Project Materials

IMPACT OF SELECTED MACROECONOMIC VARIABLES ON CAPITAL INFLOW IN NIGERIA

Chapter One

Introduction

1.1 Background of the Study

Many emerging countries are noted for their low levels of domestic savings, which has hampered much-needed investment in economic development.

To achieve a desirable level of investment that will assure economic growth and development, developing countries require foreign savings to close the savings-investment gap.

Capital inflows are channelled through foreign direct investment (FDI), foreign portfolio investment (FPI), foreign loans and credits, and other mechanisms.

Increasing capital inflows are typically indicative of positive opinions of a market in the global economy, or an appealing business climate as a result of favourable tax structures or business-friendly policies.

A net flow of capital, real or financial, into a country occurs when foreigners increase their purchases of local assets or domestic residents lower their holdings of foreign assets. This is reflected as a positive, or credit, in the balance of capital statement.

Private capital inflows to Nigeria have increased dramatically in recent years. The primary drivers were the faster pace of reform, which resulted in a more stable financial system and a healthier macroeconomic situation. More fundamentally, global financial trends may have had a significant impact.

The fact that developing economies were generally less integrated with the rest of the world, or were perceived to be relatively immune to the crises that gripped big financial centres, made them look as temporary safe havens for foreign capital.

Because of the oligopolistic character of such economies’ marketplaces, capital flows to them increased dramatically in the 2000s, taking advantage of the continuing uncovered interest differentials as well.

For example, capital flows to Sub-Saharan Africa (SSA) rose from around $10 billion in 2000 to more than $50 billion in 2007. Nigeria got about 30% of the FDI inflows (IMF-REO, 2008).

Until the 2000s, foreign direct investments (FDIs) and debt were the primary sources of inflows into Nigeria. However, once the capital market opened up, the country began to attract significant inflows in the form of portfolio investment, particularly in 2004.

In recent years, the market has seen record inflows into both bonds and shares. As the global financial and economic crisis worsened, inflows decreased marginally beginning in mid-2008 but increased again in 2010.

Admittedly, the internationalisation of the Nigerian stock exchange has resulted in an increase in foreign portfolio investment into the Nigerian economy via the capital market, including foreign direct investment, foreign portfolio investment, overseas development assistance, and bank loans.

However, since the middle of the previous two decades, Nigeria has experienced a quasi-metamorphosis in the composition of private capital flows to the country.

Foreign portfolio investment appears to have taken centre stage, with its share of private capital flows to Nigeria growing so rapidly that by 2007, FPI had surpassed all other types of capital inflows into Nigeria, while official flows (ODA) and bank loans were declining in real terms (CBN, 2009).

Furthermore, according to the UNCTAD World Investment Report 2006, Nigeria received 70% of the sub-regional total and 11% of Africa’s total in terms of foreign direct investment (FDI) inflows. Nigeria’s oil sector garnered 90% of all FDI inflows.