Abstract

This study examined the effect of deficit financing on capital formation in Nigeria for the period 1981 to 2023. The nexus between deficit financing and capital formation has not been adequately established by previous researchers hence this serves as strong motivation for the study. The specific objectives of the study were to determine the effect of government bonds on Nigeria’s capital formation; ascertain the relationship between external borrowings and capital formation in Nigeria; analyze the relationship between domestic borrowings and capital formation in Nigeria; and investigate the effect government revenue from tax has on capital formation in Nigeria. The data were sourced from the CBN Statistical Bulletin and analyzed using the Error Correction Model (ECM) method. The results showed that Government bonds increased capital formation significantly, external borrowings had a positive effect on capital formation. There was also a significantly negative effect of domestic borrowing on capital formation and tax revenue negatively affected capital formation in Nigeria. The study concluded that government deficit financing efforts have had positive, direct and significant effect on capital formation in Nigeria. Particularly, government bonds and external borrowing have been instrumental deficit financing options that have led to increased access to capital and increased capital formation in the Nigerian economy. However, tax revenue and domestic borrowing maintained negative effect on capital formation. The recommendation was that government should increase tax revenue to prevent budget deficit that will warrant deficit financing. Also, the Nigerian government should explore more of domestic sources of deficit financing rather than external sources.