Econometric theory and practice suggest that Model B is the better model for several reasons. Firstly, the presence of structural breaks in data generating processes must be allowed for in the specification or else one can have problems with the reliability of the estimators and the distortions in diagnostic tests. Secondly, the magnitude of the 1994 CFA devaluation of 50% suggests that it is a fundamental explanatory variable to explain shifts in the real effective exchange rate. Finally, the R-squared in Model 2 is significantly better than the R-squared in Model 1. As a result, the key findings from Model 2 are the following:

- The movement of the real effective exchange rate in UEMOA and CEMAC cannot be

- fully explained by a vector of fundamentals.

- The 1994 devaluation is the key factor which explains the movement in the REER in

- both zones from 1970 to 2004.

- An increase in openness as a result of trade liberalization in the UEMOA zone has

- resulted in an appreciation of the REER. A 3% gain in economic openness results in a 1% increase in the REER in UEMOA, while in CEMAC there is no relationship.

- There is no evidence that terms of trade are cointegrated with the real exchange rate.

- This can be partly explained by the fact that the aggregate regional data used in the analysis may obscure the differing terms of trade shocks that affect different countries. � No evidence was found of Dutch disease as a result of increased aid inflows, negating the theory that suggests that large aid flows cause real exchange rate appreciation.

In the second stage of the Engle-Granger test, the error terms from the two cointegrated regressions were tested for unit roots, and they were found to exhibit stationarity using both ADF and other criterion. The ADF statistics for UEMOA and CEAMC were -5.39 and -5.22 above the critical values of -4.32 established by McKinnon (1991) for 5% level of significance. It is important to note that the tendency of OLS to produce stationary residuals means that the usual Dickey-Fuller test statistics were not appropriate or rigorous enough. The implication of this finding is that there is evidence of cointegrated relationship between the variables.

# **TABLE  3: ERROR CORRECTION MODEL RESULTS USING OLS AND LAGGED DEPENDENT VARIABLES**

||**UEMO **<br>|**A**<br>|**CEM**<br>|**AC**<br>|
|---|---|---|---|---|
||Coefficients|T-Statistics|Coefficients|T-Statistics|
|Log of realexchangeratelagged|-.13|-0.27|.58|1.26|
|Log of terms of tradelagged|.28|1.63|.19|1.33|
|Log ofopennesslagged|.33|1.50|.13|.66|
|Log ofaidlagged|.001|.03|.02|.93|
|Dummylagged|-.03|-.09|.34|1.73|
|Residual lagged|-.07|-.33|-.22|-.87|
|Constant|-2.05|-.97|-4.18|-1.69|

Using an error correction framework, the short-run dynamic adjustment toward equilibrium value was tested. The log of the real exchange rate was regressed against the log of the lagged real exchange rate, the log of the lagged openness, the log of lagged aid, and the log of lagged error term. The short-run effects were found to be insignificant across various specifications, with none of the lagged variables having an effect on the differences between the annual real effective exchange rates.

19