NIGERIA: "VOLUNTARY" CAP ON INTEREST RATES

UNCLAS SECTION 01 OF 02 ABUJA 003101 SIPDIS SENSITIVE E.O. 12958: N/A TAGS: EINV ECON PREL PGOV NI SUBJECT: NIGERIA: "VOLUNTARY" CAP ON INTEREST RATES UNPOPULAR WITH BANKERS ¶1. (SBU) Summary. Most bankers see the October Bankers Committee "voluntary" agreement to cap interest rates at 22.5 percent as neither sustainable nor truly voluntary. Some industry insiders view the move as politically motivated. The Central Bank and the Bankers Committee endorsed the ceiling when the Minimum Rediscount Rate (MRR) dropped but presidential suasion failed to cause a corresponding reduction in commercial rates. Despite the unease, sources predicted most banks would adhere to the new regulation and manage to weather an estimated three-month period of less than expected, and even negative returns of as much as 8-10 percent. (Note: Most deposits in Nigeria are on a 90-day basis.) This new development may separate the strong from weak banks and increase the rate of failure among the weaker institutions. End Summary. -------------- Background -------------- ¶2. (U) President Olusegun Obasanjo made a surprise appearance at the April Bankers Committee meeting to appeal for reduced lending rates to spur economic growth. Cheaper credit would stimulate the non-oil economy, the President argued. The Bankers Committee created a sub-committee to explore reduction of lending rates. Despite considerable political jawboning and a reduction in the MRR, there was no significant immediate drop in interest rates as a result of the Presidential entreaty. ¶3. (SBU) However, continued pressure seems to have paid off. At the October Bankers Committee meeting, Chief Executive of Zenith International Bank Ltd. Jim Ovia, announced a rate reduction from an average 35 percent to 22.5 percent. He confirmed the banks had agreed to cap lending rate at 400 basis points above the CBN,s Minimum Rediscount Rate (MRR), currently 18.5 percent. -------------- BANKS HAVE NO CHOICE BUT TO IMPLEMENT -------------- ¶4. (U) Executive Director of Guaranty Trust Bank, Plc. (GTB) Farouk Bello believes most banks will implement the new rate, despite inevitable short-term losses. The agreement came after CBN directives reducing the MRR from 22.5 to 18.5 percent and the Cash Reserve Ratio from 12.5 percent to 9.5 percent. ¶5. (SBU) Bello estimates GTB will incur monthly losses of Naira 50 to 80 million over the next quarter as his certificates of deposits paying 25 to 28 percent expire. GTB operations are profitable, and he believes the bank will adjust by tightening its belt and charging higher service fees to partially offset the interest losses. Some smaller, less professionally run banks, he speculated, may circumvent the guidelines because they cannot sustain losses. "Some of these smaller banks have a negative net worth. Despite the CBN's recent get-tough policy, the Government has no interest in taking over bankrupt banks and depleting Nigerian Deposit Insurance Corporation (NDIC) reserves," Bello asserted. -------------- -- AVOIDING THE CAP: IF YOU CAN,T GO UP, GO AROUND -------------- -- ¶6. (SBU) Many banks may try to skirt the lower rates by putting special conditions on new loans. When interest rates were capped in the early 1990s, many banks required borrowers to deposit a portion of the loan in a non-interest bearing special account for the life of the loan, effectively raising the real interest rate. Bello assured Econoff that even if some mechanisms were proscribed, bankers would quickly find new ways to circumvent the rate ceiling. When asked why the Bankers agreed to something they apparently disliked, Bello claimed the CBN was prepared to unilaterally set the ceiling. Politically, the banks were better off agreeing. (Comment: The cap also can be circumvented by increasing fees and associated processing charges on loans. End Comment). ¶7. (U) There is widespread skepticism among bankers that lowering interest rates will stimulate the manufacturing and agricultural sectors. Bello believes likely beneficiaries will be importers and traders, currently the main consumers of bank credit. Banks in Nigeria deal almost exclusively in short-term credit for 90 or 180 days. For the manufacturing or large-scale agriculture to benefit loans would have to be of much longer duration. Bello thought promoting industrial development would best be done by subsidizing credit through the Bank of Industry (BOI) and the Nigerian Agricultural Credit Bank. He claims merchant and commercial banks such as his play a minimal role in this area. ¶8. (SBU) COMMENT: The Nigerian economy and financial system have been relatively resilient, toughing it out during this lean revenue year. The new interest rate ceiling may test the strength of some banks and the regulatory capacity of the Central Bank of Nigeria to enforce it. Sustainability of the new rate will greatly depend on the interplay of monetary and fiscal policy and the perception of the business sector. Cheap credit could lead to greater production, a fall in prices, and even a reduction in inflation. This would, however, depend on government pursuit of a prudent fiscal policy that minimizes deficit spending and earmarks discretionary spending to productive sectors such as agriculture. Also, government and the CBN will have to take additional steps to convince the business community that they want to encourage increased production. The private sector must also be assured that the interest rate ceiling is real and something the GON wants to sustain. However, the convergence of these policies and actors will be a challenge to the GON and its economic policy apparatus. If the rate cannot be sustained as a part of an integrated economic stimulus strategy, it may end up being short-sighted, and ultimately counter-productive. END COMMENT JETER