COMPLETE SCHOOL PROJECT TOPICS & MATERIALS:
CHAPTERS: Chapter 1-5
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1.1 GENERAL INTRODUCTION OF THE STUDY
The monetary approach to balance of payments explains the elimination of payments disequilibrium in terms of factors bringing the demand and supply of money into equality. It treats the supply of money as endogenous by assuming a feedback from the balance of payments through changes in international reserve to changes in the monetary liabilities of the central bank and government.
One important question of monetary policy is the extent to which the monetary authority of an open economy can affect the price level or the other arguments of the demand for money, such as the level of real output and the interest rate. If it were the case that these could not be changed, then any increase in monetary liabilities of the authority would be met by an equal and offsetting outflow of international reserve (or an equi-proportionate rise in the price of home goods and foreign exchange), and one would have to argue that monetary policy had no influence on the real response of the system.
A second purpose of this research work is to clarify the effects of external shocks on the balance of payments. The simple monetarist model may provide an incorrect answer to the question. “What is the impact effect of an increase in particular world prices on the balance of payments of a small country?” The simple model (monetarist model) tells us that the balance of payments will temporarily improve as the higher prices produce an increase in the demand for stock of money. But we shall see that the answer is far more complex – indeed the effects on balance of payments depends on whether it is import or export prices that have risen and on a more traditional consideration of elasticity of demand (George and James, 1978).
The monetary approach focuses on the supply and demand of money and the money supply process. The monetary approach hypothesizes that the balance of payment and exchange rate movement result from changes in money supply and demand. Consider what happens if the Central Bank domestic currency money supply exceeds money demand. There is pressure for the domestic currency to depreciate. The Central Bank must sell foreign exchange reserve until money is equal to money demand. There has been no net impact on the monetary base and money supply as the change in foreign exchange reserve offset the change in domestic currency. However, a balance of payment deficit as foreign exchange reserve is less than zero. Flexible exchange rate regime, the foreign exchange reserve component of monetary base does will adjust to eliminate my monetary disequilibrium.
If money supply exceeds money demand, now the domestic currency must depreciate to balance money supply and money demand. The monetary approach postulates that changes in a nation’s balance of payment or exchange rate are a monetary phenomenon (Nankai University Fan Xiaoyun, 2004).
We now want to gain a fuller understanding of the wide variety of international transactions which create a demand for and generate a supply of a given currency. The spectrum of international trade (balance of payment) and financial transaction is reflected in the “United States” international balance of payments. A nation’s balance of payment statement attempts to record all the transactions which take place between its residents (including individuals businesses and governmental units) and the residents of all foreign nations. These transactions include merchandise exports and imports, tourist expenditures, purchases and sales of shipping and insurance services, interest and dividends received or paid abroad, and so forth. Stated differently, the Nigeria’s balance of payment, shows the balance between all payments Nigeria receives from foreign countries and all the payments which we make to them (Mcconnel, 1987).
According to (Afolabi, 1990), the need for balance of payment includes living on account of the import of a country, and this will act as a signal for domestic policies. Telling us a country’s export composition and the extent to which the country depend on certain commodities for its foreign exchange earning, showing whether a country is having a deficit or a surplus in its trade transactions with the rest of the world, provision of a basis for comparison of trade relation among countries and financial integrity whether it is at a deficit or surplus position in the balance of payments which can be used to know if a country is aid-worthy or credit worthy, provision of historical data on import and export overtime which could be used for planning and also providing statistics for the net foreign investment component of the national income.
Campbell McConnel (1987) in his work said whether a country’s balance of payment is at a deficit or surpluses; if it is good or bad is dependent in firstly, the event causing them and secondly, their persistence through time. For example, the large payments deficits imposed upon the United States and other oil-importing nations by OPEC’s dramatic run-up of oil prices in 1973 – 1974 and 1979 – 1980 were very disruptive in that they forced the United States to invoke a variety of policies to curtail oil imports. Similarly, any nation’s official reserve are limited. Therefore, persistence or long-term payments deficits which must be finance by drawing dawn those reserves, would ultimately cause reserve to be depleted. In the case the nation would have to undertake specific policies to correct its balance of payments. These policies might entail painful macroeconomic adjustment, the use of trade barriers and similar restrictions, or changing the international value of its currency.
In view of this lingering problem, the government has introduced many policies so as to reduce or eliminate the pressure on balance of payments, some of these policies according to Stephen and Osagie (1985) are viz. Exchange control, foreign exchange budgeting, cutting down government expenditure abroad, import restriction through tourists production and deflation policy though the use of a combination of monetary and fiscal policies etc.
According to the CBN briefs (2004), the impact of government policies as it relates to management of external debts are to outline strategies of increasing foreign exchange earnings thereby reducing the need for external borrowing to determine the criteria for borrowing from external sources and the type of project for which external loans may be obtained. The impact of the exchange control policy is the reduction of imports by making import difficult to obtain the necessary foreign currency on invisible items such as remittance by foreigners and limit the outflow of capital account by imposing restriction on foreign investors.
To keep the value of money stable, its quantity and cost has to be controlled and maintenance of relative price stability and a healthy balance of payment position that monetary policy comes in to play an important role.
Monetary policy refers to the attempt to achieve the national economic goals of full employment without inflation, rapid economic growth and balance of payments equilibrium through the control of the economy’s supply of money and credit. Since the rate of interest is the cost of credit, monetary policy includes the control of money supply (through the control of high-powered reserves) and the rate of interest. In a wider sense, monetary policy may also be taken to include attempts to influence the external values of a nations currency, i.e. exchange rate management (in a regime of floating exchange rate) (Iyoha, 2002).
Because of the impact monetary policy has on financing conditions in the economy (not just the costs, but also the availability of credit or banks’ willingness to assume specific risks) but also because of its influence on expectations about economic activity and inflation, monetary policy can affect the prices of goods, asset prices, exchange rates as well as consumption and investment (Oesterreichische National Bank, 2002).
There are some disagreements in the usage of monetary policy. These disagreements include, how effective is the use of monetary policy as a tool of economic management? What is the channel through which monetary policy can actually work? Since monetary policy cannot be used to pursue all goals simultaneously, hence, which goal or goals should be targeted first before other? What technique should be used in the conduct of monetary policy? What is the influence of monetary and fiscal policy can be used to correct the persistence or sharply negative balance of payment? This leads us to why we are carrying out the research work, the impact of monetary policy on balance of payment.
1.2 STATEMENT OF RESEARCH PROBLEM
Because of the impact monetary policy has on financial condition (Balance of payment) in the economy (not just the cost, but also the availability of credit or bank’s willingness to assume specific risk) but also because of its influence on expectations about economic activity and inflation, monetary policy can affect the prices of goods, assets prices, exchange rate as well as consumption and investment (Oesterreichische National Bank, 2002).
Every monetary policy impulse (e.g. an interest rate change by the Central Bank, change in the monetary base resulting from changes in minimum reserve rate) has a lagged impact on the economy. Moreover, it is uncertain how exactly monetary policy impulses are transited to the price level or how real variable develop in the short and medium term.
The difficulty of the analysis is to adjust the effect of the individuals channels for external factors e.g. supply and demand shocks, technical progress or structural change may be superimposed on the effect of central bank measures, and it is difficult to isolate monetary policy effects on various variables for analytical purposes. Moreover, the time lag in the reaction of the real sector to monetary measures renders the analysis more difficult. Hence monetary policy must be forward looking (Oesterreichische National Bank, 2002).
According to Campbell McConnel (1987), a country operating on a balance of payment disequilibrium can be determined by the event causing them and the persistence through time. Hence, monetary policy then seeks to adjust the problem of disequilibrium in the balance of payment, whether the monetary measures complicates the situation or amends it. Even if the balance of payment is at equilibrium the question is “does the monetary policy measures adopted maintain or destabilizes the payment situation of the economy? What is the efficiency of monetary policy measures adopted on the macroeconomic variables (general price level, exchange rate, net export, growth, money reserve, interest rate unemployment etc) to influence balance of payment position? However, these are major issues this research work seems to clarify.
1.3 OBJECTIVES OF THE STUDY
Based on the fact that the Nigeria economy is largely underdeveloped, be set by high level of unemployment, price instability, and slow growth rate and balance of payment problems with the Naira depreciation.
Hence, the main monetary authority (CBN) must attempt to keep money supply growing at an appropriate rate to maintain internal and external stability, and therefore solve the problems arising from disequilibrium balance of payment (BOP). It is however necessary to state the objectives of this study at this point and these objectives are as follows:
i. To examine the trend in Nigeria’s balance of payment (BOP).
ii. The determination of the impact of monetary policy in Nigeria’s balance of payment.
iii. To analyze the effectiveness of monetary policy in Nigeria.
iv. To analyze how these monetary policies has been able to achieve macro-economic objective viz; economic growth, price stability, full employment and balance of payment equilibrium.
v. Finally the limitations and the advantages or strength of some of the monetary instruments used in achieving macro-economic objective will also be highlighted.
1.4 HYPOTHESES OF THE STUDY
For purpose of this study, I wish to make the hypotheses with respect to each of the parameters:
(a) the null hypothesis (Ho) to be tested is that the balance of payment is determined by the following parameters viz – inflation exchange rate, net export and M2.
N.B. M2 equals M1 plus savings deposit where M1 equals currency in circulation plus demand deposit. Hence M2 equals near money (Iyoha).
(b) The alternative hypothesis (H1:) is that balance of payment is not determined by the parameters mentioned above.
The hypothesis will be tested at 5% level of significance that is using the ordinary least square method.
1.5 SCOPE OF STUDY
The research will cover the Central Bank of Nigeria’s (CBN) assessment of the nation’s balance of payments position for a period of 1970 – 2006.
It will also highlight the impact of Central Bank of Nigeria’s monetary policy guideline on the balance of payments of the country for these periods under review.
These will also include the examination of some of the monetary instruments used in pursuance of the macro-economic objectives such as credit ceiling, sectoral allocation of loans and advances variables, rediscount rate and interest rate will be mentioned.
In the process of finding out how the monetary policy has been able to achieve the macro-economic goals such as domestic production will be looked into. The role of monetary policy in this aspect will be highly scrutinized.
1.6 METHODOLOGY OF THE STUDY
The approaches to be adopted in assessing the impact of monetary policy on Nigeria’s balance of payments are econometric analysis of the ordinary least square estimation. The OLS shall be adopted in order to establish a relationship between the dependent variable and the independent variables, i.e. the explanatory variables.
Also in achieving the objectives of this study the description of various monetary policies during the period under the study and impacts of the policies on the balance of payments is to be adopted.
Another approach also to be adopted is the description of the changes in the balance of payment position during the year under review.
1.7 SIGNIFICANCE AND IMPORTANCE OF THE STUDY
The quality of research work lies on the relevance to the society being studied. The importance is the ability to draw a relationship between monetary policy and economic activities in Nigerian economy, whether monetary policy has any impact on Nigeria’’ balance of payments.
Again, this research will be of immense value to the different sectors of the economy (both public and private) most especially the policy makers.
In conclusion, the study would be of immense help to individuals, economists, students, planners, financial analysts, stock brokers and others who might be interested in researching into the field in the future, by shedding more light into the widely held view about the relationship between monetary policy and balance of payments activities in the economy.
1.8 SOURCES OF DATA
Effort will be made to provide comprehensive data using mostly secondary data gathered from text books, Central Bank of Nigeria bullion and financial journals, economic journals, business times; articles, related textbooks on monetary policy and data from Federal Office of Statistics (FOS) Abstracts.
1.9 DATA CONSTRAINTS AND LIMITATION OF THE STUDY
Like any other study, this research work is constrained by the following factors:
i. The poor data collection system in Nigeria which makes it difficult for researchers to produce a thorough and proper researched work.
ii. The difficulty in obtaining research materials.
iii. Other factors like time, distance and finance could also be regarded as limitation to this study.
iv. Lastly, the problem associated with securing information which are regarded as “classified” or “select” in developing countries is well known. It becomes more acute in financial institution where “trade secrets” are closely guarded. There was therefore problem of extracting vital information/data from the banking system.
1.10 STRUCTURE OF THE STUDY
This research work is divided into five chapters. Chapter one shall deal directly with the general introduction of the study. Issues like the statement of the problem, objectives of the study, the significant and importance of the study, methodology, scope of the study and limitation of the study.
Chapter two of the study shall review some literature relevant to the field of study. In this chapter previous work and findings relevant to the field of study shall be thoroughly examined.
Chapter three of this study shall deal with the theoretical framework, sources of data, model specification and method of analysis.
Chapter four deals with the presentation and interpretation of the regression result as well as the policy implementation of the study.
Finally, chapter five shall summarise the study, make some recommendation and conclude the study.
1. Iyoha, M.A. (2004). Macroeconomic Theory and Policy.
2. J.C. Anyanwu (1993). Monetary Economics, theory, policy and institution. Onitsha, Nigeria.
3. J.C. Anyanwu, H.E. Daikhenan (1995) Modern Macroeconomics, Theory and Applications in Nigeria.
4. Edited by M.A. Iyoha and Chris O. Itsede (May 2003). Nigerian Economy, Structure, Growth and Development. (Dr.R.I. Udegbunam and Dr. S.L.A. Guobadia).
5. IMF Balance of Payments – Wikipedia, the free encyclopaedia (current revision).
6. Central Bank of Nigeria (CBN Briefs, pp. 72, 2000).
7. Oesterreichische National Bank – http://www.oesnb.at/en/geldp-how monetary policy impact on the economy (2002)
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