Home Instructors Journals ContactUs






Contact Us



Dr. Linus Eze Akujuobi
Department of Project Management Technology
 Federal University of Technology, Owerri

and  Anastasia C. Onuorah
  Department of Banking and Finance, Delta State University, Asaba

Countries, particularly developing ones embark on programmes that promote economic development. In line with economic development theories, such countries borrow to do this when they do not have enough savings to match the level of desired investment. This has led to serious debt burden problems that are feared to impact negatively on economic development. This problem is investigated in Nigeria and while internal debts were found to have significant impact on economic development, external debts had a negative impact. It is therefore recommended that the country should rely more on internal loans and borrow externally, when necessary only for real productive projects.

Keyword:        Debts, Economic Development, Debt Overhang, Crowding out effects.

Countries are supposed to provide electricity, good roads, hospitals, schools and other good things of life to their citizenry. Such items are in most cases taken as representing economic development in the countries. To provide these, the countries need funding, which in the first instance comes in form of savings from the people.

To provide economic development, four schools of thought came into existence following World War II – structuralism, the linear – stages – growth model, the neo-Marxist or dependency theory, and the neoclassical revival of the 1980s. The structuralist school believes that development must be state-led. This means that development must be achieved through internal expansion of the local economy. The deficiencies of this approach include major inefficiencies associated with government. The linear-stages-of-growth model is the Western European view of economic development.
Rostow Development model is representative of it and according to Akujuobi (2006) the model takes a stage-by stage approach and needs savings and or borrowing for sustainable economic development to take place. The Neo-Marxist approach believes that advanced capitalist countries exploit developing countries. This is modified Marxist principle. The Neoclassical Revival group believes in private markets and does not believe in government intervention. It is believed that this framework was the basis for the massive economic changes that occurred in Latin America after the onset of the debt crisis in the early 1980s and for the equally profound transformation of socialist economies after the fall of the Soviet Union.

Of all these approaches, many developing countries, including Nigeria, relied on the linear – stages growth model. Based on this and the fact that savings have been less than the required level of investment, Nigeria borrowed heavily, both externally and internally.
The external and domestic debts continue to increase in most developing countries, including Nigeria, because the countries are in a hurry to develop and the funds for development can not be generated by the governments. In support of this, King (2005) stated that the Nigerian State is constantly under extreme pressure, with never enough money for poverty reduction and basic social services and has run a fiscal deficit of 5-10% of GDP. In spite of this, people question the economic gain of the heavy debt burden.

The Problem
There is, in the light of the foregoing, the problem of heavy debt burden, with questionable impact on economic development of Nigeria. The over-dependence of Nigeria on loan capital for the economic development of Nigeria has led to serious debt overhang.

OBjectives of the Study
To investigate the problem, the general objective of this study is to examine the impact of debts on the economic development of Nigeria. Specifically, however, the study investigates.

  • How Nigeria’s external debts have affected the economic development of Nigeria, represented by Gross Domestic Product.
  • How the internal debts of Nigeria has impacted on the economic development of Nigeria.
  • There is no significant relationship between the external debt profile of Nigeria and her Gross Domestic product (GDP).
  • There is no significant relationship between the internal debt profile of Nigeria and her Gross Domestic Product (GDP).


Debts and Economic Development

One of the theories connecting external debt and economic development is the debt overhang theory. Krugman (1989) sees debt overhang as a situation in which the expected repayment on foreign debt falls short of the contractual value of the debt and showed that there is a limit at which accumulated debt stimulates investment and growth. The same way, Borenszten (1990) argued that the debt overhang crisis is a situation in which the debtor country benefits very little from the returns on any additional investment because of the debt service obligation. In line with these, Desta (2005) found that a negative relationship existed between external debt and economic growth which justified the existence of the debt overhang hypothesis. Similarly, Iyoha (1999) found that in sub-Saharan African countries the external debt to GNP (EDTGNP) ratio is high and creates debt overhang problems which consequently affect investment and growth negatively. It is based on the premise that, if debt will exceed the countries repayment ability, there is a probability that in future, expected debts service is likely to have an increasing function of the country’s output level. As a result of this, since part of the future return on any investment will accrue to the creditor as bigger debt service payments, it discourages capital accumulation and promotes capital flight. (Elbadawi et al, 1997; Koeda, 2006).

According to Elbadawi et al (1997) external debt affects economic growth through direct and indirect channels. Through direct way, debt accumulation expressed as a ratio of debt to GDP stimulates debt initially, while past debt accumulation impacts negatively on growth. These two channels produce a debt-laffer curve, which shows that there is a limit at which debt accumulation stimulates growth. When this limit is reached, further debt accumulation impacts negatively on growth. In addition, the third channel works through a liquidity constraint where debt service obligations reduce export earnings available for expenditures and so impacts negatively on growth. The indirect channel is one in which as a result of the reduction in available resources, governments’ ability to expand the economy is constrained and growth is therefore compromised.

Capital flight, in the context of external indebtedness has three major consequences, according to Ajayi and Khan (2000). In the first instance, any amount of money set away to foreign countries cannot contribute to domestic investment. In this way, capital flight is a diversion of domestic savings away from domestic real investment. In addition, income and wealth, which are held abroad, is outside the purview of domestic authorities and therefore cannot be taxed. This means that potential government revenue is reduced as well as the capacity of government to service its debts.

Furthermore, income distribution is negatively affected by capital flows. The poor citizens are subjected to austerity measures in order to pay for external debt obligations to external creditors who in turn pay interest to citizens from these countries with assets abroad. In line with these, Were (2001) finds that Kenya has a debt overhang problem and that the country’s external debt has a negative impact on economic growth and private investment. Similarly, Iyoha (1999) found that mounting external debt depresses investment through both a “disincentive” effect and a “crowding out” effect.

For internal debt, Lerner’s model postulates that internal debt creates no burden for the future generation members as the future generation simply owes it to each other. When the debt is paid off, there is a transfer of income from one group of citizens to another. However, the future generation as a whole is not worse off in the sense that its consumption level is the same as it would have been. This is different for the external debt because if borrowed fund is used to finance current consumption, the future generation certainly bears a burden. This is because its consumption level is reduced by an amount equal to the loan plus the accrued interest that must be paid to the foreign lender. If, however, the loan is used to finance capital accumulation, the outcome depends on the projects’ productivity. If the marginal return on the investment is greater than the marginal cost of funds obtained abroad, the combination of the debt and capital expenditure actually makes the future generation better off. If, however the projects return is less than the marginal cost, the future generation is worse off.

Okonjo-Iwuala (2001) in her article – Managing Nigeria’s debt: Institutional and Governance aspects – noted that while a great deal of attention has been paid to the size, structure, repayment profile and economic impact of Nigeria’s debt, until recent relatively little attention has been accorded to the institutional arrangements for proper management of the debt. Yet institutional arrangement and governance structure or the lack thereof can themselves significantly affect the size and structure of a country’s debt and its economic development in general.

Research Methodology 

In scope, the study covers the period  1980 – 2002 for internal debts, external debts and gross domestic product of Nigeria.

For the purpose of finding out the impact of internal debts and the external debts on economic development of Nigeria, the multiple regression analysis method was used. The regression analysis measures the relationship between one variable (dependent variables) and other variables (independent variables). (GDP dependent variable) is represented in the research with the letter (Y). Internal debts and external debts were collectively and individually used as the independent variables for assessment of the debts’ impact (explanatory variables) on Gross Domestic Product of Nigeria.
They are:

  • Internal debts ……………………….………….………  (X1)
  • External debts .……….…………………………………  (X2)

The multiple regression model was used to test the joint effect or impact and individual contribution of the independent variables to GDP. Here F – test is used to test the overall significance of the explanatory variables taken together. Student t test was used to test for the significance of each explanatory variable contributing to the impact of debts on Nigerian Economy.

Finally, the Analysis Of Variance (ANOVA) was used to test the significance of the regression model as a whole.

 The Model
The mathematical form of the equation used; multiple regression models exploiting the least square approach. The equation of the regression is given by: -
Y = b0 + b1x1 + b2x2 + ……….. bk x k+mt
The coefficient of multiple determination is given by: -
R2 = Y. x1x2…………….mt
Then, stating the regression equation to reflect this research we have Y = b0 + b1x1 + b2x2 + mt
B0 = The intercept parameter
B1 = b6 = Betas are the regression coefficient or the slope parameter for various explanatory variables X1 –X6
x1   = Internal Debts
x2  = External Debts

The term mt is the stochastic term of the regression introduced to represent the unexplained variation encountered in the modeling since in real life situation chance events to occur which can make the model not to record 100% success. However, the principal assumption here is that mt is a random variable with a normal distribution, zero mean and constant variance

Data Presentation and Analysis
Data for internal and external debts in Nigeria from 1980 – 2002 and the corresponding GDP for the years are given on table one while the results of the analysis are given on tables 2, 3 and 4.

Table 1:          Profile of Nigeria’s Internal /External Debts and her Gross Domestic Product (GDP).
N Million


Domestic or Internal Debts

External Debts

Gross Domestic Product





























































































Source:           CBN

Table 2: ANOVA b


Sum of squares


Men square





8E + 013


4.109E + 013



3E + 012


1.746E + 011



9E + 013





  • Predictors (Constant) Ext Loans, Int. Loans
  • Dependent variable : GDP

Table 3: regression Outputs of Debt Types Against GDP

Independent variable



Coefficient of the variable



Standard error



T- Statistic



T- tabulated, 2-tailed with 1% = 0.005







Not significant

Table 4:          Model summary b



R square

Adjusted R

Std error of the estimate

Durbin Waston







  • Predictors : (Constant) Ext loan, Int. loans
  • Dependent variable : GDP

Test of Model Significance 

In testing the model significance, we compare the computed F-ratio. Here from Table 2, the calculated F-ratio, degrees of freedom (K,1; N-K or 3-1; 23-3 = 2, 20) is given as
F-calculated = 235.362
F-tabulated, 1% = 3.49
Since F-calculated is greater than F-tabulated (235.362>3.49), we reject Ho and conclude that there is a significant relationship between the debt types and economic development, represented by GDP.
We, therefore, reject H0 and accept that the model is significant and the resulting regression model is estimated as:
GDP = -97922.41 + 7.071X1 – 0.52 X2
Where  X1 = Internal debts
                        X2 = External debts


Recalling that F-test only tested the extent of significance of the model as a whole, there is therefore, the need to carry out a test on the influence of the individual explanatory variables on economic development. This means that the t-test tests the extent of contribution of each explanatory variable to changes in the gross domestic product, used as a proxy for economic development.
A look at Table 3 shows t-calculated at 1% level of significance as 6.560 for internal debts and -1.567 for external debts while the t-tabulated is 2.85. This means that as the t-calculated for internal debts is greater than t-tabulated, the null-hypothesis is rejected and the alternative accepted that internal debts contribute positively and significantly to economic development of Nigeria. On the other hand, the result for external debts shows that they not only contribute negatively to economic development of Nigeria but also have insignificant relationship. These results have very serious implications to Nigeria.

Discussion of  Results
In this study, we were able to establish the following facts:
1.         A strong and significant relationship exists between internally sourced debts and Nigeria’s Gross Domestic Product. This result is in tandem with already held belief. Internal or domestic debts, as we know are public debts owned to individuals, organizations, and institutions within an economy. It simply connotes the fact that an economy owes itself. Upon maturity of any debt instrument payment of interest or income is simply transferred from one citizen to another including corporate citizens. Apparently, the net transfer of income is quite small. Servicing of internal debts, does not alter the national income. Thus, the net effect of domestic debt is that it adds value to the economic growth/development of any nation, if utilized well.
Simply put, domestic debts maintain a positive and significant relationship with the workings of the economy as it enhances the economic growth, maturity profile and development of any given nation. 
  • There is no significant relationship between the amount of external debts obtained by Nigerian government and her Gross Domestic Product (GDP).

This result appears to be inconsistent with already held belief, but in line with results of what obtained in Kenya and Malaysia (Were, 2001; Ariff and Cheen, 2001). Some explanations and analysis are necessary at this juncture, to drive home this point.

    • High external debt acts as a tax on future output and reduces the incentive for savings and investments. A negative relationship is therefore expected between the indicators of external debt burden and investment/economic growth and development.

The liquidity constraint hypothesis or the crowding out effect applies here. This simply implies here that the resources utilized to service debt reduce the amount of resources available for investment purposes. Thus, binding liquidity constraints on external debt would produce a negative effect on investment/economic growth and development.
The effect of large external debt on the growth and development of Nigeria has two sides to it. They are the direct and indirect channels. In the direct channel, Nigeria’s debt accumulation expressed as a ratio of her debt to her Gross Domestic Product stimulates debt initially, while past debt accumulation (debt overhang) impacts negatively on growth. These two channels produce a debt-laffer curve, which shows that there is a limit at which debt accumulation stimulates growth. When this limit is reached further debt accumulation impacts negatively on growth.
Nigeria as a nation could be said to have gotten to this limit in 1986, Recall that 1986 was the period of the introduction of structural Adjustment Program (SAP) to the Nigerian economy.
The SAP introduced exchange rate devaluation and trade liberalization, as its major instruments to the Nigerian economy. The devaluation of exchange rate raised the naira value of Nigeria’s external debt.
From 1986, our external debt as a percentage of GDP rose and remained very high almost throughout the rest of the period under review. In fact external debt was more than GDP during the period 1989-1991.
Generally, external debt as a percentage of GDP fluctuated moderately until 1981. It took the first leap in 1982, which it sustained by leaps and bounds for almost throughout the period under review.

    • The third channel works through a liquidity constraint, where debt service payment obligations reduce export earnings available for expenditures and thus impacts negatively on the growth of our nation’s economy.
    • The indirect channel is one in which as a result of the reduction in available resources, government’s ability to expand the economy is constrained. Since there cannot be any meaningful economic growth without money, the country’s economic development, thereby became compromised.
    • Given the negative effect of external debt on Nigeria’s economy, there is a need to discuss the issue of debt fundamentally from the point of views of the political dimension and the growth prospects of Nigeria.  Nigeria has been saddled with inept and corrupt governments. The nation’s wealth has been looted/frittered away. Funds that ought to have been ploughed into the economy to help develop it are being starched away in foreign bank accounts.

Even the so-called borrowed funds are not spared. They are not judiciously utilized on projects that can take care of their principal / interest repayments. Most of these external loans, which were obtained at unreasonable terms and interest rates, still find their way back to foreign accounts. This, is itself  a major source of drain to our economy.
This capital flight has a number of negative consequences and in the context of external indebtedness, three of these consequences impacted negatively on the country’s Gross Domestic Product (GDP).

  • First, any amount of money sent away to foreign countries cannot contribute to domestic investment.
  • Income and wealth, which are held abroad are outside the purview of domestic authorities and therefore cannot be taxed.  Thus potential government revenue is reduced, constraining the debt servicing capacity of government debt.
  • Income distribution is negatively affected by capital flows. The poor citizens of Nigeria are subjected to austerity and other belt tightening measures in order to pay for external debt obligations to international creditors.

Conclusion and Recommendations
In line with some economic development theories, Nigeria borrowed to promote and fast-track economic development. However, while internal debts contributed significantly to the economic development of Nigeria, external debts contributed negatively to it. It is therefore, recommended that the country should as much as possible borrow internally whenever the need arises. If, however, there is any reason to borrow externally, such loans should be channeled to real productive projects that are capable of contributing positively instead of to consumables.


Ajayi, Si Ibi and M. Khan (2000). External Debt and Capital Flight in Sub-Sahara Africa. Washington
D.C: International Monetary Fund.

Akujuobi, L.E. (2006). Investment Analysis. Owerri: Osprey Publication Center.

Ariff, Mohamed and Lim Chze Cheen (2001). “Mobilizing Domestic and External Resources for Economic Development: Lessons from Malaysian Experience”. Asia-Pacific Development Journal,
Vol. 8. No. 1, June.

Borensten (1990) Cited in Desta, Melese Gizaw (2005). “External Debt and Economic Growth in Ethiopia”. African Institute for Economic Development and Planning (IDEP).

Desta, Melese Gizaw (2005). “External Debt and Economic Growth in Ethiopia”. African Institute for Economic Development and Planning (IDEP)

Elbadawi, et al (1996). Cited in Desta, Melese Gizaw (2005). “External Debt and Economic Growth in Ethiopia”. African Institute for Economic Development and Planning (IDEP)

Iyoha, Milton A. (1999). “External Debt and Economic Growth in Sub-Saharan African Countries: An Econometric Study”. African Economic Research Consortium.

King, David T. (2003). USAID/Nigeria Economic Growth Activities Assessment (Transition Summary Report). Arlington: IBM Business Consulting Services.

Koeda, Junko (2006). “A Debt Overhang Model for Low-Income Countries: Implications for Debt Relief”. IMF Working Paper No. WP/06/224.

Krugman (1989). Cited in Desta, Melese Gizaw (2005). “External Debt and Economic Growth in Ethiopia” African Institute for Economic Growth in Ethiopia (IDEP).

Okoujo-Iwuala, Ngozi (2003). The Debt Trap in Nigeria: Towards a Sustainable Debt Strategy. Asmara: African World Press incorporated.

Were, Manreen (2001). “The Impact of External Debt on Economic Growth and Private Investments in Kenya: An Empirical Assessment”, Paper Presented at the Wider Development Conference on Debt
Relief, 17-18 August 2001, Helsinki, Canada.