[SCMP Column] How tariffs backfire

June 23, 2018


Hopefully by now it is beginning to dawn on Trump’s trade team how naïve it was to think that trade wars might be good and easy to win. What they have yet to realise as they ratchet up their tariff “punishments” is that the main victims of these actions are their own global multinationals, and of course the US’s own consumers.

And no, I am not talking about the price they will pay as purchasers of more expensive imported steel and aluminium, or car components. Steel prices in the US are 40 per cent up since March.

Rather, I’m talking about a fascinating piece of research by Mary Lovely at the Washington-based Peterson Institute which lays bare a reality that has been hiding in plain sight for a very long time: “Trump’s tariffs largely tax the exports of foreign enterprises operating in China, whether US-owned or with parents domiciled in other advanced economies (all US allies).”

Lovely reveals that 46 per cent of China’s exports in 2014 (latest available data) were accounted for by foreign invested enterprises (FEIs). Of exports to the US, 60 per cent come from for by FEIs.

Sitting in Hong Kong, I should have quantified this long ago: the great majority of exporters from the Pearl River Delta are Hong Kong and Taiwan manufacturers that flooded in after Deng Xiaoping launched the Special Economic Zones in the early 1980s, and FEIs from the US, Japan, Korea and Europe that have arrived since. As far as China’s exports go, most come from foreign companies operating there. And Guangdong, which in 2016 exported over US$1 trillion of goods, accounts for 29 per cent of China’s exports.

These companies were allowed to set up in Shenzhen and Dongguan explicitly and exclusively as export processors. Inputs were brought into the SEZ factories (mainly through Hong Kong) in bond. They stayed in bond as goods were processed. And the finished products were exported, again through Hong Kong, still in bond.

Back in the 1980s, most of these FEI exports were low-value consumer goods – textiles and garments, toys, shoes, Christmas trinkets, leather goods. In 1997, such consumer goods accounted for 26 per cent of China’s exports. Today that has shrunk to 12 per cent. In their place, exports today are mainly computers and telecoms devices, electrical equipment and machinery. These account for 54 per cent of exports, compared with 33 per cent in 1997. But still the lion’s share of them come from foreign invested companies rather than Chinese ones.

And these exports are part of long and complex production chains in which US-owned enterprises have cleverly kept most of the high-value-added activity in the US, and “off-shored” the “mug’s game” part of the chain, where low-wage migrant workers work for starvation wages to assemble these increasingly high value products.

It is exactly these companies that will be being clobbered by Trump’s tariffs.

Chad Bown, also at the Peterson Institute, has examined the 1,333 products targeted on Trump’s original US$50bn tariff list, and 85 per cent of them are intermediate inputs and capital equipment destined for technology-intensive products being exported not by Chinese companies, but by US-owned and other FIEs.

As Mary Lovely notes: “(US) production would not be as strong as it is without access to global supply chains, which reduce costs, raise productivity, expand the market share of US firms, and allow the US to focus on what it does best: innovating, researching and designing the cutting-edge goods and services of the future.

 “It is fair to describe the tariffs as taxes on American productive inputs purchased from affiliates of foreign firms operating in China, many of them wholly-owned foreign subsidiaries… They drive up costs for US-based manufacturers and disadvantage American workers competing in global markets.

“They are a commercial own-goal in that they harm American interests more than their intended targets.

China may today be the world’s biggest buyer of semiconductors and other high-tech inputs, but the most sophisticated and expensive of these are being bought from the US to be put into computers and other high-tech products being made by foreign-owned companies for export – often back to the US. So Qualcomm, a leader among such sophisticated semiconductor-makers, last year sold 66 per cent of its global US$22bn in sales to Chinese customers and intellectual property licencees. It is companies like Qualcomm that are in Trump’s tariff firing line.

Complementing the Paterson Institute research, James Kinge at the Financial Times also notes that instead of looking at crude trade balances, the US’s trade team should be looking at the US’s “aggregate economic relationship” with China.

Here, they would discover that US multinationals like GE, Nike, Starbucks, Ford, Tyson, Monsanto etc… have sales inside China that were at last count worth US$221.9bn - far more than US exports. All are bracing for the harm that will be done to their businesses as China inevitably retaliates, and as the Trump team tries to identify a further US$200bn of China exports without hitting “goods commonly purchased by American consumers”.

They are also ignoring the US services exports in peril. According to official US government data, earnings from Chinese tourists visiting the US last year amounted to US$33bn, more than double the US$14bn value of soyabean exports. Strangling the issuance of tourism visas to the US would be a simple retaliatory move by Beijing.

Trump’s team say they are targeting unfair business practices inside China that are hurting foreign businesses, and the protectionist aspects of the “Made in China 2025” initiative. That is a fair concern, shared by European and many other companies trying to build businesses inside China. But the tariff strategy – if you can call it a strategy – is shockingly inept, with US and other foreign companies the main casualty.

As Mary Lovely concludes: “Made in China 2025 remains an aspiration, not a reflection of current manufacturing prowess. It is impossible to hit tomorrow’s exports with today’s tariffs.”
 
David Dodwell researches and writes about global, regional and Hong Kong challenges from a Hong Kong point of view. Opinions expressed are entirely his own.

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