GLOBAL TRADE WAR

THE UNCERTAINTY OF THE GLOBAL TRADE WAR – HOW CAN YOU PROTECT YOUR BUSINESS INTERESTS WITH THE RIGHT STRATEGY?

The U.S. - China Trade War, which started in February 2018, has become an issue everyone is talking about. Although the impact of the trade war was quite low in 2018 it has become substantial in the first half of 2019 and the speculations on further consequences for global trade and economies cannot be more different. However, organizations need to understand that it has still the potential to trigger a much wider chain reaction that has been the case so far and could even affect companies which feel still safe and secure in this power struggle.

It is important to recognize that the U.S. - China Trade War was not initiated just to end China’s unfair trade practices, such as the theft of intellectual property, dumping prices or restricted market access for U.S. companies in China. It is also designed to prevent the rise of China as the dominating economic power and to bring jobs back to the U.S. by forcing companies to reconsider their procurement strategy and making the products they manufacture or procure outside of the U.S. more expensive than other local products.

 

One should therefore not try to generalize the impact on individual economies or industry sectors alone, but rather also analyze it on an individual basis for every organization. For example, the impact for Apple where the manufacturing cost of its iPhone is estimated to account merely to 30% of its selling price would be different compared to a common import business where the procurement costs are deemed to be 80-90% of the product’s selling price in order to remain competitive on the U.S. market.

An increase of tariffs of merely 5% on its products could bring an end to this business, even in the short term, whereas a company like Apple could easily shoulder an increase of tariffs of even 50% also in the long term if it has to since the manufacturing costs of its iPhone would merely rise to 45% of its selling price. Moreover, Apple’s iPhone sales revenue in the U.S. just accounts to around 35% of its respective global sales turnover. From a strategic point of view, it could be therefore unwise for Apple to give in the U.S. government request to move its production to the U.S.

However, there are also other issues which have resulted from the trade war so far. Chinese companies and consumers have already started to boycott certain U.S. brands, products and services, which awakens memories of similar situations with Japanese and South Korean goods over the past decade. This is particular important for U.S. companies who intend to produce and sell their products on the Chinese market, but also for those who rely on big-spending Chinese consumers in the U.S. market, such as universities, hotels and luxury brands in major tourist destinations of the United States.

 

Although many organizations have already or will soon start to move their production or material procurement from China to other Southeast Asian countries, it is unlikely that the U.S. government will accept this bypass strategy and sooner or later start to impose higher tariffs also on these countries, wherever it will consider this step to be appropriate.

 

For example, the U.S. announced in March 2019 that it intends to terminate the Generalized System of Preferences program (GSP) of India and Turkey, affecting USD 7.4 billion in imports to the United States that were given duty-free status.

 

The trade deficit between the U.S. and Thailand has been quite constant over the past five years, amounting to around USD 20 billion per year. It can therefore be considered as a minor issue and stable condition for the U.S. government and higher tariffs are unlikely to be put into place in the near future.

 

However, this is not the case for Vietnam, which is regarded to be the winner of the trade war and the the most preferred alternative production location for Western and Chinese companies. Since the beginning of the trade war Vietnam's exports to the U.S. have surged and the trade deficit has already more than doubled since 2013, from around USD 20 billion to almost USD 45 billion in March 2019.

 

Organizations, whether U.S. or other foreign companies, should therefore not try just to look for a quick and cost-effective solution and follow the herd, but to take all possible scenarios for the future into account when making any major investment decision that cannot be reversed afterwards easily.

 

In this connection, it also raises the question whether a small country like Vietnam is able to compensate the necessary volume of a production shifting from China, given the fact that the U.S. - China Trade War was not the first trigger and a production shifting from China by foreign and even Chinese companies has already begun over the past years due to steadily rising labor costs and procurement prices in China.

It can therefore be compared to a first come, first serve sell-off situation as it is obvious that Vietnam alone cannot replace China and meet this growing demand for manufacturing capacities and labor resources. This might generate a domino effect with fast increasing labor costs and higher procurement prices and it can be assumed that Vietnam will suffer the same fate as the big neighbor China, but at a faster pace.

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