Jul 03 2018
While US trade dynamics are in a fluid state, tariffs are now currently in effect and other countries have responded. The rate of escalation of tariff applications, the final set of proposed product lists and how long these tariffs will be in place, unfortunately, remain unknown. However, as the smoke settles after the first round of volleys, now is an appropriate time to diagnose the current situation. While the breadth of exposure is clear, the results remain in flux. Based on the list of products from China announced in June and the subsequent list in July, 182 industries will receive direct tariff assistance from Chinese products.
Understanding Trade Barriers
Anti-dumping measures are country-specific duties imposed on the basis of unfair pricing of foreign goods in the domestic market. These measures are designed to protect domestic concerns against a specific import injury. After an investigation concludes that the pricing issue is due to unfair practices, tariffs are imposed to close the pricing gap. On the other end of the spectrum are countervailing measures. When a foreign country subsidizes a domestic industry to the point of distorting international trade, import duties are levied against that industry to offset the foreign advantage. Because foreign subsidies are often the reason that dumping is possible, the two measures are often applied together.
Under various pieces of legislation, the president has the authority to initiate duties based on findings from the US International Trade Commission (USITC), the Commerce Department and the US Trade Representative (USTR). Most pertinent to the current trade situation are the Trade Expansion Act of 1962 and the Trade Act of 1974.
The 1962 law includes:
- Section 232 provision: Permits for trade investigations and remedies based on national security concerns.
The 1974 law includes:
- Section 201: Provides for safeguard provisions, which do not require unfair practices, based on serious or threatened injury to domestic industries caused by imports.
- Section 301: Has similarly broad provisions, which authorize the president to impose trade sanctions to stop actions that violate trade agreements, are unfair or that restrict US commerce.
The Current Tariffs
These forms of executive authority set the framework for the 2018 tariff situation: washing machines and solar panels in January (Section 301), steel and aluminum products in June (Section 232) and the list of Chinese products hit by 25.0% and 10.0% duties (Section 301).
In response to the steel and aluminum tariffs, several of the affected countries have installed retaliatory measures. Canada, in response to the tariffs on steel and aluminum, has placed tariffs of US goods at a level that matches the 2017 value of goods affected by the US tariffs. The products most affected are steel and aluminum, but the tariffs also cover a wide variety of consumer products. Similarly, Mexico has set a list of tariffs on US exports that totaled $3.0 billion in 2017. These products are focused on steel, but also cover cheeses, whiskeys and pork.
Outside of the North American Free Trade Agreement (NAFTA) zone, China and the European Union have also responded to tariffs with retaliatory measures. In response to the steel and aluminum tariffs, the EU has set a list of $3.3 billion worth of products to be tariffed with another set pending a World Trade Organization investigation of the US steel and aluminum tariffs. China responded to the steel and aluminum tariffs with a list of $3.0 billion US products to be tariffed. Additionally, China, in response to the Section 301 duties, has generated a list of products covering $34.0 billion. Currently, both the United States and China have pointed to further tariff applications both in response to perceived unfair duties.
The Tariff Effect
Trade barriers have a broad effect on industries. Not only do they have direct effects on specific industries that deal in the products covered by duties, but they also have ramifications up and down the supply chain. Effects are directly measurable as trade statistics catch up. However, while generalizations can be made with regard to how tariffs will affect costs, the actual effects on industries must be parsed on an individual basis.
In the near term, company-level decisions and supply-contracts dictate trade and location of production. As a result, it is difficult to state with precision how ongoing trade deals affect individual industries. What can be done, is measure industry exposure to international trade. Industries where imports account for a high share of domestic demand or where exports account for a significant share of revenue, need to be carefully considered in light of trade conditions. Exposure to these industries is also an important factor for other industries in the supply chain.
Section 201 Tariff: Generic Example
For example, suppose industry A buys from industry B to build its products. Industry B has high import penetration. Tariffs are applied to the products made in industry B. Under a correctly applied tariff, import penetration should decline and domestic demand for industry B’s products should increase. However, the need for this tariff on industry B’s products implies that the cost of domestically made products could not compete with foreign-made products. As a result, purchase costs for industry A should rise on average. The offset in its profit margin is dependent on its ability to push costs further downstream.
However, this breakdown excludes some important details. The existence of a US industry B suggests that certain operators are effective or exist for strategic reasons. Moreover, there are very few industries with international trade that do not export any products, implying there are foreign markets available. The implication of these added layers is that while an industry can be described in aggregate, it is still the sum of a discrete number of operators all seeking to maximize profits. As a result, when considering the effects of a tariff on an industry, it is essential to understand the idiosyncrasies that generate the whole of the industry.
Section 201 Tariff: Washer and Dryer Manufacturing
Although the steel and aluminum and Section 301 China tariffs have not been measured by official trade data yet, the washing machine tariffs have a had a directly measurable historical effect.
In 2013, the Commerce Department issued antidumping and countervailing duties against Korean washing machines based on support for LG and Samsung.
In 2015, a further investigation into exports from China is initiated after production shifts. At the beginning of 2017, antidumping measures are levied against China. Then a second shift in production occurs.
In June 2017, a full-fledged Section 201 investigation was initiated by the USITC to investigate whether the increased imports between 2012 and 2016 were a substantial cause of serious injury. After the investigation was announced, both Samsung and LG announced plans to build US factories. In January 2018, after recommendations, tariffs and quotas were applied. Year to date, there has been a distinct drop-off in imports. After a buildup in anticipation of the tariff, imports fell dramatically.
How Does This Affect the Industry?
The tariffs have had a direct impact on the Washer and Dryer Manufacturing industry and have altered the outlook for performance. The movement in imports is both indicative of how earlier attempts to curb penetration failed and how the expected effect of full-fledged tariffs will be. IBISWorld’s forecast for industry imports was downgraded drastically in line with the tariff application. However, a perhaps more meaningful shift occurred within the makeup of the domestic industry. The introduction of LG and Samsung plants significantly adds to domestic production capacity, even if they are only responsible for final assembly. With the expectation of a production shift to the US, industry revenue and employment are expected to rise.
The changes occurring in this industry, however, do not occur in a vacuum. While tariffs on washers may support domestic production, the ensuing tariffs on steel, aluminum and the broad list of Chinese products could hurt domestic operating margins. Whirlpool, the US manufacturer that initiated the case against washing machine imports, expects earnings to fall. While the Section 201 tariffs reduced import competition, the domestic market has remained highly competitive. As a result, there is a limited ability for operators to pass costs downstream.
Industry Impact: Washer & Dryer Manufacturing