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IMPACT OF FISCAL POLICY ON INFLATIONARY LEVEL IN NIGERIA (1986 - 2017)

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 Feb 27, 2019 |  04:56 pm |  64
CHAPTER ONE
INTRODUCTION

1.1     Background of the Study
One of the macroeconomic problems facing Nigeria is the problem of inflation. Since the 1970s, there has been a continuous increase in inflationary level. Fiscal policy is defined by Kimberly (2018) as how Congress and other elected officials influence the economy using spending and taxation. It is a malady which has eaten deep into the fabrics of the country’s economy. Its impact on the economy is so devastating that the real GDP of the country over the years has not been growing. However, for a better understanding, inflation is the continuous and persistent increase in the general price levels of goods and services. Opinion survey conducted in India, the U.S.A and other countries reveal that inflation is the most concern of the people as it badly affects their standard of living (Ahuja 2013). 
There are two major categories of inflation: Demand pull inflation and cost push inflation which is otherwise called supply-side inflation. A demand pull inflation is said be a traditional and the most common type. It takes place when aggregate demand is rising while the variable supply is diminishing. This situation is generally called “Too much money chasing too few goods”. Renowned economist, John Maynard Keynes believed that increase in demand not matched by supply is the actual cause of this type of inflation.(Iyioha 2004) in support of this theory emphasizes that when the aggregate demand exceeds the aggregate supply at full employment level, the result is a gap which is called an inflationary gap, the more the gap the more rapid the inflation rate. The second category or type of inflation which is cost-push inflation is of the view that inflation is caused by wage increases enforced by unions and profit increases by producers or employers. This is why it can equally called wage inflation, producers’ inflation or the supply side inflation. It a common place in most developing countries including Nigeria because of the structural rigidities associated with developing countries trying to develop. The structural rigidities may arise in the form of non-availability of raw materials for industries which are necessary for production in which case, the only alternative is “importation” of such raw materials that in turn raises the price of the produced goods and services at home as the producers try to make profit. 
At this point, the unions come in, in agitation for wage increase because their real wage or income is reduced with respect to the increase in the prices of goods and services. The rigidities may also arise because of the fact that most developing country depend on primary products from agriculture which is susceptible to fluctuation in weather conditions or climatic changes. This may lead to the activities of the hoarders hoarding most of the available but meagre resources in anticipation of higher price. This in turn reduces supply to the barest minimum against the demand of such products which may be constantly at an increase Otto, (2011).
Fiscal policy is perhaps one of the important policy instrument available to governments of most developing countries for promoting growth and equitable distribution. Aside the fact that fiscal policy is used to improve technology, human capital and infrastructure development necessary for growth, it also provides the incentives and enabling environment to promote private sector investments in order to further growth. Fiscal policy involves the use of government public expenditure and taxes to regulate the economy. Scholars like (Al- Yousif, 2000), (Ranjan & Shrma, 2008) concluded that expansion of government expenditure and tax contributes positively to economic growth. But, some scholars did not support the claim that increasing government expenditure and taxes promote economic growth, instead they assert that higher government expenditure and taxes may slowdown overall performance of the economy. In fact, studies by (Landau 1986) suggested that large government expenditure has negative impact on economic growth.
Fiscal policy is the government’s management of the economy through the manipulation of its income and spending power to actualise some desired macroeconomic objectives amongst which are price stability and economic growth (Ozurumba 2012). It is a deliberate alteration of the government spending and taxation to help achieve desired macroeconomic objectives as said above by changing the level and composition of aggregate demand (AD). This simply means that it works through taxation (government revenue) and expenditure. Fiscal policy can equally work through the manipulation of subsidies, exchange rate, checks on the external reserve, borrowings which may be used to finance deficits where the projected expenditure is above revenue. However, there are two major types of fiscal policy and they include: Discretionary and Automatic fiscal policies. Discretionary fiscal policy refers to the policies which are decided and implemented by one-off policy changes while Automatic stabilization is where the economy can be stabilised by the processes of fiscal drag and fiscal boost. Moreover, for the sake of this work, the researcher’s concentration is basically on the discretionary fiscal policy because this is where the deliberate manipulation of the government of the economy manifests most. Discretionary fiscal policy is made up of Expansionary and contractionary fiscal policies. Expansionary fiscal policy is when the government expenditure exceeds its tax revenue and it is mostly recommended during economic recession. Contractionary fiscal policy on the other hand occurs when the government’s spending is lower than its tax revenue and this is used by the government to curtail the excess in the aggregate demand within an economy. For either type, the government uses its initiative to determine which serves the economy best at a particular point in time, that is, depending on the situation at hand Osuala (2013).
Between 1900 and 1945 before independence, the Nigeria government had been using fiscal policy to achieve some of their objective specifically; it was in the northern Nigeria that the fiscal policy direct taxation was practised. Before the coming of the Lord Lugard who in turn adopted it is his administration.
This was first introduced to the Oyo province of south western Nigeria in 1918 under the native revenue (southern province) ordinance No.27 of 1918 which was then called income tax and was calculated on the basis 272% of the gross income of the ordinary farmer with special types of property. By 1922, the direct tax policy had been extended to most provinces of south-west in Nigeria but there was a tremendous opposition to its introduction in south-eastern province of Nigeria because of the non-existence of any tax system. By 1928, direct taxes were collected for the first time largely with the aim of warrant Chiefs. It is the problem of this native revenue amendment ordinance that led to Aba Women Riot of 1929 by 1930 direct tax has been introduced throughout Nigeria with subsequent amendments. For the first time, a law on tax evasion (income tax ordinance No.17 of 1937) was enacted. Also in 1937, the 1927 income tax ordinance was amended by the British along their doctrine to provide for company tax further amendment that took place in 1939.
Government expenditure by 1945 increased considerable with the cost of administration consuming between 30 – 40% of total revenue, public works accounts for only 10%, agriculture and education took about 5% each, while the most were remitted to the British government administration fees. Do allocation was made for the development of commerce and industry throughout that period i.e. 1910 – 1945. The revenue and expenditure volume increased considerable from N13.2m in 1946 to N88.824m in 1960 and N10.63m in 1946 to N81.749m in 1960 respectively Arifalo and Gboyega Ajayi (2003).
Early 1960’s after independence, agriculture was the mainstay of the Nigeria economy, employing over 80% of the work force. By 1970 petroleum became the principal revenue earn of the country. Foreign exchange accruing from oil by mid 70s accounted for nearly 82% of revenue. The so-called oil boom made possible massive growth in the national economy which led to the expansion of government result from relatively loose federation of five (5) units – consisting four (4) region and a center in 1962 to a much more centralized system of 36 states and Abuja as the federal capital territory. Nigeria development programmes since independence have been very well articulated although their implementation have been bedevilled with itches, bald measures or abandonment caused by either the civil war, political instability, economic statements and also experienced different tax regimes, alterations in public expenditures pattern and government’s direct and indirect involvement in projects. Nigeria’s public finance management had been at the center of Nigerian policies since the amalgamation of 1914. This has often referred to as economic politics which dictates who gets what, when and how much to be received. Tax legislation confers tax imposition and collection powers on the different tiers of government according to the magnitude of social and economic obligation expected of it. Therefore, jurisdictions over collection of taxes have been divided among the federal state and local government.
The government of Nigeria has applied this type of fiscal policy since its realisation of independence through its budgetary allocations in order to curb its inflationary level. It has done this through granting of subsidies, tax holidays for production firms or companies, different types of incentives and above all, it has continued to employ deficit budgeting which is expansionary in nature. Despite all these measures, the real effect on the economy of the country is yet to be discovered. That is why this research work has been primarily focused to investigate the effect of fiscal policy on the inflationary level in Nigeria Arifalo and Gboyega Ajayi (2003).

1.2 Statement of Problem
Since mid 1960s, inflation has become so serious and contentions a problem so serious and contentious a problem  in Nigeria. Though inflation rate is not new in the Nigerian economic history, the recent rates of inflation have been a cause of great concern to many. During the period under review (1981–2003), there has been an upsurge in the inflationary rates leading to major economic distortions. The continued over valuation of the naira in 1980,  even after the collapse of the oil boom engendered significant economic distortions in production and  consumption as there was a high rate of dependence on import which led to balance of payment deficits. This resulted to taking loans to finance such deficits. An example was the Paris Club loan, which was a mere Five  Billion, Thirty nine million dollars ($5.39billion) in 1983 rose to twenty one billion, six million dollars  ($21.6billion) in 1999 (CBN 2001). The oil glut from 1981, that resulted into balance of payment deficits also led to foreign exchange crises that necessitated various measures of import restrictions. These restrictions reduced raw materials for domestic production and spare parts for machinery operation. The resultant shortage of goods and services for local consumption spurred the inflation rate to rise from 20% in 1981 to 39.1% in 1984 (Itua, 2000). With the adoption of the Structural Adjustment Programme (SAP) in 1986, there was a temporal reduction in fiscal deficits as  government removed subsidies and reduced her involvement in the economy. But as the effects of the Structural  Adjustment Programme (SAP) policies gathered momentum, there was a fall in the growth rate of Gross  Domestic Product (GDP) in 1990 from 8.3% to 1.2% in 1994, with inflation rising from 3.6% (1990) to 76.8%  (1994) Again, the devaluation of the naira by the Central Bank of Nigeria (CBN) through the Second Tier Foreign  Exchange Market (SFEM) led to a fall in agricultural outputs as machines and raw materials (mostly imported)  were out of reach. The devaluation reduced the aggregate real income and aggregate demand and at the same time raised the naira  prices of goods whose production depended heavily on imported goods. Thus, unsold inventories accumulated in the face of consumer revolt. In this circumstance, the National Income (NI) fell and the price level rose (Osagie, 1989). In 1995, inflation rate rose to 51.6% due to increased lending rate, the policy of guided deregulation and  the lagged impact of fiscal indiscipline. In addition to her contemporary fiscal and monetary policies, the Nigerian government had implemented various other policies aimed at curbing inflation in the country. One of such  policies was the price policy (price control) in 1971 meant to control the soaring prices of essential goods but  abolished in 1980 for its ineffectiveness resulting from the severe shortages witnessed during the oil glut in  Nigeria (Udu, 1989). 
The government of Nigeria has really worked hard in the area of inflationary level control since the inception of the country’s independence through the use of fiscal policy instruments such as taxes and government expenditure. It has applied virtually all the instruments of this policy measure but still the problem has been at an increase. For instance, the Central Bank of Nigeria (CBN) estimated the rates or levels of inflation at 10.3 minimum and 12.0 maximum between the periods of December, 2011 and November, 2012 respectively  and since then the rate of inflation levels of 7.96, 7.98, 9.55, 18.55  as been increasing at 2013, 2014, 2015, 2016 respectively as a result of high rate of  production and consumption of imported which led to balance of payment deficits (CBN 2017). But in 2017 the rate of inflation tend to come down as the policy put in place to combat it, which means that despite the government’s position in this regard, it still seems nothing has actually been done. Therefore, in order that the real impact of fiscal policy measures might be known, effort has been made to look into the result of the previous analysis of the trend of inflationary level in Nigeria which indicates that the country’s type of inflation is far from the traditional demand pull type but is the supply-side type. The link now is between this particular supply-side inflation and fiscal policy. It is for this reason that this study is meant to investigate the impact of fiscal policy on inflationary level in Nigeria (Iyiola 2004).

1.3 Research Questions
In view of this lingering problem, this research work intends to address the following research questions.
What is the significance impact of fiscal policy on inflationary level in Nigeria?
What is the impact of Personal Income Tax on inflationary level in Nigeria?
What is the impact of capital expenditure on inflationary level in Nigeria?

1.4     Objectives of the Study
In carrying out this study, the following objectives will be met.
To examine the impact of fiscal policy on Inflationary level in Nigeria.
To examine the impact of Personal Income Tax on Inflationary level.
To examine the impact of capital expenditure on Inflationary level.

1.5   Research Hypotheses
This research work is theoretically based on the following hypothesis; for this sake, the null hypothesis (Ho) will be tested against the alternative hypothesis (H1).
Ho: there is no significant impact of fiscal policy on inflationary level in Nigeria.
Hi: there is significant impact of fiscal policy on inflationary level in Nigeria.  

1.6 Significance of the Study 
This study which is the Impact of fiscal policy on fiscal policy in Nigeria will be of immense help at this period of the country’s efforts in finding viable solutions to the widespread problem and decline in economic growth and as we all know, inflation is one factor for economic growth. In this perspective, the study will contribute towards enhancing government effort in tackling the increasing rate of inflation in the country. Furthermore, the study will make available useful insight and suggestions to the government on how to handle fiscal policies towards achieving the desired level of inflation in Nigeria. The study will also be of great importance to the academia in terms of providing additional materials that will enhance the available literature on the relationship between fiscal policy and inflationary level in Nigeria. Furthermore, the findings of this study will contribute to the available research materials on the current scenario of increase rate of inflation in Nigeria.

1.7 Scope and Limitation of the Study 
This study set out to examine the impact of fiscal policy on inflationary level in Nigeria for period of 31 years from 1986 to 2017. This study is constrained by several factors among which are the problem on adequate data because the statistical accuracy of this research work depends to a quite extent on the availability and reliability of data. In some cases data were consistent while in other cases, data for various agencies were conflicting. Other factors limiting the study include time and financial constraints.

1.8 Organization of the Study
This study is organized into five chapters; chapter one is introduction, comprising of the background of study, statement of the problem, research question, objectives of study, research hypothesis, significant of study, the scope and limitation of the study and organization of study. Chapter two is review of relevant literature on the subject matter which includes the definition of key words, theoretical literature review, empirical literature review, gaps in literature, theoretical frame work. Chapter three is research methodology, comprising of  Model of specification, model estimation techniques, Types and sources of data, Model evaluation criteria. Chapter four is the presentation and analysis of the results and finally, chapter five contains summary, recommendation and conclusion of the study.

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