Effectiveness of The Monetary Policy in Nigeria

Effectiveness of the Monetary Policy in Nigeria
Introduction to the Nigerian Monetary Policy Regime

Formulating and implementing the monetary policy in order to curb inflation and ensure
stability in the economy were the main tasks which were bestowed upon the Central Bank of
Nigeria (CBN) on its inception in 1959. Until June 30th, 1993 direct measures to control
money supply were used by the CBN such as direct interest regulation (Fixing of the
lending and deposit rates for commercial banks), credit ceilings and floors- a maximum and
minimum limit to the amount which could be given as a loan. However, these instruments
were abandoned due to numerous disadvantages- reduced competition, increased moral
hazard because the banks knowingly violated rules and regulations and allocative
inefficiency.
Indirect Monetary Policy Instruments were adopted to supplant Direct Monetary Policy
Instruments. The most prominently used being Reserve Requirements, Minimum Re-
Discount Rates (MRR) and Open Market Operations (OMO). By Reserve Requirements
commercial banks are obligated to keep a certain percentage of their deposits with the CBN
to be used in case of emergencies, the MRR or the Monetary Policy Rate (MPR) is the rate
at which the CBN lends money to commercial banks and is decided by the CBN itself. Open
Market Operations refers to the purchase and sale of securities by the CBN to/from the
financial markets in order to reduce/increase the volume of money in the economy.
Data Presentation and Analysis

- The time period of 1980-2006 was selected as it resides within both systems of the
Monetary Policy adopted by the CBN.
- The analysis of the data during the time period of 1980-1993 gives us the
effectiveness of the Indirect Monetary Policy Instruments utilised.
- The analysis of the data during the time period of 1993-2006 gives us the
effectiveness of the Direct Monetary Policy Instruments utilised.
Some assumptions of the Monetarists who analysed the data for this time period :
 There exists a direct relationship between the Money Supply in an economy
and Inflation- an increase in money supply causes an increase in inflation and
a decrease in Money Supply causes a decrease in inflation.
 An inverse relationship exists between interest rates & output and inflation- an
increase in interest rates or output causes a decline in inflation whereas a
decrease in interest rates or output causes an increase in inflation.
Given the period under review, inflation continued to be erratic and uncontrollable for the
most part. Inflation was the lowest in 1986 where it stood at 5.4% and it peaked at 72.8% in
1995.
The goal of single digit inflation was achieved for only a third of the entire period- Only in 9
out of the 27 years was inflation below 10%. Out of the 18 years in which inflation was
above 10%, inflation was even higher than 20% in 10 of these years going as high as 44.5%,
57%, 57.2% in 1992,1993 and 1994 respectively. Money Supply regulation was anything but
stable with Ms (Money Supply) being increased by 3.2% in 1986 to it being increased by
22% in 1987, even in the late 90s and early 2000s the same phenomenon could be observed
with Ms being increased by 33% in 1999, by 48.8% in 2000 and suddenly by 27% in 2001.
All these measures to control inflation and ensure stability were so erratic and non-uniform in
nature that they ran contrary to the goal of stability itself.
In 23 out of the 27 years, interest rates remained above 10% with rates going as high as
29.8% in 1992 and 24.4% in 2002. This caused a discouragement for investments and led to
declines in output for most of the late 90s. The Naira (Nigerian currency) maintained a strong
position against the dollar for the first 5 years under review with $1 exchanging for 0.55
Naira in 1980 and for 0.89 Naira in 1985. This trend reversed in 1986 as the Dollar
exchanged for 2.02 Naira and the exchange rates continued to deteriorate from then onwards.
The exchange rate deteriorated to $1=92.34 Naira in 1990 and continued to depreciate to
128.28 Naira being exchanged for $1 by 2006.
The Monetarists’ dilemma by showing an inverse relationship between Money Supply and
Inflation which indicates that inflation in the case of the Nigerian Economy might not be a
monetary phenomenon at all. The positive relationship between output, interest rates and
inflation ran contrary to the expectations of the monetary theorists.
Exchange rates showed an inverse relationship with inflation, which indicates that some of
the country’s inflation is imported, since an increase in exchange rates causes a decline in
inflation.
Conclusion
The belief that inflation is largely a monetary phenomenon has been put to the test and is
simply not true in the case of Nigeria as indicated by the weak influence of monetary
variables on inflation. This could be a result of the lack of proper institutions and mechanisms
in place to ensure monetary policy transmission. It can be concluded that both direct and
indirect instruments of monetary policy have failed to control inflation and ensure stability in
the economy which is the chief initiative of any Central Bank.
Independence of the Central Bank of Nigeria

Evolution of CBN’s Independence:
CBN independence began with the enactment of the CBN Decree No.24, 1991. The Banks
and Other Financial Institutions Act, 1991 (BOFIA) was a historic achievement for the bank
as it conferred on the CBN a degree of autonomy with regards to the discharge of its
mandate. Owing to the rapid changes and reforms of monetary policy in the 2000s, a need to
review and amend the existing legal setup arose to bolster monetary policy and its
implementation.
The CBN amended Decree No. 3 and BOFIA amended Decree No.4 of 1997 placed the CBN
under the direct supervision of the Finance Ministry. These amendments granted a large
amount of powers to the Ministry and left the Central Bank with a smaller role in monitoring
financial institutions and exercising its discretionary powers. In 1998, the CBN amendment
Decree No. 37 was passed which annulled the earlier decree.
Finally, in 2007, the CBN Act was passed by the National Assembly (NASS) which
strengthened the independence of Nigeria’s Central Bank.
Key Features of the CBN Act of 2007:
i) Independence of the Bank (Section 1(3)): This section states that “In order to
facilitate the achievement of its mandate under this Act and the Banks and Other
Financial Institutions Act, and in line with the objective of promoting stability and
continuity in economic management, the Bank shall be an independent body in the
discharge of its functions”. It grants the bank with the power to initiate Open
Market Operations (OMOs) and issue securities such as treasury bills to manage
the economy’s liquidity.
ii) Objectives of the Bank (Section 2): The object of price stability, upon which
economic growth and development is predicated, is explicitly listed as the bank’s
core mandate.
iii) Appointment and Qualifications of the Members of the Board (Sections 8, 10
& 11): The appointment of the Governor, Deputy Governors and non-executive
members of the board will be done by the President with confirmation from the
Senate, even for dismissing the Governor. The Governor is required to give
periodic reports to the President about the bank’s affairs including a report on the
budget. He/she is also required to give a report of its affairs to the National
Assembly (NASS).
iv) Appointment of the Monetary Policy Committee (MPC) (Section12): The
MPC is formed to achieve the goal of price stability. To improve monetary policy
formulation, the MPC, with the Governor acting as Chairman has been set up
formally with members from in and outside the bank. Besides the Governor, four
Deputy Governors, two external members selected by the Governor, three external
members selected by the President and two members as representatives of the
Board constitute the membership of the MPC. These appointments are made with
a view to improve the quality of the policies formed, introduce a greater degree of
transparency to the functionings of the Committee as well as to facilitate the
transmission mechanism. The MPC meetings are held every two months.
v) External Reserves Management (Section 24): The Act grants the CBN the
discretion to invest foreign reserves in the financial instruments and assets that it
deems necessary. It also has the authority to invest some of the external reserves
in a development financial institution through loans or debentures with the
appropriate restrictions in place.
Sources
1) Monetary Policy and Economic Growth in Nigeria: A Critical Evaluation
http://www.iosrjournals.org/iosr-jbm/papers/Vol17-issue2/Version-
2/N01722110119.pdf#:~:text=The%20failure%20of%20the%20monetary%20policy
%20in%20curbing,And%20Economic%20Growth%20In%20Nigeria%3A%20A
%20Critical%20Evaluation
2) NTAEGO African Journal of Business

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Nigeria_The_Monetarists%27_Dilemma

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Effectiveness of The Monetary Policy in Nigeria

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Effectiveness of the Monetary Policy in Nigeria

Introduction to the Nigerian Monetary Policy Regime

Data Presentation and Analysis

Independence of the Central Bank of Nigeria

2) NTAEGO African Journal of Business

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