A Post Market Reform Analysis of Monetary Conditions Index for Nigeria

Abstract

The introduction of SAP and the accompanying financial market reform in 1986, witnessed a continuous decline of emphasis on direct monetary controls by the Central Bank of Nigeria (CBN) such that the Naira is allowed to freely float while trade and exchange controls were liberalized, market based interest rate policy was introduced and mandatory credit allocation was abolished to pave way for effective implementation of a market based system whereby the use of market forces is encouraged. This led to significant changes in the monetary policy framework of the CBN. However, while the post SAP monetary policy strategies, institutional framework and arrangements as well as instruments have been adequately given research attention, the monetary conditions arising from the adoption of these different strategies, framework and instruments have been largely ignored. The study applied a bounds testing approach to cointegration to estimate the weights of the variables in the broad monetary conditions index for Nigeria for the period 1989:Q1 to 2012:Q2. The result attached a higher weight to interest rate channel, followed by exchange rate channel and then credit channel, implying that interest rate channel is more important than the exchange rate and credit channel in determining the level of output in Nigeria. The resultant monetary conditions index traces fairly well the policy direction of the Central Bank of Nigeria for the studied period, hence can serve as an adequate gauge of monetary policy stance of the CBN.

Keywords: Monetary policy, monetary conditions, monetary transmission, ARDL, cointegration