Effects of Real Exchange Rate on Trade Balance: Empirical Evidence from Nigeria

The paper empirically examines the effects of real exchange rate on trade balance in Nigeria. The econometric diagnostics for presence of unit roots in the series was conducted using the Augmented Dickey-Fuller technique. The results indicate that all the variables  are integrated of order one while the major Error Correction terms (ECM1 and ECM2) are integrated of order zero, which confirms the existence of long-run equilibrium on the basis of Engel-Granger approach to cointegration. The results of causality test indicate weak evidence of causality between real exchange rate and trade balance. The error-correction model estimates provide evidence in support of restoration of long-run equilibrium after short-run distortion. However, the impulse response function does not establish the existence of J-Curve effect in Nigeria. The implication of the study is that real exchange rate adjustment alone may not ensure favourable balance of trade in Nigeria.  Consequently, the study recommends that exchange rate adjustment policies should be accompanied by other policy actions. Overall, this study bridges the dearth of in-depth literature on the effect of real exchange rate on trade balance in Nigeria, as well as adds to existing literature on the subject matter.