Asian Basic and Applied Research Journal

This study revisited the conventional view that increases in exchange rate volatility will increase the inflation rate, using Nigeria as a case study. The paper used Vector Autoregression (VAR) technique using monthly data from January 2000 to February 2023. In addition, as part of robustness, Granger causality tests was applied to trace the direction of cause and effect between exchange rate and inflation in Nigeria using the following variables - exchange rate, inflation rate, oil price, money supply, and interest rate. The empirical findings from the study established that a 1% depreciation of the Nigerian naira resulted in approximately a 0.43% increase in inflation rates suggesting a significant pass-through. Furthermore, the study found a two-way causality between exchange rates and inflation, showing that exchange rate shocks had significantly stronger, more permanent influences on inflation than vice-versa. Overall, the study found that 34.2% of inflation variance over a 24-month period is related to exchange rate shocks while 28.7% of inflation variance is due to dynamics in oil prices. These key findings are significant for monetary policy coordination, exchange rate management, and macroeconomic stability in Nigeria.  It is therefore recommended that maintaining a tight monetary policy in light of the 34.6% rate of inflation, enhancing foreign exchange market efficiency, and reinforcing fiscal-monetary policy coordination be attained within 12months time. While in the Medium-term (1 – 5 years), economic diversification via import substitution with emphasis on agricultural change, and financial markets' development and on Long-term recommendations, institutional development, human capital development, and regional integration within the African Continental Free Trade Area framework be made too.