This study examines and empirically estimates the relationship between inflationary expectations and the variations in interest rate in Nigeria using the Generalized Method of Moment (GMM) estimator. In line with the study objective, we hypothesize that interest rate variations have no significant impact on inflation expectations in Nigeria. The results of empirical study indicate that the effect of interest rate variation on expected inflation in Nigeria is negative and significant. The conclusion is that variation in prime lending is a determining factor of inflation expectations in Nigeria. Accordingly, the central monetary authority, that is, the Central Bank of Nigeria (CBN) should persistently vary the prime lending rate in order to check inflation expectations in the country. As part of the CBN’s statutory duties, there is need for the CBN to embark on the implementation of policies that reduce adverse inflationary trends in the economy and this it does by raising the cost of borrowing to commercial banks and thereby curtailing the capacity of commercial banks to expand credit.
Keywords: Dynamic Model, Expected Inflation, Interest Rate Variation, Long-Run, Short-Run
