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Business as Usual:Business as Usual: Economic Responses to Political Economic Responses to Political
TensionsTensions
Christina Davis and Sophie Christina Davis and Sophie MeunierMeunier
Princeton UniversityPrinceton University
The PuzzleThe Puzzle
France-US tensions over Iraq Sino-Japanese tensions over shrine
Worsening political relations and Deepening economic ties
Theoretical ApproachesTheoretical Approaches Alliances, security, and tradeAlliances, security, and trade
Security externalities encourage trade to follow the flag Security externalities encourage trade to follow the flag (e.g. Gowa and Mansfield)(e.g. Gowa and Mansfield)
Commercial peaceCommercial peace Economic interdependence encourages cooperative Economic interdependence encourages cooperative
political relations (e.g. Oneal and Russett)political relations (e.g. Oneal and Russett)
Linkages between political and economic Linkages between political and economic relationsrelations
Empirical evidence mostly examines Empirical evidence mostly examines patterns of trade and warpatterns of trade and war Questions about endogeneityQuestions about endogeneity Do causal mechanisms operate at lower threshold of Do causal mechanisms operate at lower threshold of
conflict?conflict?
HypothesesHypotheses
Politics firstPolitics first Political tensions reduce economic interactionsPolitical tensions reduce economic interactions
Economics firstEconomics first Risk of economic damage from political Risk of economic damage from political
tensions mobilizes lobbying for improved tensions mobilizes lobbying for improved relationsrelations
Separation of politics and economicsSeparation of politics and economics Political tensions have little effect on economic Political tensions have little effect on economic
interactions as private actors respond only to interactions as private actors respond only to economic informationeconomic information
The Franco-American The Franco-American RelationshipRelationship
Disagreement over Iraq warDisagreement over Iraq war Calls for boycotts on both sidesCalls for boycotts on both sides
No downturn in trade or investmentNo downturn in trade or investment McDonald’s posts best sales ever in McDonald’s posts best sales ever in
FranceFrance No effects on American imports of No effects on American imports of
French goods (except wine)French goods (except wine)
United State's Imports From France and U.K.
-
2,000.0
4,000.0
6,000.0
8,000.0
10,000.0
12,000.0
14,000.0
2000
: 1
2000
: 3
2001
: 1
2001
: 3
2002
: 1
2002
: 3
2003
: 1
2003
: 3
2004
: 1
2004
: 3
2005
: 1
2005
: 3
Mil
l U.S
. Dol
lars
200
0 P
rice
s
France
United Kingdom
US Outward FDI
-10000.0
0.0
10000.0
20000.0
30000.0
40000.0
50000.0
60000.0
1995 1996 1997 1998 1999 2000 2001 2002 2003 2004
Mil
l U
S D
oll
ars
2000
Pri
ces
France United Kingdom
Sino-Japanese RelationshipSino-Japanese Relationship
Political crisis over history issues and rivalryPolitical crisis over history issues and rivalry Demonstrations and boycott callsDemonstrations and boycott calls Suspension of high-level leader meetingsSuspension of high-level leader meetings
Trade and investment continues to growTrade and investment continues to grow Toyota enjoys rapidly growing sales in ChinaToyota enjoys rapidly growing sales in China Japanese firms plan to maintain or expand Japanese firms plan to maintain or expand
investmentinvestment ““Cold Politics, Hot Economics”Cold Politics, Hot Economics”
China/Hong Kong Share of Japanese Trade
0.00
0.05
0.10
0.15
0.20
0.25
1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005
Perc
ent o
f to
tal t
rade
China's Imports From Japan and the United States
-
5,000.0
10,000.0
15,000.0
20,000.0
25,000.0
30,000.0
35,000.0
Mill
ion
U.S
. Dol
lars
200
0 Pr
ices
Japan
United States
Japanese Outward FDI
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
1995 1996 1997 1998 1999 2000 2001 2002 2003 2004
Per
cen
t o
f to
tal
ou
twar
d F
DI
Rest of world
United States
China/Hong Kong
Explaining the ResultsExplaining the Results
Politics firstPolitics first Trade follows the flagTrade follows the flag Intensity of tensionsIntensity of tensions
Economics firstEconomics first Lobbying and feedback loopLobbying and feedback loop
Politics and economics as separate spheresPolitics and economics as separate spheres Economic interdependenceEconomic interdependence
Micro-Level ConditionsMicro-Level Conditions
TransnationaliTransnationalityty
SubstitutabilitSubstitutabilityy
Regulatory and procurement decisions
A Temporal ThresholdA Temporal Threshold
Duration of tensions and Duration of tensions and consumer boycottsconsumer boycotts
The “animosity model of foreign The “animosity model of foreign product purchase”: product purchase”: long-term impact of long-term impact of political tensions on brands and products (Klein political tensions on brands and products (Klein et al.)et al.)
Durable, long term impact on Durable, long term impact on brandsbrands
International Economic International Economic GovernanceGovernance
Negative effect on cooperationNegative effect on cooperation Spillover of political tensions on protectionismSpillover of political tensions on protectionism GrandstandingGrandstanding Cross-issue linkagesCross-issue linkages
Positive effect on cooperationPositive effect on cooperation Shelter from political tensionsShelter from political tensions Over-compensationOver-compensation More economic liberalizationMore economic liberalization
ConclusionConclusion
FindingsFindings Overall insulation between economics and politicsOverall insulation between economics and politics Firewall not impenetrableFirewall not impenetrable
ImplicationsImplications Questions how governments direct economic Questions how governments direct economic
flows under globalizationflows under globalization Shows linkage between politics and consumer Shows linkage between politics and consumer
behavior (for select markets and over long term)behavior (for select markets and over long term) Need further research to measure effects of Need further research to measure effects of
political tensions - more common than warspolitical tensions - more common than wars