TRADE, STRUCTURAL REFORM, AND INSTITUTIONS IN SUB-SAHARAN AFRICA

I. INTRODUCTION Sub-Saharan African (SSA) countries have traditionally lagged the rest of the world in terms of overall trade relative to gross domestic product (GDP). SSA countries' share of world trade exports has steadily declined from 3.1% in the mid-1950s to less than 1.2% in the 1990s (Amjadi, Reincke, and Yeats 1996; Coe and Hoffmaister 1999). This marginalization of SSA countries in trade can be attributed to a variety of factors, including their reliance on a limited number of commodity goods that are vulnerable to price fluctuations, inward-oriented trade policies with high import and export tariffs, and exchange rate controls that have undermined the inflows of foreign direct investment. These factors add to the typical hindrances to trade that include slow economic growth, limited domestic markets, lack of water access and transportation, and weak public infrastructure. Against this background. SSA countries have recently attempted to initiate trade policy and improve the quality of institutions as a way to promote trade and boost foreign direct investment. The aim of this article is to emphasize the influence of trade policy and institutional quality on the pattern of regional and international trade in the context of the Economic Community of West African States (ECOWAS), a union of 15 West African countries including Benin, Burkina Faso, Cape Verde, The Gambia, Ghana, Guinea, Guinea Bissau, Ivory Coast, Liberia, Mali, Niger, Nigeria, Senegal, Sierra Leone, and Togo. Like most African trade agreements, trade among ECOWAS members as a percentage of total trade has remained low relative to other free trade areas. ECOWAS members continue to trade predominantly with their former European colonizers, despite political independence achieved decades ago. While total GDP of ECOWAS remains a tiny fraction of other major free trade areas, the total population of nearly 300 million is roughly the same as MERCOSUR and is not much smaller than NAFTA. Hence, as nations within ECOWAS develop, the influence of ECOWAS will increase both within Africa and in the global community. But, to do so effectively requires further strengthening of economic institutions that has impeded trade growth. The rest of this article is organized as follows: A brief literature review is presented in Section II, followed by the specification of the gravity model in Section III. Section IV describes the data with emphasis on variables measuring institutional quality. Section V discusses the econometric problem for the gravity model generated by the occurrence of zero trade flows. Section VI presents the empirical results and Section VII concludes. II. REVIEW OF RELEVANT LITERATURE In recent years, a substantial body of literature has explored the role of institutions in the functioning of markets. Levchenko (2007) argues that institutional differences across countries explain comparative advantages in trade patterns. In general, institutions are described as comprising several elements. These include formal and informal rules of behavior, ways and means of enforcing these rules and procedures for mediation of conflicts, and sanctions in the case of breach of rules. Good institutions are likely to decrease transaction costs for market participants and thus increase market efficiency. This occurs through a number of channels. First, they decrease information asymmetries by channeling information about conditions of the market, goods and services, and participants. Second, they reduce risk as they define property rights and contracts, and in the process, determine who gets what. Finally, they increase competition in the market. A number of studies have emphasized the positive impact of good institutions on international trade flows. Anderson and Young (2000) show that institutional quality is highly correlated with trade, which in turn fosters economic growth. Rodrik, Subramanian, and Trebbi (2002) highlight the primacy of institutions over geography in affecting trade indirectly through income. …