Second and third-order tariff impacts: Shutting the gate damages us all

This damage is not just limited, of course, to firms in the United States and China.  The fallout will be felt globally.

At a speech this week in Singapore, Trade Minister Chan Chung Sing argued that countries face three levels of impact from these swinging tariff rate hikes.  It will not be just the Americans and Chinese that are affected.

First, firms may face the direct impact of tariff hikes.  As an example, firms in Singapore that manufacture solar panels are already paying higher duties on their products and have lost contracts as a result.  Companies here in the semiconductor business that ship to China will suffer collateral damage from a 25% rate increase after August 23 when they are moved onward to the United States. 

Second, firms will face indirect impact of shifts in the global trading system.  These changes are much harder to predict. 

Third, and more significant, the system as a whole may undergo a loss of confidence in investment and financial markets.  If this spirals out of control, the Minister suggested, the results could become quite unpredictable very quickly.

A quick poll of the 250 member audience at AmCham revealed that nearly 2/3 thought the US-China conflict will outlast this current US administration.

While the large group in the ballroom in Singapore expressed remarkable confidence in the projected length of the trade dispute between the largest powers in the system, the extent of this disruption does not seem to have manifested in firms coming to us or others to discuss what it actually means for companies today.

The implications, as the Singaporean trade minister noted, can be hard to calculate.  For instance, American importing companies will need to increase the amount of the continuous bond they hold with US Customs.  In some cases, bond levels may be 20-100 times higher than prior to Trump’s tariff wars began.

Shipping volumes have fallen off dramatically.  This has left firms paying more for transportation as well. 

So it is not just 25% tariff rate increases that affect firms.  The second- and third-order implications are just starting to appear. 

In the short run, exporting firms have several options to limit risk and exposure to higher tariffs.  They can do nothing and bear higher costs, hoping to ride out a short conflict.  They can work with their importing partners to effectively “share” the costs of higher tariffs. 

Firms should be reexamining their options to ensure that they understand their current supply chains, tariff classifications and possible sourcing alternatives.  It may be prudent to tweak existing processes to move products into new tariff classifications by, for example, adding or subtracting manufacturing steps in the supply chain from one location to another.

In this regard, some companies can use existing free trade zones to defer, delay or avoid getting captured by higher tariff costs.

The incentives for using less legal methods of circumvention of 25% tariffs will be high.  Customs officials will be struggling to manage an increasingly complicated set of new challenges at the borders.

A protracted and prolonged dispute will force firms to shift supply chains entirely.  While little movement has taken place so far for many companies, once changes start taking place, it is not obvious what the final picture will look like.  Places that have long benefited from trade patterns may suddenly look exposed in the new trade landscape and options that had not been seen as attractive may now be interesting to firms. 

If economic nationalism is likely to gain traction, companies need to think carefully about what footprint matches a world much less globally open than before and make certain that their structure fits the new environment. 

Companies might, as an example, take a hard look at their current structure and conclude that the majority of future growth does not lie in the United States at all.  Such firms might decide to outsource all production, or nearly all production, outside the US in the near term. 

Or firms could decide that their particular products or services are unlikely to sell well outside the US and re-shore production into the United States to be behind tariff or trade walls. 

Finally, some firms may opt to have dual or multiple strategies—with production facilities in multiple locations for servicing local markets.  This will break up or reverse the past gains from globalization where companies have been able to place exactly the right “slice” of the manufacturing and services supply chain for a firm into exactly the right geographical location for optimizing fast, efficient delivery of goods and services to markets.

So far, despite the strong views of the audience in AmCham about the presumed length of the US-China dispute, most firms in Asia do not seem to share the same sense of urgency about coming changes.  Few companies appear to be making contingency plans and many still start sentences with the phrase, “If this tariff thing happens…”

Economic nationalism, unfortunately, may not be contained to just the United States.  Indonesia just announced a plan to hike tariffs on 500 products to protect local importers, including new duties on e-commerce goods.

Once countries start retreating to behind their own walls, the incentives are high for others to follow suit.  It took more than 70 years of hard-fought work and negotiations to craft the current global trade regime.  If it collapses, it will likely not be easy or quick to put back together.

Firms ought not assume that this trade conflict is going to be simple to resolve.  Planning now could avoid significant pain later.  Come see us for how to get started or to help examine your strategic planning in the supply chain and trade spaces.

As Minister Chan reminded his audience in Singapore, “Do not try to fool people by arguing that only by shutting the gate will you live happily ever after.”