Seeking Alpha

Who Remits Vs. Who Pays For Tariffs Are Not One And The Same

|
Includes: DDM, DIA, DOG, DXD, EEH, EPS, EQL, FEX, HUSV, IVV, IWL, IWM, JHML, JKD, OTPIX, PSQ, QID, QLD, QQEW, QQQ, QQQE, QQXT, RSP, RWM, RYARX, RYRSX, SCAP, SCHX, SDOW, SDS, SH, SMLL, SPDN, SPLX, SPUU, SPXE, SPXL, SPXN, SPXS, SPXT, SPXU, SPXV, SPY, SQQQ, SRTY, SSO, SYE, TGT, TNA, TQQQ, TWM, TZA, UDOW, UDPIX, UPRO, URTY, UWM, VFINX, VOO, VTWO, VV, WMT, XRT
by: The Balance of Trade
Summary

In the US, many individuals, news sources, and even financial platforms claim that it is Americans who bear the expense of tariffs.

There is some truth here, but it flies in the face of historical narratives as well as game theoretic responses today.

Tax incidence theory suggests that, if properly assessed, the initial impact of the tariff should be borne in large part by the Chinese producer.

Source: Mohammed El-Erian Tweet

As the week draws to a close (visual above just after the NFP report), the major driver of US equities (SPY, DIA, QQQ, IWM) has been the new cozy tone between the US and China, and the hopes that October will yield some forward movement in ongoing discussions. Hu Xijin, editor-in-chief of the Global Times, tweeted on Thursday morning:

According to CNBC, Xijin has been prescient in making calls on the state of negotiations. Markets sure liked what they heard.

As I Read The Headlines Though...

One point of interest to me is the question of who pays the tariffs that have recently been levied by each of these two nations.

I read a perspective piece from E-Trade that briefly addresses the history of tariffs, and then goes on to discuss the mechanics of remittance for the tax.

I'll cut through some of the worthwhile portions of the piece to drive to the mechanics laid out:

  1. Importers pay the tax upfront
  2. Importers then mark up prices
  3. US businesses pass on added costs to US consumers

At what point in the process do Chinese firms pay the tax, asks the author... never.

Reuters had a similar article out with differing particulars. It mentions that the core mechanics of who remits the tariff tax is similar in China as it is in the US.

I have seen many number of reader comments in trade-related articles here on SA, and it's time to clear up a major distinction between tax remittance vs. tax incidence.

Who Pays These Darn Tariffs?

Tax remittance is a simple legal imperative: some governing body directs orders to who needs to write the checks to Treasury, when, and for how much. Usually the legislators are most interested in the cleanest, fastest way to collect the tax.

Both the aforementioned E-Trade and Reuters pieces describe the remittance process for these tariffs. In most countries, including the US and China, it is simply easier to collect the tax from the importer as opposed to from the exporter. The result is that the importer writes the check.

There is truth to the statement that, along the way to the consumer, portions of the tax will result in a marked-up process, essentially as though the Treasury had inserted itself as a new and unwanted part of the supply chain. But now we want to get to the meat of the issue: Who actually pays the tax?

Tax Incidence

Tax incidence, however, speaks to who bears the economic burden of the newly taxed transaction. Here's "famous" YouTube MicroEcon teacher Jacob Clifford on the topic:

At least in theory, it doesn't (or at least shouldn't) matter at all who actually remits the tax in determining who bears the burden. After all, remittance just boils down to the party from which the government perceives it easiest to collect.

Incidence on the other hand gets down to who actually feels the sting of the tariff. In this case, the question becomes harder to answer.

Candidates For Pain

Any member of the supply chain is eligible for the dubious distinction of bearing the extra cost of the tariff. That goes from the Chinese manufacturer up through the US merchandiser (for example, WMT or TGT; the retail industry - XRT - has lobbied hard against the tariff tactic).

Any intermediaries along the way, including shippers, providers of credit, etc. can find themselves in the crosshairs as supply and demand accommodates the new cost.

Naturally, the end user (the consumer) may also be called upon to pay a portion of the tally. To the extent that the consumer does pay more, the E-Trade and Reuters pieces are correct. But the consumer can also forego the purchase, or buy either a close substitute (i.e. a similar bobble made in Vietnam) or perhaps a more distant substitute (US consumer buying her kids an ice cream cone instead of a toy).

So, Well, Who Is Paying?

It really depends on whom you ask. Academics take the view that tariffs are bad, because they distort the flow of trade and hamper comparative advantage. Ideologically, this group is quite likely to assert that US consumers and corporations will bear the brunt, because it argues toward their own ends of de-escalating the cycle.

Lobbying and PR groups such as "Tariffs Hurt the Heartland" will publish their own findings, and the name itself suggests in advance what the nature of those studies will be. Remember that the US portion of the supply chain will receive some of the impact of the new tax precisely because they will likely not pass the full cost onto the consumer, resulting in reduced margins for the reseller.

Then there is the other side of this ideological struggle. The President would insist that "China", mainly Chinese exporters presumably, in ways large and small must find ways to reduce costs so that the after-tariff cost is similar to what the pre-tariff cost used to be. There is some evidence that such tactics are effective. Here's a headline from September 6th from the South China Morning Post:

Because the governments of both the US and China are the ones assessing the tariffs, one might hope that they are doing so in such a way as to minimize pain to their own businesses and consumers, and to conversely maximize pain to the groups across the pond. These are, after all, weapons of a sort.

Conclusion

One of the most important "pillars" within the concept of Tax Incidence is "Who Cares Who Pays?" Another words, it doesn't much matter who remits the tax. Much of tax incidence focuses on relative elasticities of the buyer vs. the seller. That is, comparatively speaking, how much does the buyer need to buy this particular product vs. how badly does the seller need to sell.

In the political echo chambers we live in today, it's increasingly difficult to get impartial results: everyone has an agenda.

Broadly speaking though, the alert reader will want to absorb news from each side of the ideological divide in making his or her own mind on the topic.

My overarching goal in writing this piece is not to convince you as a reader who actually is paying the tax (almost certainly this is a very complicated answer, and a moving target at that), but to alert you to this important distinction between remittance vs. incidence so that you can assess the matter with greater clarity and flexibility. That said I certainly welcome your thoughts as to how effective the tariffs are as a negotiating tool, and which parties you believe are economically paying the tax.

Thank you for reading. Please consider following.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.