- CBN Governor Emiefele announced that new designs of high-value currency will begin circulation in December.
- The aim is to rein in unbanked cash (+85%) and improve the effectiveness of monetary tools on inflation and the naira
- Demonetization will not tackle real issues on FX. Also not a game-changer for banks, but multiples are currently cheap.
It is worth noting that the real problem is not the proportion of the unbanked currency in circulation (as it has not significantly deteriorated from previous levels – see chart above), but rather that the money supply has increased significantly since the CBN’s unorthodox practice of ‘ways and means’ lending under Buhari’s administration, which simply put, involves printing new monies and lending to the federal government.
Recently, the government has securitized these loans, but we don’t think it will mark an end to the “ways and means” advances. While redesigning the currency notes may not automatically grant potency to the CBN’s monetary tools, reining in unbanked cash could help measures like the Cash Reserve Ratio (CRR) become more effective in curbing money supply (the CBN last increased the CRR by 500bps to 32.5% in September). It will also help against money laundering and malpractices, as corruption and criminal activities typically thrive in cash-based systems. This becomes more pertinent as Nigeria’s general elections draw closer.
Will the new notes help curb inflation and salvage the naira?
Nigeria’s inflation spiked to 20.8% in September (its highest level since 2005) with increased prices typically driven by cost-push factors, rather than money supply. A direct impact of the increased money in circulation is the depreciation of the naira (especially in the parallel market), which has led to a rise in imported inflation. By having more banked cash, the CBN can control FX activities, especially with the bank’s tight capital control measures.
However, the short time frame for the implementation of the new notes (old notes expire on 31 January 2023) poses some risks to the naira in the short term, as hoarders of old notes will scramble to secure FX holdings. To mitigate this, Nigeria’s anti-corruption commission (the Economic and Financial Crimes Commission or EFCC) has said that it will clamp down on speculative activities on the naira and Bureaux de Change (BDC) operators that facilitate this outside of the stipulated guidelines. This will also be crucial, especially going into the pre-election season as spending and campaigning have been rumoured to drive up US$ demand, as politicians look to the parallel market to fill their coffers before they take to the campaign trail.Since the announcement, N/$ has depreciated to a new low of N775, compared to N755 on Tuesday in the parallel market. We reiterate our view that the fundamental challenges with the naira will remain, as dollar supply remains low due to the decline in oil revenues and lack of foreign portfolio investors’ funds, while FX demand continues to rise.
Scope for more bank deposits, but not a game-changer
As of March 2022, Nigerian banks’ total deposits stood at N31tn from N17tn in October 2019, after the bifurcation of the open market operation (OMO) and treasury bills market (when domestic, non-bank investors were excluded from trading OMO bills) led to a spike in system liquidity and unattractive investments yields.
The CBN’s demonetization plans to increase “banked cash” will be positive for banks, but it is unlikely to be a game-changer considering the total currencies outside banks (N3tn) makes up only 10% of total deposits. And it is unlikely that all of the currency in circulation is brought in.That said, Nigeria’s banking stocks are trading cheap, as the price-to-book multiples in GTCO (0.6x), ZENITHBA (0.5x), UBA (0.3x) and STANBIC (1.1x) are trading at a discount to their 5-yr averages of 1.5x, 0.8x, 0.5x, and 1.6x, respectively