Market adjustments to import sanctions: Lessons from Chinese restrictions on Australian trade, 2020-21

Abstract

Under what conditions do high levels of export concentration in a single market create vulnerability to coercive economic power? This paper examines that question through a detailed examination of the experiences of Australian export industries that lost access to the Chinese market during a recent and ongoing sanctions episode that began in May 2020. We characterize sanctions as government interventions that distort free economic exchange, and ask how markets autonomously adjust to these shocks. Despite China being a large and highly valuable export market for many affected industries, the economic – and accordingly political – impacts of sanctions have been more modest than anticipated. The reason for this lies in market adjustments. Theoretically, we extend insights from extant research on how market dynamics condition the impact of sanctions that generate ‘supply shocks’ (such as oil embargoes) to the new domain of ‘demand shocks’, modeling the process of responding to unilateral import sanctions from the perspective of export industries in a target state. We argue that losses can be diminished by three mechanisms that are understudied in the sanctions literature: trade reallocation (where buyers and sellers shift but do not lose trade partners); trade deflection (circumventing sanctions via intermediaries); and product transformation (the transformation of production processes to produce and sell entirely different products or similar products not covered by sanctions). Empirically, we describe variation in the adjustment processes undertaken in nine Australian industries affected by the loss of the Chinese market, and explore the conditions under which these adjustments are more or less viable, depending upon differences in market structures and dynamics across products.