Measuring the Effects of Monetary Policy Innovations in Nigeria: A Structural Vector Autoregressive (SVAR) Approach

Abstract

Correctly identifying the effects of monetary policy innovations is necessary for good policy making. In this paper, we carry out a controlled experiment using a structural vector autoregression (SVAR) model to trace the effects of monetary policy shocks on output and prices in Nigeria. We make the assumption that the Central Bank cannot observe unexpected changes in output and prices within the same period. This places a recursive restriction on the disturbances of the SVAR. We conduct the experiment using three alternative policy instruments i.e. broad money (M2), Minimum Rediscount Rate (MRR) and the real effective exchange rate (REER). Overall, we find evidence that monetary policy innovations carried out on the quantity-based nominal anchor (M2) has modest effects on output and prices with a very fast speed of adjustment. While, innovations on the price-based nominal anchors (MRR and REER) have neutral and fleeting effects on output. We conclude that the manipulation of the quantity of money (M2) in the economy is the most influential instrument for monetary policy implementation. Hence, we recommend that central bankers should place more emphasis on the use of the quantity-based nominal anchor rather than the price-based nominal anchors.

Keywords: Monetary innovations, structural vector autoregression, output effect, price effect

JEL Classification: E32, E30, P24