Impact of Oil Price Volatility on Industrial Sector Output

CHAPTER ONE

INTRODUCTION

1.1       Background of Study

Nigeria industrial sector has been impacted significantly by the wage of oil price volatility. During the period of high oil price in the international market, government increase expenditure in the industrial sector to increase capacity building in the sector and position the sector to provide more job opportunity to the masses. Industrial development has not really been successful in Nigeria.

This is because industrial development involves extensive technology-based development of the productive (manufacturing) system of the economy. In other words, it could be seen as a deliberate and sustained application and combination of suitable technology, management techniques and other resources to move the economy from the traditional low level of production to a more automated and efficient system of mass production of goods and services (Ayodele and Falokun, 2003).

However, despite efforts by past administrations in Nigeria at promoting trade and industrial development, and its effects of macroeconomic variables on the industrial sector shows that efforts by policy makers have not effectively satisfied the desired industrial development which should increase national income per capital income, prove foreign exchange earnings, secure full employment and expand the market for local law materials. Industrial sector performance in Nigeria has been rather poor since independent. Prior to 1970, there was a real total reliance on agricultural production while the past 1970 era shower a total shift to exclusive reliance on petroleum.

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In addition to the monoculture structure of the production bases, there was the problem of oil price instability, which to a large extent has adversely affected industrial sector productivity in Nigeria since 1973, substantial fluctuations in the international price of crude oil have had for reasing implication for the country’s macroeconomic policies “Olapoenia, 1986” Okigbo, 1973, Iwayemi, 1995.

The price of crude petroleum rose from the first time in Nigeria in 1973 from $3 to $11.6 per barriers in response to the uncertainties created by the Grab – Israel war, which erupted in October 1973. The resultant rise in the price of crude petroleum generated a total of N9.2 billion in revenue for Nigeria in 1994 as the country exported 108 million tons of crude oil that year “mandal, 1977. The upsurge in crude oil and price and the resultant increase in the revenue for the country created opportunity for industrial development and modernization of the Nigeria economy.

Although the oil price increase in 1943 was short lived, between 1979 and 1980, the price of oil rose in the international market between 135 and A$40 a barrel from et $14 level recorded in the early part of 1978. the rise in crude oil price again was only mainly to the Iraninan revolution. In responses Nigeria produced 84.2.5 million barrel in 1979 and realized N9305.6 million in the prices “The Africa Guardian, 1986, First Bank Business Report,1990” with the increased revenue derivable from oil sector the Nigeria economy became mono-cultural as emphasis shifted from the agriculture sector to the oil sector. Thus is 1980 the nation experienced a severe economic crisis which is receasble to the over dependence a severer economic crises which is traceable to the overdependence on the oil sector  “Otashere, 1988” The oil glut era of the 1980s created a serious problem for the industrial sector, as there was a decline in industrial output and the level of industrial employment.

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Consequent upon the freezing, the country passed through a period of structural adjustment programmed in 198. This was accompanied by austerity measure of enormous proportion. By 1990 a sign of relief was not welcome with the price of oil in the international market seoard as a result of the guif war between Iraq and Kawat. as a result of the war, Nigeria earning from crude oil export reached N106.62 million as against the targeted N38.62 million.

These translate into windfall of N68 billion since the exchange rate was stabilized at N9 to 11 between September and December 1990. The revenue gained from the glut crises was however not translated to productive investment and increased manufacture productivity.

In the late 1990’s and early 2000 crude oil maintained at position as the highest contributor to the federation account. This was shown in the year 2003 annual budget. Out of estimated proved revenue of N1,819.0214 billion, a total of N120. 1789 billion representing 61.58% is expected to be generated from oil. The projection is predicted on a crude oil price at $21 per barrel: the answer to this question rest on the pattern of crude oil price volatility.

According to Ujunwa (2015) the recent oil price shock (large fall in oil prices) has been attributed to factors such as higher than expected supply, weakness in global demand for oil, driven largely by improvements in production technology, particularly the shale technology in the United States, steady rise in production of countries not belonging to the Organization of Petroleum Exporting Countries (OPEC), the faster than expected recovery of production in some stressed OPEC producers (Iran for instance); OPEC’s November 2014 decision to maintain production level despite the sharp decline in prices, which clearly shows that the trend might not abate soon. Oil price changes, volatility have been a very controversial topic among different scholars. External shocks can be defined as a large unanticipated change in world economic conditions which impacts upon a national economy. Shocks could come in different forms such as a shift in the terms of trade, a slowdown in the growth of world export demand and an increase in interest rates set by world financial markets. Oil shocks are of great concern to most economies because a sudden hike in prices has been found to cause a fall in global output. Oil price shocks could also be defined as a large boost in the relative international price of oil. Nordhaus (2007), defined oil-price shock as an inward shift in the supply curve for crude oil that is triggered by political events exogenous to the oil market and the macro economy.

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The current declining oil price and the daunting challenges it poses to the Nigerian economy, has brought to the fore, the need to reconcile theory with practical realities. Given the empirical literature on the recent shocks, this study fills an important research gap by clarifying our understanding of the of declining oil prices on Nigerian economic indicators in terms of magnitude of the impact, the permanent/transitory nature of the shock and most importantly, the symmetry of the shock. In view of the foregoing analysis this research will focus on the impact of oil price volatility on industrial output in Nigeria.

1.2       Statement of the Problem

The recent volatility in crude oil prices which started in July 2014 has adversely affected Nigeria, especially in the areas of, industrial sector development, foreign reserves, currencies crisis, declining government revenue, and ultimately, threat in terms of ability to meet financial obligations as at when due. Brent oil price declined by 24 percent to a four-year low of USD81 as at November 11, 2014. The price of Brent fell from USD114.91 on January 31 to USD102.12 on May 31, and stood at USD57.8 and 67.6 on March 31, 2015. The resultant effect has been a large out pour of policies among policy makers and contributions from the academia. These policy prescriptions have spurred the need to diversify the economy towards once thriving sectors in the economy, removal of subsidy, the war on corruption and reduction of government activities and government related cost ( as at the time of this work the budget had not been released for this reason).

It should be noted that rise in oil price in the early 1970 led to massive industrialization of the Nigeria economy. However, hopes that Nigeria will regain the strong growth momentum that characterized its performance in 1970’s are unlikely to be realized in the near terms growth in the 70’s was driven by rapid expanding oil production that quadingpling of the declare price of oil and the massive public sector investment in the infrastructure and scare owned heavy industry. The favourable condition that favoured industrial sector performance and growth in the No’s as unlikely it apply in the event 6 to 8 years because of the existence of the following constraints: Export and balance of payment imbalance with the continuous decline in oil price and the heavy reliance oil revenue the Nigeria economy is likely to be faced with constrained growth in the industrial  sector by limiting import capacity. Thus in turn will result in investment falling below the level necessary for the high rates of growth targeted in the vision of 2010 pham drawn up in 1997.

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Infrastructure: In the 1998 African competitiveness report Nigeria was ranked within out of 20 countries evaluated on electricity and water supply, telecommunication, railway infrastructure and internet access. Nigeria has the smallest number of telephone in use per capital out of 23 African countries and if it is in bottom three on our transport, port facilities and transport cost. This to a large extent has hampered industrial sector growth in the last two decades.   Institutional Capacity: Lack of institutional capacity has also constrained growth of the Nigeria economy compared to some of the world’s poorest economies adult literacy is still relatively low in Nigeria school enrollment ratios which stagnated since 1980 were above average for developing countries as a whole but are now below it.

In year 2000, the expenditure on education represents. 1.4% of GDP and accounted for 7.1% of total expenditure. This performance falls below the average for developing countries. Regional Disparities: Concentrations of Industries are located in major cities with very few industries in most states and few region of the federation. Regional disparities in Nigeria are amongst in the world. When the countries were ranked by united nations development programme in its 1994 human development report at found that the state senders was top with an index nearly five times as great as that of Borno state among others. The major the research problem in this study is the need to understand the effect of oil price volatility on four fundamental economic variables (industrial sector output, total government revenue, exchange rate and foreign exchange reserves) in Nigeria.

1.3       Research Questions

(1) Is there any significant impact of oil price volatility on industrial sector output in Nigeria?

(2) Is there any long run relationship between oil price volatility and industrial sector output in Nigeria?

1.3 Research Objectives

The general objective of the study is to assess the relationship between oil price volatility on industrial sector output in Nigeria. The specific objectives include the following:

(1) To investigate the impact of oil price volatility on industrial sector output in Nigeria.

(2) To evaluate if there is long-run relationship between oil price volatility on industrial sector output in Nigeria.

1.5       Research Hypothesis  

In this study, the hypotheses below shall be tested;

H0i:      Oil price volatility has no significant impact on industrial sector output in Nigeria.

H0ii:     There is no long-run relationship between Oil price volatility and industrial sector output in Nigeria.

1.5. Significance of the Study

This study aims at investigating the oil price volatility on industrial sector output in Nigeria at large and hence, its impact cannot be over-emphasized. The study will be of great importance to policy makers, government and its agencies, private individuals and firms at large.  The study will be also of great importance to student s of economics and other researchers who may have interest in industrial sector or industrialization and its impact on Nigeria economy. Finally, the findings of this study would add to the stock of econometric literature of Nigeria.

1.6       Scope and Limitation of the Study

This study aims at investigating the oil price volatility on industrial sector output in Nigeria at large within 1980-2015. The industrial sector as used in this context refers to the sector of the economy that involves deliberate and sustained application and combination of suitable technology, management techniques and other resources to move the economy from the traditional low level of production to a more automated and efficient system of mass production of goods and services (Ayodele and Falokun, 2003).

The researcher encountered a number of constraints in the course of this work to include; data sourcing or data inconsistence due to poor nature of information management in Nigeria. Other constraints are; time factor, financial constraints and host of other constraints that prevent the researcher to present a better work than this.