financial institutions to move away from their heavy reliance on government bond investments and finance businesses that will create jobs and generate economic growth. “For years we have measured financial institutions by balance sheet growth and shareholder returns… Now we must increasingly ask: What are banks doing for the real economy?” the president argued.

The President further insisted: “A credible banking system cannot exist indefinitely where businesses cannot obtain affordable credit. The ailing manufacturing sector cannot expand and millions of productive companies remain outside the financial system.”

The directive follows the achievement of the new capital base set for banks by the Central Bank of Nigeria (CBN). However, banks will need maximum support from the government to implement this imperative directive. In the current circumstances, the President’s directive borders on the government shooting itself in the foot.

If banks diverted their funds from government bonds to corporate financing, the government would have difficulty financing its budget deficits, since banks are the main investors in government debt instruments. The government must, therefore, reduce its budget deficits. Another problem with the implementation of the directive is that banks derive maximum benefits from investing in government bonds because such investments are virtually risk-free. Banks simply dump their funds into government bonds and go to sleep.

Government debt instruments are so safe that even if the federal government suddenly became insolvent, it could print money and pay investors who hold its securities. After all, the yields on government bonds are irresistible.

Another factor that will make the implementation of the directive difficult is the fact that the cost of funds imposed by lenders is influenced by the monetary policy rate (MPR), which is controlled by the CBN. Banks and other financial institutions cannot easily bring the cost of funds below the MPR. The MPR, the benchmark interest rate set by the CBN, currently stands at an ominous 27%. This significantly affects the cost of funds in the banking system.

In Previously, the CBN capped lending rates at four percentage points above the MPR.

Currently, the pursuit of a policy whereby lending rates are dictated by market forces of supply and demand has led the apex bank to relax the application of the lending rate restriction to MPR plus four percentage points (MPR + 4%). This explains why banks lend at rates ranging from 35 to 46% without the apex bank batting an eyelid. In order for banks to obey the President’s directive and divert their funds to investments in businesses that will create jobs and grow the economy, the federal government must implement fiscal policies that force inflation to fall to single digits.

Current lending rates are detrimental to investment and job creation. The Manufacturers Association of Nigeria (MAN), the umbrella body of the country’s manufacturers, recently warned that high lending rates are driving high production costs, which, in turn, fuel inflation.

The main problem with the high MPR is that the CBN is fighting a one-handed battle against inflation. The central bank has few other weapons in its arsenal in the battle against inflation and relies heavily on MPR manipulation. The federal government worsens the CBN’s fight against inflation through its fiscal imprudence.

The government overspends and borrows heavily through Treasury bills and other debt instruments to finance its massive budget deficits.

The directive requiring banks to divert funds from government bonds and finance businesses that will create jobs and grow the economy is absolutely necessary. However, it is the federal government itself that must support the banks in their attempt to implement the directive. Massive budget deficits fuel inflation as the government borrows at very high costs to balance the budget.

This, in itself, is a major cause of the high cost of funds in the banking system.

The government can reduce budget deficits by forcing the Nigeria Revenue Service (NRS) to collect more taxes and increase Nigeria’s tax-to-GDP ratio to 15%.

The average tax-to-GDP ratio in the Economic Community of West African States (ECOWAS) is 16%. Nigeria would be in a stronger position to finance its budgets with tax revenues if it could raise its tax-to-GDP ratio to the ECOWAS average.

Blueprint.ng commends the federal government for urging banks and financial institutions to invest their significant capital in businesses that will create jobs and grow the economy.

We, however, urge the Federal Government to implement fiscal policies that will reduce inflation to single digits and enable the CBN to lower the MPR to a level at which banks can lend at affordable rates.