The effect of Exchange Rate on Output Gap in Nigeria
Abstract
Economic theory highlights that exchange rate volatility influences the divergence between actual and potential output levels. Despite basic facts in theories, policymakers and monetarists in Nigeria pay inadequate cognizance to the link between OUG and trends in Exr. On the other way round, in advanced countries, the efficacy of monetary policy tools on OUG has exhaustively been examined, with deductions guiding accurate economic and policy decisions. In a bid to address the gap in Nigeria, this paper scrutinizes the possible effects of Exr on the output gap from 1994 to 2023, using an ex-post facto research design. The study utilized annual time series data obtained from the Nigerian Bureau of Statistics, the CBN Statistical Bulletin and the World Bank’s World Development Indicators. Autoregressive Distributed Lag (ARDL) technique was employed to analyse data based on its robustness and clarity in estimating relationships both in the short-run and long-run. Results of the findings revealed that fluctuations in Exr affected the OUG negatively both in the short-run (with coefficient -0.0745) and the long-run (with coefficient -0.1391); with statistical significance. This implies that instability in the exchange rate contributed to a wide output gap during the period considered. Sequel to these findings, this study inferred that effective exchange rate management and stable monetary supply policies are necessary to achieve sustainable output growth and forestall the output gap in Nigeria. The government needs to implement strategies that will stabilize the exchange rate and ensure its alignment with broader macroeconomic objectives.
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