Determinants of Exchange Rate Sensitivity on the Nigerian Manufacturing Sector

Abstract

This paper examines the exchange rate sensitivity and its determinants with special focus on the Nigerian Manufacturing Sector (1980-2014). The motivation for this study is driven by the exposure of Nigeria’s exchange rate and economy excessively to external shocks as revealed by the effects of the recent global economic crisis on Nigeria. In doing this, Error Correction Model (ECM), Augmented Dickey-Fuller (ADF) testand the Johansen co-integration technique were adopted to examine the impact of exchange rate fluctuations on Nigeria’s manufacturing sector. The variables employed include: Average Official Exchange Rate of Naira vis-a-vis US Dollar and Nominal Effective Exchange Rate Indices, interest rate, inflation rate, Balance of Payment (BOP), real Gross Domestic Product (GDP), manufacturing index of ordinary shares listed on the Nigerian Stock Exchange, and average manufacturing capacity utilisation rates. The result of the empirical analyses showed that the Nigerian manufacturing sector is not sensitive to exchange rate fluctuations in the long-run. Also, it was found that interest rate and Gross Domestic Product are the main determinants of exchange rates in Nigeria but interest rateis insignificant in the determination of exchange rate in the country. Some of the recommendations made in this study are that: the monetary authorities should maintain stability of the exchange rates through proper management so as to encourage local production, the monetary authorities must endeavour to force the interest rate down and continue to advocate for priority lending to the manufacturing firms. Equally, the government must continue to discourage importation in order to maintain exchange rate stability.