Exemptions will help, but Trump's tariffs could still hurt Australia in a big way

A worker at a Chinese steel factory. Photo by Kevin Frayer/Getty Images

  • It looks like Australia will get exemptions from Donald Trump’s tariffs on steel and aluminium, which is good news — but hang on.
  • The main target of the tariffs is China, Australia’s biggest trading partner and largest source of demand for iron ore and coal, which are Australia’s biggest exports.
  • Global high prices for iron ore are helping to improve Australia’s federal budget bottom line, and prices have been rolling over this week, possibly in response to Trump’s tariffs which could depress demand.

“We have a trade surplus with Australia, great country, long term partner, we’ll be doing something with them,” said US President Donald Trump overnight, signalling Australia is likely to gain exemptions from his punishing new import tariffs on steel and aluminium.

This is good news. When Trump started talking up the tariffs last week his officials were warning there would be no exemptions, just days after Prime Minister Malcolm Turnbull led a trade delegation to the US and talked up the strong relationship between the two countries.

The idea that Australia would be treated just like anyone else was a bit embarrassing for a while, but it now looks like there’ll be a way through.

But there’s a bigger problem.

The target of Trump’s tariffs is Chinese steel.

China’s huge steel industry drives almost all of the demand for Australia’s biggest export, iron ore.

And the strong demand for iron ore over the past year has driven export prices higher and led to a rapid improvement in the federal budget bottom line.

Treasurer Scott Morrison announced an improvement of almost $6 billion in the budget bottom line in the mid-year budget review in December and it looks like that will be even greater come the federal budget in May.

This has given Malcolm Turnbull the ability to start planning for income tax cuts — not just a vital political initiative to try turn around the Coalition’s dour standing with the electorate, but an important economic lever to deal with the biggest challenge in the economy right now: the pressure on household budgets inflicted by wages growth hovering near record lows and costs of essentials like power bills whittling away people’s spare cash and diverting spend away from other businesses.

Prices for Australia’s biggest export, iron ore, have been falling this week as the market wraps its head around the impact of Trump’s tariffs on the global steel industry.

Here’s the chart, where you can see the price rolling over in recent days.

Steel production in China also drives demand for Australia’s coking coal which, together with thermal coal, represents Australia’s second biggest export.

It’s not just the iron ore sector that’s in the firing line here.

As David Scutt reports here, analysts are split on what has driven the decline in the iron ore price this week. While concern over the impact of tariffs is undoubtedly a factor, there are other season factors at work, including a dip in activity and attendant fall in demand after the Chinese New Year break.

There are plenty of reasons not to worry too much. The US market is tiny for Chinese steel, overall. America only represents around 3% of Chinese steel exports. The vast bulk of its steel exports feed countries like South Korea, Vietnam, Thailand, the Philippines and Indonesia. Those five countries alone accounted for around 40% of China’s steel exports in 2017.

So there’s a big demand buffer out there.

And the iron ore price, while volatile, has held up reasonably well given that China’s total steel exports fell 16% over the past year, and its iron ore imports dropped 16 percent from January.

But in the end, the equation is simple. Higher iron ore prices are good for Australia and good for the federal budget. If the tariffs result in a broad slowdown in Chinese steel production and there is an attendant drop in prices, that will affect the performance of Australia’s biggest export and the tax revenues needed for the budget repair that currently has some real momentum.

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