Research Document: Exchange Rate Misalignment and Economic Growth in Nigeria

Posted Wed, Nov 29, 2023 10:50 AM

Over the last three decades, researchers and policymakers have been concerned aboutexchange rate management in Nigeria. There has been a push for Nigeria to adopt a a market determined exchange rate policy stance, which the Nigerian government has been hesitant to fully embrace despite the country's dwindling external reserves. Thecontinuation of this misaligned exchange rate is therefore concerning. To that end, this policy brief investigated the implications of exchange rate misalignment on the economy. Specifically, the drivers of Nigeria's external competitiveness, as measured by the real effective exchange rate, were first identified, and the resulting misalignment was then determined. In a nutshell, oil prices and external reserves are found to be the two factors that improve Nigeria's external competitiveness.
Furthermore, exchange rate misalignment drags economic growth. The findings remain the same when the misalignment is separated into overvaluation and undervaluation, with overvaluation having a slightly more significant adverse effect on the economy. This implies that a policy stance that either undervalues or overvalues the Nigerian exchange rate harms rather than helps the economy. Thus, Nigeria needs to intensify its efforts to diversify its export base and reduce its over-reliance on oil exports to increase government revenue and foreign exchange earnings, thereby enhancing the economy's resilience. Achieving this goal will necessitate a policy shift towards a more market-determined exchange rate stance, reducing observed misalignment.