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Why increased government spending may not stimulate Nigeria’s economy 16 Feb 2017

After assuming the presidency in May 2015, President Muhammadu Buhari made it clear that he planned to ramp up government spending in an effort to stimulate Nigeria’s floundering economy. The president said he would allocate more funding for capital projects – roads, bridges, power, etc – in order to trigger the country’s economy, which had been battered by the slump in global oil prices. He also budgeted for a N500 billion social expenditure programme.
    
This resulted in the N6.06 trillion budget of 2016. The fiscal outlay raised capital expenditure to 30 percent of the total budget, from 12 percent of the previous year’s total budget. The administration has also extended his expansionary fiscal policy to this year’s budget, with capital expenditure accounting for 30.7 percent of the entire N7.3 trillion budget.

Since the 2015 budget, government expenditure has risen by a whopping 49 percent. But the results of this surge in government spending has so far been dismal. Data by National Bureau of Statistics (NBS) is expected to confirm the Nigerian economy contracted by 2 percent in 2016, although the government claimed it disbursed more than 50 percent of the N1.59 trillion allocation to capital expenditure. However, the N500 billion social investment programme could not take off in 2016, and has been added to the 2017 budget. Meanwhile, although the economy is projected to return to growth this year – given another expansionary budget – the International Monetary Fund projects a GDP growth rate of a meagre 0.8 percent.

Given that government’s fiscal strategy is driven by projections of high local and external borrowing, which has been driving up the national debt, it is pertinent to measure the impact of the strategy. Instead of validating the strategy, the evidence so far raises a pertinent question: can increased government spending really stimulate Nigeria’s economic growth?

Economists determine economic output using three different approaches. According to the UK’s Office of National Statistics, these are production, expenditure and income methodologies. All three should theoretically give the same result.

The production approach estimates the total value of all goods and services manufactured in an economy, minus the inputs used in the production process. The income approach measures the incomes earned by individuals (wages, salaries, rental incomes, etc) and corporations (profits) directly from the production of goods and services. The expenditure approach – which is the focus of our discussion – measures the value of total expenditure on goods and services produced in the domestic economy during a given period.

Government spending is only one component of the expenditure-based approach used to estimate GDP. Other components are private consumption (e.g. household consumption expenditure), corporate or individual investment, and net exports (gross exports minus gross imports). For an increase in government spending to result in economic growth, other expenditure components must remain flat or increase.

Nigeria’s economic growth in the past decade to 2014 reflected the increases in the various expenditure constituents. In that period, government’s expenditure as a percentage of GDP rose from 5.15 percent in 2003 to 7.37 percent in 2014. This surge in spending didn’t by itself produce the rapid GDP growth – which averaged 6 percent during that decade. According to the Central Bank of Nigeria (CBN), private sector credit as a percentage of nominal GDP rose from 0.5 percent in 2004 to about 1.4 percent in 2014. The early part of the ten years marked the beginning of the resurgence in Nigeria’s middle class, after the preceding period of economic stagnation.

Foreign direct investment (FDI) inflows rose from $2 billion in 2003 to $4.7 billion in 2014. Domestic private investment surged in banking, agriculture, manufacturing and telecommunication. Net exports also rose from about N3 trillion in 2003 to about N5 trillion in 2014, driven by high oil prices. Thus, the various expenditure-based GDP constituents were rising and collectively delivered the much-touted growth.

Can increased government spending stimulate economic growth? Based on the lessons from 2016, government’s spending increases alone cannot deliver growth. Private consumption, investment, and net exports need to rise as well. Ramping up government spending without ensuring that households have more money to spend, individuals and businesses are making significant investments, and net exports are growing will only provide a weak momentum, which will not be able to lift the economy.

According to the NBS, unemployment rate increased to 13 percent in Q3, 2016. Thousands of high-paying jobs in the country’s oil & gas and banking sectors were lost, due to fallen oil prices and deteriorated macroeconomic conditions. For much of the year, the manufacturing index was negative, as factories closed shop or operated below installed capacity. A high dependency on importation for supply of most consumer goods, at a time of lower oil revenue, meant Nigeria’s net exports were pressured into the negative territory.

Fiscal intervention, through expansionary budgeting, has made little impact considering the policy blockages that have restricted foreign investment inflows, made importation of machinery and intermediate products impossible, and exacerbated inflationary pressures. Government’s policy, which targets the alleviation of the foreign exchange shortage, has focused on managing demand for foreign goods. But this has also played out as a serious restriction on supply of even locally produced products.

A broader strategy that will improve productivity is now a policy imperative. President Buhari must ensure that his government approaches Nigeria’s current macroeconomic challenges from a holistic point of view. So far, the government has been needlessly fixated on narrow-minded policies such as import substitution and maintaining a currency policy that imposes risks on businesses while promoting cronyism. All these policies have only exacerbated the country’s economic crisis.

The president must now go beyond proffering his expansionary fiscal policy as the panacea for the recovery of the economy. Together with the CBN, Buhari’s government must allow a foreign exchange regime that levels the playing field for local investors, while attracting foreign investments. Although the CBN constantly emphasizes that its policies are targeted at boosting the industrial sector, the continued FX ban on some imported items hurts the sector. Rising inflation – which has severely impacted household consumption – must also be pared back. And Nigeria’s net exports must be strengthened by either boosting oil or non-oil exports.

President Buhari should be commended for trying to expand government spending in an effort to pull Nigeria’s economy out of the doldrums. But unless he deals with other factors influencing the current negative economic growth, the expansionary fiscal policy will end in failure. Reliance on fiscal expansion failed last year as government struggled to raise tax revenue to fund the budget. This suggests that productivity in the private sector is key to successful implementation of fiscal expansion.