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World Journal of Economics and Finance

Vol. 4(2), pp. 100-105, August, 2018. © www.premierpublishers.org. ISSN: 3012-8103 WJEF

Review Article

Is domestic private investment sensitive to macroeconomic


indicators? Further evidence from Nigeria
1
Lawrence Boboye AJAYI, *2Funso Tajudeen KOLAPO
1,2
Department of Finance, Ekiti State University, Ado-Ekiti, Nigeria
This paper examined the sensitivity of domestic private investment to macroeconomic indicators
in Nigeria from 1986 to 2015 using domestic private investment as the dependent variable and
gross domestic product, money supply, exchange rate, interest rate and inflation rate as
independent variables. The Ordinary Least Square technique, ARDL Modeling technique and the
Engle Granger causality technique for analysis revealed that domestic private investment is most
sensitive to money supply, gross domestic product as a proxy for economic growth and exchange
rate in Nigeria while it is less sensitive to inflation and interest rate in the short run. Gross
domestic product as a proxy for economic growth and exchange rate affect domestic private
investment positively while money supply has a negative effect in the short run. Domestic private
investment is most sensitive to money supply and gross domestic product as a proxy for
economic growth in the long run and both exert a negative and positive effect on domestic private
investment respectively in the long run while inflation and interest rates also exert significant
effect on the same. Meanwhile, the causality test revealed that domestic private investment drives
money supply in Nigeria. Hence, it is recommended that monetary policies which relate mostly to
the control of the cost, supply/availability and direction of money should be reviewed periodically
and ensure that such policies are implemented with little or no lag. Furthermore, the devaluation
of the exchange rate which will spur private domestic investment should be cautiously
implemented.
Keywords: Domestic private investment, money supply, macroeconomic environment, ARDL model, Nigeria
JEL classification: E22; E52; E62

INTRODUCTION

The need for private investment within an economy has Investment which exists at two levels is essential to ensure
been identified as a booster (propellant) for economic development; while the first level may embrace the public
growth. The amount of private domestic investment sector investment that involves investment in
depends on domestic resource mobilisation which also infrastructure; private investment involves investment by
depends on the macroeconomic environment. Majeed and private entities within the economy. However, private
Khan (2008) posited that countries with high rate of private investment has been found to contribute more on
investment have better economic growth. Oshikoya (1994) economic growth than the public investment, in that public
argued that private investment performs better and is less investment is seen to be politically motivated most times
likely to be related to corruption even in developed and lack economic rationality (Kaputo, 2011). For that
countries. A spurt in private investment usually signals reason, we cannot compared it to private investment that
high return on investment in the domestic economy. involves the making of prudent investment decisions.
However, despite these advantages of private investment
over other investment types such as public investment and
foreign investment, there is a need to provide a conducive
macroeconomic environment for private domestic *Corresponding author: Funso Tajudeen KOLAPO,
investment in every country to ensure that it significantly Department of Finance, Ekiti State University, Ado-Ekiti,
contributes to growth. Nigeria. Email: realvega1959@gmail.com; Co-Author
Email: boblaw2006@yahoo.com
Is domestic private investment sensitive to macroeconomic indicators? Further evidence from Nigeria
Ajayi and Kolapo 101

Furthermore, the Endogenous Growth Theory literature as examined by Esubalew (2014), the theory has
substantiated by Mwega (1997) assume that investment been criticised on the grounds that the cost of capital and
boosts productivity, but investment does not stand-alone; technology vary and as a result may not allow output have
it is very much sensitive to various factors within the a constant effect on investment.
macroeconomic sphere of influence. The contributions of
domestic private investment (DPI) to economic growth has The idea behind the flexible accelerator model is the fact
been emphasised in literature even though more literature that the larger the gap between the existing stock of capital
exists about foreign direct investment. However, despite and the desired stock of capital, the greater the investment
the contributions of DPI to economic growth, literature has of a firm (Ghura & Goodwin, 2000). This model assumes
established that it is sensitive to various macroeconomic that firms ordinarily want to close up the gap between the
factors such as, gross domestic product, money supply desired stock and the actual capital stock for each period.
and exchange rate within the Nigerian economy. Hence, Hence, the desired stock of capital is a function of the real
this study will further contribute to existing body of cost of capital and the level of output to the extent that
knowledge from the Nigerian standpoint considering the when these variables change, capital stock also changes
key macroeconomic indicators that DPI respond to. (Gujarati & Porter, 2009). In line with the above, Chirinko
Furthermore, this study is set to improve on previous (1993) posited that the desired capital stock is proportional
studies in Nigeria by adopting the Autoregressive to the user cost of capital and the output which all depends
Distributed Lag (ARDL) model and the Granger causality on the price of capital goods, rate of interest, rate of
Test to determine the causal relationship among the core depreciation and the tax structure.
macroeconomic indicators which had been established to
significantly determine DPI in Nigeria in extant literatures As much as domestic private investment may contribute to
from the developed countries. Also, most contributions in economic growth in various economies across the world,
literature has focused on the determinants of private the same is not excluded from being affected by other
foreign investment which involves the political, factors existing within the macroeconomic sphere of the
technological, global and macroeconomic environment, countries considered. Kolapo, Oke and Olaniyan (2018)
however, this study will specifically consider the sensitivity noted that some fundamental macroeconomic indicators,
of domestic private investment to the macroeconomic inter alia, gross domestic product and money supply can
environment as there exists a paucity of studies in this influence investors’ investment decisions. Martin and
regards. Meanwhile, there exist mixed results in literature Wasow (1992) posited that domestic private investment
as regards the sensitivity of domestic private investment to are really sensitive to aggregate demand, credit made
macroeconomic indicators. Recent studies (Esubalew, available in the economy, infrastructure, public investment
2014) discovered that it is more sensitive to credit to expenditure.
private sector, while some studies like Bosco and
Emerence (2016) revealed that it is more sensitive to In the same vein, Kaputo (2011) asserted that a high rate
economic growth. Hence, it is necessary to further of inflation tends to discourage private savings and
investigate the discourse by relying on macroeconomic investment while a low inflation rate may assist private
indicators which has been identified in theoretical and sector investment by maintaining international
empirical literatures for which DPI is significantly sensitive competiveness as a high inflation rate points to
to. macroeconomic instability which may negatively affect
investment. As regards exchange rate, Chibber and
Domestic private investment and the macroeconomic Dailami (1990) assumed that devaluation alters the supply
environment price of capital goods and the price of imported inputs as
an increase in such exchange rate will discourage imports
The simple accelerator theory as put forward by Clark and ensure that funds are mobilised for investment and
(1971). The basic notion of the accelerator theory production within the economy. Also, as a result of an
assumes that investment is sensitive to the demand improvement in public investment here the environment is
conditions which are ever changing and as a result, the net conducive for private investment through the availability of
investment is known by a change in the desired output energy, transport and communications, private investment
(Esubalew, 2014). As a result, when income increases, is improved (Greene & Viullanueva, 1990).
demand follows suit and capital stock coupled with
investment responds in the same manner in the economy. George-Anakwuru (2017) examined the impact of interest
Hence, it can be inferred that capital stock increases in line rate on private domestic investment in Nigeria between
with the level of output in the economy. However, this 1980 and 2015. Using ordinary least square technique, he
theory assumes that investment is now a function of the found real and prime lending rates to be negatively and
difference between the desired capital stock and the significantly related to domestic private investment.
existing stock and also the replacement capital required to Diabate (2016) investigated the determinants of domestic
replace the worn out existing capital stock (Esubalew, private investment between 1970 and 2012 in Cote de
2014). Investment is therefore a function of capital stock at Ivoire with the use of the Auto Regressive Distributed Lag
present time, previous period and aggregate demand at Modeling (ARDL) technique, and found that public
present and previous time. However, according to investment, foreign direct investment and trade are major
Is domestic private investment sensitive to macroeconomic indicators? Further evidence from Nigeria
World J. Econ. Fin. 102

determinants of domestic private investment in the short between 1978 and 2008. The study used ratio of nominal
and long runs while gross domestic product and interest private investment to gross domestic product as the
rate are insignificant. dependent variable and also used nominal public
investment as percentage of nominal GDP, exchange rate,
Ekpo (2016) examined the determinants of private corruption perception index, inflation rate, infrastructure,
investment in Nigeria and observed that inflation rate, savings rate and political instability as the independent
fiscal deficit, public investment rate, poor infrastructure, variables. Employing Error Correction Modeling technique,
institutional factors, political and economic instability have it was revealed that political instability and poor
significant influence on domestic private investment. infrastructure have negative effect on private domestic
Combey (2016) examined the determinants of private investment. From the Zambian perspective, Kaputo (2011)
investment in the West African Monetary Zone (WAMZ) investigated the relationship between macroeconomic
between 1995 and 2014 considering private investment as policy and domestic private investment between 1980 and
the dependent variable and also using GDP, output gap, 2008. The study used credit to private sector, exchange
interest rate, inflation rate, credit to private sector, rate, public sector investment, interest rate and inflation as
government consumption, term of trade, trade openness independent variables while domestic private investment
and political stability as independent variables using the was utilised as the dependent variable coupled with the
panel data regression technique. It was observed that use of the Error Correction Modeling technique.
economic growth and political stability have significant Macroeconomic phenomena were found to have
effect on private investment in the long run. significant effect on domestic private investment.

Bosco and Emerence (2016) examined the effect of GDP, Findings on the effect of macroeconomic indicators and
Interest rate and inflation on private investment in Rwanda domestic private investment are mixed. George-Anakwuru
between 1995 and 2009 employing the Error Correction (2017), Diabate (2016), Combey (2016), Bosco and
Modelling technique. It was revealed that economic growth Emerence (2016), Kalu, and Onyinye (2015), and Esbalew
significantly affects private investment. Kalu and Onyinye (2014) agreed that macroeconmic variables have positive
(2015) investigated the empirical link between domestic significant effect on domestic private investment. Ekpo
private investment and economic growth in Nigeria (2016) and Atoyebi et al., (2012) introduced political and
between 1970 and 2012 using Cobb-Douglas model and macroeconomic instability into their model and also arrived
observed a significant relationship between real gross at similar conclusion. While Ayeni (2014) found no
domestic product and domestic private investment. significant relationship between macroeconomic variables
and private domestic investment, Bakare (2011), adding
Esbalew (2014) examined the determinants of domestic infrastructure and political instability to his analysis found
private investment between 2000 and 2012 in six East a significant negative relationship between private
African nations adopting the pooled OLS regression domestic investment and macroeconomic variables. This
technique also used domestic private investment as the study aims at establishing the state of affairs.
dependent variable and public investment, inflation, GDP,
credit to private sector, financial deepening, interest rate
and exchange rate as independent variables. Economic METHODOLOGY
growth and credit to private sector were found to have
positive effect on domestic private investment. Ayeni The study used Ordinary Least Square (OLS) technique
(2014) examined the determinants of private sector for short run analysis, the Auto Regressive Distributed Lag
investment in Nigeria between 1979 and 2012. The study (ARDL) and bound testing approach to co-integration to
used private investment as the dependent variable and analyse the presence of long run relationship. Also, Engle
also used real gross domestic product, interest rate, Granger causality technique was used to test the causal
exchange rate, inflation rate and credit to private sector as relationships among the variables under investigation. The
independent variables adopting ARDL bound test study used time series data spanning from 1986 through
approach to co-integration and Error Correction Modelling to 2015. The Autoregressive Distributed Lag (ARDL)
techniques. It was observed that all the macroeconomic bounds testing methodology as developed by Pesaran and
variables have no significant effect on private sector Shin (1999) has been favoured above the co-integration
investment. analysis developed by Engle and Granger (1987) and
Johansen and Juselius (1990) due to the low power
Atoyebi, Adekunjo, Kadiri and Falana (2012) examined the problems associated with the co-integration analysis. It is
pattern of domestic investment in Nigeria between 1970 used in cases of mixed integration (Shrestha &
and 2012 employing the Johansen Co-integration Chowdhury, 2007). The methodology as developed by
technique. It was observed that political and Granger (1969) shows whether a change in a variable will
macroeconomic instability best explained changes in cause a change in another variable. Causality can be
domestic private investment. Bakare (2011) examined the unidirectional, bidirectional or no relation at all based on
determinants of private domestic investment in Nigeria the probability value of the F-statistics.
Is domestic private investment sensitive to macroeconomic indicators? Further evidence from Nigeria
Ajayi and Kolapo 103

Model specification
Hence, it can be deduced from Table 2 that there exists a
The objective of the study is to investigate the sensitivity long run relationship between domestic private investment
of domestic private investment to macroeconomic and macroeconomic indicators. This observation is based
indicators in Nigeria between 1986 and 2015. Hence, the on the greater value of the F-statistics attached to the
model formulated for the study is adopted from the study ARDL bound test over the lower- and higher-bound values
of Esubalew (2014) is stated hereunder: at 5 per cent of significance level as shown in the Table 2.

DPI = f (GDP, INFL, MS, EXGR, INTR, ε) ……..….eq. 1 Table 3: ARDL long run results
Long run result of the model
We restate equation 1 into an econometric model as: Dependent Variable: DPI
DPIt = β0 + β1GDPt + β2INFLt + β3MSt + β4EXGRt + β5INTRt Variable Co- Std. Error T- p-value
+ εt ……………………………………………… ……………………..eq. 2 Efficient Statistics
GDP 7.363456 2.470203 2.980911 0.0080***
From the equations, domestic private investment is INFL -0.246753 0.635751 -0.388128 0.7025
adopted as the dependent variable while gross domestic MS -7.189170 2.115189 -3.398831 0.0032***
product, inflation, money supply, exchange rate and EXGR 1.045923 0.790707 1.322770 0.2025
interest rate were used as independent variables. INTR -2.408059 1.770441 -1.360146 0.1906
C -2.797060 11.345178 -0.246542 0.8081
ANALYSIS AND DISCUSSION OF RESULTS Source: Author’s Computation (2018)
* Implies a 1% level of significance
This segment of the study discusses the analysis and
result of the study. Regression analysis was conducted In Table 3, the ARDL technique revealed that domestic
using E-Views 9. private investment is most sensitive to money supply and
economic growth in the long run and both exert a negative
Table 1: OLS short run result and positive effect on domestic private investment
Dependent Variable: DPI respectively in the long run while inflation and interest rate
Variable Coefficient Std. Error t-Stat p-value also exert significant effect on the same.
GDP 5.424412 1.272661 4.262260 0.0003***
INFL 0.103863 0.430912 0.241032 0.8115 Table 4: Engle Granger Causality Result
MS -5.742207 1.243283 -4.618586 0.0001*** Null Hypothesis Obs F- p-value
EXGR 1.756271 0.626259 2.804384 0.0096*** Statistic
INTR -1.266035 1.204416 -1.051161 0.3032 GDP does not Granger 29 0.74313 0.3965
Source: Author’s Computation (2018) Cause DPI
*** Implies a 1% level of significance DPI does not Granger 1.77219 0.1947
Cause GDP
The results of the Ordinary Least Square technique in INFL does not Granger 29 0.20985 0.6507
Table 1 revealed that domestic private investment is most Cause DPI
sensitive to money supply, economic growth and DPI does not Granger 0.48151 0.4939
exchange rate in Nigeria while it is less sensitive to inflation Cause INFL
and interest rate in the short run as revealed by the p-value MS does not Granger 29 1.07313 0.3098
attached to each of the variables. The p-values of each of Cause DPI
the variables was reportedly less than 1 per cent. Also, DPI does not Granger 5.83900 0.0230*
gross domestic product, inflation and exchange rate are Cause MS
positively related to domestic private investment whereas EXGR does not 29 0.18652 0.6694
money supply and interest rate are negatively related to Granger Cause DPI
domestic private investment as shown by their respective DPI does not Granger 0.00991 0.9215
coefficients in Table 1. However, economic growth and Cause EXGR
exchange rate affects domestic private investment INTR does not Granger 29 0.06117 0.8066
positively while money supply has a negative effect on the Cause DPI
domestic private investment. DPI does not Granger 2.40089 0.1334
Cause INTR
Table 2: ARDL bounds test results Source: Author’s Computation (2018)
Co-integration result * implies a 10% level of significance
F-Statistics Lower Bound Upper Bound
4.998085** 2.62 3.79 Table 4 showed the results of the Engle Granger causality
Source: Author’s Computation (2018) test. The F-statistics and p-value are used to determine the
** implies a 5 per cent level of significance responses between the variables. Findings revealed that a
Is domestic private investment sensitive to macroeconomic indicators? Further evidence from Nigeria
World J. Econ. Fin. 104

unidirectional causality exist between domestic private investment in Rwanda. International Academic Institute
investment and money supply, and causality runs from for Science and Technology, 3(1): 001-017.
domestic private investment to money supply as Chhibber, A., and Dailami, M. (1990). Fiscal policy and
evidenced by the p-value which is less than 10%. Hence, private investment in developing countries. World Bank
we reject the hypothesis that DPI do not Granger cause Working Paper Series 3.
MS, however, this is not so for other indicators under Chirinko, R. S. (1993). Business fixed investment
investigation. Suffice it to say that DPI in the result spending: Modelling strategy, empirical results and
provided in the Table 4 has no causal relations with GDP, policy implications. Journal of Econometric Literature,
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CONCLUSION AND RECOMMENDATION Combey, A. (2016). The main determinants of private
investment in the WAEMU zone: The dynamic
The study examined how domestic private investment approach. Munich Personal RePEc Archive Papers No
responds to changes in macroeconomic indicators in 8.
Nigeria between 1986 and 2015. The findings revealed Diabate, N. (2016). An analysis of long run determinants
that the impact of changes in money supply, economic on domestic private investment in Cote d’Ivoire.
growth and exchange rate are strong domestic private European Scientific Journal, 12(28): 240-251.
investment in Nigeria while the inflation and interest rates Ekpo, U. N. (2016). Determinants of private investment in
exert less influence in the short run. Economic growth and Nigeria: An empirical exploration. Journal of Economic
exchange rate affect domestic private investment and Sustainable Development, 7(11): 080-092.
positively while money supply has a negative effect in the Engle, R. F., and Granger, C. W. J. (1987). Co-integration
short run. Domestic private investment is most sensitive to and error correction representation: estimation and
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both exert a negative and positive effect on domestic Esubalew, T. A. (2014). An investigation of
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inflation and interest rate also exert significant effect on the investment: Evidence from East Africa. An unpublished
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domestic private investment causes money supply in Studies. The Hague, Netherlands.
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Is domestic private investment sensitive to macroeconomic indicators? Further evidence from Nigeria