When President Trump unleashed new tariffs on Chinese imports, it’s likely that the last thing he wanted to do was to hurt America’s small businesses. But mounting evidence shows that’s exactly what’s happening.
A recent survey by BizBuySell, a marketplace for entrepreneurs who want to sell their companies, found that the US-China trade war is taking a heavy toll on the nation’s small firms. More than 1,700 small business owners were asked their views about the impact that the trade war was having on them.
Their replies indicate that small and medium-sized firms across the country have been severely affected by higher tariffs.
Here’s a quick summary of the business owners’ responses:
- 43% of the entrepreneurs said that the increase in tariffs would lead to higher business costs.
- Of the business owners who expected costs to rise, 64% said they would hike prices in response to the increase. Another 13% indicated that they would reduce their employee count.
- 20% of the business owners said that they would have to shut shop if the tariffs lasted for more than a year.
While these numbers are not very encouraging, it’s important to mention that the country’s small business owners don’t blame President Trump for their problems. A whopping 44% of the survey’s respondents said that he is the best 2020 Presidential candidate to support small businesses. Joe Biden, at 9%, is a distant second.
Understanding how tariffs work
What are tariffs, and why does the government impose them? These are essentially a tax on goods that are being brought into the country. They are meant to serve several purposes. One, they make imported items more expensive. When that happens, it is expected that consumers would prefer to buy locally manufactured goods instead of expensive imported products.
So, one purpose of an import tariff is to get people to buy goods made by domestic manufacturers. Another is to protect local companies that make these goods. If there is greater demand for domestic products, more jobs will be created, and the economy will benefit.
Import tariffs are expected to have a positive impact on the economy of the country that imposes these taxes. Their purpose is to promote local industry, keep expensive imported goods out of the country, and generate employment.
However, it may not quite work that way.
In an article titled Why tariffs are bad taxes, the Economist magazine, a respected British publication, points out the downsides of tariffs. These include diverting resources towards inefficient domestic companies. If the government is protecting an industry, the companies in that sector are likely to become less competitive.
Inefficient companies could produce shoddy products at high costs. Customers will lose if this happens.
The other problem with tariffs is that when they are imposed, the affected countries introduce retaliatory tariffs of their own. This can be a disadvantage for exporters. It can also lead to a trade war — with negative consequences for all the countries involved.
US-China Trade War – A Timeline
President Trump has always been a vocal critic of Chinese imports. When he was campaigning for his first term, he promised to impose tariffs on Chinese goods.
In March 2018, he tweeted, “When a country (USA) is losing many billions of dollars on trade with virtually every country it does business with, trade wars are good, and easy to win.”
Soon after that, the first US tariffs were introduced on Chinese goods. In July 2018, the US trade representative’s office issued “List 1,” which began collecting 25% tariff on 818 Chinese products. The value of these goods? $34 billion.
“List 2” from the US was issued soon after the first list. It proposed a similar 25% tariff on US$16 billion of Chinese goods.
In a tit for tat measure, China responded by declaring it would charge a 25% tariff on 545 different products exported by the US. The items that would be affected included aquatic products, automobiles, and agricultural products.
In response, the US issued its “List 3.” Over 6,000 Chinese exports valued at US$200 billion would have to bear a tariff of 10%.
A complex series of retaliatory tariffs by both countries followed. In December 2018, the two nations agreed to a truce in the trade war, but this temporary peace soon broke down. The tariff war recommenced with China and the US taking an increasingly hard stand.
Small businesses are more vulnerable than large corporations
There are strong trade linkages between China and America. Many of the largest US corporations have extensive business dealings with the world’s second-largest economy. Consequently, the on-going trade war will affect some of the biggest corporate names in America.
Take the example of Apple. The iPhone manufacturer, which has one of the largest market capitalizations in the world, earns over a quarter of its operating income from Greater China, the area that comprises the mainland, Hong Kong, and Taiwan. The top three American car companies, GM, Ford, and Chrysler, have extensive operations in China. There are dozens of other big US corporations that do business there.
Ironically, it’s not these heavyweights that will be most affected by a trade war. These giants have large financial reserves and access to bank loans and other forms of capital. Additional tariffs may hit their profitability, but it probably won’t threaten their existence.
With small and medium-sized businesses, the story can be entirely different.
Consider the retail sector in the US. According to government statistics, the retail industry has about one million establishments in the country, and total sales stand at $5 trillion. The National Retail Federation (NRF), a trade body, holds the view that import tariffs can do immense harm to the country’s retail establishments. NRF says that as a consequence of the trade war, “prices will rise and the economy will suffer.”
Why does the NRF think that import tariffs are harmful? What’s the connection between the prices of goods in America and import taxes?
The NRF explains that many retailers in the country sell imported Chinese goods to consumers. When import tariffs rise, the cost of these goods also increases. So, tariffs aren’t really a way to punish a foreign government. Instead, they are effectively a tax on the American buyer.
The NRF has another vital point to make. If Chinese goods become more expensive in the country because of import taxes, American consumers won’t be able to switch over to products manufactured within the country. That’s because many of these goods are no longer made in America.
That isn’t the only problem. China has a virtual monopoly on many of the goods imported into the US. A recent article titled, The US will have a hard time not getting these products from China that appeared in Quartz business magazine, identifes 11 product categories for which China supplies 95% or more of US imports. Here’s a partial list.
China is the world’s dominant exporter for many goods
|Category||Imports from China in 2018||Percentage of US imports that came from China||Percentage of world imports that came from China|
|Electric blankets||$118 million||99%||82%|
|Umbrellas with a telescopic shaft||$119 million||98%||83%|
|Plastic artificial flowers||$392 million||97%||88%|
|Vacuum flasks||$465 million||97%||74%|
Consequently, if the prices of these goods rise, importers in America would be hard-pressed to locate alternate suppliers from other countries.
In addition to the retail sector, American farmers are also experiencing the negative fallout of the trade war. American farm exports have traditionally played an important role in trade between the two countries. However, trade volumes have plummeted recently.
The reduction in US farm exports is a direct consequence of the retaliatory tariffs that have been implemented by China.
Consider these statistics. In 2017, the US exported farm produce valued at $19.5 billion to China. The products that were shipped included soybeans, dairy, sorghum, and pork. In 2018, agricultural exports dropped to $9.1 billion.
Zippy Duval, the president of the American Farm Bureau Federation, says that the retaliatory tariffs have delivered a “body blow” to American farmers. The Federation says that between January and September this year, 580 farmers filed for Chapter 12 bankruptcy – a 24% increase over 2018. It’s also the highest level of farm bankruptcies since 2011.
Import tariffs on Chinese products can have far-reaching negative consequences. Consumers could have to pay more for the things they buy. Investment bank J.P. Morgan estimates that tariffs could cost each American family $1,000 per year.
The retaliatory tariffs imposed by China could reduce the demand for American products. The U.S. Chamber of Commerce, a trade body for America’s small businesses, says that the trade actions initiated by the Trump administration could threaten as many as 2.6 million American jobs. The farm sector is at considerable risk too. The produce from one in three acres of farmland in the country is exported.
A revealing study by the U.S. Chamber of Commerce found that some states in the country face a far greater threat from the trade war than others. This map separates the states into three categories based on the impact they could suffer from the trade war:
Impact of the trade war on America’s states
The states that are expected to suffer “extremely significant damage” from the trade war include:
California: The state exports goods valued at $13 billion to China.
Illinois: Exports to China include soybeans and sorghum. Total exports — $4.8 billion.
Louisiana: The state exports goods worth $7 billion to China. Soybeans alone account for $5.6 billion.
Georgia: Goods valued $2.2 billion are exported to China.
What small businesses can do to minimize the impact of tariffs
It seems that import tariffs are here to stay and that the trade war isn’t going to end anytime soon. Many small businesses could face higher input costs, compressed margins, and lower demand for their products.
What can small firms do? The most obvious solution seems to be to raise prices. Companies that sell to other businesses could have a slight advantage here. Business owners could speak to the purchase manager at the buyer and explain the reason for increasing prices.
But firms that operate in a B2C environment could find it challenging to adopt this strategy. It’s difficult to convince hundreds or thousands of retail customers that prices are being raised for a valid reason. This is especially true if the customer has the option of taking her business to the competition.
What if increased costs can’t be passed on? Business owners could consider some of the following options:
- Cut costs: Reducing expenses is always a good idea. But when profits are down, it’s a necessity. The focus should be on non-productive costs or those that don’t contribute to the bottom line.
Don’t make the mistake of slashing marketing expenditure. Although this could give net income an immediate boost, it may lead to sales dipping over the medium to long term.
- Try and identify new suppliers: Switching over to another vendor may not be easy. Even if it is possible to find a domestic company that can provide the products or intermediate goods that are needed, they may be more expensive. Another option is to look for suppliers in non-tariff countries.
In any case, it’s likely that small businesses will pay a higher cost for the goods if the supplier is non-Chinese.
- Reduce employee expenses: In most circumstances, this step should be considered as a last resort. Finding good employees and training them costs a lot of money. A small business owner who fires an employee may be looking for a replacement in a few months or a year.
Instead of reducing the workforce, it may make more sense to reduce employee-related expenses like overtime. Outsourcing some work may also help in cutting costs.
The bottom line
The last year and a half have seen a great deal of uncertainty around import tariffs. As a result, the profitability, or even existence, of many small firms could be in question.
What should business owners do? Those that are dependent on Chinese imports could try and develop alternate suppliers. Exporters to China could attempt to identify new markets for their products. While these steps could cause some short-term pain, it may result in increasing the resilience of American firms and making them less dependent on a single country.