Relationship between Fiscal Deficit and Public Debt in Nigeria: an Error Correction Approach

Benjamin Ayodele Folorunso

doi:10.22610/jebs.v5i6.410

Abstract

The paper examined the nexus between fiscal deficit and public debt in Nigeria. Public debt was disaggregated into domestic and external debt with a view to analyzing the causal relationship and relative effect of both categories of debt on fiscal deficit. Time series data were collected from Statistical Bulletins published by the Central Bank of Nigeria from 1970 to 2011. Except for inflation rate that was I(0), the unit root test results revealed stationarity of fiscal balance, public debt and its components, income, exchange rate and rate of interest series at their first difference; they are I(1) series. Pair-wise Granger causality results support bi-directional relationship between fiscal balance and public debt as well as its domestic component while causality run only from external debt to fiscal deficit. Johansen cointegration results also confirmed the existence of cointegrating relationships at 5 per cent level of significance. In addition, error correction estimates revealed that fiscal balance had significant positive relationship with debt in Nigeria in both the short and long run. The results showed that 1 per cent increase in public debt resulted in an increase of 1.85 per cent in fiscal deficit. In addition, 1 per cent increase in fiscal deficit resulted into 0.08 per cent increase in public debt. The paper further confirmed that domestic debt has greater impact on fiscal deficit than external debt. The paper concluded that the Nigerian government should consider appropriate mix of domestic debt and external debt as a mean of financing budget deficit.

Highlights

Much of the macroeconomic instability that beset many developing countries, including Nigeria, in the 1980s, which include debt crisis, high rate of inflation, low investment and poor growth performance, has been attributed to the persistent of fiscal deficit (Lad, 1984; Okunrounmu, 1993; Chimobi and Igwe, 2010)
The paper examined the nexus between fiscal deficit and public debt in Nigeria
Bi-directional relationship was confirmed between fiscal balance and public debt as well as its domestic component while causality only run from external debt to fiscal balance in the country

Summary

Introduction

Much of the macroeconomic instability that beset many developing countries, including Nigeria, in the 1980s, which include debt crisis, high rate of inflation, low investment and poor growth performance, has been attributed to the persistent of fiscal deficit (Lad, 1984; Okunrounmu, 1993; Chimobi and Igwe, 2010). The persistence of fiscal deficit in Nigeria confronts government with the decision of choosing among minting of currency, increase taxes, incur domestic or external debt or combination of any of these means in financing the deficit. It may, be counter-productive if appropriate mix of financing is not ensured. The choice of public debt (either domestic or external) as source of financing deficit may generate larger deficit as allocation has to be made for servicing the debt in the subsequent fiscal year resulting in perpetual deficit as in the case with the Nigeria economy (Adedotun, 1997) This is an indication that public debt may be a cause of fiscal deficit in the country

Objectives

Findings

Discussion

Conclusion