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An Analysis of Foreign Exchange Reserve Trend, Adequacy and Their Relationship with Selected Macroeconomic Variables in Nigeria: 1980-2014

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An Analysis of Foreign Exchange Reserve Trend, Adequacy and Their Relationship with Selected Macroeconomic Variables in Nigeria: 1980-2014.

ABSTRACT  

Due to the increasing uncertainty as a result of globalisation, economies of developed and developing nations maintained adequate level of foreign exchange reserve to protect and achieve general stability in an economy. Nigeria has witnessed an intermittent rise and fall in the level of its foreign exchange reserve without proportional effects in some key macroeconomic variables.

Instead, persistent problems like exchange rate volatility, and general macroeconomic instability continuous to prevailed even in periods of a fall or a rise in the level of foreign exchange reserve.

The specific objectives of this study were to establish the causal relationship between the trend in foreign exchange reserve with the selected macroeconomic variables, and also to identify the related macroeconomic variables associated with the observed fluctuating trend in foreign exchange reserve.

To achieve these objectives, the two- stage- least square (2SLS), granger causality and error correction techniques were used to estimate the specified model of the study.

The results from these estimations produced strong evidences of interrelationships among the variables in the model for the study period particularly from the causality analysis. The findings of the study further revealed that external variables showed significant positive interactions with the observed fluctuating trend in foreign exchange reserve.

This is because oil revenue, exchange rate flexibility and net export were instrumental in explaining the behaviour of the target variable (foreign exchange reserve) than the rest of the variables in the model. 

However, the size of the economy proxy by GDP previously found to influence foreign exchange reserve positively by past studies, interacted negatively with the trend in foreign exchange reserve for the period of this study. 

TABLE OF CONTENTS

TITLE PAGE – – – – – – – – – – i
DECLARATION – – – – – – – – – ii
CERTIFICATION – – – – – – – – – iii
DEDICATION – – – – – – – – – iv
ACKNOWLEDGMENTS – – – – – – – – v
TABLE OF CONTENTS – – – – – – – – vii
LIST OF TABLES – – – – – – – – – x
LIST OF FIGURES – – – – – – – – – xi
LIST OF APPENDICES – – – – – – – – xii
ABSTRACT – – – – – – – – – – xiii

CHAPTER ONE
INTRODUCTION
1.1 BACKGROUND TO THE STUDY – – – – – – 1
1.2 STATEMENT OF THE PROBLEM – – – – – – 8
1.3 RESEARCH QUESTIONS – – – – – – – 9
1.4 OBJECTIVES OF THE STUDY – – – – – – 9
1.5 HYPOTHESES – – – – – – – – 10
1.6 SIGNIFICANCE OF THE STUDY – – – – – – 10
1.7 SCOPE OF THE STUDY – – – – – – – 11

CHAPTER TWO
LITERATURE REVIEW
2.1 CONCEPTUAL FRAMEWORK – – – – – – 13
2.1.1 The Concept of Foreign Exchange Reserves – – – – – 13
2.1.2 The Concept of Macroeconomics Variables – – – – – 16
2.1.3 The Concept of Reserve Adequacy/Norms – – – – – 17
2.2 THE MOTIVES FOR HOLDING FOREIGN EXCHANGE RESERVE – 19
2.2.1 The Transaction and Stabilization Motives – – – – – 21
2.2.2 Intervention and Precautionary Motives – – – – – 21
2.2.3 Wealth Diversification Motive – – – – – – 21
2.3 THEORETICAL FRAMEWORK – – – – – – 22
2.3.1 Export-Led Growth Model – – – – – – – 22
2.3.2 The Gap Models – – – – – – – – 23
2.3.3 The Mundell-Fleming (MF) Model – – – – – – 24
2.3.4 The Stochastic Inventory Control Model – – – – – 25
2.3.5 The Buffers Stock Model – – – – – – – 27
2.4 FOREIGN EXCHANGE RESERVE MANAGEMENT BASED
THEORETICAL FOUNDATION – – – – – – 28
2.4.1 Self Insurance Theoretical Model – – – – – – 28
2.4.2 Mercantilist Theoretical Model – – – – – – 28
2.4.3 Macroeconomic Stability Theoretical Model – – – – – 29
2.5 APPROACHES TO OPTIMAL CURRENCY COMPOSITION OF
RESERVES – – – – – – – – – 29
2.5.1 The Mean-Variance Approach – – – – – – 30
2.5.2 The Transaction Based Approach – – – – – – 31
2.5.3 An Intervention-Oriented Approach – – – – – – 32
2.6 EMPIRICAL LITERATURE – – – – – – – 34
2.7 EXISTING GAP IN THE LITERATURE – – – – – 43

CHAPTER THREE
RESEARCH METHODOLOGY
3.1 SOURCES OF DATA – – – – – – – 45
3.2 THE APRIORI EXPECTATION OF THE VARIABLES – – – 45
3.2.1 Foreign Exchange Reserve and GDP (Economic Size) – – – 45
3.2.2 Foreign Exchange Reserve and Exchange Rate Flexibility or
Volatility (EXRV) – – – – – – – – 45
3.2.3 Foreign Exchange Reserve and Trade Openness (TOPEN) – – – 46
3.2.4 Foreign Exchange Reserve and Net Export (NEXPT) – – – 46
3.2.5 Foreign Exchange Reserve and Oil Revenue (OILREV) – – – 46
3.2.6 Foreign Exchange Reserve and Debt Servicing (DBTSERV) – – 47
3.3 MODEL SPECIFICATION – – – – – – – 47
3.3.1 Dependent Variables – – – – – – – – 48
3.3.2 The Independent Variables – – – – – – – 48
3.3.3 Variables Measurement – – – – – – – 48
3.4 MODEL TRANSFORMATION – – – – – – 49
3.5 TECHNIQUES OF DATA ANALYSIS – – – – – 50
3.5.1 Pre-estimation Test – – – – – – – – 51
3.5.2 Unit Root Test – – – – – – – – 51
3.5.3 Cointegration Test – – – – – – – – 51
3.5.4 Granger Causality Test – – – – – – – 51
3.5.5 TWO STAGE LEAST SQUARE (2SLS) TECHNIQUE – – – 52
3.5.6 Error Correction Model – – – – – – – 52
3.6 RESEARCH HYPOTHESIS – – – – – – – 55
3.6.1 Decision Rule – – – – – – – – – 56

CHAPTER FOUR
RESULTS AND DISCUSSION
4.1 DATA ANALYSIS – – – – – – – – 57
4.1.1 Descriptive Analysis – – – – – – – – 57
4.2 QUANTITATIVE ANALYSIS – – – – – – 66
4.2.1 Unit Root Test Result – – – – – – – – 66
4.2.2 Cointegration Analysis Test Results – – – – – 68
4.2.3 Causality Test Result – – – – – – – – 72
4.3 MODEL ESTIMATION – – – – – – – 74
4.3.1 Two Stage Least Square Result – – – – – – 74
4.3.2 Long Run and Fitted Regression Results – – – – – 74
4.3.3 Discussion of Results – – – – – – – – 77
4.3.4 Evaluation of Hypothesis – – – – – – – 80
4.4 ERROR CORRECTION RESULTS – – – – – – 81
4.4.1 Short Run Error Correction Results – – – – – – 81
4.5 DISCUSSION OF FINDINGS – – – – – – 88

CHAPTER FIVE
SUMMARY, CONCLUSION AND RECOMMENDATIONS
5.1 SUMMARY OF FINDINGS – – – – – – – 95
5.2 CONCLUSION – – – – – – – – 96
5.3 RECOMMENDATIONS – – – – – – – 97
5.4 LIMITATIONS OF THE STUDY – – – – – – 98
5.5 SUGGESTIONS FOR FURTHER STUDY – – – – – 98
5.6 CONTRIBUTION TO KNOWLEDGE – – – – – 99

REFERENCES – – – – – – – – 100
APPENDICES – – – – – – – – 110

INTRODUCTION  

The early post-war reflections on the problems of developing countries led to the identification of insufficient capital stock as the cause of low income. Among the economists who made such prognoses are Hans Singer and Ragnar Nurkse.

In the words of Singer (1949), less developed countries suffer from ―a dominant vicious cycle of low production, no surplus for economic development, which leads to low tools and equipment and in turn causes low standard of production. 

Nurkse (1953:12) insists that the problem of these countries was that: There is small capacity to save resulting from low level of real income. The low level of real income is a reflection of low productivity, which in turn is due largely to the lack of capital, the lack of capital is a result of small capacity to save.

Given the need for larger capital stock and the inadequacy of domestic saving to finance investment that would make development possible, it was concluded that domestic saving should be supplemented by foreign resources and capital.

This shifted the issue from whether external resources are useful to developing countries, and how much was sufficient to help them achieve effective macroeconomic performance and growth potential. Foreign capital has significant role in every national economy, regardless of its level.

It is necessary to consolidate development in the developed world, and to accelerate the pace of development for developing countries. It is used to increase accumulation and rate of investment to create a condition for more intensive economic growth. 

REFERENCES

Abdullateef, A., & Waheed, I (2010). External reserve holding in Nigeria, implication for
investment, inflation and exchange rates. Journal of Economic and Finance, 3(10), 183-189.
Abdullateef, U., & Waheed, I. (2010). External reserves holdings in Nigeria: Implication for
investment, inflation, and exchange rate. Journal of Economics and International
Finance, 2 (9), 183-189.
Abdullazeez, A.B. (2011). External reserve management and economic growth in Nigeria,
(1980-2008). Europeans Journal of Business Management, 3(11), 1-9.
Abeng, M.O. (2008). Foreign exchange reserve accumulation: Implication for the Nigerian
Economy. Central Bank of Nigeria Bullion, 31 (3), 32-50.
Abiola, A.G., & Adebayo, F.O. (2013). Channelling the Nigerian foreign exchange reserves:
Alternative investment outlets: A critical analysis. International Journal of Economics
and Finance Issues, 3(4), 813-826.
Adams, N., & Leonce, T. (2007), Reserve accumulation in Africa, sources, motivation and
effect, Economic Conference, 15.
Adenikinju, A., & Busari, D. (2004). Overview of macro econometric modelling in Nigeria,
Ibadan: University press.

CSN Team.

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