CHAPTER TWO

RELATED LITERATURE REVIEW

2.0. Preamble

The chapter has thoroughly examined and scrutinised the existing literature and

theories related to the subject matter with the sole aim of updating our

knowledge and identifying any gaps that might exist in the literature. The

chapter has meticulously scrutinized, reviewed, and discussed the extent

theories and literature on the subject matter, leaving no stone unturned in the

quest for knowledge. With the depth of analysis and comprehensiveness of this

chapter, it is safe to say that our understanding of the subject matter has been

substantially broadened.

2.1. Conceptual Review

The concept of public debt, its classifications as well as economic growth and

their relationships will be looked into as it was lightly touched in the

introduction; these concepts is aimed at giving a broad overview on the topic of

discussion.

Public Debt

Public debt refers to the total amount a country owes to lenders beyond its

borders (Dairu, 2017). It encompasses both internal and external debts of a

nation, commonly known as national debt. Debts are broadly classified into
external debt, which is borrowed from outside the country, and domestic debt,

which involves borrowing from individuals and corporations within the country.

Additionally, debts can be categorised as reproductive debt and deadweight

debt. Reproductive debts refer to loans taken to acquire assets essential for

productive activities, such as investments in infrastructure like electricity,

refineries, or other factors. On the other hand, deadweight debt, as described by

Eaton in 1993, involves borrowing for unproductive purposes, like funding wars

or covering current expenses.

Government debt, also known as public debt, national debt and sovereign

debt, contrasts to the annual government budget deficit, which is a flow variable

that equals the difference between government receipts and spending in a single

year. The debt is a stock variable, measured at a specific point in time, and it is

the accumulation of all prior deficits. "Bureau of the Public Debt Homepage"

In the modern state perspective, the needs constantly increase; therefore,

the state has to spend more to meet these needs. Public expenditures are

generally met by ordinary public revenues such as taxes, duties, fees, Para fiscal

revenues, property and enterprise revenues, taxes, and penalties. However, the

state is faced with the public sector deficit due to reasons such as large

infrastructure investments, war, development financing, natural disasters,

economic crises, budget deficits, as well as the ever-increasing ordinary public

expenditures. To overcome this situation, they refer to borrowing.

 Public debt can be defined as money, resources a government acquires on

behalf of its citizens to provide basic needs for the welfare of the mass

populace. Public debt arises as a result of nation's inability to fund capital from

its own treasury. It can also happen when a government lacks the technological

and managerial skills involved in executing a project and as such requires

foreign expertise. The remuneration given to the foreign experts for their

services may be so enormous that they have to resort to paying in installment or

in other forms of agreed terms. Public debt may occur when government aim at

producing pure public goods. Goods that would not have been produced

ordinarily if there was no government intervention in an economy. Public debt

is a loaned fund gotten by a government to finance projects, control economic

crises, to prepare for war and to finance budget deficits which come with a rate

of interest to be paid on completion of the principal amount. The motive behind

public debt is to increase the slope of the government budget line. When

government borrows, the budget line rotates outward, meaning that the resource

available at the disposal of the government has increased as a result of

borrowing. This enable government allocates the borrowed resources to area

which were lacking sufficient funds.

Public debt is the sum of government's borrowing both home and

overseas. Put otherwise, public debt is the total amount of contractual

obligations or liabilities a government owes to individuals, institutions,

countries and other creditors. It is the accumulated total of past deficits less past

surplus.

Public debt is the monetary value of what a government owes to either

external or internal sources through borrowing. Public debt is incurred by

government through borrowing in the domestic and international markets in

order to finance domestic investment. Therefore, the national debt is seen as ‘all

claims’ against the government held by the private sector of the economy or by

foreigners, whether interest bearing or not (and including bank held debt and

currency, if any) : less claims held by the government against the private sector

and foreigners’ (Modligliani, 1961).

Internal Debt (INTDB)

Internal or domestic debts refers to funds borrowed by the government

from within the country itself. These funds can originate from various sources

such as citizens, local banks, financial institutions, and businesses. Internal

debts can be both voluntary and compulsory in nature. Typically, governments

utilize internal debts for initiatives aimed at enhancing education and healthcare

services domestically. Unlike external debts, internal debts are simpler as they

do not involve foreign currency considerations.

Domestic financing is becoming increasingly crucial as donors’

willingness to lend has decreased over time. In developing nations to shield

countries from external shocks and foreign exchange risks, while also fostering
the growth of internal financial markets. According to Kumhof and Tanner in

2005, government securities in developing countries serve as a means for banks

to mitigate high private sector credit risks. Therefore, domestic debt plays a role

in crowding in private sector investors.

Internal debt is otherwise known as domestic debt. Domestic debts are

public debt which a government of country owes its subject. For example, they

are owed by a government of a state to another government of another state

within a country.

Internal debt can be described as the payment of interest or repayment of

principal. It is simply done by transfer from tax payers to security holders.

Domestic debt is the gross liability of government, and if properly considered

should include federal, state and local governments transfer obligations to the

citizens and corporate forms within the country. They are debt instrument issued

by the federal government and denominated in local currency. State and Local

government can also issue debt instrument, but instrument currently in use

consist of Nigerian treasury bills, government development stock, treasury

bonds and federal government bonds.

Domestic debt is debt that originates from within the geographical region

of a country which is contracted through debt instrument such as treasury

certificate. Internal debt involves an arrangement of assets such that citizens

surrender current purchasing power in return for government security, and no

increase of real resource is directly related as a result. That is, it is a situation

whereby the borrowing units acquire the money from its self (lends to itself).

Hence, Tax payers can be said to be borrowing from them. The government

creates internal debt by tapping personal and corporate savings directly and

indirectly. The issue of government bonds or security constitutes `direct

government absorption of domestic savings. An indirect method of absorbing

private sector’s savings by government is by borrowing from the banking

system through the sale of bonds and security. However domestic financing or

borrowing can also be through outright money creation of borrowing from the

CBN. This borrowing has no effect on increasing or decreasing national income.

External Debt (EXTDB)

External debt refers to the resources provided from a foreign country that is

repaid with principal and interest at the end of a certain period. External debt is

the unpaid portion of balance of payments support which could not be repaid

when they fell due. In other words, external debts are owed by a country to

institutions or countries abroad that is, creditors are foreigners. In which case

it’s servicing and repayment will mean a damage of national resources in favour

of those foreigners. ‘External debt is the amount, at any given time, of disbursed

ad outstanding contractual liabilities of residents of a country to non-residents to

repay principal, with or without interest, or to pay interest, with or without

principal’ (World Bank, 2019).

 External debts specifically pertain to the obligations a government owes

to international organisations like the IMF and AfDB, Udoka & Lari, (2011).

Jade & Oni, (2016), argued that internal debt within a country may heavily

burden its citizens since servicing debt, including interest and principal

payments, essentially shifts purchasing power from one segment of the

population to another, which can be considered productive. In contrast, the

external aspect of public debt is seen as counter-productive by the authors. This

is because the interest charges and the payment of the principal amount involve

transferring resources to foreign creditors and lenders, placing a greater burden

on the country.

According to the CBN, 2010, external or foreign borrowings are the debt

obligations that the government owes to multilateral bodies, like the Paris club,

foreign promissory notes, and other unspecified external borrowings. It refers to

the financial resources in use within a country that are not internally generated

and do not originate from local citizens, whether individuals or corporations.

Nigeria’s external debt comprises the debts owed by both the public and private

sectors of the Nigerian economy to non-residents, payable in foreign currency,

payable in foreign currency, goods, and services, Ogbeifun, 2007.

Gross external at any given time represents the total amount of current

and non-contingent liabilities that necessitate future payments of principal and

interest by the debtor to non-residents. In international economic relations,

external debt is defined as a financial obligation that binds a debtor country to a

lender country. Specifically, external debt encompasses financial obligations

owed to creditors who are not residents if a borrowing country. These

obligations include short-term debts like trade debts that mature within one or

two years or are settled within the fiscal year of the transaction.

The liabilities which fall within this core definition include: currency and

transferrable deposits, other deposits, short term bills and bonds, long-term

loans (not classified elsewhere), and trade credit and advances. Such foreign

borrowings are meant to supplement national resources (domestic) without an

immediate reduction in other uses of resources, whether for consumption or

capital formation (Musgrave, 1959).

From the point of view of the borrowers, external debt has three (3) major

component parts, which are:

i. Public debts: external obligation of a national or state government.

ii. Publicly – guaranteed debt: debts whose repayment is guaranteed by a

government or by an entity of the public debtor in the debtor country.

iii. Private non-guaranteed debts: external obligations that are not guaranteed

for repayment by the government.

From the point of view of the creditors, external debt can be classified into two

broad categories- official creditors and private creditors.

 Official creditors include international organizations such as the World

Bank Group (which give multilateral loans), foreign governments and their

agencies (which give bilateral loans). Loans from these two sources usually

come on ‘soft’ and concessionary terms and have relatively longer-term

maturity and low rates of interest. External loans can also come from the Euro-

Dollar market and other international capital markets (Anyanwu, 1993).

External debt has an increasing effect on national income when it is taken and

vice versa (has a decreasing effect on national income when it is paid).

Debt Service Payment (DSP)

Debt service payment refers to the cash required to cover the repayment of

interest and principal on a debt for a particular period. It is a crucial aspect of

fiscal policy, financial management, and economic sustainability. Governments,

corporations, and individuals must effectively manage their debt service

obligations to maintain solvency and avoid financial distress.

Debt service is a fundamental component of debt management,

encompassing interest payments, amortization of principal, and any associated

fees. It is often expressed as a debt service ratio (DSR), which measures the

proportion of income dedicated to servicing debt obligations (IMF, 2022). A

high DSR can indicate financial strain, while a low DSR suggests manageable
debt levels. Debt service payment is a critical aspect of financial stability,

affecting both public and private entities. Proper debt management strategies,

including fiscal discipline and economic growth initiatives, are essential in

ensuring sustainable debt repayment. Given the risks associated with excessive

debt burdens, policymakers must implement sound debt servicing frameworks

to promote long-term economic stability.

The payment of instalments on loans obtained from domestic and

international sources is referred to as debt servicing. According to the terms of

the loan, an instalment includes interest on the debt as well as a portion of the

principal. In order to service debt in time, borrowing nations or corporate

organization should have timely cash flows. Timely cash flows is a necessity for

a nation or corporate organisations to service its debt on time. If a country is

unable to honor its debt service terms due to a lack of required funds, it is said

to be unable to service its debt. (Khatundi, 2020). Debt management decisions

contribute a significant role in the strategies of fiscal policies. Debt management

decisions are becoming increasingly crucial as part of a financial plan as debt

grows its position as the principal way of supporting government demands

increases. Given that debt management has such a significant impact on public

finance, any attempt to determine the country's financing decision should

include appropriate public debt management.

Economic Growth
Economic growth is the expansion in estimation of definite goods delivered or

produced by the economy after some time; for the most part it is estimated as

the rate increment in GDP (Afshan & Sabeen, 2017). Khan (2005) cited in IMF

(2012) classified growth rate into three categories, namely, high, moderate and

low. High growth rate refers to an annual average growth in per capita GDP of

4% or more. The logic of this is that high growth rate should translate into an

annual average growth in per capita personal consumption of 2.5-3% or more,

which should provide a reasonable base of poverty. Moderate growth refers to a

minimum of 2.5% growth in per capita GDP which hopefully translates to a

minimum of 1.5% annual growth in per capita personal consumption. Lastly,

low growth rate represents an annual growth in per capita income of 2.5% or

less. Economic growth is the increase in the number of final goods produced

and sold within the boundaries of a country. It is conventionally measured as the

percent rate of increase in real gross domestic product, or real gross domestic

product (IMF, 2012).

2.2. Theoretical Review

The formulation of theories is a crucial analytical tool that enables us to explain,

predict, and comprehend phenomena. These theories also challenge and expand

existing knowledge within the critical bounding assumptions. It is a thought

process that guides our thinking. Also it can be utilised to explain the actions

and practices that we undertake. The theoretical framework is the structure that
holds or supports a research examination’s theory. It plays a crucial role in

conducting any research examination, and without a framework, an examination

would be incomplete. In other words, theoretical framework is the backbone of

any research examination, and it provides a solid foundation for the

development of a research examination, therefore, it is crucial to have a well-

defined theoretical framework to ensure the success of a research.

Public debt plays a crucial role in the development of an economy as it

serves as a foundation for building and maintaining the economic welfare.

Theoretical framework or review helps to explore its effects on economic

growth. These theories include but not limited to Ricardo’s theory on Public

debt, debt overhang theory, crowding-out effect theory, and nonlinear theory on

public debt. These theories aim to shed light on the dynamic interplay between

public debt and economic growth.

Ricardo’s Theory on Public Debt

Ricardo postulated in 1916 that public expenditure should be financed by

sourcing fund from sectors and communities with excess economic resources to

reduce inequality. He believed that prioritizing a specific sector to pay for public

expenditure does not contribute positively to the economic growth but instead

leads to the impoverishment of the state, even with high levels of public debt

and taxes. Ricardo’s idea was centred around the notion of balancing economic

resources and the consequences of public spending on the overall economy.

The writer contented that the settlement of debt interest extracts a substantial

portion of riches from one community to another economy, consequently

leading to the impoverishment of the state. As per Okoye, Modebe, and

Evbuomwam (2013), this underscores the importance of nations to incure

fruitful debts as it enhances economic expansion.

Debt Overhang Theory

According to Bongumusa et al. (2022), debt overhang arises when a

nation’s debt repayment burden becomes so substantial that a significant portion

of the current GPD is allocated to servicing debt, which in turn discourages

investment. This situation arises from creditors’ lack of confidence in the debtor

country’s ability to repay debts. Servicing debts is seen as an implicit tax that

hampers investment, constrains economic growth, and makes it exceedingly

challenging for heavily indebted countries to break free. Krugman (1988)

introduced the term to illustrate the adverse correlation between public debt and

economic growth from his perspective. He said debt overhang occurs when a

country’s capacity to repay its external falls below the contractual value of the

debt. This implies that an escalation in external public debt stimulates

investment up to a certain threshold. Once this threshold is surpassed, the

presence of debt overhang dissuades investors from providing funds to the

government.
 Coccia (2017) argued that the funds allocated to service the substantial

public debt act as a depletion of resources that could have been directed towards

supporting crucial industries essential for growth. The significant expenses

incurred in servicing these debts may absorb a considerable share of the

government’s limited revenues, leading to distortions and hindered growth in

developing countries. In nations burdened with high debt levels, the presence of

debt overhang stands out as a primary factor contributing to sluggish economic

growth.

Crowding-out Effect Theory

The negative impact of public debt stems from the crowding-out effect

theory, Bilan (2005) which posits that when government raise public loans, it

leads to an increase in the demand for loans while the supply for loanable funds

remains constant. This surge in demand raises the interest rate of loanable funds

in the market. Given that the private sector is highly responsive to interest rate

changes, they tend to decrease their demand for loans, causing private loanable

funds to flow towards the private sector. Consequently, the expected positive

influence of public debt is diminished or even rendered ineffective.

Nonlinear Effect Theory

This theory suggests that rising government debt levels initially have

positive impacts but not when when debt levels surpass a specific threshold

level. This concept, as highlighted by Reinhart and Rogoff in 2010, emphasizes

the critical point at which increasing debt transactions starts from being

beneficial to being detrimental for the economic growth. Once the debt ratio

reaches heightened levels, further increases in the debt level as a percentage of

GDP have a negative impact on economic growth (Baum, Checherita-Westphal,

and Rother, 2013). Existence of a nonlinear threshold would imply that

neoclassical theories on the relationship between debt and growth may be well

grounded. Such theories suggest that the distortionary impact of future tax

increases to achieve debt sustainability will likely lower potential economic

output (Barro, 1979).

2.3. Empirical Literature Review

Abdulkarim and Saidatulakmal (2021), regarding the impact of government

debt on Nigeria’s economic growth, the study utilized annual data from 1980 to

2018 and employed the Autoregressive Distributed Lag approach to assess

various variables. The variables included the Real GDP, domestic debt, external

debt, debt service payment, foreign reserve position, interest rate, gross fixed

capital creation and foreign debt investment. The findings indicated that

external debt acted as a hindrance to long-term growth but had a positive effect

on growth in the short term. On the other hand, domestic debt was identified as

having a significant favourable influence on long-term growth while exerting a

negative impact in the short term. Debt service payments were shown to impede

growth in the long and short term, demonstrating the debt overhang effect.
Based on these conclusions, it is recommended that the government focuses on

investing borrowed funds in diversifying the economy’s productive base to

ensure sustainable and balanced growth.

Safdari and Mehrizi (2011), examined the influence of external debt

accumulation on economic growth and private investment in Kenya, the study

highlighted a negative relationship between external debt and economic growth

and private investment. Additionally, studies by Clements, Bhattacharya, and

Nguyen, 2003, Babu, Kiprop, Kalio and Gisore, 2014; and Zouhaier and Fatma,

(2014) delved into the impact of external debt, economic growth, and per capita

income in low-income countries. The studies indicated a negative correlation

between external debt and per capita income, as well as economic growth.

Nassir and Wani (2016), investigated the correlation between public debt

and economic growth in Afghanistan, the study focused on the period from

2008 to 2012 utilizing Analysis Of Variance (ANOVA). The study incorporated

variables such as GDP, government stock, advances from commercial banks,

and external debt to assess their impact on economic growth. The outcomes of

the study revealed that government stock, advances from commercial banks,

and external debt exhibited a negative and statistically insignificant influence on

Afghanistan’s GDP. As a result, the study recommended that the government

establish a structured framework for monitoring and recording all contingent

liabilities. Furthermore, it advised the implementation of policies for managing

these liabilities effectively. Moreover, the study suggested that the government

should persist in implementing comprehensive economic reform policies that

foster investment in treasury bonds. Encouraging institutional investors like

pension funds and insurance companies to invest in treasury bonds was also

highlighted as a strategy to enhance economic growth in Afghanistan.

Favour et al, 2017 conducted a research regarding the relationship

between public debt and the economic growth in Nigeria from 1980 to 2015, the

study utilised the Vector Error Correction Model (VECM) approach for

econometric data analysis. The variables examined in the study included real

GDP, foreign debt, domestic debt, and domestic private savings. The findings of

the study highlighted two significant results: (i) External debt was found to have

notable negative impact on economic growth during the period analysed (ii)

Domestic debt exhibited a significant negative relationship with economic

growth within the timeframe considered.

Egbetunde (2012), researched on public debt and economic growth in

Nigeria, the study employed a quantitative research method. It utilised

secondary time series data covering a period of forty years from 1970 to 2010.

The data collected was analysed using Augmented Dickey Fuller and Phillip

Perron tests. The outcomes of the study indicated that public debt has a lasting

effect on economic growth in Nigeria. Additionally, the results from the VAR
model illustrated a two-way relationship between public debt and economic

growth in the country.

Lucky and Godday, (2017) investigated the relationship between public debt

structure and the growth performance of the Nigerian economy from 1990 to

2015, the study utilised simple and multiple regression analysis. The variables

examined in the analysis included gross domestic product, domestic debt, and

total debts. The results, however, from the simple regression analysis indicated

that total public debt had a positive and significant impact on gross domestic

product in Nigeria. Similarly, the multiple regression analysis revealed that

external debt had a negative and significant effect on economic growth in

Nigeria.

Building upon the study conducted by Igbodika, Jessie, and Andabi,

(2016), using the Ordinary Least Square (OLS) technique to investigate the

relationship between domestic debt and Nigerian economic development from

1987 to 2014. The analysis included variables such as GDP, domestic debt,

interest rate, and inflation rate. The empirical results showed that interest rates

had a negative and noteworthy effect on Nigeria’s GDP. On the other hand,

domestic debt was found to have a positive and significant impact on gross

domestic product in Nigeria.

Mhlaba, Phiri, and Nsiah, (2019), investigated the impact of public debt

on economic growth in South Africa, the study utilised the ARDL method to
analyse the long-run and short-run effects. The findings of the study showed a

significant negative relationship between public debt and economic growth.

This suggests that high levels of public debt could hinder economic growth in

South Africa in both the short term and long term.

Odubuasi, Uzoka, and Anichebe, (2018), conducted a study on the

influence of external debt on the economic growth of Nigeria from 1981 to

2017. By employing the Granger Causality and Johansen Co-Integration

techniques, the research revealed that the external debt stock and government

capital expenditure had a positive impact in Nigeria’s economic growth.

Interestingly, the study found that external debt did not have a significant effect

on economic growth in Nigeria.

Rafindadi and Musa (2018), conducted a research on public debt

management strategies in Nigeria, the study focused on assessing the impacts of

debt refinancing (DRF), debt forgiveness (DF), and debt conversion (DCV) on

the country's debt profile. The study utilized econometric research methods and

analysed secondary time series data spanning from 1981 to 2016 sourced from

various official records. The findings of the study revealed that debt refinancing

had a negative impact on Nigeria's total debt profile. Additionally, debt

forgiveness was observed to have a significant negative effect on the country's

debt profile, while debt conversion was found to have a notable impact on

Nigeria's debt profile.

 Oyedele, David, and Omojola (2016), examined the impact of public debt

on economic growth in Nigeria where a quantitative research method was

employed. The researchers collected secondary data covering a period of forty-

one years (1970-2011) from sources such as the CBN Statistical Bulletin and

the World Development Indicators. The study's results indicated that there was

no long-run relationship between public debt and economic growth in Nigeria.

It was noted that a positive but non-significant relationship existed between per

capita domestic public debt and economic growth, while a negative and non-

significant relationship was observed between per capita external public debt

and economic growth.

In the research conducted by Naeem (2015), on the impact of public debt

on economic growth, the study employed various analytical techniques to

explore the consequences of public external debt on economic growth and

investment. The findings revealed a negative and significant effect of public

external debt on economic growth and investment, supporting the presence of a

debt overhang effect. However, the study did not find substantial evidence to

support the crowding out hypothesis, as debt servicing demonstrated significant

relationships with investment and economic growth in the economy. Moreover,

the research highlighted that domestic debt had a negative influence on

investment but a positive effect on economic growth. As a result, the study

recommended that developing countries should implement policies aimed at

reducing their debt burden to accelerate economic growth.

Elom-Obed, Odo, Elom, and Anoke (2017), studied the relationship

between public debt and economic growth in Nigeria from 1980 to 2015, the

researchers utilized co-integration tests, Vector Error Correction Model

(VECM), and Granger causality tests. The variables examined in the research

included real gross domestic product, domestic private savings, external debt,

and domestic debt. The empirical findings of the study indicated that both

external debt and domestic debt had negative and significant impacts on

economic growth in Nigeria. Furthermore, the results revealed that domestic

debt and external debt had Granger causality relationships with real gross

domestic product (RGDP), suggesting that changes in external and domestic

debt influenced RGDP.

Stephen and Obah (2017), focusing on the influence of national savings

on economic growth in Nigeria from 1990 to 2015, descriptive statistics

analysis and Ordinary Least Square (OLS) were employed.

Okwu, Obiwuru, and Oluwalaiye (2016), investigated the effects of

domestic debt on economic development in Nigeria from 1980 to 2015. The

study employed various analytical tools such as descriptive statistics, unit root

tests, co-integration tests, and an error correction model (ECM) to examine the

relationship between domestic debt and economic development. The factors

studied in the research included real gross domestic product, domestic debt

stock, domestic debt service expenditure, and average banks' lending rate. The

study's findings indicated that overseas debt service expenditure had a

significant and positive impact on economic growth in Nigeria. Conversely,

domestic debt service expenditure was found to have a significant and negative

effect on economic growth. Additionally, the bank's loan rate was observed to

have a negative impact on Nigerian growth, although it was deemed

insignificant. These results underscore the importance of carefully managing

both domestic and overseas debt service expenditures to foster economic growth

effectively.

Sylvester's (2021), study focusing on the nexus between external debt and

economic growth in Nigeria, the research aimed to explore the relationship

between external debt and economic growth to inform policy decisions

regarding public finance and debt management. The study analysed data on

Nigeria's external debt and GDP growth rate using root tests and cointegration

long-run tests. The findings of the study highlighted that variables such as debt

overhang and crowding out effect negatively impacted investment levels,

thereby adversely affecting the economic growth of Nigeria. This underscores

the importance of carefully managing external debt to mitigate these adverse

effects and promote sustainable economic growth in the country. Effective

policies that address debt-related challenges can help optimize investment

opportunities and foster economic development in Nigeria.

Alagba and Eferakeya (2019), researched on the impact of public debts

on the economic growth of Nigeria over a 38-year period from 1981 to 2018.

The study utilized data sourced from the Central Bank of Nigeria Statistical

bulletin and Debt Management Office. One of the key objectives of the study

was to assess the influence of both domestic and foreign debts on Nigeria's

economic growth. The study's findings indicated that domestic debts of the

Federal government of Nigeria had a positive and statistically significant effect

on the economic growth of the country. This suggests that effectively managing

and utilizing domestic debts can contribute positively to the economic

development of Nigeria.

The contribution of foreign debt on the economy's performance and

stock exchange of South Asia Association for Regional Cooperation was

investigated by Irfanh, R HHao, Akbar, and Younis (2020). On a data set

spanning the years s 1992 to 2017, panel least square regression techniques

were used. It revealed a negative non-significant connection between the

external debt and stock market performance proxy my stock market index,

however this work doesn't corroborate with Darrat (1988). The stock market's

performance is unaffected by the country's external borrowings, according to

this relationship. It demonstrates that external debt does not have a strong

influence on stock market performance.

Ozigbu and Ezekwe (2020), investigated the inter temporal policy mix

and stock market development making use of ECM techniques for a data set

between 1986-2018. The outcome reveals a non t inverse effect of public debt

on traded stock value. This suggests that public spending, a channel of fiscal

policy promotes the development of Nigeria's stock market.

Wisniewski and Jackson (2020) inquire into the impact of increasing

government debts on stock market returns, utilizing a panel regression

technique for a data set between 1990 to 2014. One of the findings was, an

increase in government debt to GDP ratio has an inverse relationship with stock

index returns.

Agwu and Godfrey (2020), analysed the influence stock exchange has on

fiscal policy shocks in Nigeria using ECM techniques for a data set between

1989 to 2018. Domestic debt and stock market performance have a favorable

and significant association, according to the study, proving the Keynesian

hypothesis.

Al-Dhaimesh (2020), examined the response of Jordanian commercial

banks share prices to monetary and financial variables between a period 2001 to

2018 using multiple linear regression. The findings revealed that locally sourced

debt has statistically significant and direct response on the prices of Jordanian
commercial bank securities. One of the findings was, an increase in government

debt to GDP ratio has an inverse relationship with stock index returns.

Ogbulu, Torbira & Umezinwa (2015) assessed fiscal policy effects on

performance of the stock market during the period of 1985 to 2012 with OLS

and ECM. The amount of outstanding government domestic debt, according to

the findings, has a significant and positive impact on stock prices. Given the

substantial influence of fiscal policies on stock market prices, the study suggests

the formulation and implementation of suitable fiscal policies.

Aigheyisi and Edore (2014) investigated if stock market development in

Nigeria is influenced by government expenditure and debt t using the ECM

techniques and a data set between 1980 to 2012. The study's findings show that

in all time horizon (short run and long run) domestic and external debt effect on

Nigerian Stock Exchange total value of transactions are statistically non-

significant.

Osamwonyi and Evbayiro-Osagie (2012), looked into the connection

between economic indicators and Nigeria's stock market benchmark (index).

The result of the study reveals that variables that proxy fiscal deficit has a

positive non-significant relationship with all-share indexes. Hosing (2005), used

ML-ARCH statistical method to influence of macroeconomic policies and stock

market performance in Estonian economy. The outcome of investigation shows

that government deficit spending has a non-significant impact on stock market

performance.

2.4 Gap in Literature

Many studies aimed at examining the effects of public debt on economic growth

have been carried out over time across countries of the world. Noticeably, a

significant number of these studies and other related researches are bereft of

strategic empirical evidences in developed countries, Nigeria and other

developing countries (Saifuddin, 2016; Idenyi, Ogonna and Ifeyinwa, 2016;

Jernej, Aleksander and Miroslav, 2014; Muhammad, Ruhaini, Nathan and

Arshad, 2017; Siew-Peng and Yan-Ling, 2015; Amilcar, 2016; Hadhek and

Fatma. 2014; Naeem, 2017; Muhammad, 2017; Mousa, and Shawawreh, 2017;

Ndieupa, 2018; Matandare and Tito, 2018; Brini, Jemmali and Ferroukh. 2016;

Alfred, 2014; Blake, 2015 and Victor and Joseph, 2016. According to a review

of the literature, many studies have been conducted on the impact of

government borrowing on economic growth in Nigeria, but not many researches

have been carried out on the effect of public debt in Nigeria from 1981 to 2023.

As a result, there is a research gap that needs to be filled, and this study fills that

gap. Again, this study addresses this gap by incorporating debt service payment

(DSP) into the model and the analysis of public debt . Following the gap in the

research focus and literature of previous researches, this study empirically

assess the impact of public debt on economic growth of Nigeria from 1981 to

2023.

2.5 The Relationship between Public Debt and Economic Growth

Effectively managing public debt plays a crucial role in promoting

economic stability and growth by wisely using revenue, timely repayment of

borrowings with minimal interest, and reducing unnecessary financial risks,

Matiti, (2013). The issue of fiscal balance in Nigeria has indeed been a topic of

interest among scholars, especially following the implementation of the

“Nigerian Economic Recovery and Growth Plan” in 2017. Debt challenges

persist, even after the debt cancellation in 2003, largely due to the significant

portion of savings allocated to debt servicing, which limits funds available for

public investment. This situation also raises concerns about potential future

financial crisis. It is crucial that debt servicing does not diminish the resources

allocated for enhancing human development, as emphasized by the importance

of maintaining investments in human development alongside managing debt

obligations.

The current state of affairs in Nigeria, characterised by inadequate

infrastructure, high unemployment rates, increasing poverty levels, and high

illiteracy rates, presents a stark contrast to the desired economic progress.

Nigeria’s heavy reliance on oil revenue, coupled with rising debt servicing

costs, poses a risk of overexploiting oil reserves to offset debt burdens,

potentially leading to long-term negative consequences. The country’s debt

crisis has been exacerbated by fluctuations in international commodity prices,

impacting various economic sectors negatively. To address these challenges, the

Nigerian government has shifted towards prioritizing domestic borrowing over

external borrowing to boost productive investments. However, the substantial

growth in domestic debt indicates a concerning trend of debt instability. It is

essential for investments that generate future revenue, rather than perpetuating a

cycle of unproductive debt financing, which poses significant financial risks and

contributes to fiscal imbalances.

The Origin and Causes of Public Debt in Nigeria

The Nigeria debt problem, according to Ajayi, E. A., 1989, originated in

1978 due to strains on the balance of payments, external reserves, and

government finance. This led to Nigeria borrowing significant amounts from the

International Capital Market (ICM) at higher and variable interest rates. In 1978

and 1979, several jumbo loans were secured for balance of payment needs to

establish a steel industry in Nigeria. The loans obtained from the ICM increased

rapidly from N1.0 billion in 1979 to N5.5 billion in 1982 and peaked at N40.5

billion in 1987 representing a 40.2% of the total external debt.

The loans acquired from the ICM during the late 1970’s and throughout the

1980’s played a crucial role in the growth of Nigeria’s external debt. The

escalation of these loans from N1.0 billion in 1979 to N40.5 billion in 1987
significantly impacted the country’s overall debt burden. The reliance on these

loans, especially for balance of payment support and industrial projects like the

steel industry, also contributed to the accumulation of a substantial debt load for

Nigeria.

In recent times, the economic challenges of Nigeria’s debt has raised

alarms in the global financial community because Nigeria relies on oil as a

primary source of foreign exchange, and oil prices haven’t been volatile since

1981. This means that the value of Nigeria’s main export (oil) is fluctuating

unpredictably. Lenders are cautioned about the potential of Nigeria failing to

meet its debt repayment obligations. Since 1982 when the debt issues began,

successive Nigerian administrations have implemented actions to decrease the

magnitude of Nigeria’s indebtedness or eradicate it. Nonetheless, such actions

have either expanded the debt burden or generated other socio-economic

challenges in Nigeria. The significant decrease in investment imports, for

example, reduced the utilization of production capacity in industries and

resulted in factory closures and labour stoppages. Furthermore, Nigeria’s total

external debt outstanding experienced a sharp rise from N1.3 billion ($2.2

billion) in 1978 to N10.6 billion ($23.4 billion) in 1986 and 1987. The rapid

growth of Nigeria’s external debt, coupled with the dominance of trade arrears

as a major contributor to the debt crisis, underscores the critical need for

effective debt management strategies and sustainable financial policies to

address and mitigate the challenges poses by such escalating debt levels. The

primary cause for this substantial increase in Nigeria’s external debt and the

resulting debt crisis can be attributed to the accumulation of trade arrears that

emerged in 1981. The se trade arrears were refinanced overtime, leading to

subsequent difficulties in servicing the debt. According to Ajayi E.A. (1989), the

total trade arrears surged from N2 billion in 1982 to N47.6 billion, representing

47.2% of the debt, making it the most significant source of the debt burden.

According to Ogwuma, P. A (1996), The domestic debt outstanding of the

Federal Government surged significantly in line with the rise in level of the

Government fiscal deficit, the stock surged by N88,003.9 million or 50.5% to

N262,322.8 million, indicating an increase in the preceding three year period.

Concerning the output of the economy, the stock escalated from 38.8% to

49.6%.

The country’s external debt increased in the year by $1,174.1 million,

4.3% to an estimated $28,718.2 million. The increase largely resulted from

interest on the debt service arrears accumulated during that year. The Paris Club

creditors, whose position of the debt increased, accounted for nearly two-thirds

of the outstanding stocks. Debts owed to multilateral institutions, the second

largest, fell by 18.2% to $3,694.7 while those owed the London Club and

promissory notes holders also showed modest declines of 3.0 and 2.7% to

$2,055.8 million and $3,159.9 million respectively.

 The gravity of the issue, which has only recently caught the eye of the

global community, has sparked discussions t multiple levels with the goal of

pinpointing a sustainable resolution. It is imperative to delve deeper into this

matter and devise a comprehensive solution to address the debt problem

effectively. According to Falegan S. B. (1992), several factors have contributed

to the significant increase in Nigeria’s public debt, both internally and external,

reaching N706.2 billion by the end of 1992. The primary divers include the

rapid expansion of public expenditure, especially on capital projects, borrowing

from international sources at non-concessional interest rates, the decrease in oil

revenues from the late 1970s, and the accumulation of trade arrears. Additional

factors that played a role in the escalation of Nigeria’s public debt include the

implementation of unsound economic policies leading to poor investments,

mismanagement, and limited productive capabilities. The upward trend in

inflation has further exacerbated the situation, causing project costs to soar.

Moreover, a focus on consumption-driven spending, coupled with a lack of

transparency and fiscal discipline in the public sector, has contributed to the

mounting debt burden.

Nigeria’s economy, akin to other nations in Sub-Saharan Africa, faces a

myriad of challenges as developing nation. A significant hurdle lies in the

scarcity of funds to drive forward its developmental agendas (Dokwubo and

Ola, 2017). Being heavily reliant on a single revenue source, the economy is
susceptible to price fluctuations due to factors like oversupply of the

commodity, reduced global demand, and internal disruptions impacting

production. The unprecedented covid-19 pandemic in 2020 brought global

activities to a halt, leading to a sharp decline in revenue for Nigeria and

necessitating the revision of the budget to accommodate the new reality. This

financial strain forced the country, like many others in Africa, to resort to

borrowing fund essential programs amid the pandemic (Desmond, 2020). The

nation’s debt crisis is further exacerbated but the significant accumulation of

budget deficits and the government’s inability to curb its spending, particularly

on non-essential and non-value-adding areas. Khalil and Junaidu, 2019,

highlighted that one of the most pressing issues impeding the nation’s economic

growth is the continuous accumulation of budget deficits. Successive

governments have faced challenges in accurately accessing the cost of

governance activities, leading to a failure in reducing or eliminating non-

productive expenditures (Hogan, 2018). Morris, 2019 emphasized on that

borrowing becomes inevitable when tax revenues fall short of sustaining

government activities, especially those deemed nonessential but politically

essential to cut down.

Expounding on the critical factors contributing to the relentless increase

in public debt in Nigeria, Onalo, 2017, emphasized the failure to tap into vast

mineral deposits for export, the lack of development in the manufacturing and
agricultural sectors, the haphazard abandonment of potentially valuable

industrial projects, low savings rates, and the high consumption of imported

goods by citizens. Tope and Bode, 2018, echoed these sentiments, suggesting

that Nigeria’s debt accumulation should have been avoided if the country had

harnessed its manufacturing and industrial capabilities, citing the neglected

state of the textile and iron and steel industries. The compounding consequences

of neglecting these revenue generating sectors and other related factors have led

to the escalating debt burden on the nation (Marthia and Mbah, 2020).

Consequences of Public Debt in Nigeria

In Nigeria, the use of deficit budgets financed through borrowing can

have both positive and negative impacts on the economy. While borrowing can

stimulate economic activity during times of depression and insurgency, it also

poses challenges, especially in Nigeria where funds are subject to various

issues. Debt financing can lead to long-term obligations for future generations,

Morris, 2019. Additionally, public borrowing, especially externally, can result in

economic destabilization due to strict lender conditions, increased cost of

government projects, reckless spending leading to inflation, economic

dependency, and burdening future generations, Tope, Bode and Mann, 2018.

The stringent conditions imposed by lending institutions on Nigeria’s

borrowed funds have forced the country into harsh economic reforms like

currency devaluation, Garba & Disu, 2018, Danami & Teilla, 2019. Currency
devaluation can have diverse effects, such as reducing the value of the local

currency against imported goods and services. This devaluation can incentivise

the preference for imported goods over local products, even if the local

alternatives are of comparable quality if not better. This preference on imports

can further strain the economy and hinder local production and economic

growth. Currency devaluation is a critical issue that has significantly impacted

the Nigerian economy. It has led to the decrease in the government’s spendable

income, which ideally should have been allocated to the productive sectors of

the economy to foster growth. This reduction in spendable income has hindered

investment opportunities in key areas that would drive economic development

and prosperity. The effects of currency devaluation ripple through various

sectors, affecting businesses, consumers, and overall, economic stability.

Expanding on the consequences of public debt in Nigeria, Marthia, 2020,

emphasized the detrimental impact of debt illusion and economic sabotage

caused by excessive borrowing. This has not only clouded the government’s

ability to make strategic investments but has also led to a low utilization of

borrowed funds, resulting in a limited positive effect on employment, national

output, and overall economic growth. Marthia also observed a crucial point that

the scarcity of investable funds due to debt servicing, compounded by the

challenges posed by the covid-19 pandemic, has contributed to the negative

GDP growth rates experienced by Nigeria in 2020. The significant GDP

contractions of -14.3% and -6% in the first and second quarters of 2020, as

reported by the NBS, underscore the severity of the economic challenges faced

by the nation. Marthia further warns that unless Nigeria reduces its reliance on

borrowing, especially from institutions like the IMF, PC, and World Bank with

stringent and impoverishing conditions, the economy is likely to continue

experiencing negative growth rates in her GDP. Mbah (2020), stated that it is an

economic slavery which eventually tends to throw a wrench in the economic

growth of Nigeria.

2.6. Types of Debt Service Payments

Debt service payments can be categorized into:

 Interest Payments: Periodic payments made on the outstanding loan

balance.

 Principal Repayment: The scheduled payment of the borrowed amount.

 Sinking Fund Payments: Contributions made to a fund set aside for

future debt repayment (World Bank, 2021).

Determinants of Debt Service Burden

Several factors influence the burden of debt service payments:

 Interest Rates: Higher interest rates increase the cost of borrowing

(Krugman, 2020).
  Economic Growth: Strong GDP growth can improve the ability to

service debt.

 Exchange Rate Fluctuations: Depreciation in currency can increase

foreign debt obligations.

 Revenue Generation: Tax revenues and income levels impact debt

repayment capabilities.

Debt Service Challenges and Risks

Debt service payments can pose significant economic risks if poorly managed.

Common challenges include:

 Debt Overhang: When debt service payments consume a large portion of

revenue, leaving little for investment (Reinhart & Rogoff, 2010).

 Liquidity Crisis: Inability to meet debt obligations due to short-term

cash flow problems.

 Sovereign Default: When governments fail to meet debt obligations,

leading to economic instability (Eichengreen, 2019).

Strategies for Effective Debt Service Management

To mitigate risks associated with debt service payments, entities can adopt

various strategies:
 Debt Restructuring: Renegotiation of terms to ease the burden (Stiglitz,

2021).

 Fiscal Discipline: Prudent budgeting and expenditure control.

 Diversification of Revenue Streams: Expanding income sources to

improve repayment capacity.

 Use of Debt Swaps: Converting debt into alternative obligations such as

equity investments (OECD, 2022).