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Hike in MPR anticipated, but disappointing GDP data may restrain MPC, says Cordros Research

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Godwin Emefiele

SUN 23 MAY, 2021-theGBJournal- At a time of fascinating developments in the domestic and external economy, the Monetary Policy Committee (MPC) is expected to hold its third meeting of the year on the 24th and 25th of May 2021.

In the domestic economy, inflationary pressures cooled down in April despite lingering supply-side challenges. On the external front, risks to global economic growth remain roughly balanced despite emerging bumps that could undermine reflation trade and the commodity supercycle.

Domestic Economy Averts a W-Shaped Traverse

Activities in the domestic economy started the year on a dull note given the resurgence in COVID-19 infection rates across the country, albeit it was in line with the second wave seen across the world.

Since then, economic activities have improved albeit slowly, following the continued reopening of the economy amidst the citizens’ adaptation to changes brought by the pandemic, optimism surrounding the administration of COVID-19 vaccines and reeling impact of government support, particularly to the agricultural sector.

Indeed, the manufacturing PMI improved by 3.8 points to 48.7 points in February (January: 44.9 points) while the non-manufacturing PMI jumped by 5.4 points to 48.7 points during the same period.

Given that there was no major shock to the economy in March, we imagine that the manufacturing and non-manufacturing PMI would have increased above the 50-points benchmark. Overall, we forecast a GDP growth rate of 0.94% y/y in Q1-21 (Q4-20: +0.11% y/y) driven mainly by the non-oil sector.

Accordingly, we believe sustained expansion in economic activities would bring comfort to the Committee that the economy has consolidated on the tepid recovery in Q4-20 (0.11% y/y), averting a W-shaped recovery.

Inflation Risks Remain Elevated

Contrary to market expectations, domestic prices experienced disinflation for the first time since August 2019, when the FGN ordered the closure of the land borders. Pertinently, the headline inflation moderated by 5bps to 18.12% y/y in April, primarily driven by the slower rise in food prices (0.99% m/m vs March: 1.90% m/m) amidst a third consecutive month of decline in the core inflation (0.99% m/m vs March: 1.06% m/m). The moderation in inflation in April is likely to spark a debate on whether it is transitory or a trend that will persist in the coming months.

Cordros Research view is that the magnitude of the decline is too marginal to bring comfort to the Committee that the economy is beginning to experience disinflation. In addition, the headline inflation is still materially above the upper band of the CBN’s medium-term target of 6.00%-9.00%. Moreover, we believe members will be wary of the following risks that could potentially worsen inflationary pressures: Repercussions of the persistent security challenges on the harvest season, the growing prospect of the removal of fuel subsidy and (3) possibility of an upward adjustment in electricity tariffs.

Reflation Trade Hangs on a Balance between Vaccination Efforts and Early Withdrawal of Loose Monetary Policy

While sustained vaccination efforts and reopening of economies have kept hopes of reflation trade intact, accelerating inflation in the U.S has prompted fears that the Fed might tighten monetary policy earlier than expected if prices continue rising.

However, we note that the Fed has tried to allayed market concerns, noting that monetary policy will remain broadly accommodative until it sees “substantial progress” consistent with its full employment and price stability goals.

Our view aligns with Fed officials given the idiosyncratic factors: pent-up consumer demand arising from the reopening of the economy and fiscal stimulus, shortage of chips affecting the price of used vehicles and, high gasoline prices driving inflationary pressures. Consequently, we believe the Committee will have little worries about the possibility of capital flow reversals that will amplify exchange rate pressures at this meeting.

Another Divergence in Voting Pattern, but the Hawks will come out Top

Our baseline expectation is that most members will vote for a 50bps hike in MPR. However, we do not rule out the possibility of a 100bps hike, particularly if the Q1-21 GDP numbers surprise positively.-

Analysis is provided by Cordros Research.

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