Trump’s Trade-Policy Uncertainty Deters Investment

Many companies are reassessing spending plans.

President Donald Trump has upended US trade policy: the particulars include a US pullout from the Trans-Pacific Partnership (TPP), threats to jettison the North American Free Trade Agreement, a refusal to affirm new World Trade Organization judges, tariff hikes on steel and other goods, frequent rhetorical attacks on major trading partners, and a wrong-headed obsession with bilateral trade deficits.

Trade policy under the Trump administration also has a back-and-forth quality that undermines a rules-based trading order. Less than three months after withdrawing from the TPP, the president said he would consider rejoining for a substantially better deal, only to throw cold water on the idea a few days later. Initially, the administration justified steel tariffs on the laughable grounds that Canada, for example, presents a national security threat. Later, President Trump tweeted that tariffs on Canadian steel were a response to its tariffs on dairy products. On August 10, the president tweeted that he “just authorized a doubling of Tariffs on Steel and Aluminum with respect to Turkey” for reasons unclear. (For a fuller account of tariff to-ing and fro-ing under the Trump administration, read the Peterson Institute’s “Trump’s Trade War Timeline: An Up-to-Date Guide.”)

The rhetorical attacks and capricious nature of the Trumpian approach to tariff policy also invite retaliation. Tit-for-tat tariff hikes between the United States and China are well underway. Canada, Mexico, and the European Union have also imposed new tariffs on American imports. Many of the retaliatory tariffs fall on American farmers, prompting the administration to promise up to $12 billion in aid to help farmers cope with the fallout from the president’s trade-policy battles.

Needless, added complexity is another feature of Trump administration trade policy. The Department of Commerce has rolled out a slow-working, burdensome process for requesting exemptions from the new steel and aluminum tariffs, as neatly recounted in a Wall Street Journal editorial:

. . . companies must submit a request attesting that their imports aren’t made in the US in “a satisfactory quality” or “sufficient and reasonably available amount.” Companies must state the uses for their steel product, their average annual consumption of the product, as well as the number of days required to take delivery, manufacture and ship the product. They must also estimate the maximum and minimum composition of 24 chemical elements in their products including molybdenum, antimony and vanadium. There are dozens of other queries, but we’ll spare you.

Oh, and a separate request is required for each width, length, grade shape, and form of steel or aluminum product. A single company, Primrose Alloys, has submitted more than 1,200 steel product requests, according to Commerce’s database. All 14 that have been reviewed so far were denied.

Businesses may also submit statements to support their requests, which naturally turn political . . .

Crony capitalism, political favoritism, and extra sand in the gears of commerce, here we come!

One consequence of all this is a tremendous upsurge in anxiety and uncertainty about trade policy and its economic fallout. The chart below displays an index of US trade-policy uncertainty (TPU) that I developed with Northwestern’s Scott R. Baker and Stanford’s Nicholas Bloom. It reflects the monthly frequency of articles in US newspapers that discuss both economic policy uncertainty and trade policy. Since Trump’s election in November 2016, the average TPU index value is up nearly fivefold relative to 2013–15. The full history of the US TPU index (available back to 1985 at policyuncertainty.com) shows no other comparable surge except from 1992 to 1994, which was due to concerns surrounding the introduction of NAFTA.

The chart also shows an analogous TPU index for Japan that I developed with the International Monetary Fund’s Elif C. Arbatli, Naoko Miake, and Ikuo Saito and Research Institute of Economy, Trade and Industry fellow Arata Ito. Movements in the two TPU indices have been remarkably coherent since Trump’s election. Both countries’ TPU indices surged on Trump’s surprise election victory in November 2016, at his presidential inauguration and withdrawal from the TPP in January 2017, and during the escalation of trade-policy tensions since February 2018.

Synchronized uncertainty
Both Japan and the US have experienced similar swings in uncertainty about trade policy since President Donald Trump’s election in 2016.

The exhibit reinforces two conclusions: first, the surge in trade-policy uncertainty since November 2016 emanates from a course change in the US. Second, the US shift is reverberating around the globe.

Two questions raised by these developments are whether, and how, companies are reassessing their capital-investment plans in light of recent tariff hikes and fears of more to come. By raising input costs, domestic tariff hikes undercut the business case for some investments. Of course, tariff hikes might also raise domestic investment in newly protected industries. Retaliatory tariff hikes by trading partners affect domestic investment by curtailing the demand for US exports. An uncertain outlook for trade policy gives companies in all industries a reason to delay investments while they wait to see how trade-policy disputes unfold. The complexity and discretionary nature of tariff exemptions further compounds the uncertainty facing business decision makers.

The monthly Survey of Business Uncertainty (formerly the Survey of Business Executives), fielded by the Federal Reserve Bank of Atlanta, offers some evidence on these matters. The SBU reaches out to around 1,000 US private companies, representing all sizes, sectors, and states. It elicits information about each company’s expectations and uncertainty regarding its own future capital expenditures, sales growth, employment, and costs. I developed the SBU in collaboration with Stanford’s Bloom and David Altig, Mike Bryant, Brent Meyer, and Nick Parker of the Atlanta Fed.

The July 2018 SBU includes the question “Have the recently announced tariff hikes or concerns about retaliation caused your firm to re-assess its capital expenditure plans?” Yes, said about one-fifth of our respondents.

The share of companies reassessing their capital-expenditure plans because of tariff worries is higher for goods-producing companies than service providers. It’s 30 percent for manufacturers and 28 percent in retail and wholesale trade, transportation, and warehousing. In contrast, it’s only 14 percent among all service providers in our sample. These sectoral patterns make sense, given that manufacturing companies, for example, are more engaged in international commerce than most service providers.

We also asked companies how they are reassessing their capital-expenditure plans in light of tariff worries. The chart also provides information on this issue. Among companies reassessing, 67 percent have placed some of their previously planned capital expenditures for 2018–19 “under review,” 31 percent have “postponed” or “dropped” previously planned expenditures, 14 percent have “accelerated” their plans, and 2 percent (one company) added new capital expenditures.

Finally, we asked companies how much tariff worries affect their previously planned capital expenditures. Among companies reassessing, an average 60 percent of their capital-expenditure plans are affected. The predominant form of reassessment is placing previously planned capital expenditures “under review.”

Let’s sum up the US survey evidence: about one-fifth of companies in the July 2018 SBU say they are reassessing capital-expenditure plans in light of tariff worries. Companies among this one-fifth have reassessed an average 60 percent of capital expenditures previously planned for 2018–19. The main form of reassessment thus far is to place previously planned capital expenditures under review. Only 6 percent of the companies in our full sample report cutting or deferring previously planned capital expenditures in reaction to tariff worries. These findings suggest that tariff worries have had only a small negative effect on US business investment to date.

Tariff worries
An uncertain outlook for trade policy has prompted some US companies to revisit capital-spending plans.

Still, there are reasons for concern. First, 30 percent of manufacturing companies report reassessing capital-expenditure plans because of tariff worries, and manufacturing is capital intensive. So, the investment effects of trade-policy frictions are concentrated in a sector that accounts for much of business investment. Second, 12 percent of the companies in our full sample report that they have placed previously planned capital expenditures under review. Thus, the negative effects of tariff worries on US business investment could easily grow.

Third, trade-policy tensions between the US and China have only escalated since our survey went to field. On July 6, the US began imposing tariffs on $34 billion worth of Chinese imports, with another $16 billion scheduled to take effect on August 23. China responded by imposing tariffs on $34 billion in US exports, coupled with threats to slap new tariffs on an additional $16 billion. On July 10, the US Trade Representative released a list of imports from China subject to a new 10 percent tariff after hearings in August. China promptly vowed to retaliate. Later in July, President Trump said he was ready to impose tariffs on all Chinese imports, which exceeded $500 billion in 2017. On August 1, the president directed the USTR to consider raising tariffs on $200 billion of Chinese imports from 10 to 25 percent. China responded by threatening additional duties on $60 billion worth of US imports, and warning that it could adopt further countermeasures. These developments suggest that the negative effects of tariffs and tariff worries on US business investment could grow much larger.

What about the effects of Trumpian trade-policy uncertainty on business investment in other countries? A recent Reuters survey of Japanese companies offers some evidence. (Many thanks to Arata Ito for alerting me to this survey and for summarizing the results in English. Read “Japan exports to US fall, business mood sours amid fears of trade war” at Reuters for a related article.)

The Reuters survey, conducted from July 2 to 13, includes this question: “How is your firm likely to change its previously planned capital expenditure for the [2018] fiscal year in response to rising trade tensions between the US and China and Europe?” Some 253 large and medium-sized companies responded.

Three results: First, 24 percent of respondents to the Reuters survey reported a wait-and-see stance. That is, they may defer or cut their previously planned capital expenditures for fiscal year 2018 in response to trade-policy tensions. Second, the share of companies adopting a wait-and-see stance is larger for manufacturing companies, echoing our finding in the SBU. Third, about half the companies that produce iron and steel, nonferrous metals, textiles, pulp, or paper are taking a wait-and-see stance. In short, the survey evidence says that Trumpian trade-policy uncertainty also discourages business investment abroad. This type of response in other countries dampens the demand for US exports.

Fortunately, the negative investment effects of Trumpian trade-policy uncertainty appear to be modest thus far, and they occur against a backdrop of strong macroeconomic performance—at least in the US. Under less favorable circumstances, or if trade barriers continue to rise, the current approach to trade policy has the potential to cause a good deal more economic pain. And the harmful consequences of tariff hikes and trade-policy uncertainty extend well beyond short-term investment effects.

Steven J. Davis is William H. Abbott Distinguished Service Professor of International Business and Economics at Chicago Booth and senior fellow of the Hoover Institution at Stanford University. A version of this essay first appeared on EconBrowser.

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