Trump plays ‘who blinks first’ with the world. And with China, ‘chicken’.

Arran follows up on his earlier article about the impact of tariffs and strategies exporters might use to mitigate the impacts. The article provides ideas to consider, options to adopt, and things not to do. Click here to see the previous article.

US tariffs and New Zealand’s position

So now we’ve had the United States (US) Liberation Day, and the range of tariffs by country has been displayed for all to see. New Zealand (NZ) escaped some of the carnage with the lowest tariff rate available, 10%, being applied. And as this article goes to print, we have the 90-day pause for all the world, bar China.

The US-China trade standoff

China and the US are playing ‘chicken.’  For those who don’t know this term, it’s when two cars drive at excessive speed towards each other to see who veers away first. The ‘loser’ is called chicken. It’s a stupid game to play, normally by adolescent testosterone-full males trying to impress the opposite sex. There is normally chaos on both sides, sometimes with mortal injury.

The timing of the US tariff war with China is perhaps fortunate. The Chinese economy is not as robust as it was, so it is possible China will veer away first, but I suspect not until quite a bit of damage to both has occurred.

The broader impact of 10% tariffs

Turning back to the NZ impact of the 10% tariff, which is likely to be much, much larger than this would, at first glance, indicate.

NZ could probably, with a little chagrin, live with 10%. And, in my opinion, NZ exporters will have to so long as Trump remains in power.  Even if you can negotiate with Trump, he wants the jobs back in the US, and hence, he will have to leave some tariffs in place across the board. That level appears to be 10%. Certainly, the US plan appears to be: the world has to remove all tariffs for US products and be in a net trade neutral position, i.e., the US net trade position with countries should remove any trade deficit, and we will only impose 10% on goods entering the US. 

Implications for Asian economies

That is impossible for a number of countries. Vietnam, Cambodia, and Thailand, to name a few. They have approximately 20% of their exports going to the US. The trade surplus is significant for them, and they have built garment factories, car assembly, and similar industries precisely for exports to the US market (in some cases, moving manufacturing outside of China, which has been dealing with US tariffs for some years). For example, with an economy struggling to recover post-Covid, Thailand does not have the reserves nor economic activity to purchase sufficient goods from the US to get anywhere close to a trade-neutral position. That is even before the impact of the very high tariffs, where exporters are now looking at laying off scores of employees and shutting production.

For countries in these positions, the short-to-medium future is grim. Tariffs will remain at unsustainable levels for exports to the US and obliterate any household income surplus that existed before. Factories will close, and workers will be laid off. Governments do not have the resources to subsidise the impact; recession and then depression are more likely than not the outcome.

These markets have steadily increased the demand for NZ products. As disposable household income rose, they started to enjoy a higher standard of living. They are not huge markets but nonetheless important ones. NZ exporters have poured significant resources into ASEAN++ (Association of South East Asian Nationals plus NZ and Australia) as access to those markets becomes free of tariffs for NZ to enter. However, the loss of purchasing power by households in these countries will reduce the demand for NZ products. 

If you are exporting to ASEAN countries, you now need clear plans around credit risk and a review of terms of trade. You need to be prepared for significantly lower export volume and prices. And you will also need to look at alternative markets to take some of the surplus.

Indeed, in the last month, a number of exporters have contacted me to work through some strategies around their immediate exposure and to discuss medium-term changes to their corporate structures and growth plans.

What NOT TO DO

I have had put to me a suggestion which is so aggressive it does not deserve any serious consideration. An exporter with plants in Cambodia and Vietnam has two major importers/distributors for the North American market.

The proposal goes something like this: They will purchase the goods at 50% less than the price pre-tariffs, thus reducing the value of the items subject to tariffs. In return, the North American distributor will provide them with a ‘grant’ called, in this case, Research and Development. This reimburses them for the loss they will make by selling the goods at less than cost, and each party is better off.

Whilst I appreciate the creativity, this reeks of avoidance. With a little investigation, it would be discovered, and the penalties fully applied.

Sales Tax vs GST

In my experience, few US firms understand GST (Goods and Services Tax) or VAT (Value Added Tax). Having acted for many US companies with operations in NZ and throughout Asia, I have seen them struggle with the entire concept of GST. They compare it to the Sales Taxes they have in the US. Sales taxes are very different from GST, with the input tax being claimed as a credit until the final consumer ultimately bears the GST.

Clearly, Washington does not understand GST either. In their view, GST is a tariff in disguise. If Washington demands that countries remove GST on US goods, then that will not happen. I cannot see either Canberra or Wellington, for example, agreeing to have a special GST carved out for imported goods from the US. This is another reason the 10% tariff will likely remain in place for NZ.

Services – what is the real trade surplus or deficit

Trade surpluses or deficits are calculated on the movement of physical goods. Services are not measured, yet services-based enterprises have grown rapidly over the last two decades. No one knows what the true trade surplus or deficit is – it will likely be very different from the physical goods balance.

Tariffs are not imposed on services provided outside the US for use by US enterprises. Often, unwittingly, services are bundled with physical goods, such as a warranty or a software upgrade planned for 2027. Unbundling these services from the price of the goods ensures that only the actual value of the goods is subject to the tariff.

On a similar frame, is it possible for some of what you are doing to be pivoted into a service offering?  This is very fact-specific. However, tariffs might mean you need to move production or assembly to the US. Leaving the NZ entity overseeing that operation and charging a service fee, warranty fee, or something similar to the US end customer.

In summary, then:

• Plan for the 10% tariff to be in place for many years. 
• Review your terms of trade, particularly with countries subject to very large tariffs.
• Talk to your Bank about using Letters of credit more extensively to remove the credit risk.
• Unbundle services from goods and charge separately for the services.
• Pivot, if necessary or possible, to a service offering.
• Do not try and economically substitute artificial grants or similar to avoid tariffs.

Need help navigating the new tariff landscape? Get in touch with Arran to discuss how these changes might affect your business and what steps you can take.