THE IMPACT OF INTEREST RATE ON INVESTMENT DECISION IN NIGERIA AN ECONOMETRIC ANALYSIS 1981-2010

CHAPTER ONE

INTRODUCTION

1.1 Background of the Study

Investment is the change in capital stock during a period. Consequently, unlike capital, investment is a flow term and not a stock term. This means that capital is measured at a point in time, while investment can only be measure over a period of time. Investment plays a very important and positive role for progress and prosperity of any country. Many countries rely on investment to solve their economic problem such as poverty, unemployment etc (Muhammad Haron and Mohammed Nasr (2004). Interest rate on the other hand is the price paid for the use of money. It is the opportunity cost of borrowing money from a lender to finance investment project. It can also be seen as the return being paid to the provider of financial resources, for going the fund for future consumption. Interest rates are normally expressed as a percentage rate. The volatile nature of interest is determined by many factors, which include taxes, risk of investment, inflationary expectations, liquidity preference, market imperfections in an economy etc. Banks are given the primary responsibility of financial intermediation in order to make fund available for economic agents.

Banks as financial intermediaries move fund. Surplus sector/units of the economy to deficit sector/units by accepting deposits and channeling them into lending activities. The extent to which this could be done depend upon the rate of interest and level of development of financial sector as well as the saving habit of the people in the country. Hence, the availability of investible funds is therefore regarded as a necessary starting part for all investment in the economy which will eventually translate to economic growth and development (Uremadu, 2006). Many researchers have done a lot of study on the impact of interest rate on investment. In Nigeria, Ologu (1992) in a study of “The Impart of CBN Money Policy on aggregate investment behavior”. Found out only few of the variables were significant at both the 95% and 90% confidence limits in explaining the behavior of investment during the (1976-90) period of student”. Specifically, he found out that: 1. Contrary to expectation and to change’s stock adjustment hypothesis, the existing stock of capital goods (plants and machinery) was not a major determinant of investment behavior of forms in Nigeria. 2. Interest rate was significant in influencing investment decision nothing that” this is not surprising since in a situation of limited residual funds as in Nigeria, the cost of capital should exert significant influence on both the frequency and volume of demand for invisibles funds by investors. Lesotho (2006) studied “An investigation of the determinants of private investment “the case of Botwana”. Among his independent variable were real interest rate, credit to the private investors, public investment and trade credit to the private investors, real interest rate affect private investment positively and significantly. Other variable do not affect private investment level in the short-term as they show insignificant co-efficient. GDP growth and conform similar finding sin studies by Oshikoya (1994), Ghura and Godwin (2000) and Malmbo and Oshikoya (2001).