Yesterday, Donald Trump built a time machine and zapped US trade policy several decades into the past. And markets around the world shuddered.
Over the last thirty years, the US government has pursued a consistent policy of open borders. The policy has centered on the belief that open trade allows US business to expand into international markets, thereby boosting profits. It also helps to bring cheaper products, better jobs and more prosperity to the US.
And over the last 30 years, business took advantage of these new open markets. They began to move their operations to countries where processes and materials are more cost effective and efficient. As a result, US businesses boomed, helping the US economy to expand substantially.
Which brings us to the problem of free trade. Because business can choose to make their product in any market they wish, there will inevitably be people in the US who get left behind. And this has happened to many people, especially those employed in lower skill manufacturing jobs. In fact, the number of people employed in manufacturing in the US is now at the level it was in 1941.
So what does Trump’s action mean? Well first of all, this should be a benefit to US steel and aluminum manufacturers. There is now a 10% to 25% tax on their competition. So primary manufacturers are applauding this move.
But if you follow the money, there will be a lot of losers in this deal.
Because the US is not self sufficient in aluminum or steel production, users of those inputs will need to pay substantially higher prices for the steel and aluminum they import. And these are big industries. The size of the market that uses steel, for example, is estimated to be 80 times larger than the market that makes the steel.
The higher cost of steel and aluminum will get passed down the chain, making US products like cars, electronics and airplanes more expensive.
This will mean that you and I will probably pay more for the goods we buy. It will also make US products more expensive and less competitive in international markets.
But the big worry is about what could come after this. Countries rarely sit idly by as tariffs punish their industries. Canada for one could be substantially impacted by these tariffs. And most critically, this is happening at a moment that the North American Free Trade Agreement (NAFTA) is being renegotiated. A collapse in this deal would be disastrous. Thousands of businesses have built themselves around the logistics of this 30 year old deal. Any unexpected change would throw their businesses into turmoil.
So what does this mean to you as an investor? Should NAFTA fall apart – it would be disastrous for the market. It wont just hurt manufacturers like Ford ($F) and Boeing ($BA). It will most likely impact companies across all sectors, even high flyers like Facebook ($FB) and Amazon ($AMZN).
There has been so much growth in the market recently, and it’s easy to be thrilled with seeing your numbers go up week in, week out. But remember, investing is a lifelong journey – and there will be bumps in the road.
So beware of the lit match that is hovering over the fuel filled market. Trade wars and the collapse of trade agreements were not on the market’s radar just a few days ago. These have the potential to knock the wind out of the market. So beware of this potential danger as you look back into the future.