Supply Chain Analysis
As trade barriers break up, world-wide supply chains, the real costs are higher prices and fewer choices for consumers says Greg IP, my favorite WSJ author.
Globalization in Reverse
Please consider That Noise You Hear Is the Sound of Globalization Going Into Reverse by Greg Ip. I reordered some paragraphs below.
While globalization is routinely portrayed as bad for U.S. workers, the truth is more subtle. Routine, blue-collar jobs do get outsourced but high-end research, marketing and design work gravitates to the U.S.
Canadian steel uses iron ore from Minnesota, so Mr. Trump’s tariffs hurt both. About 17% of the value of Mexican-made cars exported to the U.S. originated in the U.S., according to Bruegel, a Brussels-based think tank.
Beckett Gas Inc., family-owned manufacturer of components for boilers, furnaces and water heaters, has over the years shifted production from abroad to its Cleveland-area factories. By continuously improving its production process, it has avoided price increases and now sells all over the world.
But that arrangement has been endangered by the 25% tariff on imported steel, the dominant input into Beckett’s products. “There are only foreign competitors to what we do,” Morrison Carter, the company’s chief executive, says. Those competitors now have a 25% cost advantage.
Assembling an iPhone entirely in the U.S. out of American-made components would add up to $100 to its cost, according to a 2016 article in MIT Technology Review. This assumes, of course, Apple successfully relocates its supply chain. When, under pressure from the Obama administration, it began assembling computers in Austin, Texas, it encountered numerous quality-control and workforce headaches.
Of course, supply chains that took years to take shape won’t change location overnight. Businesses still hope the protectionist wave burns itself out, and the logic of globalization reasserts itself. But a growing number are no doubt drawing up backup plans that look a lot like Harley’s.
Spotlight iPhone
The Conversation reports We estimate China only makes $8.46 from an iPhone – and that’s why Trump’s trade war is futile.
When an iPhone arrives in the U.S., it is recorded as an import at its factory cost of about $240, which is added to the massive U.S.-China bilateral trade deficit.
IPhone imports look like a big loss to the U.S., at least to the president, who argues that “China has been taking out $500 billion a year out of our country and rebuilding China.” One estimate suggests that imports of the iPhone 7 and 7 Plus contributed $15.7 billion to last year’s trade deficit with China.
But, as our research on the breakdown of an iPhone’s costs show, this number does not reflect the reality of how much value China actually gets from its iPhone exports – or from many of the brand-name electronics goods it ships to the U.S. and elsewhere. Thanks to the globe-spanning supply chains that run through China, trade deficits in the modern economy are not always what they seem.
China’s Biggest Exports
Who Really Makes the iPhone?
Start with the most valuable components that make up an iPhone: the touch screen display, memory chips, microprocessors and so on. They come from a mix of U.S., Japanese, Korean and Taiwanese companies, such as Intel, Sony, Samsung and Foxconn. Almost none of them are manufactured in China. Apple buys the components and has them shipped to China; then they leave China inside an iPhone.
So what about all of those famous factories in China with millions of workers making iPhones? The companies that own those factories, including Foxconn, are all based in Taiwan. Of the factory-cost estimate of $237.45 from IHS Markit at the time the iPhone 7 was released in late 2016, we calculate that all that’s earned in China is about $8.46, or 3.6 percent of the total. That includes a battery supplied by a Chinese company and the labor used for assembly.
The other $228.99 goes elsewhere.
That’s it. Of the $237.45 attributed to China as an import, China gets $8.46. The result is US imports from China are overstated by $15- to $16-billion on the iPhone alone.
The Conversation concludes:
Trump’s trade war is based on a simplistic understanding of the trade balance. Expanding tariffs to more and more goods will weigh on U.S. consumers, workers and businesses. And there’s no guarantee that the final outcome will be good when the dispute ends.
This is a war that should never have been started.
Trade and Supply Chain Math
Trump understands neither trade nor supply chain math.
The US is a huge beneficiary of China’s role in assembling the iPhone. As per Greg Ip’s article, the US benefits greatly from auto manufacturing in Mexico.
Trade Math Gone Haywire
In Trump Reverses Course, Promises “Great Trade Deal” With UK I posted this amusing chart.
The US and and UK both claim to have a trade surplus with each other. Of course, that is impossible. And it highlights how silly these discussions are. I offered this “perfect solution”.
Perfect Solution
Change the methodology such that trade surpluses and deficits cease to exist anywhere. If anyone can do that, Trump surely can.
My sarcastic comment aside, Trump’s trade math is wrong on numerous fronts. Yet, even if corrected, the US will still have a deficit.
So what?
Make Trade Math Great Again
As I suggested, let’s revise the math to make it work, declare victory, and praise Trump for his brilliance (which is all his ego demands anyway). Then we can stop the trade war madness.
Make trade math great again. That’s all it takes.
Mike “Mish” Shedlock
I think you are looking at the $8.46 through the wrong lens. The average Chinese factory worker is being paid about that amount per day. They then pay for food, clothing and housing. China not only gains a skilled worker but it also supports the larger economy. The workers skills are transferable to other Chinese industries like their military.
China is also able to promote their trade policy of ‘one belt one road’. China maybe able to supplant the US in the Middle East based on trade and not military intervention. Iran is now connected to China by rail and a port on the Caspian Sea. It is not the $8.46 it’s everything that flows from it.
Trump doesn’t do math. He can’t even get basic numbers right. The USA has a trade surplus with Canada and the EU if you count services. The USA has a huge trade surplus in goods with Canada if you leave out the crude oil. The EU and the US both have average tariffs of 1.6%. The US only pays 22% of NATO’s budget! The US has an uncompetetive cost structure because of the medical and education scam, not to mention crony corruption and military expenditures. Moreover, other countries have a value added tax, which automatically encourages export and discourages import on the exact value added, which is the component being highlighted in Mish’s article.
“As trade barriers break up, world-wide supply chains, the real costs are higher prices”
60,000 U.S. factories have closed. The real cost is that unemployed U.S. factory workers can’t afford to buy certain things, even at lower prices.
What percentage of Americans don’t have enough savings for an emergency, as they are living pay check to pay check on a low income job in a town where a factory closed?
“Free markets are great but reality is anything but.”
Thank you for that breath of fresh air, BlauGloriole. Mish is highly perceptive on a lot of topics – but whenever President Trump’s name is associated with anything, he heads towards the nearest cliff and pushes the accelerator to the floor.
It is overwhelmingly obvious that global trade pre-Trump was not some kind of Free Trade utopia. Instead, we had highly managed trade, with strong disadvantages to US producers. Those freebies to other countries may have made sense 30 & 40 years ago, but all they do now is hurt US workers. President Trump did not start a trade war – he started fighting back!
It is also obvious that tariffs are only a small part of the impediments to real Free Trade. The big issue is non-tariff barriers – such as China’s declared program to “Build it in China”, regardless of economic efficiency. Or consider Japan, where the social pressure against driving an imported car is such that most imports are Japanese brands built in places like Malaysia.
Mish clearly is a true believer in Free Trade. It would be surprising that he has such a flawed view of the topic – except that his judgment is clouded by that “Trump” word.
I don’t think so, he’s a true believer.
I think Trump knows the tariffs as currently constructed will do harm if left in place. I think he’s betting on China giving in and maybe the end result will be China importing more chevys and fords.
Globalization and associated supply chain systems have benefited corporate management and owners the most. Corporations are entities unto themselves and allegiance to countries minimal. Corporate interests have tremendous influence on governments. Who is working for whom? Why is the labor participation rate so abysmal? Why is income disparity at historic extremes? Start asking questions about monopolistic arrangements, unequal sourcing rules, unequal tax regimes, unequal access to ridiculously low cost money and then perhaps one will get closer to the truth. Free markets are great but reality is anything but. Stop wasting time on futile discussions about idealized concepts.
I have worked both as an engineer and as a banker. In both I learnt and innovated most by doing the details myself. The learning and growing was in the details. Shipping manufacturing elsewhere is only a first step towards losing your edge. German and Japanese products are of high quality because in large measure they retain detailed involvement in every step of design, manufacture and delivery. Deming figured this out a long time ago. The book “Zen and the art of motorcycle maintenance” alluded to the stupidity and arrogance of using a beautiful machine without any understanding.
I doubt the IQ of 50% of Chinese is low but perhaps ignorance due to lack of schooling. All of the people from China I know (Seattle area) seem to have a higher IQ than most Americans I know.
Now THAT’S an interesting topic, what to do with all the idle hands the new economy will continue to create. I think the elites are angling for general population decline, but how they go about that isn’t clear yet. Wars can spiral out of control and pandemic seems out of the question, so it looks like a combination of low to medium intensity conflicts, low birth rates, and a general malaise that encourages people to check out is in the offing.
We’re also dealing with the effects of Fed-induced cheap money. People were able to bid housing into the stratosphere, so why work for $8/hr if houses start at half a mil and rents start at $1500/mo in your area? How do people bridge the wealth gap to reach those with access to the Fed window? Gonna be interesting fallout in the future for sure.
Oh, and according to the BLS less than half the country is currently in the workforce. How much further can that number fall before weird stuff starts to happen?
Half the population is below average IQ – repetitive jobs are needed. Worse to come is automation.
How can China steal something that was traded freely? If US-based corporations are comfortable with technology transfers, just assume the price was worth it to them and move on.
Also note that Chinese companies have made flagrant rip-offs of cars and other foreign products with little/no repercussions. That’s usually because foreign corps feel this cost is worth it and part of the price of admission into the Chinese market.
If you have issues with any of this, the Chinese are not your enemy. Your economic betters here in the US made all of this possible, so it would make a lot more sense if your anger were directed toward them.
What a load of hogwash. Greg Ip doesn’t know what he is talking about. Production and R&D both moved to China/Asia thanks to “globalization”. The USA’s practice of buying over-educated, desperate immigrants on H1 visas happy to be pressured into a 70 hour work week, is not “gravitation of blue collar, research and design work”. Casting a wider global view, it’s clear to the engineering community, that the design and development associated with technological manufacturing moved to China a long time ago. In fact the Chinese are set to become the new leaders in many technology fields (in part because it was able to steal that technology from the West in the first place – just as science is always “stolen or gleaned” between competing corporations). Meanwhile the only “design work” technology still growing in the West of the world centers around supplying intangible web-based applications to the service industries. If the USA didn’t have entrenched industries like Intel and a war-industry protected by ITAR policies the argument about where the technology went would be a lot more obvious.
Trump’s trade logic really makes sense to me, I mean, why should we let Germany and Mexico sell us cars when we can make the cars here. But that got me thinking, why should we here in Virginia allow Michigan, South Carolina, and Tennessee sell us cars tax free when they could be manufactured right here in the Commonwealth? And for that matter, why are we allowing people from Pennsylvania and Maryland to flood across our border and invade our state, taking our jobs, filling up our schools and hospitals? Virginia first!
This makes no sense to me. “Of the $237.45 attributed to China as an import, China gets $8.46.” So the $375b deficit is really under $20b? $50b? $100b? If so, how do you account for the Chinese foreign reserve increase?
Is this El-Erian guy any good? El-Erian said that earlier this week, which ended in relative terms, we are winning and we will win the trade war,” according to CNBC.
Everyone here must be way brighter than Mo.
“There is no legal remedy” Correct but there is a practical one: Praise Trump’s brilliance and declare victory
Good analysis Mish. Here is a link to another on tariffs and trade balances:
Key section:
Suppose an American business loads $100 million worth of goods it produced onto a cargo ship. When the ship leaves the country, it is credited to the current account as an export of $100 million. Now suppose that the business sells the goods to France; after shipping and other costs, the business makes a 20 percent profit selling to French customers.
The business now has $120 million it can use to make purchases in France. Suppose they decide to purchase wine, load it back on the now-empty cargo ship, and return to the United States; the value of the imported wine ($120 million) is debited from the current account. The business now sells the wine to its American customers, making another $10 million in profit. The business has made $20 million from the original sell of the goods in the cargo ship, and another $10 million from selling the imported wine, for a net profit of $30 million.
According to the current accounts, America has exported $100 million to France and imported $120 million from France—resulting in a so-called trade deficit of $20 million. But, we can see that the American business is clearly better off by having made these exchanges, $30 million better off.
Suppose in the next month, the American business sends another cargo ship to France with another $100 million worth of goods. But unfortunately, the entire ship sinks before it reaches France, leaving the business at a total loss. The $100 million export was credited to the current account; because there is no corresponding import, the national accounts show a trade surplus of $100 million. We can agree that no one has been made better off here, even though the accounting identity shows a trade surplus.