Obama administration slaps a tire tariff on China: terrific or terrible idea?

By Money Matters Editors

Some say the new U.S. tariff on China’s tires will be terrific while others say it will be terrible. What’s going on here?

The Obama administration has imposed a 35 percent / 30 percent / 25 percent, 3-year tariff on passenger vehicle and light truck tires from China, arguing that China’s current monetary and economic policies ‘artificially depress’ the cost of China-made tires exported to the U.S., hurting U.S. tire manufacturer sales, resulting in lost jobs. China’s share of the U.S. tire market has risen to 16.7 percent in 2008 from 4.7 percent in 2004.

China, conversely, says it’s doing nothing wrong and will defend its position. China also accused the U.S. of protectionism, or establishing a tax designed to restrict imports into the U.S. “The Chinese government will continue to uphold the legitimate interests of China's domestic industry and has the right to take corresponding measures," Chen Deming, China’s minister of commerce, told the Associated Press.

President Obama’s political base includes organized labor, and Obama was under pressure to impose a tariff from the United Steelworkers union. The union, which represents about 30,000 tire production workers, had filed a complaint with U.S. International Trade Commission.



Tariffs: anti-globalization?


Critics charge the U.S. tariff goes against the natural process of globalization, whereby production is transferred from higher-cost production regions to lower-costs production centers, such as China. Millions of manufacturing jobs in the U.S., in Europe, and in other developed nations have been transferred to China and other lower-cost nations as these nations built plants and connected to global markets for trade. These critics also say that, in addition to increasing inefficiency and keeping tire manufacturing costs high, tariffs will hurt trade, particular if China responds with its own tariffs and a trade war breaks out.

Union leaders and others who support the tariff argue that there’s little that’s fair about China’s trade policy. They argue China’s fixed-rate currency, the yuan, which presently trades at about 6.82 yuan to the dollar, artificially depresses the cost of Chinese tires and other Chinese-made goods: they say China has kept the yuan weak in order to keep the price of its exports below its competitors abroad, in order to grab market share. Economist David H. Wang, a China expert, says the yuan would quickly appreciate to about 4 yuan to the dollar, or strengthen even more - instantaneously increasing the price of China’s exports - if China didn’t artificially weaken it.

“China’s decision to keep the yuan lower is a strategic decision designed to undercut competitors. It is a form of a trade war in itself, although China would not characterize as that,” Wang said. Wang added that he doesn’t want to see tariffs become the norm, as they would hurt already weak international trade, “but the United States had to do something to put China on notice that they have to eventually allow the yuan to appreciate.”

Economic Analysis: Will a trade war ensue between these two economic giants? Probably not. Trade between the U.S. and China is too big to allow the tire tariff to spark a retaliation by China, such as dumping some of the massive amount of U.S. debt they own.

The Bottom Line for investors? Investors should view this as the first volley in the Obama administration’s effort to get China to let the yuan float – something that would lead to its export prices rising to true cost levels. The present fixed-yuan framework is unsustainable because it’s simultaneously flooding the market with too many cheap goods and increasing China’s inflation rate. True, as a creditor nation, China has leverage versus the U.S., but the reverse also is true: if China does not reform its system, and end its ‘monetary mercantilism,’ it risks jeopardizing an economic relationship with the U.S. – one that’s critical for China’s economic growth.