Abstract

This study investigated the effect of the exchange rate on the output of Nigeria's non-oil sector, with emphasis on the agricultural, manufacturing and services sectors, over the period 1970–2012, using co-integration and error correction model (ECM) approaches. The co-integration test showed a long-run relationship among the variables. The evidence suggests that the exchange rate has a negative but non-significant effect on the agricultural and manufacturing sectors and a positive but non-significant effect on the services sector. The study also found that other factors, such as inflation and the ratio of private sector credit to GDP, affect non-oil sector output. This implies that the state of non-oil output growth in Nigeria may be explained by other macroeconomic factors, and probably by the instability experienced during the period under review. It can be concluded that exchange rate fluctuation is not an important variable affecting the country's non-oil sectoral output. Other factors that affect non-oil output, such as inflation and commercial bank credit, should be examined and addressed in order to revive the non-oil sectors in Nigeria.

CHAPTER ONE

INTRODUCTION

1.1 Background to the Study

The relationship between output growth and the exchange rate is especially important for many developing economies, where productivity in output continues to drive trade flows. The behaviour of the exchange rate, whether determined by exogenous or endogenous shocks or by policy, has been a common but controversial policy issue in most developing countries. Economic authorities in these countries have repeatedly resorted to nominal devaluation as a way of correcting external imbalances or misalignments of the real exchange rate, raising competitiveness, increasing revenue, anchoring adjustment programmes, or responding to pressure from interest groups. The decision to devalue has often been taken even though devaluation may cause inflationary spirals, domestic market distortions, disruption of growth and undesirable redistributive effects. Recent Nigerian evidence suggests that the expected gains are not guaranteed. Akpansung (2021), studying 1986–2019, concludes that depreciation of the real effective exchange rate may not be a way of improving Nigeria's balance of payments, and Prince (2020) finds that devaluation of the naira may not be a viable way of curbing the persistent trade deficit.

The objective of exchange rate policy derives from the overall objective of macroeconomic management, which is to achieve internal and external balance in the medium term. Internal balance means a level of economic activity consistent with satisfactory control of inflation, while external balance means balance-of-payments equilibrium, or a sustainable current account deficit financed on a lasting basis by expected capital inflows. Although many factors may combine to explain adverse macroeconomic conditions, a country's exchange rate policy has frequently been identified as a major contributor, as the World Bank has noted. Inconsistency or fluctuation in the real exchange rate may therefore affect a country's economic growth. The relationship between a country's exchange rate and its economic growth is a crucial issue from both descriptive and policy-prescription perspectives, and the behaviour of the real exchange rate is now widely regarded as central to policy evaluation and design.

A country's exchange rate is an important determinant of the growth of its cross-border trade, and it is a measure of its international competitiveness. The real exchange rate is defined as the relative price of foreign goods in terms of domestic goods. It matters greatly because it is an important relative price that signals inter-sectoral growth in the long run and measures international competitiveness. In general, exchange rate variation has been singled out as one of the endogenous factors that affect a nation's economic performance, and it has been linked to poor economic performance in parts of Latin America, Asia and Africa. It can therefore be argued that a sound exchange rate policy and an appropriate exchange rate are crucial conditions for improving a country's economic performance.

In recent decades, foreign exchange management in Nigeria has undergone major changes, especially after the adoption of the Structural Adjustment Programme (SAP), which was sponsored by the International Monetary Fund (IMF) and the World Bank. Alfa et al. (2024) describe how the arrangement moved from a fixed regime in the early years of independence to a floating one after SAP in 1986. The naira has depreciated several times and has appreciated on a number of occasions in response to market fundamentals, in an attempt to reach a realistic exchange rate that would improve macroeconomic performance and diversify the productive base of the economy. In other words, the real exchange rate plays a crucial role in guiding the broad allocation of production and spending in the domestic economy between foreign and domestic goods.

Exchange rate reform, combined with trade policy reform under Nigeria's economic reform programme, was expected to diversify the export base of the economy from oil to non-oil exports through competitiveness in the relative price of non-oil exports. It was also expected to reduce imports, especially of consumer goods. Nigeria was a predominantly agrarian economy in the 1970s, depending mainly on agriculture for the sustenance of its citizens and for external earnings. The oil boom of the mid-1970s, however, brought large foreign exchange earnings and changed the economic profile of the country. Once Nigeria became a major oil exporter, agriculture was neglected. This neglect has been attributed to an inappropriate exchange rate policy, which made the prices of agricultural output too low to give farmers an incentive to produce. During this period, exchange rate policy tended to encourage overvaluation of the naira, which in turn encouraged imports, discouraged exports and sustained the over-dependence of the manufacturing sector on imported inputs.

The sectoral use of foreign exchange shows the same pattern. According to the National Bureau of Statistics (NBS, 2011), the oil sector was at the forefront of foreign exchange utilization, receiving 23.43 per cent in 2010 and 23.13 per cent in 2011. It was followed by industrial sector imports, which received 16.07 per cent in 2011, down from 18.28 per cent in 2010. Financial services followed closely, using 14.36 per cent in 2011, down from 20.14 per cent in 2010. Food products, which received 12.74 per cent of foreign exchange in 2010, received 11.12 per cent in 2011, and manufactured products, which received 11.77 per cent in 2010, received 9.81 per cent in 2011.

The NBS (2011) analysis of recent sources of growth in the Nigerian economy also shows that the non-oil sectors broadly powered growth in 2010 and 2011. Non-oil gross domestic product (GDP) grew by 8.51 per cent in 2010, while oil and gas grew by 5.25 per cent, compared with 0.45 per cent in 2009. Growth in primary activities, comprising agriculture, solid minerals, and oil and gas, accelerated from 2.36 per cent in 2008 to 4.34 per cent in 2009 and 5.70 per cent in 2010, reflecting the improved performance of oil and gas. Manufacturing recorded a growth rate of 7.57 per cent in 2010, compared with 7.85 per cent in 2009 and 8.89 per cent in 2008. Of the overall real GDP growth rate of 7.98 per cent in 2010, the services sector accounted for 50.18 per cent, primary activities for 40.73 per cent, and secondary activities for the remaining 7.0 per cent. In terms of the oil and non-oil decomposition, the non-oil sector accounted for 89.28 per cent of overall GDP growth in 2010, and oil and gas for 10.72 per cent. In 2011, non-oil GDP grew by 8.85 per cent, compared with 8.51 per cent in 2010, while oil GDP grew by -0.57 per cent, compared with 5.25 per cent in 2010. The non-oil sectors were therefore the major growth drivers of the economy, contributing over 101.22 per cent of real GDP growth in 2011.

A mild structural change was observed in the economy between 2008 and 2011. The contribution of agriculture to real GDP fell from 41.70 per cent in 2008 to 40.87 per cent in 2010 and 40.24 per cent in 2011, although its contribution to overall GDP growth rose from 30.44 per cent in 2010 to 31.71 per cent in 2011. The contribution of the oil and gas sector rose to 15.88 per cent from 1.29 per cent in 2009, against 17.35 per cent in 2008. The industry share of GDP was 24.35 per cent in 2011, a modest decline of 1.17 percentage points from the 25.52 per cent achieved in 2010. The sharp fall in the growth of oil and gas, by 0.57 per cent in 2011 from 5.25 per cent in 2010, explains the marked reduction in the share of oil and gas in overall GDP growth, which was 10.72 per cent in 2010 and -1.22 per cent in 2011. The deepening of reforms in the telecommunications sector further raised its share of GDP growth from 13.00 per cent in 2008 to 14.22 per cent in 2009 and 15.68 per cent in 2010. The share of services in GDP climbed to 35.41 per cent in 2011 from 33.61 per cent in 2010, which indicates the growing relevance of services in the Nigerian economy. However, the pattern of growth in services, which is led by wholesale and retail trade, is not healthy, because it threatens the survival of manufacturing and agriculture.

More recent work shows that the question of how macroeconomic instability affects sectoral output remains live. Oyadeyi (2024) finds that macroeconomic uncertainty predicts robust negative movements in sectoral output in Nigeria, and Olubiyi and Ogunro (2025) find that exchange rate volatility affects Nigerian manufacturing sub-sectors, mainly in the short run.

1.2 Statement of the Problem

Countries with natural resource abundance, such as oil, face particular challenges compared with countries without such resources. In parallel with windfall oil revenues, these countries need to pay more attention to the development of the non-oil sector and to its export performance. In most cases, oil-driven economic development leads to undesirable consequences such as Dutch disease in oil-rich countries, and the Dutch disease concept provides a link between the real exchange rate and non-oil output. According to the concept, an appreciation of a country's real exchange rate, caused by a sharp rise in the exports of a booming resource sector, draws capital and labour away from the manufacturing and agricultural sectors. This can reduce the productivity of agricultural and manufacturing output and raise the prices of non-tradable goods. The same case applies to Nigeria, one of the oil-rich countries. An appreciating exchange rate is one of the major factors that impede non-oil export growth, while an increase in value added in the non-oil sector raises non-oil export earnings, so the exchange rate is likely to affect the rate of output growth in the non-oil sector.

The stimulation of non-oil output has been the main aim of exchange rate policy measures, through competitiveness in the relative price of non-oil exports brought about by depreciation of the naira. Other incentives have included the abolition of export licences, the retention of 25 per cent of foreign currency proceeds for the exporter's use (later raised to 100 per cent), and the abolition of agricultural commodity marketing boards. Despite these incentives, the response of non-oil output to exchange rate policy has not been impressive. Adeyemi and Adewumi (2022) conclude that non-oil exports have not contributed positively to improving Nigeria's balance-of-payments position. The effect of exchange rate policy in Nigeria has not produced the desired results. The economy continues to depend on a single commodity, oil, for a large share of its foreign exchange earnings, while agriculture, which was the mainstay of the economy before oil was discovered, continues to dwindle. Manufacturing output has also continued to decline. Non-oil output and non-oil exports have both fallen while the exchange rate has been rising.

The main focus of this study is therefore to investigate the response of sectoral output to exchange rate policy in Nigeria. Much empirical work has been done on the effects of exchange rate changes in Nigeria, and recent studies have begun to examine sectoral responses. Ogunjimi (2020), using ARDL and NARDL models on annual data, finds that exchange rate dynamics stimulate agricultural and services output but are inversely related to industrial output, with no asymmetry between depreciation and appreciation. Dada (2022), covering 1970–2017, finds that both fixed and flexible exchange rate regimes have positive and significant effects on sectoral output, with the effect of the fixed regime greater. Olubiyi and Ogunro (2025) concentrate on manufacturing sub-sectors and on volatility rather than on the level of the real exchange rate. These studies differ in sector coverage, in the exchange rate concept used and in the period examined, and they reach different conclusions. There remains a need for a study that covers the main non-oil sectors, such as agriculture, manufacturing, building and construction, transport, communication and services, over a long period, and that separates short-run from long-run effects using an error correction model (ECM). The investigation of these sectors is important because they react differently to exchange rate fluctuations, and these differences in contribution and response have implications for employment, income distribution and poverty, all of which are crucial in a typical developing nation. Stimulating non-oil output growth is also important for improving non-oil exports. As noted above, non-oil output and exports have fallen in the midst of a rising exchange rate. This leads to the following research questions.

1.3 Research Questions

i. What are the effects of the real exchange rate on agricultural sector output in Nigeria?

ii. What are the effects of the real exchange rate on manufacturing sector output in Nigeria?

iii. What are the effects of the real exchange rate on services sector output in Nigeria?

1.4 Objectives of the Study

i. To determine the effects of the real exchange rate on agricultural sector output in Nigeria.

ii. To ascertain the effects of the real exchange rate on manufacturing sector output in Nigeria.

iii. To ascertain the effects of the exchange rate on services sector output in Nigeria.

1.5 Hypotheses of the Study

Ho1: The real exchange rate has no significant effect on agricultural sector output in Nigeria.

Ho2: The real exchange rate has no significant effect on manufacturing sector output in Nigeria.

Ho3: The real exchange rate has no significant effect on services sector output in Nigeria.

1.6 Policy Relevance of the Study

The main focus of this study is to investigate the response of sectoral output to exchange rate policies in Nigeria. A sectoral investigation is important because the differences in contribution and response across sectors have implications for employment, income distribution and poverty, which are crucial in a typical developing nation. Studying the short-run and long-run responsiveness of non-oil sectoral output to exchange rate changes is important for economic policy for several reasons.

First, it will help policy makers to know whether there is a stable long-run relationship between the exchange rate and non-oil output. If no such relationship exists, depreciating the exchange rate does not appear to be a reasonable way of improving the country's competitiveness over the long term. Second, if a long-run relationship does exist, it is necessary to establish whether depreciation is likely to lead to a net improvement in the trade balance in the long run. Third, estimates of the short-run dynamics provide information on the immediate and medium-term effects of exchange rate changes on sectoral output. Fourth, the results may contribute to further insight into the international transmission of changes in economic activity and prices. Lastly, the study may encourage further analysis of the effect of substantial government foreign borrowing on sectoral output growth and on the current account in general.

1.7 Scope of the Study

This country-specific study focuses on the Nigerian economy and covers the period 1970 to 2012. The period was chosen because of data availability and because it provides enough observations for time series analysis.

1.8 Organisation of the Study

The study is divided into five chapters. Chapter one contains the background information, the statement of the problem, the objectives of the study, the research questions and the research hypotheses. Chapter two contains the literature review, and chapter three the methodology. Chapter four presents and analyses the results, and chapter five contains the summary, conclusion and recommendations.

1.9 Conceptual Framework

Exchange rate: The exchange rate is the price of one currency in terms of another. It is the amount of foreign currency that can be bought with one unit of the domestic currency, or the cost in domestic currency of buying one unit of the foreign currency. It is the rate at which one currency is exchanged for another, and it is used to characterize the international monetary system. Foreign exchange is a monetary asset used daily to settle international transactions and to finance deficits in a country's balance of payments. It is an important component of a country's stock of external reserves, which also include holdings of monetary gold and special drawing rights (SDRs). A country can acquire foreign exchange through exports of goods and services, direct investment inflows, or external loans, aid and grants, which can be used to settle international obligations.

There are two major forms of exchange rate regime, the fixed and the floating. Dada (2022) shows that the choice between them matters for sectoral output in Nigeria.

The fixed exchange rate: A fixed exchange rate regime entails pegging the exchange rate of the domestic currency to a unit of gold, a reference currency, a basket of currencies or the SDR, with the primary objective of ensuring a low rate of inflation. The advantages and disadvantages of the fixed regime are well documented in the literature. They include reduced transaction costs in trade, greater macroeconomic discipline, the possibility of greater credibility through exchange rate stability, and a stronger response to domestic nominal shocks.

The floating exchange rate: The floating exchange rate regime, on the other hand, implies that the forces of demand and supply determine the exchange rate. It assumes the absence of any visible hand in the foreign exchange market, so that the exchange rate adjusts automatically to clear any deficit or surplus in the market.

References

Adeyemi, P. A., & Adewumi, A. K. (2022). The impact of non-oil exports on balance of payment disequilibrium in Nigeria. International Journal of Finance Research, 3(1).

Akpansung, A. O. (2021). Impact of real effective exchange rates on balance of payments: Empirical evidence from Nigeria. African Journal of Economic Review, 9(4). https://doi.org/10.22004/ag.econ.315825

Alfa, Y., Naankar, D. A., Ikubor, O. J., Buari, A. A., & Haladu, G. (2024). Exchange rate dynamics and the effect on balance of payments in Nigeria: Evidence from mixed data sampling model. Journal of Economic Studies, 21(2). https://journals.unizik.edu.ng/jes/article/download/5578/4625

Dada, J. (2022). Exchange rate regime and economic growth in Nigeria: Evidence from sectoral level. International Journal of Business and Emerging Markets, 14(3), 231–251.

Ogunjimi, J. A. (2020). Exchange rate dynamics and sectoral output in Nigeria: A symmetric and asymmetric approach. American Journal of Social Sciences and Humanities, 5(1), 178–193.

Olubiyi, E., & Ogunro, T. (2025). Exchange rate and industrial output in Nigeria: Sectoral analysis. Journal of Business Economics and Finance, 14, 60–86. https://doi.org/10.17261/Pressacademia.2025.1977

Oyadeyi, O. O. (2024). Macroeconomic uncertainty and sectoral output in Nigeria. Economies, 12(11), 304. https://mdpi.com/2227-7099/12/11/304

Prince, N. S. (2020). Does exchange rate have asymmetric impact on trade balance? Fresh insights from combined cointegration. Studies in Business and Economics, 15(1), 259–269. https://doi.org/10.2478/sbe-2020-0019