Analysis of the Main Determinants of Inflation in Nigeria

Abstract

The retard economic growth in Nigeria is associated with macroeconomic instability variables, in particular, the unstable rate of inflation. Consequently, the pursuance of poverty reduction and economic prosperity policy targets remained elusive. This study investigated the main determinants of inflation in Nigeria for the period 1986 – 2011. The Augmented Dickey-Fuller unit root statistics test revealed that all the variables are stationary after first and second difference at 5% level of significance. The co-integration result reveals long-run equilibrium relationship between the rate of inflation and its determinants. The Granger causality test revealed evidence of a feedback relationship between inflation and its determinants. The estimated VAR result showed that fiscal deficits, exchange rate, import of goods and services, money supply and agricultural output have a long run influence on inflation rate in Nigeria. Only lending rate influenced inflation in the short and long run horizon. The variance decomposition and impulse response results show that “own-shocks” were significantly responsible for the variation and innovations in all the variables in the equation. Obviously, inflation in Nigeria is fiscal and monetary policy influence. While this study discourages excessive waste of public funds through fiscal deficit, it recommends that the monetary authority should encourage a lending rate policy that promotes investment as well as retention of a desired level of money supply and interest rates that reduce inflation rate in Nigeria. More so the authorities should greatly be proactive in financing agricultural and manufacturing sector to increase local production of competitive goods that appreciate the Nigeria naira currency in relation to major international currencies.

Keywords: Inflation, Fiscal policy, Monetary policy, Agriculture, Econometric tools.