By Jide Akinsemoyin
For Nigeria to grow its economy from its current GDP of $390 billion to a projected $1 trillion, will require the banking sector to provide much more credit to the real economy than it currently does. The Central Bank of Nigeria (CBN), the banking regulator, understands how critical this will be if the economy is to meet its targeted growth. In July 2019, they issued a directive to all Deposit Money Banks to maintain a minimum Loan to Deposit Ratio (LDR) of 60% (raised to 65% in September), with a weighting of 150% given to the SME, Retail, Mortgage and Consumer Lending sectors, when computing LDR. Failure to meet this minimum threshold would require the Bank to add to their Cash Reserve Requirement (CRR), an amount equal to 50% of the lending shortfall.
The directive did achieve some initial success, with credit to the private sector increasing by 2.5% as at Q4 2020, according to figures released by the National Bureau of Statistics (NBS). However, the biggest proportion of these loans (19%) went to the Oil and Gas sector, which raises questions about the impact of the LDR policy on economic growth if loans are being made to an “elitist” sector that employs less than 1% of the country’s population and is dominated by expatriates, the political class and their friends. Compared to the deregulation of the Telecommunication industry in 2001, which took its contribution to GDP from insignificant in 2001, to the current significant 16% in the second quarter of 2023, the Oil and Gas sector has never had a similar job multiplier effect on the economy. As at the second quarter of 2023, the sectors contribution to GDP stood at 5.34%, an 8-year low.
A report by This Day in October, reveals that as at H1 2023, none of Nigeria’s Tier 1 banks (i.e., Zenith, UBA, Access, GTCO and First Bank) met the CBN minimum LDR threshold, indicating bank caution in extending credit to the private sector under the current economic conditions. The reluctance to extend credit may also be driven by concerns over the impact of the LDR policy on bank liquidity, as well as the risk of increased loan defaults by borrowers and the impact this would have on the CBNs Non-performing Loan (NPL) threshold for banks, currently set at 5%.
If as the evidence suggests, banks are not increasing their loan portfolios, then how are they able to post significant earnings year on year? According to analysis done by Business Day on the Financial Reports of four of Nigeria’s Tier 1 banks, the half year profits for 2023 posted by UBA, GTCO, Zenith and First Bank, were 260% higher than the comparable period last year. Interestingly enough, most of the increase in profits came from Net Fees and Commission Income and the devaluation of the FX rate in May, and not from Net Interest Income, which includes bank lending.
My analysis of Access Banks Financial Report for the year ended December 2022, supports Business Day’s general findings on the Nigerian banking sector, showing gross earnings up by 42.3% compared to 2021, making the bank the first Nigerian financial institution to cross the N1 trillion mark in earnings (although profits declined by 5% year on year). However, whilst the percentage contributions to profit were roughly the same for both Net Interest Income (19.5%) and Net Fees and Commission (19%), more than 50% of the percentage contribution to profit came from Net gains on financial instruments, more specifically Fixed Income securities like Treasury Bills and Government Bonds.
What is clear is that the problem of low availability of bank loans in Nigeria cannot be solved by the CBN alone. Indeed, there is a limit to what the regulator can do if the macro-economic environment is not right for banks to lend at rates that their customers can afford. Therefore, addressing the issues that are causing banks not to lend should be the priority, rather than the enforcement of the LDR policy by the CBN.
The first issue that needs addressing is that of excessive contributions to bank profits coming from Non-Interest Income instead of Interest Income. In Access Bank’s December 2022 Year-end report, more than 90% of the percentage contribution to Net Fees and Commission income came from credit related fees and commissions, account maintenance handling charges and commissions, and E-business income. Does the Guide to Bank charges issued by the CBN in December 2019 require a review and update to make it fit for purpose in the current economic and business environment? Nigerian banks must ultimately be empowered or regulated into playing their vital role in developing and growing a modern economy.
The second issue is the risk of borrowers defaulting on loans. In August 2020, the CBN issued guidelines aimed at reducing non-performing loans in the banking sector and to monitor chronic loan defaulters. Called the Global Standing Instruction (GSI) guidelines, it gave banks the power to debit loan and accrued interest due from bank accounts of loan defaulters across the entire Nigerian banking system. The move is significant in that it has brought about the centralisation of the credit payment history of customers in the different banks that make up the financial system. What the CBN and government now need to do as a next step, is to create the enabling environment for the emergence of independent credit reference agencies in Nigeria. These agencies will hold personal data like financial credit history on individuals and will work with lenders to create loan applicant credit scores that lead to better quality decisions on the awarding of credit to customers.
Third is the issue of government domestic borrowing crowding out lending to the private sector. The Nigerian government borrows to fund activities such as budget deficits and capital projects. As of June 2022, the governments total domestic debt stock stood at N26.23 trillion, mainly consisting of government issued Treasury Bills and government bonds which banks and investors purchase. When the government borrows it increases the demand for local credit by competing with the private sector for funds. This can cause loan interest rates to rise, which is what has happened in Nigeria. From the banks perspective, they will prefer to lend money to the government because it is lower risk compared to lending money to the private sector, which is higher risk. This creates outcomes such as the one discussed earlier in the analysis of Access Banks December 2022 year end results, whereby the gains made on Fixed income securities (e.g., Treasury Bills and government bonds) contribute over 50% to profits. It is therefore essential that the government creates space for private sector borrowing by reducing government borrowing, cutting the cost of governance, blocking leakages and improving revenues.
Finally, we look at the issue of inflation. Currently, the country’s benchmark interest rate (i.e., the Monetary Policy Rate – MPR – set by the CBN) as of July 2023, is 18.75%. Inflation as of June 2023, the highest since September 2005, is 22.79%. The CBN raised the MPR in a bid to tame inflation since the economy cannot grow optimally unless prices are stable. Banks will not lend to customers below the MPR rate because that is the rate at which they borrow money from the CBN (i.e., the cost of capital). Since the MPR is below the inflation rate, banks will also need to raise lending rates to compensate for the loss of purchasing power brought about by inflation and to cover the high cost of doing business in Nigeria. The result is the current high interest rate environment we are experiencing in the country, with some banks offering lending rates upwards of 30%.
The CBN is doing its part using interest rates to control inflation. It must also continue to ensure through regulation, that more of the available bank lending goes into critical sectors that stimulate the growth of the economy. The government has its part to play too, primarily in finding solutions to the problem areas of the economy responsible for driving up inflation and the costs of doing business (e.g., rising food, diesel and petrol prices, as well as the impact of the floating of the naira). Without fixing these issues, banks in Nigeria will continue to underperform in their core mandate of lending to the real economy.
