THE ROLE OF FINANCIAL INSTITUTION IN ECONOMIC GROWTH

CHAPTER ONE
INTRODUCTION
1.1Background of the study An efficient financial system is essential for building a sustained economic growth and an open vibrant economic system. Countries with well-developed financial institutions tend to grow faster; especially the size of the banking system and the liquidity of the stock markets tend to have strong positive impact on economic growth. This study examines the impact of financial sector development and economic growth in Nigeria. It seeks to know the impacts of the sector in the Nigerian economy and whether the sector has been able to achieve its main objective of intermediation as a result of the inability of the sector to assist the real sector despite the huge profits declared yearly & also the short term lending of the banks instead of long term investment that can boost the economy.Economic growth in a developing economy rest on an efficient financial sector that pools domestic saving and mobilizes foreign capital for productive investments. In the developing countries, industries need more funds to increase their investment so that they can meet globalization constraint. 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. This sector has helped in facilitating the business transactions and economic development (Aderibigbe 2004). A well- developed financial system performs several critical functions to enhance the efficiency of intermediation by reducing information, transaction and monitoring costs. If a financial system is well developed, it will enhance investment by identifying and funding good business opportunities, mobilizes savings, enables the trading, hedging and diversification of risk and facilitates the exchange of goods and services. All these result in a more efficient allocation of resources, rapid accumulation of physical and human capital, and faster technological progress, which in turn results in economic growth. Development in the real sector, as noted by Ajayi (1995), influences the speed of growth of the financial sector directly, while the growth of the finance, money and financial institutions influence the real economy. The economic growth is a gradual and steady change in the long-run which comes about by a general increase in the rate of savings and population (Jhingan 2005). It has also been described as a positive change in the level of production of goods and services by a country over a certain period of time. Economic growth is measured by the increase in the amount of goods and services produced in a country. An economy is said to be growing when it increases its productive capacity which later yield more in production of more goods and services (Jhingan 2003). Economic growth is usually brought about by technological innovation and positive external forces. It is the yardstick for raising the standard of living of the people. It also implies reduction of inequalities of income distribution. Oluyemi (1995) regards the financial sector of any economy as an engine of growth that could greatly assist in the promotion of rapid economic transformation. It can be concluded that no economy can ever develop without an appreciable growth in the financial sector. An efficient financial system is essential for building a sustained economic growth and an open vibrant economic system. Countries with well-developed financial institutions tend to grow faster; especially the size of the banking system and the liquidity of the stock markets tend to have strong positive impact on economic growth (Beck and Levine, 2002 in Nnanna, 2004).

It is well known that stock market and other financial market institutions play a major role in the economy through enhancing the efficiency in capital formation and allocation. They enable both corporations and the government to raise long-term and short term capital which enables them to finance new projects and expand other operations, In this regard, it is observed that the performance of the economy is boosted when capital is supplied to productive economic units. Furthermore, as economies continue to develop, additional funds are therefore needed to meet the rapid expansion and the stock market therefore serves as an appropriate avenue for the mobilization and allocation of resources among competing uses which are critical to the growth and efficiency of the economy In another study by Alile (1997), he argued that the determination of the overall growth of an economy depends on how efficiently the stock market performs its allocative functions of capital. Stock markets are a vital component for economic development as they provide listed companies with a platform to raise long-term capital and also provide investors with a forum for investing their surplus funds. As economies develop, more funds are needed to meet the rapid development and the stock markets and banks serve as an important source in the mobilization and allocation of savings among competing uses which are critical to the growth and efficiency of the economy. Stock markets fuel economic growth through diversification, mobilizing and pooling of savings from different investors and availing them to companies for optimal utilization. The causality relationship between financial development with particular emphasis on stock market, banks and economic growth issue has stirred debates in academic circles and the controversy has arisen from the fact that the relationship between the two variables is dynamic in nature. 1.2 STATEMENT OF PROBLEM The Nigerian financial sector, like those of many other less developed countries, was highly regulated leading to financial disintermediation which retarded the growth of the economy. The link between the financial sector and the growth of the economy has been weak. The real sector of the economy, most especially the high priority sectors which are also said to be economic growth drivers are not effectively and efficiently serviced by the financial sector. The banks are declaring billions of profit but yet the real sector continues to weak thereby reducing the productivity level of the economy. Most of the operators in the productive sector are folding up due to the inability to get loan from the financial institutions or the cost of borrowing was too outrageous. The Nigerian banks have concentrated on short term lending as against the long term investment which should have formed the bedrock of a virile economic transformation.
1.3 RESEARCH QUESTION In other to achieve the objective of the study and proffering solution to problem of study, the following research question were formulated:
i)             What is the role of the financial sector on the economic development of Nigeria’s economy?
ii)            What is the economic importance of the financial sector to the economy?
iii)          What is the relationship between economic growth and economic development?
iv)          What is the role of the stock market on economic development?
1.4 OBJECTIVE OF THE STUDY
The broad objective of this study is to empirically investigate the impacts of the Nigerian financial sector on the growth of the economy. The specific objectives are to
(1) Determine the relationship that exists between economic growth and the Nigerian financial sector
(2) Examine the impact of the financial sector on the Nigerian economic growth.
(3) To evaluate the impact of the financial sector on the economic development of Nigeria
(4) Proffer recommendation to enhance the performance of the financial sector.
1.5 RESEARCH HYPOTHESIS
The hypothesis of this study is; H0: financial sector development does not have any impact on Nigerian economic growth H1: financial sector development has impact on the Nigeria’s economy H02: financial sector development does not have any impact on Nigerian economic development
H2: financial sector development has impact on the Nigeria’s economic development.
1.6 SIGNIFICANCE OF THE STUDY
It is conceived that at the completion of the study its findings would be beneficial to.The management of business entities who are contributors to the subject in consideration.The accounting profession and auditors in their different engagements and assist them to project a good image of accounting profession Research students who may want to use the study as a source of reference in their academic pursuit.The entire public (Investors and potential investors) who rely on the external auditor for economic decision making.
1.7 SCOPE OF THE STUDY
The scope of the study covers role of financial sector in the economic growth of the Nigeria economy. The study seek to evaluate the role of the financial sector in expanding the frontiers of Nigeria economy
1.8 LIMITATION OF THE STUDY
This research has some constrain to its scope and coverage which are:
a)     AVAILABILITY OF RESEARCH MATERIAL: The research material available to the researcher is insufficient, thereby limiting the study
b)     TIME: The time frame allocated to the study does not enhance wider coverage as the researcher have to combine other academic activities and examinations with the study.
c)     Organizational privacy: Limited Access to the selected auditing firm makes it difficult to get all the necessary and required information concerning the activities 1.8 STRUCTURE OF THE STUDY This research work is organized in five chapters, for easy understanding, as follows Chapter one is concern with the introduction, which consist of the (overview, of the study), statement of problem, objectives of the study, research question, significance or the study, research methodology, definition of terms and historical background of the study. Chapter two highlight the theoretical framework on which the study its based, thus the review of related literature. Chapter three deals on the research design and methodology adopted in the study. Chapter four concentrate on the data collection and analysis and presentation of finding.  Chapter five gives summary, conclusion, and recommendations made of the study. 1.9 DEFINATION OF TERMS FINANCE: Is a field that deals with the study of investments. It includes the dynamics of assets and liabilities over time under conditions of different degrees of uncertainty and risk. Finance can also be defined as the science of money management. Finance aims to price assets based on their risk level and their expected rate of return. Finance can be broken into three different sub-categories: public financecorporate finance and personal finance FINANCIAL SECTOR The financial sector is a category of stocks containing firms that provide financial services to commercial and retail customers; this sector includes banks, investment funds, insurance companies and real estate. Financial services perform best in low interest rate environments. A large portion of this sector generates revenue from mortgages and loans, which gain value as interest rates drop. FINANCIAL SECTOR DEVELOPMENT  In developing countries and emerging markets is part of the private sector development strategy to stimulate economic growth and reduce poverty. The Financial sector is the set of institutionsinstruments, and markets. It also includes the legal and regulatory framework that permit transactions to be made through the extension of credit. Fundamentally, financial sector development concerns overcoming “costs” incurred in the financial system. This process of reducing costs of acquiring information, enforcing contracts, and executing transactions results in the emergence of financial contracts, intermediaries, and markets. Different types and combinations of information, transaction, and enforcement costs in conjunction with different regulatory, legal and tax systems have motivated distinct forms of contracts, intermediaries and markets across countries in different times. The five key functions of a financial system in a country are:
(i) Information production ex ante about possible investments and capital allocation;
(ii) Monitoring investments and the exercise of corporate governance after providing financing;
(iii) Facilitation of the trading, diversification, and management of risk;
(iv) Mobilization and pooling of savings; and
(v)  Promoting the exchange of goods and services. Financial sector development takes place when financial instruments, markets, and intermediaries work together to reduce the costs of information, enforcement and transactions.A solid and well-functioning financial sector is a powerful engine behind economic growth. It generates local savings, which in turn lead to productive investments in local business. Furthermore, effective banks can channel international streams of private remittances. The financial sector therefore provides the rudiments for income-growth and job creation. ECONOMIC GROWTH Economic Growth is the increase in the inflation-adjusted market value of the goods and services produced by an economy over time. It is conventionally measured as the percent rate of increase in real gross domestic product, or real GDP, usually in per capita terms. Growth is usually calculated in real terms – i.e., inflation-adjusted terms – to eliminate the distorting effect of inflation on the price of goods produced. Measurement of economic growth uses national income accounting. Since economic growth is measured as the annual percent change of gross domestic product (GDP), it has all the advantages and drawbacks of that measure. The “rate of economic growth” refers to the geometric annual rate of growth in GDP between the first and the last year over a period of time. Implicitly, this growth rate is the trend in the average level of GDP over the period, which implicitly ignores the fluctuations in the GDP around this trend. An increase in economic growth caused by more efficient use of inputs (such as labor productivity, physical capital, energy or materials) is referred to as intensive growth. GDP growth caused only by increases in the amount of inputs available for use (increased population, new territory) is called extensive growth .