Now for your latest installment of the on-again, off-again trade war between the US and China, we have President Trump blasting Beijing for reneging on commitments to clamp down on intellectual property theft, end forced technology transfers from US tech companies, and allow US companies greater access to the domestic Chinese market, including in cloud computing. Until Sunday’s tweets, the smart money had been on a deal. The sudden cooling—and a promise that tariffs on $200 billion of Chinese goods imported into the US would rise from 10 percent to 25 percent on Friday—has spooked financial markets and unsettled businesses ranging from apparel to autos and especially to tech.
Reaction to the new hostilities ranged from warnings of a 20 percent decline in stock indexes to concerns that economic growth could be dinged substantially. Looking at the effects of tariffs Trump imposed last year, however, suggests otherwise. The tariffs, and China’s countermeasures, are hurting select sectors, especially apparel and agriculture, and the thousands who work in those industries. But they don’t seem to be forcing substantial changes in anyone’s behavior. That makes tariffs both ineffectual and pointless, and it may be that we are in for more of the same—the facsimile of chaos with manageable economic effects. Not good, but not nearly as bad as one would expect; it sends a message that the US is less open to the world without actually altering the degree to which the US remains utterly intertwined economically with the world, including China.
The new tough talk raised fears for tech companies in particular. Many US semiconductor companies, for instance, are heavily exposed to China, both in terms of what they sell in China and how much they manufacture in China and then ship to the US. Qualcomm and Broadcom, for instance, generate more than 60 percent of their revenue from China, and are at risk from China’s retaliatory tariffs. And while companies such as Apple have not been affected by tariffs to date, Trump’s threatened 25 percent tariffs on additional Chinese imports would mean that all those iPhones assembled in Shenzhen would suddenly become even more expensive.
And yet, the same fears were raised, quite legitimately, when the first round of tariffs went into effect in the spring of 2018 and when the 10 percent tax was applied to $200 billion of additional Chinese goods at the end of the summer. Those tariffs demonstrably harmed specific industries and companies, ranging from soybean farmers in the Midwest to electric bike makers. But what’s perhaps most startling about the tariffs so far is how little impact they’ve had on the overall US-China economic relationship.
Tariffs are designed to protect domestic industries from lower-priced foreign competition and to penalize countries for perceived trade abuses. Yet, after nearly a year of tariffs, the China-US trade balance has remained largely the same; the only notable shift is reduced American exports to China because of China’s retaliatory tariffs, especially on American agricultural commodities.
It may be, of course, that companies haven’t significantly altered their supply chains because, for now, most tariffs are at 10 percent. That’s a nuisance, but many companies in tech land are operating at hefty double-digit profit margins, and purchases from China are only a portion of their overall expenses. Those higher profit margins mean a 10 percent increase in input costs from, say, silicon chips from China can be absorbed with slightly lower profit margins or by generating efficiencies elsewhere. And that first round of tariffs also left many vital tech components off the list, such as Bluetooth devices and components.
If tariffs rise to 25 percent and include a wider of range of tech products and components, of course, it will be that much more difficult to absorb. Yet even here, companies have more room than you might think before they start to pass on higher costs to American consumers. Let’s say that in a few months, the iPhone gets slapped with a tariff. Analysts estimate that the materials inside an iPhone account for about one-third of its retail price; for a $750 iPhone XR, that would be $250, so a 25 percent tariff would mean that Apple has to pay the US government $62.50. Apple can then either raise the price of the phone so that American consumers bear the cost, or it can eat that cost and see lower profit margins on the phones, which are then blended with high-margin service businesses to modestly dent Apple’s overall margins.
Not all companies have that flexibility, but for many companies, tariffs are not that different than volatile energy and commodity prices; companies and consumers always have to deal with oil and gas prices that can go up or down 50 percent in months. Such price swings create economic waves, but people and enterprises adjust to fluctuations more adeptly than one might think.
Another explanation for the relatively muted effect of the first round of tariffs is that companies have been assuming that they would soon be lifted, and have avoided structural decisions about whether to move production from China or to give up investing in China. Unfortunately, the only way to test this is to see what happens after a year or more of 25 percent tariffs on everything, which many in the Trump administration clearly would like, regardless of the impact on American businesses and the US middle class.
But it’s striking that the rhetoric and nearly a year of actual tariffs have not led to higher inflation, have not significantly impacted the bottom line of most companies, and have not changed the trade relationship between the US and China in any statistically discernible fashion. Yes, some companies and many American farmers have suffered, but the overall effect of tariffs has been that of a mouse that roared. Here, as elsewhere, Trump has been bark and tweet with little actual bite. That could be on the verge of changing. There’s a material difference between a 10 percent tariff and a 25 percent tariff, and that may cause an upending. Just because a sponge can absorb 10 ounces of water doesn’t mean it can absorb 25 ounces. We may indeed be at a tipping point, and a bad one, but the widespread assumption a year ago was that tariffs would upend the US-China relationship and the global economy. It didn’t happen then, and we would do well to consider the real possibility that it won’t now.