Supply Chain

Pragmatists, Radicals Vie on U.S. Trade Policy

One way to understand how American trade policy might play out is to analyze two plausible paths.
Johan GottMarch 21, 2017

In January, the Trump Administration stormed into office after proclaiming to anyone who would listen that decades of Washington-sponsored multilateral trade deals were costing hundreds of thousands of Americans their jobs, U.S. corporations their profits. and the government its bargaining position.

We know the president favors bilateral agreements that place American interests first. What we don’t know is how that will manifest itself in terms of policy and practice. And it’s that uncertainty that’s keeping CFOs up at night. The best antidote to those anxieties is risk modeling. Developing strategy around a number of scenarios that may plausibly happen best positions you to address whatever actually happens.

Candidate Trump argued that the multilateral trade system encouraged manufacturers to move jobs offshore, that previous administrations had sold out American interests, and, perhaps worst, that our trading partners routinely cheat with impunity.

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American companies have become truly global, selling more products in foreign markets than ever before. Global supply chains provide factories and consumers with an unprecedented volume of goods.

In 2015, $16 trillion worth of merchandise was traded globally. That’s a four-fold increase compared to 20 years ago. Any changes to the regulatory framework underpinning this carefully constructed system could upend a cost and profit paradigm that was seen to be working well.

From a corporate perspective, this isn’t a political problem. Rather, it’s a matter of calculating risk in a radically disrupted business environment. How do CFOs explain this risk to their CEOs, boards, and the analysts?

One way to understand how American trade policy might play out is to analyze the two plausible paths – one pragmatic, one radical.

Pragmatists believe sticking to established processes and addressing specific grievances within the current system, such as Mexican labor conditions, Chinese intellectual property theft, and a low Japanese Yen, is the administration’s simplest and least risky path forward.

The proposed pragmatic solutions to those issues vary from taking countries to court within the World Trade Organization to negotiating bilateral agreements in pursuit of favorable terms of trade. The Trump administration has indicated its willingness to pursue both these avenues. A third pragmatic option is enacting a border-adjusted tax that would tax imports and make exports tax exempt.

The radical view is that all bets are off and we’ll see the administration acting unilaterally to reestablish America’s trading relations. This could include imposing punitive tariffs to compensate for perceived hurdles American firms face abroad. Such unilateral actions would likely put the United States in breach of WTO rules or would force withdrawal from treaties such as NAFTA. This is uncharted territory and could trigger an all-out trade war.

While the radical policy path carries more risk for companies, both paths signify a new reality companies need to plan for. Increasing trade-related conflict will affect all product categories sourced from abroad, raise costs, and perhaps launch a series of escalating trade conflicts.

For example, the 45% tariffs on imports from China that Trump proposed when he was president-elect would create heavy additional costs to U.S.-based companies, not counting the loss of value from corresponding Chinese tariffs.

U.S. importers are indeed the most immediate and obvious danger. These companies need to immediately review their supply chains to assess vulnerabilities associated with termination of treaties such as NAFTA or an increase in trade barriers. They also need to develop strategies for a variety of scenarios such as shifting to suppliers in another country, reshoring production to the United States, and passing along additional costs to the consumer.

Exporters are also at risk. Trading partners will respond in kind to unilateral actions by the United States. These responses will be designed to both hurt the economy of the United States and protect domestic industries from unwanted competition. American exporters will be faced with a complicated set of choices, from absorbing additional costs to seeking alternative markets to moving production of exports outside of the United States.

Given the uncertainties, preparedness is clearly a CFO’s most critical asset. We opened by noting we have entered an area of high uncertainty with potentials, making critical it is for CFOs to understand the risk exposure and responses suggested by different, plausible trade scenarios.

It’s still too early to fully understand how President Trump’s position will manifest itself in policy and how much appetite the Congress really has for trade wars. That’s all the more reason for CFOs to consider a variety of possibilities and how their companies would fair under alternative scenarios. The stakes are high but the right mitigation strategies offer smart companies not just a path to survival, but an edge against the competition.

Johan Gott is a principal in management consulting firm A.T. Kearney’s private equity/ mergers & acquisitions practice. 

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