ABSTRACT
The study examined the impact of balance of payment on reserves in Nigeria using time series data from 1985 to 2019. The secondary data for the study were sourced from Central banks of Nigeria’s statistical bulletin and National Bureau of statistic of various editions. External reserves (EXTRV) is the dependent variable while current account balance (Cab), capital account balance (KAb), errors and omissions (ERO) and exchange rate (EXCR) are the independent variables. The data were subjected to Augmented Dickey Fuller and Philips-Perron test to ascertain the time series properties. Descriptive statistics was used to assess the socioeconomic characteristics of the variables. To verify the possibility of autocorrelations in the regression model. Durbin watson test was employed while ARDL approach was used to examine the likely interaction among the variables under the study in the long-run and short-run basis. The study revealed that: errors and omission had no significantly impact on external reserves, capital account balance significantly influenced external reserves while exchange rate was negative and insignificantly influencing external reserves in Nigeria within the chosen period. The coefficient of determination (R2) values of 96.6% showed high level of goodness of fit of the regression line while F-statistics value of 47.65% showed the overall significance of the regression model. In line with the findings, the study recommended that: Nigeria’s monetary authority’s efforts should be directed towards effective balance of payment management that would lead to favourable consequences on the external reserves positions in the country, domestic production should be improved to encourage export transaction in order to keep balance of payment deficit in check, government should put in place appropriate policies that would encourage diversification in the economy.
TABLE OF CONTENTS
Title page i
Declaration ii
Certification iii
Dedication iv
Acknowledgements v
Table of contents vi
List of tables vii
Abstract viii
CHAPTER 1: INTRODUCTION
1.1 Background of
the Study 1
1.2 Statement of the Problem 3
1.3. Objectives of the Study 4
1.4. Research Questions 5
1.5. Research Hypotheses 5
1.6. Scope of the Study 5
1.7. Significance of the Study 5
1.8. Limitation of the Study 6
1.9. Operational Definition of terms 6
CHAPTER 2: REVIEW OF RELATED
LITERATURE
2.1. Conceptual Framework 8
2.1.1 Concept of balance payments 8
2.1.1.1. Composition of balance of payment 9
2.1.1.2 Balance of payment problems (Disequilibrium) 12
2.1.1.3 Relationship between current
account capital account, errors and
omission and balance of payment
2.1.1.4. Causes of Disequilibrium in the
balance of payment 13
2.1.1.5.
Measures of correcting balance of payment deficits (BOP Adjustment) 15
2.1.2.. Concept external reserves 18
2.1.2.1. Source of external reserves in Nigeria 20
2.1.2.2. Composition of external reserves
in Nigeria 21
2.1.2.3.
Reason for holding reserves 22
2.1.2.4 Management of Nigeria’s
external reserves 24
2.1.2.5. Objectives of external reserves management in Nigeria 25
2.1.2.6 Role of monetary policy in a developing economy 26
2.1.3 Exchange rate policy in Nigeria 27
2.1.4 Factors affecting rate of exchange 29
2.1.5 Exportation as a tool for economic growth 32
2.2. Theoretical Framework 33
2.2.1. Theory
of policy instruments 33
2.2.2 Income-absorption approach 33
2.2.3 Elasticity approach 34
2.2.4 Monetary approach 34
2.3 Review of Empirical Literature 35
2.3.1 Empirical review of research variables 35
2.3.2 Balance of payment 35
2.3.3 External reserves 41
2.4 Summary of empirical
review 45
2.5. Gap in literature 52
CHAPTER 3: METHODOLOGY
3. 1. Research Design 53
3.2. Area of Study 53
3.3. Sources of Data 53
3.4. Model Specification 53
3.5. Method of Data Analysis 56
3.5.1 Description of variables 56
3.5.2 Dependent variables (EXTR) 56
3.5.3 Independent variables 57
3.6. Pre-estimation Test 58
3.6.1 Unit-root test 58
3.6.2 Co-integration test 59
3.7. Statistical test 59
3.7.1 Test of significance 59
3.7.2 T-Statistic (T-test) 59
3.7.3 F-test 60
3.8. Econometric procedure (test) 60
3.8.1 Test for multicolinearity 60
3.8.2 Test for autocorrelation 60
3.8.3 Test for normality 60
3.8.4 Test for heteroscedasticity 60
3.8.5 Regression specification error test 61
CHAPTER 4: PRESENTATION OF
DATA, ANALYSIS AND DISCUSSIONS
4.1 Data Presentation 62
4.2. Test for Unit Root 64
4.3 ARDL Regression Result 69
4.4 Hypotheses Testing 71
4.5 Discussion of Findings 73
CHAPTER
5: SUMMARY OF FINDINGS, CONCLUSION AND
RECOMMENDATIONS
5.1 Summary of Findings 75
5.2. Conclusion 75
5.3. Recommendations 76
5.4. Contribution to Knowledge 77
References 78
Appendices 81
LIST OF TABLES
2.1 Summary of Empirical Review 47
4.1 Data Presentation 62
4.2 Description Statistics 63
4.3 Augmented Dickey Fuller (ADF) and Phillips Perron (PP) Test for
Unit Root 64
4.4 ARDL Bounds Test (Null Hypothesis: No Long Run Relationships
exist) 65
4.5 ARDL Co-integration and Long-Run Form for the External Reserve
Model 66
4.6 ARDL Error Correction Regression 67
4.7 ARDL Regression Result 69
CHAPTER 1
INTRODUCTION
1.1 BACKGROUND TO THE STUDY
One of the most
important objectives of monetary policy in recent years has been to maintain
equilibrium in the balance of payments. The pursuit of this goal has been
necessitated by the phenomenal growth in the world trade as against the growth
of international liquidity. Theoretically and empirically, deficit in the
balance of payments may not necessarily retard the attainment of other
objectives unless deficit is chronic and persistent overtime. In the
circumstance described above, deficit in the balance of payments can lead to
excessive outflow of foreign exchange. A country with a net debt must be at a
surplus to repay the debt over a reasonably short period of time. Once any debt
has been repaid and an adequate reserves attained, a zero balance maintained
over time would meet the policy objective.
The balance of
payments is an important aggregate in appreciating the flow of resources in
international trade. Balance of payments is a country’s state of affairs in
international trade. According to Nzotta (2015), balance of payments is defined
as a systematic record of economic transactions between residents of a country
and non-residents for a given year. Balance of payments is the periodic
statement of accounts (usually annual) showing the status of a country’s
transactions with other countries and institutions (Ezirim, 2005). In the words
of Imoisi (2012), balance of payments is defined as a systematic statistical
record that summarizes a country’s international transactions with the rest of
the world for a given period of time say one year. It summarizes a nation’s
financial transactions with the outside world for any particular year. These
transactions involve the provision and receipts of real resources- goods,
services and income, the specific changes in claims on and liabilities to the
rest of the world. Specifically, the
balance of payments records transactions in goods and services and income, changes
in ownership and other changes in an economy’s holding of monetary gold,
Special Drawing Rights (SDRs), unrequited or unilateral transfers.
Foreign exchange is
a means of effecting payments for international transactions. When foreign
exchange disbursements or expenditures are lower than foreign exchange
receipts, the surplus gives rise to foreign reserves. Thus, foreign reserves
represent balances of foreign exchange surpluses of a country that accumulated
over time.
IMF defined
international reserves as “consisting of official public sector foreign assets
that are readily available to, and controlled by the monetary authorities for
direct financing of payment imbalances, and directly regulating the magnitude
of such imbalances, through intervention in the exchange markets to affect the
currency exchange rate and/or for other purposes.” According to Onoh (2007), external reserves
consist of the surplus or the surpluses of the balance of payments of the past
periods of transactions between Nigeria and the rest of the world. They as well
consist of foreign exchange and other approved near liquid foreign assets.
In the 1990s, the foreign exchange reserves of developing countries
as a group were a small percentage of the volume of cash in the hands of the
public. The monetary authorities in many countries therefore did not have to
issue interest-yielding securities on a large scale to finance reserves
accumulation. The financial implications of intervention were consequently
limited. One simple indication of this is the movement in the difference
between the local currency value of foreign reserves and currency held by the
public.
The need to accumulate foreign reserves is important,
especially if it is to act as precautionary motive for the absorption of
external shocks. Reserves increase significantly in countries with unlimited
exchange rate flexibility, as economies with flexible exchange rate are not
expected to maintain currency peg, thereby requiring fewer amount of foreign
exchange reserves. Countries hold international reserves to stabilize exchange
rates and to sustain the random disturbances in resources flows. Reserves are
held to finance shortfalls in foreign exchange receipts and to safeguard the
international value of the domestic currency. Countries still hold reserves as
an important monetary tool and a means of self-insuring, against major
financial crisis.
In the words of
Jhingan (2014), international liquidity provides measure of a country’s ability
to finance its deficit in balance of payments without resorting to adjustment
measures. Holding external reserves can help to give confidence in the
country’s ability to pay.
1.2 STATEMENT OF THE PROBLEM
Balance of payments deficits and low level of foreign
reserves have been the concern of government and have been subjected to
extensive empirical research. The issue of current account balance has gained a
significant attention of researchers especially with the recent persistent
current account balance deficit witnessed in the country since the last two
decades. For proper policy framework, it is crucial to understand the source of
fluctuation in current account considering the fact that the level of current
account balance provides a signal on the total external reserves in Nigeria.
However, fluctuations in current account balance over the years is clear
pointer to dwindling external reserves in the country.
Also, one of the major obstacles of the growth of capital
account balance in the country which is assumed to have adverse effect on
external reserves is policy distortions resulting from the trade which turned
the country into an import dependent economy (Imoisi, 2012). The import of the
country grew from N0.7billion in 1970 to over N562 billion in 1996 and later
increase to ₦1,266 billion in 2001 and currently in 2023 to 5.56 trillion while
export is 6.49 trillion in 2023 which huge balance in capital account that
supposed to allocated to external reserves have been used for import and this
is assumed to have negative effect on external reserves in the country (Bosede
and Olomola, 2019).
Furthermore, since
the introduction of fixed exchange rate
regime and adoption of floating system by the industrialized countries in 1973,
most countries including Nigeria, have experimented with various types of
exchange rate arrangement ranging from the peg system to weighted currency
basket, managed floating and more recently to the monetary zone arrangement. Inconsistent
management of the various exchange rate regimes adopted so far by the country
to help check volatility appears to have jeopardized the external reserves of
the country. The degree of volatility and the extent of stability maintained
affect external reverses of the country.
Given the
background above, this study focuses on the impact of balance of payments on
external reserves in Nigeria.
1.3 OBJECTIVES OF THE STUDY
The general
objective of this study is to investigate the impact of balance of payments on
external reserves in Nigeria. The specific objectives are to:
1. determine the impact
of current account balance on external reserves in Nigeria
2. examine the impact
of capital account balance on external reserves in Nigeria.
3. assess the impact of
errors and omissions on external reserves in Nigeria.
4. ascertain the impact
of exchange rate on external reserves in Nigeria.
1.4 RESEARCH QUESTIONS
The research work will provide answers to the following research
questions:
1.
How does current account
balance affect external reserves in Nigeria?
2.
What influence does capital
account balance have on external reserves in Nigeria?
3.
What is the impact of
errors and omissions on external reserves in Nigeria?
4.
How does exchange rate
affect external reserves in Nigeria?
1.5 RESEARCH
HYPOTHESES
Following the above stated objectives, the under-listed four
hypotheses were tested:
Ho1: Current
account balance has no significant impact on external reserves in Nigeria.
Ho2: Capital
account balance does not significantly influence external reserves in
Nigeria .
Ho3: There is no
significant impact of errors and omissions on Nigeria’s external reserves.
Ho4: Exchange
rate has no significant impact on external reserves in Nigeria.
1.6 SCOPE OF THE STUDY
This study is
limited to the context as per the balance of payments impact on Nigeria
external reserves. The study covers the period from 1985 – 2019, using
Statistical Bulletin from CBN and National Bureau of Statistics (2019).
1.7 SIGNIFICANCE OF THE STUDY
This study will be of immense benefits to the following people:
1. Policy makers: The research work will inform policy makers on the
policy direction to take so as to
ensure a sustained increase in the reserves holding of the country.
2. Monetary authority: The
findings and recommendations of this study are of immense use to the monetary authority in formulating
lasting monetary and fiscal policies that will
stand the test of time and remedy balance of payments imbalances.
3. Researchers and Students: There is no doubt that this research work
will serve as a guide and reference
material to future researchers and students, especially those in management
sciences.
4. General public: Finally, the findings
and recommendations will enlighten the general public on the issue of reserves
and balance of payments position of Nigeria.
1.8 LIMITATION OF THE STUDY
The limitation faced by the researcher in the course of
this study was inadequate finance to complete this thesis work on time and was
overcome by the researcher.
1.9 OPERATIONAL DEFINITION OF TERMS
To enhance easy understanding of the contents of this
research study, the following terms are defined or explained:
Balance of payments (BOP): Is simply defined as a systematic record of economic transactions
between residents of a country and non-residents for a given year.
Capital account: Capital account is defined as one of the primary components of
the balance of payments of a nation.
Central Bank of Nigeria
(CBN): Is the apex bank controlling, supervising,
and regulating the entire
financial system.
Current account: current account is a country’s trade balance plus income and direct
payments.
Devaluation of currency: Means a fall in the exchange value of a country currency in
relation to the currencies of other countries.
External reserves: This is officially known as international reserves. They include
foreign currency assets of the monetary authority, special drawing rights,
reserves position in the fund and gold.
Errors and omissions: represent the unrecorded source of part of
capital inflows from outside the economy. They are entries recorded to balance
the accounts in the balance of payments.
Economic growth: Means growth in the level of output produced by a country over a
certain period of time.
International Monetary
Fund (IMF): Is an international monetary
institution established by 44 nations under the Bretton Woods Agreement of
July, 1944. Among other roles of the fund is fixing the par values of
currencies of its members in terms of gold.
Monetary authority: Refers to an institution that controls and manages a nation
currency, money supply and interest rates.
Monetary Policy: Refers to the credit control measures adopted by a country Central
bank.
Special Drawing Rights
(SDRs): Refers to supplementary foreign exchange
reserve assets defined and maintained by the IMF.
Wholesale Dutch Auction
System (WDAS): Refers to a bulk sale of foreign
exchange currencies by the Central bank to the authorized dealers after optimal
bidding price has been determined.
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