The Stabilizing Effects of International Politics on Bilateral Trade Flows

Abstract

Trade volatility can do serious harm to a country's economic and political stability. Research suggests that international trade agreements can reduce such volatility by reinforcing extant trade commitments, improving transparency, promoting policy convergence, and strengthening investor confidence. Drawing on this logic, we posit that international political ties can also produce notable reductions in export volatility. Specifically, we argue that diplomatic missions and military alliances signal lower discount rates, increase political transparency, and enhance issue linkages among trading partners. These enhancements in turn work to stabilize trade flows. To test this argument, we use a gravity model to evaluate the effects of directed diplomatic relations and alliances on bilateral export volatility. Controlling for confounding variables and exploring a wide array of model specifications, we find that the establishment of diplomatic relations or alliances can significantly reduce trade volatility.