Effect of External Debt on External Reserves in Nigeria

Abstract

It is widely held that developing nations are constrained by insufficient funds to build basic infrastructure that would set the pace for capital formation and sustainable growth. Faced with shortfalls in revenue and the need to increase investment in public works, developing countries engage in deficit spending to bridge the gap in funding public expenditure. One source of deficit spending is external debts. This study investigates the effect of external debt on external reserves in Nigeria from the first quarter of 2009 to the fourth quarter of 2022. An ex post facto research design was adopted for the study. Quarterly time series data for external reserves, multilateral debt, and bilateral debt were collected from the Central Bank of Nigeria statistical bulletin and Debt Management Office reports. Philip Perron test was used to test the stationarity of the data and the Johansen cointegration test was utilized to determine the presence of a long-run relationship. Dynamic Ordinary Least Squares technique was used to test the effect of external debt on external reserves in Nigeria. The findings showed that multilateral debt has a significant effect on external reserves in Nigeria. However, bilateral debt has an insignificant effect on external reserves in Nigeria. The study recommends that the Nigerian government should strengthen its capacity in debt negotiation and contracting. This involves conducting comprehensive assessments of loan terms, interest rates, grace periods, and repayment schedules before accepting multilateral debt. Furthermore, the Ministry of Finance through the Debt Management Office should continue to improve its debt monitoring and evaluation mechanisms for bilateral loans. This involves establishing transparent processes to track the utilization and impact of borrowed funds.