FINANCIAL DEEPENING AND ECONOMIC GROWTH IN NIGERIA
CHAPTER ONE
INTRODUCTION
1.1    BACKGROUND TO THE STUDY
    The Nigerian financial system can be broadly divided into two sub-sectors, namely: the informal and the formal sectors. The informal sector comprises the local money lenders, the thrifts, savings associations. This component is poorly developed, limited in reach, and not integrated into the formal financial system. The formal financial system on the other hand can be further sub-divided into capital and money market institutions. It is made up of the banks and non-bank financial institutions. The system became liberalized in the 1980s when the structural adjustment program me was introduced. The system has undergone significant changes in terms of the policy environment, number of institutions, ownership structure, depth and breadth of markets, as well as in the regulatory framework. The financial system comprises of the central bank, commercial banks, mutual funds, brokerage firms, discount houses, and stock exchange, to mention just few. These institutions trade in financial instruments such as domestic currency, foreign currency, stocks, bonds, derivatives and so on, and in the process mobilize funds from surplus unit (savers) to deficit unit (investors). Although a wide variety of financial institutions and markets exist, commercial banks overwhelmingly dominate the financial sector and traditional bank deposits represent the major forms of financial saving. Therefore, the financial markets have been adjudged to be shallow when compared with other developed economies in the world (Central Bank of Nigeria, 2005).
    The relationship that exists between financial deepening and economic growth has in recent times been in the front burner of experiential research across the globe. The practical evidence suggests that there is a significant positive relationship between financial deepening and economic growth. The endogenous growth literature provides clear evidence that financial development is a key determinant of economic growth. Theory interconnects these two factors based on the logic that by reducing information, transaction, and monitoring costs, a well-developed financial system performs several critical functions to augment intermediation efficiency. In due course, enhanced financial intermediation efficiency causes economic growth (Sarbapriya, 2013). Therefore, the fact that well-built correlation exists between financial deepening and economic growth has been well documented in the economic development literature. However, these findings do not establish the direction of causality between the two. Even though economists have accepted effects of financial development on economic growth, they do not have the same opinion about the direction of causality, which means whether financial deepeningcauses economic growth or economic growth causes financial deepening. Rather, previous empirical studies have produced mixed and conflicting results on the nature and direction of the causal relationship between financial deepening and economic growth (Beck et al., 2000; Von Furstenberg and Fratianni, 1996; King and Levine, 1993). The question, therefore, is whether financial development causes economic growth or vice versa. Nigeria for instance, is one of the emerging countries in the world, especially since the liberalization of the financial sector in 1991. This liberalization coupled with the issue of globalization within the context of the Nigerian economy has generated a lot of controversies. One of such achievements is attainment of economic growth and its attendant relationship with financial deepening.
1.2    STATEMENT OF THE RESEARCH PROBLEM
    Before the recent global financial crisis of 2007 which started in the US and gradually snowballed into Nigeria, it is on record that between 2005 and 2008, the market capitalization of the Nigerian stock markets increased from N2112550 billion to about N13294590 trillion. Inspite of these positive developments, Nigerian economic growth had not yet proven to be sustainable and fully inclusive, even before the crisis (Central Bank of Nigeria, 2005). While GDP growth and macro-economic stabilization have reassured and encouraged private investors, they still largely depend on commodity prices, leaving the country extremely vulnerable to a downturn. This was evidence in the global financial crisis, whose main transmission channel in the country was the collapse of export revenues following the decline of the world demand for crude oil resources. Therefore, one of the most pressing issues for Nigeria is to channel existing resources into productive investment so that they can stimulate productivity, create employment, provide individuals and enterprises with basic utilities, and contribute to efficient natural resource management (Dahou, Omar and Pfister, 2009).
    Financial markets can play a critical role in this respect. The savings-investment-growth link remains central to the question of financial sector development and the ability of financial institutions to fully play their intermediary role. Putting in place well-functioning infrastructure in the banking sector and capitalmarkets is crucial for catalysing domestic and foreign resources for growth and investment (Dahou, Omar and Pfister, 2009). According to Aye (2013), there exists some form of linkage between finance and economic growth. One of the oldest debates in economics has remained the relationship between financial development and economic growth. Its root can be traced to Schumpeter (1912), when he posits that finance is paramount for economic growth. However, Robinson (1952) argues that economic growth promotes financial development. Financial markets provide an economy with vital services comprising, for example, the management of risk and information, and the pooling and mobilization of savings Gries, Kraft and Meierrieks (2011). Theoretically, the linkage between finance and economic growth may take different forms. On the one hand, the financial sector may affect growth through the accumulation channel and the allocationchannel. The accumulation channel emphasizes the finance-induced growth effects of physical and human capital accumulation (Pagano, 1993). The allocation channel focuses on the financed-induced efficiency gains in resource allocation that enhances growth.    
    To this end, the study is an attempt to empirically re-examining the directional relationship between financial deepening and economic growth in Nigeria. This became necessary in view of the several financial policies, regulations and development that have taken place in the recent times in Nigeria, and coupled with her sensitive economic, financial and socio-political position in African continent.  Hence, the study therefore seeks to provide answer to the following research questions:
(i)    What is the causal relationship between financial deepening Proxied by the     ratio of     banks’ credit to private sector over gross domestic product     (CPS/GDP) and     economic growth in Nigeria?
(ii)    Is there any significant relationship external debt and economic growth in     Nigeria?
(iii)    What is the impact of inflation rate on economic growth in Nigeria?
(iv)    What is the relationship between real exchange rate and economic growth in     Nigeria?
1.3    OBJECTIVE OF THE STUDY
The main objective of the study is to determine the relationship between financial deepening and economic growth in Nigeria. Other sub-objectives are to:    
 (i)    determine the relationship between external debt and economic growth in Nigeria.
(ii)    examine the impact of inflation rate on economic growth in Nigeria.
(iii)    determine the relationship between real exchange rate and economic growth in     Nigeria.
1.4    HYPOTHESES OF THE STUDY
    The followings are the hypotheses for this study:
(i)    There is no causal relationship between financial deepening and economic growth in     Nigeria.
(ii)    There is no causal relationship between external debt and economic growth in Nigeria.
(iii)    inflation rate does not have any significantimpact on economic growth     in Nigeria.
(iv)    There is no relationship between real exchange rate and economic growth in     Nigeria.
1.5    SIGNIFICANCE OF THE STUDY
    Foreign investors, particularly foreign portfolio investors are keenly interested on how well developed an economy is before coming to invest their hard earn money. To this end, the study will be relevant to potential foreign investors who would want to come into the country to invest in the capital market.
    Furthermore, the study will be very relevant to the Nigerian government, corporate bodies and policy makers, as it will provide them useful information and guidelines to formulating appropriate policies and programmes affecting not only the capital market but the entire financial sector and economic growth in Nigeria.
    The banking industry in Nigeria is not also left out here because it occupies a very strategic position in ensuring financial deepening through the creation of additional money by way of granting credit facilitiesto credit worthy customers. This study will provide a useful guide to banks’ management in Nigeria.
    Finally, the study will also be very useful to the academia, researchers, finance students and other related disciplines who may want to conduct further studies on the subject matter.
1.6    SCOPE OF THE STUDY
    The study is an annual time series data covering a period of twenty three years (1990 to 2012), and relevant data shall be sourced from the Nigerian stock exchange publications and the central bank of Nigeria statistical bulletin (2013).
1.7    LIMITATION OF THE STUDY
    Literarily, no study is without limitations and this one is not an exemption because, the sources of data employed in the analysis is a secondary data which by its nature are subject to human errors and manipulations. This creates a measure limitation to the findings of the study.
    Furthermore, the method of data analysis employed might not be the most best to provide a more accurate and reliable results to make generalization for policy decisions by the relevant authorities. Nevertheless, efforts will be made to minimize errors and ensure that the outcomes are valid and reliable.