Business as Usual? Economic Responses to Political Tensions

Abstract

Do political tensions harm economic relations? Theories claim that trade prevents war and political relations motivate trade, but less is known about whether smaller shifts in political relations impact economic exchange. Looking at two major economies, we show that negative events have not hurt U.S. or Japanese trade or investment flows. We then examine specific incidents of tensions in U.S.-French and Sino-Japanese relations over the past decade—two case pairs that allow us to compare varying levels of political tension given high existing economic interdependence and different alliance relations. Aggregate economic flows and high salience sectors like wine and autos are unaffected by the deterioration of political relations. In an era of globalization, actors lack incentives to link political and economic relations. We argue that sunk costs in existing trade and investment make governments, firms, and consumers unlikely to change their behavior in response to political disputes. D o political tensions have economic consequences? The relationship between economic interdependence and conflict has been a central debate in international relations. Leading scholars contend that “states with good relations should have more trade than states with poor relations” and import decisions of firms will respond to “the climate of friendliness orhostilitythatexistsbetweentheimporterandexporter” (Morrow, Siverson, and Tabares 1998, 650; Pollins 1989b, 739). Analysis of trade and conflict in a simultaneous equations model concludes that “political relations are driving commerce, not the other way around” (Keshk, Pollins, and Reuveny 2004, 1175). We reexamine these arguments in the current globalization era to show that sunk costs reduce incentives for state and private actors to link political and economic relations. 1