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Chapter one


1.1. Background of the Study

The importance of the financial sector in any economy cannot be overstated, given its ties to the rest of the economy.

In the age of globalisation, an efficient financial sector is critical for attracting profits from the global market while also protecting the home economy from foreign shocks. The financial system may also respond to the domestic economy.


Furthermore, the role of financial institutions in promoting economic growth has been extensively addressed in the literature, with numerous schools of thought expressing their opinions and ideas.

Schumpeter (1911) described banks as intermediaries that facilitate technical progress. He believed that efficient savings allocation through identifying and backing entrepreneurs with the best odds of successfully implementing innovative goods and manufacturing processes were strategies for achieving this goal.

Several experts (McKinnon 1973, Shaw 1973, Fry 1988, King and Levine 1993) have supported the aforementioned assertion about the importance of banks to economic growth.

A growing number of recent empirical studies have used metrics of size or structure to show evidence of a correlation between financial system development and economic growth.

They used macro or sector-level data, such as the scale of financial intermediation or external financing relative to GDP, to conclude that financial development had a considerable impact on economic growth.

For the past few decades, theoretical disputes on the relevance of financial development and the role of financial intermediation in economic growth have remained contentious, earning a prominent place in the literature of development finance.

Studies by Gurley and S haw (1967), Goldsmith (1969), Jayarante and Strahan (1996), Kashya and Stein (2000), Beck et al. (2000, 2003), Driscoll (2004), and others suggest that financial development can promote economic growth by increasing savings, improving the allocative efficiency of loanable funds, and promoting capital accumulation in both developed and emerging economies.

Despite recent results indicating financial development and economic growth are clearly associated, economists have been preoccupied with this relationship for a long time; nonetheless, the pathways and even economists of causation have remained unclear in both theory and empirical research (Fitzgerald, 2006).

Bayoumi and Melander (2008), along with King and Levine (1993), established that the banking sector’s development in Europe was not only correlated with economic growth but also a cause of long-term growth, and thus we can assert that financial sector growth (banking sector growth) has a strong influence on economic growth in Nigeria.

Finally, the goal of this research is to examine the connection as well as the results of the public sector thus far, in order to determine whether it offers and/or provides an efficient and/or effective means of addressing the issues confronting Nigeria’s economic growth.

A recent analysis, however, reveals that the banking sector is more essential than previously thought (World Bank, 1996; Almeyda, 1997).

1.2. Statement of the Problem

The banking sector (financial sector) is recognised as having enormous potential for job development and wealth creation in every economy.

In Nigeria, the sub-sector has stagnated and is relatively minor in terms of contribution to GDP and employment creation.

However, a number of issues have hampered the financial sector’s expansion and effectiveness in contributing to Nigerian economic development. The performance of the financial sector may influence the growth of the real sector

which in turn may have an impact on economic growth. However, the financial sector has been impacted by multiple rounds of changes and problems. The recapitalization programme resulted in the closure of several banks.

Five of the recapitalized institutions’ top executives were accused of fraud and changed, resulting in operational inconsistencies.

Similarly, microfinance banks and insurance businesses had their capital bases examined. More recently, Nigeria’s central bank and monetary policy council raised interest rates to reduce inflation in the country (ogboi, 2011).

These are only a few of the many sector reforms. Furthermore, the Manufacturing Association of Nigeria (MAN), as mentioned in Amefule (2011), reported that Nigeria lost 1.9 million due to a hard operating environment, including financial issues.

Based on the foregoing, we are well positioned to address the most fundamental concerns about the impact of financial sector development on Nigerian economic growth.

1. How will the growth and development of the financial industry affect Nigeria’s economic growth?

2. How will financial sector services affect investment?


1. To examine the effect of financial sector growth/development on economic growth in


2. To determine the causal relationship between financial sector expansion and economic growth.

(i.e. what is causing which).

1.4 Hypothesis of the Study

H0: Financial sector growth and development have a substantial impact on economic growth.


H1: Economic and financial sector growth are causally related.

1.5 Significance of the Study

Since Nigeria’s emergence as a nation in 1960 and her establishment as a republic in 1963, practically all aspects of the Nigerian economy have seen significant change; while certain sectors/areas of the economy have improved, others remain in poor shape.

As a result, the study’s most important finding is the significance of both commercial bank and financial sector growth to Nigeria’s economic growth.

As a result, this research would provide an in-depth analysis, allowing the public to completely understand the nitty-gritty of the financial sector and, eventually, become highly familiar with economic growth trends.

Furthermore, the Nigerian government has prioritised financial sector development in its consecutive development plans.

A review of the banking sector’s problems is extremely important. Such a study will enable the sector to meet the ever-increasing need for it, and with such incredible knowledge, we can thus support economic growth by implementing appropriate economic policies.

Finally, because the basis of any research activity is to build on and add to the existing bank of information, this study promises to build on and significantly add to the deposit of knowledge in the areas of financial sector growth and economic growth. It would also help us grasp the close relationship between the financial industry and economic growth.

1.6 Scope and Limitations of the Study

The study examines the function and contributions of the financial system/sector to the economy. Also, the study does not take into account other sectors of the economy, focusing solely on the financial sector’s activities and how they drive growth.

Similarly, despite all chances, this work contains knowledge that is trustworthy and authentic. Another possible weakness of the analysis is that the credit ratios utilised in the study do not account for financial development that occurs outside of the banking system, such as the stock or bond markets.

However, it may be of smaller consequence because financial development is mostly driven by the banking sector, and alternative channels are still in their early stages.

According to Demirguc-Kunt and Levine (2008), a more general shortcoming shared by all studies of the finance-growth nexus is that financial institutions promote economic growth by lowering information and transaction costs, monitoring borrowers, managing risks, or facilitating the exchange of goods.

However, researchers lack adequate measures to assess how successfully a financial system provides these types of services to the economy.

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