Tariffs have been making news lately as the Trump administration is imposing several rounds of tariffs on products imported from China.
The Tax Foundation estimates these measures can amount to a tax increase of $69.33 billion. Quick changes in trade policies might lead people to think differently about how they commit to business plans as well as personal financial responsibilities.
Understanding how tariffs work and what they’re doing to businesses can help guide you through informed financial decisions.
What’s a Tariff?
Tariffs are taxes or duties on an imported product. The fees are charged as a percentage of the price of an imported good paid for by a U.S. buyer.
Tariffs are based on the location of production, not the location of the producer. Unlike a sales tax, which is placed on something regardless of where it’s made, a tariff exempts domestically produced goods. Once an imported product arrives in the U.S., duties are collected by U.S. Customs and Border Protection.
Often, an importer will pass the cost of tariffs on to manufacturers and consumers by raising the prices of the imported products.
Reuters reports that, generally, “U.S. consumers foot much of the tariff bill.”
For example, a pair of Adidas made overseas would be subject to the U.S. tariffs when imported to the U.S. A sneaker made in Ohio would not.
With higher tariffs now and possibly another increase by December, footwear companies like Nike Inc. would face Trump’s proposed extra 25% tariff, according to Reuters.
How Much Do Tariffs Contribute to the Economy?
Despite its unpopularity, the Tariff Act of 1789 was an important source of revenue that protected the American manufacturing sector from foreign competition. After the 1900’s industrial expansion, the adoption of the income tax, and Word War II, tariffs were decreased. Today it amounts to about 3.6% of federal revenue, as reported by Quartz.
President Donald Trump states that increasing tariffs revolves around the same idea of protecting American manufacturing.
When he introduced the tariffs on washing machines in 2018, for example, it was in response to a complaint by Whirlpool, which claimed foreign competitors were affecting the American washing machine market with cheaper models and threatening the domestic manufacturer.
President Trump’s plan included a tariff increase of 50% on washing machines to try to get more of them made in the U.S. and respond with retaliation to “unfair trading practices” made by China as well.
If you’re interested in reading more about how current events impact the global economy and supply chain read our STEEP series.
In 2009, the Obama Administration made a similar move on China and imposed tariffs on its tire products to protect American tire manufacturers. Although the increased taxes saved 1,200 jobs, in the American tire industry, tire prices spiked, according to a report published by the Peterson Institute for International Economics.
By December 2019, nearly every other good imported from China will be taxed a minimum of 10% to as much as 30% by the U.S. government. This amounts to about $550 billion worth of products paid for by American companies that import them, including clothing, shoes, toys and consumer electronics.
While tariffs may benefit some domestic sectors because competition can lower the cost of goods, the proposal to increase tariffs could discourage China and other countries from trading with the U.S., which can decrease domestic competition.
How Do Tariffs Affect Business Prices?
Tariffs are supposed to encourage foreign companies to shift more of their manufacturing to the United States. However, with higher tariffs come unexpected costs for shoppers. Since tariffs boost the prices of domestic goods, domestic producers are not forced to reduce their prices because of a lack of competition. As a result, domestic consumers pay more.
This is one reason why tariffs’ role in international trade has declined. Within groups like the World Trade Organization (WTO), designed to improve free trade, members agree not to charge imports above certain levels.
The U.S. Department of Commerce, for example, was able to impose additional tariffs on imported raw materials like steel and platinum, as well as other industrial equipment.
Despite Trump’s intention to boost local manufacturing and protect U.S. jobs, the new tariff deal involving China can hurt American companies because tariffs on raw materials make it costly for manufacturers to produce goods made in the U.S.
“Trump’s decision to impose restrictions on intermediate inputs and capital equipment is a step backward. It goes against decades of government work to lower trade barriers, so Americans have easy access to low-cost, high-quality components.”
Chad P. Bown, Reginald Jones Senior Fellow at the Peterson Institute for International Economics
The Impact of Tariffs
Demand always drives the dollar. But if the variety of goods decreases, competition can become stagnant. This occurrence is prevalent when there’s a lack of suppliers.
For example, when there is a lack of foreign suppliers for specific products like medical equipment, a U.S. importer may find itself responsible for the entire tariff amount, which it may then pass on to consumers by charging a higher price point.
If you walk past the health aisle at a retailer and encounter $5 T-shirts in the next aisle, it’s because lower-priced products may have multiple foreign suppliers competing with one another to sell to the U.S. For a consumer, that may mean little to no impact on their wallet.
If other countries want to continue exporting T-shirts to compete with other suppliers, they would have to accept the tariffs and cut prices to the number of goods.
But higher tariffs imposed on China are making foreign companies reconsider their trade deals and putting a hold on exports. For example, China recently cut off imports of U.S. agricultural products like corn and soybeans, straining both American farmers and ties with agribusiness, according to a New York Times article.
Other sectors like apparel, footwear and home textiles, were subject to higher tariffs beginning September 1, according to the American Apparel and Footwear Association.
As for U.S.-based importers, handling the higher tax burden affects U.S. companies and consumers more than China. According to Reuters, managing tactics include the following:
- Accepting lower profit margins
- Cutting costs (including wages and jobs for U.S. workers)
- Putting off potential wage hikes
- Passing on tariff costs through higher prices on goods for consumers or companies
The Case for Small Businesses and Manufacturers
Even if small businesses don’t directly import or export goods, they may face negative economic impacts. Someone that owns an electronics manufacturing operation in the U.S. might find that larger companies that used to depend on China sales are now looking at the domestic market to avoid Chinese tariffs. The small business owner may see lower sales due to an increase in the local competition.
For manufacturers, the current administration’s policies raise concerns as well. A National Association of Manufacturers survey found that 56% of the 689 manufacturing companies responding expressed that tariffs are one of their most significant concerns, with just over 31% choosing the economy as a bigger challenger.
“No companies just accept pricing increases without a fight. We’ve had to absorb a little bit of a loss because when you’re dealing with customer negotiations, sometimes you need to give a little in order to keep the business.”
Kevin Feig is the Executive Vice President of an auto part distributing firm in Miami, FL. In a recent interview for NPR’s Marketplace, he said that tariffs make him worry about the quality of a motor product the firm offers to clients. The product has over 6,000 parts, causing any change in the supply chain due to tariffs to disrupt the entire process.
“To move even a single part number from one supplier to another is a very exhaustive process that requires a lot of time, research and testing.”
So, where do businesses look for alternative sourcing outside of China? That’s another question many business owners are asking themselves. These concerns reveal that tariffs no longer further the same interests as they once did in American history.