Trade Openness and Output Growth in Nigeria: an Econometric Analysis (1970-2007)

Abstract of Trade Openness and Output Growth in Nigeria: an Econometric Analysis (1970-2007)

This research work studies the international competitiveness of the Nigerian economy in the global market by analyzing the relationship between trade openness and output growth in Nigeria. Using time-series data over the period 1970-2007, we show that output growth of the Nigeria economy is a function of two sets of shocks; (i) external shocks (openness and real exchange rate) and (ii) internal shocks (real interest rate and unemployment rate). A non-monotonic and an ANCOVA econometric models are postulated in order to capture the structural pattern of the relationship between openness and output growth as well as the policy effect of structural Adjustment program (SAP). The result shows that there is an inverted U-shape (no-monotonic) relationship between openness and output growth in Nigeria and the optimum degree of openness for the economy is estimated to be about 67%. Also, the liberalization policy of the SAP has positive economic effect on the output growth. The ECM reveals that 79% of the equilibrium error is being corrected in the next period. We concluded that unbridled openness may have deleterious effect on the real growth of output of the Nigerian economy.

Chapter One of Trade Openness and Output Growth in Nigeria: an Econometric Analysis (1970-2007)

INTRODUCTION

BACKGROUND OF STUDY

The current period in the world economy is regarded as period of globalization and trade liberalization. In this period, one the crucial issues in development and international economics is to know whether trade openness indeed promotes growth. With globalization, two major trends are noticeable: first is the emergence of multinational firms with strong presence in different, strategically located markets; and secondly, convergence of consumer tastes for the most competitive products, irrespective of where they are made. In this context of the world as a “global village”, regional integration constitutes an effective means of not only improving the level of participation of countries in the sub-region in world trade, but also their integration into the borderless and interlinked global economy. (NEEDS, 2005).

Since 1950, the world economy has experienced a massive liberalization of world trade, initially under the auspices of the General Agreement on Tariffs and trade (GATT), established in 1947, and currently under the auspices of the World Trade Organization (WTO) which replaced the GATT in 1993. Tariff levels in both developed and developing countries have reduced drastically, averaging approximately 4% and 20% respectively, even though the latter is relatively high. Also, non-tariff barriers to trade, such as quotas, licences and technical specifications, are also being gradually dismantled, but at a slower rate when compared with tariffs.

The liberalization of trade has led to a massive expansion in the growth of world trade relative to world output. While world output (or GDP) has expanded fivefold, the volume of world trade has grown 16 times at average compound rate of just over 7% per annum. In fact, it is difficult, if not impossible, to understand the growth and development process of countries without reference to their trading performance. (Thirlwall, 2000).

Likewise, Fontagné and Mimouni (2000) noted that since the end of the European recovery after World War II, tariff rates have been divided by 10 at the world level, international trade has been multiplied by 17, world income has quadrupled, and income per capita has doubled. Incidentally, it is well known that periods of openness have generally been associated with prosperity, whereas protectionism has been the companion of recessions. In addition, the trade performance of individual countries tends to be good indicator of economic performance since well performing countries tend to record higher rates of GDP growth. In total, there is a common perception that even if imperfect competition and second best situations offer the possibility of welfare improving trade policies, on average free trade is better than no trade.

From the ongoing discussion, it is evident that trade is very important in promoting and sustaining the growth and development of an economy. No economy can isolate itself from trading with the rest of the world because trade act as a catalyst of growth. Thus Nigeria, being part of the world, is no exemption. For this reason, there is a need to thoroughly examine the nature of relationship between trade openness and output growth in Nigeria.

TRADE OPENNESS AND OUTPUT GROWTH: HISTORICAL EXPERIENCE OF THE NIGERIA ECONOMY

Today, Nigeria is regarded to have the largest economy in sub-Saharan Africa, excluding South Africa. In the last four decades there has been little or no progress realized in alleviating poverty despite the massive effort made and the many programmes established for that purpose. Indeed, as in many other sub-Saharan Africa countries, both the number of poor and the proportion of poor have been increasing in Nigeria. In particular, the 1998 United Nations human development report declares that 48% of Nigeria’s population lives below the poverty line. According to the report (UNDP, 1998). The bitter reality of the Nigerian situation is not just that the poverty level is getting worse by the day but more than four in ten Nigerians live in conditions of extreme poverty of less than N320 per capita per month, which barely provides for a quarter of the nutritional requirements of healthy living. This is approximately US 8.2 per month or US 27 cents per day.

Doug Addison (unpublished) further explained that the Nigeria economy is not merely volatile; it is one of the most volatile economies in the world (see figure 1 below). There is evidence that this volatility is adversely affecting the real growth rate of Nigeria’s gross domestic product (GDP) by inhibiting investment and reducing the productivity of investment, both public and private. Economic theory and empirical evidence suggest that sustained high future growth and poverty reduction are unlikely without a significant reduction in volatility. Oil price fluctuations drive only part of Nigeria’s volatility policy choices have also contributed to the problem. Yet policy choices are available that can help accelerate growth and thus help reduce the percentage of people living in poverty, despite the severity of Nigeria’s problems.

Figure 1: growth rate of real GDP

Nigeria real GDP Growth Rate .

DIAGRAM

During the period 1960-1997, Nigeria’s growth rate of per capital GDP of 1.45% compares unfavorably with that reported by other countries, especially those posted by china and the Asian Tigers such as Hong Kong, Singapore, Taiwan, and south Korea, viewed in this comparative perspective, Nigeria’s per capita income growth has been woefully low and needs to be improved upon. (Iyoha and Oriakhi, 2002). In like manner, ogujiuba, Oji and Adenuga (2004) wrote that the Nigerian economy has severally been described as a difficult environment for business with a population growth of about 3%, it has been acknowledged that the current average output growth rate of less than 4% will see the country being poorer in the next decade.

A study conducted by Iyoha and Oriakhi (2002) on Nigeria’s per capita GNP from 1964 to 1997 show that it rose steadily from US$120 to US$780 in 1981. Thereafter, it fell almost steadily to US$280 in 1997. Thus, between 1964 and 1981, income per capita increased by 550% or at an annual average rate of 32.3% while between 1981 and 1997, it fell by 64.1% or at an annual average rate of 4%. It is worth noting that if income per capita had continued to increase beyond 1981 as it did before then, Nigeria’s GDP per capita would have equaled US$1,279 in 1997. The difference between US $280 and US$1,279, i.e, approximately, US$1,000.00, is a rough measure of the cost to the average Nigerian of domestic macro economic policy mistakes and adverse international economic shocks. Likewise in 1960 agricultural exports accounted for only 2.6%. Exports of other commodities like tin and processed goods amounted to 26.6% of total exports. By 1970 agricultural exports only accounted for 33% of total exports while petroleum exports had started to establish dominance by exceeding 58% of total exports. By the time the oil boom began in earnest in 1974, petroleum exports accounted for approximately 93% of all exports. The relative share of agricultural exports in total exports had shrunk to 5.4% while other products accounted for the remaining 1.9%. Since 1974, with the exception of 1978 when the relative share of petroleum in total exports has exceeded 90%. In deed, since 1990, the relative share of petroleum in total exports has exceeded 96%. Agricultures contribution has fluctuated between 0.5% and 2.3% while the share of other products has fluctuated between 0.5% and 1.7%. Thus petroleum exportation has totally dominated the economy and indeed government finances since the mid-1970s.

Meanwhile, a puzzling and disturbing aspect of Nigeria export boom is that the growth it generated did not seem to be lasting or to have had a significant effect in changing the structure of the economy. For instance, in the 1970’s there was a major increase in measured GDP but the structure of the economy remained basically unchanged (see figure 2 below). This led professor Yesufu (1995) to describe the Nigerian economy as one that had experienced “growth without development’’.

DIAGRAM

During the period of 1970 – 1985, import substitution industrialization (ISI) strategy was a dominant feature of trade policy in Nigeria. The trade policy was generally inward oriented. Under this ISI strategy, “Infant” manufacturing industries were protected using high tariffs, import quotas, and other trade restrictions like import licensing. Non-tariff barriers to trade such as import prohibitions were also utilized. During this period, trade policy was also adjusted in response to the exigencies of the balance of payments.

Also, Nigeria was operating a fixed exchange rate regime under which the value of the Naira was essentially tied to US dollar and gold. It is worth noting that the trade policy pursued during this period resulted in a rapid increase in manufacturing production and employment, particularly during the era of the oil boom (1975 -1980) and that led to a rise in the share of manufacturing in Gross Domestic product (GDP) from 5.6% in 1962/63 to 8.7% in 1986. (Iyoha and Oriakhi, 2002).

In 1986, Nigeria adopted the structural adjustment programme (SAP) of the IMF/World Bank. With the adoption of SAP in 1986, there was a radical shift from inward-oriented trade policies to out ward –oriented trade policies in Nigeria.

These are policy measures that emphasize production and trade along the lines dictated by a country’s comparative advantage such as  export promotion and export diversification, reduction or elimination of import tariffs, and the adoption of market-determined exchange rates some of the aims of the structural adjustment programme adopted in 1986 were diversification of the structure of exports, diversification of the structure of production, reduction in the over-dependence on imports, and reduction in the over-dependence on petroleum exports. The major policy measures of the SAP were:

·                    Deregulation of the exchange rate

·                    Trade liberalization

·                    Deregulation of the financial sector

·                    Adoption of appropriate pricing policies especially for petroleum products.

·                    Rationalization and privatization of public sector enterprises and

·                    Abolition of commodity marketing boards.

However, as a result of trade liberalization gospel of the SAP, the Nigeria external sector really experience dramatic growth. For instance, the total domestic exports of Nigeria in 2006 amounted to N755141.32 million against N6621303.64 million in 2005 showing an increase of 14.10%. Domestic exports recorded negative growth rates in 1993 (7.70%), 1994 (45.5%), 1997 (2.03%), 1998 (38.48%) and 2001 (27.06%); while it recorded positive growth rates in other periods. The largest increase in domestic exports was witnessed in 1995 (448.42%). Total imports (C.I.F) stood at N2922248.46 in 2006 as against N1779601.57 million in 2005 recording an increase of 64.20%. Total imports also recorded negative growth rates in 1994(45.72%),1998(9.41%) and 2004(18.07%) while it is positive all through other years. The value of total merchandise trade amounted to N10477389.78 million in 2006 as against N45272.24 recorded in 1987. External trade was dominated by domestic exports between 1987 and 2006   averaging 67.17% while imports (C.I.F) averaged 32.82% (see figure 3 below), consequently, the trade balance was positive between 1987 and 2006. Oil export remains the dominant of export trade in Nigeria between 1987 and 2006 accounting for about 93.33% of total domestic exports. On the other hand, non oil exports accounted for a small value of 6.67% over the same period. (NBS report, 2008).

DIAGRAM

Therefore, it could be understood that the SAP involved the deregulation and liberalization of the Nigerian economy. This policy thrust of this program dovetailed nicely with the emerging international orthodoxy to the effect that deregulation and economic liberalization would yield the optimal allocation of scarce resources, reduce waste, and promote rapid economic growth in developing countries. Unfortunately, there has been no significant progress made in the achievement of these objectives. The openness of the economy has significantly increased in the past four decades, with the trade-GDP ratio rising from 31.54% in 1970, to 46.91% 1980, 57.23% in 1990, 88.16% in 1995, 85.26% in 2003 and 57.63% in 2007 (see figure 4 below) indeed, in the 1990s the ratio of trade to GDP has averaged 70%. This extreme openness of the economy could be disadvantageous in that it makes the country highly susceptible to internationally transmitted business cycles, and, in particular international transmitted shocks (like commodity price collapse). A  good example of this effect on the Nigerian economy is that of the global food crisis of 2007 and the current global economic/financial crisis.

FIGURES 4: THE DEGREE OF OPENNESS

NIGERIA IMPORT AND EXPORT

(DIAGRAM)

STATEMENT OF THE RESEARCH PROBLEM

Nwafor Manson (unpublished) not that the Nigeria’s trade policy over the years has been determined by one/ more of the following.

·        Need to protect and stimulate domestic production (import capital goods at low prices etc)

·        Need to ameliorate/prevent balance of payment problems.

·        Need to boost the value of the naira

·        Need to be competitive and enjoy the benefits of openness.

·        Need to increase revenue and

·        International agreements

Today, as part of moving with the trend of globalization and trade liberalization in the global economic system, Nigeria is a member of and sygnatory to many international and regional trade agreements such as international monetary fund (IMF), world trade organization (WTO), economic community of West African States (ECOWAS), and so many others. The policy response of such economic partnership on trade has been to remove trade barriers, reduce tariffs, and embark on outward-oriented trade policies. Despite all her effort to meet up with the demands to these economic partnerships in terms of opening up her border, according to the 2007 assessment of the trade policy review, Nigeria’s  trade freedom was rate 56% making her the worlds 131st freest economy while in 2009, it was ranked 117th freest economy, the country’s GDP was also ranked 161st in the world in February, 2009. The economy has struggled vigorously to stimulate growth through openness to trade, In fact, it seems that as the country put greater effort to boost her economic growth by opening up to trade with the global economy the more she becomes worse-off relative to her trading partners in terms of country output growth.

Having reviewed the related literatures and considering the structure of the Nigerian economy as related to trade openness and output growth, we may then ask the following questions.

·        Does trade openness have any significant impact on out put growth in Nigeria?

·        Is there any other macroeconomic variable that has significant impact on output growth in Nigeria?

·        Is there any linear association (correlation) between trade openness and output growth in Nigeria?

·        Is there long run relationship between trade Openness and output growth in Nigeria?

·        Has there been any significant structural change in output growth between the pre-SAP and post-SAP period in Nigeria?

OBJECTIVES OF THE STUDY

The broad objective of this research work is to study, in its entirely, the relationship between trade openness and output growth in Nigeria. This broad objective can be subdivided into the following smaller objectives:

·        To examine the impact of trade openness on output growth in Nigeria.

·        To identify other internal and external macroeconomic shocks that determine output growth in Nigeria.

·        To identify other international and external macro economic shocks that determine output growth in Nigeria.

·        To determine the linear association (correlation) between trade openness and output growth in Nigeria.

·        To ascertain the possibility of long run relationship between trade openness and output growth in Nigeria.

·        To determine the possibility of structural changes (if any) in output growth between the pre-SAP and post-SAP period.

STATEMENT OF THE RESEARCH HYPOTHESES

In view of the foregoing study, with respect to trade openness and output growth in Nigeria, the following null hypothesis will be tested:

Ho:    Trade openness does not have any significant impact on output growth in Nigeria.

Ho:   There is no other macroeconomic variable (internal and external) that have significant impact on output growth in Nigeria.

Ho:   There is no linear association (correlation) between trade openness and output growth in Nigeria.

Ho:   There is no long run relationship between trade openness and output growth in Nigeria.

Ho:   There is no significant structural change in output growth between the pre-SAP and post-SAP period.

JUSTIFICATION OF THE STUDY

Nigeria is currently undergoing a series of transformation in every sector of the economy, including the external sector of the economy. The country’s economic policy in the last two decades had one dominating theme which is an integral part of the structural Adjustment programme (SAP) – trade liberalization. This policy was espoused on the argument that it enhances the welfare of consumers and reduces poverty as it offers wider platform for choice from among wider variety of quality goods and cheaper imports. Today, there are many existing literature on the topical issue of trade openness and growth of which some support the axiom that openness is directly correlated to greater economic growth with the main operational implication being that governments should dismantle the barriers to trade. The focal point of this research work is to identify the short comings and benefits of this argument as well as check the validity of this mainstream axiom I Nigeria in the presence of various internal and external shocks.

SIGNIFICANCE OF THE STUDY

The role of international trade in the developmental journey of an economy can not be over emphasized, especially with the current trend of globalization. Nigeria. Being part of the global village, is not left out of this world development. This research work is carried out to study how trade openness has influenced the performance of the Nigeria economy through output growth in the presence of other internal and external shocks. The findings of this research work transcend beyond mere academic brainstorming, but will be of immense benefit to federal agencies, policy makers, intellectual researcher and international trade think tanks that occasionally prescribe and suggest policy options to the government on trade related issues. It will also help the government to see the effectiveness of trade liberalization policy on the economic growth of the nation over the years. This research work will further serve as a guide and provide insight for future research on this topic and related field for students who are willing to improve it. It will also educate the public on various government policies as related to trade issues.