A primer on the Trilemma: Why CBN and Adeosun differ

Choose two: mother, daughter, wife.  Which two would you choose and which one would you sacrifice? We shall return to this problem shortly. In the past couple of weeks the CBN and the minister of finance have differed on macroeconomics (the economics of government, not the one involving you and your mai shayi).  The finance […]

Choose two: mother, daughter, wife.  Which two would you choose and which one would you sacrifice? We shall return to this problem shortly.
In the past couple of weeks the CBN and the minister of finance have differed on macroeconomics (the economics of government, not the one involving you and your mai shayi).  The finance minister, Mrs. Kemi Adeosun, pleaded for the reduction of interest rate; because doing so would make borrowing cheaper, which would encourage businesses to borrow from the banks, which would in turn generate employment because when entrepreneurs start or expand existing businesses, they would need employees.  The Monetary Policy Committee (MPC) of the CBN met and said they would have none of the minister’s suggestions.  Obviously, there’s an economic theory upon which they based their decision?  Yes.
 Yet, we understand none of it.  Try to read the published report of the MPC.  You might have more luck extracting meaning from a Japanese text than the unnecessarily inaccessible reports. 
It would appear that our government functionaries, politicians and technocrats enjoy keeping us in the dark when they cloak their ideas in jargons.  Our newspapers (which are also complicit in the scheme) are filled with technical material that no one understands – including the writers.  Leaving us, the general population to ask: “What the heck are they talking about?”
And the only person who appeared to explain the problem, approached it not in the right attitude.  Mr. Atedo Peterside, a banker, wrote in THE NATION newspaper of September 27, “Monetary and exchange rate policy, based on a sound theoretical underpinning such as the Mundell-Fleming Trilemma, is a clearly not everyone’s forte,” before moving ahead to rant against the “challenged economic team.”
It’s my opinion that Mr. Peterside’s disposition was rather snobbish; especially seeing that the Trilemma theory with which he was doing shakara is quite simple to understand.
Usually, Dr. Sanusi Abubakar, an economist and the Tuesday back page columnist of Daily Trust comes to our rescue.  But I’m yet to see his exposition on this.  However, do not let discouragement prey upon your quest for knowledge.  As the nation hungers for explanation, let’s see the most pivotal point about which they disagree.  By the time you finish reading this column, you should have a beginner’s handle on the “trilemma”.
In 1962, Robert Mundell and Marcus Fleming established that nations can only have two of the following three:
One, to stabilize international trade, countries try to have a fixed exchange rate. Two, they want international capital mobility so that investors can freely move money in and out of the country.  Three, they want control of monetary policy so that they can change interest rate to combat inflation and unemployment.  For example, to tackle unemployment, as Charles Wheelan convincingly explained in his book, “Naked Economics”, the central bank would lower the interest rate so that banks and their customers would be encouraged to borrow.  If customers borrow to fund their businesses, employment would be generated because more workers would be needed.
And to tackle inflation, the interest would be raised.  By doing this, money in circulation would be mopped up because people would want to save their money in banks to earn high interest on savings.  The last time I checked, my bank said that interest on savings is 5%.
So, choose two: monetary control.  International capital mobility. Fixed exchange rate.  Because you can have only two, this is called “trilemma” or the “impossible trinity”. 
To give a specific example of trilemma, Donald Marron in his book, “30-Second Economics”, wrote: “Imagine Mexico chooses a fixed exchange rate. It also has capital mobility, because today international finance moves freely across borders, whether Mexico likes it or not. But if it tries to take control of monetary policy-for example, by cutting interest rates to combat unemployment-it has a problem. If interest rates fall, investors will flee from the currency to find higher yields elsewhere. That means Mexico has to defend the currency-using up precious reserves-or admit defeat and raise interest rates again. In short, if Mexico wants a fixed exchange rate and capital mobility, it can’t run an independent monetary policy.  Governments are thus forced to make a choice: should they prioritize macroeconomic management-the ability to respond to inflation or recession-or stable international trade?”
So out of the three, which two did you think Nigeria chose?  Remember our central bank, some months ago, allowed the naira to float?  This means they foresweared the fixed exchange rate.  Therefore, it does appear that the CBN has chosen capital mobility (so that investors can move money in and out of Nigeria, even China has begun to implement this choice) and monetary control (so that it can control inflation and unemployment).
Now your question maybe: “Since the CBN is in control of the monetary policy, why can’t it lower the interest rate to improve the badly needed jobs as suggested by the finance minister?”  Well, that’s another debate.  The CBN thinks if it lowers the interest rate, foreign investors would not bring in their dollars and euros and go where they would find more yield on their investment.  If they do this, the value of the naira would not improve.
Which leaves but one question outstanding.  “Has the increase in interest rate brought in the investors and therefore improved the value of the naira?”  Recently, the CBN governor said that the decision has brought in a measly $1 billion. And the value of our naira keeps going south.  It’s for this reason that many have argued that some of these economic theories don’t work.  Why?  The same reason research in social sciences is more difficult than in the pure sciences: you’re dealing with human beings.
It’s for this reason that behavioural economics was created to answer the question that the regular economics can’t.  This field of study was created by psychologists led by Daniel Kahneman ( author of “Thinking, Fast and Slow”), Richard Thaler (the author of “Misbehaving”), the late Amos Tversky  and more recently Dan Ariely, whose books I enjoy reading.  These experts argue that humans are not econs or robots so can’t be expected to act “rationally” all the time.  Unfortunately, this is the underlying flaw in many of the economic theories.
Fortunately for us, unlike in macroeconomics, we don’t have to sacrifice any member of our family.
For more insights, other than the books cited above, also read, “The Little Book of Economics” by Greg Ip of The Economist newspaper.