IOSR Journal of Business and Management (IOSR-JBM) e-ISSN: 2278-487X, p-ISSN: 2319-7668. Volume 12, Issue 6 (Sep. - Oct. 2013), PP 19-27 www.iosrjournals.org www.iosrjournals.org 19 | Page An Analysis of the Relationship between Fiscal Deficits and Selected Macroeconomic Variables in Nigeria, 1970 – 2011 * Umeora Chinweobo Emmanuel Abstract: This study investigates the relationship that exists between the Government Deficit Spending and selected macroeconomic variables such as Gross Domestic Product (GDP), Exchange Rate, Inflation, Money Supply and Lending Interest Rate. The period covered is 1970 (when the civil war ended) and 2011. Ordinary Least Squares (OLS) technique was adopted to analyze the relationships. The study concludes that Government Deficit Spending (GDS) has positive significant relationship with GDP. Government Deficit Spending also has positive significant relationship with Exchange Rate, Inflation, and Money Supply. Government Deficit has negative significant relationship with Lending Interest Rate and most likely crowd-out the private sector by raising the cost of funds. Deficit spending has been known to have adverse effects on the economy and government is advised to curtail excessive deficit spending. It is recommended that further research is done to establish other variables that are affected by government deficit spending. Keywords: Government Deficit Spending, Procyclical, Crowd-out, Keynesian Demand Economies, Inflationary dynamics, Seigniorage. I. Introduction 1.1 Background Of The Study The relationship between fiscal deficits and macroeconomic variables such as economic growth, inflation, MS, interest rates and exchange rates, among others remain one of the most widely discussed issues among macroeconomists and policy makers in developed and developing countries. Fiscal deficit otherwise referred to as deficit spending occurs when in a fiscal year current expenditure exceeds current expected income (Dalyop, 2010). The public sector plays a dominant role in the economy of any nation and growth in government spending has often resulted in deficits. Persistent government budget deficits and the resultant budgeoning of public debts have assumed serious concerns in developed, transitional and developing countries (Oladipo and Akingbola, 2011). In Nigeria, the bloating of government bureaucracy, cost of providing critical infrastructures and shortage of revenue generation, among others has over the decades resulted in persistent annual deficits. A run down of government annual expenditure from 1970 (at the end of the Nigeria – Biafra War) to 2011 shows that the government ran annual deficits for 37 years. The few years when the expenditure was surplus are 1971, 1973, 1974, 1979, 1995 and 1996 (Ezeabasili, Mojekwu and Herbert (2012). The development of deficit financing is often traced to adoption of the Keynesian inspired expenditure that Nigeria adopted to motivate economic growth. The consequences of such deficit spending on many macroeconomic variables can not be underestimated (Oladipo and Akinbobola, 2011). Over the years expansionary monetary policy has been pursued together with a rise in private and public consumption and growth of the internal and external debts. All these have acted to exacerbate the annual government deficits. Cebula (1995) cited in Dalyop (2010) argues that government’s narrow revenue base vis-a-vis its expenditure, has likely serious effects on its budget balance. The growth of government deficits after the civil war in 1970 to the introduction of the Structural Adjustment Programme (SAP) in 1986 was attributed partly to post war reconstruction. It was also due partly to the fact that the government exercised a lot of influence over economic activities and fiscal deficits remained a prominent instrument. Although the persistent deficits were perceived to have adverse effects on the macro economy, the various governments felt that the deficits have to continue to stimulate the economy. In 1986, the government introduced SAP with the hope that with restructuring of the economy, there would be reduction in the deficit spending. But this appears not to have been achieved as the deficits continue to escalate on yearly basis. Dalyop (2010) has it that deficit spending of government has posed challenges to the Nigerian economy with regards to its effectiveness and debt accumulation. Paiko (2012) expressed a similar view that excessive and prolonged deficit spending may negate the attainment of macroeconomic stability and distort growth. Generally, government finances its deficits in three main ways. First the government finances its deficit by printing of money through the Central Bank. This is called ‘ways and means’ and the revenue from this process is called Seigniorage. Here the government gets money called’ High Powered Money. According to Sill (2005) the extent to which governments use seigniorage to finance deficits plays key role in the link between budget deficits and inflation. Secondly the government also uses debt financing. The government can borrow by the Central Bank issuing short term Money Market Instruments such as Treasury Bills and long term bonds.