Tariffs Impact More Than Direct Costs, They Impact Sentiment

The Institute of Supply Management (ISM) September purchasing managers’ index came out Tuesday, and it reported the lowest number since June 2009. This marked the second month of contraction, and the rate of decline was steeper than August.  The accelerating decline is worrisome, and a lot of people are blaming them on the impacts of tariffs and the trade war with China. But these factors and others are driving an increasingly negative sentiment among business leaders who make future investment decisions.

Some important manufacturing sectors have been struggling for a multitude of reasons. In China, the world’s largest auto market, passenger car sales were down 13.8% year-over-year in the January through August period, and new energy vehicle (electric in various forms) sales were down sharply thanks to the removal of government purchase incentives. Stalling car production in Germany, and the extended strike at GM have added to the woes across automotive supply chains. This is happening at a time when automakers are struggling to invest huge sums to keep up with rapid technological change – towards electrification and autonomy. Poor weather during spring planting hurt the agricultural sector in the U.S., and the agricultural equipment sector has suffered with it. 

But it is tariffs, both those imposed by the U.S. as well as those imposed by other countries in retaliation, that have contributed mightily to the gloom. Many U.S. manufacturers rely on imported components or materials from China, and as tariffs spread to cover nearly everything coming from that country, production costs are rising. Even though purchasing managers’ index data for Chinese factories released just before the 70^th anniversary of the PRC on October 1 showed marginal improvement, the pace of companies moving at least part of their production out of China is contributing to an overall pessimism.  I walked through a Chinese factory in August which had a section vacated by production lines that were moved to Viet Nam. The jobs left as well.  Meanwhile retaliatory tariffs imposed by China on U.S. grown soybeans have driven exports shipments from the Midwest farm belt to a 16-year low. 

The looming imposition of new tariffs on $7.5 billion of imports from the European Union as a consequence of the 15-year old Boeing-Airbus case will spread the gloom across the critical aerospace sector. While the size of those tariffs might be relatively small, the impact cuts across the jetliner supply chain.  Airbus has important parts of its supply chain in the U.S. from firms like UTC, Honeywell, Parker-Hannifin, Moog, and Spirit Aerosystems. Apparently parts and aircraft sections will be excluded, so output from the Airbus Mobile, Alabama factory will be safe, as will Boeing’s import of major components from Europe. The inevitable retaliatory tariffs on U.S. exports to Europe will just add fuel to the negative spiral. The effective date of October 18 promises to hurt domestic airlines like Delta, American, United, Spirit, and JetBlue – all major Airbus customers – who really don’t have any near-in alternatives.

Which brings us to the crucial role of sentiment, the attitude of consumers and business leaders as they plan for the years ahead. How do people view their prospects for the future? The tense U.S.-China trade environment is causing Chinese consumers to be more cautious on spending, particularly for large discretionary purchases like cars. And we know business leaders don’t like uncertainty, so the changing “rules” on tariffs, trade, and investment probably aren’t making a big contribution to the overall level of optimism. Instead people are probably talking about how much it will cost to reshape their supply chains, how they will pass along the costs of tariffs or more expensive production sites, or how they will make their commitments to stakeholders in the face of the seemingly ever-increasing challenges thrown across their paths.

Most managers today grew up in a relatively benign trading environment, a world that saw a steady removal of tariffs and trade barriers. The world of the last three decades has been one characterized by the opening up of new markets, with a dramatic increase in trade and economic growth globally. This now seems to be going into reverse, led by politicians who do not remember a world of high tariffs and trade barriers. Few were born or old enough to remember the consequences of the Smoot-Hawley Tariff Act of 1930, or how retaliatory tariffs from Europe exacerbated the Great Depression. But I sense that while a lot of people may not have studied enough history to understand the consequneces (and as an educator, I feel we don’t teach enough history), there is an increasingly negative sentiment in the business community about where this all leads. And that sentiment will shape what happens next. 

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The Institute of Supply Management (ISM) September purchasing managers’ index came out Tuesday, and it reported the lowest number since June 2009. This marked the second month of contraction, and the rate of decline was steeper than August.  The accelerating decline is worrisome, and a lot of people are blaming them on the impacts of tariffs and the trade war with China. But these factors and others are driving an increasingly negative sentiment among business leaders who make future investment decisions.

Some important manufacturing sectors have been struggling for a multitude of reasons. In China, the world’s largest auto market, passenger car sales were down 13.8% year-over-year in the January through August period, and new energy vehicle (electric in various forms) sales were down sharply thanks to the removal of government purchase incentives. Stalling car production in Germany, and the extended strike at GM have added to the woes across automotive supply chains. This is happening at a time when automakers are struggling to invest huge sums to keep up with rapid technological change – towards electrification and autonomy. Poor weather during spring planting hurt the agricultural sector in the U.S., and the agricultural equipment sector has suffered with it. 

But it is tariffs, both those imposed by the U.S. as well as those imposed by other countries in retaliation, that have contributed mightily to the gloom. Many U.S. manufacturers rely on imported components or materials from China, and as tariffs spread to cover nearly everything coming from that country, production costs are rising. Even though purchasing managers’ index data for Chinese factories released just before the 70^th anniversary of the PRC on October 1 showed marginal improvement, the pace of companies moving at least part of their production out of China is contributing to an overall pessimism.  I walked through a Chinese factory in August which had a section vacated by production lines that were moved to Viet Nam. The jobs left as well.  Meanwhile retaliatory tariffs imposed by China on U.S. grown soybeans have driven exports shipments from the Midwest farm belt to a 16-year low. 

The looming imposition of new tariffs on $7.5 billion of imports from the European Union as a consequence of the 15-year old Boeing-Airbus case will spread the gloom across the critical aerospace sector. While the size of those tariffs might be relatively small, the impact cuts across the jetliner supply chain.  Airbus has important parts of its supply chain in the U.S. from firms like UTC, Honeywell, Parker-Hannifin, Moog, and Spirit Aerosystems. Apparently parts and aircraft sections will be excluded, so output from the Airbus Mobile, Alabama factory will be safe, as will Boeing’s import of major components from Europe. The inevitable retaliatory tariffs on U.S. exports to Europe will just add fuel to the negative spiral. The effective date of October 18 promises to hurt domestic airlines like Delta, American, United, Spirit, and JetBlue – all major Airbus customers – who really don’t have any near-in alternatives.

Which brings us to the crucial role of sentiment, the attitude of consumers and business leaders as they plan for the years ahead. How do people view their prospects for the future? The tense U.S.-China trade environment is causing Chinese consumers to be more cautious on spending, particularly for large discretionary purchases like cars. And we know business leaders don’t like uncertainty, so the changing “rules” on tariffs, trade, and investment probably aren’t making a big contribution to the overall level of optimism. Instead people are probably talking about how much it will cost to reshape their supply chains, how they will pass along the costs of tariffs or more expensive production sites, or how they will make their commitments to stakeholders in the face of the seemingly ever-increasing challenges thrown across their paths.

Most managers today grew up in a relatively benign trading environment, a world that saw a steady removal of tariffs and trade barriers. The world of the last three decades has been one characterized by the opening up of new markets, with a dramatic increase in trade and economic growth globally. This now seems to be going into reverse, led by politicians who do not remember a world of high tariffs and trade barriers. Few were born or old enough to remember the consequences of the Smoot-Hawley Tariff Act of 1930, or how retaliatory tariffs from Europe exacerbated the Great Depression. But I sense that while a lot of people may not have studied enough history to understand the consequneces (and as an educator, I feel we don’t teach enough history), there is an increasingly negative sentiment in the business community about where this all leads. And that sentiment will shape what happens next.