Currency Union and Regional Trade Integrations in West Africa: The Role of Institutional Quality

Abstract

This study investigates the effect of currency union on intra-regional trade integrations in West Africa. The empirical analysis also examines the interaction effect of institutional quality on currency union-trade flows nexus in the West African region over the period of 1996 - 2019.The study employs a Driscoll-Kraay standard error estimator technique on data obtained from the IMF direction of trade statistics and World Bank governance indicators. The study findings suggest that all the gravity variables (Gross domestic product, population, and distance) are in line with a priori expectations; currency union dummy produced a positive association with intra-regional trade integrations; real effective exchange rate appreciation boosts trade performance, and the interaction of currency union and institutional quality produced a positive impact on intra-regional trade flows among the countries in the West African region. Among the disaggregated institutional quality index, the rule of law and political stability have a significant impact on trade flows. The rule of law influenced trade flows positively, while political stability influenced trade flows negatively. The study concludes that the Rose effect of a common currency on trade exists in West Africa and that the level of institutional quality also subscribes to the currency union trade flows relationship.