Economic size, economic power and international influence are correlated. The United States and China do not only have the largest economies, they are also the largest military spenders. Typically a function of its economic size, the level of military spending a country can afford is only one aspect of its international power. The ability to impose costs or confer benefits on other country by intervening in cross-border trade and financial transaction is another important aspect of a country’s international power.
Economic size, resource mobilization and international economic power
Economic size confers a country the ability to mobilize resources in support of its foreign policy objectives. The size of an economy is a good proxy of its resource availability. An important caveat is that high per capita countries have, all other things equal, a greater ability to extract resource before domestic consumption falls below sustainable or even subsistence levels. A country with a low level of per capita income cannot extract more resources than a country with a high level of per capita income, all other equal.
Economic mobilize-ability refers to the share of economic output that can be dedicated to the pursuit of foreign policy objectives on a sustainable basis over a given time horizon without jeopardising economic stability. Political mobilize-ability refers to a government’s ability to mobilize resources over potential domestic opposition. It stands to reason that less democratic regimes may face fewer political constraints in this respect than democratic ones. The Russia-Ukraine war and the uncertainty about the willingness of Western countries to support Ukraine is a case in point. On the other hand, history also suggests that in the face of major, as opposed to minor geopolitical threats, and particularly in the context of an armed conflict, democracies are quite capable to mobilizing huge amounts of resources in pursuit of their foreign policy objectives. The ramp-up of defense production and the reduction of private consumption following the U.S. entry into World War suggests as much. The US fiscal deficit reached 30% of GDP in 1943.
Broad geopolitical influence is in part a function of a country’s ability to spend more than its antagonists. Over the long run, differences in real GDP growth will impact economic size and relative resource availability. However, an economy that is characterized by a low level of per capita income and small population size would need to grow significantly faster over an extended period of time to narrow the difference vis-à-vis a much larger and richer country. Even if Luxembourg grows twice as fast as Germany, the relative resource availability will not be significantly changed twenty years from now.
Governments can mobilize additional resources domestically or internationally. Domestically, they can do so by relying on rapid economic growth, raising taxes and cutting expenditure unrelated to its foreign policy objectives, or by running a larger fiscal deficit. Governments can also raise resources externally through issuing debt or receiving financial support from other countries. In the long term, however, countries will generally run into constraints if they rely on domestic or external borrowing rather than their own resources over an extended timeframe.
In practical terms, the United States will always spend more resources on defense and foreign policy than an economically much smaller economy like Mexico. However, this is less likely to be true when comparing Chinese and US defense expenditure, for example. China is growing more rapidly than the United States and it has room to increase defense expenditure, which is far lower as a share of GDP than in the United States. The point is that in the case of economically similar-sized geopolitical competitors, differential growth rates do matter, at least over the longer term.
In addition to economic resources and the ability of governments to extract resources in support of a country’s foreign policy objectives, its ability to intervene in the cross-border exchange of goods, services, capital, technology and data is also an important source of geopolitically relevant economic power.
Economic interdependence and international economic power
A high level of economic interdependence provides countries with opportunities to take advantage of interdependence and exploit economic-financial vulnerabilities by imposing or threatening to impose economic costs or conferring or promising to confer benefits on another country. This works best when interdependence is asymmetric and the target country finds it difficult side-step the costs of adversarial measures.
First, a country’s ability to restrict cross-border trade has the ability to impose costs on another country. Imposing tariffs on imports leads to lower exports and lower economic growth. While it also translates into economic costs in the country imposing tariffs, the costs to the target country are far greater if the relationship is asymmetric. If U.S. tariffs make it more difficult for China to exports goods to the United States, its economic growth will suffer.
Second, countries can also impose export controls, often prohibiting the sale of specific goods to specific countries. This can to significant economic disruption in the target country. The United can restrict the export of advanced semi-conductors to China, while China can restrict the export of rare earths. Countries ability to impose costs, and thereby potentially exercise influence, is significantly enhanced if restricted goods cannot be easily, or at all, replaced, increasing the opportunity costs of supply. Arab oil producer embargo massively increased prices and imposed significant costs on advanced economies in the context of the Yom-Kippur War of 1973.
Third, a country, or rather a government, can offer or withhold financing to another country. To the extent that nobody else may be willing to extend financing, for example during a financial crisis, at sufficiently attractive terms, the sender country may be able to exercise power, not least by withholding financing. Moreover, some countries, like the United States, have significant institutional leverage due to their prominent position in international financial institutions, like the International Monetary Fund or the World Bank. In Europe, the larger euro area members can exercise power by vetoing the extension of credit to crisis-ridden members in the context of the euro area architecture created in the wake of the euro area financial crisis 15 years ago.
Fourth, with the help of inward investment restrictions, governments can exclude companies from specific countries to buy certain types of companies. This often serves as a way of restricting other countries’ access to technology and intellectual property rights and can help weaken the longer-term development prospect of countries. Similarly, outbound investment restrictions, most recently introduced by the United States, have a similar objective of limiting technology leakage to companies in other countries, in this case China.
Economic interdependence, sanctions and risk mitigation
Influence and susceptibility to influence is a function of the relative of the target country’s dependence on the sender country with respect to a specific type of cross-border flows. How vulnerable a country is depends on the opportunity costs of neutralizing adversarial measures. In the case of sanctions, for example, third-party spoilers and black knights, whose intervention is motivated by economic gain and geopolitical interests, respectively, can help limit the opportunity costs. This is why enforcement vis-à-vis third parties is often key, as Western policymakers have begun to find out when it comes to imposing economic costs on Russia.
What can countries vulnerable to, for example, trade restrictions do to mitigate risks? Answer: Reshoring, friend-shoring and diversifying. Reshoring is typically costly, as production and supply chains are moved from low-cost countries to higher-cost places. Reshoring as such may reduce international vulnerability, provided no critical part of the supply chain is left vulnerable, but a higher geographic concentration of production may increase risks if domestic production is negatively impacted by shocks. Friend-shoring tends to be less costly than reshoring. Finally, diversification is also costly, as companies need to put in place more diversified supply chains but redundancy helps with risks. But it typically offers the best trade-off between risk reduction and costs.
Are sanction efficacious then? Leaving aside third-party spoilers and black knights, the academic research suggests that economic and financial sanctions in the sense of changing another country’s behaviour are rarely successful in the case of targeting a geopolitical adversary. Sanctions are more successful in case of geopolitical allies. This can be rationalized by the closer economic relations between allies and the higher costs sanctions cause, and also by the likely lower geopolitical stakes given the target and sender countries geopolitical proximity. Similarly, in case of geopolitically adversarial countries, a less extensive economic relationship typically means that sanctions lead to lower costs in the target country, while the political stakes are necessarily higher. This does not mean that sanctions never work in terms of changing an adversary’s behaviour (e.g. US-Iran), but it is relatively rarer. Again, Western sanctions targeting Russia are a case in point. This does not mean that sanction cannot be or are no t effective in terms of imposing economic costs, signalling (domestic and international), deterrence or degrading a target country’s economic base. But they rarely lead to a change in desired behaviour.
The varieties of international economic power
Broad international power and influence is to a large extent a function of a country’s ability to mobilize resources. It is also a function of a country’s ability to exploit asymmetric interdependence by restricting or supporting the cross-border flow of goods, services, capital and technology. Economic size matter, but it is not the only thing that matters in terms of exercising power in international politics. A stable economy, limit vulnerability and solid long-term growth prospect combined with a significant overt or latent ability to mobilize economic resources and convert them into diplomatic or military power. Asymmetric economic and financial relationships and another country’s limited ability to offset cost-imposing measures by forging close economic and financial relations with a third country are another important source of power international politics.