Theoretically, both fiscal and monetary policies aim at achieving macroeconomic stability (Folawewo and Osinubi, 2006). Over the years, two issues have been subjects of debate in this regard. First is the effectiveness of each of these policies in the achievement of macroeconomic stability. While Keynesians (1956) argued that fiscal policy is more potent than monetary policy, the monetarists led by Milton Friedman (1968) on the other hand believed the other way round. Although the focus of this study is neither to join in nor extend the debate, but based on the country’s experience and the fact that fiscal policy plays a vital role in preventing the occurrence of fundamental disequilibrium in the economy, the study will analyze the impact of fiscal policy in tackling macroeconomic stability in Nigeria. 

The second relates to the issue of macroeconomic stability. Ocampo (2005), in his study, recommends a broad concept of macroeconomic stability, whereby “sound macroeconomic frameworks” include not only price stability and sound fiscal policies, but also a well-functioning economy, sustainable debt ratios and healthy public and private sector balance sheets. These multiple dimensions imply using multiple policy instruments that involves active use of counter-cyclical macroeconomic policies (fiscal and monetary), together with capital management techniques (capital account regulations and prudential rules incorporating macroeconomic dimensions). It also explores the role of international financial institutions in facilitating developing countries’ use of counter-cyclical macroeconomic policies.

 In his words, Ocampo (2005) posited that the concept of macroeconomic stability has undergone considerable changes in the economic discourse over the past decades. During the post-war years dominated by Keynesian thinking, macroeconomic stability basically meant a mix of external and internal balance, which in turn implied, in the second case, full employment and stable economic growth, accompanied by low inflation. Over time, fiscal balance and price stability moved to centre stage, supplanting the Keynesian emphasis on real economic activity. This policy shift led to the downplaying and even, in the most radical views, the complete suppression of the counter-cyclical role of macroeconomic policy. Although this shift recognized that high inflation and unsustainable fiscal deficits have costs, and that “fine-tuning” of macroeconomic policies to smooth out the business cycle has limits, it also led to an underestimation of both the costs of real macroeconomic stability and the effectiveness of Keynesian aggregate demand management.

This shift was particularly sharp in the developing world, where capital account and domestic financial liberalization exposed developing countries to the highly pro-cyclical financial swings characteristic of assets that are perceived by financial markets as risky, and thus subject to sharp changes in the “appetite for risk”. In the words of Stiglitz (2002), such exposure replaced Keynesian automatic stabilizers with automatic destabilizers.Thus, contrary to the view that financial markets would play a disciplining role, dependence on financial swings actually encouraged the adoption of pro-cyclical monetary and fiscal policies that increased both real macroeconomic instability and the accumulation of risky balance sheets during periods of financial euphoria which led, in several cases, to financial meltdowns

Thus, the goal of macroeconomic policies has broadened in recent years. We have only come part of the way, however, to the full recognition that macroeconomic stability involves multiple dimensions, including not only price stability and sound fiscal policies, but also a well-functioning real economy (Ocampo, 2005). A well-functioning real economy requires, in turn, smoother business cycles, moderate long-term interest rates and competitive exchange rates, all of which may be considered intermediate goals of the ultimate Keynesian objective: full employment. Such a broad view of macroeconomic stability should recognize, in any case, that there is no simple correlation between its various dimensions and, thus, that multiple objectives and significant trade-offs are intrinsic to the design of “sound” macroeconomic frameworks. This view would lead to the recognition of the role played by two sets of policy packages, whose relative importance will vary depending on the structural characteristics, the macroeconomic policy tradition and the institutional capacity of the country.

The first package involves a mix of counter-cyclical fiscal and monetary policies with appropriate (and, as we will argue, generally intermediate) exchange-rate regimes. The second includes a set of capital management techniques designed to reduce the unsustainable accumulation of public and private sector risks in the face of pro-cyclical access to international capital markets. To encourage economic growth, such interventions through the business cycle would lead to sound fiscal systems that provide the necessary resources for the public sector to do its job, a competitive exchange rate and moderate long-term real interest rates. These conditions, together with deep financial markets that provide suitably priced investment finance in the domestic currency with sufficiently long maturities, are the best contribution that macroeconomics can make to growth (Ocampo, 2005).

According to the National Economic Intelligence Committee (1998), fiscal policy measures should aim at achieving an optimal balance between government revenue and government expenditure and at complementing monetary policy in the attainment of macroeconomic stability. Fiscal incentive in support of the policy should be so structured as to promote growth in the various sectors of the economy. Olaloye and Ikhide (1995), in their study concluded that fiscal policy has been more effective in Nigeria, at least for the period of the depression i.e., between 1980 and 1989, and the appropriate fiscal policy variable that the government should act upon is the government expenditure. The total government spending mightbemore useful as a policy tool rather than the fiscal deficit and the lag in the effect of fiscal policy are shorter than for monetary policy. In other words, a reduction in the public expenditure will take a shorter time (three to six months) to cause a fall in GDP than a similar reduction in money supply.

Therefore, judging from the existing literature, it is desirable to undertake an assessment of the impact of the fiscal policy measures (expenditure programmes) on macroeconomic stability indicators (such as output and inflation rate) in order to provide a guide to the restructuring and coordination of fiscal policy instruments (government revenue and expenditure) and monetary policy variable proxy by money supply on the macroeconomy.


Nigeria witnessed a long history of macroeconomic instability, occasioned by large fiscal deficits to GDP. For instance, this averaged 7.7% in 1994, 8.9% in 1999, 4.0% in 2001, 3.4% in 2005 and 2.9% in 2006. These deficits were accompanied by high level of inflation rate; poor productive public sector investment and considerable debt overhang. More specifically, prior to the recent economic reforms, Nigeria’s economic performance was characterized by large macroeconomic instability for variables such as inflation, exchange rates, etc; hostile business environment for private sector growth and poor governance. The public sector was grossly mismanaged and over-bloated (Babalola, 2007). Overall, most economic and social indicators were generally poor, thus, there is wastage and misplacement of priorities (Olofin, 2001). Likewise, the need to bring to recognition that during any fiscal period, numerous policies are jointly implemented and there is a need for the harmonization of these policies (fiscal policy coordination) so as to prevent policy conflicts (Iyoha and Itsede, 2003).

Usman (2008)reveals the adverse impact of fiscal policy on the Nigerian economy in the past. He posited that the past failure of fiscal policy in Nigeria has been analyzed within the framework of a commonly known term “Natural Resource Curse”. Where a country endowed with verse amounts of natural resources fails to translate such wealth into meaningful economic growth and development. The fiscal policy failure to insulate the economy from the volatility of oil revenues has led to undue real exchange rate appreciation and pro-cyclical fiscal policy with detrimental effects on investment and growth. Other factors include dead-weight loss from taxes that finance public spending, unproductive public spending on wages and salaries of unproductive employees, and rent-seeking incentives reduce growth by diverting higher human capital away from productive activities.

The question of sustainability has become an important issue not because current unsustainable policies must later be reversed, but also because unsustainability becomes a more and more important problem as time goes on and as deficits increase because of debt accumulation (Anyanwu, 1997). Masson (1985) and World Bank (1988) state that “It is precisely a conviction that the government is shortsighted in its policies and biased towards overspending because of the nature of her political economy, that makes sustainability an issue”. Anyanwu (1997) also posited that “with unsustainable deficit, macroeconomic stabilization becomes a top priority but structural economic adjustment cannot occur alongside major macroeconomic imbalances just as stabilization without structural measures to support growth may itself prove unsustainable”. Thus, stabilization and structural adjustment must be coordinated to avoid inconsistency in policy. In this sense, adjustment should allow for complementary fiscal reforms to replace any lost revenue (World Bank, 1988).

Olofin (2001) refers to “Stabilization” as an attempt by the government to regulate the overall level of economic activity through definite measures or policies. Essentially, stabilization of the Nigerian economy is the core of macroeconomic stability.Usman (2008) in the 2nd Clement Isong annual memorial lecture said that “Macroeconomic stability yields greater benefits through higher rates of investment and educational attainment as expected rates of return can better be achieved in an environment of low inflation”. He postulated that “Prudent fiscal policy can help enhance factor productivity through the use of endogenous growth theory suggests that fiscal policy can either promote or retard economic growth  by its impact on decisions regarding investment in physical and human capital, increased spending on education, health, infrastructure, research and development can boost long-term growth”.

Therefore, a concerted effort to institutionalize fiscal policy operations towards achieving macroeconomic stability would eliminate or minimize public sector deficit (Itsede, 2003). To survive and restore sustainable growth and development, Nigeria must ensure sound fiscal discipline that would aid the attainment of macroeconomic stability. Therefore, the forgoing problems make raising the following conceptual and policy questions a necessary exercise: What are the effects of fiscal policy measures (fiscal spending) on the macroeconomic stability indices (GDP growth rate and inflation rate)? How productive is the fiscal policy instruments? And what are the channels through which the impact of fiscal policy measures (expenditure policy) get transmitted within the economy?Pursuit of these issues leads to thorough understanding of fiscal institutions with a careful analysis of the economic principles which underlie budget policy. 


Broadly, this study seeks to assess the impact of fiscal policy measures (fiscal spending) on macroeconomic stability indices (such as output and consumer price index) in Nigeria. To achieve this, the following specific objectives are to be pursued:

(1) Examining the trends of the fiscal operations(expenditure programmes) in the Nigerian economy (1970-2007);

(2) Investigating the effect of public expenditure on GDP growth rate and inflation rate in Nigeria; and 

(3) Identifying the channels through which the effect of fiscal policy measures (expenditure policy) is transmitted in the Nigerian economy.


Nigeria’s economic performance in the two decades prior to economic reforms was generally poor. Over the period 1992 to 2002, annual GDP growth had averaged about 2.25 percent. With an estimated population growth of 2.80 percent per annum, this implied a contraction in per capita GDP over the years that had resulted in a deterioration of living standards for most citizens. Inflation levels were high averaging about 28.94 percent per annum over the same period. By 1999, most of Nigeria’s human development indicators were worse than, or comparable to, that of any other least developed country (Okonjo-Iweala and Osafo-Kwaako, 2007).

Public expenditure profile is highly oil-dependent (Iwayemi, 2009). The Federal, State and local governments that derive the bulk of their revenues from what they get from the Federation Account, budget on the basis of what the price of oil and the volume of oil production are expected to be in the budget year. Consequently, whenever the price or volume assumptions behind the budget turns out to be inaccurate, government experiences serious fiscal disequilibria either in the form of sharp fiscal contraction or overspending. Ariyo (1993) provided an assessment of the sustainability of fiscal deficit in Nigeria between 1970 and 1990. 

Fiscal policy should be conducted so as to satisfy potentially conflicting policy objectives. Efficient expenditure policy or resource allocation among private and public uses was to be based on a full employment level of output while leaving it to the stabilization branch-acting through tax and transfer measures-to ensure that this level of output is provided. In the case of recession, this procedure will obviate calling for additional expenditures to generate a higher level of employment, if such use of resources would be undesirable at full employment. Under inflationary conditions, it will avoid cutbacks in programmes merely to restrain demand. Although the public sector should contribute its share when expansion or restraint in the total level of expenditure is needed, there is no good reason why the entire adjustment should be in that sector. Priority therefore goes to the tax-adjustment route. Pairing the tax instrument with the stabilization and the expenditure instrument with the allocation target has much merit in principle but must be qualified in practice (Musgrave and Musgrave, 2004).

Government expenditure should serve as a form of compensatory financing which implies that when the economy is in a depression and undesirable consequences such as increased unemployment sets in, itneeds some compensatory financing to pull it out of depression either by way of increasing government expenditure or reduction in taxes or a combination of both. On the other hand, when the economy is in a boom and inflation among other ills threatens, the government would need to apply necessary breaks on the economy, dampening the boom effect either by reducing direct government expenditure or increasing taxes. This in a nutshell sums up the basic principle involved in conventional government fiscal policy control and how they are expected to work (Olofin, 2001). 

Public expenditure issues have risen to the top of the agenda of international public finance since the 1980s. Irresponsible expenditure in unproductive activities had stunted growth- this fell in real terms from 4.7 percent in 1991 to 1 percent in 1994 and 2.2 percent in 1995 and to 3.3 percent in 1996. The excess or irresponsible public expenditure has been blamed in good part for the assortment of ills that beset the economy in the 1980s, over-spending leading to over-indebtedness while over-indebtedness in turn led to the debt crisis beginning in 1982. Today, these issues occupy the centre stage in the massive adjustment programmes in many developing nations and the reform programmes sweeping Eastern Europe. Public expenditure can simply be seen as the absorption of resource by the public sector (Anyanwu, 1997). On the other hand, public expenditure programming is a comprehensive set of expenditure policy measures designed to achieve a given set of macroeconomic goals, including the restoration of equilibrium between aggregate domestic demand and supply (IMF Institute, 1993).

In addressing the issue of fiscal policy and macroeconomic stability, most studies have been carried out on the effectiveness of fiscal policy on macroeconomic variables in Nigeria.Hence, this study is necessitated by the poorperformance of macroeconomic stability indicators before, during and after the Structural Adjustment Programmes (SAP) that was introduced in 1986. This study also differs considerably from other studies by developing a small macroeconometric model of the Nigerian economy using stochastic equations. Therefore, the structural form of Barro Endogenous Growth Model would be employed to show the relationship between the macroeconomic variables (output, inflation rate, for the purpose of this study) and fiscal policy instruments (government revenue and expenditure) and monetary policy variable proxy by money supply.


This study will focus on the effect of fiscal policy and macroeconomic stability on the Nigerian economy over the period spanning 1970-2007. The choice of the period is as a result of data availability and this helps to capture the various fiscal regimes under the different government regimes experienced in Nigeria. Also, this has being informed by the availability of uniform time series data on the variables of interest to the study. Annual time series data will be employed by this study to conduct the investigation.


This study employs secondary data. These were sourced from the various issues of the publications of the Central Bank of Nigeria (CBN) such as Statistical Bulletin, Bullion, Economics and Financial Review and CBN’s Annual Report and Statement of Accounts for various years. Also, other relevant publications from the Federation Ministry of Finance, Federal Office of Statistics, World Bank, IMF Institutesand e-library were used as sources for data.

Therefore, with the use of time series data, the research work employed the methodology which tests for stationarity and co-integration as well as error correction model (ECM).


The study would be structured into five chapters, with the first chapter being introductory;

Chapter two reviews the literature and brief overview on fiscal policy and macroeconomic stability as well as its policy implications for the Nigerian economy;

The third chapter devolves on the theoretical framework and methodological issues;

The fourth chapter specifies the empirical models and the results coming from the analyses were discussed in the chapter; and

The fifth chapter concludes the study with the summary of findings, policy recommendations and suggestion for further research.



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