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PROJECT TOPIC- IMPACT OF MONEY SUPPLY ON NIGERIA’S ECONOMIC GROWTH

PROJECT TOPIC- IMPACT OF MONEY SUPPLY ON NIGERIA’S ECONOMIC GROWTH

CHAPTER ONE

INTRODUCTION

1.1 Background to the Study

Money supply is a very sensitive variable, the size of which determines the pace of any economic activities (Bakare, 2011). Apart from being a powerful instrument of monetary policy, its expansion or contraction dictates the growth in investment and output of any economy (Aslam, 2016). It is therefore the slogan of monetarist school of thought that money matters in an economy.

They argued that changes in the amount of money in circulation are the source of other economic changes. They equally argued that increase in money supply in an economy causes an increase in general price level of commodities which brings about inflationary in the country (Uzogu, 2015). They therefore inferred that to reduce inflation, the growth in the money supply needs to be controlled. The monetarists however vary in their belief on expectations. While the extreme monetarists believe that expectations adjust so quickly such that any policy change will immediately be taken into account by people, and there will therefore be no short-term adjustment, the more moderate monetarists accept that there may be an adjustment period and so policy changes may have temporary or short-term effect on the level of output (Uzugu, 2015).

Money supply can be defined as the total amount of money within a specific economy available for purchasing goods or services. It is the stock of money at a particular point in time. According to Uduakobong (2014), money supply is the assets which represent immediate purchasing power in the economy and which as a result function as medium of exchange.

In Nigeria, narrow money supply (M1) is defined as currency outside bank plus demand deposits of commercial banks plus domestic deposits with central bank less federal government deposits at commercial banks while broad money supply is is defined as narrow money supply plus quasi money (savings and time deposits with commercial banks).

In contemporary economies, the central bank is the authority with the mandate of manipulating monetary policy; through monetary policy tools, to achieving desired macroeconomic objectives which includes; the achievement of price stability with respect to both domestic and external prices. According to Ernest (2013), when the CBN changes the level of money supply, it does so through the control of the base money which is made up of currency and coins outside the banking system plus the deposits of banks with the central bank in the form of reserves.

For example, if the central bank perceives that there is too much money in circulation and prices are rising (or there is potential pressure for prices to rise), it may reduce money supply by reducing the base money. To reduce the base money, the central bank sells financial securities to banks and the non-bank public so as to reduce the ability of deposit money banks to create new money (Aslam, 2016). The central bank can as well reduce the money supply by also raising the cash reserve deposits that banks are required to hold with the central bank.

A reduction in money supply affects the ability of banks to create new money through giving loans to their customers. In this way, the central bank could be said to be pursuing a contractionary monetary policy. When investors cannot get new loans to expand their investments, it reduces the level of total output in the economy. A reduction in output affects the level of employment and prices as less money is available for purchasing goods. In this way, prices remain stable or fall. The central bank can also pursue an expansionary monetary policy when it reduces the cash reserve ratio and buy securities from the open market through a process known as open market operations (OMO). In this case, the reverse of the analysis above holds.

Economists have developed theories explaining the interaction between money supply and the level of output produced in the economy. The classical economists insist that in the short-run, the increase in money supply can stimulate both price level and output while in the long-run output returns to the natural level so that the effect of increase in output is increase in prices (Uduakobong, 2014). The Keynesian on the other hand hold that the effect of increase in money supply is dependent on whether the economy is operating below full employment or not. If the economy is operating below its equilibrium output, an increase in money supply can increase output, but once full employment is attained, increase in money supply will lead one on one to increase in the general price level (Anyanwu and Kalu, 2014).

The relationship between money supply and economic growth has been receiving increasing attention than any subject matter in the field of monetary economics in recent years (Anyanwu and Kalu, 2014). while some agreed that variations in the quantity of money is the most important determinant of economic growth and that countries that devote more time to studying the behavior of aggregate money supply experiences much variations in their economic activities,others are skeptical about the role of money on gross national income (Nwaobi, 2013).

Over the years, Nigeria has been controlling her economy through variations in her stock of money. Consequent upon the effect of the collapse of oil price in 1981 and the balance of payment (BOP) deficit experienced during this period, various methods of stabilization ranging from fiscal to monetary policy were used. Ikhide and Alwoda(1993) concluded that reducing money stock of money through increased interest rates would lower gross national product (GNP). Thus the notion that stock of money varies with economic activities applies to the Nigerian economy.

As already explained money supply exerts considerable influence on economic activity in both developed and developing economics. The low level of supply of monetary aggregates in general and money stock in particular had been responsible for the fundamental failure of many African countries to attain growth and development. Various scholars have laid much of the blame for the failure of monetary policies to translate into economic growth on the government and its agencies as a result of poor implementation and sincerity on the part of policy executors.

The output development and other economic growth process via regulation of money supply in the Nigerian economy calls for considerable test of the validity. The implication of the stability of the relationship between money and economic growth will show the effectiveness of monetary policy in the Nigerian environment and it is upon this background that this study set to investigate empirically the relationship as well as determine the impact of money supply on economic growth in Nigerian between 1981 and 2014.

PROJECT TOPIC- IMPACT OF MONEY SUPPLY ON NIGERIA’S ECONOMIC GROWTH

1.2 Statement of the Problem

Because of the importance of economic growth among the macro-economic objectives of nations, several authors were prompted to embark on studies aimed at establishing the precise relationship existing between monetary aggregate and the economic growth of countries. Among these set of authors are: Uduakobong (2014), Aslam (2016) and Anyanwu and Kalu (2014).

Over the years, there have been some variations in the growth movements of money supply and gross domestic product in Nigeria which calls for adequate attention and research. Between 1985 and 1989, money supply growth rate averaged 15.62 percent with GDP growth rate standing at 5.5 percent. The growth rate of money supply drifted upwards to 29.09 percent between 1990 and 1999 while GDP growth rate declined to 3.99 percent. However, between 2000 and 2009, money supply growth rate fall to 23.59 percent on average reaching an all-time height of 53.76 in 2008 while the growth rate of GDP during the same period rose to 5.33 percent. The rate of growth in money supply further declined to 12.91 percent between 2010 and 2012 with that of gross domestic product rising to 7.33 percent on average.

In an attempt to link money supply to economic growth, two main competing theories emerge. Keynesian economists insist that money supply stimulates economic growth through aggregate demand, hence favouring a positive relationship between money supply and economic growth. Empirical study in Nigeria supporting this proposition is that of Ikhida and Alwoda (1993) who in his analysis of the impact of structural adjustment programme in Nigeria concluded that reducing money stock through increased interest rates would lower gross national product in Nigeria.

On the contrary, the monetarists’ view is that increase in money stock will stimulate an increase in the general price level bringing about inflation in the economy. Hence, according to them, money supply has a negative relationship with economic growth given that inflation, except when moderate is inimical to economic growth.However, the money supply and GDP growth trend analysed above revealed that in the Nigerian economy, declining money stock had been accompanied by increasing gross domestic product (GDP) growth. The consequence of this scenario is that despite the GDP growths experienced in the country over the years, the country’s economy is still bedevilled with recurrence of general price instability and high unemployment.

This study is necessary given the conflicting theoretical postulations and empirical findings. It is expected that accurate knowledge of the exact relationship between money supply and economic growth in Nigeria will enable policy makers put up policies aimed at tackling some of the economic problems inherent in the Nigerian economy. The main thrust of this study is therefore to determine empirically the impact of money supply on economic growth of Nigeria between 1981 and 2014.

1.3 Research questions

This research work was guided by the following questions:

1.Is there any significant long run relationship between money supply and economic growth in Nigeria?

  1. Does money supply have significant impact on Nigeria’s economic growth?

1.4       Objectives of the Study

The general objective of this study is to empirically investigate the impact of money supply on nigeria’s economic growth. However, the following specific objectives will be to:

  1. examine if there is long run relationship between money supply and economic growth in Nigeria
  2. empiricallyinvestigate the impact of money supply on Nigeria’s economic growth.

  1.5Research Hypotheses

This study will be guided by the following hypotheses:

  1. H0: There is no significant long run relationship between money supply and Nigeria’s economic growth

 

  1. H0: Money supply does not have significant impact on Nigeria’s economic growth.

1.6 Significance of the Study

As the government of Nigeria now faces development challenges that are key to both welfare improvements for the general population and enhancement of the economy in particular, this study will act as a source of information on various ways of adopting effective measures of achieving economic growth through regulation of money supply. This study will help us to investigate into the beneficial effects of the control of money supply especially as it impacts on economic growth in Nigeria. It will also add to the existing knowledge about the relationship between money supply and economic growth in Nigeria. It will equally help students, government, policy makers and corporate bodies in areas relating to monetary policy, the volume of credit to be supplied and economic growth stabilization.

1.7 Scope of the study

PROJECT TOPIC- IMPACT OF MONEY SUPPLY ON NIGERIA’S ECONOMIC GROWTH

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