Trade Wars - a tariff-ically bad idea

Recently I have had a few folks ask me about tariffs, since tariffs have been in the news a lot lately and they know that I have dealt with and complained about them in the past (as has almost anyone whose career has direct involvement with consumer goods in the US).  Since I’ve been asked a few times and know just enough to be dangerous I thought I’d do a blawg post on it, esp since it’s a good challenge to make something as bone dry as tariffs as entertaining as a tale of a fun adventure!  And, unlike a lot of things that happen at the federal level, this ridiculous trade war that the Trump administration is inexplicably waging will actually affect literally – not virtually – everyone. 

A “tariff” is a tax that companies pay to their own government to import (or export) goods into their home country.  Since I’ve been in the shoe biz and know that well, I’ll use that as an example. 

Say Allbirds (a pretty cool new shoe company that came out of nowhere over the last coupla years and is killing it, and was just featured in a fun podcast on How I Built This) has a new shoe.  As I mentioned in the earlier post about river footwear, there is a “Harmonized Tariff Code” and literally each product brought into the United States must have an associated tariff code assigned to it.  If Allbirds is a smart company – and they likely are, though I bet it was a bit of a learning curve – they likely use their industry experts that they hopefully hired to figure out what the code will be, because that will determine the percentage price of the cost of the product that you pay.  It’s significant because the tariff percentages vary from zero to fifty percent and beyond, and if you guess wrong and the humorless US Customs agent who inspects your shipment declares a code for your product that is different than what you expected, all your profit margin could evaporate before it even hits your warehouse.  In Allbirds’ case, they are using wool as their upper material, and since that’s unprecedented for an “athletic” shoe (important in the Codes) that undoubtedly made a difference. 

So hopefully the shipment of Allbirds has come into the Long Beach port from their factory partner in China, the humorless customs officer inspects them and declares a code, and Allbirds gets a bill from the US gubment for thousands of dollars. 

For easy math, lets say that the shoes are $100 (they are $95), typical dealer markups is 45-50% (easy math=50%) so the dealer buys them for $50, and Allbirds wants to get an industry-standard margin so they are buying” the shoes made from their specs from the Chinese factory for $25.    A 10% duty (the terms tariff and duty are more or less interchangeable) means that Allbirds is paying $2.50 for each pair, and for a 10,000 pair order (that’s pretty small) they’ll owe Uncle Sam $25,000.  A fair chunko’ change for a company that is still just getting going. 

So Allbirds sets its suggested retail prices based on what the factory will charge to make the shoe, the cost of the box, the shipping from China to the port to their warehouse to the dealer (or consumer), and….the duty they have to pay on the shoes.  When any of those costs go up, then something has to give:  Allbirds’ margin, the price that they sell to their dealers, and/or the price to the consumers.  And historically the duty codes have been generally carved in stone (the US customs has been too lazy to change them since the beginning of time) so that historically is something that even a new shoe company can count on. 

But in order to save the economy from….the 10 year expansion that it’s had, with low inflation and tons of job growth?  President Trump declares that “Trade Wars are good and easy to win”  and announces he’s going to jack the duty rates for all sorts of products coming from our two biggest trade partners (consumer goods from China and fruits and plenty of other products from Mexico) In doing so he proves former Fed chair Janet Yellen right in her assertion that Trump does not have a basic grasp of macroeconomics.   In Allbirds’ case, what that means is that their $25 shoe that they paid $2.50 for to the US government  now has that much more cost associated with it.  So does Allbirds feel like they should be shouldering this philosophical tete ‘a tete between countries “at war?”  No, they understandably say “We gotta raise our prices to account for the increase in our costs.”  And in the above easy math, any tariff increase is multiplied fourfold by the time it reaches the consumer.  And here’s the kicker:  China doesn’t care!  The factory still just makes the shoes and sells them to Allbirds for $25. 

In Trumpworld, the idea is that the athletic shoe industry – and clothes, and sleeping bags, and tents, and Ikea shelving unit industries – will leap up and say “Yes Sir Mr. President!  We will forsake the 40 years of relationship building with our factory partners to help them build the infrastructure needed to produce shoes that our fellow ‘Mericans can buy for $100 and start anew!  We’ll build shoe factories in the US from scratch using super-expensive machines and molds that are only available in China and pay people $30/hour to make the shoes, and then magically still sell the shoes for $100!”  Suffice to say, that ain’t happenin’. 

There are some domestic shoe (boot) manufacturers:  the Berry Amendment passed by Congress in 1941 mandated that the US military has to use US-manufactured products, and there are companies that are nearly-exclusive DoD contractors for boots.  Danner is one such company, and in addition to making $150 light hikers made in China they also “construct” $200 boots using Asian-made fabrics that they import.  And they also have their premium line of hiking boots that are 100% domestically produced…for >$380.  So yes, it can be done (though none of those boots use EVA, which is the light, typically-white midsole material that gives shoes their cushioning, because there are no EVA manufacturers/molders in the US) but if you are supportive of Trump’s Trade War you should also be supportive of $300 shoes. 

The Mexico tariff thing is even more baffling to me, tho to be fair that seems to be de-escalating.  I get it that the immigration thing is arguably the most complex and challenging problem we face, but Mexico just happens to be the country between the likes of Guatemala and El Salvador where the folks are fleeing from, and I am amazed (or maybe I shouldn’t be) that there has been zero talk along the lines of “how can we help/influence Guatemala and El Salvador to make them less-awful so people won’t feel compelled to flee to the US?” 

A lot of the stuff that the Trump administration is doing/has done really doesn’t affect most of us:  the escalation in tension with Iran, the Russia investigation, even the immigration stuff.  But this trade war? It literally has the potential to crush the zillions of American companies who rely on international manufacturing partners (including our beloved car companies, who rely hugely on Chinese-made machines to help make their cars) and – most importantly – the domestic companies that we rely on for reasonably-priced goods will be forced to jack their prices to their dealers and to consumers, and we will all suffer from Trump’s misguided “war.” 

Ps – Paul Krugman is far smarter than most everybody (Nobel Prizes typically denote this) and he has his own summary of How goes the wars…. https://www.nytimes.com/2019/03/03/opinion/how-goes-the-trade-war.html