MONETARY POLICY AS AN INSTRUMENT OF DEVELOPMENT IN NIGERIA
ABSTRACT
This study is designed to study the various ways by which monetary policies are used to examine and show empirical analysis of the impact of monetary policies on economic development in Nigeria. Monetary policies are used to influence the various aggregate in the real sector such as employment, price levels growth rates, balance of payments, exchange rates, and output, which if economist employs there will lead to development in Nigeria.
The objectives of monetary policy that are considered in this study are to achievement of price stability, promotion of an accelerated economic growth and development, exchange rate stability, maintenance of balance of payment equilibrium and attainment of full employment of resources.
Secondary sources of information used include the following, use of relevant textbooks, federal office of statistics (FOS) publication, journal and other central batik of Nigeria statistical bulletin of many years ago and its annual report counting various issues.
The presentation of data are made by multiple and simple regression analysis technique based only on the specified models, the T-statistics, F-statistics and other techniques which was done by Anova with two (2) variables methods.
The following results were obtained in the analysis of the data collected that: there is a significant relationship between money supply and exchange rates. Finally, based on the testable approximation and findings of the research works, some recommendations were made as regards to the development of monetary policy as an instrument which if properly applied and implemented by decision makers and policy makers, it would have a positive impact on the economy as a whole.
TABLE OF CONTENTS
Title Page
Certification
Dedication
Acknowledgement
Abstract
CHAPTER ONE
1.1 Historical Background of the Study
1.2 Introduction
1.3 Statement of the Study
1.4 Research Objectives
1.5 Research Questions
1.6 Research Hypothesis
1.7 Model Specification
1.8 Significance of the Study
1.9 Scope and Limitation of the Study
1.10 Method of Data Collection
1.11 Organisation of the Study
1.12 Contribution to Knowledge
References
CHAPTER TWO: LITERATURE REVIEW
2.1 Introduction
2.1 Definition
2.2 Economic Growth and Development
2.3 Objective of Monetary Policy
2.4 Conflicts in Objectives of Monetary Policy
2.5 Transmission Mechanism of Monetary Policy
2.6 Money and Economic Activity
2.7 Approaches to the Study of Monetary Policy
2.8 Effectiveness of Monetary Policy
2.9 Macro-Economic Stability and Development
2.10 Empirical Review of Past Works 40
References
CHAPTER THREE: STRUCTURAL COMPOSITION
3.1 Introduction
3.2 Instruments of Monetary Policy
3.3 Monetary Policy Lag and Framework
3.4 Expansionary and Concretionary Monetary Policy
3.5 Overview of Monetary Policy in Nigeria
3.6 Soludonomical Monetary Policy on Nigerian Economy
References
CHAPTER FOUR: RESEARCH METHODOLOGY, DATA ANAL YSIS AND INTERPRETATION OF RESULTS
4.0 Introduction
4.1 Research Methodology
4.1.1 Sources of Data
4.1.2 Scope of the Study
4.1.3 Analytical Technique
4 .1.4 model Specification
4.1.5 Estimation of the Model
4.1.6 Various Statistics Test Used
4.2 Data Analysis
4.2.1 Regression Result
CHAPTER FIVE: SUMMARY, CONCLUSION AND RECOMMENDATIONS
5.1 Summary
5.2 Conclusion
5.3 Recommendations
References
CHAPTER ONE
INTRODUCTION
1.1 HISTORICAL BACKGROUND OF THE STUDY
Over the years, the objectives of monetary policy In Nigeria have remained the attainment of internal and external balances. However, emphasis on technique instrument to achieve those objectives has changed over the years. There have been two major phases in the pursuit of monetary policy namely before 1986 and since 1986. The first phase placed emphasis on the direct monetary controls while the second relies on market controls mechanism.
Before 1986, the economic environment that guide monetary policy in Nigeria was characterized by tile dominance of the oil sector, the expanding role of public sector in the economy and over dependence oil external sector.
In order to maintain price stability and a healthy balance of l myinctlt position, monetary management depends on the use of the direct monetary instruments, such as credit ceilings, selective credit controls, administered interest at1d exchange rate, as well as the prescription of tile cash reserve requirement and special deposits. The use of market-based instruments was not feasible at that point because of underdeveloped nature of the financial market and the deliberate restraint on interest rates.
The most popular instrument of monetary policy was the Issuance of, credit rationing guidelines, which primarily set the rates of- change for tile component and aggregate commercial batiks loans and advances to the private sector. The sectorial allocation of bank credit in Central Bank of Bank (CBN) guideline was to stimulate the productive sectors rued thereby stun inflationary pressures. The fixing of interest rate at relative low levels was done mainly to promote investment and growth. Occasionally, special deposits were imposed to reduce the amount of free reserve and credit- creating capacity of the banks. Minimum cash ratios were stipulated for the bank in the mid 1970s on the basis of their total deposit liabilities, but since such ratio were usually lower than those voluntarily maintained by the banks, they provide less effective as a restraint oil their credit operations.
From the mid 1970s, it became increasingly difficult to achieve the alms of monetary policies, generally, monetary aggregates, government fiscal deficit, gross domestic product growth rate, inflation rate and balance of payment position moved in undesirable directions. Compliance by banks with credit guidelines was less than satisfactory. The major source of problem in monetary management was the nature of the monetary control framework, the interest rate regime and the non-harmonization of fiscal and monetary policies.
The monetary control framework which relied heavily oil credit ceiling and selective credit controls, increasingly failed to achieve the set monetary targets as their implementation became less effective with time.
For example, the rigidity controlled interest rates regime, especially the low levels of the various rates, encouraged monetary expansion without promoting the rapid growth of the money and capital market. The low interest rates on government debts instrument did not sufficiently attract private sectors savers and the since the CBN was required by law to absorb the unsubscribe portion of government debt instrument, large amount of high powered money were usually injected into the economy. In the oil boom era, the rapid monetization of foreign exchange earnings resulted in large increase in government expenditure, which substantially contributed to monetary instability. In the early 1980s, oil receipts were not adequate to meet increasingly levels of demands and since expenditure were not rationalized, government resorted to borrowing from the central banks to finance huge deficits.
The Structural Adjustment Programmes (SAP) launched in July, 1986 brought with it a renewal philosophy of economies deregulation that would lead to tile elimination of price distortion and a resurgence of rapid growth in the noel-oil sectors. The basic instruments of a realistic exchange rate policy coupled with tile liberalization of the external trade and payment system, greater reliance market forces in the determination of prices and rational isolation of public expenditures Programmes.
Monetary policy, though leaving the same overall objectives as before, was expected to pay a unique role in restoring economic stability. In order to improve macro-economic stability, efforts were directed at the management of excess liquidity thus, a number of measures were introduces to reduce liquidity in the system. These included the reduction in the maximum ceiling on credit growth allowed for batiks, the recall of' the special deposits requirement against outstanding external payments areas to CBN from banks, abolition of the use of foreign guarantees / currency deposits as collateral for Naira loans and tile withdrawal of public sector deposits from banks to CBN. The sectoral credit guidelines were reformed to gives banks some flexibility in their credit operations, while in August 1987, all controls oil interest rate charged by banks were removed.
By mid 1992, the major hurdle to the introduction of Open Market Operation (OMO) remained the continued imposition of credit ceilings to the banks. From September 1, 1992, the CBN lifted credit ceiling oil Individuals banks that met CBN specified criteria oil selection basis in respect of statutory minimum paid up capital, capital adequacy ratio, cash reserve requirement and liquidity ratio requirement, prudent guidelines, sectoral credit allocation and sound management.
Meanwhile, the use of stabilization securities for mopping excess reserves in bank was intensified and three houses opened their doors for business from March 1993. A fourth discount house commercial in 1995 and the fifth one in 1996. On the 30th of June 1993, the CBN commenced OMO in treasury securities with banks through discount house on a weekly basis. ONTO has remained a major tool of monetary policy in Nigeria with its effective else in moderating the system's liquidity.
1.2 INTUODUCTION
Paul Flilbers (2004), define Monetary policy to be the central bank's control of fie availability of credit in the economy to achieve the broad objectives of economic policy. It is a measure taken by the monetary authority of a country to influence directly or indirectly or both, the supply of money and credit to the economy and the structure of interest rate with a view to achieve economic stability which could be in form of" sustainable rate of economic growth and development, price stability, full employment and balance of payment equilibrium. The achievement of these stipulated objectives goes long way in enhancing the development of a nation. Controls can be exerted through the monetary system by operating oil such' Aggregates as the money supply, the level and structure of interest rates, and other conditions affecting credit in the economy.
The most important objective of central bankers is price stability, but there can be others such as promoting economic development and growth, exchange rate stability and safeguarding the balance of external payments, and maintaining financial stability. Key variables in monetary policy includes: interest rates, money and credit supply, and the exchange rate. Monetary policy is regarded as an indispensable tool of economic management; it plays a key role in the promotion of the welfare of its citizen.
However, economic development is a multi-dimensional process which involves the economic and social transformation within the economy. It implies developing the real income potentials of the under develop countries by using investment to the effect of those changes and to augment those production resources, which promises to raise the real income per person, Some of the objectives of economic development are even distribution of income, price stability, full employment etc.
It is obvious that the attainment of the mention objectives required the use of certain economic policies which monetary policy is one of such policies. Proper developmental policies coupled with some set of targets formulated and well implemented will consequently reflects positive changes in the social, cultural, political and economic lives of the people.
Meanwhile, for the purpose of this study, the use of monetary policy for the achievement of economic development shall be discussed extensively.
1.3 STATEMENT OF THE PROBLEM
Monetary policy in Nigeria has often been adopted with the particular objectives of ensuring price stability, attaining a high rate of economic growth and development and maintaining a balance of payment equilibrium.
In 1971, shortly after the Nigeria civil war, the then Head of State, General Yakubu Gowon identify the following problems facing the economy: the deteriorating foreign exchange situation and the continuing unfavorable balance of payments, the critical unemployment situation in the country and the rising inflation and cost of living. As at 30thSeptember 1979, the last day of the military regime, the overall financial position of the federal government shared a deficit of N 1:4 billion (N= 1,403,621,928) which affected tile performance of the economy generally both in the public and private sectors. On the external front, our debts rose sharply from about N54 million in 1975 / 1976 to N364 million in 1978/79. The monetary measures contained in the economic stabilization measures of 1982, popularly referred to as "austerity measures" were generally restrictive, interest rate were revised upward while in 1983, tile rates of aggregate credit expansion by the commercial banks were set 25% for "Big Banks" and 35% for "Small Banks". The minimum rediscount rates (MRR) was fixed at 3% in 1983 and revised upward by 2% in 1984% and 1985%.
Despite all these measures, the macro-economic disequilibrium not only persisted but also depends. The central bank of Nigeria (CBN) reported that "the economy went into deep widespread recession" in 1983, 1981 and 1985 respectively. Gross domestic product and capacity utilization decline, the balance of payment position remained critical with falling foreign reserves, trade 'arrears, accumulation worsened, inflation hates with tile 1982 debt crises.
When it became obvious by 1985 that the earlier policy measures were not adequate to tackle Nigeria's macro-economic problems, the government adopted, on tile second half of 1986, tile Structural Adjustment Programme (SAP), which was guided strictly by tile world banks. Evidently, monetary policies under SAP, except 1988 were largely restrictive and designed to mop up what' was claimed as excess liquidity in the economy. Whereas the manipulation of monetary policy has really been emphasized' yet macro-economic problems persists.
From the above it is clear that despite the extensive lip service that has beer; paid to the need to engender economic growth and development, there has been very little growth and development, there has been very little progress ill tile pursuit of most of the above objectives. If anything, the country is poorer today than before tile oil boom. One possible way of understanding this lack of progress is by examining the nature of monetary policy in our country. This research work will surely do justice to the above problem statement.
1.4 RESEARCH OBJECTIVE
The basic and main objectives of this research work is to examine and analyze monetary policy as an instrument of development in Nigeria. These basic objectives is subdivided into the following:
To examine and show the empirical analysis of the impacts of monetary policy on an economic development in Nigeria. To critically analyze and demonstrate the relationship between money supply and inflation rates in Nigeria To examine tile effectiveness of monetary policy in Nigeria. To highlight the advantages of Soludonomical Monetary Policy on currency re-denomination and liberalization. To examine the instruments of monetary policy and the indicators. To examine and analyze various monetary measures in Nigeria To give useful suggestion and recommendation for improvement in the monetary policy instrument in Nigeria.
1.5 RESEARCH QUESTIONS'
i. What are the impacts of monetary policy on economic development in Nigeria?
ii. Is there any relationship between money supply and inflation rates? .
iii. Is there any relationship or correlation between gross Domestic Product and the key variables of monetary policy?
iv. Can monetary policy eliminate the obstacles to economic development?
v. Can monetary policy break the vicious circle of poverty In Nigeria?
1.6 RESEARCH HYPOTHESES
Asika N. (2006), defined hypothesis as a tentative statement about relationship that exists between tow or among many variables. It is a conjectural statement about relationships and need to be tested and subsequently accepted or rejected.
Osuaqwu L. (2006), also defined a hypothesis simply as an assertion, claim, or a proposition about a population. For every hypothesis, there is the null hypothesis (Ho) and the alternative (HA). project topics final year project topics and research materials
Hypothesis 1
Ho: There is no significant relationship between Gross Domestic Product and monetary policy instruments.
HA: There is a significant relationship between Gross Domestic Product and monetary policy instruments.
Hypothesis 2
Ho: There is no significant relationship between money supply and inflation rates.
HA: There is a significant relationship between money supply and inflation rates.
1.7 MODEL SPECIFICATION
Both multiple and simple regression analysis technique shall be used ill this research work to give testable approximation based on the specified models:
Model 1
GDP = F(E, Ms, R)
ai and a3 < 0 .
Where
GDP = Gross Domestic Product
Ms = Money Supply
R = Interest Rate (Lending Rate)
E = Exchange Rate
And
ao, ai, a2 and as are parameters and coefficients of individual variable.
e = error term.
Model 2
Inf = F(Ms)
Inf = βo + β1Ms + e
Where bo and bi >0
Inf = Inflation Rate.
bo and bi are parameters to be estimated while
e = error term.
1.8 SIGNIFICANCE OF STUDY
Sustainable economic development depends not only on goods planning and sound investment decisions but also on the establishment and maintenance of a solid foundation for sound and product macro-economic management that will promote domestic price stability and external sector viability as well as financial sector reforms designed to enhance efficiency in resource allocation.
An appraisal of performance of monetary policy in Nigeria up until 1993 show that despite the initial appeal offered by direct instrument of monetary control, particularly the case of implementation in an economy with rudimentary and non-competitive financial system, the costs are high in terms of inefficiency in resource allocation and ineffectiveness arising from circumvention and inequity that direct control entails.
The shift to market based management approach since 1993, on the other hand appears to be more effective at addressing the root causes of monetary instability and financial distress. This research work will however enable its to understand the fact that monetary policy issues should be accorded full attention. This is because for instance, price instability such as inflation could lead to many unforeseen problems, which will discourage investment. As such, tile multiplier effect of this could lead to unemployment and its evils, Also, this research work will attract more research work oil tile subject matter and as well be helpful to decision maker and policy makers for appropriate guidance.
1.9 SCOPE AND LIMITATION OF STUDY
The research work shall be limited, to the role of monetary policy as an instrument of economic development. The scope of monetary policy depends on the level of monetization of the economy and the level of development of the capital market. The scope is narrowed down to manageable and controllable size due to tile following constraints cost, time and limited resources at the disposal of the researchers. The study shall focus mainly on the years from 1986-2006, the reasons for the selection of those years is to take cognizance from the performance of the monetary authority during those years since it is the same government that has being operating till date, it will be proper to examine these years to appraise their level of achievement of economic development through the use of monetary policy.
During these years, the authorities initiated a broad and ambitious structural reform programme to improve public services delivery and business environment which includes measures to strengthen budgetary produce advance civil service reforms, restructure the banking system etc.
The research work is limited due to inadequate and inaccurate data base. Another constraint is the non-challant attitude of some officers and other data and governmental agencies in assisting by providing needed information.
It is the belief of the researcher that the finish work will give all insight to the role that monetary policy play In economic development,
1.10 METHOD OF DATA COLLECTION
Because of the nature of this research work, secondary source of data will be employed, these include:
i. Use of Relevant Textbook
ii. Federal Office of Statistics (FOS)
iii. Journal and other Central Bank of Nigeria publication such as:
CBN Statistical Bulletin of various years, CBN Annual Reports of various Issues among others.
1. 11 ORGANISATION OF THE STUDY
This research work comprises of five chapters:
Chapter one covers the historical background of the study, introduction, statement of the problem, research objectives, research questions, research hypothesis, model specification, significance of study, scope of study, organization of the study, contribution to knowledge and references.
Chapter two deals with review of related literature aspect. In this chapter, all ·the related literature shall be reviewed and shall be discussed extensively.
Chapter three entails the structural composition of the study where core issues on monetary policies shall be discussed extensively.
Chapter four covers the research methodology of the study, data analysis and interpretation of results.
The last chapter which is chapter five will cover the summary, discovery, policy recommendations and limitation of tile study.
1.12 CONTRIBUTION TO KNOWLEDGE
This research work focuses on the contribution of tile monetary policy in the development of Nigerian economy. It will go a long way to educate readers on the effectiveness of monetary policy in the country as well as the operations of the instruments used by the CBN to regulate the availability, cost and use of money and credit with the aim of achieving macro-economic objectives.
It will also inform readers about the conflicts in monetary policy's objectives and suggest possible recommendations that would help to overcome stick such conflicts.
This research work will also educate readers on tile advantages that the implementation of Soludonomical monetary policy on currency redenomination and liberalization will generate on the Nigerian economy.
It will also profers measures that needs to be undertaken by the economy so as to become one of the top 20 economies by the year 2020 (FSS 2020).
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