INFLATION, CAPITAL MARKET AND INDUSTRIAL OUTPUT GROWTH IN

NIGERIA

CHAPTER ONE
INTRODUCTION

1.1 Background to the study

The capital market has been identified as an institution which contributes to the socio-
economic growth and development of emerging and developed economies. This is made possible
by the intermediary role played by the capital market in mobilizing funds from surplus units to
deficits units to be invested into projects with positive net present value (NPV) which may
enhance economic growth of the nation (Donwa and Odia 2011). Osaze (2009) sees the capital
market as a driver of any economy to growth and development because it is essential for long-
term growth capital formation. It is crucial in the mobilization of savings and channeling of such
funds i.e. savings to profitable self-liquidating investment. The role of the capital market in
manufacturing sector development of the country has continued to generate a lot of debates
among experts, economists and policy makers. Some scholars have maintained that the Nigerian
Capital Market had performed below expectation as a supplier of cheap and stable funds for
manufactures (Ubesie, & Ude, 2019).

Capital market offers access to a variety of financial instruments that enable economic
agents to pool, price, and exchange risk. Through assets with attractive yields, liquidity and risk
characteristics, it encourages savings in financial form. This is very essential for government and
other institutions in need of long-term funds and for suppliers of longterm funds (Nwankwo,
1991). The vital roles played by the capital market in the achievement of economic growth
thereby enables government, industries, corporate bodies to raise long-term capital for the
purpose of financing new projects, expanding and modernizing industrial concerns. A unique
benefit of the capital market to corporate entities is the provision of long-term, non-debt financial
capital.

Based on its importance in accelerating economic growth and development, government

of most nations tends to have keen interest in the performance of its capital market. The concern
is for sustained confidence in the market and for a strong investors’ protection arrangement
(Ewah et al.2009). The Central Bank of Nigeria is empowered to perform duties that ensure
soundness of the financial and monetary system. In order to achieve the monetary stability, it is
always confronted with the challenge of choosing the right strategy to apply in order to meet the
envisaged end. Among the most popular and accepted strategies are, capital market targeting,
exchange rate targeting, monetary targeting, nominal GDP targeting and inflation targeting.

Capital market as the market where medium and long terms funds are traded, is perceived
(Maku & Atanda, 2010) as the heartbeat of the economy given its ability to react to changes in
economic fundamentals. The authors argue further that the market facilitates savings and real
investments in any healthy economy thereby increasing the capital stock and economic growth of
the country. The market as a reflection of public confidence in the economy in general and the
financial system in particular, can only function well in a stable macroeconomic environment
(Babarinde, 2019). This implies capital market tends to reflect movement in macroeconomic
factors such as inflation rate, exchange rate, interest rate, and others.

Inflation, as a key macroeconomic factor in an economy, could be described as a

sustained, persistent and general increase in the level of prices of goods and services in the
economy. It is a situation where “much money is chasing few goods” because the purchasing
power of money has been reduced due to reduction of value of money in transaction. Gidigbi et
al. (2018) simply refers to inflation as the erosion of the purchasing power or real value of
money in an economy. Developing countries such as Nigeria have been embattled by high
inflation rates which tells on the purchasing power of the economy. Thus, price stability forms a
cardinal aim of most macroeconomic policies. This is unconnected, partly, with its effect on the
economy at large, and the financial sector of the economy in particular. Available evidence from
the Central Bank of Nigeria [CBN], (2018) shows that inflation rate in Nigeria has been on the
upward swing. Aliyu (2019) argues that inflation-the persistent increase in price levels tend to
reduce the value of income, thereby making room for extreme poverty in the country. What will
be level of capital market performance in a country whose currency’s value is eroded by
inflation?

Inflation has been a persistent problem in Nigeria. There has been a consistent rise in the
prices of goods and services over the years, bringing untold hardship to the people and with no
end in sight. Recent data published by the National Bureau of Statistics (NBS) reveals that the
Nigerian inflation rate surged to a 33-month high, as it rose further to 16.47% in January 2021
from 15.75% in December 2020. This marks 17 consecutive months of continuous increase in
prices of goods. “As of April 2021, the inflation rate was the highest in four years. Food prices
accounted for over 60% of the total increase in inflation. Rising prices have pushed an estimated
7 million Nigerians below the poverty line in 2020 alone” (Nasir 2021).

Theoretically, there is a consensus that inflation affects capital market returns, though
what remains unresolved is the direction of the existing relationship. Although, empirical studies
have attempted resolving the puzzle, yet no consensus is reached up till date. While inflation has
negative influence on the value of money; inflation’s influence on the performance of the capital
market has been a subject of debate over a long period of time starting with Fisher (1980). It is
seen that most studies report evidence of negative relationship between inflation and capital
market (Al-Abbadi and Abdul-Khaliq (2017).

However, evidence of positive connection between the two variables are reported by
other scholars like Ibrahim and Agbaje (2013). The third category of empirical evidence shows
inflation to be of no significance in predicting the movement in capital market performance.
Authors such as Ahmadi (2016), belong to this category of neutrality school of thought on
inflation-capital market performance nexus. This suggest that the age-long debate over the effect
of inflation rate on performance of capital market seems to.

Hence, rapid output growth and low inflation are the most common objectives of macro-
economic policy. Some scholars concurs that inflation may also reduce a country's international
competitiveness, by making its exports relatively more expensive, thus impaction negatively on
the balance of payment, capital market performance, in addiction reducing capital accumulation
and productivity growth. The main aim of this study is to empirically analyse Inflation, Capital
Market and Industrial Output Growth in Nigeria.
1.2 Statement of the problem

The Nigerian capital market has performed fairly despite the numerous challenges and
problems some of which include: the buy and hold attitude of Nigerians, massive ignorance of a
large population of the Nigerian public of the nature and benefits of the capital market, few
investment outlets in the market, lack of capital market friendly economic policies and political
instability, private sector led economy and less than full operation of recent developments. Given
that one of the functions of capital market is to provide medium-term and long-term fund in other
to stimulate industrial output growth, these increases in the activities of the capital market is
expected to generate a corresponding increase in the economic growth of Nigeria. Unfortunately,
these increases in the activities of the capital market have not been able to generate a meaningful
growth in Nigeria.

Most recent literatures on the Nigeria capital market have recognized the enormous
performance the market has recorded in recent times. This situation is prevalent in the Nigerian
economy. Capital market provides the industries and governments long term funds to meet their
long term capital requirement such as financing of fixed investment like buildings, plants,
machinery, bridges, e.t.c. Therefore, despite all these enormous performance, capital market still
faces setback in the economy. Capital market that has been performing enormously in its
operation is invariably affected by the level of inflation in Nigeria. Inflation impedes efficient
resource allocation by obscuring the signaling role of relative price changes, the most important
guide to efficient economic decision-making Fischer (1993). With this, there is the need to
empirically examine the effect of inflation on capital market performance in Nigeria.

Inflation has been a reoccurring problem in the West African sub region and Nigeria in
particular. Constant rise in the prices of commodities and services in Nigeria overtime has
negatively affected the economic and general development. Inflation has a bandwagon effect on
virtually all sectors of the economy and the capital market is definitely not excluded as been hit
hard by inflation. The poor performance of the Nigerian capital market has resulted to lack of
investment in Nigeria which has ultimately resulted in the poor socio economic development of
Nigeria as the capital market is one of the determinants of growth and development.
 The chief cause of inflation in Nigeria was related to the inability of the government to
restructure the economy and stop the over-dependence on oil exports. Some of the efforts already
undertaken by government include: reducing gasoline subsidies, adjusting electricity tariffs,
cutting nonessential spending and redirecting resources towards the COVID-19 response and
improving public-sector transparency especially, around the operations of the oil and gas sector
(Chaudhuri. 2021). The efforts of government to curb inflationary trends in the country seem not
to have yielded enough results in the desired direction.

1.3 Objective of the study

The general aim of this study is to investigate Inflation, Capital Market and Industrial Output
Growth in Nigeria. While other specific objective are to;

i. investigate the major determinant and cause of inflation in Nigeria

ii. examine the negative consequences of inflation on Industrial Output Growth in
Nigeria
iii. highlight the influence of capital market performance on industrial output growth in
Nigeria
iv. examine the relationship between inflation and capital market in Nigeria.
v. recommend ways of reducing the rate of inflation in Nigeria

1.4 Research Question

For the purpose of this study; the following research questions were generated.

i. What are the major determinants and causes of inflation in Nigeria?

ii. What are the negative consequences of inflation on Industrial Output Growth in
Nigeria?
iii. What is the influence of capital market performance on industrial output growth in
Nigeria?
iv. What is the relationship between inflation and capital market performance in Nigeria?
v. What are the ways of reducing the rate of inflation in Nigeria?
1.5 Research Hypothesis

H01: There are no negative consequences of inflation on Industrial Output Growth in .

. Nigeria

H02: There is no significant influence of capital market performance on Industrial Output

. Growth in Nigeria

H03: There are no significant relationship between inflation and capital market performance
.. in .Nigeria.

1.6 Significance of the study

The study would be of immense importance to the government at all levels, policy
makers, economists and all relevant stakeholders as it seeks to unravel the effect of inflation on
capital market performance and the economy of Nigeria. The study would also benefit
researchers, students and scholars who are interested in further research on the subject matter.

The following people will benefit from the study

i. Central bank of Nigeria: This will help in formulating polices towards healthy industrial
growth in Nigeria

ii. Researcher: This will be a source of reference material for the upcoming researchers.

iii. Management: It will serve as a reference document for management to use as guide for
managing the affairs of the government.

iv. The Public: It will add to the existing knowledge by exposing the public on the matter of
industrial growth in Nigeria

v. Inventors: It will act as a guide to investors in studying the capital market indices.
1.7 Scope of the study

This study is on investigating Inflation, Capital Market and Industrial Output Growth in
Nigeria and the study cover years between the periods of 1985 to 2017. The time period has been
chosen considering that it offers updated time series observations.

1.8 Limitation to the Study

The study of this nature is usually faced with some limitations. The present study is not
an exception and therefore has its shortcomings. The work experienced some difficulties in the
course of the study arising from lack of limited studies and inadequate published journal articles
on similar topic and difficulties in accessing the needed data for the analysis.

Financial constraint: Insufficient fund tends to impede the efficiency of the researcher in
sourcing for the relevant materials, literature or information and in the process of data collection
(internet, questionnaire and interview)

Time constraint: The researcher will simultaneously engage in this study with other academic
work. This consequently will cut down on the time devoted for the research work.

1.9 Definition of Terms

Capital Market: A capital market is a financial market in which long-term debt or equity-
backed securities are bought and sold, in contrast to a money market
where short-term debt is bought and sold.

Inflation: Inflation refers to a general increase in the prices of goods and services in
an economy. When the general price level rises, each unit of currency
buys fewer goods and services; consequently, inflation corresponds to a
reduction in the purchasing power of money
Industrial Output: The industrial sector includes manufacturing, mining, and utilities.
Although these sectors contribute only a small portion of gross domestic
product, they are highly sensitive to interest rates and consumer demand.

Growth: measured as an increase of people's real income – means that the ratio
between people's income and the prices of what they can buy is
increasing: goods and services become more affordable, people become
less poor.

Sector: A sector is an area of the economy in which businesses share the same or
related business activity, product, or service