The Impact Of Foreign Exchange Management On The Nigerian Economy

Project and Seminar Material for Economics

The Impact Of Foreign Exchange Management On The Nigerian Economy


Abstract


This research work investigates the impact of foreign exchange management by the monetary authority of Nigeria, the Central Bank on the Nigerian economy using the ordinary least squares regression technique for time series data spanning 1981 to 2007.

From the findings of this research work, it was observed that the success of foreign exchange policies critically depends on the foreign exchange rate elasticity of foreign demand for the country’s export. In Nigeria’s case, exports are basically primary in nature i.e. either mineral or agricultural products which at reduced external prices (due to currency devaluation) do not significantly increase export earnings. Since the end result of Nigeria’s floating exchange rate regime is currency devaluation, the policy is not ideal for Nigeria’s situation. Thus, the paper concludes by recommending, among others currency appreciation combined with a relatively liberalized trade policy regime.


Chapter One


Introduction

1.0 Background to the Study

This study is designed to examine the foreign exchange rate policy and management on the economic growth of Nigeria. Attention is focused on this direction because of the fact that Nigeria being a developing Nation needs to pay more attention to her economic growth and development. A developed economy will go a long way to create employment opportunities for the growing population and improve the general standard of living. The foreign exchange position has deteriorated due to continuous dwindling of the price of crude-petroleum, the Nigeria’s major foreign exchange earlier in the world market. In the light of this, Nigeria, which is endowed with abundant natural and human resources, must strive to harness all the resources for its economic development.

The management of foreign exchange is a major challenge to the monetary authorities and this is evident in the fact that foreign exchange plays a critical role in a country’s development process. For this reason, it is important to assess the impact of foreign exchange on the economy regularly so that the development process is sustained.

Foreign exchange management in a deregulated economy could be a system of exchanging the money of a country for another country’s in a free trade economy. The interdependence of countries in terms of trade has grown so much that perhaps no country can lay absolute claim and self-sufficiency in its resource requirement. However the degree of a country’s exposure to international trade determines its involvement in Foreign Exchange Management. For instance, a country with adequate supply of foreign exchange would import basic raw materials needed for economic development process, likewise, inadequate supply of foreign exchange exerts pressure on external reserves and also imposes serious constraint on the country’s development plan.

The Naira exchange rate is perhaps one of the most problematic preoccupations of the Nigerian monetary authorities ever since the introduction of the second tier Foreign Exchange Market (SFEM) in 1986. This has brought about a phenomenal increase in the number of market participants as all licensed banks become authorized dealers in foreign exchange. It has also created enormous regulatory and supervisory challenges to the Central Bank of Nigeria (CBN).


1.1 Statement of the Problem

The question of inadequate supply of foreign exchange remains a major problem as the Central Bank of Nigeria is the major supplier of funds to the market. The expansionary fiscal operations of the demand of individuals still inflict the efforts of the Apex Bank. Capital flight is still in place as people still get worried by the envisaged depreciation even as the realization of forex on one- to-­one remains an uphill task. The issues of multiple bids have continued to persist even with the great penalty involved. Monitoring has continued to be a little difficult as incomplete data hold sway.


1.2 Significance of the Study

The need for foreign exchange management lies only within the framework of countries engaged in international trade in contract to a closed economy. This need is underscored by the economic theory of comparative advantage, theory of comparative cost as well as international resources endowment differentials. This study is expected to show that a realistic exchange rate policy should reduce excessive demand for foreign exchange especially for importation of finished goods and services, as well as eliminate the prevailing distortion in the economy and stimulate non-oil exports. It is a1so expected that a realistic exchange rate would accelerate the rate of economic growth via the attraction of more foreign capital and investment with low level


1.3 Objectives of the Study

The objective of this study is to analyse the past experiences of the Nigerian Monetary Authority (Central Bank of Nigeria) in the management of foreign exchange and investigate whether or not exchange rate is effectively managed by examining its impact on the Nigerian economy.


1.4 Research Methodology

Collection of Data

The data relevant for this study are obtained from various secondary sources and diverse documentary publications such as the Central Bank of Nigeria, the National Bureau of Statistics (NBS), the Nigerian Institute for Social and Economic Research (NISER) among others.

Secondary time series data which can capture the relationship between exchange rate polices and export performance are relevant for the study. These data include variables such as real exchange rate; export value, interest rates, Gross Domestic Product and domestic price levels. These macro-economic variables directly and indirectly impact upon the velocity and the direction of trade between one country and the rest of the world. The propensity and capacity to export is thus influenced by the aforementioned variables.

Method of Analysis

The ordinary least squares (OLS) regression techniques will be used in estimating the impact of exchange rate policies on exports in Nigeria between 1981 and 2007.

The ordinary least square regression is a fairly simple estimation technique with desirable optimal properties, linearity and unbiasdness.

The OLS regression is based on the model below

GDP = Bo + B1 Export + B2 EXCR + B3 IMPORT +µ

Where:

  • EXPORT = Total export (Oil & non – oil)
  • EXCR = Exchange Rate
  • GDP = Gross Domestic Product at Market Price.
  • IMPORT = Total import (oil and non-oil).
Statement of Hypothesis
  • Ho: The naira exchange rate has no significant effect on Nigeria’s economy.
  • Hi: The naira exchange rate has a significant effect of the Nigeria economy.

1.5 Scope and Limitation

The impact of exchange rate, export and import on the Gross Domestic Product will be analysed between periods 1981 and 2007. Also, concerning the important role foreign exchange management plays on the economy, efforts will be made to examine various techniques being adopted by the Apex Bank in managing the nation’s foreign exchange.


1.6 Chapterization

Chapter One

Chapter one consists of the background to the study, the statement of the research problem, objectives, significance of the study as well as the scope of the study and research methods.

Chapter Two:

Literature Review and theoretical framework of foreign exchange. Views and related studies of earlier writers on this topic are considered in this chapter.

Chapter Three:

This Chapter will examine the performance of exchange rate regimes and foreign exchange policies in Nigeria.

Chapter Four:

Research methodology and Data Analysis. This chapter ‘will show the data collected, the regression results, and the summary or interpretation of these results

Chapter Five:

Summary, Conclusion of the Findings For the Study and Policy Recommendation.


Chapter Five


Summary of Findings, Conclusion and Policy Recommendation

5.1 Summary of Findings

This research work is meant to emphasize on the issue of exchange rate and its impact on international trade, purchasing power of average Nigerian and output growth level of Nigeria. This study investigated empirically on two models. The first model investigated empirically, the impact of variables such as exchange rate (ER), real interest rate (INT) and degree of trade openness (DOP) on the GDP on the economy. Exchange rate has a positive impact on GDP both on short run and long run. The interest rate has a negative impact on GDP both on short run and long run. Degree of trade openness has a positive impact on GDP. Exchange rate is positive relationship to output growth.


5.2. Conclusion

Having conducted this research in the study of exchange rate stability on economic growth, thus there is needed to maintain a stable exchange rate. Using time, series data from 1981-2015, I estimated the effect of exchange rate on export performance in Nigeria, our result showed that export trade performance are influenced by exchange rate stability. The study showed that Nigeria exchange ratestability has a positive and significant effect on export and GDP, which is, if exports are sufficiently risk averse, and increase in exchange rate raises the marginal utility of export revenue and therefore induces them to increase exports. A stable exchange rate will curtail inflation, increase export, maintain a favourable balance of trade, and help to solve the problem of deficits and increase the external reserve of the economy.


5.3 Policy Recommendations

Sequel to the findings of this study, I specifically made the following policy recommendations to the maintenance of stable exchange rate. To control exchange rate, these policies have to be adopted.

  1. The government should create incentive such as loan subsidy etc, to small scale industries, thereby encouraging them to process on domestic goods into processed goods that will help boast our export.
  2. The government should encourage the export promotion strategies in order to maintain a surplus balance of trade.
  3. An effective policy should be made based on the fiscal and monetary policies which should be aimed at achieving a realistic exchange rate for naira.
  4. An appropriate environment and infrastructural facilities should be provided so that foreign investors will be attracted to invest in Nigeria. This will provide employment opportunities, increase the level of income and the standard of living of the people.
  5. Strict foreign exchange control polices should be adopted in order to help in determination of appropriate exchange rate value. This will go a long way to strengthen the naira.
  6. In the case of imports, tariffs can be placed to be very high on imported goods, thereby discouraging imports.
  7. Exchange rate liberalization is also critical in facilitating trade in any economy, we therefore advice the policy makers to ensure that exchange rate should be determined by the forces of demand and supply.
  8. Interest rate should be at minimum, in order for the purchasing power of an average Nigeria to increase.
  9. Finally, the government should influence the foreign exchange rate, by positive economic reforms that will reduce the adverse effect of unstable exchange rate on the Nigerian economy with respect to trade flow and export.

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