Impact of Government Expenditure on Economic Growth in Nigeria (1970-2010)
Chapter One
Statements of Research Objectives
Government expenditure is a crucial instrument for economic growth at the disposal of policy makers in a developing country like Nigeria. Current circumstances obliged the proper allocation and efficient utilization of government expenditure as the reward is greater likewise, the penalty for bad policy in this respect is greater than ever before in the realm of globalization. In a nutshell, government expenditure could adversely affect economic growth, if its allocation and utilization are not properly addressed.
This study is aimed at establishing empirically, the relationship between the following components of aggregate production function and economic growth in Nigeria using Barro’s (1990) model:
- The impact of government consumption expenditure on economic growth in Nigeria.
- The impact of government investment expenditure in Nigeria.
- The influence of government investment expenditure on human capital development on economic growth in Nigeria.
- The impact of capital stock on economic growth in Nigeria.
- The impact of labour force on economic growth in Nigeria.
- The impact of private investment on economic growth in Nigeria.
CHAPTER TWO:
Review of Related Literature
Introduction
Economic growth represents the expansion of a country’s potential national output or potential real GNP; the expansion of economic power to produce (Ukwu, 2004). Without some kinds of economic growth, developing countries cannot extricate themselves from the quagmire of primordial poverty. Thus, these countries usually pursue fiscal policy to achieve accelerated economic growth. The term fiscal policy refers to the use of fiscal instruments (such as taxation and spending) to influence the working of the economic system in order to maximize economic welfare (Tanzi, 1994). The main objective of fiscal policy in less developed countries should then, be promoting long term growth of the economy. This is because focusing on stabilization of the economy in less developed countries would mean the perpetuation of the stationary conditions of under-developed equilibrium and would be quite incompatible with the requirements of economic dynamism.
Among the fiscal instruments, the focus of this work is on government spending. Government spending, if appropriately managed and utilized, has significant positive impact on economic growth, particularly in the developing countries, where there exist poor or meager infrastructural facilities and where private sector is not developed enough to play the expected role in the economy. Because of this observation, empirical studies on the impact of government spending on economic growth have paramount importance in formulating prudent policy measures. Reviewing relevant theoretical literature can help in building a framework for empirical analysis. Below is a review of theories of economic growth commencing from early growth theories.
Theories of Economic Growth
The theory of economic growth generally deals with the economy’s long run trend or potential growth path (Branson, 2002;Ukwu, 2004). It studies the factors that lead to economic growth over time and analyses the forces that allow some nation to grow rapidly, some slowly and others not at all. In this section, we are going to look at economic growth from two perspectives: factors determining economic growth; and patterns of economic growth.
Factors Determining Economic Growth
Beginning with early growth theories, Mercantilists emphasized surplus balance of trade while the cameralist- focused on taxation and state regulation to stimulate economic growth. Later by the end of the 18th century, physiocrats emphasized agriculture as the source of economic growth of the state and the wealth of citizens since they believe it has the capacity to create investible surplus (Lambadrive, 1996).
The classical models of Smith (1776) and Malthus (1798), describe economic growth in terms of fixed land and growing population. In the absence of technological change, increasing population ultimately exhaust the supply of free land. The resulting increase in population density triggers law of diminishing returns: fixity of land keeps output from growing proportionately to increase in labour. With less and less land to work, each new worker adds less and less extra product; the decline in labour’s marginal product means a decline in the competitively earned real wage. Malthusian equilibrium, comes when the wage has fallen to a subsistence level, below which the supply of labour will not produce itself. The classical models did not consider the reality that technological progress can keep economic growth progressing in industrial countries by continually shifting the productivity curve of labour forward (Samuelson and Nordhaus, 1985). The impact of advances in technology is to shift the production possibility curve, raising output per unit of input mix (Ukwu, 2004). The realization of the phenomenon drew attention to the role of capital – which puts machinery, equipment and technology to work in economic growth. Some economists have focused on this and develop Models of Capital accumulation to explain economic growth. Capital accumulation depends on the rate of investment; itself depends on the cost of capital and the expected rate of return on capital. When investment takes place, the economy sacrifices consumption today so that it can generate more consumption tomorrow (Ukwu, 2004).
The work of Keynes and his school of thought – is strongly associated with this perspective (Keynes, 1936). The Keynesian analysis leads to the conclusion that aggregate demand management policies can and should be used to improve economic performance. For Keynesians, demand is a prerequisite for growth. Harrod-Domar growth model is the prominent model in the Keynesian framework which gives some insight into the dynamic of growth. Harrod (1948) picks on the concept of multiplier to develop a “dynamic theory of growth” based on the relationship between consumption, investment and output. A similar approach was adopted by Domar (1957) making the Harrod-Domar model one of the central theories of growth in Economics thought.
According to the model, to determine equilibrium growth rate (g) in the economy, the balance between supply and demand for a nation’s output should be maintained. On supply side, saving is a function of the level of GDP(Y), say.
CHAPTER THREE:
Research Methodology
Research Design
The study makes use of time-series data from 1970 to 2010. The data are obtained from statistical bulletin of the Central Bank of Nigeria (CBN, 2011); since the study involves time series analysis, the study made use of time-series methods of unit root test, co-integration and error correction methods. In essence, the study is an empirical study designed to show how government expenditures, which are classified into government consumption expenditure, government investment expenditure and government investment expenditure on human capital, affects economic growth as well as how related variables like capital stock, labour force and private investment influence economic growth in Nigeria during the period under review. The research design is that of regression analysis, which assess the effect of the regressors on the regressand.
Model Specification
The model to be employed in this study follows Mankiw, Romer and Weil (1992), Osabuohien (2007) and Ulasa (2012), based on Cobb-Douglas production function (see Dowling, 2001) which made the economic growth model endogenous. The model can be shown as:
K is capital; L is labour input; while Y is output and shares of output for capital and labour, respectively. A is the index of production efficiency factor.
This study has drawn insight from Kwekaand Morrissy (1999), Katema (2006),Loto (2011) and Samimi and Habibian (2011) in specifying the implicit model as stated in this study. The study uses as the regresand, the nominal GDP (NGDP=Y), a proxy for output produced in Nigeria, government consumption expenditure (GCE=X1), government investment (GI =X2), government investment in human capital (GIHC = X3), capital stock (KAP = X4), labour force (LAB = X5), and private investment (PI = X6). Therefore equation 3.1 can be estimated in an explicit form as follows:
CHAPTER FOUR
Presentation of Results and Analysis
The results of the data analyzed using E –view 7.0 is presented in three segments: unit root test, cointegration test and vector error correction (VEC) model.
Presentation of Results
The results of unit root test carried out using augmented Dickey – Fuller (1979) test is presented in the table below. The columns represent variables, numbers of differencing (No of diff), augmented Dickey – Fuller (ADF) statistic, level of significance at 1% and at 5%.
CHAPTER FIVE: Discussion of Results
Introduction
From the tests of hypotheses in the previous chapter, it was established that:
Government consumption expenditure depresses economic growth; government investment on human capital development does not significantly stimulated the rate of economic growth in Nigeria; the level of capital stock has no significant impact on Nigeria economic growth; labour force do not stimulate economic growth; and private investment stimulates economic growth in Nigeria.
CHAPTER SIX
Summary of Findings, Conclusion and Recommendations
Introduction
This chapter presents the summary of major findings of the research work, the implications, conclusions and policy recommendations based on the statement of the problem, objectives and the hypotheses as stated in chapter one.
This study on the impact of government expenditure on economic growth in Nigeria is necessitated by the growing poverty, unemployment, and general macroeconomic instability in the face of increasing government expenditure.
Summary of Major Findings
The major findings of this work are as follows:-
(i) Government consumption expenditure depresses economic growth in Nigeria.
(ii) Government investment expenditure promotes economic growth in Nigeria.
(iii) Government investment in human capital (education and health spending by the public sector) has no significant effect on economic growth.
(iv) The stock of capital resources in Nigeria has no significant impact on economic growth.
(v) Statistically, the Labour force available in Nigeria does not contribute significantly to economic growth.
(vi) Private investment in Nigeria contributes significantly to economic growth.
Conclusion
Based on the above findings, government consumption expenditure depresses economic growth in Nigeria. This finding is in line with Barro (1990) who hypothesizes that unproductive government spending is liable to depress economic growth. This means that government has to reduce its recurrent expenditure in order to stimulate economic growth.
It is also established in this study that government capital expenditure stimulates economic growth in Nigeria. This finding is in line with the theoretical postulation that government productive expenditure (see Ram, 1986; Barro, 1990; Osborn, Haque and Bose, 2003) promotes economic growth. Thus, the current dismal performance of Nigeria economic may be attributed to the imbalance if the distribution of government expenditure in favour of consumption expenditure (current expenditure) rather than investment expenditure (capital expenditure).
This study establishes that government investment on human capital development has no significant impact on economic growth in Nigeria. Economic theory postulates that improvement in human capital development increases labour productivity through increases in skills and health of workers (Blanchard, 2010; Katema, 2006; and Kweka and Morrissey, 1999). In Nigeria the benefits of investment in human capital are not fully realized probably because the expenditure on human capital is not efficiently used for the development of human capital.
This study has established that labour force contribution is statistically insignificant to economic growth in Nigeria. This finding contradicts the neoclassical growth model, that, the growth rate of the economy is determined by the growth rate of the factors of production, including labour.
The finding of this study contradicts the theoretical postulation of the neoclassical economists but it is not unreasonable in the Nigerian case. This is because there is unemployment in the economy. As such increase in labour force is not expected to contribute to increase in output. This explains the reason why the theory does not hold in Nigeria.
Private investment stimulates economic growth in this study. This is in line with the theoretical postulation that private investment augments investment funds and capital in a developing country, like Nigeria. It also provides the much needed technical manpower and technology which are crucial in the development processes (Barro and Silas-I-Martin, 2004). This means that increase in private investment is needed in Nigeria to overcome the shortage of capital and to stimulate growth.
Recommendations
As pointed out earlier, the Nigeria economy is characterized by high level of unemployment, persistent macroeconomic instability with the attendant result of growing poverty. Government expenditure as fiscal policy instrument has not been very effective in resolving the macroeconomic challenges as pointed above. Based on these observations, the following recommendations are made:
- Government spending should be judged based on social costs and benefits. In this case, careful evaluation of government expenditures between consumption and capital spending has to be considered. A minimum level of consumption spending is needed to make capital expenditure effective. Funds allocation to consumption expenditure should not go beyond this minimum level. That is the level at which the social costs equal the social benefits.
- Public investment should be made to compliment augment private investment. It is argued that a direct contribution of public investment to economic growth is not as high as that of private investment. This is because in public investments, political forces dominate the process of decision-making and decisions on how money is spent is not usually based on increase in productivity but on political interests. However, in private investments, economic forces of demand and supply guide the allocation of resources to where they are most productive. Swift punishment is meted on those who make bad decisions and rewards for those who make good decisions. It is generally argued that, it is the effects of government investments on private sector productivity that make public investment worthwhile. Therefore, the role of government should be extended to ensure that the magnitude and quality of private investment are as high as possible in Nigeria.
- To make government expenditure productive, qualified personnel should be attracted and motivated to join the public sector. The present situation where the salaries of public civil servants are very low compared to their counterparts in the private sector cannot attract and sustained qualified and skilled personnel in the civil service. However, these qualified personnel are necessary and needed for efficient implementation of government programmes.
- There is the need to achieve the National Economic Empowerment and Development Strategies (NEEDS) enshrined in present programme of government. To achieve the NEEDS programme, Nigeria has to spend more on education, health and physical infrastructures. At the same time, there is the prospect that revenue is limited to pursue the NEEDS programmes. Hence, it is important that government spends less on public supplies (consumption expenditure) and emphasizes more on capital investment that will stimulate private sector investment.
Area for Further Studies
As noted in the summary, two of the variables used in the study stimulate economic growth and these are government investment expenditure and private investment. Only one variable (government consumption expenditure) depresses economic growth. While the remaining three variables (government in human capital, labour force and capital stock) exerts insignificant impact on economic growth in Nigeria. Other researchers could investigate these variables to find out more about their influence on economic growth.
Another related area not covered in this work is the impact of government size (the magnitude of government expenditure) on economic growth in Nigeria. It is argued theoretically that there is a threshold level of overall government expenditure that stimulates economic growth as high as possible. Below this threshold the impact of government expenditure on economic growth is lower and above, the impact is also lesser than the optimal. This type of research is also necessary in Nigeria. This can help us to know if government size in Nigeria is below or above or just the optimal level.
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