Since the Donald Trump regime took office, the world of international trade has descended into chaos. Exporters to the US don’t know from one month to the next what tariffs will be payable. Sensibly, the EU has been slow to respond. But if the US does not relent, there will be extra tariffs charged on EU exports, on top of the 10 per cent baseline now in place, when the 90 day grace period is up. Any retaliation by the EU could provoke a further increase in US tariffs on EU goods, as happened to China.
The trading environment is very uncertain for anyone planning investment in new capacity. Capricious changes in trading rules by the US could strand what might otherwise be a profitable investment in the EU. Similarly, it is impossible to know whether a new investment in the US makes sense, especially if it depends on high tariff barriers on imports, or on any inputs from other countries. The best approach for investors is to sit on their hands.
Under these circumstances, the result of the trade wars will be a significant and lasting reduction in output in the US and China by the end of the year. The effects on the EU, the UK and the rest of the world will also be negative.
During the damaging trade wars of the 1930s, trade was much simpler. A high share of exported goods was composed entirely of raw materials and components sourced domestically. Today’s production is much more complex and international, with raw materials and intermediate products sourced in a number of countries.
A good example is aircraft. Boeing sources a significant share of the parts for its aircraft outside the US. Ryanair is buying Boeing planes whose engines are jointly produced by a US and an EU company – accounting for 40 per cent of the plane’s costs. Some parts come from Northern Ireland.
If the current impasse with the US is not sorted out, there will be tariffs on the European-made parts incorporated into US-made aircraft, and conversely on imports of Boeing aircraft into the EU. If European-made engines in turn incorporate components made in the US, the additional costs from tit-for-tat tariffs will mount up. Boeing aircraft imported into Europe will face not only the tariffs on the final product, but will also incorporate import tariffs in the US on passenger seats made in Belfast and the semi-European engines. All of this will make these planes much more expensive, and will hardly help Boeing’s sales.
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A similar nightmare is being replicated in other sectors. Ireland is a big supplier of ingredients for pharmaceuticals. In turn, pharmaceutical companies here source ingredients from outside the EU. The supply chain issues, obvious in the aviation sector, are at least as important for medicines.
The complexity of supply chains means that any permanent trade agreements involving tariffs will be very challenging to negotiate. Simple solutions that don’t take account of this complexity will cause chaos.
The UK-US trade deal, announced earlier this month, dealt with none of the complex issues. Not surprisingly, the sophistication of modern supply chains is still to be resolved. One Financial Times commentator suggested that the pact was closer to a protection payment to a mob boss than a liberalising agreement between sovereign countries. Furthermore, producing a comprehensive legally binding agreement will take months, even though the scope is narrow.
Sixty years ago, in a much simpler world, Ireland negotiated a trade agreement with the UK, signed at the end of 1965. It involved more than a year of negotiations, and the files dealing with it, stored in the Irish national archives, are metres thick.
Questions about the origin of goods, and how to deal with parts sourced from other countries, occupied months of discussion. It also took months to resolve other aspects of the deal. One thorny issue was how long a bullock would have to reside in the UK to qualify for UK citizenship, attracting UK subsidies. The answer, eventually, was two months.
This is just a sample of the difficulties involved in negotiating a trade agreement in a much simpler world. Pity the EU negotiators who, in discussions with US counterparts, will try to produce a trade agreement that does minimal damage with today’s complex supply chains. It’s a tough task in a good-faith negotiation, but made much more difficult with a hostile and erratic US negotiating partner.
Some detailed trade agreements are already on the table. A first step in protecting the EU from the trade chaos is to ratify the agreements already reached with Canada and Mercosur.
