Tariffs and trade tensions: How can companies manage the fallout?

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Natasha Condon: …it's really hard to make strategic decisions under these circumstances. It's very hard to decide, am I going to keep my manufacturing in the market where it's currently done? Am I going to move it to the U.S.? It's very hard to make those decisions when you don't have certainty around what the tariff regime is going to look like in six months or a year's time.

Grace Howie: Welcome to Research Recap on J.P. Morgan's Making Sense podcast. My name is Grace Howie, and I look at our Business Development for Payments, Trade and Working Capital. Now today on the podcast, we’re diving into the world of international trade and discussing the impacts that both the U.S. and global tariffs are having on the economy, as well as on corporations and how they can manage uncertainty. Clearly there’s a lot to unpack today, and it is safe to say it has been a volatile few weeks with tariff announcements and on-going trade negotiations. Before we get started, though, given continued developments in the quickly changing landscape, it’s important to note that this episode was recorded on April 23^rd. Now, to kick off the conversation - I'm thrilled to be joined today by my colleague, Natasha Condon, global head of Trade Sales, and Nora Szentivanyi, senior global economist here at J.P. Morgan. Thank you so much for joining us.

Natasha Condon: Great to be here.

Nora Szentivanyi: Thank you for having us.

Grace Howie: Nora, would you be able to provide a brief summary on where we are, including what has happened since the start of April in terms of which tariffs have since been paused and how the remaining tariffs are expected to impact global trade and disrupt supply chain?

Nora Szentivanyi: Thank you, Grace. Well, on April 2nd, President Trump unveiled a remarkably large and broad based hike in U.S. tariffs, including a minimum 10 percent tariff on all trading partners and significantly higher reciprocal rates on countries that run large trade surpluses with the U.S. That's predominantly Asia, but also the European Union. Reciprocal tariffs above the minimum 10 percent rate were subsequently paused to allow time for negotiations and trade deals to be struck. But the tariff on China was hiked substantially further. Moreover, the across the board tariffs come on top of sectoral tariffs of 25 percent on things like steel and aluminum and autos and potentially upcoming sectors like pharmaceuticals, semiconductors, lumber and copper. Now, a number of popular consumer electronics like computers, laptops and smartphones were subsequently exempted from the reciprocal tariffs. But even after these exemptions, the average U.S. tariffs on all trading partners is somewhere in the 20 to 25 percent range, while U.S. China trade has an average tariff of above 100 percent. The tariffs on China actually erase much of the price competitiveness for the majority of Chinese products on the U.S. market relative to other suppliers into the U.S. And we estimate that this could shrink the trade between U.S. and China significantly by as much as 75, 80 percent if the current high tariff rates are sustained. Now, the U.S. imported roughly 450 billion dollars of goods from China last year. So this would amount to a substantial decline in trade flows. Importantly, the negative effects of the decline in U.S. China trade is likely to be magnified via spillovers to supply chains. Now, other countries would have opportunities to fill the gap left by China in the U.S., especially in sectors such as textiles, clothing, electrical equipment. But excess capacity to supply these goods in the near term could be quite limited for a number of goods. Therefore, U.S. businesses and consumers may actually find it difficult to source sufficient substitutes. And then the substitutes that they do get would be significantly more expensive as well. Now, I would add that over the medium term, if we see a decoupling of trade between U.S. and China, that could, of course, contribute to a broader fragmentation of the global trading system. And if U.S. China trade freeze cuts down global trade by, say, five percent, that would be roughly a quarter of what happened during the great financial crisis or the COVID pandemic. The impact on the rest of the world is likely to be larger than most current estimates that ignore the spillovers via supply chains. The recovery could also prove to be more protracted given the complex supply chain linkages, both via commodities and manufactured intermediate goods.

Grace Howie: Thanks for that, Nora. And you mentioned specifically, you know, there's some countries that are clearly more impacted than others. And there are certain sectors that are clearly more impacted than others. Can you just talk us through some of the local or country regional impacts that the announcements are having or perhaps rather the uncertainty that is taking place?

Nora Szentivanyi: Well, first and foremost, I would say that this is a very large tax hike on U.S. businesses and consumers. So we should make that point to begin with. And while the direct hit will be concentrated in the U.S., as I mentioned, the damage is likely to be more global and is going to spread through the supply chain linkages, the heightened trade policy uncertainty, which is really at record levels. And there will be negative impacts on business sentiment and investment plans more broadly. I would say by region, the largest impact really should be on Asia. If U.S.-China trade freezes, then the rest of Asia will see negative spillovers there. These are countries that are highly relying on trade, both with the U.S. and China. And they're very highly interconnected via supply chains. Now, right now, what we've seen is there's a lot of incentives to front load sales to the U.S. ahead of perhaps even higher tariffs on the rest of the world and for China transshipments by other countries. And this is helping to support growth in the near term. But a pullback in activity is in the offing and should impact China starting this month. We have made substantial downgrades to our growth forecasts across Asia. And we're now looking for recessions in places like Taiwan, Singapore, Thailand. And China growth itself is seen slowing to about 3% by next year, from 5% last year, and risks are still to the downside. Elsewhere, the fallout to the U.S.'s two largest trading partners, Mexico and Canada, has been substantial already. And we've seen declines in business and consumer sentiment, which suggests that Mexico is already in recession. And Canada, I think, will follow soon. That said, these two economies were spared in the latest round of tariffs and will likely see their tariffs stay below 10%. For Latin America, I would say more broadly, there should be some fallout as well through falling commodity demand and falling commodity prices, weaker exports and capital flows. Now, Europe is perhaps not the most affected in the direct sense, but indirectly will also be significantly expected. It's not going to escape unscathed. We have factored in a fairly large one and a half percentage point drag on EURO area of GDP from higher U.S.  tariffs, retaliation and the related hit to sentiment.

Grace Howie: And Tasha, I want to bring you in here. Nora mentioned a few of the impacts that our clients will, you know, anticipate having to deal with, particularly in certain countries. Anything to add here from the lens of our clients? Clearly, there are certain countries and regions where clients are adapting their strategies, or in some cases, you know, perhaps is it too early to tell with other negotiations ongoing?

Natasha Condon: Yeah, I mean, look, I think you hit the right theme at the beginning of this conversation, which is uncertainty. I am consistently hearing from corporates across the board that obviously in an environment where a lot of tariffs have been implemented, we're currently in this 90 day pause period on some of the other tariffs. We don't know yet whether the countries that were impacted by tariffs that have been paused will be able to negotiate their way out of those. As of today, April 23rd, Nora will correct me. I don't think any country has managed to secure a deal, which has resulted in a commitment that those tariffs are not coming back at the end of 90 days as yet. So there is an enormous amount of uncertainty out there. And what I am hearing from corporations is very much it's really hard to make strategic decisions under these circumstances. It's very hard to decide, am I going to keep my manufacturing in the market where it's currently done? Am I going to move it to the U.S.? Am I going to move it to a 10% tariff country instead? It's very hard to make those decisions when you don't have certainty around what the tariff regime is going to look like in six months or a year's time. So clients that I work with, corporations are very much focused on sort of short term stability. How can they manage the shocks that are sort of coming as these tariff announcements get made? We have seen, and I'm sure you've seen this in the press, a big rush of goods into the U.S. in advance of tariffs being implemented. So, you know, President Trump has been talking about wanting to kind of bring down the trade deficit. But the trade deficit in February, I think, was actually the worst it's ever been as everybody rushed goods into the States trying to get ahead of the tariffs. And of course, after that, you would expect there to be a dip because if those goods were accelerated in February, you don't need to bring them in in April. And then we'll see what the long term trend is going to be. But that overstocking has definitely happened into the U.S. Corporations are stress testing their businesses to try to figure out where tariffs are going to hurt them. And one of the things you've got to think about in that context is supply chains for most goods nowadays are really complicated. You know, the raw materials get produced in one country and then the first stage of manufacturing happens in another and another and another before the final item gets to the shops and you or I go out and buy it. Or in this case, the U.S. consumer goes out and buys it. There's been a lot written about the auto supply chain in Mexico and how goods go across the border between Mexico and the U.S. multiple times before the final car is shipped into the U.S. And obviously, if there's a risk of being tariffed every time you cross the border, the problem is pretty obvious, right? So corporations are really kind of trying to figure out where the tariff risks are in their supply chain. And what is coming as a shock to some of the corporates I've worked with is it's not always where you think it is in the sense that tariffs may not impact you as a corporation. They may not impact the suppliers that you directly buy from. But you'll find that three suppliers further down the chain, there's somebody who just got hit with the tariffs. And that cost is working its way back up the supply chain towards you. It's a complicated, globalized world. The risks have turned out to be complicated and globalized as well. And a lot of corporations have already begun negotiations with their suppliers, with their customers around who pays the tariff. A tariff is just a tax that is charged at the border when the goods go into the country. And just because you are the importer who happens to be paying that tariff as the goods come into the U.S. doesn't mean that you can afford to carry all of the cost of that. And there's a conversation to be had about, do you pass it on to the consumer? Do you try to get your suppliers to share it? If you sell to businesses, do you try to get them to share it? It's a who ends up holding the baby conversation. And of course, those companies that are larger and have deeper pockets are more able to absorb the hit than smaller companies that don't. So that conversation is already starting. And then last point, I think on this is President Trump wants more manufacturing in the U.S. Some people will move manufacturing into the U.S. Some companies have already talked about that publicly. And so there's going to be big decisions that need to be made in the near future around, am I going to build my new plant in Ohio instead of in Mexico? Lots of companies are going to have to think about that in the near future, especially in industries like auto, which have been heavily impacted. And if you can't do that, if you cannot sell profitably into the U.S. anymore, where are those goods going to go? They have to go somewhere else. So then there will be a big reconfiguration of trade flows over time. And some corporates that I talk to are already quite far advanced in that conversation to try to figure out where they're going to sell to if they can't sell as much into the U.S. anymore.

Grace Howie: Yeah, I agree. I mean, clearly, there's a lot that corporates are grappling with, both from short term and longer term effects of tariffs . But clearly, there's a broader story here as well in terms of the overall macro environment that the impacts of the tariffs are going to have. And Nora, you mentioned in terms of the sort of revision of global growth forecasts. Can you talk us through some of the perhaps short term and long term effects that the tariffs are having on the overall global economy?

Nora Szentivanyi: Sure. So the U.S. tariff policies delivered so far have prompted a reassessment of our global outlook to include a recession call. Even if the higher set of reciprocal tariffs are paused indefinitely and the U.S. tariff on China comes down to about 60 percent, which has been our baseline after some negotiations, the average effective tariff rate in the U.S. would rise by nearly 15 percentage points to levels not seen since the 1930s. This really would amount to the largest tax hike on U.S. consumers and businesses since World War II, and more likely than not, will push the U.S. economy into recession this year. Our U.S. economics team forecast two quarters of negative growth, falling payrolls and rising unemployment. The tariffs will create a bump to U.S. inflation and a corresponding drag on consumer purchasing power. As I noted, the heightened trade policy uncertainty will weigh on business sentiment and activity growth, particularly for capital spending. And if corporates absorb tariffs in their margins, that will, of course, weigh on activity and potentially also wages. Now, tariffs are likely to be felt broadly across the manufacturing sector and will raise costs for a number of wide range of downstream industries as well. So I think that the impact will be quite broad based. On a positive note, I should add that U.S. and the global economy are heading into this tariff shock with a pretty healthy underlying private sector balance sheet. And as a result of that, the recession we are forecasting for the U.S. looks remarkably mild by any past recession standard. Similarly, the downturn in global growth that we currently have in the forecast looks fairly mild by historical standards. Should it occur, the recession may not come immediately. As we mentioned, there's this front loading of activity taking place right now, and there's a fairly solid momentum in the global economy heading into the second quarter. So most likely, you know, the downturn would be more concentrated in the middle quarters of the year or in fact, the second half of the year. I think just to add something on a bit more optimistic note, unless we see large scale retaliation by other countries, the inflation impact for the rest of the world should be relatively muted, particularly if China directs more of its excess goods production to non-U.S. markets. It could actually prove to be disinflationary outside of the U.S. Still, the longer term implications for inflation shift away from globalization towards more protectionist global trade framework would add some upside to inflation. But near term, there could be some disinflationary effects even for other countries.

Grace Howie: I'm glad we got an optimistic view in there as well. We had to get that in. Tasha, just in terms of, you know, our clients and how we can sort of help advise, what type of strategies can organizations adopt to help manage some of these broader macro themes and the sort of broader risks associated with the ongoing trade tension?

Natasha Condon: Yeah, I think the conversation is starting around just good old fashioned blocking and tackling on risk management, right? So where I am talking to corporates right now, what they are trying to figure out how to handle first and foremost is the uncertainty. And obviously, if you don't know what tariffs are going to apply to your supply chain in 90 days or in nine months, what you do need to be is ready for anything. And so it's really, a lot of it is turning into a liquidity conversation. Do you have enough cash in the right places that if there is a shock in any particular market that's important to your supply chain, you'll be OK and you'll have the breathing space to make a proper strategic decision about what you're going to do going forward. So that has been, I think, the primary conversation I've been having with clients. And how are they doing that? You know, as simple as drawing down existing credit facilities. I've seen corporates adding banks to their bank group. I've seen corporates setting up big receivable financing facilities. That seems to be a popular way of doing it. But really just thinking about, do I have enough cash? Is it in the markets where I might need it? The other sort of stress testing piece is analyzing the supply chain and figuring out where the impact is going to hit you. That, as I say, is turning into anything from mapping your supply chain all the way down to see if you can work out, you know, where the Chinese supplier is, for example, who's just been hit by a really big tariff. We've got people going through legal documentation from 20 years ago trying to figure out, did they sign up to pay tariffs on, you know, a flow that they didn't think would be significantly impacted a long time ago? And now that clause might be a problem for them. I've had people coming in asking for technical advice around how to account for tariffs in trade instruments like letters of credit. The answer to that, by the way, is the same way you would account for any other tax. We didn't live in a perfect world of zero tariffs before this started, right? There were lots of trade barriers already there. So the infrastructure of global trade is more than capable of dealing with this. What makes these tariffs obviously stand out is the scale and the speed at which they've been implemented. And then increasingly, it's turning into a conversation then around how can a bank help a corporate negotiate with their suppliers, negotiate with their customers? Coming back to that, “who ends up holding the baby,” conversation? And some of the products we use, like supply chain finance, for example, which gives your suppliers cheap funding is an incentive that some corporations are starting to use to support that conversation around, well, I'm going to make this cheap funding available to you, but how would you feel like sharing the pain of a tariff with me in exchange? And that's definitely happening. And it's happening in both directions. So with suppliers and with customers. I think one more key tool that is going to become more relevant in the near future is going to be export credit agency funding and government subsidy effectively and support for companies that need to make big strategic changes to their supply chain. If you need to spend several hundred million dollars on setting up a new manufacturing plant in the U.S., you're probably going to need some support with your capital expenditure. You're going to need some funding. You're going to need maybe some kind of government support from your own home market. And that, I think, will be a very big piece of this. But it is really still to come.

Grace Howie: Thanks for that, Tasha. Clearly, our clients are trying to understand what happens next. There's a lot going on from current events. But I wanted to round things off, Nora, coming to you. If we look back, this is not the first event of trade tensions between the U.S. and its trading partners. Are there any key lessons that we can draw from what's happened previously?

Nora Szentivanyi: Sure. So I think it's important to note that the decades prior to Trump's first presidency had seen a significant decline in tariff rates globally. In 2018-19, those started to move back up, but they remained at low levels. The 2018-19 tariff hikes between U.S. and China didn't have a substantial impact the effect of U.S. tariff rate because the rest of the world was largely spared of the tariffs. There were some modest tariffs on steel and aluminum and some other sector-specific tariffs. I think in terms of the lessons we can draw from the U.S.-China trade tensions, there are some parallels, but also some important differences to note. Back in 2018-19, China was able to offset much of the tariff impact on its own economy by increasing its market share to non-U.S. markets. It was expanding its presence in many other emerging markets in Europe and then economies such as Canada, Mexico, Vietnam, and to lesser extent India, also stepped in to fill in the gap left by China in the U.S. market. I think the scope for substitution this time around might be somewhat more limited because everybody's being hit with tariffs broadly. And also the willingness by other countries to accommodate China’s exports maybe also somewhat less. I think the second lesson is probably related to inflation. So back in 2018-19, Chinese exporters didn’t really lower their export prices to the U.S. Instead, it was the U.S. importers who paid the whole tariff, and much of that was passed on to the U.S. consumer. Back then, the overall price level in the U.S., it didn't increase as much because non-tariff countries stepped in to substitute for China. The tariffs on China were of course also much lower back then, and more targeted and they were calibrated to avoid goods where U.S. dependency on China was quite high. So again, this time around, it's a bit different because the tariffs are a lot higher, and they’re also more broad based, so the impact on U.S. inflation should be also larger this time around. For the rest of the world, I would see the tariffs as broadly disinflationary, though. Finally, I would say the biggest lesson from past trade tensions between U.S. and China, is that the spill over to global growth via sentiment effects can be significant and can have a large impact on global IP, on global capex. The downturn in sentiment in 2018-19 was very significant relative to the size of the tariff hike. So if we are to go by the size of the tariffs this time around, that impact could be much more substantial. This is really the channel that could materially increase the global fallout from U.S.-China trade tensions, even for the countries where the direct tariff shock is small.

Natasha Condon: And maybe I can just add one comment to that, which is I absolutely agree. And I'm already seeing corporations thinking about those new flows and where the goods are going to go if they're not going to follow the same paths they used to follow. I think we will see potentially a significant increase in South-South trade, which has already been a growth area over the last few years. Fundamentally, trade is like water. It will flow through whatever is the path of least resistance. Once this period of uncertainty is over, there'll be a big reconfiguration of global trade around the new model and the new competitiveness of different countries related to each other. And then we'll see what the sort of the medium term future is going to look like.

Grace Howie: Thanks Tasha, I agree. I think you know, we’ve clearly seen the reconfiguration of supply chains happening prior to the tariff announcements. Which, with all of the announcements now, it’s just accelerated some of the corporates plans to rethink their supply chains. It also goes without saying that the uncertainty that we mentioned earlier, means that some are deciding just to sit tight and waiting to see what happens, almost, before making any decisions themselves on their supply chains and manufacturing locations, too. Equally, the impact to consumers is also still playing out as tariffs take effect. So we’ll also have to see how the consumer confidence, and purchasing power impacts demand, and how corporates deal with this – plus the broader macro trends that Nora mentioned earlier. Tasha, Nora, thank you so much for joining me on the podcast today, and sharing your insights.

Natasha Condon: Thanks for having us.

Nora Szentivanyi: Thanks.

Grace Howie: And thank you to our listeners for tuning into another episode of Making Sense to learn more about trade and working capital solutions. Visit our website at www.jpmorgan.com/trade. You can also find the link directly in the description on your favorite podcast platform.

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