Exchange rate volatility and exchange rate uncertainty in Nigeria: a financial econometric analysis (1970- 2012)

nnamdi, Kelechi and ifionu, Ebele (2013): Exchange rate volatility and exchange rate uncertainty in Nigeria: a financial econometric analysis (1970- 2012).

Abstract

This research paper examines exchange rate volatility over time (1970-2012) using the Generalized Autoregressive Conditional Heteroscedasticity (AR GARCH) model of the Maximum Likelihood techniques. Our AR GARCH result showed that lagged (last year) exchange rate is significantly responsible for the dynamics of Naira/ Dollar exchange rate in Nigeria. Most glaring is that our ARCH and GARCH parameters indicate that exchange rate volatility shocks are rather persistent in Nigeria. We also find that exchange rate uncertainty has a direct relationship with current exchange rate in Nigeria. Further, the Granger causality test conducted shows that the direction of causality is more powerful and significant from exchange rate uncertainty to actual exchange rate in Nigeria. Thus the paper suggests a proper management of exchange rate, to forestall costly distortions in the Nigerian economy.

• Item Type: MPRA Paper
• Language: English
• Keywords: GARCH Models, Financial Econometrics, Foreign Exchange rate, Monetary Policy
• Subjects: C - Mathematical and Quantitative Methods > C5 - Econometric Modeling > C58 - Financial Econometrics; F - International Economics > F3 - International Finance > F31 - Foreign Exchange

References

Adam, C. and Cobham, D. (2008). Alternative exchange rate regimes for MENA countries: gravity model estimates of the trade effects. Mimeo

Adubi, A.A., and Okunmadewa, F. (1999). Price, exchange rate volatility and Nigeria’s agricultural trade flows: A dynamic analysis. African Economic Research Consortium (AERC) Research Paper 87

Aikaeli, J. (2007). Money and Inflation Dynamics: A Lag between Change in Money Supply and the Corresponding Inflation Response in Tanzania. Working Paper Series.

Agiobenebo, T.J. (1999). Introductory Microeconomics: Theory and Applications. Port Harcourt, Markowitz Centre for Research and Development.

Alaba, O. B. (2003). Exchange Rate Uncertainty and Foreign Direct Investment in Nigeria. A Paper Presented at the WIDER Conference on Sharing Global Prosperity, Helsinki, Finland, 6-7 September 2003.

Allayannis, G., Brown, G.W. and Klapper, L.F. (2001). Exchange Rate Risk Management: Evidence from East Asia. Darden Business School Working Paper No. 01-09

Alvarez-Diaz, M. (2008). A note on forecasting exchange rates using a cluster technique. International Journal of Business Forecasting and Marketing Intelligence, Vol. 1, No. 1, pp.68–81.

Avellaneda, M. and Zhu, Y. (1997a). An E-ARCH Model for the Term Structure of Implied Volatility of FX Options. Working Paper Series available online at http//www.ssrn.com

Bailliu, J., Lafrance, R., and Jean-François Perrault (2002). Does Exchange Rate Policy Matter for Growth? Bank of Canada Working Paper 2002-17 Balogun, E.D. (2007). Effects of exchange rate policy on bilateral export trade of WAMZ countries. MPRA Paper No. 6234, Available Online at http://mpra.ub.uni-muenchen.de/6234/

Benigno, G. and Benigno, P. (2000). Monetary Policy Rules and the Exchange Rate. available at ssrn.com

Bera, A. and Higgins, M. (1993). ARCH Models: Properties, Estimation and Testing. Journal of Economic Surveys, vol. 7, pp. 305- 366.

Bhattarai, K.R. and Mark K. Armah, M.K. (2005). The Effects of Exchange Rate on the Trade Balance in Ghana: Evidence from Cointegration Analysis. Research Memorandum 52

Bitzenis, A. and Marangos, J. (2007). The monetary model of exchange rate determination: the case of Greece (1974–1994). International Journal of. Monetary Economics and Finance, Vol. 1, No. 1, pp. 57- 88

Black, J. (2003). Oxford Dictionary of Economics. New York, Oxford University Press.

Bleaney, M. and Fielding, D. (1999). Exchange Rate Regimes, Inflation and Output Volatility in Developing Countries. Centre for Research in Economic Development and International Trade (CREDIT) Research Paper 99/4

Bleaney, M. and Francisco, M. (2007). The Performance of Exchange Rate Regimes in Developing Countries – Does the Classification Scheme Matter? Centre for Research in Economic Development and International Trade (CREDIT) Research Paper, No. 07/04

Bollerslev, T., Engle, R. and Nelson, D. (1994). ARCH Models,” Vol. IV, Elsvier Science, Chapter Handbook in Econometrics, Pp. 2961- 3038

Bollerslev, T. (1986). Generalized Autoregressive Conditional Heteroscedasticity. Journal of Econometrics, Vol. 31, pp. 307-326.

Bollerslev, T. (1990). Modelling the Coherence in Short Run Nominal Exchange Rates: A Multivariate Generalized ARCH Model. Review of Economics and Statistics 72, 498-505.

Bouakez, H., Kano, T. and Xu, J. (2007). Imperfect Information, Learning, and Exchange Rate Dynamics. Social Sciences and Humanities Research Council

Busse, M., Hefeker, C. and Koopmann, G. (2004). Between Two Poles: Matching Trade and Exchange Rate Regimes in Mercosur. Hamburg Institute of International Economics (HWWA) Discussion Paper 301

Canetti, E. and Greene, J. (1991). Monetary growth and exchange rate depreciation as causes of inflation in African countries. Centre For Economic Research on Africa (CERAF)

Caporale, G. M. Cipollini, A. and Demetriades, P. (2003). Monetary Policy and the Exchange Rate During the Asian Crisis: Identification Through Heteroscedasticity. CEIS Tor Vergata - Research Paper Series No. 23.

Chen, Y., Rogoff, K. and Rossi, B. (2008). Can Exchange Rates Forecast Commodity Prices? University of Washington Working Paper

Cheng, K. C. (2007). A VAR Analysis of Kenya's Monetary Policy Transmission Mechanism: How Does the Central Bank's Repo Rate Affect the Economy? IMF Working Paper No. 06/300.

Chukwuma, A. (2002). Real Exchange Rate Distortions and External Balance Position of Nigeria: Issues and Policy Options. Paper submitted for publication to the Journal of African Finance and Economic Development, Institute of African American Affairs, New York University. Coricelli, F. and Jazbec, B. (2001). Real Exchange Rate Dynamics in Transition Economies. CEPR Discussion Paper No. 2869, Available online at www.cepr.org/pubs/dps/DP2869.asp

Dufrenot, G.J. and Yehoue, E.B. (2005). Real Exchange Rate Misalignment: A Panel Co-Integration and Common Factor Analysis. IMF Working Paper WP/05/164

Engle, R.F. (1982). Autoregressive Conditional Heteroscedasticity with estimates of the variance of UK inflation. Econometrica 50, 987-1008

Engle, R.F. (2000). Dynamic Conditional Correlation - A Simple Class of Multivariate GARCH Models. UCSD Economics Discussion Paper No. 2000-09

Engle, R.F. (2001). GARCH 101: An Introduction to the Use of ARCH/GARCH Models in Applied Econometrics. NYU Working Paper No. FIN-01-030

Esquivel, G. and Larraín, F.B. (2002). The Impact of G-3 Exchange Rate Volatility on Developing Countries. UNCTAD/GDS/MDPB/G24/16 G-24 Discussion Paper Series, No. 16,

Gbanador, C.A. (2007). Modern Macroeconomics. Port Harcourt, Pearl Publishers

Goldstein, M. (2004). Adjusting China's Exchange Rate Policies. Institute for International Economics Working Paper No. 04-1

Grauwe, P.D. (1988). The Long- Swings in Real Exchange Rates- Do they fit into Our Theories? BOJ Monetary and Economic Studies, Vol. 6, No. 1, May 1988.

Gupta, J. P., Chevalier, A. and Sayekt, F. (2000). The Causality between Interest Rate, Exchange Rate and Stock Price in Emerging Markets: The Case of the Jakarta Stock Exchange. EFMA 2000 Athens

Greene, W. H. (2000). Econometric Analysis. 4th ed., Prentice Hall, New Jersey.

Gylfason, T. (2002). The Real Exchange Rate Always Floats. Australian Economic Papers.

Hansen, P.R. and Lunde, A. (2004). A Forecast Comparison of Volatility Models: Does Anything Beat a GARCH (1, 1)? Brown Univ. Economics Working Paper No. 01-04

Harvey, A. (1990). The Econometric Analysis of Time Series. the MIT Press, Cambridge.

Hondroyiannis, G., Swamy, P.A.V.B., Tavlas, G., Ulan, M. (2005). Some Further Evidence on Exchange-Rate Volatility and Exports. Bank of Greece Working Paper No. 28 October 2005

Hooper, P. and Kohlhagen, S. W. (1976). The Effect of Exchange Rate Uncertainty on the Prices and Volume of International Trade. International Finance Discussion Papers, November 1976, No. 91

Jarmuzek, M., Orlowski, L. T. and Radziwill, A. (2004). Monetary Policy Transparency in the Inflation Targeting Countries: The Czech Republic, Hungary and Poland. Center for Social and Economic Research Studies and Analyses Working Paper No. 281.

Jhingan, M.L. (2005). The Economics of Development and Planning. 38th edition, Delhi, Vrinda Publications (P) Ltd.

Joshi, V. (2003). Financial Globalisation, Exchange Rates and Capital Controls in Developing Countries. Conference organized by the Re-inventing Bretton Woods Committee, Madrid, 13-14 May.

Kellard, N. and Sarantis, N. (2007). Can Exchange Rate Volatility Explain Persistence in the Forward Premium? School of Accounting, Finance and Management, Essex Finance Centre, Discussion Paper No DP 07/06

Kidane, A. (1999). Real exchange rate price and agricultural supply response in Ethiopia: The case of perennial crops. African Economic Research Consortium (AERC) Research Paper 99

Kuijs, L. (1998). Determinants of Inflation, Exchange rate, and output in Nigeria. IMF Working Paper

Mandelbrot, B.B., Fisher, A.J. and Calvet, L.E. (1997a). A Multifractal Model of Asset Returns. Cowles Foundation Discussion Paper No. 1164

Mandelbrot, B.B., Fisher, A.J. and Calvet, L.E. (1997b). “Multifractality of Deutschemark / US Dollar Exchange Rates. Cowles Foundation Discussion Paper No. 1166

Nabli, M.K. (2002). Exchange Rate Regime and Competitiveness of Manufactured Exports: The Case of MENA Countries. Available online

Nkurunziza, J.D. (2002). Exchange rate policy and the parallel market for foreign currency in Burundi. AERC Research Paper 123

Nwafor, F.C. (2006). The Naira-Dollar Exchange Rate Determination: A Monetary. International Research Journal of Finance and Economics, ISSN 1450-2887 Issue 5, Euro Journals Publishing, Inc., Available at http://www.eurojournals.com/finance.htm Ruiz, I.C. (2005). Empirical analysis on the real effects of inflation and exchange rate uncertainty: The case of Colombia. Ecos de Economía No. 20. Medellín, abril 2005, pp. 7 - 28

Rutasitara, L. (2004). Exchange rate regimes and inflation in Tanzania. AERC Research Paper 138

Tenreyro, S. (2006). On the Trade Impact of Nominal Exchange Rate Volatility. London School of Economics.

Velasco, A. (2000). Exchange -Rate Policies For Developing Countries: What Have We Learned? What Do We Still Not Know? United Nations Conference on Trade and Development UNCTAD/GDS/MDPB/G24/5, G-24 Discussion Paper Series

Wang, K. and Barrett, C.B. (2007). Estimating the Effects of Exchange Rate Volatility on Export Volumes. Forthcoming in Journal of Agricultural and Resource Economics

Weeks, J. (2008). The effectiveness of monetary Policy reconsidered. International Poverty Centre United Nations Development Programme, Technical Paper, available online at http://www.undp-povertycentre.org

Yeyati, E.L. and Sturzenegger, F. (1999). Classifying Exchange Rate Regimes: Deeds vs. Words. available online at http://www.utdt.edu/~fsturzen or http://www.utdt.edu/~ely