In our review of financial media, we find many fear tariffs’ potential global economic impact. US President Donald Trump’s newly imposed tariffs, threats for more and retaliation by trading partners appear to be stoking fears of a global economic slowdown—or worse. But we think tariffs’ likely impact pales in comparison to these fears—suggesting a positive surprise lurks for equity markets. One reason? Bilateral tariffs are easy to dodge.
Evidence of dodging is already starting to show up in the data. One study, from Japanese bank Nomura, shows Vietnam’s and Taiwan’s exports to the US have jumped since tariffs took effect, whilst US imports from China have slipped a bit.[i] Another report, based on data from S&P Global Market Intelligence, showed US imports of Chinese-made furniture fell -13.5% q/q in Q1 2019, whilst shipments from Vietnam and Taiwan jumped 37.2% and 19.3%, respectively.[ii] US imports of Chinese refrigerators fell -24.1%, but imports of South Korean and Mexican refrigerators rose 31.8% and 32%, respectively.[iii]
Some of this might be due to actual changes in where US firms are sourcing goods. However, supply chains generally don’t change this radically in such a short time. It typically takes time to build out new networks—not just finding new suppliers, but negotiating contracts, securing shipping and beefing up staff in new locations, if necessary. This might be why reports are emerging that at least some of these trade data swings stem from firms re-labelling goods by falsifying country of origin stamps. In one high-profile example, Vietnam’s customs department announced US customs authorities had found several instances of Chinese goods relabeled “Made in Vietnam”.[iv] They determined Chinese producers were shipping goods to Vietnamese manufacturers, who would affix a new label and re-export them to the US. It would not surprise us if this practice is more widespread than the dozens of companies that got caught.
Whilst re-labelling is a short-term patchwork solution, there is also some evidence companies are planning longer-term workarounds. “According to the American Chamber of Commerce in China, a nonprofit organization with membership of more than 3,300 individuals from 900 companies operating across China, 35 percent of the companies it surveyed have moved or considered moving their production bases out of China to other countries such as Southeast Asia.”[v] The longer tariffs linger, the more we suspect this is likely to happen, as the incentives shift to favour long-term solutions rather than short-term stopgaps. Now, we don’t think these tariffs are likely to last indefinitely, as we think the available circumstantial evidence shows Trump is using these tariffs as a negotiating tactic. He has already removed new and threatened tariffs against Mexico following successful negotiations on trade policy and immigration. But if the talks with China, for instance, fail, and tariffs stick around after all and appear permanent, companies will have more incentive to invest in long-term supply chain shifts.
In the meantime, there is some evidence companies are availing themselves of countries that are exempt from measures like the steel and aluminium tariffs. One such country is Australia, which received a waiver from steel and aluminium tariffs the US imposed globally in March 2018. US aluminium imports from Australia rose 350% y/y in Q1 2019.[vi] We suspect this is no coincidence, and it is likely one reason President Trump considered putting tariffs on Australia even though the country was not one of his initial targets. With its geographic proximity to China, it was seemingly a natural loophole for regional exporters.
For multinational corporations with robust global supply chains, tariff avoidance likely doesn’t require such creativity. Consider eurozone auto manufacturers, which pundits often warn will suffer if President Trump enacts his threatened tariff on automobile imports. This tactic could also benefit eurozone auto manufacturers if President Trump follows through on threats to impose tariffs on the industry. Whilst the EU exported automobiles worth €37.3 billion to the US in 2018, many major eurozone automakers already have production facilities in the US. [vii] According to one German industry group, whilst German automakers shipped 494,000 cars to America in 2017, they built 804,000 there—exporting over half to Canada, Mexico and China.[viii] So if Trump taxes European cars, European automakers can leverage their US factories and adjust global supply lines. Instead of shipping American-made cars abroad, they can sell them all there, whilst their European and Mexican factories sell to Canada, Mexico and China.
Lastly, companies could avoid tariffs without redirecting trade simply by changing the import code used. There are thousands of codes used to track US imports, and it isn’t hard to exploit some seemingly overlapping categories. For instance, the code for Chinese diamond saw blades carries an 82% tariff, but reports indicate “California importers controlled by a Chinese manufacturer tried to dodge the tariff by coding diamond saw blades as grindstones.” [ix] US Customs reportedly experienced a spike in such misclassifications in 2018, with some suggesting they had tripled in a six month period. [x]
With so many ways to sidestep tariffs, we find it unlikely the economic impact is anywhere near large enough to cause a global recession, making the potential for positive surprise high. Even if investors never consciously realise tariffs are toothless, if data continually beat expectations and the widely feared tariff-related downturn doesn’t happen, we think that is likely to be a salve for investor sentiment—and global equity markets.
Fisher Asset Management, LLC does business under this name in Ontario and Newfoundland & Labrador. In all other provinces, Fisher Asset Management, LLC does business as Fisher Investments Canada and as Fisher Investments.
Investing in stock markets involves the risk of loss and there is no guarantee that all or any capital invested will be repaid. Past performance is no guarantee of future returns. International currency fluctuations may result in a higher or lower investment return. This document constitutes the general views of Fisher Investments Canada and should not be regarded as personalized investment or tax advice or as a representation of its performance or that of its clients. No assurances are made that Fisher Investments Canada will continue to hold these views, which may change at any time based on new information, analysis or reconsideration. In addition, no assurances are made regarding the accuracy of any forecast made herein. Not all past forecasts have been, nor future forecasts will be, as accurate as any contained herein.
[i] “It’s Not China or the US: Here Are the Trade War’s Winners – So Far,” Yen Nee Lee, CNBC, 4/6/2019.
[ii] “U.S.-China Trade War Is Rerouting U.S. Import Flows,” Lisa Baertlein, Reuters, 10/4/2019.
[iv] “Vietnam to Crack Down on Chinese Goods Relabeled to Beat US Tariffs,” Staff, Reuters, 9/6/2019.
[v] “The Global Manufacturing Industry is Moving Out of China,” Cheng Xiaonong, The Epoch Times, 19/10/2018.
[vi] Source: USGS, as of 13/6/2019. Year-over-year percentage change in aluminium imports for consumption, Q1 2019.
[vii] Source: European Automobile Manufacturers Association, as of 14/6/2019. EU passenger car exports to the US by value, 2018.
[viii] Source: “VDA President Bernhard Mattes on Import Tariffs Imposed by the US Administration,” Verband der Automobilindustrie, 24/5/2018.
[ix] “How Import Chinese Steel Tariff-Free: Change the Label to Turbine Parts,” Mish Talk Global Economic Trend Analysis, 8/10/2018.
This content was produced by an advertiser. The Globe and Mail was not involved in its creation.