CHAPTER ONE

INTRODUCTION

1.1 Background to the Study

In a modern economy,there is distinction between the surplus economic units and the deficit economic units and inconsequence a separation of the savings investment mechanism.This has necessitated the existence of financial institution whose jobs include the transfer of funds from savers to investors.It is generally expected that developing countries, facing a scarcity of capital, will acquire external debt to supplement domestic saving (Malik et al, 2010; Aluko and Arowolo, 2010).

However, whether or not external debt would be beneficial to the borrowing nation depends on whether the borrowed money is used in the productive segments of the economy or for consumption. Adepoju et al (2007) stated that debt financed investment need to be productive and well managed enough to earn a rate of return higher than the cost of debt servicing. Government debt, or borrowing, includes the contracting or guaranteeing of domestic and external (foreign) debt through loans, financial

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leasing, on-lending and any other type of borrowing, including concessional and non-concessional borrowing, whatever the source. Debt management strategies is a framework that the government intends to use over the medium-term (five years) to ensure that debt levels stay affordable and sustainable, that any new borrowing is for a good purpose and that the costs and risks of borrowing are minimized.

The main important of debt management strategies in public financial management is that the borrowing country is increasing capacity and expanding output with the aid of foreign savings. The debt, if properly utilized, is expected to help the debtor country’s economies (Hameed et al, 2008) by producing a multiplier effect which leads to increased employment, adequate infrastructural base, a larger export market, improved exchange rate and favorable terms of trade.

However, external debt or internal debt obligations results from disagreements between the Fiscal operations of the government when the total expenditure exceeds current revenue for a govern fiscal year. Whenever a county witnesses a budgetary gap, the nation can employ domestic or

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external borrowing to breach the budgetary gap. Borrowing from external sources by the government constituted the external debt of the public sector and the government owned the obligation of debt servings through series of periodic repayment of interest and capital repayment of the debt. Apart from the fact that external debt had been badly expended in Nigeria, the management of the debt by way of service payment, which is usually in foreign exchange, has also affected their macroeconomic performance (Aluko and Arowolo, (2010); Serieux and Yiagadeesen, (2001). Prior to the $18 billion debt cancellation granted to Nigeria in 2005 by the Paris Club, the country had external debt of close to $40 billion with over $30 billion of the amount being owed to Paris Club alone (Semenitari, 2005). The history of Nigeria’s huge debts can hardly be separated from its decades of misrule and the continued recklessness of its rulers. Nigeria’s debt stock in 1971 was $1 billion (Semenitari, 2005).

By 1991, it had risen to $33.4 billion, and rather than decrease, it has been on the increase, particularly with the insurmountable regime of debt servicing and the insatiable desire of political leaders to obtain loans for the

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execution of dubious projects (Semenitari, 2005). Before the debt cancellation deal, Nigeria was to pay a whopping sum of $4.9 billion every year on debt servicing (Aluko and Arowolo, 2010). It would have been impossible to achieve exchange rate stability or any meaningful growth under such indebtedness. The effect of the Paris Club debt cancellation was immediately observed in the sequential reduction of the exchange rate of Nigeria vis-à-vis the Dollar from 130.6 Naira in 2005 to 128.2 Naira in 2006, and then 120.9 in 2007 (CBN, 2009). Although the growth rate of the economy has been inconsistent in the post-debt relief period as it plunged from 6.5% in 2005 to 6% in 2006 and then increased to 6.5% in 2007 (CBN, 2008), it could have been worse if the debt had not been cancelled. However, the benefits of the debt cancellation, which was expected to manifest after couple of years, was wiped up in 2009 by the global financial and economic crisis, which was precipitated in August 2007 by the collapse of the sub-prime lending market in the United States.

The effect of the crisis on Nigeria’s exchange rate was phenomenal as the Naira exchange rate vis-à-vis the Dollar rose astronomically from about

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N120/$ in the last quarter of 2007 to more than N150/$ (about 25% increase) in the third quarter of 2009 (CBN, 2009). This is attributable to the sharp drop in foreign earnings of Nigeria as a result of the persistent fall of crude oil price, which plunged from an all-time high of US$147 per barrel in July 2007 to a low of US$45 per barrel in December 2008 (CBN, 2008). Available statistics show that the external debt stock of Nigeria has been on the increase after the debt cancellation in 2005. The country’s external debt outstanding increased from $3,545 million in 2006 to $3,654 million in 2007, and then to $3,720 million and $3,947 in 2008 and 2009 respectively (CBN, 2009).

It is therefore imperative to examine the effect of external debt of the country on her economy for us to appreciate the need to avoid being back in the group of highly indebted nations. External debt became a burden to Nigeria because contracted loans were not optimally deployed, therefore returns on investments were not adequate to meet maturing obligations and did not leave a favorable balance to support domestic economic growth. So, African economies have not performed well because the necessary macro-

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economic adjustment has remained elusive for most of the countries in the continent

In the 1980, the management of the external debt became major responsibility of the Central Bank of Nigeria (CBN). This necessitated the establishment (setting up) of a Department in collaboration with Federal Ministry of Finance to the management of external debt. Although, the debt management strategies and measures varied from time to time since the early 1980s when the external debt became pronounced.

The government over the years adopted the under listed strategies and measures to deal with the debt problem. They include: Embargo on new Loans and Directives to State Government to restrict external borrowing to the barest minimum: The embargo was to check the escalation of total debt stock and minimize additional debt burden. However, these have not been particularly effective as indiscriminate quest for external loans have not been adopted. Although rescheduling has conferred short term relief or debt service obligations, the debt over-hang has however hardly been abated as the debt stock has continued to increase significantly. Limit on debt service

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payments: This requires setting aside portion of export earnings to allow for internal development. Debt Restructuring: This involve the reduction in the burden of an existing debt through refinancing, rescheduling bring back, issuance of collateralized bonds and the provision of new money. The Federal Government in year 2001 established a semi– autonomous debt

management office under the Presidency. The creation of (Debt Management Office) (DMO)consolidated the debt management functions in a single agency, ensuring proper coordination of the country’s debt recording and management activities, including debt service forecast, debt service repayments, and advising on debt negotiation as well as new borrowings.

1.2 Statement of the Problem and Research Questions

The huge external debt stock and debt service payments of African countries and Nigeria in particular prevented the countries from embarking on larger volume of domestic investment, which would have enhanced growth and development.




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Debt management strategies in public financial management in Nigeria are not without a number of problems thus: debt management strategy does not provides effective pubic financial management in Nigeria, ineffective debt management strategies affect Nigeria economic growth process, burden of debt servicing after debt affect Nigeria economy; and crisis on Nigeria’s exchange rate affects public financial management in Nigeria to manage debt. In view of this therefore, the research set to answer the following research questions:



   Does debt management strategy provides effective pubic financial management in Nigeria

   Does ineffective debt management strategies affect Nigeria economic growth

   In what ways does burden of debt servicing after debt affect Nigeria economy; and

   Does crisis on Nigeria’s exchange rate affects public financial management in the country.



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1.3 Objectives of the study

   To examine how debt management strategies provided effective pubic financial management in Nigeria

   To examine how ineffective debt management strategies affect Nigeria economic growth

   To determine how burden of debt servicing after debt affect Nigeria economy; and

   To evaluate how crisis on Nigeria’s exchange rate affects public financial management in Nigeria to manage debt.

1.4 Hypotheses

   That debt management strategy may not adequately be managed by pubic financial management in Nigeria

   That ineffective debt management strategies may affect Nigeria economic growth

   that burden of debt servicing after debt may likely affect Nigeria economy; and



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   That the crisis on Nigeria’s exchange rate may likely affects public financial management in Nigeria to manage debt.

1.5 Significance of the Study

This study is focused on providing evaluation on debt management strategies in public financial institution in Nigeria. It will also serve as a tool in revamping government policies towards loan procurement and debt servicing in Nigeria. This work may also serve as a yardstick for 0.3. research and documentation on Nigeria’s external debt crisis. Other significants are itemized as follows:

i.  the significance of this study to bankers will enable them to appreciate an appraisal of their lending and control mechanism now that they are expected to lend under tight monetary conditions.

ii. The economy as a whole will benefit from the study because if the level of debts is reduced,banks will be left with more money to enable them make the expected contributions to the development of the economy.




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iii.    Efficient debt management is vital to the protection of assets and the achievements of adequate returns to investment.

iv. This research will also be useful as a reference material for a student who is conducting research on the similar topic.

1.6 Scope And Limitations of the Study

The scope of this study shall cover the evaluation of debt management strategy for effective public financial management in Nigeria, using central bank of Nigeria, Sokoto branch as a case study.The general overview of the debt cancellation shall be taken with certain issues raised and discussed.However, the empirical investigation of the effect of debt management strategy in public financial management in Nigeria shall be restricted to 1981 and 2010. This restriction is unavoidable because of the non-availability of some data.

The limitations of this study include some of unavoidable constraints and problems encountered in the process.They are as follows:

1)  Finance: The problem of finance was not left out in the course of research to this study. This type of study required little money and

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time to enable the researcher visit the necesssary places for collection of data.Insufficient fund hindered an in-depth study of this research since it was financed from meager pocket money of the researcher.

2)  Non-availability of records: This is one of the most important limiting factors in the course of the study.This includes the problems of easily getting the appropriate data due to bureaucracy which hinders the information flow in the country.

3)  Non-challant attitude of bank officials: The reluctance of bank officials to reveal information on the need for this study,for fear of breach of duty of secrecy to customers exposure of banks administrative short-comings.

4)  ignorance of respedent borrowes: Most bank customers were semi-illiterates and most often it was very difficult to collect adequate data required from them.

5)  TIME: Since this study is one of the many courses offered by the researcher,the researcher was constrained by time to carry out an indent research on the study.

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1.7 Scheme of Chapter

This research work focus on evaluating debt management strategies in public financial management in Nigeria, using central bank of Nigeria, sokoto branch as a case study comprises five chapters. Chapter one is general introduction, which includes background to the study, statement of research problem and research questions, objectives of the study, hypotheses, significant of the study, scope and limitations, scheme of chapters, definition of terms; and historical background of central bank of Nigeria, Sokoto branch. The second chapter contains the literature review, authors, textbooks and journals. It examines the meaning of debt management strategies, public financial management and theoretical background of the study. Chapter three is research methodology, it contains introduction research design population sample and sampling technique method of data collection. Instrument for data collection and method of data analysis and hypothesis testing method chapter four is data presentation and analysis it touches the analysis of data interpretation of findings, analysis of

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respondent analysis of research question and testing of hypothesis. Lastly. The final chapter i.e chapter five, it contains the summary of findings in research work, the conclusion and recommendations for the organization.

1.8 Definition of terms

-   Debt: This is what one owes to another person.

-   Loan: A Loan is a credit arrangement,a security is pledged and must be repaid with interest over a stipulated period of time.

-   Overdraft: This is a credit arrangement by banks to their customer to withdraw money over and above that what he has in the account.

-   Default: This means failure to pay one´s debt for credit extended which has fallen due.

-   Interest: additional payment charged on debt

-   Debt servicing: the repayment of debt by the debtor

1.8.1   Historical  Background  of  Central bank    of  Nigeria,    sokoto

branch

The Central Bank of Nigeria was established by the CBN act of

1958 and commenced operations on July 1, 1958. The major regulatory



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objectives of the bank as stated in the CBN act of 1958 is to: maintain the external reserves of the country, promote monetary stability and a sound financial environment, and to act as a banker of last resort and financial adviser to the federal government. The central bank's role as lender of last result and adviser to the federal government has sometimes pushed it into murky regulatory waters. After the end of imperial rule the desire of the government to become pro-active in the development of the economy became visible especially after the end of the Nigeria civil war the bank followed the government's desire and took a determined effort to supplement any short falls in credit allocations to the real sector. The bank soon became involved in lending directly to consumers, contravening its original intention to work through commercial banks in activities involving consumer lending. However, the policy was an offspring of the indigenisation policy at the time. Nevertheless, the government through the central bank has been actively involved in building the nation's money and equity centers, forming securities regulatory board and introducing treasury instruments into the capital market.

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The CBN's early functions were mainly to act as the government's agency for the control and supervision of the banking sector, to monitor the balance of payments according to the demands of the federal government and to tailor monetary policy along the demands of the federal budget. The central bank's initial lack of financial competence over the finance ministry led to deferment of major economic decisions to the finance ministry. A key instrument of the bank was to initiate credit limit legislation for bank lending. The initiative was geared to make credit available to neglected national areas such as agriculture and manufacturing. By the end of 1979, most of the banks did not Adhere to their credit limits and favored a loose interpretation of CBN's guidelines. The central bank did not effectively curtail the prevalence of short term loan maturities. Most loans given out by commercial banks were usually set within a year. The major policy to balance this distortion in the credit market was to create a new Bank of Commerce and industry, a universal bank. However, the new bank did not fulfill its mission. Another policy of the bank in concert with the intentions

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of the government was direct involvement in the affairs of the three major expatriate commercial banks in order to forestall any bias against indigenous borrowers and consumers. By 1976, the federal government had acquired 40% of equity in the three largest commercial banks. The bank's slow reaction to curtail inflation by financing huge deficits of the federal government has been one of the sore points in the history of the central bank. Coupled with its failure to control the burgeoning trade arrears in 1983, the country was left with huge trade debts totaling $6 billion.

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