BACKGROUND TO THE STUDY
Research related to exchange rate management still remains of interest to economists, especially in developing countries, despite a relatively enormous body of literature in the area. This is largely because the exchange rate in whatever conceptualization, is not only an important relative price, which connects domestic and world markets for goods and assets, but it also signals the competitiveness of a country’s exchange power vis-à-vis the rest of the world in a pure market.
Since exports plays an important role in the economic growth of many advanced and developing countries, as far as making those countries as the strongest countries, the effective factors in turn, could pave way for progress of countries since increase or decrease in exchange rate leads to the decrease or increase in export. Nigeria is endowed with various kinds of resources needed to place her amongst the top emerging economies of the world. Unfortunately, the nation has not adequately benefitted from the economic prosperity expected of a nation so richly blessed.
Real exchange rate can be defined as the nominal exchange rate that takes the inflation differentials among the countries into account. It is the purchasing power of two currencies relative to one another. While two currencies may have a certain exchange rate on the foreign exchange market, this does not mean that goods and services purchased with one currency cost the equivalent amounts in another currency. This is due to different exchange rates with different countries. Exchange rate is used to determine an individual country’s currency value relative to the other major currencies in the index as adjusted for the effects of inflation. This is also the value that an individual consumer will pay for an imported good at the consumer level. This price includes tariffs and transaction costs associated with importing the good.
Non-oil exports are products which are produced within the country in the agricultural mining, quarrying and industrial sector that are sent outside the country to generate revenue for the growth of the economy excluding oil products. These non-oil products include products like beans, cocoa, timber, groundnut, coal etc.
Nigeria’s overall economic performance since independence in 1960 has been unimpressive. Despite the availability of huge amount of foreign exchange derived mainly from its oil and gas resources, economic growth has been weak and the incidences of poverty has increased. The objective of every independent nation like Nigeria is to improve the standard of living of its citizenry and promote economic growth and development of the country but due to vicious circle of poverty, scarcity of resources and the law of comparative advantage, countries depend on each other to foster economic growth and achieve sustainable economic development.
Hasanov and Samadova (2012) noted that expanding non-oil export to get rid of one-product economy has been known as a solution for economic development in oil producing countries which Nigeria is one of them and is the sixth largest oil producing and exporting countries in the world. According to export-led growth hypothesis, increased export can perform the role of “engine of economic growth” because it can increase employment, create profit, trigger greater productivity and lead to rise in accumulation of reserves allowing a country to balance their finances.
Hasanov and Samadova (2012) also revealed that there are some challenges for countries with abundant natural resource such as oil in comparison with other countries. The main point is that in parallel with windfall of oil revenues, these countries have to pay more attention to the development of the non-oil sector as well as its export performance. Because in the most of the cases oil driven economic development leads to some undesirable consequences such as Dutch Disease in the oil rich countries. The Dutch Disease concept provides the relationship between the exchange rate and non-oil export. According to this concept the appreciation of a country’s real exchange rate caused by the sharp rise in export of a booming resource sector draws capital and labour away from a country’s manufacturing and agricultural sectors, which can lead to a decline in exports of agricultural and manufactured goods and inflate the price of non-tradable goods. Corden (1982); Corden and Nearly (1984) and Hassanov and Samadova, (2012) postulated that if we divide overall export of oil rich countries into oil and non-oil exports, appreciation of real exchange rate which is specific for these countries negatively affects non-oil exports while export revenues of oil sector mainly depends on oil price in the world markets.
Experimental studies of the growth rates of countries endowed with natural resources have showed paradoxical finding that countries which are amply endowed with resources tend to grow slower than others. One economic explanation for this paradoxical phenomenon is that the resource exporter’s real exchange rate co-moves with highly volatile commodity prices. In price upturns, the real exchange rate appreciates and undercuts the competitiveness of the domestic industry. Lost industry is then difficult to reconstruct when the commodity price falls and over several price cycles, the country loses its non-resource industrial base (Sachs and Warner, 2005; Auty, 2001; Torvik, 2001; Collier and Goderis 2007). Omojimite and Akpokodje (2010) asserted that the dependence of Nigeria on crude oil exports had important implications for the Nigerian economy since the oil market is a highly volatile one. For example, being dependent on the export of crude oil, the Nigerian economy became subject to the vicissitudes and vagaries of the international oil market such that international oil price shocks were immediately felt in the domestic economy. Coupled with this, Nigeria implemented a fixed exchange rate system that engendered overvaluation of the domestic currency, serving as a disincentive for increased exports through non-competitiveness of the country’s non-oil exports. On the other hand, the overvalued exchange rate enhanced imports thereby exacerbating the already precarious balance of payment position.