The nexus between monetary policy and economic growth in Nigeria: a causality test

Size: px

Start display at page:

Download "The nexus between monetary policy and economic growth in Nigeria: a causality test"

Eustacia Wright
6 years ago
Views:

1 The exus betwee moetary policy ad ecoomic growth i Nigeria: a causality test AUTHORS ARTICLE INFO JOURNAL Sulaima L.A. Migiro S.O. Sulaima, L.A., Migiro ad S.O. (204). The exus betwee moetary policy ad ecoomic growth i Nigeria: a causality test. Public ad Muicipal Fiace (hybrid), 3(2) "Public ad Muicipal Fiace (hybrid)" NUMBER OF REFERENCES 0 NUMBER OF FIGURES 0 NUMBER OF TABLES 0 busiessperspectives.org

2 Public ad Muicipal Fiace, Volume 3, Issue 2, 204 Sulaima, L.A. (South Africa), Migiro, S.O. (South Africa) The exus betwee moetary policy ad ecoomic growth i Nigeria: a causality test Abstract Moetary policy is a ecoomic strategy take by the govermet ormally through the apex bak of a atio Cetral Bak to ifluece the ecoomy. It is geared towards creatig stability i the ecoomy ad fosterig ecoomic growth which have bee the quest of every atio. Moetary policy refers to govermet actio or fiat created specifically to cotrol the circulatio ad directio of moey i the ecoomy at ay poit i time. It ca also be referred to as the regulatio of moey supply ad iterest rates by a atio s moetary authority so as to avoid currecy depreciatio ad esure iflatioary pressure is ot at a ecoomy-threateig level. This study thus evaluates the exus (lik) betwee the Nigeria ecoomic growth ad moetary policy from 98 to 202. It measures ecoomic growth usig gross domestic product ad the idices of moetary policy that iclude: cash reserve ratio, moetary policy rate, exchage rate, moey supply, ad iterest rate. The co-itegratio test result shows that the variables are coitegrated with oe other ad the test for causality idicates that moetary policy has a oticeable ifluece o the growth of the ecoomy, while ecoomic growth does ot ifluece moetary policy equally sigificatly. This suggests that the moetary policy trasmissio mechaisms cotribute positively to the productivity of the Nigeria ecoomy thus ehacig ecoomic growth. Keywords: moetary policy, ecoomic growth, gross domestic product, grager causality test, Johase co-itegratio test. JEL Classificatios: B22, C22, E5, E52, E58, F63 Itroductio Moetary policy is a ecoomic strategy take by the govermet ormally through the apex bak of a atio Cetral Bak to ifluece the ecoomy. It is geared towards creatig stability i the ecoomy ad fosterig ecoomic growth which have bee the quest of every atio. Moetary policy refers to govermet actio or fiat created specifically to cotrol the value, circulatio ad directio of moey i the ecoomy whilst cosiderig the prevailig ecoomic situatio. It ca also be referred to as the regulatio of moey supply ad iterest rates by a atio s moetary authority so as to avoid currecy depreciatio ad esure iflatioary pressure is ot at a ecoomy-threateig level. The itroductio ad implemetatio of moetary policy is aimed at ifluecig macroecoomic objectives such as ecoomic growth, price stability, balace of paymet equilibrium, availability of full ad sustaiable employmet amogst others. The Cetral Bak of Nigeria (CBN) through a Act of the CBN eacted i 958 is vested with the resposibility to cotrol the ecoomy through moetary policies. A critical questio is have the CBN moetary policies actually achieved the above macroecoomic objectives? The prime aim of moetary policy is to make sure that supply of moey is i cosoace with the growth level of the ecoomy, without committig errors Sulaima, L.A., Migiro, S.O., 204. Sulaima, L.A. Postdoctoral Research Fellow, Graduate School of Busiess ad Leadership, Uiversity of KwaZulu-Natal, South Africa. Migiro, S.O. Professor of Busiess Maagemet, Graduate School of Busiess ad Leadership, Uiversity of KwaZulu-Nata, South Africa. (Nzotta ad Okereke, 2009). Moetary policy by the CBN has facilitated the itroductio of a active moey market where treasury bills (a fiacial istrumet used for ope market operatio) ad raisig debt for govermet have grow i size ad value, hece becomig promiet earig assets for ivestors ad a source of balacig liquidity i the market. The most effective area of moetary policy i Nigeria is to cotrol iflatio which is also kow as price stabilizatio of goods ad services by cosumer demad ad supply of the producers. The decisio to apply a moetary policy o the ecoomy depeds o the magitude ad flow of moey supply i the ecoomy at that particular time. Fiacial istability is reflected i risig iflatio i early all atios either developed or developig coutries. Global ecoomic treds have repercussios for the ecoomy of each coutry, ad yet the level of the impact varies ad depeds o umerous iteral factors, such as a system of macroecoomic regulatio, curret moetary ad fiscal policies, ad achieved macroecoomic results. The mai task i the curret ecoomic situatio is takig steps to achieve the objectives of moetary policy which the theoretically impacts o ecoomic growth positively. Notwithstadig the dispute amog ecoomists o this relatioship, there is strog presumptio that moetary policy is associated with ecoomic growth. Moetary policy is without doubt a importat tool for ehacig growth i the ecoomy. It iflueces aggregate demad ad aggregate supply, so affectig ecoomic growth accordigly (Gul, Mughal & Rahim, 202). The primary problem facig the CBN is implemetig correct ad timely policies that ca boost ecoomic growth. The iabil- 35

3 Public ad Muicipal Fiace, Volume 3, Issue 2, 204 ity of the CBN to duly act i accordace with the curret ecoomic situatios could imperil the atio. The CBN implemets policies which primarily assist i stabilizig the ecoomy but a spill-over result o the ecoomic productivity may be i doubt due to time lag ad the level of ecoomic ad fiacial developmet. Therefore, it is importat to ivestigate the causal lik betwee ecoomic growth ad the Nigeria govermet moetary actios ad policies. The study iteds to ivestigate whether moetary policy egedered growth i the Nigeria ecoomy from 98 to 202. There is a dearth of studies especially i Nigeria o how the atio s moetary policy affects its ecoomic growth ad viceversa. Hece, this study is drive by the eed to reveal the causal lik betwee CBN s moetary policy trasmissio mechaism ad ecoomic growth i Nigeria. It is evisioed that this study will provide more kowledge to literature existig o this discourse i trasitioal ecoomies ad Nigeria i particular. The study is outlied as follows: sectio reviews empirical evidece from previous researchers, sectio 2 costructs the methodological framework, sectio 3 deals with the empirical fidigs, sectio 4 presets the coclusios while the fial sectio six makes some recommedatios.. Review of related empirical studies Oyeiwu (202) ivestigated moetary policy ad ecoomic growth durig The regressio aalysis idicated that supply of moey caused a rise i gross domestic product ad balace of paymets but failed to suppress iflatio i the Nigeria ecoomy. The study provides iferece of a positive ifluece of moetary policy o ecoomic growth ad its weakess to esure macroecoomic stability. Imoughale ad Ismaila (204) examied how the performace of Nigeria maufacturig sector was iflueced by moetary policies implemeted betwee 986 ad 202. The idividual variables were: exteral reserve, exchage rate ad iflatio rate, which were statistically sigificat to maufacturig sector output (MSO) while broad moey supply (M 2 ) ad applicable rate of iterest have o statistical sigificace o the sector s output. Iterest rate, exchage rate, ad exteral reserve impacted egatively o the sector, but M 2 ad iflatio rate affected the sector positively. The Grager causality test suggested that oly exchage rate ad exteral reserve geerate maufacturig output. It was also discovered that the maufacturig sector cotributed isigificatly to ecoomic growth. The outcome of Okoro (203) revealed that iterest ad iflatio rates were iversely proportioal to level of ecoomic output while foreig exchage rate, moey supply ad total credit were directly proportioal ad these variables were related o the log ru to ecoomic growth. Fasaya, Oakoya ad Agboluaje (203) ivestigated the growth process of Nigeria as affected by the coutry s moetary policies spaig from 975 to 200. The fidigs revealed the existece of log-ru associatio amog moetary parameters (exteral reserve, moey supply, iterest rate, exchage rate, ad iflatio rate) ad ecoomic growth. I additio, it was show that oly moey supply ad iterest rate did ot drive ecoomic growth cosiderably. Akabi ad Ajagbe (202) ivestigated the ifluece of CBN s moetary policies o commercial baks i Nigeria. Data spaig from 992 to 999 are collected usig a sample of three commercial baks. The result showed that a rise i iterest rate led to a fall i ledig rate while liquidity ratio ad cash ratio were statistically sigificat to the profit of the selected baks. Saibu ad Nwosa (20) examied the growth of Nigeria sectoral output caused by moetary policy from 986 to The results idicated that the maufacturig sector is ot receptive to moetary policy ad the agricultural sector is sesitive to chages i exchage rate. I additio, it was discovered that improvemet i the performace of the miig sector is largely determied by iterest ad exchage rates ad that the exchage rate variability ad total loa disbursed by bak are key factors i predictig the behavior of the costructio/buildig sector. O the whole, the most ifluetial moetary measure is the exchage rate. The assessmet of Chimobi ad Uche (200) o how moey ad iflatio are related to output i Nigeria reflected bidirectioal causality betwee output ad moey likewise iflatio. It also idetified that moey supply icrease resulted i the growth of the ecoomy. Chuku (2009) used real effective exchage rate, miimum rediscout rate, ad broad moey (M 2 ) to determie how output ad prices i Nigeria are affected by shocks arisig from moetary policy implemetatio ad showed that M 2 is the most sigificat amog the three policy istrumets. The comparative aalysis of Ajisafe ad Foloruso (2002) revealed that it was moetary actios rather tha fiscal actios that ifluece ecoomic activities i Nigeria ad suggested that govermet emphasis o fiscal actio has caused more istability i the atio ecoomically. The above review shows that empirical studies o moetary policy as it relates to ecoomic growth ad some macroecoomic variables are still few ad icoclusive i Nigeria. The causal relatioship has also ot bee fully established ad this calls for a further study like this. 36

4 Public ad Muicipal Fiace, Volume 3, Issue 2, 204 Studies coducted outside of Nigeria are also reviewed to provide further evidece o how moetary policy affects the ecoomy. Chipote ad Makhetha- Kosi (204) explored the role played by moetary policy i promotig growth of the South Africa ecoomy. The study showed that log-term coectio existed amog the variables ad moey supply, repo rate ad exchage rate are isigificat moetary policy istrumets that drive growth, while iflatio is sigificat. Ivredi ad Yildirim (203) ivestigatio of macroecoomic parameters ad moetary policy shocks i a cross-sectio of 6 rapidly emergig atios: Turkey, South Africa, Brazil, Chia, Idia, ad Russia. Adoptig a Structural VAR model, it foud that tight moetary policy i most coutries icreases the value of legal teder, iterest rates ad reduces iflatioary pressure ad output. There is o fact of exchage rate, price, trade ad output relatioship. The study affirmed exchage rate as the most importat trasmissio mechaism i the six coutries. Chaudhry, Qamber ad Farooq (202) ivestigated the relatioships of moetary policy, iflatio ad growth of the Pakistai ecoomy from 972 to 202. The results idicated that credit to the private sector, fiacial depth, real exchage rate, ad budget deficit were elastic ad sigificat i terms of ifluecig the real GDP. It also revealed a bidirectioal lik betwee real gross domestic product ad real exchage rate, while oe-way directioal lik existed from real GDP to fiacial depth, domestic credit ad budget deficit. Gul, Mughal ad Rahim (202) reviewed how the decisios of moetary authorities were ifluetial o stabilizig price, ecoomic growth, curtailig deficits i balace of paymets ad reducig uemploymet level. The regressio aalysis showed that cotractioary moetary policies with balaced adjustmet of explaatory variables exerted favorable ifluece o the explaied variable. Arora ad Cerisola (2000) quatified the effect of alteratios occurrig i moetary policies emergig from the US ecoomy o less developed coutries. The study explored how moetary policies i the US, coutry-specific fudametals ad iteratioal capital market coditios relate to sovereig bod spreads (proxy for coutry risk). It was foud that the peculiar ature of each coutry is promiet i explaiig the variatios i its risk ad that the moetary policy predictive ability i the US are also ecessary for stabilizig the flows of capital, coditios i the capital market ad promotig growth i less developed ecoomies. 2. Methodological framework The study utilized a quatitative method i the aalysis. The steps take i the methods of aalysis are described below. 2.. Specificatio of model. The model measures ecoomic growth usig gross domestic product (GDP), which is depedet o exchage rate (EXGR), cash reserve ratio (CRR), moey supply (MS), iterest rate (INTR), ad moetary policy rate (MPR) (all beig idices of moetary policy). A Grager causality test is coducted o the model to determie the directioal lik betwee GDP ad each of the idices of moetary policy. A idex of moetary policy has causatio o GDP if the lagged value of the idex is sigificat i the equatio for ecoomic growth. The model is fuctioally represeted as: GDP= f (CRR, MPR, EXGR, MS, INTR). The Grager equatios for the model are preseted as: GDP = β CRR + α GDP + u t i t () CRR = λcrr + δ GDP + u (2) t i t GDP = β MPR + α GDP + u (3) t i t MPR = λmpr + δ GDP + u t i t (4) GDP = β EXGR + α GDP + u t i t (5) EXGR = λ EXGR + δ GDP + u t i t (6) GDP = β MS + α GDP + u t i t (7) MS = λms + δ GDP + u t i t (8) GDP = β INTR + α GDP + u t i t (9) INTR = λ INTR + δ GDP + u t i t (0) 2.2. Estimatio techique, variables, samples ad data source. The study adopted a ecoometric approach to examie how moetary policy iflueces ecoomic growth. The data employed are secodary i ature ad the CBN Statistical Bulleti is the source of data. Aual time-series data sets o gross domestic product (GDP), exchage rate (EXGR), moey supply (MS), cash reserve ratio (CRR), iterest rate (INTR), ad moetary policy rate (MPR) from 98 to 202 were collected. The ecoometric techiques employed were the Johase coitegratio test, the Grager Causality Test ad the Augmeted Dickey-Fuller (ADF) uit root test. 37

5 Public ad Muicipal Fiace, Volume 3, Issue 2, Empirical fidigs ad discussio 3.. Uit root test. The uit root test applies Augmeted Dickey-Fuller (ADF) method to assess that the data did ot cotai uit root. The method estab- Variable Test statistic level 5% Mackio critical level Table. Result of ADF test Test statistic st differece lished that the data is free from uit root whe the test statistic value of ADF exceeds the 5% Mackio critical value (at absolute term). The ADF test results are reported i Table. 5% Mackio critical st differece Test statistic 2d differece 5% Mackio critical 2d differece GDP * CRR * MPR * EXGR * MS * INTR * (*) deotes data is statioary at 5% Mackio critical value Source: authors estimatio from E-views Table (above) shows that uit root is preset i all the variables at level, but was established to be statioary after differecig. GDP, MPR, EXGR, MS, INTR were statioary at first differece; therefore they are series I () while CRR was statioary at secod differece i.e. series I (2) Johase co-itegratio test. The ull hypothesis (H 0 ) ad the alterative (H ) are preseted as: H 0 : There is o co-itegratio; H : There is co-itegratio. The existece of co-itegratio meas that variables tred collectively over a log period. The coditio for this test is that the trace statistic value should be larger tha 0.05 Mackio critical value for coitegratio to be said to exist. Table 2. Result of trace test Expected CEs Trace 0.05 Statistic Critical value p-values** Noe * At most * At most At most At most At most 5 * Trace test reveals 2 co-itegratig equatios at the 0.05 level * sigifies H 0 rejected at the 0.05 level **MacKio-Haug-Michelis (999) p-values Source: Authors estimatio from E-views The test idicated the presece of two co-itegratig equatios, which meas there was co-itegratio which led to the rejectio of the ull hypothesis (H 0 ) hece, H was upheld. This implies that the variables move together over a log time i a statioary maer. Grager causality exists i a miimum of oe way whe co-itegratio is established amog variables (Egle & Grager, 987) Grager causality test. The idea of this test is to determie if the idices of moetary policy (CRR, MPR, EXGR, MS, ad INTR) provide sigificat statistical iformatio about ecoomic growth. Causality occurs whe there is a surprise i a idex of moetary policy that leads to a later icrease i GDP ad vice-versa. I establishig Grager causality at threshold value of 5%, the p-value must ot exceed 0.05 (p-value 0.05). Table 3 (below) shows the outcome of the causality test coducted o a two lag legth. Table 3. Result of causality test H0 p-value CRR has o causal ifluece o GDP GDP has o causal ifluece o CRR MPR has o causal ifluece o GDP * GDP has o causal ifluece o MPR EXGR has o causal ifluece o GDP * GDP has o causal ifluece o EXGR MS has o causal ifluece o GDP GDP has o causal ifluece o MS INTR has o causal ifluece o GDP 0.085* GDP has o causal ifluece o INTR * sigifies H 0 rejected at 5% threshold value (level of sigificace) Source: Authors estimatio from E-views The test for causality as revealed i the table above shows the absece of causal lik betwee CRR ad GDP i.e. CRR ad GDP do ot grager cause each other. This meas that they do ot ifluece each other sigificatly. MPR grager causes GDP; however, GDP does ot grager cause MPR. This suggests a uidirectioal lik ad also that MPR provides statistically sigificat iformatio about the future value of GDP. EXGR grager causes GDP but GDP does ot grager cause EXGR i.e. causatio flows oly from EXGR to GDP. Grager causality does ot occur from moey supply to GDP ad vice-versa; hece, there is o causality betwee them, ad they do ot cotribute sigificatly to future values of each other. Directio of causality 38

6 betwee INTR ad GDP is uidirectioal because oly INTR grager causes GDP, implyig that INTR provides statistically sigificat iformatio about the future value of GDP. I summary, all idices of moetary policy except CRR ad MS have causatio o GDP, but GDP produces o causatio o ay of the moetary policy measures. 4. Coclusio Refereces Public ad Muicipal Fiace, Volume 3, Issue 2, 204 The research examied the directioal lik betwee moetary policy ad ecoomic growth ad this is a sigificat additio to existig literature especially i Nigeria by providig empirical idicatio. The variables were cofirmed to be devoid of uit root after differecig. There is existece of 2 coitegratig equatios thus establishig the icidece of a log-ru equilibrium associatio amog the variables. Meawhile, the aalysis did ot fail i the establishmet of the variables that cause the chages that occur i gross domestic product usig the Grager causality test. The test revealed that moetary policy rate, exchage rate ad iterest rate are major cotributors to fluctuatios i ecoomic growth, while cash reserve ratio ad moey supply do ot ifluece ecoomic growth sigificatly. However, ecoomic growth does ot sigificatly ifluece ay of the idices of moetary policy. The outcome of this study is cosistet with Okoro (203) ad Fasaya, Oakoya ad Agboluaje (203), although it follows a differet methodological approach to these studies. These fidigs showed that ecoomic growth is ot liked to moetary policy, while moetary policy exerts sigificat ifluece o ecoomic growth. This study has show that moetary policy trasmissio mechaism plays a crucial part i the cotiuous growth process of the Nigeria ecoomy which resultatly leads to sustaiable ecoomic developmet. It also revealed that CBN s actio through moetary policy is a driver of ecoomic growth. Recommedatio Arisig from the fidigs of this study, it recommeds the followig:. The growth of the ecoomy should be the topmost cosideratio whe implemetig moetary policy measures. Strog macroecoomic policies should be pursued to maitai ad stabilize the ecoomy at large. 2. The regulatory ad supervisory framework for the fiacial sector should be stregtheed i order to assist the effectiveess of moetary policies of the govermet. 3. The moetary authority (CBN) should implemet policies that icrease the flow of moey ad direct it to sectors with higher propesity to cotribute to atioal ecoomic productivity. 4. I additio to the above, the CBN should edeavor to make more use of the cash reserve ratio i regulatig the operatios of commercial baks ad iterest rate policy should be such that baks ca efficietly itermediate fuds i the ecoomy.. Ajisafe, R.A. ad Foloruso, B.A. (2002). The Relative Effectiveess of Fiscal ad Moetary Policies i Macroecoomic Maagemet i Nigeria, The Africa Ecoomic ad Busiess Review, 3 (), pp Akabi, T.A. ad Ajagbe, F.A. (202). Aalysis of Moetary Policy o Commercial Baks i Nigeria, Africa Joural of Busiess Maagemet, 6 (5), pp Arora, V. ad Cerisola, M. (2000). How Does U.S. Moetary Policy Ifluece Ecoomic Coditios i Emergig Markets?, IMF Workig Paper WP/00/48, Iteratioal Moetary Fud, Washigto, D.C. 4. Chaudhry, I.S., Qamber, Y. & Farooq, F. (202). Moetary Policy, Iflatio ad Ecoomic Growth i Pakista: Explorig the Co-itegratio ad Causality Relatioships, Pakista Joural of Commerce ad Social Sciece, 6 (2), pp Chimobi, O.P. & Uche, U.C. (200). Moey, Price ad Output: A Casualty Test for Nigeria, America Joural of Scietific Research, 8, pp Chipote, P. & Makhetha-Kosi, P. (204). Impact of Moetary Policy o Ecoomic Growth: A Case Study of South Africa, Mediterraea Joural of Social Scieces, 5 (5), pp Chuku, A.C. (2009). Measurig the Effect of Moetary Policy Iovatios i Nigeria: A Structural Vector Autoregressive (SVAR) Approach, Africa Joural of Accoutig, Ecoomics, Fiace ad Bakig Research, 5 (5), pp Egle, R.F. & Grager, C.W.J. (987). Co-Itegratio ad Error Correctio: Represetatio, Estimatio ad Testig, Ecoometrica, 55 (2), pp Fasaya, I.O., Oakoya, A.O. & Agboluaje, M.A. (203). Does Moetary Policy Ifluece Ecoomic Growth i Nigeria?, Asia Ecoomic ad Fiacial Review, 3 (5), pp Gul, H., Mughal, K. & Rahim, S. (202). Likage betwee Moetary Istrumets ad Ecoomic Growth, Uiversal Joural of Maagemet ad Social Scieces, 2 (5), pp Imoughele, L.E. & Ismaila, M. (204). Empirical Ivestigatio of the Impact of Moetary Policy o Maufacturig Sector Performace i Nigeria ( ), Iteratioal Joural of Educatio ad Research, 2 (8), pp

7 Public ad Muicipal Fiace, Volume 3, Issue 2, Ivredi, M. & Yidrim, Z. (203). Moetary Policy Shocks ad Macroecoomic Variables: Evidece from Fast Growig Emergig Ecoomies, Ecoomics Discussio Papers, No , Kiel Istitute for the World Ecoomy, available at: 3. Nzotta, S.M. & Okereke, E.J. (2009). Fiacial Deepeig ad Ecoomic Developmet of Nigeria: A Empirical Ivestigatio, Africa Joural of Accoutig, Ecoomics, Fiace ad Bakig, 5(5), pp Okoro, A.S. (203). Impact of Moetary Policy o Nigeria Ecoomic Growth, Prime Joural of Social Sciece, 2(2), pp Oyeiwu, C. (202). Moetary Policy ad Ecoomic Growth of Nigeria, Joural of Ecoomics ad Sustaiable Developmet, 3 (7), pp Saibu, M.O. & Nwosa, L.P. (20). Effects of Moetary Policy o Sectorial Output Growth i Nigeria ( ), Joural of Ecoomics ad Behavioral Studies, 2 (6), pp

empirical findings and its discussion thereof. Section V presents conclusion with policy implication.

empirical findings and its discussion thereof. Section V presents conclusion with policy implication. Causal Relatioship betwee Foreig Capital Iflows ad Ecoomic Growth: Empirical Evidece from Idia Naraya Sethi Assistat Professor i Ecoomics, Dept. of Humaities ad Social Scieces, Natioal Istitute of Techology