When tariffs on Chinese goods were slashed from over 100% to 30%, many saw it as a turning point in the U.S. –China trade standoff. But beneath the headlines lies a fascinating lesson in game theory, a mathematical framework that helps economists — like Emily Blanchard, chief economist in the Biden administration — understand the strategies behind trade wars.
Game theory examines how outcomes are shaped not by isolated decisions, but by the interconnected strategies of all players involved. It’s about understanding how nations behave when they must anticipate and respond to each other’s moves. In the case of the trade war, the U.S. and China found themselves in a series of complex, evolving strategic games.
One common model is the ultimatum game, where one player (the proposer) makes an offer, and the other (the responder) either accepts or rejects it — take it or leave it. Initially, the U.S. appeared to play this role, issuing sweeping tariffs in hopes China would concede. But as Chinese expert Yun Sun notes, China didn’t respond as a passive player. Instead of folding, it restructured — proving that this wasn’t a simple ultimatum game at all.
Another framework is the game of chicken, where two players speed toward each other, and the first to swerve loses face. If neither swerves, both crash. The U.S. seemed to assume this was a short-lived game, expecting China to swerve quickly due to its reliance on exports. But China had a different plan — they prepared for a war of attrition, a drawn-out conflict where each side slowly wears the other down over many rounds.
Chinese firms adapted swiftly. Many shifted production to countries like Vietnam and Mexico, rerouting exports to the U.S. without directly involving Chinese factories. This blunted the effect of American tariffs and illustrated a reshaping of global supply chains.
While the U.S. expected China to suffer a demand shock, it found itself experiencing a supply shock. Domestic industries reliant on Chinese goods, such as retail and manufacturing, faced price surges. Economists began predicting a recession, and U.S. businesses grew increasingly anxious. Studies showed the costs began to mount more steeply for the U.S. than for China.
In game theory, the prisoner’s dilemma is another lens to understand this conflict. Two players could both benefit from cooperation, but fear of betrayal leads them to act in self-interest, producing a worse outcome for both. This is what happened when each side raised tariffs in retaliation, despite knowing that long-term cooperation could improve outcomes for both economies.
Trade wars, as game theory teaches, are not zero-sum. Both nations can win — or both can lose — depending on their willingness to find equilibrium. The lesson? Economics isn’t just about numbers. It’s also about strategy, psychology, and timing.
As the world becomes more interconnected, understanding the games behind global policy becomes not just useful — but essential.
Written by Annika Shenoy
