There's No Hiding From The China Trade War With These New Tariffs
A strong economy and low interest rates have kept President Donald Trump's trade war with China from deeply hurting commercial real estate, but the recent escalation may be too much to bear.
On May 10, Trump broke off trade negotiations with China and announced on Twitter that he will increase the tariffs imposed on $200B worth of imports from 10% to 25%. The products affected, which are in List 3 within Section 301 of the Trade Expansion Act of 1962, include hundreds of metal and chemical compounds used as raw manufacturing materials as well as finished goods like floor and wall panels, furniture and bedding.
The Section 301 tariffs specifically targeting China are separate from the Section 232 tariffs on raw steel and aluminum that apply to all U.S. trading partners except for Australia. Those remain in place without a built-in expiration date. The Chinese government has responded quickly with a tariff increase of its own on $60B worth of U.S. exports, signaling that both sides have dug in and made a swift resolution of trade negotiations highly unlikely.
American companies affected by the tariffs have so far tried to absorb their cost to avoid passing them on to customers as a short-term fix, but a 150% increase in those tariffs will make that impossible, said Nicole Bivens Collinson, Sandler, Travis & Rosenberg's president of international trade and government relations.
“Most of my clients are at the end of their rope, because they thought [the tariffs] would be resolved in January, then in March, and now they absolutely have to start passing on the costs," Bivens Collinson said. "Especially public companies, they can’t keep passing along those reports to shareholders.”
Companies that sell Chinese imports as retail products will likely be forced to give consumers a case of sticker shock, but for real estate, the issues with a sudden spike in costs could run even deeper. Deals that were underwritten without accounting for higher prices will be at serious risk.
"Banks are not going to have confidence that [developers] can sell the building or rent apartments at the price you now need to in order to make your money back," Bivens Collinson said. "And that has future implications for what a company can continue to do.”
The new rate will only apply to goods shipped from China after May 10 or arriving in the U.S. before June 1; after that the new rates will be locked in. Construction companies will see significantly higher prices on materials and may not be able to meet the terms of contracts signed with developers.
"Some huge companies building downtown skyscrapers, they will build up a lot of inventory from imports before the 10% becomes 25% on June 1," Bivens Collinson said. “Small, local construction companies are not going to be able to do that because they don’t have the capital, so their construction costs would [spike].”
Most commercial construction is financed in large part by debt, meaning the industry is propped up by promises to pay back costs. It is too early to tell just where those promises will be broken if the tariffs aren't repealed soon, Bivens Collinson said, but at least some projects will likely fail as a result. Underwriting for future deals will be seriously challenged.
“Everyone wants to see a strong U.S. economy, and what everyone wants is predictability and stability, and we’re not getting that," Coalition of American Metal Manufacturers and Users spokesman Paul Nathanson said. "With all the aggressive rhetoric and actual tariff increases, you can’t make a long-term plan."
The impact will be felt on every level of construction, no matter how minor. While ground-up construction that requires steel and aluminum in addition to industrial compounds will be hit by both Section 301 and 232 tariffs, the most basic remodeling jobs also face issues beyond Section 301.
As the conflict between the U.S. and China increases in complexity, American companies have been raising accusations that China is allowing dumping and providing subsidies that undercut the price of quartz, the current gold standard of countertop material.
As the Department of Commerce and the International Trade Commission investigate those claims, quartz duties could go up as much as 300%. Those duties would be refunded if the investigations find no wrongdoing, but the money is coming out of wallets right now.
“It’s just inevitable that consumers are going to feel that, or people are going to turn to other stones," Nathanson said, adding that the effect would be more direct than what has been seen so far with the raw steel and aluminum tariffs.
Few hold out hope for a quick resolution to the quartz conflict, a situation made worse by the fact that the U.S. is trying to increase the scope of its investigations (and the associated punitive duties) to cover more products, Bivens Collinson said. Materials as varied as granite and glass could be affected, reducing the number of potential cost-saving alternatives.
“When we heard about [the attempts to broaden the scope of the investigation], we thought, ‘This is outrageous and getting out of control,’ because they’re trying to cover everything that could possibly be used to cover a counter,” Bivens Collinson said.
When Section 301 tariffs were at 10%, the National Association of Home Builders estimated that the additional costs for single-family construction and renovation alone would total $1B, and found that most contractors saw increased prices from vendors and smaller job requests from consumers, CNBC reports. A $2.5B increase would translate to 7% to 8% increases on new home prices, according to the NAHB.
Even though Chinese diplomats remain in Washington, D.C., to keep trade talks going, the actions and stances of both Trump and Chinese President Xi Jinping reflect a reluctance to compromise and a willingness to escalate. All the while, the effects are multiplying for real estate.
As the number of affected industries stands to grow from the new tariffs, along with Chinese retaliations that have specifically targeted Trump's base (agriculture and manufacturing in Middle America and the South), many are hoping that growing backlash will make keeping the tariffs long term politically untenable.
“People were willing to give the president the benefit of the doubt to use [tariffs] as a negotiation tactic in the first few months, but now pressure is being mounted to lift them as quickly as possible,” Nathanson said. "Ultimately, the decision comes down to one person."
Tweeting that there is "absolutely no rush" to complete a deal, Trump also announced plans to add a 25% tariff on all remaining Chinese imports not covered in List 3 at an undefined later date.
The affected industries are virtually unanimous in opposition to tariffs, according to Nathanson and Bivens Collinson. The Section 232 tariffs have already wiped away whatever benefits the members of the Coalition of American Metal Manufacturers and Users saw from Trump's Tax Cuts and Jobs Act of late 2017, Nathanson said.
"There’s a reason why we went away from tariffs in the 1930s — it’s because it doesn’t work," Nathanson said.
Despite the public opposition, Trump remains unshakable in his belief that tariffs will be an effective negotiation tactic and benefit the economy.
Tariffs will make our Country MUCH STRONGER, not weaker. Just sit back and watch! In the meantime, China should not renegotiate deals with the U.S. at the last minute. This is not the Obama Administration, or the Administration of Sleepy Joe, who let China get away with “murder!”
— Donald J. Trump (@realDonaldTrump) May 10, 2019
Though Senate Republicans say they have made progress on legislation that would eliminate the conditions that precipitated the Section 232 tariffs, that same group has backed Trump's China plan. If that plan doesn't change soon, there is no telling just how widely the effects might be felt — but they will certainly be felt deeply.
“If you combine the impact of all the different tariffs, it will do absolutely huge damage to construction,” Bivens Collinson said.
