Seth Carpenter: Welcome to Thoughts on the Market. I'm Seth Carpenter, Morgan Stanley's Global Chief Economist.
Rajeev Sibal: And I'm Rajeev Sibal, Senior Global Economist.
Seth Carpenter: Tariffs have been a dominant topic lately – in the news in markets just about everywhere. And today we're going to discuss how they are affecting global trade and the global economy.
It's Thursday, March 27th at 10am in New York.
Rajeev Sibal: And 2pm in London.
Seth Carpenter: Our listeners are well aware that tariffs have been driving much of the economic conversation lately. So far, we have seen a flurry of news on tariffs – but it is probably worth recapping just where we are.
Tariffs were imposed on Chinese imports in the first Trump administration, and they stayed in place through the Biden administration. And now so far in the new Trump administration, an additional 20 percent tariffs have been put on Chinese imports. Tariffs were announced on imports from Colombia but removed before implementation. Tariffs on imports from Mexico and Canada were announced and then delayed; and then enacted and then suspended. All pending negotiation among the governments.
Rajeev Sibal: Don’t forget about tariffs on steel and aluminum.
Seth Carpenter: Oh, that's a really good point. So, a lot has already happened. The administration has also announced that next week on April 2nd, there will be a whole slate of reciprocal tariffs imposed. Rajeev, let me turn to you on that. What do we know – and what do we not know about the prospect for these reciprocal tariffs?
Rajeev Sibal: I actually think that's the right question: What do we not know? Reciprocal tariffs – it really depends on the definition you're using. If you're gonna take a[n] explicit definition and think about it in terms of the reciprocal quantitative tariff between two countries, the United States actually doesn't have lower tariffs than many other countries. Actually, most of our trading partners are in free trade agreements. And so, as a result, like with Mexico, there are not standard tariffs across most products.
The countries where the United States is facing higher tariffs – when they export goods – are actually countries that we do not do a lot of trade with. And in fact, as the discussion has started to increase around reciprocal tariffs, we've seen a number of countries start to rethink about how they think about tariffs as well.
If we by chance, take a wider definition of reciprocal tariffs, and think about it in a more qualitative sense in terms of regulatory policy, tax policy, or other aspects of inequal trade …
Seth Carpenter: Oh, so this is where, for example, the administration has alluded to maybe looking at Value Added Taxes as part of the reciprocity and also looking at so-called non-tariff barriers. Is that what you mean?
Rajeev Sibal: Exactly. Non-tariff barriers is the best way to think about this. If we think about reciprocal tariffs in terms of non-tariff barriers, then the scope of reciprocal tariffs becomes much, much wider. And this is the big question mark that we're focused on ahead of April 2nd. What is the width and depth of the tariff discussion?
Seth Carpenter: Okay. But we do also know a little bit about the effect that tariffs have and what they do to the economy. I mean, basically you and I are both economists and so when we think about tariffs – tariffs are just a tax.
So, they can push up prices, they can reduce the amount purchased of whatever is taxed. But reality is often a lot more complex. What gets a tariff and what doesn't? How that affects trade? What gets diverted and what doesn't? All of that seems to matter a lot, doesn't it?
Rajeev Sibal: Yeah. And we've spent a lot of time digging through the data, trying to figure out what is happening, what are the patterns of trade, and more importantly, what are the patterns of production so that we have a better idea of what changes might be in store.
Seth Carpenter: Okay. But if we take a step back. So, there were tariffs imposed on imports from China in the first Trump administration. And we know that something like one-third of the goods tariffed were finished consumer goods and about two-thirds were capital goods or other inputs that go into U.S. manufacturing.
How do you think we should be thinking about a broader slate of possible tariffs? Is that gonna create just a wholesale rewiring of the global trading order?
Rajeev Sibal: I think this is the big challenge. One of the goals I think of these tariffs is try and introduce manufacturing capacity back into the United States. And indeed, you know, there's this concept of nearshoring, which was partly a focus after the last round of tariffs; as you alluded to, when capital goods came under the tariff umbrella, there was an effort to relocate productive capacities. What we've seen in this concept of nearshoring is that a lot of the focus was on sectors where productive capacities already existed.
And when you started to try and move to adjacent sectors, you didn't actually have a lot of the buy-in and investment that you would've expected with a broader nearshoring concept. So, if the tariffs this time are in a wider capacity, then there becomes a question of whether or not there will be productive capacity refocused in other regions.
And if it does happen, then okay, you have to invest. You have to think about where you're gonna shift that production and how long it's gonna take. But if it doesn't happen, then to your point, it becomes like a tax; and it just increases the prices of goods that are being purchased.
Seth Carpenter: Okay. So, if I'm understanding you correctly, we did see tariffs before. We also saw some disruptions from COVID. We saw some shifts in the way that businesses were orienting their supply chains. Some of that has already been done. You're saying that the second phase then is what?
Rajeev Sibal: You know, we're gonna have to go sector by sector and companies are going to have to decide if they want to shift the factor of production. One of the things we analyzed in our note, which did a broad-based deep dive into all global trade products – is figure out which sectors are more and less likely to be able to shift. And semiconductors, which has been in the press quite frequently, is a sector that the United States has been trying to invest in but has not really shifted so far because there's a lot of complexity and concentration in the supply chain right now. So, semiconductors are an example of a sector that we think will just take a long time to move the factors of production.
If you're looking at automobiles, perhaps that's a little bit easier because you have that capacity in a place like Mexico or in other regions of the United States. So, I think it's very sector dependent and we're going to get different outcomes across different sectors depending on whether or not it's easy to move that production.
Seth Carpenter: Okay. And easy to move that production. You mentioned complexity and concentration. Is that sort of the key framework we should be thinking about for which sectors could relocate, and which ones can't?
Rajeev Sibal: That's the way we frame it – is that if a product is highly concentrated or it's really complex to make, the ability to reproduce that product elsewhere becomes harder and harder.
Seth Carpenter: Got it, got it. What about other regions? So, I mentioned China as a focal point. What can you tell us about Asia? Do we see any key takeaways in terms of trade policy for Asia?
Rajeev Sibal: Asia's really at the epicenter of the trade focus. We see that China has actually taken a leadership position in most products around the world. Almost all manufactured goods have some link to China one way or another. And so, by putting tariffs on China, the question becomes who else can produce these goods? We've seen some efforts to relocate production to Vietnam, to India, and some of the other countries around the region.
But China is a very large country, and their productive capacity is very large. So, the amount of time it will take to shift is actually probably gonna be very long. And so, we just think that there's going to be a long adjustment period. And, more broadly, it'll take a long time to find alternative sources of production away from China. And so, we do think this is going to be disruptive in the near term.
So, changing patterns of trade will have material implications for all production in all goods consumption in the world and in the U.S. So, what does that mean for the U.S. economy, Seth?
Seth Carpenter: I have to say the uncertainty that you mentioned before is here for the U.S. economy as well.
Where do we end up, I think is a hard question to answer. What do we know? Well, like I said before, we know that tariffs can raise prices even though the effect on inflation tends to be temporary. But if we end up with a whole series of tariffs escalating over the rest of this year and maybe into next year, then that boost to inflation, which might otherwise be temporary, could actually last for a few quarters.
Similarly, we know that some of the goods that we import into this country go into production that happens in this country. So, you get a hit to U.S. production that's worse for employment, it's worse for output. That's gotta slow the economy.
So, we take very seriously that these tariffs are likely to escalate from here, especially against China, and that is gonna mean slower growth in the U.S., higher inflation for a while. And I have to say for the Federal Reserve, that puts them in quite a bind because what they're hoping for is lower inflation and continued strong growth, and we're gonna go in the opposite direction. Some higher inflation and some weaker growth with the central bank having to sit back and wonder – how is this all going to end?
But I have to say, why don't we end it here. Rajeev, thanks for coming in. It was great to talk to you.
Rajeev Sibal: Thanks for having me. It was great to speak to you
Seth Carpenter: And thank you for listening. If you enjoy Thoughts on the Market, please leave us a review wherever you listen and share the podcast with a friend or a colleague today.
Thoughts on the Market is also available on Apple Podcasts, Spotify, Google Podcasts and other major podcast platforms.
For more Ideas, visit www.morganstanley.com/ideas
