To Cut or Not to Cut
On Tuesday, the Monetary Policy Committee (MPC) of the Central Bank of Nigeria (CBN) reduced the Monetary Policy Rate (MPR) by 350 basis points (3.5%) to 23% from 26.5% in July 2026, delivering the largest interest rate cut on record. The decision to cut interest rates and the size of the cut were unexpected by most analysts, but this is not a rarity with the CBN.
Elsewhere, analysts can tell when a Central Bank plans to change interest rates due to a clear inflation target and consistent communication to meet the target. In Nigeria, the CBN has abandoned its inflation target of 6-9% for over a decade.
In the same meeting, the corridor around the MPR was adjusted to +50/-300 basis points from +50/-450 basis points in July 2026. The corridor represents the interest rate on CBN’s standing facilities, which are the cost of deposit and borrowing between the CBN and commercial banks. With Tuesday’s adjustment, the CBN reduced the rate that banks can earn on deposits to 20% (23% minus 300 basis points) from 22% and reduced their cost of borrowing to 23.5% (23% plus 50 basis points) from 27%. This narrows the MPR corridor to 3.5% and effectively eases monetary policy by 200 basis points.
When the CBN sets the MPR, the intention is to influence market wide interest rates, both within the banking sector (the interbank rate, deposit and lending rates) and outside the banking sector (money market rates in the debt markets). The ultimate goal is for these rates to impact economic activities and allow the CBN to meet its target.
How Interest Rate Transmission Works
The tone of the CBN in making this decision is unlike anything we have seen recently. In delivering this rate cut, the CBN strangely calls it a “recalibration”, a “reset”, and an “operational realignment” but not the easing of monetary policy. The CBN says that it is aligning its MPR with the Nigeria Overnight Financing Rate (NOFR), the interest rate at which banks borrow from other banks with collateral, which has remained at 22.0% since launch in April 2026. The CBN admits that the transmission of MPR to the NOFR is broken given a high MPR of 26.5% compared to the NOFR of 22.0%.
Yet this “recalibration” logic is confusing. Central Banks set MPR by considering the interest rate that would enable them to achieve their targets, not the rate at which banks lend among each other. The CBN, through its policy tools such as the MPR, the corridor around the MPR and liquidity management tools, influences interbank rates not otherwise.
We believe the reason the NOFR has remained at 22% is in part due to the CBN’s liquidity management. Put simply, the CBN did not mop up all Naira it created and this is its choice. When liquidity is high in the system, interbank rates will drift towards the CBN’s deposit rate, which is also 22%. Banks with surplus liquidity can place excess cash with the CBN and earn 22%, which becomes their minimum return. However, if there is high liquidity in the system, competition to lend to the few borrowing banks will drive the NOFR towards the 22% floor. Meanwhile, banks in need of liquidity know that they cannot bargain any lower than 22% nor can they borrow from the CBN cheaply given the steep 27% lending rate of the CBN. Effectively, the NOFR settles at 22%.
Now that the CBN has adjusted its deposit rate to 20% and lending rate to 23.5%, banks in need of liquidity can bargain better, subject to the liquidity conditions allowed by the CBN. If liquidity remains high in the banking system, NOFR can drift towards 20%, contradicting the no change stance of the CBN. In essence, the power to fix rates still rests with the CBN.
Overall, our interpretation is that the CBN is admitting that its earlier MPR of 26.5% was merely a suggestion and not a rate necessary to meet its targets, whatever they are. We will gauge the effectiveness of the CBN’s planned “reset” by how the NOFR and other money market rates evolve relative to the MPR going forward.
What does this decision mean for you as an investor?
The impact of this rate decision depends on whether the CBN truly intends because it can act outside of the MPR. Liquidity conditions are determined by the CBN and influence interest rates in a way that can be inconsistent with the MPR.
While the CBN says its policy stance remains unchanged, we believe it is at least a slight easing of monetary conditions. For instance, the savings deposit rate in the banking system is pegged at a minimum of 30% of MPR, which means the saving deposit rate will fall from 7.95% to 6.90%. As an investor, this means you will earn less on cash sitting idle in savings accounts.
Lending rates tend to be very sticky, especially for sub-prime borrowers (with low credit worthiness), because banks consider other factors beyond MPR in determining the cost of credit. However, lending rates can potentially fall depending on whether and how the interbank (NOFR) and money market rates, especially Treasury bills, respond to the new MPR. If the CBN keeps liquidity tight and the NOFR and money market rate remains around pre adjustment levels, lending rates are unlikely to reduce.
For investors, the real return on the Naira would remain strong if CBN maintains its stance. 364 day treasury bills are around 19.7%, which remains above the 15.4% inflation rate in August 2026, ensuring that you increase your purchasing power in the short-term. With external reserves of $54.8bn providing 11 months of import cover, the exchange rate is also likely to remain stable, strengthening the case for investing in Naira.
In the equities market, lower interest rates support higher stock prices, more so for companies with low cash, high indebtedness and expansion plans. However, if the CBN’s liquidity operations keep NOFR and treasury bills at pre-existing levels, then this decision is unlikely to matter much for equities.