Five (5) Reasons for Liquidity Preference in Nigeria: Understanding Cash Holdings in a Volatile Economy
IntroductionIn Nigeria's dynamic economic landscape, liquidity preference — the tendency of individuals and businesses to hold cash or highly liquid assets — remains a critical behavior shaping financial decisions. Rooted in John Maynard Keynes' theory, liquidity preference arises from three primary motives: transactions (for daily needs), precautionary (against uncertainties), and speculative (betting on interest rate changes). In Nigeria, this preference is amplified by unique economic challenges, including high inflation, currency instability, and limited financial access. As Africa's largest population grapples with these factors, understanding why Nigerians favor liquidity over investments is essential for policymakers and investors alike. This article explores the key reasons behind liquidity preference in Nigeria, drawing on recent economic trends.
Five (5) Reasons for Liquidity Preference in Nigeria: Understanding Cash Holdings in a Volatile Economy1. Economic Uncertainty and Precautionary MotiveNigeria's economy is prone to volatility, driven by external shocks like fluctuating global oil prices, which account for over 80% of export earnings. This uncertainty heightens the precautionary motive, where people hoard cash for emergencies. With inadequate social safety nets and rising insecurity in regions like the North-East, households prioritize liquid assets to cover unexpected costs such as healthcare or job loss. The 2024 Naira devaluation, which saw the currency lose over 40% against the dollar, exacerbated this, as businesses held cash to mitigate foreign exchange risks. In 2025, ongoing power sector inefficiencies and political instability further encourage this behavior, as unreliable infrastructure forces firms to maintain cash reserves for operational contingencies.2. High Inflation and Negative Real Interest RatesPersistent inflation erodes purchasing power, yet it paradoxically boosts liquidity preference. Nigeria's inflation hit a 28-year high of 34.8% in December 2024, fueled by food price surges and supply chain disruptions. Projected to average 21.4% in 2025, this outpaces nominal interest rates, resulting in negative real returns on savings. The Central Bank of Nigeria (CBN) cut its benchmark rate to 27% in September 2025 — the first reduction in five years — but with inflation higher, there's little incentive to lock funds in banks. Instead, individuals prefer cash for quick transactions or speculative opportunities, as holding interest-bearing assets yields losses in real terms. Studies show inflation significantly influences money demand in Nigeria, reinforcing speculative holdings amid exchange rate fluctuations.3. Cash-Based Economy and Transactions MotiveNigeria's informal sector, comprising about 60% of the economy, relies heavily on cash transactions. Limited digital payment adoption, especially in rural areas, drives the transactions motive. With over 40 million unbanked adults, people hold cash for everyday purchases, remittances, and small-scale trade. The 2023 cash crunch during the Naira redesign policy highlighted this dependency, leading to widespread hoarding. Even as mobile money grows, cultural preferences for tangible cash persist, particularly in markets where trust in digital systems is low. This sustains high liquidity preference, as cash ensures seamless dealings in a fragmented financial ecosystem.4. Limited Financial Inclusion and Banking AccessPoor financial infrastructure contributes significantly. Many Nigerians lack access to credit or investment options, pushing them toward liquidity. High cash reserve ratios (CRR) imposed by the CBN — currently at 45% for commercial banks — limit lending, making loans expensive or unavailable. Corruption and bureaucratic hurdles further deter formal banking, with Nigeria ranking 140th in the 2024 Corruption Perceptions Index. In rural communities, sparse bank branches mean cash is king, amplifying precautionary holdings. Research indicates that low financial inclusion negatively impacts economic growth, perpetuating a cycle of liquidity preference.5. Speculative Motive Amid Policy ShiftsSpeculative motives thrive in Nigeria's unpredictable policy environment. Frequent monetary adjustments, like the 2024 foreign exchange liberalization, create opportunities to profit from interest or currency movements. With the broad money supply (M3) rising to N119.04 trillion in October 2025, liquidity surges, but contractionary policies curb excessive growth. Investors hold cash anticipating rate hikes or devaluations, as seen in responses to oil price shocks and global events.
ConclusionLiquidity preference in Nigeria stems from a blend of Keynesian motives and local realities like inflation, uncertainty, and infrastructural gaps. Addressing these through stable policies, enhanced financial inclusion, and inflation control could reduce cash hoarding, fostering investment and growth. As Nigeria eyes recovery in 2026, driven by initiatives like the Dangote Refinery, balancing liquidity needs with productive asset allocation will be key.
Five (5) Reasons for Liquidity Preference in Nigeria: Understanding Cash Holdings in a Volatile Economy1. Economic Uncertainty and Precautionary MotiveNigeria's economy is prone to volatility, driven by external shocks like fluctuating global oil prices, which account for over 80% of export earnings. This uncertainty heightens the precautionary motive, where people hoard cash for emergencies. With inadequate social safety nets and rising insecurity in regions like the North-East, households prioritize liquid assets to cover unexpected costs such as healthcare or job loss. The 2024 Naira devaluation, which saw the currency lose over 40% against the dollar, exacerbated this, as businesses held cash to mitigate foreign exchange risks. In 2025, ongoing power sector inefficiencies and political instability further encourage this behavior, as unreliable infrastructure forces firms to maintain cash reserves for operational contingencies.2. High Inflation and Negative Real Interest RatesPersistent inflation erodes purchasing power, yet it paradoxically boosts liquidity preference. Nigeria's inflation hit a 28-year high of 34.8% in December 2024, fueled by food price surges and supply chain disruptions. Projected to average 21.4% in 2025, this outpaces nominal interest rates, resulting in negative real returns on savings. The Central Bank of Nigeria (CBN) cut its benchmark rate to 27% in September 2025 — the first reduction in five years — but with inflation higher, there's little incentive to lock funds in banks. Instead, individuals prefer cash for quick transactions or speculative opportunities, as holding interest-bearing assets yields losses in real terms. Studies show inflation significantly influences money demand in Nigeria, reinforcing speculative holdings amid exchange rate fluctuations.3. Cash-Based Economy and Transactions MotiveNigeria's informal sector, comprising about 60% of the economy, relies heavily on cash transactions. Limited digital payment adoption, especially in rural areas, drives the transactions motive. With over 40 million unbanked adults, people hold cash for everyday purchases, remittances, and small-scale trade. The 2023 cash crunch during the Naira redesign policy highlighted this dependency, leading to widespread hoarding. Even as mobile money grows, cultural preferences for tangible cash persist, particularly in markets where trust in digital systems is low. This sustains high liquidity preference, as cash ensures seamless dealings in a fragmented financial ecosystem.4. Limited Financial Inclusion and Banking AccessPoor financial infrastructure contributes significantly. Many Nigerians lack access to credit or investment options, pushing them toward liquidity. High cash reserve ratios (CRR) imposed by the CBN — currently at 45% for commercial banks — limit lending, making loans expensive or unavailable. Corruption and bureaucratic hurdles further deter formal banking, with Nigeria ranking 140th in the 2024 Corruption Perceptions Index. In rural communities, sparse bank branches mean cash is king, amplifying precautionary holdings. Research indicates that low financial inclusion negatively impacts economic growth, perpetuating a cycle of liquidity preference.5. Speculative Motive Amid Policy ShiftsSpeculative motives thrive in Nigeria's unpredictable policy environment. Frequent monetary adjustments, like the 2024 foreign exchange liberalization, create opportunities to profit from interest or currency movements. With the broad money supply (M3) rising to N119.04 trillion in October 2025, liquidity surges, but contractionary policies curb excessive growth. Investors hold cash anticipating rate hikes or devaluations, as seen in responses to oil price shocks and global events.
ConclusionLiquidity preference in Nigeria stems from a blend of Keynesian motives and local realities like inflation, uncertainty, and infrastructural gaps. Addressing these through stable policies, enhanced financial inclusion, and inflation control could reduce cash hoarding, fostering investment and growth. As Nigeria eyes recovery in 2026, driven by initiatives like the Dangote Refinery, balancing liquidity needs with productive asset allocation will be key.
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