At its core, a tariff is a tax designed to protect a local industry from foreign competition and allow local firms to compete on a relative level footing. It is not (and has never been) an equalisation mechanism to balance trade between countries.
The vast majority of economists agree that there is a (limited) place for tariffs in international trade, particularly if there is unfair Government intervention on one side of the equation. For example, it is difficult to compete if a foreign Government subsidises an industry to the point where it can export its goods at artificially low prices into another country. The imposition of tariffs, in this case, reduces the incentive to flood the market as the local producers can sell for the same amount (or cheaper).
Where it makes no sense is to impose tariffs where there is no industry to protect. In the case of the recent ‘Trump tariffs’, a tariff of 10% on products from Guatemala will hit their major exports of bananas and coffee, making it more expensive for US consumers. If it were to protect the US coffee and banana industries there might be some logic to it, however these industries are tiny in the US. All the tariffs are likely to do is make staples like coffee and bananas go up for US consumers without any benefit.
The same logic can be applied to a number of countries on Trump’s reciprocal tariffs list (which aren’t actually tariffs but a measure of trade imbalances). The US imports diamonds from poor countries like Lesotho and Botswana, however the new tariffs punish these countries for not buying the same amount in return. Adding to the confusion is countries like Australia, which buys more from the US than it sells, is still hit with a 10% tariff.
The stock markets, not unexpectedly, have reacted wildly to the ‘Liberation Day’ tariffs, particularly as there is no clarity as to whether the tariffs will last a day, week, month or longer. The 90 day pause on higher tariffs (>10%) except for China saw the equity markets spike, along with bond yields, potentially indicating an awakening that the US can no longer be considered a ‘risk free’ market.
Retail stocks were especially hit hard on the fear that products currently enroute in sea containers from overseas manufacturing hubs are going to cost a lot more, particularly from China. Higher prices and future lower demand, particularly for ‘nice to have’ items, will be scaring both large and small retailers across the country.
Retailers fully understand that price is the number one issue for consumers and that a massive increase in price for items that can’t be manufactured in the US will put the brakes on sales. Lower sales may lead to layoffs and closures, particularly if there isn’t a quick, cheap way to onshore production.
For commodity prices, many operate within a relatively tight supply-demand band. Global pricing tends to add or shed production relatively quickly as a result in demand changes. Many economists are forecasting a potential recession in the US this year, which will have global flow on effects.
Slowing of the global economy will decrease demand for most commodities, from iron ore to copper, nickel and lithium. Lower commodity consumption will hit the higher cost producers disproportionately, so keen contrarian investors might be wise researching lowest quartile producers that will be ready to capitalise as the markets strengthen.
The Gold price tends to behave slightly differently to other commodities given its secondary (or often primary) role as a store of value. In times of volatility and uncertainty, gold has been the ‘go to’ commodity for those looking for something ‘real’ to sustain value. This seems to be the case in the current environment, with the price of gold hitting all-time highs.
Commodity pricing is likely to have an even greater impact on Environment, Social and Governance (ESG) initiatives in this new tariff era. Where many investors were demanding the highest level of ESG compliance just a few years ago, potential lower demand/pricing/sales may see ESG programs deferred or trimmed back in order to focus on profitability. No one knows what the weeks, months and years ahead look like and whether the new ‘normal’ looks anything like normal. Disruption and chaos are reigning supreme. As with most corrections, the other side is likely to see a flight to quality stocks and those that have less exposure to economic headwinds. Quality research will be key to understanding which companies have been oversold and which represent fair value.
