https://macropaperwarehouse.com/authors/galip-kemal-ozhan/Galip Kemal OzhanHugo -- gohugo.ioen-ushttps://macropaperwarehouse.com/papers/international-trade-and-macroeconomic-dynamics-with-sanctions/https://macropaperwarehouse.com/papers/international-trade-and-macroeconomic-dynamics-with-sanctions/<p>Sanctions are increasingly used as an instrument of economic statecraft, yet their macroeconomic consequences—especially the transitional dynamics and their effects on business cycles—are poorly understood. This paper develops a micro-founded framework combining the intertemporal general-equilibrium structure of standard open-economy macro models with the rich trade-theoretic microfoundations of modern trade theory to study sanctions systematically. In a two-country, two-sector model where Home specializes in differentiated consumption goods (heterogeneous firms, endogenous entry, Melitz-style) and Foreign specializes in homogeneous intermediate goods (Cournot oligopoly in extraction), sanctions—modeled as trade bans and financial restrictions excluding particular Foreign agents—reallocate resources across and within countries, affect production, exchange rates, and welfare, and are shown to inflict larger welfare losses when they target sectors of comparative disadvantage. A central finding is that focusing only on long-run outcomes and overlooking initial transitional dynamics substantially misdirects welfare assessments; sanctions weaken international comovement and fragment markets but, contrary to some claims, leave the structure of business cycles largely intact.</p>