Thomas E. Costigan Jr., BA/MA, MISM
September 22, 2024
Comments To: tom@dlbtec.com
Presidential candidate Donald Trump is proposing a blanket import duty on goods coming from China. The Democrats and many TV experts claim that this will place a substantial economic burden on the low and middle class who buy a lot of these goods. Let’s take a look, via a simple example, if the claim is valid.
I am qualified to walk you through this example because I graduated from the same prestigious Ivy League institution as Barrack Obama and George Stephanopoulos. I majored in economics, and I got an ”A” in Economics 201 where they cover international trade issues like this.
I will try to keep this example as simple as possible, but there is some math involved, so maybe get out a piece of paper and a calculator out to follow along.
Let’s say that a talented watercolor artiest buys the “Super Duper Art Kit” (SDAK) four or five times per year: it has paints!, it has brushes!! it has all kinds of stuff that the artist uses!!!. The artist is a very satisfied buyer of this product.
The Super Duper Art Company (SDAC) designed the SDAK many years ago. At first, it manufactured the kits itself, but high demand required them to engage a manufacturing company in the USA. Then, SDAK discovered that it could farm out the manufacturing process to China and even with the hassle of the import process, manufacturing in China made business sense.
The artist pays $100 for the SDAK from a retailer who buys it from a national distributor for $75 ($70 for the SDAK and $5 shipping and handling) who buys if from SDAK via the import process for $55 ($50 per unit for the SDAK and $5 shipping and handling). SDAC imports the SDAKs in lots of 1,000 for a per unit cost of $30 ($25 per unit for the kit plus $5 S&H). The total cost in US dollars for SDAK to import 1,000 kits in a lot is $25,000 for the SDAKs and $5,000 for the cost of shipping the kits across the Pacific Ocean to, say, Long Beach, California, and delivering them to their import broker who arranges for the division and shipment of sub-lots to the various distributors (that service is covered by the shipping and handling costs in my example). In summary, the total cost per lot of 1,000 SDAKs to SDAC is $30,000.
The artist does not know or much care that the SDAK is manufactured in China; the artist just knows that good value is obtained from the kit and the artist plans to continue to buy the kit on a regular basis so long as the value stays good and the cost stays reasonable.
Along comes mean old Donald Trump who imposes a 10% important duty on all manufactured goods from China, including those that may try to “sneak” into the USA via another country like Mexico.
What is the new price that the artist pays for the SDAK?
Simple math: $100 for the SDAK, 10% important duty, so now the artist has to pay $110 for the SDAK going forward, right?
Wrong!!
The correct answer is as it is with everything in life: “it depends”. The fact of the matter is that the Democrats and experts are correct: the end-user consumer or end-user company pays the final cost of a manufactured good coming into the USA from China (or any country) and therefore the imposition of a tariff will certainly increase the cost to the end-user.
So, what will happen to the end-user price of the SDAK when the 10 percent tariff is imposed?
First of all, the import duty of 10% is applied to the import price in US dollars of the item, not the retail price, so SDAC will have to pay a 10% tariff on the $25,000 which is $2,500; now, the cost to import a lot of 1,000 SDAKs is $32,500, an 8.3% increase in total cost.
The per unit increase of the SDAK is $2.50, so the most that the artist would pay for the SDAK under Trump tariff would be $102.50 if SDAK as importer and then the distributor and then the retailer passes along the full increase in cost to the artist.
But there are three other factors that will come into play now: 1) currency devaluation by China; 2) cost reduction by the Chinese manufacturer; 3) consideration by SDAC to manufacture the SDAK in the USA once again.
Regarding currency devaluation, let us say that the manufacturer in China wants to earn @10,000 China Currency Units (CCU) per unit when sold in lots of 1,000 to SDAC for shipment to the USA and that the currency exchange is $25 per @10,000 CCU. Therefore, in the example I am using, the currency exchange rate is $0.0025 per 1.00 @CCU.
Under a blanket tariff scenario like this, China will likely take the defensive action of devaluating their currency; stated another way: China will manipulate their currency so that it will now take less US dollars to exchange for the @10,000 that the China company wants to get paid per unit for their SDAK. As stated above, the currency exchange rate of $25 per @10,000 CCU is 0.0025. Under the blanket tariff scenario, China is likely to devalue their currency to, say, $24.75 per @10,000 CUU which is a rate of 0.002475.
Now the lot for 1,000 units to the importer is @10,000 time 0.002475 or $24,750 (instead of $25,000 before the devaluation) plus $5,000 S&H. The importer now has to pay a 10% import tariff of $2,475 and this finalizes in a total cost to import that 1,000 lot is $24,750 for the SDAK, 10% tariff of $2,475, plus $5,000 S&H for a total of $32,225; prior to the import tariff, the total cost was $30,000, so, the cost to the importer has gone up by $2,225 or $2.225 per unit (instead of $2.50). If nothing else happens and the increase in cost is passed along the line all the way up to the artist, the artist will be charged $102.23 for the SDAK at her local retailer.
In reality, the devaluation I am using in my example is quite small and you can extrapolate that the US dollar cost to SDAC will be even lower if the devaluation of the Chinese currency is higher.
But wait, there’s more!:
The China manufacturer, to defend its business line, will likely drop the price of the SDAK to, say @9,998; the Chinese company wants to decrease the burden by the import company that is suffered by the new tariff so that SDAC will keep buying the SDAKs in lots of 1,000.
So now, with the devalued exchange rate of 0.002475 and a CCU of @9,995, the cost per unit to the importer is now $24.74505; the lot of 1,000 is now $ 24,745.05; the importer has to pay the 10% tariff on that amount $2,474.51 plus the $5,000 S&H for a total of $32,219.56 or an increase per lot of $2,219.56 in total over the pre-tariff cost. The increase in cost to SDAC is now $2.22 per unit (down from $2.50).
In my example from above, the importer is selling the SDAK to the distributor for $50. The cost per unit to the SDAC used to be $30, now it is $32.22. Will SDAC pass along the entire $2.22 increase to the distributor? I would suggest, as a smart business entity, SDAC will not…but let’s say they pass along half of the increase or $1.11 so that the cost to the distributor is now $51.11. The distributor was selling the SDAK to a retailer for $70; will they pass along the entire $1.11 increase along to the retailer? Again, I would suggest not, but let’s say the distributor increases the price to $70.75 per unit to the retailer who was previously selling the SDAK to the artist for $100. Will the retailer pass along the entire 75 cent increase in price to the artist? Again, I would suggest that either the retailer will “eat” the 75 cent increase in cost to them (since they have the largest margin from cost to sale) or charge, maybe, 50 cents more to the artist. Will that artist balk at paying $100.50 for the SDAK? So long as the quality of the product remains good, I suggest that fifty cents will not negatively impact the artist’s buying decision.
So yes: a one-half of one-percent increase in the cost of “stuff” to the US consumer is due to the tariff is something that the consumer has to burden….but the point is that the burden is NOT a ten percent increase.
But, let’s not forget: the US Treasury is now in the good for $2,474.51 for each 1,000 lot of SDAK that are imported into the USA, plus all the other lots of Chinese manufactured goods that come into the USA. That’s money that can be used to pay for social welfare programs, student loan forgiveness, and the salary of government contractors like me, all of which would not be available without the tariff.
But there is one more factor to consider: if the cost of importing the SDAK is going up, SDAC will have to consider manufacturing the SDAK in the USA once again. Remember, there is a cost of $5,000 per lot to import the SDACs from China, not to mention the hassle of having to manage the supply chain. If SDAC can find a US manufacturer for the SDAC that can produce for less-than $32,219.56 per 1,000, SDAC can eliminate the cost and hassle of importing the SDAC (and the 10% tariff) and put the SDAC directly into a supply chain that begins in the USA.
So, the next time the Democrats and experts claim that Trump’s 10 percent import duty will be ruinous for the poor and middle class, do what I do: shout “male-cow excrement!” at the TV.