1

IMPACT OF EXCHANGE RATE FLUCTATIONS ON NIGRERIAN BALANCE PAYMENTS (1970-2012)

ONU, CHIGOZIE JOSEPH

PG/M.Sc/12/64532

DEPARTMENT OF BANKING AND FINANCE

Digitally Signed by: Content manager’s Name

DN : CN = Webmaster’s name

O= University of Nigeria, Nsukka

OU = Innovation Centre

Azuka Ijomah

FACULTY OF BUSINESS ADMINISTRATION

2

IMPACT OF EXCHANGE RATE FLUCTATIONS ON NIGRERIAN

BALANCE PAYMENTS (1970-2012)

BY

ONU, CHIGOZIE JOSEPH

PG/M.Sc/12/64532

DEPARTMENT OF BANKING AND FINANCE

FACULTY OF BUSINESS ADMINISTRATION

UNIVERSITY OF NIGERIA, ENUGU CAMPUS.

DECEMBER, 2015

TITLE PAGE

3

IMPACT OF EXCHANGE RATE FLUCTATIONS ON NIGRERIAN

BALANCE PAYMENTS (1970-2012)

BY

ONU, CHIGOZIE JOSEPH

PG/M.Sc/12/64532

BEING A DISSERTATION PRESENTED TO THE DEPARTMENT OF BANKING AND FINANCE, UNIVERSITY OF NIGERIA, ENUGU CAMPUS, IN PARTIAL

FULFILMENT OF THE REQUIREMENTS FOR THE AWARD OF MASTERS OF SCIENCE (M.Sc) IN BANKING AND FINANCE

SUPERVISOR:

ASSOC. PROF CHUKE NWUDE

DECEMBER, 2015

4

APPROVAL PAGE

This dissertation is hereby approved by the Department of Banking andFinance, Faculty of Business Administration, University of Nigeria, Enugu Campus

……………………………………. ……………………..

Assoc. Prof. ChukeNwude Date

(Supervisor)

…………………………………… …………………….

Assoc. Prof. ChukeNwude Date

(Head of Department)

5

CERTIFICATION

This is to certify that ONU, CHIGOZIE JOSEPH, a post graduate in the Department of Banking

and Finance, Faculty of Business Administration with registration number PG/M.Sc/12/64532

has satisfactory completed the requirements for research work for the award of Master of Science

in Banking and Finance. The work incorporated in this dissertation is original as has not been

submitted in part or in full for any other diploma or degree of this University or any other

institution of higher learning.

………………………………… ……………………

Onu, Chigozie Joseph Date

(Student)

6

DEDICATION

To late Elder, Mrs. Onu Margret, for her support and for fear of God

7

ACKNOWLEDGEMENTS

I sincerely appreciatethe almighty God for allowing me to be alive to complete this program. I also appreciate the effort of my supervisor Assoc. Prof. ChukeNwude who also doubles as the Head of the Department, for taking time to carefully make desired corrections and inputs into this work. Sir, I remain eternally grateful to you.

I also wish to thank Prof. J.U.J. Onwumere for correcting and supporting me throughout this work.

My family especially, Dr. and Dr. Mrs.Onu, Mr. and Mrs. Ogbonna, Mr. Onu Silas and Mr. Onu Friday for their financial, moral and spiritual support.

The enormous encouragement of the Dean of the Faculty Prof. Mrs. J.O. Nnabuko is worth commending.

I wish to thank all my 2012/2013 M.Sc course mates and friends most especially Mrs. Ekwem Sandra, Mrs. Ruth, Rita, Amaka, Onyeke, Archibong, Chika, Uloma, Amara, Nnamdi, Ngozi, Ugonma, Onyebuchi, Kingsley, and the family of Nwachukwu and Mrs. Ajiri Edith.

I will ever be grateful to staffs of the Central Bank of Nigeria (CBN), Abuja for assisting me with all the necessary materials and data needed to complete this work.

Finally, my appreciation to Ebere, Oge and my nephew Samuel for typesetting this work properly and neatly.

8

ABSTRACT

Exchange rate refers to the price of one currency (the domestic currency) in terms of another (the foreign currency). Exchange rate plays a key role in international economic transactions because no nation can remain in autarky due to varying factor endowment. Movements in the exchange rate have ripple effects on other economic variables such as interest rate, inflation rate, unemployment, money supply, etc. Through its effects on the volume of imports and exports, exchange rate exerts a powerful influence on a country’s balance of payments position.The problem of the study arises in two forms. Based on the historical perspectives we noticed that Nigerian BOP has been cascading and it was attributed to exchange rate fluctuations and over dependence on oil export.This research is aimed at evaluating how exchange rate fluctuations affect the level of balance of payments in Nigeria for the period under study. Time series data was collated from central bank of Nigeria statistical bulletin for the periods under study and was analyzed using the Linear Regression with the application of Ordinary Least Squares (OLS) technique and the ARCH and GARCH model as a technique to evaluate variable fluctuations. The results showed that there is the presence of fluctuation in exchange rate series in Nigeria. The OLS result showed that exchange rate fluctuation had a negative and significant impact on balance of payments in Nigeria.There was negative and insignificant difference in the effect of exchange rate fluctuations in the fixed era and there was positive and insignificant difference in effect of exchange rate during flexible era on balance of payments in Nigeria. The result reveals that Inflation had a positive and insignificant impact on balance of payments and Interest rates had negative and insignificant impact on balance of payments in Nigeria. It is therefore the recommendation of this paper that the monetary authorities should employ every monetary tool to minimize the level of exchange rate fluctuations in the economy and the policy of exchange rate flexibility should be maintained but with government intervention guide.

9

TABLE OF CONTENTS

Title Page - - - - - - - - - - i

Certification - - - - - - - - - - ii

Approval Page - - - - - - - - - - iii

Dedication - - - - - - - - - - iv

Acknowledgements - - - - - - - - - v

Abstract - - - - - - - - - - vi

Table of contents - - - - - - - - - vii

List of Figure - - - - - - - - - - x

List of Tables - - - - - - - - - - x

CHAPTER ONE: INTRODUCTION

1.1 Background of the Study - - - - - - - 1

1.2 Statement of the Problem - - - - - - - 3

1.3 Objectives of the Study - - - - - - - 4

1.4 Research Questions - - - - - - - - 4

1.5 Hypothesis of the Study - - - - - - - 4

1.6 Significance of the Study - - - - - - - 5

1.7 Scope of the Study - - - - - - - -- 6

1.8 Operational Definition of Terms - - - - - - 6

References - - - - - - - - - 8

CHAPTER TWO: REVIEW OF RELATED LITERATURE

2.1 Conceptual Framework - - - - - - - 9

2.1.1 The Concept of Balance of Payment - - - - - - 9

2.1.2 The Concept of Interest Rate - - - - - - - 10

2.1.3 The Concept of Exchange Rate - - -- - - - - 11

2.1.4 The Concept of Inflation- - - - - - -- - 11

2.2 Theoretical Review - - - - - - - - 12

10

2.2.1 Optimal Currency Area (OCA) Theory - - - - - 12

2.2.2 Purchasing Power Parity Theory - - - - - - 13

2.2.3 Theory of Exchange rate, Exchange rate Fluctuations and Balance of Payments 13

2.2.4 Types of Exchange Rate Regimes - - - - - - 14

2.2.5 Exchange Rate Management before the SAP (Fixed regime) - - 15

2.2.6 Exchange Rate Management since the SAP (Flexible regime) - - 16

2.2.6.1Foreign Exchange Market (FEM) - - - - - - 18

2.2.6.2 Completely Deregulated Exchange Rate System - - - - 18

2.2.6.3 Reintroduction of the Fixed Exchange Rate System - - - - 19

2.2.7 Balance of payment - - - - - - - - 27

2.2.7.1 The Elasticity Approach - - - - - - - 33

2.2.7.2 The Absorption Approach - - - - - - - 34

2.2.7.3 The Monetary Approach - - - - - - - 34

2.3 Empirical Review - - - - - - - - 36

2.3.1 Balance of Trade/payment flow and Exchange Rate Volatility inNigeria; a Trend Analysis

- - - - - - - - - - 36

2.3.2 Exchange Rate Fluctuations and the Balance of Payment: Channels of Interaction in Developing and Developed Countries - - 38

2.3.3 Intertemporal Balance, Sustainability and Efficiency of the Exchange Rate

Mechanism - - - - - - - - - 41 2.3.4 The Balance of Payment Constrained Growth Model - - - 42

2.3.5 Foreign Trade Constraint and Cyclical Development - - - 44

2.3.6 Effect of Exchange Rate Reforms on the Trade Balance of Nigeria - - 44

2.3.7 Brief Overview of Exchange Rate Policy in Nigeria - - - - 49

2.3.8 Some Prior Studies - - - - - - - - 50

2.4 Review Summary - - - - - - - - 67

References - - - - - - - - - 69

CHAPTER THREE:METHODOLOGY

3.1 Research Design - - - - - - - - 82

3.2 Sources of Data - - - - - - - - 82

3.3 Model Specification - - - - - - - - 82

3.4 Description of Variables - - - - - - - 85

3.5 Technique of Analysis - - - - - - - 86

11

References - - - - - - - - - 89

CHAPTER FOUR

4.1 Presentation and Analysis of Data - - - - - - 90

4.1.1 Descriptive Analysis of The Variables 1970 – 2012 - - - - 90

4.1.2 Graphical Analysis of Variables - - - - - - 91

4.2 Test of Hypotheses - - - - - - - - 92

4.2.1 Test of Hypothesis One - - - - - - - 92

4.2.2 Test of Hypothesis Two - - - - - - - 94

4.2.3 Test of Hypothesis Three - - - - - - - 96

4.3 Implications of the Results - - - - - - - 99

CHAPTER FIVE: SUMMARY, CONCLUSION AND RECOMMENDATIONS

5.1 Summary of Findings - - - - - - - - 100

5.2 Conclusion - - - - - - - - - 100

5.3 Recommendations - - - - - - - - 101

5.4 Area for further study - - - - - - - - 101

5.5 Contribution to knowledge. - - - - - - - 101

Appendices - - - - - - - - - 103

Bibliography - - - - - - - - - 110

12

List of Tables

Fig 4.1.2 Graphical Analysis of the data 1970 – 2012 - - - - 103

List of Figure

Exchange rate unit root test - - - - - - - - 104

Balance of payments unit root test - - - - - - - 105

Inflation unit root test - - - - - - - - - 106

Interest rate unit root test - - - - - - - - 107

Cointegration test of the variables using the engel-granger approach. - - 108

Data used in the analysis - - - - - - - - 109

CHAPTER ONE

2.0 INTRODUCTION

2.1 BACKGROUND OF THE STUDY

In an ordinary parlance, Exchange rate refers to the price of one currency (the domestic

currency) in terms of another (the foreign currency). Exchange rate plays a key role in

international economic transactions because no nation can remain in autarky due to varying

factor endowment. Movements in the exchange rate have ripple effects on other economic

variables such as interest rate, inflation rate, unemployment, money supply, etc. These facts

underscore the importance of exchange rate to the economic well-being of every country that

opens its doors to international trade in goods and services. The importance of exchange rate

derives from the fact that it connects the price systems of two different countries making it

possible for international trade to make direct comparison of traded goods. In other words, it

links domestic prices with international prices. Through its effects on the volume of imports and

13

exports, exchange rate exerts a powerful influence on a country’s balance of payments position.

Consequently, nations in the pursuit of the macroeconomic goals of healthy external balances as

reflected in their balance of payments (BOP) position, find it imperative to enunciate an

exchange rate policy.

Nigeria has practiced both fixed and flexible exchange rate polices. From the period of 1967

through to 1970, Nigeria experienced a civil war. This adversely affected the fixed exchange rate

regime which was in place at the time. The fixed exchange rate regime was accompanied by

strict controls and regulations which ultimately resulted in the overvaluation of the exchange

rate. This had negative implications for the economy as it encouraged the importation of finished

goods which created more competition for the domestic producers.

Besides, the balance of payments position and the country’s external reserves level were both

compromised by the overvalued exchange rate (Sanusi, 2004, Sanni, 2006). In 1980 Nigeria was

an oil-exporting country faced with high capital inflows which resulted in the appreciation of the

naira. The oil boom came to an end by 1983 and the prevailing currency appreciation distorted

the growth of the economy. In 1986, Nigeria implemented the IMF-World Bank imposed

Structural Adjustment Program (SAP) which emphasised a market oriented approach to

exchange rate determination (Mordi, 2006). However, the exchange rate depreciated throughout

the 1980s. This decision was informed by the compromised balance of payments position as well

as the country’s declining external reserves level. Both the nominal and the real exchange rate

were depreciated so as to align them to their equilibrium levels (Obadan, 1994; Mordi, 2006).

The institutional agenda in place in 1986 was the Second-Tier Foreign Exchange Market

(SFEM). The objective of the SFEM was to attain a realistic exchange rate through a series of

exchange rate devaluations. SFEM implemented a dual exchange rate system and in 1987, the

two rates merged at the rate of 3.74 Naira-US$ for one US dollar. A Dutch Auction System

(DAS) was introduced in 1987 in order to improve the level of efficiency in the bidding system.

The SFEM and DAS were then replaced by the Foreign Exchange Market (FEM) before in 1987

in an attempt to reduce the replications in the Nigerian exchange rate system, as well as ensure

the depreciation of the Nigerian Naira. In 1989, the Bureau de change and the Inter-bank

Foreign Exchange Market (IFEM) were initiated in order to cater for the needs of small end-

users (Obadan, 1994). In 1990, the IFEM was re-organized to accommodate the re-enunciation

of the DAS. The reduction in arbitrage opportunities in the oil marketing sectors combined with

14

stronger controls in foreign exchange practices led to a noticeable moderation in foreign

exchange net demand (Obadan, 2006). The volatility in the official rates, however, was limited

with the coefficient of variation being 1.28 per cent for the year as a whole compared to 0.32 per

cent in 2010. From 1992 to 1993 the exchange rate system in Nigeria was deregulated and this

was further enhanced by realigning the official exchange rate with the exchange rate in the

parallel market (Ogiogio, 1996). In 1994 the Autonomous Foreign Exchange Market (AFEM)

replaced the IFEM to ensure that foreign exchange rate was sold at a market determined price, by

authorized dealers. Although the exchange rate became relatively stable in the mid-1990s, the

exchange rate was further depreciated and at the close of 1995, the Naira-US$ exchange rate

became eighty-two Naira in the autonomous part of the market. This however widened the gap

between the parallel and official exchange rate (Odusola, 2006). The further devaluation of the

Naira fostered a (Mordi, 2006, Obadna, 2006, Odusola, 2006).

Based on the above historical profile analysis, one can see that the level of exchange rate in

Nigeria has been experiencing significant interventions as a result of its nature of volatility and

fluctuations, thus this research will be focused on analyzing the impact of exchange rate

fluctuations on balance of payments in Nigeria covering the period 1970-2012.

1.2 Statement of the Problem

The position of international trade reflected in its balance of payments is considered and has

been attributed as one of the major determinants of a country’s level of economic growth and

development. This entails that based on a simple transmission mechanism; a favourable balance

of payment has the prospect of increasing the national productivity of an economy and an

unfavourable balance is expected to produce the opposite.

The Nigeria balance of payments/trade has been cascading which could be attributed to its

dependence on oil exports and exchange rate fluctuations (CBN, 2009). The dependence of

Nigeria on crude oil exports had important implications for the Nigerian economy since the oil

market is a highly volatile one. For example, being dependent on the export of crude oil, the

Nigerian economy became subject to the vicissitudes and vagaries of the international oil market

such that international oil price shocks were immediately felt in the domestic economy. Coupled

with this, Nigeria implemented a fixed exchange rate system that engendered overvaluation of

15

the domestic currency, serving as a disincentive for increased exports through non-

competitiveness of the country’s non-oil exports. On the other hand, the overvalued exchange

rate enhanced imports thereby exacerbating the already precarious balance of payment position.

The level of exchange rate remained volatile and exposed the economy to further deterioration

during the 1970’s and 1980’s until 1986 when a comprehensive economic adjustment

programme was put in place to restructure the economy. Exchange rate reform was a major

component of this economic reform agenda that was further intensified under the Nigerian

Economic Empowerment and Development Strategy (NEEDS). The goal of exchange rate

reform is to systematically attain an appropriate value for the Nigerian currency that would serve

as a major incentive for exports but disincentive for increased imports hence boosting the

position of the balance of payments to favorable heights.

Habib Ahemed and et al, (2011) in this study analyses the impact of exchange rate on

macroeconomic aggregates in Nigeria. Based on the annual time series data for the period 1970 -

2009. This study however fills gaps discovered in the above existing empirical literatures.

Firstly, a critical review of the above literature reveals that they focused mostly on exchange rate

as a given variable without taking into cognizance the fluctuating status of exchange rate which

is an inherent factor in exchange rate. This research thus creates a point of departure via

estimating the impact of exchange rate fluctuations on balance of payments in Nigeria 1970 -

2012.

1.3 Objectives of the Study

On a broad perspective, this research is aimed at evaluating how exchange rate fluctuations

affect the level of balance of payments in Nigeria for the period under study. In line with this, the

specific objectives were to:

1. analyze the impact of exchange rate fluctuations on balance of payments in Nigeria.

2. analyze the effect of exchange rate fluctuations during the fixed and flexible eras on

balance of payments in Nigeria.

3. determine the effect of exchange rate accompanying variables [Inflation and Interest

Rates] on balance of payments in Nigeria.

16

1.4 Research Questions

In response to the objectives of this study, the following research questions which will be

addressed pilots the study

1. To what extent has exchange rate fluctuations affected the balance of payments in

Nigeria?

2. Is there any significant difference between the impact of exchange rate fluctuations

during the fixed and flexible regime on balance of payments in Nigeria?

3. To what extent has inflation and interest rates as exchange rate accompanying variables

affected the level of balance of payments in Nigeria?

1.5 Hypothesis of the Study

In the course of this research, the following hypotheses will be tested

Ho: Exchange Rate fluctuations had no positive and significant impact on balance of payments in

Nigeria during the period 1970 - 2012

Ho: There is no positive and significant difference in the effect of exchange rate fluctuations in

the fixed and flexible era on balance of payments in Nigeria.

Ho: Inflation and Interest rates had no positive and significant impact on balance of payments in

Nigeria.

1.6 Significance of the Study

Generally, the research draws its relevance from the present and prospective beneficiaries and its

contribution(s) to academia at large. The pertinence of this research is justified on the ground

that it will show the impact of exchange rate fluctuations on the balance of payments in Nigeria

for the years under review; and thus provides a framework for policy prescriptions and

interventions.

In furtherance to the above, the research will be of significance to the following:

17

The Banking Sector: as exchange rate is a pure financial variable, the banking sector will find

this research relevant given that it will provide a clear information on the extent to which

exchange rate has affected the balance of payments in Nigeria.

Government: The federal government will find this study highly relevant as it will provide a

picture of the relative impact of exchange rate fluctuations on balance of payments and thus

motivate relevant policy reforms or sustenance. This research will also find its relevance in the

coffers of financial variable analysts given that the subject under study is purely a monetary

phenomenon.

Subsequent Analysts: This investigation will also serve as a stepping stone for researchers who

develop interest in carrying an empirical analysis on the concept of exchange and balance of

payments.

Scholars: Students will find this piece highly relevant as it will undeniably increase their

knowledge and horizon on the concept of exchange rate and its relationship with balance of

payments.

The Academia: The education sector is also considered as one of the significant beneficiaries

because it is believed that this research will be an addition to the existing stock of knowledge.

1.7 Scope of the Study

The scope of this research is primarily focused on analyzing the impact of exchange rate

fluctuations on balance of payments in Nigeria ranging from 1970-2012. This scope is chosen

because it is believed to have covered the periods of fixed and flexible exchange rate periods and

is large enough for statistical analysis. The scope is justified with following economic activities.

The 1962 – 1968 First National Development plan, the oil boom era of 1971 -1977. These

economic activities covered the fixed exchange rate regime. Therefore, structural adjustment

programme of 1986 justifies the flexible exchange rate regime.

The variable-Scope for this research is limited to the inclusion of Exchange rate figures, interest

rates, inflation rates and time series data representing the level of balance of payments for the

years stated above.

18

1.8 Operational Definition of Terms

In the course of this work the researcher used certain terms, which are purely related to the topic

under-study. These terms are explained below to make the work comprehensive.

1. OCA: Optimal currency area is a geographical region in which it would maximize

economic efficiency to have the entire region share a single currency.

2. SFEM: Second – tier foreign exchange market is a market determined exchange rate

policy. That means forces in market determine the trading of currencies.

3. IFEM: Inter – bank foreign exchange market, it was a daily bidding system under which

the central bank injected official fund into the market as and when funds were available.

4. DAS: Dutch auction system, it entails the payment by an authorized dealer of the

exchange rate that bids for foreign currency unlike where all dealers paid a central

determined rate by the central bank of Nigeria.

5. Depreciation: This is a situation whereby a given unit of a currency buys a less quantity

of other currency than it originally does.

6. Appreciation: This is the opposite of depreciation it is a situation whereby a given unit

of a currency buys more quantity of a given unit of another currency

7. Evaluation Control: Is a country’s external reserve and financial assets available to the

monetary authority to meet temporary imbalance in the external payment position

8. Bureau De Changes: A place for exchanging currency. An office or part of a bank

where foreign currency is exchanged

9. Black Market: These are unorganized foreign exchange market, where exchange

activities are carried out without the control or regulation of monetary authority

10. Under-Valuation: Is a situation where a country’s currency is valued below the real

value when compared with other currencies. That is, it is exchange at a ratio below its

actual value.

11. Over-Valuation: Is a situation where a country’s currency is valued higher than its real

value when it is measured with other curr3encies.

19

20

REFERENCES

Mordi, N. O. (2006). Challenges of Exchange Rate Volatility in Economic Management in

Nigeria. In The Dynamics of Exchange Rate in Nigeria: CBN Bullion, Vol. 30, No. 3, pp.

17-25.

Obadan, M I & I. Ihimodu (1980). Balance of Payments Policies under the Military in Nigeria:

Nigerian Economic Society Annual Conference

Obadan, M. I. (1994). Real Exchange Rates in Nigeria: National Center for Economic

Management and Administration, Ibadan

Obadan, M. I. (2006). Overview of Exchange Rate Management in Nigeria from 1986 to Date, In

The Dynamics of Exchange Rate in Nigeria: Central Bank of Nigeria Bullion, Vol. 30,

No. 3, pp. 1-9.

Ogiogio, T. M. (1996). Impact of External Sector Policies on Nigeria’s Economic Development:

Central Bank of Nigeria Economic and Financial Review, Vol 34, No 4, December.

Olayide S.O. (1969). Import Demand Model: An Econometrics Analysis of Nigeria’s Import

Trade: The Nigerian Journal of Economics and Social Studies, 10: 13-26.

Olisadebe, E.U. (1991).An appraisal of recent exchange rate policy measure in Nigeria: CBN

Economic and Financial Review, Vol. 29, No 2.

Sanni, H. T. (2006). The Challenges of Sustainability of the Current Exchange Rate Regime in

Nigeria. In The Dynamics of Exchange Rate in Nigeria: Central Bank of Nigeria Bullion,

Vol. 30, No. 3, pp. 26-37.

Sodestine, B.O. (1998). International Finance, London: Macmillian Educ. Ltd. 2nd ed.

21

CHAPTER TWO

REVIEW OF RELATED LITERATURE

2.1 Conceptual Framework

2.1.1 Balance of Payment

The balance of payments is defined as a systematic record of economic and financial transactions

for a given period of time, say one year, between residents of an economy and non residents rest

of the world. This transactions involve the provision and receipts of real resources goods,

services and income and changes in claims on and liabilities to the rest of the world. Specifically,

the balance of payments records transaction in goods, services and income, changes in ownership

and other changes in an economy’s holdings of monetary gold, Special Drawing Rights (SDRs)

and claims on and liabilities to the rest of the world. It also records unrequited or unilateral

transfers the provision or receipts of an economic value without the acceptance or relinquishing

of something of equal value. Generally, transactions involving payments to a country by non-

resident are classified as credit entries. Those involving payments by country to non-residents are

debt entries. The balance of payments of a country is a systematic record of all its economic

transactions with the outside world in a given year. It is a statistical record of the character and

dimensions of the country’s economic relationships with the rest of the world. The balance of

payments of a country is constructed on the principle of a double entry book keeping. Each

transaction is entered on the credit and debit side of the balance sheet. But balance of payments

account differs from business accounting.

Basically, the balance of payments is divided into the current and capital account. The capital

account is made up of portfolio and direct investment, either long or short term capital and

capital transfers. While the current account records all current transactions, which are

transactions that include either the export or import of goods and services. They include

merchandise and services. The capital account also refers to charges in financial assets and

liabilities, portfolio investment, external loan drawings and amortization and charges in short-

term capital movements. However, it should be noted that development in the other real sectors,

monetary and public has implications for the balance of payments. As a result, current account

deficit may not necessarily bean inappropriate policy to pursue especially in a country that is for

example, importing to increase domestic investment. However, in a short-term, import bills may

22

remain unpaid or external reserves could be drawn down. A long-term and more viable solution

lies in ensuring balance of payments viability. A viable balance of payments position may be

defined as a current account position, which can be financed on a sustainable basis by net capital

movements on terms that are compatible with reasonable development, growth prospects and

debt servicing capacity as well as macro-economic stability. It can be seen that the balance of

payments is linked with the other accounts in a general equilibrium framework. This implies that

disequilibrium in one sector; say external sector is transmitted to the other sectors and vice versa.

Thus, there is need to achieve both internal and external balance.

2.1.2 Interest Rate

The interest rate policy in Nigeria is perhaps one of the most controversial of all financial

policies. The reason for this may not be farfetched because interest rate policy has direct bearing

on many other economic variables such as investment decision. Interest rates play a crucial role

in the efficient allocation of resources aimed at facilitating growth and development of an

economy and as a demand management technique for achieving both internal and external

balance. Conceptually, interest rate in the context of this research is the price of borrowing from

funds from a financial institution of the lending nature. The variability of short-term and long-

term interest rates is a prominent feature of the economy. Interest rates change in response to a

variety of economic events such as changes in federal policy, crises in domestic and international

financial markets and changes in the prospects for long-term economic growth and inflation.

However, economic events such as these tend to be irregular Keith, (1996). There is a more

regular variability of interest rates associated with the business cycle, the expansions and

contraction that the economy experiences over time. For instance, short-term interest rates rise in

expansions and fall in recessions. Long-term interest rates do not appear to co-vary much with

the level of economic output. The term cyclical volatility of interest rates refers to the variability

of interest rates over periods that correspond to the length of the typical business cycle.

The variation of interest rates affects decisions about how to save and invest. Investors differ in

their willingness to hold risky assets such as bonds and stocks. When the returns to holding

stocks and bonds are highly volatile, investors who rely on these assets to provide their

consumption face a relatively large chance of having low consumption at any given time. For

example, before retirement, people receive a steady stream of income that helps to buffer the

changes in wealth associated with changes in the returns on their investment portfolios. This

23

steady return from working helps them maintain a relatively steady level of consumption. After

retirement, people no longer have the steady stream of income from working hence a less volatile

investment portfolios is called for. The lower volatility of investment returns allows retirees to

maintain a relatively even level of consumption overtime.

2.1.3 Exchange Rate

Foreign Exchange refers to as the financial transaction where currency value of one country is

traded into another country's currency. The whole process gets done by a network of various

financial institutions like bank, investors and government. Our major discussion is based on the

government i.e. Nigeria.

Conceptually, an exchange rate constitutes the price of one currency in terms of another.

Nationally, in the Nigeria situation, it is the units of naira needed to purchase one unit of another

country's currency (e. g. the United States dollar). That is, the value of the naira in terms of the

dollar or pounds sterling in the case of the United States (U.S.) or United Kingdom (U.K)

respectively.

The evolution of the foreign exchange market in Nigeria up to its present state was influenced by

a number of factors such as the changing pattern of international trade, institutional changes in

the economy and structural shifts in production. Before the establishment of the Central Bank of

Nigeria (CBN) in 1958 and the enactment of the Exchange Control Act of 1962, foreign

exchange was earned by the private sector and held in balances abroad by commercial banks

which acted as agents for local exporters. During this period, agricultural exports contributed the

bulk of foreign exchange receipts. The fact that the Nigerian pound was tied to the British pound

sterling at par, with easy convertibility, delayed the development of an active foreign exchange

market. However, with the establishment of the CBN and the subsequent centralization of

foreign exchange authority in the Bank, the need to develop a local foreign exchange market

became paramount.

2.1.4 Inflation

Inflation is seen as the persistent rise in the prices of goods and services. The concept of inflation

is a highly controversial term which has undergone modification since it was first defined by the

neo-classical economists. They meant by it a galloping rise in prices as a result of the excessive

24

increase in the quantity of money. They regarded inflation as destroying disease born out of lack

of monetary control whose results undermine the rules of business, creating havoc in markets

and financial ruin of even the prudent. Inflation is fundamentally a monetary phenomenon. In the

words of friedman, inflation is everywhere and always a monetary phenomenon and can be

produced only by a more rapid increase in the quantity of money than output.

2.2 Theoretical Review

2.2.I Optimal Currency Area ( OCA) theory The earliest and leading theoretical foundation for the choice of exchange rate regimes rests on

the optimal currency area (OCA) theory, developed by Mundell (1961) and McKinnon (1963).

This literature focuses on trade, and stabilization of the business cycle. It is based on concepts of

the symmetry of shocks, the degree of openness, and labor market mobility. According to the

theory, a fixed exchange rate regime can increase trade and output growth by reducing exchange

rate uncertainty and thus the cost of hedging, and also encourage investment by lowering

currency premium from interest rates. However, on the other hand it can also reduce trade and

output growth by stopping, delaying or slowing the necessary relative price adjustment process.

Later theories focused on financial market stabilization of speculative financial behaviour as it

relates particularly to emerging economies. According to the theory, a fixed regime can increase

trade and output growth by providing a nominal anchor and the often needed credibility for

monetary policy by avoiding competitive depreciation, and enhancing the development of

financial markets (see Barro and Gordon (1983), Calvo and Vegh (2004), Edwards and

Savastano (2000), Eichengreen et al (1999), and Frankel (2003) among others).

On the other hand, however, the theory also suggests that a fixed regime can also delay the

necessary relative price adjustments and often lead to speculative attacks. Therefore, many

developing and emerging economies suffer from a ―fear of floating,ǁ in the words of Calvo and

Reinhart (2002), but their fixed regimes also often end in crashes when there is a ‘sudden stop’

of foreign investment (Calvo, 2003) and capital flight follows, as was evident in the East Asian

and Latin American crises and some sub-Saharan African countries.

25

Not surprisingly, there is little theoretical consensus on this question of regime choice and

subsequent economic growth in the development economics literature as well. While the role of

a nominal anchor is often emphasized, factors ranging from market depth (or the lack of it),

political economy, institutions and so on often lead to inclusive suggestions as to which

exchange rate regime is appropriate for a developing country (Frankel et al (2001), Montiel

(2003), Montiel and Ostry (1991)). The literature in development economics acknowledges the

importance of the effects of the level of development to the relationship between regime and

growth (see Berg et al (2002), Borensztein and Lee (2002), Lin (2001), McKinnon and Schnabel

(2003), and Mussa e al (2000) among others).

2.2.2 Purchasing power parity theory

If the price level rises, the purchasing power of the currency would fall, hence its value in terms

of foreign currency ( that is, its rate of exchange) would also fall. On the hand, if the price level

in a country falls, the purchasing power of the currency would rise and consequently its rate of

exchange would also rise. Thus, the proponents of this purchasing power parity theory declared

that movement in internal price level bring about a proportionate change in the external

purchasing power of currencies or the rate of exchange.

2.2.3 Theory of Exchange Rate, Exchange Rate Fluctuations and Balance of

Payments

The theory of exchange rate and balance of payments has collectively and individually drawn the

attention of economists and related experts. This section of the investigation will be focused on

acknowledging the views, ideas and perceptions of economists, schools of thought and theorists

on the concept under investigation. Exchange rate is the price of one currency in terms of

another. It is the amount of foreign currency that may be bought for one unit of the domestic

currency or the cost in domestic currency of purchasing one unit of the foreign currency

Soderstine, (1998). It is the rate at which one currency exchanges for the other, and it is used to

characterize the international monetary system Iyoha, (1996). Anifowose, (1994) describes

foreign exchange as a monetary asset used on a daily basis to settle international transactions and

to finance deficits in a country's balance of payments. He emphasizes that it is an important

component of a country's stock of external reserve. Other components include holding of

monetary gold and special drawing rights (SDRs). He considers foreign exchange management

26

as a conscious effort to control and use available foreign resources optimally while ensuring to

build up external reserves in other to avoid external shocks attributable to dwindling of foreign

exchange receipts.

The issue of exchange rate management and macroeconomic performance in developing

countries has received considerable attention and generated much debate. The debate focuses on

the degree of fluctuations in the exchange rate in the face of internal and external shocks. There

appears a consensus view on the fact that devaluation or depreciation could boost domestic

production through stimulating the net export component. This is evident through the increase in

international competitiveness of domestic industries leading to the diversion of spending from

foreign goods whose prices become high, to domestic goods. As illustrated by (Guitan, 1976 and

Dornbusch, 1988), the success of currency depreciation in promoting trade balance largely

depends on switching demand in proper direction and amount as well as on the capacity of the

home economy to meet the additional demand by supplying more goods. On the whole,

exchange rate fluctuations are likely, in turn, to determine economic performance. It is therefore

necessary to evaluate the effects of exchange rate fluctuations on output growth and price

inflation.

Exchange rate policies in developing countries are often sensitive and controversial, mainly

because of the kind of structural transformation required, such as reducing imports or expanding

non-oil exports, invariably imply a depreciation of the nominal exchange rate. Such domestic

adjustments, due to their short-run impact on prices and demand, are perceived as damaging to

the economy. Ironically, the distortions inherent in an overvalued exchange rate regime are

hardly a subject of debate in developing economies that are dependent on imports for production

and consumption.

2.2.4 Types of Exchange Rate Regimes

In Nigeria, the exchange rate policy has undergone substantial transformation from the

immediate post-independence period when the country maintained a fixed parity with the British

pound, through the oil boom of the 1970s, to the floating of the currency in 1986, following the

near collapse of the economy between 1982 and 1985. In each of these epochs, the economic and

political considerations underpinning the exchange rate policy had important repercussions for

the structural evolution of the economy, inflation, the balance of payments and real income.

27

The earliest and leading theoretical foundation for the choice of exchange rate regimes rests on

the optimal currency area (OCA) theory, developed by Mundell (1961) and McKinnon (1963).

This literature focuses on trade, and stabilization of the business cycle. It is based on concepts of

the symmetry of shocks, the degree of openness, and labor market mobility. However, since the

links between the nominal exchange rate regime and macroeconomic performance both

counterbalance and reinforce each other, the OCA theory is unable to present an unambiguous

proposal for the optimal exchange rate regime.

2.2.5 Exchange Rate Management before the SAP (Fixed regime)

Exchange rate policy in Nigeria has undergone substantial transformation since the immediate

post-independence era, when the country operated a fixed exchange rate system up to the early

1970s and then from 1986 when market based exchange rate system was introduced in the

context of the structural adjustment programmes (SAP). In general, the optional management of

the exchange rate depends on the policy makers’ economic objectives, the sources of shocks to

the economy, and the movement in major macroeconomic aggregates. (Lloyd et’al 2005) as a

result, it is difficult to define a system that might be effective and optimal at all times. When

economic conditions change, the suitability of the existing system may be called to question,

thereby, necessitating the need for change.

Before, 1973, Nigeria’s exchange rate policy was in consonance with the International Monetary

Funds (IMF) par value or fixed exchange system. The Nigerian currency had its exchange rate

largely subjected to the administrative management. The exchange rate was largely passive as it

was dictated by the fortunes, or otherwise, of the British pound sterling precisely on a 1:1 ratio

before it was devalued by 10%. Thereafter, the currency was allowed to move independently of

the sterling. Following the breakdown of the IMF per value system in 1971, the naira was

adjusted in relation to the dollar.

In 1978, the CBN applied the basket-of- currencies (12 currencies) approach as a guide in

determining the exchange rate movement. The exchange rate during this period was determined

by the relative strengthen of the currencies of the country’s trading partners and the volume of

the trade with such countries. Weights were assigned to countries’ currencies with the dollar and

sterling dominating in the exchange rate calculation. This policy was jettisoned in 1965 in favour

of quoting the naira against the dollar.

28

The main objectives of Nigeria’s exchange rate policy during this period were to:

1. Equilibrate the balance of payments, preserve the value of external reserves and maintain

a stable exchange rate. Thus, throughout the 1970s, except 1976 and 1977, the naira was

appreciated progressively to source imports cheaply to implement the various

development projects. This enhanced the reliance on imports which ultimately led to

balance of payment problems and eventually depletion of the countries of external

reserves. By 1981, a policy of gradual depreciation of the naira against the dollar or

pound sterling based on whichever, was stronger, following the collapse of oi9l price in

the world market. Nevertheless, up to the time of SAP, the exchange rate policy

encouraged the overvaluation of the naira as reflected in real exchange rate appreciation

particularly in the 1970s. Obadan (1987) a major factor in the real exchange rate

appreciation was the sharp increase in oil prices and foreign exchange inflow, as the

exchange rate in Nigeria generally mirrored movements in oil prices.

Generally the overriding objectives of exchange rate management then was apparently not

medium or long term balance of payment objective as the exchange rate policy was not geared

towards the attainment of a long term equilibrium rate that would equilibrate the balance of

payment in the medium long term and yet facilitate the achievement of certain structural

adjustment objectives, such as export diversification and less import driven economy.

For example, according to the theory, a fixed exchange rate regime can increase trade and output

growth by reducing exchange rate uncertainty and thus the cost of hedging, and also encourage

investment by lowering currency premium from interest rates. However, on the other hand it can

also reduce trade and output growth by stopping, delaying or slowing the necessary relative price

adjustment process.

2.2.6 Exchange Rate Management since the SAP (Flexible regime)

With introduction of the Structural Adjustment Programme (SAP) in 1986 a flexible exchange

rate mechanism was adopted with the floating of the naira in the second-tier system; the

exchange rate was largely determined by market forces. Although these forces were expected to

produce a clearing price as the basis for the allocation of foreign exchange, the monetary

authorities still had the power to intervene in the market when necessary. Such intervention

29

depends on the state of the balance of payments, the rate of inflation, domestic liquidity, and the

employment situation.

The NFEM began as a dual exchange rate system which produced the official first-tier exchange

rate and the (SFEM) or free market exchange rate. Pre-SFEM was applied to a few official

international transitional transactions, debt service payments, contributions to international

organizations, and expenses of Nigerian embassies were excluded from the SFEM and settled at

the first-tier rate. The second-tier rate was determined by auction at the SFEM. At the first two

sessions of the SFEM, the average of successful bids of authorized dealers was used to determine

the exchange rate. Allocations were made to banks on pre-determined quota basis. Owing to the

downward trend of the nominal exchange rate, the average pricing method was abandoned in the

auction and the marginal rate was adopted.

Under this method, the last successful bid determined the clearing price, which was also the

ruling rate. However, the method did not succeed in entrenching professional discipline in the

system as the hidings appeared unrelated to market situations. As such, Dutch Auction System

(DAS) was adopted in April 1987, with an aim of introducing professionalism. Under the DAS,

individual bank bid rate were used to allocate foreign exchange. They system, however, created

the problem of multiplicity of rate, which resulted in the further depreciation f the naira.

The objectives of the exchange rate regime under SAP can be said to some extent to have

reflected the need of medium/long term BOP equilibrium. Thus, the SFEM was expected to

achieve a realistic exchange rate of the naira, which would reduce excess demand for foreign

exchange to import finished goods and stimulate non-oil earnings. Essentially, the objectives of

SFEM includes the achievement of a realistic exchange rate determined by the market forces,

encouragement of foreign exchange inflow and discourage outflow, stimulation of non-oil

exports, enhance revenue for government and elimination of currency trafficking and wiping out

of unofficial parallel foreign exchange market.

Therefore, the ultimate expectation was that the exchange rate policy and management action

under SAP would lead to an improvement in the balance of payment position and ensure the

convertibility of the naira.

30

2.2.6.1Foreign Exchange Market (FEM)

This came into being when the first and second tier markets were merged in 1987 and a unified

exchange rate system emerged. The merger increased demand pressures and contributed to the

persistent depreciation of the naira between July and November 1987. In 1988, the inter-bank

market where banks were alloused to transact official foreign exchange business among

themselves was separated from the official market. Subsequently, an autonomous market for

privately sourced foreign exchange emerged with its inter-dependent rates. The autonomous

market rates depreciated continuously, necessitating its subsequent merger with the FEM to form

the Inter-Bank Foreign Exchange Market (IFEM) in January 1989. Under IFEM, Exchange was

determined by marginal rate pricing, average rate pricing, highest and lowest bid etc. to further

reduce instability, the CBN modified the Inter-bank procedures in December 1990 when the

DAS was re-introduced.

DAS was first introduced in 1987, and after 1990, it was re-introduced again in 2002 as the retail

Dutch auction system. Since 2006, the wholesale DAS has been in operation. DAS was

introduced against the background of widening gaps between the parallel and official exchange.

The system was introduced to enhance professionalism in FEM and prevent outrageously high

bid rate. Obadan, (1993).

Notably, FEM Act also lists sources of foreign currency that may be sold in the AFEM to include

foreign currency domiciliary accounts maintained in authorized banks in Nigeria, foreign

currency held or imported by Nigerians returning home from outside Nigeria, non-oil export

proceeds, fees and commission, earned from invisible transactions etc. from the above it seems

there is only one market for the conduct of foreign currency/exchange business in Nigeria.

(Nduka Ikeyi 2004) these could be argued based on the activities other markets which could be

also found in Nigeria context.

2.2.6.2 Completely Deregulated Exchange Rate System

The parallel market premium was becoming increasingly high, reaching 79.2% in February

1992, compared with 20.0% in 1990 and 35.5% in 1991, as against the conventional limit of

5.0%. As a result of the persistent instability in the foreign exchange market, the CBN adopted a

completely deregulated system of foreign exchange trading on March 5, 1992. Under the new

arrangement, the CBN bought and sold foreign exchange actively in the market and was also

31

expected to supply in full all requests for foreign exchange made by the authorized dealers. The

aim of this new mechanism was to narrow the parallel market premium and enhance the

operational and allocative efficiency of the foreign exchange market. In pursuance of these

objectives, the CBN adjusted it effective rate upward on March 5, 1992. The upward adjustment

of the official exchange rate reduced the parallel market premium for a limited period, the

parallel market premium declined gradually while effective demand by banks for foreign

exchange fell short of the supply. However, as a result of renewed demand pressures and

speculative activities, the parallel market premium started to widen again. In 1993, the naira

exchange rate was administered at N21.9960 to the dollar throughout the latter part of the year.

Note; the rates in the parallel market and the bureau de change almost doubled the rate at the

official market.

2.2.6.3 Reintroduction of the Fixed Exchange Rate System

Given the ailing nature of the economy and the need for its recovery as well as the role of an

appropriate exchange rate in the recovery bid, New Broad policies to stabilize and shore-up the

value of the naira were delineated by the Federal Government in 1994, and the naira exchange

rate was pegged at N22.00: $1.00 and foreign exchange earnings were domiciled in the CBN.

The system was JeHisoned in 1995 in favour of guided deregulation of the foreign exchange

market. Then a dual exchange rate emerged with the reintroduction of AFEM in addition to the

official exchange rate. Thus, Nigeria’s exchange rate management after 1986 could be

categorized as managed float in which the CBN embarked on a delicate balancing act of

controlling volume and price Adamgbe, (2003).

Later theories focused on financial market stabilization of speculative financial behaviour as it

relates particularly to emerging economies. According to the theory, a fixed regime can increase

trade and output growth by providing a nominal anchor and the often needed credibility for

monetary policy by avoiding competitive depreciation, and enhancing the development of

financial markets (see Barro and Gordon (1983), Calvo and Vegh (1994), Edwards and

Savastano (2000), Eichengreen et al (1999), and Frankel (2003) among others).

On the other hand, however, the theory also suggests that a fixed regime can also delay the

necessary relative price adjustments and often lead to speculative attacks. Therefore, many

developing and emerging economies suffer from a “fear of floating,” in the words of Calvo and

Reinhart (2002), but their fixed regimes also often end in crashes when there is a “sudden stop”

32

of foreign investment Calvo, (2003) and capital flight follows, as was evident in the East Asian

and Latin American crises and some sub-saharan African countries.

Not surprisingly, there is little theoretical consensus on this question of regime choice and

subsequent economic growth in the development economics literature as well. While the role of

a nominal anchor is often emphasized, factors ranging from market depth (or the lack of it),

political economy, institutions and so on often lead to inclusive suggestions as to which

exchange rate regime is appropriate for a developing country (Frankel et al (2001), Montiel

(2003), Montiel and Ostry (1991)). The literature in development economics acknowledges the

importance of the effects of the level of development to the relationship between regime and

growth (see Berg et al (2002), Borensztein and Lee (2002), Frankel (1999), Lin (2001),

McKinnon and Schnabl (2003), and Mussa et al (2000) among others).

Obaseki, (1991) asserts that foreign exchange can be acquired by a country through exports of

goods and services, direct investment inflow or external loans, aids and grants which can be used

in settling international obligations. When there is disequilibrium in the foreign exchange market

as a result of inadequate supply of foreign services, this may exert pressure on foreign exchange

reserves, and if the foreign reserves are not adequate, this may deteriorate into balance of

payments problems. Therefore, there is need to manage a nation's foreign exchange resources so

as to reduce the adverse effects of foreign exchange fluctuations.

The effects of exchange rate volatility on growth, seen as a comprehensive measure of the

benefits and costs of exchange rate stabilization can be x-rayed through international trade

(imports/exports), foreign direct investment, credit flow, and asymmetric shock, some of the

most important transmission channels from exchange rate volatility on growth Arratibel, Furceri,

Martin and Zdzienicka, (2009). Previous research on the impact of exchange rate stability on

growth has tended to find weak evidence in favour of a positive impact of exchange rate stability

on growth. For large country samples such as by Ghosh, Gulde and Wolf (2003) there is weak

evidence that exchange rate stability affects growth in a positive or negative way.

The panel estimations for more than 180 countries by Edwards and Levy-Yeyati (2003) fund

evidence that countries with more flexible exchange rates grow faster. Eichengrean and Leblang

(2003) reveal a strong negative relationship between exchange rate stability and growth for 12

countries over a period of 120 years. They concluded that the result of such estimations strongly

depend on the time period and the sample. Mckinnon and Schnabl (2003) argue for the small

33

open East Asian economics, that the fluctuations of the Japanese yen against the U.S. dollars

strongly affected the growth performance of the whole region. They identified trade with Japan

as crucial transmission channel. Before 1995, the appreciation of the Japanese yen against the

U.S. dollars enhanced the competitiveness of the smaller East Asian economies who kept the

exchange rate in the region accelerated. The strong depreciation of the yen against the dollar

from 1995 into 1997 slowed growth, contributing to the 1997/98 Asian crises.

Although the short term and long term swings of exchange rates can strongly affect the growth

performance of open economies through the trade channel, the empirical evidence in favour of a

systematic positive or negative affect effect of exchange rate stability on trade (and thereby

growth) has remained mixed (IMF 1984, European Commission 1990). Bacchetta and Van

Wincoop (2000) found that exchange rate stability is not necessarily associated with more trade.

From a short term perspective, fixed exchange rate can foster economic growth by a more

efficient international allocation of capital when transaction costs for capital flows are removed.

From a long term angle, fluctuations in the exchange rate level constitute a risk to growth in

emerging market economies as they affect the balance sheet of banks and enterprises where

foreign debts tend to be denominated in foreign currency Eichengreen and Hausmann (1999).

The case of commerce bank of Nigeria buttress, this when the then NERFUND Loans were

given out in 1995. High depreciation inflates the liabilities in terms of domestic currency,

thereby increasing the probability default and crises. In debtor country with highly dollarized

financial sector, the incentive to avoid sharp exchange rate fluctuations is stronger Chmelarova

and Schnabl (2006). Maintaining the exchange rate at a constant level or preventing sharp

depreciation is equivalent to maintaining growth McKinnon and Schnabl (2004).

Trade is widely accepted as a major engine of economic growth. This has been the experience of

Nigeria since the 1960s even though the composition of trade has changed over the years. For

instance, in the 1960s, agricultural exports (including cocoa, cotton, palm kernel and oil,

groundnuts and rubber) were the country’s main sources of foreign exchange and revenue to the

government. But with the discovery and export of crude oil in the late 1960s and early 1970s, the

important role of agricultural exports began to wane, replaced by crude oil exports.

The dependence of Nigeria on crude oil exports had important implications for the Nigerian

economy since the oil market is a highly volatile one. For example, being dependent on the

export of crude oil, the Nigerian economy became subject to the vicissitudes and vagaries of the

34

international oil market such that international oil price shocks were immediately felt in the

domestic economy. Coupled with this, Nigeria implemented a fixed exchange rate system that

engendered overvaluation of the domestic currency, serving as a disincentive for increased

exports through non-competitiveness of the country’s non-oil exports. On the other hand, the

overvalued exchange rate enhanced imports thereby exacerbating the already precarious balance

of payment position.

Although several ad hoc measures were taken to stem the deteriorating tide of the Nigerian

economy from the late 1970s to early 1980s, it was until 1986 that a comprehensive economic

adjustment programme was put in place to restructure the economy. Exchange rate reform was a

major component of this economic reform agenda that was further intensified under the Nigerian

Economic Empowerment and Development Strategy (NEEDS). The goal of exchange rate

reform is to systematically attain an appropriate value for the Nigerian currency that would serve

as a major incentive for exports but disincentive for increased imports. How effective has this

reform been? Has exchange rate reforms been able to stimulate exports, especially non-oil

exports? What has been the structure of imports since exchange rate reforms? Has there been

shift in expenditure from consumer goods imports to capital and raw materials imports? Is there

the need for any additional policy measures to complement existing exchange rate reforms in

order to achieve the goals of exchange rate reforms? This paper examines the effects of exchange

rate reforms on trade performance in Nigeria. In specifics, it examines the effect of exchange

reforms on non-oil exports and on imports. The choice of non-oil exports is predicated on the

fact that exchange rate reforms are not likely to affect oil prices and by extension oil exports.

The core of exchange rate reforms is the stimulation of the growth of exports beyond that of

imports with a view to an overall improvement in the trade balance. The theoretical impact of

exchange rate reforms on trade is still highly controversial (Agbola 2004). Three major

approaches are proposed in the theoretical literature. These are the monetarist, elasticity and

absorption approaches. The nub of the monetarists is that devaluation changes the relative price

of traded and non-traded goods, thus improving both the trade balance and the balance of

payments (Dornbusch 1973; Frenkel and Rodriquez 1975; Mills 1979). They propound that

devaluation results in a fall in the real supply of money, resulting in an excess demand for

money. The effect is hoarding and an increase in trade balance (Upadhyaya and Dhakal 1997).

35

Robinson (1947) and Kreuger (1983) are the major proponents of the elasticity approach. At the

heart of this approach is the point that transactions may dominate a short-term change in the

trade balance thereby resulting in deterioration in the trade balance (Upadhyaya and Dhakal

1997). However, in the long-run, export and import quantities adjust and this causes elasticity’s

of exports and imports to increase and for quantities to adjust. This leads to a reduction in the

foreign price of the devaluing country’s exports but raises the price of imported goods and

therefore lowers its demand. The result is that the trade balance improves. Quite obvious from

this argument is that the effect of devaluation on trade balance depends on the elasticity of

exports and imports. This reasoning has been extended by Williamson (1983) by noting that the

higher import prices initiated by devaluation could stimulate increases in domestic prices of non-

traded goods such that the inflation rate rises with the potential effect of reducing the benefits of

devaluation as manifested in the increase in trade balance.

In the external sector, insufficient supply of foreign exchange continues to mount pressures on

Nigeria's exchange rate. The stringent documentation requirements in the official market crowds

out some foreign exchange demands that are ultimately met in the parallel or black market.

Thriving malpractices in the parallel market and the documentation requirements of the official

market have both contrived to make patronage of the former increasingly attractive and

profitable, further discouraging domestic production and worsening Nigeria's balance of payment

position. The statistics are damning. It is clear that Nigeria is in dire need of rapid and

sustainable rate of economic growth and development, if we are to reduce the level of human

miseries pervading the country (Elumelu, 2002). In view of the literature reviewed above, it is

clear to establish that none actually used econometric transformation to test gross domestic

product (proxy for economic growth), interest rate, exchange rate, total government expenditure,

and domestic private investment in order to determine impact of interest and exchange rates on

the performance on Nigerian economy from 1975 to 2008; hence that creates a gap in the

literature. Thus, this present study is intended to fill this gap in the literature and as well make

relevant contribution for policy formation and analysis.

In the debate on development, much attention has been given to the role that external trade plays

in explaining long term growth. The successful experiences of the first and second tiers of Newly

Industrializing Countries (NICs) in Asia have notably given credence to the belief in a positive

correlation between trade openness and economic performance (World Bank, 1993). In view of

36

this, priority has been given to market oriented reforms which include the reduction of trade

barriers and the opening of domestic markets to foreign competition. From the point of view of

developing countries, globalization has thus been perceived as a process whereby access to

markets of the North and inflows of Foreign Direct Investment (FDI) are considered essential to

successful integration into the world economy.

However, with the current global crisis, a vigorous debate has risen around this development

model. Firstly, globalization of the world economy has reinforced the interdependence of

individual nations, and this may drastically change the pattern of trade inter linkages and price

adjustment. In particular, the constraint imposed by international demand invalidates the small

country assumption, stressing the importance of demand side factors as determinants of

countries’ export performance Thirlwall, (2002). The fallacy of composition in labour intensive

manufactures aptly illustrates this argument.1 It assumes that if all, and in particular large

developing countries, shift towards more export oriented strategies, there will be a risk that they

encounter diminishing demand for exports from developed countries, and that the terms of trade

decline to such an extent that the benefits of any increased volume of exports is more than offset

by losses due to lower export prices (Faini et al., 1992).

Secondly, the process of global economic integration followed by financial and trade

liberalization have exacerbated Balance of Payments' (Bop) deterioration and high current

account deficits in most of the developing countries. One argument is that trade liberalisation has

increased the propensity to import over time. The Bop restrictions which have a negative impact

on economic growth have been preeminent since the early 1990s. More than ever, the developing

world (including the ‘emerging economies’) has experienced Bop crises and more than anywhere

else, it is in the Low and Lower Middle Income (LMI) countries that the Bop constitutes a

structural problem.

The relationship between exports and economic growth is among the richest debates present in

development macroeconomics. While it has been widely explored in the economic literature

(both in the light of international trade theory and growth theory), this relationship is focused

here from the point of view of the Bop related factors. For most developing countries, foreign

exchange is a scarce resource whose shortage, determined by persistent Bop deficits, may impair

growth. The Bop constrained growth model postulates that overall growth of an open economy is

primarily constrained by the need to generate foreign exchange, and emphasises the role of

37

demand as the driving force for domestic growth. According to Thirlwall (1979), the relationship

between the growth rate of a country and its Bop is the fundamental law for growth because the

BOP sets an upper limit to growth compatible with trade balance equilibrium. In contrast to the

other components of aggregate demand, export is the only one whose expansion stimulates

economic growth without leading into a deterioration of the Bop. The role of export performance

is then emphasised because no other component of aggregate demand provides the foreign

exchange to pay for import requirements associated with the expansion of output Hussain,

(1999).

Thirlwall's Law is expressed in these terms: ‘In the long term, no country can grow faster than

the rate consistent with the balance of payments equilibrium on the current account unless it can

finance ever growing deficit which, in general, it cannot’. Consequently, there is a growth rate

that a country cannot exceed for prolonged periods, because if it does, it will quickly run into

Bop difficulties. This is the ‘Bop equilibrium growth rate’.

The liberalization of trade is strongly advocated as the means through which economies can

accelerate their economic development. The prevailing opinion in trade-policy spheres is that

expanded trade leads to prosperity. Thus, the impact of trade liberalization on economic

performance has been one of the topical issues of trade and development economics. During the

mid-1980s Mexico was induced to adopt trade reforms as a central lever of the free-market

strategy in combination with structural adjustment policies imposed by the International

Monetary Fund, the World Bank and other multilateral institutions (Edwards, 1993;

Rajapatirana, 1996; Skott and Larudee, 1998). As a consequence of the high internal and external

debt in 1982 and the crisis in the international oil market, the country was largely excluded from

international financial markets. It accepted almost any conditions from the international

institutions in order to obtain financial assistance. The new development strategy involved

diverse actions: the budget deficit was cut dramatically; price controls and subsidies were

removed; the size of the public sector was greatly reduced through wide-ranging privatization;

foreign investment was encouraged by legislative reforms; and monetary conservatism was

combined with prices and incomes policies to control inflation. In fact, during 1985 the main

trade reforms started and trade liberalisation15 was institutionalized. In 1986, Mexico joined the

General Agreement on Tariffs and Trade (GATT). The following year, trade liberalization was

accelerated beyond the requirements of the GATT. This was a key component to halt the

38

increase in prices, based on the assumption that competition from imports would put a ceiling on

inflation for traded goods (Dornbusch and Werner, 1994; OECD, 1996). During the 1990s, with

the negotiations of the North American Free Trade Agreement (NAFTA), the economy became

very much more open to foreign trade and capital flows than previously.

Theoretically, the effects of trade reforms (meaning any measure taken to reduce export

restrictions and import controls, considering tariff and non-tariff barriers and exchange rate

distortions) on the trade balance and the current account of the balance of payments are a priori

undetermined; therefore, it is entirely an empirical issue (Ostry and Rose, 1992).16

Recent cross-section/panel studies in this field include UNCTAD (1999), Parikh (2002), and

Santos-Paulino and Thirlwall (2002). All these studies find that trade liberalization deteriorates

the balance of trade and the balance of payments controlling for other factors. For instance,

referring to the most recent and complete study, Santos-Paulino and Thirlwall (2002),

considering a group of twenty-two developing countries for the period 1972-1997, found that

trade liberalization has worsened the trade balance by over one per cent of GDP and it has

deteriorated the current account of the balance of payments by approximately 0.5 per cent of

GDP on average. They found that the effects of liberalization on the trade balance and current

account of the balance of payments have been roughly the same across the regions of Africa,

Latin America, East Asia and South Asia. There have been individual case studies for some

Latin American countries (e.g. Khan and Zahler, 1985)

A thought-provoking issue, which has occupied the mind of economists and monetary authorities

for decade is the effectiveness of monetary policy in achieving macro-economic objectives.

Notwithstanding however, there is the lack of consensus among economists on how it actually

works and/or the magnitude of its effect on the economy. Nkoro (2003) observes that there exists

a remarkable and strong agreement that monetary policy has some measure of effects on the

economy. The Nigerian economy, as in other economies has an apex bank; Central bank of

Nigeria (CBN), which has the authority and mandate of manipulating or regulatory monetary

policy, using monetary instruments with the aim of achieving desired macro-economic

objectives. In Nigeria, these broad objectives include the mandate to conduct and regulate

monetary and financial policies with a view o promoting economic growth and development in

Nigeria, Nkoro, (2003).

39

However, the primary objective of monetary policy in any modern economy is the maintenance

of price stability which is fundamental to the attainment of sustainable growth. Nnanna, (2001)

observed that the pursuit of price stability invariably implies the indirect pursuit of objectives

such as Balance of Payments (BOP) equilibrium. Anyanwu, (1993) posits that an excess supply

of money in the economy will result to excess demand for goods and services and in turn causes

rise in prices and also, affect the Balance of Payments position. With the achievement of price

stability, the uncertainties of general price level will not materially affect consumption and

investment decisions. Rather, economic agents will take long-term decision without much

reservation about price change in the macro-economy. The condition in the financial markets and

institutions would create a high degree of confidence, such that the financial infrastructure of the

economy is able to meet the requirements of market participants, (Nkoro 2003). In other words,

an unstable and crisis-ridden financial system will render the transmission mechanism of

monetary policy less effective, making the achievement and maintenance of strong

macroeconomic fundamentals difficult.

2.2.7 Balance of payment

The balance of payments is defined as a systematic record of economic and financial transactions

for a given period of time, say one year, between residents of an economy and non residents with

rest of the world. These transactions involves the provision and receipts of real resources, goods,

services and income and changes in claims on and liabilities to the rest of the world. Specifically,

the balance of payments records transaction in goods, services and income, changes in ownership

and other changes in an economy’s holdings of monetary gold, Special Drawing Rights (SDRs)

and claims on and liabilities to the rest of the world. It also records unrequited or unilateral

transfers, the provision or receipts of an economic value without the acceptance or relinquishing

of something of equal value. Generally, transactions involving payments to a country by non-

resident are classified as credit entries. Those involving payments by country to non-residents are

debt entries.

Basically, the balance of payments is divided into the current and capital account. The capital

account is made up of portfolio and direct investment, either long or short term capital and

capital transfers. While the current account records all current transactions, which are

transactions that include either the export or import of goods and services. They include

merchandise and services. The capital account also refers to charges in financial assets and

40

liabilities, portfolio investment, external loan drawings and amortization and charges in short-

term capital movements. However, it should be noted that development in the other real sectors,

monetary and public has implications for the balance of payments. As a result, current account

deficit may not necessarily be an inappropriate policy to pursue especially in a country that is for

example, importing to increase domestic investment. However, in a short-term, import bills may

remain unpaid or external reserves could be drawn down. A long-term and more viable solution

lies in ensuring balance of payments viability. A viable balance of payments position may be

defined as a current account position, which can be financed on a sustainable basis by net capital

movements on terms that are compatible with reasonable development, growth prospects and

debt servicing capacity as well as macro-economic stability. It can be seen that the balance of

payments is linked with the other accounts in a general equilibrium framework. This implies that

disequilibrium in one sector; say external sector is transmitted to the other sectors and vice versa.

Thus, there is need to achieve both internal and external balance.

According to Marsha (1994), two types of policy measures are used in dealing with balance of

payments problems. These are expenditure switching measures and expenditure reducing

policies. Expenditure reducing policies refer to fiscal policy (conducted by changing government

expenditure and /or taxes) and monetary policy which refers to changes in money supply, which

in turn affect interest rate. Expenditure switching policies refers to devaluation (depreciation)

and revaluation (appreciation) of the country’s currency. The aim of expenditure reducing

policies is to reduce domestic expenditure on consumption and increase expenditure on

investment, thus, releasing goods and services for exports while leaving aggregate output

unchanged. The aim of expenditure switching policies is to switch domestic demand from

imported goods to home made goods. However, the extent to which expenditure switching

policies is achieved depends on elasticity of supply and demand for tradable goods. If the

depreciation of the nominal exchange rate is matched by increase in wages, absorption and

inflation, the real exchange rate would not depreciate and so the balance of payments would not

improve. However, expenditure reducing policies have costs in terms of loss of output,

investment and employment. The loss will be minimized if resources can be easily moved to the

tradable goods sector.

Alternatively bridging external loans may be contributed to sustain investment and output.

41

Obadan and Nwobike (1991) opine that some countries with a weak balance of payments

position adopt multiple exchange rate systems as an alternative to devaluation, which is viewed

as too costly from a political or social perspective. They emphasize that a rationalized and

properly administered dual exchange rate system can be very helpful to developing countries for

ensuring the satisfaction of basic needs, ensuring fixed and balance of payments viability and

general resource mobilization.

Khan and Lizondon (1987) observe that countries experiencing balance of payments problems

should embark on devaluation or gradual depreciation of her currency to effect a change on the

payments problems, since devaluation which is the reduction of the value of one's country is

expected to have significant impact on international capital movements. Cooper (1976) examines

the effect of devaluation on the balance of payments of some developing countries. He discovers

that three quarter of the cases examined showed that the current account of the balance of

payments improved. This implies that devaluation leads to higher exports and lowers imports,

which in the long run would improve the balance of payments position of a country. Conversely,

Birds (1984) is of the opinion that the improvements of balance of payments after devaluation

does not necessarily suggest that the balance of payments always improve because of

devaluation. Iyoha (1996) considers devaluation as the deliberate reduction of the value of a

country's currency in terms of other currencies. It is an increase in the exchange rate from one

par value to another and could be used as a policy instrument by a nation under a fixed exchange

rate system to correct a surplus of deficits in its balance of payments.

Kiguel and Ghei (1993) also showed that exchange rate affects balance of payments, using the

ratio of non-gold reserve to import to study the impact of devaluation on the balance of

payments. Their results show that the reserve position of the devaluing country improves as a

result of devaluation. This means that devaluation improves the balance of payments, since an

improvement on the reserve position constitutes an improvement on the balance of payments

position. Olisadebe (1996), however, is of the opinion that the relationship between exchange

and balance of payments arises out of international exchange, which determines the amount of

payments involved in economic transactions. Obaseki (1991) observes that foreign exchange

resources are derived and expended in the course of effecting economic transactions between the

residents of one country and the rest of the world. He opines that there is a close link between

foreign exchange transactions and the balance of payments; but while foreign transactions

42

reflects cash flow arising from internal operations, the balance of payments exhibit the dual

movement of goods and services. Donovan (1981) study, however, suggests that devaluation

would improve the current account without significant import liberation.

The core of exchange rate reforms is the stimulation of the growth of exports beyond that of

imports with a view to an overall improvement in the trade balance. The theoretical impact of

exchange rate reforms on trade is still highly controversial (Agbola 2004). Three major

approaches are proposed in the theoretical literature. These are the monetarist, elasticity and

absorption approaches. The nub of the monetarists is that devaluation changes the relative price

of traded and non-traded goods, thus improving both the trade balance and the balance of

payments (Dornbusch 1973; Frenkel and Rodriquez 1975; Mills 1979). They propound that

devaluation results in a fall in the real supply of money, resulting in an excess demand for

money. The effect is hoarding and an increase in trade balance (Upadhyaya and Dhakal 1997).

Robinson (1947) and Kreuger (1983) are the major proponents of the elasticity approach. At the

heart of this approach is the point that transactions may dominate a short-term change in the

trade balance thereby resulting in deterioration in the trade balance (Upadhyaya and Dhakal

1997). However, in the long-run, export and import quantities adjust and this causes elasticity’s

of exports and imports to increase and for quantities to adjust. This leads to a reduction in the

foreign price of the devaluing country’s exports but raises the price of imported goods and

therefore lowers its demand. The result is that the trade balance improves. Quite obvious from

this argument is that the effect of devaluation on trade balance depends on the elasticity of

exports and imports. This reasoning has been extended by Williamson (1983) by noting that the

higher import prices initiated by devaluation could stimulate increases in domestic prices of non-

traded goods such that the inflation rate rises with the potential effect of reducing the benefits of

devaluation as manifested in the increase in trade balance.

The response of trade balance to changes in exchange rate has been observed to be a crucial

factor in the co-ordination and implementation of trade and exchange rate policies. The classical

insight is that a nominal devaluation of exchange rate improves the trade balance in the long run

while deteriorating it in the short run. As it were, a change in the exchange rate has two effects

on the trade balance; the price effect and volume effect Krugman and Obstefeld (2001).

In an attempt to identify the long-term causes of BOP fluctuation in Nigeria, the vulnerability of

the economy to external shocks, external debt burden and debt servicing issues, inflationary

43

effects, trade openness and exchange rate movements have remained the focal issues. BOP

adjustment through exchange rate changes relies upon the effect of the relative prices of

domestic and foreign goods on the trade flows with the rest of the world (Thrillwall, 2004). This

relative price, or terms of trade is defined by the ratio of export and import prices in domestic

currency from the point of view of the country as a whole, the terms of trade represents the

amount of imports that can be obtained in exchange for a unit of exports or the amount of exports

required to obtain one unit of imports. The terms of trade may vary both because of change in the

prices expressed in the respective national currencies and because of exchange rate changes.

Thrillwall (2004) noted that depreciation in the exchange rate at unchanged domestic and foreign

prices in the respective currencies makes domestic goods cheaper in the foreign markets and

foreign goods more expensive in the domestic market.

Soderstan (1989) contents that devaluation tends to make imports more expensive in domestic

currency terms, which are not matched by a corresponding rise in export prices. This implies that

the terms of trade will deteriorate. Deterioration in the terms of trade represents a loss of real

national income and can lead to BOP crisis because more units of exports have to be given to

obtain one unit of imports. Hence, the terms of trade effects caused by devaluation lowers

income. A devaluation of currency causes an increase in the import prices and general price

level. This initiates reduction in the real value of wealth held in monetary form such that the real

value of cash balance is reduced leading to unfavourable BOP.

Chachodiades (1978) maintained that money illusion and expectation effects can induce BOP

fluctuation because real income does not change due to proportionate increase of price and

money income. The direction of the change depends on the type of money illusion. Money

illusion inhibits real activities though these effects are significant only at the short run.

Therefore, if people are unconscious of the workings of money illusion, they will likely change

their absorption. It is possible that economic agents in Nigeria regard the increase in prices

induced by currency devaluation as likely to spark further price rises. This has consequently

resulted to an increase in direct absorption, which has worsened the country’s balance of

payments.

Inflationary effects caused by currency depreciation might be expected to have an expenditure

reducing impact (Dornbusch, 1992). Reduction in real expenditure will occur only if the

appropriate monetary policy is simultaneously pursued (Fakiyesi, 1996). But over years, inflation

44

policies and targets in Nigeria has failed to achieve its desired objectives of correcting BOP

disequilibrium due to misspecification of macroeconomic policies and insufficient time lag. The

monetary approach to the balance of payment sees the monetary implications of exchange rate

depreciation as being absolutely crucial. But depreciation becomes unnecessary provided

sufficient time (that is financing) is available.

The role of international trade in economic development has been acknowledged worldwide.

This is because it provides opportunities to expand both the production possibilities and

consumption basket available to the people (Adewuyi, 2005). The Nigerian government has over

the years engaged in international trade and has been designing trade and exchange rate policies

to promote trade (Adewuyi, 2005). Although a number of exchange rate reforms have been

carried out by successive governments, the extent to which these policies have been effective in

promoting export has remained unascertained. This is because despite’ government efforts, the

growth performance of Nigeria non-oil export has been very slow. It grew at an average of 2.3%

during the 1960 -1990 period, while its share of total export declined from about 60% in 1960 to

3.0% in 1990 (Ogun, 2004).

Looking at the sectoral contribution to non-oil export in the period before the introduction of the

Structural

Adjustment Programme (SAP) (1975-1985), it can be seen that agricultural sector contributed

about 4.0% and 67.0% to total export and non-oil export respectively (Ogun, 2004). The shares

of manufacturing sector in these categories of exports are about 1.0 and 12.0% respectively

during that same period (Ogun, 2004).

In his view, Obadan (2006) summed up the factors that led to the misalignment of the real

exchange rate in

Nigeria to include weak production base, import dependent production structure, fragile export

base and weak non-oil export earnings, expansionary monetary and fiscal policies, inadequate

foreign capital inflow, excess demand for foreign exchange relative to supply, fluctuations in

crude oil earnings, unguided trade liberalization policy, speculative activities and sharp practices

(round tripping) of authorized dealers. Others include over reliance on imperfect foreign

exchange market, heavy debt burden, weak balance of payments position and capital flight.

45

After breakdown of Bretton Woods system of fixed exchange rates in 1973,several countries

adopted floating exchange rates system in order to reduce protectionist tendencies and promote

trade as well as to gain overall macroeconomic independence, by bearing the burden of

adjustment vis-à-vis imbalances in the current and capital accounts of the balance of payments.

The countries adopted flexible exchange rates regime despite its exposure to exchange rate

volatility, which is a threat to the growth of international trade and macroeconomic stability,

because of the presence of hedging facilities that would be employed to protect one against

exchange rate risk. However, the birth of this new system of exchange rate has engendered a

‘hot’ and extensive theoretical debate regarding the impact of exchange rate variability on

foreign trade (Johnson, 1969; Kihangire, 2004).

One strand of theoretical models in the literature demonstrates that increased risk associated with

exchange rate volatility is more likely to induce risk -averse agents to direct their resources to

riskless economic activities since such variability generates uncertainty which increases the level

of riskiness of trading activities and this will eventually depress trade. According to these

economists, this occurs because markets may be imperfect particularly in less developed

countries (LDCs) and also because hedging may not only be imperfect but also very costly as a

basis for averting exchange risk. Hence in line with risk-aversion hypothesis exports may be

negatively correlated with exchange rate volatility (Doroodian, 1999; Krugman, 1989).

On the contrary, other theoretical models in the literature§§ show that higher risk associated with

fluctuations in exchange rates present greater opportunity for profits and thus should also

increase trade. According to Aziakpono, et al. (2005), this occurs because if exporters are

sufficiently risk-averse a rise in exchange rate variability leads to an increase in expected

marginal utility of exports revenue which acts as an incentive to exporters to increase their

exports in order to maximize their revenues.

Some approaches that are anchored on the channel at which exchange rate fluctuations affects

balance of payments will be briefly explicated below.

2.2.7.1 The Elasticity Approach

The elasticity approach focuses on the trade balance. It studies the responsiveness of the

variables in the trade and services account, constituting of imports and exports of merchandise

and services relative price changes induced by devaluation. The elasticity approach to balance of

46

payments is built on the Marshall Learner condition (Sodersten, 1980), which states that the sum

of elasticity of demand for a country’s export and its demand for imports has to be greater than

unity for a devaluation to have a positive effect on a country’s balance of payments. If the sum of

these elasticities is smaller than unity, then the country can instead improves its balance of trade

by revaluation. This approach essentially detects the condition under which changes in exchange

rate would restore balance of payments (BOP) equilibrium. It focuses on the current account of

the balance of payment and requires that the demand elasticity be calculated, specifying the

conditions under which a devaluation would improve the balance of payments. Crockett (1977)

sees the elasticity approach to balance of payments as the most efficient mechanism of balance

of payments adjustments and suggests the computation of demand elasticity as the analytical tool

by which policies in the exchange field can be chosen, so as to form the equilibrium. In contrast,

Ogun (1985) is of the view that most less developed countries who are exporters of raw materials

or primary products, and importers of necessities may not successfully apply devaluation as a

means of correcting balance of payments disequilibrium, because of the low values for the

elasticity of demand.

2.2.7.2 The Absorption Approach

This approach summarily postulates that devaluation would only have positive effects on the

balance of trade if the propensity to absorb is lower than the rate at which devaluation would

induce increases in the national output of goods and services. It therefore advocates the need to

achieve deliberate reduction of absorption capacity to accompany currency devaluation. The

basic tenet of this approach is that a favourable computation of price elasticity may not be

enough to produce a balance of payments effect resulting from devaluation, if devaluation does

not succeed in reducing domestic expenditure. The approach dwells on the national income

relationship developed be Keynes and it tries to find out its implication on balance of payments

(Machlup, 1955).

2.2.7.3 The Monetary Approach

The monetary approach focuses on both the current and capital accounts of the balance of

payments. This is quite different from the elasticity and absorption approaches, which focus on

the current account only. As pointed out by Crockett (1977), the general view of monetary

approach makes it possible to examine the balance of payments not only in terms of the demand

for goods and services, but also in terms of the demand for the supply of money. This approach

47

also provides a simplistic explanation to the long run devaluation as a means of improving the

balance of payments, since devaluation represents an unnecessary and potentially distorting

intervention in the process of equilibrating financial flows. Dhliwayo (1966) emphasizes that the

relationship between the foreign sector and the domestic sector of an economy through the

working of the monetary sector can be traced by Humes David’s price flow mechanism. The

emphasis here is that balance of payments disequilibrium is associated with the disequilibrium

between the demand for and supply of money, which are determined by variables such as

income, interest rate, price level (both domestic and foreign) and exchange rate. The approach

also sees balance of payments as regards international reserve to be associated with imbalances

prevailing in the money market. This is because in a fixed exchange rate system, an increase in

money supply would lead to an increase in expenditure in the forms of increased purchases of

foreign goods and services by domestic residents. To finance such purchases, much of the

foreign reserves would be used up, thereby worsening the balance of payments. As the foreign

reserve flows out, money supply would continue to diminish until it equals money demand, at

which point, monetary equilibrium is restored and outflow of foreign exchange reserve is

stopped.

Conversely, excess demand for money would cause foreign exchange reserve inflows, domestic

monetary expansion and eventually balance of payment equilibrium position is restored. The

monetary approach is specifically geared towards an explanation of the overall settlement of a

balance of payments deficit or surplus. If the supply of money increases through an expansion of

domestic credit, it will cause a deficit in the balance of payments, an increase in the demand for

goods and various assets and decrease in the aggregate in the economy.

There are two basic theories that have been propounded to addressing balance of payments

imbalance, these include:

Inflationary theory: Inflation is a state of persistent rise in the general price level and hence

falling value of money, Dullo (1974). It is a malign condition that eats accumulated wealth and

diverts the energies of the economy. Countries report by the IMF, shows that the cause of

Nigeria’s inflation are; increase in money supply despite decrease in foreign exchange reserves

(a decrease in foreign exchange reserve has the effect of decreasing money supply). Budget

deficit is also stated to be a contributory factor. Faced with increasing population and the need to

improve the standard of living, the Nigerian government has embarked on various programmes

48

to accelerate the rate of economic growth and provide government services, thereby increasing

expenditure within a limited scope of public borrowing leading to fiscal deficits.

Structural Theory: This theory argues that balance of payments disequilibrium abates due to an

inherently inefficient or imbalanced economy, Gbosi (2001). Two specifications of structural

problems that affect the Nigerian economy are:

Weakness in fiscal system: This leads to budget deficit, expenditure increases due to population

increase and the need for development, while the revenue system and tax rate of the Nigerian

economy are inadequate to obtain the needed growth in revenue. What is needed is restructuring

and improvement of the country’s revenue system and increase in taxes. The revenue system of

the economy should be elastic relative to economic growth, that is, revenue should grow

proportionally with higher GNP.

2.3 Empirical Review

The basis of this section will be primarily focused on carrying out a review of Nigeria

experiences on the concept of exchange rate and balance of payments and past studies carried out

in connection to the concept under study.

2.3.1 Balance of Trade/payment flow and Exchange Rate Volatility in Nigeria; a Trend

Analysis

This section presents some trend analysis on Nigeria’s export and imports in order to convey

more information on the relationship between balance of trade flows and exchange rate dynamics

in Nigeria. In 2009, the Federal government of Nigeria liberalized the exchange rate system. In

theory, this means that the naira is free to float against other currencies. In practice, the

government still attempts to manage the rate of the naira against the US Dollar.

According to Sambo (2012), “fundamental structure of the Nigeria's economy as an import-

dependent economy which is largely responsible for the incessant decline of its external reserves

is not acceptable because of its negative multiplier effect on the real economy. In terms of

foreign investment, Nigeria is the third largest recipient of foreign direct investment (FDI) in

Africa subsequent to Angola and Egypt. The stock of FDI in Nigeria was US$60.3 billion in

2010. In 2010, FDI in Nigeria was estimated at US$6.1 billion, down 29 percent from US$8.65

billion in 2009 (Transparency International, 2009). As expected, most of Nigeria’s FDI is

49

situated in the oil and gas sector. Nigeria is the number one sub-Saharan African exporter of

crude oil to the U.S. followed by Angola and the Republic of Congo. Nigeria’s oil exports to the

U.S. have in recent years been affected by the combination of sharply rising or falling export

volumes and prices. For example, export dropped by 22.3% from N9.5689 trillion in 2008 to

N7.4345 trillion in 2009. In naira value, crude oil exports also dropped by 28.2% from N8, 751.6

billion to N6, 284.4 billion while non-oil exports appreciated significantly by 40.7%.

In 2009, a total of US$13.894 billion went out of the country (Transparency International, 2010).

While about US$757 million went out in September, the amount of foreign exchange flowing out

of the country as capital flight rose to US$1.359 billion in 2009 (World Fact Book, 2010). It

however dropped to US$452 million on the third of October and moved astronomically to

US$3.290 billion on 17th October (World Fact Book, 2010). The foreign exchange outflow went

further up to US$3.356 billion on the 31st of October and declined a little to US$2.397 billion on

the 14th of November and US$2.02 billion and US$1.262 billion for the weeks ending 21st of

November and 28th respectively. This has resulted in the crash of the naira exchange rate. The

trend became discernible in October 2008 where several billions of dollars were purchased

through the banks and bureau de change. According to Transparency International (2010), the

movement of funds out of Nigeria is also in travels namely business travel allowance, personal

travel allowance, direct remittances etc. Accordingly, the total amount of foreign exchange that

went out through travels amounted to US$72.067 million, debt service/payment stood at –

US$799.19 4 million, wholesale at the Dutch Auction market amounted to –US$6.276 billion,

direct remittance amounted to –US$851.809 million, letters of credit amounted to –US$3.205

billion and cash sales to banks and bureau de change stood at –US$3.170 billion (CBN, 2011).In

1960, imports were valued at N432 million. This rose to N756.0 million in 1970, to N8.132

million in 1978, to N124, 612.7 million in 1992 and to N681, 728.3 million in 1997 respectively.

The bulk of the imports were finished and semi-finished goods. The country had an unfavourable

trade balance from 1960 to 1965, partly because of the aggressive drive to import all kinds of

machinery to stimulate the industrialization policy pursued immediately after independence. The

growth of the import of capital goods demonstrates the desire of the nation to industrialize. In

2005, import which stood at N1,779,601.6 rose to N2,922,248.5 7 in 2006; N4,127,689.9 in

2007; N3,299,096.6 9 in 2008 and N5,047,868.6 7 in 2009 (CBN, 2010). As at August, 2011 the

country’s importation stood at US$7.5 billion (CBN, 2011). Is this not a worrisome trend that

should put the Nigerian government on her toss in developing a macroeconomic policy to arrest?

50

As it were, the government is yet to implement policies that could direct a positive trend of the

country’s import profile. Worst of it all is the fact that about 90% of the country’s imports are

consumption goods as against production. In 2009, total trade declined by 3% from N12.868.0

trillion in 2008 to N12.4824 trillion. How can the Nigerian government be contented with this

import trend? Perhaps, the government is yet to undergo a statistical survey of the time series

data on the country’s trade balance. Nigeria's main exports partners include USA (30% of total),

UK (25% of total), Equatorial Guinea (8% of total), Brazil (6.6% of total), France (6% of total),

India (6% of total) and Japan (3% of total) all in 2009. The country’s trade volume with Japan is

low. For example, for the period, 1975 to 1988, the country's exports to Japan amounted to 0.1%

of total exports. Major items of Nigerian export are oil products, cocoa and timber. In terms of

total oil exports, Nigeria ranked 8th in the world. Nigeria's export to the UK which was valued at

N694.9 million in 1975; it declined to N112.1 million in 1980 and rose to N2.282.9 in 1992

(World Bank, 2009). The analysis of the direction of trade reveals trade deficit over UK trade

balance for the period, 1984-1992 while for the European Economic Community (EEC), a

favourable trade balance was recorded over the same period (Omotor, 2008). In 2007, the

country exports 2.327 million barrels per day (bpd) (IMF, 2007). The country’s total export

volume stood at US$45.43 billion in 2009 (World Bank, 2009).

2.3.2 Exchange Rate Fluctuations and the Balance of Payment: Channels of Interaction in

Developing and Developed Countries

This paper tries to reconcile the effect of exchange rage fluctuation of current and financial

account. And exchange rate, anticipated fluctuations, external exposure, economic activity,

supply and demand channels.

Recently on currency crises have focused more on the importance of exchange rate fluctuations

and the appropriate exchange rate policy. 1990’s were the year of currency turmoil, featured by

the near breakdown of the European Exchange Rate mechanism in 1992-93. The Fatin American

tequila crisis following Mexico’s Peso devaluation in 1994-95, and the severe crises that swept

through Asia in 1997-98. Notably, exchange rates are likely to determine economic performance.

They have been varying experiences by developing and developed countries with fluctuations in

the current and financial account balances. Specifically, the question is what are the effects of

exchange rate fluctuations, anticipated and unanticipated, on the cyclicality of the current

account balance.

51

From same perspectives, cyclical factors have a major impact on the balance of payments. The

traditional approach has focused on the current account deficit and the adequacy of reserves to

finance imports. Missing the financial account (capital account) which is a complement of the

current account in the accounting relationship inst he balance of payments. Therefore the

growing trend to liberalize the financial account has necessitated an analysis of its cyclicality as

well. With this it is now possible to study the impact of domestic and external forces, not only on

current account, but also on the financial account, which has helped on financing or sustaining

the current account deficit, as (Arrora, Dunaway, and Faruquee, 2001, Cooper, 2001, and

McKinnon 2001) put it. That in many cases, the ability of a country to sustain large current

account balances has turned on the willingness of foreign investors to place substantial

investment funds in the country.

Theoretical model of cyclical effects on the balance of payments shows that uncertainty may

arise on the demand or supply side of the economy. Fluctuations in the economy are mainly

determined by unexpected demand and supply shock impinging on the economic system. An

inquiring on the analysis of cyclicality in the current and financial accounts, the accounting

relationship in the balance of payments shows that a deficit in the balance of payments shows

that a deficit in the current account may either be related with an increase in the financial balance

or reduction in foreign reserves. With this, it goes on to suggest that current account balances is

the main component of balance of payments and that it is sensitive to cyclical economic factors.

Development in the financial account with the exception of foreign direct investment, are likely

to be more random in nature and therefore, can be evenly reversed. Short term capital flow are

often attracted to evidence of higher return and it could be cyclical in nature. Therefore,

determinants of domestic cyclical fluctuations in the current and financial balances includes,

aggregate domestic demand, which is closely tied to the state of the business cycle. During a

boom, output growth and price inflation increase. To capture fluctuations in relative prices and in

turn competitiveness. The above price inflation may determine current and financial account

through trade and financial investment. The above effects are explained below

The Current Account

Economic theory suggests that the current account of the balance of payment and sensitive to

domestic economic conditions.

The current account balance of most developed countries have responded to changes in real GDP

growth rates, with deficits typically widening during the expansionary part of a business cycle

52

and contracting or becoming surpluses as real GDP growth declines. This happens because

investment and imports are likely to increase during an economic boom Fraud (2000)

Domestic inflation usually increases with improved domestic growth. It is affected through two

channels. By scale factor and relative price channel. The scale factor suggests an increase in

export growth with improved economic conditions and hence domestic price inflation. But due to

the latter effect higher price inflation decreases export competitiveness.

Note, higher inflation increases demand for foreign products relative to domestic products,

resulting in an increase in import, just like Nigeria, that its price level continue to rise, which

necessitate import and decreases the citizen interest in locally made goods. Therefore, the effect

of price on exports and imports will determine changes in the trade balance and in turn, the

current account balances in the higher price inflation.

An increase in the real exchange rate, a real appreciation, is likely to decrease competitiveness,

increasing imports and decreasing exports. An appreciation of the real effective exchange rate is

expected to worsen the trade balance (by reducing exports and increasing imports) and real

depreciation is expected to improve it. As to the domestic value of the trade balance, currency

depreciation gives with one hand, by lowering export prices, while taking away with the other

hand, by raising import prices. Exchange rate fluctuations may have, however, asymmetric

effects on the trade balance. As Knetter (1989) indicated, unexpected currency depreciation and

appreciation may affect the economy differently because the exist-entry decisions and price-

setting behaviours of export-oriented firms may vary with the currency movements in different

directions so as to avoid a reduction in their profits. Froot and Klem Pererl (1989) point out that

the asymmetric response to stock prices to currency movements may occur owing to asymmetric

pricing to market behavior. Inversely when the domestic currency appreciates, exporting firms

with market-share objectives do not permit local currency prices to increase because of the risk

of losing their share, so they decrease their profit margins. From other perspective, under

currency depreciation, exporting firms with a market-share objective maintain rather than

increase their profit margins as a result of their focus on sales volume.

Financial Account

It seems hard to predict the impact of cyclical factors son financial account of balance of

payment. Given the openness of the financial account in industrial countries, financial flows in

and out of these countries are driven by competitiveness.

53

In an emerging or developing countries fluctuations in the financial account are likely to be

driven mostly by fluctuation in FDI flows, as well as private and public financial flows. The

domestic cyclical conditions determine inflows and outflows of FDI and private financial flows,

management of public debt may be a major of other financial flows.

Higher domestic growth in one country, compare to its competitors, is likely increase foreign

direct investment and financial inflows. The financial balance is likely to improve in response to

better economic conditions in the domestic economy. Better investment opportunities attract

financial inflows, which then provide the required savings to fund investment and, thereby

contribute to higher growth. Therefore, an improvement in the financial account is associated

with higher GDP growth and/or price inflation (an economic boom). Hence domestic growth

matters to the relative financial position of a given country compare to other financial

competitors.

An increase in the real effective e exchange rate may improve or worsen the financial balance.

An appreciation of the exchange rate may signal the strength of the domestic economy, which

further increases net financial inflows. Alternatively an appreciation decreases the relative value

of financial inflows in domestic currency, while increasing the relative value of financial

outflows in foreign currency.

2.3.3 Intertemporal Balance, Sustainability and Efficiency of the Exchange Rate

Mechanism

Under the assumption that the balance of payments must satisfy the expected inter-temporal

balance, the recent currency crises in Thailand, Mexico, and in the Exchange Rate Mechanism

(ERM) have revitalized an interest in studying the balance of payment crisis and the speculative

attack on the pegged exchange rate regime. General agreement is that fundamental

disequilibrium results from inconsistent policies which are not compatible with the pegged rate

regime. With depleting or accumulating foreign reserves, the monetary authority confronts a

dilemma of either abandoning the pegged rate regime or retaining it by changing other policies.

When the public perceives that the stock of the foreign reserves has reached the tolerable bound

set by the monetary authority, the speculative attack will precipitate a collapse.

Existing models of exchange rate collapse are based on the paper by Krugman (1979), in which

he assumed a lower bound on reserves and a monetary policy under which reserves were

systematically declining. He went on to show that timing of exchange rate collapse was

54

predictable and coincident with a speculative attack on reserves in which reserves are driven to

their lower bound.

More so, given that upper and lower bounds on reserves, and implicitly the decision to abandon

the fixed exchange rate, are policy decisions for each individual member state, we suggest a pre-

condition for an exchange rate crisis. Economic theory may likewise, implies such a pre

condition when the collapse is triggered by fundamentals. Consider the official settlements

account of the balance of payments. A “no-ponzigame” condition on reserve debt together with

an optimality condition, limiting the desirability of indefinitely accumulating reserves, implies

expected inter-temporal balance, on the official settlements account. As a result, when current

policies lead to a failure of expected inter-temporal balance, some policies are eventually

changed.

The pre-condition for exchange rate collapse can also be used to predict speculative activity on

the foreign exchange market. When agents obtain evidence of a violation of expected inter-

temporal balance, they could reasonably anticipate an exchange rate collapse and attack. Hence,

we expect that exchange rate collapse is preceded by evidence of a violation of inter-temporal

balance, which creates a speculative attack on reserves. Note that, at the point of attack, a

violation of expected inter-temporal balance is neither a necessary nor sufficient condition for an

exchange rate change. It is not necessary because exchange rate change could be the

consequence of a multi-part policy change from an initial point of expected inter-temporal

balance. And a violation of expected inter-temporal balance is not sufficient for the exchange

rate change because governments could decide o change other policies to achieve expected inter-

temporal balance. And a violation of expected inter-temporal balance is not sufficient for the

exchange rate change because is not sufficient for the exchange rate change because

governments could decide to change other policies to achieve expected inter-temporal balance.

2.3.4 The Balance of Payment Constrained Growth Model

An engine of growth is the famous phrase that Robertson (1938) used to describe the role of

international trade in the expansion of the world economy from the mid-nineteenth century to

World War 1. But it was Harrod (1933) who put forward the view that the level of output of

industrial countries is to be explained by the principle of the foreign trade multiplier. The

principle supported the idea that in an open economy, export are the main component of

autonomous demand, and that, in the long run, economic activity is constrained by the balance of

payments equilibrium on the current account.

55

Prebisch (1950) was the first economist in the post war era to seriously question the doctrine of

mutual convergence of growth between developed and developing countries. Prebisch argued

that in a world of central periphery countries, production, trade, and technological asymmetries

matter and would produce uneven growth. Thus, successful leadership in product development

would generate a trading deficit in the periphery vis-à-vis the center, and for a balance of

payments to be restored, the exchange rate (or the barter terms of trade) must decline. Prebisch

has a more sophisticated approach, linking changes of productivity to the terms of trade and

ultimately to adjustments in real income, but it was Kaldor (1975) who did much to revive

Harrod’s idea that it is variations in real income and employment, not relative prices and

exchange rates that provides the forces tending to adjust imports and export. In line with

Thirlwall (1979), most of the studies seek to analyze how the trade account, acting as a demand

constraint, might explain the growth dynamics of a single country. On the assumptions that the

equilibrium is preserved on the trade account and that the terms of trade remain unchanged, the

balance of payments. Constrained growth rate is defined as the ratio of the rate of growth of

export volume to the income elasticity of demand for imports.

Thirlwall’s initial approach suggested that for most developed countries, capital flows were

relatively unimportant in contributing to deviation of a country’s growth from that consistent

with trade equilibrium. However, recognizing that the contemporary growth experience of

developing countries has been more diverse than that of developed countries, Ferreira and

Canuto (2001), McCombie and Thirlwall (1999), Moreno-Bird (1998-99, 2003) and Thirlwall

and Hussian (1982) extended the model to allow for the influence of foreign capital flows, which

means that unconditionally capital flows relax the constraint allowing a faster growth rate of

income. It may be argued that the role played by capital flows may be true for most developed

countries. Thus, may not be satisfactory to developing countries. This may be evidenced in debt

burden of many developing countries.

Another important aspect of the conventional balance of payments constrained growth

framework is that it usually assumes that relative price changes between countries measured in a

common currency played no role in relaxing the balance of payments constraint on growth. For

instance, in a developed country framework where production is characterized by the

predominance of the manufacturing industry, relative price changes may partly dictate the

growth process. Consider a Kaldorian export-led growth process of the type formalized by Dixon

and Thirlwall (1975). With this, industrial export prices are set up internally as a markup over

56

unit cost output growth is driven by the growth of exports, and a higher output growth induces a

greater rate of growth of productivity, which in turn, strengthens the country’s competitive

international position. This increasing competitiveness would lead to increasing exports, thus,

leading to a higher growth rate.

2.3.5 Foreign Trade Constraint and Cyclical Development

The theory here is that foreign trade may be a constraint on growth. The concept has appeared in

the growth theories of both the developing and the socialist countries, and in both cases a

connection can be found between the cyclical development of these countries and the concept of

such constraint. For instance, cyclical development of Hungarian foreign trade shows that the

difficulties in balancing trade which regularly proved to put a ceiling on the expansion of

investment activity were only characteristic in the trade with western countries. The inclination

to deficit on this market is an aspect of the chronic shortage economic and of the traditional

mechanism of directive planning conforming to the former.

From as early as the 1950s, periodical fluctuation have been found in Hungarian foreign trade,

apparently closely related to the short term fluctuations in the real processes of the Hungarian

national income. The fact of this economy foreign trade periodicity rooted in the domestic

processes, investment and stockpiling cycles, as well as practical experience. In this

representation foreign trade processes are automatic consequences of investment demand. The

underlying cause of the phenomenon is that operative management reacts on the deterioration of

the balance of trade by restricting investment and, when the trade balance improves, it again lets

investment activities speed up. This measure could be a good measure for Nigerian economy to

adopt in cases of fluctuations in their trade balances, but situation may be hampered by lack of

restriction on what comes in and out of the country in term of foreign capital.

2.3.6 Effect of Exchange Rate Reforms on the Trade Balance of Nigeria

Exchange rate reforms seek to equilibrate the balance of payment by improving the trade

balance. The performance of Nigeria’s trade balance is indicated clearly a rising trend in the

country’s surplus trade balance since1983. The trend continued till 1990 before declining and

then rising again. Although there were fluctuations in the country’s surplus trade balance

between 1994 and 2005, the overall picture is that of a rising trend. This point is supported by

57

Nigeria’s trade balance of 1.7 during reform was better than that of 1.3 before reforms. This

suggests that exchange rate reforms could have been instrumental in the marginal improvement

recorded in the country’s trade balance.

The objectives of an exchange rate policy include determining an appropriate exchange rate and

ensuring its stability. Over the years, efforts have been made to achieve these objectives through

the applications of various techniques and options to attain efficiency in the foreign exchange

market. Exchange rate arrangements in Nigeria have transited from a fixed regime in the 1960s

to a pegged regime between the 1970s and the mid-1980s and finally, to the various variants of

the floating regime from 1986 with the deregulation and adoption of the structural adjustment

programme (SAP). A managed floating exchange rate regime, without any strong commitment to

defending any particular parity, has been the most predominant of the floating system in Nigeria

since the SAP.

Following the failures of the variants of the flexible exchange rate mechanism (the AFEM

introduced in 1995 and the IFEM in 1999) to ensure exchange rate stability, the Dutch Auction

System (DAS) was re-introduced on July 22, 2002. The DAS was to serve the triple purposes of

reducing the parallel market premium, conserve the dwindling external reserves and achieve a

realistic exchange rate for the naira. The DAS helped to stabilize the naira exchange rate, reduce

the widening premium, conserve external reserves, and minimize speculative tendencies of

authorized dealers. The foreign exchange market has been relatively stabilized since 2003.

Foreign exchange operations in Nigeria have been influenced by a number of factors such as the

changing pattern of international trade, institutional changes in the economy and structural shifts

in production. Before the establishment of the Central Bank of Nigeria (CBN) in 1958 and the

enactment of the Exchange Control Act of 1962, foreign exchange was earned by the private

sector and held in balances abroad by commercial banks which acted as agents for local

exporters. The boom experienced in the 1970s made it mandatory to manage foreign exchange

resources in order to avoid a shortage. However, shortages in the late 1970s and early 1980s

compelled the government to introduce some ad hoc measures to control excessive demand for

foreign exchange. However, it was not until 1982 that comprehensive exchange controls were

applied. The increasing demand for foreign exchange at a time when the supply was shrinking

encouraged the development of a flourishing parallel market for foreign exchange.

Because the exchange control system was unable to evolve an appropriate mechanism for foreign

exchange allocation in consonance with the goal of internal balance, it was discarded on

58

September 26, 1986 while a new mechanism was evolved under the Structural Adjustment

Programme (SAP) introduced in 1986. The main objectives of exchange rate policy under the

SAP were to preserve the value of the domestic currency, maintain a favourable external reserves

position and ensure external balance without compromising the need for internal balance and the

overall goal of macroeconomic stability. A transitory dual exchange rate system (first and

second-tier - SFEM) was adopted in September, 1986, but metamorphosed into the Foreign

Exchange Market (FEM) in 1987. Bureau de Change was introduced in 1989 with a view to

enlarging the scope of the FEM. In 1994, there was a policy reversal, occasioned by the non-

relenting pressure on the foreign exchange market. Further reforms such as the formal pegging of

the naira exchange rate, the centralization of foreign exchange in the CBN, the restriction of

Bureau de Change to buy foreign exchange as agents of the CBN, etc. were introduced in the

Foreign Exchange Market in 1994 as a result of volatility in exchange rates. There was another

policy reversal in 1995 to that of “guided deregulation”. This necessitated the institution of the

Autonomous Foreign Exchange Market (AFEM) which later metamorphosed into a daily, two-

way quote Inter- Bank Foreign Exchange Market (IFEM) in 1999. The Dutch Auction System

(DAS) was reintroduced in 2002 as a result of the intensification of the demand pressure in the

foreign exchange market and the persistence in the depletion of the country’s external reserves.

The DAS was conceived as a two-way auction system in which both the CBN and authorized

dealers would participate in the foreign exchange market to buy and sell foreign exchange.

Analysis of Nigeria’s exchange rate movement from 1970-2010 showed that there exists a

causal relationship between the exchange rate movements and macroeconomic aggregates such

as inflation, fiscal deficits and economic growth. Consequently, the persistent depreciation of the

exchange rate trended with major economic variables such as inflation, GDP growth, and fiscal

deficit/GDP ratio. In this context, the exchange rate movement in the 1990’s trended with

inflation rate. During periods of high inflation rate, volatility in the exchange rate was high,

which was reversed in a period of relative stability. For instance, while the inflation rate moved

from 7.5 per cent in 1990 to 57.2 per cent and 72.8 per cent in 1993 and 1995 respectively, the

exchange rate moved from N8.04 to$1 in 1990 to N22.05 and N81.65 to a dollar in the same

period. When the inflation rate dropped from 72.8 percent in1995 to 29.3 per cent and 8.5 per

cent, in 1996 and 1997 respectively, and rose thereafter to 10.0 per cent in 1998 and averaged

12.5 per cent in 1999-2009, the exchange rate trended in the same direction.

59

Following the prolonged use of direct controls, the pervasive government intervention in the

financial system and the resultant stifling of competition and resource misallocation, a

comprehensive economic re-constructuring programme was embarked upon in Nigeria in 1986

with increased reliance on market force. In line with this orientation, financial sector reforms

were initiated to enhance competition, reduce distortion in investment decisions and evolve a

sound and more efficient financial system. The reforms which focused on structural changes,

monetary policy, interest rate administration and foreign exchange management, encompass both

financial market liberalization and institutional building in the financial sector (CBN June 2009)

series. In August, 1987, all controls on interest rates were removed, while the CBN adopted the

policy of fixing only its minimum rediscount rate to indicate the desired direction of interest rate

changes. This was modified in 1989, when the CBN issued further directives on the required

spreads between deposit and lending rates. In 1991, the government prescribed a maximum

margin between each bank's average cost of funds and its maximum lending rates. Later, the

CBN prescribed savings deposit rate and a maximum lending rate. Partial deregulation was,

however, restored in 1992 when financial institutions were only required to maintain a specified

spread between their average cost of funds and their maximum lending rates. The removal of the

maximum lending rate ceiling in 1993 saw interest rates rising to unprecedented levels in

sympathy with rising inflation rate which rendered banks' high lending rates negative in real

terms. In 1994, direct interest rate controls were restored. As these and other controls introduced

in 1994 and 1995 had negative economic effects, total deregulation of interest rates was again

adopted since October, 1996.

In a bid to enthrone sanity in the foreign exchange market, the CBN re-introduced the Dutch

Auction System (DAS) in July 2002 with the objectives of realigning the exchange rate of the

naira, conserving external reserves, enhancing market transparency and curbing capital flight

from the country. Under this system, the Bank intervened twice weekly and end-users through

authorized dealers bought foreign exchange at their bid rates. The rate that cleared the market

(marginal rate) was adopted as the ruling rate exchange rate for the period, up to the next

auction. DAS brought a good measure of stability in exchange rate as well a reduction in the

arbitrage premium between the official and parallel market rates. Other measures adopted to

enhance the operational efficiency of the foreign exchange market included the unfettered access

granted holders of ordinary domiciliary accounts to their funds, while utilization of funds in the

non-oil export domiciliary accounts were permitted for eligible transactions.

60

From available data gathered, it showed that in the first half of 1994, there persisted a pressure

on the balance of payments position in the country. An overall deficit amounting to N42, 623.3

million was recorded in the balance of payments compared with the surplus of N13, 615.9

million in the corresponding period of 1993. This deficit was noticeable due to the huge current

account deficit which substantially outweighed the surplus recorded in the capital account. The

deficit was financed through a reschedule of debt service responsibility estimated at N24, 906.4

million ($1, 138.0 million) during this period. As a result of this development, the 222.0 million)

at the end of 1994, (CBN, 2010) Nigeria’s overall balance of payments however, recorded a

surplus of N19, 531.3 million during the first half of 1995. The balance of payments position of

the country however plunged back into a deficit in 1996, 1998 and 1999. This continued decline

in the country’s balance of payments was assigned to the engorged deficits in the current account

which offset the surplus recorded in the capital account. As in the previous years, the financing

of the deficit was largely through further accrual of external debt responsibility which fell and

amounted to N89, 813 million. Due to this deficit, the main external sector policy adopted in the

year 2000 was to build the country’s external reserves. The intended purpose was to restore

confidence in the Nigerian Naira (N) and in the entire economy. This effect of this external

sector policy was reflected in the balance of payments position of the country. As a result of this

policy, the country recorded a surplus in the balance of payments position i.e. Nigeria recorded a

surplus of N314, 139.2 million in 2000, and N24, 738.7 million in 2001.

The weak position in the country’s current account was due to the deterioration in the services

and income account which outweighed the surplus recorded in the merchandise trade and

involved net transfer account, (Gbosi, 2001).In recent years, there have persistent deficit in the

country’s balance of payments (See table 1). Nigeria’s balance of payments recorded remarkable

improvement during the period 2004-2005. However, the situation worsened in 2008 as a result

of the global financial and economic meltdown coupled with the falling prices of crude oil in the

international oil market (Gbosi, 2009).

High External Debt Burden: Debt sustainability analysis of Nigeria by the IMF indicates that the

country’s debt has been increasing since1960. Over a period of 30 years, the external debt has

risen by 2,899 percent. Determining whether or not the level of debt is sustainable in the country

is one of the most fundamental issues. There is no conclusive level of measure amongst

61

economists to determine when an external debt is sustainable or not. However, for debt to be

sustainable over the long term, a country’s rate of economic growth should be higher than the

rate of interest on foreign loans.

Structural inadequacies of Nigeria arose mainly from the flowing sources: Dependence on one

primary commodity (especially petroleum) as a major source of foreign exchange earner. This

commodity is open to world price fluctuations which affects the current account of the balance of

payments; Excessive debt service payment due to high non-concessional interest rates; and Weak

industrial base by the manufacturing sector of the country.

2.3.7 Brief Overview of Exchange Rate Policy in Nigeria

Foreign exchange operations in Nigeria have been influenced by a number of factors such as the

changing pattern of international trade, institutional changes in the economy and structural shifts

in production. Before the establishment of the Central Bank of Nigeria (CBN) in 1958 and the

enactment of the Exchange Control Act of 1962, foreign exchange was earned by the private

sector and held in balances abroad by commercial banks which acted as agents for local

exporters. The boom experienced in the 1970s made it mandatory to manage foreign exchange

resources in order to avoid a shortage. However, shortages in the late 1970s and early 1980s

compelled the government to introduce some ad hoc measures to control excessive demand for

foreign exchange. However, it was not until 1982 that comprehensive exchange controls were

applied. The increasing demand for foreign exchange at a time when the supply was shrinking

encouraged the development of a flourishing parallel market for foreign exchange.

Because the exchange control system was unable to evolve an appropriate mechanism for foreign

exchange allocation in consonance with the goal of internal balance, it was discarded on

September 26, 1986 while a new mechanism was evolved under the Structural Adjustment

Programme (SAP) introduced in 1986. The main objectives of exchange rate policy under the

SAP were to preserve the value of the domestic currency, maintain a favourable external reserves

position and ensure external balance without compromising the need for internal balance and the

overall goal of macroeconomic stability. A transitory dual exchange rate system (first and

second-tier - SFEM) was adopted in September, 1986, but metamorphosed into the Foreign

Exchange Market (FEM) in 1987. Bureau de Change was introduced in 1989 with a view to

62

enlarging the scope of the FEM. In 1994, there was a policy reversal, occasioned by the non-

relenting pressure on the foreign exchange market. Further reforms such as the formal pegging of

the naira exchange rate, the centralization of foreign exchange in the CBN, the restriction of

Bureau de Change to buy foreign exchange as agents of the CBN, etc. were introduced in the

Foreign Exchange Market in 1994 as a result of volatility in exchange rates. There was another

policy reversal in 1995 to that of “guided deregulation”. This necessitated the institution of the

Autonomous Foreign

Exchange Market (AFEM) which later metamorphosed into a daily, two-way quote Inter-Bank

Foreign Exchange Market (IFEM) in 1999. The Dutch Auction System (DAS) was reintroduced

in 2002 as a result of the intensification of the demand pressure in the foreign exchange market

and the persistence in the depletion of the country’s external reserves. The DAS was conceived

as a two-way auction system in which both the CBN and authorized dealers would participate in

the foreign exchange market to buy and sell foreign exchange.

2.3.8 Some Prior Studies

Some of the studies that were carried out in the past that are in relation to the concept under

study will be reviewed in this section.

There is no consensus in the empirical literature on the effect of exchange rate reforms on trade.

For instance, in a study on the effect of 24 devaluation episodes in developing countries over the

period 1959-66, Cooper (1971) found that overall, devaluation improved trade balance and

balance of payments. In another study on devaluation and macroeconomic performance, Kamin

(1988) discovered that the trade balance was improved by devaluation through its stimulation of

exports. Similarly, (Salant 1977; Gylfason and Risager 1984) established that devaluation

improved the balance of payments though not trade balance. On the other hand, the study of

Miles (1979) found that devaluation did not improve trade balance. Devaluation was also found

to worsen the trade balance and the balance of payments Solimano (1986), Roca and Priale

(1987) and Horton and McLaren (1989)

Olayide (1969), Ajayi (1975), Komolafe (1995), Egwakhide ( 1999) fitted import demand

functions using Nigerian data and found that import decisions are determined by the dynamics of

foreign exchange availability. Iyoha (2003) examined the determinant of exchange rate in

63

Nigeria. None of these studies explored the effects of foreign exchange reforms on trade

performance in Nigeria.

Cooper (1976) examines the effect of devaluation on the balance of payments of some

developing countries. He discovers that three quarter of the cases examined showed that the

current account of the balance of payments improved. This implies that devaluation leads to

higher exports and lowers imports, which in the long run would improve the balance of payments

position of a country. Conversely, Birds (1984) is of the opinion that the improvements of

balance of payments after devaluation does not necessarily suggest that the balance of payments

always improve because of devaluation.

Kiguel and Ghei (1993) also showed that exchange rate affects balance of payments, using the

ratio of non-gold reserve to import to study the impact of devaluation on the balance of

payments. Their results show that the reserve position of the devaluing country improves as a

result of devaluation. This means that devaluation improves the balance of payments, since a

improvement on the reserve position constitutes an improvement on the balance of payments

position. Donovan (1981) study, however, suggests that devaluation would improve the current

account without significant import liberation.

Diaz-Alejandro (1965) examined the impacts of devaluation on some macroeconomic variables

in Argentina for the period 1955–61. He observed that devaluation was contractionary for

Argentina because it induces a shift in income distribution towards savers, which in turn

depresses consumption and real absorption. He equally observed that current account improved

because of the fall in absorption relative to output.

Cooper (1971) also reviewed twenty-four devaluation experiences involving nineteen different

developing countries during the period 1959–66. The study showed that devaluation improved

the trade balance of the devaluing country but that the economic activity often decreased in

addition to an increase in inflation in the short term.

In a similar study, Gylfson and Schmid (1983) also constructed a log-linear macro model of an

open economy for a sample of ten countries using different estimates of the key parameters of

the model. Their results showed that devaluation was expansionary in eight out of ten countries

investigated. Devaluation was found to be contractionary in two countries (the United Kingdom

64

and Brazil). The main feature of the studies reviewed above is that they were based on

simulation analyses.

In a pool-time series cross-country sample, Edwards (1989) regressed the real GDP on measures

of the nominal and real exchange rates, government spending, the terms of trade, and measures

of money growth. He observed that devaluation tended to reduce the output in the short term

even where other factors remained constant. His results for the long-term effect of a real

devaluation were more mixed; but as a whole it was suggested that the initial contractionary

effect was not reversed subsequently. In the same way, Agénor (1991) using a sample of twenty-

three developing countries, regressed output growth on contemporaneous and lagged levels of

the real exchange rate and on deviations of actual changes from expected ones in the real

exchange rate, government spending, the money supply, and foreign income. The results showed

that surprises in real exchange rate depreciation actually boosted output growth, but that

depreciations of the level of the real exchange rate exerted a contractionary effect.

Morley (1992) analyzed the effect of real exchange rates on output for twentyeight devaluation

experiences in developing countries using a regression framework. After the introduction of

controls for factors that could simultaneously induce devaluation and reduce output including

terms of trade, import growth, the money supply, and the fiscal balance, he observed that

depreciation of the level of the real exchange rate reduced the output.

Kamin and Klau (1998) using an error correction technique estimated a regression equation

linking the output to the real exchange rate for a group of twentyseven countries. They did not

find that devaluations were contractionary in the long term. Additionally, through the control of

the sources of spurious correlation, reverse causality appeared to alternate the measured

contractionary effect of devaluation in the short term although the effect persisted even after the

introduction of controls. Apart from the findings from simulation and regression analyses, results

from VAR models, though not focused mainly on the effects of the exchange rate on the output

per se, are equally informative.

Ndung’u (1993) estimated a six-variable VAR—money supply, domestic price level, exchange

rate index, foreign price index, real output, and the rate of interest—in an attempt to explain the

inflation movement in Kenya. He observed that the rate of inflation and exchange rate explained

each other. A similar conclusion was also reached in the extended version of this study (Ndung’u

1997).

65

Rodriguez and Diaz (1995) estimated a six-variable VAR—output growth, real wage growth,

exchange rate depreciation, inflation, monetary growth, and the Solow residuals—in an attempt

to decompose the movements of

Peruvian output. They observed that output growth could mainly be explained by “own” shocks

but was negatively affected by increases in exchange rate depreciation as well.

Morley (1992) analyzed the effect of real exchange rates on output for twenty eight devaluation

experiences in developing countries using a regression framework. After the introduction of

controls for factors that could simultaneously induce devaluation and reduce output including

terms of trade, import growth, the money supply, and the fiscal balance, he observed that

depreciation of the level of the real exchange rate reduced the output.

Rogers and Wang (1995) obtained similar results for Mexico. In a five-variable VAR model—

output, government spending, inflation, the real exchange rate, and money growth—most

variations in the Mexican output resulted from “own” shocks. They however noted that exchange

rate depreciations led to a decline in output. Adopting the same methodology, though with

slightly different variables, Copelman and Wermer (1996) reported that positive shocks to the

rate of exchange rate depreciation, significantly reduced credit availability, with a negative

impact on the output. Surprisingly, they found that shocks to the level of the real exchange rate

had no effects on the output, indicating that the contractionary effects of devaluation are more

associated with the rate of change of the nominal exchange rate than with the level of the change

of the real exchange rate. They equally found that “own” shocks to real credit did not affect the

output, implying that depreciation depressed the output through mechanisms other than the

reduction of credit availability.

Output, inflation and exchange rate in Nigeria was the focus of the work by Odusola and Akinola

(2001). Employing a structural VAR model, evidence from the estimations demonstrated the

existence of mixed results on the impacts of exchange rate depreciation on output. Inflation was

found to generate substantial destabilizing impacts on output, suggesting that monetary

authorities should play a critical role in providing enabling environment for growth. The authors

concluded that prices, parallel exchange rate and lending rate were important sources of

fluctuations in the official foreign exchange rate.

66

The studies that supported the BOP effects of exchange rate overvaluation include Agene (1991),

Ogiogo (1996), Olisadebe (1996), Aron et al. (1997), Abeysinghe and Yeok (1998), MacDonald

(1998), Chowdhury (1999), Anietie et al. (2004), Enrique and Nagayasu (2004), Annsofie

(2005),Speller (2006), Yu (2006), Cheung, Chinn and Fujii (2007), Balogun (2007), Frankel

(2007), Antonia et al. (2008), Dubas (2009), etc. Agene (1991)’s results support overvaluation of

the exchange rate. Ogiogo (1996) found substantial deterioration in the balance of payments

position of developing countries is caused among other factors as, worsening terms of trade,

excessive imports and over valuation of the currencies. Olisadebe (1996) favoured exchange rate

appreciation as a means of attaining favourable balance of payments position. To Cheung, Chinn

and Fujii (2007), overvaluation of the exchange rate enhances deficits in the balance of payments

position through the current and capital accounts. Dubas (2009) findings suggest that

overvaluation will improve the current account without significant import liberation.

The studies that favoured exchange rate devaluation as a panacea to favourable balance of

payments position include, Connolly (1972), Cooper (1976), Khan and Lizonda (1987), Obadan

and Ihimodu (1980), Onoh (1982), Anifowose (1994), Dufrenot and Yehoue (2005) etc.

Connolly (1972) in their study of balance of payments and domestic credit creation opined that

as the rate of devaluation increases, the reserve position will also increase. Cooper (1976) found

that devaluation leads to higher exports and lower imports, which improves the balance of

payments position of a country. Khan and Lizonda (1987), countries experiencing balance of

payments problems should embark on currency devaluation to effect a change on the payments

problems since exchange rate devaluation impact significantly on international capital

movement. Obadan and Ihimodu (1980) hold that the exchange controls are significant

determinants of favourable balance of payments. The empirical results of Onoh (1982), hold that

devaluation is a flexible device for correcting disequilibrium in a country’s balance of payments

position. In his estimates, exchange rate devaluation is a stimulant to the export sector of a deficit

economy. Anifowose’s (1994) results favoured exchange rate devaluation as a significant

remedy to finance deficits in a country’s balance of payments. Dufrenot and Yehoue (2005)

found that exchange rate devaluation influence significantly balance of payments. Their results

show that improvements in the reserve position of the devaluing countries. In effect,

improvement on the reserve position constitutes an improvement on the balance of payments

position.

67

Akhtar and Hilton (1984) using the OLS technique found significant negative trade effect of

exchange rate fluctuation. (Bélanger et al., 1988) using the instrumental variable method, Koray

and Lastrapes (1989) using the VAR methodology found weak negative relationship. Peree and

Steinherr (1989) utilizing OLS, Caballero and Corbo (1989) using OLS and instrumental

variable methods, Bini-Smaghi and Lorenzo. (1991) using the OLS all found significant but

negative effect of exchange rate volatility on trade balance. Feenstra and Kendall (1991) using

the GARCH technique also found negative effect. Bélanger et al. (1992) using the instrumental

variable and the GIVE method of estimation found significant and negative trade effect of

exchange rate fluctuation. Chowdhury (1993) using the VAR technique, Caporale and Doroodian

(1994) using joint estimation, Hook and Boon (2000) using VAR, Doganlar (2002) using the

Engle-Granger Co-integration approach, Vergil (2002)using the standard deviation analysis, Das

(2003) using the ADF, co-integration and error correction methodology, Baak (2004) using the

OLS technique, Clark et al. (2004) using the Gravity model, Arize et al. (2005) using the co-

integration and ECM and Lee and Saucier (2005) using both ARCH-GARCH techniques found

empirical evidence in support of significant negative relationship between exchange rate

volatility and foreign trade balance.

Adopting the OLS technique, Gotur (1985), Bailey et al. (1987), Bailey and Tavlas (1988),

Mann (1989), Medhora (1990) found little or no effect of exchange rate instability on trade.

Lastrapes and Koray (1990) using VAR found weak relationship using the OLS found

insignificant but positive effect, Kumar and Dhawan (1991) who based their analysis on standard

deviation found insignificant negative effect, Gagnon (1993) utilizing the simulation analysis

found no significant effect. Using gravity models, Aristotelous (2001)and Tenreyro (2004) also

found insignificant and no effect of exchange rate instability on trade. There are other studies

with mixed effect of exchange rate instability on trade. Tavlas and Ulan (1986) and Akhtar and

Hilton (1991) using the OLS found insignificant, mixed effects. Kumar and Joseph (1992),

Frankel and Shang-Jin Wei (1993) using the OLS found undersized and negative effect of

exchange rate instability on trade in 1980 but positive effect in 1990. Kroner and William (1993)

using the GARCH-M method found significant trade effects of exchange rate volatility with

varied signs and magnitudes. Daly (1998) using the VAR approach found mixed results with a

positive correlation. Hwang and Lee (2005) using the GARCH-M found positive effect of

exchange rate volatility on import but insignificant effect on export. In a cross section analysis,

Brada and Méndez (1988) found positive effect of exchange rate instability on trade. In another

68

cross sectional analysis, De Grauwe (1988) found significant positive trade effects of exchange

rate volatility. Asseery and Peel (1991) using the OLS-ECM methodology found significant and

positive effects of exchange rate instability on trade for the UK. McKenzie and Brooks (1997)

utilizing the OLS technique found significant positive effect.

In the year that follows, McKenzie (1998) single-handedly adopted the ARCH method and found

positive effects of exchange rate instability on trade. Kasman and Kasman (2005) using the

method of co-integration and ECM found significant positive effect of instability in the exchange

rate on export. In their study of the impact of exchange rate volatility on trade flow in

Nigeria,Afolabi and Akhanolu (2011) using generalized autoregressive conditional

heteroskedasticity (GARCH) found an inverse and statistically insignificant relationship between

total trade and exchange rate volatility in Nigeria. Isitua and N.Igue (2006) investigates the

effects of exchange rate volatility on US-Nigeria trade flows using GARCH modeling, co-

integration, error-correction apparatus and variance decomposition on data for the period of

1985:1 to 2005:4. These authors found that exchange rate volatility has a negative and significant

effect on Nigeria’s exports to the US. In line with theoretical expectation, US GDP exerts a

positive effect on Nigeria’s exports but curiously, the effect is insignificant in the export

function. There is this strand of the literature that relates to exchange rate elasticity2 of trade.

Empirical studies on exchange rate elasticity of trade balance include Hopper et al. (2000),

Meltiz (2003), Campa (2004), Campa and Goldberg (2005), Hummels and Klenow (2005),

Marquez and Schinder (2007), Chaney (2008), Cline and Williamson (2008), Helpman et al.

(2008), (Beggs et al., 2009), Bernard et al. (2009), Cheung et al. (2009), and Thorbecke and

Smith (2010), Arkolakis and Muendler (2010), Eaton, (Kortum and Kramarz, 2010), Gopinath

and Itskhoki (2010), (Gopinath et al., 2010) and Berman et al. (2010). The general consensus in

the aforementioned studies is that the aggregate exchange rate elasticity of trade is less than

unity. Elsewhere, the trade balance effects of exchange rate shocks have also been empirically

investigated in several studies to determine the possible effects of the real exchange rate shocks

on the aggregate trade ratio Magee (1973), Miles (1979), Himarios (1985), (Rose and Yellen,

1989), Demirden and Pastine (1995), Bahmani-Oskooee and Pourheydarian (1991), Backus et al.

(1994), Marwah and Klein (1996), Bayoumi (1999) and Bahmani-Oskooee and Brooks (1999).

Some of these studies utilized adjustment lags to explain the dynamic pattern of adjustments that

occur in the short-run in order to establish long-run relations in response to various shocks in the

69

exchange rate system. However, the empirical evidence is mixed. Magee (1973) finds evidence

in support of J-curve effect of the trade response to exchange rate. Miles (1979) found an

improvement in the trade balance through the capital account and as such the devaluation

mechanism involved only a portfolio stock adjustment. By contrast, Himarios (1985) results

validated the J-curve hypothesis of trade balance. Rose and Yellen (1989) found no response of

the trade balance to real exchange rate movements in the short-run, in the bilateral US trade and

the rest of the world. On their part, Bahmani-Oskooee and Pourheydarian (1991) found evidence

to support the fact that the Australian trade balance deteriorated in the short-run and improved in

the long-run, a scenario that conformed to the predictions of the J-curve phenomenon. The

empirical estimates of Backus et al. (1994) reveals unfavourable movements in the terms of trade

that were associated with declines in the balance of payments. Under this scenario, their results

corroborated the J-shape effect. Marwah and Klein (1996) found a delayed reaction of the

aggregate trade balance to exchange rate changes in the US and Canada with a discrete

propensity for total trade balances to worsen at first when exchange rate devaluation is instituted

and to later improves for both US and Canada. Bahmani- Oskooee and Brooks (1999) found that

a real depreciation of the dollar had only a long-run effect on the US trade balance in relation to

her trading partners.

Edwards (1989) pioneered the fundamentals models of the determination of real exchange rates

for developing countries. Edwards started by developing a theoretical model of the real exchange

rate determination and then estimated its equilibrium value for a panel of 12 developing

countries (Brazil, Columbia, El Salvador, Greece,

India, Israel, Malaysia, Philippines, South Africa, Sri Lanka, Thailand and Yugoslavia) using

conventional cointegration tests on time series data. To analyse the relative importance of real

and nominal variables in the process of real exchange rate determination in the short and long

run, he used the following partial adjustment model: RER = v(terms of trade, government

consumption, capital controls, exchange controls, technical progress, domestic credit, real

growth, nominal devaluation). The study found that in the long run only real variables affect the

long run equilibrium real exchange rate. In the short run, however, real exchange rate variability

was explained by both real and nominal factors.

Obadan (1994) formulated a simple econometric model for Nigeria and empirically estimated it

together with a random walk model of the real exchange rate determination. Both models were

70

estimated in log-linear forms using the two-stage least squares regression methodology and data

for the period 1970-1988. Although this study failed to test variables for stationarity and did not

estimate the equilibrium real exchange rate, it found that both structural and short run factors

were important determinants of variations in prevailing bilateral real exchange rates and

multilateral real effective exchange rates. The study found that the most important factors were

international terms of trade, net capital inflows, nominal exchange rate policy and monetary

policy.

Mungule (2004) investigated the determinants of real exchange rate in Zambia. He used the real

exchange rate as a function of terms of trade, capital inflow, closeness of the economy and

excess supply of domestic credit. Using the cointegration technique, he discovered that the

REER and the fundamental determinants have a long run equilibrium relationship. Ogun (2004)

examined the impact of real exchange rate on growth of non-oil export in Nigeria. Specifically,

he analyzed the effects of real exchange rate misalignment and volatility on the growth of non oil

exports. He employed the standard trade theory model of determinants of export growth and two

different measures of real exchange rate misalignment; one of which entailed deviations of

purchasing power parity (PPP) and the other was model based estimation of equilibrium real

exchange rate. He reported that, irrespective of the alternative measures of misalignment

adopted, both real exchange rate misalignment and volatility adversely affected growth of

Nigeria’s non-oil export.

The ambiguity in the theoretical literature causes similar ambiguity and inconsistencies in the

empirical investigation of the effects of exchange rate volatility on exports flows. De Vita and

Abbott (2004) associate this lack of a clear and consistent pattern of results with no consensus on

whether exchange rate volatility should be measured on the basis of nominal or the real exchange

rate, failure of the studies to reach consensus on the statistical technique that should be employed

to construct the optimal measure of exchange rate volatility , the failure of some studies to

consider the time series properties of the regressors entering the export equation and last, the use

of aggregate data which constrains volatility estimates to be uniform across countries and the

sectors of the economy in lieu of disaggregated markets and sector –specific data.

The impact of exchange rate volatility on trade has been studied more in industrialised countries

than in less developed economies. Azaikpono, et al.(2005) and Vergil(2002) state that this lack

of attention in developing countries is caused by insufficient time series data. According to

71

Klaassen (1999) there is a need for this kind of empirical studies to be undertaken in developing

countries (such as that are in Sub-Saharan Africa(SSA)) with time-variant exchange rates in

order to counter this prevalent ambiguity in the literature and fill the research vacuum in less

developed countries.

Dr. Nazneen Ahmad and et al (2012) in this study is to examine how the trade balance between

the United States and Mexico is influenced by the Peso/Dollar exchange rate as well as US and

Mexican GDP. This study also briefly examines the Marshall-Lerner condition and J-curve

phenomena. Quarterly GDP and real exchange rate data are analyzed using a statistical

regression where the independent variables are domestic GDP, foreign GDP, and real exchange

rates.

Shi jun-Guo and et all, (2012) in this study the relevant data from 1985 to 2010,uses a quintile

regression model to make an empirical research about the effect of GDP and exchange rate on

foreign exchange reserve. Based on the relevant data from 1985 to 2010, this study uses a

quintile regression model to make an empirical research about the effect of GDP and exchange

rate on foreign exchange reserve. The findings show that: Both GDP and exchange rate have a

remarkable influence on the size of foreign exchange reserve and the effect of exchange rate on

foreign exchange reserve is higher than GDP at mean place and middle and lower quintile,

smaller than GDP at higher quintile.

Qaisar ABBAS and et al (2012) in this paper analyzed the relationship between, gross domestic

product between, gross domestic product, inflation and real interest rate with the exchange rate.

10 African countries with 15 years of data from 1996 to 2010 were used for this study. Three

independent variables i.e. inflation, interest rate and Gross Domestic Product were used in order

to investigate their relationship which causes exchange rate fluctuations. Pham ThiTuyet Trinh ,

(2012) in this study analysed impact of exchange rate on trade balance for developing countries

which come to various conclusions.

Michel Ruta and Marc Auboin ,(2011) in this paper surveys a wide body of economic literate on

the relationship between currencies and trade . Specifically, two main issues are investigated: the

impact on international trade of exchange rate volatility and currency misalignment. Specifically,

two main issues are investigated: the impact on international trade of exchange rate volatility and

of currency misalignments. On average, exchange rate volatility has a negative(even if not large)

impact on trade flows. The extent of this effect depends on a number of factors, including the

72

existence of hedging instruments, the structure of production (e.g. the prevalence of small firms),

and the degree of economic integration across countries.

Joseph and et al (2011) in this study Based on the relevant data from 1985 to 2010, in this study

uses a quintile regression model to make an empirical research about the effect of GDP and

exchange rate on foreign exchange reserve. The findings show that: Both GDP and exchange rate

have a remarkable influence on the size of foreign exchange reserve and the effect of exchange

rate on foreign exchange reserve is higher than GDP at mean place and middle and lower

quintile, smaller than GDP at higher quintile.

Habib Ahemed and et al, (2011) in this study analyses the impact of exchange rate on

macroeconomic aggregates in Nigeria. Based on the annual time series data for the period 1970

to 2009, the research examines the possible direct and indirect relationship between the real

exchange rates and GDP growth. The estimation results show that there is no evidence of a

strong direct relationship between changes in the exchange rate and GDP growth.

Kumar and et al (2008) in this paper analyzed India after the reforms initiated in the early 1990.

Unlike observed in several countries, it finds a rise in exchange rate pass-through to domestic

prices until recent years. Based economic factors typically associated with economic

liberalization, the persistence of higher inflation is an important factor for the rise in pass-

through.

R. Baldwin and et al (2007) the paper examines the industry characteristics that are related to the

shift in competitiveness measured as the relative common-currency price ration between

Canadian and US manufacturing prices. They find that relative input costs and relative

productivity the two most important factors influencing changes in relative Canada and US price.

Soyoung Kim ,(2005) in this paper provides an explanation for “delayed overshooting” puzzle

based on foreign exchange policy reaction to monetary policy, for Canada in which sample

interaction between monetary and foreign exchange policies monetary policies are found. As the

effects of the monetary policy shocks are more prolonged than that of the foreign exchange

policy reaction, the maximum effect is found in delay.

John Romali and et al(2003) they analyzed a model of international trade in which trade

depresses real exchange rate volatility and exchange rate volatility impacts trade in products

differently according to their degree of differentiation. Using disaggregate trade data for a large

73

number of countries for the period 1970-1997 they find strong result supporting the prediction

that trade dampens exchange rate volatility. They find that once we address the reverse-causality

problem, the large effects of exchange rate volatility on trade found in some previous literature

are greatly reduced.

Syed Abul Basher and et al (2001) the paper analyzed adopts a single equation rate behavior and

exchange rate misalignment in Bangles. While increase in capital inflow, improvement in terms

of trade, and increase in government consumption non- tradable result in a real appreciation of

currency. Data on GDP, export, import, exchange rate, price indices, gross fixed capital

formation, private on public consumption are taken from statistical yearbook of Bangladesh.

Bahmani-Oskoose and Kanitpong (2001) when testing on disaggregated quarterly ARDL co

integration between Thailand and the main five trading partners for period 1973-1990, find

evidence of the J-curve in bilateral trade with US and Japan only.

Bahmani-Oskoose (2001) investigate the long-run response of Middle Eastern countries’ trade

balance to devaluation by applying the Engle-Ganger and Johansen-Juselius co integration

methodology and find a favorable long-run effect of a real depreciation on the trade balance for

seven countries.

Angel Serrat and et al (2000) in this paper examined the exchange rate behavior in a multilateral

target zone introduces a new class of stochastic processes in economics, namely

multidimensional reflected diffusion processes. The restriction on interventions imposed by

cross-currency constraints, cooperation in sharing the intervention burden in general, the

exchange rate between any two countries will depend on the fundamentals of third countries in a

multilateral target zone model. Alan C.Stockman (1990) in his paper empirical analysis of the j-

curve. First, we document strong violation in the distributional assumptions that underlie nearly

all previous work on this issue. He found some evidence with the j-curve in the data.

RudigerDornbush and et al(1980) in this paper develops a of exchange rate determination that

integrates the roles of relative prices, expectation, and the assets markets, and emphasizes the

relationship between the behavior of the exchange and the current account.

David and et al (1998) in this paper examined Central bank that are primarily concern with the

behavior of prices will use monetary policy to try insulating prices from exchange rate changes.

Prices than appear unresponsive to changes in the exchange rate. Maurice Obstfeld and et al

74

(1995) they develop an analytically tractable two country model that marries a full account of

global macro-economic dynamics to a supply framework based on monopolistic competition and

sticky nominal prices.

Prof.Hasan Vergil (1989) in this paper empirically investigates the impact of real exchange rate

volatility on the export flows of Turkey to the United States and its three major trading partners

in the European Union for the period 1990:1-2000:12. The standard deviation of the percentage

change in the real exchange rate is employed to measure the exchange rate volatility. Co

integration and error-correction models are used to obtain the estimates of the co integrating

relations and the short-run dynamics, respectively.

First, Diaz-Alejandro (1965) examined the impacts of devaluation on some macroeconomic

variables in Argentina for the period 1955–61. He observed that devaluation was contractionary

for Argentina because it induces a shift in income distribution towards savers, which in turn

depresses consumption and real absorption. He equally observed that current account improved

because of the fall in absorption relative to output.

Cooper (1971) also reviewed twenty-four devaluation experiences involving nineteen different

developing countries during the period 1959–66. The study showed that devaluation improved

the trade balance of the devaluing country but that the economic activity often decreased in

addition to an increase in inflation in the short term.

In a similar study, Gylfson and Schmid (1983) also constructed a log-linear macro model of an

open economy for a sample of ten countries using different estimates of the key parameters of

the model. Their results showed that devaluation was expansionary in eight out of ten countries

investigated. Devaluation was found to be contractionary in two countries (the United Kingdom

and Brazil). The main feature of the studies reviewed above is that they were based on

simulation analyses.

The few studies on contractionary devaluation based on regression analysis include those of

Edwards (1989), Agénor (1991), and Morley (1992). In a pool-timeseries/ cross-country sample,

Edwards (1989) regressed the real GDP on measures of the nominal and real exchange rates,

government spending, the terms of trade, and measures of money growth. He observed that

75

devaluation tended to reduce the output in the short term even where other factors remained

constant. His results for the long-term effect of a real devaluation were more mixed; but as a

whole it was suggested that the initial contractionary effect was not reversed subsequently. In the

same way, Agénor (1991) using a sample of twenty-three developing countries, regressed output

growth on contemporaneous and lagged levels of the real exchange rate and on deviations of

actual changes from expected ones in the real exchange rate, government spending, the money

supply, and foreign income. The results showed that surprises in real exchange rate depreciation

actually boosted output growth, but that depreciations of the level of the real exchange rate

exerted a contractionary effect.

Morley (1992) analyzed the effect of real exchange rates on output for twenty eight devaluation

experiences in developing countries using a regression framework. After the introduction of

controls for factors that could simultaneously induce devaluation and reduce output including

terms of trade, import growth, the money supply, and the fiscal balance, he observed that

depreciation of the level of the real exchange rate reduced the output.

Kamin and Klau (1998) using an error correction technique estimated a regression equation

linking the output to the real exchange rate for a group of twenty seven countries. They did not

find that devaluations were contractionary in the long term. Additionally, through the control of

the sources of spurious correlation, reverse causality appeared to alternate the measured

contractionary effect of devaluation in the short term although the effect persisted even after the

introduction of controls. Apart from the findings from simulation and regression analyses, results

from VAR models, though not focused mainly on the effects of the exchange rate on the output

per se, are equally informative.

Ndung’u (1993) estimated a six-variable VAR—money supply, domestic price level, exchange

rate index, foreign price index, real output, and the rate of interest—in an attempt to explain the

inflation movement in Kenya. He observed that the rate of inflation and exchange rate explained

each other. A similar conclusion was also reached in the extended version of this study (Ndung’u

1997). Rodriguez and Diaz (1995) estimated a six-variable VAR—output growth, real wage

growth, exchange rate depreciation, inflation, monetary growth, and the Solow residuals—in an

attempt to decompose the movements of Peruvian output. They observed that output growth

76

could mainly be explained by “own” shocks but was negatively affected by increases in

exchange rate depreciation as well.

Rogers and Wang (1995) obtained similar results for Mexico. In a five-variable VAR model—

output, government spending, inflation, the real exchange rate, and money growth—most

variations in the Mexican output resulted from “own” shocks. They however noted that exchange

rate depreciations led to a decline in output. Adopting the same methodology, though with

slightly different variables, Copelman and Wermer (1996) reported that positive shocks to the

rate of exchange rate depreciation, significantly reduced credit availability, with a negative

impact on the output. Surprisingly, they found that shocks to the level of the real exchange rate

had no effects on the output, indicating that the contractionary effects of devaluation are more

associated with the rate of change of the nominal exchange rate than with the level of the change

of the real exchange rate. They equally found that “own” shocks to real credit did not affect the

output, implying that depreciation depressed the output through mechanisms other than the

reduction of credit availability.

Output, inflation and exchange rate in Nigeria was the focus of the work by Odusola and Akinola

(2001). Employing a structural VAR model, evidence from the estimations demonstrated the

existence of mixed results on the impacts of exchange rate depreciation on output. Inflation was

found to generate substantial destabilizing impacts on output, suggesting that monetary

authorities should play a critical role in providing enabling environment for growth. The authors

concluded that prices, parallel exchange rate and lending rate were important sources of

fluctuations in the official foreign exchange rate.

Kamin (1988) discovered that the trade balance was improved by devaluation through its

stimulation of exports. Similarly, (Salant 1977; Gylfason and Risager 1984) established that

devaluation improved the balance of payments though not trade balance. On the other hand, the

study of Miles (1979) found that devaluation did not improve trade balance. Devaluation was

also found to worsen the trade balance and the balance of payments Solimano (1986), Roca and

Priale (1987) and Horton and McLaren (1989) Olayide (1969), Ajayi (1975), Komolafe (1995),

Egwakhide ( 1999) fitted import demand functions using Nigerian data and found that import

decisions are determined by the dynamics of foreign exchange availability.

77

The empirical works by Mackinnon (1994) and Fry (1995) have shown evidence to support the

hypothesis that interest rate determine investment. Thus, there are two transmission channels

through which interest rate affects investment. They relate to investment as cost of capital. They

also opined that interest rate encourages loans (external finance). Many studies have investigated

these transmission mechanisms, which tallies with interest rate policy regimes articulated in

Nigeria prior to and after the 1986 deregulation. Khat and Bathia (1993) used non-parametric

method in his study of the relationship between interest rates and other macro-economic

variables, including savings and investment. In his study he grouped (64) Sixty-Four developing

countries including Nigeria into three bases on the level of their real interest rate. He then

computed economic rate among which were gross savings, income and investment for countries.

Applying the Mann - Whitny test, he found that the impact of real interest was not significant for

the three groups. However, his method of study was criticized by Balassa (1989) that a

relationship has been established by the use of regression analysis.

Agu (1988) reviewed the determinants and structure of real interest rates in Nigeria from 1970 to

1985. He demonstrated the negative effect of low real interest rate on savings and investment

using the usual Mckinnon financial repression diagram. His main conclusion was that the

relationship between real interest rates, savings and investment is inconclusive. Ani (1988)

opined that, the central Bank is two eager in its objective to accelerate the attainment of the

objectives of the on-going structural adjustment which among others, recommended the

deregulation of the economy. He believes that the central bank is trying to deregulate the interest

rate aim at strangulating a lot of industries particularly the small and medium scale industries

because interest rate deregulation will lead to a very high lending rate which in his own opinion,

the medium scale industries could not afford because of their limited capital and production base.

The central bank in its policy increases its lending rates from 11 to 15% in situation where Naira

is undervalued. In view of these increase, the commercial banks increased their own lending rate

between 17 to 22%. Also, the liquidity ratio was to be increased from 25% and their credit

expansion reduced from 8 to 7.54%.

Ani (1988) thus maintained that the Central Bank of Nigeria measures would reduce the lending

capacity of the banks and with a reduction in quantity of money in circulation there would be no

money to save. Further, he was also of the view that money which would have been saved are

78

already in the vault of the central bank in the form of drew back of money awaiting remittance to

the second tier foreign exchange market, profit and petroleum subsidies. He thus concluded that,

the fixing of interest rates at such a high level does not give Nigerian business any chance of

competition with their foreign counterparts, Particularly, those from countries where interest

rates are low compared to our own. Ojo (1988) share a similar view with Ani. He also believes

that domestic financial markets are to some extent structurally oligopolistic, if interest rate is left

uncontrolled, it might lead to a sharp increase in lending rate leading to increase in cost of capital

and discouraging investment.

Nwankwo (1989), however, believes that interest rate deregulations will definitely lead to more

efficient allocation of financial market resources because interest rate will now reflect scarcity

and relative efficiency in different use. That is, only efficient investors will have access to scarce

financial resources. Abiodun (1988), on the other hand believed that deregulation of interest rate

is like a double-edged sword, which will either stimulate the economy or mar it. He asserted that

the deregulation of interest rate will lead to an increase in interest rate, which will have a positive

effect on savings as saving will be increased. However, he stated that high interest rate might not

bring about cost-push inflation because borrower will pass high cost of borrowing to the

customers by including it in their cost of production. He further stressed that high cost of

borrowing will slow down investment, as borrowing will be greatly reduced. Hence investment

in new business will reduce while existing ones may not be able to compete favorably for scarce

finance due to high cost of borrowing. He opined that free marked should serve as check and

balance and that some measure of control of interest rate will be beneficial if only to deliberately

channel investment into the preferred sectors.

According to Kimberly Amadeo, Interest rates control the flow of money in the economy. High

interest rates curb inflation, but also slow down the economy. Low interest rates stimulate the

economy but could lead to inflation. Therefore, you need to know not only whether rates are

increasing or decreasing, but what other economic indicators are saying. If interest rates are

increasing and the Consumer Price Index (CPI) is decreasing, this means the economy is not

overheating, which is good. But, if rates are increasing and GDP is decreasing, the economy is

slowing too much, which could lead to recession. If rates are decreasing and GDP is increasing,

the economy is speeding up, and that is good. But, if rates are decreasing and the CPI is

79

increasing, the economy is headed towards inflation. High interest rates curb inflation. If interest

rates stay too high for too long, it causes a recession, which create layoffs as businesses slow. If

you are in a cyclical industry, or a vulnerable position, you could get laid off.

2.4 REVIEW SUMMARY

We can clearly see that the concept of exchange rate and balance of payments have received

much attention from analysts and experts. However a clear examination of their views,

contributions and findings reveals that there is no consensus convergence on the above

acknowledged views and the current study under investigation.

As this investigation is focused on carrying out an empirical investigation on the impact of

exchange rate on balance of payments in Nigeria, relevant literatures containing several studies

have been reviewed. The work of HabibAhemed et al (2011), Joseph and et al (2011), Michel

Ruta and marc Aubion (2011) investigated on the impact of exchange rate on some selected

macroeconomic variables in Nigeria which draws a correlation to the study under investigation.

On the other hand, Shi Jun-Guo and et al (2012), Qaisar ABBAS and et al (2012) and Mungule

(2004) adopted a reversed analysis of estimating the impact of GDP on exchange rate in their

specific countries of interest.

This study however fills gaps discovered in the above existing empirical literatures. Firstly, a

critical review of the above literature reveals that they focused mostly on exchange rate as a

given variable without taking into cognizance the fluctuating status of exchange rate which is an

inherent factor in exchange rate. This research thus creates a point of departure via estimating the

impact of exchange rate fluctuations on balance of payments in Nigeria.

Secondly, based on the above reviewed works, it can be seen that they majorly concentrated on

analyzing the impact of exchange rate on GDP and other macroeconomic variables and the other

way round. Sufficient studies have been channeled to that effect and this present study thus

specifically focused on analyzing the impact of exchange rate fluctuations with accompanying

variables on balance of payments. This is considered pertinent because the changes in exchange

rate first hits the balance of payments structure of any economy before translating to economic

growth.

80

81

REFERENCEES

Adamgbe, B.T. (2003). Critical Issues in the Naira Exchange Rate, Depreciation and Capital

Flight in Nigeria: Business Day Newspapers, Lagos April 26. Vol. 7, No. 560.

Aliyu S.U.R. (2007b). Import-Export Demand Functions and Balance of Payments Stability in

Nigeria. A Co-Integration and Error Correction Modeling, submitted to: Journal of

Social and Management Science.

Aliyu, S.R.U (2011). Impact of oil price Shock and Exchange Rate Volatility on Economic

Growth in Nigeria. An Empirical Investigation: Research Journal of International

Studies, Issue 11, July.

Anderton, R. & F. Skudelny (2001). Exchange Rate Volatility and Euro Area Imports European:

Central Bank (ECB) Working Paper, No. 64.

Anthony J. Makin. The Balance of Payments and the Exchange Rate”. International Economics,

Finance and Trade – Vol. 1. Department of Economics, the University of Queenland,

Australia.

Anyanwa J.C. (1993). Monetary Economics: Theory, Policy and Institutions Onitsha: Hybrid

Publishers Ltd.

Arize, A.C., T. Osang & J.D. SloHje (2000). Exchange Rate Volatility and Foreign Trade.

Evidence from Thirteen LDC’s: Journal of Business and Economic Statistics 18, 10-17.

Arora, Vivek, Steven Dunaway, & Hamid Farugee (2001). Sustainability of US External Current

Account Deficit in the United State, selected issues: IMF Country report 01/149

(Washington: International Monetary Fund, August), Pp. 25-39.

Agénor, Pierre-Richard. (1991). Output, Devaluation and the Real Exchange Rate in Developing

Countries: Weltwintschaftliches Archiv 127, No. 1, pp. 18–41.

Alan C. Stockman,(2001). Current Account and Exchange Rates. A New Look at the Evidence:

National bureau of economic research Cambridge, (July 2001).

82

Angel Serrat, (2000). Exchange Rate Dynamics in a Multilateral Target Zone: review of

Economic studies vol. 67, No. 1(Jan., 2000), pp. 193-211. M.Atiqur Rahman and Syed

Abul

Anifowose, O.K.(1994). Allocation and Management of foreign exchange. The Nigerian

Experience: The CBN Bulletin: Vol. 18,No 4.

Ajayi, S. L. (1974). An Econometric Case study of Relative importance of Monetary and Fiscal

Policy in Nigeria: Bangladesh Economic Review, 11(2).

Anderson, L. C., & Jordan, J. L. (1968). Monetary and Fiscal Action A test of their Relative

Importance in Economic Stabilization: Federal Reserve Bank of St. Louis Review

reprint series no. 34.

Anyanwu, J. C. (1993). Monetary Economics.Theory, Policy and Institution. Joane: Educational

Publishing Ltd, Onitsha.

Aspe, P. (1992). Estabilización Macroeconómica y Cambio Estructural. La Experiencia de

México (1982-1988) in C. Bazdresch, N. Bucay, S. Loaeza, and N. Lustig, (Comp.),

México, Auge, Crisis y Ajuste: (México: Fondo de Cultura Económica).

Aspe, P. (1993). Economic Transformation, The Mexican Way: (US: The MIT Press).

Banco de México, Indicadores Económicos, Several issues, México.

Brailovsky, V. (1992). Las Implicaciones Macroeconómicas de Pagar. La Política Económica

ante la Crisis de la Deuda en México (1982-1988)”, in C. Bazdresch, N. Bucal, S. Loaeza

and N. Lustig (eds.) México, Auge, Crisis y Ajuste (México: Fondo de Cultural

Economical).

Barro,R.J. & Gordon, D.B. (1983). Rules, Discretion, and Reputation in a Model of Monetary

policy: Journal of Monetary Economics 12, pp. 101-20

83

Basher,(2001). Real Exchange Rate Behavior and Exchange Rate Misalignments in

Banglades: International Economic Studies, Vol. 27, No. 2(Jun 2001), pp. 69-93.

Berg, Andrew, Eduardo Borensztein & Paolo Mauro, (2002). An Evaluation of Monetary Regime

Options for Latin America: The North American Journal of Economics and Finance, 13:

pp. 213-235.

Birds, G. (1984). Balance of payment policy in Developing countries in the quest for economic

stabilization. Tony Killick Edition. London: Heinemann Education Books.

Borensztein, Eduardo & Jone-Wha Lee, (2002). Financial Crisis and Credit Crunch in Korea.

Evidence from Firm-Level Data: Journal of Monetary Economics, 49(4): pp. 853-75

Calvo, Guillermo & Carmen Reinhart, (2002). Fear of Floating: Quarterly Journal of

Economics, 117, no. 2, May, pp. 379-408.

Calvo, Guillermo, (2003). Explaining Sudden Stop, Growth Collapse and BOP Crisis.The Case

of Discretionary Output Tax: The Mundell Fleming Lecture for the Third Annual IMF

Research Conference, Washington, DC.

Calvo,G., & Vegh, C.A., (1993). Exchange Rate Based Stabilization underimperfect

credibility In Open Economy macroeconomics: Frisch, H., Worgotter, A.(Eds)

MacMillan, London ,pp. 3-28.

Central Bank of Nigeria (2009). Globalization and National Economic Development: Central

Bank Annual Report, December.

Central Bank of Nigeria (1997). Globalization and National Economic Development: Central

Bank Annual Report, December.

Cooper, R.N. (1978). Flexible Exchange rate and stabilization policy: Scandinavian Journal of

Economics, No.2.

Cooper, Richard. (1971). An Assessment of Currency Devaluation in Developing Countries:

Essays in International Finance, no. 86. Princeton, N.J.: Princeton University.

84

Copelman, Martina, & Alejandro M. Wermer. (1996). The Monetary Transmission

Mechanism in Mexico: Working Paper, no. 25. Washington, D.C.: Federal Reserve

Board.

Cimoli, M. & N. Correa (2002). Trade openness and Technological Gaps in Latin America. A

‘Low Growth Trap, Laboratory of Economics and Management Sant’Anna School of

Advanced Studies: LEM Working Paper Series, 200/14.

Central Bank of Nigeria. (2010). Statistical Bulletin, 20. Abuja.

Central Bank of Nigeria (2009). Nigeria Major Economic, Financial and Banking Indicators.

Abuja.

Diaz-Alejandro, F. Carlos. (1965). Exchange-Rate Depreciation in a Semi-Industrialized

Country: The Experience of Argentina, 1955–61. Cambridge, Mass.: MIT Press.

Diaz-Alejandro, C.F. (1984). Exchange Rate and Terms of trade in Argentine Republic. 1973-76.

In Trade Stability, Technology and Equity in latin America Eds. By (V) Syrquin and S.

Teitel: (NEW YORK: Academic Press).

Donovan, D.J. (1981). Real response association with exchange rate action in selected upper

credit Tranche stabilization programs: IMF Staff Paper 28 Washington, World Bank.

Dornbusch, R. (1988). Open macroeconomics, 2nd Edition: New York.

Dr. Hasan Vergil,(2003). Exchange Rate Volatility in Turkey and Its Effect on Trade Flows:

Journal of Economic and Social Research, 4 (1), 83-99, (May 2003).

Dr. Nazneen Ahmad & Dr. Doris Geide –Stevenson,(2012). The Effect of GDP & Exchange Rate

on the Trade Balance Between the United States and Mexico: Journal of Business

Management Dynamics,(Mar., 29- 2012).

Dornbusch, R. & A. Werner (1994). Mexico: Stabilization, Reform and No Growth:

Brookings Paper on Economic Activity, 1: 253-315.

85

Dussel, E. (2000a). El Tratado de Libre Comercio de Norteamérica y el Desempeño de la

Economía en México (Santiago de Chile: CEPAL-Naciones Unidas).

Edwards, Sebastian (1989). Real Exchange Rates, Devaluation and Adjustment: Exchange Rate

Policy in Developing Countries. Cambridge, Mass.: MIT Press.

Edwards, Sebastian & Miguel A. Savastano, (2000). Exchange Rates in Emerging Economies.

What Do We Know? What Do We Need to Know? in Economic Policy Reform: The

Second Stage, ed. by Anne O. Krueger, pp. 453-510. Chicago: University of Chicago Press.

Egwaikhide, Festus O.; Louis N. Chete; & Gabriel O. Falokun. (1994). Exchange Rate

Depreciation, Budget Deficit and Inflation. The Nigerian Experience AERC Research

Papers, no. 26. Nairobi: African Economic Research Consortium.

Egwaikhide, F.D. (1999). Determinants of Imports in Nigeria: a Dynamic Specification African

Economic Research Consortium, (AERC): Research Paper, No. 91.

Eiteman, David K, Stonehill, Arhtur I., & Moffeh, Michael H. (2001). Multinational Business

Finance 90th edition: published by Addison-Wesley Longman, Inc.

Eme, O. CBN journal of applied statistics. Vol. 2. No. 2.

Eichengreen, Barry, Paul Masson, Miguel Savastano, & Sunil Sharma, (1999). Transition

Strategies and Nominal Anchors on the Road to Greater Exchange Rate Flexibility

Essays in International Finance, No. 213: (Princeton: Princeton University Press).

Ekpo A.H (2003). Macroeconomic Model of the Nigerian economy: Vantage Publishers Ibadan.

McKinnon, Ronald, (1963), Optimal Currency Areas. American Economic Review, 53,

pp. 717-724.

Edwards, S. (1997). Trade Liberalisation Reforms and the World Bank: American Economic

Review, 87(2): 43-48.

Edwards, S. (1993). Openness, Trade Liberalisation, and Growth in Developing Countries:

Journal of Economic Literature, XXXI: 1358-1393.

86

Ferreira, P. (2001). La liberalización del sector de servicios: el caso del Tratado Unión

European/México: Serie Comercio Internacional, CEPAL.

FitzGerald, E.V.K. (1999). Trade, Investment and NAFTA: The Economics of Neighbourhood

in V. Bulmer-Thomas and J. Dunkerley (eds.), The United States and Latin America: The

New Agenda, (Great Britain: Institute of Latin American Studies and David Rockefeller

Center for Latin Americas Studies).

Fuji, G. (2000). El Comercio Exterior Manufacturero y los Límites al Crecimiento Económico

de México: Comercio Exterior, 50 (11): 1008-1014.

Frankel, Jeffrey A, Eduardo Fajnzylber, Sergio L. Schmukler & Luis Servén, (2001). Verifying

Exchange Rate Regimes: Journal of Development Economics 66(2) pp 351-86.

Frankel, Jeffrey, (2003). Experience of and Lessons from Exchange Rate Regimes in Emerging

Economies. In Monetary and Financial Cooperation in East Asia: Asian Development

Bank, Macmillan, 2003.

Fieleke, N. S. (1996). What is Balance of Payments? Federal Reserve Bank of Boston Economic

and Financial Review.

Fischer, S. (1994). Modern Central Banking: The Future of Central Bank. The Tercentenary

Symposium of the Bank of England: Cambridge University Press.

Folawewo, A. O., & Osinubi, T. S. (2006). Monetary Policy and Macroeconomic Instability in

Nigeria. A Rational Expectation Approach: Kenila Raj.

Guitan, M. (1976). The Effects of Changes in exchange Rate on Output, Prices and The balance

of Payments: Journal of International Economics, Vol.6, 65-74.

Gylfason, T., & M. Schmid. (1983). Does Devaluation Cause Stagflation? Canadian Journal

of Economics 16, no. 4: 641–54.

Galindo, L. & Guerrero C. (1997). Factors Determinantes de la Balanza Comercial de

Mexico, 1980-1995: Comercio Exterior, 54: 789-794.

87

Greenaway, D., W. Morgan, & P. Wright (1998). Trade Reform, Adjustment and Growth.

What Does the Evidence Tell Us?: Economic Journal, 108: 1547-1561.

Gbanador, C. A. (2005). Devaluation and Balance of Payments Stability in an Oil Producing

Economy. lessons from Nigeria Experience. The Nigerian Journal of Monetary

Economics (NJOME), 5, 118-131 Gbosi, A. N. (2002). Financial Sector Instability and

Challenges to Nigeria’s Monetary Authorities: African Heritage Publishers, Port

Harcourt

Helleiner, G.K. (1972). International Trade and Economic Development (Middlesex: Penguin

Books).

Ho-don Van (1998). Intertemporal Balance, Sustainability and Efficiency of the Exchange Rate

Mechanism: Journal of Economic Integration, Vol. 13, No. 2, International Economics

and Development Policy in East Asia (June, 1998), pp 292-310: Published by Center of

Economic Integration, Sejong University.

Hooper, P. & S. Kohlhagen (1978). The Effect of Exchange Rate Uncertainty on the Prices and

Volume of International Trade: Journal of International Economic 8, 483-511.

Harrison, A. & G. Hanson (1999). Who Gains from Trade Reform? Some remaining puzzles:

Journal of Development Economics, 59: 125-154.

Harrod, R. (1933). International Economics: (Cambridge University Press).

Hoekman B. & P. Messerlin (1999). Liberalizing Trade in Services. Reciprocal Negotiations

and Regulatory Reform: paper presented at the conference Services 2000-New

Directions in Services Trade Liberalization.

Holland, M., F. Vilela & O. Canuto (2002). Economic Growth and the Balance-of-Payments

Constraint in Latin America: UFRJ Instituto de Economia, Working Papers em

Economia. Instituto Nacional de Estadística, Geografía e Informática (INEGI), Banco de

88

Información Económica [online]. Available at URL:http:// www.inegi.gob.mx/difusion/

espanol/fbie.html [Accessed: several dates]. Instituto Nacional de Estadística, Geografía e

Informática (INEGI), Anuario Estadístico, Several issues, México. Instituto Nacional de

Estadística, Geografía e Informática (INEGI), Estadísticas del Comercio Exterior de

México, Several issues, México.

I.M.F. (1984). Exchange Rate Volatility and the World Trade: Occasional Paper. No. 28, IMF

Research Department, Washington.

IDEAS Beijing, (2001). Trade, Exchange Rate and Income Distribution. .Journal of

International Economic, Vol. 43, No. 6,(May., 2001). in Nigeria: CBN Economic and

Financial Review, Vol. 29, No 2.

Iqbal Mahmood, Major Ehsanullah ,& Habib Ahmed, (2011). Exchange Rate Volatility

&Macroeconomic Variables in Pakistan: Journal of Economic and Sustinable

Development,Vol.1,No.2, (Aug., 2011), pp.11-22.

Iyoha, M.A. (1996). Macroeconomic Policy management of Nigeria's External Sector in the

post SAP period: Nigeria Journal of Economic and Social Studies. Vol. 38, No 1.

Ikhide, S. I., & Alawode, A. A. (1994).Financial Sector Reforms, Macroeconomics Instability

and the order of Economic Research Liberalization the Evidence from Nigeria: African

Economic Research Consortium (AERC) Final report.

Ikhide, S. I. (1996). Financial Sector Reforms and Monetary Policy in Nigeria: IDSS working

paper 68.

Iyoha, M. A. (2002). MacroeconomicsTheory and Policy: March Publishers, Benin City.

Iyoha, M. A. (2003). An Overview of leading Issues in the Structure and Development of

Nigerian Economy since 1960. In Iyoha, M. A. & Itsede, C. O. (Eds.), Nigerian Economy:

Structure Growth and Development: Mindex Publishing Benin City.

Jhingan, M. L. (1993). Macroeconomic Theory. Delhi: Konar Publishers.

89

Joseph, Afolabi Ibikunle & Akhanoul, Isaac,(2011). An Empirical Investigation of the Link

between Exchange Rate Volatility and Trade in Nigeria: Economic and Management

Science,(2011). Christian Broda (FRBNY) and John Romalis, (Chicago GSB and

NBER),(2003), Identification the Relationship Between Trade and Exchange Rate

Volatility: Journal of Economic and Social Research 4(1),83-99,(Jan., 2003).

Khan, M. & R. Zahler (1985). Trade and Financial Liberalization Given External Shocks and

Inconsistent Domestic Policies: IMF Staff Papers, 32: 22-55.

Kamin, Steven B., & John H. Rogers. (1997). Output and the Real Exchange Rate in Developing

Countries. An Application to Mexico: International Finance Discussion Paper, no. 580.

Washington, D.C.: Federal Reserve Board.

Kamin, Steven B., & Marc Klau. (1998). Some Multi-country Evidence on the Effects of Real

Exchange Rates on Output: International Finance Discussion Papers, no. 611. Washington,

D.C.: Federal Reserve Board.

Khan, M.A & Lizondon, J.S (1987). Devaluation, Fiscal Deficits and the Real Exchange

Markets in Developing Countries: World Bank Economic Review. Vol. 1, No 2,

Washington, World Bank.

Krugman, Paul R. (1979). A Model of Balance of Payments Crises: Journal of Money, Credit

and Banking 11; Pp 311-325.

Lebland, D. & Eichengreen, B., (2003). Exchange Rate and Cohesion: Historical Perspectives

and Political Economy Considerations: Journal of Common Market Studies. Vol. 41, pp.

797-822.

Leonardo V. Vera (2006). The Balance of Payments. Constrained Growth Model: A North-South

Approach: Journal of post Keynesian Economics, Vol. 29. No. 1 (Autumn 2006). Pp 67-

92, Published by M.E. Sharp Inc.

Lin, Justin Yifu, (2001). WTO Accession and Financial Reform in China Cato Journal, 21(1),

(Spring-Summer): pp. 13-18. McKinnon, Ronald, (1963), Optimal Currency Areas:

American Economic Review, 53, pp. 717-724. Ltd. 2nd ed.

90

Lu Fang – Yuan & Shi Jun –Guo,(2012). The Empirical Research of the Impact of GDP and

Exchange Rate on Foreign Exchange Reserve Scale in China: Research Journal of Applied

Sciences, Engineering and Technology, 5(6): 2113-2117, 2013, (Sep., 2012).

Marc Aubon & Michele Ruta WTO,(2011). The Relationship Between Exchange Rates and

International Trade: Economic search and Statistics, Division, (Oct 2011-17).

McKinnon, Ronald & G. Schnabl, (2003). The East Asian Dollar Standard, Fear of Floating,

and Original Sin, in: G. Ortiz, ed. Macroeconomic Stability, Financial Markets, and

Economic Development, Bank of Mexico.

Magda kandil, (2009). Exchange Rate Fluctuations and the Balance of Payments. Channels of

Interaction in Developing and Developed Countries: Journal of Economic Integration

24(1), March 2009; 151-174.

Mahmood, I. & Ali, S.Z. (2011). Impact of Exchange Rate Volatility on Macroeconomic

Performance of Pakistan: International Research Journal of Finance and Economics,

Issue 64. Pp 1450-2887.

McCombie, J.,& Thirlwall, A. Growth in the International Context: A Post Keynesian View. In

J.Deprez and J. Harvey (eds), Foundations of International Economics. Post Keynesian

Perspectives. London: Routledge, 1999, Pp. 35-90.

McKinnon, R.J. Foreign Exchange Constraints in Development and Efficient aid Allocation: The

Economic Journal, June, 1964.

Montiel, Peter J, (2003), Macroeconomics in Emerging Markets. Cambridge: Cambridge

University Press.

Montiel, Peter J. & Jonathan Ostry, (1991). Macroeconomic Implication of Real Exchange

Rate Targeting in Developing Countries: IMF Working Paper 91/29. International

Monetary Fund.

Mordi, C.N (2006). Challenges of Exchange Rate Volatility in Economic Management in

Nigeria: Bullion Vol.30, No.3. July - Sept. 2006.

91

Morley, S. A. (1992). On the Effect of Devaluation During Stabilization Programs in LDCs:

Review of Economics and Statistics 74, no. 1: 21–27.

Mussa, M., P. Masson, A. Swoboda, E. Jadresic, P. Mauro & A. Berg, (2000). Exchange Rate

Regimes in an Increasingly Integrated World Economy: IMF Occasional Paper No. 193,

Washington, DC.

Ndung’u, Njuguna. (1993). Dynamics of the Inflationary Process in Kenya. Göteborg,

Sweden: University of Göteborg.

Nkoro, E. (2003). Analysis of the Impact of Monetary policy on Economic Development in

Nigeria (1980-2003). University of Benin City.

Nnanna, O. J. (2001). Monetary Management Objectives, Tools and the Role of Central Banks in

the Region: Regional Forum on Economic and Financial Managements for

Parliamentarian. Nigeria: WAIFEM.

Obadan, M.I (1996). Impact of External sector policies on Nigeria's Economic Development:

Central Bank of Nigeria Economic and Financial Review, Vol. 34, No 4, December.

Obaseki. P.J. (1991). Foreign exchange management in Nigeria: past, present and Future: CBN

Economic and financial Review. Vol. 29 No 1 Lagos. Central Bank of Nigeria.

Obaseki, P.J. (2001). Meeting the Foreign Exchange Need of the Real Sector in Nigeria:

Financial Review: Vol. 3, No, 20, Central Bank of Nigeria Publications

Ojo, M. O. (1990). The management of foreign exchange under Nigeria's SAP: CBN Economic

and Financial Review, Vol. 28, No 2.

Olisadebe, E.U (1991). An appraisal of recent exchange rate policy measure

Qaisar Abbas, Javi d Iqbal & Ayaz ,(2012). Relationship Between GDP, Inflation and Real

Interest Rate with Exchange Rate Fluctuation of African Countries: International Journal

of Academic Research in Accounting, Finance and Management Science,Vol.2,Issue

3,(May 2012).

92

Odozi, V. A. (1995). The Conduct of Monetary and Banking Policies by: the Central Bank of

Nigeria. Economic and Financial review, 33(1).

Oduma, J. S. (1980). How effective have Fiscal and Monetary Policies been in Nigeria? : CSER

Print paper no. 7 Abu Zaria

Okaha, G. O. (1986). Theoretical Basis of Monetary Policy in Africa: Economic and Financial

review, 10.

Ojo, M. O. (1987). Monetary Policy Instrument in Nigeria: Their Changing Nature and

Implication: The Nigerian Bank.

Prebisch, R. The Economic Development of Latin America and its Principal Problems.UN

Document UN EKN 12/89/Rev. I, Economic Commission for Latin America and the

Caribbean (ECLAC), United Nations Department of Economic Affairs, New York, 1950.

Robert A. Mundell,(1996). The Monetary Dynamics of International Adjustment under Fixed

and Flexible Exchange Rates: Quarterly Journal of Economics, 74, 1960, pp. 227-257.

Rodriguez, Gabriel H.,& Guillermo G. Diaz. (1995). Fluctuations Macroeconomics en la

Economia Peruana: Working Paper. Lima: Banco Central de Reserva del Perú.

Roemer, C. (1989). The Prewar Business Cycle Reconsidered. New Estimates of Gross

National Product, 1869–1918: Journal of Political Economy 97, no. 1: pp. 1–37.

Rogers, John H., & Ping Wang. (1995). Output, Inflation and Stabilization in a Small Open

Economy: Evidence from Mexico: Journal of Development Economics 46, no. 2: pp.

271–93.

Sodestine, B.O. (1998). International Finance, London: Macmillian Educ.

Soyoung Kim,(2005). Monetary Policy, Foreign Exchange Policy, and Delayed Overshooting:

Journal of monetary , Credit and Banking , Vol.37, No. 4 (Aug ., 2005), pp. 775- 782.

Sanuse, J. O. (2002). The Evolution of Monetary Management in Nigeria and its Impacts on

Economic Development: CBN bullion, 26(1).

93

Soludo, C. (2001). Debt Poverty and Inequalities. Towards an Exit Strategy for Nigeria and

Africa. Proceedings from International Conference on Sustainable Debt Strategy. Abuja

Nigeria Processed.

Terence D.Agbeyegbe Janet Stotsky and Asegedech WoldeMariam,(2005).Trade Liberalization,

Exchange Rate changes, and Tax Revenue in Sub-Saharan Africa: Journal of Asian

Economics 17 (2006) 261-284.(May., 2005).

Thrillwall, A. The Balance of Payments Constraint as an Explanation of International Growth

Rate Differences: Banca Nazionale Del Lavoro Quarterly Review, 1979, 32 (128), 45-53.

Thrillwall, A.P. (2004). Trade, balance of Payments and Exchange Rate Policy in developing

Countries: Edward Edger Publishing U.K.

Tailor, J. B. (2004). Improvements in Monetary Policy and Implications for Nigeria:. Key Note

Address, Money Market Association of Nigeria, Abuja, Nigeria.

Uchendu, O. A. (1996). The Transmission of Monetary Policy in Nigeria: Central Bank of

Nigeria Economic and Financial Review, 34(2), 608.

Udegbunam, R. I. (2003). Monetary and Financial Policy. In Iyoha, M. A. & C. O. Itsede (Eds.),

Nigerian Economy: Structure Growth and Development: Mindex Publishing Benin City.

94

CHAPTER THREE

METHODOLOGY

3.1 RESEARCH DESIGN

This research work adopted the ex post facto design. This is because the research will use an

existing data rather than new data generated specifically for the study. The justification behind

this is that the data to be used for the estimation are time series secondary data which is an

already existing published statistical data subject to econometric manipulations.

It is also pertinent to note that the research design will adopt the quantitative approach based on

the fact that it will give room for statistical and econometric estimations to give room for the

actualization of the research objectives.

3.2 SOURCES OF DATA

Based on the nature of data to adopted, the data for this research will be extracted from the

Central Bank of Nigeria (CBN) statistical bulletin and the National Bureau of Statistics (NBS)

Enugu.

3.3 Model Specification

Anchored on the works of HabibAhemed et al (2011) and Angel Serrat (2000) who modeled

their investigation on analyzing exchange rate effect on balance of payment as BOP = b0 +

b1EXR + U

where:

BOP = Balance of Payments

EXR = Exchange Rate

U = Stochastic Error Term.

This research with the modification of modeling exchange rate derived the fluctuation patter of

exchange rate and having balance of payments as the primary endogenous variable; taking the

objectives of the study into account, the following modeling process ensues:

95

For objective one which is to analyze the impact of exchange rate fluctuations on balance of

payments in Nigeria, we first set the platform open by deriving a new variable for a fluctuating

exchange rate instead of the existing exchange rate.

To measure fluctuations in exchange rate, we have:

EXRt = U.S./NAIRA exchange rate

EXRt* = log of EXRt

dEXRt* = EXR* t - EXR*t-1 = relative change in the exchange rate

dµ(EXRt*) = mean of dEXRt*

θt = dEXRt* - dµ(EXRt*)

Thus θt is the mean-adjusted relative change in exchange rate. Now we use θ2t as a measure of

fluctuation. Being a squared term, its value will be high in periods when there are big changes in

exchange rates and will comparatively be low when there are subtle and modest changes in

exchange rates.

Having accepted θ2t as a measure of fluctuation, we adopt the Autoregressive at order 1 = AR(1)

to know if there are indeed fluctuations in exchange rates over time. The AR(1) model is thus:

ttt µθββθ ++= −12

102

The model postulates that the fluctuations or a change of exchange rate in the current period is

related to its value in the previous period plus a stochastic error term. If the t-statistics is seen to

be significant, it entails that there is indeed fluctuations of exchange rate in the economy and the

following model will be econometrically estimated:

tINTINFEXRBOP µββββ ++++= 3210

Where:

BOP = Balance of Payments

EXR = Exchange Rate

96

INF = Inflation Rates

INT = Interest rates

The β’s = Coefficients of the variables to be estimated.

Objective two is determined to comparatively analyze the effect of exchange rate fluctuations

during the fixed and flexible eras on balance of payments in Nigeria.

The model to be estimated for this objective will split into two duration:

Model 1 for fixed exchange rate regime [1970-1985]

tINTINFEXRBOP µββββ ++++= 3210 … (1)

Model 2 for flexible exchange rate regime [1986-2012]

tINTINFEXRBOP µββββ ++++= 3210 … (2)

On account of estimating this two models, their individual coefficients and the significance of

their t-statistics will be compared. Thus policy inference will be drawn from the comparative

analysis.

The three Objective which is to determine the effect of exchange rate accompanying variables

[Inflation and Interest Rates] on balance of payments in Nigeria will be estimated with the model

below

tINTINFBOP µβββ +++= 210

Here the t-statistics of the individual variables will be examined and if found significant, it

entails that the coefficient of Inflation and Interest Rate has significant individual impact on

balance of payments in Nigeria. The F-statistics will be examined to analyze the statistical

significance of the entire regression plane.

97

3.4 DESCRIPTION OF VARIABLES

VARIABLES DESCRIPTION

BOP This is balance of Payments as a measure of

payment position between countries engaged

in international transaction. Agene (1991) used

this to study the effect of exchange rate

overvaluation of balance of payments

EXR This is the price of a currency as it relates to

another currency on an international

framework. For this study, this is the price of

dollar to naira. Bini-Smaghi and Lorenzo

(1991) using the OLS all found significant but

negative effect of exchange rate volatility on

trade balance.

INT This is the cost of borrowing loans or credit

from the banking system. It is normally

determined by the bank rate of the apex bank

[CBN]. . Khat and Bathia (1993) used non-

parametric method in his study of the

relationship between interest rates and other

macro-economic variables.

INF This is an acronym for Inflation being the

index for the persistent rise in the prices of

goods and services. Ndungu (1993) used this

to estimate a six variable VAR model in

attempt to explain the exchange and inflation

movement in Kenya

tµ

The stochastic error terms for model 1 and 2

respectively

98

3.5Technique of Analysis

Unit Root Test

To avoid the emergence of spurious regression due to a non-stationary series, the stationarity test

will be conducted using the Augumented Dickey Fuller test.

Co-integration Test and Error Correction Model

The co-integration technique allows for the estimation of a long-run equilibrium relationship.

Simply put, one can argue that various non-stationarity time series are co-integrated when they

are linear combination are stationary. Stationary derivations from the long run are allowed in the

short run. Economically speaking two variables can only be co-integrated if they have long-term

or equilibrium relationship between them. The co-integration technique was pioneered by Engle

and Granger (1987) and extended by Johansen (1990). Granger notes, “A test for co-integration

can be thought of as a pre test to avoid „spurious regression‟ situation. The Johansen procedure

will be adopted.

Thus, the Error Correction Model (ECM) will be estimated to reveal and correct the existence of

short-run disequilibrium and the speed of adjustment mechanism.

The Error correction model is specified thus

∑ ∑ +∆+∆Χ++=∆ −−− ttititt YzY εθθθθ 1312110

Where ∆ denotes the first-order time difference (i.e. ∆y, = yt - yt-1) and where tε is a sequence of

independent and identically distributed random variables with mean zero and variance.

99

The Test of Goodness of Fit [R2]

To test for the explanatory power of the independent variable, the coefficient of determination;

R2 will be applied. The essence of the application of this statistic is that it will be used to

measure the explanatory power of the independent variable(s) over the dependent variable. This

statistic is thus used as a test of goodness of fit. R2 lies between zero and one (0 < R2 < 1). The

closer R2 is to 1 the greater the proportion of the variation in the dependent variables attributed to

the independent variables.

T-Statistical Test of Significance

To carry out the test of individual regression coefficient, the t-statistics will be used. The

justification of the t-statistics is that it will be employed to analyze the statistical significance of

the individual regression coefficient. A two-tailed test will be conducted at 5% level of

significance. The null hypothesis Ho will be tested against the alternative hypothesis H1.

F-Statistical test of Significance

To Test the statistical significance of the joint force regression plane, the f-ratio is used. The test

will be conducted at 5% level of significance.

Note: t* = computed t – value

t0.025 = tabulated t – value

f* = Computed f-value

f0.05 = tabulated f – value

Autocorrelation Test: (Second Order Test)

The presence of autocorrelation problem will be evaluated with the application of Durbin-

Watson Statistic. The region of no autocorrelation remains:

du < d* < (4-du)

100

Where:

du = Upper Durbin – Watson

d* = Computed Durbin-Watson

Decision Rule (Autocorrelation Test)

If the computed value of Durbin-Watson lies within the region, it means there is no presence of

autocorrelation problem. But if the Durbin-Watson computed value lies outside the regions there

is the presence of autocorrelation problem and a remedial measure like the use of first difference

equation will be adopted.

101

REFERENCES

Babbie, E. (1986). The Practice of Social Research, California: Worldsworth Publishing

Company

Gujarati D.N. & Porter D.C. (2009). Basic Econometrics, 5th ed: McGraw-Hill companies inc.,

New York.

102

CHAPTER FOUR

PRESENTATION AND ANALYSIS OF DATA

4.1 DATA PRESENTATION

Below is a presentation of a time series data on the variables used for analysis ranging from 1970

– 2012, as shown in table 4.1

Note:

EXR = Exchange rate

BOP = Balance of payments

INF = Inflation rate

INT = Interest rate

From table 4.1 above exchange rate in 1970 was 0.714300 while balance of payment of the

country assumed a positive figure of 46.60000. Due to exchange rate volatility, naira keep on

getting weaker therefore, subjecting balance of payment deficit in some years. From 2001 – 2012

there has been persistent deficit in Nigerian balance of payment as shown from the table. Also

inflation and interest rate were also increasing steadily.

4.1.1 Descriptive Analysis of the Variables [1970-2012]

The following is the descriptive analysis of the variables from table 4.1. The analysis is in table

4.2.

Table 4.2: descriptive analysis of exchange rate, balance of payment, inflation and interest rate

EXR BOP INF INT Mean 51.19935 -380206.3 19.16453 15.11860 Median 9.909500 -3020.800 13.80000 17.26000 Maximum 157.5000 1124157. 72.80000 29.80000 Minimum 0.546400 -3505308. 3.200000 6.000000 Std. Dev. 59.21127 964805.2 15.79211 6.604870 Skewness 0.581519 -2.179819 1.724361 0.104228 Kurtosis 1.622513 7.068705 5.393374 1.988944

Jarque-Bera 5.823146 63.71312 31.57261 1.909357 Probability 0.054390 0.000000 0.000000 0.384936

Observations 43 43 43 43

Source: Researcher’s Results (from E-views Calculations)

103

The descriptive analysis of the data presented above shows that the mean, median, maximum,

minimum, standard deviation and other statistical properties. More importantly, the estimates

shows that on the average (mean), the value of EXR is 51.19935, BOP is -280206.3, Inflation is

19.16453 and INT took the value of 15.11860. This shows that Balance of payments has a

negative mean. This shows a reflection of the negative impact of exchange rate fluctuations.

4.1.2 Graphical Analysis of the Data [1970-2012]

The following graph shows the behavior of exchange rate, balance of payment, inflation and

interest rate during the period under study, from table 4.1.

Figure 1. Graphical analysis of Exchange rate, Balance of payment, Inflation and Interest

rate variables

From the graph, exchange rate was still following a fluctuating pattern (an up and down

movement in the graph line). While balance of payment was stable at given period and at some

periods it started fluctuating, explaining the deficit, surplus and balanced nature of Nigerian

balance of payment. Therefore, the two accompanying variables (interest and inflation rate) still

possesses up and down movement.

TEST OF EXCHANGE RATE FLUCTUATIONS USING THE ARCH AND GARCH

MODELS [1970-2012] OF TABLE 4.1. The analysis is in table 4.3

Table 4.3. The following test is to show whether exchange rate is really fluctuating.

Dependent Variable: EXR

Method: ML – ARCH

Date: 06/02/14 Time: 15:25

Sample: 1970 2012

Included observations: 43

Convergence achieved after 21 iterations

Coefficient Std. Error z-Statistic Prob.

Variance Equation

C 3611.748 2038.676 1.771614 0.0765

ARCH(1) 3.820890 0.643551 5.937202 0.0000

104

GARCH(1) -0.999250 0.000531 -1883.317 0.0000

R-squared -0.765490 Mean dependent var 51.19935

Adjusted R-squared -0.853764 S.D. dependent var 59.21127

S.E. of regression 80.61792 Akaike info criterion 10.07521

Sum squared resid 259970.0 Schwarz criterion 10.19809

Log likelihood -213.6171 Durbin-Watson stat 0.015801

As this research is based on analyzing the impact of exchange rate fluctuations on balance of

payments in Nigeria, it was pertinent to test if there is the presence of fluctuations in the

exchange rate series with the application of ARCH and GARCH models. The sum of the ARCH

(a1) and GARCH (b1) estimates is seen to be more than 1. The where ARCH is 3.820890 and

GARCH IS -0.999250, the sum is thus 2.82164. Since the sum is more than one, it is a statistical

evidence that the level of exchange rate is volatile which is an evidence of the presence

fluctuations.

4.2 Test of Hypotheses

4.2.1Test of Hypothesis One

Step One: Restatement of hypothesis in null and alternate forms.

Ho: Exchange Rate fluctuations had no positive and significant impact on balance of payments in

Nigeria during the period 1970 - 2012

H1: Exchange Rate fluctuations had positive and significant impact on balance of payments in

Nigeria during the period 1970 - 2012

Decision Rule

If the coefficient estimate of exchange rate fluctuations has a positive sign and its probability less

than 0.05, the null hypothesis is rejected and alternate hypothesis accepted. On the other hand, if

the coefficient estimate of exchange rate fluctuations does not have a positive sign and its

probability greater than 0.05, the null hypothesis is accepted and alternate rejected.

105

Step Two: Presentation and Analysis of Result of table 4.1. The analysis is in table 4.4

Table 4.4. Multiple Regression Analysis Result of the impact exchange rate fluctuations on

balance of payments in Nigeria.

Source: E-views Statistical Software Computation

BOP = -49120.47 -11202.25EXR -1440.470INF + 17863.28INT

Table 4.4 above shows the result of the multiple regression analysis of the impact of the

exchange rate fluctuations on balance of payments in Nigeria. The result reveals that the model

for our study is fitted as the coefficient of determination (R-square), which measures the

goodness of fit of the model, indicates that 39.2% of the variations observed in the dependent

variable were explained by the independent variables. This was confirmed by the Adjusted R-

squared to 34.5%, indicating that there are other variables other than our explanatory variables

that also impact on the dependent variable. The result shows that Exchange Rate fluctuations

have a negative and significant impact on the BOP of the Nigerian economy (α = -11202.25, t-

value = - 4.29, R2 = 0.39, Adj R2 = 0.34, p = 0.001 < 0.05, D.W = 0.32).

Step Three: Decision

Since the coefficient estimate of exchange rate fluctuations is negative but with a probability

value of less than 0.05, we reject the alternate hypothesis and accept the null hypothesis. With

REGRESSION 1 Dependent Variable: BOP

Method: Least Squares Date: 06/02/14 Time: 16:38 Sample: 1970 2012 Included observations: 43

Variable Coefficient Std. Error t-Statistic Prob.

C -49120.47 309200.0 -0.158863 0.8746 EXR -11202.25 2613.153 -4.286870 0.0001 INF -1440.470 8689.618 -0.165769 0.8692 INT 17863.28 24065.89 0.742265 0.4624

R-squared 0.392187 Mean dependent var -380206.4

Adjusted R-squared 0.345432 S.D. dependent var 964805.2 S.E. of regression 780579.1 Akaike info criterion 30.06187 Sum squared resid 2.38E+13 Schwarz criterion 30.22570 Log likelihood -642.3302 F-statistic 8.388162 Durbin-Watson stat 0.324469 Prob(F-statistic) 0.000200

106

the provision of p value being less than 0.05, we conclude therefore, the exchange rate

fluctuations had a negative and significant impact on balance of payment in Nigeria during the

period 1970 – 2012.

4.2.2 Test of Hypothesis Two

Step One: Restatement of hypothesis in null and alternate forms.

Ho: There is no positive and significant difference in the effect of exchange rate fluctuations in

the fixed and flexible era on balance of payments in Nigeria.

H1: There is positive and significant difference in the effect of exchange rate fluctuations in the

fixed and flexible era on balance of payments in Nigeria.

Decision Rule: If the coefficient estimate of exchange rate fluctuations has a positive sign and

its probability less than 0.05, the null hypothesis is rejected and alternate hypothesis accepted.

On the other hand, if the coefficient estimate of exchange rate fluctuations does not have a

positive sign and its probability greater than 0.05, the null hypothesis is accepted and alternate

rejected.

Step Two: Presentation and Analysis of Result of table 4.1. The analysis is in table 4.5

Table 4.5. Multiple Regression Analysis Result showing the effect of exchange rate fluctuations

during fixed era of exchange rate regime on balance of payments 1971 - 1986

Dependent Variable: D(BOP) Method: Least Squares Date: 06/02/14 Time: 19:41 Sample(adjusted): 1971 1985 Included observations: 15 after adjusting endpoints

Variable Coefficient Std. Error t-Statistic Prob.

C 1190.231 1104.435 1.077683 0.3042 D(EXR) -3573.535 12357.90 -0.289170 0.7778

INF -76.78739 59.62577 -1.287822 0.2242 D(INT) 491.2786 472.7304 1.039236 0.3210

R-squared 0.187868 Mean dependent var -26.38000

Adjusted R-squared -0.033623 S.D. dependent var 2169.520 S.E. of regression 2205.691 Akaike info criterion 18.45865

107

Sum squared resid 53515811 Schwarz criterion 18.64746 Log likelihood -134.4399 F-statistic 0.848196

Durbin-Watson stat 2.309955 Prob(F-statistic) 0.495967

REGRESSION ANALYSIS OF FLEXIBLE EXCHANGE RATE REGIME AND BALANCE

OF PAYMENTS [1986-2012] OF TABLE 4.1. The table is in table 4.6

TABLE 4.6. Regression analysis result showing the effect of exchange rate fluctuations during

the flexible era of exchange rate regime on balance of payments 1986 - 2012

Dependent Variable: D(BOP) Method: Least Squares Date: 06/02/14 Time: 19:44 Sample: 1986 2012 Included observations: 27

Variable Coefficient Std. Error t-Statistic Prob. C -181613.6 154053.8 -1.178897 0.2505

D(EXR) 2350.421 10053.57 0.233790 0.8172 INF 2257.350 6057.323 0.372665 0.7128

D(INT) -16880.45 21247.85 -0.794455 0.4351 R-squared 0.037898 Mean dependent var -129139.5 Adjusted R-squared -0.087593 S.D. dependent var 498001.4

S.E. of regression 519354.4 Akaike info criterion 29.29451 Sum squared resid 6.20E+12 Schwarz criterion 29.48649 Log likelihood -391.4759 F-statistic 0.301999 Durbin-Watson stat 2.157544 Prob(F-statistic) 0.823613

MODEL 1 [FIXED ERA]

BOP = 1190.231 -3573.535EXR -76.78739INF +491.2786INT

MODEL 2 [FIXED ERA]

BOP = -181613.6 + 2350.421EXR + 2257.350INF -16880.45INT

The regression as reported in table 4.5 and 4.6 shows that there is negative and insignificant

difference in the effect of exchange rate fluctuations in the fixed era and there is positive and

insignificant difference in flexible era on balance of payments in Nigeria ( a = -3573.535 and

2350.421, p = 0.7778 > 0.05 and p = 0.8172 > 0.05 ).

Step Three: Decision

Since the coefficient estimate of exchange rate during the fixed era is negative and with a

probability value greater than 0.05, we accept the null hypothesis that exchange rate fluctuation

had negative and insignificant difference in its effect on balance of payment during the fixed era.

Since the coefficient estimate of exchange rate fluctuations is positive but with value greater than

0.05, the null hypothesis is rejected and alternate accepted. With the provision of p value being

108

greater than 0.05 we conclude therefore, the exchange rate had a positive and insignificant

difference in its effect on balance of payment during flexible era of exchange rate regime in

Nigeria.

4.2.3 Test of Hypothesis three

Step One: Restatement of hypothesis in null and alternate forms.

Ho: Inflation and Interest rates had no positive and significant impact on balance of payments in

Nigeria.

H1: Inflation and Interest rates had positive and significant impact on balance of payments in

Nigeria.

Decision Rule: If the coefficient estimate of exchange rate fluctuations has a positive sign and

its probability less than 0.05, the null hypothesis is rejected and alternate hypothesis accepted.

On the other hand, if the coefficient estimate of exchange rate fluctuations does not have a

positive sign and its probability greater than 0.05, the null hypothesis is accepted and alternate

rejected.

109

Step Two: Presentation and Analysis of Result of table 4.1. The table is in table 4.7

Table 4.7. Multiple Regression Analysis Result of the effect of inflation and interest rate on

balance of payment

Dependent Variable: D(BOP) Method: Least Squares Date: 06/02/14 Time: 19:56 Sample(adjusted): 1971 2012 Included observations: 42 after adjusting endpoints

Variable Coefficient Std. Error t-Statistic Prob.

C -113273.6 98862.55 -1.145768 0.2589 INF 1892.416 3967.304 0.477003 0.6360

D(INT) -16554.41 16152.76 -1.024866 0.3117 R-squared 0.030969 Mean dependent var -83027.68

Adjusted R-squared -0.018725 S.D. dependent var 401489.7 S.E. of regression 405231.2 Akaike info criterion 28.73105 Sum squared resid 6.40E+12 Schwarz criterion 28.85517 Log likelihood -600.3521 F-statistic 0.623203 Durbin-Watson stat 2.074448 Prob(F-statistic) 0.541479

Source: E-views Statistical Software Computation

BOP = -113273.6 +1892.416INF -16554.41INT

The regression line above shows the effect of inflation and interest rate on balance of payments

in Nigeria. The result reveals that Inflation rate had positive and insignificant impact on balance

of payments and Interest rates had negative and insignificant impact on balance of payments in

Nigeria( a = 0.477003, p = 0.6360 > 0.05 and a = -1.024866, p = 0.3117 > 0.05 ) respectively.

Step Three: Decision

Therefore, since the coefficient estimate of inflation rate is positive we reject the null hypothesis

and accept alternate hypothesis. With the provision of probability value being greater than 0.05

we conclude therefore, the inflation rate had a positive and insignificant impact on balance of

payment. On the other hand, since coefficient estimate of interest rate is negative we accept null

hypothesis and alternate rejected. With the provision of probability value greater than 0.05 we

conclude therefore, the Interest rates negative and insignificant impact on balance of payments in

Nigeria.

110

COINTEGRATION TEST OF THE VARIABLES USING THE ENGEL-GRANGER

APPROACH OF TABLE 4.1. The table is in table 4.8

There is the need to estimate the long-run relationship of the variables under consideration. This

will be applied anchored on the concept of Cointegration test. The Cointegration test will be

tested using the Johansen Cointegration technique. If there exists the issue of cointegration, the

Error Correction Model which captures short-run dynamics will thus be estimated.

Table 4.8: analysis and result of cointegration test on the variables under study

ADF Test Statistic -1.001751 1% Critical Value* -2.6196 5% Critical Value -1.9490 10% Critical Value -1.6200

*MacKinnon critical values for rejection of hypothesis of a unit root.

Augmented Dickey-Fuller Test Equation Dependent Variable: D(ECM) Method: Least Squares Date: 06/02/14 Time: 20:04 Sample(adjusted): 1972 2012 Included observations: 41 after adjusting endpoints

Variable Coefficient Std. Error t-Statistic Prob. ECM(-1) -0.113839 0.113640 -1.001751 0.3226

D(ECM(-1)) 0.082239 0.180783 0.454901 0.6517 R-squared 0.012418 Mean dependent var -49173.23 Adjusted R-squared -0.012905 S.D. dependent var 436209.9 S.E. of regression 439015.6 Akaike info criterion 28.87001 Sum squared resid 7.52E+12 Schwarz criterion 28.95360 Log likelihood -589.8352 Durbin-Watson stat 1.987334

The Co-integration test above was carried out to find out if long-run relationship exists among

the variables used in the analysis. The test was carried out on the basis of carrying out a unit-root

analysis of the residuals of the model, the unit root was carried out on this residuals and it was

seen that the series is not stationary at levels which is an evidence of no long-run relationship

among the variables which may be attributed to the fluctuations of exchange rates.

111

4.3 IMPLICATIONS OF THE RESULTS

Exchange rate variable was fluctuating and this entails that it was characterized with high level

of volatility. The implication of this result is that the level of exchange rate is beclouded with

uncertainty which exposes the economy to unexpected exchange rate outcomes.

As expected, the impact of exchange rate fluctuations on balance of payments was seen to be

negative and significant during the period1970 - 2012. The implication of this finding is that the

balance of payments in Nigeria will not be expected to be optimal until the level of exchange rate

fluctuations is corrected.

Analysis of the impact of exchange rate fluctuations on balance of payments in the fixed and

flexible eras shows that exchange rate has a negative and insignificant impact on balance of

payments during the fixed era and positive and insignificant impact on balance of payments

during the flexible era. The implication of this finding is that exchange rate variable operates

better in an economy when left in the hands of the free market. This also justifies the shift from

fixed to flexible era in Nigeria.

Finally, the regression results also show that Inflation had positive and insignificant impact on

balance of payments and Interest Rates had negative and insignificant impact on balance of

payments in Nigeria. The implication of this finding is that the assertion that inflation and

interest rate influences balance of payments is refuted, but increase in inflation rate can affect

balance of payment. Thus the economy should focus more on adjusting the exchange rate and

inflation rate to achieve a better and optimal level of balance of payments.

112

CHAPTER FIVE

5.0 SUMMARY, CONCLUSION AND RECOMMENDATIONS

5.1 Summary of Findings

The findings emanating from this study are as follows:

Exchange Rate is indeed fluctuating in Nigerian economy

1. Exchange rate fluctuation had negative and significant impact on balance of payments in

Nigeria in the period 1970 - 2012

2. There was negative and insignificant difference in the effect of exchange rate fluctuations

in the fixed era and there was positive and insignificant difference in effect of exchange

rate during flexible era on balance of payments in Nigeria

3. The result reveals that Inflation had positive and insignificant impact on balance of

payments and Interest rates had negative and insignificant impact on balance of

payments in Nigeria

5.2 Conclusion of the Study

This research has been able to estimate the impact of exchange rate fluctuations on balance of

payment in Nigeria ranging from 1970-2012. Justified conclusions were drawn based on the

findings of the research.

Firstly, the finding of the research is of the conclusion that exchange rate fluctuations had

negative and significant impact on balance of payments in Nigeria during the period 1970 - 2012

Secondly, it was concluded that there was negative and insignificant difference in the effect of

exchange rate fluctuations in the fixed era and there was positive and insignificant difference in

effect of exchange rate during flexible era on balance of payments in Nigeria

Thirdly, that Inflation had positive and insignificant impact on balance of payments and Interest

rates had negative and insignificant impact on balance of payments in Nigeria

113

5.3 Recommendations

In connection to the findings of this research, the following recommendations are suggested:

1. The monetary authorities should employ every monetary tool to minimize the level of

exchange rate fluctuations in the economy.

2. The policy of exchange rate flexibility should be maintained but with government

intervention guide.

3. It is confirmed that external reserve curbs exchange rate fluctuations and thus the federal

government should through the Central Bank of Nigeria increase the foreign reserve.

5.4 Area for further study

For further study, this study recommend as follow:

(1) Fluctuations in capital flows and exchange rate fluctuations appear to have limited evidence

regarding its systematic correlation. Thus, we recommend for further studies should look at

the relationship between fluctuations in capital flows and exchange rate fluctuations

analyzing their impact on balance of payments accounts in Nigeria.

5.5. Contribution to knowledge.

A critical review of the some literature reveals that they focused mostly on exchange rate as a

given variable without taking into cognizance the fluctuating status of exchange rate which is an

inherent factor of exchange rate. Therefore, The study contributes to knowledge in the following

ways:

Scope: like the work done by Habib Ahemed & et al, (2011) on impact of exchange rate on

macroeconomic aggregates and many others stop mainly in 2010. So we updated the time to the

period of 1970 - 2012.

Geography: we saw mostly that work done on this subject matter was mainly in international

environment, so we harvested a lot of the previous literature on the work done on some other

selected countries then brought it to Nigerian economy.

114

Methodology: by reviewing and estimating the impact of exchange rate fluctuations on balance

of payments in Nigeria, we used autoregressive conditional heteroscedascity first order and

generalized autoregressive conditional heteroscedascity to measure fluctuations in the time

series. Then we introduced new control variables ( interest rate and inflation rate) Thus, finding

out that exchange rate fluctuation had negative and significant impact on balance of payments in

Nigeria.

115

Appendices

4.1.2 Graphical Analysis of the Data [1970-2012]

0

4 0

8 0

1 2 0

1 6 0

7 0 7 5 8 0 8 5 9 0 9 5 0 0 0 5 1 0

EXR

-4 0 0 0 0 0 0

-3 0 0 0 0 0 0

-2 0 0 0 0 0 0

-1 0 0 0 0 0 0

0

1 0 0 0 0 0 0

2 0 0 0 0 0 0

7 0 7 5 8 0 8 5 9 0 9 5 0 0 0 5 1 0

BOP

0

2 0

4 0

6 0

8 0

7 0 7 5 8 0 8 5 9 0 9 5 0 0 0 5 1 0

INF

5

1 0

1 5

2 0

2 5

3 0

7 0 7 5 8 0 8 5 9 0 9 5 0 0 0 5 1 0

INT

116

EXCHANGE RATE UNIT ROOT TEST

ADF Test Statistic -3.371962 1% Critical Value* -2.6211 5% Critical Value -1.9492 10% Critical Value -1.6201

*MacKinnon critical values for rejection of hypothesis of a unit root.

Augmented Dickey-Fuller Test Equation Dependent Variable: D(EXR,2) Method: Least Squares Date: 05/28/14 Time: 11:04 Sample(adjusted): 1973 2012 Included observations: 40 after adjusting endpoints

Variable Coefficient

Std. Error t-Statistic Prob.

D(EXR(-1)) -0.723290 0.214501 -3.371962 0.0017 D(EXR(-1),2) -0.196890 0.159604 -1.233614 0.2249

R-squared 0.471099 Mean dependent var 0.092190 Adjusted R-squared 0.457181 S.D. dependent var 13.77056 S.E. of regression 10.14564 Akaike info criterion 7.520671 Sum squared resid 3911.490 Schwarz criterion 7.605115 Log likelihood -148.4134 Durbin-Watson stat 2.071580

117

BALANCE OF PAYMENTS UNIT ROOT TEST

ADF Test Statistic -4.460705 1% Critical Value* -2.6211 5% Critical Value -1.9492 10% Critical Value -1.6201

*MacKinnon critical values for rejection of hypothesis of a unit root.

Augmented Dickey-Fuller Test Equation Dependent Variable: D(BOP,2) Method: Least Squares Date: 05/28/14 Time: 11:06 Sample(adjusted): 1973 2012 Included observations: 40 after adjusting endpoints

Variable Coefficient

Std. Error t-Statistic Prob.

D(BOP(-1)) -1.024758 0.229730 -4.460705 0.0001 D(BOP(-1),2) 0.044525 0.166234 0.267845 0.7903

R-squared 0.491519 Mean dependent var 456.3263 Adjusted R-squared 0.478137 S.D. dependent var 589142.4 S.E. of regression 425596.8 Akaike info criterion 28.80908 Sum squared resid 6.88E+12 Schwarz criterion 28.89352 Log likelihood -574.1816 Durbin-Watson stat 1.986888

118

INFLATION UNIT ROOT TEST

ADF Test Statistic -3.652661 1% Critical Value* -3.5973 5% Critical Value -2.9339 10% Critical Value -2.6048

*MacKinnon critical values for rejection of hypothesis of a unit root.

Augmented Dickey-Fuller Test Equation Dependent Variable: D(INF) Method: Least Squares Date: 05/28/14 Time: 11:07 Sample(adjusted): 1972 2012 Included observations: 41 after adjusting endpoints

Variable Coefficient

Std. Error t-Statistic Prob.

INF(-1) -0.528775 0.144764 -3.652661 0.0008 D(INF(-1)) 0.248001 0.157172 1.577892 0.1229

C 10.23109 3.476400 2.943012 0.0055

R-squared 0.260063 Mean dependent var -0.026829

Adjusted R-squared 0.221119 S.D. dependent var 14.86646 S.E. of regression 13.12028 Akaike info criterion 8.056551 Sum squared resid 6541.390 Schwarz criterion 8.181935 Log likelihood -162.1593 F-statistic 6.677864 Durbin-Watson stat 1.905254 Prob(F-statistic) 0.003271

119

INTEREST RATE UNIT ROOT TEST

ADF Test Statistic -6.172600 1% Critical Value* -2.6211 5% Critical Value -1.9492 10% Critical Value -1.6201

*MacKinnon critical values for rejection of hypothesis of a unit root.

Augmented Dickey-Fuller Test Equation Dependent Variable: D(INT,2) Method: Least Squares Date: 05/28/14 Time: 11:09 Sample(adjusted): 1973 2012 Included observations: 40 after adjusting endpoints

Variable Coefficient

Std. Error t-Statistic Prob.

D(INT(-1)) -1.716096 0.278018 -6.172600 0.0000 D(INT(-1),2) 0.187987 0.163249 1.151536 0.2567

R-squared 0.724067 Mean dependent var 0.105500 Adjusted R-squared 0.716806 S.D. dependent var 6.797633 S.E. of regression 3.617428 Akaike info criterion 5.458111 Sum squared resid 497.2599 Schwarz criterion 5.542555 Log likelihood -107.1622 Durbin-Watson stat 1.858753

120

COINTEGRATION TEST OF THE VARIABLES USING THE ENGEL-GRANGER

APPROACH.

ADF Test Statistic -1.001751 1% Critical Value* -2.6196 5% Critical Value -1.9490 10% Critical Value -1.6200

*MacKinnon critical values for rejection of hypothesis of a unit root.

Augmented Dickey-Fuller Test Equation Dependent Variable: D(ECM) Method: Least Squares Date: 06/02/14 Time: 20:04 Sample(adjusted): 1972 2012 Included observations: 41 after adjusting endpoints

Variable Coefficient

Std. Error t-Statistic Prob.

ECM(-1) -0.113839 0.113640 -1.001751 0.3226 D(ECM(-1)) 0.082239 0.180783 0.454901 0.6517

R-squared 0.012418 Mean dependent var -49173.23

Adjusted R-squared -0.012905 S.D. dependent var 436209.9 S.E. of regression 439015.6 Akaike info criterion 28.87001 Sum squared resid 7.52E+12 Schwarz criterion 28.95360 Log likelihood -589.8352 Durbin-Watson stat 1.987334

121

DATA USED IN THE ANALYSIS

YEAR BOP EXR INF INT 1970 46.60000 0.714300 13.80000 7.000000 1971 117.4000 0.695500 16.00000 7.000000 1972 57.20000 0.657900 3.200000 7.000000 1973 197.5000 0.657900 5.400000 7.000000 1974 3102.200 0.629900 13.40000 7.000000 1975 157.5000 0.615900 33.90000 6.000000 1976 -339.0000 0.626500 21.20000 6.000000 1977 527.2000 0.646600 15.40000 6.000000 1978 -1293.600 0.606000 16.60000 7.000000 1979 1868.900 0.595700 11.80000 7.500000 1980 2402.200 0.546400 9.900000 7.500000 1981 -3020.800 0.610000 20.90000 7.750000 1982 -1398.300 0.672900 7.700000 10.25000 1983 -301.3000 0.724100 23.20000 10.00000 1984 354.9000 0.764900 39.60000 12.50000 1985 -349.1000 0.893800 5.500000 9.250000 1986 -4099.100 2.020600 5.400000 10.50000 1987 -17964.80 4.017900 10.20000 17.50000 1988 -20795.00 4.536700 38.30000 16.50000 1989 -22993.50 7.391600 40.90000 26.80000 1990 -5769.100 8.037800 7.500000 25.50000 1991 -15796.60 9.909500 13.00000 20.01000 1992 -101404.1 17.29840 44.50000 29.80000 1993 41736.80 22.05110 57.20000 18.32000 1994 -42623.30 21.90000 57.00000 21.00000 1995 -195216.3 70.40000 72.80000 20.18000 1996 53152.00 69.80000 29.30000 19.74000 1997 1076.200 71.80000 8.500000 13.54000 1998 -220671.3 76.80000 10.00000 18.29000 1999 -326634.3 92.30000 6.600000 21.32000 2000 314139.2 101.7000 6.900000 17.98000 2001 24729.90 111.9000 18.90000 18.29000 2002 -563483.9 121.0000 12.90000 24.85000 2003 -162298.2 129.4000 14.00000 20.71000 2004 1124157. 133.5000 13.45000 19.18000 2005 -296211.3 132.1500 13.72500 17.95000 2006 -591999.3 128.6500 8.500000 17.26000 2007 -1478203. 125.8300 6.600000 16.94000 2008 -1784947. 118.5300 15.10000 15.14000 2009 -2144671. 148.9000 13.90000 18.99000 2010 -2921789. 149.7400 12.70000 17.50000 2011 -3505308. 153.8500 13.80000 18.67000 2012 -3487116. 157.5000 14.90000 22.89000

SOURCE: CENTRAL BANK OF NIGERIA STATISTICAL BULLETIN

FFFFFMMMMMBULLETINBBULLETIN

122

BIBLIOGRAPHY

Adamgbe, B.T. (2003). Critical Issues in the Naira Exchange Rate, Depreciation and Capital

Flight in Nigeria: Business Day Newspapers, Lagos April 26. Vol. 7, No. 560.

Aliyu S.U.R. (2007b). Import-Export Demand Functions and Balance of Payments Stability in

Nigeria. A Co-Integration and Error Correction Modeling, submitted to: Journal of

Social and Management Science.

Aliyu, S.R.U (2011). Impact of oil price Shock and Exchange Rate Volatility on Economic

Growth in Nigeria. An Empirical Investigation: Research Journal of International

Studies, Issue 11, July.

Anderton, R. & F. Skudelny (2001). Exchange Rate Volatility and Euro Area Imports European:

Central Bank (ECB) Working Paper, No. 64.

Anthony J. Makin. The Balance of Payments and the Exchange Rate”. International Economics,

Finance and Trade – Vol. 1. Department of Economics, the University of Queenland,

Australia.

Anyanwa J.C. (1993). Monetary Economics: Theory, Policy and Institutions Onitsha: Hybrid

Publishers Ltd.

Arize, A.C., T. Osang & J.D. SloHje (2000). Exchange Rate Volatility and Foreign Trade.

Evidence from Thirteen LDC’s: Journal of Business and Economic Statistics 18, 10-17.

Arora, Vivek, Steven Dunaway, & Hamid Farugee (2001). Sustainability of US External Current

Account Deficit in the United State, selected issues: IMF Country report 01/149

(Washington: International Monetary Fund, August), Pp. 25-39.

Agénor, Pierre-Richard. (1991). Output, Devaluation and the Real Exchange Rate in Developing

Countries: Weltwintschaftliches Archiv 127, No. 1, pp. 18–41.

Alan C. Stockman,(2001). Current Account and Exchange Rates. A New Look at the Evidence:

National bureau of economic research Cambridge, (July 2001).

123

Angel Serrat , (2000). Exchange Rate Dynamics in a Multilateral Target Zone: review of

Economic studies vol. 67, No. 1(Jan., 2000), pp. 193-211. M.Atiqur Rahman and Syed

Abul

Anifowose, O.K.(1994). Allocation and Management of foreign exchange. The Nigerian

Experience: The CBN Bulletin: Vol. 18,No 4.

Ajayi, S. L. (1974). An Econometric Case study of Relative importance of Monetary and Fiscal

Policy in Nigeria: Bangladesh Economic Review, 11(2).

Anderson, L. C., & Jordan, J. L. (1968). Monetary and Fiscal Action A test of their Relative

Importance in Economic Stabilization: Federal Reserve Bank of St. Louis Review

reprint series no. 34.

Anyanwu, J. C. (1993). Monetary Economics.Theory, Policy and Institution. Joane: Educational

Publishing Ltd, Onitsha.

Aspe, P. (1992). Estabilización Macroeconómica y Cambio Estructural. La Experiencia de

México (1982-1988) in C. Bazdresch, N. Bucay, S. Loaeza, and N. Lustig, (Comp.),

México, Auge, Crisis y Ajuste: (México: Fondo de Cultura Económica).

Aspe, P. (1993). Economic Transformation, The Mexican Way: (US: The MIT Press).

Babbie, E. (1986). The Practice of Social Research, California: Worldsworth Publishing

Company

Banco de México, Indicadores Económicos, Several issues, México.

Brailovsky, V. (1992). Las Implicaciones Macroeconómicas de Pagar. La Política Económica

ante la Crisis de la Deuda en México (1982-1988)”, in C. Bazdresch, N. Bucal, S. Loaeza

and N. Lustig (eds.) México, Auge, Crisis y Ajuste (México: Fondo de Cultural

Economical).

124

Barro,R.J. & Gordon, D.B. (1983). Rules, Discretion, and Reputation in a Model of Monetary

policy: Journal of Monetary Economics 12, pp. 101-20

Basher,(2001). Real Exchange Rate Behavior and Exchange Rate Misalignments in

Banglades: International Economic Studies, Vol. 27, No. 2(Jun 2001), pp. 69-93.

Berg, Andrew, Eduardo Borensztein & Paolo Mauro, (2002). An Evaluation of Monetary Regime

Options for Latin America: The North American Journal of Economics and Finance, 13:

pp. 213-235.

Birds, G. (1984). Balance of payment policy in Developing countries in the quest for economic

stabilization. Tony Killick Edition. London: Heinemann Education Books.

Borensztein, Eduardo & Jone-Wha Lee, (2002). Financial Crisis and Credit Crunch in Korea.

Evidence from Firm-Level Data: Journal of Monetary Economics, 49(4): pp. 853-75

Calvo, Guillermo & Carmen Reinhart, (2002). Fear of Floating: Quarterly Journal of

Economics, 117, no. 2, May, pp. 379-408.

Calvo, Guillermo, (2003). Explaining Sudden Stop, Growth Collapse and BOP Crisis.The Case

of Discretionary Output Tax: The Mundell Fleming Lecture for the Third Annual IMF

Research Conference, Washington, DC.

Calvo,G., & Vegh, C.A., (1993). Exchange Rate Based Stabilization underimperfect

credibility In Open Economy macroeconomics: Frisch, H., Worgotter, A.(Eds)

MacMillan, London ,pp. 3-28.

Central Bank of Nigeria (2009). Globalization and National Economic Development: Central

Bank Annual Report, December.

Central Bank of Nigeria (1997). Globalization and National Economic Development: Central

Bank Annual Report, December.

Cooper, R.N. (1978). Flexible Exchange rate and stabilization policy: Scandinavian Journal of

Economics, No.2.

Cooper, Richard. (1971). An Assessment of Currency Devaluation in Developing Countries:

Essays in International Finance, no. 86. Princeton, N.J.: Princeton University.

125

Copelman, Martina, & Alejandro M. Wermer. (1996). The Monetary Transmission

Mechanism in Mexico: Working Paper, no. 25. Washington, D.C.: Federal Reserve

Board.

Cimoli, M. & N. Correa (2002). Trade openness and Technological Gaps in Latin America. A

‘Low Growth Trap, Laboratory of Economics and Management Sant’Anna School of

Advanced Studies: LEM Working Paper Series, 200/14.

Central Bank of Nigeria. (2010). Statistical Bulletin, 20. Abuja.

Central Bank of Nigeria (2009). Nigeria Major Economic, Financial and Banking Indicators.

Abuja.

Diaz-Alejandro, F. Carlos. (1965). Exchange-Rate Depreciation in a Semi-Industrialized

Country: The Experience of Argentina, 1955–61. Cambridge, Mass.: MIT Press.

Diaz-Alejandro, C.F. (1984). Exchange Rate and Terms of trade in Argentine Republic. 1973-76.

In Trade Stability, Technology and Equity in latin America Eds. By (V) Syrquin and S.

Teitel: (NEW YORK: Academic Press).

Donovan, D.J. (1981). Real response association with exchange rate action in selected upper

credit Tranche stabilization programs: IMF Staff Paper 28 Washington, World Bank.

Dornbusch, R. (1988). Open macroeconomics, 2nd Edition: New York.

Dr. Hasan Vergil,(2003). Exchange Rate Volatility in Turkey and Its Effect on Trade Flows:

Journal of Economic and Social Research, 4 (1), 83-99, (May 2003).

Dr. Nazneen Ahmad & Dr. Doris Geide –Stevenson,(2012). The Effect of GDP & Exchange Rate

on the Trade Balance Between the United States and Mexico: Journal of Business

Management Dynamics,(Mar., 29- 2012).

Dornbusch, R. & A. Werner (1994). Mexico: Stabilization, Reform and No Growth:

Brookings Paper on Economic Activity, 1: 253-315.

126

Dussel, E. (2000a). El Tratado de Libre Comercio de Norteamérica y el Desempeño de la

Economía en México (Santiago de Chile: CEPAL-Naciones Unidas).

Edwards, Sebastian (1989). Real Exchange Rates, Devaluation and Adjustment: Exchange Rate

Policy in Developing Countries. Cambridge, Mass.: MIT Press.

Edwards, Sebastian & Miguel A. Savastano, (2000). Exchange Rates in Emerging Economies.

What Do We Know? What Do We Need to Know? in Economic Policy Reform: The

Second Stage, ed. by Anne O. Krueger, pp. 453-510. Chicago: University of Chicago Press.

Egwaikhide, Festus O.; Louis N. Chete; & Gabriel O. Falokun. (1994). Exchange Rate

Depreciation, Budget Deficit and Inflation. The Nigerian Experience AERC Research

Papers, no. 26. Nairobi: African Economic Research Consortium.

Egwaikhide, F.D. (1999). Determinants of Imports in Nigeria: a Dynamic Specification African

Economic Research Consortium, (AERC): Research Paper, No. 91.

Eiteman, David K, Stonehill, Arhtur I., & Moffeh, Michael H. (2001). Multinational Business

Finance 90th edition: published by Addison-Wesley Longman, Inc.

Eme, O. CBN journal of applied statistics. Vol. 2. No. 2.

Eichengreen, Barry, Paul Masson, Miguel Savastano, & Sunil Sharma, (1999). Transition

Strategies and Nominal Anchors on the Road to Greater Exchange Rate Flexibility

Essays in International Finance, No. 213: (Princeton: Princeton University Press).

Ekpo A.H (2003). Macroeconomic Model of the Nigerian economy: Vantage Publishers Ibadan.

McKinnon, Ronald, (1963), Optimal Currency Areas. American Economic Review, 53,

pp. 717-724.

Edwards, S. (1997). Trade Liberalisation Reforms and the World Bank: American Economic

Review, 87(2): 43-48.

Edwards, S. (1993). Openness, Trade Liberalisation, and Growth in Developing Countries:

Journal of Economic Literature, XXXI: 1358-1393.

127

Ferreira, P. (2001). La liberalización del sector de servicios: el caso del Tratado Unión

European/México: Serie Comercio Internacional, CEPAL.

FitzGerald, E.V.K. (1999). Trade, Investment and NAFTA: The Economics of Neighbourhood

in V. Bulmer-Thomas and J. Dunkerley (eds.), The United States and Latin America: The

New Agenda, (Great Britain: Institute of Latin American Studies and David Rockefeller

Center for Latin Americas Studies).

Fuji, G. (2000). El Comercio Exterior Manufacturero y los Límites al Crecimiento Económico

de México: Comercio Exterior, 50 (11): 1008-1014.

Frankel, Jeffrey A, Eduardo Fajnzylber, Sergio L. Schmukler and Luis Servén, (2001). Verifying

Exchange Rate Regimes: Journal of Development Economics 66(2) pp 351-86.

Frankel, Jeffrey, (2003). Experience of and Lessons from Exchange Rate Regimes in Emerging

Economies. In Monetary and Financial Cooperation in East Asia: Asian Development

Bank, Macmillan, 2003.

Fieleke, N. S. (1996). What is Balance of Payments? Federal Reserve Bank of Boston Economic

and Financial Review.

Fischer, S. (1994). Modern Central Banking: The Future of Central Bank. The Tercentenary

Symposium of the Bank of England: Cambridge University Press.

Folawewo, A. O., & Osinubi, T. S. (2006). Monetary Policy and Macroeconomic Instability in

Nigeria. A Rational Expectation Approach: Kenila Raj.

Guitan, M. (1976). The Effects of Changes in exchange Rate on Output, Prices and The balance

of Payments: Journal of International Economics, Vol.6, 65-74.

Gylfason, T., & M. Schmid. (1983). Does Devaluation Cause Stagflation? Canadian Journal

of Economics 16, no. 4: 641–54.

Galindo, L. & Guerrero C. (1997). Factors Determinantes de la Balanza Comercial de

Mexico, 1980-1995: Comercio Exterior, 54: 789-794.

128

Greenaway, D., W. Morgan, & P. Wright (1998). Trade Reform, Adjustment and Growth.

What Does the Evidence Tell Us?: Economic Journal, 108: 1547-1561.

Gbanador, C. A. (2005). Devaluation and Balance of Payments Stability in an Oil Producing

Economy. lessons from Nigeria Experience. The Nigerian Journal of Monetary

Economics (NJOME), 5, 118-131 Gbosi, A. N. (2002). Financial Sector Instability and

Challenges to Nigeria’s Monetary Authorities: African Heritage Publishers, Port

Harcourt

Gujarati D.N. & Porter D.C. (2009). Basic Econometrics, 5th ed: McGraw-Hill companies inc.,

New York.

Helleiner, G.K. (1972). International Trade and Economic Development (Middlesex: Penguin

Books).

Ho-don Van (1998). Intertemporal Balance, Sustainability and Efficiency of the Exchange Rate

Mechanism: Journal of Economic Integration, Vol. 13, No. 2, International Economics

and Development Policy in East Asia (June, 1998), pp 292-310: Published by Center of

Economic Integration, Sejong University.

Hooper, P. & S. Kohlhagen (1978). The Effect of Exchange Rate Uncertainty on the Prices and

Volume of International Trade: Journal of International Economic 8, 483-511.

Harrison, A. & G. Hanson (1999). Who Gains from Trade Reform? Some remaining puzzles:

Journal of Development Economics, 59: 125-154.

Harrod, R. (1933). International Economics: (Cambridge University Press).

Hoekman B. & P. Messerlin (1999). Liberalizing Trade in Services. Reciprocal Negotiations

and Regulatory Reform: paper presented at the conference Services 2000-New

Directions in Services Trade Liberalization.

129

Holland, M., F. Vilela & O. Canuto (2002). Economic Growth and the Balance-of-Payments

Constraint in Latin America: UFRJ Instituto de Economia, Working Papers em

Economia. Instituto Nacional de Estadística, Geografía e Informática (INEGI), Banco de

Información Económica [online]. Available at URL:http:// www.inegi.gob.mx/difusion/

espanol/fbie.html [Accessed: several dates]. Instituto Nacional de Estadística, Geografía e

Informática (INEGI), Anuario Estadístico, Several issues, México. Instituto Nacional de

Estadística, Geografía e Informática (INEGI), Estadísticas del Comercio Exterior de

México, Several issues, México.

I.M.F. (1984). Exchange Rate Volatility and the World Trade: Occasional Paper. No. 28, IMF

Research Department, Washington.

IDEAS Beijing, (2001). Trade, Exchange Rate and Income Distribution. .Journal of

International Economic, Vol. 43, No. 6,(May., 2001). in Nigeria: CBN Economic and

Financial Review, Vol. 29, No 2.

Iqbal Mahmood, Major Ehsanullah ,& Habib Ahmed, (2011). Exchange Rate Volatility

&Macroeconomic Variables in Pakistan: Journal of Economic and Sustinable

Development,Vol.1,No.2, (Aug., 2011), pp.11-22.

Iyoha, M.A. (1996). Macroeconomic Policy management of Nigeria's External Sector in the

post SAP period: Nigeria Journal of Economic and Social Studies. Vol. 38, No 1.

Ikhide, S. I., & Alawode, A. A. (1994).Financial Sector Reforms, Macroeconomics Instability

and the order of Economic Research Liberalization the Evidence from Nigeria: African

Economic Research Consortium (AERC) Final report.

Ikhide, S. I. (1996). Financial Sector Reforms and Monetary Policy in Nigeria: IDSS working

paper 68.

Iyoha, M. A. (2002). MacroeconomicsTheory and Policy: March Publishers, Benin City.

Iyoha, M. A. (2003). An Overview of leading Issues in the Structure and Development of

Nigerian Economy since 1960. In Iyoha, M. A. & Itsede, C. O. (Eds.), Nigerian Economy:

Structure Growth and Development: Mindex Publishing Benin City.

130

Jhingan, M. L. (1993). Macroeconomic Theory. Delhi: Konar Publishers.

Joseph, Afolabi Ibikunle & Akhanoul, Isaac,(2011). An Empirical Investigation of the Link

between Exchange Rate Volatility and Trade in Nigeria: Economic and Management

Science,(2011). Christian Broda (FRBNY) and John Romalis, (Chicago GSB and

NBER),(2003), Identification the Relationship Between Trade and Exchange Rate

Volatility: Journal of Economic and Social Research 4(1),83-99,(Jan., 2003).

Khan, M. &R. Zahler (1985). Trade and Financial Liberalization Given External Shocks and

Inconsistent Domestic Policies: IMF Staff Papers, 32: 22-55.

Kamin, Steven B., & John H. Rogers. (1997). Output and the Real Exchange Rate in Developing

Countries. An Application to Mexico: International Finance Discussion Paper, no. 580.

Washington, D.C.: Federal Reserve Board.

Kamin, Steven B., & Marc Klau. (1998). Some Multi-country Evidence on the Effects of Real

Exchange Rates on Output: International Finance Discussion Papers, no. 611. Washington,

D.C.: Federal Reserve Board.

Khan, M.A & Lizondon, J.S (1987). Devaluation, Fiscal Deficits and the Real Exchange

Markets in Developing Countries: World Bank Economic Review. Vol. 1, No 2,

Washington, World Bank.

Krugman, Paul R. (1979). A Model of Balance of Payments Crises: Journal of Money, Credit

and Banking 11; Pp 311-325.

Lebland, D. & Eichengreen, B., (2003). Exchange Rate and Cohesion: Historical Perspectives

and Political Economy Considerations: Journal of Common Market Studies. Vol. 41, pp.

797-822.

Leonardo V. Vera (2006). The Balance of Payments. Constrained Growth Model: A North-South

Approach: Journal of post Keynesian Economics, Vol. 29. No. 1 (Autumn 2006). Pp 67-

92, Published by M.E. Sharp Inc.

131

Lin, Justin Yifu, (2001). WTO Accession and Financial Reform in China Cato Journal, 21(1),

(Spring-Summer): pp. 13-18. McKinnon, Ronald, (1963), Optimal Currency Areas

:American Economic Review, 53, pp. 717-724. Ltd. 2nd ed.

Lu Fang – Yuan & Shi Jun –Guo,(2012). The Empirical Research of the Impact of GDP and

Exchange Rate on Foreign Exchange Reserve Scale in China: Research Journal of Applied

Sciences, Engineering and Technology, 5(6): 2113-2117, 2013, (Sep., 2012).

Marc Aubon & Michele Ruta WTO,(2011). The Relationship Between Exchange Rates and

International Trade: Economic search and Statistics, Division, (Oct 2011-17).

McKinnon, Ronald & G. Schnabl, (2003). The East Asian Dollar Standard, Fear of Floating,

and Original Sin, in: G. Ortiz, ed. Macroeconomic Stability, Financial Markets, and

Economic Development, Bank of Mexico.

Magda kandil, (2009). Exchange Rate Fluctuations and the Balance of Payments. Channels of

Interaction in Developing and Developed Countries: Journal of Economic Integration

24(1), March 2009; 151-174.

Mahmood, I. & Ali, S.Z. (2011). Impact of Exchange Rate Volatility on Macroeconomic

Performance of Pakistan: International Research Journal of Finance and Economics,

Issue 64. Pp 1450-2887.

McCombie, J., & Thirlwall, A. Growth in the International Context: A Post Keynesian View. In

J.Deprez and J. Harvey (eds), Foundations of International Economics. Post Keynesian

Perspectives. London: Routledge, 1999, Pp. 35-90.

McKinnon, R.J. Foreign Exchange Constraints in Development and Efficient aid Allocation: The

Economic Journal, June, 1964.

Montiel, Peter J, (2003), Macroeconomics in Emerging Markets. Cambridge: Cambridge

University Press.

Montiel, Peter J. & Jonathan Ostry, (1991). Macroeconomic Implication of Real Exchange

Rate Targeting in Developing Countries: IMF Working Paper 91/29. International

Monetary Fund.

132

Mordi, C.N (2006). Challenges of Exchange Rate Volatility in Economic Management in

Nigeria: Bullion Vol.30, No.3. July - Sept. 2006.

Morley, S. A. (1992). On the Effect of Devaluation During Stabilization Programs in LDCs:

Review of Economics and Statistics 74, no. 1: 21–27.

Mussa, M., P. Masson, A. Swoboda, E. Jadresic, P. Mauro & A. Berg, (2000). Exchange Rate

Regimes in an Increasingly Integrated World Economy: IMF Occasional Paper No. 193,

Washington, DC.

Ndung’u, Njuguna. (1993). Dynamics of the Inflationary Process in Kenya. Göteborg,

Sweden: University of Göteborg.

Nkoro, E. (2003). Analysis of the Impact of Monetary policy on Economic Development in

Nigeria (1980-2003). University of Benin City.

Nnanna, O. J. (2001). Monetary Management Objectives, Tools and the Role of Central Banks in

the Region: Regional Forum on Economic and Financial Managements for

Parliamentarian. Nigeria: WAIFEM.

Obadan, M.I (1996). Impact of External sector policies on Nigeria's Economic Development:

Central Bank of Nigeria Economic and Financial Review, Vol. 34, No 4, December.

Obaseki. P.J. (1991). Foreign exchange management in Nigeria: past, present and Future: CBN

Economic and financial Review. Vol. 29 No 1 Lagos. Central Bank of Nigeria.

Obaseki, P.J. (2001). Meeting the Foreign Exchange Need of the Real Sector in Nigeria:

Financial Review: Vol. 3, No, 20, Central Bank of Nigeria Publications

Ogiogio, T. M. (1996). Impact of External Sector Policies on Nigeria’s Economic Development:

Central Bank of Nigeria Economic and Financial Review, Vol 34, No 4, December.

Olayide S.O (1969). Import Demand Model: An Econometrics Analysis of Nigeria’s Import

Trade: The Nigerian Journal of Economics and Social Studies, 10: 13-26.

Olisadebe, E.U (1991).An appraisal of recent exchange rate policy measure in Nigeria: CBN

Economic and Financial Review, Vol. 29, No 2.

133

Ojo, M. O. (1990). The management of foreign exchange under Nigeria's SAP: CBN Economic

and Financial Review, Vol. 28, No 2.

Olisadebe, E.U (1991). An appraisal of recent exchange rate policy measure

Qaisar Abbas, Javi d Iqbal & Ayaz ,(2012). Relationship Between GDP, Inflation and Real

Interest Rate with Exchange Rate Fluctuation of African Countries: International Journal

of Academic Research in Accounting, Finance and Management Science,Vol.2,Issue

3,(May 2012).

Odozi, V. A. (1995). The Conduct of Monetary and Banking Policies by: the Central Bank of

Nigeria. Economic and Financial review, 33(1).

Oduma, J. S. (1980). How effective have Fiscal and Monetary Policies been in Nigeria? : CSER

Print paper no. 7 Abu Zaria

Okaha, G. O. (1986). Theoretical Basis of Monetary Policy in Africa: Economic and Financial

review, 10.

Ojo, M. O. (1987). Monetary Policy Instrument in Nigeria: Their Changing Nature and

Implication: The Nigerian Bank.

Prebisch, R. The Economic Development of Latin America and its Principal Problems.UN

Document UN EKN 12/89/Rev. I, Economic Commission for Latin America and the

Caribbean (ECLAC), United Nations Department of Economic Affairs, New York, 1950.

Robert A. Mundell,(1996). The Monetary Dynamics of International Adjustment under Fixed

and Flexible Exchange Rates: Quarterly Journal of Economics, 74, 1960, pp. 227-257.

Rodriguez, Gabriel H., & Guillermo G. Diaz. (1995). Fluctuations Macroeconomics en la

Economia Peruana: Working Paper. Lima: Banco Central de Reserva del Perú.

Roemer, C. (1989). The Prewar Business Cycle Reconsidered. New Estimates of Gross

National Product, 1869–1918: Journal of Political Economy 97, no. 1: pp. 1–37.

Rogers, John H., & Ping Wang. (1995). Output, Inflation and Stabilization in a Small Open

Economy: Evidence from Mexico: Journal of Development Economics 46, no. 2: pp.

271–93.

134

Sodestine, B.O. (1998). International Finance, London: Macmillian Educ.

Soyoung Kim, (2005). Monetary Policy, Foreign Exchange Policy, and Delayed Overshooting:

Journal of monetary , Credit and Banking , Vol.37, No. 4 (Aug ., 2005), pp. 775- 782.

Sanusi, J. O. (2002). The Evolution of Monetary Management in Nigeria and its Impacts on

Economic Development: CBN bullion, 26(1).

Sanni, H. T. (2006). The Challenges of Sustainability of the Current Exchange Rate Regime in

Nigeria. In The Dynamics of Exchange Rate in Nigeria: Central Bank of Nigeria Bullion,

Vol. 30, No. 3, pp. 26-37.

Soludo, C. (2001). Debt Poverty and Inequalities. Towards an Exit Strategy for Nigeria and

Africa. Proceedings from International Conference on Sustainable Debt Strategy. Abuja

Nigeria Processed.

Terence D. Agbeyegbe Janet Stotsky & Asegedech WoldeMariam,(2005).Trade Liberalization,

Exchange Rate changes, and Tax Revenue in Sub-Saharan Africa: Journal of Asian

Economics 17 (2006) 261-284.(May., 2005).

Thrillwall, A. The Balance of Payments Constraint as an Explanation of International Growth

Rate Differences: Banca Nazionale Del Lavoro Quarterly Review, 1979, 32 (128), 45-53.

Thrillwall, A.P. (2004). Trade, balance of Payments and Exchange Rate Policy in developing

Countries: Edward Edger Publishing U.K.

Tailor, J. B. (2004). Improvements in Monetary Policy and Implications for Nigeria:. Key Note

Address, Money Market Association of Nigeria, Abuja, Nigeria.

Uchendu, O. A. (1996). The Transmission of Monetary Policy in Nigeria: Central Bank of

Nigeria Economic and Financial Review, 34(2), 608.

Udegbunam, R. I. (2003). Monetary and Financial Policy. In Iyoha, M. A. & C. O. Itsede (Eds.),

Nigerian Economy: Structure Growth and Development: Mindex Publishing Benin City.