Nigeria inches closer to rate cut as outlook improves

July was another encouraging trading month for the Nigerian economy, thanks to the stabilizing macroeconomic environment.

Annual inflation eased for the seventeenth consecutive month, while positive core economic metrics pointed to further signs of improving stability. Elevated global Oil prices have boosted government reviews and heavily supported foreign exchange markets. The overall outlook for Nigeria remains positive, especially when considering how the IMF has raised its growth forecast and the World Bank has indicated its willingness to provide the nation with technical support.

According to the IMF, Nigeria’s economic growth rate in 2019 is projected to hit 2.3%, an improvement from the earlier 1.9% forecast thanks to an improved outlook on global Oil prices. As we head into the second trading month of Q2, there is likely to be an increasing focus on the Central Bank of Nigeria. With inflation pressures easing and economic conditions improving, the burning question among investors is when interest rates will be cut.

Consumer prices in the largest economy in Africa have cooled, from 11.61% in May to 11.23% MoM in June, its slowest pace in over two years. With inflationary pressures clearly becoming a theme of the past and gravitating closer to the CBN’s 6% – 9% target, logic states that a rate cut could be around the corner.

However, external and domestic risks ranging from global trade tensions, prospects of higher US interest rates and political risk at home could sabotage the central banks to cut rates. A sense of uncertainty ahead of the 2019 elections coupled with the possibility of pre-election spending stimulating demand-pull inflation could complicate matters for the CBN.

Escalating global trade tensions remain a significant threat to global growth and stability which is bad news for Emerging Markets. With trade tensions escalating between Nigeria’s two biggest trading partners, the nation could be caught in the firing line like many other emerging market currencies. An appreciating Dollar and the Federal Reserve’s monetary policy strategy may also play an important role in when or if the CBN takes action.

Market expectations remain elevated over the Federal Reserve raising US interest rates two more times this year, which may spark capital outflows from Emerging Markets. While a rate cut in Nigeria has the ability to boost economic growth by promoting spending and investment, it may widen the monetary policy divergence between the Fed and CBN.

What seemed like an easy decision for the CBN could turn difficult as the year progresses, especially when factoring in how the bullish sentiment towards the US economy has boosted speculation of a Fed rate hike. Will the CBN be willing to widen the US – Nigeria interest rate differential to pursue economic growth? Or will rates be left unchanged in a bid to prevent any unexpected downside shocks ahead of the general elections in 2019?

With Oil prices vulnerable to losses amid a possible return of oversupply concerns and Dollar strength remaining a dominant market theme, this toxic combination may present downside risks to Nigeria’s economic recovery. If second-quarter economic growth prints above market expectations and domestic inflation cools to single digits, the CBN could be given an opportunity to cut interest rates in Q4.

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