There is a new tariff in town. Sadly, this is not a one-time event, it is often a daily event. Tariff policy seems to be controlled by a human mood ring. The products subject to tariffs as well as the applied rates change faster than a Tom Brady retirement decision. Shortly after a new tariff is announced, Newton’s third law of motion “For every action, there is an equal and opposite reaction” comes into play as countries on the other side of the tariffs choose to match or to raise the bid with their own levies. In June 2000, London opened the Millenium Bridge, a pedestrian bridge, across the River Thames. Upon opening, the bridge began to sway back and forth, taking on the shape of a giant S, as pedestrians crossed. Locals called it the Wobbly Bridge. The bridge had insufficient dampening of lateral sway. Engineers discovered that pedestrians crossing a bridge with lateral sway tend to match their footsteps to the sway, worsening it. The more pedestrians that were on the bridge, the worse the sway became. International tariff wars follow the same trajectory as the Wobbly.
Ben Stein, in the film Ferris Bueller’s Day Off, lectured a group of dazed high school students on the effects of the Smoot-Hawley Tariff Act passed by Congress in June 1930. The Act imposed tariffs of 40-60% on many imported goods. The tariffs triggered a trade war as other countries matched our footsteps and most economists believe the act worsened the Great Depression. Similar to the bridge dynamics, the policy exacerbated underlying problems in the system. The United States ran a heavily tariffed economy in the nineteenth century and for the first forty years of the twentieth. Post World War II, in an effort led by the British, free trade and expansive worldwide economic growth became the dominant themes. As a result of more than seven decades of these policies, sovereign economies have developed significant international interdependence of supply chains and intellectual property. The “Chicken Tax” of 1962 was introduced as a temporary measure by the U.S. to counter a new German tariff on poultry imported from the U.S. This 25% tariff on imported pickup trucks, which was meant to stop the introduction of the VW pickup truck, was enacted 73 years ago and to this day virtually no pickup trucks are imported into the U.S. Foreign competition in pickup trucks has not materially stifled domestic competition, but an array of clever tariff evasion methods, like not installing seats until vehicles are onshore, hint at what we could expect as a trade war unfolds. As we enter 2025, commercial growth has been supported by the generous monetary policies of the central banks. These low-interest rate policies and increases in the money supply have ended, just as the natural downturn of an economic cycle looms. Coupling a trade war with lingering inflation not only causes economic disruption in local economies, but also poses the threat of stagflation last seen in the 1970’s. It seems all these threatened tariffs are tantamount to knocking over the chessboard angrily before negotiating a serious game or perhaps they are a harbinger of four years of capricious trade policy.
What strategy can a private equity manager pursue to address the tariffs? Any business should do its best to avoid the incoming missiles. If your supply chain is heavily dependent on tariff targets, try to diversify to safer geographies or pursue tariff exempted alternatives, such as certain categories under USMCA. When pricing power permits, negotiate tariff pass through pricing in customer contracts. However, none of this will help on the product demand side, especially as prices increase. If your balance sheet is leveraged, consider the possibility of tariff driven interest rate increases and hedge rates. If you are evaluating new investments, it is safer to buy businesses with heavy domestic content in their product lines. There are many other tactical moves, but no foolproof plan to completely avoid the economic storm a trade war could ignite.
I’m Rob Morris and I approved this blog.