ABSTRACT
In the course of this study attempts has been made to effectively capture the effect of inflation on household consumption in Nigeria for the period 1980 to 2016. The study adopted theoretical, empirical and conceptual literature to provide a sound understanding of the phenomenon being studied. Also steps were taken to quantitatively evaluate this relationship using the OLS estimation technique. The variables used were Household consumption expenditure as dependent variable while Income, lending rate and inflation were used as independent variables. The study revealed that inflation has a negative and significant relationship with household consumption expenditure, while income level shows a strong positive and significant relationship with household expenditure in Nigeria. Furthermore, Interest rate is a positive but insignificant determinate of household consumption expenditure and thus it is recommended policies to combat inflation so as to increase the real value of consumer’s income should be targeted, as this would boost household consumption in Nigeria.
CHAPTER ONE
1.0 INTRODUCTION
Consumption according to Dernburg (1985) is the act of using goods and services for the purpose of satisfying man’s innumerable needs. This encompasses the importance of consumption in welfare. The aggregate consumption expenditure level which includes expenditure on durable and non-durable goods shows the general position of an economy (Ezeji and Ajudua, 2015). Consumption expenditure is defined as the market prices of all goods and services purchased by households to satisfy their needs and wants. It includes all foodand non-food expenditure. For a typical developing country such as Nigeria, households spend more than 60 percent on food items and about 40 percent on non-food items (which include education expenditure and medical expenditure) (Yakubu and Abbas, 2012).
Inflation is regarded as a general and persistent increase in price level. Inflation is a common feature of any economy in the world. It could affect the economy positively or negatively depending on the structure upon which the economy is built. While some economist has considered inflation as undesirable others have advocated for some level of inflation as a form of incentive to boost the manufacturing capacity of the economy.
Whatever the case, there is a consensus agreement that inflation is inversely related to consumption behavior of individuals with fixed income. Increase in price level reduces the consumers’ purchasing power and eventual his welfare shrinks as well. However, several studies conducted has shown that one way of increasing current consumption level a certain future expected inflation must be put in place. This study intends to explore the effect of inflation on consumption expenditure behavior in Nigeria.
1.1 BACKGROUND OF STUDY
Inflation has been a major concern to government and business investors in the developed and emerging (or developing) countries of the world (Shuaib, Ekeria and Ogedengbe, 2015). Inflation is an inevitable property of any economy in the world. It influences every country, negatively as well as positively, whether it is developed or developing country as well. Anyanwu (2011) stated that inflation is an important factor leading to social and economic instability and disorder. It is one of the most largely observed and tested economic variables both theoretically and empirically.
After remaining relatively low for quite a long time, the inflation rate in Nigeria started to accelerate in late 2003. The role of money supply appears significant in influencing food price inflation in Nigeria (Anyanwu, 2011) which has disturbed family budget as well as consumer’s purchasing power. Many authors have written on the impacts of inflation and cost of living on the Nigerian economy, all having varying views, nevertheless, there is a consensus that both inflation and cost of living have various impacts on the economy of Nigeria and consumption behaviour. The problem created by the rising prices of goods and services leading to higher cost of living has become too difficult for the government to solve. During inflationary period, fixed amounts of money buy less quantity of goods and services. The real value of money is drastically reduced i.e the purchasing power of consumers are reduced.
The relationship between household inflation expectations and consumer spending holds important implications for monetary policy, particularly in a zero lower bound environment (Burke and Ozdagli, 2013). Drawing on the theoretical work of Krugman (1998), Eggertsson and Woodford (2003), and other researchers, participants in recent monetary policy debates have argued that the Federal Reserve (Central Bank) should commit to policies that raise expectations of future inflation, thereby effecting a decline in real interest rates and encouraging greater current spending (Appelbaum 2013) also Shapiro (1991), Feldstein (2002), and Hall (2011)propose pre-announced increases in value-added tax (VAT) to generate consumer price inflation and stimulate spending via inter-temporal substitution without increasing the federal budget deficit.
According to Burke and Ozdagli (2013), purchases of large consumer durables and residential housing, purchases that are readily substituted across time and that are often financed with debt, should be particularly sensitive to an increase in expected inflation that lowers real borrowing rates. Many theoretical studies suggest that policy makers can generate greater current spending by making people believe in higher future inflation when nominal interest rates are stuck at the zero lower bound (Ichiue and Nishiguchi, 2013).
The logic for these suggestions is based on the Fisher equation and the inter-temporal substitution effect: if nominal interest rates are fixed, higher inflation expectations lead to lower real interest rates, creating an incentive to spend now rather than in the future. However, according to basic economic theory, lower real interest rates may suppress current spending, if adverse forces such as the income effect dominate the inter-temporal substitution effect(Ichiue and Nishiguchi, 2013).
To manage household expenditures during times of inflation, most households involve themselves in overtime work, which is a sign to dip down recreational activities hence, inflation decreases standard of living through reduction in real income of households, subjecting them to loans and hardworking which reduces their recreational activities as well as better social and physical health (Anafo, Kweku and, Naatu, 2014). With fixed income, household (in an attempt to adapt to increasing prices) cut down consumption level while concentrating on items essential to their survival.
Nigeria as a nation is by no means immune to the menace of inflation. Hence, after an appreciable economic performance in the early 1970s, the Nigerian economy witnessed some anxious moments in the late 1970s to mid-1980s. Severe pressures built up in the economy mainly because of the expansionary fiscal policy of the federal government during these years. Statistics shows that household consumption has fluctuated since 2010 however it grew positively on an average of 3.68% for the period 2011 to 2015 while inflation for the same period declined by 4.74% for the same period (CBN, 2015).
It is against this background that, the need to investigate the relationship between inflation and consumption expenditure in Nigeria.
1.2 STATEMENT OF PROBLEM
Inflation has for a long time been a prominent feature of the Nigerian economy and has a great effect on consumption in the country. The forward and backward movements of consumption have become a great problem for the Nigerian policy makers to make a clear cut decision about consumption pattern in Nigeria.
The study by (Brockie, 1953) cited in Oduh et al (2012) showed that when the economy is undergoing great economic stress consumption expenditures would probably be affected by uncertain “expectational vistas”. When it does, it creates problems to both fiscal and monetary policy management. One of these expectional vitas is increased price level (inflation). When there is inflation, the real value of the consumer’s cash balance falls. As such their purchasing power is hampered, leading to a fall in consumption expenditure. According to Anafo et al. (2014) Inflation does not on its own pressure the macroeconomic indicators; it influences the living standards of the nation. As the percentage of inflation increases, the cost of all commodities also increases.
Statistics from Nigeria has shown that while inflation has grown averagely by 31.10% and 22.56% for the period 2000-2005 and 2007-2012 respectively it declined averagely by 4.74% for the period 2011-2015, also private consumption expenditure has grown averagely by 15.66%, 0.21% and 3.68% for the same period (CBN 2014 and 2015). This indicates that the relationship between both variables has been fluctuating over time.
While several studies have looked into the effect of expected inflation on current consumption expenditure (Burke and Ozdagli (2013); Ichiue and Nishiguchi (2013); and D’Acunto et al (2016)) and little literature which studies the effect of current inflation on current consumption expenditure are in disagreement over the effect of the inflation on consumption expenditure as such this study intends to investigate the effect of inflation on consumption expenditure using evidence from Nigeria.
1.3 OBJECTIVES OF THE STUDY
The broad objective of this study is to investigate the effect of inflation on consumption expenditure in Nigeria. In achieving this, the following specific objectives are to;
- Determine if there is any significant effect of inflation on consumption expenditure in Nigeria.
- Determine if income (proxy by gross domestic product)have any significant effect on consumption expenditure in Nigeria.
- Investigate if interest rate (proxy by lending rate) has any significant effect on consumption expenditure in Nigeria.
1.4 RESEARCH HYPOTHESES
The study hypotheses, as stated in their null form, are;
- H0: Inflation does not have any significant effect on consumption expenditure in Nigeria.
- H0: Income (proxy by gross domestic product) does not have any significant effect on consumption Expenditure in Nigeria.
- H0: Interest rate (proxy by lending rate) does not have any significant effect on consumption Expenditure in Nigeria.
1.5 RESEARCH QUESTION
Following from the above, the research question is given as;
- Does inflation have any significant effect on consumption expenditure in Nigeria?
- Does income and interest rate (lending rate) have any significant effect on consumption expenditure in Nigeria?
- Does interest rate (lending rate) has any significant effect on consumption expenditure in Nigeria?
1.6 SIGNIFICANCE OF THE STUDY
This study will be of significance to the Nigerian government and policy makers to understand the consumption reaction to inflation in Nigeria and aid in formulating effective policy making in Nigeria. Also it will be of relevance to students and researchers as a point of reference and foundation for further research on areas of if future inflation expectation stimulates current consumption expenditure in Nigeria.
1.7 SCOPE OF THE STUDY
This study is carried to investigate the effect of inflation on consumption expenditure in Nigeria and is intended to cover a period of 37 years (1980-2016) using a secondary data as complied by the Central Bank of Nigeria Statistical Bulletin.
