Understanding Geoeconomics in a Volatile World

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Theme: The resurgence of geoeconomics—use of financial and trade relationships to achieve geopolitical and economic goals—driven by increased great-power competition and the growing use of tariffs, sanctions, and export controls.
Historical anchor: Albert Hirschman’s 1945 National Power and the Structure of Foreign Trade reframed trade asymmetries as sources of power.
Goal of the authors’ research agenda: Provide an economic modeling framework for geoeconomics to achieve theoretical clarity, empirical testing, and policy counterfactuals.

Mechanisms of leverage:
- Control of critical intermediate goods allows a country to threaten withholding inputs to induce compliance.
- Power increases when a country controls multiple related economic relationships (e.g., intermediate goods plus foreign capital).
- Hegemons can demand monetary transfers, changes in markups, surcharges on loans, trade restrictions (tariffs, quotas), or political concessions.
Examples:
- China’s Belt and Road Initiative bundles loans, infrastructure projects, and access to manufactured goods; default risks threaten multiple relationships simultaneously, increasing leverage.
- Network effects magnify influence: pressure on some countries to reject Huawei’s 5G technology reduced its attractiveness to others.

Definition: Inputs are choke points (critical dependencies) when a hegemon controls a dominant market share of the input in the targeted economy and alternatives are difficult to find.
Empirical note: The US and its allies control an overwhelming share of global financial services, "upward of 80 to 90 percent in many countries."
Nonlinearity of power:
- Power grows disproportionately as control approaches complete dominance; the difference between controlling "95 percent and 85 percent" of an input is disproportionately large.
- At "95 percent", targets have almost no viable alternatives; at "85 percent", meaningful options exist and leverage dissipates rapidly.
Strategic dynamics:
- A small alternative market share can disproportionately blunt hegemonic power: gains by alternatives from "1 percent to 10 percent" can cause large reductions in the hegemon’s coercive edge.
- Russia’s post-2014 efforts to reduce dependence on the US-led coalition (develop domestic payment systems and connect to China-based systems) helped mute the effect of sweeping sanctions after "2022".
- China and India are building alternative payment and settlement systems; euro area countries are advancing a digital currency for greater monetary sovereignty.

Trade-off: Economies of scale and specialization that generate gains from trade also generate economic dependence and exposure to coercion.
Collective dynamics:
- Individual anti-coercion policies (targeted diversification, alternative architectures) can be rational and successful for single countries but may collectively trigger excessive fragmentation.
- When participants leave or reduce reliance on a system, the system’s attractiveness falls (network externalities), encouraging further exits and decoupling.
Surprising conclusion: Hegemons can increase their own welfare by credibly constraining coercion (e.g., submitting to international rules), preserving the size and attractiveness of their economic network.
Institutional role: Postwar institutions (IMF, World Bank, WTO) function as commitment devices that limit aggressive exploitation of dominant positions and thereby sustain participation in the system.

Need: Translate theoretical models into testable, data-driven implications for policymakers.
Two promising empirical strategies:
- Use advances in trade modeling and bilateral trade data to estimate the cost to a target of losing access to hegemon-controlled inputs, including goods and capital flows.
- Use large language models (LLMs) to analyze texts (analyst reports, earnings calls) for evidence of threatened but unrealized geoeconomic actions.
LLM findings reported by the authors:
- LLMs can extract firm-, instrument-, and reaction-specific signals about geoeconomic pressure in near real time.
- Empirical results:
- Chinese firms responded to US export controls on semiconductors by increasing domestic research and development.
- Western firms largely reported complying with US demands to lower sales to China of specific technologies.
- US firms report being overall negatively affected by US tariffs and intending to raise sales prices while facing higher input prices.

For countries pursuing anti-coercion policies:
- Pursue targeted diversification in true choke points—sectors where dependence is greatest and alternatives are scarcest—to reduce vulnerability without wholesale decoupling.
- Focus resources on identifying and addressing specific strategic complementarities and economies of scale that create critical dependencies.
For hegemons:
- Commit credibly to limited and rules-based use of power to keep the global system attractive and prevent defensive decoupling by other countries.
- Reserve coercive instruments for clear and limited purposes; maintain commitments to international institutions as commitment devices.
Strategic balance:
- Optimal outcome avoids total fragmentation by combining targeted diversification by vulnerable countries and credible self-restraint by hegemons.
- The alternative—widespread fragmentation—would leave everyone, including the hegemon, poorer and less secure.

Source: Understanding Geoeconomics in a Volatile World, F&D Magazine, June 2026.

Understanding Geoeconomics in a Volatile World
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