Tariff War – Bracing for the Fallout

A middle-income couple enters a department store, looking to find a reasonable price for some common accessories. Perhaps a new scarf, a hat or a handbag. They riffle through the merchandise on display, but their interest begins to wane as they discover the steep increase in prices since last season.

“My scarf can make it through the season just fine,” the husband remarks as he and his wife casually leave the store.

Pinny Rand, owner of Magid Accessories, has been importing accessories from China since 1983. “The current situation with the tariffs imposed by the Trump administration is not limited to the cost of the tariffs, which is added to the cost of the item being sold,” Mr. Rand explains. “It has caused a serious disruption in the entire chain of importing, distribution and retailing.”

Tier one and tier two tariffs affected construction materials and did not directly affect the consumer. However, the third tier of tariffs, implemented on September 24, 2018, raised tariffs on $200 billion dollars of consumer goods by 10 percent. Later this month, a second round of tariffs on tier three products is scheduled to be raised from 10 percent to 25 percent. The president is also threatening fourth-tier tariffs on another $300 billion of Chinese goods, effectively covering almost all Chinese exports to the United States, including consumer products, with a tariff of 25 percent. President Trump is scheduled to meet with Chinese President Xi Jinping on June 28 and 29 in Japan, and on Thursday, June 7, he announced that he will decide then if the third-tier of 25 percent will go into effect.

“If those tariffs go into effect, many goods imported from China will be priced out of the market. The top 1 percent of earners will not be affected, but the lower class and even middle class will be faced with decisions about purchasing discretionary items,” says Mr. Rand. “Most importers in the industry feel that if the cost of these items rises dramatically, which is apt to happen, then consumers faced with the choice of purchasing new accessories at inflated prices will refrain from buying items which are not needed. Stores like Walmart, who stock many of these articles, are expected to take a big hit.”

As an example of how this mentality plays out, Mr. Rand states that the average American woman owns about 30 pairs of shoes. Certainly, such an abundance of shoes is not required; aside from a comfortable pair for everyday use, a pair for walking, sneakers for sports, and one or two pairs of dressy shoes, the remainder are extras which she purchases during the year because the styles changed or for an updated look.

“Imagine if the cost of a pair of shoes, 80 percent of which are manufactured in China, suddenly jumped from $200 to $265. This average buyer will think long and hard before buying the extras.”

When asked why the cost would jump $65, which is 32.5 percent of $200, Mr. Rand shares with me the method that importers and retailers use to price their goods. “In order to cover my costs and earn a fair profit, I mark up my items by 30 to 40 percent. If the item costs more, even if it is due to tariffs, I must mark it up by 30 percent of the total cost, since my outlays have increased. So it’s not just the 25 percent tariff which is added; there is another 30 percent profit margin added on top of that. So, if the tariffs are $50, the markup is $50 plus another $15, or $65 in total. Now, the cost of that extra pair of shoes went up about 30 percent of the original price. That alone will give consumers cause for pause before spending their limited resources on that extra item.

“Chances are they will skimp on other purchases in order to buy food, and the markets will take a hit. People on fixed incomes and the lower class of the economy may keep their old items and not make purchases for the new season as they are accustomed
to do.”

The history of the trade imbalance between the United States and China spans decades, but recently President Trump decided on a new strategy to undo some of the practices that he feels place the United States at a distinct disadvantage. For example, while other countries allow foreign companies to establish their own factories on their soil, if a foreign entity wishes to manufacture in China, they must use a Chinese company. When they engage the Chinese to manufacture their products, the intellectual property, that is, the research and development which went into creating their product, is compromised.

Mr. Mark Porgess, proprietor of Global Link Logistics, a firm which handles customs for importers, shared with Hamodia a typical case that occurred several years ago. A Canadian firm developed a new type of dressing for wounds which was at the same time extremely absorbent but did not stick to the skin of the injured person. This breakthrough solved a longstanding problem for medical practitioners, and several medical suppliers wanted to purchase this product.

“The Canadian firm, in an attempt to lower their labor costs, went to China to manufacture the product. The next year, when they went to a trade show in Germany, they saw that the Chinese company had sidetracked them and were offering their own product using that same technology.

“If a high-quality publisher wants to print in China, he will have to import good quality paper, which is something China does not have at this time,” Mr. Porgess adds. “China charges a 60 percent duty on the import of this paper. Then, when the publisher imports the books to the U.S., there is no tariff, since we do not charge any duty on imported books.

“The imbalance is $500 billion. President Trump charges that we are subsidizing China’s economy, their government and their infrastructure. China has built amazing hotels and trains, and because of the practices of the Chinese government, it is being done in a way that leaves us at a disadvantage, which President Trump is trying to reverse.

“In China, there is no enforcement mechanism to prevent the theft of intellectual property,” says Mr. Porgess. “The World Trade Organization has failed to prevent this, and the Chinese lack the ethics to avoid stealing the ideas and secrets of foreign companies. This affects all types of goods and all sizes of companies.

“In addition,” he says, “the companies are all controlled by the Communist government, and there is no way to ensure that they are not using [these secrets] to their national security advantage. Apple, too, is suffering from Chinese practices. Huawei, the Chinese electronics company, is offering their phones in Europe for a fraction of the cost of Western companies. There is no way to ensure that the chips they are inserting into their phones will not compromise our national security.”

Yossi Weber adds that, in his opinion, there will always be some sort of trade imbalance between the United States and its trading partners. “The bottom line is that the demand for cheaper goods will always drive the manufacturers to seek cheaper labor to fashion their products. But we cannot allow China to continue to steal our intellectual property with impunity. This is the main concession which President Trump is seeking from China. At the beginning, China indicated that they would agree to changes, but then they backtracked. President Trump is drawing a line in the sand and telling China he will no longer allow them to act this way.”

“In the past administrations, the goal of trade agreements was to equalize the prosperity of countries around the world,” Mr. Porgess explains. “The idea was to raise the standard of living in all countries by opening trade to the poorer countries. In some way, it was successful, as the standard of living in China is substantially higher than it was three decades ago. The wages have risen, and the cost of producing the goods rose, too. But at this point, President Trump says that we will no longer go along with this, since China is not playing fair. Their laws, the way they manipulate their currency, leaves the United States at a disadvantage, and President Trump is adamant that it must stop.”

The effect of the hike in tariffs and the resulting decline in purchasing power will cause a great deal of uncertainty and turbulence in the market, with importers, distributors and retailers becoming more conservative in their orders. “If I have doubts if the product will sell, or how much it might sell, I won’t be stocking up on it, so my orders will be cut drastically,” says Mr. Rand. “Since orders are placed four to six months in advance, and there is no way to tell how the tariff war will play out, I cannot risk being left with unsold inventory, so I’ll order less. This, in turn, can cause a downturn in our economy.”

Importers’ uncertainty carries the risk that certain items may very well be in short supply for the coming season. With importers reducing their orders because they fear being left with unpurchased goods, there is a distinct possibility that buyers looking for particular merchandise may not be able to find it.

Another problem that presents itself is the inability to pre-ticket products. In the past, many products imported from China were pre-ticketed. In other words, the price was printed on the product before it was packaged. If importers and retailers are unsure how they will price their products, they won’t be able to pre-ticket them. Importers will have to price them when they arrive in the U.S. by opening each box and adding the prices. Besides the chaos this will cause, it will also add another expense, approximately another 50 cents per item.

When asked if there is any way to cushion the pain of these tariffs, Mr. Rand shares his recent experience dealing with factories in China. “The Chinese government is already working with the factories to ensure that they keep their customers and to keep the factories competitive. Some factories have been offered substantial rebates on the tariffs, and they are absorbing about half of the rise in costs. This still leaves an increase of around 13 percent. In addition, banks are extending some $300 billion in loans, which will allow some manufacturers to lower their prices for the near future.”

Yet some companies have already given notice to retailers to expect an increase in prices. Mr. Uri Nagel of Monsey Housewares in Rockland County, a major supplier of housewares to the Jewish community in the vicinity, told Hamodia that Hamilton Beach™, a national manufacturer of kitchenware, has already informed them to expect prices to increase by upwards of 25 percent. “I’ve been told by some salesmen,” said Mr. Nagel, “that they have heard that some companies are making plans to move their operations elsewhere, but so far nothing concrete has materialized.”

Although relocating is an option for some industries, a majority of importers cannot simply pick themselves up and move to another country. “Countries like Cambodia and Vietnam are possibilities for assembly,” Mr. Rand said, “but the infrastructure for manufacturing goods that need cutting, sewing and similar work is just not available in these other countries. They do not possess the machinery and wherewithal to fabricate these articles. In addition, they cannot supply the raw materials needed, and they do not have the chemicals and other components required to turn them out.”

Finally, there is a learning curve for the workers of foreign countries, too. Lacking the skills to produce the quality of the experienced Chinese factories, importers are hesitant to engage factories in other countries, as they worry the products may be substandard. With 80% of shoes coming from factories in China, it is no simple task to develop the infrastructure in other countries with cheaper labor.

The delay between when products are ordered and shipped is approximately half a year, which does not leave the importers much time to decide if it is worthwhile to make the move. Until they gain the necessary skills to fashion these products, the issue of tariffs will remain with us.

Mark Porgess reports that he has already seen some movement of manufacturing to other countries. “While it is true that the infrastructure in Vietnam may not be able to handle the sophisticated manufacturing that China can, there are some products, such as textiles, which they have carved out a niche for themselves. India is developing a thriving trade in agricultural packaging.

“However, some products, such as furniture, are still dominated by the Chinese, and it does not seem like the other countries are poised to cut into their market share. Recently, I have been contacted about numerous containers being shipped from Vietnam, so there is definitely some movement in that direction.”

At the same time, the state and federal governments are working with manufacturers to bring back some production to the United States. By offering tax and other incentives, companies are beginning to increase their production in the U.S., and new plants are taking advantage of these offers of incentives and favorable conditions.

Where does that leaves us, the citizens and consumers of the United States? It depends who you listen to.

“What it’s doing is creating a fair playing field, which we’ve never had since the WTO, the World Trade Organization,” President Trump said on Tuesday, June 6.

“If the United States willfully decides to escalate tensions, we’ll fight to the end,” Gao Feng, a spokesman for the Chinese Ministry of Commerce told a news briefing.

Tariff Numbers & Duty Rates

A manufacturer or importer of goods from foreign countries often employs a customs broker to provide him with the cost of duties on the item he plans to import. Mr. Yossi Weber of All-Ways Forwarding, a concern which acts as a freight forwarder and customs broker, deals with the various elements of supply-chain management.

“First, when an importer wishes to bring in an item, we must determine its tariff number,” Mr. Weber explains. “Depending on the contents and use of the item, it may fall into one of several categories in the Book of Tariffs, some of which are black and white, and others of which fall into a gray area. Children’s clothing may be different than adult apparel, and even men’s and women’s clothing may differ. A garment that is pure cotton may be simple to designate, but a blend of polyester and wool may be more complicated.

“After we figure out the tariff number, we then calculate the duty rate. Some items are duty free, which means their rate is 0 percent, while others may be as much as 20 percent. Before the importer decides to import any item, he must determine the price structure, and understand what rate it falls under. Let’s say that until now, an item had a duty rate of 20 percent, and now it rises by 25 to 45 percent. It may be rendered too expensive for the market, and it is no longer worthwhile to import it.”

To date, there are four lists of products that are subject to tariffs imposed by President Trump. A tariff of 10 percent was imposed on the first group of products, with another tariff of 25 percent on the second group. The third set of tariffs, scheduled to be raised shortly, includes $200 billion of goods, which will be taxed at a rate of 25 percent. The last set of tariffs, on another $300 billion of Chinese products, would tax just about every item imported from China.