TESTING THE APPLICABILITY OF WAGNERS LAW IN NIGERIAS ECONOMY (1981-2013)

ABSTRACT

Wagner’s Law suggests that as the economic activity of a country increases, so does its government expenditure. This study tests Wagner’s laws for Nigeria using annual time series data between 1981 and 2013. It adopts three of the most advanced econometric methods, the Johansen co-integration, Error correction Mechanism and the Granger causality test. From the co-integration  results we found out that their exists a long run relationship between government expenditure and National income in Nigeria, but on getting to the Granger causality test we found out that causality runs from Government expenditure to National income. The Granger causality test results show that Wagner’s law does not hold for Nigeria, over the period been tested. Rather we found empirical support in the proposition by Keynes that public expenditure is an exogenous factor and a policy instrument for increasing national income.

TABLE OF CONTENTS

TITLE PAGE. i

APPROVAL PAGE. ii

DEDICATION.. iii

ACKNOWLEDGEMENT. iv

ABSTRACT. vi

TABLE OF CONTENTS. vii

LIST OF TABLE. ix

 

CHAPTER ONE.. 1

INTRODUCTION.. 1

1.1      Backgrounds To The Study. 1

1.2      Statement Of Problem.. 5

1.3    Research  Questions. 7

1.4      Objectives Of The Study. 7

1.5      Significance Of The Study. 8

1.6      Research Hypothesis. 9

1.7     Scope and Limitations  of the Study. 10

1.8      Operational Definition of Terms. 10

1.9      Organization of the Study. 11

 

CHAPTER TWO.. 14

REVIEW OF RELATED LITERATURE.. 14

2.1      Theoretical Literature. 14

2.2      Empirical Literature. 18

 

CHAPTER THREE.. 31

METHODOLOGY.. 31

3.1     Research Design. 31

3.2      Model Specification. 32

3.3      Method Of Estimation. 32

3.4    Method Of Verification Of Hypothesis. 32

3.5    Required Data And Sources. 35

 

CHAPTER FOUR.. 37

PRESENTATION AND ANALYSIS OF RESULTS.. 37

4.1 Presentation of Regressed Results. 37

4.2 Evaluation Of Parameter. 43

4.3 Verification Of Hypothesis. 47

4.4 Discussion. 49

 

CHAPTER FIVE.. 50

SUMMARY OF FINDINGS, CONCLUSION AND RECOMMENDATION.. 50

5.1   Summary Of Findings. 50

5.2   Conclusion. 53

5.3   Recommendations. 54

REFERENCES.. 57

 

LIST OF TABLE

Table 1: unit root (ADF), trend and intercept at level. 38

 

Table 2: Unit root (ADF), trend & intercept at first difference. 38

 

Table 3: Unit root (ADF), trend and intercept at second difference. 38

 

CHAPTER ONE

INTRODUCTION

1.1   BACKGROUNDS TO THE STUDY

Adolph Wagner (1835-1917) was a German economist, politician, and public finance scholar. He put forward his law of increasing public expenditures in 1893 known as wagner’s hypothesis (WH) or Wagner’s law (WL). Adolph Wagner was perhaps the first to offer a direct economic account of the increasing public expenditures. Musgrave and Musgrave (1988) noted that he anticipated the trends to be realized fifty to hundred years later that development of modern industrial society would give rise to increase political pressure for social progress and a continuous increase in public sector.

Wagner’s law was derived from the historical experiences of the early stages of industrialization in Europe and Germany in particular. Wagner identified three main factors for increased government spending. First, administrative and protective role of government will increase as a country’s economy develops. Secondly, with the expansion of economy, government expenditures on “culture and welfare” would rise, particularly on education and health. Finally the technological progress of the industrialized nations requires government to undertake certain economic services for which private sector is shy (khan, 1990).

Wagner’s law since its emergence has been the subject of intensive and extensive investigations. In particular, after the Second World War (1939-1945), when public consumption declined in favour of the private activities development. In other words, Wagner’s law states that government expenditure grows because there is an increasing demand for public goods and for the control of externalities caused by growth and development of the economy. In effect, the law also suggests that causality runs from national income to public expenditure, indicating that public expenditure is considered endogenous to the growth of national income.

In contrast, Keynesian hypothesis emphasizes that economic growth occurs as a result of rising public expenditure and is considered as an independent exogenous variable to influence the economic growth. The direction of causality runs from public expenditure to national income (Keynes, 1963). Therefore, the Keynesian and the Wagnerian approaches represent two alternative points of views towards the causality between government expenditure and aggregate income.

Thus the growth of public expenditure as a proportion of Gross National product (GNP) has received considerable attention from economists around the world, Nigeria inclusively.

The public expenditure of Nigeria has been growing tremendously since the 1970’s both in relative and absolute terms particularly due to super abundance of “petro-naira” that boost the economic growth of the nation. According to Aregbenyen (2006) “federal government expenditure in Nigeria increased at an average of 28.35 percent every 5years between 1970 and 2003.

The role of the public sector in Nigeria development has undergone a fundamental transformation since the nation achieved independence on October 1, 1960. It is a known fact that Nigeria practiced a “mixed economy where public sector and private sector coexist and presumably cooperate. However while the balance was in favour of the public sector, during the first two decades after independence, there has been  a tilt towards the dominance of the private sector. However, the explosion of international oil price transformed the macro economic situation, dramatically expanding government revenues and enabling government to become the key investor in the economy. The public enterprise expanded to include enterprises spinning various sub-sectors and accounting for some of government expenditure (Ukwu: 2006). It was estimated that in the 1970’s, there were over 1500 public enterprises of various types, of which the federal government has 600 and the states and Local government have the rest. The economic important of public enterprises was reflected in the fact that in 1977 federal public corporations alone accounted for 17percent of modern sector employment or 28percent of public sector employment. And in the Federal budget for 1982 named public enterprises accounted for 25percent of Federal government recurrent expenditure, 80percent of recurrent grants and subvention and a full 50percent of the capital programme (Ukwu: 1989).

The background of the study is that both government expenditure and National income have averagely maintained positive trend in the last three and half decades. This is such that in some occasion government expenditure is found to be growing at a faster rate than National income. Against this background, we therefore expect the validity of either Wagner’s law (that during industrialization process, as real income per capital of a nation increases, the shares of governments in total expenditure increases), or Keynesian hypothesis (that government expenditure is an exogenous variable and policy instrument for achieving economic growth) or both.

1.2   STATEMENT OF PROBLEM

In the 20^th century and especially since the end of the Second World War (1939-1945) there has been a tendency for the size of government expenditure to increase in both developed and developing countries. It is also confirmed that the gross national product (GNP) or the gross domestic product (GDP) has also been increasing in most of these countries. However, what has emerged from virtually all studies is that government expenditures tend to rise at a faster rate than the GNP or GDP in both more Developed countries (LDCS), (Iyoha; 2004).

In Nigeria, a key aspect of the economic analysis of the public sector is the study of the size of government expenditure especially in relations to national income or GDP. Public expenditure and national income have been increased steadily since 1970, But there was a down turn in middle 1980’s when the collapse of international prices of crude oil severely reduced both government revenue and national income.

Extensive empirical analysis of Wagner’s law has produced mixed results in Nigeria as in other countries of the world. Some studies supports Wagner’s law i.e Aregbeyen (2006) using Johansen co-integration and standard causality tests, supported that Wagner’s law holds in Nigeria, another supporter of this is Aigbokham (1996), while other studies such as ; Essien (1997) found that the variable (public spending and real income) were not co integrated and hence could not establish a long run relationship, Babatunde (2008) also did not find any evidence in support of the law in Nigeria.

As a result of the controversies over the validity of Wagner’s law in the Nigerian economy. This research work is aimed at re-estimating and re-evaluating the Wagner’s hypothesis for Nigeria, using a more robust estimation method. While researching on this topic, researchers have made use of different scope; Bigben Chukwuma Ogbonna made use of the period (1950-2008), M. Adetunji babatunde made use of the period (1970-2006). This study fills the gap by making use of a more recent scope (1981-2013).

1.3 RESEARCH  QUESTIONS

• Is there any significant effect of national income aggregates (such as GDP) on public expenditure?
• Is there a long run relationship between national income and public expenditure in Nigeria?
• Is the causality between the two variables bidirectional?

1.4   OBJECTIVES OF THE STUDY

This study is aimed at verifying and discussing empirically the validity of Wagner’s law (the tendency for government activities to expand in relations to economic progress) in the Nigerian economy.

 

The specific objectives of this study include;

• To investigate if there is any significant effect of national income aggregates (i.e GDP) on public expenditure.
• To ascertain if there is a long run relationship between National income and public expenditure in Nigeria.
• To investigate if there exists a bidirectional causality between the two variables.

Generally, there are at least two reasons for re-estimating Wagner’s law for Nigeria. First, we attempt to reach some insights in order to develop better theories of public expenditure growth in the case of Nigeria. Second, so that we can eliminate earlier studies methodological shortcomings in terms of Wagner’s law.

1.5   SIGNIFICANCE OF THE STUDY

This research work is considered significant in the following ways:

• The finding of this study will be relevant to policy makers as it is going to enrich their insights in order to develop better theories of public expenditure growth for Nigeria.
• The findings of this study will also be useful to the governments in developing planning, as it will reveal the direction of causal arrow between national income and government expenditure.
• Finally, this study will serve as a reference material (point) for further researches or studies.

1.6  RESEARCH HYPOTHESIS

The following hypothesis will guide this research work;

• Ho: B₁=0; There is no significant effect of national income aggregates on public expenditure.
• Ho: B₁0; There is a significant effect of national income aggregates on public expenditure.
• Ho: B₁=0; There is no long-run relationship between national income aggregates and public expenditures.
• Ho: B₁0; There is a long-run relationship between national income aggregates and public expenditures.
• Ho: B₁=0; There is no bidirectional causality between the two variables.
• Ho: B₁0; There is a bidirectional causality between the two variables.

1.7   SCOPE AND LIMITATIONS  OF THE STUDY

The following posed a constroint to this study:

• Finance: money as we know is a scarce commodity. Consequently, financial limitation is one of the problems encountered in the course of this study.
• Time constraint: The time set for this study is too short as it is expected that the complete work should be submitted within a semester which is too short to carry out a normal research work.
• Poor data: poor data and information of this country hampered the smooth outcome of this research, as some data needed for this research were either incomplete or inconsistent.

1.8   OPERATIONAL DEFINITION OF TERMS

To make this work more understandable and clear, the key economic terminologies that feature in this study are defined below.

Wagner’s Law: Wagner’s law is an economic proposition advanced by Adolph Wagner in 1983, which states. “In the course of economic growth, government expenditures expand a even faster than national income”.

Government Expenditure: Government expenditure is the part of total spending in a country over a given period that is financed by the government. It is used to measure the extent to which a government involves in economic activities as well as the size of a given government.

Economic Growth: Economic growth is the quantitative and qualitative increase in output and improvement in the productive capacity of an economy, over a given period of time.

National Income: National income is the total income of the residents of a country measured at factor cost after deducting capital consumption (GDP) this equals gross national product (GNP). In the study, we follow Halicioglu (2003) in using GDP as measure of National income in Nigeria.

1.9   ORGANIZATION OF THE STUDY

This study is harmonized into five (5) chapters. Chapter one is the introduction which include the background of the study, statement of problems, significance of the study, objectives of the study, hypothesis of the study, limitation and scope of the study, definition of terms, organization of the study and chapter references. Chapter two is the literature review which encompasses theoretical literature and empirical literature on Wagner’s law and chapter references. Chapter three is the methodology which consists of research design, model specification, and method of estimation, method of verification of hypothesis, required data and sources as well as chapter references. Chapter four contains the presentation and analysis of results, evaluation of parameter, verification of hypothesis, discussion, as well as chapter references. While the last chapter five incorporates the summary of finding, recommendations and conclusion as well as references and appendix.

 

REFERENCES

Aigbokhan, B.E (1996), “Government size and economic growth: The Nigerian Experience”, in “Beyond Adjustment: Management of the Nigerian Economy”. Proceedings of the 1996 annual state conference of the Nigerian economic society.

 

Aregbeyen, O. (2006) “co integration, causality and Wagner’s law: Test for Nigeria, 1970-2003”. Central Bank of Nigeriaeconomic and financial review, volume 44 number 2. June. Burney Nadeem A.(2002). “Wagners Hypothesis:Evidence from Kuwait using cointegration tests”.Applied Economics from Kuwait using co integration tests”. Applied Economics  (34), 49-57.

 

Babatunde, M. A. (2008), “A Bound Testing Analysis of Wagner’s Law in Nigeria: 1970-2006”, Department of economics, university of Ibadan, Ibadan, Nigeria.

 

.Essien E. A. (1997): “Public sector Growth, An econometric Test of Wagner’s law Economic and Financial Review, Vol. 35, No. 3, 1997. Central Bank of Nigeria.

 

Halicioglu, F (2003). Testing Wagner’s law for Turkey, 1960-2000. Review of Middle East. Economics and finance, 1 (2), 129-140.

 

Iyoha, M. (2004): “Macroeconomic Theory and Policy”. Mindex publishers, Benin City, Nigeria.

 

Musgrave, R.A. (1969), fiscal systems, New Heaven and London: Yale University Press.

 

Ogbonna, B. C. (2012). Does Wagner’s law hold for Nigeria?

1950-2008. JORIND. 10 (2), 290-299.

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