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Game Theory in Trade Wars

https://www.marketplace.org/2018/10/25/economy/game-theory-suggests-trade-war-could-last-long-time

 

This article analyzes the current trade war between the United States and China in terms of game theory. The author first gives some background on the situation, describing how both countries have implemented tariffs on most goods produced by the other. They then question why a trade war can start so quickly but take a while to end. The answer, according to the author, is game theory. Prior to this trade dispute, China and the United States had trust in each other, since they were both members of the World Trade Association, which was a free trade club. The author then cites Jennifer Hillman, a trade professor at Georgetown Law, who explains how the trust broke down. About a decade ago, China made American companies disclose their trade secrets, which lead to Chinese knockoffs of American goods. This broke part of the agreements for joining the World Trade Association. However, the United States also violated the WTO this year by taxing Chinese imports. Now that the trust between them was broken, game theory comes into play.

 

Under the circumstances, game theory tells both countries that raising tariffs is the best choice for both countries’ self-interest. The author quotes NYU professor Arun Sundararajan to explain how. He says from America’s perspective, if China imposes tariffs, America should impose tariffs as well in retaliation. If China doesn’t create tariffs, it is still better for America to create tariffs since the government will make money off of these goods. The same logic applies from the perspective of the Chinese government, and so the conclusion is that both countries should enact tariffs on the other. This is the Nash Equilibrium of this game. Professor Sundararajan does offer some scenarios in which this war could end, the most likely case being a change in political leadership in either country. Another possible solution is the influence of outside organizations, like the WTO, that brings both countries together and reestablish the trust that was lost between them. However, according to the professor, this war will likely continue for the foreseeable future.

 

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