Mathias Thoenig (HEC, University of Lausanne)

The Fragmentation Paradox: De-risking Trade and Global Safety

Abstract: We develop a model of international trade and interstate war that integrates a quantitative model of trade with a diplomatic game of escalation to conflict. Bilateral disputes over a state-controlled public good arise exogenously and belligerent countries engage in diplomatic negotiations to attempt to resolve the disputes peacefully. In equilibrium, all the welfare-relevant geoeconomic factors-such as the costs of war, the cost of concessions required to avert war, and the probability of deescalation-depend on the opportunity cost of war, shaped by observed trade flows. We quantify these factors in a general model of trade calibrated to current data. The model is then applied to study the historical evolution of geoeconomic factors for USA and China, as well as under prospective “decoupling” scenarios. The analysis underscores the existence of a fundamental security dilemma: because trade dependencies influence bargaining power in negotiations, decoupling reduces the costs of diplomatic concessions needed to avoid war but can paradoxically increase the risk of escalation into armed conflict by weakening the incentives for disciplining negotiation. Overall, this quantitative framework provides insights for policymakers on determining the optimal level of decoupling.