By Tracey Kuuskoski, Partner, Indirect Tax, Asia-Pacific Tax Center, Donald Thompson, Associate Partner, Indirect Tax, Asia-Pacific Tax Center, Mok Sze Xin, Senior Manager, Indirect Tax, Asia-Pacific Tax Center
Over the years, we have seen unforeseen events result in significant supply chain disruptions — many multinational corporations have diversified their global supply chain footprint to manage such risks. Risk management programs and supply chain resilience have become a critical element of supply chain planning. However, most supply chain risk management programs have been developed in a relatively benign global trade environment. Most, if not all, companies never envisioned a global trade environment that included Brexit and the current China-US trade actions as a reality. With the current political environment, planning around trade policy risks has become a C-suite agenda item.
The global trade environment is complex — while there are no Cold War-style trade embargoes, it is also not a barrier-free flat world where supply chains are friction-free. Protectionist trade measures — particularly tariffs — are increasing, a prime example being U.S. Section 301 tariffs with trade impact of US$250 billion. Yet trade cooperation continues with Free Trade Agreement (FTA) signings and ratification (EU-Japan FTA, EU-Singapore FTA, Comprehensive and Progressive Agreement for Trans-Pacific Partnership), sanctions lifting (US lifting Sudan sanctions after 20 years) and tariff reductions (US bill on 1,660 imported products).
In fact, the World Trade Organization (WTO) Director General’s midyear trade monitoring report for the period between October 2017 and May 2018 showed that WTO members implemented 75 new trade restrictive measures (US$85.4 billion) and 89 trade facilitative measures (US$107.3 billion).
Trade policies are not matters of pure whim from political parties, by one forceful leader, but extensions of industrial policies and economic interests. Unlikely to change in the near or midterm future, the myriad of different and sometimes seemingly contradictory measures that have formed as an outcome of these policies require careful handling. Designing a global supply chain that can adapt, learn and grow will become critical — being perceptive about the potential trade risks could lead to better winners or survivors instead of losers in the challenging market of today.
Trade policy based on industrial policy
The mishmash of liberal and conservative trade measures is understandable if we link them to the corresponding industrial policies. For example, Canada’s preparations for imported steel quotas while protesting US steel tariffs is explainable as the previous largest steel importer into the US is now faced not only with market access barriers but a likely surge of cheap steel imports also barred from the US.
President Trump’s tariffs on China cover mostly industrial goods encouraged by the “Made in China 2025” policy, but not consumer goods like smart watches and flat panel television sets. This is to minimize harm to US consumers while still imposing protection for industry competitors. Similarly but not as obvious, President Obama’s “Buy American” provisions in the 2009 US$787 billion stimulus package aimed to benefit local producers and jobs for selected growth industries, while pushing trade deals like the Trans-Pacific Partnership for market access.
As the world economy enjoys small but steady growth, there is still widespread government concern over tax revenue, government debts and unemployment. An interventionist trade policy more focused on tariffs (like the current US policy) could be useful in addressing both job and budget concerns, while trade deals like United States-Mexico-Canada Agreement expand export markets.
We are already seeing a domino effect with Indonesia, India and Pakistan increasing tariffs in the third quarter of 2018 while concurrently involved in FTA negotiations. In this environment, risks and opportunities abound. Proactive trade management by companies is crucial to avoid missing out on profit opportunities or realizing permanently cost disadvantages too late.
Trade disruptions require proactive management
The first crucial step is recognizing trade and tariff measures as an undeniable risk or opportunity in the supply chain and putting in mechanisms to monitor the impacts, whether positive or negative. Constant monitoring would afford supply chains the chance to react or recover quickly. If done before the rest of the market responds, this creates a first mover advantage.
The second step is to respond appropriately to the direct and indirect impacts from the measure. Direct impact responses are relatively straightforward and tend to be restricted only by the current business and operating model of the company. For example, if faced with US or China reactive tariffs, it is possible to mitigate the impacts through changing the operating model — shifting production and physical supply chain or financial supply chain changes like transfer pricing or first sale for export arrangements.
Indirect impacts can be damaging
Indirect impacts due to supplier disruption are less straightforward but should also be taken into account. The Australian1 points out that more than 10 Guangzhou quartz factories have closed due to US tariffs imposed in July, while others are moving to Southeast Asia. As a result, a business relying on Guangzhou quartz to manufacture kitchen countertops in Australia subsequently exported to Britain had to close down as well. If there had been elements of resilient supply chain present such as an alternative sourcing mechanism or negotiated supplier contracts factoring in costs or time delays of trade disruptions, the risk to the manufacturer could have been mitigated, if not reduced.
It is thus critical and important to conduct regular strategic reviews on the operating model and supply chain as a whole to identify potential opportunities and challenges. Supply chain resilience not only acts as a defensive and reactive tool but as a strategic offensive option. Companies applying operational model effectiveness or performance improvement methods can transform their supply chains and lift the business to a new level.
All the above steps require proactive trade planning and management to be embedded within the supply chain, something that is difficult and requires time and expense and may not show results instantly. However, in view of the progressively entangled web of conservative and liberal trade measures being installed in the global environment, the question for companies may increasingly be, “Can we afford not to?”