Fiscal Deficits and Inflation in Nigeria

Abstract

This paper examines the causal relationship between inflation and fiscal deficits in Nigeria, covering the period 1970-2009. This was carried out by way of developing an estimation model of inflation and fiscal deficit, with a view to testing causes and effects as well as the relationship between them. The estimation technique used is the autoregressive distributed lag (ARDL) model and the Granger-causality test. The result of the Granger-causality test shows that the null hypothesis which says that fiscal deficit does not cause inflation should be rejected since the result is significant with probability less than 0.05. This implies that fiscal deficit/GDP causes inflation. However, no feedback mechanism was observed. The results from the ARDL test confirm a significant negative relationship between growth in fiscal deficit (% of GDP) and inflation. The above results confirm the a priori expectation. It is recommended that policies targeted at inflationary control in Nigeria could best be achieved if they are aimed at fiscal deficits reduction. In addition, the government should support growth in the real sectors of the economy.

Keywords: fiscal deficit, inflation, macroeconomic, monetary policy