ABSTRACT
In
line with the CBN Act, 2007, one of the principal functions of the Central Bank
of Nigeria is to “ensure monetary and price stability”. In order to facilitate
the attainment of the objective of price stability and to support the economic
policy of the federal government, the act provides the constitution of a
Monetary Policy Committee (MPC) which will comprise the governor as the
chairman, 4 deputy governors two members of the board of directors of the bank,
three members appointed by the
president and 2 members appointed by the members appointed by the governor.
The
implication for the formulation of monetary policy is that with the new mandate
derived from the CBN act and the composition of the MPC monetary policy credibility
of the banks will be strengthened. This
is because monetary policy will now be
conducted in a more open and forward looking way
INTRODUCTION
Since
1959 , banks lent out close to the maximum allowed for the
49 year period from 1959 until August
2008, through the present
(November 2009)
Thus,
in the first period, commercial bank money was almost exactly central bank
money times the multiplier but this relationship broke down from September
2008.
As
a formula and legal quantity, the money multiplier is not controversial. It is
simply the maximum that commercial banks are allowed to lend out. However,
there are various heterodox theories concerning the mechanism of money creation
in a fractional reserve banking system, and the implication for monetary
policy.
CONCEPTUAL
FRAMEWORK OF MONETARY POLICY.
Bank
money/central bank money, based on the actual observe quantities of various
empirical measures of money supply such as m2 [broad money], or it can be the
theoretical “maximum commercial bank money/central bank money” ratio, defined
as the reciprocal of the reserve ratio, 1/rr.
The multiplier in the first
(statistic) sense fluctuates continuously based on changes in commercial
bank money and central bank money [though it is almost the theoretical
multiplier], while the multiplier in the second [legal] sense depends only on
the reserve ratio and thus does not change unless the law changes.
For
purposes of monetary policy, what is of most interest is the predicted impact
of changes in central bank money on commercial bank money, and in various
models of monetary creation, the associated multiple (the ratio of these two
changes) called the money multiplier (associated to that model). For example,
if one assumes that people hold a constant fraction of deposits as cash one may
add a “currency drawn “ variable (currency deposit ratio), obtain a multiplier
of (1+CD) /(RR+CD)
INSTRUMENT
OF MONETARY POLICY AND PERFORMANCE OF DEPOSIT MONEY BANKS IN NIGERIA
The most popular instrument of monetary policy
was the issuance of credit rationing guidelines, which primarily set the rates
of change for the components and aggregate commercial bank loans and advances
to the private sector. The sectoral allocation of bank credit in CBN guidelines
was to stimulate the productive sectors and thereby stem inflationary
pressures. The fixing of interest rates at relatively low levels was done
mainly to promote investment and growth.
Occasionally,
special deposits were imposed to reduce the amount of free reserves and credit
creating capacity of the banks. Minimum case ratio were stipulated for the
banks in the mid. 1970-s on the basis of
their total deposit liabilities, but since such cash ratios were usually lower
than those voluntarily maintained by the banks, they proved less effective as a
restraint on their credit operations.
From
the mid-1970s it became increasingly difficult to achieve the aims of monetary
policy. Generally, monetary aggregates, government fiscal deficit, GDP growth
rate, inflation rate and the balance of payments position moved in undesirable
directions. Compliance by banks credit guidelines was less than satisfactory. The major source of
problems in monetary management were the nature of the monetary control
framework the interest rate regime and the non-harmonization of fiscal and
monetary polices. The monetary control framework, which relied heavily on
credit ceilings and selective credit controls, increasingly failed to achieve
the set monetary targets as their implementation became less effective with
time. The rigidly controlled interest rate regime, especially the low levels of
the various rates, encouraged monetary expansion without promoting the rapid
growth of the money and capital markets. The low interest rates on government
debt instruments did not sufficiently attract private sector savers and since
the CBN was required by law to absorb the unsubscribe portion of government
debt instruments, large amounts of high-powered money were usually injected
into the economy. In the oil boom era, the rapid monetization of foreign
exchange earnings resulted in large increases in government expenditure which
substantially contribution to monetary instability. In the early 1980s, oil
receipts were not adequate to meet increasing levels demands and since
expenditures were not rationalized, government
resorted to borrowing from the central bank to finance huge deficits.
This had adverse implications for monetary management.
The
objectives of monetary policy since 1986 remained the same as in the earlier
period, namely: the stimulation of output
and employment and the promotion of domestic and external stability. In
line with the general philosophy of economic management under SAP, monetary
policy was aimed at inducing the emergence of a market oriented financial
system for effective mobilization of financial savings and efficient resources
allocation. The main instrument of the market-based framework is the open
market operations. This is complemented by reserve requirements and discount
window operations. The adoption of a market based framework such as omo is an
economic that had been under direct control for long, required substantial
improvement in the macroeconomic, legal and regulatory environment.
POSITIVE
AND NEGATIVE ASPECT
POSITIVE
In
order to improve macroeconomic stability efforts were directed at the
management of excess liquidity thus a
number of measures were introduced to reduce liquidity in the system. These included the reduction in the maximum ceiling on credit growth allowed
for banks: The recall of the special deposits requirements against outstanding
external payment arrears to CBN from banks, abolition of the use of foreign
guarantees/currency deposits as collaterals for naira. Loans and the withdrawal
of public sector deposits from banks to the CBN. Also effective August, 1990
the use of stabilization securities for
purposes of reducing the bulging size of excess liquidity in banks was
re-introduced commercial banks cash reserve requirements were increased in
1989, 1990,1992, 1996 and 1999.
The
rising level of fiscal deficits was identified as a major source of macroeconomic instability.
Consequently,
government agreed not only to reduce the size of its deficits but also to
synchronies fiscal and monetary policies. By way of inducing efficiency and
encouraging a good measure of flexibility in banks credit operations, the
regulatory environment has improved.
NEGATIVE
ASPECT
Areas
of perceived disadvantages to merchant banks were harmonized in line with the
need to create a conducive environment for their operations. The liquidity
effect of large deficits financed mainly by the bank led to an acceleration of
monetary and credit aggregate in 1998, relative to stipulated targets and the
performance in the precede year. Out flow of funds through the CBN weekly foreign exchange transaction at the
Autonomous Foreign Exchange Market (AFEM) and, to a lesser extent, at open
market operation (Omo) exerted some moderating effect.
THEORETICAL
FRAMEWORK
Financial
institutions under the supervisory purview of the CBN are the deposit money banks the discount
houses, primary mortgage institutions, community banks, finance companions
bureaus –de-change and development
finance institutions.
The
supervisory function of the CBN is structured into institutions. Banking
supervision and other financial institutions. Banking supervision department carries out the supervision of banks and discount houses
while the other and other non-bank financial institutions department supervises
community banks and other non-bank financial institutions. The supervisory
process involves both on site and off site arrangements.
In
line with the CBN Act, 2007 one of the principal functions of the central bank
of Nigeria is to “ensure monetary and price stability” in order to facilitate
the attainment of the support the economic policy of the federal government,
the Act provides the constitution of a
Monetary Policy Committee (MPC) which will comprise the governor as the
chairman 4 deputy governors two members of the board of directors of the bank,
three members appointed by the president and 2 members appointed by the
governor
The
implication for the formulation of monetary policy is that with the new mandate
derived from CBN Act and the composition of the MPC; monetary policy
credibility of the bank will be strengthened. This is because monetary policy
will how be conducted in a more open and forward looking way
Overtime,
the CBN has recognized that achieving stable prices would require continuous
resentment and evaluation of its monetary policy implementation framework to enable it
respond to the ever-changing economic and financial environment. It is against this background
that the bank introduced a new monetary policy framework that took effect on
11th December 2006. The ultimate goal of the new framework is to achieve a
stable value of the domestic currency through stability in short –term interest
rates around an “operating target”. The
interest rate, “operating target” rate
ie the “monetary policy rate” (MPR)
serves as an indicative rate for transaction in the inter –bank money market as
well as other Deposited Money Banks (DMBs) Interest Rate
The
main operating principle guiding the new policy is to control the supply of
settlement balances of banks and motivate the banking system to target zero
balances at the CBN, through an active inter-bank trading or transfer of
balances at the CBN. This is warmed at engendering symmetric treatment of
deficits and surpluses in the settlements account so that for any bank,
the cost of an overdraft at the central
bank would be equal to the opportunity cost of holding a surplus with the bank.
CONCLUSION
The
implication for the formulation of monetary policy is that with the new mandate
derived from the CBN act and the composition of the MPC; monetary policy
credibility of the bank will be strengthened. This is because monetary policy
will now be conducted in a more open and forward looking way
REFERENCES
1.
Bank for International Settlements - The Role of Central Bank Money in Payment Systems (Pg 9)
2.
Mankiw, N Gregory (2001) Principles of
Macro Economics
3.
Follow-Up on Samuelson And Monetary
Policy
4.
Krugman, Paul: Wells, Robin (2009) A
Mainstream Introductory Text In Macroeconomics 95th Ed )
5.
Mainsteream Intermediate Text In Macro
Economics
6.
Excresns Series, St Louis Fed
7.
Federal Reserve Education - How Does The Federal Create Money
8.
Mankiw
2002
9.
Mankiw Money Supply And Money
Demand : A Model Of The Money Supply
10. Krugman
and Wells 2009
11. Mankiw - Money and Prices in the Long Run
12. Krugman
and Wells (2009), Money, Banking & Federal Reserve System: Reserves, Bank
Deposits and Money.
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