‘Tariff Man’ Versus The World

US trade policy is a schizophrenic mess – a toxic cocktail of misguided protectionism and tacky jingoism wrapped in faux national security concerns.

Over the past five days, Donald Trump pinballed from grandiose claims about how many billions China is “paying” in tariffs to desperate farmer flattery to pronouncements of economic warfare and back again, only to close out the work week by delaying a decision on auto tariffs and lifting duties on steel and aluminum from Canada and Mexico.

The uncertainty is a continual source of angst for corporate America, US agriculture and foreign governments. It’s hard to imagine how maddening this must be for anyone whose livelihood depends on export-market access. If your sanity hinges on dependable trade policy, you’re halfway to the funny farm by now.

Quantifying the impact of Trump’s protectionism is an exercise in futility because it’s impossible to know what this situation will look like six months from now. Goldman has variously attempted to posit worst-case scenarios in an effort to at least help folks prepare should things go off the rails entirely. According to the bank, the peak hit to GDP assuming all-out trade war conditions and a 10% equity selloff would be roughly 0.8%. The peak bump to US inflation assuming 25% tariffs on all Chinese imports and also assuming auto tariffs would be about 0.9pp.

When it comes to corporate America, the bank notes that tariffs are a bigger risk to the bottom line than the top line. “S&P 500 companies generate 70% of their sales within the US and just 2% explicitly from Greater China”, Goldman’s David Kostin wrote Friday evening, adding that by “contrast, based on BEA data for all US industry, we estimate that S&P 500 companies import roughly 30% of COGS, consistent with the share of S&P 500 sales generated outside the US.”

Considering that imports from China made up around 18% of total US imports last year, a 25% tariff on all Chinese exports to the US (Trump’s “all-in” scenario) could “lower current consensus S&P 500 EPS estimates by as much as 6%”, Kostin goes on to caution.

(Goldman)

Fortunately, the actual hit to US corporate bottom lines likely won’t approximate the estimate in the severe case. Goldman’s sensitivity analysis assumes “no pass-through of costs or substitution to other suppliers, and no boost to domestic revenues or change in economic activity.” In that case, companies would need to hike prices by 1% in order to offset the impact.

That said, there would obviously be all manner of idiosyncratic, company-specific damage to firms who rely on China for an outsized percentage of sales. These are “highly concentrated in Semiconductors given their supply chains [and Semis] have lagged the S&P 500 by 600 bp during the past two weeks”, Goldman adds.

Kostin goes on to underscore the point, writing that “while most industry groups have performed in line with their beta during the past two weeks, Semis and Tech Hardware have meaningfully lagged their beta-implied returns given their outsized exposure to China (48% of sales for Semis, 13% for Tech Hardware).”

More broadly, a prolonged trade would jeopardize long-term margin gains from globalization.

Trump’s trade war is, in many ways, objectively a bad idea. The president’s base has a hard time wrapping their heads around that because, frankly, Trump’s brazen sales pitch to voters puts uneducated members of the electorate in a psychologically impossible position. In order to come to terms with the reality of the situation, they need to at least consider the possibility that Trump has been lying to them. That’s extremely uncomfortable and because Trump has couched everything in unequivocal terms, it’s not possible for the base to give themselves an “out” along the lines of “Well, what he actually meant was XYZ, and it’s my fault for not grasping the nuance”. Trump’s pitch for the trade war admits of no nuance, save a couple of passing references to short term “pain” last summer and what’s implicit in the characterization of farmers as “patriots”.

In reality, the trade war is problematic. “Much of the margin expansion for the S&P 500 non-Financials over the last 1-2 decades has come from globalization, with nearly a quarter coming from a lower effective tax rate and about 50% coming from lower COGS (part of which is due to labor arbitrage, etc.)”, BofA wrote earlier this month.

(BofA)

While most of this is glaringly obvious to economists, analysts, farmers, corporate management teams and anyone willing to spend 30 minutes reading an article not published by Fox News, Breitbart or one of the myriad US-based fringe portals operated by profiteers who purposefully sow domestic discord at the possible behest of foreign interests, it’s not something Trump’s base ever seriously considers. That’s due in part to the cognitive dissonance mentioned above.

But it’s also partially attributable to the fact that, like the tax cuts, the trade war’s deleterious effect on lower- and middle-income families is difficult to discern to folks for whom merely getting through a given day is arduous enough without having to try and quantify how badly they’re being screwed by a billionaire narcissist who, by 1991, singlehandedly accounted for 1% of all losses that the I.R.S. reported had been declared by individual taxpayers that year.