Impact of inflation on savings in Nigeria economy
- Background of Study
Inflation is defined as the continuous and sustained rise in general price level of goods and services in nation’s economy. It refers to a situation where the volume of money chasing the available goods and services in an economy is too much, consequently resulting in a persistent rise in general price level. From theoretical literature, it is generally accepted phenomenon that high inflation in an economy has dire consequences, particularly on the stability of price of goods and services, the major source of capital accumulation of households and entrepreneurs will be seriously depleted. For this reason, stakeholders in the economy, which include regulatory agencies and policy makers are concerned about the costs and consequences of high inflation.
Gokal and Hanif (2004) argued that inflation may also reduce a country’s international competitiveness by making its exports relatively more expensive. In Nigeria, the oil boom era of 1970’s, persistent inflationary pressures have exerted overwhelming effects in the economy and various measures ranging from price control, wage freezes to implementation of monetary and fiscal policies have been employed by monetary authorities to tackle inflation. Orubu (2009) posits that since 1990’s the Central Bank of Nigeria (C.B.N) has focused more on monetary policy to combat inflation.
Succinctly, savings may be defined as after tax income not spent. It may rightly be referred to or presumed “deferred consumption”, being income left over for future consumption on capital investment or for precautionary and speculative motives, concisely savings is summed as disposable income less consumption. We can also define savings as deposit and saving ability acquired by the organized financial institution including bank and non-banking financial intermediaries or it is described as a financial accumulated by the public, both government and private agents in the organized financial channels. This financial assets include savings and time deposit in the banking institution provident funds, insurance premium, stock and bond e.t.c. The intermediation process involves moving funds from surplus sector of the economy to deficit sector unit (Nnanna and Englama 2004). In Nigeria, the level of fund mobilization by banks is quite low due to a number of reasons, ranging from low saving deposit rate to the poor banking habits or culture of the people (Nnanna, Englama and Odoko, 2004). Also, another disincentive to funds mobilization according to these authors is the attitude of banks toward small savers. That is most banks target corporate customer and government deposits and pay little or no attention to the small savers. The services rendered to the small saver are more tasking on the banks, but there is need to encourage them to save. As a matter of fact, the funds from household savings are relatively cheaper and more stable than government deposits that are very volatile and expensive.
However, the role of savings in the economic growth of any country cannot be overemphasized. Conceptually, savings represent that part of income not spent on current consumption. When applied to capital investment, saving increase output (Olusoji, 2003). Institutions in the financial sector like deposit money banks (DMBs) or commercial banks mobilize savings deposit on which they pay interest. To effectively mobilize savings in an economy, the deposit rate must be relatively high and inflation rate stabilized. To ensure high positive real interests which motivate investors to save from their disposable income in Nigeria, the problem of mobilization savings and deposits have always been the bane of economic growth and development. In developing economies, savings rate has been declining since the first oil shock and in the early 1990’s (chete, 1999). However, this trend conceals a large and increasing dispersion of saving rate, particularly among developing countries. The large heterogeneity in savings behaviour is associated to country and time differences in level of development growth performance, and fiscal and financial policies. The interest reform policy under financial sector liberalization will also achieve efficiency in the financial sector and engendering financial deepening. In recent times, there has been a growing concern among economist researchers and policy maker in Nigeria over the relatively law saving in rate In Nigeria. This concern is due to several reasons. One domestic savings is of vital importance in the sustenance and reinforcement of the savings investment growth chain in developing countries (Nwachukwu, 2011) two, countries that save more tend to grow faster, provided their financial system is deep (world bank 1989) three, increasing savings and ensuring that they are directed to productive investment are central to accelerating economic growth and development (United Nation, 2005).
Furthermore, higher savings leads to capital accumulation which in turn leads to economic growth and development (Solow, 1956). Hence, the importance of savings in the overall growth and development of the Nigeria economy is enormous. Olusoji (2003) identified financial institutions such as deposit money banks as the main agents of savings mobilization. To effectively mobilize deposits, the deposit money should be relatively stable. Unfortunately, the deposit rate offered by banks in Nigeria have been generally low in the last five decade with an average of 9%, while inflation rate has been relatively high with an average of 19% in the last decade, furthermore, a trend analysis of the ratio of savings to GDP in Nigeria shows that saving rate has been fluctuating overtime. The savings/GDP ratio was 2% in 1960. It increased to 7.8% and 11.6% and 8.4% respectively in 2011, the savings/GDP ratio in Nigeria stood at 77.4% (CBN 2011). Clearly the relatively poor rate at which domestic savings is growing is a source of worry to policy maker.
1.2 Statement of the Problem
Increase in price level has always been compelling problem to both policy makers and the entire Nigerian citizenry. There is perhaps more debate on the question of prices than any other issue these days. This is not surprising since depending on which side of transaction an individual is on he finds his welfare adversely or beneficially affected by a movement in one or more prices. The fact that price level leads to a fall in the standard of living, unpredictability of government policy actions and of macroeconomic relationships is no more an issue of dispute.
A great deal of evidence suggests that inflation is detrimental in the long run to economic growth. Specifically, the interest in understanding the inflation process across countries and how to control it derives mainly from its key economic costs that include: erosion of standard of living, distortion of the economic decision-making of private agent with regard to investment, saving and production that ultimately leads to slower economic growth.
The persistent increase in general price level in Nigeria in the last two decades has posed a major challenge on monetary management yet a systematic macroeconomic account of the underlying shocks has attracted scant attention in the empirical literature. In addition, to achieve and maintain low inflation, Central Banks need to understand the dynamic nature of inflationary processes in their respective countries. These include the type of shocks that cause inflationary impulses and the nature of propagation mechanism.
Also, the persistent poor performance of the Nigerian economy as captured by the growth rate of real Gross Domestic product (GDP) in the presence of high inflationary levels provides another key justification for this study. Therefore, there is need to assess the dynamics of inflation rate relative to real output growth rate in Nigeria.
The Economic Recovery Emergency Fund of 1986 where one percent (1%) of workers’ salaries was deducted monthly to build the funds was meant to curb inflationary trends in Nigeria. they gradually and greatly reduced the purchasing power of the working class. But the policy measures failed as the prices of goods and profits of corporate bodies were not controlled. Therefore, as prices rose, the labour unions agitated for higher wages resulting in further higher prices (Agba, 1994). More so, various agricultural programmes like the “operation feed the Nation” and the “Green Revolution” where implemented to boost output to reduce prices of food items but yielded minimal results. Notwithstanding the various effort of the Nigeria government to curb the inflationary trend, inflation continued to cause setback in the growth rate of the living standard of most Nigerian who are fixed income earners or unemployed (Agba, 1994). Inflation has had adverse effects on savings, investment, productivity and the Nigerian economy, hence the fall in the growth rate of the Gross Domestic Product (GDP) from 26.8% (1981) to 5.4% (2000) and 3.5% (2002).
Likewise, there have been theoretical controversies about the determinants of inflation rate. Some researchers like Odusanya and Atanda (2010), posited that mainly macroeconomics indicators are the major determinants of inflations rate changes in Nigeria. However, this study intends to adopt the methodological framework employed by Odusanya and Atanda (2010) in order to verify and ascertain the main determinants of inflation rate in Nigeria prior and during the global financial crisis. Therefore, this study filled the empirical and methodological gaps by examining the impact of inflation rate on domestic saving in Nigeria between 1981 and 2012.
1.3 Research Questions
Important research question that arise include
- What is the impact of inflation on domestic savings?
- Is there any causal relationship between inflation and Domestic Savings?
- Does inflation and Domestic savings have any long run relationship?
1.4 Objective of the Study
The broad objectives of the study are to examine the impact of inflation on savings in Nigeria economy. However, the specific objectives are to:
- Investigate the significant impact of inflation on Domestic Saving.
- Estimate the causal relationship between inflation and Domestic Savings.
- Determine the long run savings response to inflation in order to know whether the observed impact of inflation on savings is merely a temporary phenomenon.
1.5 Hypothesis of the Study
Fadiya (2010) asserted that hypothesis testing has become the building block of any scientific research. To this end, it could be appropriate to test the following hypothesis in respect of the impact of inflation on Domestic savings in Nigeria from 1981 through 2012.
H0: Inflation has no significant impact on Domestic Savings.
H0: There is no causal relationship between inflation and domestic savings.
H0: The Long run and short run relationship of inflation and Domestic savings in Nigeria cannot be determined.
1.6 Significant of the Study
The significance of the study lies in the fact that if the cause of the unstable nature of the inflation rate is identified and corrected. The domestic saving of the country will tend to be favourable leading to the rapid growth and development of the economy. Importantly, this study would help the government and the Central Bank of Nigeria to identify the strength and weakness of each inflation rate system and hence adopt the policy that suit the economy best. This will definitely lead to a favourable savings rate. this study will also serve as a guide to future researchers on this subject.
1.7 Scope/Limitation of the Study
The study seeks to examine the empirical analysis of the impact of inflation on Domestic Savings. The study covers the period 1981 to 2012. However, this study is limited to the Nigerian economy as data employed in our vector auto regression (VAR) estimation sourced from the Statistical Bulletin and Annual Report of the Central Bank of Nigeria (C.B.N) relate specifically to the economy of Nigeria alone.