The Performance Of Monetary Policy In The Nigerian Economy
The purpose of this project work is based on the relative performance of monetary policy in the Nigerian economy. This work discussed the meaning of monetary policy is as combination of measures designed to regulate the value, supply and cost of money in an economy in consonance with the expected value of economies activities. The study shows further, the aims and objectives of monetary policy which includes price stability, maintenance of balance of payment equilibrium, promotion of employment, tackling inflation, output growth and sustainable development.
The literature review shed more light on conceptual and evolutionary framework of monetary policy in Nigeria, review of monetary policy before and offer the structural adjustment programme (SAP), and appraisal of the performance of monetary policy in Nigeria were thoroughly discussed. also appropriate measures for managing inflation in the economy were also suggested from the research instruments and techniques, if was observed that there are leakages in velocity of money through corrupt practices in the system and diabolic means of creating cash flow which causes inflation, multiplicity of unemployment and low output growth.
The research work, also showed the interplay between the gross domestic product (GDP) and other monetary policy variables (real exchange rate, real interest rate, money supply and liquidity ratio), and their respective contribution to the economy. In conclusion this project suggests total means of curling corruption using the various law enforcement in the country.
Table of Content
- Title page i
- Certification page ii
- Dedication iii
- Acknowledgement iv
- Abstract v
- Table of content
- 1.1 Introduction
- 1.2 Background of the study
- 1.3 Statement of the problem
- 1.4 Objectives of the study
- 1.5 Statement of hypothesis
- 1.6 Scope and limitations of the study
- 1.7 Significance of the study
- 2.0 Literature Review
- 2.0.1 Conceptual definition of monetary policy
- 2.0.2 Evolution of the monetary policy framework in Nigeria
- 2.0.3 Review of the monetary policy before the Structural Adjustment Programme (SAP)
- 2.1 Theoretical literature review
- 2.1.1 Monetary policy under the Structural Adjustment Programme (SAP)
- 2.1.2 Nigeria monetary policy experience
- 2.2 Empirical literature review
- 2.2.1. Framework of monetary policy in targeting inflation
- 2. 2.2 An appraisal of the performance of monetary policy in Nigeria
- 2.2.3 Suggestion for dealing with inflation in Nigeria
- 3.0 Research Methodology
- 3.1 Model specification
- 3.2 Method of evaluation
- 3.2.1 Unit root test
- 3.2.2 Presentation of co-integration and error corrections
- 3.2.3 Diagnostic tests
- 3.3 Justification of the model
- 3.4 Research approach
- 4.0 Presentation Of Data And Discussion Of Results
- 4.1 Presentation of data
- 4.1.1 Unit Root Test
- 4.1.2 Co-integration Test
- 4.2 Economic Opinion, Interpretation/Appriori Criteria
- 4.3 Statistical Criteria of the Results
- 4.3.1 T-test
- 4.3.2 F-test
- 4.4 Economic Criteria
- 4.4.1 Test for Autocorrelation
- 4.4.2 Normality test
- 4.4.3 Test for multicollinearity
- 5.0 summary
- 5.1 Conclusion
1.1 Background Of The Study
For most economies, the objectives of monetary policy include price stability, maintenance of balance of payments equilibrium, promotion of employment and output growth, sustainable development. These objectives are necessary for the attainment of internal and external balance, and the promotion of long run economic growth. The importance of price stability derives from the harmful effect of price volatility which undermines the objectives. This is indeed a general consensus that domestic price fluctuations undermines the role of monetary values as a store of value, and frustrate investments and growth.
Ajayi and Ojo (1981) and fisher (1993), empirical states on inflation, growth and productivity have confirmed the long run inverse relationship between inflation and growth. When decomposed into its components, that is growth due to capital accumulation, productivity growth, and the growth rate of the labour force, the negative association between inflation and growth has been traced to the strong negative relationship between it and capital accumulation as well as productivity growth respectively.
The importance of these empirical findings is that stable prices are essential for growth due to capital accumulation, productivity growth, and the growth rate of the labour force, the negative association between inflation and growth has been traced to the strong negative relationship between it and capital accumulation as well as productivity growth respectively. The importance of these empirical findings is that stable prices are essential for growth. The success of monetary policy depends on the operating economic environment, the institutional framework adopted, and the implementation of monetary policy is the responsibility of the central bank of Nigeria (CBN). The mandates of the CBN as specified by the CBN Act of 1958 include;
- Issuance of legal tender currency.
- Maintaining external reserves to safeguard the international value of the currency.
- Promoting monetary stability and a sound financial system.
- Acting as banker and financial adviser to the federal government.
However, the current monetary policy framework focuses on the maintenance of price stability while the promotion of growth and employment are the secondary goals of monetary policy. The performance of monetary policy depends on some legal framework upon which it operates. The legal framework are quantitative general or indirect and second, qualitative selective or direct. The effect effects the level of aggregate demand through the supply of money, cost of money and availability of credit. Out of the two types of instruments, the first category include bank are variations, open market operation, and required reserve ratio. They are meant to regulate the overall level of credit in the economy through commercial banks. The selective credit control aims at controlling specific types of credit. This includes changing margin requirement and regulation of consumer’s credit (M.L Jhingan, 2003).
In any economy, the conducts of both policies are normally rooted through banking institutions that play in the intermediation process. The role of bringing lenders and borrowers together through this process the central bank plays a very important role in determining the price of money (Ebhodaghe, 1996). Therefore, monetary policy is important in its own right from the past view of monetary economists and policy maker’s interns of its impacts on the economy. Of all tools available to government for directing the cause of the economy, monetary policies have proven to be the most visible instrument for achieving medium term stabilization objectives (CBN guideline 2002). Indeed monetary policy formulation and implementation emerged as a critical government responsibility so that the economy does not go astray. Policies are made not only for their own sake rather for achieving some desired goals over a given period of time.
Generally, the primary objectives of monetary policy is concerned with the application of expansionary monetary policy measures during economic recession and contractionary monetary policy controls money supply because it is believed that its rate of growth has an effect on inflation. The basic aim of monetary policies is not to aggregate themselves but the aggregate in the real sectors of the economy such as, level of capital price stabilization and economic development. Policies are designed in order to change the trend of some monetary variables in particular direction so as to induce the desired behavioral change in the monetary policy.
The central bank’s role is to conduct appropriate monetary policy that is consistent with the main economic objectives that will help the growth of gross domestic product (GDP), sustainable inflation are and stable balance of payment position. This is done by putting in place the direct or indirect monetary approach so as to control monetary trends. In this regards the CBN determines the amount of money to be supplied that is consistent with the nation’s macro-economic objectives and manipulate the monetary instrument at its disposal in order to achieve the stated objectives. Monetary policy influences the macrocosmic objectives because it is believed that there occurs a relationship between the real variables. Monetary policy affects all aspects of our economic and financial decisions whether to buy a car, build a house, start up a business or to expand the existing ones, whether to send one’s child to school or to make the child learn trade.
Money supply or monetary policy tries to influence the performance of the economy as reflected in key macro-economic indicators like inflation, GDP and employment. It works by affecting aggregate demand across the economy, that is, individuals’ and firms’ willingness and stability to spend on goods and services. In doing this, monetary policy has two fundamental goals to promote maximum sustainable output and employment and to maintain sustainable price level in the economy. The job of stabilizing output in the short run and promoting price stability in the long run involves several steps first, the central bank tries to estimate how the economy is doing now and how it is likely to do in the medium term, then, it compares this estimates to its goals for the output and the price level, if there is a gap between the estimates and the goals, the CBN have to decide on how forcefully and swiftly to act to close the gap.
Estimate of the current economic conditions are not as even as the most up-to-date data on key variables like employment, growth, productivity etc, largely reflect condition in the past. So to get a reasonable estimate of the current and medium term economic conditions, the central bank tries to find out what the most relevant economic developments are such as government spending, economic conditions abroad, financial conditions at home and abroad and the use of new technologies that boos productivity. These developments are the incorporated in an economic model to see how the economy is likely to evolve over time. In doing this, the central bank is confronted with some unexpected development such as the Niger- Delta crisis that disturbed the oil production and slowed down the revenue generation by the government they therefore, have to build uncertainties into their model.
Uncertainty seems to be problem at every part of the monetary policy process there is yet no set of policy and procedures that policy makers can use to deal with all situations that may arise. Instead, policy makers must decide how to precede by analysis the issue is far from being settled. Indeed, the central bank spends a great deal of time and effort in researching into the various ways to deal with different kinds of situation. Since these issues are not likely to be resolved very soon, the central bank is likely to continue to look at everything.
Nigeria did not have any stable macroeconomic policy enforcement before and during the inflammation of structural adjustment programme (SAP). The terms of trade deteriorated for most of the period between 1980 to 1985 and some previous years before the 1980. The consumer price index (CPI) growth rate was on the average of 17.1% between 1980 and 1985 and though this fell to about 5.0% in 1986 and 1987, if again started to rise from 1988, peaking at 47.5% in 1989. It has remained consistently high in the 1990s reading an all time high of 54.7% in 1994. The current account reported as surpluses between 1989 and 1993 after a fairly long period of deficit between 1981 and 1988 (there was a moderate surplus in 1984 and 1985 due to the austerity measures embarked upon by the federal government under the then military administration of general Babangida). Domestic savings as a ratio of GDP, which stood at an average of 27.7% between 1970 and1980, started to fall in 1981. Between 1981 and 1986, it stood at 13.8% the instrument ratio has followed the same pattern although, reporting slightly lower figures. Fiscal deficit has been chronic and is financed by borrowing from the banking system.
The share of commercial banks in total financial assets has shown a structural shift from about 57.7% in 1986 to 36.4% in 1993, the major gainer has been the central bank whose share has increased from 33.1% to 46.4% during the same period. It is doubtful if the structural adjustment programme has improved competitiveness in the system as the three largest banks still amount put a third of total deposits. One major feature of banking in the period of deregulation is the occurrence of large distress in the banking system. Close to 42 banks were severely distressed in the system in the system with 45 percent of loans classified as non-performing loans (CBN 1994). The performance of major monetary and commercial banks ratios did not show any appreciable improvement during reforms. For example, total loan and advances measured as a ratio of GDP declined from 25.6 percent in 1986 to 14.3 percent in 1990. The aggregate domestic credit, GDP ratio which peaked at 50.3 percent in 1986, reduced by half in 1993 (24.5%) with credit to government commanding a larger proportion. The ratio of both narrow money MI save trend.
From a high trend of 19.2 percent in 1981, MI/GDP ratio phi-meted to 11.5 percent in 1993 and M2/GDP ratio from 30.6 to 20.1 percent following the same pattern severely negative before the liberalization exercise the deregulation exercise in 1987 yield interest rate that were mildly negative to positive in the period 1987-1990. But with pressure on prices thereafter real interest rates have turned severely negative, again for the period of 1991 to 1994. It can be observed that most macro-economic aggregates have become severely unstable in recent times it is in this environment that indirect monetary control was initiated in 1993. Much of difficulty in achieving the objectives of SAP resulted largely from failure to achieve fiscal balance and the consequent reliance on borrowing from the central bank to finance the fiscal deficits.
This has adversely affected both the market for foreign exchange, money and goods and the expected role of market in allocating resources efficiently. The extent to which open market operations in government bills can help to successful manage the excess liquidity in the system which is created by government borrowing from the central bank is one of that while should be of interest given the enormity of this problem in the attainment of stabilization goals in the economy.
1.2 Statement Of The Problem
one a yearly basis, the monetary authority formulate guidelines geared towards the enhancement and development of policy variable designed to ensure optimal performance of the banking industry and ultimately to advise the macroeconomic goals or objectives but in the implementation of such policy variable certain conflicting issues are to be addressed ranging from the ability to comply with various monetary policy goodliness as well as satisfying depositors and shareholders. In fact, commercial banks are reluctant in their responsibility to comply with the rules and regulations set by the central bank such as the open market operation (OMO), required reserve ratio (RRr), bank rate, liquidity ratio, selective credit control and moral suasion.
These are the instruments of central bank in controlling the activities and operations of commercial banks in other to achieve the macroeconomic objective such as growth, price stability balance of payment equilibrium, full employment. The central bank of Nigeria (CBN) guidelines helped in setting of the interest rates charged by the commercial banks, sales or purchases of securities to control the money supply, and changes in the required reserve ratios of banks and other financial institutions.
The guidelines affected other interest are both through open market operations to affect the probability that the banks are going to need to borrow at its own lending rate, and by the announcement effects of changes in the central bank’s minimum lending rate, which are regarded by the markets as statement about the authorities forecasts and objectives. The CBN guideline on monetary policy works through the effect of the cost and availability of loans to real activity, and through this on inflation, and on international capital movement and thus on exchange rate.
Central Bank of Nigeria and the federal government’s formulation and implementation of the monetary policy more or less finds its ultimate translation to the economy in real terms. The controversy bothering whether or not monetary policy measures actually impact on the Nigerian economy is a problem this study sets to solve.
1.3 Objective Of The Study
The broad objective of the study is to examine the effectiveness of monetary policy in the Nigerian economy. The specific objectives are as follows.
- To assess the impact of money supply on economic growth in Nigeria
- To determine the impact of liquidity ratio on economic growth in Nigeria.
- To ascertain the effect of interest rate on Nigeria’s GDP
1.4 Statement Of Hypotheses
The hypotheses tested in this study are stated in their will forms as follows
H0: Money supply has no significant impact on GDP in Nigeria
H02: Interest rate in Nigeria has no significant impact on GDP
H03: There is no significant relationship between liquidity ration and GDP in Nigeria
1.5 Scope Of The Study
This work is aimed at examining the performance of monetary policy is on the Nigerian economy, the effects, the appraisal, and possibly the solution to the problems facing the implementation and working of monetary policies in Nigeria.
1.6 Significance Of The Study
This study will be of great benefit to bankers, investment analysts, government agencies, academics, private and public sectors more so, it will be useful to policymakers in the attempt to fashion out dynamic and reliable monetary policy measure for controlling commercial banks ability to create money and thereby influence the effective development of the economy.
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