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Abstract
Starting from the immediate post-independence era, Nigeria pursued an overvalued foreign exchange rate policy. As the central bank is a net seller of foreign exchange to the private sector, the policy was aimed at subsidizing and protecting the populace and local firms. This paper investigates the impact of the exchange rate policy on real customs revenue in Nigeria using error correction methodology. In addition, the paper estimates the implicit central bank losses associated with the valuation of the net foreign exchange sold to the private sector at the overvalued official exchange rate. The paper also discusses the politics of the exchange rate policy in Nigeria. Findings indicate that Nigeria’s exchange rate policy had serious fiscal and commercial policy implications by squeezing the tax base in foreign trade transactions and expanding opportunities for large scale rent seeking activities. Furthermore, the premium negatively affects customs and excise duties collected. In the long run, a 10% reduction in parallel premium engenders 6% increase in real customs revenue. In addition, estimates show that exchange rate overvaluation subsidy has been quite substantial overtime, rising from 7.4% of GDP in 1979 to 25.5% of GDP in 1986. The results underscore the need to sustain the present regime of low parallel market exchange premium in Nigeria through compatible economic policies. An enduring lesson is the need to entrust economic management to technocrats who are free of political influences, and the necessity of agencies of restraint such as an independent central bank.