Assessment of interest rate channel Effectiveness in the transmission of Monetary Policy in Nigeria

Abstract

This study attempted to investigate the effectiveness of the interest rate channel in the transmission of monetary policy by employing a structural vector autoregressive (SVAR) model using sign restriction. It used a set of policy and non-policy macroeconomic variables based on monthly data spanning the period 2007 and 2020. The structural impulse response functions provided evidence to support the use of the MPR as a signaling rate for domestic interest rates but was, however, found to be ineffective in stabilizing prices or increasing output. Furthermore, results from the variance decomposition of the non-policy variables found the effect of exchange rate innovations to be more significant in explaining variations in the price level. The study, therefore, concludes that the effectiveness of the policy rate in stabilizing prices is dampened by shocks prevalent from the external sector. Given the importance of international trade, the study recommends aggressive exchange rate management including policies that encourage import-substitution to build reserves and strengthen the value of the domestic currency.