Tariff talk: Supply chains suffer unintended consequences

Assistant Professor of Supply Chain Management Robert Wiedmer and fellow researchers figured that, even if the details and timing of tariffs were uncertain, the mere proposals make companies nervous and prompt them to act sometime, somehow.

Trade wars, threats of tariffs, and escalating costs of tariffs have made headlines since 2017 when the Trump administration rode protectionist policies into office and Great Britain announced plans to leave the trade-friendly European Union. The United States and China soon imposed tariffs on each other’s goods, and global manufacturers like Nissan Motor Co. and Bissell reconsidered foreign investments or accelerated their switch to suppliers in lower-cost countries.

In today’s global economy, the effect of tariffs and trade wars on supply chains is undoubtable. But how to evaluate those effects and their unintended consequences has been another matter.

Assistant Professor of Supply Chain Management Robert Wiedmer and fellow researchers wanted to understand how talk of tariffs affected trade patterns and supply chains. They figured that, even if the details and timing of tariffs were uncertain, the mere proposals make companies nervous and prompt them to act sometime, somehow.

Wiedmer collaborated with Mikaella Polyviou, also an assistant professor of supply chain management, and co-authors from Marquette University, Portland State University, and Colorado State University to create a framework that companies and policymakers could use in looking at what effects, besides the obvious increase in costs, tariffs have on supply chains.

“When you announce a tariff or a potential increase, there’s more to it, and the one big thing we think that’s important is the element of uncertainty,” Wiedmer says. “That’s what we heard consistently from companies. Even if tariffs are not in place, they start thinking about what to do, and that has implications on supply chains.”

Supply chains developed years and sometimes decades to become efficient, he notes. But if tariffs make one link in the chain cost-prohibitive and an alternative source is not available, managers face choices that may hurt the final product’s price, quality, or availability.

Previous research had looked at the added cost of tariffs, or at the impact lower tariffs and trade barriers had on global supply chains. Wiedmer’s team suggests a new, multidimensional way of looking at tariffs and tariff announcements. Besides cost, they say, an important dimension is the behavioral effect tariff announcements have on supply-chain managers’ decisions on how quickly to respond and whether to form or cut ties with suppliers. Those decisions may help a company circumvent a tariff’s added cost, but they also may add complexity to the supply chain.

“Managers think about strategies and how to prepare for tariffs,” Wiedmer says. “And supply networks are not necessarily stable or fixed. They change, and once you discuss trade barriers such as tariffs, you threaten this very fragile structure of companies. These supply chains can easily break.”

Considering tariffs’ severity, uncertainty, and scope

Tariff increases have three key attributes, the research team says:

1. Severity, and whether a tariff’s severity is low or high. Managers would likely consider a tariff that causes a 1% increase in a good’s cost to be low in severity, but tariffs of, for example, 25% or even 100% would rank high in severity. Severe tariffs can raise a firm’s total costs, including product price, transportation, and storage, and lower a firm’s competitiveness.
2. Timing uncertainty, or the unpredictability of when a tariff would start and end, and the likelihood that the tariff would even be imposed. Managers would likely hesitate to react to vague hints at tariffs, but they may take exaggerated actions, such as stockpiling inventory, when tariffs appear more definite.
3. Geographic scope, or the number of markets subject to the tariff. Because a tariff can be aimed at imports from one country, such as China, or one product, such as steel, that is imported from many countries, a tariff’s geographic scope can determine how many alternative sources a manager has for a certain good.

Based on those attributes, the team expects supply-chain managers to react to tariffs in one of four ways. When a tariff is highly severe and the uncertainty of it is low, managers would have a swift response. In this scenario, managers say, “I’m pretty sure I know what will happen, so I need to quickly respond because there is competition out there that is just waiting to secure alternative suppliers,” Wiedmer explains. In this environment, firms are most likely to make changes in their supply chains, forming new ties with alternative suppliers and deleting ties that are subject to the new tariff.

When a tariff is highly severe but highly uncertain, managers would act at moderate speeds to begin securing alternatives. “You probably don’t want to cut the relationship to your tariff-affected suppliers, but you also might want to look for substitutes elsewhere,” he says. Managers may form preliminary ties with new suppliers that aren’t subject to the tariff or negotiate with existing suppliers to mitigate the tariff’s effect. The result is that contracts become more complex, costs rise, and the supply chain becomes less efficient than before. Wiedmer calls severe but uncertain tariffs the most dangerous scenario because it causes the most headaches for supply-chain managers.

A tariff with low severity and high uncertainty would prompt managers to react slowly and take a wait-and-see approach. They consider whether the possible tariff increase is worth the time and effort it takes to look for alternative suppliers. Few ties are formed or deleted, and the supply chain’s complexity remains the same.

A tariff that carries low severity and low uncertainty would lead to a deliberate response. Managers would respond only if they know of a good alternative, especially if the product they buy is a commodity. Otherwise, they likely would absorb the extra cost in the interests of keeping their supply chain intact.

Tariff attributes, scenarios useful to managers

Wiedmer says supply-chain managers can use these three attributes and four scenarios to evaluate the effects of different tariffs on their supply base. “This is not only about looking at the bottom line of your company or the price of your product. Even if you are sure after switching suppliers that the product cost will not change, what does it do to your supply base?” he says. “If you add a step or a supplier in another country, that adds complexity that needs to be managed.” Complexity could mean a higher likelihood of disruptions, a high risk of failure, or an operation with more negative effects on the environment or workers.

In any case, the team also sees three factors that can moderate the effects of a tariff increase:

1. The relative purchase spend, or the amount a company spends on a product subject to tariffs. The more important and more expensive the product is, the more likely managers are to look quickly for alternative sources. For less important and less expensive products, they would be less willing to change supply chains.
2. Supply risk, or the odds that problems will arise when changing suppliers. Risk depends on the number of available suppliers, a supplier’s reliability and capacity, and whether switching suppliers would damage strategic relationships. For buyers of agricultural commodities, the risk of shifting purchases to another country is lower than it would be for buyers of consumer electronics who value their existing relationships with suppliers.
3. Geographic scope. If a tariff is aimed at one or a few countries, managers may easily find a supplier in an unaffected country. A widespread tariff, however, may make domestic suppliers more attractive despite their higher cost. The moderating factors would differ by industry, Wiedmer says, and could differ depending on a product’s complexity or a company’s size. Smaller companies may be more affected by tariffs than larger companies because small firms have fewer resources to spend on alternatives or less power to negotiate with suppliers.

The next step in Wiedmer’s tariff research is to look at the auto industry to see how tariffs affected its operational efficiency and what decisions helped mitigate the tariffs’ effects. The auto industry’s experience could lead to recommendations for how other firms can best deal with tariffs.

Wiedmer also points out that when managers spend time and money responding to impending tariffs, they are diverting resources that otherwise could be used for innovation, improving products, and improving supply chains.

“This paper is a lot about raising awareness of the complexity of tariffs,” he says. “It’s not only this percentage of product value to be paid. It’s much more what you signal to companies in the market. That’s the message to policymakers: If you talk tariffs, you need to be aware of what you are saying because these different dimensions of tariffs immediately trigger reactions. Purchasing managers start thinking about it, and once you have managers thinking about something, it’s a form of uncertainty, it’s a form of inefficiency.”

The bottom line

Wiedmer says the framework for looking at the severity and uncertainty of tariffs, and the varying response scenarios, holds these takeaways for stakeholders:

• Supply chain managers need to be aware of how to best respond to tariff signals. Instead of spending too few or too many resources on their responses, they should treat tariffs with low uncertainty differently than those with high uncertainty.
• Foreign suppliers can use the framework to gain insight into how their customers might react when tariffs are announced and to think of ways to mitigate a tariff’s effect.
• Domestic suppliers who hope that tariffs will bring them business need to analyze the true impact. In today’s highly specialized global economy, domestic firms should determine whether they can deliver what buyers need.
• Policymakers should talk about tariffs carefully because such talk could have unintended consequences. It makes supply chain managers assess the situation, think about what they can and should do, and potentially spend resources unnecessarily. Once a tariff is implemented, policymakers should realize that playing with the equilibrium of existing supply chains has far-reaching consequences. It likely will result in a less efficient supply chain that produces products that are more expensive, of lower quality, or are delivered more slowly.
• Consumers should realize that in the end, they are the ones who deal with a tariff’s effects. They ultimately will pay higher prices for goods, and if a tariff limits a company’s choice of suppliers, consumers may well experience product shortages or changes in product quality.