CHAPTER ONE

INTRODUCTION

1.1      BACKGROUND OF THE STUDY

Debt is created by the act of borrowing. It is defined according to Oyejide et al (1985) as the resource or money in use in an organization which in not contributed by its owner and does not in anyway belong to them. It is a liability represented by a financial instrument or other formal equivalent. In modern law, debt has no precisely fixed meaning and may be regarded essential as that which one person legally owes to another or an obligation that is enforceable by legally action to make payment of money. When a government borrows, the debt is a public debt. Public debts either internal or external are debts incurred by the government through borrowing domestic investments. Debts are classified into two i.e. reproductive debt and dead weight debt. When a loan is obtained to enable the state or nation to purchase some sort of assets, the debt is said to be reproductive e.g. money borrowed for acquiring factories, electricity refineries etc. However, debt undertaken to finance wars and expenses on current expenditure are dead weight debts.

Developing countries, like Nigeria, were characterized by inadequate internal capital formation arising from the vicious circle of low productive, low income and low savings. Nigeria is the world’s seventh-largest oil exporter but also one of the poorest. Nigeria’s domestic debt has been rising fuelled primarily by escalating fiscal. At the end of 2002, total federal government domestic debt outstanding amounted to 1,166. 0 million and in 2003, it rose to 1,329 million and in 2005, it amounted to 1,525,906 million and in 2006 it rose to 1,753,259, million (source: CBN statistical bulletin (2006).

The dramatic growth in the domestic debt outstanding has raised many doubts about fiscal sustainability of the current economic policy. The concerns about sustainability have also been compounded by those related to the very short maturity of most of the government domestic debt, and also the fact that the central bank of Nigeria (CBN) still remains the dominant holder of federal government domestic debt instrument.

The need to issue domestic debt can arise both from government deficits that are not fully foreign financed sand from implementation of monetary policy. Generally a deficit leads to a change in government net assets. Hence, a budget deficit can be financed by either drawing down assets or incurring new liabilities, either domestic or foreign. The choice between foreign and domestic borrowings, turn depends on cost (interest rates), maturity structure and risks. The terms of foreign borrowings are often more favorable than for domestic borrowing. Since domestic borrowings, carry much higher interest rates and have shorter maturities. Another advantage of foreign borrowing is that it increases the supply of foreign exchange, which is critical to meet important requirements. One drawback to foreign borrowing is currency risk, which may increase along with foreign indebtedness, given that a growing foreign debt service increases the demand for foreign exchange. Despite the attractiveness of foreign borrowing, governments may still consider domestic borrowing for a number of reasons. First, the supply of foreign (concessional) financing may be determined by the bid agencies, budgets and their assessment of the economic performance of the recipient country. Secondly international aid is very often linked to project financing and therefore cannot finance a government’s recurrent expenditure not supported by donors. Hence, government with large recurrent budget deficits may be forced to tap domestic savings, including through issuance of domest5ic debt, to close their budget gaps.

Economic theory suggests that reasonable levels of borrowing by the federal government are likely to enhance it s economic growth (Pattilo, Ricci and Poirson 2002). When economic growth is enhance (at least more than 5% growth rate), the economy’s poverty situation is likely to be affected positively. In order to encourage growth, the federal government buys debt instruments for a specified period of time. The instruments are used to finance government deficits in a non- inflationary and sustainable manner to enhance fiscal discipline and for the management of monetary policies. As escalating debt profile presents serious obstacles to a nation path to economic growth and development. The cost of servicing public debt (domestic and external) may expand beyond the capacity of the economic to cope, there by impacting negatively on the ability to achieve the desired fiscal and monetary policy objectives. Furthermore, a rising debt burden may constrain the ability of the government to undertake more productive investment programmers’ in infrastructure, education and public health.

        Many, developing countries resort to domestic borrowing to bridge the domestic resources gap in order to accelerate economic development. It means that the federal government can resort to domestic borrowing provided that the proceeds are utilized in a productive way that will facilitate the eventual servicing and liquidation of debt. Stieglitz (2002) contributed that government borrowings can crowd out investment, which will reduce future output and wages. When wages and output are affected the welfare of the citizens will be made vulnerable.

Soludo (2003), opined that federal government for two broad categories.

a)     Macroeconomic reasons (higher investment, higher consumption (education and health).

b)     To finance statutory balance of payment deficits.

This implies that the economic indulges in debt to boost the economic growth. He is also of the opinion that once an initial stock of debt grows to a certain threshold, servicing them becomes a burden and countries find themselves in a wrong side of the economy’s development, with debt crowding out investment and growth. The sharp increase in the domestic debt stock, over the years was attributable largely to the failure to embark on necessary adjustment, particularly at the time of declining revenue that resulted in growing fiscal deficits and further domestic debt accumulation. The bulk of domestic debt has been in short term treasury securities with maturities of less than one year. Nigeria’s debt burden has grave consequence for the economy and the welfare of the citizens. The servicing of domestic debt has severely encroached on resources available for socio-economic development and poverty alleviation. Nigeria’s domestic debt has been rising over the years. Table 1 below shows data on Nigeria’s domestic debt has increased steadily under Obasanjo’s Administration, it increased by almost 50% between 2000 and 2002. It is confirmed from an analysis of the data that, during the entire period, a majority of the domestic debt was held in short term instruments, the 91-day Treasury bills constituted over 57% of total domestic and approximately 63% in 2002. The rest of the public domestic debt stock has been generally held in treasury bonds and development stocks. The CBN has been ascertained the leading holder of domestic debt. In 199, the CBN held 65% of the total domestic debt, in 2000 its percentage share was 57.9 while in 2001, and its share rose to 66.9%.

However, its share fell to 46% in 2002. Also because of the short-term nature of the domestic debt, an amount equivalent to 20% of the GDP comes due for payment every three months. The government strategy has been to borrow the same amount to pass off the maturing debt and interest due. CBN, as the under writer of government securities, has stood ready to absorb the under subscribed amount of securities in the weekly primary actions.

Nigeria: Federal Government Domestic Debt Outstanding, 1998 – 2002 (In billions of Naira)

1998

1999

2000

2001

2002

Total

404.1

794.8

898.3

1,017.0

1,166.0

By instrument

Treasury Bills

221.8

361.7

465.5

584.5

733.7

Treasury Bonds

179.6

430.6

430.6

430.6

430.6

Treasury Certificates

0

0

0

0

0

Development stock

2.7

2.4

2.1

1.8

1.6

Other

0

0

0

0

0

By holders

Banking sector

355.9

765.1

808.2

879.4

992.7

Central bank

301.8

522.8

520.0

680.1

532.5

Commercial bank

49.5

226.1

275.0

199.3

460.2

Merchants Banks

4.6

16.2

12.4

0

0

Non-bank  sector

48.2

29.7

90.1

137.6

173.3

Sources: Central Bank of Nigeria, Annual Reports and Statistical Bulletin (2006)

The share of domestic debt public has been on an increasing trend. Domestic debt was only a minor component of total public debt until 2006. With the final exit from Paris club debt domestic debt became the larger share of total public debt, at around 80%.

STATEMENT OF PROBLEM

In spite of her continued penchant for domestic loans, Nigerian economy is still characterized by low per capita income, high unemployment rates, dwindling economy, inadequate basic amenities and poor infrastructural development and falling growth rates of GDP. The reliance by the federal government on borrowing from the banking system, particularly the CBN, to finance its large and unsustainable fiscal deficits has affected the growth of the Nigerian economy negatively. This has hindered the attainment of macroeconomic stability and sustainable economic growth in Nigeria. In addition, it has crowded out the private sector from the credit market, thereby stalling investment and output growth.

OBJECTIVES OF THE STUDY

The objectives of this study includes:

1.         To identify the factors responsible for the rising domestic government debt profile in Nigeria

2.         To ascertain if the increasing domestic debt profile affect the growth of Nigeria economy negatively

3.         To find out if the extra budgetary activities by the government attributed to the rise in domestic debt profile in Nigeria.

SIGNIFICANCE OF THE STUDY

The extent of a research is to add to existing knowledge, fill an existing gap, etc. it is in this lies the relevance of this study.

This study will be important and beneficial to stakeholders of an organization to know the essence of the structure of domestic debt and its impact on Nigeria economy. It will assist the government to see the reason domestic debt should be properly managed.

This study will help to restore the lost confidence of the public as regard the structure of domestic debt and its impact on the Nigeria economy.