Modelling the Inflation Process in Nigeria

MODELLING THE INFLATION PROCESS IN NIGERIA 2. Nigerias fanfare experience Nigeria has experienced all manner of ostentationary episodes from creeping to defy and from high to galloping (see Table 1 and Figure 1). mediocre pompousness during the outcome 19601972 was relatively low, the historical average estimate being 5. 01%. When assessed on an y primaeval basis, however, rising prices became a cause for concern for the then military authorities when in 1969 the inflation rate hit double digits at 10. 36%.Governments concern seems to have been justified by the position that Nigeria was experiencing double-digit inflation for the first time, in the face of a raging civilian fight whose end was non then in sight. In reaction, brass imposed a general wage freeze for a menses of one year. Apparently aware of possible opposition by bear on unions, price control measures were introduced with the formalised promulgation of the Price Control Decree, early in 1970 (see Fasho yin, 1984, for comprehensive discussion of anti-inflation measures taken during this period).Inflationary pressures go along unabated, however, take down with price controls. Table 1 Inflation episodes in Nigeria Period Average 19601972 5. 01 19731985 17. 96 19861995 31. 30 19862002 13. 34 Source Computed by the authors Pressures for salary increases conduct to the setting up of the Wages and Salaries Review Commission. The Commission eventually give salary increases to all categories of public service employees, and similar adjustments were later make in the private sector.These awards, which came at a time when the dislocation of house servant production and foodstuffing as a vector sum of the civil war had not been fully repaired, generated a measure of excess demand in the economy. This is likely to have been responsible for the rise in the rate of inflation by 16. 0% in 1971. Governments immediate rejoinder was to lift substance restrictions on several categories of goo ds. Excise duties on a number of goods were also reduced. A credit form _or_ system of government that favoured the production of forage was also put in place.These efforts, coupled with the establishment of the Nigerian field of study Supply Company (NNSC), were credited with yielding the relatively low rate of inflation of 3. 2% recorded in 1972. The period 19731985 was one of great inflationary pressures than the period 19601972, with an average inflation rate in those age of 17. 96%. The effects of the 3 RP 182_Olubusoye_maintext. pmd 21/10/2008, 1429 3 6 RESEARCH PAPER 182 Exchange rate regimes and inflation in NigeriaInflation and mass meeting rates have been identified as two of the key barometers of economic performance (Rutasitara, 2004). Exchange rate arrangements in Nigeria have undergone significant changes over the past four decades, shifting from a fixed regime in the 1960s to a pegged arrangement betwixt the 1970s and the mid(prenominal) 1980s, and finally to v arious types of floating regime select in 1986 with the SAP. A regime of managed float, without any strong commitment to reason any particular parity, has been the predominant characteristic of the floating regime in Nigeria since 1986.Exchange rate policy emerged as one of the controversial policy instruments in developing countries in the 1980s, with vehement opposition to devaluation for fear of its inflationary jounce, among other effects. Nigeria faced such a situation and there has since been touch on in the performance of inflation and the role of the exchange rate in the process. The peculiarity of the Nigerian foreign exchange grocery needs to be highlighted. The countrys foreign exchange earnings are more than than 90% dependent on crude oil export receipts.The result is that the volatility of the world oil market prices has a direct impact on the supply of foreign exchange. Moreover, the oil sector contributes more than 80% of government revenue. Thus, when the worl d oil price is high, the revenue shared by the three tiers of government rises correspondingly, and as has been observed since the early 1970s, elicits comparable using up increases, which are then difficult to bring down when oil prices pick and revenues fall. Indeed, such unsustainable expenditure levels have been at the root of high overnment shortage spending. It became a matter of serious concern that despite the huge standard of foreign exchange, which the Central Bank of Nigeria (CBN) supplied to the foreign exchange market, the impact was not reflected in the performance of the real sector of the economy. Arising from Nigerias high import propensity of finished consumer goods, the foreign exchange earnings from oil continued to generate output and employment growth in other countries from which Nigerias imports originated.This development necessitated a change in policy on 22 July 2002, when the demand pressure in the foreign exchange market intensify and the depletion in external reserves level persisted. The CBN thus reintroduced the Dutch sell system (DAS) to replace the inter-bank foreign exchange market (IFEM). Since then, the DAS has been for the most part successful in achieving the objectives of the monetary authorities. Generally, it assisted in narrowing the arbitrage premium from double digits to a single digit, until the emergence of irrational market exuberance in the fourth quarter of 2003.Figure 2 charts the detail of the movements in inflation and the parallel market premium over the official exchange rate. As can be seen in the figure, movements of the parallel exchange rate premium and inflation rate were very close, especially during the mid 1970 and early 1990s. Indeed, this was the period of widest divergence between the official and parallel market exchange rates. As can be seen from the graph, the peaks and troughs almost always go together, thus confirming that the parallel market exchange rate was importantly correlated with the inflation rate. RP 182_Olubusoye_maintext. pmd 21/10/2008, 1429 6