CHAPTER ONE

INTRODUCTION

1.0     BACKGROUND OF THE STUDY

The achievement  of macroeconomic goals namely full employment, stability of price level, high and sustainable economic growth, and external balance, from time immemorial, has been a policy priority  of every economy whether developed or developing given the susceptibility of macroeconomic variables to fluctuations in the economy.

The realization of these goals undoubtedly is not automatic but requires policy guidance. This policy guidance represents the objective of economic policy. Fiscal and monetary policy instruments are the main instruments of achieving the macroeconomic targets.

The basis fiscal policy instruments are public expenditure and tax while the monetary police instruments include the devices of reserve requirements, discount rates and open market policy. The main focus of this economic project topic or paper, therefore, is to examine the effects of fiscal policy on economic growth in Nigeria. There exists a consensus in the literature that an adequate and effective macroeconomic policy is critical to any successful development process aimed at achieving high employment, long viability of the balance of payments and external equilibrium. 

This therefore, suggests that the significance of stabilization policy (fiscal and monetary policies) cannot be overemphasized in any growth oriented economy. Growth and poverty alleviation have received attention in Nigeria (see, Aigbokhan, 1998) among several of such studies).

 However, none of these studies have attempted to examine the work analytically; furthermore, previous works in Nigeria have relied on partial frameworks. The differential effects of fiscal policy on various productive effects of fiscal policy on various productive sectors and on the different income groups are neither explored nor captured. Most of these studies have preoccupied themselves with presenting poverty profiles in Nigeria.

Some of them have attempted to examine the impact of growth on inequality. But it is quite clear from the literature that growth, inequality and poverty can influence, and in turn be influenced by, fiscal policy.

          However, in Nigeria, despite the invaluable significance of economic stabilization policy in the actualization of sustainable   development, there seems to be little impact felt on economic   growth in Nigeria. This study, therefore, seeks to fill this research gap.

          The term fiscal policy has conventionally been associated with the use of taxation and public expenditure to influence the level of economic activities. The implementation of fiscal policy is essentially routed through government’s budget, the budget is therefore, more than a plan for ministering the government sector. It (budget) both reflects and shapes a country’s economic life. In fact, the most important aspect of a public budget is its use as a tool in the management of a nation’s economy.

          In designing and implementing fiscal policy government plans for budget deficit, budget surplus or balanced budget. Budget deficit is a type of budget in which government expenditure outweighs its revenue while budget surplus is a budget plan where government revenue is proposed to be greater than government expenditure. Balanced budget, however, arises when government expenditure equals government revenue.

When there is economic recession or depression, government plans for budget deficit which is often referred to as expansionary fiscal policy. In this situation, taxes (i.e. compulsory levies imposed by the government on individuals and corporate bodies) are reduced and government expenditure is increased. The implication of this is that by reducing taxes, the purchasing power of individual is enhanced and the cost of production by corporate bodies reduced thereby improving their scale of operations, similarly, increase in public expenditure if efficiently utilized could translate into improved infrastructural developments and consequently enhance general welfare and also put the economy on the path of growth.

          The bone of contention, however, on the use of this type of fiscal policy (i.e. expansionary fiscal policy) is how the proposed increase in public expenditure over its revenue should be financed. The two contending options have been money printing and borrowing money printing is an exclusive right of relevant monetary authority (usually the central bank) which involves raising money supply to match demand in the economy. However, where the rate of increase in money supply rises above the rate of growth of economic activity, and given a stable demand function for base money, inflation will result (see Ndung’ u, 1995).Easterly and Fischer (2000) argue that where government print money to cover budget deficits, it is unlikely that rapid money supply growth takes place without fiscal imbalances.

          The second contenting option of deficit financing is borrowing. The use of borrowing (from both domestic economy and foreign countries) particularly   since the World War II had been an inevitable source of macroeconomic financing most especially in such situations where domestic resources are inadequate to put  the economy on the path of sustainable economic growth and development. However borrowing which may result in   debt crisis may lead to high real interest rates in the domestic economy and crowed out private sector investments.

Also, government can plan for budget surplus (which is also referred to as contractionary fiscal policy) particularly in such a situation where the government deems it necessary to reduce her participation in terms of production in the domestic economy. The government does this by reducing public expenditure and increasing taxes. This type of fiscal policy rarely attract the attention of policy makers and researcher because of the fact  that the development of World economy particularly in the development part, is an on-going process and as such majority of governments often  engage  in massive investment activities (fiscal deficit) which they  believe will not only enhance the development of the domestic economy but also stimulate  the  economy on the path of sustainable growth (although there are controversies in literature on how government should invest in the economy).

          There is no doubt that government is an institution saddled with a myriad of functions. However, the way, and manner in which these functions are carried out vary from one society to another. Historically, prior to the Great Depression of the 1930s, there was the general belief by economic managers that market system was, sacrosanct. Primarily, at the nucleus of this belief was the famous law of the market which says that supply creates its own demand. Hence, the market system was capable of allocating resources thus, people should fold their hands seemingly helpless and allow the forces of demand and supply to dictate their economic fortune.

          Following the appearance of John M. Keynes’ (1936) prescription the complexion of the argument changed in favour of government intervention in the workings of the economy, this was path-breaking because he identifies the problem to be that of aggregate demand exceeding that of aggregate supply. This reversed and modified “demand creates its own supply.” According to Jumbo (2010), the fall out of this is a great influence on both economic and political thinking. Hence, state (government) started thinking of how to have a stable and predictable economic environment for sustainable social and economic growth in order to forestall the disaster of the Great Depression. Naturally, households prefer to have economic stability with continuous employment and stable income, while no economy does well in the face of volatile or unfavorable fluctuations in its macroeconomic variables. Government intervention began to be more popular in the management of the economy. arising from the above, government over the years embarks on diverse macroeconomic policy options to tinker the economy on the  path of  growth and development, amongst the policy  options readily employed is that of fiscal policy growth. Fiscal policy entails government’s management of the economy through the manipulation of its income and spending power to achieve certain desired macroeconomic objective (goals) amongst which is economic growth. The power of fiscal policy as an instrument of economic stabilization was acknowledged in the works of Jhingan (2006). Despite the lofty place of fiscal policy in the management of the economy, the Nigerian economy is yet to come on the path of sound growth and development. Studies by Agiobenebo (2003), indicate that the economy is still married by chromic unemployment, rising rate of inflation, dependence on foreign technology, monoculture, foreign exchange earning from crude oil, and  more. Nigeria is endowed with enormous potential for growth and development with her vast oil and gas resources, rich and expensive agricultural land, solid mineral and abundant human resources. Despite these factors, since 1960 when she got her independent from Britain, the successive governments have not done enough to put the nation’s resources to effective productive use as to chart the path of growth and development. The net result is that the Nigerian economy is now performing below her potential.    Like other countries dependent on minerals, extractions, Nigeria faces some challenges when formulating fiscal policy. In the long run the need to ensure that the fiscal stand is compatible with the sustainable use of oil and gas resource, and in the short-to -medium run the need to prevent the revenue volatility from spilling over into the budget. Fiscal rule could play a role in guiding the sustainable use of oil and gas resources taken into consideration the exhaustibility of resources on the intergenerational equity objective while aiming at stabilizing expenditure programme at levels consistent with the long-run target for the sustainable fiscal stance. With about 75 percent of revenue from oil and gas, fiscal policy in Nigeria has been influence by oil driven volatility impacting both revenue and expenditure. Since 1970, both revenue and expenditure have been volatile while increasing overtime. In periods with high oil price, such as in 1979-82, 19991-92 and more recently in 2000—2002, revenue and expenditure has increase sharply. This has typically been followed by the scaling back of expenditure as oil prices subsequently decline though at time with lag.

          The implications of such fiscal boom-burst fiscal policy include the transmission of oil-volatility to the rest of the economy as well as disruption to the stable provision of government services. This has added to the failure over the years of public spending neither facilitating the diversification and growth of the non- oil sector not reducing poverty.

          Between 1900 and 1945, the Nigerian government had been using fiscal policy to achieve some of their objective specially; it was in the Northern Nigeria that the fiscal policy direct taxation was practiced. Early 1950s and 1960s agricultural was the mainstay of the Nigerian economy employing over 80% of the force. By 1970, petroleum became the principle revenue of the country, foreign exchange accruing from oil by mid 70s accounted for nearly 82% of revenue. The so called oil boom made possible massive growth in the national economy which leads to the expansion of territory. Nigeria development programme since independence have been very well articulated although their implementation have been bedeviled with itches, bald measures or abandonment cause by either civil war,  political instability economic statement and also  experience different  tax regimes, alteration in government expenditure pattern and government direct and indirect involvement in project. Nigeria’s public finance management had been at the counter of Nigeria policy since the amalgamation in 1914. This had often been referred to as economic politics which dictate who get what, when and how much to be received. Tax legislation confers tax imposition and collection powers on the different tier of government according to the magnitude of social and economic obligation expected of it. Therefore, jurisdiction over collection of taxes have been divided among the federal state and local government looking back though  on  discretionary fiscal policy as stabilization policy has only gradually shifted away from the near-consensus rejection of any  appropriate role six years ago. Six distinct stages in the evolution of thinking can be seen. First with the reduction of short-term nominal policy interest rates to zero toward the end of 2008, there came recognition that conventional   open market operations were not powerful enough to accomplish the desired stabilization of aggregate demand. This recognition led to another: that discretionary fiscal policy might have an appropriate stabilization role, but this rule would be limited to a period of at most two years, until deleveraging, rebalancing, and price adjustment proceeded far enough to bring an end to the liquidity trap and an exit from the zero lower bound on short- term nominal interest  rates. By mid-2009, however events had moved on to a second stage produced by the slow recognition that the financial shock was larger than anticipated and deleveraging and price adjustment slower than anticipated. The consequence was that exit from the liquidity trap would come not in 2010 but considerably later and this raised the question of whether expansionary discretionary fiscal policy might have a medium- run rather than merely a short- run role to play. The medium –run limit on expansionary fiscal policy had always been that it would trigger the crowing-out of investment spending. An increase in bond issues that raised the supply of government debt would lower the price of both government debt and private debt, and so crowed-out the private investment projects that private debt would normally finance. Unless there was strong confidence that the central bank would act on interest rates in a  timely way to prevent such crowding-out from taking place, this channel had, in the general consensus, always made any medium–run stabilization policy role for expansionary discretionary.

1.1     STATEMENT OF THE PROBLEM

Experience in Nigeria illustrates the difficulties of implementing fiscal policies in an environment with highly volatile revenue flows. Over the years, there have been a strong bias and procyclicality in fiscal policy driven largely by oil price development. The current revenue sharing arrangement, whereby about half of oil revenue is allocated to state and local government, as facilitated an expansion of expenditure programmes at the sub national level, a tendency that has further constrained the ability of the federal government to stabilize overall expenditure.

           This reflects the key challenges to fiscal management from the inefficient use of public resources. The overriding concern must be to break the pattern; however this will remain in as challenge. Since as it been pertinently put’ the fundamental drivers of the process, the politics of patronage, support of a large bureaucracy, and keeping a diverse and often fractions policy together remain the same (Eifert,Gelb, and Tallroth, 2002, P.21), an effectively implemented fiscal rule, in principle could play a role in  overcoming this constraint on fiscal policy formulation by providing a framework  for a more stable and predictable budget.       There has been a growing interest in recent years, both in the academic literature   and in the policy circle, in the role explicit rule play in strengthening the conduct of fiscal policy. The key idea is that in countries with a weak reputation for fiscal prudence, the introduction of fiscal rules, effectively binding the government to a preannounced fiscal conduct may provide a more credible policy framework that over time will contribute to stability and growth. Hence, there will seem to be a strong case for Nigeria benefiting from the introduction of fiscal   rule by allowing policy makers to send a credible signal about their intent to implement prudent fiscal policies in a break from the past. Naturally, fiscal rules will only play a position role if they are backed by firm political will and complemented by other administrative reforms strengthening the budget process and improving the quality  spending.

          Six years ago, there was near-consensus among economist and policy makers alike in support of John Taylor’s (2000) argument that aggregated demand management was the near- exclusive  province of central  banks and monetary  policy. There was also near–census that the expansionary stabilization policy tool of choice was the conventional open market operation: buying short- term government bonds for cash in order to expand the money supply and so induce an increase in the pace of nominal spending. There were three reasons for this near-consensus against the use of discretionary fiscal policy.

1.       The problem of legislative process: legislative are, by design institutions that find it very difficult to make decision quickly. Central bank, by contrast, can move asset prices in an hour. Fiscal policies that take effect this year as a result of decision made by a legislative last year based on information from two three years go would seem to guarantee    sub-optimal economic outcome.

2.       The Problem of Implementation: Public bureaucracies have limited capacities to ramp –up or ramp–down their spending level quickly without incurring substantial waste. The larger the fiscal-policy intervention to balance aggregated   demand, the less likely the intervention would be well timed, well designed and well executed.

3        The Problem  of Rent -Seeking :In  a world where we fear that the structures of government already  leads to policies favoring  too- many politically- powerful winners at the expense of politically- weak losers an additional excuse to undertake fiscal projects and programs that would not meet conventional societal benefit- cost tests is not welcome.

          This raises concern about the role government has been playing in fostering economic growth in Nigeria via fiscal policy. Unfortunately, the concerted effort made by the government to utilize fiscal policy in fostering economic growth in Nigeria had been perceived not to be enough. This problem has been subject of repeated floggings by scholars in articles, debates, lectures, seminars etc. all in an attempt to proffer a solution to this anomaly. It is therefore the concern of this study to investigate the impact of fiscal policy on economic growth in Nigeria and also to assess the contributions of the fiscal policies to promoting economic growth in Nigeria.

1.2     OBJECTIVE OF THE STUDY

Consequently the main objective of this study is to investigate empirically the impact of fiscal policy variables on Nigeria economic growth

The specific objectives however, include:

1.              To assess the impact of government expenditure (both          recurrent and capital expenditure on economic growth in          Nigeria.

2.       To assess the impact of taxes on economic growth in   Nigeria.

3        To offer theoretical and empirical insights into the link          between fiscal policy and economic growth.

4        To offer policy recommendations based on the empirical       findings of the study.

1.3     RESEARCH QUESTIONS

          This study seeks to find answers to the following question:

1.       Has fiscal policy contributed to economic growth?

2.       Can fiscal policy curb the problem of economic growth and   development in Nigeria?

          The answers to these questions are the concern of this study for proper economic management in Nigeria.

1.4     SIGNIFICANCE OF THE STUDY

          This research study is carried out with the aim of enlightening scholars and every other person that is opportune to lay hands on it, on the impact of fiscal policy such as taxes and government expenditure on economic growth. It is also believed that this will proffer to policy makers and economic planners useful suggestions in making effective economic decisions for effective economic growth and development by improving the standard of living and quality of life of the citizen, promoting employment, alleviating poverty etc.

          Thus, fiscal policy is seen as a sine qua non to fostering economic growth in Nigeria. Giving the contributions of fiscal policy on any growth oriented economy, the importance of the impact of fiscal policy on economic growth in Nigeria cannot be over- emphasized.