Ever since our President has begun reworking our Country’s trade agreements with our major trade partners, tariffs have taken center stage. It appears, all parties involved (especially China) realize the sooner new trade agreements are in place, the better. I could not agree more. That being said, now is as good a time as any to dig into tariffs and how they work.
Tariffs are a “tax” on products imported from a specific country and the tariff is paid to the importing country. That’s the simple part. Things get a little murky when it comes to identifying who is actually on the hook to pay the dreaded tariff. The businesses importing product (and/or materials) are the ones responsible to pay the tariff but do they actually pay it? At the outset, yes… but going forward don’t count on it.
So far, businesses are doing their best to absorb the tariffs without passing this tax onto the end consumer via higher prices. They do this through internal cost cuts and/or taking a hit on their profit margins. But, the longer these tariffs are in place businesses will attack them three ways: 1) Ask their manufacturers/producers in China to cut their prices, 2) Raise prices they charge the end consumer, and 3) Find alternative countries to replace China as their preferred manufacturer. Vietnam is at the front of the line.
Now, with our simple definition of a tariff established, the real question(s) is what will be the impact to the #1 & #2 global economies if tariffs impacted the current import/export business between each country. Looking at the numbers, it is clear China is more reliant on this country, then vice versa. The United States’ gross domestic product (GDP) hovers around $20 trillion, while exporting just about $120 billions of product to China. This is less than 1% of GDP. As for China, their GDP is $12 trillion or so, and they export $520 billion to our Country. This is nearly 5% of their total GDP.
The numbers don’t lie. Our nation of consumers contributes more to China, than the Chinese contribute to ours. So why are so many business leaders in an uproar over tariffs and the threat of more tariffs? Quite simply each business fights its own battle. To some, the China market is more important than others and they are not only counting on China’s manufacturing capabilities but also their market of nearly two billion consumers. There is huge opportunity there and businesses do not like upsetting the proverbial apple cart.
There may be some pain in the short-term as our President is leaning on tariffs to get new bi-lateral trade agreements in place. Forcing businesses to make decisions to best deal with the impact of said tariffs is just part of doing business in the short-term. Over the long-term the USA has the upper hand in this negotiation. If we are to assume that China wishes to continue on its path of economic growth that has improved it’s country’s living standards, lifting many from poor to the middle class, then it would be in their best interest to come to an agreement with the USA.
The citizens of China want Starbucks in their country. They want to have choices amongst mobile phone providers. They are interested in spending money on fashion. They enjoy living in a somewhat capitalist society. Over the longer term it would be tough to imagine their leadership changing economic course simply because the USA wants a fair bilateral trade agreement.