1.1 BACKGROUND OF THE STUDY
rate is perhaps one of the most widely discussed topics in Nigeria today. This
is not surprising given the macro-economic importance, especially in a highly
import dependent economy as Nigeria. However, following the fluctuations of the
Naira in 1986, a policy was induced by the structural adjustment programme (SAP).This
made the subject of exchange rate, a topical issue in Nigeria. The goal of
every economy is to be stable, and to have a balanced balance of payment. As result
of using the floating foreign exchange determination system, the country
achieved that. The country also embarked on devaluation to promote export and
stabilise the rate of exchange.
Prior to 1986, Nigeria was on a fixed
exchange rate determination system. At that time, Naira was very strong in
reference to dollar. The exchange rate was one naira to one U.S dollar that is;
#1 =$1.The increasing demand for foreign exchange and the inability of the
exchange control system to evolve, an appropriate mechanism for foreign
exchange allocation in consonance with the goal of internal balance, made the
fixed exchange rate determination system to be discarded in September, 26 1986
while the structural adjustment programme (SAP) came in.
objective of the new exchange rate policy (SAP), was to pressure the value of
the domestic currency, maintain a favourable external balance alongside the
overall goal of macroeconomic stability and to determine a realistic exchange
rate for the Naira. It was between 1973 and 1979,that the new SAP policy
contributed for more than 70% of the nation's GDP and played a vital role, in
the increase of its balance of payment (BOP).
(2004) defines Foreign Exchange as the value of foreign nation’s currency in
terms of the home nation currency. In finance, exchange rate between two
currencies specify how much one currency is worth in terms of the other.
Devaluation is the fall in fixed
exchange rate which reduces the value of a currency in terms of other
currencies. What is being discussed in this study however, is determining how
the reduction in the value of a currency, with respect to the currency of
another country can lead to the fluctuation of exchange rate. It also discusses
how this reduction, affect the record of all monetary transactions, between a
country and another, whether it is visible or invisible in a period of time.
Nigeria is currently facing serious problems regarding foreign exchange ratio
(which is very low in comparison to other countries) as well as balance of
payment, which is clearly in disequilibrium and in deficit. As a result of
this, the Economy is retrogressing and the citizens are clearly suffering.
It is important to know that economic
objectives are usually the main considerations in determining the Exchange
control. From 1982 – 1983, when Nigeria’s naira has been devalued by 10%, the British
pound sterling and the naira was 1:1 ratio. The Central Bank of Nigeria applied
a Basket of currency approach from 1979, as the guide in determining the
exchange rate which is usually determined by the relative strength of the
currencies, of the country’s trading partners and the volume of trade with such
countries. Specifically, weights were attached to these countries with the
American dollars, and the British Pound Sterling on the exchange rate
mechanism. After the structural adjustment programme, the Government
established the foreign exchange market (FEM), to stabilize the exchange rate
depending on the state of the balance of payments, the rate of inflation,
domestic liquidity and employment.
Between 1986 and 2003, the Federal
Government, experimented with different exchange rate policies. None of them
made a remarkable impact in the growth of the economy’s balance of payment,
before it was changed. The inconsistency in policies, and lack of continuity in
exchange rate policies, aggregated an unstable nature for the Naira’s rate.
Therefore, the Nigeria’s external
sector was overheated and fragile and was characterized by over-valuation of
the Naira’s exchange rate. It was also characterized by accumulation of trade
arrears, continuous decline in foreign exchange earnings and increasing debt
service obligations that resulted from excessive debt burden.
OF THE PROBLEM
The foreign exchange and balance of
payment are some of the key factors of a nation’s Life. They are factors that
look into comparing a country’s relationship with other nations. The exchange
rate and balance of payment of a country, such as the inflation rate of a country,
foreign direct investment , inflation rate and interest rate which will directly
and indirectly affect the balance of payment and the Nigerian economy at large.
In 1973 and 1979, the exchange rate
was relatively stable as a result of the oil boom. Nigeria however, started
recording huge balance of payment deficits and very low foreign reserve in the
It was felt that a depreciation of
naira would relieve pressures on the balance of payment. Consequently the Naira
was devalued and the irony of this policy instrument is that, Nigeria’s foreign
trade structure did not satisfy the conditions for a successful balance of
payment policy. The country’s foreign structure is characterized by export of
crude petroleum and agricultural produce, whose prices are predetermined in the
world market with low imports and export price elasticity in demand.
Currently, the nation’s exchange rate
has fallen and has since been fluctuating. This so far has been due to
unfavourable nature of the competing powers of the nation’s currencies and the
currencies of the world. The economy for a long time has been struggling to
resolve the problems of external and internal imbalances. This has manifested
in the disequilibrium, in her balance of payment while causing a balance of
Relevant literatures and opinions on
this issue are of the view that exchange rate policy plays an important role,
of maintaining internal and external balances. On the other hand, other writers
argue that devaluation is not the best policy for the less developed country,
because of many diverse results. Some economists, disputed the ability of the change
in real exchange rate. This other to improve the trade balance of developing
countries, because of elasticity of low exports other writers said that
structural policies could however, change the long term trends in the terms of
trade, and the prospects of export-led growth.
The impact of the combination of
inflation and exchange rate volatility on balance of payment alongside stock
returns is a problem having known that the exchange rate provides evidence, for
the impact of international market on the overall health of the economy. This
is particularly so, in a developing economy like Nigeria, with high inflation
rate and very strong dependence of its economy, on foreign trade. This
therefore focuses on the examination of the predictive power of inflation and
Naira / US dollar exchange rate. It also focuses on how it affects growth and
balance of payment.
The major problem however, which the
study was designed to solve is whether the exchange rate fluctuations has any
bearing on Nigeria’s balance of payment.
1.3 RESEARCH QUESTIONS
This work is guided by the following
What is the effect of exchange rate
fluctuations on the balance of payment in Nigeria?
Does interest rate have any impact on
the balance of payment in Nigeria?
How does inflation affect the balance of
payment in Nigeria?
Is there any impact of foreign direct
investment on the balance of payment in Nigeria?
OF THE STUDY
The main objective of this study is to
examine / the effect of exchange Rate fluctuations on Nigeria’s balance of
The specific objective however
Evaluating and determining the impact of
interest rate on the balance of payment of Nigeria
To examine the effect of inflation on
Nigeria’s balance of payment
Inquiring into the impact of foreign
direct investment on the balance of payment of Nigeria.
The hypothesis tested in the Null form
There is no significant relationship
between exchange rate fluctuations and the balance of payment of Nigeria.
There is no impact of interest rate on
the balance of payment of Nigeria.
There is no impact of inflation on the
balance of payment of Nigeria.
There is no effect of foreign direct
investment on Nigeria’s balance of payment.
SIGNIFICANCE OF THE STUDY
The exchange rate and balance of
payment are the heart and foundation of Economic development. There have been
fluctuations in exchange rates over the years, alongside other controversial
factors that lead to adverse conditions in Nigeria. Inflation happens to be one
of these factors resulting from fluctuating exchange rates. Increased interest
rate is also a case, alongside decreased foreign investments,this is as a
result of foreign investors avoiding debts burden of a Nation being laid on
them. All these however, affect the economy adversely. It is therefore
significant that this study analyses exchange rate fluctuations and make known
it’s effect on growth and balance of payment. It will also bring to lime light,
its implications on policies and make recommendations which will be of immense
help to policy makers and the government
Academicians, students and lecturers
will find the information provided in this work useful. It will serve as an
enrichment or addition to the knowledge base of the study / subject.
Another significance lies in the fact
that if the cause of the unstable exchange rate of the naira is identified and
corrected, the economy will rapidly grow and develop into an advanced one. This
implies that, if the unstable exchange rate of naira is proved to be affecting
macro-economic areas (such as real exchange rate, inflation rate, the openness
of the Economy, etc.) badly, attempts will be made to stabilize it.
Importantly, aside the government, the
Central Bank of Nigeria will find this study helpful. It will be useful in
identifying the strengths and weaknesses of each foreign exchange system, and
hence adopt policies that suit the economy best. This will be for the overall
development of the economy.
This study will also assist future
researchers who intend to indulge in this same topic or other related ones.
OF THE STUDY
This study is limited to the analysis
of exchange rate, and its effect on the Nigeria’s balance of payments, with
reference to the Nigeria economy. This study covers the period of 30years i.e
from the period of 1983 – 2013. Data will be extracted from the Central Bank
Statistical bulletin, The Nigerian Bureau of Statistics, the internet and other
OF THE STUDY
The study was faced with a number of
limitation .One of such limitation however, is unreliable statistical
information especially in the Nigerian economy.
Another of such limitation is the
financial constraint of the researcher, alongside other factors. These
limitations however are not sufficient to undermine the reliability of the
information provided. The study anticipates such challenges and took steps to
minimize the effect of such disturbances on the validity of the project.