ABSTRACT

This study examines how government budget deficits influence economic performance in Nigeria. Budget deficit is captured by the budget deficit ratio (Bdr), defined as the ratio of national debt to gross domestic product, while economic performance is captured by real gross domestic product (RGDP), which measures economic output adjusted for price changes. To estimate the influence of the deficit on performance, the study applies a simple Keynesian model, modified to accommodate the variables of interest, to annual data covering 1970 to 2013. It also tests for causality and for a significant correlation between the budget deficit and economic performance. The results show that the budget deficit ratio has a significant and positive effect on RGDP, which suggests that higher deficit financing raised output rather than reducing it through crowding out of investment. The causality test indicates a unidirectional relationship running from the budget deficit to economic performance, so that deficit financing Granger-causes output. The correlation between the two variables is also positive and significant. Deficit financing is therefore not necessarily a bad policy option: if properly managed, it can stimulate economic activity and output growth and create employment. These findings support the Keynesian position on budget deficits and run counter to the Ricardian view.

CHAPTER ONE

INTRODUCTION

1.1 Background to the Study

The relationship between government budget deficits and macroeconomic performance has attracted considerable attention from researchers and policymakers around the world, and persistent deficits have become a prominent feature of many emerging economies, Nigeria included. In Nigeria the deficit has been a recurring subject of debate because of the sustained increases recorded since 2000. Official figures put the deficit at about N2 billion in 1980 and N3.9 billion in 1981. It rose to N8.2 billion in 1986 and then eased to N5.8 billion in 1987. Although deficits declined markedly between 1987 and 1999, the early 2000s saw a steep rise, which produced deficits of roughly N101 billion in 2006 and N609.2 billion in 2007. The global financial crisis of 2008 sharply reduced demand for Nigeria’s crude oil, and the deficit expanded by about N0.56 trillion, equivalent to more than 2.5 percent of GDP. In the 2009 and 2010 fiscal years, deficits of about N249 billion and N1.1 trillion were recorded respectively.

According to Keynesian theory, government borrowing is not harmful in itself, provided it is properly channelled to raise economic performance. Keynes’s core argument was that public spending stimulates investment, which in turn raises income, output and employment (Ogwu, 2023). Deficit financing in Nigeria is often traced to the adoption of Keynesian-inspired public expenditure as a means of stimulating the economy. Keynes recommended deficit spending to moderate or end a recession: when unemployment is high, additional government purchases create a market for business output and generate income, which, through the multiplier effect, raises the demand for further output. In Nigeria, however, deficit spending has raised difficult questions about its effectiveness and about the accumulation of debt, whatever the case for growth.

Persistent deficits are widely perceived to have adverse effects on macroeconomic indicators. Successive governments, holding considerable power over economic activity and treating the budget as their principal instrument, judged that deficits had to continue in order to stimulate the economy. In 1986 the government introduced the Structural Adjustment Programme (SAP) in the hope that restructuring would reduce deficit spending, yet deficits continued to widen from year to year. Expansionary monetary policy was pursued alongside rising private and public consumption and growing internal and external debt, all of which aggravated the annual deficits. Official statistics show that gross federally collected revenue was only N633 million in 1970, rose to N4.5 billion in 1974 and stood at slightly above N15 billion in 1980. The gap between revenue and expenditure widened the deficit, which fluctuated between about 3 and 9 percent over the period.

Efforts to grow the economy have left Nigeria accustomed to large deficits, which have over the years been financed through the sale of government bonds and through domestic and foreign borrowing. Nominal government expenditure was N839 million in 1970, rose to about N5 billion by the mid-1970s and exceeded N14 billion by 1980, and deficit spending has been a feature of the economy ever since. Federal government total expenditure was about N4.7 trillion in 2012 and N4.92 trillion in 2013, an increase of roughly 5 percent. This expansion was supported by large increases in oil revenue, which in turn fed recurrent spending. Nigeria’s recurrent expenditure is larger than it should be, which points to a need to trim the overhead costs of running ministries, departments and agencies in order to bring the deficit down to a manageable 3 percent of GDP while raising infrastructure investment to create jobs. Recurrent (non-debt) spending accounted for about 71 percent of the budget in 2012 and about 69 percent in 2013, and at times it has absorbed as much as three-quarters of the total, a share that cannot support the aggressive capital development the country needs. Evidence from recent studies reinforces this concern. Odili et al. (2023) found that fiscal balance, external debt relative to exports and debt service relative to revenue each had a negative effect on real GDP per capita growth in Nigeria, and they recommended reducing recurrent spending because it does not directly generate revenue, capital formation or investment.

How far the economy can be stabilised in the short to medium term depends largely on the fiscal behaviour of government, and a lack of fiscal discipline threatens macroeconomic stability. Adekunle (2021), examining the link between fiscal discipline and the budget process in Nigeria from 1990 to 2020, notes that reforms such as the Fiscal Responsibility Act of 2007, with its 3 percent of GDP deficit limit, have yet to achieve their core objectives. Large and persistent deficits are therefore explained at least as much by weak fiscal discipline and political decision-making as by external shocks or the prevailing domestic economic situation. Against this background, understanding the effect of the budget deficit on economic performance in Nigeria is of paramount importance.

1.2 Statement of the Problem

Rapid economic development requires industrialisation, and industrialisation requires a reasonable level of investment to raise production. This is why industrialised nations are generally the most developed in the world. To benefit from economic growth, a country must raise both investment and output, which calls for a substantial injection of capital, typically raised through taxation and borrowing. On this ground, Keynesian theory regards government borrowing as reasonable and argues that it does no harm to economic performance. Borrowing as an instrument of deficit financing is meant to promote growth and development, but over time it has persistently exceeded the revenue generated.

The steady rise in budget deficits in recent years has renewed debate about their effects on economic performance. Deficits can affect the economy through several channels, including the exchange rate, interest rate, national savings and gross capital formation. Much of the recent concern, however, centres on the interest rate effect and its spread to other macroeconomic indicators. The neoclassical argument is that government borrowing reduces the funds available in the loanable funds market and raises interest rates, thereby crowding out private investment (Ogbuagu & Omojolaibi, 2020). Higher interest rates may also discourage interest-sensitive consumer spending and lower the value of household assets, which dampens consumption indirectly through a wealth effect. If the government issues more bonds, it may have to offer higher returns to attract buyers, which pushes up interest rates and shrinks the private sector. Borrowing may also raise the prospect of higher taxes and spending cuts, which can weaken incentives to work. In extreme cases the government may expand the money supply to pay its debts, and if short-term securities are sold to the banking sector the money supply rises because banks treat such securities as near money and so maintain their lending. A rapid rise in borrowing can then increase not only real debt but also the debt-to-GDP ratio, so that the debt burden becomes a larger share of aggregate output. Recent evidence on the inflationary side is nuanced: Adewale (2025) found that the budget deficit influences inflation in Nigeria only indirectly, through its effect on the money supply, and he recommended deficit reduction combined with currency stability and sound monetary policy.

The ever-rising deficit has drawn the attention of economists and policymakers and has created a need for macroeconomic policies to improve the management of the economy. Such policies are expected to address the size and financing pattern of deficits, the structure of taxation and the level and composition of public expenditure. Nigeria’s efforts to reduce high deficits include the establishment of the Fiscal Responsibility Commission in 2007, backed by an Act of the same year that limits the federal deficit to 3 percent of GDP (Adekunle, 2021). They also include the Medium-Term Expenditure Framework and Fiscal Strategy Paper (MTEF/FSP) for 2012 to 2015, which aimed to scale back the spending that had reached high levels as a result of the fiscal stimulus extended at the peak of the global economic crisis. Reducing the deficit is expected to open more room for private sector participation and to strengthen growth. The 2013 budget, titled “Fiscal Consolidation with Inclusive Growth”, set out measures to cut the deficit and encourage private investment in order to raise economic activity and performance.

Despite these measures, the fiscal deficit has remained a recurring problem in Nigeria, and large deficits may carry serious consequences for growth. A higher deficit can lead to more government borrowing and heavier debt servicing, which may force cuts in spending on health, education, infrastructure and human and physical capital development, and which can also cause exchange rate fluctuations and crowd out private investment. Ogwu (2023) draws attention to the burden that interest payments on government borrowing place on the economy, and Odili et al. (2023) report that public debt service relative to revenue has had a negative effect on Nigeria’s growth. A transition to high inflation during the 1970s, 1980s and 1990s, when average inflation rose from about 15 percent to about 23 percent and then to about 31 percent, is also commonly linked to widening fiscal imbalances and to the way deficits were financed. At the same time, the harmful effects of borrowing on growth may be offset where public investment is productive and where public and private investment are complementary, so that the way in which deficits are financed and used matters as much as their size. It is therefore pertinent to investigate further the influence of the government budget deficit on economic performance in Nigeria.

The empirical literature offers diverse approaches and conflicting results. Some studies adopt the Keynesian aggregate demand framework and argue that deficits may be necessary during a recession or depression. Umaru et al. (2021), for example, found that the budget deficit drives economic growth in Nigeria and went on to seek the threshold beyond which deficits become injurious. Other work reports harmful effects: Ogbuagu and Omojolaibi (2020) found that the fiscal deficit depresses gross domestic savings and investment in Nigeria, a result that supports neoclassical crowding-out arguments and runs against the Ricardian equivalence hypothesis. Isah et al. (2022), by contrast, found no strong evidence against Ricardian equivalence in Nigerian data, although the result weakened once its strict assumptions were relaxed. The lack of consensus reflects the three theoretical traditions on budget deficits. Keynesian economists hold that deficit spending grows the economy through its effects on key macroeconomic variables; neoclassical economists hold that the effect is counterproductive; and Ricardian theory asserts that deficits have neither a positive nor a negative effect, because they merely postpone taxation. These conflicting inferences from earlier Nigerian studies motivate the present study, and the following research questions are formulated to guide it.

1.3 Research Questions

Following from the discussion above, the study addresses the following research questions:

1. Does government budget deficit significantly impact on economic performance in Nigeria?
2. Is there any causal relationship between government budget deficits and economic performance in Nigeria?
3. Is there significant positive correlation between budget deficits and economic performance in Nigeria?

1.4 Statement of Research Objectives

The broad objective of the study is to investigate the effects of government budget deficits on economic performance in Nigeria. The specific objectives of the study are:

1. To determine the significant effect of government budget deficits on economic performance in Nigeria.
2. To determine if there is any causal relationship between government budget deficits and economic performance in Nigeria.
3. To examine if there is significant positive correlation between budget deficit and economic performance in Nigeria.

1.5 Research Hypotheses

In line with the specific objectives, the study is guided by the following hypotheses:

• H₀₁: Government budget deficit has no significant impacts on economic performance in Nigeria.
• H₀₂: There is no causal relationship between government budget deficit and economic performance in Nigeria.
• H₀₃: There is no significant positive correlation between budget deficit and economic performance in Nigeria.

1.6 Significance of the Study

By analysing the budget deficit and economic performance, proxied by real gross domestic product, this study will deepen policymakers’ understanding of the nature, extent and effect of budget deficits on the Nigerian economy. Examining the role of the deficit alongside other macroeconomic indicators will help fiscal policymakers to set specific targets in future. The findings will also help government and the monetary authorities to identify weaknesses in the choice and use of particular policy instruments and to improve them so that the economy performs more effectively.

The study will also add to the literature on budget deficits and economic performance, particularly in developing countries such as Nigeria, where government plays a prominent role in the economy and the financial system remains at best underdeveloped. Finally, the research lends its voice to the ongoing call for a mutually cordial working relationship between the fiscal authority (government) and the monetary authority (the Central Bank of Nigeria), especially in policy management and macroeconomic performance.

1.7 Scope of the Study

This is a country-specific study that concentrates on the Nigerian economy. It covers the period 1970 to 2013, a choice that rests on the availability of data for all the variables. The study focuses on the effects of the overall government budget deficit and on selected macroeconomic variables of interest, namely interest rate, government expenditure, real money supply, net exports, unemployment, RGDP, the budget deficit ratio and the inflation rate. This focus keeps the purpose of the study clear and concise.

REFERENCES

Adekunle, W. (2021). Nexus between fiscal discipline and the budget process in Africa: Evidence from Nigeria. Theoretical and Practical Research in Economic Fields, 12(2(24)), 131–146. https://doi.org/10.14505/tpref.v12.2(24).06

Adewale, A. A. (2025). Effects of budget deficit and money supply on inflation in Nigeria. Business Excellence and Management, 15(3), 21–39. https://doi.org/10.24818/beman/2025.15.3-02

Isah, A., Joseph, T. E., & Dairo, R. (2022). Review of Ricardian equivalence in theory and practice: Empirical data from Nigeria. Applied Journal of Economics, Management and Social Sciences, 3(1). https://doi.org/10.53790/ajmss.v3i1.24

Odili, O., Okoro, O. K., & Oti-Ibiam, N. F. (2023). Fiscal balance and sustainable economic development in Nigeria. International Studies Journal, 7(1).

Ogbuagu, M. I., & Omojolaibi, J. A. (2020). Interrelationship between fiscal deficit, aggregate savings and investment: A test of Ricardian equivalence hypothesis in Nigeria. Tanzanian Economic Review, 10(1), 53–70. https://doi.org/10.56279/ter.v10i1.55

Ogwu, C. B. (2023). Deficit financing, debt servicing and economic development in Nigeria. Gusau International Journal of Management and Social Sciences, 6(1).

Umaru, A. D., Aliero, H. M., & Abubakar, M. (2021). Budget deficit and economic growth in Nigeria. Central Bank of Nigeria Economic and Financial Review, 59(2).