American Political Science Review Vol.83 Table 1.The Prisoner's Dilemma price of its exports-maximizes its real in- come by imposing an "optimum"tariff, Column that is,a tariff set at a level that maxi- mizes the net gain that accrues from the Row Cooperate Defect improved terms and reduced volume of Cooperate 2,2 4,1 trade.1 If optimum tariffs are used by all Defect 1,4 3,3 states,however,an individually and col- lectively suboptimal outcome results:the Note:Payoffs are ranked from 1(best)to 4(worst); volume of trade is reduced,but the terms row's payoffs are listed first. of trade do not change.2 The mutually preferred outcome of free trade is difficult to achieve because it is not a stable or matrix is illustrated in Table 1.Given Nash equilibrium of the one-shot game: these payoffs,the dominant strategy of each state is better off defecting to an opti- each player is to defect,or refuse to con- mum tariff if others do not.Thus,stan- tribute to,the supply of the public good. dard trade theory also characterizes trade This leads to an equilibrium outcome of among large states as a PD game. DD that is Pareto-inferior (i.e.,another Both the public good variant of hege- equilibrium exists in which at least one in- monic stability theory and standard inter- dividual would be better off and no one national trade theory,however,analyze would be worse off than at the existing economic exchange in a political vacuum: equilibrium).In this equilibrium no one they focus exclusively on the real income contributes,no public good is produced, gains that accrue to a state that opens its and another-albeit unstable-Pareto- borders to trade.Yet national power is en- superior outcome exists(CC).To achieve gaged in free trade agreements because a stable free trade equilibrium,hegemonic such agreements produce security exter- stability theory asserts,a hegemon or nalities:the removal of trade barriers can dominant state must exist(Kindleberger affect not only the real income but also 1973,305).This is the equivalent of Man- the security of the states concerned.3 cur Olson's privileged group;that is,a The security externalities of trade arise group"such that each of its members,or from its inevitable jointness in produc- at least some one of them,has an incen- tion:the source of gains from trade is the tive to see that the collective good is pro- increased efficiency with which domestic vided,even if he [alone]has to bear the resources can be employed,and this in- full burden of providing it"(Olson 1971, crease in efficiency itself frees economic 50).While they accept the PD representa- resources for military uses (Root 1984). tion,critics assert that the logic of public Thus,trade increases the potential mili- good analysis itself indicts hegemonic tary power of any country that engages in theory:because small,or k,groups can it(Albert O.Hirschman,cited in Baldwin also provide public goods,either a hege- 1985,211).In doing so,it can disrupt the mon or a small group of states can stabil- preexisting balance of power among the ize a free trade system (Keohane 1984; contracting states (McKeown 1982,225).4 Snidal 1985;Yarbrough and Yarbrough Because it is locked into the insecurity 1987). that an anarchic international system The PD representation can be derived almost invariably produces,s a great as easily from standard international power is less likely to be concerned about trade theory (Conybeare 1984).The latter the absolute income than about the rela- points out that any state large enough to tive power effects of trade.The structure influence its terms of trade-the relative of international politics makes all states 1246American Political Science Review Vol. 83 Table 1.The Prisoner's Dilemma Column Row Cooperate Defect Cooperate 2, 2 4, 1 Defect 1,4 3, 3 Note: Payoffs are ranked from 1(best) to 4 (worst); row's payoffs are listed first. matrix is illustrated in Table 1. Given these payoffs, the dominant strategy of each player is to defect, or refuse to con￾tribute to, the supply of the public good. This leads to an equilibrium outcome of DD that is Pareto-inferior (i.e., another equilibrium exists in which at least one in￾dividual would be better off and no one would be worse off than at the existing equilibrium). In this equilibrium no one contributes, no public good is produced, and another-albeit unstable-Pareto￾superior outcome exists (CC). To achieve a stable free trade equilibrium, hegemonic stability theory asserts, a hegemon or dominant state must exist (Kindleberger 1973,305). This is the equivalent of Man￾cur Olson's privileged group; that is, a group 'Such that each of its members, or at least some one of them, has an incen￾tive to see that the collective good is pro￾vided, even if he [alone] has to bear the full burden of providing it" (Olson 1971, 50). While they accept the PD representa￾tion, critics assert that the logic of public good analysis itself indicts hegemonic theory: because small, or k, groups can also provide public goods, either a hege￾mon or a small group of states can stabil￾ize a free trade system (Keohane 1984; Snidal 1985; Yarbrough and Yarbrough 1987). The PD representation can be derived as easily from standard international trade theory (Conybeare 1984). The latter points out that any state large enough to influence its terms of trade-the relative price of its exports-maximizes its real in￾come by imposing an "optimum" tariff, that is, a tariff set at a level that maxi￾mizes the net gain that accrues from the improved terms and reduced volume of trade.1 If optimum tariffs are used by all states, however, an individually and col￾lectively suboptimal outcome results: the volume of trade is reduced, but the terms of trade do not change.2 The mutually preferred outcome of free trade is difficult to achieve because it is not a stable or Nash equilibrium of the one-shot game: each state is better off defecting to an opti￾mum tariff if others do not. Thus, stan￾dard trade theory also characterizes trade among large states as a PD game. Both the public good variant of hege￾monic stability theory and standard inter￾national trade theory, however, analyze economic exchange in a political vacuum: they focus exclusively on the real income gains that accrue to a state that opens its borders to trade. Yet national power is en￾gaged in free trade agreements because such agreements produce security exter￾nalities: the removal of trade barriers can affect not only the real income but also the security of the states concerned.3 The security externalities of trade arise from its inevitable jointness in produc￾tion: the source of gains from trade is the increased efficiency with which domestic resources can be employed, and this in￾crease in efficiency itself frees economic resources for military uses (Root 1984). Thus, trade increases the potential mili￾tary power of any country that engages in it (Albert 0.Hirschman, cited in Baldwin 1985, 211). In doing so, it can disrupt the preexisting balance of power among the contracting states (McKeown 1982, 225).* Because it is locked into the insecurity that an anarchic international system almost invariably produces,5 a great power is less likely to be concerned about the absolute income than about the rela￾tive power effects of trade. The structure of international politics makes all states