An Econometric Analysis of the Monetary Policy Reaction Function in Nigeria
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Date
2011-01
Authors
Agu, Chukwuma
Journal Title
Journal ISSN
Volume Title
Publisher
AERC
Abstract
In the past decade, models have been developed to explain the monetary policy
formulation behaviour of central banks. As expected, propositions for rules abound,
among which the Taylor rule has almost come to be accepted as a benchmark, because
of its simplicity, efficiency and insight into tracking historical monetary policy in
many countries. However, it is accepted in the literature that some of the peculiarities
of developing countries make a rigid application of the rule improper. For developing
countries, therefore, the specific policy reaction function in each economy needs to be
tracked. This paper specifies two simple models of monetary policy reaction functions
for Nigeria: The first, a tracking model based on the revealed processes at the Central
Bank of Nigeria (CBN), and an alternate model which closely follows the Taylor rule.
The results confirm the primacy of inflation and credit to the private sector in the CBN’s
monetary policy reaction function, which is consistent with the literature. Apart from
these, however, none of the key macroeconomic variables that CBN indicates in its policy
documents actually seem to have been considered in setting the interest rate policy.
Empirical estimates could also not confirm interest rate smoothing, or the relevance of
fiscal dominance in the reaction function. However, inflation and credit to the private
sector do matter to the bank – although the first only retroactively. It is therefore apt to
infer that the CBN acts consistent with its price stability and private sector-led growth
objectives, but accommodates discrepancies in its goals and outcomes and, possibly
without intending to do so, follows the Taylor rule.
Description
HG 1381. A643 2011
Keywords
Monetary Policy - Nigeria- Econometrics Model , Inflation - Finance - Nigeria- Econometric model , Inflation ( Finance) Econometric Models