Should the CBN print money to finance fiscal deficits?

Printing money to aid fiscal deficits is not uncommon for monetary authorities around the world. It is done in the form of monetisation - a way for the government to fund itself by issuing noninterest-bearing liabilities, like fiat currency or bank reserves held at the central bank. The countries currently monetising public deficits, most advanced economies, have reduced their interest rates to around zero per cent, while there are 22 countries with rates below zero per cent as of February 2021.

These countries are thought to be adopting the self-proclaimed Modern Monetary Theory. In this situation, the government or central bank can print as much money as it wishes to finance its fiscal deficit. The theory claim that a government can print money to finance its entire spending programme if it likes. That does not mean the policy has no consequences. Theoretically, such liquidity provided by central banks will create asset inflation in the short run. There will be inflationary pressure on credit growth and demand for real spending will increase to accelerate the economy’s recovery.

Countries with an annual inflation rate of around two per cent can afford to monetise their public deficits. Still, it will be a dangerous path to follow for Nigeria due to its persistent inflation rate. The country’s inflation rate for 2020 was 13.2 per cent, increasing from 11.4 per cent in 2019. Comparatively, Egypt inflation rate had decreased from 13.9 per cent in 2019 to 5.7 per cent in 2020. Similarly, South Africa’s inflation rate has declined from 4.1 per cent in 2019 to 3.3 per cent The emerging market’s average inflation rate averaged 5.1 per cent. Only 15 countries have a higher inflation rate than Nigeria, according to data obtained from the International Monetary Fund (IMF).

Earlier this month, the Governor of the Central Bank of Nigeria (CBN) made attempts to justify the bank’s reasons for printing money to finance fiscal deficits. He rightly stated that the apex bank must always support the government in times of financial difficulties. In an ideal world, the CBN would have published the information, describing how much money they would be adding to the economy. Emefiele stated that the country had faced a similar situation in 2016. He acknowledged that the situation is far worse today, and the CBN is also concerned with inflationary pressures.

However, the public is worried that unelected bodies, like the CBN, should not be making key decisions to influence other policies in the country. Doing so exposes the central bank to the political pressures of the government in pursuit of its agenda. Should the government be fiscally irresponsible, then the CBN will be put in a muchcomplicated position in the long run.

Another issue for the public is the lack of transparency and clarity in Emefiele’s statement, which casts doubt on the central bank’s credibility. Transparency is a principle of modern central banking – to invest in a good reputation and demonstrate competence for public confidence. Evidence has shown there is a positive relationship between economic development and central bank credibility. Certain factors can also affect it.

There are worries about the country’s rising debt profile too. According to the IMF, the country’s debt to GDP ratio increased to 35 per cent in 2020 from 29 per cent in 2019. The low ratio is notable as we have economies with a comparatively higher ratio. For example, Ghana has 62 per cent, South Africa - 83 per cent, Egypt - 90 per cent, Angola – 120 per cent and Sudan with 259 per cent. However, some countries have increased their debt-to-GDP ratio significantly over a short period. For example, South Africa increased from 62 per cent to 83 per cent. Still, it has a lowinterest rate and other structures to ensure its debt is sustainable. For Nigeria’s debt to be sustainable, a combination of short and long-term low-interest rates must be considered necessary conditions.

It is not wrong to agree that the CBN has contributed to the economy’s recovery from its persistent negative aggregate supply shock over the last six years. However, these excessive loose fiscal and monetary policies still create stagflation (high inflation alongside a recession). Thus, for successful monetisation of fiscal deficit to occur, the government, CBN in this case, must deal with three things.

First, the CBN must take up the challenge of not allowing inflation to get out of hand. Since inflation will be one of the consequences of printing more money, it means the naira will be further weakened. As an import-dependent economy, a weakened currency will create further shocks for the economy, especially if there are existing problems in the foreign exchange market. But with a weakened naira, all things being equal, it will be advantageous for exporters to sell their products abroad.

Secondly, monetisation is easier if it is interest-free, but that is not the case here. The CBN is also paying interest on existing bank reserves. Advanced economies currently monetising public deficits have reduced their interest rates to near zero per cent. Excessive spending would crowd out private investment, though this may not be an issue if the central bank keeps lowinterest rates.

Thus, to maintain solvency and ensure economic recovery, the government requires very low interest rates on its monetised public debt – to manage its rising debt profile. The lower interest should be extended to economic agents to boost the economy too. But it should not be an avenue to increase oligopolistic power, and it should reach the wider society. Through the financial sector, the government can boost the economy by guaranteeing credit facilities to encourage economic activities, which will raise productivity. Structures are required to be put in place for that to happen. Although, doing so will transform the monetisation programme to become quantitative easing (QE), which is also a common trend for central banks.

Thirdly, normalising the market by reducing the money in circulation (tightening monetary policy) will be complicated for the CBN in the future. That means increasing the interest rate when the economy has recovered would be difficult. The consequences include bond rout, lower investment, lower consumption, credit markets could crash, then the stock markets and we will be seeing another recession. That will be when the central bank Governor is expected to demonstrate competency by ensuring price stability and financial stability in the economy.

To conclude, financing fiscal spending by the CBN should only be done in exceptional circumstances to avoid further complications. If the government were to present problems to the CBN, like financing infrastructure, education, security or regional imbalances. The Governor should have the courage to say, “these are terrible problems, but it is not the central bank’s job to fix it.” The central bank will lose authority and respect now, but independence will be gained in the long run.

Dr Aminu is with Cardiff School of Management, United Kingdom