From Fed January 2025 meeting minutes:
A piece of data on the actual intentions of businesses in their response to tariffs.
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The first intentions are to stop projects based on IRR planning and lay off workers. Demand in this economy is dropping.
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The Three Laws of Business:
- Consumers pay for everything.
- Consumers pay for everything.
- Consumers pay for everything.
When they don’t three things happen to businesses
- They go broke
- They go broke
- They go broke
The Captain
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Suppose a business makes $100 profit on a product. Then suppose new tariffs are implemented that cost $1. Suppose the business makes no change in response to the tariffs other than to pay the tariff so that profit is now $99. The price to the customer has not changed.
In the situation above, who paid the marginal cost of the tariff, the business or the customer?
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Taxpayers/customers. Less profit = less tax paid (i.e. the COST went up for the business, which was deducted from gross revenue–so lower profit and thus lower taxes paid).
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To keep life simple, my scenario isn’t meant to include corporate taxes as a variable (one could keep adding variables like corporate taxes and then individual taxes and then reduced income to shareholders and then their resulting reduced spending - you get the idea - and then the example is too complex for a simple illustration and we throw our hands up).
But, to humor us.
Suppose the business pays a corporate tax rate of 20%. Then a $1 expense pays the tariff, profit is reduced by this $1 and thus 20 cents less in corporate tax is paid, so the net effect on the business is 80 cents in less profit.The tariff goes to the government, so the government receives an additional +80 cents in tax revenue net of the reduced corporate tax received.
Because the business has less revenue, it reduces the hours of some workers, these workers lose 60 cents in wages and make a claim for additional government benefits of 40 cents. To handle the additional benefit claim caseload, the government increases hours of its social workers, costing 40 cents. The net effect of all of this is lower profits, lower private sector employment, higher tax revenue and larger public sector employment (at least in this telling, your telling may differ).
I’ll leave it as an exercise for the reader to continue any complex examples.
Now I revert back to the initial simple example.
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- Nobody paid
- Somebody lost
Three “supposes” don’t add up to a fact, the fact that business will pass all costs to the customer unless prevented by law, by competition, or by self interest. Just ask Steve! Evil JCs!
The Captain
What will happen to US profits when tariffs are placed on imported steel.
Domestic producers should sell more in the US (unless they raise prices to increase profits). Exports are likely to be difficult as other nations respond.
So who wins? Higher prices maybe mean less demand.
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So, the USian “JC” sees his costs go up 10%. What does he do? Charge a “fair” profit on that increased cost, so he raises prices 12%.
The shinier “JCs”, like at Ford, VW and Audi, say they don’t care about volume. They just close factories and lay Proles off, to “right size” the company for the smaller volume of more expensive, more profitable, product.
Steve
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Their domestic plants could conceivable use tariffs to increase market share and sell more. Mid range price increases might work. That forces competitors to eat some of the tariff or lose market share.
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Well of course they will. It’s free money to them, at least the first 95%. If they are running below capacity then perhaps they will ramp up some. Construction of new facilities? Unlikely, given the lack of guarantee that they can gouge consumers into the next administration.
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First they lower prices, then they layoff workers…you can reverse that order if you like…then they go broke and layoff more workers.
Dominos
Auto assembly plants can often increase production by adding shifts. That increases profits by spreading overhead costs over more production.
I think you expect a well run company to figure out its optimum production rate and price to attract that number of sales.
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Does the name “Arctic Cat” ring a bell? Closing in May 2025.
Personally I like Polaris and Harley Davidson better but both are out of favor with investors at the moment. Maybe tariffs will protect them from imports and they do have domestic plants that can supply consumers. Export market could be iffy.
One slight problem I’ve not seen addressed anywhere. Auto parts cross the borders multiple times on their way into your car. Sometimes a half dozen times.
Track One Car Part’s Journey Through the U.S., Canada and Mexico—Before Tariffs
No sector is as exposed to possible Trump tariffs as the auto industry
There’s a nice graphic in the story, but to summarize:
Linamar arranges for steel chips and scrap to be sent to a smelter in Pennsylvania. Steel from that smelter and others is then used by an Ohio company to make a part called a hub.
The hubs are then sent back to an Ontario factory, where they are put together with materials from another Illinois supplier that makes a gear-shifting part for a transmission.
Linamar’s Ontario factory also imports aluminum housing from its foundry in Mexico’s Coahuila state. It assembles the parts into a module that is sent to a factory in the Midwest where it is put into a transmission.
Transmissions are then sent back to an Ontario auto plant where they are put into vehicles that end up in dealerships across the U.S.
The idea that auto manufacturers are going to be able to untangle this supply chain - by starting production of all this stuff domestically in anything under several years is wishful thinking at its finest.
And I have seen nothing that will answer the question of “how to we charge for this - just once” rather than the 3-5 border crossings that these parts make.
We have spent two decades convincing manufacturers to focus on what they do best and having someone else do what they do best. Suddenly we’ve decided to throw that out and now it’s “do everything yourself, and do it here.”
Well, OK, different philosophy, but there are going to be some severe growing pains, and maybe a few more people in Washington to craft policies that make sense, not fewer.
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Gonna have to wait until 2029. Unless another Great Recession/Depression arrives sooner, then it gets “interesting”. 25th Amendment could be quite useful.
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Easy. Every crossing is charged tariff, which is added to the cost, and passed on to the next party in the supply chain. Isn’t that how a VAT works? Every step in the supply chain is taxed for the value added to the material?
But never mind the complexity. The idea sounds good to the base.
Of course, the real reason is to raise enough money with tariffs to cover the cost of repealing the income tax.
Steve
What income tax? Better to not pay it.
Sure but (I know you’re kidding) tariffs are done on the gross product price, while VAT is done on the value added at each step.
If you tariff the widget at 10%, then the thingamabob the widget goes into at 10% when it crosses the border again, you’ve now tariffed the widget twice. And when you send the thingamabob back across the border to be put into the car, you’ve tariffed the widget 3 times and the thingamabob twice.
Now send the car back across the border to US consumers and the widget has been tariffed 4 times, the thingamabob 3 times, and the car twice.
You can see how that might add up, given that there are thousands of parts in any given car, many of which come from [cough] another country.
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