INTRODUCTION OF THE STUDY
The monetary approach
to balance of payments explains the elimination of payments disequilibrium in
terms of factors bringing the demand and supply of money into equality. It treats the supply of money as endogenous
by assuming a feedback from the balance of payments through changes in
international reserve to changes in the monetary liabilities of the central
bank and government.
question of monetary policy is the extent to which the monetary authority of an
open economy can affect the price level or the other arguments of the demand
for money, such as the level of real output and the interest rate. If it were the case that these could not be changed,
then any increase in monetary liabilities of the authority would be met by an
equal and offsetting outflow of international reserve (or an equi-proportionate
rise in the price of home goods and foreign exchange), and one would have to
argue that monetary policy had no influence on the real response of the system.
A second purpose of
this research work is to clarify the effects of external shocks on the balance
of payments. The simple monetarist model
may provide an incorrect answer to the question. “What is the impact effect of an increase in
particular world prices on the balance of payments of a small country?” The simple model (monetarist model) tells us
that the balance of payments will temporarily improve as the higher prices
produce an increase in the demand for stock of money. But we shall see that the answer is far more
complex – indeed the effects on balance of payments depends on whether it is
import or export prices that have risen and on a more traditional consideration
of elasticity of demand (George and James, 1978).
The monetary approach
focuses on the supply and demand of money and the money supply process. The monetary approach hypothesizes that the
balance of payment and exchange rate movement result from changes in money supply
and demand. Consider what happens if the
Central Bank domestic currency money supply exceeds money demand. There is pressure for the domestic currency
to depreciate. The Central Bank must
sell foreign exchange reserve until money is equal to money demand. There has been no net impact on the monetary
base and money supply as the change in foreign exchange reserve offset the
change in domestic currency. However, a
balance of payment deficit as foreign exchange reserve is less than zero. Flexible exchange rate regime, the foreign
exchange reserve component of monetary base does will adjust to eliminate my
If money supply
exceeds money demand, now the domestic currency must depreciate to balance
money supply and money demand. The
monetary approach postulates that changes in a nation’s balance of payment or
exchange rate are a monetary phenomenon (Nankai University Fan Xiaoyun, 2004).
We now want to gain a
fuller understanding of the wide variety of international transactions which
create a demand for and generate a supply of a given currency. The spectrum of international trade (balance
of payment) and financial transaction is reflected in the “United States”
international balance of payments. A
nation’s balance of payment statement attempts to record all the transactions
which take place between its residents (including individuals businesses and
governmental units) and the residents of all foreign nations. These transactions include merchandise
exports and imports, tourist expenditures, purchases and sales of shipping and
insurance services, interest and dividends received or paid abroad, and so
forth. Stated differently, the Nigeria’s balance of payment, shows the balance
between all payments Nigeria
receives from foreign countries and all the payments which we make to them
(Afolabi, 1990), the need for balance of payment includes living on account of
the import of a country, and this will act as a signal for domestic policies.
Telling us a country’s export composition and the extent to which the country
depend on certain commodities for its foreign exchange earning, showing whether
a country is having a deficit or a surplus in its trade transactions with the
rest of the world, provision of a basis for comparison of trade relation among
countries and financial integrity whether it is at a deficit or surplus
position in the balance of payments which can be used to know if a country is
aid-worthy or credit worthy, provision of historical data on import and export
overtime which could be used for planning and also providing statistics for the
net foreign investment component of the national income.
(1987) in his work said whether a country’s balance of payment is at a deficit
or surpluses; if it is good or bad is dependent in firstly, the event causing
them and secondly, their persistence through time. For example, the large payments deficits
imposed upon the United States
and other oil-importing nations by OPEC’s dramatic run-up of oil prices in 1973
– 1974 and 1979 – 1980 were very disruptive in that they forced the United States
to invoke a variety of policies to curtail oil imports. Similarly, any nation’s official reserve are
limited. Therefore, persistence or
long-term payments deficits which must be finance by drawing dawn those
reserves, would ultimately cause reserve to be depleted. In the case the nation would have to
undertake specific policies to correct its balance of payments. These policies
might entail painful macroeconomic adjustment, the use of trade barriers and
similar restrictions, or changing the international value of its currency.
In view of this
lingering problem, the government has introduced many policies so as to reduce
or eliminate the pressure on balance of payments, some of these policies according
to Stephen and Osagie (1985) are viz.
Exchange control, foreign exchange budgeting, cutting down government
expenditure abroad, import restriction through tourists production and
deflation policy though the use of a combination of monetary and fiscal
According to the CBN
briefs (2004), the impact of government policies as it relates to management of
external debts are to outline strategies of increasing foreign exchange
earnings thereby reducing the need for external borrowing to determine the
criteria for borrowing from external sources and the type of project for which
external loans may be obtained. The
impact of the exchange control policy is the reduction of imports by making
import difficult to obtain the necessary foreign currency on invisible items
such as remittance by foreigners and limit the outflow of capital account by
imposing restriction on foreign investors.
To keep the value of
money stable, its quantity and cost has to be controlled and maintenance of
relative price stability and a healthy balance of payment position that
monetary policy comes in to play an important role.
refers to the attempt to achieve the
national economic goals of full employment without inflation, rapid
economic growth and balance of payments equilibrium through the control of the
economy’s supply of money and credit.
Since the rate of interest is the cost of credit, monetary policy
includes the control of money supply (through the control of high-powered
reserves) and the rate of interest. In a
wider sense, monetary policy may also be taken to include attempts to influence
the external values of a nations currency, i.e. exchange rate management (in a
regime of floating exchange rate) (Iyoha, 2002).
Because of the impact
monetary policy has on financing conditions in the economy (not just the costs,
but also the availability of credit or banks’ willingness to assume specific
risks) but also because of its influence on expectations about economic
activity and inflation, monetary policy can affect the prices of goods, asset
prices, exchange rates as well as consumption and investment (Oesterreichische
National Bank, 2002).
There are some
disagreements in the usage of monetary policy.
These disagreements include, how effective is the use of monetary policy
as a tool of economic management? What
is the channel through which monetary policy can actually work? Since monetary policy cannot be used to
pursue all goals simultaneously, hence, which goal or goals should be targeted
first before other? What technique
should be used in the conduct of monetary policy? What is the influence of monetary and fiscal
policy can be used to correct the persistence or sharply negative balance of
payment? This leads us to why we are
carrying out the research work, the impact of monetary policy on balance of
STATEMENT OF RESEARCH PROBLEM
Because of the impact
monetary policy has on financial condition (Balance of payment) in the economy
(not just the cost, but also the availability of credit or bank’s willingness
to assume specific risk) but also because of its influence on expectations
about economic activity and inflation, monetary policy can affect the prices of
goods, assets prices, exchange rate as well as consumption and investment (Oesterreichische
National Bank, 2002).
Every monetary policy
impulse (e.g. an interest rate change by the Central Bank, change in the
monetary base resulting from changes in minimum reserve rate) has a lagged
impact on the economy. Moreover, it is
uncertain how exactly monetary policy impulses are transited to the price level
or how real variable develop in the short and medium term.
The difficulty of the
analysis is to adjust the effect of the individuals channels for external
factors e.g. supply and demand shocks, technical progress or structural change
may be superimposed on the effect of central bank measures, and it is difficult
to isolate monetary policy effects on various variables for analytical
purposes. Moreover, the time lag in the
reaction of the real sector to monetary measures renders the analysis more
difficult. Hence monetary policy must be
forward looking (Oesterreichische National Bank, 2002).
According to Campbell
McConnel (1987), a country operating on a balance of payment disequilibrium can
be determined by the event causing them and the persistence through time. Hence, monetary policy then seeks to adjust
the problem of disequilibrium in the balance of payment, whether the monetary
measures complicates the situation or amends it. Even if the balance of payment is at
equilibrium the question is “does the monetary policy measures adopted maintain
or destabilizes the payment situation of the economy? What is the efficiency of monetary policy
measures adopted on the macroeconomic variables (general price level, exchange
rate, net export, growth, money reserve, interest rate unemployment etc) to
influence balance of payment position?
However, these are major issues this research work seems to clarify.
OBJECTIVES OF THE STUDY
Based on the fact
that the Nigeria
economy is largely underdeveloped, be set by high level of unemployment, price
instability, and slow growth rate and balance of payment problems with the
Hence, the main
monetary authority (CBN) must attempt to keep money supply growing at an
appropriate rate to maintain internal and external stability, and therefore
solve the problems arising from disequilibrium balance of payment (BOP). It is however necessary to state the objectives
of this study at this point and these objectives are as follows:
To examine the
trend in Nigeria’s
balance of payment (BOP).
determination of the impact of monetary policy in Nigeria’s balance of payment.
To analyze the
effectiveness of monetary policy in Nigeria.
To analyze how
these monetary policies has been able to achieve macro-economic objective viz;
economic growth, price stability, full employment and balance of payment
limitations and the advantages or strength of some of the monetary instruments
used in achieving macro-economic objective will also be highlighted.
HYPOTHESES OF THE STUDY
For purpose of this
study, I wish to make the hypotheses with respect to each of the parameters:
hypothesis (Ho) to be tested is that the balance of payment is determined by
the following parameters viz – inflation exchange rate, net export and M2.
N.B. M2 equals M1
plus savings deposit where M1 equals currency in circulation plus
demand deposit. Hence M2
equals near money (Iyoha).
alternative hypothesis (H1:) is that balance of payment is not determined by
the parameters mentioned above.
The hypothesis will
be tested at 5% level of significance that is using the ordinary least square
SCOPE OF STUDY
The research will
cover the Central Bank of Nigeria’s
(CBN) assessment of the nation’s balance of payments position for a period of
1970 – 2006.
It will also
highlight the impact of Central Bank of Nigeria’s monetary policy guideline
on the balance of payments of the country for these periods under review.
These will also
include the examination of some of the monetary instruments used in pursuance
of the macro-economic objectives such as credit ceiling, sectoral allocation of
loans and advances variables, rediscount rate and interest rate will be
In the process of
finding out how the monetary policy has been able to achieve the macro-economic
goals such as domestic production will be looked into. The role of monetary policy in this aspect
will be highly scrutinized.
METHODOLOGY OF THE STUDY
The approaches to be
adopted in assessing the impact of monetary policy on Nigeria’s
balance of payments are econometric analysis of the ordinary least square
estimation. The OLS shall be adopted in
order to establish a relationship between the dependent variable and the
independent variables, i.e. the explanatory variables.
Also in achieving the
objectives of this study the description of various monetary policies during
the period under the study and impacts of the policies on the balance of
payments is to be adopted.
Another approach also
to be adopted is the description of the changes in the balance of payment
position during the year under review.
SIGNIFICANCE AND IMPORTANCE OF THE STUDY
The quality of
research work lies on the relevance to the society being studied. The importance is the ability to draw a
relationship between monetary policy and economic activities in Nigerian
economy, whether monetary policy has any impact on Nigeria'’ balance of payments.
Again, this research
will be of immense value to the different sectors of the economy (both public
and private) most especially the policy makers.
In conclusion, the
study would be of immense help to individuals, economists, students, planners,
financial analysts, stock brokers and others who might be interested in
researching into the field in the future, by shedding more light into the
widely held view about the relationship between monetary policy and balance of
payments activities in the economy.
SOURCES OF DATA
Effort will be made
to provide comprehensive data using mostly secondary data gathered from text
books, Central Bank of Nigeria bullion and financial journals, economic
journals, business times; articles, related textbooks on monetary policy and
data from Federal Office of Statistics (FOS) Abstracts.
DATA CONSTRAINTS AND LIMITATION OF THE STUDY
Like any other study,
this research work is constrained by the following factors:
The poor data
collection system in Nigeria
which makes it difficult for researchers to produce a thorough and proper
in obtaining research materials.
like time, distance and finance could also be regarded as limitation to this
problem associated with securing information which are regarded as “classified”
or “select” in developing countries is well known. It becomes more acute in financial
institution where “trade secrets” are closely guarded. There was therefore problem of extracting
vital information/data from the banking system.
STRUCTURE OF THE STUDY
This research work is
divided into five chapters. Chapter one
shall deal directly with the general introduction of the study. Issues like the statement of the problem,
objectives of the study, the significant and importance of the study,
methodology, scope of the study and limitation of the study.
Chapter two of the
study shall review some literature relevant to the field of study. In this chapter previous work and findings
relevant to the field of study shall be thoroughly examined.
Chapter three of this
study shall deal with the theoretical framework, sources of data, model
specification and method of analysis.
Chapter four deals
with the presentation and interpretation of the regression result as well as
the policy implementation of the study.
Finally, chapter five
shall summarise the study, make some recommendation and conclude the study.
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J.C. Anyanwu (1993). Monetary
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J.C. Anyanwu, H.E. Daikhenan
(1995) Modern Macroeconomics, Theory and Applications in Nigeria.
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O. Itsede (May 2003). Nigerian Economy, Structure, Growth and Development. (Dr.R.I. Udegbunam and Dr. S.L.A.
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