MONETARY POLICY AND ITS IMPACT ON THE ECONOMIC DEVELOPMENT OF NIGERIA 1986-2015

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CHAPTER ONE

INTRODUCTION

1.1       Background to the Study

Monetary policy constitutes the major policy thrust of the government in the realization of various macro-economic objectives. Essentially, monetary policy refers to the combination of discretionary measures designed to regulate and control the money supply in an economy by the monetary authorities with a view of achieving stated or desired macro-economic goals. Another point of view posits that monetary policy refers to any conscious action undertaken by the monetary authorities to change or regulate the availability, quantity, cost or direction of credit in any economy, in order to attain stated economic objectives (Nwankwo, 2000).

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 fluctuation undermines the role of monetary values as a store of value, and frustrate investments and growth.

Monetary policy is designed to influence the behaviour of the monetary sector; this is because changes in the behaviour of the monetary sector influence various monetary variables or aggregates. In effect, the monetary policy in force at any point in time, affects the level of money supply either by expanding it or through contraction of same. It also influences the level and structure of interest rates and thus the cost of funds in the market, depending on the prevailing economic conditions. The regulation and control of the volume and price of money is the discretionary control of money-discretionary in the sense that it is made at the instance of the monetary authorities. Monetary policy affects the non-bank publics’ holding of real and financial assets in the system. It can thus sustain a divergence between the non-bank publics’ desired portfolio holding (Ajaji, 2008). Monetary policy as a tool of economic stabilization was given by Milton Friedman who held that only money matters, and as such, monetary policy is a more potent instruments of stabilization than fiscal policy (Nzotta, 2004).

Monetary policy since 1986 to 2015, the Structural Adjustment Programme (SAP) was adopted in July, 1986 against the crash in the international oil market and the resultant deteriorating economic conditions in the country. It was designed to achieve fiscal balance and balance of payments viability by altering and restructuring the production and consumption patterns of the economy, eliminating price distortions, reducing the heavy dependence on crude oil exports and consumer goods imports, enhancing the non-oil export base and achieving sustainable growth. Other aims were to rationalize the role of the public sector and accelerate the growth potentials of the private sector. The main strategies of the programme were the deregulation of external trade and payments arrangements, the adoption of a market-determined exchange rate for the Naira, substantial reduction in complex price and administrative controls and more reliance on market forces as a major determinant of economic activity.

The objectives of monetary policy since 1986 have remained the same as in the earlier period. In line with the general philosophy of economic management under SAP, monetary policy was aimed at inducing the emergence of a market “ oriented financial system for effective mobilization of financial savings and efficient resource allocation. The main instrument of the market based operations. This is complemented by reserve requirements and discount window operations. The adoption of a market-based framework, such as OMO in an economy that had been under direct control for long, required substantial improvement in the macroeconomic, legal and regulatory environment. In order to improve macroeconomic stability, efforts were directed at the management of excess liquidity, thus a number of measures were introduced to reduce liquidity in the system. These included the reduction in the maximum ceiling on credit growth allowed for banks, the recall of the special deposits requirements against outstanding external payment arrears to CBN from banks, abolition of the use of foreign guarantees/currency deposits as collaterals for naira loans and the withdrawal of public sector deposits from banks to the CBN.

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 (OMO)in government bills can help to successfully manage the excess liquidity in the system which is created by government borrowing from the central bank is one thing that should be of interest given the enormity of this problem in the attainment of stabilization goals in the economy. In the course of this project, detailed attention will be paid to monetary policy in which its frame work and implementation will be analyzed and its impact on economic growth in the period of 1986 to 2015.

1.2       Statement of the Problem

Monetary policy is known to be a vital instrument that a country can deploy for the maintenanceof domestic price and exchange rate viability, as a critical condition for the achievement of asustainable economic growth and external viability(Amasommaet al., 2011). On a yearly basis, the monetary authorities formulate guidelines geared towards the enhancement and development of policy variables designed to ensure optimal performance of the banking industry and ultimately to advise the macroeconomic goals or objectives but in the implementation of such policyvariables, certain conflicting issues are to be addressed ranging from the ability to comply with various monetary policy guidelines as well as satisfying depositors and shareholders (Chimezie, 2012). Central bank of Nigeria uses various instruments to achieve its stated objective and these include: open market operation (OMO), required reserve ratio (RRR), bank rate, liquidity ratio, selective credit control and moral suasion. There have been various regimes of monetary policy in Nigeria. Sometimes, monetary policy is tight and at other times it is loose, mostly used to stabilize prices. The economy has also witnessed times of expansion and contraction but evidently, the reported growth has not been a sustainable one as there is evidence of growing poverty among the populace. The controversy bothering on whether or not monetary policy measures actually impact on the Nigerian economy is a problem this study sets to solve. Therefore, the main thrust of this study is to evaluate the effectiveness of the influence of monetary policy and its impact on the economic development of Nigeria. This would go a long way in assessing the extent to which the monetary policies have impacted on the growth process of Nigeria using the major objectives of monetary policy as yardstick.

 1.3       Aim and Objectives of the study

The aim of this study is to examine the monetary policy and its impact on the economic development of Nigeria. a survey of measures implemented between 1986 and 2015.The specific objectives include:

1. To assess the impact of money supply on Nigeria’s Gross Domestic Product.
2. To determine the impact of liquidity ratio on Nigeria’s Gross Domestic Product.

• To ascertain the effect of interest rate on Nigeria’s Gross Domestic Product.

1. To ascertain the effect of exchange rate on Nigeria’s Gross Domestic Product.

1.4       Research Questions

The research seeks to answer the following questions:

1. How does money supply impact on Nigeria’s Gross Domestic Product?
2. How does liquidity ratio impact on Nigeria’s Gross Domestic Product?

• What are the effects of interest rate on Nigeria’s Gross Domestic Product?

1. What are the effects of exchange rate on Nigeria’s Gross Domestic Product?

1.5       Research Hypotheses

To answer the questions in the research questions above, the following hypotheses will guide the study.

1. H₀: There is no significant relationship between money supply and Nigeria’s Gross Domestic Product.
2. H₀: There is no significant relationship between liquidity ratio and Nigeria’s Gross Domestic Product.

• H₀: There is no significant relationship between interest rate Nigeria’s Gross Domestic Product.

1. H₀: There is no significant relationship between exchange rate and Nigeria’s Gross Domestic Product.

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 in an organization.

It will ensure the efficient and effective control of the money in the economy. It will also ensure the achievement of desired national objectives. It will influence the direction of economic progress in the country. Finally, it will also establish the effectiveness of monetary policy in achieving economic growth during the period under study (1986-2015).

1.7       Scope of the Study

The research work deals on the monetary policy and its impact on the economic development of Nigeria. This research work will cover the period between 1986-2015. The data used is a secondary data, which will be obtain from the publication of central bank of Nigeria statistical bulletin and the annual reports of accounts.  The analytical tools that will be employed on this research include to test and regression analysis.

 1.8       Limitation of the Study

The major limitation of the study will be data insufficiency which makes it impossible for the study to adopt a uniform time frame for all the channels. A study of these natures cannot be done without some problem and as such it will be constrain by many factors such as:

Finance: Financial inadequacy will be the major limitation for this work. The researcher will be financially independent as a student the need for material trips and logistics needed for this research will be not adequately provided.

1.9       Operational Definition of Terms

Economic Development: Efforts that seek to improve the economic well-being and quality of life for a community by creating and/or retaining jobs and supporting or growing incomes and the tax base.

Exchange Rate:the value of one currency for the purpose of conversion to another.

Gross Domestic Product (GDP): Is the monetary value of all the finished goods and services produced within a country’s borders in a specific time period. Though GDP is usually calculated on an annual basis, it can be calculated on a quarterly basis as well.

Interest Rate: The proportion of a loan that is charged as interest to the borrower, typically expressed as an annual percentage of the loan outstanding.

Liquidity Ratio: The ratio between the liquid assets and the liabilities of a bank or other institution.

Monetary Policy: is the macroeconomic policy laid down by the central bank. It involves management of money supply and interest rate and its demand as an economic policy used by the government of a country to achieve macroeconomic objectives like inflation, consumption, growth and liquidity.

Money Supply:The total amount of money in circulation or in existence in a country.

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