Assessing the macroeconomic impact of free trade policies in Africa: a gravity model analysis.

Abstract

This study assesses the macroeconomic impact of trade openness in Africa from 1990 to 2022 using a gravity model. Ten African countries, representing the continent's five regions and varying in economic size and geographical location, were selected. The gravity model, known for its robustness in capturing the effects of economic size and geographic distance on trade flows, was employed. Three estimation techniques, Fixed Effects (FE), Random Effects (RE), and Poisson Pseudo Maximum-Likelihood (PPML), were explored, with PPML being preferred for its ability to handle zero trade flows and extreme values. The study reveals a number of interesting findings. First, the study finds evidence of trade-led growth and modest employment gains in 8 of the 10 studied economies, though the impact varies by country. Second, positive effects on Foreign Direct Investment (FDI) were observed across all economies, underscoring Africa's reliance on foreign capital. Third, the study finds that trade openness positively influences exchange rates and lowers inflation, but this is statistically insignificant in countries with pegged currencies. Fourth, the study finds that larger economies benefit more from trade openness than smaller ones. Economic size matters more than distance, indicating that industrialisation and dominance of large multinational firms outweigh the costeffects of distance. Fifth, the study reveals that the composition of trade is crucial. Countries focusing on capital imports fare better than those reliant on consumable imports. Finally, the study finds that intra-African trade significantly boosts export performance for all the studied countries, highlighting the importance of regional trade agreements. These findings have some compelling policy implications. The study suggests shifting the structure of imports towards capital goods and implementing import substitution for consumer goods. On exports, the study recommends a shift towards value-added products, moving away from raw commodities, and implementing export promotion strategies for industrialisation. Free trade policies must then be targeted at capital goods and value-added products. Furthermore, the study strongly supports promoting intra-African trade to at least 50%, much higher than the current level of 14%. Lastly, the study recommends fostering macroeconomic stability to attract FDI. These policy measures are crucial for maximising the positive impact of free trade in Africa.