On Friday, July 6th, 2018 new tariffs enacted by President Donald Trump went in to effect on $34 billion Chinese goods. These tariffs cover a range of goods but most importantly, include steel and aluminum. While this seems like an aggressive step by the Commander in Chief, it is anticipated there is much more to come. President Trump has threatened that if China retaliates, there will be tariffs placed on an additional $450 billion of Chinese goods.
These tariffs were enacted after allegations made against China and the Chinese government by U.S. businesses. Some have accused the Chinese of multiple unfair business practices. Many United States businesses have reported that when operating in China, Chinese firms are forcing them into partnerships, stealing their technology and ideas, and then dissolving the relationship. Additionally, the United States government claims to have proof that Chinese companies are stealing American tech secrets. Furthermore, it is also believed the Chinese have been hacking into US commercial networks to spy on US commerce. The Trump administration believes these actions have been persisting for too long, and the Chinese must pay for their crimes against America. He hopes to punish the Chinese government by imposing these tariffs.
A spokesman for the Chinese Commerce Ministry has said the Chinese government will retaliate with full force, enacting tariffs on top American exports. While Trump may anticipate a short trade war, it appears China is poised to go the distance. China’s head banking and insurance regulator claims, “The progress of [our] economy cannot be reversed by any force,” (1) providing possible evidence that China will not back down to President Trump.
So why is this trade war important? Well these tariffs will have important economic effects on United States’ consumers, businesses, and stock market.
As tariffs rise, so too will the cost of producing most goods. Those who operate in the steel and aluminum businesses will especially face difficulties. Furthermore, all businesses will be directly or indirectly faced with the issue of an increased cost of inputs—the necessary materials and supplies to produce final goods. This input dilemma creates two options for all American businesses: they must increase the sales price of their products, or they must adjust their business process or structure to maintain profit margins.
If businesses elect the former, then the average American consumer will most greatly feel the effects of the tariff. In this situation, if a company is not working to reinvent their business process to reduce prices, then they are simply passing the tariff to the consumer by raising prices. For most companies, re-optimizing a product can be a long and expensive task. The average company will be forced to raise prices. This raise in price will be felt heavily by consumers in many industries.
If businesses elect the latter and adjust business process or structure, a likely result will be downsizing. As tariffs increase the cost of inputs, business in many industries will become far more expensive. With business becoming more expensive, some companies will not be able to afford to maintain their workforce. History supports this hypothesis. President Trump’s tariffs are very similar to a series of tariffs approved by the Bush administration during 2002. A report on the Bush administration tariffs produced by Dr. Joseph Francois, showed that in the year 2002 approximately 200,000 Americans lost their jobs to higher steel prices. Although this report is not an exact indication of what will come of Trump’s tariffs, it perhaps provides foreshadowing for what lies ahead. As these tariffs stand, our economy is more than likely to see a decrease in jobs, especially in the steel and aluminum industries.
As the average cost of goods rise and companies are forced to reduce their workforce, concern is growing that our economy could slip into secular stagnation—a time of stunted business growth. There is no evidence any diplomatic parties involved will back down, and the rise in tariffs promotes an economic climate that does not facilitate business growth. So, what does this mean for the stock market? History indicates that tariffs and the stock market generally do not get along. In 2002 when President Bush enacted similar steel tariffs on Canada and Mexico, the Dow Jones fell by more than 25%. Additionally, the U.S. dollar index also saw a significant drop in the ensuing months of the 2002 tariff being enacted. If history repeats itself, these tariffs could potentially have a significant impact on the stock market today. As companies adjust business structure and process, the direction of the market is unknown.
In summary, these tariffs could have a very significant impact on the U.S. economy and American individuals. It is important to be aware of these changes as eventually they will directly or indirectly affect each of us.