Trading with the Enemy: the Impact of Conflict on Trade in Non-conflict Areas

Abstract: This study presents novel evidence on the effects of conflict on trade in non-conflict areas. We examine the context of the ongoing Russian military intervention in Ukraine. In a difference-in-differences framework, we leverage a newly compiled firm-level panel with the universe of Ukrainian trade transactions from 2013 through 2016 and exploit substantial spatial variation in the ethnic composition of Ukrainian counties. The estimates suggest that Ukrainian firms from counties with fewer ethnic Russians experienced a deeper decline in trade with Russia. We argue that this result stems from increased ethnic tensions and a differential rise in negative attitudes and beliefs about Russia. Possible mechanisms include consumer boycotts of Russian products, reputational concerns of Ukrainian firms, and a breakdown of trust in contract enforcement. In contrast, we find no evidence for individual-level animosity between firms' key decision makers or discrimination at the border. We also rule out that the differential decline in trade arises only from economic spillovers, such as refugee flows and destruction of supply chains with conflict areas.