The Guardian Newspaper editorial of Monday, December 16, 2019 on, “The fiscal and monetary cordiality that retards growth,” raised important issues, one of which is the role of orthodox and heterodox monetary policies in Nigeria’s economic management.
This is examined here with a view to providing important clarifications and insights. Two of the key messages in the editorial are recalled as follows: i) That the home-grown heterodox monetary policies (HHMP), which the Central Bank of Nigeria (CBN) has implemented run counter to the provisions of the CBN Act, which stipulate conventional approaches to achieving macroeconomic stability through price and monetary stability. ii) That the HHMP has not contributed substantially to macroeconomic stability because of the ever present excess liquidity which fuels inflation.
At the outset, I need to stress that heterodox policies are not that bad as portrayed in the editorial. More often than not, in practice, they do not substitute for orthodox policies. In Nigeria, they have complemented orthodox policies in order to achieve desired macroeconomic and development goals.
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Often they are resorted to because of the failure/ineffectiveness of orthodox policies. Heterodox or unconventional policies belong to the heterodox school of economic thought which tends to be critical of orthodox economic thought as its models tend to be distant from reality.
Indeed, a key driver of some heterodox approaches is the inconsistencies between orthodox assumptions and the real world. One of the heterodox schools is the developmentalist school. Orthodox economics or neoclassical economics is predicated on a set of assumptions relating to the role of the market and the state, how the society works, etc.
Of primacy in the neoclassical economic thought is the free market system which is predicated on perfectly competitive conditions and the market mechanism as the most efficient way to allocate resources. All the orthodox approaches take their bearing from this. Although orthodox economics provides useful insights for economic management, it completely ignores the political nature of economics.
Importantly, the market system does not have answers to all economic problems; it can address some problems but not all. Furthermore, market imperfections and market failures abound with the attendant distortions/consequences. Therefore, if left unchecked, the market can distort resource allocation in some circumstances and yield socially deleterious outcomes. Thus, orthodox policies can fail and where they do, they do not yield superior economic outcomes.
In light of this, some unconventional approaches have become very significant, even in the advanced countries. For example, in response to the global financial crisis that began in the summer of 2007, central banks around the world increasingly resorted to unconventional policy measures/non-standard policies.
These policies took many forms, but all of them tried to ease credit and liquidity constraints that ultimately might disrupt the flow of credit to the real economy. In the United States of America, during the global financial crisis of 2007 – 2008, conventional and unconventional fiscal and monetary policies were used by both the government and Federal Reserve Bank (Fed) to move the economy out of crisis.
The Fed incrementally lowered its target federal funds rate from 3.5 percent to near 0 below 0.25 percent for quite some time. It also adopted non-conventional measures including a range of new lending facilities, quantitative easing entailing the purchase of financial assets such as treasury and mortgage-backed securities to lower long-term interest rates, thereby increasing the money supply.
Besides, during the economic slowdown, the US government adopted an expansionary fiscal policy/stimulus package of US$ 787 billion. Both the monetary and fiscal policy stance aided the recovery of the economy and promoted growth and development.
In 2019, the United States President, Donald Trump, against the spirit of Fed independence, frequently and openly put pressure on the Fed to lower the monetary policy rate to stimulate growth and employment in view of the indications that the US economy could move into recession in 2020.
It is not clear as to the extent to which the pressure succeeded. However, this year, the Fed has consecutively cut its policy rate three times, the last being in October, putting the rate in the range of 1.50 – 1.75 percent.
In the Euro Area, the European Central Bank (ECB), during the 2007 – 2008 crisis, changed the maturity profile of its already relatively large financing operations. It started to provide unlimited amounts of reserves in its auctions, and it began to purchase securities outright. And in the last few years, because of low and slow growth concerns, the ECB has combined conventional and unconventional monetary measures.
The Bank implemented a 0.1 per cent policy rate cut which pushed the ECB’s overnight rate to -0.5 per cent. Then, in November 2019, the Bank restarted its quantitative easing program/asset purchase program to purchase €20 billion euros of securities every month until further notice.
Essentially, these constitute a new round of stimulus via unconventional measures aimed at not only jump-starting growth but also lower unemployment and push up price levels.
What is clear from the foregoing is that the intensification of heterodox policies in the past decade resulted from the failure of orthodox policies, the market in particular. The so-called global best practice methods failed even in the advanced market economies. They have had to resort to unconventional interventions.
In Nigeria, unconventional policy measures gained traction in the context of the stagflation that the country had to deal with from 2016. The economy had moved into recession while inflation rose to over 18 percent. The stagflation in Nigeria posed a dilemma for economic policy as actions designed to lower inflation may exacerbate unemployment, and vice versa. And actions to raise economic growth may worsen inflation.
Consequently, while orthodox monetary policy tools, as contained in the CBN Act 2007 (monetary policy rate, cash reserve requirements, liquidity ratio, special deposits, open market operations), could target the control of inflation, they were not in the position to stimulate the economy out of recession and generate income and employment.
Heterodox policies that complement fiscal policy had to fill this gap. It is important to note that the monetary policy instruments specified in the CBN Act do not preclude heterodox measures which the Bank can implement in the context of its developmental function as specified in Section 31 of the Act.
The heterodox measures do not run counter to the Act; rather they complement the orthodox provisions which had somehow become ineffective because of market failures. Hence, the monetary authority implemented heterodox policy measures expressed through special lending facilities and various development interventions aimed at making credit available at affordable interest rates to priority real sectors of the economy – agriculture, manufacturing, MSMEs, etc.
The interventions sought to boost production/supply and hence push down prices and the rate of inflation. Of note is that because of market imperfections, orthodox policy instruments could not address growth and inflation control simultaneously.
The action of lowering the monetary policy rate (MPR) to enable deposit money banks (DMBs) lower lending rates has hardly been effective because DMBs relate with the policy rate in an asymmetric way; they quickly raise lending rates when the MPR increases but refuse to lower such rates when the MPR is reduced thus undermining the effectiveness of the MPR action.
But the recent non-conventional actions of the CBN have achieved the desired result of crashing interest rates and increasing aggregate credit to manufacturing and other sectors of the real economy. Among the measures are the Loans to Deposit Ratio (LDR) and measures targeted at reducing non-performing loans (NPLs) and helping the deposit money banks to de-risk.
The LDR policy has compelled the commercial banks to move in the direction of advancing more loans and advances which is their primary function and a vital ingredient for growth and development. The banks are now more confident to advance more loans because of the Central Bank’s new policy measure – the Global Standing Instructions (GSI).
GSI allows a clause to be inserted in a loan agreement to recover, in case of default, a loan facility to a customer from any other bank where he/she has accounts with funds. Obviously, where the orthodox policy measures have failed, the unconventional measures are achieving the desired results. And so, in Nigeria’s context, the one-size fits all orthodox policies do not fit.
Under the present circumstances of un-abating fiscal challenges of the government, the Central Bank will have to continue with the unconventional policies to complement the efforts of the fiscal authority in the sphere of growth and development. At the same time, the fiscal authority will need to evolve imaginative solutions to its revenue challenge through increased tax revenue drive.
This will wean the government from dependence on monetised oil revenue over which the Guardian editorial expressed genuine concern.
Yes, the Guardian editorial is right that allocating oil dollars to the tiers of government could check excess liquidity in the system. But this is only to some extent. This is because monetisation of dollar oil revenue which the Guardian considers a HHMP is not the only source of liquidity build-up with inflationary implications. There are other notable sources of excess liquidity in the system.
Thus, even if dollar earnings from oil are allocated to the three-tiers of government the other sources of liquidity in the economy will still be active. In addition, the governments would need to brace up to deal with the feared corruption that may engulf the dollar allocations.
In conclusion, it is not the case that orthodox policies have been abandoned in Nigeria in favour of home-grown heterodox policies. Orthodox policies are still being implemented in various spheres. But where they have proved ineffective, unconventional policy measures have been implemented to complement the orthodox measures.
This has been the experience in both the developed and developing countries, Nigeria included. But for the heterodox policies, the Nigerian economy would, perhaps, not have exited recession at the time it did. They have been helpful in sustaining the positive growth rates achieved after the recession.
THISDAY