Chapter 7: Optimal Monetary Policy Instruments for Nigeria

Monetary policy is conducted especially in developing economies to ensure continued improvement in the liquidity conditions and enhance the efficacy of the financial market toward attaining the core objective of monetary and price stability (Bean, 2005; Central Bank of Nigeria (CBN), 2011; Regan, 2010). The essence of price stability is to avoid gyration in domestic price and lay the foundation for investment activities, hence a key indicator to gauge economic performance. When the price level is stable, it creates room for a well-informed consumption and investment decisions and allocate resources more efficiently. In agreement with this, Duguay (1994) and Ohale and Onyema (2002) assert that the achievement of other macroeconomic objectives like high and stable output and employment is greatly tied to the level of prices in conjunction with adequate liquidity. A change in the price level leads to a change in the aggregate quantity of goods and services consumed. In addition, a stable price level prevents unproductive activities to hedge against the negative impact of inflation or deflation. Beside, uncertainty about the price level imposes a risk premium that increases the cost of capital which negatively affects economic activities (Crawford, Meh, & Terajima, 2009).