- President Donald Trump hit Chinese imports to the US with massive tariffs on Friday.
- China responded with tariffs on US products.
- Tariffs are taxes on imports designed to boost US production of goods.
- The new tariffs will cause costs to go up for businesses that use imported goods from China – and possibly jump prices for consumer goods, too.
President Donald Trump’s tariffs on $US34 billion worth of Chinese goods went into effect at midnight on Friday, which in turn prompted a swift response from the Chinese and kicked off an unpredictable trade war.
The Trump administration said the tariffs are necessary to protect national security and the intellectual property of US businesses. In addition, Trump has repeatedly expressed a desire to shrink the US’s trade deficit with China and protect American businesses from being undercut by Chinese producers.
In response to Trump’s decision, China announced tariffs of their own on $US34 billion of US goods. The attack, and counterattack, appear to have pushed the two countries into a trade war.
What is a tariff?
- A tariff, in plain terms, is a tax on goods coming into a country.
- In the US, many tariffs are paid at the time of entry into the US via a customs broker or agent – along with other duties and fees that may apply to the import.
- The idea of a tariff is to push up the price of foreign goods to make the US-made option more attractive.
- In this case, Trump is attempting to get companies to use less Chinese-produced goods and opt for items made in the US or a imported from a more friendly trade ally.
Hans Mikkelsen, a Bank of America Merrill Lynch strategist, said the new taxes will shift the supply and demand for the various goods they are imposed on.
“International Trade 101 analyses the partial equilibrium effects of a tariff as driving a wedge between demand and supply curves, whereby the price goes up and the quantity down,” he said in a note to clients.
What does it mean for businesses?
- For many businesses that use imported Chinese products, the cost to produce their items will increase, either because the company must use more expensive domestic parts or pay more for the finished products.
- Trump’s China tariffs are particularly damaging because they focus on intermediary goods, or parts. US firms, including many small- to medium-sized businesses, use these parts to make finished products.
- By increasing the cost of parts, the tariffs will force companies to either pass on the cost to customers in the form of higher prices, cut costs in other areas like the workforce, or shift operations outside of the US to avoid the tariffs altogether.
For instance, Moog Music, the maker of the legendary Moog synthesiser, recently told customers that the tariffs on Chinese goods will dramatically increase the cost of producing their instruments. To handle this increase, Moog said, the company will either be forced to lay off workers or move its operations outside of the US.
What does it mean for the average American?
- Businesses that see the cost of goods rise have three options to make up the losses: cuts costs in other areas, simply absorb the cost and accept lower profit margins, or pass the costs onto consumers.
- The latter option is concerning to economists because it could lead to a slowdown in consumer spending and an uptick in inflation.
Erica York, an analyst at the right-leaning Tax Foundation, explained that increasing the cost of inputs would raise the prices paid by consumers and the income paid to those consumers wouldn’t stretch as far.
“Because these higher prices would reduce the return to labour and capital, they would incentivise Americans to work and invest less, leading to lower output,” York said.
In all, economists expect the current round of tariffs on China to result in a modest drag on US economic growth. Gregory Daco, head of US economic at Oxford Economics, estimated that Friday’s tariffs will result in a 0.1% to 0.2% direct drag on US GDP growth.
But, Daco said, the cascading effects on the US economy could be greater.
“Importantly, these simulated results may under-estimate the shocks to private sector confidence,” Daco said. “As we have seen in recent regional Fed surveys, ISM surveys and business confidence readings, US companies are increasingly concerned about the impact of tariffs on their supply chains and input costs.”
If businesses are worried about the long-term effects, they may delay investments and hiring plans. This creates a second-level drag on the US economy and could result in a more dramatic slowdown.
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