Domestic Borrowing and the Nigerian Economy: A Bayesian VAR Analysis

ABSTRACT: The Nigerian government has borrowed for more than three decades to fund the growing fiscal deficit based on a weak tax revenue base. After the repayment of the country's foreign loans in 2006, the borrowing structure has been dominated by domestic loans. Between 2006 and 2020, domestic borrowing has grown by more than 800 per cent. This study examines the effect of domestic borrowing on Nigeria's macroeconomic variables from 1975 to 1980. The variables examined against the effect of domestic borrowing include economic growth, financial development (broad money supply and credit to private sector), external borrowing, interest rate, inflation, industrial production, private investment, trade openness and population growth rate. The study utilised the Bayesian Vector Autoregressive (BVAR) model. The BVAR approach gives more realistic estimations than other VAR models as it considers prior information steady states during analysis. The study also adopts the Cholesky impulse response function and variance decomposition approach in the investigation. The study found a long-run equilibrium relationship between domestic borrowing and other macroeconomic variables. Also, domestic borrowing positively and significantly affected economic growth, industrial production and inflation. However, domestic borrowing negatively and significantly affects trade openness. Although the effect of domestic borrowing on the financial development variables (broad money supply and credit to the private sector) is negative, it is insignificant. The Bayesian VAR impulse response simulation demonstrates that the fiscal policy shock from domestic borrowing impacts the macroeconomic variables in line with the estimated regression results. As a follow-up, the variance decomposition results show that the decomposition of the shocks from government domestic borrowing is borne more by external borrowing, broad money supply and interest rate in the order of magnitude. The study recommends a restriction in monetary policy to benchmark and closely checkmate the aggressive spending from domestic borrowing. Also, the Nigerian government should improve investment in infrastructure to enhance private sector productivity and expand taxes revenue base to mitigate the reliance on borrowing as a source of funding for fiscal deficit. Furthermore, the country's productivity must be coordinated by the government to expand the sources of foreign exchange earnings to enhance stability in the country's external sector.