Evaluating adverse effects of supply shocks on monetary policy: evidence from Nigeria

Abstract

This paper applied structural VAR to identify supply shocks (defined as sudden impulses to crude oil prices) for the Nigerian economy from l990 Q1 to 2011 Q4. Results indicated that oil price modeled as supply shocks statistically influences some key macroeconomic variables and consequently shapes monetary policy direction. Price of crude oil exerted influence on monetary policy role, real GDP and real non-oil GDP. The effect of oil price shock on inflation, real oil GDP and nominal interest role was not significant. Developments in the foreign exchange market and real GDP comparatively exerted more influence on the monetary policy directive; reason adduced to this is the volatility of the exchange rate and the fact that inflation eventually is on off shoot of GDP. The monetary policy direction should therefore focus on those variables with high level of volatility as their influence impact heavily on economic activities. The effect of oil price shock was more pronounced on real GDP with longer lag effects on the monetary policy rote. Also, variations in real gross domestic product were explained by the activities of the monetary authorities indicating that reduced interest rate impact strongly on gross domestic product.