October 18, 2019
By CSL Research
Yesterday, banks across the country were given a directive from the Central Bank of Nigeria to cancel any customer requests for purchase of Treasury Bills at Primary or OMO auctions, if such customers are borrowing customers of such banks or those of other banks. This also includes those enjoying CBN intervention loans. We are not certain what the CBN plans to achieve with this directive but we believe it may not be unrelated to the CBN’s recent efforts to promote lending to the real sector by commercial banks.
The CBN had in July 2019 sent a circular to all Deposit Money Banks (DMBs) mandating that they maintain a minimum Loan to Deposit Ratio (LDR) of 60% by September 2019 subject to a quarterly review. Barely three months after the first circular, the apex bank raised the bar, mandating banks to now maintain a minimum LDR of 65% by December 2019. The punitive measure for non-compliance by DMBs is a levy of additional Cash Reserve Requirement (CRR) equal to 50% of the lending shortfall of the target LDR and some banks were debited in September 2019 for failure to meet the 60% minimum.
Forcing banks to lend under the current macro-economic situation, with stringent capital and cash reserve requirements will only result in banks resorting to ingenious ways to meet these requirements and we believe this may be the reason behind CBN’s new directive. While the objective of the CBN is clear in terms of improving the flow of credit to the private sector to stimulate growth, we are concerned that these unorthodox methods being deployed to achieve this aim may have many unintended negative effects. We are also not certain how CBN intends to monitor compliance.
That said, we believe the banks will continue to explore other ways of meeting CBN’s requirements without significantly directing loans to the real sector. Recently, many banks have begun to show renewed interest in corporate and state government bonds which were previously unattractive to banks considering risk and reward. These assets do not qualify as liquid assets and as such are expected to be treated as loans.
We reiterate our view that forcing banks to lend under the current macro-economic situation will only result in a buildup in NPLs in the medium to long term given the sluggish growth in the economy and the high risk in the operating environment- this could pose a risk to financial stability. We also expect banks’ margins to be squeezed and capital positions of many banks to worsen. Already, we have observed that banks that had plans to issue bonds to increase their capital position have been holding off as this will only worsen a bad situation.
In the short term, we expect yields on loans to decline as banks push more loans to customers at lower yields in a bid to meet the CBN requirement. Furthermore, we expect cost of funds to also decline as banks become less aggressive at sourcing deposits.
