Forecasting Model for USD/NAIRA Exchange Rate

Abstract 

The theory of forecasting exchange rate has been in existence for many centuries where different models yield different forecasting results either in the sample or out of sample (Onasanya & Adeniji, 2013). A country's exchange rate is one of the most closely monitored indicators, as fluctuations in exchange rates can have far reaching economic consequences (Ribeiro, 2016). The recent financial turmoil all over the world demonstrates the urgency of perfect information of the exchange rates (Shim, 2000). Understanding the forecasting of exchange rate behaviour is important to monetary policy (Simwaka, 2007). One of the important variables that have considerable influence on other socio - economic variables in Nigeria is the Nigerian naira / dollar exchange rate (Ismail, 2009). Owing to the critical role played by exchange rate dynamics in international trade and overall economic performance of all countries in general, the need for a good forecasting tool cannot be ruled out. In this study, we model and forecast the Naira / USD exchange rates over the period 2010 - 2024. Our diagnostic tests such as the ADF test indicate that exchange rate time series data is non-stationary. Based on the PACF and ACF plot, this study presents the SARIMAX (2, 1, 1)(2, 0, 0, 12) model as the optimal model. It is also important to note that our forecast evaluation statistics absolutely show that our forecast accuracy is quite good. Our forecast actually indicates that the Naira will continue to depreciate. The main policy implication from this study is that the Central Bank of Nigeria (CBN), should devalue the Naira in order to not only restore exchange rate stability but also encourage local manufacturing and promote foreign capital inflows.

Table of Contents 

CHAPTER 1 INTRODUCTION

1.1 Background Study

1.2 Problems and Objectives of the Study

1.3 Significance of the Study

CHAPTER 2 LITERATURE REVIEW

2.1 Theoretical Literature Review

2.1.1 Purchasing Power Parity Theory (PPP)

2.1.2 Balance of Payment Theory (BoP)

2.1.3 Tightening Monetary Policy Theory (TMP)

2.1.4 Interest Rate Parity (IRP)

2.2 Empirical Literature Review

CHAPTER 3 METHODOLOGY

3.1 Autoregressive Integrated Moving Average (ARIMA) model

3.2 The Seasonal Autoregressive Integrated Moving Average eXogenous (SARIMAX) Model

3.3 Model Approach and Specification

3.4 Stationarity Test

3.4.1 Graphical Test

3.4.2 Augmented Dickey Fuller (ADF) Test

3.5 Identifying p and q values

3.6 Data Collection

CHAPTER 4 MODEL EVALUATION & DIAGNOSTIC TESTING

4.1 Model Validation

CHAPTER 5 CONCLUSION

REFERENCES