Loan-to-Deposit Ratio: CBN counts success as policy clocks one year
By Emeka Anaeto, Business Editor
There are indications that the current Loan-to-Deposit Ratio, LDR, policy of the Central Bank of Nigeria, CBN, is turning positive despite the macroeconomic adversities arising from the impact of Coronavirus (COVID-19) Pandemic. LDR stipulates the volume of loans a bank must give out as a percentage of its total deposit, and in this policy the loan volume is stipulated at a minimum of 65 percent of the total deposit.
Financial Vanguard investigations last week indicated that as a result of the LDR policy the banking industry would still record increases in loans to the economy despite the limitations imposed by the COVID-19 economic challenges. It also indicated that CBN’s cost of managing excess liquidity has declined drastically and would continue to decline for the rest of the year.
Banks’ loans increased by 5.6 percent or N1.2 trillion to N18.9 trillion in the first quarter of 2020, Q1’20, from N17.4 trillion as at end 2019.
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This was coming after the first four months post-new LDR which saw a significant increase in banks’ loan to the economy following the CBN’s policy which came into effect in September 2019.
Before then loans to the economy which had risen to N16.1 trillion in 2016, had recorded a two consecutive years of decline first to N15.7 trillion in 2017 and a further declined to N15.1 trillion in 2018.
But it picked up the most to N17.4 trillion in 2019, helped largely by the new LDR policy.
However, information available at the CBN indicates that due to the business shut downs occasioned by the COVID-19 pandemic in April, a significant drop in loans was recorded.
But with gradual re-opening of businesses banks resumed issuing out loans in line with the CBN’s LDR parameters increasing their total loans to the economy by N3.3 trillion in June 2020, according to information contained in the Communique of the Monetary Policy Committee, MPC, of the CBN.
This resulted in a total increase in gross credit up to the pre-lockdown level of almost N19 trillion, with year end estimate put at over N20 trillion.
The MPC’s Communique attributes the increases to the LDR policy.
The MPC stated that most of the loans went to the manufacturing, consumer credit, general commerce, information & communication and agriculture sectors. The CBN’s policy change favours credit deployment to these sectors which it considers most productive to the economy.
To spur growth in the economy, CBN in October 2019 had raised the Loan-to-Deposit Ratio (LDR) of banks to 65 percent, after the September 30 deadline given to the banks to meet the initial target of 60 percent.
Meanwhile, despite the rise in the non-performing loans, NPLs, in the oil and gas sector due largely to the COVID-19 induced crash in the oil prices, some other sectors including agriculture and transportation recorded a decline in NPL at the back of the new policy.
Earlier in the year 2020 banks cut a deal with the CBN as they were granted regulatory forbearance in the restructuring of loans.
Over 33% of industry loans are expected to be restructured as part of the deals signaling the spate of economic crunch that has hit the private sector following the COVID-19 crises.
Despite the headwinds, the CBN appears satisfied with the level of NPL as highlighted in its July MPC Communique.
It stated: “The Committee noted the decrease in NPLs ratio to 6.4 percent at end-June 2020 from 9.4 percent in the corresponding period of 2019, on account of increased recoveries, write-offs and disposals. The Committee expressed confidence in the stability of the banking system and urged the Bank to monitor the compliance of deposit money banks to its prudential and regulatory measures to sustain the soundness and safety of the banking industry.”
Huge cost savings
Meanwhile, the LDR policy may have yielded additional positive returns in the monetary policy environment which would also spill over to major economic reprieves as CBN saves huge amount of money in its cost of managing excess liquidity in the financial system on the back of its policy reforms barely a year ago.
Instead of lending to real businesses as required by the CBN’s LDR directive, banks were deploying their funds to individuals and companies for investment in the Open Market Operation, OMO, where CBN trades the Nigerian Treasury Bills, NTB, to meet the LDR requirements.
In response to this circumvention the CBN tweaked its OMO policy in October last year (one month after the introduction of the LDR policy) by excluding local investors, individuals and corporate, from investing in OMO auctions. This re-enforced the focus of the new LDR policy, beating the banks into line.
Financial Vanguard investigations revealed that the ban has triggered a 45 percent year-on-year (YoY) decline in the volume of OMO NTBs issued and sold by the CBN, in the first half of the year (H1’2020).
Consequently, the CBN’s liquidity management cost (interest payment on OMO NTBs), fell by 48 percent YoY to N675 billion in H1’2020 from N1.297 trillion in H1’19.
The decline in this expense line implied the apex bank has recorded N622 billion savings from interest payment on OMO NTBs in the H1’2020.
This savings, according to the industry observers, is likely to rise further in the second half of the year, a situation which would enable the apex bank channel more money to its special intervention economic sector funding programmes, such as the micro, small and medium enterprises funding as well as other real sector funding needs.
It is widely agreed that no economy can grow and improve the living standards of its population in the absence of credit to the real sector. The real sector covers all activities that has to do with the aggregate supply and demand in an economy.
Arguably, until the CBN’s new LDR the contribution of Nigerian banks to the Gross National Product (GNP) is considered minimal especially in view of high interest rates on lending, while making credits inaccessible to the real sector.
The CBN, in exercise of its mandate to drive credit to the real sector of the economy particularly the small and medium scale enterprises (SMEs) had to roll out the new lending policy for Deposit Money Banks (DMBs) referred to as “LDR guidelines”.
The September 2019 policy letter signed by Ahmad Abdullahi, its Director, Banking Supervision, to all banks titled, “Regulatory measures to improve lending to economy”, the CBN stipulated the guidelines as follows: All Deposit Money Banks (DMBs) are required to maintain a minimum Loan to Deposit Ratio (LDR) of 60% by September 2019 and will be reviewed quarterly; To encourage SMEs, Retail, Mortgage, and Consumer Lending, these sectors shall be assigned a weight of 150% in computing the LDR for this purpose. The CBN will provide a framework for classification of enterprises that fall under these categories; The punitive measure to be employed to ensure that DMBs comply is a levy of additional Cash Reserve Requirement (CRR) equal to 50% of the lending shortfall of the target LDR.
However, barely one month after the initial policy statement, the apex bank reviewed the policy thus:
“The Central Bank of Nigeria (CBN) has noted the appreciable growth in the level of the industry gross credit, which increased by N829.40 billion or 5.33% from N15,567.66 billion at end-May 2019, to N16,397.06 billion as at September 26, 2019 following its pronouncements on the above initiative. “In order to sustain the momentum and in line with the provisions of our earlier letter, the minimum Loan to Deposit Ratio (LDR) target for all Deposit Money Banks (DMBs) is hereby reviewed upwards from 60% to 65%.
“Consequently, all DMBs are required to attain a minimum LDR of 65% by December 31, 2019 and this ratio shall be subject to quarterly review. To encourage SMEs, Retail, Mortgage and Consumer Lending, these sectors shall be assigned a weight of 150% in computing the LDR for this purpose.
“Failure to meet the above minimum LDR by the specified date shall result in a levy of additional Cash Reserve Requirement equal to 50% of the lending shortfall implied by the target LDR.
“DMBs are required to continue to strengthen their risk management practices particularly with regards to their lending operations.
“The CBN shall continue to review developments in the market with a view to facilitating greater investment in the real sector of the Nigerian economy whilst promoting a safe, sound and resilient financial system.”
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