Tariffs increase the cost of doing business overseas by making those goods more expensive to import. The Trump administration’s logic was that tariffs would hurt U.S. and other multinational corporations engaged in U.S.-China trade — and push more companies to divest from China and shift supply chains to the United States. Tariff proponents argued the Chinese economy would suffer, giving U.S. negotiators more leverage over China at the negotiating table.
In fact, these tariffs resulted in collateral damage to the U.S. economy without pressuring China to change its economic policies. Here’s why.
The U.S. hoped to see multinationals walk away from China
In a recent working paper, we built a new data set on foreign-invested enterprises registered in China to identify multinationals that choose to divest each year.
We found that new U.S. tariffs in 2018 and 2019 had a minimal effect on divestment. More than 1,800 U.S.-funded subsidiaries closed in the first year of the trade war, a 46 percent increase over the previous year. U.S. company exits immediately after the onset of the trade war were not concentrated in manufacturing or information technology, two sectors most directly affected by the trade war.
We estimate that less than 1 percent of the increase in U.S. firm exits during this period was due to U.S. tariffs. And U.S. firms were no more likely to divest than firms from Europe or Asia. Instead, company exits were driven more by the company’s capacity to mitigate political risk. Larger and older multinational were significantly less likely to exit China after the onset of the trade war.
These findings may surprise politicians, but are fully in line with recent research explaining how tariffs pass through to U.S. consumers. Rather than leaving China or finding alternative suppliers, U.S. firms simply raised prices for their customers. Survey data show large U.S. businesses remain optimistic about the Chinese market and plan to increase their investments there. Most of these firms are already “In China, for China” — those that are exposed to tariffs are taking advantage of workarounds such as the first sale rule or passing on costs to suppliers.
Tariffs provided little leverage — for either country
If U.S. multinationals aren’t rushing to exit China, are they pressuring the U.S. government for tariff relief, as the Chinese government hoped? Many analysts believed the U.S. business community would push back, and stop the trade war from escalating. We investigated the political behavior of a sample of 500 large U.S. multinationals with subsidiaries in China to see if they engaged in political activities such as commenting, testifying or lobbying in opposition to the U.S. Section 301 tariffs.
We found that most U.S. companies adopted an apolitical strategy. They didn’t exit China, but also didn’t put public pressure on Washington to roll back the tariffs. Even though 63 percent of U.S. multinationals in our sample were adversely impacted by the trade war, only 22 percent chose to voice opposition and 7 percent chose to exit China. The majority (65 percent) did neither.
Many of the multinationals we coded as “voicing opposition” did so through associations such as the US-China Business Council rather than under their own name. An even larger number unsuccessfully lobbied for tariff exclusion for specific products, rather than a more general rollback of Section 301 tariffs.
Smaller businesses saw greater collateral damage
Our findings suggest that U.S. companies aren’t divesting from China as much as U.S. policymakers would like — or pushing back against tariffs as much as Chinese policymakers had hoped. Instead, large companies responded to the increased cost of business by passing the cost of tariffs on to their customers. And individual consumers in the United States paid higher prices for imports from China.
Smaller companies and those newer to China were more likely to exit. Firms with older and larger subsidiaries in China face higher sunk costs from leaving China altogether, which makes them more likely to continue China operations.
This finding parallels reports about small businesses in the United States who were unable to find alternative suppliers or afford expensive lobbyists during the trade war. The higher tariffs on raw materials imported from China made it tougher for some small businesses, particularly if they lacked the leverage to pass these costs on to customers or the resources to mitigate them.
Would other trade tools work?
Despite intensifying political hostility between Beijing and Washington and the mounting economic cost of tariffs, Chinese and U.S. businesses remain deeply integrated in terms of financial, knowledge and production networks. And despite the trade war, foreign investment inflows into China grew by 4.5 percent from 2019 — and hit a record $144.37 billion in 2020. There’s little sign that U.S. multinationals have embraced the idea of decoupling from China.
While U.S. Trade Representative Katherine Tai justified the Biden administration’s hesitancy to remove tariffs on the grounds that tariffs provide leverage against China, our research demonstrates that U.S. tariffs haven’t produced the intended results. Instead, multinationals continue to navigate the uncertain U.S.-China relationship and related political risks. Smaller firms, in particular, may find it difficult to absorb the costs generated by the trade war.
The lack of U.S. leverage resulting from the trade war may dispel the notion that tariffs are “tough on China” and may help focus the policy debate on the harm to U.S. consumers from tariffs that remain in place. The Biden administration has at its disposal an array of alternative tools besides tariffs for economic competition with China that may result in less collateral damage on the U.S. economy.
After all, economic coercion can be a double-edged sword: These tools tend to inflict collateral damage on one’s economy while hurting that of the target, but tariffs are the bluntest tool of all.
Samantha A. Vortherms (@s_vortherms) is an assistant professor of political science at the University of California at Irvine, with a research focus on comparative political economy, development and social welfare. Her current book project, “Manipulating Citizenship in China,” examines the relationship between economic development and access to citizenship rights in China.