International Trade and Macroeconomic Dynamics with Sanctions
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Abstract
We develop a model of the international trade and macroeconomic dynamics triggered by the imposition of financial and/or trade sanctions. We begin with a tractable two-country model in which one of the countries (Foreign) has an advantage in production of a commodity, interpreted as gas. Both countries use gas as input in production of di ↵ erentiated consumption goods, but Home supplements its domestic production of gas with imports from Foreign to meet domestic and Foreign demand of final goods. There is endogenous producer entry in each country’s consumption sector, and fixed trade costs imply that only a subset of producers export. Countries trade non-contingent bonds with each other. We assume that Home is the country that imposes the sanctions. When financial sanctions are imposed, a fraction of Foreign agents is excluded from participation in the international bond market. When all Foreign agents are excluded, financial sanctions imply financial autarky. Trade sanctions can take di ↵ erent forms: a ban on international gas trade, a cap on the quantity traded or its price, and/or the exclusion of a fraction of Foreign exporters (the largest, most productive ones—in the limit, all of them) from international trade. We show that, for financial sanctions to have a significant impact, it is important to exclude all Foreign agents from the bond market. All types of sanctions imply costs for Home agents, but they are always more costly for Foreign ones. Our analysis sheds light on how sanctions a ↵ ect the dynamics of key macroeconomic variables–such as real exchange rates, consumption, and international balances—and the underlying trade patterns. JEL codes: F1, F4, F51.