Download the impact of foreign direct investments on the nigerian economy

THE IMPACT OF FOREIGN DIRECT INVESTMENTS ON THE NIGERIAN ECONOMY
BY
SHIRO ABASS A.
Department of Finance
University of Lagos
ABSTRACT
Generally, policies and strategies of Nigerian government towards foreign direct investments
are shaped by two principal objectives of desire for economic independence and the demand
for economic development. Multi national corporations are expected to bring into Nigeria,
foreign capital in the form of technical skills, entrepreneurship, technology and investment
fund to boost economic activities thereby, rising the standard of living of Nigerian.
The main issues in this paper relates to understanding the effects and impact of foreign direct
investments on the Nigerian economy as well as our ability to attract adequate amounts,
sufficient enough to accelerate the pace of our economic growth and development. From
related research and studies, it was revealed that multinational corporations are highly
adaptive social agents and therefore, the degree to which they can help in improving
economic activities through foreign direct investment will be heavily influenced by the policy
choice of the host country.
Secondary data were collected for the period 1970 to 2005. In order to analyse the data, both
econometric and statistical method were used. Tables were produced in order to create a
visual impression of the dependence of Nigeria economy on that of donor countries such as
Western Europe and North America. The economic regression model of ordinary least square
was applied in evaluating the relationship between foreign direct investment and major
economic indicators such as gross domestic product, gross fixed capital formation and index of
industrial production. The model revealed a positive relationship between foreign direct
investment and each of these variables, but that foreign direct investment has not contributed
much to the growth and development of Nigeria. This is evident in reality of enormous
repatriation of profits, dividends, contract fees, and interest payments on foreign loans.
The study thus suggest that in order to further improve the economic climate for foreign direct
investments in Nigeria, the government must appreciate the fact that the basic element in any
successful development strategy should be the encouragement of domestic investors first
before going after foreign investors.
1.0
INTRODUCTION
In order to seek the highest of return for capital, economists tend to favour the free flow of
capital across national boarders. It is against this backdrop that multinational companies seek
investment in foreign countries with reasonable risk. Nigeria is believed to be a high-risk
market for investment because of factors such as bad governance, unstable macro economic
policies, investment as a way out of Nigeria’s economic state of underdevelopment.
Since the enthronement of democracy in 1999, the government of Nigeria has taken a number
of measures necessary to woo foreign investors into Nigeria. These measures includes the
repeal of laws that are inimical to foreign investment growth, promulgation of investment law,
various overseas trips for image laundry by the president, among others.
The need for foreign direct investment is born out of the underdeveloped nature of the
Nigeria’s economy that essentially, hindered the pace of her economic development.
Generally, policies and strategies of the Nigerian government towards foreign investments are
shaped by two principal objective of the desire for economic independence and the demand
for economic development. There are four basic requirements for economic development
namely.
i)
ii)
iii)
iv)
Investment capital
Technical skills
Enterprise
Natural resources.
Without these components, economic and social development of the country would be a
process lasting for many years. The provisions of these first three necessary components
present problems for developing countries like Nigeria. This is because of the fact that there is
a low level of income that prevents savings, big enough to stimulate investment capital
domestically or, to finance training in modern techniques and methods. The only way out of
this problem is through acceleration of the economy by external sources of money (foreign
investment) and technical expertise. Foreign direct investment is therefore suppose to serve
as means of augmenting Nigeria’s domestic resources in order to carryout effectively, her
development programmes and raise the standard of living of her people.
According to Nwankwo, G.O.2 factors responsible for the increase need for foreign direct
investment by developing countries are:
o The world recession of the late 1970s and early 1980s and the resultant fall in
the terms of trade of developing countries, which averaged about 11% between
1980 and 1982.
o
High real interest rate in the international capital market, which adversely affected
external indebtedness of these developing countries.
o
The high external debt burden.
o
Bad macro economic management, fall in per capital income and fall in domestic
savings.
Foreign direct investments consist of external resources, including technology, managerial and
marketing expertise and capital. All these generate a considerable impact on host nation’s
production capabilities. At the current level of gross Domestic Product, the success of
governments policies of stimulating the productive base of the economy depends largely on
her ability to control adequate amount of foreign direct investments comprising of managerial,
capital and technological resources to boost the existing production capabilities. The Nigerian
government had in the past endeavored to provide foreign investors with a healthy climate as
well as generous tax incentives, but the result had not been sufficiently encouraging (as we
shall see in this research). Nigeria still requires foreign assistance in the form of managerial,
entrepreneurial and technical skills that often accompany foreign direct investments.
Total amount of income that will accrue to capital will be OR0BK0 while labour receives YBR0.
Given that Q = F (K, L), the total output in this country is the area under the marginal
efficiency of capital (MEC) curve and this output will be distributed between the two factors of
production, that is labour and capital.
For foreign direct investment to take place, the returns to capital in the United Kingdom must
be less than returns to capital in Nigeria, given that United Kingdom is more endowed with
capital utilization In response to this differential in returns to capital, there will be capital
movement from the United Kingdom to Nigeria and this will continue until the returns are the
same in the two countries. The amount of capital moved from United Kingdom to Nigeria is in
the form of foreign direct investment and hence, Nigeria’s stock of capital or investment fund
is increased.
2.0
LITERATURE REVIEW AND THEORETICAL REVIEW
2.1
FOREIGN DIRECT INVESTMENTS AND DEVELOPMENT: PROPONENTS AND
ANTI-PROPONENTS.
2.1.1 PROPONENTS — Most analysts believe that national and foreign private sector
enterprise, if permitted to operate in a competitive market condition will offer developing
countries the best prospects for speedy national economic growth. These analysts however do
not view multinational capital as panacea to developing countries. Amongst the proponents of
foreign direct investments are Peter Drucker, Harry Johnson, Gerald Mier, Sanjaja Hall, Paul
Strcter, Carlos, F, Ludiak, l.A, Manle, .F, Author Nwankwo and many more.
Harry Johnson argued that foreign investments bring to the home country, “a package of
cheap capital, advanced technology. Superior knowledge of foreign market for final products
and capital goods, immediate inputs and raw materials”. Similarly, Drucker has argued that
developing countries need to employ export oriented development strategies in order to meet
their foreign exchange and employment requirements and that such orientation is much more
likely to succeed if these countries can acquire “capital export markets”. Such markets he
maintained are precisely what multinational companies with their worldwide sourcing and
marketing can offer. Gerald Mier contends that from the stand profit of national economic
benefit, the essence of the case of encouraging the inflow of capital is that the increase in real
income resulting from the act of investment is greater than the resultant increase on the
income of the investor. This is also the view held by Mactougal when he stated that a
moderate inflow of investment in an economy is beneficial.
The chief benefit of foreign direct investment, according to these writers, is the accompanying
“package deal” of technical and managerial skill. This may be costly, difficult or impossible to
obtain in other alternative investment means. The less developed a country is, the less able it
is as a rule to utilize patents, technical advice and contract management assistance without
taking the whole package. This view was supported by Penrose (1961) and Chenery (1966).
2.1.2 ANTI-PROPONENTS — some analysts (known as the dependence school) are strongly
opposed to pro foreign direct investment perspectives. Their arguments are based on series of
studies and research carried out. Such analysts include Dos Santos, Ronald Multer, Cardose,
Euzo Falleto, Dr. Fashola and many others.
Theofonio Dos Santos argued that developing countries’ economic difficulties do not originate
in their isolation from advanced countries, but that the most powerful obstacle to their
development came from the way they are joined to their international system. Multer, R
maintained that multinational corporations transfer technologies to developing countries that
result in mass unemployment; that they monopolize rather than inject new capital resources;
that they displace rather than generate local business and that they worsen rather than
ameliorate the country’s balance of payment.
Overall, the dependent school rejects the pro foreign direct investment analysts’ depiction of
the benefits derived from participation in the international economy. Dr Fashola, for example
argued that most of the policies adopted by Nigeria since the SAP era are qualitative in nature
and as such are yet to be effective in turning round for the better economic fortunes of the
nation.
More recently, a new body of literature emerged and challenged the pro-foreign direct
investment optimist about the long-term negotiating and benefiting prospects of the world.
What might be labeled the structuralized school has argued that developing countries may in
fact experience a long-term decrease in their power over high technology manufacturing
system. Their arguments were based on what scholars learnt empirically about the behaviour
and effects of multinational companies in developing countries. Results of some of their
studies are.
i)
Bornshier and Jean in a multiple regression analysis of variance in growth of GNP per
capital in 76 developing countries (Nigeria inclusive) between 1960 to 1975, found out
that their flow of foreign direct investment were associated negatively with growth in
income per capital. Other studies by Michael Dolan and Brain Tomlin appeared basically
to confirm Bormshier’s observations.
Also, Robert Johnson in his regression analysis of growth per GNP in 72 countries
between 1960 to 1978, found stocks of foreign direct investment to be positively
associated with economic growth at statistically significant level for relatively advanced
economies. He therefore concluded that once the size of a developing country is taken
into account, the level of direct investment has no consistent effect on growth.
ii)
Vincent Mahler (1976) carried out an analysis of 68 least developed countries and found
a statistically significant association between income concentrated in the 6 percent to 20
percent of the population and foreign direct investment in manufacturing but not in
mining and agriculture.
iii)
Several studies were also conducted to estimate the economic desirability of the
technology brought to developing countries by multinational corporations. It was found
that royalty payments, technical tees, tie-in-clause leading to the purchase of over priced
immediate goods, export restrictions and other limitations had resulted in technology
acquisition during most of the sixties to become major burden
In conclusion, considering the wide range of conflicting empirical studies on how foreign direct
investment in developing countries affect the rate of aggregate growth, distribution of income,
employment and some non-economic indicators like culture and political structures, one
cannot draw conclusions from them with any minimal acceptable level of confidence. Perhaps
the warning of Arthur Nwankwo is appropriate in this context where he warned that no nation
could provide for the welfare of its citizens as long as its economy is fettered. More so, many
studies have shown that multinational corporations are highly adaptive social agents and
therefore, the degree to which foreign direct investment helps or hurts a developing country
will be heavily influenced by the policy choice of the host country.
3.0 EMPIRICAL ANALYSIS
3.1
MODEL SPECIFICATION
The under listed variables are used in building the model.
FDI Foreign Direct Investments
GFCF
Gross Fixed Capital Formation
GDP Gross Domestic Product
llP Index of Industrial Production
The models will therefore be:
GPD = b0 + b1FDI + u..............(equation 1)
GFCF b0 + b1FDI + u
............... (equation 2)
lIP = bo + b1FDI +u
................(equation 3)
These models, which are used in gauging and assessing the performance of the economy,
make the economic indicators functions of the level of cumulative foreign direct investment. If
we assume a linear relationship (logarithm), then the model equations become.
Log GPD
Log GFCF
Log lIP
=
=
=
b0 + b1Iog FDI + u...........(equation 1)
b0 + b1log FDI + u............(equation 2)
b0 + b1log FDI + u............(equation 3)
From the model
Log GOP
= b0 + b1 FDI
Log GOP
= 0.159 + 1.237 log FDI
Standard Error (Se)
= 0.158
Correlation coefficient (r)= 0.99
t
= 1.03
1
t2
= 0.037
3.2 Interpretation of Results
The first noticeable thing about the above result is that Gross Domestic Product is positively
related to foreign direct investments. The responsiveness of GDP to FDI to 1.237 indicates
that a one percent increase in foreign direct investment leads to a more than proportionate
increase of 1.24 percent in gross domestic product.
A correlation coefficient of 0.99 indicates a very strong relationship between economic growth
(measured by GDP) and foreign direct investments, thus leading to the rejection of our
alternative hypothesis and acceptance of our null hypothesis, which states that there is a
relationship between foreign, direct investment and economic growth.
Also, a test of the significance of the intercept and gradient of our model is found to be
statistically significant through a test of standard error. Thus given that:
H0 : a = 0
H1 : a + 0, for significance of intercept
And
H0 = 0
H1 : B + 0, for significance of gradient.
For t1 since the computed value of 1.02 is less than 2.042 (value from t table), we reject H1
and accept H0 which states that there is a relationship between foreign direct investment and
economic growth. For t2 since the computed value of 0.037 is less than 2.042 (value from t
table), we reject H1 and accept H0 which states that there is a relationship between foreign
direct investment and economic growth.
From the model
Log GFCF
=
Log GFCF
=
Standard Error (Se)
=
Correlation coefficient (r) =
T
=
l
t2
=
b0 + b1 FDI
0781 + 0.873 log FDI
0.199
0.95
9.41
41.57
3.3 Interpretation of Results
The results from this model shows that there exist a direct functional relationship between
foreign direct investment and standard of living, such that the elasticity of gross fixed capital
formation with respect to foreign direct investment is 0.873.
A correlation coefficient of 0.95 indicates a very strong relationship between foreign direct
investment and gross fixed capital formation (which could be used as a measure of standard
of living). Also, a test of the significance of the intercept and gradient of our model is found to
be statistically significant through a test of standard error. Thus given that
H0 : a = 0
H1: a + 0, for significance of intercept
And
H0: B = 0
H1 : B + 0, for significance of gradient
For t1 since the computed value of 9.41 is greater than 2.042 (value from 1 table), we reject
H0 and accept H, which states that the inflow of foreign direct investment has not affected the
standard of living of Nigerians. For 12 since the computed value of 41.57 is greater than 2.042
(value from t table), we reject H0 and accept H, which states that the inflow of foreign direct
investment has not affected the standard of living of Nigerians.
3.4
Interpretation of Results
The above results show a positive relationship between foreign direct investment and
industrial production. The elasticity of the index of industrial production with respect to foreign
direct investments of 0.14 indicates that one percent increase in foreign direct investment will
lead to fourteen percent increase in the level of industrial output.
The coefficient of explanatory variable of foreign direct investment is also significant,
statistically at 8.5 percent. The correlation coefficient of 0.78 shows high positive relationship
between foreign direct investment and index of industrial output.
Also, a test of the significance of the intercept and gradient of our model is found to be
statistically significant through a test of standard error. Thus given that:
Ho:
a=0
H1 : a + 0, for significance of intercept
And
H0 : B
=0
H1 : B + 0, for significance of gradient.
For t1 since the computed value of 936 is greater than 2.042 (value from t table), we reject
H0 and accept H, which states that the inflow of foreign direct investment is not associated
with the rate of increase in index of industrial production. For t2 since the computed value of
7.05 is greater than 2.042 (value from t table), we reject H0 and accept H1
4.0 CONCLUSIONS AND POLICY RECOMMENDATIONS
4.1 CONCLUSION
Given the above situation and the fact that Nigeria’s economic recovery efforts and growth
requires major private sector investment in modern equipments that can industrialize the
agricultural sector and the economy as a whole, then the Nigeria’s foreign investment policy
should move towards attracting and encouraging more inflows of foreign capital by moving
ahead with economic programmes that includes measures easier set-up and expansion of
businesses.
In the years ahead, Nigeria (and many other African and third world countries) in trying to
pave way for more foreign direct investment faces greater problems, especially with poor
external image problem and particularly the concept of European Economic Unity that includes
Eastern Europe. This translate to the fact that investment flows that would ordinarily have
come from countries of surplus capital like Western Europe to capital deficient countries like
Nigeria would now be going to poor European Economic Communities which includes Eastern
Europe. Except African countries are able to adopt new strategies, this development will
further compound the crises of under-development confronting countries like Nigeria. A very
important challenge of management in the coming years would therefore be the development
of indigenous technology and entrepreneurial capabilities as the involvement of multinational
companies in our economy may dwindle as a result of new bigger and attractive opportunities
that are likely to emerge from Europe.
With the up and down movement of foreign direct investment, Nigeria needs to juxtapose
foreign investment with domestic investment in order to maintain high levels of income and
employment. The problem therefore does not lie so much with the magnitude of investment
flows to Nigeria as with the form in which it Is given. We could emphasize that foreign
investment cannot contribute much to the economic development of Nigeria if it is directed
primarily to capital supply than to investment projects. Foreign investment can be very
effective if it is directed at improving and expanding managerial and labour skills. In other
words, the task of helping a “poor beggar” can be made less generous and yet more fruitful if
it is directed at teaching him a trade rather than giving him food to eat.
The analysis presented in this work does not offer a simple version of multinational
corporation investment in Nigeria because the picture in complex. Foreign direct investment
can make a valuable contribution to third world countries’ development in general and Nigeria
in particular, but not all foreign direct investment doe so. Greater flows of investment fund’s
climate in the Nigeria economy are important but a good investment climate is not
synonymous with what multinational corporation prizes most.
In conclusion, in order to further improve the climate for foreign investment in Nigeria, the
government must appreciate the fact that the basic element in any successful development
strategy should be to encourage domestic investors first before going after foreign investors,
considering the fact that they constitute the bulk of investment activities in the economy.
Thus, the most effective strategy for attracting foreign investment is to make the Nigerian
economy very attractive to Nigerian investors first.
4.2 POLICY RECOMMENDATIONS
The following policies are hereby recommended to policy makers and government, if it is
desired that foreign investment contribute to the growth and development of Nigeria.









The Nigerian government should encourage the inflows of foreign direct investment and
contact policy institutions that can ensure the transparency of the operations of foreign
companies within the economy.
In evaluating foreign direct investment, the screening process should be simplified and
improved upon. For example, export investment projects that consistently generate
positive contribution to national income can be screened separately and swiftly, while
projects in import competing industries should be screened separately.
Efforts should be made to engage in joint ventures that are beneficial to the economy.
Joint ventures provide for a set of complementary or reciprocating matching
undertakings, which may include a variety of packages ranging from providing the
capital to technical cooperation. The government should intensify the policy to acquire,
adopt, generate and use the acquired technology to develop its industrial sectors.
Efforts should continue, this time with more vigor at ensuring consistency in policy
objectives and instruments through a good implementation strategy as well as good
sense of discipline, understanding and cooperation among the policy makers.
The Nigerian government needs to come up with more friendly economic policies and
business environment, which will, attracts FDI into virtually all the sectors of the
economy.
The Nigerian government needs to embark on capital project, which will enhance the
infrastructural facilities with which foreign investors can build on.
The current indigenization policy should be pursued to the letter as a way of preventing
absolute foreign ownership in the key sector of the economy.
The Nigeria government should also carry out the liberalization of all the sector of the
economy so as to attract foreign investors, so that the current efficiency and growth
noticed in the telecommunication sector can also be enjoyed there.
For Nigeria to generate more foreign direct investments, efforts should be made at
solving the problems of government involvement in business; relative closed economy;
corruption; weak public institutions; and poor external image. It is therefore advised
that the government continues with its privatization programme, external image
laundry, seriousness and openness in the fight against corruption, and signing of more
trade agreements.
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