Industrial Output Response to Inflation and Exchange Rate in Nigeria: An Empirical Analysis

Abstract

This study investigates the response of aggregate industrial output to relative change in prices and exchange ratein Nigeria using data from 1970- 2011. A vector error correction (VEC) model was employed and the dynamiccorrelations of the variables have been captured by the analyses of impulse response and variancedecomposition. The response of industrial output to the shock to exchange rate was significantly positive morespecifically in the initial years, while shock to prices changes, the industrial output responds negatively althoughwith small magnitude at the beginning. From variance decomposition; the study shows that although the mainsource of variance in output are own shocks, innovation in the exchange rate account for a higher proportion inthe variation of industrial output than that of prices. The study concludes that inflation and exchange rate has thepotentials of causing significant changes in industrial output in Nigeria. This study therefore suggests that morepolicy attention should be given to proper management of the exchange rate and inflation.Keywords: Industrial output, exchange rate, inflation, VEC model