Financial Deepening, Trade Openness, and Economic Growth in West Africa

Abstract

The dilemma concerning the choice between austerity and stimulus packages has reignited the finance-growth debate. This study joins the debate to examine the linkages between financial deepening, trade openness and economic growth in selected West African countries. The study looks at the two monetary zones in West Africa, namely the West African Monetary Zone (WAMZ) and West African Economic and Monetary Union (WAEMU). Using a panel data of twelve (12) countries covering 1992—2009 period, the study finds that financial depth, trade openness and economic growth are non- stationary in both WAMZ and WAEMU. This means that the variables cannot be used for policy forecasting, when in their levels. The study also finds that all three variables are not cointegrated in WAMZ and WAEMU; hence, no panel error correction model was required for the causality tests. Finally, the study performs the Granger Panel Causality Test in a trivariate VAR and found that causality runs from financial deepening to economic growth through trade openness for countries of both WAMZ and WAEMU. The study concludes that financial deepening produces positive economic growth. However, this was possible if the trade sector was liberalised to allow global participation in the local markets. It recommends suitable policies that enhance both financial sector and trade sector development, such as the existence of a strong common currency, the liberalisation of interest rates, the reduction in government interference (in both the trade and financial sectors), improved bilateral and multilateral trade agreement which benefits all parties. The study predicts favourable economic growth in both WAMZ and WAEMU when these policies are put in place.