How tariffs between the US and China could hit American tech companies the hardest

Winston Mok says tariffs as a tool for reducing a bilateral trade gap are counterproductive in the current integrated global economic order

PUBLISHED : Tuesday, 26 June, 2018, 3:33pm
UPDATED : Tuesday, 26 June, 2018, 6:52pm

In an attempt to force China to narrow the bilateral trade gap with the US – and perhaps to prompt an easing of China’s alleged industrial policies in support of certain sectors seen as threatening to American technological dominance – the United States has imposed tariffs on a range of “made in China” products.

The key question is whether tariffs remain an effective policy tool for such ends in this day and age.

Two important changes have taken place in the international economic system in the past few decades. First, production has been broken down and distributed across multiple locations in global networks. While China might be responsible for the final assembly, many embedded high-value components are produced in developed countries, including the US.

Second, companies, led by US multinationals, have internationalised. Many General Motors cars are made in China while Haier was making fridges in the US even before it acquired GE Appliances. In this integrated international economic order, achieving national economic goals through tariffs may be futile. Even without China’s retaliation, US tariffs will have adverse consequences for the US and its allies.

The high-value critical components of several technological products assembled in China come from Japan, Korea and Taiwan. The value added in the final assembly in China is small. When propagated upstream, the adverse impact of US tariffs may be felt more by America’s allies.

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US companies such as Intel and Qualcomm – whose technologies are embedded in products made everywhere – are at the apex of the global value chain. So tariffs on technology products will have inevitable repercussions on the US economy.

Wherever technology products are made, most of the margins are captured by brand owners (many US based) and retailers

Wherever technology products are made, most of the margins are captured by the (many US-based) brand owners and retailers. Since some of these products are made in US-owned operations in China, US companies will take a direct hit from tariffs.

US technology companies capture value not through manufacturing final products but through research and development, upstream critical components, software, brand ownership and distribution. This is not reflected in trade statistics.

The US will not improve its trade position through tariffs. The country may choose to import from other places such as Singapore, Malaysia, Korea or Taiwan instead of from China, likely at higher prices and with longer lead times. However, the overall US trade deficit will not improve much, but will simply shift from China to other countries.

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Some Chinese companies will expand their overseas production – resulting in a rearrangement of US trade deficits from China to Southeast Asia and elsewhere, sometimes with the same underlying companies. So it is unclear what the US may gain in the end from the process, given all the costs.

The immediate impact will be painful for all parties. In the longer term, however, tariffs and other measures to restrict trade may backfire on the US economy in several ways.

US companies, which make use of Chinese components or materials, will be faced with higher costs or less suitable parts. Unhampered by such restrictions, their European or Asian competitors will become more competitive at their expense.

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Following in the footsteps of Japan and Korea, China will over time become more of a technological base than a production centre. American, European and Asian multinationals are aware that a global network of production sites with technology controlled at the centre is less exposed to protectionist risks. Tariffs are thus a wake-up call to Chinese companies on the urgency of switching out of low-value final assembly.

Tariffs are thus a wake-up call to Chinese companies on the urgency of switching out of low-value final assembly

As a policy instrument, tariffs are a relic of centuries past. From steel to the final products, tariffs might have served a purpose for the US in the 19th century, when it was a developing country. That age of a national-based economy is long gone.

In an integrated and interdependent world, it is very hard to discriminate in “us versus them” terms. Just as Donald Trump’s trade policies are oriented to America’s industrial past, rather than its technological future, so the US president is using an obsolete policy instrument. And he may be, contrary to his intention, unwittingly furthering China’s technological rise in the process.

Winston Mok, formerly a private equity investor, is a private investor