Determinants Of Capacity Utilization In The Nigeria Manufacturing Industry

Project and Seminar Material for Economics

Determinants Of Capacity Utilization In The Nigeria Manufacturing Industry


This research work explores the determinants of capacity utilization in the Nigerian manufacturing sector within the periods of 1980 to 2009. The data used for this study were obtained through various sources like the CBN statistical bulletin for the year ended 2008 and 2009, and also from the statement of accounts and annual report published by the Central Bank of Nigeria. The variable used are Average manufacturing capacity utilization rate Inflation rate Exchange rate Ratio of government capital expenditure to GDP Commercial bank loans and advances to manufacturing sector and Electricity generation and consumption in manufacturing industry. The result shows that exchange rate, federal government capital expenditure to GDP, commercial bank loans and advances to manufacturing industry has a positive effect on manufacturing capacity utilization. Recommendations include the adoption of economic policies that ensures price stability and at the same time achieve target objectives. Exchange rate deregulation policy promotes manufacturing capacity utilization and therefore fiscal policy measures involving increased government capital expenditure to the manufacturing sector and those which raise the aggregate demand in the economy are advocated.

Chapter One

1.0 Introduction

1.1 Background of the Study

Industrial development, particularly the promotion of manufacturing sectors, has been the basic driving force for a relatively high economic growth of both developed and developing countries of the world. In viewing the contribution of the manufacturing sector to the growth of the gross domestic product of some selected countries (IMF 2001), pointed out that the long term growth rate of the manufacturing value added in china was 10.7% and it increased to 14.7% during the period of 1990-1998. The growth rate of India’s manufacturing sector remains constant. Industrialization has not taken serious root in Africa and indicators of growth in manufacturing show a continent at a standstill. In the 1980’s, manufacturing sector’s contribution to GDP, accounted for 36.6% of the total for the whole of Africa. Nigeria’s manufacturing sector is faced with capacity underutilization and this has been a threat to the economic growth and development of the country. This sector has been agreed to determine the rate of import and export of the country and plays an important role or have a great influence on the gross domestic product (GDP) of the country.

Capacity utilisation rate plays a crucial role in evaluating economic performance of manufacturing firms. Capacity utilisation is an important factor to be considered when an increase in productivity and expansion of firm’s production become necessary. Also, the need to consider capacity utilisation is vital in many developing countries especially in Nigeria where capital is very scarce and mostly under utilised (Adeyemi&Olufemi, 2016). Theory of economies of scale stipulates that a cost-minimizing firm has a tendency to increase the utilisation of its capital if the returns to scale decreases as its production increases (Afroz and Roy, 1976). That is, the rate of capacity utilisation could be determined endogenously. Moreover, the level of capacity utilisation does not only determine how much more output obtained by greater utilisation of existing capital but also defines expansion of capacity of a firm for a targeted level of output (Afroz and Roy, 1976).In view of this, the rate of capacity utilisation is directly related to the level of employment but inversely related to per unit capital service cost. Thus, an increase in capacity utilisation means a reduction in the average cost of production Afroz and Roy, 1976). As crucial economic indicator as it is, capacity utilisation has not received due attention from development economists especially in most developing countries, Nigeria inclusive. Though not greatly dealt with, capacity utilisation does not only explain the relationship between actual output and maximum or potential output, but also imply the level of market demand. Over- orunder-utilisation of plant capacity can reduce plant competitiveness by increasing operating costs (Seguin and Sweet land, 2014). When market demand grows, capacity utilisation will rise. By contrast, if demand weakens, capacity utilisation will slacken. In the short run, capacity utilisation is important to determine the elasticity of supply. For a firm that is close to 100% of capacity utilisation rate, then supply will be very inelastic since there will be no room for capacity expansion to meet the required increase in supply. That is, regardless of changes in the price, supply remains relatively the same in the short run. Though, firms can increase productive capacity and increase the amount of capital in the long runto cope with excess supply. In theory, capacity utilisation is measured in 100% efficiency level, however, in practical sense, capacity utilisation may not exceed 90% maximum level especially in developing economies due to some setbacks in the production process such as lack of proper labourmonitoring and supervision, wastages in the process and machine breakdown (Afroz and Roy, 1976).In other words, each firm will choose its level of utilisation based on the principle of cost minimization and then explores how such will determine its normal rate of utilisation (Nikiforos, 2012). Thus, the rate of capacity utilisation remains an important concept, though often neglected, in the production process because the presence of idle resources that can be readily engaged in production activities constitute a big problem in explaining fluctuations in firm output in Nigeria where under utilisation of some productive equipment have become rampant in almost all productive firms. Though, under utilisation of resources in productive firms is not only peculiar to Nigerian firms. For instance, Bresnahan and Ramey (1993) in a microeconomic evidence found that the most usual way of adjusting production is to shut the plant down for a week in the American automobile industry. Similar, surveys of business activities showed in most Western European countries that an important proportion of firms run excess capacities from time to time (Fagnart, Licandro and Portier, 1999). In Nigeria, most manufacturing firms have been faced with capacity under utilisation and this had constituted a threat to firm productivity and production growth, and served as an impediment to economic growth and development of the country. The emphasis of the present government to promote local production has motivated further research in the area of capacity utilisation and firm production in Nigeria which is often neglected in manufacturing firms.

There is much capacity availability in the country but these capacities are underutilized and this can be argued from the fact that the manufacturing sector has not been impressively doing fine since till date and this is as a result of lack of the following :

Employment Rate:

This connotes the fact that there is low level of human resource utilization in the country’s manufacturing sector. Human resources has been said to be one of the most essential factors in the manufacturing sector or any organization.

Effective monetary policy:

This is essential for the increase in output and growth of the sector, price stabilization (factor price and consumer price), full employment, sustainable balance of payment, exchange rate stability, to make use of most suitable interest rate despite the above mentioned role of effective monetary policy in the economy, and manufacturing sector in particular, it is lacking and unavailable in the country.

Effective Fiscal Policy:

A good fiscal policy plays an important role in the economic development of a country such role as: maintaining an economy at full employment so that the savings capacity of the economy is not e impaired and also raise marginal propensity to save by the community as far as above as the propensity as possible without discouraging workforce.

Upgrading and Development of Natural Resources Endowment:

These natural resources in economics is classified under the heading of “land “ as a factor of production, the gravity of these natural resources are high in Nigeria, yet there exists low productivity due to low or poor management of the resources leading to underutilization of these resources.

All these balls down to political instability as the main cause of the sector’s poor performance. The country has witnessed many and frequent change of government and leading to frequent change of policy measures for the manufacturing sector in Nigeria and most of which are unfavorable to the sector, the frequent change also gave rise to poor planning/ implementation and policy discontinuity hampering the growth of this sector.

Taking Nigeria as a case study in Africa, we notice that after so many years of various policy initiations, indicate in terms of it’s contribution to GDP shows that the manufacturing sector performed below expectation. Available data shows that the manufacturing sector performed below expectation. Available data shows that the sector’s contribution in nominal value to GDP in 1982, was N128.6 million, and thereafter, there was a sharp decrease in 1983 to N94.8 million, and has remained relatively so till 1987 which recorded a sharp increase to N130.8 million. It maintained a continuous annual decline and stood at N135.4 million in 2000. In spite of this nominal increase, its contribution to GDP is falling. Its share in GDP was 8.3% in 1991. It has ever since then recorded a continuous fall in its share in GDP, (CBN 2000). One of the reasons for the low share of manufacturing sector in GDP is the prevalence of low capacity utilization. It is a known fact that manufacturing sector in the developing world and indeed Nigeria, is not as strong as those in advanced countries, the installed capacity are usually not fully utilized. It is therefore the concern of this research to find out the factors responsible for the low capacity utilization in Nigeria.

1.2 Statement of the Problem

Players in the Nigerian industrial and manufacturing sector can be classified into four groups namely; multinational, national, regional and local. Apart from the multinational operators most of the other players have disappeared in the last two decades, due to unpredictable government policies, lack of basic raw materials, most of which are imported.

Today, the Nigerian Industrial and manufacturing sector accounts for less than 10% of Nigeria’s GDP with manufacturing capacity utilization remaining below 35% for the most part of the last decade. The history of industrial development and manufacturing in Nigerian is a classic illustration of how a nation could neglect a vital sector through policy inconsistencies and distractions attributable to the discovery of oil. The near total neglect of agriculture has denied many manufacturers and industries their primary source of raw materials. The absence of locally sourced inputs has resulted in low industrialization. Some of the constraints faced in this sector include;

  1. High interest rates
  2. Unpredictable government policies
  3. Non implementation of existing policies
  4. Lack of effective regulatory agencies
  5. Infrastructural inadequacies
  6. Dumping of cheap products
  7. Unfair tariff regime
  8. Low patronage

Globalization and liberalization pose challenges to the Nigerian industrial sector. The impact of these global trends will intensify competition, reduce protection, increase focus on product quality and increased expenditure on research and development. The prospects of manufacturing in Nigeria are bright, given the nations nascent democracy, a market size of over 120million people, rich mineral and other resources, size of the West African market as well as cheap and abundant labour. Developing Nigeria’s industrial sector requires the concerted efforts of government and the private sector to create an environment that would encourage investments, primarily by Nigerians as a firm basis for attracting and sustaining foreign investments in the sector. A fully developed industrial sector would provide a firm basis for sustainable economic growth and development.

This research work will be solely based on assessing the benefits of derived from determining the capacity utilization in the Nigerian manufacturing sector ranging 1980-2009. Here am going to carry out a critical research with the aim of discovering the rate of capacity utilization (high or low rate) in our manufacturing sector as well as its effects (positive or negative) on either the improvement or non-improvement in the manufacturing sector in Nigeria by providing reliable answers to the following questions;

  1. What are the trends in capacity utilization in the Nigerian manufacturing sector?
  2. Why and what are the causes for the low improvement in capacity utilization in Nigeria manufacturing sector?
  3. What are the major factors that determine capacity utilization in Nigeria manufacturing sector?

All the above questions are meant to cover the years between 1980 and 2009.

1.3 Objective of the Study

This research work is carried out to attain certain aims and objectives which will be necessary to solving the problem of low capacity utilization in Nigeria manufacturing sector and serve as a guide for and favorable to business men and women and the nations economy at large. The various objective of this study can be stated below as follow:

  1. Identifying and critically analyzing the major factors that determine capacity utilization in Nigeria manufacturing sector.
  2. To examine the trend in capacity utilization in Nigeria manufacturing sector.
  3. This research work is aimed at suggesting measures which will improve the rate of capacity utilization in Nigeria manufacturing sector and consequently accelerate the growth of manufacturing output in the country.

1.4 Statement of the Hypothesis

Since the major problem and reason for these research is identifying the major factors determining capacity utilization in Nigeria manufacturing sector, the hypothesis will be stated as follows:

  1. H0All determinants of capacity utilization in Nigeria manufacturing sector have significant impact on the capacity utilization growth in Nigeria manufacturing sector.
    H1The determinants of capacity utilization in Nigeria manufacturing sector have insignificant impact on the capacity utilization growth in Nigeria manufacturing sector.
  2. H0: there is no relationship between capacity utilization of the manufacturing sector and Nigeria economic growth
    H2: there is a relationship between capacity utilization of the manufacturing sector and Nigeria economic growth

1.5 Significance of the Study

The Nigerian manufacturing sector has been described as the major sector that contributes to the investment development of any economy whether developed and developing economy. In Nigerian context, several research and studies have been conducted to investigate the determinants of capacity utilization in this sector (manufacturing), basically on its contributory role to economic growth and development. Therefore the method and scope (sample size) used by this former authors need to be updated in other to close their historical gap. Thus I intend with this research work to bridge the gap by bringing the samples used to the nearest years and to also subject some of the variables used by this authors to co-integration test and unit root test to avoid spurious result. This study is very important for development and growth in potential input and output in the manufacturing sector of the economy, it is very important for policy and project identification, preparing, appraisal, implementation and evaluation which will in turn aid and foster the rate of capacity utilization in the manufacturing sector of Nigeria.

1.6 Scope and Limitations of the Study

The scope entails the period of analysis and the periods covered by this study is a period of 29 years and this is between 1980 and 2009.Some practical limitations are lack of adequate data, information, difficulties encountered in collecting and arranging the data’s, this research work also had to contend with time and other resources constraint like finance, cost consideration also posed a serious problem.

1.7 Operational Definition of Terms

Capacity Utilization

Capacity utilization or capacity utilisation is the extent to which an enterprise or a nation uses its installed productive capacity. It is the relationship between output that is produced with the installed equipment, and the potential output which could be produced with it, if capacity was fully used.


Gross domestic product is a monetary measure of the market value of all final goods and services produced in a period of time.


Manufacturing includes all intermediate processes required in the production and integration of a product’s components

1.8 Organization of the Study

This research work is organized in five chapters, for easy understanding, as follows

  1. Chapter one is concern with the introduction, which consist of the (overview, of the study), historical background, statement of problem, objectives of the study, research hypotheses, significance of the study, scope and limitation of the study, definition of terms and historical background of the study.
  2. Chapter two highlights the theoretical framework on which the study is based, thus the review of related literature.
  3. Chapter three deals on the research design and methodology adopted in the study.
  4. Chapter four concentrate on the data collection and analysis and presentation of finding.
  5. Chapter five gives summary, conclusion, and recommendations made of the study

Chapter Five

Summary, Conclusion and Recommendation

5.1 Introduction

It is important to ascertain that the objective of this study was to ascertain the determinant of capacity utilization in the Nigeria manufacturing industry.

In the preceding chapter, the relevant data collected for this study were presented, critically analyzed and appropriate interpretation given. In this chapter, certain recommendations made which in the opinion of the researcher will be of benefits in addressing the challenges of capacity underutilization in Nigeria manufacturing industry.

5.2 Summary

The study was set out to examine the determinants of capacity utilization in the Nigerian manufacturing sector. From the analysis done so far, it was concluded from the survey analysis that there is low production in the manufacturing sector in Nigeria as a result of high cost of imported raw materials, machinery, and spare parts owing to increased interest rate and exchanged rate. It was deduced from the analysis that poor performance of infrastructural facilities mainly frequent distortion in electric power rendered a reduction in capacity utilization.

The empirical study found that some of the determinants of capacity utilization such as CPF and CPI have positivelong-run relationship with capacity utilization which implies that CPF and CPI are promoting capacity utilization. There is negative relationship between electricity generation (ELE) and real manufacturing output growth which inferred that there is low power generation and low manufacturing productivity growth rate in Nigeria respectively. This verifies the result obtained in the test of hypothesis. There is a positive long run relationship between interest rate and capacity utilization but statistically insignificant.

5.3 Conclusion

The major conclusion of this study is that there is significant under utilisation of capacity in Nigerian manufacturing firms and this under utilisation makes positive effect of capacity utilisation less significant in explaining manufacturing firms’ output growth in Nigeria. A number of factors have been responsibly identified for present under utilisation in the manufacturing firms. Also, the different components of the industrial sector suffer weak technical and functional linkages not only with each other but also with the rest of the economy. Productivity in Nigerian industrial sector has been low because of a variety of factors which include serious infrastructural problems (electricity, water, transport and communication), lack of raw materials, e.t.c. It is obvious that manufacturing capacity utilization accounts for increased productivity and industrial development in every economy. This has not been the case concerning the Nigerian economy.

5.4 Recommendation

Based on the findings from this study, the following recommendations are suggested. Putting the economy back to the trajectory of growth and development, government should make adequate provision of infrastructural facilities especially electricity generation. Relevant measures to enhance policy coordination and structural institutions among the various arms of government should be put in place. This would proffer solutions to the policy inconsistencies that result to macro economic instability which is creating high interest rate. Government should enact laws that can guarantee financial discipline in Nigeria. Despite the huge amount of money government is investing in the energy sector to ensure adequate provision of electricity, it has been resulting to exercise of futility as a result of corruption on the part of government officials. Firms have to pay more attention to Research and Development (R&D) activities, while policies that can improve the competitiveness of local substitutes for imported raw materials should be implemented.

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