Effect of Budget Deficit on Exchange Rate in Nigeria from 1980 to 2017: An Error Correction Model Approach

Abstract

This study examines the effect of budget
deficit on exchange rate in Nigeria using a
time series data from 1980 to 2017. The
study employs an Error Correction Model
Approach (ECM) for evaluation. The
stationarity test result shows that all the
variables are stationary and integrated of
order one at 5% level of significance. The
Johansen hypothesized cointegration test
result show that the trace likelihood ratio
and the maximum Eigen value results
point out that the null hypothesis of no
cointegration among the variables is
rejected in favor of the alternative
hypothesis up to five cointegrating
equations at 5% significant level
respectively. The long run analysis of the
effect of the budget deficit on the
exchange rate performance reveal that the
coefficient of the variables, DEFICIT_1,
LOG (M2) and OPEN show positive
signs. The coefficient of the variables
INF, DEEP and LOG (CONSUM)
indicate negative signs. The equilibrium 

Error-Correction Model result has the
expected negative sign and is statistically
significant. The Pairwise Granger
Causality test result shows that there is a
unidirection of causality from EXCHR to
DEFICIT_1. The study therefore
recommends that the Federal Government
should adopt policy that encourages
foreign capital inflow in order to boost the
country’s productive base.