CBN’s Balance Sheet Strategy Impacts In Economy

The global definition of central bank’s balance sheet is to summarize its financial position which is made up of assets, liabilities and equity. Assets equal liabilities plus equity. In contrast to a corporation, currency in circulation (cash) is a liability for a central bank. Through the purchase of any asset, financial or not, a central bank may increase its balance sheet at no cost, simply by creating new money (increasing its currency in circulation liability by the exact amount it increases its assets).

According to the reports excerpted from CBN’s site showed Monthly Statement of Assets and Liabilities is one of the financial reports published by the Central Bank of Nigerian (CBN) as one of the global central banks. It is an abridged balance sheet based on monthly accounts representing unaudited financial results and operations of the CBN at the last day of each month. It is prepared by Finance Department, gazetted and printed by the Federal Government Printers and obtainable form all CBN locations.

In the reports, the Assets side gives in brief the total External Reserves (including Gold Bars), Government and other Securities, Loans and Advances, Fixed Assets and Other Assets.

While Liabilities side on the other hand presents the Capital Subscribed and Paid Up, General Reserve, Currency in Circulation, Deposits (from Governments, Banks & others) and other liabilities.

Therefore, the CBN’s balance sheet plays a critical role in the functioning of the economy. The main liabilities of the central bank (banknotes and commercial bank reserves) form the ultimate means of settlement for all transactions in the economy. Despite this critical role the central bank’s balance sheet remains an arcane concept to many observers.

A research has shown that most central banks have moved from quantitative targets for monetary policy operations to price targets, where the domestic interest rate and/or the exchange rate are the operational target for monetary policy, the central bank’s balance sheet remains the best place to understand policy implementation. Central banks control the price of money by adjusting the terms and availability of their liabilities. The availability of liabilities is influenced both by changes in the remaining components on the balance sheet and by how the central bank chooses to respond through its operations.

Therefore an understanding of the whole balance sheet is required to fully understand central bank policy actions.

Here are some of the CBN’s balance sheet contents are as below:
N200billion Commercial Agricultural Credit Scheme (CACS), N200billion SME Restructuring and Refinancing Facility (SMERRF), N300billion Power and Airline Intervention Fund (PAIF), N220billion Micro, Small and Medium Enterprise Development Fund (MSMEDF), Agricultural Credit Guarantee Scheme Fund (ACGSF), SMEs Credit Guarantee Scheme (SMECGS), Real Sector Support Facility (RSSF), The Nigeria Electricity Market Stabilisation Facility (NEMESF), Youth Entrepreneurship Development Programme (YEDP), Export Stimulation Facility (ESF), Agri-business/Small and Medium Enterprises Investment Scheme (AGSMEIS), and Paddy Aggregation Scheme (PAS).

Others are Accelerated Agricultural Development Scheme (AADS), Anchor Borrowers Programme (ABP), Entrepreneurship Development Centres (EDCs), Private Bonds Programme (PBP), Nigeria Incentive-based Risk Sharing System for Agricultural Lending (NIRSAL), Differentiated Cash Reserve Requirements (DCRR), etc

The reason behind CBN innovative move through balance sheet strategy are to conserve foreign exchange, sustain foreign exchange market stability, ensure the efficient utilization of foreign exchange, tame currency speculators, ensure that optimum benefit is derive from goods and services imported into the country, encourage local production within Nigeria operators.

An understanding of the structure of the central bank’s balance sheet can provide significant insights into the goals that the central bank is attempting to achieve, be it as an inflation targeter, an exchange rate targeter or if the central bank is responding to a financial crisis.

Nigeria and other emerging market central bank balance sheets tend to be larger than those in advanced economies. As you are were, emerging market financial systems are more likely to be bank-based which needs high reserve requirements, and rely on currency as the premier means of payment. The emerging market central banks also are more prone to target exchange rate stability and to act as the government’s agent in allocating credit to targeted assets

Changes in the balance sheet through time can also reveal how successful the central bank has been in achieving its goals and how sustainable its current policy objectives are.

The central bank balance sheet is critical to the functioning of the economy as its main liabilities, banknotes and commercial bank reserves provide the ultimate means of settlement for transactions. Central banks exploit this role when achieving their policy goals by adjusting both the availability and the arms of access to such liabilities in order to achieve their desired targets.

Despite the form and presentation of central bank balance sheets varying around the world as a result of different accounting practices and local idiosyncrasies, all central bank balance sheets can be generalised to a common form. Within this common form are a number of broad categories, each of which plays an important role in the central bank’s function.

While a snapshot of the central bank’s balance sheet can provide information on current policy goals, to fully understand its effectiveness in achieving its goals the evolution of the balance sheet needs to be observed. The high-level objectives of the central bank will play a large role in the structure and evolution of its balance sheet. For example, under inflation targeting, assuming the central bank allows the exchange rate to float freely and there is no monetisation of government debt, then the central bank balance sheet will be characterised by monetary operations designed to control the short-term interest rate.

If the central bank is successful in achieving low and stable inflation there should be little volatility in the balance sheet and the balance sheet should grow as demand for central bank liabilities increase with the volume and value of transactions in the economy. On the other hand if the central bank is pursuing an exchange rate target then the central bank may build up its holdings of foreign assets either to facilitate intervention to offset devaluation or as a bi-product of intervention to offset appreciation. The resulting increase in foreign assets can outstrip the natural demand for central bank liabilities for transactional purposes.

In such cases the liabilities of the central bank are characterised by either free commercial bank reserves (in excess of those needed to fulfill reserve requirements) or central bank operations to absorb such reserves.

This distinction between asset and liability driven balance sheets is not just a technical one, it has the ability to influence the effectiveness of monetary policy, the central bank’s interaction with commercial banks and the central bank’s income. The structure and evolution of the central bank’s balance sheet is crucial in determining the level of central bank income.

Many central banks with asset driven balance sheets have faced losses as a result of their policies. While from a theoretical standpoint loss, and the potential for a negative capital position, should not impact on the ability of the central bank to achieve its policy goals there is potentially a limit to the extent of losses a central bank can bear for a reputational and independence perspective.

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