CHAPTER ONE

INTRODUCTION

1.1           Background of the Study

Sustainable economic growth is a major concern for most developing countries (DCs) which are characterized by low capital formation due to low levels of domestic savings and investment (Mbah, Agu & Godwin, 2016). It is expected that these DC’s when facing a scarcity of capital would resort to borrowing from external sources so as to supplement domestic saving. According to Sulaiman and Azeez (2011), the countries borrow for two broad reasons; macroeconomic reason that is to finance higher level of consumption and investment or to finance transitory balance of payment deficit and avoid budget constraint so as to boost economic growth and reduce poverty. The constant need for governments to borrow in order to finance budget deficit has led to the creation of external debt.

External debt is a major source of public receipts and financing capital accumulation in any economy (Mathew and Mordecai, 2016). It is a medium used by countries to bridge their deficits and carry out economic projects that are able to increase the standard of living of the citizenry and promote sustainable growth and development. Hameed, Ashraf and Chaudary (2008) stated that external borrowing ought to accelerate economic growth especially when domestic financing is inadequate. External debt also improves total factor productivity through an increase in output which in turn enhances Gross Domestic product (GDP) growth of a nation. The importance of external debt cannot be overemphasized as it is an ardent booster of growth and thus improves living standards thereby alleviating poverty.

External borrowing has a significant impact on the growth and investment of a nation up to a point where high levels of external debt servicing sets in and affects the growth as the focus moves from financing private investment to repayments of debts. Pattilo, Poirson and Ricci (2002) asserted that at low levels debt has positive effects on growth but above particular points or thresholds accumulated debt begins to have a negative impact on growth. Furthermore Fosu (2009) observed that high debt service payments shifts spending away from health, educational and social sectors. This obscures the motive behind external borrowing which is to boost growth and development rather than get drowned in a pool of debt service payments which eats up most of the nation’s resources and hinders growth due to high interest payments on external debt.

It is widely recognized in the international community that excessive foreign indebtedness in most developing countries is a major impediment to their economic growth and stability (Audu, 2004). Developing countries like Nigeria have often contracted large amount of external debts that has led to the mounting of trade debt arrears at highly concessional interest rates. Gohar and Butt (2012) opined that accumulated debt service payments create a lot of problems for countries especially the developing nations reason being that a debt is actually serviced for more than the amount it was acquired and this slows down the growth process in such nations.

The inability of the Nigerian economy to meet its debt service payments obligations has resulted in debt overhang or debt service burden that has militated against her growth and development (Audu, 2004). The genesis of Nigeria’s debt service burden dates back to 1978 after a fall in world oil prices. The advent on democratic government in Nigeria in 1999 ushered in an era of debt forgiveness in 2004 during President Obasanjo administration. However, the present administration of President Buhari that came into power in 2015, as a result of drop in crude oil revenue resorted to huge external borrowing to mitigate revenue short fall thus accumulating huge debt and the consequent debt service. Thus raising the concern of whether government actually needs to borrow so much at this time.

1.2           Statement of the Problem

Huge external debt does not necessarily imply a slow economic growth but a nation’s inability to meet its debt service payments fuelled by inadequate knowledge on the nature, structure and magnitude of the debt in question (Were, 2011). It is no exaggeration that this is the major challenge faced by the Nigerian economy. The inability of the Nigerian economy to effectively meet its debt servicing requirements has exposed the nation to a high debt service burden. The resultant effect of this debt service burden creates additional problems for the nation particularly the increasing fiscal deficit which is driven by higher levels of debt servicing. This poses a grave threat to the economy as a large chunk of the nation’s hard earned revenue is being eaten up.

Nigeria’s external debt outstanding stood at US$28.35 million in 2001 which was about 59.4% of GDP from US$8.5 million in 1980 which was about 14.6% of GDP (WDI 2013). The debt crisis reached its maximum in 2003 when US$2.3 billion was transferred to service Nigeria’s external debt. In the year 2005 the Paris Club group of creditor nations forgave 60% (US$18 billion) of US$30.85 billion debt owed by Nigeria. Despite the debt relief of US$18 billion received by Nigeria from the Paris club in 2005 the situation remains the same (Bakare, 2010). The current national debt stock is alarming for both Federal and States Government. The question then becomes why has external borrowing not accelerated the pace of growth of the Nigerian economy?

The unabated increase in the level of external debt service payments has led to huge imbalances in fiscal deficits and budgetary constraints that have militated against the growth of the Nigerian economy. The resultant effect of the debt quagmire in Nigeria could create some unfavourable circumstances such as crowding out of private investment, poor GDP growth and so on (Ngonzi Okonjo Iweala, 2011).

1.3           Research Questions

This research questions that this study seeks to investigate include the following:

(i)             What is the impact of external debt on economic growth in Nigeria?

(ii)           Does a long run relationship exist between external debt and economic growth in Nigeria?

(iii)         Is there causality between external debt and economic growth in Nigeria?

(iv)         What are the causes of Nigeria’s external debt burden?

1.4           Objectives of the Study

The main objective of this study is to examine the impact of external debt on economic growth in Nigeria (1980-2016).

The specific objectives include:

(i)             To determine long relationship between external debt and economic growth in Nigeria.

(ii)           To examine causality between external debt and economic growth in Nigeria.

(iii)         What are the causes of Nigeria’s external debt burden?

1.5           Research Hypotheses

The research hypotheses that this study seek to test include the following:

(i)             H01:   There is no significant relationship between external debt and economic growth in Nigeria.

(ii)           H02: There is no long run relationship between external debt and economic growth in Nigeria.

(iii)         There is no causality between external debt and economic growth in Nigeria.

1.6           Scope and Limitations of the Study

The study seeks to analyze Nigeria’s external debt and its impact on economic growth. In order to capture its effect on the economy, an empirical investigation will be conducted with data covering the period 1980-2016.

The estimation techniques used is subject to the quality of data used in the study. Also, debt has become a recurrent decimal and requires updated study to unravel its impact.

This study focuses only on the macroeconomic impact without consideration of the social impact in the economy.  

1.7           Significance of the Study

The burden of External debt has been a matter of great concern to the Government of Nigeria and the nation as a whole which has resulted in embarking upon drastic actions like dividing the nation’s scarce resources in servicing of debts annually. This action has thus led to disinvestment in the economy, and as a result a fall in the domestic savings and the overall rate of growth.

This study seeks to investigate the direct impact of external debt burden on economic growth in Nigeria by finding a long run and causal relationship between external debt and economic growth. This study is significant as its findings will provide a basis which will aid policy makers in proffering polices aimed at managing the debt crisis situation in Nigeria.

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