THE EFFECTS OF EXCHANGE RATE VOLATILITY ON MANUFACTURING OUTPUT IN NIGERIA

THE EFFECTS OF EXCHANGE RATE VOLATILITY ON MANUFACTURING OUTPUT IN NIGERIA

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Chapter One

Introduction

1 .     Statement of the Problem

The major developmental expectation of the manufacturing sector was to lay the foundation for sustainable accelerated economic development. It is however, not yet 'uhuru' with this expectation in Nigeria as evidenced by the declining manufacturing output. The period 1981-1986 witnessed substantial decline in the growth rate of manufacturing output as a result of inadequate supply of foreign exchange to procure the needed raw materials. Zayyad (1981) also corroborated that the output from manufacturing establishments in Nigeria were characterised by low local value-added. His work indicated that local value-added contribution from the crucial engineering sub-sectors dealing with the manufacturing of industrial machinery, machine tools, agricultural equipment and household electrical apparatus was only 2.3%. Again, the growth momentum of the SAP period was not sustained as manufacturing production declined by 9.1 per cent, on the average, between 1992 and 1994 (Ogwuma 1995). Soludo (1997) notes that while manufacturing value-added as percentage of GDP averaged 10.6% in the 1980-86 period, it declined to an average of 8.1% during the period of 1987-93 and further explained that average growth rate of value-added at 1987 constant prices has been falling from 13.5% between 1960-69 to 1 1.5% in 1970-79, and 10.3% in 1980-86 to 4.5% during 1987-93. Campa and Goldberg (1995) have shown that if any industry is dependent on imported inputs, exchange rate volatility will tend to


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depress expected profits from import dependent investments. Reinhart and Reinhart (2001) in their study of G-3 economy claim that exchange rate volatility would seem a priori to have a negative effect on economic growth in the developing world.

Available data indicated that cost of foreign exchange in Nigeria swung upward. Between 1970 and 1974, average exchar-ge rates stood at 0.66, while between 1975 and 1979 it slantly fell to 0.62. Exchange rate depreciated between 1980 and 1984 to 0.68

and 3.90 within 1985 - 1989. It depreciated further to 16.59 between 1990 and 1994, while the average stood at 22.71 between 1995 and 1999 (CBN Statistical Bulletin, various issues). Exchange rate soared, as manufacturing value-added fell.

While these statistics cast a glimpse on the expected revolution in the manufacturing sector, the focus in terms of studies have concentrated on finding out the causes of low manufacturing outputs. Little in terms of research work has been directed towards investigating the effects of this aspect of financial market volatility, namely exchange rate volatility on.manufacturing output in Nigeria. Furthermore, because value-added is the building block of gross domestic product that serves as a gauge for measurement of economic performance, a continuous study on why it is declining in the manufacturing sector in Nigeria is imperative.

1.2 Objectives of the Study

This study is motivated by the following objective:

I.       To determine the relationship between exchange rate volatility and manufacturing output. This seeks to identify the direction of the impact of exchange rate

fluctuations on manufacturing productivity. A Granger Causality test provides a prima facie evidence of this relationship.

11. To determine the impact of exchange rate volatility on manufacturing output.


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1.3       Scope of Study

The study would  spzn the period    1970 - 2004 without focus on detailed analysis of

exchange rate  misalignment and  real  exchange as  well  as  other  determinants of

manufacturing output. Because of the apparent dichotomies in the definition of exchange

rate measurement, definitions and misalignment (determinants), this study is not intend to

go beyond nominal and real exchange rate definitions. Specifically, the study will use

real exchange rate defined as: NOEXRfCPI, i.e. the deflated nominal exchange rate.


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