The impact of U.S economic sanctions on European Union’s trade with target economies

Abstract

Since ancient times, economic sanctions have been a frequently used foreign policy tool, and the U.S is one the leading sanctioning countries. One of the most citied arguments for the ineffectiveness of economic sanctions, is that some trade may be diverted towards third countries. The principal aim of this study is to test this hypothesis by studying the impact of U.S sanctions on trade between target countries and the European Union, which may constitute an attractive alternative market. A sample of 164 countries was used, including both sanctioned and non-sanctioned countries, to minimize sample selection bias. Initially, a gravity model of international trade was estimated with a simple pooled OLS regression, to measure the impact of time-invariant variables such as distance and colonial relationship. Gravity variables performed relatively well. Distance is confirmed to be a push factor of trade, having a higher impact on E.U Exports. A variable representing colonial relationship between member states and E.U’s trading partners, resulted positive through all levels of trade, but only when time fixed effects were incorporated within the model. GDP has a significant positive relationship with all levels of trade, while having a higher impact on E.U Imports. Population also has a positive relationship when regressed with total bilateral trade. To account for MRTs and thus curtailing omitted variable bias, country and time fixed effects were used in the subsequent model. Dummy variables representing multilateral or unilateral, and limited or extensive sanctions were introduced in the model. As expected, multilateral sanctions resulted to have a significant depressing impact on trade between E.U member states and target economies, even in cases of targeted non-trade sanctions. Multilateral limited sanctions lead to a decrease of 10.19% of total bilateral trade, while multilateral extensive sanctions reduce bilateral trade by 33.25%. On the other hand, unilateral extensive sanctions induce a positive effect on all levels of trade between the E.U and target countries. This indicates that some form of trade is diverted to the European market when the U.S impose extensive sanctions without cooperation from member states.