Fiscal dominance and exchange rate stability in Nigeria

Taofeek Olusola Ayinde,Abiodun S Bankole

doi:10.1186/s43093-021-00076-7

Taofeek Olusola Ayinde, Abiodun S Bankole

Open Access

https://doi.org/10.1186/s43093-021-00076-7

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Abstract

This study investigates fiscal dominance and exchange rate stability in Nigeria. The period of investigation spanned 1981q1–2018q4, and the Structural Vector Autoregression (SVAR) technique was employed to test the fiscal dominance hypothesis and further examine the shock transmission effects of fiscal deficit components such as budget deficit and public debt on exchange rate movement in Nigeria. As a robustness, Autoregressive Distributed Lag (ARDL) technique was employed to analyse the shock transmission effects of these components on the movement of exchange rate in Nigeria. More so, granger causality test was conducted to trace the direction of causality among the fiscal deficit components and the exchange rates. The results show that budget deficit and changes in exchange rates in Nigeria have bi-causal relationship, while public debt could not granger cause exchange rate movement in the country. The SVAR estimates suggests that exchange rate movement in Nigeria reacted only to the shock effects of financial openness and the ARDL results indicate that both public debt and budget deficit have destabilizing effects on exchange rates in Nigeria.

Highlights

Fiscal and monetary policies are to be coordinated towards achieving the macroeconomic objectives in an economy
The economic intuition provided for the use of the Autoregressive Distributed Lag (ARDL) model is to trace the dynamic paths of fiscal dominance and exchange rate stability in Nigeria
2.89 of gross domestic product, monetary growth, inflation, foreign interest rate and the exchange rate movement in Nigeria. The implication from this is that the level of public debt and budget deficits, along with other variables, are not destabilizing for exchange rate dynamics in Nigeria into the long-run situation

Summary

Introduction

Fiscal and monetary policies are to be coordinated towards achieving the macroeconomic objectives in an economy. The total debt profile of Nigeria was characterized by debt from external sources during this decade, it still indicates that the dynamics of the debt profile will affect the price stability objective of the monetary authority This trend has resurfaced again since the year 2014 as the holdings of the CBN in the domestic debt outstanding of the Federal Government has increased consistently to N2,005.44Billion in the year 2018 [4]. In terms of general equilibrium framework that captured the concerns for exchange rate pass-through and nominal prices, the study of Cebi [5] found evidence for the dominance of monetary policy in stabilizing prices. Research efforts at investigating these objectives have been undertaken separately This suggests that the empirical investigations on fiscal dominance and exchange rate stability are still open and remain an empirical question that this study seeks to answer.

Methods

Conclusion

Conclusions