Impact of Domestic investment, Capital formation and Economic Growth in Nigeria

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This research investigate holistically domestic investment, capital formation and economic growth in Nigeria between the periods of 1980-2016. You can download the full research work from chapter one to five

CHAPTER ONE

INTRODUCTION

1.1 Background to the Study Study

The nature and stability of domestic investment have attracted enormous debate in economics literature, particularly in the advanced market economies. The preponderance of studies on this subject include Uremadu ( 2006), Adegbite and Owualla (2007) argues that although foreign direct investment (FDI) is beneficial to host countries by speeding up the process of economic growth and development, its multiplier effect is greater. In other words, developing countries should depend greatly on domestic investment rather than foreign direct investment (FDI). This is because, borrowing from outside is not a proper strategy for growth and development since it does not only have adverse effect on the balance of payment as these loans will be serviced in the future with the use of their domestic resources, but it equally carries a foreign exchange risk such as devaluation of their currency which is one of the specific conditionalties for borrowing from International Monetary Fund (IMF). Hence, domestic investment through capital formation is not just paramount, but serves as a prerequisite for the geometric acceleration of growth and development of every economy as it provides domestic resources that can be used to fund the investment effort of the economy.

Over the years, emphasis has been placed on foreign direct investment (FDI) for economic sustainability, particularly in developing countries of Africa, Asia and Latin America. In Africa for example, inflows of FDI surged to a record level of $38bn, mainly as a result of large investments in oil-rich economies (Financial Times, 2007). The main factors that contribute to FDI flows into African continent in recent times seem to be the availability of natural resources in the host countries, and to a lesser extent, the size of the domestic economy, thereby improving the productivity and growth of the host country. But the broad issue is that, most increase in the economic growth of the host countries by FDI always affect the size of host country’s domestic investment, this concern emanates from the fact that foreign direct investment reduces the output, employment and as well worsen the balance of payment of those countries concerned (Agosin and Mayer, 2000). This is because benefits of those Foreign Direct Investors are not automatically accruing into host countries, but rather crowding out domestic investment by forcing the local competitors out of the market. It is to this end that, Akanbi (2010) observed that a reduction in the widespread poverty which is a major feature of the Nigeria economy can be achieved through a sustained increase in domestic investment, because domestic investment provides more employment opportunity for indigenes than the FDI. In addition, Razin et al. (1999) raised the concern that FDI no longer generate any gain rather entailing domestic welfare losses.

The essence of this economic growth is  for the creation of economic and social overhead capitals (or costs), which leads to increase in national output and income through creation of employment opportunities and reduction of vicious circle of poverty both from the demand side and supply side. Economic growth is sine qua non and where the citizenries of per se country could match up with the 21st century trends relatively to economies of the world. The discovered problem (s) that is responsible for the emerging economies is resulting from low capital formation (or base) (Jhingan, 2006; Ainabor, et. al., 2014). The emerging countries of the World have no opportunity costs or the attitude of sacrificing present consumption or investment in order to augment future national output and income (Ainabor, et. al., 2014). Gross capital formation leads to technical progress which helps realize the economies of large scale of production (or economies of scale or operation) and increases specialization, in terms of providing machines, tools and equipments for growing labour force. Thus, the accumulated capital enables the acquisition of new factories alongside with machinery, equipment and all productive capital goods. In addition, to the construction of capital or mega projects and utilize the gross capital formation into educational sectors, health sectors, etc (Jhingan, 2006).

Capital formation is analogous to an increase in physical capital stock of a nation with investment in social and economic infrastructures. Gross fixed capital formation can be classified into gross private domestic investment and gross public domestic investment. The gross public investment includes investment by government and/or public enterprises. Gross domestic investment is equivalent to gross fixed capital formation plus net changes in the level of inventories (Jhingan, 2006). Capital formation perhaps leads to production of tangible goods (i.e., plants, tools & machinery, etc) and intangible goods (i.e., qualitative & high standard of education, health, scientific tradition and research) in a country.

A lot of economies depend on investments to resolve several economic problems, crisis and challenges. Less developed countries in Africa such as Nigeria is introducing various economic policies that will attract as well as keep hold of private investors. This is due to the fact that investments in certain sectors of the economy can rapidly transform the numerous economic challenges we are facing as a nation (Adegbite and Owualla, 2007). Therefore, the Nigerian government at any given opportunity works a lot to attract investments into various sectors of the economy. The motive for this is not farfetched. Investment both private and public comes with a lot of benefits such as job creation, increase in per capita income, reduction in the level of poverty, increase in standard of living, increase in GDP, etc..

Real investment in the economy is an acceptable way of increasing capital formation in the economy has been known to increase productivity and output generally. Investment of this type can be undertaken by the public or private sectors, with the government being involved mainly with autonomous investments which act as the main drivers of other investment in the economy. Autonomous investment had dwindled drastically while the expenditure being made by the public sector are not delivering value where rightly conceived (Akanbi, 2010). A simple analysis of the of the of capital formation statistics from the Central Bank of Nigerian shows that the nominal investment in capital formation is going down and has fallen in real terms. Investment could be social or soft in outlook (housing, health and education), while others are infrastructural or hard (transport, power and water), and yet others are purely economic, which the private sector undertakes for private capital accumulation. While financial investment is an avenue to increase wealth, real investment should be more emphasized to increase productivity and growth in the economy.

Recently, the percentage of domestic investment and public investment has reduced drastically, resulting from macroeconomic variables disequilibria—such as, inflation rate; exchange rate fluctuations; balance of payment problems; high external debt ratio; increase in population, corruption, etc. It was worsened when most recently there was a significant drop of crude oil prices in OPEC. The recent economic recession was largely blamed on the poor domestic investment nature of Nigeria economy where oil export constitute 9% to Nigeria export earnings.  With any fluctuation in crude oil price in the international market the economy will slump backward. It is therefore imperatives that if Nigeria economy must overcome the impending danger of serious output decline and further prevent successive economic recession like the one just witness in the country between second quarters of 2016 till third quarter 2017, domestic investment should be highly encourages and promoted to ensure diversification of the economy away from crude oil. In light of the above discussion this thesis aim at examining domestic investment, capital formation and economic growth in the country.

 

1.2 Statement of the Problem

Domestic investment and capital accumulation or formation has generated hit debates among scholars as to its importance in nation building (Noko, 2016). After the Nigerian civil war, the government sought approach to build the nation economy and place the economy on the part of development. As such, government in effort to build the economy embark on massive reconstruction and public sector investments to achieve sustainable economic growth and development. However, records of the past four decades have generated some concern over the slow pace of industrial and infrastructural development. Questions have been raised as to what should constitute the optimal size of government’s capital outlays that are capable of turning around the economy. Overtime, the Nigerian nation has witnessed a tremendous increase in her revenue profile through oil exports. She has equally enjoyed cycles of oil boom with successive governments harnessing the resources of the nation to execute its budget. Ironically, there has been an increase too in her expenditure pattern overtime. Paradoxically, it does not appear as if the increase in capital expenditures has translated into increased capital formation and consequent economic growth and development.

The inability of government investment witnessed it her expenditure to transform the economy led some policy analyst to shift attention to Foreign Direct Investment (FDI) as the major source of economic growth and development in the country. But the broad issue is that, most increase in the economic growth of the host countries by FDI always affect the size of host country’s domestic investment, this concern emanates from the fact that foreign direct investment reduces the output, employment and as well worsen the balance of payment of those countries concerned (Agosin and Mayer, 2000). This is because benefits of those Foreign Direct Investors are not automatically accruing into host countries, but rather crowding out domestic investment by forcing the local competitors out of the market. It is to this end that, Akanbi (2010) observed that a reduction in the widespread poverty which is a major feature of the Nigeria economy can be achieved through a sustained increase in domestic investment and capital formation because domestic investment provides more employment opportunity for indigenes than the FDI.

Nigeria’s macroeconomic indicators show the pitiable performance of Domestic investment in Nigeria for the period 1986 till date (CBN, 2016). For example, domestic investment declined from 12.3% of GDP in 1991 to 8.3% of GDP in 1992, this may be partly due to the reduced public investment, which fell during the same period. Domestic investment then increased to 12.5% in 1993 and to 16% in 1994. Later, it fell continuously to 8.9% in 1996. Between 2001 and 2010, the ratio averaged 13%; it peaked at 16.2% in 2002 but fell again to 152% in 2010 (CBN, 2015). A mere look at figure below will revealed domestic investment percentage of GDP in Nigeria is the lowest among the countries examined. From the graph we could see why China remains the second largest economy in the world with 46% domestic investment percentage of GDP.

Given the fact that literature on investment in Nigeria in dominated by foreign direct investment which contribute more to the home companies country more than the host company country. It is therefore necessary to investigate holistically domestic investment, capital formation and economic growth in Nigeria between the periods of 1980-2016.

1.3 Research Questions

In the course to examine the study, the following questions were considered. They are stated below as follows:

  • To what extent does domestic investment impacted on Nigeria economic growth?
  • To what extent does capital formation impacted on Nigeria economic growth?
  • To what extent does long run significant relationship exist among domestic investment, capital formation and economic growth in Nigeria within 1980 and 2016?
  • Is there significant causal relationship among domestic investment, capital formation and economic growth in Nigeria within the period under study?

1.4 Objectives of the Study

The general objective of this study is to evaluate the link existing among domestic investment, capital formation and economic growth while the specific objectives are to;

  • Examine the impact of domestic investment on Nigeria economic growth within sample period.
  • Determine the impact of capital formation on Nigeria economic growth within the sample period.
  • ascertain if there is long run significant relationship that exist among domestic investment, capital formation and economic growth in Nigeria within 1980 and 2016.

1.5 Hypotheses of the Study

The research work will be guided by the following hypothesis

  1. Ho: There is no significant impact of domestic investment on Nigeria economic growth within the sample period.
  2. Ho: There is no significant impact of capital formation on Nigeria economic growth within the sample period.
  3. Ho: There is no long run significant relationship that exists among domestic investment, capital formation and economic growth in Nigeria within 1980 and 2016

1.6 Significance of the Study

Domestic investment in Nigeria has over the year been declining drastically as analysed in the statement of the problem. The government on its own part has made some effort in revitalizing the or growing domestic investment in the country. However, in spite of the enormous importance of domestic investment to nation building, the sector has not been fully harnessed. More so, literature on investment and economic growth in Nigeria has focused more on foreign direct investment and has neglected this all powerful sector that has the ability to create mass job, solve the problem of poverty through increase in aggregate demand and solve the problem of mono product export issues facing Nigeria economy at large. Given the above facts, and the fact that literatures on domestic investment as its impact the economy has no consensus findings on its impact on the economy, it is therefore justified for further research to be carried out on domestic investment, capital formation and economic growth in Nigeria.

1.7       Scope of the Study  

This study is on the relationship among domestic investment, capital formation and economic growth in Nigeria. It determines graphically the existence or otherwise, of any significant impact of domestic investment, capital formation on economic growth in Nigeria.

However, the data range covers from 1980-2016. The analysis is only restricted by the variables specified in the model such as domestic investment (DIN), capital formation (CFO) captured by gross fixed capital formation and gross domestic product (GDP). Other variables included are justified in chapter three of the research work.

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