Yes, Tariffs on Imports from China Are Taxes (Even When Absorbed by Business!)

Instead of entering what many anticipated would be the home stretch of negotiations to end the nearly yearlong trade war, U.S. tariffs on about $200 billion of imports from China are set to increase from 10 percent to 25 percent tomorrow morning. There is plenty of speculation as to what happened, who’s to blame, whether President Trump is engaging in negotiating tactics described in “The Art of the Deal,” and which economy is better situated to withstand a wider, longer trade war (as if a 10 percent economic contraction means victory if the other economy shrinks by 15 percent).

The most prominent explanation for the abrupt reversal is that U.S. negotiators learned that their Chinese interlocutors were backing away from previous commitments to resolve the forced technology transfer problem, which is one of the most important U.S. objectives in these talks. After mulling that development last weekend, Trump opted for escalation. He also promised that the balance of Chinese goods (another $250 billion of imports not yet tariffed) soon will be hit with rates of 25 percent, as well. In response, Beijing announced it will impose yet-to-be-specified countermeasures.

Interestingly, this week’s developments haven’t completely torpedoed the negotiations. A somewhat smaller (than originally planned) delegation of Chinese officials is in Washington for negotiations slated to begin at 5pm, which gives them exactly 7 hours to sort everything out before Trump’s higher tariffs take effect at the stroke of midnight. Don’t expect a comprehensive deal or even the contours of one to materialize, but with Chinese Vice Premier Liu He making the trip to Washington despite this latest upheaval, there is at least some hope that the actual tariff escalation will be deferred.

It turns out that the fine print in the Federal Register notice announcing the new rates states that products leaving China after 12:01, Friday, May 10, will be subject to the higher tariffs. It takes about two weeks for a cargo ship departing Shanghai to arrive in Long Beach, so negotiators really have seven hours, plus about two weeks, to reach a deal before Customs has to tax U.S. importers at the new, higher tariff rate. Of course, time is much shorter (seven hours plus about twelve hours!) for importers of high-value, fragile, and perishable products, which are typically transported by air.

As of this moment, the United States has punitive tariffs in place on approximately $250 billion of imports from China. Since last July, tariffs of 25 percent have been levied on imports that were valued collectively at about $50 billion in 2017. Nearly all of those goods are intermediate inputs or capital equipment—the purchases of U.S. producers. Trump advisor Peter Navarro was pleased to note at the time that, in selecting the products to target, he and colleagues used a special economic model to help them avoid burdening consumers by focusing on business purchases, as if businesses don’t pass their higher costs onto consumers in the form of higher prices or onto to their shareholders and workers in the form of lower profits. Thanks, Pete!

After Beijing retaliated, the Trump administration imposed 10 percent tariffs on an additional $200 billion of Chinese goods. This time, the majority of targeted products were consumer goods. It is this tranche of products for which tariffs are slated to increase to 25 percent at midnight. Makes one pine for the days when Navarro worried about consumers.

If matters aren’t resolved quickly, the likelihood is very high that all U.S. goods imports from China will be hit with tariffs of 25 percent.  Let me try to put that in some perspective.

In 2017 (before the punitive tariffs were in place), U.S. imports from China totaled $504 billion and duties paid to U.S. Customs amounted to $13.5 billion, which is an average applied tariff rate of 2.68 percent. Last year, when tariffs of 25 percent on $50 billion of Chinese goods were imposed in June and July, and additional tariffs of 10 percent on $200 billion of Chinese goods were imposed in late September, the value of imports from China totaled $543 billion and the duties collected came to $23 billion—an average applied tariff rate of 4.23 percent.  Nearly $10 billion of costs associated with the higher tariffs were imposed on consumers, businesses, shareholders, and employees.

It turns out that for many products Americans purchase from China, demand is fairly price inelastic. In other words, a one percent increase in price generates less than a one percent decline in quantity demanded. Total revenue rises. At least that is the case for broad swaths of products within the range of price increases attributable to the tariffs. Afterall, despite that tariffs, import value rose from $504 to $543 billion in 2018. Maybe there aren’t many substitute sources or the costs of finding substitutes and switching is too high relative to the tariffs.

A 25 percent across-the-board tariff could generate different effects. Demand may be more price elastic for more products at that price range. In other words, we will likely see a decline in import value from China if 25 percent tariffs are imposed. That means that the added costs directly attributable to the tariffs would not be 25 percent of $543 billion (the 2018 value), for example, because the value of imports will be lower. How much lower depends on these elasticities and other factors.  However, 25 percent of $543 billion is not an unreasonable, upper end estimate of the costs to U.S. consumers and businesses that would be attributable to a 25 percent across the board tariff. That’s $135 billion. That’s a cost of about $400 for every person in the United States. That’s a lot.