The (Ir) relevance of militarized interstate disputes for international trade

Abstract

Do military disputes between two states suppress trade between their firms? Both liberals and realists suggest that conflict occurrence reduces bilateral trade. However, using a rational expectation argument, Morrow (1999) proposes that conflict occurrence and trade should be uncorrelated statistically. Empirical evidence to date both supports expectations and appears contradictory and inconclusive. We offer a theory that reconciles, encompasses, and extends the competing arguments, explaining the empirical inconsistency. By incorporating rational expectations and uncertainty into the profit calculus of trading firms, the theory identifies the conditions under which various properties of a conflict (onset, duration, and severity) should and should not reduce bilateral trade ex ante and ex post. We test the ex post effects in two datasets that cover either a wider range of countries or a longer time period than previous quantitative studies. Both an unexpected MID onset and the unexpectedness of a MID onset reduce bilateral trade substantially ex post. Preliminary tests suggest that MID duration and severity also affect bilateral trade ex post. We conclude by discussing the implications of our research.