IMPACT OF EXCHANGE RATE FLUCTUATIONS ON ECONOMIC GROWTH IN NIGERIA (1981 – 2020)
ABSTRACT
This research investigates the relationship between exchange rate fluctuations and economic growth in Nigeria using annual time series data covering the period of 1981-2020, the data used is secondary and was sourced from the Central Bank of Nigeria Statistical Bulletin and also the World Bank. Using inflation, interest rate, and foreign direct investment as additional independent variables to exchange rate, real gross domestic product (GDP) was used as a proxy for economic growth. The study employed an array of econometric tools which include: the Augmented dickey fuller (ADF) unit root test, the Johansen cointegration test, the ordinary least square (OLS) regression, and the granger causality test. The ADF unit root test showed that all variables are non-stationary at levels but stationary at first difference, this justified the employment of the Johansen cointegration test which showed the existence of a long run relationship between the variables. The regression results pointed to a significant and positive relationship between exchange rate and economic growth also foreign direct investment and economic growth in Nigeria over the period studied. However, interest rate was revealed to have a very strong negative relationship with economic growth while inflation also has an insignificant negative relationship with economic growth in Nigeria. The Granger causality test employed at 5% significance level showed no causal relationship between exchange rate and economic growth, however gross domestic product was revealed to granger cause foreign direct investment. Thus, the findings of this study recommend the Nigerian government to come up with effective exchange rate policies which will ensure the stability of Naira, keep interest rates at the bare minimum, and also build infrastructure which will attract foreign direct investment.
Keywords: Exchange Rate, Gross Domestic Product, Inflation, Interest Rate, Foreign Direct Investment.
CHAPTER ONE
INTRODUCTION
1.1 BACKGROUND OF THE STUDY
The current situation of economic growth in Nigeria gives the perception of the exchange rate with variables like fare, global exchange, and capital streams in the financial exchange causing the naira to lose its worth due to fluctuations. Fluctuation is a sporadic rising and falling in number or sum in benefit of something. Exchange rate is the value of one nation’s currency expressed in terms of another nation’s currency. The exchange rate connects domestic and foreign markets for merchandise and resources offering signs to the degree of international competitiveness in the worldwide market (Insah and Shiaraah, 2013). Economic growth is an increment in the creation of labour and products in an economy over a particular period.
Over the years, different exchange rate policies by the Nigerian government have led to either depreciation or appreciation of the Naira. An increase in imports and reduction in exports is caused by appreciation of the domestic currency while depreciation expands exports and discourages imports (Aliyu, 2011). Nonetheless, given the design of the economy, it is extremely important to keep a steady exchange rate for the naira as this results in an increase of non-oil export receipts and attracts foreign direct investment to minimize distortions needful in production and consumption (Sanusi 2004).
In 2016, CBN revealed a new policy of exchange rate of the naira and different monetary standards relying upon the rate at the parallel market applying unfamiliar trade at a customizable rate somewhere in the range of N230 and N250 (CBN Bulletin, 2016). The exchange rate regime and interest rate act as a requisite for economic growth with more economies embracing trade liberalization (Obansa et al. 2013). The Central Bank introduced the foreign exchange policy responsible for the management of the foreign exchange rate. However, there was no appreciation for the naira against the dollar as demand for dollar consistently surpasses supply. The forces of demand and supply along with monetary policies decided by the government are factors which are very vital in the determination of the price of a currency (Oleka, 2014).
The central bank of the major economies in the world is responsible for maintaining steady exchange rates to correct the demand and supply of the money in the market for buying and selling currencies. This process is difficult to maintain as the proponents of the exchange rate regime are an argument for that. Economic growth is enhanced by keeping a stable exchange rate along with macroeconomic stability, boosting international trade and investment. Exchange rate risk is factored in volatility when unpredictable changes occur over time on the exchange rate. The fundamental source of unpredictable changes are shocks which can influence the cost of products, inflation, interest rates, portfolio investment, savings, and loans (Clarida and Gali, 1994).
1.2 STATEMENT OF THE PROBLEM
The exchange rate fluctuations have a resolved issue of embracing different macroeconomic approaches which are fiscal and monetary but unfortunately, these measures have encountered little to no success thereby hindering the achievement of other macroeconomic objectives in Nigeria. The gap between the official and the parallel markets in the existing exchange rate systems continues to widen and has failed to prevent disequilibrium in the foreign exchange market where a realistic exchange rate has not been achieved. All around the world, the bedrock for all economic activities is the exchange rate fluctuations depicting exchange rate management as a significant determinant of many countries’ financial approaches (Todaro and
Smith, 2004). Nigeria’s economic growth and development has been below-par despite the different exchange rate policies adopted over the years, indicating their ineffectiveness as the Nigerian Naira continues to lose value.
There has been agreement by many claiming that there is no direct relationship between exchange rate and economic growth in Nigeria, while many claim the existence of a negative relationship between exchange rate and economic growth in Nigeria and others argue that there is a significant and positive link between exchange rate and economic growth (Adeniran et al 2014; Asher, 2012; Akpan and Atan, 2014). Due to the differences in findings, the study aims to add to the debate by analysing the current trend.
1.3 RESEARCH QUESTIONS
This work aims to answer the following research questions:
- What is the correlation between exchange rate fluctuations and economic growth in
Nigeria?
- What is the causal relationship between exchange rate and economic growth in Nigeria?
1.4 AIM AND OBJECTIVES
The aim of the study is to examine the impact of exchange rate fluctuations on economic growth in Nigeria. The specific objectives are:
- To ascertain the correlation between exchange rate fluctuations and economic growth in
Nigeria.
- To examine the causal relationship between exchange rate and economic growth in Nigeria.
1.5 STATEMENT OF HYPOTHESES
The hypotheses of this study are:
H0: There is no significant correlation between exchange rate fluctuation and economic growth in Nigeria.
H0: There is no causal relationship between exchange rate and economic growth in Nigeria.
1.6 SIGNIFICANCE OF THE STUDY
This study aims to provide profound information and explanation as to why the Naira has experienced a drastic decline over the recent years as opposed to other major currencies.
The findings in this paper also sought to provide details on the effect of exchange rate on
Nigeria and the impact exchange rate volatility has on Nigeria’s economic growth.
This study will help to guide policymakers on the most effective decisions to carry out in order to achieve growth and stability in Nigeria’s exchange rate by formulating the most appropriate exchange rate policies.
Finally, the findings of this study will add to existing works on the related subject and will be available for future researchers and scholars to use as a form of reference.
1.7 SCOPE AND LIMITATION OF THE STUDY
The study investigates the impact of exchange rate fluctuations on economic growth in
Nigeria over a period of 40 years ranging from 1981-2020.
The major limiting factor is the inaccessibility of relevant information from some of the stakeholders for data collection and also the lack of data on variables pre-1981. The researcher also had limited time to carry out the research as was occupied with other duties.
1.8 DEFINITION OF TERMS
Gross National Product (GNP): this is a macroeconomic indicator which shows the total monetary value of all goods and services produced in a country plus income receipts from citizens abroad.
Fluctuation: This is a situation in which prices, levels, or interest rates go up and down.
Economic Growth: This entails an increase in the total value of goods and services produced within the borders of a country. It can also be defined as an increase in a country’s productive capacity.
Foreign Markets: This is any market outside of a company’s own country.
Domestic Market: This is an internal market within the borders of a country.
Foreign Direct Investment (FDI): An investment as a controlling proprietorship in a business in one country by an entity based in another country.
Exchange Rate: This is the price or value of currency for the basic purpose of conversion to another currency.
Foreign Exchange rate: This is the degree at which one nations currency can be traded for another.
1.9 ORGANIZATION OF THE STUDY
Chapter one of the study explores the background of the study, provides the statement of the problem, the objectives, research questions, research hypotheses, significance of this study, and scope of the study. The remaining part of this research work is subdivided into four chapters. The chapters are described below:
Chapter two focuses on the examination and review of literature relevant to the research work. It involves the review of conceptual framework, theoretical framework, and empirical
studies.
Chapter three comprises of the research methodology, model specification, the method for data analysis, the evaluation procedure, and also the justification for methods used.
Chapter four covers the presentation of the results and its analysis. This involves the use of descriptive statistics, trend analysis, and various econometric tools for accurate data analysis and estimation of consistent results with the use of E-views software.
The final chapter five highlights the summary of major findings and conclusion. It also presents the policy recommendation and suggestions for further research.
IMPACT OF EXCHANGE RATE FLUCTUATIONS ON ECONOMIC GROWTH IN NIGERIA (1981 – 2020)