Domestic debt and its impact on economic growth of Nigeria (1980-2012)
- 1 Background to the Study
No doubt, governments borrow to fill the vacuum created by the fiscal gaps in the proposed expenditure and expected revenue within a fiscal period. If government does not want to compromise macroeconomic stability by printing more money and government taxation capability is limited, then debt option becomes the only available avenue that the government can explore to provide social overhead capital for the citizenry. Governments borrow in principle to finance public goods that increase welfare and promote economic growth. The spending has to be financed either through taxation, through seignorage, or with debt.
Three reasons could be advanced why debt may be preferred to taxation or money printing. Firstly, debt encourages tilting by allowing a more equitable manner in which a country can exploit investment with long gestation periods. Secondly, by smoothing a more efficient procedure for conducting counter-cyclical policies or meeting emergency spending needs are achieved. Adjusting taxes frequently may lead to efficiency losses and economic uncertainty. Third is the stability advantage of debt over taxation and seignorage. However, debt has to be repaid. Funds borrowed are simply postponed taxation. Hence, the use to which the funds are put and the returns relative to the cost of borrowing becomes crucial. If the government invests in infrastructure, such investments are capable of leading to faster growth and socio-economic development. Past investigations on the relationship between debt and growth on the Nigerian economy such as Ariyo (1996), Adams and Bankole (2000) and Iyoha (2000) have not shown the channel through which debt could be growth promoting.
Economic theory suggests that reasonable levels of borrowing by a developing country are likely to enhance its economic growth (Pattillo, Ricci, and Poirson 2002). When economic growth is enhanced (at least more than 5% growth rate) the economy’s poverty situation is likely to be affected positively. In order to encourage growth, countries at early stages of development like Nigeria borrow to augment what they have because of dominance of small stocks of capital hence they are likely to have investment opportunities with rates of return higher than that of their counterparts in developed economies. This becomes effective as long as borrowed funds and some internally ploughed back funds are properly utilized for productive investment and do not suffer from macroeconomic instability, policies that distort economic incentives, or sizable adverse shocks. Growth therefore is likely to increase and allow for timely debt repayments. When this cycle is maintained for a period of time growth will affect per capita income positively which is a prerequisite for poverty reduction. These predictions are known to hold even in theories based on the more realistic assumption that countries may not be able to borrow freely because of the risk of debt denial.
Although the debt overhang models do not analyze the effects of debt on growth explicitly, the implication still remains that large debt stocks lower growth by partly reducing investment with a resultant negative effect on poverty. But the incentive effects associated with debt stocks tend to reduce the benefits expected from policy reforms that would enhance efficiency and growth, such as trade liberalization and fiscal adjustment. When this happens the government will be less willing to incur current costs if it perceives that the future benefit in terms of higher output will accrue partly to foreign lenders. Supporting the conception, Stiglitz (2000; 790) contributed that government borrowing can crowd out investment, which will reduce future output and wages. When output and wages are affected the welfare of the citizens will be made vulnerable.
Soludo (2003), opined that countries borrow for two broad categories: macroeconomic reasons [higher investment, higher consumption (education and health)] or to finance transitory balance of payments deficits [to lower nominal interest rates abroad, lack of domestic long-term credit, or to circumvent hard budget constraints]. This implies that economy indulges in debt to boost economic growth and reduce poverty. He is also of the opinion that once an initial stock of debt grows to a certain threshold, servicing them becomes a burden, and countries find themselves on the wrong side of the debt-laffer curve, with debt crowding out investment and growth. This seems to be the position of Nigeria today because investment, which will accordingly result to high-speed growth with a positive effect on poverty, is moving sporadically in both positive and negative directions.
For the past two decades, Nigeria has borrowed large amounts, often at highly concessional interest rates with the hope to put them on a faster route to development through higher investment, faster growth and poverty improvement but on the contrast economic growth and poverty situations are staggering at the back door amidst excess debt, albeit that was the initial intention. It is then obvious that the Nigerian indebtedness has gone beyond such limits and it is noteworthy if such limit is dictated to help the economy in their pursuit towards debt free or less debt burden that will enhance economic growth with a resultant improvement in poverty level.
Domestic debt reduction in Nigeria has taken centre stage for conversing realistic pricing of petroleum products in Nigeria as the domestic debt profile has been rising astronomically and if not controlled could create some unfavorable consequences as crowding out private sector investment, poor GDP growth,(Okonjo-Iweala,2011). On the other hand, government has to continue to finance projects to grow the economy and one viable option of doing so is by issuing debt instruments. For example, the 2012 national budget presented to the national assembly contains a deficit of N1.11trillion which has to be financed majorly through domestic debt. As at September 2011, Nigerian domestic debt stood at N5.3 trillion, an equivalent of $34.4 billion while external debt was $5.6 billion bringing the National debt to a total of 40 billion dollar which amounted to 19.6 percent of GDP, (Nwankwo2011) shows that the debt ratio is still below the internationally unacceptable standard of 40 percent of GDP. However, beyond consideration of maximum acceptable debt-GDP ratio of 0.40 a more critical consideration for economic growth is the country’s absorptive capacity which might be quite be low a given threshold. Domestic debt is therefore a topic to examine at this point of national development when unemployment is critically high and the global economic crisis is far from being resolved.
Domestic debts are debts instruments issued by the federal government and denominated in local currency. State and local government can also issue debt instruments, but debt instrument currently in issue consists of Nigerian treasury bills, federal government development stocks and treasury bonds. Out of these treasury bills and development stocks are marketable and negotiable, while treasury bills and bonds; ways and means advances are not marketable but held solely by the central bank of Nigeria, (Adafu et al 2010). The central bank of Nigeria (CBN) as banker and financial adviser to the federal government is charged with the responsibility for managing the domestic public debt. Alison et al (2003) reveal three principal reasons often advanced for government domestic debt. The first is for budget deficit financing, second, is for implementing monetary policy and the third is to develop instruments so as to deepen the financial market. Whatever the purpose, the government should find a way of managing the domestic debt so that the level of debt is not counter-productive.
1.2 Statement of the Problem
In the last few years there had been alarming signals on the rising level of Nigerian domestic debt, which in the absence of appropriate measures might result to a looming catastrophe. Since the Obasanjo administration succeeded in looping $30 billion dollars debt off the Nigerian external debt, the country has become quite hopeful and relaxed about external borrowing. This has however, been the motivation that has led to the present Yar’dua’s and Jonathan’s administration to embark on a new external borrowing extravaganza, which seems to be a determined effort to take our external debt to its previous heights.
Among the series of recent external debts are: twenty three billion dollar ($23b) sourced from Chinese banks to build three refineries and a petro-chemical complex, $2.2b loan from African Development Bank in 2009 to execute 46 projects and $915 m credit from the World Bank was just obtained as opined by Ogidan (2010).
In the light of the recurring high debt, the World Bank Managing Director in a communiqué warned Nigeria to check its rising domestic debt because it could be harmful to the growth of the domestic economy. This was further buttressed by Ogidan (2010) that aside from the needed checks on foreign debt it is important to focus on issues relating to debt servicing and debts accumulation within the boundaries of the country. Also, Nwankwo (2011) opined in an interactive session that Nigerian domestic debt as attained 86.71% of the total debt as at 2011. He further emphasized that most of the internal debt was incurred through federal government bonds with maturity ranging from 3-20 years issued by DMO on a monthly basis. In the light of this escalating and disturbing domestic debt growth rate and given the priority of current government at making Nigeria one of the largest 20 economies in the world by the year 2020 in line with the vision 2020 objectives, it is important to investigate the effect of public debt on economic growth in Nigeria.
1.3 Research Questions
Some questions which shall be answered in the course of the research work shall as well help to throw more light on the research study:
- To what extent does domestic debt impact on economic growth of Nigeria in the long run?
- What is the nature of causality between domestic debt and economic growth in Nigeria?
1.4 Objectives of the Study
This study generally intends to examine the relationship between domestic debt and economic growth over the years under study. The trend of domestic debt will be assessed with reference do the Nigerian economy. However, the specific goals of this study seek to;
- examine if domestic debt impact significantly on Nigeria’s economic growth in the long run.
- ascertain the nature of causality between domestic debt and economic growth in Nigeria.
1.5 Hypothesis of the Study
H0: Domestic debt has no significant impact on Nigeria’s economic growth in the long run within the period under study.
H0: There is no causal relationship between domestic debt and economic growth in Nigeria.
1.6 Significance of the Study
This research empirically reviews the impact of government debt on the economic growth of Nigeria using a co-integration approach. It will be of great significance to individuals, government, and academia in the following ways;
- To the individual, they will be acquainted with reasons why government incurs debt and the importance of public debt if there is any.
- To the government, the study will provide recommended policies that will assist the concerned agencies in formulating policies towards the use of domestic debt instruments.
- To the academia, this study will contribute to knowledge and literature to be referred to by researchers. It will also throw more light on empirical evidence on the growth of the economy.
1.7 Scope and Limitation of the Study
Domestic Debt and its impact on the economic growth of Nigeria shall be evaluated with data spanning from 1980 to 2012. In the course of the research work effort shall be made to review on the trend of public debt, its importance and effect in Nigeria.
However, the research work would have covered the data range spinning from 1980-2013 but could not owing to the late publication of CBN statistical bulletin. Therefore, the data range set to cover spin from 1980-2012 as CBN Statistical Bulletin Volume 23, 2012 is the latest Volume/Edition.
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