On the Non-Linear Relationship between Fiscal Deficit and Inflation: The Nigeria Experience

• Published in: International advances in economic research Vol. 27; no. 2; pp. 105 - 117
• Main Author: Oyeleke, Olusola Joel
• Format: Journal Article
• Language: English
• Published: New York Springer US 01.05.2021; Springer Nature B.V
• Subjects: Debt financing; Economic Growth; Economics; Economics and Finance; Foreign exchange rates; Interest rates; International Economics; Macroeconomics/Monetary Economics//Financial Economics; Microeconomics; Nigeria; Inflation; E30; C10; H60; Fiscal deficit; Non-linear; Nigeria
• ISSN: 1083-0898; 1573-966X
• DOI: 10.1007/s11294-021-09822-7

Based on linear models, the bulk of empirical studies have confirmed that large and persistent fiscal deficits are inflationary in most developing economies including Nigeria. However, non-linearity between the variables has not been a subject of consideration in empirical research. This study investigated the non-linear relationship between fiscal deficits and inflation in Nigeria from 1981 to 2015. Annual data used for the analysis were obtained from the Central Bank of Nigeria Data & Statistics, and World Development Indicators. The autoregressive distributed lag method of estimation was employed to analyse the data. The autoregressive distributed lag bounds test technique of co-integration results displayed evidence of a long-run relationship among inflation, fiscal deficit squared, real interest rates and real exchange rates. The findings revealed that, both in the long run and short run, fiscal deficit squared was positive and statistically significant, indicating the existence of a non-linear relationship between fiscal deficits and inflation in Nigeria. Furthermore, the study found that the lag (1) of real exchange rates had a negative and statistically significant effect on inflation dynamics only in the long run, while real interest rates had no effect on inflation during the period. Authorities in Nigeria should adopt a new method of debt financing to ensure fiscal consolidation that would be more effective in price stabilisation.