Lagos — The Central Bank of Nigeria (CBN)'s massive intervention in the economy last week was a preemptive move to prevent a severe liquidity crunch and to ensure financial stability in the country, the bank's governor, Prof. Chukwuma Soludo, has said.

Last Thursday, the CBN rolled out a number of measures with the total capacity of increasing the liquidity in the system by over N1trillion. The measures include, a reduction in the bank's benchmark interest rate by 50 basis point from 10.25 per cent to 9.75 per cent; a reduction in the Minimum Liquidity Ratio (MLR) from 40 per cent to 30 per cent; and the Cash Reserve Ratio (CRR) from 4 percent to 2 percent, and they are aimed at reflating the economy by N1.05 trillion.

Additionally, the CBN has also allowed banks to buy back their securities and extended the lending window to 365 days (1 year), as opposed to overnight lending.

In an interview with THIS DAY in Lagos yesterday, Soludo said the strategic intervention was necessary because from symptoms of liquidity crunch that were already visible in the economy, the apex bank did not have to wait for financial institutions to start collapsing before administering liquidity support.

Soludo explained that, "we noticed that the system was becoming illiquid because of the partial drying up of credit lines to our banks liquidity crunch around the world; the past mop up of liquidity by the CBN; and the slow absorption of the capital budget, amounting to some N400 billion, by various ministries". He said the funds which had been released, had not been utilised because it takes some time for ministries and parastatals to spend money properly".

Elaborating on the symptoms the CBN had observed, he said "there were some developments in the Nigerian economy, which if we didn't nip in the bud, could have triggered financial crisis because there was a liquidity crunch, interest and lending rates are rising, and could invariably, have led to the deterioration of asset quality."

"We were going to have a situation where some institutions may not be able to service their loans. Some of the exposures are also for people who have invested in the market and if the market continues to go down, those who have borrowed to invest in the market will not be able to service their loans. On the other hand too, interest rates were going up such that people were not going for new loans. So what you then find is a market that is on both sides a crunch.

"So asset prices in the stock market were going down and at the same time the money market was drying up because there is no new fresh fund. Even the banks themselves would have started having problems because if people are not taking new loans they too would not be able to make profits", he said.

On concerns about inflation, he said the core inflation for end of last August estimated at 6.8 per cent was not excessive given the global turmoil.

"At the same time, there are also two sides to the price story. The headline inflation as at end of July was 14 per cent up from about 12 per cent in June. But this was driven by food crisis. Core inflation even though it has been rising steadily, is about 6.8 per cent or there about. So, concerns about inflation are not quite excessive, especially given the global turmoil," he said.

In terms of credit to the private sector, he explained that if the CBN was only concerned about price stability, there would have been no need for the intervention because credit expansion had grown phenomenally. "Quite frankly, if we had been going by the price stability objective, there would have been no need for the intervention. Because already, as at the end of August, credit to the private sector had grown on annualised basis at about 70, 7 per cent, so by the end of the year there would have been no concern about the banks not giving credit. In fact, the IMF expressed concern about the size of credit expansion in the economy," he explained.

Throwing more light on some of the liquidity measures, Soludo, who put the total deposit of banks at N7.8 trillion, explained that the reduction in bank's liquidity ratio from 40 to 30 per cent would automatically make about N1.7 trillion available for banks to turn into cash through its rediscounting window, which CBN reopened last Thursday. He said with this and other measures, such as the extension of the CBN's lending to banks to 360 days (1 year), as opposed to overnight lending which obtained in the past, lending rate would crash and interest rates would fall "since CBN would now be in a position to borrow banks money up to 360 days at low interest rate."

He said with these measures, banks will be able to lend more to investors, some of who will return to the capital market and that with a fall in deposit rates there will no longer be any incentive for people to put money in fixed deposits - meaning that they would start looking for other investment windows like the stock market. "Once the interest rates begin to crash - the money market and the capital market goes in opposite direction. Easing of monetary policy spurs up the capital market," he said.

Soludo, who expressed confidence in the fundamentals of the Nigerian economy and the capital market, said he is sure about the positive impact of the measures on the market, where share price fall since March this year, has raised concern.

He noted that immediately CBN announced these measures last Thursday, the inter-bank (where banks borrow from one another to meet their immediate cash needs) crashed from 18 to 10 per cent.

The CBN governor however advised that it will take a couple of week for the full impact of the measures to be felt. He explained that the market fell into a "confidence trap," which the various measures announced recently have broken. As the measures are implemented, the effect will permeate the desired areas.

"With the liquidity that we have put in the system, you would see how it will start filtering in, banks would start off-loading the excess liquidity. But it will not come immediately. It is not that once you release liquidity, banks will go to the streets and start giving everybody money. It would take a while. For example, people have to apply for loan; it has to be processed and so on. But you realise that there is subtle pressure on the banks to off-load their improved liquidity because they have to make profit", he said.

Although Soludo said there was no clubbing among central bank governors around the world to intervene in their various economies as most of them did last Thursday, his announcement came on a day several Central Banks around the world moved rapidly to restore confidence in the markets by direct intervention. Most Reserve Banks intervened directly in their markets by increasing liquidity, as investors stockpiled on cash over concerns that more financial institutions would fail after US investment bank, Lehman Brothers Holdings Inc. filed for bankruptcy last Monday and the U.S. government bailout of American International Group Inc (AIG). The measures have resulted in the rebounding of various markets, providing anxious investors some relief.