The WSJ Editorial Board Schools President-Elect Trump On International Trade And Global Car Economics 101

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In response to the President-Elect's recent Twitter assaults on auto companies, the Wall Street Journal's editorial board did a great take-down of Trump's embarrassing lack of understanding of how the US and global vehicle markets work in the Saturday paper. Here's the opening of the WSJ editorial "Trump's Auto Bluster":

Does Donald Trump understand business? Real estate, no doubt, and branding, sure. But the President-elect's Twitter assaults on auto companies make us wonder if he understands cross-border supply chains, relative business costs, regulatory mandates, or anything else about building and selling modern cars and trucks. Mr. Trump flew off his Twitter handle again Tuesday, accusing General Motors of "sending Mexican made model of Chevy Cruze to U.S. car dealers-tax free across border." He ordered GM to make the Cruze "in U.S.A. or pay big border tax!" Allow us to fill out this story with a few business facts.

The WSJ then schools the president-elect on global car economics 101 (emphasis mine):

1. Declining small car sales, historically high truck sales, 85% wage differences, and rising EPA fuel economy mandates 101.

The day after Mr. Trump won the election, GM said it will lay off 1,250 employees at a Lordstown, Ohio, factory where the Cruze sedan is manufactured. U.S. deliveries of the Cruze declined 16.6% last year amid a broader consumer shift driven by lower gas prices to buying trucks rather than small passenger cars. Trucks and SUVs made up 60% of U.S. vehicle sales last year, up four percentage points from 2015 (see chart above). As Glenn Johnson, the local United Auto Workers president in Lordstown, explained, "It's supply and demand, and right now the demand is not there for what we have."

GM points out that all Chevrolet Cruze sedans sold in the U.S. are still built in Lordstown. In Mexico GM builds Cruze hatchbacks that are mainly sold elsewhere around the world. Only 2% of Cruzes sold in the U.S. last year were assembled in Mexico. It's true that auto makers have shifted production of small cars to Mexico, where wages are about 85% lower than in the U.S. But small cars aren't profitable to make in the U.S., though they are necessary to meet the Obama Administration's increasingly onerous fuel-economy mandates.

2. Wages, Low-Margin Small Cars, High-Margin Trucks and Free-Trade Deals.

Some brave soul should also tell Mr. Trump that auto makers have moved production in Mexico because of its free-trade deals that provide better access to global markets. Mexico has 10 trade deals with 45 countries including the European Union and Brazil, which make up half of the global car market. The U.S. has 14 agreements with a mere 20 countries. Nearly 15% of the cars produced in Mexico are destined for Europe and Latin America, where they often face lower tariffs than do cars exported from the U.S. Lower tariffs on exports exceed labor savings on Mexican-made cars by four times.

Yet even with all of these cost advantages, only 18% of U.S. auto makers' North American vehicle production is in Mexico. U.S. companies continue to make most of their higher-margin trucks and SUVs in the U.S. as labor is a smaller share of the gross margins and production costs for large vehicles. Manufacturing heavier vehicles near their main market also cuts transportation costs.

Although Donald Trump apparently never saw a free trade agreement he likes, he might want to study the FTAs that have apparently given Mexico lower-cost access to Europe than the US.

3. More on Declining Small Car Sales in the US and American Content in Mexican Cars.

Yet Ford is still planning to move production of its Focus and other small cars to Mexico. The only change is that the Focus will now be made at an existing plant in Hermosillo, Mexico. U.S. sales of the Focus declined 16.6% last year in line with a 13% reduction in Ford's small car sales. This has muted the need for additional plant capacity in Mexico. But this is nothing to celebrate: A fall-off in Mexican production could hurt American auto suppliers that furnish 40% of the parts for cars exported to the U.S.

I pointed out a few days ago on CD that every $100 of goods we import from Mexico contains $40 of American goods that were exported to Mexico and are embedded within the products, like cars, that return to the US as imports. By penalizing imports from Mexico with punitive tariffs as the President-Elect threatens to do, he would be hurting US exporters (suppliers) and their employees, as well as raising tariffs taxes on American consumers.

4. The WSJ's Conclusion.

Mr. Trump seems to think he can conjure job growth by beating up business. But to the extent he cows CEOs into making non-economic decisions, he'll be helping their Korean, Japanese and German competitors. Now that he's about to become President, Mr. Trump will have a tough enough job trying to make America an easier and less costly place to work and invest. He'll embarrass himself less if he leaves investment decisions to CEOs who understand their businesses.

I recently paraphrased Milton Friedman by observing that "trade protectionism is a monument to the power of superficial thinking." It's superficial and short-sighted because it ignores the complexities and dynamics of world markets and global supply chains, and ignores all of the unseen, delayed and hidden costs of trade protectionism that would make America weak again, not great again.

We're hearing a lot of superficial thinking lately about trade, international business, trade policy, and protectionism from the President-Elect. Kudos to the WSJ for attempting to elevate Donald Trump's understanding of global business and international trade by schooling him on global car economics 101.

It's also important to remember, despite what the President-Elect might think, that the goal of US automakers is not, and should not be, to maximize the number of US jobs. Rather it's the extremely challenging goal of remaining profitable as automakers like Ford (NYSE:F) and GM navigate a tough and changing global environment of shifting consumer demand for vehicles, regulatory burdens, fuel economy mandates, intense global competition, thin profit margins, volatile oil prices, labor and production costs, global supply chains, etc.

To remain profitable in that intensely competitive market is a constant challenge on many different dimensions, and the auto companies could easily do without Twitter assaults and threats from Donald Trump.