Trade concerns could cause market volatility

In March, the President imposed a tariff of 25 percent on steel imports and 10 percent on aluminum imports. A tariff is a tax on a particular class of imported goods or services that is designed to help protect domestic industries from foreign competition. For several decades, much of the world has supported the expansion of free trade and globalization. Market sentiment toward the tough trade talk has moderated some of late, with the President stating he would reconsider the Trans-Pacific Partnership trade pact and completion of the North American Free Trade Agreement.

So far these trade measures should only have a moderate impact on overall economic activity and are too small to have much adverse macro impact. But this could change if global supply chains come under threat. Chinese steel producers buy iron ore from Australia, Brazil, India, Iran, South Africa, and Ukraine and bauxite for aluminum from Australia, Brazil and Guinea. It is no easier for China. Chinese tariffs on American cars would seem to target Detroit but the Big 3 U.S. automakers make most of their cars for the Chinese market through joint ventures in China. A Chinese tariff on cars would hit BMW and Daimler cars exported from plants in Alabama and South Carolina. Mere threats could undermine the global trading system, but it could take years for the impact to be reflected in economic data.

The metals tariffs were scheduled to take effect on March 23, 2018. Argentina, Australia, Brazil, Canada, Mexico, South Korea, and the EU nations were granted temporary exclusions until May 1, pending continuing trade talks. Still, the possibility of permanent exclusions could be part of a negotiating tactic used to extract specific concessions from some trading partners. For example, Canada is the largest source of U.S. steel imports, and Mexico is the fourth largest. Together they account for 25 percent of foreign steel and 43 percent of aluminum. When negotiations end, Canada, Mexico, and South Korea may face quotas to cap export levels and prevent them from using exemptions to import and re-export cheap steel to the U.S. The tariffs were specifically set to levels that should slow imports enough to allow U.S. industries to boost production. Granting exemptions, even to close allies, could defeat that goal or result in a heavier tariff burden on other nations. It’s likely that the tariffs will largely apply to the remaining three major steel exporters: China, Russia, and Japan.

The metals tariffs should offer relief to the struggling steel and aluminum industries and benefit some workers in the regions where they operate. But if the price of imported metals increases by 10-25 percent, the price of domestic metal is also likely to rise, and so could the cost of U.S. goods that must compete in international markets. Aluminum prices had initially risen, mostly due to sanctions placed on Russia, representing a large portion of global supply, before declining by about 7 percent over the next month. Steel prices also increased but have since retreated. By one estimate, the metals tariffs could add $300 to the price of a new car sold in a U.S. showroom. Significant inflation could hurt consumers, reduce sales, impact corporate profits, and result in job losses, especially for industries that depend heavily on steel and aluminum.

This is not the first time the Trump administration has used tariffs. In January 2018, tariffs were placed on imported washing machines and solar panels in response to complaints by U.S. manufacturers.

When the President first took office, he pulled the U.S. out of the Trans-Pacific Partnership, a trade agreement that was initiated in part to counter China’s growing influence in Asia. With the U.S. out of the pact, a new agreement was signed in March 2018 by 11 key U.S. trading partners, creating a united front that could put the U.S. at a disadvantage in the future.

The President has also threatened to withdraw from NAFTA. Failing to reach a new agreement with Canada and Mexico could be quite costly. One economic analysis concluded that terminating NAFTA would result in the net loss of 1.8 million U.S. jobs within the first year and reduce the annual purchasing power of U.S. households by about $654 each.

The administration is also planning punitive measure that could make it more difficult for Chinese firms to acquire U.S. technology and invest in U.S. businesses. Experts warn that China is likely to strike back, possibly by restricting imports of automobiles, aircraft, computer chips, or soybeans and other agricultural products, if ongoing negotiations do not produce an acceptable outcome. Another serious concern is that protectionist policies may strain relationships with our allies, some of which have threatened to respond proportionally if tariffs are applied to them. The economic impact in the U.S., and globally, will likely depend on whether a hard U.S. stance or the breakdown of trade negotiations escalates into a larger trade war. For now, you might see some market volatility in response to trade concerns as potential risks are increasingly being assessed and priced into markets by investors.

David Helscher is a senior vice president and trust officer with Clinton National Bank.