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FINANCIAL DEREGULATION, STOCK PRICE VOLATILITY AND MONETARY POLICY IN NIGERIA
ABSTRACT
Germane to every monetary policy is the goal of achieving price stability. The objective of price stability essentially encapsulates the need to eliminate price expectations to zero and to eliminate the long run uncertainty about the price level. The trend is interesting and indeed focused within the purview of two monetary frameworks – inflation targeting and monetary targeting extremes. The Nigerian CBN has been on both sides of this divide. In between this divide is found the income targeting frameworks and the Friedman-type policy rule which itself has been criticized for reasons of perceived instability in the demand for real money balances by monetary targeting advocates. Consequently, the objective of this study is to determine whether inflation expectation and price volatility have any significant influence on inflation in Nigeria, and; ipso facto determine the extent to which monetary policy have eliminated expectations and volatility in the price level.
CHAPTER ONE
INTRODUCTION
1.0 BACKGROUND OF THE STUDY
Globally, the stock market of any economy plays the important role of mobilizing domestic resources for productive investments. The stock market is regarded as an integral component of most economies, since it signals redistribution, and reallocation of assets among different economic units within an economy (Pilinkus, 2010). The performance of this market is tied to the overall performance of an economy. Particularly, the growth in the Nigerian economy in the last two decades can be associated with the impact of stock market on the overall economy (Bertram, 2018; Ifionu & Omojefe, 2013). This is to say that the evolution of the economy is fundamentally connected with the capital market performance. Thus, research on monetary policy and stock exchange market has become an issue of discourse among policy makers. In view of this development, the monetary policy tools are adjusted and aimed at achieving the macroeconomic goals of inflation and output targets as well as control any risk or threat to financial system stability (Echekoba, Ananwude, & Lateef, 2018). Evidently, the Central Bank of Nigeria (CBN) has interest in the overall workings of the stock market due to its importance for monetary policy and financial risk management. This is because the Bank has the ability to impact on the capital market via interest rate, credit, wealth effect, exchange rate and monetary channels (Mishkin, 2016; Nwakoby & Alajekwe, 2016).
The literature showing the relationship between monetary policy and the stock market is unclear both in direction and nature of behaviour. Bulk of the existing literature on the behavior between stock market and monetary policy assumed a linear relationship (Muktadir-Al-Mukit & Shafiullah, 2012; Chude & Chude, 2013; Handoyo, Jusoh, & Zaidi, 2015; Echekoba, Okaro, Ananwude, & Akuesodo, 2017; Echekoba et al., 2018; and Umezurike & Ananwude, 2019). Another strand of studies have shown that a comprehensive explanation of the relationship between monetary policy and stock exchange market goes beyond assuming a linear behaviour (McMillan, 2001; Sarantis, 2001; Aslanidis, Osborn, & Sensier, 2002; Cevik, Dibooglu, & Kutan, 2014; Tumala & Yaya, 2015; and Altintas & Yacouba, 2018). Most studies revealed the existence of nonlinearity in assessing the relationship between monetary policy and stock market. Assuming linearity might give a misleading and systematic bias in the relationship because of central banks’ diverse response to shocks from the stock market and vice versa. As a result, a nonlinear approach is suitable to show the relationship between monetary policy and stock exchange market. Ma (2016) argued that nonlinearity results from either “asymmetry in central banks’ preferences and nonlinearities in the macroeconomic structure of an economy” as well as the different responses to abrupt changes or shocks in policy and stock exchange market by individual risk averse agents in the market. This reveals that the nonlinear behaviour of stock market performance towards monetary policy instrument is underpinned by numerous theoretical and empirical literature.
This study is motivated by the unsettled debate and recent literature that document the crucial importance of monetary policy transmission to the stock market using linear models. We ask and assess whether a nonlinear model can account for the well documented response of stock market to monetary policy. Specifically, this paper attempts to investigate the impact of monetary policy decisions on the stock market. Firstly, the study examines the asymmetric impact of monetary policy on stock market performance using the nonlinear smooth transition autoregressive (STAR) model for the Nigerian economy. This contributes to existing empirical literature and offers understanding into stock market asymmetric behaviour in a developing country like Nigeria using a robust methodology. Secondly, as revealed by Al Mukit and Shafiullah (2012) and Belke and Beckmann (2015), the interaction between stock prices and the monetary policy process could be reversed. Therefore, the study tests a linear and nonlinear causality between stock exchange market and monetary policy in Nigeria.
The recent opening in emerging financial markets has generated a large literature, with many commentators predicting that such liberalization will increase the inflow of foreign capital, leading to greater financial development and economic growth. In principle, some models maintain that a market opening should decrease the variability of asset prices. The more able investors are to adjust the quality of their portfolios in response to shocks, the less impact there should be on prices, and hence the volatility of returns should fall (Reinhart 1998). However, the tumultuous events in developing countries over the last few years have led some practitioners and policy makers to question whether opening may in fact substantially raise the volatility of asset prices.
Moreover, several papers examining the behaviour of recently liberalized stock exchanges (Borenzstein and Gelos 2000), Froot, O’Connell and Seasholes 1999, and Kaminsky, Lyons and Schmukler 1999 have found strong evidence of herding, momentum trading, and trend chasing, all of which can substantially increase, rather than decrease the volatility of share prices.
There have been previous studies which have examined the effect of liberalization on stock volatility (Bekaert and Harvey 1997, Desantis and Imorohoroglu 1997), (Inclan, Aggarwal and Leal 1997), (Kim and Singal 2000), and (Levine and Servos 1998).
Monetary policy targeting in Nigeria is centered on a financial programming approach that contain an implicit inflation target and external reserves consistent with the growth of real economic activity and growth of money supply from which the economy’s absorptive capacity for domestic credit is derived. This study would therefore be a significant departure from the studies on inflation in Nigeria by incorporating forward-looking expectations and volatility effects of prices in determining the long direction of monetary policy action.
Consequently, the objective of this study is to determine whether inflation expectation and price volatility have any significant influence on inflation in Nigeria, and; ipso facto determine the extent to which monetary policy have eliminated expectations and volatility in the price level.
1.1 STATEMENT OF PROBLEM
Meanwhile, empirical studies on financial deregulation, stock price volatility and monetary policy in Nigeria is scanty, the new era of financial practices in success of financial sector is at the threshold. Given the economic significance of this reforms and the low level research in this area, it is essential that meaningful research should be undertaken to discover the implication of this reforms in the financial practices with regards to monetary policy in Nigeria. To address this issue empirically, the main focus of the study is to carry out an empirical research aimed at addressing the following questions:
(i) What is the implication of deregulation on the financial sector on the stock market price and monetary policy?
(ii) What is the consequence of internal and external inefficiencies that results from financial sector deregulation?
(iii) What is the nature of changes in monetary policy as it affects equity prices?
(iv) Why the changes in monetary policy affect stock prices?
1.2 OBJECTIVE OF THE STUDY
The main purpose of this study is to examine empirically the relationship between the banking reforms and consolidation and human resource management. Specially, the study will be designed to achieve the following objectives:
i To investigate the impact of monetary policy on the deregulation of Nigerian financial sector as it relates to stock price(s)
ii. To analyse the impact of reforms in the financial sector on the operational performance of this sector in Nigeria.
iii. To determine the improvement in linkages between the formal and informal financial sector of the economy.
iv. To examine critically the performance of financial deregulation on stock price during pre and post implementation stages of these reforms
1.3 SIGNIFICANCE OF THE STUDY
It is hope that this study will be theoretically and practically significant. The importance of this study will basically include:
Theoretically, it will contributes to the understanding of economists as well as other users of economic indicators on how monetary policy can be employed to deregulate the financial sector of the economy of Nigeria and its implication on stock prices. More so, the study would bridge the gap in the business environment as it relates to the study.
Practically, the result of the study is likely to be useful to ascertain effectiveness and other uses of financial deregulation through monetary policy measures. Also, it will ascertain the degree and nature of association that exists among the variables of the subject in question.
1.4 DELIMITATION AND LIMITATIONS OF THE STUDY
The study is limited in scope. The study will focus on Nigerian economy with its attending financial system review of 1976, 1986 and 2004 financial deregulation policy. These activities and volatility of stock price within this period would also be examined as well as the monetary policy measured during these periods. Meanwhile another issue is the reluctancy of respondents to questionnaire, this is owing to what seems precious situation in the view of this new development. Finally, it is hoped that despite these limitations, the findings from the study could find general application to the area of study and provide the building blocks for future researchers.
1.5 RESEARCH METHODOLOGY
In view of this, the only possible method of collecting the require information would be field studies with self-administered questionnaire that will be interested observing and recording how the variable of the study behave rather than manipulating them (Asika 1991).
1.6 RESEARCH QUESTIONS
(1) What is the relationship between the monetary policy and the reforms in the financial sector?
(2) What is the significance of monetary policy variable on the economy situation of Nigeria?
(3) What is the effect of financial sector reform on the stock price volatility and monetary policy in Nigeria?
(4) What relationship does monetary policy in Nigeria have with stock price(s)?
1.7 RESEARCH HYPOTHESIS
During the course of this study the following hypothesis would be tested:
HYPOTHESIS 1
Ho: The monetary policy has no significant relationship with economy situation of Nigeria.
H1: The monetary policy has a significant relationship with economy situation of Nigeria.
HYPOTHESIS 2
Ho: Financial sector does not have any effect on the stock price volatility.
H1: Financial sector have effect on the stock price volatility.
HYPOTHESIS 3
Ho: The reforms of financial sector in Nigeria has no positive effect on Nigerian Economy.
H1: The reforms of financial sector in Nigeria has positive effect on Nigerian Economy.
1.8 DESCRIPTION OF RESEARCH INSTRUMENT
The researcher collected his data through the sue of a well designed questionnaires containing 15 close ended questions of likert scale type (statement with which the respondent shows the amount of agreement/disagreement).
Since the study is intended to measure the significance of Financial Deregulation Stock price volatility and monetary Policy in Nigeria. Then, this likert scale type of close ended questionnaire is appropriate.
1.9 POPULATION AND SAMPLING PLAN
The population of concern in this study is the financial sector. But the population would be rather too large for the study because of the area covered interms location geographically.
But for the purpose of this study, the researcher has decided to use stratified sampling method. This allows variability of elements selected within each stratum to be more homogenous than is the variability of elements between strata (Ogunjimi 2001)
1.10 OPERATIONAL DEFINITION OF KEY TERMS
1. Volatility: this is a situation of unstable trend as it relate to price stability in an economic.
2. Deregulation: this is a situation where there is a shift in the foregoing of a particular running system or a trend as it relates to a named sector.
REFERENCES
Asika N. (1991) Research Methodology in the
Behavioural Science (Nigeria: Longman).
Aggerwal R. C. Inclan, and R. Leal (1999), Volatility in
Energing Stock Markets. Journal of financial and Quantitative Analysis, 34, March, 33-55
Bekaert, G. and C. Harvey (1997), Emerging Market
Volatility, Journal of Financial Economics, 43, January, 29-77
Borenzstein, E. and R. G. Gelos (2000), A Panic-Prone
Pack? The Behaviour of Emerging Markeet MutualFunds. IMF Working Paper 00/198.
DeSantis, G. and S. Imrohoroglu (1997) Stock Return and
Volatility in Emerging Financial Markets, Journal of International Money and Finance, 16, August 561-579
Ogunjimi, M. O. (2001), Introduction to Research
methodology and Data processing Nigeria: Joytal Printing Press
Reinhart, V. (2000), How the Machinery of International
Finance Runs with Sand in its Wheels. Review of International Economics, 8 February 74-85
ABSTRACT
Germane to every monetary policy is the goal of achieving price stability. The objective of price stability essentially encapsulates the need to eliminate price expectations to zero and to eliminate the long run uncertainty about the price level. The trend is interesting and indeed focused within the purview of two monetary frameworks – inflation targeting and monetary targeting extremes. The Nigerian CBN has been on both sides of this divide. In between this divide is found the income targeting frameworks and the Friedman-type policy rule which itself has been criticized for reasons of perceived instability in the demand for real money balances by monetary targeting advocates. Consequently, the objective of this study is to determine whether inflation expectation and price volatility have any significant influence on inflation in Nigeria, and; ipso facto determine the extent to which monetary policy have eliminated expectations and volatility in the price level.
CHAPTER ONE
INTRODUCTION
1.0 BACKGROUND OF THE STUDY
Globally, the stock market of any economy plays the important role of mobilizing domestic resources for productive investments. The stock market is regarded as an integral component of most economies, since it signals redistribution, and reallocation of assets among different economic units within an economy (Pilinkus, 2010). The performance of this market is tied to the overall performance of an economy. Particularly, the growth in the Nigerian economy in the last two decades can be associated with the impact of stock market on the overall economy (Bertram, 2018; Ifionu & Omojefe, 2013). This is to say that the evolution of the economy is fundamentally connected with the capital market performance. Thus, research on monetary policy and stock exchange market has become an issue of discourse among policy makers. In view of this development, the monetary policy tools are adjusted and aimed at achieving the macroeconomic goals of inflation and output targets as well as control any risk or threat to financial system stability (Echekoba, Ananwude, & Lateef, 2018). Evidently, the Central Bank of Nigeria (CBN) has interest in the overall workings of the stock market due to its importance for monetary policy and financial risk management. This is because the Bank has the ability to impact on the capital market via interest rate, credit, wealth effect, exchange rate and monetary channels (Mishkin, 2016; Nwakoby & Alajekwe, 2016).
The literature showing the relationship between monetary policy and the stock market is unclear both in direction and nature of behaviour. Bulk of the existing literature on the behavior between stock market and monetary policy assumed a linear relationship (Muktadir-Al-Mukit & Shafiullah, 2012; Chude & Chude, 2013; Handoyo, Jusoh, & Zaidi, 2015; Echekoba, Okaro, Ananwude, & Akuesodo, 2017; Echekoba et al., 2018; and Umezurike & Ananwude, 2019). Another strand of studies have shown that a comprehensive explanation of the relationship between monetary policy and stock exchange market goes beyond assuming a linear behaviour (McMillan, 2001; Sarantis, 2001; Aslanidis, Osborn, & Sensier, 2002; Cevik, Dibooglu, & Kutan, 2014; Tumala & Yaya, 2015; and Altintas & Yacouba, 2018). Most studies revealed the existence of nonlinearity in assessing the relationship between monetary policy and stock market. Assuming linearity might give a misleading and systematic bias in the relationship because of central banks’ diverse response to shocks from the stock market and vice versa. As a result, a nonlinear approach is suitable to show the relationship between monetary policy and stock exchange market. Ma (2016) argued that nonlinearity results from either “asymmetry in central banks’ preferences and nonlinearities in the macroeconomic structure of an economy” as well as the different responses to abrupt changes or shocks in policy and stock exchange market by individual risk averse agents in the market. This reveals that the nonlinear behaviour of stock market performance towards monetary policy instrument is underpinned by numerous theoretical and empirical literature.
This study is motivated by the unsettled debate and recent literature that document the crucial importance of monetary policy transmission to the stock market using linear models. We ask and assess whether a nonlinear model can account for the well documented response of stock market to monetary policy. Specifically, this paper attempts to investigate the impact of monetary policy decisions on the stock market. Firstly, the study examines the asymmetric impact of monetary policy on stock market performance using the nonlinear smooth transition autoregressive (STAR) model for the Nigerian economy. This contributes to existing empirical literature and offers understanding into stock market asymmetric behaviour in a developing country like Nigeria using a robust methodology. Secondly, as revealed by Al Mukit and Shafiullah (2012) and Belke and Beckmann (2015), the interaction between stock prices and the monetary policy process could be reversed. Therefore, the study tests a linear and nonlinear causality between stock exchange market and monetary policy in Nigeria.
The recent opening in emerging financial markets has generated a large literature, with many commentators predicting that such liberalization will increase the inflow of foreign capital, leading to greater financial development and economic growth. In principle, some models maintain that a market opening should decrease the variability of asset prices. The more able investors are to adjust the quality of their portfolios in response to shocks, the less impact there should be on prices, and hence the volatility of returns should fall (Reinhart 1998). However, the tumultuous events in developing countries over the last few years have led some practitioners and policy makers to question whether opening may in fact substantially raise the volatility of asset prices.
Moreover, several papers examining the behaviour of recently liberalized stock exchanges (Borenzstein and Gelos 2000), Froot, O’Connell and Seasholes 1999, and Kaminsky, Lyons and Schmukler 1999 have found strong evidence of herding, momentum trading, and trend chasing, all of which can substantially increase, rather than decrease the volatility of share prices.
There have been previous studies which have examined the effect of liberalization on stock volatility (Bekaert and Harvey 1997, Desantis and Imorohoroglu 1997), (Inclan, Aggarwal and Leal 1997), (Kim and Singal 2000), and (Levine and Servos 1998).
Monetary policy targeting in Nigeria is centered on a financial programming approach that contain an implicit inflation target and external reserves consistent with the growth of real economic activity and growth of money supply from which the economy’s absorptive capacity for domestic credit is derived. This study would therefore be a significant departure from the studies on inflation in Nigeria by incorporating forward-looking expectations and volatility effects of prices in determining the long direction of monetary policy action.
Consequently, the objective of this study is to determine whether inflation expectation and price volatility have any significant influence on inflation in Nigeria, and; ipso facto determine the extent to which monetary policy have eliminated expectations and volatility in the price level.
1.1 STATEMENT OF PROBLEM
Meanwhile, empirical studies on financial deregulation, stock price volatility and monetary policy in Nigeria is scanty, the new era of financial practices in success of financial sector is at the threshold. Given the economic significance of this reforms and the low level research in this area, it is essential that meaningful research should be undertaken to discover the implication of this reforms in the financial practices with regards to monetary policy in Nigeria. To address this issue empirically, the main focus of the study is to carry out an empirical research aimed at addressing the following questions:
(i) What is the implication of deregulation on the financial sector on the stock market price and monetary policy?
(ii) What is the consequence of internal and external inefficiencies that results from financial sector deregulation?
(iii) What is the nature of changes in monetary policy as it affects equity prices?
(iv) Why the changes in monetary policy affect stock prices?
1.2 OBJECTIVE OF THE STUDY
The main purpose of this study is to examine empirically the relationship between the banking reforms and consolidation and human resource management. Specially, the study will be designed to achieve the following objectives:
i To investigate the impact of monetary policy on the deregulation of Nigerian financial sector as it relates to stock price(s)
ii. To analyse the impact of reforms in the financial sector on the operational performance of this sector in Nigeria.
iii. To determine the improvement in linkages between the formal and informal financial sector of the economy.
iv. To examine critically the performance of financial deregulation on stock price during pre and post implementation stages of these reforms
1.3 SIGNIFICANCE OF THE STUDY
It is hope that this study will be theoretically and practically significant. The importance of this study will basically include:
Theoretically, it will contributes to the understanding of economists as well as other users of economic indicators on how monetary policy can be employed to deregulate the financial sector of the economy of Nigeria and its implication on stock prices. More so, the study would bridge the gap in the business environment as it relates to the study.
Practically, the result of the study is likely to be useful to ascertain effectiveness and other uses of financial deregulation through monetary policy measures. Also, it will ascertain the degree and nature of association that exists among the variables of the subject in question.
1.4 DELIMITATION AND LIMITATIONS OF THE STUDY
The study is limited in scope. The study will focus on Nigerian economy with its attending financial system review of 1976, 1986 and 2004 financial deregulation policy. These activities and volatility of stock price within this period would also be examined as well as the monetary policy measured during these periods. Meanwhile another issue is the reluctancy of respondents to questionnaire, this is owing to what seems precious situation in the view of this new development. Finally, it is hoped that despite these limitations, the findings from the study could find general application to the area of study and provide the building blocks for future researchers.
1.5 RESEARCH METHODOLOGY
In view of this, the only possible method of collecting the require information would be field studies with self-administered questionnaire that will be interested observing and recording how the variable of the study behave rather than manipulating them (Asika 1991).
1.6 RESEARCH QUESTIONS
(1) What is the relationship between the monetary policy and the reforms in the financial sector?
(2) What is the significance of monetary policy variable on the economy situation of Nigeria?
(3) What is the effect of financial sector reform on the stock price volatility and monetary policy in Nigeria?
(4) What relationship does monetary policy in Nigeria have with stock price(s)?
1.7 RESEARCH HYPOTHESIS
During the course of this study the following hypothesis would be tested:
HYPOTHESIS 1
Ho: The monetary policy has no significant relationship with economy situation of Nigeria.
H1: The monetary policy has a significant relationship with economy situation of Nigeria.
HYPOTHESIS 2
Ho: Financial sector does not have any effect on the stock price volatility.
H1: Financial sector have effect on the stock price volatility.
HYPOTHESIS 3
Ho: The reforms of financial sector in Nigeria has no positive effect on Nigerian Economy.
H1: The reforms of financial sector in Nigeria has positive effect on Nigerian Economy.
1.8 DESCRIPTION OF RESEARCH INSTRUMENT
The researcher collected his data through the sue of a well designed questionnaires containing 15 close ended questions of likert scale type (statement with which the respondent shows the amount of agreement/disagreement).
Since the study is intended to measure the significance of Financial Deregulation Stock price volatility and monetary Policy in Nigeria. Then, this likert scale type of close ended questionnaire is appropriate.
1.9 POPULATION AND SAMPLING PLAN
The population of concern in this study is the financial sector. But the population would be rather too large for the study because of the area covered interms location geographically.
But for the purpose of this study, the researcher has decided to use stratified sampling method. This allows variability of elements selected within each stratum to be more homogenous than is the variability of elements between strata (Ogunjimi 2001)
1.10 OPERATIONAL DEFINITION OF KEY TERMS
1. Volatility: this is a situation of unstable trend as it relate to price stability in an economic.
2. Deregulation: this is a situation where there is a shift in the foregoing of a particular running system or a trend as it relates to a named sector.
REFERENCES
Asika N. (1991) Research Methodology in the
Behavioural Science (Nigeria: Longman).
Aggerwal R. C. Inclan, and R. Leal (1999), Volatility in
Energing Stock Markets. Journal of financial and Quantitative Analysis, 34, March, 33-55
Bekaert, G. and C. Harvey (1997), Emerging Market
Volatility, Journal of Financial Economics, 43, January, 29-77
Borenzstein, E. and R. G. Gelos (2000), A Panic-Prone
Pack? The Behaviour of Emerging Markeet MutualFunds. IMF Working Paper 00/198.
DeSantis, G. and S. Imrohoroglu (1997) Stock Return and
Volatility in Emerging Financial Markets, Journal of International Money and Finance, 16, August 561-579
Ogunjimi, M. O. (2001), Introduction to Research
methodology and Data processing Nigeria: Joytal Printing Press
Reinhart, V. (2000), How the Machinery of International
Finance Runs with Sand in its Wheels. Review of International Economics, 8 February 74-85
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