Financial sector liberalization and capital market development in Nigeria 1986-2017

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CHAPTER ONE

INTRODUCTION

1.1   Background to the Study

Liberalization, literally, means the “removal of controls. Financial liberalization refers to measures directed at diluting or dismantling regulatory control over the institutional structures, instruments and activities of agents in different segments of the financial sector. These measures can relate to internal or external regulations (Chandrasekhar, 2004).

Financial Liberalization is when restrictions on financial markets and financial institutions are eliminated, or when financial innovations such as subprime mortgage loans are introduced to the financial markets. Financial liberalization has become an important economic policy package in both advanced and advancing countries. Financial liberations and innovations are beneficial to the economy in the long-run because they lead to more efficient financial markets. Financial liberalization serves as a panacea to financial constraints in a financially repressed economy

Financial liberalization gained  attention  in  the  early  1970s  due  to  the  seminal  work  of  McKinnon (1973)   and  Shaw  (1973)  in  which  they  argued  that  liberalization  of  the  financial  sector  will  lead  to  increase  in  savings, encourage  investment  and  induce  economic  growth. Hence, many countries especially  developing  countries  have  embraced  financial   liberalization  as  the  way  forward  for  their  economies.

Financial  liberalization  became  a   useful  and  important  monetary  policy  in  many  countries  following  the  directive  from  the  “Washington  Consensus” or  “Bretton  Woods”. Just like other African economies, Nigeria’s financial sector is underdeveloped and unorganized. It is characterized by dualism, market segmentation and spatial fragmentation [Iyoha and Oriakhi, 2002]. The financial sector of any economy in the world plays a vital role in the development and growth of the economy. The development of this sector determines how it will be able to effectively and efficiently discharge its major role of mobilizing fund from the surplus sector to the deficit sector of the economy.

Oshikoya and Osita [2002] financial liberalization in several African countries has been implemented largely through Structural Adjustment Programmes. In Nigeria, until the adoption of Structural Adjustment Program in 1986, financial repression and bureaucratic control of interest rates were the order of the day. Nigeria, prior to liberalization of the financial sector, had a repressed financial sector in which the government and the Central Bank of Nigeria (CBN), restricted and controlled the activities of the financial sector. However, following the adoption of SAP, Nigeria liberalized her economy in August 1987. This policy initiative commenced with the liberalization of interest rates. Apart from the liberalization of interest rates, the reform also involved promotion of market-based system of credit allocation, enhancing competition, and efficiency of the regulatory and supervisory framework (Jegede and Mokulolu, 2004; Agu et al., 2014). The adoption of this economic package was motivated by the need to proactively put the Nigerian banking industry and the economy at large on the path of global competitiveness.

It is a well acknowledged fact that there exist a positive and significant relationship between capital market development and economic growth and development. The Capital market is a complex institution and mechanism through which funds are pooled, and made available to Business, Governments and Individuals on long-term basis for Development purpose. That is, the surplus funds of the community are channelled to the deficit units in need of additional funds for medium or long-term investments, or for the modernization of the production line or to broaden the capital base to enhance the enterprise’s leverage (Onoh, 2002). Financial regulators like Nigerian stock exchange (NSE) regulate and protect investors against fraud, among other duties.

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