Impact of interest rate on Private Sector Investment in Nigeria

The impact of interest rate on private sector investment in Nigeria 1981-2016. Download the the full research work in doc editable file. The research investigate the impact of interest rate on private sector investment within the context of Nigeria, factors that determines the interest targeting of the central bank and how this impact on private sector investment cum economic growth.



1.1 Background of the Study

The interest rate policy in Nigeria as it affects private sector investment is perhaps one of the most controversial of all financial policies. The reason for this may not be farfetched because interest rate policy has direct bearing on many other economic variables such as investment decision. Interest rates play a crucial role in the efficient allocation of resources aimed at facilitating growth and development of an economy and as a demand management technique for achieving both internal and external balance.

For many years now, Nigeria’s Central Bank of Nigeria Monetary Policy Rate (MPR), otherwise known as the benchmark interest rate has been at double digit. In 2012 it was largely at 12 per cent. By the time deposit money banks charge their own lending rates to prospective customers wanting to loan money, it’s usually between 15 – 20 per cent and more. This has made nonsense of government’s effort at stimulating the real sector of the economy. Even the aviation, textile and entertainment intervention funds set aside by government to revitalize these ailing sectors have been difficult to access by the target beneficiaries. Banks, apart from charging high interest rates on loans, also add all manner of administrative or miscellaneous charges which make the burden of borrowing unbearable. What obtain in many other developing countries are low interest rates of between 5-8 per cent with a moratorium. What cheap loans do for entrepreneurs are that it makes take off and expansion of business relatively easy for the investors. With that, the cost of doing business is reduced and they in turn will be able to provide cheaper services and goods. Invariably the consumers get a better deal from the producer.

However, with the high interest rate, the mortality of small and medium enterprises (SMEs) becomes high as lack of cheap loans to grow their business interests will lead to high cost of production, low capacity utilization, staff rationalization (right-sizing and down-sizing), low sales as consumers may not be able to afford the goods and services, default in loan repayment, and ultimately, business collapse.

According to Uchendu (1993), interest rate policy is among the emerging issues in current economic policy in Nigeria in view of the role it is expected to play in the deregulated economy in inducing savings which can be channel to investment and thereby increasing employment, output and efficient financial resource utilization. Also, interest rates can have a substantial influence on the rate and pattern of economic growth by influencing the volume and disposition of saving as well as the volume and productivity of investment in the private sector, thereby enhancing economic growth (Leahy, 1993)

It is most unfortunate that while many entrepreneurs borrowed at cut-throat interest rates from banks and other financial institutions, many government contractors are not paid for the contracts they have successfully executed for government many years after completion of such projects. Statistics from the Debt Management Office of the Federal Government show that the country’s domestic debt profile stands at about $38.37bn (N5.97tn) as at March 2012. In the 2013 budget only a paltry N100bn is earmarked for the payment of domestic debts. The non-payment of contractors who in most cases borrowed at high interest rates from financial institutions to do contracts for federal, states and local governments  is to say the least very unfortunate and discouraging. Any wonder there are so many abandoned projects dotting Nigeria’s landscape.

Apart from high interest rate on loans and non-payment for contracts duly executed on behalf of different tiers of government and their agencies, the World Bank in its Investment Climate Assessment Report for the 2011 fiscal period chronicled other constraints that entrepreneurs face in doing business in Nigeria. The report titled ‘Nigeria, an Assessment of the Investment Climate in 26 States’ was released on August 9, 2012.  The account observed among many other things that Nigerian business environment, in spite of the series of reforms being carried out by the current administration to attract Foreign Direct Investment into the country, remained hostile. The 202-page report said that investors were losing 10 per cent of their revenue to the hostile investment climate in the country. It stated that the areas that account for the 10 per cent loss include poor quality infrastructure, crime, insecurity, and corruption. The assessment reviewed the experiences of over 3,000 surveyed business owners in 26 states of Nigeria about the aspects of the business climate that affected their businesses.

The aforementioned constraints are not only responsible for low investment drive in Nigeria but also high level of divestment and business mortality. Today, many once flourishing businesses have either collapsed like a pack of cards or their founders have relocated to saner climes where the cost of doing business is not as astronomic like ours. A case in point are our tyre manufacturing companies like Dunlop and Micheline; pharmaceutical companies; vehicle assembly plants like Steyr, Leyland, Volkswagen and even textile mills to mention but a few. Many warehouses of once productive businesses have been acquired by churches and turned to worship or event centres.

Therefore, there is urgent need for such policies that will stimulate private investment such as tax regime and moratorium; customs duties and goods clearing process, industrial dispute adjudication procedures; labour laws and many others. The entire lending process and procedures set by financial institutions need to be simplified and made investor friendly. We must also combat corruption not by paying lip service but by effectively prosecuting corrupt elements in our society. This among others enhances private investment and leading to economic growth at large.

1.2 Statement of the Problem

The private sector contributes more meaningfully to economic growth than the public sector. The reason for this statement as given by Seruvatu and Jayarama (2001) is that corruption seems to be less in the private sector investment compared to the public sector investment. Therefore, to this end, measures are to be taken by the government of Nigeria to encourage private sector investment in other to boost high productivity, innovation, employment level, and standard of living, reduce poverty and ultimately accelerate economic growth, because the lack of it breed poverty and all manners of social vices in the country.

The financial repression, largely manifested through indiscriminate distortions of financial prices including interest rates, has tended to reduce the real rate of growth and the real size of financial system, more importantly, financial repression has (retarded) delay development process as envisage by Shaw (1973). This led to insufficient availability of investible funds, which is regarded as a necessary starting point for all investment in an economy.

Declining investment ratio and level are problems; first of all, because investment matters for growth and low investment increases vulnerably in the economy (Niambon and Oshikoya, 2000). The main challenge that Nigeria is facing is to make policies that will help revive and raise investment in the country in order to stimulate and sustain economic growth.

However recent theoretical and empirical studies tend to suggest that reviving private investment may proof difficult unless efforts are made towards restoring consistency and stability in macroeconomic policy environment of business (see Pindyck, 1991). Fluctuations in private sector investment in Nigeria have been a serious concern because in spite of the measures adopted by the Nigerian government, private sector investment trends remained low which tend to impede economic growth in the country. It has however been found that a major problem is that the government is so much concerned about policies to boost private investment without much knowledge or investigations into the main determinants of private investment in Nigeria like the interest rate policy manipulation and the likes.

It of great importance to mention here, that most empirical work focused on the impact of either interest rate or private sector investment on economic growth of Nigeria loosing focus on how the combination of the two policies can influence the economic growth of Nigeria.

1.3. Research Questions

In order to address the aforementioned problems as identified in the statement of problem the following researchable questions will guide the researcher:

  1. To what extent has interest rate impacted on private sector investment in Nigeria?
  2. What is the causal relationship that exists between interest rate and private sector investment in Nigeria?
  3. Is there any observed long run relationship between interest rate and private sector investment in Nigeria?

1.4 Objectives of Study:

The major objective of this study is to investigate the impact of interest rate and private sector investment on Nigeria economic growth at large, while the specific objectives include the followings:

  1. To empirically investigate extent at which interest rate has impacted on private sector investment in Nigeria.
  2. To ascertain the causal relationship that exists between interest rate private sector investments in Nigeria.
  3. To determine if there is any observed long run relationship between interest rate and private sector investment in Nigeria.

1.5. Statement of Research Hypotheses

This provides tentative answers to research questions subject to proof or otherwise by the by the evidence from the study. Hence the working hypotheses of the study are stated as follows:

H0 There is no significant impact of interest rate on private sector investment in Nigeria.

H0 There exist no significant causal relationship between interest rate and private sector investment in Nigeria

H0 There is no long-run relationship existing between interest rate and private sector investment (PINV) in Nigeria.

1.6. Significance of the Study

This study aims at investigating the impact of interest rate on private sector investment in Nigeria economic growth at large and hence, its impact cannot be over-emphasised. The study will be of great importance to policy makers, government and its agencies, private individuals and firms at large.  The study will be also of great importance to student s of economics and other researchers who may have interest in interest rate and private sector investment and its impact on Nigeria economy. Finally, the findings of this study would add to the stock of econometric literature of Nigeria.

1.7    Scope and Limitation of Study

This research will analyse the impact of interest rate on private sector investment in Nigeria, taking a good analysis on various ways and means put by the government of Nigeria to develop private sector investment 1981-2015.

The researcher encountered a number of constraints in the course of this work to include; data sourcing or data inconsistence due to poor nature of information management in Nigeria. Other constraints are; time factor, financial constraints and host of other constraints that prevent the researcher to present a better work than this.

1.8 Definition of Terms

INTEREST RATE: Adebiyi (2002) defines interest rate as the return or yield on equity or opportunity cost of deferring current consumption into the future. Some examples of interest rate include the saving rate, lending rate, and the discount rate. Thus is the cost of borrowing capital for investment purpose. Interest rate can therefore be seen as a nebulous concept, a position affirmed by the availability of different types of this rate. Some of which are; savings rate, discount rate, lending rate and Treasury bill rate.

INVESTMENT: Investment in the literal form is the buying of stocks from company by an individuals or corporate body with the aim of making profit. According to Keynes investment is the addition to capital, by this he means that investment only take place when there is addition to capital. Such investment could be acquisition of new machine, buying of raw material, building of houses among others.

ECONOMIC GROWTH: This can simply be defined as a quantitative increase in the available goods and service available in a country. Put differently, it is the quantitative increase in a country gross domestic product over a given period usually a year.

MONEY SUPPLY: This is the total money stock available in a country over a given period of time. This is made up of money with the non- bank public and the money in current account of the commercial banks in the country. The broad definition of money supply (M2) is adopted which includes currency in circulation, demand deposits, quasi-money and foreign currency deposits.

MONETARY POLICY: this can be seen the policy measure adopted by the monetary authority as headed by the central bank of country in order to achieve the major macroeconomic variables vis-à-vis full employment level, price stability balance of payment equilibrium, sustainable economic growth rate among others.

FINANCIAL REPRESSION: Financial repression refers to the notion that a set of government regulations, laws, and other non-market restrictions prevent the financial intermediaries of a country from functioning at full capacity. The policies that cause financial repression include interest rates ceiling, liquidity ratio requirements, high bank reserve requirements capital controls, restrictions on market entries into the financial sector, credit ceilings or restrictions on directions of credit allocation, and government ownership or domination of banks.

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