Why FG, CBN must review high-interest rate policy-Tinubu

Due to the economic fallout from the coronavirus pandemic, it becomes necessary for the federal government of Nigeria and its Central Bank (CBN) to review its high-interest rate policy, this was the advice given by the All Progressives Congress (APC), National Leader, Asiwaju Bola Ahmed Tinubu.

The ex-Lagos state governor made this disclosure in a well-reasoned position on, ‘The Case Against High Interest Rates in Time of Contagion’, on Sunday in Lagos.

According to him, high-interest rates are a fundamental drag on national economic growth, while lower rates will spur domestic investment and production.

“This creates both jobs and wealth. High rates serve only to suppress these vital factors. Lower rates will have some negative short-term impact on inflation and the exchange rate. However, in a twist of irony, the economic dislocations caused by the coronavirus serve to mitigate those temporary negative consequences. If there is a time to reduce interest rates, that time is now.”

Although, he identified that the CBN has demonstrated its financial agility by establishing a growing number of special financing programs for various industries and sectors of the economy.

He, however, noted that while these programs look good at first glance, they also expose important contradictions in the CBN’s position. “The special schemes are an implicit admission that normal rates stifle investment borrowing and thus suppress the economy. The extraordinary schemes would not be required if the general interest rate was at a proper level. By establishing the special programs, the CBN attempts the impossible.”

On one hand, it defends the general rate as prudent. On the other, it proliferates special exceptions in order to spur investment borrowing that the general rate has heretofore stifled.

“This complex CBN rear-guard action does not serve the greater purpose. It merely prolongs the inevitable: We must retreat from high-interest rates if we want investment borrowing to attain levels that actually increase private-sector growth and job creation.

“This point bears repetition. If the financial sector functioned properly, servicing the needs of the economy in general, there would be no need to constantly resort to specialised sectoral plans (one for this industry, another for that industry and so on) for concessionary lending below regularly available rates of interest”, he said.

Speaking on the positive relationship between high rates and inflation, he said: “Over time, high rates cause more inflation than they prevent. In the initial phase, high rates might lower inflation. However, an economy is dynamic, not static. Feedback loops created by the initial high rates will eventually encourage inflation.

“First, the suppressed levels of private sector activity will result in higher levels of government borrowing than otherwise would be the case had private sector incomes and productivity been unhindered by the high rates.

“This means that the government must spend an increasing sum merely on interest charges. This places more naira in circulation without a corresponding increase in goods and services. This is inflationary”, he explained.

On the exchange rate and the economy, the APC National Leader stated that if we went to a freely floating exchange rate, the naira would devalue. This means our currency is overvalued in terms of our trade with the outside world.

He pointed out that this overvalued exchange rate is buoyed by high-interest rates. “Yet to maintain both interest rate and exchange rate levels simultaneously over time requires that money be siphoned from use in the productive economy in order to prop up both rates.

“High rates drain liquidity from the system. However, here the multiplier effect works terribly against us. For every naira drained from the system, we lose more than one naira of productive wealth, activity and income” Tinubu opined.

He, however, added that this provides a higher exchange rate but a shrunken domestic economic base. “This combination of a high exchange rate and a diminished domestic productive base gives a strong impetus to high import levels. In a well-functioning economy, import levels should shape the exchange rate.

“In our economy, the exchange rate determines import levels. Our demand for unnecessary imports is much too high. This unhealthy appetite drains or limited supply of foreign currency. We are again relegated to placing more and more naira in circulation in the futile chase of the dollar, the pound and the euro.

“To maintain the exchange rate, we must sacrifice both naira and dollars that could have been invested in strengthening our productive capacity and job creation. Instead of bolstering the economy, we give these financial resources to international finance arbitragers who care little for our well-being, who invest little in our productive economy and who gain too much influence over our national economy as insensitive creditors”, he added.

Meanwhile, to stimulate economies across the world during this trying period, Asiwaju said, “Central banks of all major economies have driven their prime interest rates below one per cent and nearer to zero per cent. These central banks are lending vast amounts at low rates just to support their industries and firms.

“My position has always been one of reticence to the foreign denominated debt due to repayment challenges. However, if we need foreign currency to buy items essential to protecting the nation from the coronavirus now is the time to borrow. The World Bank and other DFIs have said they will grant loans at concessionary rates. We should hold them to their word and demand a renegotiation of existing loans or debt relief.

“While we are not yet inundated with the medical fallout of corona, we too suffer gravely from the economic and financial effects of the contagion. The rest of the world understands the imperative of lower interest rates. We should not pretend to be blind to that which every other major nation sees.

“If this crisis is to have any positive economic aspect, let it be that we used this moment to drive down interest rates. To apply the rate reduction only to future loans would be prejudicial to current bank debtors. Thus, the financial authorities should consider formulating regulations that banks must reduce the high interest rates on existing business loans to the new lower general rate.

“This can be achieved through regulations requiring banks to automatically roll-over existing loans at the lower rate or regulations stating this must be done if the borrower so requests”, he explained.