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JOURNAL OF RESEARCH IN NATIONAL DEVELOPMENT VOLUME 5 NO 2, DECEMBER, 2007

FOREIGN DIRECT INVESTMENT AND CAPITAL FORMATION IN NIGERIA

Dr. A.B.C. Akujuobi
 Department of Project Management Technology
 Federal University of Technology, Owerri

Abstract
The opinion of the modernization theorists is that FDI exerts a significant positive effect on economies. The view of the dependency theorist, however, is that FDI and its attendant multinational capital present exploitative channels for the developed economies against the developing ones. This paper holds that, for Nigeria, FDI, is a significant positive contributor to the overall capital formation effort. However, the gains of FDI do not come so automatically. Therefore, efforts must be directed at the removal of such impediments as poor transparency in laws, especially in the areas of property rights, patent rights, copy right protection and commitment to enforcement of contracts etc.
Key Words:    Foreign Direct Investment, Capital Formation, Dependency Theory, Modernization Theory.


Introduction
With the current shift to greater global integration, emphasis is now placed on the need for countries, especially the less-developed economies, to attract more capital flows into their economies. Therefore, in the Sub-Saharan Africa, (SSA), and Nigeria in particular, successive governments have continued to pursue policies perceived to encourage inflow of foreign direct investment (FDI) as a way to raise the much-needed cross-border capital flows, increase the level of capital formation that will in turn augment domestic savings and so boost investment in the economy. Accordingly, the International Monetary Fund, (2002; 2003) have observed that the global foreign direct investment grew to surpass that of the global economic growth or trade, and this phenomenal growth is being attributed to the large cross-border mergers and acquisition.

However, despite the foregoing, there is still no conclusive evidence as to whether FDI favours host countries; and therefore justify the on-going policy interventions by countries towards attracting more multinational corporations. For instance, Hanson (2001), has argued that for small open economies, efficient taxation of foreign and domestic capital depends on their relative mobility. Essentially, both deserve equal treatment especially in such a situation where foreign and domestic capital are equally mobile internationally. On the other hand, it will be optimal for a country to lower taxes on foreign capital when foreign capital is more mobile internationally.

Other factors that seem to fuel policy interventions in favour of FDI over portfolio investment or multinationals over domestic firms include the presence of market failure in the host country, host-country characteristics as well as location-specific externalities etc.

On this premise therefore, the present study is to determine the impact of foreign direct investment on the level of capital formation in Nigeria. While the Central objective is to evaluate empirically, the contribution of foreign direct investment to capital formation in Nigeria, the specific objectives include: first, to ascertain the nature of relationship between foreign direct investment and the level of capital formation in Nigeria; second, to determine the extent foreign direct investment has influenced the level of capital formation in Nigeria; third, to isolate policy constraints to foreign direct investment inflow to the Nigerian economy and finally, to proffer some policy recommendations on how to effectively harness the positive sides of foreign direct investment so as to achieve the desired level of capital formation that will in turn usher in economic development.
This study is in fact, significant, being an attempt to reduce the dearth of empirical research in this area. Both at the local and foreign scenes, past studies in foreign direct investment have obviously focused on other areas. Some of these studies include, Sarbel and Marx, 1987; UNCTAD, 1992; Aiken et al, 1997; Schoeman et al, 2000; Hanson, 2001; Asiedu, 2002; 2005; Apodaca, 2002; OECD, 2003 and Banga, 2003.

Foreign Direct Investment, Capital Formation and Economic Development
The IMF (1992), has defined foreign direct investment as a category of international investment which reflects the objective of a resident in one economy, who is the direct investor, that obtains a lasting interest in an enterprise resident in another economy, which is regarded as the direct investment enterprise. However, to separate foreign direct investment from portfolio investment, foreign direct investor(s) must acquire at least 10 percent of the ordinary shares of the investment enterprise resident in a foreign land. Also, if more than one investor, it must be a group of related investors.

Studies concerning the relationship between foreign direct investment and economic development abound. These include such studies as (Firebaugh, 1992; Chunlai, 1997; Kumar, 1998; OECD, 1998; Nunnenkamp, 2002; UNCTAD, 2003).
While some argue that foreign direct investment does more harm than good, others contend that foreign direct investment is a necessary ingredient for economic development, especially as it affects developing economies (Resnick, 2003). In this battle are two strands of thought - the classics or dependency world system theory and the modernization theory. While the former argues that foreign direct investment creates the avenue for the citizens of developing countries to be exploited by multinational capital that channels resources to wealthy countries, thus yielding an international political economy where resources flow disproportionately from poor to rich, the latter holds that the benefits of international capital in the simultaneous economic and political development of the less developed world, can hardly be over-emphasized. Some of these works include those of Marx, Lenin, Wallerstein (1974), Chase-Dunn (1989), Cardoso and Faletto (1979) and Evans (1979) which provide the theoretical foundation leading up to the later empirical work testing hypotheses on foreign direct investments negative effects in developing economies.
For the modernization theory, there are the works of Rostow, (1960) and Rustow (1967) who see multi-national corporations as a conduit for diffusion of the gains of foreign direct investment, from the developed to the developing economies. Other studies equally follow this line of either supporting or denying one school of thought or the other as to the effect of foreign direct investment on developing economies, (Bomchier and Balmer – Cao, 1979; Bornchier, Chase-Dunn and Rubinson, 1978; Dolan and Tomlin 1980; Jackman, 1982).

Besides, there are other schools of thought: one which examines the determinants of where multinationals locate production facilities and another which examines sources of market failure related to FDI. Past studies conducted by Dunning (1981, 1993), suggest that multinationals respond to three distinct advantages, viz-a-viz; the ownership advantage (a firm must own or control a unique mobile asset if it wishes to exploit); the location advantage (it must be cost efficient to exploit the asset abroad in addition, or instead of in, the firm’s home country); and the internationalization advantage (it must be in the firm’s interest to control the asset’s exploitation itself, rather than contracting out use of the asset to an independent foreign firm).
Also, Helpman (1984) and Helpman and Krugman (1985) employing the general equilibrium theories of multinationals, have attempted to explain how environmental conditions arise which favour production by multinationals over other forms of global market integration. According to these scholars, to produce a good a firm must incur fixed costs (R&D to generate a patent, advertising to create a brand name or corporate investments to establish a management structure) which can support production in many plants. Hence, a firm is seen to consist of an upstream facility, which undertakes fixed-cost or “headquarter activities”, and one or more downstream production plants. Suffice it to say therefore, that a multinational is simply a firm with upstream and downstream facilities located in multiple countries.
Exploring and expanding this general equilibrium theory, Hanson (2001) contends that once there are factor price differentials, there is therefore an incentive for a firm to become a multinational in order to exploit these differences in factor costs between countries. One way to achieve this is by locating its headquaters in a capital-abundant country and production in a labour-abundant country (i.e considering situations of low-capital cost against high-wage and high-capital cost against low-wage between a foreign country firm and a host country). Even in the absence of distortions specific to FDI and hence no justification for treating multinationals differently from domestic firms, the creation of multinational firms yet, raises global welfare by leading to a more efficient global allocation of resources (Markusen and Venables, 1998 and 1999a).

However, with the existence of externalities, promoting FDI may be welfare-enhancing. Accordingly, Clare (1996) noted that the arrival of multinationals increases an economy’s access to specialized intermediate inputs that can only be accessed through multinationals, being produced abroad. With these intermediate inputs labour and other factors in the host economy become more productive. Similarly, Markusen and Venables (1999b) and Gao (1999) in different studies, have developed models that support the assertion that the creation of multinationals seems to spread industry from more to less industrialized countries and so tend to reduce the concentration of industries in the former. This has the tendency to lessen the industrial agglomeration in the developed economies albeit, with a possibility to reduce their welfare level. But, through the multinationals, the overall welfare of the host countries stands to be improved.

However, one of the obvious shortcomings of creating multinationals is that they have a tendency to breed competition for the local firms, leading to income redistribution with negative consequences for some groups in the host economy (Matouschek, 1999). According to Glass and Saggi, (1999), FDI may lower host-country welfare in a situation where multinationals activities result in sufficient lower profitability for domestic firms.

The results of these schools of thought seem to have been laid to rest by the report of the Organization for Economic Co-operation and Development, OECD (2002a, 2002b) when it concluded thus;
“FDI serves as a catalyst to development but challenges primarily address host countries, which need to establish a transparent, broad and effective enabling policy environment for investment and to build the human institutional capacities to implement them”.

Research Design and Methodology
This study covers the period, 1983-2003. Adopting the ordinary least square multiple regression model as the main analytical tool, the different sources of foreign direct investment (independent variables) are regressed on the corresponding figures for the volume of new issues (the dependent variable), for the period under investigation. The study employed only secondary data as presented in table 1 and sourced from the Central Bank of Nigeria CBN and Federal Office of Statistics publications. The test statistics therefore include: Coefficient of Correlation (R), Coefficient of Determination (R2), the Analysis of Variance (ANOVA/F-ratio) and the t-distribution (t-test). While the ANOVA/F-test establishes the significance or otherwise of the model with all the variables taken together, the coefficient of correlation seeks to test the strength or magnitude of the relationship between the level of capital formation and each of the different sources of foreign direct investment or the explanatory variables. Finally, we use the t-test to test the extent of contribution of the explanatory variables, individually, to the level of capital formation. The model being estimated is presented thus;

CAPFOMt       =          F(MIQt, MAPt, AFFt, TACt, BACt, TABSt, MISCSt) ……….. (i)
Mathematically, we have;
CAPFOMt       =          β0 + β1MIQt, + β2MAPt, + β3AFFt, + β4TACt, + β5BACt, +
β6TABSt, + β7MISCSt + ųt ………. (ii)

Data Analysis and Results
Table 1 contains the data set on the different sources of foreign direct investment as well as the corresponding figures for the volume of new issues, still for the period under investigation. In tables 2 and 3, we have the results of the multiple regression model as carried out with the help of the SPSS 13.0.

In terms of the level correlation, there is at least 97% level of correlation (R) between all the variables taken together and the dependent variable, capital formation. Similarly, table 2 equally shows that the variations in the explanatory variables have been able to explain at least 95% of the total variation in capital formation (R2). While the highest relationship is exhibited between capital formation and foreign direct investment from transport and communication (about 96%) the least is between capital formation and FDI from Agriculture forestry and fisheries sector, about 46% (see table 3).

Model Summary
The model generated for analysis of the impact of the foreign direct investment on capital formation is presented as follows:
CAPFOMt       =          -16.666 + MIQt 0.001 – 0.001MAPt + 0.010AFFt + 0.070TACt -
0.002BACt + 0.004TABSt – 0.002MISCSt ………… (iii)

From equation (iii), it is obvious that while foreign direct investment from the Manufacturing and Processing (MAPt), Building and Construction (BACt) and Miscellaneous Sectors (MISCSt) bear an inverse relationship with capital formation, and therefore, contribute negatively to capital formation, others contribute positively to the level of capital formation. The positive contributors by their coefficients are foreign direct investment from the Mining and Quarrying Sector, (MIQt), Agriculture, Forestry and Fisheries (AFFt), Transport and Communication Sector (TACt) as well as the Trading and Business Services Sector (TABSt). However, in terms of the order of importance the display according to the coefficients, is thus;

TACt    > TABSt   > MIQt   > MAPt   > MISCSt   > BACt   >   AFFt
[5.189]  [0.612]   [0.564]   [0.488]    [0.421]    [0.288]     [0.149]

Obviously, Transport and Communication sector exerts the greatest influence while the least contribution is from the Agriculture, Forestry and Fisheries. Other are trading and Business Services, Mining and Quarrying, Manufacturing and Processing, Miscellaneous and Building and Construction Sectors in that order.

Test of Hypotheses
Ho1:     There is no significant relationship between foreign direct investment and capital formation in Nigeria.
From table 2, since F-ratio calculated (37.567) is greater than the theortical F-ratio (4:44 or 2.83), d.f; (7, 13), we reject Ho and therefore, accept Ha, to conclude that a significant relationship exists between foreign direct investment and the level of capital formation in Nigeria.

Ho2:    FDI from Mining and Quarrying has not made significant positive impact on capital formation.
This hypothesis is tested by employing the t-test. Since the t-calculated; 0.564 < t-tabulated 1% = 2.650 or 5% 1.7709 (df = 13) we accept Ho to conclude that FDI from Mining and Quarry has not made a significant positive impact on capital formation.

Ho3:    FDI from the Manufacturing and Processing has not made a significant positive impact on capital formation.
Again, with t-calculated (0.488) < t-tabulated (2.650 or 1.7709) we accept Ho to conclude that FDI from manufacturing and quarrying has not made a significant positive impact on capital formation.

Ho4:    FDI from Agriculture, forestry and Fisheries has not made significant positive impact on the capital formation.
Here, calculated t, (0.149) < theoretical t(2.650 or 1.7709). Therefore, we accept Ho and conclude that FDI from Agriculture, Forestry and Fisheries has not made significant positive impact on capital formation.

Ho5:    FDI from Transport and Communication has not made significant positive impact on capital formation.
With t-calculated (5.189) > t-tabulated (2.650 or 1.7709), we reject Ho and therefore, accept Ha to conclude that FDI from Transport and Communication has made significant positive impact on capital formation.

Ho6:    FDI from Building and Construction has not made significant positive impact on capital formation.
Since t-calculated (0.288) < t-tabulated (2.650 or 1.7709), we accept Ho to conclude that FDI from Building and Construction has not made significant positive impact on capital formation.

Ho7:    FDI from Trading and Business Services has not made significant positive impact on capital formation.
With t-calculated (0.612) < t-tabulated (2.650 or 1.7709) we accept Ho to conclude that FDI from Trading and Business services has not made significant positive impact on capital formation.

Ho8:    FDI from Miscellaneous Sector has not made significant positive impact on capital formation.
Since t-calculated (0.421) < t-tabulated (2.650 or 1.7709), we accept Ho to conclude that FDI from the Miscellaneous Sector has not made significant positive impact on capital formation.

Conclusion
From the foregoing, the paper concludes that FDI taken together, has significantly contributed to the level of capital formation in Nigeria (See ANOVA/F-test, table 2). However, much needs to be done especially as only the FDI from Transport and communication has actually contributed positively to capital formation.

Recommendation
On the baris of our conclusion, we proffer the following recommendations:

  1. In order to attract more capital inflows through foreign direct investment, there is need to show more commitment to enforcement of contracts, patent and copy right laws etc. With this, foreign investors get attracted since adequate returns are guaranteed.
  2. The government equally needs to guarantee adequate protection to both lives and property, as no business can survive under hostile environment.
     
  1. Similarly, the need to provide the basic infrastructural development can hardly be over-emphasized. Such basic amenities like electricity and pipe borne water reduce operational costs.
  2. Governments that want to woo investors equally grant some concessions in the way of tax holidays, and tax exceptions etc. With this more cross-border capital can be attracted.

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Appendix I

Table 1:          Cumulative Foreign Investment in Nigeria and Corresponding  Figures for Volume of New Issues

  

 


YEARS

MIQt
(N’m)

MAPt
(N’m)

AFFt
(N’m)

TACt
(N’m)

BACt
(N’m)

TABSt
(N’m)

MISCSt
(N’m)

CAPFOMt
(N’bn)

1

1983

511.2

2128.1

127.8

77.3

443.9

2274.9

386.3

.03

2

1984

702.8

2109.3

128.5

80.6

439.0

2622.5

335.6

.03

3

1985

744.0

2278.1

126.0

85.9

453.2

2697.9

418.9

.39

4

1986

2510.4

2810.2

128.2

80.4

501.6

2753.0

529.8

.63

5

1987

2260.2

3122.3

117.3

75.6

462.6

2296.5

559.1

.11

6

1988

3403.0

3637.0

128.9

160.6

492.7

3133.7

383.3

.22

7

1989

636.7

5406.4

134.8

158.2

481.8

3497.2

584.7

105

8

1990

1091.6

6339.0

334.7

240.5

743.6

1710.4

-23.7

1.34

9

1991

-810.0

8692.4

382.8

373.2

1471.6

1452.2

682.0

1.35

10

1992

6417.2

9746.3

386.4

391.5

1406.6

1482.5

682.2

4.12

11

1993

27686.9

12885.1

1214.9

426.4

71.2

1864.5

22638.0

3.99

12

1994

26680.0

14059.9

1208.5

429.6

1707.0

2247.6

24381.1

2.67

13

1995

56747.3

27668.8

1209.0

374.8

1553.0

2990.7

28848.0

7.08

14

1996

56792.3

29814.3

1209.0

485.6

1864.3

3668.7

28766.7

21.45

15

1997

59221.4

31297.2

1209.0

672.6

1259.8

3625.7

31046.2

9.11

16

1998

59970.5

34503.9

1209.0

689.2

3888.3

10460.5

41689.5

17.28

17

1999

58855.4

36282.1

1209.0

820.3

3995.9

10927.3

42100.4

44.44

18

2000

60710.9

37333.6

1209.0

820.3

3995.9

11201.3

42237.6

35.17

19

2001

61611.9

37779.6

1209.0

955.3

4211.9

12016.3

43657.6

44.17

20

2002

61611.9

39953.6

1209.0

1736.3

4293.1

12317.3

45509.6

65.32

21

2003

61809.1

45719.4

1209.0

2890.5

4545.8

14457.3

49056.5

184.97

Source: CBN Bulletin, 2004 Federal Office of Statistics

Appendix II

Table 2:                            Result Summary

Parameters

Coefficients

t-values

Level of significance

Coefficient of correlation (R)
Coefficient of Determination (R2)
Adjusted R2
Standard Error of Estimate
F-value

0.976
0.953
0.928
11.28651
37.567

 

 

 

0.000***

Model:

 

 

 

Constant
MIQt
MAPt
AFFt
TACt
BACt
TABSt
MISCSt

-16.666
  0.001
-0.001
  0.010
0.070
-0.002
0.004
-0.002

 

0.564
-0.488
0.149
5.189
-0.288
0.612
0.421

 

0.582
0.634
0.884
              0.000***
0.778
0.551
0.681

Source: Result of Computer Analysis of Table 1 Data using SPSS 13.0
NB:      * Significant at 5% Level
            ** Significant at 1% Level
            *** Significant at 0% Level
Appendix III

Correlations

 

 

CAPFOMt

MIQt

MAPt

AFFt

TACt

BACt

TABSt

MISCSt

Pearson Correlation

CAPFOMt
MIQt
MAPt
AFFt
TACt
BACt
TABSt
MISCSt

1.000
.567
.699
.469
.964
.718
.783
.657

.567
1.000
.971
.932
.667
.817
.755
.972

6.99
.971
1.000
.885
.790
.908
.849
.973

.469
.932
.885
1.000
.599
.710
.594
.930

.964
.667
.790
.599
1.000
.786
.810
.753

.718
.817
.908
.710
.786
1.000
.938
.882

.783
.755
.849
.594
.810
.938
1.000
.840

.657
.972
.973
.930
.753
.882
.840
1.000

Sig. (1-tailed)

CAPFOMt
MIQt
MAPt
AFFt
TACt
BACt
TABSt
MISCSt

.
*.004
***.000
*.016
***.000
***.000
***.000
**.001

.004
.
.000
.000
.000
.000
.000
.000

.000
.000
.
.000
.000
.000
.000
.000

.016
.000
.000
.
.002
.000
.002
.000

.000
.000
.000
.002
.
.000
.000
.000

.000
.000
.000
.000
.000
.
.000
.000

.000
.000
.000
.002
.000
.000
.
.000

.001
.000
.000
.000
.000
.000
.000
.

Source: Result of Computer Analysis of Table 1 Data using SPSS 13.0
NB:      *  Correlation is significant at 5% Level
            ** Correlation is significant at 1% Level
            *** Correlation is significant at 0% Level

Mining and Quarrying                           -           MIQt
Manufacturing and Procession              -           MAPt
Agriculture, Forestry and Fisheries        -           AFFt
Transport and Communication              -           TACt
Building and Construction                     -           BACt

Trading and Business Services              -           TABSt
Miscellaneous Services                         -           MISCSt
Total Capital Formation (New issues)   -           CAPFOMt