Exchange Rate Devaluation and Balance of Trade in Nigeria: An Error Correction Model Approach

Abstract

An effective and stable exchange rate forms the major policy trust of monetary authority because it determines the external and internal balance of a nation in terms of trade position and stability of other macroeconomic variables. This study assessed the effect of exchange rate on balance of trade in Nigeria employing data that spanned from 1986 to2016 from Central Bank of Nigeria Statistical Bulletin. The study employed Augmented Dickey Fuller Test, Johansen Co-integration Test and Error Correction Model to examined the effect of balance of trade, exchange rate, export, import and interest rate. Correlation matrix was adopted to examine the direction of relationships among the macroeconomic variables. The stationary test result indicated that, all the variables were stationary at first difference. Also, the Johansen Co-integration test result indicated that there is a long run equilibrium relationship among the macroeconomic variables. The result of the Error Correction Model regression indicated that both export and import had significant effect on balance of trade while exchange rate and interest rate had insignificant effect on balance of trade. Based on findings of the study it was concluded that, exchange rate regime in Nigeria had insignificant effect on Nigeria trade balance which has continued to effect the country's international trade position negatively. It was recommended that, monetary authorities should design effective exchange rate regime so to ensure exchange rate stability which has the capacity to improve the trade position of the country. Government should ensure macroeconomic variables stability. Variables like interest rate, inflation rate and others should be closely monitored and controlled so as to provide stable environment that is capable of enhancing local investments.